Mercy Iowa City at ‘impasse’ with auction winner for its assets

IOWA CITY — After declaring its largest bondholder Preston Hollow winner of a bankruptcy auction for its assets last week — and issuing a news release to that effect — Mercy Iowa City now is refusing to move forward with the transaction and transition to new ownership, confirming Friday it has “reached an impasse.”

“Mercy Iowa City continues to negotiate in good faith with Preston Hollow Community Capital regarding their bid to purchase Mercy,” a hospital spokeswoman shared with The Gazette on Friday. “However, Mercy and Preston Hollow have reached an impasse in resolving a disagreement regarding a critical bid component, which is how the operating losses will be funded after Dec. 1, 2023.”

The disagreement involves a tangle of prerogatives, priorities and personal quarrels among a growing list of involved parties — including Mercy and its charitable foundation, attorneys, creditors and bondholders.

As Mercy continues to operate at a loss — depleting its bank accounts and ability to pay attorneys and creditors — all sides are angling for the millions that Mercy’s nonprofit foundation recently agreed to distribute for the hospital’s “operating expenses.”

In a petition Preston Hollow filed Thursday in U.S. Bankruptcy Court — revealing it outbid a University of Iowa $28 million offer with a $29 million bid deemed to be the “highest and otherwise best bid" — the bondholder pulled back the curtain on that dispute and asked a judge to force Mercy to proceed with the sale “in accordance with the terms set forth in the winning bid at the auction.”

In a statement provided to The Gazette, Mercy said Preston Hollow wants a judge to dig into auction transcripts to determine definitions and intentions. And it accused the bondholder of making “inaccurate and inappropriate statements regarding the process and shared information.”

“Mercy is confident in its position and intent of the bidder and had hoped to continue to work in collaboration with Preston Hollow rather than file a motion,” Mercy officials said. “Mercy’s management and attorneys are working on strategic options for a timely resolution.”

Define ‘operating loss’

The primary term at issue in the spat is “operating losses.”

Preston Hollow’s winning $29 million offer included a $27.8 million “credit bid“ — tapping into the more than $60 million Mercy owes Preston Hollow and master trustee Computershare — and another $1.2 million cash bid to cover ”additional operating losses incurred by the hospital between Nov. 15, 2023 and Nov. 30, 2023.“

On top of that, Preston Hollow — in partnership with would-be operator American Healthcare Systems — agreed to provide additional funds for operating losses beyond Nov. 30 until the sale close, anticipated on or before Feb. 29.

But, according to Thursday’s court filing, Mercy is maneuvering around language agreed to at the auction in an attempt to “levy a significant additional funding burden on the bondholder representative retroactively.”

The specific debate relates to the phrase “operating losses,” which Preston Hollow said was defined in the “ordinary” way.

“The bondholder representative understood the term ‘operating losses’ to have its ordinary meaning, i.e., the amount by which the hospital’s operating expenses exceed its available funds to pay such expenses, including available cash-on-hand,” according to Preston Hollow’s Thursday petition.

Mercy, according to Preston Hollow, “never specified that they had a different intended meaning, i.e., that certain available funds should be carved out of the calculation of available cash.”

Expounding on that carve-out, Preston Hollow referenced the millions Mercy’s foundation agreed to distribute to help offset the hospital’s “operating expenses.”

And that, when it came time to document the auction sale, Mercy — for the first time — asserted any foundation funds made available to them "should not be included in the calculation of ‘operating losses’ for purposes of the bondholder representative’s backstop obligation.“

”In other words,“ according to Preston Hollow, ”the foundation’s contributions, even though expressly earmarked to ‘offset the operating expenses of the hospital,’ should be ignored as part of the operating loss calculation.“

Restricting Preston Hollow’s access to foundation dollars “would have the practical effect of significantly increasing the funding burden to be borne by the bondholder representative in a manner that was not agreed to by the bondholder representative at the auction.”

“Under (Mercy’s) formulation of the term ‘operating expenses,’ it no longer means ‘actual operating losses’,” according to Preston Hollow’s filings. “Instead, according to (Mercy), the term ‘operating losses’ has a notional meaning that does not take into account foundation funds expressly made available for the payment of operating expenses.”

This came into focus Tuesday, according to Preston Hollow, when Mercy provided them a “draft operating budget” after weeks of asking.

That draft budget revealed “the creative application of the foundation’s unrestricted funds, such that none of the funds would be applied on a go-forward basis to prospective operating expenses.”

By removing foundation funds from the equation, according to Preston Hollow, Mercy effectively created a $3.5 million pool for “estate professional fees.”

Attorney fees

Mercy’s attorneys over the last 10 days have asked the court to approve payments nearing $1 million for three weeks in August -- a sign total attorney costs could climb much higher.

Despite any implied connection between carved-out foundation dollars and attorney fees, the foundation addressed the issue in its agreement to fund Mercy operations — so long as it remains a hospital.

“For the avoidance of doubt, such operating expenses shall not include any professional fees or expenses of counsel, financial advisers, or investment bankers for (Mercy), the (creditors committee), or the bondholder,” according to the foundation’s funding agreement.

The law firms Mercy has been using through its bankruptcy process — Nyemaster Goode, of Cedar Rapids ,and McDermott Will & Emery, of Chicago — last week asked the court to approve Mercy payments totaling $810,928 for the period from Aug. 7 to Aug. 31.

Additionally, patient care ombudswoman Susan Goodman this week requested payment topping $19,312 for her work between Aug. 10 and Sept. 30.

And H2C Securities, Inc. — financial adviser and investment banker for Mercy — on Friday asked the court to approve payment of $49,157 for its work in September.

In seeking compensation for their work, the attorneys, advisers, and ombudswoman had to break down their fees and hours worked — with McDermott Will & Emery accounting for the lion’s share of the fees at $743,059 for the work of 24 attorneys during the month of August.

Partner Daniel Simon is seeking the highest pay for that month at $173,710 — for 120 hours of work billed at $1,450 an hour. Partner Felicia Perlman billed the highest hourly rate of $1,850 — amounting to $162,245 for her 88 hours of work in August.

The majority of their time was spent on “litigation” and “asset disposition,” according to court documents.

The highest-paid attorney on this case for Nymaster Goode is Roy Leaf, billing $295 an hour for 127 hours in August — amounting to $37,494.

Mercy hasn’t filed a request for payment to ToneyKorf Partners, which it hired in March for management and restructuring services. As part of that partnership, Mercy agreed to hourly fees for a range of executives — including $950 an hour for Chief Restructuring Officer Mark Toney and $725 an hour for Chief Financial Officer James Porter.

Last month, ToneyKorf reported seven of its employees were working on the Mercy bankruptcy — ranging in hourly pay from $300 to Toney’s $950.

Vanessa Miller covers higher education for The Gazette.

Comments: (319) 339-3158; vanessa.miller@thegazette.com