NHS orthodontic contracts have long been a contentious issue for many when assessing the goodwill of their practices. After regulatory changes some years ago, contract lengths could vary by several years from county to county, resulting in highly variable goodwill, which is not always in the control of vendors. It is likely a topic we will continue to revisit due to the significant impact it has had on valuations and the sales market in many regions of the UK.
Contract length and goodwill
After the 2017 announcement by NHS England that there would be a nationwide procurement process to award new contracts to those about to expire, goodwill plummeted for many, with contracts as short as five to six years rolled out. Contracts for practices in London and the Southeast bucked that trend, with seven-year contracts awarded, including an option to renew for a further three years. There was an immediate positive effect on goodwill for orthodontic practices in these areas.
It came as welcome news to those in Hertfordshire and Essex when it was announced that 10-year NHS contracts in the orthodontic sector were to be rolled out from June 2024, and many in the industry have been watching how the market has responded to the change with keen interest.
In the time following the introduction of longer contracts, how has goodwill been affected, and would orthodontic practices in the remaining counties in the UK benefit from the same offer?
The impact on risk perception
The impact on the dental market in Hertfordshire and Essex has already been significant. Much of this can be attributed to the changes to perceived risk.
For example, a practice in this region with £2m turnover with a short duration remaining on their contract recently resulted in a maximum valuation of £500k. With luck, a three-year extension might have added about 30 per cent – perhaps from a corporate or a group who could afford to manage the risks associated with not having renewal guaranteed after that time.
Since the announcement, this scenario has been flipped on its head. With a 10-year contract, the same orthodontic practice is on track to be worth £3.8m. In a sale, it can expect 70 per cent up front on completion, deferring the remaining 30 per cent. The gain based on the improved goodwill is substantial.
Renewed vigour
There is evidence that the added security of just a few years to orthodontic contracts has energised the market. In the time since the announcement was made, many other practices have received healthy offers. While the longer contracts only affect Hertfordshire and Essex at the moment, the expectation is that the success of the scheme in these two counties will work for the remainder of the country long-term.
Short contracts resulted in many buyers – particularly individuals – being excluded from the orthodontic market. An owner-occupier loan against an orthodontic practice might well have a 10-to-15-year duration. It simply doesn’t add up to a buyer or lender to undertake the risk based on a three-to-four-year contract.
A lot of orthodontists are keen to see improvements to contract duration rolled out further to support the owner-operator market. This would enable them to access practices – particularly the larger orthodontic practices – which at the moment are predominantly bought by the groups.
Managing risk
An orthodontic practice may well have a fresh 10-year contract, but by the time a sale gets to completion, that duration is reduced by a year. A bank will take a view on a nine-year contract – but there’s essentially a lot of road ahead. They can at least be satisfied that there will be consistent income for the remaining nine years. If that was flipped on its head, with say two or three years left, that’s a less favourable risk as the income is not guaranteed for long enough.
Keeping a keen professional eye on the dental mergers and acquisitions market for the past 15 years, Dental Elite offers personalised guidance, support and advice to all its clients to enable the best possible outcome on every sale. Dental Elite benefits from decades of collective specialist dental market knowledge and experience to assist buyers and vendors navigate their way through the complexities of a sale or purchase, from the initial consultation stage through to completion.
In terms of whether the orthodontic market is moving again due to longer contracts, the short answer is, yes. Ten-year contracts offered in Essex and Hertfordshire have already made a significant difference and demonstrated a renewed interest in the orthodontics market. Unfortunately, only two counties in the UK are currently affected, but there is good reason to think this will change over the coming months.
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