What Is Hillhaven Doing Right?

TACOMA

Here's a quiz.

It's the third-largest private employer based in Washington. It's only 18 months old, a publicly traded company that has yet to pay a dividend and does not expect more than break-even earnings for at least two more years.

And yet, analysts are crazy about its stock. Can you name the company?

The Hillhaven Corp. is the country's second-biggest provider of long-term health care. It runs 361 nursing homes in 37 states, employing about 40,000 people - ranking it second to Beverly Enterprises, based in Fort Smith, Ark. Beverly operates about 900 nursing homes.

Strictly regulated and reliant on government reimbursements, the nursing-home business is a difficult one. But Hillhaven is in an enviable position, controlling a tight supply of nursing homes, as the elderly population expands. Analysts like the company's fundamentals.

"Hillhaven's stock has tremendous long-term potential," says Peter Costa, of Tucker Anthony in Boston. "At some point, these will be trading at double the price or higher."

Hillhaven President Chris Marker is pleased with the company's course, so far. Spun off by National Medical Enterprises last year, Hillhaven is following a strategy of buying back the nursing homes it leases from National Medical, a course which will eventually enhance earnings.

Meanwhile, labor costs have been kept in check by the recession. Labor makes up 65 percent of Hillhaven's total costs,

and, its 26,000 entry-level workers, from kitchen help to house cleaners in nursing homes, are always tempted to find greener pastures in fast-food chains that pay wages slightly higher than the minimum, when times are good, says Marker.

The company also is chasing other revenue sources by providing rehabilitation care in its nursing homes for patients of all ages.

Marker, a former hotel executive, has the job of guiding the nursing-home business into the late 20th century.

"There is a great deal of tradition and bureaucracy in this business," he says. "If we are going to have an efficient system, we have to do things differently from the way we have done things in the past."

"I believe it's beginning to pay off," Marker continues. "When we do begin generating earnings, we have a better-than-even chance to show some very good results."

Hillhaven got its start here in 1946, when James Hill built his first nursing home. In 1979, the company was bought by National Medical, the nation's second-largest operator of hospitals and a Fortune 500 company. National Medical spun off Hillhaven last year, believing the stock value of a separate nursing-home company would fare better in the market, says Tim Carroll, Hillhaven head of investor relations.

The stock started trading on the American Stock Exchange at $1.62. It has been down to 87.5 cents, and as high as $3.12. It closed yesterday at $2.75.

Nursing homes make up 90 percent of Hillhaven's revenue, which totaled $1.2 billion at the end of its first full fiscal year, May 31. Hillhaven also owns retirement housing - about 2,800 apartment units in 14 states - that make up just 5 percent of its total revenue.

The remaining 5 percent comes from another subsidiary, Medisave Pharmacy, a retail pharmacy chain.

Central to Hillhaven's strategy is its plan to buy nursing homes it leases from National Medical. The deal requires Hillhaven to pay National Medical a base rent for each facility it still leases. Additional rent is paid, based on each facility's annual revenue. That keeps the rent affordable and gives Hillhaven needed cash flow.

Hillhaven uses its cash to buy back nursing homes, thereby reducing the amount of rent it pays National Medical. That's why earnings on its $1.2 billion revenue were only $1.8 million last year.

So far, the company has bought 19 homes under the plan, ahead of most analysts' expectations. Hillhaven leases one-third of all its homes from National Medical; owns another third; and leases the final third from other owners.

Analysts predict Hillhaven will buy enough homes from National Medical and enhance earnings to begin paying dividends by mid-1994, says Marker.

Costa, for one, says Hillhaven is in the comfortable position of expanding, at a time when demand for nursing homes is growing - and competition remains relatively flat.

Hillhaven is working to build its revenues by trying to get more private-pay clients. Only 29 percent of its clients pay their nursing-home costs, which can top $25,500 a year, from their own pockets or private insurance. A big chunk of clients, 58 percent, are subsidized by Medicaid, and 13 percent by Medicare.

The company loses $75 million a year on unreimbursed Medicaid payments, says Marker.

Medicaid rates, however, did improve last year. Medicare reimbursements also rose dramatically, Marker says. Costa likes the fact that states where Hillhaven has many nursing homes, like Massachusetts and North Carolina, have higher Medicaid reimbursement rates than most other states.

Still, Hillhaven has its share of concerns and black eyes.

Marker says labor costs are bound to rise, when the recession is over. Then, there are the myriad violations of state nursing- home standards for which Hillhaven's Washington homes have been cited.

Since 1987, seven of Hillhaven's 14 Washington homes have been cited for various violations. The most recent was Arden Nursing Home, in Seattle, fined $3,000 in March for "inadequate assessment of resident needs," says Cathy Wiggins, director of nursing home services for the Department of Social and Health Services. Hillhaven has appealed the fine, says Wiggins. Problems at other homes were corrected, but Wiggins says she was concerned last summer, that the problems were becoming a pattern.

"We have had informal conversations with management, when there were serious problems," Wiggins says. "It seems to have eased off a bit. They have the capacity to fix things quickly; to bring in corporate consultants. I just wished they did that for quality assurance upfront."

Marker admits there have been problems, but most have been corrected quickly, he says. "We support the (regulation) system and work with it," he says. "But it will take awhile for the system to become as perfect as it can be."