Disclaimer: As with many client case studies, the names of the people have been changed to protect the attorney client information. However, the facts and laws are real and should be considered accordingly.
New business ventures often start with optimism, trust, and shared vision, but without the right legal foundation, even the strongest alliances can end in costly disputes. This case study details how skipping tough conversations and written agreements cost two orthopedic surgeons their practice and led to a doctor “divorce”. Their story highlights why a “business prenup” is an essential legal strategy for protecting your practice, relationships, and peace of mind.
The Case of the Business Partnership Gone Wrong
Dr. Parker and Dr. Osborn were best friends fresh out of fellowship when they decided to start their own orthopedic practice. They agreed on a 50/50 split, but never documented their arrangement beyond the formation filing that Dr. Osborn completed himself.
After a few years of practicing together, Dr. Osborn decided to leave the practice and take a hospital position. When Dr. Osborn left, there was no discussion about his exit or ownership status. After he left, Dr. Parker continued on with the practice, taking what was a struggling practice and transforming it to a thriving practice. Two years after he left, Dr. Osborn resurfaced claiming he still owned half the practice and wanted his 50% of the profits from the last two years. With no written agreements between the doctors, much less a contingency plan, the dispute became a high-stakes standoff.
What Is a Buy-Sell Agreement and Why Does It Matter?
A buy-sell agreement, also referred to as a “business prenup,” is a document which is typically contained within a well-drafted operating agreement, company agreement, or other governing document. It addresses the what ifs by talking about how the owners separate. Similar to a marriage prenuptial agreement, it sets the rules for what happens if one owner leaves, retires, dies, becomes disabled, or if the relationship breaks down. In any given business, including health care, this is critical for:
- Creating a framework for dealing with the “what if” scenarios;
- Determining the purchase price or process to determine the purchase price in the event of an owner’s exit;
- Determining the payment structure for purchasing ownership upon an owner’s exit; and
- Protecting the business from financial instability during an owner’s exit.
Buy-sell agreements are not just about legal formality, but are also about preserving working relationships and avoiding messy, expensive litigation.
The Cost of Skipping a Buy-Sell Agreement
While owners may wish to skip the hard conversations involved with building a business prenup, failing to establish a formal legal agreement can leave partners vulnerable to a host of challenges.
Misaligned Expectations
Without a buy-sell agreement, owners often enter into relationships with unspoken assumptions about what will happen if an owner leaves. When expectations are not aligned and documented, conflict is almost inevitable.
Dr. Parker and Dr. Osborn assumed their friendship and shared vision in the beginning would be enough to sustain their practice. Without a written agreement to guide them, misunderstandings turned into mistrust.
Deadlock
A lack of defined buy-sell agreements leave the owners stuck together as owners or forcing them to potentially close the practice as these types of issues are usually not addressed in the state laws governing entity ownership. In health care practices, where regulatory compliance and patient care are at stake, the lack of a clear transition plan can have serious consequences.
Financial Disputes
Money is one of the most common sources of conflict in business relationships. Without a clear business prenup outlining the financial terms of an exit, tensions are amplified when trying to sort out the buy-out. These tensions are compounded by the fact that the doctor who is staying will inherit the responsibility for the overhead of the practice along with the expected loss of revenue resulting from the exiting physician. Dr. Osborn wanting to be paid profits of the practice, even after he left demonstrates why a business prenup should be in place.
The Outcome
After a series of tense communications involving ByrdAdatto and CPAs, Dr. Parker agreed to compensate Dr. Osborn, but only for revenue generated from services directly attributable to Dr. Osborn after his departure. The situation escalated when ByrdAdatto had to clarify to Dr. Osborn’s CPA that their legal position could lead to a lawsuit, especially given Dr. Osborn’s breach of fiduciary duty. As the sole manager of the practice, Dr. Osborn had abruptly left, joined a competitor, and solicited patients from the original practice, actions that violated his duty of loyalty and care to the practice.
Ultimately, the parties reached a settlement but not before significant legal fees, stress, and a damaged friendship. While Dr. Parker gained full ownership of the practice, he had to endure the emotional strain and significant financial costs to resolve the conflict. Meanwhile, Dr. Osborn did receive a modest payout, albeit far less than he had anticipated. The dispute, which could have been avoided with a well-crafted business prenup, became a textbook example of the “5-50 rule”: pay $5 upfront to do it right, or $50 later to fix the mess.
This story serves as a powerful reminder of the importance of early legal planning and the risks of relying on informal agreements and handshakes in professional partnerships.
Legal Takeaways for Business Partnerships
Below are some key legal takeaways to consider for business partners:
- Relying on Informal Agreements Is Risky: Relying on verbal understandings or assumptions, especially in high-stakes health care ventures, can result in costly misunderstandings and litigation.
- Ownership Exit Planning Is Essential: Without a clear exit strategy, partners may face emotional and financial strain when one party decides to leave the business.
- Fiduciary Duty Matters: A managing partner owes a duty of loyalty and care to the business. Violating this, such as by abruptly leaving, joining a competitor, or soliciting patients, can lead to legal claims for breach of fiduciary duty.
- Legal Documentation Protects Everyone: Properly drafted ownership agreements and business prenups can prevent disputes and clarify expectations, roles, and financial arrangements.
- The “5-50 Rule”: It is better to spend money upfront on legal planning than more money later to fix avoidable problems.
Protect Your Business Partnership with ByrdAdatto
If you are entering a business partnership, or already in one, do not wait until tensions arise to seek legal guidance. Buy-sell agreements are a strategic tool for protecting your investment, relationship, and relationships. Our legal team helps health care and business professionals navigate these hard conversations with clarity and confidence. Contact ByrdAdatto to create custom agreements tailored to your business, and protect your investment and business partnership.
