The healthcare private equity market continues to see high transaction multiples and unprecedented competition for transactions. These trends, along with continued growth in False Claims Act or qui tam cases, create interesting dynamics for investors performing diligence and documenting transactions, as discussed during a panel presentation at McGuireWoods’ 6th Annual Healthcare Litigation and Compliance Conference on May 21.
Panel members included McGuireWoods healthcare lawyers Tim Fry and Holly Buckley; John Brock, managing director for Berkeley Research Group LLC; and Matthew Logan, general counsel for Experity. Brock provided expertise on the financial aspects of the diligence review of target companies, while Logan shared real-world experiences from his company’s recent merger and his past transactional legal practice. Fry and Buckley addressed the legal aspects of transaction diligence and drew examples from numerous recent private equity healthcare transactions.
Here are five key points drawn from that panel discussion.
- Organizational culture and workforce behavior constitute the most important factor determining whether a company can operate in a compliant manner — both in understanding historic liabilities and in go-forward post-closing operations. While the most important factor, it can also be one of the most difficult to evaluate from a diligence perspective. If an organization doesn’t have a top-down approach to compliance, open lines of communication, and a culture that rewards and incentivizes reporting of potential issues, maintaining compliance and defending allegations of noncompliance will be more difficult. Panel members discussed how they evaluate an acquisition target by interviewing key constituents and studying the compliance plan elements.
- With high transaction multiples stemming from private equity deal competition, buyers face more pressure on their investment thesis. This can create longer and more involved financial due diligence review, with more emphasis on understanding if the target’s operations need to change. Any such change can affect the purchase price or the investor’s ability to obtain a return on investment. In other words, if a buyer identifies a billing and coding issue, there will be discussion around refunding the overpayment from a compliance perspective and a question on whether the difference impacts the purchase price. Buyers also may need to support a more robust financial and back-office operation post-closing, which often must be factored into the price.
- Buyers are not necessarily turned off by targets who are in the midst of a False Claims Act case, government investigation or corporate integrity agreement. This is a change from a few years ago, when such status could make a deal difficult to complete. However, buyers will conduct extra diligence on the target and may retain experts to investigate alongside the government to gain confidence in the target’s historic operations. While such legal/compliance issues may create more work for buyers, they also may reduce the purchase price, creating more upside opportunities.
- Buyers frequently require or mutually agree with sellers that a self-disclosure is necessary as a condition to closing or as a post-closing covenant . These self-disclosures are most commonly to the Office of Inspector General for Anti-Kickback issues or Centers for Medicare & Medicaid Services for Stark Law issues. The panelists noted that such self-disclosures have become common in the marketplace and are easier to navigate when both parties have sophisticated legal counsel. Parties may also consider refunds to third party payors for billing issues without such a disclosure.
- There are opportunities for health systems and private equity funds to partner . However, it is important for both parties to recognize their own priorities as well as the priorities of the other party. For example, health systems generally will not relinquish control over decisions related to tax-exempt status, clinical quality and reputation in the community, while private equity funds will need to ensure they have the ability to exit, to create return on investment and to scale. Expect more exploration in this space in the next few years.