CareTrust CEO: Default ‘inevitability’ informs portfolio restructuring in ‘pivotal year’


CareTrust REIT (Nasdaq: CTRE) discussed efforts to de-risk its portfolio, detailing plans to reallocate 32 of its assets while remaining active in the market, during a fourth financial quarter earnings call on Thursday.

The 32 assets – a mix of skilled nursing and seniors housing – represent about 10% of the real estate investment trust’s contractual cash rent and will be sold, re-let or repurposed, said CareTrust CEO Dave Sedgwick.

Specifically, the REIT aims to reassign a minority of the 32 assets to behavioral health facilities, an undertaking that is expected to take between 12 and 18 months.

CareTrust conducted “stress tests” of its portfolio, updating the impacts of the delta and omicron variants, labor costs and dwindling vendor relief funds (PRFs).

“We think there’s a bit of inevitability for default risk going forward, based on these stress tests,” Sedgwick said. “Our thinking is that instead of playing the ‘postpone and hope’ game with people who have been on our watch list for so long, it makes more sense to remove the uncertainty.”

Even before the pandemic, San Clemente, Calif.-based CareTrust made efforts to de-risk its portfolio. In August 2019, the REIT terminated its head lease with skilled nursing operator Trillium Healthcare Group and sold three of its seven Trillium-operated facilities.

“I think if we hadn’t done this work in 2019, we wouldn’t have had the performance we’ve had so far during the pandemic,” Sedgwick said. “We are now trying to take care of the cracks in the foundation so that we can see into the future.”

CareTrust reported 100% of contract rent collected for the fourth quarter on the call, although the REIT only collected 93% of rent for January of this year. Net income was $18.3 million for the quarter, down 13.3% from the fourth quarter of 2020. Normalized funds from operations (FFO) was 37. 3% for the quarter, an increase of 9% compared to the fourth quarter of 2020.

The results were in line with analysts’ expectations, although BMO Capital Markets said in an analyst note on Wednesday that the repositioning of 32 assets was a “negative surprise” despite expecting “some SNF pain.”

For the year, CareTrust generated net income of $72 million and normalized FFO of $143.9 million.

Investing in a seller’s market

Sedgwick said CareTrust intends to take advantage of the seller’s market, with a lot of struggling products, although that’s not normally a place the REIT “likes to play”.

Plans may include redeploying product into new investments “underwritten for today’s realities,” Sedgwick added. Given the early stage of its investment strategy, CareTrust has postponed its guidance until more progress has been made.

CareTrust’s pipeline is between $75 million and $100 million, according to chief investment officer Mark Lamb, consisting mostly of skilled nursing facilities and a few senior housing assets.

Lamb and Sedgwick said the REIT is excited to partner with a “leading lender” in the space to fund loans for future growth in target markets with select operators.

“Retirement home market prices have never been stronger,” Lamb said. “We are cautiously optimistic that the reality of [Provider Relief Funds] drying up and an ever tighter labor market will force owners to sell their assets.

Lamb believes a weak market supply, trade-hungry private liquidity, and post-pandemic operator strength and efficiency are all contributing to the strength of nursing home market prices.

Supply in the NFC market could pick up as the investment community continues to strongly value nursing home assets, Lamb added.

“We should look at 2022 as a pivotal year in our history,” Sedgwick said on the call. “We are more excited than ever about our expanding mission to match high quality operators with skilled nursing care, senior housing and now behavioral health opportunities for many years to come. »

CareTrust also sees opportunities to deploy more capital this year, with all options on the table, particularly regarding the redeployment of all 32 assets; the REIT is considering redeployment not only in behavioral health, but also in skilled nursing and senior housing.

Its share buyback program approved in 2020 is still “significant leverage” available to CareTrust, Sedgwick said.

Subsequent to the fourth quarter, the REIT acquired a 155-bed specialty nursing facility in Ennis, Texas for $8.9 million, including transaction costs. Eduro Healthcare resumed operations on February 1 after adding the property to its head lease as part of CareTrust’s growing relationship.

The REIT also acquired two vacant seniors housing and memory care facilities in New Jersey for $12.4 million, including transaction costs – the acquisition brought total investments in 2021 to 200 millions of dollars.

Behavioral health as a new growth vertical

Sedgwick sees CareTrust’s behavioral health redirection initiative as a “powerful new asset management tool” for prioritizing and strengthening prime leases in the future. This is an asset class the REIT has been looking to enter for years, he said on the earnings call, and will provide the company with a new vertical for growth.

A sizable number of skilled nursing and assisted living properties come to market quite distressed, Sedgwick explained, leaving the REIT to buy properties at a good price and underwrite behavioral health.

Sedgwick said negative earnings before interest, taxes, depreciation, and amortization (EBITDA) can be removed from facilities converted to behavioral health.

“That seems like a no-brainer, especially if the return you’ll get from that asset is competitive with, or even better than, what you’d get from re-letting or redeploying proceeds from sales,” Sedgwick said.

Stabilized tenancy coverage for behavioral health properties should be three times that of skilled nursing facilities, if not more, Sedgwick said.

For now, CareTrust’s entry into behavioral health will be by reallocating the minority of its 32 mentioned assets to restructuring.

Behavioral health repurposing can take 12 to 18 months before rent comes online, Sedgwick explained, between signing the lease, redeveloping the asset and obtaining zoning and licensing permits. .

The cost of renovating properties to meet behavioral health standards depends on the extent of the renovations needed — some can take $1-2 million, and others $3-4 million, Sedgwick added.

“Unlike skilled nursing and seniors housing, there’s an element of zoning that’s really important,” Sedgwick said. “This zoning, this preliminary due diligence work is going on right now on a handful of these properties.”

Behavioral health operators already licensed to manage facilities in a state means less time needed to reallocate an asset, Sedgwick said.

“It’s similar to what the nursing home industry was doing 30 to 40 years ago, in terms of regulations and licensing requirements,” Sedgwick said of the behavioral health asset class. .

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