The 2012 sales volume of seniors housing properties will fall well short of matching the near record level of activity that was reached last year. But, that decline in transaction volume is by no means indicative of waning investor interest.
Exclusive results of a fourth quarter survey conducted jointly by NREI and Fort Lauderdale, Fla.–based Senior Housing Investment Advisors Inc. (SHIA) show that seniors housing pros remain optimistic about improving fundamentals and continued activity across all segments of the industry, including acquisitions, construction and financing. Just more than three-fourths of investors (76 percent) expect construction on new projects to increase during the next six months, while 65 percent of respondents expect that investment activity will grow. In addition, more than half of respondents (58 percent) anticipate that financing will be more available during the next six months [Figure 1].
“The fundamentals and performance in this sector are compelling. Capital continues to aggressively seek out opportunities, and that will continue in 2013,” says Mel Gamzon, president of SHIA, a national real estate advisory firm that specializes in seniors housing transactions.
Real estate transaction activity in the past year has been consistent, but not as robust as 2011. During the first three quarters of 2012, sales volume of seniors housing and nursing care facilities topped $5.2 billion, which is a fraction of the roughly $27.4 billion that occurred in all of 2011, according to New York–based real estate research firm Real Capital Analytics.
Sales velocity dipped in 2012 primarily because there have been fewer large portfolio transactions this year after a big year for portfolio deals in 2011 when REITs in particular were active buyers. Portfolio sales alone accounted for about $11.5 billion in investment volume in 2011, according to RCA. “2011 was so massive because of the REIT acquisitions. It was very difficult to keep pace with that level of transaction volume,” says Gamzon. “What we now have is a more normalized market dynamic for real estate transactions in this industry.”
Recovery fuels demand
The seniors housing sector continues to shed the lingering effects of the slow economic recovery and the slumping single-family housing market. The majority of respondents (88 percent) said that the state of the U.S. economy has had a negative effect on seniors housing occupancies in the past year, while 66 percent also believe the state of the U.S. housing market has produced a negative effect on occupancies.
That being said, occupancy levels continue to trend higher as the sector recovers. Overall, the average occupancy rate for seniors housing properties in the third quarter of 2012 was 88.8 percent, which is an increase of 0.8 percent from a year earlier, according to NIC MAP, a data analysis service of the National Investment Center for the Seniors Housing & Care Industry (NIC). The seniors housing average occupancy rate has risen consistently during the past 10 quarters and is 1.8 percent above its cyclical low of 87 percent in the first quarter of 2010. Year-over-year rental rates also grew at a rate of 2.2 percent, according to NIC.
Survey respondents are reporting even stronger performance with occupancy levels that average 91 percent. Among those respondents who own and/or operate seniors housing properties, the majority (54 percent) own fewer than 600 units.
Respondents also are optimistic that occupancies will continue to rise. About half of respondents (53 percent) expect occupancy levels within their seniors housing properties to increase over the next six months [Figure 2]. Those that do predict a further increase in the coming six months expect occupancies to rise an average of 74 basis points.
“The fundamentals, the demographics and the lack of new supply are all creating opportunities for us to invest in a sector that we view as having very favorable growth over the next several years,” says David Hegarty, president and COO at Newton, Mass.–based Senior Housing Properties Trust. The firm expects to close on about $230 million in seniors housing aquisitions.
REITs dominate buying
REITs such as Chicago-based Ventas Inc. have been exhibiting a voracious appetite for seniors housing properties. The REIT is currently the largest owner of seniors housing properties in the United States. Year-to-date through October, Ventas has invested roughly $1.7 billion in acquisitions primarily in seniors housing properties and medical office buildings. Although that is a fraction of the more than $11 billion the firm invested in 2011, it still represents a significant outlay for the firm.
“We have been very strategic and focused about diversifying our business,” says Lori Wittman, vice president of capital markets at Ventas. The REIT has been rapidly growing its portfolio of both seniors housing and medical office properties with an emphasis on increasing its private pay business and improving its balance sheet. For example, Ventas announced in April that it would acquire 16 private pay seniors living communities totaling 1,274 units from Sunrise Senior Living Inc.
Similar to results from NREI and SHIA’s ,a href="http://nreionline.com/seniorshousing/seniors_housing_outlook_04162012/">first quarter survey, respondents predict that independent living/assisted living properties will experience the biggest growth in investor demand in the coming six months. Overall, 42 percent of respondents believe investor appetites for independent living/assisted living properties will grow, while 38 percent see the greatest growth in memory care. Respondents were less optimistic about growth in other sectors such as continuing care retirement communities (12 percent); age-restricted communities (5 percent); and skilled nursing (0 percent) [Figure 3].
“Of late, we have bought mostly independent living,” agrees Hegarty. “Independent living was the sector that was impacted the most by the downturn in the economy. So, as things started to improve, they are rebounding the most,” he adds.
Although both independent living properties and assisted living properties are averaging occupancies of 88.8 percent in the third quarter, the average occupancy rate for independent living is now 2.0 percentage points above its cyclical low, while occupancy in assisted living is 1.7 percentage points above its respective cyclical low, according to NIC.
Competition among the REITs to capture portfolios with top quality assets is putting some pressure on pricing. However, cap rates in the broader seniors housing industry have remained relatively stable over the past year.
verage cap rates for seniors housing have been about 8 percent, while cap rates for nursing care facilities are at about 11 percent, according to RCA. “We haven’t seen any dramatic downward movement in cap rates. They have been quite consistent throughout 2012,” says Gamzon. “We would anticipate the same trend going forward for the next six months.”
Respondents are split on their expectations for changing cap rates. Nearly half of respondents (45 percent) expect no change in cap rates in the next six months, while 29 percent expect rates to decrease and 24 percent expect rates to increase.
Financing gap improves
Although access to capital is continuing to improve, the market remains bifurcated. REITS have good liquidity and access to capital in the public markets, as well as open lines of credit. At the same time, other buyers can get financing, but it is not as easily accessible as it is for the public players.
This is an issue because deals require a significant equity commitment, which can be a deterrent even to institutional buyers. Smaller private buyers typically have to rely on obtaining financing through Fannie Mae, Freddie Mac or HUD, which can take time and also has its restrictions. For example, Fannie and Freddie won’t allow a second loan to be put on the same property. That rules out a lot of potential bidders. “I think people are trying to figure out ways to play in this space, but just because of all of those factors involved, it limits the number of real bidders out there,” Hegarty says.
That being said, banks are selectively providing financing. Capital markets have been bolstered by solid fundamentals within the seniors housing market. As a result, investors have access to multiple sources of capital. When asked what types of debt financing respondents are considering for acquisitions and new construction, more than half of respondents, 55 percent, said they are considering local/regional banks for debt financing. Respondents also are exploring a variety of options with top picks including national banks (40 percent); HUD (39 percent); and Fannie Mae and Freddie Mac (31 percent).
Another bright spot in the financing sector is a booming refi business. The ability to refinance through the GSEs and HUD at extremely low interest rates is driving a significant level of lending activity. For example, Cleveland-based KeyBank has placed $1.4 billion in the seniors housing market year-to-date through September, either in direct lending or through participation in providing financing through syndicated deals and agency financing with the GSEs and HUD. About one-third of KeyBank’s total volume, $500 million, has involved property refinancing through the GSEs.
HUD, Fannie and Freddie are offering fixed-rate loans at 3.5 percent and lower for terms that range from five to up to 35 years in the case of HUD. “It is very attractive for owner-operators to lock in to those long-term rates. So you see a lot of folks capitalizing on this low rate environment,” says Michael Lugli, executive vice president and national manager of the KeyBank Real Estate Capital Healthcare team.
For those seeking to refinance loans, the lender requirements viewed as the most challenging are: higher equity contributions at 35 percent; recourse loans/personal guarantees at 23 percent; and higher debt-service coverage ratios at 17 percent [Figure 4].
Spikes in renovation
Renovation and repositioning of older properties is expected to gain traction in the coming year. Competition among newer class-A properties is forcing some buyers to look at viable options among class-B and even class-C properties. Owners also are looking for ways to boost yields by renovating under-performing seniors facilities or enhancing program services.
As the costs to develop new seniors housing facilities increase, 64 percent expect that the acquisition, renovation and repositioning of older projects will become increasingly attractive to investors and operations. Twenty-one percent of respondents did not expect renovation to become any more attractive, while 15 percent of respondents said they were unsure
SHIA is currently marketing a portfolio in the western United States that offers significant upside for a buyer that is willing to convert the existing independent living facilities to assisted living and partial memory care. “Investors are chomping at the bit to acquire those types of assets that can be acquired based on current operating performance,” says Gamzon.
Development is beginning to return, albeit on a very selective basis. More than half of respondents (61 percent) have new construction ventures planned in the next six months, which is up from the 51 percent that were reportedly planning new seniors housing properties in the first quarter survey. The largest percentage of respondents (41 percent) is planning independent living/assisted living projects. A variety of other projects are in the works, including memory care (30 percent); age restricted communities (13 percent); skilled nursing (9 percent); and CCRC at 9 percent.
“There is demand for new properties, and you are starting to see an increase in construction as banks are more willing to look at doing that financing,” says Lugli. As the market has recovered and occupancies have improved, owners also are more confident and more willing to commit their own equity to projects, he adds.
For those seeking construction financing, experience remains a key component. An overwhelming majority of respondents (88 percent) rated having an experienced management team as a high priority (rated four or five on a five-point scale), while 86 percent also rates having an established track record as a developer as an important factor when seeking construction financing.
Whether it is renovation or new construction respondents do expect the industry to focus on providing more affordable options. “There is very little targeting what the lower middle class can afford,” says Hegarty. “I think there is an opportunity out there for people who can build properties that can attract that niche.” Half of respondents expect the industry to focus more attention on investor opportunities in the affordability marketplace, while 26 percent did not think that was the case and 24 percent were not sure.
What’s ahead for 2013?
Although investment sales in the broader market declined in 2012, there is still an abundant supply of for-sale properties on the market. “We have unbelievably strong fundamentals between demographics and policy shifts and a consolidating industry—all things that are really a strong base of growth for the future of the industry,” says Ventas’ Wittman.
Demand for seniors housing properties remains high, which will encourage some owners that have been on the fence to put their properties on the market. Both U.S. and foreign investors are continuing to focus on seniors housing properties as a viable need-based real estate investment platform. In addition, investors are seriously looking at not just core assets but value-add opportunities where repositioning of existing facilities programmatically will represent a major trend for the business over the coming six months.
Ultimately, seniors housing tends to be a more defensive, needs-based real estate sector that will continue to perform well amid slower economic growth. “The overall improvement of the economy will enhance this business,” says Gamzon. “If there is a dip in the economy, this sector is not recession proof, but it is recession resistant. We have seen this over the past five years as compared to other real estate sectors.”
About the Survey
The NREI survey, conducted between October 9 and 31, yielded 164 respondents, including 117 directly involved in seniors housing as brokers, lenders, developers, owners or operators.