Complexity and uncertainty are weighing down the senior living industry and stymying transactions in the short-term — but there is hope that long-term optimism will bring investors back to the table before too long.
The next wave of age eligibility of older adults in senior living in the coming years could be just what the industry needs to boost occupancy and operating margins as lingering challenges on labor and development remain. From getting creative on labor to implementing technology to support operations, senior living providers must innovate to survive while high interest rates and other market forces dampen new growth.
In the near-term for the remainder of 2023, operators face steep interest rates that dampen new growth aspirations, Net operating income could “skyrocket” next year and beyond, said CBRE Vice Chairman Aron Will, but that sentiment is contrasted by continued uncertainty in capital markets.
The lingering rumblings of an economic recession could ultimately impact demand for senior living, according to NIC Chief Economist Beth Mace. She cited the Wall Street Journal’s Economic Forecasting Survey, in which economists noted they expect a recession this year that is “relatively shallow and short-lived.”.
“It does indicate that it wouldn’t be nearly as significant as some of the other increases we’ve seen in unemployment rates in past several recessions,” Mace said.
This time around, the threat of a recession may not have as drastic of an impact on operators who are making gains on labor challenges. And a recession could lead to a spike in unemployment in certain other industries which, while bad for workers, would technically be a tailwind for operators looking to hire them, ,according to Will.
PGIM Managing Director Steve Blazejewski said he felt that any effect of a recession would be a “lagging impact,” noting that senior living would feel the effects “of this slide into recession in the next six months or so.”
‘Pain all around’ in the short-term
Tough market conditions have plagued a majority of real estate asset classes since the pandemic, including senior housing, which saw a drop in equity participation last year, according to Will. That caused the pace of dealmaking to slow sharply.
“I would characterize the market right now as the tail wagging the dog,” Will said on Tuesday during a NIC webinar on market conditions.
Will said he believed that market appetite for new transactions was returning and more buyers would be looking to take advantage of distressed properties. But there’s no clear cut timeline for when the drumbeat of transactions quickens, he added.
“We need to collectively acknowledge that seniors housing is a big player within the broader real estate sector and we’re feeling spillover impact from really every other sector in commercial real estate,” Will said.
The Covid-19 pandemic was a shock to the office market, Will said. He compared the drop in value of the office sector to the changes made to how Americans travel after the terrorist attacks of September 11th. That spillover of troubled office properties in an investment portfolio has impacted liquidity in commercial real estate more broadly with office property exposure, Will said.
Senior living operators face elevated expenses and tightening margins, even as census improves, as the uncertainty on the capital side will continue to slow down growth. With the runway for distressed properties shorter than ever before, Will said “hard conversations” will have to be had between owners and lenders.
Long-term positive market conditions will ultimately mean there will be winners picking up more management contracts and that capital providers would be the losers, Will said, mixed with shared losses by lenders.
“There’s gonna be some pain all around,” Will added.
Smaller properties, even with high occupancy, could become extremely challenged as margins narrow and new development remains out of reach, rendering some properties unworkable for an owner’s portfolio.
That could lead to a “reset” in senior living property values, which would make it easier for some operators wishing to get in on the owner-operator model to do so and acquire larger footprints at an affordable price tag, according to Avista Senior Living CEO Kris Woolley.
Light on the horizon
From an operator’s perspective, Woolley said conditions had improved drastically from a year ago and from 2021 coming off of a widespread feeling of “overwhelming fatigue” due to the Covid-19 pandemic.
“Staffing became a monumental headache and inflation started to rear its head and they’re creating complications,” Woolley said.
He added that in recent months management inquiries have increased for Avista Senior Living. That, contrasted with a host of new technology in senior living, will help drive better service and care for senior living residents.
Avista Senior Living operates 16 communities across five western states.
The temporary slowdown in dealmaking in senior living could also be intentional, Will said.
“There is also, at the same time, this very important dynamic that everybody thinks things are going to be better in a year,” Will said. “So therefore, nobody wants to do anything.”
With risk ahead in the short term and optimism on the horizon, Woolley said operators like Avista Senior Living must consider partnerships and joint-venture deal structures to bear risk equally in the event of drastic market shifts.
“Ultimately I think the ownership group bears the exposure,” Woolley said.
When he entered the industry 12 years ago, Woolley said he was seeing underperforming assets sell at similar prices today as compared to the Great Recession and financial crisis of 2008, and noted that the valuations gap between strong assets and non stabilized assets was “far more meaningful” today.
Down the road, Blazejewski said he sees opportunities for long-term investors with capital to buy loans and to control assets that way.
In the future, Woolley said he could see a reality in which underperforming and smaller properties work more closely with state governments on Medicaid programs to provide a solution to a lower basis with a much lower cost of capital.
“I think there’s just a favorable sort of tide of things that are going to work in senior housings’ favor,” Blazejewski said. “We’re in an environment now where it’s going to be a little bit more challenging and it’s going to take a little bit more sophistication and capability to perform but it will still be possible.”