Given ever-changing accounting complexities coupled with accounting resource limitations at most healthcare organizations, buyers unfortunately cannot take the reported financial information at face value for what future expected earnings will be post-close. As part of the financial due diligence process, at a minimum a buyer should consider the following key items to determine the sustainability of earnings, and if EBITDA (earnings before interest, taxes, depreciation and amortization) is an adequate metric to determine the seller’s ability to generate cash flow.
- Do cash receipts per the bank statement(s) support net revenue reported on the financial statements and collections per the patient billing/accounting system?
- How are charges and collections trending by payor during the historical period (e.g., are collection rates increasing or decreasing)?
- Have there been any recent contract changes that will impact earnings post-close (e.g., payor / managed care contracts, professional services agreements, outsourced billing/collections)?
- Is there a shift in payor mix that will impact reimbursement trends post-close (e.g., increase in self-pay patients, increase in self-pay after insurance amounts for deductibles and co-payments, change in governmental payor mix)?
- Has there been a change in service mix (e.g., increase in lab fees or growth in ancillary services) that overshadows the performance of the legacy business?
- Are there any non-recurring expenses recorded in the historical financial statements (e.g., owner compensation or rent expense not reported at fair market value, start-up costs / de novo costs) or changes in cost structure?
- Are all operating costs required to run the business accurately reflected in the reported financials (e.g., is a cash-to-accrual conversion required)?
- How does historical compensation and benefit structure for clinicians and other key employees (including the consideration of contractor usage) compare to expected compensation and benefit plans for these employees (and contractors) post-close?
- Will there be upcoming capital expenditures or other investments required to continue growing the business?
- Have there been any significant medical malpractice claims against the seller or its clinicians?
Overall, the quality of revenue and earnings analyses are critical steps in the acquisition process. The report will allow the buyer to better assess each of the reported aspects of the business. Along with this earnings analysis, an in-depth understanding of the balance sheet accounts will give the buyer the confidence in future expected earnings and cash flows of the acquired business.