1001-00006 · Ardent Capital Partners · Rollover Equity

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PRIVILEGED & CONFIDENTIAL ATTORNEY-CLIENT COMMUNICATION ATTORNEY WORK PRODUCT

CALDERWOOD & HARKNESS LLP One Liberty Plaza, 45th Floor New York, NY 10006 Tel: (212) 555-7800

Fax: (212) 555-7801

MEMORANDUM

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I. Executive Summary

This memorandum analyzes the federal income tax treatment of the rollover equity contributions by three Pinnacle Health Services Group LLC ("Pinnacle" or the "Company") founders and executives into the post-closing acquisition structure in connection with the proposed acquisition of Pinnacle by Ardent Capital Partners III LP ("Fund III" or "Ardent"). Specifically, we compare Section 721 of the Internal Revenue Code of 1986, as amended (the "Code") — governing tax-free contributions to a partnership — with Section 351 of the Code — governing tax-free transfers to a controlled corporation — as alternative nonrecognition frameworks for the rollover equity component of the transaction. This memorandum is intended to assist Ardent in determining the optimal structural approach for the rollover and to provide the analytical foundation for the transaction documents that will govern the rollover mechanics.

Transaction Context. Ardent Capital Partners III LP is acquiring 100% of the outstanding membership interests in Pinnacle Health Services Group LLC, a Delaware limited liability company classified as a partnership for federal income tax purposes, for an enterprise value of $412 million (representing an equity value of approximately $339.4 million) via a reverse merger of Ardent Healthcare Merger Sub LLC with and into Pinnacle. The transaction is expected to be signed on or about March 15, 2024, with an anticipated closing date of May 31, 2024.

Rollover Participants. Three existing Pinnacle equity holders will retain a portion of their equity in the post-closing structure rather than receiving full cash consideration for their membership interests:

• Dr. Raymond Carvallo (Co-Founder, Chief Executive Officer) — holds a 38.2% membership interest in Pinnacle. Dr. Carvallo will roll over 25% of his gross equity proceeds, resulting in a rollover amount of $32.41 million (25% × $129.65 million) and a cash-out amount of $97.24 million.

• Dr. Nadia Ostrowski (Co-Founder, Chief Medical Officer) — holds a 28.5% membership interest in Pinnacle. Dr. Ostrowski will roll over 25% of her gross equity proceeds, resulting in a rollover amount of $24.18 million (25% × $96.73 million) and a cash-out amount of $72.55 million.

• Jonathan Farnsworth (Chief Financial Officer) — holds a 5.8% membership interest in Pinnacle. Mr. Farnsworth will roll over 15% of his gross equity proceeds, resulting in a rollover amount of $2.95 million (15% × $19.69 million) and a cash-out amount of $16.74 million.

• Total rollover equity: $59.54 million.

Rollover Vehicle. Each rollover participant will receive Class B Units of Ardent Healthcare Holdings LLC ("Holdings LLC"), a newly formed Delaware limited liability company that will be classified as a partnership for federal income tax purposes under the default classification rules of Treasury Regulations Section 301.7701-3.

Recommendation. Based on the analysis set forth in this memorandum, we recommend that the rollover be structured as a contribution under Section 721 of the Code (partnership contribution) at the Holdings LLC level, rather than as a transfer under Section 351 of the Code (corporate exchange) at the Ardent Healthcare Intermediate Inc. ("Intermediate Inc.") level. The Section 721 approach is the superior framework for several reasons:

1. It preserves the Section 743(b) basis step-up of approximately $224.4 million in the Pinnacle assets, generating estimated annual amortization deductions of $20.04 million per year and an annual tax benefit of approximately $5.01 million.

2. It avoids gain recognition on the $59.54 million rollover amount by providing a clean nonrecognition pathway without the boot, control-test, and step-transaction complexities associated with Section 351.

3. It provides greater structural flexibility for the treatment of unvested equity as profits interests under Revenue Procedure 93-27 and Revenue Procedure 2001-43, which is critical to the economic alignment objectives of the management equity program.

4. It maintains UP-C (umbrella partnership C-corporation) IPO optionality for potential future exits, which is the market-standard approach for sponsor-backed healthcare platform companies.

Cross-Reference to Companion Memoranda. This memorandum should be read in conjunction with the Preliminary Tax Structure Memorandum dated February 12, 2024, which sets forth the three-tier acquisition structure and the rationale for the blocker corporation. A separate Profits Interest / Unvested Equity Memorandum addressing the detailed tax treatment of the unvested Class B Units, including Section 83(b) election mechanics and Revenue Procedure 93-27/2001-43 compliance, is anticipated on or about March 8, 2024.

II. Background and Transaction Structure

A. Transaction Overview

Ardent Capital Partners III LP is a Delaware limited partnership and the third flagship private equity fund managed by Ardent Capital Management LLC. Fund III is a 2022 vintage fund with total committed capital of $3.2 billion, focused on healthcare services, healthcare technology, and life sciences investments. The fund's investment strategy emphasizes platform acquisitions in fragmented healthcare services verticals with significant add-on acquisition and organic growth potential.

Pinnacle Health Services Group LLC is a Delaware limited liability company that has been classified as a partnership for federal income tax purposes since its formation. Pinnacle was founded in 2016 by Dr. Raymond Carvallo and Dr. Nadia Ostrowski as a physician-led healthcare services platform focused on urgent care and ambulatory surgery. The company's operating agreement is dated August 12, 2016, as amended and restated on March 3, 2020, in connection with a minority capital raise from fourteen physician-investors.

As of the date of this memorandum, Pinnacle operates 34 urgent care clinics and 8 ambulatory surgery centers, totaling 42 facilities, across five states: Pennsylvania, Virginia, Maryland, North Carolina, and Georgia. The company's workforce includes approximately 1,620 employees, of which 142 are employed physicians. For the fiscal year ended December 31, 2023, Pinnacle reported revenue of $287.4 million and adjusted EBITDA of $51.8 million, reflecting strong operating margins and consistent year-over-year growth since inception.

The agreed-upon enterprise value for the transaction is $412 million, which represents an EV/EBITDA multiple of approximately 7.95x based on 2023 adjusted EBITDA. The equity value of $339.4 million is derived by subtracting estimated net debt at closing of $72.6 million (consisting of $81.3 million of funded indebtedness less $8.7 million of cash and cash equivalents) from the enterprise value.

The parties anticipate signing a definitive Merger Agreement on or about March 15, 2024. Closing is anticipated on or about May 31, 2024, subject to the satisfaction of customary closing conditions, including applicable Hart-Scott-Rodino clearance (which may not be required given the size of the transaction and the applicable thresholds) and third-party consents under certain of Pinnacle's managed care agreements and real property leases.

B. Acquisition Structure

As recommended in the Preliminary Tax Structure Memorandum dated February 12, 2024, the acquisition will be implemented through a three-tier holding structure designed to achieve the following objectives: (i) tax deferral on the rollover equity, (ii) UBTI blocking for Fund III's tax-exempt limited partners, (iii) preservation of the Section 743(b) basis step-up at the operating company level, (iv) optionality for a potential UP-C IPO in the future, and (v) isolation of state tax nexus associated with the operating company's activities. The three tiers are as follows:

Tier 1: Ardent Healthcare Holdings LLC (the "Holdings LLC"). Holdings LLC is a newly formed Delaware limited liability company (EIN 93-2187445) that will be classified as a partnership for federal income tax purposes under the default classification rules of Treasury Regulations Section 301.7701-3. No entity classification election (Form 8832) will be filed. Holdings LLC will serve as the top-level holding company and will be owned by Fund III (through Class A Units) and the rollover participants (through Class B Units). Holdings LLC's sole asset will be 100% of the common stock of Intermediate Inc.

Tier 2: Ardent Healthcare Intermediate Inc. (the "Intermediate Inc." or "Blocker"). Intermediate Inc. is a newly formed Delaware C-corporation (EIN 93-2187512) that will be wholly owned by Holdings LLC. Intermediate Inc. serves as a "Blocker" entity, the primary purpose of which is to prevent the flow-through of unrelated business taxable income ("UBTI") to Fund III's tax-exempt limited partners (including pension funds, endowments, and foundations). Intermediate Inc. will also facilitate a potential future IPO by providing a corporate vehicle whose shares can be listed on a national securities exchange and will serve to isolate state tax nexus associated with the operating company from the Holdings LLC partnership structure.

Tier 3: Pinnacle Health Services Group LLC (the "Operating Company"). Following the closing, Pinnacle will be the surviving entity in the reverse merger of Ardent Healthcare Merger Sub LLC (a newly formed Delaware LLC wholly owned by Intermediate Inc.) with and into Pinnacle. Post-merger, Pinnacle will be wholly owned by Intermediate Inc. and will continue to be classified as a disregarded entity for federal income tax purposes (as a single-member LLC whose sole member is Intermediate Inc., a C-corporation). All of Pinnacle's assets, liabilities, contracts, licenses, and operations will remain at this level.

The registered agent for all newly formed entities (Holdings LLC, Intermediate Inc., and Merger Sub LLC) is Pemberton Industries, 251 Little Falls Drive, Wilmington, Delaware 19808.

C. Sources and Uses Summary (Relevant to Rollover)

The following table summarizes the sources and uses of funds for the transaction as relevant to the rollover equity analysis:

Sources of Funds:

The senior secured credit facility consists of a $155 million Term Loan B and a $35 million revolving credit facility, both to be arranged by Graystone National Bank, N.A. as sole lead arranger and administrative agent. The Term Loan B bears interest at the Secured Overnight Financing Rate ("SOFR") plus 425 basis points and matures seven years from closing. The revolving credit facility bears interest at SOFR plus 375 basis points and matures five years from closing. The revolving credit facility is expected to be undrawn at closing.

The mezzanine notes in the amount of $30 million will be issued to Cascadia Mezzanine Fund IV LP ("Cascadia") and will bear interest at a blended rate of 14.5% (12.5% cash pay plus 2.0% payment-in-kind). The mezzanine notes mature eight years from closing. In connection with the mezzanine financing, Cascadia will receive warrants to purchase 2.5% of the fully diluted equity in Holdings LLC, exercisable at a nominal exercise price. The warrants are exercisable at any time during the ten-year period following closing.

In addition to the foregoing, the Merger Agreement provides for an earnout of up to $35 million payable to the pre-closing Pinnacle members (including the rollover participants with respect to their cashed-out portions), subject to the achievement of specified EBITDA targets during two measurement periods: Period 1 ($15 million earnout if 2025 adjusted EBITDA exceeds $62 million) and Period 2 ($20 million earnout if 2026 adjusted EBITDA exceeds $72 million). The earnout is not included in the closing equity computation or the rollover calculations set forth in this memorandum.

D. Ownership Breakdown — Pre-Closing Pinnacle and Post-Closing Holdings LLC

Pre-Closing Pinnacle Membership Interests:

The following table sets forth the ownership of Pinnacle's membership interests immediately prior to the closing, the gross equity proceeds allocable to each member, and the bifurcation between the cash-out and rollover amounts for the three rollover participants:

The 14 minority physician-investors collectively hold 27.5% of Pinnacle's membership interests and will receive aggregate equity proceeds of approximately $93.34 million, all of which will be paid in cash. None of the minority physician-investors will participate in the rollover.

Post-Closing Holdings LLC Equity:

Following the closing, the equity capitalization of Holdings LLC will be as follows:

Total rollover equity as a percentage of post-closing Holdings LLC equity on a pre-dilution basis is $59.54 million ÷ $258.04 million = 23.08%.

After giving effect to the 2.5% fully diluted equity allocated to Cascadia Mezzanine Fund IV LP in the form of warrants, the fully diluted percentages are as follows: Class A Units: 75.00%; Class B Units (aggregate): 22.50%; Cascadia Warrants: 2.50%.

E. Vesting Terms (Summary; Full Analysis in Forthcoming Profits Interest Memorandum)

The Class B Units issued to the rollover participants will be subject to the following vesting schedule, which is designed to incentivize continued involvement by management in the post-closing operations of the business:

• Fifty percent (50%) of each rollover participant's Class B Units will vest immediately at the closing of the transaction. These vested units represent a return on capital that the rollover participants are contributing to Holdings LLC and are not contingent on future services or employment.

• The remaining fifty percent (50%) of each rollover participant's Class B Units will vest ratably over a 36-month period following the closing, subject to the participant's continued employment with Pinnacle (or its successor) for Dr. Carvallo and Dr. Ostrowski. Mr. Farnsworth's unvested units are also subject to continued employment. Vesting will occur in equal monthly installments over the 36-month period, with the first installment vesting on the one-month anniversary of the closing date.

The aggregate unvested component totals $29.77 million (50% of $59.54 million), allocated as follows among the rollover participants:

The unvested Class B Units will be structured as "profits interests" within the meaning of Revenue Procedure 93-27, 1993-2 C.B. 343, and Revenue Procedure 2001-43, 2001-2 C.B. 191. As profits interests, the unvested units will be designed to have a liquidation value of zero at the time of grant (by setting a distribution threshold or "hurdle" equal to the fair market value of Holdings LLC's assets at closing) and to participate only in future appreciation above that threshold. This treatment is intended to ensure that the grant of the unvested units is not a taxable event for federal income tax purposes, provided that the requirements of the applicable revenue procedures are satisfied.

Each rollover participant will be required to file an election under Section 83(b) of the Code with respect to the unvested Class B Units within 30 days of the closing date. Based on an anticipated closing date of May 31, 2024, the deadline for filing Section 83(b) elections would be June 30, 2024. The detailed mechanics and implications of the profits interest structure and the Section 83(b) elections will be addressed in a separate memorandum anticipated on or about March 8, 2024.

III. Legal Framework — Section 721 (Partnership Contribution)

A. General Rule of Section 721(a)

Section 721(a) of the Code provides the general rule that "[n]o gain or loss shall be recognized to a partnership or to any of its partners in the case of a contribution of property to the partnership in exchange for an interest in the partnership." This nonrecognition provision is one of the foundational principles of subchapter K and reflects Congress's intent to facilitate the formation of partnerships and the admission of new partners without imposing an immediate tax burden on the contributing partners or the partnership.

The scope of Section 721(a) is broad. It applies to contributions of property made in connection with the formation of a new partnership as well as contributions made to an existing partnership. The term "property" for purposes of Section 721 includes cash, tangible property, intangible property, and partnership interests. See Treas. Reg. § 1.721-1(a). Importantly for this analysis, membership interests in a limited liability company that is classified as a partnership for federal income tax purposes constitute "property" within the meaning of Section 721.

In the context of the proposed transaction, Holdings LLC is a newly formed Delaware limited liability company that will be classified as a partnership for federal income tax purposes. Holdings LLC is a multi-member LLC — its members will include Fund III (as the Class A Unit holder) and the three rollover participants (as Class B Unit holders). Because Holdings LLC is a multi-member LLC, it is classified as a partnership under the default classification rules of Treasury Regulations Section 301.7701-3(b)(1), and no entity classification election (Form 8832) is required or contemplated.

The contribution of "property" by the rollover participants to Holdings LLC takes the form of their retained Pinnacle membership interests (or, more precisely, their right to receive a portion of the merger consideration, which is redirected into Holdings LLC in exchange for Class B Units). Under the merger mechanics described in Section II.B above, each rollover participant's Pinnacle membership interest is converted into the right to receive merger consideration, a portion of which is contributed to Holdings LLC rather than received in cash. This contribution of the economic equivalent of Pinnacle membership interests constitutes a contribution of "property" for purposes of Section 721(a). See Rev. Rul. 84-111, 1984-2 C.B. 88 (addressing the tax treatment of partnership-to-corporation conversions and recognizing that the form of the transaction governs the tax consequences where there are meaningful differences among alternative structures).

Accordingly, assuming the rollover is properly structured and documented as described in Section VI of this memorandum, the contribution by each rollover participant should qualify for nonrecognition treatment under Section 721(a), and no gain or loss should be recognized by the rollover participants or by Holdings LLC on the exchange.

B. Basis Rules — Section 722 and Section 723

The corollary to Section 721's nonrecognition rule is a set of carryover basis rules that ensure the deferred gain (or loss) inherent in the contributed property is preserved in the hands of both the contributing partner and the partnership.

Section 722 — Partner's Basis in Partnership Interest. Section 722 of the Code provides that the basis of a partnership interest acquired by a partner in exchange for a contribution of property to the partnership shall be equal to the amount of money and the adjusted basis of the property contributed. In other words, each rollover participant's tax basis in their Class B Units in Holdings LLC will equal the adjusted basis of the Pinnacle membership interests they contribute to Holdings LLC.

For each rollover participant, this carryover basis is calculated as follows:

• Dr. Raymond Carvallo: His adjusted basis in his Class B Units will equal 25% of his outside basis in his Pinnacle membership interests (reflecting the 25% rollover percentage).

• Dr. Nadia Ostrowski: Her adjusted basis in her Class B Units will equal 25% of her outside basis in her Pinnacle membership interests (reflecting the 25% rollover percentage).

• Jonathan Farnsworth: His adjusted basis in his Class B Units will equal 15% of his outside basis in his Pinnacle membership interests (reflecting the 15% rollover percentage).

The aggregate outside basis of all Pinnacle members as of the anticipated closing date is estimated to be approximately $291.1 million. The aggregate inside basis of Pinnacle's assets is estimated to be approximately $187.6 million. The difference between the aggregate outside basis and the aggregate inside basis reflects, among other things, historical allocations of income and loss to the members and contributions and distributions over the life of the partnership. The specific outside basis attributable to each rollover participant will need to be determined on a partner-by-partner basis using Pinnacle's capital account and tax basis records. We are coordinating with Brewer Stanfield & Associates LLP (Pinnacle's accountants) and Caldwell Pratt & Moorehouse LLP (Ardent's accountants) to obtain and verify these records.

Section 723 — Partnership's Basis in Contributed Property. Section 723 of the Code provides that the basis of property contributed to a partnership by a partner shall be the adjusted basis of such property to the contributing partner at the time of the contribution. Accordingly, Holdings LLC will take a transferred (carryover) basis in the contributed Pinnacle membership interests (or the economic equivalent thereof) equal to the rollover participants' adjusted bases in those interests. This carryover basis is important for determining Holdings LLC's gain or loss on a subsequent disposition of the contributed property and for computing depreciation and amortization deductions allocable to the contributed property.

C. Holding Period Tacking — Section 1223(1)

Section 1223(1) of the Code provides that, in determining the period for which a taxpayer has held property received in an exchange, there shall be included the period for which the taxpayer held the property exchanged, provided the property so received has the same basis in whole or in part in the taxpayer's hands as the property exchanged, and provided the property exchanged was a capital asset or a Section 1231 asset in the hands of the taxpayer.

Because the rollover participants' basis in their Class B Units is determined by reference to their basis in the contributed Pinnacle membership interests (under Section 722), and because the Pinnacle membership interests were capital assets in the hands of the rollover participants, the holding period of the Class B Units includes the holding period of the contributed Pinnacle interests.

All three rollover participants have held their Pinnacle membership interests since at least 2016 — Dr. Carvallo and Dr. Ostrowski as founders of the company at its inception in August 2016, and Mr. Farnsworth, who acquired his 5.8% interest at a later date but no later than the March 3, 2020 operating agreement amendment. Accordingly, each rollover participant's holding period in their Class B Units will exceed one year, satisfying the long-term capital gain holding period requirement of Section 1222(3) of the Code.

D. Exceptions and Limitations

While Section 721(a) provides a broad nonrecognition rule, there are several exceptions and limitations that must be considered in connection with the proposed rollover.

Section 721(b) — Contributions to Investment Companies. Section 721(b) of the Code provides that Section 721(a) shall not apply to gain realized on a transfer of property to a partnership that would be treated as an "investment company" (within the meaning of Section 351(e)) if the partnership were incorporated. The investment company definition under Section 351(e)(1) and Treasury Regulations Section 1.351-1(c)(1) generally applies where, immediately after the exchange, the transferee holds primarily stocks, securities, and certain other investment-type assets, and the transfer results in diversification of the transferors' interests.

Holdings LLC's sole asset will be the stock of Intermediate Inc., which in turn will own 100% of Pinnacle, an operating healthcare services company. Holdings LLC is an acquisition holding vehicle for an operating business, not a pooling vehicle for investment assets. The contribution does not result in diversification — the rollover participants are converting an interest in a healthcare operating company (Pinnacle) into an interest in a holding company (Holdings LLC) whose sole underlying asset is the same healthcare operating company. Accordingly, the investment company exception of Section 721(b) does not apply to the proposed rollover.

Disguised Sale Rules — Section 707(a)(2)(B) and Treasury Regulations Section 1.707-3. Section 707(a)(2)(B) of the Code and the regulations thereunder provide that, under certain circumstances, a contribution of property to a partnership followed by a related distribution from the partnership (or vice versa) may be recharacterized as a disguised sale of property between the contributing partner and the partnership. Treasury Regulations Section 1.707-3(c) establishes a rebuttable presumption that a transfer made within two years of a related transfer is part of a sale, while transfers made more than two years apart are presumed not to be part of a sale.

In the context of the proposed transaction, the rollover participants are contributing Pinnacle membership interests (or the economic equivalent thereof) to Holdings LLC in exchange for Class B Units. The rollover participants are not receiving any cash distributions from Holdings LLC at or near the time of the contribution. The cash consideration that each rollover participant receives in connection with the transaction (the "cash-out" portion) is paid by Ardent Healthcare Merger Sub LLC (or its parent, Intermediate Inc.) as merger consideration — it is not a distribution from Holdings LLC. The cash-out and the rollover are separate, contemporaneous transactions involving different counterparties, and the rollover participants' receipt of cash is not conditioned upon or related to their contribution to Holdings LLC.

Accordingly, we believe the disguised sale rules should not apply to recharacterize the rollover contribution as a sale. However, careful attention must be paid to the structuring and documentation of the transaction to ensure that the bifurcation between the cash-out and the rollover is clearly established and consistently maintained across all transaction documents.

Contribution of Services Component. Section 721(a) applies only to contributions of "property" in exchange for a partnership interest. To the extent that a partnership interest is received in exchange for services — rather than property — Section 721 does not apply, and the tax treatment is governed by Section 83 of the Code and the regulations thereunder. See Treas. Reg. § 1.721-1(b)(1).

In this transaction, 50% of each rollover participant's Class B Units will vest at closing. These vested units represent a return on the rollover participants' capital contributions and are properly characterized as received in exchange for property (the contributed Pinnacle membership interests). Section 721 should apply to these vested units.

The remaining 50% of the Class B Units are subject to vesting over 36 months conditioned on continued employment. To the extent these unvested units are characterized as received for services rather than property, Section 721 would not apply and Section 83 would govern. As noted in Section II.E above, the unvested units will be structured as "profits interests" under Revenue Procedure 93-27 and Revenue Procedure 2001-43, which provide that the receipt of a profits interest for services is generally not a taxable event. The detailed interplay of Section 721 and Section 83 in the context of the unvested Class B Units is addressed in the forthcoming Profits Interest / Unvested Equity Memorandum (anticipated March 8, 2024).

E. Interaction with Section 743(b) Step-Up

One of the most significant advantages of the Section 721 partnership contribution approach is its interaction with the Section 743(b) basis step-up at the Pinnacle level. This interaction is a critical economic factor in the overall transaction and is directly relevant to the Tax Receivable Agreement ("TRA") that will be negotiated between Ardent and the rollover participants.

Section 754 Election and Section 743(b) Step-Up. When a partnership interest is transferred (by sale or exchange) or when a partnership distribution is made, Section 743(b) of the Code provides that the partnership may (or, if a Section 754 election is in effect, must) adjust the basis of partnership property with respect to the transferee partner. The purpose of the Section 743(b) adjustment is to align the transferee partner's share of the partnership's inside basis with the transferee's outside basis (i.e., the purchase price paid for the partnership interest), thereby eliminating the discrepancy that would otherwise arise from the carryover of historical inside basis.

In the proposed transaction, the merger of Merger Sub LLC with and into Pinnacle will result in a transfer of the Pinnacle membership interests for purposes of Section 743(b). Because Pinnacle is treated as a partnership for federal income tax purposes (at least until the merger closes and Pinnacle becomes a disregarded entity owned by Intermediate Inc.), a Section 754 election by Pinnacle will enable Intermediate Inc. (as the acquirer of the membership interests) to receive a Section 743(b) basis step-up in Pinnacle's assets equal to the excess of the purchase price over Pinnacle's inside basis.

The estimated Section 743(b) step-up is $224.4 million, calculated as follows:

Enterprise Value: $412.0 million Less: Pinnacle aggregate inside basis: ($187.6 million) Estimated Section 743(b) step-up: $224.4 million

This step-up will be allocated among Pinnacle's assets in accordance with the Section 755 allocation rules. The majority of the step-up is expected to be allocated to amortizable intangible assets (including goodwill, customer relationships, assembled workforce, and trade names) with a weighted-average useful life of approximately 11.2 years.

Annual Amortization Benefit. The annual amortization deduction attributable to the Section 743(b) step-up is estimated at $20.04 million ($224.4 million ÷ 11.2 years). At a blended federal and state tax rate of approximately 25%, this produces an estimated annual tax benefit of $5.01 million.

Why Section 721 Preserves the Step-Up. The Section 721 contribution to Holdings LLC (a partnership) does not disrupt the Section 743(b) step-up at the Pinnacle level. Under the proposed structure, Intermediate Inc. (a C-corporation) acquires the Pinnacle membership interests through the merger and receives the benefit of the Section 743(b) step-up directly. The fact that Intermediate Inc. is owned by Holdings LLC (a partnership that includes the rollover participants as Class B Unit holders) does not affect the step-up — the step-up is computed at the Pinnacle level with respect to the acquirer's purchase price, regardless of the equity structure above Intermediate Inc.

By contrast, as discussed in Section IV below, if the rollover were structured as a Section 351 contribution directly to Intermediate Inc. (the C-corporation), the basis mechanics would be more complex and could create friction with the step-up computation.

Tax Receivable Agreement. The TRA that will be entered into in connection with the closing provides for 85% of the realized tax benefits attributable to the Section 743(b) step-up to be payable to the rollover participants and the pre-closing Pinnacle members. The estimated annual TRA payment is $4.26 million (85% × $5.01 million annual tax benefit). Preservation of the full Section 743(b) step-up is therefore economically significant to the rollover participants and is an important factor supporting the Section 721 recommendation.

IV. Legal Framework — Section 351 (Corporate Exchange)

A. General Rule of Section 351(a)

Section 351(a) of the Code provides that "[n]o gain or loss shall be recognized if property is transferred to a corporation by one or more persons solely in exchange for stock in such corporation and immediately after the exchange such person or persons are in control (as defined in section 368(c)) of the corporation." Section 351 is the corporate analog to Section 721 and serves a similar policy function: it facilitates the formation and capitalization of corporations without imposing an immediate tax on the contributing transferors.

In the context of the proposed transaction, Section 351 would potentially apply if the rollover were structured as a contribution of the rollover participants' retained Pinnacle membership interests (or the economic equivalent thereof) directly to Intermediate Inc. (the Delaware C-corporation at Tier 2 of the acquisition structure) in exchange for stock of Intermediate Inc. Under this alternative approach, the rollover participants would hold stock in Intermediate Inc. alongside Holdings LLC (which, in turn, would be owned by Fund III). The rollover participants would not hold Class B Units in Holdings LLC; instead, they would be shareholders of Intermediate Inc.

We analyze the Section 351 alternative below not because we recommend it — to the contrary, we recommend against it — but rather to provide a complete comparative framework and to identify the specific risks and disadvantages associated with this approach.

B. Control Requirement — Section 368(c)

A critical prerequisite for Section 351 nonrecognition treatment is the "control" requirement. Section 368(c) defines "control" as the ownership of stock possessing at least 80 percent of the total combined voting power of all classes of stock entitled to vote and at least 80 percent of the total number of shares of all other classes of stock of the corporation. The control test must be satisfied "immediately after the exchange."

In the proposed structure, Holdings LLC is the sole shareholder of Intermediate Inc. If the rollover were redirected to the Intermediate Inc. level, the rollover participants would receive stock of Intermediate Inc. directly. However, the rollover participants alone would not satisfy the 80% control test — their aggregate rollover of $59.54 million represents only 23.08% of the total equity capitalization (pre-dilution). To satisfy the control test, it would be necessary to treat Holdings LLC's capitalization of Intermediate Inc. (using Fund III's committed equity) and the rollover participants' contributions as part of the same "plan of exchange" under Treasury Regulations Section 1.351-1(a)(1).

While it is generally possible to aggregate transfers made pursuant to a common plan into a single Section 351 exchange, this introduces complexity. The IRS or a court could challenge whether the rollover participants and Holdings LLC (acting on behalf of Fund III) are truly engaged in a single integrated exchange or whether the rollover participants' contribution is a separate, non-qualifying transfer. This risk is particularly acute where, as here, the rollover participants are pre-existing equity holders of the target company and their rollover is motivated by different economic considerations than Fund III's equity investment.

Moreover, if the 80% control test is not satisfied, the entire exchange would be taxable — there is no partial nonrecognition under Section 351(a). This "all-or-nothing" aspect of the control test creates a meaningful risk that does not exist under Section 721 (which has no equivalent control requirement).

C. Basis Rules — Section 358 and Section 362

If Section 351 were to apply, the basis rules would be governed by Sections 358 and 362 of the Code, rather than Sections 722 and 723.

Section 358 — Transferor's Basis in Stock Received. Section 358(a)(1) provides that the basis of stock received by the transferor in a Section 351 exchange shall be the same as the basis of the property transferred, decreased by (i) the fair market value of any other property ("boot") received, (ii) any money received, and (iii) any loss recognized on the exchange, and increased by (i) any amount treated as a dividend and (ii) any gain recognized on the exchange. In a clean Section 351 exchange with no boot, the transferor's basis in the stock received simply equals the basis of the contributed property — functionally equivalent to Section 722.

Section 362 — Corporation's Basis in Contributed Property. Section 362(a) provides that, if property is acquired by a corporation in connection with a Section 351 exchange, the corporation's basis in the property shall be the same as the basis in the hands of the transferor, increased by any gain recognized to the transferor on the exchange. In a clean Section 351 exchange, this is a simple carryover basis — functionally equivalent to Section 723.

While the basic mechanics of the basis rules are similar under both Section 351 and Section 721, the application of these rules in the context of the proposed transaction produces different results due to the interaction with the Section 743(b) step-up, as discussed in the comparative analysis in Section V below.

D. Boot and Gain Recognition — Section 351(b)

Section 351(b) of the Code provides that, if an exchange would otherwise qualify under Section 351(a) but for the fact that the transferor receives "other property or money" (i.e., "boot") in addition to stock, then gain (but not loss) shall be recognized to the transferor to the extent of the boot received. The gain recognized cannot exceed the total gain realized on the exchange.

In the proposed transaction, if the rollover were structured at the Intermediate Inc. level, it would be critical to ensure that the rollover participants do not receive any boot in connection with the exchange. Potential sources of boot include:

• Cash consideration. The rollover participants are also receiving cash consideration for the cashed-out portion of their Pinnacle interests. If the cash-out is treated as part of the same Section 351 exchange (rather than as a separate sale), the cash would constitute boot, and gain would be recognized to the extent of the cash received. Given that the cash-out amounts are substantial ($97.24 million for Carvallo, $72.55 million for Ostrowski, and $16.74 million for Farnsworth), this risk is significant.

• Assumed liabilities. Under Section 357(a), the assumption of liabilities by the transferee corporation in a Section 351 exchange is generally not treated as boot. However, Section 357(b) provides that if the principal purpose of the assumption is tax avoidance, the full amount of the assumed liability is treated as boot. Section 357(c) provides that if the liabilities assumed exceed the basis of the contributed property, gain is recognized to the extent of the excess. These provisions introduce complexity that does not arise in the Section 721 context.

• Debt instruments. If the rollover participants receive any promissory notes or other debt instruments from Intermediate Inc. in connection with the rollover, such instruments would constitute boot.

To avoid boot recognition under Section 351(b), the rollover would need to be carefully structured so that the cash-out and the stock exchange are bifurcated as separate transactions. However, as discussed below, this bifurcation is susceptible to challenge under the step transaction doctrine.

E. Limitations and Risks

Investment Company Limitation — Section 351(e)(1). As with Section 721(b), Section 351(e)(1) provides that Section 351 does not apply to a transfer to an "investment company." For the same reasons discussed in Section III.D above — Holdings LLC (and by extension, Intermediate Inc.) is an acquisition holding vehicle for an operating healthcare business, not an investment company — this limitation does not apply. This factor is neutral as between the two approaches.

Overlap with Section 304. Section 304 of the Code addresses certain acquisitions of stock by related corporations that are treated as redemptions (and potentially as dividends) rather than as sales. If the rollover were structured at the Intermediate Inc. level, there is a potential risk that the IRS could argue that the rollover participants have an interest in both the transferor entity (Pinnacle, as pre-closing equity holders) and the transferee entity (Intermediate Inc., as post-closing stock holders), thereby triggering Section 304 analysis. While we believe this risk is manageable, it introduces an additional layer of complexity that is entirely absent from the Section 721 approach.

Step Transaction Doctrine. Perhaps the most significant risk associated with a Section 351 approach is the application of the step transaction doctrine. Under this judicial doctrine, a series of formally separate transactions may be collapsed into a single transaction for tax purposes if the steps are so interdependent that the legal relations created by one would be fruitless without the completion of the others (the "interdependence test"), or if the parties entered into the first step with a binding commitment to complete the subsequent steps (the "binding commitment test"), or if a series of steps are so integrated that the taxpayer would not have taken the first step without the mutual understanding that the remaining steps would follow (the "end result test").

In the proposed transaction, the IRS could argue that the cash-out and the rollover should be collapsed into a single integrated exchange under Section 351. Under this theory, the rollover participants would be treated as transferring their entire Pinnacle interests to Intermediate Inc. and receiving back both stock (the rollover portion) and cash (the cash-out portion) as part of a single Section 351 exchange. The cash would be treated as boot under Section 351(b), and gain would be recognized to the extent of the boot — potentially resulting in significant and immediate tax liability for the rollover participants.

This step transaction risk is meaningfully mitigated under the Section 721 approach because the cash-out and the rollover involve different counterparties (the cash-out is paid by Merger Sub/Intermediate Inc.; the rollover contribution is made to Holdings LLC, a different entity) and different forms of consideration (cash versus partnership units). The structural separation between the Tier 1 entity (Holdings LLC, a partnership) and the Tier 2 entity (Intermediate Inc., a corporation) provides a natural barrier against step transaction collapse.

V. Comparative Analysis — Section 721 vs. Section 351

Having set forth the legal framework for each nonrecognition provision, we now compare the two approaches across eight critical factors relevant to the proposed transaction.

A. Gain Recognition

Section 721 (Partnership Contribution to Holdings LLC). No gain or loss is recognized by the rollover participants on their contribution of property (Pinnacle membership interests or economic equivalent) to Holdings LLC in exchange for Class B Units. The cashed-out portion of each participant's Pinnacle interest is treated as a separate sale — a taxable transaction in which gain is recognized to the extent the cash consideration exceeds the participant's adjusted basis in the cashed-out portion. The rollover portion is fully tax-deferred. The bifurcation between the cash-out and the rollover is clean and well-established under the partnership tax rules.

Section 351 (Corporate Exchange at Intermediate Inc.). No gain or loss is recognized if the exchange is properly structured under Section 351(a) and the control test under Section 368(c) is satisfied. However, as discussed in Section IV above, there is a meaningful risk that the cashed-out portion could be treated as boot in the Section 351 exchange (rather than as a separate sale), particularly under the step transaction doctrine. If the cash were treated as boot, gain would be recognized to the extent of the boot received, which could be as much as $186.53 million in the aggregate.

Advantage: Section 721. The partnership contribution approach provides a simpler and more reliable bifurcation of the cash-out (taxable sale) and rollover (tax-deferred contribution), with significantly lower risk of unintended gain recognition.

B. Preservation of Section 743(b) Step-Up

Section 721 (Partnership Structure at Holdings LLC). As discussed in Section III.E, the Section 721 contribution to Holdings LLC does not disrupt the Section 743(b) basis step-up at the Pinnacle level. The Section 754 election by Pinnacle generates a Section 743(b) step-up of approximately $224.4 million, which is allocated among Pinnacle's assets and amortized over their respective useful lives. The step-up flows through Intermediate Inc. (as the acquirer of the Pinnacle membership interests) and is reflected in Intermediate Inc.'s tax reporting. The partnership structure at Holdings LLC does not create any duplication, offset, or friction with the step-up computation.

Section 351 (Corporate Structure at Intermediate Inc.). If the rollover participants contribute their retained Pinnacle interests directly to Intermediate Inc. under Section 351, Intermediate Inc. takes a transferred (carryover) basis in the contributed interests under Section 362. This means that Intermediate Inc.'s basis in the contributed portion of the Pinnacle interests would equal the rollover participants' historical adjusted basis — not the fair market value of the rollover amount. At the same time, the Section 743(b) step-up at the Pinnacle level would still apply to the portion of the Pinnacle interests acquired by purchase (through the merger). This creates a mismatch: Intermediate Inc. would have two different basis layers in the Pinnacle interests — a stepped-up basis for the purchased portion and a carryover basis for the rolled-over portion. While the economics of the step-up would ultimately be preserved, the computation would be more complex and could create friction with the TRA calculations, which are designed to measure the benefit of the step-up on a simplified basis.

Advantage: Section 721. The partnership structure produces cleaner step-up mechanics, avoids basis layer complications at the corporate level, and aligns more naturally with the TRA computation methodology.

C. Profits Interest / Management Equity Flexibility

Section 721 / Partnership. Holdings LLC, as a partnership, is eligible to grant profits interests to its members. Revenue Procedure 93-27 provides a safe harbor under which the receipt of a profits interest (as distinguished from a capital interest) in exchange for services is generally not treated as a taxable event. Revenue Procedure 2001-43 extends this safe harbor to substantially nonvested profits interests, provided that the partnership and the service provider treat the service provider as the owner of the interest from the date of grant, the service provider takes into account the distributive share of partnership items, and neither the partnership nor any partner deducts any amount with respect to the issuance of the interest. This is a well-established and favorable regime for structuring management incentive equity in sponsor-backed transactions.

Under the proposed structure, the unvested 50% of each rollover participant's Class B Units will be structured as profits interests with liquidation thresholds set at or above the fair market value of Holdings LLC's assets at closing. Combined with timely Section 83(b) elections, this structure should result in no taxable income upon grant and future appreciation being taxed at long-term capital gains rates upon disposition — a highly favorable outcome for the rollover participants.

Section 351 / Corporation. If the rollover were structured at the Intermediate Inc. level, the unvested stock issued to the rollover participants would be subject to Section 83 of the Code. There is no analog to the profits interest safe harbor for corporate equity. Under Section 83, the receipt of property (stock) subject to a substantial risk of forfeiture and no Section 83(b) election is generally not taxable at grant but results in ordinary income recognition at the time the substantial risk of forfeiture lapses (i.e., at each vesting date), measured by the fair market value of the stock on the vesting date less any amount paid. If a Section 83(b) election is filed, the full fair market value of the stock at the time of grant is included in ordinary income — which, for stock with a readily ascertainable value, could result in a significant current tax liability.

The absence of the profits interest safe harbor for corporate equity is a substantial disadvantage of the Section 351 approach, particularly for the unvested Class B Units, which represent $29.77 million in aggregate value. Under a corporate structure, the rollover participants could face ordinary income tax on the full value of the unvested stock upon vesting (absent a Section 83(b) election) or at grant (with a Section 83(b) election). Under the partnership structure with profits interests, the unvested units may have a zero value for tax purposes at grant (because the liquidation threshold is set at the current fair market value, and the profits interests participate only in future appreciation), and any future appreciation is taxed at long-term capital gains rates.

Advantage: Section 721. The partnership structure provides a significant advantage for the treatment of unvested equity, enabling the use of the profits interest safe harbor and avoiding ordinary income recognition on unvested equity.

D. Future Exit Flexibility

IPO Readiness. The proposed three-tier structure, with Holdings LLC as a partnership at Tier 1 and Intermediate Inc. as a C-corporation at Tier 2, preserves optionality for an "UP-C" (umbrella partnership C-corporation) IPO structure. In an UP-C IPO, the C-corporation (Intermediate Inc., or a successor entity) is taken public, and the partnership (Holdings LLC) continues to hold the equity, allowing for a single level of tax on the sale of LLC interests and the use of the TRA to compensate pre-IPO equity holders for the tax benefits generated by the basis step-up. The UP-C structure is the market-standard approach for sponsor-backed healthcare platform companies and has been widely used in recent years, including in comparable healthcare services IPOs.

If the rollover were structured at the Intermediate Inc. level (with rollover participants holding stock of the C-corporation directly), the UP-C structure would not be available as designed. The rollover participants would be shareholders of the C-corporation rather than members of the partnership, which would eliminate the partnership-level benefits of the UP-C structure for their equity and could complicate the TRA mechanics.

Sale Exit. In a sale exit, partnership treatment at Holdings LLC allows for a single level of tax on the sale of LLC membership interests. If a buyer acquires the membership interests in Holdings LLC (or the stock of Intermediate Inc.), the gain is taxed once at the partner or shareholder level. However, if the rollover were structured at the corporate level and Intermediate Inc. were to sell its assets (the Pinnacle stock) rather than having its own stock sold, there would be a corporate-level tax on the gain from the asset sale, followed by a shareholder-level tax on the distribution of the after-tax proceeds — resulting in double taxation on the appreciation.

Advantage: Section 721. The partnership structure preserves UP-C optionality and avoids the double-tax risk associated with a corporate-level rollover, providing greater flexibility for future exit transactions.

E. UBTI blocking

The UBTI blocking function in the proposed structure is achieved by the interposition of Intermediate Inc. (a C-corporation) between Holdings LLC and the operating entity (Pinnacle). Intermediate Inc. acts as a "Blocker" entity: income from Pinnacle's operations flows through to Intermediate Inc., which pays corporate income tax on that income. The after-tax income is then distributed (or retained) at the corporate level, and no UBTI flows through to the tax-exempt limited partners of Fund III.

This UBTI blocking function is achieved regardless of whether the rollover equity is contributed at the Holdings LLC level (Section 721) or at the Intermediate Inc. level (Section 351). In both cases, Intermediate Inc. is interposed between the operating entity and the ultimate equity holders. The UBTI blocking does not depend on the level at which the rollover participants hold their equity.

Neutral Factor. Both structures achieve equivalent UBTI blocking.

F. State and Local Tax Considerations

Partnership Treatment at Holdings LLC. Holdings LLC, as a partnership, is generally not subject to entity-level state income tax (with limited exceptions, such as in jurisdictions that impose a franchise tax or an entity-level tax on partnerships). Instead, each member of Holdings LLC (Fund III and the rollover participants) is potentially subject to state income tax in jurisdictions where Holdings LLC has nexus. However, Holdings LLC's sole activity is holding the stock of Intermediate Inc. — it is a passive holding company with no employees, no physical presence in any of Pinnacle's operating states, and no active business operations. This holding company status generally should not create nexus in Pinnacle's operating states (Pennsylvania, Virginia, Maryland, North Carolina, and Georgia), although the analysis must be confirmed on a state-by-state basis.

We note a potential New York nexus risk for Holdings LLC, given that its principal place of management (Ardent's offices at 600 Lexington Avenue, New York) is in New York. This risk can be mitigated by routing management fee agreements through Ardent Capital GP III LLC (which is already nexused in New York) to Intermediate Inc., rather than through Holdings LLC directly. This structuring recommendation is addressed in greater detail in the forthcoming State & Local Tax Memorandum.

Corporate Rollover at Intermediate Inc. If the rollover were structured at the Intermediate Inc. level, it would not materially change the state tax profile. Intermediate Inc. would still be subject to corporate income tax in the states where it has nexus (primarily through Pinnacle's operations), and the rollover participants would be shareholders of Intermediate Inc. rather than members of Holdings LLC. The state tax filing obligations of the rollover participants would not be meaningfully different under either approach.

Slight Advantage: Section 721. The partnership filing obligations at the Holdings LLC level are expected to be minimal given its holding company nature, and the partnership structure provides slightly greater flexibility for state tax planning.

G. Administrative Complexity

Section 721 (Partnership at Holdings LLC). Operating Holdings LLC as a partnership requires the maintenance of capital accounts under the Section 704(b) regulations, compliance with the partnership allocation rules (including substantial economic effect, the minimum gain chargeback, and qualified income offset provisions), the creation and maintenance of Section 704(c) layers for contributed property with built-in gain or loss, and the preparation and issuance of Schedule K-1 (Form 1065) to each member of Holdings LLC.

These requirements are not trivial, particularly with respect to the Section 704(c) layers that will arise from the rollover participants' contributions of Pinnacle interests with built-in gain. However, it is important to recognize that Holdings LLC will need to maintain these partnership-level accounts and compliance obligations regardless of whether the rollover participants hold equity at the Holdings LLC level or at the Intermediate Inc. level. Fund III's equity investment will flow through Holdings LLC, and Holdings LLC will need to issue Schedule K-1s to Fund III in any event. The management incentive equity pool (including potential future profits interest grants to other executives) will also be maintained at the Holdings LLC level. Adding the three rollover participants as Class B Unit holders does not create material incremental administrative complexity above what is already required.

Section 351 (Corporate at Intermediate Inc.). Operating Intermediate Inc. as a C-corporation is simpler from an ongoing compliance perspective. Intermediate Inc. would file a single Form 1120 (corporate income tax return), and distributions to shareholders would be reported on Form 1099-DIV. There are no capital account maintenance requirements, no partnership allocation rules, and no Schedule K-1s at the corporate level.

Slight Advantage: Section 351 on pure administrative simplicity. However, the marginal administrative burden of including the rollover participants at the Holdings LLC level is modest given the existing partnership infrastructure, and this factor is significantly outweighed by the tax, structural, and economic advantages of the Section 721 approach.

H. Summary Comparison Table

The following table summarizes the comparative analysis across all factors:

Overall Recommendation: Section 721 is the superior approach for the rollover equity structure. The advantages of the partnership contribution framework — gain recognition protection, Section 743(b) step-up preservation, profits interest flexibility, and exit optionality — materially outweigh the marginal administrative simplicity of the corporate exchange approach.

VI. Recommended Structure and Implementation Steps

A. Recommended Approach

Based on the analysis set forth in this memorandum, we recommend that the rollover be structured as follows:

• The three rollover participants (Dr. Carvallo, Dr. Ostrowski, and Mr. Farnsworth) will contribute their retained Pinnacle membership interests (or the economic equivalent thereof through the merger mechanics described below) to Ardent Healthcare Holdings LLC in exchange for Class B Units of Holdings LLC.

• The contribution will qualify as a tax-deferred exchange under Section 721(a) of the Code. No gain or loss will be recognized by the rollover participants or by Holdings LLC on the exchange.

• Holdings LLC will continue to be classified as a partnership for federal income tax purposes under the default classification rules of Treasury Regulations Section 301.7701-3(b)(1). No entity classification election (Form 8832) will be filed, and no election to be treated as a corporation will be made.

• The Class B Units issued to the rollover participants will be divided into two components: (i) vested units representing 50% of the total Class B Units (vesting immediately at closing), and (ii) unvested units representing the remaining 50% (vesting ratably over 36 months, subject to continued employment). The vested units represent property contributions governed by Section 721. The unvested units will be structured as profits interests under Revenue Procedure 93-27 and Revenue Procedure 2001-43.

B. Mechanics of the Rollover in the Merger Context

The mechanics of the rollover within the broader merger transaction require careful sequencing and documentation to ensure that the rollover qualifies for Section 721 nonrecognition treatment. We recommend the following step-by-step implementation:

Step 1: Execution of the Merger Agreement (Anticipated March 15, 2024). The Merger Agreement, to be executed among Ardent Healthcare Merger Sub LLC, Intermediate Inc., Holdings LLC, and Pinnacle (and potentially joined by the rollover participants in their individual capacities), will include provisions addressing the rollover commitment by Dr. Carvallo, Dr. Ostrowski, and Mr. Farnsworth. The Merger Agreement should specify the rollover percentage for each participant and cross-reference the Contribution and Rollover Ag

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MEMORANDUM
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I. Executive Summary
This memorandum analyzes the federal income tax treatment of the rollover equity contributions by three Pinnacle Health Services Group LLC ("Pinnacle" or the "Company") founders and executives into the post-closing acquisition structure in connection with the proposed acquisition of Pinnacle by Ardent Capital Partners III LP ("Fund III" or "Ardent"). Specifically, we compare Section 721 of the Internal Revenue Code of 1986, as amended (the "Code") — governing tax-free contributions to a partnership — with Section 351 of the Code — governing tax-free transfers to a controlled corporation — as alternative nonrecognition frameworks for the rollover equity component of the transaction. This memorandum is intended to assist Ardent in determining the optimal structural approach for the rollover and to provide the analytical foundation for the transaction documents that will govern the rollover mechanics.
Transaction Context. Ardent Capital Partners III LP is acquiring 100% of the outstanding membership interests in Pinnacle Health Services Group LLC, a Delaware limited liability company classified as a partnership for federal income tax purposes, for an enterprise value of $412 million (representing an equity value of approximately $339.4 million) via a reverse merger of Ardent Healthcare Merger Sub LLC with and into Pinnacle. The transaction is expected to be signed on or about March 15, 2024, with an anticipated closing date of May 31, 2024.
Rollover Participants. Three existing Pinnacle equity holders will retain a portion of their equity in the post-closing structure rather than receiving full cash consideration for their membership interests:
• Dr. Raymond Carvallo (Co-Founder, Chief Executive Officer) — holds a 38.2% membership interest in Pinnacle. Dr. Carvallo will roll over 25% of his gross equity proceeds, resulting in a rollover amount of $32.41 million (25% × $129.65 million) and a cash-out amount of $97.24 million.
• Dr. Nadia Ostrowski (Co-Founder, Chief Medical Officer) — holds a 28.5% membership interest in Pinnacle. Dr. Ostrowski will roll over 25% of her gross equity proceeds, resulting in a rollover amount of $24.18 million (25% × $96.73 million) and a cash-out amount of $72.55 million.
• Jonathan Farnsworth (Chief Financial Officer) — holds a 5.8% membership interest in Pinnacle. Mr. Farnsworth will roll over 15% of his gross equity proceeds, resulting in a rollover amount of $2.95 million (15% × $19.69 million) and a cash-out amount of $16.74 million.
• Total rollover equity: $59.54 million.
Rollover Vehicle. Each rollover participant will receive Class B Units of Ardent Healthcare Holdings LLC ("Holdings LLC"), a newly formed Delaware limited liability company that will be classified as a partnership for federal income tax purposes under the default classification rules of Treasury Regulations Section 301.7701-3.
Recommendation. Based on the analysis set forth in this memorandum, we recommend that the rollover be structured as a contribution under Section 721 of the Code (partnership contribution) at the Holdings LLC level, rather than as a transfer under Section 351 of the Code (corporate exchange) at the Ardent Healthcare Intermediate Inc. ("Intermediate Inc.") level. The Section 721 approach is the superior framework for several reasons:
1. It preserves the Section 743(b) basis step-up of approximately $224.4 million in the Pinnacle assets, generating estimated annual amortization deductions of $20.04 million per year and an annual tax benefit of approximately $5.01 million.
2. It avoids gain recognition on the $59.54 million rollover amount by providing a clean nonrecognition pathway without the boot, control-test, and step-transaction complexities associated with Section 351.
3. It provides greater structural flexibility for the treatment of unvested equity as profits interests under Revenue Procedure 93-27 and Revenue Procedure 2001-43, which is critical to the economic alignment objectives of the management equity program.
4. It maintains UP-C (umbrella partnership C-corporation) IPO optionality for potential future exits, which is the market-standard approach for sponsor-backed healthcare platform companies.
Cross-Reference to Companion Memoranda. This memorandum should be read in conjunction with the Preliminary Tax Structure Memorandum dated February 12, 2024, which sets forth the three-tier acquisition structure and the rationale for the blocker corporation. A separate Profits Interest / Unvested Equity Memorandum addressing the detailed tax treatment of the unvested Class B Units, including Section 83(b) election mechanics and Revenue Procedure 93-27/2001-43 compliance, is anticipated on or about March 8, 2024.
II. Background and Transaction Structure
A. Transaction Overview
Ardent Capital Partners III LP is a Delaware limited partnership and the third flagship private equity fund managed by Ardent Capital Management LLC. Fund III is a 2022 vintage fund with total committed capital of $3.2 billion, focused on healthcare services, healthcare technology, and life sciences investments. The fund's investment strategy emphasizes platform acquisitions in fragmented healthcare services verticals with significant add-on acquisition and organic growth potential.
Pinnacle Health Services Group LLC is a Delaware limited liability company that has been classified as a partnership for federal income tax purposes since its formation. Pinnacle was founded in 2016 by Dr. Raymond Carvallo and Dr. Nadia Ostrowski as a physician-led healthcare services platform focused on urgent care and ambulatory surgery. The company's operating agreement is dated August 12, 2016, as amended and restated on March 3, 2020, in connection with a minority capital raise from fourteen physician-investors.
As of the date of this memorandum, Pinnacle operates 34 urgent care clinics and 8 ambulatory surgery centers, totaling 42 facilities, across five states: Pennsylvania, Virginia, Maryland, North Carolina, and Georgia. The company's workforce includes approximately 1,620 employees, of which 142 are employed physicians. For the fiscal year ended December 31, 2023, Pinnacle reported revenue of $287.4 million and adjusted EBITDA of $51.8 million, reflecting strong operating margins and consistent year-over-year growth since inception.
The agreed-upon enterprise value for the transaction is $412 million, which represents an EV/EBITDA multiple of approximately 7.95x based on 2023 adjusted EBITDA. The equity value of $339.4 million is derived by subtracting estimated net debt at closing of $72.6 million (consisting of $81.3 million of funded indebtedness less $8.7 million of cash and cash equivalents) from the enterprise value.
The parties anticipate signing a definitive Merger Agreement on or about March 15, 2024. Closing is anticipated on or about May 31, 2024, subject to the satisfaction of customary closing conditions, including applicable Hart-Scott-Rodino clearance (which may not be required given the size of the transaction and the applicable thresholds) and third-party consents under certain of Pinnacle's managed care agreements and real property leases.
B. Acquisition Structure
As recommended in the Preliminary Tax Structure Memorandum dated February 12, 2024, the acquisition will be implemented through a three-tier holding structure designed to achieve the following objectives: (i) tax deferral on the rollover equity, (ii) UBTI blocking for Fund III's tax-exempt limited partners, (iii) preservation of the Section 743(b) basis step-up at the operating company level, (iv) optionality for a potential UP-C IPO in the future, and (v) isolation of state tax nexus associated with the operating company's activities. The three tiers are as follows:
Tier 1: Ardent Healthcare Holdings LLC (the "Holdings LLC"). Holdings LLC is a newly formed Delaware limited liability company (EIN 93-2187445) that will be classified as a partnership for federal income tax purposes under the default classification rules of Treasury Regulations Section 301.7701-3. No entity classification election (Form 8832) will be filed. Holdings LLC will serve as the top-level holding company and will be owned by Fund III (through Class A Units) and the rollover participants (through Class B Units). Holdings LLC's sole asset will be 100% of the common stock of Intermediate Inc.
Tier 2: Ardent Healthcare Intermediate Inc. (the "Intermediate Inc." or "Blocker"). Intermediate Inc. is a newly formed Delaware C-corporation (EIN 93-2187512) that will be wholly owned by Holdings LLC. Intermediate Inc. serves as a "Blocker" entity, the primary purpose of which is to prevent the flow-through of unrelated business taxable income ("UBTI") to Fund III's tax-exempt limited partners (including pension funds, endowments, and foundations). Intermediate Inc. will also facilitate a potential future IPO by providing a corporate vehicle whose shares can be listed on a national securities exchange and will serve to isolate state tax nexus associated with the operating company from the Holdings LLC partnership structure.
Tier 3: Pinnacle Health Services Group LLC (the "Operating Company"). Following the closing, Pinnacle will be the surviving entity in the reverse merger of Ardent Healthcare Merger Sub LLC (a newly formed Delaware LLC wholly owned by Intermediate Inc.) with and into Pinnacle. Post-merger, Pinnacle will be wholly owned by Intermediate Inc. and will continue to be classified as a disregarded entity for federal income tax purposes (as a single-member LLC whose sole member is Intermediate Inc., a C-corporation). All of Pinnacle's assets, liabilities, contracts, licenses, and operations will remain at this level.
The registered agent for all newly formed entities (Holdings LLC, Intermediate Inc., and Merger Sub LLC) is Pemberton Industries, 251 Little Falls Drive, Wilmington, Delaware 19808.
C. Sources and Uses Summary (Relevant to Rollover)
The following table summarizes the sources and uses of funds for the transaction as relevant to the rollover equity analysis:
Sources of Funds:
The senior secured credit facility consists of a $155 million Term Loan B and a $35 million revolving credit facility, both to be arranged by Graystone National Bank, N.A. as sole lead arranger and administrative agent. The Term Loan B bears interest at the Secured Overnight Financing Rate ("SOFR") plus 425 basis points and matures seven years from closing. The revolving credit facility bears interest at SOFR plus 375 basis points and matures five years from closing. The revolving credit facility is expected to be undrawn at closing.
The mezzanine notes in the amount of $30 million will be issued to Cascadia Mezzanine Fund IV LP ("Cascadia") and will bear interest at a blended rate of 14.5% (12.5% cash pay plus 2.0% payment-in-kind). The mezzanine notes mature eight years from closing. In connection with the mezzanine financing, Cascadia will receive warrants to purchase 2.5% of the fully diluted equity in Holdings LLC, exercisable at a nominal exercise price. The warrants are exercisable at any time during the ten-year period following closing.
In addition to the foregoing, the Merger Agreement provides for an earnout of up to $35 million payable to the pre-closing Pinnacle members (including the rollover participants with respect to their cashed-out portions), subject to the achievement of specified EBITDA targets during two measurement periods: Period 1 ($15 million earnout if 2025 adjusted EBITDA exceeds $62 million) and Period 2 ($20 million earnout if 2026 adjusted EBITDA exceeds $72 million). The earnout is not included in the closing equity computation or the rollover calculations set forth in this memorandum.
D. Ownership Breakdown — Pre-Closing Pinnacle and Post-Closing Holdings LLC
Pre-Closing Pinnacle Membership Interests:
The following table sets forth the ownership of Pinnacle's membership interests immediately prior to the closing, the gross equity proceeds allocable to each member, and the bifurcation between the cash-out and rollover amounts for the three rollover participants:
The 14 minority physician-investors collectively hold 27.5% of Pinnacle's membership interests and will receive aggregate equity proceeds of approximately $93.34 million, all of which will be paid in cash. None of the minority physician-investors will participate in the rollover.
Post-Closing Holdings LLC Equity:
Following the closing, the equity capitalization of Holdings LLC will be as follows:
Total rollover equity as a percentage of post-closing Holdings LLC equity on a pre-dilution basis is $59.54 million ÷ $258.04 million = 23.08%.
After giving effect to the 2.5% fully diluted equity allocated to Cascadia Mezzanine Fund IV LP in the form of warrants, the fully diluted percentages are as follows: Class A Units: 75.00%; Class B Units (aggregate): 22.50%; Cascadia Warrants: 2.50%.
E. Vesting Terms (Summary; Full Analysis in Forthcoming Profits Interest Memorandum)
The Class B Units issued to the rollover participants will be subject to the following vesting schedule, which is designed to incentivize continued involvement by management in the post-closing operations of the business:
• Fifty percent (50%) of each rollover participant's Class B Units will vest immediately at the closing of the transaction. These vested units represent a return on capital that the rollover participants are contributing to Holdings LLC and are not contingent on future services or employment.
• The remaining fifty percent (50%) of each rollover participant's Class B Units will vest ratably over a 36-month period following the closing, subject to the participant's continued employment with Pinnacle (or its successor) for Dr. Carvallo and Dr. Ostrowski. Mr. Farnsworth's unvested units are also subject to continued employment. Vesting will occur in equal monthly installments over the 36-month period, with the first installment vesting on the one-month anniversary of the closing date.
The aggregate unvested component totals $29.77 million (50% of $59.54 million), allocated as follows among the rollover participants:
The unvested Class B Units will be structured as "profits interests" within the meaning of Revenue Procedure 93-27, 1993-2 C.B. 343, and Revenue Procedure 2001-43, 2001-2 C.B. 191. As profits interests, the unvested units will be designed to have a liquidation value of zero at the time of grant (by setting a distribution threshold or "hurdle" equal to the fair market value of Holdings LLC's assets at closing) and to participate only in future appreciation above that threshold. This treatment is intended to ensure that the grant of the unvested units is not a taxable event for federal income tax purposes, provided that the requirements of the applicable revenue procedures are satisfied.
Each rollover participant will be required to file an election under Section 83(b) of the Code with respect to the unvested Class B Units within 30 days of the closing date. Based on an anticipated closing date of May 31, 2024, the deadline for filing Section 83(b) elections would be June 30, 2024. The detailed mechanics and implications of the profits interest structure and the Section 83(b) elections will be addressed in a separate memorandum anticipated on or about March 8, 2024.
III. Legal Framework — Section 721 (Partnership Contribution)
A. General Rule of Section 721(a)
Section 721(a) of the Code provides the general rule that "[n]o gain or loss shall be recognized to a partnership or to any of its partners in the case of a contribution of property to the partnership in exchange for an interest in the partnership." This nonrecognition provision is one of the foundational principles of subchapter K and reflects Congress's intent to facilitate the formation of partnerships and the admission of new partners without imposing an immediate tax burden on the contributing partners or the partnership.
The scope of Section 721(a) is broad. It applies to contributions of property made in connection with the formation of a new partnership as well as contributions made to an existing partnership. The term "property" for purposes of Section 721 includes cash, tangible property, intangible property, and partnership interests. See Treas. Reg. § 1.721-1(a). Importantly for this analysis, membership interests in a limited liability company that is classified as a partnership for federal income tax purposes constitute "property" within the meaning of Section 721.
In the context of the proposed transaction, Holdings LLC is a newly formed Delaware limited liability company that will be classified as a partnership for federal income tax purposes. Holdings LLC is a multi-member LLC — its members will include Fund III (as the Class A Unit holder) and the three rollover participants (as Class B Unit holders). Because Holdings LLC is a multi-member LLC, it is classified as a partnership under the default classification rules of Treasury Regulations Section 301.7701-3(b)(1), and no entity classification election (Form 8832) is required or contemplated.
The contribution of "property" by the rollover participants to Holdings LLC takes the form of their retained Pinnacle membership interests (or, more precisely, their right to receive a portion of the merger consideration, which is redirected into Holdings LLC in exchange for Class B Units). Under the merger mechanics described in Section II.B above, each rollover participant's Pinnacle membership interest is converted into the right to receive merger consideration, a portion of which is contributed to Holdings LLC rather than received in cash. This contribution of the economic equivalent of Pinnacle membership interests constitutes a contribution of "property" for purposes of Section 721(a). See Rev. Rul. 84-111, 1984-2 C.B. 88 (addressing the tax treatment of partnership-to-corporation conversions and recognizing that the form of the transaction governs the tax consequences where there are meaningful differences among alternative structures).
Accordingly, assuming the rollover is properly structured and documented as described in Section VI of this memorandum, the contribution by each rollover participant should qualify for nonrecognition treatment under Section 721(a), and no gain or loss should be recognized by the rollover participants or by Holdings LLC on the exchange.
B. Basis Rules — Section 722 and Section 723
The corollary to Section 721's nonrecognition rule is a set of carryover basis rules that ensure the deferred gain (or loss) inherent in the contributed property is preserved in the hands of both the contributing partner and the partnership.
Section 722 — Partner's Basis in Partnership Interest. Section 722 of the Code provides that the basis of a partnership interest acquired by a partner in exchange for a contribution of property to the partnership shall be equal to the amount of money and the adjusted basis of the property contributed. In other words, each rollover participant's tax basis in their Class B Units in Holdings LLC will equal the adjusted basis of the Pinnacle membership interests they contribute to Holdings LLC.
For each rollover participant, this carryover basis is calculated as follows:
• Dr. Raymond Carvallo: His adjusted basis in his Class B Units will equal 25% of his outside basis in his Pinnacle membership interests (reflecting the 25% rollover percentage).
• Dr. Nadia Ostrowski: Her adjusted basis in her Class B Units will equal 25% of her outside basis in her Pinnacle membership interests (reflecting the 25% rollover percentage).
• Jonathan Farnsworth: His adjusted basis in his Class B Units will equal 15% of his outside basis in his Pinnacle membership interests (reflecting the 15% rollover percentage).
The aggregate outside basis of all Pinnacle members as of the anticipated closing date is estimated to be approximately $291.1 million. The aggregate inside basis of Pinnacle's assets is estimated to be approximately $187.6 million. The difference between the aggregate outside basis and the aggregate inside basis reflects, among other things, historical allocations of income and loss to the members and contributions and distributions over the life of the partnership. The specific outside basis attributable to each rollover participant will need to be determined on a partner-by-partner basis using Pinnacle's capital account and tax basis records. We are coordinating with Brewer Stanfield & Associates LLP (Pinnacle's accountants) and Caldwell Pratt & Moorehouse LLP (Ardent's accountants) to obtain and verify these records.
Section 723 — Partnership's Basis in Contributed Property. Section 723 of the Code provides that the basis of property contributed to a partnership by a partner shall be the adjusted basis of such property to the contributing partner at the time of the contribution. Accordingly, Holdings LLC will take a transferred (carryover) basis in the contributed Pinnacle membership interests (or the economic equivalent thereof) equal to the rollover participants' adjusted bases in those interests. This carryover basis is important for determining Holdings LLC's gain or loss on a subsequent disposition of the contributed property and for computing depreciation and amortization deductions allocable to the contributed property.
C. Holding Period Tacking — Section 1223(1)
Section 1223(1) of the Code provides that, in determining the period for which a taxpayer has held property received in an exchange, there shall be included the period for which the taxpayer held the property exchanged, provided the property so received has the same basis in whole or in part in the taxpayer's hands as the property exchanged, and provided the property exchanged was a capital asset or a Section 1231 asset in the hands of the taxpayer.
Because the rollover participants' basis in their Class B Units is determined by reference to their basis in the contributed Pinnacle membership interests (under Section 722), and because the Pinnacle membership interests were capital assets in the hands of the rollover participants, the holding period of the Class B Units includes the holding period of the contributed Pinnacle interests.
All three rollover participants have held their Pinnacle membership interests since at least 2016 — Dr. Carvallo and Dr. Ostrowski as founders of the company at its inception in August 2016, and Mr. Farnsworth, who acquired his 5.8% interest at a later date but no later than the March 3, 2020 operating agreement amendment. Accordingly, each rollover participant's holding period in their Class B Units will exceed one year, satisfying the long-term capital gain holding period requirement of Section 1222(3) of the Code.
D. Exceptions and Limitations
While Section 721(a) provides a broad nonrecognition rule, there are several exceptions and limitations that must be considered in connection with the proposed rollover.
Section 721(b) — Contributions to Investment Companies. Section 721(b) of the Code provides that Section 721(a) shall not apply to gain realized on a transfer of property to a partnership that would be treated as an "investment company" (within the meaning of Section 351(e)) if the partnership were incorporated. The investment company definition under Section 351(e)(1) and Treasury Regulations Section 1.351-1(c)(1) generally applies where, immediately after the exchange, the transferee holds primarily stocks, securities, and certain other investment-type assets, and the transfer results in diversification of the transferors' interests.
Holdings LLC's sole asset will be the stock of Intermediate Inc., which in turn will own 100% of Pinnacle, an operating healthcare services company. Holdings LLC is an acquisition holding vehicle for an operating business, not a pooling vehicle for investment assets. The contribution does not result in diversification — the rollover participants are converting an interest in a healthcare operating company (Pinnacle) into an interest in a holding company (Holdings LLC) whose sole underlying asset is the same healthcare operating company. Accordingly, the investment company exception of Section 721(b) does not apply to the proposed rollover.
Disguised Sale Rules — Section 707(a)(2)(B) and Treasury Regulations Section 1.707-3. Section 707(a)(2)(B) of the Code and the regulations thereunder provide that, under certain circumstances, a contribution of property to a partnership followed by a related distribution from the partnership (or vice versa) may be recharacterized as a disguised sale of property between the contributing partner and the partnership. Treasury Regulations Section 1.707-3(c) establishes a rebuttable presumption that a transfer made within two years of a related transfer is part of a sale, while transfers made more than two years apart are presumed not to be part of a sale.
In the context of the proposed transaction, the rollover participants are contributing Pinnacle membership interests (or the economic equivalent thereof) to Holdings LLC in exchange for Class B Units. The rollover participants are not receiving any cash distributions from Holdings LLC at or near the time of the contribution. The cash consideration that each rollover participant receives in connection with the transaction (the "cash-out" portion) is paid by Ardent Healthcare Merger Sub LLC (or its parent, Intermediate Inc.) as merger consideration — it is not a distribution from Holdings LLC. The cash-out and the rollover are separate, contemporaneous transactions involving different counterparties, and the rollover participants' receipt of cash is not conditioned upon or related to their contribution to Holdings LLC.
Accordingly, we believe the disguised sale rules should not apply to recharacterize the rollover contribution as a sale. However, careful attention must be paid to the structuring and documentation of the transaction to ensure that the bifurcation between the cash-out and the rollover is clearly established and consistently maintained across all transaction documents.
Contribution of Services Component. Section 721(a) applies only to contributions of "property" in exchange for a partnership interest. To the extent that a partnership interest is received in exchange for services — rather than property — Section 721 does not apply, and the tax treatment is governed by Section 83 of the Code and the regulations thereunder. See Treas. Reg. § 1.721-1(b)(1).
In this transaction, 50% of each rollover participant's Class B Units will vest at closing. These vested units represent a return on the rollover participants' capital contributions and are properly characterized as received in exchange for property (the contributed Pinnacle membership interests). Section 721 should apply to these vested units.
The remaining 50% of the Class B Units are subject to vesting over 36 months conditioned on continued employment. To the extent these unvested units are characterized as received for services rather than property, Section 721 would not apply and Section 83 would govern. As noted in Section II.E above, the unvested units will be structured as "profits interests" under Revenue Procedure 93-27 and Revenue Procedure 2001-43, which provide that the receipt of a profits interest for services is generally not a taxable event. The detailed interplay of Section 721 and Section 83 in the context of the unvested Class B Units is addressed in the forthcoming Profits Interest / Unvested Equity Memorandum (anticipated March 8, 2024).
E. Interaction with Section 743(b) Step-Up
One of the most significant advantages of the Section 721 partnership contribution approach is its interaction with the Section 743(b) basis step-up at the Pinnacle level. This interaction is a critical economic factor in the overall transaction and is directly relevant to the Tax Receivable Agreement ("TRA") that will be negotiated between Ardent and the rollover participants.
Section 754 Election and Section 743(b) Step-Up. When a partnership interest is transferred (by sale or exchange) or when a partnership distribution is made, Section 743(b) of the Code provides that the partnership may (or, if a Section 754 election is in effect, must) adjust the basis of partnership property with respect to the transferee partner. The purpose of the Section 743(b) adjustment is to align the transferee partner's share of the partnership's inside basis with the transferee's outside basis (i.e., the purchase price paid for the partnership interest), thereby eliminating the discrepancy that would otherwise arise from the carryover of historical inside basis.
In the proposed transaction, the merger of Merger Sub LLC with and into Pinnacle will result in a transfer of the Pinnacle membership interests for purposes of Section 743(b). Because Pinnacle is treated as a partnership for federal income tax purposes (at least until the merger closes and Pinnacle becomes a disregarded entity owned by Intermediate Inc.), a Section 754 election by Pinnacle will enable Intermediate Inc. (as the acquirer of the membership interests) to receive a Section 743(b) basis step-up in Pinnacle's assets equal to the excess of the purchase price over Pinnacle's inside basis.
The estimated Section 743(b) step-up is $224.4 million, calculated as follows:
Enterprise Value: $412.0 million Less: Pinnacle aggregate inside basis: ($187.6 million) Estimated Section 743(b) step-up: $224.4 million
This step-up will be allocated among Pinnacle's assets in accordance with the Section 755 allocation rules. The majority of the step-up is expected to be allocated to amortizable intangible assets (including goodwill, customer relationships, assembled workforce, and trade names) with a weighted-average useful life of approximately 11.2 years.
Annual Amortization Benefit. The annual amortization deduction attributable to the Section 743(b) step-up is estimated at $20.04 million ($224.4 million ÷ 11.2 years). At a blended federal and state tax rate of approximately 25%, this produces an estimated annual tax benefit of $5.01 million.
Why Section 721 Preserves the Step-Up. The Section 721 contribution to Holdings LLC (a partnership) does not disrupt the Section 743(b) step-up at the Pinnacle level. Under the proposed structure, Intermediate Inc. (a C-corporation) acquires the Pinnacle membership interests through the merger and receives the benefit of the Section 743(b) step-up directly. The fact that Intermediate Inc. is owned by Holdings LLC (a partnership that includes the rollover participants as Class B Unit holders) does not affect the step-up — the step-up is computed at the Pinnacle level with respect to the acquirer's purchase price, regardless of the equity structure above Intermediate Inc.
By contrast, as discussed in Section IV below, if the rollover were structured as a Section 351 contribution directly to Intermediate Inc. (the C-corporation), the basis mechanics would be more complex and could create friction with the step-up computation.
Tax Receivable Agreement. The TRA that will be entered into in connection with the closing provides for 85% of the realized tax benefits attributable to the Section 743(b) step-up to be payable to the rollover participants and the pre-closing Pinnacle members. The estimated annual TRA payment is $4.26 million (85% × $5.01 million annual tax benefit). Preservation of the full Section 743(b) step-up is therefore economically significant to the rollover participants and is an important factor supporting the Section 721 recommendation.
IV. Legal Framework — Section 351 (Corporate Exchange)
A. General Rule of Section 351(a)
Section 351(a) of the Code provides that "[n]o gain or loss shall be recognized if property is transferred to a corporation by one or more persons solely in exchange for stock in such corporation and immediately after the exchange such person or persons are in control (as defined in section 368(c)) of the corporation." Section 351 is the corporate analog to Section 721 and serves a similar policy function: it facilitates the formation and capitalization of corporations without imposing an immediate tax on the contributing transferors.
In the context of the proposed transaction, Section 351 would potentially apply if the rollover were structured as a contribution of the rollover participants' retained Pinnacle membership interests (or the economic equivalent thereof) directly to Intermediate Inc. (the Delaware C-corporation at Tier 2 of the acquisition structure) in exchange for stock of Intermediate Inc. Under this alternative approach, the rollover participants would hold stock in Intermediate Inc. alongside Holdings LLC (which, in turn, would be owned by Fund III). The rollover participants would not hold Class B Units in Holdings LLC; instead, they would be shareholders of Intermediate Inc.
We analyze the Section 351 alternative below not because we recommend it — to the contrary, we recommend against it — but rather to provide a complete comparative framework and to identify the specific risks and disadvantages associated with this approach.
B. Control Requirement — Section 368(c)
A critical prerequisite for Section 351 nonrecognition treatment is the "control" requirement. Section 368(c) defines "control" as the ownership of stock possessing at least 80 percent of the total combined voting power of all classes of stock entitled to vote and at least 80 percent of the total number of shares of all other classes of stock of the corporation. The control test must be satisfied "immediately after the exchange."
In the proposed structure, Holdings LLC is the sole shareholder of Intermediate Inc. If the rollover were redirected to the Intermediate Inc. level, the rollover participants would receive stock of Intermediate Inc. directly. However, the rollover participants alone would not satisfy the 80% control test — their aggregate rollover of $59.54 million represents only 23.08% of the total equity capitalization (pre-dilution). To satisfy the control test, it would be necessary to treat Holdings LLC's capitalization of Intermediate Inc. (using Fund III's committed equity) and the rollover participants' contributions as part of the same "plan of exchange" under Treasury Regulations Section 1.351-1(a)(1).
While it is generally possible to aggregate transfers made pursuant to a common plan into a single Section 351 exchange, this introduces complexity. The IRS or a court could challenge whether the rollover participants and Holdings LLC (acting on behalf of Fund III) are truly engaged in a single integrated exchange or whether the rollover participants' contribution is a separate, non-qualifying transfer. This risk is particularly acute where, as here, the rollover participants are pre-existing equity holders of the target company and their rollover is motivated by different economic considerations than Fund III's equity investment.
Moreover, if the 80% control test is not satisfied, the entire exchange would be taxable — there is no partial nonrecognition under Section 351(a). This "all-or-nothing" aspect of the control test creates a meaningful risk that does not exist under Section 721 (which has no equivalent control requirement).
C. Basis Rules — Section 358 and Section 362
If Section 351 were to apply, the basis rules would be governed by Sections 358 and 362 of the Code, rather than Sections 722 and 723.
Section 358 — Transferor's Basis in Stock Received. Section 358(a)(1) provides that the basis of stock received by the transferor in a Section 351 exchange shall be the same as the basis of the property transferred, decreased by (i) the fair market value of any other property ("boot") received, (ii) any money received, and (iii) any loss recognized on the exchange, and increased by (i) any amount treated as a dividend and (ii) any gain recognized on the exchange. In a clean Section 351 exchange with no boot, the transferor's basis in the stock received simply equals the basis of the contributed property — functionally equivalent to Section 722.
Section 362 — Corporation's Basis in Contributed Property. Section 362(a) provides that, if property is acquired by a corporation in connection with a Section 351 exchange, the corporation's basis in the property shall be the same as the basis in the hands of the transferor, increased by any gain recognized to the transferor on the exchange. In a clean Section 351 exchange, this is a simple carryover basis — functionally equivalent to Section 723.
While the basic mechanics of the basis rules are similar under both Section 351 and Section 721, the application of these rules in the context of the proposed transaction produces different results due to the interaction with the Section 743(b) step-up, as discussed in the comparative analysis in Section V below.
D. Boot and Gain Recognition — Section 351(b)
Section 351(b) of the Code provides that, if an exchange would otherwise qualify under Section 351(a) but for the fact that the transferor receives "other property or money" (i.e., "boot") in addition to stock, then gain (but not loss) shall be recognized to the transferor to the extent of the boot received. The gain recognized cannot exceed the total gain realized on the exchange.
In the proposed transaction, if the rollover were structured at the Intermediate Inc. level, it would be critical to ensure that the rollover participants do not receive any boot in connection with the exchange. Potential sources of boot include:
• Cash consideration. The rollover participants are also receiving cash consideration for the cashed-out portion of their Pinnacle interests. If the cash-out is treated as part of the same Section 351 exchange (rather than as a separate sale), the cash would constitute boot, and gain would be recognized to the extent of the cash received. Given that the cash-out amounts are substantial ($97.24 million for Carvallo, $72.55 million for Ostrowski, and $16.74 million for Farnsworth), this risk is significant.
• Assumed liabilities. Under Section 357(a), the assumption of liabilities by the transferee corporation in a Section 351 exchange is generally not treated as boot. However, Section 357(b) provides that if the principal purpose of the assumption is tax avoidance, the full amount of the assumed liability is treated as boot. Section 357(c) provides that if the liabilities assumed exceed the basis of the contributed property, gain is recognized to the extent of the excess. These provisions introduce complexity that does not arise in the Section 721 context.
• Debt instruments. If the rollover participants receive any promissory notes or other debt instruments from Intermediate Inc. in connection with the rollover, such instruments would constitute boot.
To avoid boot recognition under Section 351(b), the rollover would need to be carefully structured so that the cash-out and the stock exchange are bifurcated as separate transactions. However, as discussed below, this bifurcation is susceptible to challenge under the step transaction doctrine.
E. Limitations and Risks
Investment Company Limitation — Section 351(e)(1). As with Section 721(b), Section 351(e)(1) provides that Section 351 does not apply to a transfer to an "investment company." For the same reasons discussed in Section III.D above — Holdings LLC (and by extension, Intermediate Inc.) is an acquisition holding vehicle for an operating healthcare business, not an investment company — this limitation does not apply. This factor is neutral as between the two approaches.
Overlap with Section 304. Section 304 of the Code addresses certain acquisitions of stock by related corporations that are treated as redemptions (and potentially as dividends) rather than as sales. If the rollover were structured at the Intermediate Inc. level, there is a potential risk that the IRS could argue that the rollover participants have an interest in both the transferor entity (Pinnacle, as pre-closing equity holders) and the transferee entity (Intermediate Inc., as post-closing stock holders), thereby triggering Section 304 analysis. While we believe this risk is manageable, it introduces an additional layer of complexity that is entirely absent from the Section 721 approach.
Step Transaction Doctrine. Perhaps the most significant risk associated with a Section 351 approach is the application of the step transaction doctrine. Under this judicial doctrine, a series of formally separate transactions may be collapsed into a single transaction for tax purposes if the steps are so interdependent that the legal relations created by one would be fruitless without the completion of the others (the "interdependence test"), or if the parties entered into the first step with a binding commitment to complete the subsequent steps (the "binding commitment test"), or if a series of steps are so integrated that the taxpayer would not have taken the first step without the mutual understanding that the remaining steps would follow (the "end result test").
In the proposed transaction, the IRS could argue that the cash-out and the rollover should be collapsed into a single integrated exchange under Section 351. Under this theory, the rollover participants would be treated as transferring their entire Pinnacle interests to Intermediate Inc. and receiving back both stock (the rollover portion) and cash (the cash-out portion) as part of a single Section 351 exchange. The cash would be treated as boot under Section 351(b), and gain would be recognized to the extent of the boot — potentially resulting in significant and immediate tax liability for the rollover participants.
This step transaction risk is meaningfully mitigated under the Section 721 approach because the cash-out and the rollover involve different counterparties (the cash-out is paid by Merger Sub/Intermediate Inc.; the rollover contribution is made to Holdings LLC, a different entity) and different forms of consideration (cash versus partnership units). The structural separation between the Tier 1 entity (Holdings LLC, a partnership) and the Tier 2 entity (Intermediate Inc., a corporation) provides a natural barrier against step transaction collapse.
V. Comparative Analysis — Section 721 vs. Section 351
Having set forth the legal framework for each nonrecognition provision, we now compare the two approaches across eight critical factors relevant to the proposed transaction.
A. Gain Recognition
Section 721 (Partnership Contribution to Holdings LLC). No gain or loss is recognized by the rollover participants on their contribution of property (Pinnacle membership interests or economic equivalent) to Holdings LLC in exchange for Class B Units. The cashed-out portion of each participant's Pinnacle interest is treated as a separate sale — a taxable transaction in which gain is recognized to the extent the cash consideration exceeds the participant's adjusted basis in the cashed-out portion. The rollover portion is fully tax-deferred. The bifurcation between the cash-out and the rollover is clean and well-established under the partnership tax rules.
Section 351 (Corporate Exchange at Intermediate Inc.). No gain or loss is recognized if the exchange is properly structured under Section 351(a) and the control test under Section 368(c) is satisfied. However, as discussed in Section IV above, there is a meaningful risk that the cashed-out portion could be treated as boot in the Section 351 exchange (rather than as a separate sale), particularly under the step transaction doctrine. If the cash were treated as boot, gain would be recognized to the extent of the boot received, which could be as much as $186.53 million in the aggregate.
Advantage: Section 721. The partnership contribution approach provides a simpler and more reliable bifurcation of the cash-out (taxable sale) and rollover (tax-deferred contribution), with significantly lower risk of unintended gain recognition.
B. Preservation of Section 743(b) Step-Up
Section 721 (Partnership Structure at Holdings LLC). As discussed in Section III.E, the Section 721 contribution to Holdings LLC does not disrupt the Section 743(b) basis step-up at the Pinnacle level. The Section 754 election by Pinnacle generates a Section 743(b) step-up of approximately $224.4 million, which is allocated among Pinnacle's assets and amortized over their respective useful lives. The step-up flows through Intermediate Inc. (as the acquirer of the Pinnacle membership interests) and is reflected in Intermediate Inc.'s tax reporting. The partnership structure at Holdings LLC does not create any duplication, offset, or friction with the step-up computation.
Section 351 (Corporate Structure at Intermediate Inc.). If the rollover participants contribute their retained Pinnacle interests directly to Intermediate Inc. under Section 351, Intermediate Inc. takes a transferred (carryover) basis in the contributed interests under Section 362. This means that Intermediate Inc.'s basis in the contributed portion of the Pinnacle interests would equal the rollover participants' historical adjusted basis — not the fair market value of the rollover amount. At the same time, the Section 743(b) step-up at the Pinnacle level would still apply to the portion of the Pinnacle interests acquired by purchase (through the merger). This creates a mismatch: Intermediate Inc. would have two different basis layers in the Pinnacle interests — a stepped-up basis for the purchased portion and a carryover basis for the rolled-over portion. While the economics of the step-up would ultimately be preserved, the computation would be more complex and could create friction with the TRA calculations, which are designed to measure the benefit of the step-up on a simplified basis.
Advantage: Section 721. The partnership structure produces cleaner step-up mechanics, avoids basis layer complications at the corporate level, and aligns more naturally with the TRA computation methodology.
C. Profits Interest / Management Equity Flexibility
Section 721 / Partnership. Holdings LLC, as a partnership, is eligible to grant profits interests to its members. Revenue Procedure 93-27 provides a safe harbor under which the receipt of a profits interest (as distinguished from a capital interest) in exchange for services is generally not treated as a taxable event. Revenue Procedure 2001-43 extends this safe harbor to substantially nonvested profits interests, provided that the partnership and the service provider treat the service provider as the owner of the interest from the date of grant, the service provider takes into account the distributive share of partnership items, and neither the partnership nor any partner deducts any amount with respect to the issuance of the interest. This is a well-established and favorable regime for structuring management incentive equity in sponsor-backed transactions.
Under the proposed structure, the unvested 50% of each rollover participant's Class B Units will be structured as profits interests with liquidation thresholds set at or above the fair market value of Holdings LLC's assets at closing. Combined with timely Section 83(b) elections, this structure should result in no taxable income upon grant and future appreciation being taxed at long-term capital gains rates upon disposition — a highly favorable outcome for the rollover participants.
Section 351 / Corporation. If the rollover were structured at the Intermediate Inc. level, the unvested stock issued to the rollover participants would be subject to Section 83 of the Code. There is no analog to the profits interest safe harbor for corporate equity. Under Section 83, the receipt of property (stock) subject to a substantial risk of forfeiture and no Section 83(b) election is generally not taxable at grant but results in ordinary income recognition at the time the substantial risk of forfeiture lapses (i.e., at each vesting date), measured by the fair market value of the stock on the vesting date less any amount paid. If a Section 83(b) election is filed, the full fair market value of the stock at the time of grant is included in ordinary income — which, for stock with a readily ascertainable value, could result in a significant current tax liability.
The absence of the profits interest safe harbor for corporate equity is a substantial disadvantage of the Section 351 approach, particularly for the unvested Class B Units, which represent $29.77 million in aggregate value. Under a corporate structure, the rollover participants could face ordinary income tax on the full value of the unvested stock upon vesting (absent a Section 83(b) election) or at grant (with a Section 83(b) election). Under the partnership structure with profits interests, the unvested units may have a zero value for tax purposes at grant (because the liquidation threshold is set at the current fair market value, and the profits interests participate only in future appreciation), and any future appreciation is taxed at long-term capital gains rates.
Advantage: Section 721. The partnership structure provides a significant advantage for the treatment of unvested equity, enabling the use of the profits interest safe harbor and avoiding ordinary income recognition on unvested equity.
D. Future Exit Flexibility
IPO Readiness. The proposed three-tier structure, with Holdings LLC as a partnership at Tier 1 and Intermediate Inc. as a C-corporation at Tier 2, preserves optionality for an "UP-C" (umbrella partnership C-corporation) IPO structure. In an UP-C IPO, the C-corporation (Intermediate Inc., or a successor entity) is taken public, and the partnership (Holdings LLC) continues to hold the equity, allowing for a single level of tax on the sale of LLC interests and the use of the TRA to compensate pre-IPO equity holders for the tax benefits generated by the basis step-up. The UP-C structure is the market-standard approach for sponsor-backed healthcare platform companies and has been widely used in recent years, including in comparable healthcare services IPOs.
If the rollover were structured at the Intermediate Inc. level (with rollover participants holding stock of the C-corporation directly), the UP-C structure would not be available as designed. The rollover participants would be shareholders of the C-corporation rather than members of the partnership, which would eliminate the partnership-level benefits of the UP-C structure for their equity and could complicate the TRA mechanics.
Sale Exit. In a sale exit, partnership treatment at Holdings LLC allows for a single level of tax on the sale of LLC membership interests. If a buyer acquires the membership interests in Holdings LLC (or the stock of Intermediate Inc.), the gain is taxed once at the partner or shareholder level. However, if the rollover were structured at the corporate level and Intermediate Inc. were to sell its assets (the Pinnacle stock) rather than having its own stock sold, there would be a corporate-level tax on the gain from the asset sale, followed by a shareholder-level tax on the distribution of the after-tax proceeds — resulting in double taxation on the appreciation.
Advantage: Section 721. The partnership structure preserves UP-C optionality and avoids the double-tax risk associated with a corporate-level rollover, providing greater flexibility for future exit transactions.
E. UBTI blocking
The UBTI blocking function in the proposed structure is achieved by the interposition of Intermediate Inc. (a C-corporation) between Holdings LLC and the operating entity (Pinnacle). Intermediate Inc. acts as a "Blocker" entity: income from Pinnacle's operations flows through to Intermediate Inc., which pays corporate income tax on that income. The after-tax income is then distributed (or retained) at the corporate level, and no UBTI flows through to the tax-exempt limited partners of Fund III.
This UBTI blocking function is achieved regardless of whether the rollover equity is contributed at the Holdings LLC level (Section 721) or at the Intermediate Inc. level (Section 351). In both cases, Intermediate Inc. is interposed between the operating entity and the ultimate equity holders. The UBTI blocking does not depend on the level at which the rollover participants hold their equity.
Neutral Factor. Both structures achieve equivalent UBTI blocking.
F. State and Local Tax Considerations
Partnership Treatment at Holdings LLC. Holdings LLC, as a partnership, is generally not subject to entity-level state income tax (with limited exceptions, such as in jurisdictions that impose a franchise tax or an entity-level tax on partnerships). Instead, each member of Holdings LLC (Fund III and the rollover participants) is potentially subject to state income tax in jurisdictions where Holdings LLC has nexus. However, Holdings LLC's sole activity is holding the stock of Intermediate Inc. — it is a passive holding company with no employees, no physical presence in any of Pinnacle's operating states, and no active business operations. This holding company status generally should not create nexus in Pinnacle's operating states (Pennsylvania, Virginia, Maryland, North Carolina, and Georgia), although the analysis must be confirmed on a state-by-state basis.
We note a potential New York nexus risk for Holdings LLC, given that its principal place of management (Ardent's offices at 600 Lexington Avenue, New York) is in New York. This risk can be mitigated by routing management fee agreements through Ardent Capital GP III LLC (which is already nexused in New York) to Intermediate Inc., rather than through Holdings LLC directly. This structuring recommendation is addressed in greater detail in the forthcoming State & Local Tax Memorandum.
Corporate Rollover at Intermediate Inc. If the rollover were structured at the Intermediate Inc. level, it would not materially change the state tax profile. Intermediate Inc. would still be subject to corporate income tax in the states where it has nexus (primarily through Pinnacle's operations), and the rollover participants would be shareholders of Intermediate Inc. rather than members of Holdings LLC. The state tax filing obligations of the rollover participants would not be meaningfully different under either approach.
Slight Advantage: Section 721. The partnership filing obligations at the Holdings LLC level are expected to be minimal given its holding company nature, and the partnership structure provides slightly greater flexibility for state tax planning.
G. Administrative Complexity
Section 721 (Partnership at Holdings LLC). Operating Holdings LLC as a partnership requires the maintenance of capital accounts under the Section 704(b) regulations, compliance with the partnership allocation rules (including substantial economic effect, the minimum gain chargeback, and qualified income offset provisions), the creation and maintenance of Section 704(c) layers for contributed property with built-in gain or loss, and the preparation and issuance of Schedule K-1 (Form 1065) to each member of Holdings LLC.
These requirements are not trivial, particularly with respect to the Section 704(c) layers that will arise from the rollover participants' contributions of Pinnacle interests with built-in gain. However, it is important to recognize that Holdings LLC will need to maintain these partnership-level accounts and compliance obligations regardless of whether the rollover participants hold equity at the Holdings LLC level or at the Intermediate Inc. level. Fund III's equity investment will flow through Holdings LLC, and Holdings LLC will need to issue Schedule K-1s to Fund III in any event. The management incentive equity pool (including potential future profits interest grants to other executives) will also be maintained at the Holdings LLC level. Adding the three rollover participants as Class B Unit holders does not create material incremental administrative complexity above what is already required.
Section 351 (Corporate at Intermediate Inc.). Operating Intermediate Inc. as a C-corporation is simpler from an ongoing compliance perspective. Intermediate Inc. would file a single Form 1120 (corporate income tax return), and distributions to shareholders would be reported on Form 1099-DIV. There are no capital account maintenance requirements, no partnership allocation rules, and no Schedule K-1s at the corporate level.
Slight Advantage: Section 351 on pure administrative simplicity. However, the marginal administrative burden of including the rollover participants at the Holdings LLC level is modest given the existing partnership infrastructure, and this factor is significantly outweighed by the tax, structural, and economic advantages of the Section 721 approach.
H. Summary Comparison Table
The following table summarizes the comparative analysis across all factors:
Overall Recommendation: Section 721 is the superior approach for the rollover equity structure. The advantages of the partnership contribution framework — gain recognition protection, Section 743(b) step-up preservation, profits interest flexibility, and exit optionality — materially outweigh the marginal administrative simplicity of the corporate exchange approach.
VI. Recommended Structure and Implementation Steps
A. Recommended Approach
Based on the analysis set forth in this memorandum, we recommend that the rollover be structured as follows:
• The three rollover participants (Dr. Carvallo, Dr. Ostrowski, and Mr. Farnsworth) will contribute their retained Pinnacle membership interests (or the economic equivalent thereof through the merger mechanics described below) to Ardent Healthcare Holdings LLC in exchange for Class B Units of Holdings LLC.
• The contribution will qualify as a tax-deferred exchange under Section 721(a) of the Code. No gain or loss will be recognized by the rollover participants or by Holdings LLC on the exchange.
• Holdings LLC will continue to be classified as a partnership for federal income tax purposes under the default classification rules of Treasury Regulations Section 301.7701-3(b)(1). No entity classification election (Form 8832) will be filed, and no election to be treated as a corporation will be made.
• The Class B Units issued to the rollover participants will be divided into two components: (i) vested units representing 50% of the total Class B Units (vesting immediately at closing), and (ii) unvested units representing the remaining 50% (vesting ratably over 36 months, subject to continued employment). The vested units represent property contributions governed by Section 721. The unvested units will be structured as profits interests under Revenue Procedure 93-27 and Revenue Procedure 2001-43.
B. Mechanics of the Rollover in the Merger Context
The mechanics of the rollover within the broader merger transaction require careful sequencing and documentation to ensure that the rollover qualifies for Section 721 nonrecognition treatment. We recommend the following step-by-step implementation:
Step 1: Execution of the Merger Agreement (Anticipated March 15, 2024). The Merger Agreement, to be executed among Ardent Healthcare Merger Sub LLC, Intermediate Inc., Holdings LLC, and Pinnacle (and potentially joined by the rollover participants in their individual capacities), will include provisions addressing the rollover commitment by Dr. Carvallo, Dr. Ostrowski, and Mr. Farnsworth. The Merger Agreement should specify the rollover percentage for each participant and cross-reference the Contribution and Rollover Ag

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