Greetings and welcome to Physicians Realty Trust's Fourth Quarter and Year End 2018 Earnings Conference Call. [Operator Instructions] As a reminder, this conference is being recorded. I would now like to turn the conference over to your host, Bradley Page, Senior Vice President, General Counsel. Thank you. You may begin.

Thank you, Rob. Good morning and welcome to the Physicians Realty Trust Fourth Quarter and Full Year 2018 Earnings Conference Call and Webcast. With me today are: John Thomas, Chief Executive Officer; Jeff Theiler, Chief Financial Officer; Deeni Taylor, Chief Investment Officer; John Lucey, Chief Accounting and Administrative Officer; Mark Theine, Executive Vice President of Asset and Investment Management; and Lauri Becker, Senior Vice President and Controller. During this call, John Thomas will provide a summary of the company's activities and performance for the fourth quarter of 2018 and the year ended 2018, as well as our strategic focus for 2019. Jeff Theiler will review our financial results for the fourth quarter of 2018 and year ended 2018 and will provide our thoughts for 2019. Mark Theine will provide a summary of our operations for the fourth quarter of 2018. Following that, we will open the call for questions. Today's call will contain forward-looking statements as defined by the Private Securities Litigation Reform Act of 1995. They are based on the current beliefs of management and information currently available to us. Our actual results will be affected by known and unknown risks, trends, uncertainties, and factors that are beyond our control or ability to predict. Although we believe our assumptions are reasonable, our forward-looking statements are not guarantees of future performance. Our actual results could differ materially from our current expectations and those anticipated or implied in such forward-looking statements. For a more detailed description of potential risks, please refer to our filings with the Securities and Exchange Commission. With that, I would now like to turn the call over to the company's CEO, John Thomas.

Thank you, Brad. Good morning and thank you for joining us today. This time last year, we told you we expected 2018 would be a year to recycle capital, to place an extraordinary focus on operations, and to position Physicians Realty Trust for 2019 and beyond. We executed on that plan through the work of our talented team, as we focused on investing better. Our goals were largely accomplished through the selling of $220 million of older, less strategically valuable properties throughout the year. Those proceeds were reinvested in the four highest-quality properties in the country occupied by high-quality health system clients in existing relationships. No property better represents this focus on quality than the North Side Medical Midtown medical office building located in the Midtown neighborhood of Atlanta. This 165,000 square foot facility is fully leased through and occupied by Northside Physicians' outpatient services and affiliated medical professionals. This property was nationally recognized by Healthcare Real Estate Insights, our industry's leading trade publication, with a 2018 HREI Insights Award for the Best New Medical Office Building of the Year. This achievement marks the fourth such HREI award winner in our portfolio and we are proud Northside Hospital selected DOC to own that building. In 2018, we evaluated every facet of our organization with a goal to increase revenue and decrease expenses and we accomplished our specific financial goals by 150%. Away from the income statement, our team worked together to define the DOC difference through our mission, vision, and value statements. These efforts illustrate who we are and how we deliver results to our people, our shareholders, our providers, and our clients. DOC's on a mission to help medical providers, developers, and shareholders provide better healthcare, better communities, and better returns. We are dedicated to making a difference in…

Thank you, John. In the fourth quarter of 2018, the company generated funds from operations of $49.9 million or $0.27 per share. Our normalized funds from operations were also $49.9 million and $0.27 per share. Our normalized funds available for distribution were $44.7 million or $0.24 per share, representing an increase of $1.2 million after adjusting for last quarter's one-time benefit from the lease termination fee. For the full year of 2018, the company generated funds from operations of $1.08 per share, an increase of $0.04 over 2017, and funds available for distribution of $0.94 per share, an increase of $0.01 over 2017. This represents the fifth consecutive year of per share FAD growth, a 38% increase, overall, from 2014's $0.68 per share return. Our fourth quarter investments were limited to $9.8 million of funded mezzanine loans, which will generate a weighted average yield of 8.3%. The company's full-year acquisitions were largely funded by the disposition of 34 non-core assets, with $220 million of proceeds used to acquire $252 million of Class A real estate, highlighted by the $82 million Northside Medical Midtown MOB. It's common knowledge that 2018 was a very difficult year for external growth for medical office building REITs. Our cost of capital was constrained by our share price, which was much lower than warranted for the entire year. In addition, we faced very aggressive bidders for medical office buildings in the private market, both from private equity buyers, who have recognized medical office as a core asset class and, therefore, have lowered their required returns for owning it, and by the large diversified public healthcare REITs, who are rapidly diversifying away from the ever-worsening senior housing industry. Against this backdrop, DOC focused on making significant operational improvements in asset management by directly hiring property managers in…

Thanks Jeff. We started 2018 with key objectives for the operations team, including driving organic growth through proactive asset management, improving the quality of our portfolio, and expanding our property management platform. As we look back at last year, we have achieved these key goals. In 2018, same-store NOI growth for the full year was 3.1% or 1.9% if the one-time termination fee at the Fox Valley MOB is excluded. As Jeff mentioned, fourth quarter same-store NOI growth was 1.3%, driven by a 1.8% increase in rental revenues, 20% increase in operating expense recoveries, and offset by an 18% increase in operating expenses. This larger than usual year-over-year increase in operating expenses is attributable to the rise in real estate taxes at the Baylor Cancer Center, as well as MOBs in Austin and Houston. The increase in operating expense recoveries to offset this rise in taxes demonstrates the inflated nature of our cash flow from triple net leases. In 2018, we significantly improved the long-term quality of our portfolio by selling 34 older and smaller assets. These properties averaged 31,000 square feet each, were 82% leased, 25 years old, and only had 27% investment-grade rated tenants. We recycled the capital from the sale of these assets into four new properties totaling 620,000 square feet. These new acquisitions averaged 155,000 square feet each, were 96% leased and only 5 years old, with limited CapEx needed in the future. Three of the four 2018 acquisitions were with existing tenants in the portfolio, demonstrating DOC's position as their preferred real estate owner. Stepping back and reviewing our progress over the last few years, we have improved the quality of our portfolio substantially through both acquisitions and dispositions, including the disposition of nearly half of the legacy IPO portfolio. Simply stated, DOC's portfolio transformation…

Thank you, Mark. We'll now take your questions.

[Operator Instructions] Our first question comes from Michael Carroll with RBC Capital Markets. Please proceed with your question.

First, I want to talk a little bit about the El Paso move out and why did the system decide to shut down its operations and is that normal versus trying to sell the practice? I'm assuming that they were just not very profitable in 2018.

Yes, Mike, it's hard to explain. It was a surprise to us, as we said in my comments. We had about three weeks' notice. And, as I said, they had never missed a rent payment and the hospital had been very successful for a very long time. So, the physicians that were employed there and were also part owners were as surprised as we were. So, can't explain the decision but it was made and, like I said, working with the physicians, quickly moved both their employment and the lease to the medical office facility that they occupied to Tenet Healthcare and have a lot of interest in the facility. So, not a great situation but we think it's short-term.

So, it's encouraging that you got the MOB released so quickly. I guess, can you talk a little bit about the interest in the property? I know you mentioned that you may sell or release it. Why do you think you can do it so quickly and do you think you'll be able to get this done at similar value and/or rate as the prior lease?

Yes, we do believe that. And three national healthcare operators are actively touring it, evaluating it, looking at data and due diligence from us, and building a business pro forma around it. El Paso is still a growing community. It's fairly tightly bedded on any kind of bed-to-population standard. And, more importantly, this facility has 10 ORs. It was primarily a surgical hospital and the orthopedic surgeons who were part owners and employees who are still there in the community want to come back and start practicing in it again. So, it's a very desirable location and place, particularly for physicians and efficiency for both inpatient and outpatient surgery.

Is the hospital physically opened right now? And if it's not open, is that an issue in terms of trying to sell it or release it?

No, it's secured and locked up and we're taking care of it, obviously, but whoever - if one of the other hospitals in the community opens it, they can open it under their license and do it pretty quickly. If somebody wanted to come in on a de novo basis, it would take a little more time but still wouldn't take too much time. So, the hospital could be up and operating within days, depending on which hospital operator decides to lease it from us.

And, finally, I guess, John, can you provide some comments on the new reimbursement change that was enacted on January 1st related to the Section 603 assets? I know that DOC has been pretty optimistic on those properties over the past few years. Does that new payment schedule alter your view on those properties?

No, we still are attracted to off-campus outpatient care facilities, particularly if they are leased to a credit-quality health system, which is what 603 is all about. The AHA, the number of hospitals that are suing CMS over the payment cut, because it's directly contrary to the plain language of Section 603, there's a bipartisan letter that came out of the Senate with, I think, 70 or 80 signatures. I don't think they have any problem addressing the situation if they have to do it legislatively. But bottom line is we underwrite every facility based on what its current revenue and what its current reimbursement rates look like. We're not dependent upon just the statute and the regulatory protection as the basis for our decision. It's really about what are the services there, how much revenue are they generating. As you said, physicians in non-hospitals can be successful in locations like that. So, it's a nice addition with the grandfathered status and we think it's particularly valuable for the long-term renewal rates of the hospitals in those locations to protect that grandfathered status. So, bottom line is we still underwrite every facility and monitor every facility on our current basis based upon what CMS is paying them.

Our next question comes from Jonathan Hughes with Raymond James. Please proceed with your question.

So, it sounds like El Paso tenant clearly wasn't on the watch list and that was unexpected. Are there any other tenants on the watch list that lease large spaces with expirations over the next few years?

Jonathan, I think our watch list and issues that we've had to deal with in the past is healthier than ever and stronger than ever. We certainly evaluate - when we brought in and created the credit watch group and underwriting team that reports to Jeff, one of the things that they went back and did as went through all our leases and started tracking down financials and monitoring that and have visibility on the vast majority of all of our tenants, particularly all of our large tenants of any size. So, that's been a very helpful team to build and they're doing a great job. So, again, still working through the sale of the hospital in El Paso and probably a change of ownership in San Antonio, which will be an enhancement overall, but those issues have been largely taking care of themselves.

And then on the G&A guidance, maybe a question for Jeff. I think that includes some vesting of maybe restricted shares in the first quarter and that goes back down through the rest of the year. I think we saw the same thing last year. Is this going to be a recurring item that we should be modeling in 2020 and beyond?

Jonathan, yes, that's a great question. And you should be modeling that each year. I think you'll see a very similar pattern.

And now on the acquisition guidance, expected pricing there is in the high 5% to 6% cap rate range, a little higher from deals in this past year, and you mentioned that's a reflection of your relationship network. But maybe on the marketed deals that I assume you still evaluate, have you seen any change in seller pricing there on the MOBs over the past 6-9 months as interest rates have stabilized higher?

I'd say we haven't seen a meaningful change, Jonathan. I think the four that have traded haven't measured up on a quality basis to, say, the Duke portfolio and there are some high-quality portfolios floating around right now. We'll see what those print at. But, for the most part, I think Jeff's dead on. We're seeing lots of great opportunities with our relationships at the cap rates that you suggested.

Any interest in large portfolios out there?

Jonathan, we look at everything and evaluate everything that's on the market, but we tend to stay off-market and that's where we find the best value and have the best opportunities with our relationships.

And then just one more. So, you used the ATM during the fourth quarter. Do you plan to utilize that, in addition to capital recycling from the "slated for disposition" bucket, to fund the external growth guidance?

Certainly, we're going to look at both of those sources as we look to fund the pipeline. We're probably pretty near target leverage right now. So, it's going to depend a little bit on how fast we can generate these acquisitions and the interest that we can get in selling our properties slated for disposition. As we talked about, these are good properties and so we are looking for good pricing on them. So, that's going to factor into what sources of capital we're able to tap.

Our next question comes from Drew Babin with Robert W. Baird. Please proceed with your question.

Quick follow-up on the G&A front for Jeff. I know that the changes in lease accounting, you're expensing more property management type costs that you might have capitalized last year. I guess, can you quantify that impact to G&A and kind of confirm that that's sort of an AFFO-neutral change.

Yes, Drew, I mean, so that is an AFFO-neutral change. As a practical matter, we didn't have a ton of G&A that we were capitalizing in that manner. We started to try to work toward this guidance implementation earlier. So, most of the G&A that you see is kind of an increase in the cost of running the company, increase in salaries and benefits for the best-in-class staff that we have. So, there's some benefit from capitalization but it's not a lot.

And I guess a related question as well. On the CapEx front, I think you mentioned in the prepared remarks that it would remain, I think, less than 10% of NOI. Looking at your 2018 results, it looked like it was maybe 7%. So, I guess, throwing the 10% out there, is that just sort of a general range? Do you expect the per square foot cost to rise significantly in 2019 or should they stay relatively consistent?

Drew, this is Mark Theine. Jeff threw out the 10% number but we're really working to manage our CapEx efficiently and be in the $4 million to $5 million per quarter in 2019.

And just one more from me on the $200 million to $400 million of investment guidance. Does that include any mezzanine or development-type fixed income investments or is that just pure property acquisitions?

Yes, so that's going to be - I guess that would be inclusive of acquisitions, some take-out type deals, and limited development. If we do mezzanine loans, you're going to see interest rates that are well above that range. Typically, our mezzanine rates of return are kind of in the 8% to 9% range.

Our next question comes from Jordan Sadler with KeyBank Capital Markets. Please proceed with your question.

First question, regarding the acquisition guidance here, just drilling down. Is there line of sight to the $200 million to $400 million that you offered up a specific range?

Yes, Jordan, we've got a pretty good pipeline we're working on so line of sight to the midpoint of that number and expect that to appear pretty quickly.

So, for modeling purposes, mid-year timing kind of works?

Yes, I think that's right, Jordan.

And, Jeff, while I have you, the funding, you touched on it here, but what's embedded in the guidance in terms of funding and leverage for 2019?

Yes, so, embedded in the leverage, I guess - or, as I mentioned, we're at or near our target leverage. Right? So, you consider that to be 65% equity, 35% debt or so. So, for modeling purposes, that might be an easy way to do it - 65% equity. The wild card is whether or not we're able to reach agreement on some of these assets slated for disposition. That will obviously affect the amount of equity issued.

The dispos, are they solely related to the six assets in that bucket and does that bucket include El Paso?

So, the assets slated for disposition include the foundation El Paso asset, not the El Paso specialty hospital. That's not in there right now. We don't think it will be. So, those are assets, they've been in there for a few quarters now, and we just determined they're non-core and are looking to sell them. But, again, as you heard in our same-store remarks, I mean, they're performing well so there's not a huge - we're not willing to take any price. We're willing to sell them at the right price.

They've been hanging out here for a while so I'm just curious. Is there an expectation this is a 2019 event or it's just we'll see what happens?

I mean, we thought we had - we were close to selling two of them. We think we'll be close to selling two of them again, probably sooner rather than later. But, again, we're evaluating all prices that come in.

And just to clarify on the El Paso specialty hospital, did you - I thought you mentioned in the prepared remarks that you may sell the asset. Is that right or did I mishear that?

Yes, at least three of the suitors, if you will, who are interested in the facility have inquired about a purchase or a lease. So, we're evaluating those options. We've received written offers that we're evaluating but our primary desire is to lease the facility again. The operators that are evaluating and interested in it are high-quality tenants that we would like to have a relationship with.

And how should we think about the timing of the releasing and the two different pieces?

Yeah. I mean, we think it's quick but it's hard to predict. But we think it's quick.

First half or second?

I think we'll have it resolved first half, it's just a matter of how quickly we can get them back in there and get it open and operating. It can be quick, just depending upon which one of the operators we end working a deal out with.

Lastly, on this term loan in Columbus that you've done in the first quarter, the $15 million, can you shed a little bit of light on that? One of your other investments here, you provided more color on this development loan, I'm just curious about the one that's in Columbus. It seems to have a little bit less detail in the release.

Yes, it's one of our large healthcare developer client relationships who took down some land and is in the process of finalizing the plans, has a lease with an investment-grade tenant. So, at this point, you can view it as a short-term bridge to the bigger development project. But we're evaluating whether or not we'll participate or work that deal out with him on the second project but, in the near term, it's a good investment and well-secured.

Is it an MOB?

It's a large healthcare tenant.

Our next question comes from Vikram Malhotra with Morgan Stanley. Please proceed with your question.

Thanks for taking the questions. In your prepared remarks, you referenced taking some of the management internal to the DOC team. Just wondering, some of your peers have focused or emphasized the internal management and they outlined some savings and margin growth opportunities. I'm just wondering, does this signal or is this something you're looking to expand, in terms of doing more internal management?

Yes, Vikram, this is J.T. We're going to continue to, in markets where it makes sense and where we have scale and we can gain those efficiencies. And there are some other markets where we're planning to head in that direction in the near term. I don't think we'll ever find it - in some markets, it's better to work with our third-party partners, like we already do. They're the ones with the existing health system relationships and have brought us into those relationships with them and they're great partners. They do a great job. And in markets where we have scale and otherwise, it's our relationships that we're primarily working through, we're going to continue to in-house where we can.

Just post the merger, the CHI-Dignity merger, can you maybe update us and provide your thoughts on is there potential rationalization post-merger? Are there candidates for disposition as you've now gone through the portfolio for a while, something, I guess, you may have thought about post the acquisition of CHI portfolio?

Great question. The short answer is no. They don't overlap in any markets today and we had lots of dialogue with them throughout their process of merging and getting their thoughts on which markets are going to support the best and where there might be some markets that they want to exit. So, as of today, we don't have any knowledge of any particular market that they plan to exit and we had pretty detailed conversations with them about this. As you know, CHI started the process of selling Kentucky One before they completed the merger with Dignity. So, they are continuing to process that sale. It's kind of unrelated to the Dignity merger. We've got great relationships with Dignity and the combined C Suite there has a heavy component of the Dignity Health team but a lot of our CHI leadership that we work directly with are continuing on in critical roles in the organization. So, we're really excited about it. We think it's going to strengthen their balance sheet and strengthen their operations and strengthen the overall coverage of our facilities across the country.

And then just on the development side, given the capabilities, some of your peers, maybe the more diversified ones, have outlined pipelines and partnerships with various systems, some of them stretching a couple of years. I'm just sort of wondering, can you kind of lay out opportunities over the next, call it, two years and what we can think of in terms of development contribution?

Yes, I won't put a dollar value on it but the clients that we have where we've done this consistently over the last couple of years and now that we're funding some development projects more directly with developers, we think the pipeline is pretty significant. I think we announced the one project today. That's with an existing developer relationship and an existing national credit-rated tenant and we think there's a pipeline with that development company and that particular tenant but there's also others, from Phoenix to Texas and other markets where we're actively working with the health systems. And we'll continue to invest in Georgia, where we have fantastic relationships and see more economic growth and opportunity there.

And then just, last one, just to get a sense of the closure that you announced and then you're back, obviously, pretty quickly. But just given the surprise, in terms of you mentioned they were paying rent, never missed a payment, and suddenly decided to close, what does this mean for both underwriting but, more importantly, just monitoring? You have a new team, a credit team in place. And just what sort of information do you get? Describe some of the interactions that you have with the tenants just to sort of have some sort of heads up that it's not just going to shut down one fine day.

Yes, it's a great question, Vikram. We always evaluate that kind of situation. We've only had a small handful over the five-year life of the company. But, in all candor, we'd been working with that tenant, evaluating and monitoring them, and had been given every assurance that they were kind of continuing on and committed to the facility and the market. And then they did a 180 within weeks and closed. So, it's hard to explain how to change that result in that particular situation. But, like I said, the upside opportunity with the other operators that are interested in that facility are better.

And this was in December, I believe. Correct?

Yes.

Our next question comes from John Kim with BMO Capital Markets. Please proceed with your question.

I'm just going to follow up on the El Paso discussion. I know you said you were surprised when they decided to close but now that you've had some time to examine it, what do you think happened? I know they had recent new ownership at the hospital but I'm wondering if there was also new competition in the area or there were reimbursement challenges or maybe something else.

John, if I had a rational explanation for the decision, I would share it with you. I mean, best way to summarize it is that it's a national operator who had one facility in the market and decided to exit the market and do it on a moment's notice. We really had three weeks of notice before they closed the doors. So, it was no expectation at all. The physicians who were employed there and were part owners of the hospital had no notice either. And, like I said, it was a quick turnaround. That is a very strong healthcare market and there are two large, national operators that are there and they're very strong and tough competition for anybody. So, it may have been that they didn't think they could compete with them but they had for a long time and had been very successful for a long time. We really can't explain the situation but, like I said, we've got four good operators that we think will step in there.

And on the $800,000.00 per quarter impact, should we not assume there's a termination fee you can collect? And then is it realistic that this would translate into an annualized impact? Because even if you do lease it, it may take some time for a new hospital to come in and take physical occupancy.

Yes, I think we wouldn't anticipate a termination fee. We are pursuing, in their liquidation process, claims, but they're liquidating so we'll have to see how that plays out. But the reason we did quantify it by quarter, in particular, is we think it could be a quick turnaround resolution, but it depends upon which operator we end up working an arrangement out with. And it could be temporary, it could bleed into the year depending upon the ability to get the facility relicensed or brought under one of the existing licenses in town and we think that's a strong likelihood.

And then, Jeff, on your prepared remarks, you mentioned on the dispositions, they no longer fit your strategy. And I was wondering if you could provide some color on what those characteristics are.

Yes. So, the disposition bucket includes one small building in Florida that it's just kind of away from the rest of our operations and it's a little bit isolated. So, that's the reason that one is in there. The other ones are in the foundation assets. Certainly, they are some of the first assets that we bought in the history of the company and we've been diversifying away from these surgical hospitals. And then there's an associated MOB with each surgical hospital so it kind of makes sense to sell those as a group. So, those are the reasons that they don't meet our strategy any more.

Our next question comes from Chad Vanacore with Stifel. Please proceed with your question.

So, just one quick clarification on the retenanting of the El Paso assets. And so it looks like Tenet Healthcare but they're only renting about a third of the space. What was the makeup of the former tenants and why are we leasing only a third of this space or is there more to come?

Yeah, Chad, so it's two buildings. One's a surgical hospital and one's a medical office building. And to be clear, the medical office building is not on the campus. It's an off-campus building that, primarily, the orthopedic surgeons who were employed by the hospital and were part owners of that hospital occupied at the time this occurred. So, we just turned around, they stayed right where they were, and changed their employment to Tenet and then Tenet signed a new lease on that building. So, the impact of this decision, about one-third of it was the MOB and that's what's been released. So, now we're working through with hospital operators who are interested in leasing and/or buying the hospital facility. It's a surgical hospital so not a huge building.

Just needed that clarification. And then just one other question from me. Sequential occupancy dropped in the fourth quarter a little bit. Were there any other vacancies that came up in 4Q that haven't been retenanted?

Chad, this is Mark. We actually had a positive net absorption for the fourth quarter, a small number if you exclude that El Paso hospital, but the drop in occupancy that you're referencing is a direct correlation to the El Paso facility.

Our next question comes from Daniel Bernstein with Capital One. Please proceed with your question.

Not to ask another question on El Paso but I feel like I have to. You said you weren't going to pursue a lease termination fee and I just wanted to understand. Did you not have something in there that was contractual? And, typically, in your leases, what's the typical length that somebody has to go ahead and give you notification?

Yeah. So, to be clear, they didn't honor their lease, the terms or the financial terms, once they decided to close. So, we will pursue claims and I said I wouldn't expect a lease termination fee. This has been a long-term facility, been well-operated. This operator bought the operator who built it and ran it for a very long time with the physicians there and we owned it before they were involved. So, the relationship with that operator - we didn't have anything extraordinary, credit enhancements, or guarantees from that operator standing behind that lease that they purchased from another party. We typically do and we typically get - particularly if we're making a new investment with a new operator, we would get those kind of credit enhancements. It's a case by case basis. You don't have it with every facility.

You didn't have any escrows or money you could tap to that lease termination fee then?

The tenant is liquidating. So, as they collect receivables, we're making claims against those receivables like their other creditors.

And then you made a comment earlier about escalators at 2.5% or greater. I just wanted to - maybe if you could remind us how much of that is CPI versus fixed rate?

A very small percentage of CPI. We've been working those into some leases in this environment. But the vast majority are fixed. And even if there's a CPI, there would be a floor and probably a ceiling banding around that CPI adjustment.

Ladies and gentlemen, we've reached the end of the question-and-answer session. At this time, I'd like to turn the call back to John Thomas for closing comments.

Yeah. Thank you very much for joining us today. I know there are a number of investor conferences over the next few weeks. We look forward to seeing you at those meetings. Thank you for your time.

This concludes today's teleconference. You may disconnect your lines at this time and we thank you for your participation.