What is the RIDEA structure?

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By Scott McCorvie | CEO, Enhance Senior Living

What is the RIDEA Structure?

By Scott McCorvie, CEO, Enhance Senior Living.

Enhance Senior Living is a national senior living broker firm specializing in nationwide senior living investment brokerage solutions including active adult brokerage, independent living brokerage, assisted living brokerage, memory care brokerage, and skilled nursing brokerage. Learn more about our senior living broker and operational improvement solutions and contact us today to learn how we can help you enhance senior living today.

If you liked this article, be sure to read other articles on the Enhance Senior Living News section, along with subscribing to the Enhance Senior Living Podcast on all podcast platforms including: Apple Podcasts | Spotify | Amazon Music

There’s been a lot of news about the RIDEA structure, but there seems to be some confusion on the make-up, utilization, and perceived benefits and risks of the structure. Within this article, I’ll examine the history of the RIDEA Act, describe how it is typically utilized by REITs, and list some of the benefits and risks inherent within the design.

RIDEA (typically pronounced Rye-Dee-Uh, or Rye-Day-Uh) is an acronym that stands for the REIT Investment Diversification and Empowerment Act. This legislation was enacted in a REIT reform act of 2007 and allowed REITs to change the way they accounted for healthcare real estate income. Prior to this act, healthcare and senior living real estate investments had to be structured as leases (typically triple-net leases) with monthly rent payments and annual escalatios over a specific term.

The RIDEA Act allowed REITs to participate in the actual net operating income produced at the community, as long as there was an involved third-party manager. The legal structuring includes creating Taxable REIT Subsidiaries (TRS), with an in-place lease between the landlord and tenant entities (both owned by the REIT).

How did this change the senior living investment landscape? Instead of REITs just underwriting the stagnant rent income with annual escalations over the term of the lease, REITs could analyze and underwrite larger shifts in operations and go-forward income potential. This is critical for value-add investment where there is material upside from enhanced occupancy and operational efficiency, and opened the door for REITs to expand their acquisition and investment horizon (including joint venture investment structures).  Additionally, the investment underwriting mentality shifted from tenant credit profile and lease coverage analysis (net operating income / rent payment), to sophisticated operating underwriting proforma models, in-depth market analysis, and operator selection incorporating senior living leadership, culture, and prior performance / experience.

So, what are some of the benefits of this structure? The main benefit is the ability for the REIT to invest in non-stable assets (including new development and value-add investments), and the opportunity capture increased annual income growth from enhanced senior living operations and operational efficiency. Instead of the standard 2-3% rent escalations in a triple-net lease structure, the REITs can benefit from the market rent increases (or rent adjustments), increased occupancy, and overall operational improvement and efficiencies. This has led to normalized income growth well above the 2-3% range.

For example, during the second quarter of 2014, Ventas (VTR) reported their U.S. RIDEA portfolio (called their seniors housing operating portfolio) experienced income growth of 6.6% on a year-over-year, same-store basis. This is almost double the range of any typical escalation within a NNN lease investment. Another benefit is a hedge against inflation, as increased inflation will lead to larger increases in rental rates, operating expenses, and overall NOI. The Tenant/Manager can also benefit, as they do not need to assume the long-term liability, but still maintain favorable management fees from operations, as well as potential incentive management fees tied to superior performance.

But, there are also some additional risks. Along with the ability to greatly increase the operations, there is also a risk of decreased operations and income (no credit guaranteed rent). However, this can be partially mitigated by creating credit enhancements within the Management Agreement (to be discussed in a later article). These credit enhancements can also create favorable alignment between the REIT and Manager, as both are focused on maximizing operational efficiency and operating income.  

Additionally, since the REIT is participating in the operations, there is additional risk of potential legal liability. There are also increased on-going operating costs, including a TRS income tax (from the difference in the TRS lease rent), as well as on-going capital expenditure investments to maintain a competitive advantage and appeal of the community within the market. Last, it’s critical the REIT maintains a solid asset management platform, including constant monitoring of operating metrics, and a team experienced in senior living operations and market fundamentals.

Overall, the RIDEA structure has definitely changed the way REITs look at potential senior living investments, and with effective underwriting, program implementation, and asset management, and coupled with traditional NNN investments, the RIDEA structure can positively enhance the income growth and overall returns of a senior living portfolio.

Enhance Senior Living is a national senior living broker firm specializing in nationwide senior living investment brokerage solutions including active adult brokerage, independent living brokerage, assisted living brokerage, memory care brokerage, and skilled nursing brokerage. Learn more about our senior living broker and operational improvement solutions and contact us today to learn how we can help you enhance senior living today.

If you liked this article, be sure to read other articles on the Enhance Senior Living News section, along with subscribing to the Enhance Senior Living Podcast on all podcast platforms including: Apple Podcasts | Spotify | Amazon Music

Senior Living Portfolio Premium

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By Scott McCorvie | CEO, Enhance Senior Living

Senior Living Portfolio Premium

Enhance Senior Living is a national senior living broker firm specializing in nationwide senior living investment brokerage solutions including active adult brokerage, independent living brokerage, assisted living brokerage, memory care brokerage, and skilled nursing brokerage. Learn more about our senior living broker and operational improvement solutions and contact us today to learn how we can help you enhance senior living today.

During discussions with varying senior living owner/operators and smaller investment groups about their exit strategy, I hear the phrase, “portfolio premium” thrown around a bunch. But, I question if these groups really understand the methodology behind the portfolio premium, and how to truly maximize this premium within the senior living industry. So, in this article, I’ll analyze the methodology behind the premium, and discuss ways to maximize the premium.

The portfolio premium is really based on the economic theory of economies-of-scale, along with the acquisition and investment appetite of the larger, listed healthcare REITs. Each acquisition takes 60-120 days of negotiation, legal documentation, capital sourcing, and due diligence to close. The amount of man hours, energy, and dollars spent on a single-asset acquisition varies very little to a larger 10-asset portfolio acquisition. Therefore, the portfolio premium partially reflects all the time and energy used in developing and/or acquiring single assets to ultimately sell in a single transaction to a larger investment group.

Additionally, the acquisition appetite of the larger healthcare and investment groups can alter the premium. Investment groups grow through new acquisitions and development investments. However, when an investment group has $20-30 Billion in assets under management, they need to make larger portfolio acquisitions (hundreds of millions) to really move the needle. And, since the larger healthcare REITs have the lowest cost-of-capital of healthcare real estate investors (can create new equity and bond offerings), they can afford to pay the highest prices and obtain the same return hurdles as investment groups with a higher cost-of-capital.

Now, both proceeding theories are not unique to senior living, as they are utilized in all institutional commercial real estate investment strategy. However, senior living does have some unique attributes that can really impact the portfolio premium. Besides physical attributes like size, market, design, and quality of the assets, additional portfolio premium variables are geographic clusters, operator/management selection, and operating/legal structure. Healthcare REITs and investment groups typically already have relationships with operators/managers, and like the ability to change the management (if desired) post acquisition to groups already in their portfolio. And, since it’s not as efficient for senior living managers to operate a single-asset outlier to their geographic concentration, it’s most appealing to have clusters of 3-5+ properties in any given geographic zone. Additionally, since it’s always disruptive and risky to change management, having institutional-quality management/operators in-place, is always desired. Last, the portfolio premium can be impacted by the cross-collateralization of the lease and/or management structure.

Enhance Senior Living is a national senior living broker firm specializing in nationwide senior living investment brokerage solutions including active adult brokerage, independent living brokerage, assisted living brokerage, memory care brokerage, and skilled nursing brokerage. Learn more about our senior living broker and operational improvement solutions and contact us today to learn how we can help you enhance senior living today.   

To learn more about ways to enhance our senior living industry, be sure to subscribe to the podcast, The Enhance Senior Living Podcast.

Senior Living JV Investing

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By Scott McCorvie | CEO, Enhance Senior Living

Senior Living Joint Venture Investment

Enhance Senior Living is a national senior living broker firm specializing in nationwide senior living investment brokerage solutions including active adult brokerage, independent living brokerage, assisted living brokerage, memory care brokerage, and skilled nursing brokerage. Learn more about our senior living broker and operational improvement solutions and contact us today to learn how we can help you enhance senior living today.

I get a lot of questions regarding different structures for seniors housing real estate investment. Most of you are probably aware of the traditional sale-leaseback, or sale-manageback (RIDEA) in seniors housing. But, with private equity groups dominating the transaction markets lately, there's a new focus on JV transactions. In this article, I’ll analyze the basic structure of the JV, waterfall cash flow distributions, and the pros and cons of the structure for seniors housing.

Just as the name states, a joint venture is a shared partnership between two or more entities within a single investment. The JV includes at least one Limited Partner (“LP”) and at least one General Partner (“GP”). The LP owns the majority position of the equity, and is typically an institutional investment group (REIT, Private Equity, Family Office, etc.). The GP will own a minority position in the equity, and is typically the seniors housing developer/operator. Together, the GP and LP will own 100% of the equity, with typical splits being 80/20, 90/10, or 95/5. This structure is frequently used for new development, but can also be used for acquisitions – especially when there’s material upside from improved operations, unit conversions, renovation, market reposition, etc.

So, why mess with the complexity of a JV structure for seniors housing? I’ll look at this from both the LP and GP perspective. For the LP, it creates less financial risk as they typically take a preferred position to the cash flow distribution (discussed later) from both operations and future sale. It’s also beneficial to the LP as it creates favorable alignment for the operator to be fully invested in the overall operations and bottom line (compared to a management fee arrangement). For the GP, it creates higher compensation for improved operations and value creation. It also gives the GP more control over major decisions like renovations, conversions, capital expenditures, management decisions, financing, and dispositions.  

However, there are some things to consider before jumping into a JV arrangement. First, on both sides, the legal fees are much larger and can be much more time-consuming negotiating the documents. Also, the GP will need to provide 5-20% of the equity, which will be illiquid for the life of the investment. The GP, as partial owner, is also typically bound by the covenants and guarantees of the financing. There are also things to consider on the LP side. The LP, although majority owner, does not have absolute control over the investment and any future capital decisions (refinancing, disposition, etc.). Also, the LP typically cannot quickly change the operator if the performance goes south (assuming the GP is the operator).

And, the biggest question is how does the LP and GP split the cash flows from operations and value creation? This is the biggest risk mitigate for the LP and incentive for the GP. The JV documents will list out how the cash flow is distributed for both groups, and is typically structured as a “waterfall” with multiple tiers based on pre-determined financial metrics (“hurdles”). Each JV is unique, but the LP typically has a preferred position “pref”, and will receive all cash flow, or pari-passu (pro rata share) of cash flow until a predetermined investment hurdle is achieved (i.e., 8% equity return, 12% leveraged IRR, etc.). After the first hurdle is achieved, the GP will start receiving an unequal (larger) portion of the cash flow compared to their equity investment. This unequal distribution is referred to as their “promote” and will continue to increase as the financial performance increases. The waterfall usually contains multiple hurdles, with the GP receiving larger portions of the cash flow upon meeting each hurdle.  

Overall, JV structuring is present in all commercial real estate investing, but is predominant in seniors housing. This is largely due to the strong operational nature of the industry, and how critical it is to have the right operator (and fully aligned operator) to achieve maximum financial success.

To learn more about ways to enhance our senior living industry, be sure to subscribe to the podcast, The Enhance Senior Living Podcast.

What is the RIDEA structure?

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Scott McCorvie, CEO of Vita Senior Living (www.vitaseniorliving) discusses the RIDEA structure and how it impacts senior living real estate investment.

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