New blood

For years private equity firms have invested in health care, “but now the pace is quickening as they step up their presence in a highly fragmented health industry, seizing on consolidation opportunities to build a better business model,” according to a Top Issues in 2019 report by PwC, a global assurance, tax, and consulting services firm. In 2009, private equity firms completed more than 200 health care deals, according to the report, “Private equity: Health care’s new growth accelerator,” but that number will likely more than triple, to 747 by the end of this year.

Glenn L. Stein, a member of the law firm Chiesa Shahinian & Giantomasi PC, has been an active player in the space. “A good deal of my work in the last 15 years involves medical device companies — especially orthopedic— although private equity firms in the general health care segment have been pretty active.”
CSG represented a private equity firm that rolled up three medical device companies and later sold the resulting entity for close to $400 million, he said. “We represented the PE firm throughout the lifecycle, from inception in 2005, through to the exit sale in 2014.”

A robust outlook

Stein sees a healthy future for PE investments in the health care space. “Given the aging population in the U.S., and advances in care, there’s going to be a huge spend on health care, and PE shops are looking at opportunities,” he added.

Health care companies could choose other financing sources, like bank loans or stock sales, “But in my experience, private equity isn’t just about the financing,” Stein said. “It’s also about the knowledge base that a traditional lender doesn’t offer. Private equity funders partner with the companies they invest in, so the company gets knowledge and experience in addition to the financing.”

PE firms can offer “a roster of executives and managers that can join the board and lend their general business operational knowledge, and their industrial knowledge and contacts,” he added. “They can also leverage their own connection to build additional financing sources and potential joint venture partners. In the end, the private equity firm will benefit at the exit, and the stakeholders of the operating company will also benefit.”

A PE fund typically looks to sell its investment after five to seven years, “but the actual exit will happen when it’s ready,” Stein said. “It depends on a number of issues, including the market conditions and recent valuations.”

When it comes to medical devices, government approval may be required, he added. “So instead of assigning a certain number of years to the exit, funders may have to be flexible. The PE shop may also assign a certain number of tranches [rounds]. The first tranche of funding could be timed to get the drug or device to FDA approval,” Stein explained. “Then another round to get to a certain milestone, like the push to market, which involves promotion and distribution. After that, the PE fund may look to exit, selling the company to strategic buyer, or to a larger industry player; we see this all the time in the pharmaceutical space.”

A brick-and-mortar haven

At a time when some traditional industries, like retailers, are increasingly migrating online, Stein said his firm is still finding plenty of health care investments in brick-and-mortar locations.

“In addition to medical device companies, we’ve invested in hospitals, health care systems, adult-care facilities and other ventures,” he said. “There are a lot of brick-and-mortar opportunities in health care, and PE firms like the returns.”

Many private equity firms are looking for stable industries with opportunities for growth, according to Kevin Becker, a vice president at LLR Partners, a technology- and services-focused PE firm. “The health care industry is going through a lot of changes, but overall it’s not very cyclical, so it’s attractive,” he said. “Plus, as more providers and hospitals adopt technology, they’re looking for guidance on managing the changes, and PE firms can help them. So it makes sense on both sides.”

Demographics also play a role. With more doctors approaching retirement age, the “next-generation doctors have a lot of debt and want more of a work-life balance,” he said. “Unlike their predecessors, many of these younger doctors have a lot of debt and are rejecting the solo or small practice model. They are more comfortable being an employee, and we can assist with setting up a multi-physician practice group.”

LLR Partners’ client list includes Shweiger Dermatology, a multistate practice with locations in New Jersey. “We’ve helped them do acquisitions in New Jersey and elsewhere,” Becker said. “Health care organizations used to look to debt financing to grow their group, their service line, or their facilities. But today, private equity firms offer management and infrastructure expertise in addition to funding. Pure capital is a commodity, but we bring advantages like a management team, so the doctors can focus on patients instead of on financial reporting.

The firm has also invested in SUN Behavioral Health, a Red Bank-based organization that currently operates freestanding psychiatric hospitals in Delaware, Ohio, Kentucky and Houston.

“We have no desire to get involved in clinical decision-making,” added Becker. “But because some state rules require physician ownership of a doctor’s practice, sometimes we’ll invest in a management services organization, which provides back-office services to the provider group.”