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8 Issues for Hospitals to Consider Before an Integration or Sale

Consolidation and integration within the hospital sector is undoubtedly on the rise. While overall volume is up over past years, hospitals might not always be prepared for completing these types of transactions, especially as healthcare reform and regulatory bodies are part of the equation.

Krist Werling, JD, partner at McGuireWoods, and Bart Walker, JD, associate at McGuireWoods believe there are two main factors that can complicate a hospital sale: the discovery of regulatory issues and the perception of how those issues will affect the buyer's stance and price. "We're in a regulatory environment where hospitals are being watched by every different regulator," Mr. Werling says. "If you go down the road of selling yourself to a hospital system and a [regulatory] item is discovered days before you're supposed to close, worst case scenario is the buyer might get scared and walk away, but more likely the buyer might lower its valuation of the hospital."

"Every buyer is looking for a reason to pay less," he adds.

If a hospital is preparing to put itself on the market for sale or integration into a health system, there are eight main issues they should carefully evaluate beforehand.

1. Relationships with referral sources. Out of all the issues a hospital must think about before it hits the open market, Mr. Werling says creating an exhaustive list of referral sources is the most important. For example, hospital executives should make lists and categories of physicians who lease space, physician employment agreements, medical director agreements and supply agreements. "It sounds simple, but you'd be amazed at hospitals that don't have comprehensive lists of all of their doctors with whom they have financial relationships," Mr. Werling says.

The U.S. Department of Justice is heavily involved in cases regarding the False Claims Act, Anti-Kickback Statute and Stark Law, which deal with fair market value issues and the prohibition of financial relationships between hospitals and referring physicians. There are several exceptions to the laws, and the onus will be on hospital management to make sure any financial relationships clearly fall within those exceptions. "Your buyers are going to look at that," Mr. Werling says. "The buyer doesn't want to buy themselves a problem with the DOJ."

2. Billing and coding. Medicare recovery auditors, zone program integrity contractors and other audit agencies are closely watching hospitals' billing practices. Occasionally, an audit will come back with negative news, such as overbilling Medicare. In those instances, hospital executives must be willing to show all audits, how they were rectified and perhaps conduct a re-audit to ensure its billing and coding practices are compliant and accurate. "When you're selling a hospital, you don't want to have [audits] just sitting there without an explanation of how you dealt with them," Mr. Werling says. "Buyers are going to say: 'Tell us more. What did you do to fix it? Did you contest it? How do we know it's not going to happen again after we take over?'"

3. Licenses, permits and accreditations. Mr. Werling says most hospitals will reach a point where they must clean up different problems regarding licenses, permits and accreditations. For example, the Joint Commission may provide a list of 10 things the hospital can improve on, and hospitals must remedy those recommendations as soon as possible. "Before you go to market, pull together recent surveys and audits, and just take a look at them to see if there are any that haven't been fully fixed," Mr. Werling says.

Additionally, hospitals must clearly document — even something as simple as an internal memo — how they fixed any issues with their licenses, permits or accreditations because a buyer will want to see that proof and self-auditing practice.

4. Commercial payor relationships. Commercial payors reimburse for a majority of healthcare in the United States, so a hospital executive team must be able to talk coherently to potential buyers about its relationships with those big insurers.

Mr. Werling adds that payor contracts that are on good terms but may expire soon could alter whether a buyer wants to get involved. "Even when you're in a time of calm, just make sure you know what your payor agreement situation is," Mr. Werling says. "If you have 40 percent of revenue coming from Blue Cross Blue Shield, is that up for renegotiation on Jan. 1? If it is, the buyer could be worried about that." In that case, a hospital may want to delay going to market until after a new contract is signed.

5. Contracts. Mr. Walker says the payor contracts offer significant value to any selling hospital, but there are other core contracts that must be considered: financing arrangements, large lines of credit, public bond offerings and, to a lesser extent, vendor contracts. "Commercial payor contracts receive the most focus from buyers because that is where the hospital's margins originate," Mr. Walker says. "Other types of contracts, though, can cause considerable heartburn when you are trying to close a deal."

6. Bonds and debt.
Selling hospitals should be familiar with all aspects of their bond and debt documents, such as maturity dates and financing restrictions, but those documents are not the typical lunch-time reading material. Before any hospital prepares for a sale or integration, it must have a thorough understanding of the options under its bonds and debt agreements, and hospital legal counsel should get involved. "Bonds are complex financing instruments for hospitals and are laden with restrictions," Mr. Werling says. "This is a case of dusting those documents off and understanding what they say and what the restrictions are."

7. Culture of compliance. As mentioned earlier, hospitals are deep within a forest of regulations and rules. Any potential buyer in today's market will want to see the hospital endorses and disseminates a culture of compliance throughout the organization. Mr. Walker says hospitals must have an active compliance officer and privacy officer, and the compliance plan must be updated. "Hospitals should be doing [these things] anyway, but it's an area where organizations can get lazy pretty quickly," Mr. Walker says. "You do not want buyers to find the compliance officer asleep at the wheel."

8. Patient privacy. A branch of the culture of compliance that holds extra weight is patient privacy and all HIPAA obligations associated with patient privacy, Mr. Walker says. The updated compliance plan should have an emphasis on patient privacy laws, breach notifications and a specific HIPAA compliance plan. "A big component of this is training," Mr. Walker says. "[Hospitals] should give notices of privacy policies to all patients. In addition, they must have the necessary administrative, technical and physical safeguards in place to protect patient data."

Related Articles on Hospital Transactions:

Co-Management Agreements 101: Basic Principles to Know
Not a Merger, Not an Acquisition: When and Why Strategic Partnerships Make Sense
A Partnership That Breaks the Mold: Q&A With Leaders From Washington's Providence, Swedish Health

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