Description

1. EXECUTIVE SUMMARY

• US healthcare REIT, formed in 2003

• Acquires and develops net-leased healthcare facilities

• Two biggest tenants are 40%+ of MPW revenue (even more of FCF)

• Both tenants in poor financial and operational health

• High financial and operating leverage

• Growing liquidity pressures

• Not earning its cost of capital

• Track record of suspicious transactions 

• Aggressive accounting practices / financial shenanigans

• Offensive management incentive structure

• Evidence of management lying to investors

• Numerous other red flags

• Similar issues the Viceroy / HOME LN story for those familiar 

• Short equity, short credit

2. BACKGROUND

Medical Properties Trust (ticker: MPW US, “MPW”) is a US healthcare REIT formed in 2003.

MPW owns 437 hospital facilities. It leases those out on a triple net basis to hospital operators. Main geos by revenue are US (65%) and the UK (20%). Most revenue comes from rent.

Edward K Aldag Jr (current CEO), R. Steven Hamner (current CFO) and Emmett E. Mclean (current COO) founded MPW. The three co-founders still run the company. After 20 years at the helm, and after significant amounts of stock-comp, collectively they own less than 1.3% of shares outstanding. They have sold $70m+ of stock since 2020.

MPW has been written up four times on VIC. Most recently by FIRE_303 in Apr-20. I believe that this remains a timely idea and want to bring it back to folks’ attention given the rally over the last couple weeks. 

3. REASONS TO SHORT: LOW QUALITY BUSINESS

MPW is fundamentally a low-quality business. It has a highly concentrated tenant base. It’s key tenants are in very poor health and likely need rent cuts and/or further financial support from MPW to survive in the medium term. MPW does not earn its cost of capital and liquidity pressure – exacerbated by worsening macro conditions – is building. The company could face a liquidity crunch by some time in FY24. True financial leverage (as opposed to management adjusted figures) is high. The leverage, combined with potential EBITDA compression due to tenant rent cuts, threatens the LTV and equity value of the company. 

Concentrated tenant base

Two of MPW’s tenants constitute 40%+ of its revenue and 50%+ of its FCF. Those tenants are: (1) Steward Health Care, and (2) Prospect Medical Holdings. Steward is 30% of revenue (but just 9% of sites). Prospect is another 10% (but just 3% of sites). This is an objectively high degree of concentration for a lessor of any asset. The mismatch between share of revenue and share of sites is also interesting to note. 

Weak tenants

Steward burned cash in 2019, 2020 and likely in 2021 and 2022. It’s previous PE owner (Cerberus) left it in poor financial health. Cerberus bought the business in 2010 and exited in 2020 having made 4x their money. Steward’s FY21 audit (FYE Dec) had not been signed-off as of Dec-22. It remains unclear as to whether it has now been signed-off. Most of it’s $500m+ ABL is likely drawn. That ABL was due to mature Dec-22 but has been kicked to Dec-23 for now (unclear who extended it to them). Without MPW’s ongoing life-support, it is likely that Steward would be insolvent. Steward is currently owned by its CEO, Ralph De la Torre. There are no other deep-pocketed third parties able to step-in and support the business if it becomes distressed (other than MPW of course). 

Prospect is not doing much better. This Pro Publica report and this RI AG presentation do a very good job of outlining the history and condition of the business (spoiler alert: condition is poor…). Like Steward, Prospect proved a lucrative investment for it’s previous PE owners (Leonard Green). They bought the business in 2010 and exited in 2019 having made multiples of their initial investment. Like Steward, Prospect is currently owned by its CEO Sam Lee and co-founder David Topper. Also like Steward, there are no deep-pocketed third parties backing them anymore. 

Steward and Prospect are both likely to need rent cuts and / or other financial support from MPW in order to remain solvent in the near term. 

Broken business model

MPW is not earning it’s cost of capital. Its Cash ROIC (which I define as Cash EBITDA / opening Gross Asset Value) for each of the last three years is below the current WACD. The weighted average remaining lease term of MPW’s portfolio is 18 years. The weighted average maturity on their debt is 2027. There is debt maturing every year. Even with MPW’s typical 1-4% escalators, Cash ROIC is likely to remain below WACD for the best part of the next two decades.

Liquidity pressures building

MPW is currently burning cash post-dividend. Without cutting the dividend, accessing capital markets and/or selling assets, there could be a liquidity crunch by FY24. A dividend cut hurts the stock. Accessing the debt markets to refi maturities locks-in a higher WACD, widening the shortfall to their cost of capital. Selling assets at accretive valuations is unlikely in this market. Any asset sales are likely to involve MPW’s better assets, leaving an even worse remainco for shareholders and creditors. It is hard to see how MPW addresses their liquidity issues without destroying value.

High leverage

LTM Cash EBITDA is about $1.2bn. I view this as a more reasonable proxy for earning power than the “AFFO” guff that management rely on (more on that later).

That EBITDA would be reduced by any rent cuts granted to distressed tenants in the future.

There is currently about $9.2bn of consolidated net debt (which excludes several off-balance sheet liabilities, but let’s give them the BOD for ease of math). The market cap is another $8bn, solving for an EV of ~$17bn.

What is an appropriate cap rate for my $1.2bn of earning power? I don’t know, but given their WACD is in the 8-10% area, probably higher than 8-10%. The below sensitivity shows what different rent haircuts vs. different cap rates does to valuation and LTV. FWIW – Steward alone could need $100-200m+ of rent cuts to survive in the medium term. 

On my numbers, there does not appear to be much margin of safety for value coverage.

4. MORE REASONS TO SHORT : SUSPICIOUS TRANSACTIONS & POOR UNDERWRITING 

Not only has MPW built significant revenue concentration in weak tenants, it has also become the biggest stakeholder in them. At Steward and Prospect it has replaced large cap PE firms as the party with the primary economic interest. There are also signs of suspiciously circular transactions with these key tenants.

Steward

MPW has invested $890m into Steward since FY20. That’s approximately 2x the rent Steward owed MPW over that period. Recall that Steward has been FCF burning for at least the last 3-4 years. Steward appears to be more than a key tenant for MPW. Some transaction highlights below for reference.

In 2Q20, with the pandemic ripping through the healthcare industry, MPW “invested” $205m into a JV with Steward’s management team. $135m was used to buy 3 hospitals in Colombia … the country, not the state. What the balance was used for is unclear. Who the hospitals were bought from is also unclear. What the strategic rationale for the transaction was, is also unclear. 

In 3Q20, MPW equitized a $750m mortgage they had on a Steward owned property. They also injected $200m cash as part of the transaction. Where the incremental cash went is, again, unclear. Entertainingly, MPW presented this transaction in their filings as an “acquisition” of 2 hospitals. It looks more like a distressed debt-to-equity swap to me. I get an implied cap rate on the transaction of 5-6% - pretty low for a distressed asset. 

In 1Q21, MPW made a $335m loan to Steward that was used to pay-off Cerberus (90.1% owner of Steward at the time) and ostensibly to back an “MBO” by management. In other words, MPW put in $335m cash, management put in no cash, and management ended up going from 10% owners to 100% owners. Pretty sweet deal for them. MPW insist they do not own Steward. In form they are right. In substance, it looks like they are taking quite a bit of Steward equity risk. 

In 2Q22 (perhaps tired of finding remotely believable narratives) MPW made a $150m 9.9% interest loan to Steward. They admitted this was rescue financing. How MPW envision successful loan repayment is unclear.

It seems quite likely that at least some of these cash injections to Steward have been used to fund rent payments back to MPW. 

Prospect

In Jul-19 – prior to Covid – Prospect nearly went under. Leonard Green, Lee, and Topper (all still shareholders at the time) ended up injecting $41m to convince auditors that the business was still a going concern. The macro conditions have not been positive for hospital operators since then. 

Helpfully, MPW concurrently “invested” $1.55bn for the SLB of 14 Prospect hospitals. $1.1bn of the proceeds went to repay outstanding debt. The balance seems to have funded a dividend.

In Oct-19, Leonard Green sold 100% control of the business to Lee & Topper. In return for their stake, Leonard Green received $12m – paid by Prospect…

Just like with Steward, MPW now appear to have most of the capital at risk in Prospect. 

Pipeline Health

Pipeline is a much smaller tenant – LSD % of revenue. But it highlights MPW’s poor underwriting skills and suspicious related-party transaction activity quite nicely. It is also a data point suggesting the tenant problems extend beyond Steward an Prospect. 

In Jul-21 MPW underwrote a $215m SLB for four pipeline hospitals and two medical office buildings.

In 2Q22, MPW management told investors:

“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 investments is very, very limited…”

In 3Q22, Pipeline filed C11. This is not an outcome I would typically expect from good underwriting. 

As part of the C11 process, MPW agreed to rent deferrals. They also agreed to fund a “capex investment” that remember, these are net-lease agreements… - that conveniently amounts to most of next year’s rent. Is it possible that these “capex” funds could be used to make rent payments from Pipeline back to MPW over the next year? Yes. Is it probable? Also, yes. Will investors be able to easily ascertain whether Pipeline has done so? No. 

5. EVEN MORE REASONS TO SHORT: ACCOUNTING SHENANIGANS & MORE…

Straight line rent

Part of MPW’s reported revenue is straight-line rent. This is an accounting adjustment (like straight-line depreciation) that recognises the effect of contractual rent increases over the lease term on a straight-line basis. For those unfamiliar with the concept, a useful primer is available here. 

In simple terms, this is a non-cash revenue item. If tenants are financially healthy and able to fulfil their obligations, then SLR spreads the true economic earnings evenly over the life of the lease term. If the tenants are financially unhealthy and unable to pay their rent, then SLR inflates short term revenue and earnings.

Management points investors and analysts towards Normalized FFO as the key measure of MPW’s profitability. Normalised FFO also happens to drive 50% of management’s cash bonus and 30% of their performance-based shares award.

This is how SLR as a % of Normalised FFO has developed in recent years:

SLR as a % of NFFO is up 3.3x what it was in FY13. I am yet to hear a good explanation for why that makes sense.

Given the poor health of tenants, this non-cash item appears to be optically maintaining earnings growth while the fundamentals lag. Clearly the trick has been working – recall, top brass has sold $70m+ in stock since FY20 and bonuses and stock comp have continued to roll in for them. 

Loan receivable treatment

A cursory glance of the “loan receivable movements” line in the recent 10ks suggests MPW received $2.7bn of loan repayments across FY20-21. This gives the appearance of them successfully collecting on “investments.” 

In reality, these inflows are a non-cash reflection of mortgages that have been equitized in underperforming properties (sometimes known as – whisper it – “distressed exchanges”). 

The “loan receivable movements” line needs to be netted against the “Acquisitions” line in the cash flow statement to try and get a more accurate sense of how cash has moved.

This is a very odd way to show these transactions. MPW themselves were unable to explain the line items to me. 

So, MPW IR cannot understand these movements. I struggled to understand them. If you read the accounts and review these line items, you probably won’t understand them. I can only assume that this is what management want. 

Another example of accounting used to mislead / confuse investors.

Staff Cost

Management do not break out what they spend their opex on in the Ks/Qs. IR were also unable to shed any light on this. A particularly poignant moment from a call I had with them:

“The G&A line really is, just kind of paying, eh, overhead, um you know, there’s a good amount of stock compensation”…

Not great from a disclosure perspective. For this kind of business, it should be very simple to explain what money is being spent on to operate the business. Again, I assume management do not want us to know.

While it is hard to tell what they spend their opex on, we can establish that they are less efficient in their spend per employee than other medical property REITS:

If you know anybody looking for a job in the hospital leasing sector, it seems Birmingham is the place to be if you want to get paid…

To be fair to MPW, the G&A per employee number is likely inflated by the private jets and expensive NY real estate reportedly running through the numbers. Still scratching my head over what they need the 14,000 sqft at 425 Park for: Health Care REIT Medical Properties Trust Takes 14K SF at 425 Park Avenue – Commercial Observer

Loans to tenants

I already outlined examples of loans being made by MPW to tenants. These have been important in keeping those tenants afloat. They have also potentially been funding circular rent payments back to MPW.

There is however a further benefit for MPW (or at least: for Ed, Steve, and Emmett). 

These loans earn interest. That feeds into FFO. FFO feeds into management comp (as explained above). In other words, making rescue loans to distressed tenants boosts management compensation, despite increasing MPW’s overall exposure to risky tenants. Something about incentives vs. outcomes comes to mind.

Stockholder value creation

Perusing the company’s website or materials will leave you with the impression that MPW is a stockholder value creation machine:

However, reviewing the financials suggests otherwise. For example, Cash EBITDA is up 3x since FY16. However, FFO per share is up only 1.4x. The reason: substantial and recurring dilutive equity raises.

Over the last 10 years, MPW raised about $7.3bn of equity. They have paid $3.1bn of dividends. And yet, MPW’s market cap is currently just $8bn. That is barely a 1.5x MOIC over the last 10 years. Hardly amazing value creation.

Management incentives

The principal-agent problem is in full force at MPW.

The first red flag is that management are very highly paid relative to their peers:

The second concern is that management’s bonuses are based on metrics that are subject to significant management discretion. This goes some way to explain the earlier discussions of straight-line rent, loans to tenants and eagerness to frame mortgage equitizations as “acquisitions.”:

Wadley Regional Medical Centre

Texarkana is a small town on the border of TX and AK. The population is about 60,000. The town already has a hospital operated by Steward.

In late 2021, MPW management told investors that “construction commenced on a new” hospital, in Texarkana, which Steward will also run (see Q4 2021 earnings call). MPW committed to funding the full $170m of construction costs. Steward would manage the construction process.

By Q3 2022, $58m of cash had been transferred from MPW to Steward (> 1/3 of the committed amount). MPW management reiterated on earnings calls that construction had started.

Unfortunately, this proved to be untrue. Construction had not started by the end 2021, in direct contradiction to what MPW had told investors. It also had not started by the end of 2022. In fact, construction only started around January 13th 2023.

How do we know this? Multiple local business owners confirmed to me on calls that, as of Q4 2022, the site was still an untouched field. Around the same time, Hedge Eye sent a photographer to check the site, confirming that construction had not started (photos available on Twitter). A review of time stamped google maps images also confirms the site remained a field well into 2022 (33.45474675918552, -94.10470231486819), see below. And, this headline confirms the actual start date.

Buyer beware. 

6. RISKS  

Briefly, the two key risks I see here are:

1. Asset sales

2. Less sceptical investors continuing to prop them up in the public markets

On the former, I don’t see how these get done without destroying long term value for the business. I am also not convinced these are easy to get done in the current environment. Any asset sale might create a supportive narrative in the short term but I expect ultimately that they are value destructive. On the latter, I suppose that’s always a risk. On the positve side for the short, dilutive equity raises would harm the equity thesis while debt raises would widen the WACD/COC gap and weaken liquidity. What’s for sure is that the current market environment is significantly tougher and scrutiny is higher than it has been in the past.

7. RECAP

MPW is a low quality business, with a track record of suspicious / incestuous transactions that is being run by a management team who have provably lied to investors. There is no smoke without fire. Scrutiny is building, capital markets are meaningfully worse than a year ago and the US healthcare environment is still under significant pressure. Most of the surprises from here are likely to be to the downside.

FIRE_303 put it best : “If you are long the stock, what are you playing for here?”

MPT | Leadership (medicalpropertiestrust.com)

8. APPENDIX

Further reading:

Cerberus Quadruples Money After Unusual Exit From Catholic Hospitals - Bloomberg

Cerberus-Backed Hospitals Face Life and Debt as Virus Rages - Bloomberg

Private Equity Lands Billion-Dollar Backdoor Hospital Bailout - Bloomberg

Cerberus Hospital Gets State Aid to Avoid Shutdown Amid Pandemic - Bloomberg

Investors Extracted $400 Million From a Hospital Chain That Sometimes Couldn’t Pay for Medical Supplies or Gas for Ambulances — ProPublica

Delaware County Memorial Hospital operations to be suspended - CBS Philadelphia (cbsnews.com)

Ponzi Hospitals and Counterfeit Capitalism (substack.com)

How a Small Alabama Company Fueled Private Equity’s Push Into Hospitals - WSJ

Home REIT - No place like Home REIT… thankfully | Viceroy Research

@HedgeyeREITs on Twitter

Catalyst

With so many fundamental issues in the business, growing scrutiny on MPW and a negative macro (and more specifically private healthcare) environment I see very little upside to MPW securities. I do see a whole lot of downside risk. 

I am not playing for one specific catalyst. However, some ideas below:

• Steward ABL maturity in late 2024

• MPW bond maturities in 2023

• Rent cuts and / or further capital injections to tenants

• Worsening macro / cap markets environment

• Increasing scrutiny (Hedge Eye doing a great job of publicising issues here; traction / interest has grown significantly in the last 2-3 months)