CareTrust REIT, Inc. — Q2 2015 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2015. CareTrust is a healthcare-property REIT formed through its June 2014 spin-off from The Ensign Group, Inc. Prior-period results include carve-out financial information and Ensign expense allocations, so comparisons are not fully like-for-like.
Business context
At quarter-end, CareTrust owned 102 leased skilled nursing, assisted living and independent living facilities with 10,647 operational beds, operated three independent living facilities with 264 units, and held an $8.0 million preferred-equity investment. Most properties were leased to Ensign under triple-net leases. Ensign leased 94 facilities and generated the majority of overall revenue.
Key financial results
| Metric | Q2 2015 | Q2 2014 | Six months 2015 | Six months 2014 |
|---|---|---|---|---|
| Total revenue | $17.4 million | $14.1 million | $34.3 million | $26.9 million |
| Net income (loss) | $2.3 million | $(10.3) million | $4.3 million | $(10.7) million |
| Diluted EPS | $0.07 | $(0.47) | $0.13 | $(0.48) |
| Operating cash flow | Not separately presented | Not separately presented | $15.6 million | $7.6 million |
- Q2 revenue increased 24%; rental income rose $3.0 million, attributed to $1.8 million of incremental post-spin rent and $1.2 million from later investments. First-half revenue increased 27.5%, including $4.8 million of incremental rent and $2.1 million from later investments.
- Q2 interest expense was $6.0 million, down 7% year over year; first-half interest expense was $11.9 million, up 22%, reflecting higher net borrowings, partly offset by a prior-year interest-rate-swap settlement loss.
- General and administrative expense was $1.6 million in Q2 and $3.1 million for the first half, down from $6.0 million and $7.9 million, respectively. The prior-year periods included significant spin-off-related costs and Ensign allocations.
- First-half investing cash outflow was $35.5 million, principally for $33.6 million of real-estate acquisitions. Financing cash inflow was $24.5 million; cash increased $4.6 million to $29.9 million.
- At June 30, assets were $511.2 million, including net real estate investments of $459.5 million. Total debt was approximately $391.9 million: $260.0 million of senior notes, $96.9 million of mortgage debt and $35.0 million drawn on the revolving facility. Total equity was $108.3 million.
- The company declared dividends of $0.16 per share for each 2015 quarter, or $0.32 for the first half. Q2 dividend payable totaled $5.1 million at quarter-end.
Liquidity, debt and outlook
- Management said cash, expected operating cash flow and available credit were expected to fund operations, scheduled debt service and dividends for at least the next 12 months. At June 30, $84.2 million was available under the then-existing revolving facility, subject to borrowing-base requirements.
- The $260.0 million senior notes bear 5.875% interest and mature in 2021. The $35.0 million secured revolver matured in 2018 and carried variable-rate pricing. The approximately $96.4 million GECC mortgage loan includes floating-rate debt; the remaining portion was scheduled to convert to floating rates in June 2016. The company reported compliance with applicable debt covenants.
- Management estimated 2015 G&A expense of $6.9–$7.6 million, including approximately $1.6 million of noncash stock compensation; depreciation and amortization of approximately $23.0 million; and independent-living revenue and operating expense of approximately $2.5 million and $2.3 million, respectively. These are expense and operating estimates, not formal earnings guidance.
- Management intended to pursue additional healthcare-property investments and diversify operators, markets and asset classes, subject to available opportunities and financing. It expected annual Ensign Master Lease revenue of $56.0 million for each of the first two lease years; escalators begin June 2016 and are capped at 2.5% annually, with no increase if CPI is negative.
- Subsequent events: in July, CareTrust acquired two facilities for a combined $16.8 million. In August, it entered into a new $300.0 million unsecured asset-based revolver and used part of the proceeds to repay and terminate the existing secured revolver.
Risks, contingencies and unusual items
- Tenant concentration: Ensign remained the company’s principal tenant and source of a majority of overall revenue. A default under any Ensign Master Lease triggers defaults under all of those leases. Ensign is a holding company whose operations are conducted through subsidiaries.
- Interest-rate exposure: CareTrust had no interest-rate swaps at quarter-end. Management estimated that a 100-basis-point rate increase would have raised first-half interest expense by $0.4 million, assuming debt balances were unchanged.
- Other risks: Management cited tenant compliance and lease-renewal risks, acquisition availability, access to capital and refinancing, REIT qualification, and real-estate risks including illiquidity and environmental liability. The company must generally distribute at least 90% of REIT taxable income to maintain REIT status.
- CareTrust reported no material legal proceedings. It has continuing operational obligations under Ensign’s five-year corporate integrity agreement following Ensign’s 2013 DOJ settlement, but stated it has no liability for that investigation.
- CareTrust expects historical pre-spin financial information to be non-indicative of future standalone results. The prior-year comparison also includes a $4.1 million debt-extinguishment loss and a $1.7 million swap-settlement loss, affecting comparability.
Important facts for investors to verify
- Ensign’s ability to meet lease obligations and the extent of continuing tenant and revenue concentration.
- Borrowing-base availability, terms and covenants under the August 2015 $300 million facility, and the status of the retired secured revolver.
- Floating-rate debt exposure, the GECC loan’s 2016 rate conversion and 2017 maturity, and refinancing plans.
- Whether property acquisitions and stated 2015 expense estimates translate into sustainable cash flow after debt service and dividends.
- REIT qualification and taxable-income distribution requirements; GAAP net income is not the same as REIT taxable income.