By Bendix Anderson
For more than two years, a persistent bid-ask spread between buyers and sellers of seniors housing has prevented many deals from getting done. Appraisers don’t expect a dramatic uptick in deal volume in the near term.
“I’d love to see a big break in the dam, but at this point I expect more of a steady increase in the flow [of deals],” says Zach Bowyer, executive managing director and head of living sectors for Cushman & Wakefield, who is based in the firm’s Boston office. He is also a Member of the Appraisal Institute (MAI).
An unusually large number of potential sellers still allow their “for-sale” listings of seniors housing properties to expire without a transaction, according to surveys of potential sellers collected by CBRE.
“The offers they received were unacceptable,” says Daniel Lincoln, national practice leader of the seniors housing and healthcare specialty practice for CBRE Valuation & Advisory Services.
Still, more deals are getting to the closing table, say several top appraisers like Lincoln.
Property and portfolio sales in the seniors housing and nursing care sectors totaled $1.4 billion in the second quarter, up 15.8 percent from the first quarter, according to preliminary data from National Investment Center for Seniors Housing & Care (NIC), headquartered in Annapolis, Maryland.
The dollar volume of seniors housing deals that closed in the second quarter is less than half the average level of quarterly activity over the past decade, according to NIC.
Reality sets in
“There’s a lot more activity this year compared to last year,” confirms Alan Plush, CEO and partner at HealthTrust based in Sarasota, Florida. “It takes time for markets to adjust. Many anticipated steep interest rate reductions that didn’t materialize. People have begun to accept the inevitable reality.”
Appraisers interviewed for this story say the gap between buyers and sellers on valuations had ranged from 5 to 20 percent. However, pricing has already adjusted to some degree for seniors housing.
“The range of the bid-ask spread is definitely decreasing,” says Brian Chandler, senior managing director and national practice leader for seniors housing at Partner Valuation Advisors, based in Raleigh, North Carolina.
“There is a greater acceptance of current valuation levels versus what people had hoped for,” says Bill Kauffman, senior principal for NIC.
Both potential buyers hoping for big discounts and sellers hoping to receive the peak prices common a few years ago have been disappointed. “We’re in a little more of a state of reality. Time has been a big part of it.”
The average price per unit in the second quarter dropped to $118,000 from about $180,000 the year before, as more sellers acquiesced on price. Prices peaked at an average of $200,000 in the fourth quarter of 2019.
“Pricing may be stabilizing as more buyers come onto the market and the bid-ask spread closes,” says NIC’s Kauffman.
The biggest standoff between sellers and opportunistic buyers often involves distressed, overleveraged properties. Last fall and this spring, “you were probably getting offers 20 percent below the asking price” from these bidders, says Bowyer.
Not every potential buyer of seniors housing properties is looking for distressed deals. “The deals that have to get done are no longer the only deals getting done,” says Plush. “We’ve moved beyond distressed sales as the only sales.”
At least a few buyers are looking for well-managed, stabilized assets. “Now more offers are coming in at guidance and even a little bit over guidance in some cases” for Class A, core, well-operated properties, says Bowyer. “This would apply to low-leveraged or all-cash buyers, giving them a clear market advantage in this environment.”
The REIT factor
Healthcare real estate investment trusts (REITs) such as Welltower (NYSE: WELL) and Ventas (NYSE: VTR) have recently acquired seniors housing property portfolios. They tend to buy stabilized, well-performing assets from owners that don’t necessarily need to sell. Negotiations to buy properties like these tend to be less contentious than low-ball, take-it-or-leave-it offers to buy distressed properties.
For example, Welltower has set a goal to acquire $5 billion in properties in 2024. In the first half of this year, the REIT bought a portfolio totaling more than 1,000 units of seniors housing from Kayne Anderson Real Estate for $271 million.
Seniors housing properties acquired by publicly traded companies accounted for 18 percent of the total dollar amount of deals closed in the first half of 2024, according to NIC. That figure is up from 4.6 percent for all of 2023.
The REITs have money to spend thanks to their rising stock prices. Welltower, for example, was priced at $117 per share in mid-August, up from less than $90 a year earlier.
That source of ready capital protects REITs from having to rely on debt financing at unpredictable interest rates to make deals work. That has helped them close the gap with potential sellers.
Rate cuts top of mind
Relatively high interest rates are still thwarting deals, say industry experts. Most investors rely on permanent loans at current rates fixed above 6 percent to acquire properties unless they are fortunate enough to assume existing loans with lower interest rates.
Even a slight change in interest rates affects investors’ internal rate of return (IRR) on their real estate assets. Weak IRRs “will keep deals from getting done unless relative pricing decreases or interest rates fall,” says CBRE’s Lincoln.
As of Aug. 28, the yield on the 10-year U.S. Treasury note — a benchmark for permanent, fixed-rate financing in commercial real estate — stood at 3.84 percent, down from 4.75 percent in late April. Market watchers attribute the yield’s decline to dimming prospects for U.S. economic growth in the near term. In times of economic uncertainty, investors flee to safe assets like Treasuries, and when demand for Treasuries rises, yields fall.
Meanwhile, the Federal Reserve has strongly indicated that it will cut the federal funds rate at its Sept. 18 meeting now that inflation has moderated. The federal funds target rate, which currently ranges from 5.25 to 5.5 percent, is what banks pay one another to borrow or loan money overnight. It also affects interest rates on everyday consumer products, such as credit cards or mortgages.
A rate cut by the Fed would have the greatest impact on borrowers with short-term, variable-rate financing tied to the Secured Overnight Financing Rate (SOFR), which as of Aug. 27 was 5.3 percent.
“There is definitely a shared optimism,” says NIC’s Kauffman. “Once we start to see some movement from the Fed, things are going to be healing and we’re definitely going to start to see some more transacting.”
Real estate experts have shared this optimism before. At the end of 2023, many seniors housing investors also believed rates were about to fall.
“In January and February 2024, we were really busy on the valuation side,” says Bowyer. Then in late February, Federal Reserve Chairman Jerome Powell said that interest rates may need to stay high to avoid potentially higher inflation rates. “I’ve never seen a market respond so quickly,” says Bowyer. “Our phones just stopped ringing. Everyone just hit pause again.”
But even when interest rates seemed poised to drop, many deals were still nearly impossible to transact.
“For deals to take place, there had to be perfect alignment at all levels,” says Bowyer.
For example, in July of last year Cushman & Wakefield brought to market a portfolio of well-
operated and profitable seniors housing properties. They had an average occupancy rate of more than 90 percent, operating margins of about 35 percent and rents growing more than 8 percent a year. The seller was looking for a cap rate of 7 percent to 7.5 percent.
By November 2023, the potential seller had received six offers. Five were well under the asking price, mostly from opportunistic private equity funds only willing to accept cap rates of 8.5 percent or higher.
The sixth offer came closer. “We had one offer come in at a 7.5 percent cap rate,” says Bowyer. The seller seriously considered the offer — but the deal didn’t close.
“I don’t think buyers really felt a need to move too much to make a deal work, and same thing with the sellers,” says Bowyer.
Distressed properties hang on
Many seniors housing owners have properties in their portfolios with serious financial problems that should motivate them to sell.
There are currently about $19 billion in outstanding seniors housing loans scheduled to reach maturity in the next 24 months, according to Cushman & Wakefield.
“We thought that would act as a catalyst for transaction activity,” says Bowyer. The owners of properties that were unable to refinance at the higher interest rates now available might be forced to sell. “That didn’t really play out at the level we were expecting.”
Lenders are allowing many borrowers to extend their mortgage loans, provided they are still paying their debt service on those assets.
Federal regulators did not penalize banks that offered these extensions. Banks now also have little incentive to force borrowers with financially troubled properties to refinance or sell immediately. That’s particularly true if the borrower is still making payments and the transaction may be easier in the relatively near future, as interest rates potentially ease and property performance improves.
However, some properties are too troubled for the owners to hold onto. “I’m seeing transactions for really, really challenged deals,” says Plush.
For example, some closed-end private equity funds at the end of their hold periods were forced to sell seniors housing properties located in a secondary market with some temporary problems with oversupply.
Rising rents lift all properties
Negotiations between buyers and sellers may also become less contentious as fewer sellers have a need to distract buyers from empty beds and weak operating margins.
After the chaos and uncertainty of the COVID era and a long, slow recovery, the percentage of units occupied at seniors housing properties is almost back to pre-
pandemic levels.
In the second quarter, 87 percent of the units at seniors housing properties were occupied, according to NIC. In the 10 years before the pandemic, the percentage of occupied units largely ranged between 87 and 89 percent.
The latest figures are a giant improvement from the low of 78 percent in the first quarter of 2021, which marked the end of the first winter of the pandemic.
With so few new seniors housing properties currently under construction, occupancy rates are expected to continue climbing. Rents should grow faster than average over the new two or three years, CBRE predicts.
“Occupancy should increase and surpass pre-COVID levels in 2025,” says CBRE’s Lincoln.
Developers started construction on 12,272 new units of seniors housing in the 12 months that ended June 30, according to NIC. That includes independent living, assisted living and memory care, but not nursing care.
That’s a fraction of what developers built before the pandemic. They started construction on an average of 38,681 units of seniors housing per year over the five years before the pandemic, which was a building boom for seniors housing. They averaged 22,434 units per year from 2009 to 2015, during the recovery from the global financial crisis.
The number of people in their 80s who have become old enough to need seniors housing also continues to grow.
“We’re finally at that inflection point where that leading edge of the baby boomers is now starting to move into these properties,” says Bowyer. The oldest boomers, born in 1946 will have their 78th birthdays in 2024. “Just to meet that demand at our current capture rate, we would need to increase our deliveries by 35,000 to 45,000 units per year starting today.”
As demand for seniors housing improves, more income can also help properties support higher interest rates — wherever they eventually settle.
“Rent growth solves most operating and value-related problems,” says Lincoln.
Operating margins improve
The combination of stronger occupancies, rent growth and a moderating level of inflation is helping boost the profit margins of seniors housing properties.
“As recently as 12 months ago, the industry was asking if we would ever see profit margins or operating margins back to where they were pre-COVID,” says Bowyer.
Before the pandemic, many seniors housing properties earned profit margins as high as 40 to 45 percent, says Bowyer. During financial recovery from the pandemic, few senior living properties earned profit margins of more than 30 percent.
More recently, profit margins have begun to recover as occupancy rates have improved for most properties.
Many owners are also combatting an increase in operating costs. During the pandemic, understaffed seniors housing companies often relied on costly agency staffing to assist them through the crisis. That problem has now abated.
“The majority of operators that we’re doing evaluations for are moving away from that increased cost of agency labor very quickly,” says Bowyer.
That’s helping these properties operate more profitably.
“We are actually already starting to see those 45 percent profit margins again,” he says. “It’s hard to find any red flags on the property market fundamentals side as we move forward. You’re going to continue to see increasing operating margins, increasing occupancy, increasing rent growth.”