Earnings Call: Q2 2018

Aug 2, 2018

Good day, and welcome to the HCP, Inc. 2nd Quarter 2018 Financial Results Conference Call. All participants will be in listen only mode. After today's presentation, there will be an opportunity to ask questions. Please note, this event is being recorded. I would now like to turn the conference over to Andrew Johns, Vice President, Finance and Investor Relations. Please go ahead. Thank you, operator. Welcome to HEP's 2nd quarter financial results conference call. Today's conference will contain certain forward looking statements. Although we believe the expectations reflected in any forward looking statements are based on reasonable assumptions, our forward looking statements are subject to risks and uncertainties that may cause our actual results to differ materially from our expectations. A discussion of risks and risk factors is included in our press release and detailed in our filings with the SEC. We do not undertake any duty to update these forward looking statements. Certain non GAAP financial measures will be discussed on this call. In an exhibit of the 8 ks we furnished with the SEC today, we have reconciled all non GAAP financial measures to the directly comparable GAAP measures in accordance with Reg G. The exhibit is also available on our website at hcpi.com. I will now turn the call over to our President and Chief Executive Officer, Tom Herzog. Thanks, Andrew, and good morning, everyone. With me today are Pete Scott, our CFO and Scott Brinker, our CIO. Also here and available for the Q and A portion of the call are Tom Klarich, our COO and Trema Henry, our General Counsel. This was a busy and productive few months for HVP. We delivered overall operating results in line with our expectations. We completed the majority of our senior housing operator transition. We closed or placed under contract $1,500,000,000 of non core asset dispositions, plus closed on our U. K. Joint venture with Sendot, which resulted in $402,000,000 in proceeds. We continued to reduce our leverage and repaid $1,000,000,000 of debt. We signed 324,000 square feet of leases related to our assets under development. We entered into a $605,000,000 MOB joint venture with Morgan Stanley that added a strong presence in the Greenville market with a tenant that is the largest health care system in South Carolina. And we commenced development of Phase 4 of the Cove Life Science Campus in South San Francisco and an expansion of our Life Science Hayden Campus in Boston, increasing our total pipeline to 800,000,000 dollars In short, our team made tremendous progress executing on all facets of our previously announced strategy. With our transaction progress to date, we have now closed or are under contract on over 90% of the $2,200,000,000 of sales we identified back in November 2017. Operationally, our life science and medical office businesses are performing very well. We continue to see strong life science demand in all three of our but in particular, San Francisco and Boston. And as expected, our 90 or 81% on campus medical office portfolio is producing stable growth. Similar to last quarter, we continue to navigate the headwinds within our senior housing business, with performance at our transition assets falling further than we expected. The good news is we have now completed the majority of our planned operator transition. Atria, Sunrise, Eclipse and Sonata are hard at work implementing targeted plans for operational improvement at these newly transitioned communities. Our expectation is these high quality operators will drive outperformance for HCP, but it will be choppy and take some time to capture this upside. With a stronger portfolio and balance sheet, our team has begun to look for more opportunities to play offense, which is notable and a welcome change from the defensive posture we've maintained over the past few years. From a development perspective, we continue to have tremendous leasing success at The Cove, but we now have 100 percent of Phase III lease. A blended yield on cost at The Cove is expected to be in excess of 8%, well ahead of our original underwriting. We expect to continue to capitalize on this market momentum as we ramp up our leasing efforts on the $224,000,000 1st phase of Sierra Point and the $107,000,000 Phase 4 at the Cove, both in South San Francisco. More to come in the coming months. The forward progress I just described would not be possible without a strong and cohesive team, and I'm very pleased with the way our senior leaders have come together around the common goal of positioning HCP for future growth. I'm also very pleased with the strong additions to our Board, while last week Lydia Kennard and Kent Griffin joined the other directors in Irvine for their 1st quarterly meeting. And today, we announced that Kathy Sandstrom was appointed to our Board. Kathy spent over 2 decades at Heitman and she was most recently Global Head of the firm's Real Estate Securities Business, while also leading the firm's buy side investment teams for Reed Securities. With the recent appointments of Lydia, Kent and Cathy, we are honored to have these highly talented individuals join our Board and we look forward to their future contributions. With that, I'll turn it over to Pete to discuss our financial performance for the quarter and outlook for the remainder of the year. Pete? Thanks, Tom. Let's start with 2nd quarter results. We reported FFO as adjusted of $0.47 per share and our portfolio delivered 0.7% year over year same store cash NOI growth, which was in line with our expectation. Let me provide more details around our major segments. For Medical Office, same store cash NOI grew 2.5% over the prior year, driven by in place lease escalators and operating expense savings. Demand fundamentals for outpatient medical office buildings continues to be strong. Year to date, we have achieved a retention rate of over 75 percent on renewal and a positive mark to market on rent of 2%. Turning to Life Science. 2nd quarter same store cash NOI grew 0.5% over the prior year, which as we've discussed was impacted by the mark to market of the Rigel lease. On a normalized basis, same store cash NOI and life science would have been approximately 3.5%. Tenant demand remained strong across our 3 core markets. Sequentially, occupancy moved 120 basis points higher driven by lease commencement at some of our recently vacated spaces. Cash releasing spreads during the quarter blended to positive 24%, driven in part by sizable mark to markets in our Hayward and South San Francisco portfolios. Shifting to our life science developments. At The Cove Phase 3, we are now 100% leased, well ahead of expectations. We are excited to expand our relationship with Denali Therapeutics, who will take 153,000 square feet of space at Phase 3. Denali is an existing tenant of HCP and completed a successful IPO in December 2017. In addition, we welcome Elektor to our group of high quality tenants. Alector, who will occupy 105,000 square feet of space at Phase 3, is a fast growing biotech company focused on developing potential cures for both Alzheimer's and many forms of cancer. On our other major developments in South San Francisco, we continue to see significant demand for Phase 4 of The Cove and the first phase of Sierra Point and expect to have more to report in the near term. For our senior housing triple net portfolio, same store cash NOI grew 0.7% in the 2nd quarter. This was in line with our expectations and takes into account the previously announced rent adjustment with Brookdale. On a normalized basis, same store cash NOI and senior housing triple net would have been approximately 2.5%. For our SHOP portfolio, same store cash NOI for the quarter was negative 4.4%. However, similar to last quarter, there was a significant disparity in the performance between our core portfolio and the assets we have transitioned or intend to sell. As a reminder, we have not excluded nor have we normalized for performance in our transition assets or assets we intend to sell. Scott will provide more color on our shop performance momentarily. Before moving to the balance sheet, I would like to cover a change in our FAD presentation and policy. Going forward, we will exclude leasing commissions from FAD Capital on development and redevelopment assets as well as vacant space at newly acquired properties. Historically, these leasing commissions were not significant. However, as we have ramped up our development and redevelopment pipeline and we have been successful in leasing up space well before delivery, we felt it was important to be consistent with our peers and others in the industry. Furthermore, these commissions were already captured in our estimated project costs and yields. Page 22 of our supplemental provides a summary of our FAD and non FAD capital expenditures by segment and is reflective of our updated definition. Moving on to the balance sheet. We continue to take significant actions to improve our credit profile. During the quarter, we generated 6 $35,000,000 of cash proceeds from asset sales. We used these proceeds to repay our revolver, reducing the balance to $545,000,000 at quarter end. Subsequent to quarter end, we used proceeds from our initial U. K. Joint venture transaction and the Genentech purchase option exercise to redeem the remaining $700,000,000 of our 5.38 20 21 bonds. We will record a $44,000,000 debt extinguishment charge in the Q3. Year to date, we have repaid over $1,000,000,000 of debt and our pro form a net debt to adjusted EBITDA currently stands at 6.3x. Finally, I'll finish with our full year guidance. Starting with NAREIT FFO, we updated our guidance range primarily to reflect the debt extinguishment charge on our notes redemption. For our FFO as adjusted guidance, we are increasing the lower end by $0.02 per share, bringing our revised guidance range to $1.79 to $1.83 resulting in a $0.01 increase at the midpoint. Our updated range is based on a number of moving parts, including the positive impact of owning certain sale assets longer than incorporated in our original guidance range and the accretive joint venture with Morgan Stanley, which we expect to close in August. These benefits are partially offset by weaker than expected performance in the transition and sale assets in our senior housing portfolio and an increase in LIBOR. We are reaffirming our aggregate STP guidance range of 0.25 percent to 1.75%. By segment, SHOP is currently trending towards the low end of our initial range, while Life Science, Medical Office and Triple Med are trending towards the mid to high end of our ranges. Other additional details of our guidance along with timing and pricing related to our capital recycling can be found on Page 45 of our supplemental. With that, I would like to turn the call over to Scott. Thank you, Pete. The takeaway on the investment side of the business is execution and progress. This morning, we announced a $605,000,000 joint venture with a fund managed by Morgan Stanley Real Estate. HCP will own a 51% interest and Morgan Stanley will own the balance. We used relationships and creativity to source and structure an investment that economically and strategically accretive. To form the venture, HCP will contribute 9 MOBs valued at $320,000,000 Our sale cap rate is in the low 4s on trailing NOI. Today those 9 buildings are 80% leased and while we fully expect them to lease up, it will take time and capital to do so. Morgan Stanley will contribute equity that allows the venture to acquire an on campus medical office portfolio anchored by the Greenville Health System or GHS. The acquisition was sourced by HCP and the purchase price is $285,000,000 Our acquisition yield is roughly 6%, inclusive of joint venture fees. Big picture, we like the market, tenant, the real estate and our capital partner and I'll elaborate on each point. Greenville is a new market for HCP, allowing us to expand our platform and market reach. It's the largest MSA in the state and a favorable business climate is driving continued growth. Our anchor tenant is GHS. They're by far the leading health system in the state. They capture more than 50% share of the Greenville market and they have an A credit rating. This is a new relationship for us and one we expect will provide future opportunities. The buildings themselves are 95 percent on campus, which is a key metric when investing in medical office because location drives demand. 94% of the space is leased directly to GHS who will sign new 10 year leases at closing. Our capital partner is Morgan Stanley. Since 2015, we've been 5,149 partners on a 1,200,000 square foot medical office portfolio in Houston. They've been great partners and we're excited to grow the relationship. We also like the economics here. This deal drives immediate and sustained accretion given the spread between the acquisition and disposition cap rates. Turning to our Life Science platform. Industry fundamentals remain incredibly strong. We're taking advantage with $800,000,000 of ground up development underway, primarily in South San Francisco and Boston. The demand for space exceeds supply, so we're seeing great leasing momentum. We're also executing previously announced transactions. In June, we closed on the sale of a 51% interest in our U. K. Holdings to Sendot, an institutional investor based in China. They're well known to the team here and it's another example of why relationships are so important. Syndat plans to acquire the remaining 49% in 2019, allowing us to complete our strategic exit from the U. K. We're also progressing the Brookdale sales. Year to date, we've sold $700,000,000 of Brookdale assets and another $500,000,000 now under binding purchase contracts. We have a handful of additional assets in the marketplace and with those, we'll have concluded the master transaction agreement that we announced last November. Pete gave the senior housing results earlier and I'll provide some color. In triple net, rent cover for most of our operators improved last quarter and it was outweighed by declines from the Brookdale portfolio. Given the trends in occupancy, we expect rent cover to decline further next quarter. We're very focused on the Brookdale portfolio in particular. These are good buildings with a strong track record, so we have high expectations for performance. In SHOP, the core portfolio delivered 2.9 percent NOI growth last quarter. That's of course an excellent result in the current market as it will likely be the high point for the year given the downward trend in occupancy. Whether the results are good or bad, we caution against reading too much into any one quarter, simply too short a time period to evaluate performance in Senior Housing. That's especially true for HCP because our sample size is so small. In the transition portfolio, we've now closed 3 quarters of the transfers and most of the remainder will occur this month. Occupancy at these properties is in the low 80s today versus the low 90s just 18 months ago. So clearly, there's upside to be recaptured. Our new partners are hard at work, but realistically, it takes time to build the new team and culture, implement systems and rebuild the local reputation. We also need to dig out of a big decline in occupancy over the past few quarters just to get back to level. So the next few quarters will see negative year over year transition results. The upswing has the potential to be dramatic, but the timing of year over year growth is more likely to be in the second half of twenty nineteen and into 2020 given the comparable periods. These transition assets are a case of 1 step back to take 2 steps forward and we have a good precedent. 18 months ago, we transitioned 4 assets with 70% occupancy to Sonata, a focused operator with local expertise. Today, occupancy in those assets has improved to almost 90%. And with that operator, we can open the line to questions. The first question comes from Rich Anderson of Mizuho Securities. Please go ahead. Thanks. Good morning. On the Brookdale situation, Scott, did you say you expect to have the rest of the transitions done this month? Hey, Rich. Good morning. We expect to have most of them done this month. We've got about 3 quarters of the transitions already completed. We've got 8 or so more scheduled for August and then a small handful that will likely transfer later in the year due to licensure delays. And so the bigger picture question is, would you say you're on plan or ahead of plan in terms of getting all of it done, transition, sales, everything from the Brookdale process? 100% on plan. We carefully chose the operating partners continue to feel extremely strong about over time their ability to turn these properties around. But as expected, the transition period is choppy and our NOI this year is reflecting that. Occupancy is way down, not a surprise given the turnover at the properties at the leadership level. The good news is Atrius and out of Sunrise, they're now in most of these buildings establishing the new team, the new culture, rebuilding the local reputation, but these things take time. So we continue to be very optimistic that we'll recapture the big decline in occupancy and it's been big. I mean we're down nearly a 1,000 basis points in occupancy over a year Rich. I mean that's how NOI declines 15%. And frankly it could get a little bit worse next quarter. We don't know for sure. It's a relatively small pool. So it's important to keep that in mind. We're only talking about $8,000,000 or so of NOI per quarter. So these aren't huge numbers, but the percentages sure look ugly. But we are optimistic we'll recapture that. We've got a good precedent. Atria has done this a lot. We're redeveloping some assets. So at some point and it may take a little time, this could easily stretch into late 2019 2020 just because of the big decline in occupancy. It takes a while to get back to level. But once we do, I think you're going to see some pretty attractive growth in those assets. Okay. And my second question maybe for Tom. One of the themes that came out of your peers' calls was that they think that senior housing should get a valuation similar to conventional multifamily. So the question is, do you feel that way being a multifamily guy in your past? And second, have you thought at all about marketing assets to sort of multifamily esque type investors to the extent we can maybe draw some comparisons between how these assets should be valued. I'm curious if that's a strategy that you've thought of? Hey, Rich. Good question. Obviously, I've experienced both sectors pretty dramatically. I do have some thoughts on this. I think there are some pretty big differences between the 2 sectors, just fundamentally. Senior housing obviously is more complicated with the care component. It's got some there's always some potential liability that comes with that, that does not exist in senior housing. They're operated by management companies under RIDEA Structures and with that oftentimes with long term contracts. The operating margins are way different, call it 30% senior housing, 70% multifamily, so the volatility within that's different. I think about the 30 day month to month lease that you haven't seen your housing versus multifamily where typically it's a year and you get a certain amount of turnover, but you can have pricing systems that factor that in and establish lease terms that fit neatly into the rental structure as far as timing of the year in multifamily. And the other thing that strikes me is licensing. When one goes to transition or sell assets, you go through a whole licensing drill in senior housing that you don't in multifamily. So at the same time, just to balance it out, the demographic growth in senior housing should produce a big upside. We're going to bump along for a while here. But on the other side of this thing, there should be some real upside. And that lowers the cap rate on senior housing on that component. And then the needs based AL and memory care are less impacted by the business cycle. So there are some pros and cons, but in my calculus having experienced both fairly extensively, When we look at cap rates and IRRs that take all this into account, I'm not surprised that the market is pricing senior housing at a higher yield given these different risk factors despite the expected future growth. So to me, it makes sense towards price. I think there's an overriding factor I would mention though and Brinker mentioned this in the last call. One of the things he likes about senior housing and he's been doing that for a decade and a half since he was young, he's still young, but it's an inefficient market. Senior housing is inefficient and that means if you do it well, you got a lot of upside that you can go capture. So that's my answer to the first question. The second part is marketing assets to multifamily. Certainly not assisted, probably not IL. It's a different business. It's an entirely different business in my view. The 55 plus, yes, you could team up. I think you won't see us in the 55 plus business anytime soon. That is much more akin to the systems, pricing systems and the type of business multifamily does. And the things they do, they do better than we do in senior housing. It's just a different business. They've been doing it for a long time. So I don't see independent or assisted or memory care drifting into multifamily. That would be my view. But 55 plus, I could see multifamily taking that on probably not a very good fit for us because we don't have that infrastructure. All right. Great color. Thanks Tom. You bet. The next question is from Juan Sanabria of Bank of America Merrill Lynch. Please go ahead. Hi, thanks for the time. Just on the MOB side, I was hoping you guys could give your thoughts on the CMS HOP derate that was maybe a bit below expectations. And just generally, if you can comment on how you think about risks related to some of the mergers and new initiatives like the CVSs and the Aetna's of the world are putting out there that may disrupt primary care physicians in the U. S? Tom Clerchey will take that. Sure. Hi, Juan. How are you doing? Hey, Tom. When you look at the proposed rule from Medicare that recently came out, the tenants that are going to be most impacted from that are really going to be then of patients then that will also impact them. It's interesting too because of the historical service mix of for profits versus not for profits, the for profits actually are in a better position than the not for profit. So if you look at our portfolio, we're 81% on campus, so on campus facilities aren't impacted by the rule. Our Medicare mix is lower than the national average at 16% and we're 60% for profit. So we're probably in one of the better positions when you think of this rule. As far as the mergers of like Walmart, Humana and CVS, we consider those as you said more of a primary care impact. You look at the retail health clinics and the urgent care centers, I see that as more of an impact to them. So it's more of a provider side competition. Again, if you look at our portfolio, we're 81% on campus and we actually have a much higher mix of specialists in our portfolio. If you look at the national average of physicians, primary care docs make up about 33%. If you look at our portfolio, it's only 19%. So again, I think we're pretty well insulated from that also. That 19% is of what, sorry? 19% primary care physicians versus 33% on average. So what that points to is we have a much higher percentage of specialists in our portfolio. Okay. Thank you. And then I was just hoping maybe for Scott Brinker on seniors housing. Any updated thoughts on just nationally, maybe not related to your RIDEA portfolio specifically, but how you're thinking about when fundamentals will trough. It clearly starts at peak. I'm not sure if the deliveries are kind of peaking now. If you can just kind of frame the starts, deliveries and then the actual lease up time that these things will weigh on the market and when things may begin to turn on a national basis? Yes, I'm happy to take that. Juan, I can tell you we take we're spending enormous amount of time looking at that exact question for our specific properties, but we also step back and try to think about it at the national level too even though it doesn't have a direct impact. It really is a local business. But I'll try to answer your question. The good news is starts have declined 2 quarters in a row. It starts are down particularly in our markets, but that's also true nationwide. Of course, the offset is that it takes 18 to 24 months for these projects to actually complete from start to finish generally speaking. And that means that for the next 12 to 18 months, most likely that there will still be an imbalance of new supply being delivered that's in excess of the demand that exists. So what we like is that absorption remains strong. It's in the 2% to 2.5% per year. We think that number only increases going forward, but more likely than not the dramatic growth in that percentage is probably still a couple of years out. So I don't think things get worse. I also don't think they get dramatically better for the next 12 to 18 months, but we're clearly heading in the right direction. Thank you very much. The next question is from Chad Vanacore of Stifel. Please go ahead. Thanks. So just thinking about your new tenants in senior housing, how many of those represent new relationships? And then what are your expectations for growth with those new relationships? Hey, Chad, it's Scott. It's a mix. So Atria has taken on the lion's share of the Brookdale transitions and their existing operator, although it wasn't in scale. So now it is scale and we'd like to do more with them. We think very highly of their team, great track record. Sunrise is the 2nd largest on the transition list. They're taking on 6 of the properties. We have a very large portfolio with Sunrise today, 48 properties and we would like to grow with them as well. They do a fantastic job in their core business of memory care and assisted living. Many of the others are actually new where we're very small relationships that we're trying to grow. That includes Sonata, who we've had a really a great experience within Florida. They successfully turned around some Brookdale properties for us in the past and we'd like to do more with them, particularly in the state of Florida. And then there are a handful that this team is familiar with that we don't work with today that could be great candidates to transition properties to whether it's this existing group of Brookdale assets or what we do in the future. So very optimistic about what's possible with the senior housing business. We're remaking it in a pretty dramatic way, both the properties we own, the operators that we do business with, the way deals get structured, the way we align incentives. So we're still fairly early, but we like the direction that we're moving. Okay. And then just for clarification on your MOB JV with Morgan Stanley. Can you walk through how it exists today and then where it gets to? You're adding 1,200,000 a square foot to equal 2,000,000 or so. And then in your statement, you say you the total portfolio is going to get to 3,200,000 square feet and 33 properties. Can you just walk through that? Sure. So the JVs are separate. The one we formed with Morgan Stanley in 2015 is isolated to a Houston portfolio that's leased to Memorial Hermann, the top health system in Houston. This new joint venture in which we're contributing non assets and then Morgan Stanley contributing equity so that venture can in turn acquire portfolio of Greenfield Health System MOBs. It's about 2,000,000 square feet in total and it will be separate from that existing joint venture. A number of the terms are similar, but they are in the separate ventures. The next question is from Jordan Sadler of KeyBanc Capital Markets. Please go ahead. Hi, good morning. Thank you. Hi. I wanted to follow-up on that last question regarding the JV assets. Can you sort of describe or characterize the new assets sorry, the assets that are being contributed to the new joint venture? I know the occupancy is a bit low, but maybe just give us a sense for and certainly well below your average, why these are good candidates for this? Sure, Jordan. Scott again. There are a couple of reasons. One is that the existing venture with Morgan Stanley is completely concentrated in Houston and the tenant is Memorial Hermann and about half of the properties that we're contributing here are also in Houston with Memorial Hermann. So it just felt geographically from a relationship standpoint like a portfolio that would fit together pretty well even though they are separate ventures. And then the other assets that we're contributing are older properties that we think have the high likelihood of leasing up, but it is going to take a little bit of time to do so and a lot of capital just because they're older buildings and typical TIs and leasing commissions that are associated with lease up. We thought it would be appropriate here to reduce our risk by 50%. We still capture half of that upside. We maintain the market presence in the market position. In the footprint, we just reduce our risk profile by 50%. Okay, that's helpful. And then on triple net versus RIDEA, you guys have done quite a bit on the transitioning of assets. And I think transitioning assets from the TripleNet structure to the RIDEA structure has been all the rage. I'm wondering if you guys are having incremental discussions along those lines within your portfolio. I know Capital Senior on their conference call mentioned that they're having some type of discussion regarding your ship with them. I know it's now at your expiration, but just curious if you could lend any insight? Hey, Jordan, I can try to cover that and Tom may want to add a couple of comments as well. It's an important topic. So the triple net portfolio for HCP is actually extremely high quality. So that's been validated by a number of sell side research analysts. We certainly think that's the case as well. That's true from a real estate standpoint as well as operators. And when you look at the payment coverage today, it's around 1.1 times that's after management fee, about 20 basis points higher before the management fee. And we do have a couple of leases that are below 1.0 cover, it's about $50,000,000 of annual rent, it's below 1.0, but it's important to think maybe more carefully about the composition of that $50,000,000 Half of it is Sunrise where the rent that we receive it really already reflects the underlying EBITDAR at the property. So there's really no risk whatsoever on those assets And the other half of that $50,000,000 that's below $10,000,000 are a combination of very strong credits. We have a fair amount of lease term left and that includes capital senior living, corporate guarantee, 2 years left on one lease and 8 or 9 years left on the other lease. And we're always willing to have discussions with our tenants. That's an ongoing conversation. We like to have win win relationships, but we also understand that these leases are in many cases an asset to HCP. So any conversation needs to acknowledge the way on not just the real estate, but we have this lease in place for at least a period of time. And it may well be that 2 years from now or 8 years from now, the supply demand picture in the senior housing sector looks a lot different. So we need to keep that in mind as well as we think about things we would or wouldn't do right now. Tom, anything you'd add? You'd add? I think you captured it. I would mention, Jordan, that we will likely transition some of the Sunrise ad rent assets to shop. Think we've mentioned that the last couple of quarters, so that should not be new. That's just to clean that structure up, so we've spoken to that. But as far as the triple net arrangements that we have in general, holding those based on the term of the lease, the credit, the coverage is something that is we feel is typically favorable. And if we do have some that we think that there's a better play for the long term benefit, we'll consider those on a case by case basis. As far as Capital Senior, we did see their remarks and understand those. There's nothing imminent in anything that's being discussed there. I think that the number of assets that they've mentioned just for the record for our investors, I think they might have almost doubled the number of assets just by mistake, somebody made a mistake. But our exposure to them is quite a bit smaller than what it might have sounded like if you're listening to their call. No big deal, but I'd mention it. Okay. That's helpful. Can I just ask you one more? In terms of your dollars as you look forward on the investment front allocation here, you're obviously ramping development on the LifeSci side and that seems to be a pretty good use of capital. 1, with rents escalating, what are those new yields looking like as you do new underwriting on Cove IV and Hayden? And then 2, is that where we should expect you to continue to put dollars going forward? I'll start with the first part of that and I'm going to turn it to either Peter or Tom on the life science Tom Klaritch on the life science stuff. Let me take a minute on that. From a big picture capital allocation perspective and Scott, I'll speak to it. You and I talk about it all the time that you can add as well. We do think life science is quite strong. There's been very favorable demand. We have a sizable development pipeline. It's in the vicinity of $800,000,000 We'll be looking to spend $300,000,000 to $400,000,000 per year on that. So we're not ramping it up to a new level that starts to create undue risk. But we have had such favorable results in leasing and there's so much continued demand coming at us in some of those markets that we do expect to continue that growing that business in life science by way of development and we do have a 1,000,000 square foot buildable square foot, I should say, land bank. So a nice shadow development pipeline in life science. We feel good about that. MOBs, we'll continue to expand in MOBs. We're going to be selective in what we acquire. It will very much typically be on campus or anchored if it's on off campus. We're going to continue with that strategy. The JV that we did is a good example of something that was accretive, allowed us to exit or reduce concentration in Houston and then add another top 10 market in Greenville. So we like those types of plays. And then senior housing, there if you did flip to Page 19 of our supplement, you would see a list of different non core sale transactions. They would center around senior housing, mezz debt in the U. K, all the stuff we told you that we are going to take some actions on, all non core stuff as we clean up the senior housing portfolio and exit the UK and mezz debt. So, when I think about where you'll see us place money as we go forward, those would be the 3 markets. As it pertains to the life science and how we're thinking about that, I'll turn it to either Peter or Tom. Pete, do you want to start? Yes, it's Pete here. Good question, Jordan. We obviously like the risk adjusted returns on the pipelines developments that we're getting right now. At Hayden, we're underwriting to an expected low to mid 7% yield on cost there at the Cove, which I know you specifically asked about. That project, we've seen rents increase pretty significantly since we started Phase 1 through now to starting Phase 4. On a blended basis, we're probably in the low 8s across all the projects and we're actually going to do much better than that on Phases 34 because a lot of the infrastructure to report on now, but we're getting a lot of interest there too And it's tracking with the rental increases generally in South San Francisco. So when you think about those types of yields and putting capital to work, we think it's a very strong risk adjusted return for us. Okay. Thank you. Thank you. The next question is from Tayo Okusanya of Jefferies. Please go ahead. Hi. Yes. Good morning over there in California. Quick question just around the JV again. The acquisition of the portfolio from Greenville, you guys are talking about a 6% yield. I think the seller is talking about a cap rate that's meaningfully lower. I'm just trying to reconcile the difference. I know part of it is JV fees that you guys expect to get, but what else is kind of what else am I kind of missing in there? Tayo, it's Scott. Let me try to clarify for you. Roughly 6% in our earnings release is inclusive of the fees that we're earning to manage the joint venture and originate the deal. The actual property level cap rate that we're acquiring the portfolio for is in the mid-5s, about 5.6% on the forward NOI. We are going to put some capital into the buildings plus or minus $15,000,000 that will likely happen sooner than later. So we just consider that part of our investment basis which brings the initial cap rate down to about 5.4%, but we're still around 6% inclusive of the joint venture fees. And then when you say it's on a 1 year forward NOI, are you making any assumptions about meaningful lease up in the portfolio as well? No, we entered into will enter into new leases with Greenville at closing for 95% of the space nearly. So this one's pretty easy to underwrite fortunately. And overall the portfolio is in the 99% or slightly above that lease status right now. So not a lot of upside from a leasing perspective. Got you. Okay. That's helpful. Again, thought overall it was a good quarter and again you guys should just keep executing. Thanks, Dale. The next question is from Vikram Malhotra of Morgan Stanley. Please go ahead. Thanks for taking the question. Just wanted to go back to the triple net exposure ex Brookdale. The Scott, on the one hand, you indicated it may be a longer trough, 8, 12, 18 months, things still may be challenging. We look across several of the other leases, they're all pretty close to 1 times covered with obviously varying expiration. But I'm just wondering, how do you think about sort of addressing some of these? Would you conversion to RIDEA or buying them out and maybe replacing them, replacing the operator. It seems like if you're correct and things remain challenging, these could very well then you could have a they could be below 1 times covered in the next 2, 3 quarters? Yes. Can you just address some of them more specifically kind of what your plans are? Yes, Vikram, I don't want to discuss particular operators and our plans with them. I can tell you that we're highly engaged with all of our partners on the status of their business and strategy, how the properties are performing and what we're going to do with the relationships. And the good news is we've got several years in most cases to figure this out. So there's no urgent need. There's 0 risk of rent not being paid. I think that's an important point to take away is that there's strong credit standing behind these leases. And in many cases, if it's below 10, it's only slightly below 1,000,000. But there are any number of things that we could do. Some of the properties under triple net lease don't get as much CapEx as they need and just need to be refreshed. So we could do that under a triple net lease, we could do that under RIDEA, we could do that with a new operator. In a lot of cases, Capital Senior Living is an example. We've got a lot of very high performing properties and a few that aren't doing so well. And it may be the case that you'd make the decision to sell those handful of properties that are dragging down the whole pool and you're left with a very high performing portfolio of assets. So we've got a lot of options and a couple of years to figure it out and we're going to do the thing that we think best for the shareholders over time. Okay, that's helpful. And just sticking to sort of senior housing, can you now that you've spent sort of more time maybe looking through the portfolio and what you want to do, Can you talk about sort of maybe like building out systems, maybe hiring more people in the sense of trying to create a platform that would enable you to manage these assets in a more data using more data like you probably did at your prior company? Hey, Vic. I made the comment earlier, we're remaking the senior housing business. That includes the portfolio, that includes the operating partners and we're making massive progress on the team and the systems that are going to be necessary to drive performance. So we feel great about the progress that we're making and the team we've got in place. So I'm super excited to be here. It's a dynamic place. We're working our thoughts off to get this turned around as quickly as we can. Okay. Well, I guess I'm just trying to clarify. Do you so you need to sort of build out the systems that you'd like? Or is it all incremental? Do you need to maybe hire more people? Is this a 1 year build out? Like how over what timeframe would you think you'd kind of build all that? And I'm specifically talking about just systems and processes that you'd like to overlay? Yes, Vic, it's in process for sure. So we're making rapid progress. Tom and the team that came in almost 2 years ago have gave me a huge head start. They brought in some really talented people. We're in the process of putting those systems in place. So the progress that's been made in the last 2 years, in the last 6 months is enormous. And over the next 12 months, we're going to make even more enormous progress. I don't know that we're done at that point. I think we're always going to be striving to get better. I think it's one thing that I like about senior housing is that there is enormous opportunity to improve upon it. It's such a new product. There's going to be enormous demand for it And all the things that have happened so efficiently and well in other real estate sectors that I think we can learn from, That's all value to be captured for HCP and that's true of all from the senior housing REITs, it's not just HCP. So we're excited about the improvements that can be made here as well. Okay. If I could just clarify one last thing. On the Life Sciences side, you mentioned that sort of you're tracking towards the midpoint of guidance. Obviously, you've had good traction on the Cove. I'm not looking for specific numbers or guidance for next year, but just trying to get a sense of the trajectory for same store NOI growth. How should we think about can you just give us some big picture puts and takes as we start to think about next year for life sciences? Yes. Good question, Vikram. Hey, it's Pete here. Maybe just sticking with 2018 for a second, we do expect some ramp up in occupancy from the first half to the second half, which will help our numbers for this year. As we've signed some leases, they just haven't commenced yet. So it's more just a timing thing and we feel good about where we're falling out and I said that in my prepared remarks about where we're falling out relative to our range this year for 2018. We did have that Rigel roll down this year, which did impact our numbers and we've talked about that at quite a bit at length. On a normalized basis, we would have been in the mid-3s without that. I would say that not going into specifics for 2019 2020, but we have looked at our lease maturities and we feel like we're pretty far below market right now on average. And so we could see a pretty nice runway for the next couple of years. I don't want to give specific numbers, but I would say it would be as good as the normalized growth rates that we're experiencing this year ex the Rigel mark to market and perhaps maybe even better than that. So essentially you're saying it's a combo of the bumps and mark to market just given where occupancy is? Yes. I think occupancy will probably we're in the mid-90s now and it could tick up a little bit beyond that, but it really will be driven mostly by the mark to markets on the lease maturities. Great. Thank you. We also we get some upside as these developments have been coming online where the leasing has been stronger than we had anticipated. So that's going to flow through as well. That will certainly flow through our earnings. It's just a matter of when they make their way into the same store pool. Yes. Bottom line impact. Great. Okay. Thank you. Yes. The next question is from Steve Sakwa of Evercore ISI. Please go ahead. Thanks. Good morning out there. Good morning, Steve. When you look at Page 13 and you sort of look at the pie chart of your distribution, I realize some of those areas are going to be changing. But what do you think the mix, the optimal mix is for you guys as you look forward between say SHOP and senior housing, triple net, life science, medical office? Yes, sure. Steve, this is Tom again. I would let's talk aspirationally over the next few years and these numbers of course are not exact, but I would think that we are focused on all three segments somewhat equally. So medical office, life science and senior housing. So call it a third, a third, a third over time, the 3 private pay real estate segments of healthcare. And when we think about senior housing, I do think you'll see continued movement from some of the triple nets when it makes sense to shop over time, like in the Sunrise transition that we've spoken to. From a hospital perspective, it's pretty small. We have high coverage. You probably see at least some of that in our portfolio over for the foreseeable future. You're going to see the UK of course as we've spoken to that will likely disappear. And then in the unconsolidated JVs that's a smaller component. So that's how we see the pie chart look in if you were to look up 3, 4, 5 years from now. Okay. And I know you guys have spent a lot of time on these transition assets and I appreciate the comments and the length of time that it may take. Can you just kind of help us think through sort of some of the steps that the operators take kind of in the early maybe quarter or 2 to stabilize things and I realize you sounded like things could get a little worse before they get better. But just so what are the sort of steps that unfold as you transition these assets and what do we look for? Hey, Steve, it's Scott. I'll try to take that. I mean, one thing to keep in mind is that we made the announcement about these transitions way back in November 2017 and here we are in early August. So it's been 8 or 9 months. Now some of the transitions have occurred a couple of months ago, but at a minimum there was a 3 to 4 month lag in some cases 8 or 9 months between the announcement and when the actual transfer of the license took place. And so that license transfers, there's nothing that the new operator can really do inside of the property. So there's a long period in between where the local team and staff is sort of in no man's land and that is an uncomfortable place to be in. And imagine putting yourself in those shoes, when you're uncertain about what's going to happen next. And needless to say, that's not a positive thing for morale and the culture over time goes way up, contract labor goes way up. It's hard to find the right staff to leave the building. Then once the transfer happens, there is a pretty high likelihood that the leadership team is going to be changed. And we've seen that with about half of the properties that have transitioned to date. The leadership team that's changed out. And over time, we think that will be the right decision. But in the interim, you're building, your community doesn't have a leadership team and it's hard to market the property and build the staff, train the staff, build the local referral relationship. So it generally is a 3 to 9 month process to be at the low end, 9 at the outside timeline to really implement that new team, build that new culture, so that you're in a position where you can really start rebuilding occupancy and we're right in the middle of that. Some of these properties transitioned in March, some are transitioning still in August. And that's why I say in terms of a year over year comp, it's more likely that the growth rate will be late 2019, 2020 before it turns positive. Although sequentially, we're going to start seeing some improvement later this year. We're starting to see some early signs already on the Atria transitions that happened in March, now that we're 90 to 120 days after the fact. The leadership teams are in place, the deferred maintenance from the at the property has been cleaned up, the inquiries are trending higher and now it's time to convert that into sales momentum and occupancy improvement. I would add, Steve, that when the transition occurs, I had opportunities that were John Moore and Chris Winkel along with other teams and they are highly professional in how they approach the transition. It's a 5 page checklist that they go through of all the different steps as to how they go at it. Quite impressive. They've done a lot of it. One of the struggles that any replacement operator will have is what they inherit when they receive the property, what kind of condition is it in, the staffing, the condition, deferred maintenance, etcetera, a variety of different things. So as they pick these up, it's not uncommon, especially when we had a longer delay period due to the timing of the announcement of the Brookdale transaction, which had a whole bunch of different facets to it. So it just required an earlier announcement. More time is difficult in that situation. And by the time the replacement operator comes in, there's more work to do. So it's not terribly surprising that they had drifted further down than we had hoped. But at the same time, as that replacement operator picks it up and they recover that lost occupancy and clean it up, to Scott's point, there should be some pretty strong upside. The timing of it though is difficult to determine. Okay, guys. Thanks very much. You bet. The next question is from Michael Carroll of RBC Capital Markets. Please go ahead. Yes, thanks. Scott, kind of just off of that last comments you made, what can you do to recapture that occupancy? What does the manager have to do? I mean do they offer significant discounts on the rents? Do they reduce the rent overall or is it just more of them trying to focus on operations a little bit harder? Hey, Michael, we're not seeing major discounting or incentives at least relative to last year. So that's not what's driving the decline. It's really occupancy related and when the margin is 25%, 30%, there's a pretty big multiplier effect for every basis point of occupancy that we lose and that's what's flowing through our numbers. I mentioned earlier, these are good assets. It's why we chose to maintain them rather than sell. And we sold $2,000,000,000 of assets. We could have easily put these in that pool. We chose not to because we think they have a lot of opportunity over time. These are properties that were 90% occupied in January of 2017 and today they're about 80 percent. So this is a local business. So we can talk about national supply and demand and what's happening with new starts, but what really matters is who is your leadership team, what are their relationships in the market, what kind of care is being delivered at the property and rebuilding that local reputation so that we go from 80 to 90 instead of 90 to 80. So we're confident it's going to happen. We are putting some capital into some of these buildings, triple net leases in particular. One reason we don't love that structure sometimes is that there isn't always a great alignment of interest and that the tenant may not be investing into the property as much as they need to. A lot of these assets are 20 years old. They're in good locations. They haven't had the level of capital that's really required to compete with all the new supply. And that's true of attracting the right staff as well. And we need to make sure that our 20 year old properties at least have the ability to compete effectively. They may be at a slightly lower price point and that's okay. I think there's a big market for that, but we at least have to pass that initial visual test and a lot of these properties weren't doing it. So that's one reason we're doing some redevelopments and even the ones that we're not redeveloping, we're going to put a little bit of capital into because Atria, Sunrise, they will do a great job for us, but we need to give them a physical plant that is competitive. And then what are you seeing in the marketplace right now? I guess the performance difference between Class A and Class B senior housing assets. I mean has the higher quality stuff performed better so far? And do you think that will change given the new product coming in, is that going to impact that space a little bit more? Yes, it's hard to generalize. I would just go back to the comments that we've been making that this is a local business and there are a number of markets across the country where the supply demand imbalances, actually demand supply imbalance. And we have a couple of those markets, but we also have several where there's just too much new supply even though demand is growing and that's really what's driving it more so than older versus newer properties, unless it's an old property that hasn't been reinvested in and those are definitely struggling. And I think you are starting to see the quality of the operations whether JTree or Sunrise that is making a bigger difference today. And it's not just physical plant, but the quality of the care that's being delivered, the services offered, the value delivered, the quality and training of the staff. Those things are incrementally more important. I think that will increasingly be the case and it's one reason that we're considering these operator transitions as part of the senior housing business plan to really get it turned around. Okay, great. Thank you. The next question is from Smedes Rose of Citi. Please go ahead. Hi, thanks. I just wanted to ask you with your latest addition to the Board, which I think ticks it up to 9 members now. Are you kind of done in the near term with the Board composition or would you expect any additional changes in the near term? Hey, Smedes, it's Tom. Yes, adding Kathy Sandstrom brought the Board to 9 as you mentioned. We do have 2 directors that have turned 75. As you may be aware, this past February we put in place an age 75 restriction subject to a waiver if there is a really good reason to extend somebody for a year, we can consider that. So as we look forward, I do think we will be bringing on another Board member over the next call it 9, 12 months or so. And over some period of time, we will be dealing with a little bit more refreshment, but we're getting awfully close to being completed with the refreshment process and feel very good about the Board that we've put together. Okay, thanks. And then as you look to change your composition to the 3rd, 3rd and third that you mentioned and have mentioned before, Is the JV strategy something that you would continue to pursue as a way where you contribute assets that you have versus having to raise new capital per se? And then can you just talk about what sort of the exit strategy with some of these joint ventures? The ventures that we've entered into, generally there is not necessarily any kind of an imminent exit strategy. They're longer lived ventures by intent and we pay attention to the venture partners as to what they are seeking to achieve, pay attention to the leverage that they want, the whole period, etcetera. As to the 3rd, 1 third, 1 third, I would say that is aspirational over time. It depends on circumstances as it plays out and what opportunities we identify. As far as the JV strategy and would we take that on programmatically, it's a question that I've had before. The answer is no. We're not going to take on a programmatic JV strategy. Each JV that we would consider would have to be strategic in nature. There'd have to be a good reason to do the JV. We have to take into account a number of factors including what the opportunities are, our cost of capital and potential partners and what they're seeking to achieve and if there's a good match and it does create a win win for us and our partner and it creates a solid strategic outcome for us, then we would consider JV. As far as a programmatic JV program, that's not our plan. Okay. Thank you. You bet. The next question comes from Lukas Hartwich of Green Street Advisors. Please go ahead. Thanks. Good morning, guys. Hi, Lukas. Hey. So I'm just curious, what was the impetus for the new JV? Is that something that was opportunistic? Or was that something you've been considering for a while? Tom, do you want to take that? Tom Klarich. We've been looking at various new market entries for a while now and Greenville has been on our radar. We have had discussions with the Greenville Health System over the years. We like the market. The MSA is the largest in the state. They have solid demographics there. We really like the health system and their management team. They've done a good job in the past number of years managing the portfolio and they recently completed an affiliation with Palmetto Health, which is the largest provider in the mid state area. So they really created the largest health system affiliation in the state with about 33% market share. We think there's opportunities working with them to grow over time and it's just a nice new market for us. And then just to clarify, Tom, you've been working on this particular transaction for a period of time. So the impetus to it is just back to his basic question was there was It was to expand into a new market with a good health system and overall improve our portfolio metrics. Yes. Great. And then just a quick follow-up and I know it's small, but the sequential improvement in the shop performance, was that related to better operating results or was it just a shift because I know the pool changed the number of assets. So is it operating performance or was it just a change in the pool? Lucas, yes, it was more a change in the pool. Yes, we went from 69 to 55 assets. A lot of those are the properties that are being sold to Apollo. The next question is from John Kim of BMO Capital Markets. Please go ahead. Hey, I just want to follow-up on that question. Was that contemplated in your guidance for the year that the pool would change and therefore the same store looks a little bit better than what you achieved? Yes. Hey, John, it's Pete here. Yes, no, that was contemplated in our guidance. And then, the one thing I would just point out with regards to the second half is, the pool could change further between now and the end of the year. There are some moving pieces. There's a lot of moving pieces, but there's still some assets in there that we're marketing for sale right now, which could come out between now and the end of the year and they are underperforming assets. And then we'll continue to evaluate that we have a redevelopment plan for many of these assets and over time that will impact the same store pool as well. So that 0% to minus 4% full year guidance is on pool of assets lower than 55% and the full year performance of that portfolio. Is that correct? Correct. Okay. I think Scott Brinker mentioned on the 6% cap rate inclusive of the JV fees. I know it's lower than that ex the fees, but I think you mentioned origination fees as part of that. Just want to make sure I heard that correctly. And if so, why include a one time fee in the cap rate quote? Well, they're paying it over time. So the fees that are being paid, there's an asset management fee because we are managing member of the venture and asset managing it and then the acquisition fees being paid over time. So that's the reason we quoted it that way. Okay. And then finally on your developments in Life Sciences, can you discuss where pre leasing levels are for the entire development portfolio and where this compares to the Q1? Yes. Hey, it's Pete here, John. I can take a stab at that. The big movement so far just from last quarter to this quarter is, when we had the call last quarter, we were 100% committed on the Cove Phase 3. We've now executed all of those leases on those LOIs. So we have essentially gone on a pretty big campus there from 0% leased last quarter to 100% leased now and goal is between this quarter and the next couple of quarters to have more to report on Phase 4 as well as on Sierra Point. But at this point in time, we don't have actual leases signed, but we have a lot of interest in those. So what is the pre leasing levels of the $511,000,000 of development? Yes. So the pre leasing levels now just in the aggregate on those is it's over 50%, but that's split between 3 projects right now, which we've got our Ridgeview project, Cove Phase 3 and then our Sorrento Summit project. Those are all 100% leased at this point in time. And then the Cove Phase 4 and Sierra Point Phase 1, we don't have any leases signed at point in time. So it's really quite binary. We've got the projects we've been working on for a while now are 100% and then the balance is at 0, but we expect that 0% to come up on those other projects pretty quickly. Okay. Thank you very much. Thanks, John. The next question is from Daniel Bernstein with Capital One. Please go ahead. Hello. Is your phone on mute? We're not able to hear you. Yes. Daniel, are you there? I'm sorry. The next question is from Sarah Anne of JPMorgan. Please go ahead. Hello, Sarah, is your phone on mute? I'm sorry, we're not able to hear you. Can you hear me? Yes. Please go ahead. Hey. Sorry, the line was mixed in. This is Mike Muller. Just a quick question for the same store pool and senior housing, the 22 transition or sale properties that are in that that generated the 15 minus 15% comp. Do you have a sense as to how many of those 22 will actually be transitioned and kept versus sold? Yes, we haven't decided exactly Michael. There are a number that are actively being marketed and it will depend in part on the prices that we receive. So we'll have a better sense for that next quarter and certainly by year end, but it's one of many reasons that there's is a lot of moving pieces in the pool count. We're trying to be as transparent as we can about those moving pieces and the results from each different component. But it's hard to say today how many of the 22 will be held versus sold. Got it. And then how many are being in the process of being transitioned that you know you're keeping, but they just happen to be outside of the same store pool? Are there other properties? Yes. There are. What I would say is of the assets we are transitioning, there are a few, there's actually more than a few, it's in our supplemental where you can see assets that are not in the same store pool, but are getting transitioned on Page 15 and get your senior housing triple net to shop conversions, there are 15 of them. Got it. Okay. So it's basically some portion of that 22 plus another 15? Correct. Got it. Okay. That was it. Thank you. Thank you. Thanks. This concludes our question answer session. I would like to turn the conference back over to Tom Herzog for closing remarks. Thank you, operator. And thanks to all of you for your time today and your continued interest in HCP and