Ventas (VTR 0.18%) and Welltower (WELL +1.01%) are two of the largest healthcare real estate investment trusts (REITs) around, both with material exposure to senior housing. They each provided business updates recently, just weeks apart from each other. The differences between the two could be seen as cause for concern or, more likely, a sign that good things are ahead.
Heading in the right direction
When Ventas provided its update in mid-December 2021, the big story was about recovery. Not only did the REIT reaffirm its funds from operations (FFO) guidance, but it also said it was on track to achieve continued occupancy gains. The latter is one of two major issues investors need to monitor today, as improving occupancy is the primary indicator of recovery in the senior housing space.
Image source: Getty Images.
Early in the pandemic in 2020, occupancy fell because move-outs increased (includes deaths), move-ins fell, and leads dried up. Given the coronavirus' outsized impact on older adults, that all makes sense. However, as vaccines were rolled out, with a special emphasis on those most at risk, Ventas' occupancy in senior housing assets it both owns and operates (known as SHOP assets) has materially improved. Occupancy increased through most of 2021, going from 78.7% at the end of the first quarter to an estimated 83.3% at the end of the year. That improvement was driven by strong leads and move-ins, accompanied by a decline in move-outs.
That update, however, was from before the new omicron variant had started to spread across the world, which is why Welltower's update is so interesting; it was provided after omicron's impact started to be felt. The REIT noted that occupancy trended higher in the fourth quarter, echoing Ventas' earlier statement. However, management also highlighted that in the two weeks prior to the Jan. 11 update, they had seen an increase in COVID case counts and witnessed increased costs for testing and a spike in salary expense because of omicron's impact on its staff.
Of particular interest here is that hospitalizations from COVID did not increase materially. And in an effort to offset cost increases, Welltower has been able to pass along "strong renewal rent increases" in January. Although omicron is a near-term wildcard, the big-picture takeaway is of continued strength and an opportunity for material margin expansion as costs decline.
Putting it all together
Occupancy is a very important number in the senior housing space because the more people there are in a facility, the more people over whom costs can be spread. Margins were, effectively, crushed as occupancy fell early in the pandemic. Because of the type of properties involved here, you simply can't run with fewer staff members.
|
Ventas Occupancy Trends | ||||
|---|---|---|---|---|
|
Q1 2021 |
Q2 2021 |
Q3 2021 |
Q4 2021 | |
|
Occupancy |
78.7% |
79.9% |
82.2% |
Est. 83.3% |
|
Year-Over-Year Change |
-960 basis points |
-370 basis points |
+80 basis points |
+200 basis points |
Data source: Ventas. Chart by author.
That is creating a double bind today, as employees call in sick from a new round of the coronavirus. For better or worse, the solution is to use contract labor, which can cost two to three times as much as an employee. This keeps residents safe and the doors open but is another hit to margins.
With occupancy trending higher, these REITs' senior housing businesses are strengthening at the core. That's getting hidden behind rising costs, notably for labor, but also for things like increased COVID testing. But if omicron spikes and then fades, like other variants have (and omicron has been doing in countries hit earlier than the United States), the cost impact should subside. And that, in turn, will lead to improved financial results. Add in the rate increases being pushed through, and the performance turnaround could end up surprising investors to the upside.
A big rebound could be coming
In the early days of the pandemic in 2020, there was a great deal of uncertainty. However, the past two years have taught the world a lot about the coronavirus. Each new variant is different, but the larger trends in senior housing are clearly for improved operating results for what is, effectively, a needed service.
And while Welltower's January update suggests omicron will have a near-term impact (notably rising costs), the other trends in place (rising occupancy levels and rate increases) will lead to improved results once the impact of the new variant starts to ebb. The first quarter will probably be tough for senior housing REITs. Don't get too upset. As the need for high-cost contract labor subsides and occupancy levels inch, perhaps erratically, back toward historic levels, profit margins will rebound. And the rebound could be bigger than you think.
