HCP HCP Inc

HCP, Inc. (HCP), a healthcare real estate investment trust (REIT), has recently formed a strategic alliance with Brookdale Senior Living Inc. (BKD) to operate 37 HCP-owned senior living communities that were previously leased to or operated by Horizon Bay Retirement Living. The deal is expected to close on August 1, 2011subject to regulatory approvals and fulfillment of other mandatory conditions.

Earlier, Brookdale had fully acquired the real estate assets of Horizon Bay – the ninth largest operator of senior living communities in the U.S. With the acquisition, Brookdale added to its portfolio 90 senior living communities with over 16,000 units across 19 states in the country.

The transaction was a win-win deal for both the participating companies. Post-acquisition, Brookdale expected to realize economies of scale through operational synergies and reduction in costs. In addition, the acquired portfolio was a strategic fit with its existing asset portfolio and increased both geographic and product diversity by adding new market networks or providing ancillary services in which it already has a presence.

The deal was also expected to provide significant upside potential to Brookdale with increased revenue-generation options, and strengthen its leading position in the market to capitalize on improving fundamentals. Furthermore, the acquisition had put on board a highly-experienced human capital in the form of a well-respected management team that enhanced its current capabilities as well as facilitated an efficient integration process. On the other hand, the asset sale enabled Horizon Bay to pair with one of the best in the industry and continue providing the highest quality products and services to the senior market. 

As an integral part of this transaction, Brookdale decided to restructure Horizon Bay's existing relationship with HCP.  Consequently, Brookdale formed a joint venture with HCP to own and operate 21 communities and leased from it the remaining 16 communities under ‘triple-net lease’ agreement. In a ‘triple-net lease’, the tenant pays all taxes, insurance, and maintenance for the properties, in addition to rent. On successful completion of the deal, HCP will own 61 senior living communities operated by Brookdale.

The joint venture with HCP was structured as RIDEA (REIT Investment Diversification and Empowerment Act of 2007), with Brookdale acquiring a 10% interest. RIDEA allows healthcare REITs to receive rents as a landlord and participate in operating profits as a tenant as well. According to the terms of the agreement, Brookdale will manage the communities under a 10-year management agreement with four 5-year renewal options and will retain all ancillary services operations. The portfolio is primarily located in Florida, Texas, Illinois and Rhode Island. 

The joint venture combines the respective strengths of the companies with the proper capital structure to enable them to maximize the portfolio's potential. The transaction is also expected to generate attractive return on investments (ROI), along with significant opportunities for future co-investment in the managed assets. According to management estimates, Brookdale is expected to invest approximately $47 million in the first year of operation, including acquisition costs, capital contributions to the HCP joint venture, integration costs, transaction expenses and capital expenditures related to the rollout of the ancillary services programs. The ROI is expected to average approximately 35% to 40% per year over a period of first three years of operation.

The transaction is a strategic move by HCP to expand its relationships with experienced healthcare operators who lease on a long- term basis thereby, preventing the company from short-term market swings and at the same time providing a stable revenue source. HCP is the leading medical REIT in the U.S. with one of the largest and most diversified portfolios in the healthcare sector with exposure to all types of facilities. The product diversity of the company further allows it to capitalize on opportunities in different markets based on individual market dynamics, and provides a hard-to-replicate competitive advantage over its peers.

We presently have a ‘Neutral’ rating on both HCP and Brookdale, which currently enjoy a Zacks #3 Rank that translate into a short-term ‘Hold’ recommendation indicating that the stocks are expected to perform in line with the overall U.S. equity market for the next 1–3 months.

 
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