The Commission on Affordable Housing and Health Facility
Needs for Seniors in the 21st Century
September 24, 2001
Executive Vice President and General Manager
Marriott Senior Living Services
Thank you very much for the opportunity to discuss Marriott's history of participation in the senior housing industry along with some of the methods and means that it uses to develop, finance and operate a variety of facilities in this very important industry. Marriott's Senior Living Services Division has grown in a relatively short period of time into a major operator in the industry. It currently stands as the second largest manager of senior housing communities, with locations in 32 different states and a total capacity to accommodate about 25,800 seniors spread across independent living (IL), assisted living (AL), dedicated alzheimers' programming units (SCC) and skilled nursing health care units (HC). The product-line capacity is broken down by about 30% IL; 47% AL; 8% SCC and 15% HC.
Marriott International, the largest and most diversified of the lodging operators in the world entered the senior living segment of the market in 1984 after engaging in extensive study and analysis. It believed that its core business skills in the operations, marketing, customer services, hospitality programming and people development as well as the positive Marriott brand name would provide an inherent advantage for it over other operators in the business. Its presence in the business has been marked by very specific strategic decisions and very mixed financial results. The business, which the company originally thought would have a high correlation with its existing businesses, has turned-out to have as many differences as similarities to its core lodging business and has evolved very differently from original anticipations. In the seventeen years that Marriott has been in the business, there have been several periods of strategic direction, which have positioned the company in different segments.
Period 1 - Business Start-up
Marriott's first period in the senior care business ran from approximately 1984 to 1986. This period could be termed the lifecare start-up time. It developed large-scale (300+ sized) units in the suburbs of Washington D.C. for the retired military officer association and in the suburbs of Philadelphia for the premium segment of the market. The typical customer would be a financially very well-off couple who was in the process of making, or had made, a lifestyle decision to sell their home and move to a retirement community. Marriott saw the incorporation of the continuum of care on the campus (i.e. a skilled nursing unit, or SNF as it is termed) to be an inherent advantage so that as the residents aged they would have the peace-of-mind knowing that their physical needs could be met without relocating elsewhere. Marriott financed these projects internally with corporate funds and expected to own and operate each community. Success for these two projects was to be the result of aligning them with the company's core competencies of hospitality services.
We found that large projects required a long and lengthy land use analysis and review by a variety of local and state boards to gain approval. Significant sums of cash were required upfront and were a huge drain on the company until the actual construction could commence. We also found that the Lifecare concept also has its own regulations that must be met which add to the time requirement. The 50% pre-sale requirement before construction lengthens the time for the cash exposure without a return.
Even though these projects have been very successful for Marriott, we concluded that the Lifecare concept does not enable the company to grow significantly quick enough to fulfill the expectations that a public company has from both its internal and external (i.e. investing) communities' perspectives. We also determined that the actuarial risk associated with Lifecare is a significant negative for Marriott.
Period 2 - 1987-1991 Diversification and Growth
The second period saw a broadening of the product portfolio to accelerate the growth potential of the business. Several acquisitions of existing Continuing Care Retirement Communities (CCRC's) that used a monthly rental concept were made while the original two projects were built and opened. The rental concept enabled faster business growth, appealed to a broader segment of the upscale market since it did not require extensive initial capital investments by either the residents or their families, and maintained the perceived continuum of care advantage while increasing Marriott's operating knowledge for the senior business. During this period, market share was to be won by "winning on service" which was believed to be an advantage that Marriott brought to this business.
Marriott also began the development of its free-standing assisted living concept during this period. It incorporated the idea of targeting the frail segment of the elderly who were financially well-off in a given market and adding skilled nursing services in a distinct unit for the continuance of the peace-of-mind concept. We found that the larger the project, the more difficult it is to run, especially when incorporating the skilled nursing services. The availability of management talent to lead each building is problematic since each of the nursing units requires a licensed nursing home administrator and in only rare circumstances can you afford to have a separate nursing unit manager from the General Manager for the building as a whole. Marriott also found that the certificate of need (CON) process constraints in several states restricts the ability of growing the free-standing assisted living facilities when they incorporate a skilled nursing unit. Local zoning approvals for all of the senior products are non-standard, difficult, very time-consuming and financially high risk was also a conclusion in this period.
Period 3 - 1991-1993 Slow Down, Re-Tool
The emphasis during this timeframe was to maintain and protect our competitive position in each of the local markets that we had entered while attempting to keep the investment of any new capital to a minimum. Pursuit of new CCRC's stopped due to the large outlay of capital for the company and the lack of a viable third party financing strategy. The company pursued a low volume assisted living strategy because the prototype had to be refined and the financability of the product was still being proven. During this period, however, 14 CCRC's were sold to a REIT and 2 assisted living properties were sold to 501C3 projects. In each case, Marriott retained a long-term management contract to operate the facilities. It was during this time that the company saw the difficulty of financing large CCRC's off its balance sheet. Consequently, virtually all CCRC building stopped.
It was during this period that the financing strategy employed by the lodging side of the company took hold in the senior living business segment. Essentially, the company believed that its greatest strengths were that of an operating management company and that the investing community more greatly valued an organization whose skills were of operating excellence. It was felt that uncoupling the real estate from the operations would enhance the value of the firm and also provide funds for growth through the sale of the assets.
Period 4 - 1994-1996 Accelerate Growth, Absorb Forum
Early success in being able to sell several assisted living facilities while being able to fill them quickly lead to a strategy of using them as the growth vehicle for the company. Wall Street was also enamored with the new term "assisted living" at this time. New companies specializing in assisted living, which de-emphasized the use of the term "nursing home", captured the market's and the families' of potential residents attentions. The acquisition of the Forum Group added to the CCRC's in the company and opened-up new assisted living concepts to the company. The A/L sector of the business attracted investors and fueled growth by building, and then selling, the physical assets of the properties to investors while Marriott retained long-term management contracts. The CCRC segment of the market slowed greatly because of its excess capacity and the inability to finance large projects. Many operators in the long-term care industry saw the opportunity to grow the assisted living segment. There was a large influx of developers and operators into this business during this time. Marriott did find that the equity model of financing a CCRC through a co-op was achievable at this time and could work. We also found that the hospital sponsored CCRC was a success, but long-term management opportunities for us may be questionable.
Period 5 1997-2000 Aggressive A/L Rollouts and Financial Difficulties
Marriott decided to aggressively grow the assisted living segment by using a three-brand strategy - high, medium and low. Each was aimed at a different segment of the socio-economic scale. The Brighton Gardens would be a high-end product aimed at the upper middle and upper class; the Mapleridge product which emphasized family-style living in smaller clusters would be more of a middle-class product while the Village Oaks which emphasized companion living would target the middle and lower middle classes. While the quick rush to market inspired the growth of the entire assisted living industry, by the end of 1999 the industry began to experience an excess of capacity in virtually every major metropolitan market in the U.S. Due to the capacity situation and the operational difficulties experienced by some of the providers, the development of new projects ceased unless there was third party financing already in place.
The Current Situation
As is the case in every industry, the current state of the industry and its development opportunities are deeply tied to its operational successes or difficulties. The assisted living and skilled nursing businesses which comprise about 70% of MSLS' bed capacity are experiencing the same issues that plague the entire skilled nursing and assisted living industries - management talent constraints, a severe shortage and in some cases a lack of licensed nurses, out-migration of frontline and management staff from the industry, skyrocketing liability insurance costs, if you can get it, and, increased medical benefit costs for current employees. These issues are in addition to the supply/demand ratio that continues to be out of balance in virtually every major market. The net effect of these issues is an industry that has great difficulty in gaining financing today. Investors will not invest in market segments where the manager or operator can not make an adequate financial return. When there exists significant gaps between the projected and expected performance returns, the investing community, whether it is Wall Street, partnerships or other companies, will look elsewhere where greater more favorable economics exist. This is the current case for the industry. We are staring at a liability insurance situation where cost increases are not only extraordinary, but the exposures to unbounded claims make questionable the financial viability of anyone who operates in the business regardless of size or health of balance sheet. Our own ability to finance projects is difficult at best in this environment. When a financially secure company like a Marriott begins to experience problems in finding investors for its properties, it should send out alarm signals to our society that there are significant, fundamental issues that need to be addressed. Less well-funded and more highly leveraged operators have their business livelihood jeopardized by these phenomena. Without some type of cap on awards made by juries and judges in cases where some unfortunate event occurred, there will not be much of an industry to serve the needs of an increasingly aging population. Extensive discussion of this issue is not appropriate here where the emphasis is on the financing of projects. But, ignoring these aforementioned issues may result in either the shrinkage or demise of the industry at a time when it should be expanding to meet the projected needs of an aging population.
Thank you for the opportunity to share a bit of our history with its associated successes and difficulties. I look forward to a continuance of this dialogue so that we can better prepare our society for the housing needs of our senior population.