Multistep process needed for private practice acquisitions
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“I buy when other people are selling.”
– J. Paul Getty
“Sometimes I can’t stop myself from buying things just because I see them — even when I don’t really need them.”
– Angela Merkel
With all the excited discussion over the last few years of private equity transactions to acquire practices, a lot of practice owners and administrators have overlooked the fact that practice-to-practice transactions are actually as common as the PE kind.
When you consider the landscape and are making decisions about your practice’s options for growth, they break down into two chief pathways:
- Organic growth: ramping up, basically, from the inside out. This can mean better promotion of the services you offer or the addition of new services. Organic growth can be as simple as adding a new subspecialty to a group practice or opening a satellite office or launching optical services.
- Inorganic growth: or building from the outside in. This typically is accomplished through mergers or acquisitions. The two approaches are sometimes confused. A merger is when Dr. Smith and Dr. Jones, who each own 100% of their respective practices, join forces to each own half of the “Smith-Jones Clinic.” In contrast, an acquisition is when Dr. Smith buys the Jones practice. Dr. Jones is no longer an owner and may become an employee of Smith or retire.
Inorganic growth through mergers and acquisitions can have several advantages over organic growth.
- For any growth-minded practice, organic/internal growth is generally slow. The demand for eye care is growing at about 5% per year. With strong internal efforts, sales growth can be driven to around 10%. But acquiring or merging with other practices can double or triple this pace.
- As boomer-aged surgeons approach retirement, their succession plans are limited. This is especially the case in the heart of the country, where recruitment is becoming so difficult. Such practices often trade hands for nothing more than the value of the tangibles, representing a windfall for larger nearby practices seeking regional consolidation.
- While the go-go pace and nose-bleed valuations of PE transactions get all the attention, the fact remains that most smaller/older practices are simply not operating at a scale or level of profitability that make them attractive targets for PE firms, but they can still be attractive to other private practices in their local service area.
After more than 40 years working in ophthalmology, I have never seen a market this hot for large private practices buying up smaller ones. This month, let’s discuss the discrete steps of a practice acquisition in a private, non-PE context.
The steps of an acquisition
Let’s begin at the starting line; imagine this situation. You are 50 years old and the managing partner of a three-partner, one-office ophthalmology clinic. You and your partners have friendly competition in the form of Davis Eye, a boutique-scaled practice with two partners who are both approaching retirement. One partner has had a recent health scare, and they both realize it is high time they start thinking about succession. Dr. Davis, the senior partner, calls you up and asks, “What would you think about buying our practice?” What happens next?
1. First, before getting too far into the deal, you want to be disciplined enough to assure that buying this practice fits with your overall long-term strategic plan. If you and your partners do not have a written planning document, now is the time to get more disciplined. Even if it is only a couple of pages, write down the answers to questions such as: What is our planning horizon? Five years? Longer? What is our service area? What is our desired growth pace? What services do we want to add or subtract? What should our provider mix be? What is our succession plan?
2. Depending on your written plan, you may decide it is more sensible to start a satellite from scratch or to delay opening a second office until you have hired a fourth doctor. Or you may decide that this opportunity is a perfect fit with your practice’s business objectives.
3. What is next? Obviously, you do not want to negotiate against yourself by blurting out a price and rushing to your attorney’s office. You want to first explore with the Davis Eye doctors what they want in a transaction. What are their chief and secondary motivations for selling? Do they want to work after the sale? Are they realistic about pricing and terms? If you are not that familiar with the practice, take an after-hours walk-through with the owners. Does it fit with the overall tone and quality of your existing practice? Do the Davis Eye doctors practice within reasonable bounds, or are their care pathways out of sync with yours?
4. If this initial subjective review checks out and you want to proceed, the next step is typically to review the practice’s higher-level financial and volume performance statistics. The seller may feel comfortable handing these over informally or may request that you sign a nondisclosure agreement to see documents such as:
- recent financial or tax documents;
- CPT reports for the last couple of years;
- an equipment inventory or depreciation schedule;
- a recent aging report; and
- a recap of staffing tenure and roles.
5. With the practice data in hand, work with your office manager, CPA and any other advisory resources to develop an approximate value of the practice. The goal at this point is to come up with a loose figure and terms that might work for you if your further investigation of the practice is favorable. These should then be memorialized in a nonbinding letter of intent (LOI) that is presented to the seller. In the LOI, you will describe the transaction details, including:
- what you want to purchase (and what you want omitted from the sale);
- price and payment terms;
- desired transaction timing; and
- role of the sellers post-transaction.
6. It is typical for a seller to push back on some of your proffered terms, particularly on pricing. Practice valuations are notoriously all over the map. Few deals break down over the value of the slit lamp in room three. Most disputes at this point center on goodwill pricing.
7. Once the seller accepts your offer, a so-called “due diligence” period ensues. During this period, which can last weeks or months, you and your advisers will sift through the minutia of the practice’s statistics, interview staff and confer with the building owner if the seller does not own it. You may investigate any credentialing issues and will almost certainly be talking with important referral sources to the practice.
8. Most critically, during the due diligence period, you want to work with your advisers to draw up what is commonly called a “pro forma” financial statement — a projection of month-by-month post-transaction cash flows for at least an 18-month period. This exercise is always imprecise but forces you to face up to any looming financial bottlenecks that could leave you regretting your purchase. A favorable pro forma will indicate that if the deal goes through, it will be accretive, which is to say, you and your partners will enjoy a net pay raise for every hour that you work in the future. The most accretive transactions are usually driven by shared savings (eg, moving into a single building) or the ability to reach secondary development thresholds (eg, having enough cases to substantiate building an ASC).
9. You will also want to draw together your senior staff and work up a written plan for operations integration: Who will work where post-transaction? What will the schedule look like? How will billing be handled? Whose EMR program will we use and starting when? Will any equipment need to be purchased, and if so, where will it go?
10. If the light is still mostly green for a deal, at this point you will circle back to Davis Eye and negotiate any fine points. Your financial review may demonstrate that your initial offer was too generous. You may request seller financing. Or you may need to revise post-deal employment terms for the sellers. If these negotiations go well, you and the seller will agree on all of the still informal terms in principle, and you will turn the process over to your respective attorneys to memorialize formally.
11. Finally, you and the owners of Davis Eye will sign off on the definitive legal agreements, typically inclusive of an asset purchase agreement, a loan agreement and post-transaction employment agreements.
12. And then, of course, the real work begins to integrate operations and realize the value from your acquisition.
- For more information:
- John B. Pinto is the author of several books on ophthalmic practice management, including John Pinto’s Little Green Book of Ophthalmology: Strategies, Tips, and Pearls to Help You Grow and Manage a Practice of Distinction, UP: Taking Ophthalmic Administrators and Their Management Teams to the Next Level of Skill, Performance, and Career Satisfaction (with Corinne Wohl), Simple: The Inner Game of Ophthalmic Practice Success, and Ophthalmic Leadership: A Practical Guide for Physicians, Administrators, and Teams. Available now for purchase at slackbooks.com. Receive 20% off with promo code PINTO20. He can be reached at 619-223-2233; email: pintoinc@aol.com; website: www.pintoinc.com.
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