In 2008, analysts expect for-profit chains to take a back seat to not-for-profits, as the credit crunch that began with subprime mortgages ripples through healthcare. With less credit making private equity firms less active, the startup for-profit chains funded by private equity are not expected to be as aggressive in acquiring hospitals. Large not-for-profits, on the other hand, will continue to be strategic acquirers, snapping up a hospital here and there to keep another large, healthy system out of their market or to build market share to win more leverage with payers, analysts say.
M&A Trend: No big deal
Tight credit could make it tougher to finance large for-profit acquisitions like those that made headlines the past two years
The biggest deal in Modern Healthcares 14th annual mergers and acquisitions report was Community Health Systems $6.97 billion acquisition of 52-hospital Triad Hospitals. After completing that deal in July, Community began paring its portfolio, agreeing to six deals to sell a total of 14 hospitals, including the still-pending sale of nine hospitals to privately held Capella Healthcare for $315 million.Download the Mergers & Acquisitions report from our Databank/Surveys section, Mergers & Acquisitions: 2008.
HCA, whose $33 billion leveraged buyout dominated dealmaking activity in 2006, also trimmed a bit from its portfolio, selling its two hospitals in Geneva, Switzerland, and a Florida hospital.
All of those deals were among the 103 acquisitions, joint ventures, long-term leases and mergers announced or completed in 2007, or four fewer deals than in 2006. The 2007 deals involved 214 hospitals, down by 117 from the previous year. The drop is explained by the size of the HCA leveraged buyout, as that deal alone accounted for 172 hospitals in the 2006 report.
Leveraged for-profit chains shed hospitals in 2007 as expected, says Dean Diaz, vice president and senior creditor officer for Moodys Investors Service. Its a normal portfolio rationalization, he adds. The higher debt loads that most of the for-profit chains are carrying also will force those companies to be more disciplined about future acquisitions, he says, while tight credit markets could further hamper deal-making among debt-laden systems.
Center in Miami to the University of Miami, Coral Gablesis an example of the kind of deals likely to be common in 2008, analysts say.
For the university, acquiring 350-bed Cedars was a strategic move to expand its research, education and market share. Capacity constraints at the universitys teaching hospital, county-owned 1,776-bed Jackson Memorial Hospital, prompted the school to consider buying or building a hospital to accommodate planned growth, says William Donelan, vice president for medical administration and chief operating and strategy officer for the universitys Miller School of Medicine and University of Miami Health System.
The $260 million acquisition, which closed Dec. 1, 2007, came after HCA spurned two prior offers from the university to buy operating control of Cedars, which is adjacent to the universitys campus, Donelan says. Why HCA reversed its decision is uncertain, Donelan says, but the universitys determination to own a teaching hospitaland build a competing hospital, if need bemay have been a factor. Holding onto the hospital would have meant facing competition from doctors who practiced at Cedars, Donelan says. If we couldnt buy Cedars, we were going to do something else, he says.
The acquisition positions the university to expand into specialties and sophisticated services that take advantage of the high-end services typically offered by an academic medical center, Donelan says. The university has targeted cardiology, orthopedics and urology, as well as robotic and minimally invasive surgery for growth opportunities. Officials hope such services, and the university hospitals all-private rooms, will differentiate the hospital in Miamis competitive market and help attract patients from across South Florida or even internationally, he says.
HCA executives have said repeatedly that the company is not planning any large asset sales to pay off part of its debt, but they have acknowledged that asset sales may provide some cash for debt repayment. HCA executives also have noted that the company has continually re-evaluated its portfolio and divested hospitals almost yearly.
In a roundabout way, the tight credit market may help financially healthy not-for-profit systems make more deals, says Jeff Schaub, a senior director of Fitch Ratings who covers not-for-profit healthcare credits. With their strong credit ratings, they are less likely to have trouble selling bonds, and they also are less reliant on bond insurance, which is shrouded by uncertainty because of questions about the financial health of the largest bond insurers, Schaub says. Those factors both tend to affect hospitals that have more marginal credits, and that could help push them into selling, he adds.
The most common acquisition candidate is the hospital that was doing OK but took a look at what stronger health systems were doing with their facilities and realized that they dont have the balance sheet or the income statement to put up a $150 million bed tower, Schaub says. In high-growth areas, the necessity of doing that is quite plain, and it led hospitals to look for alternative sources of investment capital. A good example of a deal like this from 2007 is in Maryland, where 144-bed Montgomery General Hospital, Olney, was sold to MedStar Health, Washington, Schaub says.
These deals should continue in 2008, Schaub adds. The big, multistate systems with good balance sheets will continue to make deals, perhaps a bit more slowly till the bond insurer questions are resolved, he says. Strategic buyers still will have strategic reasons for making their deals, even if interest rates climb or deals take longer to complete, he says.
Another area that should contribute to deal activity is physician alignment strategies, Schaub says. Selling a share in a hospital to its practicing physicians is one of many possible choices, which also include deals to manage service lines with specialist physicians and joint ventures for ambulatory facilities, he says.
Those strong not-for-profit acquirers should find that they have less competition these days. Not only are the big for-profits saddled with heavy debt loads, the midsize companies also are capital-constrained because their financial backers arent as flush with cash as they have been in recent years, says Josh Nemzoff, a transactions consultant and the head of Nemzoff & Co., New Hope, Pa. In recent auctions conducted to sell hospitals, Nemzoff says there are fewer for-profit bidders than there have been in recent years. Not-for-profit bidders are starting to outnumber for-profit bidders, even though the number of not-for-profit bidders has remained flat, he says.
I certainly dont see the entire market, but I see a statistically significant sample of the market, and companies that used to be on our bid list arent bidding, he says. I dont think the number of hospitals that are for sale is going to change that much, but I think the number that get sold is going to be reduced. There are some hospitals that only for-profits will take a chance on that wont get any bidders now. For-profits have less capital, so there are fewer able to take that risk. That could lead to more distressed not-for-profits filing for bankruptcy, he adds.
Nemzoff also sees not-for-profits continuing to consolidate their markets and whole-hospital joint ventures as a physician alignment strategy. For an example of the former, he points to the Philadelphia market, where 503-bed Abington (Pa.) Memorial Hospital bought 151-bed Warminster (Pa.) Hospital in order to close it. The opportunity from consolidation completely changes the economics of it, even though they pay more than a new entrant to the market would be willing to pay, Nemzoff says.
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