LTC Properties Inc (LTC) 2017 Q2 法說會逐字稿

Good day, and welcome to the LTC Properties, Inc. 2Q '17 Analyst and Investor Call and Webcast. (Operator Instructions) Before management begins its presentation, please note that today's comments, including the question-and-answer session, may include forward-looking statements subject to risks and uncertainties that may cause actual results and events to differ materially. These risks and uncertainties are detailed in LTC Properties' filings with the Securities and Exchange Commission from time-to-time, including the company's most recent 10-K dated December 31, 2016. LTC undertakes no obligation to revise or update these forward-looking statements to reflect events or circumstances after the date of this presentation. Please also note this event is being recorded.

I would now like to turn the conference over to Ms. Wendy Simpson, Chairman, CEO and President. Please go ahead.

Thank you, Brandon, and good morning, everyone. Welcome to LTC's 2017 second quarter investor call. With me today are Pam Kessler, our CFO; and Clint Malin, our Chief Investment Officer.

I'll begin with a few brief remarks, and then turn things over to Pam for a discussion of our financial results. Following Pam, Clint will provide more in-depth commentary on our investment activity, pipeline and operator partner performance.

To start, I'm pleased to report our 27th consecutive quarter of normalized FFO growth, with FFO increasing by more than $630,000 from the prior quarter. Our portfolio activity ramped up in the second quarter with 2 private pay acquisitions, one with a new operating partner, and the disposition of 4 properties. Our current pipeline reflects an industry environment that is not particularly conducive to new large property or portfolio acquisitions without assuming a high level of risk, risk that we are not interested in assuming. We don't see much of a change in the environment for the remainder of the year. However, with a historically strong balance sheet, LTC can swiftly convert the opportunities we do identify into value for all of our stakeholders. I continue to believe that we are well positioned for sustainable long-term growth. After Pam and Clint are done with their remarks, I'll come back to talk more about the industry, our business and 2017 guidance.

Now it's my pleasure to turn the call over to Pam.

Thank you, Wendy. NAREIT FFO increased more than 7.5% from a year ago. On a diluted per share basis, second quarter FFO grew to $0.79 on nearly 4% more weighted average diluted shares outstanding compared with last year. This expansion was driven principally by increases in revenue from investments, completed development and capital improvement projects and lease amendments in the latter part of 2016, partially offset by higher interest expense that resulted from terming out our line of credit in 2016 and 2017 as well as the effect of equity issuance under our ATM earlier this year and performance-based equity awards. That increased more than 10% due to the grow drivers previously mentioned as well as contractual rent inflation.

During the second quarter, we invested $54 million in property acquisitions and funded $11 million in various development and capital improvement commitments. We received $14 million from the sale of 4 properties and $6 million in principal payments and mortgage loan payoffs. We also funded our $0.19 per share monthly common dividend. As you saw in our press release yesterday, we wrote off approximately $1.9 million of straight-line rent and other assets in the second quarter. Wendy will talk more about this later.

Our long-term debt maturities are prudently spaced and remain matched to our projected free cash flow, helping us moderate future refinancing risk. We have no significant debt maturities over the next 5 years, and have significant liquidity to fund our future growth and meet our obligations.

Our current availability includes $550 million under our line of credit, $47 million under our shelf agreement with Prudential, $185 million under our ATM program. We plan to continue allocating capital strategically and conservatively to provide maximum value for our portfolio, partners and shareholders and to help ensure profitable long-term growth. At the end of the second quarter, our credit metrics continue to compare favorably to the healthcare REIT industry average, with debt to annualized normalized EBITDA of 4.2x, a normalized annualized fixed charge coverage ratio of 5.3x and a debt to enterprise value of 24.1%.

Now I'll turn things over to Clint for a discussion of our investment activity, pipeline and portfolio metrics.

Thank you, Pam. As Wendy noted, investment activity increased in the second quarter. I'll start with our $38.8 million investment, an off-market deal for 2 properties in Clovis, California, a suburb of Fresno, with Frontier Management, a new operating partner for us. These are newer, contiguous properties that create a campus-like environment that provides a continuum of care, which is very attractive to us. For those of you who don't know Frontier, they own, manage and lease senior living communities in 11 states, and the company's CEO has almost 3 decades of experience in the senior housing industry. One of the Frontier properties is a 107-units assisted living community constructed in 2014. The other includes 48 memory care units and 25 independent living cottages built in 2016. The initial lease rate was 7% with 2% annual increases throughout the lease term. The properties were structured at the sale leaseback, and were added to a new master lease with affiliates of Frontier Management.

One of the nice things about this new relationship is that it originated through initial discussions about mezzanine financing and evolved into a larger sale leaseback transaction. The remainder of our investment activity during the quarter was driven by our growing relationship with Thrive Senior Living. We invested approximately $15.7 million to acquire a 60-unit memory care community in West Chester, Ohio, a suburb of Cincinnati that was built this year. Concurrently, we entered into agreements to transition 2 memory care communities leased to Clarity Pointe, located in Jacksonville, Florida and Louisville, Kentucky to Thrive, contingent upon issuance of licensure, which we expect will occur in the September, October time frame.

We proactively elected to bring a new operator into Jacksonville and Louisville to maximize the value of the properties and enhance our relationship with an existing regional operating partner who has been successful in growing their footprint. Thrive operates 21 communities in the Mid-Atlantic, Southeast, including the Jacksonville area, Texas and Ohio with a very well-versed and experienced management team. While we were initially hopeful about growing our relationship with Clarity Pointe, they're a smaller company without adequate resources to scale the business or remediate some of the lease-up challenges facing our Jacksonville property in particular.

However, occupancy at Jacksonville has trended upward to 62% at June 30 compared to 43% at March 31. This is a result of changes to the admissions policy of introducing companion suite options. Annual GAAP rent under the master lease being terminated with Clarity Pointe pertaining to Jacksonville and Louisville is $2.4 million. The Thrive master lease prior to addition of Jacksonville, Louisville and West Chester was approximately $3.8 million. The new master lease GAAP rent will increase to $6.3 million. The new master lease with Thrive additionally provides us with variable rent escalators and the opportunity to receive additional rent as a percentage of growth in revenue above its stated thresholds.

During the quarter, we also sold 4 properties, 3 in Indiana and 1 in Iowa. These properties, which were legacy buildings constructed in the mid- and late '90s, were previously managed by Senior Lifestyle. The sales reflect our accommodation of a request by Senior Lifestyle, who do not see them as a strategic fit. The $5 million gain we generated on the sales has already been put to work on the West Chester and Clovis acquisitions. We plan to continue evaluating our portfolio to identify additional opportunities to recycle capital on assets that are no longer core or strategic to our portfolio. It is possible that a few more sales could occur before the end of the year. As Wendy discussed, our pipeline is not terribly robust and sits at approximately $40 million, comprised solely of private-pay assets. While we continue to see a number of large marketed skilled nursing and assisted living deals, we do not believe they make sense for our portfolio at this time. With respect to skilled nursing, we remain mostly on the sidelines, given the current political and regulatory climate. Our underwriting and due diligence standards remain stringent, including stabilized rent coverages of 1.5x for skilled nursing assets and 1.2x for private pay assets, including a 5% management fee. Current pipeline consists of 2 potential transactions, one with an existing operating partner, and another with an operator that would be new to our portfolio. One of the deals is a preferred equity transaction for the development of an assisted living, memory care and independent living community near Milwaukee.

In conjunction with the preferred equity financing, we would enter into a joint venture with the property owner, whereby at certificate of occupancy and licensure, LTC would acquire a majority interest in the property and lease it back to an affiliate of the JV partner to operate the property. The other is the acquisition of a newly constructed assisted living and memory care community in the Kansas City market that would be added to an existing master lease. Finishing up the portfolio statistics, which is provided on a property level coverage, not at corporate level basis. Q1 trailing 12-month EBITDARM and EBITDAR coverage on a same-store basis was 2.03x and 1.5x, respectively, for our skilled nursing portfolio; and 1.46x and 1.24x, respectively, for our assisted living portfolio. These metrics are stable to prior recent quarters. Remember that our EBITDAR rent coverage is calculated using a management fee equal to 5% of revenues. We continue to believe that EBITDARM is a better metric of comparison to our peer group, as different management fee percentages may be used to calculate EBITDAR by different companies.

Now I'll turn the call back to Wendy.

Thank you, Pam and Clint. As I mentioned earlier, and as you are aware, our industry is facing several headwinds and have -- that have made it somewhat difficult to substantially grow our portfolio through new investments. A number of deals we evaluated have not met our investment hurdles. In fact, we passed on a $40 million deal this quarter, included in our pipeline last quarter, resulting from issues identified during due diligence.

Sale leaseback deal flow remains tempered. Private-pay assets are still selling at a premium. The regulatory environment, including repeal and replace, is tenuous. Property staffing concerns persist, and second quarter net occupancy data is disappointing. As these issues have been covered quite extensively by others, I won't spend time discussing the particulars. While the current environment posts challenges and requires some amount of caution on our part, I think it's important to remember that the long-term underlying trends for senior housing remain very favorable, and that we are highly focused on helping our operating partners in whatever way we can based on a philosophy of trust, transparency and shared success.

Instead of focusing on industry challenges that we cannot control, we are using this time as an opportunity to ensure LTC's continued success by thinking outside the box, creating new and different ways to source and structure deals and attract new operating partners. As we discussed on our last call, one of our competitive advantages in finding new investment opportunities is our ability to identify off-market deals through relationships we've built over the years and through our mezzanine lending platform.

Using this platform to source new sale-leaseback transaction provides the potential for additional scalability and future growth. The joint venture transaction in our pipeline demonstrates our willingness and ability to explore various lease and investment structures to ensure that we are meeting the needs of our current and future operating partners, while maintaining significant value and our culture of profitable growth.

I now want to provide an update on our Anthem properties, which resulted in our issuance of a monetary default notice on our master lease with them covering 11 memory care communities, 9 of which are operational and 2 of which are currently under development.

When we began helping Anthem grow their business approximately 6 years ago, they had a very aggressive growth plan. And like many a great startups, they have suffered growing pains. Anthem's communities are in good locations. Many are doing well and generating positive cash flow. And we believe that over time, all will become fully stabilized. However, 3 communities in particular, Tinley Park, Burr Ridge and Westminster, are dealing with some short-term problems that are currently being addressed, staffing challenges, including at the executive director level at 3 of the communities resulting in distractions that we believe have impacted lease-ups in these buildings. As of July 31, occupancy at Tinley Park, Burr Ridge and Westminster was 29%, 47% and 88%, respectively, compared with 25%, 42% and 80%, respectively.

We do this again, June to July, the 25% became 29%, 42% became 47%, 80% became 88%. I am holding a weekly call with one of the Anthem principals to keep them focused on corporate cost reductions and to get more current occupancy reports. I know it is early in the month, but as of yesterday, Tinley Park was plus 5 residents, Burr Ridge was plus 3 and Westminster was plus 6. 9 days does not make a month, but the trend is positive. I'd also note some challenges at 2 of our campus communities operated by Anthem. Anthem took over operation of these properties post-acquisition, and soon realized that turning around existing properties was not part of their core DNA. We are currently in negotiations to transition these 2 communities to a different operating partner, which would help alleviate some of Anthem's current burden and better allow them to focus on their core competencies. Aside from making an operator change at the 2 Kansas communities, we are evaluating all options related to the 9 remaining communities.

In addition to negotiating with Anthem, we could transition some or all of the remaining properties to a new operator, sell some or all of the properties or in combination of these 2. We will update you on progress as we move forward in the process.

A few final words about our Anthem relationship. We have had additional opportunities to fund new development projects with them, but proactively put the brakes on our combined activity after seeing declines in their operating performance at the community levels mentioned. More importantly, I'd like to stress that our cost basis in Anthem is well below current market value. If you apply a 7% cap rate to the non-stabilized trailing 12-month NOI on the first 4 Anthem assets, which opened in the Denver area, the potential value per unit basis would be $282,000. And our net book value, plus straight-line and other assets, is about $197,000 per unit, translating into approximately a $20 million potential value creation.

As a result of the current Anthem challenges, we wrote off approximately $1.9 million of straight-line and other assets in the second quarter related to re-leasing the Kansas properties. Subsequent to the end of the quarter, the rent paid by Anthem will be recorded on a cash basis, which we currently anticipate to be approximately $1 million per quarter through year-end. Because we are currently in negotiations to re-lease the Kansas properties, we have not included any additional rent assumptions related to them in our guidance.

To provide additional clarity, annual GAAP rent under the Anthem lease is approximately $11.7 million. And at the end of the second quarter, the net book value of the 11 properties was $111.6 million. We had $8.6 million in straight-line receivable and $6.6 million in other assets on our balance sheet as of June 30. While we are obviously disappointed in these Anthem developments, I believe that we will emerge with a successful resolution for Anthem and for LTC. As a result of our investment activity, property sales, the transition of 2 properties to Thrive and the short-term challenges at Anthem, I am revising our 2017 guidance.

Assuming no additional investment activity, financing or equity issuances for the remainder of the year, I'm now forecasting FFO between $3.03 and $3.05 per share for 2017, which includes the anticipated quarterly payment of rent from Anthem of about approximately $1 million. For modeling purposes, I'd also note that our G&A assumptions have been reduced for the remainder of the year, and we are now looking at a run rate of approximately $4.1 million per quarter. We are currently working through next year's budget and resolution of the Anthem assets, and we'll provide our thoughts on 2018 at a later date.

Our remaining committed capital to date at 2017 totals approximately $61 million, which includes development and major existing property additions and improvements. I've said before that regardless of activity levels this year, the portfolio we have built will generate FFO this year and next. And I continue to be optimistic about our future opportunities. As we celebrate our 25th anniversary, we are staying the course with our strategy of reducing average portfolio age, expanding our operating partner base and maintaining a strong coverage ratio, while fine-tuning our implementation to help ensure many more years of successful accretion.

Thank you for joining us today. We'll now take your questions.

(Operator Instructions) Our first question comes from Jordan Sadler with KeyBanc Capital Markets.

Trying to fully grasp all the information you guys have provided on the call and in your release between Anthem and Clarity. Can you maybe reconcile for us, first, the difference between the cash rent that you expect to collect from Anthem versus the GAAP rent? I thought you said $1 million per quarter, which would be $4 million in cash rent? Is that comparable to the $11.7 million of GAAP rent?

So the cash rent we're expecting for the quarter is $1 million, and the cash rent that's under the contractual lease obligation is $2.6 million. So the cash rent reduction is $1.5 million, $1.6 million on a quarterly basis. Does that answer your question?

Well, I think we're getting there, yes.

$0.04 a quarter.

Right. So you've -- okay. So I may have missed in Wendy's follow-up comments there. What was the cause of the -- or the catalyst for the notice of default?

Nonpayment.

Is nonpayment in the rent?

Right.

Okay. And that started in July?

It happened in July. They were paid in cash through June 30.

And so in July, they came to you and said, "We can't pay." And you said -- and you sat down and renegotiated the rent on a temporary basis, which is this $1 million per quarter instead of the $2.6 million that you would ordinarily expect, plus you're going to try and transition them out of the 2 properties in Kansas. Is that the right way to think of it?

Yes, that's the basic way of thinking of it. We haven't come to a formal agreement with them. Their agreement is, say, "We'll pay as much cash rent as they possibly can pay." And right now, it looks like about $1 million a quarter.

So the $1 million is -- sorry.

That's okay. I mean, as we've seen the pickup in their occupancy, we hope that rises out, but we're not counting on it.

Okay. So there's a -- so they're still on the hook for $2.6 million per quarter?

They are indeed.

But they're going to pay -- okay. And so they owe you contractually that amount, but right now, what they can pay is $1 million. And hopefully, the best-case scenario is they'll pay the $1 million until such point they can pay the $2.6 million and then hopefully pay back rent, yes?

Right.

Okay. And can we kind of run through quickly the same thing on Clarity, what the catalyst was to transition the Jacksonville and Louisville properties to Thrive? Like were they in default as well?

So this is Clint. The main plan of that was we saw occupancy challenges, as we talked about the last couple of quarters, at the Jacksonville property. I mean, they're a small organization, as I mentioned...

Not Thrive, Clarity Pointe.

Clarity Pointe. And as I mentioned in my comments, they're a small organization and, I mean, similar-type challenges about the ability to pay rent on properties as well.

We also had an agreement with Clarity Pointe that they would create an operational company that have real equity. And as the time went by, it was obvious that they weren't going to be able to accomplish that. So it was prudent for us to get the assets into a portfolio like Thrive's.

And the West Chester property was actually originally sourced through the Clarity Pointe relationship, but we actually brought Thrive in as the -- they were getting ready to -- or I guess, early on in the process to be the potential operator on that project. So that West Chester project originally was through Clarity Pointe.

And I think you guys lumped sort of the 3 properties together from the incremental rent from Thrive, the 2 transitions from Clarity and the new one. And you're getting to a total of $3.8 million, is it, versus the $2.4 million that Clarity Pointe was paying?

Well, after the 2 properties, after Louisville and Jacksonville received licensure, and those are added into the new Thrive master lease, $6.3 million will be the new GAAP rent under that master lease.

So just for simplification for a simpleminded man like me, how could I -- if Clarity Pointe was paying $2.4 million, what are you getting for those 2 properties from Thrive?

Okay. So I'll -- Jordan, it's Pam, and I'll walk through the math because it is a little complex. The new rent on all the properties will be $6.3 million. If you back out the rent Thrive was paying on the 2 assets being transitioned, that's $3.8 million. So that gets you to $2.4 million of rent on the -- allocated to the 2 properties being transitioned and that new West Chester property. Then if you back off West Chester rent, assuming 7%, because if this transaction doesn't close, the rent on West Chester will be 7%, that will be $1 million. So you back that off of the $2.4 million and you get to the new rent on the Clarity Pointe properties, which will be $1.3 million. As you compare that to the old rent on the Clarity Pointe properties of $2.4 million, you get to a reduction in rent on the Clarity Pointe properties of $1 million or approximately $0.027 per share.

In this case, the GAAP rent in this case is lower than the cash rent because there is no of fixed escalators. There's -- in that $6.3 million, there is no straight-line impact to the escalators. And also, as I mentioned in my comments, we get a percentage rent increase based on growth and revenues over a certain threshold.

Okay. And so -- but Pam's numbers were GAAP, right?

They are GAAP, yes.

So GAAP cash will be a little higher is your point, Clint?

Yes. And as the escalators are variable, so you don't do a straight-line rent calculation on them. But as we get those escalators, they're essentially related to CPI. Rent will increase, and you'll see that flow through in FFO versus normally you see that happen in FAD.

And the GAAP rent provided also is the effect of providing some free rent during the course of the lease-up at the properties.

Our next question comes from Paul Morgan with Canaccord.

Just a little bit more, I guess, on Anthem. What the kind of -- what the coverage is or maybe where it was at the prior rents. And I'm just trying to get a sense of what may be -- say as your portfolio coverage kind of destabilized, rents would be if you move to a new operator?

These billings are new in the lease-ups. So it's hard to give a coverage specific to -- because -- loss-combined basis because of the lease-up.

Yes. But some of them have been -- I mean, okay. I understand that for a few of them, but for example, the Denver assets, they are stabilized and...

We have 2 of the properties that have rolled into the same store in the Colorado market. And the trailing 12-month Q1 coverage on the 2 initial properties in Denver was 1.4x coverage, including a 5% management fee, as an example of 2 buildings that have rolled into same-store.

Yes. The issue is really in the leased properties, not the stabilized.

It's in the leased properties? Okay. I mean, did you have a sense from Anthem that they were in a financial position that they wouldn't be able to continue paying the rents? Or I mean, how much of those kind of surprise was this to you when July 1 came around?

Well, I think we talked about it in our last quarter, and we were talking about the challenges of the lease-up, and that we were going to have to address these issues. But Anthem had been trying over the last 6 months to raise additional equity, which they did need in that company. They were unsuccessful in raising that equity. We had given them a date certain that they needed to come up with that equity to give us some more confidence in their ability to sustain their business. And when those efforts have failed, that's when we said, "Well, we need to issue the default, and we need to be able to determine the fate of these properties in a more proactive way. Now they're doing well. As I indicated, they're improving their census. But because of accounting issues and reporting issues, we really had to step back and say, "We need to take some timeout on booking these things." Even though I think -- well, I know the assets are worth much more than we have invested in them. I know they could go to other operators probably at the rents that we had with Anthem. But it's a very complicated and intense thing to do that. So we're working through it. We're looking at -- as I said, we're looking at all of our options.

And we view it as -- I mean, this is a short-term GAAP rate getting to lease-up. And there have been some inconsistencies in leadership at some of the communities. And so this is really -- our viewpoint is it's a short-term hurdle to get over as they're going through lease-up. But long-term, the buildings will be on good locations, and long-term are very viable. And as Wendy mentioned in our comments about the value creation specific to the 4 original buildings in Denver as an example of market value -- we perceive to be market value over our cost basis.

So if you look at the lease-up assets that have caused the problems that I think helped precipitate this, I mean, would you -- how much of the issues are, in your estimation, related to competition in the market with your supply, mistakes that might have been made in the lease-up process in terms of concessions or other things or something else in the asset? And then have you in your maybe preliminary discussions with other operators, I mean, do they kind of see it in a similar line?

Yes. The one property that we're aware of in regard to competition is the Westminster community, which we talked about. And they've had a fair amount of new supply come on in that marketplace. But even as Wendy indicated, Anthem had reached somewhere in the 80s a number of months ago, dropped back down into the 60s. And then as Wendy indicated in her comments, it's now been refocused. They have brought in new leadership at the community level. And occupancy is rising at that. So that's probably the one property that stands out that has had the introduction of new competition. But even with that, after refocusing and bringing in the new leadership, they've been able to grow that occupancy. So at this point, it really seems that it's more -- not market-based. But we're actively engaged, as you can imagine, in this process and evaluating that and making sure we have a full understanding, is it operator or is it market-driven?

Okay. I'll let other people continue with Anthem. But just one other question for me then for now is on the Frontier deal. You mentioned that they have -- they operate in 11 other states, and it sounded potentially like you might see growth opportunities organically with them as a new partner. Is that correct? Is there anything that you think could materialize, say, over the next year?

I mean, there's nothing specifically on the table at this point. But I mean, obviously, that is the hope we've been working with Frontier. Doug Korey has a long relationship with the Frontier management team. And this is really something that's -- we've looked at a couple of opportunities with Frontier at mezzanine and preferred equity opportunities, and it's translated over a year time frame into this unique off-market opportunity. So yes, we hope that this is something that leads to more growth opportunities for LTC.

Our next question comes from Chad Vanacore with Stifel.

So guidance is coming down around 4% -- or $0.04 at the midpoint. Was that solely due to the transition properties and the change in cash rent collection? Or were there other changes in base assumptions embedded, which is considered?

No, it was all related to Anthem.

All right. I like that. That's nice and clean. So -- and then just given some of the issues that you're having with some of these new memory care development lease-ups, does that in any way change your view on the memory care's market stability?

Really sort of. The memory care-only properties, I think, are a little bit more of a challenge in lease-up. The properties that we have financed that our operators convinced us that it's better to have assisted living and memory care or 3 levels, independent, assisted and memory care, have leased up better. However, the memory care-only properties after -- well, several of them have leased up as anticipated. But if it's a challenge, it's a bigger challenge because it's a smaller property, and each unit is a bigger percentage of the whole. One of the challenges Anthem had was effective marketing of the dual suite type of unit. And we spent a lot of time talking with the operators at the facilities and with Anthem corporate, and they've now been able to change their marketing techniques and their marketing strategies and have been -- being more successful in this dual occupancy unit. I think Silverado does it quite well. And so, yes, if I had it to do over again, I think we would not have gone with as many memory care-only. However, based on the demographics, and based on the rise in the assist -- or in the Alzheimer's, I believe these are long-term sustainable properties.

All right. So Wendy, if you were going to underwrite a new memory care development today that's memory only, how would that change your underwriting standards -- or lease-up expectations, actually?

Yes, we probably want lease-up more in the 24- to 36-month range, and I would look for coverage still -- stabilized coverage at 1.2. And I'd also look for more equity in the deal than we had in the past.

All right, that's great. And since you've been fairly selective on the investment front, what would you need to see change in the markets to meet your underwriting criteria?

We've always been supporters of SNFs. And we still support SNFs, but it would really have to be an incredible deal for us to invest in a SNF now if it weren't being added into a well-covered master lease. I can't really say what we would look for, for underwriting, but I think it would have to be above 1.5.

And also that evaluation would not just be property-specific, it's really going in and underwriting the company and understanding their ability to navigate a sort of new paradigm, and as far as the shift towards managed Medicare and their positioning within a market to be able to demonstrate their ability to navigate the waters of various changes in the reimbursement and regulatory environments.

One of our -- I think, correct me, if I'm wrong, Clint, that one of the good things about Frontier investment is one of the properties has some room to grow. They had room to grow. So that's important to us. In investing in a property that's already 90% occupied or more, it's hard to say that we're going to get some growth out of that. So price, of course, is one. We'd have to get a return over 7% to make it worthwhile, and we just start seeing those types of deals.

Our next question comes from John Kim with BMO Capital Markets.

So I'll take a crack at Anthem. You characterized the issues of being really related to developments. But you when you look at their $12 million of annual rent income that's contractual versus the $4 million that you think they'll pay annualized, it would seem to suggest that it's more than just the developments, it's the existing stabilized assets that are also underperforming? Is that correct?

Primarily the 3 buildings, which are in lease-up, which Wendy mentioned in her comments.

And just to clarify that the annualized number, we are not projecting that into 2018. We gave you an annualized number, but we're really looking just at the remainder of this year of collecting about $1 million per quarter. And 2018, we have not revised projections on that. We haven't introduced guidance on 2018. But even internally, we're still working on the outcome of this situation. And so it's too premature to say what we really think is going to happen on an actual annual basis.

Okay. But these development projects, there's 3 of them in lease-up, and you have 11 under the master lease. So again, it seems like when they're paying 1/3 of the rent, that they're...

Well, 11 includes Kansas, right?

Yes, right. So the 2 Kansas properties, we are in negotiations to transition those, and we have not used any rent assumption on that. So if you were looking at modeling for the remainder of the year, you might assume that there would be some rent from those coming. And then the remaining properties, you have stabilized properties, but obviously, the EBITDAR from the stabilized property is not enough to cover rent on stabilized and unstabilized. It covers a portion of it, but not all of contractual. So obviously, one of the possible outcome is lowering the rent temporarily to an amount that they can pay, which is kind of what we've done here. Nothing has been done contractually. We've just said, "Pay what you can pay." And we estimate it's about $1 million a quarter.

Okay. So the $4 million that Anthem can pay in addition to that, we should have the transitioned assets? And how much rent do you expect of those 2 assets?

For the 2 assets that are being transitioned, we were in negotiations. So we're not disclosing that at this point. But we will update you when we have a contract in hand, and we finalize negotiations.

Do you expect the rent to be similar to what Anthem paid or lower?

At this point, it's too premature to say, I'm sorry.

And just to clarify. On the 11 properties, 2 of the 11 are in Kansas that Wendy referred to. 2 of those are under construction, and then there's 7 that are -- outside of Kansas, 7 that are operational.

I see. Okay. The facility of EBITDAR coverage ratios you have on Page 12. So this is the same-store, and I'm assuming this does not include lease-up assets on Page 11. Am I correct?

Correct. Not until they reached the definition of stabilized and same-store. So you have that. They have to be stabilized for the 2 comparative periods.

So do you have any other tenants that are having -- that have an EBITDAR coverage at 1x or below?

So we've always talked about Sunrise. Sunrise covers probably about 1, but we're not too concerned about the credit on Sunrise. I don't think we have any others that are 1 or below.

Nothing material.

Nothing material that's 1 or below.

Wendy, you'd mentioned on an acquisition that you passed on this quarter, there were issues you identified during due diligence. Can you just provide some color on what that was? And if it's specific to this portfolio or do you think it's something widespread?

It's definitely specific to the portfolio. It was an investment in some skilled nursing properties in New Jersey. And as we went through our due diligence, the properties were doing very well, and we expect them to do very well. The company was a private company. And so their financing was very, I would say, convoluted in terms of who had security in what. And so we were unable to get comfortable that we would be able to get the corporate guarantee or the corporate backing without a lot of people standing in front of us to just buy these 2 assets and lease them back. So it was a lot. We tried very hard, and Clint and Doug worked diligently trying to get that deal done. But in the end, just because of the way they financed as they grew and what the banks took as security for their loans, we just couldn't get enough comfort that we'd be able to get these assets free and clear, and that the operator wouldn't have encumbrances that we wouldn't want to let them assume.

Okay. And if I could just go back to Sunrise for a second. What do you think the resolution is with them?

I don't expect...

And the timing as well?

Yes. I think the lease is up sometime in '18. We don't expect Sunrise is going to want to renew the lease at its current lease rate. We're not even sure Sunrise is going to want to renew the lease at a reduced rate because leasing is not their mode of business any longer. So what I think we're going to do is look at opportunities to possibly sell those assets, which we would have significant gain most likely, or we'll find another operator who would like this nice group of assets in Ohio and just outside of Ohio and Pennsylvania. And it's likely we'll get a little bit of a reduced rent to begin with, but they're good assets. They're always full, and it's just a matter of pricing.

Our next question comes from Rich Anderson with Mizuho.

A lot of my questions have been asked and answered. Just a couple here. So the guidance went down by $0.05 to midpoint. You're taking an $0.08 temporary hit at least from Anthem and maybe, call it, $0.01 from the Clarity to Thrive kind of moving parts. So that's $0.09. That $0.04 differential, is that just from investment activity being accretive? In other words, would you have raised guidance by $0.04 today if not for these 2 moving parts?

Yes.

Okay, that's a perfect answer. Nice and quick. And then can you comment on your exposure to memory care? I don't know that you have -- like specifically, what amount of it is standalone? What amount of it is intertwined into existing senior housing assets?

From a standalone basis, this was -- Anthem was our primary exposure and Clarity Pointe secondary. The rest are memory care units within a larger assisted living facility.

So standalone memory of care right now is like a couple of percentage points of the portfolio. Is that right?

Yes.

Okay. And then if you look at all of memory care, 5%, 6%, 7% of the portfolio, something like that, including those that are wings within a senior housing facility?

Yes. If it's just senior housing, not including units in skilled nursing, that would be above rate.

But in the right order of magnitude in terms of exposure?

Correct.

Okay. And so on a go-forward basis, even though it's -- let's just say it's 5% or 6% or 7%. Your disenchantment with what's kind of happened here, does that number probably go down whether combination standalone or intertwined into a senior housing facility? Do you think that your desire for memory care has -- will result in that number going down or up over the long term?

I think it will. Again, it's going to be so much on location, but I don't -- as I said, we've stopped doing development with Anthem. We don't have anybody asking us to do development of memory care standalone. I think we need to see the market shake itself out. So right now, I don't think we would do another standalone memory care development project. But in 4 or 5 years, when the absorption has happened, it might change.

And Rich, a lot of that is that most of our memory care projects were through development. And you look at the pricing point. As example, Wendy gave on market value of the Anthem Denver asset. And that's an example of what is out there to buy if it is just stabilized or close to stabilized. So that's where it gets challenging to add into a master lease with coverage. So that it's the difference between acquisition and development. And we've been pulling back on development the last year. And that's how we really got into memory care, is investing at cost as opposed to buying at a premium.

And then we're really reactive to the demand in the market. I mean, if you flash back 6 years ago, memory care standalone, we're selling at a premium. And there was no supply. So we were first in reacting to that and building. And now others have entered the market. And like any development cycle, it's lumpy. And typically, what happens is when there's that big demand, everybody sees it, they build. You have a short-term overbuilding. But in the long run, it works itself out. And I think that's where we are right now, just kind of in that lumpiness of a development cycle.

Right. So yes, demand for the space, obviously a sad truth. But I'm curious if this experience has you rethinking any other sort of tangential asset classes, like behavioral health or something like that. Are you less inclined to break free from the main food groups of senior housing and skilled nursing at this point because of this?

No, I don't think this is a failure. I think this is, yes, a short-term challenge. And we've done challenges before when we worked out assisted living concepts. So we've addressed this type of thing. I think we're proactive. I think we're very clear with our investors and analysts of the challenges we have. So this is not a failure. This is a challenge.

No, not implying that. I always appreciate your open book on these types of things.

Our next question comes from Michael Carroll with RBC Capital.

Yes, just real quick on Anthem again. How have these communities performed versus your underwriting? And I understand the lease-up properties will be the ones that have the issue, but we have another 6 to 12 months before we hit the 24-month lease-up market at Burr Ridge and Tinley Park.

Correct.

So how could those be the problem if we're still 6 to 12 months away from that 24-month mark?

Well, they're below where they were targeted to be at, at this stage.

Yes, they're below pro forma, where we thought they would be, and how we projected cash flows. So we projected cash rent based on cash flow is expected from the property based on lease-up, to the extent their occupancy is lower, and they don't have the revenues. That impacts their ability to pay us rent. And another impact is that Anthem has a corporate office. And so in the pro forma, as we didn't expect the corporate office to be as expensive as they created a corporate office. So we have worked very closely with Anthem to rationalize their corporate office. And they're very clear that for every dollar they spend in corporate office, it's a dollar front we do not get. So at this point in the pro formas, we were not expecting such a heavy burden from their corporate office, which is being addressed.

Okay. And then can you give us where did you expect occupancy to be at for Burr Ridge and Tinley Park in your underwriting?

On a stabilized basis?

Well, you said that they're underperforming, underwriting right now. So where's your underwriting versus where they're at right now?

I'd have to get that if I don't have that available. We can provide that after the call.

Okay, great. And Clint, can you give us a quick rundown on your other development relationships that the companies has? And are any of these operators having similar issues?

The development has primarily been with Anthem, Thrive, Clarity Pointe and Oxford Senior Living. So it's really been in 4 relationships. And the occupancy challenges really have been at Clarity Pointe, which we've talked about on the Jacksonville property, and then on these properties with Anthem.

But these other development relationships are pretty clear for you, and they're able to pay their rent right now?

As of right now, others are fine.

Our next question comes from Todd Stender with Wells Fargo.

You still have funding commitments on the Anthem lease-up projects. Do you finish those before you begin to explore other -- either transitioning them or selling them? Or just you are under that commitment. How does that work?

Well, contractually, now, we don't have to do that, but we are. Of course, we'll be finishing them. In fact, the one in Oaklawn...

Glenview.

Glenview? The one in Glenview is probably opening in October.

October, November time frame.

And then the one in -- Oak Park?

Oaklawn will be sometime in the first quarter.

It would be difficult to sell those as projects that are under development. They've done the development within their budget. So they've developed a good property. It's their operational missteps that have caused the problem. So we will finish those properties.

Okay. And probably for Pam, the difference in the cash rent, the $2.6 million to the $1 million, how does that accumulate? Is that going to be on the balance sheet? How does that work?

Yes, it was accumulating on the balance sheet. That's the straight-line rent balance. But we've stopped that. So it should not, at this point, grow any further. Non-GAAP and GAAP are the same right now.

Okay. I guess, what they -- okay. I guess, what they owe you, that accumulates on a contractual basis, right? They have to cut you a check at some point for all back rent?

Correct.

Well, it's straight-line rent. So contractually, it's paid over the life of the lease.

The portion straight-line. The other...

The portion straight-line, yes.

Okay, got it. And then as far as -- and I think this is probably for Clint. Your acquisition volume -- or pipeline rather is fairly modest. What are some other things you might deploy capital towards, raising the dividend a little more, paying down future debt, maybe we see a little more mezz lending? How do you look at that?

I believe we can do the source off-market transactions. I can see doing mezz and some preferred equity in certain cases. So we are actively seeing deals. As I mentioned, a lot of deals we're seeing on a marketed basis are expensive or just things that we're not interested in. But we are actively engaged, and Doug and his team are looking at a number of deals and underwriting opportunities. So we continue to be very engaged on that. And we're hopeful that through our relationships, and as Wendy mentioned, our discussions with mezz and preferred equity tend to lead to other transactions. We had that $40 million deal Wendy mentioned that was in the pipeline. And that actually was initially a mezz conversation that led into this opportunity. But we've always been very prudent in due diligence, and we just couldn't get to those challenges. So we decided to pass on that. But we are seeing opportunities. And we're hopeful that through those relationships we have that we're able to source some more opportunities going forward.

Our next question comes from Karin Ford with MUFG Securities.

Can you just give us your expectations on a time frame for the resolution on the Anthem properties? And I know you said all options are on the table. I just want to make sure that one of those options could include potentially leaving all of the 9 properties with Anthem? And how much time do you give them to kind of turn around and come back to paying rent?

Yes. One of the options could be leaving them with Anthem. We will have a resolution by the end of the year. If we decide that a pass is to sell some of the assets, that takes quite a bit of time in negotiating and that sort of thing. If we leave them with Anthem, it's going to be a bit harder to determine when we will reestablish full rent. I think within the next 3 months, we will see if the lease-up continues as -- at the pace that they're currently finding it, I think we will be able to reestablish rent on a higher basis pretty quickly. But it's still too many options in the air, Karin, to give you a real specific time line.

No, that's helpful. And have you had any discussions with other operators about the properties? And if so, what's been the reception?

It's been too early. We've talked to a couple of operators about their interest in the portfolios, pretty much looking at the Chicago market and the Denver market separately. We haven't done a broad-based offering of the properties, but we've talked to a couple of operators about interest, and we are continuing those discussions. The problem would be if we leased all of the Denver assets to another operator that further hobbles Anthem and they still have the developing Chicago market. So it would be best if we would have somebody very interested in Denver and very interested in Chicago. But I think continuing as we are doing and booking just the cash rent will eliminate -- not eliminate, but will reduce our exposure to any other adjustments. And we'll have upside on this in the future.

How deep is the pool of replacement operators?

Well, of course, in the Denver area, it's going to be pretty deep because there's -- it's more established operations. In the Chicago area, we don't have as many connections. We haven't reached out to Silverado, which is not a connection of ours. But if we got serious about it, of course, we would talk to some of the bigger operators.

But one of the advantages in the Chicago market is it's a more -- denser area, harder to build. So with these already in the ground, I mean, let's say for other people to look at it, that they avoid that whole time frame of sourcing land, getting approval. So there is an advantage to that long-term in the Chicago market.

We have a follow-up question from Rich Anderson with Mizuho.

Sorry to keep it going. Just a quick one for Pam. What are you thinking about in terms of interest expense like on a run-rate basis, just given all the sort of this moving stuff?

Sure. About $7.7 million, $7.6 million a quarter.

Okay. And what -- remind me what caused it to trickle down this quarter?

Oh, we repaid outstandings under our line of credit. And I'm sorry. I'm sorry, our interest -- I'm sorry, $7.8 million. About $7.8 million. Use $7.8 million. And then, obviously, if you're layering on acquisition assumptions, you'll need to increase interest expense. But based on where we sit right now it's about $7.8 million a quarter, $7.8 million a quarter.

This concludes our question-and-answer session. I'd like to turn the conference back over to Wendy Simpson for any closing remarks.

Yes. Thank you for listening to our call today. And as Pam said, we will be giving you more updated information as we work through all of our issues with Anthem, and look forward to talking to you again after the third quarter. Have a great day.

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