Planning your exit strategy in a volatile credit market
Entrepreneurial physicians spend years building their practices and ultimately seek exit strategies that allow them to maximize practice value. Most of these exit strategies are based on outright divestitures. The availability of funding sources is essential in successfully implementing these types of transition plans.
In the past, owner financing was a common option and often left a seller at risk. Practice acquisition financing has mitigated this risk significantly and is increasingly sought after. Financing options for practice acquisitions have been readily accessible over the last few years, though recent factors related to liquidity in financial markets have had an effect on lending criteria and available capital. Lenders are becoming pickier about the deals they will finance and are more inclined to fund practices with solid performance and less risk factors.
Cash flow lending criteria for practice acquisitions is primarily based on a practice’s ability to generate sufficient earnings to pay the new owner a fair salary, service the debt, and provide a margin of safety. Due to the nature of these types of loans, maximizing a practice’s performance is one of the most important steps a seller can make leading up to a sale. Practices are typically assessed on the most recent numbers, with a 2 to 3 year time window leading up a sale being the most relevant period. Making an active effort to drive earnings in anticipation of a sale is essential, as natural business fluctuations and outside factors are not always predictable. Increasing organic business growth and profitability can also increase the chances of attracting serious, motivated buyers when the time comes.
Preparation is the key to overcoming financing challenges in the selling process. This includes anticipating the types of questions and concerns that may be raised by prospective buyers and potential lending sources. The primary area of inquiry will likely involve the determination of practice net income. Substantiating a practice’s earnings can become especially difficult when record-keeping and accounting practices are convoluted. For this reason it is important to maintain clean books and records to allow for a clear determination of owner’s discretionary earnings within the scope of accepted normalization/recast methods. Substantiating all benefits to the owner is not always easy, as business owners take profit in various ways to mitigate tax consequence. The inability to properly demonstrate total discretionary owner benefit may affect practice value and financibility. These problems can be overcome by strategically planning in advance. Preparing for an exit strategy that will rely on outside financing involves careful planning well ahead of the actual sale.