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MPM Publications

Keys to a Well-Managed Professional Corporation

One of the keys to a well-managed professional corporation (PC) is the existence of well-drafted legal documents to define the relationships between employees, shareholders and the corporation. (For this article, PC is used as a generic term and does not exclude other types of organization, such as LLC, Inc. or PA.) Many PCs fail to put enough emphasis on such documents and later find that the PC is unprotected. However, once the basic documents are created, usually only minor changes are necessary to tailor those documents to the specific circumstances for which they are needed. It is a wise investment for a PC to obtain a set of appropriately drafted documents to include, at the very least, an Employment Agreement and a Shareholder's Agreement. Employment agreements will vary with each employee; however, there are basic provisions that should be included. Two basic types of employment agreements can be used in medical practices. The first type outlines the key provisions related to a physician/shareholder while the other defines the specific provisions relating to a contract employee or non-shareholder employee/physician. Even though a physician/shareholder might be subject to the shareholders' agreement, that agreement does not address the specific day-to-day job concerns in a medical practice. Therefore, it is important for the physician/shareholder to have both agreements. A good employment agreement has a standard set of guidelines to follow in the event a dispute arises.

Many of the provisions of the employment agreement with a shareholder also apply to a contract or non-shareholder employment agreement. However, employment agreements, as they relate to non-shareholders, are generally more specific in defining vacation, sick leave, expense reimbursement, time-off for continuing education and other benefits. Salary should be specifically addressed, including any progressive increases during the period prior to shareholder status. The non-shareholder employment agreement also should discuss any buy-in provisions in case the employee is offered shareholder status with the PC.

The following items should be addressed in any employment agreement:

Term. Identify a start date and a termination date. The term should be for a reasonable period (i.e., anywhere from one to three years) so that, if any of the provisions of the agreement are contested, the agreement will likely be considered reasonable in length. Thereafter, negotiate and execute a new employment agreement. In the alternative, the agreement can include a provision that automatically extends the term for successive one-year periods unless either party notifies the other in writing of his, her or its intent to terminate at the end of the current term. Such a provision negates the need for a new employment agreement every year, which can be costly.

Compensation. A basic employment agreement should state that the salary and bonus will be set by the Board of Directors, and it also may provide that the salary and bonus will be reviewed periodically or at certain intervals. In the alternative, a definite salary and bonus can be stated in the agreement; however, the agreement would have to be amended each time the employee receives a raise. Not stating a specific salary allows more flexibility. Items such as business and professional expenses should be specifically mentioned as well as the standard health and retirement plan benefits, if offered.

Duties. It is almost impossible to list the employee's specific duties, which usually will change from time to time. Perhaps the best way to handle this provision is to state generally that the employee is engaged in the practice of medicine, specializing in a certain field, and that his or her duties and responsibilities shall be determined by the Board of Directors and governed by the principles and medical ethics of the state's medical association. It may be best to indicate that the Board of Directors will determine on-call duties. Not including the specific on-call policy eliminates the need to amend the agreement every time the on-call policies change.

Vacations, Illnesses or incapacity. This provision should clearly define the vacation and illness policy, as well as incapacity. Address extended periods of disability or illness (typically 12 months or longer) to provide shareholders or directors of the PC the authority to terminate the employment agreement if desired. These provisions also should address successive periods of disability or illness and should determine if such periods are considered a separate period of disability or a continuation of a prior period of disability. As long as those areas are discussed, there will likely be much less confusion when determining compensation combined with disability insurance during a period of disability.

Restrictive Covenants. Another key provision is the employee's covenant not to compete with the PC for a set period of time after termination of the employment agreement. This usually is combined with a non-solicitation provision, which prohibits the employee from soliciting patients or other employees of the PC for a specified period of time after termination. A restrictive covenant not to compete and a non-solicitation clause should specify a reasonable period of time (one to two years) and a reasonable geographical restriction (the city or county in which the PC operates). A court may refuse to enforce a restrictive covenant if it is unreasonable, either as to time or distance.

Full-Time Devotion to the Practice of Medicine. This provision specifies that the employee shall not engage in any other businesses or professions that interfere with the practice of medicine. It can be detrimental to a medical practice if one or more of its employees are distracted by another business venture such that the quality of work suffers or the workload of the practice is not equitably distributed among all employees. This provision effectively limits the employee's involvement in outside activities, medically related or otherwise, which require an unreasonable amount of the employee's time. However, it does not attempt to limit the employee's right to spend time in investment activities as long as such activities do not prevent the employee's full devotion to the PC's practice of medicine.

Medical Practice of the Employer. This section outlines the PC's rules and regulations with regard to the type of patients it accepts, the right to designate which employee will care for each patient and the manner in which care is provided. It also should include a provision stating that the PC has the exclusive authority to determine the fees charged to patients and how other fees received by the employee, such as expert witness fees or teaching compensation, should be handled.

Termination of Agreement. Most employment situations are "at will," which either party can terminate with or without cause at any time. However, once an employment agreement has been executed, the "at will" aspect has probably been eliminated, leaving only certain specified situations in which the employment relationship can be terminated. Accordingly, the PC must decide if a provision should be included, giving either party (or one party) the right to terminate the agreement without cause with sufficient notice. In addition, the agreement should specify the circumstances under which termination for cause (or good cause) without notice can occur. Events that might constitute cause include the employee's loss of his or her medical license, improper conduct, breach of the agreement, conviction of any crime of moral turpitude, and dependence on any addictive substance. The agreement should provide that good cause for termination is determined by an affirmative, majority vote by the shareholders or directors of the PC. It also should include provisions regarding the payment of any compensation earned but not paid, and the potential transfer for consideration of any life insurance policies owned by the employer on the life of the employee, at termination. These provisions may differ depending on who terminates the agreement and the basis of such termination. Define the PC's policy with regard to termination of hospital privileges at termination of the agreement.

Deferred Compensation: Accounts Receivable. Sometimes this provision is included in a separate agreement. The logistics of deferred compensation can be relatively confusing and are beyond the scope of this article. However, deferred compensation issues should be addressed and understood by the PC and the employee. In particular, the parties should consider how the accounts receivable of a shareholder employee would be handled on termination of employment.
 

The shareholder's agreement is a legal document entered into by the PC and its shareholders to restrict the transfer of ownership of stock, to provide for repurchase of the stock on termination of employment, and to establish the purchase price of the stock and payment terms at the shareholder's termination. The provisions of the shareholders agreement prevent any shareholder from transferring his or her shares to an outside third-party and, at the same time, can provide a market for those shares within the PC.

The shareholders agreement typically requires that the PC purchase from the shareholder or his/her estate, and that the shareholder or his/her estate sell to the PC, all of the capital stock owned by the shareholder at the time of his or her death or termination of employment. Also, this agreement usually requires that a shareholder (during his or her lifetime) offer any shares he or she wishes to dispose of first to the corporation or other shareholders before contemplating a sale to an outside party. In addition, this agreement can require the PC to purchase all of a shareholder's shares on total disability. In the case of a shareholder's death or disability, the agreement should grant the authority to the PC and/or its remaining shareholders to take whatever steps are necessary to repurchase the deceased or disabled party's shares to prevent ownership of the stock by an outside party.

The method for calculating the purchase price of stock transferred due to death, disability or any termination should be clearly identified in the agreement. Often, the purchase price is the book value of the stock immediately prior to the shareholder's termination date, death or disability. In determining the book value of the stock, the following guidelines generally apply:

1. Accounts receivable are not included in the calculations.
2. The PC value assigns no value to goodwill.
3. Life insurance policies are valued at their cash surrender value.
4. Unfunded pension liabilities are accrued as of the valuation date.
5. Earned but unpaid salaries are accrued as an expense item as of the valuation date.

Given the above principles, the book value of the stock is calculated as total assets excluding accounts receivable and goodwill) less any liabilities and accrued expenses. Unless the PC owns a private office or other unrelated investments, the purchase price of the stock is typically a relatively low value. A PC also should consult with its legal and tax advisers to determine if another method of calculating the value of a stock is preferable. In addition, consider the use of different methods or discounts in calculating the price in a particular situation. For example, if a shareholder's employment is terminated for cause, he or she might be entitled to receive less than full price for his or her shares.

A shareholder's agreement also can set forth certain voting agreements of the shareholders. For example, it can specify who will be elected as directors of the PC or certain supermajority votes required approving specific actions. The preceding discussion about the legal documents of a professional corporation is intended to outline an approach for addressing a number of worrisome issues applicable to the management of a PC. There are numerous ways to correctly structure a buy-out of accounts receivables, provide for the repurchase of stock or enforce the employment provisions applicable to a physician/employee. However, remember that such issues should be addressed in binding legal documents, which take into account the concerns and provisions important to the practice before entering into such relationships.