Private equity interest and investment in the skilled nursing space is growing as the sector goes through rounds of tumult and transformation.
The trend was apparent in 2018, even though most of the private equity interest focused on senior housing. As real estate investment trusts (REITs) sold off their underperforming SNF assets, private equity buyers began to pick up facilities. That interest came despite the well-publicized struggles of HCR ManorCare under its private equity owner Carlyle Group, which had owned the SNF chain since 2007.
And in Skilled Nursing News’ 2019 Skilled Nursing Outlook Report, private equity firms topped the list of likely SNF buyers at 38%.
It’s in this environment that the new private equity firm Twin Light Capital — which recently closed a funding round for an undisclosed amount — decided to enter the space.
Based in Holmdel, N.J., Twin Light was founded by Chad Buchanan, who spent almost eight years with the SNF-focused Tryko Partners in the role of chief investment officer, and John Masterpalo, formerly of the accounting and consulting firm Ernst & Young.
SNN caught up with Buchanan to learn more about the opportunities Twin Light sees in the SNF sector, how prices may be correcting after peaking in 2016 and 2017, and why now is an opportune time for private equity to enter the field.
Can you give a quick summary of Twin Light Capital and what you hope to do as you launch this new venture?
Twin Light Capital is, at its core, a private equity investment management firm that is exclusively focused within the seniors housing and senior care industry.
What that really means is: There are a lot of investors and operators that fill the asset transaction landscape within our industry, and I feel like we have a very unique skill set and track record that can be applied to the private equity world within this sector to help both operators and sponsors who need co-investment to build their platforms and portfolios.
What goes into that skill set and that track record? Can you give some examples of what you mean?
Yeah, absolutely. I think our industry is really bifurcated between the investment and capital markets side of the business and the operations side of the business. Our REIT landlord-versus-operator structure that’s typical throughout the industry is part of that, but I think also the specialization of a lot of people within the industry.
[It’s] a great thing, and it has — I think — over time improved our industry and improved care for patients, and improved senior living for residents. However, there’s very little overlap, especially given the size and scale of our industry, between all of the disciplines that I feel like our firm brings to the table. And that was the unique opportunity that I saw in creating and founding Twin Light, is to kind of fill that void. We feel like we’re able to bridge the gap between all of these disciplines and apply them to our investments and our partners, on behalf of our investors.
So that’s capital markets, that’s portfolio management, but that’s also operations oversight and understanding of the regulatory framework within which our industry operates. To that end, we’ve created our investor base and our board of advisors such that it’s not only a financial investor base. We have a very diverse group of investors that each brings something to the table within our industry, whether it’s capital or whether it’s reimbursement expertise or whether it’s operations expertise. They’re bringing capital, but they’re also a major resource for us as a firm — as we invest but also as we grow.
Do other private equity firms in the seniors housing and care lack that kind of diversity of disciplines?
I think that they are involved in our industry, but they’re not exclusively dedicated to our industry. And that’s not a knock on the private equity players within our industry, but our sector is very nuanced, and it’s very complicated. It’s not a real estate industry, and it’s also not strictly an operations industry, right? It’s a mix of both.
But our industry is so large, it’s on par with so many different mainstream sectors of which there are several middle-market private equity firms that are exclusively dedicated to those sectors, whether it be raw materials or whether it be heavy industrials. There’s private equity firms that specialize in these sectors; there’s few if any that specialize in ours. And we want to build that firm.
When it comes to the investments Twin Light will be making, you mentioned in your launch press release that it’ll invest exclusively in the senior housing and health care sector. Do you have a dollar amount or asset volume that you’re targeting?
We’re not focused on a specific number of portfolio companies to bring on board in the next 12 months. We’re strictly focused on acquisitions and investments that have really attractive risk-adjusted returns, and that’s asset-agnostic.
We anticipate that it’ll be a pretty even mix between seniors housing and skilled nursing. When it comes to asset volume and how the portfolio was broken up, whether that’s 70-30 or exactly 50-50, there’s no way of knowing yet. But I anticipate that it’ll be roughly an even mix between the two.
What makes now a good time to launch a private equity firm with the focus on seniors housing and health care?
It’s my opinion that we reached somewhat of a peak valuation — and I think some of the statistics will back this up, but more of this is anecdotal, from being in the flow of potential investment opportunities — within senior care specifically around 2016, early 2017. Since then we’ve undergone a slow correction, where valuations both on cap rate and per-bed valuations and how opportunities are valued — whether that’s based on current operations or pro forma operations — they’ve slowly come back down to closer to reality.
I still think that there is a tremendous amount of overleverage in the senior care market, whether that’s through mortgage financing, or whether that’s through sale-leasebacks for the operators, being operationally overleveraged. And it’s, in my opinion, inevitable that that’s going to create a good buying opportunity. Because I’m not one of the people who think that skilled nursing facilities are going the way of the dinosaur. I think that they are a valuable piece of the senior care/post-acute care spectrum. I think that they care for the most frail and the most at-risk patients, elderly patients, in our communities that have comorbidities that are not suitable for the hospital environment — but [also] absolutely not suitable for assisted living. So I think it’s a valuable part of the post-acute spectrum.
With respect to seniors housing, there’s been a lot of new developments, and I think that applying more of a private equity approach to seniors housing, versus a real estate approach — operations-based valuation and operations-based management — is a tremendous value-add. And I think that we’ll be able to identify and to capitalize on opportunities by using that approach and by backing really strong management teams within that sector.
So the time is now to start, and I think over the next five years, we’ll have tremendous buying opportunities, to say nothing about the future demand landscape with the “silver lining” or the “echo booms” or whatever cliche you want to use to describe the demand demographic.
How do you identify the SNFs best suited for those types of patients?
The first step is with the right people. I have a core rule that you could have the best investment opportunity from a deal perspective, but if it’s with the wrong people, then it’s a non-starter and that’s the first rule. If you’re with good people, even situations that go a bit sideways can be improved, from an investment perspective, and I think that applies to operations as well.
But No. 2, specific to skilled nursing, I think that most where my thesis about skilled nursing — that it will remain relevant — most applies to markets in which you have forward-thinking hospitals and hospital systems. I think that those hospitals understand the value-based care initiatives, but also the importance of the skilled nursing facility as a post-acute patient goes through the rehabilitation and eventual discharge to home process.
When you align with strong hospitals, strong hospital systems, that often comes with a higher-acuity patient, and therefore the need for skilled nursing in that process becomes more relevant and more important — not just for the patient. but also for the hospital system as they manage their rehospitalizations. and as they have patients with comorbidities that they aren’t comfortable discharging into a lower-acuity setting.
So if SNFs are wholly dependent on hospitals, how much of a partner to them can they really be? Is there any way that the hospital is dependent on the SNF?
Imagine if a large metropolitan hospital has 10,000 discharges with cardiac diagnoses. Not all of those patients are suitable to go home, and if they go home, they’re more at risk to be rehospitalized. All hospital systems today are keenly focused on their rehospitalization rates, and that’s obviously affecting their revenue and bottom-line picture. That’s a key part of why they form collaboratives and preferred provider lists and they have certain criteria of who’s in and who’s out. They may not always be able to direct discharges to certain facilities, but they can certainly influence that decision by the patient and caregiver.
They’re directly affected by the success of the SNF through which they discharge their patients, and without a strong network of SNFs for people who need that rehab or short-term stay, their rehospitalizations go up. Their bottom line is consequently affected.
To circle back to SNF providers, can you speak to the ownership landscape? Your launch release mentions fragmentation of ownership; how does that fit with the trend of regionalization in the SNF space?
There’s been an enormous amount of consolidation for sure — especially in the last six years. However, the operating landscape, the operating pie graph if you will — there’s still a big piece of that pie that’s an “other,” and that “other” includes founder-owned, family-owned operators that own less than five facilities. That still makes up a large part of the senior care operator landscape, for sure.
I do think there’s also an opportunity with a number of operators that have a significantly larger portfolio, but have yet to build out the infrastructure for their operating companies to support that scale and to support the breadth geographically of what they have acquired. And I view our vehicle and our firm as a value-add capital partner to both companies, right?
I think that we can acquire inefficient and underperforming assets from smaller operators, but we can also acquire and invest in portfolios from operators that have gotten a bit over their skis, acquired a bit too much too fast, and need assistance in creating really a company, versus just a large group of assets.
How widespread of an issue is that in the SNF landscape — operators that have grown too quickly?
I think there have been a number of operators — easily double-digits — who have grown from less than 10 facilities in just the last five or six years to well over 50. And it’s very challenging to grow at that pace, while supporting the management at the facility level. And I think our industry has suffered a bit from a reputation perspective, because of some of those players.
I think the banks are at the forefront in forcing a little bit of this change and a little bit of the maturity in our industry, which I think is a huge positive. I think it’s important for a lot of the operators that have grown so fast to really, really build out their back office and their corporate and regional operations support to make sure that the facility management, administrators, and nursing teams have the support that they need to properly care for the residents that they’ve taken on through such growth.
You mentioned reputation, and private equity has had some headline problems in the SNF space. When it comes to being successful in this sector, what is Twin Light focusing on, and what pitfalls do you have to avoid?
Private equity in our industry — and frankly in a lot of other industries — has a reputation of acquiring to basically strip down and over-leverage and cash out, and everyone else left in its wake be damned.
That’s not how I managed the portfolio at Tryko, and I had the great benefit of working with a phenomenal team over there. At Tryko, I cut my teeth in the space in the skilled nursing industry with people who were second- and third-generation owner-operators, and it was their own capital — and you can bet that they treated every patient like they were patients in a facility where it was their family’s facility. I don’t know another way.
And I think that has value from an investment perspective as well. I don’t think that the “strip it down and sell it off or cash it out” business plan works in health care, and certainly not long-term. I’m a young guy and I’m going to be in this business for a long time, and so it’s my reputation at stake and I’ll treat it as such.
This interview has been condensed and edited.