Private Equity’s Emerging Interest in Psychology & Psychiatry Practices

Private equity investment in psychology and psychiatry practices has accelerated in recent years. Investors with a track record for partnering with behavioral healthcare companies, as well as generalist funds, have ramped interest up quickly in psych specialties. Numerous attributes of psychology and psychiatry practices align with private equity’s interests and experience, and recent M&A in the space suggests that market opportunities exist for the first-movers who can build large platforms for providing care nationwide. Furthermore, the ability to deliver care via telemedicine (telepsych) means psychology and psychiatry practices have been impacted far less than most specialties, and by some measures have even improved, during the COVID-19 pandemic.

Investors have long been active acquirers of behavioral health companies and service providers, but financial sponsors have accelerated the pace of investment in psychology and psychiatry due to a number of converging factors:

  1. Private equity’s access to financial capital enables consolidation of the fragmented industry as it exists today. Many independent psychology and psychiatry companies are small, composed of fewer than a dozen professionals. Investors looking to acquire or “roll up” a number of small practices stand to benefit from significant increases in efficiencies that accompany greater scale, as well as lower costs. For providers, that often means more time focused on patient care and less time addressing the administrative minutiae of running an independent practice.
  2. There is an enormous market, as well as an unmet need, for mental health treatment in the U.S. Nearly every adult stands to benefit from some form of psychology or psychiatry treatment at some point in his/her life, and the industry has grown at a rate of more than 5% annually in recent years to over $18.9 billion in 2019. Significant growth in demand for services has outstripped supply, and in 2019 there was approximately only one licensed psychologist or board-certified psychiatrist for every 3,300 people in the U.S. Many psych professionals expect the COVID-19 pandemic to exacerbate this trend, as adverse effects on individuals’ social, economic, and physical wellbeing portend additional mental health diagnoses. (American Psychiatric Association, WHO.)
  3. Technological and regulatory improvements are rapidly expanding access to care. The ability to deliver care via telemedicine and fewer regulatory hurdles imposed by CMS and private insurers means that psychology and psychiatry services are available like never before to individuals that cannot travel to a provider’s office for medical or logistical reasons.

TPG Capital’s acquisition of LifeStance Health (joining existing investors’ Summit Partners and Silversmith Capital Partners) is illustrative of recent transaction activity in the sector, and Refresh Mental Health, backed by Lindsay Goldberg, has announced that it will be exploring transaction options as well. In the vast middle market, platforms such as New Harbor Capital’s Community Psychiatry Management represent regional platforms with significant opportunities for growth.

MHT Partners’ healthcare investment banking services represent founders, owners, and entrepreneurs undergoing M&A transactions. If you would like to learn more about MHT’s experience, please e-mail Taylor Curtis (tcurtis@mhtpartners.com) or Alex Sauter (asauter@mhtpartners.com).

General M&A, Craig Lawson, “Q of” What?

Middle market M&A transactions oftentimes require the production of a report called a “quality of earnings” analysis. Most people, businesspeople or not, have never heard of this, and business owners, upon hearing that they will need one conducted, often have the response that is the title of this article. So what is a quality of earnings report, or “Q of E” in shorthand? In simple terms, it’s an analysis performed on a business’ financials to ensure that the financials were assembled appropriately from a Generally Accepted Accounting Practice (“GAAP”) perspective and equally as important, to ensure that from an analytical perspective (which can be different from an accounting perspective) the financials are telling the appropriate story about the state of the historical financials. In the context of an M&A transaction, there are a couple things of note regarding Q of Es.

  1. Many middle market businesses (especially those that are owned by founder / entrepreneurs versus private equity firms) do not have audited, or even reviewed, financials.  As such, the Q of E, while not explicitly intended as a substitute for an audit or a review, is oftentimes the first “professional financial review” a business has ever received.  As such, inevitably, some inaccuracy is uncovered and as we investment bankers like to say, “forewarned is forearmed.“  In other words, while we can’t turn back time and necessarily correct an inaccuracy in the past, we can, however, identify it upfront and devise a strategy to explain or mitigate against it as all sophisticated potential buyers will, in all likelihood, identify the same inaccuracy
  2. A Q of E report is oftentimes oriented around defining the true Earnings before Interest, Taxes, Depreciation and Amortization (“EBITDA”) for the last 12 months (“LTM”).  LTM EBITDA is a common financial metric around which many middle market businesses are valued. Moreover, EBITDA is not a GAAP accounting term and as such, even if the company is audited or reviewed, you will not find a line item labeled “EBITDA.”  Additionally, company audits and reviews are conducted around the fiscal year end. Most M&A transactions do not occur entirely in line with the fiscal year end such that an LTM view is oftentimes more up to date than the last audit or review.
  3.  Particularly when private equity is the presumed acquiror or investor in a business, they will oftentimes deploy debt (or “leverage”), in addition to their own equity, to fund the investment (the “L” in “LBO” stands for “leverage”).  Lenders, particularly traditional chartered commercial banks, operate in highly regulated environments and as such, require volumes of documentation and representations of accuracy.  A Q of E is required by most lenders.

Q of Es have long been required by buyers of or investors in businesses (particularly when they are PE firms).  Given the above, we, as investment bankers, are increasingly suggesting that our clients commission their own Q of E before entering the market. A nationally recognized, reputable accounting firm can produce a Q of E anywhere from $50,000 to $75,000. While the Q of E is a real cash expenditure, it will be treated as an addback to EBITDA.  More importantly, the benefits of being proactive on the Q of E front provide several large advantages as the M&A process unfolds in that it allows for the buyer to more expediently move through their due diligence and again, “forewarned is forearmed.”  Sellers hope to be viewed as good investments, and in turn, the Q of E is a good investment to help ensure that.