Irving Levin Associates publishes information on health care mergers, dealmakers, and investors. They recently published a story that caught my eye because it shows the complicated business structure used to avoid accountability, maximize profits, and divert taxpayer money to corporate owners.
"Skilled nursing companies have always had a difficult time explaining themselves to investors. Are they health care companies, or are they large real estate entities with an important health care business component? Is the real estate actually valuable, or is it so dependent on the license, certificate of need and operating capabilities of the provider that real estate takes a back seat or, perhaps, is put in the trunk? Can great operations overcome lousy “real estate,” or can great real estate command a premium despite less than satisfactory operations and cash flow?"
The article then discusses the recent decision by Sun Healthcare Group to "transition into two separate companies". They will raise equity through a common stock offering, which is expected to net approximately $160 million. These proceeds will be used to pay off some relatively expensive debt (9.125% interest rate), which will also help to deleverage Sun before its rent payments increase.
The operations of the current Sun Healthcare will be spun off into a "new" company which will retain the Sun Healthcare name. Its revenues, operating expenses and EBITDAR will be basically identical to the existing Sun. The net result of the structure will be a much smaller EBITDA, but just a slightly smaller net income. The 93 real estate properties which includes 82 nursing homes that Sun currently owns will remain in the original company, which will eventually change its name to Sabra Health Care REIT.
The 93 properties will then be leased back to Sun. Depending on what the ultimate lease rates are, this restructuring will almost double Sun’s annual lease payments to just over $150 million. There are several decisions that will have to be made, such as whether all 93 properties will be in one Master Lease, or in a few leases, and what the exact dividend rate will be (most likely it will have an initial yield of about 7%, and perhaps a little higher).
Sun’s current CEO, Rick Matros, will become CEO of Sabra, while Bill Mathies, the president of Sun’s primary operating subsidiary, Sunbridge Healthcare Corporation, will become CEO of the new Sun. The rest of the current Sun senior management team will stay with the operating company.
The intent was to create value by shifting the owned assets to a REIT, with its higher valuation multiple, which would then be able to grow at a faster pace than the operating company, and provide shareholders with a steady dividend stream as well as growth potential from the addition of different property types.
The incredible aspect of it all is that somehow value can be created by splitting out the remaining owned real estate from a health care company and creating a "new" real estate investment trust from that real estate that will simply collect rent (over market value) from the operating company. This is called the basic Opco/Propco strategic decision, and should be considered fraud and illegal.
