New Senior Is Getting Old

I recently sold my position in SNR after as disappointing ride up and then down on several occasions. With further downside probable, I’m staying away from this stock for awhile.

After researching some of the trends in healthcare REITs it was evident that many are diversifying away from Skilled Nursing Facilities and into other types of healthcare assets. I recently wrote a report on Sabra’s focus on increasing its Senior Housing assets through acquisition. Knowing we had New Senior Investment Group (SNR) in our portfolio and in light of the company’s recent announcement of a Strategic Review, I thought it prudent to take a closer look – and in fact – SNR was due for an update anyway.

Company Profile and Strategy

New Senior Investment Group is a publicly-traded pure-play senior housing (SH) REIT with a geographically diversified portfolio of SH properties across 37 states in the US. SNR’s portfolio comprises 133 properties including independent living (IL) facilities, assisted living/memory care, and a continuing care retirement community, of which a third are located in California, Florida, and Texas. These three states account for a third of total annualized net operating income (NOI) and it wouldn’t be surprising to me that at least Florida and Texas continue to grow as more and more baby boomers need senior housing and especially after the recent tax law changes make it much more attractive to live in low tax states.

Source: SNR Investor Presentation 1Q 2018

The properties, governed by either property management agreements or triple net (NNN) leases, roll up to the company’s two reportable business segments: Managed Properties – comprising the managed portfolio, and Triple Net Lease Properties comprising the NNN portfolio. The managed portfolio, composed of 51 IL and 30 AL/MC facilities, makes up about 61% of total investments made, generates 76% of annualized revenue, and contributes 49% to annualized NOI. Meanwhile, the NNN portfolio, composed of 51 IL facilities and one continuing care retirement community (CCRC) makes up the other 39% of investments, generates 24% of revenue, and contributes 51% to annualized NOI.

Source: SNR Investor Presentation 1Q 2018

Under NNN agreements, the operator is SNR’s tenant and is therefore obligated to make rental payments for use of SNR’s owned properties. The operator is responsible for day-to-day operations and expenses (e.g. related to property maintenance, insurance, capital improvements, and property-level staff-related costs) and generates its own revenue through the facilities’ operations. Because SNR does not have any direct responsibility for operating expenses, which fall on the operator, it is imperative that they closely monitor their operator’s performance for any signs of deteriorating fundamentals.

On the other hand, under property management agreements, the property manager is responsible for day-to-day operations and are paid a management fee for their services. The fee ranges from 3% to 7% of a property’s gross revenues, and in some cases, may include an incentive fee based on the properties’ performance.

SNR generates revenue from resident and service fees in the managed portfolio, and from rent in the NNN portfolio. The company’s ability to grow revenue is largely dependent on occupancy rates, contractual rate escalators, the effective administration of the properties by the operators/property managers, and appropriate operating cost controls in the case of operators. Currently, a single operator/manager, Holiday Retirement, accounts for 82% of total annualized NOI and controls 77% of the properties in aggregate belonging to both NNN and managed portfolios. While Holiday is a strong operator, the high level of concentration should be noted as a potential risk.

Source: SNR Investor Presentation 1Q 2018

Strategy and Objectives

SNR’s objective is to maximize shareholder value by optimizing investment opportunities in the IL and AL/MC segments within the senior healthcare market, where demand is strong due to significant increases in the senior citizen population, moderate levels of new construction, highly fragmented ownership, and the viability of operational improvements, which are attributed to the economies of scale enabled and enjoyed by its largest operator/manager, Holiday. SNR believes its focus on IL and AL/MC allows its investors to maximize market opportunities with lesser risk than that associated with higher acuity types of healthcare real estate.

SNR launched a strategic review in February 2018 with the aim of identifying strategic alternatives to maximize shareholder value. To date, the only announced outcome of the review is the decision to terminate the NNN leases with Holiday and to subsequently reposition the associated NNN properties into Holiday’s managed portfolio. On the surface, this move undoes the almost 50-50 property distribution between the NNN and managed portfolios, without impacting pay and operator/manager mix.

Source: SNR Investor Presentation 1Q 2018

The move is believed to benefit SNR by providing an upside of $116 million from termination fees and retained security deposits, allowing for the elimination of underperforming NNN properties, improving Holiday’s performance through new property management agreements with a variable performance/incentive scheme, and potentially increasing yield from 7.7% to ~8%. Beyond these ROI improvements, the greater benefit SNR sees is the flexibility a managed portfolio affords compared to NNN, in terms of accessing less cumbersome debt options and moving assets around among operators/managers – although there are no plans to do the latter at the moment. In any case, the flexibility to change operators is a key driver of minimizing the concentration risk even if, at least initially, the same percentage of properties will be managed by Holiday.

1 st Quarter Results and Update on the Strategic Reviews

SNR reported declines across key financial metrics in the first quarter. Net operating income (NOI) was $47.1 million, down by 15% from the same period last year and representing a net loss of $13.3 million. Normalized funds from operations (Normalized FFO) was $0.21 compared to $0.30/0.29 for the same period last year and adjusted funds from operations (AFFO) was $0.20 from 0.27. The declines were attributed to the sale of 19 properties in 2017 and decreased occupancy in the first quarter.

Source: 1 st Quarter Supplemental Information

Decreased occupancy was observed more in the managed portfolio, where occupancy dropped to 84.7% from 86.1% for the same period last year and 85.8% in the previous quarter. It was primarily attributed to competition from other senior housing developments and the seasonal flu. Meanwhile, NNN occupancy was flattish from 87.5% in the same period last year and 87.7% last quarter to 87.4%. Between IL and AL/MC, the former was observed to be more resilient to headwinds.

During the earnings call, a question was raised about the comparative impact of new supply versus the flu season as causes of occupancy decline. SNR CEO Susan Givens’ responded by saying it is not really possible to precisely point out which factor affected occupancy more and by how much. She remarked however that, based on operators’ feedback, this recent flu season presented more of a setback than in previous years. Further, implying that occupancy declines are seasonal and manageable, she mentioned that in the past year, substantial upticks in occupancy were noted in the 3rd quarter leading into the 4th quarter, particularly in the portfolio of Holiday after model changes were implemented. There was no indication that the company expected the same to happen this year, although the comments might suggest that that is the case.

There were no concerns raised about the quality of the company’s assets or any particular operator/managers’ performance during the earnings call. This could be taken as an indication that SNR’s portfolio and relationships are sound within the current framework of the business. What can be surmised from questions that attempted to tease out more details about the strategic reviews and SNR CEO’s reply is that the reviews and recently announced repositioning are meant to address issues of a structural nature, to ensure the right level of returns flow to investors and shareholders.

According to Givens:

We still feel good about the industry but the steps we are taking right now are really more focused on kind of our structure and making sure that we can create a good platform structurally that will enhance shareholder value. And so, I think the assets are sound some of the structural elements or kind of what we’re really focused on kind of really make sure that investors and shareholders get the value they should.

Asked about the timing of the conclusion of the reviews, Givens’ response was that no specific timelines have been announced, but that all parties involved (i.e. every single board member, the special committee, and others such as herself) are actively engaged in the exercise. She also emphasized that everyone’s goal is for the process not to be long drawn out.

The glaring risk readily gleaned from the earnings call is the uncertainty surrounding the strategic reviews, especially without specifics on the motivation and target agenda. On a related note, while SNR discussed the benefits expected from the termination of Holiday’s NNN leases and the repositioning of the associated properties into the managed portfolio of the same operator/manager, there is also little certainty around what the next actions for the newly configured portfolio will be. This is in light of Givens’ comments that the refinancing for the managed portfolio will be shorter term and with a costless pre-termination option, and that the management agreements would allow a level of flexibility to move properties to other operators – both features the NNN leases did not permit. Whether management has some doubts about Holiday are uncertain and they didn’t let on during the call that there was anything amiss. Still, I wonder why the big structural move to increase flexibility to move assets to other operators unless there was a legitimate concern. That, or management’s realization that not having the flexibility to move assets in light of the concentration issues, was a big risk.

Outlook for 2018

With Givens qualifying occupancy declines as an effect of seasonal and manageable factors, there was a sentiment that business will eventually pick up as the year progresses, in spite of overall underperformance in the first quarter. This sentiment, however, was overshadowed by the sense of uncertainty due to the ongoing strategic reviews, for which details have not been communicated to the public, and to a lesser extent, the outcome of NNN termination and repositioning activities, with the latter inviting questions on the company’s longer term plans, for example as regards to diversification from operator/manager and property-type standpoints.

While the currently high concentration on Holiday and IL may be viewed as a sign of the company’s high esteem in this operator/manager and property type, it may also be seen as a kind of provisional or transitional state, pending the conclusion of the strategic reviews. This notion is not unlikely, given SNR CEO’s multiple remarks on the company’s need for flexibility as the rationale, and also a benefit of the NNN lease termination and repositioning.

Valuation and Dividend Sustainability

SNR is down 24% over the last year and currently pays a 13% dividend. On a Price/AFFO basis, it’s difficult to determine a relative valuation because the stock lacks a long enough history to evaluate its long-term trading range. That’s important because although price/AFFO ranges can change for most stocks, they tend to stay consistent on a relative basis versus peers for a long-time. Some stocks always trade at a premium to their peers in the same industry either because of more predictable revenue streams, a more robust business model, name-brand recognition, or a number of other factors. We just don’t have enough history with SNH to determine that at the moment.

That said, many investors may have bought the stock not for its potential price appreciation but its hefty dividend. After recent results in which AFFO was $0.21 per share while dividends paid were $0.26 per share, I question whether the dividend is sustainable. The company does have plenty of cash on hand, but the last thing you want as an investor is for a company to dip into cash, or worse, raise capital to fund a dividend.

Our fair value estimate of the stock is around $7.50 and is driven by a decrease in next year’s AFFO, as well as a high level of uncertainty that warranted using a higher discount rate. Despite the stock looking fairly valued, however, there is considerable risk to the downside and in particular since there is no finalization of its Strategic Review.


I bought SNR on several occasions over the last 10 months and added to my initial position. On several occasions over that period I have rebalanced the position and bought and sold on several occasions generating a slight loss in the process – at least on a price return basis . Since I initially bought the stock, it has been down 8% on a total return basis, although my losses were lower. I did collect on the dividends and currently have an unrealized gain on the position in the portfolio, but it’s time to cut loose this sweet dividend until there is more clarity on the horizon.

As I wrote about last week, I believe Sabra Healthcare (SBRA) is a good candidate to replace SNR, particularly that it is now moving to diversify its portfolio by investing in Senior Housing assets.

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Disclosure: I am/we are long SBRA.

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