The Middle-Market Gap in Senior Housing: Challenges & Opportunities

At its recent regional conference, the National Investment Center for the Seniors Housing and Care Industries hosted a panel presentation, moderated by Bill Pettit of Merrill Gardens, that included Michael Best of Cardinal Court Capital, Ben Klein of Platinum Healthcare, and myself. The panel started with slides that laid out the magnitude of the challenge: 33 percent of the 75+ households earn between $20,000 and $40,000 per year, while 35 percent make less than $20,000, meaning that about 70 percent of the 75+ cohort has less than $40,000 annual of income. With the median assisted living and independent living community annual rent of $49,000 and $33,000, respectively, the housing industry for older adults is well over half the potential market[jj1] .

The panel addressed financing alternatives, including debt and equity to help bring down the cost structure. On the debt side, HUD financing was a recurring theme. Long amortization (35 years), low rates, generous loan-to-value ratios, and no recourse make it a preferred source for many developers and operators looking to control debt costs. The challenge: the lengthy period of time between application and funding. Municipal bonds offer another solution, as discussed in a previous posting.

As for equity, the panel agreed that equity providers are profit-maximizing entities, and that a new senior housing format focusing on the middle market will likely require a greater return rather than a lower return. Tax credits offer the cheapest solution for equity. Budgetary constraints and political stalemate have limited the availability of tax credits. Securing an allocation, moreover, requires the efforts of a well-connected attorney.

The panel agreed that a successful approach to providing housing and care for middle-income residents will be copied widely and will lower equity returns.

The panel discussed buying distressed real estate and converting other assets (such as hotels) to housing for older adults. The real estate market recovery has reduced the number of low-unit-cost options. Hotel conversions remain appealing, but conversions require significant capital improvements upfront and a purpose-built senior housing community will usually stack up better against a conversion, though at a higher rent.

The operating side of the equation is the biggest challenge of all. Costs consume 65 percent of the most profitable assisted living community’s revenues, and direct labor represents 57 percent of the cost structure. The hands-on nature of the business makes it difficult to cut costs meaningfully. Residents have already begun to reshape the industry, with many choosing independent living communities at a lower monthly cost and then bringing in home health agencies on an à la carte, as-needed basis.

The panel concluded that the middle market remains a fertile ground for senior housing, but that there are no simple solutions. A successful new format will combine cost savings from all parts of the equation: debt, equity, operations, and resident expectations.

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