Urges Other Kindred Shareholders to Vote
“NO” on Ill-Timed Sale
ISS Acknowledges Brigade’s Concerns About
Sale Process and ‘Board could have negotiated better deal’
Brigade Capital Management, LP (“Brigade”), on behalf of funds
managed by it, today released its letter to the CEO and Board of
Directors (the “Board”) of Kindred Healthcare, Inc. (NYSE:KND)
(“Kindred” or the “Company”) definitively stating its intention to
vote “NO” to the proposed acquisition of the Company by a
consortium of Humana, TPG Capital and Welsh, Carson, Anderson &
Stowe. In its letter, Brigade cited the following reasons for its
opposition:
- the ill-timed sale short-changes
stockholders and transfers significant value to the buyers;
and
- suspicious downward revisions to
Kindred’s projections raise serious questions about management’s
motivation, which Kindred’s pre-merger disclosures fail to address,
let alone answer.
The letter details Brigade’s view that the sale is ill timed and
provides specific examples of the shortcomings in management’s
projections and motivations relating to the transaction. A copy of
the letter accompanies this press release.
Brigade applauded Institutional Shareholder Services
(“ISS”) for acknowledging concerns in its March 16, 2018
report over the sales process and the lack of premium offered in
the proposed transaction. Brigade stated that ISS seemingly placed
undue weight on management’s and the Board’s self-interested and
newly revised view that remaining independent outweighs the risks
of navigating the regulatory environment and managing its capital
structure. ISS stated at the current offer price the acquirer group
has the potential to earn a substantial return on its investment,
which return Brigade contends the shareholders are not being paid
for at the current transaction price. ISS also does not address
management’s lack of explanation for the seemingly self-serving
series of downward adjustments to its projections used in the
fairness opinion analysis, thereby skewing those conclusions.
In its letter, Brigade urges other Kindred shareholders to vote
“NO” to the proposed transaction and urges the Board and management
to immediately evaluate and reconstitute themselves with new
members who are focused on building rather than selling the
Company, and who are mandated to follow the pre-transaction
strategic direction previously outlined by management.
On December 19, 2017, Kindred announced it entered into an
agreement and plan of merger with affiliates of Humana, TPG Capital
and Welsh, Carson, Anderson & Stowe. On December 27, 2017,
Brigade announced its opposition to the proposed acquisition in a
letter to the Board. In that letter, which remains unanswered,
Brigade voiced its intention to vote against the proposed
acquisition and asked the Board to reconsider its decision, based
on Brigade’s belief that the proposed sale severely undervalues the
Company and ensures that the buyers – rather than existing
shareholders – will reap the benefits of the value enhancement the
improved Kindred business is expected to generate. Kindred has
since filed proxy materials partially detailing the background and
reasoning for the proposed sale. However, after its review of these
materials, Brigade believes even more strongly that the proposed
acquisition is ill timed and value minimizing.
On March 8, 2018, funds managed by Brigade filed a lawsuit in
the Delaware Court of Chancery against the Board and certain other
parties alleging breaches of fiduciary duties and related causes of
action, and seeking to preliminarily and permanently enjoin the
March 29, 2018 vote of Kindred shareholders on the proposed
acquisition. Brigade intends to vigorously prosecute the action to
protect its investors from the consequences of the breaches of
fiduciary duties if the proposed acquisition is allowed to
close.
March 19, 2018
Benjamin A. BreierPresident and Chief Executive OfficerKindred
Healthcare, Inc.680 South Fourth StreetLouisville, Kentucky
40202
Re: Acquisition of Kindred Healthcare by TPG Capital,
LLC, Welsh, Carson, Anderson & Stowe and Humana Inc. for $9.00
per Share
Dear Mr. Breier:
As you know, we are long-term shareholders of Kindred
Healthcare, Inc. (“Kindred” or the “Company”). Funds managed by us
presently own 5.7% of the outstanding shares of Kindred’s common
stock.
We write to express our continued opposition to the proposed
acquisition of Kindred by TPG, WCAS and Humana. For the reasons set
forth in our December 27, 2017 open letter, and in light of the
Board’s inadequate and misleading proxy disclosures, we intend to
vote against the proposed acquisition and urge other Kindred
shareholders to do the same.
We are aware that Institutional Shareholder Services (“ISS”)
issued their report on March 16, 2018, recommending a vote for the
proposed transaction. We think it is telling that ISS highlights
concerns over the sales process and the lack of premium offered in
the proposed transaction, and that ISS believes at the current $9
per share purchase price “the acquirer group has the potential to
earn a substantial return on its investment.” We respectfully
disagree, however, with ISS’s apprehension about Kindred remaining
independent and its recommendation to Kindred shareholders to
accept this inadequate transaction. ISS acknowledges our point that
the “Board could have negotiated a better deal [for] shareholders,
especially after CMS decided not to move forward with its proposal
to reduce reimbursement rates.” ISS, however, appears to place
undue weight on management’s and the Board’s self-interested view
that remaining independent outweighs the risks of rewarding
Kindred’s existing shareholders by navigating the regulatory
environment and managing the Company’s capital structure.
Management has highlighted on numerous investor conference calls
that Kindred has made substantial progress moving past the
distractions associated with its business unit restructuring and
the complicated divestiture of its skilled nursing facilities.
Building on that positive momentum and factoring in the improved
regulatory and tax environment, Kindred is positioned to remain a
strong standalone company, with the tools to drive improved cash
flow and significant incremental value for its existing
shareholders. Furthermore, as we discuss below, we think it is
important for management to explain to its shareholders (and ISS)
why it made a series of downward adjustments to the financial
forecast used in the fairness analysis and discuss in detail how
the Tax Cuts and Jobs Act of 2017 is expected to positively impact
Kindred’s unleveraged free cash profile (which was not used in the
fairness opinion analysis) going forward.
The Ill-Timed Sale Short-Changes
Stockholders and Transfers Significant Value to the
Buyers
In our December 27 letter, which went unanswered, we implored
the Board to reconsider its ill-timed and value-minimizing decision
to sell. Rather than consummate a sale that harms shareholders,
Kindred should instead focus its efforts on its repeatedly stated
goal to investors – generating shareholder value as an independent
going concern. The Company has ample liquidity, a flexible capital
structure and is on a path to generate significant core free cash
flow from continuing operations and deleverage its balance sheet.
Significant disruptions, like the now-moot CMS Home Health
Groupings Model (“HHGM”) Proposal and the one-time effects of
Hurricanes Harvey and Irma in the third quarter of 2017, are in the
rear-view mirror. The Company shed its low-multiple Skilled Nursing
business, the full economic benefits of which have yet to be
recognized. And a restructured captive insurance entity has freed
up over $280 million to pay down debt and strengthen the balance
sheet.
Against this backdrop, the 27% premium over Kindred’s 90-day
VWAP as of December 15, 2017 is highly misleading, and certainly
does not justify a $9 per share valuation. The market price of
Kindred’s stock in the three months prior to December 15 was
totally unmoored from the Company’s intrinsic value. The downward
pressure on the Company’s stock price, as Kindred completed its
restructuring and weathered temporary headwinds, only fully
dissipated late last year, and Kindred is positioned for
significant stock price appreciation. This is the story management
has been articulating to investors for the last two years, further
illustrated by the fact that the Company’s stock price closed at
$8.60 per share the last trading day before the transaction was
announced, and has consistently traded above $9 ever since (closing
at $9.45 per share last Friday).
By rushing headlong into a sale, the Board has missed out on
numerous opportunities to maximize value in an improving business
and regulatory environment.
- Most critically, the Board and
management did not go back to the bargaining table following CMS’s
decision to not finalize the HHGM Proposal, removing a significant
overhang. We view this as an abrogation of the Board’s basic duty
to secure maximum value for Kindred’s existing shareholders.
- Meanwhile, the Bipartisan Balance
Budget Act of 2018 (“BBA”) significantly improves the Company’s
near-term earnings visibility and provides Kindred with additional
time and flexibility to minimize disruption caused by regulatory
policy changes. As a result, the BBA reduces risk and drives
incremental shareholder value. But the proposed transaction was
approved and announced shortly before the BBA was signed into
law.
- The Board also seems willing to ignore
the significant positive impact the Tax Cuts and Jobs Act of 2017
(the “Tax Bill”) is expected to have on Kindred’s go-forward cash
flow and, in turn, value. The Company’s own supplemental proxy,
issued on March 6, illustrates that Kindred’s unlevered free cash
is expected to increase by over $50 million per year as a result of
the Tax Bill. The supplemental proxy also makes clear, however,
that this materially improved unleveraged free cash flow forecast
was not used in the fairness analysis performed to evaluate the
proposed transaction.
- Tellingly, since December 15th (the
last trading day before news of the transaction was released),
valuations of Kindred’s publicly traded Homecare- and
Facilities-focused peers have increased materially. Assuming
Kindred’s stock price had not been artificially constrained by the
proposed transaction and instead was able to fully realize the
benefits of the improved regulatory and tax environment now buoying
its publicly traded peer group, Kindred stock could trade in the
mid-teens when evaluated in a similar manner.1
By failing to capitalize on these and other material positive
developments, the Board is passing on to the buyers meaningful
value that rightly belongs to Kindred’s shareholders. This lack of
effort on behalf of Kindred’s owners is disappointing in light of
the Company’s repeated promises that long-term shareholders would
be rewarded for their loyalty, as Kindred put its restructuring
behind it and turned the corner into 2018. If the proposed
transaction is approved on March 29, stockholders will be left with
nothing more than $9 per share and these hollow promises.
Convenient Downward Revisions to
Kindred’s Projections Raise Questions about Management’s
Motivation, Which the Company’s Pre-Merger Disclosures Fail to
Address, Let Alone Answer
We expressed hope on December 27 that the Company’s proxy
materials would give the critical details necessary to justify a $9
per share sale price. Having reviewed these proxy materials in
detail, however, it is now clear that the case for selling the
Company is even weaker than we first believed.
We are most troubled by management’s conveniently timed December
15, 2017 decision to include several downward adjustments to the
Company’s five-year forecast that was provided to Kindred’s
financial advisors as a basis for their fairness analyses. This
occurred shortly after management began negotiating their
go-forward employment contracts with the buyer group. But it also
occurred after CMS decided not to finalize its HHGM Proposal. The
tension is obvious. With perhaps the Company’s strongest headwind
removed, it would be reasonable to revise future projections
upwards, in an attempt to secure more value from a sale. But the
opposite happened. Then, after these downward revisions, management
also recommended or approved the use of several additional
conservative assumptions in the fairness opinions analysis,
including treating stock option expenses as cash, equating
(contrary to guidance) depreciation to CapEx, and using a terminal
growth rate below inflation and the compound annual growth rate of
the business during the 2017-2022 period, even with the above-noted
downward adjustments already incorporated into the forecast. The
proxy materials provide no explanation or discussion of the drivers
behind this bleak outlook.
Because the proxy materials do not disclose any analysis to
justify these revised assumptions, we are left to wonder whether
management with newfound skin in the game had an incentive to
incorporate a more pessimistic outlook into the financial
projections to support a $9 per share valuation. The silence in the
proxies is deafening, particularly in light of the fact that the
proxies also do not disclose senior management’s go-forward
compensation and employment agreements with the acquirers. Given
the suspicious timing, and with management’s incentives divorced
from the shareholders’ interests, the Company needs to (at a
minimum) make significant additional disclosures regarding
management’s fresh conservatism, including the key assumptions
provided by management in forecasting the future performance of the
Company’s major business segments. Shareholders also deserve to
know how, if at all, members of senior management with a role in
the successor companies are rolling their stock and getting paid
going forward, if these executives are at the same time telling
Kindred’s owners to be happy with $9 per share. Without this
information, it is simply impossible for us, or any other Kindred
shareholder, to cast an informed vote in favor of the
transaction.
The proxy also fails to disclose critical information about the
process put in place to protect against a conflicted Kindred
director who is also affiliated with TPG. We are presently pursuing
expedited discovery in the Delaware Court of Chancery to evaluate
this conflict and whether it undermined the Board’s sales process
and/or prevented the Board from maximizing price. We emphasize here
that filing suit was not our preferred path, nor is shareholder
activism our preferred strategy. But we have a responsibility to
our investors to protect them from what we see as clear
consequences of the Board’s breaches of its fiduciary duties,
including in connection with a potential debilitating conflict.
Reject the Proposed Transaction and
Request that the Board Immediately Begin a Reconstitution
Program
In light of this ill-timed transaction that plainly and
materially undervalues the Company, we urge Kindred shareholders to
reject $9 per share and vote against the transaction. The Company
is poised for improved growth and stronger free cash flow
generation, which can be used to deleverage and drive material
share price appreciation. Kindred has ample liquidity, no near-term
funded debt maturities, and will have the ability to refinance its
relatively high-cost-fixed-rate debt (and can thus avoid paying the
significant early redemption penalties that are contemplated and
factored into the proposed transaction). Furthermore, there is a $5
to $6.64 per share cost related to splitting up the Company (as set
forth in the proxy materials) – which the buyers will incur if the
merger is consummated and therefore will have surely factored into
their valuation of Kindred when coming up with the $9 per share bid
– which will be avoided by voting against the transaction. These
cost savings will drive immediate shareholder value.
* * * * *
Should shareholders reject the proposed transaction, we expect
the Company and the Board to begin an orderly transition to new
leadership via a prompt board refreshment program and thorough
review of the Company’s senior leadership and strategic direction,
aided by the numerous favorable regulatory developments highlighted
in this letter. We believe the Board should conduct its own
thoughtful evaluation of its membership. The Board should nominate
directors who rightly focus on creating meaningful, rather than
lackluster, shareholder value, and who engage and then mandate a
capable management team that believes in and can execute upon the
strategic direction outlined by the Company over the last two
years. Indeed, the Board is obligated by its fiduciary duties to
nominate candidates who possess these characteristics and who are
qualified to steward the Company in this strategic direction. And,
it is up to us, as the very essence of corporate democracy, to
exercise our franchise as shareholders by voting in support of
candidates we deem qualified.
The Board needs new perspectives and additional focus on holding
senior leadership accountable for performance, relative to
reasonable Board-approved expectations. Improved investor
communication coupled with execution against clearly defined
clinical quality and financial targets will drive material
shareholder value and serve to increase the attractiveness of
Kindred to potential business partners and/or acquirers at a more
appropriate time and at a valuation that more accurately reflects
Kindred’s present business and bright future prospects.
Rejecting the proposed transaction and taking a fresh look at
Kindred leadership is the only step open to Kindred shareholders to
ensure that their interests are protected. We would embrace the
opportunity to open a dialogue with the Board about these issues,
and welcome any questions directly from any member of the
Board.
Kind regards,
Donald E. Morgan, III
cc: The Board of Directors
About Brigade Capital Management, LP
Brigade Capital Management, LP is an SEC-registered investment
advisor focusing on investing in the global high-yield market and
levered equities. The firm was founded in 2006 and is managed by
Donald E. Morgan, III, CIO and Managing Partner. The firm is
headquartered in New York City with offices in the United Kingdom,
Japan and Australia. The firm employs a multi-strategy, multi-asset
class investment approach focused on leveraged balance sheets. The
core strategies include long/short credit, distressed debt, capital
structure arbitrage and levered equities. Brigade Capital
Management, LP’s investment process is fundamentally driven,
focusing on asset coverage and free cash flow, with an emphasis on
capital preservation. The team possesses deep sector expertise
throughout the entire leveraged finance market and has extensive
experience in capital restructurings and bankruptcy
reorganization.
1 Uses data from Bloomberg and assumes an increase in Kindred’s
enterprise value in line with the average percent change in
enterprise value for the Company’s Homecare (Addus Homecare,
Amedisys, Chemed and LHC Group) and Facilities (Encompass Health,
Ensign Group, and Select Medical Holdings) focused peer group,
weighted by the proportional pre-corporate core segment adjusted
operating income contribution to Kindred from these business
segments.
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Media:Sard Verbinnen & Co.Paul Scarpetta, 212-687-8080
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