Investors Check Out of Community Health

The shares fell Monday after the hospital operator announced a $6.8 billion deal to buy rival Triad

Hospital operator Community Health Systems (CYH) said Mar. 19 that it's going to buy its rival Triad Hospitals (TRI) for around $6.8 billion. The merger would eclipse an earlier, $6.4 billion agreement that Triad had announced on Feb. 5 with the investment firm CCMP Capital Advisors and Goldman Sachs' private equity arm GS Capital Partners. As in Triad's earlier deal, Community Health Systems would also take on the $1.7 billion burden of existing debt that has been choking Triad recently. You could call it a merger among hospital companies that like to grow via acquisitions.

"The transaction with CHS validates Triad's strategy and I am proud of the value this brings to our shareholders," Triad CEO James D. Shelton said in a press release March 19.

The new agreement is subject to shareholder and regulatory approvals and expected to close in the third quarter of 2007. After the integration, Franklin (Tenn.)-based Community Health will increase its size by 54 Triad hospitals and six new states, bringing its total to 130 hospitals in 28 states. "This deal will substantially increase CHS's overall scale and enhance its geographic diversity," Community Health CEO Wayne T. Smith said in the press release.

Triad had agreed in February with CCMP Capital and GSCP that it could keep looking for other bids during the next 40 days. But the hospital operator had promised that if it accepts a different offer, it would pay a $20 million break-up fee to CCMP Capital and GSCP and reimburse up to $20 million of their out-of-pocket expenses. Triad says it has paid the fee as originally agreed.

After Community Health's sweetened offer, investors bid up Triad's shares by 5.3% to $51.99 per share in afternoon trading Mar. 19 on the New York Stock Exchange.

"From the perspective of Triad's shareholders, we would view a higher offer from Community favorably," Morningstar analyst Curt Morrison, MD, said of the latest offer in a research note. "However, we think Community's owners would not fare as well."

To pay for the deal, Community Health has gotten financing commitments from Credit Suisse, Wachovia Capital Markets LLC, and certain of their affiliates.

Community Health's stock sank by 5.3% to $34.84 per share in afternoon trading on the New York Stock Exchange.

Plano (Tex.)-based Triad is probably more sympathetic than investors to Community Health’s efforts at growth by acquisitions; during recent years Triad has done the same by gobbling companies such as the not-for- profit hospital manager Quorum Health Services in 2001. But the larger size came at a hefty price. Triad's long-term debt burden has more than tripled from $537 million in 1999, when Triad was spun-off from the health systems and hospitals operator HCA (itself the target of a successful private-equity bid in 2006).

Meanwhile Triad's profits have been falling. Sometimes when patients go to the hospital, get treatment, and later discover that they can't afford to pay the bill, the hospital ends up footing part of it instead. Such situations are happening more often now, as increasing numbers of people go without health insurance in the U.S. Triad only earned $2.58 million of profit during the year ended Dec. 31, compared to $2.76 million during 2005.

Triad's largest shareholder, TPG-Axon Capital Management, had been pushing for change. The investment firm's founder Dinakar Singh wrote a letter to Triad on Dec. 12 saying Triad should focus on making itself more efficient instead of keeping a war chest for acquisitions. "To our astonishment, management has been unable to produce any level of thorough analysis regarding margins, bad debt, and most of all, Return on Investment," Singh wrote in the letter filed with the Securities and Exchange Commission, adding "the quickest way towards death for a company is to spend money recklessly without careful and rigorous analytical controls."

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