Authored by Ken Mann | Managing Director, SC&H Capital
Published by the American Bankruptcy Institute Journal, July Issue and included in the Best of ABI 2022: The Year in Business Bankruptcy digital book
By 2060, nearly one in four Americans will be 65 years and older, the number aged 85-plus will triple, and the country will add a half-million centenarians. The massive increase in the need for long-term care that will accompany these demographics is at odds with the uncertain future of current facilities. Pre-pandemic, long-term care facilities (LTCFs) already faced challenges, from increasing costs and labor shortages to obsolete floor plans and technology changes, and those have only been exacerbated by Covid-19.
Despite these challenges and fierce competition, insolvency professionals have opportunities to preserve the going concern, including refinancing, sale-leaseback, or a sale of the business and property. In a recent article featured by ABI, Ken Mann explores trending obstacles, the viability of available options, and the valuation considerations available to those managing, buying, or selling an LTCF. Below, we share a summary of the key insights covered.
Challenges Leading to Distress
More than half of the chapter 11 filings by LTCFs since 2016 were filed in the two years following the start of the pandemic. Distress is not only more prominent but more visible among skilled-nursing facilities (SNFs), assisted-living facilities (ALFs), and memory care facilities—for a multitude of reasons:
- Adaptation and transformation are virtually nonexistent for what’s considered an already broken and overburdened system
- Despite the rising demand, seniors in need of care and services can’t afford the expenses, and reimbursement schemes cover significantly less than true costs
- Supply outweighs demand in some markets, making it difficult for older facilities with dated amenities to acquire new residents
- Technology is the great contender, as telehealth, home security, and smart devices advance, the need for on-demand care (sooner than later) lessens
- Qualified nurses and providers are in short supply, which has driven up wages making recruiting and retention even harder
Opportunities, Solutions, and Valuations for LTCFs
Asking the right questions can help even a nonexpert determine the viability of reorganization, refinancing, or a turnaround of a facility. The first step is to get an understanding of the 13-week cash flow projections and if the runway to operate and execute a plan exists. In the article, such questions are presented, all within the realm of these key considerations:
- Demand
- Strength of the sales and marketing team
- Supply
- Perceptions
- Financials
Maintaining equity is the sought-after solution for most LTCF owners. If refinancing is the objective, a new lender will usually require a debt-service-coverage ratio of 1.3 to 1.5x (depending on variables). If the LTCF owner/operator seeks to keep the operating company (Op Co) while paying down debt and delaying a turnaround, a sale-leaseback of the property (Prop Co) is an option. For most, the next best option is to sell the asset and business for its intended use as a going concern to a financial or strategic buyer, this will likely maximize value.
Understanding the valuation of the long-term care facility is also a main contributing factor to what option a buyer will pursue. Within senior living and care, capitalization rates or “cap rates” vary broadly, but bear in mind that our rising-interest-rate environment will likely increase cap rates and slow some housing markets. Appraisals and values arrived at from cap rates are often vastly different than selling prices for troubled properties for a variety of reasons, including shorter marketing periods, deferred maintenance, saturated markets, and a lack of net operating income (NOI). More on valuation considerations and cap rates are within.
The Potential of Alternative Uses
Converting a LTCF to an alternative real estate class requires substantial investment. As a result, if there is insufficient demand to justify continued operations of the facility, shutting down can result in as much as a 50 percent drop off from the appraised value determined when it was a profitable LTCF. So, if a buyer looking to improve and reopen the facility for its original use can’t be found, look to convert some or all the units to other related uses to meet the market need. Irrespective of objectives, investigating the local market to determine the need for similar uses is imperative. If related uses aren’t available, then consider what’s nearby to identify alternatives like student housing or apartments for a college or university, office space, or hospitality uses. For all these alternative uses, valuation will vary – read the full article for specifics.
Viability and the Path Forward
It is expected that distressed LTCFs are going to need help from M&A advisors in the insolvency community. Despite thin margins, LTCFs continue to garner interest from investors and lenders and, if not in rural areas, enjoy attractive valuations. Read the full article to learn more.
