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Split Caps Long Comeback for Sun Healthcare

Nursing home operator Sun Healthcare Group Inc.’s plan to split its operations and real estate holdings is another step in the evolution of a company that was almost left for dead during the industry’s 1990s downturn.

Last week, Irvine-based Sun, which runs nursing homes, assisted-living facilities and rehabilitation centers across the country, said it plans to split off its real estate as a separately traded public company.

Sun would continue to operate its 90 some facilities and lease their buildings from the real estate company, Sabra Health Care REIT Inc.

The move, which some industry watchers see as a trend for nursing home operators, caps a long comeback for Sun under Chief Executive Rick Matros.

He joined Sun in late 2001, shortly before the company emerged from bankruptcy reorganization.

Sun filed for bankruptcy protection in 1999, two years after the government slashed Medicare payments to nursing homes. At one time, five of the top seven nursing home operators sought refuge in bankruptcy court.

The company has come a long way since then, expanding nationally with a series of acquisitions in recent years.

The buying has made Sun a big real estate holder. Now the company is looking to throw a bone to shareholders by splitting off its real estate.

“We still have all this value that needed to be unlocked, and that kind of led to the decision that we came to,” said Matros, who’s set to lead the real estate company.

Investors seem to like the move. Sun’s shares were up about 10% last week to a recent market value of about $390 million.

Before last week, the stock largely had stalled this year after seeing a big run-up in 2007.

Splitting operations could be a sign of things to come for nursing home operations, said A.J. Rice, an analyst with Philadelphia-based Susquehanna Financial Group LLP, in a report.

Sun competitor HCR ManorCare of Toledo, Ohio, also is taking steps to prepare for a public offering of a real estate investment trust made up of its buildings.

If the split works, Rice said other large nursing home operators—including Skilled Healthcare Group Inc. of Foothill Ranch—could pursue similar strategies.

Skilled didn’t respond to a request for comment.

Analyst Robert Mains of Memphis-based Morgan Keegan & Co., in a research note, also said other splits are likely, but “we didn’t expect Sun to be the first.”

Sun’s Sabra real estate arm is expected to acquire more buildings, according to the company.

In the past year or so, Matros said, Sun investors routinely asked the company about whether it had given thought to finding ways to make money from its real estate.

Technically, Sun’s operating company is the spinoff in the deal. The company plans to give shares in the operating company to its existing shareholders.

William Mathies, president of Sun’s SunBridge Healthcare Corp. subsidiary, is set to run the operating company after the split.

What’s today Sun Healthcare would become Sabra and take on the company’s real estate.

The deal is expected to be done by the fourth quarter.

Before that, Sun plans to raise money in a stock sale, while the two splitting companies are expected to forge their own lines of credit. Proceeds of the stock sale and financings are set to pay off Sun debt.

Matros said the stock sale should take place in the third quarter.

Mains of Morgan Keegan said he believes shareholders should benefit from the split. The operating company is set to be identical to the current Sun except it won’t own real estate and the debt that comes with, he said.

Sabra is likely to benefit by being able to raise money at a lower cost than Sun does now, according to Mains. That should enable Sabra to buy more facilities, he said.

Matros said running Sabra, which will be focused on deals, “suits me really well. It fits my personality.”

He said he anticipated that Harold Andrews, who earlier worked with Matros at Regency Health Services Inc.—a Tustin nursing home operator that Sun bought in 1997—will become Sabra’s chief financial officer.

Most of Sun’s current management team, including Financial Chief L. Bryan Shaul, will remain at the operating company.

Operating company head Mathies has “really been my partner in this adventure since I got here in late 2001,” Matros said.

Analyst Mains weighed in on Mathies:

“While we don’t know Mathies well, he has handled Sun’s inpatient operations deftly, growing them post-bankruptcy and limiting the downside from two years of Medicare and Medicaid rate pressures,” Mains said in his report.

Sun, like other nursing home operators, sees fluctuation in its business and stock based on changes in funding to the federal healthcare programs for the elderly and needy.

Sun’s shares are down about 10% this year. Others have taken varying paths on Wall Street.

Shares of the Ensign Group Inc. of Mission Viejo, the smallest of OC’s three publicly traded nursing home chains, are up 17% so far in 2010 on a recent market value of $380 million.

Skilled Healthcare is up 7% to a market value of $300 million, while Kindred Healthcare Inc. of Louisville, Ky., has seen its shares slide down 15% so far this year to a market value of $600 million.

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