Healthcare Realty Trust Incorporated (HR) Q3 2021 Earnings Report, Transcript and Summary

Hello, all, and a warm welcome to Healthcare Trust of America’s Third Quarter 2021 Earnings Call. My name is Lydia, and I’m your operator today. [Operator Instructions] It’s my pleasure to now hand you over to our host, David Gershenson, Chief Accounting Officer. Please go ahead when you’re ready.

Thank you, and welcome to Healthcare Trust of America’s Third Quarter 2021 Earnings Call. We filed our earnings release and our financial supplement earlier this morning. These documents can be found on the Investor Relations section of our website or with the SEC. Please note, this call is being webcast and will be available for replay for the next 90 days. We’ll be happy to take your questions at the conclusion of our prepared remarks. During the course of the call, we will make forward-looking statements. These forward-looking statements are based on the current beliefs of management and information currently available to us. Our actual results will be affected by known and unknown risks, trends, uncertainties and factors that are beyond our control or ability to predict. Although we believe that our assumptions are reasonable, they are not guarantees of future performance. Therefore, our actual future results can materially differ from our current expectations. For a detailed description on potential risks, please refer to our SEC filings, which can be found in the Investor Relations section of our website. I will now turn the call over to Brad Blair, Chairman of Healthcare Trust of America. Brad?

Good morning. And thank you for joining us for Healthcare Trust of America’s third quarter earnings conference call. Joining me today is Peter Foss, our Interim Chief Executive Officer; Robert Milligan, our Chief Financial Officer; and Amanda Houghton, our Executive Vice President of Asset Management. Before we get into discussing another strong quarter for HTA, I wanted to provide some additional insight to the HTA Board priorities and actions, which have certainly accelerated since July. First, we announced the preliminary conclusion of the company’s previously disclosed investigation into allegations reported through its whistle bar hotline. As outlined in yesterday’s SEC filing, the Audit Committee and the company investigated allegations stemming from the whistleblower reports the company received in July 2021. The allegations included claims related to the whistleblower policy and potential retaliation as well as the company’s policies related to personal expense management around corporate cards and corporate aircraft use. Given the seriousness of the claims and the potential impact to those involved. The Board undertook a very thorough and extensive investigation that utilized independent counsel to come to an objective conclusion of fact. Counsel for the Audit Committee worked closely with counsel for the company to conduct an investigation, which involves collection and review of a significant number of documents and interviews of numerous witnesses. The investigation concluded this week and found that the former CEO engaged in conduct that was either in violation of or inconsistent with various company policies as it relates to the whistleblower policy, personal expense reimbursements and personal use of the company aircraft. The financial impact of the inappropriate expenses that were specifically identified in these preliminary findings would not result in any material impact to the company or cause any financial restatements. As a result of these findings, the Board and the Audit Committee have begun a process with the assistance of counsel to address the results of the investigation. The Board and the Audit Committee also intend to enhance the company’s policies and procedures regarding personal expenses and aircraft usage, the whistleblower policy and disclosure controls and procedures. We are encouraged that HCA’s commitment to empowering employees to raise legitimate concerns, coupled with the Board’s seriousness in addressing allegations of inappropriate behavior, has served the greater purpose of ensuring accountability across the organization. As it relates to Scott, our former CEO, declined to be interviewed for the investigation, he resigned of his own volition without any reason. This occurred at a time when the Board was just beginning its investigation process. Since then, the Board has elected to limit any dialogue and has turned this focus exclusively to moving the business forward. We will not make any further comments or statements related to his resignation and respect his privacy at this time. Second, the company continued its search for a permanent CEO. As announced in September, the search is being led by a leading executive search firm and an independent search committee consisting of three independent Board members. We believe the search for a permanent CEO to be a critical component in the Board’s overall evaluation of the strategic alternatives. Lastly, the Board regularly reviews the company’s strategic plan, priorities and opportunities in order to enhance shareholder value. As such, we have been reviewing and continue to review the company’s strategic plan as it continues to evolve amongst viable alternatives. As previously disclosed, we engaged advisers, including JPMorgan, to assist us in fulfilling our commitment to act in the best interest of HTA shareholder. With their help, we are actively evaluating a number of alternatives, including, among others, a corporate sale or merger, joint ventures and partnerships or asset sales. During the Board’s evaluation, HTA will continue to adapt its strategic plan and position the company in its portfolio for growth, success and value creation as we will continue to discuss on this earnings call. I want to stress that there can be no assurance that any transaction result from the strategic review process, and we do not intend to disclose developments relating to this process unless and until the Board has approved a specific agreement or transaction or has terminated its review. We continue to execute and position HTA in its portfolio for growth, success and value creation. That said, the purpose of this call is to discuss our financial results. As a Board, we have split the Chairman and CEO role so that the Board can focus on the strategic alternatives, while Peter is focused on running the business with his capable team. To this end, we will be unable to answer any questions on our strategic evaluations, and we ask that you keep your questions focused on the company’s current performance. With that, I’d like now to turn the call over to Peter.

Thanks very much, Brad. Before Amanda and Robert present our pacific growth for the quarter, I’d like to provide you some of my initial observations as I approach 100 days as the company’s Interim CEO. And believe me, it’s gone by very quickly and with a lot of great events. As you would expect, I have spent a significant amount of my time focused on people, our team, shareholders, our key tenants and health system relationships. And I can report to you that our people are excited about the potential of this great company to turn the page and deliver significant value in ways that we haven’t before. I’ve been fortunate in my career to be associated with some great growth businesses, helping to grow GE Plastics from less than $1 billion to over $7 billion in sales over a 15-year period, and turning the Olympics for GE into $1 billion revenue source for the GE businesses. We and those adventures use both scale, size and capabilities to accelerate growth. That’s exactly the positioning of HTA, a franchise that has size, scale and capabilities that’s ready to be unleashed. In the past few months, I’ve spent my time getting to know our team. In my time as an independent Board Director, we frequently interacted. However, there was no replacement, there is no replacement for the daily interaction as a CEO. I’ve been very impressed with our team’s expertise, sophistication and when it comes to operating our assets and their community of the inherent complexities in the MOB sector, there’s nobody better. While we have a strong team, we’ve added exceptional talent to our company and roles that can help us accelerate our growth and profitability in leasing, in investments and operations. We’re also focused on adding infrastructure to assist in our growth, investments in HR, and technology and market analytics that will help us scale and add value to our larger customers, while also helping us to operate as an efficient team with a relentless focus on delivering value. In this quarter alone, we’ve made great strides in growing and improving our HR team, while also making significant investments in market and health care analytics, adding staff and capabilities that will make us faster and help us be more insightful. We can do that without adding significant costs by working on our structure and developing our people, investments that will pale relative to growth they will produce on the topline. During the past few months, I’ve also spent time touring our portfolio and meeting with many health care leaders. As two of these markets is apparent, the quality of our assets in the communities we play and our health care provider tenants are the best. Our strategy has been clear to establish critical scale in gateway markets with dense patient bases, with assets in an operating platform that can create value for top health care providers. In my time working with GE Healthcare and running various health care foundations, I’ve worked closely with many leading health care providers across the country. As I call them these leaders with members of the HTA team, they are excited about the opportunities to work with each other and move their businesses forward. On top of all this, our team has continued to execute in the third quarter without missing a beat. And despite all the noise that surrounded us, in the quarter alone, we executed leases for 670,000 square feet of space, 227,000 square feet of which represented new leases, the highest levels of new leasing in over four years. This allowed us to increase our same-store lease rate by 0.4%. And for the 450,000 square feet of leases that were renewed in the quarter, our re-leasing spreads were an impressive 2.9%. We also closed on over $130 million of acquisitions and move forward on our development pipeline with more than 300,000 square feet of LOIs currently outstanding on our development pipeline assets. This shows that our team remains focused, while moving things forward. In summary, my first 100 days as Interim CEO, I have further confirmed my views of the company, which were formed over my six years as an Independent Director. It’s clear to me that as a result of our people, platform and portfolio, HTA is uniquely positioned to deliver value to our tenants and our stakeholders. Let me restate that you have my commitment to continue the development growth of this HTA franchise that Scott and this team, great team have created. Now, I’d like to turn it over to Amanda to discuss the quarterly performance and specific leasing activity.

Thank you, Peter. Our operating performance remained strong in the third quarter, highlighted by same-store NOI growth of 2.5%. This meaningful portfolio growth was led by strong performance from both our leasing and operations team. Our new leasing totaled 227,000 square feet was one of the highest levels since 2017 driven by growth in markets like North Haven, Dallas and Charlotte. Our teams have seen a notable pickup in new leasing activity and increased willingness of health systems and physician partners to invest long-term in our assets as reflected in the increasing level of term for new leases over seven years for the last two quarters. In addition to new leases, we had over 400,000 square feet of renewals that resulted in 83% retention for the same-store portfolio and rent growth of 2.9%. Year-to-date, leasing activity has totaled over 2 million square feet with nearly 600,000 square feet coming in the form of new leases. Our annual escalators for new leases signed in the third quarter were 2.7%, reaching 2.8% on a year-to-date basis, continuing our trend of increasing escalators to approximately 3% as we manage lease expirations in our portfolio. As a result, our leased rate increased on a sequential basis by 30 basis points for same-store pool. Despite inflationary pressures, expenses in our same-store portfolio this quarter increased only 1.2% year-over-year. This minimal increase is a testament to our operating team’s ability to efficiently operate our assets and the benefits of having a scaled platform like ours in order to deliver cost savings to our tenants. I’ll now turn the call over to Robert.

Thanks, Amanda. Our financial performance in the third quarter remained strong, as highlighted by improved portfolio performance with same-store NOI growth of 2.5%. Normally, the FFO per share held during the quarter at $0.44, an increase of 2.3% versus 2020. Bringing our year-to-date earnings to $1.32 per share, which is up 3 – over 3% compared to 2020. Our normalized FAD was $78 million and year-to-date normalized FADs up 4% from 2020 to $248 million. Our G&A remained consistent at $10.8 million, less than 10% of NOI. This includes approximately $0.5 million of costs related to our whistleblower investigation, with costs for our new CEO, Chairman compensation being offset by the elimination of unvested shares related to our prior CEO. As a result, we were able to re-conform our previous guidance for the full year tightening the range, but leave the midpoint intact. From a balance sheet perspective, we ended the quarter with $1.2 billion of liquidity and net debt-to-EBITDA of 5.8 times, including the impact of unsettled Ford equity agreements totaling $218 million. In October, we refinanced our $1.3 billion unsecured credit facility, resulting in a reduction in our borrowing cost and an additional four years of term, including extension options. In terms of acquisition activity, we closed on four previously announced MOB acquisitions in the quarter totaling $135 million and an anticipated in place year one yield of 5.7%. These acquisitions increased densification in our key markets and brought our year-to-date investment activity to $188 million. We have an additional $159 million of acquisitions under contract or exclusive letters of intent that we expect to close prior to year-end. Including the $69 million of loan funding commitments to projects in Houston’s Texas Medical Center of $54 million that was funded through third quarter 2021, investment activity is expected to total over $400 million. From a development perspective, in the third quarter, we completed core and shell construction on time in our development project in Dallas with cash rents expected to commence before the end of the year. In addition, we have a development pipeline of five projects in various stages in the pre-leasing process, totaling almost $400 million and over 850,000 square feet of GLA, highlighted by our strategic partnership with Medistar Corporation to codevelop the Horizon Power on the Texas and Innovation Plaza in the Texas Medical Center. Following quarter end, we made a strategic investment in Pivotal analytics, an OptumHealth partner and an innovative company that is applying the tremendous data and insights that can come from the billions of health insurance claims completed on an annual basis to the physical world, with an ultimate goal of improving the decision-making process for healthcare providers around strategic office locations, the impact of referral patterns and also best efforts around service line implementations. While relatively small from a monetary basis at $6 million, this investment in their Series A provides us with a preferred position to grow and utilize the tools being developed by this innovative company. That way, we can leverage – in a way that we can leverage as we execute our strategic plan. Outside the specific numbers in the quarter, we believe HTA is very well-positioned to accelerate our earnings as we head into 2022. This is in part related to several steps that we are intently focused on from a strategic perspective, including investing in our talent and infrastructure. As Peter noted, we will always operate with focus and efficiency. However, we believe that growing the overall capabilities of our team will provide tremendous returns and drive growth within our portfolio and on an external basis. This includes a focus on training and alignment but also an investment in headcount to add additional leasing, investment professionals and market research, also adding additional infrastructure that can help us streamline our operations to add efficiency. Second, we’re focused on markets and data analytics to drive performance. We already have great teams on the ground, but are supplementing that with a greater focus on analytes to drive the depth and intelligence that’s needed to really outperform in ways that improve our capital allocation decision-makingm improving leasing performance and adding value for our customers. Our investment in Pivotal is just one effort that we have undertaken to better position our teams. Third, by aligning capital sources with the reality of the MOB marketplace. Simply put, the public markets do not always value the stable growth of MOBs. To remain competitive, we must diversify our capital sources in ways that enable us to execute on the unique opportunities that we see as the leader in this space. From a practical perspective, this should drive upside growth in the following ways. First, through occupancy upside. Our occupancy was 88% as of September 30. We believe a realistic run rate occupancy for our portfolio is closer to the 92% to 93% range, which is consistent with the broader MOB market and which we have achieved prior to COVID. Achieving this occupancy gain would result in almost 1 million square feet of absorption and could result in $16 million to $20 million in incremental annual NOI. We believe this to be achievable given that some of our highest growth markets currently contain meaningful amounts of occupancy upside, including Houston and Dallas and Charlotte and Phoenix. These four markets, each with strong underlying operating fundamentals account for nearly 900,000 square feet or 1/3 of the 2.7 million square feet of leasable space as of September 30. Second area is by driving development. We believe that the development will come in multiple ways. First, with the traditional health system RFP, where we will compete to win pre-leased projects. However, these are extremely competitive, driving the pricing down. The real opportunity is using our market intelligence from both tenant and local market relationships and our balance sheet flexibility to proactively identify key areas of growth for health care providers and creatively structure medical office opportunities for which providers will compete. Third area is by pursuing joint ventures. Private market interest in medical office has never been higher. As seen across other REIT sectors, partnering with private capital joint venture partners is an attractive path for growth, allowing established public companies to leverage our operating platform and expertise while benefiting from access to currently lower cost private capital. In a space that has seen several regional operators raised $1 billion funds, we believe we are uniquely positioned as a best-in-class operator where many can and should want to partner over the long-term. Fourth area is through asset sales. In addition to the JVs, we’ll be utilize this competitive market to sell assets that no longer fit our strategic plans. These are great assets, just happen to be located on markets or assets for which we believe we maximize value. Assets that we can sell at great pricing and redeploy into other opportunities for the benefit of shareholders. In short, HTA has a number of opportunities on which to execute to drive performance in the short to medium-term. With that, I will now turn it over to Peter to wrap it up.

Thanks, Robert, and thanks, Amanda. Before open up for questions, I just want to make one more comment. First, I just want to say thanks to all the HTA folks for welcoming Brad and I into a pretty difficult situation when we weren’t expecting and they weren’t expecting. But you folks have done a wonderful job, kept the focus. The results speak for themselves. I’d also like to thank Brad, you couldn’t have a better partner than Brad. He’s kept focus on his side of it, let me focus on the operations with Robert and Amanda and a great team. So I to say thanks to all of you for letting us continue in such a nice fluid manner. With that, we’ll open up the call for questions. Thank you.

Thank you, Peter. [Operator Instructions] Our first question today comes from Rich Anderson of SMBC. Rich, your line is open. Please go ahead.

Thanks. Good morning out there. So the comment was made early that a permanent CEO is critical as you look around for strategic alternatives. And I’m trying to overlay that with the process. I know you’re not going to talk about it, but that would imply that you’re primarily looking at an entity level type of deal. No CEO is going to come in if they’re going to get bought by another REIT and be gone 10 minutes later. So I’m curious if that’s the right way to think about it is as an entity level type of transaction primarily perhaps through private equity channels? Any kind of color you can give on that would be interesting. Thanks.

This is Brad, Rich. As we have announced our search committee engaged Spencer Stuart to assist with the reach or the search for a new CEO. We continue to conduct that process in a robust way in and we intend to do that with this prospect that we will identify the appropriate person to lead HTA. I believe that the characteristics of HTA will give us the opportunity to interview a number of such people. And we would not considered as we’re addressing just a stand-alone that we want to make sure the company has continued to advance itself and be prepared in whatever event might come out of our process.

Okay. And if I could just ask a very quick follow-up, same-store was 2.5%. Occupancy was down 150 basis points. How would that possibly happen? Maybe that’s for Amanda.

Yes. Rich, our – on a quarter – sequential quarter-over-quarter basis, we were up about 30 basis points quarter-over-quarter, same-store 40 on the total portfolio. In the first quarter, I think we had pretty low retention, but we still are getting our existing portfolio, the close to 90% that’s occupied. We have the existing rent bumps in it. So while on a year-over-year basis, we’re down slightly with our existing escalators in place and the new leases that we’re doing, favorable leasing terms of those, I think that’s driving much of the revenue increase which results in NOI growth.

And Rich, also, keep in mind, last year is when we had a number of kind of early renewals as part of our strategy of really working with health systems to work through the COVID process. So I think in the prior year period, we had a number of leasing concessions, free rent that was the result of early renewals, that drove revenue down. So even though we had occupancy down on a year-over-year basis, the total amount of cash pay revenue was not nearly as impacted as it was on an occupancy basis. So that’s really how you get to that math.

Okay, thanks.

Thank you. Our next question today comes from Nick Joseph of Citi. Nick, your line is open. Please go ahead.

Just want to better understand what the strategic review process involves. Is the adviser actively soliciting bids and being proactive on outreach to potential bidders? Is there a data room set up? Just any more color on the mandate there.

Well, I appreciate you understand the question. As we addressed in the board-related matters in our prepared remarks, we will have to limit our comments with respect to this process. We’ll continue to be guided by JPMorgan and advising us in this process. And that’s about all I can tell you about the process details.

Yes. I mean I guess a process is pretty broad, right? I mean is there – I recognize on this call, you’re trying to stick to the current quarter results, but is there going to be another opportunity to expand on what exactly that mandate is?

Well, the mandate is to review all alternative options and we have such a conclusion as to one or none, we will certainly bring that to your attention. But at this stage, we can’t comment any further about the details.

Thanks. And then just maybe on the whistleblower news that you guys filed yesterday. I mean, are there any continued investigations or complaints outstanding? Or was that everything that was related to the whistleblower from three months ago?

The investigation of the facts has concluded. And as we indicated in our press release, the Board will be reviewing circumstances that need to be improved and/or addressed in the final conclusion process.

Were there any other employees disciplined or terminated related to the whistleblower findings?

We’re not at liberty to talk about those. Thank you.

Great. Thanks, Nick.

[Operator Instructions] Our next question comes from Juan Sanabria of BMO Capital Markets. Your line is open.

Hi. Just following up on Rich’s question on the CEO search. Is it the intention to have somebody in the seat before the strategic review process is complete in whatever form that takes?

We can’t comment on any time lines on how and when that closes and gets completed. But we will rely on the search committee and Spencer Stuart to give us the best outcome possible. And I can’t, as I said, comment on any time lines.

Okay. And can you comment if you’ve received any unsolicited bids as of yet into the Board for the company in one form or another.

Once again, we can’t comment on that.

Okay. And maybe just 1 last follow-up for me, given the property of the answers. Just on joint ventures, can you talk about that as the sourcing for attractive capital and how far along you may or may not be with partners on discussions? And would that be focused on new assets for acquisitions where you come in as a minority partner perhaps or something where you contribute existing assets?

Yes. Juan, this is Robert. And we can probably comment a little bit more about this. It is one of the options that I think the Board is looking at and frankly, that we’ve been looking at for some time. I think we look at it at the number of really high-quality capital sources that are out there that really would like to get a foothold in the medical office space as a real opportunity to get private capital that comes in that definitely has kind of different timing and different return requirements than what the public markets do for us right now as something we can forward with. Just over the past quarter, you’ve seen a couple of really smaller regional operators announced kind of billion-dollar funds and the ability to move forward with it. So I think as we look at it, it’s an opportunity both to potentially sell assets into a joint venture with a seed portfolio and take those proceeds and reinvest them or do other things with them as well as the opportunity to grow on a go-forward basis. So I think from a timing perspective, obviously, the Board is looking at kind of all sorts of options that we’re preparing to go down that path and have a number good conversations currently in the works, and we’re excited about what that opportunity could be for us.

Thank you.

Our next question is a follow-up from Rich Anderson of SMBC. Rich, your line is open, again.

Just one question, promise. When you think about cap rates in the marketplace and let’s say, a one-off deal is a five cap, just to use a round number. What is your experience on portfolio premiums? And if you were to be a buyer or a seller, what type of lower cap rate from a five would you be interested in making a deal?

Well, Rich, that’s a very specific question you’re asking there. So we’ll try to be a bit broader on that. I think in the marketplace in the MOB space, you certainly have seen portfolio premium take place. As we’ve talked extensively, as we’re announcing our acquisitions, we’ve been very much a buyer of single assets that typically gives 25 to 50 basis points more cap rates at least in the current environment on top of which we typically get another, call it, 25 to 35 basis points of synergies from our property management platform. So I think when we look at the current marketplace over the last six to nine months, as you’ve seen with some of our peers and some of the other transactions, there are certainly a 25 to, call it, 50 basis points premium for portfolio assets. Sometimes even more than that, if there’s the ability for – to acquire a platform to be able to partner with somebody and see that growth opportunity go forward from there.

Does that premium get bigger, much bigger as the portfolio gets bigger? Or is 50% kind of the ceiling? Could it be much more than that if you’re getting into a much larger type of transaction?

I think that’s probably a question that we haven’t seen a super large portfolio. I mean, I think the biggest one that we’ve seen was certainly by our good friends out of Milwaukee, that they did up there. And I think it’s a very high-quality transaction, and I think you certainly saw a very competitive pricing around there relative to the individual assets. I think it’s a little bit hard to compare on it, but high-quality assets, as you can see, are very well valued. So especially when you get a good operating partner that can help you grow in the space. So – and it’s not just that. I think we’ve seen it, like I said, with the announcement of both acquisitions as well as announcement of joint ventures with really two other – two to three other operators that we’ve seen just this quarter alone in this space. So I think it’s hard to project exactly what it is. But it’s certainly in the 25 to 50 basis points for the deals we’ve seen, but truly large deals have been relatively in the space.

Thanks very much. Appreciate it.

Thanks, Rich.

Thank you. [Operator Instructions] We have no further questions in the queue, so I’ll hand back to the management for closing remarks.

Great. Well, I think we just want to thank everybody for joining us on the call today, and we look forward to having additional conversations next week as part of the virtual NAREIT session and appreciate all your interest in HTA in the MOB space.

Thanks very much for your time.

Thank you.

This concludes today’s call. Thank you for joining us. You may now disconnect your lines.