Osmium Partners Issues Letter to Diversicare Board Urging a Substantial Increase in Dividends
• Osmium believes that fair value for Diversicare ( DVCR ) shares is $17-25 per share vs. $9.40 market price.
• Since 2012, Diversicare has increased revenue from $200 million to nearly $600 million in 2017 while EBITDA has increased by a factor of 4.5x.
• Over the last three years, Diversicare has achieved 20% annualized revenue growth with 33% annualized EBITDA growth yet Diversicare’s total annualized shareholder return is -3% and Diversicare’s common stock trades at approximately 6x EV/2017 FFO (funds from operations) and just 0.29x EV/sales.
• Osmium believes Diversicare should increase its dividend from $0.22 to $1.00 per share (an incremental cost of $5 million per year). With a total of nearly $4.00 a share in 2017 in funds from operations, the company would still have sufficient liquidity to execute the continued growth strategy.
• Diversicare is in an unusual situation with a mix of strong growth metrics combined with a low valuation. The lack of analyst coverage and aggressive reinvestment into the core business, combined with low trading volumes that discourage investment currently explain why Diversicare trades at a deep discount.
Dear Diversicare board members,
Osmium Partners, LLC has been a Diversicare stockholder since 2012 and we currently own 9.9% of Diversicare’s common stock. As you are aware, Diversicare’s operating results have been strong with revenue increasing by 165% and EBITDA increasing by nearly 450% since 2012 while the share price has remained unchanged. We believe that fair value for Diversicare’s common stock is between $17 and $25 per share. Despite the high costs of being a public company, including board fees, legal, accounting and audit expenses and management time and effort for presentations, earnings calls, and regulatory filings, Diversicare currently enjoys none of the benefits of being a public company . For example, Diversicare has not had sell side analyst coverage for several years, has had low daily average trading volumes of its stock of $54,000 making it an unattractive investment, has had bid and offer prices for its stock range as much as 5-7%, and most importantly, the business trades for less than 50% of our assessment of fair value. Given this significant gap between the current stock valuation and our estimated fair value we strongly encourage the board to increase the quarterly dividend to $0.25 per share. We believe that with the 10-year treasury yielding 2.2%, Diversicare shares would likely trade at a 5% yield with a 40% pay out based on our assessment of steady state free cash flow. As more fully described in this letter, we believe that increasing the annual dividend to $1.00 per share is the best course of action to not only close the wide valuation gap, but also to attain the benefits of being a publicly traded company with analyst coverage and improved liquidity. Diversicare has a very bright future and it is time to transition from effectively a private company in a public shell to a public company in public shell.
Point 1: In our opinion Diversicare is worth $17-25 per share
Levin & Associates Senior Care Acquisitions Report (Feb 2017) 1 :
“Prices have risen to new heights in skilled nursing, nearly surpassing $100,000 per bed at $99,200 per bed….skilled nursing has grown more and more enticing to investors, despite its many risks. With cap rates remaining relatively high, a buyer can achieve an unlevered cash on cash return of between 12-13%....When a typical 65-75% debt ratio is applied, and with debt costs so low, the levered return can be above 20%.”
– nursing – cap – rates – record/
Sum-of-the-Parts (SOTP) Analysis:
Osmium believes the average value of an owned bed is between $80K-110K and the average value of a leased bed is between $10K and $15K, the main difference being lease expense. Diversicare owns 1,600 beds and leases 6,950 beds. We reach a sum-of-the-parts valuation for Diversicare between $17 and $30 per share.
Exhibit 1: Diversicare Sum-of-the-Parts Analysis
DVCR SOTP Analysis Low High
Leased Value 10,000 15,000
Leased Beds 6,950 6,950
Total Leased Value 69,500,000 104,250,000
Owned Value 80,000 110,000
Owned Beds 1,600 1,600
Total Owned Value 128,000,000 176,000,000
Combined Value 197,500,000 280,250,000
Debt 88,000,000 88,000,000
Net 109,500,000 192,250,000
Shares 6,458,836 6,458,836
Value per share $ 16.95 $ 29.77
*In July 2017, DVCR acquired a facility with 103 beds in Selma, AL for 8.75M or $85,000 per bed.
**Conservative range of $80-110K+ per bed, especially given some of the highest CMS Quality Measure ratings. (Legacy Centers average 4/5 Stars in CMS Quality Measures.)
*** 35% of DVCR Leased Beds are in Texas and Kentucky where average leased beds are typically valued in the $20-25K range. 2
Funds from Operations (FFO) Analysis:
Osmium believes Funds from Operations should range between $22-26 million in 2017 and $25-30 million in 2018 with continued efficiencies from Golden Living facilities and recent accretive acquisition of Selma, AL facility. We chose the midpoint of 8-9x EV/FFO to reach a valuation of approximately $18 per share in 2017 and $23 per share in 2018.
Exhibit 2: Diversicare Funds from Operations Analysis
DVCR FFO Analysis (mm) 2017 2018
Funds from Operations 24.0 28.0
8.5x FFO 204.0 238.0
Debt 88.0 88.0
Net 116.0 150.0
Shares 6.5 6.5
Price per share $ 17.96 $ 23.22
– price – skilled – nursing – facility – bed – rights/
Point 2: Discounted Cash Flow Model
In a Discounted Cash Flow Model, Diversicare is worth $17-$21 per share. We are assuming 2% revenue growth, 4-5% EBITDA margins, $8-10M in capital expenditures and working capital changes, 10% discount rate, and a terminal multiple of 8-9x.
Point 3: Simple Debt Pay Down Would Yield Substantial Equity Returns
Simply paying down debt over 4-5 years, while holding an 8-9x EV/FFO multiple, would yield a +28.4% annualized 5 year return or $33 share from the current share price. This requires zero FFO growth.
Exhibit 3: Diversicare Steady State Debt Pay down
Steady-State Debt Pay down 2017 2018 2019 2020 2021
FFO 24 24 24 24 24
Debt 88 64 40 16 -8
EV (8.5x FFO) 204 204 204 204 204
Debt 88 64 40 16 -8
MC 116 140 164 188 212
Shares 6.5 6.5 6.5 6.5 6.5
Price per share $ 17.96 $ 21.68 $ 25.39 $ 29.11 $ 32.82
Point 4: Value to Strategic Buyer
We believe that Diversicare would be an attractive target for companies such as National HealthCare ( NHC ) and Ensign ( ENSG ) who are primarily focused in skilled nursing. NHC composition of skilled nursing beds is 90% while Ensign’s is 80%. For example, NHC could achieve considerable synergistic scale while reducing public company costs and fixed corporate overhead by at least $5-10 million annually. If NHC were to acquire Diversicare, NHC ’s revenue could increase by 50% and EBITDA by over 30% with minimal synergies. A purchase price of $18 per share for Diversicare would represent less than 22% of NHC ’s enterprise value. Similarly, by purchasing Diversicare at $18 per share, Ensign could increase their revenue by 30% and EBITDA by 15% and acquire Diversicare for less than 15% of their current enterprise value .
Point 5: Dividend Case Study
Over the last three years, approximately 600 companies with market capitalizations between $10 million and $5 billion have increased their dividend payouts.
1. Over the last three years, the 600 companies that increased their dividends, saw their stock price increase by 43% vs. 30% for the relevant IWM index.
2. Companies that increased their dividend by 40%or more saw their stock price increase on average by 53%.
3. Companies that increased their dividend by 100% or more, saw their stock price increase on average by 67% (this excluded a retail stock BBBY, including BBBY the returns were +57%).
Clearly increasing dividends has shown to be an extremely effective tool that resonates with shareholders. On average, companies that increased their dividends, significantly outperformed the Russell 2000 index.
To conclude, we believe our suggestion to increase the annual dividend to $1.00 per share A) provides for a clear path forward and is readily executable, B) will contribute in closing the wide gap between current market prices and fair value, C) will help increase underlying trading volumes so that the company can enjoy the benefits of being publicly traded and D) achieves a balanced and fair outcome for all parties involved, including the company, shareholders, customers, and employees.
The American Way – Al Angrisani
In summary, I am frequently criticized for my strict—almost religious—adherence to the belief that the Board, management team and employees all work for the shareholders and that the shareholders MUST make money on their risk capital before we share in the fruits of our labor or equity appreciation in the company.After all, the fundamental truth of capitalism is that risk capital must be rewarded, or capitalism will cease to be capitalism because the investor will stop investing.
John H. Lewis