Private equity funding in healthcare has reached record highs, fueling growth across multiple sectors of the industry as regulators seek more information about their investments.
Annual private equity deal values have nearly tripled from $41.5 billion in 2010 to $119.9 billion in 2019, according to a white paper from UC Berkeley and the American Antitrust Institute. Corporate investors—including executives from firms like Blackstone and General Catalyst Partners featured in Modern Healthcare’s 100 Most Influential People in Healthcare—have provided the capital for healthcare companies to scale up and invest in new technology, but also pitted profit-maximization endeavors against healthcare’s core mission.
“There has been an explosion of private equity deals in healthcare,” said Richard Scheffler, a health economics professor at UC Berkeley who co-authored the white paper, adding that he wouldn’t be surprised if investment increases by 30% to 40% in 2022 thanks to stock market windfalls. “These firms are sitting there with capital and have to do something with it. But the nature of these PE firms creates some ethical dilemmas when it comes to providing care.”
PE firms’ primary target has been home health and outpatient care, with the number of related buyouts more than doubling from 2016 to 2020, according to the paper. In addition to rolling up physician practices, private equity has also invested in the inpatient sector, pharmaceuticals and medical equipment.
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The 25 most active private equity firms are currently holding about $510 billion in uninvested cash, according to recent data from S&P Global.
“It’s more of a question of where are PE firms not investing in healthcare,” said Timothy Epple, a managing director at Avalere Health. “They have the capital to create scale where there isn’t scale today and use it to grow the business, negotiate better rates and drive (risk-bearing) programs that mom-and-pop providers can’t do.”
Broadly, private equity allows funds and investors to buy directly into private companies. The general partner typically supplies about 2% of the fund’s capital; the remainder is funded by institutional investors and banks.
“With private equity typically using fairly high levels of debt to increase their return on investment, this stability is an attractive characteristic that reduces risk,” said David Kaplan, director of corporate ratings at S&P Global.
Private equity funds generally have a 10-year expiration date, and the return on the PE firm’s investment is calculated as a multiple of earnings before interest, taxes, depreciation and amortization.
The swell of outside investment in healthcare has reignited the debate as to whether competing aims—generating a short-term return on investment and providing optimal care—can coexist. The conflict is less pronounced in areas like digital health or the supply chain than in provider sectors. Consider the recent $30 billion purchase of a majority stake in Northbrook, Illinois-based medical equipment supplier and distributor Medline by Blackstone Group, Carlyle, Hellman & Friedman and GIC.
LifePoint Health, for example, is a private-equity supported hospital chain with 87 facilities. The Brentwood, Tennessee-based company aims to acquire the post-acute and home health provider Kindred Health, which TPG Capital and Welsh, Carson, Anderson & Stowe and insurer Humana purchased.
“This is a culmination of the long process of privatizing medicine, based on the theory that medicine is like any other market and should be driven by investor and market opportunity,” said Dr. David Blumenthal, president of the Commonwealth Fund.
Primary-care and specialty providers like orthopedics, dermatology and ophthalmology remain prime targets of corporate investors. Consolidating those markets spreads the fixed costs of information technology, marketing, legal and other administrative expenses across combined medical groups. Those services are in high demand as the population ages, and market share expansion and better data analytics give them more leverage to negotiate better rates with insurers.
Fragmented and less efficient hospital-based specialties such as emergency care, anesthesiology and radiology are attractive for the same reasons, experts said.
“When we talk to PE firms, they are interested in the culture of the physicians that work there. They want to make sure there’s alignment,” said Rick Kes, a partner and healthcare senior analyst at accounting firm RSM. “They will also look at geographic areas that have growth and to some extent payer mix as they look to take on risk. They have better access to capital and thus more appetite for risk as it relates to value-based care.”
Private equity’s aims with for-profit primary-care companies and specialty physician groups should be differentiated, Blumenthal said.
PE firms believe that primary-care physicians can unlock the treasure trove of waste in the healthcare system and compete with the fee-for-service system by eliminating unnecessary care and charging more reasonable rates, he said. They can boost demand in the currently undervalued primary-care sector through better compensation models, Blumenthal said.
Rolling up specialty physician groups is a way to better control well-reimbursed services through local market monopolies and charging higher fees, he said.
“That’s much different than the rationale for primary care—make the system work better, take money out and reward those who make it better,” Blumenthal said. “Some PE investment may be positive, some may exaggerate the problems that already exist in healthcare.”
Regulators in the dark
Regardless of the investment strategy, private equity firms aren’t required to publicly disclose their finances, leaving industry overseers in the dark. This has caused concern that some PE firms will cut staff at the expense of patients’ health to boost profits.
Private equity-owned helicopter ambulance carriers exploit an “inelastic market” by charging nearly twice as much as air ambulance carriers that are not part of a private equity-owned or publicly traded company, research from the USC-Brookings Schaeffer Initiative for Health Policy revealed.
Regulators have also questioned PE-backed companies that provide outpatient services—including firms like TeamHealth and Envision, which staff emergency departments and other hospital services and operates ambulatory surgery centers.
“When TeamHealth was bought for $8 billion, the only way I saw that being a worthy investment is if they exploited the inelastic demand of emergency care,” said Glenn Melnick, a health economist at the University of Southern California. “It makes you wonder—are these PE-driven transactions purely to exploit market failure in the healthcare system?”
TeamHealth affiliate ASC Primary Care Physicians Southwest filed a lawsuit against Molina Healthcare in 2020, alleging that Molina underpaid its Texas-based physicians for out-of-network care. That’s a common strategy among PE-backed emergency physician staffing companies—not participating in insurer networks and resorting to litigation, industry observers said. TeamHealth said in a statement that a jury ordered Molina to pay $17.5 million in punitive damages after its “unfair and deceptive” practices.
The duopoly of emergency department physicians in Texas could stifle wages, Melnick said.
“Monopsony buyers may be able to drive up prices to health plans, but they are not going to be able to pass it off to doctors,” he said. “A doctor could ask for a raise, but the staffing firm would have the power to say, ‘If you don’t like it, leave and go to Montana.’ Over time, independent doctors will lose market power.”
In the hospital sector, private equity largely targeted financially stable, for-profit facilities with higher charge-to-cost ratios, a new study published in Health Affairs found. Across all hospital types, private equity-acquired hospitals accounted for 11% of all patient discharges as of 2017, the researchers found.
Hospitals backed by PE investment experienced higher operating margin growth than facilities without PE investment. That was, in part, due to all-staff ratios decreasing 0.4% from 2003 to 2017, compared with a 5.6% increase among hospitals without PE investment over that period.
“There is some caution that we should have about the whole thing. Will practices cut costs as fast as they can to get an attractive EBITDA?” asked Paul Keckley, industry consultant and managing editor of the Keckley Report. “Then you get starved practices that are shortcutting staff—operationally, it’s tough.”
Attention from capitol hill
Private equity investment has caught the attention of Congress, which has called for more transparency and regulation. Policymakers have asked for more information about how private equity’s ownership model of nursing homes impact patient outcomes, pointing to studies that link PE’s short-term turnaround model to worse outcomes.
“In addition to not having the regulatory framework, you don’t have a system that can monitor what is going on. The market is getting ahead of the academics and regulators,” Melnick said. “There is going to be this conflict between pure profit-driven entities and the front-line provision of care that is going to come up more and more.”
While PE firms can reduce overhead by streamlining back-office tasks, among other strategies, lawmakers have criticized several of their tactics that can increase costs. Leveraged buyouts can make it more expensive for providers to pay down debt and require health systems to sell hospitals, for instance. Some firms sell providers’ real estate and require them to lease it back or force them to buy goods and services from other businesses owned by the firm. Providers might also have to pay management fees to the PE firm that owns them.
The Medicare Payment Advisory Commission suggested minimal reporting criteria or ownership metrics related to PE firms’ healthcare investments to allow policymakers to compare ownership structures and assess impact.
Regulators can go the antitrust oversight route, although it’s much harder to unwind deals that are already done, experts said. Or state or federal authorities could try to regulate their activities via price caps or legislation, similar to the No Surprises Act regarding suprise medical bills.
“We just need a lot more transparency. There is too much that we are paying for that we don’t know whether it is benefiting or hurting us as consumers,” Melnick said.
The volatility of the COVID-19 pandemic likely pushed some healthcare companies into deals sooner than they would’ve otherwise, experts said. Expect private equity and venture capital deal values to rise because there is more cash on the sidelines, observers said.
“Expect to see more activity in 2022,” Kes said. “The only thing that will continue to be a headwind is labor force issues.”