Steve's Blog on Senior Care

Extendicare Inc. Decides To Maximize Shareholder Value

Just when you least expect it, big news comes to the surface.  In the second paragraph of Extendicare’s fourth quarter and year-end earnings release, management slipped in the much-used statement that it has formed an independent committee of the board to “review and consider various structures and options that would provide value to shareholders,” or in other words, maximize shareholder value by getting the best price.  Among the alternatives, of course, are a sale or reorganization of the company, or just part of the company.  Lehman Brothers has been hired to be the company’s advisor to explore the alternatives.

Given the history of the company’s share price, the timing is a bit unusual.  From mid-1999 through mid-2003, Extendicare’s share price was stuck in the $2.00 to $4.00 trading range.  That was during the virtual collapse of the publicly traded skilled nursing company sector, and four years of basically no return to shareholders is a bit tough to swallow.   But by the end of 2003, the stock closed at $10.20 per share, increased by 20% in 2004 and hit a high of $18.09 last year, closing the year at $15.63.  The point is that for the past three years shareholders have been very pleased with the returns in what has otherwise been a rather dull stock market. 

We have sung the praises of Extendicare’s turnaround in The SeniorCare Investor over the past two years, and prior to the most recent announcement, the company’s adjusted EBITDA multiple of 8.3x was very close to industry leader Manor Care, with an 8.5x multiple.  But Extendicare’s shares soared by nearly 40% on the day of the release, putting Extendicare at the head of the class, at least for now.  What we can’t figure out is, why now?  The stock has been trading well, but the fourth quarter results were less than optimal, with earnings before taxes down from the fourth quarter in 2004, and with the results at newly acquired Assisted Living Concepts declining from the third quarter at a time when the assisted living industry is going like gangbusters.  Valuations of seniors housing companies are at historic highs, but not nursing facility companies, even though private equity interest in the skilled nursing business seems to be growing.

Extendicare, however, presents a unique opportunity, for management, shareholders and potential buyers.  Because in some ways it is really two companies, one with Canadian operations and the other (four times the size) with U.S. operations, the Canadian business could be sold to one group and the U.S. part to another, the Canadian business could be spun out into a new REIT, using Canada’s more liberal REIT regulations, or sold to another REIT, or any combination you could think of.  And don’t forget the home health business, which has revenues of C$ 128 million. 

Extendicare’s shares are now trading at more than $21 per share, and at these levels the acquisition premium appears to be already built in, which is what happened to Beverly Enterprises just about this time last year.  Some Canadian analysts, however, believe the full value is between $24 and $27 per share.  Unfortunately for their investing clients, we doubt they were saying this two weeks ago. But it is the split-up potential that has investors licking their chops, and crunching their numbers, as Canadian REITs tend to be valued differently, and the options for the U.S. portfolio include private equity players and, perhaps, a few operators, but probably not at $21 per share for those operators.  We do not know if a major shareholder or two has prompted this decision, even though management has declared it to be one decided by the board without any outside pressure.  Now, one has to wonder if those private equity firms are crunching the numbers for Genesis Healthcare and Kindred Healthcare.  It may be an interesting year for the skilled nursing sector after all.

Related links:
Extendicare

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

A Blizzard of Senior Care M&A Activity

In terms of senior care merger and acquisition activity, 2005 will go down as one of the top three years for dollar volume of transactions, with 1997 and 1998 being the only years with more activity.  But last year was the most active year of all if you remove public company mergers with other public companies in the 1997-1998 period, which were dominant in the late 1990s with several billion-dollar deals in each year. 

Last year, even excluding the acquisition of Beverly Enterprises, which should finally close in March, there were nearly 35 transactions worth more than $3.5 billion combined.  When the smaller ones are added in, the market easily topped $4 billion without Beverly.  That was a busy year by any measure and, with the significant number of small and large deals, it was a market with some good depth.  The bottom line is that demand was unusually high, and by the end of the year, most people were exhausted.  By January of 2006 we were hearing rumblings that the great bull market of the past 18 months was finally losing some steam.  Although few would speak publicly about it, the whispers were getting louder that the pricing was too rich and left little room for mistakes.  In other words, they thought buyers would have to hit on all of their assumptions to make many of the recent deals work, and that rarely happens.  We, too, were getting the feeling that things were slowing down and that the yellow caution flag was rearing its head. 

That may be the case today, but in just the first six weeks of 2006 there have already been nearly $1 billion of deals announced, six of which totaled about $822 million.  Brookdale Senior Living alone has accounted for $428.5 million of that total with just three acquisitions, and we have to assume they are not done for the year.  On an annualized basis, this would equate to nearly $9 billion of acquisition activity for the full year, a level we really do not anticipate unless someone buys Kindred Healthcare or Manor Care (no, we are not trying to start any rumors), which would certainly juice up the numbers for 2006. 

But all of these transactions in the past six weeks (we assume) were started sometime late last year during the market euphoria and were not reflective of any current mood change in the market, if there is one.  We know of many transactions that are scheduled to close in the next two months, so activity will appear to be just as strong as last year.  The thing to watch will be the number of new properties and portfolios coming onto the market between now and the end of the second quarter, as well as the volume of closings during the third quarter and beyond.  If there is a slowdown, that is when, and how, we will see it.  Perhaps the recent blizzard of activity will taper off to a few flurries here and there.  But then again, perhaps not.         

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

The Deficit Reduction Act: A small step in the right direction

Last week, by just a 216-214 vote, the House narrowly passed the Deficit Reduction Act (DRA) which, over 10 years, is supposed to save the Medicaid and Medicare systems about $48.8 billion.  Whether this will really happen is anyone’s guess, especially because other legislation will certainly come into play in those 10 years that could change everything, but its looks good for those Republicans seeking reelection this November who, after years of record spending increases, can go back to there constituents and say they won a tough battle against the Democrats to keep spending under control.  It will be a difficult statement to make while keeping a straight face, but politicians have perfected that art.

Among other things, the bill extends the Medicaid asset transfer look-back period from three to five years, drops the home equity exclusion from “unlimited” to $500,000 and closes other Medicaid eligibility loopholes in an attempt to get those who can afford long-term care, or can afford to plan for it through LTC insurance or other means, off the Medicaid dole.  On the negative side, the act now requires nursing facility providers to collect from individuals who have no funds of their own but who are not Medicaid eligible because of the improper transfer of assets.  Medicaid estate planning lawyers obviously fought against many parts of the bill, because they are paid to help their clients game the system and obtain the government benefits they are “entitled” to, and to get a “return” on the taxes they have been paying into the system all these years.  But we wonder how their clients would react if they were told by these same lawyers that the goal of their estate planning was to go on “welfare” if they needed long-term care.

The DRA may be a small step in the right direction, but it is very small.  Not until politicians go home and call Medicaid what it truly is – welfare – will people begin to have a different attitude about estate planning done in order to qualify for Medicaid/welfare.  Although all children would like to receive some inheritance from their parents, I haven’t met one yet who would be proud to say their parent is on “welfare” in a nursing facility.  Nursing home operators may appreciate the help in limiting those gaming the system, but what they really would like is a reasonable Medicaid reimbursement system.

Over $1.1 trillion is spent on Medicaid, Medicare and Social Security, or 42% of the entire federal budget, compared with 16% of the budget on defense.  The DRA may be small step in the right direction, but nothing meaningful, and lasting, will be accomplished until all three of these line items are looked at together, at the same time.  A tweak here and there makes for good headlines and talking points with constituents, and a lot of back-slapping in the congressional corridors, but few in Washington, D.C. are willing to take on the real battle.  Until that time, I guess we will have to be happy with these small steps from small-minded politicians.          

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