Investing in Canadian Senior Housing Companies: Chartwell, Sienna, and Extendicare^*

INTRODUCTION

In early April 2022, Betty Ross, aged 50, received an electronic monthly statement for her registered retirement savings plan. Seeing that most of the funds in the account were uninvested, she recalled that she had been thinking about the prospects of the Canadian senior housing sector. Betty saw great potential for growth in this niche sector due to favorable demographic trends arising from seniors' life expectancy, health, and immigration. According to the estimates of Statistics Canada, by 2030, when the youngest baby boomers turn 65, seniors (65 or older) in Canada will make up 21.3%–22.9% of the population—notably higher than the 18.5% that they made up in 2021 (Statistics Canada, 2022). In 2011, the percentage of Canadians over 65 residing in either long-term care (LTC) or retirement homes was 7.9% (7.1% in LTC and 0.8% in retirement homes), but this proportion considerably increases with age. For the age cohorts 65–69, 70–74, 75–79, 80–84, and over 85, the percentages of seniors living in LTC in 2011 were 0.9%, 2.0%, 4.8%, 11.4%, and 29.6%, respectively (Statistics Canada, 2011). All indications are that these proportions will not fluctuate significantly; only the relative demand will increase due to this growing demographic.

Betty was looking to diversify her portfolio and invest in a senior living company that was best positioned to benefit from this demographic opportunity. The sector also offered her both stock price growth opportunities and stable dividends. She also mused that she would eventually need senior housing herself, so it would be wise to invest in a company to which she might possibly need to give a significant portion of her retirement savings. She decided to do her due diligence before investing.

Note: For pedagogical purposes, this sector and the companies in this case study do not necessarily represent a more worthy area for investment as there are numerous exogenous factors not addressed in the case study that warrant analysis in a real-life setting. Also, as a potential investment, the senior care industry is more than just the housing market. The elderly have a greater desire to “age in place,” especially post-pandemic. Therefore, there has been, and there is likely to continue to be, an uptick in home care service. However, one of the reasons for focusing on the senior housing market is the availability of financial data from publicly traded companies. In addition, the senior care housing sector represents the largest share of the senior care industry.

INDUSTRY BACKGROUND

The Canadian senior housing sector comprises a few large and many privately owned small and medium providers of LTC and retirement services (see Appendix 1). The LTC segment of the sector is funded by the federal government, which allocates funding to LTC homes (also called nursing homes) in the provinces and territories. LTC homes provide support to individuals—usually with complex needs–who have difficulty obtaining their own care. Seniors who qualify for LTC require continuous supervision or can no longer independently take care of themselves. Requirements to qualify for publicly funded LTC may vary by province. In addition to the cost of personal care and nursing, seniors may also be eligible for a government subsidy to pay for the accommodation charges while living in an LTC home.

Unlike the LTC segment, the retirement living segment is privately funded by seniors who direct their own care in a retirement home. Therefore, anyone being of the required age can qualify for retirement home services since all costs of living in a retirement home (also called a retirement residence) are covered by the resident.

In terms of size, Chartwell is the largest of the three based on market capitalization and assets. However, Extendicare has the highest number of employees. All three companies have a significant portion of their total assets in property and equipment, especially Chartwell (see Appendix 3).

Another significant company within the sector is Revera. Revera is a wholly owned subsidiary of the Public Sector Pension Investment Board, a Canadian Crown Corporation.

COVID-19 IMPACT AND CALLS FOR THE DEPRIVATIZATION OF LTC IN ONTARIO

The COVID-19 pandemic has had a disproportionate impact on residents in LTC facilities across Canada and has highlighted the industry's lack of preparedness for pandemics. By the end of 2021, LTC residents accounted for 3% of all COVID-19 cases, yet they made up 43% of all COVID-19 deaths in the country (Canadian Institute for Health Information [CIHI], 2021). It was found that high COVID-19 infections and deaths, especially in Ontario and Québec, were primarily due to a lack of LTC staff, an absence of clear policies for LTC homes, and insufficient personal protective equipment in LTC facilities (Akhtar-Danesh et al., 2022). In response to these concerns, the Canadian government took measures to limit the impact of the pandemic in LTC homes. The measures included prioritizing LTC residents and staff during vaccine rollouts and deploying members of the Canadian Armed Forces to support struggling LTC homes that were hit hard by the COVID-19 pandemic. The pandemic, and a scandalous report by the military, revealed shockingly low standards of care at many LTC facilities across Ontario and Québec. Alarmed by the situation at LTC homes, Ontario Premier Doug Ford called the province's LTC system “broken.” He also did not rule out the possibility of integrating the province's LTC system, which is funded and regulated by the province, into the public health care system, thus ending private LTC practice (Carter, 2020). Advocacy groups, such as Doctors for Justice in LTC, also called for ending for-profit homes as their residents were at high risk of death from COVID-19.1 The threats of deprivatization in the LTC segment poses new challenges for Extendicare, Sienna, and, to some extent, Chartwell.

There are also ongoing lawsuits against these companies given the alleged negligence to adequately protect their vulnerable residents. In addition, there are likely to be increased operating costs for LTC resulting from new regulations. There is limited capacity to pass these additional costs on to LTC residents as revenues are mostly drawn from government subsidies.

COVID-19 also had a damaging financial impact on the three publicly traded Canadian senior housing companies. During the initial waves of the pandemic, the stock prices of the three companies plunged 30%–50% from March to July 2020 (see Appendix 4). The ability of these companies to recover high occupancy rates while keeping expenses low during the pandemic, coupled with the deprivatization risks for LTC, could be among some of the main reasons to worry investors. However, the shares had recovered much of the losses by mid-2021 as the three senior housing companies were getting back to their pre-pandemic occupancy levels (see Appendix 5).

INVESTMENT OPPORTUNITIES AND OPTIMISM IN THE SECTOR

As the senior housing sector recovers from the pandemic, the three companies have already intensified their efforts to capitalize on future opportunities arising from the need for senior housing. Talking about the future for the sector on BNN Bloomberg on March 29, 2022, the CEO of Sienna, Nitin Jain, expressed strong optimism about the growth of Canada's senior housing market and shared his insights that private investors and the Government of Canada were making significant investments in the sector, driving valuations higher. Earlier, in February 2022, Sienna announced a significant expansion of its Ontario retirement business and entry into the Saskatchewan retirement market (Sienna Senior Living, 2022a). Chartwell has also been increasing its market share by making acquisitions of recently developed retirement homes in Ontario. Unlike Sienna, Chartwell is mainly focusing on the retirement business. Recently, the company has announced that it is selling some of its LTC units to other companies in the industry. Chartwell's investors viewed the company's heightened focus on its retirement business positively, pushing company's stock price higher after the announcement (Chartwell Retirement Residences, 2022a). Extendicare, on the other hand, is increasing its focus on LTC by acquiring an interest in new LTC homes (Extendicare, 2022a). Therefore, although there remains much overlap, there appears to be a tendency towards a concentration within the industry—that is, to specialize rather than diversify. The question is whether this concentration will improve efficiency sufficiently to offset the increased risk.

Intrigued by these recent business expansions, Betty grew even more enthusiastic about investing in the Canadian senior living sector. Reviewing the financial statements of the three companies, she also saw that each company invests a significant portion of its cash flows in the acquisition of new properties and assets (Appendices 6–8). As of April 1, 2022, the stock prices of Chartwell, Sienna, and Extendicare were still down about 15%–20% compared to their pre-pandemic levels, while the S&P/TSX Index was up over 20% in the same period. Betty thought of this as an indication of undervaluation given the opportunities in senior housing in Canada.

In addition, with inflated real estate prices throughout Canada, especially in many metropolitan areas, there is likely to be an influx of cash to seniors from selling their current homes. This will increase the proportion of seniors who can afford a suite at a retirement residence.

FINANCIAL DATA AND RATIOS

To decide which company to invest in, Betty started analyzing the financial position, financial performance, and cash flow situation of Chartwell, Sienna, and Extendicare. She gathered the most recent financial statements (Appendices 6–8) and prepared select financial statement data for the 5 years from 2017 to 2021 (Table 1). She also calculated several financial ratios for each year in this period (Table 2). All of this information helped Betty analyze the comparative financial strengths and weaknesses of each company.

Since the asset and income characteristics of senior housing companies differ from many other companies, Betty also decided to look at a few non-GAAP measures. She prepared the information in Table 3 on NOI, funds from operations (FFO), and adjusted funds from operations (AFFO) for the most recent 5 years. She started seeing additional insights which could be very relevant to the valuation and future performance of these companies.

VALUATION

Betty's financial analysis so far gave her a good idea of the financial strength and performance of Chartwell, Sienna, and Extendicare in the past few years. She now wanted to understand whether these companies could be overvalued or undervalued and how they compared to each other and the industry. To answer these questions, she decided to apply four valuation techniques: the net asset–based approach, using each company's net asset value (NAV); the dividend discount model (DDM), using the companies' historical dividends; a relative valuation approach, using valuation multiples; and the discounted cash flow (DCF) model.

For the NAV approach, Betty used NOI values from Table 3, long-term debt values from Panel B of Table 1, and a cap rate of 5.48%.2 Using these data, Betty obtained a liquidation value for each company. She then used the number of outstanding shares in Table 4 to derive per share/unit NAV values, which she compared to the current share price of each company (see Table 4).

Betty also wanted to use the DDM to improve her understanding of the valuation of the three companies. She obtained the distribution history (see Table 5) from the website of each company and calculated distribution growth rates for the past 10 years. Betty's analysis used the historical dividend amounts along with other required information that she prepared on the risk-free rate, market returns, and company beta (see Table 4). As Betty was looking at the results of her DDM analysis, she wondered about such a big discrepancy between the current stock price and intrinsic value obtained from her model for each company.

Next, Betty decided to perform a relative valuation analysis by comparing valuation multiples that she prepared for each company as well as the industry. Her analysis in this step started yielding more valuable details about the investment value of the three companies, and she started seeing some results that were consistent with many findings from the prior steps. The relevance and importance of each ratio presented in Table 6 was apparent.

Finally, to determine the intrinsic value of each company, Betty performed a DCF analysis. This analysis entailed estimating future cash flows for a specific time frame and determining a terminal value to account for value beyond that period, and then discounting both the projected cash flows and terminal value back to present value using a discount rate. Betty had to make assumptions regarding several inputs (e.g., cost of capital, growth rates) in this analysis. See Table 7 for information on the DCF model.

QUESTIONS

TEACHING NOTES

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