Podcast - Findings from Gibbins’ Annual Healthcare Bankruptcy Report

Morgan Ribeiro: Welcome to Counsel That Cares. This is Morgan Ribeiro, the host of the podcast and a director in Holland & Knight's Healthcare Section. On today's episode, we are going to talk to our friends from Gibbins Advisors, a restructuring and turnaround firm focused exclusively on the healthcare industry. I am joined by Clare Moylan and Ron Winters, who are managing directors with the firm, and Gibbins Advisors recently released their annual healthcare bankruptcy report, highlighting data from 2023's bankruptcy filings. And joining us from Holland & Knight is Tyler Lane, who is a partner in the firm's bankruptcy practice. Welcome to the show, everyone. Before we jump into the report, Clare or Ron would love if you all can take just a minute or so to tell us more about your firm and the work you do related to healthcare bankruptcies.

Ron Winters: Sure. This is Ron Winters, one of the co-founders of Gibbins Advisors, along with Clare Moylan. We're a Nashville-based professional services firm focused on restructuring and performance improvement, focused specifically on healthcare, and focus specifically on the middle market. We work for healthcare companies. We work for their creditors and their secured creditors, all in different instances.

Morgan Ribeiro: Awesome. Tyler, any background on your practice? I think that's helpful to know your practice in the world that you live in every day as we have this conversation around healthcare bankruptcies.

Tyler Layne: Sure, thanks. Yeah, as Morgan mentioned, I'm a partner in the bankruptcy and restructuring practice at Holland & Knight. The majority of my practice is healthcare-oriented, typically on the provider side, whether that's representing companies, the lenders to those companies, private equity sponsors or the like, and I also do a fair amount of work in the biotech and healthcare tech spaces as well.

Morgan Ribeiro: Great. Thanks, Tyler. Alright, so I mentioned in the intro that Gibbins recently published its report looking at healthcare bankruptcies from 2023. Clare, I'd like to kick it over to you first, just to highlight some of the key findings from the report.

Clare Moylan: Sure. So we started tracking healthcare sector bankruptcies with the cases with liabilities over $10 million. And we're looking at just the Chapter 11 filings. And we started a few years ago looking at, what was the difference pre-COVID versus, you know, during COVID. And now we're in a post-COVID world. And there's some interesting findings from our report from last year. So looking back in that five-year period, 2023 was the biggest year for healthcare Chapter 11 bankruptcy filings in the past five years that we saw. There was 79 cases that we tracked last year. We look at it by subsector as well, so that included 12 hospital company bankruptcies. A fair share of these bankruptcy filings were the larger organizations with more than $100 million in liabilities. There were 28 of those cases last year, whereas in the past two years of 2022 and 2021, there were only seven or eight filings in that larger cohort. So last year we saw then those larger cases in healthcare coming back to bankruptcy. Another kind of anomaly that we saw when we look at the case filings by quarter, so we've seen over the past few years an increase quarter on quarter for the last six quarters through Q3 last year, but in Q4, there was a decline in the number of cases, quite a market decline. When we look at that, on average, if we say, let's just take Q3 and Q4 on average and compare that to prior months, prior quarters, it looked actually on par. So we're not sure yet whether Q3 was just a spike and Q4 kind of leveled that out, or if that reduction in cases in Q4 last year is indicative of an emerging trend. So we're monitoring that this year. We'll look at Q1 and Q2 and see where the cases have picked up again. But that's just something to watch.

Morgan Ribeiro: Great. And I know that in the report you all take a look at some specific sectors in healthcare, you mentioned a few of those already. But first, you all know that senior care and pharmaceutical organizations drove the bulk of last year's filings with 15 and 20, respectively. What is driving the activity in those two sectors?

Clare Moylan: It's just that the breakdown by subsector, it's pretty interesting to see in the past few years that when you look at the total number of cases, it seems to be about 25 percent, and about 25 percent of the cases are from the senior care sector and the pharmaceutical sector, respectively. That's been a consistent relative trend of all cases in the past few years. So maybe, you know, Ron, you can talk us through what might be driving that.

Ron Winters: So maybe it's good to start out with talking a little bit about what we mean by senior care. Sometimes it's called senior living, that would be independent living — and this is sort of in order of acuity — independent living, assisted living, skilled nursing facilities, memory care. And then there's sort of a separate product, the continuing care retirement communities, which has a conglomeration of all of those in there and are sort of an insurance product as well. Sometimes people also call senior care, generally post-acute care. And that might also include, say, IRF, inpatient rehabilitation facilities, and long-term acute care facilities. So what's driving this? A lot of it has to do with higher interest rates, particularly with respect to floating debt for acquisitions or funding losses and things like that. Many of the facilities are aging, and particularly the ones that are the users have options or are paying for that themselves, and some of the aging facilities may no longer be competitive. A lot of these places are not governed by a certificate of need, so there's no limit on what can be developed and so on. Additionally, particularly with respect to skilled nursing facilities, nursing homes, these people are entering them later in life, and so for at least a one-time period, there's going to be a gap in usage as people sort of enter them later. Additionally, we have the factors such as urbanization, the deep ruralification of the United States, many of the rural communities are moving away from those, and facilities in those locations are in want of population, want of census. As everybody talks about in healthcare, there's been labor challenges, particularly since Covid. And of course, as I said before, with respect to interest rates, many of them have leverage that they can't afford.

Clare Moylan: In addition to that, Ron, you just sparked something that I've thought of, is the ability in the senior care sector to increase prices in line with increasing costs. And the last few years there's been such massive inflation on costs, but the market will kind of dictate how much you can pass on to your consumers. So at least in the senior living side, where you can control your prices, if you increase your prices too high, you just lose your market. So there's a margin squeeze there. And then in the skilled nursing facilities sector, a lot of that's Medicaid paid and you've got no control over your pricing there. So it's challenging from a penal perspective that you, you can't just increase your prices to match the massive increases in costs that you're experiencing.

Ron Winters: Particularly on the assisted living that you just mentioned, where there can be a significant increase in cost, we have seen a number of instances that, Clare, you and I have been involved in, where there's significant overcapacity. And so there really is very little in addition to the facility potentially being uncompetitive from a physical perspective, they have great difficulty passing on increased, increased costs.

Tyler Layne: And then you also look in a product like a CCRC, and you think about people entering skilled nursing facilities later and later, and the skilled nursing portion of the CCRC is often the loss leader, right? It's the CCRC is going to make its money off of the independent living. It's going to make its money off of the assisted living. And if people are using alternatives like home health or just aren't moving into a facility, they're not going to be able to bring in the revenue to keep up with their costs as well.

Clare Moylan: Yeah, absolutely. And we've seen cases come through where the proportion of the skilled nursing beds relative to the rest of the business is just out of kilter with where it needed to be for them to actually be able to support the skilled nursing facility, and for it not to be a loss-making venture for the whole enterprise.

Morgan Ribeiro: The pharmaceutical mandates, I'm curious what was driving that, which I'm sure the trends there look a little different than, you know, on the provider side of things.

Clare Moylan: Yeah, absolutely. It is really different because the kinds of pharmaceutical cases that we're saying, it's not your big pharma so much that we're seeing, although there is some big pharma bankruptcies for different reasons. But a lot of the volume of cases is coming from companies that are in an early development stage where they're funded by a lot of equity. There's a lot of money that's been poured into these therapeutics, biotech, pharma businesses. And in some cases they get debt too, so those cases are the ones that are ending up in bankruptcy, where there's some debt. Other cases are just winding up because they don't have enough capital to keep the business going, or they took a punt on some innovation that didn't get FDA approval and so they couldn't make it work. But the interest rate environment, it's had a massive impact because the capital that was just flowing to this part of the market a couple of years ago completely dried up, and businesses have had to build up cash reserves of even a few years of cash to be able to keep their business going and continue the development and research activity that is so expensive for them to fund without the revenue. You know, they're not making money, they're not trying to make money. A lot of it's just research. So it's a lot of investment, and they don't have that capital built up, and they can't access new capital, then they end up at a dead end. So it's some opportunities, and Tyler, I'll be interested to see what you've seen in this sector, but there's opportunities for other companies to pick up some of the IP that is there in these businesses and be able to carry on that the company in its own right just doesn't have the wherewithal to continue.

Tyler Layne: Yeah, I couldn't agree more. I mean, I, I think it's not just limited to pharma, I think it's any sort of healthcare company that relies on technology that's sort of in an early growth stage. They're just routinely pretty much hitting funding walls at this point, even if what they're producing is something that's really exciting. You think about the other aspect, which is a decrease in valuations and the ones that are facing a down round. When you would think back to like 2021, a down round was just like the death knell for a company, now it's the lucky ones who can put one together and actually get the funding. And so, I'm seeing it all over the place. But I do think that for the right strategic buyer who can really come in and make sure that the people, a lot of the value in these companies is, is tied to the people, right, because they're the ones who are really developing the pharmaceutical or the technology. And I think that for companies who can come in and keep those people happy and who can bring, you know, monetize those products, there's a lot of great opportunity out there, for a really good price.

Morgan Ribeiro: All right, so why don't we move on to a sector where both of our firms do a lot of work, and that's on hospitals. Clare, you mentioned 12 of the filings that you all saw in 2023 were hospitals. Happy for you all to touch on, you know, what drove that activity that we saw in the past, but I'm also curious what we're going to potentially see over the next year or two. I imagine some of the trends that you mentioned earlier around workforce interest rates certainly impact hospitals as well, but there are probably some unique challenges that hospitals in particular are facing.

Clare Moylan: Yeah, sure. And I'll, and I'll qualify just to say that the research that we do looks at a count of companies, we're not doing a count of facilities. And in most cases, they're single hospital bankruptcy filings, but not in every case. So just to note that it's not the number of hospitals that have filed, it's the number of hospital sector companies that have filed bankruptcy. But again, we're not talking about, you know, hospitals that companies that have filed with 100 hospitals, so the count is actually not that far off what we've reported in our data. So to talk about what's driving this hospital stress, I'll get started, and then I'll hand over to Ron because you don't want to hear my voice the whole time. So where we are now versus a couple of years ago, many of the hospitals that we would typically work with that are, that are short on liquidity, through COVID they had more money than they'd typically seen in the past several years through advance payments, through additional grant money. Not that they were profitable, but they had more cash in their banks than they'd seen for a long time, and in a pandemic, that's really what you want. You don't want the hospital sector to be short on cash when you need to support the health of the, of the population. So it was a good thing, but that money's largely dried up. There is some BEMA money that we're aware of that's still available to hospitals this year around COVID, but largely the government money that came in through COVID is dried up. And in the cost environment that we've experienced, particularly post-COVID, there was a huge labor shortage. There was a huge reliance on agency labor. And in order to attract and retain staff, we had to increase salary and benefits for our workers. So it's been an uptick in the labor cost, which I think is in some ways a bit of a correction on where labor was before that, but that's put a massive squeeze on margins for providers. Revenues haven't gone up at the same rate. First of all, you've got a lot of healthcare paid by the government, and just the methodology of how they set rates, there's a lag between them looking at how much it costs to deliver care versus how much they pay for it. And, you know, that lag is several years. So there are increases that have come through on the government Medicare and Medicaid, and Medicaid is by state. So every state is, is changing its rates at it, at a different level. It's happening, but it's not happening to cover the cost increases, so there's a margin squeeze there. And my view, Clare Moylan's view, is that margin squeeze may never go back. The margins that you saw pre-COVID, may never go back to where they were pre-COVID. So now I think we're in an environment where the margins just might be less going forward. And that has implications, particularly where you've got leverage that relies on a certain margin and you can't really cover that to the same degree. So I think that's putting pressure on hospitals, and in order for them to get through that loss-making period, they needed to have a lot of cash reserves. And the largest systems typically have an enormous amount of cash, and actually a big part of their income comes from non-operating income of it, really, you know, making money on those investments and that how they're making ends meet, it's not actually making money on the operations of the hospital, but the smaller hospitals or standalone hospital systems, they just don't have that balance sheet. And so without those cash reserves, that puts them in a precarious position and that's driven, it's ultimately the liquidity issues where they end up in bankruptcy.

Morgan Ribeiro: We could probably spend an entire episode talking all about the things that are driving this activity in the hospital sector, frankly, we've been seeing it for a while, but I'm just curious to have, you know, off the top of your head if you have any, can elaborate more specifically on the bankruptcies that we saw in 2023. Like how many of those were rural? Because, I mean, I think we touched on that earlier, just that drive of people moving from the rural setting into more urban or suburban settings. That, coupled with a lot of other factors, really puts those hospitals at a disadvantage. I'm curious just to know kind of the breakdown of those that we saw that they were rural or if they were, you know, government kind of public hospitals, what was the mix that you all saw?

Clare Moylan: I'd have to go back and take a look at that specifically, but my fingertip feel, based on what we've looked at, is that it's not typically the urban hospital system. It's the standalone.

Ron Winters: Community and rural.

Morgan Ribeiro: Community and rural hospitals. Yeah.

Ron Winters: I mean, Clare talked about before, many of these large systems were, of course, these are the people we don't deal with who have, you know, days and months of cash on hand, the clients we typically talk to have, you know, money to get to lunch and that's about it. They're living hand to mouth. One of the — just before I was going to add a couple other things, but before I do, I, I think one of the systemic changes we're seeing is the, the migration from Medicare to Medicare Advantage plans, which is putting tremendous pressure not only on senior living facilities, but also on hospitals as well. One of the big things, Morgan, that we saw in COVID that many people in the healthcare sector knew already, but the public got to know, is how important elective procedures are to hospitals, to hospital profitability. And that completely disappeared, at least during the early days of COVID, because nobody was doing any of that. And that's why all the orthopedic guys were sort of on the beach during that period of time. Along those lines is migration from inpatient surgeries, inpatient procedures. More and more are being done in an outpatient setting, which is fine. Great for care, not so good for hospital profitability because many, many procedures are moving out of the hospital setting. We talked a little bit before about the rural and standalone hospitals. They have a very poor — your ability to negotiate with payers is essential to your being successful, they have probably the poorest ability to have negotiating leverage with payers and are under the most pressure. Payer mix also, the simpler hospitals that do less acute procedures, low-case mix index, they’re under pressure because the profitability, as I said before, is in the more complex procedures. And a lot of these facilities that are now starting to age were built on bonds that were issued long ago, but not maybe long ago, with a, an expectation that they'd have profitability long enough to pay off their bonds. As it turns out, as a result of changes in the industry, changes in the demographics and geographic trends, many of them are now uncompetitive or the populations have moved away, and, and they're under pressure of meeting the their bond payments.

Clare Moylan: That's the same that I was saying in senior care as well. Many CCRCs, they build it into an amazing building, and it's, it's funded with municipal bond, but the operations of the business aren't able to sustain that load of debt. So there's a pipeline of cases that are expected this year to work out to restructure those, those businesses so that they can be more sustainable.

Ron Winters: Beyond just bankruptcies. I think we sort of have a national debate that we're facing. We do a lot of work in, in, in rural settings. And we, and we meet with the, we meet with the community in a number of the cases we've been involved in and there's, the folks in these communities are really disturbed that the care that they were getting at their local hospitals years earlier is now completely gone. Their hospitals are part of an up in smoke system or something. And as a result, the services that they used to get locally are no longer offered, and they find it very disturbing. Some of this is, is part of a national trend and kind of to be expected, but people who live in these rural settings are quite disturbed about it, and I think we, we sort of have a national question to ask ourselves, is, do we want to support, do we want to support life in the, in rural areas? And if we do, we have to make healthcare available there. And I mean, that's going to be something other people other than bankruptcy professionals are going to decide. But I think it is a big deal.

Morgan Ribeiro: Yeah. And how we define healthcare. Is it just a, you know, a standalone ER or an urgent care, or is it the full suite of services that they, you know, we're accustomed to seeing a decade or so ago. As we're talking here, and I know we've been pretty focused on hospitals, my, my next question is around just kind of, you know, if you're a, particularly a hospital, but I would say in any kind of healthcare provider, and you're looking at your options, you can kind of see ahead and read the tea leaves and see that your financial reports are not trending in the right direction. It's distress you're not quite ready for, you know, filing for bankruptcy, but you're looking at the options that are out there and just curious how the regulatory environment is impacting those conversations and the options that are available. I know we've seen at our firm, you know, I've been watching closely, not just at a federal level with what the FTC and DOJ are doing, and the scrutiny that is certainly increasing at that level, but also at the state level with state AGs. Tyler, do you have any kind of perspective on how that has impacted providers in general, but maybe even more specifically hospitals? And the scrutiny that we're seeing at both the federal and state level.

Tyler Layne: Yeah, I think the two things are sort of at a premium when you're dealing with a distressed hospital or any sort of distressed healthcare provider, and that's time and options. And the increase in regulatory scrutiny, in particular the antitrust scrutiny, you know, really limits your options in terms of who can possibly be a productive partner to continue care in whatever community you're talking about. And then it also just cost you a lot of time. And as Clare and Ron were saying in the, in the more general hospital conversation, I think we're seeing more and more what I would characterize as truly extreme liquidity situations with a lot of these acute care providers. I think it's just never been harder to run the hospital than it is today, and I would have said it was easier a year ago, and I would have said it was still really hard a year ago. And the increased regulatory scrutiny, especially on the antitrust front, definitely limits your options and costs you precious time that you don't really have. I will say that I think we've seen state regulators be a little bit more amenable to creative options than we may have in the past, simply because I think that they're seeing a lot of these rural hospital closures, community hospital closures, and taking an approach that really facilitates creativity and really facilitates unique options for each situation rather than, you know, more one-size-fits-all approach that regulators may have taken in the past.

Clare Moylan: The fact of being in distress and being on your last legs as an organization, it doesn't give you a free pass on all of those requirements, you know, the AG approval and FTC. Even being in bankruptcy doesn't get you through the FTC issues. And we've seen last year — actually, it might have been a late 2022 filing — there was a transaction lined up in California, and the attorney general made some requirements on the transaction that the buyer wasn't willing to agree to, and the hospital closed and that community, which was a rural community, lost services. And, honestly, I was shocked that happened because we've seen in the past states really willing to work with providers, especially with that kind of patient demographic in that level of need in the community. And in that case, it went the other way. So there's still those requirements that you have to meet in order to be able to get a transaction and a solution across the line, and it's challenging.

Morgan Ribeiro: So we've touched on a few sectors here. Curious if there are other sectors that are called out in the report, or just generally that you all believe, where we may see more activity over the next year or so?

Clare Moylan: Yeah, so we've mentioned the standalone community hospitals as being more at risk than your large hospital systems, and we've talked about that a lot in the senior care sector. And nursing homes, especially, rural providers are struggling. In senior living CCRCs, there's a lot of leverage and the competitive environment is challenging. It's very local-specific around the particular market that those facilities are in. PPM, maybe Tyler, you can also speak to that, position staffing companies I'll say are also on our radar, and we still see a lot of going concern qualifications around pharma and biotech companies. So we still think there's more to come on that front.

Tyler Layne: Yeah, I definitely agree on the pharma biotech front and then physician practice management. I think you'll continue to see a lot of haves and have nots. I think that there are people who jumped into that sector who have done it the right way, and then people who have kind of done it the wrong way. And I think you're going to see a lot of transactions in that space on the distressed side, and typically those transactions happen out of court because one of the big motivating factors is keeping the doctors happy and nothing sends them running like a Chapter 11 filing. And then, the last area that I would say is, I think inpatient behavioral health. I think it's just going to continue to get more and more action. I think there's a lot of opportunities in inpatient behavioral health, and I think a lot of people are still in the space and doing a really productive job in the space, but I think you're going to see a lot of consolidation. I think there's a lot of people who maybe were in other forms of provider side healthcare that are trying to get into that space and may not realize the differences between it and, you know, a lot of what they've done before.

Ron Winters: I was just going to add to what you said, Tyler, on the physician businesses, the PPMs and the, and the staffing companies, I think because of the sort of additional complexity about limitations caused by laws concerning the corporate practice of medicine, this sort of added layer of having a financial technology that sort of provides the right incentives to physicians and still makes the, maybe a financial transaction makes sense. And I think we still have that sort of evolving thing, getting those things to harmonize. And I think that can result in troubled debts.

Morgan Ribeiro: Absolutely. So I know something that we've talked about as a group before — Clare, I think this may touch on the point you were making earlier about bankruptcies going down and Q4 may or may not be a trend, could just be an anomaly — but I think, generally speaking, it seems like there are trends related to just the options that healthcare entities have that are in distress, things that they can consider beyond bankruptcy. Tyler, maybe you can kick us off there and just talk about some of the things that you're seeing in your practice, such as out-of-court proceedings.

Tyler Layne: Yeah. I think that the use of out-of-court solutions has, has increased a ton since I started doing healthcare work. I mean, I, it's gone from being probably 50/50 in court versus out of court to probably 80/20 out of court. I think that there's a few things driving that. One is just the cost of bankruptcies, nobody's hiding from it. They're expensive, they're a blunt instrument, and they're great at getting done what they get done, but they're not the most flexible tools in the world. And if everybody can come together and come up with a solution out of court, there's just a lot more options on the table and it's a lot cheaper, and everybody can really get what they want without exposing the company to a bankruptcy proceeding.

Ron Winters: I was going to just say, Tyler, I am curious if you agree, I think everything you say about the expensive blunt instrument issue concerning bankruptcies is right, but particularly in sales, people really like that order, that clean order. And I think there have been lots of efforts made with the new Subchapter V and other things to try to find ways to make the bankruptcy process cheaper and faster. And I think anything that could be done in that regard, I think, really I mean, because I think the bankruptcy code itself is fairly elegant law that works quite well, and I think anything that can be done to make it faster and cheaper, I think people will embrace.

Tyler Layne: Yeah, I think that you're spot on, that if your goal is to sell and you're able to go into a proceeding with a stalking horse and limited risk, that the case is going to derail and cost everybody a lot of money for not a ton of recoveries, then bankruptcy is still just the absolute best tool out there for that. But the problem is, is that I don't think that a bankruptcy is necessary to accomplish a true reorganization of a healthcare company or even a debt for equity swap, depending on how the capital stack looks. And so there may be reasons to file for bankruptcy. Certainly accomplishing a 363 sale is easily the most value-maximizing way to do that. But I think that as there's fewer buyers out there, if you're not going in with some certainty as to how you're going to get out, it's another added risk, you know, for, for the company. And so it's really easy to put companies in bankruptcy, it's really hard to get them out of bankruptcy, as you well know. And so I think that going in with a view as to how the whole case is going to get out rather than just a true free fall, is of utmost importance in the healthcare space.

Morgan Ribeiro: Well, I feel like that's a good way for us to wrap up this conversation. We've continued to see certain trends in certain sectors as you all touched upon, and I think we'll continue to see things, particularly around the hospital space. It's just, it's a very challenging time and looks like we've got plenty of options out beyond bankruptcy. And just some of the trends that we're seeing, largely not just in the healthcare industry, I would say that covers pretty much all industries. But I appreciate, as always, Clare and Ron, you all joining us for our podcast. And Tyler, appreciate your insights, and this discussion.

Clare Moylan: Thanks very much.

Tyler Layne: Thank you.

Ron Winters: Thank you, Morgan.