By Heather Johnson, Managing Director at Focus Search Partners
Private Equity Is Poised to Benefit from an Exceptionally Active M&A Environment
Historically, healthcare services have tracked 250 transactions per quarter; this has doubled in 2021, proving that this industry represents a ripe and robust deal environment. This is especially true for M&A activity related to the following healthcare subsectors, where deals are getting outsized attention:
- Healthcare software
- Healthcare tech-enablement
- Telemedicine and telehealth
- In-home care with tech-enabled components
- Chronic care
- Drug distribution models targeting non-elective patient care
Are there too many deals in the market right now? To help answer that question, let’s look at the situation from the perspective of some key M&A participants.
Active Sellers in Healthcare
Post-COVID, many companies have stabilized their financial positions and can see an improvement in their current run rates instead of during the pandemic’s height. As a result, strong valuations are driving some near-term ownership exits. Several other factors are also influencing this “sell now” mindset:
- The never-ending pressure for growth
- Cost containment challenges in an inflationary environment
- The struggle to effectively negotiate with payors
- The constant arms race between payors and providers
- The ever-present potential for regulatory change
Baby boomers still represent the largest population of businesses in the potential sell category. Some might not be ready to transact but are feeling pushed to market, fundamentally driven by capital changes. Others see the stiff challenges ahead and are making a mad dash to sell before year-end.
Other Business Owners
Other business owners saw the impact of COVID on the fee-for-service model and may be motivated by fear of scaling their business for a near-term exit. The shift away from the fee-for-service revenue model toward a value-based model has been discussed for years, but COVID has further accelerated the argument for moving to such a model. Equally important, COVID has caused labor costs to skyrocket, which is particularly concerning given that labor tends to account for 50% of total costs in healthcare.
Healthcare service businesses continue to be recession-proof, making this industry attractive to private equity firms. For the last three years, private equity has tended to outpace strategics when it comes to M&A in this sector. Although strategics have the larger checkbook, private equity can close transactions at a quicker pace, which has worked in its favor. In addition, it’s willing to spend money faster and pays higher multiples if top-line revenue is solid and the margins support an outstanding thesis. The sales process might be slightly different for AAA assets, given that speed and price are essential.
Of particular note, private equity acquisitions of eye care companies—namely in ophthalmology and optometry, continue to accelerate, with over seven acquisitions in September alone. According to Pitchbook, there were 28 private equity-led deals in 2019 and 27 in 2020. Already in 2021, between January 1 and October 1, there have been 36.
Private equity’s interest and continued pursuit of primary care physician groups through recent investments have the potential to make healthcare systems nervous because primary care providers control the referral funnel to other specialties affiliated with these systems. It won’t be surprising to see healthcare systems attempt to combat this by playing both offense and defense in the marketplace.
The Bottom Line
We sense not much has changed around purchase price adjustments and earnout. If a private equity firm identifies a vital healthcare services asset with an ROI that meets its investment criteria, it’s a good bet that it will pursue it aggressively.