ASC valuation is a complex process that requires a deep understanding of the numerous factors that influence a surgery center's worth as well as the trends that impact the industry as a whole.
Todd J. Mello, ASA, CVA, MBA, partner and co-founder of HealthCare Appraisers, offered his insight on ASC valuation at the Becker's ASC Review 22nd Annual Meeting — The Business and Operations of ASCs.
Here are six of the key aspects of ASC valuation that Mr. Mello highlighted in his presentation.
1. Determine fair market value. "Anything and everything we do in healthcare has to be done for fair market value," said Mr. Mello. Instead of explaining what fair market value is, Mr. Mello provided examples of what fair market value is not. For example, in connection with a hospital's 100 percent acquisition of an ASC, the valuator cannot consider overlaying the hospital's outpatient department fee structure onto the valuation. Similarly, the valuator cannot overlay the hospital's payer contracts onto the valuation.
Mr. Mello also highlighted that the fair market value of a surgery center is the value of the center to a hypothetical willing and able buyer rather than the actual buyer. For instance, in a situation where a hospital wants to buy an ASC just to shut it down, that doesn't mean the ASC has no value, said Mr. Mello.
2. Valuation is forward looking. Historical performance may or may not provide the best indication of future performance, according to Mr. Mello. For example, if a surgery center just added three new sports medicine surgeons its historical volume isn't going to accurately reflect the center's volume going forward.
3. Many factors contribute to higher valuations. For a given level of cash flow, there are numerous factors that tend to enhance an ASC's value, such as being a multispecialty center. "Orthopedics might be an exception to this because it is single specialty and very hot for valuation purposes and very desired by buyers," said Mr. Mello. Other factors include diversification of surgeons, a high percentage of cases performed by owners who are "motivated" to continue working, an established history of continually seeking new owners, growth in cases and earnings, and being predominantly in-network with commercial payers.
4. Out-of-network risk is complicated. Inexperienced valuators oftentimes cannot understand risk associated with out-of-network ASCs. Mr. Mello stressed the importance of working with experienced valuators who have a deep understanding of this issue. "Make sure you find someone who knows what they're doing…and routinely values centers…and understands what's happening in the industry," said Mr. Mello.
5. Make normalizing adjustments. Normalizing adjustments eliminate one-time gains or losses, non-recurring business elements and other unusual items. ASCs, like any business, oftentimes will experience one-time nonrecurring expenses, which will inappropriately alter expense structure and lower earnings. Common one-time items include atypical legal and consulting fees and related party rent, according to Mr. Mello.
For example, if a center's legal fees were $75,000 in 2013, $76,000 in 2014 and then spiked to $500,000 in 2015, a valuator should not consider $500,000 as the center's normal annual legal fees. On the other end of the spectrum, if an ASC enters into an agreement to end a legal dispute that has been ongoing and receives a $500,000 settlement, that settlement and the resulting spike in earnings should not be factored into a valuation moving forward.
6. Consider capacity constraints. ASCs have practical capacity constraints, and creating projections that seem to ignore them is problematic, said Mr. Mello. "As you're giving a valuator a forecast for your center, you have to think about all of the parts," he said. For example, if a surgery center is projecting a significant uptick in cases next year, it has to consider the expenses associated with those new cases such as costs related to staff and new equipment.