What’s The Impact On Senior Housing? A Credit Crisis Worsening?
Rest assured, Fannie Mae and Freddie Mac are still open for business on seniors housing deals, albeit with higher spreads and more caution. Their senior housing portfolios remain very strong with no defaults. “We’ve been given no capital allocation or slowdown direction at all,” said Steven Schmidt, Director of Seniors Housing at Freddie Mac, “and we haven’t slowed down our appetite for seniors housing projects. The multifamily business is very profitable and doing very well. As the bid-ask spreads have widened, however, it is more costly to finance a project. Buyers are looking for lower prices and/or looking for too much of a discount, and sellers haven’t quite adjusted to the new reality.”
But the bulk of Fannie Mae and Freddie Mac financing for seniors housing projects is on the for-profit side of the industry, with a small percentage for targeted affordable business on the not-for-profit side. So the financial difficulties — and government rescue — of these two mortgage giants are likely to have little direct impact on not-for-profit senior care credit. That’s good news.
The involvement of Fannie Mae and Freddie Mac in not-for-profit seniors housing financing is “de minimus — and always has been,” confirmed Dan Hermann, Managing Director and Head of Senior Living Finance at Ziegler, for the simple reason that the not-for-profit independent living model is primarily entry-fee based CCRC. “That economic model works for not-for-profits,” Hermann said, “but, historically, it has not been eligible for Fannie/Freddie financing,” he said. “It was being explored, but moving at a snail’s pace, in a couple of select cases. I’d be surprised if any type of progressive activity like that is even considered now.” (Freddie Mac hasn’t said it won’t finance entry-fee projects, affirmed Schmidt, but isn’t doing it to any great degree at this time.)
Frankly, Bill Pomeranz, Managing Director of Cain Brothers in San Francisco, doesn’t know of any not-for-profit on the West Coast that has been able to get into a Fannie/Freddie program other than for service-enriched housing or as a source for low-income housing tax credits (LIHTC) — although Freddie Mac is not currently buying LIHTC either, according to Schmidt. With its figures down so much this year, Freddie has less need for tax credits. That’s undoubtedly true for Fannie Mae, as well. The situation may change, however, when financials are reviewed at the end of the year.
“Fannie Mae and Freddie Mac look mostly for pure rental projects,” Pomeranz continued, “and most not-for-profits don’t have pure rental projects. They also haven’t been involved in projects with a high percentage of nursing beds. They like to keep it strictly housing. Not-for-profit rental projects often have large nursing homes. Not-for-profit CCRCs generally have smaller nursing homes but have entry fees. I’m not aware of any entry-fee projects that Fannie or Freddie ever underwrote. So I agree that any impact of their problems will be minimal.”
With the private bond insurance market “tanking,” bond buyers in California are looking more and more to the underlying credit even with federal and state guarantees (such as the Cal-Mortgage Loan Insurance program), according to Pomeranz. “Buyers like the guarantees at this point in time,” he said, “but after the collapse of the private bond insurers such as Ambac and Radian, there’s some skittishness whenever a third-party guarantee is involved. So the bonds aren’t trading as well as they had been historically.”
As a result of banks having so much difficulty (not necessarily as a result of the Fannie/Freddie situation), Pomeranz sees a more important role for FHA going forward. “Bank letters of credit (LOCs) are becoming less available, so FHA will be helpful in that regard.”
Possible LOC crunch
A good chunk of Ziegler’s not-for-profit financing business (about $1.5 billion per year) involves entry-fee CCRCs, and a high percentage of that involves tax-exempt fixed-rate bonds and variable-rate bonds backed by LOCs from A-rated (or better) banks. “That’s the main form of credit enhancement in the not-for-profit senior living market,” said Hermann. “The financial market disruption that started about 16 months ago has materially impacted our LOC market; but the principal disrupters have been the financial performance of the banks themselves and their ability to lend, as well as the need to refinance the auction-rate security market with bank LOCs.”
The auction-rate security market blew up as a result of the sub-prime mortgage mess. That led to numerous hospitals, universities and governments wanting to keep variable-rate debt, as opposed to refinancing with fixed. Then, according to Hermann, in order to keep variable-rate debt, they had to refinance with floating-rate debt or get a bank wrap. “That sucked up a lot of the supply of bank LOCs,” he said. “So the supply of LOCs has gone down and fees have gone up — and that’s also what blew up Fannie and Freddie.”
Meanwhile, Bill Mulligan, Managing Director of Ziegler’s Corporate Finance, Senior Living and Post-Acute Care Group, said, “We’re closely watching the liquidity and the capital base of large banks to see whether they’ll continue to issue LOCs at the same pace as in the past. All banks are being more cautious about putting out money, because their capital base has been eroded as a result of the sub-prime mortgage crisis.”
So while the current Fannie Mae and Freddie Mac fiasco may be symptomatic of the overall credit market, Mulligan believes that the dramatic drop in their stock prices could have an indirect effect on not-for-profit seniors housing financing. Several large banks that provide LOC enhancements have significant holdings in the preferred stock of the two entities, and the depressed value of their investments could affect the liquidity level of those banks. That would have a ripple effect on their capital base and, in turn, on the LOC market.
“What everyone is watching with regard to Fannie and Freddie,” Mulligan stressed, “is whether they’ll continue to be there as a vehicle to fill the hole for mortgages — residential, commercial or whatever — and to provide liquidity across the housing spectrum.”
“Banks are more leery these days, but some are still willing to do short-term LOC enhancements with a Fannie or Freddie takeout,” noted Cindy Hannon, VP-Affordable Housing at Grandbridge Real Estate Capital and formerly National Account Manager in Fannie Mae’s Multifamily Affordable Housing Group. Grandbridge is actually doing one right now — a not-for-profit deal that Wachovia approved.
“Nevertheless, it has always been difficult to get a not-for-profit deal done with either Fannie or Freddie,” Hannon added, “because a lot of not-for-profits generally don’t have a lot of wealth on their balance sheets, although Grandbridge Real Estate Capital currently has two not-for-profit deals in process right now — organizations that hooked up with limited partners for tax-credit deals. A couple of other not-for-profit clients have relatively good cash liquidity on their balance sheets that will qualify them under the current credit standards.
“No matter who runs Fannie and Freddie, they still have to follow credit standards,” she added. “They have a credit threshold and still must have a quality asset, a quality borrower. It’s not like getting money from HUD, which has different credit requirements — and which is why a lot of not-for-profits go to FHA for their financing. FHA looks more at the actual asset — the property and the experience — rather than the individuals behind the project.”
Liquidity crisis — or not
“Not much capital is available now,” Hannon observed, “except in the form of bonds or tax credits. Tax credits are easy to get, but there aren’t a whole lot of investors who are willing to pay top dollar for them. So the problem there is not having enough tax-credit income coming in to cover costs. I also believe that credit standards will tighten even further, so financing will continue to be difficult whether it’s a for-profit, market-rate project or an affordable property. So we’ll probably see very little affordable housing construction next year, whether for families or for seniors.”
Of course, some developers have deep pockets and are investing their own money into their projects, finding an investor, or — if they’re really lucky — finding a tax-credit syndicator who will pay 85 to 90 cents a credit. “Right now, the average price that syndicators are getting is in the very low 80s,” said Hannon, “and I heard that will slip down to the low 70s by next year.”
As a result, a lot of affordable senior housing providers — both for-profit and not-for-profit — are looking at rehabilitating existing properties for $10,000 or $15,000 a unit to maintain or preserve their housing. Funds, whether bonds or tax credits, are generally available to cover those costs.
“Everyone wants to paint the current climate as a liquidity crisis,” said Hermann, “but they’re reacting to the all-time low rates back in March 2007. Our message to our clients is that capital costs are up, but they’re only at about the midpoint of the 10-year average. We’re probably at the 60th percentile now. Credit quality is being rewarded across the board in terms of lower costs of capital and easier access to it, whether it’s an existing organization, single or multi-site, or a new campus. We’re funding a substantial amount of growth. It’s not the end of the world.”
Merger activity is up for challenged organizations, he concedes, but all markets experience an acceleration of affiliations and mergers in a tough economy. The not-for-profit senior living sector is no different. “But the market has not shut down,” he reiterated. “It’s just that a year to three years ago was an extremely fluid time.”
Ziegler, of course, has a dominant market position in the not-for-profit senior living sector — nearly half the market, in fact — and also brings a national perspective to the table. “Out West, for example, we may have trouble getting an LOC because there aren’t enough local banks,” says Hermann, “while in Pennsylvania we’re still seeing multiple competitive proposals. Most of our multi-facility clients throughout the country are in a great position, with an average occupancy rate of 94-95%. They’re just having to work harder on marketing.”
Schmidt confirmed that capital will continue to be available from Freddie Mac for qualified senior housing providers, although he agreed that there’s definitely been a huge pullback on the part of other lenders. “That most likely relates to residential mortgage exposure in their portfolios,” he said. “Multifamily has been very profitable for us, and we don’t see it being anything but profitable in the future. We should have no problem having funds available.” That’s good news.
September 1, 2008