Common pitfalls to avoid in healthcare valuation engagements


Like many industry-specific appraisers, those who focus on valuation in the healthcare industry are often hired to provide initial opinions prior to a transaction. Many times, the valuator may be more knowledgeable about the business than the buyer. The buyer is often waiting for a valuation opinion as well as some initial due diligence. In BVR’s recent webinar, Healthcare Valuation: Approaches to Value and Common Pitfalls, experts Nicholas Janiga and Fred Lara (both of Healthcare Appraisers) covered the most common pitfalls to avoid when working on a healthcare valuation engagement.

Watch the clip below on the issues that can arise in these types of engagements.

 

Standard of value

One issue that appraisers frequently run into in healthcare engagements is the standard of value. It is common for appraisers who do not focus on healthcare valuation to get involved in healthcare-related transactions. Sometimes an appraiser may not recognize that there are differences between the standard definition of fair market value (FMV) and the healthcare-specific definition of FMV, or the appraiser has focused his or her practice mainly on fair value for financial reporting matters and the engagement could be for a purchase price allocation.

In this case, appraisers can consider aggressive adjustments to a pro forma based on the definition of what a market participant may do or may be able to achieve with a particular business. There are certainly cases in which it is appropriate to adjust a pro forma. The appraiser just needs to be mindful of adjusting the pro forma and creating a situation where it is no longer consistent with FMV from the healthcare industry definition of FMV.

Premise of value

Premise of value is an area where appraisers regularly run into issues because a joint venture may already be in place between a hospital or health system and a physician group.

For example, this may occur when a hospital or health system is working with an independent orthopedic group and it has a joint venture surgery center. That joint venture surgery center sits within the real estate the physicians own, and they are near the end of the lease. The physicians want a sweetheart deal on becoming a majority owner in this joint venture. They threaten not to renew the lease and shut down the ASC operations if they are not provided with a great purchase deal. They are claiming liquidation value and want to consider just the asset approach.

This example requires the appraiser to really dig into the premise of value and understand whether it’s credible. While this may be an uncommon case, it is something appraisers need to be very mindful of and get healthcare counsel involved right away.

Misapplied theory

Misapplied theory is often seen in healthcare valuation but is also something that generalists see across many different types of valuations in different industries. Some appraisers may be so focused on the healthcare side that their valuation theory and knowledge are lacking. There have been cases where appraisers have come out of operating in the healthcare space and try to become a valuation consultant or expert. These appraisers excel at needs assessments and dissecting the subject business but often misapply valuation theory.

It could be a situation where an appraiser mismatches the economic stream to the discount and the discount rates, or it could be something more complex in which a number of different methodologies are misapplied and inappropriate approaches are considered. Appraisers need to be especially mindful of misapplied theory as a pitfall.

Nonvaluation professionals

The last issue involves nonappraisers getting involved in a valuation. Often, appraisers work with advisors who an ASC or a physician group have engaged in the valuation. These advisors can have varied degrees of healthcare knowledge and could set unrealistic expectations that are difficult to change.

There is a lot of detail to consider for healthcare-focused valuators who are expected to be experts on many different types of businesses. Appraisers really need to know the ins and outs of how these businesses operate. Sometimes clients or the targets are not sophisticated enough to develop a pro forma to provide for use, so appraisers are tasked with analyzing the historical financial performance of the business as well as the future financial performance. It could be that an appraiser goes through a number of different steps to assess the strengths and weaknesses of the business, what sort of threats exist within the marketplace, and general supply and demand considerations.

More healthcare resources

To see more healthcare valuation engagement pitfalls to avoid, watch the complete clip from the webinar Healthcare Valuation: Approaches to Value and Common Pitfalls. Also, check out the comprehensive guide from expert Mark Dietrich, The BVR/AHLA Guide to Healthcare Industry Finance and Valuation, 4th edition.

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