It is no surprise that merger and acquisition (M&A) activity is on the minds of healthcare leaders across the country: There were an average of over 100 affiliations of various forms annually among health systems and/or individual hospitals between 2012 and 20171 as healthcare provider sector activity continues at a steady pace.
Perhaps more surprisingly, providers with considerable scale and financial strength continue to pursue affiliations with larger parent entities. There were more than 20 mergers between 2012 and today where the smaller party had greater than $1 billion in annual operating revenue. In 2017 and 2018 alone, four horizontal mergers between two organizations larger than $1 billion were announced or closed2.
The fact that the average “deal” size continues to increase indicates that many already-merged systems are pursuing broader and larger partnerships to strengthen their position and ensure future longevity. Further, 33% of hospitals in the U.S. remain standalone operations, indicating that further consolidation is a possibility in many markets3. As such, M&A activity is likely to remain a cornerstone growth strategy for healthcare providers, regardless of the size and scale of their operation.
For most providers, the affiliation process is a pivotal event in an organization’s lifecycle, one that requires significant time, attention, and guidance by senior leadership. In anticipation of continued M&A activity through 2018 and beyond, Veralon surveyed nearly 30 healthcare executives across the country, focusing on the executives’ hands-on experience in supporting affiliation planning processes, to learn more about their strategic considerations and how they approached planning for affiliations.
The survey pool included chief executive officers, chief strategy officers, and senior vice presidents of business development and planning, among others. Their organizations ranged from academic medical centers to community health systems to community hospitals, in rural, urban, and multi-state markets.
The survey surfaced five major insights for providers considering M&A strategies in the years to come:
1. Well-executed affiliation planning processes are guided by a vision. All the executives who perceived their affiliation planning process to be well executed had developed a guiding vision for that affiliation. Components of those vision statements range from broad concepts such as organizational sustainability to specific considerations including focused service line growth or changing reimbursement mechanisms.
As with visioning during a strategic planning process, good vision statements for an affiliation convey the “big picture” of organizational direction and are sufficiently specific to allow testing of which strategies and partners will help to achieve that vision.
Organizations that have established a clearly articulated vision and goals for what they want to accomplish are best positioned to determine which partnership models (e.g., merger, joint operating agreement, joint venture, CIN, clinical service line affiliation, brand affiliation), and therefore which potential partners, will work best for them.
2. While affiliation planning processes can take a great deal of time, shorter yet still effective processes are possible. The majority (over 60%) of affiliation planning processes take at least six months to reach a letter of intent, and over a third take more than a year to get to that point. It can take several additional months to reach a definitive agreement and regulatory review processes can be as long as a year.
These timeframes are problematic given the speed of change in the healthcare environment. Providers need to strike a balance between being nimble and responsive to their market, and thoroughly considering all partnership options.
All of the survey respondents who reached a letter of intent in less than six months felt that their affiliation planning process was well-executed; almost 90% of these said the process was allowed a sufficient amount of time, indicating that successful short-term planning processes are possible. The leaders of these more rapid processes indicated that the following factors contributed to their success:
• Involvement of expert facilitators to work with a small group of individuals
• Early, frequent involvement of physicians
• Transparent, repeated communication regarding process milestones
3. While forums with a limited number of individuals are the preferred mechanism of stakeholder engagement, medical staff members could be more fully involved in the process. The majority of executives noted that they primarily used individual conversations and small group meetings (versus broad input mechanisms, such as town hall meetings and surveys) to engage stakeholders, an approach that they viewed as very effective. However, more than half of executives noted that they reached employed and independent medical staff through broad input mechanisms, and in retrospect, it would have been better to have engaged medical staff representatives to a greater degree.
Respondents at AMCs were more likely than their community-based and independent hospital counterparts to believe that there was a missed opportunity to engage physicians in the affiliation process. This may be due to more traditionally siloed structures at the AMCs, or leaders of community-based organizations may have felt that more intense involvement of physicians was not possible.
4. Community-based health systems value cultural compatibility much more highly than academic health systems. Respondents were asked to rank order seven important considerations in evaluating a potential affiliation opportunity: financial implications, medical staff acceptance, competitor/market response, cultural compatibility, community impact/benefit, legal or regulatory issues, and employee acceptance. Executives at community-based health systems rated cultural compatibility highest among these factors. In contrast, cultural compatibility was the fourth-highest rated consideration for executives at AMCs, behind financial implications, medical staff acceptance, and competitor/market response.
The colloquial business phrase “culture eats strategy for lunch,” does have merit, and the value of cultural compatibility in a meaningful affiliation should not be underestimated. Like many other financial and operational aspects of planning for an affiliation with a specific partner, understanding cultural compatibility takes time and purposeful examination to uncover. Ultimately, it is important to understand how a potential partner will evaluate an affiliation opportunity, as those motivations drive desired benefits, preferred terms, and set the groundwork for a successful partnership moving forward.
5. When organizations pursue an affiliation as a proactive strategy, the motivation is growth; when organizations are opportunistic in responding to other hospitals seeking partners, the motivation is value-based care. Growth is a central strategy for most hospitals and health systems, and many seek to execute that strategy via new affiliations and acquisitions. For executives responding to the survey whose affiliation was part of an existing organizational strategy, the most desired benefits of the transaction were revenue enhancement and expansion of geographic reach.
Not all affiliations are a component of a well-defined organizational strategy. Systems may find themselves presented with an unanticipated opportunity for an affiliation, for example with a struggling community hospital. Such an opportunity may not fit with preconceived attributes of an ideal partner to achieve growth targets. In those instances, organizations need to rely on other defined organizational goals to determine the benefits of proceeding or the risks of not doing so.
Executives at organizations that engaged in an affiliation opportunistically rather than as part of a proactive strategy stated that their most desired benefits were to better manage population health, expand their referral base, and reduce cost of all critical components of value-based care.
Determining whether to pursue unplanned affiliation opportunities often requires comparing the impact of pursuing the affiliation vs. that of inaction, for example if the target affiliates with a competitor. An affiliation planning process that is guided by a clear organizational strategy has a much better chance of timely success.
Scott Stuecher, MHA, Manager, Veralon
Scott has 10 years of healthcare experience and has worked with community health systems, independent hospitals, and academic medical centers across the country, as well as broad hospital networks. He often manages independence assessment, affiliation planning and partner selection, and network formation engagements for Veralon, including the financial aspects of these projects. Scott has spoken at healthcare leadership conferences.
Laura Zacchigna, Manager, Veralon
Laura assists Veralon clients with strategic planning, merger and affiliation projects (including projects for both academic medical centers and a rural hospital consortium) and ambulatory care network development. She has worked with large health systems, academic medical centers, and community hospitals.
1 Irving Levin Associates.
2 Pinnacle Health-UPMC, Advocate Health Care-Aurora Health Care, Beth Israel Deaconess Medical Center-Lahey Health, Dignity Health-Catholic Health Initiatives, and Partners Healthcare-Care New England.
3 American Hospital Association, 2018 AHA Hospital Statistics.