Community Health Adopts Poison Pill; Investors Still Unconvinced

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The board of directors of Community Health Systems (Franklin TN) (CHS) has adopted a “poison pill” defense to make it harder for shareholders to accumulate a controlling interest in the company while it pursues a sale to a private equity company or other suitors.

CHS adopts “poison pill” defense to make it harder for shareholders to control the company Click To Tweet

The so-called Short-Term Stockholder Protection Rights Agreement was announced last Monday by the company. Although the agreement emphasizes it isn’t directed at any specific individual or company, Chinese billionaire Tianqiao Chen bought nearly 1 million more shares of Community Health in the last week of September, raising his stake in the troubled hospital chain to 13.8% of the shares outstanding.

Chen paid $9.5 million for the shares at $10.27 per share, according to Modern Healthcare. Chen, who originally made a fortune in online gambling, bought a total of nearly 4.5 million additional shares of CHS in the past month. He is the company’s largest shareholder with 15.5 million shares.

The stock price of Community traded at $40 per share a year ago. Shares closed the week down 8% at $10.64.

The rights plan, a defensive move also known as a “poison pill,” would go into effect if any shareholder attempts to acquire more than 15% of the company’s shares. If triggered, common shares would be replaced by rights certificates that would entitle shareholders to purchase fractions of participating preferred stock for $50 per share with the same economic and voting terms of a common share. If it takes effect, common shares that now cost slightly more than $10 per share on the open market would cost a takeover buyer nearly five times as much to purchase.

In its release, CHS said the agreement will expire April 1, 2017. It therefore has a six-month time limit that gives CHS management and its board an opportunity to explore the sale of the company or blocks of hospitals to a potential buyer.

“The Board is currently exploring a variety of options with private equity sponsors, as well as other potential alternatives that would benefit all stockholders of the company,” Community Health CEO Wayne Smith said in the release.

Private equity group Apollo Global Management is reportedly interested in CHS’s assets, as are other investors, including real estate investment trusts, according to Modern Healthcare.

CHS is the nation’s second-largest, investor-owned hospital chain with 159 hospitals. It’s been beset by $15 billion in debt that is far higher than its peers. That’s despite raising $1.2 billion earlier this year through a spinoff of 38 small and rural hospitals into Quorum Health Corp., and the $445 million sale of its stake in a four-hospital joint venture in Las Vegas.

CHS is coming off a $1.43 billion, or $12.90 per share, loss from continuing operations in the second quarter, after taking a noncash write-down of goodwill on the sinking value of hospitals it bought over the years. Excluding the one-time adjustments, adjusted EBITDA in the second quarter fell to $563 million compared with $769 million in the year-earlier quarter. Revenue also declined, by 6% to $4.6 billion.

CHS is also plagued by the performance of hospitals acquired in 2014 as part of its blockbuster $7.6 billion purchase of troubled Health Management Associates, says Modern Healthcare. Before HMA was bought by CHS, its management used a similar poison pill to try to fend off activist investor Larry Robbins, who ultimately prevailed and forced the company’s sale.

Steve’s Take: It’s been that kind of week so far, as we’re only halfway and there’s Glaxo, paying millions to settle US bribery charges, then hospital giant Tenet Healthcare agreeing to pay an eye-popping $514 million to settle kickback charges, and now Community Health, another long-running player in the for-profit hospital game, announcing its adoption of a poison pill. We’ve all been around long enough to know that’s usually not a good sign.

But most remarkable to me and a few other observers is that investors barely reacted to the CHS announcement. The troubled company, which has already publicly disclosed it is entertaining possible transactions with private equity, has now implemented a defensive tactic that is typically used to discourage a hostile takeover or encourage shareholders to purchase shares at a premium.

Yet the stock actually lost some value Tuesday. Community shares have slipped 7 cents so far on the week to $11.47 today. After an initial spike to $12.29 a share on Sept. 16, when rumors first emerged around Community, the stock quickly corrected and has since remained relatively flat.

“This is really quite an extraordinary circumstance,” Sheryl Skolnick of Mizuho & Co. said Tuesday, according to TheStreet.com. Skolnick attributed the unusual lack of shareholder reaction in the public markets to a very high level of skepticism that a private equity-backed buyout of Community is actually feasible, and if it is, that it could be done at a premium.

So just who, other than the suspicious Mr. Chen with his possibly hostile intentions, might buy Community Health Systems? Some analysts don’t see a logical buyer among the other major publicly traded healthcare companies, including Nashville-based titan HCA Holdings, one of the few players large enough to pull off a deal of this scale. Urban-focused HCA’s target markets are larger than the smaller markets where Community Health typically operates, one of a variety of factors that makes such a deal unlikely.

According to Eleanor Kennedy of the Nashville Business Journal, Dallas-based Tenet Healthcare and Brentwood, TN-based LifePoint Health also are both unlikely suitors, citing several analyst notes. “There are a lot of assets inside Community that HCA spun off long ago,” said Frank Morgan, a Nashville-based analyst with RBC Capital Markets, referring to the fact that Community bought Triad Hospitals, a late 90’s HCA spinout, back in 2007.

HCA or other hospital companies could be interested in some of the hospitals within the CHS portfolio, Morgan said. But the more likely buyer would be a private equity firm or similar entity that would take the company private, Morgan said, particularly a buyer that believed it could make changes to the portfolio, turn some hospitals around and down the road either sell the company or take it public again.

Nashville’s healthcare community has seen that move before, as HCA has itself gone private only to re-emerge as a public company a few years later, something it has done twice in its 45-plus years.

The problems driving CHS’s latest move are primarily traceable to its 2014 acquisition of Florida-based Health Management Associates, a $7.6 billion deal (in cash, stock and debt) that Modern Healthcare called “disastrous” in its coverage of the potential sale announcement. The hospitals acquired in that blockbuster deal have proven difficult to turn around, a challenge given the high leverage (debt, essentially) the deal created for the company.

“While it is not surprising that Community may be exploring an outright sale, we see it as a low probability as we struggle with who the buyer would be given circumstances of weak operating trends and already high leverage,” Citigroup’s Ralph Giacobbe and Allison Schulz wrote in a note on the sale report, according to Ms. Kennedy. The duo called a deal a “low probability” given the absence of logical hospital company buyers and the fact that a leveraged buyout–which would take the company private–“appears difficult.”

Here’s a thought, though. Chinese firms have recently been on a buying spree here in the US. Cases in point:

  1. Starwood Hotels, for $14.3 billion, by Anbang Insurance,
  1. Smithfield Foods, for $7.1 billion, by Shuanghui International,
  1. Ingram Micro (games, software, hard drives, etc.), for $6.3 billion, by Tianhai Investment Development Co.,
  1. General Electric’s Appliance Business, for $5.4 billion, by Qingdao Haier Co., and
  1. Terex Corp. (machinery for construction, agricultural and industrial purposes), for $5.4 billion, by Zoomlion Heavy Industrial Science.
Steve's Take: I wouldn't count Mr. Chen out of the running for buying Community Health Systems Click To Tweet

I don’t see a US hospital company on this particular list–yet. But with the above Starwood Hotels deal in mind, hotel rooms and hospital rooms do share some admittedly stretched similarities as far as making a profit from them. And I wouldn’t count Mr. Chen out of the running for Community Health. Wouldn’t owning a US hospital chain be a feather in the Chinese billionaire’s hat back in his homeland?