Valuation of Physician Practices

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1 Valuation of Physician Practices

2 Presentation Summary! Overview! As mergers and acquisitions of physician practices continue to be prevalent, an understanding of valuation and relevant compliance considerations is critical.! Objectives! This presentation will provide a brief overview of the following topics:! Alternative standards of value including fair market value, fair value, and investment value! The three primary valuation approaches! Typical buyer considerations in a physician practice acquisition

3 Standards of Value! Standards of Value! Fair Market Value! Fair Value! Investment Value! Appropriate standard is driven by purpose of engagement

4 Standards of Value! Fair Market Value! The price at which property would change hands between a hypothetical willing buyer and a hypothetical willing seller, both being adequately informed of the relevant facts and neither being under any compulsion to buy or sell IRS Revenue Ruling 59-60! Required standard of value stipulated by IRS and OIG! Further clarifications under Stark Law and the Anti- Kickback Statute

5 Standards of Value! Fair Market Value (continued)! Commercially Reasonable concept for transactions involving physicians! An arrangement will be considered commercially reasonable in the absence of referrals if the arrangement would make commercial sense if entered into by a reasonable entity of similar type and size and a reasonable physician (or family member or group practice) of similar scope and specialty, even if there were no potential DHS referrals! Purchasers cannot pay physicians for referrals outpatient, inpatient or ancillary services

6 Standards of Value! Fair Value! Required standard of value for accounting matters! The price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date Accounting Standards Codification ( ASC ) Topic 820 (formerly SFAS 157)! Exit Price Concept! Typically, fair value is assumed to be equal to fair market value although the values could be different

7 Standards of Value! Investment Value! Considers the attributes of a specific buyer or situation! Often seen in mergers and acquisitions involving strategic buyers may include synergies! Investment value to a hospital could be higher than fair market value

8 Standards of Value! Value Differences! Each standard can result in a different value for the same asset/interest! Fair market value versus investment value in an acquisition of a physician practice! Due to Stark Law and the Anti-Kickback Statute, the value cannot be tied to the value or volume of future referrals! Value associated with referrals can be significant for many specialties

9 Valuation Approaches! Primary Valuation Approaches! Asset Approach! Income Approach! Market Approach! Nature of asset or interest will influence selection of approaches! Income and/or asset approaches typically used in physician practice valuations

10 Valuation Approaches! Asset Approach! Net Asset Value method! Asset context! Cost to create exact or similar assets! Business context! Value of equity = value of assets value of liabilities (both at fair market value)! May require appraisal of equipment and real property! Establishes minimum value for business! Orderly liquidation vs. value in use

11 Valuation Approaches! Income Approach! Value determined based on present value of future economic benefits of ownership (after all operating expenses including compensation)! Considers market rates of return for similar investments! Methods:! Discounted Cash Flow! Multi-year projection discounted to present value! Capitalization of Cash Flow! Multiple (or capitalization rate) applied to representative cash flow

12 Valuation Approaches! Market Approach! Identify exchanges of similar assets/ interests in the marketplace! Draw inferences for use in deriving estimate of value of subject asset/interest! Methods:! Guideline (Public) Company! Merger & Acquisition! Transactions of public and private entities! Transactions in company stock / bona fide offers for purchase

13 Valuation Approaches! Considerations! Asset Approach! Only quantifies the value of tangible assets unless other approaches are utilized for intangible assets! Income Approach! Adjustments to operating expenses often needed physician compensation, rent, etc.! Medical Group Management Association ( MGMA ) data and other surveys! Predictability of future operating results! Determination of an appropriate discount rate

14 Valuation Approaches! Considerations (continued)! Market Approach! Availability of relevant financial detail needed for analysis (such as physician compensation terms)! Recent changes in the market/industry not considered in past transactions! Comparability to company being valued! Payer mix! Size / geographic location! Service diversification / specialties

15 Practice Valuation Considerations! Each practice has unique attributes! Must evaluate recent trends in performance:! Payer mix! Volumes and procedure mix! Physician compensation! Utilization of mid-level providers! Overhead levels! Staff turnover! Cash flows after compensation! Professional vs. Technical Component Revenue! Is current revenue sustainable?

16 Practice Valuation Considerations! Who is a potential buyer in the marketplace?! Hospitals / Practices / Other! Does the analysis reflect assumptions that only one potential buyer could achieve?! If yes, the value may not be consistent with Fair Market Value! The target entity must be expected to provide a reasonable return on investment for the hypothetical acquirer in order to justify a purchase price that includes a premium over tangible asset value! Structure of future compensation arrangement! Production based (collections or work RVU s)! Other incentives (patient satisfaction, citizenship)! Will new structure result in increased compensation for physicians?

17 Contact Information Matthew J. Wescott, ASA Phone: (517)

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