Welltower Readies Self-Managed Operating Platform, With Goal of Exceeding Pre-Pandemic Margins

Since 2020 the senior living industry has talked about returning to pre-pandemic margins and occupancy — but Welltower CEO Shankh Mitra does not want that to be the company’s end goal.

Although the pre-pandemic operating margin for Welltower’s SHO portfolio was roughly 30.8%, Mitra said he would be dismayed if the company stops there.

“If that’s where we end, I will be disappointed,” Mitra said during the company’s fourth-quarter earnings call with investors and analysts Thursday.

The reason why is that he believes the company is building momentum in its performance, and that Welltower’s recent improvements are “only the tip of the iceberg.” Also giving him confidence is the fact that the company is readying the deployment of a new operating model that will help it self-manage about three-fourths of its total IL units.

“I believe we’re only at the beginning of a multi-year, double-digit NOI growth resulting from a runway of occupancy gain, rate growth and operating margin expansion,” Mitra said during the call.

Return of guidance, growth runway ahead

In the first time since Covid-19 disrupted the industry in 2020, Welltower offered full-year guidance during Thursday’s call.

“While we’re happy to bring back full year guidance after three years, I’ll point out there are many macro and business uncertainties remaining,” Mitra said.

Still, Mitra is confident of the long runway ahead based in part on the fact that Welltower won a favorable ruling from the IRS that granted the Toledo, Ohio-based real estate investment trust (REIT) a wider purview to self-manage approximately 45,000 IL units.

Since then, the REIT has added key executive staff, including as of earlier this week Jerry Davis, a longtime multifamily real estate executive who is aiding Welltower as a strategic advisor to jumpstart the development and implementation of its new and likely self-managed operating platform.

Also giving Mitra confidence are the company’s latest financial results. Same-store NOI for the company’s Senior Housing Operating (SHO) portfolio increased 28.1% in 4Q22 over the same period in 2021. Same-store revenue growth exceeded 10% in the fourth consecutive quarter, driven by occupancy and rate growth.

Revenue per occupied room (RevPOR) for the company’s SHO portfolio grew 7.5%, which is the highest increase in company history and a “consistent bright spot” for the REIT.

“While we achieved record RevPAR growth in 2022 … we expect to surpass this level of growth in 2023,” Mitra said.

Welltower reported net funds from operations (NFFO) of $0.83 per share. Same-store senior housing occupancy grew to 79.1% in 4Q22, up from 78.9% in 3Q22. Margins increased to 22.8%, up from 22.0% in 3Q22.

BMO Capital Markets analysts Juan Sanabria and John Kim noted that Welltower’s SHO portfolio saw “strong pricing power and improvements in labor” in 4Q22.

“WELL is investing meaningful capital in its platform/people, ahead of taking on greater operating control, which is a long-term positive but expected to come with some bumps as the business matures,” their Feb. 15 investor note reads.

Welltower’s recent occupancy recovery, rate growth and margin improvements are somewhat offset by higher variable rate debt costs and higher general and administrative expenses, according to a Feb. 15 note from Stifel. But overall the company has a strong position in the senior housing market.

“We continue to believe the biggest factor in the SHOP recovery will be operating margin improvements, but we believe this will remain challenged near-term due to wage and goods inflation,” the note reads.

IRS ruling could widen margins

With Welltower COO John Burkart’s hiring in 2021 and Davis’ hiring earlier this week, Welltower appears poised to accelerate its effort in developing its operating platform.

Welltower expects that 80% of its 2023 overhead costs will be driven by technology investments and new staff additions in 2022 and this year, Chief Financial Officer Tim McHugh noted.

“We continue to believe in the opportunity to both modernize operations and drive efficiencies through scaling. Our business is vast and creates a sustainably strong cash flow tailwind when combined with the demographic-driven demand over the next decade-plus,” McHugh said.

The private letter ruling (PLR) provides Welltower “significant flexibility” to self-manage the more than 45,000 units that make up three-fourths of the company’s IL portfolio. It specifies that such communities are not “health care” facilities and thus are not required to be leased to a third-party operator or taxable subsidiary as required under the REIT Investment Diversification and Empowerment Act (RIDEA).

Mitra added that the PLR gives Welltower “significant ammunition” to accelerate the pace for what he referred to as “Welltower 3.0.”

“We remain optimistic that further investment in our platform will not only result in a better margin profile of our assets, but also meaningfully benefit the third-party operating partners and others across the senior living spectrum,” Mitra said.

Burkart compared the company’s current exploration of self-managing certain properties to the multifamily real estate sector in the mid-90s when such companies shifted from fee managers to owner-operators. In turn, that gave owner operators the ability to “move much faster — and it changed how we looked at the world.”

“All of these things enabled a tremendous improvement in margins,” Burkart said. “It will allow us to step into that business and have a tremendous impact on the margins.”

Welltower is piloting the operating program with certain operators, with preliminary results expected later this year. In doing so, the company can improve the performance of its IL properties and even take some of those best practices to the operators of the AL properties it owns.

“I would not be surprised if we start to self-manage some IL assets in the calendar year of 2023,” Mitra said.

He added that “forward thinking” partners within Welltower’s IL portfolio were prepared to move the business forward and “want to participate in building out the platform together.”

“This is pretty huge and it’ll impact our whole overall residential platform,” Burkart added.

For Welltower, adding new operating partners is less of a focus than it has been in years past, and Mitra said the REIT is instead striving for “regional density” with existing partners, something he said was akin to a “long dating process” to determine value-add for both parties prior to a strategic partnership.

Earlier this week, Welltower announced a programmatic partnership with Virginia-based Retirement Unlimited (RUI) and the launch of a new brand called Elance as part of a larger effort to span more than 20 luxury communities on the East Coast.

Mitra called RUI “one of the best operating performing” senior housing operators on the East Coast during Thursday’s call, adding that the partnership would grow through acquisitions, transition and development.

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