Medical Properties Trust, Inc. (MPT) Q3 2014 Earnings Report, Transcript and Summary

Good day, ladies and gentlemen and welcome to the Third Quarter 2014 Medical Properties Trust Earnings Conference Call. My name is Tony and I’ll be your operator for today. At this time, all participants are in listen-only mode. Later we will conduct a question-and-answer session. (Operator Instructions) As a reminder, this conference is being recorded for replay purposes. I would now like to turn the conference over to Mr. Charles Lambert, Managing Director. Please proceed.

Thank you. Good morning, everyone. Welcome to the Medical Properties Trust conference call to discuss our third quarter 2014 financial results. With me today are Edward K. Aldag, Jr., Chairman, President and Chief Executive Officer of the company; and Steven Hamner, Executive Vice President and Chief Financial Officer. Our press release was distributed this morning and furnished on Form 8-K with the Securities and Exchange Commission. If you did not receive a copy, it is available on our website at www.medicalpropertiestrust.com in the Investor Relations section. Additionally, we are hosting a live webcast of today’s call, which you can access in that same section. During the course of this call, we will make projections and certain other statements that may be considered forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These forward-looking statements are subject to known and unknown risks, uncertainties and other factors that may cause our financial results and future events to differ materially from those expressed in or underlying such forward-looking statements. We refer you to the Company’s reports filed with the Securities and Exchange Commission for a discussion of the factors that could cause the Company’s actual results or future events to differ materially from those expressed in this call. The information being provided today is as of this date only and except as required by the Federal Securities laws, the company does not undertake a duty to update any such information. In addition, during the course of the conference call we will describe certain non-GAAP financial measures, which should be considered in addition to, and not in lieu of, comparable GAAP financial measures. Please note that in our press release, Medical Properties Trust has reconciled all non-GAAP financial measures to the most directly comparable GAAP measures in accordance with Reg G requirements. You can also refer to our website at www.medicalpropertiestrust.com for the most directly comparable financial measures and related reconciliations. I will now turn the call over to our Chief Executive Officer, Ed Aldag.

Thank you, Charles and good morning, everyone. Last week we announced a little over $1 billion in new investments. This is in addition to the $320 million already announced by us earlier in the year. As a consummation of these transactions, MPT’s total assets were approximately $4.5 billion. Since the beginning of 2011 our assets have grown at a compound annual growth rate of 33%. With the strategic growth we have done over the last few years combined with this most recent announcement, we have greatly improved the value of our portfolio through the performance of our properties, geographic diversification, operator diversification and size. In the announcement last week we announced the acquisition of 40 facilities with MEDIAN Kliniken located throughout Germany, an acute hospital in West Virginia with Alecto Healthcare, an acute care hospital in Texas with Alecto Healthcare, a freestanding emergency department in Alabama with Med Center West, an affiliate of the University of Alabama Birmingham, and three additional rehab facilities in Germany with our existing German tenant RHM. Each of these investments are strongly immediately accretive. Let me start with the largest of these acquisitions, the $900 million MEDIAN transaction. The MEDIAN acquisition is our second large investment in Germany. Germany is a great place to do business. We know the German rehabilitation market, we like the German healthcare market and we all know the strength of the German economy and that Germany is the economic backbone of the Eurozone. The rehab market is viewed very favorably by the German regulators and payers. The regulators and the payers see this market as a way to reduce cost from the traditional acute care hospital segment and, very importantly, as a way to get people back in the workforce and to avoid costly long-term care. German law requires that…

Thank you, Ed. We'll go right into the operational results and then discuss a few events that will impact comparable future results and then some additional detail about the MEDIAN and other recent acquisitions before we go into questions. Normalized FFO per share for the quarter was an expected $0.27 per diluted share, an 8% year-over-year increase compared to 2013. Similarly, year-to-date FFO per share was up 8% over 2013 results to $0.79 per diluted share. Operationally, the quarter benefited from the acquisition in September of the Alecto Fairmont Hospital, in July of the CircleBath Hospital in England and throughout the quarter of the completion and placement into service of eight First Choice ERs. We sold the Bucks County Hospital in July, resulting in the loss of annual income going forward of approximately $3 million. We'll discuss go forward run rate guidance in just a few minutes. Ed has given you some more background on the $900 million MEDIAN acquisition, so let me follow up with further detail. We continue to be optimistic that the German equivalent of the Federal Trade Commission will clear the transaction to close in the first quarter of 2015. Once the majority purchaser, Waterland Private Equity, completes that acquisition, we expect to purchase and lease back the 40 clinics starting about 30 days later, with completion of all 40 also in the first quarter of 2015. Of course there is now assurance that regulatory or other impediments will not delay this time. The contractual purchase price of the real estate is €705 million, about $900 million. For GAAP purposes, certain taxes may result in an all-in GAAP allocation of up to €730 million. Accordingly, we expect the yield on our investment to approximate between 9.2% and 9.5%. This includes the straight line effect of a…

(Operator Instructions) Your first question comes from the line of Karin Ford of Capital Markets. Please proceed. Karin Ford – KeyBanc Capital Markets: My first question is just on your portfolio and where you -- where it is today and where you'd like it to be. Can you just talk about what percentage of the portfolio you'd like to have in Europe ultimately versus the U.S. and how your pipeline is sort of shaping up to, sort of, manage your longer-term goals on portfolio exposure?

Karin, in the near term, near and medium term, we expect that our exposure in Western Europe on the total portfolio basis will be somewhere in the 30% range. Now that may spike up a little bit as we do transactions and then come way back down as we do U.S. transactions. But overall if there ever were a stable point, it would be somewhere in that particular range. Karin Ford – KeyBanc Capital Markets: And then on the MEDIAN close, it sounds like that's still a little bit of a moving target. But it sounds like it should be sort of late first quarter, early second, is that your current thought?

No. I think it will be much sooner than that. As Steve mentioned, the only thing holding back the closing at this point is the approval from their equivalents of the FTC. We hope that that will occur sometime this year, probably sometime in December. Karin Ford – KeyBanc Capital Markets: And then your sale leaseback would close 30 days after that?

Well, that will probably close sometime in the middle of the first quarter and as each one of the municipalities waive their right. Karin Ford – KeyBanc Capital Markets: And then, what's driving the changes in the coverage levels that you saw across the three different segments of your portfolio? What sort of -- what's been the -- what are the emission trends you're seeing and what are the sort of overall fundamental dynamics?

It wasn't much of a decline. If you go back to the numbers, they were slightly down to hardly down at all. Most of it's attributable to the typical third quarter slowdown that you see in the summertime. Some of it is attributable to a softer market in the California than the rest of the country. Karin Ford – KeyBanc Capital Markets: And then my last question is just on Monroe. The cash rent that Prime will pay, does that commence immediately upon the closing of their purchase?

Yes, it does. And lease rolls into the Prime master lease. So we have all of the credit benefits of Prime’s master lease structure.

Your next question comes from the line of Mr. Michael Carroll of RBC Capital Markets. Please proceed.

How many other assets does MEDIAN operate outside of the assets you agreed to purchase?

Well, they have two other acute care hospitals, but it is essentially the whole company.

I thought you said in your remarks too that if the local government decided not to or decided to exercise its right to purchase one of the assets, then MEDIAN would give you an asset similar to the ones that the government decided to buy?

That’s correct. That’s because they are in an acquisition mode and have other acquisitions planned.

They've already identified to the extent that that would be necessary, which frankly we think it won't be. They've already identified over €140 million in new assets that they are in the process of acquiring.

It is highly unlikely, Mike, that any of the municipalities will exercise that right. They had that same right on the RHM transaction and didn’t exercise any of those either.

So, is MEDIAN buying those assets themselves or is that something that you could partner with them?

You mean in the their acquisitions that they are doing, an additional acquisition?

Yes.

We expect to acquire those assets in a straight sale leaseback, not in a partnership type structure, just like we are doing on the large transaction.

And then how many additional international markets is MPW interested in outside of the UK and Germany?

Mike, we haven’t identified the specific countries other to say that it’s Western Europe and there is less than a handful of it we are looking at right now.

So most of the near-term investments on the international side will be still in the UK and Germany?

We just haven’t made that announcement yet.

And then, in Germany, are you more interested in rehab hospitals or you're also interested in general acute care hospitals?

Right now we are just interested in the rehab market. We know it very well. We are very, very comfortable with it. It’s a very, very strong market.

(Operator Instructions) Your next question comes from the line of Mr. Juan Sanabria, Bank of America. Please proceed.

I was just wondering if you could give us a little bit more color on that 5% stake you took in MEDIAN and what the implied valuation was and what the potential CapEx commitments or commitments towards future acquisitions they may do. And excuse me if you just answered this, the line kind of cut out for me.

No problem, Juan. It cut out for us also. The 5.1% is a totally passive, immaterial from a dollar value standpoint. And again, we are prohibited from saying just how immaterial. It carries no obligations. There's no CapEx obligation. If in the highly unusual and unexpected circumstance that there needed to be a capital call, it’s entirely up to us as to whether we participate in that capital call or not. Obviously we did not. We'd be diluted. And again, we have no assumption in our guidance that there is any income that comes from that.

And then can you just talk to the 1.7 times coverage for MEDIAN and kind of what made you comfortable there? At face maybe it seems a little low to what I guess we're typically used to expecting it. And if you could also give us a sense of the coverage with the U.S., the new acute care hospital coverage levels.

Juan, as you saw in the press release, it’s more than 1.7. It’s actually almost identical to the going in coverage rate when we bought Ernest Health. It is a very typical going in coverage rate for us on post acute care LTACs and rehabilitation hospitals. Well, we expect that number to be shortly up above the two times coverage and we expect to continue to grow modestly from that particular number. It's a number that we've always said in underwriting the post acute care sector that we've always been very comfortable with. The roughly 1.7 times to 2 times coverage is what we underwrite from a going in basis. For the acute care hospitals, we like to see the coverage on a stabilized basis to be in the 3 times range. For the Alecto facilities, as Steve mentioned, these facilities we expect will get to those heights of coverages in short order. They're not there now, but we expect they will get there in short order.

And those are the turnarounds just because there's just a recently new operator, is that the story?

Well, in West Virginia, it's very similar to the situation that we had in Hoboken and in the Bayonne where you had a not-for-profit operator and a for-profit operator coming in and taking control of the facility. We expect to see the same types of results here that we've seen in other situations where we've had that particular instance. There is a lot of low hanging fruit when you had that type of situation. The facility down in Texas was a not-for-profit for a very long time. It was then operated by a joint venture with Texas Health and LHP that never really fit in their portfolio. LHP didn't -- never really managed that facility as they have their other facilities within their particular model. So it will fit better with the Alecto model.

And can you give us any sense, given both MEDIAN and RHM are controlled by private equity, as to the leverage that they are using at those two operators and kind of a sense of how much flexibility they may have from a balance sheet perspective?

Well, I mean you can look at -- we're purchasing them. And the coverage, which again as we mentioned, is at least at 1.7 times and our view when we look at that coverage is not necessarily what's the corporate level debt, it's what debt and what operating metrics are down at the location. So just for example, you can go back to the transaction we did about this time last year with IASIS, which if you look at it from a corporate level, is fairly levered. But the hospitals are generating very strong profitability and that's our concern. So that if we had to make a change for whatever reason, the hospitals are doing well and you can leave the corporate debt behind and easily replace an operator with new capital at a business that's generating, again as we pointed out, at least 1.7 times profitability coverage. So it's a long-winded answer, but it's basically corporate level debt does not affect our credit and our remedy availability if in fact we had to take remedies under our leases.

I'm not sure if you're asking this particular part of the question or not. But in the ways you asked it, it brought up a point that I want to be sure to make. MEDIAN represents about 6% of the total market in Germany. The RHM portfolio represents about 1.5 times to 2 times, I mean 2% of the total market. So combined, they will control roughly 8%, 8.5% of the total rehabilitation market in Germany. The most important factor for the payers in Germany is quality of care. When they're doing their payer contracts, they make sure that they're doing it with facilities that generate great patient outcomes. The MEDIAN facilities, the management team that's in place there has been in place now for about two years or three years. They have a great plan. We think that they will continue to grow in the market. And the synergies between the two we think will help very much in the total operation of the portfolio.

(Operator Instructions) Your next question comes from the line of Mr. Chad Vanacore of Stifel. Please proceed. Chad Vanacore – Stifel Nicolaus & Company: So, it sounds like there is going to be some excess tax leakage in the German assets. Can you give us a better picture of why that is and then what the magnitude is?

Well, there's really not, Chad. The tax that I mentioned earlier is the transaction tax. You'll find even in the state, there are many states and other jurisdictions that charges stamp duty or a transfer tax on a real estate transaction. That's all that we're talking about here. when there is a transfer of ownership, there is a tax to be paid regardless of whether there is profit. So we're not talking about income tax leakage at all. And to the extent there is local income tax, which in the case of MEDIAN there is not, we would have rolled it into the guidance. But all we're talking about is the transfer tax.

We don't expect any ongoing tax leakage here, Chad. Chad Vanacore - Stifel Nicolaus & Company: And then, a large part of your portfolio is now in German market. So what would you point investors toward for them to get comfortable with that aspect?

Well, it’s all the things that I have mentioned in my presentation earlier. There's various material that we'd be glad to share with people. We'll put it up on our website, some of it's there already. It is a very strong and stable market. It is a great economy, a great healthcare market particularly in the rehabilitation area.

Your next question comes from the line of Ms. Karin Ford of Capital Markets. Please proceed.

Just a couple of follow-ups. Can you give us an update on the re-leasing efforts on the two hospitals currently operated by Community Health?

(Operator Instructions) Ms. Karin Ford of Capital Markets, please proceed.

I didn’t hear, but the very first few words of your questions.

Yeah. Sorry, cut out there. I apologize. Can you just give us an update on the status of the re-leasing for the two hospitals currently operated by Community Health?

Yes. We've gone through a process, we've had approximately five or six people indicate an interest on the facilities and that seems to be moving well.

And then just last question. Can you give us a sense of when you expect timing on the permanent financing for the acquisitions? Do you expect it to be relatively close to closing or is it basically could be any time?

Well, it will be, as I mentioned earlier, when market conditions are appropriate, when we do have more clarity on the timing of closing. We have got a very, very robust pipeline. We continue to work other transactions. So the development of those will also impact timing. We want to take the opportunity we have right now to get in front of investors and make sure that the current and prospective investors have all the benefit of the information we have about not only this particular transaction, but the German market and its strength. So again, a long-winded answer, Karin, but it comes back to we just don’t know. We have a lot of flexibility and we will keep our eye on the markets.

And we have plenty of liquidity to close the transaction as is and we will try to make the best decision on when the right time it is to make permanent financing.

Your next question comes from the line of Mr. Juan Sanabria of Bank of America. Please proceed.

Just with regards to your European exposure, I mean, if I recall, previously you'd said that you'd expect that exposure to remain similar to what it was just when you had the RHM exposure. Now, you've had a big increase with MEDIAN. I mean, how should we think about the exposure going forward? I know you kind of discussed it. And then how do you feel comfortable given the European economy and sort of increased weakness as of late?

Juan, we have said in many of the recent calls and meetings that we have had that we expected the near-term to be in the 15% to 20% range. Now we had this opportunity come available to us. We believe that this is an outstanding acquisition. It’s a very strong acquisition, one of the strongest acquisitions that we think we could have made. So despite that you saying about what we had indicated most recently is exactly that, just a spike. Now in answering the question where we think we will be in the mid-term, we think that the 30% range is the right target. Now that doesn’t mean that we will stay there or get there. It means that we may be slightly above that at times and we may be way below that at times as the acquisitions fall out. As far as the economy and the recession standpoint, let me address that the same way that I addressed the U.S. recession that we had in 2008, 2009, 2010 and so forth. During that time period, our hospitals performed exceptionally well. People get sick in good times and they get sick in bad times. During that time period when many other companies were struggling with cash flow issues, our hospitals actually saw their EBITDAR coverage grow from roughly 3.5 times to over 4.5 times. So we see that the hospital portfolio, the hospital industry is never going to be a high-flying industry, but it also does well in all types of economies. When you look at Europe, take Spain in particular, Spain's a country that suffered greatly during the worldwide recession. Yet, Spanish hospitals actually saw their EBITDAR increase during that same time period by roughly 35%. So it's more than just looking at the overall economies. Obviously, that's very important. Now look at the strength of their governments in those particular countries. But take Germany as a particular example. Germany has one of the strongest balance sheets in all of the world. It is certainly and has been throughout the recession the backbone of the Eurozone and that the German healthcare in particular is well funded with a very large surplus with not the deficit issues that other countries such as the U.S. is seeing.

Ladies and gentlemen, thank you for your participation in the question-and-answer session. We will now proceed with closing remarks.

Tony, thank you very much and thank all of you and we apologize for the technical difficulty in some of the Q&A process. But again, thank to all of you for listening. If you had any further questions, please don't hesitate to call us. We'll be glad to get back with you. Thank you very much.