Successful vertical integration in healthcare requires past failure

The phrase, “Past performance is not an indicator of future outcomes,” can be found in the fine print of most investment literature.  As the healthcare industry is trying to find efficiencies and better outcomes, institutions from providers to insurers and beyond are betting on growth and economies of scale through vertical integration.

Stating the obvious, vertical integration in healthcare is harder to execute than horizontal integration. A hospital buying another hospital is not as difficult as an insurance company buying a provider network.

Vertical integration in any industry takes a great deal of capital. But vertical integration in healthcare is different than Amazon buying Whole Foods, or even buying PillPack.  In fact, these deals might not even be that far afield from Amazon.  Each is retail.  PillPack is online.

A true vertical integration is a cradle to grave operation.  In consumer or industrial products, it is from raw materials to retail or distribution.  Along that continuum, it takes executives who understand the delivery of goods to the end user, and executives who understand how to drive manufacturing efficiencies.  The skills are different.

There are some companies that have pulled it off like Luxottica, the vertically integrated eyeglasses giant, which manufactures designer frames and runs huge retail chains.

The same managerial challenges exist in healthcare vertical integration. It is unlikely that the CEO of a giant health insurance company can apply those same skills to run a multi-billion dollar provider network – and equally as hard for the CEO of major insurers to be as good at running physician practices and hospitals.

In all integrations, success starts with leadership that can articulate a vision, motivate a team, execute well, and manage the risk.  So, what does it take to find leadership that can claim victory in vertical integration in healthcare?  And, is it different than other industries.

To get insights, I spoke to top-tier executive recruiter for the C-Suite, Thomas Giella, Chairman of Healthcare Services at Korn Ferry. Giella has conducted more than 800 senior-level assignments in healthcare. He said, “I almost always look for people who have tried, even if they failed, at integration. That’s better than never having tried at all because they’ll have learned from their mistakes. Someone who is battle-tested, always has a leg up on someone who has never been to battle.”

Giella explained that historically hospital executives excel at running inpatient operations, but have typically never run a health insurance plan, effectively managed physician practices, or successfully integrated ancillary healthcare businesses such as home health, hospice, nursing home, or now telehealth enterprises. The key question is this: do they have the strategic vision, innovation, and the forward-thinking skills required for vertical integration?

“I’d be more inclined to bet on a risk-seeking CEO candidate who has tried different things and even failed at some of these ventures, rather than someone who is a conservative, risk-averse operator,” Giella said.

Why? The risk-seeking candidates know what to do, and what not to do. They know what questions to ask. They know which deals worked, and which ones did not. They will know how to navigate unchartered waters having learned from their mistakes.

He also observed that finding a person who drove a successful vertical integration in healthcare is a rare commodity.  The reason is timing – 2018 is a lot different than the years before 2011.

“Years ago if you were a mid-sized community hospital and wanted to get into the health insurance business, you were not going to be able to compete successfully because you would not have the capital or risk diversification to be viable. But now, we see several multi-billion-dollar health systems with 40,000 employees, plus employees who have more capital, to take on diversified risk exposure. Size and capital definitely help when investing in vertical growth strategies; however, ‘big isn’t always better’ as there will be many learning experiences and mistakes made in trying to perfect these new strategies”.

From industry expertise and specialization, a hospital company will not be as proficient as a national health insurance plan, or Blue Cross plan in terms of member services, actuarial and underwriting.  Likewise, these health insurance companies will not be as proficient in running hospital operations and physician practices.

Giella acknowledged that the steep learning curve means only a few health systems have gotten it right and done it exceedingly well because they’ve been doing it for so long. Examples include Kaiser Permanente, Presbyterian Health System, and Intermountain Health. All three of these systems are truly integrated with hospital, health plan, and physician practice divisions.  They have also been perfecting their business models for decades with Kaiser leading the pack with over 70 years of experience.

All these success stories had an evolution to find their success.  Finding success for newcomers won’t come overnight.

After all, “Past performance is not an indicator of future outcomes.”

Photo: Getty Images

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