When we read Sonida Senior Living’s recent fourth quarter earnings report, we had already heard that it contained the dreaded “going concern” caveat. While not surprising, what was surprising was how glowing the highlights were.
Management “was thrilled with what our team has accomplished in Q4 and throughout 2022,” but five pages later it is disclosed that the company may run out of cash and fail to meet its obligations. Hmmm. Investors sent the share price tumbling by 40%.
We were not surprised because in our November 2022 issue we stated that we thought the company would run out of money by April of this year based on its cash burn rate. We are now at the end of March, and cash was just $16.9 million on December 31, 2022, down from $32.6 million on June 30. Interest expense alone is $9.3 million per quarter and rising. Maybe they can make it to May without a new cash infusion.
The “problem” is that everything seems to be going up. Weighted average occupancy was up 310 basis points year over year, and up 50 basis points sequentially. In fact, occupancy at the end of December was 84.2% compared with 84.0% at the end of 2019, so it is back to pre-pandemic levels already, when many companies are not there yet. But occupancy is still far behind the pre pre-pandemic levels closer to 90%.
Net community operating income was up sequentially, net margin was up sequentially by 70 basis points, RevPOR increased by 110 basis points sequentially, and so on. But despite these improvements, which we assume was what management was thrilled about, and rightfully so, there is a real concern whether the company will make it through the year. The new management is trying, and the problems were mostly inherited, as they were dealt a bad hand, so to speak. And there is no doubt that we are still in a tough operating environment exacerbated by rising interest rates. This is what has been so confounding to many operators: they are improving most of the financial metrics, but it still feels like they are running in place and handcuffed by debt and lease payments.
During the first quarter, Sonida decided not to make principal and interest payments due in February and March on non-recourse mortgages covering four properties with outstanding debt of $70 million. On March 1, Sonida received formal notice from the lender that it was in default. They are negotiating to obtain more favorable terms, but so is practically every borrower that is having leverage problems. That will be the big question for the next nine months across the sector, but who will blink first?
Most of Sonida’s debt is fixed rate, but it is the absolute level of debt that is the problem. Currently, the properties are not worth the total debt amount, even with the recent improvements. According to our analysis last November, they would have to really knock the ball out of the park in the next two years to break even with the debt from a value perspective.
Will Conversant Capital, the majority shareholder, invest even more money into the company? The only way that would make sense would be if they were able to get lenders to reduce their loan balances. Not many will be excited about this proposition. While we can’t blame them for a lack of enthusiasm, they may not have much of a choice. Alternatively, someone will have to come up with a real creative solution. We do not like to see this much distress in our market, but it does all come down to capital structure. Look at The Ensign Group and National HealthCare Corp., two publicly traded companies with conservative capital structures, and two companies that are profitable. There is a relationship here.
We plan to have more on this in the April newsletter issue as we take a deeper dive into some of the other distressed debt situations. It is not going to be pretty the next several months.
