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Fund X Invests $270 Million in Dentistry Disrupter

Hillhouse Affilliate, Kleiner Perkins and Spark Capital Join CD&R in Financing Round for SmileDirectClub, a Fast-Growing, Direct-to-Consumer Orthodontics Healthcare Platform

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Wednesday, October 10, 2018
Wednesday, October 10, 2018

Clayton, Dubilier & Rice (“CD&R” or the “Firm”) announced an agreement under which CD&R Fund X and affiliates (“Fund X”) will invest $270 million to lead a $380 million equity financing in SmileDirectClub (“SDC” or the “Company”), a disruptive direct-to-consumer (“DTC”) business that delivers custom-fitted invisible aligner orthodontics directly to patients without requiring visits to a dentist/orthodontist office. SDC’s business model has opened up a sizable underpenetrated market by positioning orthodontics not only as a clinical/medical solution, but also as a health and beauty category with an accessible price point and better customer experience. As a result, the Company has grown rapidly with strong customer advocacy, and is raising capital to support expansion initiatives, including extending its national footprint, scaling manufacturing operations and general working capital needs.

SDC management/founders selected CD&R to lead the financing, which is the first outside capital funded into the business by an investment firm. The choice of CD&R was based on the Firm’s specialized dental, retail, direct-to-consumer and international expertise, as well as a track record of scaling emerging, entrepreneurial enterprises, such as Fund IX’s investment in Vets First Choice (“VFC”). VFC is expected to complete a merger with Henry Schein’s Animal Health business before year-end, creating a $3 billion in sales, publicly-traded company.

The SDC investment naturally extends CD&R’s healthcare portfolio by leveraging the Firm’s existing investment in a closely-related dental imaging and technology business, Carestream Dental, and CD&R’s relationship with China-based CareCapital, the dental-focused private equity rm a liated with Hillhouse Capital, which partnered with CD&R on the Carestream Dental investment. CareCapital is participating in the proposed SDC nancing along with Kleiner Perkins and Spark Capital.

Company Profile
SmileDirectClub is a fast-growing DTC business that helps people straighten their teeth and improve their smiles without going into an orthodontist’s office. The Company develops and delivers at-home teeth straightening systems offering invisible aligners that are designed for minor to moderate teeth correction, including space between teeth, crowding, rotations and modest bite corrections.

SDC’s innovative concept seeks to address the large market for treatment of malocclusions, or misaligned teeth, and offers a cosmetic option for a patient population that would not otherwise consider traditional, and significantly more expensive, orthodontic treatments. The Company’s attractive value proposition offers a significantly lower cost to patients (<$2,000 or $80 per month for 24 months versus $5,000-$8,000 for traditional orthodontics), a shorter treatment time frame and less customer friction (office visits, aesthetics and discomfort of treatment). Through the use of teledentistry with state-licensed dentists approving all SDC patient treatment plans, the Company’s services are increasing access to geographic areas in the U.S. and globally where traditional orthodontic teeth straightening care is unavailable. For example, about 60% of the counties in the U.S. do not have an orthodontist, according to data from the Department of Health and Human Services. SDC has customers in 70% of those counties.

Although SDC can address many of the same clinical cases currently served by the ortho-dontist market, the use of a DTC model to address the aesthetics of alignment and a more cosmetic fix has resulted in the formation of the consumer market for invisible aligners, primarily expanding the total addressable market size versus taking share from the professional channel. SDC has grown quickly by recognizing first mover advantages built through a vertically integrated supply chain, access to manufacturing capacity, customer-specific application designs, scale in customer acquisition, a unique DTC channel strategy, a growing brand presence and an attractive combination of price, efficiency and customer experience.

Based in Nashville, Tennessee, SDC was launched in 2014 and currently is operating at a revenue run-rate of approximately $450 million (June 2018), 255,000 cases, 105 SmileShop locations and nearly 2.5 million website views per month. The Company has approximately 2,500 employees and is vertically integrated with in-house capabilities and resources, including customer acquisition, tooth impressions, case design, nancing, manufacturing and fulfillment.

How It Works

  1. Patient registers through SDC website or mobile app and provides background on their tooth alignment issues, dental history and treatment objectives
  2. Patient provides impressions of teeth/gum lines by either (1) booking an appointment to receive a 3D intraoral scan at an SDC SmileShop (~70% of patients), or (2) receiving a mail-based impression kit at their home that they bite into and return to SDC (~30% of patients)
  3. A customized treatment plan is created for each patient by SDC and its affiliated state-licensed dentists and orthodontists—patient can review 3D models of the “before” and “after” prior to signing up to receive aligners
  4. SDC manufacturers a full set of weekly aligners for the treatment course and ships to the patient’s home (process involves 3D printing molds of the patient’s teeth through the various stages of tooth movement as prescribed by the treatment plan, and then thermoforming material over the 3D molds to produce the customized aligners)
  5. Patient regularly submits pictures via web/mobile app for review by SDC affiliated orthodontist throughout treatment process
  6. When treatment concludes, patient can purchase retainers from SDC to ensure results sustain over time

Transaction Highlights

  • Pre-Money Valuation: $3.0 billion
  • Total Equity Round: $380 million
  • CD&R Fund X Investment: $270 million (~8% PF ownership)
  • Security: Preferred Equity
  • Dividends: 12.5% per annum (impacts Liquidation Preference only)
  • Governance: CD&R will hold one of the company’s six board seats and have one observer seat
  • Shareholder Rights: Customary consent, information, pre-emptive, drag along and tag along rights

Investment Attractions

  • Significant market opportunity with more than 50% of U.S. population having an untreated malocclusion. Business model transforms the addressable market for orthodontics by providing a low-price/~six-month aesthetic-oriented solution for consumers that sits between the current options of non-treatment and high-cost, time-intensive regimes. SDC has had strong success across a wide range of age groups, demographics and case types providing a substantially large addressable market.
  • First-mover advantage with a multi-year head start to competitors. SDC is the only scaled DTC orthodontics platform and has leveraged its early scale to invest in the brand and to achieve full vertical integration, which is critical to the business model and customer experience. SDC has a sophisticated front-end, fulfillment operation (SmileShop footprint, lab operations for mail kits), treatment planning capability (software and 700+ technicians), teledentistry platform and manufacturing operation. Each of these functions has been built and iterated through 250K patient treatments providing for a differentiated platform.
  • Established and growing brand with strong customer advocacy. The business exhibits favorable net promoter scores, increasing new customers generated through prior SDC patient referrals, and is creating real brand awareness. In addition to high satisfaction, SDC’s business model is closely aligned with current technology, social behaviors and how consumers want to engage with products and services (including the ongoing consumerization of healthcare).
  • Best-in-class management team with strong track record in DTC. Sophisticated and accomplished team, led by CEO David Katzman, that has built and operated multiple
  • DTC platforms (e.g., Quicken Loans and 1-800 Contacts). Execution to date (and at prior companies) has been very strong, and the core team has done an impressive job building the organization by recruiting highly experienced functional talent and establishing an exciting, high-performance culture.
  • Value-added investor group selected for ability to impact the business. Collective portfolio includes Carestream Dental, Angel Align (2nd largest aligner company globally/ leader in China) and OrthoCaps (high-end aligner company with leading technology), each of which are natural collaborators/potential suppliers with SDC. CD&R and CareCapital also provide significant expertise and connectivity to help with SDC’s international aspirations and in scaling the business.
  • Partnership and structured investment with attractive exit profile. Partnership deal with strong management team and CareCapital, who has differentiated insight into the clear aligner space. CD&R benefits from a structured security with a 12.5% preferred return in a downside scenario and redemption rights after 6 years. Multiple avenues for exit via public markets (with potential for IPO in next 12–18 months) given rapid growth and substantial addressable market or sale to strategic acquirer in the consumer products, pharma or medical device end markets.