Prepping a Practice for a Private Equity Transaction

The volume of sales, acquisitions, and other transactions involving physician groups continues to increase as private equity firms and institutional investors seek new and innovative ways to leverage size and scale. Physicians interested in such investment opportunities should be familiar with the transaction process, as well as the common healthcare regulatory and legal issues that can delay or thwart a deal. Interested physician groups should take proactive steps to mitigate any potential delays or issues that may arise during the "due diligence" process.

The healthcare private equity firms are generally investors and funds that seek to make direct equity investments in privately-owned physician practices. These firms can add value to a physician practice by supplying support and resources to encourage organic growth. For example, private equity groups can provide financial resources to update equipment and technology, improve operations and efficiency, add service lines or ancillary services, or acquire additional practice groups to optimize capital structure. 

Private equity may be attractive to physicians who seek to retain equity and control of their medical practices, while also benefitting from the expertise and resources provided by private equity firms. However, not all physician groups are good candidates for private equity investment. Private equity firms tend to target certain specialties that are forecasted to generate substantial profits, such as dermatology, eye-care, urology, gastroenterology, and orthopedics. Attractive specialties are identified based on various factors, including patient demographics, changes in the healthcare reimbursement system, and forecasted need for certain healthcare items and services. 

Once a target physician practice is identified, the prospective investor will conduct a "due diligence" review to identify potential risks. During the diligence process, physician groups are often asked to produce documents and information such as financial records, agreements and arrangements, staffing models and operational practices. The prospective investor will analyze this information to determine whether a deal is viable, the legal and regulatory risks based on the practice's operational history, and how the deal should be appropriately structured. 

While private equity firms accept calculated risks, physicians should be aware of some common legal issues that are of particular concern to investors:

•Overpayment liabilities and risks stemming from improper medical coding and billing practices (e.g., medical necessity and documentation issues, improper "incident-to" billing for services rendered by physician extenders and improper use of CPT codes).

•Compliance with healthcare fraud and abuse laws, such as the "Stark Law," the "Anti-kickback Statute" and other prohibitions related to referrals based on improper financial relationships. A physician group's corporate structure, as well as the relationships between the owners, employees, independent contractors, and referral sources will be scrutinized to evaluate fraud and abuse concerns. 

•Improper or unfavorable arrangements and relationships with hospitals or other institutional healthcare providers can raise significant diligence concerns. In addition to the potential fraud and abuse concerns identified above, these types of arrangements may also cause problems if a practice is too intertwined with such institutional providers (e.g., unfavorable non-competition restrictions). 

•The failure to implement appropriate corporate compliance programs and/or corporate governance practices. Groups that do not fully implement appropriate compliance and governance functions can raise concerns about unknown liabilities that have yet to surface. 

Red flags identified in the due diligence process can delay or terminate a prospective deal, negatively impact the practice's valuation and the purchase price offered by the private equity group. These issues may also require corrective action prior to finalizing the transaction, which may cause delays and, in some instances, self-disclosure of compliance violations and refunds of overpayments. 

Physician groups can avoid these diligence issues by taking a proactive approach and performing self-assessments in advance of seeking a private equity partner. By identifying and "cleaning up" these issues, physician groups will increase the likelihood of attracting investors and will also avoid or mitigate liabilities that have yet to surface. 

Gary W. Herschman is a Member of Epstein, Becker & Green, PC's Health and Life Sciences Group, focusing on physician group and other healthcare industry transactions.

Anjana Patel is a Member of Epstein, Becker & Green, PC's Health and Life Sciences Group, focusing on physician group and other healthcare industry transactions.

Yulian Shtern is an associate of Epstein, Becker & Green, PC's Health and Life Sciences Group, focusing on physician group and other healthcare industry transactions.