Rent cover and the profits method both start from EBITDARM, which is measured before the replacements a care home has to keep buying.
Budget maintenance capex for a care home from the life of each component, not from a round figure per bed. On an illustrative 70-bed home, replacing furniture, care equipment, decoration, kitchen and laundry, plant and fabric over their lives costs £106,592 a year, £1,523 a bed, 2.5 per cent of revenue. Deducted from EBITDARM, it takes rent cover from 1.80x to 1.65x, and against a flat £1,000-a-bed assumption it is £36,592 a year that a buyer would otherwise capitalise as profit.
Worked in full in Senior Living and Healthcare Real Estate by Julian R. Sterling, with every figure reproduced in a free workbook.See the book on Amazon →
EBITDARM and rent cover are measured before capital expenditure, which is why they flatter a home whose rooms are tired. Under a full repairing lease the operator pays for replacements, so the cash available for rent is EBITDARM after the capex the building actually needs. The same number matters to a buyer of a trading home: two homes with the same EBITDARM are not worth the same if one needs half as much spent on it every year.
| Component | Replacement cost | Life, years | A year | Per bed a year |
|---|---|---|---|---|
| Bedroom furniture and soft furnishings, 3,500 a bed | 245,000 | 8 | 30,625 | 438 |
| Profiling beds, mattresses, hoists, 2,400 a bed | 168,000 | 10 | 16,800 | 240 |
| Redecoration and flooring, 2,000 a bed | 140,000 | 6 | 23,333 | 333 |
| Kitchen and laundry equipment | 120,000 | 12 | 10,000 | 143 |
| Mechanical and electrical plant, lifts, nurse call | 350,000 | 20 | 17,500 | 250 |
| Roof, windows and external fabric | 250,000 | 30 | 8,333 | 119 |
| Total | 106,592 | 1,523 |
The home runs at 90 per cent occupancy, 63.0 residents, at an average weekly fee of £1,300, which is £4,273,427 of revenue over 52.1786 weeks. EBITDARM is £1,250,000 and the lease is written at 1.80x cover, a rent of £694,444, £9,921 a bed.
Annual reserve for each component = replacement cost ÷ life
Total reserve = 30,625 + 16,800 + 23,333 + 10,000 + 17,500 + 8,333 = £106,592, or £1,523 a bed
Share of revenue = 106,592 ÷ 4,273,427 = 2.5%; share of EBITDARM = 8.5%
Rent cover after capex = (1,250,000 − 106,592) ÷ 694,444 = 1.65x
Excel: =SUMPRODUCT(Cost,1/Life), then =(EBITDARM-Reserve)/Rent
Two thirds of the reserve, 66 per cent, is in items that scale with the number of beds and wear out within ten years. That is the part a resident and a commissioner see, and the part a regulator's inspection report notices first. The kitchen, plant and building fabric are the other third of the annual figure but arrive as large, lumpy bills, which is why a survey that dates them matters more than the average.
This home needs £1,523 a bed a year to stand still. Measured after that spending, the 1.80x lease covers its rent 1.65x. A model carrying a flat £1,000 a bed, £70,000, shows 1.70x and overstates the cash available by £36,592 a year. Capitalised at the 9.0x multiple used in how to value a care home, that gap is £329,325, £4,705 a bed, paid by a buyer for profit the building will spend. That holds where the multiple is meant to capitalise cash after a realistic reserve; where a market multiple of profit already allows for a normal level of spend, what matters is the gap between this home's need and that norm, not the whole reserve.
The headroom also changes. Before capex, EBITDARM can fall 44.4 per cent before cover reaches 1.00x. After capex the fall the tenant can absorb is 35.9 per cent, because the replacements still have to be paid when trading weakens, or they are deferred and the rooms become harder to fill.
For a landlord the reserve is also a test of the lease. If the operator under-spends to protect its cover, the cost does not disappear: it reappears as a backlog in the building the landlord gets back at expiry or on a tenant failure, and as weaker occupancy in the years before. A lease that requires a minimum annual spend per bed, evidenced each year, turns the figure above from an underwriting assumption into an obligation.
| Lives | Reserve a year | Per bed | Rent cover after capex | Reserve capitalised |
|---|---|---|---|---|
| 25% shorter | 142,122 | 2,030 | 1.60x | 1,279,100 |
| Base case | 106,592 | 1,523 | 1.65x | 959,325 |
| 25% longer | 85,273 | 1,218 | 1.68x | 767,460 |
| Flat 1,000 a bed | 70,000 | 1,000 | 1.70x | 630,000 |
Heavy use, dementia care and high resident turnover shorten the lives of furniture, flooring and decoration; a new purpose-built home with en-suite rooms lengthens the lives of plant and fabric in its first decade. The range between the shorter and longer cases is £56,849 a year, or £511,641 of value at 9.0x, on the same EBITDARM.
The common mistake is to quote rent cover on EBITDARM alone and treat capex as the landlord's problem. Under a full repairing lease it is the tenant's, and it comes out of the same cash that pays the rent. The second mistake is to apply a single figure per bed to every home. A ten-year-old home with its plant mid-life and a thirty-year-old conversion with original windows do not need the same reserve, and the second may also carry a backlog the annual figure does not include.
Build the reserve component by component from the survey, divide each cost by its life, and deduct it before measuring rent cover or capitalising profit. On this home that is £1,523 a bed, which turns a 1.80x lease into 1.65x and explains £329,325 of value against a flat £1,000 assumption. The line-by-line EBITDARM it comes off is set out in how to calculate EBITDARM for a care home, and the companion files include the free workbooks for this case, where the care home model takes the cost lines through to the rent and the value.
It depends on the building's age and the lives of its components, so build it rather than assume it. On an illustrative 70-bed home with £4,273,427 of revenue, replacing furniture, care equipment, decoration, kitchen, plant and fabric over their lives costs £106,592 a year, 2.5 per cent of revenue and 8.5 per cent of EBITDARM.
Measure both. EBITDARM cover is the market convention, but under a full repairing lease the operator pays for replacements out of the same cash as the rent. On the illustrative home a 1.80x lease covers its rent 1.65x after a £106,592 reserve, and EBITDARM can fall 35.9 per cent rather than 44.4 per cent before cover reaches 1.00x.
It can be too low for an older or heavily used home. On the illustrative 70-bed home the component build-up gives £1,523 a bed; a flat £1,000 understates the need by £36,592 a year, which a buyer paying 9.0 times profit would capitalise as £329,325 of value the building will spend.
This article is one calculation from Senior Living and Healthcare Real Estate. The book takes the same case from first principles to the decision, chapter by chapter, and every figure it prints is a live formula in the free companion workbooks.
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