Health-care REITs poised to take a dip?

The Washington Post Sunday - - BUSINESS - BY JEF­FREY R. KOSNETT — Kiplinger’s Per­sonal Fi­nance

If you think all beer is beer, tooth­paste is tooth­paste and REITs are REITs, think again. Dur­ing the past decade, real-es­tate in­vest­ment trusts that own health-care-re­lated prop­er­ties, such as hos­pi­tals and nurs­ing homes, have de­liv­ered an­nu­al­ized to­tal re­turns of 19.9 per­cent, on av­er­age. Over the same pe­riod, prop­erty-own­ing REITs as a group re­turned an av­er­age of 11.4 per­cent a year, and Stan­dard & Poor’s 500-stock in­dex was flat. More­over, the av­er­age health-care REIT boasts a cur­rent div­i­dend yield of 5 per­cent. That com­pares with 3.5 per­cent for the av­er­age prop­erty REIT and 2 per­cent for the S&P 500.

Med­i­cal REITs showed their met­tle dur­ing the credit cri­sis of 2008 and 2009. Al­though prices of health-care REITs sank, the de­clines were not nearly as se­vere as for other REITs. Twenty REITs of var­i­ous kinds paid div­i­dends in stock in­stead of cash in 2009 and many oth­ers chopped their cash pay­outs, but only two health-care REITs trimmed cash dis­tri­bu­tions.

Steady ten­ants over long term

The con­sis­tency of med­i­cal REITs makes sense. They are not closely tied to con­sumer spend­ing, travel or job growth, so they hold up in bad times. Over the long term, hos­pi­tals, nurs­ing homes, med­i­cal labs and as­sist­edliv­ing res­i­dences are solid cash gen­er­a­tors, so they’re steady ten­ants for the REITs that own health-care fa­cil­i­ties.

But just as a healthy thor­ough­bred can pull up lame, so can a win­ning in­vest­ment cat­e­gory. For the first time in at least a decade, the out­look for med­i­cal real es­tate is less than stel­lar. Avoid in­vest­ing new­money in the sec­tor. And if you’re sit­ting on big gains, con­sider cash­ing in your chips.

What’s the prob­lem? For starters, med­i­cal REITs are ex­pen­sive. As a group, they sell at record-high prices rel­a­tive to funds from op­er­a­tions, the REIT in­dus­try’s pre­ferred method of mea­sur­ing prof­its (FFO is es­sen­tially earn­ings plus de­pre­ci­a­tion). Over the years, the price-to-FFO ra­tio for health­care REITs has ranged from 8 to 13; to­day, it’s about 17. More­over, a bunch of med­i­cal REITs re­cently is­sued gobs of new­stock or are plan­ning to do so. This sug­gests that REIT ex­ec­u­tives might think that now is a bet­ter

time to sell shares than to buy.

Role of govern­ment re­form

In­vestors worry about over­ex­pan­sion and, as you might ex­pect, the ef­fects of health-care re­form, par­tic­u­larly its im­pact on govern­ment in­surance pro­grams. Al­though it’s true that “you can’t throw Grandma out of the nurs­ing home,” says John Roberts, a REIT an­a­lyst for Hil­liard Lyons, a bro­ker­age in Louisville, Ky., “ the ma­jor ten­ant is the govern­ment”— ei­ther di­rectly (through own­er­ship of med­i­cal fa­cil­i­ties) or in­di­rectly (throughMedi­care and Med­i­caid pay­ments).

In ad­di­tion, hos­pi­tal-own­ing REITs of­ten ex­pand in part­ner­ship with uni­ver­si­ties and med­i­cal schools. But state and fed­eral agen­cies are of­ten in­volved in fi­nanc­ing these ven­tures, adding an­other el­e­ment of un­cer­tainty stem­ming from health-care re­form. Some REITs lease prop­erty to fa­cil­i­ties that rely on pa­tients who pay out of pocket and, in the­ory, aren’t af­fected by com­ing changes in health in­surance. But this, too, isn’t a sure thing. Take Ven­tas (sym­bol VTR), which owns hos­pi­tals, nurs­ing homes and se­nior­hous­ing fa­cil­i­ties and has de­liv­ered amaz­ing re­turns (31.2 per­cent an­nu­al­ized dur­ing the past 10 years). Ven­tas re­cently paid more than $3 bil­lion in cash, stock and the as­sump­tion of debt for the real-es­tate as­sets of Atria, a chain of 118 lux­ury as­sisted-liv­ing res­i­dences, at a time when this busi­ness is strug­gling and over­built.

Ven­tas chief ex­ec­u­tive De­bra Ca­faro says the deal will boost Ven­tas’s earn­ings and div­i­dends by 2012. But Atria’s oc­cu­pancy rate is al­ready 87 per­cent. Rents av­er­age a stiff $4,300 a month, so it will be hard to gen­er­ate much higher rev­enue. There’s no way this buy­out will be a bo­nanza for Ven­tas. With its share price el­e­vated, Ven­tas has lit­tle mar­gin for er­ror. The same goes for all med­i­cal REITs.


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