After re-reading the annual reports from 2013 to the present, and the governmental reports on LTC demand, the picture becomes clearer for this company.  This has been a rocky several years for shareholders, and not surprising that institutional support has flagged.   However, I am bullish for the post-Covid future, especially post this RETIREMENT transaction.

Looking into the past several years, the diversification strategy has been more miss than hit.  They sold their very large US business (unsteady performer and was being fined by the US govt) in 2014 for 8.8x trailing EBITDA and 6.7x NOI, a price deemed disappointing by the market at the time.  Management took leverage down with the proceeds and elected to start investing in Canada, primarily Retirement Living and Home Health Care.  In the next few years, this strategy looked to be working, as AFFO improved, as did margins, primarily through Home Health Care (HHC), which saw a big increase in hours.  Due to labour cost increases, however, the picture started to change for HHC in 2018/2019.

LTC margins from 2013-2019 oscillated between 11.5-12.4%, a fairly steady business until Covid struck in 2020. 

Home Health Care, however, was unable to fully recover rising labour costs, and relied on legacy IT systems (which led them to turn away business), with margins falling from a high of 12.8% in 2014 to 7.4% by 2019.  Disastrous and an indictment of the previous management regime and lack of proper planning.  This was exacerbated by the loss of a large contract with the province of British Columbia.   With new management, HHC committed to an overhaul of its IT system, spending $12 million on a cloud system and promising improvements by the end of 2019.   Before the payback could be realized, COVID hit, impacting volumes as worried customers rightfully fretted about having caregivers in their home. 

Long-term debt, having hit a low of $454 million in 2015 (post US sale), steadily climbed to reach $565 million by 2020, but considering Covid and spending on Retirement and Home Health, the capital structure has remained in reasonable shape, helped clearly by the CDN govt aid programs during Covid in 2020/2021. 

The Retirement strategy under the ESPRIT brand has never seemed to really thrive, and the recently announced sale is both opportunistic and favourable to shareholders. 

Viewing the executive bios, the CEO and CFO joined in 2018 and 2019, respectively, while a large number of the executives are relatively new to the company (post 2019), so this is a company which has seen the board and executive suite changed considerably (quite rightfully I would surmise).  Moreover, it has difficult to really judge their performance fairly, as COVID has totally altered the landscape since March 2020. 

So getting back to the present, we have another seminal moment for the company with the lucrative sale of RETIREMENT.   In 2014, the market was disappointed by the lack of a special dividend or large buyback, as well as the price achieved for the sale.  The company then went on a bit of a spending spree to bolster Home Health and Retirement, which ultimately had mixed results (especially the former).  We now find EXE in a situation where it is considerably underlevered and while it will lose the NOI from Retirement, this will be over 60% offset by the interest cost savings from repaying the debt, and there should also be below the line savings from running a smaller organization.   In other words, the dividend should be safe, despite the loss of NOI.  Does this new team, given that they likely can’t do what should be done (buyback 15% of the company ASAP), elect to spend aggressively in the near-term to augment the loss of RETIREMENT?   I hope not, and there is reason to believe they won’t.  Why?  Because the opportunity set is so considerable within LTC and Home Health in the next several years and focusing on ensuring that the org structures, technology and best practices in the near-term is paramount IMO.  Refining the existing business and bolting on acquisitions/projects that are accretive is what I would like to see.

In Home Health, as the pandemic recedes, we are already seeing progress.  ADV (average daily volumes) returned to pre-pandemic (Q4/19) levels in Q2/21 and exceeded them in Q3/21, due to both the easing of the pandemic and the benefits from the aforementioned efficiencies associated with the IT infrastructure.   Omicron surge may knock that back a bit in Q4/21 and Q1/22, but this appears to be very temporary  In addition, the governments of Ontario and Alberta have increased home health care rates by 1.9% and 1%, respectively, and this is retroactive to Q1/21, with the benefit to be recorded in Q4/21 financial results.  The 2022 positive revenue impact to ParaMed is expected to be $6-7 million.  Margins from 2016-2018 oscillated between 8.8% and 10.1% while from 2013-2015 11.2% and 12.8%.  Getting back to 10% NOI margin on a $400 million revenue run rate would be $40 million for HHC. 

Now turning to LTC, the picture over the next decade looks very good.  I’ve included a link to the briefing from the Ontario government on LTC funding and needs.   Just based on what has been announced by the government, EXE LTC revenue will be bumped by $40-45 million in 2022.   The Ministry of Health has announced that spending will increase from $4.4 billion in 2019/20 to $8.4 billion by 2024/2025 and $10.6 billion by 2029/2030. 

The number of beds will increase from 78,017 to 92,202 to 108,017 in that same time frame.   This may not even be enough, since beds per 1,000 Ontarians aged 75 and over, continues to fall, even with the new beds, reaching 66 by 2029/30, versus 72 in 2019/20 and over 90 back in 2008/09.  Better put, the number of +75 year old Ontarians from 2018/19 to 2029/30 will increase by 52% while the number of LTC beds (under the govt spending plan) will only increase by 38%. 

The big ramp in new/redeveloped beds happens in 2023/24 to 2025/26.  In addition, daily direct care to LTC residents goes from 2.75 hrs/day to 4 hours/day by 2024/25. 

Currently, EXE has 704 new LTC beds under development, which they expect to drive a 7.8% NOI yield.

The other perk to building LTC facilities involves Construction Funding Subsidies, which was recently bumped by the Ontario govt by 41%, due to costs in procuring land and building, which had created a disincentive to adding greenfield capacity. 

Lastly, it is my belief that private capital will flow towards LTC opportunities, given the clear secular picture and the attractive valuations.  Covid pushed back the delivery of more needed beds, a situation made worse by the pearl-clutching politicians calling for complete overhaul of the LTC sector (which won’t happen).   This created a disincentive to allocate more private capital into the sector.   COVID targeted primarily the sick and elderly, which led to a disproportionate impact on LTC patients.   This dynamic was largely unavoidable , unfortunately, when one views this thru a global lens. 

With Covid finally behind Extendicare hopefully in a few months, targeting LTC NOI margins regaining 11.5% should be a goal, which suggest NOI run rate of $85 million perhaps in late 2022/early 2023. 

The OTHER operations consistently generates $10-15 million in NOI.

Perhaps pie-in-the-sky, but this puts out $135-$140 million in NOI.   From 2017 to 2019, AFFO equalled 43.2%, 40% and 43% of NOI.  With interest costs falling due to debt repayment, this ratio should be at least comparable, if not higher in run rate late 2022.  This would mean AFFO of $63 million (45% of $140 million ) at the high-end, and a payout ratio of 63%.

The NET DEBT of this company post transaction is  only $139 million and the market cap of $680 million means TOTAL EV of just $819 million.   If the numbers posted above are even in the ball park (or the market believes they are achievable), and this management team illustrates that they are savvy in the deployment of capital with targeted precision and clear return metrics, then a share price north of $9-10 is not unreasonable.   Other possibilities include a special dividend or dutch auction at some point in the future, if management doesn’t find projects with high enough return metrics relative to cost of capital.  

This is a marathon not a sprint, and EXE could set itself up for several years of good performance, aided by strong secular trends in LTC and the aging population demographics in Canada.  I hope they do.

Good luck…  
 
Ontario govt LTC spending projections:
https://www.fao-on.org/web/default/files/publications/FA2101-2%20LTC%20Estimates/LTC%20Spending%20Plan%20Review%20Presentation-EN.pdf