Sonida Senior Living Inc (SNDA) 2011 Q3 法說會逐字稿

Good day and welcome to the Capital Senior Living third quarter 2011 earnings release conference call. Today's conference is being recorded.

The forward-looking statements in this release 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 at favorable terms, financing, licensing, business conditions, risks of downturns and economic conditions generally, satisfaction of closing conditions, such as those pertaining to licensure, 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 our reports filed with the Securities and Exchange Commission.

At this time, I would like to turn the conference call over to Mr. Larry Cohen. Please go ahead.

Thank you. Good morning and welcome to Capital Senior Living's third quarter 2011 earnings release conference call.

I am pleased to report positive results for the third quarter from the implementation of our strategic plan that is focused on operations, marketing and accretive growth. These initiatives have resulted in revenue growing 27% and EBITDAR increasing 43% versus the third quarter of the prior year. Average rents have increased by over 10% and our EBITDAR margin improved 380 basis points. Excluding the effect of amending a tax return in the third quarter of last year, CFFO in the current quarter increased 85%.

These results reflect the fundamental strength of our substantially all private-pay business as we benefit from need-driven demand and limited new supply. I am encouraged by our strong occupancy gains in the third quarter with occupancy growing by 80 basis points on a sequential basis. I am also excited about our acquisitions, which increase our ownership of high-quality senior living communities, enhance our geographic concentration and generate meaningful increases in CFFO and earnings.

I would now like to review highlights for the quarter. Adjusted CFFO was $5.7 million or $0.21 per share in the third quarter of 2011. Excluding a tax refund received in the prior year, CFFO increased 85% or $2.6 million from the third quarter of 2010. Revenue increased 27.2% to $68.2 million, an increase of $14.6 million for the third quarter of 2010. Average monthly rent increased 10.3% to $2,924 per occupied unit, an increase of $272 from the third quarter of 2010. Sequentially, average monthly rent increased 1.1% per occupied unit from the second quarter of 2011.

Consolidated average occupancy, including 112 units converted to higher levels of care that are in lease-up was 84.7%, equal to the third quarter of 2010, with 1,000 additional consolidated units in the current quarter. Sequentially, consolidated average occupancy was up 80 basis points from the second quarter of 2011.

Adjusted EBITDAR increased 42.9% to $23.8 million, an increase of $7.2 million from the third quarter of 2010. And our EBITDAR margin improved 380 basis points to 34.9% from 31.1% in the third quarter of the prior year.

In the third quarter, the Company also completed the acquisition of four high-quality senior living communities for a combined purchase price of approximately $53 million. These communities enhance the Company's geographic concentration to more than 1,450 residents in Ohio and 1,450 residents in Indiana. These acquisitions are expected to add CFFO of approximately $2 million or $0.08 per share, increase earnings by $0.03 per share and increase annual revenue by more than $13 million. These four communities have a resident capacity of approximately 350, with a mix of independent living, assisted living and memory care. Occupancy in these communities currently exceed 95%, although our underwriting was done at lower occupancy levels. And average monthly rents are approximately $3,200 a month. These four communities were financed with approximately $37.3 million of 10-year, fixed-rate, nonrecourse debt with a blended average interest rate of 5.2%.

Subsequent to the end of the quarter, we completed the acquisition of three senior living communities for a combined purchase price of $30 million. Two of these communities are in South Carolina and one is in North Carolina, enhancing the Company's geographic concentration to more than 1,200 residents in the Carolinas. These acquisitions are expected to add CFFO of approximately of $1.4 million or $0.05 per share, increase earnings by $0.03 per share and increase annual revenue by more than $8 million. These three communities have a resident capacity of approximately 250 with a mix of independent living, assisted living and memory care. Occupancy at these communities averaged 92% and average monthly rents are approximately $2,900. These three communities were financed with approximately $22 million of 10-year, fixed-rate, nonrecourse debt with an interest rate of 4.92%.

We are currently conducting due diligence on a number of additional transactions consisting of high-quality, senior living communities in locations where we have extensive operations. Subject to completion of due diligence and customary closing conditions, we expect to acquire these communities in the fourth quarter of 2011 and the first quarter of 2012.

I would now like to review our operating results for the third quarter. The number of consolidated communities increased from 70 in the third quarter of 2010 to 78 in the third quarter 2011. Consolidated average occupancy, including 112 units recently converted to higher levels of care that are still in lease-up, was 84.7% in the third quarter of 2011 compared to 83.9% in the second quarter of 2011, a sequential improvement of 80 basis points. Average monthly rents improved 10.3% to $2,924 per occupied unit in the third quarter of 2010. This was also a 1.1% improvement in average monthly rent from the second quarter of 2011.

Third quarter net move-ins and deposits increased from the second quarter of 2011 and on a same-store basis compared to third quarter 2010, 2011 third quarter net move-ins increased by 59, with 57 more net deposits.

Third quarter 2011 independent living average occupancy increased 290 basis points with a 1.5% increase in average monthly rent from third quarter 2010. Third quarter 2011 assisted living average occupancy decreased 130 basis points with a 10.2% increase in average monthly rents from the third quarter of 2010. I point out that third quarter 2010 assisted living occupancies were the highest level they had been over the past 12 quarters. And I'm pleased to report that third quarter 2011 assisted living occupancies were the second highest they had been in the past 12 quarters. Sequentially, assisted living occupancies improved 1.4% from the second quarter 2011 and independent living occupancies improved 70 basis points from the second quarter 2011.

Same-store average monthly rents were 3.1% higher than the third quarter of 2010 and 50 basis points higher than second quarter 2011. These results compare favorably to NIC MAP third quarter top 100 MSA rate growth of 1.8% on a year-over-year basis. Same store occupancies improved 30 basis points from the third quarter of 2010 and 60 basis points sequentially from second quarter 2011. Our third quarter occupancy gains were 30 basis points better than those reported by NIC MAP for third quarter 2011 in the top 100 MSAs. These occupancy gains were achieved despite slightly higher attrition in the third quarter of 2011 compared to second quarter of 2011 and third quarter of 2010.

October has been another positive month with a 60-basis point improvement in same-store average occupancy and strong deposit taking. I am encouraged that these gains should result in a strong fourth quarter.

Our positive third quarter results differentiate Capital Senior Living from the other senior living providers as we are the value provider of high quality senior living services in specific geographically concentrated regions with an exclusive focus on senior living.

As I've said many times, our most valuable resource is our human resource. Successful senior living operations require well-located communities with the right onsite team. We are fortunate to attract and retain many of the best operations, sales and marketing talent in the senior living industry who are attracted to the Capital Senior Living culture, our Capital Senior Living University with state of the art training, as well as our company-wide respect for residents and their family. I want to thank all of our dedicated onsite regional and corporate team for their passion, focus and accomplishments in serving our residents so well and contributing to our positive results.

As previously reported, the impact of the recent rate cuts in Medicare skilled nursing reimbursement will be immaterial to Capital Senior Living as only 1.6% of our beds are in skilled nursing, many of which are private pay and these are located within two larger rental CCRCs. We don't expect any future acquisitions to have any skilled nursing beds. And this percentage will be further diminished as we execute our growth strategy of owning more senior living communities. Overall, we are benefiting from our substantially all private-pay business with more than 95% of our total revenue derived from private-pay sources.

Now, I'd like to discuss our growth initiatives. We are excited about our growth opportunities as seniors housing is a need-driven product with new supply at a very low level and demographic demand growth is driven by an aging population. In fact, according to third quarter NIC MAP data, construction in the top 100 MSAs as a percent of inventory is down to 1.4% from 1.6% in second quarter 2011 and 1.7% from third quarter 2010. Also encouraging is NIC MAP's reporting that unit absorption in the top 100 MSAs has outpaced new supply for the past six quarters. These favorable demographic and supply/demand trends should allow for greater occupancy and rate growth.

We are seeing the improvement in our operations and marketing from our implementation this year of internet marketing and social media initiatives, as well as software programs for care plans and level of care charges. We are also benefiting from investing in cash flow enhancing renovations, refurbishments and conversions of units to higher levels of care. These initiatives combined with the operating leverage in our prudently financed business are expected to increase our revenues, margins and cash flow. Each 1% improvement in occupancy is expected to generate $3 million of revenue and $2 million of EBITDAR.

So far this year, we have completed conversions of 126 consolidated units to higher levels of care and we are in the process of converting an additional 114 units from independent living to assisted living. When completed and stabilized, these conversions are expected to add in the aggregate more than $6 million of incremental revenue and approximately $3.5 million of EBITDAR.

As we execute our strategic business plan, we are enhancing our geographic concentration with expanded care to residents, maximizing our competitive strengths and lowering our cost of capital. Our strategy is focused on generating attractive returns, enhancing free cash flow and maximizing shareholder value.

Our acquisition pipeline is strong. We completed in 2010 $189 million of accretive acquisitions. And year-to-date in 2011, we have completed $224 million of immediately accretive acquisitions. The $83 million of owned acquisitions completed since July are expected to generate an approximately 15% initial cash-on-cash return on invested capital.

As you can see, our focus on off-market, strategically located acquisitions in the current favorable interest rate environment is yielding outstanding returns. We are conducting due diligence on a number of additional transactions consisting of high quality senior living communities in locations where we have extensive operations. Subject to completion of due diligence and customary closing conditions, we expect these acquisitions to be completed around the end of the year and the first quarter of 2012. When completed, these acquisitions are expected to be accretive to CFFO and earnings and lead to further improvement in our EBITDAR margin and operating metrics.

The 380-basis point improvement in EBITDAR margin recognized in the third quarter 2011 compared to the same period in 2010 reflects the benefit we derived from executing on our strategy of acquiring communities in geographically concentrated markets. We're able to leverage our nimble operating platform with our existing regional operating and marketing centers and benefit from economies of scale, our group purchasing programs, our proactive expense management systems and focused sales and marketing programs to integrate acquisitions in a highly profitable manner.

Our success in acquiring high-quality senior living communities on attractive terms validates our competitive advantage as an owner-operator with a geographic focus able to successfully assimilate acquisitions with minimal incremental costs. With proceeds from expected sales of certain noncore properties, our balance sheet capacity and free cash flow from operations, we have the ability to fund more than $150 million of additional acquisitions in 2011 while still maintaining sufficient cash balances to fund our operations and retain prudent reserves.

I am optimistic about our outlook as we benefit from favorable industry fundamentals and our team's ability and discipline to successfully execute on a well-conceived strategic plan. We expect to continue significant growth in cash flow from operations that will lead to a meaningful increase in shareholder value. Our fundamentals are solid and I'm excited about the Company's prospects as we benefit from need-driven demand with limited new supply.

I would now like to introduce Ralph Beattie, our Chief Financial Officer, to review the Company's financial results for the third quarter of 2011.

Thanks, Larry, and good morning.

I hope everyone has had a chance to see the press release, which was distributed last night. In the next few minutes, I'm going to review and expand upon highlights of our financial results for third quarter and first nine months of 2011. A copy of our press release is available on our corporate website at www.capitalsenior.com. And if you would like to receive future press releases by email, there is a place on our website for you to provide your email address.

The Company reported revenue of $68.2 million for the third quarter of 2011 compared to revenue of $53.6 million for the third quarter of 2010, an increase of $14.6 million or 27.2%. Resident and healthcare revenue increased from the third quarter of the prior year by $16.5 million or 32.7%. We consolidated 78 communities on our income statement this quarter versus 70 in the third quarter of the prior year. The year-over-year growth of eight consolidated communities reflects the four Spring Meadows properties, which we began leasing in the second quarter, and the four communities that were acquired in the third quarter of this year.

The consolidated portfolio also includes 112 units which were recently converted to higher levels of care and are in lease-up. Including these units, financial occupancy of the consolidated portfolio averaged 84.7% for the third quarter of 2011 compared to 83.9% in the second quarter of 2011, a sequential improvement of 80 basis points.

Average monthly rent was $2,924 per occupied unit in the third quarter of 2011, an increase of $272 per occupied unit or 10.3% higher than the third quarter of 2010. On same-community basis, average rents were 3.1% higher than the third quarter of 2010 and 0.5% higher than last quarter.

As a percentage of resident and healthcare revenue, operating expenses were 61.2% in the third quarter of 2011 compared to 61.9% in the third quarter of 2010, an improvement of 70 basis points. Same-community expenses increased 5.5% versus the third quarter of the prior year and net income increased 1%. Expenses in the third quarter reflected unusually high utility costs due to the extremely hot summer. In Texas, for example, we had over 100 days of 100-degree temperatures.

We're also continuing the implementation of new software programs for care plans and level of care charges. The investment in this technology is expected to result in higher revenues once fully implemented. We're now about 70% complete with that implementation and expect to complete the implementation in all of our assisted living communities by year end. Further, we incurred costs associated with staffing the units, which were recently converted to higher levels of care and training our personnel in providing the additional services.

General and administrative expenses of $3.3 million were about $100,000 lower than the third quarter of the prior year after adjusting for transaction costs associated with the acquisition process in both periods. As a percentage of revenue under management, general and administrative expenses, excluding transaction costs, were 4.2% in the third quarter of 2011.

Adjusted EBITDAR for the third quarter of 2011 was approximately $23.8 million and adjusted EBITDAR margin was 34.9% for the period. EBITDAR increased $7.2 million and margin improved 380 basis points from the third quarter of 2010.

Adjusted net income for the third quarter of 2011 was $1.7 million or $0.06 per share compared to adjusted net income of $0.7 million or $0.03 per share in the third quarter of 2010. Adjusted CFFO was $5.7 million or $0.21 per share in the third quarter of 2011 compared to $3.1 million or $0.12 per share in the third quarter of 2010, an increase of approximately 85%.

As Larry indicated earlier, we closed on one acquisition in mid-July and three others in late July and early August. Operating results for these four communities will be fully reflected in the fourth quarter. In addition, we acquired three more communities in the middle of October. So a partial quarter's contribution from these properties will be reflected in the fourth quarter as well. We further expect our due diligence process to result in additional acquisitions in the next 90 days.

Moving to the nine months results, the Company reported revenue of $192.4 million, an increase of 26.5% from the first nine months of 2010. Adjusted EBITDAR was $66.9 million for the first nine months of 2011, an increase of $19.2 million or 40.3%, and EBITDAR margin with 34.8%. Adjusted net income was $4.8 million or $0.18 per share in the first nine months of 2011 versus $2.7 million or $0.10 per share in the first nine months of 2010. CFFO was $16.7 million or $0.62 per share in the first nine months of 2011, an increase of $5.2 million or $0.19 per share from the first nine months of 2010.

The Company ended the third quarter with $39.8 million of cash and cash equivalents, including restricted cash. We invested $16.1 million of cash and equity to acquire $53.4 million of property in the third quarter. And we project an annual return on this investment in the mid-teens.

As of September 30th, 2011, the Company financed its 29 owned communities with 28 mortgages totaling $208.3 million at fixed interest rates averaging 5.9%. We added four mortgages totaling $37.3 million in the third quarter at a blended average interest rate of 5.2%. And none of the Company's mortgages mature before July of 2015.

Capital expenditures for the quarter were approximately $3.5 million, representing $2.1 million of investment spending and $1.4 million of recurring CapEx. Annualized, the Company spent approximately $600 per unit on recurring CapEx in the quarter.

We'd now like to open the call to questions.

Thank you. (Operator Instructions) We'll go first to Jerry Doctrow with Stifel Nicolaus.

Thanks. A few different things -- you touched on the acquisitions you made in the fourth quarter. I was wondering if we could get a little bit more color on some occupancy rate margins just for modeling purposes.

Sure, Jerry. As I said, the $30 million transaction that we closed has an operating margin of about I think about 35% percent for purposes of your modeling. And we said in our press release, the revenues are at $8 million. Average occupancy is 92%. And average monthly rents are $2,900.

All right. Thanks. And just for modeling as well, Ralph, I think you had touched on the high utility costs, which we've seen in a couple of other places as well. Any sense about how much that's going to back off and how that may move margins as we get into 4Q?

Well, I think that the third quarter was high this year as it was last year. So the third quarter is typically our highest utility costs. And we do budget for it. But on a comparable basis, it does appear high. I would say that our same-community expenses were about a 5.5% increase year-over-year compared to a revenue increase of about 3.1%. So I'd say that most of that 2 percentage point difference was attributable to the utility costs. Also, the care plans that we're implementing had some portion of that expense. And then, of course, we're increasing staffing based upon the recently completed conversions. So those three components probably made up the 2% difference in our community expenses versus the prior third quarter.

After that, (inaudible) might back off, because utilities as we go into the fourth quarter or -- ?

Definitely, Jerry. Our third quarter is always the highest based upon our geographic footprint. We always have the highest utility costs in the third quarter based upon the summer weather.

Okay. But even maybe been a little worse this year, but not dramatically in terms of just the seasonality.

Well, this actually was an exceptionally bad summer. They had record heat in Texas, a lot of parts of the country, 100 days with over 100 degrees. So those air conditioners are running full time. It's interesting. We have extended our contracts with our utility providers in the nonregulated states, particularly Texas, which I think now we're out to about 2015 or '16. We've actually renegotiated increases that were -- I think are down to 6% from 8% previously. So on a kilowatt hour basis, our rates are actually getting lower. It's just the usage. So I think if you look at modeling purposes of utilities, they'll come back in line. And I think the expense growth kind of on a same-store basis, but for these other types of unusual costs. Typically, it would be somewhere in that 2% to 3% range, as opposed to the 5.5% range we experienced last quarter.

All right. We'll see about backing it down. And just two other things -- just on acquisitions, I mean there's some more stuff coming. I think you threw out that you have the capacity of, if I heard you correctly, to do $150 million just basically in terms of the last part of '11 and maybe the early part of '12. So are your CapEx needs to [particularly] expand ramping up as well? What should we be thinking about there?

On the ramp-up of acquisitions, we have closings we've planned this quarter and the first quarter. It's not the 150, though. The 150 will go further into 2012. But I'll let Ralph talk about the CapEx.

Jerry, I think for modeling purposes, probably the way to do it would be all of our owned properties and leased properties, we average recurring CapEx of about $600 per unit, somewhere between $500 and $600 per unit per year. And then, the additional CapEx is for investment purposes, spending that should resolve in higher revenues in future periods. So, typically, we've been spending on average the last three years about $7 million in each of those three years. I think going forward it will be a little bit higher, because our portfolio size is increasing.

And I guess I meant to also ask about working capital throughout this year, sort of ramping up here. Does that move significantly? Or we're still trending it about the same?

You know, we've been finding that the working capital has been pretty stable even though the Company is growing in size. We've found ways to use our capital more efficiently. So I would say we're not expecting large increases in working capital needs despite the fact that we are adding communities.

Also, Jerry, I'd just mention that if you look at the CFFO contribution of the properties we've closed to date and we actually incorporate this now in our corporate presentation, the $83 million of acquisitions have about $3.5 million of CFFO. That CFFO is after taking into account the recurring CapEx. So for purposes of the model and purposes of just giving some indication of the contribution, the recurring CapEx at the level that Ralph is discussing is already incorporated into what we're showing and reporting as the incremental CFFO from these transactions.

And then, just one or two broader questions. Obviously, you're making acquisitions here, you're feeling good about the competitive environment. You're not seeing concessions being given by competitors. Just a little bit more color maybe on the competitive environment in your markets.

Yes, I'd be happy to do that. One of the most interesting stats that has been available to the industry through NIC MAP is the absorption compared to the new supply as a percent of existing inventory. Our industry over the last 13, 14 years, the biggest problems we faced is new supply. If you go back to the late 1990s, 2000 era when things really imploded, what happened again as we saw a few years ago as we hit the recession, we were dealing with a large increase in supply. Supply as a percent of inventory in the first quarter of 2009 was over 4%. Today, it's 1.6%.

So I think what we're finding is the competitive environment is very -- actually, especially in the markets in which we operate, I'm speaking about, again, our focus on the geographic concentrations in which we operate. We didn't expand in Florida, Arizona, Nevada, California. We're insulated from some of these bigger, broader issues in the housing market that other competitors that are larger than us have. We aren't facing that. We have much more stable markets with better housing markets. The properties that we operate are very much the newer or mostly newly renovated properties in those markets.

And, again, the most encouraging sign I see -- and I appreciate that you report every quarter NIC MAP data to the investment community, because it's so helpful -- is the fact that we see continuing diminished levels of new supply. And more importantly, we've seen absorption gains considerably for the last two years. In fact, third quarter had the highest of net absorption gains that the industry has seen since 2009. So that's all very positive.

There is going to be discounting by select operators in select markets. It's typically caused by areas where there's an oversupply versus the demand. Our philosophy has always been not to discount. We believe in maintaining the integrity of the rent structure. And what we find in practice is those companies that discount, they typically either succeed and they have a set number of units, maybe 10, 15 they want to fill at discounted rates. They succeed, they fill and they come back to normal market where we are. Or they run out of money and they go out of business.

So we feel that we a very -- we have the right price point within our markets. We think we provide excellent value. We have fabulous staff. And it's interesting, because very often, you will see a resident move to a competitor at a lower rate. I can't tell you how many times they come back, because they don't get the same service, food, quality of care that they're getting at our properties.

So, in select markets, there's going to be discounting. But, again, as you see our same-store rate growth of 3.1% on a same-store basis, we're budgeting similar type of rate growth next year. And as I say, we're not discounting. Selectively we'll discount some units here and there just to give some specials. But it's very selective. And we really prefer to maintaining that rent level and maintaining the integrity of the rent structure, which we think longer term creates much more value from a cash flow perspective as well as a shareholder value perspective.

And then, last question for me, I'm not sure what you want to do with the share price, but can you envision a situation where you would want to use the stock either to raise additional capital for a larger, more strategic acquisition or use the stock as a currency? I'm generally not sort of encouraging people to go do that. An [issuance] issue is just relatively small market cap. So what kind of circumstances do you think could lead you to maybe make that decision?

We did file a shelf registration this year. That's good for three years. We're not looking to raise equity at this level, because we think our company is worth much more money. Unless it was a unique situation which we're not seeing from accretive standpoint.

Fortunately, we have capacity to continue to grow. I think that hopefully as we execute and put up good numbers and have good organic growth, improve our occupancies, grow our cash flow and we have the capacity to grow through acquisitions using our balance sheet, we're hopeful that the market will recognize the value that's being created and that we'll create a higher value. We will have the ability to use our currency. That's one of the reasons we're a public company. So we feel that at the right time, at the right price, for the right opportunity, we would very much like to increase our float.

Quite frankly, the reason that we haven't looked at a share buyback, even though we think the price is under pressure at some times is because we are sensitive to the fact that we have limited float and we do have excellent reinvestment opportunities in these acquisitions. So we have the currency. We have the tool in our arsenal. But we're going to try to be intelligent about using that and use it in a way that is highly accretive and hopefully have a stock price that better reflects the intrinsic value of our company that would be more accretive to our shareholders.

Everything you're talking about buying now is basically going to be on balance sheet?

On balance sheet, using Fannie, Freddie. What you're seeing in acquisitions -- I'm looking at our next grouping of acquisitions. They all look so similar. They're all low 90% occupied, average rents are still in the $3,000 to $3,200 level, good margins, buying them at a comparable underwritten NOI cap rates. And then we're finding these historically low interest rates from the agencies on nonrecourse, fixed rate debt that are cash on cash returns on investment is averaging mid-teens.

So we think we're creating significant cash flow. And more importantly, we're creating real estate value. That we think is so important as we look at the future value of our company that we'll have hard assets that give us much more flexibility, as well as having the real estate component in addition to the cash flow that's being generated from the operations.

Thanks.

Thank you.

We'll take our next question from Jason Stankowski with Clayton Partners.

I liked the answer on the cash flow. And to the extent you've got good things going, there's no reason to sell off a piece of our business at basically slightly above paid-in capital.

Thank you, Jason.

So I hope to keep it between us and the float is just fine I think for patient investors. I wondered if you could just explain the jump in resident lease amortization that you back out of adjusted net income per share.

Sure, Jason, be happy to do that. When we acquire a business or acquire a community, we go through a purchase price allocation using a fair market value analysis. This is governed under the old [FIN] 141. And basically, using third-party experts to help us in this analysis, we allocate the purchase price using this fair value methodology. And as part of that methodology, a portion of the purchase price is allocated to the resident leases in place. Basically, that analysis incorporates how much it would cost a company to get those residents in place based upon the occupancy level at the time of the acquisition.

And then, we amortize that noncash charge over a 12-month period, which we consider to be the average length of time that this resident in place will stay with us. Some are obviously towards the end of their time with us; others may have just moved in. But we basically allocate part of that acquisition price to these resident leases in place and then amortize it over a 12-month period. So it's a noncash charge. It's noneconomic. It is required based on GAAP. And because we reduce our income accordingly, we add it back for comparability and to show the true economic benefit of those acquisitions.

Okay. So just as you do more deals that'll be a bigger piece of --

It'll stay with us. For example, the Signature transaction, which we completed last August, just burned off those 12-month lease amortizations. The new acquisitions of course will stay with us for four quarters. So as long as we're being acquisitive, there will be additional lease amortization. The good news is it burns off fairly quickly over the following four quarters. And it is a noncash, strictly an accounting methodology. And for that reason, we feel like it's appropriate to add it back to our operating results.

Okay. Thanks. Good quarter, guys. Keep it up.

Thank you very much. Appreciate it.

(Operator Instructions) At this time, we'll go next to Todd Cohen with MTC Advisers.

Just on the acquisitions that you've recently made, now that you have them under your management, are you seeing any further opportunities that you may not have thought about or seen prior to making the acquisitions when you weren't operating these guys in terms of synergies and expense opportunities?

Well, we've now had the acquisitions for anywhere from about a month to three months. We have already incorporated our group purchasing with US Foods. So we've all terminated their food vendors and gone to our national vendors. We've been rolling out our insurance and risk management programs. I am very pleased with the positive assimilation of these properties. It's seamless. I mean, our strategy of buying properties where we have concentrated operations, it's been such a positive result to both the residents and staff of working for a larger company.

We will see some savings clearly in the raw food costs, in our systems. We're rolling out the care plans. We'll expect to get enhanced revenues through the exercise of the care plan technology that we have. But most importantly, as of last Friday, these buildings are 98% occupied. So our occupancy is already about 500 basis points higher than they were under [in that.] So the cash flows are already exceeding just on the occupancy level. So we're very pleased with that as well.

So, yes, we're seeing synergies. Yes, we're incorporating our systems, our group purchasing. And the feedback we've gotten from the staff and the residents and the families has been very, very positive. But it's very much going according to plan, Todd.

Okay. And then, kind of on the CapEx, the most recent quarters you guys have been spending at about I think closer to the $500 than the $600. But maybe I'm off on that. I'm just kind of wondering what stepped that up. Is it inflation, deferred maintenance, just needing to do more to maintain the integrity? What's kicked that up?

Todd, if you look at the first two quarters and you annualize the recurring CapEx in those quarters, it was closer to $500 than $600. So far this year, we spent probably about almost half the CapEx year-to-date in the third quarter. So we had projects that were underway where we finally did implement those spending in the third quarter. So the third quarter was unusually high for us, but pretty much brought us back in line with what our average spending pattern would be. But typically, we do spend between $500 and $600. When we take any quarterly number and annualize it, it may be either $500 or $600. But this quarter was a little heavy in terms of the spending. The previous two quarters were a little on the light side.

Okay. And, Larry, can you reiterate what you said about the $150 million in acquisitions in terms of utilizing the current balance sheet? Did that include the acquisitions you've already made? Or were you referring to a $150 million going forward?

I was referring to $150 million going forward in addition to what we've already completed. So we feel that we have the capacity without having to access capital from the capital markets, just off our existing balance sheet and capacity and cash flow, to acquire in excess of additional $150 million of acquisitions assuming typical financing from Fannie and Freddie at the levels that we've been able to accomplish on the first $83 million of acquisitions that we've completed.

Okay. So separate and apart from what you've already acquired, there's another $150 million that you think you can accomplish with your existing balance sheet?

Yes.

Okay. And then, I guess you'll be able to take more out of some of your existing properties?

That's true too. Ralph, do you want to address the [supplemental] opportunity on some of the properties?

Sure, Todd. The nice thing about owning properties and why we want to increase our ownership position is that when we have fixed rate, nonrecourse debt on these properties, we're increasing the value of the properties while we're amortizing the principal. So those two factors combine to create additional value in the properties that we can tap through supplemental financing sources. And when we take a look at the values of our properties that have debt on them where supplemental financing is available, we can go back and take advantage of the current interest rate environment to take out additional nonrecourse, fixed rate debt on those communities and use that supplemental financing to provide the equity to acquire the $150 million of communities that Larry indicated.

Well, that's in addition to our cash and cash flow. What's interesting is that supplemental really is one of the exclusive features of both Fannie Mae and Freddie Mac. So it's fairly unique to the senior housing or multifamily markets that we have that opportunity. Other real estate assets typically don't have that.

In addition, we're going to be prudent in how we do that. So if we do use a supplemental, we'll use it at a lower rate of leverage or lower percent of value than we would the straight acquisitions. So we want to be conservative in how we use that funding. But, again, with these strong cash flows, we have a lot of equity in our properties, there's a lot of coverage potential, we do have the ability to take out those loans at these very, very low interest rates on a fixed rate basis and reinvest it at these kind of mid-teen returns. So we think it's highly accretive both on a cash flow, as well as an earnings basis.

And then, how do you define mid-teen returns? Is that 14 to 16, 15 to 17?

If you look at our press release, the last transaction was $30 million. I think our equity in that transaction was $8 million and our cash-on-cash return was $1.4 million. So if I do the math of $1.4 million over $8 million, if I have it right, that's about a 17.5% return. So, as I said, mid-teens. If you look at our slide presentation, to date the actual cash flow on existing operations on a historical basis is $3.5 million on $24 million of equity. That's about 14.5% on average. So that blends out to mid-teens, Todd.

And then, on these acquisitions that are coming up in the balance of this year and the first part of next year, I know you're not going to be able to tell us exactly where they are, but I was curious as to whether they'll be in geographies where you'll really be able to get some leverage because of existing ops there [and] management.

They're in our biggest markets. They're in markets we've acquired properties over the last year. So they fit perfectly into, again, where we have our largest operations. And we will be able to roll them in with our existing infrastructure. In fact, we just promoted one of our executive directors at one of our properties to a regional director to accommodate some more capacity in that region. But, yes, we're very excited because they will be, again, in these very largely concentrated areas where we operate. And every acquisition that we have teed up right now, they're actually in markets where we already had acquisitions as well. So the whole process dealing with licensure, legal, everything else, it really is a very simple process.

And then, last question is on your existing properties, given your level of occupancies, there's obviously some kind of clunkers out there. And I was kind of wondering whether or not you were beginning to see some improvements in a certain handful of properties that haven't performed up to your hopes. And was wondering what you guys were thinking about in terms of those types of properties or whether or not you can trade them or whether or not you can get the occupancies to where you want them. What are you doing as it relates to those outliers?

That's a really good question, Todd. Thank you. We've actually had some great success in some of these, quote, clunkers, which really are good properties, just were in some markets that have some challenges. It's interesting how people make a difference. And we are very much benefiting from some of the turmoil that other companies are going through in this industry and the success that we have and the growth that we're committing, where there are a lot of very talented people that would like to work for Capital Senior.

And we've made some changes this year, particularly in sales and marketing. We've had a number of properties that have had dramatic improvements. Properties have gone from 75% to 90%. Properties have gone up from 82% to 100%. And this has happened over a six-month period. So the good news is we have good properties. And in those markets that they have challenges that we feel are going to take a long time to recover, we are looking to shed some of those properties and reinvest the equity in those properties in more strategically located, more beneficial properties.

So it's a combination of getting the right people and the right team, having the right support from a regional and corporate perspective or shedding some assets as we talked about that don't fit from a core level to our company and redeploying that capital in some of these better strategic fits for us.

All right. Great. Thanks a lot. Good quarter.

Thank you. Thank you very much.

And we do have a follow-up question from Jason Stankowski with Clayton Partners.

On the $150 million that you think you have capacity for, does that need a sale or a tapping of the supplemental on any properties? Or is that solely off of your cash flow and balance sheet here over the next year?

For the $150 million, we probably would do a slight supplemental. It's not going to be that significant. We probably would do a slight supplemental for that. If we look at our cash balance today, it's about I think we have about $38 million, unrestricted about $30 million. And if you look at the cash flow growth, the good news is $150 million of acquisitions would probably require about $45 million of equity. So some of that's going to be a timing issue about when they come in based on the cash flow growth and growing our cash balances. But as I said, we want to be prudent. We want to have cash to have reserves. We want to be able to continue CapEx on properties. We want to be prudent. And we do have the ability to selectively access some supplemental at very, very attractive rates on a fixed rate basis. So it would be part of it, but not a significant part.

Okay. But when you look at the amount of cash flow that you guys are going to be generating plus the $30 million, unless I'm missing something, it seems like if you're talking about a 12- to 14-month time period for the $150 million, it seems pretty easily achievable off of your current position.

Yes, I think that we feel very good about our capacity. And we know we have other resources if necessary.

And on the supplemental, did I hear you correctly that basically when you look at the combined loan-to-value ratio, when you add this sort of home equity line, if you will, onto your financing, that it's not going to take you above the 70/30 loan-to-value?

No, it's going to be lower than that. In fact, the requirements of Fannie and Freddie are lower than that. And we want to be conservative. So it will be a lower amount. That's why we feel very good about it, because if we did do it on an aggregate basis, it would be a lower leverage basis that we do for acquisitions. And these are properties that we own and we know, we've operated them for many, many years. They've appreciated. They have strong cash flows in good markets.

Right. It would not only be a loan-to-value, there would be some sort of coverage ratio that they would be looking at as well and kind of a combined composite credit review.

Exactly. There are good governors, if you will, on the process to make sure that they're very conservatively underwritten and financed.

All right. Great. Thanks a lot, guys.

Thank you.

We'll go next to Chris Doucet with Doucet Asset Management.

And congratulations to you and your team on a great quarter and I bet a record quarter as far as revenues are concerned.

Thank you.

Just a couple of quick questions. You mentioned on the call that you want to do $150 million in acquisitions over the next year or so. Can we expect the same kind of metrics that we saw in the South Carolina and North Carolina acquisitions?

Yes. I mean, if you look at the metrics for the next number of acquisitions that we're conducting due diligence, they're very similar to what we've shown for the first $83 million. So occupancy rate, price per unit, cap rate, expected CFFO, return on equity, margin, they're all very similar. So it's very nice that we have a -- it's interesting that we have a template that we use for all the acquisitions. And I think it's a testament to the approach, particularly in these off-market transactions that we've been very consistent in pricing, very consistent in the quality and type of property we're buying within these markets, and the economics all are very, very comparable.

And my next question was -- if you take these over time, over 12 months and you equally weight the acquisitions over a year, obviously you won't need any additional capital. But what other sources of capital do you have besides equity, because obviously, I think most investors would agree that we wouldn't want to see equity be used at this kind of price. Can you do cash-out refis on existing properties perhaps that are seasoned with the same Fannie Mae, Freddie Mac financing? Or do you have availability to a bank line of some sort?

We don't have a bank line, because we've never needed it. And we never have wanted to incur the fees to just have a bank line for the sake of having a bank line. As Ralph explained, there is this supplemental program which is the Fannie/Freddie ability to go back and take out some more financing on existing properties that have appreciated and have lower loan balances. So that would be really the kind of -- as well as selling some noncore assets. So we feel that we don't have to access the capital markets. We can internally generate sufficient funds to fund both our operations and improving growth.

And just a couple more quick questions and then I'll step back in the queue. Your adjusted cash flow from operations has jumped from an annualized rate of $12 million to about $25 million after the couple of acquisitions, I guess. If you paid out the increase in the cash flow from operations based on a year-over-year basis, the annualized dividend would be 5% or 6% or something like that. Has the Board contemplated instituting a dividend?

You know, it's something that we discuss, we talk about. Obviously, I think that a dividend is something that we hope to grow into the size of a company with a cash flow that we can do that. But we're also balancing that with this opportunity to grow, which we think is also important to create a bigger size. As Jerry talked about at some point, getting more institutional interest in the stock and getting size. So right now, our focus is growth. And we have that cash flow. But it is something clearly as we look at our business plan and strategies, it is something that is definitely discussed because we think could attract additional interest in the Company's stock if we are to pay a dividend. And there is very, very predictable and strong cash flow off this business that would support that.

Might be able to attract some of your residents as investors.

That's true.

Do you see any new construction occurring in any of the markets that we're currently in?

Nothing to talk about. I mean, really, it's pretty benign. You look at the NIC MAP numbers. We really don't hear much about new construction. And quite frankly, you don't hear much about new construction lenders. I think that what we're seeing really occur in this industry is a lot of what was built over the last year or two were things that were in the works from before the kind of recession hit in 2008 and the housing and now you've got all these concerns. So I have to believe that the typical construction lenders to this industry, which are local and regional banks, many of them have been taken over by other banks. Some have closed. I just don't see that there is going to be much financing available that's really feasible for a number of years. And as I said, we really don't see much new construction in most of our markets. Here or there, there will be new buildings coming up. But it's very, very minimal.

And just one more question and I'll step back in the queue. Can you update us on how the lease-ups are going with the Florida property that was at 45% occupancy as of the last call?

Good question. We actually ended last Friday at 60%. So we're ahead of projection. The Florida conversion, which is 45 units in Boca Raton, we actually had two move-ins and two deposits last week. This is. again, a property where a lot of our residents' family members come back to Florida this time of year. So it should see a pickup. But we're at 60% as of last Friday, which is a nice pickup for the quarter from the last call. And what also happened -- it's only 45 units, so right now, we're talking about roughly another less than 20 units to fill. What typically happens at any lease up is as you fill, you start to accelerate the fill up, because it's just more referrals, more recognition. So, as I said, the good news is we're actually ahead of our pro forma on the fill of this conversion in Florida, which is a challenging market. So we're very encouraged by it.

And I guess what I was curious about was not just Florida, but Chicago. You were having some problems with that memory care facility in Chicago.

We've had a very good quarter in both Naperville and Libertyville actually. They've picked up very nicely. So it's only 14 units. And we saw a good pickup in the quarter. So, as I said, we actually -- it's interesting. We have two or three conversions planned now for properties that have had one phase of conversion and now we're adding a second phase of only additional 10 units in a couple of properties. But, for example, in Omaha, Crown Point has been very successful. We took an old independent living building. We took the ground floor, converted some of it to assisted living. Now, we're going to convert more units to assisted living. So we've seen good success. Obviously, there's a need there. And as I said, we had a good quarter, both in Naperville and Libertyville on those lease-up. And, again, it's 13 units in Naperville, 14 units in Libertyville. So it doesn't take that much to fill those memory care units.

Okay. And my last question, of the 78 properties that we're now up to, how many of those properties have occupancy below 80%?

I can tell you that actually. Right now, about a dozen. About a dozen. We have 6 at 100%. We have I think over 30 over 90%. And there are about a dozen below 80%. It's interesting. We talked about this before. We have Friday calls corporate wide on what we call a red zone.

We classify our properties in three color categories, green, yellow and red. 90% or higher are green. And that's the majority of our buildings. And they typically average week-to-week mid-90% occupancy. Our yellow zones are 85% and above to 90%. So our goal is to keep properties above 80%. And we actually classify the yellow because we want to make sure that we're focusing once they drop below 85%, not below 80%.

The good news in the quarter, we had a number of buildings that fell off the red zone, moved to yellow. And I think last week, I'm going to say I believe it was around 70% of those red-zone properties had improvements. So we're seeing good progress in those as well. So a lot of the signs are very encouraging both as relates to the core, but also some of those markets that may have had some more challenges.

All right. I'll step back in the queue. Good luck with the fourth quarter.

Thank you.

And we have no further questions from the phone audience at this time. Mr. Cohen, I'll turn things back over to you for any closing comments.

Well, we thank everybody for your continued interest and support. Again, we're very pleased and encouraged by the positive results we're seeing. And we look forward to talking to everybody on our fourth quarter call in March. Also, if anybody has any further questions, feel free to call Ralph or myself. And as Ralph mentioned, take a look at our website, it's been updated. And we have a new investor services section as well where we try -- add some enhancements for better communication with investors. Any suggestions you may have, let us know as well. Thank you very much. And have a good afternoon.

Thank you. Ladies and gentlemen, that does conclude today's conference call. We'd like to thank you all for your participation.