One of the biggest decisions of a physician’s career is whether to buy into a medical group. Unfortunately, the many years of training physicians endure do not usually include any education on the nuances of this complex process.
There are many factors to take into account. Generally speaking, it’s desirable to become an owner or “partner” of a medical group, as it usually leads to increased overall compensation.
However, there may be factors that cause the new partner to be worse off financially — if the asking price to buy-into the group is unreasonably high, or if the group is not profitable, for example. Furthermore, the terms to buy into a group may be negotiable, so it’s important to do your homework and seek help from the right professionals.
Owner vs. employee
What exactly does it mean to be an owner? Once you become an owner of a group, you are no longer an employee and your day to day responsibilities may change. You have a vested interest the health of the business, and may see your duties expand to areas outside of patient care such as marketing, human resources, and legal matters. You’ll also take on the risk of the business as an owner, and be responsible for a portion of the liabilities and losses the group might incur.
The price of a buy-in can vary from a few hundred dollars to hundreds of thousands of dollars, so it’s critical to hire professionals to help you understand the offer and what to negotiate. Unless you have a strong legal, accounting, and mergers and acquisitions background, you will need input from at least an attorney, a certified public accountant, or both.
You should not solely rely on input from a consultant hired by the the medical group, because they are not necessarily looking out for your interests.
It’s essential to seek out information from the group on the calculation of the firm’s value in order to assess whether the purchase price is reasonable.
The two pieces of information that are most important in analyzing the health of the practice are the income tax returns and financial statements. There are also a whole slew of other documents that may also be helpful during the due diligence process.
The financial statements should be prepared and audited by a CPA. Financials prepared by a bookkeeper may require more detailed analysis. An attorney or CPA well versed in these transactions can analyze the tax returns and financials to assess the fair market value of the practice, determine if the buy-in price is reasonable, and get a feel for the financial health of the practice.
As a potential owner, it is important to know whether the practice is growing, if debts are being paid off, and if revenue of the group is being billed and collected in a timely manner.
Valuation of firm
The assets of the firm are usually divided into two buckets: tangible and intangible. The tangible assets are hard assets of the group such as medical equipment and supplies. There are a number of ways to value a business, so it’s important that an attorney or CPA analyzes the valuation methodology. These tangible assets may comprise a significant portion of the offer.
The value of intangible assets are more nuanced, usually consisting of accounts receivable and goodwill.
Accounts receivable are an asset of the group as they represent future revenue, such as bills submitted to an insurance company that have not yet been paid. The valuation of accounts receivable may not be as straightforward as one would imagine — not only because of the different reimbursement amounts but also the various payors in the marketplace.
Goodwill is a difficult asset to place a value on because of its subjectivity. For example, a company like Coca-Cola has goodwill due to its brand recognition, longevity and market share. This is in contrast to a small regional firm which may not have much goodwill. It’s important that a professional versed in these transactions is hired to analyze the goodwill valuation, and determine whether it is reasonable.
Other assets of the group
Ambulatory Surgical Centers (“ASC”) are commonly owned by medical groups as a way to comply with the Stark law and the Anti-Kickback statute. These are usually structured as a separate legal entity which warrants a separate valuation.
The Stark law prohibits physician referrals of designated health services for Medicare and Medicaid patients if the physician has a financial interest in the entity. ASCs are not designated health services covered by the Stark law. However, investment in an ASC must meet the Anti-Kickback statute requirements.
The Anti-Kickback statute has four safe harbor categories: surgeon owned ASCs, single-specialty ASCs, multi-specialty ASCs and hospital/physician ASCs. The safe harbor provision allows a group to own an ASC and still meet the guidelines.
If an ASC is owned by the group, it may be a good idea to negotiate buying into the ASC in addition to the medical group. Groups may have ownership in other entities and assets, such as dialysis centers, MRI machines, and real estate. These separate assets and entities of the business may be more profitable than the group itself, so it’s important to negotiate ownership into these assets as well.
How will your compensation change once you become an owner? Many physicians see their annual take-home pay increase after becoming a partner. However, instead of having a set salary each year, your income or share of the business profits will fluctuate year-over-year.
A group can structure compensation of its partners in many different ways.
One method is an equal allocation to each of the partners based on their ownership interest. With this method, net income — gross receipts, less all expenses of the business — is allocated out based on the member’s ownership interest. The rationale behind this method is that all owners contribute equally to the business, whether it’s through the revenue they produce or the work they put in managing internal group matters.
This differs from a pure production-based approach, where income is allocated based on each member’s production. There are pros and cons to each of these methods, and many practices use a blended approach where part of your compensation is based on the equal allocation method, and the rest on a production-based approach.
Structure of buy-in
What options are available to purchase an equity interest in the medical group? The structure of the buy-in can vary greatly, and may involve an outright cash payment, a loan, or salary reduction.
The outright use of cash to purchase the equity interest is the most straightforward approach. Another approach is to finance the buy-in. Some groups may allow an internal financing option where the group or senior owner provides the loan in return for payments and interest over time. Both of these options utilize post tax dollars — you pay for the buy-in or the loan payment and interest using dollars that you have already paid tax on.
Salary reduction is a pre-tax mechanism and can be structured using the “exact” or “inexact” buy-in method.
With the exact method, a value is placed on the accounts receivable and goodwill and the physician pays for this value over a period of time through reductions in income.
With the inexact method, the owner gradually buys his or her share by taking less income for a certain number of years. With the inexact method, no valuation of assets needs to take place, which simplifies the process.
Doctors are now graduating from medical school with more than $176,000 in student loan debt, on average, which could complicate buying into a medical group. A recent Gallup survey found that among people with more than $25,000 in student loan debt, 25 percent report that their debt has forced them to delay plans to start their own business.
But 10 physicians polled as part of research for this article said that their student loan debt did not prevent them from buying into a medical group. These doctors, who were in their mid- to late-30s, had student loan debt ranging from $50,000 to $300,000. But they were still able to buy into a medical group because they did not have to put up cash or go into the marketplace for a loan. Instead, the medical group, or a senior physician in the group, financed their buy-ins.
What happens when you leave?
When an individual owner leaves the group, the other owners usually have to buy that individual’s interest. The buy-out process is just as important as the buy-in, and the same valuation and methods may apply.
It’s important to consider various circumstances and situations that may require the buy-out of an owner, and what additional money may be needed. A buy-out process can also apply in the event of an owner’s death, in which case the group may be required to make a payment to the individual’s surviving family or estate.
In situations of unexpected death or forced departure of an owner, it is important that the group have a buy/sell agreement in place. This is a legally binding buy-out agreement between owners of a firm that lays out what happens in a triggering event. A buy/sell agreement provides for the continuity of the group, prevents the sale of the ownership to unwanted third parties and enables a smooth transition to the other owners.
What if you’re acquired?
Due to the changing landscape of healthcare, privately-owned medical groups are ripe for acquisition by hospital systems, and the deal flow is on the rise. Hospitals are acquiring physician-owned groups in order to expand their provider networks, and to align their business with new reimbursement rules that are based on quality of care rather than the fee-for-service model.
Be clear in your discussions and ask if acquisition by a hospital is something the group is considering. If so, obtain as much information as possible in order to understand the long-term implications the transaction will have on not only your ownership, but future employment.
The buy-in is a complex and difficult process. However, you can alleviate the stress around this decision by doing your homework and seeking professional advice. It also makes sense to reflect internally as to whether this is a group you see yourself retiring in. If not, consider remaining an employee or moving on.
Anjali Jariwala is a CPA and CFP. She founded FIT Advisors to provide comprehensive Financial Planning, Investment Management and Tax Planning services. She uses an innovative business model that is evidence-based and aligns closely with the needs of physicians and business owners.
Editor’s note: Doctors who need to put up cash or finance a medical group buy-in with a marketplace loan may benefit from enrolling in an income-driven repayment plan that reduces their monthly student loan payment. They may also be able to refinance their student loans at a lower rate with a private lender. Doctors who would like to compare student loan refinancing offers from multiple, vetted lenders, can use Credible.com to comparison shop.