Is an Impact Investing opportunity that promises gross yields of 16% pa or more too good to be true?
According to Productivity Commission analysis the Australian residential property market for an estimated 28,000 of the more than 400,000 participants in the National Disability Insurance Scheme (NDIS) is chronically under-supplied, with around 12,000 of those participants in real need of more suitable accommodation.
This includes around 6,000 younger participants living in aged care facilities, and a further 6,000 or so living at home in unsuitable and burdensome situations (with aging parents for example, or in properties with unsafe or inappropriate design characteristics). Anyone who watched Liz Hayes’ expose on this on 60 Minutes earlier this year, in which she spent time with family members in this situation could not help but be moved.
The heart-wrenching social and healthcare problem is not lost on those in power it seems. In a bid to attract private investment into the disability accommodation market, the federal government has created a program known as Specialist Disability Accommodation (SDA) that provides the opportunity for significant upside for residential property investors. Readers of the AFR may have encountered a recent article on the scheme and its attractiveness to a variety of healthcare and infrastructure funds.
To put the opportunity in perspective, when we crunch the numbers, a $650,000 house meeting the design criteria set out in the scheme rules and accommodating two qualifying SDA residents with “High Physical Support” needs (and with the facility for onsite carers) can achieve a gross rental yield between 16-18% depending on its location.
No wonder the fund managers are lining up I hear some shout. But given the inherent risks, and the many complexities of the scheme the NDIS “Pricing Model” seems appropriately priced, not over-priced. Of course, many individual investors, inclined to Impact Investing will be attracted to the scheme simply because of the significant social outcomes it can achieve. But even Impact Investors need to know the risks, so below we’ll look at some of those risks, but firstly who can invest in SDA, and how.
Who can invest in SDA properties
Conceptually, SDA provides the opportunity for individual investors to buy single residential assets directly and have them registered into the scheme. From a practical standpoint, however, there are a series of complexities that are likely to negate any broad scale direct investment by individual investors.
These include the need for each property to be registered into the scheme through an “SDA Provider”. Whilst there is nothing from a regulatory perspective to prevent an individual investor becoming a registered provider, the compliance hurdles associated with this are considered impractical for a single investment.
There are further complexities associated with the matching of properties with tenants. These present an operational challenge for single asset investors and could expose the investor to extended periods of vacancy if not handled properly. It must be noted that SDA payments are not payable just by registering a property into the scheme – the property owner must have a qualifying tenant in the property; and finding that tenant is the property owner’s responsibility.
With gross rental yields of up to 16%* (or higher) depending on the type of property, location, the design criteria category, and the number of tenants in each property, appropriately structured managed investment schemes would be expected to be able to deliver investors very attractive pre-tax cash distribution rates, potentially as high as 8.5% pa, (after all operating, maintenance and compliance costs and management and administration fees). That is before considering the longer-range returns through capital appreciation and recycling of assets, which over a 10+ year horizon would be expected to result in long-range annualised returns into double-digits.
Of course, fund managers will need to deal with a complex series of risks associated with the scheme too, with the ability to efficiently deploy capital perhaps being the greatest.
So, let’s look at the key risks.
Property type selection
In summary, the possible financial returns for properties in the SDA scheme vary greatly depending on the style, scale and accessibility of the dwellings.
The type of SDA properties delivered into the scheme, the target tenants, demand within a given location and overall amenity of the housing location can all impact the returns an SDA provider is able to generate. Certain accommodation settings, particularly those with what we’d call “entry level” criteria may have higher vacancy rates in the longer term.
There are restrictions on the number of dwellings that can be registered within a single land parcel. This has been designed with the goal of the elimination of large group homes over the next 10 years.
This is perhaps the greatest challenge for traditional fund and asset managers to deal with. Fund managers that are used to deploying capital in large chunks; acquiring a shopping centre, commercial office building, aged care facility or hospital for example, are likely to struggle with this issue the most.
In situations where more than two residents will reside in at least one of the dwellings on the single parcel of land, the dwellings that may be enrolled as SDA on the single parcel of land can house no more than 10 residents. In situations where two or fewer residents will reside in each dwelling on the single parcel of land, the dwellings that may be enrolled as SDA on the single parcel of land can house no more than 15 residents or 15% of the total number of expected residents whichever is greater.
Fund managers or developers looking to SDA as a “built for tenant” model may find the returns attractive but will need to navigate the complexities of these limits.
Locating and maintaining SDA tenants is a key risk factor with the NDIS requiring an SDA provider to take full vacancy risk. That is, there are no guarantees or safety nets provided by the NDIA should an SDA provider be unable to find (or retain) a tenant with SDA within their NDIS package, other than a brief period (up to 90 days) of continuity of payments between tenants in certain circumstances. This however does not apply in the initial stages of finding the first tenants for new SDA registered dwellings, which is where the greatest risk sits.
Whilst demand for SDA properties is likely to well outstrip supply, in particular in the first 5-10 years of the scheme, the complexities of identifying and securing tenants for new properties, which include the need to align properties with SIL (supported independent living) providers and ensure that potential tenants have approved NDIS plans that include SDA approval that aligns with the property, expose SDA providers to possible extended vacancies, particularly when a property is first registered into the scheme.
Partnering or co-investing with not-for-profits who understand the market can mitigate that risk, but exposes the investor to misalignment in the value of the social return versus return on capital.
SDA scheme registration risk
There is a risk that a property is built to SDA standards but then the provider cannot get it registered into the scheme because of design or construction deficiencies or misinterpretations. This is particularly complex in an apartment setting with the risks magnified by the number of contractors and sub-contractors involved in the construction process, and the potential for the individual apartment to comply, but failings to be identified in common areas. Once concrete is poured and set some things just can’t be rectified.
Risks associated with SDA payments
The prices paid by the NDIA for SDA housing are set by the NDIA and reviewed periodically. The SDA Rule states that the prices can be reviewed annually. Whilst it seems likely that the NDIA will continue to increase SDA pricing by CPI each year, there can be no certainty that this will be the case.
There is a risk that the NDIA could change the payment amount and/or frequency of SDA payments in the future. Although the NDIA has outlined that new dwellings will receive payments at the “new build” level for 20 years and then for a further 20 years at the “existing stock” level, it has also stated these payments will be reviewed each 5-years.
There is also the provision for a review of the SDA Framework through the Disability Reform Council of Commonwealth and State and Territory Disability Ministers (COAG). This will occur in the Framework’s third year of operation, which would be in either 2019 or 2020.
Whilst it seems that the NDIA recognises the need for certainty surrounding SDA payments and should take a position to “grandfather” payments at the levels that were paid when a particular dwelling was registered, there can be no certainty that this will be the case.
SDA presents an excellent opportunity for an “impact” investment with above market returns; and many will be attracted to investing in the scheme simply because of the significant social outcomes it can achieve.
SDA is not without it risks however and although those risks seem to have been appropriately priced through the very attractive returns available through the NDIA’s pricing model, investors will need to be cautious of the potential for extended periods of vacancy and the potentially high capital costs of “getting it wrong” in terms of meeting market demand in any given locality.
These risks can be mitigated by ensuring that any particular property designed for inclusion in the scheme has an alternate use. That is that if the market demand falls, or locality demand is other than anticipated, the property can be sold or rented into the broader market. This will require careful consideration to be given to design.
Careful due diligence will be required to ensure the many complexities of registering properties into the scheme are understood, that tenants can be found, that SIL supports are available in the area of investment, and that ongoing compliance obligations are able to be met.
With the exception of those who are attracted to investing in SDA to help fund a home for a friend or family member with a disability, it seems the best approach to mitigating these risks will be through co-investment with a not-for-profit with experience in disability services and accommodation, and/or through a registered wholesale or retail managed investment scheme, which, given the potential for high returns for relatively stable residential property assets, seem likely to emerge over time.
SDA Price Guide Extract
The table below is extracted from the SDA Price Guide to provide an overview of typical SDA pricing across a number of design categories and dwelling types (for “new builds”). The SDA pricing indicated below (and in the SDA Pricing Guide) is on a per resident, per annum basis.
|Category||Fully accessible||Robust||High Physical Support|
|No OOA||With OOA||No OOA||With OOA||No OOA||With OOA|
|1 bedroom, 1 resident||$48,890||$57,038||N/A||N/A||$73,872||$86,185|
|2 bedrooms, 1 resident||$59,360||$69,253||N/A||N/A||$91,917||$107,236|
|3 bedrooms, 2 residents||$25,190||$29,389||N/A||N/A||$41,469||$48,380|
What is Impact Investing
Through this article, we have talked of impact investing. Whilst a relatively new concept in Australia, impact investing has been gathering momentum throughout Europe for some time and we think you can expect to see more of this type of investment in coming years.
Unlike the more broadly defined term of ethical investing, that can often be applied to investments that merely avoid certain industries, companies, or asset classes, impact investing is about making investments intended to have a definable and measurable social or environmental impact (or outcome).
Impact investing helps solve problems and realise opportunities that are too broad or complex for not-for-profits, government, or philanthropy to tackle alone.
Impact investments may be made via investments into managed or pooled investment schemes or into projects or organisations, with the express intention of generating investors’ desired and measurable social and/or environmental outcomes, alongside a financial return (that may be at either below-market or above-market rates).
Impact investments vary from grants or other philanthropic means because a financial return is expected, and different from broader investments or finance options because measurable social and/or environmental benefits are at their core.
More suggested reading
The free SDA Investment Insights – Specialist Disability Accommodation explained eBook provides a comprehensive overview of the SDA scheme and explores not just the opportunities but what those potential pitfalls are. Click here to request a copy.
The SDA Price Guide is a summary of NDIS prices that apply for SDA and is publicly available from the NDIA website. It sets out the current pricing for SDA payments across different dwelling categories and types; and occupant numbers. For a comprehensive understanding of the scheme, the SDA Price Guide should be read in conjunction with a number of other documents, including the SDA Rules, the SDA Operational Guidelines, the SDA Guide to Suitability and the NDIS Terms of Business for Registered Providers, which are all publicly available from the NDIA website.