As is well-known in the healthcare transactions world, the baseline metric for the valuation of skilled nursing facilities is the amount of Net Operating Income generated by operations, or more specifically, EBITDAR, measured by the sum of Earnings before Interest, Taxes, Depreciation, Amortization and Rent, divided by rates of return specific to the nursing home industry (known as the “Capitalization Rates” or “Cap Rates”). Cap Rates are derived from historical nursing home sales data. This formula is known as the Income Capitalization Model. It is the standard tool used to determine baseline and back of the envelope pricing in the sale of nursing homes. It is based on the premise that asset value is predicated on the amount of free and clear cash flow a business generates per year. The nursing home industry’s historical capitalization rates range from 12.0% to 14.0%. In the current market, the Cap Rate for the sale of skilled nursing facilities is probably around 12.5%, maybe even lower.
However, a back of the envelope singular calculation is insufficient: In arriving at a composite valuation, it is necessary to adjust the baseline EBITDAR valuation calculation (determined by the Income Capitalization Model) up and down by estimating the effect of certain internal and external variables on pricing, independent of the financial and operational antecedents. While it is hard to separate cause from effect here, but that is necessary for analytic purposes because nursing home sale valuations are multifactorial. Accordingly, these primary internal and external variables can increase or detract from value as shown below:
Increasers to Value:
1. Newly constructed building.
2. Spacious facility.
3. Ability to Expand physical plant
4. Visibility from Road
5. Private and Semiprivate Rooms
6. Presence of State Certificate of Need Process or Medicaid Moratorium
7. Located in Deep Demographic market
8. Favorable Medicaid Reimbursement for Capital
9. Close to Acute Care Hospitals
Reducers of Value:
1. Old building, particularly physical plants before 1970.
2. Postage stamp property with no ability to expand
3. Lack of space for rehab and storage
4. Limited or no road visibility
5. Three-bed and Four-bed rooms
6. No Certificate of Need process or Medicaid Moratorium controlling new construction
7. Previous attempts to sell failed
8. History of poor surveys. Watch List
9. Unfavorable Workers’ Compensation History
10. Located in Sparsely Populated Rural Market