Owning a practice right out of dental school can be a daunting endeavor. Although dental school may prepare you for clinical practice, often little or no attention is paid to the administrative responsibilities of running a practice. In fact, a 2013 survey conducted by the American Dental Education Association (ADEA) showed 95% or more of graduating dental students believed that their education adequately prepared or well-prepared them in the areas of patient evaluation and diagnosis; radiology; and operative and restorative dentistry, whereas less than half believed their education had prepared them for practice administration.
Therefore, the majority of recent dental school graduates choose to work as associates, both to hone their dental skills and to learn the business of dentistry. In fact, the ADEA’s 2014 survey shows that, of the dentists entering private practice immediately after graduation, only about 20% of them intended to buy or start their own practice right out of school.
Although there are several options available to new doctors entering private practice as an associate, this post will focus on one of the traditional ways that dentists can grow in to ownership over time: the associate buy-in.
In many cases, this will take the form of a new doctor (“junior doctor”) accepting a position as an associate with a doctor in an existing practice (“senior doctor”), with the agreement that the junior doctor will be allowed to buy part or all of the practice at a certain point, either at once or over time. Structured correctly, this can be a win-win situation. The senior doctor can reduce his workload, while maintaining control of the practice in the short term. If the practice is expanding, with enough work to support two doctors, the senior doctor may also not see any decline in income and may see an increase in the value of the practice. The junior doctor can get the experience he or she needs to improve clinical skills and ease into the responsibilities of ownership and practice management, without having to immediately incur more debt.
However, there can be a number of pitfalls along the way that can harm both parties. For example, if there is no documentation of any agreement, junior doctors may find themselves at the mercy of the senior doctors. If the senior doctor gets cold feet and decides he doesn’t want to sell to the junior doctor, or wants to alter the terms of the buy-in, the junior doctor may not have any recourse. Similarly, if the doctors rush into a binding agreement without any kind of trial period, and the junior doctor turns out to be incompetent, unethical, disagreeable, or a bad fit in any other way, the senior doctor may be locked into the agreement, compelled to sell part of the practice, and forced into a partnership, with no end in sight and no exit strategy.
The ways in which a buy-in agreement can be structured are virtually limitless. The buy-in can be all at once or staggered, the percentage of ownership can be varied, the control and management responsibilities can be retained or distributed, and mechanisms can be included by which the junior doctor does not simply buy in, but ultimately buys out the senior doctor. It all depends on what the parties want to do. The following are just some of the items you can consider in negotiating and structuring a buy-in agreement.
Valuing The Practice
One of the first steps you should consider in structuring a buy-in is whether to obtain a practice valuation. Although many dentists use a percentage of collections or EBITDA (earnings before interest, tax, depreciation and amortization) as a general rule of thumb, much more goes into accurately valuing a practice. In addition to collections, a certified business valuation expert will assess a number of other factors such as overhead expenses, equipment age, collection history, and patient flow.
Although a valuation is not cheap, it can set a fair, independent price for the associate to pay to buy into the practice. Depending on the terms of the buy-in, you may also want to work with the valuation expert to take into account potential discounts for lack of liquidity, if there are restrictions on transfer, or lack of control (for example, if the junior doctor will be acquiring less than 50% of the practice, or if the senior doctor will retain managerial control despite the parties being equal partners).
As the junior doctor, you may also want to be involved with the business valuation process because it will give you an opportunity to do due diligence on the practice. In a previous post, we discussed some of the items a dentist should review as part of the due diligence in buying a practice. The same or similar items should often be reviewed before buying into a practice, so that you can verify the practice’s value and income potential.
Finding The Right Candidate (On Both Sides)
It is important for both the junior and the senior doctor to feel that they are good fits for each other. Your skills and interests in the practice do not have to be identical, or even similar. Rather, they could be complementary. For example, if you enjoy endo or implants, and you are going to work with a doctor who has previously referred out all root canals, you can increase the practice’s revenue immediately.
The important thing is that you are able to work well together, have a common vision for the future of the partnership, similar treatment philosophies, and compatible career goals. In order to help ensure a positive working relationship, it is often helpful to have a no-risk trial period, where you can work as an associate for a period of time without any commitment by either side. The length of this trial period can vary greatly, depending on your specific circumstances. Some doctors feel comfortable with a trial period of only a few weeks, while others may want a year or more of working together before the buy-in becomes binding. This can afford both parties the benefit of working side-by-side in real world situations and to get to know each other better before committing to becoming partners.
In most cases, the junior doctor will want to have the agreement in place before the trial period starts and before he or she starts working at the practice, so that there can be an end point after which the agreement will become binding on the senior doctor. This trial period can, but does not necessarily have to, be the date at which the junior doctor must buy into the practice. The important consideration is that this is the point at which the senior doctor has committed to selling part of the practice to the junior doctor.
Documenting The Buy-In And The Partnership
In most cases, there will be two, and sometimes three, separate agreements to document the process by which a junior doctor will buy in to the senior doctor’s practice. These will typically be the purchase agreement, the partnership agreement and, in many cases, separate employment agreements between each of the doctors and the practice.
This is the mechanism by which the junior doctor will actually acquire an ownership interest in the practice. The purchase agreement will contain all of the expected terms, such as price, closing date, and the percentage of ownership interest that the junior doctor will be acquiring.
Additional terms may include:
- Whether the junior doctor will be required to guaranty any of the practice’s debt or lease obligations.
- Whether the senior doctor will remain solely liable for any liabilities or claims that occurred prior to the buy-in.
- Loan contingencies in the event the junior doctor is unable to obtain financing for the buy-in.
- Whether each partner’s interest will be owned individually by the doctor or by an entity the doctor creates.
- Whether the real estate in which the practice is located is included within the purchase, if applicable.
- Whether there will be a trial period during which either party can terminate the agreement. (If the doctors have not worked together before, they may want to include a trial period, as discussed above, that allows either party to terminate the purchase agreement if the doctors are not a good fit.)
The partnership agreement is the document that governs how the partnership will work, once the junior doctor has bought into the practice. Depending on how the partnership is organized, this can be done either as a stand-alone partnership agreement or, if a limited liability company or other business entity has been created for the practice, within the operating agreement or bylaws of the company.
Generally, this will outline the parties’ roles and responsibilities, how day-to-day managerial decisions will be made, how profits and losses will be split, and how the parties will decide on larger business decisions, such as capital expenditures, adding future partners, and dissolving the partnership. The partnership agreement may also include:
- Non-competition and non-solicitation provisions and provisions requiring both doctors to devote all of their professional services exclusively to the partnership.
- Capital call requirements, in the event the practice needs a cash infusion.
- Restrictions on transfer, buy-sell agreements and/or rights of first refusal, to prevent one partner from selling his or her interest to another doctor without the other’s consent, or at least without providing the other partner an option to purchase the interest from him.
- Provisions requiring “key-man” life and disability insurance policies in the event one partner unexpectedly dies or becomes disabled. The proceeds of the policies are then used to buy out the partner’s interest.
- Termination provisions. The partnership agreement should have some mechanism for ending the partnership upon the death, disability, or retirement of one of the partners, or to dissolve the partnership in the event the partners do not get along. Without an express partnership agreement, Arizona has created a set of generic default rules to govern partnerships, which may not represent the parties’ actual wishes with respect to the operation of the partnership.
Finally, in many cases the doctors will want to have separate employment agreements between themselves and the partnership. This will typically outline the terms under which the doctor will be paid for the work he actually does for the practice, and any excess profit is then distributed according to the partnership agreement. Common terms include:
- Compensation structure, such as a percentage of productions or collections, a per diem rate or a salary.
- Malpractice insurance requirements and coverage.
- Management fees, if one doctor spends more of his time tending to the business, rather than practicing chairside dentistry.
- Termination provisions, either if the doctor has engaged in some sort of misconduct or wants to stop actively working in the practice. Note, though, that terminating the doctor’s employment will not generally terminate his ownership in the practice.
This is by no means an exhaustive list of the issues to consider when deciding whether to enter into an associate buy-in agreement. As noted above, the options for crafting the agreement are virtually limitless, and every situation will be different. The best approach is to meet with an attorney early in the process, explain what you and your potential partner want to accomplish through the buy-in and discuss the key terms of the buy-in with the attorney so that you can craft a fair and clear road map for your partnership.