Alex Kacik: Hello, and welcome to Modern Healthcare’s Beyond the Byline, where we offer a behind the scenes look into our reporting. I’m Alex Kacik, Senior Operations Reporter. Senior Finance Reporter, Tara Bannow is joining me today to talk about private equities interest in healthcare and how federal regulators are targeting False Claims Act cases. Thanks for joining me, Tara.

Tara Bannow: Thanks for having me.

Alex Kacik: Tara, you came out with a special report a couple weeks ago about how the Justice Department is targeting private equity backed healthcare companies. PE firms have invested in so many parts of the healthcare industry, from physician groups to device manufacturers, to pharmaceutical companies. The value of deals involving PE firms has exploded to about $750 billion over the past decade, according to PitchBook Data. Why is private equity interested in healthcare and what are regulators watching?

Tara Bannow: Well, the answer is pretty simple. It’s just private equity goal is profit, and healthcare happens to be a really safe bet for achieving that. These firms have, just for decades, been investing in all aspects of healthcare. Orthopedics, dermatology technologies, urgent care, primary care. The list is endless. The DOJ, meanwhile is just acting on a directive from 2015, the Yates memo that requires them to hold all parties accountable for fraud. So, not just the healthcare provider, or the tech company, but its private equity owner and sometimes even the individual partners. So, when the DOJ is investigating whistleblower allegations, and then they see there’s a private equity owner, or whoever the owner is. They’re going to find out A, whether the owner knew about the fraud, and B, whether they did anything to try to stop it.

Alex Kacik: You focused on several recent settlements that the DOJ was able to recover. One of which you focused on was when the global private equity firm, H.I.G. Capital bought a large Massachusetts mental health provider. Can you tell us about that case?

Tara Bannow: Yeah. So H.I.G. is this massive, global private equity firm. It’s based in Miami. They had 21 billion in capital under management. When at the time they bought this provider in 2012, and that’s since grown to about $45 billion, according to their website. So, it decided to buy this Massachusetts mental health provider with 17 clinics throughout the state. For any deal, of course, you have to thoroughly inspect a company to see if it’s something you want to invest in. In this case, there were some warning signs that South Bay was not on the up and up, completely. There were some, “documentation issues, poor quality of supervision.”

And I just want to go on a slight tangent here, because this brings up this really interesting chicken and egg question, that I kept going back to when I was working on this story. Is the fraud typically happening before the private equity investment, or did private equity start the fraud? And I think the answer after learning about all these cases is that if you’re an unscrupulous private equity firm, you’re going to buy a company that shows signs of poor controls. So, it’s not that they didn’t do their due diligence, of course they did. They found something that would cause an ethical company to head for the hills. But in this case, to some firms, it looks more like an opportunity.

So, the argument that private equity defendants always make in these lawsuits is that they’re just financial investors. They were totally unaware that the fraud was happening. But that argument doesn’t always work in court, if there are emails, if there are other records that they attended meetings and were aware of it, et cetera. Anyway, thanks for indulging me, back to H.I.G. So, they went ahead and bought South Bay. After the deal went through, court records show that whatever funny business was happening beforehand, really ramped up.

So, the playbook seems to have been to drive profit through cutting costs. In mental health, obviously the biggest line item is staff. The DOJ actually, by the way, did not intervene in this case, but the Massachusetts attorney general did. And the AG found that 70% of South Bay’s supervisors were unlicensed and only 67% of clinic directors were independently licensed. So, the government not only has to prove that fraud existed, It had to prove that H.I.G. knew about it and did not stop it. In that respect, the AG had emails showing that H.I.G.’s leaders were aware of what was happening.

Alex Kacik: Aside from the regulators, looking at private equity ownership among providers, policy makers are looking at it too. Our cohort, Jessie Hellman reported earlier this year that Congress is renewing its scrutiny of the nursing home industry, arguing that there’s a lack of transparency around the ownership and finances of nursing home chains, especially those owned by private equity. Part to this is spurred, because during COVID-19, 40% of the related deaths in the US occurred in nursing homes. And Democrats point to studies that show more deaths and worse care in facilities that are owned by investors, PE firms in particular.

I was recently talking with Richard Scheffler, and he’s been an academic at Berkeley who focuses on consolidation among physicians. Who said that the private equity business model is fundamentally incompatible with how care is provided. PE funds by design are focused on short term revenue generation and consolidation, and not on the well-being of patients. As traditional revenue sources have been disrupted, particularly by COVID-19, PE firms have brought an infusion of cash that have allowed certain providers to stay afloat, or expand. But on the flip side, you have criticism that their intentions may not be in the best interest of patients. What have you heard from your sources, Tara, as to the cash that PE firms can bring to physician groups, nursing homes, home health agencies, et cetera, versus the quality concerns associated with maximizing profit?

Tara Bannow: Yeah, it’s a great question. On one hand, I think the argument from private equity is those are just bad actors. Who gets into compounding pharmacies? These guys are clearly crooks, and we are not. But they’re say, “These healthcare companies don’t have the capital necessary to buy the technology you need. You can’t build buildings, or make improvements. So, in order to accelerate your growth, we can help you do that much faster than you would on your own.” Their other argument is, “Look, we are making this investment in your company. We are planning to, obviously sell the business, or take it public in three to seven years. So to do that, we want to build it into something that’s reputable, that’s delivering quality services. That’s not tarnished by legal settlements.”

But like you said, many people argue that the goal of healthcare to keep people healthy, is fundamentally incompatible with private equities goals of profiting and reselling. They’re not really interested in being there for the long haul and building a business. But critics of private equity have said, there’s only so much savings that you can get from boosting compliance and making operations more efficient. The limited research that does exist shows that private equity firms tend to resort to cutting the biggest line item in healthcare, staffing. And as we know, that has some disastrous results in nursing homes.

People who got care from private equity owned nursing homes were 10% more likely to die in their first three months, because of lower staffing and more antipsychotic drugs. Not only that, taxpayers paid 11% more for their care compared to non-private equity owned facilities. That was according to a National Bureau of Economic Research report.

Alex Kacik: I wanted to take a look at how these funds are set up, so we can understand critics concerns. Private equity funds are pools of capital organized as partnership and are managed by fund managers who act as general partners. The general partner typically supplies 2% of the capital of the fund. The limited partners, typically pension funds and other institutional investors, provide 20 to 30% of the capital. The remainder is typically debt equity supplied by banks. The fund manager then is paid regardless of the fund’s performance and has minimal skin in the game. And PE funds typically have a 10 year expiration date. And the return on PE firm’s investment is typically calculated as a multiple EBIDA earnings before interest taxes, depreciation and amortization.

So, now that I’m sure that I’ve lost you and our listeners at this point, what do you think that illustrates just about critics concerns. As you mentioned, them looking at measures like EBIDA, and ways that they could cut costs and maximize revenue, in order to make a profit in a three to five year turnaround?

Tara Bannow: Well, I think it just shows that the eye is on the prize. They’re looking at earnings, they’re looking at profit. There’s some limited research out there, but the research that does exist is really telling. So, when private equity buys emergency medicine practices, they tend to rely more on surprise billing to drive up reimbursement. Out of network rates spike more than 80 percentage point after private equity owned Mcare, partners with hospitals. So, that’s a 2018 study by Yale researchers. And of course the dynamic there will change once the No Surprises Act is implemented. We’ll see what happens.

When it comes to hospitals, there was a recent Health Affairs study that found that they simply charge more when they’re owned by private equity companies, compared to non-private equity owned hospitals, and they have lower staffing ratios. And at South Bay and the H.I.G. case, allegedly, it was having unlicensed clinicians who were diagnosing and treating patients, unsupervised.

The whistleblower said that most of the time patients were diagnosed with people who have bachelor’s degrees, sometimes not even related to psychology. So, it could be like me going in and diagnosing people. There were patients who had schizophrenia, psychosis, depression, suicidality. These are really severe patients being diagnosed by somebody potentially with a chemistry degree. It wasn’t just the level of staffing, but staff were allegedly directed to enroll patients into higher insurance coverage that reimbursed more. They were pressured to beef up diagnoses to justify higher reimbursement. This is stuff we’re seeing today with Medicare Advantage fraud too.

Alex Kacik: Yeah. And you mentioned just how private equity backed nursing homes, home health agencies have shown to increase healthcare costs, and particularly with a burden when it comes to what the patient has to pay. There’s similar research from the USC and the Brookings Schaeffer Initiative, for health policy on the air ambulance side. So, it shows that private equity owned helicopter ambulance carriers charge nearly twice as much as air ambulance carriers that are not part of a private equity owned, or publicly traded company.

So, we’re seeing these cost differentials across sectors that private equity are involved in. As we see this continue, and private equities investment and healthcare increase, what’s the outlook from the regulator standpoint? It sounds like the feds will be looking at this for some time going forward and continue their focus on some of these private equity backed affiliates and where they’re investing in.

Tara Bannow: Yeah. I think no question. There’s some sectors of healthcare that are almost tapped out in terms of their private equity saturation, but there are other areas of healthcare that are just ramping up. There’s this massive interest right now in InsurTechs that are focused on value-based care, Medicare Advantage. I feel like that’s just code for Medicare Advantage.

There’s a lot of interest in autism service providers. So, some of these areas are just getting started in terms of their level of saturation. So, it’ll be interesting to see what happens there. But, I talked to a DOJ official and asked if we will see more False Claims Act cases involving private equity firms as defendants. And she said that so long as private equity firms are incentivized to assume risk and create short term, substantial profits, we’re going to see more cases like this. So clearly DOJ is trying to send a message, not only that Congress, as we know, approved $178 billion to providers under the Provider Relief Fund for the pandemic. So, DOJ has acknowledged they have the work cut out for them in the coming years assessing whether those grants were given out appropriately.

Alex Kacik: Well, Tara, thank you so much for your reporting and for sharing how this came to fruition. I appreciate you taking the time with me and sharing your work.

Tara Bannow: Thanks, Alex. This was fun.

Alex Kacik: All right. Thank you all for listening. If you’d like to subscribe and support our work, there’s a link in the show notes. You can subscribe to Beyond the Byline on Spotify, or wherever you listen to your podcasts. And you can stay connected with our work by following Tara and I at Modern Healthcare on Twitter and LinkedIn. We appreciate your support.