Good day, and welcome to the Diversified Healthcare Trust Fourth Quarter 2022 Earnings Conference Call. All participants will be in a listen only mode [Operator Instructions]. Please note, this event is being recorded. I would now like to turn the conference over to Melissa McCarthy, Manager of Investor Relations. Please go ahead.

Good morning. And welcome to Diversified Healthcare Trust call covering the fourth quarter 2022 results. Joining me on today's call are Jennifer Francis, President and Chief Executive Officer; and Rick Siedel, Chief Financial Officer and Treasurer. Today's call includes a presentation by management, followed by a question-and-answer session. I would like to note that the transcription, recording and retransmission of today's conference call are strictly prohibited without the prior written consent of Diversified Healthcare Trust or DHC. Today's conference call contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995 and other securities laws. These forward-looking statements are based upon DHC's current beliefs and expectations as of today, Thursday, March 2, 2023. The company undertakes no obligation to revise or publicly release the results of any revision to the forward-looking statements made in today's conference call, other than through the filings with the Securities and Exchange Commission, or SEC. In addition, this call may contain non-GAAP numbers, including normalized funds from operations or normalized FFO, EBITDA, net operating income, or NOI, and cash basis net operating income or cash basis NOI. Reconciliations of net income or loss attributable to common shareholders to these non-GAAP figures and the components to calculate AFFO, CAD or FAD, are available in our supplemental operating and financial data package found on our Web site at www.dhcreit.com. Actual results may differ materially from those projected in any forward-looking statements. Additional information concerning factors that could cause those differences is contained in our filings with the SEC. Investors are cautioned not to place undue reliance upon any forward-looking statements. As we've previously disclosed in February, we agreed to tender all of the Aleris Life Inc. common shares we currently own in connection with the tender offer and proposed acquisition of AlerisLife Inc. by ABP Acquisition, LLC. In light of the pendency of the tender offer, we do not intend to speak to these matters on today's call and instead refer you to our current report on Form 8-K we filed with the SEC on February 2, 2023 and to the offer to purchase filed by AlerisLife Inc. with the SEC on February 17, 2023, for additional information. Now I'd like to turn the call over to Jennifer.

Thank you, Melissa, and good morning. Thank you for joining us on today's fourth quarter and year end 2022 conference call. 2022 was a year of recovery for Diversified Healthcare Trust, as we executed on our plan to deploy capital across our portfolio and support the operators and asset managers that are implementing the recovery strategy in our senior living communities. All of our operators have been successful in growing occupancy and revenue during the year, while they worked diligently to battle inflationary pressures that are impacting labor, utilities, food and other expenses across our portfolio. Rick and I will provide details this morning on some of their successes and also on some of the challenges still to overcome in the year ahead. After market closed yesterday, DHC reported normalized FFO of $0.03 per share for the fourth quarter. The year-over-year and quarter-over-quarter improvement in normalized FFO from negative $0.07 per share and negative $0.06 per share, respectively, was largely driven by continued improvements in three areas within our SHOP segment during the fourth quarter; first, growth in net operating income and operating leverage for the quarter and the year; second, an acceleration in occupancy recovery and rate growth during the quarter; and third, a decrease from the third quarter in the use of contract labor and the associated costs. Starting with the positive trends in our SHOP segment. Many of our metrics are trending positively, but most notably, occupancy improved 380 basis points year-over-year to 76.3% and same property occupancy also increased 380 basis points year-over-year to 76.7%. We're continuing a consistent trend of improvement as this is our seventh consecutive quarter of occupancy growth in this segment as we saw a 180 basis point increase in occupancy from the last quarter in our same property occupancy and a…

Thanks, Jennifer, and good morning, everyone. For the fourth quarter, we reported normalized FFO of $0.03 per share. Adjusted EBITDA for the fourth quarter was $59.7 million, up $23.9 million or 67% from the third quarter. Our consolidated cash basis NOI increased approximately $18.9 million from the third quarter with growth in each of our segments. Cash NOI from our SHOP segment increased $13.6 million while our office portfolio segment increased $3.5 million or 12.3%, and our triple net leased senior living communities and wellness centers increased $1.8 million or 21.5%. These increases were partly attributable to certain events specific to the quarter. First, in our SHOP segment, we recognized an insurance recovery of $3.6 million related to expenses recognized in the third quarter due to Hurricane Ian. In our triple net leased senior living communities and wellness centers, we recognized $3 million of percentage rent as we do each year during the fourth quarter, which was partially offset by an $800,000 decrease in cash NOI related to the wellness center default that Jennifer just discussed. Finally, we recognized a lease termination benefit of $3 million related to one of our office redevelopment projects when we had the opportunity to negotiate a favorable termination as the tenant was at risk of default. I'll next provide additional detail on our SHOP segment performance that I believe illustrates the work we and our operators have ahead of us and the opportunity for the portfolio. Our total SHOP NOI for the fourth quarter of $7.9 million included 119 communities operating with 11,582 units that had negative NOI totaling $18.7 million or NOI margins of negative 16%. Approximately 44 of these communities have occupancies over 75% and will focus on growing rates and controlling expenses to return to profitability. The remaining 75 communities will…

[Operator Instructions] The first question comes from Joshua Dennerlein from Bank of America.

Just kind of curious how you guys are thinking about the SHOP recovery going forward? And then maybe I know you've done some CapEx to the properties, like additional CapEx you might want to put in, and if there's any additional kind of -- you mentioned sales training that the operators are putting in place. Like any kind of additional initiatives that might kind of help get that kind of kicking up higher going forward?

I think that the operators, the training in marketing and sales is really having an impact. The other thing that they're -- I mean, one of the other things they're focused on is making sure that their leads are qualified leads. We've spent a lot of time talking about growth in leads over the past couple of years. And instead of thinking about the number of leads, they're extremely focused on making sure that the leads that they do spend time on are qualified leads so that we then have higher conversion rate, that's just one of the many things. I mean there are improvements across the board that they're focused on. As far as the capital, we will continue to spend capital in this portfolio this year and next. It's been extremely well received by the residents and the communities and by the employees. And it just makes the quality of the employee experience and the resident experience better. And so we have some great projects in the queue, in the coming two years.

Is there any way you can kind of quantify the spend on that additional kind of CapEx you're planning [Technical Difficulty] properties over the next two years?

Sure. Rick?

So we spent a little over $300 million in 2022 and about $228 million of it was in the SHOP portfolio. We expect it to continue kind of at that level for 2023 as well. We do have some flexibility and can be pretty nimble in adjusting which projects are moving forward at which time. A lot of the planning is done and we're really getting to the execution phase, which is great. But I would say that SHOP portfolio likely to get about $225 million or so in 2023. And then I guess we'll see how the results come out. But I expect to see some really great returns on that cost throughout the portfolio, generally in the high teens, low 20% returns. So we'll have the ability to pivot them into 2024 but it will really depend on what the cost of capital looks like and everything else. But it should be -- we're really excited about the potential growth in the portfolio.

[Operator Instructions] The next question comes from Bryan Maher with B. Riley.

And sorry if I missed any of this, my call got dropped for a moment. But on the SHOP rates up 8.9% year-over-year, a little bit higher than what we were expecting. Can you give us a little bit of your thoughts on how you think that, that plays out over 2023? I know you guys don't guide, but maybe some commentary on the momentum there.

Our operators are pushing rate across the board, and we'll continue to do so with -- everybody sees what's going on with inflation and cost increases. So there's really -- there's a good story in pushing rate. In addition, some of the sales training that we talked about or that we've been talking about is also sales training for having those difficult conversations with the residents and families of the residents about pushing rate and overcoming objections. So it's not just sales to the outside, but it's also sales training on defending rate increases. So we expect to see similar increases in the coming year.

And I don't know if you're comfortable commenting on this, but you've had pretty good momentum on the occupancy side lately. I know that you look at trade rags and what have you, and some of your competitors, they talk about 1Q typically being a little bit seasonally weaker. But do you think that, that puts a kink at all in the current momentum you have?

I don't think so. I mean traditionally, Q4 and Q1 are a little slower, but we were able to kind of beat the trend in Q4 and January was trending pretty well. So no.

And I think we'll continue. We're expecting to have similar momentum.

And then maybe one more for me before I hop back in the queue for Rick. I know that the big bogey out there is the second half trying to get to that incurrence covenant at 1.5. I know that there's some noise in the numbers because you just paid down the facility, $250 million or so. But even looking at the 4Q over 3Q momentum in net debt-to-EBITDA metrics, which improved hugely and EBITDA to interest expense, again, improved hugely, can you give us any flavor on how you're thinking about the incurrence test? [Technical Difficulty]

It appears we have lost connection with our speakers, please hold while we reconnect. [Operator Instructions]. We currently have Bryan Maher on the question queue.

I don’t know if you guys heard my question or not. Can you hear me now?

Yes, we can. And Bryan, we did and apologize, our line went dead so we quickly called back in. I think Rick is prepared to answer your question.

Great. Because my e-mail lit up as soon as you guys dropped off.

So I think the question, just to recap is basically when -- how close are we to the 1.5 times debt incurrence test so that we can refinance and operate like like normal. So you probably noticed we reported in the supplemental on a trailing 12 months basis that consolidated income available for debt service over debt service was about 0.83 times. If you adjust that for the acquisition that we did and the couple of properties that we've sold along with the debt paydowns that have happened, kind of on a pro forma basis for that we're at about 1.04 right now. And that leaves us with needing to improve NOI by about $74 million to get back to compliance. So we do believe there's a path there. The question as far as when is a difficult one to answer. There are a lot of moving variables. But we think we're executing on the right plan, again, investing in the SHOP portfolio, while also very focused on managing them operationally is we think the recipe for success to get back there. This number is only about 53% of where the portfolio used to perform back in 2019. So we think it's achievable. We just need to actually execute on it now. So that's where all of our focus is.

And just to be clear, I mean, in our model, we have you getting there by year end. We'll see how that plays out, but the trends are clearly moving in the right direction. But maybe you can just talk to briefly, and then I'll hop back in the queue, kind of plans B and C if that weren't to happen? I mean you continue to talk about $5.8 billion in unencumbered assets. I would suspect that you could sell some or JV some to kind of get where you need to be for 2024, if push came to shove?

There are a couple of levers. You're correct that we could -- we have some great MOB and life sciences assets that many investors are interested in. So whether it was a disposition, more likely a JV. The other thing is our capital spend, while we believe that the capital spend is pretty important, we've planned it in a way that it's being done in phases so that we -- some of our -- or many of our large capital projects are broken up into Phase I, Phase II, Phase III. So we can get through Phase I and then assess whether we continue on to Phase II, and then, again, Phase III. So we do have the ability to regularly think about the projection of that capital spend.

[Operator Instructions] This concludes our question-and-answer session. I would like to turn the conference back over to Jennifer Francis, President and Chief Executive Officer, for any closing remarks.

Thank you, and thanks to everyone for joining our call today. Operator, that concludes our call.

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.