Any other business | 18 June 2011

Can capitalism care for the old and vulnerable?

The collapse of the Southern Cross care homes group is a big story not just because 31,000 elderly residents are waiting to discover whether they still have anyone to look after them when
it’s all over, but because it illuminates a pattern of financial engineering that prevailed in the boom years and could now unravel with very disruptive consequences.

Southern Cross was bought in 2004 by the US private equity firm Blackstone, which tripled the number of homes, floated the company on the stock market and sold the last of its own shareholding in
2007, having made a 300 per cent return while four senior Southern Cross executives pocketed £35 million between them. As Blackstone has said, the company was financially healthy and well
regarded during that period. But the point is that this was just one of several billions of pounds worth of private-equity deals in the care-home sector over the same period, and that the sky-high
valuations and complex structures involved can now be seen with hindsight as a formula for future disaster.

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How exciting prospects looked at the time, however. Rising longevity meant rising demand for care, most of which would be paid for by the taxpayer forever. A flood of immigrants helped keep staff
costs low. Ownership of the homes could be separated from the operating businesses, allowing even more money to be borrowed against the value of the properties in a rising real-estate market; and
banks, needless to say, were falling over each other to lend to the sector. No doubt there were useful tax breaks too.

Thus a Qatari sovereign investor (which came to own Britain’s biggest portfolio of care homes) was able to bid £1.4 billion for Four Seasons, a rival to Southern Cross, in 2006 —
all but £50 million of it lent by banks and £600 million from Royal Bank of Scotland alone.