Diagnosing the Accounting in Complex Healthcare Arrangements
Three considerations for hospitals, healthtech companies, and industry providers when evaluating the accounting and financial reporting implications of new arrangements.
As changes in technology and regulation continue to disrupt traditional healthcare models, companies are entering into more complex arrangements with other parties to deliver healthcare and healthcare-related services. These arrangements often require the creation of new legal entities and new service agreements between the new legal entity and certain or all of its investors. But increasingly complex arrangements require increasingly complex accounting.
Here are three considerations for hospitals, healthtech companies, and other industry providers to keep in mind as they evaluate the accounting and financial reporting implications of new arrangements.
The term “joint venture” is used broadly in the market to describe an arrangement between multiple parties to pool resources, combine knowledge, or share risks to accomplish a specific project or business activity.
1. Remember the narrow meaning of “joint venture” for accountants
The term “joint venture” is used broadly in the market to describe an arrangement between multiple parties to pool resources, combine knowledge, or share risks to accomplish a specific project or business activity. To be treated as a joint venture from an accounting perspective, however, the arrangement must meet specific requirements, according to ASC 323 Investments–Equity Method and Joint Ventures. Specifically, the parties must have joint control of the venture and must each contribute resources. Investors have joint control when they can participate in all of the venture’s significant decisions.
If the parties do not have joint control, the company should evaluate whether it should consolidate the arrangement under the variable interest model or voting interest model. If the entity is not subject to consolidation, the investors should consider whether significant influence exists. If so, they should apply the equity method model.
When two parties enter into a contract that involves joint operations, however, the arrangement may fall into scope of ASC 808 Collaborative Arrangements. Under ASC 808, a collaborative arrangement includes actively involved parties that typically share risks and rewards by signing a contract (or several contracts) instead of forming a separate legal entity.
2. Be cautious concluding that joint control exists
Sometimes arrangements appear to give all investors joint control by stating that both parties have equal ownership, voting rights, number of board seats, or that significant decisions require unanimous consent. In these cases, companies should keep in mind that additional factors may affect the determination of whether joint control exists.
For example, in a healthtech venture where both parties have 50% ownership of an entity, one party may have control if it has the right to elect a majority of board members when the board of directors approves significant decisions.
Similarly, if all of an entity’s key decisions are made by its board of directors and each party elects two board members, the investors may appear to have joint control. Each party should consider what happens when there is a tie or if the board cannot agree on a decision that requires unanimous consent. If the chairman breaks a tie and is elected by one party, then that party may have control.
3. Involve auditors early in the process
Whether or not a company engages accounting advisors, it is ultimately responsible for the financial reporting conclusions for complex arrangements. Companies should assess the accounting implications of complex arrangements early in the process of negotiating agreements, leaving time to renegotiate certain provisions to the extent they impact the accounting. Ideally, the accounting department is engaged by relevant business partners early in the transaction structuring process to discuss the details of the arrangement, provide relevant accounting considerations, and review draft term sheets and contracts, when available.
For material transactions, the company must align with its auditor on the accounting treatment and disclosure implications for these new arrangements. Companies should involve their auditors early in the process since complex arrangements may require the audit team to involve accounting specialists or national office resources. In these situations, working with the auditor often involves discussing any updates on the status of the negotiations and eventually providing a draft accounting whitepaper and draft legal documents to the auditor for their review and agreement. Proactive involvement will highlight relevant accounting implications for the auditors and ensure alignment on the accounting and financial reporting before the company signs on the dotted line.
Hospitals, healthtech companies, insurance companies, and other entities continue to enter into increasingly complex arrangements in order to navigate the ever-changing regulatory and financial challenges the healthcare industry presents. Ensuring that accounting intricacies are carefully considered and auditors are engaged early will help avoid surprises and make the process run more smoothly.