Senior housing-focused real estate investment trusts are betting on the demands of an aging society—for more senior housing. The logic is simple, but the execution less so due to challenges, such as lowered insurance reimbursement for skilled nursing facilities and concerns of overbuilding.
Irvine-based REITs HCP Inc. and Sabra Health Care REIT Inc. have spent the past 18 months on efforts to strengthen their positions to improve their revenue streams in response to market conditions. The two made drastic changes to reduce exposure to troubled assets and operators—the former chose to exit as the latter opted to scale.
HCP, on top of spinning off its skilled nursing and assisted living assets into a separately traded independent REIT, announced this month that it will aggressively reduce exposure to major tenant Brookdale Senior Living (NYSE: BKD). The Brentwood, Tenn.-based senior housing operator suffered from operational challenges and reported a net loss of nearly $405 million last year and a $414 million loss in this year’s third quarter, mostly due to a write-down of assisted-living assets.
Sabra bought Chicago-based Care Capital Properties Inc. in August, partly to lower the concentration of its largest tenant, Genesis Healthcare Inc. (NYSE: GEN). The Kennett Square, Pa.-based post-acute care provider is trading at below $1 per share.
The transaction, while lifting Sabra’s debt to investment grade and giving it greater borrowing power, wasn’t well-received by investors. Sabra shares currently trade at $19 per share, down about 24% since the deal was announced in May. Care Capital is a pure-play skilled nursing REIT that was spun out of Ventas Inc. (NYSE: VTR) in 2015.
Sabra has a $3.4 billion market cap.
Big 3 Still?
The first step HCP took toward improving portfolio quality was splitting off HCR ManorCare and skilled nursing assets—23% of its 1,179-property portfolio in April 2016, prior to the completion of the October spinoff.
The process allowed HCP to own a more focused portfolio with 95% private-pay assets—medical office and life science properties concentration increased from 29% to 46%.
HCP promoted Tom Herzog from chief financial officer to chief executive in January—replacing interim chief executive Mike McKee, who remains executive chairman—and Justin Hutchens from chief investment officer to president. Hutchens joined HCP in 2015; he was previously chief executive and president of Murfreesboro, Tenn.-based mortgage REIT National Health Investors Inc. (NYSE: NHI).
HCP currently trades at $27 per share for a $12.7 billion market cap.
The new leadership team is intended to take HCP to a new level—Peter Scott, previously a managing director in the real estate banking group at Barclays, came on board as executive vice president and chief financial officer in February—but Hutchens soon said he would leave HCP to become chief executive of U.K. home care provider HC-One.
HCP promoted Tom Klaritch from senior managing director of the medical office unit to chief operating officer in August. It also announced Doug Pasquale will serve as a senior adviser to the executive team, working closely with the senior housing division led by Senior Managing Director Kendall Young. Pasquale was previously a director of Ventas.
Its life science division senior managing director, Jon Bergschneider, resigned to join life science-focused REIT BioMed Realty Trust in San Diego as chief development officer.
The good news is that HCP will soon have a fully staffed management team when Scott Brinker joins in January as executive vice president and chief investment officer, assuming Hutchens’ responsibilities. Brinker was previously chief investment officer at Welltower Inc. (NYSE: HCN).
HCP hired from its competitors—HCP, Ventas and Welltower are known as the Big 3 senior housing REITs—but HCP has some catching up to do. HCP carries a BBB credit rating from S&P, compared to Ventas and Welltower’s BBB+ rating, and its market cap is about half of Ventas and Welltower’s, which are $23 billion and $26 billion, respectively.
HCP plans to heavily restructure its Brookdale portfolio, the company announced just before its earnings call this month, reducing its Brookdale concentration from 27% to about 15.7%.
Brookdale
HCP said it’s come to an agreement with Brookdale to terminate management agreements for 36 senior housing operating properties and leases on 32 triple-net senior housing communities. Brookdale has agreed to waive termination fees, and HCP will provide a $5 million rent reduction on Brookdale’s remaining triple-net portfolio.
HCP said it will either sell or transition the assets to other operators in its portfolio. The plan is projected to generate $600 million to $900 million in net proceeds. The REIT is also selling six properties to Brookdale for $275 million and purchasing the operator’s 10% interest in two RIDEA joint ventures for $99 million. It will sell its investments in a RIDEA II senior housing joint venture—a 49-community portfolio, most of it managed by Brookdale—to Columbia Pacific Advisors for $322 million.
Herzog said HCP plans to reduce debt and boost its rating to BBB+. He said that “reducing our Brookdale concentration has been one of our highest priorities in 2017” and that the most recent agreement is a “win-win for Brookdale and HCP.”
Quiet Time
Sabra’s stock took a hit when it announced it was buying Care Capital. The deal increased its skilled nursing exposure from 57% to 73%.
Skilled nursing has experienced reimbursement challenges, especially given the uncertainties of healthcare legislation. Several REITs have reduced skilled nursing exposure, but Matros said buying Care Capital offers several advantages, including a stronger balance sheet, increased borrowing capacity, and tenant mix diversification.
Sabra was able to reduce Genesis exposure immediately after the Care Capital buy. Genesis is a major skilled nursing tenant of Sabra’s traditionally representing more than 32% of the REIT’s annualized revenue and making up about 36% of total properties.
Genesis’ problems are myriad. It was once a $5 billion company and among the largest nursing-home operators in the U.S. But it expanded too quickly, and regulators—notably in California—have given some facilities poor inspection ratings. Lower ratings means lower government payments.
Sabra is in the process of marketing 35 Genesis-operated skilled nursing facilities. It plans to sell the remaining 43 leased to Genesis, which would eliminate exposure to Genesis and free up approximately $425 million to $475 million for acquisitions.
Matros said Sabra is one of a few senior housing REITs buying, and that with its increased capacity it can consider deals it wasn’t able to before.
“We are now bigger, and can do larger deals at a quicker pace if we choose to do them,” he said, noting that while the company now has more ammo to do deals of $300 million-plus, it will still pursue deals ranging from $20 million to $100 million.
In September Sabra purchased a 49% minority interest in a 183-property portfolio of senior housing communities for $371 million. The portfolio, valued at $1.62 billion, is operated by senior housing manager Enlivant in Chicago, and owned by TPG Real Estate, a private-equity giant founded by Texas billionaire David Bonderman. Sabra has the option to acquire the remaining majority interest in the portfolio over the next three years.
Matros noted that the deal, scheduled to close in January, was possible only because it had bought Care Capital.
Separately, Sabra bought 24 skilled nursing and transitional care facilities from a West Coast operator via a two-step sale-leaseback arrangement totaling $430 million. It issued 16 million in common stock at $21 per share and said it intends to use the proceeds from the offering to repay debt and fund acquisitions.
Matros repeatedly told the Business Journal that Sabra announced too many deals too quickly, and that its dampened share price is a reflection of investors uncertainty “where to place Sabra.” He said when the REIT reported third-quarter earnings this month its shares should rally, but it continues to slump at $19.
Sabra reported $112 million in revenue for the three months ended Sept. 30, but its core rental income, $100 million, was short of analyst estimates. The 12 analysts rating Sabra give the REIT a consensus “moderate buy,” and a 12-month price target of $23.
Matros said skilled nursing property concentration has decreased 9% to 64%, “a dramatic drop.” He said Sabra will remain “quiet” early next year.
