Wisconsin CCRC Purchase Is The First For PRS’s Atlantic Division
Capitol Lakes (formerly Meriter Retirement Services, Inc.), a CCRC in the university town of Madison, Wisconsin, offers some interesting opportunities to new owner Pacific Retirement Services (PRS). PRS purchased the corporate memberships of the not-for-profit retirement community from Meriter Health Services (MHS), a not-for-profit community hospital now looking to focus on its acute care side. The transaction, which was valued at about $43 million, closed on April 1.
Until now, PRS had concentrated its retirement community operations primarily on the Pacific coast — urban areas of Seattle, Portland, and San Francisco — and in Fort Worth, Texas. Capitol Lakes is the organization’s first venture east of the Mississippi but definitely not its last. “We just opened an Atlantic division in Memphis this past year to further our mission of creating enhanced lifestyle opportunities for seniors in the Midwest and East Coast regions,” said Mary Naylor, vice president of development. “In addition to this Meriter purchase, we just signed a purchase and sale agreement for a CCRC in Fort Myers, Florida, that we expect to close in July. And we’re working on some new developments elsewhere on the Atlantic coast.”
For PRS, the Madison property was a good fit. Madison is an appealing town with a population of about 700,000 people that’s underbuilt in terms of having a traditional continuum-of-care CCRC. The retirement community’s urban mode — located just three blocks from the University of Wisconsin campus and one block from the State Capitol — is consistent with other PRS properties.
“When Meriter Health Services put up its retirement community for sale, we looked at the RFP and saw that we had similar missions,” said Naylor. “Most of our communities are sponsored by churches, and this was a faith-based community owned by a Methodist hospital.”
Picking PRS over all
MHS had 11 bidders for its retirement community, about half of which were not-for-profit organizations. PRS was one of four finalists. While not the highest bidder, according to Bill Pomeranz, managing director of Cain Brothers in San Francisco and matchmaker for the deal, the hospital preferred to sell to PRS because it had the best vision of what the community could become. “Everyone else was focused on the numbers, which is the right business approach,” he said. “But sometimes that makes you miss the bigger picture.”
MHS was also impressed by PRS’s practice of involving residents in the governance of its CCRCs. In each of its buildings, PRS customarily has 35-40 resident councils that are responsible for everything from gardens to meal programs to budgets. “For Meriter, most residents are retired faculty or other university people and are used to being involved,” Pomeranz noted, “so that structure was an important element of why PRS was chosen.”
Cain Brothers was able to bid the Meriter property out and get financing fairly easily, considering today’s market. “We had multiple bidders for the financing,” Pomeranz said, “and I believe part of that was because PRS is such a strong brand.”
A total of $51,575,000 in three series of variable-rate demand not-for-profit housing revenue bonds, two tax-exempt and one taxable, was issued by the Wisconsin Health and Educational Facilities Authority. KBC Bank NV (New York) and Sovereign Bank provided letters of credit. A portion of the bonds will cover capital improvements, some underway prior to the sale.
Making sense of the financials
MHS offered good quality care but was a poor manager of operations and finances, according to Pomeranz. At the time of the sale, the hospital was in the midst of converting the CCRC from a rental product to a 90% refundable entrance-fee model. A group of 54 large units built in 2002 was the first to be converted. Just prior to putting the CCRC on the market, Meriter also mandated that residents purchase a service package — meals, housekeeping, and other standard items — that essentially doubled the monthly maintenance fee. Only a handful of the residents in those units opted for the deal.
In addition, MHS put about $7 million into rereconfiguring 36 out-of-date studios on the top three floors of an original 14-story building into 18 two-bedroom apartments. The units sold immediately. Even so, MHS realized that operating the CCRC wasn’t consistent with its main line of business and, therefore, wanted to shed it. PRS picked up a project that everybody loved but that didn’t make any money.
It took almost nine months for Cain Brothers to make sense of the financials. “They were converting from an all-rental to an all-entrance fee model,” said Pomeranz. “They were converting from a shelter-only monthly fee to a congregate monthly fee. They were downsizing the nursing home. They had $7 million of rehab and new housing underway and $2 million in renovations to the nursing home. All these things were happening at once, which made it a very complicated package.”
“Net income was positive in 2006 but negative in 2007,” added Naylor. “We expect to turn that around. MHS had taken some steps in the right direction over the last few years. We plan to continue down that road.”
Without wanting to be too specific (because the number is “unbelievably low”), Pomeranz indicated that the cap rate is about 50% below market. At the same time, the property will be investment grade two years from now, when all the units have been converted to the entrance-fee model.
“The building is in the middle of a tremendous transition that, as the units sell, will provide first-generation entrance fees,” he explained. “So PRS will ultimately have 175 independent living units on which they’ll pick up $150,000 to $600,000 each in entrance fees. And that’s all new money.”
PRS will continue to work with the hospital. In fact, Meriter built a provision into the sale agreement that the community would continue to provide skilled nursing care to the hospital’s patients. The agreement also mandated that no employees could be laid off for six months and that the facility must stay in the Medicaid program for a couple of years to ensure a community-friendly transition.
Once the current remodeling is completed, the community will have 175 independent living units, 52 assisted living units, and 98 skilled nursing beds. Occupancy levels currently range from 92% to 95%, taking into account the units under renovation. The assisted living units are always 100% full, according to Pomeranz, and the nursing home always has a waiting list. It’s the only facility in downtown Madison and the only one near the university and the State Capitol, where 10,000 employees come to work each day.
Expansion opportunity
As part of the Meriter purchase, PRS has the option to purchase a lot across the street from the existing community and has had initial discussions with the University of Wisconsin Alumni Association about possibly partnering with it in some way. Tens of thousands of Wisconsin alumni live within 200 miles of Madison. Over the years, the alumni association has had a good working relationship with Meriter, holding classes, teas, and events at the community location.
Any residences built on the property, however, would not be limited to retiring alumni, “and it’s only an option on the property,” Naylor stressed. “We haven’t purchased it and don’t have a timeframe for that.” Nevertheless, zoning on the parcel is close to being approved for 124 units.
In fact, many PRS projects are aligned with universities in one way or another. At its Davis, California, community, many of the residents are retired faculty from the University of California-Davis. PRS is working closely with Southern Oregon University in Portland to set up a senior retirement credential program that PRS people will be teaching. And PRS has also worked with Oregon Health & Science University on projects in Portland. “Seniors like to keep learning,” said Naylor, “and we usually hook up the residents of our communities with lifelong learning programs. So having a university in close proximity was one of the attractions of Madison.”
Bonus round
As an added bonus, Meriter controlled the board of Middleton Glen, a 100-unit independent living community about 15 miles from Capitol Lakes. Eventually, as a result of the sale, PRS will get to appoint four of that community’s seven board members and become the manager/owner of that operation. “We’ll be able to help with the future of that campus,” said Naylor, “but we have no specific plans at the moment.” 
May 1, 2008