Last year saw a record level of investment in care homes, with £1.6bn changing hands.
But as this alternative sector starts to look increasingly core, and increasing numbers and types of investors wake up to the joy of having care homes in their portfolios, are the ways in which people are buying these properties also becoming more sophisticated?
The idea of care homes being small, independent businesses with one or two properties is now as old as some of their residents. Operators within the sector are becoming ever more consolidated. And as they become bigger, so does the money behind them.
There is a certain degree of irony that one of the biggest investors in care homes for the elderly are pension funds.
But there are also other players active in this market. In a recent deal, TIAA Henderson Real Estate spent just shy of £50m on three care homes in Edinburgh, Orpington and Hailsham, totalling 264 beds. Each property was purpose-built in 2013, and let for 30 years to Care UK. As Julian Evans, head of healthcare at Knight Frank, who represented the vendors, points out: “Healthcare fixed income is now firmly considered to be a core asset class.”
“The attraction of care home opportunities in the UK is down to one thing,” says Tim Nye, partner in the health and social care group at law firm Trowers & Hamlins: “Market dynamics.”
Indeed, demand is projected to significantly outstrip supply. Increasing life expectancy has led to the government forecasting demand for care home places will increase 60% by 2023.
“In addition to this, the relatively high cost of good care provision means the yields offered by care homes, particularly in and around London, are near the top end of the returns generated by healthcare properties,” Nye adds. According to Knight Frank these can be around 10% – the highest of any healthcare sector – though for most of the major acquisitions over the past year the yields have been closer to 7%.
It is for this reason that the market has increasingly become the hunting ground of some very large predators. In recent years there has been an influx of institutional investors, in particular international investment from the Middle East and US.
Knight Frank has estimated that 80% of all deals in this sector have involved foreign investors, with US REITs and even hedge funds entering the fray as domestic markets become saturated.
But while £1.6bn was spent in the UK care homes sector last year, the majority of that was in the form of corporate acquisitions. According to figures from CBRE, pure real estate transactions accounted for just £400m.
“People talk about the weight of money as if it is one thing,” says Colin Rees-Smith, director of healthcare at Savills. “But there are lots of different drivers, different pushes and pulls. It isn’t just a loan from a bank anymore.”
In a market previously dominated by straightforward purchases we are increasingly seeing portfolios changing hands and players entering the markets through IPOs, as with Cambian, debt acquisitions, as with Anchorage Group Capital, and forward-commit deals.
In one instance US REIT Griffin bought 44 homes from Caring Homes Group last year, and then promptly orchestrated a sale and leaseback.
Last year also saw US hedge funds DE Shaw and Varde Partners buy European Care Group, which was promptly rebranded as Embrace. ECG had been trading well, but with £300m of debt racked up against just £10m EBITDA it was seen as ripe for a turnaround. It is thought that the hedge funds paid around £70m to acquire the debt and take control of the business.
As the sector becomes more tempting to a greater number and variety of investors, the routes in are becoming less traditional.
“In terms of alternatives to traditional banks, we are seeing a lot more pension funds providing long-term debt,” says Rees-Smith. “That has been picking up in the past 18 to 24 months.”
Many of those are investing in housing associations that also provide care.
“And they are also investing in forward-commit deals, so they are paying for the site and the development and then making a balancing payment later,” adds Rees-Smith.
Last year three Orders of St John hospices were forward-funded, one of which has already been built.
A main attraction for the institutional property investor is that the operators of the care homes tend to hold them on long leases, traditionally for 25 years. Compared with other commercial property investments, where leases are much shorter, this makes for a juicy investment for a long-term player.
“However, the yield – and ultimately the value of the investment – is only as strong as the underlying rental income,” Nye reminds us. A prudent buyer, he says, should look at the make-up of the care home residents. “Are they private pay, where fees are traditionally
higher? Or are they local authority funded?”
While local authority-funded residents may seem to be a stronger bet, cuts to social services budgets and changes to eligibility criteria are having a sustained and detrimental impact on the level of fees local authorities will pay to place their residents in care homes.
This is crucial, even if the prospective purchaser plans to perform an op-co/propco split. “While institutional investors may not be interested in undertaking the operating side of a care home, they should not simply sit back and ignore it and should have appropriate monitoring systems in place.
“Banks are also willing to lend to finance care home investments, attracted by the robust and apparently lower risk income streams that it offers,” Nye says.
As became clear in the wake of the Winterbourne View scandal, however, a care home trades almost exclusively on its reputation as a good care provider.
“If an asset is associated with scandal or bad care, these income streams can fall with almost fatal impact on property value.”
For those not fortunate enough to control a US pension fund or REIT, you could start a little bit smaller.
One of the latest routes to invest in this asset class has been through buying and selling individual rooms and beds. The model has been around for more than a decade in the hotel sector, but is in its infancy in care.
Under an almost buy-to-let retail model, punters are being offered the opportunity to buy individual rooms in care homes. The scale of these investments range from around £30,000 to £100,000, and most guarantee a minimum rental income return – some as high as 10% – along with the tantalising promise of capital growth.
Principal International, for example, is offering an investment which seems too good to be true. For a few quid shy of £80,000 you can have a suite in Calderdale House, a 65-suite nursing home which is set to be built near Halifax in Yorkshire.
The blurb also states that “investors will enjoy 8% net yield, 10 years rental assurance, 6% interest on deposit and an annualised net yield of more than 10.38%. The development also comes with a defined exit strategy.”
The exit is that, after three years, the developer will offer to buy it back from you at a 10% uplift, or, if you wait for seven years, at a 15% uplift.
At present Calderdale House is just a site, although many of the suites have sold. Completion is anticipated in August. If it proves to be a success, and as long as management fees or business failure don’t make those lovely returns look a little less juicy, the retail model could be another sea-changer for the sector.
Soon it might not just be pension funds buying up care home beds by the ward, it could be buy-to-letting pensioners themselves.
Portfolios point to type of investment
When it comes to choosing how to invest in care homes, size matters.
Portfolio size, that is.
“The number of assets to be acquired will help to determine which funding options are likely to be suitable,” says Iain Shurwood, head of London corporate banking at business law firm DWF.
The bigger the portfolio and, to an extent, the more institutional the investor, the more complex the financing can be. For smaller deals, such as where a family business buys a second or third home, or is itself bought, the deal tends to be self-financed by the buyer. “This can be through private investors, cash, profits or a combination of these, and could also include smaller bank facilities,” says Shurwood.
The ownership structure of the care homes must also be considered. At the lower end to the middle of the market the homes tend to be owner-operated. In this case the care home operator will buy the homes through a limited company. “This is very similar to many other business types,” says Shurwood. “This is commonly financed by a combination of equity investment and bank loans, secured on the physical assets being acquired.”
However, for larger-scale acquisitions, where a significant upfront investment is required, the op-co/propco split comes into its own. “This can be an attractive model,” says Shurwood. With this model, as in other sectors, one or more investors buy the homes before selling them to another company, often a subsidiary or “sister” company, which then leases the properties to the care home operators.
So far so obvious. But what is slowly happening in the care homes market is the type of investor, and therefore the type of investment, buying the propco assets is changing.
“A growing trend we are seeing in propco/op-co deal structures is for the property acquisition to be financed through REITs,” says Shurwood. This has allowed the demographic of investment to become far broader. “There has been an influx of foreign investment in UK care homes, with this asset class proving especially popular with North American investors.”
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