MEMORANDUM PRIVILEGED AND CONFIDENTIAL ATTORNEY WORK PRODUCT
April 18, 2024
FROM: Leonard Cross, Partner, Tax Robert Jansen, Senior Associate, Tax Calderwood & Harkness LLP One Liberty Plaza, 45th Floor New York, NY 10006
TO: Marcus Pellegrino, Partner, Healthcare Ardent Capital Partners III LP 600 Lexington Avenue, 38th Floor New York, NY 10022
CC: Claire Ashworth, Co-Founder & Managing Partner, Ardent Capital Partners III LP Thomas Kundra, Partner, M&A, Harcourt Shaw & DeVries LLP
RE: Purchase Price Allocation — Acquisition of Pinnacle Health Services Group LLC
Matter No.: 1001-00006 Engagement No.: 1001-00006
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I. EXECUTIVE SUMMARY
The purpose of this memorandum is to set forth the methodology, results, and tax basis for the allocation of the $412,000,000 aggregate enterprise value paid by Ardent Healthcare Intermediate Inc. (a Delaware C-corporation, EIN 93-2187512) for 100% of the membership interests in Pinnacle Health Services Group LLC ("Pinnacle" or the "Company," EIN 82-1947632) in connection with the reverse merger that closed on May 31, 2024 (the "Transaction"). This memorandum has been prepared by Calderwood & Harkness LLP at the direction of Ardent Capital Partners III LP ("Ardent" or the "Fund") and its affiliates in connection with the post-closing tax structuring and compliance matters arising from the Transaction.
Transaction Structure. The Transaction was structured as a reverse merger of Ardent Healthcare Merger Sub LLC, a newly formed Delaware limited liability company and wholly owned subsidiary of Ardent Healthcare Intermediate Inc. ("Intermediate Inc."), with and into Pinnacle, with Pinnacle surviving as a wholly owned subsidiary of Intermediate Inc. Intermediate Inc. is in turn wholly owned by Ardent Healthcare Holdings LLC ("Holdings LLC"), a Delaware limited liability company (EIN 93-2187445) classified as a partnership for federal income tax purposes. Holdings LLC is the primary operating vehicle through which the Fund holds its healthcare platform investments. The three-tier acquisition structure — Fund → Holdings LLC → Intermediate Inc. → Pinnacle — was selected to provide the Fund's tax-exempt and non-U.S. limited partners with blocker protection while preserving flow-through treatment for domestic taxable investors.
Tax Classification and Applicable Framework. Pinnacle is a Delaware LLC classified as a partnership for federal income tax purposes. Accordingly, the acquisition of 100% of its membership interests is treated as a purchase of partnership interests under Subchapter K of the Internal Revenue Code, and not as a stock acquisition or a direct asset acquisition. Form 8594 (Asset Acquisition Statement under Section 1060) is therefore not technically required for a partnership interest purchase. Nevertheless, the allocation schedule set forth in this memorandum has been prepared for purposes of computing Section 743(b) basis adjustments under the Section 754 election that Pinnacle will make for its taxable year ending December 31, 2024. The allocation schedule is attached as Exhibit A to the Agreement and Plan of Merger dated March 15, 2024 (the "Merger Agreement"), and both buyer and sellers are contractually obligated to report consistently with the allocation.
Key Result. The Section 743(b) basis step-up resulting from the Transaction is $224,400,000, computed as the difference between the $412,000,000 enterprise value (representing the outside basis of Intermediate Inc. in its Pinnacle interest) and the $187,600,000 aggregate inside basis of Pinnacle in its assets. This step-up, when allocated among Pinnacle's individual assets under the Section 755 allocation rules, produces a weighted-average amortization period of approximately 11.2 years, yielding an estimated annual amortization deduction of approximately $20,040,000 and an estimated annual tax benefit of approximately $5,010,000 at a 25% blended federal and state tax rate.
Coordination with Advisors. The allocation set forth herein has been coordinated with the valuation analysis prepared by Northmark Advisory Group LLC (Chicago, Illinois), Ardent's quality-of-earnings and valuation advisor, and has been reviewed by Caldwell Pratt & Moorehouse LLP (New York, New York), Ardent's accounting firm, for consistency with ASC 805 (Business Combinations) purchase accounting requirements. Seller's counsel, Whitford & Gaines LLP (Patricia Engelman, Partner), has reviewed and consented to the allocation for purposes of the Merger Agreement exhibit. The buyer and sellers are contractually obligated to report consistently with the allocation on all applicable federal, state, and local income tax returns.
The balance of this memorandum is organized as follows: Section II provides a detailed overview of the Transaction and the determination of the purchase price; Section III describes the legal framework governing the purchase price allocation; Section IV presents the detailed allocation schedule; Section V analyzes the amortization and tax benefit implications; Section VI addresses the Tax Receivable Agreement; Section VII outlines reporting and compliance obligations; Section VIII summarizes the valuation methodology and support; Section IX addresses the treatment of specific items; Section X discusses state tax considerations; and Section XI sets forth limitations and qualifications. Exhibits A through C are appended.
II. TRANSACTION OVERVIEW AND PURCHASE PRICE DETERMINATION
A. Transaction Structure
The Transaction involved the acquisition of 100% of the outstanding membership interests in Pinnacle Health Services Group LLC via a reverse merger. Specifically, Ardent Healthcare Merger Sub LLC, a newly formed Delaware limited liability company organized solely for the purpose of effecting the Transaction, merged with and into Pinnacle, with Pinnacle surviving as the surviving entity and becoming a wholly owned subsidiary of Intermediate Inc. immediately following the effective time of the merger.
The acquisition employed a three-tier holding structure, designed to balance the tax objectives of the Fund's diverse investor base:
(i) Ardent Capital Partners III LP (a Delaware limited partnership, EIN 87-3491520), the acquiring fund entity, committed equity capital to the Transaction through its general partner, Ardent Capital GP III LLC;
(ii) Ardent Healthcare Holdings LLC (a Delaware limited liability company, EIN 93-2187445, classified as a partnership for federal income tax purposes), the intermediate holding vehicle through which the Fund's healthcare platform investments are held, received the equity contribution from the Fund and in turn capitalized Intermediate Inc.;
(iii) Ardent Healthcare Intermediate Inc. (a Delaware C-corporation, EIN 93-2187512), the "Blocker" entity organized to hold the Pinnacle interest on behalf of Holdings LLC, served as the direct acquiror of the Pinnacle membership interests and the entity through which the Section 743(b) basis adjustment will be realized; and
(iv) Pinnacle Health Services Group LLC (a Delaware limited liability company, EIN 82-1947632, classified as a partnership for federal income tax purposes), the surviving entity following the reverse merger, now operates as a wholly owned subsidiary of Intermediate Inc.
The Merger Agreement was executed on March 15, 2024 (the "Signing Date"), and the Transaction closed on May 31, 2024 (the "Closing Date"), following satisfaction of customary closing conditions including the expiration of the Hart-Scott-Rodino waiting period, receipt of required state healthcare regulatory approvals, and the execution and delivery of the financing documents.
Pinnacle's Business. Pinnacle is an owner-operator of healthcare facilities, operating 34 urgent care clinics and 8 ambulatory surgery centers (42 facilities in total) across five states: Pennsylvania, Virginia, Maryland, North Carolina, and Georgia. As of the Closing Date, Pinnacle employed approximately 1,620 employees, including 142 employed physicians and mid-level practitioners. For the fiscal year ended December 31, 2023, Pinnacle reported revenue of approximately $287.4 million and Adjusted EBITDA (as defined in the Merger Agreement) of approximately $51.8 million. The Company has a strong regional brand and a diversified payor mix, with approximately 45% commercial insurance, 28% Medicare, 15% Medicaid, and 12% self-pay and other sources.
B. Enterprise Value and Equity Value
The aggregate enterprise value of Pinnacle was established at $412,000,000 (the "Enterprise Value"), a figure that was fixed in the Letter of Intent dated January 8, 2024, and confirmed in the Merger Agreement. This Enterprise Value implies an EV/EBITDA multiple of approximately 7.95x on 2023 Adjusted EBITDA of $51.8 million, which is consistent with observed transaction multiples for multi-site healthcare services platforms of comparable scale and geographic diversification.
The Equity Value was derived from the Enterprise Value as follows:
The funded debt of $81,300,000 consisted of Pinnacle's outstanding senior credit facility (First National Healthcare Lending, as administrative agent), which was repaid in full at closing from the proceeds of the new acquisition financing. Cash on the balance sheet of $8,700,000 was retained by Pinnacle as a continuing operating asset.
Working Capital. The working capital target, as established in the Merger Agreement based on a trailing twelve-month average, was $18,200,000. The estimated closing working capital, as calculated by the parties in the preliminary closing statement delivered at closing, was $19,050,000, resulting in an estimated surplus of $850,000 above the target. The Merger Agreement provides for a dollar-for-dollar adjustment to the Equity Value for deviations from the target, and the final working capital determination is subject to the post-closing true-up procedures set forth in Section 2.05 of the Merger Agreement. Any post-closing working capital adjustment will be treated as an adjustment to the purchase price for purposes of the allocation, as discussed in Section IX.A below.
C. Components of Aggregate Consideration
The total consideration paid in connection with the Transaction is comprised of the following components:
Cash Consideration. The total Equity Value of $339,400,000, less total rollover equity of $59,540,000 contributed by certain selling members, yielded cash-out proceeds to sellers of $279,860,000 (before giving effect to escrow holdbacks and state withholding obligations). Cash consideration was funded from a combination of the Fund's equity commitment and debt financing proceeds.
Rollover Equity. Three of Pinnacle's founding members elected to roll over a portion of their equity into Class B Units of Holdings LLC in a transaction intended to qualify as a tax-deferred contribution under Section 721 of the Internal Revenue Code. The rollover equity contributions were as follows:
Earnout. The Merger Agreement provides for contingent additional consideration in the form of an earnout, with a maximum aggregate payment of $35,000,000, structured in two measurement periods:
Period 1: Up to $15,000,000 if Pinnacle achieves Adjusted EBITDA (as defined in the Merger Agreement) of at least $58,000,000 for the twelve-month period ending May 31, 2025.
Period 2: Up to $20,000,000 if Pinnacle achieves Adjusted EBITDA of at least $65,000,000 for the twelve-month period ending May 31, 2026.
The earnout is treated as contingent additional purchase price for federal income tax purposes and is excluded from the initial purchase price allocation. The treatment of the earnout is discussed further in Sections III.F and IX below.
Escrow Holdbacks. The following amounts were withheld from the cash consideration and deposited with Ironbridge Trust Company, N.A. (Wilmington, Delaware) as escrow agent:
General Indemnity Escrow: $10,300,000, securing the sellers' post-closing indemnification obligations under Article VIII of the Merger Agreement, with a survival period of eighteen months following the Closing Date.
Tax Indemnity Escrow: $4,120,000, securing the sellers' representations and indemnification obligations with respect to pre-closing tax matters under Article VII of the Merger Agreement, with a survival period of sixty days following the expiration of the applicable statute of limitations.
Assumed Debt. The Enterprise Value of $412,000,000 includes $81,300,000 of funded debt that was outstanding at closing and was repaid from the proceeds of the new acquisition financing. For purposes of the purchase price allocation, the full Enterprise Value of $412,000,000 is the total amount allocable among Pinnacle's assets, as it represents the aggregate consideration (in all forms) attributable to the entirety of Pinnacle's business operations.
Summary. For purposes of the purchase price allocation, the total amount allocated is the Enterprise Value of $412,000,000, representing the sum of cash consideration, rollover equity, assumed and retired debt, and escrow holdbacks. The earnout is excluded from the initial allocation and will be allocated upon payment, as described in Section III.F.
D. Sources of Funds
The Transaction was financed from the following sources:
The uses of funds included the cash-out to sellers ($279,860,000), repayment of Pinnacle's existing funded debt ($81,300,000), escrow deposits ($14,420,000), estimated transaction costs ($31,710,000), and cash to balance sheet at closing ($70,750,000, inclusive of the $8,700,000 existing cash retained by Pinnacle). The revolving credit facility was undrawn at closing and is available for working capital and general corporate purposes.
III. LEGAL FRAMEWORK FOR PURCHASE PRICE ALLOCATION
A. Inapplicability of Section 1060 to Partnership Interest Purchases
Section 1060 of the Internal Revenue Code applies to "applicable asset acquisitions" — that is, direct acquisitions of assets that constitute a trade or business, as defined in Treasury Regulations Section 1.1060-1(b)(2). In an applicable asset acquisition, both the buyer and seller are required to allocate the aggregate consideration among the acquired assets using the residual method prescribed by Section 1060 and Treasury Regulations Section 1.338-6.
The Transaction does not constitute an applicable asset acquisition within the meaning of Section 1060. Rather, the acquisition of 100% of the membership interests in Pinnacle — a limited liability company classified as a partnership for federal income tax purposes — is treated as a purchase of partnership interests under Subchapter K of the Code. The distinction is significant: in a partnership interest purchase, the buyer acquires an interest in a pass-through entity rather than acquiring the entity's underlying assets directly. The buyer's basis in the acquired partnership interest (the "outside basis") may differ materially from the partnership's basis in its underlying assets (the "inside basis"), and the mechanism for achieving a basis step-up in the underlying assets operates through Section 743(b), contingent on the filing of a Section 754 election, rather than through the direct allocation rules of Section 1060.
Notwithstanding the technical inapplicability of Section 1060, the allocation schedule set forth in this memorandum has been prepared using an analogous methodology in order to provide a principled and defensible basis for computing the Section 743(b) basis adjustments. As discussed in Section III.D below, Treasury Regulations Section 1.755-1 adopts an allocation methodology that closely parallels the residual method of Section 1060, and the parties have agreed in the Merger Agreement to report consistently with the allocation.
B. Section 754 Election
Section 754 of the Internal Revenue Code provides that a partnership may elect to adjust the basis of partnership property in the case of a transfer of a partnership interest (under Section 743) or a distribution of partnership property (under Section 734). The election, once made, applies to all transfers and distributions occurring in the taxable year for which the election is made and in all subsequent taxable years, and is irrevocable without the consent of the Internal Revenue Service.
Pinnacle LLC will make a Section 754 election to be filed with Pinnacle's federal partnership income tax return (Form 1065) for the taxable year ending December 31, 2024. The election statement has been prepared in draft form by Calderwood & Harkness (dated May 31, 2024) and will be finalized for filing with the 2024 partnership return. The obligation to make the Section 754 election is set forth in Section 6.09(a) of the Merger Agreement, and the sellers have agreed to cooperate in the preparation and filing of the election.
Upon the filing of the Section 754 election, Intermediate Inc. — as the transferee partner acquiring 100% of Pinnacle's outstanding membership interests — will be entitled to a Section 743(b) basis adjustment in its proportionate share of Pinnacle's assets. Because Intermediate Inc. has acquired 100% of the partnership interests, the basis adjustment applies to Intermediate Inc.'s allocable share of all of Pinnacle's assets, which in this case is the entirety of each asset.
C. Section 743(b) Basis Step-Up Computation
The Section 743(b) basis adjustment is computed as the difference between the transferee partner's outside basis in its partnership interest and the transferee partner's proportionate share of the partnership's adjusted basis in its assets (the "inside basis"). The computation is as follows:
Outside basis of Intermediate Inc. in its Pinnacle interest: $412,000,000
The outside basis is equal to the total amount paid by Intermediate Inc. for 100% of the membership interests in Pinnacle, including the cash consideration, rollover equity (which is part of the total consideration attributable to the acquired interests at the entity level), and the assumed debt that was retired at closing. For purposes of this computation, the outside basis is set equal to the Enterprise Value, reflecting the total economic value of Pinnacle's assets from a buyer's perspective.
Aggregate inside basis of Pinnacle in its assets: $187,600,000
The inside basis represents Pinnacle's adjusted tax basis in all of its assets as of the Closing Date, determined on a federal income tax basis. This amount includes Pinnacle's basis in cash, accounts receivable, inventory, tangible depreciable property, amortizable intangible assets, and goodwill. The inside basis was determined through a detailed review of Pinnacle's tax depreciation and amortization schedules, historical asset acquisition records, and Section 754 adjustments from prior transfers, and has been confirmed by Brewer Stanfield & Associates LLP, Pinnacle's accounting firm.
Section 743(b) basis step-up: $412,000,000 − $187,600,000 = $224,400,000
This step-up of $224,400,000 is personal to Intermediate Inc. and is reflected as a special basis adjustment that exists only for the benefit of Intermediate Inc. in computing its allocable share of partnership income, gain, loss, and deductions. The step-up does not affect Pinnacle's common basis in its assets, does not appear on Pinnacle's balance sheet or books and records, and would not affect the tax reporting of any other partners (though, as Intermediate Inc. is the sole partner following the Transaction, this consideration is academic in the present case).
D. Section 755 Allocation Rules
Under Section 755 of the Internal Revenue Code and Treasury Regulations Section 1.755-1(b), the Section 743(b) basis adjustment must be allocated among the partnership's individual assets. The regulations prescribe a two-step allocation:
First, the total adjustment is divided between two classes of partnership property: (i) capital gain property (capital assets and Section 1231 property) and (ii) ordinary income property. The portion of the adjustment allocated to each class is determined based on the amount of income, gain, or loss that would be allocated to the transferee partner from the hypothetical sale of all partnership assets at fair market value.
Second, within each class, the adjustment is allocated among the individual assets based on the difference between the fair market value of each asset and the partnership's adjusted basis in that asset.
In the present case, where Intermediate Inc. has acquired 100% of Pinnacle's interests, the allocation of the Section 743(b) adjustment among individual assets is equivalent to the difference between the fair market value of each asset and Pinnacle's basis in that asset — that is, the asset-by-asset step-up equals the asset-by-asset spread between FMV and basis.
E. Residual Method Framework — Asset Classes
Although Section 1060 does not directly apply to this Transaction (as discussed in Section III.A), Treasury Regulations Section 1.755-1 contemplates an allocation methodology that is functionally analogous to the residual method prescribed by Treasury Regulations Section 1.338-6 for applicable asset acquisitions. We have therefore organized the allocation using the seven-class hierarchy set forth in Treasury Regulations Section 1.338-6(b), which provides a systematic framework for allocating the total Enterprise Value among Pinnacle's assets and computing the resulting Section 743(b) step-up for each asset:
Class I — Cash and Cash Equivalents. Includes cash on hand, demand deposits, and cash equivalents. These assets are allocated at their face amount.
Class II — Actively Traded Personal Property. Includes certificates of deposit, U.S. government securities, publicly traded stock, and other actively traded personal property within the meaning of Section 1092(d)(1). These assets are allocated at their fair market value, determined by reference to market quotations.
Class III — Accounts Receivable, Mortgages, Credit Card Receivables, and Similar Debt Instruments. Includes mark-to-market assets that are not included in Class II. These assets are allocated at their net realizable value or, in the case of receivables, at their face amount less an appropriate allowance for doubtful accounts.
Class IV — Inventory and Tangible Depreciable or Depletable Property. Includes stock in trade, inventory, and all tangible property that is subject to depreciation or depletion under Sections 167, 168, or 611. These assets are allocated at their appraised fair market value, determined using the replacement cost approach or comparable sales method, adjusted for physical depreciation and functional obsolescence.
Class V — All Section 197 Intangibles Other Than Goodwill and Going Concern Value. Includes customer-based intangibles, supplier-based intangibles, licenses, permits, covenants not to compete, franchise rights, trademarks, trade names, and workforce in place. These assets are allocated at their appraised fair market value, determined using income, market, or cost-based approaches as appropriate for each asset category.
Class VI — Section 197 Intangibles Consisting of Goodwill and Going Concern Value. The residual amount — that is, the total Enterprise Value less the aggregate fair market values assigned to Classes I through V — is allocated to goodwill and going concern value.
Class VII — Other Assets. This class is used in certain specialized transactions and is not applicable to the present allocation.
Under the residual method, the allocation proceeds sequentially from Class I through Class VII. Assets in each class are allocated at fair market value, and any remaining consideration after allocating to Classes I through V is assigned to Class VI as goodwill and going concern value. This approach ensures that the total allocation equals the total Enterprise Value and that no circular or iterative computations are required.
F. Treatment of Contingent Consideration (Earnout)
As noted in Section II.C, the Merger Agreement provides for contingent additional consideration in the form of an earnout with a maximum aggregate payment of $35,000,000, contingent on Pinnacle's achievement of specified EBITDA targets in two measurement periods.
The earnout is not included in the initial purchase price allocation of $412,000,000. The contingent nature of the earnout — dependent on future operating performance that is inherently uncertain — precludes its inclusion in the initial allocation under applicable tax principles. If and when earnout payments are made, each such payment will constitute additional purchase price for Pinnacle's membership interests, increasing Intermediate Inc.'s outside basis in its Pinnacle interest and giving rise to an incremental Section 743(b) adjustment. The incremental adjustment will be allocated among Pinnacle's assets using the same methodology described in this memorandum, applied consistently with the initial allocation.
In connection with earnout payments, Section 483 of the Internal Revenue Code will apply to impute interest on any portion of the earnout consideration that is deferred more than one year after the Closing Date. The applicable federal rates ("AFR") as of the Signing Date were 5.12% for short-term instruments and 4.67% for mid-term instruments. The imputed interest component of each earnout payment will be separated from the additional purchase price component for purposes of the allocation, and the imputed interest will be treated as ordinary income to the sellers and an ordinary deduction to the buyer in the year of payment.
The maximum aggregate earnout of $35,000,000, if fully achieved and paid, would increase the total Enterprise Value to $447,000,000 and result in a corresponding increase in the Section 743(b) adjustment. The incremental step-up would be allocated primarily to goodwill (Class VI) under the residual method, as the fair market values of the identifiable assets in Classes I through V would not be expected to change materially as a result of post-closing EBITDA performance.
IV. PURCHASE PRICE ALLOCATION — DETAILED SCHEDULE
A. Summary Allocation Table
The following table summarizes the allocation of the $412,000,000 aggregate Enterprise Value among Pinnacle's assets, the existing Pinnacle inside basis in each asset class, the resulting Section 743(b) step-up, the applicable useful life for tax amortization purposes, and the estimated annual amortization of the step-up portion:
As reflected in the table above, Class I (cash) and Class III (accounts receivable and inventory) assets are assumed to be carried at fair market value on Pinnacle's balance sheet, with basis equal to fair market value, such that no Section 743(b) step-up arises for these asset categories. The full step-up of $224,400,000 is concentrated in Classes IV, V, and VI — tangible depreciable property, identifiable intangible assets, and goodwill, respectively.
B. Class I — Cash and Cash Equivalents
Pinnacle held $8,700,000 in cash and demand deposits at the Closing Date, consisting of operating account balances at Orriven Trust Bank and Ostrander Financial across the Company's 42 facility locations and its corporate headquarters in King of Prussia, Pennsylvania. Cash is allocated at face value, and Pinnacle's existing basis in its cash assets equals the face amount. Accordingly, no Section 743(b) step-up is attributable to Class I assets.
C. Class II — Actively Traded Securities
Pinnacle did not hold any actively traded personal property, certificates of deposit, U.S. government securities, or other assets falling within Class II as of the Closing Date. The allocation to Class II is $0.
D. Class III — Accounts Receivable and Inventory
Class III assets consist of Pinnacle's net accounts receivable and medical supplies inventory, with a combined fair market value of $32,400,000, allocated as follows:
Accounts Receivable (net): $28,900,000, consisting primarily of amounts due from third-party payors, including commercial insurance carriers, Medicare (Centers for Medicare & Medicaid Services), and state Medicaid programs. Accounts receivable are stated net of allowances for contractual adjustments and doubtful accounts of approximately $4,200,000. The fair market value of accounts receivable is assumed to equal the net carrying amount, as these receivables are short-duration assets expected to be collected within 60 to 90 days of the Closing Date.
Medical Supplies Inventory: $3,500,000, consisting of pharmaceuticals, surgical supplies, diagnostic materials, and other consumable medical supplies held at the Company's 42 facilities. Inventory is carried at the lower of cost or net realizable value, and the fair market value is assumed to equal the carrying amount.
Because Pinnacle's basis in its Class III assets equals the allocated fair market value, no Section 743(b) step-up arises for this asset category. These assets are expected to be collected or consumed within one year of the Closing Date, and no amortization or depreciation deduction is associated with the step-up (which is $0).
E. Class IV — Tangible Depreciable Property
Class IV assets consist of Pinnacle's tangible depreciable property, including medical equipment, leasehold improvements, and furniture, fixtures, and office equipment. The total fair market value allocated to Class IV is $67,500,000, and Pinnacle's aggregate inside basis in these assets is $42,100,000, resulting in a Section 743(b) step-up of $25,400,000.
The Class IV assets are comprised of the following sub-categories:
1. Medical Equipment
Medical equipment includes diagnostic equipment (x-ray machines, ultrasound units, laboratory analyzers), surgical equipment (arthroscopic systems, endoscopy towers, anesthesia machines) deployed at the eight ambulatory surgery centers, and imaging equipment (CT scanners, digital radiography systems) installed at selected urgent care locations. The aggregate fair market value of medical equipment is $38,200,000, and Pinnacle's inside basis is approximately $23,800,000, yielding a step-up of approximately $14,400,000. The estimated remaining useful life of the medical equipment ranges from 5 to 7 years, depending on the age and condition of specific units. For MACRS purposes, medical equipment generally falls within the 5-year or 7-year recovery period under Rev. Proc. 87-56, Asset Class 57.0 (Distributive Trades and Services) or Asset Class 13.1 (Office Furniture, Fixtures, and Equipment), as applicable.
2. Leasehold Improvements
Leasehold improvements include build-outs, tenant improvements, HVAC modifications, plumbing and electrical upgrades, and specialized medical facility construction across Pinnacle's 42 leased facilities. The aggregate fair market value of leasehold improvements is $22,800,000, and Pinnacle's inside basis is approximately $14,200,000, yielding a step-up of approximately $8,600,000. The estimated remaining useful life of leasehold improvements is the shorter of the remaining lease term (including reasonably certain renewal options) or the improvement's physical life, which ranges from approximately 7 to 10 years across the portfolio. For MACRS purposes, qualified leasehold improvement property is depreciated over 15 years under Section 168(e)(6), although certain improvements may qualify for shorter recovery periods under the cost segregation studies performed by Northmark Advisory Group.
3. Furniture, Fixtures, and Office Equipment
This category includes waiting room furniture, examination room fixtures, reception desks, computer hardware, telephone systems, and other office equipment. The aggregate fair market value is $6,500,000, and Pinnacle's inside basis is approximately $4,100,000, yielding a step-up of approximately $2,400,000. The estimated remaining useful life is 3 to 5 years, with a MACRS recovery period of 5 years (Asset Class 00.12) or 7 years (Asset Class 00.11), as applicable.
Depreciation Methods. For federal income tax purposes, the Section 743(b) step-up allocated to Class IV tangible property will be depreciated using the Modified Accelerated Cost Recovery System (MACRS) over the applicable recovery periods, using the 200% declining balance method (or 150% declining balance method for 15-year property) switching to straight-line, with the half-year convention (or mid-quarter convention, if applicable). The step-up is treated as newly placed-in-service property for purposes of determining the applicable MACRS recovery period and depreciation method.
Valuation Methodology. The fair market values of Class IV assets were determined using the replacement cost approach, adjusted for physical depreciation and functional obsolescence, based on the detailed asset appraisal performed by Northmark Advisory Group LLC. The appraisal considered the age, condition, and remaining economic life of each category of tangible assets, and cross-checked the replacement cost conclusions against comparable market transactions for similar medical and office equipment.
F. Class V — Intangible Assets Other Than Goodwill
Class V assets consist of Pinnacle's identifiable intangible assets other than goodwill and going concern value. The total fair market value allocated to Class V is $146,200,000, and Pinnacle's aggregate inside basis in these assets is $62,400,000, resulting in a Section 743(b) step-up of $83,800,000.
The Class V assets are comprised of the following individual intangible assets:
1. Payor Contracts and Payor Relationships
Fair Market Value: $78,300,000
Pinnacle Inside Basis: $38,700,000
Section 743(b) Step-Up: $39,600,000
Useful Life for Tax Amortization: 15 years (Section 197 intangible)
Annual Amortization of Step-Up: $39,600,000 ÷ 15 = $2,640,000 per year
Pinnacle's contracts and relationships with commercial insurance payors, managed care organizations, Medicare, and Medicaid represent the single most significant identifiable intangible asset of the business. These relationships are the foundation of Pinnacle's recurring revenue stream, which totaled $287.4 million in 2023. The payor contracts include in-network agreements with major commercial carriers (Meridian Assurance, Bramwell Life Insurance, Northpoint Casualty Group, Hollowell Life Insurance, and Thackeray Industries), as well as participation agreements with Medicare and Medicaid programs in each of the five states in which Pinnacle operates. The contracts provide Pinnacle with negotiated reimbursement rates, access to the carriers' covered-lives networks, and preferred provider status, all of which contribute to patient volume and revenue stability.
The fair market value of $78,300,000 was determined by Northmark Advisory Group using the multi-period excess earnings method ("MEEM"), which isolates the economic returns attributable to the payor contracts by subtracting from total projected cash flows the contributory asset charges attributable to all other assets (tangible property, trade name, assembled workforce, and working capital). The MEEM analysis utilized a discount rate of 12.5%, a long-term revenue growth rate of 3.0%, and a payor contract attrition rate of 5.0% per annum.
Payor contracts and payor relationships are "customer-based intangibles" within the meaning of Section 197(d)(2)(A) and are classified as Section 197 intangibles subject to 15-year straight-line amortization. Pinnacle's existing inside basis of $38,700,000 in its payor contracts reflects the unamortized basis in contracts and customer relationships recognized in connection with Pinnacle's prior acquisitions of individual clinic and ASC practices.
2. Assembled Workforce
Fair Market Value: $12,100,000
Pinnacle Inside Basis: $4,200,000
Section 743(b) Step-Up: $7,900,000
Useful Life for Tax Amortization: 15 years (Section 197 intangible)
Annual Amortization of Step-Up: $7,900,000 ÷ 15 = $526,667 per year
Pinnacle employs approximately 1,620 individuals, including 142 employed physicians and mid-level practitioners, as well as registered nurses, medical assistants, surgical technicians, administrative and billing staff, and management personnel. The assembled workforce represents a significant intangible asset because the cost of recruiting, hiring, screening, credentialing, and training replacement employees — particularly licensed physicians and other clinical professionals — is substantial and would require considerable time and expense to replicate.
The fair market value of $12,100,000 was determined by Northmark Advisory Group using the cost approach (replacement cost method), which estimates the cost that a hypothetical buyer would incur to recruit, hire, credential, and train a workforce of equivalent size and capability. The analysis considered average recruiting costs per position category, signing bonuses, relocation expenses, training and onboarding costs, and the productivity loss during the ramp-up period for new hires.
Under Section 197(d)(1)(C)(ii), "workforce in place" is specifically enumerated as a Section 197 intangible when acquired in connection with a trade or business. Although the economic useful life of the assembled workforce may be shorter than 15 years (Northmark's valuation analysis used an economic life of approximately 3 years for financial reporting purposes under ASC 805), the tax amortization period for Section 197 intangibles is fixed at 15 years by statute, regardless of the asset's actual economic life. Because the Section 743(b) adjustment is treated as a basis adjustment in a Section 197 intangible, the 15-year amortization period applies. The distinction between the 3-year economic life used for financial reporting purposes and the 15-year tax amortization period should be noted for purposes of book-tax difference tracking.
3. Trade Name — "Pinnacle Health Services"
Fair Market Value: $38,400,000
Pinnacle Inside Basis: $8,700,000
Section 743(b) Step-Up: $29,700,000
Useful Life for Tax Amortization: 15 years (Section 197 intangible)
Annual Amortization of Step-Up: $29,700,000 ÷ 15 = $1,980,000 per year
The "Pinnacle Health Services" trade name is a recognized regional brand with significant patient and referral source recognition across Pinnacle's five-state footprint. The brand is associated with quality urgent care and ambulatory surgical services, and it serves as a key differentiator in patient acquisition and physician referral relationships. The trade name is used in connection with all 42 facility locations and is supported by the Company's digital presence, marketing programs, and community engagement activities.
The fair market value of $38,400,000 was determined by Northmark Advisory Group using the relief-from-royalty method, which estimates the present value of the hypothetical royalty payments that Pinnacle would be required to make if it were to license the trade name from a third-party owner. The analysis applied a royalty rate of 2.0% of projected revenue (based on comparable royalty rates observed in healthcare services transactions and licensing arrangements), discounted at a rate of 11.0%, with a long-term revenue growth rate of 3.0%.
Trade names and trademarks are Section 197 intangibles under Section 197(d)(1)(F) and are subject to 15-year straight-line amortization. Pinnacle's existing inside basis of $8,700,000 reflects the unamortized basis in the trade name from prior acquisitions in which the Pinnacle brand was developed or acquired.
4. Non-Compete Agreements
Fair Market Value: $17,400,000
Pinnacle Inside Basis: $10,800,000
Section 743(b) Step-Up: $6,600,000
Useful Life for Tax Amortization: 15 years (Section 197 intangible)
Annual Amortization of Step-Up: $6,600,000 ÷ 15 = $440,000 per year
In connection with the Transaction, Pinnacle's three founding members — Dr. Raymond Carvallo, M.D., Dr. Nadia Ostrowski, M.D., and Jonathan Farnsworth — entered into non-compete, non-solicitation, and non-disclosure agreements with Pinnacle and Intermediate Inc. The non-compete agreements have contractual terms of five years from the Closing Date and restrict the named individuals from engaging in competing healthcare services businesses, soliciting Pinnacle's employees or patients, or disclosing confidential business information, within specified geographic territories encompassing Pinnacle's existing markets.
The fair market value of $17,400,000 was determined by Northmark Advisory Group using the "with-and-without" method, which estimates the present value of the difference in projected cash flows under two scenarios: (i) the "with" scenario, in which the non-compete agreements are in place and the named individuals are precluded from competing, and (ii) the "without" scenario, in which the named individuals are free to compete and the analysis models the projected revenue loss, patient attrition, and competitive impact that would result. The analysis considered the market position and patient relationships of each individual, the geographic scope of the restrictions, and the probability of actual competition absent the agreements.
Non-compete agreements are specifically enumerated as Section 197 intangibles under Section 197(d)(1)(E) ("covenants not to compete... entered into in connection with an acquisition... of an interest in a trade or business"). Although the contractual term of the non-compete agreements is five years, Section 197 requires that all Section 197 intangibles acquired in connection with a trade or business be amortized over 15 years, regardless of the actual economic or contractual life of the asset. Accordingly, the 15-year amortization period applies to both the existing inside basis and the Section 743(b) step-up.
Pinnacle's existing inside basis of $10,800,000 in non-compete agreements reflects amounts attributable to non-compete agreements entered into in connection with Pinnacle's prior acquisitions of individual medical practices and surgery centers, which are being amortized over 15 years under Section 197.
Anti-Churning Rules. Section 197(f)(9) provides anti-churning rules that may deny amortization deductions for Section 197 intangibles acquired from a related person or in certain transactions involving previously held intangibles that were not amortizable under prior law. These rules are not applicable to the present Transaction because (i) Pinnacle's prior owners (the selling members) are not related to Ardent Capital Partners III LP or any of its affiliates within the meaning of Sections 267(b) or 707(b), and (ii) the intangible assets at issue were not held or used by the acquiror or any related person at any time prior to the Transaction.
G. Class VI — Goodwill and Going Concern Value
Under the residual method, the fair market value allocated to goodwill and going concern value (Class VI) is the residual amount remaining after the Enterprise Value has been allocated to all identifiable assets in Classes I through V. The computation is as follows:
Total Enterprise Value: $412,000,000
Less: Class I (Cash & Deposits): ($8,700,000)
Less: Class II (Actively Traded Securities): ($0)
Less: Class III (Accounts Receivable & Inventory): ($32,400,000)
Less: Class IV (Tangible Property): ($67,500,000)
Less: Class V (Intangibles excl. Goodwill): ($146,200,000)
Residual — Class VI (Goodwill & Going Concern Value): $157,200,000
Pinnacle Inside Basis in Existing Goodwill: $42,000,000
Section 743(b) Step-Up Allocated to Goodwill: $157,200,000 − $42,000,000 = $115,200,000
Useful Life for Tax Amortization: 15 years (Section 197 intangible)
Annual Amortization of Step-Up: $115,200,000 ÷ 15 = $7,680,000 per year
The goodwill allocated to Class VI reflects Pinnacle's going concern value — that is, the value attributable to the Company's assembled platform, established market position, operational infrastructure, management depth, growth potential, and the synergistic value of operating 42 healthcare facilities as an integrated network rather than as standalone practices. The goodwill amount of $157,200,000 is consistent with the premium inherent in the 7.95x EV/EBITDA multiple paid for Pinnacle, which exceeds the sum of the fair market values of Pinnacle's identifiable tangible and intangible assets.
Pinnacle's existing inside basis of $42,000,000 in goodwill reflects the unamortized basis in goodwill recognized in connection with Pinnacle's historical acquisitions of individual medical practices and surgery centers, which have been amortized on a straight-line basis over 15 years under Section 197.
Goodwill is a Section 197 intangible under Section 197(d)(1)(A) and is subject to 15-year straight-line amortization. The Section 743(b) step-up of $115,200,000 allocated to goodwill will be amortized on a straight-line basis over 15 years beginning in the month of the Closing Date (June 2024 for partial-year purposes; a full 15-year amortization period commencing in the 2024 taxable year).
H. Reconciliation
The following reconciliation confirms that the allocation is internally consistent and that the total allocated fair market value, total inside basis, and total Section 743(b) step-up are properly computed:
Total Allocated FMV:
$8,700,000 + $0 + $32,400,000 + $67,500,000 + $146,200,000 + $157,200,000 = $412,000,000
Total Inside Basis:
$8,700,000 + $0 + $32,400,000 + $42,100,000 + $62,400,000 + $42,000,000 = $187,600,000
Total Section 743(b) Step-Up:
$0 + $0 + $0 + $25,400,000 + $83,800,000 + $115,200,000 = $224,400,000
The reconciliation confirms that the sum of the allocated fair market values equals the Enterprise Value of $412,000,000, the sum of the inside basis amounts equals the aggregate inside basis of $187,600,000, and the sum of the asset-level step-ups equals the total Section 743(b) adjustment of $224,400,000.
V. AMORTIZATION AND TAX BENEFIT ANALYSIS
A. Weighted-Average Useful Life Computation
The weighted-average useful life of the assets receiving a Section 743(b) step-up is computed as follows, weighting each asset class's step-up amount by its applicable amortization period:
Weighted-Average Useful Life = $3,162,800,000 ÷ $224,400,000 = approximately 14.1 years
However, because the Class IV tangible property includes assets with remaining useful lives ranging from 3 to 10 years that will be depreciated using MACRS accelerated methods (200% declining balance) rather than straight-line, the actual annual deduction pattern is front-loaded relative to a pure straight-line computation. When the accelerated depreciation effect is taken into account, the effective weighted-average period over which the step-up generates annual deductions — computed on a cash-flow-equivalent basis using the same 8% discount rate employed in the buyer's acquisition model — is approximately 11.2 years. This figure reflects the economic equivalence between the actual year-by-year deduction stream (higher in early years due to accelerated tangible property depreciation, declining to Section 197 straight-line amortization only in later years) and a level annual deduction over the stated period.
The 11.2-year weighted-average reflects the mix of shorter-lived tangible assets (pulling the effective average down from 15 years) and the predominance of 15-year Section 197 intangibles (comprising approximately 89% of the total step-up).
B. Estimated Annual Amortization Deduction
The total Section 743(b) step-up of $224,400,000, amortized over the effective weighted-average useful life of approximately 11.2 years, yields an estimated blended annual amortization deduction of approximately $20,040,000 per year. This blended figure represents the average annual deduction over the amortization period; the actual year-by-year amounts will vary as follows:
Years 1–5 (2024–2028): Higher annual deductions, reflecting the accelerated MACRS depreciation of Class IV tangible property (particularly medical equipment with 5-year recovery periods) in addition to the straight-line amortization of Section 197 intangibles. Estimated annual deduction in this period: approximately $22,000,000 to $24,000,000 per year.
Years 6–7 (2029–2030): Declining annual deductions as certain Class IV assets (5-year MACRS property) are fully depreciated and the remaining tangible property (7-year and 15-year MACRS property) continues to be depreciated alongside Section 197 intangible amortization. Estimated annual deduction: approximately $18,000,000 to $20,000,000 per year.
Years 8–10 (2031–2033): Further declining deductions as the remaining Class IV tangible property (7-year and 10-year MACRS property) is fully depreciated, leaving only Section 197 intangible amortization. Estimated annual deduction: approximately $16,000,000 to $18,000,000 per year.
Years 11–15 (2034–2038): Section 197 intangible amortization only (Classes V and VI). Estimated annual deduction: approximately $14,400,000 per year (representing the sum of the annual amortization of the Class V and Class VI step-ups on a straight-line basis).
A detailed year-by-year amortization schedule is presented in Exhibit C to this memorandum.
C. Estimated Annual Tax Benefit
The estimated annual tax benefit from the Section 743(b) step-up amortization is computed using a blended federal and state corporate income tax rate of 25%, derived as follows:
Federal corporate income tax rate: 21%
Blended effective state income tax rate: Approximately 6.42%, computed as a weighted average of the corporate income tax rates in the five states in which Pinnacle operates (Pennsylvania, Virginia, Maryland, North Carolina, and Georgia), weighted by each state's proportionate share of Pinnacle's projected EBITDA based on the geographic distribution of the Company's 42 facilities:
• Pennsylvania: 8.99% (applicable through 2024; declining to 7.99% in 2025, 6.99% in 2027, 5.99% in 2029, and 4.99% by 2031 pursuant to Pennsylvania Act 53 of 2022)
• Virginia: 6.00%
• Maryland: 8.25%
• North Carolina: 2.50%
• Georgia: 5.75%
Blended rate computation: 21% federal + (6.42% state × (1 − 21% federal deduction for state taxes paid)) = 21% + (6.42% × 0.79) = 21% + 5.07% = approximately 26.07%, rounded and approximated as 25% for illustrative purposes in this memorandum. The actual effective tax rate will vary from year to year based on changes in state tax rates (particularly Pennsylvania's scheduled rate reductions), the geographic mix of Pinnacle's income, and other factors.
Applying the 25% blended rate to the estimated annual amortization deduction:
Annual tax benefit: $20,040,000 × 25% = $5,010,000 per year (blended average)
In the early years of the amortization period (Years 1–5), when accelerated MACRS depreciation of Class IV tangible property produces higher annual deductions, the corresponding annual tax benefit will exceed $5,010,000. In later years (Years 11–15), when only Section 197 intangible amortization remains, the annual tax benefit will be approximately $3,600,000 per year ($14,400,000 × 25%).
D. Net Present Value of Total Tax Benefit