Fiscal exercise.

A contributing writer to Contemporary Long Term care, Jim Moore is president of Moore Diversified Services, a Fort Worth-based senior housing and health care consulting firm, and author of Assisted Living 2000.

Even if you don't plan to sell, you need an exit strategy

WHEN I TELL SENIOR HOUSING CLIENTS THAT THEY NEED an exit strategy, I get some unusual responses. Many for-profit owner/operators tell me that they're not about to leave the assisted living market sector at the peak of the current business cycle, thank you very much. Not-for-profit sponsors often assure me that they've been serving seniors for the past 25 years and plan to be around for at least another quarter century.

But developing a sound exit strategy doesn't necessarily mean you're about to get out of the senior living business. Evaluating your community's value and competitiveness and strengthening its weak points to make it more appealing to a hypothetical prospective buyer is a valuable exercise, whether you plan to get out of the business next year or stay in it until you retire.

Start by answering these five basic questions:

* How competitive is your campus in two time frames: now and over the next five years?

* If a knowledgeable observer was scoring you and your competition on a scale of 1 to 10 for product, service, price, and value, how would you stack up?

* If you were on the other side of the negotiating table about to purchase your community, what might concern you?

* Would you discount your offering price because of some flaw or shortcoming?

* Based on your answers to the first four questions, what should you change over the next 18 months?

Little things will make a big difference as our industry matures, so your operations must be based on sound fundamentals. Refine your exit strategy planning by answering five more questions:

* Do you have a proactive sales and marketing program, or are you just taking orders?

* Are there any emerging trends that could alter your resident referral patterns?

* How is the aging-in-place of both your residents and your physical plant likely to affect your competitiveness over the next five years?

* Are you using reserve funds to improve living units and public spaces while maintaining equitable pricing?

* Are you accumulating replacement reserve dollars to allow your community to remain in "like new" condition?

Keeping up with the changing market means also investing constantly in such things as advanced computer software, training and education, and capital equipment. To cover your costs, charge your community a management fee of approximately 5 percent of net revenues. This won't hurt your financial profile, as lenders expect to see such an assessment as a line item under operating expenses.

But execute investments wisely. You can't afford to spend too much--or charge residents too little. Financial guidelines can help you decide how much is too much, but use them with caution: Different communities have different accounting systems, and prices will vary according to your location, target market, and competition.

The key indicator of value for your community is your net operating income. A buyer will generally look at your community as an income-producing "black box." In today's market, potential buyers (or lenders) are likely to value your community using a capitalization rate of 10.5 to 11 percent. Thus, dividing your net operating income by between .105 and .110 tells you roughly what your community is worth to potential buyers or lenders about to refinance your project. This means that, for every extra dollar of annual net operating income you realize, the value of your community increases by about $10.

To run a quick check on your financial ratios, compute your resident day total by multiplying the number of residents you have times 365 days. Divide your total operating expenses (not including interest, taxes, depreciation, or loan amortization) by the total number of resident clays to compute operating expenses per resident day. Compare this number to the industry average of about $45 to $50 per resident day, which applies to approximately 75 percent of the markets across the U.S.

Now, divide these same total operating expenses by your net revenues collected from occupied units. This yields your operating expense ratio, which should be approximately 60 to 65 percent.

If your operating expense ratio is higher than 65 percent but your operating expenses per resident day are "normal," chances are you are collecting abnormally low revenues, and it may be time to revisit your pricing strategy.

If both your operating expense ratio and your expenses per resident day are above the high end of the range, take a long, hard look at your operating expenses, department by department. To conform with industry norms, your total staffing should average approximately .45 to .55 FTEs per unit for assisted living, and considerably higher for special care.

Develop cost accounting and pricing systems to compensate for cost creep, the profit erosion that results from the steadily rising cost of providing care to residents as they age in place. Make sure that each department or service is a stand-alone cost/profit center, developing accounting systems and pricing strategies that treat each resident and their families fairly, while fully recovering the total cost of their care (see the February 1999 Assisted Living column for details).

If you have a typical debt on your community of about 75 percent of its total value, you are likely to observe a debt service coverage ratio of approximately 1.25 to 1.30 (to determine this figure, divide your net operating income by your annual debt payment). This means that after paying all of your annual operating expenses, you must have $1.30 in available cash for every dollar of required annual debt payment.

And if operating expenses and revenues are in line and revenues are appropriate, you should realize an operating profit of approximately 35 to 40 percent for an efficiently operated assisted living community of at least 80 units.

Are exit strategies useful only for improving your operation so you can hold onto it longer? Not necessarily. Kenny Rogers' advice in "The Gambler" -- "You've got to know when to hold 'em and know when to fold 'em"--is sound advice for senior housing operators. Sometimes your smartest move is to get out of the game.

But whether you plan to fold your cards soon or hold them for a very long time, a sound exit strategy is your ace in the hole.

                            The price is right
        Approximately 75 percent of the assisted living projects in
      the U.S. fit this profile. If yours is off, take a closer look:
        Is there a good reason or does something need to be fixed?

Expenses per resident day           $45 to $50
Operating expense ratio             60 to 65 percent
Operating profit margin (EBITDA)    35 to 40 percent
Minimum debt service coverage ratio 1.25 to 1.3x
Return on investment                11 to 14 percent
Total FTEs per unit:
  Assisted living                   0.45 to 0.55
  Special care                      0.55 to 0.65
Reserve for replacement             $225 to $250 per
                                     unit per year


Source: Moore Diversifed Services