3. What makes a good PE partnership? The asset that a PE firm is purchasing and hoping to grow is the revenue from a medical practice that they hope to improve by increasing profitability (through enhanced efficiency), expanding ancillary services and through multiple additional acquisitions to gain scale and size. Ensuring both sides are respected and aligned in decisions helps move the organization forward. A good partnership will build and bridge three types of capital – financial, experiential, and educational. Various factors must be considered; however, most important is mutual respect and admiration between the MSO and the physicians. Managerial styles will vary, but, a shared vision of the future will lead to success.
4. What changes are ahead with a PE deal? A PE firm and the MSO that it controls will put its management team in place to optimize revenue and contain expenses. The PE firm will look to combine practices where synergies exist and growth potential is strategically beneficial. For example, one practice might bring a pathology lab, the other geographic coverage, and the third an infusion center. Larger scale will usually improve negotiating influence with payers and hospitals as well as buying power for operational necessities. The MSO will roll out best practice protocols throughout the group, both back-office as well as patient-facing services. Finally, all PE groups will transition accounting to accrual from cash based as well as work with outside auditors and consultants due to the MSO’s bank covenants.
5. What is a platform company? A variation on the PE-based MSO is the formation of a “platform company”. This structure typically comes from a more sophisticated, mature practice that already has substantial business structures and managerial team members in place. This type of company can provide services not just to the founding practice, but to others that are “added on” as the organization grows. The investment hold period by the PE firm is typically 4-6 years, and thus, adding expertise to existing processes is usually more efficient and effective than starting from the ground up. Platform companies are typically paid a higher multiple than a company or practice that is “added on” to an existing platform, especially since these owners are taking the greatest risk by being the initial investor.
6. Explain the idiom “second bite of the apple”? A portion of each owner’s proceeds from the initial sale (“first bite of the apple”) of the practice is typically converted into stock of the MSO in a tax favorable method. The PE firm will maintain the largest shareholder position in the MSO (often majority), while the physicians and management team will be minority shareholders in the MSO. The proportion of proceeds rolled into stock depends on negotiations and ranges anywhere from 20% to 50% of the proceeds. The “second bite” is when the PE firm sells the stock of the MSO to the next investor. At the time of that transaction, all shareholders have a liquidity event and often another portion of the proceeds are rolled for the “next bite of the apple”. Specific terms of the shares are defined during negotiations, specifically the vesting terms, voting rights associated, and the value of each share.
7. Why would one practice receive a higher multiple compared to another practice? Each practice will have a different intrinsic value to the MSO and PE firm. The range of multiples on the purchased earnings before interest, depreciation, taxes, and amortization (EBIDTA) will depend on the timing of the transaction in the lifecycle of the investment as well as market forces. The number, age, and productivity of a practice’s providers, the ability to add certain ancillary services (i.e., revenue sources), the quality of contracts and associated payer mix, and the location of a practice are often the critical elements which the PE firm evaluates in the determination of a group’s value. The investment strategy will not be successful if exorbitant multiples are used for every practice. Strategically, a group with multiple providers in a desirable location with limited ancillary services early in the lifecycle will likely receive a higher multiple than a smaller group.
8. What outside professional assistance is needed to consummate a PE deal? Some groups may depend on an investment banker or health care mergers and acquisitions consultant to assist in the process or even seek out a partnership. Larger, more complicated groups with various existing relationships and competing forces often require such professional assistance. However, other smaller groups being approached by the MSO/PE firm as a “bolt-on” acquisition might not require a professional banker as the terms of joining may be more uniform to create a cohesive group of providers upon closing. All transactions, however, will require experienced health care transaction attorneys to ensure compliance with the myriad regulations. Some may engage a tax law attorney or accountant to ensure terms of the transaction are favorable. The PE firm will almost certainly require a quality of earnings evaluation by an outside, third-party financial auditor. One can probably assume close to 5% of proceeds may go to various professionals assisting in the process of the deal.
9. What are the common governance structures in PE transactions for physician provider service organizations? Like most businesses, a group of individuals typically form a board of directors which work in a decision making capacity and provide advice to the management team of the MSO. The board of directors usually includes successful leaders from other industries or business which bring specific talents, connections, and experiences, as well as individuals from the PE group and management team. Often, the platform practice will have a representative physician sit on the MSO board to ensure the medical provider perspective is prominent. The board of directors typically approves acquisitions and entry into new MSAs with additional practices, sets quarterly or yearly strategic goals, approves the budget and management team compensation structure and ultimately works on an exit strategy for the PE firm. Finally, pros and cons exist to having a physician as the CEO of the MSO; regardless, the CEO must be a strong leader with a vision and solid ability to communicate, as the PE sponsor and board of directors will have certain expectations, just as the independent gastroenterologist becoming a part of a new entity will have significant insecurities and hesitancies which must be appreciated and reassured.
10. In 3-5 years, what opportunities will a gastroenterologist leaving fellowship face as far as the GI landscape? Beyond the typical hospital-based employment opportunities or academic positions, consolidation of groups from PE acquisitions will likely have led to regional and maybe even national companies competing amongst themselves for talent. Over the coming years, there may be a total of 6-8 entities consisting of 15% of all gastroenterologists. Likely, one or two of the currently backed PE companies will have a new investor (i.e., initial exit completed/“second bite”). Each group will try to provide a differing value-based proposition beyond just the location a provider will be practicing. Fellows entering a practice already owned by a PE firm (or if a sale is pending) must clearly understand the legal, financial, and governance implications of these structures. This type of business structure is much different than one would encounter when hired by a physician-owned practice. It is not yet clear how a PE exit (4-6 years after acquisition) will play out for physicians not part of the original practice.
Dr. Sonenshine is a member of Atlanta Gastroenterology Associates.
