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Strategic Decision – Merge or Stay Independent

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We are currently faced with a very important strategic decision for our organization, merge with a larger hospital system or continue to stay independent. Merger mania has definitely hit South Central Pennsylvania and we are now the only independent hospital left in our region, and one of only 30 in the whole state. Since our last session in March, one merger failed and another went through, so 6 more hospitals were bought, leaving OSS Health as the lone independent hospital.

As a recap, we are a small, 8 OR, 26 bed facility in South Central Pennsylvania that specializes in orthopedic surgery and musculoskeletal care. We offer a full compliment of services for musculoskeletal injuries and diseases, including MRI, CT scan, digital X-ray, ultrasound, DXA scanning, labs, Orthopedic Urgent Care, interventional pain management, inpatient and outpatient surgical facilities, infusion services, home health, physical therapy, orthopedic surgery, podiatry, rheumatology, sports medicine, team coverage, and internal medicine. We have been open for 7 years and our volumes have increased almost every year. The years that we did not experience growth were due to multiple physician illnesses and retirement.  We have posted a profit at our hospital every year and our physicians and surgeons are very happy with our practice. Our focus has been to provide high value to our patients – excellent quality with lower costs than other surrounding facilities. We provide an excellent patient experience and have been ranked in the top 1% in patient satisfaction on HCAHPS scores for the past 6 years.

However, as I mentioned, we are now the only independent hospital in what is a very competitive region. We are surrounding by large, billion dollar healthcare systems that offer a wide array of services. Within 50 miles of our location we have Wellspan Health, a multiple hospital, locally based, billion dollar systems with 5 different hospitals. Penn St.- Hershey Medical Center is a large, billion dollar academic medical center affiliated with the largest university in the state, Lancaster General- Penn Medicine, is a 5 billion dollar academic and community based healthcare system based in Philadelphia, Holy Spirit has merger with Geisinger, which is a large 4 billion dollar healthcare system based in Danville, PA, Pinnacle has just bought 5 hospitals from CHS, a struggling for profit system, and then announced an affiliation with UPMC, a 27 hospital, multi-billion dollar health system that dominates the Western half of the state, and to the south there is Johns Hopkins Medical Center, Medstar, the University of Maryland and LifeBridge, all billion dollar systems with multiple hospitals.

There have been two main strategies employed by all of these large non-profit, hospital systems – 1. Buy up primary care offices and physicians and then force referrals to within the hospital system or 2. Develop and insurance product to work with your health system, and steer referrals via the insurance product, to your partnered facilities. To this point, we have been able to navigate the landscape effectively by offering high quality at a lower cost. However, our weaknesses are that we are limited to musculoskeletal services, and we are much smaller than our competitors, so we do not have the market clout that they do. We are vulnerable to being excluded from narrow networks and from being excluded from provider panels for referrals. Most of these health systems employ their own orthopedic physicians and obviously try to steer referrals in their direction.

My questions are:

Ddo we try to stay independent or join one of the larger systems?

Instead of an outright merger, do we offer to run the orthopedic service line at some of the local hospitals? We can do this efficiently and make them money in the process.

Do we try to continue to stay independent and hope that we are able to see enough patients to remain viable? This would probably hinge on whether or not price and quality transparency become more prevalent.

What things should we be doing to evaluate our options?

What do I recommend to my Board?

14 thoughts on “Strategic Decision – Merge or Stay Independent

  1. We face a similar dilemma. We are the only free standing non affiliated respiratory hospital in all of Western States and we are small. Many times larger chains have made an offer to buy us up. We have believed that as long as we can produce better value there is no need for us to merge. However, the practical realities of ACOs, Mgd. Medicare Plans, bundling and contracting with health plans make affiliation/merger an attractive proposition. Larger systems also have lower supply cost but it comes with allocations and innovation becomes harder as part of a larger system.
    We have decided to stay put for now and focus on our clinical outcome. We believe that better outcome will draw volume and there will be enough FFS Medicare patient in the near future to sustain us. This will allow us time to enter into favorable contract with mgd care plans based on outcome.

  2. We have seen a shift in our region of the country to the employers themselves driving where some procedures are performed, based on cost of care and quality of care, with contracts negotiated based on these metrics for specific procedures, including hip and knee replacement. For example..Boeing with contracts in the Mid-West to have non-emergent CABG performed out of state, etc. We are seeing this shift with total hip and total knee, forcing patients to travel 100-200 miles to recieve their treatment from their home based on decreased out of pocket expense if the preferred clinic/system is used for the procedures. So my question is…do you have estimates on your cost of care for specific orthopedic procedures, and quality measures that are associated, that you could present to the local employers and companies in this apparently very competitive market place?

  3. Joe,

    Thanks for the post, I think it is a great topic; much has been promised in the latest M&A spree but the reality is that over 50% of these M&As fail in the end.

    Crucial factors to consider:

    1. I think that the main factor to consider when faced with the M&A dilemma is a strategic one: either if you want to do things better than your competitor or you want to do different things from him – horizontal,vertical M&A – the ultimate issue to ponder when assessing the M&A´s success is the enhanced value that will be created through such M&A.

    2. The main driver of this potential enhanced value post M&A is the synergies that would be created all throughout the hospital/company; operational and financial synergies.

    3. Another important aspect to consider is the cultural fit between the two merging hospitals.

    ** Decisions to M&A based just on a volume or market share increase – and that do not take into account value, synergies and cultural fit – are just doomed to fail in my opinion.

  4. From my past experience one of the things most overlooked is the cultural fit. Once the decision is made that from a business perspective the M&A is the right strategic direction, careful planning and analysis of the combination of the two cultures is often overlooked and can make or break the success of the M&A. Understanding the two cultures, the differences, the synergies, how duplicate positions will be addressed, addressing your employee fears of losing their jobs, etc. are critical. Brining people to the table sooner and involving all levels of management within departments work to determine the direction of the specific departments and service lines. As a smaller independent hospital joining a larger system, your employees may feel like they are losing there autonomy. It is also common that the larger hospital system believes since they are bigger they have more best practices and start to push change to their way of doing things. Creating a sense of security and stability is key for your employees, while at the same time helping them to understand the M&A will help your hospital grow and florish. It is a very delicate balance that is difficult to achieve. There are several articles in the Harvard Business Review that excellent on this topic.

  5. Many similar parallels exist in our Dallas-Fort Worth market in Texas. Most independent facilities of good quality, have been bought by large hospital corporations or systems. The few independents that remain are poor quality and will likely be bankrupt in a short period of time.

    I think you have a great deal of leverage in your situation. Your quality is going to be attractive to many of the likely suitors. While I think you are likely going to be “forced” to go down the merger pathway eventually, I think you can be very strategic in how you deal with them.

    I would suggest thinking through how you could present your hospital to the system you would most prefer to work with. Present them with your growth and quality. Then present your top priorities that would need to be met and agreed to before merging.

    This may include things like your preferred governance structure, physician leadership roles, profit/service line sharing for hitting particular quality metrics, and agreement to have the resources needed to grow/replicate and continue to perform at a high level. I truly believe the more detailed you are in your “ask”
    of them, the happier and more comfortable you will be. The last thing any of us want to. E is a “cog in the wheel” of a machine we do not have any control over. Asking/demanding certain things up front will help protect you long term.

  6. Also in my country we are facing now M&A trends in health care market.
    I think in any industry this is a question to be answered ..
    What is best for an Organisation to grow ?
    Is it M&A ?
    Is it growing organically ?
    What’s the effect of M&A on the original brand ?
    Are we going to keep our identity if we merge with other company ?
    I have these questions in mind always as am watching other competitors growing through M&A
    One competitor acquire another big brand, and this acquisition didn’t end up with good financial results for the first year at least, mainly due to the 2 big brands diluted them selves instead of creating one big brand. Plus the inefficient way the aqusition was managed which let many staff leave the Organisation after the M&A.

    Another example is a big Organisation which is acquiring many small profitable companies, with really high prices, just to capture the market in a fast way. How sustainable this module is on the long run, is also something to look at.

    For me personally am working towards organic green field growth, as I see more healthy for the Organisation future.

  7. At this juncture for your hospital’s life-cycle, it’s an opportunity to evaluate how to compete through collaboration. An option would be to approach the competing hospital and begin a dialogue about their willingness for your team to undertake running their orthopedic service line. Developing a management services agreement (within fair market value) with the hospital could potentially be profitable to your organization. This would a feasible short-term solution.

    Another recommendation, would be to have a valuation completed for your hospital. A possibility could be for the larger hospital system to become the ‘parent company’ for your hospital (i.e not a full asset merger). Terms of the agreement would be for your hospital to remain a separate corporate entity and keep a separate boards of directors. Your hospital would gain a seat on the larger hospital system board (and vice a versa). This would open the doors for your hospital to partake in payers narrow network.

  8. Judging from your post it gives me a feel of ‘David fighting Goliath’. In the long run, the M&A train will prevail and in a market where there will be competition based on price and volume the incentives to merge and acquire are large. However, it seems like you have a quality/knowledge advance in a focused area of orthopedics. This allows you to produce at good quality at a competitive price. This is a competitive advantage that should not be ignored. My advice would be to map your strengths weaknesses in relation to what is of competitive interest for players in your area. Personally, I do not believe in the straight dichotomy between merger or staying independent. You can do both in a strategic partnership with neighboring hospitals, remain independent while collaborating. With our orthopedic company we designed partnerships with hospitals in which we offered to provide business knowledge on how to efficiently run orthopedics while renting their excessive OK capacity for our own production. Of course, multiple other models exist. If you’re interested, i’d be happy to discuss some more during our next module.

  9. Having some experience with several of the larger health systems you mentioned, I would really hold out joining a larger system unless you all were absolutely forced to. You all should absolutely be able to compete on price and satisfaction relative to larger organizations which would certainly be to your advantage.

    One of the reasons for the success of your organization is the ability to adapt and innovate and unfortunately I don’t think that would be preserved with a merger with a larger organization.

    If withholding of PCP referrals is the main reason for a desire to merge, contracts which you could certainly provide at a competitive price may be a better option than merger.

  10. Although it may eventually become necessary or advantageous to merge, I might hold off on a decision pending the fate of federal health care legislation currently under negotiation. Large “healthy” organizations may not be quite as healthy afterwards or others may emerge that are better able to adapt.

  11. That’s an interesting dilemma you have going. I’m a bit conflicted in providing a comment here, because many times when an organization merges with a larger company, they tend to lose their culture and the service component can be negatively impacted. On the other hand, failure to do something will most likely result in the slow deterioration of referrals and patients to the hospital. I would say consider doing partnership agreements, or merge with another organization that are similar to yours, so that you can benefit from being more competitive with negotiating with the payors, and now you would have enlarged your referral base.

  12. Hi Joe,

    M&A is always a challenging situation particularly when you do get attached to the organisation. Larger organisation will always have economies of scale and hence will be more profitable and competitive. For you to survive the competition you will need to get a separate identity a niche.. I was associated with a independent private hospital in London who had exclusive clientele and were profitable because clients were not going anywhere because of cultural reasons but as soon as the cultural aspect was compromised – profitability went down and eventually the hospital was acquired by BUPA.

    My question to you would be

    Where do you see your organisation in the market segment now and in 5 years
    Where do you see yourself in the value chain
    Do you have a segment of clientele which cannot be serviced by any other hospital
    What advantages do you have over others

    In my opinion you have 2 options
    Merge with like minded providers and share services
    Or expand and explore other markets ( this will be challenging and a new territory)..

  13. Looking at some the facts you have presented. You really have no choice but to find a way to merge with a bigger group otherwise you will end up loosing all the value you have created this far in the business.

    Establishing a small operationally efficient unit of your size with high quality outcomes should not be difficult for a larger group,
    Which means your very existence is at risk in the medium and long term.

    The fact that you continue to grow and have a loyal physician /patient base is not enough. Hospital Group with deep pockets can quickly replicate your model, should they see the necessity to do so.

    Therefore strategically the smarter step to take would be to plan your merger with a larger group in a manner that your existence is assured, Your company’s skills are valued, and you are seen as adding value to the larger group.

    Here is what you could suggest to your board –
    -Explain to them that the status quo is not an option and that the larger fish could easily swallow you, and what ever shareholder value exists in the business today could easily disappear.
    -Suggest to your Board that you should start looking for a suitor to join forces with, and that your company should get ready to go on a road show !

    1. Identify your strengths and be ready to present them to groups that need your strengths or access to your markets.
    2. Carefully look at what the gaps are there in these potential suitors and how you could address them (do your home work well)
    3. Ofcourse value your business for what it currently does (and if it continued to grow without outside help)
    4. Value the business on the basis of what incremental value you could create for the larger group (make sure the delta is meaty !),

    -this way show your board the route to preserving and enhancing shareholder value.

  14. This is a common issue as the conglomerate healthcare systems are taking over, which is not necessarily a bad thing! I would wait and see what happens to the AHCA but I think the best way to stay independent (for now) is to continue providing highest quality care but be “different”. It may be that you offer more services that others don’t provide. You’d be surprised how patient satisfaction can increase with small but important details such as in-hospital iPads to listen to music, movies, “spa” rehab, patient engagement, etc.

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