Today’s Veterinary Business
By Peter H. Tanella
Veterinarians, investors and executives who want to form a management services organization (MSO) often do so without fully exploring the reasons. One revolutionary change in the veterinary industry over the last decade was heightened interest in MSOs, which resulted in a lot of newer market entrants, including, but not limited to, private equity.
The problem for private equity and any other potential investor is that in most states, they cannot own the veterinary practice because it is not a professional entity. The only entity that private equity or any other investor can typically own is the MSO.
What Is an MSO?
At its most basic level, an MSO is a legal entity that is separate and distinct from a veterinary practice and that provides certain administrative or management services. In most states, a veterinary practice must be owned and controlled by one or more licensed veterinarians. Some states require those veterinary owners to be licensed in the state, while others will accept equivalent licensure from another state.
Some states allow non-veterinarians to own the practice directly, so long as patient care decisions are ultimately made by licensed individuals. In states where practice ownership is restricted, non-veterinarians may own the MSO instead. These non-veterinarians can be investors, lenders, members of management, trusts, or friends and family investors. These individuals may own the MSO alongside one or more of the licensed veterinarians.
Such flexibility permits the practice’s veterinary owners, for example, to have family members partially or completely own the MSO so that they can indirectly enjoy the financial rewards of the practices. Alternatively, the veterinary owners might want to expand or purchase additional practices but do not want to assume additional debt liability. The MSO can be owned by non-veterinary investors as a means of providing capital for funding practice expansion. The profits that these non-veterinary investors realize from their ownership of the MSO, and the value of this business entity at the time of a sale, are, in effect, the return on investment for these non-veterinary investors.
Involvement of the MSO in the veterinary practice and services provided will vary based on the goals of the parties as well as the applicable state regulations governing these arrangements and the corporate practice of veterinary medicine.
An MSO may be involved in almost every non-clinical aspect of the business and offer a full suite of administrative and management services, including billing and collections, IT support, human resources, professional management, payor contracting services, financial accounting, and benchmarking. On the other hand, an MSO may contract to provide a smaller subset of services in a fee-for-service model. The MSO can provide overall management and administration, all support services, facilities, staffing, equipment and supplies — essentially everything the practice needs to operate except for the actual veterinary care.
The MSO’s goal is to free veterinarians from the burden of operating the practice as a business, leaving them to focus on patient care and growing the practice. The MSO accomplishes these goals by hiring the support staff (office and clinical) and leasing them to the practice. In a practice acquisition, the MSO will typically purchase all of the selling practice’s equipment, both office and clinical. In a de novo scenario, the MSO purchases or leases all the new equipment. In both situations, the MSO will then lease the equipment to the practice. The MSO thereby assumes all the financial and all other obligations and responsibilities for the equipment, including its maintenance, repair and replacement.
Similarly, the MSO assumes responsibility for the purchasing and adequately supplying the practice with all required office and clinical supplies. Further, the MSO can assume the building lease, including payment of rent and all other landlord relations, and then sublease the office to the practice. If the practice owns the real estate, then the MSO can either act as the property manager or the MSO can own the real estate and lease the premises to the practice.
The operational advantages of the MSO can be summarized as economy of scale, greater efficiency and availability of a higher level of services. The economy of scale and enhanced efficiency is realized through the MSO’s providing of services for any number of practices with administration of their overall business operations, including human resources and centralized billing and collections, increased purchasing power, and the ability to negotiate lower rates on employment-related insurances such as health coverage and workers’ compensation.
The relationship between the MSO and practice is contractual. The MSO will typically enter into a long-term agreement to provide all the services and other items described above in exchange for a management fee. Because the relationship is contractual, it affords the parties involved great flexibility in what the MSO will provide to the practice and the ability to change the mix of services and other items as the relationship and business progress.
Savings and Additional Costs
Creating an MSO does not by itself create any real value attractive to investors. The value is in being able to deliver efficient processes, standardization and professional business management in a way that is scalable across multiple locations. Additionally, creating an MSO comes with some cost, such as legal and accounting fees, and adds a layer of structural complexity. Most importantly, the MSO and its arrangement with the practice will need to be structured to comply with the state’s corporate practice of veterinary medicine restrictions and federal and state fraud and abuse laws.
Additional structural complexity comes at a cost. Whereas operating out of a single professional entity as a veterinary practice is relatively straightforward, operating an MSO with one or multiple levels of management and submanagement can create headaches. Investors, management and clinicians will need to be taught the vagaries of a somewhat esoteric legal structure.
Finally, moving from a single-practice structure to an MSO can limit flexibility in structuring a sale or acquisition. Specifically, in creating an MSO, the parties might inadvertently create issues around concepts like subchapter S elections, depreciation recapture and taxes.