Why Do Investors Like Seniors Housing? by Argentum

Maravilla, Santa Barbara, CA

Why Invest In Seniors Housing? Presented by Beth Burnham Mace, Chief Economist, NIC ALFA Conference Tampa, Florida

May 5, 2015

Key Takeaways From Today’s Presentation •  From an Investors’ Point of View: •  Seniors housing is an emerging commercial real estate asset type and will eventually be considered a “core real estate asset class” •  The sector has become more understandable and transparent to the investment community. •  Both debt and equity providers are providing capital to the sector •  Investor interest in seniors housing is growing and the market is more liquid •  There continues to be a sizeable risk premium offered to investors for seniors housing 2

Key Takeaways (cont’d) •  The Seniors housing and care’s market value is $300 billion and growing. •  Seniors housing investment returns outperformed other commercial real estate property investments during the past 10 years. •  Three of the 15 largest REITs are now health care REITs. •  Seniors housing was a resilient real estate sector during the economic recession. •  Strong outlook for seniors housing market fundamentals.

Outline of Today’s Presentation I.

Capital Provider Interest in Seniors Housing

II.

Who Are the Players?

III.  What Do Capital Providers Look For? IV.  Supply and Demand Considerations V.

Pricing, Interest Rates and Risk Premium

VI.  Outlook for Seniors Housing Market Fundamentals

I. Capital Provider Interest in Seniors Housing

Possible Motivations of Capital Providers •  From A Capital Providers’ Point of View: •  A pension fund wants to generate relatively high risk-adjusted returns in order to meet actuarial return requirements to meet obligations of funding retired staff pensions •  A large lender wants to place debt capital in an alternative real estate asset type •  A private equity fund wants to invest capital on behalf of high net worth individuals, pension funds and endowments •  A REIT wants to invest in an operator (RIDEA vs NNN option)

Possible Motivations of Capital Seekers •  From A Capital Seeker Point of View: •  A developer needs to source financing for building a new property •  An existing operator needs to find capital for repositioning his property •  A large operator needs to refinance his business since their existing financing is expiring •  An operator needs working capital •  An operator wants to share risk/reward with a joint venture (JV) partner

Positive Investment Attributes •  Seniors Housing Has: •  Solid Returns •  Low Delinquency Rates •  Favorable Demand Drivers (Demographics, Rising Penetration Rates) •  Improving Liquidity and Growing Transaction Volumes •  Rising Prices and Cap Rate Compression (but, will it continue?) •  Favorable Behavior Relative to Other Real Estate Asset Classes •  Good and Improving Market Fundamentals

Strong Institutional Interest in Seniors Housing Relative Attractiveness of Investing In Various CRE Investment Types, 2011-2014 (1= least, 5=most)

Source: 2013 Plan Sponsor Survey; Kingsley Associates; Institutional Real Estate, Inc.

Seniors Housing Returns Outpace Other Property Types Annualized NCREIF Total Returns, As Of Q4, 2014 0.20 0.18 0.16 0.14 0.12 0.10 0.08 0.06 0.04 0.02 0.00 NPI

One Year Apartment

Three Years Hotel Industrial

Five Years Oﬃce Retail

• Source: NCREIF, NIC MAP® Data Service

Ten Years Seniors Housing

Demand Pull/Cost Push Pressures Favor Seniors Housing •  •  •  •

Aging, Demographics, Acuity Levels and Disabilities Rising Penetration Rates Fewer Family Caregivers Social Engagement, Support and Emotional Well-Being Age-‐ Restricted Housing

Independent Living

Assisted Living

Memory Care

Skilled Nursing

Hospital

•  Accountable Care Organizations •  Post Acute Care Collaboration •  Fee-For-Service Framework vs. Quality and Value-Based Outcomes (Cost Considerations) 11

Favorable Demographic Drivers… •  Caregiver Support Ratio •  AARP Study Suggests Ratio of Caregivers (45-64 year olds) To Those Over 80 Will Shrink

•  •

•  7:1 2014 •  4:1 2030 •  3:1 2050 Declining Fertility Rates Among Baby Boomer Women Baby Boomers Shift from Being the Caregivers to being the Receivers of Care

Source: AARP Public Policy Institute, “The Aging of the Baby Boom and the Growing Care Gap…”

Rising Liquidity with Growing Transaction Volumes

Source: NIC MAP® Data & Analysis Service :

Market Fundamentals Are Generally Positive Majority Assisted Living Historical Supply-Demand; MAP31 2006Q1 – 2015Q1 3000

91%

2500

90%

2000

89%

1500

88%

1000

87%

500

86%

0 -‐500

85%

-‐1000

84%

New Supply

Demand (Net absorp)on)

Occupancy (right)

Source: NIC MAP® Data & Analysis Service

Strongest Occupancy Since Late 2007 Majority Independent Living Historical Supply-Demand; MAP31 2006Q1 – 2015Q1 4,000 3,500 3,000 2,500 2,000 1,500 1,000 500 0 -‐500 -‐1,000

93% 92% 91% 90% 89% 88% 87% 86% 85% 84% 83%

Supply QOQ

Demand (Net absorp)on)

Occupancy (right)

Source: NIC MAP® Data & Analysis Service

Asking Rents Keeping Pace With Inflation Annual Asking Rent Growth/Inflation Primary Markets | 1Q07 – 1Q15 5%

3% Majority IL Majority AL

Core Inflation 1%

0% 2007

2008

2009

2010

2011

2012

2013

Source: NIC MAP® Data & Analysis Service

2014

2015

Asking Rents Comparatively Stable Annual Asking Rent Growth 10% 8% Office

6% 4%

Hotel

Apartment Seniors Housing Retail

0% -2% -4% -6% -8% -10% 2007

2008

2009

2010

2011

2012

2013

2014

Source: NIC MAP® Data & Analysis Service

II. Who Are The Players?

Capital Providers: The 4-Quadrants

Sources of Debt Capital for Seniors Housing •  Government-Sponsored Enterprises (GSEs) •

Fannie Mae

•

Freddie Mac

•  Department of Housing and Urban Development (HUD) •  Commercial Banks •  Commercial Finance Companies •  Tax Exempt Financing (or Bonds) •  CMBS •  Insurance Companies •  High Yield Bonds 20

Sources of Equity Capital for Seniors Housing •  Private Equity Funds •  Public Equity REITS •  High Net Worth Individuals •  Pension Funds •  Nontraded REITS

III. What Do Capital Providers Look For?

22 Â

Key Considerations by Capital Providers •

Operator/Partner Experience, History and Performance

•

Strategy •  Position in the Marketplace •  Stabilized Property vs Renovation vs. New Construction

•

Local and Primary Market Area Conditions •  Supply and Demand, Vacancy Rates, New Development

•

Pricing •  Replacement Cost/Price Per Unit •  Cap Rates

•

Exit Strategy/Market Liquidity

•

Rents/Affordability/Ability to Pay 23

Transparency •  Investors and capital providers need to: •  be able to understand and explain the investment characteristics of seniors housing to their stakeholders •  address the perceived risks of the sector •  have data to demonstrate the sector’s performance during business cycles and analyze property market fundamentals data •  measure return performance against other investment options •  understand pricing and transaction data •  quantify operator risk and be able to judge the ability of the operator to perform. 24

What Does Capital Look For In An Operator? •  Operator’s track record of meeting NOI goals •  Operator’s ability to compete in evolving sector with changing consumer preferences •  Operator’s vision and long-term plans •  Turnover of residents and staff •  Systems and technology

Perceived Risks of Investing in Seniors Hsg. •  Valuation and exit risk (all real estate sectors have this risk) •  Supply risk (not unique to seniors housing) •  Obsolescence risk (physical plant no longer meets the needs of its tenants/residents) •  Liability risk (associated with standards of care for residents) •  Resident credit risk (extremely low for today’s cohort of residents) •  Turnover risk associated with high churn rate for seniors housing •  Reimbursement risk for non-private pay seniors housing properties 26

Capital Providers Make Many Assumptions •  Investors and capital providers need to make underwriting assumptions regarding: •  Rent and rent growth assumptions •  Expense Growth Rates •  Lease up velocity •  Competitor behavior •  Operator Performance •  NOI Margins •  Margin Growth •  Share of Return from Cash Flow versus Residual Sales Price •  Capital Reserves •  Debt •  Exit cap rates

IV. Supply, Demand & Occupancy

Seniors Housing Occupancy Remains Generally Strong Seniors Housing Occupancy 4Q05 – 1Q15 93% 92% Secondary Markets All Markets Primary Markets

91% 90% 89% 88% 87% 86% 2008 Source: NIC MAP® Data Service

2011

2014

Preliminary Construc)on Starts Consistent with Last Few Quarters

Source: NIC MAP® Data & Analysis Service; Bureau of Labor Statistics; NIC Research & Analytics

Construction Comes In Cycles; Some Markets Active, Others Not Seniors Units Under Construction Low to High

Source: NIC MAP® Data Service Source: NIC MAP® Data Service

Understanding of Market Fundamentals and Cycles Is Key Boom Market

Hyper Supply Phase

Expansion Phase

Declining Occupancy Falling Values RAPID Construction OVERBUILDING Saturated Market

Rising Occupancy Rising Rents Rising Values NEW Construction BUILD AND SELL

Recovery Phase

Recession Phase Falling Occupancy Falling Values NO new construction

Trough 2008-‐2011

2012-‐2014

Rising Occupancy Rising Rents Rising Values NO new construction BUY

2015?

V. Pricing, Interest Rates and Risk Premium

Pricing Trends In Seniors Housing •  Prices and Valuations, as measured by Price Per Unit (PPU) or Cap Rates (NOI/Value) are Rising (PPU) or Falling (Cap Rates); note these two concepts work in opposite directions •  Cap rates are related to risk-free interest rates (10-year Treasury yields) and often rise and fall with interest rates •  Most economists project higher interest rates in the coming months. •  If interest rates rise, will cap rates rise and will values fall; will write-downs occur? •  To keep values flat or for values to rise, operators will be required to grow revenues and increase NOIs 34

What Is Price Per Unit for Seniors Housing? Seniors Housing Rolling 4-Qtr Price/Unit United States | 1Q08 – 1Q15 $250k

$200k All Properties $150k

Qualified Properties*

$100k

$50k

$0k 2008

2009

Source: NIC MAP® Data Service

2010

2011

2012

2013

2014

2015

* Closed transactions of $2.5 m or more; real estate portion only.

Ten Percent of Properties Trading Above $250,000 per unit

Source: NIC MAP® Data Service

Cap Rates Generally Stable

Source: NIC MAP® Data Service

Consensus Among WSJ Economists Is For Rising Rates U.S. 10-‐Year Treasury Note (%)

Forecast

4.00 3.50 3.00 2.50 2.00 1.50 1.00 2009Q1

2010Q1

2011Q1

2012Q1

2013Q1

2014Q1

Source: Wall Street Journal

2015q1

2016Q1

A Risk Premium of 500 Basis Points for Seniors Housing U.S. 10-Year Treasury vs. Seniors Housing Cap Rates (4-qtr moving average) 10

0 Diﬀerence (right) 4 Qtr Mov. Avg 10-‐Year Treasury Rate (lea)

4-‐Qtr. Mov. Avg. RCA/NIC Current Value Cap Rate (lea) Average Diﬀerence =5.12% (right)

Source: RCA., NIC, Federal Reserve

VI. Outlook for Seniors Housing Fundamentals

Rising Occupancy Levels For Independent Living Majority Independent Living Supply-Demand Forecast Inventory Growth (L) Primary Markets | 1Q06 – 1Q16’F 4k

Absorption (L) Occupancy (R)

95%

93%

91%

89%

87%

-1k

85%

Source: NIC MAP® Data & Analysis Service

Generally Balanced AL Supply/Demand Outlook Majority Assisted Living Supply-Demand Forecast 4k Primary Markets | 1Q06 – 1Q16’F

Inventory Growth (L) Absorption (L) 95% Occupancy (R)

93%

91%

89%

87%

-1k

85%

Source: NIC MAP® Data & Analysis Service

Conclusions •  Improving market fundamentals •  Solid and relatively stable investment returns •  Increasing presence of institutional investors •  A range of investment strategies that potentially also diversify a multi-asset portfolio

Update Select Industry Data Sources Source

Characteristics

NIC Investment Guide 2014

Biannual publication serving as a primer for investors. This focuses on performance, investment characteristics, and leading industry players of the sector.

NIC MAP (www.nicmap.org)

Quarterly data service providing supply, demand, occupancy, rent, and sales transaction information.

NCREIF (www.ncreif.org)

Twice yearly articles comparing seniors housing equity returns to other forms of commercial real estate.

Seniors Housing Construction Trends Report

Annual publication summarizing construction activity in the past year.

RCA-NIC Seniors Housing and Care U.S. Quarterly Report

Quarterly report overviewing investment trends, buyer/seller composition, and recent transactions.

Maravilla, Santa Barbara, CA

Why Invest In Seniors Housing? Presented by Beth Burnham Mace, Chief Economist, NIC bmace@nic.org ALFA Conference

Tampa, Florida May 5, 2015