Working with Confidentiality While Still Retaining Maximum Price
When approaching a healthcare M&A transaction maximum price on the selling end is always one of the first concerns. However, on both sides of the transaction, information is exchanged that could drastically impact the value of the deal if it is leaked out to third parties. This is where the confidentiality agreement comes in for the majority of healthcare M&A deals. According to some, there can be a conflict between confidentiality and earning the maximum price in a sale, however, other professionals also say the two are essential together. The Ambulatory M&A Advisor discusses some of the essential things to know about confidentiality agreements and the ways they they can impact the maximum price of the business in question.
William Bithoney, MD, FAAP, Managing Director, Chief Physician Executive with BDO Center for Healthcare Excellence and Innovation says that there are so many kinds of healthcare transactions that it would make one’s head spin and the importance of confidentiality varies tremendously.
“In general, confidentiality is very important, but I believe it is also very important for the seller to know what their company is worth before entering into an agreement. This means they need to hire people experienced in valuing companies, intellectual properties and future revenue streams BEFORE signing any confidentiality agreement,” Bithoney says.
Matt Sturm, Associate Principal, ECG Management Consultants says that one of the best ways to explain when confidentiality and maximum price clash is to use the cliché marriage analogy.
“These are parties that are essentiallty dating, you have entity A looking for a partner. Dating much like other relationships is non-exclusive. They will play the field, see who is out there, who is interested, what types of commitments and terms they can find. Ultimately that is a process like a funnel and you whittle it down.
At a certain point, both party A and party B are going to look fora certain level of commitment from their prospective partners; that point is what I’ll call the engagement. Oftentimes there is an “exclusive period” they enter into. Both parties will structure a period where there is a standstill that prevents either party from going out and finding another partner,” Sturm says.
“The first phase (dating) has no contractual commitments. The business looking for the partner is absolutely free to shop around and talk to others; from a confidentiality perspective there are no contractual obligations. There may be practical limitations in terms of how much they want their employees to be aware of, and how much they want different parties to be aware of the conversations that are occurring.”
According to Sturm, once reaching the engagement, that is when there are contractual obligations and potential penalties for breach of confidentiality.
Bruce Irwin, MD, CEO of American Family Care says that he would not get involved in a transaction that does not have a confidentiality agreement. It is the first thing that should occur between parties.
According to Irwin, the issues involved in a confidentiality agreement are important. One is, that it is essential in controlling the process, and the process has to be controlled. It can’t just have information thrown out for anybody that wants to look at it. In order to control the process, the parties have to have confidentiality agreements with whoever they are dealing with.
“The other aspects of it is that you do have proprietary information that must be maintained. Everyone has their own trade secrets, so you have got to maintain that information. You need to know that the people you are dealing with are prepared to keep that information private. Sometimes the people you are dealing with are your competitors, so you have to be careful with what you share with them, especially in the preliminary stages,” Irwin says.
Irwin says that when discussing the confidentiality agreement, depending on who the parties are dealing with, the agreement is going to have certain aspects.
“If you are dealing with a banker about ongoing financing activities then they are interested in your basic financial information. In that type of a transaction, you don’t have to worry so much about your proprietary operating systems. In that case, you may just worry that they don’t talk about your finances,” Irwin says.
“If the transaction is involving M&A, then that stuff is a lot more important. If you are dealing with a competitor there is certain basic industry information that is the same for everyone. The average revenue per encounter in urgent care centers around the country is within ten dollars. So, that’s no secret, the payer mixes are not a secret. There are some things that you know without having to dig into the meat of the transaction.”
After the confidentiality agreement is enforced, Irwin says parties begin sharing preliminary information, and beyond the preliminary information stage is where the confidentiality portion kicks in. However, once the confidentiality agreement and terms are in place, Irwin says there are several areas that need to be paid attention to.
“In your basic confidentiality agreement, I would think that there are several things you need to be careful of. One, is jurisdiction, that can be a big problem. You need to spell out jurisdiction and it should be within the seller’s domain. If it’s a New York firm and we are an Alabama company, then we are going to push the domain to be had in Alabama,” Irwin says.
“You also have to spell out who they can share the information with, and the duration of the confidentiality agreement. A normal confidentiality agreement should be two years. A lot of people push for one year, but in business one year is not very long. The other thing is protection. It needs to spell out if a breach will be resolved with law suit or arbitration. It needs to be clear on who gets to see the information, it needs to be clear on jurisdiction, and it needs to be clear on the length of time that it is enforced.”
Bithoney says when exploring the risks of breaching an agreement, there are potential criminal issues involved.
“You have to really pay attention to what is in your confidentiality agreement and write out specifically, what the recipient is required and prohibited from doing. You need to find out what those issues are going to be and what the penalties are for breach,” he says.
When looking at earning the maximum price for a business while in the middle of a confidentiality agreement Bithoney says sellers first want to look at how other companies in their industry are valued.
“Are they valued on a book value, are they valued on a price to earnings ratio? You should know how your business is valued as well as who your potential buyers are. The problem is that once somebody knows that you are for sale, you can lose employees as well as the confidence of current contractors. There is a downside once there is knowledge of a potential transaction. Once you can’t shop around, you have got a problem. You need to know what a good price is and what a bad price is on your business before you enter into a confidentiality agreement. You need to have a good idea of what your future revenue stream will look like,” Bithoney says.
According to Bithoney, confidentiality does clash with getting the maximum price in a transaction, and lack of confidentiality when something has gone wrong can damage a business also.
“It is a real bind and that is why I stress that the seller get as much information as they can from several points of view, be it from bankers or consultants who understand the inner workings of healthcare,” he says.
Irwin says like many things in business, the sword cuts two ways. To get the maximum value, one needs the confidentiality agreement. On the other hand they need to be able to not disseminate more information than they need.
“It really boils down to your level of trust on who you are dealing with. If you feel like this is someone that you can do business with, then you can share more information than you normally would. I don’t think a confidentiality agreement clashes with getting the maximum value. I think it actually helps you get the higher value,” Irwin says.
Sturm says that by and large, efforts to earn the maximum price really need to happen prior to the point of reaching that binding agreement (engagement period) between parties. Quite honestly, once the businesses have hit that point they already have a general agreement with respect to key terms and provisions.
“You know enough about the other party to know there may be a deal once the specifics are pinned down. Really, the time period to play the field and get as much as you can from a price perspective is before you enter into that exclusive period,” Sturm says.
If you would like to learn more about the concepts covered in this article, want to sell your business or discuss how Ambulatory Alliances, LLC might be able to help you out, contact Blayne Rush, (469)-385-7792, or Blayne@ambulatoryalliances.com.
If you have suggestions for future topics, email Blayne@ambulatoryalliances.com.