The news has not been good of late for Brookdale Senior Living, which has seen its stock value plummet by nearly 75% over a period of two years during which its merger with Emeritus should have seen its value soaring.

By Jack Cumming

The news has not been good of late for Brookdale Senior Living, which has seen its stock value plummet by nearly 75% over a period of two years during which its merger with Emeritus should have seen its value soaring. Now Brookdale may have drawn unwelcome attention from the Securities and Exchange Commission (SEC) over its use of non-GAAP financial data. Non-GAAP data are not unusual. They can be very helpful in illuminating how management views its performance and they can provide insight into management’s view of its business.

An article in Marketwatch, a very widely followed news source for investors, recently reported:

“Two companies that may be hearing from the SEC soon are Brookdale Senior Living, Inc., which operates senior living facilities in the U.S. and Bristow Group Inc., an industrial aviation and helicopter service provider to the offshore energy industry.

“Both have recently been the subject of stock downgrades based on their weak outlooks. Both companies use non-GAAP metrics that have been the subject of letters to other companies from the SEC. Their non-GAAP choices may also be subject to criticism by the SEC.” [Source: MarketWatch: SEC’s Next Target].

The specifics are technical and apparently relate to “recurring capital expenditures”. This is where it gets confusing. GAAP (Generally Accepted Accounting Principles) has evolved over the decades from logically derived principles to a rules-based system. Managements sometimes elucidate their financials with non-GAAP metrics to clarify items that may be misleading given the rigidity of the GAAP accounting and audit practices. This is permitted and can be very helpful for investors.

SEC: Responsibility For Fairness

The SEC, however, has ultimate responsibility for the fairness by which publicly traded businesses report their results. As GAAP has become increasingly complex and technical, more and more companies have turned to non-GAAP measures, which they release side-by-side with their GAAP-conforming financials. The SEC has allowed the accounting profession, through the American Institute of Certified Public Accountants and the Financial Accounting Standards Board, to devise today’s system of codified accounting rules. The rise of non-GAAP measures has led to concerns. The SEC is now cracking down on what it sees as misuse of such measures.  

In May 2016 the SEC issued new reporting guidelines [SEC Non-GAAP Financial Measures] to try to limit the use of non-GAAP measures, which it has found can be misleading. Of course, all deviations from conventional practice can be either misleading or elucidating. Judgment is required to discern which is which. The recommendation is that non-GAAP measures be released only in close conjunction with conforming GAAP measures.

The Difficulities of the Emeritus Merger

How serious is this in the case of Brookdale? Looking at the Brookdale financials suggests that Brookdale’s use of non-GAAP measures pales into insignificance compared with the difficulties that management had in addressing the challenges of the Emeritus merger. Therefore, any investor considering Brookdale must exercise considerable judgment in any case.  

That raises questions which no accounting can address, including the question of the quality of the leadership group. During Brookdale’s recent time of trial, there has been considerable instability in the executive suite. Thus, anyone considering an investment in Brookdale would do well to absorb the analytical reports of security analysts who follow the company, since their analyses can be more meaningful than GAAP or non-GAAP financial data.

In general, investments in senior housing have been less lucrative than other capital market opportunities, likely because of the heavy competition from tax-exempt providers who not only benefit from their tax exemption, but who also have a lower level of accountability. Many tax exempt senior housing providers rely on dilution of resident entry fees to operate at a loss while still meeting their debt service requirements.

Classifying Senior Housing 

Also, the markets have difficulty classifying senior housing. Many analysts view it as real estate. Few have grasped the entrepreneurial opportunity to improve values on the operating side. Until a clearer understanding of the uniqueness of the industry emerges, that limited view of senior housing will likely serve as a drag both on market valuations and on incentives for innovation.

Brookdale, though, is in the fortunate position of being the dominant senior housing entity. This gives it the opportunity to pilot innovative concepts for giving America’s aging the continuum of services needed to make aging as smooth a transition as possible. If Brookdale can effectively pivot on its advantages, it is well-positioned to be the beneficiary of an evolving market in which tax exempts with impaired balance sheets are likely, sooner rather than later, to have to find white knight rescuers or to disappear. The future is bright if Brookdale can be sufficiently fleet of foot to capitalize on the opportunity.

Jack Cumming is an actuary with a resident’s interest in entry fee CCRCs and he is also a Brookdale shareholder.