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3 Questions to Ask Before Merging or Selling Your Hospital

Healthcare reform in addition to other market forces has led to a recent uptick in hospital merger and acquisition activity. These deals often provide smaller hospitals  with improved access to capital and technology and more negotiating power with both vendors and payors. As a result, independent hospitals across the country are more seriously contemplating their ability to succeed long term without a merger, sale or some other type of partnership or affiliation.

"Almost all non-profit hospital boards are in the process of evaluating the 'new world order' of healthcare post-reform, and as a result, [the industry] will experience tremendous growth in mergers, affiliations, joint ventures and outright sales of community hospitals in the next 5-10 years," says Bill Baker, partner at KPMG and head of its healthcare transactions services practice. "We were just starting to see the first waves of it in 2010."

However, these transactions can create a great amount of uncertainty among hospital staff, physicians and the community. In order to ensure any deal proceeds as smoothly as possible, hospital boards should ask the following three questions when considering a potential transaction or affiliation.

1. What resources are needed to ensure long-term success? Hospitals with uncertain futures may be unsustainable for a number of reasons. For example, a hospital might have significant debt leverage and is in need of a partner to take on its debt or unfunded pension liabilities. In other cases, the hospital may be in need of capital for expansion projects or an electronic medical record system and should seek a partner willing to guarantee capital.

"Hospitals should start going down the list of factors — its balance sheet, overall market situation, it's current relationship with physicians — and start to assess what its needs are," says Mr. Baker. "The stronger you are financially and operationally will impact your sense of urgency and type of transaction or affiliation considered."

2. Will a merger, sale or partnership provide these resources? Once a hospital has determined its key needs for future success, it can begin to seek out a buyer or partner willing to provide these resources. Typically the hospital's mission and its board will determine whether a sale, merger or other agreement is pursued.

"If the seller wants to retain some level of influence and control, it might consider becoming a part of a larger health system in a deal that gives the seller a board seat. Joint ventures, with companies such as LHP Hospital Group and RegionalCare Hospital Partners, give the seller a significant voice [too]," says Mr. Baker. "The desired level of retained governance usually dictates the kind of transaction the hospital will consider."

However, as a rule of thumb, hospitals with very poor balance sheets and market positions are most likely to consider a sale, says Mr. Baker. Community- and county-owned facilities are also often more willing to move forward with an outright sale, as opposed to other types of entities. "We're seeing a much greater desire by local governments to ask, 'Do we really need to be in the healthcare business, or would our community be better served under a new ownership structure?'" says Mr. Baker.

Hospitals that decide to sell their assets will increasingly look at factors of the deal beyond purchase price. For example, a hospital might accept a lower purchase price if the buyer maintains certain levels of services that may be losing money or indigent care programs to ensure access to the community, adds Mr. Baker.

3. What factors will attract or deter to a buyer or partner? Last, a hospital should consider which factors will make it attractive or unattractive to a buyer or partner. Before approaching potential partners or distributing an RFP, hospital leaders should understand why the hospital might, or might not, draw in interested parties.

"Hospitals have to consider why another system would want to acquire or partner with them. There has to be some kind of benefit," says Mr. Baker. "Systems will look first at whether the hospital's problems are solvable or not."

Issues such as poor contracting rates or mismanagement are more easily remedied than problems such as tremendous capital requirements — for example a physical plant that is so old, it's obsolete — or labor liabilities, such as a very strong union, says Mr. Baker. "If the another system does not believe they can fix the key problems and improve the hospital’s operational and financial performance, then they likely will pass on investing capital and a turnaround effort into the facility.”

The bottom line is that if a hospital has very serious, difficult-to-solve problems, it may not be able to attract a partner or buyer, in which case, the hospital "has no other choice to do its best to operate as an independent," he says.

Learn more about KPMG's Health Group.

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