Investing in Skilled Nursing – The Basics

I just finished a two-day non-deal roadshow.  Princeton, Philly, and Boston.  Now headed south for a property tour of a couple buildings we have under contract.  As usual, the insititional investors we met with were impressive.  Everyone has their investment “box” that they’re trying to see if we fit in.  This trip, we spent a fair amount of time educating analysts and portfolio managers on the some of the fundamentals of the skilled nursing business.  That got me thinking it would be helpful to provide a high-level intro to the business for investors wanting to get up to speed on the basics.

20 Years of History in 175 words

Skilled nursing facilities exist to provide 2 types of healthcare:

  1. Custodial” (worst term ever), long-term care for “residents” who live in the facility and
  2. Short-term rehabilitative care for patients who are transitioning from hospital to home.

Historically (20 years ago), a “nursing home” or skilled nursing facility (SNF) was where grandma went to live the rest of her life if she needed more assistance with activities of daily living (ADL) than she could get living alone or with family.  For the last 20 years there has been a massive shift in the purpose of SNFs.  With every passing year, they have focused more on caring for higher acuity (clinically complex), short-term rehab patients.  The patients in the SNFs’ rehab units today were treated in acute hospitals 20-30 years ago.

Hospitals and health plans (HMOs) are incentivized to lower the cost of healthcare by reducing the time of inpatient care, thus hospitals have been pushing higher and higher acuity patients out faster and the stronger SNF operators have equipped themselves to meet that demand.

Who Are You?

To understand why SNFs have been willing to adapt to meet the demand of sicker, more clinically complex post acute care (PAC) patients, let’s take a look at the universe of possible patients a SNF cares for …

Medicaid is healthcare for the poor.  In a SNF, Medicaid pays room & board and medications for long-term residents.  Generally speaking, these are NOT the “patients” in the facilty receiving physical therapy (PT), occupational therapy (OT), or Speech therapy (ST).  Rather, they live there.  It’s their home.  Medicaid reimbursement varies by state.  Some pay a fixed rate.  Others pay based on a case mix index (CMI).  The CMI states recognize that the amount and cost of care for all Medicaid residents is not equal.  The more assistance a resident requires, the higher the CMI, and therefore, the higher the reimbursement.  Medicaid reimbursement is the lowest of any type within a SNF.

Medicare is healthcare for seniors (65+).  In a SNF, Medicare pays for short-term rehab for patients who had to be in the hospital for at least 3 nights.  These patients are usually receiving “Skilled Services” from therapists (PT, OT, ST), and/or from nurses (IVs, tracheotomy care, wound care).  The length of stay (LOS) could be anywhere from less than a week to 100 days (Medicare covers 100 days of a SNF stay) depending on the the patient’s needs and prognosis for improvement.

Managed Care or HMO, like Medicare, pays for the same short-term rehab skilled services.  These patients are Medicare eligible people who have signed over their Medicare benefits for a Medicare-replacement type of insurance product offered by health plans like Aetna, Kaiser, etc.  The reimubursement is lower than Medicare (though in some cases the HMO rates pegs to Medicare rates).  And, because it’s “managed” care, case managers at the HMO push on SNFs to care for these patients faster.  HMOs make more money if the length of stay is shorter since inpatient care costs more than care provided in the home (home health, HH).

There are also Private Pay residents.  Expect this to be a shrinking piece of the census pie as assisted living facilities have continue to adapt to provide more assistance today than 20 years ago as well.

The Numbers

Now, let’s take a look at a hypothetical facility through financial eyes.

Let’s call it Dave’s Rockin’ Rehab Facility (anything other than Dave’s Gardens, Village, or Manor, please!). The vital statistics are these:

  • 100 bed facility with the following mix of residents and patients
    • 50 Medicaid residents
    • 20 Medicare patients
    • 10 HMO patients

Now, let’s do some simple math.

50 Medicaid residents x $180/day x 365 days/year = $3,285,000

20 Medicare patients x $525/day x 365 days/year = $3,832,500

10 HMO patients x $420/day x 365 dats/ year = $1,533,000

Total Annual Revenue: $8,650,000

What does is take to run Dave’s Rockin’ Rehab?

Labor is, by far, the biggest expense.

  • Nursing (Registered Nurses, Licensed Vocational Nurses, Certified Nurses Aides)
  • Rehabilitation (PT, OT, ST)
  • Dietary (Cooks, Dietary Aides)
  • Housekeeping (Housekeepers, Janitors)
  • Laundry (Laundry workers)
  • Maintenance (Manager, assistants)
  • Social Services (Social Workers)
  • Activities (Activities Director, assistants)
  • Business Office (Biller, Accounting)
  • Human Resources (HR/Payroll rep)
  • Marketing/Admissions (Admissions coordinator, external marketer)
  • Medical Records (dept. head)

Other primary expenses include:

  • Medications
  • Food
  • Medical Supplies
  • Paper & Plastics
  • Insurance
  • Chemicals
  • Linens
  • Electronic medical record system
  • Marketing
  • Oxygen
  • Labs
  • X-Rays

Let’s put it down on a simplified P&L:

Revenue  

Medicaid       3,285,000

Medicare       3,832,500

HMO              1,533,000

Total               8,650,000

Operating Expenses

Labor             6,000,000

Supplies         700,000

Ancillary        500,000

Food               200,000

Other              200,000

Total               7,600,000

EBITDAR:     1,050,000

EBITDAR%: 12%

Rent:                 750,000

EBITDA:          300,000

So, we see the financial levers are

  • Census (overall occupancy)
  • Skilled mix (percent of patients on “skilled services” aka short-term rehab patients aka Medicare + HMO divided by total census)
  • Daily rates (Medicare RUGs/ADLs — we’ll cover this another time; private pay — again, a shrinking % of the SNF census and so less of a lever than in assisted/independent living/memory care)
  • Labor — staffing efficiently
  • Medication management
  • Expense controls for purchasing

Investors New to Skilled Nursing

Needless to say, there’s a lot that goes into efficiently operating a high skilled mix, profitable facility. This isn’t your grandma’s nursing home.  Or Buick.  And, there’s a huge difference between the blue-chip operators like The Ensign Group and folks still clinging to maintain the status quo from 20 years ago.  I frequently see small owner/operators deciding to sell their facilities because they realize they haven’t kept up with the constant changes and it’s too late (or they’re too tired) to re-tool.

  • There are over 15,000 skilled nursing facilities in the country.
  • Somewhere around 25% of those are owned by large chains.
  • And, somewhere around only 20% are owned by REITs.

It’s a very fragmented industry that has been under pressures to provide better, faster, and cheaper care to sicker and sicker patients.  That trend has been accelerating over the last couple years with bundled payments (I’ll write about that soon).  The only thing that hasn’t changed is that the operators (of all sizes) who are sophisticated, engaged, and committed to quality care are able to adapt to the changes and win and those operators (of all sizes) who don’t adapt, lose.

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2 thoughts on “Investing in Skilled Nursing – The Basics

  1. Great article Dave. As a newcomer to the SNF industry I’m constantly looking for ways to gain more industry knowledge.

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