Fair Value Analysis of Healthcare Entities

Fair Value Analysis of
Healthcare Entities
AICPA Forensic & Valuation Services Conference
November 13-15, 2017
Presented by:
Annapoorani Bhat
Jim Lloyd

Prepared for AICPA Forensics & Valuation Services Conference Page 1
Not a “How To” Guide
 Unique attributes of healthcare entities
 Impact on valuation methodology and
processes
 Coordination between valuation specialists
(real property, personal property, and BV),
auditors, and clients

Outline
 Fair Value and Related Guidance
 Types of Healthcare Entities
 Anatomy of Healthcare Entities
 Valuation Methodology
 Unique Transaction Settings in Healthcare
 Coordinating with Appraiser Firms/Auditors
 Questions

Polling Question 1
 What percentage of your projects involve
healthcare entities?
a) More than 50%
b) 20% to 50%
c) Less than 20%

Polling Question 2
 What is your role as it relates to fair value
analyses?
a) Auditor
b) Valuation professional

Polling Question 3
 Does your firm have all three relevant types of
valuation expertise in-house – i.e., real property
(RP), personal property (PP), and business
valuation (BV)?
a) Yes
b) No--have one component but subcontract with
outside party for other asset classes, or client
uses another firm

Polling Question 4
 Have you worked on healthcare transactions under
ASC 958 – Not-For-Profit Entities?
a) Yes
b) No

Fair Value & Related Guidance
 ASC 805 and ASC 958 are relevant guidance
 For profit – ASC 805: Business Combinations
 Not-for-profit (NFP) – ASC 958: Not-for-Profit Entities
 ASC 820 – Fair Value Measurements and Disclosures
 ASC 958 essentially makes financial reporting
requirements for not-for-profits similar to those for the
for-profit entities

“Fair value is the price that would be received
to sell an asset or paid to transfer a liability in
an orderly transaction between market
participants at the measurement date.”
ASC 820-10-20
Exit Price

For the most part, the actual transaction price tends to be the most
reliable indicator of fair value if it is at arm’s length and was executed
without any duress
But what if there was little or no purchase consideration?

 What makes healthcare transactions unique, is the
prevalence of not-for-profit hospitals
 According to the American Hospital Association, approximately
3,800 of the 4,862 community hospitals are not-for-profit or state
and government owned – nearly 80%

Piedmont Healthcare (PHC) entered into an affiliation
arrangement with Newton Health System (Newton)
whereby it became the sole corporate member of the
entity. Although no consideration was transferred, PHC
assumed all the assets and liabilities of Newton as of the
acquisition date. PHC assumed Newton’s lease with
County Authority which covers all the assets and liabilities
of Newton at inception of lease… cost of acquisition was
allocated in accordance with ASC 958...
At the termination of the lease, these assets and liabilities revert back to the authority. Lease
extended at transaction date to end in 40 years.
Source: Piedmont Healthcare Inc. and Affiliates, Consolidated Financial Statements: June 30, 2106
http://www.dacbond.com/dacContent/doc.jsp?id=0900bbc7801c4e78
…acquirer recorded the
fair value of all assets
acquired and liabilities
assumed resulting in a
contribution of $xxx,xxx
being recorded as
contribution received…
…

The Tuomey transaction was accounted for as an acquisition
with an effective date of January 1, 2016, and therefore the
financial position and results of operations of Palmetto
Health Tuomey are included in the Palmetto Health
consolidated financial statements as of the effective date.
The acquisition price was allocated to acquired assets and
assumed liabilities based on their respective fair values,
and resulted in recognition of an excess of net assets
acquired over consideration transferred (a net
“contribution”) of $17,094 in the consolidated statement of
changes in net assets for the year ended September 30,
2016.
Palmetto Health & Subsidiaries – Financial Statements for 9 months ended June 30, 2017
http://www.dacbond.com/dacContent/doc.jsp?id=0900bbc78020344e
“It is not atypical for not-for-profit
community hospitals to be
acquired where the purchase
consideration is lower than the
business enterprise value of the
entity. With respect to the
Tuomey transaction…, there
were a number of legal and
operational issues which drove
Tuomey to identify a potential
acquirer of its operations on an
accelerated basis. The excess
of net assets acquired over
consideration received arises
from the impact of these factors
on the negotiated purchase
price in the Tuomey transaction.”

Anatomy of Healthcare Entities

 Hospitals and health systems
 Surgery centers, oncology clinics, radiation
therapy centers
 Dialysis clinics
 Long-term acute care facilities
 Long-term care facilities
 Behavioral health facilities
 Primary care and specialty physician practices

Cash & AR
Supplies
Real property
Personal
Property
Intangible
assets and
GW
Hospital Assets

Land Furniture &
fixtures
Medical
equipment
Leasehold
improvements
Building
Real & Personal Property

Intangible Assets
 Is it capable of being separated from the entity
and sold, transferred, licensed, rented, or
exchanged, either individually, or with a related
contract, identifiable asset, or liability, (regardless
of whether there is an intent to do so):
OR
 Does it arise from contractual or other legal
rights?
Is it Separable?
Is it Contractual?

ASC 805 provides examples of identifiable
intangible assets acquired in a business
combination:
 Marketing-related intangible assets
 Customer-related intangible assets
 Artistic-related intangible assets
 Contract-related intangible assets
 Technology-related intangible assets
Trade Name
Certificate of Need
Non-Compete
Licenses-Medicare/LTAC
Above/Below Market
Leases
Developed
Technology/Patent

Valuation Methodology
Typical Process:
 Step 1: Perform an Internal Rate of Return
calculation based on the transaction price
 Step 2: Assess WACC
 Step 3: Identify and value intangible
and tangible assets
 Step 4: Let auditors take care of the rest

1) Accounts Receivable:
 First confirm it is part of the transaction
 Usually performed by management
2) Supplies (Inventory)
 Calculation based on frequency of purchase
 Or actual inventory count

3) Trade Name:
 Cost to Recreate
 Relief from Royalty/Avoided Cost
Considerations: Co-Branded? Useful Life?
4) Certificate of Need (CON)
 Comparative Cash Flow
Considerations: Likelihood of new applications, moratorium, difficulty in
obtaining CON, likelihood of legal challenges
Avoided Cost Method
Cost Build-Up Method
Relief-from-Royalty Method
Comparative Cash Flow
Method (with/without)

5) Licenses:
 Avoided Cost Method
Considerations: Identifying costs appropriately, useful life
6) Non-Compete (outpatient facilities/physician
practices)
 Comparative Cash Flow
Considerations: Likelihood of competition, impact on
capital requirements and net working capital needs
Avoided Cost Method
Comparative Cash Flow
Method (with/without)

7) Favorable/Unfavorable Leases:
 Income approach
Considerations: Market data on lease rate,
discount rate
8) Technology
 Cost build-up (income approach?)
Considerations: Useful life, cost inputs
Income Approach

Polling Question 5
 When valuing a CON, what method do you usually use?
a) Income Approach
b) Cost Approach
c) Market Approach
d) Assume it is part of real property value; no separate
analysis done

Polling Question 6
 Have you, in your experience, valued a patient-related
intangible asset?
a) Yes
b) No

 Aggregate amounts recognized
as a result of nine acquisitions
of surgery centers by a publicly
traded surgery center entity

 Details of intangible assets
recognized in surgery center
acquisitions

“The Company’s intangible assets relate to contract-
based physician minimum revenue guarantees; non-
competition agreements; certificates of need and
certificates of need exemptions; and licenses, provider
numbers, accreditations and other.
Contract-based physician minimum revenue guarantees
and non-competition agreements are amortized over the
terms of the agreements. The certificates of need,
certificates of need exemptions, licenses, provider
numbers, accreditations and other have been determined
to have indefinite lives and, accordingly, are not
amortized.”
LifePoint Health Inc.
December 31, 2016
10-K

9) Real Property and Personal Property
 Cost
 Income
 Market
Considerations: Facilities and equipment are “special purpose
assets.” Value in the context of current use.
Total business enterprise value and operational issues should be
taken into consideration when valuing real and personal property
assets to determine at the onset, if any economic or functional
obsolescence adjustments need to be applied.

Unique Transaction Settings
in Healthcare

Unique Transaction Settings in Healthcare
Typical Process:
 Step 1: Perform an Internal Rate of Return calculation
based on the transaction price
 Step 2: Assess WACC
 Step 3: Identify and value intangible and tangible assets
 Step 4: Let auditors take care of the rest

What If
the BEV of the hospital
is in excess of the
purchase consideration
and
the fair value of the
assets acquired exceeds
the BEV of the
hospital??

Call the
Accountant

 Start with qualitative assessment of the
transaction
 Perform an independent valuation of the
business enterprise of the healthcare entity to
confirm if the purchase consideration is
consistent with the BEV
 Ask if a Fair Market Value analysis of the
entity was performed for regulatory purposes
What If
the purchase
consideration is
zero or very
minimal? Is that
fair value?

What if the calculated fair value
of the assets exceeds the BEV
of the Hospital
i.e.,
the sum of the parts is more
than the whole?
Purchase price = $0
BEV of hospital = $60 mil
-FV of buildings = $70 mil
-FV of equipment = $10 mil
-FV of intangibles = $5 mil
-Current liabilities = $5
-Implied BEV = $80

Economic and Functional Obsolescence:
Consider if there is a case for economic and/or
functional obsolescence in the real and personal
property
 Business is not capable of generating sufficient
cash flows to cover the value of the fixed assets
 e.g., 150-bed hospital at 30% occupancy and poor
payer mix (external)
OR
 Hospital invested in expensive equipment that is
now obsolete because of new technology
Purchase price = $0
BEV of hospital = $60 mil
-FV of buildings = $50 mil
-FV of equipment = $10 mil
-FV of intangibles = $5 mil
-Current liabilities = $5
-Implied BEV = $60

Coordinating with Appraiser/Auditors

Coordinating with Appraisers/Auditors
 Work closely with auditors and appraisal firms from the start of
the engagement
 Use the kickoff call, or a similar contact point, to share selected
assets and valuation approach; obtain confirmation or
feedback on both
 If real and personal property valuations are performed by an
outside firm, discuss upfront the process that would be
followed to share results and identify needs related to
economic and/or functional obsolescence
 Reconcile calculations to fact pattern

Thank You

Annapoorani Bhat
Experience
Annapoorani Bhat is a Senior Manager with PYA (Pershing Yoakley & Associates, PC), a management
consulting and accounting firm specializing in the healthcare industry. Anna specializes in valuation and
related consulting services for companies in the health sciences sector, with her primary area of expertise in
the valuation of businesses and assets for financial reporting and tax purposes. She also has extensive
experience in performing valuations for regulatory compliance, specifically related to fair market value
analyses for transactions within the healthcare space, fair market value analysis of services, and physician
compensation. She is also focused on assisting healthcare organizations with evaluating the value of their
brands in the context of affiliations and joint ventures.
Anna received a Bachelor of Social Sciences from the National University of Singapore, a Master of
Business Administration degree from Boston College, and a Master of Social Science degree in Applied
Economics from the National University of Singapore. Anna is a member of the American Society of
Appraisers (ASA) and is an ASA Accredited Senior Appraiser in the Business Valuation discipline.
Professional & Civic Organizations
• American Society of Appraisers – Accredited Senior Appraiser
• American Health Lawyers Association, Women’s Council, Social Media Coordinator
Education & Credentials
• National University of Singapore
• Bachelor of Arts (Economics)
• Master of Social Sciences
(Applied Economics)
• Boston College
• MBA
• Accredited Senior Appraiser (ASA)
Senior Manager, PYA (Pershing Yoakley & Associates, PC)
865-673-0844 abhat@pyapc.com 2220 Sutherland Avenue | Knoxville, TN 37919

W. James Lloyd
Experience
W. James (Jim) Lloyd is a Shareholder with PYA (Pershing Yoakley & Associates, PC), a management
consulting and accounting firm specializing in the healthcare industry. Jim’s primary areas of expertise
include valuation (entities, joint ventures, complex business arrangements, and physician services
agreements), transaction advisory, hospital-physician alignment, affiliations and alliances, and
litigation/expert testimony services.
Jim regularly assists clients with structuring business transactions and arrangements and has led multiple
projects involving trade names and/or the “brand” value of organizations. He has broad healthcare industry
experience that spans a wide range of provider organizations such as ambulatory surgery centers, cancer
centers, dialysis facilities, imaging centers, hospitals, long-term care facilities, and physician practices. Other
relevant industry experience includes managed care organizations, pharmaceutical manufacturers,
pharmacies, manufacturing, real estate, and wholesale distribution, among others. Additionally, he has
substantial litigation/expert testimony experience related to a broad range of disputes involving antitrust,
diminution of value, fraud, intellectual property, lost profits, marital dissolution, post and failed acquisition
transactions, and shareholder oppression matters.
Professional & Civic Organizations
• American Institute of CPAs - Past Chair, ABV Credential Committee
• American Society of Appraisers - Past Member, Board of Examiners
• Helen Ross McNabb Foundation – Board of Directors
Education & Credentials
• University of Tennessee
• Bachelor of Science in
• Business Administration
• Certified Public Accountant (CPA)
• Licensed in Tennessee
• Accredited in Business Valuation (ABV)
• Accredited Senior Appraiser (ASA)
• Certified Fraud Examiner (CFE)
Shareholder, PYA (Pershing Yoakley & Associates, PC)
865-673-0844 jlloyd@pyapc.com 2220 Sutherland Avenue | Knoxville, TN 37919

PERSHING YOAKLEY & ASSOCIATES, P.C.
800.270.9629 | www.pyapc.com

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