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Seniors Housing Developers Switch From Defense to Offense

Industry builds a strong case for new construction after a sharp pullback in activity.

The business case for new development is gaining support among seniors housing owners and operators, an indication that an uptick in construction could occur this year.

Construction costs, while rising a bit lately, are still well below prices of two to three years ago. Borrowing costs remain low. And with few new facilities under way, there's a growing consensus that now is the right time to build.

“Our problem in the industry is not oversupply, it's under penetration,” says Patricia Will, president and CEO at Belmont Village Senior Living. Penetration is a commonly used metric in the senior housing industry used to determine market demand.

Based on households headed by persons age 75 or older, penetration right now is running at 3.7% nationally for assisted living properties, according to the National Investment Center for the Seniors Housing & Care Industry (NIC) based in Annapolis, Md.

Houston-based Belmont owns and operates 20 seniors housing facilities. The company opened two new facilities last year: Belmont Village of Cardiff by the Sea, near San Diego; and Belmont Village of Westwood, in Los Angeles.

Belmont also broke ground in mid-April on a new 135-unit assisted living and memory care building in Thousand Oaks, Calif. The project, Belmont Village of Thousand Oaks, has an estimated value of more than $30 million. Belmont's partner is institutional investor AEW Senior Housing Investors, a Boston-based fund managed by AEW Capital Management.

Pent-up demand

Construction of new seniors housing projects as a percentage of the existing inventory is low, currently under 2%, according to NIC. And looking ahead to 2011, only about 2,600 independent living and 700 assisted living units are expected to open.

Projects started now should be ready at the end of 2011 or in early 2012. By then, a more robust marketplace for seniors housing should emerge as the residential housing market improves, sources say. Not every new development will succeed, however. Developers are picking spots carefully. Locations must have the right demographics and little competition.

But new developments should have an advantage over existing buildings. “A lot of older facilities don't have modern technology or architecture,” says Michael Berne, managing director and seniors housing practice leader at Jones Lang LaSalle, who operates out of the New York office. Older facilities often don't have the latest amenities either, he adds.

Jones Lang LaSalle is currently seeking financing for two new projects. Christopher Place Senior Communities, a privately held owner and operator of nine seniors housing properties, will build a 218-unit facility, Verdura, in Ann Arbor, Mich. The $95 million project features 108 independent living apartments, and 80 assisted living and 30 dementia care units and nine for-sale villas.

The 300,000 sq. ft. building includes 54,000 sq. ft. of underground parking. Verdura is located near the University of Michigan campus, and close to the university's healthcare facilities, as well as a local Veterans Administration hospital.

Verdura is “shovel ready,” says Berne. Construction will begin as soon as financing is in place. The principals at Christopher Place will contribute equity of about 5% to 8%. Jones Lang LaSalle is seeking another tranche of equity totaling about $22 million. The remainder will consist of bank debt.

At the same time, Jones Lang LaSalle is arranging financing for a 152-unit nursing home in Freehold, N.J. sponsored by non-profit operator Workman's Circle.

“Lenders are actively interested in talking to us,” notes Berne. “It's a real turnaround from a year ago when lenders wouldn't even return phone calls.”

Another plus for development is that savvy investors are showing interest in seniors housing. The big investment firm Kohlberg Kravis Roberts & Co. made its first attempt to enter seniors housing with an unsuccessful bid last December for Erickson Retirement Communities.

Other investors new to seniors housing are considering ground-up development, Berne says. “New players are beginning to understand the demographics and the demand for seniors housing.”

No picnic for borrowers

Berne says lenders are exercising caution. They want sponsors with solid reputations and a strong history. Lending criteria is stiff. Lenders put their own analysts to work and carefully evaluate local demographics and development plans.

The estimated lease-up period must be well documented. And lenders want equity outlays of 30% to 40% compared with 10% to 15% several years ago. Total construction costs are down 15% to 20% from two years ago and labor costs remain low because of high unemployment.

Contractors and subcontractors are keeping prices down in order to stay busy, notes Will, the executive with Belmont. “They're willing to take less of a margin to keep their business together,” she says.

Land prices also have dropped. Two or three years ago, condominium developers often outbid seniors housing developers for available land. But now with condo developers out of the picture, seniors housing developers are generally paying less for land than a few years ago.

Land sellers are now willing to wait for seniors housing developers to secure zoning and site development approvals, something land owners wouldn't do when eager buyers were plentiful.

Given reduced development costs, Will says Belmont's new projects should perform well. She figures the investment return on a new development at more than 10% compared with about 7% to 9% for an acquired property. “We see a permanent pricing advantage with anything we create now.”

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