Nonprofit health systems in the United States have about $600 billion worth of real estate sitting on their balance sheets. These organizations will reconfigure their holdings in the years to come, and this will be the greatest source of disruption in the health care real estate business, according to Tom DeRosa, CEO of Welltower (NYSE: WELL).
“Given the challenge in that business and the intense pressure for them to move their services out of acute care hospital beds into lower-cost settings, including ambulatory settings, including home, including seniors housing and skilled nursing, it will be very difficult for them, we believe, to continue to control and own all that real estate on their own balance sheet,” DeRosa said Monday at the Citi 2019 Global Property CEO Conference. “So we think this is … a massive disruptive event.”
Welltower — a real estate investment trust (REIT) based in Toledo, Ohio — has already struck one major deal with a nonprofit health system, ProMedica.
Last year, the REIT forged a joint venture with ProMedica, also based in Toledo, to acquire the portfolio of bankrupt skilled nursing and senior living giant HCR ManorCare. ProMedica and Welltower believe that they can leverage the ManorCare platform to provide more effective and cost-efficient wrap-around care for the ProMedica patient population and other seniors around the country, reducing their use of hospitals and other high-cost services.
The operational integration of ProMedica and ManorCare is on track, and Welltower feels even better about its ultimate cash flow than when the deal was first announced, Welltower Chief Investment Officer Shankh Mitra said Monday.
Other nonprofit health systems are realizing that they can’t have so much capital tied up in real estate, as they face drastically declining margins and the need to restructure their businesses to offer more services in the community, DeRosa said.
As they start to offload properties, REITs like Welltower will have an opportunity to make acquisitions. Hospitals or similar acute-care settings represent about half of the $600 billion real estate currently owned by the health systems, and Welltower does not have much interest in these assets, said Senior Vice President of Corporate Finance Tim McHugh. However, the remaining $300 billion in real estate is promising to the REIT, which currently derives about 46% of its annual net operating income from its senior housing operating portfolio, with the remainder coming from outpatient medical, long-term/post-acute, health system and senior housing triple-net leased properties.
It’s possible that this $300 billion in health system real estate could be acquired and buildings repositioned into new types of ambulatory health care settings to support the emerging health care model. McHugh pointed to a project that the REIT is undertaking with Atrium Health in Charlotte, North Carolina, as an example of what the future might hold.
On the senior housing front, acquisitions remain tough in the near-term.
“Seniors housing with a good operator is, at our cost of capital, almost impossible to buy,” McHugh said. “That’s the most expensive asset class in the private market.”
Another REIT leader — Rick Matros, CEO of Sabra Health Care REIT (Nasdaq: SBRA) — recently pointed this out as well, saying that private equity bidders have driven costs up.
However, Welltower is continuing to expand its senior housing portfolio by leveraging its operator relationships, McHugh emphasized on Monday.
The REIT has rights to purchase buildings from its established operating partners at certain set pricing levels. Last December, Welltower announced it had completed $750 million in senior housing acquisitions, largely through these channels.
Big-picture, Welltower’s leaders are bullish on senior housing due to the nation’s aging population, the favorable and largely urban markets the REIT has targeted, positive penetration rate trends, and the alignment of interests in its “3.0” owner-operator structure. Welltower has been shifting its strong operating partners away from triple-net or management fee models into joint ventures where more upside and downside risk is shared.
“I think that going forward, these restructured operating arrangements will definitely enhance our ability to drive sustainable cash flow growth,” DeRosa said.