Despite doing more joint ventures lately, LTC Properties (NYSE: LTC) is still a firm believer in the value of triple-net leases, CEO Wendy Simpson emphasized Thursday on a Q2 2018 earnings call.
The topic of triple-net versus RIDEA has been much discussed in recent weeks, as publicly traded companies have announced their second quarter earnings. Real estate investment trusts (REITs) such as Welltower (NYSE: WELL) and National Health Investors (NYSE: NHI) have gone on the record as proponents of RIDEA and joint ventures. This quarter, Welltower announced it is converting Brandywine Living from a triple-net lease to a RIDEA partner.
Operators, including Capital Senior Living (NYSE: CSU), have also been touting a preference for RIDEA and JVs.
Arguments in favor of RIDEA include that it better aligns provider and landlord interests, as both parties share in financial upside from profitable operations. Triple-net leases, on the other hand, can become burdensome as lease escalators take effect, particularly in challenging operating environments. In addition, the triple-net structure can arguably deprive communities of appropriate CapEx investments over time.
Like other REITs, LTC has been hearing from its operating partners that they want options beyond triple-net leases.
“Importantly, by listening closely to our operators, we offer creative financing solutions that go beyond traditional sale-leaseback. including real estate joint ventures, preferred equity and mezzanine lending to best meet operators’ various goals, strategies and needs,” Simpson said in prepared remarks on Thursday’s call.
In one recent example of a real estate JV, LTC struck a deal with Fields Senior Living to develop a 78-unit assisted living and memory care community in Medford, Oregon. LTC is contributing 95% of the $18.1 million project cost. The agreement also includes a triple-net component, however, through the acquisition of an adjacent 89-unit independent living community currently owned and operated by Fields.
This is the third real estate JV that LTC Properties has executed in the last year, Chief Investment Officer Clint Malin said.
By being more open to JVs, the REIT is attracting interest from a wider pool of operators. LTC has recently added five new private pay regional operators to its portfolio, including Fields, noted Simpson.
However, she was also unequivocal in reaffirming her belief in the triple-net structure, saying that not all operators have struggled under leases.
“The fact that people say, ‘the triple-net lease is dead’—it is dead if you have over-levered and over-monetized,” she said. “So yes, those [deals] were going to happen, and they did happen. And now everybody is thinking that the triple-net lease is an evil way of financing, and nobody can make any money. That’s my opinion.”
There are still plenty of opportunities to execute triple-net leases, she said, pointing to LTC’s recent sale-leaseback with Koelsch Communities. The deal involved two memory care communities in Texas.
Escalators for this transaction are around 2%, Malin said, which is about the annual rate that he thinks is reasonable for a stabilized triple-net lease portfolio. However, the two Koelsch communities are still in lease-up at the moment, and LTC is giving the provider $800,000 in free rent over the next two years as occupancy builds. The $800,000 was factored into the deal underwriting.
Thrive on track but gets deferred rent
In addition to the debate over RIDEA and triple-net leases, another theme of this earnings season has been a challenging operating environment for senior housing. This is largely related to oversupply in some markets, as well as issues such as high labor costs.
Within the LTC portfolio, Atlanta-based Thrive Senior Living has been experiencing these headwinds, and as a result was recently granted up to $1.4 million in deferred rent through June 30, 2019.
“There’s just been some general softness in the market like you’ve seen … in different parts of the country, and it’s something they have experienced, a little stall in a couple of buildings on this,” Malin said. “… And with some of that softness, we saw the need to help them get through the next brief period of lease-up.”
Thrive ultimately will be in a position to pay back the deferred rent, considering that the company has a large presence beyond its relationship with LTC, including equity positions in buildings, Malin added.
Thrive currently operates 22 properties across the country, with six more under construction. The company has six properties leased with LTC.
So far in 2018, three Thrive communities in the LTC portfolio have reached stabilization, most recently Thrive at Oso Bay in Corpus Christi, Texas. The memory care development project includes 56 units and reached stabilization in May. On an aggregate basis, occupancy was flat across LTC’s Thrive portfolio at July 31, compared with April 30.
A larger tenant for LTC, Anthem Memory Care, is on track after a rocky period in 2017.
Last August, LTC issued a monitory default after Anthem failed to pay its quarterly rent in full. The Lake Oswego, Oregon-based provider was having trouble raising equity and was suffering occupancy challenges.
Since that time, Anthem has improved occupancy and is on track to pay the expected $1.4 million of rent in the third quarter, Simpson said. With 11 properties, Anthem accounts for about 3% of LTC’s annual income.
Overall, LTC posted Q2 funds from operations of $29.6 million, down from $31.4 million a year earlier and in line with analysts’ expectations. The reduction was mainly due to the Anthem default as well as asset dispositions, including the sale of a six-property portfolio of Sunrise Senior Living buildings that closed in the second quarter.
Also in Q2, LTC secured a new line of credit of up to $1 billion to fund future growth. The REIT has primarily been scouting off-market deals and had an active pipeline valued at about $50 million as of the first quarter of the year. Now, the company is starting to see some viable marketed transactions as well, Malin said.
There is no new development currently under consideration, Simpson noted.
LTC shares were up 2.27%, at $43.29, at the close of trading on Thursday.
Written by Tim Mullaney