Welltower Q3 2023 Earnings Call Transcript

Quartr
Provided by Quartr
October 31, 2023

There are 16 speakers on the call.

Operator

Thank you for standing by, and welcome to the Welltower Third Quarter 2023 Earnings Conference Call. I would now like to welcome Matt McQueen, General Counsel to begin the call. Matt, over to you.

Speaker 1

Thank you and good morning. As a reminder, certain statements made during this call may be deemed forward looking statements in the meaning of the Private Securities Litigation Reform Act. Although Welltower believes any forward looking statements are based on reasonable assumptions, the company can give no assurances that its projected Factors that could cause actual results to differ materially from those in the forward looking statements are detailed in the company's filings with the SEC. And with that, I'll turn the call over to Sean.

Speaker 2

Thank you, Matt, and good morning, everyone. I'll review our 3rd quarter results and capital allocation activities. John will provide an update on performance of our Senior Housing Operating and Outpatient Medical portfolios, and Tim will walk you through our triple net businesses, Balance sheet highlights and revised guidance. Nikhil will also participate in the Q and A section of the call. Against a backdrop of increasingly uncertain Macroeconomic outlook.

Speaker 2

I'm pleased to report another strong operating results, which continue to exceed our expectations. Our senior housing portfolio posted another quarter of exceptional revenue growth, which continues to approximate double digit levels, Driven by both strong pricing power and occupancy build, we're delighted to report that occupancy growth not only accelerated through Q3, but also that September occupancy gains marked the highest level we have seen over the last 2 years. From a pricing standpoint, we continue to achieve Outsized rate increases as reflected by nearly 7% growth in RevPAR or unit revenue. As you may recall, we previously mentioned that last year, one of our largest operator pulled forward its typical January increase to September 2022. This year, the same operator elected to maintain its historical cadence of rate increases and will therefore wait until January of 2024 to push through rate increases.

Speaker 2

As a result, reported pricing of Q3 this year may appear lower than what we're experiencing in the business, And it bears repeating that our operator's pricing power remains strong. The story on the expense side is similar to that of our Top line and result continues to outperform our elevated expectations. We reported 2.4% expense per occupied room growth Our unit expense growth, the lowest reported export growth in the company's recorded history. This is largely driven by a 2 point percent increase in compensation per occupied room, which represents a substantial step down in recent quarters. This combination of strong revenue And controlled expense growth has generated 333 basis points of same store margin expansion, Yet another record for the company as it marks the highest level of quarterly margin improvement in our recorded history.

Speaker 2

And our SHOP NOI margin of 25.6 percent is the highest level of profitability we achieved since Pre COVID, NOI growth for the quarter came in 26.1%, our 4th consecutive quarter of 20 plus percent NOI growth and the 2nd highest level of growth in the company's recorded history. While we are pleased that margins are moving in the right direction, We're also mindful that our profitability remains significantly below pro COVID levels and below where we believe the industry can attract External capital investment on a long term basis. Our managers strive to deliver superior product, experience and provide valuable choices for our retired seniors. Our product remains highly affordable at the high end while we operate in the U. S.

Speaker 2

And the U. K. And they should continue to focus on Highly differentiated services, even if that means rate increases need to remain at the elevated levels. As I have said many times, Cutting corners is not in our DNA. We recommend that our operating partners serve fewer residents well Then serve more of them poorly.

Speaker 2

As a result, one of our key items to focus is to work with the right operator to improve the customer and the employee experience. We believe that doing so will improve the experience of all all of our stakeholders. Conversely, we'll be very disappointed if our operators take the path of lease resistance, which ultimately will impact resident and employee satisfaction. We continue to focus on the delta of RevPOR minus ExPOR As the single most important operating metric to optimize, while it is too early to comment on anything specific related to 2024, As I sit here today, I can believe I believe that the delta of Rev 4 minuteus export can expand, which we need to get to a sustainable level of margin. From a product standpoint, AL continues to outperform IL.

Speaker 2

And from a geographic standpoint, Canada finally caught up to the level of growth that U. S. And U. K. Were experiencing.

Speaker 2

We have further retooling to do in our Canadian business with our new operating platform being launched in next few weeks. And going forward, we believe Both of our international businesses will have been significant contributors to our earnings growth in 2024 and 2025. From a capital allocation standpoint, we have never been busier. Last quarter, we spoke about a pipeline of $2,300,000,000 We closed $1,400,000,000 in Q3 and roughly another $900,000,000 in October. Additionally, we have another $1,000,000,000 of deals just about to cross the finish line.

Speaker 2

Beyond these $1,000,000,000 of investments under contract, Our pipeline remains large and near term actionable, but the execution of these deals will depend on our access to capital. The extremely challenged debt and equity market in this higher for longer rate environment suggests that this trend will continue and perhaps We'll get better in 2024. We'll continue to see credit evaporate from our investment universe and are selectively pursuing great opportunities in both Hold stack and med stack levels with highly favorable last dollar exposure. These opportunities have potential to achieve equity returns with basis and credit downside protection typically seen in low leverage transactions. We're seeing opportunities across product types and geographies With equity investments in U.

Speaker 2

S. Senior housing and credit investment on the SNF side making up the large swath of opportunities that we're constantly being pinged on. I want to remind you that we have a three-dimensional lens through which we measure investment opportunities: risk, Reward and duration. Given the substantial rise of real rates over last 90 days, we have recalibrated these thresholds Of these 3 thresholds higher, in other words, for the same risk where we need higher returns today than we did 90 days ago, All we can do deals with a similar return profile, but with a much lower risk and so forth. We're student of history and markets and cannot find Many times when a lot of good has come out of a period of highly sharply higher real rates.

Speaker 2

If real estate continue to grow grind higher, we'll continue to calibrate our 3 guideposts higher. So far, we have no problem achieving these recalibrations as sellers understand the markets have changed and we remain the best and many times the only hope for liquidity. From a balance sheet perspective, amidst the growing macroeconomic, Fiscal and geopolitical uncertainty, we're pleased to have reduced our net debt to adjusted EBITDA to one of the lowest levels in our recorded history, which also represent nearly a 2 time decline from just 12 months ago. Our balance sheet strength And flexibility gives us opportunity to remain on offense or provide shelter if the economic environment meaningfully worsens next week. We don't have a clue which direction the wind will blow, but I'm delighted that we don't need fair weather to meet our obligations or grow.

Speaker 2

As you all know, a wall of debt maturity in commercial real estate sector is coming exactly at a time When debt capital is operating from the market, we will not be surprised if significant dilutive capital is raised or otherwise a lot of keys will need to be returned to the lenders. I am certainly grateful to Tim and our best in class capital markets team But keeping us ahead of the cadence that Nikhil and I can spend on as we look to capitalize on the best environment for investments that we have ever seen, Year end is shaping up to be extremely busy and Q1 also looks promising if we continue to have access to growth capital. At the risk of sounding like a broken record, I want to reiterate that we will only grow externally if and only if We can grow value accretively on a part share basis for existing shareholders. I hope that you as our shareholders are Exciting areas inside Vault are today. What truly galvanizes us are the exciting prospects of John's operating platform and especially the digital transformation of senior housing industry.

Speaker 2

As we have discussed ad nauseam, we refuse to accept are on their own island. We have made tremendous strides in last 90 days on the technology backbone of what Welltower 3.0 may look like and how far we can raise the bar for resident and employee experience. Welltower's engine room is buzzing with pilots and scaling Around traditional technology solutions like from ERP and CRM to advanced technology solutions around robotics and Artificial Intelligence. Our goal is to elevate the community experience by delighting the customer and their families and simplify and enhance the employee experience, all of which should lead to occupancy

Speaker 3

and NOI growth. Then And

Speaker 2

only then do we have perhaps a shot at earning a long term sustainable return for our owners, which has been less than satisfactory over the last decade. My partners and I are truly inspired and are hopeful that we're turning the corner To achieve multiyear double digit compounding growth rate, while supply and demand backdrop is squarely in our favor, we're Far more focused on the value add alpha from our platform, which you as our fellow owners have funded to build with our blood, sweat and tears. And with that, I'll pass the call over to John.

Speaker 3

Thank you, Sean. I know that it sounds like a broken record, but again, another great quarter. Our total portfolio generated 14.1 percent same store NOI growth over the prior year's quarter, Led by the senior housing operating portfolio with 26.1 percent year over year growth, we are methodically moving forward focused on the customer and We started with brute force, effectively relying on our raw labor to identify issues and opportunities. We continue to improve the systems and processes and organize the data to make data driven decisions to improve the business, And we're just at the beginning. The medical office portfolio's 3rd quarter same store NOI growth was 3.4% over the prior year's quarter.

Speaker 3

Same store occupancy was 95%, while retention remained extremely strong across the portfolio at nearly 93%. The 26.1 percent 3rd quarter year over year NOI increase in our same store senior housing operating portfolio was a function of 9.8 percent revenue growth, driven by the combination of 6.9 percent RevPOR growth, 220 basis points of average occupancy gain and moderating expense growth. Expenses remain in control coming in at 5.1% As Shankh has mentioned many times, the marginal increase in expenses as occupancy continues to grow over 80% is relatively low for obvious reasons. Many of the expenses are fixed. Each property has an Executive Director, Head Chef, Maintenance Director, regardless of the occupancy level, the bulk of maintenance, utility and many other costs are largely factored in at 80% occupancy.

Speaker 3

As a result, our expense per or expense per occupied room continues to remain low, enabling the business to improve the margins. As Shankh mentioned, our export growth for the quarter was 2.4%, the lowest in our recorded history. All three of our regions continue to show strong same store revenue growth starting with the U. S. At 9.6% and Canada and the U.

Speaker 3

K. Growing at 9.7 NOI growth in the U. S, Canada and the U. K. Of 25.4%, 27.1% and 37%, respectively.

Speaker 3

The management transitions continue to perform above expectations. We are grateful to our operating partners who Are working so hard to ensure that we achieve the improved operations that we set out to accomplish in our journey to operational excellence. Our operators continue to do an amazing job of managing through the complexities of the business to provide a superior customer and employee experience. Many of our senior customers were born in the 1930s, the Depression. They have worked hard and sacrificed all their life, And now they deserve to enjoy the fruits of their labor.

Speaker 3

The product and services remain very affordable to a large segment of the population who have purchased Our focus with our operating partners on improving the customer and employee experience benefits all stakeholders. For example, our focus on materially reducing agency labor improves both the customer and employee experience as both are benefited by and knowledge of the community systems and processes. Additionally, eliminating the agency or middlemen enables us to ensure the hardworking people at our communities receive a fair compensation package with vacation and benefits as well as competitive pay and our shareholders benefit from the reduced leakage to the agency company owners. Care is the essence of the service provided And ensuring employees can deliver outstanding care is one of our top priorities. Our operating platform efficiencies will increase the time available for care and reduce the stress on our employees.

Speaker 3

For example, at one site, one of my team members worked at, the Executive Director spends over 3 hours Per move in, inputting the documents into the antiquated systems, the CRM, rent roll and care modules are disparate systems. Our platform has all the documents in e form and the modules are fully integrated, reducing the potential for errors and saving time, which enables the site leader to focus on the customers and employees, not paperwork. We continue to make Substantial progress on our platform and the related rollout. I'm grateful for the engagement and participation by the leadership of our operators who are actively working with us to ensure the success of the platform. More to come in 2024.

Speaker 3

I will now turn the call over to Tim. Thank you, John. My comments today will focus on our Q3 2023 results. The performance of our triple net investment segments in the quarter, Our capital activity, our balance sheet and liquidity update and finally, our updated full year 2023 outlook. Moltell reported 3rd quarter net income Attributable to common stockholders of $0.24 per diluted share and normalized funds from operations of $0.92 per diluted share, representing 10.4% year over year growth or 16.5% growth after adjusting for HHS and the year over year impact from changes in FX rates and higher base rates and floating rate We also reported total portfolio of same store NOI growth of 14.1% year over year.

Speaker 3

Now turning to the performance of our triple net properties in the quarter. As a reminder, our triple net lease portfolio coverage and occupancy stats reported a quarter in arrears. So these statistics reflect the trailing 12 months ending sixthirtytwenty twenty three. In our senior housing triple net portfolio, same store NOI increased 3.9% year over year and trailing 12 month EBITDAR coverage was 0.93 times. In the quarter, we agreed to convert 11 StoryPoint assets in triple net leased to RIDEA, which will bring their regionally focused managed portfolio Up to 55 Midwestern Properties in the 4th quarter.

Speaker 3

Next, same store NOI in our long term post acute portfolio grew 5.3% year over year And trailing 12 month EBITDAR coverage was 1.44 times. Turning to capital activity. We closed on $1,400,000,000 of acquisitions and loans in the quarter, by $618,000,000 of senior housing operating investments. As a reminder, the Rivera PSP joint venture unwind that was announced last quarter We're closed by geography in 3 distinct phases. The U.

Speaker 3

K. Portion closed in 2Q and the U. S. Portion closed this quarter, resulting in $75,000,000 of net investment. The Canadian portion is expected to close by year end.

Speaker 3

In the quarter, we continue to issue through our ATM to fund ongoing investment spend and position the balance sheet for future opportunities. We raised gross proceeds of $1,900,000,000 at an average price of approximately $81 per share, allowing us to fully fund year to date investment activity also extinguished $290,000,000 of debt in the quarter. This capital activity along with continued growth across our business segments including the continued post COVID Within our Senior Housing operating business helped drive net debt to adjusted EBITDA to 5.14x@quarterend, which represents 1.8 turns of deleveraging versus 1 year ago. We expect net debt to adjusted EBITDA to settle in the mid-5s in a pro form a basis Post near term investment activity, they continue to trend downward in future quarters as recovery in our senior housing operating portfolio Along with full capacity on our $4,000,000,000 revolving line of credit and $624,000,000 in remaining expected proceeds from near term dispositions and loan paydowns, representing approximately $6,600,000,000 in near term available liquidity. Lastly, moving to our full year guidance.

Speaker 3

Last night, we updated our previously issued full year 2023 outlook for net income attributable to common stockholders to a range of $0.91 to $0.95 per diluted share and normalized FFO of $3.59 to $3.63 per diluted share or $3.61 per share at the midpoint. Our normalized updated normalized FFO per share guidance represents a $0.055 increase at the midpoint of our previously updated guidance. This increase in guidance is reflective of a $0.03 increase from higher expected full year senior housing operating NOI, A $0.035 increase from capital allocation activity, which assumes no further investment in the year beyond what is closed to date. And these increases are partially offset by a combined penny drag, an increase in expected full year G and A and stronger dollar. Underlying this FFO guidance is an increased estimate of total portfolio year over year same store NOI growth of 11.5% to 13.5%, driven by sub segment growth of outpatient medical 2.5% to 3% Long term post acute 4% to 5% senior housing triple net 1.5% to 2.5% and finally, Increased senior housing operating growth of 23% to 26%, the midpoint of which is driven by continued better than expected expense trends along with revenue growth of approximately 9.8 percent year over year.

Speaker 3

Underlying this revenue growth is an expectation of approximately 2.40 basis

Speaker 2

Thank you, Tim. I want to conclude by turning your attention to 3 items that may not seem as important or exciting for our near term results. On a combined basis, they may actually serve as a drag on our Q4, but nonetheless, it's extremely important to underscore as far as our stabilized Our run rate earnings is concerned. 1st, we have convinced our partner StoryPoint to convert 11 properties From Triple Net to our IDA structure, 9 of these properties were in a historic lease structure with other operators and 2 of them are recent acquisitions. StoryPoint is one of our best operators and a current dryd operator has cleaned up these buildings, improved staffing, service quality and invested significant capital.

Speaker 2

These properties have gained 500 basis points of occupancy since beginning of the year to 70% in September. REPU is up 15% since they took over. Report of the new movements in 2023 is up another 12% from the average of 2023 numbers. This is setting up The stage for significant cash flow growth in 'twenty four and beyond. Debt to equity conversion at the bottom of the cycle, perhaps the most Value accretive transaction we can complete today.

Speaker 2

As we have experienced in our recent Legend conversion, We can expect to breakeven in 12 to 15 months relative to our previous contractual rent, and then our shareholders will get all the upside afterwards. This obviously will work only if you have great assets run by great managers and we're right about the trajectory of the cash flow. And that is the bet I'm willing to take at this point in the recovery cycle. We consider to we continue to seek additional opportunities to achieve similar outcomes When they tick the boxes of great assets and operator quality and when we can expand the pie with our partner so that we can attain a win win solution an outcome for a long term basis. 2nd, Kisco, one of our strongest operating partner measured by margin, occupancy and other operating metrics, Recently marched with another one of our operators, Balfour.

Speaker 2

Balfour, now an affiliate of Kisco, Maintains a dominant position in the Denver Metro area, also has trophy buildings nearing completions in Brookline, in Boston MSA and Georgetown in D. C, both properties opening in 2024. We thank Michael Schonburn and Susan Giraud for their partnership at Balfour and wish them all the best for the next phase of their lives and welcome Andy Kohlberg and his team to take over the stewardship and growth of these communities. Like StoryPoint Communities above, this transaction will be significantly accretive to our stabilized earnings and cash flow growth. Last but not least, when the final stages of Project Transformer, the transaction which I described to you last quarter, With our teams working really hard with Matthew and Frederic at Cogier, our brand launch is coming up in next few weeks And people are on both sides of working at a frenetic pace to achieve seamless transition.

Speaker 2

This is yet another transaction like the others above, which we look back at in 2024 and 2025 and feel really proud to have completed, as they have added to our earnings and cash flow growth despite some near term friction and the tremendous workload for the combined team. Speaking of earnings and cash flow growth, I would like you to provide a report card on the previous large transactions to Avery and Oakmont from Signature and Sunrise that we discussed with you in Q2. Both Avery and Oakmont have grown occupancy of approximately 300 basis points since transitions have began. We at Welltower remain focused on the long term price of getting this business to an elevated level of customer and employee experience and generating earnings per share that is substantially higher than where we came from. To sum it up, The powerful recovery in Senior Housing operating business, the rollout of our operating platform and the significantly accretive capital deployment are all setting us up for an accelerating earnings and cash flow trajectory for 2024 2025.

Speaker 2

With that, I'll open the call up for questions.

Operator

Our first question comes from the line of Vikram Malhotra from Mizuho. Please go ahead.

Speaker 4

Good morning. Thanks for taking the question. I guess, the sort of Great opportunity on the external growth front. We have yesterday we saw 2 of your peers merge And I was hoping you could sort of give us a sense of as that process was explored, have you been Is that something that's been of interest to you or could be of interest to you? And can you compare and contrast that line sort of entity deal with Your sort of more granular approach going forward.

Speaker 2

So Vikram, I don't comment on Other Peoples deals seems like it's a great outcome for both of them. We were not engaged and we will not be engaged In that process, just to be specific, as we said many times, what works for us is One asset at a time transactions, even if we do when we do portfolios, Nikhil is finishing up a portfolio transaction right now of 10 assets that we have gotten, we have picked from a collection of 80, 90 plus assets. So it's sort of We're very, very focused on going deep than going broad in our markets, and we genuinely believe in small transactions With one asset at a time, I believe the median size of assets transactions that we have done in last 3 years, which constitute this $12,000,000,000 or so of

Speaker 5

assets we bought is like $30,000,000 That's what we like.

Speaker 2

That one We bought it's like $30,000,000 That's what we like, that works for us and that's what we'll continue. We have no doubt of opportunities. I mean, it's what we see today, the market is I will not be surprised. You guys recall that We had talked about few years ago there will be potentially $30,000,000,000 of opportunities. As we sit here today, we can say that TAM is actually bigger than that given how much Loans that's coming to you, how much of floating rate debts are rolling over.

Speaker 2

So we have no problem Growing the company, as long as we have access to capital and we can do it on a partial basis. But Large M and A is something that I've never liked. I'm not saying I'll never do it, but frankly speaking, it's just not of much interest to us. And

Operator

Our next question comes from the line of Connor Seversky with Wells Fargo. Please go ahead.

Speaker 6

Good morning out there. Thanks for taking the questions. I've got a 3 part one for you guys here. But on the Cozier transaction, Can you offer a sense as to what occupancy levels look like in the properties earmarked to be managed by the operator in the future? And then is there a way to quantify the NOI upside potential

Speaker 5

from this transaction and ultimately

Speaker 6

the transition of those potential from this transaction and ultimately the transition of those properties. And finally, is that Regency case study outlined in the deck a good example To gauge what that NOI potential could look like for the broader Cozier portfolio?

Speaker 2

Conor, you were talking about, if I understand your question correctly, the Courgier transaction, if you're talking about the properties that Courgier is Taking over from Rivera, the property occupancy is roughly around 80%. And we think that, as you know, What was the other part of the question? Sorry, I missed that.

Speaker 6

So you outlined that Regency case study In the deck for those, I think they were in British Columbia or near Alberta. Is that a good example to use as a gauge for the NOI potential of the broader Cozier portfolio?

Speaker 2

Yes. I think you will see in this particular portfolio that we're talking about the transition portfolio, Regency portfolio, Regency was a very well run portfolio. This quarter still has been able to get that margins, I believe, from around, call it, circa 40% In this particular case, I believe that the improvement will be better and will go from margins will go from, call it, say, up 20% to 40%. I think we should see better enhancement in this particular case than the Regency example.

Speaker 6

Great. Thank you.

Operator

Our next question comes from the line of Juan Sanbria with BMO Capital Markets. Please go ahead.

Speaker 7

Hi, good morning. Thank you. Impressive occupancy acceleration into Just curious what the early indications are for revenue increases to existing customers. I'm assuming some of the late Rate letters, apologies, have gone out already. So just curious how that year over year delta is looking for rent increases to existing customers?

Speaker 7

Thanks.

Speaker 2

So one, as you know, we're sort of finalizing that as we speak, right? That's the discussion we're in. As I mentioned in my prepared remarks, We expect that to be very strong like last couple of years, and that's where we are. We're not Not yet from a purely finalization standpoint, but I continue to believe that we'll achieve Our customers expected an elevated level of service. Costs are not coming down anyplace.

Speaker 2

The business overall for the industry, not just for us, Remain at a suboptimal level of margins where you can attract capital to the business. So all these things putting together, I think you will see strong rate growth. What exactly that is, It's too early to say, but I continue to expect that will be very strong.

Operator

Our next question comes from the line of Jonathan Hughes with Raymond James. Please go ahead.

Speaker 8

Hi, good morning. Thanks for the time. Shankh, could you just clarify the ending comments you gave in your prepared remarks where you said that the Kisco, Balfour merger might be A drag on the Q4, I didn't quite understand why that might be the case. And then maybe one more, if I could sink it in. The show portfolio You outperformed that typical seasonality in the Q3.

Speaker 8

I think that's expected to continue into year end. Is that driven more so by the Related changing same store pool, something else, just any additional color there would be great. Thanks.

Speaker 2

Let me try the first one. So I did not say that specific transaction might be a drag on the Q4. I said the three things that I described together Could be a drag on the Q4, but combined all of them should be a significant driver of growth on 2024, 25 or just call it stabilized Earnings, that's the point I was trying to drive, not specifically about Caresco and Balfour.

Speaker 3

And on your question on The seasonality in the business, you're correct, we continue to outperform the historical seasonality and we are not seeing Major differences between our transition portfolio, as Shankh mentioned, you've actually seen very strong occupancy gains in the transition portfolio, Really greater than what we're seeing in the core portfolio.

Speaker 2

Jonathan, just the core portfolio, as you know, sequential occupancy Growth was around 150 basis points. On the transition portfolio, the 2 I talked about was the majority of the transition we did in Q2. The occupancy growth in from Signature to Avery and Sunrise to Oakmont, both portfolios achieved a sequential occupancy growth of roughly 300 basis

Operator

with Scotiabank. Please go ahead.

Speaker 7

Thanks. Yes, I was hoping to

Speaker 4

get maybe a little bit of

Speaker 9

a preview about how G and A could trend over the next year. And I know this year, there was the build out of John's group and just trying to understand like How far along that is and how that could affect G and A growth over the next year?

Speaker 2

As I mentioned early in the year, I think if you go back to Q4 call, we have at least another year of Elevated G and A increase as a build out of the platform. So you should we have come long, but we have a long ways to go. So G and A versus NOI is just a geography of where you see expenses versus revenues. So we do believe that the Platform build out is paying off, has started to pay off in space. But from a purely just looking purely at G and L item in item, would expect another year of build out, at least another year of build out.

Operator

Our next question comes from the line of Michael Griffin with Citi. Please go ahead.

Speaker 7

Thanks. It's actually Nick Joseph here with Michael. Shankh, I recognize you said you're not engaged, you won't be engaged. Last year, you reportedly got involved in a similar public to public M and A situation within the medical office space. You Talked in the past a lot about being an IRR buyer and cost based focused and that you look at everything.

Speaker 7

So just curious in this situation or more broadly, is it The current valuation and underwritten returns aren't sufficient against the other opportunities that you're seeing. Is it something about medical office that's keeping you on the sidelines here?

Speaker 2

So first thing I mentioned that I don't comment on other people's deals. So I have nothing underwritten, so I can't even comment on what the underwritten Returns looks like, but specifically to Medical Office, I think I provided some color Last quarter that we're unsure at this point where the long term inflation land. And because we're unsure, we are unsure of at this point to make a huge bet on an asset class That we don't know what the growth profile versus the long term inflation looks like, right? So that is a very important point. We are finding opportunities Where we think we can small opportunities, where we can do value add, where buying assets at 70%, 80% We've been seeing leasing up and so that we can see the growth rate higher, but from a stabilized 95%, call it, occupied medical office With a 2.5% increase or whatever it is, the traditional medical office, which provides a good long term stable growth For institutional investors, it's not interesting for us for that one reason.

Speaker 2

And the second reason is, it's always it's Relative opportunities is the question, right? If that's the only thing that was available to us, it will be a different conversation. We're easily picking off Low double digit plus unlevered IRR opportunities in the senior living side, Assuming that we don't add much value, and I'm pretty positive we'll add value. So it's just a question of relative opportunities of where we see overall today and that's why we have no interest. By no means that suggests that we don't think it's a good deal or not a good deal.

Speaker 2

I have no idea what the deal is because I'm not engaged in it. And as I've specifically mentioned, we'll not because of the reasons I just pointed out to you.

Operator

Our next question comes from the line of Josh Dennerlein with Bank of America. Please go ahead.

Speaker 5

Yes. Hey, guys. I have a question on the transitions. Shankh, you mentioned you've been very active in terms of proactive portfolio management and you achieved a lot of Early success recently with Avery and Oakmont. How have these operators driven such strong results so quickly?

Speaker 5

And just How would you encourage us to think about future transitions in the portfolio?

Speaker 2

Yes. I'm not going to answer the first question, Josh, obviously, on a public call, I mean, there are things called trade secrets that you don't want us to divulge on a public company call. But we'll say that this doesn't happen like automatically. As I've said before, we have learned, we have done a lot of transitions over the last, call it, 5, 7 years that I've been doing this and we have learned our lessons from frankly old school way of losing money. We have learned what we have done wrong.

Speaker 2

We have gotten better than sort of we learn how to stop bleeding and then finally have gotten the other side of how do we how we can make an impact, What the prep work you need to do on systems and process and frankly that's what John taught us, right? So it's just it's an evolution. It's a process that we have gotten over Last few years, and I'm very, very happy that we are there. Now from the point of view of Transitions, is it the last transition? Would we do 1,000 more transitions?

Speaker 2

It just depends on the performance. We're trying to optimize our performance. I have said it many, many times that this is a business in our opinion. In our humble opinion, it's a business of optimizing location, product, price point and operator, Right. So we'll keep optimizing it until we think that we're done.

Speaker 2

And that's kind of where we are. It's a journey. It's a journey I've written about that I'm willing to do even if we take short term hits. And it appears at least from near term results, no guarantee of the future, That we have achieved how to even mitigate that short term hit.

Operator

Our next question comes from the line of Rich Anderson with Wedbush. Please go ahead.

Speaker 10

Hey, good morning, everyone. So I want to talk and perhaps to John on the rate number that you mentioned, the RevPOR number of 7% And specifically the sustainability of that type of growth. It's always been my view that there was some sort of implied ceiling Of growing rents for people that are 85 years old. And that at some point along the way that There's just a way of doing business. Now I don't know that there's a real ceiling of some sort, but it always seemed to me that was the case.

Speaker 10

Correct me if I'm wrong. Number 2 though, maybe it involves unpacking the rent, maybe it's rent between rent and care And so that kind of muddies the conversation. But I wonder if you could comment at any level about how rate might grow in the Future considering what I would think would be some pushback for the reasons I just described.

Speaker 2

Rich, let me try to start then and John, you sort of finish anything that I haven't added. So I think your conversation That you have is a reasonable for if you think about long term tenants in the middle of the market, Right. So there is an you have to think about the customer you're talking about. We our rate increases because we have sold majority of our mid market product, Our U. K.

Speaker 2

And U. S. Portfolio is primarily focused on very high end customer, very wealthy customer, and the product remains incredibly affordable to them. And at that level, we haven't seen any pushback. The second point you have to consider, Rich, is you We have never raised rates like you have seen in other asset classes, multifamily storage, others, 20%, 25%.

Speaker 2

We have never raised that, right? So just sort of Rates remains high single digit, whatever, like 8%, 9%, 10% is sort of what we have done. So it's much more sustainable than you think. But put that aside, just understand, put all of those comments in the context of average length of stay. You're talking about an average length of stay of 20 months.

Speaker 2

So we might be here talking a lot for the 3rd year of increase of X percent, but just understand the person who got the 1st year increase, he or she is gone, Right. She's no longer in the community. So if you put all of those together, you will see that if you provide The very important point, if you provide the differentiated services at the highest level, your customer is willing to pay you. Now we are as I've said many, many times, we're not focused on an individual number called a RevPAR or rate, right? We're focused on very much of a delta between RevPOR and EXPOR, and that's what we are I've said that last year and the year before.

Speaker 2

And we shall see what the market gives us, right? I have no idea what the market will give us. If there's a pushback, We will adjust, but we haven't seen any yet.

Speaker 3

Yes. No, I fully agree. It's the difference between RevPOR and ExpensePOR. And it's I think you're probably, Rich, thinking about multifamily where people are there for years years years, and it's a very different situation here.

Operator

Our next question comes from James Cameron with Evercore ISI. Please go ahead.

Speaker 11

Hi, good morning. Thank you. Certainly appreciate the operating leverage embedded in the SHOP portfolio. And I was just wondering if you could provide a little more color regarding labor trends for the general staffing there and what conviction you have and the ability to really continue to sustain Pretty attractive or capitated growth of those expenses. I mean, are you getting longer tenure, so it's lower turnover and lower recruitment costs or Better labor talent pool.

Speaker 11

And again, just thinking more beyond the chef and the general manager, what levers are contributing to Nice profile in terms of growth on expenses for labor.

Speaker 2

Jim, you are correct that we are seeing turnover is coming down significantly. We are seeing that overall availability of employees who wants to be part of our Business and Partific Communities is increasing significantly, and we're seeing that our operating partners are getting better using technology and other to attract talent and keeping them in the business, right? So that's sort of it's whenever you get hit by a crisis, people Figure out ways to do things better. Every crisis makes the business better if it survives, right? And that's what we are seeing.

Speaker 2

And What conviction do we have that the RevPOR minus export journey can continue very significantly For a specific line item on a specific things on a specific quarter, we have no idea. I said this million times. Our goal here is not to predict the future. Our goal is to see what market gives us and do better than market. We'll see what market gives us.

Speaker 3

Yes. I would just add, in my comments, my focus is on productivity. So we want our employees to be paid well. We want Happy employees and happy customers, we also want to increase productivity of the business so that we can Managed to accomplish all of that. So that's really, I think, the take home point.

Operator

Our next question comes from the line of Mike Mueller with JPMorgan. Please go ahead.

Speaker 3

Yes. Curious, how are you thinking about, I guess, senior housing development today? And how do you see starts Potentially trending over the next couple of years?

Speaker 2

Yes. Mike, I'm just going to be repetitive here. I was asked this question at the NIC conference About a week ago or 10 days ago, whenever that was. I'll repeat what I said on that panel. I think if you're a debt provider in senior housing today, you have a better lot going Vegas, and if you're an equity provider in senior housing development today, you have a better life buying lottery.

Speaker 2

I hope that tells you My view of Senior Housing Development is, I don't even understand why there is any start, any, like more than 0, Because the economics doesn't make any sense given where construction cost is, where capital cost is and where the margin of the business is. It should not have any starts and it seems like it's going there. I think any start that you are seeing, people are still playing with other people's money And that's coming down closing down pretty quickly, and I think you will continue to see it's moving there. Mike, did I miss any other part of your question?

Speaker 3

No, that was it. Thank you.

Speaker 4

Thank you.

Operator

Our next question comes from the line of Michael Carroll with RBC. Please go ahead.

Speaker 12

Yes, thanks. Given the dislocation that we're seeing in the private market, is it harder for operators that are having liquidity To provide the same level of care versus your operators that presumably don't have these issues, I mean, are you seeing that in the marketplace All right now and if not, do you expect that this will become a bigger storyline over the next several quarters?

Speaker 2

I can't speak for other people, Mike. I will tell you that we have our operating partners are doing extremely well. And we are getting hit left, right and center with new operating partner who wants to be part of our story. So whether that's because they're inspired To do what John is doing, our data journey or we're trying to professionalize the business on the detailed transformation journey or they're having on their own end or both, I have no idea. But I could tell you that we have literally, I mean, it is we have seen really good investment opportunities, but we have never seen anything like what we are seeing Whether that's because of a pool or a Porsche, I have no idea.

Speaker 2

And we're seeing operators from all parts of the country, in all three countries we do business with, is calling us to be part of this well capitalized extraordinarily well capitalized platform, But also the part of being part of John's platform.

Operator

Our next question comes from the line of Ron Kamden with JPMorgan Stanley. Please go ahead.

Speaker 13

Hey, great. Just a big picture, Juan. So I was looking at the presentation, The NOI the incremental NOI build, I noticed that you guys added a bar here that looks like another $172,000,000 And I've timed back to your comments about the focus on RevPOR versus export. It's clearly a margin A benefit here. So I was wondering if you could talk about that, why add that to the deck?

Speaker 13

Where is this are we supposed to read into it just more confidence And the ability to get back to pre COVID margins is

Speaker 2

the question.

Speaker 3

Yes, Ron. So we added that to Jack through Conversations with both investors and analysts alike, they're looking at it interpreting kind of the stabilized point To be reflective of 88% occupancy and 31% margins, when in fact with the rent growth we've seen since 4th Quarter 2019, basically we're ignoring that rent growth and or with it, we're baking in around 29% margin. So what we wanted to do is just show Getting back to just the NOI level on today's rents means that you're getting to margins that are 200 basis points plus below where we were margin wise in Q4 2019. And what that final bar does, it just shows you getting back to 88 occupancy, 31% margin in pre COVID levels at today's Q3 'twenty three realized rents Where NOI would be.

Speaker 2

And Ron, I've said this before, I'll repeat it again. If that's all we go back to q4 of 2019 level or pre COVID level, I would be very, very disappointed. If you have done this in Q4 of 2019, you would remember, those were not the greatest days of this business, right? So we were getting hit for 4 plus years at this point and through a supply cycle. That is not a high point like a lot of other businesses are, and we're very disappointed.

Speaker 2

That's all we get back to.

Operator

Our next question comes from the line of Jamie Feldman with Wells Fargo. Please go ahead.

Speaker 9

Great. Thanks for taking my question. I'm here with Connor. How should we think about funding assumptions for the next tranche of acquisitions? And then also how does the quality of the assets you're looking at compare to the quality of your existing portfolio?

Speaker 9

Or put differently, how do you assure investors that you aren't moving

Speaker 2

I don't want to assure investors of anything. I think investors are aware of our track record and you guys do a very good job of visiting our Properties, so you can see it. Chasing the risk curve to get investments might happen When things are really, really tight, it is in exactly opposite environment, Amy. And when those environments have occurred in the past, we were massive sellers of assets, We don't chase risk cards to get return. That's just not what we do.

Speaker 2

Now going back to your actual the crux of your question Yes, frankly speaking, the initial part of COVID, what we are noticing was sort of a lot of broken Cash flows, right, assets were 60%, 70% occupied, new development, brand new assets, 3 year, 4 2 year old assets, but broken cash flow because that's normal for a business that had breakeven at 60% occupancy And your marginal sort of return, if you will, or your marginal or incremental margin sort of go hockey state It's normal for that period of time, given how much occupancy we lost during COVID, to have those kind of assets, great assets, broken cash flow because of How the occupancy is and how margins work in this business. That was 2 years ago. Now, 2 years ago, that's what sort of we are seeing. Today, We are seeing broken capital structure. Assets are generating the cash flow that it should be generating At 80% occupancy, 82% occupancy where the industry is, call it 6%, 6.5%, whatever it is, The cash flow yield, that's not the problem.

Speaker 2

The problem is the underlying leverage, which is now so far plus 350, 400 is at 9%. That's the problem. And those loans are coming to you, you are Upside down on a cash flow basis and you're upside down on a leverage basis. And those are the ones that are transacting today. So frankly speaking, the number of trophy billings, number of high quality high, high quality billings, which core investors own, the core real estate owners own that we have seen in last, call it, 6 months, Even last 4 months, I haven't seen the 4 years before that, right?

Speaker 2

And so the quality of opportunities are going up pretty significantly, but It is up to you to decide what is the quality of assets you are buying and we give assets, you can go and visit them And I think you will come to the same conclusion. Did I miss any part

Speaker 3

of the question? Jamie, on your funding question. So in my prepared remarks, I spoke to Kind of a liquidity build and that's as of October 30. So we talked about $900,000,000 in investments just quarter to date closed in October, $1,000,000,000 pipeline ahead of us, we spoke to $2,000,000,000 in cash and $6,600,000,000 of total available liquidity to fund that.

Operator

Our next question comes from Austin Wurschmidt with KeyBanc Capital Markets. Please go ahead.

Speaker 14

Great. Thanks. Shankh, you were crystal clear with your thoughts on why development doesn't make sense broadly in senior housing today, but You did expand the development pipeline. I think it was up $600,000,000 this quarter, roughly half of that was in senior housing. And Clearly, you have a cost of capital advantage today, but I mean is that what gives you the comfort moving forward with these projects?

Speaker 14

And then I'm curious, are developers coming to you to partner on future projects that can't sort of access construction financing? And how does that opportunity

Speaker 2

So I think if I understand correctly, Nikhil, correct me if I'm wrong, all our development starts are either Fully 100% leased medical office developments that we have long term tail or long term contracts with our existing clients Or their Wellness Housing Development. I do not believe that we have started any senior housing development. I don't remember when was the last time we actually started the senior housing development. So because of they all reported in the same bucket, Austin, but they're not senior housing development. They are what in the What we call wellness housing, which is restricted and it is targeted apartments.

Operator

Our next question comes from Juan Sanabria with BMO Capital Markets. Please go ahead.

Speaker 7

Hi. It's Juan here with Juan still. Just a quick question on the investment pipeline. Could you give a breakdown of kind of what you're looking at? And where do you think you see or where are stabilized deals there for what you're targeting in the major food groups?

Speaker 2

Yes. So the pipeline today is, as I said, is I don't know, Nikhil, but it's like 80% plus would be Senior Housing? Yes. That's correct. And mostly, I would say, equity in senior living And probably maybe 90%, but vast majority is senior living And core equity opportunities in senior living, just because of the size, it's just a lot of it is in U.

Speaker 2

S. And we just closed a large transaction in Canada. So if I think about remember it correctly, this almost not entirely, but majority is U. S. Senior Housing, and there are some credit opportunities in the skill side.

Speaker 2

I don't remember Any transaction in the pipeline about any MOBs, but do you know anything?

Speaker 15

Nothing meaningful.

Speaker 2

Okay. And Stabilized yields, I would say in the senior living today, we're targeting close to 8 On a stabilized basis and going in, I think I said last call, we're seeing sort of opportunities that starting at 6, ending at 8, And given the rise of rail rates, we're seeing better than that today. Frankly, we have ratcheted our return expectations higher. So that's sort of where we are transacting. But we're not a yield buyer.

Speaker 2

We're still happy to buy 1% yield, if we think that's the right basis on the right assets, but generally speaking, those are the kind of opportunities we're seeing.

Operator

Our final question comes from the line of Vikram Malhotra with Mizuho. Please go ahead.

Speaker 4

Thanks for taking the follow-up. Nikhil or Sean, can you just update us on the Integra process? How are those assets been performing? And by extension, is there are there additional opportunities? I just asked that because you had Earlier outlined upon stabilization, you might look to sell some of that.

Speaker 4

So would just be helpful to get an update on Entegra? Thanks.

Speaker 15

So, Vikram, so we're pleased with the performance that we're seeing. Last quarter, I talked about the first 33 out of the 147 buildings that have transitioned, in the last quarter, those buildings produced roughly $70,000,000 of positive EBITDARM compared to negative $90,000,000 for the 3 months prior to the transition. Now fast forward another quarter, those same buildings And the 2nd quarter generated $127,000,000 of EBITDARM. So in the 6 months since transition, you're seeing a cash flow swing of $215 plus 1,000,000 and obviously every month continues to be better than the prior month. And so if you look at June and you annualize that, You're roughly $170,000,000 which is north of the rent, right?

Speaker 15

So here we are 6 months in. When we had underwritten this, we thought it would take us much longer, 18 months give or take to get to this point. So we are incredibly pleased with the performance. But we think there's still a long ways to go. So your point about exiting upon stabilization, we're happy with

Speaker 3

the progress, but we're far from stabilization.

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Earnings Conference Call
Welltower Q3 2023
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