CareTrust REIT, Inc. (NASDAQ:CTRE) Q4 2022 Earnings Call Transcript

CareTrust REIT, Inc. (NASDAQ:CTRE) Q4 2022 Earnings Call Transcript February 10, 2023

Operator: Good morning. My name is Devin and I’ll be your conference operator today. At this time, I’d like to welcome everyone to CareTrust REIT announces Fourth Quarter and Full Year 2022 Operating Results Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers’ remarks, there will be a question-and-answer session. Thank you for your patience. I’ll now turn the call over to Senior Vice President, Lauren Beale. You may begin the conference.

Lauren Beale: Thank you and welcome to CareTrust REIT’s fourth quarter 2022 earnings call. Participants should be aware that this call is being recorded and listeners are advised that any forward-looking statements made on today’s call are based on management’s current expectations, assumptions and beliefs about CareTrust’s business and the environment in which it operates. These statements may include projections regarding future financial performance, dividends, acquisitions, investments, returns, financings and other matters and may or may not reference other matters affecting the company’s business or the businesses of its tenants, including factors that are beyond their control, such as natural disasters, pandemics such as COVID-19 and governmental actions.

The company’s statements today and its business generally are subject to risks and uncertainties that could cause actual results to materially differ from those expressed or implied herein. Listeners should not place undue reliance on forward-looking statements and are encouraged to review CareTrust’s SEC filings for a more complete discussion of factors that could impact results as well as any financial or other statistical information required by SEC Regulation G. Except as required by law, CareTrust REIT and its affiliates do not undertake to publicly update or revise any forward-looking statements where changes arise as a result of new information, future events, changing circumstances or for any other reason. During the call, the company will reference non-GAAP metrics such as EBITDA, FFO and F-A-D or FAD and normalized EBITDA, FFO and FAD.

When viewed together with GAAP results, the company believes these measures can provide a more complete understanding of its business, but cautions that they should not be relied upon to the exclusion of GAAP reports. Yesterday, CareTrust filed its Form 10-Q and accompanying press release and its quarterly financial supplement, each of which can be accessed on the Investor Relations section of CareTrust’s website at www.caretrustreit.com. A replay of this call will also be available on the website for a limited period. On the call this morning are Dave Sedgwick, President and Chief Executive Officer; Bill Wagner, Chief Financial Officer and James Callister, Chief Investment Officer. I will now turn the call over to Dave Sedgwick, CareTrust REIT’s President and CEO.

Dave?

Dave Sedgwick: Thank you, Lauren and good morning, everyone. Many of themes from last quarter’s call are still applicable today, starting with the macro dynamics at play, the Fed’s response to inflation has had a significant impact on the credit market as intended, even with our sector leading leverage, the rapidly risen rates undeniably eat into earnings and slow what has also been a sector-leading FFO per share growth rate over the past five years. The good news is that even with the elevated cost of capital, we can still make accretive investments and intend to do so and positively, as we mentioned last quarter, the flip side of the tighter credit market continues to be a tipping of the scales in our direction for brokers and sellers who are looking for certainty to close.

Our operators are also poised to find some relief to the staffing challenges if and when a recession begins to drive people back to work, where jobs are secure here in healthcare. Rent in the fourth quarter came in at 95.5% inclusive of about $750,000 of deposits applied. Today, I’m pleased to report that of the original 32 assets we identified as candidates to sell, reposition or restructure, we’ve made significant progress with only a handful of smaller assets remaining on the market. We provide a detailed update in our supplemental, but I will emphasize a few key points here. Ultimately, after running an exhaustive process, we sold 13 properties and decided to retain 14, leaving five facilities on the market. The 13 sold for $68.8 million, those properties paid essentially no rent in 2022.

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For the 14 properties retained, in 2022, we collected about $5.2 million of $8.6 million of contractual rent. For 2023, we estimate that eight of these 14 will produce cash rent of about $3.5 million. We hope to give more clarity on the timing of rent commencement for the remaining six next quarter. That leaves just five smaller seniors housing facilities from the original 32 that, as we sit here today, are still on the market. Two of those are under contract to sell, one is under LOI, leaving two being actively marketed. These five assets on the market, only one paid rent last year, for a total of $377,000. In terms of portfolio strength, you’ll see a portfolio with the 10 ten tenants, who represent 89% of contractual rent, with property level EBITDAR lease coverage of 2.01 times, excluding HHS funds.

We have confidence in the few operators in the top 10 that on the surface, appear vulnerable and believe it’s just a matter of time until their results reflect the hard work they’ve been putting in to turn certain facilities. Last year, you may recall us repeatedly talking on this call about elevated risk associated with one Midwest skilled nursing operator outside of our top 10 who has had negative lease coverage for quite some time. They account for 2.8% of rent as of 12/31 annualized. In 2022, due to partial payments, we applied and exhausted their $1.2 million security deposit, and no rent payment has been made for January or February yet. A week ago, they informed us of a change in CEO and the need to work together on a plan that works for both of us.

We’ve just started active discussions with them about the best path forward, and we expect to have a concrete plan to share with you next quarter. Like I highlighted before, without this operator, our EBITDAR lease coverage outside our top 10 goes from 1.08 times to 1.84 times, excluding HHS funds. Considering the toll that COVID has taken on our sector, the way the vast majority of our operators have managed through these past few years is gratifying on many levels, and we feel proud to affiliate with some of the best operators in the country, both large and small. The strength of our company enables us to turn more attention to external growth this year. So as we begin 2023, our strengths continue to be our balance sheet, our portfolio, and our experienced team.

With that, I’ll turn it over to James to update you on our investment outlook.

James Callister: Thanks, Dave, and good morning, everyone. Looking to the market, we continue to see an uptick in seniors housing, skilled nursing and behavioral deals, coming across our desk. Many of the facilities being sold consist of distressed seniors housing assets with owners that are facing high interest variable rate loans and have to exit. Deal flow continues to increase on the skilled nursing side, with incoming transactions primarily consisting of a single to a few assets that are nonstrategic to the seller or at some stage of operational distress. We are also seeing a few smaller portfolios from operators looking to sell as they exit the business, and a few larger portfolios in states where Medicaid rates remain very low.

Some REITs and private equity owners are also disposing of assets to help operators shed negative cash flowing assets or assets that are no longer geographically strategic. These trends may accelerate with the end of the public health emergency. We expect the upsurge in deal flow to continue, with sellers placing an emphasis on certainty of close and low execution risk. Price discovery continues, though we are seeing signs that motivated sellers are starting to adjust expectations in some cases. We will remain disciplined as we look for further adjustment to seller expectations, given the high interest rate environment, tightness in the debt markets and other factors. With our strong balance sheet and access to capital, we are poised to pursue actionable acquisition opportunities with a focus on those states with favorable Medicaid rates and access to labor, and where we have a strong bench of existing operators, or where we are actively pursuing new relationships with operators we have long admired.

Our commitment to a side-by-side underwriting approach with our operators will be more important than ever as we face the challenges of underwriting labor, occupancy and other difficult assumptions in the current environment. Turning to the pipe, it currently sits in the $100 million to $125 million range. As we sit here today, the pipe is primarily made up of skilled nursing, but also includes some seniors housing assets. The deals include some of our standard one to two facility acquisition opportunities in addition to small or medium-sized portfolios that would allow us to not only enter new states, but also expand in states where we have a limited presence. And with that, I’ll turn it over to Bill.

Bill Wagner: Thanks, James. For the quarter, normalized FFO decreased 0.8% from the prior year quarter to $37 million. Normalized Fad decreased by 1.9% to $39 million. On a per share basis, normalized FFO decreased a $1 to $0.38 per share. Normalized Fad also decreased $1 to $0.40. Rental income for the quarter was $47.7 million, compared to $47 million in Q3. The increase of $657,000 is due largely to the following four items. One, we received approximately $1.3 million of cash related to a prior tenant that was recognized in the quarter. I expect a little more of this in Q1 of 2023, but it will not be material. Two, an increase in rents from CPI bumps of $182,000; three, a decrease in cash collections of $427,000 from tenants who are on a cash basis of accounting and four, a write-off of straight line rent receivable of $440,000 relating to a tenant we moved to cash basis of accounting during Q4.

Interest income was up $860,000 due to the originations we closed in Q3. Interest expense was up $1.3 million from Q3 due to higher interest rates of $1.5 million, slightly offset by lower borrowings under our revolver. During the quarter, we took an additional impairment of $5.4 million, G&A expense was down $346,000 from Q3 due to lower compensation expense of $618,000, offset by other corporate related items of $272,000. Cash collections for the quarter came in at 95.5% of contractual rent and includes the application of $750,000 of security deposits. Without the application of the security deposits, cash collections was 94% of contractual cash rent. In January, we collected 94.5% of contractual rents due from our operators. A couple of notes regarding the balance sheet in Q4.

We issued $2.4 million shares under our ATM for gross proceeds of $48.1 million, and we extended our revolver another four years. Our liquidity remains extremely strong with approximately $20 million in cash and $465 million available under our revolver. Leverage also continued to be strong with a net debt to normalized EBITDA ratio of 3.7 times, which is below our stated range of four to five times. The net debt to enterprise value is 28% as of quarter end and we achieved a fixed charge coverage ratio of 6.5 times. And with that, I’ll turn it back to Dave.

Dave Sedgwick: Great. So we hope our report has been helpful and thank you for your continued interest and support and happy to answer your questions at this time.

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Q&A Session

Operator: Our first question comes from Jonathan Hughes with Raymond James.

Jonathan Hughes: Hey, good afternoon or good morning out there. I was just hoping we could talk maybe about the outlook for this year. And I know you’ve given us some building blocks of how things are expected to play out. I guess, why not give us the official guidance. It seems like we have kind of 95% of what we need. Obviously, there’s still a few properties left to sell or retain it and figure those out and there’s obviously that 3% or so operator that hasn’t paid rent since November. And I do get the models not that complex, and we can certainly make our own assumptions, but just trying to understand what’s preventing you from resuming your tradition of giving us annual guidance?

Dave Sedgwick: Yes. So I think you’ve kind of pointed to the answer in your question. We feel like there’s still enough uncertainty around the timing of when the rents are going to commence with these retained facilities and the outcome of this Midwest operator that we talked about to not issue guidance yet. But we’re hopeful that in the next quarter, we should be able to do that because I think by next quarter, we will have a lot of clarity and things agreed to. And so then as soon as we’re able to, which I think will be next quarter, we’ll be able to issue guidance.

Jonathan Hughes: Okay, that sounds good. And then on the

Dave Sedgwick: You’ll remind us of that next quarter.

Jonathan Hughes: I certainly will. That Midwest operator, the 2.8% operator that hasn’t paid since November, are they still on accrual accounting since I don’t think I saw a straight line write-off in the quarter. And if so, does that mean at this point you are still hopeful to recover what’s not been paid? And maybe there is a chance, as the discussions progress, they will commit to the current rent under the new CEO, as you said and also I think they have some pretty strong financial backing.

Dave Sedgwick: Yeah, they’re on cash accounting. They’re not accrual and the conversations with the group over there is very fresh. We literally got the news from them last week of the change in CEO, so it’s hard to handicap how this year goes, although I’ll tell you that they are expressing to us commitment to the portfolio and to the turnaround. This operator is primarily operating facilities in the state of Iowa, just to give you a little bit more color on them. And Iowa so far has really proven to be one of the least supportive states in the country for nursing home providers. Unlike other states, they’ve refused to pass on any of the FMAP federal funds. And I saw a report last week, or in recent days where about 39 Iowa nursing homes have been closed in the last couple of years.

So that makes the environment pretty difficult. However, there is reason for hope because there’s a Medicaid rate increase going into effect this July, but for some, it’s just going to be too little too late. So we’re going to be working with this operator to figure out a path forward that makes sense for both of us. But it’s so early in those discussions that we just — we can’t really give you an indication of how it’s going to play out yet.

Jonathan Hughes: Just one more. It has been a while since you’ve used the ATM to raise equity, but you did so in the fourth quarter. And at those levels of low teens premium to NAV, kind of low seven implied cap rate, how do you think about raising equity proceeds with no publicly identified opportunities to deploy that capital? Could we expect that trend to continue to keep hanging down your facility to create more capacity and more optionality for future external growth?