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Partner & Shareholder Relations, Buy-Sell

How to Structure a New Group Medical Practice

In this article I explain how to structure a new group medical practice. I discuss four important issues for the structure of the business: share ownership, compensation, control rights, and lastly the partners’ exit from the practice. NEGOTIATE You must negotiate the practice structure with your partners. Discuss everything upfront – by this I mean put everything on the table and be petty. Don’t be embarrassed to talk money and negotiate for what you need. If you don’t resolve these issues now, you’re planting a timebomb in your practice. Start negotiations with a term sheet that fully discusses each of the four items below. Once you’ve agreed at term-sheet level, you can draft final documents. A Shareholders (Buy-Sell) Agreement most likely will be the document that covers the issues in your term sheet. Word to the Wise: Don’t commit yourself or your resources to the practice until the contracts are signed. There is no deal until the documents are done. Each commitment of resources weakens your position in the negotiations. This is especially true if you give up your current gig for the new venture, because you have nothing to go back to (hence no bargaining leverage). FOUR THINGS TO NEGOTIATE 1. Contributions & Shares. All contributions made by the partners should correlate directly into ownership. That is, ownership of the practice should correlate 1:1 with the partners’ contributions of cash, assumed liabilities, equipment, real estate, intellectual property etc. *** For example, assume there are two doctors, and the first contributes $600,000 in assets while the second contributes $400,000. Shareholder #1 should get 600 shares while shareholder #2 gets 400 shares, for a 60/40 split. If a doctor will receive shares based on future labor to be performed, then the shares should be subject to vesting. It’s common (and OK) for a shareholder to get his or her shares up-front based on the promise of future labor, but the shares must vest so that if the shareholder fails to perform the services, the doctor loses the unvested shares. To the extent possible, match the value of the services with the value of the shares, to maintain the 1:1 correlation between contributions and ownership. 2. Compensation. A business is only worth the money it puts in the owners’ pockets. For most practices, this means the business is only worth the salary and dividends it pays to the doctors. A practice first pays salary and other compensation, then pays the remainder of net profits to the shareholders as dividends and distributions based on their share ownership. A practice must maintain a balance between the two forms of compensation (salary and dividends) so that both active and passive shareholders receive a fair return. A practice should pay salary based on work actually performed. It’s fair for partners who work more to get paid more. In fact, it’s healthy for a business to reward those who do the work, otherwise no one will do the work. For more, read Compensation Structures for a Group Medical Practice. 3. Control. I prefer that share ownership percentages determine control within a corporation, because it’s simple and transparent. Many businesses use a one-man one-vote system, however, and that’s OK. Determine who has the number of shares needed to elect directors and how this power is distributed among the shareholders. This tells you who can control the board of directors. Then be careful to understand the nuances of your board of directors and the natural coalitions that exist among them. Try this article, Corporate Structure – Levels of Legal Control over a Group Medical Practice. 4. Exit. All businesses need an exit plan. When disputes among the owners put the business in danger, they need a structure that ensures a fair resolution without having to go to court. I call this the economic divorce – if the business cannot survive a particular shareholder or partner, the buy-sell agreement gets you a divorce on terms that are fair to everyone. Usually you have buy-back provisions that cover the 4 D’s – a shareholder’s death, disqualification, disability and disputes. The result of buy-back is that one or more shareholders keep the business, and the exiting shareholder gets a payoff. The buy-out price is crucial. A high buy-out price gives the exiting owner a windfall. A low buy-out price is unfair and leads to litigation. The trick is finding a procedure that ensures a fair price – for example, using a neutral appraisal process to fix a price. A practice also can use an accounting formula to fix the buy-out price. For more on exits, read Shareholder Buy-Sell Agreements for Medical Corporations, and also Buy-in and Buy-out of Physicians to a Medical Group.

Shareholder Buy-Sell Agreements for Medical Corporations

A buy-sell agreement (also called a shareholders agreement) protects the corporation from the physician / shareholders, specifically their death, loss of license, disability, divorce and dispute. FREELOADERS AND MALCONTENTS A medical practice needs a buy-sell agreement because (1) California law requires buy-sell provisions in the case of a physician’s death or loss of license, and (2) the reality of group practice demands a resolution to common problems, specifically, physicians (like all of us) bicker, lose interest in the practice, go away, die, get divorced, get run over by trucks etc. You need resolution for all of these scenarios. Sometimes a doctor gets tired and stops putting time into the practice. The doctor becomes a freeloader, and you must cut him or her out of the compensation structure. Sometimes a doctor is such a malcontent that you must be rid of him or her. Or a doctor might die or lose his or her license, in which case California law requires that you buy-back the doctor’s shares in the medical corporation. In all these cases and other cases, the practice needs a structure for the orderly and fair removal of doctors. If you don’t have a good buy-sell agreement, usually the only way to resolve shareholder disputes is through the courts; see my article Using Involuntary Dissolution to Resolve Shareholder & Partner Disputes. THE ECONOMIC DIVORCE Enter the buy-sell agreement. When changes among the physicians put the practice in danger, the buy-sell agreement gives a fair resolution. I call this the economic divorce – if the practice cannot survive a particular doctor, the buy-sell agreement gets you a divorce on terms that are fair to everyone. 4 D’s Physician buy-sell involves what I call the 4 D’s– death, disqualification, disability and dispute. Death and Disqualification Under California law applicable to medical corporations, if a doctor dies or becomes disqualified (that is, loses his or her license), the corporation must buy-back the doctor’s shares. Usually you pay a death buy-back in one lump-sum using the proceeds of life insurance. Disability Similar to death (except without the finality) if a physician becomes disabled, the medical corporation can buy-back his or her shares. The practice can pay a disability buy-back using a promissory note, or if cash-flow is sufficient, using the proceeds of disability insurance. Disputes Sometimes two physicians just can’t get along. To deal with this situation, you use “shotgun” procedures. This means that, between the two warring physicians, the first offers to buy out the second, and the second has the choice, either be bought out or turn around and buy out the first on identical terms (i.e. I cut, you choose). Either way, a price is fixed for the buy-out, and one of the warring physicians leaves the practice group. BUY-OUT-PRICE The buy-out price is crucial. A high buy-out price gives the exiting doctor a windfall. A low buy-out price is unfair and leads to litigation. The trick is finding a procedure that ensures a fair price – for example, using a neutral appraisal process to fix a price. A medical practice also can use an accounting formula to fix the buy-out price. Payment terms are almost as important as the price itself, because payment up-front in one lump sum is much better than payment by promissory note over a long period of time. IMPORTANT: Have an attorney run the payment terms for the buy-out through the referral (Stark and Kickback) laws. For more on buyouts, read Buy-in and buy-out of physicians to a medical group. WILDCARD – Personal Guaranties As a final note, be careful about personal guaranties. These are the wild cards in an exit structure. An effective exit structure must fairly compensate and/or protect doctors for their guaranties. NON-COMPETITION CLAUSES To learn about non-competition clauses for physicians, see May a physician compete against his or her former practice? and also, Stealing employees. I’ve tried to make buy-sell easy in this article. But that doesn’t mean you can do it yourself. Get a competent business attorney to help you.

How to Bring a New Partner into a Group Medical Practice

CULTURE & COMPENSATION When bringing a new partner into your group medical practice, first think whether the new partner will fit in with the culture. Culture includes things like required coverage hours, the handling of employees, and the division of money. As always, let’s talk about the money. An incoming partner must fit in with your practice’s compensation structure. Some people prefer a fixed but lower income, while others prefer a variable but potentially higher income. The tension is between (1) salary, and (2) productivity payments / shares in collections. Both have their pluses and minuses. Salary— A compensation structure that is heavy on salary fosters team spirit, but can lead to freeloading. Why work so hard if either way you’ll get paid the same and everyone else is slacking off too? Productivity Payments— A compensation formula heavy on productivity & collections gives incentive to work, but leads to complexity and griping, to wit: (i) malcontented partners who are unhappy to make less than others in the group; (ii) administrative staff devoting their time to tracking individual production and allocating overhead; (iii) complexity because you must find some other way to compensate partners for necessary work that doesn’t produce revenue, for example, practice governance, management, staff development, hospital committee work. In sum, make sure that the incoming physician fits in with your compensation structure, whether it’s eat-what-you-kill, or the team approach. BUYING INTO THE PRACTICE After culture / compensation, think ownership. Frequently the practice asks the physician to wait a period of time (e.g. one year) before they discuss the buy-in. This ensures that the new physician fits-in before buying-in. Employment agreements sometimes have clauses for the physician’s purchase of ownership in the practice. Usually the clauses are vague and non-binding, and only express the parties’ expectations on the subject. If the buy-in is a material part of the deal, however, specify these deal terms: ** The ownership percentage that the physician will obtain ** The purchase price ** The period over which the physician will pay the purchase price ** The extent of the physician’s participation in control decisions for the practice, e.g. is the physician on the board of directors? Ownership percentage is a matter of control. It’s dangerous to give control to a new person, and even a minority owner can get control if she aligns with other shareholders. Existing owners must think carefully about the effect of admitting the new owner on existing and future voting bloqs among the shareholders and on the board of directors. GROUP LIABILITIES If the existing partners are liable for group debts, state clearly the liabilities for which the new partner will become responsible. Will the new partner guarantee existing loans or leases? Will the new partner step into a capital call? EXIT STRATEGY Now that you’ve structured the entry of the new partner, structure the exit. The existing partners and the incoming partner all need an exit strategy. The most common exit is the termination of the partner’s employment plus the buy-back of his or her equity. This is where a buy/sell agreement comes in. A buy/sell agreement is essentially an agreement for exiting a practice. A buy/sell agreement works like this – First, the agreement names certain trigger events for buy-back (e.g. termination of employment, loss of license, death, disability, bankruptcy); Second, the agreement permits the buy-back of the partner’s equity on the occurrence of a trigger event; Third, the agreement sets a price for the buy-back. Termination of employment is the most important of the trigger events, because that’s how the existing owners get rid of the new (soon to be ex-) partner. The control group on the board of directors can fire the problem partner as a doctor within the practice; and the control group among the shareholders can remove the problem partner as a director. If the buy/sell agreement permits the buy-back of shares on termination of employment, the control group can take this final step to completely remove the partner from the practice. BUY-BACK PRICE The buy-back price is all-important, clearly, because a low price may cause the ex-partner to sue the practice, while a high price gives the ex-partner an undeserved windfall. Various methods exist for setting a buy-back price, including appraisal procedures and earnings-based formulas. The payment terms are important too, because payment up-front is a lot different than payment over 3, 4 or more years. NO-COMPETES The last item to keep in mind is whether the practice will lock up the departing partner with a non-competition covenant. A practice that buys back shares can prohibit the departing partner’s competition in a limited geographic area for a limited time. As always, you can read more articles on buy-ins & buy-outs, and on buy-sell, in the sidebar to the right. Look under the heading, “Partner and Shareholder Relations; Buy-Sell.”

Buy-In and Buy-Out of Physicians to a Group Medical Practice

Physicians come and go from medical groups. When a physician enters a practice as a shareholder or partner, the practice should prepare for the physician’s exit. The exit is inevitable. In this article, I give one simple rule for structuring the doctor’s buy-in to a practice and the later buy-out of the doctor’s shares from the practice. THE RULE Buy-in should mirror buy-out. If a doctor buys-in to a medical group at $X, the group should buy-out the doctor at the same $X. In other words, you should use the same formula to determine both a doctor’s purchase price for shares in a practice, and the doctor’s buy-out price when leaving the practice. The reason for the rule is fairness. Neither the practice nor the doctor should get a windfall from the buy-in and subsequent buy-out. Founders are the primary exception to the rule. Founders usually get a special deal because they built the practice and made it valuable. In the start-up years, a founder’s compensation is low and he suffers higher risk, so it’s fair for the founder to receive the full buy-back price later on. THE PURCHASE PRICE FOR BUY-IN AND BUY-OUT The buy-in & buy-out prices (when taken together) can be high (for example, $100,000-in and $100,000-out), or they can be low ($10-in and $10-out), depending on the practice. In most practices, the price is either a formula that approximates fair market value (FMV), or an arbitrary or nominal number. I’ve seen many different buy-in and buy-out prices. I’ve seen one medical group with a nominal price of $10 for both buy-in and buy-out, and what’s more, the structure worked! Most practices, however, base the price on FMV. An FMV buy-in / buy-out price will equal the percentage share of the practice to be bought or sold, multiplied times the value of the practice. You determine the value of the practice based on 3 factors – tangible assets, accounts receivable, and goodwill. You can determine tangible assets and accounts receivable without much debate, because they represent hard assets that exist in the here and now. Goodwill is much harder to fix. Goodwill is the value of the practice’s expected future earning power, and the future is unknown. Goodwill varies from practice to practice. Although you can spend thousands of dollars on a fancy practice valuation and appraisal, ultimately you make a gut call on the value of goodwill. This is especially true for medical practices because they operate in a regulatory flux, and you can never predict what crazy policies Medicare will implement tomorrow. PAYMENT TERMS The doctor can pay the buy-in price, and the practice can pay the buy-out price, in cash or in installments. If a doctor pays for shares in cash, the doctor should receive the buy-out in cash (to the extent that practice liquidity permits this). Likewise a doctor who buys-in to the group over time using installment payments (e.g. a promissory note or salary reduction) should receive a buy-out in installments (e.g. a note or deferred compensation). Many groups pay the buy-out price as a combination of the buy-back of shares and deferred compensation. They do so for tax reasons because deferred compensation is deductible to the group and taxable to the doctor as ordinary income. Deferred compensation can be useful if a doctor paid the buy-in through reduced salary (which are pre-tax dollars for the doctor). At buy-out, the practice gets to deduct the deferred compensation, which evens out the tax benefit. If the practice pays a part of the buy-out price through a promissory note, the maturity of the note should be long enough that it does not overburden the practice yet short enough so the departing doctor does not wait too long for closure (e.g. 2-4 years). COMPETITION AFTER BUY-OUT A California practice can impose a non-competition clause on the departing doctor. In California, a non-competition clause is legal if it occurs as part of a bona-fide buy-back of the doctor’s shares. Some practices take very seriously the threat of competition, but other practices don’t really care. It depends on the nature of the practice and the market. If a practice does not demand a non-competition clause, it should at least regulate the process by which the departing doctor leaves. The practice should control how the doctor communicates with referral sources, employees and patients. The practice needs an orderly and professional process for separating the doctor from the practice. You don’t want either side (whether the departing doctor or the medical group) to poison the other’s well. For more on non-competition clauses, read May a physician compete against his or her former practice? and Stealing employees. CORPORATE DOCUMENTS The practice’s corporate documents should state the terms of the buy-in and the buy-out. Ordinarily you cover the buy-in in a Purchase Agreement, and the buy-out in a Shareholders Agreement. See also, Shareholder buy-sell agreements for medical corporations. To learn a little more about the process by which a medical group should bring in a new physician, read Bringing a new physician into a medical practice. You need an experienced attorney to implement my rule for buy-ins & buy-outs. Do not do this alone because there are many considerations and choices that I don’t have time to cover in this short article.

Removing a Doctor/Shareholder from a Practice

Termination of employment → Buy-back of shares → Non-competition → Claims for unfair oppression. Let’s start at the beginning, which is the end of employment. TERMINATION OF EMPLOYMENT The controlling physicians of the practice usually can fire physician / shareholders who lack control, and remove them from the board of directors. If there’s an Employment Agreement with the departing shareholder, the controlling shareholders must comply with that contract in firing the departing shareholder. If there’s no Employment Agreement, the controlling shareholders will rely on the at-will status of all employees in California to terminate employment. Getting fired hurts, because most physician / partners who are active in a practice depend on their salary from the practice. This is why, notwithstanding an Employment Agreement or CA’s at-will policy, the controlling partners need a good reason to fire the departing partner. Courts generally recognize a partner’s reasonable expectation of continued employment by his or her practice. Courts will protect a physician from being unfairly terminated and losing his or her salary (see below re “oppression”). BUY-BACK SHARES After termination of employment, the next issue for the controlling shareholders is whether to buy-back the departing doctor’s shares. If the departing doctor keeps his shares, then he’s still around — he can vote the shares at any meeting of shareholders, including to elect directors, and he can receive his share of dividends and distributions. The controlling shareholders only have a right to buy-back the departing shareholder’s shares if a contract gives them this right. The law does not grant this right to the controlling shareholders. Usually you find a buy-back right in a Shareholders Agreement or a Buy-Sell Agreement. The contract might trigger the buy-back right at termination of a shareholder’s employment, or perhaps upon mere dispute between shareholders. I talk about Shareholders / Buy-Sell Agreements at length in the articles in the right sidebar. These contracts are very important because they structure the buy-back process. Absent these contracts, the process devolves into an expensive free-for-all. Now think about the buy-out price. A high buy-out price gives the exiting shareholder a windfall. A low buy-out price is unfair and leads to litigation. The trick is, in the Shareholders / Buy-Sell Agreement, to use a procedure that ensures a fair price – for example, a neutral appraisal process, or an accounting formula. Payment terms are important too, because payment up-front in one lump sum is better than payment by promissory note over a long period of time. NON=COMPETITION Non-competition clauses follow on the buy-back of shares. The controlling doctors may only impose a non-competition covenant: (1) if a contract provides for it, and (2) only after the bona-fide buy-back of shares pursuant to that contract. Once again, the Shareholders / Buy-Sell Agreement is the contract that creates the non-competition right pursuant to the buy-back of shares. If a practice does not demand a non-competition clause, it should at least regulate the process by which the departing doctor leaves. The practice should control how the departing doctor communicates with referral sources, employees and patients. The practice needs an orderly and professional process for removing the doctor. You don’t want either side (whether the departing doctor or the controlling group) to poison the other’s well. Again, I talk about this a lot in the articles in the right sidebar. OPPRESSION NOT PERMITTED In CA, controlling partners must treat minority partners fairly, and they may not use their corporate power to benefit themselves alone or otherwise unfairly hurt the minority. The legal term of art is the oppression of minority shareholders. For example, for a founder / shareholder who earns her living through the practice, a court might consider it oppressive if the controlling shareholders fired the shareholder for no good reason thereby depriving her of salary. Courts also don’t like the unfair dilution of a minority shareholder’s equity (called a squeeze-out). Controlling shareholders need legitimate business reasons for their actions against minority owners. When oppressed by the majority, the minority shareholders have two legal remedies: (1) a tort cause of action for breach of fiduciary duty, and (2) involuntary dissolution. As to the latter, shareholders owning 1/3 or more of the stock can sue for involuntary dissolution. Minority shareholders will allege that a majority, controlling group of shareholders is committing unfair acts that cause financial loss to the minority. In most cases, a court will resolve an involuntary dissolution case by having the controlling group buy-out the minority, or by dissolving the practice.

Operating Agreements for Surgery Centers

This is the basic negotiation points in an Operating Agreement for an ambulatory surgery center (ASC). The focus will be mainly on control and on exit (buy-sell). CONTROL Control starts with voting percentages, meaning, who has sufficient votes to control the surgery center’s decision-making? If the ASC has a board, control means the number of votes on the board. Those with control like to keep things simple. If you already have control, you want to end the discussion there. An Operating Agreement drafted by the controlling member frequently has a short section on management that states the percentages or votes (i.e. control) and nothing else. The physician / members without control want complexity, that is, they want provisions that restrict the controlling member. Minority, non-controlling owners need to protect themselves from majority action. Protection usually comes in the form of veto votes, which give the minority a right to stop a particular action proposed by the majority. Consider these veto rights (and their rationales):- - Hiring, firing, replacing the manager or officers ⇒ Although the minority won’t run the operations of the surgery center, they want some control over who will. - Salaries & bonuses for management ⇒ Minority owners should prevent control persons from siphoning off substantial salaries and bonuses, leaving no profits for anyone else. This is doubly true as against management companies, which can be black holes for profits. - Affiliate transactions ⇒ This veto vote guards against the manager entering into sweetheart deals with its affiliates thereby redirecting profits to itself. - Distribution of profits ⇒ This veto vote helps minority physicians ensure some minimum distribution of profits to themselves. - Transfer of ownership interests ⇒ If the majority wants to sell their ownership to a third party, the minority might want to reject that third party as their new partner. - Issuing ownership interests to existing or new members ⇒ This veto vote guards against the unfair dilution of the minority physicians, including when the majority sells ownership to themselves or friends at sweetheart prices. - Selling the surgery center or merging ⇒ The minority wants some level of control over its ultimate exit, including to prevent the majority from selling the surgery center in a sweetheart deal that primarily benefits the majority. - Amendments to the Operating Agreement ⇒ The minority doesn’t want the majority to unilaterally change the terms of the deal. EXIT, A.K.A. BUY-SELL Every Operating Agreement should have provisions for the buy-back of ownership. I call this the economic divorce; others call it buy-sell. If the surgery center, for whatever reason, needs to remove a particular physician, the Operating Agreement gets you a divorce on terms that are fair to everyone. Triggers for Buy-Back. Traditional buy-sell involves what I call the 5 D’s & 2 B’s. The 5 D’s are disqualification of license, death, disability, divorce and dispute, and the 2 B’s are bankruptcy and bad transfers. I talk about these buy-sell trigger events at length under the heading to the right entitled, “Partner and Shareholder Relations; Buy-Sell.” Other buy-back triggers may include a litany of “for cause” events, and they essentially give the control persons a number of vague and open-ended reasons to remove a physician. Some ASCs just cut to the chase, without need for pretext, and permit the control group, at-will without-cause, to buyback a physician’s ownership. This latter expulsion can be important to the continued, smooth operations of the surgery center, but it’s clearly dangerous to the minority physicians who are subject to removal. Surgery centers frequently have buyback provisions to remove individual physician / investors based on their insufficient use of the facilities. Physicians who regularly use the surgery center’s facilities can become unhappy with a physician who does not. They see the non-using physician as a parasite who takes his distributions from the surgery center but who does not contribute. The legal basis (pretext?) for the buyback comes via the federal Anti-Kickback statute, which gives a safe harbor for ambulatory surgery centers. One requirement of the Kickback safe harbor is that each physician-owner must perform at least 1/3 of his Medicare-covered ASC procedures in the surgery center. The surgery center’s Operating Agreement can take advantage of the safe harbor to permit buy-back of the ownership of a physician who does not use the facilities. On its face, the buy-back seems justified because it only ensures ongoing compliance with the safe harbor. Buy-Back Price. The buy-back price is the crucial term for all buy-sell events. A high buy-out price gives the exiting physician a windfall. A low buy-out price is unfair and leads to litigation. The trick is finding a procedure that ensures a fair price – for example, using a neutral appraisal process or accounting formula to fix a price. Next look at payment terms, because payment up-front in one lump sum is much better than payment by promissory note over a long period of time. Non-Competition Covenant. In California, it’s legal to apply a non-competition covenant to a minority physician who has been bought out. Most non-competition clauses are for a period from 1 to 3 years, within a 10 mile radius. I have lots of articles on this topic on the right, under the heading “Competition.”

Management Agreements for Surgery Centers

Most surgery centers have a manager. Sometimes the manager is an outside management service organization (MSO) that specializes in surgery centers, and sometimes the manager is an insider entity owned by the founder / physicians of the surgery center. Whatever the nature of the manager, it and the surgery center will enter into a Management Agreement. SERVICES AND COMPENSATION First and foremost, in the Management Agreement you must define the manager’s services and the compensation for those exact services, plus any ancillary services that the manager will perform for an additional fee. The manager’s compensation can be a percentage (often 4% to 6% of collections or accrued revenues) or a flat fee. Manager’s compensation usually comes with performance milestones or thresholds, caps, or a decreasing percentage after the surgery center meets a specified threshold of collections. From a regulatory perspective (next), fixed fee is safer than percentage compensation. Make sure that the Management Agreement fits within the applicable referrals laws (most likely the Kickback statute). The usual requirements apply: the management fee must be set in advance, consistent with fair market value, be commercially reasonable, and may not take into consideration the volume or value of referrals. The interesting issue is percentage compensation. Most management fees are a percentage of the surgery’s center’s revenues or net collections. The Kickback safe harbor does not permit percentage compensation, however. If you want percentage compensation, then you don’t get the benefit of the safe harbor, which means you default to the general Kickback requirements. This shouldn’t be a problem so long as the manager is not a source of referrals. In contrast, you might have a problem if the manager engages in marketing activities designed to generate patients for the ASC, or if the manager is owned by physicians who might give or receive referrals (e.g. anesthesiologists). TERM & TERMINATION These provisions consist of (1) the initial term (often 10 years) plus the option / renewal terms; (2) the physicians’ right to terminate the contract either with or without cause; and (3) the manager’s right to suspend services or quit. Together, these provisions tell you how long the two sides are locked together, and the ease and cost of any forced separation. LIABILITIES The parties will negotiate the levels of indemnity between them, if only because indemnification is a sufficiently arcane topic to let us lawyers show off. Keep your eyes on the liabilities and debts of the surgery center for which the manager will be responsible. The manager’s goal is to avoid any responsibility for the operation of the surgery center. This includes lease liability, and most important, third-party reimbursement liabilities. The reconciliation process for reimbursements isn’t clean as of month end. If the physicians retain liabilities, consider retaining accounts receivable to cover the liability. HIDDEN CONTROL Beware a Management Agreement if the manager is the controlling owner of the surgery center. In this case, the manager controls both sides of the contract, that is, it controls both the surgery center and itself, the manager. If the manager wants to change or terminate the contract, it can do so at any time by agreement with itself. For example, the manager can raise its own management fees – all it needs to do is agree with itself regarding the raise, after due discussion and negotiation with itself. The real consequence of such a contract is to lock in the manager only for so long as the manager wants to stay in, which is as long as the manager is making good money. If the minority physicians don’t like the manager or its compensation, they are stuck for the term of the contract (likely 10 years with successive 5 year terms automatically tacking on thereafter). Because the minority physicians don’t control the surgery center, they cannot exercise any of the surgery center’s rights under the contract to remove the manager. The physicians must cover this risk in the Operating Agreement for the surgery center. Minority owners cover the risk through veto votes over the identity of the manager, management compensation, and the payment of fees to affiliates of management. Further, if the minority owners’ veto rights are to have any teeth, then the physicians’ exercise of the veto right must permit them to change or terminate the Management Agreement. It would be senseless to have the minority owners exercise their veto rights within the surgery center’s LLC, but then be bound by the Management Agreement.

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