how to prepare your hospital laboratory to maximize its ... · how to prepare your hospital...
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©2011 Chi Solutions, Inc. Proprietary and Confidential.
Mergers and Acquisitions of Pathology and Clinical Laboratories
How to Prepare Your Hospital
Laboratory to Maximize Its Value in a
Sale or Joint Venture
Earl Buck
May 5, 2011
©2011 Chi Solutions, Inc.. Proprietary and Confidential. 1
Purpose
Topics to be covered:
Pros and cons of selling
Forms of divestiture
Common issues encountered
Recommendations interspersed throughout this
presentation
Focus = Hospital laboratory and/or outreach “divestiture”
Take away will be your own list of needed actions if you are
contemplating a transaction
©2011 Chi Solutions, Inc.. Proprietary and Confidential. 2
Are Hospital Labs/Outreach of Interest?
Yes No Uncertain
To your knowledge, has your hospital been approached
about selling your outreach program to a national or
regional competitor? 16.7% 83.3% 0.0%
Are you contemplating growth of your outreach program
via acquisition of a lab or lab outreach program in your
market? 14.4% 78.9% 6.7%
9th Annual Laboratory Outreach Survey,
published in 2010
Note: Activity has increased
in the past 12 months.
Likelihood of Outreach Program Sale
Somewhat
Likely
5.6%
Not Likely
94.4%
©2011 Chi Solutions, Inc.. Proprietary and Confidential. 3
Is the Program of Sufficient Size?
PROGRAM SIZE - FISCAL YEAR 2009
Annual Net Revenue
Maximum
Upper Quartile
Median
Lower Quartile
Minimum
Average (Mean)
Standard Deviation
$70,795,982
$10,439,194
$5,584,245
$2,443,681
$150,000
$8,779,519
$12,106,840
Annual Test Volume
Maximum
Upper Quartile
Median
Lower Quartile
Minimum
Average (Mean)
Standard Deviation
3,374,059
670,749
393,517
205,000
5,520
597,456
723,601
Calculated Net Revenue Per Test
Maximum
Upper Quartile
Median
Lower Quartile
Minimum
Average (Mean)
Standard Deviation
$46.67
$31.34
$19.45
$12.67
$6.05
$23.88
$13.16
Attractive
to buyers
Min
imu
m
©2011 Chi Solutions, Inc.. Proprietary and Confidential. 4
Forms of Divestiture
Sale
Service To Whom
Outreach Customer List National/International Laboratory
Customer List plus Core Lab Regional Laboratory
Entire Lab Operation Private Equity
JV
Service To Whom
Core Lab and Outreach Program National Laboratory
Entire Lab Operation Regional Laboratory
Private Equity
Majority Ownership
Recapitalization Option
©2011 Chi Solutions, Inc.. Proprietary and Confidential. 5
Pros and Cons: Sale or Joint Venture
Pros
Cash and/or Capital
Management Expertise – Business Focus
Infrastructure/Systems Tested
Contract Pricing – Leveraged Volume
Lower Unit Cost – Economies of Scale
Access to Technology
High Interest Level in Today’s Market
JV – Keeps Hospital Engaged
Cons
Loss of Management Control
Loss of Local Testing/Local Market
Loss of Service Mgmt. – Medical Staff
Mission Compatibility – NFP vs. FP
Loss of Continuum-of-Care Concept
May Mandate to Manage Hospital Lab
Non-compete in Outreach Market
Impact on Pathologists
©2011 Chi Solutions, Inc.. Proprietary and Confidential. 6
Increasing Value: Key Components
Make sure you have a well-documented story of success
before the sale offering is made.
Approach the sale from a factual basis and keep
emotional aspects in the background.
Value to buyer = future return/purchase price.
Future return includes positive impact to buyer’s
existing business (seller can’t define) plus the return
generated by the acquired business (seller can define).
Maximize the strengths of the business and fix or
eliminate the weaknesses of the business.
If uncertain how to do these things, hire someone who
has done it before to package the business and present
the best story backed up by documentation.
©2011 Chi Solutions, Inc.. Proprietary and Confidential. 7
Are the Program Strengths Important to the Buyer?
PRIMARY OUTREACH PROGRAM STRENGTHS
Many of these are, depending on the buyer and their intent regarding future site of testing,
but you must be prepared to translate these into value for the prospective buyer.
2.0%
6.1%
6.1%
9.1%
12.1%
14.1%
20.2%
25.3%
26.3%
37.4%
40.4%
41.4%
43.4%
46.5%
49.5%
62.6%
68.7%
80.8%
Other
Success in Penetrating Large Clinics
Leader in Hospital Reference Test Market
Aggressive Sales Team
Excellent Billing Service
Key Managed Care Contracts
Dedicated Sales Force
Connectivity to Clients
Flexible Pricing
Clinical Patient Data Repository
Strong Physician Staff Loyalty
Strong Support from Hospital Administration
Convenient Patient Service Centers
Profitability
Pathologist Servcies and Reputation
Quality Reputation
Strong Customer Service
Turnaround Time
0.0% 25.0% 50.0% 75.0% 100.0%
©2011 Chi Solutions, Inc.. Proprietary and Confidential. 8
Eliminating Weaknesses Creates Value
PRIMARY OUTREACH PROGRAM WEAKNESSES
Some of these will prevent the operation from being positioned as a potential acquisition.
The more you can eliminate, the more value will be enhanced.
1.0%
3.0%
4.0%
6.1%
6.1%
7.1%
11.1%
12.1%
12.1%
13.1%
15.2%
16.2%
19.2%
27.3%
28.3%
29.3%
31.3%
36.4%
39.4%
47.5%
47.5%
Turnaround Time
Customer Service Problems
Other - Managed Care Contract Exclusions
Lack of Outreach Experience
Profitability
Other
Limited Patient Access
Staffing Shortage
Don't Know Market Opportuinty
Physician Staff Loyalty
Need to Install a New LIS
No Dedicated Courier Servce
Limited Presence in Market
Pressure to Further Reduce Costs
Pricing Inflexibility
No Marketing Plan
Mediocre Sales Capability
Billing and Collections
Hospital Pricing
No Dedicated Sales Staff
Ineffective IS Connectivity to Physician Offices
0.0% 25.0% 50.0% 75.0% 100.0%
©2011 Chi Solutions, Inc.. Proprietary and Confidential. 9
If Not Competitive, the Value is Minimized
The biggest competitive problems for respondent outreach programs are lack of IT
connectivity, managed care contracting issues, pricing constraints, lack of marketing efforts
or experience, and lack of an electronic medical record.
BIGGEST COMPETITIVE PROBLEMS
1.8%
1.8%
2.8%
3.7%
3.7%
4.6%
5.5%
5.5%
9.2%
11.0%
13.8%
17.4%
19.3%
Lack of Phlebotomists in Physician Offices
Limited Infrastructure and Financial Resources
Lack of Marketing Efforts and Experience
Physician Influences
Lack of Leadership and Administrative Support
Other
National Competition
Billing and Collection Issues
Lack of Electronic Medical Record
Lack of Dedicated Sales and Marketing Staff
Pricing Constraints
Managed Care Contracting Influences
Lack of IT Connectivity to Clients
0.0% 5.0% 10.0% 15.0% 20.0% 25.0%
©2011 Chi Solutions, Inc.. Proprietary and Confidential. 10
Due Diligence Problem Areas
Organization Trademarks and Copyrights
Employees, Benefits, HRM Patents and Technology
Operations Litigation
Real Estate Environmental
Tangible Personal Property Insurance and Risk Management
Financial and Accounting Contracts
Taxes IT/LIS
Regulatory Compliance
Organization
Financial and Accounting
Regulatory Compliance
Insurance and Risk Management
Contracts
IT/LIS
©2011 Chi Solutions, Inc.. Proprietary and Confidential. 11
Common Issues Encountered
Organizational
Only hospitals that have created independent laboratories
and/or separate business structures are positioned to
maximize value.
Labs as revenue centers can be valued if financial
performance is separately tracked and not co-mingled in
the complex hospital accounting methodology.
Executive leadership must be clearly defined (who will lead
the negotiation), and the authority to make decisions
regarding a deal must be clear with a process that can
move at a reasonable speed.
Asset documentation must be accurate/current (facilities,
equipment, cash, accounts receivable, etc.).
©2011 Chi Solutions, Inc.. Proprietary and Confidential. 12
Common Issues Encountered
Financial and Accounting
Must have documentation that billing compliance
programs are in place and effective (audits done, correct
CPT codes in use, necessary order authorization
documented, etc.).
Must have accurate financial statements documenting the
profitability/margin of the outreach program as a stand-
alone (do documents tell a consistent story?).
Must be able to document key financial performance
metrics (payor mix, DSO, bad debt, etc.).
Must be able to clearly document net revenue via revenue
cycle management data and reports.
©2011 Chi Solutions, Inc.. Proprietary and Confidential. 13
How Focused Are You Regarding Profitability?
Depends on Your Perspective
Business Focus
Less More
Profit
Cost
Financial Focus
Hospital
Without
Outreach
Commercial
OR Based on
Gross Revenue
OR Based
on Estimated
Net Revenue
OR Based on
Actual Net Rev
If You Don’t
Know Your
Net Revenue
Or Cost,
You Don’t Know
Your Profit
©2011 Chi Solutions, Inc.. Proprietary and Confidential. 14
Profitability: A Key Determinant of Value
PROFITABILITY REVIEW
Yes No Uncertain
Has your outreach profitability been analyzed? 67.4% 19.6% 13.0%
Actual Estimated Uncertain
Was net revenue actual or estimated? 53.8% 40.0% 6.2%
Yes No Uncertain
Expenses included:
Hospital Overhead
Laboratory Administration
Outreach Support
50.8%
73.4%
83.1%
43.1%
21.9%
7.7%
6.2%
4.7%
9.2%
Average Incremental Uncertain
Technical costs based on:
Average or Variable/Incremental 22.4% 60.3% 17.2%
If a prospective buyer has to guess about the true cost
of operating/owning your laboratory, the value will be diminished!
©2011 Chi Solutions, Inc.. Proprietary and Confidential. 15
Billing: Is Net Revenue Documented?
TYPE OF BILLING SERVICE UTILIZED
Contracted Outside
Billing Service
7.6%
Separate In-house or
ASP Billing Application
13.0%
Hospital Financial Billing
Department Using HIS
79.3%
Percentage of
Collections Paid to
Outside Service
Maximum 9.5%
Upper Quartile 7.4%
Median 5.3%
Lower Quartile 4.9%
Minimum 4.5%
Average (Mean) 6.4%
“Estimated” net revenue will reduce the value of the operation!
SHOULD BE
PROBABLY NOT
©2011 Chi Solutions, Inc.. Proprietary and Confidential. 16
Billing: Is This Data Specific to Lab Outreach?
BAD DEBT AND DSO
Bad Debt Rate
Maximum
Upper Quartile
Median
Lower Quartile
Minimum
Average (Mean)
11.0%
7.3%
4.0%
2.4%
1.0%
5.0%
Know the Bad Debt Rate
Don’t Know
27.3%
72.7%
Days Sales Outstanding (DSO)
Maximum
Upper Quartile
Median
Lower Quartile
Minimum
Average (Mean)
110
49
41
32
26
45
Know the DSO
Don’t Know
29.4%
70.6%
Any data or lack of data that challenges the credibility
of reported revenue will diminish the value of the business!
©2011 Chi Solutions, Inc.. Proprietary and Confidential. 17
Common Issues Encountered
Regulatory Compliance
Significant CAP or CLIA deficiencies in the recent past can
impact the comfort level of the buyer/partner.
Stark Law implications will always be a focus during the
due diligence process—review this before the offering.
Billing compliance has been mentioned previously, but
merits reinforcement again here.
Tax compliance, whether it be typical business tax filings
or unrelated business tax filings, demonstrates the level of
sophistication of management practice and can build or
destroy trust with the buyer/partner.
©2011 Chi Solutions, Inc.. Proprietary and Confidential. 18
Common Issues Encountered
Risk Management
Any regulatory compliance issue will translate into a risk
management concern.
History of “switched specimens,” especially in anatomic
pathology, causes great concern on the part of buyers (one
firm reports this was an issue in five different transactions
in the past 18 months)—P/P in place and demonstration
that it is followed.
The number of pending significant quality failures will
impact the terms of the deal.
©2011 Chi Solutions, Inc.. Proprietary and Confidential. 19
Common Issues Encountered
Contracts – Purchasing and Service
For too many operations, complete files are not well
maintained to document contracts:
Contract currently in effect (sometimes expired).
Copy of dated, executed contract.
Current pricing that applies to the contract.
Impact of a change in ownership or control.
Unable to satisfy due diligence requests.
Payor contracts may also be a point of interest if an
ongoing obligation rests with the lab operation.
©2011 Chi Solutions, Inc.. Proprietary and Confidential. 20
Common Issues Encountered
LIS and IT Systems
LIS that is not current and effective will reduce value.
LIS that cannot support lab as a freestanding IT product
can be a negative, to include the staff to support the
product.
Existing interfaces to providers and the ability to create
interfaces are viewed as valuable benefits by today’s
buyers.
Business systems (e.g., billing, CRM, scanning, sales
tracking, etc.) can add value to the business.
©2011 Chi Solutions, Inc.. Proprietary and Confidential. 21
Common Issues Encountered
Other Categories
Presence of a union will eliminate some labs from
consideration by some buyers.
Inability to have the management resource/knowledge to
respond to due diligence requests in a timely manner will
be a negative.
Loss of market share or a negative trend in financial
performance will have a negative impact on value.
Lack of adequate preparation prior to the sale offering can
lead to significant “surprises” that can sometimes derail a
negotiation.
Ability to disclose all aspects of the operation and
document the same is a real plus.
©2011 Chi Solutions, Inc.. Proprietary and Confidential. 22
Summary Recommendations
Educate yourself regarding options available and
understand the valuation of your business—be realistic in
expectations.
Know what you are willing to do and not willing to do
regarding a deal and who you are willing to consider as a
buyer or partner.
Net revenue and the customer list must be clearly
documented, with asset detail also important.
The more you can present the operation as a well-run
business (vs. an excellent clinical service), the higher the
value.
Understand the impact of a sale/JV on future lab services
to inpatients/outpatients and your medical staff.
Ask for help—do not go it alone!
©2011 Chi Solutions, Inc. Proprietary and Confidential.
Earl Buck
Chief Operating Officer
(734) 662-6363 x471