Our friends, Patrick and Jason Wood, the Dental Attorneys, have kindly allowed us to publish this timely and important article.
PROTECTING YOUR PATIENT BASE
By Patrick J. Wood, B.A., J.D. and Jason P. Wood, B.A., J.D.
As with many successful doctors, you may one day wish to hire an associate to work with your patients. Naturally, you will want to be sure that if your associate leaves the practice for any reason, he or she can't take your patients with them. At this point, you may wish to contact an attorney specializing in the medical/dental field and ask he or she to draft an employment agreement covering these concerns. Depending on that attorney's level of expertise, you may not end up with an employment agreement that prevents patient misappropriation. This article is designed as an overview of what your attorney should know when drafting your employment agreement.
In the article that follows, we discuss the two most common tools utilized by attorneys in preventing an associate's misuse of your patient base. This article covers the effectiveness of non-competition agreements and trade secret agreements typically used in employment agreements.
Non-Competition Agreements
Business & Professions Code §16600, enacted by the California Legislature in 1941, states the strong public policy against restraints on a person from engaging in their profession, by stating "every contract by which anyone is restrained from engaging in a lawful profession, trade, or business of any kind, is to that extent void." (B&PC §16600). Notwithstanding this language, the California legislature also enacted B&PC §16601 and §16602 in order to provide limited exceptions under which non-competition agreements would be enforceable. These exceptions include the following situations where a non-compete clause may be enforced:
1. The sale of the goodwill of a business wherein the seller agrees not to compete.
2. The sale by a shareholder of all of such persons shares in a corporation.
3. The dissolution of a partnership by partners who agree not to compete.
4. A sale of an individual partner's interest in a partnership, wherein the remaining partner or partners carry on the business.
5. The sale of all or substantially all of the operating assets, including goodwill, of a corporation or its subsidiary or division.
The applicable code sections also provide that the seller agree "to refrain from carrying on a similar business within a specified county or counties, city or cities, or a part thereof, in which the business so sold.... has been carried on," provided that the buyer or any person deriving title to goodwill or shares, "carries on a like business therein." B&PC §16601 (also see B&PC §16602). The foregoing restrictions also apply to the sale of interests in limited liability companies, but since medical professionals cannot form limited liability companies to operate their practices in California, this article will not attempt to deal with such entities.
There have been many attempts by physicians and dentists to have non-competition agreements apply to their associate doctors. In Bosley Medical Group v. Abramson 207 Cal. Rptr. 477, 161 Cal. App. 3d 284, the California Court of Appeal denied an attempt by a medical group to enforce a covenant not to compete against a plastic surgeon who had left employment with the group. The surgeon's employment contract provided that when he left the group, he must sell his entire stock interest back to the corporation. The court found the transaction to be a sham designed to avoid the prohibition against non-competition clauses, as the surgeon had been forced to buy a non- controlling interest in the corporation as a condition to employment, and was forced to resell the interest upon leaving. In order for the non-compete clause to be enforceable, the court said the interest sold must be substantial and must represent the goodwill of the corporation. While Bosley was later limited to the specific facts raised therein in the case of Vacco Indus. v. VandenBerg (1992) 5 Cal. App. 4th 34, 6 Cal. Rptr. 2nd 602, the principal of Bosley was affirmed in Vacco, in that if the court found that a stock sale was a sham device to impose an otherwise illegal non-compete clause on the shareholder's future activities, it would not enforce it.
The courts have consistently held that employment agreements containing non-competition clauses preventing the employee from operating a similar, competing business in the same area, are not enforceable unless the provisions of Business & Professions Code §§16601-16602 are met; i.e., either the sale of goodwill or the sale of a business under the conditions outlined above. See for example, Golden State Linen Service, Inc. v. Vidalin (1977) 137 Cal. Rptr. 807, 69 Cal. App. 3d 1; see also Thompson v. Fish (1957) 152 F. Supp. 779. In one amusing case, involving the radio station mascot who dressed up and performed in a chicken suit at San Diego Padres baseball games, the court refused to enjoin the "chicken" from appearing at other baseball games and events wearing a similar chicken outfit, stating that since the "chicken" did not wear the radio stations call letters or claim that he represented the station, this was not competitive, even though the "chicken" continued to play the same fluid, clownish role he created spontaneously while serving as the station's mascot at the Padre's games. KGB, Inc. v. Giannoulas (1980) 164 Cal. Rptr. 571, 104 Cal. App. 3rd 844.
Generally speaking, non-competition clauses contained in employment agreements are not enforceable under current California law, and it is our policy to discourage the inclusion of such provisions in associate employment agreements. In California it is well established that such provisions are unenforceable in such employment contracts, and including them in employment contracts raises a red flag easily seen by a competent judge.
Trade Secrets
What then can a doctor do to protect himself and his patient base when hiring a new associate? The answer lies in preparing carefully worded, trade secret provisions providing that the patient lists and identities are secrets of the owner-doctor, and also providing appropriate sanctions which may be enforced by a judge.
The state of California enacted the Uniform Trade Secret Acts in 1984 (later amended) in an attempt to codify existing case law. This law has now been adopted in 42 states and the District of Columbia. California's version is contained at Civil Code §3426.1-3426.11. It sets forth provisions under which an employer may seek to bar the misappropriation and misuse of trade secrets by employees and former employees. The definition of "trade secrets" under Civil Code §3426.1 is information that "derives economic value, actual or potential, from not being generally known to the public or to the other persons who can obtain economic value from this disclosure or use; and is the subject of efforts that are reasonable under the circumstances to maintain its secrecy." CC §3426.1. In dental and medical practices, patient lists clearly have independent economic value, and are not generally known to the public or to other persons. Provided doctors takes reasonable efforts to maintain the confidentiality of those patient lists, the lists constitute trade secrets which are protected under such law.
In cases interpreting what a trade secret is for purposes of enforcing such restrictions in an employment agreement, the courts have generally concluded that the employer must demonstrate that the information is confidential, that the employer took steps to maintain that confidentiality, and that the information on the lists is not information that can be readily ascertained by most people. One of the most common areas of dispute regarding trade secret cases arises where former employees use customer lists provided to the employees while employed. In the medical/dental practice situation, these lists represent goodwill, and are often the most valuable assets of the practice.
The issue of whether customer lists are a trade secret largely depends on whether the names and other pertinent information, such as the amount and type of insurance they have, is confidential and not easily learned by a competitor. In Ingrassia v. Bailey (1959) 172, Cal. App. 2nd C.A. 2d 117, 122, 341e.2d 370, a catering route owner sought to enjoin the defendant from soliciting the owner's industrial catering customers (employees of industrial plants), arguing that information concerning these employees was confidential information, as the caterer made the scheduling of trucks to make efficient stops at the right times, knew the number of employees interested in the service, and knew their particular preferences in food and beverage. The defendant argued that since the companies served could easily be ascertained from phone books and directories, it was not a trade secret. The court held that such lists were trade secrets, as this specific information was not easily discoverable. In State Farm Net. Auto Ins. Co. v. Dempster (1959) 174 Cal. App. 2d 418, 426, 344 P. 2d 821, a case analysis to the medical/dental field, an insurance company tried to prevent its former employee, an insurance salesman, from soliciting insurance clients of the company. The court found that activities of the defendant while working for the insurance company in developing special knowledge of the customer's insurance habits, including the expiration dates of their policies and the vital statistics of the policy holder, were trade secrets.
In a case with a different outcome, the California Supreme Court ruled in Aetna Bldg. Maintenance Co. v. West (1952) 39 C2d 198, 246 P2d 11, that if customer identities were easily discoverable through consulting business directories and phone books, the lists did not constitute trade secrets. Other cases have similarly held that where the customers names were readily ascertainable through public records, telephone directories, trade directories, and similar sources, that the customer information could not be considered a trade secret absent other special, "hard to find" information about the customer, such as the type found in the State Farm Net Auto Insurance Co. case cited above.
In a professional practice, particularly in a dental practice situation, it can be persuasively argued that the patient lists are confidential trade secrets which cannot be used by the former associate to solicit the clients as patients. While the patient names, addresses and telephone numbers may be ascertainable in a telephone directory, the fact that those patients have chosen the particular dentist for specific treatment is not readily ascertainable, nor are the health histories of such patients, the present needs of such patients, or the amount and type of insurance coverage possessed by the patients. Applying the holding in Ingrassia, a court should have little trouble concluding that this is specific patient information which employees cannot learn on their own, and therefore, constitute protectable trade secrets. Therefore, we believe that such patients lists are protectable, and owners of practices should be able to prevent the theft of such information by their associates.
It is crucial that the employer have their associates sign a confidentiality agreement regarding trade secrets. In one case decided under a sister state's version of the Uniform Trade Secret Act, the court found that the potential buyer of a game manufacturing company was not bound by a confidentiality agreement since no express agreement had ever been entered into, although other issues existed which prevented the court from granting the summary judgment sought by the game company. Editions Play Bac, S.A. v. Western Publishing Co. (SD NY 1993 31 USPQ 2d 1338. In another case, a court considered it to be very significant that the owner of a trade secret failed to get a written confidentiality agreement, although the owner also alleged an oral agreement which meant there was a triable issue of fact to be determined at trial. Mayline Partners, L.P. v. Weyerhaeuser Co. (ND Cal 1994) 31 USPQ 2d 1051. In the two aforementioned cases, it is the author's belief that had the owners of the trade secrets entered into written confidentiality agreements, and provided they showed violations of the confidentiality agreements, the owners likely would have easily prevailed at summary judgment hearings in the early stages of the proceeding, thus saving the owners significant litigation costs. Therefore, it is essential that such agreements be properly drafted and be in writing.
Employment agreements should also contain enforcement mechanisms whereby the parties stipulate to filing for injunctive relief without proof of actual damages, so that a judge may issue a restraining order preventing patient solicitations of the owner's patients. Often such agreements contain liquidated damage clauses which act as a "disincentive" to the associate violating the owner's trade secret rights. The inclusion of such provisions will make it much easier for the owner to protect his patient base.
Summary
Covenants not to compete are a poor vehicle for use in seeking to prevent an associate from competing with the doctor following termination. While covenants not to compete are enforceable against sellers in the context of a practice sale to a new doctor, they are generally not enforceable as against associates with no true ownership interest in the practice. However, if a carefully drafted employment agreement containing trade secret provisions is entered into between the owner and the associate doctor, these lists should be protectable under applicable law.
We strongly urge our clients to have in place with their associates an appropriate employment agreement with trade secret provisions, in order to prevent the ambitious associate from converting the patient lists to the associate's own use.
You can find this article, and others by Jason and Patrick Wood on their website.
Monday, August 30, 2010
Monday, August 16, 2010
Why does becoming a dental associate have such a bad rap?
Here is a guest blog post from Dental Tranistion Specialist Joe Spencer.
It all comes down to trust. New dentists often don’t have any idea how to find a practice to join. They call look over the classified ads and call on them, only to find that a great majority of them lead directly to brokers. The brokers, of course, are happy to have them call so they can talk with the senior dentists in their area hook the new dentist up with a senior dentist (and collect a 10% fee for doing the transition legwork).
Here’s that problem: If a broker is involved, the senior dentist is the one that pays the fee. The senior dentist is the one who has representation. The broker is working for the senior dentist. It is in the broker’s best interest to get the contract in place as quickly as possible so the upfront portion of 10% fee can be collected quickly. This may lead to a lack of full disclosure by the selling dentist’s broker.
Another reason is that having a middleman between the two prospective partners makes it difficult for the parties to grow trust. They don’t talk directly with each other from the start. The broker might say that the work of screening applicants is too much for most dentists to put up with. With innovation, they drag can be reduced, and the benefits of personal contact will outweigh the convenience of having a third person in the middle of the relationship.
See, associateships are a special kind of partnership. They should be a bit like a master Jedi teaching an eager young Skywalker. The master teaches the young Jedi the inner workings of the business side of dentistry. There is no more efficient way. Years of dental school teach the clinical side. The business side must be learns from journeyman.
The difficulty is when some senior dentists feel they want to offload all the drill and fill to the new dentist. The new dentist gets the low margin unexciting stuff. That is the way of an apprenticeship. The difficulty is that the relationship is not well defined. Expectations are not clear.
Building trust is the answer. Openness is the answer. Clear expectations put in writing are the answer. Build trust with your potential partner from the start… In a recent FastCompany article, scientists have proven that interaction through electronic means can build trust as if interacting in person. OnlyTheBestPractices facilitates building trust from the start, through openness and defining expectations. No matter if someone uses our tools or not, if clear expectations were well defined (in writing) through spirit of apprenticeship, associateships could once again be seen as a great option coming out of dental school.
The question is… are senior dentists willing to bring someone in for a period of time to teach them the best practices in running the business? Would senior dentists prefer to just practice up to a date certain and walk away? If that becomes the norm, owner-associateships will fade into history, and only employee-associateships will remain. At some point the word associateship will probably just fade out too.
This first appeared on OnlyTheBestPractices.
It all comes down to trust. New dentists often don’t have any idea how to find a practice to join. They call look over the classified ads and call on them, only to find that a great majority of them lead directly to brokers. The brokers, of course, are happy to have them call so they can talk with the senior dentists in their area hook the new dentist up with a senior dentist (and collect a 10% fee for doing the transition legwork).
Here’s that problem: If a broker is involved, the senior dentist is the one that pays the fee. The senior dentist is the one who has representation. The broker is working for the senior dentist. It is in the broker’s best interest to get the contract in place as quickly as possible so the upfront portion of 10% fee can be collected quickly. This may lead to a lack of full disclosure by the selling dentist’s broker.
Another reason is that having a middleman between the two prospective partners makes it difficult for the parties to grow trust. They don’t talk directly with each other from the start. The broker might say that the work of screening applicants is too much for most dentists to put up with. With innovation, they drag can be reduced, and the benefits of personal contact will outweigh the convenience of having a third person in the middle of the relationship.
See, associateships are a special kind of partnership. They should be a bit like a master Jedi teaching an eager young Skywalker. The master teaches the young Jedi the inner workings of the business side of dentistry. There is no more efficient way. Years of dental school teach the clinical side. The business side must be learns from journeyman.
The difficulty is when some senior dentists feel they want to offload all the drill and fill to the new dentist. The new dentist gets the low margin unexciting stuff. That is the way of an apprenticeship. The difficulty is that the relationship is not well defined. Expectations are not clear.
Building trust is the answer. Openness is the answer. Clear expectations put in writing are the answer. Build trust with your potential partner from the start… In a recent FastCompany article, scientists have proven that interaction through electronic means can build trust as if interacting in person. OnlyTheBestPractices facilitates building trust from the start, through openness and defining expectations. No matter if someone uses our tools or not, if clear expectations were well defined (in writing) through spirit of apprenticeship, associateships could once again be seen as a great option coming out of dental school.
The question is… are senior dentists willing to bring someone in for a period of time to teach them the best practices in running the business? Would senior dentists prefer to just practice up to a date certain and walk away? If that becomes the norm, owner-associateships will fade into history, and only employee-associateships will remain. At some point the word associateship will probably just fade out too.
This first appeared on OnlyTheBestPractices.
Monday, August 9, 2010
New 1099 Proposal in Health Care Act Could Cause Additional Burden for Dentists
Here is an article that one of our managers (Lance Jacob) wrote.
Small business may have extra tax reporting requirements starting in 2012 due to the passage of the Patient Protection and Affordable Care Act (Health Care Act) signed by the President on March 31, 2010.
In the past businesses have been required to prepare and file IRS Form 1099-MISC for each person they have paid at least $600 in rents and services (including parts and materials) to during the year.
Under the Health Care Act passed in March 2010, businesses that pay more than $600 during the year to non-tax-exempt corporate providers of property and services will have to file an information report with each provider and the IRS (for Payments made after December 31, 2011). In addition, businesses will have to file information returns for any person (and corporations) that receives $600 or more from the business for property and merchandise.
Basically, if a business pays any vendor (corporate or individual) for the purchase of property or merchandise totaling $600 or more, they are required to prepare an information return for that vendor. The information to be reported includes name, address, and federal identification number (or social security number) of the vendor.
Unless this portion of the Health Care Act is repealed, small businesses are looking at substantial costs (time in collecting information, costs for someone to prepare the returns, and handling any resulting correspondence from the IRS for missing information) related to the new reporting requirements.
On July 30 a bill to repeal this section (Sec. 9006) of the Health Care Act was taken up by the House of Representatives (H.R. 5982 the “Small Business Tax Relief Act of 2010”). Unfortunately the bill was defeated on the same day. So, at this point, the reporting requirements are still scheduled to go into effect as of January 1, 2012.
Lance Jacob, (800) 772-1065
Sources:
http://www.irs.gov/
Checkpoint RIA Research
Small business may have extra tax reporting requirements starting in 2012 due to the passage of the Patient Protection and Affordable Care Act (Health Care Act) signed by the President on March 31, 2010.
In the past businesses have been required to prepare and file IRS Form 1099-MISC for each person they have paid at least $600 in rents and services (including parts and materials) to during the year.
Under the Health Care Act passed in March 2010, businesses that pay more than $600 during the year to non-tax-exempt corporate providers of property and services will have to file an information report with each provider and the IRS (for Payments made after December 31, 2011). In addition, businesses will have to file information returns for any person (and corporations) that receives $600 or more from the business for property and merchandise.
Basically, if a business pays any vendor (corporate or individual) for the purchase of property or merchandise totaling $600 or more, they are required to prepare an information return for that vendor. The information to be reported includes name, address, and federal identification number (or social security number) of the vendor.
Unless this portion of the Health Care Act is repealed, small businesses are looking at substantial costs (time in collecting information, costs for someone to prepare the returns, and handling any resulting correspondence from the IRS for missing information) related to the new reporting requirements.
On July 30 a bill to repeal this section (Sec. 9006) of the Health Care Act was taken up by the House of Representatives (H.R. 5982 the “Small Business Tax Relief Act of 2010”). Unfortunately the bill was defeated on the same day. So, at this point, the reporting requirements are still scheduled to go into effect as of January 1, 2012.
Lance Jacob, (800) 772-1065
Sources:
http://www.irs.gov/
Checkpoint RIA Research
Wednesday, June 9, 2010
Capital Versus Debt – What is the Difference?
Here is an interesting article by Richard Sinclair, a friend of our firm.
In the entrepreneurial world of small business, capital, business risk and credit risk can all be easily misunderstood.
One of the reasons companies succeed or fail is due to capital, also known as equity. Whether a business is funded by its owner(s), angel investors or bankers, business risk and credit risk are very different and must be understood to obtain funding.
What Is Business Risk?
According to Jim Hogan, of J. L. Hogan & Associates LLC, a commercial lender with 30 years' experience, business risk is market risk. When a banker considers a loan, a stream of income or revenue is needed to repay the loan. Since cash flow services the debt, a conventional commercial loan is not usually the best avenue for new or young entrepreneurs because their business model is not proven to be viable.
Understanding capital versus debt will take a new business owner far in his goal to success.
For instance, a national company recently sold its local small candy manufacturing division. The buyer was an individual from outside the company. She desired the platform because, in the future, she wanted to convert the candy company into a specialty pharmaceutical manufacturer, an area where she had some experience.
The buyer capitalized the candy company with cash from her retirement fund and money from friends and family. The deal got sweeter because of a seller "take-back note" on machinery and equipment and a rent moratorium for 90 days from the landlord. In addition, some customer accounts were retained, and therefore, the company generated modest revenue from the beginning.
Yet the monthly cash generated was not sufficient to cover the operating costs of the business. As such, the company would have been out of cash in seven months. The company moved quickly to build additional sales, collect on those sales it made and reduce its shortfall. Within months, the shortfall had dropped and the company had sufficient remaining capital (equity) to continue for more than 20 months. But the goal was to become profitable, not just stay afloat. With a few additional sales, the candy company's positive cash flow was within its grasp.
What Is Credit Risk?
Tim Lewis of Chesapeake Corporate Advisors says credit risk is a funding risk that lenders take, intended to cover a timing difference in a business's operating cycle, such as when a company makes a sale and is waiting for payment while it simultaneously has to pay operating expenses.
Credit risk is the timing risk of business assets converting to cash - for instance, accounts receivable. Credit risk should not be the risk of business failure, and credit risk is not rewarded like business risk. Credit risk is rewarded with a reasonable return, but never a large payout to the lender.
A lender will loan on a credit risk, for example, when it knows it has a receivable. The lender then becomes the entity that funds timing differences between the sale of the product and the collection of cash. It might be an inventory conversion cycle in which there is a conversion to a sold product for cash or generating accounts receivable. The business will use all its assets as collateral for funding, and for small businesses, the business owner will also provide a personal guarantee.
The most important thing to remember about credit risk is that capital needs to precede debt. Let's say a local entrepreneur wanted funding for the development, manufacturing and sales of his unique gloves and heated bike riding apparel. He has had some success in the regional biking market, based on his own minor investment, but showed no retained earnings. He wanted to grow his company, and while the finance community could see his business potential, the risk at this early stage was of the business succeeding (business risk), not the risk of the conversion cycle. As such, he was dissatisfied with lenders that were unwilling to finance his marketing efforts to grow his business.
What's the Difference?
Why was the candy manufacturer successful in finding a line of credit while the glove and apparel manufacturer was not successful in finding a loan? The answer again is capital.
In the candy manufacturing deal, the entrepreneur takes the business risk through cashing in her retirement and the investment of her friends and family. She also had cash equity in the game, taking the risk of business success or failure. If the business fails, the entrepreneur, friends and family lose. They may lose all of their investment. But, if the candy company is highly successful, the investors can win many times their original investment. The lender knows that the equity is there and at risk before the loan. The lender takes a credit risk, not a business risk.
The biking entrepreneur failed the business risk test because the lender was being asked to take the equity risk of a successful marketing campaign funded by the lender, not the credit risk of the asset conversion cycle.
Why Does It Matter?
"Business risk underlies credit risk," quips Lewis. "When a business owner embarks on a new venture, he or she is assuming whether or not the business will succeed or fail."
The responsible business owner needs to identify funding sources, and he needs to take his product or service from the concept phase to something that is generating value and profit.
That is when a lender can come in to play. A traditional banker does not take business risk, but does take credit risk. The lender will be there to finance the asset conversion cycle, but not to take an equity level risk or get an equity level return.
Equity should be there to protect the debt and help the business grow. The successful entrepreneur may want to sell his or her business in the future, hopefully for many times his or her equity investment.
Before entrepreneurs go to the bank for a business loan, they should ask themselves, "What kind of risk is this, business (equity) or credit (moving business assets through the conversion cycle)?" The answer is their guide.
Richard Sinclair is president of Correspondent Business Credit, a company meeting the alternative financing needs of small businesses in the Chesapeake region through asset based lending. He can be reached at 888-849-4222, ext. 19.
This first appeared in The Business Monthly
In the entrepreneurial world of small business, capital, business risk and credit risk can all be easily misunderstood.
One of the reasons companies succeed or fail is due to capital, also known as equity. Whether a business is funded by its owner(s), angel investors or bankers, business risk and credit risk are very different and must be understood to obtain funding.
What Is Business Risk?
According to Jim Hogan, of J. L. Hogan & Associates LLC, a commercial lender with 30 years' experience, business risk is market risk. When a banker considers a loan, a stream of income or revenue is needed to repay the loan. Since cash flow services the debt, a conventional commercial loan is not usually the best avenue for new or young entrepreneurs because their business model is not proven to be viable.
Understanding capital versus debt will take a new business owner far in his goal to success.
For instance, a national company recently sold its local small candy manufacturing division. The buyer was an individual from outside the company. She desired the platform because, in the future, she wanted to convert the candy company into a specialty pharmaceutical manufacturer, an area where she had some experience.
The buyer capitalized the candy company with cash from her retirement fund and money from friends and family. The deal got sweeter because of a seller "take-back note" on machinery and equipment and a rent moratorium for 90 days from the landlord. In addition, some customer accounts were retained, and therefore, the company generated modest revenue from the beginning.
Yet the monthly cash generated was not sufficient to cover the operating costs of the business. As such, the company would have been out of cash in seven months. The company moved quickly to build additional sales, collect on those sales it made and reduce its shortfall. Within months, the shortfall had dropped and the company had sufficient remaining capital (equity) to continue for more than 20 months. But the goal was to become profitable, not just stay afloat. With a few additional sales, the candy company's positive cash flow was within its grasp.
What Is Credit Risk?
Tim Lewis of Chesapeake Corporate Advisors says credit risk is a funding risk that lenders take, intended to cover a timing difference in a business's operating cycle, such as when a company makes a sale and is waiting for payment while it simultaneously has to pay operating expenses.
Credit risk is the timing risk of business assets converting to cash - for instance, accounts receivable. Credit risk should not be the risk of business failure, and credit risk is not rewarded like business risk. Credit risk is rewarded with a reasonable return, but never a large payout to the lender.
A lender will loan on a credit risk, for example, when it knows it has a receivable. The lender then becomes the entity that funds timing differences between the sale of the product and the collection of cash. It might be an inventory conversion cycle in which there is a conversion to a sold product for cash or generating accounts receivable. The business will use all its assets as collateral for funding, and for small businesses, the business owner will also provide a personal guarantee.
The most important thing to remember about credit risk is that capital needs to precede debt. Let's say a local entrepreneur wanted funding for the development, manufacturing and sales of his unique gloves and heated bike riding apparel. He has had some success in the regional biking market, based on his own minor investment, but showed no retained earnings. He wanted to grow his company, and while the finance community could see his business potential, the risk at this early stage was of the business succeeding (business risk), not the risk of the conversion cycle. As such, he was dissatisfied with lenders that were unwilling to finance his marketing efforts to grow his business.
What's the Difference?
Why was the candy manufacturer successful in finding a line of credit while the glove and apparel manufacturer was not successful in finding a loan? The answer again is capital.
In the candy manufacturing deal, the entrepreneur takes the business risk through cashing in her retirement and the investment of her friends and family. She also had cash equity in the game, taking the risk of business success or failure. If the business fails, the entrepreneur, friends and family lose. They may lose all of their investment. But, if the candy company is highly successful, the investors can win many times their original investment. The lender knows that the equity is there and at risk before the loan. The lender takes a credit risk, not a business risk.
The biking entrepreneur failed the business risk test because the lender was being asked to take the equity risk of a successful marketing campaign funded by the lender, not the credit risk of the asset conversion cycle.
Why Does It Matter?
"Business risk underlies credit risk," quips Lewis. "When a business owner embarks on a new venture, he or she is assuming whether or not the business will succeed or fail."
The responsible business owner needs to identify funding sources, and he needs to take his product or service from the concept phase to something that is generating value and profit.
That is when a lender can come in to play. A traditional banker does not take business risk, but does take credit risk. The lender will be there to finance the asset conversion cycle, but not to take an equity level risk or get an equity level return.
Equity should be there to protect the debt and help the business grow. The successful entrepreneur may want to sell his or her business in the future, hopefully for many times his or her equity investment.
Before entrepreneurs go to the bank for a business loan, they should ask themselves, "What kind of risk is this, business (equity) or credit (moving business assets through the conversion cycle)?" The answer is their guide.
Richard Sinclair is president of Correspondent Business Credit, a company meeting the alternative financing needs of small businesses in the Chesapeake region through asset based lending. He can be reached at 888-849-4222, ext. 19.
This first appeared in The Business Monthly
Monday, May 17, 2010
How Following Reference Check Best Practices Can Help a Dentist Avoid Legal Consequences
Hey Folks,
A long time friend of our firm, Jim Randisi has written an article on the legal importance of performing reference checks the right way. This is crucial in today's environment as a deterrent to embezzlement and other serious employee issues.
Have you been injured by an individual that you hired only to find out that same individual engaged in similar behavior for a prior employer? There are steps you can take to protect your firm from similar circumstances in the future.
ENABLE THE RIGHT TO NEGLIGENT REFERRAL
Employers have an obligation to provide truthful and factual information on past employees to prospective employers.
Let's talk about an example that probably happens often. You, as a prospective employer, are considering an applicant for a management position in your office. Assume that the applicant was “forced” to resign from a prior employer because the individual was using their position to steal money from customer accounts. Let's further assume that the individual was charged with criminal activity but agreed to make restitution as part of a plea agreement. The applicant might only indicate to you, the prospective employer, that they resigned. And, they will most likely fail to mention the circumstances under which they resigned
You, as the prospective employer, call the prior employer and tell the prior employer you are thinking of hiring the person for a position which would put that person in a similar position. The prior employer has an obligation to inform you of the truthful factual circumstances of that person's resignation. If the prior employer does not disclose the truthful, factual information surrounding that person's resignation, the prior employer could be held liable for the tort of negligent referral if that person likewise steals from you and causes injury.
You cannot enable negligent referral if you have not made the effort to call the prior employer and document the call.
Courts are increasingly intolerant of companies unwilling to communicate truthful, factual information about former employees. The courts are losing patience with employers concerned only with their own liability at the expense of society’s need to have access to reasonable information which prospective employers need to conduct business. This is particularly true if the former employee exhibited dangerous and aggressive behavior.
EMPLOYERS HAVE A PROTECTED PRIVILEGE
No cause of action automatically arises by a former employee if the communication is truthful and factual and given without malice. This type of communication enjoys qualified privileges in general. The law is well established that an employer has a qualified privilege to provide information about a former employee.
Many states have enacted statutes to further protect this communication. These statutes are designed to benefit society by encouraging honest references.
There is for example another case in which an employee was asked to resign after bringing a gun to work. His prior employer had given a reference that said that he was let go in a corporate restructuring and did not mention the gun incident. The individual then shot and killed three supervisors at his new job. That case, Jerner v. Allstate Insurance Co., No. 93-09472 (Florida Circuit Court, Aug. 10, 1995), was settled for an undisclosed sum.
Stating a truthful and documented fact between employers is always a defense to a claim of defamation. Who is helped when you don’t give a useful reference. When employers give only neutral references, the company risks potential liability for not warning other prospective employers that a bad actor is coming their way.
What can you say to prospective employers that inquire about former employees? The overwhelming advice is usually to say as little as possible.
That's almost all you need to know to deal with 99.5 percent of the situations you'll confront in responding to a reference check. Of course, you should at least acknowledge an employee's dates of employment, jobs held, and sometimes his pay rate. But what about the .5 percent of the cases in which more may be necessary?
TELLING IT LIKE IT IS
That was Howard Cosell's mantra. It's what many people who give employment references would really like to do. And you could get away with it most of the time because most employees are good and deserve favorable references.
But as one federal judge recently observed, in today's world, "It is not uncommon for a soured employer-and-employee relationship to lead to litigation -- whether meritorious or frivolous. Thus it should come as no surprise that statements [to prospective employers] have prompted litigation by former employees."
The fear of defamation claims has enabled more than one marginal or substandard worker to go from one employer to the next, leaving havoc in his wake.
An egregious example of that havoc, a case that should cause you to reexamine the "speak no evil" approach to references, was reported recently. In that case, a doctor left one hospital where his performance was substandard and took up his practice at a hospital on the West Coast.( Kadlec Medical Center v. Lakeview Medical Center, 5th Cir., No. 06-30745 (May 8, 2008).
The doctor's malpractice at the second hospital left a young mother in a permanently vegetative state.
After the young woman's husband recovered a verdict against the West Coast hospital, that hospital sued his previous employer for failing to warn it about the doctor's problems.
It was proven at trial that the first hospital knew that the doctor was a substance abuser whose professional competence was seriously compromised by his addiction, but it said nothing to the person doing the reference check.
The first hospital merely filled out a form confirming some basic facts of employment and declined to provide any more information, citing the volume of inquiries and the burden of responding more fully.
The employer learned the hard way that the law required more. Under the circumstances, it was obligated to disclose information about the former employee's performance problems so the prospective employer would be fully and accurately informed about him when making the hiring decision.
While the $4.1 million verdict against the hospital may be the largest of its kind, it isn't the first time an employer has been held liable for failing to disclose important information about a former employee.
Other cases have involved school employees whose patterns of sexually abusing students have been covered up so they can be quietly moved on to another unsuspecting employer. See Randi W. v. Muroc Joint Unified School Dist., 929 P.2d 582 (Cal. 1997) (victim of sexual molestation by vice principal had claim against school districts that formerly employed him, because they had recommended him without disclosing disciplinary actions for inappropriate conduct)
Lessons for employers
Lesson one: Do your homework. When you're hiring someone, don't just do a cursory background check. Call the applicant's references, and get as much information as you can. If the job involves tasks like working with children, the elderly, or other vulnerable populations, be especially thorough.
Negligent hiring cases also can involve hotel night clerks, cable television linemen, and other jobs that might put the employee in a one-on-one situation with customers. Check for criminal records in addition to calling former employers and references.
If the West Coast hospital hadn't tried to do a thorough background check, it wouldn't have had a claim against the previous employer that concealed important information and would have been stuck with the verdict against it.
Lesson two: Think twice before you give the name, rank, and serial number response to an inquiry from a prospective employer. If the employee it's asking about has a violent streak or a substance abuse problem that could present a danger to coworkers or the public, you seriously should consider passing that information along if it is truthful and factual and documented.
Of course, before revealing anything negative, double-check your information to be as certain as you can that you're correct. Some defamation cases have merit because the employer was too quick to pass along false information.
EMPLOYER ARE LIABLE FOR FALSE AND MALICIOUS STATEMENTS
In almost every case in which an employer has been found liable for statements made during a reference check the statements were false, made with malice, or made by someone lacking sufficient knowledge of the plaintiff’s employment.
Once you're satisfied that the negative information is both accurate and important for the prospective employer to know, choose a smart way to pass it along. That may be the hardest thing to do.
WHY EMPLOYEES SELDOM WIN
The reality of the threat of defamation from employer references is often well exaggerated. The reason employees seldom win these cases is because they must prove malice. In essence, they have to show not only that the statements made in the reference were defamatory and false, but also that they were unusually reckless and malicious and that the employer had no basis for making the statements at all.
HOW EMPLOYERS LOSE
Those employers that are found liable for defamation in the context of giving references have usually made statements that a reasonable person would not have made. e.g. “Yeah Joe worked for me and I think he is a no good drunk.” There are situations in which even a reasonable and careful employer can find themselves on the wrong end of a liability judgment. Reference checking is not one of these types of situations. An employer who sets up a proper system of guidelines, training and controls is generally protected from liability.
James P. Randisi, President of Randisi & Associates, Inc., has since 1995 been helping employers protect their clients, workforce and reputation through implementation of employment screening and drug testing programs. Mr. Randisi can be contacted by phone at 888.494.4050 or Email: jim@preemploymentscreen.com or the website at http://www.preemploymentscreen.com/
The information in this article is not offered as legal advice. Randisi & Associates, Inc. is not a law firm and does not offer legal advice. This Presentation is not intended as a substitute for the legal advice of an attorney knowledgeable of the issues covered as they relate to a user’s individual circumstances.
A long time friend of our firm, Jim Randisi has written an article on the legal importance of performing reference checks the right way. This is crucial in today's environment as a deterrent to embezzlement and other serious employee issues.
Have you been injured by an individual that you hired only to find out that same individual engaged in similar behavior for a prior employer? There are steps you can take to protect your firm from similar circumstances in the future.
ENABLE THE RIGHT TO NEGLIGENT REFERRAL
Employers have an obligation to provide truthful and factual information on past employees to prospective employers.
Let's talk about an example that probably happens often. You, as a prospective employer, are considering an applicant for a management position in your office. Assume that the applicant was “forced” to resign from a prior employer because the individual was using their position to steal money from customer accounts. Let's further assume that the individual was charged with criminal activity but agreed to make restitution as part of a plea agreement. The applicant might only indicate to you, the prospective employer, that they resigned. And, they will most likely fail to mention the circumstances under which they resigned
You, as the prospective employer, call the prior employer and tell the prior employer you are thinking of hiring the person for a position which would put that person in a similar position. The prior employer has an obligation to inform you of the truthful factual circumstances of that person's resignation. If the prior employer does not disclose the truthful, factual information surrounding that person's resignation, the prior employer could be held liable for the tort of negligent referral if that person likewise steals from you and causes injury.
You cannot enable negligent referral if you have not made the effort to call the prior employer and document the call.
Courts are increasingly intolerant of companies unwilling to communicate truthful, factual information about former employees. The courts are losing patience with employers concerned only with their own liability at the expense of society’s need to have access to reasonable information which prospective employers need to conduct business. This is particularly true if the former employee exhibited dangerous and aggressive behavior.
EMPLOYERS HAVE A PROTECTED PRIVILEGE
No cause of action automatically arises by a former employee if the communication is truthful and factual and given without malice. This type of communication enjoys qualified privileges in general. The law is well established that an employer has a qualified privilege to provide information about a former employee.
Many states have enacted statutes to further protect this communication. These statutes are designed to benefit society by encouraging honest references.
There is for example another case in which an employee was asked to resign after bringing a gun to work. His prior employer had given a reference that said that he was let go in a corporate restructuring and did not mention the gun incident. The individual then shot and killed three supervisors at his new job. That case, Jerner v. Allstate Insurance Co., No. 93-09472 (Florida Circuit Court, Aug. 10, 1995), was settled for an undisclosed sum.
Stating a truthful and documented fact between employers is always a defense to a claim of defamation. Who is helped when you don’t give a useful reference. When employers give only neutral references, the company risks potential liability for not warning other prospective employers that a bad actor is coming their way.
What can you say to prospective employers that inquire about former employees? The overwhelming advice is usually to say as little as possible.
That's almost all you need to know to deal with 99.5 percent of the situations you'll confront in responding to a reference check. Of course, you should at least acknowledge an employee's dates of employment, jobs held, and sometimes his pay rate. But what about the .5 percent of the cases in which more may be necessary?
TELLING IT LIKE IT IS
That was Howard Cosell's mantra. It's what many people who give employment references would really like to do. And you could get away with it most of the time because most employees are good and deserve favorable references.
But as one federal judge recently observed, in today's world, "It is not uncommon for a soured employer-and-employee relationship to lead to litigation -- whether meritorious or frivolous. Thus it should come as no surprise that statements [to prospective employers] have prompted litigation by former employees."
The fear of defamation claims has enabled more than one marginal or substandard worker to go from one employer to the next, leaving havoc in his wake.
An egregious example of that havoc, a case that should cause you to reexamine the "speak no evil" approach to references, was reported recently. In that case, a doctor left one hospital where his performance was substandard and took up his practice at a hospital on the West Coast.( Kadlec Medical Center v. Lakeview Medical Center, 5th Cir., No. 06-30745 (May 8, 2008).
The doctor's malpractice at the second hospital left a young mother in a permanently vegetative state.
After the young woman's husband recovered a verdict against the West Coast hospital, that hospital sued his previous employer for failing to warn it about the doctor's problems.
It was proven at trial that the first hospital knew that the doctor was a substance abuser whose professional competence was seriously compromised by his addiction, but it said nothing to the person doing the reference check.
The first hospital merely filled out a form confirming some basic facts of employment and declined to provide any more information, citing the volume of inquiries and the burden of responding more fully.
The employer learned the hard way that the law required more. Under the circumstances, it was obligated to disclose information about the former employee's performance problems so the prospective employer would be fully and accurately informed about him when making the hiring decision.
While the $4.1 million verdict against the hospital may be the largest of its kind, it isn't the first time an employer has been held liable for failing to disclose important information about a former employee.
Other cases have involved school employees whose patterns of sexually abusing students have been covered up so they can be quietly moved on to another unsuspecting employer. See Randi W. v. Muroc Joint Unified School Dist., 929 P.2d 582 (Cal. 1997) (victim of sexual molestation by vice principal had claim against school districts that formerly employed him, because they had recommended him without disclosing disciplinary actions for inappropriate conduct)
Lessons for employers
Lesson one: Do your homework. When you're hiring someone, don't just do a cursory background check. Call the applicant's references, and get as much information as you can. If the job involves tasks like working with children, the elderly, or other vulnerable populations, be especially thorough.
Negligent hiring cases also can involve hotel night clerks, cable television linemen, and other jobs that might put the employee in a one-on-one situation with customers. Check for criminal records in addition to calling former employers and references.
If the West Coast hospital hadn't tried to do a thorough background check, it wouldn't have had a claim against the previous employer that concealed important information and would have been stuck with the verdict against it.
Lesson two: Think twice before you give the name, rank, and serial number response to an inquiry from a prospective employer. If the employee it's asking about has a violent streak or a substance abuse problem that could present a danger to coworkers or the public, you seriously should consider passing that information along if it is truthful and factual and documented.
Of course, before revealing anything negative, double-check your information to be as certain as you can that you're correct. Some defamation cases have merit because the employer was too quick to pass along false information.
EMPLOYER ARE LIABLE FOR FALSE AND MALICIOUS STATEMENTS
In almost every case in which an employer has been found liable for statements made during a reference check the statements were false, made with malice, or made by someone lacking sufficient knowledge of the plaintiff’s employment.
Once you're satisfied that the negative information is both accurate and important for the prospective employer to know, choose a smart way to pass it along. That may be the hardest thing to do.
WHY EMPLOYEES SELDOM WIN
The reality of the threat of defamation from employer references is often well exaggerated. The reason employees seldom win these cases is because they must prove malice. In essence, they have to show not only that the statements made in the reference were defamatory and false, but also that they were unusually reckless and malicious and that the employer had no basis for making the statements at all.
HOW EMPLOYERS LOSE
Those employers that are found liable for defamation in the context of giving references have usually made statements that a reasonable person would not have made. e.g. “Yeah Joe worked for me and I think he is a no good drunk.” There are situations in which even a reasonable and careful employer can find themselves on the wrong end of a liability judgment. Reference checking is not one of these types of situations. An employer who sets up a proper system of guidelines, training and controls is generally protected from liability.
James P. Randisi, President of Randisi & Associates, Inc., has since 1995 been helping employers protect their clients, workforce and reputation through implementation of employment screening and drug testing programs. Mr. Randisi can be contacted by phone at 888.494.4050 or Email: jim@preemploymentscreen.com or the website at http://www.preemploymentscreen.com/
The information in this article is not offered as legal advice. Randisi & Associates, Inc. is not a law firm and does not offer legal advice. This Presentation is not intended as a substitute for the legal advice of an attorney knowledgeable of the issues covered as they relate to a user’s individual circumstances.
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