The Dealmakers Forum: HCP Buys HCR For $6.1 Billion–

Marriage After Living Together Will Benefit Both
We knew the seniors housing and care acquisition market was heating up in the last half of the year, but the dollar volume of announced acquisitions in just the last quarter of 2010 will surpass the total dollar volume of deal activity in all full years except 2006 and 2007.  There are reasons for this, which do have some differences from the last escalation in transaction volume, but as always, it all comes down to capital—and its cost.
Today, health care REITs reign supreme in the acquisition market, but their buying power, in terms of paying the highest prices, is still in the arena of large portfolio acquisitions where they have little competition (other than each other) and where the economies of scale allow them to pay up, when it otherwise makes less financial sense to do the same for one-off deals.  We started the fourth quarter with the $3.1 billion acquisition of Atria Senior Living’s assets by Ventas (NYSE: VTR), and we ended the quarter with the $6.1 billion acquisition of HCR ManorCare’s skilled nursing and assisted living facilities by HCP, Inc. (NYSE: HCP).  There have been many additional transactions between these two, but these mega-deals (a phrase we haven’t used in a few years) are defining the acquisition market for the time being, and we expect more to come in the first half of 2011.  And this most recent acquisition is, not coincidentally, the largest since The Carlyle Group purchased all of HCR ManorCare in late 2007 for $6.3 billion in a deal that included the operating company with its significant home health and hospice division. 
The acquisition of HCR’s assets by HCP did not come as a surprise, since it had been well known that Carlyle had been looking at a sale of the company or its real estate assets, a debt recapitalization or an IPO for at least a year.  But given the historically low cost of capital for health care REITs since the beginning of 2010, selling the real property to a REIT became the proverbial no-brainer.  HCP’s CEO, Jay Flaherty, had been circling HCR ManorCare for quite a while, licking his chops at the prize he wanted to add to his portfolio.  HCP participated in the mezzanine debt piece when Carlyle first bought the company three years ago, and then added a large mortgage debt piece to its portfolio (purchased at a discount) later on.  As a result, HCP was already invested in the company and had a seat at the table for any future conversations.  Mr. Flaherty’s desire to diversify away from the skilled nursing business was well known, as it was a model he was never enthralled with, but he always considered this particular portfolio to be very different from the “Medicaid Mills” of the past.  This was the “premier” operator with a revenue quality mix just over 70%—higher than any large company in the industry—and a management team that is highly respected, although not seen in public very often. 
In the acquisition three years ago, Carlyle paid $6.3 billion for a company with just over 5,000 assisted living units and about 38,000 skilled nursing and post-acute beds, plus a home health and hospice business with $500 million of revenues and an estimated EBITDA of about $60 million in 2007.  And by the way, HCR ManorCare’s hospice business is now the third largest in the country, which is no small feat.  The trailing 12-month revenues and EBITDA for the entire company were $3.7 billion and $480 million, respectively, three years ago.  After removing a theoretical value of $550 million for the home health and hospice business, the 2007 purchase price came to about $135,000 per bed/unit, but for the real estate and operating business.  Just like Mr. Flaherty, Carlyle was paying a top price for premier assets, but at the market peak.
In today’s transaction, HCP is paying $6.1 billion for 68 assisted living facilities and 270 skilled nursing/post-acute facilities with approximately 41,500 beds/units, which would imply HCR has divested a few properties in the past three years…Want to read more? Click here for a free trial and download the current issue today