Diversified Healthcare Trust — Q1 2023 Form 10-Q
Reporting period: Three months ended March 31, 2023; filing dated May 8, 2023. DHC is a healthcare REIT with medical office and life science properties, managed senior living communities (SHOP), and other healthcare-related real estate. At quarter-end it wholly owned 376 properties in 36 states and Washington, D.C.
Financial performance and position
| Metric | Q1 2023 | Q1 2022 |
|---|---|---|
| Total revenue | $346.0 million | $310.7 million |
| Net income (loss) | $(52.7) million | $240.4 million |
| Net income (loss) per share | $(0.22) | $1.01 |
| NOI (non-GAAP) | $60.0 million | $42.0 million |
| Normalized FFO (non-GAAP) | $12.5 million; $0.05/share | $(21.9) million; $(0.09)/share |
| Cash from operating activities | $6.0 million | $(7.3) million |
Revenue increased 11.4%, led by SHOP residents fees and services, up 13.9% to $279.6 million; rental income rose 1.8% to $66.4 million. SHOP occupancy improved to 76.9% from 73.0%, and average monthly rate increased to $4,837 from $4,472. Comparable Office Portfolio occupancy declined to 90.1% from 92.4%; Office Portfolio NOI increased 3.5% to $29.2 million, while SHOP comparable-property NOI was $17.3 million versus $1.5 million.
The GAAP earnings reversal chiefly reflects the prior-year $327.8 million gain on sale of properties, largely from contributing properties to a joint venture. Q1 2023 included $5.9 million of property impairment charges and an $8.1 million unrealized gain on AlerisLife shares. Interest expense declined to $47.8 million from $57.1 million, partly reflecting the 2022 redemption of $500 million of 9.75% notes; higher credit-facility rates partly offset the decline. NOI is a non-GAAP measure and should not be treated as cash flow or liquidity.
At March 31, total assets were $5.67 billion and total liabilities were $3.08 billion. Cash and cash equivalents were $380.1 million, down from $658.1 million at year-end; cash, including restricted cash, was $382.7 million. Investing activities used $56.7 million, including $60.3 million of real estate improvements. Financing activities used $254.9 million, including $250 million of credit-facility repayments. Principal debt included $450 million drawn on the credit facility, $2.35 billion of senior notes and $24.5 million of mortgage debt. The credit facility was fully drawn and bore an annual rate of approximately 7.8%.
Material changes, outlook and risks
- Going concern and refinancing: Management concluded there was substantial doubt about DHC’s ability to continue as a going concern for at least one year from the May 8, 2023 issuance date. The company cited reduced cash, capital commitments and upcoming maturities: $450 million on the credit facility due January 15, 2024, and $250 million of notes due May 1, 2024. It stated that $700 million of debt was due within one year of issuance. DHC was below the 1.5x debt-incurrence coverage threshold and unable to issue additional debt until it meets that threshold on a pro forma basis.
- Credit amendments: A February amendment extended the fixed-charge coverage covenant waiver through the facility’s maturity, reduced the minimum liquidity requirement from $200 million to $100 million, cut facility commitments to $450 million, eliminated reborrowing of repaid amounts and increased the interest premium. Excess cash flow must be applied to facility repayments. DHC reported compliance with other debt covenants, subject to the stated waivers.
- Merger: On April 11, 2023, DHC agreed to merge into Office Properties Income Trust (OPI). Each DHC common share is to convert into 0.147 OPI common share, subject to specified adjustments, with cash for fractional shares. Completion depends on shareholder approvals and other conditions, including extension or replacement of OPI’s revolving facility. DHC said the merger is expected to alleviate going-concern doubt, but gave no assurance it will close. If it does not, management may seek other capital, but said it did not believe sufficient capital could probably be raised as of May 8 to meet upcoming commitments.
- Operating outlook: Management expects 2023 capital expenditures to exceed 2022 levels but remain below the $400 million credit-agreement limit; spending may be reduced to preserve liquidity. Estimated unspent leasing obligations were $68.0 million, with approximately $53.7 million expected to be spent in the next 12 months. Labor availability and wage inflation, food and utility costs, inflation, interest rates, supply-chain disruption and economic weakness remain risks. Management noted senior living operations had improved from pandemic lows but had not returned to pre-pandemic levels.
- Other items: DHC recorded impairments on one medical office property and one senior living community. It prepaid a mortgage of approximately $14.6 million in April. The quarterly distribution was $0.01 per share; the merger agreement limits DHC distributions to an annual rate no greater than $0.04 per share. Ratings agencies had downgraded DHC debt in February; in April, Moody’s and S&P placed specified ratings under review for possible upgrade following the merger announcement.
Most important facts for investors to verify
- Whether the OPI merger receives required approvals, meets its conditions and closes on the stated exchange ratio and timeline.
- DHC’s cash availability, minimum-liquidity compliance and ability to meet the January 2024 facility and May 2024 note maturities, including any refinancing or capital-raising arrangements.
- Whether debt-service coverage recovers to the 1.5x threshold and whether DHC remains compliant with its covenants and waivers.
- SHOP occupancy, rates and operating costs, and whether NOI improvement translates into sustainable operating cash flow.
- The assumptions underlying property impairments and the scale and timing of capital and leasing commitments.