Brendan McGrath explains why you should make sure you’re giving diligence its due.
Buying a medical practice is a significant and often stressful endeavour for a medical practitioner and can come with significant financial and legal risks.
As with many other types of purchases, a medical practice purchase is typically conducted on a “buyer beware” basis and so a targeted and thorough due diligence process should always be conducted.
In this article, we highlight some of the questions which are often overlooked by buyers and which are essential to undertaking such an important purchase.
- WHAT AM I ACTUALLY BUYING?
The first thing to consider is what assets are actually being bought.
Typically they include:
- The practice’s goodwill, including patient lists and records, reputation, brand exposure and patient relationships;
- The practice’s plant and equipment. A detailed schedule of plant and equipment should always be provided as a part of the sale agreement, detailing whether the items are owned or leased. The seller should also confirm good title to these items and that they are not subject to any charge or other encumbrances that restrict their sale;
- Intellectual property, including trademarks, business names, copyright in manuals and marketing materials;
- Medical supplies and other supplies; and
- The premises or a lease of it.
- CAN THE SELLER ACTUALLY SELL YOU THE BUSINESS?
- ARE YOU BUYING THE BUSINESS OR THE COMPANY?
- CAN I RUN THE BUSINESS FROM HERE?
While it seems like a simple question to answer, often times identifying the seller is not as easy as merely asking who runs the business.
Medical practice sales typically involve the transfer of different classes of assets (as mentioned above) each of which may in reality be legally owned or held by different entities.
As a buyer, it is important not only to identify the assets being transferred, but also to identify each party comprising the seller of those assets. This will ensure that they are all subject to and ultimately bound by the business sale agreement.
Failure to do so could render certain rights unenforceable and result in some business assets not being transferred at completion – meaning you may not get what you thought you were buying.
It is typically not advisable to suggest that a buyer purchase the shares of a private company that carries on a small business such as a medical practice.
In such a situation, not only are the assets of the company being bought, but also the existing liabilities of the company, including potential liabilities to third parties under existing contracts.
The buyer would also assume any tax and workplace related obligations, without any recourse against the seller other than contractual indemnities.
The more common approach is for the business to be transferred in its entirety to a new entity operated by the buyer. This creates a result with respect to liability, whereby only future liabilities attach to the buyer.
It is important for buyers to understand though that where they continue the business under the name used by the seller, the risk of reputational damage still exists as a result of pre-existing liabilities and disgruntled patients.
You need to ensure that you have the right to use the premises for the business after settlement. This is critical to any medical practice purchase.
Without secure tenure, a buyer risks not only financial loss in the business, but also the possibility of not obtaining finance from a financier or being found in a position where they need to negotiate a new lease with the landlord shortly after settlement as a last resort.
Tenure can be provided to a buyer in a number of ways. These include:
- Assigning the seller’s rights under an existing lease;
- Negotiating a new lease with the landlord prior to settlement; and
- If available and financially appropriate, buying the premises.
It is always advisable for a purchase contract to be made subject to the finalisation of one of these options to the satisfaction of the buyer. This will ensure that the buyer is not without premises from which to operate the business for any period.
One of the biggest challenges for a buyer of a medical practice is taking on the employees engaged by the seller.
In addition to adapting to or adopting the workplace culture and practices which exist, the logistical aspect of the sale can create some significant challenges, including:
- Are all existing staff required?
- Will all staff need to be offered employment?
- Are new contracts needed?
- Who pays for existing leave entitlements?
- What happens if a staff member resigns?
Typically, a buyer will be obliged to offer all existing staff employment on terms no less favourable than those under which they are currently employed and on the basis that all leave entitlements carry over.
Whether or not an employee accepts such an offer will determine who assumes the liability for their accrued entitlements, with those rejecting an offer being the responsibility of the seller and those accepting an offer, the responsibility of the buyer.
Normally, an apportionment can be made under a business sale agreement for the seller to allow a percentage of the cost of entitlements to the buyer at settlement. For this reason, a buyer should always take steps to ascertain the value of any entitlements prior to settlement.
A buyer should also take steps to identify any key people in the business, without whom the medical practice may not operate as effectively. In such a situation, a buyer should consider the inclusion of a condition that settlement will not proceed unless that particular employee accepts the employment offer.
One of the biggest risks to the value and goodwill of a medical practice is where a seller opens up or joins a competing business after settlement.
Patients of a medical practice are typically among the most loyal of business customers and will often follow a practitioner that they are familiar with.
There is also a risk that even though a seller may not directly approach an existing patient, news of their departure and new practice will almost certainly find its way to loyal patients.
A restraint of trade clause is therefore an essential part of any agreement to purchase a medical practice. This can help to protect the goodwill generated in the business and prevent a seller from stealing patients in the short term.
The restraint of trade clause should put in place a reasonable restrictions on the seller of the medical practice regarding each of the following:
- type of activity restricted;
- geographic area restricted; and
- time period restricted.
Each of these restraints must be reasonable, as courts have long been reluctant to enforce any restraint which prevents someone from earning a living. What constitutes “reasonable” is not always straightforward, but a long term, blanket prohibition over a large area will almost certainly be unenforceable.
WHAT ELSE DO I NEED TO KNOW?
Apart from the legal considerations set out above, the purchase of a medical practice requires a buyer to consider numerous financial and practical questions to ensure that they are making an informed decision.
Here are some examples:
- Is the price reasonable? Do I need a valuation?
- Are the books and current contracts in order?
- What about marketing? How much of this will I need to do?
- Who will notify the patients?
- What are the projected revenues? Are they realisable?
- Have I spoken to an accountant?
- Have I spoken to a solicitor?
Despite many of these and the other questions referred to above often having different answers, targeted and tailored professional advice is always key to ensuring a successful purchase and a smooth transition of the business.
Control how your benefits are distributed
McInnes Wilson Lawyers has the experience and expertise to assist practitioners in medical practice acquisitions, from contracting through due diligence and settlement. For further information, please contact us for an introduction to Brendan McGrath today.