Senior Housing Properties Trust has entered into a definitive agreement to modify its existing business arrangements with Five Star Senior Living Inc. Effective January 1, 2020, the existing five master leases for 184 of SNH’s senior living communities (19,979 living units) that are leased to Five Star as well as the existing management agreements and pooling agreements with Five Star for 77 of SNH’s senior living communities (10,135 living units) will be terminated and replaced with new management agreements for all 261 Five Star operated senior living communities.
Simultaneous with the conversion of SNH’s existing agreements with Five Star into new management agreements with Five Star, SNH and SNH shareholders will receive Five Star common shares equal to approximately 85% ownership of Five Star in aggregate after taking into account SNH’s current ownership.
According to a prepared statement, as part of the transaction, SNH shareholders will receive, by way of a distribution of the right to receive Five Star common shares from SNH and subject to certain conditions, Five Star common shares equal to approximately 51% ownership of Five Star post issuance, effective as of January 1, 2020. SNH will also increase its current 8.3% ownership of Five Star to approximately 34% post issuance. SNH currently plans to retain this ownership of Five Star for the foreseeable future.
John Harrington, chair of the special committee of SNH’s Board of Trustees comprised solely of Independent Trustees, which led the negotiations of this transaction, made the following statement regarding the announcement: “The transaction announced today was the result of numerous meetings of the special committee and its advisors over the past four months. We began this process by evaluating multiple options to address the impact that Five Star’s rapidly deteriorating financial position could have on our 261 Five Star operated senior living communities, which represent a significant amount of our revenues and net operating income. Some of the options we considered included evaluating whether we should engage new operators rather than Five Star to run some or all the communities as well as whether we should try to sell the entire portfolio. We ultimately concluded for a variety of reasons that the transaction announced today was the best option for SNH and our shareholders in light of the difficult circumstances we faced.”
In addition to SNH’s and SNH shareholders’ increased ownership of Five Star, details of the transaction include the following:
Commencing February 1, 2019, Five Star’s aggregate monthly rent payable to SNH under the five master leases with Five Star was reduced from approximately $17.4 million to $11.0 million, and Five Star has paid its February rent payment, which was previously deferred to March 31, 2019, at this reduced amount.
SNH has purchased from Five Star approximately $50.0 million of fixed assets and improvements related to the leased senior living communities.
SNH has provided a $25 million short term revolving credit facility to Five Star that is secured by six of Five Star’s wholly-owned senior living communities. The interest rate under this credit facility is 6.0% per year on any drawn amounts and matures on January 1, 2020. There is currently no amount outstanding under this credit facility.
Simultaneous with SNH and SNH shareholders receiving Five Star common shares, Five Star will reduce Five Star’s indebtedness under the SNH credit facility and SNH will assume certain of Five Star’s liabilities and/or make a cash payment to Five Star equal to $75 million in aggregate.
Due to the lower cash flow SNH will receive from its senior living communities operated by Five Star, SNH anticipates that it will need to lower its common share distribution rate in the future. SNH currently expects to pay an annual distribution of $0.55 to $0.65 per common share going forward, which is based on a target distribution payout ratio of approximately 80% of projected cash available for distribution in the future. This new distribution rate is expected to begin with SNH’s next regularly scheduled quarterly distribution announcement later this month.
To reduce leverage, SNH expects to sell properties valued at up to $900 million to achieve a target debt to adjusted EBITDA ratio of approximately 6.0x by the end of 2019. As part of these property sales, SNH plans to focus its efforts primarily on selling underperforming senior living communities and non-healthcare related assets, including standalone skilled nursing facilities and wellness centers.
Jennifer Francis, President and Chief Operating Officer of SNH, made the following statement regarding today’s announcement:
“The transaction announced today provides an immediate and long-term solution to stabilize our largest operator and protect the value of our senior living communities. In fact, we believe Five Star will be a healthy company at the end of this transaction, with projected annual EBITDA of $20 to $30 million, minimal capital expenditure requirements, low leverage and continued direct ownership in 20 senior living communities. We also believe it makes sense that SNH and its shareholders receive the bulk of this benefit in the form of Five Star ownership. In addition, we believe receiving Five Star common shares may help compensate SNH shareholders for our lower distribution rate going forward.”
“The transaction also provides SNH with greater asset management oversight of its senior living portfolio going forward as well as positions SNH and SNH shareholders to realize possible financial upside in the future. Our long-term strategy remains unchanged, with a focus on growing our medical office and life science buildings portfolio, and we expect that our medical office and life science building portfolio will increase as a percentage of our total property portfolio at the end of our announced disposition program. While our portfolio of senior living communities is expected to decrease as a percentage of our total property portfolio in the future, today’s announcement underscores our commitment to ensuring all of our properties are positioned for long-term success.”
This transaction was unanimously approved by both the special committee of SNH’s Board of Trustees and the entire SNH Board of Trustees. This transaction does not require approval by SNH’s shareholders. The issuances of Five Star common shares to SNH and SNH shareholders in connection with this transaction are subject to the approval of Five Star’s stockholders. SNH and ABP Trust, which collectively own approximately 44% of outstanding Five Star common shares, have both agreed to vote their shares in favor of the issuance of Five Star shares.
The transaction is expected to close on January 1, 2020 after the requisite regulatory approval process is completed, and to maintain compliance with complex tax rules affecting real estate investment trusts, or REITs, including limitations on the amount of ownership a REIT may own in a tenant during any calendar year.
Morgan Stanley is acting as exclusive financial advisor to the special committee of SNH’s Board of Trustees and Sullivan & Worcester LLP is acting as legal counsel to the special committee of SNH’s Board of Trustees in this transaction.