Don’t make a business transfer without understanding buy-sell agreements

Building a healthcare practice can be a lifelong commitment. But events such as divorce, the addition or departure of a new business partner, or the need to sell your practice and embark on a new venture can curtail that relationship.

Whether a transition is formally planned or not, there are many good reasons to consider a business valuation for your healthcare practice. Compliance requirements, partnership agreements and disputes may need a formalized statement of worth, but divorce (when the practice gets caught in the marital estate) and buy-sell transactions are the most common situations.

Pros and cons of three buy-sell agreements

Buy-sell agreements are a tool to aid in the process of transferring interests between owners. Depending on your circumstances, there are three main types of buy-sell agreements to consider: (1) fixed-price agreements, (2) formula agreements and, (3) process agreements.

Fixed-price agreements are the simplest of the three types. Because a fixed-price agreement is expressed in concrete dollar values, it is easy to understand and relatively inexpensive to obtain. However, such values included in these agreements can be quickly outdated and difficult to manage over time. To reap the benefit of a fixed-price valuation, you’ll have to invest time in the practice. These types of agreements reward the last person standing.

Formula agreements are another option when it comes to buy-sell provisions. A formula agreement uses a single formula applied to an income statement or balance sheet to arrive at a value. For example, it may be appropriate to apply the formula of 5x EBITDA (earnings before interest, taxes, depreciation and amortization) to your practice. In this scenario, the valuation is easy to understand and flexible enough to change over time with market conditions. However, changes in health care or the specialty might cause the multiple to become outdated.

Of the three types of buy-sell agreements, the process agreement is generally the best one for most situations. Process agreements typically arrive at the most accurate value of the practice, and utilize the expertise of one or more appraisers. These types of agreements are more expensive, but are the best option for most scenarios, as they are the most thorough and consider the impact of changes in the industry.

Choosing the right kind of buy-sell agreement now can save you and your practice time and money in the long run. Clark Schaefer Hackett’s healthcare and business valuation experts can provide guidance for your specific situation and plans.

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