Diversified Healthcare Trust (DHC) 2015 Q1 法說會逐字稿

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

I would like to turn the call over to the Director of Investor Relations, Kimberly Brown, for opening remarks and introductions. Please go ahead, ma'am.

Thank you and good afternoon, everyone. Joining me on today's conference call are David Hegarty, President and Chief Operating Officer; and Rick Doyle, Treasurer and Chief Financial Officer.

Today's call includes a presentation by Management followed by a question-and-answer session. I would also note that the transcription, recording, and retransmission of today's conference call are strictly prohibited without the prior written consent of Senior Housing.

Before we begin I would like to state that today's conference call contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995 and other Securities laws. These forward-looking statements are based upon Senior Housing's present beliefs and expectations as of today, May 6, 2015. The Company undertakes no obligation to revise or publicly release the results of any revision to the forward-looking statements made in today's conference call, other than through filings with the Securities and Exchange Commission or SEC.

In addition, this call may contain non-GAAP numbers including normalized funds from operations, or normalized FFO, and cash-based net operating income, or cash NOI. A reconciliation of these non-GAAP figures to net income and the components to calculate AFFO, CAD, or FAD are available in our supplemental operating and financial data package found on our website at www.snhreit.com.

Actual results may differ materially from those projected in these forward-looking statements. Additional information concerning factors that could cause those differences is contained in our filings with the SEC. Investors are cautioned not to place undue reliance upon any forward-looking statements.

Now I would like to turn the call over to Dave.

Thank you, Kim, and good afternoon, everyone. And thank you for joining us on today's first-quarter earnings call.

Earlier this morning we were pleased to report normalized funds from operations, or normalized FFO, of $0.45 per share for the first quarter, up 4.7% compared to the same period last year and in line with consensus.

Before I review our segment results, I'd like to start off with an update of our acquisition activities. Over the past several years we've been very successful at further strengthening the quality of our portfolio, increasing our percentage of private pay revenue and diversifying our tenant base. And since the beginning of the year we've completed two portfolio acquisitions to support this important initiative. In January, we closed on the acquisition of 23 Class A 100%-occupied medical office properties for approximately $539 million. These assets are of the highest quality and they're long-term leased premier healthcare tenants, the vast majority of which are [investment grade] rated.

And subsequent to quarter end, on May 1 we closed on the acquisition of 37 of the 38 private-pay senior living communities from CNL Lifestyle Properties for approximately $763 million. There's one remaining lease community that we'll be acquiring for $27 million when all the closing conditions are satisfied. As a reminder, the 38 Class A communities have approximately 3,500 living units, one-third of which are independent living and two-thirds are [assisted] living and memory care.

Now on May 1, with this closing, we assumed 17 leases which have a combined coverage ratio in excess of 1.2 times, and a weighted average remaining lease term of approximately 10 years. We converted one management agreement into a long-term 15-year lease, bringing the total number of lease communities in the transaction to 19. And in terms of the managed communities, we've assumed the agreement with one private operator to manage five communities and the remaining 14 communities will stay within a TRS structure to be operated by Five Star. Over the next couple of quarters, and as is typical with these acquisitions, we would expect some volatility during the transition of the managed communities. However, we still expect the CNL transaction to achieve a return in excess of 7% over the longer term.

And subsequent to quarter end, in April we agreed to acquire a newly constructed private-pay senior living community with 40 independent living units located in Georgia for approximately $9.8 million. This acquisition is adjacent to a community that we already own that offers both assisted living and memory care. And we expect to close this acquisition over the next couple months.

Turning to our first-quarter segment results, our triple net leased senior living properties, which represent 39% of our first-quarter NOI, continue to perform well and in line with our expectations as same-store rental income increased 1.4% year over year. The increase is due to revenue-producing capital improvements made in our properties. And in conjunction with the dispositions program, we've sold seven leased facilities, principally skilled nursing, since January 1, 2014.

Within the triple net senior living portfolio, our individual operators continue to perform well. Five Star's 180 leased communities had combined occupancy of 84.7% and rent coverage of 1.2 times for the 12 months ended December 31, 2014. The four properties that we leased to Sunrise Senior Living had occupancy of 92.5% and rental coverage of over 2 times. The 18 properties we leased to Brookdale Senior Living had occupancy at 94.4% and rental coverage was a strong 2.6 times. Our other triple net leased senior living properties, leased to private regional operators, had occupancy of 85.2% and rental coverage of 1.9 times. As you can see, our leases are well covered and we're pleased with the performance of our operators.

Moving on to the managed senior living portfolio, the same-store NOI for 44 communities grew a healthy 5% quarter over quarter, and same-store margins increased 90 basis points to 24.4%. Our same-store results were primarily driven by an average monthly rate increase of 1.8% as well as a decrease in property operating expenses. Same-store occupancy declined 90 basis points to 87.9% compared to last year, primarily due for more challenging flu season and increased mortality rates. However, this decline was more than offset by the increase in rates. At quarter end we had a total of 46 managed communities with over 7,200 units that generated $20.4 million of NOI during the first quarter, which represents approximately 14% of the total Company NOI.

Now turning on to the medical office buildings, at March 31 our MOB segment was comprised of 121 properties with 145 buildings. We had over 11.3 million square feet that generated quarterly NOI of $63 million, which represents approximately 44% of total Company NOI. Overall occupancy was an industry-leading 96.2%. At our 96 same-store medical office buildings, cash NOI for the first quarter decreased 1.5% compared to the same period last year to $34.5 million, a decrease of approximately $525,000. This decrease relates primarily to a decline in occupancy of 40 basis points to 94.6% and a modest increase in expenses due to some non-escalatable expenses including certain maintenance and repairs made during the quarter. Since quarter end, we've seen positive leasing activities as more than half the vacant space which contributes to the occupancy decline has been re-leased at comparable rates or better, but they'll take effect later this year.

In summary, we're pleased with our overall results and accomplishments this past quarter and proud to be the private pay industry leader among the healthcare REITs. And with that, I'll turn it over to Rick to provide us some more detail on the financial results.

Thank you, Dave, and good afternoon, everyone.

For the first quarter of 2015, we generated normalized FFO of $98.6 million, up 23% from $80.1 million in the first quarter of last year. On a per share basis, normalized FFO for the quarter increased 4.7% to $0.45 per share, up from $0.43 per share for the same period last year.

Rental income for the quarter increased $34 million to $146 million. The increase is primarily due to external growth from investments in 25 medical office buildings, offset by a reduction of rental income due to the sale of seven senior living communities and three MOBs since January 1, 2014. $55 million of rental income was derived from our senior living leased communities, while $86 million was derived from our medical office buildings.

Looking at our managed senior living portfolio, residents, fees, and services revenues from our 46 managed properties increased over 4% to $83 million compared to the first quarter of last year. The increase primarily relates to acquiring two managed senior living communities since January 1, 2014, and an increase in the average monthly rental rate.

Property operating expenses increased 10% in the first quarter to $86 million compared to the same period last year due to external growth from acquisitions as we added 2 managed senior living communities and 25 MOBs to our portfolio since January 1, 2014, offset by dispositions during the same period. Approximately $23 million of property operating expenses were derived from our medical office buildings and $62 million were derived from our managed senior living communities.

General and administrative expenses for the quarter were at $10.6 million compared to $8.3 million for the same period last year. The increases primarily relates to the property acquisitions, offset by dispositions since January 1, 2014. At 4.6% of quarterly revenues, SNH continues to maintain a G&A expense as a percentage of revenues at or below its healthcare peers.

Interest expense increased 24% to $36 million this quarter compared to the same period of last year, primarily as a result of the issuance of $650 million of senior unsecured notes of April of 2014, and our $350 million term loan which closed on May of 2014, offset by the repayment of approximately $103 million of secured debt over the past year. Subsequent to quarter end, in April we repaid a mortgage note with a principal balance of $6.3 million with an interest rate of 5.8%. We will continue to look for opportunities to repay secured debt and refinance debt at lower rates whenever possible.

At the end of April we sold the one MOB classified in discontinued operations for $1.5 million. In the first quarter of 2015, we reported a loss from discontinued operations from this MOB of $241,000 compared to income from discontinued operations of $1.3 million in the first quarter of 2014, a differential of approximately $1.5 million year over year, which we include in our calculation of normalized FFO. In the second quarter we expect to record another loss of discontinued operations, albeit a much smaller amount, for the one month we owned this particular property. In February we sold one leased assisted living facility that was classified as held of sale and currently we have three leased skilled nursing facilities with an aggregate net book value of approximately $1.3 million classified as held for sale, which we expect to sell over the next couple of quarters.

During the first quarter we recognized a $1.4 million loss on extinguishment of debt related to the termination of our $700 million bridge loan commitment we received in December to fund the acquisition of the senior living communities from CNL.

Moving to the balance sheet. During the quarter we closed on $539 million of acquisitions, invested $4.6 million into revenue-producing capital improvements at our leased senior living communities. During the quarter we also spent $2.4 million on MOB tenant improvements and leasing cost. These costs can vary significantly quarter to quarter depending on when we execute certain leases. Our recurring capital expenditures included $487,000 at our medical office buildings and $2.2 million at our managed senior living communities. We also incurred approximately $5.5 million of development and redevelopment capital expenditures primarily at our managed senior living communities which was in line with our expectations.

On March 31, we had $78 million on cash on hand, zero standing on our revolving credit facility, $1.7 billion of senior unsecured notes, $625 million of secured debt and capital leases, and a $350 million unsecured term loan. SNH's balance sheet on liquidity remains strong and in line with our peers, with total debt to gross book value of real estate assets of approximately 41% and adjusted EBITDA to interest expense at 3.8 times.

In February, we issued 31 million common shares, raising net proceeds of approximately $660 million. Subsequent to quarter end on May 1, we closed on the majority of the CNL acquisition for approximately $763 million, which included the assumption of approximately $139 million of secured debt with a weighted average interest rate of 4.6%. We used cash on hand and our revolver to close the CNL acquisitions, which commonly has $550 million outstanding. As previously discussed, we expect to pay down the revolver with debt financing and have the flexibility to be opportunistic about when we go to the debt markets.

As Dave mentioned, we are very pleased with our accomplishments this quarter, and in particular the portfolio acquisitions which we believe makes us a stronger Company. With that, Dave and I happy to take your questions.

(Operator Instructions)

Tayo Okusanya, Jefferies.

A couple of quick ones from us. First of all, the leases that were canceled from the prior operators and now with Five Star, could you discuss a little bit about the rationale for that transfer, number one? And if you could give a sense of some of the key differences in regards to the management agreements in regards to the Five Star agreement, what the old agreement looked like?

Sure, hi, Tayo. Yes one correction is that whatever was leased before in the CNL transaction, was just [fueled] by us, so we did not terminate any leases with the CNL transaction. And in fact it was one manager that we terminated the management agreement and entered in to a longer term lease with.

And so the managers that we did terminate, all of those agreements matured within about 1.5 to 3 years and something needed to be done anyways. So we were not willing to assume those contracts as they were currently structured. There was very little, if any, termination costs to terminate those agreements. So we approached each operator to encourage them to enter in to a long-term lease with us.

But we could not come to terms either -- usually because they wanted the rent to be set at such a discount from the current cash flows that it was no longer attractive to us to do that type of transaction. So really it was a question of whether to try to structure a long-term management agreement with them or offer the opportunity to Five Star to manage.

Five Star agreements are at 3% of revenues with the larger incentive on the bottom line performance, whereas most of the other agreements historically have been at say 5% or so of revenues with a little bit of a bonus if they achieve certain results. So we decided -- and in addition, another consideration for us was the fact that as a public Company we have to be worried about compliance with Sarbanes-Oxley rules and we had some concerns about whether some of these local managers would be able to comply, and we certainly would not want them to impede our ability to access capital markets.

So we came to conclusion that we wanted to engage Five Star to manage these properties. And we believe that they can bring additional revenue to the properties by adding the services and expanding the physical plant of a number of these properties and continue to grow the revenue side. And expense-wise we believe that they can achieve some savings on the expense side. I think we may [even] incur some additional costs with healthcare benefits and things of that nature. But net, net I think it should be a positive for us.

That's very helpful. And then one quick follow up, the same-store NOI growth this quarter for the [Red Deer] platform at 5%, that came despite same-store occupancy actually dropping so I'm curious what the offset is. Is it really strong rents, is it much lower OpEx growth? What happened to generate the 5% and how sustainable is that going forward?

Sure well a good part of it is actually the rate increase. If you want to do a quick back of the envelope calculation, the occupancy represents about 65 or so residents. And the loss of income from those 65 residents is more than offset by just 1.8% rate increase across the board for everybody else so that nets to about a $600,000 or $700,000 revenue increase just on that alone.

Then expense-wise I think it was pretty well kept in check. We really didn't -- I think that's a very sustainable run rate for expenses. And last year there's a little bit of volatility during the quarter, so at the end of the year I think we were about 3.5% year-over-year growth. I think 3% to 5% is what we would expect to be at least normal to sustain over the course of time. And I think there's some from margin growth that we can achieve given these assets.

That's helpful. Thank you very much.

(Operator Instructions)

Daniel Bernstein, Stifel.

This is Elizabeth Moran in for Dan Bernstein. A couple questions on [shop] first, a couple housekeeping actually to begin with. Do you have sequential same-store occupancy change for the shop portfolio available?

It'd be a different number of communities in both areas.

Right, okay. So there's no same-store number that we can grab just for the sequential change?

Occupancy for the fourth quarter last quarter was about on the same-store 87% -- 88.4%.

Okay. But that's a different number of communities than the ones in same-store for 1Q?

We've added a couple more communities.

Okay. But that's a decent proxy for picking up the difference?

Absolutely.

Okay, sounds good. And then what is the breakdown of AL versus IL in the shop portfolio? And did the AL do worse and was it really any difference in performance in AL, IL?

Well let's see roughly it's about two-thirds AL. There is some skilled nursing that was picked up as part of the Sunrise Senior Living transaction a couple years ago. So it's probably about I'd say 20% skilled nursing, another 40% or so, 45% assisted living and the rest is independent living. What we saw was independent living continues to improve on an occupancy rate basis. Assisted living has been kind of flat and skilled nursing I would say declined a little bit. At my fingertips I don't have the specific numbers, but that's general trends.

Okay, that's fine. And then yesterday Capital Senior was discussing the same flu impact that they saw and mentioned that towards the end of the quarter in March they really regained a lot of their occupancy. And I'm wondering if you saw the same pattern happening in your portfolio and trying to get an idea of what it looks like going into April.

Yes, we did have a handful of properties in our portfolio that were closed to new admissions during the first quarter, so that definitely affected our occupancy levels. We did see the flu season continue on into April so and was really towards later April that we started to see the census pick up meaningful to get back to close to where it was before.

Okay. And then one general one on trends you're seeing in terms of portfolio transactions. Do you think if you were to be closer in negotiating the transactions that you've closed so far this year or have pending that they'd be happening at about the same cap rates as you saw or are you seeing a meaningful compression in cap rates even this year?

I do think that cap rates are still under a lot of pressure to shrink and I am very confident that everything we bought it would trade most likely for a lower cap rate today than what we agreed to even six months ago. I consider the market very frothy right now.

And I think as a Company, I think we're going to exercise extreme discipline and pursue predominantly smaller transactions that are added to our existing portfolio to fill in some holes or to do some expansions at existing properties. But I think we'll be very, very cautious about anything of size.

Great, thank you. That's it for me.

Tayo Okusanya, Jefferies.

Yes, thanks for indulging me. A follow up in regards to the triple net portfolio. Again you did see same-store NOI slow in that portfolio on a same-store basis but yet again occupancy did increase, same-store occupancy increased. So was that all rate related? Did you have like a really big roll down? Or I'm trying to understand what created a slowdown there.

Well Tayo, we had -- this is where a lot of our sales on the senior living are coming from too. So we're taking those out of the triple net senior living. The increases, we don't have set increases for the majority of our leases there, they're based on percentage rent increases. And if you look at our percentage rent on the FFO page, the calculation is flat year over year and that's particularly from the ones that we have sold, they're not participating no longer.

So we hope that as 2015 goes on, that percentage rent will go with the existing leases. But other than that going in other increases really relate to the capital improvements that we put in to the property. That's really -- that's all happening on our triple net senior living side as capital improvements.

So was it mainly lower percentage rents, is that what was going on there?

It was flat, it wasn't lower. It's just flat year over year where usually you would see maybe 100 to 200,000 increases if we had all the properties still in there. But we're selling off some of these properties that are no longer participating.

Okay, so that (inaudible). The slight change in the same-store pool is what created some of that noise?

That's right.

Okay, got it. And then on the MOB side as well, same-store NOI growth negative 1.5%, just talk a little bit about that and what happened during the quarter.

Sure. As Dave mentioned on the call there was a decline in occupancy of about 40 basis points and there was a modest increase in the expenses probably right around only about 125,000 that really both impacted the same-store MOB results for the quarter. However, during the quarter we've seen positive leasing activity with average rent roll ups are about 8.9% which will take, as Dave said, it'll take effect during throughout the year 2015 but we saw that.

In addition, about 50% of the recent vacancy space has been re-leased at comparable or better rates. Once again will also take effect probably in the third or fourth quarter until we see those. But those are all the positives.

Yes and if you're looking at (inaudible) is in Q4 we tend to have more escalatable income. And we have a little more clarity on some of the accruals and things like that. So I think Q4 is probably the best quarter of the year for MOB results.

Okay, thank you.

Vikram Malhotra, Morgan Stanley.

Could you remind us now that you've still got a larger MOB portfolio following the recent transaction, how are you thinking about the portfolio? Are there parts of it that you may look to dispose of? And how do you think about how much MOBs are as percent of the business now and where do you want that to go?

We continue to look at the portfolio and as far as of those assets that we just acquired, I don't envision really selling any of the new ones. But I do expect that we will continue to evaluate the existing portfolio and there's a good chance that we will collect some assets to (inaudible). Generally the portfolio is performing very well.

As far as a percentage of our portfolio, it's about 44% today. There are -- it's interesting to view that asset class because they're very good assets typically, very stable and the industry as a whole is very fragmented. So this creates a lot more opportunity to do one-offs, small portfolios and so on.

I think we'd be willing to buy more and bring it up closer to 50% of our portfolio, but it's not a line in the sand per se. But we think the better growth opportunity, internal growth, is on the senior living side so we have to balance those two in our decisions.

Okay, that's helpful. And then to get a little more insight to the portfolio as it stands today, do you know what the mix is of single-tenant buildings versus multi-tenants for the MOB portfolio?

I think from a single-tenant perspective, it's approximately about a third of the portfolio. And by single-tenant, that doesn't necessarily mean triple net. A lot of them are managed buildings but with one tenant in them.

That's what I meant. And what percent roughly of the leases are directly with a hospital or a healthcare system versus just individual doctor's practices?

Our portfolio, our MOBs themselves include biotech, healthcare facilities and some medical equipment manufacturers and so on. So if you were to pull that apart, it's about 45% of the portfolio where it's either directly leased to a healthcare system like our Aurora Healthcare or where the healthcare system is the major tenant and draw to that building like the Cedars-Sinai buildings or the Baylor buildings we have in Texas or some of the other healthcare systems we have. Our Childrens in Boston or Aurora.

Okay, that's helpful. Thank you.

Thank you and I'm showing no further questions at this time. Please continue.

All right, well thank you all for joining us today. And we look forward to seeing many of you at NAREIT which is just around the corner in June. Thank you, have a great day.

Thank you. And ladies and gentlemen, that does conclude your conference call for today. Thank you for your participation and for using AT&T Executive Teleconference Service. You may now disconnect.