The proposed $10 billion merger of three investor-owned hospital giants could have a disconcerting effect on not-for-profit hospitals standing in the shadow of ever-larger competitors.
The merger would combine National Medical Enterprises, American Medical International and Healthtrust into a 186-hospital chain with $10 billion in annual revenues.
Although the merger has only been discussed, industry analysts already are embracing it as a sensible joining of three complementary hospital chains.
The deal was disclosed in a Sept. 20 story in The Wall Street Journal. The newspaper said it obtained drafts of a speech by NME's chairman and chief executive officer, Jeffrey Barbakow, in which he outlined his vision of the transaction. The speech was to be delivered on Sept. 28 at NME's annual shareholders meeting in Santa Monica, Calif.
No agreement on the merger had been reached as of late last week, and the companies said virtually nothing in public about their discussions or intentions.
Acquisition rivals. As a single company, NME/AMI/Healthtrust would rival the size of Columbia/HCA Healthcare Corp., a Louisville, Ky.-based company that bills itself as the nation's largest healthcare provider. Columbia/HCA has $11 billion in annual revenues and about 200 hospitals across the country.
Some see that as trouble.
"You're going to end up with two huge giants that are taking a position that in each market they're in, they want to be the dominant player in that market," said Michael J. McGrath, executive vice president and chief operating officer of St. Francis Medical Center in Lynwood, Calif. "Their motivation is to continue to have the earnings per share and generate the kind of returns shareholders look for."
Before Columbia Healthcare Corp. merged with Hospital Corporation of America earlier this year, the industry had never seen a $10 billion hospital chain. Now, the prospect of two such giants could make hospitals even more nervous.
"If I was a not-for-profit hospital, I'd be worried," said Josh Nemzoff, a principal who specializes in mergers and acquisitions in the Nashville, Tenn., office of Ponder & Co., a bond advisory firm. The merger-and-acquisition activity sparked by Columbia/HCA "will pale in comparison when you have two $10 billion companies trying to buy hospitals," he said.
He noted that Wall Street will expect these companies to sustain a reasonable growth rate. Once they've squeezed a certain amount of savings out of the hospitals they have, they'll have to acquire more to increase their profits, Mr. Nemzoff argued.
Wall Street's initial reaction to the proposed deal appeared less than enthusiastic. On Sept. 20, the day the possible merger was first reported, NME's shares closed at $17.75, down $1; Healthtrust closed at $30.88, also down $1; and AMI closed at $23.25, up 25 cents. All three companies are traded on the New York Stock Exchange.
On Sept. 22, NME's stock closed at $18.25, up 25 cents; AMI's stock closed unchanged at $23; and Healthtrust shares closed at $30.13, up 25 cents. High stakes. As the stakes get higher, hospital boards may not be able to resist the money available from such well-capitalized giants.
For example, earlier this year, St. Francis Hospital in Memphis, Tenn., was being wooed by AMI and Methodist Health System, the city's second-largest hospital system.
"The talk around town was Methodist would get the hospital and the (St. Francis) foundation would get a thank-you note, or AMI would get the hospital and the foundation would get a check," said William Billingsley, executive vice president of Eastwood Medical Center, another investor-owned hospital in Memphis.
The Roman Catholic hospital's board took the check, selling 890-bed St. Francis in May to AMI for $92 million. Proceeds from the sale went to the not-for-profit foundation.
Mr. Billingsley said an NME/AMI/Healthtrust combination might be good for the industry.
"It's high time somebody put together something to compete with Columbia/HCA," he said. "Rick Scott (Columbia/HCA's president and CEO) is real aggressive. Right now, he's got a huge advantage because of his size."
Jerry Futrell, CEO of Smith County Memorial Hospital, a Healthtrust facility in Carthage, Tenn., likes the idea of a merger. That's because an NME facility, 284-bed University Medical Center in Lebanon, is situated between his hospital and other Healthtrust hospitals in north central Tennessee. "I think it would be good for us to change University's status from competitor to family," Mr. Futrell said last week.
Wake-up call. An NME/AMI/Healthtrust merger could be a wake-up call to hospitals that consolidation is moving from a trot to a sprint.
"Given the scope and rapidity of consolidations in the industry, acquiring single facilities is probably too slow a process to be a successful long-term strategy," Mr. Barbakow told employees last month in a companywide newsletter. "It would be preferable to make larger acquisitions of multifacility providers."
Although he didn't name the possible acquisitions, rumors about an AMI/NME merger had been circulating for months. Talk that it could be a triumvirate with Healthtrust, an even larger company in terms of revenues and hospitals, recently surfaced.
Healthtrust executives remained silent last week, although AMI and NME did feel pushed to issue official statements. Both amounted to little more than "no comment."
Although antitrust implications often come up in such mega-mergers, most observers believed the three companies could skirt such problems by divesting hospitals in areas where the Federal Trade Commission raised questions.
The merger could have its biggest impact in Florida, California and Texas-states where all three companies have a heavy concentration of hospitals (See map, p. 2).
For example, in Florida, the three companies own 20 hospitals. Columbia/HCA, meanwhile, will operate 47 hospitals in the state after it completes a joint venture to operate Memorial Healthcare System in Jacksonville.
In the Tampa area, Healthtrust owns two hospitals, AMI owns two, and NME owns one.
"Together they would rival Columbia in that market," said Peter Young, a strategic consultant based in Fort Myers, Fla. "It's absolutely vital that these three companies come together. You can't be effective in managed-care contracts with one facility."
The three companies, if merged, also would wield considerable influence in the Miami/Fort Lauderdale area, where they would own nine facilities.
The merger could hasten needed consolidation in the Miami market, which in 1992 was forecast to have 2,000 too many hospital beds by the turn of the century, said Linda Quick, president of the South Florida Hospital Association. "We're still overbedded, but thanks to Columbia, frankly, we're not as much as we once were," she said, noting that Columbia/HCA has closed about 500 hospital beds.
If the three chains merge, "there's some potential that if they find themselves owning two marginal institutions, they could downsize," she said.
Investment-driven? Although many hospital mergers are determined by community needs, an NME/AMI/Healthtrust combination would be forged by the type of numbers investment bankers generate and the degree of satisfaction with the deal felt by investors such as hotel magnate Jay Pritzker. Mr. Pritzker and his partners in Chicago-based GKH Investments own 32% of AMI, and those investors wanted cash, not stock for AMI, sources said.
Even so, the numbers could be right. An analysis last week by Robinson-Humphrey, an Atlanta-based investment banking firm, showed that based on last week's trading prices the deal would be valued at 6.5 times EBITDA (See chart, this page).
That falls well within the range of other recent hospital chain mergers. Multiples of EBITDA, which stands for earnings before interest, taxes, depreciation, minority interests and amortization, are the most frequently used valuation for hospital mergers.
Of the three companies, NME has the strongest balance sheet, with cash and short-term investments of $373 million, compared with Healthtrust's cash of $63 million and AMI's of $28 million.
NME also has less debt and, therefore, a higher borrowing capacity that could enable it to finance a cash and stock transaction. Under the current scenario, AMI shareholders would receive $15.50 in cash, half a share of NME stock and half an NME warrant for each AMI share they held. Healthtrust shareholders would receive NME stock, according to the draft of Mr. Barbakow's speech.