The SeniorCare Investor: Senior Care, Inc. Expands--

Acquires Hearthstone Operations, Becomes VTR Tenant

At the end of July, Ventas (NYSE: VTR) made its first announcement regarding the portfolio of assets it obtained when VTR closed on the purchase of Nationwide Health Properties (NHP) on July 1 for $7.6 billion.  We don’t know if more changes are to come, but the first one, involving Hearthstone Senior Services, may have been expected given what almost happened a few years ago.

First, a bit of history. At the very end of 2007, Hearthstone had announced it entered into an agreement to sell its operations to Capital Senior Living (NYSE: CSU) for $35 million.  The operations included 32 assisted living and memory care communities all leased from NHP, which had purchased the real estate from Hearthstone in 2006 for $431 million, or $196,600 per unit, and an initial lease rate of 8.06% plus a right to fund Hearthstone’s new development.   The lease coverage was reported at the time to be just over 1.0x, but it was expected to grow.  The deal with Capital Senior Living fell apart a few months later (despite our positive opinion on the deal) for a variety of reasons.  The main one was the leverage risk with more than $35 million of additional annual lease costs when annualized EBITDAR for 2007 was about $40.3 million, inclusive of an assumed $2.6 million incremental G&A cost to CSU, which was much less than the standard 5% of revenues management fee.  Some dissident CSU shareholders were vocally against the transaction, claiming it could threaten the financial viability of the company.  At the time, we thought they were a bit over the top and that it had everything to do with their interest in maximizing shareholder value with a potential sale of the company, which was well known, rather than growing the company, which was management’s goal.  They thought this purchase would make CSU unmarketable.  But at the end of 2007, not many people knew what was in store for the economy, the housing market and occupancy rates, so CSU may have dodged a big one.  But maybe not.

The $35 million acquisition price nearly four years ago was about 7.0x adjusted annualized EBITDA of $5.0 million, based on the first nine months of 2007.  Hearthstone’s occupancy had been increasing at the time, so we assume the financial performance was actually better by the end of the year, which could have lowered that multiple to 6.0x.  It certainly would have been a game-changer for CSU, as Hearthstone’s operations were expected to increase CSU’s revenues by 54%, EBITDAR by 74% and resident capacity by 40%, not to mention its assisted living business would grow from 22% of resident capacity to 45%.  The impact on the new buyer, Kentucky-based Senior Care, Inc., will be less dramatic.

Getting back to the present, Senior Care will be acquiring the operations of the 32 communities with 2,189 units directly from Hearthstone and will operate them under its “Elmcroft” brand.  Senior Care will then enter into a new15-year lease with Ventas, with two five-year renewal options...Want to read more? Click here for a free trial to The SeniorCare Investor and download the current issue today