Michael Witt

Kyle Molidor

Medicare and Medicaid requirements for participation of long-term care facilities (LTCs) were first published in 1989 and have not been comprehensively reviewed and updated since 1991. Over the past quarter century, significant changes in LTC care and assessment practices have emerged. These changes are due in part to extensive research concerning resident safety, health outcomes, individual choice, quality assurance and performance improvement.

Because of these changes, the Centers for Medicare and Medicaid Services decided to evaluate the regulations on a comprehensive basis, from both a structural and a content perspective. On Sept. 28, 2016, CMS released a final rule entitled “Medicare and Medicaid Programs; Reform of Requirements for Long-Term Care Facilities” (the LTC rule). The LTC rule substantially revised the requirements that LTCs must meet to participate in Medicare and Medicaid programs.

The LTC rule attempts to improve the quality of life, care, and services in LTCs, optimize resident safety, reflect current professional standards, and improve the logical flow of Medicare and Medicaid regulations. The LTC rule aims to align requirements with current clinical practice standards to improve resident safety, along with the quality and effectiveness of care and services delivered to residents.

CMS is using a phased-in approach to implement the LTC rule: The regulations included in phase one had to be implemented by Nov. 28, 2016. The regulations included in phase two must be implemented by Nov. 28, 2017; and the regulations included in phase three must be implemented by Nov. 28, 2019.

Costs of Implementing the LTC Rule

CMS estimates the total cost of implementing the LTC rule will be about $831 million in the first year and $736 million per year for each year thereafter. This amounts to an average cost per facility of $62,900 in the first year and $55,000 per year for each year thereafter. Providers believe, however, that these estimates are lower than what the ultimate costs will be.

Potential Impact of Investing in Light of LTC Rule

While the increasing need for development of housing alternatives for the growing population of older Americans has created new opportunities for investors to provide capital to owner-operators of LTCs, the LTC rule could have a direct impact on potential investors.

Gap in Funding

Perhaps unsurprisingly, providers and professional associations have been critical of the LTC rule and, in particular, the cost burdens imposed as a result. In the American Health Care Association’s comment letter, it expressed concern that CMS’s economic impact statement for the costs associated with implementation and ongoing compliance with the LTC rule was unrealistically low and grossly understates the actual economic impact on LTCs. Further, LTCs are faced with tremendous new regulation obligations, including: (1) the new “competency” requirement mandating a facility-wide assessment to determine what resources are necessary to care for the residents of LTCs; (2) pharmacist review of a resident’s medical chart at least every six months; and (3) new and more stringent personnel requirements for food and nutrition staff, all of which will require LTCs to employ sufficient staff with appropriate competencies and skills to meet resident needs.

Consequently, many providers have not budgeted the estimated yearly costs necessary to meet these requirements, especially given the significant reimbursement cuts that have recently occurred. Thus, more owner-operators may look to lenders to provide long-term financing to help employ new staff and pay for these new assessment requirements.

Mergers and Acquisitions

The LTC mergers and acquisitions market has been robust and active as the industry’s consolidation trend continues. With the introduction of the LTC rule, consolidation could accelerate as many smaller owner-operators without the bandwidth or the breadth of services to meet the LTC rule regulations and fixed costs may exit the market. As the LTC market contracts, it offers a great opportunity for investors on both the buy side and the sell side. Smaller, independent operators may be interested in being acquired by regional chains, and regional operators may seek to merge with national organizations. As mergers and acquisitions increase, so too does the demand for acquisition financing. Bridge loans may also increase as new operators identify something in the market that prior operators had not been able to navigate or could not afford.

Potential Effects on Investors

While government reforms and recent industry changes such as the LTC rule have the potential to deliver higher-quality care and increased efficiencies, the changes are not only costly, but also not all businesses can afford to operate in this environment. As a result, borrowers may become more sophisticated as the barrier to entry becomes increasingly challenging. This could decrease many borrowers’ risk profiles as lenders are comforted by sophisticated owner-operators that have a greater chance of success in the intricate LTC market. However, lenders may also be confronted with new challenges as each borrower runs the risk of failing to meet the complicated LTC rule requirements.

While the LTC rule’s effect on investors is largely unknown at this time, investors may want to have a good grasp of the operational risks that LTCs deal with on a day-to-day basis. Now more than ever, it is essential to have highly sophisticated investors that understand the dynamics of the industry, as investing in this highly regulated LTC market becomes increasingly challenging. Regardless of how the LTC rule unfolds, investors of all sizes will encounter opportunities to profit in light of the steadily increasing demand for LTCs.

Michael A. Witt is a partner and Kyle T. Molidor is an associate in the Chicago office of Duane Morris LLP.

Reprinted with permission of Law360.