Hospital Mergers Outlook Bright for 2011

The past year saw many hospital mergers and acquisitions, with private, for-profit hospitals or capital management groups using a recovering economy to scoop up distressed public health systems.

The top 10 hospital mergers and acquisitions of 2010 were valued at about $3.8 billion, and one observer predicts that this trend will continue in 2011, as healthcare reforms kick in, the economic picks up, and sharp-eyed investors with lots of money to spend look for bargains.

"We are going to see at least as much in 2011 as we saw in 2010 year," says Sanford B. Steever, a researcher with Norwalk, CT-based Irving Levin Associates Inc.

Hospital mergers and acquisitions picked up shortly after Congress passed sweeping healthcare reforms in March. "Before that there was activity but it was sort of meager, one-hospital deals. Once healthcare reform passed and everyone had a better idea of what the landscape was going to look like we started to see an increase in merger and acquisition activity," Steever said.

The reforms are supposed to expand health insurance to 32 million people, and "some of this consolidation creates the larger delivery network and allows the hospitals to capture their fair share of these additional 32 million people coming online," he says. "The only thing that might cause a ripple in 2011 is that the new Congress is rumbling about repealing the healthcare reform act. I don't see that happening because neither party has filibuster-proof majority."

Even before the healthcare reforms passed, Steever says there were good reasons to consolidate. "In some areas, particularly in cities, there were too many hospital beds. There is going to be consolidation there to save money, capture larger market shares, and improve bargaining positions with vendors and insurance companies. Those are not going away."

In addition, new U.S. Census data show the nation is in the midst of a population shift. "In the Northeast, adjustments have to be made because populations are moving away and you can't maintain those hospital beds," he says. "They're consolidating in the Southwest too because people are moving there and you have to be able to provide services. It's not a perpetual motion machine but it's pretty close." 

By far, the biggest domestic hospital merger of 2010 was the $1.5 billion acquisition of the Detroit Medical Center health system by private, for-profit Vanguard Health Systems, Inc.

Like many observers, Steevers says he was surprised that a private, for-profit hospital company from Nashville, TN, right-to-work state, would want to buy a unionized safety net public hospital system in a rust belt state.

"That is one that has a lot of people scratching their heads," says Steever, who offered three theories for the deal. "It may be, particularly in the rust belt, the demographics are starting to shift whereby that part of Michigan isn't losing population anymore."

"Also they are getting a system. Vanguard likes to go to urban areas. That is where they are most comfortable. If they were buying a single hospital in Detroit I would question their sanity. But they are going for a system so they have a chance of making it go," he says.

"Also, these facilities have been financially distressed coming out of the Great Recession, so they may have been able to get it at a fairly decent price," he says.

Steever says the concerns of some patients' advocates in Detroit that Vanguard would disrupt DMC's safety net operations are most likely unfounded. "Whether the management is from outside I don't think that makes a difference," he says. "There are a lot of for-profit hospitals that do a good job coming in and taking over hospitals and increasing the numbers of services and preventing health migration."  

"The notion that Vanguard is going to come in and strip assets, it sounds good, but the reality is operating a hospital, especially a not-for-profits, the state would step in if they thought it would seriously threaten the delivery system in Detroit," he says. "Just because it's for-profit doesn't mean they don't do a good job running a hospital."

Steever says many for-profit hospital companies are attracted to public hospitals because they believe they can identify and implement efficiencies that will turn a profit. They're aggressively shopping for distressed properties in a recovering economy, looking for bargains, but not necessarily fire sales. "Most private companies don't want to wait to pull the trigger until a facility has gone down that path to bankruptcy," he says. "They want a facility that is maybe eking out small margins but has the potential to turn around, maybe through the use of better purchasing or IT or different management can operate more efficiently."

Also, investors are looking for new opportunities. "A lot of private equity firms and the companies they back have been sitting on the sidelines for the past two or so years. They are not going to return the capital directly to their shareholders. They want to invest and make a profit," he says.

Steever believes that's what motivated New York-based Cerberus Capital Management LP to spend $830 million for the six-hospital Caritas Christi Health Care system in Boston, in the second largest hospital acquisition of 2010. "Caritas has been stretched for several years financially and has been actively looking for partners. More finances were needed to set right what was going on there financially and operationally to bring the hospitals back to some profitability and stability," he says. "Because they were financially challenged, Cerberus got them at a lower price than they would have been able to get four years ago when they were in a financially better position."