Plans of all sizes must compete in ever consolidating market

March 1, 2011

For the next several years, "consolidation" will be the watchword for the healthcare industry as plans and providers position themselves for the changing market.

NATIONAL REPORTS-For the next several years, "consolidation" will be the watchword for the healthcare industry as plans and providers position themselves for the changing market.

"We are going to be in a very robust M&A marketplace for the next three to five years," says Bill Baker, a partner and the leader of the healthcare team in the transactions services practice at KPMG in Dallas. "Most major markets are going to see significant consolidation."

Red flags are already going up to warn stakeholders that increased consolidation among health plans and providers could work against the goals of consumer affordability associated with new reforms. In his December 2010 Congressional testimony, Richard A. Feinstein, the director of the Federal Trade Commission's Bureau of Competition stated that the FTC would be scrutinizing mergers more closely while also providing antitrust guidance as healthcare organizations move to an accountable care organization (ACO) model.

For their part, health plans view consolidation as a way to deal with guaranteed issue coupled with limits on the variation of premium rates.

"That is the fundamental engine of health reform, and you need to be large to do that," says J.D. Kleinke, chief executive officer of Mount Tabor Online Services in Portland, Ore., and a MANAGED HEALTHCARE EXECUTIVE editorial advisor.

Kleinke notes that alternative reforms, such as selling health insurance across state lines, which Republicans have been advocating, could add another competitive wrinkle for health plans.

In that light, the recently proposed merger between Boston-based Tufts Health Plan and Harvard Pilgrim could be just the beginning of a much bigger wave.

"A small, regional health plan like that is not just going to be competing against health plans in Massachusetts; it is going to compete with everyone in the country," he says. "That is one more reason to be large: to have marketing muscle and to have administrative scale."

Although consolidation has occurred in waves over the past several decades, a key driver of current consolidation activity is the uncertainty of reform and a need for economies of scale. The specter of ACOs, in particular, is causing providers to reposition themselves.

"There is transformational potential within ACOs," says Baker. "To be successful in an ACO environment, especially in a major metropolitan area, you are going to have to be part of a larger system."

Because ACOs increase providers' responsibility for quality and outcomes, many hospitals will have to adjust to handle all post-acute delivery models either contractually through joint ventures or by owning providers directly.

"An ACO receives payment for a much broader level of care-not just what's provided within the four walls of the hospital but the care provided all the way through the clinical episode," says Baker.

He predicts that smaller health systems will merge with larger ones to gain access to a stronger financial position and balance sheet, greater negotiating power with managed care organizations, and a larger geographic footprint of clinical services in the community.

"If they don't do something, smaller organizations risk getting shut out of the accountable care model and losing patients, and that is not a very attractive future," says Baker.

Structuring the right type of deal is also important, and there are many approaches to consider. For example, after LifePoint Hospitals formed a joint venture with Duke University Health System to acquire and operate community hospitals in and around North Carolina, its first deal was the acquisition of Maria Parham Medical Center in Henderson, N.C. The deal allows Maria Parham to retain 20% ownership with Duke-LifePoint controlling the remaining 80%.

"This approach allows the community to stay invested in the facility and increases the likelihood of public support for the facility," says Angela Humphreys, a partner with law firm Bass, Berry & Sims PLC in Nashville. "They are also proposing a 50/50 governance structure to give the community an equal and long-term voice in the hospital's future operations and strategic paths."

Finally, if consolidation is to achieve its goals, choosing the right partner for the right strategic reasons is critical. Once the deal closes, the marriage can be very difficult to undo.

"I can't overemphasize the importance of performing diligence on your partner regardless of whether you are the smaller or the larger entity," says Baker. "It is so difficult once that merger occurs to be able to unwind it down the road because the organizations become heavily intertwined from a clinical, financial, and operational perspective."