Earnings Call: Q1 2019

May 10, 2019

Good morning, ladies and gentlemen, and welcome to Northwest Healthcare Properties Real Estate Investment Trust First Quarter 2019 Results Conference Call. At this time, all lines are in listen only mode. Following the presentation, we will conduct a question and answer session. This call is being recorded on Friday, May 10, 2019. I would now like to turn the conference over to Paul Dalla Lana, CEO of Northwest Healthcare Properties REIT. Please go ahead, sir. Thank you, operator, and good morning, everyone. Appreciate you joining us today. I'm joined by Shailen Chande, The REIT's Chief Financial Officer Bernard Crotty, The REIT's President and Peter Riggon, the REIT's Chief Operating Officer. Together, we are pleased to share with you our results for the Q1 of 2019. But first, I'd like to point out that during today's call, we may make forward looking statements as defined under Canadian Securities Law. While such forward looking statements reflect management's expectations regarding our business plans and future results, they are necessarily based on assumptions that are subject to uncertainties and risks, which could cause the actual results to differ materially. We direct you to all of the risk factors outlined in our public filings. With that behind us, our results for the Q1 were in line with our expectations and include annualized quarterly AFFO of $0.90 per unit on a normalized basis and a payout ratio of 89%. A net asset value of $11.65 a unit, down slightly from last quarter as a result of FX movements and dilution from our recent equity offering, partially offset by fair value gains in the REITs portfolio, 46.3 percent consolidated LTV, excluding convertible debentures and year over year source currency adjusted SPNOI growth of 2.5%, primarily driven by inflation indexation and all of this underpinned by 97% -plus occupied portfolio with a weighted average lease term of 13 years across an expanded 158 property, 11,900,000 square foot portfolio. In addition to our focus on operations, during the quarter, we executed on the REIT's top strategic priority, entering into a transaction to acquire 11 high quality Australian hospitals from Healthscope for CAD1.2 billion and can confirm our institutional partners' commitment to participate in this transaction. As a result, REIT's partner will acquire 70% interest in the portfolio with NorthWest retaining a 30% interest and providing management services. To finance the transaction, the REIT and its partner arranged new property level debt facility for approximately CAD 769,000,000 with an initial interest rate of 3.0 percent, about 130 basis points ahead of what we had previously forecast. At the REIT share, this requires equity of approximately $130,000,000 which the REIT has already invested through its existing investment in Healthscope and in place deposits for this transaction. As a result, we expect the transaction to be highly accretive with an incremental year 1 AFFO of $0.11 per unit and initially recurring AFFO of $0.09 per unit. The transaction is expected to close in early June 2019. In Europe, we continue our growth strategy by closing on the acquisition of a number of medical office buildings and rehabilitation hospitals, bringing our total assets in that region to approximately $700,000,000 a 75% increase over the last 12 months. During the quarter, the REIT was also active in the capital markets, closing a $144,000,000 equity financing with significant institutional participation, and we were also added to the S and PTSX REIT Index as part of the March rebalance. From a regional perspective, firstly, Brazil was on plan for the quarter with 100 percent occupancy and continued strong and predictable income. Year over year constant currency adjusted NPL SPNOI growth increased 4.1%. Operationally, the REIT's major tenant, Rejador, continues to deliver strong results and expand its business, thereby opening up the possibility of further partnerships with The REIT. Importantly, The REIT is also gaining traction with other high quality operators in Brazil and is actively working on accretive transactions to diversify its tenant space in the region, again, in proportion to the overall business. Finally, the REIT has entered into local refinancing arrangements, which are expected to close in Q2 approximately $187,000,000 of our existing debt that will see us lower our interest costs there by $2,500,000 or $0.02 per unit per annum. In Canada, we were also on plan continuing strong performance with positive year over year currency adjusted SPNOI growth of 3.8% and with the portfolio occupancy remaining healthy at 92.8%. The quarter also saw positive renewal rent increases with a 4% spread on expiring rents as well as the continuation of construction of a new campus medical office building in St. Albert, just outside Edmonton with pre leasing now approaching 70%. In Europe, we were on plan as well, performing as expected with positive year over year constant currency SPNOI of 0.03% and occupancy increasing 50 basis points to 96.9%. As mentioned earlier, we continue to find good investment opportunities in Europe, allowing us to not only continue to build scale and critical mass in Germany, but also now to build upon our initial two acquisitions in the Netherlands. Further, last year acquisition last year's acquisition of 4 rehabilitation hospitals from Median Clinikin in sale and leaseback transactions has opened the door to growth in the hospital segment of the healthcare real Estate, not unlike other parts of our initial international portfolio, which are characterized by single tenant management like properties secured with 20 plus year leases indexed to inflation by best in class operators, including Median, Germany's largest rehabilitation operator and more recently, AMEOS, another of the region's leading hospital operators. Occupancy increased 80 basis points quarter over quarter to 97.6% in the North West Australia portfolio, which also had strong year over year constant currency SPNOI growth of 4.4%, all with a weighted average lease term of more than 13 years. As previously mentioned, during the quarter, the REIT entered into a definitive agreement to acquire 11 highly strategic properties from Healthscope, which will further strengthen the REIT's leading position in the region while also leveraging its existing capital relationships. At Vital, for its Q3 'nineteen results delivered yesterday evening, the business also reported strong on plan results with positive year over year source currency adjusted SPNOI of 0.3% and stable occupancy of over 99% and a weighted average lease term of 18 plus years. Vital confirmed a 2.9% increase to its distribution over the prior year period. During the quarter, the REIT's fee review was finalized and Vital announced the management changes with David Carr, the CEO of Vital stepping down being replaced on an interim basis by Myles Wentworth, the previous CEO of the business and an existing member of North West Australian team. Finally, Vital also confirmed it will not participate in the Healthscope opportunity. In total, the news was well received with Vital shares up 79.5% overnight. Corporately, the REIT continues to focus on balance sheet optimization initiatives and plans to refinance approximately $230,000,000 of existing corporate debt with a weighted average interest rate of approximately 7.5 percent at rates 150 to 200 basis points lower, generating a further $3,500,000 to $4,000,000 approximately $0.03 per unit of annual interest rate savings. For the balance of 2019 and building on these strong results, ongoing portfolio improvements and continuous supportive trends in the Health Care industry, the REIT will continue to drive internal growth through the completion of 9 committed low risk value added developments and expansion projects, again, primarily in Australia and New Zealand, totaling approximately $370,000,000 on a fully consolidated basis and $148,000,000 at the REIT share. In addition to the Healthscope property acquisition, Northwest expects a further $750,000,000,000 to $1,000,000,000 of net investment activity in 2019, split broadly equally between its existing regions. Furthermore, we are planning a combination of noncore and joint venture asset sales in Canada and Australia totaling approximately $500,000,000 to $600,000,000 In further support of these growth initiatives, North West will increase its JV capital in Australia a further $1,500,000,000 to $3,500,000,000 as well as targeting an additional $1,000,000,000 to $2,000,000,000 commitment similar to the ones in Australia for deployment in Europe and Brazil. I'm pleased that we have been able to advance on a number of these key long term strategic initiatives during and post quarter. Our bigger, better portfolio is supported by long term inflation index leases. And as a result, the REIT is even better positioned to deliver stable and growing returns to existing unitholders. We continue to be a real estate partner of choice to the health care industry, which provides exceptional global opportunities to grow accretively and enhance unitholder value. I'll now ask the operator to open the call for questions. Thank Your first question is from Chris Couprie from CIBC. Chris, please go ahead. Good morning. Just with respect to the Healthscope transaction, can you just remind us in terms of what the timing for the close would be? Yes. I can, Chris. It is, again, subject to a May 22 vote and will close in early June. We're estimating around the 8th June right now in regions. So those are the critical dates ahead of us. And again, from what we can see, it looks like a relatively straight shot as much as M and A can ever be. But things are fully tracked from our side and the transaction looks substantially in place. Great. And then just in terms of the disclosure you had around the accretion under the finalized structure. That $0.11 of accretion in year 1 and $0.09 thereafter, how does that compare to the 4 like which of those is comparable to the kind of 4% to 7% that you'd indicated before? I'll turn that call to Shannon, if that's okay, Chris. Sure. Yes. Good morning, Chris. So with respect to the accretion of $0.11 in year 1 and initial recurring of $0.09 The increase from our previous range of $0.04 to $0.07 was really driven by 3 factors. One, the level of Northwest ownership, which came in at 30% relative to the range of 25% to 30%. 2, the fact that the interest rate came on the financing came in about 130 basis points lower than initially forecast. And 3, the fact that there is slightly higher debt on the portfolio than initially forecast in that $0.04 to $0.07 range. LTV on the portfolio is coming in just under 60% where it was previously forecasted at 50% to 55%. Okay, great. Switching gears a little bit, with respect to the Vital fee review and just maybe the asset management business in general kind of excluding the impact of Healthscope. How should we be thinking about that now going forward? Yes. So again, the fee review, as you recall, was broadly the terms of the fee review were broadly concluded on April 1 this year, and they will be put to vital unitholders at the AGM, which is again likely to be in the early Q4 of this year. We expect that given the benefits to the Vital unitholders of those fees that they'll that will be approved. And I think in practical terms, I think we'll see on a go forward basis in terms of the business a slight shift in our fee construct there from base to activity based fees given that the new arrangements have a slightly more prescriptive activity based fee, which is in line with the New Zealand market precedence. So that would be the structural change as we think about the business going forward. There continues to be a very constructive environment in Australia and New Zealand for our businesses. And we think both public and private institutional capital has a role in us pursuing that business fulsomely. So again, those would be my comments. Okay. Thanks. I'll get back in line. Thank Your next question is from Troy MacLean from BMO Capital Markets. Troy, please go ahead. Good morning. Just on the institutional JV, you mentioned potentially upsizing it and moving it into different markets. Is that with the same partner or have you is there a new partner that could emerge? I think, Troy, two answers to that question. In Australia, our focus is on upsizing with the same partner, and that's quite advanced. In terms of the other regions, I think we're having more broad based discussions that include our existing partner but may include others. And those are still in the early to mid stages, but moving well. And I think again, so I think we are likely to see additional capital partners come into the business. Certainly, diversification of those relationships would be important to us. But we've clearly been able to demonstrate with our existing partners having deployed $2,000,000,000 in the last 6 months for them on plan and certainly with perhaps even higher quality opportunities than originally imagined that we can deliver. And I think that puts us in good stead as we look down the line. And then on the deleveraging plan, with the approximately $500,000,000 of asset sales in Australia and Canada, for the Canadian, how much of that would be in Canada? And what markets are you looking to sell? And I'm just kind of curious what do you think the market the portfolio looks like in Canada post the sales? Yes. We haven't quite been prescriptive, Troy. So I think but our approach to Canada, I think has been consistent for a little while where we've been looking to tune and incrementally tune the business. And so we see, again, an increasing focus to major markets and larger assets within the Canadian portfolio. And that's where we found that we're able to deliver in the best returns and fund the greatest value. So I think that continues to be our focus. The range in Canada, broadly speaking, is $100,000,000 to $200,000,000 and the range outside of Canada is around $400,000,000 So those are the components. And then just my final questions on the financing on the Healthscope transaction. You mentioned an initial interest rate of 3%. How long is that rate in place for? That's a 5 year commitment. So again, the benefits of our JV structure there coming through, and that's even from our own math, roughly 130 basis points inside where we would see comparable financing in that marketplace going out. So clearly, a very attractive and accretive structure. Okay, perfect. That's it for me. Thank you. Thank you. Your next question is from Mario Saric from Scotiabank. Mario, please go ahead. Good morning. Mario, your line is open. Hi, sorry about that. Two questions, 1 on the Healthscope financing and then 1 on the $1,000,000,000 to $2,000,000,000 potential third party capital infusion outside of Australia. So just on the financing, I believe you mentioned the term on the debt was 5 years. Is there anything else that was that the anticipated term for the debt coming in? And is there anything else that would have impacted that 130 basis point lower than expected rate? Presumably, I think you mentioned the benefits of the JV partnership there, presumably that would have been perhaps contemplated. I'm just trying to understand if anything else has shifted in the market that made the pricing more attractive? Yes. Let me try and respond to that. I think, yes, we were conservative in our initial estimates, Mario, in terms of what that could be and whether that would include what the ownership would ultimately end up being. So as we move to our institutional JV, we had reasonable belief that the rates would could come in. I think this was at the high end of the range of that tightening, if you will. Again, we have done recent transactions there with our partners, so we have pretty good visibility. I think that's just part of messaging that we were considering a combination of Vital and or our JV and a combination of capital structures that might go with it as we were forecasting numbers earlier in the piece. So as we've gone there, I would say that relative to our existing commitments with our JV partner, again, they were broadly in line, but maybe 20 to 30 basis points tighter than where we were probably reflecting the quality of the portfolio, the cleanliness of the leases and the scale of the opportunity, all of which were viewed quite favorably in the marketplace. So again, not entirely surprising, but clearly, we were dealing with a range of possibilities around the original guidance and that's firmed up now. We can be more precise. Okay. And then as you turn focus on accumulating fee bearing third party capital outside of Australia, how would you compare the potential investment mandates in the fee structures anticipated relative to your existing JV fee structure in Australia? Right. That's good. I think in Europe, quite comparably, which again, reminding, is an evergreen structure with a combination of market fees and a promote as well, again built around core long term assets. In Brazil, I think we're still working through that and whether or not that we're likely to add a term to that structure and that hasn't been resolved yet, again, around some of our higher quality, longest term assets. So I think that's probably the debate and we're working through that now as we speak. Got it. Okay. And then given the early success that you've demonstrated in Australia with the model, have you seen any incremental competitors trying to come in and emulate what you're trying to do? I think the environment for the space, I would characterize in a couple of ways. Australia, in particular, is a very robust and competitive market. I think that the Healthscope transaction is illustrative of that in both at the M and A level as well as the broad interest at the portfolio level. It really it influences our views to take the steps that we took, including the derivative stake and everything because we knew this would broadly appeal. So I think that market condition continues to exist. And there certainly is institutional capital formation in the space there and more broadly in other locales, I think. That said, in terms of the scale and features of the JV arrangements that we've been able to put in place. I think we're in a pretty evolved category. And I would just say, as demonstrated in this transaction, it gives us the ability to certainly move quickly and to execute accretively on very big transactions. And then we're focused on that particular combination of things given what we see as the increasing interest in the space and understanding as well. So I think we're in good position to augment our business, of course. Others are trying to do the same. And it's a competitive world, but it's a big world and there's room for lots of participants. So my sense is that there'll be more to do than we're able to do and that we're going to be as selective as ever. Okay. Thank you. Thank you. There are no further questions at this time. Please proceed. Okay. Well, thank you, operator. We appreciate the opportunity to address our Q1 2019 results, and we'd wish everyone a good day. Thank you. Ladies and gentlemen, this concludes your conference call today. We thank you for participating and ask that you please disconnect your lines.