08/19/22 07:10 AM EDT

REITS DAILY BRIEF | PROSPECT STILL HOLDING THE CROZER BAG | 8.19.22 (MPW)

Rob Simone, CFA

Takeaway: ChristianaCare backs out of deal to buy Crozer Health from Prospect

Hedgeye Cartoon of the Day: Send Help!!!

It is 8.19.22, and Active Short MPW is overvalued by approximately ~$16.03/share. The stock clearly has a price, but unfortunately has no value.

Tickers: MPW

Company Name: Active Short Medical Properties Trust, Inc.

Subsector: Healthcare / NNN Hospitals (just MPW standing alone)

Headline: ChristianaCare punts on Crozer, Prospect still holding the bag

Yesterday ChristianaCare and Prospect Medical Holdings jointly announced that the parties were backing out of the process by which Christiana would acquire distressed Crozer Health, which is owned by also distressed Prospect (a 8-9% tenant to MPW).
Delaware-based Christiana had signed an LOI back in February 2022 to acquire the four-hospital system from Prospect at an undisclosed price.

The four hospitals are Crozer-Chester Medical Center, Delaware County Memorial Hospital, Taylor Hospital and Springfield Hospital, all of which are owned by MPW and leased back to Prospect.

Some highlights:

The parties noted that the economic landscape has changed significantly since the signing of the LOI. Sounds great! And totally consistent with MPW's commentary!
Crozer discussed the potential with its employees of reverting back to non-profit status, which is rare for hospital systems, by creating a new entity and having Prospect spin off Crozer into it.
Borrowing money in the municipal bond market to fund operations would likely not be easy as a non-profit, as Crozer does not own its real estate.
MPW would need to approve the assignment of its lease to a non-profit.
Prospect appears trapped and likely at or approaching insolvency.

As a reminder, Prospect originally acquired Crozer in 2016 in a transaction valued at ~$300 million, where the former Crozer-Keystone Health System was converted to for-profit status. MPW then acquired all of the Prospect real estate in 2019 in a ~$1.55 billion sale-leaseback deal, which essentially refinanced Prospect's existing debt load 1-for-1 and saddled Prospect with what we regard as an unsustainable rent burden. The system had been controlled at that time by Leonard Green Partners. The Crozer real estate assets in this deal were valued up to ~$400 million (versus the prior ~$300 million for both the OpCo + real estate), and Crozer began paying ~$30-35 million in annual rent to MPW. Prospect's reported coverages (excluding the PA and CT hospitals which are the worst in the system) have since continued to deteriorate materially. It is highly unlikely that any buyer would be willing to assume these above-market rent obligations.
Prospect appears very likely to be heading for a restructuring, either forced or voluntary, which would likely result in a rent cut to MPW. The values of MPW's original ~$113 million loan to fund the buyout of Leonard Green + the now $150 million mortgage are also in question.
As a reminder MPW just lent an additional ~$100 million in May 2022 in two tranches to Prospect against a CA hospital which had an existing mortgage loan. That hospital is now levered just under ~$1 million per bed, which is just crazy. MPW did not explicitly disclose this very material transaction anywhere in its 2Q22 earnings materials, in our opinion deliberately deceived analysts and investors on the earnings call about the need to lend to and bridge Prospect, and then disclosed the additional ~$100 million in a footnote to the 10-Q a week later. This came on top of the ~$150 million loan facility extended to Steward, which was only mentioned on the call. We estimate that ~6% of MPW's assets are now in the form of equity investments + loans to 3 of its 5 top tenants. We suppose it really should not be surprising at this point.
This sequence of events fits a similar pattern with Steward and MPW's model broadly - (1) hospital operator originally acquires hospital real estate under PE-backed ownership, (2) struggling / debt-laden operator later sells real estate to MPW at a marked-up price with an unsustainable rent burden (aka, a form of financing to a distressed operator), (3) in the process MPW helps finance the sponsor's exit, (4) MPW, itself now levered and structured to be dependent on that rent, begins investing directly into the operator via equity stakes and loans, (5) operator financial distress deepens, and (6) MPW becomes dependent on external equity and debt financing to keep these circular relationships going, otherwise a rent + dividend cut would be inevitable.
And here we are, with both Prospect and Steward (and by extension MPW) very likely at or near the end of road. If you do not or cannot short it outright, please don't get caught holding the MPW bag.