Filing summary
Issuer and period: The supplied 10-Q is filed by Senior Housing Properties Trust (Nasdaq: SNH), for the quarter and six months ended June 30, 2019. The filing text does not identify the registrant as Diversified Healthcare Trust. Unless otherwise noted, financial amounts below are in millions of dollars.
Business context
SNH was a healthcare real estate investment trust with 456 properties across 42 states and Washington, D.C., including medical office buildings (MOBs), senior living communities and wellness centers. Its senior living portfolio included triple-net leased properties and communities it operated through managers. Five Star Senior Living was its largest tenant and also managed communities for SNH.
Financial performance
| Metric | Q2 2019 | Q2 2018 | Six months 2019 | Six months 2018 |
|---|---|---|---|---|
| Total revenue | $262.0 | $277.2 | $528.3 | $553.0 |
| Net income (loss) attributable to common shareholders | $(37.2) | $123.6 | $(7.1) | $359.6 |
| FFO per share, company-defined | $0.34 | $0.37 | $0.68 | $0.76 |
| Normalized FFO per share, company-defined | $0.34 | $0.44 | $0.71 | $0.89 |
| Property NOI | $141.8 | $167.1 | $290.9 | $334.8 |
GAAP losses were driven substantially by unrealized losses on equity securities, principally the RMR Inc. investment, alongside lower property-sale gains than in 2018. Q2 unrealized equity-security losses were $64.4 million; the six-month loss was $41.5 million. Q2 2019 included $17.8 million of property-sale gains, compared with $80.8 million in Q2 2018; six-month gains were $17.7 million versus $261.9 million. The prior-year periods therefore benefited materially from asset-sale gains and equity-security gains.
Revenue declined 5.5% year over year in Q2 and 4.5% in the first half. Q2 rental income fell to $153.1 million from $174.6 million, primarily reflecting reduced Five Star rent under the restructuring agreement and property dispositions; resident fees and services rose to $108.9 million from $102.6 million. Property operating expenses increased 9.2% in Q2 to $120.2 million, while depreciation and amortization was $73.9 million. NOI margin, calculated as property NOI divided by total revenue, was approximately 54.1% in Q2 2019 versus 60.3% in Q2 2018, and 55.1% for the first half versus 60.5%.
Segment trends were mixed: Q2 MOB NOI decreased 1.1% to $71.9 million, triple-net senior living NOI decreased 33.4% to $44.0 million, and managed senior living NOI decreased 10.6% to $21.2 million. Managed-community revenue grew, but operating costs rose faster, notably staffing costs. Comparable MOB occupancy was 94.0% versus 95.9%; managed-community occupancy was 85.7% versus 86.1%. Triple-net senior living occupancy was 83.3% versus 82.9%, and reported rent coverage improved to 1.52x from 1.19x.
Operating cash flow for the first half was $125.9 million, down from $179.1 million. Investing activities used $101.6 million, compared with $161.8 million provided in the prior-year period, as real estate sale proceeds fell and improvements spending increased. Financing activities used $33.1 million, versus $248.9 million used in 2018. Cash and restricted cash totaled $61.2 million at June 30, 2019, down from $70.1 million at the start of the year.
Debt, liquidity and distributions
At June 30, 2019, balance-sheet debt carrying values were approximately $3.76 billion: $690.0 million drawn on the revolving credit facility, $548.7 million in term loans, $1.82 billion in senior notes and $699.6 million in secured debt and capital leases. Cash and cash equivalents were $48.0 million, and $310.0 million remained available on the $1.0 billion revolver. Revolver borrowings were $555.0 million and availability $445.0 million as of August 7, after the subsequent RMR share sale and debt repayment.
SNH redeemed $400 million of 3.25% notes due 2019 in May, funding the redemption with cash and revolver borrowings, and prepaid approximately $42.2 million of mortgage debt. A $350 million floating-rate term loan matures in January 2020. The company reported compliance with debt covenants at June 30. Its issuer rating was downgraded by S&P to BB+ in April and its senior unsecured debt rating by Moody’s to Ba1 in May; the filing said these downgrades did not change the applicable revolver and term-loan rate premiums.
The regular quarterly distribution was reduced from $0.39 to $0.15 per share, an annualized $0.60, following the Five Star arrangement changes. Management described a target payout ratio of approximately 80% of projected future cash available for distribution, but cautioned that distributions may change. Q2 distributions were $0.15 per share; a further $0.15 distribution was declared in July.
Material changes, outlook and risks
- Five Star restructuring: Subject to conditions and approvals, the existing master leases and management/pooling agreements are to be replaced by management agreements effective January 1, 2020, or January 1, 2021 if extended. The agreement reduced Five Star’s monthly minimum rent to approximately $11.0 million, later approximately $10.9 million following dispositions, and suspends additional rent through conversion. SNH expects the conversion to increase the variability of senior-living operating results.
- Five Star exposure: Five Star accounted for 12.7% of Q2 revenue and leased properties representing 26.4% of SNH’s real estate investments at cost. SNH said it could not be sure the restructuring would close or that Five Star would remain a going concern. SNH also extended Five Star a $25 million secured credit facility; no amount was drawn as of August 7.
- Dispositions and investment sale: SNH identified approximately $900 million of additional properties for sale as part of its leverage-reduction strategy. At the filing date, two MOBs and 32 senior living communities were under sale agreements for approximately $157 million in aggregate, subject to conditions. In July, SNH sold its RMR Inc. shares for net proceeds of $98.9 million before other offering expenses and used the proceeds to repay revolver borrowings.
- Impairments and vacancies: First-half impairment charges totaled $8.4 million, including $8.3 million on 15 skilled nursing facilities held for sale. In July, an MOB tenant vacated three California properties totaling approximately 164,000 square feet; SNH said releasing the space could require significant time and capital.
- Interest-rate and refinancing risk: $1.24 billion of floating-rate debt was outstanding at June 30. The company estimated a one-percentage-point rate increase would add approximately $12.4 million to annual interest expense at then-current borrowings. The filing also discussed LIBOR’s anticipated phaseout and uncertainty over replacement terms.
- Management view: Management believed operating cash flows, cash, revolver availability and other financing sources would be sufficient for expenses, debt service and distributions over the next 12 months and beyond. This is forward-looking and depends on property performance, tenant payments, asset sales and continued access to capital. The filing reports no material change to previously disclosed risk factors and no material weakness in disclosure controls.
Most important facts for investors to verify
- Whether the Five Star restructuring closes on its expected timetable, and how the lease-to-management conversion affects rent, operating costs, NOI and cash-flow variability.
- Five Star’s financial condition, rent payments, credit-facility status and SNH’s related receivables and credit exposure.
- Progress, timing and realized prices for planned property sales, and the effect of dispositions on rental income and leverage.
- Debt maturities and refinancing plans, revolver usage, covenant headroom, credit ratings and sensitivity to floating interest rates.
- Whether cash available for distribution supports the $0.60 annualized distribution target, given lower Five Star rent and the company’s capital and debt obligations.
- Occupancy, rent coverage, staffing expenses, MOB tenant retention and the impact of the California MOB vacancy and SNF impairments.