National Health Investors Inc (NHI) 2018 Q3 法說會逐字稿

Hello, everyone. This is Colleen Schaller, Director of Investor Relations. Welcome to the National Health Investors conference call to review the company's results for the third quarter of 2018. On the call with me today is Eric Mendelsohn, President and CEO; Roger Hopkins, Chief Accounting Officer; Kevin Pascoe, Chief Investment Officer; and John Spaid, Executive Vice President of Finance.

The results as well as notice of the accessibility of this conference call on a listen-only basis over the Internet were released this morning before market open in a press release that's been covered by the financial media. As we start, let me remind you that any statements in this conference call which are not historical facts are forward-looking statements. NHI cautions investors that any forward-looking statements may involve risks or uncertainties and are not guarantees of future performance. All forward-looking statements represent NHI's judgment as of the date of this conference call. Investors are urged to carefully review various disclosures made by NHI in its periodic reports filed with the Securities and Exchange Commission, including the risk factors and other information disclosed in NHI's Form 10-Q for the quarter ended September 30, 2018. Copies of these filings are available on the SEC's website at www.sec.gov or on NHI's website at www.nhireit.com.

In addition, certain terms used in this call are non-GAAP financial measures, reconciliations of which are provided in NHI's earnings release and related tables and schedules, which have been filed on Form 8-K with the SEC. Listeners are encouraged to review those reconciliations provided in the earnings release together with all other information provided in that release.

I'll now turn the call over to Eric Mendelsohn.

Thank you, Colleen. Greetings, and thank you for joining today. We're pleased to report we have a new agreement with Holiday concerning our portfolio. The details can be found in an 8-K filed this morning. We have much to discuss, so let's get to it.

Many of our investors and analysts have been asking us about our Holiday Retirement portfolio. I have made no secret that Holiday was on our worry list and that we were concerned about the financial performance of the buildings and the guarantor entity as a result of the change in the management model and headquarters relocation. As many of you know, the change in management model went well, and as a result, the buildings are run in a more customary manner with a professional Executive Director instead of live-in managers. The change in headquarters location from Oregon to Florida was also stressful to the company. Having visited Holiday headquarters recently, I can tell you that the team is motivated, cohesive and focused.

This is also demonstrated in the improved performance of the buildings in our portfolio. The most recent reported performance is a great example. We are reporting the EBITDARM coverage ratio improving from 1.17 to 1.18 for the 12 months ending June 2018.

That leaves us with our concern for the financial performance of the guarantor and the manager. Our lease with Holiday was premised on paying a premium for the real estate and realizing our return through large escalators. In years 1 through 3, we received 4.5% escalators and thereafter, 3.5%. Holiday has done a good job keeping up with these escalators and even slightly ahead. However, for a variety of reasons, including our forecast for continuing guarantor negative operating cash flows after CapEx and our mutual desire to end the management company subsidy of certain property-level operating expenses, both Holiday and NHI determined that the continued status quo was not viable. As a result, we have crafted a lease amendment that addresses the lease payment and escalators and invests in the manager to realign the NHI Holiday relationship towards a more achievable long-term future.

To summarize the amendment, the parties have agreed that NHI will receive consideration of approximately $65.8 million in cash or property in lieu of cash at our option. Holiday's parent will contribute $5 million of equity into the Holiday tenant entity to hold the NHI lease. Additionally, Holiday's parent will contribute $6.5 million of equity into the Holiday management company, providing for Holiday's future. The lease maturity is extended by 5 years to December of 2035 and will be secured by a security deposit of $10.6 million held by NHI. Effective January 1, 2019, the new Holiday rent will be $31.5 million for 25 assets with escalators commencing annually starting November 1, 2020.

We are impressed with the Holiday operations team and encouraged now that the management company can focus on growth and new business. We hope to play a part in that growth going forward. We are satisfied that this transaction will position our portfolio to perform well and take it off the worry list. NHI is all about crafting unique financial solutions to promote operator focus, long-term success, and this transaction is a good example of that approach.

With that, I'll turn the call over to Roger Hopkins to walk through the financials. Roger?

Thanks, Eric. Hello, everyone. This has been another solid quarter of performance by NHI fueled by the funding of $153 million in loan and lease investments so far in 2018. We continue to support our tenants and borrowers by funding new construction projects and facility renovations, which will extend into 2019. We are committed to investing in the financial success of our tenants and borrowers who seek to provide new and fresh facilities for today's senior adults. We are very pleased with the performance of NHI's portfolio for the third quarter and year-to-date.

NHI is focused on giving its shareholders another good, steady year of performance from accretive new investments in an industry where there is very active competition for assets, many of which are priced at levels that are not accretive to public REIT investors. For the third quarter of 2018, normalized FFO per diluted share increased 1.46% to $1.39 compared to $1.37 for the same period 1 year ago. Normalized adjusted FFO or AFFO increased 4.92% to $1.28 per diluted share compared to $1.22 1 year ago and is reflective of our good investment volume so far in 2018 and our annual lease escalators. AFFO excludes the effect of the accounting convention of straight-line rent income for GAAP purposes.

We continue to fund our commitments totaling approximately $56 million as outlined in our Form 10-Q. These commitments relate primarily to new construction and renovation projects with our operators. Funding of these commitments adds to the lease or loan base on which our income is calculated each month. We fully support our tenants and borrowers to renovate or expand their facilities to meet the wants and needs of today's senior adults. Whether we are providing funding for construction or we are making new acquisitions of existing facilities, our goal is to deploy a careful mix of debt and equity to maintain our low leverage profile. This approach has allowed NHI to access new debt and equity capital from both public and private sources.

NHI's total revenues for the third quarter show growth of 5% over the same quarter in 2017 and 6.3% year-to-date. Our rental income increased 5.1% to $71.1 million for the quarter and 7% year-to-date due to funding of $153 million of new investments and property renovation so far in 2018. For the third quarter of 2018 and year-to-date, our general and administrative expenses increased 11.1% and 6.4%, respectively. Our noncash share-based compensation expense in the third quarter was $337,000 and is expected to be the same in the fourth quarter.

We are often asked how NHI management is incentivized to grow the company. We are incentivized based on the annual growth in dividends and normalized AFFO on a per share basis. Our normalized AFFO is a non-GAAP measure of performance, which excludes the accounting convention of noncash straight-line rent income but gives credit to our actual lease escalators. We believe the growth in AFFO is the best quarterly and annual indicator of growth of our portfolio and our ability to increase quarterly dividends to shareholders. We currently estimate our normalized FFO payout ratio for the year will be in the low 70% range, and our normalized AFFO payout ratio will be approximately 80%, thereby permitting NHI to retain over $45 million of excess cash above its dividend for 2018 to be used for making accretive new investments.

Moving on to guidance for 2018. We affirmed the guidance ranges given in our last earnings call as we have greater visibility on our performance for the remainder of 2018. We currently estimate normalized FFO in the range of $5.47 to $5.51 and normalized AFFO in the range of $5.01 to $5.03 per diluted share, as shown in our earnings press release this morning. These estimates include the expected funding of our ongoing commitments and the composition of new debt and equity capital to properly align our capital resources for growth and to maintain low leverage.

I'll now turn the call over to John Spaid, who will discuss further our uses of debt and equity capital.

Thank you, Roger. For the quarter ended September 30, our debt capital metrics were a net debt to annualized EBITDA at 4.2x, weighted average debt maturity at 5.1 years and fixed charge coverage ratio at 6x. For the 9 months ended September 30, our weighted average cost of debt was 3.8%.

On September 17, 2018, NHI closed a new $300 million 5-year bank syndicated term loan facility. Proceeds from the new term loan were used to pay down our revolver debt and provide NHI with ample liquidity to meet our future pipeline investment needs. NHI ended the third quarter with $23 million outstanding on our revolver, leaving us with $527 million in available revolver capacity.

The new term loan's interest rate will adjust with changes in the 30-day LIBOR as well as our calculated leverage ratio as set forth within the term loan agreement. At closing, for the third quarter, the term loan's initial interest rate spread was set to 125 basis points over the 30-day LIBOR. The terms of the new loan are substantially consistent with NHI's existing credit facility and term loan dated August 3, 2017. We intend to evaluate our options to use swaps to fix a portion of our new term loan towards the end of 2018.

Turning to our ATM program. During the third quarter, we sold 39,669 shares of our common stock. The shares were sold at an average price of $76.78 per share, resulting in net proceeds after commissions of $3 million. Proceeds were used to reduce our revolver debt. After our second quarter ATM activity, we have approximately $227 million in capacity remaining under our shelf facility. With our leverage currently at the lower end of 4x to 5x net debt-to-EBITDA ratio, NHI continues to be well positioned for future accretive investments.

I'll now turn the call over to Kevin Pascoe to discuss the portfolio. Kevin?

Thank you, John. Looking at the overall portfolio at the end of the second quarter, the EBITDARM coverage ratio was 1.64x. Senior housing was 1.2x, and our skilled nursing portfolio was up slightly at 2.54x.

Taking a look at our larger operating leases. Our relationship with Bickford Senior Living represents 18% of our cash revenue and had EBITDARM coverage ratio of 1.12x for the trailing 12 months ended June 30. This EBITDARM calculation now includes the 5 assisted living and memory care communities purchased in Ohio and Pennsylvania earlier this year and 1 of the 5 Bickford developments that has now been in operation for 24 months. The communities acquired earlier this year continue their transition into the portfolio and are undergoing renovations as planned. The 4 remaining developments continue to lease up nicely on or ahead of schedule and add additional cash flow to the Bickford portfolio.

The transition of the Minnesota portfolio is ongoing as Bickford works to improve efficiencies and upgrade the communities. Though the transition is taking longer than expected, average occupancy for the 4 buildings was approximately 90% in October, which was up 10 percentage points from its low in the first quarter of 2018.

Turning to Senior Living Communities, which represents 15% of our cash revenue. Including net entry fee income, their EBITDARM coverage ratio was 1.27x on a trailing 12-month basis as of second quarter end, and year-to-date 2018 performance has been in line with expectations.

Looking at National HealthCare Corporation. Our partnership with NHC accounts for 14% of our cash revenue and has a corporate fixed charge coverage ratio of 3.59x.

Our relationship with Holiday Retirement represents 14% of our cash revenue. As of second quarter end, their EBITDARM coverage was 1.18x, up 1 basis point from our last call. The second quarter saw net positive move-ins and occupancy for the quarter average 88.8%. The third quarter continued to improve with an average of 89.2%. As Eric mentioned earlier, resetting the lease with Holiday gives them a new baseline from which to grow the portfolio and reinvest in our assets.

In conjunction with Holiday's investment, NHI will also allow up to $5 million for ROI producing CapEx to be invested into the communities. NHI will earn a 7% yield on any amounts funded. We will continue to work with Holiday to further optimize the portfolio through selling underperforming assets. NHI will utilize the capital received from this restructure and any asset sales to invest into additional accretive opportunities at market rates.

Turning to our pipeline. We've seen an increase in activity during the second half of the year in both senior housing and skilled nursing opportunities. We remain selective in the current markets to ensure we're making accretive transactions with high quality operating partners. Though the marketplace is competitive, we feel very positive about the opportunities in our pipeline and our ability to grow.

With that, I'll hand the call back over to Eric.

Thank you, Kevin. We'll now open the line for questions.

(Operator Instructions) And we have a question from the line of Chad Vanacore with Stifel.

So what did you all see in Holiday performance that made you choose to restructure the lease terms now? So if you annualize 3Q performance, would they still be about 1x EBITDAR coverage?

Chad, this is Kevin. The answer to your question is yes. And frankly, we've been working with Holiday for some time now to figure out a solution with them and just was came about that we were able to come to terms here in this most recent call, so that's why we're bringing it to you now. Furthermore, as Eric had mentioned, there was subsidies going on and the manager that needed to be put in the property level. So as a part of the total negotiation, we're able to put those in the right places and make sure that we have a sustainable lease going forward.

All right. And just given the $66 million consent payment you're collecting from Holiday, that gives you some additional dry powder. How quickly do you think you can redeploy that? And what's your pipeline look like today?

We haven't disclosed specific numbers, but I feel very good about our pipeline. We've got a number of LOIs that are out and feel very good about the people we are working with and the opportunities ahead of us. So stay tuned in terms of the new investment. But I feel very good about our prospects.

Should we think about proceeds from that consent payment as additional liquidity for you to go out and make your normal course acquisitions? Or should we think about that as that's incremental acquisitions that you would make over your historical?

Well I guess, I would view it as dry powder. I mean, they are -- it's additional capital we have to invest. So I don't know that I would call it necessarily incremental. We have the ability to continue to grow. Like I said, we have very good prospects in the pipeline. So it's capital for us to go redeploy. And again, feel good about our ability to do that.

Chad, this is John. So was that a capital reallocation question? Or were you trying to...

Yes.

Yes. So I mean that's...

I'm trying to -- would you ramp up your 2019 acquisition pace above what you would normally expect to do in a year?

Not artificially ramp it up. That would be the wrong answer. But I think our timing is working out pretty well here for us based on what Kevin just said vis-à-vis the pipeline we have in front of us.

All right. And just thinking about the rest of your portfolio. Any other tenant issues you think we need to get ahead of near term? Or have you just wiped everybody off your worry list at this point?

This is Eric. We still have a worry list. And there are various ways and approaches to each portfolio. Some portfolios would benefit from just selling a couple of underperformers and the coverage would pop up. Other portfolios or buildings would benefit from changing out the operator entirely. And we've been pretty transparent about when that happens and what that looks like. Thankfully, it's just been on a couple of isolated buildings.

Our next question is from the line of John Kim with BMO Capital Markets.

On the Holiday transaction, what are the chances that you take the asset rather than the $66 million in cash?

So that's still under review, John. We're looking at opportunities with Holiday. And as I'd mentioned in our -- in my comments, we're still looking for additional ways to optimize the relationship. But taking an asset would be one, I think, mutually beneficial way, to kind of Chad's question, that's a way to deploy capital now effectively and get a good asset and return. So that's something we're actively talking with them, but we have not determined at this time if we will be taking an asset or not.

And has the asset already been identified? And if not, I mean, $66 million seems like a very precise number. Could it be that you get proceeds in cash and an asset?

Yes, it could definitely be a mix of the 2.

The $7.5 million of difference between the new rents beginning in 2019 versus the prior rent, what is the GAAP impact just given the difference in escalators?

So the GAAP impact is going to be a complicated answer. The first thing is the straight-line rent, this is John, by the way. The first thing that will happen is the straight-line rent will change, I think the net effect will be -- I don't think we actually computed it to be honest with you yet. We're about to do that. So it's -- he's asking what is our GAAP rent versus our pro forma GAAP rent.

Yes, what we're -- you've seen the differences in cash rent, and we will carry the straight-line rent over and continue to record straight-line rent adjustments over the term of the new lease, which is 15 years. And so I want to make sure that we have the math right here. We look back at our total investment in the Holiday portfolio of $493 million. And Kevin has discussed the $66 million, whether it be cash or in new real estate that we would receive. And so our net investment, therefore, is $427 million. And we disclosed that the new lease rate on that would be $31.5 million. And then we will have an escalator each year on top of that, which would affect GAAP income. Of course, we subtract the effects of straight-line rent to get to, for example, AFFO, which we focus on here. So we believe for this portfolio and resetting the rent and getting this payment or value upfront really sets us up well and provides us a good return on the portfolio.

So it sounds like some moving pieces but it could be that the impact is greater than $7.5 million?

Well, we will actually be receiving -- not receiving but recording straight-line rent income in the early years of this lease. And then it burns off in the latter years. But on a cash basis, it will be $31,500,000.

Let me see if I can help, John. This is John Spaid. So we're replacing a lease with a known GAAP rent, which we've previously published based on a term out to 2031. And we're replacing that lease with a new lease with a term out to 2035. So the straight-line rent on that will be evaluated pretty shortly, we will publish that in our next earnings report. And the additional term of the lease will assist us with the GAAP rent being less material than the cash rent. But in our evaluation of this restructuring, we've been focusing on the cash rent and the net present values of what we're giving up compared to what we're receiving. And so we view this as a pretty good recovery for us. Notwithstanding the fact that we have to redeploy the cash that we're receiving here pretty quickly.

Okay. And then for either Eric or Kevin, I think you guys mentioned you have been working on a solution with Holiday for some time. You just happened to announce it today. Are you working on a similar solution with Bickford given their coverage was lower?

So to answer that question is we've already done, at least in my opinion, kind of the reorganization with Bickford when we unwound the RIDEA. We -- at that point in time, they were able to buy some assets back, recapitalize their balance sheet and set themselves up. We recognized at that point in time that the coverage at least for some time was going to be tight. But as we continue to roll in the developments that will improve over time and we still have a number that need to roll into the portfolio. So is there some optimization that can happen? Like Eric said, is it possible that we can sell some buildings or do something like that to help? Yes. And those are all things that are on the table with any customer that we have. But a wholesale change is not something we're looking at at this time. It's really just more of optimization and helping the portfolio overall, continue to make accretive investments with them and help them grow.

Okay, great. I guess, my last question is really a comment. But I think it will be helpful if you disclosed EBITDAR coverage going forward rather than EBITDARM. I don't know if you want to comment on that.

(Operator Instructions) We have a question from Rich Anderson with Mizuho Securities.

First, if I can maybe sort of ask perhaps a different angled question. I'm looking at the press release for the restructure and bullets 1 and 2, is it possible that a single asset can satisfy both of those bullets? Meaning you would buy an asset for a fraction of its cost if that makes sense? Does it makes sense?

Rich, we're looking at the press release. So we can buy an asset below market value, is that what you're asking, Rich? This is John.

Yes, the compensation can come in the form of getting an asset at a discount.

No, I wouldn't want to suggest that were -- we would be able to get a discounted asset. That would not be the case.

I'm saying factor in this compensation of $65.8 million, if some form of it is in the form of property, then that same property is acquired and with that sole discretion that is mentioned in the -- I was just brainstorming on how this could actually play itself out, so perhaps move on...

That would be great if that would be the case, but the reality is a little more complex than that when you -- so it's probably going to be a little bit of each.

Okay, fair enough. And then how would you say that the 7% effective cap rate on the possible sale of the 5 assets compares to market?

I think it's a pretty good approximation of market but we would be looking for specific market feedback. And it's something where we'll be working with Holiday to identify the asset and we'll agree on what that price should be. So it's possible that the effective cap rate is a little bit better. So that would, in that case, help coverage.

Okay. And then lastly, what do you think this does to Holiday, the bigger organization? They have their toes in with several. Do you think that this has a wider ranging impact to the positive, for the broader commentary on Holiday? Or are you not so concerned about that such that you get your credit and the return that you want?

Well, this is Eric. We're hoping that it does have broader and more positive implications for Holiday. And they have relationships with New Senior, with Ventas, with Sabra. So this could be something that all those parties look at and study. We tried to craft a win-win for both sides and I think that this puts Holiday in a position that they can actually grow the company now. And we'd love that for them.

(Operator Instructions) We have a question from Juan Sanabria with Bank of America.

Just on the watch list, Eric, you commented that there is still one in place. Is there any way you can quantify the size of that watch list as a percentage of total NOI or rents? And how that size has changed over the course of the year?

That would be tough to do, Juan. I tell people that our distressed buildings are generally 5% of our portfolio, and that every year, it's a different 5%. So that's kind of how we think of it. And after you fix 1 and you turn your attention, or you fix 1 or 2, there's always another one that starts wobbling, that needs stability. So we're constantly working with operators to improve their coverage, improve their operations and make them a success. And I would -- Juan, I would point to an operator that we discussed last year. We didn't name the operator, but we told people that they were in forbearance and that we were working with them. It hasn't come up for a while, but I can tell you that they are doing better than they've ever done. So there are things we can do to help. And this operator has not missed one rent payment ever. So stay tuned.

Okay. And that 5%, it sounds like it's been relatively stable. And it didn't include though Holiday, which was in the teens. Is that fair?

Well, when I say 5%, if you look at Holiday, and like I said earlier, if you just sold a subset of a few of Holiday buildings, the coverage would improve dramatically. So I would say that applies. You can't think of the entire Holiday portfolio as one monolithic building. It's actually 25 buildings scattered all over the country. So -- and in our press release, we talked about selling some of them. So there you have it.

And just on Holiday, what's the expected pro forma coverage, either EBITDAR or EBITDARM after all these machinations go through?

So if we look at the same period that we are talking about here, second quarter, trailing 12 -- yes, 2018, made the expense adjustments and then roll forward the rent, it would be about a 1 2 4 on for that period.

And that's EBITDARM?

Yes. Yes, so that would be (inaudible) coverage.

And then just a question on kind of CapEx, it seems like you guys meaningfully increased the CapEx under the Holiday lease. So if you could just -- what was the old CapEx requirement in the triple net lease? And what is it? Can you give what it is today? Can you comment what that number is for Bickford today under the current lease?

So typically, what we look at is a minimum CapEx number to just maintain the building. And that ranges anywhere between $500 and $1,000 a unit. In the case of Holiday, the calculation is a little bit different in that it was a cumulative calculation so they could basically front-load CapEx into the building. So that's a little bit different than a year-to-year test. They've been spending well in excess of that, more along the lines of what's been memorialized now. For Bickford, it's kind of the same range that I mentioned before just from a maintenance standpoint. They -- we look at kind of the $500 to $1,000 a year number, that's about where they've been trending by and large. And then, as you know, we've been building -- putting new buildings into service, so those don't really require a bunch of really any CapEx, at least for the first few years. So we're upgrading the portfolio, and in doing so means that they're going to have less year-to-year requirements in the aggregate anyway.

And then just one last question on Bickford. Are the numbers you provide on an EBITDAR coverage basis stripping out or excluding the development assets? Or is there some impact from the development assets that aren't fully stabilized? And if so, can you provide a pro forma coverage?

So the way we look at the EBITDARM coverage is for buildings that have been operating for 24 months, so there is a handful that are not in the calculation. As I mentioned in my script, those are performing well ahead of pro forma, particularly in the aggregate and add additional cash flow to the portfolio. I don't have a pro forma number to share at this point in time, but they are adding cash flow that is not captured in that EBITDARM number.

But on a kind of a same-store basis, there's not a drag flowing through from the developments not being fully stabilized in your view?

That is accurate.

It's almost the opposite...

Yes, those are excluded. As I mentioned, they are actually producing cash versus losing or as being a drag. The ones that we talked about and called out on the call were the ones that are transitioning in. That is the Minnesota portfolio and the portfolio in Highland, Pennsylvania. So those would be an impact. But those are, again, transitioning in, and we're doing the redevelopment and investment of those properties as expected. So as we had communicated last quarter, we had indicated that we expected a bit of a dip. It's coming through from the transition perspective. But Bickford is engaged. They're in the buildings. They are getting them where they need to be, and we're positive on the team and the efforts they're putting in there.

And there are no further questions at this time. I'll turn the call back to Eric Mendelsohn. Please continue with your presentation or closing remarks.

Thank you, everyone, for joining the call today, and we'll look forward to speaking with you in person at Nareit in San Francisco this week.

Ladies and gentlemen, that does conclude the call for today. We thank you for your participation and ask that you please disconnect your line.