In Q2, Hospital M&A Slows, Practice Acquisition Stays Flat

Hospital deals are poised to increase in upcoming quarters, based on early indications of coming transactions, according to Ponder.

Aug. 3—The merger-and-acquisition (M&A) momentum in health care during the second quarter of the year switched from hospitals to physician practices, according to tracking companies.

Indicating a hospital deal slowdown, a Kaufman Hall analysis found only 20 hospitals deals in the period—down from 30 in the first quarter. Similarly, tracking by Ponder found hospital deals in the second quarter decreased by nearly 50 percent from the first quarter, to 21 transactions. That was the smallest number of hospital deals identified by Ponder since the fourth quarter of 2016.

A Ponder analysis noted that M&A activity typically decreases following a stronger-than-average period like the first quarter of 2018, but the drop is usually only about 25 percent.

A PricewaterhouseCoopers analysis reported only 14 hospital deals in the second quarter, which was a 36 percent year-over-year volume decline.

In contrast, physician practice acquisition remained steady in the second quarter, according to HealthCareMandA.com data. Physician medical group acquisitions totaled 53 in the quarter, a slight decline from the first quarter, when 55 transactions took place.

However, year-over-year physician practice M&A increased by 60 percent, from 33 acquisitions in the second quarter of 2017.

Why the Slowdown?

According to Ponder, the second quarter was marked by a decreasing share of for-profit divestitures. Such deals comprised only 37 percent of transactions, with Community Health Systems (CHS), HCA, and Tenet Health, along with several physician-owned hospitals, announcing divestitures in the quarter. In the first quarter, divestitures were 44 percent of transactions.

Ponder also noted that RCCH Healthcare Partners was the only for-profit operator to announce an acquisition in the quarter, and none of the publicly traded for-profit health systems announced acquisitions.

Kaufman Hall noted that Tennessee-based CHS was involved in three transactions—in Oklahoma, Florida, and West Virginia—that were announced in the second quarter, maintaining that organization’s rapid pace of divestitures. Each of the CHS deals involved a not-for-profit acquirer.

Hospital Pickup Coming?

Ponder expected the volume of hospital M&A activity to remain high in upcoming quarters since many health systems are in the beginning stages of discussions. Among notable pending transactions are letters of intent to merge by Jefferson Health and Einstein Healthcare Network, and by Atrium Health and Navicent Health. Cleveland Clinic has pending acquisitions in Florida.

“Additionally, regional health systems are positioning themselves for future growth,” stated Ponder, which cited letters of intent to affiliate that have been issued by several organizations, including Heritage Valley Health System with Ohio Valley Hospital, as well as Aultman Health Foundation with Pomerene Hospital.

The expectation echoed that of health system executives in a recent surveyby Premier. Among respondents, nearly half had completed a merger or acquisition in the past two years and 77 percent expected to do so in the next two years.

Steve Valentine, vice president of strategy and advisory consulting at Premier, said insurers, retailers, and physician groups are creating their own high-value networks that provide a range of choices and a focus on integrated, evidence-based care delivery.

“To stay abreast of this trend, health systems are evolving to meet consumers where they want to be seen, while enhancing the care experience,” Valentine said in a release. “For some, M&A initiatives are being pursued to spread the significant costs of this work, such as data management and the infrastructure needed to achieve economies of scale.”

The desire to better integrate care across the continuum and manage patient care more efficiently and effectively was ranked as the strongest driver of M&A activity in the Premier survey.

Financial Impacts

But others have questioned whether aggressive M&A is financially benefiting hospitals and health systems.

A not-yet-released Navigant analysis of 104 of the largest U.S. health systems found 22 locally dominant systems each had operating earnings declines of more than $100 million from FY15 to FY17, said Jeff Goldsmith, PhD, a national adviser for Navigant.

The financially suffering entities are “organizations, where if you accept the economists’ theories, that could basically write their own checks,” Goldsmith said at an Altarum policy event in Washington, D.C. “That they’ve achieved such dominance in their local markets they ought to be able to dictate to the payers in their markets what they are paying, but the reality is that the revenues are going down.”

From FY15 to FY17, two-thirds of the 104 health systems had declines in operating income that totaled about $5.5 billion. More than 20 percent of the health systems Navigant studied lost money on operations in both 2016 and 2017. However, those losses were masked by their investment earnings.

“Many of them have investments, where they make up money on their investments, but believe me, their business is not doing very well,” Goldsmith said.

Two of the three largest investor-owned hospital chains “are basically being sold off for parts,” Goldsmith said.

Echoing Navigant’s concerns was an April report by Moody’s Investor’s Service, which found that median operating cash-flow margins at 160 not-for-profit and public hospitals dropped to 8.1 percent in 2017 from 9.5 percent in 2016. Those margins were below levels recorded during the 2008-09 recession.

“It is so sudden and it is so weird because it’s happening at the top of the economic cycle,” Goldsmith said. “Usually hospitals’ profits disappear after a recession.”

Similarly, the American Hospital Association’s 2018 chartbook found that the percentage of hospitals with negative total and operating margins had increased by the end of 2016 to recession-era levels.

Adding to the industry’s financial challenges was nearly $50 billion in hospital losses on Medicare fee-for-service patients in 2016, according to Goldsmith.

The financial challenges have been compounded by expenses that have risen three points faster than revenues, consumer-directed health plans that have cut into consumer demand (particularly for surgeries), and “mergers that didn’t make sense,” Goldsmith said.

Rich Daly is a senior writer/editor in HFMA’s Washington, D.C., office. Follow Rich on Twitter: @rdalyhealthcare