All right, I think it's 3:00 PM, so might as well get started. I'm Bryan Maher. I'm the Senior Analyst at B. Riley Securities, covering Diversified Healthcare Trust. With me this afternoon, we have Chris Bilotto, the President and CEO, and Matt Brown, the CFO and Treasurer. So I'm gonna start off with a few questions on the company, and then we'll open up for Q&A. If anybody has-- try and break it into, like, three parts. You know, first, we'll talk about medical office building and life science. I think most people wanna talk about the SHOP portfolio, so we'll shift to that, and then we'll kinda go over some of the capital stack items. It's been a busy year for DHC.
Many of you might know that they were gonna merge with OPI, Office Properties Income Trust, a year ago. That was in the news. That did not end up happening. There's been some capital raises since then. So why don't we start off with the medical office building and life science component of the business? Chris, maybe you can explain a little bit about, you know, what assets you own, kinda where you own them, market concentrations, and then what's going on with the portfolio in the way of occupancy and some known vacates.
Yeah, no. Well, thanks, everybody, for joining us. I think more specifically for those who are maybe less familiar with the story, you know, our portfolio is kind of concentrated in three core areas: medical office, life science, as Bryan alluded to, the SHOP portfolio, and then our, what we call our triple net and wellness portfolio. And I think more specifically to office and life science, which comprises of just over 100 buildings for us, you know, this is kind of a steady state business for us. I think over the years, you know, we've put together kind of a respectable portfolio, more specifically concentrated in core markets with respect to life science and lab space, and more specifically around our concentration in the greater Boston, Cambridge area, San Francisco, and San Diego.
I think on the medical office side of the business, again, kind of an asset class we like and have grown in over time, which is much more geographically diverse across the country. I think on the MOB side of the business, you know, the assets typically range inside from kind of your local practitioners, kinda off-campus facilities, to much more of your kinda larger clinics affiliated with larger healthcare providers. And so it really runs the full gamut for us on the MOB and life science, and again, it's an area we continue to like, you know, we continue to invest in more for more organic growth purposes. And again, it's been a steady state asset class for us.
So you had a couple of known vacates in the first quarter. Some of us were caught off guard, some weren't. Can you talk about what's going on there and kinda how you're positioning the portfolio over the course of this year, what we should think about with occupancy and dispositions?
Yeah. So, I mean, for some of the known vacates in our portfolio, you know, despite having, the lion's share of our portfolio, if I had to earmark it, about 90% of our portfolio is traditional lab infrastructure or physician, improved assets. You know, we do have a concentration of assets that are the back office, the call centers supporting, one, use or the other. And so, within that specific, side of the business, you know, we've seen some, fallout with tenancy, and I think more specifically, that's geared towards just, you know, kind of work from home. Call centers, more generally, have seen an abundance of kind of work-from-home drivers. And then we've seen some M&A in the portfolio, where there's been some transition out of our buildings into, facilities already owned by the surviving company.
And so, you know, I mean, look, while there's some occupancy fallout, I think more holistically, you know, there are some opportunities to reposition those assets. You know, we've been going through a disposition campaign with certain assets, and certainly, those are an opportunity to sell where necessary. But I think holistically, kind of it's more or less a floor for us, and I think we continue to see upside trajectory kinda going into 2025, coming out of some of these known vacates.
On the MOB and life science part of the business, you know, maybe talk about where occupancy is now. I know you kind of bifurcate between same store and total. Where do you think we end up at the end of the year after going through the next couple of quarters of some of these assets maybe leaving the portfolio?
Yeah, we've... You know, so I think, you know, year-end, we're targeting 86%-88% occupancy, and those numbers are really defined by selling some of our vacant assets or those that are kind of underperformers. I mean, I think, you know, if you look at it more holistically, we have about, you know, $50 million-$60 million in value out in the market now, and if you were to profile those assets, these are, again, properties that are primarily kinda office-type build-outs, 30% occupancy, and, you know, just assets that we don't think investing meaningful capital is gonna provide needed upside for the portfolio. And, you know, the profile on buyers on those kinda runs the gamut.
I think, you know, surprisingly, to be fair, we've seen success with owner-users taking down those buildings, in addition to kinda other creative type uses for repositioning the building. And so we've seen success with being able to dispose of those. But again, you know, when you're dealing with vacant buildings, in some tertiary markets, kind of the runway to execute on that can be, you know, timely.
A couple of years ago, you did the Muse at Torrey Pines, I think it's three buildings, and one of them was a BK vacancy.
Yeah.
Anything going on there on the leasing activity? I mean, I've seen the property kinda before and after the renovation, and it's, you know, a fabulous property and a great location. You know, how's that market shaping out?
... I mean, I think holistically, you know, we completed that redevelopment several years ago, as you alluded to. I mean, we leased 100% of the building. You know, one of the three buildings, the company filed bankruptcy. You know, the use in there was more kind of office with a light lab function, just given the physical infrastructure of the building. But I think our view on Torrey Pines is it's a top-tier market. I think where our asset is located, it's in the epicenter of Torrey Pines. I think, you know, when you look at that market, and you look at Sorrento Mesa, and UTC, and some of the surrounding submarkets, there's just a glut of supply that's hit the market, and there's a lot of opportunity with move-in-ready lab space.
And so I think while we're still bullish on the market, I think that there's a time factor with respect to, you know, a lot of those users coming back to the market, you know, private equity and capital coming back into the market to continue to drive occupancy there. So for us, it's a function of, you know, when is it ripe to invest capital to further reposition to, you know, to support more of a lab move-in-ready use. And I think we're in the throes now of evaluating that. But, you know, where we sit today, having a good NOI flowing through the property with two of the three buildings leased, I think we can kind of time it appropriately.
So, I mean, on the more positive note, you have had some success with leasing activity. I think you had rent roll-ups of 11% or 12% in the first quarter. You know, what are you seeing from new tenants and the ability to kind of push rate when you do have leasing activity like that?
So we've—I mean, as you pointed out, I mean, we've had double-digit rent growth, you know, for the last three quarters. If you look at our pipeline today, I think we're seeing consistent trends, and I think a lot of that is just related to, you know, having certain properties and markets that we're just seeing outsized rent growth. And again, when you're coming off legacy leases that are five or 10 years old, I mean, naturally, you've seen over time rates improve in the MOB and life science sector, despite pressures, I would say more so on the life science side. So I think we're generally optimistic that we're gonna continue to push rate, for new absorption, and I don't necessarily see that trend slowing, in the near term.
So before we move on to SHOP, you have a couple of big JVs out there. One is the Vertex Pharmaceuticals headquarters in Boston. I think you paid, what? $110, $120, $130, something like that-
Yeah
... in 2014. It was the last priced at 1.7, I think, or that's where you last transacted on the JV.
On the JV.
You had the 10 life science MOB portfolio JV. Is there anything going on with those particular JVs? Would you sell them down more, or you just want to continue to hold those positions?
Yeah, I think for now, holding the positions, I mean, you know, we're a small holder, 10% in the Boston JV, 20% in, you know, the 10-building JV. The largest tenant there being Cedars-Sinai, buildings adjacent to the hospital. But look, I think those are kind of steady performing assets for us. We continue to like both the markets or all the markets, for within with the combined JVs. And I think continuing to kind of recognize the upside, you know, medium to long term is gonna be valuable for us. And I think today, sitting here to divest a portion, just given where the markets are, wouldn't be in our favor, and so time is on our side. So it's a lever we can pull, but not necessarily something we're focused on today.
Got it. We're gonna move on to SHOP now, but is there any questions on medical office building and life science before we move on to SHOP? No? Okay, so you have a pretty big SHOP portfolio, I think 232 or so assets, give or take. Improving supply-demand characteristics in the marketplace. I mean, what are you seeing kind of on the big picture? And then we'll kind of drill down on the things that you're doing specifically.
Look, I mean, the tailwinds supporting the overall senior housing are strong. I think, you know, what a lot of us know in this room, you've got an aging population that has been touted for quite some time. I think we're kind of on the doorstep of seeing some of that ripen. You know, certainly with respect to kind of asset values and overall kind of the net wealth with, you know, current and future residents. We're seeing, you know, opportunities for them to position themselves into our communities and for longer lengths of stay. And so I think all of, you know, everything's pointing to kind of a, you know, more successful upside in the immediate term.
You know, I think the story for us has been largely around the age of our portfolio and kind of strategies to invest in our communities to be able to take advantage of these tailwinds. It's a story that we've been working through, you know, over the last year. More specifically, you know, as we came out of the forgoing of the merger that you started off with. We had some work to do on our balance sheet, which we worked through at the end of last year, and so we're really on a path to progression within the SHOP portfolio. I think if you kind of looked at our performance, kind of the overall NOI growth and occupancy growth year-over-year, it's a testament to that improvement.
But nonetheless, I think from an industry standpoint, we feel there's a lot of conviction, and we're, we're in a good position to take advantage of that.
Okay, so you're spending a few hundred million dollars this year on CapEx. Maybe kind of bifurcate that between what would you consider maintenance CapEx and development CapEx on the properties. You know, where's that money going? How many communities are being impacted, and, and what do you think the outcome is gonna be from that spend?
Yeah, I think on the overall breakdown between maintenance CapEx and redevelopment CapEx, we're probably looking at about 60% being maintenance CapEx and about 40% being development CapEx. In aggregate, we've publicly disclosed about $190 million of CapEx spend in SHOP in 2024, and the spend runs the gamut of different things, just recurring maintenance capital, and various improvements to systems, et cetera. And then a lot of refreshes of various communities to help drive revenue growth over time.
And I would, just to add to that, you know, for us, more specifically, we have a couple different programs underway. One is a refresh program, where we're investing $4,000-$6,000 a unit into our communities, and this is just paint, carpet, FF&E, to really kind of position ourselves up for retention of residents and to make sure that where we're growing rates, we can continue to see that trajectory. And we're seeing kind of returns in the 8%-10% range on the ROI with respect to those types of refreshes. The other side of our business is more capital intensive, more invasive to the community. It's everything you would get on the refresh side, but kind of layering in more common area upgrades.
And where there's an opportunity to reposition the acuity mix, it's something that we're getting in front of. And albeit it's a more costly endeavor on a per-unit basis, we're seeing returns of 15+ on that investment. So there's truly kind of an organic side to the story for us with respect to investing capital in our communities and what we anticipate to see the byproduct of those results.
So I guess it was with your fourth quarter numbers, you put out NOI guidance for SHOP of $120 million-$140 million. As far as I can recall, it's the first time you've put out guidance in that regard, which was kind of where we were thinking. I think we were in the $126 million-$128 million range. That's up from $76 million or so, give or take a couple of million last year, and like, 8 million-10 million in the years before that. So can you talk about why you chose to give out those metrics, and what you think it takes, occupancy rate, NOI margin, to get there?
Yeah, I can take that. You know, historically, as you pointed out, Bryan, we have not provided much guidance at DHC, but we believe it's extremely important to the investor community, to be more transparent, and this is one of many steps, that we're taking towards that. I think it also shows that we have conviction in our numbers, and being able to hit those numbers, and we're off to a good start, in 2024. And as part of our Q1 call, we did reaffirm, the overall guidance. As it relates to some of the assumptions within there, you know, we're expecting about a 300-400 basis point improvement in occupancy, by year-end 2024. That would bring us somewhere between 82%-83%, on occupancy in the SHOP portfolio.
We continue to expect to make some progress on our NOI margin from where it started the year.
Maybe talk a little bit about rate. You guys, I think about a year, 15 months ago, started to push rate higher. You know, what was behind that decision, and are you getting any pushback from residents, either existing or potential new ones?
Yeah, I mean, I think big picture there was just we recognized a big mark-to-market opportunity on rate. And I think for us, it was defining the sweet spot, with respect to kind of the quality and location of our communities and how hard we thought we can push relative to getting back up to market. And I think it's somewhat of an iterative process for us. As you alluded to, on half our portfolio, we transitioned to annual increases, and kind of started this year with a 7% increase on rate. And then for the other half of our portfolio, which is a blend of about 10 or 11 operators, it's a much more kind of gradual rate increase throughout the year. And so I think it's kind of a tale of a couple different stories.
One, you know, we talked about investment in our communities, and we do believe that, you know, concluding some of this investment to further push rate is important. And so we think what that leaves us with is an opportunity for another outsized increase going into January of next year. But again, it's gonna be on the heels of kind of aggregating to the right investment level to ensure that we're not necessarily dealing with move-outs as an impact with you know too much of a rate push.
I mean, I get a ton of calls on this name. Probably 30% of all my inbounds are on DHC, and, you know, I think the story really comes down to the things that killed you during COVID: rate, occupancy, margin, are the same things that you're getting an uplift for now. So, you know, $8 million-$10 million goes to $76 million, goes to $130 at the midpoint. We're at $180 for 2025, $220 million in 2026. I think they're all supportable metrics that get you to those levels of SHOP NOI. I mean, do you think it's reasonable to think... And, and to put it in perspective, pre-pandemic pro forma SHOP NOI, I think, was $210, $220. Do you think it's reasonable to think that you could get to that level again by kind of year-end 2026?
Look, I think where we sit today, one thing we haven't talked about is our margin, I think is underperforming. You know, when you look at a 10%-11% margin based on our current NOI, there's you know, clearly some room for upside. And we think that, you know, given the acuity level in our portfolio being predominantly IL and AL, you know, we should be hovering in the 20s. And so I think there's some outsized opportunities for us, but it's not gonna come without you know, certain types of planning exercises that are underway through potential dispositions, transitions of operators, investment, we talked a little bit about. And so I think it's a roundabout way of answering your question.
We do believe there is outsized NOI opportunity, and it's gonna come through those levers, but I think closing the gap on margin is also gonna be a big piece of that through kind of portfolio transition.
Well, let's talk about that for a second from a staffing standpoint. I mean, I think everybody had problems with staffing and wages and turnover and contract labor, you know, in 2020 and 2021. You know, where do you stand now with that, and, and is there any more levers to pull there?
... Yeah, we've been able to really rightsize our contract labor as a percentage of total costs. It's down to, I think, 2%-3% currently, from a much higher amount. Now, the offset of that has been, we've been staffing up in more permanent roles. And now our focus with our operators is really around staff retention, and there's different initiatives that are happening to help retain our personnel, and one of them being, for a full eight-hour shift, we're providing a meal a day. Because if we can retain our staff, it's gonna that cost of the additional meal for the staff, we're gonna have much more benefits on service and training, and all that being reduced.
I think it was maybe two years ago, you transitioned about 100 properties, a little over 100 properties, from AlerisLife to other operators. What was behind that decision? How has it worked out, and do you think you're gonna make any more tweaks there?
Yeah, I mean, I think kind of more broadly speaking, you know, you know, for those that aren't aware, we own 34% of AlerisLife. You know, and as part of the transition back in 2021, we took kind of a closer look at the portfolio, and evaluated opportunities to kind of rightsize where we feel like we can kind of get the best improvement across our portfolio. And we just had, you know, what I would call more challenged or operational intense assets in kind of more tertiary markets or areas where I think AlerisLife, more specifically, didn't have the core cluster concentration.
And so, you know, bifurcating the portfolio, and to your point, cutting it in about half, was an opportunity to really try to, you know, rightsize our communities with the right operator to drive performance. And look, you know, going back to 2021, if you look at kind of where our performance was then to where we are now, there's been significant upside. I think, as we talked about a little bit earlier, there's still room for improvement. You know, we are, you know, often looking at our operators. You know, we most recently transitioned out of an operator and moved 13 communities over to an existing relationship, and so there's still some work to do with that.
I think there's still some markets for us to evaluate, but nonetheless, kind of the growth trajectory and being able to focus the operators with the right communities has overall been a positive for us.
I'll just finish on some balance sheet items, and then we can open it up for questions, which I think a lot will be on SHOP. So on your first quarter earnings call, you talked about doing a CMBS offering, kind of in the $175 million-$200 million range. I think most of the people who follow the name closely were also thinking that there would be some GSE agency financing. We can answer that part secondarily, and, you know, maybe sometime in the third quarter. You just announced last week you did $120 million at a 50% LTV. I think that LTV was a little bit light of expectations, but it was a 6.86% coupon on that. Can you talk about how you chose to go that route? Is there any more CMBS?
And then we can dive into the GSE stuff.
Sure. So on the CMBS execution, on our prior earnings call, we were guiding to a larger portfolio and proceeds of $175 million-$200 million. Ultimately, where we transacted was a portfolio of 8 medical office and life science properties that we had secured from an initial target of 11. So that alone was one of the main reasons that pricing was reduced. And then the second part of that was the loan-to-value was about 50%, which was a little bit lower than what we initially were expecting. However, we did get about a 50 basis point improvement on the overall rate.
As we've been talking about our financing strategies for 2024, we talked about an aggregate somewhere upwards of $700 million of total loan proceeds, which was not. We don't need $700 million of proceeds. We have a $500 million bond maturing in June 2025. So, taking $120 versus $175-$200 fits very nicely into our overall strategy. And then I can keep going on to the agency financing that we've talked a lot about. We are pursuing a financing in the neighborhood of $500 million as kind of target proceeds, and it's on a community of our SHOP assets managed by AlerisLife. You know, we're working through the process.
We've engaged an investment bank that serves as kind of a preferred lender with the agencies, Freddie Mac, Fannie Mae. We're at the point where we've presented a portfolio to the agencies, and we are waiting to get in front of them for an in-person meeting, and then for them to commence their diligence efforts. The process is a little bit longer as compared to a normal secured financing, but there's been a lot of pre-diligence with the investment bank that we've engaged that makes us feel pretty good about the portfolio we've put forth and having attributes that fit the requirements of the agencies.
I think best case, just given things move a little slow, is probably a September execution on that, and the proceeds would be used to pay down the rest of those $500 million of bonds that have an interest rate of 9.75%.
So 41 assets out of 232, give or take, probably sell a few... leaves a lot of unencumbered bandwidth to take out or somehow address your zero coupon bonds due early 2026. How are you thinking about that? I suspect you probably don't do anything for at least a year on that, but what's the thought process internally?
Yeah, we have a lot of options. So, just to back up, we executed on the zero coupon bond issuance in December of 2023. It's secured by a portfolio of 95 properties across the platform, excluding there's no SHOP assets that serve as collateral in there. That portfolio is 100% unencumbered today. So the maturity date is January 26. There is an option to extend that maturity by a year. In that third year, it is cash paying, and that interest expense increases 90 basis points every 90 days, I'm sorry, 50 basis points every 90 days. So it's not an option that we wanna exercise, but it's an option available to us. Look, the properties that serve as collateral to the bond are good-performing, cash-flowing assets.
So we think we have many options. We could take some or all of those properties and look to do a longer-term financing to take out the zero coupon. We also will have, you know, close to 200 communities in our SHOP portfolio that will remain unencumbered, and we expect several of those to be in that stabilized area that will be required of the agencies. Then we also could sprinkle in some additional asset sales in addition to what we've kind of guided to for 2024. So given the size of our unencumbered asset base and the recovery in SHOP, we feel pretty good about our various financing or refinancing options for those zeros.
You haven't even talked about the probably $300 million worth of triple net SHOP assets you have, and probably $150-$160 million worth of wellness centers that you have that... So I think in a nutshell, the argument of DHC's demise was a little bit too early to call last year.
No, we had some work to do. You know, we've executed on kind of, you know, several of those initiatives. I mean, we still have work in front of us, you know, specific to some of the things we alluded to. But I think big picture, we feel good on where we're at, and we think there continues to be a meaningful upside. And again, I think kind of laying out that guidance is kind of a testament to kind of showcasing where those trends will continue.
Anybody have any questions? We just covered a lot of ground here.
Yeah, a couple questions. One, you know, your secured debt capacity, that secured debt to total assets covenant, you know, pro forma for the CMBS and then the agency, you know, where do you think you're gonna be ending up on that? And then the second question is just the rate on the agency financing, where do you think that that comes in at?
Sure. So on the covenant on secured debt, we have plenty of room in that covenant. We haven't kind of publicly disclosed pro forma where we'll be, but we have no concerns over our covenant compliance there. As far as rate for the agencies, you know, I don't wanna get too ahead of ourselves, given that we're talking about an execution at best three months from now. But if we were to price that today, my guess would be it would be around 6.75% for 10-year money.
Anyone else? Don't be shy. A lot going on at DHC. Much better this year than last year. All right. Well, with that, you want to have any closing comments or-
No.
Okay.
I mean, we just appreciate everybody kind of listening in, and it looks like everybody's still awake, so that's a win. But, nonetheless, if there's any questions offline, we're happy to take those.
Great. Thank you very much.
Thank you.