Hot Topic: Step by Step

What Exit Strategy is Right for you?

By Bill Nolan
Illustration by Jon Krause

Independent optometrists, whether practicing for one decade or five, face a decision: how to exit their practices in a timely manner. Small business owners know that at some point they will want to leave their businesses and enjoy their retirement.

After going through the long process of deciding when to think about life after optometry, several questions come into play. Do I want to practice full-time or part-time? Do I want to take in an associate? Should I sell my practice?

Whether the optometrist is taking in an associate doctor, selling ownership interest to remaining partners, or selling all of the practice outright, negotiations for the sale start with determination of value.

COLLIDING FACTORS

Most optometrists who graduated from school in the mid-1960s or before were taught that the revenue from their practice's sale would provide substantial cushioning during retirement. Yet with declining practice values and rising education costs in recent years, selling a practice is not easy. These two factors have collided at a time when most optometrists are planning on a return on the capital and asset investment of their practice to help fund or supplement their retirement.

Twenty-five years ago, a standard rule of thumb for evaluating practices would use some multiple of gross revenue. It was quite common in those days to expect one year's gross revenue as the value of practice. This would mean if a doctor had a $600,000 practice, he or she would expect to sell it for nearly $600,000 at retirement.

Over the last two decades, however, that formula no longer applies. Today, the real intrinsic value is closer to 50 or 60 percent of a year's collected revenue.

PLANNING

This makes planning an exit strategy all the more important. There are several factors to consider.

■ TIME FRAME. The transition time frame is the first consideration in the planning of the exit strategy. This often highly emotional decision is one only the individual can make.

■ SALE OR TRANSITION? Once you have decided to leave full-time practice, implementing an exit strategy to bring in an associate doctor or sell your practice outright should move forward. An associate doctor is the logical step in making a smooth transition from practice owner to practice seller.

APPRAISALS

Regardless of an outright sale or a transition of ownership from one doctor to another, an appraisal of the practice value is necessary. There are two critical issues in selling an interest in a practice.

■ VALUE. The entire process begins with having a clear understanding of the overall value of the subject practice. There are many misconceptions in today's optometric market place as to the formulas and value placed on an optometric practice. Determining the proper valuation forumula for your practice is an important first step in the sale process.

■ TERMS. Negotiation of terms follow determination of the value of the practice. Terms of the sale can actually override the overall appraised value in importance, given today's landscape of high student loan payments.

While there are several principles and guidelines that apply to many cases, contracts can be constructed to reflect these as well as the individual needs of the buyer and seller. Terms include elements such as compensation agreements, financing options, and non-compete covenants.

DOING THE DEAL

Many factors are important when making the sales decision. Once all the emotional issues are covered it is important to approach the sale of a practice from a business perspective.

Many optometrists try to do this transaction without proper consultation from their legal or accounting teams. Generally, this is a mistake and puts everyone at risk for future problems or legal entanglements.

Often, the sale of a practice interest involves a taxable event for both buyer and seller. Additionally, you don't want the enjoyment of your hard-earned retirement spoiled by worries about a legal entanglement involving the sale of your practice. Several steps will help ensure the orderly transition of practice ownership.

■ IDENTIFY A BUYER. The first step in the overall process is identifying a potential buyer. An associate in the practice is the logical person to whom your practice will be sold. It is important to have a high level of trust and compatibility with your associate.

In most transactions, the seller will act as the bank and finance a substantial part of the practice sale. With several thousand dollars at risk, you want to be doing business with somebody who you trust and with whom you feel comfortable.

■ GETTING AN APPRAISAL. Once the potential buyer has been established it is important to move to step two, which is getting an appraisal of the business. All practice sales begin with establishing the overall value of the practice. Without mutual agreement to a specific dollar figure, no further negotiations can be had.

Appraising an optometric practice is not a science, but an art. The challenge is to remove your emotions from the process and realize that ultimately this is a business transaction, not an emotional one.

■ VALUATION GUIDELINES. Once the business has been appraised the next focus is the allocation of value to goodwill versus hard tangible assets. The IRS has some guidelines and codes governing the allocation of value.

The importance of this allocation is the taxable event it will create for both buyer and seller.

■ FINANCING SOURCES. In approximately 50 percent of all practice sales, the selling owner(s) acts as the bank for the transaction.

Depending on several factors such as debt load, local community standards, etc., it may be difficult for a young optometrist to obtain financing to buy all or part of an optometric practice. However, there are several lending sources, including the Small Business Administration (SBA), that will loan money for the purchase of a professional practice.

■ TAX CONSEQUENCES. Often, a potential seller will ask about the tax consequences surrounding the sale of their practice. We always counsel our clients that the sale of a practice ownership interest will create a taxable event.

Doctors should never go into a transaction thinking they will avoid paying either capital gains or income tax on proceeds received from the sale of their practices. It is appropriate to explore ways to minimize the tax burden within the scope of the current Internal Revenue Service code, but avoiding tax all together is unlikely.

Always seek professional tax advice from your accountant or other qualified professional before proceeding with a practice sale.

■ BUYOUT TERM. Beside the ultimate purchase price, other issues such as financing options, terms of the buyout, and interest rates are just some of the issues which should be considered.

Most often a buyout will be between seven to 10 years; depending on an individual's situation, that time frame could be shorter or longer, but generally falls into this range.

■ DUE DILIGENCE. Every buyer has a right to examine the patient records and financial records of the practice he/she is considering for purchase. This is referred to as “due diligence.”

Every seller should be prepared to allow a prospective buyer to complete his/her due diligence. The buyer has a right to be satisfied that the information presented to them is accurate and fairly represents the current state of the practice. Often sellers are disconcerted by this request, but it is standard operating procedure in the sale of any business.

■ NON-COMPETE AGREEMENTS. You may be asked to sign a covenant not to compete. Many sellers question why, when retirement is forthcoming, they are the ones to sign a covenant not to compete.

Again, this is a security for the buyer that the goodwill they have purchased will remain in the practice. If the seller has a change of heart and begins practicing again in the community, the buyer has paid for something that may not be received.

Recently, we had a client who purchased a practice and the seller threatened to come back into practice and compete with his former colleague. Non-compete covenants are often mysterious and fall into murky legal ground. You are well advised to seek good legal counsel on the enforceability and structure for a covenant not to compete.

■ ACCOUNTS RECEIVABLE. Depending on each situation, a practitioner may or may not want to sell the accounts receivable.

Accounts receivable are like any asset and can be retained by the selling doctor. We have been involved in several cases where the retiring doctor decided to keep their accounts receivable and collect them seperately from the practice.

■ SMOOTH TRANSITION. The final major consideration is the short-term future of the selling doctor. It is advisable in most situations, even with a complete sale of the practice, to have the senior doctor stay on for some period of time.

In most situations, even if the associate has worked in the practice for a period of time, it is advisable for the senior doctor to remain active in the practice after the closing of the transaction.

This involvement will vary depending on the circumstances of everyone involved, but some continuity is important.

Typically, a retiring optometrist will spend two or three days per week for the first six months to a year. This will ensure an orderly transition of goodwill to the new owner. Also, it adds a great deal of credibility to the young doctor taking over.

In situations where the retiring doctor literally hands the keys over to his junior associate and leaves, there can be speculation or controversy concerning their departure. It is important for the long-term health of the practice and the reputation of the senior doctor to ensure this smooth transition.

All of these steps, when taken together, will ensure the orderly transition of the practice. Hopefully, this information will be useful in planning for the transition to life after optometry.

Bill Nolan is vice president of Williams Group, a practice development firm providing consulting, software, and multimedia web solutions for eyecare practices. INFO: www.wcgweb.com