How to understand the difference among potential buyers of your medical practice

Understand who you are selling your medical practice to before you sign: ©KMPZZZ - stock.adobe.com

When physicians and medical groups consider selling their practice or entering a strategic partnership, they are often approached by various potential buyers or partners, which most commonly include hospitals and health systems, private equity (PE) firms, and other health care companies such as large medical groups or health care management organizations. Each type of potential “transaction partner” brings distinct structures, cultures, incentives, and long-term implications. Understanding these differences is essential for making an informed decision that aligns with professional, financial, and personal goals.

Transaction structure and valuation

Hospitals and health systems

Hospital and health system transactions are typically structured as asset purchases and employment agreements. Valuations in hospital transactions must comply with fair market value requirements under regulatory frameworks such as the Stark Law and Anti-Kickback Statute, and for nonprofit hospitals, the tax-exempt organization rules of the IRS. This regulatory environment sometimes results in more conservative (lower) valuations that may not be competitive with other offers.

Private equity platforms

Transactions with PE platforms are usually structured as a sale of the practice’s assets, employment agreements and ongoing ownership alignment through “rollover equity” in the platform. PE firms generally value practices based on a multiple of adjusted EBITDA (earnings before interest, taxes, depreciation, and amortization), including a reduction or normalization (aka “scrape”) of partner compensation to arrive at adjusted EBITDA.

Consideration in PE deals is typically split between cash at closing (60-70%) and rollover equity (30-40%), allowing physicians to participate in future growth and potentially benefit from a subsequent sale when the PE firm later exits the investment.It is also possible that the rollover equity could decrease in value if the PE platform faces operational challenges, or has issues with regard to retention and growth.

Other health care companies

Deals with other large health care companies—such as large medical groups, health plans, or health care companies—can vary significantly depending on each particular buyer’s strategic objectives and transaction circumstances. Valuations from these buyers also may vary widely based on strategic fit, potential synergies, and growth objectives. Payment terms can include all cash, all equity, or hybrid arrangements, and may incorporate earnouts or performance-based payments.

Post-transaction employment compensation

Hospitals and health systems

Hospital deals typically involve physicians becoming hospital employees subject to the institution’s employment policies, compensation plans, and benefits packages. Hospitals often implement standardized protocols, scheduling systems, and administrative processes across their employed physician networks. This structure can provide the stability of predictable compensation, depending on productivity levels and consistency with changing “fair market value” standards, but generally do not allow for sharing in ancillary service revenues.

Private equity platforms

PE transactions generally involve physicians entering new employment agreements with compensation plans that typically emphasize productivity and growth incentives, including “compliant” splitting of profits from ancillary services.While increased productivity is encouraged, lower-than-historic productivity can carry various ramifications and disincentives.

Other health care companies

Other potential consolidators present highly variable employment structures. Physicians may become employees, partners, or independent contractors, depending on the transaction structure—but most of these companies, like hospitals, require physicians to “fall into line” with their existing policies and procedures, including compensation structure and benefit plans.

Non-compete and restrictive covenants

Non-compete clauses are standard across health care transactions, but an increasing number of states have enacted laws prohibiting or limiting noncompetes for physicians.

Hospital and health systems

Hospital employment agreements typically include non-compete clauses, but in certain circumstances, hospitals may exhibit some flexibility in negotiating non-compete clauses, for example:(a) only restricting post-employment arrangements with the hospital’s competitors in the region, or a relatively small area; or (b) having such clauses not apply if the hospital terminates the physician without cause or due to a compliance reason. Other hospitals, however, may insist on strict noncompetes and consistency among all doctors.

Private equity platform

PE purchase agreements commonly include comprehensive five-year noncompete agreements covering broad geographic areas. Further, noncompete provisions are also included in employment contracts and rollover equity agreements, without any flexibility.

Pay particular attention to noncompetes in rollover equity agreements, which can have the effect of extending an employment agreement’s noncompete. This could happen if a physician’s employment ends after the five-year restriction in the purchase agreement, and his/her equity is not re-purchased for a while.This should be negotiated carefully.

Other health care companies

Other large health care providers also typically require restrictive covenants, with scope and duration varying based on each buyer’s policies and the transaction specifics.

Governance and board representation

Hospital and health systems

There typically is limited (if any) physician representation in hospital governance, with decision-making being centralized within the hospital’s structure, consistent with established hospital policies and procedures, with clinical decisions made within the hospital’s medical staff and clinical management framework.

Private equity platforms

PE deals feature platform boards typically controlled by the PE firm, though physicians in larger groups may receive board seats or observer rights. While business strategy is generally PE-directed, clinical governance remains with physicians through dedicated clinical oversight structures, both at the local and national level. The degree of operational modification varies significantly depending on how the practice currently is managed and operates (e.g., “advanced” vs. “archaic”), its ability to benefit from changes and modernization, and the platform’s management approach, desire for uniformity, and contractual arrangements.

Other health care buyers

Large medical groups national health care companies generally do not provide physicians being acquired with any governance rights (similar to hospitals).

Cultural fit and long-term vision

Cultural alignment and strategic vision are critical factors in a partnership transaction and should be considered as important as (if not more important than) the financial terms.

Hospital and health systems

Hospitals typically emphasize compliance, care coordination, and integration within their larger health care networks. Some hospitals have garnered the trust of local physicians, in which case there can be a much higher comfort level with the culture and long-term prospects of joining the hospital. However, in some regions, hospitals have strained physician relationships based on historic actions and lack a high level of trust.

Private equity platforms

PE firms generally focus on growth, operational efficiency, and value creation leading to eventual “exit” strategies, in which they “cash out”, and the physicians’ similarly benefit via their rollover equity. Success, however, depends significantly on cultural alignment between the practice and PE platform as growth and efficiencies are pursued. Misalignment can lead to physician dissatisfaction and turnover, resulting in platform de-valuation.

Other health care companies

The culture and objectives of other large organizations vary widely. Some prioritize physician leadership and innovation, while others emphasize operational efficiency, systematic integration, geographic expansion, or service line development.

Conclusion

Recent trends show a continued surge in physician groups considering their strategic options as a result of increasing challenges of private practice—mainly, increasing costs, decreasing reimbursement, and increased local competition. Larger organizations with experienced executive teams, corporate infrastructure and substantial capital may be able to assist groups in better facing these challenges to ensure their long-term success, through investing in ancillary services, improved managed care contracting and value-based care, physician recruitment, operating efficiencies, and group purchasing.

However, a sale or partnership transaction is not right for every group. If physicians elect to move forward with a strategic transaction, they need to focus on and balance the multiple key factors outline above which differentiate among various potential options.

Gary Herschman, Esq. has been advising physicians on strategic positioning and major transactions for over 30 years, and is the Co-Chair of the Health Care Transactions Group and a partner at the national health care firm of Baker Donelson. He represents dozens of physician groups in all specialties on growth strategies, strategic partnerships and sale transactions.

Dana Jacoby is the Founder and President/CEO of Vector Medical Group, a strategic health care consulting firm that advises medical practices across the country on improving operations and profitability, value-based care, and the pros and cons of various different kinds of strategic transactions.

Timothy McHale, Esq. is a health care transactions attorney and senior associate at the national healthcare firm of Baker Donelson. He represents many physicians groups and other healthcare providers in a wide variety of strategic transactions.