Overcoming Common Pitfalls in Healthcare Transactions

tipsHealthcare M&A transactions are a part of a process that is used to pitfalls and complications slowing down the journey from prospective sale to completed sale of a business.  Sometimes, these pitfalls can prove to be regulatory complications that could ultimately cause the potential buyer to walk away.  The Ambulatory M&A Advisor navigates its readers through some of these potential pitfalls that a seller and buyer can face on the journey to complete the deal.

Michael Blau, partner at Foley & Lardner says there are a number of things that both sellers and buyers need to be aware of as far as pitfalls and complications in a healthcare M&A transaction.

Blau says the top area that could cause complications is if the parties have not ensured they are anti-kickback, Stark law, and state fraud and abuse compliant in the deal.  Blau says when addressing this concern, there are a number of aspects to the issue.

Blau says part of the issue is how the seller is organized and has structured their business’ ownership.

“If it is an ASC, did they meet the 1/3 rule test stating if it is a multi-specialty ASC, physicians must use the ASC for 1/3 of their ambulatory surgical services.  Are each of the owners surgeons do they use  use the ASC as their workshop? Do they generate at least 1/3 of their income from ambulatory surgical services?” Blau says.

“Anti-kickback and Stark law compliance in terms of the ownership and the structure of the ownership with the ASC is important.  You can’t reward those that generate more business for the facility than the pro rata return on capital invested would indicate.  You also cannot terminate or threaten to terminate a surgeon simply for failing to refer to the facility.”

Blau says if the ASC or UCC is managed, there are questions related to  compliance of the management agreement and fee arrangement.  He says there are a few considerations; one being corporate practice of medicine.

“Does the management contract and the fees suggest that the manager has too much control over or a “deemed” equity interest in the facility?  If so, the manager may be viewed not just as managing the facility, but having an actual ownership or control interest,” he says, adding that this may be inconsistent with corporate practice of medicine constraints, and in some states may result in the need for a facility or clinic license.

“When dealing with an urgent care facility, if the facility is not wholly owned and controlled by physicians, in addition to a clinic license, in some states a certificate of need may be required.  The same can be true for an ASC.  Some states have physician office exemptions for ASCs or urgent care centers that are wholly owned and controlled by physicians, but there may not be similar exceptions if the ASC is partly owned by non-physicians (e.g., a manager).  If the management agreement confers too much control over the facility, then the facility may be subject to licensure and certificate of need requirements in various states.”

Carol Lucas, Head of the Healthcare Practice at Buchalter Nemer agrees with Blau and says when the seller starts to consider a transaction and they get a large, sophisticated buyer, all of a sudden the Anti-kickback and Stark Laws loom much larger, and there is less tolerance for deviation.

“For example, if you have some investors that are not individual surgeons, but maybe a multi-specialty group practice and there are referral source physicians there who are not surgeons…all of a sudden, that could be very important to the buyer,” Lucas says.

Lucas adds that aside from regulatory pitfalls, there are also red flags that can pop up when a business is simply unorganized.

“What I have unfortunately seen is casual or messy record keeping.  Not only corporate record keeping, but also financials, or things that are inconsistent.  What I see buyers really get spooked at is a company that is so unable to produce credible looking records that you begin to think that even if their earnings are exactly as they say they have been, you start to think that it is all a result of luck rather than any kind of skill,” Lucas says.

Lucas says this representation of the business creates the inability in a buyer to foster a feeling of confidence; and a lot of times, it’s not any more than an issue that could easily be solved with better communication and organization.

Michael King, head of transactional health care with Brownstein Hyatt Farber Schreck says that areas like confidentiality and indemnification can pose pitfalls in a deal if they are not addressed properly.

“Determining if government pay is part of the business’ portfolio is key, and it must be determined how much is involved. Then you measure the likelihood of risk on government pay, investigations, damages and the like.  You would then need to tailor your indemnification package in your merger agreement accordingly,” King says.

“I think non-competes are vital on the buy side, but on the sell side, you want to avoid them as much as possible.   For example, if your business is really people oriented, like a dialysis clinic where there are key nephrologists involved.”

King says a buyer or seller should imagine the issues that could arise if a key seller party left, went down the street and opened up a competing business identical to their own.  The company being sold would then ultimately lose business.

“This goes to allocation and how you would allocate value in a deal.  If it’s mostly driven by key doctors being involved, it’s really a good will business.  With an ASC, there is a certain amount of equipment involved and tenant finishes on a perfect lease space are nice.  There is a certain amount of equipment, and perhaps a certain amount of vendor supplier agreements in place.  Beyond that, it is really about reputation and key physicians.  You have got to have those folks tied up,” King says.

King adds that the complications can spread when selling because every state has a different set of laws and different set of case law regulating non-competition and non-solicitation covenants.  Others states have very specific additional restrictions on covenants restricting the practice of medicine.

Blau says that although some of these complications can make the deal shaky, in most instances, he would not say they are necessarily deal killers.

On a prospective basis, Blau says that almost anything can be either mitigated or corrected.  The question is, for historical performance purposes, is if there is a substantial or material risk that can come back to bite.

“If there has been really been material non-compliance with the Anti-kickback Statute or Stark law, and certainly if there is non-compliance from  a certificate of need or licensure perspective, those can be deal killers, because if you don’t have the license or CON, you don’t have the legal authorization to conduct the business you want to engage in.  If you have violated Stark or Anti-kickback, in some material respect, there may be some significant legacy liability issues. Those may be able to be segregated and addressed with escrows and indemnities, so that the sellers are left to hold that bag.  In which case, it may not be a deal breaker but the non-compliance may so taint the transaction,  that certain buyers may be too squeamish to proceed with the transaction, particularly if the legacy liability exceeds a significant portion of the value of the business,” Blau says, adding that it is better that the business has addressed compliance issues upfront, well before the acquisition transaction.

If you have an interest in learning more about the subject matter covered in this article, the M&A process or desire to discuss your current situation, please contact Blayne Rush, Investment Banker at 469-385-7792 or Blayne@AmbulatoryAlliances.com.

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