EQUITY OPTIONS FOR PHYSICIAN MERGERS
The following document outlines some of the equity options available to physicians considering merger opportunities. This is not meant to be an exhaustive listing, nor is it intended to fully explore each option offered in detail. Physicians using this list should understand that each option can be modified to meet their group's specific needs and wishes.
Physicians are advised not to confuse governance with equity. Stock ownership ratios need not be tied to voting power, and unequal ownership participation can occur if the by-laws of the new entity specify a democratic voting process (i.e., "one man:one vote").
Please note the following assumptions:
Physicians will not want a buy-in to become the barrier which prevents the merger from occurring or limits the participants.
Stock ownership in a physician practice has no financial value unless dividends are paid based upon stock allocation (In this case, it is assumed that production is the primary component of income).
Potential shareholders are viewed as equals in terms of their value to the process since the goodwill which they bring to the group is represented by their relative incomes.
Physicians, as owners, will bring different levels of equity to a merger (hard assets such as equipment and supplies). Some methods for valuing hard assets are:
Book value. Be advised that many practices may not have a complete and current depreciation schedule and that each practice may be using different depreciation guidelines. However, one accountant could review all the lists, update them, and apply the same depreciation schedule. This may cost less than having an equipment appraisal firm to value all assets.
Fair Market Value - Continued Use. This methodology would be applied by professional equipment appraisal firms to reflect not only the fair market value of the equipment but also the continued ability of the equipment to produce revenue in the future. Expected cost would approximate $3,000 to $5,000/practice.
The end result is acceptable as long as the same valuation methodology is used for all participants.
Accounts receivables accrue to the physician who produced the billings and need not be valued, since they are the continuous source of income streams in the future (assuming production is the key factor upon which income is based).
OPTION 1
Value each practice using the same formula, through an outside process. This valuation would include goodwill and hard assets such as buildings and equipment.
Assign stock value based upon this methodology and sell shares of stock among the initial participants to create stock ownership equity as long as equal ownership participation is the goal. In such a case, a long term buy-in over time at low or no interest would be preferable in order to reduce financial barriers.Depending upon advice of tax counsel and the exact type of equity model chosen, it could be agreed that certain physicians may receive less salary in lieu of direct, after tax dollar, payment for stock purchase.
For example:
Each physician would pay for the valuation process of his/her practice out of his/her own pocket. This could be as high as $7,000 to $10,000 per practice to value not only the goodwill but also the equipment, etc.
OPTION 2
Value only the tangible assets, such as buildings and equipment. This would keep the costs of the valuation relatively low (probably in the neighborhood of $5,000/practice on average). The value of the goodwill is then reflected in the future stream of income according to each physician's ability to generate revenue.
Assign value based upon this methodology and sell shares of stock among the initial participants to create stock ownership equity where equal ownership participation is the goal.
OPTION 3
Assume that every doctor comes to the newly formed group as an equal equity participant and that the value of each practice is the same, regardless of how much furniture, fixture, equipment, etc. is contributed.
This approach might be used if the groups have relatively equal lease costs for equipment, depreciation schedules and/or amortization tables and have equivalent equipment in place.
An exception would be made for unusual circumstances, such as:
A practice with an expensive piece of recently purchased equipment (such as an excimer laser for an opthamology practice). In this case, the equipment would be valued separately and the physician who owns it would be compensated through the new income division formula for this unusual contribution.
A practice with a building where no other member of the group owns a building. In this case, the group would need to explore whether the building and location are acceptable for the group's long term needs. The group would then determine how the building, as equity, would be handled (i.e., equal buy-in by all others in the new group, disposition by the present owners independent of the merger process, etc.).
Buy-in Formula for New Shareholders in the Future:
As new physicians wish to join the group of shareholders, the core group will need to develop a methodology for allowing a buy-in. Some of the same principles reflected above are again useful here. The primary consideration should be that price should not be a barrier to bringing in other valued members.
One formula for calculating the buy-in would be to pay for an equal portion of the book value of the assets, excluding receivables, with a token amount for goodwill (perhaps equal to one-half the average of all of the full-time physicians' earnings for the previous year). This could be paid over time, at low or no interest.
An established physician with practice assets to contribute could have
those valued and considered in lieu of actual payment, as long as the
assets are useful to the entity.
Buy-out Formula for Present Shareholders:
Same as the buy-formula with the exception that the physician should also get payment for his/her share of the receivables (based on historical collection ratios, or the actual payments received over a specified period of time (six months or one year) following retirement from the group. Again, all of this would be paid out over time, at a low interest rate.
The group's task in both the buy-in and the buy-out formula centers around fairness and reduction of barriers to joining the group. Ideally, the payments from those buying in will cover any payments to those buying out.