Karina property syndicate investors raise concerns as investment returns take a tumble

By Gareth Vaughan

The manager of the Karina Proportionate Ownership Scheme, which owns Palmerston North's Karina Rest Home, says investor returns dropping to less than half what was touted in the scheme's offer document should only be a temporary blip.

Seniorcare Asset Management (formerly Radius Asset Management), which manages the Karina scheme, recently wrote to investors requesting they take a "temporary" drop in yield to 7% from 9% for six to 12 months while building and staff changes are undertaken at the home. The Karina Offeror's Statement, dating from 2007, says the scheme will target a distribution to investors of about 14.6% per annum in its first year.

Seniorcare director Chris Holmes said that what had panned out was that actual returns so far had been 11%, 9% and now 7%. The latter would be "only short-term" due to changes being implemented in the mix of beds in the home.

Interest.co.nz contacted Holmes after an investor contacted us, raising several concerns about the Karina scheme and suggesting investors would hold a meeting on January 12 to discuss the concerns which include; a potential conflict of interest in the Seniorcare directors acting on investors' behalf, late audited financial statements, accumulated rent shortfall in the unaudited financial statements,  the reduced payouts from this month, and "general lack of communication" from the manager.

Holmes said he had fielded about half a dozen calls from Karina investors recently and felt those, along with a recent letter, should have answered most of their questions. He said around 18 months ago about seven residents in the Karina Rest Home died within two or three months. It has 39 beds in total. The deaths left a "very big hole" in the accounts meaning the unaudited March year accounts show a NZ$209,500 rent shortfall and NZ$99,009 ASB overdraft.

"If you’ve got an age group that went into the home at a similar time then they all start moving out at the same time as well," said Holmes.

A total of 114 slices were sold in the Karina scheme for NZ$25,000 each. Holmes said there were only "20 odd" investors. Individual investors had to buy a minimum of two slices.

Changing landscape drives move into dementia care

About 30 of the 39 beds were currently occupied. Holmes said the landscape in the health sector had changed quite a lot since the Karina scheme launched and it was a lot harder to keep occupancy levels full. The manager has therefore decided to "future proof" the rest home by developing services for dementia care.

"We need to spend money to do that," said Holmes, which was why investors' returns would drop.

 This included boosting security in one or two wings of the rest home and training staff. The local District Health Board had indicated there was a shortage of dementia care available. Once the changes were implemented, Holmes said investor returns should bounce back.

"We have budgeted for about another NZ$100,000 coming back from the conversion to the dementia, that will add around 3% extra return. It will go to around 10%, maybe a bit more as well," Holmes added, saying anything more would depend on the efficiencies achieved.

Property syndicate exemptions and Securities Commission warning

Like most commercial property syndication schemes the Karina offer was exempt under the Securities Act (Real Property Proportionate Ownership Schemes) Exemption Notice 2002 from legal requirements to register a prospectus and to appoint an independent supervisor to monitor investors' interests.

The Securities Commission warned last year that property syndicates could be risky. The commission said such schemes, where ownership of a property is split into equal shares with individuals buying one or more shares each, aren’t required to produce a registered prospectus or investment statement. Instead, they must provide a disclosure document, called an offeror’s statement, and an independent registered valuer’s report before signing up investors.

“These schemes work differently to other kinds of investments, and their risks need to be understood,” the commission said.

The regulator cautioned that investors need to think about how to get out of a scheme.

"Given the lack of a formal market, it might be difficult to on-sell your interest, particularly if the scheme isn't performing well. Find out how it will eventually be wound up. Some schemes continue indefinitely until investors vote to wind up. In this case, you need to understand how many votes are needed - if a majority vote is enough, the scheme might be wound up against your wishes."

And the commission also said those investing in a property syndicate could end up sharing its debts.

"Someone investing in this type of property syndicate may also be agreeing to share its debts and liabilities, jointly or severally. This means that if the syndicate can't pay its debts or fund repairs, investors may have to make up the shortfall. In fact, each investor may be liable for the whole amount. You may end up owing money to the syndicate."

Interest.co.nz recently started compiling a database of commercial property syndications. Based research for the database to date, commercial property syndication schemes have made property purchases worth more than NZ$1.5 billion.

'You can't have three or four layers of governance in a NZ$3 million asset'

Meanwhile, Holmes acknowledged investor concerns that Seniorcare directors acting on investors' behalf as nominee-owner, lessor and lessee created a potential conflict of interest.

"That is true but it’s quite a small asset," said Holmes.

"It’s only a NZ$3 million asset and you just can’t have three or four layers of governance. It just doesn’t pay. Our fee at the moment for managing that home is substantially lower than it should be. We take a management fee of around NZ$22,000 a year. That doesn’t even cover our costs," Holmes added.

"The dementia side of things is actually something we need to put in place for both investors as well as ourselves. Profitability works for both sides."

The annual financial statements show property management and administration expenses of NZ$24,000. The Offeror's Statement notes the then Radius Asset Management received NZ$185,000 as an establishment fee when the rest home was bought for NZ$2.46 million from Sherajah NZ Limited and Christina Holdings Ltd who aren't related to the manager, and sold for NZ$2.64 million to Radius Nominees.

It was also paid a NZ$50,000 establishment fee. If the property is sold, the manager is also entitled to 20% of any profit received on a sale of the property above a targeted 11% rate of return to investors. And the manager's also in line for a break fee equivalent to two times its annual management fee if investors' terminate its management agreement.

The land and buildings had a gross valuation of NZ$2.54 million at March 31 based on a Jones Lang Lasalle valuation, including NZ$810,000 of goodwill.

Asked if there was any prospect of the Karina scheme, which has an initial term of 10 years, being wound up early, Holmes said no. But Seniorcare investors wanting to cash up may be offered the chance to participate in an offer to swap their interests in the Karina scheme for units in a property trust also managed by Seniorcare that yields 8% per annum.

Holmes wouldn't name the other vehicle but said it was more liquid and had a broader base, overseeing three properties. Interest.co.nz's database shows seven Radius/Seniorcare syndicates with properties bought for a total of NZ$30.3 million. Seniorcare also has the Seniorcare Property Trust which manages Auckland's Ellerslie Gardens and Feilding's Ranfurly Manor rest homes.

Meanwhile, Holmes said the Karina scheme's audited financial statements for the year to March 2010 should be "done before the Christmas break is over." A late valuation and "a few other bits" needing to be tidied up had delayed these. He said most of the investors should have received unaudited accounts in July and there wouldn't be any material changes from those.