Frequently when a doctor sells his practice, it’s only human nature that he feels he should have held out for more money. Conversely, the buyer, after the transaction, wonders if she paid too much. Though price is certainly an important consideration for both seller and buyer, the terms of the sale can be equally vital — particularly if the seller is extending financing to cover a portion of the sale.
A seller can contribute to his or her financial well-being by extending financing terms to the buyer that enable the buyer to devote maximum energy to production, as opposed to finances. A great sales price at bad terms could have a more detrimental effect on a practice’s cash flow than a lower sales price at good terms.
What the seller and buyer, and their advisors, must realize is that the parties need not be adversaries. The seller and buyer have common goals that may not be attained without mutual cooperation.
Same Price, Different Outcomes
A case in point is that of a general practice in San Jose, Calif., that sold for $230,000 to Dr. S. While the doctor is on budget and will meet his production business plan, he is “barely getting by.” A similar practice in Atlanta sells for the same price, but the buyer, Dr. A., is on target for her business plan. What could possibly impact the profitability of these two seemingly identical practices to such a great extent, especially since both sellers financed $150,000 of the sales price?
The answer: With the practice in San Jose, the seller required repayment of his loan over only 48 months at a relatively high interest rate, while the seller of the Atlanta practice offered much more generous terms, including a three-month no-payment period after the sale, a lower-than-prime interest rate, and a repayment of 10 years.
As a result, Dr. A in Atlanta paid approximately $18,000 less for debt service in her first six months of operation, and $32,000 less in her first 12 months. Admittedly, Dr. A will pay more interest over the life of the entire loan, but she has established a solid financial foundation for her practice and can focus her attention on continuing to build her practice. In San Jose, the increasing pressure to meet financial obligations is affecting the amount of time Dr. S can see patients, thereby reducing his production and profitability.
Now residing in sunny West Palm Beach, Fla., the seller of the Atlanta practice received regular payments from Dr. A, and he is gratified to know both his former patients and practice are in good hands. He has ensured the comfort of his retirement by providing for the success of Dr. A. In San Jose, however, the seller is faced with the possible prospect of going back to salvage his practice and assist Dr. S, who may not be able to meet the burden of his patients.
Win-Win Situation
In practice transfers, only in a “win-win” situation will the buyer and seller realize their objectives, and most importantly, will the patients continue to benefit from a stable practice environment and the best possible quality of care.
Following are some of the areas both buyer and seller should consider when transferring a practice:
- The seller must do everything possible up to the time of transfer to ensure that the practice maximizes its value as a marketable, transferable asset. The prices and terms of the transfer should ensure that the buyer earns a respectable salary and pays the debt service of the buyout.
- Often a buyer is not in a position to pay the full purchase price at the time of the transfer. Many buyers are recent graduates with minimal assets and substantial student loans. However, a buyer should be able and willing to place a reasonable deposit to signify good faith, perhaps 5% to 10% of the purchase price. Lenders will often finance a portion of the purchase price, but the seller should be willing to finance any balance if he or she expects the transfer to take place. The portion of the purchase price financed by the seller should be signified by the buyer signing a promissory note, with available security, at a fixed rate of interest comparable to the rate the seller could earn in a conservative investment.
- The buyer should require, and the seller should agree to, a covenant not to compete. This covenant should be reasonable, perhaps two to three years in duration and encompassing an area of 5-7 miles from the office. Covenants not to compete, especially after the buyer has paid a significant amount, are generally valid and enforceable, but if they are unreasonable toward the seller, the courts could declare them unenforceable at a later date. The intent is to restrict the seller from soliciting patients or employees of the practice.
- A smooth transition period to the time the seller leaves the practice is essential for a successful transfer. The seller generally has a financial interest in the buyer’s practice, and in order to ensure future payments under a promissory note, he or she should do everything possible to help the buyer be successful. One way is to introduce as many patients as possible to the new doctor, perhaps with an open house event. Personal introductions or a letter to patients announcing the change can also be helpful. In some cases, the seller may want to continue treating patients, at least part time, for about three to six months. If the buyer has been an associate of the seller, a shorter transition period will be in order.
Knowledge of these and other
important aspects of buying and selling a practice can make the difference between success and failure for both the buyer and the seller. Be sure to choose — and act — wisely.