HM Insights

Succession planning in the Healthcare Sector

It is somewhat of an understatement to say that 2020 was difficult and challenging for all of us, and certainly not least for those in the Healthcare sector.

Indeed, for many business owners it is normal to being experiencing what some have termed "lockdown fatigue".

With the ongoing issues of the COVID-19 pandemic, as well as the challenges to be presented by Brexit (irrespective of whether or not a trade deal is reached), business owners within the Healthcare sector may well be re-considering their positions on succession planning and may therefore be looking at selling, retiring or passing the mantle on to the next generation (whether that is in a family business or not).

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Options for passing on your business

We have seen evidence since the start of the pandemic of owner operators in the care home, dental and veterinary sectors look to implement some form of succession plan, whether that involves selling the business to a consolidator or otherwise.

Some options may include:

  • Transfer to family members;
  • Trade sale;
  • Management Buyout; and
  • Transition to Employee Ownership.

Transfer to family members

The passing of a business from one generation to another is by no means a novel creation. This kind of natural succession of a business has taken place in some of the most successful companies to date. There are still of course, many things to be considered when opting to pass the business on to a family member (or members), such as; (i) which family members are going to be involved; (ii) if more than one, what the spread of responsibilities is to be; (iii) whether there will there be any external (i.e. non-family members) involvement in the running of the business; and (iv) whether the existing owner will keep an active role in the business going forward.

An important point is also whether consideration will be paid by the next generation for the business. Where the proposed new owner family members are already owners in the business, it may be an option for the business to "buy-back" the interest of the departing owners, so the retiring generation can fund their exit from the business's available cash.

Lastly, in the event that family members are already involved in the management of the business, the question as to whether the family would consider "buying out" the existing owners in a "family management buyout" should be asked (see note below on management buyouts generally).

Trade sale

What about situations whereby there are no family members to pass the business to? For an attractive, valuable business, the most common route is a trade sale. In the Healthcare sector, it is also not uncommon to sell the business by way of a trade sale to a consolidator.

The sale will commonly be structured either as a business & asset purchase or a share purchase whereby the buyer will agree to buy the business & assets of, or the shares in, the business.

A buyer will naturally wish to protect itself in such circumstances by carrying out an extensive investigation into the business it is buying (called due diligence) and look for comforts in the purchase agreement, primarily being warranties and indemnities. The downside therefore is that there may be a lengthy process to go through the due diligence process and negotiate the purchase agreement.

Management Buyout (MBO)

As the name suggests, an MBO describes the process whereby managers working within a business acquire ownership of the business. More often than not, the sellers will leave the business altogether once the new owners are in place – though this is not always the case.

As a means of succession planning, a sale via MBO may commonly be a preferred option to those selling. This can be the result of a number of factors, but generally an MBO is seller friendly in that; (i) there may be a limited pool of potential buyers at the time of sale; (ii) the seller may have peace of mind, knowing that the business will be looked after going forward; (iii) the seller may have reservations about approaching potential competitors when testing the market for selling, and may be hesitant at the idea of disclosing sensitive information; and (iv) as the managers will have knowledge of the business already, there will be less (or even very little) due diligence carried out and less onerous warranties and indemnities requested.

The general structure of a MBO will tend to vary with the complexity of the overall transaction, however the most common (and basic) structure used, is for the incorporation of a new business ("Newco") owned by the managers that will be used to acquire the existing business. Newco will be funded by a mixture of equity (i.e. contributions by the managers for shares into Newco) and debt funding by external lenders. In a Healthcare business where there are possibly assets to give security over, there is more chance of securing lending from an external lender - it also goes without saying, the greater the equity contribution, the more attractive it is to an external lender.

Employee Ownership

Employee ownership is now becoming a more popular alternative for succession planning. There are different ways to structure employee ownership but all methods will result in a majority control of the business by the business's employees. The three structures are broadly:

1. The direct model

Here the owners will sell the shares to the employees in a share purchase agreement but payment is likely to be deferred over a period of time. There may be the possibility of external debt funding being provided to service part of the price if the business has assets to offer as security.

The employees will be the shareholders of the business and therefore the direct owners. The employees will enter into a shareholders agreement and adopt articles of association for the business. This would deal with the appointment of directors and it is expected that the articles would narrate for the appointment of employee directors to give a voice to the employees. The shareholders agreement and articles will also contain provisions providing for an employee to relinquish their shares on them ceasing to be an employee.

The employees will also benefit from dividends on their shares if the business has the cash to declare a dividend and in any future sale of the business, the employees will also benefit from the, hopefully, uplift in capital value.

2. The indirect model

Here an Employee Ownership Trust will be set up to buy the shares from the owners in a share purchase agreement. Again, as with the direct model, payment is likely to be deferred over a period of time and there may be the possibility of external debt funding.

The main difference though is that the trust owns the shares and instead the employees will be the beneficiaries of the trust. In such circumstances, ownership may not feel as real for the employees as compared to the direct model.

The trust will have a trust deed governing it with trustees appointed to protect the interests of the employees. However the trust does not run the business of the business - this function remains with the directors and a set of articles of association for the business will be adopted at the time of adopting employee ownership.

Such a structure though is attractive to a seller even though payment is likely to be deferred. This is because, subject to certain key qualifying conditions being met, the seller would be eligible for 0% capital gains tax.

3. Hybrid model

As the name suggests, this is a mixture of the direct model and indirect model with employees owning shares directly and an employee ownership trust also owning shares.

Top tips for get ready for succession planning

There are a number of common issues that we see occurring in respect of businesses in the Healthcare sector that would be worth addressing so as to avoid issues arising when it comes to implementing a succession plan. These include ensuring:

  • If your business is a company, that the company has maintained an up to date set of statutory registers relating to directors, shareholders etc.;
  • The business is properly registered with the Information Commissioner's Office for Data Protection purposes;
  • The business has up to date privacy policies that allow for the business to be transferred;
  • The business has written contracts of employment and a full employee handbook with a consolidated set of policies;
  • The business has "right to work" evidence for all employees (including UK citizens) as required by immigration law;
  • The business is compliant with the Payment Card Industry Data Security Standard;
  • The business has maintained all records required in respect of the Coronavirus Job Retention Scheme and the other Coronavirus related business support it has received; and
  • The business is properly authorised by the Financial Conduct Authority in respect of any regulated activities (e.g. provision of consumer credit) it conducts or that it is properly appointed as an authorised representative of another entity properly authorised by the Financial Conduct Authority.

Get in touch – we're here to help

If you own a Healthcare business and are considering how best to deal with succession planning, please get in touch with a member of our team.