Omega Healthcare Investors, Inc. (OHI) Q4 2012 Earnings Report, Transcript and Summary

Good morning and welcome to the Omega Healthcare Fourth Quarter 2012 Earnings Conference Call. All participants will be in listen-only mode. (Operator Instructions) Please note this event is being recorded. I would now like to turn the conference over to Michele Reber. Please go ahead.

Thank you and good morning. With me today are Omega’s CEO, Taylor Pickett; CFO, Bob Stephenson; and COO, Dan Booth. Comments made during this conference call that are not historical facts maybe forward-looking statements. Such as statements regarding our financial and FFO projections, dividend policy, portfolio restructurings, rent payments, financial condition or prospects of our operators, contemplated acquisitions and our business and portfolio outlook generally. These forward-looking statements involve risks and uncertainties, which may cause actual results to differ materially. Please see our press releases and our filings with the Securities and Exchange Commission, including without limitation our most recent report on Form 10-K, which identifies specific factors that may cause actual results or events to differ materially from those described in forward-looking statements. During the call today, we will refer to some non-GAAP financial measures, such as FFO, adjusted FFO, FAD, and EBITDA, and expenses excluding owned and operated property. Reconciliations of these non-GAAP measures to the most comparable measure under Generally Accepted Accounting Principles, as well as an explanation of the usefulness of the non-GAAP measures, are available under the Financial Information section of our website at www.omegahealthcare.com, and in the case of FFO and adjusted FFO, in our press release issued today. I will now turn the call over to Taylor.

Thanks, Michele. Good morning and thank you for joining Omega’s fourth quarter 2012 earnings conference call. Adjusted FFO for the fourth quarter is $0.58 per share. 2012 adjusted FFO is $2.19 per share, a 16% increase over 2011 adjusted FFO of $1.89 per share. Normalized funds available for distribution, FAD, for the quarter is $0.52 per share. We increased our quarterly common dividend to $0.45 per share. This is a 2.3% increase from last quarter and a 10% increase from the fourth quarter 2011. The dividend payout ratio is 78% of adjusted FFO and 87% of FAD. We expect our dividend payout ratio for 2013 to be 75% to 85% of adjusted FFO and generally less than 90% of FAD. Our 2013 adjusted FFO guidance is $2.45 to $2.50 per share. We are also providing FAD guidance for 2013 of $2.20 to $2.25 per share. Significant increase from 2012 to 2013 reflects the impact of $510 million of 2012 investments and to a lesser extent lease modifications from existing operators. Our 2013 FFO and FAD guidance includes $200 million of new investments. During the quarter, we closed on a new $700 million unsecured credit facility, which reflects our investment grade rating in the revised bank covenants and lowers our cost of borrowing. The acquisitions that we closed on in 2012 further diversified both our operator base and our state-by-state exposure. For 2013, we only have one operator, Genesis at 13% that accounts for more than 10% of our contractual rent. We now have 10 or more facilities in 17 key states. Bob will now review our fourth quarter financial results.

Thank you, Taylor and good morning. Our reportable FFO on a diluted basis was $61.4 million or $0.55 per share for the quarter as compared to $46.3 million or $0.45 per share for the fourth quarter of 2011. Our adjusted FFO was $64.9 million or $0.58 per share for the quarter and excludes $2.5 million of interest refinancing expense, $1.5 million of non-cash stock-based compensation expense, $772,000 of one-time revenue and $223,000 of expenses related to the closing of new investments. Further information regarding the calculation of FFO is included in our earnings release and on our website. Operating revenue for the quarter was $95 million versus $76.3 million for the fourth quarter of 2011. The increase was primarily a result of $15.1 million of incremental lease revenue from a combination of acquisitions completed in late 2011 and through out 2012, capital improvements made to our facilities through out 2012 and a lease amendments made during that same time period. $2.3 million of incremental mortgage interest from new mortgages originated in late 2011 and through out 2012 and $800,000 of other investment income related to a new originated in December of 2011. The $95 million of revenue for the quarter includes approximately $7.3 million of non-cash revenue. We expect that non-cash revenue component to be approximately $7.5 million per quarter for 2013. Operating expense for fourth quarter of 2012 when excluding acquisition related cost and stock-based compensation expense as well as the 2011 provision for impairments and uncollectible accounts receivable increased by $5.6 million as compared to the fourth quarter of 2011. The increase was primarily a result of $4.8 million in depreciation and amortization expense related to the closing of approximately $510 million of new investments in 2012. From a G&A standpoint, we project our 2013 G&A expense to…

Thanks, Bob and good morning everyone. As of December 31, 2012, Omega had a core asset portfolio of 476 facilities, with over 53,000 operating beds distributed among 46 third-party operators located within 33 states. Operator coverage remains relatively stable during the third quarter of 2012. Trailing 12-month operator EBITDARM coverage was 2 times for the period ended September 30 compared to 2 times for the period ended June 30, 2012. Trailing 12-month operator EBITDAR coverage for the period ended September 30 was 1.5 times compared to 1.6 times for the period ended June 30, 2012. The trailing 12-month results through September no longer contained any quarter, which was positively affected by RUGS IV. Turning to new acquisitions, during the fourth quarter of 2012, Omega completed five separate acquisitions with three different operators totaling $237 million. The acquisitions involved 17 SNFs with 2050 beds and 2 ALFs with 268 units. The weighted average cash yield on these acquisitions was just over 10%. In addition, during the fourth quarter, the company made capital expenditures totaling $13 million. For the year ended December 31, 2012, Omega completed new investments of $510 million. The investments involved a total of nine separate transactions with five different operators totaling $468 million. In addition, Omega invested over $42 million in capital expenditures including investments in the construction of several new facilities. The average cash yield on the investments was just under 10.5% with annual escalators of 2.5%. The new investments involved 52 separate facilities, of which 40 were SNFs and 12 were either ALFs or ILFs for a total of nearly 5800 beds and/or units. Turning to portfolio developments, as of on December 1, 2012, Genesis Healthcare, an existing operator of the company completed the purchase of Sun Healthcare Group also an existing operator of the company. In connection with the acquisition on December 1, the company entered into a new 53 facility master lease with Genesis, expiring on December 31, 2025. At December 31, 2012, Genesis was the company’s largest tenant with $357 million in leased assets located in 13 states. Currently, Omega is actively reviewing a number of potential transactions. As of today, the company has $475 million on our revolver available for new investments.

Thanks, Dan. We will now open the call up for questions.

(Operator Instructions) And our first question is from James Milam of Sandler O’Neill. James Milam - Sandler O’Neill: Hey good morning guys.

Good morning. James Milam - Sandler O’Neill: First question, you said the yield on the acquisitions was just over 10%, can you give us the contractual rate increases for the acquisitions and then also on the Genesis lease, I am assuming that’s around 2.5%, but just want to confirm that with you guys?

It’s 2.5% across the board for both new acquisitions on the Genesis lease. James Milam - Sandler O’Neill: Perfect, thanks. And then you said there is $475 million available on the revolver, should I take that to mean that you drew the additional $100 million on the term loan down to about last month or so?

That is correct. We did that in January. James Milam - Sandler O’Neill: Great, thanks. And then my last one just you guys have outlined $200 million of acquisitions in your guidance, what should we assume for funding those deals, maybe you can make some comments on the drip in the ATM which looks like you used less of those in the fourth quarter? And then we should just expect line of credit funding to match your guidance assumptions?

Yeah. I think from a modeling perspective, I would just use the line of credit for what we are assuming right now given where our leverage that’s we are really comfortable. James Milam - Sandler O’Neill: Okay, perfect. Thanks guys.

Thank you.

And the next question is from Jeff Theiler of Green Street Advisors.

Hey, good morning. Just a quick question on your acquisitions, can you talk a little bit about why you had such high volume this quarter, but your guidance is only for $200 million going forward. Did you post some acquisitions in this quarter that you thought may have closed in 2013 or can you just help me figure out the discrepancy there?

It really is just the nature of the pipeline, Jeff. We – the deals that closed towards the end of this year have been floating around quite a while during the year and took a long time to close. And although the pipeline is fairly active today as Dan mentioned, there is nothing eminent and so you might think about $200 million is relatively conservative given the last couple of years, but based on what we are seeing today we have nothing in the net in the first quarter maybe some stuff in the second quarter, it’s just hard to predict.

Okay. And then what kind of coverages are you underwriting right now for your acquisitions. We have had this cut its now worked its way through. We got the market basket increase in October. Are you starting to reduce your initial coverages? I think last time we talked here at 1.5 times is a starting coverage on acquisitions?

Yeah, we are – really it’s been consistent over the last 12 to 18 months at 1.4 coverage is what we’ve currently underwrite to and that’s not going to change.

Okay, 1.4 coverage, but 1.4 taking into account all of the…?

Known cuts. Jeff Theiler – Green Street Advisors: Known cuts, right, right. And then lastly just on the cap rates, we have seen cap rates in every other sector compressed at least the products that you are buying or not. Why do you think that is, is that just there is higher risk because of Medicare and Medicaid going forward, is it just that there is not enough buyers in the market chasing that kind of product in order to see the cap rate compression that we would think what – can you give an explanation for why those cap rates you are able to acquire such attractively priced assets.

I think its perceived risk. From our perspective, we feel comfortable, we can underwrite that risk into – in the way we look at our assets, but they are certainly perceived risks out in the market. And there are probably fewer dollars chasing assets today than they were two years ago.

Okay, great, thanks very much.

Thank you.

And the next question is from Henry Reukauf of Deutsche Bank.

Hi, guys, it sounds like you are in pretty good shape with your revolver availability given the expectations for acquisitions. But once you are through those with a couple of hundred million dollars of acquisitions, I assume that done, I assume you probably want to kind of re-up. Do you think the next move here in terms of a permanent capital financing I think it’s either bond or do you think it would be equity just in terms of balancing out leverage?

We typically issued about 50% equity over time albeit not exactly time with acquisitions. So, I think from a modeling perspective you can think about 50% equity and given if it were today given where the bond market is today bonds will be a good answer for us.

Okay and have you – I know you still have the BA 2 rating on Moody’s. Have you been able to talk with them recently about any potential upgrade?

We usually – we had our January call with them and typically we wait till after our year-end earnings and then we will meet with all the rating agencies face-to-face that we’ll be meeting with them shortly.

Okay, so, no real update there. Alright, thanks very much.

Thanks Henry.

And the next question is from Tayo Okusanya of Jefferies.

Hi, yes, good morning, congrats on a great quarter. Quick question in regards to the guidance, the non-cash revenue that makes up the big difference between the AFFO and FAD number, could you explain what that is, that $0.26?

It’s basically all straight line, abd Tayo if you look at the run rate of that in Q4, Bob had mentioned it was $7.3 million, it moves up slightly to $7.5 million as a run rate in 2013, so it’s really not very much.

And that’s all based on just the recent amount of acquisitions that were done.

Yes, well, the acquisitions absolutely increased the number and then the natural rent step ups that we have embedded and our leases decreased itself. There is some offset in there.

Got it, and then I guess the question is why kind of now show that as a separate line item to get to the FAD, why doesn’t that roll up to your AFFO number? I was kind of assumed that used to be a part of the AFFO number in the past?

No, our adjusted FFO always had straight line in it. And different folks have come out and said here is what we think the FAD is and we decided that it made sense, since it’s not a small difference to just lay it out from our perspective in both guidance and in our press releases going forward.

Okay. So, going forward, we’ll kind of be getting these three numbers, an FFO number, an AFFO number, and an FAD number?

That’s correct.

Okay, that’s helpful. So, that’s the first thing. And then the second thing is I mean with the coverage ratios where they are right now, we have not kind of had a year to work through the 11% Medicare cut from October of last year. I mean, when you talk to your clients now as you kind of start to see more current operating results, are you actually starting to see the coverage ratio starting to improve early or was this the quarter where they kind of seemed to have crossed or are there still some issues going forward that could still put pressure on the coverage ratios?

No. I think from a trailing 12-month perspective that they really have trough, I mean we have had the last quarter of the RUGS IV numbers burn off. So, I think quarter-over-quarter they have been very stable and I think that’s what we expect going forward.

Yeah. Just to add a little bit to that I wouldn’t expect coverage ratios to improve. I think the reality in our industry today is stability is a win. And that doesn’t take into account the potential for a modest sequestration cut or other things.

Okay. So, they may not improve because of some of the upcoming headwinds like sequestration is that what you think?

Yeah. Well, I think stability is really what we are looking at that if there are improvements they are going to be very, very modest. And frankly, you think about the pressures from both the Medicaid and Medicare perspective, our view is stable coverage ratios is a good answer in today’s environment.

Okay, that’s helpful. And then just kind of going to sequestration, I mean if you are a betting man, would you say it’s going to happen or do you kind of think will ultimately end up with a totally different plan?

I guess it depends on the bet time. It sure seems like we are going to see sequestration and then maybe a response to that. And obviously the 2% we have done that math, we have talked about it, it’s about 0.5 to 0.6 in terms of coverage, so really not dramatic in terms of our cushions.

Okay.

But it sure seems like that’s step one and then we go from there.

Okay. Any particular worries about Genesis with again the latest round of cuts to therapy services as part of the Tax Relief Act that just passed in January 1st, are you kind of seeing more pressure on that rent coverage versus the rest of your portfolio?

Perhaps a little bit, but I don’t think it will be significant. The rent coverages on that portfolio were strong. Sun’s rent coverages were particularly strong and that obviously is all rolled together. So, although there is a big focus on therapy in that portfolio our view is that again it will be fairly marginal.

Okay. Could you tell us what the coverages specifically on Genesis?

That we don’t give out specific coverages on specific operators, particularly well in this case they are private.

Okay, that’s helpful. And then what’s the latest with CommuniCare and all of the initiatives they had in place to kind of stabilize their rent coverage ratios?

Yeah, I think CommuniCare and somewhere other top 10, I mean they have managed to stave off some expenses. And they are undertaking like a lot of our large and medium size and smaller operators, a number of capital expenditure programs to really just improve upon their portfolio.

Okay.

And their assets and they are ongoing right now. I think CommuniCare, for instance, has close to a 100 beds out of service. So, they are doing quite a bit of CapEx on their portfolio.

Okay. So, the CommuniCare have – kind of have the 11.1% cut, could you give us a sense of what’s happened with the coverage ratio, are they kind of now finally stabilized or they have improved or kind of where are we?

Yeah, I mean, once again they are private company, so we are not going to give out specific coverages.

Right. Just want to get a sense of trend?

Yeah, they are still north of 125 and they are a bit pretty stable, I mean they have got to get through a number of these CapEx programs that they are undertaking right now because it does take so many beds out of service as they are undergoing them and that hits the individual facilities. And so we feel good about where they are and where they are going.

That’s helpful. Thank you.

Thank you, Tayo.

And your next question is from John Roberts of Hilliard Lyons.

Hi, good morning. Most of my questions have been ask, but and one of them danced around which is the $200 million in expected acquisitions this year, kind of low versus last year do you say that’s conservative is that because its basically what you have visibility for in the pipeline right now and then anything later in the year would be above and beyond that?

Actually we really don’t have any visibility in the pipeline other than the pipelines active. We have nothing that’s gotten to letter of intent stage that what we’re looking at doing third party diligence and we think it gets to the finish line. So, really the $200 million it just consistent with past or – and there is a lot of play around, it’s going to be lumpy again. And as I mentioned earlier anything we gets done is going to be more again probably back ended.

So, what back end and the big year?

It’s nothing in the first quarter that we see…

Okay.

And so of any consequence, so for sure it’s pushing into second and probably beyond.

Okay and dividend I mean given the increase in guidance for 2013 versus what the Street was expecting and the history is sort of quarterly dividend increases you anticipate similar going forward?

As a Board, we look every quarter and I had mentioned in our guidance that our expectation would be a payout ratio of 75% to 85% of adjusted FFO and something less than 90% of FAD. And kind of look at that math, if we hold to that guidance John I would expect you would see dividend increases as we move through the year.

Okay, great. Thanks guys.

Thank you.

Next we have a question from Jason Ren of Duff & Phelps Investment Management. Jason Ren - Duff & Phelps Investment Management: Hi. Thank you for taking my question. The acquisitions you completed in 2012, what percentage of them have been operator or tenant purchase or buyout option at the end of the contract. And how does that compared to your overall portfolio, I am just trying to get to a sense of what’s subject to a buyout and what’s not?

None of the deals that we did in 2012 have as buyback option. Jason Ren - Duff & Phelps Investment Management: Okay, what about your overall portfolio if you were to think about percentages?

It’s less than 10% it might be less than 5%, I don’t know that number of time of my head. It’s very modest and in way out years for the most part 2020 and beyond. Jason Ren - Duff & Phelps Investment Management: Okay. And so I would assume that since the percentage might be so modest that there is little affect, if you were to exclude any premium associated with the buyout option?

Little affect, that’s correct. Jason Ren – Duff & Phelps Investment Management: Okay, great. Thank you.

Thank you.

And the next question is from Rob Mains of Stifel Nicolaus.

Yeah. Good morning, following up on the question about how the pipeline is looking for this year. Would it be fair to say given what happened in the fourth quarter which you might have pulled some deals forward from the beginning of the year capital gains tax related or anything like that?

We’ll there are certainly deals that it took a while to close this year that peaked that folks were very anxious to get it closed in the fourth versus first quarter, because we were at a position, having done all of the work to make that happen. But I don’t know that I would say that they were pulled forward from a planning perspective. I think most of those were in the pipeline for quite a well.

Yeah, they have been, right. I guess better way to ask would be whether deals that might have otherwise closed in the first quarter the cut kind of scrambled to make the 12/31 deadline?

Sure, I mean that everybody want to close by year-end there is no doubt about that.

Okay.

We would (indiscernible), yeah we would have spread it out a little bit, but that….

Got it. So, that might be why we’re seeing this low at the beginning of the year?

I think it’s a natural low. I think we see it almost every year to be honest.

Right.

There is a big push at the end of the year to get stuff closed and then there is a little bit of low we’ve seen at least last two years.

Okay. And then the Genesis and Sun leases is there any change in the base lease rate that you are going to collect from the – from them I guess it’s one now?

There were some modest changes but again we have a confidentiality agreement with them and its baked in all of our numbers. And I don’t mean to be a big difference. But we got – we extended the lease our escalators were 2.5% flat which is a little bit of a change we improved the credit and we have a little bit of incremental rent and it’s all baked into the numbers that you see.

Okay and then I don’t know if you can answer this or not, but can you remind us were those two leases were those 2.5% flat escalators previously?

No. They were all they were separate deals because of the way Sun came together. If you remember they bought Harborside, they bought peak. Genesis was a separate negotiation, so we had essentially four different deals that we combined into one. And so the escalator for all different and they were a little bit less frankly, so we got a little bit of an improvement there.

Okay that was my question. Thank you.

Thank you.

(Operator Instructions) And I am showing no further questions, I would like to turn the conference back over to Taylor Pickett for any closing remarks.

Thank you for joining this morning’s calls. Bob can be available for any follow-up questions.