AF: Having concluded the discussion on the "value of a practice", the issues concerning the sale and purchase of a professional practice left to be dealt with involve the following:
6. the terms of the Agreement
7. the execution of the Agreement
8. the completion of a due diligence investigation of a practice
9. the completion of the transaction
10. issues arising after the completion of the transaction
TERMS OF THE AGREEMENT:
We have already reviewed the parties to the Agreement; the price to be paid for the practice; and the assets to be included in the transaction. The following are some of the additional provisions that are customarily dealt with in the sale and purchase of a chiropractic practice.
1. Deposits: Obviously the Vendor will desire a large deposit and the Purchaser will want to pay a minimum deposit. It may be appropriate for multiple deposits to be paid as in the case of a certain amount paid with the execution of the Agreement with a further deposit paid after the expiration of any conditions contained in the Agreement which result in their being a firm and binding Agreement. In any case, it is customary that the deposit be paid to the Vendor's agent or lawyer to be held in trust until the completion of the transaction.
2. Conditions: It is customary for a sale/purchase of a chiropractic practice to be conditional upon the occurrence of one, some or all of the following conditions, namely:
a. The Purchaser verifying, to his or her satisfaction, the financial and patient records of the practice. The matter of "verification" actually constitutes the conducting of a "due diligence" search which will be dealt with in a subsequent article. The verification should be conducted so as not to interfere with the Vendor's practice or staff.
b. The Purchaser receiving and satisfying himself or herself as to the terms and conditions of the lease agreement for the clinic premises, and the written consent and approval from the Landlord of the premises for full assignment of the said lease agreement and may include the entering into of a renewal agreement extending the term of the Lease for a particular time period of, for example, at least 5 additional years from the date of the expiration of the present term. Alternatively, the Purchaser may desire to enter into a new lease for the premises.
c. The Purchaser obtaining satisfactory financing. It is important that the Purchaser receive a firm commitment from the lender prior to waiving any condition for financing. In addition, the parties may negotiate financing to be provided by the Vendor or through a leasing company and what security, if any, is going to be given by the Purchaser to the lender.
d. The Purchaser making satisfactory arrangements with the office staff and associates of the practice for their continued employment and involvement with the practice after closing.
e. The Purchaser obtaining licensor to carry on practice as a chiropractor within the applicable jurisdiction. This condition must relate to obtaining a license to carry on practice and not merely the graduation from an educational institution.
The conditions contained in the Agreement may be for the benefit of the Purchaser or the Vendor or both. Most of the above conditions may be for the sole benefit of the Purchaser and, as such, might be waived by the Purchaser. However, certain conditions might be for the benefit of both Parties, as in the case of licensure. Obviously both Parties have an interest in ensuring that the practice be transferred to a licensed practitioner.
3. The Purchaser will be interested in ensuring that the Vendor is a resident of Canada at the time of Closing. If the Vendor cannot execute a statutory declaration indicating that he or she is a resident of Canada, the Vendor will have to produce a certificate from Canada Customs and Revenue Agency authorizing the completion of the transaction or alternatively the Purchaser will have to withhold certain funds from closing and submit the funds to Canada Customs and Revenue Agency.
4. The Purchaser and Vendor will have to agree on the specifics relating to the Vendor's agreement not to carry on a practice within a specific location for a specific period of time, otherwise known as a non-competition agreement. The Vendor will generally agree not to carry on practice, as a chiropractor and/or acupuncturist, directly or indirectly, whether as a principal, partner, associate, investor or advisor, within a specific distance from the practice location for a specific period of time (ie. 2 to 5 years) from the date of completion of the agreement. In addition, the Vendor will generally be required to agree for a period of from between 2 to 5 years from the date of closing to not solicit, treat or otherwise advise patients of the practice. It would be wise for the Parties to agree on what patients might be seen by the Vendor after closing as in the case of immediate members of the Vendor's family and those other patients of the practice who might otherwise be inclined to be treated by the Vendor after closing. By setting out specific patients the Agreement will be evidence of the fact that the parties have put their mind to the issue of the reasonableness of the non-competition agreement. In addition, the Purchaser may wish to ensure that the Vendor agrees not to recommend any patient or former patient or the referring sources of Vendor's patients to any other chiropractor other than the Purchaser.
At the present time, there remains a genuine issue as to the enforceability of a non-competition provision. The Court of Appeal of Ontario has recently determined that a non-competition provision would not be enforceable if the issue could have been dealt with effectively by the use of a non-solicitation provision. At a minimum, it is important to consider having a determination of what the damages might be if there is a breach of the provision. If the Purchaser is required to prove the damages which he or she might have suffered as a result of the Vendor breaching his or her non-competition agreement, there may be difficulties if the Purchaser's billings have not actually been affected by the Vendor commencing a practice within the specified geographical area. The Purchaser may also wish to have inserted in the Agreement an acknowledgement by the Vendor that the granting of an injunction would be reasonable upon the Vendor breaching the non-competition agreement.
5. The Purchaser will want to ensure that all of the telephone numbers of the practice are included in the purchase price and that the Vendor will execute all of the documentation which might be necessary to transfer the telephone and facsimile numbers.
6. The Purchaser will want to ensure that the Vendor will be the owner of the assets to be acquired by the Purchaser free of all encumbrances, liens, and security interests. In addition the assets should be in good working order at the time of closing.
Purchase and Sale - Eleventh Post
EW: The assets other than goodwill can be a significant component in the overall value of a practice. With the pace of changing technology and the move to multi-disciplinary and rehabilitation clinics, both the overall cost related to these assets and the degree of obsolescence are becoming more important to its value.
Before assessing a value for a particular asset, a purchaser should first determine if they will utilize that asset in their practice. An asset they won't use has no value as far as the practice is concerned. This issue is extremely important from the vendor's perspective also. To maximize sale value, the vendor should be searching for purchasers who practice in a similar style and who utilize the same types of equipment.
What is the most appropriate measure for value of a particular asset? To determine fair market value, many approaches can be taken. For a practice that has wound down and has no value beyond the equipment, net realizable value might be used. In some cases, this may result in what one may term a "fire sale" price. For a going concern, on the other hand, replacement cost would be a more appropriate measure. In other words, what would it cost to replace the same equipment? Replacement cost can be difficult to assess. As an example, consider the practitioner who has included, in a sale, his well maintained twenty year old x-ray unit. On the one hand, one cannot find a similar machine depreciated for twenty years. On the other hand, its value may be the same as or greater than a newer unit because of its workmanship and features. Obsolescence also affects valuation for similar reasons. As an example, it may be difficult to find an appropriate replacement cost for an old computer. Remember, value in use is the key.
How does one arrive at an appropriate replacement cost? For inventories and supplies, using their purchase costs would be appropriate because of the turnover of the items within a year. For equipment, computers and furniture, there are a few approaches:
1. Book Value: This is the depreciated value from the financial statements. This approach is often used for its simplicity. On its own, it may be useful where the assets are not of significant value. However, extreme caution should be used. At a minimum, the original invoices for the assets should be available and depreciation policies and rates should be reviewed. Often, accelerated rates may be used for tax purposes. A review of the repairs and maintenance account on the financial statements for the previous years may provide a picture of both the maintenance and the degree to which those assets may be wearing down. Where there are significant modalities and rehabilitation equipment involved, this approach is insufficient because the margin of error becomes greater.
2. Replacement Cost New: An approach which is often recommended is to obtain prices from dealers for the listed equipment. The prices obtained are, in fact, the cost to replace the equipment - new. Certainly, in practical terms, it is a useful measure because it addresses the issue of the same equipment. On its own, however, it tends to overstate the value in most cases.
3. Replacement Cost Used: Although this would approximate fair market value, it is often the most difficult to determine. The lack of a large market for used equipment and furniture is partly the reason. This is not to say that one can=t find used equipment - only that in valuing an existing asset it is difficult to find one that is the exact age or condition. To deal with this issue, it is often useful to obtain an independent appraisal. This is particularly important with assets of significant or potentially significant value. For example, if real estate were part of the transaction, one would not hesitate to request an appraisal of the property.
Leasehold improvements is an asset that has many a practitioner confused. Since the landlord owns the property, don't they ultimately own the improvements? Yes.....and.....no. The landlord may own the assets but the tenant owns the right to use those improvements during the term of the lease. This right to use the improvements has value because a purchaser would have to invest in their own improvements if they were to move into new premises. One method to arrive at a value would be to take the original cost and apportion it over the term of the lease. The remaining cost on the date of sale would be the value. From the purchaser's point of view, they should ensure that amounts were expended for actual leasehold improvements and not the recreation room in the vendor's home. An examination of actual invoices would be useful. Also, the lease should be reviewed to see who was responsible for paying for the leaseholds. Sometimes landlords will offer to pay for leaseholds as an incentive to attract tenants. From the vendor's point of view, aggressive tax planning, whereby leaseholds have been written off as repairs can backfire on a sale. This is one reason why planning for a sale is critical.
Finally, two other issues can impact on the value of these assets: Taxes and a corporation. Sometimes the value attributed to certain assets can give rise to unwanted tax implications, such as recaptured depreciation for the vendor or increased sales taxes for the purchaser. From the purchaser's point of view, the more value attributed to assets other than goodwill will result in greater tax savings over time due to the accelerated rate of depreciation.
The corporation can impact the asset values because of the tax implications of using a corporation. A vendor who sells the assets out of a corporation will have to consider the additional tax cost of removing the proceeds from the corporation. We will address other aspects of the impact of a corporation in a future article.
Ultimately, the approaches used to value the assets specifically will depend on the situation, what types of assets, their significance to the overall sale price and the information available.
Before assessing a value for a particular asset, a purchaser should first determine if they will utilize that asset in their practice. An asset they won't use has no value as far as the practice is concerned. This issue is extremely important from the vendor's perspective also. To maximize sale value, the vendor should be searching for purchasers who practice in a similar style and who utilize the same types of equipment.
What is the most appropriate measure for value of a particular asset? To determine fair market value, many approaches can be taken. For a practice that has wound down and has no value beyond the equipment, net realizable value might be used. In some cases, this may result in what one may term a "fire sale" price. For a going concern, on the other hand, replacement cost would be a more appropriate measure. In other words, what would it cost to replace the same equipment? Replacement cost can be difficult to assess. As an example, consider the practitioner who has included, in a sale, his well maintained twenty year old x-ray unit. On the one hand, one cannot find a similar machine depreciated for twenty years. On the other hand, its value may be the same as or greater than a newer unit because of its workmanship and features. Obsolescence also affects valuation for similar reasons. As an example, it may be difficult to find an appropriate replacement cost for an old computer. Remember, value in use is the key.
How does one arrive at an appropriate replacement cost? For inventories and supplies, using their purchase costs would be appropriate because of the turnover of the items within a year. For equipment, computers and furniture, there are a few approaches:
1. Book Value: This is the depreciated value from the financial statements. This approach is often used for its simplicity. On its own, it may be useful where the assets are not of significant value. However, extreme caution should be used. At a minimum, the original invoices for the assets should be available and depreciation policies and rates should be reviewed. Often, accelerated rates may be used for tax purposes. A review of the repairs and maintenance account on the financial statements for the previous years may provide a picture of both the maintenance and the degree to which those assets may be wearing down. Where there are significant modalities and rehabilitation equipment involved, this approach is insufficient because the margin of error becomes greater.
2. Replacement Cost New: An approach which is often recommended is to obtain prices from dealers for the listed equipment. The prices obtained are, in fact, the cost to replace the equipment - new. Certainly, in practical terms, it is a useful measure because it addresses the issue of the same equipment. On its own, however, it tends to overstate the value in most cases.
3. Replacement Cost Used: Although this would approximate fair market value, it is often the most difficult to determine. The lack of a large market for used equipment and furniture is partly the reason. This is not to say that one can=t find used equipment - only that in valuing an existing asset it is difficult to find one that is the exact age or condition. To deal with this issue, it is often useful to obtain an independent appraisal. This is particularly important with assets of significant or potentially significant value. For example, if real estate were part of the transaction, one would not hesitate to request an appraisal of the property.
Leasehold improvements is an asset that has many a practitioner confused. Since the landlord owns the property, don't they ultimately own the improvements? Yes.....and.....no. The landlord may own the assets but the tenant owns the right to use those improvements during the term of the lease. This right to use the improvements has value because a purchaser would have to invest in their own improvements if they were to move into new premises. One method to arrive at a value would be to take the original cost and apportion it over the term of the lease. The remaining cost on the date of sale would be the value. From the purchaser's point of view, they should ensure that amounts were expended for actual leasehold improvements and not the recreation room in the vendor's home. An examination of actual invoices would be useful. Also, the lease should be reviewed to see who was responsible for paying for the leaseholds. Sometimes landlords will offer to pay for leaseholds as an incentive to attract tenants. From the vendor's point of view, aggressive tax planning, whereby leaseholds have been written off as repairs can backfire on a sale. This is one reason why planning for a sale is critical.
Finally, two other issues can impact on the value of these assets: Taxes and a corporation. Sometimes the value attributed to certain assets can give rise to unwanted tax implications, such as recaptured depreciation for the vendor or increased sales taxes for the purchaser. From the purchaser's point of view, the more value attributed to assets other than goodwill will result in greater tax savings over time due to the accelerated rate of depreciation.
The corporation can impact the asset values because of the tax implications of using a corporation. A vendor who sells the assets out of a corporation will have to consider the additional tax cost of removing the proceeds from the corporation. We will address other aspects of the impact of a corporation in a future article.
Ultimately, the approaches used to value the assets specifically will depend on the situation, what types of assets, their significance to the overall sale price and the information available.
More of the List
and the list continues ------
18 white water rafting
19 London, England
20 a weekend on a houseboat
21 standing on the Uffice Bridge
22 spending a day with Gordie Howe
23 preparing a power point presentation
24 Geneva, Switzerland and Lake Geneva Wisconsin
25 being the only passenger on a Piper Navaho
26 one bar mitzvah, two bar mitzvah, three bar mitzvah
27 henna tattoo
28 Oslo, Norway
29 cross country skiing
30 ’65 triumph spitfire
31 14 weddings in 11 months
32 helicopters landing on a ship
33 Hamburg, Germany
34 go karting
35 a magic trick that works
36 Costa Rica
37 rollerblading
38 ’68 mustang
39 Paris, France
40 gondola ride
32 years and time for a change!
Today was not unlike most other days. It is Wednesday. It is September 3rd, and in Toronto, the weather is sunny and warm. At CMCC the students are back in class and the world evolves in spite of itself.
But, for me things are not the same old same old. For the first time since September, 1976 I am not lecturing a class at CMCC. It is kind of sad. I still showed up at the College before 8:00 a.m. albeit on a motorcycle. Had some meetings, did what I had to do and then that was it. No class, no lecture, no nothing. So it was either time to go to the office or to do something different. The choice was easy.
I met up with Dr. John Cosgrove (’77) and on motorcycles we traveled to Collingwood to go for a motorcycle ride with Dr. John McLean (’51). Yes you are reading that correctly. He graduated in 1951, has a full head of hair, doesn’t wear glasses, is 85 years of age and rides one of the biggest motorcycles around – an 1800cc Honda VTX – and he rides it like he stole it!
For those of you who may be evidenced based practitioners (whatever that means) – all you have to do is look at Dr. McLean and realize that there must be something about being a chiropractor and naturopath that adds something to the quality of life.
Most of us hope to be mobile when we are 85 years old. Me – I want to be mobile on a two wheel motorcycle when I am the same age as Dr. McLean – that is 85 years young!
So back to today. I have decided that it is time that I start listing the things that should be done during a lifetime. A little like “100 things to do before you die”. But not quite. My list is for me -- the things that I have done that most people have not. I urge you to do the same. If the list is short – then you should start changing your ways.
My list goes something like this:
1. graduated from law school
2. taught for 32 years
3. writing articles for publication
4. eating donkey sausage in Cinzano
5. a sea cruise
6. a bungie jump
7. ballroom dancing
8. motorcycling – as in two iron butt rides of 1000 miles in 24 hours and 1500 miles in 36 hours
9. flying over the grand canyon
10. Lake Louise
11. driving the Blue Ridge Parkway
12. proctoring an examination
13. receiving a phone call on a plane
14. winning a bowling tournament with a score of 312 out of a possible 300
15. mojitos and cigars in Cuba
16. fishing but not wanting to catch any fish
17. New York, New York
I don’t know how unusual any of that list might be – but I sure would like to review the list of other people to know what I am missing. I already know that I am not going to climb a mountain (ask Dr. Gord Lawson – he has been there and done that); or run across a desert in Africa (ask Dr. Luc Laviguere – he has been there and done that).
So if you have a list share it and I will post it. It isn’t bragging – it is giving others an indication of what can be done. So as the day comes to a close – I look back and realize that I can add another number to my list -- I went motorcycling with an 85 year old chiropractor. Who would have thunk it !!!!!!
But, for me things are not the same old same old. For the first time since September, 1976 I am not lecturing a class at CMCC. It is kind of sad. I still showed up at the College before 8:00 a.m. albeit on a motorcycle. Had some meetings, did what I had to do and then that was it. No class, no lecture, no nothing. So it was either time to go to the office or to do something different. The choice was easy.
I met up with Dr. John Cosgrove (’77) and on motorcycles we traveled to Collingwood to go for a motorcycle ride with Dr. John McLean (’51). Yes you are reading that correctly. He graduated in 1951, has a full head of hair, doesn’t wear glasses, is 85 years of age and rides one of the biggest motorcycles around – an 1800cc Honda VTX – and he rides it like he stole it!
For those of you who may be evidenced based practitioners (whatever that means) – all you have to do is look at Dr. McLean and realize that there must be something about being a chiropractor and naturopath that adds something to the quality of life.
Most of us hope to be mobile when we are 85 years old. Me – I want to be mobile on a two wheel motorcycle when I am the same age as Dr. McLean – that is 85 years young!
So back to today. I have decided that it is time that I start listing the things that should be done during a lifetime. A little like “100 things to do before you die”. But not quite. My list is for me -- the things that I have done that most people have not. I urge you to do the same. If the list is short – then you should start changing your ways.
My list goes something like this:
1. graduated from law school
2. taught for 32 years
3. writing articles for publication
4. eating donkey sausage in Cinzano
5. a sea cruise
6. a bungie jump
7. ballroom dancing
8. motorcycling – as in two iron butt rides of 1000 miles in 24 hours and 1500 miles in 36 hours
9. flying over the grand canyon
10. Lake Louise
11. driving the Blue Ridge Parkway
12. proctoring an examination
13. receiving a phone call on a plane
14. winning a bowling tournament with a score of 312 out of a possible 300
15. mojitos and cigars in Cuba
16. fishing but not wanting to catch any fish
17. New York, New York
I don’t know how unusual any of that list might be – but I sure would like to review the list of other people to know what I am missing. I already know that I am not going to climb a mountain (ask Dr. Gord Lawson – he has been there and done that); or run across a desert in Africa (ask Dr. Luc Laviguere – he has been there and done that).
So if you have a list share it and I will post it. It isn’t bragging – it is giving others an indication of what can be done. So as the day comes to a close – I look back and realize that I can add another number to my list -- I went motorcycling with an 85 year old chiropractor. Who would have thunk it !!!!!!
Purchase and Sale - Tenth Post
AF: Having dealt with the value of the practice, it is important to keep in mind that the purchase price will be based not only of the value of the practice but additional factors such as the timing of the practice in terms of whether the vendor requires an expeditious completion of the transaction; how the practice is to be financed; and what is included in the purchase price. As in the discussions which have taken place concerning associateships, many of the issues involved in a Sale/Purchase of a chiropractic practice are interwoven as part of a big picture. It would be foolhardy and quite impractical to deal with any particular issues such as billings or a purchase price without looking at other issues such as staff turnover, what assets are included or the patient base. As such, the topic of which have been dealt with previously may well be raised again in a different context or as indicated, in the "big picture."
What should be included in the transfer of a practice, and just as importantly what constraints do the parties have in dealing with assets of the practice?
It would appear to be trite to indicate that a vendor can only sell what a vendor owns. However that is not necessarily the rule that governs a commercial transaction. The better principle to work by is that a "vendor has the right to transfer any interest which he, she or it may have in an asset subject to any constraints which may be placed on that transfer." For example, with respect to a computer that a doctor may have purchased, he or she may sell the computer to a purchaser, if there is no lien placed upon the equipment; if the equipment is actually owned and not leased; and if the doctor is the owner as compared to a management company. In any event, even if the computer can be sold, it is surely also trite to indicate that the computer software cannot be sold B it can only be assigned pursuant to the software agreement which generally exists and governs the acquisition of the software by a person purchasing the software from a retail vendor.
If equipment is the subject matter of a lien by a lender such as a financial institution, it is imperative that the vendors ensure that the lien can be lifted prior to the completion of the transaction or by using the proceeds obtained at the closing of the transaction. Vendors obligate themselves to discharge such liens pursuant to the Agreement of Purchase and Sale. This principle likewise applies to equipment that is leased. If the purchaser is to assume the lease then the Vendor should ensure that the lease agreement can be transferred to the purchaser and at what cost prior to signing any sale agreement. The leasing company may require that the vendor purchase the equipment or "pay off" the lease prior to any transfer of the equipment.
If the equipment is owned by a management company then it is imperative that the Vendors ensure that the management company is a party to the sale agreement. A vendor would not want to be surprised, at closing, by a management company that he or she may not control which is unwilling to transfer the assets.
The Purchaser should review the practice location of the Vendor very carefully to ascertain what is to be included at the time of the closing of the transaction. The list of assets being transferred would include a comprehensive list of each assets and might include the following: receptionist desk, chair, reception shares, end table, pictures, filing cabinets, telephone system, radio, television, refrigerator, fax machine, photocopier, computer, assignment of computer software, exterior sign box and sign, treatment tables, view box, x-ray, developer, office desk, chairs, skeleton, fire extinguisher, smoke detector, plants. This list is by no means comprehensive. A purchaser would be well served by visiting the location at least twice to ensure that a comprehensive list of assets to be included in the purchase agreement was actually created.
With respect to assets such as an x-ray machine, photocopier, computer, etc., a purchaser should have a provision inserted in the Offer whereby the Vendor agrees that the assets will be in good working order on closing. While the assets should be in the same condition which existed at the time that the Offer was presented (with or without a clause requiring them to be in good working order) it is not uncommon for a purchaser to fail to examine and try all equipment prior to the Offer being signed. This is a clear example of when the principle "let the buyer beware" applies.
In addition to the assets previously mentioned, a purchaser should have specific regard to the following assets:
1. Patient Files: The files should be transferred to the purchaser in their entirety. This should include all old files (which may be used to reactivate a relationship between the doctor and a patient) in the possession of the vendor together with all x-rays relating to the files. The vendor should require that the purchaser maintain the records for at least 7 years after the completion of the transaction and in addition, the vendor should ensure that he or she has reasonable access to the files or a copy of them if required by law (this might include matters such as a malpractice claim; billing dispute; a licensing board issue; or an income tax audit).
2. Financial Records: In so far as the Purchaser might require financial records for the ongoing care of patients or the maintaining of the practice, the purchaser should obtain such financial records. Again, the vendor should ensure that he or she has access to the records as may be reasonably required and that such records are not destroyed except in accordance with the sale agreement.
3. Supplies: Any supplies which are customarily maintained at the practice should be included in the purchase price. The vendor should agree to maintain the level of supplies in its usual quantity.
4. Inventory: If the vendor maintains products such as orthotics, vitamins or back supports, the purchaser will want to ensure that they are being acquired at the cost that the vendor paid, and secondly, that the inventory is in merchantable condition, that is, that each of the products is saleable, ie. the packaging is in a proper condition and/or the product has not reached or is about to reach its expiry date. In addition, the purchaser will want to ensure that the level of the inventory of the vendor is maintained in its usual capacity.
5. The computer software will require, as indicated, an assignment of the software licence agreements. If such software is created by a particular software producer, the licence agreements should be reviewed carefully to determine whether there are any restrictions affecting the transfer of the software in addition to the cost associated with the transfer.
The Vendor should ensure that any assets which are to be transferred to the Purchaser are subject to a Bill of Sale being provided to the purchaser. If assets are leased then the terms and conditions of the leasing arrangements should be reviewed carefully and dealt with in accordance with the lease and the purchase agreements. It is most important that the Vendor review any appropriate documentation relating to the ownership and leasing of equipment prior to executing an agreement relating to the sale of a practice. Being surprised after signing an agreement can be an expensive enterprise.
From the position of the Purchaser the assets which are specified in the Agreement of Purchase and Sale must be in existence at the time of closing, in good working order and free and clear of all encumbrances. A Purchaser who has paid a significant amount of money for a practice will be loath to have to expend any further funds to equip the office, whether that involves the replacement or addition of assets. The fact that a Vendor has an extensive amount of assets is of little concern to a Purchaser who is generally concerned only with the amount of the purchase price and the ability to maintain the practice in its previous state after the completion of the transaction.
What should be included in the transfer of a practice, and just as importantly what constraints do the parties have in dealing with assets of the practice?
It would appear to be trite to indicate that a vendor can only sell what a vendor owns. However that is not necessarily the rule that governs a commercial transaction. The better principle to work by is that a "vendor has the right to transfer any interest which he, she or it may have in an asset subject to any constraints which may be placed on that transfer." For example, with respect to a computer that a doctor may have purchased, he or she may sell the computer to a purchaser, if there is no lien placed upon the equipment; if the equipment is actually owned and not leased; and if the doctor is the owner as compared to a management company. In any event, even if the computer can be sold, it is surely also trite to indicate that the computer software cannot be sold B it can only be assigned pursuant to the software agreement which generally exists and governs the acquisition of the software by a person purchasing the software from a retail vendor.
If equipment is the subject matter of a lien by a lender such as a financial institution, it is imperative that the vendors ensure that the lien can be lifted prior to the completion of the transaction or by using the proceeds obtained at the closing of the transaction. Vendors obligate themselves to discharge such liens pursuant to the Agreement of Purchase and Sale. This principle likewise applies to equipment that is leased. If the purchaser is to assume the lease then the Vendor should ensure that the lease agreement can be transferred to the purchaser and at what cost prior to signing any sale agreement. The leasing company may require that the vendor purchase the equipment or "pay off" the lease prior to any transfer of the equipment.
If the equipment is owned by a management company then it is imperative that the Vendors ensure that the management company is a party to the sale agreement. A vendor would not want to be surprised, at closing, by a management company that he or she may not control which is unwilling to transfer the assets.
The Purchaser should review the practice location of the Vendor very carefully to ascertain what is to be included at the time of the closing of the transaction. The list of assets being transferred would include a comprehensive list of each assets and might include the following: receptionist desk, chair, reception shares, end table, pictures, filing cabinets, telephone system, radio, television, refrigerator, fax machine, photocopier, computer, assignment of computer software, exterior sign box and sign, treatment tables, view box, x-ray, developer, office desk, chairs, skeleton, fire extinguisher, smoke detector, plants. This list is by no means comprehensive. A purchaser would be well served by visiting the location at least twice to ensure that a comprehensive list of assets to be included in the purchase agreement was actually created.
With respect to assets such as an x-ray machine, photocopier, computer, etc., a purchaser should have a provision inserted in the Offer whereby the Vendor agrees that the assets will be in good working order on closing. While the assets should be in the same condition which existed at the time that the Offer was presented (with or without a clause requiring them to be in good working order) it is not uncommon for a purchaser to fail to examine and try all equipment prior to the Offer being signed. This is a clear example of when the principle "let the buyer beware" applies.
In addition to the assets previously mentioned, a purchaser should have specific regard to the following assets:
1. Patient Files: The files should be transferred to the purchaser in their entirety. This should include all old files (which may be used to reactivate a relationship between the doctor and a patient) in the possession of the vendor together with all x-rays relating to the files. The vendor should require that the purchaser maintain the records for at least 7 years after the completion of the transaction and in addition, the vendor should ensure that he or she has reasonable access to the files or a copy of them if required by law (this might include matters such as a malpractice claim; billing dispute; a licensing board issue; or an income tax audit).
2. Financial Records: In so far as the Purchaser might require financial records for the ongoing care of patients or the maintaining of the practice, the purchaser should obtain such financial records. Again, the vendor should ensure that he or she has access to the records as may be reasonably required and that such records are not destroyed except in accordance with the sale agreement.
3. Supplies: Any supplies which are customarily maintained at the practice should be included in the purchase price. The vendor should agree to maintain the level of supplies in its usual quantity.
4. Inventory: If the vendor maintains products such as orthotics, vitamins or back supports, the purchaser will want to ensure that they are being acquired at the cost that the vendor paid, and secondly, that the inventory is in merchantable condition, that is, that each of the products is saleable, ie. the packaging is in a proper condition and/or the product has not reached or is about to reach its expiry date. In addition, the purchaser will want to ensure that the level of the inventory of the vendor is maintained in its usual capacity.
5. The computer software will require, as indicated, an assignment of the software licence agreements. If such software is created by a particular software producer, the licence agreements should be reviewed carefully to determine whether there are any restrictions affecting the transfer of the software in addition to the cost associated with the transfer.
The Vendor should ensure that any assets which are to be transferred to the Purchaser are subject to a Bill of Sale being provided to the purchaser. If assets are leased then the terms and conditions of the leasing arrangements should be reviewed carefully and dealt with in accordance with the lease and the purchase agreements. It is most important that the Vendor review any appropriate documentation relating to the ownership and leasing of equipment prior to executing an agreement relating to the sale of a practice. Being surprised after signing an agreement can be an expensive enterprise.
From the position of the Purchaser the assets which are specified in the Agreement of Purchase and Sale must be in existence at the time of closing, in good working order and free and clear of all encumbrances. A Purchaser who has paid a significant amount of money for a practice will be loath to have to expend any further funds to equip the office, whether that involves the replacement or addition of assets. The fact that a Vendor has an extensive amount of assets is of little concern to a Purchaser who is generally concerned only with the amount of the purchase price and the ability to maintain the practice in its previous state after the completion of the transaction.
Purchase and Sale - Ninth Post
OTHER ISSUES
There are other approaches for the valuation of a practice, but they are generally used to confirm a value determined by another approach.
Other factors can enter into the valuation of a practice and make it more complicated. A major factor is the involvement of a corporation. With its inherent separation from the individual, income tax implications can enter into the calculation. Similarly, the allocation of the purchase price between tangible assets and goodwill can cause subtle or large changes in overall value.
Another factor is the effect of an associate or partnership arrangement. This may affect the ability to sell and, in the case of partnership, the income tax implications can affect the price.
The multi-disciplinary clinic brings its own issues. Will the potential purchaser be acquiring all aspects of the clinic? If so, there are different valuation issues for the other specialties.
Finally, consideration should be given to the potential for a "special purchaser" who perceives an even greater benefit and who may be willing to pay more than the average purchaser.
It should be evident to both potential purchasers and vendors that the value is a reflection of the practice as a whole. The illusion that a practice is worth a fixed percentage of historical revenue, regardless of the present circumstances, should give way to a clearer understanding of what factors really count in determining the value of a practice.
AMF:
The effort which is required to determine the value of a practice should take into consideration the fact that unlike real estate and commercial operations such as restaurants, and retail establishments the transfer of a professional practice involves to a very large extent the transfer of a practitioner's history as a doctor. The bottom line for any purchaser must be his or her ability to have earnings continue to be generated from the practice.
For a prospective vendor and/or purchaser the rumors, generalities, rules, policies, attitudes and guidelines involving the price to be paid for a practice abound in multitudes. "Everyone" has an opinion and "everyone" will provide guidance to a purchaser or vendor in terms of what he or she can expect to pay or receive from a sale of a practice. While it would be optimum to quote a textbook, study or economic principle that could be used as the guiding light for participants in a transfer of a professional practice relating solely to that of a chiropractor, alas, such does not exist to the knowledge of the writer.
If experience is any indicator of what transpires in the transfer of a chiropractic practice, (and having spent twenty-five years participating in the professional guidance of chiropractors) then generalities based upon experience may be the best indicator of what will result from the negotiations involving the establishment of the price relating to the transfer of a chiropractic practice. It is the experience of the writer that when all is said and done, and the experts have reviewed the practice to establish the sale price based upon billings, taking into account past revenues, receivables, equipment, leasehold improvements, etc., etc., etc., the parties ultimately will arrive at a value having regard to the billings. In the area of real estate acquisition it has been stated that the three most important factors in establishing the value of a property are location, location and location. In the area of practice valuations relating to chiropractic practices, the three most important factors are billings, billings and billings.
In addition, It is the experience of the writer that the parties must direct themselves to considering how revenue is generated from the practice. Obviously any general rule is subject to exception and should be adopted with careful consideration. No purchaser should be acquiring a practice for a "generally accepted" percentage of billings averaged over a number of years when the billings are decreasing.
However, just as important are the consideration which add to the discussion concerning the value of the practice in terms of the equipment, leasehold improvements and other assets. It is unlikely that a purchaser will be willing to acquire substantial equipment for a substantial price when such equipment does little to increase the billings of the practice. It is the position of the writer that historically, while a value is given to equipment and other assets, the value of the practice will be somewhere between 2/3 and 3/4 of a year's billings averaged over three years. From that starting point the value will go up or down depending on all of the factors which have been previously discussed including such matters as location, security of the lease, referral base, type of practice, turnover period, security of billings, name of practice, state of equipment, staff, financing by the vendor, etc.
For the purposes of establishing a value attributable to a chiropractic practice the golden rule can be enunciated in two words: "Status Quo" -- that being, "the more that can stay the same, the more the practice is worth!"
There are other approaches for the valuation of a practice, but they are generally used to confirm a value determined by another approach.
Other factors can enter into the valuation of a practice and make it more complicated. A major factor is the involvement of a corporation. With its inherent separation from the individual, income tax implications can enter into the calculation. Similarly, the allocation of the purchase price between tangible assets and goodwill can cause subtle or large changes in overall value.
Another factor is the effect of an associate or partnership arrangement. This may affect the ability to sell and, in the case of partnership, the income tax implications can affect the price.
The multi-disciplinary clinic brings its own issues. Will the potential purchaser be acquiring all aspects of the clinic? If so, there are different valuation issues for the other specialties.
Finally, consideration should be given to the potential for a "special purchaser" who perceives an even greater benefit and who may be willing to pay more than the average purchaser.
It should be evident to both potential purchasers and vendors that the value is a reflection of the practice as a whole. The illusion that a practice is worth a fixed percentage of historical revenue, regardless of the present circumstances, should give way to a clearer understanding of what factors really count in determining the value of a practice.
AMF:
The effort which is required to determine the value of a practice should take into consideration the fact that unlike real estate and commercial operations such as restaurants, and retail establishments the transfer of a professional practice involves to a very large extent the transfer of a practitioner's history as a doctor. The bottom line for any purchaser must be his or her ability to have earnings continue to be generated from the practice.
For a prospective vendor and/or purchaser the rumors, generalities, rules, policies, attitudes and guidelines involving the price to be paid for a practice abound in multitudes. "Everyone" has an opinion and "everyone" will provide guidance to a purchaser or vendor in terms of what he or she can expect to pay or receive from a sale of a practice. While it would be optimum to quote a textbook, study or economic principle that could be used as the guiding light for participants in a transfer of a professional practice relating solely to that of a chiropractor, alas, such does not exist to the knowledge of the writer.
If experience is any indicator of what transpires in the transfer of a chiropractic practice, (and having spent twenty-five years participating in the professional guidance of chiropractors) then generalities based upon experience may be the best indicator of what will result from the negotiations involving the establishment of the price relating to the transfer of a chiropractic practice. It is the experience of the writer that when all is said and done, and the experts have reviewed the practice to establish the sale price based upon billings, taking into account past revenues, receivables, equipment, leasehold improvements, etc., etc., etc., the parties ultimately will arrive at a value having regard to the billings. In the area of real estate acquisition it has been stated that the three most important factors in establishing the value of a property are location, location and location. In the area of practice valuations relating to chiropractic practices, the three most important factors are billings, billings and billings.
In addition, It is the experience of the writer that the parties must direct themselves to considering how revenue is generated from the practice. Obviously any general rule is subject to exception and should be adopted with careful consideration. No purchaser should be acquiring a practice for a "generally accepted" percentage of billings averaged over a number of years when the billings are decreasing.
However, just as important are the consideration which add to the discussion concerning the value of the practice in terms of the equipment, leasehold improvements and other assets. It is unlikely that a purchaser will be willing to acquire substantial equipment for a substantial price when such equipment does little to increase the billings of the practice. It is the position of the writer that historically, while a value is given to equipment and other assets, the value of the practice will be somewhere between 2/3 and 3/4 of a year's billings averaged over three years. From that starting point the value will go up or down depending on all of the factors which have been previously discussed including such matters as location, security of the lease, referral base, type of practice, turnover period, security of billings, name of practice, state of equipment, staff, financing by the vendor, etc.
For the purposes of establishing a value attributable to a chiropractic practice the golden rule can be enunciated in two words: "Status Quo" -- that being, "the more that can stay the same, the more the practice is worth!"
Purchase and Sale - Eight Post
EW: The conceptual framework for valuation of a practice has been examined in the previous article. We now look at practical approaches to determining value. They include: Net asset value, comparable market, and approaches based on earnings.
NET ASSET VALUE
This approach is used where the practice has wound down and there is no value beyond selling the equipment and other tangible assets. It is also used where the goodwill of the practice is of a personal nature, and therefore, not transferable or saleable. This personal goodwill represents the personal skills, techniques, experience and contacts of the individual chiropractor. Lastly, it is used in the valuation of a successful practice, going-concern, where the tangible assets are determined and valued separately from the goodwill.
Net asset value can be determined in a few ways. The simplistic approach would be to value the tangible assets (eg. Equipment, furniture, etc.) at their depreciated book value on the financial statements. This may be applicable where their value in use closely approximates book value. Often, adjustments have to be made to book value, either increasing or decreasing the value. An example of an adjustment would be for land and building, where they are included in the sale of the practice. They would have to be adjusted to reflect outside appraisal. Another type of adjustment may be to reflect costs of liquidation where a practice may be closing or be subject to a bankruptcy situation. In that situation, a purchaser could be acquiring someone=s used equipment at bargain prices.
COMPARABLE MARKET
This approach determines the value by comparing it to other practices that have been sold close to the date of valuation. Most of us are familiar with this approach, especially as it pertains to real estate. Unlike real estate, however, transactions involving chiropractors tend to be private and there are not many comparable practices for sale at any given time. Many times, practitioners will make reference to a practice which they have heard has been sold at a given price and suggest that they be entitled to at least the same since their practices are similar. Since there are a multitude of factors which affect the value (see previous articles), NO TWO PRACTICES ARE ALIKE!
Clearly, to be useful as the primary valuation approach, one needs a large sample of practices sold with all relevant factors addressed. Because of its inherent drawbacks, this approach is most often used as a reality check with which to assess a value using another method.
EARNINGS BASED APPROACHES
In all cases, earnings based approaches assume the continuation of the practice after its sale known as a going concern assumption. The purpose is to determine a price which will provide to the purchaser a return on their investment at a rate of return that is acceptable to them, given the risk inherent in the practice. To many this may appear odd, talking about a practice as if it were, say, an investment in stocks or mutual funds. However, one must use the same theoretical approach to purchasing this type of business or any other. That return on investment, as described in the previous article, is the expected cash flow that the practice is expected to produce in the future. Expected cash flow is most often represented by maintainable earnings. In other words, what level of revenue less expenses can be expected to occur in the future based on the existing practice.
Capitalization of Maintainable Earnings
In its most simplistic form, this method looks at historical profits over a period of years and adjusts those profits for unusual items. Those items could include removing salaries to family members, eliminating revenues from revenue sources which will not continue in the future and adjusting for conditions which will change with the sale of the practice. The profits would typically be averaged to come up with a figure for maintainable earnings. However, to use previous years profits, or use an average only apply if the historical profits are an indication of the future. A practice which is on the downswing or is suddenly incurring excessive expenses would not be assessed based on distant history. Similarly, a practice which is experiencing significant growth should not be penalized by sticking to outdated numbers. In those cases, the more recent profits are often an indication of maintainable earnings and would be used.
Once a maintainable earnings amount is established, it is then necessary to capitalize those earnings to determine a value. This process involves assessing the risk inherent with achieving the level of earnings and deriving a capitalization rate. In previous articles, we have listed many of the factors affecting risk. The capitalization rate is more often referred to as a multiple. Therefore, the lower the risk, the higher the multiple. Multiples can vary from 2 times to five times earnings depending on the risk and whether a salary for the practitioner has been assumed in the expenses. There are a number of variations of this method. Even so, it is still the most comprehensive approach because it encompasses the revenues and the expenses, as well as the assets.
Maintainable Fee Revenue
This popular method, in its most simplistic form, looks at historical revenues over a period of years and capitalizes an average at a rate which reflects risk in order to determine goodwill. Similar to the earnings method, revenue should be adjusted for non-recurring income and, often ignore historical revenue in favour of more recent relevant data, particularly where there have been recent changes in the practice. The capitalization rate which considers all the risk factors is calculated by percentage. The lower the risk, the higher the percentage. Utilizing this method, a value for a chiropractic practice could vary from 20% to 70% of annual maintainable revenue plus tangible asset value.
This method suggests that revenue is the key determinant of cash flow. It further assumes that there exists a constant relationship between revenue and that cash flow. Because of its simplicity, the maintainable revenue approach has become a "rule of thumb" for the valuation of many professional practices, including chiropractors. Its simplicity is also its weakness, because it ignores the fact that some practices may pay higher than average rent, or be more efficient with their overhead. Some may have associates to whom they pay a portion of the fees billed. Because of these deficiencies, this method should be used with caution and can be used as a reality check with a valuation based on earnings.
NET ASSET VALUE
This approach is used where the practice has wound down and there is no value beyond selling the equipment and other tangible assets. It is also used where the goodwill of the practice is of a personal nature, and therefore, not transferable or saleable. This personal goodwill represents the personal skills, techniques, experience and contacts of the individual chiropractor. Lastly, it is used in the valuation of a successful practice, going-concern, where the tangible assets are determined and valued separately from the goodwill.
Net asset value can be determined in a few ways. The simplistic approach would be to value the tangible assets (eg. Equipment, furniture, etc.) at their depreciated book value on the financial statements. This may be applicable where their value in use closely approximates book value. Often, adjustments have to be made to book value, either increasing or decreasing the value. An example of an adjustment would be for land and building, where they are included in the sale of the practice. They would have to be adjusted to reflect outside appraisal. Another type of adjustment may be to reflect costs of liquidation where a practice may be closing or be subject to a bankruptcy situation. In that situation, a purchaser could be acquiring someone=s used equipment at bargain prices.
COMPARABLE MARKET
This approach determines the value by comparing it to other practices that have been sold close to the date of valuation. Most of us are familiar with this approach, especially as it pertains to real estate. Unlike real estate, however, transactions involving chiropractors tend to be private and there are not many comparable practices for sale at any given time. Many times, practitioners will make reference to a practice which they have heard has been sold at a given price and suggest that they be entitled to at least the same since their practices are similar. Since there are a multitude of factors which affect the value (see previous articles), NO TWO PRACTICES ARE ALIKE!
Clearly, to be useful as the primary valuation approach, one needs a large sample of practices sold with all relevant factors addressed. Because of its inherent drawbacks, this approach is most often used as a reality check with which to assess a value using another method.
EARNINGS BASED APPROACHES
In all cases, earnings based approaches assume the continuation of the practice after its sale known as a going concern assumption. The purpose is to determine a price which will provide to the purchaser a return on their investment at a rate of return that is acceptable to them, given the risk inherent in the practice. To many this may appear odd, talking about a practice as if it were, say, an investment in stocks or mutual funds. However, one must use the same theoretical approach to purchasing this type of business or any other. That return on investment, as described in the previous article, is the expected cash flow that the practice is expected to produce in the future. Expected cash flow is most often represented by maintainable earnings. In other words, what level of revenue less expenses can be expected to occur in the future based on the existing practice.
Capitalization of Maintainable Earnings
In its most simplistic form, this method looks at historical profits over a period of years and adjusts those profits for unusual items. Those items could include removing salaries to family members, eliminating revenues from revenue sources which will not continue in the future and adjusting for conditions which will change with the sale of the practice. The profits would typically be averaged to come up with a figure for maintainable earnings. However, to use previous years profits, or use an average only apply if the historical profits are an indication of the future. A practice which is on the downswing or is suddenly incurring excessive expenses would not be assessed based on distant history. Similarly, a practice which is experiencing significant growth should not be penalized by sticking to outdated numbers. In those cases, the more recent profits are often an indication of maintainable earnings and would be used.
Once a maintainable earnings amount is established, it is then necessary to capitalize those earnings to determine a value. This process involves assessing the risk inherent with achieving the level of earnings and deriving a capitalization rate. In previous articles, we have listed many of the factors affecting risk. The capitalization rate is more often referred to as a multiple. Therefore, the lower the risk, the higher the multiple. Multiples can vary from 2 times to five times earnings depending on the risk and whether a salary for the practitioner has been assumed in the expenses. There are a number of variations of this method. Even so, it is still the most comprehensive approach because it encompasses the revenues and the expenses, as well as the assets.
Maintainable Fee Revenue
This popular method, in its most simplistic form, looks at historical revenues over a period of years and capitalizes an average at a rate which reflects risk in order to determine goodwill. Similar to the earnings method, revenue should be adjusted for non-recurring income and, often ignore historical revenue in favour of more recent relevant data, particularly where there have been recent changes in the practice. The capitalization rate which considers all the risk factors is calculated by percentage. The lower the risk, the higher the percentage. Utilizing this method, a value for a chiropractic practice could vary from 20% to 70% of annual maintainable revenue plus tangible asset value.
This method suggests that revenue is the key determinant of cash flow. It further assumes that there exists a constant relationship between revenue and that cash flow. Because of its simplicity, the maintainable revenue approach has become a "rule of thumb" for the valuation of many professional practices, including chiropractors. Its simplicity is also its weakness, because it ignores the fact that some practices may pay higher than average rent, or be more efficient with their overhead. Some may have associates to whom they pay a portion of the fees billed. Because of these deficiencies, this method should be used with caution and can be used as a reality check with a valuation based on earnings.
Subscribe to:
Posts (Atom)
