UNIVERSAL HEALTH REALTY INCOME TRUST quarterly report, Q2 FY2022

Universal Health Realty Income Trust — 2Q22 Form 10-Q Summary

Business context and reporting period

Universal Health Realty Income Trust is a healthcare-focused REIT that owns or invests in acute-care hospitals, behavioral-health hospitals, medical and office buildings, free-standing emergency departments, childcare centers and specialty facilities. The filing covers the three and six months ended June 30, 2022, compared with the corresponding 2021 periods. The portfolio comprised 76 investments or commitments across 21 states as of August 1, 2022.

UHS and its subsidiaries remain a significant related-party tenant and provide the Trust’s advisory services. UHS-related tenants generated approximately 41% of consolidated revenue in both the second quarter and first six months of 2022, compared with 36% in the comparable 2021 periods.

Financial performance and key metrics

Metric	Three months ended June 30, 2022	Three months ended June 30, 2021	Six months ended June 30, 2022	Six months ended June 30, 2021
Revenue	$22.2 million	$20.9 million	$44.3 million	$41.6 million
Net income	$5.2 million	$6.6 million	$10.6 million	$12.2 million
Net margin	23.5%	31.7%	24.0%	29.4%
Diluted EPS	$0.38	$0.48	$0.77	$0.89
FFO	$12.2 million	$12.6 million	$24.6 million	$25.4 million
FFO per diluted share	$0.88	$0.92	$1.78	$1.84
Operating cash flow	Not separately provided	Not separately provided	$24.9 million	$25.4 million

Revenue increased 6.2% in the quarter and 6.7% year to date. Net income declined 21.2% in the quarter and 13.0% year to date, while FFO declined 3.6% in the quarter and 3.1% year to date. Revenue included $1.4 million and $2.7 million of interest income on financing leases for the three and six months ended June 30, 2022, respectively, related to the UHS asset transaction completed at the end of 2021.

Operating expenses were $14.9 million in the quarter and $29.7 million year to date. Interest expense was $2.4 million in the quarter and $4.6 million year to date. The Trust declared and paid dividends of $0.71 per share during the second quarter and $1.415 per share during the first six months.

Balance sheet, debt and liquidity

Total assets were $603.8 million at June 30, 2022, compared with $598.4 million at December 31, 2021.
Net real estate investments were $449.6 million, and the financing receivable from UHS was $83.7 million.
Cash and cash equivalents were $8.4 million, down from $22.5 million at year-end 2021.
Revolving credit borrowings were $284.3 million, up from $271.9 million. The facility has a $375 million commitment and matures July 2, 2025.
Letters of credit totaled $3.2 million, leaving $87.5 million of borrowing capacity at June 30, 2022.
Non-recourse mortgage notes payable were $50.7 million, compared with $56.9 million at December 31, 2021. A $5.1 million mortgage was repaid during the quarter using revolver borrowings.
Total debt carrying value was approximately $335.3 million, compared with fair value of approximately $334.4 million.
The Trust was in compliance with all credit agreement covenants. Total leverage was 42.5%, secured leverage was 6.4%, unencumbered leverage was 41.1%, and fixed-charge coverage was 4.8x.

Management stated that operating cash flow, cash, available revolver capacity and capital-market access should be sufficient for operating, investing and financing requirements over the next 12 months, including REIT-required distributions. The filing cautions that financing may not be available on acceptable terms.

Cash flow and investment activity

Operating cash flow was $24.9 million in the first six months of 2022, compared with $25.4 million in 2021.
Investing cash outflows were $25.8 million, including $13.6 million for acquisitions, $11.2 million for real estate additions and $1.3 million related to the UHS asset exchange.
The Trust acquired the Beaumont Heart and Vascular Center for approximately $5.4 million and 140 Thomas Johnson Drive for approximately $8.0 million.
Financing cash outflows were $13.2 million, including $19.5 million of dividends and $6.2 million of mortgage repayments, partly offset by $12.4 million of revolver borrowings.
Cash decreased by $14.1 million during the first six months, ending at $8.4 million.

Material changes versus the prior comparable period

Revenue growth primarily reflected the consolidation of Grayson Properties, LP, the Wellington Regional Medical Center lease renewal, the UHS asset exchange, and other property activity. These increases were partly offset by the expiration of the Chicago specialty hospital lease.
Net income was reduced by the absence of the $1.3 million real estate sale gain recognized in the second quarter of 2021.
The Chicago specialty hospital became vacant following lease expiration on December 31, 2021. The Trust incurred $347,000 of related operating expenses in the second quarter and $840,000 year to date; management estimates approximately $1.3 million of aggregate operating expenses for the three vacant specialty facilities during the remainder of 2022.
Interest expense increased because average revolver borrowings and borrowing costs rose. Average revolver borrowings were $272.5 million in the quarter and $270.8 million year to date, with average effective borrowing rates of 2.28% and 2.02%, respectively.
Wellington Regional Medical Center renewed for five years beginning January 1, 2022, at annual rent of approximately $6.3 million, with 2.5% annual escalations beginning in 2023.
The 2021 UHS asset exchange replaced the Inland Valley Campus with Aiken Regional Medical Center and Canyon Creek Behavioral Health. The acquired properties carry approximately $5.7 million of 2022 annual rent, of which approximately $5.5 million is expected to be recognized as interest income for the full year.

Outlook, risks and unusual items

The Trust plans to complete Sierra Medical Plaza I in Reno, Nevada, an approximately 86,000-square-foot medical office building, during the first quarter of 2023. Estimated cost is approximately $34 million.
The Trust expects to refinance the $5.2 million BRB Medical Office Building mortgage maturing in December 2022 and the $4.3 million Desert Valley Medical Center mortgage maturing in January 2023.
Three specialty facilities remain vacant. Prolonged vacancies, renovation requirements or unfavorable re-leasing terms could materially reduce results.
UHS concentration creates tenant, credit and related-party risk. Lease renewals and purchase options could reduce future revenue if facilities are not renewed or if UHS purchases properties.
COVID-19, healthcare labor shortages, higher temporary staffing costs, supply-chain disruption, reimbursement changes and potential vaccination requirements may adversely affect UHS and other operators, and indirectly affect rent, bonus rent and property values.
Interest-rate exposure is significant. The Trust had $284.3 million of variable-rate revolver borrowings and $140 million of interest-rate swaps. Management estimates that a 1% change in interest rates would affect net income by approximately $1.4 million, after giving effect to the swaps.
The Trust’s advisory agreement with a UHS subsidiary was renewed for 2022 on the same terms as prior years. Advisory fees were $1.3 million in the quarter and $2.5 million year to date.
Management reported effective disclosure controls and no material changes in internal control over financial reporting. No material changes were reported to the risk factors in the 2021 Form 10-K.

Most important facts for investors to verify

Whether UHS-related tenant concentration remains near 41% of consolidated revenue and whether UHS operators maintain rent coverage and lease renewal intentions.
The refinancing outcome for the 2022 and 2023 mortgage maturities and the availability and cost of revolver capacity as interest rates rise.
Progress, cost and lease-up of Sierra Medical Plaza I and other capital projects.
Re-leasing, disposition or renovation plans for the three vacant specialty facilities, particularly Chicago.
Whether operating cash flow continues to cover dividends and planned acquisitions and capital expenditures.
Changes in UHS hospital volumes, bonus rent, labor costs, reimbursement, regulatory requirements and COVID-19-related operating pressures.
The sustainability of FFO and dividends, noting that FFO is a non-GAAP measure and does not represent cash available for distributions.