Healthcare IT Merger and Acquisition Activity: Expect More Deals, More Consolidation

In late May, the New York-based Berkery Noyes Investment Bankers released a white paper titled “An Overview of M&A in the Healthcare IT Sector,” which provided an investment banking strategic view of merger and activity in the healthcare IT vendor sphere. Given the pace of healthcare IT vendor consolidation that has already occurred, white paper author Tom O’Connor, a managing director at Berkery Noyes, who leads the firm’s Healthcare Group, wrote, “Most innovation in the HIT sector is occurring at smaller and medium size privately held companies. Many of them,” he noted, “have spent years developing unique offerings, achieving some scale, and building recurring revenue models in attractive niches. They now have the opportunity to capitalize on the attention that strategic and financial buyers are showing to HIT solutions companies.”

Indeed, the report continued, “The majority of transactions in HIT are occurring in the lower middle market (i.e., less than $200 million in enterprise value). The most attractive acquisition targets are companies that are growing very fast (30-40 percent revenue growth rate), have recurring revenue models, and offer solutions that solve a pain point along the healthcare continuum.”

Shortly after the release of the white paper on Berkery Noyes’ website, Tom O’Connor gave his first interview about the report to HCI Editor-in-Chief Mark Hagland. Below are excerpts from that interview.

Overall, what are the topline findings in your white paper around recent merger and acquisition activity?

Healthcare is 18 percent of GDP in this country; yet two industries, healthcare and education, are both 10-15 years behind virtually all the other industries in becoming digitalized. But with federal incentives, we’re seeing a big push towards electronic solutions. And all that innovation is happening on the small-company level, and vendors are coming up with unique software solutions; and when they get to a certain level, $10-15 million in sales, many of those firms are getting acquired by investor groups or by larger companies.

Tom O'Connor

What would you say about the big clinical IT vendors? Is the prediction that some have been making, that soon there would be just a handful of all very large vendors in healthcare IT, coming true? Or is it a more complex situation than that? I’m still seeing many smaller entrants coming in, of course.

It’s a mixed picture, actually. On the one hand, you’ve got the very large core-clinical and electronic health record (EHR) vendors, the Cerners, McKessons, etc.; then you’ve got the Oracles, the vendors with a presence across multiple industries; and then you have ADP buying a revenue cycle solution; Wolters Kluwer buying a pharmacy workflow tool. So the lines are all blurring, and they’re all fighting for more and more of the share of wallet. And hospitals want fewer vendors, to make them more efficient; so it’s a fascinating marketplace. And 10 years from now, you’ll see a lot fewer companies.

And hospitals want fewer vendors, with the same vendors providing more services. So instead of wanting 50 vendors, they want 20 vendors overall. And it’s really still very byzantine, but those who can understand how to navigate the space, will benefit. And there is no Microsoft Word or Microsoft Office for healthcare. A lot of the big hospital chains have Epic now. But outside the big EHRs—and everyone’s chosen one of those—everyone wants to be a part of the information flow to make the hospitals more efficient.

Is consolidation stifling the entry into the market of new entrants?

Look at Epic; it’s old technology, it’s built on MUMPS. And we’re in the first generation of EHRs. We’re going to see innovation over time. I’m looking to SaaS [software as a service]-based solutions; there are a thousand non-EHR niches, and new companies are all working on recurring-revenue models. And patient care organizations are finally getting used to working in the cloud. Meanwhile, with regard to the younger generation of healthcare IT professionals, trends in the consumer IT market are influencing professionals in healthcare. They want the same kinds of technology when they go to work. And guys doing the most interesting stuff are the little guys, the most entrepreneurial. That’s why all the deals are under $200 million.

And the fact is, you don’t mind paying money for something that’s really innovative. Private equity investors today want recurring revenue model, they want unique solutions, low capital expenditures, no reimbursement risk, defensible markets, and large market opportunities. The entrepreneur wants to build to $50 million and to get investors. And the decision is whether to sell at an early stage, or to grow and build the business larger and sell larger, later on. And we’re seeing the technology-centric, private equity partners, the Vistas, Francisco Partners, Insights, they have the technology skills to help these little companies do well.

What should our audience be thinking and doing around all this activity?

People need to vet their vendors; you don’t want to go with a fad. Is your vendor capitalized correctly? If it’s a major installation, they need to ask the vendor to show them their financials. It’s an excellent concern. That’s why you also see some small shops, some motivation to get more capital into the business. People won’t take a risk sometimes; they need to know you’re going to be around five years from now. But with a SaaS model, there’s less of a financial risk involved.

What will the landscape of merger and acquisition activity look five years from now in healthcare IT?

There are just too many players right now; you’ll see a lot of consolidation. There also needs to be a lot more interoperability. But we very much need the new blood and the entrepreneurs, to come up with new solutions. Everyone’s under a lot of financial pressure in healthcare to do more with less. There will be bigger vendors, but they’ll be doing more. But I think because the lines are blurring—you’re seeing a blurring of the lines between hospitals, insurance companies, etc.—but there’s no reason why an angiogram in California costs more than an angiogram in New York. It’s an industry on which the curtain needs to be pulled back. So it’s in industry in transition, because we’re far behind.