Middle-Market Plays to Reshape Senior Living Acquisition Activity, Prices

Robust senior housing acquisition activity is likely to continue into 2020, driven by the continued low interest rate environment as well as the increased focus on middle-market products and the creation of multi-brand portfolios.

That middle-market focus is also driving more interest from big players in secondary and tertiary markets, which are friendlier to this price point. As a result, look for more competition and potentially higher prices for Class-B product.

These are among the end-of-the-year market insights that three industry professionals — Ted Flagg with JLL Capital Markets; Laca Wong Hammond with OREC Securities LLC; and Mario Wilson with Helios Healthcare Advisors — recently shared with Senior Housing News.


Portfolio deals inflating cap rate spreads

Pricing on senior housing deals hit a high point of nearly $225,000 on an average price-per-unit basis in 2017, according to data from Irving Levin Associates’ Seniors Housing Acquisition and Investment Report. Since that time, prices have fallen, particularly in assisted living, which declined 16% to $186,400 between 2017 and 2018 — although some investors remain concerned about inflated pricing on certain assets.

Meanwhile, cap rates have correspondingly risen steadily since reaching a nadir of 6.8% in the fourth quarter of 2017.

This year, the difference in cap rate percentages between Class-A senior housing (7.3%) and Class-B and C product (8.8%) is 150 basis points, according to data from Irving Levin.


The differential includes major transactions such as Welltower’s (NYSE: WELL) $1.8 billion sale in July of its Benchmark Senior Living portfolio to private equity firm KKR, and Ventas’ (NYSE: VTR) $1.8 billion deal in June for an 85% stake in Canadian senior housing developer and operator Le Groupe Maurice, OREC Managing Director of Mergers and Acquisitions Laca Wong-Hammond told SHN.

Excluding the billion-dollar deals and one discovers that pricing and cap rates have remained level for Class-A and Class-B product in 2019, in spite of numerous market headwinds such as a steady stream of new supply, labor costs, decreasing census and continued discounting.

A confluence of factors is keeping pricing stable — the main one being a historic low interest rate environment. The Federal Reserve on Wednesday left the 10-year Treasury Bond rate unchanged, allowing it to fluctuate between 1.5% and 1.75%, and Fed Chairman Jerome Powell predicted no further cuts to the rate in 2020. This allows investors to be more aggressive in their bids, which impacts cap rates.

“With the rate being so low, you tag on a spread to that and investors have more buying power than before with the same amount of equity capital,” Wong-Hammond said.

It’s also worth noting that cap rates are falling out of favor as the primary metric for evaluating deal pricing, JLL Capital Markets Senior Managing Director and Healthcare Practice Co-Head Ted Flagg told SHN. Rather, the more straightforward per-unit pricing for senior housing has replaced cap rate as the primary valuation metric in most senior housing transactions in 2019.

“Cap rate price quotes are so frequently distorted that smart players tend to ask about per pound values as one of the first questions on a deal,” Flagg said.

Targeting Class-B product for middle market use

Going forward, expect two new macro drivers behind repricing of core and non-core senior housing buckets. One is demand for high-end senior housing versus demand for middle-market senior housing. The latter will lead to more capital seeking Class-B opportunities, Flagg told SHN.

Recent analysis from the National Investment Center for Seniors Housing & Care (NIC) indicated that nearly 1 million new senior housing units will be needed by 2040 to meet growing demand from baby boomers. This demographic will enter the senior living space with more debt and less savings than previous generations.

“Traditional B seniors product will draft off the massive and imminent demand for middle income seniors product,” Flagg said.

The Big 3 health care real estate investment trusts (REITs) — Welltower, Ventas and Healthpeak Properties (NYSE: PEAK) — are seeking out more acquisition and development opportunities in secondary and tertiary markets, based on demographic trends, Helios Founding Partner and Managing Director Mario Wilson told SHN.

One example of such a market is in Wisconsin, where Chinese electronics manufacturer Foxconn is building a large — though controversial — plant in the southeastern part of the state.

Wilson predicts the REITs’ ease of access to capital and the low interest rate environment will result in a secondary market building boom.

“Existing relationships between operators and REITs, along with changes in REIT laws, mean the Big 3 will now build, at cap rates similar to what they find in acquisitions,” he said.

But REITs, core funds, family office funds and foreign capital continue to show an insatiable appetite for Class-A, recession-resistant opportunities, and high per-unit pricing for urban senior deals will create upward pressure on traditional core product as the market starts to underwrite the two product types on a relative basis, Flagg noted.

Those investors are also looking into the middle-market space. Welltower struck a partnership with Clover Management, giving it a growing middle-market platform. The Carlyle Group and Greystar have partnered on the middle-market Overture brand.

“The first-mover platforms that offer both sides of the quality barbell of urban and middle income will attract as much capital as they want and their business plans can support. Furthermore, investors in those platforms will be rewarded because urban and middle income are complementary hedged positions that work well together through changing market cycles,” Flagg said.

Multi-branding grows

Another emerging and related trend in the value-add space is an influx of higher quality operators acquiring second brands, giving them a presence in the Class-A and Class-B space.

The multi-brand play largely revolves around different brands for various price points; however, some owners and operators are also creating separate brands based on other considerations such as care level.

The most recent example of this trend is Merrill Gardens’ acquisition of Blue Harbor Senior Living, which operates 21 communities in 13 states. Blue Harbor will serve as Merrill Gardens’ middle-market brand, incoming President Tana Gall told SHN.

Merrill Gardens did not disclose the acquisition price for the Blue Harbor portfolio, which previously was owned by private equity firm Fortress (NYSE: FIG). However, Flagg thinks that the company leaders likely made a shrewd calculation, noting that the company previously sold a sizable portfolio of B-quality assets in 2013.

“I would give the Merrill Gardens management team benefit of the doubt on market timing,” he said. “The Merrill buy and sell suggest a historically-wide pricing delta between A and B asset quality today favoring the buyside for B platform strategies addressing the middle market opportunity.”

Other operators pursuing a multi-brand strategy include Eclipse Senior Living, which is launching a higher end brand dubbed Evoke in addition to its middle-market brands, Elmcroft and Embark. Pathway to Living has found success with its Aspired Living brand, while its Azpira Place brand targets middle-market assisted living.

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