Industry analysts last week were feverishly speculating on whether R. Clayton McWhorter and his HealthTrust management team can shape up Epic Healthcare Group the same way they turned around underperforming Hospital Corporation of America hospitals six years ago.
Whether the executives can accomplish that was the question lingering after last week's announcement of the $1 billion acquisition of Dallas-based Epic by HealthTrust-The Hospital Co.
"The acquisition of Epic certainly poses for him the same kinds of challenges," said Ed Mally, a bond analyst for Salomon Brothers, a New York-based investment banking firm. However, Mr. Mally said he believes the proven track record of HealthTrust's management team shows it can be done.
Still, he and other Wall Street observers were surprised at what they saw as a "no-confidence" vote by Standard & Poor's, a New York-based bond rating agency. Just days after the acquisition announcement, Standard & Poor's downgraded HealthTrust's $800 million in subordinated debt to B from B+.
"S&P anticipated that acquisition activity might sap some of HealthTrust's financial strength, but this transaction reduced HealthTrust's credit protection more than previously expected," the agency explained.
Moody's Investors Service also put the bond debt of the Nashville, Tenn.-based firm under review for a possible downgrade.
HealthTrust will use a combination of financing techniques to pull off the Epic deal. Fifteen percent of the purchase price will be financed through a new stock offering, 20% will be through a long-term bond offering, and 60% will be through bank financing and cash on hand. The remaining 5% will be assumption of existing Epic debt.
The acquisition of Epic, expected to be completed in May, will increase HealthTrust's size by more than a third to $3.4 billion in annual revenues. The company will rank behind Columbia Healthcare Corp. in annual revenues as the largest investor-owned hospital system (See chart, p. 3). HealthTrust will operate 115 hospitals with 15,000 beds in 22 states.
"We're not interested in doing this to add more units to our system," Mr. McWhorter told MODERN HEALTH-CARE. "But we're looking at how it enhances our existing facilities."
He said the acquisition would broaden HealthTrust's market coverage and geographical reach.
In recent months, Epic's chairman, president and chief executive officer, Kenn George, had insisted the company wasn't for sale. However, he said last week that when Mr. McWhorter called in September, Mr. George decided to listen.
"Clayton is a friend in the business and someone that I respect," Mr. George said.
The talks turned serious in recent weeks, and on Jan. 6 officers of the two companies met in Dallas to hammer out details. Because Epic is an employee-owned company, the deal was complicated (See related story, p. 3).
That night, executives and directors of the two companies worked until 1 a.m. Talks re-sumed on Jan. 7 and continued until about 11 p.m. On Saturday, Jan. 8, at about 5 p.m., Mr. George convened what turned out to be a five-hour meeting of his board to vote on the bid.
Some of the details of the employee stock ownership plan still had to be worked out on Jan. 9, but after getting the ESOP trustee's approval, the deal was sealed.
By approving the bid, Mr. George and his 12 top officers lose their jobs. Speculation about Mr. George's future rests in the possible political ambitions he has been known to harbor. An active Republican and former Reagan administration political appointee, Mr. George noted last week that all of the filing deadlines had passed for 1994 state elections.
"I'm not going to do anything in politics this year," he said. "I'm going to sit back and survey the landscape."
Mr. George had been nominated to be president-elect of the Federation of American Healthcare Systems, which represents investor-owned hospital 3
systems. Those plans will have to change because he will no longer head a large hospital system.
By slashing the executive ranks, HealthTrust hopes to save money. Mr. McWhorter said the company probably will save a total of $50 million in fiscal 1995 through cuts in overhead, supply costs and others expenses.
Mr. McWhorter points to two "obvious areas" in which HealthTrust can save: payroll and bad debt expenses. At Epic, 43% of its net revenues go to salaries and benefits, compared with 37% at HealthTrust. In addition, 6% of HealthTrust revenues fund bad debt costs, compared with 7.9% at Epic, Mr. McWhorter said.
HealthTrust and Epic have many similarities. Both were spun off from larger hospital management companies-HealthTrust from HCA in 1987 and Epic from American Medical International in 1988. Both used ESOPs to finance the deals. Both companies were characterized by a portfolio of small-town hospitals. Because of the financial and demographic profile of those hospitals, both companies were given little chance of success when the spin-offs occurred.
However, HealthTrust defied the pundits. It paid down debt faster than expected, launched an initial public offering in 1991 that was the largest in healthcare at that time and showed that small-town providers with little competition can sometimes be more profitable than urban hospitals in cut-throat markets.
"In retrospect, everybody says, those were great facilities" about the former HCA hospitals that HealthTrust acquired, said A.J. Rice, healthcare analyst for J.P. Morgan, a New York-based investment banking firm. "But back then, everyone said, `Clayton is getting the dogs of HCA.'|"
He predicted that Mr. McWhorter will take Epic hospitals and accomplish the same turnaround, although it may take a few years.
Epic's struggles were stemmed in a bigger debt load and a less-friendly relationship with its former parent. Epic never turned a profit, although its operating margins improved somewhat.
Still, Epic executives turned a company that was 100% leveraged in 1988 into one that apparently was worth $277 million in equity last week. HealthTrust will pay that much in cash and assume Epic's $727 million in debt.
Thirty-two hospitals, nearly a third of HealthTrust facilities, will be in Texas. HealthTrust market share will be especially enhanced in Austin, Houston, Dallas and southern Louisiana.
But Mr. McWhorter said he didn't anticipate antitrust snags. He said the areas into which the company is expanding are large enough so that the chain won't dominate the markets.
Wall Street reacted cautiously to the merger proposal. On Jan. 10, the day of the announcement, HealthTrust stock edged up 13 cents to close at $26 a share in New York Stock Exchange trading.