Access Companies

Investment in skilled nursing facilities hasn’t slowed down despite persistent dark clouds surrounding the industry’s outlook.

One of the overarching themes this past conference season — including at the summits held by the American Health Care Association (AHCA) and the National Investment Center for Seniors Housing & Care (NIC) — is that there’s an ongoing influx of capital into the long-term health care space, as demographic trends and new payment models tantalize flush investors.

“The aging demographic discussion has been talked about for decades, and you have that expectation built in,” Bill Kauffman, senior principal at NIC, said during his firm’s annual expo in Chicago last month. “But you also have higher acuity — higher cash flow per bed if higher acuity is coming into these properties. I think there’s a lot there to think about, and it’s a multitude of factors for sure.”

But that trend is happening while Kauffman’s employer calculates quarter after quarter of record-low occupancy rates, which most recently fell to 81.7% in the second quarter of this year.

Despite the seeming discrepancy, several mergers-and-acquisitions experts say that there are perfectly valid reasons for why cash keeps flowing into an industry that, at least by the measure of heads in beds, appears to be struggling.

“You have a lot of new capital coming into the space that doesn’t fully appreciate — and therefore doesn’t fully underwrite the risks — in this industry,” Isaac Dole, founder and CEO of the Chicago-based investment firm Birchwood Healthcare Partners, told Skilled Nursing News. “So while census is declining, price per bed could be increasing.”

Another panelist at the NIC conference, Charles Bissell of JLL Valuation & Advisory Services, hinted at investors’ lack of intimate knowledge of the skilled nursing space as well, saying that the banks his firm works with don’t want to hear that per-bed prices are too high given the anticipated wave of baby boom demand.

“It’s our job as appraisers, as valuation consultants, to determine what a willing buyer would pay for the asset, and if the buyers are ignoring the fundamentals and pricing aggressively — if they’re effectively betting on the future cash flows, betting on cap rate compression — it’s our job to reflect that in a valuation,” Bissell said.

Bradley Schopp, managing director at appraisal firm Integra Realty Resources, agreed with that assessment.

“I do think in good areas, for good properties, people will overpay for those things just for what’s going to happen in the future,” Schopp told Skilled Nursing News. “They’re going to factor that in. I think we’ve seen some skilled nursing transactions, people paying prices that seem high, and I think it has a lot to do with just the availability of capital that’s out there.”

Schopp’s team typically tries to rely on firm data when pegging the price of a skilled nursing facility for its clients: banks that retain Integra to assign an impartial value on the properties they’re about to lend millions of dollars against.

Accessing available reimbursement information is crucial when determining the appropriate price for a building, he said, with the best appraisers realizing that in certain states, dollars could go up or down depending on census, political changes, and other factors; in other words, buyers can’t assume a favorable Medicaid rate will trend nicely upwards along with inflation.

“People will say it’s an art, and we’re just going to put a number on it, but no — it’s very scientific,” Schopp said.

In a state like Pennsylvania, for example, with a cost-based reimbursement system and cost reports available for the previous five to six years, buyers would be wise to analyze those historical trends for a fuller picture of what the future might look like.

“And that’s what you have to use — this is the information that’s going to say what the rate’s going to be for the next [several] years, and if you don’t use it, and if you don’t look at it, you’re really missing the boat on it,” Schopp said.

Those rates are just one of the many factors that can go into the eventual per-bed price that a buyer pays for a facility. At Birchwood, for instance, Dole’s team focuses on the distinction between licensed beds and functional beds, which could come into play as facilities remain licensed for certain capacities but phase out three- and four-person rooms.

“Historically, reporting was always price per licensed bed, but moving forward, I think buyers are referring to price per operational and price per licensed bed — even if there is a post-closing bed count compression in places like Kansas, where your bed tax liability falls significantly at 45 beds,” Dole said. “In this scenario, price per functional bed could be increasing compared to price per licensed bed.”

There’s another trend driving high prices: The major portfolio sell-offs that have dominated the space as Kindred exited the industry entirely, and major real estate investment trusts (REITs) restructured their portfolios by shedding assets. Mark Myers, executive managing director at Institutional Property Advisors in Chicago, said that big portfolio deals tend to carry a premium of 25% or more over one-off sales. In addition, Myers pointed to the trend of “merchant building,” or a developer buying a new property for sale to a skilled nursing investor.

“These are the more expensive properties, relative to older ones,” he said.

Over at Blueprint Healthcare Real Estate Advisors, a Chicago-based broker of senior housing and care assets, the key distinction is between stabilized and non-stabilized assets. Margins on buildings with solid operations and good cash flows may have decreased over the last three to four years due to wage increases and Medicare Advantage pressures, according to managing director Ryan Chase.

That has helped to drive interest in the non-stabilized side of the marketplace, where investors might be looking for some turnaround potential.

“Those that were, call it $45,000 per bed in 2015, are more like $50,000 per bed in 2018 — the same deal, with the same operations,” Chase said of properties tabbed as potential improvement projects.

Blueprint founding partner Ben Firestone also pointed to the overall optimism about the space as a reason why capital is increasingly chasing the market despite gloomier occupancy numbers. SNFs remain a lower-cost setting than hospitals and long-term acute cate hospitals (LTACs), he said, and some investors are even beginning to dig deeper into the financial math behind home health care — a setting that’s been increasingly championed by the government and insurance companies as a cheaper alternative to any kind of institutional care.

But the cost of receiving in-home care isn’t just a matter of paying an agency; that price doesn’t account for the other costs associated with holding onto real estate, such as property taxes and maintenance outlays.

“I think it’s really a perfect storm, and it’s why everyone out there really believes that occupancy and rate and mix are all going to go back toward a good healthy operating environment — even if labor and operating expenses continue to increase due to inflation,” Firestone said.

Written by Alex Spanko