Mergers and Acquisitions: Key Considerations for Creating Efficiencies Through Consolidation

by Brandon Klar - Originally published in the August 2015 issue of Compliance Today. Used with permission.

As a result of the Affordable Care Act ("ACA"), healthcare mergers and acquisitions ("M&A") have increased dramatically as providers attempt to consolidate to achieve economies of scale and provide a full continuum of services in support of population health.

However, at the same time, there are specific anti-trust regulations that must be considered when contemplating a merger or acquisition ("M/A"), and recent compliance and enforcement activity shows that it is not just hospital-to-hospital consolidation that creates a concern; acquisition of physician practices can also be subject to anti-trust enforcement action.

Healthcare providers must conduct effective due diligence and analyses to ensure that the efficiencies and business justifications for the M/A support the transaction, and that the benefit to the market in terms of quality and cost of care are apparent and fully achievable. Integrating anti-trust compliance into the due diligence phases of M&A considerations is imperative.

Incentives associated with the ACA, growing financial pressures, and infrastructure needs have led hospitals and other providers to seek partners in order to survive in the new healthcare delivery system.

As shown in Graph 1 (below), hospital transactions have risen significantly during the post-ACA years. In this period, hospitals have attempted to align in order to provide the full continuum of care and capture the maximum patient population needed to transition to population health-based methodologies, all while seeking to create greater efficiencies from consolidation.

At the same time, hospital acquisitions of physician practices have increased for many of the same reasons, but particularly because of the financial needs of the practices and the desire of hospital systems to employ physicians as an alignment strategy in the population health transition.

According to the American Medical Association, as of 2012, 53 percent of physicians were self-employed as compared to 76 percent in 1983.1 Simultaneously, the Medical Group Management Association reports that annual financial losses per provider (all multi-specialty) have increased from $143,834 in 2013 (based on 2012 data) to $235,866 in 2014 (based on 2013 data), representing a 64 percent increase in annual losses per provider. Historically, hospitals have not excelled at managing physician practices.

Concurrent with the rapid increase in hospital-hospital M&As and hospital-physician group acquisitions is the evolution of healthcare antitrust laws in the post-reform era. Long-standing evidence shows that consolidation of hospitals reduces competition and drives up market prices in a fee-for-service environment. This effect is counter to the goals of the ACA and thus has received increasing scrutiny from the Federal Trade Commission (FTC). In fact, Edith Ramirez, Chair of the FTC, recently stated:

The success of health care reform in the United States depends on the proper functioning of our market-based health care system. The current consolidation wave could have substantial consequences for health care reform efforts that depend heavily on competition to control costs and improve quality.… Consolidation risks upsetting this competitive dynamic and harming consumers.2

In line with the FTC’s concerns, there have been more challenges to consolidation activities, including the Promedica-St. Luke’s case in which the U.S. Court of Appeals for the Sixth Circuit upheld the FTC decision to block the hospital merger of ProMedica and St. Luke’s Hospital in the Toledo, Ohio market due to the reduction in competition and likelihood of increasing prices in the way of premiums and copays for consumers.3

Further, in a historic case the FTC challenged the acquisition of Saltzer Medical Group ("Saltzer") by St. Luke’s Health System in Idaho based on the tenet that it would violate federal and state anti-trust laws. Although St. Luke’s argued that the acquisition created better coordination of care and supported the goals of the ACA, they could not show that the efficiencies would decrease the overall costs of care while improving quality.4

Although consolidation by way of M&As may be the best alternative in some cases in order to succeed under value-based payment and population health based models, it is imperative that hospitals and medical groups are able to demonstrate the efficiencies of the consolidation outweigh the risks under reduced competition.

Ultimately, these systems must show not only the improved quality and reductions in costs associated with the M/A, but also illustrate how the efficiencies and cost reductions are translated to reduced cost of care that is passed on to consumers, and why these efficiencies can only be gained through M/A.

Key considerations when considering new mergers or acquisitions include:

  • In hospital-hospital transactions, what efficiencies can be created between the entities that will reduce overall costs, and how can that translate to reduced costs of care for consumers?
  • In hospital-medical group transactions, what efficiencies can be created between the hospital and medical group that will reduce overall costs, and how can that translate to reduced costs of care for consumers?
  • Is the merger or acquisition the only way to accomplish the stated goals? Is there another structure that can produce similar results while keeping the organizations independent?

Hospital-Hospital Transactions

Efficiencies associated with hospital-hospital transactions are regularly cited by the organizations’ boards and senior leadership as a fundamental driver to formally merge operations, yet many newly formed firms are ill prepared to achieve and sustain these savings without significant planning or external consultation. It is for this reason that the FTC has increased its scrutiny of submitted Business Plans of Operational Efficiency ("BPOE") associated with proposed transactions as a means by which to overcome the potential anticompetitive effects of the transaction.

Successfully merged firms have achieved efficiencies across the myriad of administrative, support, infrastructure, and clinical hospital functions while demonstrating their ability to enhance quality through care model redesign and clinical programmatic alignment. Efficiency plans for such integrations were framed and constructed pre-transaction with the support of external healthcare experts, respecting each party’s inability to share competitively sensitive information.

The plans were further refined and enhanced post-transaction with dedicated multidisciplinary teams composed of representatives of the transacting parties focusing on specific functional integration plans. These efficiency plans were built around a clearly articulated vision for the merged firm and maintained well-defined action plans specifying how and when each efficiency would be achieved, the likelihood of achieving each efficiency, the associated quantifiable savings, and any related capital or operating costs of implementation.

When well-constructed plans are developed and implemented, the operational and financial benefits are often the first advantages illuminated. But with time, these efforts drive cultural alignment that regularly translates into further collaboration and efficiencies beyond those previously highlighted.

Short-term efficiency savings opportunities can be achieved by integrating back-office functions such as finance, human resources, and legal services. Full consolidation of staff and contract services will lead to substantial savings, because these efficiencies can be clearly achieved and sustained through a merger.

The centralization of management and joint contracting for services and supplies represent efficiencies in the support and infrastructure departments that can be achieved in the short to mid-term range post-transaction. These efficiencies are often challenged by regulatory agencies, because hospitals are frequently unable to provide reasonable means to verify or quantify efficiencies savings pre-transaction.

Clinical efficiencies have been proven to yield the largest efficiencies of merged firms, but the likelihood of achieving such efficiencies varies greatly, because they will often require further vetting and stakeholder support that is unattainable pre-transaction, leaving these efficiencies speculative to a degree.

Despite the challenges with identifying and quantifying efficiencies associated with mergers, BPOEs have been able to translate to lower costs of care for patients in two principle ways. First, the alignment of both administrative and clinical operations of two previously independent hospitals into a merged firm has provided a platform by which to reduce unnecessary, duplicative testing.

Integrated electronic health records (EHR) and alignment of clinical programs across locations can reduce unnecessary utilization and subsequent out-of-pocket expenses for patients.

Second, the merged firm’s efficiencies, driven by the cumulative effect of lowering the per-case costs of services by way of achieving multiple efficiencies, can be significant enough to prevent commercial plan price increases in a market that may be sought if the existing cost structures of the two independent hospitals were to remain in place.

Hospital-Medical Group Transactions

When hospitals acquire medical practices, it is often done with the good intention of fully integrating the practice(s) and supporting the transition to population health-based models. However, it is common practice for the acquired medical groups to continue to operate autonomously, with limited integration into the hospital system for efficiency gains. In fact, acquired medical groups frequently perform worse under a hospital-employed structure than when they were independent. Part of the reason is that integration is not easy, and most hospital systems are either in the early stages of population health transition or have not started, and thus put medical group acquisition at the forefront of their population health strategy.

Consequently, acquisitions are occurring and often driving up prices in the market, because competition is being reduced. Larger systems have greater leverage to negotiate favorable reimbursement in the market, and the benefits of population health and value-based contracting are not yet realized.

The economics of medical practice change significantly when a physician transitions from independent practice to hospital employment. Not only are payer contracts negotiated by the hospital, which often has greater negotiating power, but cost structures may rise from more robust benefits structures, staff wage ranges, and physician compensation. Additionally, when operating as an independent practice, physicians have to cover their overhead expenses—there is no subsidy.

When they are employees, their salary is negotiated with the hospital and may not reflect their productivity or contain incentives to keep expenses in check. Changes in reimbursement related to the site or type of service also occur when medical groups are acquired by hospitals— specifically, hospitals are able to charge facility fees or move ancillary services from medical practices to the hospital, thereby increasing costs. And, historically, hospitals have not efficiently managed physician practices overall.

Furthermore, the St. Luke’s-Saltzer decision shows that even when systems are taking initial steps toward value-based care, such as sharing an integrated EHR, it is not enough to justify an acquisition. And, although systems need aligned primary care physicians in order to grow their patient base and capture attributed lives under value-based contracting, the St. Luke’s-Saltzer case also shows that is not reason enough to promote acquisition of medical groups, because other alignment structures could produce similar results without harming competition.

When considering an acquisition of a medical group in the post-reform era, hospital systems and their compliance team need to have a clear plan for how the acquisition will increase quality and reduce costs.

This proposal must include consideration of not only how the action will reduce operating costs of the medical practice and make it more efficient, but also how the acquisition will reduce overall costs to the consumer. For that, a much more detailed financial impact analysis, managed care strategy, and operational implementation plan are necessary.

Merger and Acquisition Alternatives

Although M&As once dominated healthcare transactions, today many healthcare entities are looking for innovative affiliation models that do not require fully relinquishing their independence, but still offer operational efficiencies.

Accordingly, new models are becoming more prevalent that allow these entities to seek partners that can satisfy their unique financial, operational, and quality needs, while still maintaining a level of control, in an effort to meet their key strategic objectives.5

The details of these alternative affiliation models will vary from transaction to transaction, but the basic principles of three increasingly common models will remain consistent.

Joint Operating Agreements

Within a joint operating agreement ("JOA"), the assets and governance of the two partners are not merged, but considerable management and financial authority is transferred to the joint operating entity.

This model provides the platform for the partners to achieve significant efficiencies by way of the integration of operational and financial results, while also protecting the partners’ rights to religious directives and major corporate decisions, including the sale of assets.

This model is highly complex in nature, but allows the joint operating entity to collectively borrow to satisfy the capital needs, undertake care model redesign to enhance quality, and achieve operational efficiencies that will drive cost savings for the partners.

Operational efficiencies within a JOA can, in some instances, reach levels attainable through full mergers or acquisitions. In addition, the FTC does not deem these arrangements to be anti-competitive and thus, the two partners may be able to contract jointly.

Joint Ventures

In addition to JOAs, non-profits are also looking to pursue joint ventures to attain needed capital infusions and operational expertise while maintaining a reduced level of control.

With the non-profit contributing its assets and business operations to the joint venture, a partner organization contributes capital to ascertain a majority share within the joint venture. The joint venture is then overseen by the majority stakeholder by way of a management contract, while the non-profit provides clinical services to the joint venture.

This model yields moderate operational efficiency outside of consolidated administrative services offered by the majority stakeholder, and gives the non-profit the ability to ascertain the expertise and capital required to sustainably maintain operations to fulfill the community need.

Clinically Integrated Networks

Another model being pursued more frequently in light of the ACA are clinically integrated networks ("CINs"). This model provides the platform for healthcare entities to develop collaborative networks that support care coordination throughout the continuum while sharing in the infrastructure costs associated with managing a defined population.

In a CIN the partners do not merge their assets or relinquish control of their organizations. Instead, the partners establish an alliance that maximizes the existing clinical expertise of their independent organizations, while sharing the costs of infrastructure and information technology required to participate in new accountable care payment plans and in preparation for population health.

This model often maintains its own board and management team, which is directly responsible for clinically integrating the two partners and reducing cost (both operational and capital) through the achievement of clinical and operational efficiencies.


As health systems prepare for success in the new value-based world, M&As are often a major part of their strategy. However, federal anti-trust laws must be considered, not only in hospital-hospital transactions, but in hospital-medical group transactions as well.

The BPOE and assessment of efficiencies must demonstrate the need for the M/A and how those efficiencies will lead to reduction in the cost of care, not just improvement in the system’s cost structure and bottom line or overall improved quality of care for the market. There are significant opportunities to improve the cost structure when organizations come together—those must be explored, verified, and ultimately, have a succinct implementation plan as well as a plan for translating savings to consumers.

Further, alternative structures must be reviewed to determine if the stated goals and efficiencies may be accomplished in another manner. These considerations should be included in the due diligence phase of planning to assure ongoing compliance in a rapidly consolidating environment.

  1. Carol K. Kane and David W. Emmons: “New Data on Physician Practice Arrangements.” The American Medical Association.
  2. Edith Ramirez: “Anti-trust Enforcement in Health Care — Controlling Costs, Improving Quality.” The New England Journal of Medicine, December 11, 2014; 371:2245-2247. 
  3. Marlene Harris-Taylor: “Promedica ordered to drop St Luke’s: Court declares merger anticompetitive.” Toledo Blade, April 22, 2014.
  4. Jonathan L. Lewis, Lee H. Simowitz, and Sean T. Hartzell: “In the Wake of the FTC’s St. Luke’s Victory in Idaho, What Does the Future Hold for Hospital-Physician Acquisitions?” ABA Health eSource, vol 10, no.7.
  5. Jonathan Spees: “Choosing the Right Affiliation Structure.” Hospital and Health Networks Daily, October 9, 2014.
Brandon Klar, MHSA

Brandon Klar, MHSA

Managing Director
Greenville, South Carolina