Borrowing to build

Share this content:
Providers are seeking ways to obtain capital to replace or renovate.
Providers are seeking ways to obtain capital to replace or renovate.

A paradox exists for new construction funding of skilled nursing facilities. An aging inventory of 1960s and '70s-era SNF buildings dots the U.S. landscape, so the need for new housing is high. Yet the highly regulated, reimbursement-volatile Medicaid and Medicare models make lenders too nervous to commit. 

It presents a formidable challenge and a test of diligence for SNF operators who believe a real need exists for a new facility in their community. Still, getting the necessary funding for a new SNF project isn't impossible and can be attainable if loan applicants present a compelling case, financial specialists say.

“A solid track record and demonstrated capability for successful operation is an absolute key within the skilled nursing industry,” says Nick Gesue, senior vice president and chief credit officer at Lancaster Pollard. “Another key consideration is that in most states there is some type of moratorium on new construction, whether through the Certificate of Need process or through limitations on new Medicaid provider agreements. In many ways, this limitation of supply can be viewed as a positive for the sector, but it is countered by the significant volatility in both state and federal government reimbursement.”

The SNF paradox also relates to the shifting acuity levels between acute care, independent living, skilled nursing and assisted living, with need-driven services drawing investor interest. Given the higher acuity of residents SNFs are handling, it would seem to be an investment magnet except for the ribbons of regulatory red tape. Therefore, lenders see assisted living with memory care as having both the “right” level of acuity and dependable private pay revenue streams.

SNF operators may still have an advantage because they have short-term and transitional care facilities, as well as long-term facilities, according to Kathryn Burton Gray, senior managing director of seniors housing for RED Capital Group.

“They are more in touch with the market dynamics and what health model is characterized by the community where they plan to operate,” she says. “By providing more services to higher acuity residents, assisted living facilities are blurring the lines of healthcare provided by a licensed skilled nursing facility. The decrease of SNFs throughout the country provides anecdotal evidence of this practice.” 

In turn, some developers and operators are designing buildings that are flexible enough to serve either population, at either time, Burton Gray says.

Best option: HUD 

For SNFs looking for a new construction loan, the Department of Housing and Urban Development remains the best option as the public financing agency has been a stalwart for skilled nursing since the economic collapse of 2008. New construction financing dried up after Wall Street crumbled, and for SNFs it is remaining scarce, experts have found. 

Private financiers have been steadfastly selective about providing loans for new skilled nursing buildings and even HUD has had reservations about it, says Dan Biron, senior vice president and co-head of Berkadia's senior housing group.

“HUD is pretty much the only game in town for nursing homes,” he says. “But out of 700 loans that were done in the HUD 232 program this year, only 17 were new construction. So they are very cautious about it, too.”

The process of getting a new construction loan also can be a protracted endeavor, Biron says, usually taking about a year to complete. Yet despite new construction reservations, he says a loan can be obtainable under the right circumstances.

“On the nursing home side, they need a track record of operating these buildings in the right market at the right site,” Biron says. “There are a lot of proposed projects out there, but only a small percentage is truly worth doing. It is up to operators to show lenders that their project is worthy.”

It starts with experience — show the lender a track record of success with new construction and that the developer is a key partner on the project. Another key factor is equity, Biron says, because “the more you have, the better your chances.” That means going beyond the typical 10% and into a more attractive 20% to 25%, he says.

Claudia Gourdon, senior vice president and national marketing manager for Healthcare Finance Group, adds that her first question to loan applicants is whether the construction is an expansion of an existing building or a completely new project.

“We are more positively disposed if the project is an expansion of an existing operating company and the operator has a solid track record than if this is not the case,” she says. “We are even more favorably disposed if it is a renovation or expansion of an existing facility as opposed to building a new facility.”

Because the lending community is wary of the reimbursement difficulties presented by Medicare and Medicaid, Gourdon suggests that loan applicants gather some hard evidence to demonstrate a lean and flexible operation.

“It is important that the operator can prove resiliency to declines in reimbursement,” she says.

Beating the odds

Besides offering the most attractive financing terms to SNF applicants, HUD also represents the best chance for operators who want to build a new facility, says Michael Vaughn, senior vice president of FHA Finance for Walker & Dunlop. Despite the low number of new projects in recent years, he maintains that HUD will give them every consideration.

“While commercial banks are easing back into the market, they remain primarily relationship-oriented, while HUD evaluates individual deals on their own merits,” Vaughn says. “They are looking for strong, experienced borrowers and well capitalized projects for both new and replacement facilities. HUD has had a very low default rate in their 241a program for additions to existing facilities and also had very few problems with new construction SNFs, which have been primarily replacement facilities.”

The old real estate mantra “location, location, location” still applies to the long-term care market and if anything, is more relevant than ever, Burton Gray says, suggesting that operators conduct a feasibility study, market study and full appraisal.

“It can be as simple as an internal Claritas study or a more detailed report with specific data that includes demographics, income and existing and future competition,” she says. “The operator is an important component, driving the business revenues, which in turns drives the real estate value.”

To be sure, all members of the development team must be experienced in the type of product being proposed, Vaughn says. The operator needs to be part of that ownership because inexperienced developer-owners are unlikely to be successful in obtaining financing even if they have an agreement with an experienced operator.

“Inexperienced ownership, insufficient capitalization and overbuilding in a particular market are all impediments to getting the deal done,” he says. “If the elements of experience, capital strength and proportionality to the market are there, the particulars of demand projection are less important. We have found that when an experienced operator-owner with a significant investment of their own funds is willing to embark on a project, that is the most convincing validation needed.”

Regardless of whether the developer is part of the same group as the operator or a third party, “the capability of the ownership to keep the project on budget and on schedule is extremely important in evaluating a construction loan,” Gesue says. “In my opinion, the two key threshold criteria are strength of the market and capability of the operator-developer. These tend to be the biggest reasons to get excited or become very concerned about a project.” 

Biron maintains that ultimately it comes down to confidence in all elements of your project and backing it up with data.

“Be prepared to present your deal with raised equity, substantial market data and a strong alliance with a partner who has done this before,” he says. “If you can provide all of this, give me a call.” 

Maximizing construction loan chances

Applicants should have these elements in their proposals, financial specialists say:

Equity — The higher the percentage, the better. Strive for 20% to 25%.

Experience — Forge an operator-developer partnership in which both parties have strong track records in developing new facilities.


Market data — Conduct a market appraisal and gather as much data as possible about your particular market.


Diligence — Demonstrate that the project will be on budget and on schedule.


Resilience — Prove your organization's flexibility in successfully weathering the volatile nature of Medicare and Medicaid reimbursement rates.


Patience — The loan process — especially through HUD — can be a protracted experience that takes up to a year to complete.






close

Next Article in News