Omega Healthcare Investors, Inc. (OHI) Q2 2013 Earnings Report, Transcript and Summary

Good morning and welcome to the Omega Healthcare Investors Second Quarter Earnings Call for 2013. All participants will be in a listen-only mode. (Operator Instructions) Please note this event is being recorded. I would now like to turn the conference over to Michele Reber. Please go ahead.

Thank you and good morning. With me today are Omega’s CEO, Taylor Pickett; CFO, Bob Stephenson; and COO, Dan Booth. Comments made during this conference call that are not historical facts maybe forward-looking statements, such as statements regarding our financial and FFO projections, dividend policy, portfolio restructuring, rent payments, financial condition or prospects of our operators, contemplated acquisitions and our business and portfolio outlook generally. These forward-looking statements involve risks and uncertainties, which may cause actual results to differ materially. Please see our press releases and our filings with the Securities and Exchange Commission, including without limitation our most recent report on Form 10-K, which identifies specific factors that may cause actual results or events to differ materially from those described in forward-looking statements. During the call today, we will refer to some non-GAAP financial measures, such as FFO, adjusted FFO, FAD and EBITDA. Reconciliations of these non-GAAP measures to the most comparable measure under Generally Accepted Accounting Principles, as well as an explanation of the usefulness of the non-GAAP measures, are available under the Financial Information section of our website at www.omegahealthcare.com, and in the case of FFO and adjusted FFO, in our press release issued today. I will now turn the call over to Taylor.

Thanks, Michele. Good morning and thank you for joining Omega’s second quarter 2013 earnings conference call. Adjusted FFO for the second quarter is $0.62 per share, which is a 17% increase over 2012 second quarter adjusted FFO of $0.53 per share. Normalized funds available for distribution, FAD, for the quarter is $0.56 per share. We increased our quarterly common dividend to $0.47 per share. This is a 2.2% increase from the last quarter and a 12% increase from the second quarter 2012. We’ve now increased the dividend four consecutive quarters and 57% over the last four years. The dividend payout ratio is 76% of adjusted FFO and 84% of FAD. We expect our dividend payout ratio for 2013 to be 75% to 85% of adjusted FFO and generally less than 90% of FAD. We’ve increased our 2013 adjusted FFO guidance to a range of $2.48 to $2.51 per share, and 2013 FAD guidance to a range of $2.23 to $2.26 per share. As we discussed last quarter, we sold a significant amount of equity in the latter part of the first quarter and early in the second quarter. The weighted average shares outstanding increased from 113.5 million in the first quarter to 117 million shares in the second quarter, which is the reason that our quarterly adjusted FFO run rate went down by a $0.01. I will now turn the call over to Bob to review second quarter financial results.

Thank you, Taylor, and good morning. Our reportable FFO on a diluted basis was $82.4 million or $0.70 per share for the quarter, as compared to $55.8 million or $0.53 per quarter in the first quarter of 2012. As Taylor mentioned, our adjusted FFO was $72.9 million or $0.62 per share for the quarter and excludes an $11.1 million gain related to the early extinguishment of debt and $1.5 million of non-cash stock-based compensation expense. Further information regarding the calculation of FFO is included in our earnings release and on our website. Operating revenue for the quarter was $102.5 million versus $83.5 million for the second quarter of 2012. The increase was primarily a result of incremental lease revenue from a combination of acquisitions completed since June 2012, capital improvements made to our facilities and lease amendments made during that same time period. The $102.5 million of revenue for the quarter includes approximately $7.8 million of non-cash revenue. We expect the non-cash revenue component to be between $7 million and $8 million per quarter for the remainder of 2013. Operating expense for the second quarter of 2013 when excluding acquisition related cost, stock-based compensation expense and provision for our impairments increased by $5.5 million as compared to the second quarter of 2012. The increase was primarily a result of increased depreciation and amortization expense related to the closing of approximately $510 million of new investments since June of 2012, and a slight increase in our G&A expense. We project our 2013 annual G&A expense to be approximately $15.5 million. Interest expense for the quarter when excluding refinancing costs and non-cash deferred financing costs was $24.9 million versus $24 million for the same period in 2012. The $900,000 increase in interest expense resulted from higher debt balances associated with financings related…

Thanks, Bob and good morning everyone. As of June 30, 2013, Omega had a core asset portfolio of 477 facilities with approximately 53,000 operating beds, distributed among 47 third-party operators, located within 33 states. Operator coverage remained stable during the first quarter of 2013. Trailing 12-month operator EBITDARM coverage was two times for the period ended March 31, 2013, compared to two times for the period ended December 31, 2012. Trailing 12-month operator EBITDAR coverage for the period ended March 31, 2013, was 1.5 times, compared to 1.5 times for the period ended December 31. This marks the third consecutive quarter where our trailing 12-month EBITDARM and EBITDAR coverage has remained stable at 2 times and 1.5 times respectively. Turning to our current acquisition pipeline, as previously disclosed on May 2, 2013, Omega closed on $25 million mezzanine loan to a new operator. Year-to-date, new investments including capital expenditures totaled $45 million. our budgeted acquisition target remains at $200 million for the year, including CapEx. similar to the last two years, the majority of these investments are expected to take place in the latter portion of the year, very likely the fourth quarter. As usual, however, the timing of such transaction closings is difficult to predict. As of today, Omega has 500 million available under our revolving line of credit for new investments.

Thanks, Dan. We will now open the call up for questions.

Thank you. (Operator Instructions) And the first question is from [Kathleen Burrows] of Goldman Sachs.

Hi, good morning. Just on the topic of acquisitions. Could you describe the SNFs acquisition opportunities that you’re seeing in the market and whether there are any large portfolios?

Sure, I’d say the opportunities are consistent with what we’ve been seeing for last six to nine months. So our typical 1 to 5 facility type deals that are floating around and there are hence a couple of larger transactions at the marketplace that could be interesting. The environment itself had gotten a little bit aggressive in terms of pricing and cap rates a few months ago and we’re seeing a little bit of easing there where we’re getting back into kind of our underwriting world pushing back towards 10% yields. So I think, it’s just driven from the rate environment kind of get a little tougher.

Great. Okay and then just in terms of the larger portfolios and the other people that the other companies that might be interested and then also do you think that OHI has the cost of capital to purchase some?

It is really, it is not cost of capital as much as pricing at what point what sort of yields are attractive either cap rates to push down in to the OHI generally don’t make sense for us.

Okay, great. Thanks.

Thank you.

Next question comes from Dan Bernstein with Stifel. Daniel Bernstein – Stifel, Nicolaus & Company: Good morning gentlemen.

Good morning. Daniel Bernstein – Stifel, Nicolaus & Company: On the pipeline side, do you think where was the competition coming from, is it private equity to private REITs and were there certain difference in the quality of portfolio that’s out there now versus a couple of months pre the Bernanke comments?

I don’t think the quality of portfolios that are out there has changed any. I think that we are seeing competition from the private REIT, but certainly not so much from the private equity groups, but then there is obviously some new entrees into the marketplace with the idea. Daniel Bernstein – Stifel, Nicolaus & Company: Okay.

(Inaudible) Daniel Bernstein – Stifel, Nicolaus & Company: Okay. And I look at your balance sheet you don’t have many debt maturities out there, but obviously before you refinanced some higher cost. Is there anything else out there that you can prepay early now that you might take advantage of?

I think the balance sheet is pretty much set. The HUD debt that we paid off was a little bit higher rate and we had to choose between potentially refinancing with HUD at lower rate or paying it off and we elected to pay it off because it was relatively low and value type assets and we decided to unencumber them. There is a little bit tweaking in the HUD debt and the potential for refinances, but those windows take a fairly long time. Other than that, we really don’t have anything. Daniel Bernstein – Stifel, Nicolaus & Company: Has HUD changed any of their financing criteria since May, I mean, how much have rates gone up if you want to do HUD again or if any of your operators were looking at HUD?

It’s bounced around a little bit, but I’d say from the low, which – they were rates put out there below 3%. A couple of deals down below 3% and now that I think rates are being quarter above 4% or even 4.25% and thereabout. So they’ve gone up 100 bps for sure. Daniel Bernstein – Stifel, Nicolaus & Company: That’s basically move with the interest rates on the tenure and…?

That’s right. Daniel Bernstein – Stifel, Nicolaus & Company: The other question I have, I think involved leased coverages. I mean your lease coverage has been steady. But when you saw a couple of other retractor had their skill nursing persecute this coverage kind of maybe deteriorated within the quarters. Anything gone on out there in terms of other than sequestration that maybe impacting SNF operations?

Well, there was a 2% cut in April, which had some impact particularly on those. The Medicare side, there is only so much more to cut rate, so the folks that are large and sophisticated. They really cut what they’re going to cut. So the 2% certainly hit. I don’t see much in a way of future [dings] at this point in time. I just don’t see much in a way of future. There is not a lot of catalyst for getting these coverages up significantly at least in the coming quarters. So I’d say from the lease from our perspective stability is sort of name of the game. Daniel Bernstein – Stifel, Nicolaus & Company: Okay, good. It sounds good to me. I’ll hope off. Thank you very much.

Thank you.

The next question comes from John Robert of Hilliard Lyons. John Roberts – Hilliard Lyons: Good morning, guys. Following up on a couple of other questions, we’ve heard from some of the other companies that one of REITs that sellers are really not adjusted in new interest rate environment yet. It’s sort of went over that a bit, but are you saying that most of the sellers have potentially understood that cap rates basically have to go up? So they are being more reasonable in their pricing at this point?

For the first part of this year, we saw prices just driving down and it feels like its moving back the other way. It’s just less demand where folks were thinking that cap rate should be in the 8s in terms of cash yields on these type of deals and obviously that doesn’t work. So my sense is that it’s moving in the other direction. Now, people who have been in the market for six months still want – they thought they were going to get and they missed John Roberts – Hilliard Lyons: Okay. And $200 million in acquisitions, given the amount you’ve done so far in a year, sounds pretty aggressive. Do you have something specific in the pipeline that indicates to you that you’re going to be able to do that?

There is enough in the pipeline in various sizes of deals, where we think we feel pretty good about the fact that one or more of those come across to finish line and we meet our guidance, but again it’s really going to be towards the back end of the year. So it’s not going to effect in any meaningful way this year’s FFO. John Roberts – Hilliard Lyons: Okay. And the pricing on those is, do you feel is good enough to you get them across the finishing line?

We’re hopeful. John Roberts – Hilliard Lyons: All right. Good, great, thanks guys.

The next question is from Omotayo Okusanya from Jefferies. David Shamis – Jefferies LLC: Great. Good morning, guys. This is David Shamis on the line. I’m just wondering if we could drill down a little bit on the $200 million target. Just wondering how much of that is actual acquisitions versus capital improvements?

We typically run about $10 million a quarter in CapEx spend and our expectation is that will be pretty consistent actually for the foreseeable future. So the balance is money out for acquisitions. David Shamis – Jefferies LLC: Okay. And can you just talk a little bit about your acquisition pipeline. Have you seen any slowdown or any change in the pace of deals that are seeing out there?

No. I think that we have seen cap rates bump around, but the consistency of deal flow that we have seen in our pipeline has not changed dramatically. Once again, we see a little bit of everything. We are seeing the small deals, the one, these free deals that are coming from our existing operator portfolio. and then we’re touching some of the bigger deals that are out there. David Shamis – Jefferies LLC: Great. And then just last one, with your stock pulling back a little bit over the last few months that changed the way you think about using the ATM to fund new investments?

No. from our perspective, we’re going to look at, at this point in time; we have the full line available. We haven’t closed any deals. we’re not going to do capital raising advance a deal. So we’ll look at the market as we close deals, put it on the line and decide how to take it out. At the existing share price, we’re still comfortable at showing equity. David Shamis – Jefferies LLC: Okay, that’s very helpful. Thank you very much.

Great, thanks.

The next question is from Nick Yulico with UBS. Nick Yulico – UBS Securities LLC: Thanks. Just want to again, go back to this, commented about how pricing is changed for acquisitions, how we got aggressive in the spring and is now maybe your senses is cap rates are returning to more usual levels. How much of the activity in the spring was really just driven by people looking at and say, “Where your stock vis-à-vis the IPO happened?” And saying, and essentially pushing you guys and say, “Hey, you know actually you can buy as you said any cap rate of the accretive to your earnings?” Because what I’m wondering is whether there is really any, how there are likely buyers out there that people thought of, one, if assets really got priced to any cap rate for skilled nursing, were there any other buyers out there besides envision by the sellers or bankers other than you guys of these in a couple of other firms?

Some of the private REIT money, we have been pushing pricing around a little bit.

Well, in also the HUD debt, going down different end of the three and then below three, I mean that we did a lot of frenzy in the cap rates, just not so much for sellers, but for folks that are looking for capital. Nick Yulico – UBS Securities LLC: Okay. And then just going back to kind of how you think about acquisitions at this point I mean are you – would you all be going to look at companies where you’d have to let’s say take on some operator where would there be a sale of entries where they would be an operator component and you would have to find something to essentially find a new operator and just take the real estate itself.

Sure. In many of our transactions, we’ve done over prime it’s been a different third-party operator and we partner with our existing portfolio of operators to buy the assets and lease them to our operator. So those type of transactions are what are typical for us and I understand your question, you’d sort of think about some of these bigger deals with the number of operators we have across our geographies, we’re sort of uniquely positioned for that type of transaction. Nick Yulico – UBS Securities LLC: Okay. Just lastly, just one last question, I mean if you look at SNF cap rates over time, I mean it tend to be in this 10% or 11% range regardless of where 10 year treasury yield has been, if you go back, it seems like even 10 years. So I mean is there an expectation that that actually cap rate still actually, do you stay in that range, or I mean even if interest rates are going up that historically the cap rates should stay within that range you think?

Your point is exactly right, over our careers which – it’s the decades plus, 9 to 11 sort of an abandon everyone, so why you get outside of that. So, I don’t see any catalyst or cap rates going outside that band. That’s the short answer. Nick Yulico – UBS Securities LLC: Okay, all right. Thanks, guys.

Thank you.

The next question is from Ross Nussbaum with UBS. Ross T. Nussbaum – UBS Securities LLC: Hey, Taylor. We’re a tag team in here today from UBS. I want to follow-up on my team colleagues’ question, because the answer you just gave to that question seems frankly got off or frightening to me. If cap rates are going to remain in that range and we’re about to enter what maybe a multiple year period of rising interest rates, it would result in compressing yield spreads for Omega versus your cost of capital, which may or may not have valuation implication. How do you guys think about that from a strategic point of view from a growth business model perspective?

Yeah. Well. I roll back a little bit into our history from very, very long time. We did deals with 3% spreads relative to cost debt, 10% yields and 7% yields on bonds. Today, we did a bond that will be 5% and 5.25% type paper. So, obviously the yield spreads are larger today then they happen historically, I don’t think our model has changed I mean to the extend that we have 10% cap rates, yields and we are still issuing debt at 5.25% and 5.5% that’s great if the debt markets move a 100 bps that’s still fine. The model still works because you have built-in escalators and growth and there is plenty of spread there for the opportunity to grow the business. Now, if we are talking about environment, we are suddenly debt, 10 year yields are 9 then the model changes, but we haven’t faced that yet and frankly, when you think about this business and sell lease backs in this industry, we haven’t faced it as an industry in terms of cap rates that I’ve ever been involved. At that point maybe cap rates do move. Ross T. Nussbaum – UBS Securities LLC: Appreciate it, that’s helpful thanks.

Thanks.

(Operator Instructions) And the next question is from Jeff Theiler with Green Street Advisors. Jeff Theiler – Green Street Advisors, Inc.: Hey Good morning guys, just a quick one on coverages, certainly looking at the aggregate coverage it looks fine. I just want to drill in a little bit, see if there is any material leases that might be significantly below that aggregate number say one, two times EBITDA or something like that.

Most of our –particularly in the top ten they run in a fairly narrow band between I’d say 130 and 170, 180. There is one operator in that top ten it runs slightly below that, but still above one to one and there are some stories involved in that particular credit that give us the comfort that we are not in any – it’s not a problem situation. So, overall our coverages are for the big operators one in a pretty tight [ban] and there is nobody really outside that. Jeff Theiler – Green Street Advisors, Inc.: And Taylor for the one that runs below closer to one, what percent of your NOI or what's the magnitude of that?

Up 4%. Jeff Theiler – Green Street Advisors, Inc.: 4%. Okay and then if you are given any thoughts, I don’t know if you saw HCP put out a new disclosure item where they listed out each one of their material master leases and where it ranges in relation to the overall aggregate number, have you given any thought to perhaps enhancing your disclosure like that?

And I am trying to remember the disclosure they did. They actually identified the operators by master lease. Jeff Theiler – Green Street Advisors, Inc.: No, I guess that was an issue to identify the operators, that it was more of a – here is a – they have a bunch of different types of properties, but here is a skilled nursing lease that accounts for 2% of our triple net NOI and it's at this coverage and here is another one that’s 4% of this coverage that type of disclosure.

Yeah. I think, that was a slide that had lease maturities and coverages on like a grid. Jeff Theiler – Green Street Advisors, Inc.: Yeah, exactly heat map they called it.

Heat map, yes.

I thought it was pretty interesting, I mean the one issue that as we looked at it that we would have to think about is, you have always private operators and can you be sure that in that type of scenario they are, we are not disclosing who they are. But it is an interesting map, it's something we’ve thought about, at one point we kind of laid out the percentage in different categories and maybe we're doing something like that where x is above this and y is in the 125 to 175 and z is below 125. The issue you run into of course is you end up having a lot of discussion below 125, which is not a meaningful percentage and typically there is some credit discussion around it. So – but I understand the point I think their heat map is interesting. Jeff Theiler – Green Street Advisors, Inc.: Okay. Great, thanks very much.

Thank you.

(Operator Instructions) This concludes our question-and-answer session. I would like to turn the conference back to Taylor Pickett for any closing remarks.

Thank you, Mia. Thank you for joining the call. Bob Stephenson will be available for follow-up questions.