Economic conditions such as tight debt markets have slowed the portfolio restructuring efforts that CareTrust REIT (NYSE: CTRE) embarked on earlier this year. However, company leadership see the scales tipping in favor of acquisitions.
Currently, acquisition pricing remains tricky, as sellers are still trying to achieve “peak pricing,” CareTrust Chief Investment Officer Mark Lamb said Wednesday on the company’s Q3 2022 earnings call.
However, there are portfolios currently on the market that are “losing significant dollars,” and Lamb expects the situation to further deteriorate for these challenged assets, bringing valuations down and creating opportunities for REITs like CareTrust that do not depend on bank or debt fund financing to close deals.
“I think the end of the public health emergency … will be the end of the line for a lot of operators,” Lamb said. “So I would expect at some point mid-next year to see more distress.”
Leadership touted the performance of CareTrust’s portfolio in the midst of headwinds such as inflation and ongoing labor challenges.
“Given the macroeconomic conditions, we are pleased to report both stable portfolio lease coverage and significant progress on the portfolio optimization plan for the year with the sale of the Trio skilled nursing portfolio in September,” said CareTrust’s President and Chief Executive Officer, Dave Sedgwick.
The company collected approximately 93% of contractual rents, including cash deposits, in the quarter. Average quarterly occupancy for skilled nursing operators grew by 0.7%, or 53 basis points, over Q2. For senior housing, occupancy grew 1.7%, or 131 basis points.
“All things considered, Q3 was a good quarter for us and Q4 started off much the same,” Sedgwick said.
CareTrust’s normalized FFO/share of $0.37 met analysts’ consensus expectations, as did normalized FAD/share of $0.39.
CareTrust hosted its operator conference in October, where participants discussed topics like overcoming the tight labor market, purchasing reimbursement and administration’s policy proposals.
“We came away from that conference energized and cautiously optimistic about returning to growth in 2023 with who we believe are among the most elite operators in the sector,” Sedgwick said. “Each operator is unique. Most are eager to grow with us. While some are still very much finding their footing as they continue to manage through historically tough operating conditions.”
Sweet dispositions
In February 2022, CareTrust announced a plan to sell, re-tenant or repurpose up to 32 assets this year. Despite the challenging market conditions, the REIT has continued to make progress on these plans, and in Q3 closed on the sale of seven facilities in Ohio at a purchase price of $52 million. The sale included six skilled nursing facilities and one multi-service campus totaling approximately 600 skilled nursing beds and 100 senior housing units.
“As we sit here today, we have several dispositions progressing towards closing with target closing dates in the next couple of months. The majority of properties currently classified as held for sale or under signed purchase agreements and in various stages of due diligence with the buyers,” Lamb said. “We are pursuing parallel paths of selling or re-tenanting several of the other properties held for sale.”
As of Sept. 30, 19 of the 32 assets were actively on the market, according to an investor note from Stifel. CareTrust also has opted to convert two buildings into behavioral health facilities, and is bringing in a new tenant for two senior housing communities. Excluding the assets held for sale, the REIT’s portfolio as of Sept. 30 consisted of 198 properties, of which 154 were skilled nursing facilities.
The timeline to complete the repositioning by the end of the year is proving difficult given the capital markets environment.
“We’ve seen many lenders continuing their move to the sidelines as they consider industry headwinds and the looming recession with lenders withdrawing the process for selling the leveraged buyers has slowed significantly. Nevertheless, we continue to see legitimate interest in our proposed dispositions,” Lamb said.
The flip side of this situation is the improving outlook for investments, particularly in skilled nursing and behavioral health. The pipeline currently sits in the $100 million to $125 million range, and includes single assets and portfolios.
The company expects to see valuations come down further over the coming months, as operators either having to exit the space or choosing to exit will have to transact at prices that are more reflective of historical cap rates and price per bed values.
“We’re seeing more actual acquisition opportunities in markets that we and our operators are looking to grow in. Unfortunately yet predictably, sellers still believe they’re going to achieve peak pricing that they could have received in 2021, in early 2022. It remains to be seen how long this period of price discovery lasts,” Lamb said.
However, Lamb believes the end of the PHE will be a turning point. He added that by the middle of next year, REITs will be in a good position to pick and choose what works for them and for their operators.
Cloudy crystal ball
Although occupancy remains a concern as facilities continue to recover from the pandemic, Sedgwick said that he hopes to have more clarity on the labor market next quarter.
“Going forward as it relates to coverage, there’s a lot of variables in play right now from skilled mix to overall occupancy and what the labor market looks like as the recession takes hold. So, it’s pretty tough to look in the crystal ball right now, but hopefully we will have some more clarity on that in the next quarter,” he said.
He believes that the best sign of stability for an operator is to have minimal third party agency usage.
“Not only is it expensive, but it is a detriment to the quality of care and culture within any facility,” Sedgwick said. “So while those remain high, it’s going to be a little bit of a constraint on both occupancy and growth.”
There are signs of greater stability within the CareTrust portfolio, including in properties operated by Bayshire and Aspen that have been working to bring EBITDAR coverage above 1x. Bayshire is “a little bit ahead of schedule on their turnaround plans,” while Aspen is making “great changes” at a building that has been slower to recover, Sedgwick said.
He also expressed confidence in Covenant Care, with the CEO change that occurred in June.
Overall, EBITDAR coverage came in at 2.02x, excluding HHS funds. This coverage is sequentially stable and in line with pre-pandemic levels, Stifel analysts noted.
Heading into 2023, despite the uncertainties on the horizon, Sedgwick said he is “encouraged by the overall portfolio strength” and the prospects to make investments and grow with operators who are eager to expand their relationship with the REIT.
Companies featured in this article:
Aspen Skilled Healthcare, Bayshire, CareTrust, Covenant Care, Stifel
