New lending programs to the rescue.

THE WAY THAT LENDERS AND INVESTORS MEASURE SUCcessful seniors housing and health care operators and owners in today's tight credit market is not a closely guarded secret. The best companies are expected to:

* thoroughly understand the nuances of Medicare and Medicaid 

* implement strong internal operational controls

* have a strong regional focus

* enjoy excellent relationships with state surveyors

* be 100 percent focused on running their businesses.

The successful operator may own one, two, or even a dozen facilities. The critical element is not the size of the operation but the ability and commitment of management to play by a new set of rules that has dramatically changed the profitability outlook for the seniors housing and health care businesses during the past 24 months.

This emphasis on business operating skills and planning is a direct response to the industry's current fiscal woes. The profitability and market value of many seniors housing and health care properties have been decimated during the past 24 months, costing investors dearly. For example, equity market capitalization for the nursing home industry plummeted from $13.4 billion in March 1998 to $2.3 billion at the start of this year, a decline of more than 800 percent.

Why the woes?

A variety of factors have contributed to the industry's credit problems, the most notable being changes in the national payment system for Medicare and the substantive pullback in the commercial mortgage-backed securities (CMBS) market that started the industry reeling in the summer of 1998.

The government's new Prospective Payment System (PPS) method of paying nursing home providers of Medicare services became effective in January 1999. It forced businesses to abandon a "cost-plus" system of reimbursement in favor of a new system based on national geographic averages. Resulting income shortfalls severely impacted the earnings and corresponding stock prices of public nursing home companies and their primary funding sources--health care real estate investment trusts (REITs).

The first public assisted-living companies arrived on the scene about five years ago with strong projected earnings expectations. Regrettably, these never materialized and the earnings shortfall had a deleterious impact on stock prices. When coupled with other factors such as the large number of older buildings in many markets, the highly attractive assisted-living market segment was lowered a peg as well.

As the seniors housing and health care industry struggled, major financial powerhouses such as Nomura Securities, GMAC, Conti Financial, and most health care public REITs pulled back significantly from previous levels of participation in the commercial mortgage-backed securities (CMBS) market. Prior to August 1998, the additional yields available to the CMBS lender on seniors housing! health care properties, combined with aggressive underwriting terms and conditions, created deep and wide liquidity for both small and large portfolios. Today, this funding well is relatively dry and loans in excess of $15 million or more are especially difficult to procure.

Value in the rubble

According to one estimate, about 80 percent of the funding options available to seniors housing and health care operators two years ago don't exist anymore. There is, however, this shiny side of the coin: Increasingly, investors are shopping for value in the rubble of the financially ruined nursing home industry. And new lending programs are coming to the rescue of operators who are making an effort to set their businesses on a sound financial footing. Lenders and investors continue to reward those operators who have been able to demonstrate strong survival instincts and planning skills, and companies that are making a concerted effort to return to profitability are finding some support as well.

What programs are most promising in the current financial environment? Acquisition and equity financing programs that bring experienced management and operating partners together with institutional investors look particularly good. In 1990, investment in commercial real estate also was out of favor. But lenders and investors who were able to ally themselves with competent sponsorship of commercial real estate lending and investment opportunities were amply rewarded throughout the decade, in some cases with 25 percent or greater leveraged returns. Given the inflated value of commercial real estate values in today's marketplace, it's not unreasonable to assume that some seniors housing and health care properties have the potential to yield comparable returns early in the new millennium. At least one lender with a long-term commitment to the seniors housing and health care industry is poised to become a lot more aggressive in this area.

There are a variety of new conventional debt products in the marketplace, including single property conventional financing programs, floating construction and bridge loans. An increasingly popular short-term bridge loan program is structured to provide borrowers with quick access to capital for congregate retirement apartments, assisted living facilities and nursing homes that ultimately will be funded using the HUD 232/223(f) or HUD 232 permanent and construction mortgage programs.

Few major money center banks have been involved in providing major credit facilities to fund 'multiple-facility portfolios, and the number has dwindled in the current credit crisis. However, a new large-scale senior housing credit facility for multiple facility owners and operators of congregate care and assisted-living properties offers loans of $50 million or more through an approved Fannie Mae DUS lender.

HUD loans have filled some important gaps in the current credit crunch. In the past, HUD's primary role was funding single-property, one-at-a-time venues. However, HIJD programs are now being adapted to meet the needs of borrowers with larger portfolios of assisted-living or nursing home products.

Primarily because of the industry's long-term demographic outlook, it can be expected that new funding programs and equity opportunities will continue to surface to support anticipated demand in an industry that serves a growing segment of the nation's population. The highly speculative era is over, but well-managed seniors housing and health care businesses can find the capital they need to grow and expand.

Jeffrey A. Davis is chairman of Chicago-based Cambridge Realty Capital Companies, one of the nation's leading seniors housing and health care industry lenders. The company purports to be the top HUD 232 lender in the country for refinancing, expansion, renovation, and construction of assisted-living facilities and nursing homes and is a qualified originator for Wall Street mortgage pools, specializing in multifacility senior living and health care construction credit facilities.