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The Keckley Report

The Three Major Challenges for Private Equity Investors in Healthcare Services

By August 7, 2023No Comments


Healthcare is a capital intense industry: facilities, technologies, workforces, infrastructures and clinical breakthroughs require access to funding from banks willing to lend and investors willing to bet.

For most, being a limited partner in a private equity fund is an attractive hedge against inflation, especially a fund that targets healthcare wherein demand is increasing and shifting, costs are soaring and consumers are receptive to new alternatives.

Private equity is big business: Private equity funds have nearly $2 trillion in dry powder to invest. The Securities and Exchange Commission (SEC) recently reported that private funds’ gross assets now surpass those of the commercial banking sector at more than $25 trillion–up from $9 trillion in 2012. And the American Investment Council reports that…

·       12 million are employed at Private Equity-Backed Companies.

·       32,041 Private Equity-Backed Businesses have been funded since 2017.

·       34 million Americans Depend on Private Equity to Support Their Retirements.

And healthcare is a prime target:  According to data compiled by Pitchbook, “private equity invested more than $206 billion in U.S. health care throughout 2021 to fund research into deadly diseases like Alzheimer’s and Parkinson’s, expand and renovate facilities, modernize medical records and health care data, and make other needed investments.”  Bain reported “Despite the slowdown in healthcare private equity deal flow in the second half of 2022, firms continued to create healthcare-focused funds and raise near-record levels of capital in 2022. Data from Preqin suggests that firms raised more than $15 billion in new buyout capital for funds where healthcare is the exclusive or core focus, which has happened in only two other years in the last two decades—2019 and 2021.”

In 2021, the Medicare Payment Advisory Commission (MedPAC) released a report affirming that private equity investments “play an important role providing hospitals, nursing homes, and physician practices with capital and expertise to navigate an increasingly complex health care landscape” but offered Congress no recommendations about how to navigate its growing role.

The playbook for PE investing in healthcare services is widely-known:

·       Thesis: Healthcare is expensive, wasteful and unsustainable in its current structure: Incumbents in healthcare services, especially hospitals and physicians,  need capital to survive and are receptive to private money.

·       Strategy: Land, Expand, and Exit in 5-7 years: Leverage debt at competitive rates to fund most of the deal; operate aggressively by lowering operating costs; grow revenue aggressively thru adjacency acquisitions and partnerships; price aggressively and avoid compliance penalties associated with safety or quality issues.

·       Keys to success: Timing, attractive deal terms, a scalable operating platform, exceptional CEO and dispassionate exit strategy. And for navigating expectations of limited partners (high net worth individuals, pension funds, et al), the General Partner gets a 2% management fee and 20% of the value created in the enterprise at exit.

My take:

For the past decade, PE investments in distressed hospitals, medical specialties (radiology, dentistry, dermatology et al), outpatient surgery/ diagnostic facilities and logistics solutions have been popular targets. Going forward, opportunities in services will increasingly center on business models that produce significant, near-term cost-reduction compared to alternative solutions as issues around affordability and employer health costs mount.  But three issues will impact the role and success of PE investing in healthcare services looking ahead:

1-Heightened Regulatory Scrutiny There’s growing concern in Congress and among regulatory agencies about the role of private equity in healthcare services.

·       In Congress and in some states, ownership restrictions and added disclosure requirements are being considered.

·       The SEC is advancing changes to require added protections for investors in PE funds.

·       The FTC is examining the correlation between PE ownership and business practices and consumer choices.

·       CMS is considering analyzing the association between PE ownership and prices.

2-The Maturity Wall: “A maturity wall is fast approaching for PE funds that are nearing the end of their term life to distribute their capital back to investors through exits. PE investors will need to pick up their exit pace or will be confronted with 20% to 26% of the capital initially invested by funds to hit the maturity wall. The cumulative amount of still- held investments could grow to over $360 billion in the next 12 years.” (Pitchbook June 30, 2023). The maturity wall will be especially problematic in communities where medical practices and/ancillary services providers acquired thru PE-sponsored deals are forced to switch owners necessitating possible disruptions in care.

3-Heightened Competition among PE Funds: PE funds compete for good deals and satisfied investors. Bigger funds have advantages over smaller funds i.e., domain expertise, analytic models and access to effective executive talent. The deal landscape in healthcare services has slowed though opportunities remain. It’s a buyer’s market prompting intensified competition between funds and aggressive negotiations between buyers and sellers. Qualified investors are comparing fund performance and moving funds to the most successful.

The healthcare services market in the U.S. is worth $3.5 trillion and is forecast to increase at 5%/yr. for the next decade. It’s traditionally dominated by nonprofit operators and market conditions that favor incumbents over newbies, bigger over smaller and business to business (B2B) models over business to consumer (B2C). That’s changing. Investor-ownership in healthcare services is increasing. Distinctions between privately operated PE owned hospitals and services providers and investor-owned publicly traded operators are being scrutinized by regulators even as the tax-exempt status enjoyed by not-for-profits is under the microscope.

Access to capital that’s cost-effective is critical to the future of health services providers.  PE will be increasingly part of that discussion and with it, added risk.



Securities and Exchange Commission

Paul Kiernan “Private Equity, Hedge Funds Brace for Coming SEC Overhaul: Regulators could adopt new rules for firms such as Blackstone and Millennium as soon as this month” Wall Street Journal August 2, 2023

Chris Cumming “Efforts to Spotlight Private Equity’s Healthcare Stakes Struggle for Traction” Wall Street Journal August 6, 2023

“CMS Proposes Updates to The Hospital Price Transparency Rule”, Health Affairs Forefront, August 3, 2023. DOI: 10.1377/forefront.20230731.301847

“Healthcare Private Equity Outlook: 2023 and Beyond” Bain April 10, 2023


Re: hospital finances: “The challenges facing hospitals remain but have stabilized, allowing organizations the chance to consider the measures needed to return to profitability…This ‘new normal’ is an incredibly challenging environment for hospitals. It’s time for hospital and health system leaders to begin developing and implementing a strategy for long-term sustainability, including expanding their outpatient footprint and re-evaluating where finite resources are being utilized.”

Eric Swanson, Kaufman Hall National Hospital Flash Report for June 2023

Re: role of nurses: “Our view is that nurses have – for more than a hundred years – been a line-item afterthought in care delivery, while being asked to do most of the work and deliver most of the care. We believe that letting nurses lead the conversation about new care delivery models and giving them a voice in the system will unlock tremendous potential to deliver better outcomes at lower cost.”

Ted Jeanloz, CEO ConnectRN

Re: employer health cost activism: “We’ve long thought that employers have the best platform to challenge insurance companies on whether they are truly delivering the highest-value product to their customers. A key issue here is whether or not courts view TPAs as fiduciaries, legally responsible for acting in their clients’ best interests. Court rulings on this issue to date have named employers themselves as the fiduciaries of their self-funded health plans, requiring them to make sure insurance money is doled out responsibly. But in a Catch-22, employers are not able to do that if their TPAs refuse to share claims payment data. And it is the insurers who negotiate contracts with providers, which govern reimbursement levels and payment terms. Breaking open payer-provider contracts with new transparency requirements has given employers a new window into how their healthcare benefit dollars is spent—and they seem unimpressed by what they’re seeing.

Chas Roades, Lisa Bielamowicz MD The Weekly Gist August 4, 2023

Re: geriatric medicine: “While the importance of the profession of geriatric medicine and the need for geriatricians seem obvious, it should not surprise anyone that it is the career choice of ever-diminishing numbers of medical students and residents. “The demographic trends in our population have not attracted them to the field; societal attitudes about aging have clearly compounded the negative effects of lower compensation and lack of prestige on their career decisions.

Our nation is beginning to experience the full impact of the aging of our population. Sadly, our health system and its workforce are wholly unprepared to deal with an imminent surge of multimorbidity, functional impairment, dementia, and frailty. This is the reality that health care organizations and medical schools have not adequately appreciated, or have chosen to ignore…. The decline of the profession of geriatric medicine matters, and all too soon we will all realize why.”

Jerry H. Gurwitz  “The Paradoxical Decline of Geriatric Medicine as a Profession” JAMA August 4, 2023. doi:10.1001/jama.2023.11110

Re: Amazon Health: “Amazon’s Future in Healthcare: Amazon is building its version of consumer-centric healthcare. Will consumers continue to come? How will we look back upon the platforms and shovels being built today in 10 years? Things are picking up speed, and yet…healthcare is notoriously slow. Platform thinking and ROI is long-term, and healthcare is default long-term. Eventually these platforms and flywheels will emerge, but we have a long time to go. But if anyone can succeed, it’s Amazon. “

Blake Madden August 3, 2023

Re: hospital operating margins: “Some analyses seem to suggest that anything above a zero percent margin is inherently bad, as though the operating goal of hospitals and health systems should be to incur financial losses. This would be financially reckless and ignores the reality that hospitals and health systems need some margin to keep pace with new life-sustaining advances in medicine, help support their workforce and continue to keep their doors open to care for their patients and communities….

It also is worth comparing hospitals’ break-even operating margins against other health care entities. For example, the operating margins for pharmaceutical companies in the first quarter of 2023 alone ranged from 17.5% for Johnson & Johnson to 34.3% for Pfizer. Similarly, net profits for insurance companies are staggering. From 2020 to the first quarter of 2023, United Healthcare alone reported nearly $60 billion in profits.

2022 was the most financially challenging year that hospitals and health systems have faced since the pandemic, and many of those same challenges persist. Moreover, hospitals and health systems face new financial headwinds and uncertainties, as states begin Medicaid redeterminations and disenrollments and Congress considers new proposals to cut hospital payments.”

Bharath Krishnamurthy, Director, Health Analytics & Policy “Margin Misconceptions: What do Break-even Hospital Margins Mean for Patient Care?” August 1, 2023

Re: accountable care organizations: “The start of 2023 saw growth in the number of ACOs participating in CMS’s accountable care initiatives, in part due to the start of the redesigned ACO REACH model. More than 588 ACOs with more than 700,000 participating health care providers and organizations are serving more than 13.2 million beneficiaries, with additional growth expected as finalized policies go into effect. In the 2024 Physician Fee Schedule, CMS is continuing to pursue policies to grow ACO participation, particularly in underserved areas… Proposed policies in the 2024 Physician Fee Schedule would be expected to increase participation by 10- 20%, if finalized. CMS is also seeking comments on financial benchmark policies to further encourage ACO growth, such as additional prior savings adjustments, additional changes to regional adjustments, and future refinements to the ACPT….

CMS is committed to advancing accountable care in a way that demonstrates improvement in quality, outcomes, and the care experience of beneficiaries, and that supports care delivery redesign for physician practices. CMS is focused on achieving its goals through implementation of the finalized 2023 policies in the Shared Savings Program, successful implementation of ACO REACH, and exploring the next phase of its accountable care strategy of alignment, growth, and equity. The vision articulated in 2022 will continue to guide regular policy updates, scale important learnings to improve beneficiary care, and create new model tests that can strengthen access to high-quality, integrated, and coordinated care for beneficiaries—so that by 2030, 100 percent of traditional Medicare beneficiaries are in accountable care relationships where they experience coordinated, whole-person care.

“Building On CMS’s Accountable Care Vision to Improve Care for Medicare Beneficiaries”, Health Affairs Forefront, July 31, 2023. DOI: 10.1377/forefront.20230727.802728

Re: pharmaceutical manufacturer tax rate: “Americans pay the highest prices in the world for lifesaving medicines — roughly triple what people in the world’s other big economies pay for the same name-brand, on-patent drugs…

But take a look at the corporate disclosures of America’s largest pharmaceutical companies, and a puzzling hole opens. The six major US pharmaceutical firms that provide fairly detailed data reported making $215 billion worth of sales in the US for 2022. Given America’s systematically higher prices, their sales abroad were logically more modest — totaling $170 billion. Despite this discrepancy, the companies reported earning very, very little in profits — in some cases, absolutely nothing — in the US. Of their $100 billion combined profit, the companies said $90 billion was made abroad, while a paltry $10 billion came from their US operations. That comes out to a profit margin of 5% in the US and a margin of over 50% abroad. What’s going on?

Tax avoidance, of course…On paper, America’s corporate-tax rate is 21%, but the country’s largest and most profitable pharmaceutical companies don’t pay anything close to that. The effective tax rate for most of the big pharmaceutical companies on the profits they keep in the US is much closer to 10%. But since most of their profits are shifted overseas, the eight largest US pharma companies end up paying only about 3% of their global profit to the US Treasury. Most average American households have a far-higher tax burden…To add insult to injury, in many cases, these profits come from drugs developed through research made possible by National Institutes of Health funding and US tax credits for research and development. Despite this support, the US gets neither the biopharmaceutical-manufacturing jobs nor the tax revenues from medicines brought to market by US companies — it gets stuck with only the tab. If that sounds like a raw deal, that’s because it is.”

Brad Setser, Tess Turner “Big Pharma’s big tax dodge” Insider August 3, 2023

Population Health

Aflac Survey: Avoidance of Common Health Screenings: Percentage of Surveyed Employed US adults who Avoided Common Health Screenings:

•       Pap smear: 31%

•       Blood test: 28%

•       Mammogram: 26%

•       Colonoscopy: 25%

•       Skin cancer exam: 20%

•       STD screening: 18%

Aflac: Too many US adults are skipping wellness appointments that can help save their lives, June 28, 2023

WHO: global workforce shortage:

The World Health Organization in March this year published a list of 55 countries—37 of them in Africa—with the most pressing health-workforce challenges. These countries on average have just 15 health workers per 10,000 people, compared with 148 per 10,000 in high-income countries.

The WHO has asked its members not to actively recruit doctors and nurses from these 55 nations without first sealing bilateral agreements to support the countries where they are recruiting.

Melanie Evans “Countries Raid Each Other’s Health Systems in Global Battle for Nurses” Wall Street Journal August 2, 2023

Regulatory Updates from Last Week

CMS Payment updates:

•       Hospital Inpatient Prospective Payment System final rule (Aug. 1) a 3.1% pay bump (net $2.2 billion increase) based on a hospital market basket update of 3.3%, reduced by the required 0.2% for hospitals that are meaningful users of electronic health records and submit quality measure data. This final rule drops Medicare disproportionate share hospital payments and uncompensated care payments by around $957 million and is based on mandated Office of the Actuary estimates the rate of uninsured decline to 8.3% next year from 9.2% this year.

•       Long-term care hospital PPS for FY 2024, which increases LTCH payments by 0.2% ($6 million) in FY 2024 relative to FY 2023, including an increase of $10 million in payments for site-neutral cases and a reduction of $4 million payments for standard rate cases.

•       Skilled nursing facility FY 2024 final rule, which increases aggregate SNF payments by an estimated 4.0% ($1.4 billion) in FY 2024 relative to FY 2023.

Labor Department: A UnitedHealth Group unit denied thousands of emergency department and drug screening claims without reviewing them for medical necessity, the Labor Department alleges in a lawsuit initiated last Monday. The complaint accuses UMR of violating the Employee Retirement Income Security Act of 1974 by denying” claims without assessing their merit.

FDA approves anti-depressant: Last week, the FDA approved an antidepressant pill prescribed as a two-week course instead of being taken chronically to treat postpartum depression. But the FDA did not approve the drug for the more prevalent major depression, where clinical trials showed mixed results supporting its efficacy.


Cigna proposes double digit premium increases: Thursday, Cigna announced it is to raise individual market premiums 23.6% and small-group premiums 22.9% next year compared to an industry average 9.7% and 10.7%, to offset greater-than-expected, $160 million risk-adjustment charges for its health insurance exchange business. Cigna Group’s (CI.N) better-than-expected second-quarter profit did not allay investor fears about its persistently high costs, sending the health insurer’s shares down over 4% on Thursday.

Highlights of the earnings call:

•       Net income declined 6.2% to $1.5 billion, or $4.92 per share, in the second quarter. Revenue rose 6.8% to $48.6 billion. Membership grew 9.5% to 19.5 million, driven by increases in exchange, Medicare Advantage and employer stop-loss coverage.

•       Maintained its annual profit forecast of at least $24.70 per share.

•       Expects a medical care ratio of 81.5% to 82.3% this year with costs highest in the fourth quarter.

Cigna’s persistent cost pressures cloud upbeat second quarter Reuters August 3, 2023


Study: Loss of independence linked to higher prices for hospitals: Wharton researchers analyzed inpatient prices from 2012-2018 for independent hospitals before and after affiliation with a multi-hospital operator: Highlights:

•       Average inpatient prices for commercially insured patients rose 5% after health systems acquired an independent hospital.

•       Readmission rates for patients receiving cardiac care at those hospitals increased by up to 12%, and remained elevated for three years after the acquisition.

•       Although operating expenses declined by 6% post-acquisition attributable to service and employment cuts at formerly independent hospitals.

•       Independent hospital acquisitions were associated with 3% employment reductions and the closure of maternity wards, predominantly located in rural areas.

Harris “Private Equity Ownership in Health Care Linked to Higher Costs, Worse Quality” JAMA August 2, 2023. doi:10.1001/jama.2023.13620

Study: 340B contract pharmacy growth: The 340B Drug Pricing Program allows certain US hospitals and federal grantees to purchase discounted prescription drugs and bill insurers to generate revenue to care for safety-net–reliant patients. As 340B has grown to account for 7.2% of gross drug spending, participants or covered entities (CEs) increasingly contract with pharmacies to dispense discounted drugs. This mutually beneficial relationship increases revenue for the CEs, and pharmacies commonly receive dispensing fees. Since the Health Resources and Services Administration (HRSA) lifted the limit of 1 contract pharmacy per CE in 2010, 33% of retail pharmacies have at least 1 contract and 76% of US counties contain at least 1 contract pharmacy. Findings of analysis:

•       The number of retail pharmacies participating in 340B increased from 789 in 2009 to 25,775 in 2022 or from 1.3% to 40.9% of all retail pharmacies.

•       Depth increased over time. In 2009, 81% of contract pharmacies had only 1 contract, and by 2022, 40% had 1, 23% had 2, 27% had 3 to 5, 7% had 6 to 9, and 3% had 10 or more.

•       Safety-net composition decreased over time. In 2009, 95% of pharmacies contracted exclusively with safety-net hospitals and clinics. By 2022, only 54% of pharmacies contracted exclusively with safety-net facilities, and 16% contracted with no safety-net facilities.

Nikpay et al “Trends in 340B Drug Pricing Program Contract Growth Among Retail Pharmacies From 2009 to 2022” JAMA Health Forum August 4, 2023;4(8):e232139. doi:10.1001/jamahealthforum.2023.2139

Study: inpatient surgical outcomes in competitive markets: Researchers analyzed the association between hospital market competition and patient outcomes after high-risk surgery by examining records for almost 2.3 Medicare enrollees who underwent elective, high-risk surgery between 2015 and 2018 within high-competition vs low-competition hospital markets. Findings:

“This study found that hospital market competition was not consistently associated with improved outcomes after high-risk surgery. Efforts to maintain hospital market competition may not achieve better postoperative outcomes.”

•       Hospitals in the highest-competition U.S. markets had mixed postsurgical outcomes compared with those in the lowest-competition markets: risk-adjusted 30-day mortality was lower for pancreatectomy, rectal resection, and lung resection; higher for mitral valve repair and carotid endarterectomy and not different for open aortic aneurysm repair, bariatric surgery, esophagectomy, knee replacement, and hip replacement.

•       Trends in 30-day readmissions similarly suggested a mixed bag in terms of the performance of high-competition hospitals — depending on the exact operation — relative to the lowest-competition hospitals.

•       Compared with low-competition hospitals, the high-competition counterparts were more likely to have older patients (mean age 74.4 years vs 74.0 years, P<0.001) and people with more comorbidities (67.1% vs 63.9%) undergoing high-risk elective surgery.

Thumma et al “Outcomes for High-Risk Surgical Procedures Across High- and Low-Competition Hospital Markets” JAMA Surgery August 2, 2023. doi:10.1001/jamasurg.2023.3221

Microsoft-Duke clinical artificial intelligence partnership announced: Last week, Microsoft announced its latest partnership with the Duke University Health System to create a secure cloud ecosystem across Duke Health and create the Duke Health AI Innovation Lab and Center of Excellence. Additionally, Duke Health and Microsoft are both founding members of the Coalition for Health AI, an academic system and tech industry-led group launched in early 2022 to develop guidelines on how healthcare AI should be designed to protect privacy, limit harm and achieve better health and equity outcomes.

Last month, Microsoft announced a two-year deal with Teladoc to integrate AI and ambient clinical documentation tech into a virtual care platform while Epic announced its collaboration to integrate the same app into its electronic health system, with systems like Stanford Health Care, UC San Diego Health, UNC Health and UW Health signing up to be early adopters.

Duke Health and Microsoft partner on ‘game-changing’ AI health care tools News Observer August 2, 2023

Investor-owned hospital financials for 2Q 2023: Community Health Systems, HCA Healthcare, Tenet Healthcare and Universal Health Services released second-quarter results last week:

•       Franklin, Tenn.-based CHS reported a net loss of $38 million on revenue of $3.1 billion compared with a net loss of $326 million in the same period in 2022 on revenue of $2.9 billion.

•       Nashville, Tenn.-based HCA reported net income of $1.19 billion on $15.86 billion of revenue in the second quarter. That compares with net income of $1.16 billion in the same period last year and $14.8 billion of revenues.

•       Dallas-based Tenet Healthcare reported $123 million in net income for the second quarter of 2023 on revenue of $5.1 billion. That figure compared with net income of $38 million on $4.6 billion of revenue in the same period last year.

•       King of Prussia, Pa.-based UHS reported net income of $179.4 million in the second quarter of 2023 on revenue of $3.5 billion versus $163.9 million in the same period in 2022 on revenue of $3.3 billion.

Investor relations sites for companies.


Study: physician turnover: Researchers examined whether physician turnover has changed over time and whether it is higher for certain types of physicians or practice settings for the period 2010-2020. Finding:

“The annual rate of turnover increased from 5.3% to 7.2% between 2010 and 2014, was stable through 2017, and increased modestly in 2018 to 7.6%. Most of the increase from 2010 to 2014 came from physicians who stopped practicing increasing from 1.6% to 3.1%; physicians moving increased modestly from 3.7% to 4.2%. Modest but statistically significant (P < 0.001) differences existed across rurality, physician sex, specialty, and patient characteristics. In the second and third quarters of 2020, quarterly turnover was slightly lower than in the corresponding quarters of 2019.”

Bond et al “Physician Turnover in the United States”

Private equity-backed medical groups retain lobbyist: “Three large and growing physician groups backed by the private equity giant Welsh, Carson, Anderson & Stowe have hired a prominent lobbying firm to influence federal policy covering mergers and acquisitions. Over the past two weeks, United Musculoskeletal Partners, U.S. Anesthesia Partners, and U.S. Radiology Specialists each registered with Forbes Tate Partners, a lobbying shop founded by political insiders who used to work in President Bill Clinton’s administration.

The doctor groups hired Forbes Tate to lobby on “issues related to health care consolidation,” according to federal lobbying disclosures. Each company and Welsh Carson did not respond to inquiries. Forbes Tate also did not respond.

The new lobbying contracts also come as a new academic study found private equity ownership of physician practices and other health care companies inevitably leads to large spikes in prices and out-of-pocket costs for patients, governments, employers, and insurers.”

Bob Herman “Private equity-owned physician groups plan lobbying push on mergers” August 1, 2023