Healthpeak Properties Inc (DOC) 2017 Q3 法說會逐字稿

Greetings and welcome to the Physicians Realty Trust Third Quarter Earnings Conference Call. At this time, all participants are in a listen-only mode. A brief question-and-answer session will follow the formal presentation. (Operator Instructions) It is now my pleasure to introduce your host, Bradley Page, SVP and General Counsel. Thank you, Mr. Page, you may begin.

Thank you. Good morning and welcome to the Physicians Realty Trust third quarter 2017 earnings conference call and webcast. With me today are John Thomas, Chief Executive Officer; Jeff Theiler, Chief Financial Officer; Deeni Taylor, Chief Investment Officer; John Lucey, Chief Accounting Officer; Mark Theine, Senior Vice President, Assets and Investment Management; and Daniel Klein, Senior Vice President and Deputy Chief Investment Officer. During this call, John Thomas will provide a company update and overview of recent transactions and our strategic focus. Jeff Theiler will review the financial results for the third quarter of 2017 and our thoughts for the remainder of the year. Mark Theine will provide a summary of our operations for the third quarter of 2017. Following that, we will open the call for questions.

Today's call will contain forward-looking statements as defined by the Private Securities Litigation Reform Act of 1995. They are based on the current beliefs of management and information currently available to us. Our actual results will be affected by known and unknown risks, trends, uncertainties and factors that are beyond our control or ability to predict. Although we believe our assumptions are reasonable, our forward-looking statements are not guarantees of future performance. Our actual results could differ materially from our current expectations and those anticipated or implied in such forward-looking statements. For a more detailed description of potential risks, please refer to our filings with the Securities and Exchange Commission.

With that, I would now like to turn the call over to the Company's CEO, John Thomas.

Thank you, Brad, and thank you for joining us this morning. The third quarter of 2017 was phenomenal. We had another successful quarter of new investments and operating results and our lens is sharp and well-addressed by our favorite shareholder. During this quarter, we invested $190 million at an average per-share cash yield of 6.4% in very high-quality medical office facilities. Mark Theine will discuss our asset management performance delivered by his high-quality [DOC] team in a few moments. In addition to those transactions previously announced, we are excited about our new client, Midland Health in Midland, Texas, an A3 investment-grade hospital that leases along with our longstanding multi-site clients, United Surgical Partners, are very high quality in medical office facility in that market. We invested $30 million in our 64,000 square foot medical office building, anchored by Midland Health and United Surgery Partners, which have 23% of the building and Midland Health occupies 77% of the building and a total first year cash yield of 6%. This building is less than 2 years old. Midland, Texas is the heart of the Permian Basin that has oil and gas reserves, expected to last long beyond our lifetimes. This is our 11th USPI anchored facility and we added a 12th building anchored by USPI with their partner Ascension Health early in this quarter in the Franklin, Tennessee, particularly with an ambulatory surgery center owned and managed by that partnership between USPI and St. Thomas, as well as local physicians.

This 26,800 square foot facility is 100% leased with half containing the surgery center and half leased and occupied by physicians that [go along] with surgery center. Our first year cash yield on that investment is 6.7%. This building is 3 years old.

DOC has always been focused on high quality that is also accretive. The market has been trying to define quality and we would humbly suggest recent efforts to define quality have adopted DOC's definition. So how do we define quality? We believe the most important factors in assessing the quality of a medical office building are health system affiliation, credit quality that tenant pay to the building, occupancy, market share of the tenant, average remaining lease term, size of the building and the client services and mix of services in the facility.

There are other factors that can be important of course that may or may not be relevant to the quality of the facilities depending upon the circumstances. For example, a medical office facility full of physicians and services that do not require close proximity to an inpatient hospital to be successful, maybe far higher quality than an on- campus building, especially the location is proximity to the patients that is the customers that will make the providers that is our tenants successful. Medical office facilities anchored by an orthopedic group of surgeons, which includes clinical space, imaging space, outpatient surgery and physical therapy space in a location convenient to insured soccer moms and weekend warrior dads is not only relevant real estate, but high-quality medical office space regardless of health system affiliation.

Peachtree Dunwoody Medical Center in Atlanta, Pill Hill is this building. It just happens to also be anchored by an adjacent hospital system as well. Our client Northside Hospital, which has its own ambulatory surgery center in the building, our 603 asset. Barriers are convenient to access for patients, barriers to entry for politician, and payor mix of the patients can all have a material impact on the quality of the building, as well as the economic conditions and supply of the host market. EBITDAR coverage and quality of management of the tenant are also materials of this analysis and measures of quality, especially with single-tenant portfolios.

The goal of course is to deliver the highest and most reliable total shareholder returns year in and year out with both earnings growth and net asset value that is share price appreciation. As we have built DOC from the beginning, we have sourced primarily off-market and through direct working relationships with health system C-suite and physicians over 250 facilities, including almost 14 million rentable square feet.

In 2013, 81% of our acquisitions were on campus or affiliated with a health system at an average first year yield of 8.6% with no credit rating health system included in our top 10. 2014 and '15 saw a similar focus on facilities that were on-campus or affiliated with a health system with first year yields continue to compress, 7.6% in 2014, 2015 with 6.9% on average. Due to the focus on higher quality as our cost of capital allowed us to be more competitive for these higher-quality facilities in larger markets, as well as the increased flow of capital seeking medical office facilities. 2016 was transformative in both the size and quality of our portfolio, highlighted of course by the largest single monetization directly with a health system with $700 million invested by DOC in 9 markets with CapEx health initiatives, a BBB+rated health system. Not only are these facilities mission critical to the CHI hospital, CHI hospital credit leases more than 90% of the rentable square feet with initial lease terms of 10 years and annual rent increase of the 2.5%. As we're coming on the anniversary date of that acquisition, we are proud that our first year yield has grown from the 6.2% and now from the date of the acquisition to approximately 6.4% in hindsight, seeking 20 basis points of yield through leasing and better asset management, and we expect more in the near term.

Our tenant satisfaction scores across this portfolio and the health system leaderships is off to charge. In fact CHI was so pleased with our integration and management of these facilities. CHI presented us 50 more facilities to consider for monetization in 2017. Working directly with CHI C-Suite, we selected 13 more facilities, 99% occupied, located in several new and existing markets and invested another $157 million at an average first year yield of 6.8%, completing the purchase of the last 5 facilities in the most recent third quarter. CHI credit hospitals lease and occupy 93% of these facilities. We now lease more than 3.1 million square feet to hospitals affiliated with and controlled by the CHI, which is approximately 24% of our portfolio and 19% of our ABR.

In 2017, year-to-date, we've invested approximately $1.1 billion at an average first year yield of 5.6%. The compression in cap rates is heavily influenced by the capital flow from around the globe seeking to invest in medical office building and in particular the Duke Realty portfolio that was auctioned and sold this summer. We of course were handpicked by 3 credit rated health systems to step into their rights to purchase what we believe are the 5 best buildings from the Duke portfolio, including the Baylor Scott and White 468,000 foot Baylor Cancer Center at the heart of Baylor's flagship hospital in downtown Dallas, Texas.

As a result, Baylor Scott and White with an A3 investment grade rating is now our third largest tenant and McKesson with a BAA2 credit rating, which owns US Oncology, the lease is a large portion of the Baylor Scott and White cancer center and 2 other facilities we own in the DSW market is our fourth largest tenant. We also added 2 additional Ascension Health affiliate facilities rated Aa2. Those buildings in the campus of St. Vincent Carmel and St. Vincent Fishers in the Indianapolis market are very high in suburbs and we now own 8 facilities with more than 628,000 rentable square feet on Ascension Health campuses, with more than 50% actually leased directly to the Ascension Health owned hospitals in 3 different markets. Because we count tenants in our top 10 market-by-market, no single Ascension Health market has cracked our top 10, but at least one market, Indianapolis is close and we expect based on our contracted pipeline will join our top 10 tenant list in the fourth quarter.

We also acquired, via Duke hospitals-preferred DOC process, 2 more facilities anchored by a lease of Northside Hospital, which does not have a credit agency rating, but its balance sheet and operating performance support provides what we believe would earn an investment grade rating. During the third quarter, we announced the Gwinnett Health System, an A3 rated health system in Atlanta and exercised its rights under rights of first refusal to purchase 3 medical office facilities from the original developer owner Meadows & Ohly, who had agreed to sell those buildings to another REIT. Gwinnett agreed to new leases and expanded their total direct occupancy, such that when we purchased these 3 buildings in cooperation with Gwinnett Health System, our first year contracted yield is expected to be approximately 5.5 %.

Northside Hospital and Gwinnett have agreed to merge and are working through the Attorney General of Georgia for the regulatory approval, which we both expect to receive. On a combined basis, we have 6 facilities in the Northside/Gwinnett Health System with more than 735,000 square feet with more than 400,000 feet leased directly by the hospitals themselves. That will be approximately little over $8 million in first year ABR, which makes them one of our top 4 tenenats. At the end of third quarter, we added yet another off-market medical office facility leased entirely to HonorHealth, an A2 credit-rated health system. We now have more than 240,000 feet leased directly to HonorHealth and we expect more. Also during the third quarter, our partner Mark Davis sold to us another 2 great medical office facilities well leased and anchored strategically by hospital systems in the [vikings marking] in connection with our pending purchase of a 148,000 square foot Hazelwood medical office building on the campus of Fairview Health, an A2-rated health system, St. John's Campus that Mr. Davis developed. He will be contributing this new facility to [DOC LP] in January 2018 in exchange for DOC LP-preferred OPUs. Quality is health system affiliation. DOC has more than 30 credit-rated health systems leasing space from us. Quality is more than 95% leased occupancy, far more than any other publicly-traded medical office building owner. Quality is more than 8 years average lease term remaining. If you're a hotel or an apartment owner or a student housing owner, perhaps short-term leases are good. The lease commissions tenant improvements and lease concessions on typical medical office building renewals and new leases is a material impact on funds available for distribution, not to mention a hedge on reliable rising dividends. Quality is actual health system credit on the lease, not just a building owner adjacent to a hospital campus, but actual credit quality health system that desires to lease the space. Quality is high-margin services in your facility. Orthopedic and neurospine surgeons are the single largest physician specialty in our facilities.

Our largest nonhealth system specialty across the board is orthopedic surgeons (inaudible) leased space across the country from us. Quality of the health system calling you to exercise a right of first refusal when anyone other than DOC has the opportunity to buy the real estate in an auction. Quality is actual same-store NOI growth. By our own transparent metrics, we have approximately 80% of our total portfolio on campus or affiliated with a health system. We want that number to be 90%. We believe this level of health system affiliation will deliver optimal and reliable and growing shareholder returns.

So how do you achieve optimal portfolio quality? One can think about high-quality assets from a developer and we have great developers [speeding] us newer, larger health system lease facilities, like Mark Davis, Jim Bremner in Cornerstone Health, with more to come from each of them. More importantly, when C-suite executives at the largest health systems in the United States invite us to meet with them, to partner with them, we get excited about the future and our continued opportunities to grow and grow with very high-quality medical office real estate. Deeni and I -- Taylor and I had 3 such meetings in the last week. If DOC enters its fifth year, we will continue to execute our strategy that we have since day 1 to buy the highest quality medical office facilities at prices that are accretive short-term and that will deliver reliable rising dividends over time.

After yesterday's release of the tax bill in the U.S. House capping the tax rate on the dividends paid by reached to 25% consistent and growing cash flow translated into higher dividends over time should be even more valuable.

Briefly, since we first shared the challenges with foundation health facilities in El Paso and San Antonio, Texas, the physicians, in particular we practice in each of those locations have worked hard to restore those facilities to their historical success and each has paid their rent every month since April and each continues to work hard to reduce their back rent balances due to us.

Lastly, our medical office building in Kennewick, Washington is occupied by physicians and services and treating patients even today that are important to that community. While the hospital -- the lease of the building from us has been challenged. The real estate at a hospital is owned by a member of the Dow Jones Industrial index and we are working with them to find solutions for the future of that facility. We cannot tell you when we will be again collecting rent on that building, but we remain confident, as the building is now invaluable, but will continue to be a valuable asset years ago. I'll now turn the call over to Jeff and look for your questions and answers. Thank you.

Thank you, John. In the third quarter of 2017, the company generated funds from operations of $45.2 million or $0.25 per share. Our normalized funds from operations were $47.4 million. Normalized funds from operations per share were $0.26 and our normalized funds available for distribution were $42.8 million or $0.23 per share. Year-to-date, our normalized FFO per share of $0.77 represents an 8.5% increase over the comparable period last year. In the third quarter of this year, our relationship acquisition strategy resulted in $190 million of additional investments, a big part of this acquisition volume involved off-market repeat deals with health systems like HonorHealth and CHI at attractive valuations, a testament to the focus and attention we have devoted to these tenants in our previous transactions. We have the luxury of being able to pick and choose acquisitions, as our senior management's healthcare experience and our existing relationships with healthcare system executives make us a preferred owner of medical office real estate. We have seen several medical office building trades at very low cap rates over the past few months. We have purposely stayed away from the high-priced portfolio deals. Instead, we have increased our focus on off-market acquisitions such as the brand new 148,000 foot development that we entered into a contract to acquire in Hazelwood, Minnesota.

The building is anchored by Fairview Health, which is rated A2 by Moody's and we'll be closing on the building in early 2018. We are also distinguished by our ability to work cooperatively with health systems as we did during our transaction with Gwinnett Healthcare System that is merging with Northside. That system decided to exercise their rights of first refusal on a portfolio deal and then modify their lease terms to attract DOC as the landlord. Gwinnett/Northside believe that DOC would be the best partner for them, as they continue to expand their presence in the Georgia market. Our reputation as a true partner continues to provide more and more opportunities to acquire mission critical assets for healthcare systems that are looking for trusted landlords. And bringing these strategic assets into our portfolio provides tangible benefits to our shareholders. In general, our asset acquisitions were concentrated in the latter half of the quarter. For modeling purposes, had we acquired all of the third quarter acquisitions at the beginning of the quarter, they would have contributed an additional $1.8 million of cash NOI.

Turning to operations, our same-store portfolio, which represents 66% of our total portfolio generated year-over-year cash NOI growth of 2.3%, driven by contractual rent growth. We continue to have the most highly utilized MOB portfolio with 96.6% of our space currently leased. These 4 buildings allow us to generate strong renewal spreads from our tenants with minimal concessions, as Mark will discuss in more detail. Additionally, the drag from our recurring CapEx including tenant improvements and leasing commissions are the lowest in the sector at about 5% of NOI. This all translates into the generation of more cash flow that we are able to return to our investors and redeploy in accretive acquisitions.

As usual, our balance sheet is strong with net debt to adjusted EBITDA of 4.8x and debt to total capitalization of 27%. We closed that 20 million share offering that we announced in late June in the beginning of the third quarter which has provided funding for the third quarter acquisitions and beyond. We had no issuance on the ATM in third quarter and retained roughly $215 million of capacity on that program.

In summary, we are in excellent position to continue to build out an enhancement of our portfolio in accordance with our previous guidance.

Finally, to briefly touch on G&A. Our G&A for the quarter was $5.9 million, which puts us at $16.8 million in the year and on pace to meet our previously discussed guidance range of $22 million to $24 million for 2017.

With that, I'll turn it over to Mark who will walk you through some of our operations and statistics in more detail.

Thanks, Jeff. We are pleased to report another strong quarter of operating performance for our existing portfolio as we continue to operate our properties efficiently and profitably. As John mentioned, our portfolio is an industry-leading 96.6% leased and delivered a solid 2.3% growth in NOI in our same-store portfolio. This growth includes a 3% increase in rental revenues and a 4.3% increase in operating expenses in the same-store portfolio that is 95.5% leased. For the first time this quarter, 45 facilities of the initial Catholic Health Initiatives portfolio entered same store. And as a result, the same-store portfolio now represents 66% of our overall portfolio, up from 55% of the portfolio in the previous quarter. The performance of the [CHI] portfolio continues to outperform our initial underwriting. On a trailing 12-month basis, the portfolio yielded 6.4% compared to our underwriting of 6.2% and we expect improvements in these numbers at the Springwoods and Woodlands medical office buildings in Houston, Texas, have several leases commencing shortly. Over the last 12 months, our team has worked closely with CHI and the global hospital leadership teams in each market to exceed expectations in the transition of these facilities to our ownership. This structured relationship has led to DOC becoming one of their preferred real estate partners and recently resulted in the opportunity to completing the rest off-market follow-up transaction of 13 facilities, totaling $157 million at a 6.8% first year unleveraged yield, of which 5 of these buildings totaling $33.7 million closed this quarter at the end of August. Over the last year and a half, our relationship with CHI has only strengthened producing far better results than we could have anticipated to serving and and looking forward to be continuing to demonstrate why we are the preferred partner for hospital line and physicians. During the quarter, we also saw strong leasing momentum and our team continues to excel producing outstanding results by using our responsiveness and quick approval process as a competitive advantage.

In the quarter, we leased 130,000 square feet including 97,000 square feet of lease renewals and 33,000 square feet of new leasing. Pre-leasing spreads on the 97,000 square feet were positive 6.5%, primarily driven by our ability to push rents in certain buildings that are nearly or completely leased. Our retention rate for the quarter was 72% as a result of 38,000 square feet that did not renew, but was offset by 33,000 square feet of new leasing in the period.

Notably, the rate per square feet on the space that did not renew was $17.81 compared to a rate of $20.79 for new leases completed in the quarter, representing an improvement of roughly $3 per square foot. Nearly half the space that was not renewed in the quarter is located in one building in Phoenix, Arizona and we are already in discussions with urology practice and an allergy practice to take approximately 10,000 of the 21,000 square feet that was vacated in that building.

Rent concessions in the quarter remained very low with no free rent and approximately $1 per square foot per year for these renewals and $ 5 per square foot per year for new leases. Looking forward to the remainder of the year, we have about 20 leases totaling only 60,500 square feet scheduled to renew. Beyond 2017, we have no more than 6% of the portfolio scheduled to renew in any 1 year for the next 7 years through 2024.

Our lease expiration schedule is deliberately laddered to [save] lease expiration days, ultimately driving very predictable growing cash flow to support reliable rising dividends for years to come. Looking ahead, in 2018, we will continue to grow our integrated management leasing platform and are well-positioned to drive operational excellence, consistent same-store growth in our MOB portfolio and support outsized growth of new acquisitions.

Our management structure is scalable and we'll continue to benefit from concentration as we invest in top quality properties and portfolios in the future.

Thank you, Mark. We now look forward to your questions.

Thank you. We will now be conducting a question-and-answer session. (Operator Instructions) Our first question comes from Juan Sanabria with Bank of America.

I was just hoping you could speak to the same-store NOI growth, you're excluding 11 assets, I think that was a bit less last quarter and just the impact of those assets now excluded and held for sale and what drove that change in those assets now that are not a part of that non-core pool?

So, I think we've been talking about -- this is Jeff, we've been talking about for a couple of quarters now the desire to prune the very bottom of our portfolio. So, what we did is we combed through and we looked for assets that we felt were really non-core assets and these are really smaller assets and most often secondary markets. We are talking a lot of them are a couple million dollars. So, what we did is we want to provide a picture of what the go-forward portfolio is on a same- store basis and exclude the assets that we think we're going to get rid of in the next quarter or 2. So, that was the thinking behind it. It's very similar to every other REIT, but does it that way. And so we want to provide visibility on what we think the go-forward portfolio is.

Were there any bad debt or collection issues at those assets that would have skewed to same-store NOI results other than like the Trios and foundation stuff that we now own?

Yes, I mean they are s so small, it's not material.

And then on just the balance sheet, I guess pro forma for the announced and pending acquisitions whereas leveraging and kind of how much debt capacity do you have kind of above and beyond that relative to your leverage targets?

So we feel really good about our financial position. Obviously, we did that big share offering to close at the beginning of this quarter. So, that put us in a really good spot to acquire our assets this quarter and really kind of pre-fund the pipeline that we have going into the fourth quarter. So going through our announced pending acquisitions will probably put us right at about 35% debt to assets, which I would say is kind of right in t he middle of our target range and we've go some ability to go up from there on a shorter-term basis if we want, but really keeps us in a comfortable leverage position.

And then as we start to think about the pipeline and for 2018, latest thoughts on kind of where we should expect the average cap rates for transactions to be with the seemingly less of a focus on kind the of price your portfolio transactions as per the prepared remarks.

Juan, this is John. We continue to find, as I mentioned, several acquisitions in the 6% range. But again, the highest quality assets, health system anchored, new bigger long-term stronger buildings in the mid 5s today, 1 building at a time kind of acquisition market. So, 5.5% to 6% is really kind of what we see. So far to date, we're about 5.6% on the $1.1 billion invested so far this year, and kind of see at the end of the year closing out at that kind of range.

Our next question comes from Jordan Sadler with KeyBanc Capital Markets .

So, I wanted to touch base just on the expenses, they spiked up a little bit more than I anticipated. On a same-store basis, I think they were up a little bit higher than trend. What sort of drove that in the quarter?

Good morning, Jordan, this is Mark. So, there is couple things that drove the increase in expenses in our same-store. As you noted, the expenses are up 4.5%. That's primarily driven by increase in real state taxes, especially at the CHI buildings, where the buildings have been reappraised in this first year since we acquired them and it's also a result of some operating increased expenses at those buildings, as we've executed on our plans to improve some deferred maintenance item now that we are the owners of these buildings.

Will that growth rate subside or that will sort of continue through for the next few quarters or so?

I think it'll subside a little bit in the quarters to come.

And then I guess, Jeff, on the balance sheet, just curious where you stand on a longer-term financing bond deal assorts, what are your thoughts here?

So, certainly as we look out into this quarter, the fourth quarter and we've announced a bunch of pending acquisitions, that will put our line up over $300 million and I think that's at a point where we start looking at longer term financing options. So, I think that's something we definitely consider this quarter or early next quarter. And right now when we talk to the banks, it seems like the rate is probably just over 4% on a 10-year basis, probably bond offering.

Is it 10-year?

Y es.

And the loan investments in the quarter, if I might -- was that anything specific, was it multiple or one single larger deal, any color you could share there?

So, the loan investments, there were kind of 2, the primary loan investment was in a deal that's portfolio of assets where we put in a loan for the opportunity to acquire 4 of those assets out of that portfolio at cap rates that we think would be fairly attractive if we were to exercise that option. Like we always do, we made it optional, such that we have the opportunity, but not the responsibility to exercise that option. And so we'll evaluate that at the time a long with our cost of capital whether it makes sense to go ahead and acquire those buildings in full.

Our next question is coming from John Kim of BMO Capital Markets.

Thank you. Over last few months, you've been adeptly acquiring assets, the Ropers, a heavily marketed transaction. Do you think this is a strategy that could be replicated on future transactions or do you think buyers will be trying to preemptively address this?

John, great question, and good morning. And I don't think it's a strategy per se, I think our strategy is to align ourselves and have fantastic c-suite relationships that have my cellphone number and Deeni's cellphone number and Dan Klein's cellphone number and when they see those opportunities and want to pick the owner of their real estate or have the opportunity to pick the owner of the real estate, we're getting those phone calls. So, I think we're very excited about how it's worked out this year, but it's -- I think our strategy is to align ourselves with the best health systems in the country. And then in each case, it was a health system that called us and invited us to participate with them to buy those buildings back. And as Jeff mentioned, sometimes they have to extend leases or expand -- improve the leases to make it attractive real estate does as well and they did so. So, it's more and more health systems consider monetization. The real estate or developers who build real estate for health systems seek to sell that, I think we'll have more and more opportunities to do so, but again our strategy is to align ourselves with best health systems and then fortunately we get the phone call when they have the option to buy the real estate back.

Can you just elaborate on that besides the relationships that you have? Is there anything as far as more favorable lease terms or rights or anything else that you provide in healthcare systems?

It's not so much favorably certain that we provide is the relationship and then frankly, Mark Theine and his team have developed in a very short period of time a very high-quality level of service and performance at the health systems, want to have managing their buildings and keeping the buildings attractive to their physicians and their patients and expanding their services. So, that's really what it's about and it's also actually keeping the buildings leased to physicians and identifying physicians and services to come to the building, again that makes the health system more profitable if you will, and providing more services over time. So that's the reputation we have and the reputation is growing and why more and more health systems are making those phone calls to us.

And then this quarter your off-campus exposure declined by 2%, I think, John, in your prepared remarks, you said you wanted to reduce the off-campus exposure in your portfolio. But earlier in your commentary, I thought that you were kind of suggesting that you were more open to invest north campus as long as the real estate was good given location and where people live.

To be clear, we don't have necessarily reduced our exposure to off-campus, we want to increase our exposure to off-campus. The health facility leased a position. I think we have more what we call 603 assets than anybody at least as far as we know, and those are off-campus assets leased up to health systems that have an reimbursement advantage under the current system. So, we look at the real state each building on a case-by-case basis is anchored by health systems and anchored by high-quality physician group and is it in the best location to make it that building itself and then [providers] in that building are successful. So, again on- campuses with some of the biggest and the best and the newest buildings we bought particularly this year are on-campus, but their on-campus leased to high-quality health systems and again many of these were through the Roper process. And I think most of you all know, we're going to a NAREIT in Dallas in a couple of weeks who'd host investors to visit the Baylor Cancer Center, which we believe may be the best medical office facilities certainly if not in the country, maybe in the world itself. So it's not about reducing exposure to off- campuses, but increasing our exposure to high-quality health system anchored facilities in locations that make them the most valuable that they can be.

Our next question comes from Omotayo Okusanya.

Quick question, it's not a big part of your portfolio, but with your hospital and your LTAC exposure, the coverages came down a little bit this quarter. Just kind of curious how are you kind of thinking about those assets in regards to longer-term whether they're going to continue to be a part of the portfolio or how do you kind of think you are going to deal with that?

Omotayo, that's a great question. Good morning. So we -- the LTAC themselves like -- itself has responded very well to the changes in reimbursement in the LTAC reimbursement scheme in Washington, are coming out of Washington. That's the coverage at those levels -- at those facilities, which is the appropriate way to report it. We do have the entire life care balance sheet and P&L as credit behind those leases. So we're very comfortable with the future of the rent coming in on those facilities. But those and surgical hospitals themselves as well, which we have about 6 in the portfolio continue to be less interesting to us going in the long term. If we had the right opportunity to sell those we probably would and again to focus and increase the exposure, as John was asking earlier about to outpatient care services in a period. So, LTAC is doing fine. We had the bumps with the 2 foundation facilities, which you know about, but they have recovered very well because of the alignment -- the economic alignment and positions in those facilities and continue going forward. But those we think are probably weak. We would sell them at the right price, but at the same time don't expect to grow in those types of deals.

And then second of all, any update with the Dignity Catholic Health merger and what that may mean for some of the Louisville, Kentucky MOB asset?

There's kind of 2 separate things going on. One is the continuation of the Dignity Health and CHI merger discussions. We don't have any kind of new update other than continued work. It's very complicated and particularly with the church involved and necessity of working though all of the various Catholic -- the religious sisters that sponsor those facilities. But as far as we know, those discussions continue and move forward in a positive way and we're excited about that. We don't think there's any market overlap between Dignity and CHI that would cause some rationalization of closing or moving in different directions on hospitals and particularly the medical office buildings that we leased to CHI. We also have some Dignity Health relationships and facilities and we're excited about adapting the work together with those. The Louisville, Kentucky part of CHI in Kentucky is going through a process to sell those facilities. It's going to separate apart from Dignity, and to our knowledge, kind of the 3 leading candidates to purchase those hospitals with all the -- at least one of which is an existing client. I'd say actually 2 of the 3 are existing clients and we're really excited about the opportunity to grow our relationship with them if they move forward and purchase those facilities. Again our buildings in the Louisville CHI market are mission critical to each of those hospitals and so we're very confident about the future of that. The Lexington market within CHI is not for sale and we've been working, I recently met with the CEO of that hospital, which is several hospitals, Lexington and south of there. We continue to see great opportunities in that market working with CHI and with that hospital leadership in particular.

And then lastly from my end on the acquisition front. A couple of these large -- couple of large MOB portfolios out in the market with sale, I'm wondering whether these assets that are attractive to you guys and kind of what you kind of think about them?

Yes, there is some attractive portfolios out there. I think we're really focused right now on our existing hospital relationships and growing those relationships and the kind of off market growth of our portfolio. Primarily, we certainly look at everything that goes to market -- comes to market and evaluate those if we consider -- if it's appropriate for us or not in obviously price matters. So, I think we'll see continued high-quality assets trading at very strong front, particularly in the portfolios that are floating around and then if we can pick off assets 1 or 2 at a time out of those portfolios or otherwise we'll continue to do that.

Our next question comes from Vikram Malhotra with Morgan Stanley.

Sorry, I dialed in late, maybe I missed this, is there any update on the situation with Trios?

Yes. I've mentioned it Vikram and good morning. So, Trios, the hospital since continuing to work through the Chapter 9 process. We -- our building's full of physicians, our building is -- on the campus of that hospital system is certainly important to the hospital, but our building is actually extremely viable and strong as an outpatient care facility [in it] itself. So, we've been working with some potential buyers of the hospital and looking at a way to recapitalize that facility -- the hospital facility itself and working with our medical office medical office building, which is full of physicians who are seeing patients today and very busy. There really is no medical asset -- medical office building in community for those physicians to move. So, we're looking at it on a long-term basis, a very strong, [viable] facility that should perform well with or without a hospital next door. We're working with potential buyers to recapitalize the hospital and continue the mission of Trios, but there's another great health system in town that we wouldn't mind working with as well under right circumstances.

So just to clarify, but on the last income, what are you expecting over the next few months, is it next year?

Yes, that's -- it's hard to know. I think our best guess is we won't collect any rent through the balance of this year from that facility. We are collecting a small amount from independent physicians who lease some space in the building, but the primary tenant in that building are physicians employed by the hospital. And again if some happening that the hospital went away, we expect those physicians to obviously stay in practice and continue provide care in a different ownership structure. So, 2018 is -- we've been messaging as soon as we can expect the rent to restart and when and at what terms we don't know, but we're working again with both the tenants of the building themselves and potential buyers of the hospital to do that as quickly as possible.

And then just a clarification on, you talked about quality quite a bit early on, just want same-store NOI growth given sort of the mix of the portfolio geography wise and structurally -- structure wise, do you view sort of the 3% level as a sustainable number or is there something unique about the portfolio that might sustainably keep you under or over that?

We think 2.5% to 3% is what we usually expect with potential opportunities in some quarters for outsized numbers, but 2.5% to 3% if you look at CHI, the CHI hospitals themselves lease about 25% of our portfolio and it's about 19% of our ABR. I mean those leases are fixed at 2.5% for the next 10 years, so that's -- that gives you a pretty good run rate spectrum of what's market and what we can expect. Again we're 96% lease, so we don't spend a lot of money and time leasing small amounts of space, we focus on the health systems and leasing larger space to them for the long term. And then again, their expectation is market is kind of 2.5%.

And just last clarification on the additional assets marked for sale or held for sale, were there any CHI assets in that?

Yes, there is 1 small CHI asset (inaudible)

Yes, we had a local buyer -- [10-31] buyer approaches proactively (inaudible) considering selling, but the price is attractive. So, there's just 1 CHI building in there.

Yes, interestingly enough. We have right to do that and then CHI themselves -- we approached them about that opportunity in a building that they're in or leasing, but long-term are committed to either. So it's a good opportunity to put in.

Our next question comes from Chad Vanacore with Stifel.

I want to circle back on the couple of troubleshooting in the portfolios, Trios and Foundation. Are they both excluded from same-store NOI?

Yes.

Alright. And then did you recognize any rent from either in the quarter and where was that comparative contractual rent on each?

Yes, we did. We didn't recognize rents on Trios, as we talked about this quarter and last quarter as well. Foundation, we've recognized the same rent that we've recognized last quarter of $1.6 million. They continue to pay their existing rent and also make up background that they owe us. So, that's been consistent.

And just thinking about in 2018, And Trios (inaudible) bankruptcy. You started getting currently all rent again, was that about $0.03 a share impact?

It may not, it depends, right. I mean it depends what kind of rent you're getting from Trios in 2018. So, we were getting roughly $4 million of revenue from Trios prior to the bankruptcy. So, it will be somewhere around there.

And then just thinking about acquisitions in the quarter and going forward, do you expect something mid 5% to 6% and this quarter all the yields for the most part were up about 6%, are there any other opportunities in the pipeline like that or you're just being conservative going forward?

Yes. We've got some 6% plus with high-quality health system top 10s. Again, these off-market transactions, we're still convenient to get those higher yields, but 5.5% to 6% is probably range for the foreseeable future, again if you're buying quality.

Our next question comes from Michael Carroll with RBC Capital Markets.

I have a quick follow-up off of Tayo's question related to the LTAC portfolio. I know John you previously mentioned that you expected profitability to improve at those assets with the addition of a burn unit, is that still the case and should we expect to those coverage ratios to stabilize because of that?

Yes, we have 3 buildings in a master lease, Mike, and 1 does extremely well, 1 does okay, kind of better than average and 1 just kind of floats along. So between the 3 of them, it's a wide spectrum of how profitable they are, but they're all in a master lease, they're all comfortably able to pay their rent. But the profitability is likely in general is improving. They kind of rebalance, restructure their clinical service lines to comply with the LTAC rules themselves, but take advantage about their opportunities on the STAC basis, I mean short-term acute care hospital outpatient services like Wound Care as you mentioned. There are long-term assets and we expect the profitability improvement. It's a great management team that we work with there.

So, the mitigation from the LTAC patient criteria that could still be a benefit as we go into 2018?

Yes, absolutely I mean, I think so, we expect. As we mentioned before those, we're not going to expand in the LTAC business and we think there are some good opportunities to sell those assets favorably.

And then, Jeff, can you provide us some more details on your prepared remarks about pruning the portfolio. Should we assume that DOC's going to be more aggressively selling assets in 2018 and '19?

No. Again, I think it's something that is a natural evolution of the company. When we talk about pruning, we added 11 assets to -- we have 11, I should say, total assets in slated for disposition and so every quarter we're just kind of going through a portfolio and making sure that we're concentrating on the right markets, the right buildings, right healthcare systems, affiliations and disposing of assets that don't meet those criteria. So, it will be more -- used to be almost zero, so it will be more than that, but I wouldn't expect it's going to be massive amounts of the portfolio at any one time. It will just be a kind of a slow continuous process.

So more of these 1/2 type properties that a couple million bucks key?

Yes, that's probably right, Michael.

Your next question comes from Daniel Bernstein with Capital One.

So I just want to try to understand some of the risk in the portfolio on the lease expirations and the next year or two, are there any single-tenant leases that are expiring and are there any purchase options there? I'm just trying to gauge whether there is going to be any potential for leakage of earnings there?

Yeah, Dan, thanks for the question. Mark in response. There is 1 single tenant property next year that's coming up for expiration. We actually have a lease up for signature on a nice lease renewal there. So, that hospital is committed to 5 additional years there. So that's the only single-tenant properties in the near-term role here. And like I said on the call, there is no more than 6% of our portfolio renewing in any one given year over the next 7 years.

We don't have any purchase options at all?

No purchase options, yeah, we don't have any purchase options at all in the portfolio, Dan.

And then the other question I have is on development. You have obviously created some development relationships (inaudible) and are you thinking about funding development directly yourselves or is it mainly, you can use the relationships to buy those assets when they are stabilized. Just trying to understand how you're going to utilize those relationships and what kind of yields you might get on assets relative to straight up purchasing assets and whether it's bidding or otherwise?

Dan, it's a great question. We've consistently said in the beginning of DOC that we are not going to create a development engine, Dean, I and Mark and others on the team have all the capability to do that. So we're sourcing good development opportunities, but we like to work with the development firms, that's what they do day in and day out. They have hospital system relationships in these regions and a long track record of experience that can deliver these buildings. Development is (technical difficulty) heavily pre-leased buildings. We like the focus and attention of those development firms and people like Mark Davis and Jim Bremner and [Tag Berg], all did a great job mitigating the risk and then bringing us new high-quality buildings leased to those health systems. So, what we've done to date is capture a little bit of that wholesale versus retail spread through some mezzanine financing without taking any development risk and without taking -- incurring or being responsible for any debt incurred to build the building. So, we like their strategy, it could change over time. Hospitals are getting smarter and smarter about what they pay third parties to develop buildings, and they are leasing 100% of it. So in the end, we just want to own the building once open and occupied and the rent commences. So, we don't expect any change in that strategy. We continue to -- and we continue to put out mezzanine capital to get an option to buy those buildings off market once they are finished.

Do you typically have any kind of like rights to first look or is that again they just prefer you to be the buyer?

It varies kind of developer by developer and in some cases hospital-by-hospital, but sometimes hospitals are self-developing themselves and then looking to sell the building out once it's completed. So, it's really on case-by-case basis. What we like to do is keep the optionality and not have the obligation to buy the building year from now or 18 months from now. And on the other hand, we can get some yield during the construction cycle in the restructured or mezzanine loan. So it's a good win-win, and in any of them, we believe we're getting the buildings, (inaudible) executed on like Hazelwood, but with Mark Davis, we believe we're getting offmarket pricing on those, but also got some yield during the construction cycle.

Our next question comes from Drew Babin with Robert W. Baird.

Looking forward and I apologize if I miss this. Was there anything long time in terms of rent catch-up payments from Foundation or otherwise that was booked in the third quarter?

The San Antonio facility used to make kind of scheduled catch-up payments on the rent. So, San Antonio is essentially a quarter behind the fourth quarter of 2016. So they've been making additional payments essentially each month, making up those rent payments. So, we've got a schedule worked out with them and expect to get caught up, I think early in 2018 is the current schedule. El Paso is a little different. The doctors there kind of recapitalize the facility. So they acknowledge and are working hard to try to get on a schedule to make catch-up payments, but they were 2 quarters behind. So, the hole is a little bit deeper. Good news is they've been consistent with their schedule every month since April 1, and we continue to be patient and work with them, but they acknowledge, they have committed to and we expect to hopefully catch-up that rent. It may be in the process of sale of the building that we get caught up, but we don't book that income and it will be on a cash basis when it comes only.

Just a couple of numbers around the catch-up for San Antonio. So, they were behind by about $1.2 million. They've caught up about $750,000 of that and they have another $400,000 or so to finish up.

And then just quickly on the expense growth run rate, obviously it was a little high this quarter, it sounds like property taxes were part of that. Do you expect the property tax expense pressures to kind of continue next year, I assume the operating expenses are probably back down, but as the tax structures kind of catch-up, [core] valuations have moved on MOBs, is that a pressure that you think might kind of erode that 2.5% to 3% revenue growth somewhat as opposed to the NOI?

This is Mark. As you just mentioned, every time we acquire a building, buildings are reappraised by the local municipalities and oftentimes we see operating expenses jump up because of that, most of that is pass-through and triple net leases, 90% of our portfolio is triple net lease. So it passes through to the tenants. But there is a little bit of exposure that we have, very little vacancy w e have or a very few growth leases we have. So that has resulted in operating expenses ticking up just a little bit and we use the firm nationally on behalf of all of our clients to challenge those property taxes right from the get go.

Out last question comes from Tayo Okusanya with Jefferies.

Thanks for indulging me again. Just a quick question. When I take a look at the total portfolio, percentage leased is higher than your same-store portfolio today, and I know you've kind of been buying higher-quality assets for the past year or two. As more of those assets move into the same-store pool, is it fair to assume you start to show better same-store NOI numbers?

Tayo, Jeff and Mark also respond and we are happy to let you double [dip] today. So, as the CHI portfolio only part of that has rolled in, so there is a heavy influence (technical difficulty) most terms. So, that's going to continue to have a heavy influenced consistency of that 2.5% number. But Mark, any other color on it?

I think our portfolio overall is 96.6% leased and many of those properties have the 2.5% some. Same-store portfolio is 95.5% leased. So I don't think that just because there's more occupancy, there's still a lot of the same locked in contractual rent bumps in the properties that we've recently acquired.

So, thank you, everyone, for joining us today. I hope you appreciate, we continue to build a very high-quality portfolio that's going to [provide] consistent returns. We look forward to seeing you in Dallas in a couple of weeks. If you've not received an invitation, we look to our Baylor Cancer Center tour and discussion. We will have some Baylor executives there -- (inaudible) executives there to give you their impressions about that building and the future of the Baylor healthcare system, which is very bright as well as their experience working with us in contrast in comparison to other REITs that they've worked with. So, let Jeff know if you've not got an invitation and love to see you and look forward to seeing everybody at NAREIT. Thank you for spending the time with us today. As we focus on our portfolio and leasing up our buildings and meeting with our C-suite executives, we think that's the best use of our time and don't spend a lot of time touring others buildings that are trying to measure how close they are to the hospital. We think it's -- we focus on our occupancy and our rent growth and the quality of our portfolios is best served by spending time with our C-suite relationships and growing -- improving that for shareholders. Thank you for the time.

Thank you, ladies and gentlemen. This concludes today's conference. You may disconnect your lines at this time. Thank you all for your participation.