/>iLeonard Lipsky and Carly Eisenberg Hoinacki from Sheppard Mullin’s Healthcare Team recently sat down with Nick Francia[i] and Sarah Bothner[ii] of The Capital ESOP Group at UBS Financial Services Inc.[iii], to explore the ins and outs of employee stock ownership plan (ESOP) transactions as a potential exit strategy for physician practices. Below is the Q&A from their conversation.
Leonard Lipsky (Sheppard Mullin): While many well-performing practices still command robust prices, the overall physician transaction market sentiment is more measured than it was a couple of years ago (particularly for smaller or less attractive specialties). In our experience, many physicians are not familiar with an ESOP as a potential exit strategy. Can you start by giving us an overview of what an ESOP is and how it differs from other exit strategies that physician practices might consider?
Nick Francia (UBS): An ESOP transaction can provide selling physicians with a flexible, tax-efficient exit strategy in which they receive fair market value for their stake in the practice. At the same time, an ESOP allows them to preserve their legacy. This is because an ESOP, unlike a sale to an external buyer, can help transition the practice’s leadership to its existing management team and key employees who have helped build it to where it is today. Another way that ESOPs differ from other exit strategies is the ability for the selling physicians to maintain control after the sale, as they have the choice to sell anywhere from 1% to 100% of the practice to the ESOP.
Carly Eisenberg Hoinacki (Sheppard Mullin): Can you explain in more detail how ESOP transactions differ from traditional M&A transactions, particularly in terms of the financial benefits physicians see at the time of sale and in the long term? In an ESOP transaction, sellers typically receive less cash at closing compared to a traditional M&A deal. Can you explain how this works and why practice owners might prefer an ESOP transaction from an economic standpoint?
Sarah Bothner (UBS): Many ESOP transactions are structured so that the seller(s) receive part of their proceeds in cash at closing, with the remaining proceeds paid out over time. This might differ from other exit strategies in which a majority of the sale proceeds are received upfront. However, in an ESOP transaction, the seller has the option to defer (or, with proper planning, eliminate) the capital gains taxes in connection to their equity sale. The ESOP transaction can also be structured to allow the seller the ability to benefit from the future growth and success of the practice, either through a partial transaction or the use of warrants.
Carly Eisenberg Hoinacki (Sheppard Mullin): We regularly advise large physician practices contemplating M&A transactions, and one challenge we sometimes encounter is divergent ownership objectives, whether driven by differences in practice specialty or career stage. These differing interests can complicate the transaction process. Can an ESOP transaction help resolve this issue?
Sarah Bothner (UBS): An ESOP transaction can be a great fit for a practice with multiple owners who have different goals. With an ESOP, one owner can choose to exit the practice without requiring the remaining owners to sell any of their shares, or to buy out the seller’s stake. Once the ESOP is established, remaining owners can simply sell their shares to the ESOP when they wish to retire. Additionally, a partial ESOP transaction can allow an owner to diversify their wealth away from the practice in the present, while remaining active in the practice with potential for upside exposure to its future — for example, by selling 49% of the shares to the ESOP and holding on to the remaining 51% interest.
Leonard Lipsky (Sheppard Mullin): What would you say are some of the most common misconceptions about ESOP transactions among physician practices?
Sarah Bothner (UBS): One common misconception about ESOPs in any industry is the idea that the employees need to pay out of pocket for shares of the company. In reality, the shares are owned by the ESOP trust; the employees will become economic beneficiaries of that trust and will receive contributions at no cost. The ESOP creates a retirement benefit for every qualifying employee – clinical and non-clinical. While the employees may not be true equity owners of the company, they can benefit directly from higher share values as the company continues to grow and succeed. Another misconception is that the employees will control the company after the ESOP transaction. In reality, the seller can (and is often encouraged to) stay involved in the operations and management of the company for as long as they would like.
Leonard Lipsky (Sheppard Mullin): As you know, approximately two-thirds of the states prohibit non-physicians from owning a physician practice (referred to as a prohibition on the “corporate practice of medicine”) and most states have some form of fee-splitting prohibition that prohibits physicians from sharing their professional fees with non-physicians. As a result, in states that have a “corporate practice of medicine” prohibition, M&A transactions involving a physician practice are typically structured using a “PC-MSO” model, whereby the non-clinical assets of a physician practice are acquired by a management services organization (MSO) and the MSO provides management services to the professional corporation (PC) in exchange for a fair market value fee, while the PC, through its physicians, focuses on providing clinical care. Are ESOP transactions structured similarly?
Nick Francia (UBS): Yes, ESOPs are structured similarly; however, instead of a third-party investor owning the MSO, it’s the ESOP trust that owns the MSO. In an ESOP transaction, the employees of the practice become economic beneficiaries of the ESOP trust. The ESOP then appoints a trustee to manage and protect the assets of the ESOP trust (and, hence, the MSO) for the benefit of the employees.
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FOOTNOTES
[i] Nick Francia, Managing Director, Wealth Management, The Capital ESOP Group at UBS (nick.francia@ubs.com; (202) 585-5354).
[ii] Sarah Bothner, Senior Wealth Strategy Associate, The Capital ESOP Group at UBS (sarah.bothner@ubs.com; (202) 942-2836).
[iii] Nick Francia is a Financial Advisor with UBS Financial Services Inc. a subsidiary of UBS Group AG. Member FINRA/SIPC in Washington, DC. The information contained in this article is not a solicitation to purchase or sell investments. Any information presented is general in nature and not intended to provide individually tailored investment advice. The strategies and/or investments referenced may not be suitable for all investors as the appropriateness of a particular investment or strategy will depend on an investor’s individual circumstances and objectives. Investing involves risks and there is always the potential of losing money when you invest. The views expressed herein are those of the author and may not necessarily reflect the views of UBS Financial Services Inc. Neither UBS Financial Services Inc. nor its employees (including its Financial Advisors) provide tax or legal advice. You should consult with your legal counsel and/or your accountant or tax professional regarding the legal or tax implications of a particular suggestion, strategy or investment, including any estate planning strategies, before you invest or implement. UBS Financial Services Inc. is not affiliated with Sheppard Mullin. For our client relationship summary disclosures, please visit ubs.com/relationshipsummary. UBS Financial Services Inc., Member FINRA/SIPC.
