When buying or selling a dental practice, don't neglect the non-compete
If you find yourself in the position of buying or selling a dental practice, it is important you thoroughly understand the concept of a “non-competition agreement” or “non-compete.” In this article, we will look at the key details of non-competes and why they sometimes trip up buyers and sellers. But first, let’s look at a common example of how non-competes come into play.
In New Hampshire, where I practice law, it is not uncommon to find a two-dentist practice operating with the support of multiple hygienists and an office manager. In these two-dentist practices, one dentist is typically an experienced practitioner who has built the practice over time, while the other is a newer dentist who came on board as an associate to help expand the practice. As time moves on, these two-dentist practices often face a choice. There comes a day when the senior dentist is ready to retire, or at least cut back, and the newer dentist is ready to practice independently. Naturally, a common solution emerges: the senior dentist will sell the practice to the junior dentist. The particulars of this solution vary—sometimes the senior dentist stays on as an employee, sometimes the practice is transitioned over time—but the result is that the junior dentist steps forward to take over and ultimately own the practice the senior dentist built.
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In order to protect the party purchasing the practice, attorneys structuring the sale of the practice make use of a non-competition agreement, whether as part of the asset purchase agreement or as a separate document executed at the closing. A non-competition agreement acts as the name suggests. It places restrictions on the ability of the senior dentist (seller) to compete with the junior dentist (purchaser). These restrictions typically involve limits on how close the senior dentist can work to the old practice, the types of patients the senior dentist can treat, and how long the senior dentist must abide by the restrictions. For example, a non-compete might provide that the senior dentist cannot practice dentistry within 25 miles of the old practice for a period of two years, and the senior dentist cannot treat any patient from the old practice for a period of two years.
The transfer of goodwill
One of the primary challenges in structuring these transactions is how to handle the transfer of the senior dentist’s goodwill. Senior dentists are typically the ones who have built the practices—they have sat on the board of the local chamber of commerce, gone to local Rotary Club dinners, donated to the local library, etc.—all to build a good name in the community. These actions are necessary because the choice of a dentist by a patient is often a highly personal decision based on trust. As time goes on, this trust is passed down, and therefore most mature practices have been seeing the same families for years, even generations. In short, the senior dentist is not just the owner, but the face of the practice. The junior dentist, meanwhile, might still be paying off student loans and is looking at making a significant investment, often with the help of a loan, in the senior dentist’s practice. The junior dentist must therefore have assurances that the purchase will effectively transfer the senior dentist’s goodwill.
The move to transition a dental practice frequently begins months or years before anyone calls a lawyer or drafts an asset purchase agreement. It involves the slow process of ensuring that patients are equally comfortable with the junior dentist, and the junior practitioner must gradually be brought to the fore. As trust grows over time, the senior dentist begins giving the junior dentist more responsibility, permitting the junior dentist to practice on their own, and to perform more complicated procedures. At the same time, the junior dentist begins to practice independently and envision what running the practice would look like.
As this informal mode of transition moves forward, practitioners would do well to consider the parameters of a potential non-compete agreement as a companion to the formal transfer of the practice. As with other sensitive subjects, these matters are best addressed when relations are collegial and parties are in a position to address difficult questions without feeling their backs are up against a wall. Key questions to consider include how long the senior dentist will refrain from competing and how far away the senior dentist must be to practice dentistry.
Legal trends
The New Hampshire courts have provided guidance concerning the types of non-compete restrictions they are willing to enforce, and those they will not. While each state differs, many themes remain the same across all states. Generally speaking, the non-compete restrictions must have a connection to the interests that the purchasing dentist (junior dentist) is trying to protect. So, for example, it is reasonable to prohibit the selling dentist (senior dentist) from seeing customers he or she came to know through the practice, but it is unreasonable for restrictions to be placed on the treatment of prospective customers unknown to the selling dentist at the time of the sale.
Similarly, the distance within which the selling dentist cannot practice should be based on the community where the practice is located. If the practice serves a large rural area, a larger area may be appropriate for non-compete restrictions. If the practice serves a particular community, a smaller restricted area is proper.
Relative positions of the parties
In the context of transferring a dental practice, it is helpful to understand the difference between the relative positions of the parties as compared to a standard non-compete situation. Non-competes are most commonly used by employers seeking to protect against unfair competition by former employees. As such, most court decisions involving non-competes arise from this scenario. The critical feature of the employer-employee relationship in non-compete analysis is the presence of unequal bargaining power between the parties. Employers typically condition employment on the execution of a non-compete. Courts asked to enforce non-competes will therefore consider whether the employer acted in good faith when procuring the employee’s agreement. They will scrutinize the degree to which the non-compete prevents the employee from earning a living in his or her chosen field.
However, the execution of a non-compete in the context of the sale of a dental practice does not implicate the same unequal bargaining power. The selling dentist (who must abide by the non-compete) is able to negotiate the transaction at arms-length with the purchasing dentist, and the transaction is one of choice, not necessity. If anything, it may be the purchasing party who is at a disadvantage since purchase from the selling dentist may be the only or best option for near-term ownership of a dental practice. Moreover, because the selling dentist has typically received a substantial payment in exchange for the practice, a court is less likely to sympathize the way it might with a former employee.
In view of these differences, courts around the country have been more receptive to parties seeking to enforce non-competes arising in the context of a sale of a business. For example, while a court is unlikely to enforce a non-compete with a time restriction in excess of two years against a former employee, courts have enforced non-competes with a longer time horizon where the dispute involved the sale of a business.
Conclusion
The foregoing discussion should inform the sale of dental practices, both on the buyer side and the seller side. Sellers should understand what kinds of restrictions they are likely to be asked to agree to, and realize that they might have a harder time avoiding those restrictions than a traditional employee. Buyers should know how they can use a non-compete to protect their investment, and understand the limits of such restrictions. Non-compete law is an active and changing area of practice right now, and many litigants are finding that the ground has shifted in the time between when the non-compete was entered into and when it came time to enforce it. Smart parties will address non-compete issues early in the transition process, identify restrictions that are reasonable in the context of the sale transaction, and confirm the continued vitality of the non-compete provisions prior to enforcement.
