The 2 Steps That Helped a Florida Dental Practice Onboard a New Partner

CASE NUMBER 19, THE MOLLAR FAMILY

A METHOD TO BRING A PARTNER INTO THE OWNERSHIP OF A PROFESSIONAL PRACTICE IN WHICH THE FOUNDERS ALSO OWN THE PROFESSIONAL BUILDING

Sue and Eric Mollar met at the University of Pennsylvania Graduate Dental School and married shortly after they graduated.

Their in-school romance and decision to marry was followed by many discussions about where they wanted to live and practice, and whether they wanted to be in the same practice or not. Romance probably affected the decision to try and find a location where they could practice together, either by both joining the same existing group practice or by opening their own practice.

Both Sue and Eric were from New England but decided they would prefer to live, work and bring up their family in Florida.

They did a lot of research on Florida locations looking for a small city on the west coast (they liked the beaches there). They assumed that most of the west coast communities would continue to grow and provide opportunity for additional dentists.

They spent time in Tampa, Sarasota, Fort Myers and Naples. All these communities had most of the attributes they were looking for but Naples seemed the best. Its year round population was growing; its beaches were magnificent; its school systems were good; and, there were private schools available if desired.

Also, the Red Sox spring training facility was not far away—very important to many New Englanders.

There would be plenty of competing practices but they were confident that their skills and warm personalities would be enough to attract patients. It did not escape them that there were many great restaurants in Naples, a definite advantage for a professional couple who would like options other than cooking for themselves after a long day in the office.

They interviewed at several group practices but could not find a practice that would hire both of them. They discussed this with their parents and were offered financial support if they decided to open their own practice. That is what they decided to do. It was a difficult decision and they were both very anxious and excited about starting a brand new practice.

Sue went through her files to find materials from one of the optional courses she took in her last few months of dental school. She smiled as she found what she was looking for and remembered how surprised Eric was to learn that his mother (a Portland, Maine orthodontist) and her accountant had been invited to speak to Sue’s class about starting a new dental practice. The course was entitled: “The Business Aspects of Practicing Dentistry”. The topic Eric’s mother, who had started her own dental practice many years ago, was asked to address was how to start your own practice.

Sue’s special class only had 25 students as most of her classmates had already taken jobs with existing group practices. Eric’s mother had asked if she could bring her accountant, David Reed, who had helped her in starting her own practice in Portland. That was fine with the instructor.

Sue found the file and her notes. She read off the topics covered and some of her notes to Eric that afternoon including:

How to pick a location:

Notes:

• Focus on attracting patients
• The office should be close to residential areas
• The office should be visible from major traffic routes and permit visible signage.
• Best if the practice is near but not in a shopping center having a popular grocery store. Good also if the shopping center has “out parcels” where fast food restaurants and banks are located
• It would be good to be in a building containing medical professionals, especially primary care physicians
• The office should have plenty of parking and be easily accessible
• The rent should be as modest as possible especially for the first year.
• The lease should have an initial term of at least 5 years with three five year options to renew

The first staff person:

• Usually the first staff person hired is the receptionist/bookkeeper.
• A warm personality is crucial as this is the first person a prospective patient will speak with and see in an office visit.
• Best if that person is from the community where the practice is located and has local knowledge – a bonus if that person has local contacts that could be patients.

Marketing materials:

• Office brochure
• Website
• Social media
• Newspaper announcement

Open houses:

• One for professionals (primary care physicians and dental specialists)
• One for public (ask banker for help with the list)

Sue and Eric used this material as a guide but generated ideas of their own also.

They spoke with a primary care physician who had started her practice a year before in Naples and got some insight from her experiences.

One item she mentioned was that her veterinarian proved to be the biggest initial referrer of patients as her practice was nearby and she lived in a new golf course development where most of the new residents were “from away”.

Sue decided they would need a cat or two and use that vet. They would have preferred a dog but they knew their office hours would make it hard to take good care of a dog’s needs.

They immediately formed a Florida professional service corporation at the advice of their Florida lawyer.

All went well. They moved into a development where their neighbors were mostly working, professional families. They purposefully were active and visible in their community and it paid off by getting many patients from their community.

They also joined a private country club near their home and there too used the facilities and got to know many members; many became patients. They were proud of all they had accomplished. They were especially proud that they were able to pay their parents back the money they had loaned them within twelve months.

Five years and two children later they had reached a pivotal point in their practice. Sue had been back full time for about a year and even with the two of them they had a four- month backlog with some patients expressing their displeasure of having to wait so long. One morning Eric overhead the receptionist telling a prospective new patient that the first available appointment was in five months. The caller hung up.

They knew it was time to expand their practice by adding another dentist. They already had three full time hygienists who were also booked ahead.

They called the placement office at their dental school and received the resumes of four candidates. They interviewed them all and hired the one who seemed to fit best with their philosophy and their personalities.

They employed some sophisticated equipment including a Centrex System that allowed a crown to be designed, milled and fitted, all in one session. They were the only practice in Naples to have that equipment. The new dentist had not used this type of equipment before but was eager to learn.

It again was a time of excitement and anxiety. They wondered how the new professional would fit in and if they could increase their patient population enough to pay the new dentist and additional expenses of malpractice insurance and continuing education.

The new dentist fit in well. His initial economic arrangement was a fixed salary of $50,000 and 20% of the amount collected for his professional work above $125,000. The concept for that arrangement was that it took $125,000 in patient collections to pay the $50,000 in salary, another roughly $50,000 in overhead associated with that dentist leaving a $25,000 profit for the owners. This arrangement worked well for 3 years and then, James, the new dentist started to ask about being a “partner” and participate in distributions of office net income.

This caused a little discomfort for Sue and Eric as they felt very protective of their practice having endured the difficult early years with debt to parents and later a bank (for working capital and leasehold improvements when James joined them.)

Two years before James joined them they personally purchased the building their practice was in for $500,000 and leased it to their corporation. The building not only provided space for their practice but also two other professionals leased space from them. They knew they got a great price when a year later a developer offered them $650,000 for the building. In one of their conversations with James he mentioned that he thought it only fair for him to be a partner in the dental practice and, also, a partner in the building ownership.

Sue and Eric knew they were getting in over their heads especially since they expected that James had been talking to his older brother, an attorney in Boston.

Sue went back to her dental school notes and pulled the file from the second time David Reed spoke to her class.

His presentation was entitled:

THE ECONOMICS OF ADMITTING A PARTNER TO A DENTAL PRACTICE.

This is the outline she found:

HOW TO ADD A NEW PARTNER TO A DENTAL PRACTICE

There are several ways to add a new partner including:

Option A. Have a valuation professional calculate the practice value and then sell the new partner a percentage of the practice based upon that value for cash or cash and a note payable over a reasonable time.

Many years ago the “rule of thumb” was that a dental practice was worth the amount of one year’s gross cash receipts. That “rule of thumb” value has diminished over time and most general dental practices now sell for between 50 and 75% of gross cash receipts.

It is best, however, to have an expert in dental practice valuation determine a value.

Option B. Most young dentists are short on cash and have large student loans to pay. Recognizing this reality another method was designed to fit this situation. A value for the practice called the hard value is developed as follows.

ADD:

Cash at face value
Patient receivables at their collectible value
Equipment and leasehold improvements at their book value (original cost less depreciation)

LESS:

Bank debt
Accounts payable

The resulting value is used for the new partner to purchase a share of the business. This value knowingly ignores the soft value of the practice (goodwill and other intangible assets). Usually the soft value is calculated by subtracting the hard value from a total practice value at 65% of gross cash receipts or the appraised value. That soft value is called the “differential”.

The new partner then purchases a one third interest as follows:

Cash and a 5-year installment note for the hard value. AND,
A reduced salary, reduced productivity bonus and/or reduced
share of distributed profits over a 5-year period.

Option B. provides the new partner a payment method that is affordable and gives the founders compensation for the value of the practice they have built.

An experienced attorney is needed to document all of this. The practice needs to execute comprehensive employment agreements and a shareholders agreement.

THE REAL ESTATE:

Eric and Sue understood the technique to use for selling one-third of their dental practice. Here it was Option B that made sense.

However, they had no idea how to handle the building. It was owned by their real estate LLC.

Sue called David Reed, who by then had retired to a golf course community also in Naples, Florida. David listened to their dilemma and suggested the following. He called his technique for providing ownership in an appreciated building “a real estate appreciation right”.

His technique had the following attributes:

• It preserved the appreciation to date to the original owners
• It allowed the new “owner” to gain an ownership right without coming up with cash.
• It did not adversely affect any existing bank financing
• It did not produce any adverse tax consequences
• It eliminated a new practice partner from feeling that the founders might be taking out excessive rent and taking advantage of him.

He suggested the following steps:

STEP ONE:

Have the building appraised.

STEP TWO:

Execute a contract with the new partner stating that if the building is sold that the new partner will receive one third of the net sale proceeds above the appraisal value of the building derived in Step One.

This method achieves all the attributes listed above and is a fair way to treat a new partner.

In some cases the original owners require that the new partner sign onto the bank debt depending usually whether they have personally guaranteed the debt

Sue, Eric and James have now been partners in a very successful dental practice for five years.

One of their senior patients is David Reed.