Do It Your Way: 6 Circumstances Where De Novo Makes Sense

By Tom Schramski, PhD, CMAA

Volume 3 Issue 2, January 19, 2016

tt152-db5cf99a-6b4d-48c4-8eda-2c12c841e63c-v2“De novo” is a Latin term that is usually translated as “starting anew.” It is used in a wide range of contexts, from our legal system (a new trial with no assumptions based on earlier proceedings) to biology (a mutation that no parent possessed or transmitted). In the world of M+A, the meaning is slightly different:  launching and building a new healthcare operation based on what you’ve learned in the past. So why would an ambitious healthcare company that is trying to accelerate investor value favor de novo over acquisition?

Here are six circumstances where it makes abundant sense:

Strategic Sense:  Sometimes healthcare investment platforms are built with a plan to grow by replicating their operating model, whether for products, services or both. They may offer a very unique approach and de novo systems are built to support it.

Economics: Investors determine that de novo is more cost effective than acquisition. Considerable financial analysis, where the same time and dollars are applied, may be needed to support this decision.

Fragmentation:  The market may be very fragmented with largely “Mom and Pop” companies, so there is often considerable room for best practice innovation. This is particularly evident in the substance abuse treatment field, where there is a proliferation of small programs that are predominately 12 Step-focused.

Quality:  When a company has a high quality service model with demonstrated results, its leaders may believe that that the only way they can guarantee good outcomes is through de novo. This may include a dynamic company culture that is easier to replicate than try to insert in an existing agency.

Too Few Opportunities:  Some markets are so new that they lack sufficient acquisition opportunities. There is greater upside in de novo than hunting for hidden gems.

ROI Challenges:  Although good acquisition targets exist, the investment frenzy may have pushed EBITDA multiples beyond a reasonable rate of return. This pushes many investors to the sidelines while others pursue replication through de novo as a more valuable course.

It may seem like heresy for a M+A advisor to suggest that de novo may be preferred over acquisition, but it’s better to recognize when and why potential clients may explore many options. In fact, most growing healthcare companies embrace both strategies, depending on the circumstances. They are focused on the end game, which actually opens up other opportunities for M+A advisors in the future.