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Despite potential gain, big questions surround HCP spinoff


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Despite potential gain, big questions surround HCP spinoff

For , the spinoff of properties leased to troubled operator HCR ManorCaremay be addition by subtraction. But shareholders who will own stock in both companiesmay have cause to doubt the move, analysts said after the transaction was announced.

Talkof the spinoff dominatedthe company's extended earnings conference call,but several key questions remained unanswered, including the new REIT's capitalstructure and business strategy, and even whether it will remain a REIT over thelong term.

On thepositive side, analysts said the spinoff should streamline HCP and remove a majorsource of investor anxiety. Yet even those who liked the deal bemoaned a lack ofspecific details, and skeptics said the upside for shareholders is unclear, giventhe new REIT's uncertain future.

"Atbest, it's a zero-sum game" Stifel's Chad Vanacore wrote, adding that whileHCP minus the ManorCare properties may trade at a stronger multiple, the SpinCo'svaluation will suffer because it will inherit the weakest assets in the portfolio.At worst, he continued, the spinoff could destroy value by adding head count andadministrative expenses in the new REIT, plus transaction costs and other expenses.

Thoseissues — coupled with changes to company leadership announced the same morning — made for a busy unveiling.

Below,a few of the spinoff questions that HCP investors will be trying to answer in thecoming months:

Can a SpinCo succeed where othershave failed?

In thecall's question-and-answer session, Goldman Sachs analyst Andrew Rosivach notedunderperformance by Washington Prime Group — a spinoff of Simon Property Group Inc. that later morphed into — and of spinoff

The intendedCEO of the HCP spinoff, Mark Ordan, held the same role at Washington Prime, andCare Capital's portfolio is also focused in skilled nursing, a subsector that hasbeen making investors in the large diversified health care REITs uneasy becauseof a changing government reimbursement landscape.

Rosivachsaid skilled nursing facilities are beginning to seem like "the B-malls ofhealth care," and asked company leaders, "Did you explore at all if therewas a private market that was willing to own these assets, and are you doing a spinas a result of being unable to execute a sale?"

HCP'snew executive chairman, Mike McKee, waved off the B-mall comparison, arguing that"a number of overhangs" on the value of the ManorCare-leased propertiesare "temporary to a degree." An complaintagainst the operator by the Department of Justice is one such overhang, he said.

In aMay 9 note, Evercore ISI analysts hazarded a different answer to the question Rosivachraised.

Consideringthe U.S. Department of Justice situation and recent operating performance, "Wewould suspect executing a sale … was not possible at anything other than distressedpricing," the analysts wrote. As a result, they added, the spinoff strategyoffers some upside to a "fire sale" option.

Despitethe strategic flexibility the new REIT affords, they said, "there is goingto be limited interest" in owning its shares.

Is an end in sight for the DOJinquiry?

In early2015, when the Department of Justice's scrutiny of ManorCare captured widespreadinvestor and analyst attention, HCP executives dismissed the issue as "not new news," and unremarkablewithin the skilled nursing industry — though others within the health care spacedisagreed with that assessment.

Askedby an analyst in the May 9 call whether there were any updates on a potential settlement,a company executive gave a one-word answer: "No."

Does Executive Chairman Mike McKee'srole overseeing the spin hold greater meaning?

In theconference call, UBS Securities Inc. analyst Ross Nussbaum noted the expansion inMcKee's role to executive chairman, from independent chairman. In the new positionhe will focus on strategic growth, leadership development and executing the spinoff,the company said.

"Normally,those are responsibilities that I would think of as being aligned with the chiefexecutive officer of the company," Nussbaum said, adding, "What's themessage that the investment community should be receiving here, that these primaryresponsibilities are going to an executive chairman role and not to [CEO LauraleeMartin]?"

In response,McKee cited the "significant transition" in the company's management inrecent years, including Martin's hiring in 2013; the recent installation of a newchief investment officer, general counsel and executive vice president of seniorshousing asset management; and the ongoing search for a new CFO.

"Myrole is — I see it as complementary," he said, noting a depth of executiveexperience in the company's leadership team.

"Lauraleeand I have worked very closely together over the couple of years that she has beenhere," McKee said. "As you know, she stepped into quite a set of issuesand has had her hands full. I think that when we looked at this role, we noted thatthere is a lot going on many fronts, and we have a new team coalescing."

The prospectof the spinoff, while simplifying the company's story, may raise other questionsabout executive moves. As the Evercore ISI analysts wrote, "There continuesto be speculation how long CEO Lauralee Martin will continue on as CEO of HCP andwhat other members of management might move to Spinco."

Did HCP have other options besidesthe spinoff?

In thecompany's year-end 2015 earnings call on Feb. 9, Martin said HCP Barclays Capital to pursue discussionswith ManorCare, adding that the parties would "jointly pursue all options."She added later in the call, however, that HCP and ManorCare had not discussed cuttingManorCare's rent, as many analysts have long urged.

In theMay 9 call, Bank of America Merrill Lynch analyst Juan Sanabria asked whether companyleadership had done a strategic review of HCP as a whole, beyond the ManorCare issue.

"Overthe last three or four months, we told you on the last earnings call that we weregoing to look at all of our options, and we have run a process that has done that,"McKee said. Repeating one of the call's themes, he said several of the alternativesthe company considered remain open with the SpinCo, calling the new REIT "amuch more flexible vehicle to open up a full menu of options."

"Ican assure you that there've been hundreds of hours of analysis, discussion, prosand cons," he said. "Obviously, some of that stays in the board room,but I can certainly assure you it's been quite comprehensive."

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