Growth in the behavioral health industry in 2024 could look very different than the boom of the past few years.
Gone are the days of growth for the sake of growth. Providers are now prioritizing targeted de novo profits to maintain positive cash flow on their balance sheets. Industry headwinds such as high interest rates and continued labor shortages are causing many providers to retreat from M&A and instead look to strategic organic expansion.
“The days of growth at all costs are over,” Denmark Qureshi, president and chief operating officer of LifeStance Health (NASDAQ: LFST), said at the Behavioral Health Business' INVEST event. Ta. “We know it's over in the public markets, and I'd say it's over in most of the private markets as well.”
Founded in 2017, LifeStance has 600 care centers in 34 states. The company provides virtual and in-person outpatient mental health care for children, youth, and adults with several mental health conditions.
Instead of flashy deals, Lifestance is prioritizing financial growth by increasing top-line EBITDA and profitability, Qureshi explained on INVEST. He also noted that other behavioral health providers may take a similar approach as investors become more conservative.
This applies to both private equity and venture capital. On the PE side, there were very few platform-driven deals in 2023. Meanwhile, on the venture capital side, investment in digital health is at multi-year lows, but behavioral health remains a relatively bright spot.
Gone are the days of growing no matter what.
Danish Qureshi, President and COO of LifeStance Health
John Peloquin, president and CEO of Discovery Behavioral Health, said investors should not invest in companies, but rather invest in operators with a solid foundation for growth based on the quality of their delivery systems. He said in INVEST that he was looking for it.
“Now you can see more and more [private equity firms] Rather than simply investing a large amount of money, accumulating it, and selling it, there is an increasing need for a solid clinical foundation. [mentality]” Peloquin said. “Those days are long gone.”
Based in Irvine, California, Discovery has been in business since 1985 and has more than 150 facilities in 16 states. Backed by Webster Equity Partners, the provider offers his four service lines: eating disorders, substance use, mental health, and psychiatric services.
Summit BHC CEO Brent Turner echoed many of these sentiments.
“You can pay with cash flow. I think that's what people are looking for,” Turner told Invest. “So how do you sustain it, grow it organically, and make it profitable?”
Founded in 2013 and based in Franklin, Tennessee, Summit BHC operates 35 facilities in 19 states and provides substance use disorder treatment and psychiatric services.
De novo first approach
While most providers are reevaluating growth for growth's sake, there is renewed interest in new expansions. And having sustainable cash flow reserves can help providers looking to better explore this route.
“From our perspective and from a private equity sponsor perspective, we are very focused on de novo,” Turner said. The company is backed by Patient Square Capital. “There is limited capital available and interest rates have increased by 600 points. Therefore, the dynamics of opportunities to obtain spending funds change. But in our case, we are unable to finance new growth from cash flow. We did it. It’s not even a decision tree. That’s natural.”
Some providers have officially paused all M&A activity. For example, LifeStance, which has historically been an active M&A player, announced it would suspend M&A in favor of a de novo strategy.
Over the past six years, the company has completed about 100 acquisitions, and has no plans to increase that number anytime soon.
“We think this is the right time to focus on new growth to ensure we have a foundation in a place that we feel is really good,” Qureshi said. “Then, as the market opens up again, acquisitions will resume at the right time.”
Although M&A has allowed LifeStance to expand quickly, Quereshi noted that acquisitions pose unique integration challenges. In other words, it takes time to integrate the work cultures of 100 different companies across the country.
Still, the market's emphasis on new expansion is primarily due to external market forces creating a difficult purchasing environment.
“I think a lot of M&A is on pause. Interest rates and a variety of factors come into play. I think the demand cycle is still there and the market is more vibrant than ever,” Peloquin said. said. “However, it is difficult to achieve an agreement in today's economic climate. The big factors are firstly the cost of capital, secondly the cost of labor, etc.”
Achieving agreement in today's economic climate is difficult.
John Peloquin, Discovery Behavioral Health CEO
Organic growth has always been a key strategy at Discovery Behavioral Health. The company has about 150 locations, but only 12 of them were opened through M&A. That said, Peloquin said his company prioritizes making sure patients have access to all four of his service lines as it enters new markets. In some cases, that means tuck-in acquisitions.
Even LifeStance, which has completely retreated from M&A, may only rule out acquisitions for a while.
“We are very serious about organic growth,” Qureshi said. “We continue to look at strategic acquisitions, not just to increase our core size, but also to introduce new areas of focus or how to introduce new technologies to drive our overall business forward. We're going to go ahead, but we're just going to buy the group for the purpose.'' We're pausing there right now because it's so big. ”
