Home Health Care Mergers and Acquisitions
RoTech Medical Corp., an Orlando-based home health care company that has grown at a blistering rate, is being acquired by one of the industry's biggest players. . . Integrated Health Services, Inc. of Owings Mills, Md. said Monday it would buy RoTech in a stock and debt deal valued at about $915 million. . . . The sale would be a $40 million payday . . . for RoTech's publicity-shy founder and chief executive. . . .1
The quotation above is merely one recent example of how the burgeoning home health industry has been affected by mergers and acquisitions.
According to the Health Care Financing Administration (HCFA) home health care revenues have doubled from 13.1 billion dollars in 1990 to 26.2 billion dollars in 1994. Prior to this merger, IHS had recently acquired First American Health Care of Georgia, Inc., the largest privately held provider of home health services in the country, and Signature Home Care Group, a Texas corporation. Integrated Health Services, Inc. is only one of the large, national companies involved in the delivery of home health care which has seen rapid growth through a string of acquisitions in the last several years.
MANAGED CARE MAKES EXPANSION A NECESSITY
Five years ago these types of home health care mergers and acquisitions were virtually unheard of. However, in today's managed care marketplace such acquisitions have, and will continue to become not only common place but necessary. Expansion such as that illustrated by IHS's recent growth not only makes it a powerhouse in the industry, allowing it to offer increased services to its customers, but also provides increased benefits to the merged and acquired companies as well. Such mergers allow home health providers the opportunity to expand into each other's markets and creates vast cross-selling opportunities.
Because managed care plans are discharging patients earlier from the hospital, either into subacute settings or their homes, the fast growing home health care field represents a significant opportunity to post acute providers. As a result mergers and acquisitions such as those mentioned above are going to be necessary and far more frequent than in the past. This article discusses the basics of mergers and acquisitions as they apply to home health providers. It also describes the various forms of purchase, the structural characteristics of each form and some issues which must be considered when a purchase or acquisition of a company is being evaluated. The owners of a company providing home health care should always consult with appropriate professionals concerning tax considerations, drafting the agreement, and conforming with regulatory guidelines, regardless of the size of the contemplated transaction.
Mergers and acquisitions in the health care industry have taken various forms. Prior to the penetration of home health care into the managed care setting, acquisitions ranged from the simple purchase of single hospitals by other larger hospitals or hospital systems to the very complex mergers of publicly traded companies.
The marketplace has seen a significant amount of consolidation of proprietary hospitals into large publicly-held institutions with thousands of employees. Generally, individual community-based nonprofit hospitals and individual church related hospitals or systems have been combining with other large local or regional hospital systems, driven in part by a oversupply of hospital bed space due to government-insured promoted efforts to remove patients from the hospital beds.
Acquisitions also included those between payers and providers and between physician groups and other health care entities. However, no matter what the size or business structure of which the various entities consists, the basic purchase takes one of three forms.
1. Straight Asset Purchase
In a straight asset purchase, the buyer acquires some or all of the operating assets of the target company. For the buyer, this is advantageous in that a buyer can choose the assets to be acquired and can limit its exposure to the past activities of the target corporation by assuming only the specified liabilities that are articulated in the purchasing contract or agreement. Similarly, the asset form of purchase has particular advantages for the target or seller corporation in that it receives cash or securities which can be a resource for the target company to satisfy its liabilities, enrich its own stockholders, or further its charitable purposes. However, because the buyer can pick and choose among the assets as well as the liabilities, the target may be left with an assortment of nonpurchased assets which may serve no useful purpose or have no useful value apart from the whole. The target will then be faced with having to satisfy those unpurchased or unassumed liabilities and to dispose of any potentially useless assets.
The asset purchase is the most common form of purchase for single facility acquisitions and may be the only way in which a proprietary or "for profit" entity can legally acquire a business from a nonprofit.
Special Caveat Concerning Medicare Provider Numbers: The asset purchase agreement has particular significance to home health care agencies specifically as it pertains to the Medicare provider number. According to a recent Federal case, U.S. v. Vernon Home Health Care, if a buyer assumes the target home health agency's Medicare provider agreement and retains the target company's Medicare provider number, the Health Care Financing Administration may later pursue the remaining company (the buyer) for any of the past overpayments that were made to the target, even despite language to the contrary included in the purchasing agreement by those involved. This can pose some significant unforeseen liabilities on the unsuspecting owners.
For example, the facts reported in the case of U.S. v. Vernon Home Health, were that Vernon I, a Texas non-profit corporation and provider of home health care to Medicare patients, sold its assets to Vernon II, a different Texas corporation. Under the terms of the purchase agreement, Vernon II paid a fee for the assets of Vernon I and the two parties agreed that Vernon II assumed none of its liabilities. This was the traditional asset purchase that routinely occurs in such corporate transactions. Vernon I held a Medicare provider number which was automatically transferred to Vernon II in October 1985 as part of the asset purchase.
Shortly after this, the government filed a civil action in Federal court against Vernon II alleging that the government had made Medicare overpayments to Vernon I in the amount of $30,072.08 for the fiscal year ending June 30, 1984. As a result of the assignment of the Medicare provider number (evidencing an assignment of the existing Medicare provider agreement) Vernon II was found jointly and severally liable with Vernon I for all Medicare overpayments.
The Federal Circuit Court of Appeals decided that, pursuant to the Social Security Act, any purchase of assets that involves the reassignment of the Medicare provider number would also subject the number holder to all other legal and regulatory conditions in effect concerning the Medicare agreement. One of these conditions under the Act is that the government is authorized to make adjustments for overpayments against the holder of the provider number. Thus the assignee of a previously existing Medicare provider number remains subject to take action to recover money for the federal government.
Vernon II could have chosen not to accept the automatic assignment of the Medicare provider agreement. In that event Vernon II would then have had to apply as a new applicant to participate in the Medicare program. This would have, in fact, terminated its liability for any prior overpayments by the other company (Vernon I). However, Vernon II accepted the assignment to prevent a break in service and payments while it waited for approval of a new application. In doing so Vernon II agreed, perhaps unknowingly, to accept the terms and conditions of the Medicare program's regulations. This provides a lesson to be learned and followed by home health agencies and other health care providers when considering any similar purchase. Where possible, do not accept assignment of, or use the prior company's Medicare provider number. Instead, plan ahead and apply for a new Medicare provider's number.
2. Stock Purchase
The second general form of acquisition is the stock purchase. In this type of acquisition the buyer, or a subsidiary of the buyer, acquires all of the capital stock of the target corporation from the seller. The target then becomes a wholly-owned subsidiary of the buyer or the buyer's subsidiary. Under these circumstances, usually all of the assets and liabilities (including contingent assets and liabilities then existing on the closing date), remain with the target in the hands of the buyer.
For the buyer, this form of purchase may be advantageous in that the target is acquired as a whole entity which may reduce the need for third-party consents, and under certain conditions, avoid the need for change-of-ownership agreements. For the seller or target corporation, similar to the asset purchase, upon transfer and purchase the "deal is done" and the Target is not faced with "left over" assets or liabilities of which it must dispose.
The disadvantages for the buyer is that the target, in the hands of the buyer, retains all of its liabilities, whether disclosed or undisclosed, liquidated or contingent. In this manner, the buyer may be left with a significant degree of exposure for liabilities which were not disclosed as well as unwanted assets which may be difficult to dispose of. As a result, the disadvantage for the seller/target is that, understandably, the seller will have to undergo a more rigorous investigation (also known as "due diligence") by the buyer. This is done by the buyer so that it knows exactly what liabilities exist and what risks it may be purchasing. However, if the assets and liabilities are in order, the stock purchase can be a very favorable form of purchase for the seller.
The third general form of purchase takes the form of a merger. In a merger, two entities merge in a manner provided under state statutory law, with one of the entities surviving. State statutes also provide for what is known as a consolidation, where two constituent corporations merge into a new-formed entity which is the surviving corporation.
Unique to the health care industry is a structure known as the "reverse triangular merger." In this form of merger, the buyer's subsidiary is merged into the target corporation, with the target corporation surviving. In this manner, the Buyer's stockholders do not need to vote on the merger, and the target corporation, as a legal entity, survives, thereby reducing the need for various governmental approvals. The particular advantages to the buyer of this form of merger take the form of certain tax and accounting benefits. The tax ramifications of mergers between publicly-traded companies, or private companies, will not be addressed in this article due to the basic intent of the article. However, there are significant tax ramifications which should be considered and discussed with a professional in any form of purchase.
Disadvantages for the buyer and the seller in a merger, regardless of the form, are similar to those stated in the stock purchase. A buyer may find that it is exposed to third parties for liabilities that are disclosed or undisclosed and left with an abundance of unwanted assets. Similarly, the seller will have to expect to undergo a rigorous investigation ("due diligence") by the buyer.
4. Basic Considerations in all Mergers and Acquisitions
A discussion of mergers and acquisitions would not be complete without a discussion of antitrust issues. However, due to the extensive Federal and state law governing antitrust, it is impossible to address this issue in depth in this article. This section provides only a very general overview of this complex area of law.
In classical antitrust terms, mergers and acquisitions include both horizontal transactions and vertical transactions. Horizontal transactions include those transactions where similar types of entities combine to obtain a greater market share in whatever market in which they may have previously completed. Conversely, vertical transactions are those in which unlike entities combine in order to provide a continuum of health care services to patients.
The 1980s saw a large amount of horizontal integration. However, the 1990s have brought a flood of vertical integration involving combinations of various entities such as acute care hospitals, tertiary and higher level health care hospitals, rehabilitation hospitals, clinics, physician organizations, home health agencies, nursing homes, and various other providers of a range of health care services.
Several federal laws address the different theories of antitrust. The Federal Trade Commission (FTC) and the Department of Justice (DOJ) Antitrust Division enforce the Federal antitrust laws. Additionally, each state has a division of its own attorney general's office that specializes in antitrust enforcement of both Federal and state antitrust laws at the state level.
Both the FTC and the DOJ have issued policy statements specifically addressing health care providers and the types of mergers and acquisitions that may legally occur between hospitals and other health care providers. These statements outline certain "safety zones" that exist under specific circumstances.
The policy considerations behind these statements is to encourage the health care industry to enter into arrangements that would be more cost effective and lead to more efficient provision of health care to society as a whole. The nine policy statements published by DOJ and FTC include guidance concerning the following transactions in the health care industry:
- Mergers between hospitals;
- Hospital joint ventures involving high technology or medical equipment;
- Hospital joint ventures involving specialized clinical or other expensive health care services;
- Health care providers' collective provision of non-fee-related information to purchasers of health care services;
- Health care providers' collective provision of fee-related information to purchasers;
- Health care provider participation in exchanges of price and cost information;
- Joint purchasing arrangements among health care providers;
- Physician network joint ventures; and
- Analytical principles relating to multi-provider networks.
You will note that none of the above statements specifically address home health care; however, they may affect home health care agencies because of their ever expanding presence in the developing network of health care providers. For example a home health agency may be involved in a hospital merger if the home health agency is owned by or operated by the hospital or contracts with the hospital to provide home health services. Similarly, a home health agency may participate in a joint venture with physicians to provide home health services to patients treated by the physicians.
Whatever form of arrangement, those considering the purchase of or merger of a home health provider will want to consult the appropriate professional.
After it has been determined what form of purchase will be undertaken, additional practical considerations should be addressed prior to any formal written agreement being drafted. Some of the more basic considerations include the following:
- The form of payment. Specifically, cash or stock, lump sum payment or periodic payment.
- Valuation of capitalized items.
- If accounts receivable are not purchased, consideration will need to be given concerning reimbursement for patients under care at closing.
- Employee Considerations. What employees will be retained and how will the employee benefit programs match up between the buyer and the target and whether key management and corporate office staff be retained.
- Licensing and regulatory approval, including but not limited to the following:
- Certificates of Need (where required)
- Hart-Scott-Rodino Filing (a report to the Federal Government required when a merger or acquisition is planned concerning two companies over a certain size)
- Medicare Provider Number and
- FTC/DOJ Antitrust Issues.
These issues considerations are only a small sample of the many considerations prior to entering into the purchasing Agreement.
5. The Agreement
Typically, the buyer or its representative will be the one to draft the purchase agreement and related documents. Many different factors influence the contents of the agreement (some of which have been already discussed. However, generally the agreement should set forth the form of the merger or acquisition, i.e., asset purchase, stock exchange, etc. . . . The agreement should also contain a section devoted to the closing specifying not only when closing will occur, but where it will occur. This particular event will largely be dependent upon the timing of the regulatory approvals mentioned above. The parties may also wish to consider the timing of the closing relative to certain issues such as accounting and make it retroactive to a stated date.
The bulk of the agreement will consist of the representations and warranties section. This section is extremely important for both the Buyer and the Seller. In this section of the agreement the seller will provide representations and warranties that will guide the buyer in preparing for the transition into and operation of the acquired business. Conversely, this section will also set forth the specific protections afforded to the buyer against the seller, if the seller has misrepresented any information concerning the business sold.
The parties should use this section of the agreement for the seller to set forth all financial information (balance sheets, financial statements, etc.), corporate organization, description of the assets, status of regulatory compliance and any pending litigation matters.
The buyer should use this section of the agreement to set forth the good standing of the buyer to enter into the transaction along with the buyer's ability to deliver and perform pursuant to the agreement. Depending upon the complexity of the transfer, the seller may wish to have more stringent representations and warranties drafted and agreed to by the buyer.
The remaining sections of the agreement should set forth a provision to allow the buyer access to the seller's business in terms of all records and assets. Similarly there should be a general covenants section that contemplates certain actions or omissions on the part of both parties. The seller will generally be required to preserve the business in it existing state as far as goodwill, regulatory approvals, funding employee benefit plans, calling stockholders' meetings and assuring that no material change is made to the business prior to closing. The buyer will generally be requested to make covenants to pursue regulatory approval, call meetings with stockholders and maintain post-closing employment agreements.
Finally, the agreement should set forth a provision for the termination of the agreement on the part of either party and any other conditions contemplated prior to the closing.
The area of health care mergers and acquisitions is one that is growing at a phenomenal rate. With such growth comes vast benefits available to the home health industry. Cross-referrals between entities will not only provide economic benefit to stockholders and the entities involved, but stronger and more efficient service to the public as a whole in this managed care society. However, entering into any of the forms of purchase discussed herein should be done carefully and from a vantage point of knowledge and preparation.
The home health care professional should consult the appropriate sources and acquire a thorough knowledge and understanding of the business involved, the risks and benefits inherent in the purchase and strive to anticipate the contingencies that may occur in the future, prior to attempting to participate in a merger or acquisition.