Doctors and Business People discussing in a board room

Succession Planning for Closely Held Medical Practices

09 Jan 2018

One of the toughest issues facing closely held medical practices deals with succession planning. While large groups often have multiple owners with an established procedure for redeeming equity stakes and a pipeline of potential successors waiting, closely held practices normally only have one or two owners. Being a highly technical service based business, closely held practices also often do not operate with the leverage of larger practices, leading to a lack of potential successors and much of the of the practice value tied up in the personal goodwill of the practitioner. Practitioners are also faced with the challenge of ensuring that their current patient base continues to receive the care they need after their planned exit.

When considering a worthwhile succession plan, a physician has four main strategies for a successful exit:

1.) Sale/merger into a large practice/hospital network

2.) Sale/merger into/with another closely held practice

3.) Buyout by a junior associate (typically for solo practitioners)

4.) Buyout by partner (typically for closely held multi-physician practices)

Sale/Merger into a Large Practice/Hospital Network

After the passage of the Affordable Care Act in 2013, there was an immediate flurry of activity for larger practices and hospitals acquiring closely held practices, even for practices where the physician was not yet looking for a full exit. Joining a large practice or hospital network can offer many benefits to physicians outside of an exit scenario, including streamlined management services, better rates, and more resources. When considering this path, a practitioner should start looking about 7 years prior to their exit, with the intention of closing the deal with 5 years remaining. Many of these onboarding exits will often require the selling physician to remain on for a few years afterwards to assist in the transition and integration into the larger network, with a gradual reduction in office hours over the last few years. These deals are frequently structured with a large initial payout for the practice and then an earn-out period for a few years, along with a salary from the network. These deals are often financially attractive for exiting physicians as large networks/hospitals can offer a higher purchase price, shorter payout period, and less uncertainty in the exit.

Sale/Merger to Another Closely Held Practice

The other side of the sale/merger coin for physicians is the sale or merger (typically a merge with an exit provision in the buy/sell agreement) to another practice in their specialty. These deals will often work similar to the sale to a large practice or hospital with a few caveats. For practitioners in specialty areas and who are leaders in niche areas, finding a suitable practice to merge with may be tougher. The sales price may be less than that of a large practice group and also brings with it uncertainties since these entities will not be as fiscally strong as large practice groups. However, this option does often give the practitioner more flexibility in their exit and allows them to select their successor physician to ensure their patient base receives the same high quality of care. If going this route, practitioners should start planning their exit further out than with a large practice group, since it will take more time to identify and structure these deals. A plan should be drawn up with at least 10 years lead time.

Buyout by a Junior Associate

This succession plan is far trickier to execute than the sale of a practice to an outside party. Closely held practices often will not employ more than a few physicians, nor can their current volume support more than a few physicians. In specialty niche areas, it is increasingly difficult to find junior associates in that practice area, and there are risks that they may leave the practice (with the skills taught to them by the potential exiting physician!) to work for a competitor or start their own practice. As with an exit with a sale to a closely held practice, there will need to be a long lead time to ensure a smooth transition. Practices will need to determine if their volumes can handle the additional associates, and then further evaluate if this person is capable of running the practice. The benefit of this method is that it the most flexible for the exiting doctor, where they will have the most control over the day-to-day aspects of the exit, and will also have the most control in the transition of the patient base. This strategy, however, can result in lower guaranteed prices for exit than with a sale to an outside party and more financial risk since the practice will have to carry the cost of the exit while still providing for the new physician.

Buyout by a Partner

Of all the main methods for exit, this one will require the most planning: this method should be considered when the practice is first forming. The physicians in the practice should have an operating or shareholder agreement when they form the practice, and within that agreement there should be the terms for an exiting partner. These terms should cover the notice period and the valuation of the exit among other topics. From a practitioner standpoint, knowing that this will be your ultimate exit requires the least amount of planning time, but as good practice they should still have a plan for overall retirement at least 5 years prior to retiring, if not longer.

A medical practice is a business; one that practitioners spend years building. Like any other business, the practice often comprises a large portion of the owner’s net worth and potential retirement. A lack of a succession plan can lead to impairment of monetizing this asset, jeopardizing the planned retirement of many physicians. Too often physicians are left with unappealing options, either selling the practice for a fraction of its value in a merger or a gradual wind down resulting in no pay out at all. A strong succession plan takes time to develop and mature, and needs to be considered well in advance of a potential exit. However, if you properly plan and select the right option, it could be a win for everyone involved.

This article was also featured in Best Practices Vol. 14