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Connell C - LB Mar 2022

Robust framework needed to establish a new financial model for leasehold – ARCO attendees told

An ARCO Conference panel titled “Expanding the Contract” focused on the leasehold system which is currently undergoing fundamental reform. Speakers of the panel discussed how alternative tenure models will redefine the relationship between operators and customers and shape the future of the sector.

Sam Dalton, ARCO’s policy and external affairs manager who opened the session said: “We’ve got a flavor through data of talking to thousands of elderly people about what they would like their contracts to look like. 52% said that they would be more likely to enter specialist housing for older people if the operator had a financial incentive to ensure a high resale value.

“Low ongoing fees, no unexpected bills and assurances as well protection of their interests seem to be key things we should be thinking about when looking at the existing contracts integrated at home communities. All of that links back to the finding that older people prefer to have more cash available by and large over assets.”

Setting aside the traditional leasehold model

Panellist Will Bax, chief executive of the British residential property developer Retirement Villages, talked about a new financial model which sets aside the traditional one. He said: “The sector’s model has been traditionally a classic residential trader, development model. Developers sell homes, they bank a profit, and they recover the long-term management costs through service charge. However, a new financial model is starting to emerge, a model that recognises the complexity of managing these communities well, and the long-term nature of ensuring that the operators are aligned to get out the good outcomes that we desire for our customers.

“We are now offering customers the option to pay a higher deferred management fee, allowing them to reduce their annual running costs and incentivize the operator to take delivery and cost risk for the provision of false call services, repair and maintenance, staffing, amenities, running in restaurants, care, etc. That deferred fee then becomes payable on exit from the onward sales proceeds of the property. In charging a risk premium for all those services that the operator delivers, we’re able to create a sustainable value in the long-term operations of the site of the community, whilst giving the customer more choice and flexibility as to how they pay for it. “

He added that investors are increasingly willing and able to take a longer-term view on how operators create value, and better align the financial interests of the operator and the customer. But a “more robust” regulatory framework is needed for investors to feel more confident in promoting that approach.

The proposed ‘Leasehold+’ model

Sally Ireland, director of legal and compliance at ARCO further discussed the proposed ‘Leasehold+’ model – a type of leasehold that is unique to the integration with the retirement community with a new lease, explicitly designed for the Integrated Retirement Community (IRC) sector, with government backing, secured protections for the sector and transparency to customers.

“With Leasehold+, the operator sells the new lease to the first customers. And when they finally want to move out and a new buyer is found, a three-way transaction takes place. The lease is surrendered to the operator and a brand new lease is granted to the new buyer.

“There’s also an important relief or clawback of the stamp duty. Every transaction looks like that and is tailored to the customer needs. It’s always a business-customer transaction, and the operator retains much more control over the process. Each customer is affected by UK Consumer Law,” she added.

Speaking about the key benefits of Leasehold+, she said that it’s a win-win situation for customers, operators and policymakers. “We’re already talking to government about it and they are listening,” she concluded.

JLL analysis – What the investment community thinks of ‘Leasehold+’

Analyzing the recent results of a JLL Later Living research, Anthony Oldfield, director of healthcare capital markets at JLL, explained what the investment community thinks of ‘Leasehold+’.

There is increased appetite from investors in the sector, he said, but although there is a big amount of money out there, there is a shortage of sites. He outlined the need for new operators like Opus, a new later-living developer and operator, backed by real estate funds managed by ActivumSG Capital Management.

According to the research, the top reasons to invest in the sector are demographics and demand-supply dynamics. Other priorities are achievable returns and stable income. Diversification of investment portfolio and early-mover advantages were disciplined last.

For Oldfield, it is not surprising that demographics and demand-supply criteria were the top priorities. “Over the next four years, the over 65 age group will contribute to 93% of the total population. Going back to the last four years, only 7% of the housing stock that we built in this country is dedicated to a specialist later living use,” he said. “We will require an additional 75,000 later living homes and 30,000 care homes over the next four years and investors are well aware of that.”

The top barriers that hold investment back include the scarcity of investable platforms, the lack of control data, the lack of supply and scale as well as the lack of clarity on legal framework around different fees and potential risks.

Key takeaways of the report were that investor appetite is strong with a particular interest in the rental and for-sale with DMF models. Also, the research found that Leasehold+ is no silver bullet but an aggregation of marginal gains that will increase investment. Last but not least operational IRCs continue to perform well on sale, according to the research.

Oldfield added that the least surprising finding is that ESG criteria are very important for investors concurring with panellist Jamie Bunce, chief executive of property management company Inspired Villages, who pointed to the importance of setting net zero operational targets. Inspired Villages are indeed looking to be net zero operational by 2025.

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