Financing Issues for Healthcare Providers and Companies Deborah Gordon, Seyfarth Shaw LLP and Lisa Lenderman,

MidCap Financial, LLC Following the passage of health reform, the healthcare industry is experiencing greater regulatory certainty, consolidation and integration. In order to avoid reimbursement cuts and compete, healthcare providers need to invest in technology to measure and demonstrate quality, integrate and/or invest in capital improvements. In general, these activities require capital. However, this trend is on the heels of an extended period during which access to capital has been largely unavailable. During the recession, many lenders and sources of capital dramatically changed the terms of any extensions of funds, and many stopped making new loans or investments altogether. However, with respect to the healthcare industry, the demand and need for capital is as great as ever. Many healthcare providers are looking to clinical integration and investments in alternative delivery systems. Similarly, healthcare providers need to meet the demand for

improvements in technology and equipment; comply with ever-expanding safety and quality standards; invest in electronic medical record technology; respond to increased litigation in areas such as wage-hour class actions, false claims and malpractice; and implement pay for performance standards, as well as other regulatory compliance requirements. Healthcare

providers need capital in response to these demands, as well as to meet obligations on existing debt. As such, despite the increase of demand, healthcare providers are also facing increased costs. While the need for capital in the healthcare industry grows, many lenders and sources of capital have been reluctant to deploy such capital in the healthcare industry. For example, the

healthcare industry often faces low-margins and high costs. In addition, even during good economic times, the healthcare industry involves a host of regulatory complexities and uncertainty. While the passage of healthcare reform provides a framework for the future, the full impact of the legislation and its future remain unknown. On the other hand, the options for capital have dramatically improved, especially over the past year. Lenders and funding sources have seen the growth of the industry, despite the recent effects of the recession. Further, the recent trend of consolidation of the healthcare market is attractive to many healthcare lenders and investors. 1. Overview of Funding Options. Healthcare providers and companies have

various options available to fund working capital, make acquisitions, invest in new capital and otherwise provide financing for business operations and growth. (a) Current Cash. Many healthcare providers have cash on hand to fund growth and

working capital needs. Providers may need to review their existing bond or bank covenants to make sure they continue in compliance. For example, large outlays of cash could negatively affect certain financial covenants. In addition, many loan or bond documents have restrictions on large acquisitions without the lenders or trustees consent. (i) Bonds. For tax-exempt entities, the most common financing option is in

the form of tax-exempt bonds. Bonds are a form of long-term financing for capital projects whereby the borrower or, in the case of tax-exempt bonds, a governmental issuer, for the benefit of the borrower, issues notes or other debt instruments. Bonds can be either taxable or taxexempt. The bonds are then sold to investors in a private placement or a public offering. The proceeds of the sale of the bonds are used by the borrower to finance its project. A bond offering

(ii)

HUD.

The Department of Housing and Urban Development (HUD)

provides mortgage insurance, including construction loans and long-term capital, to long-term care facilities through its Section 232 program. The HUD Section 232 program insures HUDapproved lenders against loss for mortgage defaults. Interest rates on HUD loans are relatively low, although the process of obtaining a HUD loan can be onerous and lengthy. The Section 232 program can provide loans with up to 35-year amortization for refinancing. Required loan-toproperty value for HUD loans is up to 85% (or 90% for non-profit facilities). The Federal Housing Administrations Section 242 mortgage insurance program provides lower interest rates and credit enhancement to mortgage debt for a maximum 25-year mortgage term. The Section 242 program supports the financing of new hospitals or capital improvements of facilities. The Federal Housing Administration has approved certain mortgage lenders for these loans. A Federal Housing Administration insured mortgage can cover up to 90% of the replacement of the collateral. Qualification for the Section 242 program generally requires a facility to have positive operating margins. HUD recently required a security interest in the accounts receivable of the operator or licensee of the facility. This has caused some coordination issues with working capital or A/R

lenders to those facilities. As such, HUD has adopted a form of intercreditor agreement to be adopted in these circumstances. (iii) Commercial Lending. For single purpose cash needs or on-going working

capital needs, bridge loans, short term loans or lines of credit may be available from commercial banks or finance companies. Typically, loans are secured and lenders generally impose various covenants and conditions to borrowing. The interest rate is generally floating and based upon a prime rate or LIBOR. Given the current interest rate market, floating interest rates generally have a floor, or base amount. Mortgages are longer term loans secured with real estate.

Mortgage loans may have a longer term (such as 30 years) and are often set at a flat, or fixed interest rate. Mortgage loans may be non-recourse to the borrower, meaning that the borrower is not liable beyond the collateral except for specific carve-outs. Since most healthcare facilities involve operating businesses with a combination of collateral (accounts receivable, hard assets, equipment, and real property), healthcare facilities often have a variety of loan products available, such as cash flow loans (or leveraged loans), asset-based credit facilities, working capital lines of credit and term loans. 1 The commercial lending market has begun to open again with many transactions involving refinancings or acquisition financing. Loan volumes for refinancings are relatively high since many pre-recession loans are now reaching their maturity dates. A specific loan to finance an acquisition generally involves a term loan for a percentage of the purchase price.

Cash flow lending looks to future cash flows as collateral for a loan. Asset-based lending focuses on the value of the assets pledged as collateral to determine the size of the loan and often fund the ongoing business needs of a company. Generally, receivables are pledged as collateral and the loan is revolving in nature. Term loans represent a one-time outlay of loan proceeds, often to fund an acquisition or refinance other debt. 4

Lenders remain fairly conservative in terms of underwriting loans. For loans to finance an acquisition, lenders will require that the buyer (or borrower) finance a significant portion of the purchase price (e.g., 25% to 40%) to ensure that there is sufficient collateral to cover the size of the loan. Some acquisition financing transactions also involve some working capital or A lender for an acquisition

revolving loans to provide working capital post-acquisition.

financing will review all of the acquisition documents. Lenders will also conduct extensive due diligence on the seller and look to obtain a collateral assignment of the representation, warranties and indemnities. If accounts receivable are also being purchased, the seller will also need to grant the lender a security interest in the purchased receivables. (iv) Joint Ventures. If traditional sources of financing are unavailable,

healthcare providers have considered, as an alternative strategy, joint ventures to share risk, provide access to capital, and reduce costs. Joint ventures often occur between different types of healthcare providers or service companies to integrate clinical systems or find economies of scale. Joint ventures require careful structuring from a regulatory perspective and can be a source of legal scrutiny. Under the health reform legislation, Medicare providers will have the option of forming accountable care organizations (ACOs). Many hospitals are taking the lead in the formation of ACOs. An ACO is, in essence, a joint venture. The goal of an ACO is to align the interests of healthcare providers as it relates to quality and efficiency. The details of the ACO remain to be seen. Soft costs, such as professional fees and software costs, will likely comprise the bulk of the start-up expense for an ACO. In general, soft costs are difficult to finance, especially given the lack of tangible collateral to secure the financing. Therefore, ACOs will likely be funded through the current cash or existing lines of credit of the participants. 5

(v)

Equity. For-profit entities can look to the equity market for capital, such

as venture capital or private equity. Many private equity sources are looking to expand their reach into healthcare. 2 Some commercial finance companies may also receive warrants in

connection with a traditional debt financing. (vi) Sale of Assets and Sale-Leaseback Transactions. Many hospitals and

health systems have contemplated sales of medical office buildings, investment in medical office buildings, and sale-leaseback of real estate as additional sources for capital. In addition, many REITs, insurance companies, and other investors have expressed an interest in medical facilities and medical office buildings as an attractive investment. By selling assets, healthcare providers obtain cash to invest in more core delivery systems, the pursuit of clinical integration, or investment in information systems. These types of arrangements need to be carefully considered as the purchaser of real estate often requires a grant of a security interest in the assets of the operator to secure the future lease payments. To the extent the operator later seeks working capital financing, it then needs to coordinate these intercreditor issues between the landlord and the new lender. 2. Typical Market Terms and Structure of Financing Transactions. Most financing

transactions undergo a similar process. After discussing a providers need for financing, a lender will undertake a preliminary review of the companies financials and other business, structural and legal due diligence.

A December 13, 2010 study conducted by Pepperdine Universitys Graziadio School of Business and Management found that since the summer of 2010, the number of private equity funds expecting to invest in health care companies has doubled. See report at http://bschool.pepperdine.edu/privatecapital. See also, Gambling on Change, Modern

(a)

Term Sheet. If the preliminary information supports further discussions, the

parties often put together an initial term sheet. The term sheet is a non-binding statement of the basic terms of the loan. The term sheet will typically state the amount of the loan, terms of the loan, interest rates, financial covenants, collateral and whether any guarantees are required. The term sheet also calls for a good faith deposit by the potential borrower to allow the lender to start expending costs, such as further due diligence and legal fees. Alternatively, some mortgage lenders will utilize an application process, which provides for more detail and includes specific loan terms. Lenders may also be asked to issue a commitment letter. A commitment letter provides greater detail regarding loan terms. While the commitment letter still contains numerous caveats to the lenders obligation to make the loan, it is seen as having greater formality than the term sheet. Often a borrower is asked to produce a commitment letter if the borrower has a financing contingency in an acquisition or is asking a current lender for an extension of a maturity date pending a refinancing. (b) Underwriting and Due Diligence. Following execution of a term sheet, the lender

will proceed to undertake a more in-depth review of due diligence. If real estate is involved, this process will involve engaging several third party consultants to provide reports, which typically include an appraisal and environmental assessment, and often a property condition report, zoning report and/or seismic report. The lenders attorneys will also review title reports and surveys for the property. For loans based on accounts receivable as the underlying collateral, lenders will undertake a more detailed audit of the payment history of the accounts receivable and financial

Healthcare (January 31, 2011), describing how five major health systems have put up to $50 million to form a health care venture fund. 7

review of the borrowers financial performance. The lenders counsel will also undertake a review of regulatory issues and licensing. During this stage, lenders often require the borrower to complete an information certificate or perfection certificate to provide additional information regarding the borrower and its collateral. (c) Legal Process. Provided no red flags emerge in the due diligence process, the

counsel to the lender will prepare draft legal documents. In most loan transactions, the lenders counsel will manage the legal documentation process with a loan checklist. The checklist will outline all expected loan documents, required due diligence and track the status of each. (i) Loan Documents. Typically, the main, definitive document is the loan

agreement or credit agreement. The loan agreement will contain the major provisions of the loan, such as the loan amount, interest rate, repayment terms, events of default, remedies upon default, maturity date, fees and the grant of a security interest in all or some of the borrowers assets. In addition, the loan agreement contains representations, warranties and covenants made by the borrowers in favor of the lender. The borrower will also agree to comply with certain financial covenants, which are designed to test the borrowers financial strength and ability to repay the loan. Some financial covenant examples are testing of the borrowers fixed charges, total leverage, net worth, and liquidity. In some circumstances, a mortgage lender may use the mortgage or deed of trust as the definitive agreement. However, since the mortgage or deed of trust is a recorded document, and therefore available to the public many mortgage lenders will still utilize a loan agreement to preserve the confidentiality of their loan terms with the borrower. Other loan documents often include a separate, negotiable promissory note, environmental indemnity, legal opinion (from the borrowers counsel) and various certificates. If a related party guarantees the loan, that party enters into a separate guaranty and if a parent company pledges its 8

(ii)

Loan Closing. Once all of the legal documentation is complete, the parties

will set a date to close the loan. For fixed rate mortgage loans, the lenders will lock the interest rate in advance of closing. If the loan will refinance existing indebtedness, the current lender will be asked to prepare a payoff letter. The payoff letter will state the amount of funds needed to pay off the existing loan and, upon the lenders receipt of the stated amount, the current lender will release its existing liens. If real estate is involved, the loan closing generally occurs through a title company, since the issuance of a title policy and the recording of the mortgage or deed of trust is an essential part of a real estate loan. Regardless of the type of loan, the lender will require original signed loan documents as well as all conditions to closing to be met. 3. Unique Regulatory Issues in Healthcare Financing Transactions. Any transaction, whether a merger, acquisition, investment or financing in the healthcare industry is, by its nature, specialized. For any lender or investor, it is essential to understand the regulatory issues involved. Any transaction involving the pharmaceutical industry often requires knowledge with respect to FDA and intellectual property issues. For a lender or investor, it is important to understand how a drug approval or license may be pledged as collateral. Similarly, 9

fraud and abuse prohibitions, corporate practice of medicine restrictions and Medicare reimbursement issues often dictate the structure of transactions and financings involving healthcare providers. For example, an earn-out provision, which is common in a non-healthcare M&A transaction, may violate the Stark law and Anti-Kickback Statute in a healthcare M&A transaction, particularly where the seller is in a position to refer business to the buyer. In addition, joint ventures between those in a position to refer business, such as physicians, and those providing items or services to Medicare or Medicaid patients, may violate the AntiKickback Statute. 3 Healthcare transactions also have special antitrust considerations. The federal

government has blocked certain healthcare mergers on the theory that such mergers would result in diminished competition and thus lead to higher prices. The Federal Trade Commission and the Department of Justice have issued joint policy statements addressed to the healthcare industry governing specific aspects of healthcare industry. 4 As evidenced by the recent FTC challenge to a consummated acquisition in Ohio, the FTC is closely scrutinizing mergers and acquisitions that result in market power. 5 A lender financing an acquisition needs to understand any antitrust risk and market data relating to the underlying transaction. Most healthcare investments and financings require specialized underwriting, often involving market feasibility studies, demographic information, in-depth knowledge of

3 4

See April 23, 2003 OIG Special Advisory Bulletin on Contractual Joint Ventures.

See www.ftc.gov/reports/hlth3s.pdf, and www.ftc.gov/reports/healthcare/040723 healthcarerpt.pdf.

5

See Federal Trade Commission v. ProMedica Health System, Inc., N.D. Ohio, No. 3:11-CV-47, 1/10/11. 10

reimbursement rates and trends, and actuarial studies. To account for increased regulatory risk and due diligence costs, investors and lenders often require additional assurances in the form of escrows, credit support, collateral or guarantees. 6 In addition, investment or lending risks cannot be properly assessed without an understanding of the reimbursement aspects of the industry and regulatory requirements, including the effect of healthcare reform. In addition, numerous Federal and State laws impact the structure of any healthcare investment, sale or financing. The following highlights some of the major legal issues impacting healthcare transactions and relating financings. Fraud and Abuse Laws. Federal and State laws prohibit the provision of any incentives for the referral of any healthcare items or services. The Federal Anti-Kickback Statute prohibits the knowing and willful payment or solicitation of remuneration to induce a referral of a patient for items or services for which payment may be made by the Medicare or Medicaid programs. Violation of the Anti-Kickback Statues is a felony, subject to civil and criminal penalties, as well as exclusion from the Medicare and Medicaid programs. The Office of the Inspector General of the Department of Health and Human Services (OIG) has promulgated certain safe harbors protecting certain activities and relationships from being deemed to violate the Anti-Kickback Statute 7 . The safe harbors include the

ownership of investment interests in public companies, certain space and equipment leases, personal services contracts, and other investment interests, provided that any investor in a
6

For example, a lender (or even a regulatory authority) may require the deposit of a debt service reserve. Other examples of credit support are pledges of ownership interests and personal or corporate guarantees.
7

42 C.F.R. 1001.952 11

position to refer or generate referrals for the entity may not own, control or receive any remuneration from the entity in excess of 40% of the interests in the aggregate. The OIG has also issued various Fraud Alerts targeting various types of practices in the healthcare industry as particular areas of concern. For example, the OIG has targeted hospital incentives provided to physicians, and the OIG has also targeted the pharmaceutical industry with respect to its marketing and sales practices. A key concept within the fraud and abuse laws is that the consideration paid be fair market value. Third party valuation firms play a critical role in fulfilling this requirement. It is rare that a healthcare transaction not involve a fair market value opinion from such a firm. A healthcare lender or investor will often review these issues in its due diligence process. Stark Law. The Stark Law prohibits a physician from making any referral for any designated health services payable under the Medicare or Medicaid programs to any entity in which the physician has a non-exempted ownership or compensation arrangement. The Stark Law is relevant in a wide variety of healthcare transactions, including hospital acquisitions of medical practices, joint ventures between physicians hospitals, physician group mergers, and even ACOs. Unlike the Anti-Kickback Statute, the Stark Law is a strict liability statute; i.e. no intent is required. Breaches of the Stark Law - even those that are technical in nature - can result in draconian penalties, both civil and criminal. The health reform law attempted to address the harshness of Stark by mandating that the CMS develop a self-disclosure protocol within 6 months of the statute's enactment. The protocol would give the CMS the ability to negotiate

12

down the penalties for violating Stark. On September 23, 2010, the CMS published the selfdisclosure protocols on its website 8 . Licensing Requirements. Virtually every healthcare provider, including hospitals,

physicians and healthcare practitioners, must be licensed in order to operate. Generally, this licensure takes place at the state level. These licenses are generally not transferable and any change of ownership of a licensed healthcare provider is generally subject to prior approval. Accordingly, a buyer of assets or a lender attempting to foreclose on its collateral may be forced to reapply for licenses in its own name and based on its own qualifications in order to use or access these assets. The process can be slow and uncertain. It is also common for a change in stock ownership to be deemed a license transfer, thus triggering a requirement for approval. This issue can be particularly relevant for healthcare lenders as they consider whether to request a pledge of equity interests in a borrower, as well as whether to realize on any such pledge upon a default. While licenses are generally not transferable, an acquirer can assume a sellers Medicare provider number through the reassignment process. This helps alleviate the delay in an

acquirers application for a new provider number. However, the assumption of the provider number also means assumption of any liabilities associated with that number. 9 Often, if the buyer has not completed the process of getting its own license and provider number at the time of closing, the seller and buyer will enter into an operations transfer agreement, interim management agreement or other arrangement whereby the seller continues to operate the

8 9

http://www.cms.gov/PhysicianSelfReferral/65_Self_Referral_Disclosure_Protocol.asp. 42 C.F.R. 489.18 and State Operations Manual (Pub. 100-07), Chapter 3, 3210-3210.5.C. 13

provider during the interim period of time when the buyer is in the licensing process and getting its own provider number. Acquisition lenders often are reluctant to close a loan to a healthcare provider that does not have its own license and Medicare provider number. While an operations transfer arrangement may provide a solution to an interim licensing process, many lenders will look to limit the possibility that the buyer - its borrower may not have received its own license and provider number. In addition, if a lender is providing a loan based on accounts receivable, and its borrower is billing and collecting receivables under the sellers name and provider number, the lender will look to the seller to provide the lender a grant of a security interest in the sellers acquired and post-closing accounts receivable, permits and payment intangibles. In a transaction involving the construction, expansion or modification of a healthcare facility, or the acquisition of a substantial item of medical equipment, a state certificate of need (CON) may be required. The majority of states have some form of CON law or program in place. To obtain a CON, an applicant must demonstrate the need for and feasibility of the particular project or equipment. In addition, many states also have prohibitions on the corporate practice of medicine. The corporate practice of medicine prohibition provides that a business cannot conduct medical activities or employ licensed medical personnel to provide licensed healthcare services. For example, the corporate practice of medicine prohibition affected the structure and nature of physician practice management companies in the 1990s. Instead of investors directly investing in physician practices, investors established separate practice management companies that entered into long-term management agreements with physician practices. These management agreements also received scrutiny under state fee splitting laws. The fee splitting laws generally prohibit physicians from dividing their professional fee with any person or entity, unless an 14

exception applies. In many cases, the fee paid to the physician practice management company was based on a percentage of revenue attributable to physician services. Some courts, including Illinois courts, have ruled that percentage based arrangements constitute unlawful fee-splitting. These rulings have wide-ranging implications on the validity of arrangements which would otherwise be lawful in a non-health care setting. Anti-Assignment Provisions. Congress passed various laws preventing healthcare

providers from selling or assigning their receivables to others, or allowing any other party other than the provider to directly receive such money from the government.
10

Accordingly, it is

not possible to enter into a normal security arrangement in which a borrower gives the lender the right to stand in a borrowers shoes when it comes to receiving payments directly from the government. As a result, financing healthcare transactions may be more difficult to structure than industries where obtaining control over a major aspect of collateral is not so restricted. Transactional lawyers devise ways to legally overcome the anti-assignment laws. One involves a double-lock box device in which payments from the government are made first to an account controlled by the provider/borrower. Amounts are then routinely swept out of that account into another account controlled by the lender. Because payments are first made to an account controlled by the provider, the government is technically not making payment to a third party other than the provider, and the anti-assignment provisions are not violated. When Medicare and

10

42 U.S.C. 1395g; 42 C.F.R. 424.71; 42 U.S.C. 1395 u(b)(6); 42 C.F.R. 424.80; 42 U.S.C. 1396 a(a)(32); 42 C.F.R. 447.10. 15

Medicaid receivables are involved in a transaction, special care needs to be given to issues involving collateralizing these receivables. 11 Privacy Issues. In any healthcare transaction, parties need to be aware of confidentiality issues relating to protected health information. A lenders customary due diligence may expose it to protected health information. Both state and federal law restrict a healthcare providers use and disclosure of a patients protected health information. A healthcare providers general consent form may be sufficiently broad to permit disclosures related to the healthcare providers general business purposes. Similarly, HIPAA allows a healthcare provider to disclose protected health information for healthcare operations. Healthcare providers may disclose protected health information to a business associate so long as a business associate agreement is in place. Accordingly, healthcare providers may require its lender to sign a business associate agreement as a result of any disclosures related to protected health information. Regulatory Impact on Financing Transactions. As a general matter, the means in which a healthcare provider is structured is highly dependent upon the regulatory framework within which the healthcare provider operates. It is imperative for parties to a healthcare financing and their counsel to understand the healthcare industry and healthcare regulatory matters in order to
11

In a high-profile case, a finance company, National Century, provided loans to a variety of health care providers. National Century purchased the providers health care receivables, the proceeds of which went to the health care providers for working capital purposes. National Century then collected the cash from those receivables. When National Century encountered its own financial crisis, it stopped funding the health care providers. Many health care providers were able to divert payment of their receivables back to themselves, as opposed to National Century. While National Century was later found guilty of fraud and other improprieties, many other lenders took notice of the ability of some health care providers to re-direct payment of health care receivables away from the lender and directly to the health care provider. This caused many lenders to be more cautious in lending against health care receivables as well as impose greater checks and balances to avoid losing control over the collateral used to secure working capital advances. 16

understand the healthcare entitys revenue and assets as collateral. Many healthcare entities have bifurcated structures in which a separate licensed operating entity receives all or a majority of the revenues from operations. These revenues are then often distributed to affiliated and nonaffiliated entities through management fees, lease payments, consulting fees, preferred returns and other distributions. Many life science companies have off-shore operations, or hold Accordingly, potential investors, acquirors or lenders must

intellectual property off-shore.

carefully follow the money, understand the underlying regulatory environment and the proper operating structure. Similarly, management fees and fees paid to affiliated parties should be carefully reviewed. Lenders will often require that any such management fees be subordinated to the rights of the lender. In healthcare financings, the parties and their counsel must also understand how to structure the financing in light of various change of ownership requirements. As discussed above, the FTC and DOJ may get involved in the event of any antitrust concerns and the parties could risk divestiture. Also, a change of ownership may require state licensing agency approval, potentially a new certificate of need or a certificate of exemption, and CMS approval with respect to Medicare and Medicaid provider numbers. As discussed above, due to the difficulty in obtaining all approvals and finalizing transitional matters, many sale transactions are accomplished with the seller or prior operator still involved with operations pursuant to an operations transfer agreement. Accordingly, the transaction may involve extensive due

diligence, complicated indemnities, escrows, and additional provisions with respect to any acquisition financing. A portion of the sales price may be set aside in an escrow account to ensure a smooth transition and the sellers compliance with its representation and warranties. A buyer can set aside these escrowed funds if the seller has not complied with the purchase

17

agreement. This same structure may be used in sales of life science companies or other types of licensed healthcare entities. As a result, lenders carefully review how these structures impact the underwriting for the transaction and whether to take a collateral assignment of such arrangement. Further, if ultimate licensing and/or certification is not obtained, such an event would ultimately be considered an event of default. This could result in the lender accelerating the loan,

attempting to unwind the transaction or seizing its collateral. 4. Conclusion. The demand for capital in the health care market is high, while at the same

time accessing capital can remain a challenge. As a result, providers and other stakeholders are employing a variety of methods for financing healthcare transactions. The regulatory and

business issues unique to the healthcare industry play an important structuring role in any healthcare financing transaction.

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Sample Healthcare Representations and Warranties in Financing Transactions Defined Terms CON means any certificate of need or similar license which determines that there is a need for a healthcare facility at a particular location or within a certain geographic region. Healthcare Laws means all applicable laws relating to the possession, control, warehousing, marketing, sale and distribution of pharmaceuticals, the operation of medical, acute care or long term care facilities, patient healthcare, healthcare information, patient abuse, the quality and adequacy of medical care, rate setting, equipment, personnel, operating policies, fee splitting, including, without limitation, (a) all federal and state fraud and abuse laws, including, without limitation, the federal Anti-Kickback Statute (42 U.S.C. 1320a-7b(6)), the Stark Law (42 U.S.C. 1395nn), the civil False Claims Act (31 U.S.C. 3729 et seq.), (b) TRICARE, (c) HIPAA, (d) Medicare, (e) Medicaid, (f) the Patient Protection and Affordable Care Act (P.L. 111-1468), (g) The Health Care and Education Reconciliation Act of 2010 (P.L. 111-152), (h) Emergency Medical Treatment and Active Labor Act (42 U.S.C. 1395 dd), (i) quality, safety and accreditation standards and requirements of all applicable state laws or regulatory bodies, (j) all laws, policies, procedures, requirements and regulations pursuant to which Permits are issued, and (k) any and all other applicable healthcare laws, regulations, manual provisions, policies and administrative guidance, each as may be amended from time to time. HIPAA means the Health Insurance Portability and Accountability Act of 1996, as the same may be amended, modified or supplemented from time to time, and any successor statute thereto, and any and all rules or regulations promulgated from time to time thereunder. HIPAA Compliant shall mean that the applicable person or entity is in compliance with each of the applicable requirements of HIPAA, and is not and could not reasonably be expected to become the subject of any civil or criminal penalty, process, claim, action or proceeding, or any administrative or other regulatory review, survey, process or proceeding (other than routine surveys or reviews conducted by any government health plan or other accreditation entity) that could result in any of the foregoing or that could reasonably be expected to adversely affect such persons or entitys business, operations, assets, properties or condition (financial or otherwise), in connection with any actual or potential violation by such Person of the provisions of HIPAA. Medicaid means the medical assistance programs administered by state agencies and approved pursuant to the terms of Title XIX of the Social Security Act, codified at 42 U.S.C. 1396 et seq. Medicare means the program of health benefits for the aged and disabled administered pursuant to the terms of Title XVIII of the Social Security Act, codified at 42 U.S.C. 1395 et seq. Permit means all governmental licenses, authorizations, provider numbers, supplier numbers, registrations, permits, certificates, franchises, qualifications, accreditations, consents and approvals required under all applicable laws and required in order to carry on its business as now conducted, including as issued or required under Healthcare Laws applicable to the business of Borrower or necessary in the possession, ownership, warehousing, marketing, promoting, sale, labeling, furnishing, distribution or delivery of goods or services under Healthcare Laws applicable to the business of Borrower. Resident Agreements means the singular or collective reference to all patient and resident care agreements, admission agreements and service agreements which include an occupancy agreement and all amendments, modifications or supplements thereto.

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Third Party Payor means Medicare, Medicaid, TRICARE, and other state or federal healthcare program, Blue Cross and/or Blue Shield, private insurers, managed care plans and any other Person or entity which presently or in the future maintains Third Party Payor Programs. Third Party Payor Programs means all payment and reimbursement programs, sponsored by a Third Party Payor, in which Borrower participates. TRICARE means the program administered pursuant to 10 U.S.C. Section 1071 et. seq., Sections 1320a-7 and 1320a-7a of Title 42 of the United States Code, and the regulations promulgated pursuant to such statutes. Borrower hereby represents and warrants to Lender as follows: 1. Borrower has obtained all Permits, material licenses, accreditations and approvals of governmental authorities and all other persons or entities necessary to own or lease and operate its business or to otherwise provide healthcare services. Borrower is in material compliance with the terms and conditions of all Permits and all Permits are valid and in full force and effect. Borrower has no knowledge that any governmental authority is considering limiting, suspending or revoking any such Permit. 2. All of the payor agreements or payor accounts between Borrower and insurance carriers, self-insured employee trusts or other payors are currently in full force and effect. Borrower maintains Medicare and Medicaid provider status and is the holder of the provider identification numbers associated therewith, all of which are currently valid. There are no outstanding deficiencies or work orders of any authority having jurisdiction over Borrower requiring conformity to any applicable statute, regulation, ordinance or law pertaining to Borrower or its facilities in general, including but not limited to the Third Party Payor Programs. No Borrower is currently subject to any plan of correction that has not been accepted by or is currently the subject of a review by the applicable state authority. All Medicare, Medicaid, and private insurance cost reports and financial reports submitted by Borrower are and will be materially accurate and complete and have not been and will not be misleading in any material respects. No cost reports for the Borrower remains open or unsettled and there are no current, pending or outstanding Medicare, Medicaid or other Third Party Payor Program reimbursement audits or appeals pending with respect to the Borrower, except in accordance with applicable settlement or appeals procedures that are timely and diligently pursued (provided that the aggregate amount at issue in any appeals does not exceed $25,000) and except as a result of any processing delays of the applicable Third Party Payor Program. Borrower is not subject to any proceeding, suit or, to Borrowers knowledge, investigation by any federal, state or local government or quasi-governmental body, agency, board or authority or any other administrative or investigative body (including the Office of the Inspector General of the United States Department of Health and Human Services): (i) which may result in the imposition of a fine, sanction, a lower reimbursement rate for services rendered to eligible patients, or which would have a material adverse effect on any Borrower or its operations; (ii) which could result in the 20

3.

4.

revocation, transfer, surrender, suspension or other impairment of any provider agreement or Permit; (iii) which pertains to or requests any voluntary disclosure pertaining to a potential overpayment matter involving the submission of claims to such payor by Borrower; or (iv) which pertains to any state or federal Medicare or Medicaid cost reports or claims filed by Borrower. 5. All billing practices of Borrower, including those with respect to all Third Party Payors, including the Third Party Payor Programs, if applicable, and private insurance companies, including managed care organizations, have been and will be in compliance with all applicable laws, regulations and policies of such Third Party Payors and Third Party Payor Programs in all material respects. Borrower has not made any decision not to renew any participation agreement or provider agreement or other Permit, nor is there any action pending or threatened to impose material intermediate or alternative sanctions with respect to the Borrower. Neither Borrower nor any of its affiliates or any of their officers, directors, agents or employees, nor any agent acting on behalf of or for the benefit of any of the foregoing, has directly or indirectly in connection with Borrower or otherwise: (i) offered or paid any remuneration, in cash or in kind to any past or present suppliers, patients, medical provider members, contractors or Third Party Payors in violation of applicable law; (ii) given or agreed to give, or is aware that there has been made or that there is any agreement to make, any gift or gratuitous payment of any kind, nature or description (whether in money, property or services) to any customer or potential customer, supplier or potential supplier, contractor, third party payor or any other person in violation of applicable law; (iii) made or agreed to make, or is aware that there has been made or that there is any agreement to make, any contribution, payment of gift of funds or property to, or for the private use of, any governmental official, employee or agent where either the contribution, payment or gift or the purpose of such contribution, payment or gift is or was illegal under applicable law; or (iv) made, or agreed to make, or is aware that there has been made or that there is any agreement to make, any payment to any person with the intention or understanding that any part of such payment would be used for any purpose other than that described in the documents supporting such payment. Neither Borrower nor any of its affiliates or any of their officers, directors, agents or employees, is a party to any contract, lease agreement or other arrangement (including any joint venture or consulting agreement) related to Borrower with any physician, healthcare facility, hospital, nursing facility, home health agency or other person who is in a position to make or influence referrals to or otherwise generate business or operations for Borrower to provide services, lease space, lease equipment or engage in any other venture or activity that is prohibited by law or that did not provide commercially reasonable terms and fair market value consideration for the goods, property, services or use of money provided, exchanged or acquired thereunder at the time entered into. 21

6.

7.

8.

Borrower is in compliance with the applicable provisions of 42 U.S.C. 1320a-7b prohibiting illegal remuneration (including kickbacks, bribes, or rebates) by properly disclosing and appropriately reflecting its pricing in any cost claimed or charge made, if any, under the Third Party Payor Programs. All Resident Agreements comply with all applicable Healthcare Laws. Without the prior written consent of Lender, Borrower shall not: (i) modify the form of Resident Agreement approved by Lender; (ii) accept any payment under any Resident Agreement in violation of the cash management or lockbox provisions required by lender; or (iii) enter into any Resident Agreement upon rates other than market rates or upon a form that fails to comply with applicable Laws.

9.

10. Borrower is in compliance with all applicable Healthcare Laws. Borrower is HIPAA Compliant. 11. If required, Borrower has and shall maintain in full force and effect a valid CON for no less than the number of beds and units as currently in effect. Borrower shall maintain any applicable CON free from restrictions or known conflicts which would materially impair the use or operation of its business for its current use, and shall not permit any CON to become provisional, probationary, or restricted in any way.

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