Dan Slipkovich, CEO of Capella Healthcare in Franklin, Tenn., has modest goals. His for-profit, privately held hospital chain is scouting out facilities to buy, but only if the transaction makes strategic sense. “We don't chase everything,” says Slipkovich, who just closed on a nine-hospital purchase in January with the help of private-equity capital and debt financing. “Are we looking to add maybe 10 more over the next 12 months? What's probable is one to three hospitals,” he touts.
Slipkovich's comments about acquisitions are echoed throughout the hospital industry, which is treating the current credit crunch as a yellow light as opposed to red. “A lot of for-profits that were on the sidelines are prospecting again, and choice acquisitions are on the market,” says Richard Wright, vice president of development for publicly traded Universal Health Services in King of Prussia, Pa.
To be sure, many chains couldn't rustle up enough capital these days to go shopping even if they wanted to. Instead, executives use words like “selective,” “opportunistic,” and “disciplined” to describe their openness to making deals, which have tailed off in 2008, but not disappeared.
The number of hospital mergers and acquisitions declined from 15 in the fourth quarter of 2007 to 10 in the first quarter of 2008, according to Levin Associates in Norwalk, Conn. However, the first-quarter tally is one more than in the corresponding quarter of 2007. To Sanford Steever, editor of Irving Levin's newsletter on healthcare mergers and acquisitions, the numbers demonstrate that the credit crunch, as well as the general economic doldrums, isn't hitting the hospital industry as hard as others.
“Healthcare isn't anti-cyclical, but it's pretty darn close to it,” says Steever. “There will be fewer deals, but there's still a fair amount of money out there for acquisitions.”
Further tightening of credit — which could happen if interest rates continue to rise — would change the picture. But this screw-down ultimately may strengthen the ability of hospital chains to expand, because if anybody suffers the most from tight credit, it's the stand-alone hospitals and small hospital systems that can't get enough capital to compete in today's brutal healthcare marketplace.
Digesting, divesting, and delevering
For some hospital chains, buying new facilities has taken second place to getting their current house in order.
Consider publicly traded Community Health Systems (CHS) in Brentwood, Tenn., which out-acquired everyone last year when it bought Triad Hospitals and its 50 facilities for $6.8 billion. Now, CHS is forgoing acquisitions for the most part so it can digest Triad, according to its first-quarter earnings report, although company CEO Wayne Smith told stock analysts in a conference call that “if someone is willing to offer us a great price for a particular facility, we would certainly consider that.” Case in point: CHS will complete the purchase of a struggling two-hospital system in Spokane, Wash., later this year.
Likewise, publicly traded Health Management Associates (HMA) in Naples, Fla., is in stabilization mode after earnings dropped 34 percent in 2007, and long-term debt nearly tripled. Its announced game plan is to invest available cash in its existing facilities and pay down debt. To raise cash, it sold a 27-percent stake in seven hospitals in March to non-profit Novant Health in Winston-Salem, N.C. But HMA anticipates returning to the hospital hunt. “We do expect to be growing again with selective acquisitions after 2008,” company CEO Burke Whitman told analysts.
Dallas-based Tenet and Nashville-based HCA have also been shedding facilities, and they too, have hinted at a readiness to reverse the process. HCA has used sales proceeds to retire whopping debt incurred when the company went private in 2006. Even so, this didn't stop HCA from buying a bankrupt Florida hospital in early 2008 for $20 million.
Like HCA, Tenet is highly leveraged, but unlike HCA, it loses money year after year. While Tenet could obtain credit for acquisitions, “The market wouldn't like it,” says Robert Hawkins, an analyst who specializes in healthcare providers at brokerage and investment banking firm Stifel, Nicolaus and Co. in St. Louis, Mo. “Tenet needs to refine its core business and deliver,” he suggests.
Where are the white knights?
What tempts hospital chains to go shopping is the availability of facilities that, due to economic stress, need a buyer to survive.
One stressor is the troubled financial sector. Many non-profit hospitals issued auction-rate bonds — favored for their low interest rates — a few years back to fund capital projects. However, more and more investors have declined to bid on them, worried that they're just as shaky as the companies that insure them — companies that also insure securities backed by notorious subprime mortgages. When an auction fails due to a lack of buyers, the bond's interest rate typically skyrockets by default, straining hospital budgets.