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Healthcare investors focused on how to make physician deals work

Posted in Healthcare Services Investing

The following article first appeared on Mergermarket (www.mergermarket.com) on Feb. 22, 2019.

Healthcare investors focused on how to make physician deals work

Private equity firms for years have taken a keen interest in specialty physician practice groups, which can generate reliable and leveragable cash flow, but making those investments work has posed significant challenges, experts said at the RSM and McGuireWoods Healthcare and Life Sciences Private Equity and Finance Conference in Chicago this week.

After a physician practice management (PPM) investment boom during the 1990s saw major tumult and bankruptcies, investors are adjusting their models to ensure doctors remain incentivized and engaged post-deal, speakers said at the conference.

Craig Frances, managing director at Summit Partners, noted during a panel that sponsors in the 90s simply “bought up doctor ownership” with heavily levered deals that left doctors dissatisfied after taking a hit in pay and disrupted referral patterns.

Private equity investors also erred in expanding too broadly geographically, as opposed to penetrating existing markets more deeply, said Frances on the “A Multi-Specialty Platform Success Story” panel alongside DuPage Medical GroupCEO Mike Kasper. Summit invested in DuPage Medical in 2016, and DuPage now generates “well over USD 1bn in revenue,” Kasper said on the panel.

While today’s PPM deals grant physicians more equity alongside the sponsor backer, doctor compensation continues to be a pain point.

“On the [compensation] side, a lot of people get this wrong,” said Mark Francis, head of healthcare at Houlihan Lokey. Speaking on the “Investments in Hospital Based Specialties” panel, Francis said private equity investors in physician groups should set compensation “at least 5% to 10% above market rate” to repair doctor income post-deal and retain talent.

Ophthalmology consolidation to continue, with increasing interest in retina

Opthamalogy groups are emerging as a particularly ripe area of investment, as the space remains fragmented and ripe for continued consolidation, experts said at the event.

The market can expect to see “more of the same” when it comes to ophthalmology M&A, with additional platforms being formed with private equity funding, said HIG Capital Principal Andrey Vakhovskiy during the panel.

One emerging area of interest within ophthalmology is retina care, said Brett Skolnik, managing director at Baird, pointing to Quad-C Management’s purchase of NJRetina, a Union, New Jersey-based provider of retinal care services, for an undisclosed price in late 2018.

This year, ShoreView Industries made an undisclosed investment into California Retina Associates. Skolnik told Mergermarket there are a “handful” of other scaled retina groups that could serve as platforms for sponsors.

Revenue stream opportunities from cataract and age-related macular degeneration surgeries as well as drug spend make the subspecialty attractive, said Revelstoke Capital Partners Managing Director Andrew Welch on the panel.

While retina practices can command the double-digit multiples that general ophthalmology groups have fetched, valuations are sometimes discounted due to drug reimbursement risk, said Skolnik in an interview.

Orthopedic new PPM flavor of the year

While the specialty is not yet in the midst of a deal-making frenzy, orthopedics is beginning to gain momentum with private equity. This news service reported that Orthopaedic & Neurosurgery Specialists is exploring a sale throughLazard last November. In September 2018, Atlantic Street Capital acquired OrthoBethesda, while 2017 saw Varsity Healthcare Partners recapitalizing The Orthopaedic Institute and Frazier Healthcare Partners investing in The CORE Institute. Terms of those deals were not disclosed.

Experts on a panel about investor interest in orthopedics said valuation expectations are high, with assets looking to fetch mid-double digit EBITDA multiples. The downstream revenue opportunities of physical therapy, drug, surgery, durable medical equipment and imaging spend make orthopedics an attractive area of investment for both sponsors and hospital buyers, they noted.

Sponsors are still the acquirers of choice for orthopedic surgeons looking to sell their practices, since hospitals “don’t pay a lot,” Managing Director and Principal of Brown Gibbons Lang John Riddle told Mergermarket on the sidelines.

“The PE guys have a different vision,” he said.

Though private equity may be eager to dive into orthopedics, investors should not attempt to apply the rulebook from retail healthcare specialties like dermatology and dental, Riddle said during the panel. Most orthopedic practices are aligned with regional hospital systems, so integrating tuck-in acquisitions can be tricky, he added.

“It’s easier to integrate tuck-ins for derm,” agreed Kevin Becker, vice president at LLR Partners. “In orthopedics, geographic density matters. [The question remains], are there regions of the country that aren’t consolidated where you can build regional density?”

by Claire Rychlewski in Chicago

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