Macro-economic conditions are slowing the pace of seniors housing transactions and squeezing the availability of capital. Inflation and rising interest rates are making deals more expensive to finance. Debt providers are tightening their underwriting terms, while equity investors sit on the sidelines worried about shrinking margins.
Overall, the outlook for the upcoming year looks choppy, according to investors and lenders speaking at France Media’s sixth annual Interface Seniors Housing Midwest conference. But they’re still bullish on the long-term prospects of the seniors housing market, with demand set to pick up as baby boomers finally hit the age when many of them need help.
The conference, held Oct. 20 in Chicago drew, several hundred attendees. The day-long event featured six panel discussions on timely topics along with networking opportunities.
Two separate panel discussions explored current transaction trends and the state of the capital markets. The speakers characterized the senior living sector as resilient and predicted that more distressed properties will come on the market in the year ahead, creating buying opportunities for value-add investors. Capital will also be available but only for the right deals, and financing will be more expensive.
“It’s a challenging market,” said David Sharp, managing director of real estate at MidCap Financial Services and moderator of the panel discussion on the outlook for the capital markets. He added that most lenders had a strong first half but are now waiting to see how market dynamics play out before funding more deals.
Panelist Dague Retzlaff, senior vice president at Capital One Healthcare, agreed. The bank had a good first half, recording $700 million in deals through May. “That’s enough in this environment,” he said. “It’s not a fun time to be lending at a bank.”
Retzlaff explained that going into a potential economic downturn, big lenders are being very selective. “It’s hard to underwrite loans today when you don’t know what interest rates will be,” he said. Loans that were underwritten 18 months ago may not be eligible for a take-out by an agency lender. “There’s a lot of uncertainty in our space,” he said. Retzlaff also worries about a slowdown of the broader housing market and how that will impact seniors housing.
VIUM Capital is currently focused on acquisitions, value-add opportunities and refinancings. The firm is not underwriting new construction. Key criteria are the sponsor’s track record and the property’s cash flow. “We are conservative,” said Steve Kennedy, executive managing director at VIUM. The firm underwrites cash flow using criteria similar to that of HUD, Fannie Mae and Freddie Mac. VIUM wants to know sponsors will qualify for agency loans when the time comes to refinance.
Construction financing is still somewhat available, though obviously more expensive than it was six months ago, according to Anne Hill, senior vice president at Bayview PACE. Owners need a bigger equity contribution of as much as 25 percent because of the higher cost of capital and rising construction prices. “Owners are getting creative,” said Hill. Some alternatives to finance new construction include USDA loans, tax-exempt bonds and debt fund capital.
Considering the different product segments, standalone memory care properties are hard to finance now. Capital One cut back on standalone memory care lending, following the lead of Fannie Mae and Freddie Mac “No one has a bigger, broader view of the market,” said Retzlaff, referring to the agency lenders.
Capital markets will continue to be challenged, according to panelist Josh Simpson, managing director at Meridian Capital Group. “Lenders will take their foot off the pedal,” he said. The Federal Reserve raised interest rates by 75 basis points on Nov. 2, but hinted at smaller future increases.
Simpson expects interest rates to level off over the next three months. Stakeholders will gradually become more comfortable with higher rates. “It will take time,” said Simpson.
Higher interest rates will curb new construction, which should result in a healthier market five years from now. “Owners will be glad they’re owners. Supply will be limited and there’ll be great demand,” said moderator Sharp.
During a separate panel discussion on transaction trends, six seniors housing executives acknowledged that the macro-economic climate has had a big impact on the investment market.
Panel moderator George Mesires kicked off the session by noting that seniors housing has outperformed other commercial real estate segments over the last several years but still faces tremendous challenges. “Where does that leave investments?” asked Mesires, partner at Faegre Drinker Biddle & Reath.
The rapid rise in interest rates over the last six months has caused deals to fall apart, according to panelist Isaac Dole, founder and CEO of Birchwood Healthcare Partners. The benchmark interest rate, which was near zero in March, has jumped 3.75 percentage points in the last eight months.
“Deals are tough,” said Tim Sanders, senior investment officer at Ventas, a healthcare REIT. A big spread on price exists between buyers and sellers. Long-term holders don’t see any reason to sell now. “We’re being patient,” said Sanders. In the near term, he expects more creative financing solutions, such as earnouts and seller financing.
“It’s a buyer’s market,” said Dan Lahey, executive vice president, chief investment officer, Life Care Services. He thinks the transaction market could be rocky in 2023. But if investors can find good opportunities to purchase an underperforming property, they could look smart in the years ahead.
“Cash is king,” said Mark Myers, managing director, Walker & Dunlop, noting that buyers need to be creative to get deals done.
Panelists expect more distressed properties will come on the market in the near future. Inquiries are up from bankruptcy attorneys. Government assistance to cover losses during the pandemic has ended.
A bright spot is rents. Owners and operators have been able to raise rents anywhere from 8 to 14 percent without suffering a slip in occupancy. Rent gains, however, are being offset by rising expenses for utilities, wages and insurance.
After working with borrowers to keep operations afloat over the last several tough years, lenders are losing their patience. Many buildings are not in technical compliance with loan covenants. Lenders are having conversations with borrowers to understand how properties will perform without government assistance programs.
“Lenders will take tough steps,” said Myers. They may ask for a partial paydown of the mortgage or for the owner to sell the property. “The lender is not an equity partner. There will be consequences.”
Where are the best investment opportunities? The panelists agreed that location matters. They like markets with strong job growth such as Austin, Texas; Nashville, Tennessee; Charlotte, North Carolina; and Tampa, Florida. High-growth markets attract adult children, who are often followed there by older parents seeking seniors housing.
“We remain bullish on the sector,” said Matt Pyzyk, managing director, Green Courte Partners.
— Jane Adler
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