Senior housing capitalization rates increased slightly from 2015 to 2016, marking the first bump in several years. For most types of senior housing and care, cap rates rose just 40 basis points in 2016 from the previous year, according to a recent survey from Senior Living Valuation Services.
Overall, cap rates still remain historically low, and the bump observed in 2016 may not even be considered material for the industry.
“The downward trend in cap rates from the last four or five years reversed this year,” Michael Boehm, MAI, CRE, president of Senior Living Valuation Services, told Senior Housing News. “It went up by only a little bit. People’s expectations are that cap rates are headed up. It’s not a huge trend, but a reversal overall.”
The survey measured the investment criteria used or perceived in the evaluation of senior housing properties. Across the senior housing spectrum, cap rates averaged in a range between 6.3% for age restricted apartments on the low end to 11.8% for licensed skilled nursing sub-acute care on the high end. Both skilled nursing categories measured in the survey saw cap rates drop slightly year over year.
The average 2016 cap rate for licensed assisted living rose 20 basis points to 7.6%, while licensed memory care remained steady from 2015 at 7.9%. Continuing care retirement community cap rates inched up to an average of 8.8%.
The cap rate changes—both increases and decreases—across all senior housing types from 2015 to 2016 were largely insignificant. Most respondents in the survey, which included owners/operators, financial investors, brokers/mortgage lenders, appraisers and consultants, also expect that cap rates will not change significantly over the next 12 months. Only 5% of respondents expect cap rates to decrease up to 100 basis points, while 33% said they expect cap rates to increase up to 100 points over the next 12 months.
While cap rates stayed mostly steady, the survey noted bigger changes between cap rates and discount rates (the internal rate of return). Discount rates increased for most property types, similar to cap rates, though there was a difference between overall cap rates and discount rates for licensed assisted living and licensed memory care.
“The indicated spread between cap rates and discount rates is higher than in the previous year and higher than expected given the forecasts of annual revenue and expense increases,” the survey found.
Rising interest rates and slower REIT activity have also not had much of an impact on the demand for larger and premium senior housing properties, the survey found. However, this demand, coupled with reduced supply for certain product types, may be pushing cap rates up, Boehm speculated.
“There may be less premium product available to buy in the market,” Boehm said. “More buyers are looking to purchase fewer properties available. A lot of buyers would want to buy new Class A properties. They are bidding for middle-tier properties, and that is pushing cap rates up a little.”
Reduced REIT activity has allowed for a rise in senior housing development from “developers with little previous experience in the industry,” the survey noted.
“We see developers without a lot of senior housing experience, and that’s a sign the market is heating up quite a bit,” Boehm said. “Developers with less experience interested in senior housing might have the wild high bid. Or, they might want to break into a new market or product, so they might overpay.”
REITs taking a back seat in acquisitions may also be directly influencing cap rates to rise, as REITs have historically had lower costs of capital and lower cap rates.
Additionally, as cap rates inch up, increasing construction rates could hint at over saturation within assisted living and memory care settings, which are less challenging to build than other care settings.
“The stuff that is being built, the majority of it is assisted living and memory care,” Beohm said. “It means a lot of markets are going to be saturated for that product type, much less than nursing homes, or CCRCs or independent living. The licensure is less intrusive, and they are easier to build.”
Written by Amy Baxter