The Bottom Line: Wary of Financial Engineering Trends, NHI Focuses on Operator Sustainability

National Health Investors (NYSE: NHI) Executive Vice President and CFO John Spaid says he has never seen the economy disrupted as fast as it has been by the coronavirus pandemic.

“This is clearly an unprecedented challenge,” he said.

Spaid has navigated major economic crises in his 37-year career in real estate and finance, ranging from the savings and loan scandal of the late 1980s and early 1990s to the Great Recession 12 years ago. He is relying heavily on his experiences from those downturns as the Murfreesboro, Tennessee-based health care real estate trust (REIT) absorbs the pressures brought about by the global Covid-19 outbreak.


Veteran financial executives understand that bull runs eventually turn into bear markets, and the key to making it through the low-water marks is to be prepared.

“You see this happening over and over again and you know what to expect. You manage yourself well before you get [to a downturn] and you’ll be able to get through it really quite well,” he said.

Spaid, along with the rest of NHI’s executive team, is working with its operators more closely these days, and he brings extensive experience from the operator side of the industry to his duties as CFO. Prior to joining NHI in January 2016, he was senior vice president of financial planning and analysis for Seattle-based provider Emeritus Corp., reporting to the late Granger Cobb. Emeritus is also where he first met Eric Mendelsohn, NHI’s current CEO. He got his start in the industry as CFO at Aegis Senior Living and was influenced by its CEO, Dwayne Clark.


Spaid is thankful for the experience he gained working with leaders such as Cobb and Clark, and is now applying those experiences to assisting NHI’s roster of operators as well as managing the REIT’s bottom line.

This interview has been edited for length and clarity.

How have recent operational and financial complexities in the industry placed new demands on you as a CFO?

The pricing of real estate has gotten to be a lot more competitive. That’s meant that there have been a lot more attempts to do a lot more sort of financial engineering, and you’ve got to be very careful about financial engineering. You need to be willing to make sure you drill down on [a deal] and make sure everybody understands the risks involved with that very clearly.

[As a result], the demands on the operators — and we work with a lot of regional and smaller operators — has increased tremendously. They’re trying to be as efficient as possible to compete against operators of all different scales.

We all come from an operating background here. I have many times, without any additional charge or expense to the operator, provided some insights into their own operations, the way they handle financial matters, and make suggestions and spent a fair amount of time one-on-one with them on how they’re reviewing their financials from an operational and financial standpoint. It builds trust between the REIT and the operator. Everybody becomes better at their jobs as a result.

How has your experience as an operator informed your role at NHI?

I’ve leaned on it quite a bit. So, I started out with Aegis Living. I was really fortunate to start with [Aegis CEO Dwayne Clark] because he is just tops in terms of the way he manages care and develops all of the tools necessary to run a first-class operation. Then I went into Emeritus , which was very different. It was public. The focus was a lot more around larger, more complex transactions. I learned a lot from Dan Baty, and that’s where I first met Eric Mendelsohn. Eric and I worked hand in hand on lots of transactions, both in financing as well as [mergers and acquisitions]. With Emeritus, I ran a [department] of 40 people that included all the census and operational reports, the budgeting for 500 plus communities, and I learned a lot about managing large amounts of data, what worked and what didn’t work.

As we’ve reviewed other portfolios and other operators for acquisitions, I’m able to pretty quickly cut to the chase, and show our operators [best practices] if they’re open to it — whether it’s data manipulation, different ways to aggregate metrics and run them. At the end of the day, I really empathize with our operators. One of the things I learned, both with Granger Cobb at Emeritus and Dwanye Clark at Aegis, is culture matters a lot. Without that framework, that culture is extremely important, it’s very tough to be a long term success in this business.

What were your main priorities when you joined NHI?

I started at the beginning of 2016 and our gross assets [totaled] $2.3 billion. Today, our gross assets are $3.6 billion. So we’ve grown 57%. That’s a lot of investments we’ve made over that period of time.

The biggest challenge I had was to make sure we deploy capital in this environment very efficiently. As we’ve done that, our board, Eric and the other executives here really understand what the deployment of that capital means to us, and also to our operators. I have been involved in a lot of the underwriting of our transactions. I’m always mindful to make sure we understand exactly what our cost of capital is and whether that capital is going out appropriately for what we’re trying to accomplish with our operators.

We serve the entire [care] spectrum, which generally has different yields or different cap rates, from skilled nursing all the way down to very high-end entrance fee communities and higher end independent living. Capital is looked at a little bit differently depending upon the product. It’s very important to be able to discuss that and translate that to our board as we get approvals to [acquire properties]. Obviously, I’ve met those goals.

We’re hearing that operators with triple-net lease structures are in a better position to obtain CARES Act funding than those with management contracts because they own the operations. Can you share your approach to the triple-net versus management contract question?

That’s what we’re experiencing. So that just goes back to financial engineering and the price of real estate. The [operating company/property company is] bifurcated between what everybody thinks is the value of the real estate — which is at a very low cap rate — and what everybody thinks the operations are, which is what’s called a cash flow multiple.

The financial engineering exercise is to put as much into the real estate as you possibly can, because that’s where you can get the greatest dollars. The problem with that is what’s leftover is often way too tight for the operators. The financial exercise you go through on RIDEA versus triple net is, is there somebody really committed to the operations, and when you’re making these acquisitions, are you leaving enough on the table for the operator to be able to make money?

That’s where private equity has not played a very good role. They’re in, they’re out, and when they get out, they want to get out with every last dollar. REITs tend to be more longer term focused and more operator focused. Once the operator makes that determination that they’re going to go with private equity — and many have to because that’s the only way they can get started — they get on a treadmill where it’s hard for them to hang on to the operations when the private equity is trying to bail out. That’s why a lot of this has ended up in RIDEA structures.

We work really hard to structure things, even when there was private equity involved, so that the operator is hanging on to the cash flow necessary to make a triple net lease structure work in the long run, which has worked out really quite well [recently], because they are the owners of their operations and as a result, they have been qualifying for these PPP loans.

How is the pandemic pressuring expenses for NHI and its operators?

Our operators are hyper-focused on doing a very good job of caring for their seniors. That’s the most important thing for them right now, and keeping the virus at bay and out of their communities and not having what happened to some of these nursing homes, like out in [Kirkland], Washington and in a couple other locations. It’s critical not only to our operators, but the industry in general. We’re very supportive of that effort. We do everything we can to support that, and we’ve worked with our operators to help them understand the federal programs [that are] available to them. We’ve been sharing best practices amongst our operators to make sure that they’re aware of what we think are the best practices out there.

The credit markets are, I wouldn’t say shut down, but they’re extremely disrupted and very expensive at the moment. Access to capital is a little tricky. And that’s all types of capital, including the agencies and HUD. Their underwriting requirements have all gotten more stringent, requiring more escrows including principal and interest escrows, and lower loan to value ratios. That’s going to have eventually an effect on cap rates for investments across the board.

The big unknown question that the entire industry has in front of it still is how long will the crisis last. And will we have suffered any permanent reputational damage and that will result in pent up demand not being there, like we usually see after normal flu seasons, because this is not a normal flu season.

And the media is very unhelpful in the way that they’re describing the benefits of congregate care like we provide, as compared to other other forms of care like staying at home all by yourself or with your families, if you have that luxury.

What are NHI and its operators doing to send the message that long-term care is more than just nursing homes, and a relatively safe environment for seniors even during this crisis?

The reputational issues will just depend on how well the industry responds. When we came back from [the NIC spring conference] at the beginning of March, we had an all hands weekend effort where we tried to talk to every single one of our operators. We began the process of sharing best practices at that point with them and talking to them about what they thought were the right next steps in anticipation of this crisis. None of us want to see any of our operators become the next poster child, similar to what happened out in Kirkland.

We’ve established a high degree of transparency and [encourage] all of our operators to establish a high degree of transparency, and through that transparency, they gain trust. At the end of the day, they have to perform what they say they’re going to do with their residents and with the adult children of our residents, as well.

We’re going to have to make that case. The needs-based side of our business seems to be still intact and move-ins continue to happen. So I’m heartened by that.

Do you expect any further tightening of the debt or equity markets in the near term?

The federal response [to Covid-19] was unprecedented. If you recall, in the Great Recession, the credit markets began to shut down. You could see it coming. The stock market began to decline, people started losing their jobs. Washington Mutual and some others, like Lehman Brothers, went into bankruptcy. Congress was very slow to react. And as a result, the recession just grew deeper and deeper and deeper. As I recall, it wasn’t until six, nine months later that finally we started getting some significant programs out of Washington to begin to provide some stability to the economy.

This time is different. Trillions of dollars have been put into place in the economy. I don’t know if we can keep doing that over and over again. We’re just all waiting and seeing what’s going to happen with this virus as we slowly open up. Fortunately, the credit markets are open, they’re just extremely expensive to us. All you have to do is look at our stock price — that tells you the cost of our capital today is much more expensive than it was two months ago. Obviously, that’s going to force us to rethink how we approach investments moving forward.

For now we’re taking a “go slow” approach because markets still feel disrupted to us. They’re starting to show some signs of stabilization, but still feel very unstable to us. We’re fortunate that we don’t have to access capital right now and we don’t have any maturities to speak of until 2022. We have time. We’re just going to be smart about tapping new capital at this juncture, but we’re continuing to make investments. We spoke about that on our [Q1 2020 earnings] call: we have commitments to a number of our existing customers that we’re continuing to fulfill. We’ve had a pretty good year in terms of investments already.

We’re hearing a lot about private equity groups raising funds to target assets that have been distressed by the pandemic. How are you viewing the Covid-19 M&A landscape?

Right now, our cost of capital is telling us that it’s time that we need to price things a little differently. We’ve made commitments that we can continue to honor, but we’re not going to ignore what the capital markets are telling us in terms of how we’re going to deploy our capital, so I’ll leave you with that.

During the Great Recession, we worked at Emeritus with Blackstone on a distressed transaction that was quite large. We’re not seeing any of that Great Recession [level of] distress yet, but that usually takes time to emerge. I think it was about a year into the Great Recession where we finally began to see that distress bubble up. It just depends on how long this crisis lasts.

The credit markets are in a different state than they were in 2008. I’m not hearing that our financial institutions that we work with are experiencing that level of stress. The stock exchanges and the public debt markets [are] feeling stressed from people who are unwilling to make investments in this uncertain environment.

I think it’s hard to make investments when you feel like you’re trying to catch a falling knife. You want to know where that stable point is before you start making those investments.

Has NHI discussed exploring Medicare Advantage with its operators?

That’s an emerging topic and it’s very intriguing. When I was in Emeritus, that was something Granger Cobb was working on quite a bit.

The more we can improve wellness and care as people age, then the theory would be the less time they’ll spend in the emergency room or in very expensive, acute settings. At the end of the day, it will be a function of whether you can prove out the cost and benefit. One of the things that we talk a lot about is how great a job the Ensign Group does working with managed care groups. We think that they’re really quite good at that [at National Healthcare Corporation], as well. We’re very pleased with them. They’re in the skilled nursing side. I’m not aware of any of our operators yet entering into any kind of managed care programs, similar to what’s emerging, but it’s pretty interesting.

How were margins impacted prior to the pandemic?

[We’ve had] a supply problem and a labor problem in our industry for the last four years. It continually degraded that margin side of the business, making delivering the mission more and more difficult, ultimately culminating in this moment in time where Covid-19 is maybe finally going to stop some of this new supply so that we can really begin to rebuild occupancies and begin to recover some of these margins.

Are we willing to work closely with our operators to make sure they succeed? Absolutely. If they’re not caring for their seniors and they’re not growing and succeeding, then collecting that last dollar of rent is a futile exercise.

We’re in a very unstable moment right now. The most important thing for us all to do is get through the next six months or a year when we get to the vaccine, where we can finally say, we’ve completed this process. It’s really quite a crisis.

Did you ever envision yourself in the senior living industry back at the start of your career?

I did not. And I need to give Dwayne Clark a big thanks for giving me the opportunity. It changed my life.

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