Interview Transcript:
SeniorCare Investor Editor Steve Monroe
interviews Jim Pieczynski, Co-President of Healthcare and Specialty
Finance Business, and Steve Gilleland, Director of Healthcare Real Estate,
for CapitalSource Inc.
Steve Monroe: We are here today with Jim Pieczynski, who is the
co-president of healthcare and specialty finance business at CapitalSource,
and Steve Gilleland, who is a director of the same group.
Guys, we’ve had a great run for the last three to four years in the
seniors housing industry, but the market has softened. When do you think
we’ll see a turnaround?
Jim Pieczynski: I think it’s going to take a while and I think a
while is kind of in the next six to nine months. The reason I think that
is with the tightening of the credit markets I think it’s ultimately going
to have an impact … it’ll ultimately be translating into a reduction in
asset values over time. And what’s happened now is I think sellers have
particularly gotten enamored with the prices that properties were going
for and there’s going to be a slow realization that their expectations are
going to have to be lowered.
Given that, I think what we’re going to see is that we’re going to be in
kind of a lull for a while until people that sit there and go, okay, this
isn’t going to change and I’m going to have to lower my price to get to
something a little more realistic. And I think that’s probably going to
take six to nine months for people to see that happen.
Steve Monroe: Is there any sector that you guys are favoring right
now in terms of lending to? Skilled nursing, assisted living, CCRCs?
Jim Pieczynski: I would say skilled nursing is the main area that
we’re focusing on right now. Quite honestly, with the AL and the IL and
the CCRC models, you’re seeing cap rates that are in the 6% and the 7%
range. And at that range, it’s very difficult to provide financing that
actually makes sense. Whereas on the skilled nursing facility level,
you’re seeing the cap rates have dropped, but they’ve dropped from 13% and
14% where it was a few years ago to the 10% and 11% and 12% zone right
now, which still puts us in a position to be able to competitively finance
those properties.
In addition to that, I believe that where we’re going to start to see the
next spate of construction going on is going to be in the skilled nursing
area. I think as the demographics change, there’s going to be more and
more demand for higher private pay and Medicare residents. And I think
those residents are going to start to demand more and better services. And
I think, as a result, you’re going to start to see an increase in the
supply of new skilled nursing facilities being built. And, quite frankly,
that’s an area that we really want to focus on, getting into doing the
construction lending for skilled nursing facilities along with,
ultimately, the permanent financing associated with it.
Steve Monroe: Have you seen borrowing requests slow since the
summer credit market meltdown, Steve?
Steve Gilleland: We have seen the volume of deals coming in slow
down. I think that the large deals are going to go by the wayside now, but
we will still see the mom-and-pop, the regional operators, they’re going
to still be in the acquisition mode, because there’ll still be deals out
there to be done. It’s just, as Jim had mentioned, they’re going to be
getting done at a little bit higher cap rate than they were in the past.
Steve Monroe: Do you have any idea in terms of the dollar volume so
far this year, the split in your financings between acquisition financing
and refinancing the properties?
Jim Pieczynski: I would say the lion’s share of ours, probably 90%
of it, has been on the acquisition side. Very little has been done on the
refinancing side, and I think that has a lot to do with the model that
we’re in. I think when people come to us to do acquisition financing, we
generally can get the deal because they know we’re going to be there and
they know we’re going to be able to close on the deal in the time that’s
needed. And I think people are willing to pay a little bit more for that.
As opposed to a refinancing, somebody typically has a year or so to
refinance the deal and they kind of shop it all over and they go to every
bank and every lender that’s out there. And it becomes more of a commodity
pricing. So that, quite frankly, is a market when it’s commodity pricing
that we don’t really compete very well in and so, I think just by
definition, our model has been to really focus more on the acquisitions as
opposed to the refinancings.
Steve Monroe: And how much money do you think you’ll end up putting
out in total for 2007 and what’s your target for 2008?
Jim Pieczynski: Well, I think our goal this year and next year was
to be in the billion dollar zone. I think we may be a little under a
billion dollars this year, just because of the slowdown that happened over
the last couple of months. If you had asked me this before that, I’d say
we’d definitely be at the billion dollar level. I think next year, our
target again is to be at a billion. I think we’ll get there, but I think
most of our activity will be coming on the sale-leaseback side. I think
there are going to be some opportunities in that space. I think you can
get better margins and there’s probably a little less competition in that
arena than there are just for straight loans. So I would see that
happening.
Steve Monroe: That’s a nice segue into my next question, which is,
as a real estate investment trust, you’re in a position to buy as well as
lend. Are you seeing values? Are they getting attractive enough for you as
a buyer as a result of the credit market problems?
Jim Pieczynski: I would say that, yes, we are seeing that,
particularly on the skilled nursing side. I think the properties that
we’ve been able to acquire, we’re getting at reasonable multiples of
EBITDAR, we’re kind of in the 8.5 multiple of EBITDAR. They maybe have
stretched to a 9 multiple of EBITDAR. But deals can be done at that zone.
And that, again, is on skilled nursing.
On assisted living, we’re finding it’s a lot more difficult, because we’re
seeing people are paying 14 and 15 times EBITDAR and we’re just thinking
that, at that price, that’s not really an attractive opportunity for us.
But we are definitely seeing it on the skilled nursing side.
Steve Monroe: Has CapitalSource revised its underwriting criteria
in any way since the summer meltdown in the credit markets?
Jim Pieczynski: I would say we have not revised our underwriting
criteria at all. I think the values at which we lent at before are the
values which we would be lending on today. I don’t think it’s changed
because, even though the market really started to accelerate, we really
didn’t change our underwriting, say, a year ago. I think, if anything, the
only change today versus three months ago is probably we’re looking for
increased spreads than we would have, and that’s just because of the
credit markets.
Steve Gilleland: To add on to what Jim’s saying, it’s just because
our cost of funds went up slightly, so we’re going to try to get a little
bit better yield than we did three months ago.
Steve Monroe: Everyone’s cost of funds went up and, with the cost
of debt going up and the amount of equity required, it looks like in more
deals, especially the highly leveraged ones, more equity will be required,
getting back to traditional levels of equity. Do you think the big private
equity firms are going to be out of the seniors housing market?
Jim Pieczynski: The jury’s still out on that one. I’m not certain.
My guess is that that a lot of the big deals that were going to happen
have happened. And relative to the private equity firms, do I think
they’re going to start to acquire, increase their appetite more than it
has been in the past? My guess is, if I had to pick one way or the other,
I would say that I probably expect them to be a little more on the
sidelines for a while right now and just kind of see what shakes out.
There have been, obviously, the things in the news of late, people are
looking at the private equity firms, they’re now asking for a
congressional investigation into the private equity firms and what happens
after they acquire properties.
So my guess is, they’re probably going to pause a little bit. But I don’t
see them exiting the business.
Steve Monroe: What’s going to bring them back?
Jim Pieczynski: I think what will bring them back is when, I’ll say
for lack of a better term, the heat is taken off. I think right now people
are kind of wondering, all right, are there going to be any changes in
reimbursement? Are there going to be any crackdowns at the state
regulatory level? And I think what will bring them back is, when we get
through this period and, everybody’s like, okay, the industry’s still
there, it’s still a safe industry, it’s still a solid industry. And this
is just one of the hiccups in the road.
So I think once they get convinced that the world is back to being right,
that they’ll jump back into the space.
Steve Monroe: And last question, with the increased scrutiny on
private equity, especially in skilled nursing facilities, anything you
guys have heard in terms of the Manor Care-Carlyle deal? Still on track?
Jim Pieczynski: I’ve heard that it’s still on track. I haven’t
heard there have been any changes. They’ve gotten the antitrust approval
that they need. And every indication that I’m seeing out there is that
that deal is on track.
Steve Gilleland: Yes, I would concur. I’ve heard the same stuff.
Steve Monroe: All right, thank you for your time and we will talk
again soon.
Jim Pieczynski: Thank you.
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Jim
Pieczynski, Co-President of Healthcare and Specialty Finance Business
for CapitalSource Inc.
Steve
Gilleland