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M&A: Finding the Right Match

Margaret Dick Tocknell, for HealthLeaders Media, December 5, 2011
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Ardent’s interest in SouthCrest presented CHS with the opportunity to consolidate its Oklahoma holdings in the western part of the state near Oklahoma City. CHS added its other Tulsa hospital, the 89-staffed-bed Claremore Regional Hospital, to the deal.

The acquisition will boost Hillcrest from third place into the No. 2 spot in market share, behind St. Francis Health System and ahead of St. John Health System.

Spotting the red flags

No matter how desirable a deal may seem at the outset, both sides need to be prepared to walk away from an M&A.

Gary Brock, COO of Dallas-based Baylor Health System, which has 27 owned, operated, or affiliated hospitals, is straightforward about his primary red flag: culture. In the HealthLeaders Media Breakthroughs Report Hospital Merger and Acquisition Strategies, Brock said his team makes it clear to potential M&As they will no longer be a separate entity. “Going forward you’re going to have to accept Baylor’s culture. We’re not going to accept their culture.”

Brock expands on the idea for this story. His team measures culture in several ways, including conversations with the local board of trustees, physicians, and leadership team. His team, he says, discusses “the commitment to quality improvement, patient safety enhancements, patient experience/satisfaction, and community service. Clinical service lines are reviewed along with other related activities that they may be engaged in, such as education and research.

“At the end of the day,” Brock says, “the cultural fit must be supported by the belief that the union will be accretive to both organizations and that they are genuinely willing
to become part of a healthcare system whose mission, vision, and values are all aligned and focused toward improving and serving the health of our region and not just their individual community.”

Other red flags can include:

Too much modernizing required. Ardent’s Vandewater says sometimes the physical plant requires capital expenditures that can’t be overcome. That can affect the hospital’s ability to attract and retain physicians, which can present more problems down the road.

Too much debt. Novant’s Wiles says his system has to be comfortable with the amount of debt it might take on in an M&A. “If there’s more debt than we feel comfortable absorbing, we will walk away from a deal.”

Lack of economic growth in a community. Vandewater says his team wants to see a vibrant local economy with sustainable job growth. Workforce reductions in key industries can mean a hospital or health system will encounter more uninsured seeking care, which affects the bottom line.

Relationship with payers or physicians. As a partner with investment banking firm Juniper Advisory LLC in Chicago, James Burgdorfer works primarily in the nonprofit M&A market. He says the loss of a significant payer can mean long-term trouble in terms of patient mix as well as maintaining physician relationships. He warns that the loss of a significant physician specialty group—especially to a competitor—can signal internal problems with leadership and also affect revenue.

Valuing the deal

Although a hospital seeking a partner may have a wish list of improvements it hopes to gain from an M&A, the commitment to invest capital to improve facilities or add services depends on several factors, including how the hospital is valued.

Steever, at Irving Levin, looks at three metrics in considering valuation: price to patient revenue, price to EBITDA, and price per staffed bed.

The median multiple for price to patient revenue is 0.8 times revenue. That means if a hospital is generating revenues of $10 million, its fair market value might be around $8 million. Steever considers the price per staffed bed as the least reliable metric because it tends to have wide fluctuations.

Price to EBITDA is the most reliable. The industry median is 6 or 7 times EBITDA and, Steever cautions, if a hospital operates below the median, it could mean the hospital isn’t performing as well as it should. If a hospital operates above the median it could be flush with cash, which would be a market advantage.

James Unland, president of the Chicago-based Health Capital Group, a consultancy that helps with M&A and reorganizations, says he looks at a number of criteria in making a valuation. Having a positive cash flow that can be maintained is very important. Unland also assesses the payer mix and looks at the general condition of the equipment and facilities and considers any upgrade costs. And he looks at the competitive market to assess growth and expansion potential.

The bottom line, explains Unland, is that parties on both sides of an M&A need to be comfortable that the deal can deliver on its potential.

Achieving that level of comfort is a challenge, and it’s one that many in the industry face. Thirty-one percent of senior leaders reported in the HealthLeaders Media Industry Survey 2011 that they expect to acquire another organization within the next three years, and 15% expected to be acquired in that time. The face of healthcare continues to change. 


This article appears in the November 2011 issue of HealthLeaders magazine.


Margaret Dick Tocknell is a reporter/editor with HealthLeaders Media.
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