Buy, Sell, or Hold: Selling Your Diagnostic Imaging Business

I was recently speaking with a client of mine who had spent about eight years growing his diagnostic imaging company. He had built up significant equity in the business and was concerned that capital gains rates may increase dramatically in 2009. In addition, he was eyeing some acquisition targets that would tuck in nicely with his current centers. As a result, he was mulling the idea of recapitalizing his company and partially monetizing his equity using outside equity sources. Many diagnostic imaging center operators reach this crossroads, which simply can be described as the buy, sell, or hold decision. In deciding to hold, a management team believes that the business is on track and that its growth can be fueled by internal resource. In the buy scenario, a management team concludes that it can create significant value through a selective acquisition program. For example, this program may focus on consolidating the company’s position in a given market or on acquiring beachheads into new, attractive markets. Often, a management team will have a good pipeline of acquisition targets, but not the financial resources to pursue them. In the sell scenario, a management team may decide that the company’s resources are better used in other business areas, or may just want to spend more time achieving that elusive work–life balance. As a result, the company would try to monetize all, or a significant portion, of the equity built up in the business. The company may seek either to raise the capital needed to fuel the acquisition program from external sources or to sell the company. In either case, management is in for a four- to six-month process with four phases: initial preparation, marketing, due diligence, and negotiations and closing. Initial preparation: During this phase, the company prepares three key documents: a nonconfidential teaser describing the business on a no-names basis; a form of confidentiality agreement; and a complete confidential information memorandum, which is a complete description of the business and its strategy. Marketing: At this stage, potential acquirers are contacted. This initial call is typically followed up with the nonconfidential teaser, as well as a draft of the confidentiality agreement. Once the confidentiality agreement is executed, interested parties are sent a confidential information memorandum and given 10 to 14 days to provide an initial, nonbinding indication of interest. Due diligence: This is the most intrusive phase of the process and typically consists of providing potential buyers with reams of financial reports, management presentations, and site visits. At the end of this phase, potential partners are asked to submit their final letters of intent. The letter of intent will outline several important terms of the transaction, including valuation, form of consideration, type of acquisition (stock versus asset), exclusivity, escrow amounts and timing, and postclosing governance, if applicable. While the letter of intent is nonbinding, it is an important, carefully negotiated document. Negotiations and closing: The company’s management and board of directors review the final offers and chose the one party, or occasionally two, to enter into final due diligence and negotiations. During this phase, the potential partner finalizes due diligence and both parties draft and negotiate the definitive purchase and sale agreement. Once both are complete, the transaction is closed. There are three different types of buyers/investors: private equity funds, which are companies with large pools of capital used to acquire, and invest in, businesses; strategic operators, or companies that operate in the industry; and hybrids, which (as a subcategory of strategic buyers) are portfolio companies of the private equity companies that are in the same industry. In general, the primary difference between the private equity and strategic partners is that the strategic operators typically can acquire businesses at higher valuation because they can price synergies, such as cuts in overhead costs, into the transaction. While each potential partner has its own set of investment criteria, there are several key elements that they look for when acquiring or investing in diagnostic imaging companies, specifically: stable, growing cash from operations;

• clusters in geographical markets;
• a deep, diverse referral base;
• strong management teams;
• newer equipment;
• a well-respected radiology group;
• good payor contracts; and
• clean financial statements.

The last point cannot be emphasized enough. Many transactions fall apart in the late stages because financial reporting systems and statements do not stand up to accounting due diligence. In particular, financial statements must be properly accrued for allowance for doubtful accounts and contractual allowance. Minor adjustments in either of these accounts create major changes in EBITDA and, as a result, in valuation. Before embarking on the process of finding a strategic partner, it is crucial for operators to understand this process fully and to determine whether it makes sense to hire an investment banker. A banker can be helpful in fully canvassing the market, vetting potential buyers, and negotiating financial as well as nonfinancial terms (such as governance issues). More important, this process is time consuming, requiring anywhere from 30% to 100% of management’s time at any point. An advisor can ease the time burden so that management can continue to focus on the daily operations of the company. In addition, the vast majority of the investment banker’s fee is success based, and thus, many companies view bankers as variable-cost labor” Should the company not have the in-house expertise and time to run an efficient process and to negotiate a transaction, then it may make sense to consider hiring an advisor.