Pointing finger at PPS, Vencor files for bankruptcy protection.

Swamped by debt and declining reimbursement, Vencor filed a petition for protection under Chapter 11 of the federal bankruptcy laws. In announcing the September 11 filing, the Louisville, Kentucky-based nursing home chain--the first large long term care company to file--emphasized that the filing had been organized to permit normal operations of its 300 nursing homes, 60 hospitals, and ancillary services business.

Reporting $1.4 billion in debts and $1.7 billion in assets, Vencor asked the U.S. Bankruptcy Court in Delaware to approve an agreement for debtor-in-possession (DIP) financing with a bank group led by Morgan Guaranty Trust company of New York. The $100 million in financing and existing cash flows would be used to fund ongoing operations, Vencor said.

Along with the petition, Vencor said it had negotiated a plan of reorganization with its bank lenders, bondholders, and its primary landlord, Ventas Inc. Vencor also said a settlement was in progress with the U.S. Department of Justice concerning charges that it overcharged the government $90 million for Medicare patients.

Edward Kuntz, chairman, chief executive, and president of Vencor, said in a prepared statement that the reorganization "was necessary because of the dramatic changes impacting the industry, most notably decreased Medicare reimbursement."

Two days after the filing, the bankruptcy court entered the following orders:

* It granted Vencor authority to pay pre-petition and post-petition employee wages, salaries, benefits, and other employee obligations.

* It granted Vencor authority to pay the pre-petition claims of certain critical vendors, utilities, and patient obligations. The company says it plans to pay post-petition claims of all other vendors and providers in the ordinary course of business.

* It approved the use of DIP financing for ongoing operations.

The court also approved a stipulation between Vencor and Ventas reducing Vencor's monthly rent during the restructuring to $15.1 million beginning in September, representing $45 million in annual rent reductions. The difference between the rent under the master leases and the reduced rent would accrue as an administrative expense, subject to challenge in the Chapter 11 case. Meanwhile, unpaid August rent of about $18.9 million would constitute a claim by Ventas in the Chapter 11 case.

Under the terms of the restructuring, Ventas would get 15 percent of the common stock in the reorganized company. However, Frank Morgan, a REIT analyst with J.C. Bradford, points out that REIT rules do not allow Ventas to hold more than 9.9 percent of the fully diluted equity in Vencor, and that alternatives have yet to be outlined for equity received above that threshold.

Under the proposed restructuring, the lenders agreed to reduce the principal owed from $520 million to $320 million in return for 56 percent of common stock in the restructured Vencor.

Primila Peters, an analyst with KDP investment Advisors in Vermont, told American Banker that lenders made out well under the proposed plan, "receiving 76 percent of their loans' face value--a premium to the 70 percent being paid in the secondary market--and a controlling stake in the company."

Finally, Vencor's bondholders agreed to convert their claims to about 29 percent of the restructured company's common stock.

The creditors' concessions should go a long way toward shoring up Vencor, says Morgan, noting that under the proposed restructuring, the company's debt-to-EBITDAR ratio will be six-to-one versus nine-to-one prior to the restructuring.

"With Vencor's proposed capital structure more palatable, a new $100 million credit line in place, and its day-to-day operations appearing to have stabilized, the outlook for Vencor appears somewhat more encouraging," says Morgan.

However, two wild cards remain for Ventas, Morgan notes. First, there's Vencor's settlement with the government (Ventas has pre-spinoff liability). Morgan predicts a deal as soon as this month. Second, Vencor has to pay a $275 million bridge loan at the end of October (Morgan assumes it will be rolled over for a year, possibly in return for fees and more restrictive covenants).

"Our best guess," concludes Morgan, "is a six-month run in bankruptcy before emerging with operations more stabilized and a refinanced DIP credit line."

Sheryl Skolnick, an analyst for BancBoston Robertson Stephens, says the filing "has a silver lining. We finally have proof positive that the Balanced Budget Act has had a tremendously negative impact on the for-profit long term care sector, which may give the industry a little more political power to get some relief."

Unfortunately, Skolnick adds, "some will point to the acquisition binge that Vencor went on, and the debt load, and the split-up into Vencor and Ventas, and say the Balanced Budget Act didn't do this to the company."

For residents of Vencor facilities, the filing should come as a relief, Skolnick says. "If past is prologue, the states will come in and watch the facilities much more closely. Some may even appoint receivers to manage them. So if there has been any degradation in care or support staff, that's probably going to end, as will the uncertainty of not knowing if the facilities are going to be sold."

Raymond James analyst James Kumpel says spinning off its real estate into Ventas "created the worst of both worlds--a non-diversified REIT and an overly leveraged operating company whose fundamentals were declining. "If your fundamentals are declining, there's value in having your own assets, because you can sell them. If you have nothing but a whole lot of debt, there's not much you can do to get out of that hole."