Article March 24, 2017 Hospital Board Involvement in Merger Discussions Authors ECG Management Consultants Board member involvement in hospital merger discussions can be both a blessing and curse—a blessing because there is no better representative of the community than a board member, a curse because community interest can cloud a broader agenda, especially where occupational skills may get in the way. This article expands on board involvement in merger discussions and offers insights into the merger process and some of its intricacies. One thing that makes the current consolidation era particularly interesting is the involvement of multiple parties. It used to be that merger discussions typically involved two hospitals or a hospital and a medical group. Now, such discussions may involve hospitals, doctors, and even insurance companies, or some combination of these. In addition, new players, such as representatives of equity interests (private equity or hospital management companies), may be involved. Clearly, this adds complexity and varied perspectives to the proceedings. In this article, “merger” refers to an organization entering into at least a long-term contract for overall operations and/or strategy. While merger discussions may not initially involve assets, they can quickly migrate in that direction. When they do, trustees will often get involved, and challenges can arise. PROBLEM IDENTIFIEDGroup dynamics are extremely important in merger discussions. Because any collaborative discussion focused on the local market will tend to involve the same cast of players, unfortunately, old issues and disagreements among trustees—some of which may never come into full view—can greatly influence the dynamic. Trustees represent their organizations in the purest sense, yet they often find it difficult to set aside personal experiences that may greatly affect the outcome of important decisions. As a result, there is often a long history of previous attempts at mergers and other collaborations that never materialized. As a colleague once observed regarding the failure of multiple discussions in one community some years ago, “There have to be a few more funerals.” The ideal approach is to lead into the discussion process with an issues list. Working through that list takes skill, experience, and judgment, since the group often lacks trust and requires some early successes to gain confidence in their ability to work together (more on this later). COLLABORATION MYTHSBefore going any further, it will be useful to examine some common myths about collaboration. Their applicability will vary based on an organization’s vision, culture, values, and perceptions. Examples include: Mergers evolve There was an article many years ago that suggested one of the first integration continuums for hospital mergers. The implication was to “start small and work your way up the integration scale.” ECG’s experience is that it rarely works this way. Boards tend to be cautious and get stuck where they started. Early results may be underwhelming and not meet expectations, thus they fail to warrant a move to the next level. If the parties began as a shared service organization, that tends to be where they end up. Vision will be the driver It is tempting to assume that a compelling vision will carry the day, but experience suggests otherwise. Vision is essential but rarely sufficient on its own, as other factors easily get in the way. In addition, a vision may not be specific enough to be motivating. An effective vision must address the core issues that will ultimately determine the success or failure of the merger. Avoiding surprises guarantees success Many clients have stated, “We can make this happen if we can just limit the surprises.” Unfortunately, this is not always true. The more proper orientation to merger discussions is that surprises can be an opportunity that is turned into an asset, not a liability. There is a group dynamic that is involved in a well-managed process, and the group may gain much-needed confidence as it deals with surprises. The exception to this is a surprise that results in trust issues; it is difficult, if not impossible, to recover from a violation of trust. Hurry up/Take your time There tends to be two orientations to merger discussions, “hurry up” and “take your time,” both of which can be a problem. The process must be thorough enough to allow steering committee members to go back to their respective organizations and sell the results. But, like leftovers in the refrigerator, the process must have a clear and definite end date. Frustration will often doom a process if progress is not being made. This is one reason ECG advocates using an issues list—items that are resolved along the way can be checked off to show progress. In fact, one of our “rules of engagement” is that we will not return to an issue on which we have signed off. Our experience suggests that a shorter but more intense period of discussion has a greater success rate. It’s important to focus on conflict first It is natural for the parties initially to want to focus on areas of conflict and assume the rest of the negotiation will take care of itself. The reality tends to be something quite different. Indeed, working with a partner requires patience and a willingness to consider the partner’s priorities over your own. One party attempting to dominate the discussion with its own priorities while it ignores those of the other party will spell disaster. WHAT CAN GO WRONG? Often, the parties in a merger discussion appear to be waiting to disagree on some issue as a convenient excuse to drop the negotiations (i.e., “this was always a waste of time”). There are many pitfalls to watch out for in merger discussions, especially among the trustees in the group. Examples include:The urge to play lawyer Lawyers are trained in the adversarial process, which may create problems when there are lawyers on the steering committee. If they use legalistic negotiating tactics to get the upper hand on the other party, trust may be difficult to maintain within the group. We have had to counsel board members who have been unable to resist “practicing” during the negotiation process. That is not to say that this precludes involvement of any lawyer trustee. On the contrary, some lawyer trustees have been very helpful to a particular discussion. It is more an issue of perspective. It is also important to note that having lawyers on the steering committee is different than working with outside attorneys to assist the process. ECG often partners with outside attorneys in merger discussions. Our preference is to involve “transaction counsel” to represent the transaction itself and not any one of the parties directly. Some lawyers are uncomfortable with this approach because it eliminates the adversarial process; however, lawyers trained to negotiate for advantage may be damaging to merger discussion. The best approach is to set the stage to “create something new” rather than a situation in which party A prevails over party B. The escape clause ECG recommends there be no escape clause in any agreement we help negotiate, as such a clause is often a self-fulfilling prophecy. If the parties can escape from a relationship within a given time frame, why would they take risks before that time is exhausted? With an escape clause in place, in many cases nothing gets done and everyone gets frustrated. An example from a few years ago is a highly visible group of hospitals that came together in Atlanta to form a managed care company, with a three-year start-up period tied to an escape clause. While they had some success, everyone held back because of the tenuous arrangement. Days before the three-year escape clause was up, the entity broke up, wasting considerable investment of time and resources by the parties. Treating it like a commercial merger It is common for hospitals to appoint members to a collaboration task force based on their personal and prior professional experience. However, the context of that experience (i.e., not-for-profit versus commercial) may be irrelevant or even counterproductive to the current situation. For example, some years ago one participant in a merger discussion was the chairman and CEO of a Fortune 100 company. While he was very helpful in some ways, his commercial experience became a hindrance, as dealing with not-for-profit organizations involves very different issues than dealing with publicly traded companies. We all have a tendency to steer discussions down familiar paths, so it is vital to find the right fit when assigning key components of the discussion to particular members. Other agendas Participants should enter merger discussions with an open mind. Hard-set, preconceived notions (i.e., “it has to look like this…”) may be one of the most destructive elements in an unsuccessful negotiation. Often, someone’s private agenda won’t even be noticed until it’s too late. To prevent or minimize these pitfalls, it may be helpful to warm the group up to what is required for these discussions at the outset. For example, our approach is to have the group agree to meet a certain number of times, regardless of the outcome of each individual meeting. This keeps them at the table and sets expectations that the discussion will continue and end on time even if it gets stuck on one or two issues along the way. Participants should enter merger discussions with an open mind. Hard-set, preconceived notions may be one of the most destructive elements in an unsuccessful negotiation. TRUSTEE INVOLVEMENT IS ESSENTIAL Over the years, ECG has been approached by well-meaning CEOs who have held their own merger discussions and want additional assistance in taking the next step without the involvement of board members. We have politely declined such requests. We believe that experience counts. I was on a panel some years ago with several CEOs, all of whom had just been through their own mergers. While their reflections on the process were certainly valuable, I noted during the discussion that I see more mergers in one year of my practice than they will see in their entire careers. A CEO serves at the pleasure of the board of directors, and the average annual turnover rate for CEOs is 18%, according to the latest statistics1. During a merger discussion, other members of the management team are most likely vying for a spot in the new management suite as well, and will likely be distracted during the merger process as a result. In contrast, the board is a fixture of the community, even though members change as terms expire. Board members tend to take the long-term view of the hospital and the community overall. They are key members of the community, and they know other key members; they have a sense of what is needed to get people to buy into the results of the merger discussions. In addition, various community leaders will need to be informed before certain information about the merger discussions goes public, and trustees can be invaluable with respect to such communications. By far the most important skill we have seen among trustees is the ability to collaborate. Trustees are leaders in their communities. They have been involved in many important, collaborative community projects through the years, and this experience represents an important skill to bring to the negotiation process. For all these reasons, board involvement in merger discussions is essential. SUCCESSFUL MERGER DISCUSSIONS The definition of success for hospital merger discussions is not necessarily a deal. Managing the pace of such discussions is always challenging, but it begins by setting expectations properly. Contrary to the investment banking approach to mergers in which their compensation is often tied to consummating a deal, merger discussions among nonprofit organizations should not be rated on the basis of completing a deal. Some years ago I facilitated merger discussions between two larger shared service organizations. The trustees in this case were hospital CEOs from the member organizations. It quickly became apparent that one of the organizations had a dramatically better fit with a third organization that was not a party to the initial discussions. Ultimately, a merger occurred between the groups with the better fit. While the discussions between the original parties did not end well and may be viewed by some as unsuccessful, the right deal prevailed. The merged organization gained important insights from the first process that helped it to negotiate a successful deal with its new partner. Merger discussions are about managing expectations and making an informed decision. At some point, the question will arise whether this is the right deal between the right partners. Regardless of the outcome, discussions should be dictated by candor, thoroughness, and trust, particularly trust that the right decision is being made, both independently and together. ACHE tracks annual turnover rate. This data is for 2015, the latest available as of this writing. Regardless of how thorough merger discussion may be, it is always impossible to fully anticipate the future. Trust, in the end, involves a leap of faith. It means each party saying, “Not only do I trust my partner on matters that are familiar to us, I also trust them to work through issues not yet seen.” If there is trust between the parties, then the prospects for a sustainable deal are very good. Merger discussions are about managing expectations and making an informed decision.FINAL NOTE Board involvement is absolutely critical to the ultimate success of hospital merger discussions. However, the right board members must be selected, and expectations must be set. It only takes one breach of confidentiality where merger discussions are announced on the evening news (and abruptly ended as a result) to understand that things can and do go wrong when board members are involved. In the end, the new entity’s trustees (usually a new board with new members not previously associated with either joining organization) will determine how sustainable the arrangement will be. Done correctly, the initial discussions will set the stage for a merger that passes the test of time and brings true value to the organizations involved and the communities they serve. To this end, there is significant value in engaging an adviser like ECG experienced in the nuances of merger negotiations to assist the parties in exploring the potential for a mutually rewarding partnership.