Coker Connection Newsletter
The Private Equity Model for Medical Group Transactions
- September 19, 2019
Over the years, there have been numerous options for medical groups in considering different transaction types, structures and valuations. But there has also been expansion in the actual transaction partners that groups could consider. The presence of private equity within the healthcare services industry is nothing new. Private investment firms managing vast pools of capital have been investing significant dollars into various healthcare industry businesses for decades. Indeed, some of the largest private equity deals in history have involved healthcare companies. However, in recent times we have seen a slightly newer play in the market, whereby private equity firms are pursuing partnerships with medical groups and physicians in a way — and at a level — that we had not seen in the past, and it appears as though this trend is only continuing to grow.
In the past, the primary partners that a medical group would likely consider in a transaction consisted of either a hospital or another medical group. There have also been a number of nationally-managed medical group management entities that have served as a third alternative; however, due to the typical nature of these transactions, this was akin to simply partnering with another medical group. Examples of these entities include US Oncology, DaVita and other similar organizations, many of which have very good reputations and serve as excellent partners for physicians.
Today, the draw of investors to the healthcare industry is as strong as ever, but there still remains some degree of hesitancy for private capital to be deployed in the medical group space, simply because investors had a difficult time of developing a model whereby they could extract value from their investment. Since most medical groups distribute earnings as compensation to the physician partners, the lack of retained earnings in a practice prevented an outside, private investor from being able to realize regular returns on their investment dollars.
But like the market has done in many cases over the years, when one combines a great potential for value with well-capitalized, highly motivated and capable investors, it is typically only a matter of time before the market develops a solution, hence the “private equity-like” model. As explored in a recent Coker white paper, private equity-like models go into more detail than the typical structure utilized in PE transactions, providing more options for hospitals and medical groups to consider when competing for deals. These options include utilizing similar valuation and transaction structures that PE firms typically deploy.
There are other dynamics physicians and medical practices should consider when determining transaction partners. Specifically, we are often asked by medical group clients to evaluate offers from PE firms, including both the economics of a deal and the non-economic terms involved in a given transaction. Evaluating the economics consists of a detailed analysis of the different valuation components, the impact on physician compensation, tax considerations, and other financial components. While this type of assessment can entail a more technical and discerning evaluation, the process itself is relatively straightforward. Where things become very nuanced, however, is when we start digging deeper into the non-economic considerations of a transaction. This can entail looking at governance, shareholder rights and other terms outlined in a letter of intent that are actually classified as non-economic terms. This typically results in us assisting the seller (i.e., the medical group’s physician partners) to better understand what it is this partnership is actually going to look like in terms of a day-to-day dynamic.
Some of the common themes we typically cover in these discussions might include:
- Day-to-day operations of the practice
- Personnel management, hiring, firing, etc.
- Clinical operations, standards, quality metrics, clinical staffing, etc.
- Patient management and facilitation dynamics
- Expansion of new locations, facilities, physical infrastructure, etc.
- Revenue cycle management, billing, collections, etc. and impact on future compensation
- Recruitment, training and growth through addition of new clinicians
- Documentation, records and reporting requirements
- Technology solutions, training, compliance, system transition, infrastructure, etc.
Most physician partners in a medical group are likely going to look at an offer and first see the potential financial benefit. They will want to see how the valuation offer, compensation adjustments and tax impact will ultimately affect their individual financial growth or well-being going into the future. Once they have reviewed this, they will then begin to think beyond the numbers. How will these people change my day-to-day functions? How will this deal affect the way I have been delivering services to my patients for the last ‘X’ number of years? These are the factors that really start to get them thinking about whether or not they want to proceed with a given deal. Often times, the answers to these questions serve as the ultimate determination of whether or not they will accept the financial terms and ultimately vote to move forward with a transaction.
Evaluating and understanding the financial factors in a given deal has a higher degree of simplicity; but, digging deeper into areas of variability, specifically these harder-to-nail-down, non-economic factors, can be much more complicated. These factors can be quite subjective, and often times will require a level of risk and trust, both of which can at times be challenging to gauge prior to entering into a transaction. Partnering with someone, especially a group or entity that is relatively unknown, has a significant impact on the careers of those involved, so proper evaluation and understanding of all of the factors in play is necessary to assuage any trepidation involved.
While this is not something that should necessarily illicit fear or extraneous worry, it also should not be something taken lightly by those involved. There are ways to work through this type of process smoothly and with diligent consideration where no stone is left unturned. And while one may not be able to answer every single question perfectly or address every single possible variable that could potentially emerge, reducing and even eliminating certain risk areas is possible. Coker works with clients every day on these very types of matters and in these exact situations. Contact us today to find out how we can assist your organization in making the right decisions throughout the transaction process.
Senior Vice PresidentContact