Healthpeak Properties (NYSE: PEAK) is looking to mostly sell off its triple-net and senior housing operating portfolios and rebalance in favor of CCRCs, life science and medical office buildings — and Covid-19 is a big reason why.
The real estate investment trust (REIT) announced Monday it is in the process of offloading up to $4 billion worth of assets from its senior housing operating portfolio (SHOP) and triple-net senior housing segments, totaling about 20% of its current asset value.
That’s not to say Healthpeak feels those portfolios are underperforming, or that it’s taking a knee-jerk reaction in response to the pandemic. It’s more to do with the fact that the senior housing industry faces a “bumpy ride,” with much more uncertainty ahead, according to Healthpeak CEO Tom Herzog. At the same time, Healthpeak is receiving interest from potential buyers of those assets, and at prices that are agreeable to the REIT.
“We do see Covid as providing a potential catalyst to fully exit the [SHOP and triple-net senior housing] business,” Herzog said during the company’s third-quarter 2020 earnings call with investors and analysts Tuesday. “[By selling those assets], we’re able to capture quite a strong price without having to go through the bumpy uncertain ride that, certainly, senior housing is going to have.”
The move has raised some eyebrows among analysts, who point out that the long-term outlook for senior housing remains strong, due to the aging population and other market dynamics. And Healthpeak executives did state that they only intend to exit their SHOP and NNN portfolios if the prices are right on transactions.
As of Sept. 30, the company had 62 properties in its triple-net portfolio, 128 in its SHOP segment and 17 continuing care retirement communities (CCRCs), according to its third-quarter supplemental document. Healthpeak also has 136 life science and 266 medical office assets. The company also officially moved its headquarters to Denver this week.
Healthpeak logged funds from operations (FFO) of 40 cents per share in the third quarter of 2020, beating analysts’ expectations by about one cent.
Healthpeak’s share price rose 1.1%, hitting $28.53 by the time the markets closed Tuesday.
Senior housing for sale
The company on Monday announced it has about $1.5 billion worth of assets across eight transactions under purchase agreements. It also has another approximately $2 billion under letters of intent across six different deals that, if successful, are expected to close later this year or early in 2021. That’s in addition to the 14 assets Healthpeak sold between July and November, representing about $100 million. The REIT declined at this point to provide any further information about the identity of the operators involved or the buyers. The largest operators in its triple-net portfolio are Brookdale Senior Living (NYSE: BKD) with 26 properties and Aegis Living with 10 properties. In its SHOP portfolio, Sunrise Senior Living accounts for 37 properties, Atria Senior Living accounts for 26 properties, and 20 are under the Brookdale banner.
Selling off most or all of its SHOP and triple-net portfolios would represent a significant change for the company, a “Big 3” REIT which Herzog said once counted 65% of its assets as either senior housing communities or skilled nursing facilities. But the REIT has been transformed in recent years, including through the spin-off of its large HCR ManorCare skilled nursing portfolio and a rebranding from HCP to Healthpeak.
The company — which has worked in recent years to pare down its senior housing portfolios — realized its SHOP and triple-net assets accounted for 17% of its total NOI, which helped accelerate the decision to market the rest for sale.
“It’s a more volatile business, and [we thought], would we be better as a REIT to allow some of our competitors to compete in that business — especially with Covid coming on, driving that current yield and cap rate down for at least some period of time with a bumpy road to follow,”” Herzog said, explaining the company’s decision.
Average occupancy for the company’s SHOP segment fell by 10 basis between September and October — move-ins declined 17% between those months, according to Healthpeak. The company collected 97% of its triple-net rent in the third quarter of 2020, with the remaining 3% deferred to Capital Senior Living (NYSE: CSU).
While the Covid-19 pandemic has no doubt challenged its senior housing assets, Healthpeak’s decision to market the portfolios for sale was less related to the quality of the portfolio and more to do with the nature of the business itself. Senior housing has always been more operations-focused, and the pandemic has put an even greater onus on strong ops, while other segments such as medical office and life science are far more real estate-focused, according to Healthpeak President Scott Brinker.
“Senior housing could be a great business, but it’s not really a real estate business going forward,” Brinker said. “That’s the buyer pool of who we’re talking to — they understand that, and that’s what they’re interested in.”
One factor that did play a role in the decision was the fact that, in order to capture NOI growth, some of the properties would require additional CapEx.
“For a private equity firm with a five- to seven-year time horizon, that is a perfectly fine outcome,” Brinker said. “That’s not something that we were particularly excited to do.”
Looking ahead, Healthpeak plans to recycle that money in its life sciences, medical office building and CCRC portfolios, among other uses, according to Executive Vice Presidentand CFO Peter Scott.
“The net proceeds from our senior housing disposition could be used for future strategic acquisition, debt repayments, or potentially some amount of seller financing,” Scott said during Tuesday’s earnings call.
Healthpeak currently has a $1.2 billion active development pipeline, which is currently 63% pre-leased. In addition to that, the company has an “enormous shadow pipeline” of development opportunities in its life science, medical office, and CCRC businesses “with significant value creation potential over the next 10 to 15 years,” Herzog said.
Looking toward the future, Healthpeak sees several advantages to cutting its SHOP and triple-net portfolios while holding onto its CCRCs.
For one, the company is working with Des Moines, Iowa-based Life Care Services to manage those communities, and the REIT’s leadership team touted LCS’ operational chops. The property type also offers a more stable income base with entry fees, and attracts a more affluent older adult with a typically longer length of stay. CCRCs also offer a higher barrier to entry, and Healthpeak hasn’t seen a CCRC open within 10 miles of its communities at any time in the past decade.
“There’s no way that you could accumulate a portfolio of CCRCs, given that they rarely change hands, being that they are in control of nonprofits,” Herzog said. “The CCRCs will only represent 8% of our company, but they price at an 8% to 10% cap rate, and that is a very, very strong return, given the lower risk profile for this asset class.”
Making trade-offs
Although Healthpeak is confident in its decision to dramatically scale down its senior housing business, some analysts who cover the company were uncertain how such a larger change would affect the company going forward.
Green Street Advisors Senior Analyst Lukas Hartwich, for instance, said it’s “reasonable to wonder out loud about the longer-term merits of this decision.”
“Senior housing continues to look attractively priced from a risk-adjusted return perspective, and the coming demographic wave should give the sector a brighter future and long runway, albeit a business exposed to new supply, operating risks/volatility, and pandemics,” Hartwich wrote in a Nov. 2 note to investors. “By exiting senior housing, it’s possible that Healthpeak is precluding itself from an attractive avenue for future internal and external growth.”
RBC Capital Markets Director Michael Carroll, meanwhile, wrote the transaction will “recognize ~90% of the upside immediately versus 100% of the upside over the next ~2 years.”
While the roughly $4 billion in asset sales would carry attractive pricing — selling at low-5% on third-quarter net operating income (NOI) and reinvesting at mid-4% — it could come “at the potential expense of a post-Covid senior housing recovery,” wrote BMO Capital Markets Analyst John Kim.
Still, the prices private buyers are willing to pay for portfolios of senior housing, lab assets, and medical office buildings suggest that public health care REIT prices are undervalued with respect to private values, according to Capital One Analyst Daniel Bernstein.
“We continue to question the recovery timing of seniors housing; we think it’s lower for longer,” Bernstein wrote in his Nov. 2 note to investors. “But there’s no denying that the private markets are willing to pay up for a future recovery. This will likely put a circuit breaker on the downside for public health care REIT prices.”
Healthpeak’s executives emphasized that they will only complete these senior housing sales if they are satisfied with the prices they command — otherwise they are happy to “play through” Covid-19 and sell the assets over time, according to Herzog. The company’s leadership team has significant experience in the senior housing industry, including Scott Brinker, who previously worked as chief investment officer at Welltower (NYSE: WELL). From Healthpeak’s perspective, the company’s decisions are largely about tradeoffs, and the REIT noted it can utilize cash from sales to pursue attractive acquisitions at good cap rates in other asset types or pay down debt.
“If there’s a hockey stick recovery in senior housing, and I hope there is, then we have a recovery quicker than we had expected,” Herzog said. “And that would all be good. It would not change our decision strategically on where we’re trying to bring this company.”
Moving to Denver
In moving to its new headquarters in Denver, Healthpeak is relocating between 20 and 25 people, with no job losses associated with the move. The company is also keeping its offices in Nashville, Tennessee, and Irvine, California, and will continue to base employees there.
“[The move to Denver] puts us in a centralized position, which I think it’s going to be much more efficient for the senior executives,” Herzog said. “We always had difficulty with the travel back and forth between Nashville and Irvine because it was a connector flight [that] made it very difficult for a large portion of our team that is now in charge of a bigger and bigger part of our business.”
There may also be some cost savings associated with the move, as Denver is a cheaper place for the REIT to do business, according to Herzog. And the city in Colorado is better from a talent acquisition perspective, he said.
“This was more about getting our executive office in the right location, and Denver is a better place to recruit and retain talent over time,” Herzog said.
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