It’s more than just the money: The importance of analyzing both economic and noneconomic key issues for a successful health care transaction

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With lowering interest rates and federal deregulation, 2025 promises to be a robust comeback year for health care mergers and acquisitions (M&A). At the same time, we’re likely to see more conservative pricing, especially as private equity investors have experienced longer investment hold periods and more modest returns than was the case several years ago.

So what does this mean for potential sellers of health care businesses? We offer the following observations, which are discussed in greater detail as follows:

• Consider both the economic and noneconomic consequences of a purchase or sale. What will be the impact on your staff, patients and the communities you serve? And if there’s an earnout component to the sale, how the business is run once you cede control could impact the success of that earnout.

Norton L. Travis, JD
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• Recent government reports have raised serious concerns about the impact on quality of care and staffing following a private equity purchase of a health care services business, especially in the case of hospital acquisitions. Give thought to what protections/areas of control are of concern and address them as part of the deal.
• Be realistic in terms of pricing based on current market conditions. The multiples of earnings used by buyers in the past are likely to be lower today, so don’t count on getting what a competitor may have received in years past.

Noneconomic issues

In personal services businesses like health care, culture plays a huge role in the business’s success. This goes far beyond policies and procedures — it’s how business/practice owners and senior management have imbued a caring attitude toward staff that, in turn, gets translated into patient satisfaction.

Even in the case of an outright sale, most owners/sellers care deeply about the goodwill they have engendered over the years and want to see their legacy continued in the ongoing care delivered to patients. And, as discussed below, since most sales have an earnout provision (that can potentially have greater value than the base purchase price), a change in culture could negatively impact future earnings and thus dilute the earnout value.

How will culture be affected in a sale? We strongly advise this be given serious consideration and addressed up front. Make a list of your concerns and share them with your deal advisers (bankers and lawyers). And make the issues part of your initial discussions as you screen potential buyers.

As noted above, recent government reports have expressed concerns about the role of private equity (PE) in health care providers caused by postsale cost-cutting and staff reductions. While we believe there are many outstanding PE-owned health care businesses, the red flags raised by these reports should be taken seriously and be part of any seller’s due diligence in analyzing a potential deal.

While the understandable primary focus of the sale of your business will be economics, the failure to investigate and address these noneconomic cultural and operational issues leads to many cases of seller’s remorse.

Key economic considerations

Making the right economic deal goes well beyond just getting the right up-front pricing. But, as noted above, pricing is variable and driven by market conditions and results.

Historically, private equity investors have assumed a three- to five-year “hold period” before selling the business (frequently to the next PE investor through a recapitalization). However, in the past several years, the hold period has been stretched to five to seven years due to higher interest rates and more cautious financial buyers. The trickle-down impact is leading to lower pricing (i.e., lower multiples of EBITDA, or earnings before interest, taxes, depreciation and amortization, a common measure of profitability) than in the past. Is this cyclical or a true correction from exuberant pricing at a time of near-zero interest rates and massive amounts of cash to deploy (which can be subject to refunds if not put to work)? Many industry experts view this as a correction, which, if true, means sellers cannot hold out for what their competitors previously received.

Experience tells us that, beyond price, a very serious factor in the sale of a business relates to the amount of debt or leverage the buyer intends to place on the business. Remember, EBITDA does not take into account debt interest or amortization, so a business could show profitable EBITDA but have insufficient cash flow to meet its debt service. This has led to several health care bankruptcies and should be addressed in advance.

Finally, since most deals include an earnout component, the seller retains a key interest in the business’s postsale success and viability. So addressing issues such as ongoing culture, a motivated workforce and avoidance of excessive debt are important considerations for a successful earnout.

Careful analysis needed

Sales of health care businesses are complex and should be carefully analyzed. Having the right team of experienced advisers is essential in making the right decisions.

Norton L. Travis, JD, is counsel to Rivkin Radler’s Health Services practice group and a former corporate executive involved in hundreds of health care transactions.

Rivkin Radler will delve more deeply into health care M&A at its Health Law Forum, which takes place September 25 in Albany and October 16 in New York City. For more information or to register, email HealthLawForum@Rivkin.com.