At the inception of our newsletter in 2012 we had a series of articles labelled ‘from the analyst’s desk’ which covered common financial questions that we were often asked when speaking with operators. Given that more than 6 years have passed, we thought you might find an updated version of some of these articles interesting.
How an Aged Care Facility is valued
The assessment of an Aged Care Facility is a complex undertaking with many different variables involved. These include financial metrics such as revenue streams, expenses and bond liabilities and also, the underlying assets, being the land (freehold) Buildings and bed licences. In the majority of cases the two most crucial components are the business component and the bond/ RAD component.
The Business (& Freehold) Component
Each facility is unique and a general template can rarely be applied. With going-concern facilities, it is common to focus on the underlying financials to establish a potential sale price or ‘market value’ of the same. Being a cashflow producing enterprise in most cases, this ‘going-concern value’ exceeds the value of the sum of all underlying assets (after the deduction of all underlying liabilities) commonly referred to as the ‘bust-up value’.
Firstly, in a going-concern assessment, it is important to establish the cashflow that the facility generates. This is the operational profit, i.e. the remainder of all operational revenue after the deduction of all operational expenses. In order to be able to benchmark the same against other facilities in the market, this figure is described as EBITDA (Earnings Before Interest, Tax, Depreciation and Amortisation). If the facility is a leasehold, this figure might be described as EBITDAR, which allows for the deduction of Rent.
The EBITDA of a facility is calculated on an annual basis from the profit and loss statement of a facility. It is then often expressed as a per bed figure so that it can be easily benchmarked and compared. A common example would be “Facility X had an EBITDA of $15,000 per bed for the financial year of 2017-18”.
In order to calculate the market value, it is necessary to capitalise this number. The EBITDA is now projected out for the years that the facility is expected to be in operation. This can be done by applying a ‘discounted cash flow model’ (DCF). Alternatively, in a simplified version, the annual EBITDA can be capitalised by dividing it by a capitalisation rate (cap rate) which represents the appropriate rate of return for the facility incorporating all current and future risks and opportunities associated with the operation as well as market consensus. Some people prefer to use a multiple, which is simply the inverse of the cap rate.
Below is an example to illustrate this:
EBITDA – $15,000 per bed CAP RATE – 14 % MULTIPLE – 100 ÷ 14 = 7.14
Applying the cap rate: $15,000 per bed ÷ 14% = $107,000 per bed
Applying the multiple: $15,000 per bed x 7.14 = $107,000 per bed
Simply, the cashflow producing component of Facility X is worth $107,000 per bed.
While multiples and cap rates are very easy to use, they need to accurately reflect the current state of the facility as well as all its associated risks and opportunities and most importantly, the current market consensus or appetite for this type of asset. This is where experience and a detailed database of similar transactions is crucial in determining value.
In the case of a leasehold business, which does not contain the freehold component, the cap rate (or multiple) to be applied is larger (smaller) by comparison. Using our example above, if Facility X was instead a leasehold business the respective cap rate (multiple) might be 25% (a multiple of 4).
What if the facility is not performing in line with best practice benchmarks?
Obviously, the above methodology applies if all facilities operate under the same circumstances. This is not the case in the real world however. Some facilities may have only recently been opened and are still in trade-up. Other facilities may just have gone through a management change or emerged from sanctions and operate at break-even or even an operational loss. Applying a loss-making facility to the above methodology would generate a negative value for the business component, which clearly cannot be the case.
It is therefore common valuation methodology to apply an industry or benchmark EBITDA that is common for a facility of that size and circumstance. Using our previous example, our Facility X while having an actual EBITDA of $15,000 per bed per annum may have a benchmark EBITDA of $18,000 per bed per annum applied to it, as it is particularly large (plus 120 beds) and therefore provides superior economies of scale.
Using the benchmark EBITDA, the business component’s value would therefore be calculated as:
Facility X: $18,000 annual benchmark EBITDA per bed divided by 14% = $129,000 per bed.
This results in $22,000/bed more value than when using our previous example with the actual EBITDA, where the resulting business value was only $107,000/per bed.
This difference of $22,000 per bed must now be adjusted for. After all, a facility that is ‘underperforming’ cannot be worth the same as a facility that is performing at benchmark levels. Equally a facility outperforming the same has to be worth more. The appropriate adjustment is done with a trade-up adjustment where the difference is anticipated to slowly diminish over time as the facility operates under new management and adjusts its profitability in line with the benchmark figure. Often this is done over a 18-36 month period, using the annual difference in EBITDA and discounting the same down to the current day.
Using the above methodology properly should give an accurate picture of what the business component of a facility is worth in the current market.
Taking our above example with 120 beds and assuming a total trade up adjustment of $5,000 per bed (simplified), the business component of our facility would be worth:
Facility X: $124,000 per bed ($129,000 – $5,000 trade up adjustment) times 120 beds
= $14.9 Mil net of bonds which equals $124,000 per bed net of bonds
And the bonds…
Aged Care Facility Values are usually stated as a gross value including the current total bond liability payable to the residents. Whilst the bonds are a liability of the business, providing there is uplift in the bond pool, the current resident liability would be transferred in a transaction and the total refundable bond balance is added on top of the purchase price. If our facility X had an assessed ‘added value’ bond balance of say $30 Mil the total gross purchase price would therefore be stated as the following:
$14.9 Mil for the Business Components
$30 Mil total refundable bond balance
$44.9 Mil Total Value being $374,000 per bed
When talking to valuers or other industry participants the two most commonly used values are the total Gross Price ($44.9Mil) and the Per Bed Value net of bonds($124,000) as this can be easily compared to other facilities.
Similar to the Assessment of the Business Component, the bond component may also have to reflect circumstances such as a future uplift in bonds. This could be due to the facility recently having been opened or extended and being in trade-up situation. In this case the actual refundable bond balance may be comparatively low but is anticipated to grow significantly in the near future as more bond paying residents are attracted. If this can be demonstrated to a potential purchaser, the facility is likely to attract an additional payment for the expected uplift in bonds less the associated business risk. As an example, this could be 25% of the expected uplift.
Equally the facility may be assessed as being fully bonded with a high risk of the current refundable bond balance decreasing over the near term. Examples for such a scenario could be a recent change in legislation or simply a new competing facility opening within the catchment area. In such a case the purchaser, who is responsible for the refunding of all bonds post settlement, may want a discount in the sale price. An example figure here could be 10% of the current refundable bond balance.
Please note that our examples above are a general examples only, as stated earlier each facility and its circumstances is unique and it is therefore unlikely that all the above variables are applicable to your circumstances.
So what proceeds would the vendor receive from a sale?
The following explanation details the proceeds generated by the sale of an Aged Care Facility and in what form they are received by the vendor.
Using our above example:
- Business and Freehold Sale of a facility with a total of 120 beds
- Total Price: $44.9 Mil
- Assessed Value of the Business & Freehold Component: $14.9 Mil
- Total Refundable Bond Balance: $30 Mil
- Estimated Staff Entitlements at the date of contract: $400,000
- The Vendor has no existing loans and the entire bond pool is held in a deposit account.
Firstly, the Vendor will receive a cash payment for the value of the Business component less staff entitlements and adjustments:
$14.9 Mil less $400,000 = $14.5 Mil
The common practice with solicitors acting on behalf of each party is, they agree to ‘Net off’ the Bond Balance. The effect of this is that at the settlement table the Purchaser will also take over the liability of the existing bond balance owed to the residents. This means that any existing bonds not used for debt reduction will be retained by the Vendor. In short: The Vendor retains the bond money in the above-mentioned bank deposit account. This includes any bonds received by the vendor before the date of settlement.
If, after settlement a bond paying resident leaves the facility (death or departure), the purchaser is responsible for refunding their bond deposit.
At settlement the vendor therefore collects the following proceeds (based on the above amounts):
- $14.5 Mil for the Freehold & Business Component (less the staff entitlements), plus
- $30 Mil which was the existing bond balance at settlement held in the vendor’s bank account.
- TOTAL Proceeds from the transaction: $44.5Mil
All of these figures are of course estimates, in pre-tax dollars and therefore may be subject to capital gains tax and other duties.
Best Wishes from the Team at AMICUM
PS: We have Approved Places available in TAS, NSW, QLD and SA. Please contact us if you are looking to acquire some.