The usual private equity play in healthcare is to acquire, cut costs and sell. But this venture capital firm thinks there are better opportunities in having a long-term vision.
By Katie Jennings, Forbes Staff
In 2022, Marc Harrison decided to leave what he had previously called “the best job in healthcare” — as the CEO of the non-profit health system Intermountain Healthcare — to go work for the venture capital firm General Catalyst.
Now, he’s explaining why. He aims to start a “revolutionary” healthcare company at General Catalyst by buying a health system that it would own and operate, an unusual move for one of the world’s most active healthcare startup investors.
The new company — the Healthcare Assurance Transformation Corporation, or HATCo, for short — will own and operate a hospital, offer a proving ground for the technology coming out of General Catalyst’s portfolio companies and a vector through which to spread what’s working to a network of 20 other health system partners. The goal is to lead by example, Harrison told Forbes. “We need to eat our own cooking,” he said.
The structure is also intended to help bypass two of the main challenges facing digital health startups. First, it usually takes months if not years to get deals signed with hospitals, which is why so many companies start selling to consumers and employers before tackling slow-moving health systems. Second, as more companies move to build healthcare-related artificial intelligence tools, one of the biggest choke points is getting access to high quality patient data to train models; any potential health system purchase would also presumably include medical records data.
The goal is to find a hospital in the $1 billion to $3 billion range because that’s where “the majority of Americans get their healthcare,” said Harrison, who is HATCo’s CEO. “If it was a house, you’d say it has really good bones, but also there’s room for improvement,” Harrison said of the hospital system he’s looking to acquire. The idea, he said, isn’t to do a gut renovation and rip out the entire existing leadership team but to find a system that is “eager to do transformation.”
He declined to specify General Catalyst’s percentage ownership of the company, other than to say HATCo is “operated separately and distinctly” from the firm’s funds and core venture business.
Harrison said ideally it would be a health system that also operates a health insurance plan, like an Intermountain or a Kaiser Permanente. “It has to be a system that takes care of poor people as well as rich people,” he said. “We’re not interested in finding a system that cherry picks rich people out in the suburbs.”
The cherry-picking comment is a not-so subtle dig at the private equity industry’s track record when it comes to hospital acquisition. The classic PE playbook involves identifying hospitals with higher income patients, cutting costs, boosting profits and selling for a premium a few years later. Harrison insists HATCo, is looking at a “years to decades timeframe.”
It’s a curious move that could be considered genius or ludicrous, depending on who you ask, and sits at the center of the issues swirling at the heart of the United States’ growing $4.3 trillion healthcare cost conundrum and the role of technology in its future evolution.
In some ways this is breaking new ground for venture capital, which has historically focused on incubating and growing new companies, rather than attempting turnarounds of decades-old institutions. “If you invest in a hospital, you’re not going to get the next Google, the next Facebook,” said Christopher Whaley, a health economist at RAND Corporation and health policy professor at Brown University. “But you’re likely going to have a steady business and a business that does actually pretty well financially.”
This also isn’t the first time that General Catalyst has proposed a healthcare transaction that veers outside the traditional remit of venture capital. In 2020, the firm announced a similarly named Health Assurance Acquisition Corporation, which was a blank check company meant to bring a digital health company public at the height of the SPAC frenzy. “We are not here to broker quick gains but rather to fundamentally shift the way the industry thinks about backing its most innovative, impactful founders,” General Catalyst CEO and managing director Hemant Taneja wrote at the time.
After 24 months of searching, General Catalyst failed to close a deal and returned investors’ money. Given the abysmal market performance of startups that went public via SPACs, in hindsight, this was the smart move. “I guess there is a chance that anything could happen,” Harrison said when asked if HATCo might befall a similar fate. “But we fully intend to make the right acquisition.”
When it comes to acquiring a hospital, General Catalyst has two options: buy a non-profit hospital, which would have to be converted to a for-profit entity as part of the deal, or, buy a for-profit hospital outright. Harrison said they are considering both. It’s probably more likely the firm ends up buying a non-profit, given there are around 3,000 non-profit hospitals in the U.S. – more than double the number of for-profit hospitals.
Either way, buying a hospital is not like buying traditional real estate; there are state and federal regulatory hurdles to navigate, especially if it’s a for-profit conversion. In most states, there’s some degree of oversight by the attorney general and department of health for hospital transactions.
Non-profit hospitals have an obligation to provide charity care and operate for the benefit of the community in exchange for not paying property, state and income taxes, said Erin Fuse Brown, a health law professor at Georgia State University. In a conversion, the sale proceeds would need to be put in a charitable trust or foundation, where the use is restricted to providing community benefits.
Harrison, a pediatrician by training, spent his career at non-profit health systems. Last year, he completed a merger between Utah-based Intermountain and Colorado-based SCL Health to create a $13.9 billion (2022 revenues) non-profit health system. This is comparable in size to the Mayo Clinic ($16.3 billion 2022 revenues) and Cleveland Clinic ($13 billion 2022 revenues). And he has a history of helping hospitals expand into new markets, including launching the non-profit Cleveland Clinic’s for-profit Abu Dhabi outpost.
He believes the for-profit model is the right solution for what General Catalyst is trying to achieve, in part because for-profits tend to have “healthier margins.” In 2021, the median profit margin was 5.9% for nonprofit hospitals and 10% for for-profit hospitals in the United States, according to an analysis of Medicare cost data from Ge Bai, a professor of health policy and accounting at Johns Hopkins University — suggesting that an owner focused on cost-cutting and operational efficiency would be able to increase margins by at least a few percentage points. With non-profit hospitals, Bai told Forbes, “there’s no monitoring from shareholders,” which means “you are more likely to be complacent.”
Those higher margins provide a better cushion in the face of the headwinds faced by hospitals, Harrison said. Health systems have been hit particularly hard by rising labor costs and inflation over the past year. Harrison also suggests that using technology to move the needle on healthcare costs needs to be more directly linked to the bottom line. “Tell me any industry that has transformed itself based on the goodwill of the participants in the industry versus business imperatives?” he asks rhetorically. “It doesn’t exist.”
There were more than 900 private equity healthcare services deals in 2022, down from a high of 1,027 in 2021, according to PitchBook data. Only a handful of them involved hospitals and health systems, as private equity investors tend to be more active in rolling up doctor practices. And while private equity generally gets a bad rap for driving up prices when it buys a hospital, the reality is more nuanced. Prices do tend to go up and there is often a shift away from low-margin services, such as labor and delivery, and towards more profitable services, such as surgery, said Whaley. But his research into outpatient clinics suggests the concern that private equity firms only care about making money to the detriment of providing good care to patients is overblown.
While there are downsides, when it comes to quality measures like hospital readmissions, “we actually find that quality stays roughly about the same, or maybe actually even gets a little bit better,” said Whaley. And that’s precisely because the private equity firm has a goal of selling, he said. “No one is going to buy a hospital or a physician group that has low quality.” But other research published in Health Affairs suggests the opposite is true when it comes to private equity ownership of nursing homes and that emergency department visits from those facilities actually increase.
HATCo’s goal, however, isn’t a quick sale. “This is quite different from the PE playbook,” said Harrison. “We’re not planning an exit. We’re not planning on rampantly stripping out cost.”
Another motivation for General Catalyst getting into the hospital business, Harrison said, is to give the company’s portfolio companies a chance to stretch their legs and refine their technologies. After the massive hype generated by the Covid-19 pandemic, which saw soaring digital health venture funding and valuations, the sector has come crashing back down. General Catalyst’s biggest healthcare exit is a case in point. At the 2021 peak, Teladoc announced it would acquire virtual chronic disease company Livongo for $18.5 billion. At Monday’s close, Teladoc’s market cap was $3 billion.
“A lot of these digital health companies faced some pushback in that they seemed really promising but didn’t really work,” Whaley said about the general market frothiness of the past few years. That’s where owning a hospital could be useful to demonstrate that technology from portfolio companies is successful, he says.
One of the big challenges for many early digital health startups is getting access to patient data over long periods of time. This type of data is particularly valuable because it will include not only information about care and treatment, but also outcomes, meaning it provides a much better understanding of what works and what doesn’t in improving patient health.
Harrison said HATCo is in the process of developing rules around how any acquired patient data could be used. “We don’t want [companies] to join us and provide services simply to gain access to huge amounts of data and not provide value and return to the patients,” he said.
One obstacle for General Catalyst’s plans in this regard is that the interplay between healthcare services, technology and data is coming under increasing federal scrutiny. Any transaction above $111.4 million must be reported to the Federal Trade Commission or Department of Justice, which can then decide to conduct an antitrust review, said Fuse Brown. Historically, the FTC and DOJ have primarily been concerned with horizontal mergers, meaning one hospital buys a neighboring hospital, she said, but under new proposed guidelines, those two agencies are signaling an interest in examining vertical consolidations. The government is “interested in this theory that access to data itself can have competitive value,” said Fuse Brown, but “antitrust law, and the federal courts that enforce it, has not caught up to this sort of changing ecosystem.”
As for HATCo and the potential for an FTC or DOJ review of a hospital acquisition, Harrison said he plans to employ the same tactic he did when Intermountain’s transactions were under review. “I would never presume to prejudge or or guess what they’re going to do,” he said. “I’m going to do my thing and try and always act in the best interest of the community that I serve.”
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