Housing & Healthcare Finance rode strong demand for bridge financing to a record-setting 2018 for its skilled nursing and assisted living lending practice, and while the government shutdown may lead to a 2019 slowdown, the company’s chief investment officer still sees strong demand ahead.
The North Bethesda, Md.-based HHC Finance clocked more than $1 billion in arranged financings last year, up from $510 million the year before; that billion-dollar figure included loans or lines of credit for 60 SNFs and AL buildings in 22 states, according to the company.
That tally was built in part on the company’s bridge-to-HUD program, which was partially derailed earlier this year amid a record-setting government shutdown. During that time, the Department of Housing and Urban Development could receive applications for loans but take no further action, creating a backlog that some have predicted will take months to clear.
CIO Michael Gehl told Skilled Nursing News that while he predicts a 5% to 10% dip in Department of Housing and Urban Development-backed lending in fiscal 2019, the program still represents the Cadillac of loan options for skilled nursing investors and operators — with a non-recourse feature and decades-long terms, there simply aren’t any other more attractive products for many players in the space.
What drove HHC’s big haul in 2019?
A lot of our transactions that come through to us are turnarounds. One of our borrowers will buy an asset that was underperforming, distressed, and they will put in better operations, turn the property around, and then we will take it out to HUD — because HUD will look at in-place cash flow versus projections.
They take a bridge loan, and we have a bridge lending group here that helps place debt with different sources, and once the deal is ready to go, they come to us, and we take it out to HUD. That’s a lot of our business — turnarounds, and eventually going to HUD. That’s what kept us busy last year, and keeps us busy this year.
Portfolios sometimes spike that number when it’s a larger transaction, and that can help move the needle for us as a company, but [turnarounds are] the lion’s share of our business.
What’s your outlook for the rest of 2019, given the lingering effects of the shutdown?
If you look at when the shutdown happened, December 22 to January 25, and if you look at some of the HUD data that was out there … the week before the shutdown, there was in the regular queue, there were 35 deals in queue. Usually the average days for processing was about 40 days. After the shutdown, and as of, call it last week [Editor’s Note: This interview was conducted on March 4], there are 79 deals in the queue. So we went from 35 the week before the shutdown, sitting there in the queue, to 79.
If you look at the oldest deal that’s in the queue, it’s November 7. So you’ve got this delay because deals accumulated in the queue while the government was on a shutdown, and now HUD is picking up transactions, new deals are being added, and as new deals get added — how that plays out, I’m not exactly sure. Will HUD be able to whittle down the queue sooner as more deals get added?
I think that has definitely showed down production, or projected volume if you will, for year-end. If you look at the first quarter of data [for fiscal 2019] from October to December of 2018, from an endorsement standpoint, they were about $1.075 billion for the first quarter of ’19, versus $1.032 billion last year. So a little bit ahead on endorsements. If you look at commitments, you’re talking $1.003 billion versus $1.027 billion, so you’re kind of on line.
Applications were a little bit behind schedule — $1.25 billion for the first quarter. If you look at ’18, it was $1.7 billion. So a little bit behind from that perspective.
But then you take away a month’s worth of processing, I think you’re going to see HUD volumes probably down 5% to 10% this year, just because we lost a month that I don’t think we’ll pick up.
From my reporting, it sounded like people really were just sitting around and hoping for the best during the delay.
Even last week, if you look at where the queue was, it was 67 assets, and now we’re at 79. So in one week, the queue even accumulated 12. So trying to pick up from the old deals that are just sitting there, to new deals being added as we’re all busy trying to get our deals processed through, that could accumulate.
Sometimes [production] gets made up because you get portfolio deals, and they really do move the needle. You have a $300 million, $400 million transaction, that could really pick it back up.
My guess would be if last year, we were around $3.6 billion, I think you’re probably 5% to 10% percent short of that, and a lot of that has to do with losing a month of production.
But it’s not for any lack of interest in HUD lending among SNF owners and investors, correct?
No, I think we still have the same deals — the turnarounds get done, the acquisitions get done, and the end result of the game plan is to take it out through HUD with long-term financing. A lot of players are looking to follow that routine, so a lot of it is continuing along that path, and trying to get their deals through to HUD. It’s just now you had this unfortunate shutdown, and it’s led to a little bit of accumulation in the pipeline.
Is the HUD product just that attractive?
It’s always considered the holy grail of long-term, fixed-rate financing as it comes to skilled nursing. Assisted living, you’ve got Fannie or Freddie; you can get 10-year financing. There really isn’t that type of financing out there [for skilled nursing]. Typical deals are two years with three one-year extensions. Maybe you get a five-year deal. The fact that you can go 30 to 35 years, fully amortizing debt, put it away and not have to worry about your financing for the rest of the life of the asset, there really is nothing like it.
It’s usually a bridge debt, and it’s two to three years, or maybe five years at most. There’s no 10-year product out there, so it’s really just this for skilled nursing owner-operators. A lot of the deals that are getting done — and you listen to all the earnings calls with the REITs — it’s owner-operator transactions. A lot of these owner-operators are long-term players in the space. They’re not really flipping. They’re really going to own this for the long term, so they’d love to turn around the asset, lock in long-term financing, and then they don’t have to worry about their financing again. And just operate.
What’s your take on the predictions of a PDPM-generated M&A wave going forward?
I don’t know if necessarily you’re going to see, immediately, all of the people running for the exits. A lot of the players that we deal with are more regional players that have a decent amount of assets in their pipeline. They’re getting ready for the PDPM transition — and I know it’s supposed to be revenue-neutral, but I think we’ve seen in the past, when it comes to these changes in reimbursement paradigms, behaviors change of operators. They’re going to understand how to take a look at this system, and when I think of it being revenue-neutral, I think there’s going to be initially more winners than there are losers as it pertains to PDPM.
They’ll figure out ways to deal with the expense side of the equation with group and concurrent therapy. There will be shifting to the type of resident that gets into the nursing home — more of a nursing, higher-acuity resident, which I think they’re preparing to take on, versus just the therapy and the minutes that dictated reimbursement previously. I think initially you’ll see some winners.
Will there be some small mom-and-pops that just don’t know how to deal with this at all? Yeah, that probably will shake out for some people, but I don’t think it’ll be as dramatic, where you’ll have people just rushing for the exits. There’ll be a handful here and there, but I think a lot of the operators are well-prepared for it and will do somewhat well at first.
What’s going to happen after CMS has a chance to analyze providers’ behavioral shifts?
I don’t think it’ll be a RUGs-IV situation where they say: “Dear god, what did we just do?” I think it’ll be a little bit more nuanced, and there’ll be some back-and-forth, and there’ll be tweaks to the system, inevitably. You also bring in the fact that there’s going to be a uniform payment system for post-acute, and how does that play itself out with LTACs and IRFs [long-term acute care hospitals and inpatient rehabilitation facilities]? As we move toward that, we’ll also be curious to see how that plays itself through the system.
Site-neutral payments are obviously a longer-term goal, but PDPM is showing just how much of a sea change that would be.
It’s going to take some time. The IRFs and the LTACs will definitely feel the pain — as skilled nursing is the lowest-cost setting, the SNFs have the most to gain, and the LTACs and IRFs have the most to lose. There’s really no difference between a vent resident in a nursing home and a vent resident in an LTAC: Why is the LTAC making so much more money? They all have a tough time explaining that one.
I think the nursing homes will do well in that, but it will take some time. There are a lot of industry groups that will have to weigh in on that one.
What are the things you look for when evaluating a deal? I’ve heard that it’s hard to pick winners and losers.
It matters how many assets [the operators] have, how long they’ve been doing it, the operational performance of those assets, skilled mix, occupancy, margin, just to understand how they are doing. I know star ratings aren’t perfect, but we’ll take a look at that — the survey scores, and see how they’re doing.
[We] try to take a look at as much of the depths of experience and their performance to really understand how good they are. It all comes down to the operator and how good they are — asking that question, I think the easiest thing to do is to look at experience and track record, and as long as they’ve shown that, that’s really where you get comfortable.