The passing of Bill 28 this past April 20, within the framework of budget cuts announced by the Quebec government, has already made considerable waves, namely because of its impact on Quebec pharmacists.
This bill, which is to take effect on June 20 despite vigorous opposition from Quebec pharmacists, revises the list of billable professional services as well as the fees payable to pharmacists. While the bill allows pharmacists to provide three new services, various cuts imposed on pharmacists will result in a drop of about $177 million in their total fees, as the public plan will no longer pay them for certain procedures, such as filling pill organizers.
The AQPP, Quebec's association of owner pharmacists, continues to oppose the cuts proposed by the government, arguing that these cuts will lead to a reduction in services and opening hours, and that the annual revenues of a typical pharmacy will decrease by $100,000 as a result.
It is thus not surprising to note a significant reduction in the frequency of retail pharmacy acquisitions since Bill 28 was passed: most pharmacists are now "sitting on the fence", waiting to see how the situation plays out. While prospective vendors watch the long-established value of their goodwill fritter away, prospective purchasers are playing hardball to negotiate lower acquisition prices. Lenders, meanwhile, struggle to justify new credit facilities based on "pre-budget-cut" conditions and may have to tighten the screws on clients whose annual results no longer meet their requirements.
The challenge will be to agree on the valuation of the business on a going-forward basis, in a context where the effect of the announced budget cuts remains to be determined. When a vendor's expectations (often an emotional issue when selling one's business) aren't being met by potential buyers or their lenders, the transaction must be structured so as to narrow the price-expectation divide.
Uncertainty regarding the future performance of a business is not a new phenomenon in the area of commercial transactions and there are solutions to consider. We propose a few below.
1. Balance of sale with a negative adjustment mechanism
Prudent buyers often insist on deferring payment of a portion of the purchase price for a specified period in order to test the vendor's representations and warranties regarding the financial performance of the business. The unpaid balance may serve to compensate the purchaser in the event of a misrepresentation, for example. However, the purchase & sale agreement may be structured so as to provide for an "estimated sale price" (based on the vendor's current perception of the value of its business) payable in part at closing, and to tie the payment of the balance to a negative adjustment mechanism (based on the future performance of the business over a specified period) whereby any material reduction in the value of the business would trigger a reduction in the balance payable by the purchaser.
2. Earn-out provisions
Another option is to include a clause in the purchase & sale agreement providing for positive indexation of the estimated sale price (which in this case would be closer to the purchaser's position) based on future performance of the business, meeting certain targets, etc., whereby additional amounts become payable on predetermined dates if the required conditions are met. There is no established formula for drawing up a "good" earn-out clause. It is up to the parties to determine the mechanics of the clause, the most important of which are the financial benchmarks and calculation method to be used. In such cases, the vendor pharmacist would generally remain employed by the pharmacy (and the purchaser!) for a certain time after closing in order to contribute to the performance of the business and facilitate the achievement of the specified targets. It is critically important that the provisions of the earn-out be clearly, objectively and precisely drafted in order to avoid any future misunderstandings.
3. Employment agreement for vendor pharmacist
Typically, when a pharmacy changes hands, the vendor pharmacist does remain employed by the business for a certain period after the transaction, either to ensure a smooth transition in the eyes of the clientele, in the context of an earn-out structure, or for any number of other reasons. The vendor's remuneration, or any performance bonus or other benefit, can be an added incentive that brings the parties' divergent positions closer together.
While the passing of Bill 28 has dramatically changed the transactional climate in the retail pharmacy sector, one thing remains constant: reasonable and well advised business people can always find common ground by evaluating the various options available to deal with the effects these legislative changes.
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