UPDATED: Welltower to Overhaul Portfolio with $4.1 Billion in Sales by 2017

Welltower Inc. (NYSE: HCN) is undertaking a major repositioning of its portfolio, increasing its disposition target for the full year to $4.1 billion.

Previously, Welltower’s guidance for the year targeted $1.3 billion in dispositions. As of Sept. 30, 2016, the company had closed on $832 million in total dispositions.

As part of this newly announced portfolio repositioning effort, the Toledo, Ohio-based real estate investment trust (REIT) already has agreed to sell a 75% ownership stake in a portfolio of long-term/post-acute properties to an investment management platform and life insurance company, both based in China, for $930 million. And in a separate transaction, Welltower is selling 64 skilled nursing assets to a joint venture for $1.1 billion.

The sale that involves Chinese investors includes 11 senior housing properties leased to Brentwood, Tennessee-based Brookdale Senior Living (NYSE: BKD) and 28 long-term/post-acute care facilities leased to Kennett Square, Pennsylvania-based Genesis Healthcare (NYSE: GEN), Welltower announced Wednesday.

Welltower will retain a 25% interest in the portfolio, with the remaining interest going to Cindat Capital Management Limited and Union Life Insurance Co. Ltd.

Backed by China Cinda Asset Management Co., Cindat has invested in more than $6 billion of real estate globally since its inception in 2013. This is the company’s first U.S. health care real estate investment. Union Life Insurance, one of China’s largest life insurance companies, develops and owns skilled nursing facilities in China and previously has invested $100 million in U.S. senior housing.

“China has the same aging demographic issues that we have, but they’re amplified there because of size,” Welltower CEO Tom DeRosa said Wednesday during the REIT’s third quarter earnings call with analysts. “One of the reasons Cindat was attracted to the joint venture is they want to learn how to invest in this asset class, as there’s relevance to their country.”

DeRosa also noted that Genesis has a business in China, and that the investor has an interest not only in skilled nursing, but senior housing in general.

The transaction is expected to close by the end of 2016.

Welltower’s other planned dispositions also revolve largely around decreasing its concentration of Genesis properties. The operator has seen its share price erode significantly since 2015, and this summer announced a $52.7 million settlement with the Department of Justice related to four ongoing investigations.

By the end of 2016, Welltower anticipates having disposed of approximately $1.7 billion of Genesis properties, through three separate transactions. One is the Cindat deal. The other two, representing $1.2 billion, are sales to third parties.

One of the two additional sales involves Omega Healthcare Investors, which teamed up with private equity company Lindsay Goldberg to form Second Spring Healthcare Investments to acquire 64 facilities from Welltower for $1.1 billion. Omega invested $50 million for 15% stake in the joint venture, while Lindsay takes 85% ownership.

The REIT has either closed or entered into definitive agreements for all three transactions, and together they have an effective cap rate of 9.0%.

Senior Housing Sales

Interest in the portfolios came from various private investors looking to own post-acute and senior housing properties, DeRosa said, and there continues to be interest from private capital sources to build their positions in the space.

In addition to the Genesis sales, Welltower plans to execute the following dispositions in the fourth quarter: $1.2 billion of senior housing triple-net leased properties; $51 million of senior housing operating interests; and $150 million in loan payoffs.

Through this effort, Welltower’s portfolio will see its private-pay revenue mix increase from 89.4% to 92.4%, and it will reduce its long-term/post-acute care concentration from 19.9% to 13.5%. Its Genesis concentration specifically will decrease from 13.8% to 7.1%. Of that 7.1% that remains, roughly 20% is powerback properties and the rest is traditional long-term care properties.

Additionally, Welltower views benefits of this move as three-fold, since it’s aimed at strengthening the REIT’s balance sheet, enhancing the quality of its portfolio and improving liquidity and financial flexibility, according to Scott Estes, executive vice president and CFO at Welltower.

Keeping a Post-Acute Foothold

Genesis is not the only long-term and post-acute care company to be in rough waters. Government reimbursement and regulatory pressures, the need to adapt to the evolving U.S. health care system, and ongoing federal investigations have hampered many operators in this space. Wage inflation, as well, is impacting all sectors, but it’s proving a particularly unique challenge for government reimbursement models, DeRosa said.

Welltower’s peers Ventas (NYSE: VTR) and HCP (NYSE: HCP) both have spun out a significant proportion of their skilled nursing assets into separate REITs, but DeRosa in the past has blasted this strategy and said that he remains bullish on the prospects for skilled nursing in the long-term. Now, it appears Welltower—like other REITs with significant Genesis ownership—is looking to limit its exposure by selling off properties.

This effort will continue even into 2017. Welltower has agreed to give Genesis an option to buy back $500 million of real estate through the first half of the year, the REIT also announced Wednesday. And it has entered into a memorandum of understanding with Genesis to exit certain states Genesis has deemed non-core; Welltower expects to receive about $120 million in proceeds from the sale of 14 properties in those states.

Despite its strategy to offload properties and limit exposure to skilled nursing to focus more on private pay, Welltower maintains the belief that skilled nursing will remain an important component of the health care continuum, and therefore will stay vested in the asset class, DeRosa said.

“We like the space, we believe in the long-term viability of the space and every day look for opportunities to make smart investments in the space,” DeRosa said.

News of the portfolio overhaul ahead of Welltower announcing its results for the third quarter of 2016. It reported normalized funds from operations of $1.16 per diluted share, beating analyst expectations by $0.01. It decreased its FFO guidance for 2016 from $4.50-$4.60 per diluted share to $4.50-$4.56 per diluted share, mainly due to the disposition activity.

Written by Tim Mullaney and Kourtney Liepelt