Market Studies Can Make, Break Projects

by Jeff Shaw

With ground-up construction increasingly fraught with risk, savvy developers leverage data and consumer research to their advantage.

By Jeff Shaw

Developers and investors already know that a market report is one of the most crucial pieces of the “go” versus “no-go” decision on whether to build a seniors housing community.

But those studies — which factor in everything from demographics and cost of living to competition in the marketplace to the difficulty of navigating the entitlement process — have become even more important in recent years as new headwinds buffet the industry.

“A good market study doesn’t just provide a single-point estimate,” says Beth Mace, chief economist at the National Investment Center for Seniors Housing & Care (NIC), who also worked on market studies with AEW Capital Management for almost 20 years before taking her position with NIC. “It provides you with scenarios. Stuff happens. You want a best-case, a likely-case and a poor-case scenario so you’re able to properly prepare yourself.”

Perhaps the most obvious of these headwinds is the labor shortage currently facing the seniors housing industry.

“Back in the day, we never really considered labor strength in a market. It was assumed you would have labor supply,” says Mace. “In the past eight years it’s become a big topic. If developers don’t think they’ll have the labor force there, they won’t even pursue a market.

“Studies used to focus on demand — are there enough seniors and adult children? — so that’s kind of new.”

Zach Bowyer, senior managing director and head of living sectors for valuation advisory at Cushman & Wakefield, notes that many operators are just now reducing their reliance on agency staffing services (which help fill open shifts, but at a much higher cost than a full-time employee). This means markets are moving back toward “normal” for seniors housing employment.

“While the cost of labor certainly impacts operating margins, developers must also consider the availability of labor, which can be significant, depending on the market,” says Bowyer. “It is critical to understand staffing capacity when considering a market or care levels to be offered.”

“NOI (net operating income) and yields are being squeezed,” adds Will Childs, partner and executive vice president of seniors housing with OHC Advisors. “Lately, we have been asked more frequently to include a review of local staffing and operational costs and develop a lease-up and stabilized pro forma to cross-check the developer’s going-in assumptions.”

Lynne Moore, president of MDS Research Company Inc., emphasizes that a thorough market report will show whether a market has good feeders for employees, such as a strong healthcare system for experienced workers or a university for interns.

“Interns can do some work in a seniors housing community, which gives them experience, and hopefully they’ll stay for the long term,” says Moore. “That gives operators a base of people who may be looking for healthcare experience.”

A sound market study can even discover pockets of employees looking for a new place to work. JP LoMonaco, president of Valuation & Information Group, relates a story of a community that opened during the COVID-19 pandemic, when many workers in the industry were leaving. 

However, its location on the outskirts of Los Angeles allowed many with long commutes to find a workplace closer to home.

“It was very easy for them to hire in the local community,” says LoMonaco. “They were thrilled to work at a new facility by their home. You must look at where the labor pool is close by, where housing and rental rates are affordable, so there’s a ready and available labor pool close by.”

LoMonaco also recommends speaking with executive directors (EDs) at communities that already exist in the market. “There’s no way we’re ever going to know more than they do. A good conversation with a marketing director or ED is such a gold mine of information.”

Costs hard to predict

Of course, the labor market doesn’t only affect seniors housing operations. Contractors are also facing a scarcity of quality labor, which lowers the reliability of cost and timeline estimates. This is yet another area where a market report must be thorough to prevent unwelcome surprises.

“We have seen some of the rising costs of materials slow down and in some cases decline, but there’s still a bottleneck with contractors,” says Mace. “You’re lucky to get someone to return your call right now.”

When searching for markets in which to build, owner-operator Erickson Senior Living even speaks with existing businesses in the area to get the lay of the land.

“We connect with general contractors in the area to get a pulse on construction costs and speak with major employers to understand labor changes in the marketplace,” says Scott Gensler, Erickson’s vice president of real estate acquisitions and government affairs.

“All too often we see markets that exhibit healthy unmet demand and occupancies yet aren’t financially feasible on account of cost-side factors,” adds Childs. “Either labor isn’t available or is too expensive, land is too expensive or unavailable, construction costs are too high relative to rents, or all the above. It has become increasingly important in the current market environment for developers to lean into market analysis and scrutinize local operating costs before investing too much time and money in a deal.”

What’s more, market studies need to be used quickly, according to Jordan Lee, vice president of the seniors housing and healthcare practice at CBRE. With so many factors changing so quickly, the freshness of the data is paramount.

“Cost feasibility is more important than ever, and so is the need to know where the market is in terms of achievable rent, occupancy and absorption,” says Lee. “A project can go from cost feasible to not quickly, and having a current market study with fresh data and on-the-ground intel about the short- and long-term prospects of the market can help a developer prepare for the various headwinds they are currently facing.”

Lee adds that a market study costs between $6,000 and $8,000, though it can range higher or lower depending on the complexity of the project and the market.

So where do some developers go wrong with their market studies?

One way is by presuming the market area is significantly larger than it really is, according to Susan Brecht, president of Brecht Associates. 

“The way that we avoid this problem is through good communication with knowledgeable  local informants,” she says. “For example, in defining the market area, the market research consultant should conduct interviews with representatives of organizations such as planning agencies and realtors. This supports the information provided to the client  in a memo describing the specific market area boundaries and providing our rationale for those boundaries. Once approved, this leads to ordering the correct demographic data.”

Moore adds that the market boundaries should be very specific to the area. While she typically looks at a five- to seven-mile radius, a market area is specifically defined using zip codes or census tracts. A rural region such as Iowa might have a market area covering four counties.

“A state boundary is pretty much an edge for us. It can be a psychological boundary. I’ve been in Texas my whole life, and I’m not going to die in Louisiana. There are other psychological boundaries — rivers, mountains, county lines, a thoroughfare through the city. Sometimes people won’t move from the east side to the west side of that thoroughfare.”

Lee notes that many developers tend to chase “hot” markets, “where there is lots of building activity, plentiful land for development and demographic trends that look favorable.”

“Usually by the time a market has that reputation, there are already multiple projects in the pipeline (under development or planned),” says Lee. “At that point it’s too late.”

Similarly, Mace warns against only considering current competition rather than future competition. She recommends approaching the local planning offices and finding out what projects have received entitlements that are not necessarily public knowledge yet.

“Sometimes we see up to six proposed facilities in a market,” says LoMonaco. “If you see that, you have to step back and ask if that’s a dogfight you want to be part of.”

Lee also warns developers against trying to fit a desired project into a market rather than the other way around, resulting in communities that are “too big or too expensive” for the area. Gensler notes that one way this can happen is through misinterpreted data.

“Many developers spend a significant amount of time reviewing the penetration rates in the market and assume that if these rates are low, new development at the location being studied makes sense,” says Gensler. “Really, they should be asking consumers that question. It is important to understand consumers’ perception of your location and what they would be willing pay to live there.”

Penetration rates vary by market for a number of reasons. For example, Bowyer says that areas with a higher percentage of upper-income adult children will have a higher penetration rate.

“A penetration rate, regardless of how it’s calculated, is most useful when used as a baseline to measure other markets against,” says Bowyer. “More importantly, it can be used as a baseline to better understand how any proposed supply will impact market balance relative to the respective target population growth within the defined market area.”

How some get it right

At the end of the day, a market study is part art and part science. There are the raw numbers, but it’s easy to misinterpret those numbers if the reader doesn’t understand the intricacies of a market.

“The key to a market study is really having the good interviews with the local market participants,” says LoMonaco. “It’s the little nuances in those interviews that provide a developer with the information that they need. A good marketing analyst can tell what types of units and services are most in demand, what’s working in the market, what facilities are struggling and why. It’s all about getting the good information out of the people that work the market day in and day out.”

Gensler believes Erickson has a home-run project thanks to the company understanding its market. The project, Avery Point, is located in Short Pump, Virginia, a northwestern suburb of Richmond. 

While there is competition in the area, the market study revealed an opportunity to open a new facility at a better value than the existing seniors housing communities. 

What’s more, Erickson was able to jump into a new master-planned development already underway that was near a hospital, retail, restaurants, pharmacies, multiple grocery stores and the area’s major interstates.

The first phase of pre-sales were booked almost immediately, and the second phase isn’t far behind. Phase I just opened in October.

“The response has exceeded our expectations, and we are thrilled to welcome residents to their new home,” says Gensler.

Of course, Erickson is an operator with a deep history in the industry. Seniors housing is a very specialized sector, notes Lee. If a developer doesn’t fully understand the subtleties of senior living, then they had better partner with an operator who does.

“Projects go right when a developer has experience in seniors housing operations or has partnered with an experienced operator so that real estate and operations are aligned completely,” says Lee. 

“Understanding the nuances beyond the supply and demand figures are key to the success of a project. We have seen developers new to the space that see a market with the potential for high demand, but lack the expertise to provide the market with the product that would best serve it.”

As Moore puts it, “savvy developers know what they know, but also know what they don’t know. They know they need an experienced operator and good marketing people.”

Mace echoes those comments, noting that the operator, as always, is the real key to success.

“You can have a fantastic market that tested out beautifully, but if you have a bad operator you’re not going to perform,” says Mace. “On the flip side, you can have a market that we consider bad, but you have a good operator that hits it out of the park. As a developer, you have to partner with an operator that knows what they’re doing.” n

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