10 Steps to Increase the Value of a Hospital or Surgery Center

Hospital mergers and acquisitions increased 12 percent in 2011, according to a Levin Associates report, with surgery center deals following suit. More healthcare facilities are likely to sell part or all of their business, meaning leaders must understand the factors that impact valuation. Here Jason Ruchaber, CFA, ASA, partner with healthcare valuation firm HealthCare Appraisers, discusses the three levers of valuation — earnings, risk and growth — and 10 steps for a hospital or surgery center to increase its value.

Earnings

1. The more money you make, the more you're worth. Mr. Ruchaber says the correlation between earnings and value is pretty straight-forward: The more money you make, the higher your valuation. He says to increase value, a hospital or surgery center should have a solid understanding of their financial position and be able to articulate the steps they are doing to maintain and/or enhance earnings. "When we're doing financial analysis, we want to see a center or hospital that has a good grasp of what they're doing financially," he says. This means creating budgets and analyzing variances, evaluating costs on a regular basis, and understanding the contribution margin of different case types/service lines.

2. Understand how you compare to others. Mr. Ruchaber says benchmarking is essential for surgery centers and hospitals to determine if their finances are in line, and a key component of the valuation process. He says when valuing a facility, he frequently asks questions like, "How do your staff costs per case compare to your competitors in the area? How does reimbursement vary by surgical specialty?" He also asks questions about any outliers on the facility's financial records, such as a month with particularly high or low case revenue or non-recurring expense. He says facilities that are able to explain outliers will generally command a higher value than facilities that do not understand why finances are fluctuating. "Great facilities frequently measure and know where they stand relative to others and understand why variances exist," he says.

3. Hire a CPA. Don't depend completely on your facility staff to keep your finances in order, Mr. Ruchaber says. He recommends "routinely engaging an accounting firm to assist, compile, review, or in the best case, audit the financial statements." He says this helps a valuation firm or buyer know that financial information is accurate and reported under generally accepted accounting rules.

4. Enhance profitability with "quality earnings." Not all earnings are created equal, Mr. Ruchaber says. "You want to pursue high-quality earnings that are sustainable and not overly risky," he says. He says his company looks for earnings that don't have a risk of substantially changing based on only one or two changes in the environment.

For example, some facilities depend heavily on an out-of-network reimbursement strategy, meaning they don't contract with payors and instead bill higher out-of-network rates. This strategy may generate significant profits, but due to increased pressure from payors on referring physicians and patients, out-of-network cases are harder to come by. "The reason out-of-network is so risky is that the likelihood it will change is al on the downside," Mr. Ruchaber says. "Reimbursement for these cases is unlikely to go up. However, when payors stop paying these charges or when a facility transitions to in-network, it'll have an immediate and material impact on the bottom line."

Risk

1. Understand why your metrics are changing. Some aspects of a healthcare facility's business are unpredictable. "It's not always possible to predict whether someone's going to come in with a heart attack, stroke, etc.," Mr. Ruchaber says. "It's important to understand the business metrics that show signs of a problem." He says the main way to mitigate risk is to understand your business: If you can explain why revenue is down or readmissions are up for the month, you will be less susceptible to sudden, unexplained changes that negatively impact the bottom line.

For example, he says a hospital with high readmission rates might actively track the diseases most likely to result in readmissions, then target those diseases to lower rates. Even if readmissions stay high in some areas, you should be able to isolate those areas and say, "We know readmissions are up because of this area" rather than, "We really don't know what's going on."

2. Diversify sources of revenue. Mr. Ruchaber says facility risk increases when revenue depends on a few key specialties, physicians or payors. If the majority of a hospital's business comes from a cardiology service line, the hospital will suffer financially if reimbursement rates drop, a scandal prevents patients from coming to the hospital, or high-volume cardiologists leave.

"From a finance standpoint, risk is really evaluated based on the likelihood that the actual results will deviate from the expected results, and by how much," Mr. Ruchaber says. He says a strongly diversified facility is less likely to deviate materially from the "expected results" line. Facilities that are not well diversified will are subject to more significant "ups and downs," which poses greater risk to an investor.

3. Improve payment processes. You may have payors that take a long time to pay claims, driving up your A/R and creating more risk for your facility. Mr. Ruchaber says while most facilities cannot control their payor base, which depends on the employers and major insurance companies in the region. However, they can ensure proper coding and billing processes are in place and work with individual payors to improve contracted rates and payment times. "If an individual payor is taking longer than others, you may be able to improve the value of your business by improving the efficiency of the payment process and getting your A/R balances down," he says.

4. Credential dependable physicians and hire great staff. Nothing can hurt a facility's finances as quickly and irreparably as a bad reputation, Mr. Ruchaber says. If your facility has a scandal surrounding a quality issue, patient volume and physician referrals will drop significantly. If your facility has rude staff, disruptive physicians or other unprofessional behavior, you will lose affiliated physicians and their patients. "Make sure the credentialing process is set up to bring in top-quality physicians," Mr. Ruchaber says. "Though increased volumes may be desirable, centers need to understand the risk they take in bringing on disruptive doctors."

He says the facility should also concentrate on patient relations. Most centers believe that they are doing a good job, but few actually take the time to actually evaluate this from a patient's perspective. When Mr. Ruchaber walks into a facility on a site visit, he first examines the reception and waiting areas for signs of trouble. If possible, he tries to observe interactions between the staff and patients, but he also evaluates his own interaction. "Do I have to wait for ten minutes to talk to the receptionist, or am I greeted quickly? Is the tone pleasant and cheerful or stressed and curt?" he says. He also looks to see if the facility has its front office organized and in good order? "What's going on behind the front desk can be a reflection of what happens in the ORs," he says.

He also looks at the cleanliness and condition of the other areas seen by patients. "Surgery is stressful, and when a patient can look around and see that attention is given to the minor details, it adds a level of comfort to the overall experience," he says. He says good customer service mitigates risk and enhances profit, both of which increase value.

Growth

1. Understand where potential for growth exists. "All things equal, higher growth equals higher value," Mr. Ruchaber says. "The highest multiples are generally paid for those centers demonstrating strong growth." Because growth is key to a successful valuation, he says his company looks for facilities that understand where they can expand case volume and recruit physicians. "It's about understanding the demands of the community and the population base," he says.

He says he likes to see a facility that puts together budgets and actively pursues different strategic initiatives, whether they're business, clinical or expansionary. He says growth is also related to the quality of the institution; a facility with high-quality equipment, updated operating rooms and capable staff is more likely to attract physicians and patients than one in need of significant upgrades.  

2. Be wary of growth that comes with substantial risk. Not all growth is good growth, Mr. Ruchaber says. He says the three "levers" of valuation — earnings, risk and growth — are so closely interwoven that certain kinds of growth do not result in greater value. "While they're focusing on the growth lever, they may also be increasing the risk lever," he says.

For example, he says some surgery center choose to implement spine procedures because reimbursement rates are high and the specialty was only recently introduced to ASCs. "Spine takes a bit of capital expenditure and extra training for staff, and the volume may not materialize" he says. "We don't want to see a surgery center trying to bring in volume at the risk of its patients, spending too much on capital and opening up too many ORs when they don't have the volume guaranteed."

He says hospitals and surgery centers should never base growth on the idea of, "If you build it, they will come." You have to know whether the service is needed and wanted in the community before spending money and time on implementation.

Learn more about HealthCare Appraisers.

Related Articles on Transactions and Valuation:
Construction Starts on 10,000 Square Foot Bridgeport Surgery Center in Ohio
Ohio Valley Ambulatory Surgery Center Partners With Camden Clark Medical Center
Mildred Milliman Outpatient Surgery Center Opens at New York's Olean General Hospital

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