With almost $2.5 trillion available dry powder as at the middle of 2023, the healthcare sector remains an attractive destination for investment.
Notwithstanding the adverse economic conditions which have created challenge to M&A activity and lowered deal volumes, it is growing adoption of technology that makes healthcare remain a fertile ground for investors with an understanding of its niches and differences from other sectors.
Healthcare is benefitting from being a niche industry
Niche markets tend to have higher margins, and healthcare is no exception. This can often be attributed to high barriers to entry, which makes the environment more difficult to access for all investors.
For generalist investors, the higher valuations can also represent a challenge as they are invariably trying to compete with others who have a deeper understanding of a particular healthcare niche.
Private Equity (PE) houses that operate in this sector usually develop a reputation in particular areas that positions them well to access opportunities and close deals. Track records in specialist areas can be crucial to provide investors with credibility and that is often seen in healthcare.
The drivers for growth in the healthcare sector
Whilst labour shortages in healthcare are a significant obstacle for the sector, they can also present opportunities for it to grow and innovate. Consequently, businesses are actively exploring technologies that lower their reliance on human resources. Robotics is one such example, through developing mobile lifts that help patients get into and out of beds.
Technology using robotics provides a marketable solution, without compromising on quality of service. Artificial Intelligence (AI) is another growth area as healthcare providers seek to find alternatives to combat the shortage of skilled practitioners.
Healthcare M&A deals are often strategic in nature. There may be a specific cross-border growth path that a company wants or needs to pursue, or a buy-and-build acquisition that complements its portfolio of products and services. Scott Powers, Director, Transaction Advisory Services at RSM US LLP states, “There may be limitations to a buy-and-build strategy as regulators in the U.S. have increased their focus on the prevention of monopolisation of local markets. A recent court case between the Federal Trade Commission (FTC) and a PE-backed healthcare operator stands as a case in point.”
Some subsectors in the healthcare industry are experiencing higher deal volumes than others, including:
- Clinical trials and clinical research organisations.
- Dental care.
- Behavioural health, particularly in the U.S.
- Equipment leasing is experiencing growth in Europe with cross-border interest from the UK.
- Hospice care is also attracting high deal volumes.
Challenges and opportunities in healthcare
Moving from a human capital to a technology capital model in the healthcare sector may well require substantial investment. The impact of higher interest rates has made access to finance more challenging, but the sector generally is viewed as resilient as healthcare needs are seen as non-discretionary.
With changes in business models through investments in technology, forecasting future revenue can be more challenging and this can make valuations more difficult to agree between buyers and sellers.
Marcel Vlaar, Financial Due Diligence Director at RSM Netherlands notes, “Remote care is a subsector of healthcare, offering significant opportunities. Healthcare costs are rising, and with ageing populations, curtailing these costs is essential. Remote models using digitalisation allow businesses to consolidate their physical assets but still provide excellent services outside of the major urban centres.”
Regulatory impacts on healthcare
The healthcare sector is highly regulated, especially in regard to the high-stakes development of new medicines. Their pathway to deployment hangs on medicines having completed trials, thereby receiving regulatory approval. Divergence in regulation can bring opportunity, notably between adjoining countries which can lead to cross-border collaboration.
The adoption of AI has also attracted the attention of government regulators. A recent AI Safety Summit in Bletchley Park, UK produced a declaration signed by 29 countries aimed at fostering co-operation and deepening our understanding of the potential safety risks. Future developments in AI regulation may impact the use of AI in healthcare.
Prominent deal features
As M&A markets become less heated and competition to complete transactions achieves a better balance, healthcare acquisitions, along with other industries, can see more considered due diligence processes. “Our due diligence invariably needs to include an analysis of the COVID impact on historical trading. There may have been extraordinary sales volumes that need to be highlighted within historical data and when considering the basis of projected revenue. Reflective of the economic environment, investors and banks are also scrutinising forecasts at a more detailed level than before to assess the robustness of projected earnings and cash flows. Banks are particularly focused on the ability to service interest costs and capital repayments,” says Oliver Smyth, M&A Transaction Services Partner in RSM Norway and Nordics FDD lead.
Cross-border acquisitions are common in the healthcare sector. Even smaller businesses are exploring cross-border opportunities as a growth strategy, with some deals as low as €5 million having cross-border elements.
Assets where existing owners are staying on board with incentives to grow the business may be more attractive to buyers compared to assets where owners are exiting the business. This allows these businesses to benefit from that owner knowledge and to continue to build and develop stakeholder relationships.
The healthcare sector is a specialised environment often with high barriers to entry. Ageing populations, a scarcity of skilled resources and rising costs are all contributing to a drive towards developing new technologies for the sector. As a result, M&A activity in the healthcare sector shows strong resilience to adverse economic conditions, with cross-border deals a common feature.
Read the article on our RSM Global site.