The twilight shadows of Southern Cross have today grown longer, as news emerges that the troubled care home chain is to shut down. The chill of closure will be felt most keenly by the 31,000 vulnerable residents and their families, but the shadow is a long one. Southern Cross’s opco-propco business model, which separates out the operating interest, Southern Cross, from the property owning interests, the care home landlords, has become increasingly popular over the last decade A number of health and care businesses have adopted a similar approach, including the private hospital and ISTC operator Circle, tipped to take over operation of the bust NHS Hinchingbrooke Hospital later this year. Could the cross of Southern’s shadow extend as far as, even cross, Circle’s circle? Almost certainly, the answer is yes.
Last month, Circle floated on the London Stock Exchange’s AIM (Alternative Investment Market), ostensibly to raise funds. As part of the flotation, Circle produced an AIM Admission Document, which sets down certain details of its structure, operations and accounts, and acts as a prospectus for the flotation. Circle’s AIM Admission Document is available here, and it makes, as the Chinese would say, ‘interesting reading’.
The first thing to strike the financially naïve Dr No about this almost 300 page document is its complexity, and within that, the complexity of the Circle Group structure. Far from being a simple company, Circle is a spotted dick of an entity, studded with holding currants here, subsidiary currants there, not to mention non-group currants over there. The entity that we know as Circle, the ‘operator of NHS and independent healthcare facilities’ is in fact owned by two other entities.
The first of these is the much vaunted John Lewis style ‘social enterprise’ Circle Partnership Ltd, which in turn is owned by Circle clinicians, employees and other Circle ‘partners’. But Circle Partnership only owns 49.9% of Circle: the majority holding (50.1% – but oh what a difference 0.2% can make) is by Circle Holdings plc, an investment vehicle owned by a collection of financiers. The majority interest in Circle, it turns out, the entity which was floated on the AIM, is all about making money – which doesn’t sound so very ‘social’ after all. But – hey! – not to worry – just think of all that Corporation Tax rolling into the Treasury coffers.
Now, as it happens, not so long ago, Mr Anti Pasta, the olive headed ex Goldman Sachs tycoon behind Circle, somewhat cryptically suggested – apparently in a spirit of private sector shrift – that Circle would succeed where the NHS had failed because it was “very good at is asking how to make the money go a long way”. As Dr No continued to study the Admission Document, he read that the controlling interests in Circle are incorporated not in England, but in tax havens – Circle Holdings in Jersey, and Circle Partnership in the British Virgin Islands. Ah! – thought Dr No: perhaps that’s what Mr Pasta meant by knowing how to “how to make the money go a long way”… a long, long way from the UK Treasury, to be sure. Maybe the accent really is more on the enterprise rather than social side of the concern…
As Dr No continued, stiff scotch and water in hand, to read the Admission Document, it became clear that Circle’s off-shore identity wasn’t the only ‘off’ thing about the group. Circle (Circle Partnership and Circle Holdings) is the ‘opco’ side of the business – the operator of the health care facilities. The ‘propco’ side of the business – the side that owns the bricks and mortar – is ‘off balance sheet’, in so called SPVs – special purpose vehicles.
SPVs – not, as one might imagine, Lear jets used to ‘make the money go a long way’, perhaps to certain off-shore islands – are supposed to achieve a number of objectives. By parcelling up the property side in its own entity, and so off the opco balance sheet, the bricks and mortar are protected, should the inherently more risky opco, as they saying has it, head south. This protection, in turn, makes it easier to secure finance, and usually on better terms, for the propco.
But – and these are big buts – the opco is almost always tied to the propco by a long – maybe 25 year – lease, with a so-called ratchet upward only rent reviews – the rental equivalent of having one’s arm twisted ever upwards. Both Southern Cross (the opco) and Circle (the opco) are, or now in Southern Cross’s case were, locked into just such lease arrangements. And naturally, everything is just fine, so long as the opco has the revenue to pay the rent. But opcos tend to run on tight margins, and if something changes – and it doesn’t take much: Southern Cross’s bed occupancy only dropped by only a few percent, from 92 to 85% – then the opco will be unable to pay the rent. Not having any significant assets of its own – the bricks and mortar are off the balance sheet, tucked away in the propco – the opco is caught, rather too literally for comfort, between a rock and a hard place. All too soon, the opco becomes a popco. It goes pop – bust – just as Southern Cross has.
Circle – which has yet to make a profit – is, as the Admission Document reveals, operating on a very similar business model to that used by Southern Cross. How long, Dr No wonders, will it be before Southern’s shadow crosses the Circle?