Skilled nursing deals are plentiful, and private equity has a large role to play in their abundance, according to leaders at Sabra Health Care REIT (Nasdaq: SBRA). This trend comes amid the possibility of Medicaid cuts, which could be watered down eventually from the current package presented by House Republicans, they noted.

Speaking during Sabra’s fourth quarter conference call Thursday, CEO Rick Matros commented on the regulatory and political environment and their effects on the skilled nursing sector, particularly potential cuts to Medicaid and the removal of the federal staffing mandate as part of the Senate budget plan. 

Because Congress is in the very early stages of its budget process, there are drastic differences between the House and Senate budget proposals, he said. The proposed House budget has the widely reported, unspecified $880 billion cut to Medicaid. The Senate version of the budget, meanwhile, has no Medicaid cuts and overturns the staffing mandate.

“You’ve got opposite sides of the spectrum, you have no specificity on where those Medicaid cuts are. We have a very, very long way to go,” said Matros of Congressional budget proposals. “The threat of Medicaid cuts, we take that very seriously. While any actions that may be taken are unpredictable, there are natural guardrails in place.”

Analysts on Sabra’s 4Q earnings call expressed concern that at least some of the Medicaid cuts proposed in the House will go through in order for the two governing bodies to find some middle ground.

“Since you’re starting with zero in the Senate and $880 billion in the House, that number is going to come down. Hopefully it goes away, particularly when the governors start getting involved in the fight,” said Matros.

Programs like CHIP, Medicaid expansion more generally, and home and community-based programs will likely be targeted first, Matros said.

“Depending on what the final number is and what sectors get hit, you may see sectors uniting together in their lobbying efforts, said Matros. “In the sectors and from organizations like AARP, there is going to be a lot of activity around any potential cuts that affect the indigent and the elderly.”

Leaders for San Juan Capistrano, Calif.-based Sabra also discussed skilled nursing’s “robust” transaction market during the 4Q earnings call on Thursday, along with the disposition of nine skilled nursing facilities and one behavioral health facility for $56.5 million, and the ties between skilled nursing assets rising in occupancy and rent coverage.

Guardrails against potential Medicare, Medicaid cuts

Congress has historically been protective of the elderly population, Matros said, particularly vulnerable, institutionalized residents in skilled nursing facilities. The Medicaid budget, inclusive of matching funds, is critical to the governors of all states, both Democrat and Republican.

“In fact, the red states have been the greater recipients of Medicaid access, the expansion of Medicaid access in recent years,” said Matros. “In addition to the bipartisan support that we’ve always had in Congress, the governors of the states, again, both red and blue, will be united to protect the elderly in our facilities and the Medicaid budgets that are so critical to them.”

Robust lobbying efforts by Sabra and in the sector will pay off here as well, Matros said.

Another guardrail for Sabra specifically comes in the form of its portfolio strength and puts tenants in a very good position to withstand anything that may happen going forward. EBITARM coverage for skilled nursing and transitional care was reported at 2.09 times for the fourth financial quarter, while seniors housing was leased at 1.36 times and behavioral health, specialty hospitals and other assets were listed at 3.66 times coverage.

Skilled nursing occupancy among Sabra assets grew 60 basis points sequentially to 80.9%, and across its top five tenants, the Ensign Group (Nasdaq: ENSG) was up 16 basis points sequentially to 2.62 times EBITARM, analysts at BMO Capital Markets noted. Signature Healthcare coverage grew 30 basis points to 1.89 times, they said.

Matros noted the rise in skilled nursing rent coverage levels was tied to when occupancy “kicked in” along with Medicaid increases.

“Medicaid increases … in July and August really had the biggest impact. Since we report the quarter in arrears, you’ll also see impact from the Medicare market basket,” he said.

In terms of any potential Medicare cuts, Matros said statute and Congressional involvement will make it very difficult for the Trump administration to drastically change the program.

“I have less concerns about Medicare than I do about some kind of hit on Medicaid, even though I’m more optimistic than pessimistic about Medicaid, or certainly the overall impact of it,” said Matros. “We’re living in a time that’s completely unpredictable. I tend to fall back on the bipartisan support, the lobbying efforts, the fact that this is statutory. You’ve got states involved, as well as both chambers of Congress. It’s just not going to be that simple to hurt people who are most dependent upon government aid.”

Robust transaction market

The REIT’s leadership team touched on skilled nursing dealmaking during the 4Q earnings call as well, with Sabra Chief Investment Officer, Treasurer and Executive Vice President Talya Nevo-Hacohen stating that the transaction market for the sector was “robust” right now. Matros added that strategic buyers are chasing the money.

“That’s what the issue is from a competitive perspective. They’re valuing these assets not just based on the nursing facility, but on the revenue generated for all of their ancillary businesses,” said Matros. “It’s been pretty frothy for those guys.”

There are a lot of deals coming into the market from private equity firms that have assets either at end of life or beyond, said Nevo-Hacohen.

“There are [private] funds that have decided the price is good enough,” Nevo-Hacohen said of sellers. “We’re seeing quite a bit of that, because there’s been enough of a recovery to recoup and just exit.”

There’s also been some “green shoots” on refinancing and recapitalization opportunities compared to four months ago when interest rates were expected to decline when they’ve actually gone up, she said.

Sabra met BMO analyst expectations for 4Q with adjusted funds from operations increasing 7.5% year over year and “solid” SHOP same store net operating income growth at 17.9% year over year.

BMO analysts expressed disappointment that there were no new investments, an outlier compared to peers, despite unexpected 4Q dispositions, referring to the disposition of nine skilled nursing facilities and one behavioral facility for $56.5 million.

Sabra met earnings estimates for the quarter at 36 cents in funds from operations, and beat $180.34 million in consensus revenue estimates, landing at $182.35 million in 4Q.

Sabra shares closed Thursday at $16.39, down 16 cents, or 1%.