June 1, 2008
Dear Clients,
One major issue that most sole owners overlook in their planning is answering the question, “What will happen to my business/practice if I should become disabled or die?”
We are sure you have good life insurance and have good disability coverage, but what about the assets and goodwill you have tied up in your business? Do you have someone lined up to buy the business when you are unable to sell it and those around you do not have either the expertise or the contacts to handle the sale of your business? It is our experience that when sole owners of businesses/practices are unable to continue managing those businesses/practices, clients and referral sources leave, and the business, which at one time was possibly the owner’s biggest asset, could substantially depreciate in value, necessitating a “quick-fire” sale or abandonment of the business.
We strongly suggest that you develop one major planning tool for your business: A practice continuation agreement.
For a one-member firm, a practice continuation agreement (PCA) is the equivalent of a buy-sell agreement with another business in your area of expertise. Sometimes it is entered into with multi-owner firms, but more often times it is a mutual agreement between you and another solely owned business or practice. It’s a contract with an outside entity to purchase your practice under an agreed-upon compensation formula and payment schedule.
A practice continuation agreement is important to you as a sole practitioner because it covers life’s contingencies. This agreement can assist in protecting your family’s financial future as well as your retirement needs. It is also an efficient and effective document to plan for your succession.
Over the years, you have devoted much time and expertise to establishing and maintaining a successful professional practice. If a practice continuation agreement is in place, your practice can be maintained in the event of your temporary or permanent disability, death or other unexpected interruption. Your clients, their businesses and personal interests would be protected and assured of uninterrupted service.
If you don’t have a practice continuation agreement in place, how long will your business survive after your disability or death? Would anyone know what your intentions are concerning keeping or selling the business?
Without a PCA, your business could dissipate as clients are not served and possibly take their business to other firms. Employees may seek work elsewhere, and your family’s finances could be left in jeopardy.
In some cases, after an unexpected death or disability, a relative, spouse or employee will operate the business, but he or she may not have the expertise to successfully maintain the practice. Family or heirs might not be able to continue the business or understand the intricacies of disposing of the business. Conflict could also arise among family members as to how to dispose of the business.
The practice continuation agreement does not have to be a complicated or lengthy document. It normally covers such issues as how staff and clients will be handled, how you or your estate will be compensated, and who will either maintain your practice or conduct an efficient transfer to a prearranged buyer at a prearranged price. The PCA generally provides a method for determining the purchase of the business and the payment method in the event of a transfer.
The PCA can be a one-on-one agreement with another sole practitioner, a partnership or a professional corporation. This is usually a buy/sell agreement used to cover death or disability. Often two sole-practitioners will have a cross-purchase agreement to purchase the other’s business.
Another type of agreement is the group agreement, in which several businesses agree to act as successors to each other’s practices. In the event of death or disability of one of the members, the affected clients are asked to choose one of the remaining members of the group. These types of agreements generally only cover the transfer of the affected clients.
The PCA should address the following issues:
· Defining the triggering event, i.e., disability, death, retirement.
· In the event of temporary disability, continuation of the business.
· Compensation to the provider when the owner is temporarily disabled.
· In the event of sale of the business, an agreed-upon price or valuation method for the
business.
· Non-compete and solicitation agreements for both parties.
· An escape clause for both parties.
· A plan for the payment arrangements in the case of a sale.
· Retaining existing employees and their compensation.
· Guarantee continuing payments to former owner or the estate.
· Terms/conditions or process when sole practitioner returns from temporary disability.
· Indemnification and hold-harmless clauses.
· Arbitration clauses
· Procedures for notification to clients.
· Determination of continuing or abandoning existing leases and contracts.
The PCA must define the triggering events but should also be flexible. Generally, temporary disability (mental or physical) occurs if the disability is expected to last less than six months. A leave of absence for military service could also be included in this definition, even if the leave may be over six months. The PCA for temporary disability generally covers allowing employees, usually at the supervisory level, to assist in the daily operations of your business. The PCA should also include the compensation arrangement and a conclusion to the temporary arrangement. A noncompete clause is extremely important in the case of a temporary disability.
If the disability is permanent, or in the event of death or retirement, the provisions in the PCA are much more detailed because the agreement will need to facilitate the transfer of your clients and your practice. The PCA will include both a prearranged method to determine value and a compensation agreement.
In addition, the sole practitioner should also maintain a continuation manual with a detailed list of clients, and information regarding availability of working papers, billing and personnel files, books and financial statements, work-in-process, accounts receivable, equipment and supplies, contracts and leases, employee records, liabilities, malpractice insurance, property and casualty insurance, fees and billing information, location of bank accounts and a guide to all office procedures.
The initial step is to place a value on your practice. This value will be used for negotiations with the possible successor. After mutual agreement with the successor firm, the actual valuation method agreed to by both parties will be included in the PCA. Three possible formulas are: 1) the multiple of gross fees, 2) earning power, and 3) present value of future net income. Each of these methods can be modified to fit your situation, i.e., geographical location, outside financing. The tax effects of the agreement are also a consideration.
Your choice of the potential successor is critical. This person/firm is key to the success of the PCA because a poor choice can possibly drive away not only your clients but your staff, thereby adversely affecting the payment of fees to you or your estate. The successor should have a similar operating philosophy, management style and office culture. Other factors are the professional qualifications, reputation, experience, personality, standing in the community and the financial ability to buy your business.
After the agreement is completed and signed, your spouse and possibly the executor of your estate should be notified of and possibly provided with a copy of the PCA. Transferring and implementing the PCA as soon as possible after a triggering event is critical to maintaining the health of your practice.
Now that you have invested your time and finances into choosing your successor and developing the PCA, you should set a date to meet with your successor at least annually to update the PCA for any changes that affect your practice.
Developing a practice continuation agreement today is planning for the future, not only for your clients and practice but also for your family. The PCA is an essential document for your practice.
We have many ideas and suggestions to assist you in developing this important planning tool for your business. If you believe that a PCA would be beneficial to your clients, your family and to you, please contact us for further information.
Very Truly Yours,
SOUKUP, BUSH & ASSOCIATES, P.C.
