Diversified Healthcare Trust (DHC) 2008 Q1 法說會逐字稿

Good day, everyone, and welcome to the Senior Housing Properties Trust first quarter 2008 financial results conference call. This call is being recorded.

At this time for opening remarks and introductions, I'd like to turn the call over to the Manager of Investor Relations, Mr. Tim Bonang. Please go ahead, sir.

Thank you, and good afternoon, everyone. Joining me on today's call are David Hegarty, President and Chief Operating Officer, and Rick Doyle, Chief Financial Officer. Today's call includes a presentation by management, followed by a question and answer session. Before we begin today's call, I would like to state that today's conference call contains forward-looking statements within meaning of the Private Securities Litigation Reform Act of 1995 and Federal Securities laws. These forward-looking statements are based on Senior Housing's present beliefs and expectations as of today,May 7, 2008. The Company undertakes no obligation to revise or publicly release the results of any revisions of the forward-looking statements made in today's conference call other than through filings with the Securities and Exchange Commission, or SEC, regarding this reporting period.

In addition, this call may contain non-GAAP numbers, including funds from operations, or FFO. A reconciliation of FFO to net income is available in our supplemental package found in the investor relations section of the Company's website. Actual results may differ materially from those projected in forward-looking statements. Additional information concerning factors that could cause those differences is contained in our 2007 Form 10-K and first quarter Form 10-Q, which will be filed with the SEC within the next 24 hours, as well as our Q1 supplemental operating and financial data found on the website at www.snhreit.com. Investors are cautioned not to place undue reliance upon any forward-looking statements. And with that, I would like to turn the call over to Dave Hegarty.

Thank you, Tim, and good afternoon, everyone. This morning, we reported $0.42 per share funds from operations from the first quarter and ended the quarter in an excellent position to take advantage of investment opportunities in 2008. The most important news for SNH is yesterday's announcement that we've entered into a series of agreements to acquire up to 48 Class A and B medical office, clinic and biotech laboratory buildings with 370 unaffiliated tenants for approximately $565 million. The seller is HRPT Properties Trust. As part of the series of transactions, SNH has acquired the right to invest in these property types and HRPT has entered a noncompete agreement going forward. Furthermore, SNH has acquired a right of first refusal to purchase 45 additional buildings that HRPT currently leases to tenants in medical related businesses. This opens up a whole new avenue for growth and diversification for SNH.

After these transactions are closed, and as of March 31, 2008, our concentration with Five Star Quality Care declines from about 71% to 56% of total revenues, and investments in this new property type will represent about 20% of our total investments. I'd first like to have Rick report on the results and activities of the first quarter 2008, and then I will report on the the current performance of our leases and activities during the quarter and subsequent to quarter end, including the medical office building transactions.

Thank you, Dave. Funds from operations in the first quarter were $38.3 million versus $31 million in the 2007 quarter. On a per share basis, FFO was $0.42 per share versus $0.38 per share. The 2007 quarter FFO includes a cash loss of $1.8 million or $0.02 per share related to a loss on the early extinguishment of debt. During the quarter, SNH closed on the acquisition of 19 senior living properties with 1,692 units for a total purchase price of approximately $270 million, plus funded $16.6 million of capital improvement financing. The initial rent for these acquisitions totals $21.8 million and $1.6 million of improvement financing. These acquisitions were funded using cash on hand, proceeds from our equity issuances and borrowings on the revolving credit facility.

In February, we issued 6.2 million shares of common equity and raised net proceeds of approximately $130 million. Approximately $60 million of the proceeds were used to repay outstanding borrowings on the revolving credit facility and the balance remained in cash until the acquisitions closed on March 1st and March 31st. As a result, we experienced a small amount of negative arbitrage pending those acquisitions. However, we continue to maintain an exceptionally strong balance sheet. To date, our revolver has $110 million outstanding and we have $440 million available to borrow, plus an additional $550 million accordion feature. The revolver matures in December, 2010 and can be extended to 2011 with a fee. On April 1st, we paid in full a $12.5 million mortgage with an interest rate of 7.2 and the next significant debt maturity is the revolver balance due in 2010. On a book basis, debt was only 28% of our total capital and 19% on a market basis. Only 5% of our debt is secured debt, and all of our debt is fixed rate except for the revolver.

The operating results for the quarter were very straightforward. Rental income increased as a result of acquisitions since the first quarter of 2007, including those that occurred during the first quarter of 2008. Essentially all of our leases have inflation protection in the form of a percentage of revenue growth, consumer price index increases or fixed increases. Percentage rent is used for FFO purposes based on estimates and it is all recognized in the financial statements in the fourth quarter. The estimated percentage rent increased quarter-over-quarter by 22% or $350,000, from $1.6 million in 2007 to $1.95 million in 2008. Interest expense decreased as a result of using the proceeds of the equity issuance to repay debt in lower interest rates on the revolver. Our G&A remained essentially unchanged. Based on our results for the quarter, our board declared a $0.35 per share dividend, which is only an 83% payout ratio of funds from operations. I'll turn it back to Dave to discuss the acquisitions during the quarter, tenant performance and the medical office building initiative.

Thank you, Rick. Let's review the acquisitions for the quarter before going into the medical office building transaction. The three living quarters that we acquired during the quarter are very high quality assets, and these acquisitions were made possible because SNH had the available capital and an established relationship with an operator. Certainty of closure was critical to the sellers. These properties were mostly private pays, assisted living and independent living facilities. One is a rental continuing care retirement community with 138 units of independent living, assisted living and a skilled nursing component located adjacent to a regional acute care hospital. Another transaction involved five assisted and independent living properties located in Wisconsin, one of which has a skilled nursing unit. The remaining properties acquired during the quarter are assisted living and dementia care facilities.

I discussed one of the properties on our last call known as the Wellstead of Rogers, Minnesota, which is a Class A community with 228 beds, most of which are dedicated to all levels of dementia care. Another transaction that occurred since our last call involved a portfolio of equally high quality assisted living in dementia facilities located in California and the mid-Atlantic area known as the Somerford Properties. That transaction closed on March 31st. In total, we invested approximately $270 million during the quarter. As Rick mentioned, we also funded $16.6 million of capital improvement financing on existing properties. We continue to see a number of private pay senior living properties for sale, but the number of portfolio transactions has decreased. We will continue to pursue investments in the private pay senior living sector in the future.

Let me take a few minutes to discuss the performance of the portfolio before I move on to the medical office building discussion. Occupancies remain strong for the quarter ended December 31st, 2007. The senior living properties were at 90 to 91% occupied. Occupancies at the rehabilitation hospitals were at 62% for that quarter and occupancies at the New Seasons property declined to 81%, primarily as a result of two underperforming properties. Rent coverage remains strong for all of our leases at 1.4 to 1.9 times coverage, except for the rehabilitation hospitals in New Seasons. One of the considerations that was impacted in the rehabilitation hospitals was late in the fourth quarter, 2007. Congress passed the Medicare Medicaid shift extension act of 2007 reducing the 75% requirement to a 60% level. Prior to this legislation, Five Star had been modifying its admission policies to comply with the more stringent 75%, rule as well as extensively renovating the properties. Now at New Seasons, the coverage has not been adequate, but we are relying on the parent's guarantee which is strong investment grade insurer.

Now let's talk about the future. Yesterday's announcement is a transformational event and the opens up tremendous growth and diversification avenues for SNH. As announced yesterday, we have agreed to acquire up to 48 medical office buildings, clinics and biotech laboratory buildings over the next year for approximately $565 million. The properties are located in 11 states and Washington D.C. and leased to 370 unaffiliated tenants. The current average occupancy is greater than 98%, and many are triple net leased for 100% of the space. The average remaining lease term is almost seven years. The near term lease rollover on the medical office buildings is 7% in 2008 and 16% in 2009, giving us an opportunity to increase rents in the year term.

Nine properties are multi-tenant medical office buildings, seven of which are located in Washington D.C. and surrounding mid-Atlantic states. 32 of the properties are clinics, triple net leased to major healthcare providers including Fallon Community Health Plan, Health Insurance Plan of Greater New York, Philadelphia Children's Hospital, Oklahoma City Clinics, HCA and others. In addition, seven of the properties are comprised of biotech laboratory space leased to excellent credit such as Scripps Research Institute in Lahoya, California and Qwest Diagnostics in Irving, Texas. Revenues for this portfolio break out as follows: 34% for medical office buildings, 37% from clinics and 29% from biotech laboratories. On a net operating income basis 26% is attributable to medical office buildings, 43% to clinics and 31% to biotech laboratories. The average rent per square foot is about $30 for medical office building space, $21 for the clinics and about $32 for the biotech laboratories.

The total portfolio is 2.2 million square feet. 45% of the square footage is comprised of clinical space, 29% is multi-tenant, medical office building space and the remaining 26% is biotech space. The average medical office building is 71,000 square feet. The average clinic building is 32,000 square feet and the average biotech building is 75,000 square feet. Looking at it another way is one master lease, 19 clinics leased to Fallon Community Health Plan, a large closed plan HMO insurance company based here in Massachusetts. These properties are smaller in, and if you exclude them from the square footage calculations on the whole portfolio, the average property size is approximately 60,000 square feet. With the exception of one clinic where there's a ground lease, we will own 100% fee interest in these properties.

This transaction does not involve any joint venture arrangements, and many of these medical office buildings are located in close proximity to major hospitals. As a reminder, SNH was spun off from HRPT back in 1999. As part of that transaction, SNH had agreed not to compete with HRPT with these property types. In connection with this transaction, SNH is able to pursue investments in these areas and HRPT has agreed not to compete with SNH for these types of assets going forward. Furthermore, SNH has obtained a right of of first refusal on 45 additional buildings, totaling approximately 4.6 million square feet that are leased to HRPT tenants in medical related businesses. The purchase price for these properties to be acquired was established by reference to an appraisal report by a nationally recognized real estate appraisal firm. The terms of the sale were negotiated by special committees of each company's boards comprised solely of independent trustees representing each company.

The purchase price of $565 million equates to $258 per square foot for primarily Class A and B properties located in California, New York and in the mid-Atlantic states. This price compares favorably to medical office and biotech real estate transactions announced over the last two years. We believe these are excellent properties in outstanding locations with high credit tenants. Now, SNH will enter into a property management agreement with REIT Management Research, who currently manages these properties. The property management fee is 3% of revenues, which will remain unchanged, and these fees are already included in the NOI figures presented. Also, advisory fees of 50 basis points payable to RMR with respect to these 48 properties will be based on HRPT's historical costs of $397 million rather than SNH's purchase price of $565 million; and therefore will be the same as currently being paid by HRPT. Based on fees that other healthcare REITs are paying to outside property management firms, we believe these fees are very competitive.

Some investors have expressed concern that we're purchasing these properties from an affiliated party. We believe that the seller is irrelevant, and investors should be asking whether this is a good transaction for SNH. We ask that you consider the numbers and the quality of assets and tenants and whether we would do this transaction way third-party seller. The cap rate is attractive compared to other recent transactions, such as those completed by our peers and that have taken place in the markets. The current GAAP net operating income is 7.9% of our purchase price and 7.1% on a cash basis with the removal of straight line rent. SNH expects to initially fund these purchases with cash on hand, drawings on its revolving bank credit facility and assuming three mortgages totaling $11 million which encumber two properties. SNH expects to eventually fund the purchases with a mix of long term capital based upon market conditions.

Depending on the ultimate form and cost of our long term match funding for these transactions, we expect these acquisitions on a stand alone basis to be neutral to modestly accretive long term. The closings of these properties is subject to normal real estate contingencies and are scheduled to close in phases over the next 12 months. First group that is scheduled to close involves 21 clinics leased to Fallon Community Health Plan and Health Insurance Plan of Greater New York and Philadelphia Children's Hospital for approximately $113 million in August. Although the acquisitions are scheduled to close in phases over 12 months, they can be accelerated based on mutual agreement with HRPT. Furthermore, we have a financing contingency involving $245 million of the acquisitions that are currently scheduled to close in 2009. We are optimistic that this transaction may assist in achieving an investment grade rating for our debt.

I believe the principal benefit to SNH is the diversification of tenants, revenues and property type, which has been a concern of both equity and debt investors, and the degree of accretion will be determined by the ultimate long term funding. HRPT has owned these properties for an average of nine years, and many of you may recall that I was president of HRPT during the time that these properties were acquired. So I was integrally involved in underwriting of these acquisitions and have personally visited most of these properties. I know these properties are an excellent addition to SNH's portfolio. Over the past few years, we've heard the concerns of equity and debt investors regarding concentration in our portfolio of one tenant and one property type. We've listened, and hopefully this move to diversify our portfolio will address this concern and may eventually help us achieve investment grade status, which may lead to a low cost of capital in the future. Although the transactions on a stand alone basis is neutral to slightly positive, these new property types opens up new avenues for growth in FFO accretion in the future. That concludes our prepared remarks, and Rick and I would be happy to answer any questions that you may have out there.

Thank you. (OPERATOR INSTRUCTIONS). Our first question comes from Jerry Doctrow. Please go ahead, sir.

Hi. Good afternoon, and Dave, I guess you make a nice compelling case for the acquisition, so that's good. Is it possible that we could get these up on your website or are they up on the, you know, HRPT website so the two could get a little bit -- photos and stuff so we can get a little bit better feel for the properties, or are they there already?

No. We can put together a package to put up on the website. Currently, we don't have it neatly packaged yet, so we can put that together for you. As far as the properties, you know, I'd have to see what selection of photos we have. You know, about 20% of these properties actually have be on the cover of HRPT's annual report in the past. That's the Lahoya properties leased to the Scripps Institute out in California.

Okay.

But we will try to pull together some photos to give you a good feel for the portfolio.

Okay. That would be great. I guess the key area of questions that I have, and I think Rick touched on this but I don't know that I got all the numbers, I wanted to kind of just go through, you know, what's on the line again with the accordion feature and then, you know, think a little bit more with you about, you know, whether you would be issuing equity or what timing you might need to issue equity, you know, or debt for that matter to sort of fund this. So can you just go over the numbers on the line, first of all, sort of where we stand?

Yes. Hi, Jerry, this is Rick. Yes, I did mention today we have $110 million outstanding on our line and we have $440 million available and we also have a $550 million accordion feature on the line, also. So right now, you know, to answer that question, that's what we have available; and in response to going to the equity markets, you know, that's something that we would have to look at in the near future to see how we acquired these properties over the phases of the properties and see what's the best for SNH.

Okay. And --

We do have the availability on the line of 440.

440 and plus 550, so it almost a billion dollars available just online if you exercise the accordion.

Right, right. If you notice there's specifically $245 million that currently scheduled to close in 2009 is subject to financing contingency on our part. So, you know, so we have plenty of time to acquire these assets and bring them into the portfolio.

Okay. And do you have any more on sort of the rest of the schedule to acquire those? I think you said 113 million in August. And should we assume that they're all about the same yield basically -- but what's sort of the rest of that schedule? I don't think I saw it in the press release the other day.

No. It's in multiple phases and there is a, you know, good possibility some of it could be accelerated and as you could envision, a lot of it is being worked around some concerns from lenders as well as some tax planning for HRPT. So I would envision -- all except the 245 million is contemplated to be closed before year-end.

Okay.

And even that could be accelerated under certain conditions.

Okay. Okay. And basically, so we start many August with the 113. We got the rest except for the 245 in '08 and then -- and maybe even more in '08. So that's -- we'll make some assumptions within those parameters.

That's correct. And assume the same yield because, you know, these were all valued as a group, and the only allocation we really that was meaningful was to do basically a prorata NOI allocation.

Okay. That's fine and then the last thing, I guess, is I was wondering how this affects your thinking about other investments. I mean, clearly, I guess you still have capital availability, but in terms of -- you know, can you talk a little bit about others acquisition pipeline in general? I mean, how you feel about senior housing? Would you continue to fund stuff? Would you continue to fund up with Five Star? You know, this obviously opens up other possibilities, so what you would be thinking about investments, you know, over the rest of the year separate from this transaction. Are you fully satisfied with this? Are you going to expect to be doing other stuff?

Right. No. We're still going to be active in the marketplace. You know, what I envision is that we would still continue to pick up onesies and twosies in small portfolios, either for lease to Five Star or, you know, we would like to do sale leaseback with another operator or two anyway. But -- and then this opens up avenues for us to do more medical office buildings and so on during the course of the year. So it just broadens our options for us to acquire assets.

And again, just sort of for planning purposes we should assume -- again I don't know that I have right in front of me what our assumption was about acquisitions -- but we should assume the acquisition pace that you were doing before is sort of unaffected by this, you know, transaction. So --

That's correct, although I would, you know, assume like the first quarter we did $270 million of acquisitions, so I would not count on that to be the norm.

Right.

But we will be doing some other acquisitions during the course of the year.

Right. I mean, I think we were modeling something like 500 million over the course of the year separate from the MOB thing, and so another 75 a quarter or something. Does something like that sound right? I'm not trying to nail you down, just get a sense of order of magnitude.

Yes. It's very difficult to predict, but I mean, I don't know. I'd say at the moment I don't have that much in the pipeline, so I'd say that may be a tad high, but you never know.

Okay, okay. I think that's all for me. Thanks.

Thanks.

Thank you. And our next question comes from Omotayo Okusanya. Please go ahead.

Hi, Omotayo? Hello?

Hi.

Hi.

Hi, how are you? Good morning.

How are you?

Actually good afternoon. Just following up on Jerry's question. I guess what I'm trying to figure out at this point is that between the HRPT deal and as well as the ACP deal, there are kind of a lot of balls in the air in regards to acquisitions at this point. How do you kind of think about -- or what does it take, you know, basically to get all these deals done, to, you know, integrate all these facilities into, you know, your Company and how are you going about managing that entire process?

Well, unfortunately we are more or less the provider of capital. So, you know, in the organization we have -- in this medical ops building and clinic area, they're currently being managed by RMR. So, you know, should be no disruption in the operations of these properties, just the reporting format's going to be different internally and more information will be coming towards us rather than towards the HRPT management team on these properties. So I don't think that's a tremendous amount of additional work for us. And then on the $270 million of acquisitions that closed on the first quarter, I mean, that's already into our fold and Five Star is operating those. So new acquisitions, you know, I don't think they're particularly burdensome to us to take on or really won't interrupt -- see much disruption in our operations.

But what about like the whole due diligence process, the sale of these assets, you know, that's quarterly or biannually asset management that you would like to do to feel comfortable that the operators are running these assets properly? There's no Cap Ex issues and --

Exactly. Well, we have a whole separate department within RMR that is specifically assigned to do ongoing day to day diligence inspections and, you know, they process things, determine, you know, where any deficiencies are and they communicate it back to the operator, and I'm kept copied on those correspondence and so on. So, you know, and that essentially is what the 50 basis points advisory fee is for -- a good piece of it that is paid to RMR for that type of service. So, you know, granted RMR has to continue to hire some more people. The MOBs are being done anyway, currently. So, you know, it's really senior living properties and other nonmedical office building properties that we rely on this management group to continually get out there and inspect the properties, make recommendations. You know, we have people back here who review the numbers and question the operators on the numbers; but that's more from understanding their business because we really don't have a say in how they run the business as long as they're covering the rent. So again I don't think -- it's an expansion of the RMR operation, but it's -- as far as SNH is concerned, I don't envision that to be any issue.

Got it. Then the second question, just looking at the rent coverage table you put in the supplemental, so and then just the coverage ratio is generally going down at the Five Star assets in fourth quarter of '07 and as well as the Brookdale assets. Could you just talk a little bit about that? Occupancy kind of hung in there but the coverage issues are coming down.

Right. Well, and lease number one is where we keep adding more properties to. So it's, you know, not exactly same store for all of it and also, let's see -- trying to see if there's anything particular that affected these properties at that time. On the Alterra I know it's just they've experienced a couple hundred thousand dollars of increased operating costs at these properties specifically and --

Why is that?

Well, a good chunk of it is insurance and they've also increased their benefit packages and pay during that period.

Okay.

It's pretty much across the board for these assets. As you said, the revenue side of things and occupancy levels have not really changed that much at the Brookdale situation.

Okay. And on Five Star, you said lease number one was because that's where you add in the acquisitions too, but anything else specific that could have caused the decline in coverage ratios?

Not particularly. I think, in fact, the September quarter was probably higher than normal. If you were to look at the historical trend, it's usually been around 1.3, 1.4.

Right.

And certainly this afternoon at 5:00, Five Star is having their first quarter earnings results.

Right. Okay, great. Thanks a lot.

Okay. You're welcome.

Thank you. And our next question comes from Kevin Ellich, please go ahead.

Good afternoon, guys. Thanks for taking the questions.

Hey, Kevin, good afternoon.

I was wondering if we could get to more color on the 45 properties you have the first right of refusal. I think you said that they're in the medical specialties business, but I mean, are these more lab businesses or what type of properties are we looking at?

Well, of the 45, the bulk of them are situations where the tenant is in the medical business but patient care is not being conducted at that site. So, for instance, there are two buildings right here in Boston that are major components of Harvard Medical Teaching Hospitals, but they're where the computer systems are stored and where a lot of their other support services are. So they're not included in this group for us, but we do have the right of first refusal on those properties. Also at the top of the list are the two Cedar Sinai Medical Towers, and those are mostly doctors' offices and support services for Cedar Sinai Medical Center in L.A., and those are encumbered with CMBS debt with some other traditional office buildings. It can't be broken out at this time. So we are encumbering those properties with the right of first refusal so that if they should trade hands in the future, you know, we'd have a say in it. Now that's the type of assets, though, that these properties comprise.

I mean, if you had to classify that, would you put it in the medical office building bucket?

I would, you know. I mean, I think if you were to even look at other medical office portfolios that other health care REITs have picked up, you know, I got to believe within those buildings there are some that are dedicated to patient care and others that are merely support services for hospitals. So we would lump them in with medical office buildings ourselves. Again, I don't know really what the likelihood is of any of those properties coming to us in the foreseeable future, but it was a requirement that our independent board requested of HRPT in the negotiation.

Okay. And then just wondering what made -- you know, was there anything special about the timing as to why you guys pulled the trigger on this transaction now?

Well, I think a combination of things. The message to us from equity investors, debt investors, the rating agencies have been consistently growing concern about concentration with Five Star as our tenant and also we were feeling a little constrained about being only able to buy in the private pay senior living business. So the combination of factors, you know, sort of gave rise to this transaction, and we're trying to address those issues.

Okay. That makes sense. And then, I think you mentioned in your prepared remarks that occupancy at the senior living properties was 90 to 91%. Is that right?

That's right. It's a pretty general statement, you know. When we were working on this presentation, I was afraid I wouldn't get anybody's attention to talk about the historical results for the quarter, and so we tried to deal with them up front and I didn't want to belabor specifics; but yes, generally, you know, it's been in that range. I guess, you know, I would consider a relatively minor stock in occupancy across the board in the industry over the last two quarters.

Okay.

And, you know, this period, that's in our supplemental -- is a little dated. It's December, 2007 quarterly results.

Right. That 90 to 91%, that was for Q1, wasn't it?

No. That was commenting on the Q4.

We were one quarter in arrears.

Right, right. Okay. Yes, I forgot that. Thanks, guys. And then, Rick, I think you also mentioned capital improvement funding was 16.6 million.

Yes.

Was that also Q4 or was that Q1?

No. That is Q1.

Okay. And then does that all go to Five Star or how's that spread out?

Those were existing properties at Five Star.

Okay. So that does go to Five Star, okay.

Yes, and it was funded on like March 31st.

Yes. We fund it on the last day of the quarter.

Okay.

There's no economics recognized in the quarter in those. That would contribute to the section --

Sure. And then I was also wondering how are the recently acquired properties performing, like the wellness facilities? Are you seeing any impact from the economy?

Not really. You know, as we reported in our supplementals, 1.95 times coverage, which was about what we expected anyway. And this first quarter was an interesting situation because, you know, with New Year's resolutions and everything else, it's usually their biggest quarter of the year. So you had, you know, increased membership but, you know, it's kind of sort of difficult to sort out how many dropped out or were a affected by the economy. So I'm expecting that they're doing well and I believe a couple other companies recently reported -- Lifetime Fitness and a few others -- you know, beat the Street per se with better than expected results and they've said that membership has been strong. So I think the first quarter, who knows. That may not be telling, but for the industry it has been a pretty strong quarter.

Okay. And then just one last question on the pipeline. Are you looking at other dementia facilities and can you talk a little bit about the dynamics of that business? I understand the revenue is a little bit higher, but so is the labor component of that business.

Yes. The margins are significantly better than traditional stand alone assisted living. So the demand continues to grow for that type of care. The new supply of properties that offer that care has been very limited and the rates continue to go up above average at those properties. So -- and I believe that the contribution to bottom line goes faster than traditional assisted living. So at least for the foreseeable future, that is a sweet spot to be in.

Okay. And then how's the facility up in Minnesota doing? Is it highly occupied would you say?

Yes. It hasn't missed a beat from, you know, the old management to the new management. In fact, the, you know, executive director there has stayed on and has operated the facility, but the dementia care component has been historically near full and continues to be near full. It's the assisted living that is roughly about 65 to 70% occupied and that's -- you know, creeps along and the thinking there is that assisted living is something that people can go five miles in any direction and find another assisted living facility, and so it's more driven by the local demographics; whereas dementia care, especially this one which covers the most acute care dementia services, there is a short supply of high level dementia care providers, and so this is a place that people will travel from out of state or to further regions of the state to have a resident stay there.

Okay.

That's why the occupancy is so high.

Right. Actually, I just have one last question. You mentioned that you acquired a CCRC with 138 units. What's the up front fee to move into that property and do you think that could be an issue with weakening economy?

No. We described it as a rental CCRC. There are no up front fees; and given that it's located in a medical area of town, it has the acute care hospital next-door and the skilled nursing, as well as the ILAL, and it's holding up very well and I expect that to continue.

Okay. Excellent. Thanks, guys.

You're welcome. Any other questions?

Our next question comes from Todd [Stendor]. Please go ahead.

Hello, Todd?

Okay.

Hi, Todd?

Mr. [Stendor]?

Yes. Can you hear me?

Please go ahead with your question.

Okay. Can you hear me now?

Yes.

Okay, thanks. Most of my questions have been answered. Now that you're able to acquire medical office buildings what's your ultimate goal for concentration of the space and also for lab space?

Well, I'll tell you that we have not preset a limit on how much we will invest in the space. Like most anything else, it's going to depend depend on market conditions and how much we can compete. We have not done joint ventures or real development, so we would have to be buying existing product type; and I guess I don't envision too many large portfolios, but more, you know, onesies and twosies around the country, and I think there's a huge supply of that type of property.

Okay. Thank you.

You're welcome.

Thank you.

(OPERATOR INSTRUCTIONS). Our next question comes from Philip Martin. Please go ahead, sir.

Okay. Thought I was going to be forgotten about there. Thank you for taking my question, and good afternoon. I wanted to focus a little bit on the investments made in the quarter and, you know, first of all, can you give us an idea of coverages here on these properties?

Right. Well, you know, I guess I can give you an idea of what we underwrote them at and then, you know, how they progress going forward is going to be up to the way Five Star operates the facilities; but, you know, each one of them had coverage typically between at a minimum 1.5 coverage before management fees up to about 1.3 times coverage before management fees. And I say before management fees, because several of these are within markets that Five Star has a presence and they don't charge themselves internal management fee or a 5% management fee. So essentially what's left after they pay rent is for their overhead and profit. Now like I said, the CCRC -- and we bought a couple assisted living facilities in Texas that those are more like the 1.15, 1.2 time coverage. And then these dementia care facilities are more in the range of about 1.3 times coverage and, you know, the average investment across the -- all the investments for the quarter was $160,000 per unit. The dementia care facilities, which I think even Steve Monroe in The SeniorCare report yesterday commented that the Somerford properties are at a minimum A minus quality properties. Those we paid about $215,000 a unit, I believe, and $205,000 a unit for the ones, for the Minnesota property. So we paid up for those, but those also had, like I say, about 1.3 time coverage going into it.

Is the better coverage and again the reasons to pay up, I mean are all these -- what's the average age of these assets?

Well, the one in Minnesota is less than -- it was built in phases, but the oldest phase is like seven years old; and the ones in the Somerford transaction are all less than 10 years old. About five of them are in California, and those are about six years old; and the ones on the East Coast are closer to the 9, 10-year-old.

Okay. I mean, you know, at the property level here, can you give us an indication of what the NOI margins are and the rent growth on an annual basis is?

Well, I mean, I think probably a lot of the questions really should be answered by Five Star as operator, but typically the facilities on a premanagement fee basis, you know, between 30 and 40% margins, and the dementia facilities it's closer to 40 and maybe you could push it up to 45.

And from your underwriting and due diligence these properties are performing at that level?

Yes. And they have some vacancies, so there's some room to grow.

Okay. That was my next question. When we look at the vacancy or the occupancy here -- and the rent growth, is it fair to assume rent growth, you know, again 4 to 6%, you know, based on kind of the underwriting and due diligence that you've done?

That's right. They could still -- you know, these properties still can support that type of growth, and at least on the Alzheimer's side of the business. So I would expect that to continue.

Okay. And from an occupancy stand point, you know -- again, to go back to your comment about potential upside.

Right. Both properties are in the high 80% occupancy level.

Okay. And the remainder of these -- the properties, like the CCRC and then, you know, you've got the what looks to be kind of two CCRCs here. I know you've got the one at the 138 units but then you've got the 568 as well.

Right. The 138 unit group is CCRC, was running about 88% occupancy. The ones in Wisconsin, the individual facilities, but they were all between 88 and 90% occupancy. There are two properties in Texas that are stand alone assisted living facilities and those are running about 94, 95% occupancy.

Okay. So the entire package here is kind of high 80s to 90 on average?

That's correct.

Total and, you know, the 138 units CCRC at 67,000 per unit, you know, value play here? What type of risks can we infer in that, or what can we infer with that $67,000 per unit price?

What you can infer is that I'll tell you it's a property in North Platte, Nebraska. It is next to, as I said, the acute care hospital and, you know, my guess is that we were one of the few institutional investment grade bidders for this. So we could provide that certainty of closure and we could operate the skilled as well as the IL component. So that was all attractive to the seller, and so they went with us.

Okay, okay. Now a couple things with the HRPT portfolio. Can you give us some sense of the tenants? I know you talked about Scripps and -- well, just in terms of the top 5 or 10 as a percentage of revenues and can you go down kind of your top 5 or 10 tenants?

Sure.

So we have an idea.

Well, the largest tenant in the portfolio is Scripps Institute and they represent about 20% of the NOI in the group.

Okay.

I would say the next largest tenant would be considered Fallon Healthcare, and I'd say it's an insurance company based here in Massachusetts,it's an HMO. So it's highly regulated and as you can imagine like most insurance companies, most of their assets are cash and short term investments, and the lease term there is out in, I think, both cases out to 2019. So then you get into, let's see, I guess the next largest one would be Health Insurance Plan of New York. There's two clinics leased to them -- and again, long term leases with them.

And on Fallon and Health Insurance, what percentage of NOI would that be -- would each of those be?

Let's see. On an NOI basis, let me see. Roughly 10%.

Okay. For each one or 5% --

The Fallon was 10%. Then HIP is about 5%; and then most of it, you know, really breaks down -- let's see, many of these are multi-tenanted buildings, so like, for instance, one of the major assets of the group is a property called 1145 19th Street in Washington D.C. and they have something like 40 tenants and it is in the heart of Washington D.C. and it has -- let's see, with saying we, go back to HRPT, we've owned that property for about 10 years and it has never gone below 90% occupancy. And it's also, you know, 2,000 square foot users, 3,000 so on. And that is, you know, less than a half a mile from George Washington Hospital, University Hospital.

Okay. And the Scripps lease, that ends when?

Let's see. That is in 2019, I believe.

That's also a 2019 with Fallon.

Yes.

Okay. In terms of development expansion opportunities within this portfolio, are there any?

The expansion opportunities are really in the multi-tenented medical office buildings, and as I mentioned, there's a 6% rollover again this year in 2008 and again, the potential is going to be determined when we actually close on these.

Yes.

You know, next year it's supposed to be another 17% rollover -- or 16% net rollover next year and so on. So we do have some decent rollover in that component of it and so I would expect, you know, maybe a couple percent growth in the NOI at those locations.

And in terms of development, are there development opportunities within the portfolio or not so much?

Not meaningful.

Okay.

Sometimes redeveloped properties and stuff, but, you know, and we may fund an expansion of a property but it's not the nor,m for us.

Okay. And my last question, the maintenance CapEx required on these HRPT assets and your due diligence, you know, what type, you know, what can we expect to kind of maintain these properties or fix things that might be broke?

Sure. Well, actually there's not a lot that is going to be expected to be put into these properties for the near term that we can tell. HRPT has invested a considerable amount of money in these properties, in particular the Scripps property and so for the -- I think the budget for this whole portfolio was only about a million and a half dollars above CapEx type expenditures, and there may be another million and a half of PI commission, leasing commission, so on and -- but to the extent that, you know, HRPT's signed up a tenant and we're going to be buying the building and giving them credit for that tenant, well, they're going to have paid for that PI because we're paying based upon that new rental figure for the purchase price of the property. So I don't expect us to have a significant amount of -- you're talking a penny maybe, two pennies a year.

Okay, okay. All right. Thank you very much.

Okay. You're welcome.

Thank you. And our next question comes from Dirk Bower. Please go ahead.

It's actually Chris here. Hi. How you guys doing?

Good.

Hey, Chris.

I guess you touched on this earlier, Dave. Maybe you can just walk us through the genesis of the HRPT deal. I guess if you read the transcript from last quarter carefully, you kind of hint at larger deals, opportunistic deals, deals that are going to diversify away from Five Star. I'm just wondering how it really came to fruition. Was it just, you know, you guys sitting around a table for dinner one night you and John saying hey, how about this or did Barry tap you on the shoulder? How did it come about?

Well, you know, we've attended many conferences --

And maybe when?

I'm sorry?

And maybe you can frame it out in terms of timing. When did you really start to think hard about this?

I'd say, you know, pretty much March, April -- yes, pretty much March time frame because the -- you know, the conferences that we attended and stuff really, you know, we got challenged pretty hard at the conferences about, you know, how are we going to grow? What are we going to do to diversify and so on? So, you know, we came back here and had discussions internally with about what are our options and, you know, we started rethinking that back in -- back in 1999 in a perfect world maybe these assets should have been with SNH at the time, you know, but we were pure play triple net lease at the time and then our peers have been going into these areas for diversification and a number of investors and analysts have asked us, you know, why aren't we going into it. So we determined in March or so that we should be looking to see what it's going to take from us to get out from this restriction and, you know, we believe we're paying a fairly high price for this portfolio but it includes that right to go into these other areas.

So, you know, it's mainly coming back here talking with, you know, Barry and Adam, who are on our board, as well as the general board at recent board meetings. And then HRPT board was approached and asked, you know, if that would be something that they would be interested in and start thinking about what it does for them. And so the timing is also helpful because I believe judging by the stock price and everything else the mark approves what the deal from their perspective, and so I think it's a positive for them and this is a positive for us, we believe.

Okay. So I guess in your last quarterly call, was this on the table? Was this, you know, one of those potential large acquisitions that you were looking at?

Yes, it was a potential. It was being kicked around, you know, the idea about how to do it and when and pricing and all that stuff were unknowns at the time.

Now, have you spoken specifically with the rating agencies about this before you consummated or before you announced the deal and have they given you any preliminary feedback on terms of what their thoughts are?

No. We have not discussed this with the rating agencies at this point. Again, it's our own internal assessment that hopefully they should view this positively as diversification because Dave expressed over last several years, you know, we run a great balance sheet and debt service coverage and all that, but our concentration -- two things were being held against us -- size and concentration with Five Star. And we're addressing both of those in this transaction.

Do they give you any commentary on the external management and the relationship with RMR? What are their views on that?

I mean, they analyze it and they ask us about the controls and so on, but I don't know. You know, it's a consideration, but I don't believe, especially from a debt holders' perspective, I don't believe they penalize us in, you know, whether we'd be investment grade or not, especially when the other two companies that are managed by RMR are investment grade rated.

And I guess, you know, just give the incremental cost savings in terms of moving to investment grade and your ability to tap that market.

I think it's significant.

Quantify that directionally?

I mean, it's very difficult to quantify in this environment, but I would say that, you know, from what I understand, spreads have moved down in the last week or so by even 100 basis points; and I don't know if a noninvestment grade debt issuance can be done in this market at the moment. I think time will -- this is all going to flush through, and we believe that with time, maybe it's six months, who knows exactly, but, you know, ultimately this credit crunch is going to get fixed and, you know, we know that things are starting to look more positive for investment grade debt issuances at the moment, a little better than they were even a couple weeks ago. So we believe that a debt -- if we were investment grade, that debt would be available to us later this year maybe. Who knows how quickly or long it going to take, but it would be several hundred basis point cheaper between noninvestment grade and bottom notch investment grade.

Right. And I guess if this can come to fruition whereby the rating agencies are a little more beneficial with you folks and push you to investment grade, is it fair to assume that your capital stack is going to change from how it used to run historically -- very low leverage, very favorable? Should we assume that you start to revisit that -- the capital structure argument and where your debt to unappreciated books should ultimately run at?

Absolutely.

Where --

Historically we -- you know, we're running between 30 and 40%.

Where do you think you can run if you get investment grade?

We could run right back up there, if not even a little higher, you know, but I guess being noninvestment grade, I don't think -- first of all, it's just not an option at the moment for for noninvestment grade debt. So we could either use mortgage financing. We have -- obviously, our line of credit has significant capacity, and we have several years for that to mature. And also, we have the accordion feature, and also these transactions are slated to close over the course of next year and I would hope the capital markets are in much better shape in the fall.

Okay. Congratulations, guys.

Thank you.

Thank you.

Thank you. And our next question comes from William [Wright]. Please go ahead, sir.

Hello.

Hello.

Look, you're charging -- all your various entities are under one management umbrella, so what you pick up on the management fee theoretically would be lost by HRPT. The question is, is there going to be any net increase in the management fees when this transaction is completed?

There will not be any increase in management fees as a result of this transaction. The agreement is that it will be the exact same fee that was being paid to HRPT-- being paid by HRPT would be paid by SNH on the old historical costs to HRPT.

Okay. Look, you mentioned earlier that the transaction will be neutral to marginally accretive. So if that's the case, it doesn't seem to be a very strong reason for doing it except for the objections by lenders that you're concentrated in one sort of tenant. Is that correct?

No. Actually, we believe that there's multiple reasons, you know. If -- the concentration issue has been a concern for equity investors as well as the debt investors, and we believe it is one of the major impediments keeping us from attaining investment grade status; and if we achieve investment grade status, that should significantly lower our cost to capital for the future. So, you know, it may not -- well, in fact, we have so much availability on our line of credit as we fund transactions it would be hugely accretive if we were to just let it sit on the revolver, but that's not a prudent long term strategy. So we will use the revolver to close on transactions and then look at what the capital markets available to us are; and we believe that between equity and debt or mortgage financing or other alternatives, that we should be able to do this at least neutral if not somewhat accretive, and we just don't know exactly how much and timing -- six months from now we expect hopefully some more rent rollover and the NOI will go up. We believe there's a positive momentum going into this portfolio and it could be more accretive then. You know, we don't want to set high expectations, so we're being conservative.

Yes. Look, your current borrowing rate is what, around 7, 7 and 8, something like that?

It's very hard to tell. Our revolver is at 3.5 or lower. So -- but borrowing we could do debt financing which I believe would be 7, 7.5%. If we did public unsecured debt, I don't even know if it's feasible in this environment.

Well, look, there is some feeling among I think the most sophisticated observers is that interest rates are going to soar; and so I think you might take that into your thinking and do whatever you want to do before interest rates go up quite a bit in the next two or three years, because the inflation is really sort of -- conditions are that it can go through the roof and then very likely might, okay?

Appreciate that.

Okay. Bye bye.

Thank you. Thank you. And our next question comes from Ray Garrison. Please go ahead, sir.

Hello, Ray?

Mr. Garrison, please go ahead with your question. And it seems that he is not on the line anymore.

Okay.

At this time we have no further questions.

All right. Well, thank you very much, operator, and thank you all for joining us this afternoon. Rick and I will be at the [inaudible] conference in New York in June and we hope to have the opportunity to meet with you there and talk about this further. Thank you.

Thank you, everyone, for joining today's Senior Housing Properties Trust conference call. This call has concluded and you may now disconnect.