Healthcare M&A: Is It Different This Time?

A surge of large-scale healthcare mergers suggest the calculus and goals may have changed within the healthcare industry.

This article first appeared in the March/April 2018 issue of HealthLeaders magazine.

Today's mergers are less a play on market domination and negotiating leverage with health plans, and more of a bid for vertical integration and development of a high-value provider network.

Several sizeable healthcare mergers have been announced over the past year. Dignity Health and Catholic Health Initiatives signed a definitive agreement as 2017 closed. Chicago-based Advocate Health Care plans to merge with Milwaukee's Aurora Health Care.

Even Seattle's Providence St. Joseph Health, which was created by a major merger announced just 18 months ago, has been rumored to be in talks with Ascension Health about a merger that would dwarf all other hospital-centric mergers announced recently.

Research suggests that despite the claims of the organizations involved, multistate healthcare mergers often result in higher costs for healthcare purchasers and do little to improve care, although an American Hospital Association–funded research study disputes that conclusion.

But regardless of what the research states, or the vagaries of markets and geographies, a surge of announced and completed consolidations continue to tout cost and care quality as their deal's chief benefits.

The healthcare industry may not have a great record of providing lower costs and higher quality thanks to mergers, but that record looks somewhat better if viewed through a lens of higher margins and back-office economies of scale.

That said, prior deals may have little bearing on the benefits or costs of future mergers, because the nature of healthcare M&A seems to be changing.

Hospital companies aren't the only ones seeking to disrupt. Insurer Aetna, after being blocked from merging with another insurer, Humana, is trying a different tack by merging with CVS, blurring the lines of what type of business it's in.

UnitedHealth Group, another company long identified as an insurer, has been diversifying its business lines for years, notably with its purchase of DaVita's physician group.

While healthcare M&A is more common than it used to be, many of the reasons for it haven't changed that much. Those that participate in mergers still cite scale and leverage as top benefits. But the nature of competition is changing, as bright lines between healthcare businesses become blurred by what some are calling asymmetric competition.

Negotiating leverage still key

Chris Stanley, MD, a former system vice president of population health at CHI and now a director in Navigant's healthcare consulting practice, says until two or three years ago, many hospital or health system mergers were horizontal—primarily built on the theory that "if we're larger in size and have more hospitals, we have more negotiating clout against payers and, as we see Medicare and Medicaid payments dropping off, we'll just be able to ratchet up on commercial rates."

But that strategy has often not played out well for a variety of reasons, from FTC challenges to difficulties with cultural assimilation. "So, the intent has shifted to the idea of gaining operational efficiencies that will save us from having to duplicate IT systems, compliance or legal, or central administrative overhead," he says.

"The idea was if we're bigger and badder, we'll be able to extract more money out of the finite pie that is healthcare spending. That is ending. It's not completely ended, but it will end."

For example, do CHI and Dignity need two central offices, two billing operations, or two supply chains? Indeed, their plans upon the merger are to combine many of those functions, although both CEOs will be retained, as stated in their joint press release when the merger was announced.

While not commenting specifically on the CHI-Dignity merger, Stanley says such savings can be ephemeral, especially if the timeline extends longer than planned. "Where we've seen that be a real fallacy of intent is that you only get that efficiency and cost savings if you aggressively integrate not only all your facilities but your central offices within a year or two of the merger being final."

Mark Armstrong, vice president of consulting operations with Quorum Health Resources, says the opportunity to gain scale and leverage with payers is still a powerful force in merger activity, especially ones where hospital-centric organizations are combining.

"The consolidations that seem most logical are those that are market-based where the strategy is to gain market clout," he says. "Those are the ones that are most often successful. Those that struggle and often fail are where both parties are coming together from positions of weakness. They're losing money, have inferior market scale, but together they're just a larger loss."

Armstrong distinguishes these two merger types by calling them either defensive or offensive, and says both have an opportunity to reduce overhead in billing, supply chain, and other areas. However, negotiating leverage with payers is a key attribute.

"The reality is the vast majority of healthcare services are still fee-for-service," Stanley says. "So, until the tipping point is reached for alternative payment models, capitation, bundles, and true pay-for-value programs, hospitals and physician practices are a business, and the business model right now calls for maximizing volume over value."

Blair Childs, senior vice president of public affairs with Premier Inc., a Charlotte, North Carolina–based company that uses data to improve efficiency and quality for its mainly hospital and health system members, says that while market-centric horizontal mergers haven't gone away and won't for some time, increased FTC pressure in recent years to block such mergers has had an effect—and this pressure likely isn't going to decrease under the Trump administration.

"This administration is more skeptical of hospital consolidation than virtually any preceding administration," says Steven Valentine, Premier's vice president of strategy and advisory consulting practice. "It just means that organizations have to make a distinction between whether their mergers are truly for market power or for care improvement."

"Some will still try to merge for more market control, but most organizations are seeing the future of competition, and that's in high-value provider networks," says Childs.

Richard Afable, MD, who until December 2017 was president and CEO of St. Joseph Hoag Health in Irvine, California, and who led the 2013 merger that created that health system, says the industry is going through a transition where mergers for market power and payer leverage will eventually fall out of favor.

"The idea was if we're bigger and badder, we'll be able to extract more money out of the finite pie that is healthcare spending," he says. "That is ending. It's not completely ended, but it will end."

Asymmetric competition

Afable and Childs refer to what's coming as asymmetric competition, typified by recent merger announcements such as Aetna and CVS, Humana and Kindred Health, and even mergers that on their face seem hospital-centric—such as Advocate-Aurora, which offers a clinically integrated network, postacute offerings, and a pharmacy network.

The effort, broadly, is to get stickiness with the patient, in that all of the patient's healthcare needs can be met by one organization. "These are about scale and vertical integration and a high-value provider network," Childs says. "Everyone's trying to get close to the ability to engage and get the patient in your network."

Rod Hochman, MD, president and CEO of Renton, Washington–based Providence St. Joseph Health, says each merger is different and can't easily be placed into a vertical or horizontal bucket. More critically, it's difficult to generalize whether a consolidation will ultimately save money for patients or increase quality measures.

As chair of the Catholic Health Association and with a seat on the American Hospital Association's board, Hochman says he's read the research papers on the topic, and notes that much of their conclusions depend on how their data is formatted and which organizations are included and excluded. That doesn't make it easy to determine whether such mergers benefit the patient in terms of quality and cost.

"There are examples of those who have done it well and those who haven't," he says. "Like all things in healthcare, whether the mergers work as their architects describe their benefits is dependent on whom you talk to."

Hochman says he's been through about 30 mergers over his 40-year career in healthcare, and the secret to success in making scale matter is developing a specific game plan ahead of time on how the architects will decrease costs and gain efficiency.

"It's unfair to put all of that burden on just the one issue of hospital and health system mergers," he says. "In the issue of cost and affordability, a lot of people and organizations—not just hospitals and health systems—have their hands in that pot."

In 2017, he says, Providence St. Joseph saved $110 million in costs over what the two organizations would have experienced separately. Much of those savings came from services, supply chain, clinical excellence, and IT. "Scale gets you a platform to reduce variability, and as a physician, this is important to me," he says.

As for plans to possibly grow larger in a merger with Ascension or any other organization, Hochman says Providence St. Joseph is sustainable where it is. "What we're going to look at is asymmetric growth in terms of nontraditional partners—we have one such partnership with Walgreens—and expand that way," he says. "When there are opportunities for other health systems to join with us and where it makes sense to both of us, we'll do those too, but we're comfortable with the size and scope of the organization today."

Getting closer to the patient

Many health systems have moved on from the idea that market share alone will determine a successful future. Instead, it's only a part of the calculus that will go into future consolidations, and perhaps a less important part as time goes on.

Premier's Childs points out the major factor, as he sees it, exemplified in the proposed combination of Humana and Kindred Healthcare. The two Louisville, Kentucky–based companies will split Kindred into home health and long-term care divisions.

Humana will receive 40% ownership of the home health division, the larger of the two, in a deal that will likely close summer 2019, and have no financial interest in the long-term care division. Humana has an option to buy the remaining 60% of the home health division at the end of the third year.

"That's where a lot of healthcare is moving, more toward managing patients in the home," says Childs. "This is … about reducing cost."

Valentine says other major mergers announced recently also reflect the race to capture, engage, and satisfy the patient, rather than physicians, health insurers, or employers.

"When a lot of our members talk about this, they don't talk about discharging patients from their facilities," he says. "They talk about creating a relationship, and that's the way they need to be thinking."

The challenge is still in legacy issues, where if an organization reduces spending, it doesn't always gain the benefit of the savings. This is changing the nature of acquisitions and mergers so that organizations feel they need to offer most, if not all, services a patient is likely to require.

" 'Share of care' is what I like to call it," says Afable, who now serves on the executive committee of the Board of Regents for the World Physicians Organization and is an advisor for Concierge Key Health, a mobile application offering on-demand access to elite physicians and care facilities.

Only about half of what is spent in healthcare is for the work physicians and hospitals do, he says. "Everything else—insurance and behavioral modification, for example—are outside that world, but hospitals and docs can add to that," he says.

Many vertical mergers are focusing on what Afable calls convergence. "They're trying to converge on the customer from different directions, not to create leverage but to address multiple needs in multiple ways, which many believe will allow them to create more efficient models that get the benefits of approaching the consumer from multiple directions," he says. "The jury's still out whether this can be a truly beneficial and sustainable model."

"If we just wanted a huge top line, we could go and acquire and merge and make [revenue] numbers quite big, but we want to do it in a way that's sustainable for the populations we serve."

Marc Harrison, MD, president and CEO of Intermountain Healthcare based in Salt Lake City, says Intermountain is already doing that kind of work through its owned health plan and trying to grow organically, in hopes that work might be replicable across the country, whether through mergers or otherwise.

"Those projects allow us to test replicability and will let us know if we're a health system that can generalize across the country," he says. "Some of our digital and distance health is now in five to six western states in hospitals we don't own, and they achieve outstanding results in standardizing clinical care and keeping people in their home area."

The health system delivers about a hundred clinical services virtually, and in the near future, it will formalize those services into what Harrison calls a virtual hospital.

"We're not quick to do M&A activity unless it would bring us a whole new population we could uniquely serve," he says. "If we just wanted a huge top line, we could go and acquire and merge and make [revenue] numbers quite big, but we want to do it in a way that's sustainable for the populations we serve."

Navigant's Stanley says hospitals are looking at how they can expand potential patient services not only in primary care but in other points of contact, such as telehealth, retail clinics, and urgent care. "It represents a broader reach upstream for patients," he says. "How much services are leaking out, and how much can they retain or keep?"