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We might be entering a golden age for senior housing REITs, judging by what the top leaders of Welltower (NYSE: WELL) and Ventas (NYSE: VTR) had to say during their companies’ most recent earnings calls.
The senior living industry is entering a new period of low construction starts, looming demand and a tough economic landscape. Financing is tough to get, and new development projects are largely on hold. Senior living operators face a big challenge in finding ways to grow while not taking on too much risk.
But this environment favors the public REITs, given their advantages related to cost of capital and access to capital, and could mark a shift in the investment landscape from recent years. Consider that heading into 2023, 39% of respondents to SHN’s annual outlook survey pegged private equity as the year’s biggest buyer of senior housing, followed by private REITs and regional operators at 19%, and public REITs trailing at 11%.
I expect the public REITs to score more highly as a likely buyer on our 2024 outlook survey. To Welltower CEO Shankh Mitra, now is “the best environment for investments that we have ever seen.” To Ventas’ Deb Cafaro, it’s “the most favorable supply-demand fundamentals the industry has ever experienced.” Both companies are gearing up to make the most of the coming year, and what they do in the next 12 months may well strengthen their already significant influence on the industry.
And just this week, Welltower announced a $1.5 billion equity offering to be used to fund $2 billion in investments.
In this week’s exclusive, members-only SHN+ Update, I offer analysis and key takeaways from recent senior housing earnings calls, including:
- Why REITs are in the driver’s seat heading into 2024
- Where these companies might deploy capital based on public comments
- How operator-owner alignment will continue to be important in the new year
The luxury of liquidity
It’s no secret that when capital is hard to come by, those with access to it are in a more advantageous position. Although interest rates have been much higher in the past, the rate at which the Fed increased them in 2022 and 2023 is a historical anomaly.
For investors and stakeholders with projects underway, or operators with large amounts of debt service to pay, that quick ramp-up has been a big headache – or worse. Payments that were manageable only months in the past became untenable, leading some to fear an industry “death spiral” for some communities, given the challenging state of operations and higher expenses.
Mitra noted how “a wall of debt maturity in the commercial real estate sector is coming exactly at a time when debt capital is evaporating from the market.” And he added that “we will not be surprised if significant dilutive capital is raised, otherwise a lot of keys will need to be returned to the lenders.”
Reading between the lines, I took Mitra’s comment to mean that Welltower would come in and act as a new partner in certain such situations.
Welltower is controlling various levers representing approximately $6.6 billion in near-term available liquidity, according to the Toledo, Ohio-based REIT’s latest earnings report, and Ventas has about $3.1 billion in available liquidity.
That financial flexibility gives companies like Welltower an “opportunity to remain on the offense or provide shelter if the economic environment meaningfully worsens,” Mitra noted during the REIT’s latest earnings call. Following the earnings call, Welltower announced that a public offering of 17.5 million shares of common stock, sold at a slight discount to the market price, had garnered $1.5 billion in gross proceeds, which will be used to fund investments, including deals under contract, and for general corporate purposes. About 80%-plus of the investment pipeline is senior housing, Mitra said on the Q3 earnings call.
Meanwhile, Raymond James analysts estimate year-end leverage of 4.9x net debt/EBITDA for Welltower, down from previous estimates of 5.6x, according to a note issued this week.
“We believe as interest rates stay higher-for-longer, leverage could decline further since WELL’s cost of equity is lower than its cost of debt, which would only further prime the balance sheet for future accretive investment activity and long-term value creation after this unprecedented period where the cost of debt normalizes below the cost of equity,” the analysts wrote.
Likewise, Ventas sees similar advantages in its balance sheet.
“We have liquidity, we have the [Ventas Investment Management] platform, and of course, we do see the volume of senior housing coming to market in yields increasing so that we feel optimistic about the cost of capital,” Cafaro said.
National Health Investors (NYSE: NHI) is in a similar boat, with over $500 million in available liquidity and “ample capacity to deploy without the immediate need for equity,” CEO Eric Mendelsohn said.
“The dearth of capital and looming debt maturities should favor well capitalized REITs like NHI. We will be patient and stay focused on our organic opportunities,” he added.
‘Year-end is shaping up to be extremely busy’
Comments on all three REITs’ earnings calls help reveal their strategies for investing in the space.
Mitra noted that the company’s “year-end is shaping up to be extremely busy, and Q1 also looks promising if we continue to have access to growth capital.”
He noted that the company has a “three-dimensional lens through which we measure investment opportunities, risk, reward and duration, given the substantial rise of real rates over the last 90 days.”
So far, Welltower has had no issues in calibrating higher – for instance, needing higher returns than in the recent past – because sellers recognize the changes in market dynamics, according to Mitra. The REIT is targeting stabilized yields of around 8% or higher for senior living. But Mitra emphasized that Welltower is “not a yield buyer.”
“We are still happy to buy 1% yield, if we think that’s the right basis and the right assets,” he said.
Ventas Senior Living EVP Justin Hutchens said that the REIT has seen a growing number of opportunities, including “ a number of institutional sellers that are dealing with debt maturities or fund maturities.”
“And we’re starting to see the returns become more interesting to us,” he added.
Given their focus on alignment, it’s likely that Ventas and Welltower will seek out partners who can work closely with them, in deals that increase market density for their preferred operators. For instance, Mitra singled out StoryPoint, Kisco and Oakmont among the organizations that are top performers in the REIT’s portfolio. Working with these operators to manage their pace of growth will be key for Welltower to maintain its performance through an aggressive investment period, Raymond James Analyst Jonathan Hughes noted.
Operator alignment is also a larger focus for REITs such as NHI, which is growing a senior housing operating segment (SHOP) it launched in 2021. Mendelsohn explained that the REIT is currently advising potential customers to “make sure they live to fight another day” given what he sees as ungrounded optimism “that the cost of capital increases are temporary.”
“They should be realistic about the higher for longer cost of capital and the growing illiquidity in senior housing, and carefully choose a partner that will work with them towards their success in the long-run,” he said.
Looking ahead to 2024, I foresee a potentially big year for these REITs provided that they can find the right opportunities, which in turn will propel the growth of their favored operating partners. I hope that as this comes to pass, the deals will reflect the type of “win-win” alignment that has been the subject of so much industry conversation, including at the recent NIC conference.
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