AMARILLO, TX – Assume that “John Smith” owns 100% of the stock of ABC Medical Equipment, Inc. Assume that Smith wants to sell ABC. This article will discuss key issues pertaining to the sale of ABC.
Stock Sale vs. Asset Sale
If the sale of ABC is an asset sale, then the seller is ABC. It sells its inventory, equipment, and patient files. After the sale, Smith will continue to own ABC. However, ABC will be a shell corporation; it will have no assets other than the purchase price paid to it for its assets.
Assume that Jim Brown desires to purchase ABC’s assets. The purchaser will not be Brown, individually. Rather, the purchaser will be a legal entity owned by Brown (e.g., XYZ Medical Equipment, Inc.). After all of the dust settles, XYZ will end up owning all of ABC’s assets.
XYZ will not assume ABC’s liabilities. For example, assume that XYZ purchases ABC’s assets on 11/1/22. Assume that on 3/1/23, a UPIC instigates a large audit against ABC for activities it conducted prior to 11/1/22. The audit is not XYZ’s problem. Rather, it is ABC (that continues to be owned by Smith) that need to respond to the audit.
ABC’s accreditation, PTAN, state licensure, and Medicaid provider number cannot be assigned (transferred) by ABC to XYZ. XYZ will need to secure new accreditation, a new PTAN, new state licensure and a new Medicaid provider number. It is likely that ABC will not be able to assign its commercial insurance contracts to XYZ. This means that XYZ will need to secure new insurance contracts.
Assume that “closing” occurs on 11/1/22. This is when title to ABC’s assets transfers to XYZ. Assume that on 11/1/22, XYZ takes over ABC’s physical location on Main Street. And assume that on 11/1/22, XYZ starts servicing Medicare patients out of the Main Street location.
- Let’s say that on 11/1/22, XYZ is accredited, has state licensure, and has a surety bond.
- Assume that on 11/1/22, XYZ submits its application for a PTAN.
- Assume that on 1/1/23, a PTAN is issued to XYZ. During the 60 day period between 11/1/22 and 1/1/23, it is likely that CMS will allow XYZ to serve Medicare patients and hold the claims…and then submit all of the accumulated claims at once on 1/1/23.
Now, let us change the facts. Assume that closing occurs on 11/1/22. But assume that (i) XYZ does not secure its accreditation, DME licensure, and surety bond until 12/1/22. And so then assume that XYZ does not submit its application for a PTAN until 12/1/22 … and does not receive its PTAN until 2/1/23. In this scenario, if XYZ serves Medicare patients beginning 11/1/22, XYZ will not be able to bill for those patients for the time period of 11/1/22 to 12/1/22. XYZ will be able to (i) accumulate the Medicare claims between 12/1/22 and 2/1/23 and (ii) submit the accumulated claims at one time on 2/1/23.
ABC will not be the seller; rather, Smith, individually, will be the seller. He will sell a piece of paper (i.e., the stock certificate that evidences his ownership of ABC). The buyer will not be XYZ. The buyer will be Brown, individually. Brown will not be buying ABC’s assets. Rather, Brown will purchase Smith’s stock certificate.
Unlike an asset sale resulting in ABC becoming a shell company, ABC will continue on as an operating company. The only difference is that Smith is “out” as ABC’s owner … and Brown is “in” as ABC’s owner.
ABC will continue to own its PTAN, accreditation, DME licensure, surety bond and Medicaid provider number. Before and/or after closing, ABC will be required to submit change of ownership (“CHOW”) notifications to the National Supplier Clearinghouse (“NSC”), ABC’s accrediting organization, the agency issuing DME licensure, the surety bond issuer and the state Medicaid program. Because ABC’s PTAN will remain intact, there will be no break in billing (i.e., no break in cash flow).
ABC’s commercial insurance contracts should remain intact with ABC after closing. It is likely that before closing, ABC will need to submit CHOW notices to the commercial insurers. Brown may elect to pay a premium to Smith for ABC’s stock because ABC’s insurance contracts are valuable. In doing so, Brown needs to be aware that virtually all commercial insurance contracts allow the insurance company to cancel the contracts “without cause” upon giving e.g., 90 day advance notice.
Brown inherits ABC “warts and all.” In other words, whatever liabilities (known or unknown) that ABC has before closing will remain with ABC after closing. ABC’s pre-closing liabilities will not be imposed on Brown, individually. However, the company that Brown bought (ABC) will have to deal with the liabilities.
Mutual Nondisclosure Agreement (“MNDA”)
Whether the transaction is an asset sale or stock sale, at the beginning the parties will sign an MNDA. This says that the parties will share confidential information with each other … and they will keep the information confidential.
Disclosure of Financials
The seller will disclose its financial documents to the buyer.
Letter of Intent (“LOI”)
This a detailed, but mostly non-binding, letter signed by the seller and buyer. The LOI sets out the “terms of the deal.” Among other provisions, the LOI contains the purchase price … including how the purchase price will be paid.
This is where the buyer “kicks the tires” of the selling company so that the buyer knows what it is that it is purchasing. While due diligence is important with either an asset sale or a stock sale, it is particularly important with a stock sale. This is because ABC’s pre-closing liabilities stay with ABC after closing. Due diligence includes:
- The buyer will order a UCC lien search to determine if there are any recorded liens against ABC’s assets.
- The buyer will determine if ABC’s corporate charter is in good standing.
- The buyer will determine if the following, pertaining to ABC, are in good standing: PTAN, accreditation, state licensure, surety bond, and Medicaid provider number.
- The buyer will review ABC’s commercial insurance contracts. If the transaction is an asset sale, the buyer will attempt to determine if the insurers will execute new contracts with the buyer. If the transaction is a stock sale, the buyer will determine if the contracts remain intact with ABC after closing.
- The buyer will review ABC’s business model to determine if it is in compliance with federal and state fraud and abuse laws. The purchase price will likely be based on a multiple of ABC’s EBITDA (earnings before interest, taxes, depreciation and amortization). If ABC’s gross revenue emanates from kickback and/or beneficiary inducement scenarios, in an asset sale the amount that the buyer is willing to pay for ABC will decrease. This is because after closing, the buyer will need to change ABC’s business model that will, in turn, result in a reduction of ABC’s gross revenue. With a stock purchase, the buyer may decide to walk away altogether because ABC will continue to have pre-closing liability resulting from the kickback/inducement arrangements.
- Assume that the ABC operation remains at ABC’s Main Street location after closing. In an asset sale, XYZ will need to (i) enter into a new lease with the landlord or (ii) purchase the building. In a stock sale, the buyer will need to determine if the lease will remain intact after closing.
- The buyer will need to determine which of ABC’s employees the buyer wishes to retain after closing. If the buyer determines that some of ABC’s employees need to be terminated, then the buyer should expect ABC to handle the terminations before closing. This should not be the buyer’s responsibility. The seller wants the buyer’s money … and so it should be the seller’s responsibility to take care of the employees.
- If the transaction is an asset sale, (i) the parties will sign an Asset Purchase Agreement (“APA”) and (ii) the seller will sign a Bill of Sale.
- If the transaction is a stock sale, (i) the parties will sign a Stock Purchase Agreement (“SPA”) and (ii) the seller will sign a Stock Transfer.
- In both the APA and SPA, two of the most important provisions are those entitled Representations and Warranties (“Reps and Warranties”) and Indemnification. In the Reps and Warranties section, the seller will make certain representations regarding ABC. If after closing, the buyer determines that one or more of the representations were false, then the buyer can look to the seller for damages. The attorney for the seller will strive to make the representations as narrow as possible. On the other hand, the attorney for the buyer will strive to make the representations as broad as possible. Under the indemnification section, each party will agree to indemnify and hold the other party harmless in the event the indemnifying party fails to fulfill its obligations under the APA/SPA.
- The buyer will desire to pay a portion of the purchase price in cash at closing and pay another portion of the purchase price sometime after closing. The portion of the purchase price to be paid after closing is called a “holdback.” Such a holdback allows the buyer to offset against the seller’s money in the event the seller fails to fulfill its representations. On the other hand, the seller will want the buyer to pay as much of the purchase price as possible in cash by closing.
- Other closing documents will be signed. These may include (i) the lease or purchase by the buyer of the ABC location on Main Street and (ii) an employment agreement with Smith that states that Smith will be an employee of XYZ (“asset sale”) or ABC (“stock sale”) for a period of time after closing so as to ensure a smooth transition.
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Jeffrey S. Baird, JD, is chairman of the Health Care Group at Brown & Fortunato, a law firm with a national health care practice based in Texas. He represents pharmacies, infusion companies, HME companies, manufacturers, and other health care providers throughout the United States. Baird is Board Certified in Health Law by the Texas Board of Legal Specialization and can be reached at (806) 345-6320 or firstname.lastname@example.org.