Good day, ladies and gentlemen. Welcome to the Second Quarter Medical Properties Trust Earnings Conference Call. At this time, all participants are in listen- only mode. Later, we'll conduct a question- and- answer session, and instructions will follow at that time. If anyone should require operator assistance, please press star and the zero key on your touchtone telephone. As a reminder, this call will be recorded. I would now like to introduce you all to today's conference, Charles Lambert, Managing Director. Please go ahead.
Good morning. Welcome to the Medical Properties Trust conference call to discuss our second quarter 2019 financial results. With me today are Edward K. Aldag Jr., Chairman, President, and Chief Executive Officer of the company, and Steven Hamner, Executive Vice President and Chief Financial Officer. Our press release was distributed this morning and furnished on Form 8-K with the Securities and Exchange Commission. If you did not receive a copy, it is available on our website at www.medicalpropertiestrust.com in the investor relations section. Additionally, we're hosting a live webcast of today's call, which you can access in that same section. During the course of this call, we will make projections and certain other statements that may be considered forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995.
These forward-looking statements are subject to known and unknown risks, uncertainties, and other factors that may cause our financial results and future events to differ materially from those expressed in or underlying such forward-looking statements. We refer you to the company's reports filed with the Securities and Exchange Commission for discussion of the factors that could cause the company's actual results or future events to differ materially from those expressed in this call. The information being provided today is as of this date only, and except as required by the federal securities laws, the company does not undertake a duty to update any such information. In addition, during the course of the call, we will describe certain non-GAAP financial measures, which should be considered in addition to, and not in lieu of, comparable GAAP financial measures.
Please note that in our press release, Medical Properties Trust has reconciled all non-GAAP financial measures to the most directly comparable GAAP measures in accordance with Reg G requirements. You can also refer to our website at www.medicalpropertiestrust.com for the most directly comparable financial measures and related reconciliations. I will now turn the call over to our Chief Executive Officer, Ed Aldag.
Thank you, Charles, and thank you all for listening in today for our 2019 second quarter earnings call. Starting late last year, we reported to the market that we were in active negotiations on approximately $5 billion of investment opportunities around the globe. Our initial 2019 acquisitions guidance was for $1 billion. We increased that guidance in February of this year to $2.5 billion. We recently announced that we have now committed to $3.4 billion of our pipeline. Since the first of the year, we have announced acquisitions in Australia, Switzerland, the U.K., and the U.S. The blended GAAP yield on the total $3.4 billion is approximately 8%, which is right in line with our expectations we've been discussing for the last three quarters. Our portfolio now includes properties in seven countries on three continents.
We expect that we will continue to have significant announcements on growth opportunities throughout the year and beyond. We continue to see large acquisition opportunities here in the U.S. and abroad. Hospitals continue to consolidate, the sale-leaseback transaction is recognized throughout the world as an important part of the capital structure. MPT continues to be recognized as the global leader in hospital real estate financing. Operators across the globe recognize and appreciate MPT's strong working knowledge of hospitals. The fact that our people came out of owning and operating hospitals gives operators a tremendous amount of confidence in choosing us to be their long-term financing source. We have grown to 36 best-in-class operators in the U.S., Europe, and Australia. We are pleased to report that these operators include for-profit and not-for-profit operators.
The $3.4 billion is made up of $1.55 billion for Prospect Medical Holdings, $145 million for Saint Luke's, $440 million for a portfolio of Ramsay Hospitals, approximately $900 million for Healthscope, $237 million for Infracore, $45 million for BMI, $45 million for AEVIS, the parent company of Swiss Medical Network, and $33 million of investments in properties for existing operators. These investments will bring Steward's concentration in our portfolio to 30% from 39.5%. Most importantly to us, because we underwrite each individual property, not just the parent company, no one property will represent more than 2.8% of our portfolio. Our focus on general acute care hospitals continues to be our top priority. Total portfolio-wide, general acute care hospitals will grow from 70% to over 80%. Each of these acquisitions will be immediately accretive.
The $3.4 billion year-to-date acquisitions have the blended GAAP yield of approximately 8%, which is in the range of our previously guided 7.5%-8.5%. The establishment of six new operator relationships, including one A-rated, not-for-profit health system, adds significant strength to our existing portfolio. In the last couple of years, the attitudes of not-for-profit systems in the U.S. have clearly become more receptive to the use of MPT's sale-leaseback structure. Since then, we have created important relationship with systems such as the University of Colorado Health System, Dignity Health, the world-renowned Ochsner Health, and now Saint Luke's Health System in Kansas City. Our portfolio is one of the strongest portfolios in the REIT world. With today's announcement, we now have a portfolio with an incredible geographic diversification in seven countries across three continents, 30 U.S. states, and 36 different operators.
Our operators are some of the strongest and highest quality operators around, including investment grade rated, not-for-profit operators. Year after year, we've proven our growth strategy with record annual acquisitions. Our portfolio generates strong, stable cash flows with 76% of our rent and interest expiring beyond 2029. Let me go over the most recent investments in a little more detail. I'll start with the Prospect Medical Holdings. We are investing in 14 acute care hospitals and two behavioral hospitals. Prospect is a fully integrated healthcare management company led by an experienced management team. They are vertically integrated and provide services to patients through hospitals, medical groups, and coordinated regional care. Their focus is on urban, densely populated areas. Their hospitals are mission-critical hospitals, serving as the major part of the healthcare infrastructure to the communities they serve.
Those of you who have followed us know that when we are doing our underwriting, the first questions we ask are, "Are these hospitals needed in the community?" And, "What happens to the patients they serve if they were to close?" The answer to those questions for the Prospect hospitals is that they are truly needed in their communities, and the patients they serve would not have other places to get their healthcare needs met should these hospitals close. These are important hospitals for the payers and the patients in their communities. The management team of Prospect is an experienced, award-winning team with extensive healthcare backgrounds in operating these types of facilities. In addition to their hospitals, they have approximately 160 outpatient facilities, 750 employed physicians, and 500,000 members managed.
On a consolidated basis, their payer mix is comprised approximately of from 31% Medicare, 33% Medicaid, 23% commercial insurance, and the remainder self-pay. We expect the first year's rent coverage to be 2.25x . Prospect's Southern California market consists of five acute care hospitals and two behavioral health hospitals located primarily in L.A. County, with a large IPA network, which is the platform for Prospect's risk-based contracting and population health management strategies. The California market is well-established with stable operations, making up over 50% of Prospect's total hospital EBITDAR. The company has built a successful business model providing patient care services at lower cost to Medicaid patient populations, relieving pressure from larger hospital networks. Prospect's four hospital system in Pennsylvania is the dominant provider in Delaware County, one of the core metropolitan counties of Philadelphia.
They are a leading integrated delivery network, providing leverage in negotiating with managed care payers. The system is anchored by Crozer-Chester Medical Center, a 300-bed hospital providing high acuity services in a local setting, allowing patients healthcare access near home rather than outmigrating to a larger market. Prospect has spent significant time integrating these recently acquired facilities, positioning them to realize significant EBITDAR growth through implementation of Prospect's business model and in-place strategic opportunities. Waterbury is a 357-bed acute care hospital located 30 mi southwest of Hartford, Connecticut, with access points throughout the community. Through their resident program with Yale, Prospect is able to retain a significant number of graduates on their prestigious medical staff. This high-performing hospital is designated as a level 2 trauma and sees more than 50,000 ER visits per year.
Eastern Connecticut Health Network is a two-hospital system located east of Hartford, Connecticut, with a long history as the sole community provider and numerous access points. Through its large physician network, ECHN has laid the foundation for and is poised to take advantage of the transition to value-based healthcare and population health management in this region. It is also important to note that the behavioral unit at the Rockville facility is distinguished as having one of the only two secured eating disorder units in the country. Next, let me address the St. Luke's community hospitals that we've invested in. There are seven essentially brand-new facilities. All of them have been built within the last two years. These facilities are small, community-based, full-service hospitals, often referred to as micro hospitals. All are part of the Saint Luke's Health System. St. Luke's is an A.1, A-plus rated healthcare system.
These are all located in suburban Kansas City area. Most recently, we announced a $440 million investment in an eight Ramsay hospital portfolio. Ramsay is the fifth largest private hospital operator in the world and operates 480 healthcare facilities across 11 countries. On May 27th, we made an investment in Infracore, which owns 13 acute care campuses across Switzerland. These hospitals are leased to Swiss Medical Network, Switzerland's second largest private hospital operator. Recently, we also made an investment of approximately $50 million in the parent company of Swiss Medical Network. We expect that we will be able to not only increase our ownership in Infracore, but to grow significantly with additional hospital investments within Infracore. A quick update on our existing portfolio. We added a net seven properties to our same-store reporting. All of the additions to the same-store reporting were German inpatient rehabilitation facilities.
Our same-store portfolio, EBITDARM coverage for the trailing 12 months Q1 2019 is 2.96 x, which is slightly down from 3.07x year-over-year. Same-store acute care EBITDARM coverage is 3.48 x, which represents a slight 4% decrease year-over-year. IRF EBITDARM coverage is 1.87 x, which also is slightly down from 1.93 x year-over-year. This is primarily due to decreased coverage at two MEDIAN facilities, one of which is undergoing renovations in 2019 and the other suffered from a shortage of nurses and therefore limited capacity. LTACs EBITDARM coverage is 1.44 x, which is down 14% year-over-year. Remember that LTACs only represent about 2% of our total portfolio. At this time, I will ask our CFO, Steve Hamner, to go over the specifics on the financial performance and health of Medical Properties Trust. Steve?
Thank you, Ed. This morning, we reported normalized FFO of $0.31 per diluted share for the second quarter of 2019. These results exceeded consensus expectations, even following a quarter of diluted equity issuance. This speaks to the strength of our current portfolio and lineup of leading hospital operators. The only meaningful adjustment to NAREIT-defined FFO to arrive at our normalized FFO is for about $900,000 in financing costs related to our AUD 1.2 billion unsecured five-year 2.45% loan to fund the Healthscope acquisition. I'll remind you that on last quarter's call, we described a change in accounting principles that now requires REITs to gross up certain real estate expenses that are the contractual responsibility of the REIT's tenant. These include property taxes, ground lease payments, and insurance. In this quarter's results are about $6.4 million of such costs included in property-related expenses.
This entire $6.4 million was recovered from our tenants and is included in rental revenues. Due to the technicalities of the new accounting requirements, these amounts may vary from quarter to quarter. G&A expenses were approximately $22.3 million in the second quarter, a $1.2 million decrease from the first quarter. Most of the decrease relates to the assumptions that drive our estimate of achievement of certain pre-established performance goals for share-based compensation expense, such as total return to shareholders, FFO per share growth, acquisition volumes, and adjusted return on equity. As we noted during last quarter's call, we continue to estimate that total quarterly G&A will range between $23 million and $25 million. Although the $3.4 billion in new hospitals we have announced since the beginning of the year will result in some additional overhead costs, these incremental costs will be very small relative to the related incremental revenue.
Based on the $3.4 billion in acquisitions that we have announced so far this year, we expect that once closed, our portfolio will generate normalized FFO of between $1.56 and $1.58 on an annualized basis. This run rate is based, among other considerations, on our continuing assessment of the performance of our tenants. To the extent we believe there is a likelihood that some rent may not be collected, we reduce our run rate estimate. To follow up on an impairment charge that we recognized about a year ago, we believe the operator of two of our smaller hospitals may elect in the near term to close those hospitals. Even if they are closed, we expect no further financial impact and no impact on our run rate range.
With the exception of our most recent announcement last week of the $441 million acquisition of eight hospitals in the U.K. operated by Ramsay Health Care, we have already arranged permanent funding for this year's announced acquisitions. Based on this, and then permanently funding the Ramsay assets, we will maintain our very conservative leverage profile of between 5x and 5.5 x our EBITDA. One of the significant benefits of our substantially increasing scale and our prudent leverage policies is their impact on our cost of capital. Just two weeks ago, we completed an oversubscribed equity offering and a very successful offering of unsecured 10-year notes at an interest rate that is at least 100 basis points lower than we could have achieved less than a year ago.
We've already mentioned the 2.45% rate on the unsecured bank debt that we used to finance our Australian assets. We expect to permanently fund the $441 million in U.K. assets at a cost of capital that will generate outstanding and annually growing investment spreads. When considered with the lowest cost of equity capital in our history, the unprecedented expansion of hospital investment opportunities in the developed world, and MPT's unquestioned position as the leader in this market, we are very enthusiastic about the likelihood that we will continue to deliver some of the strongest growth in the REIT world. With that, we'll be happy to take questions. Operator?
Thank you. Ladies and gentlemen, if you have a question at this time, please press the star and the one key on your touch-tone telephone. If your question has been answered or you wish to remove yourself from the queue, please press the pound key. To prevent any background noise, I ask that you please place your line on mute once your question has been stated. Our first question comes from the line of Derek Johnston with Deutsche Bank. Your line is now open.
Good morning or good afternoon, guys. How you doing?
Fine, thank you.
Looking at current opportunities that you see in front of you, what are your views or what are you seeing out there on the ground on pricing? Let's look at cost of capital versus cap rate. Have you seen any increase or decrease in competition for hospital assets?
Well, Derek, from a pricing standpoint, we're seeing essentially stable prices for what we've been announcing for the past year, which is that we'll continue to probably be in that 7.5%- 8.5% range. Primarily, we're looking at general acute care hospitals, both here in the U.S. and abroad, where competition abroad has probably picked up slightly. We have the sovereign wealth funds and insurance companies and some other international investment companies that are looking at hospitals. Here in the U.S., we continue to see the same group of people that we've seen for the last number of years without any increased competition, but certainly not any decreased competition.
Okay. Secondly, what is the targeted mix between U.S. and international? I guess where you see the exposure of general acute currently around 81% of pro forma. Lastly, what is the right operator exposure mix in the U.S.? That'll be it for me. I'll requeue if I have anything else.
Sure. Derek, we have said since we first went to Europe that we would like to see the range of international investments be in the 30%-35% range. We're about 25% right now. Obviously, given our acquisition growth, it's not going to stay in one spot very long. Generally speaking, in the 70/30 range, with 70% being in the U.S.
General acute.
General acute. Yeah. General acute, we continue to expect to see that grow as a percent of our overall portfolio. We believe that going back at least to the debate over what direction we were going to go and healthcare in this country going back to 2008 and before, that the general acute care hospital is truly at the top of the pyramid for the delivery system in this country, and that's the same case overseas as well. We will continue to focus primarily on that, and you'll see that number grow from the 80% that we are now. The third part of your question, I believe, was our exposure to any one tenant. That obviously fluctuates from time to time, again, given what our acquisition pipeline looks like. We've been as high as in the 40% with a tenant many years ago.
We've gotten Steward down to 30% right now. We'd like to see our largest tenant being in the mid-20s.
Thank you. Good stuff.
Thank you.
Thank you. Our next question comes from the line of Chad Vanacore with Stifel. Your line is now open.
All right. Thanks. Ed, you mentioned, or actually Steve, you mentioned two hospitals are expected to close. Can you give us what type of asset they are, where the location is, and why the closures, and maybe how large and what's the coverage on those master leases that they're in?
These are very small general acute care hospitals. As I mentioned, we've already reduced their carrying value to no more than what we expect to recover if in fact they're closed and we have to dispose of them in a stress situation. The go-forward rent is not included in our pro forma guidance. Because there haven't been any public announcements yet, we probably shouldn't try to identify geographically, but they're very small relative to the whole portfolio. I'll just point out that today we have almost 340 hospitals in the portfolio. As long as we're that big and spread out, then at any one time going forward, it's likely that there will be a very limited number of hospitals that are undergoing some stress.
As I said in my prepared comments, there will be no impact either on the balance sheet or go-forward operating FFO from these two facilities if in fact they do close.
Chad, there are a number of reasons why they may close, and when their public announcements are made, we can talk about it in more detail, but it's essentially internal and external reasons, some reasons totally out of their control. As Steve said, they're very small hospitals. We took an impairment last year, and we don't expect to have any further losses.
All right. On the upside, you made some more comments about larger pipeline and maybe some more consolidation in the industry. Can you fill that out with what you're seeing in the market and how big you think the pipeline can potentially get?
Well, Chad, I don't think anybody believed me last November when I said we were actively working on $5 billion, so I'd hate to give you the number again because I don't think anybody would believe me.
It's a big number.
It's a large number. I do expect a good portion of it to close for the remaining part of the year. They are strong general acute care hospitals and portfolios that will continue to add to the strength of our portfolio and further diversification.
All right. I'll hop back in the queue. Thanks.
Thanks.
Thank you. Our next question comes from the line of Michael Lewis with SunTrust. Your line is now open.
Great. Thank you. You gave the $1.56-$1.58 normalized guidance. Are there any items that you're aware of now that would cause FFO to be different from normalized FFO? How do you expect the AFFO deductions to be trending, I guess, Straight-line being the biggest one?
You're right. Straight-line will continue to be the biggest, really, perhaps only meaningfully sized adjustment to AFFO. The first part of your question, I'll ask you to repeat.
Yeah. The Straight-line, do you expect that to trend up or down or kind of stay where we're at?
I think if you look at this quarter run rate, you should see it go up somewhat because of the length of a couple of the large new leases that we haven't in fact closed on yet. You'll see that continue to go up somewhat.
Okay. The first part of the question was just if there's anything that you're aware of that would cause normalized FFO to be different from FFO.
No.
Okay. Kind of piggybacking on the question you answered before, it seems like you've been buying up everything in your pipeline. As far as what might be on deck for the second half of the year, is there any way you could ballpark kind of the size of what we're potentially talking about, and then maybe the mix in the U.S. and abroad as well, given the difference in the cap rates?
Well, Mike, let me remind you on the difference in the cap rates. The spread is actually probably larger in Europe than it is here in the U.S. From a standpoint of the remainder of the year, it's probably pretty close to 50/50 in the U.S. and abroad. As we get a little bit closer, we certainly will let you know what that number is. At this point, we're just not ready to announce.
Okay. Lastly from me, maybe a tough one to answer in this forum, but I'm just wondering if there's anything you could share that you gleaned from the Steward financials, which are now public. There were a lot of add-backs to get to EBITAR. I was just wondering if you could comment on how you feel, where your comfort level is at, if there's changes or improvements you'd like to see or kind of what your thoughts are.
Yeah. Overall, Steward is performing very well. I think the most exciting thing about the Steward portfolio to me is that the northeastern properties probably perform better than we expected. When you look overall at their coverage being in the 2.85 range today, and we expect to see that continue to grow. We think that their integration has probably gotten all behind them, and so we're very pleased with where they are right now.
I'll just add, Michael, that there were no surprises to us in the add-back. These were expected by us, and again, as you can imagine, in growing the company from nine hospitals to 30-something hospitals across the entire U.S. and consolidating and combining multiple different operating systems and revenue systems, the add-backs were well expected by us. As Ed just mentioned, we think the integration cost going forward will be substantially lower than what we saw in 2018.
Thank you.
Thank you. Our next question comes from the line of Michael Carroll with RBC Capital Markets. Your line is now open.
Yeah, thanks. Ed or Steve, can you talk a little bit about the opportunity to partner with not-for-profit systems? Are these players more willing to sell their real estate, or is just the St. Luke's deal a little bit of an anomaly?
No, I don't think it is an anomaly. I think it's clearly an indication that we're in the early stages of more and more not-for-profit operators acknowledging the strong impact that this part of a capital strategy can have going forward for them. In the past, it's been difficult to get not-for-profit systems to even focus on cost of capital because it is kind of a strange concept to a non-commercial operator. This will definitely not be the last transaction that we do, and possibly even in the near future, with a very highly rated, well-recognized, top not-for-profit operator. We do absolutely think that that market will continue to expand.
Okay. What has changed there? Is that something in the marketplace has changed, or is this something that you worked with that executive team to help them see the benefits of selling the real estate?
Well, not-for-profit operators, notwithstanding that they don't have shareholders to report to, they still face the same pressures that any hospital service provider has today, whether not-for-profit or commercial. They have to continue to find ways to operate more efficiently, and they've been doing that for many years on the operating side, on the cost side, on the revenue management side, on the reimbursement side. They're well familiar with the sale-leaseback structure because many of them have sold a significant part of their on-campus, non-hospital assets. While it's not a completely new concept to them, they are beginning to learn that they can achieve the same benefits. Very importantly to them, they're beginning to learn that they don't lose control of the hospital building itself just by virtue of signing a lease.
They retain control, they retain operations for very often the entire useful life of the building. I would just, I guess, sum it up by saying they are facing the same pressures and the same demands that are causing them to continue to look at real estate financing.
As more of their peers continue to use the sale-leaseback mechanism for their hospitals, it allows the others to actually have it as a part of their portfolio.
Okay. I guess last question, I think, Ed, you mentioned that the Steward full financials would be released, I guess, in tandem with earnings or near earnings. Is that still expected to occur?
We do expect it to occur soon.
All right. Thanks.
Thank you. As a reminder, ladies and gentlemen, if you do have a question at this time, please press the star and the one key on your touch-tone telephone. Our next question comes from the line of Karin Ford with MUFG Securities. Your line is now open.
Oh, hi. Good morning.
Hi, Karin.
Hi. HCA's stock took a hit this week after they said that hospital pricing was weak and admissions were down in some markets in the second quarter. You combine that with CMS's proposal for price transparency in the upcoming election, how are you thinking about the macro backdrop for hospitals today?
Yeah, we're still very positive on it, Karin. If you look at the HCA report, overall, they actually had strong admissions across their portfolio. The biggest disappointment for them, I think, was that they didn't see the increases from their admissions in revenue they thought they were going to see, and they had pressure on their operating expenses. I think overall, when you look at our portfolio and the hospitals that are not a part of our portfolio, we continue to be very positive on the general acute care hospitals.
Do you think that the price transparency discussion is going to have any impact on particular operators, positively or negatively?
I do not. I think that there'll be discussions with it, and you'll see some confusion around it, but I think overall it's not going to have a negative effect.
Okay. My last question is, I think you mentioned in your prepared remarks that Prospect or one of the other new operators to your portfolio has significant outpatient facilities. Do you have any interest in acquiring those?
Not really, unless they are a part of the big overall campus in the acute care, but not the outlying outpatient facilities.
Okay. Thanks.
Thank you. Our next question comes from the line of Sarah Tan with JP Morgan. Your line is now open.
Hi. Thanks for taking my question. Just a quick one on the Prospect acquisition. I saw an article that Moody's downgraded their credit to negative a few months ago. Could you talk about how you underwrote that credit?
Sure. When you read the Moody's report, you see that it primarily had to do with what their outstanding debt load was at that time. 100% of that debt is being paid off with the proceeds from our transaction. We underwrote literally each individual hospital and are very comfortable with the operations of those hospitals and where the company is from a financial standpoint post this transaction from a balance sheet.
Thank you.
Thank you. That does conclude today's question and answer session. I would now like to turn the call back to Ed Aldag for any further remarks.
Chris, thank you very much. We appreciate all of you listening in today. We appreciate your questions. If you have any further questions later today or tomorrow, please don't hesitate to give us a call. Thank you.
Ladies and gentlemen, thank you for participating in today's conference. This does conclude today's program. You may all disconnect. Everyone have a great day.