Investments in healthcare by private equity firms are on the rise, creating several issues for CFOs.
It has been widely reported that mergers and acquisitions are continuing apace in the healthcare sector. Typically, these actions involve a larger hospital or healthcare system absorbing smaller or struggling organizations, or systems merging to share complementary healthcare services for mutual benefit.
Investments in hospitals and healthcare systems by private equity firms are also on the rise. Proponents of these investments generally argue that they can increase innovation in the recipient hospital. Critics of the practice generally say it threatens the quality of care provided by these hospitals.
Although there are laws in place that prohibit private equity firms from harming patients in any way through their investments, which provides some degree of protection, there is a lack of data concrete information on the most recent investments. The last major study examined the growth of private equity investments in the healthcare sector from 2003 to 2017.
Related: Private Equity: Friend of the enemy of healthcare?
The nature of private investment in health care
While private investments in healthcare may mean different things to different people, “most people will think of the continuing trend of private equity and venture capital investments in healthcare providers, healthcare and related businesses serving the wider industry,” says Rebecca Matthews, partner and co-chair of the Healthcare Transactions group at the law firm Wiggin and Dana. After spending several years in-house at a large healthcare system, Matthews’ practice now focuses almost exclusively on healthcare transactions, from collaborative agreements to mergers and acquisitions.
Many healthcare investments by private equity firms involve the outright purchase of a struggling hospital or healthcare system. In these cases, the investment company tries to increase its income by taking one or more major actions, including reducing staff; merge several practices; close parts of operations; renegotiate reimbursement rates with payers; and try to develop certain specialized services or profitable practices.
Of course, certain conditions must be met for a private equity firm’s investment to take place. First, the hospital or healthcare system must be willing to sell all or part of the property. The main factors for an organization to be willing to sell are: a financially distressed health system as a whole; it has an innovative product or service but needs financial assistance to boost it; the health system struggles to meet compliance requirements; or the practice owner or partner retires.
As noted, opinions differ on the impact of these private equity investments on the delivery of care and patient well-being. But there’s no hard data to back up the pros or cons.
Yet, anecdotally, some impacts would appear to be a natural result. For example, if a private equity firm consolidates healthcare facilities or closes certain hospitals or practices, those actions will impact where certain care is available to the public.
Similarly, when any of these events occur, healthcare workers could see their jobs change or even be terminated.
Three major issues for CFOs
According to Matthews, three issues in particular should concern hospital CFOs when it comes to private equity firms investing in healthcare.
“Probably the most important issue is one of valuations – and understanding that hospitals and healthcare systems are, in some ways, more constrained than private investors (by which I mean private equity more broadly) in due to regulatory restrictions on financial agreements with referral sources,” explains Mathieu. “That said, hospitals and health systems can offer different strategic advantages that may not be available from private investors. It will be important to explain this to an investment target so that they can compare offers in a meaningful way. more nuanced and sophisticated.”
“Another significant issue is the ban on the so-called practice of corporate medicine,” Matthews said. “This rule varies by state, but often prohibits private investors from owning, directly, entities that provide certain licensed professional services such as medical services.”
In some states, it also means that medical practice income cannot be shared or “split” with entities that are not owned by licensed professionals, Matthews continues. Contracts with entities that don’t follow the rule can be at risk, so validating compliance is critical, she stresses.
Regarding the third major problem, “to the extent that hospitals and health systems diversify their investments or support innovation centers and invest side by side with private investors, they must take into account the rules of fraud and abuse, disclosure requirements and other regulatory concerns This may not be an issue for private investors This may require additional representations and undertakings from the target that may not be in the pricing documents standard transaction from a lead private investor,” says Matthews.
Increased investment leads to increased monitoring
The growing influx of private capital into the health sector has led to greater attention being paid to banning the practice of medicine in the workplace. Antitrust considerations have also been heightened, Matthews says.
“Hospitals and healthcare systems should always consider fraud and abuse rules in any transaction with a referral source,” says Matthews. “In addition to the Federal Anti-Kickback Law and the Stark Self-Referral Law, there may be state laws to consider. These laws are complex and multifaceted and require careful consideration of all compensation to be paid or provided as part of an agreement. this means not only money, but also in-kind support and other benefits.”
For this reason, Matthews advises CFOs to stay abreast of regulatory considerations and raise concerns or ask questions often.
“Building cross-functional teams and coordinating with other departments, including legal and compliance, can be key,” advises Matthews. “It is also helpful to avail yourself of resources from organizations that understand the complexity of healthcare and transactions in this space, such as the Healthcare Financial Management Association (HFMA) and the American College of Healthcare Executives (ACHE), each having chapters.”