Shankh S. Mitra
Chief Executive Officer Chief Information Officer and Director at Welltower
Thank you Matt and good morning everyone. I hope that all of you and your families are safe and healthy. I'll walk you through our high level business trends and capital allocation priorities. John Burkart our COO will walk you through the detailed operating environment in SHO and MOBs. Tim will walk you through the triple net businesses earnings guidance and capitalization. This is John's first call as he's beginning to dig into the business. So please go easy on him. Despite mediocre bottom line results we cannot be happier with the overall results of the quarter. Just six months ago many industry participants and observers were cautioning if the COVID pandemic would result in apartment impairment of demand for senior housing. And even most people who believe that the demand would come back were worried that with every surge of the virus the business will take a significant step back. As it has been our experience that these surges drive revenue down cost up resulting in a significant hit to the bottom line. For the first time since the beginning of pandemic we bought this trend and despite witnessing a significant surge of the Delta variant after we spoke three months ago we still posted the strongest sequential revenue growth in the company's history. Occupancy went up 210 basis points in the quarter relative to our guidance of 190 basis points pre delta and rate growth accelerated resulting in a 3.5% sequential increase in top line revenue across our same-store SHOP shop portfolio. Importantly year over year revenue growth inflected positively in the U.S. and U.K. portfolio for the first time since the beginning of pandemic. This trend accelerated into September when we observed a year over year revenue increase for the SHO portfolio led by U.S. and U.K. which reported a year over year revenue growth over 2%. This is particularly impressive in context of a massive delta surge.
Let's reflect on why that might be the case. With nearly all residents vaccinated and staff vaccination rates approaching 90% which is substantially higher than general population prospective residents and their families recognized that our communities are much safer environment than alternative settings. You can see that in our data. In the U.S. despite a tenfold increase in the daily case counts across U.S. in July and August the number of cases within our SHO portfolio was just 10% of peak levels observed during the prior COVID surges. A similar trend was experienced across our Canadian and U.K. portfolios for over the same time. This helped us build significant top line momentum in our business as we received the dual benefit of occupancy and rate growth which we believe will continue into next year. In fact I believe this trend will meaningfully accelerate into next year as we feel significant momentum in the rate environment. Despite this great top line performance our bottom line performance was mediocre and impacted by a perfect storm across the expense stack. We had a confluence of extraordinary costs including agency labor as COVID surged heightened R&M insurance costs utility costs and other sundry costs all hitting at the same time. There was also an extra day in the quarter which resulted in a mismatch of revenue and expenses as the majority of our operators charge rent on a monthly basis. Additionally we saw a meaningful rise in paid time off as many employees took advantage of the easing travel restriction during the summer.
The rise of COVID also resulted additional call offs from our team members at the last minute which drove a significant spike in the use of agency lever which cost 2x to 3x. This situation was further complicated by the vaccination mandate which the system is currently working through. The only good news on the expense overall is that we began to see this situation normalize in October. While it is too early to comment on exactly how long it will take for this situation to fully normalize we need to unpack what logically will stay with us in the medium to long term and what will dissipate. In our opinion base wage increases are sticky and they will likely to be here as unit cost of labor. We firmly believe Welltower's operating partners will be able to overcome this hurdle through rent increases as they offer a premium product within a premium micro market. The alternative of one on one care just got significantly more expensive. We are beginning to see the green shoots emerge as operating partners have been have seen expansion of labor pool with supplemental unemployment benefits rolling off and children having gone back to school. John will provide more details on this topic but we believe the usage of agency lever will dissipate going forward. Our guidance for Q4 will suggest that we do not expect this situation to completely reverse primarily because of three factors: One we have a mismatch of revenue growth and expense growth as a significant portion of our annual increases happen on Jan 1. Two after you hire people it takes an extended period of time to go through pre-employment and training process before new employees can hit the floor. And three Delta wave which peaked in late September is still with us even in November. However none of this has changed my view that Welltower stabilized shop margin post COVID will be higher than that of pre-Covid margins. Even on a near-term basis I do not believe the earnings power of this portfolio's 2022 exit run rate or 2023 run that has changed. I want to repeat that one more time. Even on a near term basis I don't believe the earnings power of this portfolio's 2022 exit run rate or 2023 run rate has changed. The base operators will rise from this difficult time stronger with significant higher market share while many others will find this business too hard to figure out. We are engaged in frankly starkly different conversation with the management team of operators in this industry more broadly.
While everyone is fatigued from the events of the past 18 months many of our partners are working with John to rethink how technology operational excellence revenue optimization and data analytics can fundamentally change this business. Think of some very basic question. Unit labor is going up but how many units do we need? Price needs to go up but how do you differentiate price on units with view of Central Park versus a brick wall. Many operators within the industry are hoping things will get better on their own. Unfortunately hope is not a great strategy. Our intense operational focus translates directly into our capital allocation strategy. Let me restate what that is. We want to own the right assets in the right micro market with the right operator focused on right acuity and price point and we want to own that asset at the right basis either we'll buy at a discount or replacement cost or we'll build at an extremely targeted way at replacement cost. While bidding tents are pretty thin primarily with a few first time or relatively new capital we remain extraordinarily active in off-market privately negotiated transactions where we bring unmatched unmet certainty to close with operator and cash capital. As most of the situation are debt maturity driven nothing is more important to the seller than the certainty of close with a firm handshake. And as you know our reputation is we don't negotiate and we don't reiterate after we have a firm handshake. This approach has resulted in one of the most active quarter in the history of our company. We closed $2 billion of investments at a significant discount to replacement cost with expected IRRs in the high single digits to low double digits.
We continued our momentum subsequent to the end of third quarter with another $1.3 billion transaction that we have signed purchase and sale agreement and that we have described in our press release. While they are all very important transaction let me highlight three different flavors of the deal. We are excited about a $580 million transaction to buy eight rental and six entrance fee communities in great micro markets. We would recall that we bought a handful of Sunrise CCRCs from SNH in 2018. This transaction is very similar in asset quality and location standpoint but at a materially better price. And the previous owner has spent significant amount of capital over $50 million in the last five years. We should be able to achieve a high single digit unlevered IRR as our operating partner Watermark leases up the communities. However we think we can push this return into double digit unlevered IRR category as we execute a higher and better use strategy similar to what we have where we're embarking on our 85 Atria portfolio 85 property Atria portfolio. For example there is an extraordinary piece of land in a highly desirable residential corridor Bellevue Washington that is entitled for high density residential as of right. We can build a great vertical campus of senior or wellness living there or sell it to a multifamily developer. For many of these communities their excess land while we intend to build additional cottage style units which are already sold out in this location and get the flavor. In a separate transaction we bought five Class A senior housing communities in Southeastern and Mid Atlantic region with an extraordinary partner with a extraordinary operator and development group for $172 million. The average age of these communities is three years and we expect to generate a high single-digit unlevered IRR.
We also negotiated a long-term exclusive development contract with this team. I cannot wait to disclose the details of this group and our growth plan with them on our next call. But here's the teaser. This team has executed flawlessly even during this challenging Q3 without any agency labor. That gives you a sense of their operating prowess. In a similar vein to new buildings we bought three brand-new communities in the Midwest from a multifamily developer with new perspective our existing operator. On average these buildings are two years old. We feel our future pipeline is robust as we are on a two year line with several other granular transactions. We are also building significant momentum around redevelopment and real estate value add as John Burkart has executed a strategy at Essex for over two decades. My team historically has focused on operator oriented value add as we frankly didn't have the right experience. After somewhat underwhelming experience from our vintage transaction many years ago now with John and Mike Fey our Global Head of Development in one team redevelopment and real estate value-add will be another avenue for growth going forward. Stay tuned for more. On the relationship side I cannot be more pleased to announce that we started two new development projects with Cisco the second phase of Cardinal and Carnegie.
Cisco is one of our best operators in our portfolio occupancy incredibly bouncing already back to high 90s. I cannot be more proud to be partnering with Andy Colberg and his team to find a few more A++ micro markets where a cardinal model will be fantastically successful. We signed a long-term exclusive development contract with Cisco and look forward to grow this partnership over the next decade. From the success of this wonderful new addition to the exclusive pipeline agreements quarter after quarter I hope that you as our investors now share the same belief that we truly have built a deep and wide moat around the real estate business through predictive analytics platform that is unique and unprecedented in the real estate industry. With that I'll pass it on to John for a deep dive in operational trends. John?
