Private Equity Valuations and Negotiations in a Healthcare Transaction

Private InvestorPrivate equity firms are a large portion of investors in the current healthcare market.  It should be important for a potential seller to understand what these businesses look for in a target acquisition in order for them to be considered an investment.  The Ambulatory M&A Advisor discusses some of the important private equity valuation and negotiations areas that the general physician owner needs to understand before placing their business on the market.

Mark Norris, managing director at Tucker and Meltzer Valuation Advisors says that one of the main differences in the way private equity firms value a target from another entity is that private equity firms are not restricted to valuing an acquisition or target in accordance with fair market value.  Norris says this difference is huge.

“They can take into consideration, let’s say, synergistic value.  So they are going after a bunch of urgent care facilities, and they can somehow consolidate costs and consider synergies and so on (which is not allowed for fair market value); then they can theoretically offer a higher price and outbid the competitors,” Norris says.

“I have always represented the practitioner or the hospital.  What I have observed, is that in many cases, private equity firms have the ability to offer a higher price because they can consider those types of synergistic attributes.  Even though I say that, most of them use the discounted cash flow model and base their valuation on a forecasted model of about four or five years.  What will happen is that even though the face value of their offer may be higher than that offered by a hospital, not only because of the fair market value criteria that a hospital has to follow; the fact is that the private equity strategy in many cases is very different from the hospital.”

Norris explains that when examining the strategy of a private equity strategy, it is imperative to understand that a firm typically goes into a deal not thinking about getting into it for the long-term.

“They are looking for an exit strategy maybe 3-5 years out.  Versus a hospital, that is not necessarily the case.  Many times they are in it for the long-term.  It fulfills their overall strategy of providing services to their geographic area that they have been formed to serve,” Norris says.

“The other thing is that even though private equity may offer a higher price, if that target doesn’t meet various performance goals, they will have claw-back provisions in that contract that will reduce that price.  I’m not saying the hospital won’t do that, but my belief is that because of the hospital nature, it is going to be more forgiving than a private equity firm that is just focused on the numbers and they are looking at it as a return on investment and profit in the exit strategy.  A hospital isn’t focused as much on that as it is fulfilling their overall mission as the hospital.  Plus, the hospital is in that business of providing healthcare.  A private equity firm isn’t in that business, they are investors in the business of making more money.  Sometimes those clash, and the hospitals better understand the various issues and nuances in the healthcare sector, and are more willing to work with a target post-transaction than a private equity firm would be willing to do.”

Joshua Kaye, partner at the law firm of DLA Piper says that private equity, like other investors usually uses EBITDA as a way to determine the value of a target acquisition.

“As it relates to what a private equity firm is looking for in distinguishing one entity valuation from another entity’s valuation; they are going to look at a few different factors,” Kaye says.

“First they are going to look at the overall enterprise and the market that that enterprise has established itself in; whether or not, they are the likely leader in that market, or a platform, or whether they are likely to be considered an add on acquisition to an existing platform.  Often that will be driven by whether the target has enough market entities in enough locations, as well as enough infrastructure to be considered a platform to which other additional locations can be added on to.  That is one of the key factors that a private equity fund looks at in determining whether a target would have a higher valuation or a lower valuation.”

As an example, Kaye says that a platform acquisition, that is generating 5 million or 10 million plus in EBITDA will be valued at a higher multiple, than a company that is generating under a million dollars in EBITDA.

Kaye also gives examples of newer areas that private equity is looking into like the Freestanding Emergency Center (FEC) model for healthcare.

“In both instances, whether that is Urgent Care or FEC, the reasons private equity would value those companies is because we are seeing our health care system transition from one that has historically been based on an antiquated fee for service system, to one that strives to become a high performing, high value system that provides Americans with better access, higher quality care, at a lower cost,” Kaye says.

“Urgent Care Centers and FECs, offer greater access at a lower price point and therefore appear to be part of a contributing solution to our evolving healthcare system.”

Kaye says that he also sees private equity valuing companies that can provide transparency to the health system.  He explains that ultimately, a high valued system is going to have to measure value.

“Value in healthcare is measured by outcomes over price.  The problem is that there is currently a lack of any transparency regarding outcomes or price.  It’s also quite difficult to measure one physician’s performance relative to another physician’s performance.  Those are the types of issues that a number of the healthcare IT companies are focusing on solving and are looking to drive greater price and outcome transparency through bug data analytics.  We are seeing private equity value those companies at a premium relative to other areas in to which healthcare capital is being invested,” Kaye says.

Aaron Money, partner at FFL Partners says that when valuing a given entity, an established patient base is important.

“An established patient base where it is not a loyal patient base to a provider, but rather to a location is important.  That gets to trying to avoid the risk that a provider sells, maybe becomes less active, then you end up losing a lot of business. We spend a lot of time thinking about the real estate and thinking about how retail oriented the location is,”  Money says.

“Over the last several years, there has been a lot of additional building in the urgent care space with more offices going into communities.  You want to make sure you are well positioned to face what is likely going to be a fairly competitive market.  We think of it as the people, the patient base and the location.  When we valuate that location, it’s not too dissimilar to building a site from the ground up.”

As far as negotiations go for private equity firms, Money says tactics vary depending on the situation.

“I think when you enter into any transaction, maybe it’s a small, single site urgent care office.  It really depends on the motivations and desires of the seller.  What you are trying to do is get to a point where you end up happy with the deal and they end up happy with the deal.  A lot of times that is trying to understand whether a seller is more focused on cash up front,” Money says.

“Some urgent care operators are focused on continued employment for themselves, for family members or others that they have recruited into the business.  I think the nuance is not so much to try to bring a given playbook to a transaction, but to try to flesh out what is most important to that seller.  If on the down stroke, cash proceeds aren’t as important as continuing to have a job and be active in the community and be that urgent care doctor the next five or ten years; then allow that trade off to dictate where you go.  It’s sort of a dance, you just try to define where the circles overlap.  These are the circles of what you are willing to do and the circle of what the seller is willing to take.”

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





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