Residential aged care has recently been in the news for all the wrong reasons, with headlines due to the particularly heavy impact of COVID-19 on
this sector, the interim findings of the Royal Commission into Aged Care Quality and Safety and the alarming declaration by Leading Age Services
Australia that a pre-COVID-19 accounting review indicating that almost 200 nursing homes housing some 50,000 people were operating at an
unacceptably high risk of insolvency – a finding supported by the recently released report by the Aged Care Financing Authority (ACFA) which found
“nearly all residential providers consulted said that their financial results had deteriorated in 2019-20”.
Australia’s aged care industry operates within a strict and complex legislative scheme under the Aged Care Act 1997 (Cth). It’s an industry that makes
an impact – providing services to over 1.3 million Australians and generating annual revenues totalling over $24.4 billion (about 1% of GDP). The
industry is heavily reliant on taxpayer funding, receiving $19.9 billion in Commonwealth funding in 2018-19, an increase of 10% from 2017-18. Almost
66% of total funding ($13.0 billion) was for residential care. A national benchmarking review conducted in March 2020 indicated that 60% of the aged
care homes recorded an operating loss with 34% recording an Earnings Before Interest, Tax and Depreciation (EBITDA) loss.
It’s also an industry that can see the writing on the wall – recent research conducted by ACFA illustrates that the industry expects an ongoing process
of rationalisation and consolidation within the sector. This process is highly unlikely to occur through takeovers or acquisitions due to the low margins
and significant liabilities taken on by an incoming provider. Instead, we expect to see the industry rely on highly skilled insolvency practitioners to utilise
insolvency regimes (in particular the voluntary administration process) in combination with close engagement with the relevant Commonwealth
departments to effect consolidation within the industry – a process which can be used to obtain a great effect as seen in our recent role in the successful
sale of the luxury residential aged care facility previously operated by the Berrington Care Group (BCG) to Bethanie.
Residential aged care – a shaky balancing act
The financial position of the industry was finely balanced before COVID-19, and while additional Commonwealth funding has been rolled out to assist
the industry, it is more likely than not that the industry will see a “very significant financial impact”.
Further financial pressure will be exerted by the scrutiny and uncertainty, and eventual major reform, arising from the ongoing Royal Commission.
The average EBITDA per resident for residential care providers fell by 24% in 2017-18 and decreased slightly by a further 2.5% in 2018-19. The
number of residential providers reporting a loss in 2018-19 was 42%.
The 2018-19 financial results of residential care providers were supported by the Government’s one-off $320 million increase in the Aged Care Financing Instrument (ACFI) in the final quarter of that year. In the absence of this one-off funding increase, the overall financial performance of residential care providers would have deteriorated more significantly in 2018-19 to an EBITDA of about $7,000, or a 20% decrease from 2017-18.
A small decline in occupancy rates can have a significant impact on the financial results of providers, especially smaller facilities. A number of providers consulted said they were experiencing further declines in occupancy; they attributed the decline to the increase in home care packages and the concerns raised during the Royal Commission over the quality of care. Some also said there was an excess supply of residential beds in some areas. Older facilities were experiencing the biggest falls in occupancy, demonstrating that they have less appeal to consumers when compared with newer or refurbished facilities. Adding to this is the major risk facing residential aged care providers of the spread of COVID-19 in a facility, which may lead to a sizeable decline in occupancy if departures are not matched by new admissions. This could have a major impact on the financial performance of the facility and provider liquidity.
Funding of a low margin industry – an age old problem
Funding of residential aged care is complex and unusual, involving a mix of user-pays, secured financing, unsecured interest free loans from residents (Residential Accommodation Deposit (RADs), capital investment support through grants from the Commonwealth, capital endowments and Commonwealth subsidisation and allowances.
The most significant form of funding for capital investment for most residential aged care providers is from the RAD system – effectively upon entry to a facility, residents pay an interest-free loan to the provider which is returned to the resident (or their estate) upon their exit. As at 30 June 2019, $30.2 billion of accommodation deposits are held by providers with an average value of $318,000 per resident.
RADs are unsecured loans backed by a Commonwealth guarantee scheme in favour of the resident. Providers are entitled to, and do, use the funds derived from RADs paid in to pay down bridging loans and to fund building and improvements among other expenses. As a result, RADs are often a balance sheet liability, due to be refunded (minus certain fees and charges) upon the exit of a resident. With the average provider holding RADs of between 33-62% of their total balance sheet position, the existence of the Guarantee Scheme and understanding how it may be structured into a transaction, is imperative.
The prognosis – deteriorating condition
Before COVID-19, the outlook for 60% of providers in the residential aged care sector looked dire. It can only be assumed that this position will worsen due to the pandemic and consolidation and rationalisation of this sector is expected to increase with providers relying on insolvency regimes such as voluntary administration to help facilitate restructures and business sales.