10/03/22 04:18 PM EDT

THE (DIS)TRUST SERIES | VOLUME X | TAKEAWAYS FROM INITIAL PIPELINE FILINGS | (MPW)

Rob Simone, CFA

Takeaway: We reviewed first day motions for Pipeline's Chapter 11

Hedgeye Cartoon of the Day: The Immortal Pinocchio

It is 10.3.22, and Active Short MPW is overvalued by approximately ~$11.53/share.

Ticker: MPW

Company: Active Short Medical Properties (Dis)Trust

Subsector: NNN Hospitals

Headline: Follow-up thoughts on Pipeline Health BK filing (~1% of MPW assets)

First off, a little background on MPW's involvement w/ Pipeline. MPW paid ~$215 million in July 2021 for the California assets, or more than ~2x the prior sale price pre-COVID in 4Q19. One year later the system filed for bankruptcy protection.
Steven Hamner, CFO: "Pipeline Health has developed a strategy and operational abilities over the last several years that can operate and has operated these hospitals very, very profitably. So, we think the downside to these types of investment is very, very limited because there are operators, including Pipeline and others, who can and have operated very profitably, very high margins and coverages for us and the community truly cannot do without these hospitals." - 2Q21 earnings call, 7.29.21
While the primary use of funds from MPW's purchase was debt repayment, Pipeline is entering BK with prepetition obligations of $603.85 million including $357.33 million of funded debt. We have questions:

In general, what is MPW doing here? Did they even look at the corporate credit?
How much of the MPW SLB proceeds were actually used to reduce debt, given that current funded debt is ~1.5x as large?
Did they actually fund into a situation where there was ~$500 million or more of debt obligations, against an in-place EBITDAR loss?

As expected Pipeline had been trying to sell the massively money-losing Chicago hospitals (not owned by MPW) which were effectively being subsidized by the rest of the system. Pipeline negotiated a sale of these assets to Ramco, who in turn was planning to lease the assets to Resilience Health. Pipeline and Ramco entered into a purchase agreement on 7.19.22, whereby Ramco agreed to purchase the real estate for ~$92 million with a closing scheduled for 8.30.22. In the weeks that followed, Ramco indicated that they were not able to close by the deadline and the agreement was terminated on 8.30.22. Since then Pipeline's financial position has continued to worsen, it drew down on its term loans while exploring other financing options with advisors, and ultimately filed for protection.
TTM Financials for Pipeline as of the end of August 2022:

Revenue: ~$684 million
Total EBITDAR: (~$77 million)
Labor expenses of ~$420 million represented ~55% of opex
CA EBITDAR (MPW assets): ~$2.64 million prior to accounting for corporate overhead
This begs the question, what does "operated very profitably" mean? While we do not know the rent for sure, if we assume a ~6% lease rate on the ~$215 million investment, that would equate to annual rent of ~$13 million. There is literally no way these hospitals were profitable or generating positive coverages. Management MUST explain these statements. Feel free to forward this note to anyone on the sell-side with access to management.

Interesting common thread: Deerfield PH Holdings IV, LP owns ~36.2% of Pipeline's equity. Deerfield was the lender/owner of Adeptus, which long-time MPW followers will be very familiar with. Deerfield was also the sponsor of CMAX, which is in the process of buying Steward's VBC business and highest-quality receivables. Small world!
After all of this, MPW is still trading at an implied ~7.8% net effective cash cap rate! Not nearly enough "juice" to compensate investors for the massive and growing tenant credit risk. We think somewhere around ~30-35% of MPW's cash EBITDA is currently at risk of being "zeroed out" from rent cuts among its most problematic tenants (Steward, Prospect, Springstone/LifePoint, Pipeline, Priory, etc.).
We think creditors will likely pursue a rent reduction in these proceedings, with the alternative outcome potentially being a closing of the system. We would encourage MPW to do whatever it can to help keep the system open for the benefit of the doctors, nurses, staff and the community.