Off the Sidelines: Nonprofit Acquisition Activity Heats Up
For-profit senior living acquisitions have dominated headlines over the past few years, riding a robust wave of private capital and low borrowing costs. Recent activity, however, indicates that nonprofit organizations have not been merely sitting on the sidelines.
One of the main reasons nonprofits are able to actively participate in the acquisition market is because they typically have adequate liquidity given their distribution of cash flow restrictions. Additionally, they often have wider access to affordable capital than for-profits given their ability to issue tax-exempt bonds in both the public and private markets. However, intriguing questions remain regarding the increasing acquisition activity of nonprofits:
- What is driving the activity?
- How aggressive are nonprofit organizations compared to their for-profit peers?
- Should nonprofits consider marketing their organizations?
Many casual observers likely presume that when a nonprofit organization completes an acquisition, it acquires a facility from another nonprofit with a similar mission. Although that is indeed a common scenario, recent examples suggest an increasing trend whereby nonprofits are acquiring assets from for-profit providers. Examining these instances helps shed light as to the motivations of nonprofit organizations as well as the implications of nonprofits’ increased activity on the broader acquisition market.
- At the end of February 2015, Glen Hope Harbor, a Texas nonprofit corporation, purchased nine assisted living (AL)/memory care (MC) facilities totaling 144 units from AutumnGrove Cottage. Seven of the facilities were located in the greater Houston area and two were located in San Antonio. The acquisition price was $29.5 million, approximately $205,000 per unit, which yielded a 7.3% cap rate based on the 2014 EBITDA (January to November annualized). Average occupancy before the sale was 86% with one facility still in lease-up and net operating income (NOI) per unit in excess of $14,860. The purchase was financed through the issuance of tax-exempt bonds with a true interest cost of 4.96%. The issue was rated A/stable by Standard & Poor’s.
- During the first quarter of 2015, a joint venture between a nonprofit hospital and for-profit senior living operator purchased a skilled nursing facility in southern Illinois. The 99-bed skilled nursing facility was built in 1992 and sold for $10.5 million ($106,000 per bed). The joint venture facilitated the acquisition by assuming the existing HUD loan and providing $4.8 million of additional proceeds. The cap rate based on the 2014 EBITDA (January to October annualized) was 10.8%.
- In February 2015, a Massachusetts-based nonprofit organization purchased a 147-bed skilled nursing facility (SNF) in central Massachusetts from a prominent for-profit operator. The acquisition price was $27.5 million, approximately $187,000 per bed, which yielded a 12% cap rate based on 2014 NOI (January to November annualized). Historical occupancy before the sale was approximately 96% and the facility was running at a 22.2% NOI margin. The buyer made a $2 million equity contribution while the balance of the acquisition price was financed through the private placement of tax-exempt bonds and a subordinate tax-exempt seller’s note. The seller agreed to continue managing the property and signed a 15-year management agreement in conjunction with the closing.
The recent acquisitions were then compared to benchmarks in the 2015 Senior Care Acquisition Report(SCAR) as well as local comparable transactions (Figure 1).
While this may be correlation and not causation, there are qualitative and quantitative similarities in all three transactions. In each case, the seller was a high performing for-profit operator with the acquirer paying attractive prices compared to local comparable transactions and industry benchmarks. The occupancy levels for two of the acquisitions were in the low 90% range and operating income ratios were better than their benchmarks. Sellers are motivated to target a high sales price and to maximize net proceeds. The Massachusetts SNF transaction included sales proceeds combined with a seller’s note and a long-term management agreement for the seller. Additionally, selling to a nonprofit may have additional benefits, such as tax savings, if a transaction is structured through a vehicle such as a charitable remainder trust (CRT).
The Glen Hope Harbor acquisition of AutumnGrove in Texas is particularly interesting because it contradicts much of the data associated with the sale of smaller facilities. Typically, small facilities exhibit higher cap rates due to perceived volatility since a few residents can greatly impact occupancy and profitability. Figure 2 contains relevant benchmarks (averages) for 18 recent AL sales for facilities with 69 units or less and benchmarks for 26 AL sales for facilities with 70 units or more. The Glen Hope transaction greatly exceeded the benchmarks exhibited in the sale of smaller assets. In fact, the Glen Hope acquisition compares favorably to benchmarks more commonly exhibited by larger facilities (70 units or larger in this case). Certainly, an argument can be made for economics of scale with the nine facility roll-up. Additionally, Glen Harbor expects to receive a full property tax exemption for all facilities which will reduce future expenses by $250,000 annually. However, each facility still carries a number of fixed costs and must continually focus on maintaining a high census as a loss of two or three residents can have a profound impact on profitability.
What Motivates a Nonprofit
A provider involved in one of the aforementioned acquisitions noted that the two main motivating factors for nonprofits are typically mission and financial impact. Regarding the former, the acquisition enabled the nonprofit to extend its mission within its primary market by strategically expanding its portfolio with a best-in-class facility or facilities. In addition to acquiring quality physical plants, it was equally important to the acquirer that the seller was well-respected in the market in order to minimize any perception issues. As a result, preliminary feedback from the residents at the acquired facility was positive due to the acquirer’s faith-based beliefs and high-quality reputation. Regarding financial impact, the acquisition was accretive as it will improve cash flow and immediately add to net assets. With asset-level financing, the nonprofit is able to upstream excess cash flow to the parent organization so that the parent can invest in other projects to further its nonprofit mission. Nonprofits enjoy a weighted cost of capital equivalent to their cost of debt. Accordingly, a good investment which furthers their mission likely requires a lower hurdle rate than their for-profit peers.
Nonprofit owners and operators are always open to opportunities that will expand and enhance their missions. For owners looking to divest an asset, it is probably worth considering multi-site nonprofit owner/operators in a pool of potential buyers. With ample liquidity and more affordable financing options, nonprofits are well positioned to acquire assets at competitive prices. Further, private owners often mitigate potential community backlash by selling assets to nonprofits who are mission-driven versus profit-driven. Finally, they may be able to justify higher prices for quality assets given their mission and assumptions regarding potential property tax exemptions.