Frustrations with variable-rate demand structures have birthed a new, preferred fixed-rate borrowing structure for many continuing care retirement communities (CCRCs), however, this short-term financing vehicle has its risks, reports a Financial Times article.
Rather than competing over liquidity with banks that provider letters of credit (LOCs) that back variable-rate demand notes (VRDNs), investors in occupancy-dependent deals risk having their waterfall structures collapse in the event a borrower needs to divert cash flow into operations and away from debt retirement, said two portfolio managers who invest in CCRCs cited in the FT article.
The article cites Ziegler and HJ Sims as “giants in the CCRC space” that dominate most of the underwriting, as both offer alternatives to VRDNs with their own versions of short-term, occupancy-contingent deals.
In a VRDN structure backed by an LOC, a VRDN with a 30-year maturity risks having al the entrance fee cash sucked up by LOCs that might have a maturity of only three to five years.
In the event a CCRC failed to meet occupancy targets, as well as cash flow targets, the borrower would have to enter extension negotiations with the LOC provider, making them structurally senior to the long-term bondholders, FT writes.
“The new occupancy-contingent deals don’t have that structural seniority,” writes the article. “But if a borrower’s operations go south and it doesn’t have the cash flow to retire the occupancy contingency bonds by their five- to seven-year maturities, bondholders could be stuck holding paper with meager interest rates until their maturity—sometimes even longer, according to the first portfolio manager.”
Written by Jason Oliva