Global private equity-backed healthcare deals rose almost 50% to $63.1 billion in 2018, the highest level since 2006, according to a new report.
The provider sector continued to be the most active, with global transaction value surging to $35 billion across 159 deals, compared with $18.9 billion across 139 deals in 2017, Bain & Co.'s 2019 private equity and corporate M&A report found.
Provider deals also led investment domestically, at 84 transactions worth $23.2 billion—the vast majority of the total $29.6 billion of U.S. funding. Behavioral and retail health, physician groups and home care drew strong interest, according to the report.
The deal opportunities stem in part from disruption through new technology and reimbursement volatility, according to James Nicholls, managing director at private equity firm Fitzroy Health.
"It is true that it increases the risk profile, but it also increases potential returns," he said.
Private equity investors are attracted to more consumer-friendly, alternative care-delivery models as the market shifts away from acute-care settings. Investors thus have been looking for ways to build scale in fragmented categories and geographies, according to the report.
Investors at McGuireWoods' Healthcare and Life Sciences Private Equity & Finance Conference last year said they are steering investment away from large acute-care health systems and instead focusing on urgent care, home health, micro-hospitals and other specialty inpatient facilities.
Private equity firm Corbel Capital Partners is focusing on dental and chronic care, dermatology, opthalmology, drug compounders, substance abuse centers and physical therapy, and trying to "stay away from consolidated sectors," Brian Yoon, a principal at Corbel Capital Partners, said at the conference.
For large or more complex assets, buyers partnered to help finance the deal or spread the risk. The report noted TPG Capital and Welsh, Carson, Anderson & Stowe joined forces with insurer Humana in April to buy Mooresville, N.C.-based hospice provider Curo Health Services for about $1.4 billion. The same trio struck a deal in December 2017 to buy home health provider Kindred Healthcare.
There is more willingness to deploy capital in creative structures and use scale to diminish risk, Nicholls said.
"They are getting creative in two dimensions: the breadth of clinical areas and the maturity of the deals," said Nicholls, citing more investors that are buying into early-stage concepts.
There is a premium on organizations that are better equipped to handle new payment models, Nicholls said. The report noted acquisitions in companies such as naviHealth and Landmark Health that have capitated payment risks.
Ability to scale up operations is key, said Justin Doshi, a partner at Bain & Co.
"Where deals have gone wrong is when the management team has underestimated the operational complexity of scaling a business across multiple regions or markets," he said.
Investment has expanded beyond traditional retail health assets into niches such as behavioral health, where autism care and other specialty segments hold the promise of returns, as evidenced by Blackstone's acquisition of the Center for Autism and Related Disorders, the report noted. Concierge care, telemedicine and home health models also drew more interest, highlighted by the Carlyle Group's $350 million minority investment into 1Life Healthcare, the technology and management company affiliated with One Medical, an independent network of membership-based primary care services.
In addition to private equity firm KKR's $9.9 billion purchase of physician staffing company Envision Healthcare, the firm also acquired a majority stake in the dental support organization Heartland Dental, which provides administrative and other services to more than 840 dentist offices throughout the country. Also, private holding company Cranemere acquired a majority stake in NorthStar Anesthesia, which offers outsourced anesthesia services. On the physician group front, the report cited Summit Partners and OptumHealth acquiring a controlling stake in Sound Inpatient Physicians for $2.2 billion.
Physician practice management and health IT targets drove a significant portion of value in 2018, while retail health and traditional provider deal value rose slightly.
"There is a lot of interest in primary care because when it is done right, it can immediately affect the cost curve because it can directly impact downstream referrals," Doshi said.
Still, long-term trends such as an aging population, the rising prevalence of chronic disease, and expanding demand for quality and efficiency, have driven domestic investment activity for several years.
"We believe that as long as these larger health systems have the right capital structure and infrastructure, there is going to be an upside because there is a fair amount of cushion to weather volatility in payment schemes," Kevin Tyler, vice president of investments for Welltower, told Modern Healthcare in October. Welltower agreed to buy HCR ManorCare's skilled-nursing and memory care real estate for about $2.2 billion in a joint venture with ProMedica.
Private equity investors have bet on the recession-proof healthcare industry beyond the provider sector and healthcare IT, which saw the Athenahealth and GE Healthcare buyouts that were collectively valued at almost $7 billion. Pharma also experienced strong activity, according to Bain, highlighting CVC Capital Partners, PSP Investments and StepStone Group's $7.4 billion acquisition of Italian pharmaceutical company Recordati and Advent's $2.4 billion acquisition of generic-drug manufacturer Zentiva.
Payer services attracted growing interest as well, evidenced by Clayton, Dubilier & Rice's majority stake acquisition of naviHealth and General Atlantic's investment in Landmark Health, as investors take positions on the growing trends around Medicare Advantage and complex populations.
As the healthcare industry is expected to continue to draw significant private equity investment, some observers are concerned that the incentive structures could bring negative consequences.
The need for private equity firms to achieve high returns, often at least 2.5 times, over a relatively short period of time may conflict with the need for investments in quality and safety and the push for less utilization, according to a recent paper published in JAMA co-authored by Harvard Medical School student Suhas Gondi and Dr. Zirui Song, an assistant professor of healthcare policy and medicine at Harvard Medical School.
Also, after a private equity firm consolidates a fragmented market, it could drive out competitors, they said. That being said, patients may benefit from private equity funding that can bring more efficiencies to a wasteful system, according to the paper.
Either way, more private equity money will flow into healthcare, Nicholls said.
"Funds will continue to get larger and more active," he said.