We thank John Pinto of J. Pinto & Associates, Inc., a leading ophthalmic practice management consultant, for providing much of the content for this article.
You’ve probably heard or read about private equity (PE), a term that refers to capital invested in a wide array of privately held businesses. What you may not have heard about is the growing trend whereby PE firms acquire a majority interest in private ophthalmology and other medical practices. In this article, we focus on why ophthalmologists and optometrists are selling their practices to PE firms. Nevertheless, many of these concepts also apply to other medical specialties, including dermatology, orthopedics, radiology, and orthodontia, that are also attracting attention from PE firms. Whatever your area of practice, the information here can help you decide whether it might make sense for you to consider a PE buyout.
What is fueling this trend of PE buyouts? An essential factor is that a significant number of senior ophthalmologists are at the point in their careers when they are looking to exit. The traditional approach would be to sell to one or more younger, partner-track MDs, DOs, or ODs. However, the number of younger MDs, DOs, and ODs with access to the capital needed to meet a senior doctor’s payout expectations is shrinking. They would most likely need to borrow funds and may still have medical school debt to pay off, as well as a home mortgage. Taking on debt to buy a practice requires a younger practitioner to have not only the financial ability to secure funding but also a reasonably high risk tolerance as well as the aptitude to skillfully manage a practice to be able to pay off that debt. It is especially challenging to find young partner candidates to buy a large practice with two or more senior MDs/DOs/ODs.
Another possible alternative for senior ophthalmologists looking to sell a private practice are hospitals and local health systems. However, those entities are often not interested in acquiring ophthalmology practices since they rarely result in hospital admissions and involve high costs for equipment. Note that this may differ for other medical specialties where hospital admissions are relatively common. An MD, DO, or OD who sells to a local health system would receive less money than in a PE buyout, but that exit route should provide a steady job and fewer management duties.
In contrast, PE firms have money to invest and see ophthalmology practices (and other medical specialties) as a way to earn a positive return on that capital. Ophthalmology is a desirable specialty right now since the demand for vision care in the U.S. is so strong, growing at 5x the growth rate of the overall population. For PE firms, this means ophthalmology practices are likely to generate steady profits (to be precise, EBITDA and free cash flow are the more important metrics, but we use the term “profits” generically). PE firms can acquire an ownership interest, typically ranging from 50%-80%, in a DO, MD or OD’s practice. Doctors who sell to a PE firm can expect to receive a payment that is twice what they would likely get from selling to other doctors, and up to four times what they would get from selling to a local health system.
In a PE buy out the seller becomes part of a larger organization as PE firms combine several practices to achieve economies of scale. That provides additional intangible benefits, as a larger organization can better respond to increasing regulatory demands and other challenges of the healthcare delivery landscape more effectively than a sole practitioner who is busy seeing patients and juggling different priorities. Furthermore, this means that many practices can be bundled together for sale to another party in the future.
How Are Buyout Offers Structured?
As you might expect, many factors affect a buyout offer; too many for us to review here. However, we can offer some general guidelines as a starting point. PE firms will typically offer an upfront investment based on a multiple of the practice’s profitability (often measured as Earnings Before Interest, Taxes, Depreciation, and Amortization or “EBITDA”). This investment is a one-time payment that represents the current value of the practice based on the profits it has been generating and could be expected to continue making without the PE firm’s intervention. You, as the selling partner, will usually be obligated to continue working for a few years at a negotiated salary. You will also likely retain some percentage of ownership, which provides you with some upside potential when the PE firm seeks to sell its investment at a point in the future.
What About The Downsides?
Of course, there are potential downsides to selling an ophthalmology or other medical practice to a PE firm, for both the seller and the buyer. The number of residency training slots has declined and boomer-generation doctors (in particular surgeons) are not being replaced in adequate quantities. Therefore, bringing in new MD-associates to a practice post-buyout is becoming more expensive. Since those newer associates likely did not participate in the initial payout from the PE firm, they will resist sharing additional profits from the practice with you, the senior DO, or MD. Another concern is human nature: when a hard-working doctor is paid enough money to achieve his or her retirement savings goals, he or she is likely to slow down. Even though we tell ourselves we’re still fully “in the game”, a buyout often leads to a drop in productivity, which means profits decline. Thus, finding ways to maintain motivation is essential.
Prohibitions on the Corporate Practice of Medicine
In one form or another, most states have laws that say only licensed professionals (ODs, DOs, physicians, and dentists) may control how health care is provided by other, similarly licensed professionals. These rules prohibit unlicensed individuals/entities from practicing medicine. They also typically state that fees paid for medical treatment cannot be divided between licensed medical professionals and unlicensed individuals/entities. This CPOM “doctrine” is intended to ensure that licensed professionals are in charge of delivering medical care and making treatment decisions for patients. While details vary significantly from state to state, it does mean that structuring a workable agreement between the PE firm and professional practices can be challenging.
Often, PE firms will create a management services entity that acquires all unregulated assets — equipment, unlicensed staff, real estate (if owned by the practice), furniture, supplies. A separate entity then provides medical care to patients and obtains services from the management services entity. The services provided by the management entity typically include everything involved in operating a medical practice except practicing medicine, such as providing office space, overseeing non-clinical personnel, and handling business, office and administrative services. The doctors retain independent professional judgment in providing medical services to patients.
Will PE Ownership Become a Permanent Part of the Ophthalmology and Private Medical Practice Landscape?
Not everyone is enthusiastic about this trend, saying it will hasten the decline of private, personalized medical practices. It is also important to note that not all PE firms are created equal – some may be less careful when evaluating practices, which can decrease their ability to enhance the value of the practices they acquire. That matters, because PE firms aim to sell these investments in roughly five to seven years after increasing their value in various ways, such as adding more physicians, increasing revenues through ancillary services (e.g., onsite surgery centers for ODs, pathology services for a dermatology practice) and decreasing costs. If PE firms chase after too many practices without focusing on quality and potential for growth, they may not be able to generate the increased value they need and sour on the notion of pursuing these buyouts.
Ophthalmic practice management consultant John Pinto believes that at least some of the current PE firms in the market are on the right path. Those firms undertake significant vetting before making an offer, avoid excessive centralization, allow the MDs in the practice to have an ongoing voice, and apply a thoughtful balance of efforts between signing more deals and improving the performance of the practices they have already acquired.
If you are considering a PE buyout for your practice, be sure to discuss your plans with your financial advisor long before you enter into any formal agreement. It is critical to consider tax strategies, charitable giving plans, and other objectives to fully understand whether a buyout will allow you to achieve your long-term financial goals. If you would like to learn more, we invite you to reach out to J. Pinto & Associates, Inc or your Gold Medal Waters advisor.