David Varhol, key trends in M&A activities and healthcare reform's financial impact
We’re continuing our blog series featuring interviews with healthcare executives who participate in the Healthcare Summit at Jackson Hole, an invitation-only event in its third year that's designed to be light on formal educational content and heavy on relationship development. In this blog post, we ask David Varhol, managing director of GE Capital, Healthcare Financial Services, to weigh in on healthcare trends from a financing standpoint.
Dodge: What is GE Capital, Healthcare Financial Services’ role in the healthcare industry and what impact do you see healthcare reform having on your company?
Varhol: GE Capital, Healthcare Financial Services is a leading global provider of capital to the healthcare market with over $15 billion of capital committed to the healthcare industry. Our core focus is on the middle market and we’re very proud of the fact that we have been the #1 lead arranger of mid-market healthcare leveraged loans (credit facilities of up to $500 million) for three consecutive years. We have a dedicated team of over 200 professionals focused solely on healthcare with deep knowledge of the industry. We’ve provided more than $60 billion in financing in the last 10 years to companies and private equity sponsors in over 45 healthcare sectors including healthcare services, senior housing, hospitals, medical offices, pharmaceuticals, healthcare IT and medical device. In 2012, we completed over 130 healthcare leveraged finance deals totaling around $5.7 billion in committed capital, with a lead role in over 80 of those deals. So, we’re very active in terms of the number of deals we’re involved in but also probably have the largest healthcare portfolio out there.
In terms of what impact the changes in healthcare reform will have on our company, it’s a broad question because we see it from all sides. On one hand we spend around $3 billion a year on health benefits across 600,000 covered lives (employees and retirees) but we also have a large healthcare sister business that generates about that same amount in profits so there’s somewhat of a hedge there and then we have our healthcare finance business. If you think about healthcare reform, it’s really all about taking cost out of the system while increasing the number of insureds. So you’re generally going to see increased volumes and reduced bad debt offset by some pricing reductions. With respect to our healthcare finance business, our portfolio is pretty well-positioned either way because of our subsector diversification. Generally, however, the change tends to be good in that it drives deal flow, M&A and otherwise. In the coming year, we expect less uncertainty with some of the political haggling behind us, which we believe will result in more opportunities for investors. We will see relentless pressure to reduce healthcare costs and evolving operating models (ie. ACOs, insurance exchanges, value-based healthcare and any company that can help take costs out while hopefully improving the quality of care and outcomes). Overall, the healthcare industry continues to move forward with integration, diversification and care coordination models.
Dodge: What are some of the key trends that we can expect to see in healthcare IT, M&A activities this year?
Varhol: In line with the drive towards care coordination and cost reduction we’re seeing significant interest and activity in companies that enable data analytics and reporting as well as connectivity. Providers are still ramping up on putting data into the electronic health record (EHR), but once it’s in, there’s a lot that could be done with it on the analytical side to help guide better quality of care. Companies that have very specific expertise in a particular clinical system, whether it’s for a particular area of the hospital or post-acute care settings, have generally been targeted by interested parties. Conversely, generic EHR vendors that have small installed bases are generally having trouble finding buyers. If you have a system that has a significant installed base of docs or hospitals and you have real mind share with those providers, then there is interest for those companies. An example of this was ePocrates, which sold to athenahealth. ePocrates has over 300,000 docs using their ePrescribing function, so there was value to that company, even though ePocrates’ EHR had some issues. Revenue cycle management companies are also coming to market, but then it’s about setting the right price.
Dodge: What are the major trends in healthcare from a financing standpoint?
Varhol: Last year was crazy. In 2012, the financial markets – especially in healthcare – experienced significant uncertainty and volatility related to the looming Affordable Care Act Supreme Court decision, election and the budget cliff. As a result, healthcare leveraged loan issuance got off to a slow start and overall market volume was down for the first three quarters of 2012 compared to prior year. Loan issuance was light, but the market was pretty heated as banks and debt investors competed for the limited new money opportunities. We then saw a sharp spike in activity in the fourth quarter post-election with 4Q ending up 66% over the prior year quarter. Net, net middle market healthcare volume ended being up about 19% over 2011. We provided a fair amount of M&A financing during the year, but 2012 was really dominated by re-financings, re-pricings and dividend recaps for private equity firms and other owners in advance of pending tax increases.
Going forward, we expect less uncertainty, which we believe will result in more opportunities for both debt and equity investors. The debt markets remain extremely strong with a substantial amount of liquidity that needs to be put to work. In many ways, we are arguably back to 2007 levels. This liquidity is driving lower pricing and more borrower-friendly credit terms which will hopefully continue to fuel the M&A fire.