After snapping up several large ‘Class A’ senior living portfolios between 2011 and the present, real estate investment trusts (REITs), hungry to keep their margins healthy, are casting wider nets that may include off-market deals, other asset types, and new development.
“The biggest challenge the REITs are currently facing is a shortage of quality properties to purchase,” says Ryan Saul, managing director of Senior Living Investment Brokerage. “A number of large, portfolio transactions have been acquired over the past three years and not too many remain.”
In terms of large ‘Class A’ portfolios, REITs have purchased all that they can—at least so far, says Matthew Whitlock, a senior vice president at real estate broker CBRE’s National Senior Housing Group.
But while the acquisition marketplace of available properties has “shrunken dramatically,” according to Whitlock, “there are still a number of portfolios that have not been put on the market for sale that remain as acquisition candidates.”
With fewer acquisition opportunities, most major REITs are considering a number of different investment opportunities to diversify their acquisition strategies into other avenues, he says.
Ventas, for example, has been actively pursuing medical office buildings, including the $760 million acquisition of Cogdell Spencer‘s 72 MOBs that closed last April, while HCP, Inc. has been providing high-yield debt financing in transactions where they’re not participating in the equity.
Another strategy is development. Health Care REIT has been buying portfolios with existing operating partners, such as its $3.4 billion—and growing—deal to acquire nearly all of Sunrise Senior Living’s property assets, and it’s also offering development capital, according to Eric Anderson, vice president of development at Ryan Companies.
Not many REITs are taking the plunge into new construction financing, he says. While HCN is willing to fund a percentage of the equity on deals, it has to be in a market they’re interested in, and there has to be an operator who’s willing to do a sale-leaseback.
“Few REITs want to do deals with a guaranteed take-out—they want to provide part of the equity on the front end, and then on the back-end a preferred right to buy, but not a commitment,” he says.
While CBRE has also heard in the marketplace that REITs are beginning to consider development through their operating partners, Whitlock says they’ve yet to see it occur.
The more established REITs with aging portfolios, he says, will wrestle with “culling out older properties that will be feeling considerable pressure from new, state-of-the-art properties”—particularly in markets with limited demand growth and lower barriers to entry.
Development aside, the real estate powerhouses are far from bowing out of the senior housing acquisition picture.
“We continue to see REITs lead the charge in acquisitions,” Saul says. “I think it is realistic for the REITs to maintain a healthy margin with such a low cost of capital… [they] remain aggressive for high quality, performing properties that are well-located [and] are going to need to purchase individual assets in order to add to their portfolio and grow.”
As the size of available senior living portfolios decreases, from 20 properties to 10 to just one or two, the competition for that asset increases, Whitlock says, because the relative value of smaller portfolios to bigger REITs is diminished.
More competition may come in the form of regional and local buyers that are well-capitalized with strong banking relationships and are aggressively looking for turnaround opportunities, according to Saul, or deals located in more secondary markets.
The M&A market could easily stay dominated by REITs, however.
“REITs will continue to diligently pursue any and all acquisition opportunities,” Whitlock says. “Their cost of capital is [still] typically less than that of private equity, and that will continue for 2013 and for the foreseeable future.”
Written by Alyssa Gerace
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