In a sector roiled by low Medicaid reimbursements and a new Medicare payment system, nursing facilities could change hands more frequently in the coming year — and one firm specifically sees opportunity in targeting distressed properties.
With many industry-watchers predicting an uptick in M&A activity in the wake of the new Patient-Driven Payment Model, and operator bankruptcies continuing to hit properties across the country, SC&H Capital has chosen to move into the complex distressed health care space. In this move, the company is casting a wide net to advise struggling clients in selling and buying failing nursing homes and assisted living facilities.
The Maryland-based SC&H Capital recently expanded into the niche by adding seven members of investment banking firm Equity Partners — which had specialized in bankruptcies and turnarounds in a variety of industries — to its own team on January 1.
The company has already served as a court-appointed investor, overseeing the bankruptcy auction of two 16-bed nursing facilities and a 16-bed assisted living property in Idaho on behalf of Bell Mountain Village, formerly operated by Safe Haven Health Care.
SNN sat down with SC&H managing director Ken Mann and principal Hank Waida to learn more about this emerging business after their first nursing home deal, focusing on the inner workings of the highly fragmented and fast-moving world of distressed skilled nursing sales.
Why do you think now is a good time to start a distressed M&A health care group and what industry trends do you hope to capitalize on?
Mann: Equity Partners, the company that Hank and I have been with for a long time, has been in the distressed space for 31 years; that’s all we’ve done. We represent troubled businesses in all industries. We…[completed] a handful of health care deals: skilled nursing facilities, neurological monitoring, home infusion companies.
On the other hand, SC&H Capital … has a lot of experience in health care [and] hospitals. So we came together effective January 1, just naturally through that merger, distressed M&A professionals and M&A professionals that have health care experience. We’re unique and the only group that I know of that has that combined expertise.
Why now in the health care space, in distress? I put it to you this way: There’s just so much change and so much uncertainty and so much complication in the … space, that it is a hard industry to be a small player in. We see that many smaller businesses will be in trouble, or will consolidate into a bigger group — whether that’s a hospital or university owned-group or larger medical practice — just because there’s so many complications with how you collect receivables, which is, as you know, all driven by Medicaid reimbursement.
It’s a rare industry where how you handle your receivables is subject to criminal penalties — where $1 of receivables really [is] 50 cents of receivables. You have to have experts on your team. It’s a very unique industry, with controlled dangerous substances as inventory. You may have volunteer boards in a lot of cases, if we’re talking about rural hospitals. You’ve got charitable missions that may be more important than getting the highest price. So there’s a lot of reasons why it’s hard to be small, and it’s complicated. Rural hospitals are clearly under attack and going down, left and right. And so we just see a lot of activity in that space and think it will continue.
We also just think the demographics can tell the tale. Everybody decided that they would build skilled nursing facilities, assisted living facilities, because of the baby boomers, but what they’re seeing is [that] the baby boomers age differently than the generation before them, and so in certain niches, there’s just massive excess capacity and it’s going to have to be sold or repurposed in some cases.
A lot of dollars got behind the idea of, “We’ll follow the baby boomers, spend money there, build capacity and what they will need.” That may be overdone in certain segments, in certain markets.
What are some of the challenges you’ve encountered in dealing with selling and buying these turnaround properties?
Waida: One of the biggest, obviously, [is] you’re trying to sell companies that aren’t making any money. With the skilled nursing facility and assisted living, you’ve got a lot of issues with licensing. Typically in bankruptcy, whenever you get a sale approved by the judge, there aren’t any contingencies. In other words, we get a sale, we take it to the judge, the judge approves the sale, and then they have X amount of time to close.
With the nursing and assisted living facilities, by the time we go to get a sale approved, all the licensing issues of having the I’s dotted and the T’s have been crossed. So, there’s a lot that still has to go into actually being able to close the deal after the sale has been approved, so that could create a challenge when dealing with a Chapter 11 situation.
What are some of the details involved in the cleanup after a sale has been approved?
Waida: Well, basically the licensing is the only thing that really needs to be dealt with. And that’s really between CMS and the buyer; they’ve got to work through whatever they need to work through in order to have their licenses approved.
We do everything we can up until the sale is approved by the court, and then as they move forward to get to the closing, we are there for anything if they need from us, just to make sure: Are all the constituents communicating with each other, and everybody’s getting their questions answered?
What would you say is the most challenging aspect of closing these deals?
Waida: The challenge is to keep everybody calm, and that’s really getting to the sale hearing — getting to the point where everybody agrees to the final number up until the court approves the sale.
I’d like to learn more about the sale of those Bell Mountain properties. I’m also curious if you expect to be dealing with very small nursing homes and a large operator, like in this case. Do you think that’s kind of a trend right now or an upcoming trend?
Waida: Well, it’s actually harder to sell the smaller nursing homes and assisted living facilities because the major players that would come in, they’re looking for something much larger. I think we, with our process, cast a very wide net. We try to contact everybody and anybody that would have an interest … in nursing homes.
With this particular situation, we had a lot of individual investors that were coming together to try to put a bid together to buy larger. The larger players, they really weren’t interested. And fortunately we did get Cascadia to take a look, and then ultimately they moved forward.
What are the specifics about selling in that Idaho region for that deal?
Waida: In that particular case, there really weren’t any other skilled nursing facilities or even assisted living facilities, within 40, 50 miles from there.
What’s interesting about making inroads in this complicated space?
Mann: It’s a great question. We are as far as the distress team, on SC&H Capital’s team, which is the seven of us that came from Equity Partners. We have always viewed ourselves first and foremost as tenacious problem-solvers. When it seems like there’s no way to save the day, and you have to keep turning the Rubik’s Cube, we’ve been very good at doing that and getting people in a room and solving problems that seemed insurmountable, and health care offers a broad array of those kinds of problems. It is exciting, but it’s where we add the most value. It’s where most people give up, throw up their hands and walk away; we add the most value, because we will stick with a problem. We’ll be the adult in the room…[to] bring people together to solve the problem.
So for example, in bankruptcy, health care cases are different than other cases. I’ll give you a couple of examples why.
There’s the issue in almost all health care cases of the provider agreement, right. And I don’t want to get too technical…but in bankruptcy, a lot of people think that’s an executory contract, which means you can assume and assign it to a buyer. However, you have to pay what are called cure costs. All this money that’s owed under the provider agreement has to be paid by somebody. Well, now there are some cases that say, ‘“No, it’s not an executory contract It’s a ‘statutory entitlement.’” Well, if it’s a statutory entitlement, you can just sell it. You don’t have to pay any cure costs.”
So there are those negotiations in the back of the courtroom, to bring the sides together and say, “Hey, let’s not fight this with litigation. Let’s come up with a way that … this entity survives and continues to provide a critical service.”
Can you offer some details about how your company negotiated the Safe Haven deal?
Mann: For Safe Haven, those provider agreements were a hotly contested and debated … and part of why that deal took so long to close — getting the executory contract of the provider agreement assumed and assigned, or giving the buyers time to transfer that provider agreement, if you will.
Let me go a totally different way. You see a lot of rural hospital cases right now in bankruptcy. The mission is always to get to the “highest and best offer.” And usually that’s evaluated by dollars, because you need to pay as many creditors as much money as possible.
But the courts have ruled that in the case of a hospital, if it’s a not-for-profit, then you are allowed to consider its charitable mission in determining what is the highest and best offer. So you may in fact select a lower price because it is closer to meeting the charitable mission, which might be to provide critical care for that wouldn’t otherwise be available.
There’s all these dynamics in health care, but they’re magnified in a distressed health care case. And so there are very few firms that know about both. And we think that we now are that firm, and it is exciting to be the problem solver, and very rewarding to not only save jobs, which I think we do all the time, but to save jobs and to serve a community that was going to lose something critical to it.
What aspects of a facility is potentially attractive to a buyer?
Mann: It really depends on what type of business you’re referring to. So it’s hard to be small, right? Because you’ve got to pay very qualified people to do all your coding and make sure you get proper reimbursements and actually collect your money. So, the main thing I think [of] is typically just consolidation.
Whatever type of health care business it is, whether it’s a nursing home or a doctor’s medical practice or a surgery center or whatever, it needs to be part of something bigger. The buying group says, “I can solve a lot of the problems that they have, because I have that professional staff … who deal with these things. I have professional management, if you will.”
If you’re going to have a staff room full of experts in coding, making sure that it’s done properly, the collection mechanisms, [and] the billing mechanisms, you need a room full of experts. Well, [if] you’re going to share that cost over 10 facilities, you’re much more efficient than if you’re doing that one facility. It’s a consolidation or an economies-of-scale play, frequently.
Other times, like in Safe Haven’s case, it was important to just look at it as pure real estate. [We ask] What else could this be? Could a nursing home become a retirement home? Is it near a college that could be converted to dormitories, because then you can establish a competitive market, and a big value? Ultimately, in most cases, it’s probably going to be used in the same way. But you can drive the market by considering alternative uses. Sometimes that is the highest and best recovery. If it’s a good piece of real estate, do something else with it.
And then back to mission. If I’m a university, or a chain of hospitals, then I can look at a particular facility differently. And this is a common outcome is I might say, “Okay, that cannot be a full-service rural hospital anymore, but it could be part of our hospital system. And it could be a birthing center, right? Or it could be an oncology center.” You might have five or six general purpose hospitals, [and] they get acquired and become more specific purpose facilities.as part of a bigger hospital chain.
Waida: Has it been recently remodeled? What kind of money are they going to have to put into these facilities in order to attract additional residents? What is the staff like? [In the recent deal] some of the staff had to come from pretty far away, and so they had to get paid a little bit more in order to make it worth their while to drive in. The more remote a location is, the more difficult it is to find quality care or quality employees. There’s a lot of those factors that come into play.