National Health Investors, Inc. (NHI) Q1 2016 Earnings Report, Transcript and Summary

Hello ladies and gentlemen. Welcome to the National Health Investors First Quarter 2016 Conference Call. During the presentation, all participant lines will be placed to a listen-only mode. Later, we’ll conduct a question-and-answer session. [Operator Instructions] A quick reminder, today’s conference is being recorded Friday, May 6, 2016. It is now my pleasure to turn the conference over to Colleen Sullivan. Please go ahead.

Hello, everyone. Welcome to the National Health Investors conference call to review the company’s results for the first quarter of 2016. On the call with me today is Eric Mendelsohn, President and CEO; Roger Hopkins, Chief Accounting Officer; John Spaid, Executive Vice President of Finance; and Kevin Pascoe, Executive Vice President of Investments. The results as well as notice of the accessibility of this conference call on a listen-only basis over the Internet were released this morning before market opened in a press release that’s been covered by the financial media. As we start, let me remind you that any statements in this conference call which are not historical facts are forward looking statements. NHI cautions investors that any forward looking statements may involve risk or uncertainties and are not guarantees of future performance. All forward-looking statements represent NHI’s judgment as of the date of this conference call. Investors are urged to carefully review various disclosures made by NHI in its periodic reports filed with the Securities and Exchange Commission, including the risk factors and other information disclosed in NHI’s Form 10-Q for the quarter ended March 31, 2016. Copies of these filings are available on the SEC’s website at www.sec.gov or at NHI’s website at www.nhireit.com. In addition, certain terms used in this call are non-GAAP financial measures, reconciliations of which are provided in the company’s earnings release and accompanying tables and schedules, which has been filed on Form 8-K with the SEC. Listeners are encouraged to review those reconciliations provided in the earnings release, together with all other information provided in that release. I’ll now turn the call over to Eric Mendelsohn.

Thank you, Colleen. Hello, everyone, and thank you for joining us. I’m excited to say that NHI is off to a stellar start in 2016. We have quite a bit to talk about today with over $142 million of investments year-to-date. These investments speak to NHI’s ability to grow and create value for shareholders. A big part of that is forming partnerships with high-quality operators, who are committed to providing exceptional care. We’re very proud of our operating partners, and I’m excited to say that we formed a new relationship with the Ensign Group. The Ensign Group has over 16 years of skilled nursing and senior living operating experience. They currently operate over 200 healthcare facilities, along with other healthcare lines, such as home healthcare agencies and urgent care clinics across 14 states. Their balance sheet and operating metrics are solid, last quarter reporting over $1.3 billion in annual revenues with great corporate credit. We’re excited to have them as a partner and look forward to working with them. We also recently closed a mezzanine construction loan with the purchase option with the senior living communities, which Kevin will tell you about shortly. Before we get into the details of our recent transactions, I’ll turn the call over to Roger to discuss the quarterly financials. Roger?

Thanks, Eric. Hello, everyone. For the first quarter of 2016, normalized FFO was $1.16 per diluted share, while normalized AFFO was $1.04 per diluted share, which represents a 2.7% and a 5.1% increase, respectively, over the first quarter of 2015. Normalized FAD for the first quarter increased $1.07 per diluted share, which is a 3.9% increase over the first quarter of 2015. These results reflect the timing and volume of investments made in 2015 and 2016, particularly our construction loans and new development activity, which are being funded monthly throughout 2016 and into 2017. We announced our purchase of $118.5 million in skilled nursing facilities and a new 15-year lease with the Ensign Group after March 31. Our revenues for the first quarter increased 5.9% over the same period in 2015. Our interest expense increased to $10.3 million in the first quarter, due mainly to our terming out of $100 million of borrowings on our revolving credit facility to higher fixed-rate private placement debt in November of 2015. Our general and administrative expenses for the quarter were $2.9 million, or 4.9% of our revenue, and declined approximately $900,000 compared to the first quarter of 2015, due mainly to the lower non-cash compensation expense related to stock options granted to all employees and directors. Due to the immediate vesting of a portion of stock options granted during the first quarter of 2016, our non-cash compensation expense was $980,000 during the first quarter, or as it is expected to be approximately $250,000 in each of the next three quarters. We currently expect our general and administrative expenses to be in the range of $2 million to $2.5 million per quarter for the remainder of 2016. In March, we completed the previously announced sale of one skilled nursing facility to our tenant in Idaho for proceeds of $3 million and a gain of $1.6 million. This gain is offset for tax purposes by our current dividend return of capital. Moving on to our construction loan and development activity, we continue to fund our mortgage and construction loans for Timber Ridge, a premiere entrance-fee community in Issaquah, Washington. We have funded $98.9 million thus far, and estimate, we will fully fund our $154.5 million commitment by the end of this year. As we have previously disclosed, we estimate that we will receive repayment on our construction loan in 2017, leaving our mortgage loan balance of $60 million for which we have scheduled a 10-year maturity. In our $55 million development program with Bickford to construct five new assisted-living and memory care facilities, we have funded $25 million as of March 31 with approximately $20 million to $25 million to be funded by the end of 2016 with the remainder in 2017. In the first quarter, we reported a 5.9% increase in our quarterly dividend to $0.90 per share, or $3.60 on an annual basis. We currently estimate our dividends for 2016 to result in a normalized FFO payout ratio in the low 70% range, and a normalized AFFO payout ratio in the high 70% range. Moving on to guidance for 2016. At this point, we have no change to our guidance ranges given in February. Our expectations for our investment pipeline remain on track and the financing arrangements by which to fund them. We do not include an estimate of investment volume in our guidance range. We estimate normalized FFO in the range of $4.82 to $4.88 per share, and normalized AFFO in the range of $4.29 to $4.33 per share. Our Board of Directors has consistently incentivized management and employees to achieve increasing normalized AFFO per share and the regular dividend per share by competitive benchmarks in relation to our peers. We have been able to meet and exceed these benchmarks for each of the past five years and have exceeded the average of those metrics for our peer group of diversified healthcare reach during that period. Our normalized results for 2016 include expected non-cash charges to net income of approximately $14.5 million, or $0.37 per share in the second quarter related to our transition of the master lease of 15 skilled nursing facilities from Legend Healthcare to the Ensign Group. For accounting purposes, we are required to write-off accumulated straight-line rent receivables and intangible assets related to the termination of the purchase option previously held by Legend. There is no purchase option in the current lease with the Ensign Group. I’ll now turn the call over to John, who will discuss the capital plan and balance sheet metrics.

Thank you, Roger. The execution of our 2016 capital plan continues on track and in line with our expectations. Our balance sheet metrics for the quarter ending March 31, 2016 were net debt to annualized EBITDA at a conservative 4.1 times, weighted-average debt maturity at seven years, weighted-average cost of debt at 3.73%, and our fixed charge coverage ratio at 5.7 times. Turning to our revolver, as of March 31, we had $56 million outstanding with an available capacity of $494 million. Moving on to the ATM. We did not make use of the ATM during the first quarter. During the fourth quarter of 2015, we monetize certain securities held for investment and converted our LTC preferred stock to 2 million shares of LTC common stock. We then fold 1 million of the common at an average price of $42.16 per share. As of the March 31, 2016, we continue to earn 1,293,000 shares at LTC common stock. Interest rates continue to supply – support a favorable equity and debt market for us, with the yield on the 10 year U.S. Treasury declining through the first quarter. As we move forward with our 2016 capital plan, we intend to fund our future pipeline investments using cash from operations, proceeds from a revolver, proceeds from further LTC stock sales, proceeds from privately placed unsecured debt and proceeds from additional ATM issuances. The timing of mix between these resources will be based upon the timing of our needs and future market conditions. With that, I will now turn the call over to Kevin Pascoe, who will cover portfolio details and new investments.

Thank you, John. As Eric mentioned earlier, we are very proud of our operating partners. They demonstrate a passion for carrying for others as well as the drive to be the best provider in their respected markets. This translates in quality outcomes for their customers and ultimately financial success. This is demonstrated in the credit quality of our tenants and the portfolio coverage ratios. With respect to our overall portfolio, the EBITDA uncovered ratio was 1.96 times. Our skilled nursing coverage is a robust 3.05 times and our senior housing portfolio is steady at 1.25 times. National HealthCare Corporation, which accounts for 19% of our cash revenue, continues to be a strong performer with corporate cash coverage of 3.87 times. As a reminder, NHC accounts for half of our skilled nursing revenue and enjoy some of the strongest credit metrics in the public healthcare sector. Holiday Retirement represents 16% of our cash revenue. As a result of recent management changes, we have met with the new management team in Holiday and continue to monitor the portfolio closely. The occupancy on the portfolio remains consistent at 90.9% for the quarter. The EBITDARM coverage ratio was 1.21 times at quarter end and portfolio metrics have been steady so far in 2016. Our relationship with senior living communities accounts for 16% of our cash revenue. The SLC portfolio has an EBITDARM coverage was 1.19 times on a trailing 12 month basis as of the quarter end. SLC increased occupancy each quarter during 2015 and occupancy is held up in 2016. Typically, second and third quarter each year is the best sales months and initial indicators of positive so far this year. The Bickford joint venture accounts for 13% of our cash revenue, the same store portfolio EBITDARM was now includes two additional properties moved over from focus properties is at 7.9% sequentially and up 3.9% from same quarter in 2015. We are pleased with the improvement this quarter, but are still very mindful of competitive wage and benefit pressures facing the industry. Occupancies continue to improve, revenue per unit is strong and four of the five development projects are underway with three expected open by the end of the third quarter and the remaining site is planned to break ground soon. Moving on to new investments, in March, we entered into a $14 million construction mezzanine loan agreement with senior living communities for the development of the senior housing community in Daniel Island, South Carolina near Charleston. The loan has an annual interest rate of 10%, a maturity of five years. The loan will be funded monthly and is expected to be fully funded by the end of 2016. Construction on the community has begun, and is expected to be completed by the end of 2017. Wellmore of Daniel Island will have 186 unites consisting of 90 assisted living unit 48 memory care units, and 48 skilled nursing units. NHI will have a purchase option of the property, once the operation has stabilized. Turning to the recent Ensign transaction, in April we purchased a skilled nursing facilities in Texas for $118.5 million. The facilities have a total of 931 beds and were operated by Legend Healthcare. Legend sold all their current operations to Ensign and NHI has agreed to enter into a new 15 year master lease. The lease includes the total of 15 formative Legend facilities, it has an initial annual lease payment of $17.75 million plus an annual lease escalator based on inflation. The lease has two five-year renewal options and also includes a corporate guarantee from Ensign. Upon entering into the new lease, the purchase option is held by Legend were terminated in a NHI sold two of its existing facilities to Ensign. These two Texas facilities totaling 245 beds were sold for $24.6 million. The net acquisitions and dispositions bring NHI’s investment in the 15 facilities to approximately $211 million. In addition and as a part of the transaction, NHI has committed to purchase four skilled nursing facilities in Texas from Legend for $56 million and lease spent to Ensign. The facilities are in various stages of development and the purchase window for the first facility will open in early 2017. Turning to our pipeline, our pipeline remains very active with a healthy level of senior housing and skilled nursing opportunities under review and we continue to receive off market opportunities from our existing client base. With that, I will hand the call back over to Eric.

Thank you, Kevin. NHI is off to a strong start as we head into the second quarter of 2016. I’m very exited about the company’s growth profile as we continue to partner with high quality operators and execute on our strategy for growth combined with low leverage. With that, we will now open the line for questions.

[Operator Instructions] One moment please for the first question; and our first question comes from the line of Juan Sanabria with Merrill Lynch. Please go ahead.

Hi, good morning guys.

Hey, Juan.

Just a quick question on the Ensign transaction, if you look at the incremental amount of capital committed, the implied yield is it bit lower that you would have expected sort of sub 7%. How should we think about that, does that imply the rent coverage maybe under existing portfolio that was in place with fundamental had a sort of we coverage that that the rent need to be adjusted somehow or do we just going to pay a higher price or lower yield for the net incremental investments?

Juan, this is Eric. The way and it was Legend as opposed to fundamental, the way we thought about that deal was you had a higher yield in existing rent stream and the new buildings that were coming in were at a market and competitive rent rate to account for Ensign’s better credit, public company status and national footprint. So when we blend that two together, that’s how we look at it. You also have to remember that we eliminated a purchase option with Legend, which was essentially an overhang on that revenue stream, so all those factors together went into the 8.4% rent rate.

Can you comment on the coverage on the portfolio with fundamental prior to the transaction and how you value that purchase option in the transaction?

Well, we don’t comment on specific operator level coverage with Legends. The purchase option value was based the – if I recall it correctly, I’m looking at Kevin here. The purchase option was at fair market value purchase option. So it would’ve been the difference between fair market value and our basis in the property.

There was a split in the option, as it was originally contemplated. So we were sharing in 50% of the difference between our basis and fair market value.

Right.

So they were getting a very good deal on that purchase option, and then clearly an income stream would be going away.

Okay. And, Kevin, I think you touched on this on the idea a little bit, but the expenses seem to jump pretty significantly. Is there any sort of timing issue, or is that really just wage pressure coming through, kind of, how should we think about that going forward, or maybe if it was impacted by some of the new properties or the focus properties going into the overall same-store pool?

Yes. So the expenses would have jumped because of the same – the focus properties coming over. There is still an element of wage pressure, which we’ve talked over the last couple of quarters. I think if you look at a sequential quarter, the expenses actually ticked down, which was good. A lot of that had to relate to some of the benefits and some of the other – some one-time type of the investments that we’re in last quarter. So, it’s still something that we’re focused on. But as I mentioned on the call, we’re pleased to see the sequential quarter improvement, but still very mindful of some of the elements that they’re facing, which have not – I would not characterize them as subsiding yet.

And just one last follow-up for me. Just on skilled nursing, we’ve had some public commentary by kindred and HealthSouth about volume pressures and maybe some of that going from skilled nursing to home health. With your new discussions with Ensign, given that they do have a home health business, kind of, what are they seeing and what are your general thoughts on that?

Yes, it’s something that you’re thinking about as well. I can’t speak for Ensign specifically in terms of, where they are with that. But we are seeing volumes go down, at least, length of stay go down on the Medicare side. But they are able to supplement it with home health. And they’re looking at various business lines to make sure that they’re being able to track the patient and deliver the quality outcomes for that patient and not have the recidivism or some of the other issues that would cause problems for them. So it is definitely something that they were focused on.

I would add to that, Juan, that with larger operators like Ensing and with NHC, once you’re in their ecosystem whether you’re treated in the building or with their home health or pharmacy or hospice, you still remain in the ecosystem. So whatever revenue stream is leaving the building could still get picked up by an Ensign or NHC entity after you are outside the building.

Thank you.

Our next question comes from the line of Jordan Sadler with KeyBanc Capital Markets. Please go ahead.

Thanks. Good morning. I waned to just follow-up on sort of the acquisition pipeline, what you’re seeing out there in terms of activity, in terms of pricing?

You know, and this is Kevin. I would say pricing is still consistent. We’re still seeing a fair amount of activity in the market for both senior housing and skilled nursing. But yields are – it kind of depends on which markets you’re looking at. If you’re on larger MSAs, your primary markets, I would say the yields are still kind of near – they are kind of all time lows, if you will. But in some of the secondary markets, there’s a little bit of relief, which is where a lot of our communities are. So we feel like there’s some decent purchasing opportunities out there for us something we continue to work and evaluate our pipeline with. Very – opportunities on both skilled and senior housing, but in all markets, we’re not drawing any bright lines in terms of what markets we’re looking at right at this point.

Okay. And then what is your appetite, I guess, on the senior housing side, obviously either you’ve made some new investments here. But I’m just curious, what the level of appetite is, given where we are in the cycle and maybe, Eric, you can kind of refresh us on what your view of – where we are in the cycle is for senior housing?

Well, I think the cycle is getting long in the two. And we are still looking for senior housing, that’s our favorite product. But I would point out that the majority of the transactions that we’re pursuing are from our existing stable of operators and we very rarely win in an auction scenario, that’s not our favorite way to to grow. Those aren’t the kind of deals that we usually end up succeeding with. So when you see a senior housing transaction, it’s going to be with an existing operator that’s uncovered an opportunity in their market that makes sense for us. We still continue to keep dry powder. You’ll notice our leverage is a low 4.1 percentage of EBITDA. And that gives us the opportunity to stretch if we find a good value.

With 35% of your portfolio in discretionary senior housing, are you looking maybe opportunistic from an asset management perspective, given sort of Kevin’s comments regarding pricing being near record highs, cap rates at record lows, and your commentary of the cycle being long in the tooth?

We are opportunistic. I mean, there are still values out there that we’re finding. If you have a good operator, you can sometimes pickup a building that has substantial upside. The difference being, as it reads, we don’t want to buy on forward pro forma earnings. We want to buy on in-place trailing earnings and sometimes that disqualifies us right out of the gate. We’re just not willing to budge on that disciplined approach to underwriting.

But I guess on the other side of things – on the disposition side, you’re not looking to mitigate downside, per se, in terms of cash flows or properties that are – seem more susceptible to – or at higher risk to seeing some downside here cyclically?

So are you – I’m not sure I understand. [Multiple Speakers] That’s where – okay. That’s the punch line. We actually did sell one building this quarter that was an older SNIP building we sold it to the tenant, right. And then we had sold also [Multiple Speakers]

Senior – I’m thinking senior housing, would you sell a senior housing asset today?

I would. I would, if it were one that we thought was the passed its prime and it – and it was taking too much attention from the operator. When I was at Emeritus, there was a constant churn between bringing in new buildings and selling older buildings that were either CapEx, hogs all or in markets that had drifted. Sometimes the right side of town changes over the years and you could have a building that’s 15 or 20 years old that ends up being on the wrong side of town. And there’s always a market for those buildings. So that’s a constant conversation we have with our operators. And as a REIT, we’re reluctant to sell buildings, but sometimes it makes sense.

Okay. I’m not sure I 100% follow that last line, I’m thinking that you’re – so you’re reluctant to sell buildings, but I’ll continue. The other question is just regarding the holiday coverage that you reported in the quarter, I think, Kevin, 1.21 times EBITDA?

That’s correct.

What you said – Kevin, do you have that on the EBITDAR basis and what would that coverage look like after CapEx and maybe just how that’s trending?

We don’t talk about – we don’t give EBITDAR coverages on our customers. But generally what I would say is that, it translates to 0.1 to 0.2 on a coverage when you flow through management fees and some element of CapEx to the properties. And it’s been, in terms of how it’s trending, it’s been essentially flat over the last couple of quarters.

Okay. And are you concerned that property cash flows will go down at all, or cyclically are you kind of comfortable that they’ll be maintained, or grow from here next 12 to 24 months?

Well, Jordan, as you probably know, holiday had some turnover in their C-suite. So we have flown out and met with management face-to-face and listened to their updated business plan and projections. So for the time being, we’re willing to give them the benefit of the doubt, and they seem very focused on improving the performance of the portfolio, so too soon to tell.

And for Jordan, for what it’s worth as I mentioned in my comments, so far in 2016, their metrics have been consistent. So like Eric said too soon to tell, but it’s – there’s no trend developing, at least, not to the negative.

Okay. Thank you.

Our next question comes from the line of Chad Vanacore with Stifel. Please go ahead.

Hey, good morning, all.

Hey, Chad.

So I’m looking at shop portfolio and looked like it had a nice rebound from the fourth quarter. Can you add some color into how that portfolio increased its occupancy so much?

A portion of that is the – moving over the focused property that does include one construction facility, so there will be some lease up within the number. But then they just – they’ve had steady occupancy over the last quarter. And so it’s part of that is moving the buildings over and then part of it’s just additional volume in the buildings.

Okay. But even your focus property looked like it had improved, is that right?

Well, so that’s just – now that’s one building whereas it was 3. So, again, it’s taking out the construction from there, the one that’s left is a fairly stabilized building, it’s just new to the portfolio, which is why then focus. So once it becomes stabilized and is in the portfolio for five quarters and we’ll move it over.

All right. Thanks, Kevin. And just staying with the same-store shop, revenue per unit increased 3.3% year-over-year, but was flat sequentially. Why didn’t we see any sequential rate growth? And then is there any discounting involved there to gain occupancy?

No there’s not discounting, and that’s a philosophical belief for Bickford. What they’re seeing within the portfolio is, they take care of a higher cutie resident typically. So what – and they’ve had a some more turnover over the last couple of quarters. So they’re moving in healthier residents and more acute or frail residents have moved out. So why – that’s why it’s kind of looks like it’s stagnating is, because you have a lower acuity resident moving in, so there’s less charges associated with that.

Okay. So it’s a more ancillary service related?

Yes, we’ll look here, it is.

Okay. That’s right. So also on the NOI growth 3.9% on those same-store portfolio, is that a reasonable assumption going forward or should we expect expenses to increases or moderate from here?

Well, Chad as a former operator I hesitate to predict growth just when you think things are going great someone old quit or a building will have a admission band. So we’re pleased with the performance. It’s trending in the right direction. And Chad what I’d add there is, our – a lot of our growth and the building we have performed very well, margins are great. With some of the expenses admittedly, there is a little bit of compression. But a lot of our growth has been coming through the developments and those continue to move forward and we’re very excited about those. So we see growth in the relationship until it is one thing I would say.

Right. And, Chad, I’ve said this before on other calls, we’re – a good example of the flipside of development and oversupply, these are the new buildings and these are the buildings that are filling up faster. So, at least, for the time being, we seem to be on the right side of the new supply issue.

All right. Well, thanks for your time this morning.

Thank you.

Our next question comes from the John Kim with BMO Capital Markets. Please go ahead.

Thanks, good morning. Eric, you mentioned with Ensign transaction willing to pay premium to have a high quality public partner adding to your existing NHC relationship. Is this part of a defined strategy to grow with some of these more national diversified operators?

Well, we have a couple of public companies that we do business with, Brookdale is one of them, NHC is one of them, now Ensign. I know that it gives the street comfort to have built visibility into our tenants. But short answer to your question is, no, I’m not pivoting the focus of NHI to go after large publicly traded companies. It’s really a function of an opportunistic transaction where we had a tenant that was interested in exiting based on our visibility at industry conferences and just calling on potential customers. We knew that Ensign was interested in growing in Texas. So Kevin was able to do some matchmaking, and it worked out really well. So our focus is still smaller regional operators and that’s where most of our growth comes from.

And so what kind of cap rate differential are you underwriting for like an Ensign versus regional operator X for the same portfolio?

This is Kevin. I don’t know that I have a defined answer for you. As Eric mentioned, this was opportunistic. There was a an element of market rent associated with these. But there’s some – definitely Ensign attracts a premium and their balance sheet is fantastic. So we would – there’s a premium associated with it. But I’d be hesitant to give you a defined number, but I would think that probably be, at least, worth 25, 50 basis points, if not maybe a little more.

Okay. Can you elaborate on Legend’s decision to exit these assets? Are they exiting this business, or just this region?

So this is Kevin. They’ve exited for the time being. They are – they have evaluated other business opportunities. I think they are taking sometime to reset at this point and figure out what they want to do going forward. I can tell you it’s not their intent to start up a new skilled nursing company to go compete with Ensign or NHI’s buildings, and we have protection to that effect.

Okay. There was a discussion on another call of a few MOB portfolios out in the market. Do you have interest in any of these?

We continue to kick tires of MOB portfolios, but companies like DAK and MPW have a competitive advantage, given their ability to raise equity and fold that into existing systems. So we’re still looking for the right fit on MOB and specialty hospital, but we’re not going to do anything crazy just to get into the market.

What would constitute the right fit, generally speaking?

I’ve described this before. We’re looking for our own Lillibridge if you will, a smaller MOB company that has its own platform, part of the problem with MOV’s as they tend to have more moving parts in terms of tenant mix and you need a certain type of platform to navigate those buildings as there’s change over maybe you have one or two floors changing every couple of quarters and you need to secure new tenants and negotiate new leases. So that takes a special type of platform that we don’t have at the moment frankly. So the ideal candidate would look like a company that had five or 10 buildings that had a development pipeline or relationship and of course as long as I’m dreaming the buildings are on campus with single tenant master leases.

Okay, and then finally on your mezz book, it’s been growing pretty consistently. How big are you comfortable having despite the portfolio?

Well, we have certain limitations under our lending agreements with how much non-core investments we can do and certainly mezz is a non-core investment. I would say we’re probably comfortable in $100 million to $120 million range. And there’s a constant churn with that so for example, we have mortgages that are paid off almost every quarter that seems like so that that number will go up and down as projects get completed and new ones come online. Keep in mind that a lot of these mezzanine loans are really just getting our foot in the door with the purchase option for example Timber Ridge and Issaquah Washington once that building is complete and that’s a traditional mortgage it’s not mezz loan, but once that building is complete we have an option to buy it same with the loan we just announced on Daniel Island that’s another foot in the door and another option to purchase senior house and once it’s stable.

Great, thank you.

Thank you.

Our next question comes from the line Rich Anderson with Mizuho Securities. Please go ahead.

Hey, thanks so onto just pile albeit on my pal Jordan Sadler. Question that you said we’re reluctant to sell assets of the REIT. Can you answer why, why you’re reluctant to sell assets because of your REIT?

Well, Rich. I hesitate to sell, because I’m giving up income stream my investors expects our AFFO to go up every year and our dividend to increase every year. So if I’m selling a building theoretically I’m going in the opposite direction. We do sell buildings we’ve sold a couple every year so it’s something we do it’s just not my favorite thing to do.

Okay, and then also on the topic of coverage Kevin you – I didn’t quite understand you said holiday goes from 12 to 11, is that you said out on an EBITDAR, I didn’t quite understand your response to that question?

I was I guess what I was trying to communicate is on when you’re thinking about dorm to door on a coverage ratio. There is usually it’s somewhere between 0.1 and 0.2 reduction.

Okay.

From the dorm to get to a dollar ratio fitting on what your assumptions are for management fee and CapEx.

Got it. There is a title in there somewhere, but I guess the real problem is these -- a lot of even senior living is kind of really testing the par value in terms of coverage when you kind of fully load it with CapEx and everything else. I mean, it’s been a question of mine for other calls, healthcare REIT calls. Where you stand? Why are -- why should people be comfortable with a basically companies giving away all of their profits to you? How long can a situation like that left? And does it mean you have to start thinking about changing your rent escalators and all that sort of stuff.

Rich, this is Eric. One of the things we try and do when we enter into a transaction is protect a seller against the impulse to sell absolutely all of the value in the building together with the operations and that that isn’t always a message that gets through and I think that you can see a lot of instances where you had private equity exit and they don’t really care what the remaining tenant has to pay and they don’t think about the escalators, because they won’t be there. So you’ll see with our customers and our purchases that will pay a slightly higher cap rate and that is allowing the seller or customer to retain a bigger piece of the cash flow and a cushion if you will against further rent increases. And then finally I can tell you from my days at Emeritus that even in the darkest days of the recession, we were able to squeeze out one or 2% increase in the resident rents and not to more than cover whatever rent escalations we had with our landlords.

Okay, so pre-holiday so I can understand there’s transition is going on there, but fitting your living at 1.19 EBITDAR coverage I mean you’re expecting that number to go up the net of property profits versus your rent escalators there?

We would yes and our expectation is over time for that coverage ratio to expand we knew going in that it was in the lower end that where we wanted to be in terms of going in coverage ratio, but for various reasons, we believe that that will expand over time. They are – as I mentioned before they’re expanding or there occupancy is going up so service fee revenue increased over 2015 as they continue to lease up that’ll continue to go up, which will help and then just through the sales of the entry fee that will help furthermore we’re doing some development on several of the campuses where they add unit. So that helps both the service fee line, the occupancy line, and the entry fee line. So there’s a plan in place there for that to expand over time.

Okay, and then Kevin, same with you, the development loan with senior living, is that real cash that you book? It’s a development property so do you book that into your income statement right away? I don’t know if there’s some accounting that doesn’t provide -- allow you to do that. Or do we see that pretty quickly as that loan is funded?

Rich this is Roger yes we report that as we are funding it and we’re earning interest on that. So that would be in our P&L, its current and yes.

Okay, it doesn’t matter dumb question sometimes gets really great answers. And then just generally on recent activity and development activity, referencing Page 6 of your supplemental, is there any way to kind of get an idea of what the run rate – quarterly run rate should be off of some of those investments? I know Ensign is a post-second quarter event, but how should we think about getting -- capturing all of the investing that you have done in the second quarter? Is there a way? Can you give some color about how we should do that, just from a mid-quarter timing perspective?

I’ll tell you, Rich this is Roger again internally we purchased that we are funding Lifecare Services or Timber Ridge in Bickford just ratably each months. We don’t have good visibility on how much on the draw amount and so in our guidance and our internal forecast we just do it radically each month.

Okay, all right. And then last question, can you comment on the star ratings for NHC and the rest of your skilled portfolio and any color you can give on where the average is and where the problems might be?

We actually looked at that recently. The average for the portfolio – for the full…

Is NHC – is this NHC?

The whole portfolio was 3.6 and NHC was just above that average.

And when you do that – do you have a percentage, can you offer a percentage of the portfolio that’s sub 3?

There was a small percentage to be quite honest with you. One second here – when we look at it we’ve got two operators, three buildings that are below three-star.

Rebuildings to operators?

Yes.

Okay

Well, I can say that there is when we average at across the portfolio, so I have to add the caveat, so some that have within a portfolio, there is going to be some that are below a three-star. But just taking the average across each customer of the star ratings that we have are very solid, operated a fantastic job. We’re very pleased with that.

Okay, good enough. Thanks very much.

Thank you, Rick.

[Operator Instructions] Our next question comes from the line of Todd Stender with Wells Fargo. Please go ahead.

Hi, thanks. And just to stick with you, Kevin. Can we hear further details on the purchase option for the Daniel Island facility? You mentioned you can purchase it upon stabilization, which is pretty standard. I just want to see, can you purchase it prior to that or after? It’s just helpful to hear how the endgame shapes up after you make a construction in mezz loans.

I mean the way its constructed currently is one of the average 90% occupancy for the period of time that’s when the option gets triggered. If they elect to sell it before then, clearly we have a seat at the table, but the true option is triggered once they get to 90%. And then from there we have a predetermined of lease formula and coverage that we be stepping into based on their performance at that time.

The ticket folded in your master lease already?

The thought would be that we already have a relationship with Senior Living Communities and that it could easily be folded into our lease. So it doesn’t necessarily have to be that way. But I think that’s the easiest for the relationship and continue to add coverage to our lease and its much easier and outcome for both sides.

And then because this is a combination facility, so to speak. We’re comfortable with the coverages for skilled versus assisted living, when it combined like this is a literally weighted-average rent coverage. How do you guys look at that?

We look at it as a bit of a weighted-average in this instance, we prescribed a 125 lease coverage after a management fee in CapEx. So it’s just from an underwriting perspective that’s what we would be going in which gives from an absolute perspective gives that single community, very strong cash flow.

And that seems like it’s on a lower end. Is that a function of – at high barriers of say at Daniel Island, around the Charleston area, what goes into that low coverage?

Well, I would suggest to you that if you looked at senior housing in some of the market comps that the coverage is a lot lower than. I mean we’re seeing deals between 110. So if you blend that with – even if you blend that with skilled nursing, I think you’re probably below that 125 level.

Okay. And then just shifting gears, looking at your marketable securities bucket, it dropped again this quarter. Can you just talk about some of the changes you’ve made? And is there a philosophical change to invest in other REITs stocks for example, under your leadership, Eric?

Hey, Todd. We still have the same message that I’ve been preaching since I took on this role and that is – our investors don’t expect us to buy other REIT stocks. They want us to invest in property and other opportunities. So that LTC stock remains on the table and it’s likely that that would get sold before we issued any of our own equity. So we didn’t sell any this quarter, but we do have depreciation available this year that would shelter any gains. So it’s definitely something we think about a lot, and it’s gone up quite a bit, so we like that too.

Okay, thank you.

There are no further questions at this time.

All right, we thank you everyone for joining us today and we’ll talk to you all next question.

Ladies and gentlemen that does conclude the conference for today. We thank you for your participant and I ask that you please disconnect your lines.