Investors Hit the Brakes on M&A

by Jeff Shaw

After transaction volume rebounded greatly in 2021, sales fell 38 percent in 2022 as economic hardships mounted.

By Jeff Shaw

I get knocked down, but I get up again 

You are never gonna keep me down 

The lyrics to the song “Tubthumping” by former British rock band Chumbawamba are an apt description of the seniors housing industry because of its resiliency in the face of adversity over the past three years.

The COVID-19 pandemic delivered the first blow in early 2020, leading to a rise in deaths at communities, declining occupancies and myriad operational issues. High inflation and capital markets volatility delivered a second blow in 2022, putting pressure on operators’ net operating income (NOI) and causing a dramatic slowdown in the velocity of investment sales activity.

In fact, it’s been a roller coaster ride for seniors housing property and portfolio sales over the past three years. After reaching $18.5 billion in 2019, deal volume plummeted to $10.6 billion in 2020, the first year of the pandemic. Transaction activity rebounded in 2021 with $20.2 billion in total seniors housing investment sales before tumbling 38 percent to $12.4 billion in 2022.

In all, 808 properties traded hands across 580 deals in 2022, compared with 1,281 properties across 663 deals in 2021, according to MSCI Real Assets, a New York City-based research, data and technology firm. MSCI’s numbers are based on independent reports of properties and portfolios $2.5 million and above.

However, Jim Costello, chief economist of MSCI’s real assets team, is quick to note that this huge decline is not a challenge unique to seniors housing.

“If I’m an investor in only the seniors housing side of the world and I see these numbers showing double-digit decline in deal volume, the fear is there’s something wrong with seniors housing,” says Costello. “But it’s something that’s happening to commercial real estate broadly. The rising rate environment makes it difficult for deals to pencil out on the same metrics that worked in 2021.”

John Sweeny Jr., principal and partner with CBRE Capital Markets, describes 2022 as “a tale of two cities.” Many investors and brokers entered the year believing that it would be a record-setting year for seniors housing sales, only to be stymied by deepening economic issues by mid-year.

“In April, the Fed started raising interest rates at an unprecedented clip and we saw 40-year highs in inflation,” says Sweeny. “The first half of the year was robust. The prospects for 2023 are dimmer, or at least more cautious.”

Single-asset sales actually increased from $7.5 billion in 2021 to $8.2 billion in 2022, perhaps a reflection of the current state of the market. That’s the second-largest annual transaction volume for single-asset seniors housing sales, falling just short of the $8.4 billion in 2019.

Costello says single-property sales are easier to close than portfolio sales in tough economic times.

“When market indicators aren’t looking good, a bigger deal takes more time to turnaround — it’s turning a rowboat versus turning the Titanic,” he says. “If someone’s buying a $5 million facility in a tertiary market, they’re doing it with a smaller loan from a local bank. It’s just an easier deal. There’s not as much lead time needed.”

Brooks Minford, director at brokerage firm Berkadia Seniors Housing, says mom-and-pop owners were a big driver of the increase in
single-asset transaction volume in 2022.

“We have seen the local mom-and-pop operators have the most interest in selling out to a larger operator just due to fatigue, complications with their existing debt and the overall operating environment. While operating conditions have improved, many of these local operators have had challenges since the beginning of COVID.”

Strong single-asset sales only lightly softened the blow of portfolio sales falling from $10.3 billion across 613 properties in 2021 to $4.2 billion across 288 properties in 2022. There were no entity-level sales in 2022, none in 2020, and only one in 2021. Ventas acquired New Senior Investment Group and its 103 properties for $2.3 billion that year.

Bid-ask spread stalls deals

While there may be a great deal of fatigue in seniors housing, which should theoretically bolster sales as owners try to bow out of the industry, many of those prospective sellers aren’t liking what they’re hearing from the market.

“We’ve got people who want to sell because it’s time to sell, but the capital markets are very volatile,” says Sweeny. “The bid-ask spread was getting tighter, but now it’s widened back out again.

“Some investors may just want to get out. ‘Damn the torpedoes, we’ve got to sell.’ But many more are saying, ‘Let’s get ready to sell, but not sell yet. We don’t want to go into the market given how choppy it is.’”

Costello notes that “cap rates really haven’t moved yet,” meaning that per-unit pricing hasn’t changed much despite the shift in interest rates.

However, he warns that today’s stalled deals could be tomorrow’s distressed assets, as owners who need to sell value-add properties instead hold onto a sinking ship.

“We are seeing cap rates starting to go up for other property types, but it hasn’t for seniors housing yet,” says Costello. “Nobody wants to take a loss. It’s only going to happen when people are forced to. If interest rates haven’t come back down in a couple years, you might see some distress.”

Minford agrees that capitalization rates have only moved “modestly,” noting that stabilized, Class A seniors housing assets are still selling at near the same metrics as before. Cap rate movement has mostly been seen in “buildings that are non-stabilized, older (10 to 15 years old), smaller (under 70 units) and located in secondary markets.”

“Debt costs are expensive, and that changed the price,” concludes Sweeny. “Sellers are not excited to sell at current valuations.”

Active adult is transaction darling

Active adult — defined as age-restricted housing with no healthcare aspect and usually no meals provided — has been the darling of seniors housing in recent years. The subsector fills the gap between multifamily and independent living. Investors like the lower overhead and resident age than independent living, and the higher rents than multifamily. Also, residents in this subsector tend to stay in their apartments longer than in traditional multifamily.

So, it’s no surprise that active adult helped drive what little transaction volume there was in 2022.

“We saw a significant spike in interest for active adult product in 2022. This subsector has been evolving over the last few years, but it seems that over the last 12 months, operators have really began accepting this as a viable product,” says Minford. 

“Operators have been shifting their platforms to provide more of this product offering to potential residents. Operators have also embraced the lower operating costs for an active adult community, relative to assisted living and memory care. They believe that, in the long term, these buildings will serve as feeders for their seniors housing communities nearby.”

“We’re bullish on AA (active adult),” agrees Sweeny. “There’s a tremendous need for that product. People are living healthier and longer, and they want to be near their adult children. There are low labor costs and low turnover rates. It’s just a simpler business with higher margins.”

Minford saw this interest firsthand, as Berkadia brokered the sale of Hardy Springs, a 149-unit, single-family, build-to-rent active adult community located in the Atlanta suburb of Dallas, Georgia.

“It was interesting to see the number of traditional seniors housing buyers shift to underwriting for that product, which ordinarily has been acquired by traditional multifamily groups,” says Minford.

Georgia-based Highlands Residential sold the asset to South Carolina-based Blaze Partners for $47.8 million, or approximately $320,805 per unit.

“We do not see interest in active adult slowing in 2023,” concludes Minford.

Who’s buying, selling?

Private companies — representing both private equity firms and smaller owners — were once again the straw that stirred the drink for transactions, representing both the largest volume of buying and selling of any investor type for the sixth year in a row. 

Private investors bought $8.3 billion in seniors housing properties in 2022, while selling $8.5 billion worth of assets, making this group net sellers to the tune of $240 million, according to the MSCI data.

“So much of the market is tied up in these non-institutional investors, properties worth $20 million and under,” says Costello. “That is the realm of these private buyers. Think of a local investor that owns a couple properties. That’s the majority of the ownership.”

Publicly traded REITs, meanwhile, were net buyers, but were relatively inactive in 2022. 

REITs bought $1.4 billion in seniors housing assets while selling $1.1 billion worth of assets, making them net buyers by a total of $356.6 million.

Compared with previous years, 2022 marked the lowest volume of both acquisitions and dispositions for REITs in at least a decade.

“The largest net buyers for the year were REITs, but only on a very minimal basis,” says Costello. “It’s not like they made a huge move toward the sector this year.”

The top individual buyer and seller for the year were both publicly traded REITs — Welltower and Omega Healthcare REIT, respectively. Aside from those two players, the list is largely dominated by private equity groups and institutional investors.

This slowdown in REIT activity is largely due to low stock prices, says Costello.

“Their share prices have plummeted tremendously. Because REITs use a lot of debt, and interest rates have gone up, investor activity will reflect that trend. When your share price is falling, new acquisitions aren’t going to be accretive.”

However, Costello notes that REIT transactions can be a bellwether for where the economy is heading. While REITs often are the first to fall, they’re also the first to recover.

“In the Global Financial Crisis in 2008, you saw REIT share prices fall first. REITs hit bottom before the rest of the market, but started recovering and were the first to start buying again. Is it going to happen this time? I don’t know. But it’s what happened last time.

“It’s worthwhile watching them. It gives you a more immediate read on where the market is — not that the market’s always right.”

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