A case published in January 2016 emphasized the importance of establishing a value for practice goodwill. In California, a solo practitioner wanted to sell her medical practice to Monarch Healthcare, a large provider in the same market. Many similar sales of medical practices have happened in recent years. Monarch offered the doctor $1.7 million for her building, but they claimed that her medical practice itself had no monetary or goodwill value.

At First the Doctor Said “No Sale”

The practitioner disagreed with the assessment that the practice itself had no monetary value. She decided to continue her independent practice. Conversations with Monarch continued, however, and eventually the doctor agreed to the purchase for $1.7 million. Then she went to work for Monarch and received a signing bonus. As an employee, she now received a salary and an annual bonus opportunity. The purchase agreement said that it included all assets including the goodwill of the medical practice, but it based the value totally on the fixtures, equipment and supplies, a total of $34,700. The agreement completely ignored assigning a value to the goodwill. It also specified a noncompete and nonsolicitation clause for a 3-year period after leaving Monarch, should that happen in the future.

The Doctor Sets Up a New Practice

In less than two years, she decided to move on. She left Monarch and set up a practice “in another capacity,” but within the same market. She had moved her patients to other doctors and began to solicit new patients to the new practice. Monarch took issue with this and filed a complaint alleging breach of contract and other issues. The court granted a temporary restraining order relating to solicitation of new patients, but let the new practice continue. The doctor responded by filing her own motion that challenged the noncompete clause.

Appeals Court Notes the Unenforceability of Noncompete Clauses

The appeals court indicated that every citizen should be able to pursue lawful employment and that noncompete and nonsolicitation clauses interfere with that goal. The court said that in some cases, when a person includes the goodwill of a business in the sale, the value of that goodwill can support the intent of the clauses. In this case, though, the buyer failed to take the extra step of establishing a value for the goodwill. Instead, it applied the entire value of the business to the tangible assets, which made up 100% of the business valuation. Because the buyer had not applied any monetary value to the goodwill, it could not effectively argue that the doctor’s new business represented a violation of the clauses. The appeals court found the noncompete and nonsolicitation clauses unenforceable.

The Importance of Valuing Goodwill

“Not only from a tax standpoint, but also from a legal standpoint, there needs to be some value assigned to the goodwill of a business,” said Denny Taylor, MBA CPA ABV CFF, a forensic and valuation principal with TD&T CPAs and Advisors, P.C. “A lot of times in contracts, the value to the practice goodwill needs to be established. It’s important to have an allocation of the sale price to goodwill. That’s something we can help with from a business valuation standpoint.” In the case above, the existence of a professionally prepared business valuation of the practice goodwill could have produced a very different outcome of the court decision.