Description

Regional Health Properties Preferred shares offer investors the opportunity to buy a basket of real estate assets at a heavily discounted price.  The opportunity exists for a number of reasons and is not without risk.  Almost nothing has gone right for this Company in recent years.

Reasons this Preferred trades at a 50% discount to par

- Liquidity

- Uncovered situation

- Significant management turnover (CEO ousted, CFO recently resigned)

- Board turnover

- Recent name change from AdCare caused confusion (and from what we understand, the shares were not even quoting properly on some large retail platforms)

- Lack of communication from the company since the new CEO's departure

- Collapse in the common equity price

- Lack of clarity on lawsuit exposures (will get to this later)

- Potential for a dividend suspension (will get to this later)

If you are still reading this despite the risks listed above, Regional owns, leases and or manages a hodge-podge of real estate assets purposed for long-term care and senior living.  In a prior life, the Company also operated these assets before deciding to become (mainly) a landlord.

The Company was incorporated in Ohio on August 14, 1991, under the name Passport Retirement, Inc. In 1995, the Company acquired substantially all of the assets and liabilities of AdCare Health Systems, Inc. and changed its name to AdCare Health Systems, Inc. AdCare completed its initial public offering in November 2006. Initially based in Ohio, the Company expanded its portfolio through a series of strategic acquisitions to include properties in a number of other states, primarily in the Southeast. In 2012, the Company relocated its executive offices and accounting operations to Georgia, and AdCare changed its state of incorporation from Ohio to Georgia on December 12, 2013.

Capital Structure

19.7m common shares @ 40c per share = $8m market cap

2.81m Preferred shares @ $25 par = $70m face ($35m at market)

HUD debt $34m
USDA debt $20.6
SBA debt $2.2
Senior bonds $7.0
Other mortgages $9.6
Other $1.2
Converts $1.5
Total: $76.4
less unamort disct ($2m)
add current portion $4m
TOTAL DEBT: $74m

Enterprise Value at face: $152m

Enterprise Value at market: $117m

Debt + Pref at face: $144m

Debt + Pref at mkt: $109m

Some details on the Series A Preferred Stock (Par $25.00 10.875% cumulative, quarterly coupon, $2.72 per year, 21.7% current yield)

As of June 30, 2017, the Company had 2,811,535 shares of the Series A Preferred Stock issued and outstanding. On August 2, 2017, the Company terminated the Sales Agreement and discontinued sales under the ATM.

Holders of the Series A Preferred Stock generally have no voting rights but have limited voting rights under certain circumstances. The Company may not redeem the Series A Preferred Stock before December 1, 2017, except the Company is required to redeem the Series A Preferred Stock following a "Change of Control," as defined in the Company's Articles of Incorporation. On and after December 1, 2017, the Company may, at its option, redeem the Series A Preferred Stock, in whole or in part, by paying $25.00 per share, plus any accrued and unpaid dividends to the redemption date.

Name Change

In August of this year, the Board proposed that shareholders vote on a proposal to approve an agreement and plan of merger which reorganized the Company's corporate structure whereby Regional Health Properties, Inc., a Georgia corporation and a wholly owned subsidiary of AdCare recently formed for the purpose of the merger (“RHE”), would replace AdCare as the publicly held corporation through which our operations are conducted.

They cited a few reasons for the merger:

1. (Ability to classify their Preferred shares as equity)  To ensure the effective adoption of certain charter provisions restricting the ownership and transfer of our common stock.  Such ownership and transfer restrictions, among other things, permit the Company, under applicable accounting guidance, to classify the Company’s 10.875% Series A Cumulative Redeemable Preferred Shares as permanent equity on the Company’s consolidated balance sheet, which positioned the Company to regain compliance with the Continued Listing Standards.

2. (Better reflect business model) To provide the company with the opportunity to continue its business under a name that better reflects its new business model as a healthcare property holding and leasing company.

3. (Regain Compliance) Position the Company to regain compliance with certain NYSE MKT continued listing standards regarding stockholders’ equity.

4. (Option to pursue REIT status) If the board of directors determines for any future taxable year, after further consideration and evaluation, that qualifying for and electing status as a real estate investment trust (“REIT”) under the Internal Revenue Code of 1986, as amended (the “Code”), would be in the best interests of us and our shareholders, then the ownership and transfer restrictions will better position us to comply with certain of the U.S. federal income tax rules applicable to REITs under the Code to the extent such rules relate to the common stock. Similar ownership and transfer restrictions are commonly included in the charters of publicly-traded REITs because they are generally believed to be the most effective mechanism to monitor a REIT’s compliance with certain of the U.S. federal income tax rules that a REIT must satisfy in order to qualify as a REIT under the Code.

**AdCare completed a merger on September 29, 2017 with and into Regional, with Regional continuing as the surviving corporation, to ensure the effective adoption of certain charter provisions restricting the ownership and transfer of the Company’s common stock.**

Assets

As of June 30, 2017, Regional owned, leased, or managed 30 facilities, which are located primarily in the Southeast. Of the 30 facilities, the Company:

(i) leased 14 owned facilities and subleased 11 leased skilled nursing facilities to third-party tenants;

(ii) leased two owned assisted living facilities to third-party tenants; and

(iii) managed on behalf of third-party owners two skilled nursing facilities and one independent living facility

Key Dysfunctional Highlights

Without going through the long narrative, here are some of the key dysfunctional highlights that have happened here over the past few years.

NOV 2015 - Co declassifies Board after SEC files fraud charges against Board Member / Shareholder / Employee Chris Brogdon

Healthcare real estate investment company AdCare Health Systems has declassified its board of directors following a Dec. 10 annual meeting of shareholders.

“The decision to declassify the board is consistent with our commitment to sound corporate governance practices and is in the best interest of AdCare and its shareholders,” AdCare Chairman and CEO Bill McBride said in a press release. “The views of our shareholders are important to the board. Declassifying our board structure affords shareholders the opportunity to express their views on the performance of individual directors on an annual basis.” Several board members resigned this year, McBride said, and two new members joined: Tom Knaup and Allan Rimland.

With the board declassified, all of the company's directors will be elected each year to serve one-year terms. Previously, directors were elected to serve staggered, three-year terms.

The change comes on the heels of the Nov. 20 announcement that the U.S. Securities and Exchange Commission had filed fraud charges and frozen the assets of businessman Christopher F. Brogdon for allegedly misusing investor funds raised to purchase and renovate senior living facilities. Brogdon, who was the CEO, president and director of Global Healthcare REIT at the time of the charges, was vice chairman and chief acquisitions officer of AdCare from September 2009 to Oct. 13, 2015, according to the SEC complaint. AdCare says he holds more than 5% of the company's common stock.

“The Company is not a defendant in this action,” AdCare said in its press release. “The complaint, among other things, petitions for receivership of a number of properties listed in the complaint, three of which are owned (but not operated) by the Company. On December 10, 2015, the SEC submitted to the court a revised list of properties over which the SEC is seeking receivership. The revised list does not include any of the Company's properties, and the SEC is not seeking receivership of such properties,” the statement continues.

APR 2017 - CEO fired for lying on his resume - activist investor and Board Member Michael Fox led the charge

AdCare Health Systems fired its CEO and chairman of the board, William McBride III, on Monday after an internal investigation revealed that he had lied about his educational background, the self-managed healthcare real estate investment company said in a filing with the Securities and Exchange Commission.

Allan J. Rimland, the company's president and chief financial officer since April 2015, has replaced McBride as CEO of the Suwanee, GA-based owner of assisted living communities and skilled nursing facilities. Rimland also had been serving as AdCare's secretary since May 2015 and as a director of the company since October 2015.

When McBride was hired in 2014, according to AdCare, he said that he had earned an MBA degree from the University of California Los Angeles, and the company proceeded to include the information in an SEC filing, in a press release and on the company website. McBride does not possess the credential, AdCare said.

The termination of McBride's employment is the result of an investigation begun earlier this month by the company's board, which was assisted by independent legal counsel, AdCare said.

APR 2017 - Co names CFO to CEO position

Adcare announced that Allan J. Rimland, currently AdCare's President and Chief Financial Officer, has been named Chief Executive Officer effective April 17, 2017. The Board of Directors terminated Bill McBride's employment for cause on such date, as disclosed in a Current Report on Form 8-K filed on April 17, 2017.

"AdCare is moving forward with its growth strategy, and Allan is the right person to lead this effort," commented Michael Fox, AdCare's Lead Independent Director. "The Company continues its work to resolve legacy issues, and has made considerable progress against each of the stated initiatives the Board put in place to create sustainable shareholder value. The Board is encouraged by the operating improvements seen thus far in 2017, and looking forward to continued progress."

"This transition is the culmination of an internal investigation conducted by a special committee of the Board, which is also discussed in the Current Report on Form 8-K," added David Tenwick, AdCare's founder and former Chairman of the Board. "The Board is confident that Allan is the ideal person to provide the leadership necessary to move AdCare forward."

"We believe AdCare is well-positioned to continue to pursue attractive acquisitions, streamline our balance sheet and reduce operating costs," commented Mr. Rimland. "The steady improvements in the operating performance of our property portfolio demonstrate the progress we have made, and we expect additional improvements going forward. I am excited to lead AdCare and believe continued progress will lead to sustainable shareholder value."

MAY 2017 - Former Treasurer of MACYs joins the Board

Adcare today announced the appointment of Brian M. Szames as an independent director, effective May 1, 2017.

"Brian has a 30-plus year track record of proven results and effective financial management with increasing levels of responsibility for multiple, large global enterprises culminating with his position as Treasurer of Macy's, Inc." commented Allan J. Rimland, AdCare's President and Chief Executive Officer. "I have no doubt he will add a valuable perspective to our Board of Directors. We appreciate his willingness to serve and look forward to benefitting from his involvement and counsel."

Mr. Szames has been an officer and treasurer of three separate public companies, including 17 years with Macy's, Inc. (formerly known as Federated Department Stores, Inc.), one of the nation's premier retailers, serving as Group Vice President and Treasurer until his retirement in 2016. In that capacity, he managed multi-billion dollar debt and investment portfolios, and was responsible for the company's corporate finance activities, capital structure and business plan development, pension and savings plans, financial risk management, and cash management. Mr. Szames currently serves on the Board of Directors of a diversified value-add real estate fund and prior to Macy's, his previous roles included serving as Vice President & Treasurer at Fingerhut Companies, Inc. (acquired by  Federated in 1999), Vice President & Treasurer at Footstar, Inc. (spin-off from Melville) from 1996 to 1998, and Assistant Treasurer at Melville Corporation (now known as CVS) from 1992 to 1996. In 2009, he was recognized as one of the 100 Most Influential People in Finance by Treasury & Risk Management, a publication for finance, treasury and risk management professionals. Mr. Szames received a Bachelor of Science in finance from Ohio State University and an MBA from Temple University.

SEPT 2017

Merger / Name change happens -- shares trade erratically as pricing info and dividend history on pref goes "missing" from retail platforms

OCT 2017 - CFO Rimland abruptly resigns

Oct 15, Allan Rimland CEO, CFO of co informed of his decision to resign from all positions he holds with co.  On October 18, board appointed Brent Morrison to serve as company’s interim chief executive officer.

WHAT ARE THE ASSETS HERE?

It is very hard to put a yield or multiple on the rental revenues here since Regional only owns part of the portfolio.  The rest is leased or managed.  We will try to be conservative and break it out, assigning each piece its own multiple:

owned properties

Regional owns 16 properties that are generating $14-$14.5m in annual rent

cap rate: 8%

value: $180m

cap rate 9%

value: $158m

leased or "spread" properties
$2m net rent
worth 3x

value: $6m

managed properties

$300k net fee income after all salaries

value: $1m

Total Value:

$187m - $165m

We think that the $187m in value covers the Company's debt + the preferred at face ($187m > $144m, $165m > $144m).  One might say it even leaves something for the equity.

So why does the Pref and Common trade where it does?

In addition to the reasons listed above, we can think of a few more things.

Lawsuits

Back when the Company was an operator of these facilities, they were embroiled in a host of lawsuits that survived their business transformation to that of a landlord.  The good news is that the statute of limitations has run its course, ie no new cases can arise.  The bad news is there is still a host of outstanding suits.  We have discussed these suits with management and have heard anything from $1-$5m as the settlement number.  Here is the disclosure from the last 10-Q

The Company is a defendant in a total of 41 professional and general liability cases. The claims generally seek unspecified compensatory and punitive damages for former patients of the Company who were allegedly injured or died while patients of facilities operated by the Company due to professional negligence or understaffing. The Company established a self-insurance reserve for these professional and general liability claims, included within “Accrued expenses and other” in the Company’s unaudited consolidated balance sheets, of $6.1 million and $6.9 million at June 30, 2017, and December 31, 2016, respectively. The Company currently believes that most of the professional and general liability actions, and particularly many of the most recently filed actions, are defensible and intends to defend them through final judgment. Accordingly, the self-insurance reserve primarily reflects the Company's estimated legal costs of litigating the pending actions, which are expected to be paid over time as litigation continues. The duration of such legal proceedings could be greater than one year subsequent to the period ended June 30, 2017; however, management cannot reliably estimate the exact timing of payments.

Cash Flow as a going concern

We realize that it is purely theoretical to illustrate the 'melt down' value of this company.  The reason that these Prefs trade where they do is because cash is tight.

On an annual basis, we think the company looks like this:

Rents from owned property: $14.35m
Spread rents: $2m
Mgmt fees net: $300k
Total revs: $16.65m
Interest expense on debt: $4m
Pref interest: ($70m x 10.875%)  $7.6m
Cash flow before mgmt overhead: $5m
Mgmt overhead: $3m-$4m (this has at least been coming down)
Left for amortization: $1-2m

The Company has:

- no dry powder to do acquisitions and grow out of this mess

- no meaningful cash for flexibility

- no natural buyer given that it is not a pure play REIT that owns all of its assets

Note that the Company did report $2m in cash on its books at the end of last quarter -- they also have a $3m note from Skyline, a credit worthy counterparty that purchased the Company's Arkansas properties in Oct 2016.  We are not counting this $2m + $3m in any of the analysis above.

The Company's new CEO, Board Member Brent Morrisson has a decent reputation from what we know, but has not communicated with investors.  They report this week and it should be interesting. 

The Pref could be pricing in a temporary dividend suspension as they try to accumulate more cash for settlements or acquisitions.  The combination of the mess they need to clean up here on the management and governance front along with the stretched cap structure make this one not for the faint of heart.

Catalyst

New interim CEO reassures investors that the Company has sufficient liquidity.

Pref dividend gets declared by the BOD.

Co starts to explore a strategic sale.