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An Investors Guide To Surgery Center Ownership

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An Investors Guide To Surgery Center Ownership

Ambulatory surgery centers are currently actively traded in the marketplace. Given this high level of activity, it is essential for ASC leaders considering a sale or an assessment of where their center stands in the market to accurately determine their center's value.

Small surgery centers that are wholly owned by a single physician group or a single physician often do not develop sophisticated operating agreements. However, when multiple owners are involved, it is important to have governing documents identifying the rights of the owners as well as the procedures by which business decisions will be made.  The operating agreement should be reviewed by potential investors and their attorneys to identify the rules and procedures of the surgery center.

ASC Ownership And Governance Structures

Important topics to identify include:
  1. Identifying owner voting issues versus board of directors voting issues: For instance, can the board of directors, a relatively small number of people, vote to remove an owner, or do all the owners have to vote to remove an owner? Is the admittance of a new physician owner a board decision or do all owners have to approve the new member?
  2. Ownership approval, sales, transfers, redemptions: What is the approval process for one physician to sell his or her units to another physician? Does the Ambulatory Surgery Center have to buy out physicians when no other buyer is available and a physician wishes to liquidate? Does the business have to buy out physicians upon retirement? How is the purchase price determined?
  3. Policies for distributions and ownership valuations: How is ownership unit pricing determined for new investors seeking to invest? Is pricing different when a physician moves, retires, dies, or voluntarily chooses to liquidate? How are distributions determined?
  4. Fiduciary duties of the board: Are the board members restricted from owning, consulting, managing, or serving on the boards of competing outpatient facilities, hospitals, endoscopy centers, or surgical hospitals? What is the protocol when a conflict of interest occurs?
  5. Non-competes: Does ownership involve a non-compete that prohibits ownership in another surgery center, endoscopy center, surgical hospital, office-based endoscopy, or office-based surgery clinic within a specified mile radius? Does the duration of the non-compete extend after an owner liquidates his or her interest? Are existing ownership interests in competing business grandfathered?

Deferring business decisions to the board is not necessarily a bad thing. The process for scheduling owner meetings with groups of 10 or more physicians slows decision time down immensely, while scheduling for a few individuals on the board to get together can occur much more quickly. Part of the reason surgery centers have been successful as an industry is because they can be relatively responsive from a governance and management perspective.


Payment Mechanisms

Until 2007, Medicare ASC reimbursement, and many commercial insurance payment rates were based on a grouper system. The group system assigned all eligible CPT codes to 9 major groups. Each group of codes was associated with similar resource use, and subsequently, similar reimbursement. There were effectively 9 payment rates for codes in each of the 9 groupers.

Payment reforms

In 2008, Medicare increased the number of covered surgical procedures significantly and began to transition payment rates from the former grouper system to a percent of the hospital outpatient prospective payment system rates. The initial estimate that surgery center payments would be set at 67 percent of hospital rates for 2008 included in the August 2, 2007 final rule, (CMS-1517-F) was eventually revised to be 65 percent of hospital rates (CMS-1392-FC).1 In the 2013 final rule, ASC payments are now estimated to be 56 percent of hospital rates because the increases in hospital rates have exceeded the increases in payment rates to outpatient centers during the past several years.2

When multiple procedures are performed on a single outpatient center case, Medicare pays 100 percent of the highest paying surgical procedure, plus 50 percent of the Medicare payment rates each additional procedure performed, even if it is the same procedure code. This is known as multiple procedure discounting.

Generally, Medicare does not pay separate reimbursement for implantable hardware or devices, as these costs are effectively “bundled” in the payment rates. Medicare indicates that it reimbursed $150 of intra- ocular lens (IOLs) costs within the payment rate for cataract surgery. If patient elected for special lenses that cost in excess of $150 dollars, then the providers were free to bill the patient for the overage.

The patient coinsurance for ASC services is 20 percent of the Medicare ASC payment after the yearly Part B deductible has been met.3 The Part B deductible is $147 in 2013.4 The Affordable Care Act waives the coinsurance and deductible for certain preventive services including diagnostic colonoscopies.

Commercial health insurance companies may contract with outpatient centers on payment rates set at a markup of Medicare (i.e., 125%) or utilize a proprietary fee schedule. The percent of Medicare measurement is a common basis for comparing rates from ASC to ASC.

Ownership Transfers

Non-Controlling Minority Interests

Minority ownership interests may or may not entitle the owner to representation on the board or blocking rights in any member vote issues depending on the operating agreement terms. Because minority ownership interests may provide the owner with little or no control, during valuation they are typically subject to control and marketability discounts relative to larger controlling ownership interests.2018 ASC Valuation Survey Download

Minority owners are fairly common in ambulatory centers with numerous physician owners. Minority ownership usually entitles the owner to a pro rata share of and cash distributions and a vote on member voting issues, such as electing board members or super-majority decisions such as deciding to close or sell the ASC.  It is typical for ambulatory center’s operating agreement to require that minority owners be licensed physicians maintaining privileges to perform surgery or outpatient procedures at the outpatient center.

Controlling Majority Interests

Controlling majority interests from 51 percent to 100 percent ownership typically entitle the owners to board representation and an appreciable level of control over the operations of the outpatient center. In this respect, majority ownership interests are considered more desirable, and they are not typically subject to the same valuation discounts of minority interests.

Depending on the voting rights and whether the board votes their “seats” or their ownership holdings, a majority owner may or may not exercise complete control of the ASC’s business decisions. For example, if seats are voted, a majority owner could be out-voted when the majority of board members vote against him or her. Similarly, an operating agreement may define certain “super-majority” voting issues requiring either 2/3rds of “owner votes” or 2/3rds of “ownership votes” for certain decisions. This difference is important because one scenario would give decision control to 20 of the 30 owners in an ASC facility, while the other scenario would give decision control to the 11 of 30 owners holding 67% ownership in the ASC facility.

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Why do ASC owners sells majority interests?


Ownership can be offered to existing physician users of the ASC or prospective physician owners who do not currently use the ASC. Ownership offerings are a strategic priority for surgery centers. A long-time user who is not offered ownership may be inclined operate at another ambulatory facility where he or she is offered ownership. In an effort to recruit new physician investors, it is not uncommon for an ASC to retain investment bankers or licensed securities brokers to market ownership interests on their behalf.  

Liquidity event

Some ASC management companies develop ASCs with the specific intent to liquidate a majority ownership interest at a future date. A majority interest sale is priced relatively higher than a minority interest sale on a “per unit” basis because it is not subject to the control and marketability discounts of a minority interest sale. By comparison, majority ownership interests are generally considered to be more marketable and desirable for the associated control the buyer acquires. Physicians may also seek to sell their privately-owned surgery center to a surgery center chain or health system for a variety of personal financial reasons.

Risk sharing

A partial or total sale may represent an owner’s attempt to reduce their exposure to current or future financial risk. General reimbursement pressure from commercial payors as well as reduced out-of-network payments are looming threats for many ASCs. Some ASCs have found that annual inflation escalators are disappearing from renewal contracts. Small ASCs may have difficulty gaining access to major PPO, IPA, and HMO networks. If passed, the Ambulatory Surgical Center Quality and Access Act of 2013 (H.R. 2500), introduced in June of 2013, would increase the ASC payment update factor from the Consumer Price Index – Urban (CPI-U) to the Hospital Market Basket Index which applies to ambulatory surgery performed in a hospital setting. The Hospital Market Basket Index has historically increased at a higher rate than CPI-U.4 This change might affect commercial contract rates set at a markup on Medicare ASC rates.

Turnaround compensation in-kind

Management companies sometimes receive ownership in lieu of payment for contractual services in turnaround situations when the current business value of the ASC is marginal.  A management company may demand up to 100% ownership in an ASC depending on the financial desperation  of  the  current  owners  and  their  willingness  to  yield ownership.  Similarly, health systems may simply assume responsibility for a pro rata share of an ASC’s debt when invited to become an owner in an ASC that is struggling or failing.

Surgery Center Stock Purchases and Asset Purchases

A minority interest sale will always be structured as a stock sale because a minority owner is definitively buying stock of an existing and operating Limited Liability Company, S-Corporation, or similar business.

A 100 percent ownership interest sale of an ASC may be structured as either a stock sale or an asset sale based on the preferences of the parties. In an asset purchase, the buyer pays for each individual asset which is to be acquired, including equipment, furniture, building improvements, inventory, and associated intangibles assets. The legal business entity that previously owned those assets does not change hands. In an ASC stock purchase, the buyer purchases the stock of the existing legal business entity, which encompasses substantially all of the ASC’s equipment and assets.

Stock purchases can be somewhat “cleaner” than asset purchases in the sense that all of the permits, licenses, utilities, facility leases, employment agreements, payor contracts, and other service arrangements with vendors are maintained with the existing business entity. In an asset deal, the new owner would likely have to rehire all employees and enter into new payor contracts.

A downside to stock purchases is that the buyer also inherits all of the potential business and legal liabilities of the existing business; whereas, such liabilities do not transfer in an asset purchase.

CMS’s Division of Survey and Certification has provided guidance that the Medicare provider agreement and CMS Certification number are not the “property” of any individual or business entity and cannot be sold or given to another entity for use.5 However, automatic assignment of the Medicare provider agreement occurs when the Medicare provider undergoes a change of ownership. Therefore, in stock purchases it is possible to acquire a fully licensed, accredited, and certified ASC without having to re-initiate the entire start-up process. Ultimately the need for a re-certification survey depends on the interpretation of the Medicare fiscal intermediary.

Hospital Acquisitions

When hospitals acquire ASCs, they can choose to convert them to hospital outpatient departments (HOPDs) or maintain the existing surgery center licensure structure. As mentioned before, HOPDs are reimbursed significantly more than ASCs for the same procedures. The downside of purchasing 100 percent ownership in an ASC from physicians is that it eliminates the physicians’ financial incentive to perform cases there. Even if the purchase agreement includes a non-compete clause for the seller, the inability to own or invest in another ASC for two years does not prohibit the sellers from performing surgery at another hospital or ASC.

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A common physician alignment strategy when an ASC is converted to an HOPD is to engage divesting physicians in management and co-management (i.e., managing together with hospital) arrangements. In co-management arrangements physicians together with hospital provide oversight and management of hospital service lines with incentive payments tied to the achievement of specific clinical and operational outcomes. When the performance metrics are achieved, incentive compensation is paid out, and the  metrics are reset to ensure that continuous quality improvement is pursued.

The benefit of maintaining ASC licensure and ownership structure is two-fold. First, the physicians remain financially invested in the center, while the board members are also liable for their fiduciary responsibility to act in the best interest of the ASC. As part of the purchase agreement, the acquisition’s closing will likely be contingent upon non-compete provisions.

Second, ASCs may have strategic advantages as the low cost surgery providers. Under the Accountable Care Organization model, participating providers in the ACOs are still paid on a fee-for-service basis, but they are entitled to an incentive bonus payment up to 10% to 15% of the saving they create for Medicare below the benchmark “per capita” levels established.

For example, if HOPD surgery costs are $4,000,000 for a population of Medicare patients in an ACO, the equivalent cost to perform those same surgeries in an ASC would be 56% of $4,000,000.  Fifty-six percent of $4,000,000 is $2,240,000. This represents a cost savings to Medicare of $1,760,000. If this ACO is  performing at the benchmark cost level and requires all outpatient surgeries to be performed in an ASC, then the ACO providers, including physicians, would potentially be entitled to 10% to 15% of the $1,760,000 in Medicare savings realized by performing these surgeries in an ASC setting.

Related Party Transactions

Prospective investors should inquire about related party expenses that may increase or decrease the business’s value. In the context of ASCs, common related-party expenses include real estate lease rates, medical directorships, management fees, billing fees, equipment leases, and staff leases.

Real estate is a very common related-party transaction. If one of more of the ASC owners owns the real estate and charge the ASC an above market lease rate, this expense decreases the ASC’s cash flow.  Reducing the real estate lease rate to a market rate will increase the business’s cash flow and value, all else equal.  

If you want to learn more on ASC real estate valuation, follow this like to our article: Raising the ASC Value Ceiling Through Real Estate

Fair Market Valuation

Existing ASCs may have their business appraised periodically to establish ownership pricing for existing investors and prospective investors. Fair Market Value (“FMV”) is the prevalent valuation standard used in connection with valuing ASC ownership interests.

Establishing FMV for ASC ownership interests is important because physician ownership in ASCs only complies with the Anti-Kickback Statute safe harbor when the terms on which the investment interest is offered are not related to referrals or other business generated by the physician.  That requirement likely implies that investments must be priced at FMV, as an ASC that "under prices" ownership units could be construed to have offered units on terms that were related to the volume or value of the physician’s referrals.

Therefore, a kickback may occur when an ASC offers to let a surgeon buy-in too cheaply, giving  the physician an exceptionally high rate of return on his or her investment. As an example, a physician who realizes a 100 percent return on his or her investment every year may have been offered ownership at a price below FMV.

3. MLN/MLNProducts/downloads/AmbSurgCtrFeepymtfctsht508-09.pdf