Sabra Health Care REIT, Inc. Q4 FY2023 Earnings Call

Good day, everyone. My name is Mandeep and I will be your conference operator today. At this time, I'd like to welcome everyone to the Sabra Fourth Quarter 2023 Earnings 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. I would now like to turn the call over to Lukas Hartwich, SVP Finance. Please go ahead, Mr. Hartwich.

Thank you, and good morning. Before we begin, I want to remind you that we will be making forward-looking statements in our comments and in response to your questions concerning our expectations regarding our future financial position and results of operations, including our earnings guidance for 2024 and our expectations regarding our tenants and operators and our expectations regarding our acquisition, disposition and investment plans. These forward-looking statements are based on management's current expectations and are subject to risks and uncertainties that could cause actual results to differ materially, including the risks listed in our Form 10-K for the year ended December 31, 2023, as well as in our earnings press release included as Exhibit 99.1 to the Form 8-K we furnished to the SEC yesterday. We undertake no obligation to update our forward-looking statements to reflect subsequent events or circumstances, and you should not assume later in the quarter that the comments we make today are still valid. In addition, references will be made during this call to non-GAAP financial results. Investors are encouraged to review these non-GAAP financial measures as well as the explanation and reconciliation of these measures to the comparable GAAP results included on the Financials page of the Investors section of our website at sabrahealth.com. Our Form 10-K, earnings release and supplement can also be accessed in the Investors section of our website. And with that, let me turn the call over to Rick Matros, CEO, President and Chair of Sabra Health Care REIT.

Thanks, Lukas. Good day, everybody. I appreciate you joining us. We're pleased to report continuing stability and organic growth in our portfolio. In our skilled portfolio, occupancy is up 50 basis points sequentially and 290 basis points year-over-year. Our EBITDARM rent coverage is up 0.10 sequentially with similar improvement in our top 10 in the aggregate. While labor is tough, the improvement over the last year is material. Contract labor is down 29% on a patient-day basis and nursing all-in is up just 4.3% on a patient day basis. The combination of that coming down and our revenue per patient day growing at the rate it has been in the skilled portfolio has put us in a position where in the aggregate, our portfolio's margins are pretty much at the same level they were pre-pandemic. The really good news is we're not even at pre-pandemic occupancy levels, so we see a terrific opportunity ahead of us in terms of margins improving to those levels. We also continue to see improvement in the Senior Housing lease portfolio, with occupancy up 130 basis points sequentially and DARM rent coverage jumping 0.11. Talya will talk in detail about our SHOP portfolio. For both the skilled and Senior Housing portfolios, we expect occupancy to exceed pre-pandemic levels, although the reasons differ for each of the two asset classes. For skilled, it's the demographics coupled with the declining product, and for Senior Housing, it's a demographic coupled with negligible new supply for the foreseeable future. We appreciate that CMS and numerous states have been capturing cost increases and reimbursement rates, and we're optimistic that we'll continue at the state level this summer and for fiscal year 2025 for CMS. Our behavioral and specialty hospital portfolio has had stable performance. We have provided full-year guidance for the first time since before the pandemic with 5% and 6% increases in normalized FFO and normalized AFFO, respectively, at the midpoint of guidance. We're also starting to see more investment opportunities, but no clear trends as of yet. And with that, I will turn the call over to Talya.

Thank you, Rick. Sabra's entire wholly owned managed Senior Housing portfolio maintained positive momentum in the fourth quarter with mid- to high-teen percentage growth in revenue and cash net operating income on a year-over-year basis. This was a function of continued occupancy and REVPOR gains coupled with moderating expenses. Quarterly occupancy in independent living, assisted living, and memory care in our managed portfolio is the highest it has been since the second quarter of 2020. Sabra's same-store wholly owned portfolio currently consists of 51 properties, of which 28 are independent living and 23 are assisted living memory care communities. The headline numbers for this portfolio, excluding non-stabilized assets and government stimulus, are as follows: Occupancy for the fourth quarter of 2023 was 81.2%, a year-over-year increase of 130 basis points, the highest occupancy for this portfolio over the past five quarters. REVPOR in the fourth quarter of 2023 increased by 4% over the fourth quarter of 2022. Current increases for asking rents and renewals are in the 5% to 7% range, more moderate than prior years as anticipated. Cash NOI for the quarter grew 12.2% over fourth quarter 2022. More recently, in January 2024, this portfolio's cash NOI posted an increase of more than 25% compared to January 2023. The performance of Sabra's same-store assisted living portfolio is attributable to strong gains made by nearly every operator managing these communities, while the foundation was set by our Inspirit portfolio, which was transitioned from Enlivant in mid-2023. Nearly every operator was able to drive REVPOR while managing ex-POR. The Inspirit portfolio, which is about half of our same-store assisted living portfolio, experienced cash NOI growth of 14.5% sequentially and 21% year-over-year. We continue to see operational, financial, and cultural improvement in these communities since the transition. The same-store pool of properties in our unconsolidated joint venture with Sienna, excluding non-stabilized assets and government stimulus, had 2.5% higher occupancy in the fourth quarter on a year-over-year basis with a 159% increase in cash NOI in the same periods. The drivers were occupancy increases and 5.7% higher REVPOR coupled with 9.1% lower ex-POR leading to cash NOI margin expansion of 12.7% in the fourth quarter on a year-over-year basis. Our now leased stabilized Senior Housing portfolio continues to perform well with occupancy well above pre-pandemic levels and steadily improving rent coverage. At the end of the fourth quarter, Sabra's total investment in behavioral health remained approximately $800 million. I want to point out that the trailing 12-month statistics in the supplemental, one quarter in arrears for our behavioral health portfolio shows a slight downward trend over the prior quarter for both occupancy and rent coverage. This is largely a function of changes in the pool of properties including the addition of our Monroeville residential treatment center to the stabilized pool in the second quarter. Monroeville currently operates at a lower occupancy rate than the rest of the pool, but continues to cover its rent payment. And with that, I will turn the call over to Michael Costa, Sabra's Chief Financial Officer.

Thanks, Talya. For the fourth quarter of 2023, we recognized normalized FFO per share of $0.32 and normalized AFFO per share of $0.33. During the quarter, we saw an $800,000 decrease in cash rents compared to the third quarter, primarily due to the sale of a portfolio of 13 skilled nursing and two Senior Housing assets during the third quarter. Also during the fourth quarter, we updated our estimates of performance-based compensation, which resulted in an increase to general and administrative expense totaling $5.1 million, of which $3.8 million relates to the first three quarters of 2023 and is normalized out of our fourth quarter normalized FFO and normalized AFFO. These amounts were partially offset by a $300,000 increase in normalized AFFO from our managed Senior Housing portfolio as a result of improved rates and occupancy. This quarter, we are pleased to introduce full-year earnings guidance for the first time since the start of the pandemic. Throughout the pandemic, Sabra and many of our peers did not issue full-year guidance because the uncertain operating landscape in the industry made it difficult to project expected financial performance with a high level of conviction. As the industry enters 2024 with a much improved operational environment, and as Sabra specifically enters 2024 with the majority of our portfolio transitions and repositioning behind us, we have a much clearer line of sight into the expected performance of our portfolio for the coming year. Our estimated ranges for the full-year 2024 performance on a diluted per share basis are as follows: net income $0.53 to $0.57, FFO $1.33 to $1.37, normalized FFO $1.34 to $1.38, and normalized adjusted FFO of $1.39 to $1.43. As a reminder, our guidance does not assume any acquisition or disposition activity. I also want to point out a few things on our 2024 guidance. At the midpoint of our normalized FFO and normalized AFFO ranges, we expect to realize year-over-year growth of approximately 5% and 6%, respectively, which would be the first year of earnings growth for Sabra since the start of the pandemic. Our guidance also assumes a return to a more normalized run rate of cash G&A of approximately $36.8 million in 2024 compared to $39.5 million in 2023. As discussed on previous earnings calls, we have no floating rate debt outside of balances on our line of credit. Therefore, we expect cash interest expense in 2024 to remain consistent with 2023, with any variability coming from changes in outstanding borrowings on our line of credit. Our current quarterly dividend of $0.30 per share would represent an 85% payout using the midpoint of our normalized AFFO guidance. Our expected earnings growth throughout our guidance range would also reduce our leverage from current levels closer to our long-term average target. Now briefly turning to the balance sheet. Our net debt-to-adjusted EBITDA ratio was 5.74x as of December 31, 2023, and as noted earlier and on previous calls, we expect leverage to naturally decrease as the performance in our portfolio continues its recovery from the pandemic. We remain committed to a long-term average leverage target of 5x and are confident we can achieve that target over time without needing to access the capital markets. As of December 31, 2023, we are in compliance with all of our debt covenants and have ample liquidity of $947 million, consisting of unrestricted cash and cash equivalents of $41 million and available borrowings of $906 million under our revolving credit facility. Finally, on February 1, 2024, Sabra's Board of Directors declared a quarterly cash dividend of $0.30 per share of common stock. The dividend will be paid on February 29, 2024, to common stockholders of record as of the close of business on February 13, 2024. The dividend is adequately covered and represents a payout of 91% of our fourth quarter normalized AFFO per share. As noted earlier, this payout percentage is expected to improve in 2024. And with that, we'll open up the line for Q&A.

Your first question comes from the line of Joshua Dennerlein with Bank of America. Your line is open.

Hi, this is Farrell Granath on behalf of Josh Dennerlein. My first question, I wanted to ask about the relationship with Ignite. What are you seeing in terms of opportunities going forward with either expanding or deepening this relationship? Or if you can touch on any other relationships you're hoping to expand on?

Sure, I'm happy to take that. We have been working with Ignite since we transitioned several nursing home properties in Oklahoma to them several years ago, before the pandemic. We've always been interested in working with them. We did a small tack-on deal to our Oklahoma buildings. We've looked at several other deals. We announced the deal that we closed on last year, and we continue to look for opportunities with them. We are not the only REIT with whom they have a relationship; they balance us all out and look for the best terms they can get. They like to negotiate, but we have tremendous respect for their capabilities as operators and are endeavoring to do more with them.

Great. I know you made a few comments on the SHOP business, but could you expand a little on how you see that developing in 2024, particularly regarding margins or occupancy?

I think we all wish we could see really rapid increases in revenue and decreases or no increases in expenses. What I think we're really starting to see is consistent growth on the top line through both occupancy and REVPOR growth. Importantly, we're starting to see that expenses per occupied room ex-POR are declining. I think that's a really key metric, which is why I added it to my talking points this morning. To me, that signals that the breakeven point is being moved so that we are now starting to get the benefit of operating leverage.

Your next question comes from the line of Nick Yulico with Scotiabank. Your line is open.

Hi, thanks for the question. This is Elmer Chang on with Nick. Touching on Ignite again in a different way, but you had a fairly active quarter acquiring that portfolio. Could you just talk about whether this transaction was more so a credit-driven transaction versus maybe the operator needing capital to expand? And did you assume any mortgage debt in the process?

So we did not assume any mortgage debt. It's not credit driven; it's really based on operations and their very conservative look forward on what they can do with these buildings. These are newer buildings. The team at Ignite actually opened them when they were at their prior employer. There's tremendous familiarity, and the two buildings are very close to one another, providing good geographic coverage.

Got it. Yes, that helps. Thank you. Regarding the Senior Housing managed business, I understand you mentioned a potential rent growth in the 5% to 7% range. You also discussed occupancy gains, aiming for pre-pandemic levels. Is that a target included in the 2024 guidance, or is it more of a goal for the next two to three years?

Yes. I wouldn't say it would be a two to three-year objective. I think the best way to think about it is if you look back over the last couple of quarters where we put that bridge to illustrate the remaining upside in our portfolio, a healthy amount of that upside for the Senior Housing managed business specifically is captured in our 2024 guidance and particularly in the year-end run rate. By the time we get to the end of 2024, the vast majority of that upside is already captured with a little bit left to capture in '25 and beyond.

Got it, okay. Thank you.

Your next question comes from the line of Austin Wurschmidt with KeyBanc Capital Markets. Your line is open.

Great. Thanks. Just wanted to hit back on sort of the Senior Housing managed portfolio and maybe put a finer point on what are you assuming for same-store NOI growth for the year within that segment of the business?

Yes. So I mean we didn't disclose that obviously in our release. I think if you look at what a lot of our peers have put out, I think just general industry sentiment is call it double-digit, low teens, even mid-teens growth. I think that feels about right for our portfolio, and it's probably a good assumption to use when you're looking at our specific portfolio.

That's helpful. And I guess given sort of the acceleration you've seen now in the last couple of quarters, should we assume something more consistent with historical seasonality levels? Or do you think you can outperform that historic seasonality just given the strength you're seeing?

I think you're always going to have seasonality. One of Rick's points at the top of the call was about the lack of new supply. You had a larger denominator pre-pandemic. You now have that same denominator and have more people in the cohort and more people moving in, so occupancy is increasing. What I referenced about operating leverage is really going to be part of the story that leads to what Mike was talking about regarding NOI growth. The more you fill the buildings, it's not a completely static pool, but the pool of your audience and your resident numbers are moving up, and the number of beds available remains static at the moment. You're going to get the benefit of operating leverage because that incremental resident has a much higher pull-through to the bottom line.

The point I would make about guidance is, we felt we've had enough trends in our asset classes to provide full-year guidance, but it's still impossible to predict how much or how quickly things are going to continue to improve. Hopefully, if we've erred, we've been conservative in our assumptions.

That all makes a lot of sense. And just one last one I wanted to hit on was you referenced coverage certainly trending positively across the overall portfolio. It does look like Healthmark Group has continued to trend lower for several quarters since they've been on that top 10 list. Could you share any detail on what's driving that and when you might expect it to stabilize or even see a reversal?

Yes. They have really been benefiting from PRF, and that's dropped off completely; so that's been a big factor. They're a really good operator in a tough environment in Texas. We don't have concerns about them going forward, and we think that things will level out for them and then start improving again.

Your next question comes from the line of Michael Griffin with Citi. Your line is open.

Great, thanks. Just wanted to ask about the acquisition environment heading into 2024. I know in the past, you've talked about potentially being a net acquirer in the year ahead, but you didn't include any acquisition expectations in your guidance. Just wanted to get a sense of how deep the pipeline is and sort of where you see yields for both on the skilled side and then anything on Senior Housing?

I'll start. Our goal for this year is to be a net acquirer across all asset classes, including skilled and Senior Housing and behavioral, as those opportunities present themselves. Even though we've focused a lot over the past year plus on diversifying the portfolio, our skilled exposure is at the lowest point it's been in our history and will continue to drop. We're actively looking for skilled deals. Everything is focused on earnings growth this year, so we're not putting false guardrails around the asset classes we're currently in.

In terms of the depth of the acquisition pipeline, the Senior Housing market is very active. It was very active mid-last year, but since early 2024, everyone has reengaged with a different perspective on pricing because there was a bid-ask spread that really stalled things. Now it feels like there are many assets on the market. There are groups that have to refinance or sell because of their situations with their lenders, so we're seeing a lot of newer assets in the Senior Housing front. Skilled nursing has a different dynamic; we don’t see that much quality product marketed by the brokerage firms. Those transactions are happening off market. It’s incumbent upon us to insert ourselves into those relationships to capture opportunities in skilled nursing. They are competitive as they are in Senior Housing, but it’s active.

Great. That's helpful. You referenced skilled margins being back at pre-pandemic levels, but you're still about 500 basis points of occupancy below pre-COVID levels. Given the expectation for more occupancy uplift, where could we see margins get to in that business?

I mean, it's hard to predict where they can get to, but a few basis points above where they were pre-pandemic is possible. It's certainly not out of the realm of possibility to see a few percentage points. The real question is how long it will take to get there. One reason there's been so much focus on Senior Housing is that you've been pushing through 10% rate increases. But the cost report process has a time lag; however, that time lag is now catching up, and we're seeing some nice rate increases in many states and with CMS. So revenue per patient day has grown nicely while non-nursing labor has been relatively flat. We're seeing just under 4.5% inflation in nursing over the last year. This has helped compensate for occupancy. We believe occupancy can go beyond pre-pandemic levels in several markets where we're starting to see access issues. Therefore, I think the margin uplift will be greater than a few percentage points.

Great, that's it for me. Thanks for the time.

Thank you.

Your next question comes from Vikram Malhotra with Mizuho. Your line is open.

Afternoon. Thanks for taking the question. Maybe just first on the guidance. I understand this is obviously the first time post-COVID. Can you give us some specifics on what's baked into the low and the high end? You talked about low teens same-store growth. But what else is baked into reaching either the lower or higher end? And is a potential credit issue baked in or not?

I wouldn’t say there’s a credit issue baked in or not. The range is largely dictated by what Rick said earlier, which is that it’s hard to predict how this will shake out. If we knew with certainty, we would just put out one number. There is uncertainty baked in there regarding where we're going to end up over the course of the remainder of this year, so we're providing ourselves some cushion.

Okay. And then just on the regulatory side, any updated thoughts on how you see the minimum staffing final ruling shaking out component-wise or timing-wise? And Rick, I think you alluded to a decent Medicare bump. Should we think about it as like 4% to 5% this year? Is that fair?

On the Medicare bump, I don't want to get ahead of CMS, but we were at 4.1% last year with the parity adjustment. So I think something north of that is reasonable due to the inflation that must still be captured. Regarding minimum staffing, there are no updates on timing. They said in 2024 they'll have the final rule, but we do not believe that any staffing mandate is acceptable, given the lack of availability of nurses. The industry has bipartisan support in Congress because even if they aren't funding it upfront, it will eventually show up in increased rates, costing the government billions annually. I think these factors contribute to the bipartisan support against a staffing mandate.

Great. And sorry, just one last clarification. You mentioned last call that there may be a few more transition smaller ones. Could you help us roughly quantify the benefit of the transitions that have already been completed in '23 and what the benefit is in '24? Are there any additional transitions planned?

Certainly. In terms of the transitions we discussed last quarter, the number came down because we started capturing some of that. It’s not a large amount in total; I think it was like $4 million at most. We captured some in Q3, a little in Q4, and by year-end, we will see most of that captured. Again, it’s small dollars in the grand scheme of things.

Your next question comes from the line of Rich Anderson with Wedbush. Your line is open.

Thanks. Good morning. So Rick, you mentioned investment opportunities but noted no clear trends. Could you elaborate on that? What types of assets might you consider, or is that still hard to quantify? I'm curious for more detail on the external growth front this year.

One point from Talya: we're not seeing much in terms of quality skilled nursing deals, so it's hard to predict volume and cap rates. We don’t expect to see the A-handle deals that we saw prior to the pandemic, but the volume is still unclear. Prior to the pandemic, we didn't include acquisition assumptions in guidance, but that’s changed. There isn't enough trend data to predict whether we'll get to $200 million or $400 million this year; it’s impossible at this point. Hopefully, as we get further into the year, we’ll have more data to share.

In terms of the spread investing opportunity, if you're using a 9% to 10% cap on SNFs, what do you think the range of return spread should be to justify pulling the trigger? 200 basis points plus?

We don’t have a set number at our current cost of capital. As we explore opportunities and assess deals, we want them to be accretive. As we look further into this year, everybody is still in recovery. For skilled deals like our Ignite deal, we are looking in the range of 9% to 10% knowing there's more upside. You might say we don't want the biggest spread, but we will have a bigger spread over time as the industry continues to recover.

You mentioned in the release a 1.72x coverage in your skilled space excluding provider relief funds. Is that at an arrears number? Is it a third or fourth quarter number?

It's a 12-month number as of September 30.

Noted. That same number was 1.6x in your third quarter release, so what's driving that improvement? Any moving parts?

A lot of our operators experienced larger-than-average Medicaid rates in July and August. Labor growth has moderated quite a bit; it’s still tough out there, but has improved more than we expected. The combination of slower labor growth and stronger revenue per patient day growth, especially on the Medicaid side, contributed to the improvement.

Could you be teasing a 2x number if things continue to improve?

From your lips, Rich?

Your next question comes from the line of Michael Stroyeck with Green Street. Your line is open.

Maybe one on the Senior Housing lease portfolio. Coverage levels are now back to 2019. Are spot levels mostly captured in that trailing 12-month figure? Should we expect more meaningful improvement in covers in that business?

We're optimistic that coverage will continue to improve as operating leverage begins to drop more NOI to the bottom line. The portfolio remains very healthy.

Good to know. On contract labor, you mentioned it is down significantly overall. However, have you seen any pockets of your portfolio where agency labor utilization has come back up in recent months?

Not significantly. We certainly have markets where it’s still tough. But we haven’t seen increases; there may be a facility here or there. There was a little spike over the holidays, which isn't atypical, but it came back down fast.

On the senior housing front, we're seeing nearly zero agency labor, which returns to pre-COVID levels, with better retention and overall stronger hiring and compensation for permanent positions.

Your next question comes from Conor Siversky with Wells Fargo. Please go ahead.

Hi, thank you for the time. Maybe just to bounce back on the investment environment. It's been pretty common to hear that the willingness to invest has dramatically improved in 2024 compared to previous years. In that context, Sabra seems a little more conservative. When you say there are fewer high-quality skilled nursing opportunities, do you feel that’s due to increased competition or the pricing disconnect between potential sellers and buyers?

I don't think it's either; those that don't have to sell have been waiting for more recovery. So we expect to see more opportunities in skilled nursing and better quality assets. If you haven’t had to sell, you might as well wait for top-line and margins to improve.

We also observed a surge in private investor activity in skilled nursing when rates were low and bridge funding to HUD was constrained. This situation has shifted recently as opportunities for debt or equity in sale-leasebacks have reemerged, which is where the REITs can play. This explains why other REITs are engaging in various levels of debt in the capital stack, and likely where we’ve seen more opportunities for sale leasebacks.

For you to know, Connor, that we’re more conservative than our peers shows the impact of the pandemic on our mentality. We’ve never been accused of being more conservative than anyone before.

Understood. Appreciate the color. One more long-term outlook question; according to NIC MAP, some markets are nearing high occupancy. Should we expect to see states release some certificates of need in the next several years to increase construction activity?

There are markets where that is true. However, there is currently no talk about changes to CON. There will be a national crisis as we continue to approach more access problems in certain markets. Change at the state and federal level will need to occur, and the costs associated with building skilled nursing facilities are incredibly high due to extensive regulations. In light of these constraints, I believe we’ll continue to see strong occupancy growth across the skilled side for the foreseeable future.

Remember prior to the pandemic; the industry was projected to be effectively full by 2025 or 2026 based on demographics and the historical rate of supply decline. While the pandemic pushed that out, the closure of facilities has only intensified scarcity, thus prolonging our strong occupancy growth.

There are no further questions at this time. I will now turn the call back over to Rick Matros.

Thank you for joining us today. As usual, we are all available for follow-up, and for those attending the conference in Florida, we look forward to seeing you next week. Thank you.

This concludes today's conference call. You may now disconnect.