As an asset class, the health care real estate market has continued its rise as an attractive sector through Q2 of 2019. It’s increasingly recognized by institutional investors and foreign-capital investors, though players in this market need to understand the regulatory risks and legislative climate to successfully invest in the market’s opportunities. Also, with many markets overbuilt in the short run, and given the increasing construction costs and tight labor markets, sharpening pencils may not be enough to get certain projects off the ground.

On the operations side, advances in technology continue to sneak up on many operators and will continue to be a key disruptor. Skilled labor is becoming more difficult to find while rising wages and costs, such as insurance, will be a factor in operating efficiencies. Also, home health care options continue to increase, which puts pressure on operators. The upside of this trend, however, is the data suggests it’s contributing to a decrease in hospital visits for those in assisted living facilities.

Investment Considerations

Transaction volume for independent living and assisted living properties increased to over $2.7 billion in the fourth quarter of 2018, up from approximately $1.9 billion in the third quarter of that year.

Meanwhile, transaction volume plummeted for nursing care properties to just under $800 million from approximately $2.6 billion due to the continuing challenge of Medicare reimbursement models and the regulation-heavy environment, according to the National Investment Center for Seniors Housing & Care. In addition, the increasing number of assisted living facilities has created competitive pressures as these facilities can often be a viable alternative to nursing properties.

Occupancy Changes

In the first quarter of 2019, independent living and assisted living facilities have enjoyed an average of over 88% occupancy in the largest 30 metropolitan markets—a slight increase from the previous quarter.

The uptick in occupancy for independent living increased to an average of over 90%, while the assisted living average increased to over 85%. Nursing care property occupancy increased as well to almost 88% in the first quarter, according to the National Investment Center for Seniors Housing & Care.

Factors Impacting Markets

Several key factors are contributing to the increase in activity in this sector.

Expenditures

National health care expenditures are on the rise, projected to grow from an estimated $3.8 trillion in 2018 to $6.0 trillion in 2027, with the biggest contributing factor being rapidly rising health care costs. Health care sector employment is projected to grow from over 19 million jobs in 2016 to 23 million in 2026.

Population Changes

The elder population in the United States is also a key factor. The US population over 65 years of age is projected to grow from 40 million in 2010 to over 54 million by 2020. The average age of senior living residents is approximately 84 years old. There are some who move into independent living facilities close to the minimum age requirement (usually about 65), but most make the move between the ages of 75 and 84. Given that the oldest baby boomers are now 73 years old, they and their families are beginning to look towards independent living options or Life Plan Community, also known as Continuing Care Retirement Community (CCRC).

Private Equity Increases

The continued increase of private equity into senior living has helped maintain property pricing by a certain level and has also continued to help shine a spotlight on increased transparency related to operational metrics, which benefits operators, buyers, and sellers. However, shorter investment horizons for private equity investors—as compared to Real Estate Investment Trusts (REITs) and institutional investors, which have longer investment horizons—can sometimes point to less patience in terms of development and investment in senior living facilities. Generally speaking, this has led to a widening in bid-ask spreads in property pricing, which points to fewer transactions as evidenced in just under $15 billion in 2018 versus under $3 billion in the first quarter in 2019.

On the investment side, and especially for private equity, many groups are chasing yields by increasingly looking at active-adult communities and independent living properties while shifting away from multifamily property markets.

Property Developments

There have been strong headwinds in assisted living and nursing care property development. The difficulty in finding development land, as well as the continued rapid growth of construction costs and an ongoing labor shortage has continued to affect development deals and led to a rapid increase in broken deals in the past 24 months.

Many investors and developers continue to believe certain markets are overbuilt in the short- to mid-term. However, a significant number of market participants are likely to be bullish over the long term, given estimates that baby boomers may need some form of senior housing in 12 to 14 years.

Looking Forward

Although the number of insured individuals has risen over the past few years, the potential repeal of the Affordable Care Act—and possible reduction in coverage to many—could drastically reduce the number of people who receive medical coverage in the United States.

With these changes potentially on the horizon, providers are shifting away from hospitals to more affordable outpatient facilities, such as medical offices, which would negatively affect occupancy and rates for senior living. In addition, as medical care continues to advance with breakthroughs in information technology, the elderly will increasingly live longer lives.

Next Steps

Market participants should increasingly address the needs of the middle-income, middle-market segment. Much of the private sector seems to focus on building communities for the well-off, aging population, while foundations seem to focus on serving the low-income segment. Investors should consider focusing their attention on older, middle-class people who want quality services but aren’t flush with cash.

We’re Here to Help

To learn more about these trends and opportunities—and how they might affect your business—contact your Moss Adams professional.

To learn more about real estate trends we’ve explored for other industries, view last quarter’s update, focused on retail.