The Rising Tide of Seniors Housing
This Niche Strives to Stay on Course Until the Baby Boomer Wave Comes Ashore.
To visualize the demographics of the seniors-housing market, imagine a shoreline as the tide comes in, each wave slowly yet inexorably creeping higher up the beach. But out on the horizon is a tsunami, a tidal wave of unbelievable proportions, gaining momentum as it approaches.
The senior population's waves slowly are growing larger, aided by advances in medicine that are extending life spans. For example, when Medicare started in the mid-1960s, life expectancy was 74; today it is 86.
But today's rising tide pales in comparison to the tsunami of the baby boom generation. By 2030, when the great wave of boomers is at its zenith, the population of those 65 and older will be 106.8 million, compared with 33.5 million in 1995.
However, long-term demographic projections, coupled with misunderstandings about the market, have complicated the once-rosy seniors-housing outlook. Besieged by a spate of overbuilding, intense competition for a relatively flat short-term market, and closer scrutiny by lenders, seniors-housing developers and operators are looking for new survival tactics so they can stay on course until that big wave comes ashore.
Unlike other traditional real estate markets, the stratification of the seniors market is not by property type. Instead, the operational side defines market segments and provides a key to identifying successful investment opportunities. The three main seniors-housing categories are independent living, assisted living, and acute care. Within these exist further subdivisions based on the amount and types of assistance, care, or medical services provided.
Independent-living facilities do not offer any assistance with daily living activities or medical services. The largest category, these properties include everything from mom-and-pop-managed adult apartments to resortlike accommodations complete with golf courses and spas. These facilities generally are unregulated or loosely licensed because they only provide living space.
Assisted-living facilities provide residents with services that help with daily living activities. These include food preparation; transportation; and assistance with bathing, eating, laundry, medication, and other personal-living requirements.
Finally, acute-care facilities offer full medical services in addition to other services. These properties run the gamut from traditional nursing homes to specially designed units for seniors with Alzheimer's disease.
A limited number of developers have built large, all-in-one facilities that cater to all potential seniors-housing candidates. “We are able to meet the housing needs of almost all seniors, from those who are just deciding to retire to those that need constant medical attention,” says Thomas F. Rockenbach, executive director of Longwood at Oakmont, a seniors-housing facility near Pittsburgh.
Longwood was developed in phases over several years on the site of a former nine-hole golf course near famed Oakmont Country Club in southwestern Pennsylvania, and its facilities range from independent-living townhouses to residences for people who require constant medical attention. It is one of the most well-established centers in an area with a high concentration of seniors and facilities vying for them.
A Wave of Misconceptions
Southwestern Pennsylvania is one of a number of geographical areas in the country experiencing intense seniors-housing competition. Although boomers will not hit the seniors market for another decade, the long-term demographics are attracting new competitors now, creating an overbuilt market.
“We are going through a period of some oversupply, but this market is extremely viable,” explains Glenn R. Mueller, head of real estate investment trust research for Legg Mason in Baltimore and director of the Johns Hopkins University/National Investment Center for the Seniors Housing & Care Industry program.
Some overbuilding is the result of new players that may have erroneous perceptions of the market. For example, “One aspect in assisted living, the 40 to 45 percent turnover, was missed by a great many operators,” Mueller says.
According to the NIC, the average resident entering an assisted-living facility is 85, with an average stay of 30 months. For a 100-bed facility, that translates into three to four occupancies that need to be filled every month.
In addition, real estate professionals entering the seniors-housing field often fail to understand the dynamics of the operational side, according to the NIC. Too often they focus just on the property side. “There have been a lot of changes operationally,” Rockenbach says. “Those that are on top of the operations and have a handle on costs will do OK.”
Controlling costs and providing facilities at a price that will attract residents are critical considerations in today's market. About two-thirds of seniors living in assisted-living facilities recently reported their income as $25,000 per year or less, according to a recent NIC study. But the average fee the facilities were charging was $67 per day -- or $24,455 annually.
“There is significant demand for some kind of facility among seniors,” says Rick Chess, a broker with Advantis Commercial Real Estate Services in Richmond, Va. “But most of us will not be able to afford what is being built or offered. The high end is being tremendously overbuilt.”
The prospect of putting up affordable housing, however, does not always entice many developers or investors. “Section 8 has become a negative in this area,” says K. Wayne Rice, CCIM, director of commercial real estate at Prudential California Realty in Danville, Calif., and owner of two all-senior apartment buildings. “The federal government ties your hands, limiting what you can charge. For facilities that need to offer extra amenities, the cap on rents means the owners can't recover costs.”
The skyrocketing value of real estate around Silicon Valley almost precludes the construction of anything but high-end facilities, Rice says. “In this area, there is a waiting list for higher-end facilities, but some of those are already under construction. If I were looking at building or acquiring a facility right now, I would go into the midlevel facilities because of future demand,” he says.
Another misconception is the idea that everyone over the age of 65 will want to move into seniors-housing facilities. While prospective developers and operators have visions of millions of aging baby boomers lining up to enter their facilities, they need to consider that the average age for a person entering an assisted-living facility is 85 years old, not 65.
“Everybody is building, but people basically stay in their homes until they are forced out,” Mueller says. “Look closely at the current over-85 age growth projections. It is flat. This is the generation born in the Depression.”
That generation, with its memories of food lines and mass unemployment, may not easily accept the idea of spending thousands of dollars a year on seniors housing. And while the World War II generation may be prime candidates for seniors housing, they are not going anywhere without a fight.
In order to attract reluctant members of these two generations, seniors-housing facilities often direct their marketing efforts at the adult children of potential residents, especially in the assisted-living and acute-care categories. After a parent loses a spouse or takes a serious fall, adult children of older seniors often realize that living unassisted no longer is feasible and often initiate the process of finding seniors housing.
To reach both seniors and their adult children -- who may be potential residents in another 20 years -- Rockenbach has a full-time marketing director who coordinates everything from tours of Longwood for prospective residents to promotional brochures. In addition, “We provide our residents with a lot of amenities, a lot of modern features, and a lot of activities,” he says.
One seniors project scheduled to open in February in the Chicago area offers a different twist on amenities, creating a comfortable climate year-round in the Midwest. Maravilla in Vernon Hills, Ill., includes a six-story, 18,000-sf glass-enclosed apartment community within a rain forest with tropical trees, waterfalls, walking paths, and thermal wading pools.
The $45 million project, designed and managed by American Retirement Communities of Chicago and built by McShane Construction of Rosemont, Ill., includes 287 apartments with 11 floor plans that rent monthly for $1,800 to $4,200. Rent includes two meals per day, housekeeping services, fitness programs, and access to numerous other on-site amenities. Assisted-living and home health-care services are available for additional fees, with programs ranging from $85 per week to $1,200 per month.
Demand and Competition
Providing amenities is a sign of two converging trends. The first is demand for more creature comforts and activities to make seniors housing less institutionalized. “Prospective and current residents want more amenities, both so they can have the feeling of living at home and the ability to maintain an independent lifestyle as long as possible,” says Jim Helsel, CCIM, president of Helsel Realtors in Camp Hill, Pa. He also serves as chairman of the board for Cornwall Manor, a 550-bed independent-to-intermediate care nursing home in Cornwall, Pa.
The second reason for offering amenities is competition among facilities to attract residents. The lure of the seniors-housing industry has attracted a plethora of competitors large and small, all trying to establish a foothold.
New to the field on the West Coast is Pacific Gulf Properties, an industrial REIT. Pacific Gulf previously held a small number of multifamily units. After exiting that market, company executives saw independent-living seniors housing as an area where their multifamily experience could be put to profitable use.
“We saw in seniors housing a niche we could be successful at,” says John K. Alstrom, the REIT's director of acquisitions for senior apartments. Pacific Gulf entered the seniors-housing market about three years ago on a small scale, buying an existing portfolio and joining other large corporations like Hyatt and Marriott International. “We operate what are basically apartments with an age limitation -- independent-living units complete with kitchens and all of the things you would expect in an apartment. We were attracted to this niche because the demand is there,” he says.
Pacific Gulf will open up five new facilities on average every year, concentrating on densely populated areas where barriers to entry are high, Alstrom says. One area Pacific Gulf particularly likes is in Southern California near Los Angeles, where demand is growing and the costs on in-fill development keep many developers out.
At the opposite end of the spectrum is Bee Hive Homes, a builder and developer of small assisted-living homes, which franchises the operations end. “They have been around for 14 years and have developed their own recipe,” says Donald E. McKinney, CCIM, president of Coldwell Banker Commercial Marshall in Paducah, Ky., and a Bee Hive area developer.
Bee Hive avoids large metropolitan areas where land is expensive, opting for small towns of roughly 5,000 people. The homes, which accommodate about 12 residents, are too small to be covered by regulations such as the Americans with Disabilities Act, McKinney says.
“Most of the franchisees live or work locally, so they know the area and have a better understanding of the feasibility,” he says. “The homes are placed in normal, residential neighborhoods, and they have the look and feel of a residential home, which the residents like as well.”
With lower land prices and prefabricated construction, the cost of establishing a Bee Hive property is roughly half that of a facility located in a metropolitan location, McKinney says. “But getting it started and filled is the real challenge,” McKinney says, adding that it takes time to build a reputation in smaller communities where the best advertising still is word-of-mouth.
Both large and small new competitors are a challenge to existing seniors-housing facilities, many of them small, well-established operators with religious affiliations. “We are seeing the larger groups coming in, and the smaller operators and developers just can't afford to compete,” Helsel says. He oversees a Methodist-affiliated facility, a factor that has enabled it to attract new residents and compete on the service/amenities level.
Chess' experience in the Richmond market is not isolated. Brokers across the country raise similar thoughts about the market's underlying assumptions. “One of the most critical factors for seniors-housing investors to understand is the operational side of the equation,” says Harvey Singer, NIC research director. “This is not a real estate-only equation.”
Singer and others say the seniors-housing market has attracted significant interest from experienced and inexperienced investors and operators alike. “The potential in the market has attracted people who don't know what they are doing. Many [facilities] aren't reaching their financial projections, are poorly designed, or [operators] don't understand the complexities of the market,” he says.
Reflecting the fierce level of competition was Marriott International's decision to halve its plans to develop assisted-living facilities. Since the beginning of 1998, Marriott has opened 50 centers, an increase of more than 55 percent in less than two years.
After developing the properties, Marriott then sells them to real estate investors including sister company Host Marriott Corp. But the level of competition has so many developers building in so many areas that the company has had difficulty finding buyers.
Rockenbach says the overbuilding and competition in southwestern Pennsylvania has been pervasive. “There are facilities with their census in the single digits,” he says.
While extreme, that case is not isolated, says Mark Myers, a broker specializing in nursing facilities with Marcus & Millichap in Chicago. “There are areas like North Carolina, where there was a rush to build. There are other areas, in Ohio and sections of the Northeast, where there has been more modest overbuilding,” Myers says. “But in other areas, like parts of Southern California, where the land costs and intrinsic value are so high, there is still opportunity, but the costs of doing business are high.”
Overbuilding, particularly in independent and assisted living, stems in part from a lack of zoning and licensing. “Typically, in putting up any kind of commercial real estate, local zoning and planning act as natural deterrents to overbuilding,” Chess says. “With these types of developments, government is not a screening device.”
Seniors housing often is considered a positive for most communities, since senior residents make few demands on local municipal services, such as schools, but their presence increases the population tax base. Zoning boards and city councils often welcome seniors with open arms.
One deterrent to overbuilding comes from individual states that are required to approve each new bed for Medical Assistance payments. All states have licensing procedures in place primarily to ensure the safety of residents. But approval for Medical Assistance, which is part of Medicaid, is an entirely different process and only applies to facilities that accept Medicaid, or lower-income patients.
With cutbacks in Medicaid funding, many states have declared moratoriums on additional nursing beds. Several others are being more stringent in their evaluations of the need for beds in a metropolitan area.
While Medicaid payments are directed only to preapproved facilities, virtually all seniors facilities that provide some level of personal and/or medical service accept Medicare payments, which are direct federal dollars usually handled through local insurance conduits. Nursing-homes, assisted-living, and acute-care facilities all are eligible to receive Medicare dollars.
Turning Off the Faucet
If there is one great deterrent to overbuilding, it is lack of money. The NIC estimates that seniors-housing facilities have been growing at greater than 10 percent annually for several years; currently more than 28,000 seniors-housing facilities exist nationwide.
The NIC's annual survey of seniors-housing lenders projected loan value for 1999 at $10.8 billion, an increase of 15 percent over 1998.
“Compared to last year, it's definitely no longer a borrower's market,” says Wade Collins, vice president of Valuation Counselors Group in Chicago. “But at the same time, there has not been a massive flight of capital from the industry. Instead, savvy lenders are looking for well-conceived projects run by those with experience in the industry.”
The tightening of capital is viewed as ultimately healthy since it forces restraint. “With the market overbuilt, things are very slow. Lenders basically just aren't lending,” says Carol Reynolds, CCIM, a principal with Province Valuation Group in Atlanta. “That isn't to say there is no activity. Lenders are being very selective, lending mostly to their solid clients. Otherwise, there is very little new construction going on.”
That activity, or lack thereof, has hit REITs particularly hard. Wall Street previously had been an enthusiastic backer of any health-care related project. But in mid-1998, investors began to cool on real estate in general, sending REIT share prices on a slow downward spiral to the point where stocks were trading well below their net asset value.
Public investors' doubts have been exacerbated by concerns over the Medicare/Medicaid preferred payment system and its effect on health-care providers that lease seniors properties. In a few cases, high-profile health-care providers such as Sun Healthcare have slipped into bankruptcy, relieving them of lease and rental obligations.
The PPS itself was part of the Balanced Budget Act of 1997. It created 44 different payer categories, establishing a preset payment of federal Medicare dollars for each care category regardless of the provider's actual costs. Providers that couldn't control costs were squeezed financially, some to the point of bankruptcy. While these bankruptcies accounted for less than 1 percent of U.S. health-care real estate, they sent a chilling message to property owners across the board.
“Most everything is down,” Reynolds says. “Nursing homes, which had been hit hard, have stabilized. Assisted-living facilities are still dropping. The only thing that has done reasonably well, in terms of valuations, has been independent living.”
Jerry Doctrow, a REIT analyst with Legg Mason, sees bankruptcies among health-care providers as having a long-term beneficial effect. “Bankruptcies enable property owners and developers to go forward with a clean slate, as opposed to having an uncertain financial situation hanging out there for years to come.”
While the financial spigot has slowed, it is not shut off. Julie Ambler, senior director with real estate finance company Holliday Fenoglio Fowler in Chicago, says there is still money available for select developers with established histories and credit lines.
“We have seen Fannie Mae come into the seniors market in a major way,” Ambler says. “[It was] always a huge player in the multifamily market for years, and they are providing very competitive rates.”
Ambler adds that the need for capital is pushing developers beyond traditional banking sources. “We are starting to see a great deal of interest from the life insurers and pension funds, although there have only been a handful of deals so far. It is a new market to them and they are proceeding very cautiously,” she says.
The Local Angle
Ultimately the seniors-housing market must be seen in the context of how it fits into the local real estate scene. Completely understanding the local demographics and real estate market can point out specific needs in the marketplace for brokers, developers, and investors. Consider the lack of midlevel seniors housing in northern California or the potential for numerous small facilities outside of main metropolitan areas as evidence that local knowledge can supersede national indicators. Commercial real estate professionals seeking opportunities should first complete a qualitative and quantitative market analysis in their local markets to determine need.
Invariably, as well, two convergent trends will meet: the increasing number of seniors who, by choice or by need, will require some form of housing, and the ability of real estate professionals either to build the facilities or acquire them from others.
Lee McCreary, the new CEO of health-care REIT Eldertrust in Philadelphia, sums up the situation succinctly: “Ultimately we and others will be successful in the long run -- the challenge is surviving until then.”