Omega to Divest Struggling Daybreak Skilled Nursing Portfolio, Cautiously Upbeat on Medicaid Crackdown

After multiple quarters of struggles with operator Daybreak Venture, Omega Healthcare Investors (NYSE: OHI) on Thursday announced a plan to largely purge the provider’s buildings from its portfolio.

“During the course of the next several quarters, Omega anticipates transitioning, either through re-leases or sales, the vast majority of Daybreak’s existing Omega facilities,” chief operating officer Daniel Booth said during the real estate investment trust’s (REIT) fourth-quarter earnings call.

That’s an escalation from the previous quarter, when the Hunt Valley, Md.-based Omega revealed its intention to “selectively downsize” its exposure to the beleaguered Daybreak, which had run into problems paying rent over several quarters. The operator remains on cash payment terms with Omega, the landlord reported, and paid less than $1 million in rent in the third and fourth quarters of last year.

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“As such, Omega and Daybreak have been in ongoing discussions concerning the potential for a consensual and orderly transition of a considerable portion of the Daybreak facilities that are currently leased from Omega,” Booth said.

The REIT had 57 Daybreak buildings in its overall portfolio at the end of 2018, according to the company’s most recent annual report, for a total of 5,113 beds.

So far, Omega has already transferred five Daybreak facilities to an existing operator in its portfolio, and sold a closed property for $1 million.

But the proposed Medicaid Fiscal Accountability Regulation (MFAR) looms over Omega’s plan to find new operators for its Daybreak facilities in Texas. That proposed rule, issued by the Centers for Medicare & Medicaid Services (CMS) last year, would take aim at various state-level programs that nursing home operators have used to pull down higher Medicaid reimbursements.

All told, the rule could place $50 billion in Medicaid payments in immediate jeopardy, though operators in states such as Texas and Indiana are particularly reliant on the programs to stay afloat.

In past earnings calls, Omega executives had pointed to the Lone Star State’s Quality Incentive Payment Program (QIPP), a supplemental Medicaid initiative that rewards operators for improving care quality, as a reason for cautious optimism regarding Daybreak.

Booth last February cited QIPP enrollment as a reason behind Omega’s decision to offer Daybreak a pair of $2.5 million rent deferrals.

“These deferrals were granted for a number of reasons,” Booth said at the time. “First, to allow Daybreak to continue to embark on certain operational improvements, which are already starting to yield positive results in the form of improved operating performance. Second, to give Daybreak time to reap the benefits of a significant increase in participation in the Texas [Quality Incentive Payment] program.”

But Omega CEO Taylor Pickett and other executives on the Thursday call emphasized that, if finalized in its current form, MFAR wouldn’t have a direct effect on Texas skilled nursing providers until 2024.

“We’re not overly concerned about the elimination of that,” Pickett said in response to analyst question about MFAR’s impact on Omega’s M&A plans. “To your point, though, I think any sales in those states — any buyer that’s rational is going to have to look to that component of cash flow and decide whether it’s going to go away or not.”

The REIT’s leadership also took pains to note that the company has never included potential Medicaid rate boosts — including upper payment limit (UPL) programs — in its investment calculus in the past.

“On the MFAR side of the equation, we’ve never underwritten UPL in any deal,” Pickett said. “From our perspective, it doesn’t change our underwriting, because we’ve never underwritten it in any deal we’ve ever done.”

That said, despite a furious push from industry advocates to potentially delay or derail the rule entirely, Pickett spoke of MFAR as likely a done deal.

“It is a very detailed, well-written regulation that addresses some perceived — I wouldn’t even call it abuses — but perceived strategies around the current regs that have been refined,” he said. “At the CMS level, they’re intent on pushing it along. I don’t think we can sit here and think about it not becoming an active reg this year.”

And though he emphasized that it’s too soon to draw firm conclusions about MFAR’s eventual impact, Pickett pointed to a potential silver lining.

“It is too early to estimate the ultimate potential impact of MFAR on our facilities in Indiana and Texas, as we expect any reductions in revenues will be at least partially offset by expense reductions,” he said.

PDPM picture

As for the other major regulatory change on investors’ and analysts’ minds — the new Patient-Driven Payment Model (PDPM) for Medicare skilled nursing reimbursements — Omega’s leadership was similarly cautious to declare a sweeping victory.

“The revenue side of the equation has been neutral to slightly positive, and most of our operators have reported rehab expense savings,” Pickett said.

Executives noted that after an expected first-month bump in October, the result of a quirk in the transition process that granted providers a one-time increase on existing residents, revenue gains among its providers moderated into November and beyond.

On the expense side, Omega’s skilled nursing tenants have exhibited a varying level of group and concurrent therapy services — with some providers offering none at all, and others going as high as 15% to 20%, according to the REIT.

“It’s a little early to make the call on that,” Pickett said of a final PDPM verdict. “I would say that our portfolio is consistent with what we’ve heard from other operators on a national basis, of modest improvements in revenue.”

The fourth quarter of 2019 saw Omega report net income of $61.1 million, down from $64.9 million during the quarter ended December 2018 — a decline that the REIT attributed to real estate impairments. For the year, Omega beat its 2018 net income of $293.9 million with a final total of $351.9 million for 2019.

Shares of OHI remained mostly flat in Thursday’s trading, finishing the day up a nickel — or 0.12% per share — at $42.55.

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