Radiology Mergers and Acquisitions: What to Expect When Venture Capital Is Involved
On June 8, Insight Imaging and Center for Diagnostic Imaging (CDI) announced their plans to merge. Venture capital played a key role in the transaction, with Black Diamond Capital Management, which owns a majority interest in Insight Imaging, enabling it to buy out the owners of CDI. The combined organization will be headquartered in Minneapolis, Minnesota, home of CDI, and headed by Tom Tomlinson, CEO of CDI; the footprint of the newly merged organization, with 116 imaging centers in 25 states, will be second only to that of nationwide chain RadNet. Brian Baker, president of Regents Health Resources (which assisted in facilitating the transaction), notes that imaging-center mergers take on a new tenor when venture capital is involved. “This type of transaction is very different from what we see when hospitals or physician-owned groups get together,” he says. “The tone and pace are different.” Venture-capital Transactions What should imaging-center businesses expect when venture capital is involved in a merger or acquisition? First, Baker notes, venture-capital companies are adept at optimizing the fiscal strengths of all businesses, including those in health care. “They understand business well and how to take costs out,” he says. “What this means, for an acquisition target, could be a drastic change in the culture of the business. It may move quickly from ‘We’re a family’ to ‘This is a real business now.’ To venture capitalists, you are a business asset designed to bring in dollars, and if you don’t do that in the way that they define, they’ll quickly move in another direction. It becomes much more formally driven.” In any merger or acquisition, confidentiality is key to ensuring continuity for both businesses. “People are resistant to change, and if it becomes known that a transaction like this is in the works, key staff members may leave either organization,” Baker explains. “When people don’t understand what’s going on, they often assume the worst.” Venture-capital companies are excellent at maintaining confidentiality, Baker says, and this is enhanced by the speed with which they tend to conduct their transactions. “They will often want to accomplish in six weeks what would normally take six months,” he observes. “For venture capitalists, time translates into dollars. It is a real shift from what many radiology groups are used to—venture-capital companies are hunters, not farmers.” Monologue Versus Dialogue Often, transactions are initiated with a letter of intent, but this letter, Baker notes, “just serves to open the door for due diligence.” The specific numbers and potential multiples (or ranges of multiples) named in a letter of intent are likely to change following a dialogue between the two organizations. Indeed, Baker says, the most critical aspect of imaging-business mergers and acquisitions is the exchange of valuation information aimed at predicting the organizations’ future financial health and stability. “One of the things that is important to a successful transaction, whether or not venture capital is involved, is that the acquiring party needs to be able to define the value of the business after the transaction,” Baker says. A vast array of information contributes to arriving at this understanding, he continues. “What kinds of operational efficiencies will the combined organizations see, which positions are duplicative, and what happens when the acquiring party applies its contracts to the target’s volume—will it gain or lose market share?” Baker says. “Defining and quantifying those hundreds of little elements could mean the difference between a successful and an unsuccessful transaction.” When outside capital is involved, however, this dialogue can rapidly turn into a monologue, Baker says. “You will need a complete knowledge of your market, your market share, and the value of your business, as defined by an impartial third party,” he says. “If you start down the path of a deal without knowing these basic elements, you will be perceived as disorganized and indecisive, and the buyer may walk before getting to a deal.” Staying Informed Outside help is critical for radiology businesses when contemplating any transaction, Baker says, irrespective of whether venture capital is involved. Third-party valuation companies are key to ensuring a dialogue surrounding the multiples to be leveraged in the transaction, while consulting companies like Regents aggregate and quantify other information that is crucial to the process, including operational performance, capacity, utilization rates, market share, competitors, competitive offerings, ease of access for locations, referring-physician satisfaction, and more. “Acquisition targets can submarine their own deals before even getting started,” he says. “They need to understand the potential value of multiple scenarios and have an integration plan for themselves that they can demonstrate to potential buyers.” Culturally, Baker says, this might represent a challenge for physicians who are accustomed to doing business in their own ways. “Physicians are very smart, but this is not an area they work in often,” he notes. “They are often unprepared to negotiate these deals, and they can hurt themselves. When they are properly informed, however, they have a lot more leverage than having a conversation—and deciding to be acquired—over lunch with a hospital CEO.” If venture capital is involved in the transaction, however, the empowerment that comes from having a full understanding of the current and future potential value of the business is even more critical. “If you look at any venture-capital company,” Baker notes, “it has highly paid, experienced lawyers and accountants on staff. Whatever it shows you is probably a fraction of the due diligence it has done—and often, only the downside. It will position itself as relieving you of responsibility, without revealing how it plans to make money from your organization. It’s all business for venture capitalists—no emotion. Strategy and negotiation tactics are crucial to success for them.” Deals can, of course, go south at any time, Baker says, and this knowledge should be part of the strategy of the imaging business as it courts potential buyers. “Outline the pros and cons for alternatives to your deal, and continue to explore those throughout the process,” he advises. “This will provide a sense of security and confidence. Knowing there are always other options and understanding the relative value and impact of those options bring clarity when emotions creep into a transaction.” In sum, knowledge is power. Baker concludes, “You have to show them you know what they know; then, you can have a conversation. It’s a form of empowerment for the physician group, and it will speed up and drive the decision-making process by helping the acquirer understand its position in the market. Sophisticated venture-capital companies are skilled adversaries, and it’s those same hunting instincts that can also make them great partners after the transaction.” Cat Vasko is editor of ImagingBiz.com and associate editor of Radiology Business Journal.