Healthcare Realty Trust Inc (HR) 2015 Q3 法說會逐字稿

Good afternoon and welcome to the Healthcare Trust of America third quarter 2015 earnings conference call.

(Operator Instructions)

Please note, this event is being recorded. I would now like to turn the conference over to Jessica Thorsheim, Director of Investor Relations. Please go ahead.

Thank you and welcome to Healthcare Trust of America's third quarter earnings call. Today we filed our third quarter earnings release and our financial supplement. These documents can be found on the Investor Relations section of our website or with the SEC. This call is being webcast and will be available for replay for the following year. We will be happy to take your questions at the conclusion of our prepared remarks.

During the course of this call, we will make forward-looking statements. These forward-looking statements 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 that our assumptions are reasonable, they are not guarantees of future performance. Therefore, our actual future results could materially differ from our current expectations.

For a more detailed description on some potential risks, please refer to our SEC filings, which can be found on the Investor Relations section of our website. I would now like to turn the call over to Scott Peters, Chairman and CEO of Healthcare Trust of America. Scott?

Thank you, Jessica, and good afternoon, everyone. Welcome to Healthcare Trust of America's third quarter 2015 earns conference call. We appreciate you joining us today as we discuss our third quarter results, our progress in 2015, and our views on the medical office building space. Joining me on the call today are Robert Milligan, our Chief Financial Officer; Mark Engstrom, our Executive Vice President of Acquisitions; and Amanda Houghton, our Executive Vice President of Asset Management.

I am pleased to discuss another successful and consistent quarter for Healthcare Trust of America. Our Company continued our philosophy of capital allocation discipline and commitment to sector-leading operational and financial results. This consistency in execution is in part a result of the benefit of operating our own assets without the need to rely on third-party operators. We have direct control over our leasing, cost management and relationship decisions.

Our key market strategy, rifle shot acquisition approach, and ability to have significant market intelligence drives both our capital decisions and our long-term performance results. Medical office is unique within the healthcare real estate sector and highlights the fact that the MOBs are traditional real estate and that location and management significantly influence results and create long-term value.

In the quarter, we achieved FFO per share of $0.39, an increase of 3% year-over-year, and up $0.01 from the second quarter; 3.1% same-store NOI growth, the 12th consecutive quarter of growth at 3% or higher; accretive investments of $29.1 million, bringing the full-year total to $254.6 million; capital recycling, with $35.7 million in dispositions of non-core assets; maintained a strong, investment grade balance sheet, with 33% leverage and ample liquidity; and continued focus on our key pillars, capitalizing on critical mass in key markets, laying the groundwork for institutional cost efficiencies driven by our in-house asset management and leasing platform, and generating long-term enterprise value for our shareholders.

In looking at the healthcare sector today, specifically as it relates to medical office, we have seen several positives. We are witnessing good leasing activity, continued expansion space as it relates to renewals, positive rent spreads, strong retention, little development, and the flow-through of employment growth into the space from the Affordable Care Act.

HTA's acquisition volume this quarter was not due to lack of activity in the MOB space. In fact, we continue to see increased liquidity and opportunities. Our process was far more focused on the accretive nature of the opportunity and the quality of assets relative to the acquisition criteria that we have utilized over the past several years. Although on the surface these assets would supplement short-term growth, we felt that the overall quality of the markets, the tenants, the in-place rents, and the growth dynamics did not fit our current portfolio characteristics or result in an appropriate risk-adjusted return profile for HTA.

Our approach to acquisitions continues to be buy quality, buy in key markets, buy assets that we can own and manage, focus on same-store growth, and buy accretive to our cost of capital. We believe this is unique and deserves emphasis in a market where external growth is either expected or required in order to move the growth needle. Being good stewards of capital should include focusing on a strong internal growth strategy that ultimately drives enterprise value for shareholders.

In the quarter, we did acquire two MOBs in Columbus, Ohio, increasing our Columbus portfolio to 208,000 square feet across four MOBs, all aligned with leading healthcare systems. Both deals were not marketed and were sourced directly from local developers. The buildings include new relationships with Ohio Health and Mount Carmel and expand our relationship with Nationwide Children's Hospital in Columbus.

We also acquired a newly developed 20,000-square foot MOB adjacent to the direct healthcare main campus in Raleigh, North Carolina for $4.2 million. This asset is directly between two medical office buildings we currently own and expands our existing square footage at the Raleigh Medical Center by approximately 25%. We currently have a lease out for signature for 100% of the space.

We continue to look for opportunities to recycle capital with non-core asset dispositions to increase our overall portfolio quality. This quarter, we completed the sale of six MOBs for $35 million, bringing our total disposition activity over the last 12 months to $118 million, with total gains of $45 million.

Currently, we have targeted 7 to 10 non-strategic assets for approximately $75 million to $100 million that we expect to recycle in the next several quarters. We would anticipate that these assets would generate gains and returns for shareholders similar to those assets we have sold over the last 12 months. In addition, based on current market pricing metrics, we would be recycling new assets relatively cap rate neutral.

Turning to our portfolio and operations performance, our total portfolio ended the quarter at 92% leased, up 20 basis points year-over-year; and the same-store portfolio ended the quarter at 93% leased, up 40 basis points year-over-year. Total leasing activity for the quarter was 274,000 square feet, or 1.8% of total GLA, and retention in our portfolio was 84%. Consistent with the last 12 months, we continue to see expansion activity with existing tenants.

As we look at the remainder of the year, we expect results to be consistent with prior performance, to be disciplined in our capital deployment decisions, and maintain our investment grade balance sheet. With that, I'll turn it over to Robert.

Thanks, Scott. I will now walk through our third quarter earnings results, our balance sheet and capital funding plans for the remainder of 2015.

For the third quarter, normalized FFO per diluted share was $0.39, an increase of 3% compared to the second quarter 2015. Overall normalized FFO increased 9.9%, to $50 million, as compared to the prior year. The increase in year-over-year normalized FFO was primarily due to our same-property cash NOI growth of 3.1% and the accretive NOI generated from over $375 million in acquisitions completed over the last four quarters, offset somewhat by our capital recycling.

Our same-property cash NOI growth was primarily driven by increases in base rent, which was up 2.7%, the result of our annual rent escalators and a 40-basis point increase in leased rate. We recognized expense savings of 1% on the same-store portfolio, excluding a one-time property tax true-up in the third quarter of 2014 on some newly acquired properties that were net leased and had no impact on overall NOI.

Cash lease spreads are out for the year and our tenant TI and free rent for the new space continues its downward trend. Year-to-date, renewal leases included $1.29 for TI per year of term and approximately one week of free rent per year of term. Our average term continues to steadily climb, as physicians and health systems are executing on their long-term plans. Annual escalators in our leases signed this quarter were 2.6%, on average. And our lease rollover remains limited, averaging just over 9% per year over the next five years.

We believe we are still in the early innings of expense savings in our markets. Keep in mind, we have only operated our platform for the last few years and are just now starting to take advantage of the synergies and economies of scale we see out there. Today, we have approximately 10 markets with 700,000 square feet of space or more; and as we build on the critical mass across these key markets, we expect our asset management and leasing teams to improve their expense efficiencies.

G&A was $6.4 million for the third quarter, bringing year-to-date G&A up to $19.2 million, slightly below our run rate expectations of $26 million for the full year. Interest expense for the quarter, excluding the change in fair market value of derivatives, was approximately $14.4 million. Normalized FAD per diluted share ended the quarter at $0.35, an increase of $0.04, or 13%, compared to the third quarter of 2014.

Our dividend payout ratio for the quarter was comfortable at 84%, within our 80% to 90% range that we target over the long-term. We remain committed to a strong and conservative balance sheet and ended the quarter with leverage at 33% debt to total capitalization and 5.9 times debt to EBITDA.

At the end of the period, we had total liquidity of $679.6 million, including $11 million of cash. Our average interest rate on the portfolio was 3.31%, down over 40 basis points from the comparative period last year. Including hedges, we remain approximately 75% fixed rate at the end of the period. The weighted average remaining term of our debt is five years, roughly equal to our outstanding leases, a very balanced position. I will now turn it back to Scott.

Thank you, Robert. And thanks for joining us on our third quarter earnings call. I'll now turn it over to the operator to open up for questions.

(Operator Instructions)

Our first question comes from Daniel Bernstein at Stifel.

Good morning -- good afternoon. Good morning, still for you. I guess I missed maybe a little bit of the call or maybe didn't hear you right. I just wanted to make sure, when I look at the overall occupancies for off-campus assets that went up, is that because of the dispositions in the quarter?

You know, Dan, I think -- this is Robert -- I think it's a combination partly of the dispositions in the quarter. We did sell a couple off-campus buildings. But we also continue to see pretty strong leasing activity, even in the off-campus assets throughout, just as you continue to see medical systems and physicians continue to expand in both their long-term plans.

Dan, this is Scott. I think that the healthcare sector is going through this transition that we've talked about for two, three years. But I think it's starting now. We've seen good activity. There's some tail winds, I think, that are taking place, expansion space. But the community core concept of physicians, healthcare systems grouping around key central locations, not just one-off buildings, outskirts of communities, or one asset located in a subdivision or something. I think that there is a movement and that has helped us.

We've seen a good leasing in some of the community core stuff. Atlanta has done real well for us. And we don't own a lot of stuff in Atlanta that is right on the, on campus. We own more, I think, more stuff that is off-campus, from a perspective. And that's gotten occupied. And we're seeing it with larger physician groups and they're grouping around key locations.

Okay. And also, I don't want to call it pause, but you moderated the acquisition pace in the third quarter, I assume in response to the cost of capital, where your stock price was at one point. Now that the cost of capital's come back a little bit, what are you seeing out there in terms of bid/ask spread on an MOB space? And that temporary moderation in acquisition pace, is that something that's going to be something that we don't see going forward?

Well, I think we've been cautious. And I think most folks would say that's the right thing to do. And like everyone else, we're very cognizant of not painting ourselves into any particular corner, from a balance sheet perspective. We are seeing opportunities out there. I think that there's more opportunities in the MOB space, certainly in the last three or four months, than I frankly remember in the last 18 months.

For us, we're going back to what we do best. And the first thing we do real well, I think, is that we look at each individual asset, how that asset, from a budgeting and an underwriting perspective, how's it going to perform over the next five, seven, nine years? There shouldn't be a lot of variance, if you're picking strong buildings with strong tenants that are going to stay in that space, you know where the escalator should be, you know what the expense is that you can get out of our asset management program.

So we're focused on key markets. We're focused on the type of asset that's going to fit into our consistency, because we've now been consistent for 12 quarters in a row. And we've always said that a well-positioned, well-managed, well-tenanted building that's core critical should perform in a 2.5% to 3.5% range. We that still is the right way to look at MOB space.

So we're seeing opportunities, but we're being very, very critical. Because every asset we add, we want it to be in addition to our performance, not something that we add simply because it might be available or because some seller is asking for a price that, in fact, may be unrealistic, from a performance perspective. So we're being very critical.

Okay. And there's always room to nitpick, so I'll ask you about the Forest Park properties. We've seen the hospitals there. Some of those, in Texas, have filed bankruptcy, or I think one in San Antonio shut down. So if you could talk a little bit about your Forest Park assets, what you're seeing in terms of any impact on occupancy, and your expectations for those assets going forward?

Well, the Forest Park transition -- and I think that's a transition to an operating hospital platform that's far more now consistent going forward. We've been there a couple times, two or three times, and they've got a very good, from an operating perspective, I think they've got a very good model now that's going to stand the test of time.

For us, again, the beautiful nature of MOBs is that we don't come off of the vagaries of operations. We still have tenants in the building. They're still paying us. I think that going forward, they're in great locations. We've always heard that rents are relatively marketed for what we have. And we have very little occupancy by the hospital itself. So we like both sites, and I think that we like the opportunity to be owners of the MOBs. We don't own hospitals, so we don't have to deal with that transition or that uncertainty.

Okay. Thanks for the color on answering that question, and congrats on a nice, good, consistent quarter.

Thank you.

The next question is from Todd Stender at Wells Fargo.

Hello. Thanks, guys. Just to piggy back off some of Dan's questions, with the REIT stock prices experiencing what we thought were pretty good volatility in Q3, does that provide an environment where private buyers maybe have a brief advantage when acquiring marketed deals? Maybe their cost of capital may be competitive to yours or other REITs. Anything you've noticed against some of your private peers?

Well, I think, Todd, the private capital looking for investment into the core or the very good medical office, it's been there now for a good 9, 12 months. And I don't see it disappearing. I think in fact, the good part about being a very strong asset class that's performing well is that people get attracted to it. And the bad news is that then again, you have more folks looking at things and so forth. Our two buildings in Columbus were off-market. We bought some stuff in the second quarter that I think is as good a product as you can buy. That was pretty much off-market. We're looking at some stuff now in key markets, based on relationships that we have, that we think are going to really add to our portfolio. We can recycle out of some non-core markets.

So our focus continues to be relationships. I mean, we're seeing some requests that are coming in in our markets for third-party asset management, and that's a compliment to the relationship that we're establishing with our tenants. It's very tough to be in 50 states or 100 markets. So we want to be in 20, 25 markets. We want to know those markets. And now this is moving into the fourth year of what I would consider our asset management leasing platform, we're seeing some real good advantages.

But it's a very good asset class. And now that you're seeing some of the hesitancy in the diversified space, I think you're going to find even more attention to the MOB space. This is a great product. It's consistent. And we continue to see pretty good tail winds, from a leasing perspective.

Thanks, Scott. And can you talk about what the cap rates you acquired the Columbus assets at and who's currently managing those assets? And can you just talk about some of the value creation that you underwrote?

I'll let Robert answer that.

The cap rates for the Columbus assets were really in the 6.5 area. And it does bring our total Columbus portfolio up over the 200,000 square feet mark, where we can really start to get some synergies through that. So the 6.5 is really based off in-place yields.

And I think we've talked about same-store growth, and I know that folks have that question for us. But we've said that three years ago, that the consistency of the variables, we spend a lot of time underwriting the asset. And we get our asset management team involved, we look at it, we understand, or try to understand, where the next five years look like. We've got, I think, a very good handle on how we can bring the first level of savings to the asset. We're getting an even better handle. And we're already working into 2016 on our asset management and our focus on cost and expense savings and consolidation and synergies.

And so as Robert said, 200,000 square feet in Columbus, that's going to show some dividends in 2016. Our addition in Boston, those additions, that value really starts showing up in 2016. So as we get into these markets, I think we're doing a pretty good job of anticipating what that performance is and budgeting accordingly. And then it's just about achieving those expectations.

Are those assets in Columbus, are you going to be able to manage them in-house right away or are they under a different agreement?

Yes, they're coming in-house right away.

Okay. Thank you. Just to look at dispositions, it looks like you sold a four-building portfolio in July. Can you talk about pricing on that? And was there any cap rate premium on the fact that you did sell it as a whole and not to break it up individually?

I don't think that it was big enough necessarily to get a big premium, so I wouldn't say that in that particular case we got a premium. They were non-core to us. I think we got a very good price for shareholders. I think the group we are looking at now actually has a little bit better synergies to it, from a grouping perspective. And we're looking forward to that culmination over the next several quarters, because I think that will be very beneficial. We can redeploy into markets that we're going to be in long term. But we didn't see much of a pricing premium from the last group of $35 million.

Okay. And then Scott, just to stick with you, in your disposition comments earlier, you mentioned you've generated $45 million in gains over the past 12 months. It isn't something investors talk too much about, as it's not included in FFO. But those gains sound pretty meaningful. And just wanted to see, were those largely taken from properties you've acquired right after the credit crisis, so maybe your timing was good, you benefited from cap rate compression? Or really, do you look at how much value creation can be attained at the in-house property management once you get a hold of the building? I'm just trying to see how you can quantify what you've done with the portfolio.

I think that's a great question. And I think we need to internally have a better answer for you even than I'll give you now. Because I think that we're looking forward to the opportunity to again execute on what should be a big part of what companies do, which is recycle, improve the performance of the asset, buy it at the right time. And I think we were a beneficiary of it. I've said this many times. Very fortunate to be able to buy assets in 2008, 2009, 2010, turn those assets into a better marketplace, bring our leasing team to it, put some cost effectiveness to it, so that you're going to get the benefit of cap rate compression, performance enhancement, and then you're going to get that opportunity.

But when you look at what we've done and we look at what we've done the last three years, since 2011, what we have bought beginning in 2012, we're very, very happy with the performance of those assets, too. And so I think it's a combination, companies should hopefully be able to show that what they buy over time, if it's a good location, good asset and it generates some gains. So we will, I think, come up with a better -- I'll have Robert looking exactly something that says this is how we looked at those prior sales, and then we'll also include those ones that we're going to come up and do the next several quarters. So that will give you some insight on how those gains were truly derived.

Great. Thank you.

Next question is from John Kim at BMO Capital Markets.

Thank you. Just to follow up on the capital recycling and the gains that you achieved, I believe these are the GAAP gains, and I was wondering if you could disclose the economic gains or the IRRs you've achieved.

Right now, as I said to Todd, I think we'll go back and we'll get those and we'll convey those. I think -- well, we know they're very favorable. I think it's a great compliment to our team that we were able to execute. And I think we'll continue to, as I said, with the assets that we're looking to dispose of in the next several quarters, we expect to do a similar type of execution.

Now that does say that interest rates have come down. Cap rates have come down. And the desire for the product has increased. But from a performance perspective, we think that we need to put the numbers together so folks can actually see something.

Okay. And then as we approach the end of the year, do you have an acquisition target for 2015?

Well, you know, we've always said that we would like to do something in the $300 million range. We don't do guidance, because we don't do guidance specifically because markets ebb and flow, capital markets do. You can't determine necessarily when that asset is going to come available in a market that is going to add synergies to what you're trying to accomplish.

But I think we're seeing opportunities. We're going to be very selective. We're recycling. We're coordinating timing on that so it doesn't have impact to shareholders. And I think that we'll continue to do what we've done, on average, over the last three years as a public company. Good opportunities in this space. Great opportunities for us to continue to focus on our key markets. And the relationships that we've established are starting to continue to pay off.

I guess I was wondering, have there been any acquisitions that are under contractor or under due diligence, and how important it was for you to achieve a $300 million acquisition hurdle that's part of the incentive plan?

Well, we don't comment on acquisitions until they close. Second, our compensation is extremely minimal, as it relates to acquisitions. And the focus of our whole management team, and we've said this specifically, is the return to shareholders. Do what is in the right, in the best regard for shareholders. I started this almost 10 years ago, and I think that the decisions that we have made, being a non-traded REIT, moving down the path and actually listing our company as the first one on the New York Stock Exchange without raising equity, we've made hard decisions. We haven't made decisions simply for the paycheck. And we'll continue to do that. And we want to build the best portfolio we can as a public company with a reputation of institutionalized asset management.

So we don't look at it from that perspective. So we'll do what we've done, find great assets, make sure that they are accretive to shareholders and make sure they fit into our business strategy, and then we'll just continue to execute.

On the expense savings, can you just remind us how often taxes are reassessed, real estate taxes? I imagine they're going to be going up as the NOI's been going up. But maybe if you could elucidate as to how you manage this.

Well, it depends on the state, depends on, actually, the jurisdiction. Some are annually. Some are two or three years. We actively manage it. And I think that the number one concern -- and this is something that when you look at an acquisition, what's -- we look at acquisitions, and our first criteria, of course, is location and tenant composition and escalators that fit the local area so that you're not out of bounds, and core critical requirement for the tenants that are there.

But the biggest concern for tenants right now are two things that you can bring value to. Number one, they understand property taxes. And so when they see buildings change hands, they have that impact, if you have a pass-through of taxes. We actually take that into consideration when we're looking at whether or not we think that's a building for us. Because to do an inproportionate or to have a tenant and the rent disconnect from that, that will come down the road and get you when renewals happen or when you're trying to lease vacant space. So when we look at our property taxes by jurisdiction on a quarterly basis, actually. So big issue. Got to manage it. The fortunate part is that we talk to our tenants about it directly.

Okay. And then finally, can you comment on the lease escalators that you've achieved on leases you've signed this quarter?

I'll let Robert.

The leases that we signed were about a 2.6% escalator. So for the year, we've been in the closer to 2.7%, 2.8% on a blended basis. But 2.6% in the quarter.

And that's higher than prior years, or can you remind us how that compares?

In the portfolio currently, we're between 2.2% and 2.3%. So averaging out at 2.6% in the quarter certainly helps lift that average up. So we're getting bigger bumps than were currently in place.

Got it. Okay. Thank you.

The next question is from Kevin Tyler of Green Street Advisors.

Hello. Good morning, guys. I didn't hear specific cap rate on the dispositions. I think you said cap rate neutral. So is it safe to assume 6.5% or so, in line with the Columbia purchases? Or what was the cap rate?

It was. It was right in line. It might have been a tad lower. But I would say it was neutral.

Okay. Thanks. And then in terms of your outlook for cap rates, are you finding that things have kind of flattened, or what's your forecast or where do you see things heading?

Well, my view is that cap rates are still going to be very competitive and I'm not sure that they've stopped going down. The market-specific is very important. Quality of assets, very important. The type of buyer that's looking after the asset, looking for the asset, is critical.

But I do think there was a pause in the third quarter, and more critical outlook, more perhaps of folks [diliging] the asset, because as you go through this phase, there's a lot of folks that are selling C assets for B prices, B assets for A price, and the A asset, you've got to find the A assets and you've got to find those that really are going to perform under the underwriting criteria that you bought. So I do think that has gone on, and we'll see how and what people have bought as we move through some of the earnings calls.

Okay. I appreciate that. And then given the recent activity from the private equity world in the REIT space and the buyouts that we've seen, Scott, you alluded to it earlier, about the desirability of the MOB assets at present. So I'd expect HTA to be on a short list of names that would make sense for someone like Blackstone. How do you think about a private equity player in terms of a partner for you guys going out and continuing to run and deliver on your strategy?

Well, I've always said, and I believe wholeheartedly, that if you perform well and you have something that people look at and say, they've done a good job -- and I think we've done that. I think we have a very good footprint. I think we've articulated our markets. I think we've started and are still in the early innings of our asset management plan. And that can be extrapolated. Because as I mentioned earlier, we are getting inbound calls for asset management for leasing and for property management from folks that, frankly, has surprised Amanda, surprised me.

And we are here to make the greatest value for shareholders. And if that would entail something that would be a complement to our shareholders to be -- and someone of value says, here's a value that you can't refuse, then it would be something that we would always do. We're going to do what is right for shareholders. And what we're going to do as a management team is try to do it as well as we can.

Okay. Appreciate it, guys. That's all I had. Thanks.

The next question is from Rich Anderson at Mizuho Securities.

Thanks. Good morning. How many employees are at HTA?

We're up about 185 or so.

I want to say close to 185, Rich. It might be one or two or three that I -- about 190, is what I would say instinctively.

Okay. And what percentage of your portfolio is triple net?

We're about two-thirds actual triple net leases. About 30% is still single tenant triple net lease overall.

Okay. Single-tenant triples. But in that two-thirds is single-tenant 30%, right?

Yes, in that two-thirds is included the single-tenant triple net.

Okay. And just -- I'm just nodding off a couple quick ones here -- Scott, in terms of dispositions, the question was asked on the $36 million you sold, when you bought them, were they not -- when you were a non-traded REIT in 2008 and 2009, so that you really did have that big -- or that low basis, so to speak?

I think the five that we sold, or four that we sold, this $35 million was pretty much comprised of assets that were bought in that 2009-2010. They were parts of portfolios, Rich. And I'll have Robert give you the exact answer, but my instinct is that they were.

Okay.

They were a larger part of portfolios there.

Okay. And you also, the question was brought up about Forest Park. You start to think about hospital systems like Community and others that are really starting to struggle. Stocks are not doing well at all. A lot of questions about what's causing that in terms of admissions and everything else. And I get it, you're kind of once removed in the medical office field. But eventually, that's going to -- if that lingers, this could turn bad for you, just because that's the hub to your spokes. So just curious how you would think about that in terms of, well, if hospitals really start to suffer for whatever reason, be it systemic or whatever, what do you do as a company? Because eventually, that's got to hit you guys somewhere, at some point.

I think that the hospital efficiency process is still moving forward. I think there are going to be transitions in different systems or different hospitals that either improve or need changes or do what they need to do to stay, I don't think profitable, but stay marginally neutral and give the service that they need to the geographic location that they're servicing.

We are such a small part, and I go back to the fact that why MOBs are so consistent is that we are such a small part of the physician -- if it's a physician group, they're focused on revenues, they're focused on generating synergies and energies, and they need to be at locations that are going to maximize that. Now if this persisted, and if physicians ended up, or healthcare systems ended up, having a longer term issue of profitability, then ultimately it might, in fact, end up hurting or impacting the MOBs. But frankly, we haven't seen that. In fact, we're seeing, actually, the opposite.

As you know, 15 years ago if you were owner of MOB, you would have 30 or 35 different physicians of one or two or three folks. Now you don't. Our average increase in expansion space was about 2,000 square feet. We had -- most tenants that we've actually leased to have been in the buildings that we're in. So they're actually seeing a need for more space, a need to see more patients, to take market share. So we haven't seen that yet.

And I guess that there would be other folks who own hospitals or other folks who own some things that would probably give you a better dynamic into how that is going to impact them specifically first, and then down the road, and I think it's a lot further down the road, if in fact MOBs would be impacted.

Okay. Couple, just two more questions. The first one is the familiar one for me, acquisition costs. $900,000 on $29 million worth of activity, that's over 3%. That's out of range than what we normally see. Can you just go through the components to that $900,000 and why it's as large as it is on a relative basis?

Rich, I think you've got to look at it on a year-to-date basis. We closed a lot of the deals in the second quarter, when we did over $200 million there at the end. And so when you really look at it, we're at about 1.3% year-to-date on acquisition expenses in terms of total acquisition.

I think, Rich, to be a little more specific, we did a lot of diligence on some stuff in different locations. And there was opportunities out there. We may not be necessarily the right buyer of those opportunities, but we certainly take the effort, we take the knowledge, we want to understand the dynamic of the opportunity, and that takes some time and I think it's paying off. I don't know how other people diligence their assets or diligence the larger portfolios that they buy or so forth. But we take some time and effort at it.

And I would say that in this last third quarter, there was a lot of activity out there. I don't know how much actually transacted, because we were not either the ultimate buyer of those opportunities or they may still be out there. So I think from an annual basis, it's very reasonable. From a quarter-to-quarter basis, it ebbs and flows a little bit.

Okay. So the $900,000 isn't necessarily tied to the $29 million, it's tied to all the effort that went into it?

If there's probably someone that is responsible for some of that, it's me. I go to see the stuff and we diligence it, and we want to understand the market and we want to use resources that we have, if there's concerns about the capital associated with things. And so we try to do a really good job. But we do try to keep it in perspective and make sure that we keep it from an annual, yearly thing, consistent with what one would expect.

Okay. And then final question is going to be on the consistency issue of same-store. I know you framed it a little differently. You mentioned true-up, Robert, versus the third quarter of 2014. I was looking back and in that year -- or that quarter -- you had expense reduction of 1.1% that got you to the over 3% same-store number for that quarter. So is it fair to say then if you had placed this in the right spot initially, or -- I'm not saying that -- the true-up never had to have happened, that you would have been below 3% a year ago, in terms of same-store?

No, actually, let me clarify what that was. Specific tax credit true-up are what we referenced, and that was actually related to some newly acquired assets in Florida. And so last year, they actually weren't even in the same-store pool. So when we bought them, we underwrote, like we talked about, we underwrote that we expected property taxes to go up. When we got the final bill to memorialize, it was much lower than we expected. So that's one component. It wasn't the same-store pool.

The second component to that, these were all mostly, almost 100% occupied buildings on a net lease basis, so there wouldn't have been any NOI impact to it anyways.

Okay.

And I think, Rich, the consistency question, I continue to say --

I didn't even ask it yet, Scott. You know what it's going to be?

I know what it's going to be. I think it's a compliment to a couple things. Because we look at this and think that if you do a good job of underwriting assets, and we have a pretty new portfolio. I mean, even though we bought $2 billion of it in 2008, 2009 and 2010, the rest of it has been here the last three years. So predominantly, most of what we have bought, we've been around 10 years, but it's been the last 6.

There shouldn't be a lot of, frankly, variables. We've got occupancy that's been consistent. We've got underwriting, from an expense perspective, that we have continued to see take place. We work pretty hard at this. And I wouldn't want to say that anyone else doesn't do that, but besides buying assets and diligencing assets, looking at markets, this is what we do. That's why we brought our asset management leasing in-house.

And so if we budget well, if we manage to those budgets, because in the fields on a consistent basis, I think we should be very predictable. So the question you'll ask us when we are predictable is, well, what happened? And that's probably when we're going to need to have a real good answer.

I think I would be relieved when I saw some of it, because I think if anything -- any portfolio is subject to its ebbs and flows in any given quarter. I think the MOB stability is a wonderful part of the story, and that's true of the product type in general. But I don't know. I mean, it's this consistency. You would just think -- well, let's use your closest peer, Healthcare Realty. They run the gamut more like 0% to 5% to 6% in any given quarter. And they've been around for a long time. I'm just -- it boggles my mind that they both could be so different from one another.

I think our companies are different. I think that we're consistent in the MOB space. We don't do development. They've been around, as you said, a long, long time. I focused on the fact that most of what we bought has been in the last six years. I think we have our own asset management that we started.

So again, I don't know what other folks do. I do know what we try to do. We work real hard at this. We've said from day one that we would be within the 2.5% to 3.5% range. We've accomplished that pretty consistently. And I would say that's what we do.

I would be -- you say I would be disappointed. You would be disappointed. I would be disappointed if we went through a budgeting process, looked at 2016, looked at what we acquired, looked at how we were going to manage it, and somehow came significantly off that. I would say, well, what happened? But we got pretty good stuff. We've got, again, occupancies, retention.

Rich, I think one of the big drivers of that consistency is that we've had very limited rollover. We've been under 8% rollover each of the last couple years. So when you narrow down the variables that lead into same-store growth, 92% of our stuff has been baked at the beginning of each year that we've been in. We've had 85% retention on top of that, with re-leasing spreads that have been slightly positive.

I think the other big variable that when you go through the formula of what gets you to your cash NOI growth, free rent periods have a lot to do with that. We're very focused on the overall economics of our leasing deals. And so we've been really about a week of free rent per year of term leases this year. So we're very focused on that, as well.

So you put those all together and there's just not a lot of variation in the model that could really pop out at you. So listen, as we start to get more lease rollover, will we be in that 2.5% to 3.5% range? Yes, most likely.

I want it 2.9%. I'd be so happy. But that's just me.

We'll be there, Rich. At one point, we'll be there.

Okay. That's all I got. Thanks, guys.

The next question comes from Michael Gorman at Cowen Group.

Yes, thanks. Good afternoon, guys. Just a couple of quick questions here. Going back to the dispositions, I'm curious how much the current market pricing or the strength in market pricing has influenced the pending pipeline of dispositions and how much that pipeline might be influenced by how much you can find to acquire over the next few quarters?

Well, good question. I think we have targeted some assets that are non-core. And we've been fortunate to see that we continue to stay in a pretty strong MOB market. So I think that we want to move out of non-core markets. We want to move into our key markets. We really started determining this strategy about a year and a half ago, if someone would go back onto our conference calls. We started talking about, where do we like to be positioned as an owner of assets? Do we want a million square feet or a million and a half square feet? Do we want to bring our asset management platform to that and manage the assets?

And so we've targeted these. And I think we will continue to recycle, because it makes sense, from a long-term view, to do that. I think we're fortunate that we'll be able to do that in an environment that is very cap rate positive. And I think that the other thing that assists us, to some extent, is that we have relationships in markets now where it helps us know what's coming to market or it helps us coordinate with someone who says, we've sold you something before, we want to get rid of this one and we want to talk to you. And so I think we'll move through this in much the same way we've done it in the last 12 months.

Okay. Great. And then, I'm sorry could you talk about the move outs? It's been pretty consistent over the -- the tenant retention's been pretty consistent. But I'm curious what you guys are hearing from the 15% that choose to vacate. Are they going -- are these practices getting consolidated or are people leaving practice? Or what's the main reason that people would leave the portfolio?

Well, I think we have had our share. There's situations where we have had folks leave us and move to somewhere else, and because they're consolidating or expanding with the physician group that is in the other building. We've been fortunate, I think, to have more folks moving in than moving out. Obviously, that's the 85%. There are also folks that the smaller groups that truly are, I think, exiting the healthcare sector, where if you have a two or three group, bunch of docs and they've been there a while, they probably may be just hanging it up and moving out and the space is vacant.

We're also going through a process, and this is again back to the, I would consider to be, the predictability of what we try to do. As we go through our leasing, our budgeting process, we are first and foremost looking at who is in our buildings and who can expand? And we don't want someone leaving us for expansion space somewhere else. We want that person or that group to be in our building for a long term. And in some situations, this is where the space has changed a little bit. We are keeping space available. We're not leasing 1,000 or 2,000 square feet to some one-off group, when some physician, when a larger group in our building has said we may want that in six months.

You make that decision. We make those decisions. They aren't made by third parties. They're made by us. And that does impact some of the occupancy that we look at, because again, physician groups in key buildings in key locations are going to be there a long time under the way the Affordable Care Act is rolling out.

Okay. Great. And then maybe just one last one on a big picture, longer term basis. There's been a little bit of discussion about the hospitals on the call. But I'm curious, as some of these trends trickle down to the physician level, tracking data out of EMRs, outcome-based reimbursements from Medicare, things like that, where you may see some impact onto the actual P&L of a physician, is that changing the way that you guys think about future investments or think about the data requests that you put into your leases to make sure that you can monitor what's going on at the physician level so that you can see maybe if there's a problem coming up from a financial perspective, where maybe in the past it wasn't as necessary because it was more of a flat rate type reimbursement?

Well, I think you've said two or three things there. One, it is important, in both the healthcare system is important. Are they growing? Are they looking for additional volume? Because it is a volume business now. And so if you go look at an asset and it's next to a hospital and you go at 5:00 or 4:00 or 3:00 and there's no one in the parking lot, you pretty much know that's not something that you want to have long term. So we look at volume. We look at financial stability. We look at competition within the market.

From a physician group perspective and a healthcare, one of the things that we haven't seen yet is that as -- and this is back to if healthcare systems start struggling, is that going to roll down to the MOBs -- I think actually before we see development, we're going to see redevelopment in key locations and key buildings.

And I think the second thing we're seeing, which we mentioned, is that healthcare systems are looking for professionals to manage their buildings. That's been a couple calls that we've taken, which is if you've managed this, would we save some money? That's a good conversation to start having, because that conversation hasn't been had. And I think that's going to be the next step before the healthcare systems trail off, they're going to continue to look at ways to make their operations more effective. And one of those ways will be, I think, to turn their asset management of their real estate to folks that can bring savings to that venture and do it on an either regional basis or a national basis and take advantage of that.

Very good. Thank you.

Our next question is from Doug Christopher at Crowell Weedon.

Thank you. Thanks for a great call today. Just have one question. Looking at slide 6, you have the 10 key markets. Do you expect those key markets to continue to grow, or do the three that aren't key yet, do those become 13 over the next 12 to 24 months?

Well, I'm -- Robert just handed me the sheet. I think that we expect each of these markets to grow. We like -- I look at this sheet and I say, I like these markets. I like the opportunity to expand. I think that we would like to target three or four more markets that we have an eye on that would add to this sheet.

So our goal, again, great quality buildings, good key markets that are going to continue to grow from an economic perspective, and then use our asset management and our leasing and even our engineers -- the most important component of a building is the engineer -- make them important in that region, in that location. So we look forward -- I mean, this is where we start. We'll add some, but we expect to grow in each of these markets, frankly.

Thank you.

This concludes the question-and-answer session. I would like to turn the conference back over to Scott Peters for closing remarks.

Well, thank you, everybody, for joining us this morning. And we look forward to seeing folks at NAREIT. I think that's coming up in a couple weeks, two, three weeks. And if any questions, of course, always just call us. And we always invite folks to come out, look at our assets, look at our markets, and we'll welcome those calls if they come. Thank you.

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.