Mistakes to avoid when acquiring physician practices: Costs and expectations

With healthcare reform, physician practice acquisitions have been occurring at a rapid pace for nearly four years. In our experience working on hundreds of contemplated physician practice acquisitions, we have identified a series of ten recurring challenges and missteps associated with these acquisitions and alignments.

These insights are derived from extensive work with executives of the acquirer (commonly, integrated practices of hospital systems), practice administrators, inside and outside counsel, and other consultants. Here we present the first five “mistakes to avoid”; a second post will include an additional 5 mistakes.

• Overly complicated physician compensation models: Some physicians have historically been compensated at higher levels than their practice peers for reasons other than strictly productivity-based measures. These physicians may be leveraging off of their midlevel providers, or even leveraging off of the productivity of non-shareholder, employed physicians. This dynamic often leads to an acquiring health system developing an overly complex compensation model that gives equal compensation upside potential to all physicians, while also still trying to maintain compliance with fair market value and commercial reasonableness. Though these models may be an attractive incentive to the physicians, it may lead to significant administrative challenges down the road.
• Inadequate cost controls after integration: Currently most post-acquisition physician compensation models are based on a productivity-based metric, with little attention paid to details surrounding a practice’s cost controls post-transaction. This may result in physicians substantially increasing their consumption of resources, in particular support staff, for what may be marginal increases in productivity. To some extent, accountability metrics surrounding expenses should be addressed by the acquiring health system. The exception is a pre-compensation based model, which determines compensation based on the profitability of the subject practice prior to consideration of physician compensation.
• Unrealistic expectations: Too often, health systems enter into the due diligence and valuation phase of a potential physician practice acquisition after unrealistic expectations for the practice value and post-acquisition compensation model have been assumed by the target practice physicians. These unrealistic expectations may have been communicated by a health system business development officer looking to pique the physicians’ initial interest in exploring an alignment, outside consultants of the physician practice, or by peer physicians in the community who have already completed the acquisition process, and do not realize that practice value is not the same across practices. Managing expectations from the outset is a key to successful integration, and unrealistic expectations can create significant deal friction and acrimony post transaction.
• Inadequate return on investment due to purchase price and/or overly robust compensation models: Due to competition from other health systems, a given health system may push both upfront purchase price as well as post-acquisition physician compensation to levels at the high end of fair market value. Many times an acquiring health system will ignore the pro-forma post-acquisition financial metrics associated with acquiring a practice, only to find out that the return on investment is not positive, as initially assumed. Not only can this have financial ramifications for the buyer, but also may call into question the overall commercial reasonableness of the deal.
• Too few primary care physicians relative to the large amount of specialists: Physician specialties that result in heavy use of ancillary equipment, such as cardiologists and oncologists, are highly sought after by health systems given their ability to realize higher OPPS rates on many of their procedures post-transaction. With such a focus on specific specialties, health systems all too often ignore their need for primary care physicians, which are the main source of referrals to these specialists and provide stability to a health system. While primary care physicians are already in short supply, these physicians are of increasing importance due to the implementation of the Affordable Care Act and formation of Accountable Care Organizations.

Part two in this series will appear next week.