Instead, assisted living has gained most of the attention from investors lately as lending activity heats up three years after the economic collapse of 2008. The AL sector, lenders reason, has the advantage because it has the acuity component without all the government intervention. As a result, SNFs are sustaining a double hit of devaluation and a dearth of capital sources, financial analysts say.
“Buyers and investors are being cautious in their valuations of SNFs today because of the uncertainty around Medicare reimbursement, not to mention Medicaid problems,” said Steve Monroe, managing editor and partner at Irving Levin Associates. “This will be contributing to falling average prices most likely this year and into next. But the other factor for falling average prices — as opposed to falling valuations — is that older, lower-quality, smaller mom-and-pop sellers will find it hard to compete in today's world and as such will decide to exit the business. Those lower-priced facilities will contribute to lower average prices in general.”
Skilled nursing facilities are facing a $4 billion decline in annual post-acute care payments from Medicare based on an 11% payment reduction that takes effect Oct. 1. CMS estimates that nursing homes receive about 20% of their total revenues for post-acute care from Medicare, meaning that total revenues are expected to drop by a little more than 2%. Moreover, Medicare and Medicaid are likely to be targeted by Congress for even deeper cuts as part of a long-term debt-reduction strategy.
Capital availability currently “appears to be very uneven” for skilled nursing — particularly for small operators, agrees Doug Korey, managing director of Shrewsbury, NJ-based Contemporary Healthcare Capital.
“On the one hand, we are seeing some incredible volumes of capital that in certain ways compare favorably prior to the crash,” he said. “Mainly, this capital is going to larger companies for acquisitions, but we see some of it trickling down to regional players. We have heard of nonrecourse transactions as well as covenant ‘light' deals that are reminiscent of 2007. On the other side of the market, the smaller operators are still struggling to find capital, particularly with construction and turnaround financing.”
Overall, uncertainty continues to pervade the economy with a volatile stock market, high unemployment, weak housing market and stagnant consumer spending, Korey said.
“These factors obviously influence politics and given the extremely worrisome levels of government spending and resulting budget crisis, it certainly seems like we are in for a real threat to Medicaid and Medicare reimbursement levels for the next couple of years,” he said. “All of this influences investment in the healthcare space.”
The National Investment Center for the Senior Housing & Care Industry's first quarter report showed seniors housing occupancy rising, but in certain geographic areas, occupancy was still being hurt by the economy.
Nursing home occupancies bottomed out in 2010 and have begun a recovery, but questions about current and future Medicare and Medicaid reimbursement cuts, as well as the impact of RUGS IV and MDS 3.0, has meant virtually no new construction or turn-around financing for small to mid-sized operators.
Reimbursement questions have indeed put the financial community “in a precarious spot regarding the SNF sector as we wait for the final determination from CMS regarding potential Medicare reimbursement reductions for fiscal year 2012, as well as the likelihood for widespread decreases in state Medicaid reimbursement rates,” said Jeff Binder, managing director for Senior Living Investment Brokerage.
“This uncertainty has put downward pressure on pricing for SNFs and, conversely, increased cap rates for properties with exposure to these two likely events,” he added.
For SNFs, Monroe says the primary indicators are reimbursement, acuity levels and the ability to compete in tomorrow's healthcare world. Conversely, assisted living's indicators are location, quality of the property, occupancy rates and sustainability and growth rate.
“Everyone says that the senior housing and care market is not cyclical, but it does tend to follow the general economic cyclicality with budget cuts, unemployment rates, inflation levels, interest rates and capital availability,” he said. “The pattern has been values and prices go up, then come down, then go up again and then fall. You can be smart by buying low and selling high, or buying at any level and knowing how to improve cash flow regardless of the ups and downs of the general market.”
Still in the game
James F. Sherman, senior managing director of seniors housing for Columbus, OH-based Red Capital Group, noted that as a business class, SNFs have fewer lenders to consult. Still, capital sources do exist for SNFs with sound fundamentals, he added.
“REITS are players, local and regional banks are typically good debt providers and a few of the mortgage companies such as Red Capital are providers of debt to the long-term care industry,” Sherman said. “Even with the slow pace of completing FHA transactions for nursing homes, FHA is still a very good and viable source of debt for the industry. You can't beat the low interest rates and the fully amortizing loans over 30 to 35 years.”
The Department of Housing and Urban Development, Fannie Mae and Freddie Mac are also underwriting loans for the skilled nursing sector, though Sherman adds that “there is much more careful scrutiny of these transactions than there used to be.”
IL & CCRC ‘headwinds'
While skilled nursing facilities are behind the 8-ball in securing capital, they are still better off than independent living and continuing care retirement communities, financial analysts say.
“The issues with the housing market continue to impact the seniors' independent living financing in certain markets,” Sherman explained. “CCRCs continue, in many markets, to be experiencing difficulty selling their units.
Independent rental buildings are experiencing some softness in their occupancy levels. The values of homes and the sales transaction pace needs to increase dramatically before the occupancy and financial pressures facing independent living properties will turn around. Thus, without an improving housing market, lenders are reluctant to jump in making loans on less than strong financial results.”
NIC data show that the two areas most affected by soft housing markets are independent living and CCRCs, where occupancies for stabilized properties have dropped from over 90% in 2007-08 to the mid-80% range in the first quarter of 2011. Therefore, financing for the construction of these facilities reportedly remains scarce. Conversely, assisted living facilities' occupancy has remained strong, so financing for stabilized AL facilities has flourished.
The negative external economic factors are causing a ripple effect through the IL and CCRC sectors because potential residents cannot sell their homes, NIC President Robert G. Kramer said.
“No question, seniors housing is recession-resilient, but definitely not recession-proof,” he said. “The poor housing market, weak job growth and poor consumer confidence are all critical for seniors to move. As long as they exist, they'll be headwinds for these sectors.”
Regardless of where they live, the ability of seniors to sell their homes in this market has been problematic, making it harder for them to move into independent living units and CCRCs.
Still, occupancy rates are relatively high for these properties at this point. Kramer chalks this situation up to “a delayed impact, because the average turnover rate is seven years … but when there is turnover, operators are having a hard time filling those vacancies.”
Upward occupancy trend
If there is a ray of light for private pay seniors housing amid all the cloudiness, it is an increasing absorption rate, Kramer said.
“More people are living in the sector and for the first time, occupancy is outpacing new construction starts,” he said. “That is a good sign because it means that the rate of people moving in is higher than vacancies for properties being built. So for the future, that means upward pressure on occupancy rates.”