Health care is a growing part of the U.S. economy and a potentially fruitful market for banks. Health care real estate financing can add diversity to the loan portfolio, provide tangible collateral in the form of real estate, and offer more stable cash flow than other kinds of commercial real estate. However, it’s also an asset class that requires special expertise. BancAlliance, which is managed by Washington, D.C.-based Alliance Partners, is a network of member community banks that share lending opportunities and expertise. Alliance Partners recently added Doug Esposito, a health care financing expert with 18 years of experience, to its staff. He answers questions about health care financing.
What exactly is health care real estate?
We define health care real estate finance as loans to a wide range of owners and operators in the health care services and life-sciences industry. The transactions are secured by the health care-specific property. Property types include hospitals, skilled nursing facilities and medical office buildings, to name a few. The market is similar in structure to the commercial real estate market, but the process for evaluating the cash flow of the underlying business is a bit more complicated.
What are the challenges to lending in this market?
The main barrier is expertise. Few banks have the experience and dedicated staff necessary to underwrite and manage health care loans. This results in a less competitive lending market with more attractive spreads and less aggressive capitalization rates.
Can you describe the dynamics specific to this market?
The value of health care real estate is tied directly to the earnings power of the underlying health care operation. Skilled nursing facilities, for example, are typically funded through a combination of state and federal government reimbursement as well as private health insurers. The ability to assess this payor mix is essential in valuing the collateral and underwriting the loan. Beyond the source of payment, there are other, not so obvious factors that play into a facility’s success. The impact of a facility’s age and attractiveness, for example, can be deceiving. Older, superficially more “tired” assets with a well-respected administrative and nursing staff often remain extremely competitive and profitable based on the quality of care provided and the institution’s reputation in the community and with the network of referring doctors and hospitals. The operator of the facility is often more important than the facility itself.
What makes health care real estate a good investment?
It’s an asset class that tends to be more stable and less sensitive to economic pressures than traditional commercial real estate. That stability is likely to continue or improve as the demand for long-term care and health care services increases with the aging of the population. For the next 20 years, the population of individuals over 75 years of age is expected to increase by more than 3 percent annually and more than double by 2035. And despite this expected increase in demand, the recent recession resulted in a significant slowdown in new construction starts for health care facilities, which should further improve occupancy and financial performance at existing facilities.
Why is BancAlliance entering this market now?
We feel that the recent banking crisis and recession have caused many lenders, including those that operate in the health care space, to limit their exposure on any one particular transaction or to any one particular borrower. These lenders are actively looking to partner with co-lenders or syndication partners that have experience in the market, like BancAlliance. In addition, with interest rates at or near historical lows, there has been a significant increase in the amount of borrowers seeking longer-term financing from the government agencies and GSEs (government-sponsored entities). For a variety of reasons, many of these borrowers often need short-term bridge loans before they qualify for such financing. We believe these short-term bridge loans will be particularly attractive for our members.