The SeniorCare Investor: Occupancy Bottom Nearing--

After a Mixed Quarter, Providers See Occupancy Uptick

Just as it looked like the seniors housing stock market was going to fall into an even larger hole, some positive news resulted in the best monthly performance for the sector this year, if not ever. In addition, most skilled nursing stocks received a nice boost in values, largely as a result of favorable news on Medicare rates going forward. But it was the assisted and independent living stocks that had been pummeled for most of the year which had the real turnaround last month. Stock values increased from 12% to 45%, with the exception of Five Star Quality Care (NYSE: FVE), which is still struggling to convince investors that its model will work and that it is not a captive of Senior Housing Properties Trust (NYSE: SNH), which is its primary landlord and financial benefactor for transactions.

So what was the news that sent stock prices up by double-digits last month? Perhaps the best news for the industry came from Brookdale Senior Living (NYSE: BKD), the largest company as measured by both stock market capitalization and units under management. Fears had been growing earlier in the summer that occupancy trends were not so favorable at the company, and they had been hit hard in previous quarters by declines in entrance fees at its large CCRCs. These concerns sent its stock price down 23% in June and another 25% in July to levels that just seemed absurd, even in a difficult market.

The bad news from Brookdale was that average occupancy in the second quarter declined 110 basis points from the first quarter, and 180 basis points from the second quarter of 2007. The quarterly sequential drop this year is quite large, and this must be what investors had been focusing on earlier in the summer, with perhaps some whispers out there in the market. But this was completely overshadowed by the news in the second quarter earnings release that occupancy had actually bottomed out in May, turning positive in both June and July, increasing by almost 100 basis points in total in those two months. Management expects this trend to continue in August as well. On top of this positive development, Brookdale reported that its net entrance fee cash flow nearly tripled in the second quarter, having closed on the highest number of sales in six quarters. In addition, revenues per occupied unit increased by a healthy 6.4% year-over-year. Relieved investors sent Brookdale’s shares up by almost 45% in August, perhaps the largest one-month jump we have ever seen in the industry.

Emeritus Senior Living (AMEX: ESC) also had some good news to report on the occupancy front. At the end of the first quarter, occupancy stood at 87.9% and declined by just 10 basis points by the end of the second quarter to 87.8%, while monthly revenue per unit increased by 5.4%. Normally, one wouldn’t get too excited about a 10 basis-point sequential decline in occupancy, but these are unusual times and investors have been assuming the worst for the industry given there has been no let-up in the housing market crisis. The company is still reporting a large quarterly GAAP loss, but the cash flow for the second quarter after interest expense increased by 30% to $8.2 million, which is certainly the right direction to go. Investors have been happy, sending the shares up by more than 30% in August after a 15% rise in July.

Even Assisted Living Concepts (NYSE: ALC), which has been intentionally dropping its occupancy as it sheds low- margin Medicaid units and tries to convert them to private pay, may be seeing light at the end of the tunnel. Even though private pay occupancy continued to decline in the second quarter, it was just a 3% drop sequentially from the previous quarter, while Medicaid occupied units are down to just 763 units compared with 1,444 a year ago. The big news, however, is that with private pay move-outs slowing, private pay occupancy started to increase in July after several months of increasing private pay move-ins. Investors are paying attention, and ALC’s stock price jumped by more than 23% in August and is up 40% since hitting its low of $5.05 per share in July.

Sunrise Senior Living (NYSE: SRZ) is back over $20.00 per share and up 13% in August, making back most of the loss in July. The company is also one step closer to becoming a "current filer," having recently submitted its first quarter 10-Q to the SEC. The company disclosed that HCP, Inc. terminated the management contracts on 11 properties. The annual management fee revenue for these contracts was approximately $7.2 million. We don’t know why they were terminated, especially since we understand that HCP has been relatively happy with Sunrise in other portfolios, but there obviously was a reason.

In the skilled nursing sector, Ensign Group (NASDAQ: ENSG) has recovered nicely after being hammered by investors in the first two months of the year, sending the share price down by 40% by the end of February. The company now seems to be operating on all four cylinders, with occupancy up 80 basis points over the year-ago quarter, while EBITDAR and EBITDA jumped by 9.2% and 14.3%, respectively, from the second quarter of 2007. This performance caused management to raise its revenue and earnings per share guidance a bit higher for the full year 2008. How did investors respond? The stock price soared 39% in August.

Kindred Healthcare (NYSE: KND), Skilled Healthcare (NYSE: SKH) and Sun Healthcare (NASDAQ: SUNH) all posted double-digit gains in August as well, all helped by the Medicare reimbursement outlook. The major exception was Advocat (NASDAQ: AVCA), which reported that it was having some Medicare census issues with its newly acquired Texas nursing facilities, and overall census dropped by 90 basis points from a year ago, while costs were higher than they should have been given the census numbers. Cash flow from operations declined, and when using a normalized professional liability expense for the second quarter of 2007, the EBITDAR margin dropped by almost 200 basis points.

Management has been under pressure from a few investor groups for over a year ever since the share price started to fall from a peak of $21.03 per share. These investors obviously want to boost shareholder value, either with a sale of the company or some changes in management or the board. They also believe that the cost structure of the company could support a much larger number of skilled nursing facilities under management. The acquisition in Texas was supposed to help the company’s growth, and while the company is currently hitting some bumps in the road with regard to key staff at some of the Texas properties, it is still too early to determine how successful they will be in turning them around. The new Medicare rates will certainly help. Investors, however, are not happy, and they sent the shares down by more than 30% for the month of August.

Occupancy has been the focus for assisted and independent living providers, but it looks like that is on the verge of turning around for the industry, while Medicare reimbursement for skilled nursing operators has been the focus of attention. But the focus for both sectors will change next year if the Democrats take the White House and increase their hold on the House and Senate. If that happens, there may be a labor tsunami that the industry has never seen before, with major support from our elected officials who will owe Big Labor big time for the election results. Our guess is that 6% rate increases will be needed just to cover higher labor costs in seniors housing. Isn’t that a cheery thought.