Two weeks ago we wrote about the dire state of most of the real estate in the UK’s elderly care sector, and laid out the case for investing in new builds. But another – cheaper – option for real estate investors is renovating and expanding existing buildings.
Purpose built facilities built in the last 25 years account for only around a quarter of care homes in the UK. Most UK care homes are old converted houses with under 50 bedrooms. Yet according to Alberto Fernandez, CEO of Healthcare Activos (a Spanish REIT), this is far too small – care homes should ideally have 90-120 bedrooms, in order to achieve critical mass and economies of scale for the operator.
One obvious solution is to build more brand new purpose-built facilities of appropriate size. This is an option which Target Fund Managers (TFM), a UK REIT focused on the care sector, has a preference for, as it allows the investor to get involved in designing the building from scratch, as TFM’s head of investment John Flannelly explained to us.
But Impact Healthcare REIT, another UK REIT focused on the care sector, believes new builds are not going to be able to provide enough quality and affordable care beds for the UK’s rapidly ageing population.
“Although the care home market is attractive, it’s difficult to create much new supply. There’s a limited amount of suitable land and there are many other valuable uses for it, such as new housing. This contributes to the high cost of building a care home, which is usually more than £200,000 per bed,” Andrew Cowley, managing partner at Impact, told us.
Cowley believes renovating and expanding existing properties is a much more viable way to provide affordable quality care home beds at scale: “An older home with an established trading record costs around £70,000 per bed and is less risky. This means residents’ fees have to be much higher for new build homes than for existing homes. Only a limited number of people can afford those fees and the state-funded sector, in particular, is reluctant to pay that much.
“Older homes also offer opportunities to add value, by updating them, adding facilities and much needed beds and improving their environmental performance. More than 50% of registered care homes are over 20 years old and they’re only being modernised at a rate of 1-2% a year, which is another reason we favour this part of the market over new builds.
“We work closely with our tenants to identify ways we can grow together, and keep a close eye on their financial and operational performance. We do this by continuing to invest in our assets, to improve the environment for residents and staff, enable our tenants to broaden their offer (for example by adding specialist dementia beds) as well as adding much needed new beds, and to make them more environmentally sustainable. We typically rentalise these investments at 8%, which means we earn an extra £8 in annual rent for every £100 we invest. With our leases running for up to 35 years, it’s vital that our rents remain affordable to tenants in the long term. We therefore look to set initial rents at sustainable levels and then increase them only with inflation each year.”
Looking at what has happened in recent years to groups where unsustainable rent levels have been set (Southern Cross saw its landlords taking back leases it could no longer afford to pay rent on), this would certainly seem to be one prudent solution.We would welcome your thoughts on this story. Email your views to Martin De Benito Gellner or call 0207 183 3779.