At long last a post that has fewer than 5,000 words! Last week, I was day one Chairman of the 2nd annual Retirement Living World China conference in Shanghai. In seeing that this was the second such conference and we are, in effect, in the fourth year of this industry, I began to think that it high time for some quantitative, analytical presentations. Alas, despite my encouragement and pleadings with the corporate sponsor/event manager to set presentation standards, I was frustrated. But there were a few very good presentations and a very welcome announcement from Mark Spitalnik and Tom Hill that they have founded the China chapter of IAHSA. Congratulations! to these visionaries.
Perhaps it is still early and China is, after all, not the most transparent environment for data collection. However, development of presentations which attempt to resolve industry issues should not be binary, meaning a best efforts analysis or not....I mean, it is possible to make studied deductions based on market observations and offer them up for debate without access to reams of data. Insightful presentations can be done in a detailed manner and while they may not carry the weight of an academic, full market scan using tons of publicly available, indisputable data; they are helpful if for nothing else than high quality deliberation.
On day two I was told I offered up such a presentation and I firmly believe it is the first attempt at a supply/demand evaluation of the China senior living market. Here is my hypothesis and what I said:
Hypothesis:
"Near term growth of supply in China senior living assets, particularly the high-end lifestyle product, may significantly outpace demand and if true, the resulting imbalance is likely to persist for the mid-term..."
The Fuel Rods
The driver of China's nascent senior living industry is of course its demographics and much has been made of this phenomenon. Not that the demographics of China aren't unusual in their structure or amazing in their enormity, they are indeed; but I have found the attraction to the data and their use to be wholly without critical assessment. For example, everyone speaks about the 170 million Chinese seniors over the age of 65...and this is indeed the figure which has been reported by the various Chinese authorities and supported by the China Research Center on Ageing (CRCA). But this figure is a gross number and hasn't been vetted for those characteristics which might preclude one's use of a senior living facility, which characteristics are namely income and other cultural inclinations. In fact, as of today, no one has really attempted to qualitatively assign a size to what I call the China Senior Living cohort (CSL cohort). The question is: what is the population cohort that can be reliably measured/thought of as consisting of persons that have the requisite characteristics to consider a senior living facility?
Fact is, there are no indisputable figures that would lead one to an unquestionable calculation of the size of the CSL cohort. But I have done a bit of work in on this figure, such as a conjoint analysis of 550 elderly persons, estimates of the number of those older Chinese who earn over RMB 250,000 per year and careful review of certain luxury retail sales from which inferences can be made about population size as well as other observations. Based on these analyses, I strongly believe the CSL cohort of Chinese seniors from which senior living facilities will draw their residents is today approximately 10.2 million or roughly 6% of the total population of Chinese 65 and older (170 million). This CSL cohort will expand 12% over the next 4 years to approximately 11.4 million by 2016 based on standard population growth estimates provided by the CRCA.
The Reactor
Over the past three years, I have traveled from Harbin to Sanya, from Shanghai to Chengdu in my search for and examination of senior living projects in China; my interest lies in their construction not only from a size, design and physical point of view but also in the development of their service and aged-care operations. The result from this exploration has been a database of projects replete with relevant information on their construction, operations, cost and occupancy among other critical industry data. To my knowledge, this data yields the only available metrics on current supply of senior living in China.
At present, based on my personal observations, I know there to be approximately 25 (give or take 2) senior living projects in China. I define "senior living projects" as 1) a western style residential project, 2) built in the last 5 years, 3) specifically constructed and intended for adults over the age of 60, 4) age appropriate amenities for recreation and living support and, 5) offering any one or combination of the following living accommodations: independent living, assisted living and aged-care or skilled nursing capabilities. As a concrete example, this list would include such well known projects as Yue Cheng in Beijing, Yanda International Healthy City in Hebei province and Qinggang Elderly Nursing Center in Chongqing.
It should be well noted that I am not making any distinction between strata title projects, rental projects or any other unique operating characteristic such as a membership program. This analysis is a broad, industry wide compilation of projects which adhere to the 5 criteria set forth above. I readily admit that this is somewhat of an indiscriminate enquiry and as such may restrict the extent to which I can make accurate projections, but we have to start somewhere. Here are some further data on the present inventory and relevant supply conclusions:
- Current supply has a present total bed count of 12,500 (average of 500 beds per project);
- There is a total census (occupancy) in these projects of 4,250 yielding an industry wide occupancy of 35%;
- Using the CSL cohort figure of 10.2 million, it would seem the current penetration rate is approximately .04% (only relevant when compared with western industry standards of 6%-7%).
Loss of Coolant
Measuring future supply and demand is a wholly different matter and this exercise really relies entirely on my firm's presence in the market place and our care in noting all projects currently in planning (i.e., architectural drawings complete and ownership of land) or under construction. This is simply because there is no clearing house for such data presently in China; no one keeps track of these projects, collectively. So other than what we have gathered here, one would need to go out and spend 12 months counting projects, which is the next best alternative. Again, our data on these figures come directly from clients, discussions with prospective clients and visits to local planning commissions or government officials.
Our data, with respect to future supply, is as follows:
- There are 450 new projects currently under planning throughout China, of which I believe 75% (allowing for 25% attrition or cancelled projects) will be completed in 2-5 years;
- If completed, these projects will produce a new supply of 168,750 new beds (500 bed average) yielding a total bed inventory of 181,250 beds.
The vastly more difficult aspect of this exercise is determining what future demand will be. We have long discussed this at my firm, consulted with CRCA friends and it is widely agreed among us that no calculus exists today to estimate future senior living demand. So, after much deliberation, we decided to simply ask a different question, namely: What level of demand would be necessary to achieve two threshold scenarios: 1) an industry wide 75% occupancy (liminal profitability scenario) and, 2) an industry wide 40% occupancy (meltdown scenario) once all 168,750 new beds came online?
- Scenario 1: Sufficient demand growth to 75% occupancy (industry wide) requires 32x increase in bed occupancy (linear calculation of 136,000 occupied beds from 4,250) - penetration rate of 1.2%; and
- Scenario 2: Growth in demand to 40% occupancy (industry wide) requires 17x increase in bed occupancy (again linear: 72,500 occupied beds from 4,250) and penetration rate of .64%.
Taken alone and without any additional context, these are staggering growth figures and I believe, superficially unachievable. However, there are mitigants and these scenarios as they strictly appear above are not likely to occur. Yet some industry fallout, and some is the operative word, is inevitable.
Moderation of Chain Reaction
The China Syndrome, starring Jack Lemmon, Jane Fonda and Michael Douglas, was a gripping 1979 drama about the potential dangers of nuclear power. The term, China Syndrome, refers to a catastrophic accident, the fictional result of the meltdown of a nuclear reactor beginning with the loss of coolant fluid in the reactor and the partial or complete exposure of the fuel element assemblies.The core elements melt and burn through the containment vessel, the housing building and then notionally through the crust and body of the Earth until reaching the other side of the planet, which in the United States is popularly said to be China.
However, in reality, the physics of a China Syndrome is widely held to be unrealistic for a number of reasons, most notably, gravity. Yet, a large hole, hundreds of miles deep and thoroughly contaminated for thousands of years with deadly radiation is troublesome enough. In similar fashion, a China senior living Syndrome is my fanciful account of what I see as a potentially impaired market based on unrestrained, wildly speculative development of senior facilities. Such a scenario would retard operational growth for quite some time.
It is entirely possible that a China senior living Syndrome will not occur and I have at least 4 reasons as to why (all likely and reassuring):
- Capital constraints may restrict supply- every developer in China (unlisted) needs cash today and without it he is unlikely to pursue further real estate development;
- Lumpy, inefficient market- This analysis is admittedly theoretical for a number of reasons but most importantly because it is based on: i) an industry without publicly available data, ii) gross, industry wide averages and iii) a fair share analysis which doesn't strictly apply in nascent situations. It is however, and I stress, not entirely far-fetched;
- Developer attrition- Neophyte China senior living developers may opt out due to i) eventual realization that senior living isn't really a property business, ii) exceedingly long dated ROI and iii) high degree of complications with having to build operator;
- The China axiom- Like the early 1990's Nokia cell phone lesson where great debate was held on how many mobile phones should be produced for their first manufacturing run...it was decided that 50 million was sufficient; they learned 3 months later that demand was actually 500 million. In essence, never underestimate China; demand could meet the theoretical supply.
Resumption of controlled fission
I believe it is impossible that the industry will not experience some over-capacity in the near term, in fact with present occupancy at 35% we are already there. But even in the next two years with intensified excess supply, given the nature of an embryonic industry, it will be wholly possible for astute, well prepared developers to "beat the market" and exceed industry averages in terms of occupancy; I have no doubt on this. But preparation and market insight will be the threshold imperatives for such out-performance. Going forward, reliance on one's previous experience, be it western or local, will be inadequate. And finally in this regard, Good News! As a consequence to however severe or mild the over-capacity might be, I project that by 2014 the China senior living landscape will be populated with "value add" opportunities or a new age in distressed investing where the winners are masters of both the real estate and operating sides of the business.
Lastly, I want to make a few remarks about what I perceive as the vast, over-estimation of the high-end senior living market in China. I define the high-end as projects with a membership cost of RMB1.5 million or more, or in the case of a unit sales project, a cost per square meter of RMB30,000 or more. The mid-range is represented by a project with a membership cost of RMB500,000 to RMB1,000,000 or, again in the case of a unit sales project, a cost per square meter of RMB10,000 to RMB20,000.
Today, despite all the market chatter, there is no successful high-end senior living project in China...none, period. In fact, there are a couple examples of very unsuccessful high-end attempts. What is more, the successful (read: moderately successful) projects that exist today are solidly at the mid-range of the market. The reasons for this are just emerging, but I think it has to do with a number of phenomena:
- No truly 5 star senior living operator exists to compliment a high-end facility, so residents are left without meaningful services; and,
- Chinese seniors aged 70+ are children of the revolution, civil war, famine...you name it...they have no shortage of traumatic experiences. All of which has made them very thrifty, frugal spenders....even if they are wealthy. Conspicuous consumption is largely the domain of those born after the death of Mao.
Again, I could be wrong, but it feels like the Emperor has no clothes...there is little to no data to support high-end senior lifestyle facilities. Now my caveat: specifically excluded from this discussion is a high-end, need-based product or sub-acute, long term care facility. I see tremendous demand here as every single skilled geriatric nursing facility in China has a long waiting list, especially the elite hospitals that cater to high government or military officials.
With this article, I am clearly revising my thoughts on the China senior living market. It is not a negative revision at all; I am just fine tuning my outlook to accommodate near term choppy waters. In the long term, I remain very positive. I live, eat and sleep this business and see it evolving on a daily basis but no longer do I have the blind faith in the high-end market I once held: I am now agnostic and suggest a "hold" at best for this sub-sector. Further, the potential over supply and probable slow demand curve concerns me in the near term. I recommend going "long" on the mid to lower-mid range market or swap out to the sub-acute, skilled nursing sector; there's reliable data there and no catastrophic meltdown in sight.
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