Welltower Inc (WELL) — Q4 2017 Earnings Call Transcript

Thank you, Nicole. Good morning everyone and thank you for joining us today to discuss Welltower’s fourth quarter 2017 results and outlook for 2018. Following my brief introduction, you will hear prepared remarks from Tom DeRosa, CEO; Mercedes Kerr, EVP, Business and Relationship Management; Shankh Mitra, SVP, Investments; and John Goodey, EVP, CFO. Before we begin, let me remind you that certain statements made during this conference call may be deemed forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Although, Welltower believes results projected in any forward-looking statements are based on reasonable assumptions, the Company can give no assurance those projected results will be attained. Factors and risks that could cause actual results to differ materially from those in the forward-looking statements are detailed in this morning’s press release, and from time to time in the Company’s filings with the SEC. If you did not receive a copy of the press release this morning, you may access it via the Company’s website at welltower.com. Before handing the call over to Tom, I want to highlight a few significant points regarding our 2017 results. One, we realized full year total portfolio average same-store growth of 2.7%, at the high end of our original guidance, driven again by the consistent outperformance of our senior housing operating portfolio. Two, we continue to opportunistically take advantage of favorable capital markets through disposing of $1.5 billion of non-core assets and raising over $600 million through our DRIP and ATN programs at an average stock price just above $71 per share. And three, we have redeployed that capital in a very disciplined manner, extinguishing $1.4 billion of high coupon debt in preferred securities and recycling $1.2 billion into high quality acquisitions and developments, finishing the year with a well-capitalized balance sheet and a 94.2% private pay mix. And with that, I will hand the call over to Tom for his remarks on the year and the quarter.

Thanks, Tim. In the most challenging environment we have seen for weeks in a number of years, I am pleased to report Q4 2017 financial results, our outlook for 2018 and some important strategic initiatives that all speak to our optimism about the power of the Welltower platform. We run this business to be the most effective global capital and operating partner to the broad healthcare delivery landscape including senior housing and have not been afraid to make bold decisions regarding people, capital deployment, asset mix and operator alignment to ensure our ability to drive our strategy and deliver shareholder value for years to come. Here are some highlights. Despite headlines of oversupply and flu, our seniors housing operating portfolio continued to deliver solid growth throughout 2017 and the outlook for 2018 remains positive. We delivered on our strategy of tying major health systems to our business platform as is evidenced by our Mission Viejo JV with Providence St. Joseph's, the third largest health system in the U.S. and Simon Properties, the world's most prominent mall owner. We announced $1.2 billion of gross investments for 2017 and by month end we will have closed on $0.5 billion of accretive new investments in 2018. We negotiated a successful restructuring of Genesis Healthcare that has significantly enhanced the credit quality and sustainability of the Genesis business model. I am sure you are all waiting to hear more about that from our friend, Shankh. Now, Mercedes Kerr will give you an overview of new operator relationships, new relationship investments in Q4, and her view on how we expect to grow in 2018. Mercedes?

Thank you, Tom. As detailed in our earnings release, we completed $334 million of growth investments in the fourth quarter of 2017 in the form of acquisitions, development funding, and loans at a combined average yield of 6.6%. For the whole year of 2017, our investments totaled $1.2 billion and had a combined average yield of 6.9%. Consistent with prior periods, more than two-thirds of our investments in the fourth quarter were completed on an off-market basis and 80% of the transactions completed in the fourth quarter of 2017 were repeat business. Our focus on off-market relationship-based transactions is possible because we have purposefully assembled a roster of best-in-class partners with scalable business models. Our unique operator alignment features incentivize us to grow together, so our partners often help us to find off-market opportunities themselves. This was true in the fourth quarter when we expanded our relationships with new perspective, Sagora Senior Living, Florida Medical Clinic, and Ascension, as well as our recently announced acquisitions with Sunrise Senior Living where we are buying four rental CCRC communities for $368 million at an above-market yield of 7%. These project returns are especially noteworthy given the highly desirable markets where these properties are located such as Washington DC and Miami. I should add a note of congratulations to Chris Winkle and the rest of the team at Sunrise Senior Living which was recently ranked the highest in customer satisfaction among Senior Living communities in J.D. Power's first-ever Senior Living satisfaction survey. It's great to see them recognized for their hard work. Every year we selectively identify new operators and healthcare providers to bring into our fold. In the fourth quarter, we were proud to introduce Summit Medical Group to our portfolio. This is the oldest and largest physician-owned multispecialty medical practice in New Jersey. We also announced a new collaboration with Mission Hospital, part of the Providence St. Joseph health system, a formidable and progressive healthcare provider. Our project together at The Shops at Mission Viejo speaks to the evolution of the delivery of care model and how Welltower and premier health systems can partner to bring state-of-the-art infrastructure solutions to the market. Since the start of 2018, we also expanded our relationship with Cogir Management Corporation by bringing them into our partnership pool. We are extremely pleased to have created a joint venture vehicle with this important next generation Canadian operator and look forward to working with Mathieu Duguay and his team in this new construct. I want to take a moment to speak about the flu, which can impact senior housing revenues and expenses through voluntary and mandatory additional spending, higher than average move-outs due to illness or death and also with higher costs anytime that caregivers are temporarily replaced by agency labor when they are sick. We monitor these trends closely and we know of individual cases where flu has impacted our communities. This year's flu season has been the subject of headlines due to its severity and widespread nature and it's mostly in report, the CDC is calculating a 130% increase thus far this season in outpatient visits related to influenza-related illnesses for individuals 65 and over in the United States when compared to last year and a 92% increase when compared to the difficult 2014-2015 period. The season is not over, so it's hard for us to quantify the precise impact of the flu at this time. Having said this, we’re satisfied with the work our operating partners are doing to care for their residents and staff and also to minimize the financial impact the flu may have on our communities. Finally, a quick comment about Brookdale Senior Living's announcement this morning. We hope that their decision to end their strategic review process, which has been the focus of much of management attention for a protracted period, will now allow them to get back to the basics. That we’ve said before, we're satisfied with our portfolio holdings with Brookdale and we will continue to collaborate with them going forward just as we have before. With that, I will turn the call over to Shankh Mitra.

Thank you, Mercedes, good morning everyone. I will review our quarterly operating results reflect on our full year 2017 operating performance relative to our initial expectations and provide you with our preliminary assessment of the 2018 operating environment with a specific focus on our SHO portfolio. Our same-store portfolio grew 2.1% in the fourth quarter bringing the total average same-store NOI growth to 2.7% for 2017 towards the high end of our initial expectation of 2% to 3%. Our senior housing operating portfolio grew 1.5% in the fourth quarter, which was below our expectation for the quarter. Late quarter occupancy declined due to flu, contributed to this performance. This has tempered our outlook for 2018, despite that we believe we will have a year of positive same-store NOI growth in that business representing a significant relative outperformance due our best-in-class assets and affluent markets run by premier operators. Specifically our 2018 outlook for the SHO portfolio is flat to 1.5%. As you know, actual results will be driven by a combination of rate growth, occupancy, and expense growth. Low 3% rate growth, 50 to 100 basis points of occupancy decline and a 3% to 4% expense growth built into our same-store NOI growth expectation. We set our initial expectation of 1.5% to 3% growth in the SHO portfolio for 2017 and achieved 2.5%, however, this was done through a different combination of rate, occupancy, and expense growth than we thought. Rates were better, occupancy was lower, and so were expenses. In addition to our operator focus relationship strategy, our heavy investment in data and analytics capabilities are starting to bear fruit. We’ve outperformed in the upcycle and continue to outperform in the more mature part of the cycle. We’re confident that this superior relative and absolute performance over the entire cycle every year on a consistent basis is ultimately a result of significant differentiation in cost of capital at some point in time. Another important update for the quarter is regarding Genesis. As we started this journey, our focus was to maximize shareholder value on our total capital committed to Genesis. Since we last spoke to you in November, we have continued to be encouraged by the relative stabilization of cash flow in our retained portfolio. Additionally, important changes have taken place in this relationship. As Genesis announced last night, they have come to a restructuring agreement in which all of the credit parties have come together to recap Genesis' balance sheet and put the Company in a position of strength. A key element of this structure is an injection of $555 million of fresh capital into the Company by Midcap Financial Trust, a wholly-owned subsidiary of Apollo Global Management, a strong vote of confidence in Genesis and the industry. This recapitalization is a critical step in Genesis' previously announced broader effort, which is expected to result in $80 million to $100 million of annual fixed charge improvement through the combined effort of the multiple credit parties. Our main contribution to this restructuring is a reduction of $35 million of annual cash rent, as I mentioned in the last call. However, we also negotiated a five-year lease extension and an option to reset the rent after five years to recoup that $35 million. Genesis also committed to pay back $105 million of loans by April 1st. So far we have sold $1.9 billion of Genesis loans and real estate with a realized IRR of 10.3% and with today's restructuring, Genesis is now 5.2% of in-place NOI with a pro forma trailing 1.34 times EBITDAR and 1.7 times EBITDARM coverage at the profit levels, with the corporate guarantees that is significantly stronger. As with any asset in our portfolio, we retain the complete optionality with this high-quality PowerBack heavy portfolio in the future. Since the $400 million Genesis purchase option expired in March of last year, we have been communicating multiple possible paths of action while negotiating with the public tenant that has been in clear need of a recap for the last two years. We have aimed to keep our investors attuned to all possible outcomes while maintaining a public negotiation posture that ensures our optionality in order to maximize shareholder value. We feel strongly that our approach with Genesis has substantially enhanced our flexibility and provided the highest value outcome for our shareholders while minimizing reliance on any one operator. Today we have a maturely strengthened corporate credit standing behind a well-covered lease, which is in stark contrast to what you're seeing in the industry. A recapitalized Genesis refocused on its core market is forced to win market share, more broadly in context of shrinking supply and a pending demographic surge; demand for skilled nursing beds is projected to surpass inventory by 2025. While the $35 million income loss is not ideal, though necessary in the short term, we will participate in this positive trend through our rent reset provision occurring in year five of the restructured master lease. We'd like to thank our shareholders for supporting us in this transformation journey. As dispassionate capital allocators, we change when facts change. It is important to summarize that we're noticing the following changes: 1) Operating performance is stabilizing in our retained Genesis portfolio. 2) A material credit improvement as a result of Genesis recap has happened. 3) We feel a tectonic shift in the sentiment of smart investors towards us for secured space. All publicly announced deals you have noticed with Humana, Welsh, Carson, TPG in the case of Kindred and now MidCap forward in the case of Genesis. We believe you'll see more. 4) We preserve full optionality going forward. With that, I'll pass it over to John Goodey.

Thank you, Shankh, and good morning everyone. It's my pleasure to provide you with the financial highlights of our fourth quarter and full year 2017 and our guidance for 2018. Despite the challenging U.S. senior housing market conditions you have heard about from others, our portfolio delivered solid financial results for Q4 and in 2017 overall, and we are positive on the prospects for 2018. Once again our superior portfolio, excellent operator relationships, as well as the strength of the Welltower platform to allocate capital and asset manage have enabled us to outperform our peers. In addition, it is noteworthy that our 2017 financial results are being delivered in a year where we've also continued to refine our portfolio and lower our financial leverage. In 2017, we generated $1.5 billion of dispositions with a gain of $344 million realized and a realized IRR of 11.3% and further improved our balance sheet to be one of the lowest leverage in the REIT industry. These actions placed us in a strong financial position to pursue our strategic plan in 2018 and beyond. As detailed by Shankh, our SHO portfolio grew by 1.5% in Q4 2017, with seniors housing triple net and long-term post-acute both growing at 2.8% and outpatient medical growing at 2.0%. Overall same-store NOI growth was 2.1% in the quarter and averaged 2.7% for 2017 overall. This quarter's growth was augmented within-quarter acquisitions and joint ventures of $223 million along with $142 million of divestments and loan payoffs. They've enabled us to report a normalized Q4 2017 FFO result of $1.02 per share. Overall, we delivered $4.21 of normalized FFO per share for 2017 in total. In addition to this quarter's joint ventures and acquisitions, we've completed $42 million of developments bringing full year deliveries across all operating segments to $548 million at a stabilized yield of approximately 7.3%. We're truly excited by the future earnings growth potential of these new state-of-the-art buildings. In Q4, we normalized a number of items including an allowance for $63 million relating to a Genesis loan restructuring. We also normalized $58 million of non-controlling interest in unconsolidated equity impairment, the majority relating to write-downs to certain non-consolidated JV investments. In addition, we also normalized $60 million of other expenses and transaction costs, $41 million of which related to the donation of our Toledo headquarters and $18 million of which is a mark-to-market impairment against our Genesis public shareholding. Additionally, we normalized $17 million related to a deferred tax and valuation allowances including the impact of the Tax Cuts and Jobs Act. Welltower continues to focus on our corporate operational efficiency by further optimizing systems, processes, human capital, and physical infrastructure. Our G&A for the quarter was $28.4 million, a 13.5% reduction over Q4 2016. For 2017 overall, we reduced our G&A by nearly 21% compared to the year prior. We continue to implement further initiatives to improve our operations and efficiency in 2018. Our balance sheet remains in great shape and leads our peer group. We will continue to maintain balance sheet strength and financial flexibility. During the fourth quarter, we extinguished $137 million of secured debt bringing our full-year retirement of debt and preferred securities to $1.4 billion at a blended average rate of 5.4%. We ended 2017 with cash and cash equivalents of $244 million and $2.3 billion of available borrowing capacity under our line of credit. Our leverage metrics remain at or near historically low levels with net debt to adjusted EBITDA of 5.4 times, a net debt to un-depreciated book capitalization ratio of 36.3%, and our adjusted fixed charge coverage ratio remains strong at 3.4 times. Based on announced 2018 acquisitions and planned dispositions for the year, we see year-end 2018 leverage being in the low five times net debt to EBITDA area. Our debt maturity profile remains well-controlled and we will opportunistically access bond markets in 2018 to further manage our profile. As we previously noted, our deep liquidity position affords us significant flexibility to pursue value-enhancing acquisitions, development opportunities, and to reinvest in our portfolio to drive growth. I will conclude my remarks with our outlook for 2018. As noted in our earnings release, we have adjusted our overall same-store NOI and long-term post-acute growth outlook for the impact of the $35 million Genesis Master Lease restructuring. Starting with same-store NOI, we expect average blended same-store NOI growth of approximately 1% to 2% in 2018, which is comprised of the following components: senior housing operating approximately 0% to 1.5%, senior housing triple net approximately 2.5% to 3%, long-term post-acute care approximately 2% to 2.5%, and outpatient medical approximately 2% to 2.5%. We anticipate funding developments of approximately $297 million in 2018 relating to projects underway as of December 31, 2017. We expect development conversions during 2018 of approximately $413 million, which are currently expected to generate stabilized yields of approximately 8%. We’ve incorporated approximately $1.3 billion of disposition proceeds at a blended yield of 7.2% in our 2018 guidance. This includes approximately $553 million of proceeds from dispositions previously expected to close in 2017 and $741 million of incremental proceeds from other potential loan payoffs and property sales. We also replaced the 2017 Genesis disposition placeholder of $400 million in proceeds with $225 million of expected dispositions and loan paydowns this year. This comprises approximately $120 million of non-core property sales, representing about 10% of our portfolio, which are in advanced negotiations stages, and $105 million of expected loan payoffs tied to the Genesis restructuring recently announced. Moving to G&A expenses, we anticipate 2018 general and administrative expenses of about $130 million in 2018. This level remains significantly below our G&A spend for 2015 and 2016. Based on the above, the aforementioned Genesis restructuring and other items discussed, we anticipate 2018 normalized FFO attributable to common stockholders to be in the range of $3.95 to $4.05 per diluted share, with normalized net income in a range of $2.38 to $2.48 per diluted share. As usual, earnings guidance excludes any additional acquisitions beyond those which have been announced, but does include our planned dispositions. I am pleased to announce the Board of Directors approved the 2018 quarterly cash dividend at the maintained rate of $0.87 per share being $3.48 per share annually. As such, on February 21, 2018, Welltower paid its 187th consecutive quarterly cash dividend, the current annual dividend represents a yield of approximately 6.4%. Based on our overall outlook for 2018, strong liquidity position, and our high-quality portfolio poised for growth through operational gains, accretive acquisitions, and development pipeline delivery, we remain comfortable with our dividend at this level. With that, I'll hand back to Tom for his closing comments.

Thanks, John. When I became Chief Executive Officer, almost four years ago, it was the tailwind of a rapid asset accumulation period. I knew that was not sustainable nor was asset accumulation a viable long-term business strategy. Since then, we've taken advantage of strong asset pricing, and by year-end 2018, we will have sold nearly $5 billion in real estate at an IRR of 10.5%. While radically improving the overall asset quality, we also massively deleveraged the balance sheet. You now know about the plans for Genesis. Three years ago, we made the strategic decision not to abandon the post-acute sector. This is a critical component of the healthcare delivery continuum and we see a role for Welltower in reinventing how this sector operates and is capitalized. From here, Genesis has a stronger capital structure and a refocused business strategy on its core markets, to effectively participate in value-based care. It feels like we're coming to the end of our asset optimization journey, and I believe both sides of the balance sheet are now positioned for growth. I want to thank the shareholders who have stood by us through this process. We benefit from a business construct based on an operating platform that is focused on delivering real estate settings that promote wellness and provide healthcare at lower costs than acute-care hospitals. This platform is built upon our unique alignment with the leading senior housing companies operating in major urban markets in the U.S., Canada and the UK and health systems like Providence St. Joseph's. I am also now proud to say that I work with the smartest, hardest working, most diverse and highest integrity team in this business. This team is now completely aligned around the objective of driving long-term shareholder value. On February 28th, we shared our old stock symbol for one that speaks to the strategy, W-E-L-L, now WELL will bring wellness to the attention of the global financial markets as well as Welltower. Now, Nicole, open up the line for questions please?

Shankh or maybe Tom, just sort of stepping back on your last call, you talked about sort of providing a rent cut and simultaneously doing an asset sale, the size obviously was not known, but at least I took it as being a fairly large chunk of the portfolio. You sort of walked through some of the components of maybe what's changed, but maybe if you can elaborate what has changed between then and now, and more specifically on the outlook given, what you're seeing right now, should we expect potentially more dilution from any further asset sales on Genesis?

So, Vikram, let me share a few updates. Management has done an outstanding job of coordinating all credit parties, not just the real estate owners, to establish a sustainable capital structure, which is crucial. We initially saw progress, but they have pleasantly surprised us by injecting $550 million of fresh capital into the business. This development places the Company in a strong position moving forward. Moreover, regarding our retained portfolio, it has become much smaller and more focused, particularly with a heavy emphasis on PowerBack. We anticipate stabilization of cash flow in that portfolio for a long time. Operating performance and credit quality have also improved. As capital allocators, we evaluate each asset in our portfolio for potential sale. We assess the quality of our assets, their coverage, and the operating outlook for those buildings, considering if each one is a buy, hold, or sell at current prices. I can't definitively answer that for every asset, but all Genesis assets are available for sale at the right price. We maintain total flexibility going forward. I won't state that we won't sell more assets, nor will I guarantee that certain assets will remain unsold. Our approach is adaptable as information and facts evolve. Genesis is significantly different now than it was 90 days ago.

And Vik, let me add to that that we always look to enhance optionality in terms of how we manage this business, and the strongest statement I can make to you is because Genesis is a dramatically stronger credit based on this restructuring going forward it means that Welltower is a stronger credit going forward.

Got it and just to clarify that I think you alluded to the fact that you're now in a position to sort of grow cash flow, grow earnings. Would it be safe to say that assuming there are not too many changes from here on and you keep things intact? Would you be in a position actually to grow cash flow AFFO and see very little dilution, if any, from Genesis?

We hope so, Vik, that’s how we run the business.

Vik, as Tom said, we’re towards the end of that journey, whether we’re in the seventh inning or eighth inning, I can't tell you that, but definitely, as everybody else seems to be starting that journey which feel like we’re at the very end of that journey. We always looked to asset manage our portfolio. There will always be something for sale, but we feel confident with our balance sheet and with hopefully where we're in the cycle that we will be able to deploy capital as you've heard from Mercedes and Tom.

So, I’ll emphasize the fact that we made a number of tough decisions when the wind was at our back. We’ve never felt the wind less at our back than we do right now. And I'm very glad and you should be glad, we did take those tough decisions when we did them because this is not the time to be starting that. So I want to emphasize, we do believe we're kind towards the tail end of this journey, and that is what speaks to the optimism that you've heard from everyone here on this call today about the future. We’re very optimistic about the role that Welltower will play in fixing healthcare delivery. And if you red line certain sectors of the healthcare space or at least the non-hospital healthcare space, you reduce your ability to participate in this change which we believe will drive significant shareholder value in the future.

Couple of questions, so on the same-store NOI growth, if you would go in and I guess not adjusted for the $35 million ramp reduction. What’s the post-acute same-store number and the overall same-store growth?

So that was the question, if we follow the January 1 rent reduction rate, I think at the midpoint it's down by 12.25%.

And for the total portfolio Mike, it's positive 0.5% to negative 0.5%, midpoint of flat year-over-year.

And then, you talked about the pro forma Genesis coverages. What were the coverages beforehand? So how much improvement is there with all the transactions that had been announced?

If you look at our coverage, we will give you a range. And if you look at the range and the sub, which you will see that it was close to one. And it's a very important question, Mike, because if you think about the history of rent cuts in this sort of rent-free profile in this sector, you will see that the majority of the times, the landlords have taken the tenant back to sort of one coverage, did not give them flexibility to invest in the business, did not give them flexibility to actually grow their business. And that's why they went back to where they started, right. So we absolutely did not want to do that. As Tom said, we’re never afraid to take bold decisions. This was needed and it happened. So, we feel like going forward that you can feel a very significant assurance that we have taken where we didn't kick the can down the road.

So, today's news doesn't sound exactly like you're recommitting to the skilled nursing business or to Genesis per se, but it does sound at the margin that you are willing to hold today rather than be a seller at an excessive discount. I am wondering; one, if it's a fair characterization; and then two, would you be willing to invest incrementally in Genesis beyond the incremental term loan piece you are lending?

Jordan, considering a triple net lease is a credit, our credit at the property level has significantly improved from a coverage standpoint. The most crucial aspect is the EBITDARM coverage exceeding 1.7. Management fees are subordinate to rent payments and are guaranteed by the corporate entity. Overall, when you examine it, the three levels of stratification have shown substantial improvement. I want to emphasize this point and also the rent reset that I mentioned. Looking at the demographics and negative supply, if you trust the demographics and believe that there won’t be any changes in utilization, we will see a crossover of demand and supply in the near future. We anticipate recovering that $35 million in rent. Regarding investments in Genesis moving forward, we already are. We have a PowerBack development underway, and we believe in that model. If there are additional opportunities to invest in that PowerBack hub and spoke model from which Genesis operates, we would be pleased to pursue those, consistent with our previous actions.

Jordan, you've heard me say consistently that we are not going to abandon this sector. Why do I say that? Because when you interact with the leaders of healthcare in this country, which are the CEOs that run the major regional health systems, they all say, they need a viable post-acute care option. The problems that the REIT sector has been dealing with were capital structures that were not sustainable given some of the changes that occurred in reimbursement. And as Shankh said and I say a lot, you can continue to kick the can down the road, until you just keep kicking the can at the wall and it keeps coming back at you. What we've announced last night and what we've discussed this morning is a fix that needed to happen years ago, but the industry kicked the can down the road. We have fixed Genesis' capital structure, not just Welltower, it was every one of their capital partners, and we brought in a new capital partner. I think that says something about the future of Genesis, so we are in the business of maintaining and enhancing optionality. Optionality for where we deploy capital in the best interest of our shareholders. And so, nothing has changed, you've heard me say this consistently, and I took a lot of stones and arrows for saying it. But I think our strategy will prove to have been in the best interest of our shareholders.

Yes, no that's consistent I think with the messaging you've relayed over time. So my follow-up is really on Genesis again, I don't know if this is for John, but specifically as it relates to guidance. What is the total loan forgiveness that you either recognized in 4Q and that you expect to recognize in '18 of the $400 million plus or so that you've got to Genesis, you had to Genesis? And then what's the embedded total interest income that's in the $4 FFO guide?

Jordan, I'll answer the first part of the question, the answer is zero. We have not forgiven loans. We have reserved against those loans. So there is a significant difference in that and that you know, and two hidden in your question is something that I saw a lot of confusion about, if you go back and look at our financials for the last two quarters and see what we said, our entire Genesis loan book was in payment in kind, we gave them as they were doing the whole restructuring for the last few months. We did not go through a part cash, part payment today. We went from a complete pick to a part cash tactic payment today. And with that, I will pass it over to John.

And so I think on the penny front, Tim's got the answer for you on the actual pennies recognized in FFO from Genesis loan.

Part of the answer is that we are only recognizing cash interest on Genesis for 2018. In our FFO guidance today, we are accounting for just the cash. As mentioned in Genesis' release, there were no loans recognized from November 15 of last year through February 15 of this year. If we consider the entire year of 2018, it's important to highlight that from January 1 to February 15, everything was in pick, and we did not include that in our FFO. This accounts for roughly a penny in cash basis income that we would have recognized for the full year. Additionally, for the remainder of the year, the pick component represents about five pennies that we have not recognized in FFO. We are recognizing approximately $20 million in interest income in our 2018 numbers.

Okay, regarding the forgiveness aspect, I'm a bit confused as I read about the bridge loans of $275 million. They need to repay no less than $105 million of obligations. What will happen to the remaining $170 million?

As part of the announced restructuring for both Genesis and ourselves this morning is a commitment based upon the contingency of having a financing partner step up in that $105 million of refinancing. The remaining piece is assumed to be outstanding for the rest of 2018. That $170 million will be current cash paying, it is current cash paying right now because after February 15th, it went back to cash paying. And the assumption in our model is that $105 million is paid back around midyear and the remaining piece of that real estate loan and the term loan remain outstanding for all 2018 and are cash paying.

I don't think I'll just reiterate, Jordan, what Shankh said. We have not forgiven them loans; we have taken a reserve against them because some of this is collateralized that we have to test the collaterals that's underneath the orders as you can imagine make us do that. And that was the reserve that we have to take that relates to the collateral, not to a write down of the loan, but Genesis will therefore be forgiven. So, there is a big difference to Shankh that we've not forgiven the $60 million write down.

I just want to make sure I understand the 5.2% exposure to Genesis, is that including further loan pay downs or just where it is today?

The 5.2% is, so the way that we calculate our employees NOI is off of just our property NOI, so if you think about as of the end of the fourth quarter, what's currently in our supplement, pre-rent cut is a 7% exposure to Genesis. The 5.2% is pro forma for the rent cut. So it's just…

As well as the asset itself.

You see if the change in view in Genesis so much the improvement of credit, but also the improvements at the property level, I think you mentioned that a little bit in your comment. So just want to understand a little bit of better. What's changing at the property level or operational level or Genesis, that makes you a lot more confident in the company there in your assets?

I want to emphasize the situation in our retained portfolio. We are transitioning away from Genesis as an operator, and as part of that, Genesis is selling a significant amount of non-core properties. They are shifting their focus back to core markets, where they have historically performed well. In our retained portfolio, which is primarily focused on PowerBack, we are beginning to see cash flow stabilization after a long period, and we believe this positions us to grow cash flow in the future. Additionally, our credit situation is strong, as evidenced by our coverage ratios and improvements in EBITDA and EBITDARM coverage, which are significantly above market levels. The corporate guarantee remains crucial, and we have seen Genesis improve its debt-to-EBITDA ratio, which is a positive shift for our credit quality. This makes us optimistic about the optionality across our entire portfolio.

And just real quickly on the demographics, I mean that you talked about in skilled nursing, it sounds like you would apply to seniors housing. Last quarter, you talked about maybe looking for opportunities to move some more triple net leases perhaps into RIDEA. Is that still something you’re thinking about working on?

This is Mercedes. Hi, we look at that obviously just selectively with our operators, I mean there is a lot of things that we might take into consideration. As you know, we like to invest in RIDEA when we think that there is a lot more opportunity for upside than downside risk. And so yes, from time to time there might be portfolios that we're seasoning and the triple net structure that might actually become candidates for a conversion to a partnership and we don’t have anything to talk about right now but that is something that we obviously look at all the time.

My first question is around your same-store NOI outlook for the Shop portfolio. You guys do have an outlook that is positive, your peers have outlook that are generally negative. I am just curious, if we just talk a little bit about why your outlook is much more bullish than theirs?

Tayo, that's a great question. I encourage you to examine our performance compared to our peers over the past seven years in the RIDEA business. This comparison reflects the quality of our portfolio, operators, and micro markets. We've made significant investments in technology, people, data analytics, and asset management, which have contributed to our consistent outperformance. While it may not yet reflect a better cost of capital, we are confident that our higher quality portfolio will eventually be recognized.

And I do have to add that it also has a lot to do with the operators that we have partnered with, so it's a combination of great locations, high barrier to entry markets, asset quality, but it's also of course having to do with the operators that are in the trenches and that are also willing to collaborate with us and the initiatives that we are trying to source for their benefit and for the benefit of the residents who live with them.

A lot of it comes from not being a passive owner of senior housing real estate. We see ourselves truly as an operating partner, and that drives better results.

And then just to confirm with Genesis it's as a result of the recapitalization plan that these zones are now casting rather than the status that we're at back in November, correct?

Correct.

Could you take us back to around November and December? Can you explain what was happening then? Did you have a realization that you should hold onto the Genesis assets, leading to where we are today? Or did you find yourself in a situation where you weren't receiving the desired pricing, and you felt that reducing rent in asset sales wouldn't safeguard your debt investments? Did the market turn against you, making you relieved that you didn't sell at that time, considering everything discussed on this call? I'm interested in the sequence of events that led you here—was it a matter of luck or skill?

Probably a combination of both; if you look at what happened is, we always said that you know are you think about what we're doing, right, effectively Genesis management as I said pulled off an extraordinary restructuring with all its credit parties that you never know that will actually be able to get to the finish point, right, finish line. Second, we absolutely did not think they'll be able to get fresh capital of the size that they did from the entity that they did. So that's one point you know, you are always interested, Rich, as an observer as a long term observer of the industry, how the tea leaves are changing. I would like you to see what happens in that time frame with Kindred and Humana, Welsh, Carson. You can see today what happened with you know obviously fresh injection of capital, I can talk about a lot of other things because they're non-public in nature but things that are happening in the industry, so going back to way specifically to your question do we have the ability to do a transaction, absolutely. Did you get the price that we wanted, absolutely? Is that counterparty still around for us to do a deal? The answer is absolutely. So the question is today as we are thinking about it at 134 coverage with a company that has leverage has been cut in half right, from the 7 to 3 is this group of assets we have culled a part of the portfolio you heard from John right, the 10% of the portfolio. At that price is this a buy sell or hold. That's what we think about for every asset class. I share the enthusiasm of the market participants have about 4.5 cap asset classes that grow 2% but think about at the end of the day we are here as a capital allocator to make money, despite all the noise around Genesis our unlevered IRR is double digits. The math that I just mentioned which you know in low 4% mid 4% cap rate going in with a 2% growth with a 12% or 15% you know CapEx you will never even get to 7. We're here to make money for our shareholders and every time we are making a decision on a group of assets to see is it a buy, hold or sell. That's what we did.

Okay, follow-up question is you know essentially what are shareholders paying for, you know this Genesis lifeline and I'm not saying that tongue in cheek, clearly the fortunes of your tenants accrued to the REIT. So it is what it is. You did what you had to do but going forward you know, you kind of get into this risky thing where we don't want Genesis, we do want Genesis, we don't want Genesis sort of if you ultimately were to sell more, you know it kind of changes the narrative. So is there some risk that you kind of put yourself into a corner and almost have to commit going forward? Or you don't feel that way?

That is precisely what we did what we did. Tom said every call that we're not getting out of the post-acute business right, triple net lease is a credit commitment right. We're happy to make that commitment if we get the right price investing in real estate is all about basis. So if we get the right price, we'll sell, if we don't get the right price we think this is something that our shareholders can enjoy the cash flow growth we'll do it. But we absolutely believe it is de-risked not only from the position of coverage but all the escalators are downright from 2.9% to 2%, that should be appropriate for the business in the footprint that they are. So you know we have never flip-flopped should we sell Genesis, not sell Genesis. We're looking at all of our assets and thinking is it a buy, sell or hold at the price that the market is willing to bear.

We actively manage our business and like any business things change and we have to be able to be flexible to do what's in the best interest of the business which is ultimately in the best interest of the shareholder. The public markets were screaming at us to have taken a different approach with Genesis. I think we took the right approach. You may want to debate that with us and we're happy to debate that, but I think we took that we did the responsible thing for Genesis and for our shareholders. And I think that will prove out versus other roads we could have gone down.

Tom, I wanted to dive a little bit on your comments on the prosecute phase. What is your outlook on the reimbursement changes? Where do you believe we're in this transition and are the major shifts from the prosecutor space, now behind us?

I think it's very difficult to predict what will happen in Washington, the only thing I can say is that you've seen the current administration look for ways to take some pressure off, suppose to space with respect to litigation. So, I think that we take some comfort in the fact that there is a recognition that we have to drive individuals into lower cost settings. If the government continued to try and put the skilled nursing business because of their reimbursement programs, then we would have a much bigger problem in this country because people would be stuck in very expensive hospital beds. I think there is a changing view in Washington and we hope that rational thinking will prevail here. We need to drive people into lower cost settings. The healthcare industry, the hospitals are still trying to deliver value-based healthcare and fee-for-service build real estate that doesn’t work. Our economy will hamstring if we continue to think we have to keep hospital beds sold; we need to drive people to lower cost settings and so that is why we have never abandoned this skilled nursing sector and it will be bumpy but we think now with the restructuring of Genesis, we have the right coverage and credit profile to withstand potential choppiness.

Mike, the key point is that there has been significant restructuring, and while there have been many changes to reimbursements, most of them besides RUGS-IV have been minor. The $500 cut is notable, but its impact has been magnified across the industry due to the considerable leverage within the system. Looking back a decade, there was a lot of excitement around leveraging entities, and this cycle has seen that unwind. There would have been fluctuations even with equity financing for these deals, but operators would be much stronger now. The post-acute industry, like other sectors, is at a crucial point in its lifecycle where it needs to be reshaped and recapitalized in a new manner.

And I just want to clarify, your guys stance on the post-acute care space. When you say you're committed to it, does that mean you just fund to kind maintain your exposure to Genesis and maybe for good deal pops around, you could grow with them? Are you underwriting new deals or are you looking for new investments outside of Genesis? Or do you just happy with your Genesis exposure right now?

We look to capital, like, deploy capital, to good quality real estate in the right markets with good operators, in sustainable structures. So if all those pieces line up, and it's an interesting new post-acute operator for us, we will consider that, we would consider that if we think it's in the long-term best interest of our business and the long-term best interest of our shareholders. But no, we will not redline the space, because of some confusion about what's happening in the industry that was largely due to bad capital structures. Certain people made a lot of money, when these post-acute care companies found their ways into the hands of REITs, and REITs until RUGS-IV had well-covered real estate, the world changed. And what you've seen us do is fix what was the problem that we've been dealing with for years. We think we've largely addressed that.

Turning to Page 11 on your SHO statistics, it looks like CapEx increased this quarter to 24% of NOI versus 22% in the third quarter. And I'm wondering A, why that occurred? And B, what is in the other CapEx, is that renovations or is that redevelopment CapEx?

The answer varies from quarter to quarter. Historically, we tend to understand our budget better in the first couple of quarters, and we often overspend compared to the pro forma in the second quarter, which aligns roughly with our expectations. We do see some reinvestment in our portfolios. As we've mentioned in previous calls, part of having a strong balance sheet allows us to drive growth from existing buildings through capital expenditures. As Shankh pointed out, our approach to capital involves looking at existing buildings while adopting a wholesale mentality for investing additional capital. Capital is not free, as you know, so we consider capital requests in that context. The additional capital is categorized as other capital expenditures in those buildings, representing our significant reinvestment efforts.

Yes, and plus all the Vintage CapEx spent in the fourth quarter.

CapEx is above all, so we expect more normalized run rate sort of back towards normal, next year we don't have a substantially different view of CapEx need, this coming year than last year. Because there are a number of projects we wanted to drive growth, but I'd say it again, we do that on a sort of ROI-based model.

So, redevelopment CapEx is a separate bucket, this is more kind of renovation type work?

No, both.

You guys referenced Brookdale, the major announcement this morning. Can you just update us on your relationship with them going forward? Do you plan to reduce your exposure and sell assets or maintain it and also the rent coverage because I think last quarter you were mentioning that's 1.15 times just wondering given the outlook?

Our portfolio remains strong, and as I mentioned earlier, we are content with our current position. We are consistently in discussions and have substantial business interactions, so we feel a strong connection that I anticipate will persist. There's nothing significant to report at this time. We always have various options regarding our portfolio, which is a key advantage for Welltower due to our diverse locations and range of platforms, including operator-based ones. This gives us a competitive edge, and currently, there are no major updates to share.

And when does your lease expire with them?

We have three leases expiring later this year. We are not in a notice period yet, but we have discussed extending them. We also have opportunities to work with other operators for these properties, which are important assets for us. We don't anticipate any issues if we need to transfer them to someone else.

First question Vintage, what was the contribution to same-store NOI in the fourth quarter? What's the impact for 2018 guidance?

The answer to your first question is a decrease of 10 basis points in the fourth quarter. I don't have the 2018 guidance with me right now, but I will provide that information to you later with a follow-up call. The Vintage was a negative factor for the fourth quarter because, as I mentioned and John noted, we invested a significant amount of capital in renovation projects during that time.

There's a lot of reams active commission in the capital store as well.

Juan, let me add something regarding Vintage. When we assess this, one of the key values of that portfolio has always been our long-term perspective on the strains and opportunities in those specific markets, which can sometimes be irreplaceable. Despite working through all the capital expenditures and some properties being temporarily out of commission, I can share that the growth rate in the Vintage portfolio actually surpasses the average growth rate of Welltower, which, as you may know, also exceeds the overall market average. The cities themselves are almost like tenants holding out, and we believe this is a crucial factor driving our investment decisions.

So, it’s a drag in '18 but it was a drag in the fourth quarter. Why was it a drag in the fourth quarter given the low occupancy starting point? It’s a lot of CapEx as I said being spent on Vintage right now, their renovations are going on. I would not necessarily think it will be a benefit to '18, it will be a drag in few quarters and benefiting few quarters right. I would be hopeful that Vintage as its run rate starts to help the portfolio growth starting '19. But as you can see from the CapEx page most of the CapEx started to get spend in the fourth quarter. So that's been a drag in Q1 and Q2 and you will probably see the impact of that towards the fourth quarter of the year.

On the dividend what are you guys thinking about going forward, it looks like on your FAD guidance it’s in the low to mid 90% payout ratio. So how should we think about that any risk of dividend cut at any point if you decide to sell more Genesis assets for whatever reason or are they high yielding assets?

No, I think, when you look at our FFO pad ratio you know we feel comfortable with that, I think we’ve done a great job in the last, we think about it this way, I guess Juan, which is given in our output not an input and I think there is component to that. The first component is the quantum of your income stream to pay them and second is the quality of your income stream and obviously our FFO guidance for this year is down, by roughly 20 pennies to the midpoint but the quality of that income stream is gone up very dramatically elements that refining our portfolio through 2017, elements of taking the rent restructure and Genesis excreta. So we feel very comfortable with the quality of that FFO given the stream which gives us comfort around paying the dividend that we proposed on both approved going forward. So we feel very comfortable with that, the other thing is we got a great deal of balance sheet flexibility, as you know we got a pretty much the lowest leverage balance sheet in the sector, so we have the financial flexibility on the balance sheet side as well.

I just amplify that in a very long-term based on the quality of the business model here because of the changes that we made, the asset quality, the improvement in the balance sheet and the strong cash flow from the decisions we made to improve the overall quality of that business, the dividend has never been more secure.

Okay, just a quick question on Genesis, is there any discussion with Genesis with that formation with regards to dam tipping any equity or was part of this restructuring?

We talk to formation all the time, so I'm not going to get into any specific conversation about what we might and might not going to have discussed with formation, but you should assume that as majority on our sub Genesis we're in constant communication regarding that information.

I don’t think I've heard this yet, but could you break down to your Shop guidance assumptions in terms of occupancy RUG-IV for and operating expense growth? And then may be how that occupancy comp should strengthen throughout the year given the strong flu season to start?

So I’ll reiterate that for you. We’re expecting a low 3% rate growth, similar to the 4% rate growth we achieved in 2017, with a decline in occupancy of 50 to 100 basis points and an expense growth of 3% to 4%. As I mentioned earlier, we had this assumption at the start of last year, but we actually ended up with better than expected results using various combinations. I wouldn’t suggest that these are all independent variables. We believe they will be within a certain range based on different combinations; the rates could vary, potentially better or worse, with occupancy down by 50 to 100. It could be worse or better than that, but we expect expenses to improve. There are three main factors driving that number; that’s how I would advise thinking about it rather than focusing on just one variable. Regarding your other question about occupancy trends, given the flu, we anticipate low occupancy at the beginning of the year, with hopes it will pick up by the end of the year. Typically, seasonality in this business follows this pattern, and we may see it more pronounced this year due to the flu.

Okay that’s helpful and then just one more on Shop. So with the national average U.S. renter I guess REVPOR like $4,000 a month in yours is north of $7. Is the new product under construction really even they're competitive to your properties? I mean I am assuming most of the new builds are going to price at about 125% of markets that would be roughly $5,000 a month, just curious as to your use on how serious the new supply threat is to your U.S. Shop assets?

The new supply is certainly affecting our performance, but it has less impact on us compared to the market average and our competitors. One reason for this is the quality of our operators, as well as the superior assets we possess in top submarkets. These markets are not only challenging to develop but also feature high-quality properties that have strong reputations and standards of care. We believe we are competitive and that we are positioned stronger than our competitors in the market. Think about what Mercedes said earlier about Sunrise, and J.D. Power, there're six categories, they rank number one in five of the six, and the one they didn't rank number one in was price, which means they're probably a little bit more expensive than others, so they didn't get the number one ranking there, but that is very significant; you've never seen J.D. Power, the most respective research house for consumer research, ever rank senior housing operators, and it's pretty extraordinary that Sunrise was by far the number one name in the business. And I would tell you, if you haven't seen that ranking, we'll send it to you because I think it'll be interesting to see where some of the other names have ranked.