Steve's Blog on Senior Care

Kindred Healthcare – Part 2

After the bombshell dropped by the Centers for Medicare and Medicaid Services on Friday January 20 regarding Medicare reimbursement for LTACs, Kindred Healthcare’s share price has not recovered much from its 30% plunge. On January 26, the company disclosed that if the proposed rule changes are enacted, its LTACs would stand to lose between $115 million and $120 million on an annual basis associated with short-stay outlier patients and high-cost outliers. Management did not try to estimate what costs could be reduced, so we have to assume that much, if not most, of the revenue decline would go straight to the bottom line. If so, at the new share price, Kindred is trading between 6.5x and 7.5x EBITDAR, depending on whether one looks at 2006 or 2007 forecasted earnings. At some point, that multiple will attract buyers.

JANA Partners, LLC appears to be a believer, and it filed a 13-G with the SEC in late January stating it owned 3.65 million shares of Kindred, or 9.37% of the shares outstanding. As a hedge fund, we assume it will want to push management to maximize shareholder value, but Ventas, Kindred’s primary landlord, will have a lot to say about the future direction of the company as well. JANA joins Barclays Global Investors, which owned about 3.6 million shares of Kindred last summer, a stake that has since increased to more than 4.9 million shares, or 12.73% of the shares outstanding. We do not know to what extent these shareholders have been in active dialogue with management, but we imagine management is more appropriately spending its time dialoguing with representatives from CMS to reverse, or at least soften, the proposed rule changes. The problem is that the LTAC business, despite its recent growth spurt, is still a relatively small industry that does not carry the lobbying power of, say, the acute care industry. It’s too bad, because when used appropriately, LTACs save the health care system (Medicare) money, besides saving lives as well.

We suspect that discussions between Kindred and Ventas on the lease “re-set” will be postponed until there is more clarity on the LTAC reimbursement front, but since it is doubtful that Kindred management will be able to get all of the proposed reimbursement cuts put back into the rates, anyone’s previous estimate for a step-up in Kindred’s lease rate would have to be lowered to some extent. How much is anyone’s guess at this point in time. We do assume, however, that at $21 to $22 per share, Kindred has hit bottom, and if investors can stomach the reimbursement risk, it looks to be a reasonable bet in today’s market.

Visit Kindred healthcare

For more articles on the senior care acquisition market, see Index links for The SeniorCare Investor

Get the inside scoop on senior care M&A at The SeniorCare Investor

Database of health care M&A transactions, including senior care acquisitions

Friday the 13th came a week late

On the day that Ventas could initiate its long-awaited rent reset right with regard to its leases with Kindred Healthcare (Friday, March 20), the Centers for Medicare and Medicaid Services (CMS) came out with proposed regulatory changes for Medicare reimbursement for long-term acute care hospitals (LTACs), which would be effective for LTAC discharges for the 12 months beginning July 1, 2006.  Kindred operates 72 LTACs which generate about 40% of its revenues, and 39 of these are leased from Ventas.  For almost a year now, Ventas has been stating that it believes the one-time reset option, which covers the leases with Kindred on the LTACs plus 186 SNFs, will add about $35 million to the rental income from Kindred, a figure that has been disputed by Kindred but that has also been embedded in Kindred’s share price.

The reset amount can be negotiated between the two companies or can be settled through an independent appraisal process, which carries its own risks to both sides.  With future reimbursement levels now in question, and at best lower than anyone thought, it is doubtful that Ventas will push for a settlement until there is some clarity.  And although Kindred has been arguing that the $35 million rental increase talked about by Ventas is much too high according to its calculations, it did not want to see a smaller increase as a result of declines in reimbursement. That would be the classic lose/lose situation, and investors pushed Kindred down by 25% on Friday the 20th and Ventas by about 8%.

There is a 60-day comment period, but with Medicare LTAC expenditures expected to increase by 70% from 2003 to 2007, and LTAC margins expanding by 200 to 300 basis points in the past few years, CMS may not be too open to any arguments against the proposed changes.  There has been talk that the changes could lower Kindred’s revenues by more than $100 million, but it remains unclear how much of that loss, whatever the final amount is, would hit the current run rate of more than $500 million in annual EBITDAR, even after Kindred makes some census changes to deal with the changes.  Whatever the number, analysts (and Ventas management) will have to take a hard look at that $35 million number that has been tossed around, because whatever the outcome, this is bad news for everyone.  And if it ends up going the appraisal route, the appraisers will most likely be forced to be conservative in their assumptions, which is certainly not what Ventas wants.  Because of this latest news from CMS, it almost gives both sides even more of an incentive to negotiate a reasonable settlement, although Kindred may push to leave the lease rates where they are given the hit to revenues and earnings.  In any event, they can’t be reset to a lower amount.   

Now, if CMS starts to cut SNF Medicare reimbursement rates, it won’t be just Ventas and Kindred in the news with plunging share prices.  One of the reasons why investors have recently flocked to the assisted and independent living market is the absence of the “stroke of the pen” phenomenon.  Here, it has reared its ugly head once again.

Visit Kindred healthcare’s Web Site

For more articles on the senior care acquisition market, see Index links for The SeniorCare Investor

Get the inside scoop on senior care M&A at The SeniorCare Investor

Database of health care M&A transactions, including senior care acquisitions

The January Effect on Senior Care Stocks

Let’s face it, the seniors housing and care sector outperformed the rest of the stock market in 2005 by leaps and bounds, and then some.  Only three companies posted down years, but 50% of them were up by 20% or more, with five jumping by more than 40%.  Now that’s what I call performance in a year when the DJIA, NASDAQ and the S&P 500 sputtered along with what can only be called unmemorable results.

And so far this year?  Almost all of them are up again, with Advocat and Kindred Healthcare leading the pack of skilled nursing companies with gains as of mid-day today of 12% and 9%, respectively, for the month.  In addition, Manor Care and National HealthCare Corp. have already hit new 52-week highs.  Whether this is a result of the “January effect,” when the results of the first month of the year are often a precursor for the full year, and a time when investors are back in the market after adjusting their portfolios for year-end cleansing and reporting, or just the continuation of the senior care bull market for a fourth straight year is anyone’s guess.  But we still like what we see.  And after an incredible year when five of the six retirement housing stocks posted gains of 40% or more, most of them have continued upward and are closing in on new 52-week highs.

Even in the health care REIT market, which last year had only three stocks rise in value, all of them are up this year, with several appreciating by 4% to 7% in the first week of the year.  The leader of the pack in 2005, Ventas, with a 21.9% total return (including dividends), is already up more than 7% this month.  The future direction of interest rates will obviously have a major impact on REIT stock movements this year, but no one is complaining about the start.  With the DJIA breaking the 11,000 mark today for the first time in four years, the sentiment seems to be there for a positive year.  And the senior care bull market may just be kicking for a fourth straight year. 

Related links:

For more articles on the senior care acquisition market, see Index links for The SeniorCare Investor

Get the inside scoop on senior care M&A at The SeniorCare Investor

Database of health care M&A transactions, including senior care acquisitions