Omega Looks to Cut Daybreak Skilled Nursing Exposure After Performance ‘Deteriorated Further’

Despite showing long-term optimism about Daybreak Venture, executives at Omega Healthcare Investors (NYSE: OHI) on Wednesday revealed an ongoing plan to replace the struggling skilled nursing operator at many of its facilities in Texas.

The two parties have mutually agreed to work toward a deal that would “selectively downsize” Daybreak’s footprint across the Lone Star State, Omega chief operating officer Daniel Booth said, with the eventual goal of allowing the operator to “more narrowly focus its attention on only a few select markets.”

“We expect these liquidity issues will be resolved over time, and anticipate significant future Daybreak rent upside as we work through the near-term Daybreak restructuring issues,” CEO Taylor Pickett said during the company’s third-quarter earnings call with investors and analysts.

To that end, Omega has already begun discussions with other nursing home operators in Texas, with a particular emphasis on winnowing down its cross-state footprint to at most a pair of specific geographic areas.

At the end of 2018, Omega reported 57 Daybreak buildings in its overall portfolio, for a total of 5,113 beds.

The operator has been a recurring problem for the Hunt Valley, Md.-based real estate investment trust (REIT) over the last several quarters: Omega in February, for instance, reported that Daybreak had underpaid its rent by about $4 million during the last quarter of 2018, prompting the two sides to work out a $2.5 million rent-deferment agreement for the first two quarters of this year.

But Omega had yet to report any income from Daybreak in the third quarter as of August, when the REIT disclosed that it had engaged with a consulting firm to assess Daybreak’s operations and long-term cash flow prospects.

Daybreak ended up paying less than $1 million in rent for the third quarter of 2019, Booth said Wednesday, and Omega continues to maintain a cash-basis payment arrangement with the operator. In particular, executives at the REIT blamed declining occupancy, a worsening quality mix, and a variety of legacy costs — including promissory and vendor notes — as well as the lethargic Medicaid reimbursement landscape in Texas.

Still, Omega expressed some long-term optimism about its Daybreak portfolio, pointing to increased participation in the state’s Quality Incentive Payment Program — a plan designed to help operators boost Medicaid reimbursements — along with the projected positive effects of the new Patient-Driven Payment Model (PDPM) and an overall 2.4% boost in Medicare payments for fiscal 2020.

Omega predicts that those factors will eventually allow Daybreak to pay about $15 million to $20 million in annual rent. But change will not come quickly, Booth cautioned.

“The vast majority of these benefits will not assist with Daybreak’s liquidity challenges until the first quarter of 2020,” he said.

Management also used Wednesday’s earnings call to tout the successful completion of a $735 million, 58-SNF acquisition on October 31, with the Florida-based Consulate Health Care as the primary tenant.

The transaction will shoot Consulate into second place on Omega’s overall operator list, and while executives declined to indicate whether the REIT plans to grow even further with the provider, Pickett pointed to multiple upsides — including Consulate’s long-range plan of trimming its footprint into specific markets, as well as its concentration “in markets that we covet, particularly in the Southeast.”

“There’s a lot to like about Consulate,” Pickett said. “We do think that they’re a quality operator.”

Omega reported quarterly income of $142.9 million for the third quarter of this year, up from $59.1 million over the same span in 2018.

Cautious PDPM optimism

Echoing other public companies with skilled nursing stakes, Omega’s leaders expressed cautious optimism about the ongoing transition to the new Medicare payment model for nursing homes, which took effect October 1 — just outside of the reporting period that just closed.

“I haven’t heard anything bad, and we would have by now,” Pickett said, adding that while Omega hasn’t received specific feedback on revenue-cycle issues, the REIT’s operators have reported comfort with the new coding requirements under PDPM.

The first quarter of 2020 remains the target for firm early PDPM verdicts, Omega executives stressed, with a particular desire to not make any sudden movements until the Centers for Medicare & Medicaid Services (CMS) has a chance to evaluate the model’s performance in the real world.

“We’re not sure where CMS will head with this, or where the reimbursements will go,” CEO Taylor Pickett said. “If it looks, after several quarters, that the PDPM has leveled out and operators are happy and the results are consistent, then, yeah, I think that will be ultimately built into our underwriting. But that’s not the flip of a switch.”

Omega’s stance isn’t uncommon in the lending and investment world. Because PDPM is intended to be budget-neutral and centered on patient need, any significant changes in provider behavior that appear to be profit-driven will likely be met with swift action by federal regulators — a factor that multiple voices raised in response to early reports of therapy layoffs in the immediate wake of October 1.

Even before the formal changeover, investor sentiment around PDPM was a mixture of optimism and a desire to wait for firm data.

“We don’t underwrite any of that,” Daniel Reilly, managing director at White Oak Healthcare Finance, said back in September. “A lot can happen; there’s a lot of different factors that can go into that.”

But one of Omega’s tenants may be particularly positioned for early PDPM success: Signature HealthCARE of Kentucky, which began its transition to the PDPM model earlier than other operators in the company’s portfolio.

Because Signature in 2018 paid out a $30 million settlement to the federal government to resolve accusations of providing improper therapy services, the operator had already taken steps to reel in the number of minutes provided and generally overhaul its therapy practices — a key policy goal of PDPM.

“They’re an unusual circumstance, given that they had the prior disclosed issues with the government and really dialed back in terms of rehab delivery — which will, as you know, affect the revenue side of the equation to a positive for them,” CFO Robert Stephenson said. “Signature in particular is one of our tenant relationships — obviously we spend a lot of time with — that we feel very comfortable rolling into this next year of reimbursement.”