Sonida Senior Living Inc (SNDA) 2006 Q3 法說會逐字稿

Good day and welcome to the Capital Senior Living third quarter 2006 earnings release conference call. Today's conference is being recorded.

Any forward-looking statements made by management in this conference call are subject to certain risks and uncertainties that could cause results to differ materially, including but not without limitation to the Company's ability to find suitable acquisition properties and favorable terms, financing, licensing, business conditions, risks of downturns in economic conditions, generally satisfaction of closing conditions such as those pertaining to licensure, insurance, availability of insurance at commercially reasonable rates, and changes in accounting principles and interpretations among others, and other risks and factors identified from time to time in the Company's reports filed with the Securities and Exchange Commission.

At this time I would like to turn the call over to Mr. James Stroud. Please go ahead.

Good morning and welcome to Capital Senior Living third quarter earnings call.

The Company continues to execute its 2006 business plan of organic growth as well as growth through acquisitions. Regarding organic growth, financial occupancy for third quarter 2006 was 90.2% on consolidated communities compared to 87.5% in third quarter 2005.

The operating margin on consolidated communities for third quarter 2006 was 42%, compared to 38% in third quarter 2005.

Regarding growth through acquisitions, the Company completed the second joint venture with an existing financial partner and acquired three Indiana communities valued at $38.2 million. The Company expects to earn approximately $.05 million of management fees in the first year of operations without a significant increase in corporate G&A. In addition the Company expects returns on its 15% joint venture investment and potential incentive distributions.

The Company continues to focus on revenue and expense items while strengthening its financial position by reducing net borrowings while fixing or capping interest rates on its owned communities. For further comment on the third quarter results I introduce Larry Cohen, Chief Executive Officer.

Thanks, Jimmy, good morning. We are pleased to report our results for the third quarter of 2006.

Our accomplishments this year have returned the Company to profitability, generated significant asset growth, maximize our return on invested capital, and strengthened our balance sheet.

Through the third quarter of 2006, we have completed transactions valued at $373 million. Last week we reported an additional acquisition leaseback transaction and we are optimistic that we will announce additional acquisition transactions during the fourth quarter. We have also reduced our mortgage debt by $56 million and fixed or capped the interest rate on our entire wholly-owned portfolio at a maximum blended average rate of approximately 6.5%.

Organically, we continue to increase occupancies, rental rates and operating income while industry fundamentals continue to be strong. We are successfully growing our business while strengthening our balance sheet. It is great to see how these achievements, along with solid industry fundamentals and exciting growth opportunities, have created a level of enthusiasm and energy throughout Capital Senior Living from the community level to the corporate office that is having a positive impact on our operations and growth.

I would like to review our financial highlights for the third quarter of 2006.

Third quarter revenues increased 48% to $37.1 million compared to the third quarter of 2005. Third quarter adjusted EBITDAR which we define as income from operations plus depreciation and amortization and facility lease expense increased 68% to $10.3 million from the third quarter of 2005. Our adjusted EBITDAR margin improved 330 basis points to 27.7% from the third quarter of the prior year.

For the third quarter, we reported adjusted net income of $200,000 or $0.01 profit per share versus a loss of $1 million or $0.04 per share in the third quarter of 2005. These comparisons exclude non-cash stock-based compensation in both periods and the third quarter 2005 gain of $500,000 or a $0.02 gain per share on non-cash mark-to-market adjustments on treasury lock agreements during that period.

Adjusted cash earnings, defined as net income plus depreciation and amortization, for the third quarter were $2.9 million or $0.11 per diluted share compared to $2.1 million or $0.08 per diluted share for the third quarter of 2005, excluding the effects noted above.

There were several initiatives that created a foundation for our accomplishments during the quarter and positions us well for our continued growth.

First, we enhanced the operating results of our communities. During the third quarter, our stabilized communities averaged a 91.4% physical occupancy rate. For the third quarter of 2006, same store revenues had 48 communities under management in both the third quarter of 2006 and 2005. These include revenues generated by our consolidated communities, communities owned in joint ventures as well as communities owned by third parties and managed by the Company, increased 6.9% as a result of a 4.7% increase in average monthly rents and a 1.7% increase in occupancy.

Same store expenses increased 2.2% and net income increased 14.9% from the comparable period in 2005. The operating leverage in our business model is reflected in the 78% incremental EBITDAR margin, realized from these same store revenue increases.

Operating margins before property taxes, insurance and management fees at our stabilized communities improved to 46% in the third quarter as compared to 45% the same period in the prior year.

The number of communities we consolidated in the third quarter increased 48% to 43 from 29 a year earlier. Financial occupancies at these communities increased by 270 basis points in the last 12 months and ended the third quarter at 90.2%. Operating margins at our consolidated communities improved to 42% during the quarter, compared to 38% in the prior year. Average monthly rents increased 6.6% to $2255.

Attaining a 93% financial occupancy with a 5% increase in average monthly rents at our consolidated communities would generate approximately $12 million in additional annual consolidated revenues. At a 75% incremental EBITDAR margin, these incremental revenues would increase the Company's EBITDAR by $9 million. 17 of our consolidated properties are in Waterford Wellington communities which were developed between 1999 and 2002.

In the third quarter of 2006 these communities enjoyed a 90.4% financial occupancy compared to 89.1% in the third quarter of 2005. Average monthly rents grew 5.1% to $1924. This performance generated a 6.8% increase in revenues while expenses actually decreased resulting in a 22.5% increase in net income compared to the third quarter of 2005.

Operating margins also improved at the Waterford Wellington's to 42% from 39% a year earlier. We expect to see further improvement in our revenues as we profit from occupancy games, price increases and community fees which we have implemented at many of our communities, beginning this past August.

Moreover, we are benefiting from cost controls and our group purchasing program is generating additional savings on the cost of food, supplies and service contracts. During the quarter we expanded our joint venture acquisitions. We formed a second joint venture with GE Healthcare Financial Services that acquired three Indiana communities from a third party for $38.2 million. This acquisition closed in August and we are earning management fees, a return on a minority interest and potential incentive distributions.

In addition we announce another acquisition leaseback transaction valued at $18 million last week. We expect this transaction to close during the fourth quarter subject to customary approvals and our acquisition pipeline continues to be robust.

We are benefiting from the consolidation that is occurring in the seniors housing industry and our strong relationships with major healthcare REITs; and private equity investors provide us with the most competitive costs of capital in the industry. These relationships are generating significant deal flow and we are optimistic that we will announce additional acquisitions of senior living communities.

The recently issued NIC OSHA Seniors Housing Construction Trends Report for 2006 indicate that there were only 18,597 units of independent and assisted living including dementia care under construction in the 75 largest metro areas of the United States. New developments of senior living communities continues to be severely constrained with new supply growing at a compounded annual growth rate of only 1.3% since 1999.

A scarcity of well-located sites, increasing lands and construction costs, complexities with zoning and limited sources of capital have restricted new construction in most markets. This scenario bodes well for further enhancement in the value of our existing properties and continued strong same-store sales results from our operations. We are looking forward to beginning development of two premium independent and assisted living communities in Ohio, with a joint venture partner on-site that we have owned since 1999.

We are also actively seeking additional sites primarily in strong variant entree markets for a limited number of developments with a joint venture partner.

Our track record as a successful operator of senior living communities has provided us with a solid platform for growth and we are fortunate to continue to expand our relation with strong financial partners. The senior living industry experienced a shakeout following the overbuilding that occurred in the late 1990s. The industry remains highly fragmented and with the consolidations that are occurring in the industry, we are one of a limited number of proven independent operators that are benefiting from increased institutional investor interest.

We continue to be active with an attractive pipeline of acquisition opportunities; and our existing infrastructure allows us to integrate these acquisitions at low marginal costs.

As evidenced again this quarter, we are experiencing strong operating results with significant revenue and EBITDAR growth. We are also growing through acquisitions. During the first 10 months of this year we have completed or announced acquisitions of 16 high-quality senior living communities from third parties with a combined value of approximately $170 million. 15 of these acquisitions have closed and one is scheduled to close this quarter. Eight of the acquisitions were with a joint venture partner and eight have been with healthcare REITs, which acquired the properties and leased them back to the Company on favorable terms.

Our proven track record continues to afford us access to debt and equity capital at the most attractive terms of the industry. These accomplishments have returned the Company to profitability in the operating leverage in our business model, the financial leverage achieved through our acquisition strategies and favorable industry conditions should provide the impetus for continued growth at a rapid pace.

Thanks to the diligent efforts of the dedicated members of the Capital senior team we are experiencing significant growth. I would now like to introduce Ralph Beattie, our Chief Financial Officer, to review the Company's financial results for the third quarter of 2006.

Thanks, Larry, and good morning. I hope everyone has had a chance to see the press release which was distributed last night. If you need a copy of the press release it has been posted on our corporate Web site at www.capitalsenior.com.

In the next few minutes I am going to review and expand upon highlights of our financial results for the third quarter of 2006 beginning with a summary of significant transactions that were either recently completed or announced. We completed one significant transaction in the third quarter, the formation of a second joint venture with GE Healthcare Financial Services. This joint venture completed a $38.2 million acquisition of three senior living communities in the Metropolitan Indianapolis area.

We expect to earn approximately $.05 million in management to fees in the first year of operations along with a return on our 15% investment and potential incentive distributions.

We also announced last week an additional lease with a healthcare REITs that is purchasing a community we presently manage for a third party. This lease should replace approximately $200,000 of management fees with $3.6 million of resident revenue and $1.8 billion of EBITDAR.

Moving on to the income statement, the Company reported revenues of $37.1 million for the third quarter of 2006, compared to revenues of $25.1 million for the third quarter of 2005 -- an increase of $12 million or 48%. The number of consolidated communities has increased by 14 since the third quarter of last year.

Financial occupancy of the consolidated portfolio was 90.2% at the end of the quarter, an increase of 270 basis points from a year ago.

Revenues under management increased approximately 15% to $48.5 million in the third quarter of 2006 from $42.2 million in the third quarter of 2005. Revenues under management include revenues generated by the Company's consolidated communities, communities owned in joint ventures and communities owned by third parties that are managed by the Company.

Operating expenses increased by $6.7 million from the third quarter of 2005 as a percentage of resident and healthcare revenues' operating expenses decreased from 68.8% last year to 63.8% this year, reflecting 500 basis points of margin improvement.

General and administrative expenses including non-cash stock-based compensation expense were $1.1 million higher in the third quarter of 2006 than in the third quarter of 2005. Nearly half of the $1.1 million increase was due to an unusually high rate of health insurance claims during the third quarter. The Company is self-insured for the cost of employee and dependent medical benefits and purchased its stop loss protection on both an individual and an aggregate basis.

Claims during the quarter, particularly in the last month of the quarter, were unusually high -- exceeding claims recorded in the third quarter of 2005 by approximately $0.4 million. In addition, we increased the reserve for claims incurred but not recorded by $100,000, due to the higher rate of claims experienced.

Other factors which contributed to the increase in general and administrative experiences expenses were an increase in the number of communities under management as well as $0.3 million of legal and [honor] fees and $0.1 million in non-cash stock-based compensation.

If it were not for the unusually high healthcare cost and the professional fees, general and administrative expenses as a percentage of revenues under management would have been approximately 5.2% in the third quarter of 2006, compared to 5.5% in the third quarter of 2005.

Facility lease expense was $5.1 million in the third quarter of 2006 on 18 leased communities. None of these leases were in place in the third quarter of 2005. Depreciation and amortization was $.05 million lower in the current quarter than a year ago, reflecting the sale leaseback of four communities previously owned.

Adjusted EBITDAR for the third quarter of 2006 was approximately $10.3 million compared to $6.1 million in the third quarter of 2005 -- an increase of 68%. An adjusted EBITDAR margin of 27.7% improved 330 basis points in the third quarter of 2005.

Interest expense was $3.5 million in the third quarter of 2006, down sequentially from $4.4 million in the second quarter of 2006 and $1.3 million lower than in the third quarter of 2005. As a result of the refinancing completed in the second quarter of 2006, interest expense is expected to stabilize at $3.5 million per quarter at our current level of debt.

The Company reported a gain on sale of assets of $0.8 million in the third quarter of 2006, representing the recognition of deferred gains on the sale leaseback of 16 communities. As of September 30, 2006, the Company had deferred gains of $30.2 million that are being amortized over the initial lease term of the 16 communities.

The Company reported a pretax profit of approximately $0.1 million in the third quarter of 2006, compared to a pretax loss of approximately $0.9 million in the third quarter of 2005, an improvement of $1 million. Excluding non-cash stock-based compensation and a gain on our treasury rate lock agreement in the third quarter of 2005, pretax results for the Company improved from a loss of $1.6 million in the third quarter of 2005 to a profit of $0.3 million in the current quarter -- an improvement of $1.9 million.

The Company reported a net profit of $0.1 million less than $0.01 per share in the third quarter of 2006, versus a net loss of $0.6 million or a $0.02 loss per share in the third quarter of 2005. Excluding the items noted earlier, net income improved from a loss of $1 million or a $0.04 loss per share in the third quarter of 2005 to a profit of $0.2 million or a $0.01 profit per share in the third quarter of 2006.

On this same basis, adjusted cash earnings were $2.9 million or $0.11 per diluted share in the third quarter of 2006 versus $2.1 million or $0.08 per diluted share in the third quarter of 2005.

As of September 30, 2006, the Company had $193.1 million of mortgage debt at a blended average borrowing cost of just under 6.5%. Approximately $160.1 million of debt is at fixed interest rates, averaging approximately 6.2% and $33 million of debt is at variable rates capped at a maximum of 7.6%. Quarterly interest expense including the amortization of financing costs is expected to remain at its present level of $3.5 million on the current level of indebtedness.

And the Company ended the third quarter of 2006 with approximately $27 million of cash and cash equivalents.

Peter, at the present time, we would be happy to take questions from the audience.

At that (OPERATOR INSTRUCTIONS) Jerry Doctrow, Stifel Nicolaus.

Good morning. I just had a couple of things. Operating results in the -- I guess this is for Larry. You saw some very good growth in both rates and occupancy; and I guess I was ready just to get a better feel for how you feel about the trendline on those two items.

Good morning. We are very optimistic that this trendline will continue if not improved. If you actually look at our same-store sales results for the first nine months of this year, our average monthly rents have improved by 5.5%. For three quarters now, we have been showing revenue growth of about 8% and same-store sale cash flow growth of about 15, 16%.

So I think that, based on the strong fundamentals of the industry, the very limited supply coming online and the other aspect of our growth is that now that we have added community fees to many of our properties ranging from $1,000 to $,2000 upon move-in, we think we will even seek acceleration of that revenue growth. So very very optimistic that we will continue to see these trendlines continue probably for a couple of years.

I mean we are a few years out I think before we start to see the effect of any new supply coming online, particularly in the markets we operate in. So I think that we have some good pricing pressure and we will continue to see this growth.

Just to sort of think about the pieces a little bit more. On sort of an average daily rate you are saying sort of 5, 5.5% occupancy. Is it -- it's 1 to 2% a year?

We are averaging financial occupancy growth of about 50 basis points a quarter. So if you look at our portfolio today, right now, we ended the -- our consolidated portfolio ended financial occupancy of about 90.2 or 4%? (multiple speakers) 2%.

Actually the fiscal occupancies ended the quarter at 91.4%. So we are recognizing now is that if you look at our portfolio in the industry we, as I mentioned in my remarks, and we have a slide in our presentation, we think that we can achieve a stabilized occupancy in the 93 to 94% range.

If you go back 10 years we actually averaged 96% occupancies across our portfolio. So we think that 93, 94% target is obtainable and this incremental margin that we are generating of 78% EBITDAR across the operating leverage should drive very strong EBITDAR growth. So if we can hit 93% occupancy over the next call it five, six quarters with a 5% increase of rents that should increase our revenues by $12 million and with the 75% contribution to EBITDAR, that would be $9 million of growth which we think is fairly significant.

And you touched on the expense of a couple of different ways. Is there sort of a right trendline just to think about expense growth?

If you look at the first three quarters, our expenses are growing probably about the 3% range. This quarter they were about 2.2%. I think the second quarter about 4%; first quarter about 3%. So I think about 3% growth in expenses with this 5-plus% growth of revenues is something that we are comfortable with.

Okay. Just remind me again what -- how you calculate -- what financial occupancy versus physical occupancy?

Financial occupancy is defined as the number of units occupied during the period whereas physical occupancy is the actual number of residents we have at the end of the month. So if a resident were to -- someone vacated the community on September 15th and somebody moved back in on September 25th, we would show 10 days of vacancy and 20 days of occupied unit.

Okay. Remind me again. You guys have not given guidance in the past or at least not in the recent past. Is there a point where you would sort of step up and do that, do you think?

That's something we would consider. Obviously we had -- this is really the first kind of clean quarter we have had in some time without all the transactions. I think that we are at a level now where the visibility in our business, clearly, we are very comfortable with our organic growth numbers and think we can -- in fact, we do have internal numbers that we as a management team live to and our part of our bonuses are tied to that. So we do do that internally.

We were suspect to do it publicly because we just had a lot of transactions. We had to sell leasebacks, the refinancings and I think that's something that we would consider.

[Tim Prodaull] with Westcreek Capital.

I was hoping to -- you could clarify these communities fees. I know you mentioned they were once $2000 and you started them in August. But I was just hoping you would talk in depth about, I guess how much they are, how you account for them, how many communities you are targeting these fees in? Why you are not charging them everywhere and really what the implications are?

Good morning. We began in August in many of our communities -- not all of them; and I will see if we can give you a count but I'm looking right now to see if we actually have a count on that. But clearly a good majority of our communities did start adopting in their leases with residents of community fee, which is a fee that a resident pays upon move in.

It is not refundable. It is for the cost of caring for the apartment, the cost of assessing the residents, all the costs of the community level to process and move that resident in and the range is between $1,000 and $2,000 typically. There are some communities where it may be $500. It does depend upon the location.

We are starting to see the benefit of that. Obviously lease is signed in August, residents start moving in in September, October, November. So every month we are seeing a pickup in that revenue generation but I think it is a number that generates hundreds of thousands of dollars of incremental revenue to the Company a quarter, that would be reflected in the resident healthcare revenue line. Because it comes through as resident revenues. And it is recognized upon the move-in of that new resident.

Okay. And you are looking for the number of communities that you currently charge these in. Why don't you charge them at all?

There are certain states where we are not allowed to do that. Because there are multifamily laws. We cannot do it, for example, in California. We cannot do it in New York. So it is something that we had to do a state by state analysis; and it is dictated by the local laws of each state.

So other than the places that you are not allowed to do it legally, you are charging these fees in all other communities?

Not all. Again, it also depends upon our pricing in the market. There may be situations where our rents are higher than the market. The high end of the market. So it may be something that is not yet effective, but looking at this right now, as I said, it is at a good majority of our communities. We can tally this up and give you account. But it is not across every property.

It is something that is being -- has been reviewed by every regional manager, every on-site executive director, as well as working with our council looking at the legalities. It is something we think is very profitable to the Company; and quite frankly, we are seeing continuous improvement in occupancy. So it has been received well by the marketplace as well.

Great. Thank you very much.

Frank Morgan with Jefferies & Co.

Good morning. A couple questions here. I think Ralph you had mentioned the numbers you thought were starting to stabilize out like interest expense numbers and rent numbers. I'm assuming, too, that straight line amortization that gained in the quarter, that's a good run rate assuming you don't do additional sell leasebacks?

That's right. The gain in the quarter -- the $817,000 -- is just the amortization of the gain on the sell leaseback transactions that we have already accomplished. If we don't do any further sell leaseback transactions that gain should be the same amount every quarter going forward, because we are amortizing it over the initial lease terms on those communities.

Okay. Then secondly, I was wondering, you had talked a little bit about -- this is for both of you -- about the development pipeline looking at two projects in the JV structure. I was just curious about what your capital requirements were for that; and on the subject of capital if could you tell us about your cash flow from Ops in the quarter?

The last question is kind of related to the prior question, on this discussion of communities fees. Does the average monthly rate stats that you give, does that include or exclude the impact of community? Thanks.

First of all, on community fees, it is not -- it was very insignificant this quarter so it doesn't impact those. Those stats for the quarter would be (indiscernible) as I mentioned. They began in August and we started to see some movement in September. We saw more coming in October. So it really didn't have -- did not have much of an impact in the third quarter -- changes in average monthly rent.

I will talk about development first and then I will let Ralph hit the (indiscernible) on the balance.

If you look at these projects, we are begin building 150 units of community -- 105 independents, 45 of assisted and around $20 million a project. If you look at that, we expect to get financing approximately 65, 70% of that cost. So the equity requirement would be in the $6 to $7 million range where we typically would invest about 10% of the equity. So our initial investment would be in the $600,000 to $700,000 range.

From that we would be earning development fees and then ongoing management as well as equity participation. So we think it is an attractive investment for the Company. We think we can drive value. Quite frankly, it is very hard to find sites. So when we talk about the state of the industry with the constraints of supply, we are fortunate to have these sites that we've owned with a very attractive basis for seven years now. But looking at new sites, particularly in the mid Atlantic Northeast, barrier to entry markets, even with what is happening in the general real estate market it's still very challenging to find good sites. So that pace of development will be limited for the next number of years.

And, Frank, if there's nothing I would follow up with Larry on that. In terms of the cash flow for the quarter, we are actually going to be producing a cash-flow statement with our 10-Q. It will be filed either this afternoon or tomorrow morning, but just to give you a general look at it. Again we talk about cash earnings which is simply the net income for the quarter, plus depreciation and amortization. That was $2.9 million for the quarter.

The adjustments I would make to that would be our run rate on our 6,000 consolidated units is roughly $3 million a year. Roughly $500 per unit per year. So about $750,000 of each quarter would be maintenance level CapEx which I would subtract from the $2.9 million. Then I would add back the non-cash stock-based compensation of about $200,000 and then the other line item which I might adjust would be the amortized gain on the sell leasebacks because really we got all of that cash at one time; but we are recognized in the earnings for GAAP over the lease terms.

So the adjustments I would make would be -- I would start with the $2.9 million. I would subtract $750,000 of CapEx. I would add back $200,000 for non-cash stock-based compensation and then I would take out the $800,000 gain that we are amortizing on the sell leaseback transactions. (indiscernible) about a $1.6 million cash flow estimate for the quarter.

Okay. Thank you.

(OPERATOR INSTRUCTIONS) Todd Cohen, [MTC Advisers].

Good morning. I wanted to get some clarity on the additional expenses, Ralph, that you made reference to earlier in the call. If you could break those out again? You talked about medical loss and audit fees or professional fees. Could you explain that again?

Todd, I was referring to the change between the third quarter of '05 and the third quarter of '06; and the total difference is about $1.1 million. About $100,000 of the difference is based on the change in the non-cash stock-based compensation which began for us in the third quarter of '05. We early adopted FAS 123R.

So excluding that difference is about $1 million increase in G&A between the third quarter of '05 and the third quarter of '06. So part of that change is just based on the growth in our operation. As we add more communities we typically would have some impact on G&A; but the single largest contributor to that was our higher rate of medical insurance claims during the third quarter.

The way that works is simply our employees and their dependents do contribute towards their medical coverage and then the Company basically funds the difference between the employee contributions and the ultimate cost of those medical claims. We estimate what that cost is going to be based upon some projected rate of claims recorded in each quarter; and in the third quarter of '06, particularly in the month of September, we had an abnormally high rates of claims that came in in that period.

So we had about $400,000 more claims presented in the third quarter versus the previous year. And then we also reserved about 90 days' worth of claims because we know that there's claims in the pipeline. We call it incurred but not recorded reserves. And we increase the reserve about $100,000. So about half of the total $1 million increase was simply based upon this [velocity] of claims reported in the third quarter.

The other items, the largest single item was legal and audit fees. Professional fees that reflected both our 2006 interim quarterly reviews and audit work, Sarbanes-Oxley planning, etc. Part of it was legal expenses and most of it was audit and Sarbanes-Oxley-related. Those were the biggest contributors.

Now, are you suggesting that those will not be duplicated or that they were unusual?

I would suggest that we are seeing continual increases in those legal and audit and Sarbanes-Oxley fees, particularly when it comes to Sarbanes-Oxley and audit. We have -- we are in our third year of 404 compliance so that I think those fees are stabilizing at their present level. I wouldn't expect them to grow other than the normal type of increases that the audit firms like to put through which is something in the 6 to 7% range is typically what they ask us for whenever we go through fee estimates for following period.

Thanks.

There are no further questions. At this time, Mr. Stroud, I would like to turn the call back over to you for any additional or closing remarks.

We appreciate everyone's attention and thank you for your interest in Capital Senior Living. Have a good day.

This does conclude today's conference call. Thank you for your participation.