A World Away
While a run on a Hong Kong bank in the 1980s because of a long line at the bakery next door may or may not have happened, bad behavior in financial matters is a regular feature and comes in a variety of flavors.
Imagine, now, sitting down for a croissant in the shade of the Opera House in Place Graslin in Nantes – in the spiritual home of butter and pastries – and thinking “why would anyone ever wait in line for a croissant? They practically grow on trees?” Then, paging down the newspaper to digest another sordid crisis. This one about a French nursing facility, retirement home and health clinic operator called Orpea. Its wrap-sheet ranges from “closeness” with senior health ministers and kick-back schemes, to employing fake caregivers, to negligent care and mistreatment of residents. C’est horrible!
On one hand, you’re a French healthcare company and since the government pays most of your invoices, it is “the customer.” And it’s easier to pay kick-backs to corrupt officials than, you know, take care of sick people. On the other hand, the government is paying you to take care of the elderly and infirm and they, and their families and their voting compatriots, get a say and they generally don’t like it when companies mistreat folks and steal money. When companies do things like this, they often go out of business. Rightfully so.
A three-year investigation into Orpea resulted in a lengthy public expose detailing the mess called “The Gravediggers.” The scandal has just about wiped-out shareholders. Price has fallen 98%. The company is in administration (the equivalent of bankruptcy) and there’s unlikely to be anything left for shareholders in the end.
Investors in Orpea ran for the exits. This made sense. It didn’t look like there’d be anything left for them. Orpea shareholders made rational decisions, but just like in bank runs, behavior can be contagious. And what was rational for Orpea shareholders was less so for shareholders of Orpea’s peers. Investors also ran for the exits in other elder-care operators untouched by the scandal. The share prices of those companies also cratered. LCM’s interest fell to one of those smaller peers, based in Nantes and free from any whiff of scandal. Despite this, investors still found cause to sell the shares down 50%.
Maybe investors could justify the sell-off? Did performance falter or was it overvalued to start?
The bulk of the company’s business – just under half – comes from nursing operations. Another third comes from medical and rehabilitation services and the last bit comes from home care operations. It, like its peers, got smacked by COVID and occupancy dropped – mostly because people viewed these communities as riskier incubators of the virus, so stayed away if they could. Even during the depths of the pandemic, though, this meant that only about 20% of its beds went empty. The nature of its customers is, after all, long-term – residents are under contract and loathe to move. It has since recovered – occupancy climbed to 97% at the end of 2022.
But what about broader economic currents? Will customers be able to pay if things slow down?
The French government is a pretty reliable customer in terms of payments, so this isn’t a big issue unless it turns out the company is doing all sorts of immoral and illegal things. In 2022, a gloomy economic year for Europe, the company expanded its facilities. It was able to increase occupancy too. It also captured more Euros per bed. All these trends support a stable business in a cloudy climate.
Sure, beds and occupancy are important – that’s where the revenue comes from, but expenses matter too. Has inflation chipped away at the company’s profitability? Is there a labor shortage among French healthcare workers like in the US?
Well, “yes” and “yes.” The company’s ability to link the daisy chain from beds to cash flow took some knocks over the past few years. Margin has slipped a bit since its peak, but has been generally improving since the pandemic trough. As for labor, the company has prioritized attracting and refreshing its labor force, so that, within the industry, workers view it as a desirable destination to end up. It has been successful at bringing on and keeping talent.
Importantly to LCM, nearly all of that profit goes right to cash. And the price for that cash, after the shares dropped, is attractive. The company generates about a quarter of its share price in cash each year at the current price. Over the past four years, it’s ginned up 130% of its share price in cash. Last year, on the heels of the pandemic saga, it returned to growing that stream.
So, even if the company did very little, but stand still for the next four years, it would still generate enough cash to match its share price. Investors hold very low expectations of the company – they seem to be waiting for some Orpea-type shoe to drop without any evidence.