HCP Earnings Call Insights: HCR Manor Care and Operating Tenants

HCP (NYSE:HCP) recently reported its first quarter earnings and discussed the following topics in its earnings conference call.

HCR Manor Care

Nicholas Yulico – Macquarie: Jay, I wanted to ask you about HCR ManorCare. I sense here that. the investment community is very focused on the coverage metrics and the risk that the EBITDAR their company cannot keep up with the escalators and I think there is I think also thesis that Medicare dollars are going down to post-acute operators over time. but clearly when you look at it there is other alternative world developing where CMS starts to reward or penalize post-acute operators, based on quality of care whether its via bundled payments or something else HCR likely benefits in this environment given its very high quality patient outcome. So my question is how are you and HCR ManorCare thinking on this issue and you is this the year where HCR begins to take in some market share from other operators and does coverage metrics improve based on that?

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James F. (‘Jay’) Flaherty III – Chairman and CEO: The answer is yes in fact you already saw that in the first quarter, when you have got a business platform that has 90% of its admissions coming from discharges from acute care hospitals and discharges from acute care hospitals were reported to be uniformly down and weak across the sector, yet you’ve got admissions and census and revenues up year-over-year that’s exactly what’s starting to happen. So what you’ve got here is a business model that starts with a significant competitive advantage that being that it’s the low cost setting in the post-acute space through an awful lot of hard work post the RUGs-IV modification back at the end of 2011. HCR has right sized their cost structure. So, now what we’ve got here and the challenge here is going to be revenues. Looking beyond just quarter-to-quarter, you are seeing some significant opportunities develop. You’ve obviously got those that will come out of the Affordable Care Act; you’ve got the bundling you mentioned the test pilot that HCR was the exclusive partner selected by UnitedHealth on the post-acute bundling project. You got the potential – there has been some discussion in Congress about moving to site neutral. So, you’ve got a lot of things that are starting to be talked about and will in fact result in lower cost to the payor and that’s where you are going to see HCR disproportionately benefit given their business model.

Nicholas Yulico – Macquarie: So, then you think it’s fair to say that there has been a little bit of a benefit so far, like you mentioned, but really we haven’t – we haven’t really seen obviously the payment model fully change yet, so a lot of this benefit could still be on the (come) here?

James F. (‘Jay’) Flaherty III – Chairman and CEO: Well, I think you’ve seen just smattering. Remember the project with – the CMS mandated project with UnitedHealth, I mean, that in and of itself is being tested just in the three large markets that UnitedHealth and HCR overlap. So, what’s happening right now as you’ve got – you’ve got the beginning as I’ve said on a prior call the true elements of the healthcare reform starting to be put in place in the marketplace and you are going to see alliances, you are going to see risk-based sharing, you’ll see these bundled payment programs, you’ll see – eventually you will see a slight neutral opportunities and that’s going to be the real – the real play here for HCR is a revenue play over the next couple of years as these other programs – as these new programs get put in place, but in the meantime HCR given their visibility in space and given the test pilots that they’re working with their partners they’ve already positioned their business model for that opportunity. So, you’ll see continued – you’ll see this revenue growth disproportionately drop into earnings over the next couple of years given the cost structure that’s been put in place.

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Nicholas Yulico – Macquarie: Then just one last question for me separately on the gain on marketable securities did that relate to a sale of your investment in Brookdale senior living stock and if so can – just on the gain on marketable securities did that relate to a sale of your investment in Brookdale, if so could talk a little about your thought process on that I know it was never a large position for you guys?

James F. (‘Jay’) Flaherty III – Chairman and CEO: Yes. So, early in the quarter we sold our position in Brookdale and that’s what gave rise to the gain that Tim communicated.

Nicholas Yulico – Macquarie: I mean anything you could just – I mean I know it was never a large position it was essentially Brookdale you took the proceeds they put into the RIDEA transaction and reinvested that in Brookdale or you sort of got an opportunity at the time to align with the operator I mean is there anything that you kind of learned through this whole process that was interesting or is it just that the stock went up in the first quarter and you saw an opportunity to get out at a profit?

James F. (‘Jay’) Flaherty III – Chairman and CEO: We think making money for our shareholders is amongst most interesting things we do. So, if you look at the types of investments that fall into this bucket non-traditional triple-net real estate sort of acquisitions you’ve seen us in the Genesis debt, the HCA debt you’ve seen us initially in our Senior Housing joint venture where we subsequently took out the institutional partner. And here again when we go into these sorts of – this basket of opportunities we are looking for heads we win, tails we win sort of outcomes. So, here we are able to realize an attractive return for our shareholders. We are also able to make some additional progress on the monetization of the non-stabilized portion which is quite small, less than 5% but every dollar counts the non-stabilized portion of our investment portfolio that we are moving into stabilization you’ll see on that point you will see us – I suspect you will see us make further progress during the course of the year, in particular, I think it is likely that will be out of the – in the entire legacy (indiscernible) loan position by the end of the year. So, again we are making good progress on these fronts, so that’s what I would say about the exit on that sale, Nick.

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Operating Tenants

Jana Galan – Bank of America: Looking at your new Triple-Net Master Lease Profile chart it looks like about 5.4% of annualized revenues are below one times EBITDA coverage. I was just wondering if you expect those to improve through the license of lease or what your thinking is on those…?

James F. (‘Jay’) Flaherty III – Chairman and CEO: Well, again we use this as — it’s a very helpful asset management tool. We certainly look at opportunities that are below 1.0 just like we look at opportunities that are above 3.0 or 4.0, for example I know a lot of you will probably be pleased to hear that our hospital coverages are 5.26 times and the other side of that argument is that the difference between 1.0 and 5.26 times is a substantial amount of cash flow that’s accruing into the benefit of the operating tenants, but in the situations that are below 1.0, I think what we’ve attempted to do there is show you the remaining terms is not insignificant. You’ve got corporate guarantees, but as the matter of doing our routine, asset management discharge of our fiduciary responsibilities we look and we talk and with the operators that are involved there and we are constantly looking to see if we can improve the position of HCP shareholders. If you want to add something, Tim?

Timothy M. Schoen – EVP and CFO: All those pools that are below 1, they have a corporate guarantee. They have a long-term associated with them and the underlying properties in those pools are with occupancies in the 75% to 85% range. So, there is upside in terms of occupancy in those pools over the longer run.

Jana Galan – Bank of America: I guess on the reverse of that for those that are below above three times, is there opportunity for kind of rent rule ups on renewals there?

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James F. (‘Jay’) Flaherty III – Chairman and CEO: Yeah. Again, we are somewhat, but I think there is a lot on that page and obviously the opportunity to do that would be as you approach the lease renewal date. But again, what we’ve tried to communicate here is that A, that the triple net portfolio as a percent of our total investment portfolio is massive as a percentage basis, so I think Tim quoted that it’s 85%. Number two, as you see depicted here, now you’re not seeing the triple net portfolio here for either the life science or the medical office building sectors, this is just the senior housing, post-acute and hospitals. As you can see here the coverages are good, corporate guarantees are good. These are creditworthy tenants that are behind these corporate guarantees and by and large the remaining lease term is significant. So it’s a nice package that really speaks to the safety side of the – safety and growth of business model that HCP enjoys.