Although the government funded businesses that retained their employees through the pandemic with the Paycheck Protection Program and Employee Retention Credits in 2020 through 2022, such funding is not expected to be widely available going forward. The impacts of wage growth and inflation are new challenges for platforms to manage.
According to a new report from credit ratings agency Fitch, early 2023 data shows that healthcare labor costs are subsiding compared to 2021 and 2022. While this is good news, the healthcare sector still faces headwinds for labor costs in the coming years. According to a McKinsey report, clinical labor costs are expected to grow by 6% to 10% over the next two years, which is 3 to 7 percentage points higher than the prevailing inflation rate. Considering this, healthcare investors are challenged to recover the margins lost to increased costs of labor. They’ll need to identify innovative ways to build and create margin in a post-pandemic world, while also growing the top line to set up a successful exit in the future.
As people are the most impactful and costliest resource to healthcare platforms, investors must ask: Do we have the tools and resources in place to ensure patient-facing employees can be adequately utilized? Is the administrative team ripe for growth in a highly acquisitive platform that enables investors to focus on the future, rather than question the past?
With people at the core of the business, when and how services are provided is key. As labor costs have risen and impacted the overall cost of delivery of care, providers are questioning if improvements to margin can be made through reevaluating compensation and staffing models or whether such focus should shift to technology and innovation. Let’s consider these options.
One consideration made by platforms is to reevaluate staffing and compensation models. Is a productivity model the appropriate method to compensate providers based on collections received? Or is there a way to provide a salary-based model, consistent with many hospitals, with bonuses driven by margins that align the goals of providers with investors? Further, many platforms are considering the use of advanced practice providers and nurse practitioners in place of physicians in instances where practices struggle to attract physicians.
Related content: Healthcare Report 2023
If the platform has identified its appropriate staffing and compensation model, other factors to consider for improving productivity are scheduling and technological solutions. Schedule management tools can serve as a map for productivity by providing information to identify available capacity. These tools can also provide information to assist in identifying no-show patients for further follow-up and offer the ability to further reduce the administrative burden for the back office. Considering these factors, investors must ask: Does this platform have the proper tools in place with its practice management systems? Or is there a need to develop and tailor something more specific to the platform’s needs?
Lastly, investors must ensure they can monitor such productivity and labor costs with the use of appropriate key performance indicators. While EBITDA is the king of the value castle, investors must monitor KPIs that provide a clear understanding of the cost of labor in the practice’s EBITDA, including but not limited to patient and provider-to-staff ratios, direct labor and support staff cost-to-revenue ratios, and patient visits to direct labor costs, etc. Such KPIs will reveal where the platform’s potential improvements lie to verify that efforts are appropriately targeted.
Ripe for Growth
Not only is the productivity of patient-facing employees important to the value creation of a platform, but the administrative staff supporting such operations must be ripe for rapid growth.
While interest rates and competition pose challenges for investors, many will focus on building scale in existing assets using add-ons with known cash flow potential, according to Bain & Co.’s Global Healthcare Private Equity and M&A Report 2023. Further, given the market and margin pressures, many independent practices may be more interested in selling to private equity to help navigate the effects of such contraction in their business, resulting in an ample supply of add-on opportunities. As a result, this will apply increased pressure to the back office of platforms that have to rapidly integrate add-on acquisitions into existing operations.
It is pivotal for investors to make certain the right administrative and nonclinical personnel are in place to support the expected growth many healthcare platforms will experience over the coming years.
It is pivotal for investors to make certain the right administrative and nonclinical personnel are in place to support the expected growth many healthcare platforms will experience over the coming years. Many physician practices prior to a private equity acquisition run lean back offices where multiple tasks are covered by one individual, with the goal of maintaining operations. If a platform is expected to close and integrate multiple practices within a short period of time, platforms must assess whether additional resources are needed to separately focus on the integration of new practices outside of the day-to-day operations. Once integrated into the practice’s systems, investors should ask: Is back office staffing adequate to support the increased volumes? Or could technological improvements or outsourcing be employed to ensure operations do not fall behind?
With market and labor cost trends facing the healthcare industry, the key to a successful investment and margin growth is a forward vision that is both informed and innovative. That vision should ensure the platform’s most prized resource—its employees—are aligned and supported throughout such growth to create value over its life cycle and result in a successful exit.
Kayla Marsh is a director in FORVIS’ National Healthcare Group. She has more than 11 years of accounting and audit experience and currently serves on the board of directors for the Dallas/Fort Worth chapter of ACG.
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