What To Watch As COVID-19 Cash Crunch Fuels Hospital M&A

By Jeff Overley
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Law360 (May 15, 2020, 7:50 PM EDT) -- Hospitals desperate to steady themselves after being buffeted by COVID-19's financial shockwave are likely in coming months to seriously consider mergers and acquisitions, but lawmakers are already pushing back and antitrust enforcers will probably be skeptical. Here are key issues to keep an eye on.

Federal Bailout's Size Will Be Key

Across the country, hospitals large and small have seen their fiscal foundations destabilized by the widespread cancellation of nonemergency procedures, which generate much of the industry's income, to conserve resources for COVID-19 care.

The American Hospital Association has projected that canceled procedures and coronavirus treatment will cost the industry $200 billion from March through June. Congress has approved $175 billion in assistance, but that's spread across much of the health care industry, not just hospitals.

Jim Boswell, health team leader at King & Spalding LLP, predicted in an interview that "federal relief funds for hospitals and other kinds of health care providers are not going to go the distance in terms of covering the shortfall in revenue and the expenses that they've incurred."

Earlier this month, just days after Congress added $75 billion to an earlier allocation of $100 billion, the AHA told congressional leaders in a letter that "additional support is urgently needed to ensure that care can continue to be given."

Tim McCrystal, health practice co-chair at Ropes & Gray LLP, told Law360 that "the payments ... for many hospital systems do not come close to covering the costs and lost revenue that those systems have incurred in connection with COVID-19."

House Democrats have tucked another $100 billion for providers into a newly unveiled $3 trillion coronavirus rescue package. But it's not clear whether congressional Republicans will support another COVID-19 relief bill anywhere near that size or how many more taxpayer dollars hospitals will ultimately get.

"Right now, we're kind of on a precipice," Rivkin Radler LLP partner Bob Iseman said. "We don't know how much more money the government is going to be willing to print to bail out the health care industry."

Diverse M&A May Emerge

Hospitals that find Uncle Sam's largesse insufficient could be left looking at M&A to regain their financial footing. Some may do so because they're running out of cash, and others may pursue deals in response to how COVID-19 is changing health care delivery.

Various financial pressures are "going to drive the need for transactions after this crisis is over," Boswell said.

David Dahlquist, health group co-chair at Winston & Strawn LLP, echoed that point, telling Law360 that he expects "a greater push for consolidation" in the aftermath of COVID-19's earnings earthquake.

"Hospitals and other health care providers that are unable to cope with the massive financial losses in the post-COVID world will need to seek out a more secure financial or strategic partner," Dahlquist said. "That is an element that we're seeing in a lot of phone calls."

Small and geographically remote hospitals, many of which have paper-thin profit margins even in good years, are particularly vulnerable and may look to join regional or national health systems.

"We think that there's going to be a lot of tendency for standalone hospitals to think that they can no longer be standalone," Boswell said.

In April, consulting firm Guidehouse LLP reported that "a quarter of U.S. rural hospitals are at a high risk of closing unless their financial situations improve," and that "the COVID-19 pandemic or any significant economic downturn is likely to make the situation even more dire."

"What you're certainly going to see are rescue mergers where some of the few remaining independent facilities will reach the end of their line," Rivkin Radler partner Jim Lagios told Law360. "You might see circumstances where they are reaching out to larger systems to kind of come in and be a savior to keep the local, small hospitals still viable."

Of course, staying viable doesn't mean that a hospital stays the same. A small medical center that's scooped up by a giant health care system could see its operations scaled back to focus on higher-volume services, forcing nearby patients to travel farther for major surgeries and specialty care.

"What's going to be accelerated here is the concept that people in particular markets are going to not expect a tertiary level of service to be as close to them as it once was," Rivkin Radler's Iseman said. "There will be this regional rationalization of services based upon the expense of the service and the sophistication of the service."

Multiple lawyers also told Law360 that the pandemic may well encourage vertical integration in which hospitals with robust resources snap up different types of providers to offer primary care and other outpatient services.

That's not a new trend. Public and private insurance plans have for years been steering patients to lower-cost, non-hospital settings and linking payment to quality of care; hospitals have responded by seeking to control more of the sites where patients are treated. But COVID-19 could birth new incentives for large medical systems to acquire clinics, physician practices and financially stressed hospitals.

Ropes & Gray's McCrystal noted that telemedicine has been all the rage during the pandemic and could become the new normal in primary care, since it has proved popular and kept patients from crowding into doctors' offices where coronavirus infections can easily spread.

"Going forward, health care facilities ... might think more about vertical integration in addition to horizontal integration," McCrystal said. 

Iseman offered a similar forecast: "You begin to see ... vertical integration, with different levels of care other than acute care being integrated into these local systems that perhaps will relate to a regional center. Those are all market forces that were in place before COVID-19, but they certainly have been accelerated."

Skepticism From Gov't Officials Looks Likely

Few pandemic-inspired hospital deals have been announced, but lawmakers are already sounding alarms about large companies using the crisis to justify deals that aren't good for consumers.

In California, for example, the state Senate Health Committee on Wednesday passed S.B. 977, which would outlaw certain anti-competitive activities and often require hospital systems to obtain the state attorney general's consent before completing acquisitions, among other things.

"As some hospitals and provider groups struggle financially during the COVID-19 crisis, action by the Legislature is crucial to protect the health care system for today as well as for the future," Sen. Bill Monning, the bill's author and a Democrat representing the central California coast, said in a statement attached to the bill. 

At the national level, Democratic lawmakers on Wednesday wrote to Treasury Secretary Steven Mnuchin and Federal Reserve Chairman Jerome Powell and urged them to "restrict large corporations that receive bailout funds from engaging in potentially harmful mergers and acquisitions." The letter came from Sens. Elizabeth Warren of Massachusetts and Amy Klobuchar of Minnesota as well as Rep. David Cicilline of Rhode Island, who chairs the House Judiciary Committee's antitrust panel.

A spokesperson for the Federal Trade Commission's Mergers IV division, which investigates health care provider transactions, said Friday that division leaders could not immediately discuss their thinking on pandemic-related M&A.

Some lawyers in private practice, however, don't expect any special treatment based on COVID-19.

"The FTC … has really taken the position overall that the law is the law, and they're going to look at the same factors they've looked at in the past," Deborah Gersh, co-chair of Ropes & Gray's health practice, told Law360.

In an effort to win over antitrust watchdogs, there's been speculation that some hospitals will turn to the "failing firm" defense — something that's expected in M&A more broadly amid COVID-19. The defense essentially contends that an anti-competitive deal is better than a business going kaput.

But the FTC and the U.S. Department of Justice have written guidelines that accept the failing firm theory only in narrow circumstances that require, among other things, for bankruptcy proceedings to not be a feasible path out of dire financial straits.

Notably, some observers have argued that the pandemic, which at times threatened to overwhelm hospitals, showed that the FTC has been too permissive over the years and bears some responsibility for excess consolidation and a lack of hospital beds.

But some defense lawyers are trying to make the opposite argument. Winston & Strawn's Dahlquist, for one, told Law360 that it's possible that "over-enforcement of hospital transactions [created] this scenario, where now we have financially unsound hospitals that have no choice but to either close or combine."

He isn't very optimistic, however, that antitrust regulators will buy the idea that COVID-19 shows that health care mergers should be treated differently from mergers involving other industries.

"You will never, never get a DOJ, FTC or antitrust enforcer in any state agency to agree with that statement. I challenge you to do that. I am not aware of any who would agree with that statement," Dahlquist said. "But that's the question that I'm posing."

--Editing by Kelly Duncan.

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