If you plan on selling your veterinary practice or hospital, one way to do this is to sell to an associate on a phased buy-in process. The buy-in agreement may be between you, the owner, and one associate or a group of associates. The buy-in can be structured in different ways to suit the needs of both owner and the associate or associates.
This method works well for a practice owner who either eventually wants a partner, or who plans to leave the practice in the future and wants to structure the phased buy-in to the practice so the associate eventually owns 100 percent of the practice.
It is also a good plan for an associate who wants to eventually be a partner or own a practice, but who does not yet have the medical or ownership experience and wants to learn from the owner who will become the associate’s mentor during the years of the buy-in process. Associates who have been with the practice for a while also benefit from a buy-in arrangement.
Simply put, a phased buy-in means that the practice owner and associate agree for the associate to buy a percentage of the practice over an agreed-upon number of years. For example, the associate may buy 10 percent of the practice every year for five years. Then, the associate will either become a full partner or buy out the owner’s remaining interest and become the practice owner.
If the associate eventually buys the entire practice, the owner may stay with the practice as an employee/associate indefinitely. The owner may leave the practice when the associate becomes the 100 percent owner of the veterinary practice. How this is structured is completely up to the veterinary practice owner and the associate.
For this to work, the agreement between the parties needs to be drawn up by an attorney experienced in the buying and selling of veterinary practices. There are many terms that need to be agreed upon by the parties and put in a formal contract to avoid expensive disputes in the future.
There may be several years between the original buy-in agreement and when the associate and owner become partners, or the associate completes the purchase of 100 percent of the practice. During this time, the practice owner mentors the associate.
This works well for an associate who has little or no experience running a practice. The mentoring brings the associate up to speed and the transition from associate to owner is an easy one. For the experienced associate, it provides a way to become a veterinary practice owner without all the costs associated with starting up a practice from scratch.
As with almost any business arrangement, there are pros and cons to a phased buy-in agreement.
Positive aspects of the phased buy-in. Benefits to this arrangement are that during the transition years, the associate learns ownership skills from the seller, and the seller benefits from keeping the practice going and successful during the buy-in period.
The staff is generally happier when a known associate is buying the practice. It tends to alleviate their concerns about how the sale will affect them and their job security. When the sale is to an associate in the phased buy-in method, the staff presumes there will not be significant changes to the practice operating procedures and standard of care.
The pros for associates are that they earn a salary from the day they begin work. They do not have the risk of starting their own practice. They do not have the expense of buying equipment, leasing a building, finding employees, obtaining licenses, and other start-up costs, while earning no or little income while their own private veterinary practice builds.
Negative aspects of the phased buy-in. The seller cannot sell the practice to someone else and walk away from it during the buy-in years since the associate buyer does have some ownership. The seller still maintains majority ownership of the practice and has the legal and financial risk of the practice ownership.
The owner has now committed to sharing ownership duties and decision-making with the part-owner associate. This means the owner must consult with the associate before making any decision that might affect the economic security of the practice.
An additional negative to consider is if things go bad for the practice in general prior to the completion of the sale, the veterinary practice owner, who is now a co-owner and not the full owner, will still be responsible for dealing with the problems.
Positive or Negative? During the buy-in period, practice owners mentor associates so they will be ready to take over the practice when the time comes. For some owners and associates, this will be a positive experience. The owner likes to mentor, and the associate appreciates learning how to run a practice while also learning how to be a better veterinarian. Some owners may find this a tedious negative and some associates may think they do not need the mentoring.
These personality differences need to be considered prior to the buy-in agreement is finalized. Either they can be resolved or the agreement should not go forward.
Owners of a veterinary practice need to be careful about selecting an associate for a phased buy-in of their practice. Not all associates want to assume the obligations and risks that come with ownership. The practice owner may also have reservations about an associate who wants to buy into the practice.
As one legal writer has noted, having a co-owner in a practice is similar to a marriage, and if it does not work out, the break-up can be costly both financially and emotionally.
Some qualities owners should look for in an associate who wants to buy into the practice include:
Practice owners want to be sure they are getting a fair price for their practice and associates want to be sure they are not paying too much. This is the time to have the practice professionally appraised. There is no “rule-of-thumb” that works when valuing the practice.
The owner and associate should agree on the selection of a specific appraiser. Associates may feel the valuation is too high if the appraiser is selected solely by the owner. Even though the two should agree on the specific appraiser, the owner should generally be the one to pay for the appraisal.
Associates who have been with the practice for a few years often think they should be entitled to a price reduction for their years of work which they believe contributed to the value of the practice. On the one hand, the associate accepted a compensation package, either an agreed-upon salary or a percentage of the profits based on their own production, while the owner assumed the risk of ownership. This entitles the owner to receive the full value of his or her ownership without discounting it.
On the other hand, the owner may want to evaluate if the practice really grew after the associate came on board and, if so, why? Did the associate contribute by building community relationships? Does the associate perform procedures that the owner does not, thereby increasing revenue?
A neutral professional can evaluate the contributions of the long-term associate to the value of the practice and help the owner and associate come to a mutual agreement. It may be that the associate has been adequately compensated for any contributions by virtue of salary and benefits and is not entitled to a discounted price on the value of the practice.
An attorney who is experienced in assisting veterinarians in buying and selling their practice is key to a successful buy-in and transition process. Some factors that need to be considered and included in the buy-in contract include:
Structure of the buy-in financial agreement. There are various ways this can be structured so both the owner and associate are receiving fair compensation during the buy-in phase. After they have agreed on a purchase price, the associate may pay part of the funds upfront and make payments on the remaining balance.
There are various formulas that can be used to determine compensation during the buy-in phase and when the buy-in is complete. One formula may be more advantageous tax-wise to one party or the other. The attorney or tax professional will evaluate the methods and work with both owner and associate to determine the formula that works best for them both.
At the time of the final sale, when the associate buys the remaining percentage of the practice, the owner is cashed out. Generally, the associate will get bank financing for the remaining balance. It will be easier to get financing at this point because the associate is now the owner of the practice and can use the assets of the practice to obtain financing.
If the veterinary practice owner also owns the building that houses the practice or hospital, the contract needs to provide for whether the associate will also buy the real estate. Purchase of the real estate may be done immediately at the beginning of the buy-in process, or within a certain number of years of the buy-in, or at the end of the agreed-upon years of the buy-in.
Depending on the terms of the agreement, with interest income, share of the profits, and appreciation in value of the practice, the owner generally receives more than 100 percent of the original purchase price.
What happens if either the owner or associate changes their mind midway through the process? An associate may decide he or she does not want to be an owner. An owner may regret the decision to sell to this particular associate for what seems to be valid reasons. The two may decide they do not work well together and they both want out of the contract.
The contract needs to be structured so that there are contingencies that may allow either party to cancel the buy-in agreement. The contract may also need to be structured to impose penalties for certain acts of either party that compromise the value of the veterinary practice.
What happens if one of the parties dies or becomes incapacitated? An attorney skilled in veterinary practice buy-in sales will know how to provide for these contingencies in the contract.
How will the associate pay for the practice? Will the associate need to get a bank loan? Will the owner carry some of the paper? How will monthly payments be structured?
How will the buy-in percentage be determined? How this works will ultimately be up to the agreement of the parties. It is common for the associate to pay some money upfront and then make payments for a designated period of time. As an associate’s ownership interest increases, so will their compensation.
There are several ways this can be structured, and an attorney experienced in buy-in agreements can explain the different options to the parties. They can then make their own agreement that meets their needs.
Tax consequences. A tax consultant can also help determine the best way to structure the buy-in considering income tax consequences for each party.
Compensation during the buy-in period. The agreement must state how the parties are compensated for their work during the buy-in period. What will the salaries of each be, what benefits will they be entitled to, and will there be bonuses?
What happens at the end of the buy-in period? There are many options for how the owner and associate relate to each other at the end of the buy-in period. For example:
How will disputes be handled? It is almost impossible for any two professionals to work together in total agreement on how to handle every business issue that might arise. During the time the associate who is buying in to the practice is a minority owner, the majority owner has veto power. But, if the owner exercises that power frequently, the arrangement will likely break down. Agreeing to submit issues such as a change in compensation, taking on new associates, and other economic factors affecting the practice to mediation is recommended.
Making the decision to be involved in a buy-in process of a veterinary practice is a serious one whether you are the selling owner or buying associate. How you structure your buy-in agreement can make a difference in your financial future.
At Dental & Medical Counsel, we have years of experience assisting veterinarians, whether practice owners or associates, in selling and buying veterinary practices. For answers to your questions, or guidance in drafting your buy-in agreement, contact us at Dental & Medical Counsel to schedule a complimentary consultation with attorney Ali Oromchian.
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