Welltower Inc (WELL) 2006 Q3 法說會逐字稿

Good day and welcome to the Health Care REIT Incorporated third-quarter 2006 earnings conference call.

Today's call is being recorded.

At this time, all participants are in a listen-only mode.

Following the presentation, we will conduct a brief question-and-answer session.

Instructions will be provided at that time. (OPERATOR INSTRUCTIONS).

And now I would like to turn the call over to Mr. Dan (indiscernible) of the Financial Relations Board.

Please go ahead.

Thank you.

Good morning, everyone.

Thanks for joining us today for Health Care REIT's third-quarter conference call.

You may have received a copy of the press release late yesterday afternoon, but in the event you have not, you may access it via the Company's website at www.HCREIT.com.

I would like to remind everyone that we are holding a live webcast of today's call, which may be accessed through the Company's website as well.

At this time management would like me to inform you that certain statements made during this conference call, which are not historical, may be deemed forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995.

Although Health Care REIT believes the expectations reflected in any forward-looking statements are based on reasonable assumptions, it can give no assurance that its expectations will be obtained.

Factors and risks that could cause actual results to differ materially from expectations are detailed in the press release and from time to time in the Company's filings with the SEC.

And having said all of that, I would now like to turn the call over to George Chapman, Chairman and CEO of Health Care REIT, for his opening remarks.

Please go ahead, sir.

Thank you, Georgeanne.

My comments today will be relatively brief.

Generally, HCN continues to enjoy strong financial and portfolio performance, as well as producing strong investment volumes.

On the financial side, our FAD guidance for 2006 has been picked up to $3.04 to $3.06 from $2.95 at to $3.03 per diluted share.

The portfolio maintains strong coverages of nearly two to one before management fees and our concentrations -- operator concentrations improved with Ameritas moving down to approximately 11% of our portfolio, hopefully reaching the 10% policy limit in the next quarter or so.

Our top five operators constituted only 41% of the total and obviously these concentration levels will be even better once we complete our Windrose merger.

I would also like to complement our origination team for HCN's strong investment production in what is a very difficult investment environment.

Gross new investments of nearly $176 million for the quarter and $396 million year-to-date reflects the strong efforts of that team, especially when considering an average initial yield of approximately 9.1% and expected average yields over the lives of the investments in excess of 11%.

This performance is also in many ways directly attributable to our line of credit relationship investment packages of programs.

Today, we have remaining availability on these operator lines that approach $2 billion.

And while we have never insisted that investments of this magnitude will necessarily be made over the next several years, these programs certainly increase the probabilities that a good portion will be funded.

I can also report that a high percentage of our new investments will relate to combination facilities that should appeal to the baby boomers and other much more demanding consumers as we go forward.

They contain a variety of housing, wellness and healthcare services.

We have also been discussing at some length our rationale for our decision of a year or so ago to invest through the full spectrum of senior housing and the healthcare delivery system in anticipation of the arrival of the baby boomers and the increasingly demanding and knowledgeable consumer.

This decision has led to significant changes to our infrastructure, including more aligned function responsibilities and accountability.

That process is well underway with some good marketing momentum both in the early-stage senior housing space as well as a post acute sector.

Obviously the merger with Windrose will jumpstart our efforts in the medical office building and acute care sectors.

In that regard, I can report that we have filed our joint prospectus proxy statement on Form-S4 last Friday.

I also can report that I am quite pleased with the integration efforts being pursued by both management teams and I would note that Jeff Miller, our Executive Vice President and General Counsel, has been spearheading these efforts from HCN's standpoint.

While it is not appropriate to go into too much detail relative to the Windrose and Health Care REIT combination at this point, I did wish to express my thanks to both teams in their very productive efforts to complete the transaction and hit the ground running in 2007.

I will now ask Ray Braun, our President and Scott Estes, our CFO, to comment on the portfolio and financial matters.

Thanks, George.

First, I am going to review our portfolio, including an update on government reimbursement issues.

Then I will discuss our development initiative before turning it over to Scott to take you through financial results and guidance.

Our portfolio continues to perform well.

Payment coverage was 1.95 times before management fees.

Our portfolio composition is shown in Exhibit 1 to our press release with coverage by facility type in Exhibit 2.

We own 93% of our properties and 87% are in master leases.

Our portfolio also compared favorably to the NIC [MAP] statistics.

NIC MAP provides quarterly data on occupancies and rates for independent living, assisted-living, Alzheimer's and nursing facilities in the top 30 MSAs.

And these MSAs, we currently have 27 operators operating 102 properties with an investment balance of $711 million.

Our properties had median rates that were higher than MAP median rates across all asset classes and our facilities generally had greater occupancies.

We are particularly pleased with our Independent living rates, which were 36% higher and our Alzheimer's rates, which were 11.5% higher.

Onto reimbursement.

Nursing homes received a 3.1% Medicare inflation update on October 1.

The inflation update will result in an additional $560 million of Medicare payments to nursing homes in fiscal 2007.

On the LTAC front, CMS estimates that the average Medicare payment will decline by 5% in fiscal 2007 due primarily to change in reimbursement for short stay outliers and re-weighting of the DRG system.

Over the long term, CMS is expected to limit LTAC growth by implementing facility-specific and or patient-specific eligibility criteria.

At September 30, we owned 11 LTACs with a total investment balance of $118.7 million.

Based on historical performance and a 5% Medicare rate reduction, we project the coverage impact on our LTAC portfolio is approximately 45 basis points.

However, we would also expect our operators to offset some of this impact through operational adjustments.

In addition, our LTACs have strong payment coverages so we don't expect any increase in payment risk as a result of these changes.

Finally, I would like to provide an update on our development program.

We currently expect to fund $175 million for construction in 2006.

Please refer to Exhibit 8 of the press release for additional detail on construction activity.

We have funded $107 million year-to-date for construction projects and expect to fund an additional $43 million on those existing projects in the fourth quarter.

The remaining expected construction funding for 2006 will come from new projects commencing in the fourth quarter.

With that, I'll turn it over to Scott to walk you through financial results and guidance.

Thanks, Ray.

During the third quarter, we completed gross investments of $175.8 million and now have completed gross investments of $395.8 million year-to-date.

Based on our current investment pipeline, we are refining our gross investment guidance for 2006 to $525 million to $575 million from the previous $525 million to $600 million.

Gross investments are now expected to consist of $350 million to $400 million in acquisitions and advances on existing assets and $175 million of construction funding.

We now anticipate $150 million of dispositions resulting in a net investment forecast for the full year 2006 of $375 million to $425 million, which obviously excludes the amounts associated with the pending Windrose transaction.

This quarter, the average initial cash yield on new investments was 9.5% and the average expected yield was 11.7%.

Average annual increases over the life of our new leases are expected to approximate 26 basis points.

Turning to development as detailed in Exhibit 8, our 2006 development advances through September 30 were $106.9 million.

Comprised of $53.5 million for 16 assisted living facilities; $15.5 million for four skilled nursing facilities; $32.6 million for seven independent living and CCRC facilities and $5.3 million for two specialty care hospitals.

We currently have outstanding unfunded commitments related to projects underway totaling an additional $265.1 million.

On the disposition front, we sold one property with a carrying value of $3.7 million during the quarter and we also had two loans totaling $8.8 million payoff, including one which was on nonaccrual.

The average initial yield for the aggregate $12.5 million of terminated investments this quarter totaled 8.9%.

Dividends paid in the third quarter were $0.64 per share and our FFO and FAD payout ratios were 88% and 85% respectively.

Earlier this week, the Board approved our 142nd consecutive dividend to be paid November 20, 2006 in the amount of $0.64 per share, which represents a 3.2% increase above last year's rate.

Our DRIP program again generated nice interest in the third quarter as we issued 481,000 shares generating net proceeds of $17.5 million.

Turning now to our earnings results.

We recognized third-quarter net income available to common stockholders of $0.34 per share, FFO of $0.73 per share and FAD of $0.75 per share.

Year-to-date, our FFO was $2.18 per share and FAD was $2.34 per share.

More importantly, excluding cash receipts of $0.27 in 2006 and $0.11 in 2005, our year-over-year normalized FAD growth rate was 4% through the first nine months of the year.

G&A expenses this quarter totaled $5.2 million versus $4.6 million in the comparable quarter last year and $5.1 million in the previous quarter.

At this point, we do remain comfortable with our annual G&A forecast of approximately $22 million for full year 2006.

We also remain pleased with the balance sheet and ended the quarter with gross real estate investments of proximately $3.4 billion.

As of September 30, our debt to book capitalization stood at 51% and debt to undepreciated book capitalization was 46%.

We were pleased to report we closed and expanded $700 million unsecured revolving credit facility replacing the existing $500 million facility, which was scheduled to mature in June of 2008.

The new agreement's maturity was extended to July of 2009 with the ability to extend for an additional year at our option.

We also added two new lenders to the bank group and had commitment increases by eight of the ten existing lenders.

At the end of the quarter, we had a line balance of $276 million resulting in existing capacity on our lines of credit of $464 million.

Based on our implied net investment guidance for the fourth quarter of $45 million to $95 million, Windrose's potentially utilization of the $125 million line of credit provided to them by Health Care REIT, as well as any potential Windrose debt we may choose to pay down, we should have sufficient capital to fund our investment needs through year-end.

However, as you know, we could get [home] on additional transactions beyond these amounts and we are constantly evaluating the capital alternatives available to us, but most importantly we do remain focused on maintaining an investment-grade balance sheet over the long term.

Wrapping up with an update on our 2006 guidance.

The Company is tightening its net income available to common stockholders forecasts as we head into the fourth quarter to the range of $1.38 to $1.40 per diluted share from the previous range of $1.34 to $1.42 per share and the Company is also tightening FFO guidance for the year to a range of $2.91 to $2.93 per diluted share from the previous range of $2.88 to $2.96 per share.

We are increasing our 2006 FAD guidance to a range of $3.04 to $3.06 per diluted share from the previous $2.95 to $3.03 per share primarily as a result of the $3.3 million of cash received during the third quarter from prepaid rent and straight-line receivable payouts.

As always, our FAD guidance excludes any additional cash receipts which we may receive throughout the remainder of the year.

With that, I will conclude my report and turn it back to you, George.

Thank you, Scott and Ray.

At this point, we will open the floor for questions.

(OPERATOR INSTRUCTIONS).

Rob Mains, Ryan Beck.

I don't know if you are comfortable answering this one, Ray, but LTAC coverage is going down 45 bips.

Roughly where are they now?

Let me pull up my sheet here, Rob.

We are at 2.9 times.

And then I have a question about the investment activity during the quarter.

A fair amount of loans acquired.

Could you describe those a little bit?

Yes, one of our operators, a long-standing operator acquired some properties in Florida and it was favorable for them to have a mortgage on those, so we agreed to accommodate them for reimbursement purposes.

But that is the bulk of it.

Okay.

And I have a question and actually since you referenced it on the table that talks about the development activity.

Since this quarter you have put some of the developed properties into production, I just want to make sure I understand because you are showing on the schedule a little bit of independent, a little bit of assisted living, a little bit of SNF.

Is that parts of buildings or is that one entire building?

The $12 million in production.

We classify buildings generally by the predominant type of units that are in them.

So when you are looking at those, that would be where they would be classed in the portfolio upon completion.

Okay.

But obviously you are showing say $1.75 million of independent CCRC in production.

That is just part of a building right?

I'm sorry?

That is not $1.75 million investment?

Yes, those are cottages.

Okay.

Alright.

And one question on the income statement.

Just wanted to make sure I got this right.

Commitment fees and other income -- is there anything in there related to any of the lease or loan terminations in the quarter?

No.

No.

So that's kind of a recurring amount?

Yes, we generally continue to get general fees, other income there and there is nothing extraordinary this quarter.

That's all I had.

Thank you very much.

Jerry Doctrow, Stifel Nicolaus.

I just wanted to chat a little bit about acquisition environment and then I have a couple specific things.

I mean the investment yields in the quarter were a pretty attractive rate;

I think 9.5 if I remember what you said.

Wanting to get a sense how much of that is just mix or are we seeing better prices on acquisitions.

If you can just give me a little color there and maybe where you see it going from here?

I think the color on that, Jerry, as George alluded to in his opening remarks, we have the line of credit relationship financings in place and these are generally terms negotiated under those lines and people coming to us.

So I think that has been advantageous to us in this tough environment.

Let me add a couple of things too.

I was just looking at the year-to-date and we are over 9% for initial yields throughout the year and over 11% average yield through the life of those investments.

So that is during the whole year.

But there are probably a few comments I could make.

One is that we did some SNFs, skilled nursing investments and they tend to be priced a little higher.

And two, we have added on, I don't have the exact number, added on to some existing buildings so that they assume the same rate generally that is already in existence for a project that is say two or three years out.

So both of those help from time to time, quarter-to-quarter, in terms of driving the yield up a bit.

We have been pretty consistent through the year.

So we are pretty pleased with that given where cap rates are and how competitive the market is.

In terms of just go forward, I don't know if you want to do it by property class whatever, but should we be assuming still 9% plus initial yields as we go forward rest of '06, '07?

Well, I frankly think that rates could be over 9%.

We do plenty of deals at 8.5% or so in the long-term care sector.

It is a very tough market and we can make money at below 9% and we would certainly do that for the better assets across asset classes.

Ray, anything?

Yes, I would say probably to model 8.5% to 9% would be a safer range, Jerry.

And just maybe use of capital.

I think when we chatted last quarter, your sense was any capital you would be raising here might be debt.

You did the line of credit.

Obviously got a lot of capacity there.

How are you feeling about need for capital and maybe with the stock price having moved to your equity versus debt go forward?

There are plenty of reasons not to do equity at the moment with the Windrose transaction pending.

And it being of course an exchange ratio transaction.

So that certainly bears on our decision.

And obviously it is a material transaction so that we are going to be extremely careful about any issuances of securities and perhaps equity even more so, but we don't know exactly what is going to happen with our deal flow and for that matter Windrose's deal flow.

So there could be some need for additional capital and right now I think you are correct that we are assuming still that if we did any kind of securities offering, it is more likely to be on the debt side.

That's helpful.

One or two specifics.

There is a loan advance in the quarter.

Was that to Windrose or was it -- that was these other loans we talked about earlier?

Like a $60.8 million --.

Those were related to acquisitions.

Was there something in the transaction where you were going to provide some financing to Windrose?

We're just trying to make sure that we are not kind of double counting anything here.

Yes.

We agreed to provide up to $125 million of financing to Windrose pending the closing.

Okay.

So there is nothing out now?

Above any amounts that are out there now, Jerry.

That's correct.

Nothing out now.

Okay.

I think I'm good for now.

Thanks.

Omotayo Okusanya, UBS.

Just a quick question.

Could you talk a little bit about the potential impact of the change in regulation or the potential change in regulation, what it could do to your business going forward?

Are you referring to the NAREIT legislation?

Yes.

Okay.

The proposal would be to allow a healthcare REIT to lease a property to a taxable REIT subsidiary and have the rental income be qualified, which it wouldn't be today.

So it potentially -- and then the taxable REIT subsidiary would enter into a management contract with an independent third-party operator.

So the potential advantage to a healthcare REIT would be that we could collect the EBITDAR above our rental payment as taxable income at the taxable REIT subsidiary level.

We are currently evaluating several structures involving that.

There are pros and cons to this from our perspective and it will be a topic that we will be reviewing with our Board at our strategic planning session and we will report to everyone what we decide after we go through it.

Could you give some more insight into what the pros and cons could be?

Well, one of the pros obviously is that we can collect the EBITDAR above our rental payment at the taxable REIT subsidiary level.

The biggest con we see is that the companies that we are currently financing may then view us as a competitor and be unwilling to conduct further business with us.

So we have to evaluate very carefully how we move forward on this.

(OPERATOR INSTRUCTIONS).

Greg Andrews, Green Street Advisors.

Good morning.

Congratulations, Greg.

Thank you.

Looking at your development schedule, it looks like you are funding a couple of specialty hospitals, which is a new category there.

Could you describe what those are and why you are interested in that area?

Those are LTACs.

Are those with an existing operator or somebody new?

They are with a new operator or two new operators.

Okay.

And can you tell where those projects are located?

One is in Fort Wayne, Indiana.

Another is in Boise, Idaho.

Do you expect there to be a lot more development of LTACs in an environment where the reimbursement rates have been cut and it looks like there is going to be constrained growth there going forward?

I would expect to see some more LTAC development, yes.

I think the model is evolving just like the skilled nursing model is evolving to the highest acuity patients that can be served in an LTAC setting because CMS rationalizes Medicare.

That is where we are going.

So LTACs that handle higher acuity patients will still be in demand.

Greg, this is Scott.

I would just reiterate too our underwriting standards are to underwrite LTACs to stabilize coverage after management fee is two times.

So if you underwrite them correctly, you still like the business model.

Okay.

Great.

And turning to the loan or loans you made, I don't know if you specified the facility type.

Were those for nursing homes?

They were mainly nursing homes in Florida to an existing client.

Reimbursement is more favorably generally -- more favorable generally for loans rather than leases.

So we gave them a concession and allowed them to do approximately one third of that newest package as loans.

That will probably help our coverages for that matter as well.

Despite the fact that we like to own all our properties, we own virtually all our properties with that particular customer and these loans are cross defaulted and we think we are very safe and it probably has some advantages for both the operator and for us.

Great.

And lastly since most of the activity for the quarter was nursing home related, could you just give us a sense of the coverage ratios at which the new business is being done?

Ray is getting it.

I am pulling it up here, Greg.

Great.

Thanks.

The stable nursing homes were about approximately 1-7 before management fees.

Rick Murray, Raymond James.

I was wondering perhaps, George or Ray, if you could just give us a brief sort of rundown of the fundamental outlook as you see it for each property type if you would?

Yes, I will take that one.

Well, yesterday, there was a NIC conference call that discussed where cap rates are going and then the cap rates for the second quarter.

If you look at that data, LCAP rates were at 8.7%, independents were 8.3% and SNFs were roughly 12.5%.

So that is the most recent cap rate data that is out there.

Bigger transactions with higher-quality properties are even being done at cap rates lower than that today.

So will cap rates go lower?

I think they have bottomed and we are not going to see them compress much more, but they are at historical lows right now.

So that makes it, as George alluded to in his opening remarks, a very competitive acquisition environment.

In terms of the fundamentals of the business, SNFs are continuing to perform well.

Occupancies and margins are holding.

Assisted living and independent living occupancies are up and we continue to see good pricing power.

What keeps you up at night is is there going to be too much development in some markets.

Right now what we are seeing is relatively modest development still at a very low level, less than 1% of existing stock.

But if there is too much money pouring into development in some markets, that could cause problems.

But right now it looks good.

Jerry Doctrow, Stifel Nicolaus.

Just a couple of follow-ups.

I wanted to actually chat a little bit more about development and dispositions.

On development, I guess you had some shift of the schedule from I think '07 to '08.

Rates were up a little bit.

Just if you can talk a little bit about the premium maybe you are getting from development and maybe what was moving sort of that shift.

Obviously development moves around a bit.

But just give me a little more color on the development pipeline.

I think just one general comment is you can see that a lot of our projects were pushed out.

I think from the original projections or at least most recent guidance of $175 million to $250 million on funded development this year, we still have the same number of projects.

I think just a lot of the dollars are going out a little bit later than the range may have indicated.

So I think the initial yields are still in a comparable range to what I would argue they have been in the last few quarters, 9% to 9.5% range when you look at it and we will probably continue to expect that going forward.

And is there kind of a premium that you look to get for sort of taking on the development risk over say a comparable property that you would just be buying in the market?

If you look at say the HCT deal where they were in around a 6% cap rate for what was viewed as very high-quality assets and you then say we are building very high-quality assets of the same type then and we are giving 9%, that leads you to around 300 basis points.

I think it's the general comment -- it was compared -- it is probably unfair at least to compare it to the average initial yields that we did this quarter say of 9.5% because obviously it is a different situation either for (indiscernible) properties.

So I think that is an important distinction to be made.

And I think to add to the sort of the complexity of it, sometimes we are doing development deals with customers who are stellar customers who are almost outside of the pricing power for REITs so that sometimes the rates are a little lower for those types of folks because we want them badly to continue to be in our portfolio.

So there are a lot of factors in play, but generally we do exact a pretty healthy premium at least commensurate with the additional risk.

And then just on the dispositions, I think you haven't done that many to date but still have a pretty big target for the rest of the year.

So I am assuming there is a bunch of stuff coming and I'm just wondering if I can get a little more color on that and should we be thinking about dispositions sort of going forward?

I know one of the issues people often raise about you guys is that your clients have share in upside.

So is there any more pressure for dispositions coming as we go forward?

The dispositions are generally relating to projects where we would prefer to either eliminate the operator or the particular property from the portfolio because we can redeploy into better assets.

Now as part of that, at times like during these last two years or so, we are redeploying perhaps at a somewhat lower yield and people argue that it is somewhat dilutive.

We argue that we know our business and that we want to continually cull through the operators and properties and move them to better operators and to move into better properties and we think that has been a very good strategy for us over 30 years.

So we're going to continue to do it.

And I think probably a good number is $100 million a year might be that number.

It has nothing to do with sharing upside or whatever; it is just trying to put our portfolio in the best possible position.

And it is stuff you are initiating, not that the customer is coming and saying I have got a buyout option I'm going to exercise?

No, it isn't initiated by the operator.

It could be though, and you've met some of our operators, that for example an operator that -- an operator that we backed about five years ago happened to be in one of the toughest markets because of competition that came in later.

That operator was just sitting there for too long paying virtually all of its money to us.

It wasn't enough incentive for that operator.

As you know, one of the ways that all of the REITs are able to allow people to leave and therefore improve their chances and improve our coverages is to refinance at lower rates whether HUD financing or whatever.

So at times we will talk with the operator and determine that it is in both of our best interests.

So it is usually initiated by us, but there are certainly interplay with operators.

But it is not like they have got rights necessarily; it is a situation that you are again thinking makes sense to improve the quality of the portfolio net-net.

That's generally right.

Thanks a lot.

Ross Nussbaum, Banc of America.

A question on the proposed Senate legislation, a follow-up.

It sounds like you may not be 100% convinced that this is necessarily a good thing for the healthcare REITs and I guess -- I don't want to put words in your mouth, but is this an initiative that was more heavily backed by your peers?

I am guessing that NAREIT wouldn't have lobbied for this unless the majority of your sector thought this would be a net positive for the group.

It was lobbied for by all of us.

It is generally a positive for the healthcare REITs.

It just will require some judgment, vis-a-vis existing operators, in terms of how we apply it.

But it certainly helps all of us by allowing us under the right circumstances to grab a bigger slice of the revenue stream.

I mean it takes more of the, I would assume, more of the risk away from the operators allowing you to capture a little more of the revenue stream.

Yes, and there are a number of operators who frankly prefer to avoid the risk and to take management fees and under certain circumstances perhaps this opens up the door to do more sale manage backed deals for operators.

So I think that it can be a win-win for the operators and the REITs.

But it just has to be viewed as a positive for the healthcare REITs just like it was for the hospitality sector.

So we are looking forward to reviewing it and developing some models for it and I think you will see us utilize the flexibility if and when it is passed by Congress.

Do you have any insights on the timing?

I guess the latest we heard was maybe it goes into this session, maybe it goes into next year.

Well, we always hear from NAREIT and Tony and Steve and the rest are that NAREIT bills, REIT legislation, isn't necessarily at the pinnacle of importance in Congress.

So usually it has to be attached to some other tax or similar type of legislation.

So to some degree, we are subject to those kinds of issues.

So we are not sure.

We hope it gets done late this year.

It appears we have no further questions at this time.

We thank you all for participating in our conference call and if there are additional questions that come to mind later, Scott Estes will be available for conversation.

Thank you.

Once again, that does conclude today's call.

We appreciate your participation and you may now disconnect.