Old and vulnerable people and financial whiz-kids don’t mix

You would be forgiven for thinking that any connection between wealthy financiers and Four Seasons would involve luxury hotel chains. But last week the relationship of rich investors with a very different type of property has been making headlines. The private equity-owned care home business Four Seasons, which cares for 17,000 older and vulnerable residents, has been teetering on the brink of collapse.

It has been a long time coming: loaded with more than £500m of debt by its owners, its £50m-a-year interest payments have become unsustainable. An 11th-hour intervention from the regulator, the Care Quality Commission (CQC), resulted in an agreement with the hedge fund that owns much of its debt. But how long will it be before we are here again?

In the last 20 years the influence of private equity in the UK’s care home chains has grown. Southern Cross, once the UK’s largest provider, collapsed in 2011 when it could no longer service its debt. The demise came after its owners sold and leased back the care homes they ran and used the cash to finance overly aggressive expansion.

These cases raise serious questions about our care homes, home to hundreds of thousands of vulnerable people. What would happen if another care provider collapsed, and other providers weren’t willing to take over homes the way they did for Southern Cross? How have the worlds of private equity finance and state-financed older care come to collide, with potentially disastrous consequences for the people who live under their care?

To understand how we got here, we need to go back 30 years, when more than 90% of care homes were owned and operated by local councils. But from the 1980s onwards councils were incentivised to subcontract care to privately run homes. Today 92% of care home beds are supplied by the independent sector; eight in 10 by for-profit companies, and just over one in 10 by the not-for-profit sector.

“There has been a major shift in care provision from the public to the private sector,” says Richard Humphries, senior fellow at the King’s Fund thinktank. “This has happened by stealth – there’s been no public debate.” The state, however, remains by far the biggest buyer: only 40% of care home residents wholly fund themselves.

In the age of austerity, that government funding has been in steep decline. This means fewer people are getting state help with the costs of care. But it also filters down into the lower rates councils are paying care homes.

Jane Townson, chief executive of Somerset Care, a not-for-profit social enterprise that runs 28 homes, says: “Providers like us are up against it due to a toxic combination of unviable local authority rates and rapidly escalating costs that include the ‘national living wage’, the new apprenticeship levy, higher regulatory fees and inflationary pressures.” She says council fees cover at best 70% of her costs. She would like to pay her staff more than the national living wage, but cannot afford to.

The CQC warned last year that the care market was approaching a tipping point. Many providers have been cross-subsidising state-funded care home places by charging private payers more: self-funders are paying on average £12,000 a year more than councils. Some are opting out of providing state-funded care, leading to fears of a two-tier system. Care homes rated as outstanding by the CQC have a significantly higher proportion of private payers than those rated inadequate.

For the majority of smaller “ma-and-pa” operators, the financial squeeze starts and ends there. But when it comes to the UK’s largest for-profit chains, there is a darker side to the tale. Private equity finance has flooded in since cheap debt became available in the 2000s, with funds buying up chains such as Southern Cross, Four Seasons and HC-One. They have introduced opaque ownership structures, including offshore subsidiaries.

Professor Karel Williams at Manchester Business School argues there is a fundamental mismatch between the risky, high-return world of private equity and care homes, which are more suited to low-risk, low-return, long-term financing. Private equity financiers typically expect returns of 12%. This sort of figure simply becomes impossible in the crunch situation of falling state funding and rising costs. “In the event of liquidation, the owner can walk away after losing only a small amount of equity, offset by any cash extracted since purchase, and the state is left with responsibility for the residents,” Williams says.

The state could borrow far more cheaply than these businesses. Four Seasons is paying interest in excess of 12% on a chunk of its debt; in 2008 its debt repayments were estimated to be adding £100 to the weekly cost of a care home bed. This is money that could be spent increasing wages in what is a very low-paid sector, or on provision for residents.

“This financial engineering is a major contributor to chain fragility and care quality problems, so that private gain comes at the expense of costs for residents, staff and the state,” says Williams. He also believes it stifles innovation: “The chains rebuild care homes in a standard institutional style with 60-plus beds, driven by an operating model which requires care homes large enough to pay management overheads and make a return on capital.”

Everyone agrees the care system needs more cash. “What’s been happening at Four Seasons is the price we have to pay for a lack of public funding,” says Humphries.

But Williams points out that, in the private-equity-owned slice of the sector, extra state funding is more likely to find its way to hedge funds via interest payments than being spent on care delivery: “Giving the financialised chains more money is like pouring water into a leaky bucket.”

So more money will not, by itself, be enough. The government must also unravel the financial engineering that it has allowed to balloon in the provision of a vital service on which vulnerable people’s lives depend.

There is a glaringly obvious answer to this conundrum. Care homes provide the sort of low-risk, steady returns that make them ideal candidates not just for long-term investors but for the state. The majority of care home stock will need replacing in years to come. Like affordable housing, it is something in which the government should be borrowing to invest.

Instead it has, by omission, taken the crazy decision to hope that private equity will do it for us, borrowing at three times the rate available to the government, regardless of the cost to taxpayers and residents. It’s high time to sever the link with the financiers.