Private equity in health care

Money chases returns. It is a fact of life. As opportunities for returns get squeezed in industries which have been the hunting grounds for private equity, opportunities within health care start to look more attractive. The latest waves have identified physician practices where value can be unlocked by using PE magic. The targets for PE are multiple including anesthesia, ophthalmology, orthopedics, dermatology, dentistry, radiology, pain medicine, behavioral medicine, urology, and even primary care.
Those pushing PE hold it out as a potential savior for physicians, with acquisition meaning they get a pot of money and relief from tasks other than caring for patients. It sounds too good to be true. However, I can't really say for sure how the proponents of PE investment are wrong. I have some hunches. There are apparently certain advantages that PE firms have over other health care entities such as hospitals or health systems. Unlike hospitals and health systems, whose acquisition prices are subject to fair market value (FMV) in order to comply with Stark and Anti-Kickback statutes, private equity firms have no such restrictions. They can form partnerships based on the strategic value of the practice as opposed to FMV. The strategic value may calculated by applying a multiple to a practice’s EBITDA (earnings before interest, taxes, depreciation and amortization). In addition, PE generally has equity and generally much more equity available than health systems or other suitors already involved directly in health care delivery.

What makes specific specialties attractive are common elements. These include currently fragmented delivery systems, favorable payment environments with strong procedural focus, inclusion of Texas IG)(DDS the menace).

pathology specimen generation, and at least some portion of the business being cash.  Leading this movement was dentistry with a history of corporate dentistry going back more than a decade. There have been what appear to be financial successes but there have also been some spectacular failures including abusive Medicaid clinics investigated by Congress and state authorities(

Of all of the acquisition activities, the one that has captured the most news recently is in the dermatology realm. A recent highlighted article in the NYT (Link) peeled back some of the sausage making involved in making PE investment work, at least in this specialty.

 It has raised a firestorm within the field (Resneck) with the current Chair Elect of the AMA Board of Trustees, Dr. Jack Resneck weighing in. PE firms tend to leverage non-physician clinicians, who are less expensive than physicians, to deliver care, often under limited supervision. This is an especially attractive specialty for PE since there are fewer regulatory burdens involved. Clinics are generally free standing and not burdened with hospital or health system credentialing requirements. A number of dermatologists are cashing out. A number are also raising dire warnings regarding the immediate effects on patient care and the long term effects on the specialty.

This appears to be the start of the wave of consolidation. There are still mountains of cash looking for returns and interest rates are still at historic lows. In the cross hairs are specialties that have bucked the trend toward acquisition by health systems. PE is likely to compete successfully for practices because of the inherent advantages noted above. There are inherent issues which will need to be grappled with, primarily focusing on where capturing efficiencies driven by financial concerns and non-clinicians begins to drive care decisions. In addition, expanded use of non-MD clinicians practicing at "the top of their licenses" will create additional tensions, especially if these changes are deployed in environments where few if any relevant clinical outcomes are measured.

One additional factor which may loom large is how PE influences will play out in an industry where the prices are fixed by administrative mechanisms. The niches within healthcare targeted by PE are specifically the services with the largest profit margins, likely so because they have been mis-priced. In other industries, PE driven expansion in supply will generally drive down prices, creating a feed back loop to discourage additional entry into the field. However, in healthcare, increased supply often drives increased demand, with the pricing controlled by the RUC and Medicare, and private payers simply following their lead.

For those who think that PE entry driving inefficiencies out of the industry will drive down health care costs, guess again. Heavily utilized services which deliver high margins develop interest groups which maintain mispricing by political means. Prices are not set by any sort of market. They are set by the RUC. Be prepared for an explosion of costs as PE driven expansion drives more and more utilization. PE may be good for extracting value from industries but there is reason for skepticism that they will add value to consumers. I believe this pathway may be good for investors in the short term but bad for everyone else.