Private equity investment in behavioral health tapered off in 2022, ending a streak of annual increases in total deal count.
The total private equity deal count in behavioral health dropped to 73, a bit of a flop compared to the 104 private equity deals noted in 2021. The 30% drop in total deal volume ties 2018, according to the latest health care service report from PitchBook.
Still, behavioral health will likely see continued interest from private equity in 2023 despite projections of economic pressures. Those pressures may help spur additional growth in behavioral health. For example, they may help reset what may have been inflated deal multiples, making dealmaking more desirable for investors. It may also lead to the creation of new platforms.
The makeup of that investment will likely change somewhat to account for present market realities, PitchBook Senior Analyst and Healthcare Lead Rebecca Spring told Behavioral Health Business.
The report projects that dealmaking in the future will “skew heavily toward new platform creations, minority equity infusions, and add-ons.”
“There’s going to be an attraction to a new platform creation, meaning new backing for a group that hasn’t received institutional capital before, because, by definition, those groups are not going to be heavily leveraged,” Springer said. “So they’re going to be perhaps a little bit better positioned to operate in a very tight margin environment.”
She added that smaller or less sophisticated organizations may struggle in worsened economic conditions. This would create opportunities for behavioral health operators and investors to put capital to work in inorganic growth through add-on deals.
And should larger or platform groups struggle, minority equity infusions may buoy flagging operations.
What Pitchbook tracked in 2022
In 2022, staffing challenges hampered profit margins and increased competition among behavioral health providers for the same limited talent pool. This limited growth, according to the Pitchbook report. In turn, this impacts how private equity investors view their investments.
“PE firms may opt for elongated holds to avoid selling at depressed valuations,” the report states.
Staffing challenges were especially acute for the autism therapy space. The summer of 2022 saw several more traditional organizations pull back in terms of workforce size and state market count. On the digital side, ABA services provider Elemy laid off staff and shifted to a virtual online platform play instead of a home-based care provider.
Despite the staffing problem, Applied Behavior Analysis (ABA) and pediatric therapy deals were up year-over-year from 2022 to 23. That number was 21 in 2022, according to the report.
“The demand dynamics in the space are so compelling that platforms are still able to grow; margins are tighter, but not unsustainable,” Springer said. “So platforms may be growing a little bit more slowly, but they’re still growing.”
Springer added that the forecasted workforce supply, especially for new board-certified behavior analysts, in autism therapy isn’t as bad as other behavioral health sectors.
ABA and the autism treatment space has a little bit of a headstart on increased interest in solving industry problems as a function of blooming investor interest. Data from The Braff Group, an M&A consulting firm that works in behavioral health, shows that deal volumes popped and remained high starting in 2018.
Pitchbook combines substance use disorder (SUD) and mental health deal data. Last year 49 of the 73 behavioral health deals were either in the substance use disorder (SUD) or mental health space.
The report pointed to some reimbursement and regulatory wins in 2022 for mental health. The federal government allows Medicare, the government-backed health plan for seniors, to pay licensed marriage and family therapists (LMFTs) for their mental health services.
“This should increase the supply of mental health providers, primarily by expanding the pool of mental health professionals available for established groups to hire, since many independent LMFTs do not accept insurance,” the report states. “Typically, commercial payers follow CMS’ lead in coverage expansion.”
The list of the most active private equity firms in health care services — by deal volume since 2020 — includes several that are familiar to the behavioral health space.
Chicago-based Shore Capital Partners (23 deals) leads the list by a long way. It currently holds positions in Dallas-based autism services provider Behavioral Innovations, Cincinnati-based BrightView Health and Boston-based Transformations Care Network.
Other firms that have done major behavioral health deals include Revelstoke Capital Partners (8 deals), Webster Equity Partners (7 deals) and Vistria Group (7 deals).
The big-picture market forces
Across health care, big deals will be challenging given the state of capital markets. The U.S. Federal Reserve has raised key interest rates eight times since March 2022 in an attempt to cool inflation. The central bank’s target interest rate range of 4.5% to 4.75% is the highest since October 2007, according to CNBC.
This has led to syndicated loan markets to “remain effectively closed,” Springer said, while private credit lenders are in high demand and more circumspect about large deals.
And there’s talk of a recession in 2023. Economists put the probability of a recession in the next 12 months at 61%, according to a recent Wall Street Journal survey.
Pitchbook is predicting one of two scenarios will play out in 2022, Springer said: 1) The Federal Reserve continues to aggressively but successfully tamp down inflation and tips the economy into a recession. 2) The Federal Reserve prematurely backs off inflation mitigation efforts but has to resume aggressive tightening cycles. Both end with a recession as an endpoint. The question is when and how severe, she added.
There is some hope that recessions may push more people into the workforce, potentially alleviating some shortages in behavioral health. Springer isn’t so sure.
“That side of the equation isn’t going to deliver a lot of relief any time soon,” Springer said. “From private equity’s perspective, leveraging economies of scale and making sure that their platforms are really sophisticated operators in terms of workforce acquisition and retention is going to be really key over the next couple of years.”
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