1990s continued: Physician roll ups round 2

What’s old is new again—and still likely to fail

I didn’t mean to kick off a 1990s theme with last week’s post, but…sorry, it’s fascinating! Nineties fashion is back, but with a twist, and it looks like 90s healthcare is too. 

PPMs of the 90s

Last week, Gist Healthcare reran a podcast episode from earlier this year about how physician practice arrangements from the 1990s are back. Physician practice management companies (PPMs or PPMCs) took off in the 1990s as a vehicle for private equity investors to roll up physician practices. The physicians got a payout for their equity in the business as well as the promise of management services, and the PE company managed the business in return for an average of 15% of the revenue, according to Gist.

Much like HMOs during the managed care revolution, the PPM model grew quickly. By 1998, according to an estimate cited by Gist, there were nearly 40 publicly traded PPMs, each managing multiple physician practices.

The PPM model was attractive because of several significant headwinds in healthcare at the time. The Clinton healthcare legislation seemed likely to become law and would have potentially increased the amount of risk on the provider side, as well as generally making practice management more complicated (a fact that opponents of the legislation made no small bones about).

At the same time, as HMOs increased in popularity, the resulting narrow networks put more negotiating power in the hands of insurers. Physician groups recognized that they would need greater scale to negotiate for higher rates. 

Of course, neither the managed care revolution nor the PPM model really worked out as intended. Not only did the Clinton healthcare legislation not pass, but private equity firms proved unprepared to manage practices well. The purported efficiencies failed to materialize, not least because rolled up practices were often too far away from each other geographically to have much bargaining power for insurers.

The PPM model also unintentionally caused greater churn among doctors in the practices, dooming the model from the start. PPMs paid the doctor-owners of the practices for their equity, enabling many of those doctors to retire. Newer doctors came in only to find that 15% of their revenue was going to an outside firm—without any recurring financial upside. As Peter Kindrachuk, a former executive with the PPM PhyCor, told Gist:

Not very many years down the road post-transaction, you were dealing with perhaps a third of the physicians who were new, who had not received proceeds, who had this concern about paying the 15%…it struck me that I had the benefit of working with what was essentially a ticking time bomb for the entire [PhyCor] organization.

This churn, along with declining insurance reimbursements and rising malpractice insurance rates, ended the run of PPMs. PhyCor ended up shuttering and doing a “fire sale” of practices back to doctors for 15-20 cents on the dollar.

Roll ups of today

This story is very similar to what’s happening today. Following the passage of the ACA in 2010 and increased complexity around value-based care, doctors have been offloading their independent practices to outside entities. In 2019, for the first time ever in American history, more doctors reported being employees than owners of a practice.

Unlike the 1990s, these roll ups are being pursued by hospitals and insurers (Optum alone employs or is affiliated with more than 50,000 physicians, with plans to acquire 10,000 more) as well as private equity firms (and, newly entering the ring, combined hospital-private equity firms). But like the 90s, many of the promised efficiencies have failed to materialize.

In May 2020, Bloomberg Businessweek published a piece examining the private equity takeover of dermatology practices, an attractive specialty because of the relatively high margins and the fact that cosmetic procedures often fall outside the umbrella of insurance (and thus can have an even higher margin). According to the piece, private equity may already own more than 10% of the U.S. dermatology market, and firms are increasingly looking to other specialties with similar characteristics, including fertility services, obstetrics, and gastroenterology. 

Unfortunately, to achieve the returns that shareholders expect, private equity firms often have to cut corners. One doctor who had worked at a PE-backed dermatology chain noted to Bloomberg that, “you can’t serve two masters. You can’t serve patients and investors.”

And it’s not entirely clear that this latest round of PE roll ups won’t meet the fate of the PPMs in the 90s. As Anthony D’Erridida of Trustworks Collective told Gist Healthcare, “Where we’re getting value just on growth is very similar to the ‘90s. And so you can’t help but ask the question: What happens when the growth stops?”

Now what?

In last week’s post, I wrote about how I expect the narrow networks trend to continue, but in a different way than in the 1990s. Today’s narrow networks aren’t restrictive HMOs, but instead achieved by the use of patient navigators and virtual-first plans. I wouldn’t be surprised if this more cautious approach to narrow networks means that, long term, there are narrow network plans that have some staying power. 

But it appears that the PE roll up model is nearly the same as in the 90s. I can’t find any evidence that the firms today have learned lessons from past mistakes, nor that the incentive structure is any different. And because of that, I don’t see how the outcome will be any different. That said, I expect the loss of independent providers is more or less permanent, despite the best efforts of companies like Aledade to make being independent more attractive. Any fire sales today would likely find a buyer in hospitals or insurer subdivisions like Optum, not from a group of maverick independent physicians.

Of course, one wildcard here is how—and whether—Americans’ turn to more virtual care changes the practice of healthcare. That, at least, is different than the 90s.

This information shouldn’t be taken as investment advice (obviously), and the opinions expressed are entirely my own, not representative of my employer or anyone else.