Healthcare Valuations: Two Ships Passing in the Night

Throughout my 40 years in healthcare, I have witnessed numerous acquisition transactions and valuations. One major and consistent challenge with these transactions is that neither party seems to be able to see or accept the other party’s view in order to have an effective dialogue.

In most cases, both parties have the same key goals, which are admirable, but conflict with each other to a degree.

1. Don’t make it about the money
2. Identify the best cultural fit
3. Choose the right long-term partner
4. Keep current compensation strategy and employee base

A recent example comes to mind of a group that pays below market salaries to their physician partners and employees, has a good reputation, owns some ancillaries, and has a long successful history. This group also has a favorable payer mix and contracts with major health plans for both HMO and PPO patients. They presented a business plan to a potential acquisition partner that was based on tremendous growth, as well as expansion across multiple existing and emerging markets. The plan required significant capital spend to accomplish that growth (both for built in acquisitions and organic growth), and they required a 60 percent increase in compensation for their doctors based on current wRVU production.

Unfortunately, the person that did their acquisition valuation set a value to the group significantly above market. This inaccurate valuation excluded the capital needed to grow the group, and increased physician compensation to a level that put the group in a position to significantly reduce earnings and EBITDA. The valuation used a low discount rate, which increased the value of the group to a price that was significantly higher than the buyer was expecting.

Ultimately, the group was unable to produce any documentation to support their growth in revenue and represented that they add other physician groups without having to acquire them. Both organizations came to an impasse, each failing to see the other’s points, and therefore, the sides parted ways with no discussion.

Without an effective discussion about transaction assumptions between both parties, it is like two ships passing in the night. While a focus on culture and fit are important and admirable, those issues should take a back seat until the money gets resolved.

Lessons Learned

First, a seller with no demonstrated growth in revenue should be realistic in their growth projections. Many sellers put forth projections that look like a hockey stick. If a group really believes they could accommodate growth without investment, they should execute the strategy and drive up the value of their group to position themselves to sell at a later time.

Second, the buyer and seller must understand that if compensation goes up above prior levels, the value of the group will go down and vice versa.

Lastly, the selling party should document growth through new health plan contracts, identify new payment models that reflect risk, and have letters of intent signed by potential groups that would merge into their bigger group. Remember, the more risk or the more unknowns, the higher the discount rate and the lower the value. Acquiring groups like to see stability, steady performance/growth, and a committed group of owners who will stay and lead the group going forward. Both parties should expect compensation to be at or above market estimates in order to attract and retain physicians.

Most importantly, for a successful transaction to take place, both parties need to have an honest discussion regarding the seller’s future, the leadership that is committed to stay and work toward accomplishing mutual goals, the assumptions to get there, the capital required going forward, and compensation that matches the market.

Have questions or need help with a potential acquisition? Feel free to reach out to me directly at Steve_Valentine@PremierInc.com.