Brookdale Senior Living Inc.
Q3 2007 Earnings Call Transcript

Published: 9 Nov 2007

[Operator:]

Good day, and welcome to today's Brookdale Senior LivingThird Quarter Earnings Call. Today's call is being recorded. For opening remarks and introduction, I would like to turnthe call over to Mr. Ross Rodman. Please go ahead.

[Ross Roadman:]

Thank you, Tina. Good morning, everyone. I'd like to welcomeall of you to the third quarter 2007 earnings call for Brookdale Senior Living.Joining us today are Bill Doniger, our Vice Chairman; Mark Schulte, our Co-CEO;and Mark Ohlendorf, our Co-President and Chief Financial Officer. Before I turn the call over to Bill, as Tina mentioned thiscall is being recorded and the reply number is 888-203-1112 from within the U.S.,or 719-457-0820 from outside the U.S.,and reference the access code 4129480, as recorded in the press release. This call will also be available via webcast on our website,www.brookdaleliving.com. I'd also like to point out that the statements today,which are not historical, facts may be deemed forward-looking statements.Actual results may differ materially from the estimates or expectationsexpressed in those statements. Certain other factors that cause actual results to differmaterially from Brookdale Senior Living's expectations are detailed in our SECreport. I direct you to Brookdale Senior Living's earnings release for the fullforward-looking statements. And now, I'd like to turn the call over to Bill Doniger.Bill.

[Bill Doniger:]

Thanks, Ross. Today, we reported CFFO of $0.43 a share, a59% increase from the third quarter 2006, reported CFFO of $0.27 a share. Froman operating perspective, we continue to exhibit really attractive growthmetrics. Same-store NOI for the past 12 months increased 8.8% overthe same period a year earlier and same-store NOI increased 8.2% for the thirdquarter 2007 over 2006. This organic growth rate, which translates into about20%, 22% cash flow growth, underscores really the strength of our businessmodel. Now, that being said, this year will be below ourexpectations on two fronts. As we talked about last quarter, entrance fees,while they continue to show improvement, are still going to be below ourfull-year estimates near of about $13 million bucks, which is about $0.13 ashare. And, secondly occupancy as you see in the press release, ouroccupancy has remained flat. We had expected at the beginning of the year foroccupancy to end up at around 93%, at 91%, that 2%, I guess 1% is about $0.14 ashare. So 2% occupancy adjustment is about $0.20, $0.24, $0.25 a share. Again, not going backwards, hanging in there pretty well,but not going forward as fast as we thought it would be at the end of the year.Why is that? Really, two reasons

[Mark Schulte:]

Thanks, Bill. There are a few things I want to talk aboutthis morning. As Bill talked about, Brookdale's occupancy did not improve as wetargeted. Let me talk about some initiatives that we've been working on thatwe're confident will overcome some of the environmental challenges that we'reexperiencing. These initiatives are focused on not only attracting newcustomers, but also addressing the demand that already exists within ourresident population. One of the biggest initiatives of our recent integration hasbeen to coordinate our local marketing and leverage our multiple productofferings in the same market. Internally, we call this initiative major marketmanagement, or for short we call it M3. Specifically, we now have one group incharge of marketing for all of our locations and product offerings in aparticular market where we already have a lot of units. This lets us provideprospective and existing residents with the full range-of-care options, and,particularly those needing a higher level of care, and we do this at differentBrookdale facilities in the same local region where they already live, ineffect creating a local or a regional CCRC. By offering more options to residents who typically move toother local operators, as their acuity needs change, we are able to recapture aportion of those move outs and tap into an existing source to increaseoccupancy even in a weak economy. Let me give you an example

[Mark Ohlendorf:]

Brookdale's reported CFFO for the third quarter was $0.43per share. This does not reflect our recurring run rate cash flow, because itincludes expenses related to our acquisition in ancillary service initiatives.The net impact on our third quarter results of these items is approximately $0.06per share. Included in the integration and startup expenses are integration andacquisition related expenses of $4 million or $0.04 per share, which areprimarily related to systems and process integration, as well as spending onactivities to achieve Sarbox compliance at acquired locations. And second, approximately $1.6 million or $0.02 per share oflosses and startup expenses related to our various growth initiatives. Theseinclude employees training costs for communities that we've acquired within thelast year and startup losses related to the rollout of our ancillary serviceprograms. Not included in these CFFO calculations are approximately $4.1million or $0.04 per share of amortization related to capital leases andmortgage debt. A table is included in our press release that provides thedetail of this debt and lease amortization. The net effect of all these changesis $1.6 million or approximately $0.02 per share. Our integration activities continue to proceed on plan. InOctober, we completed the migration of the entire enterprise to commonfinancial, human resources, and purchasing systems. Virtually all of oursupport departments are now organized on a Brookdale-wide basis. In addition,we've begun to combine our field operating management structure on a geographicbasis within seven large operating divisions. This realignment of the fieldmanagement structure will organize our operations on a geographic market basis,rather than on a product basis. A few points of clarification as you look at our operatingresults for the third quarter. In spite of the soft market that Bill spokeabout, rates in the quarter, excluding community fee deferrals, averaged$3,639, a 1.8% increase over the second quarter, or an annualized rate ofgrowth of more than 7.3%. Similarly strong revenue metrics can be seen in oursame-store results. For the 12 months ended September 2007, compared to the 12months ended September 2006, revenue grew 7.2%, while occupancy improved amodest 10 basis points between these 12-month periods. While we targetedoccupancy growth of approximately 2% this year, occupancy has been flat andaveraged 90.8% in the third quarter. Second, we did experience some increases in our operatingcosts in the third quarter. Following a relatively temperate second quarter,utility costs increased in the third quarter by around $4.4 million over thesecond quarter to $20.9 million. This seasonal increase is driven by highersummer cooling costs and, to a lesser extent, higher energy prices. In addition,we implement annual wage adjustments for a substantial portion of our communitylevel personnel on July 1st. The impact of that wage adjustment totaledapproximately $2.9 million in the quarter. These increases are not new to 2007, but have happened at thesame time historically as well. However, with no increase in occupancy, higherutility costs and the modestly higher labor costs, the combined effect has beento lower facility operating income on a sequential quarter basis. Third, our net entrance fees for the quarter were $9.3million. This consists of $14.4 million of gross entry fee sales, and $5.1million of entry fee refunds. You'll see that we've added some tables in the10-Q this quarter that add some further historical detail on our entry fee results. And finally, on the liquidity front, we believe that we'rewell capitalized to execute our business plan over the next two years. As oftoday, we have approximately $187 million of undrawn capacity on our corporateline, together with $39 million worth of cash, gives us total liquidity of $226million. That capital, plus expected financings, should satisfy most of ourcapital needs over the next two years. We current estimate that assuming wecomplete all budgeted expansions and refinancings, we may need to raise in therange of $50 million towards the second half of 2009. I'll now turn it over to the operator for questions.

[Operator:]

(Operator Instructions). Our first question is from MarkBiffert of Goldman Sachs. Please proceed with your question.

[Mark Biffert:]

Hi, guys. Thanks for the color, Mark, on the utility costs.Another question I have is, of that utilities expense

[Mark Ohlendorf:]

Yes. On a historical basis, our higher utility cost quartersare the third quarter, because of cooling costs and the first quarter becauseof heating costs. And then the cost moderates somewhat in the other twoquarters.

[Mark Biffert -Goldman Sachs:]

Okay. Andwhen you look at the entrance fees going forward, last quarter you guys hadmentioned that you had deposits of about $4 million. I guess my first question is

[Mark Ohlendorf:]

The rollover activity is not some data we've got on right infront of us here right now. The $5 million in October, I think, the volume ofthis activity is relatively consistent with where we were at through the thirdquarter, perhaps up just a touch. Again, the cycle of closing houses in marketstends to be expanding right now. So, looking at those deposit levels, even overan immediate 90-day period may be a little bit too short.

[Mark Biffert -Goldman Sachs:]

Okay. Andback to the rent growth. You guys have talked about 5% to 6% in terms of rentgrowth. Do you think that given the occupancy's been relatively flat, thatyou're going to be able to continue to push rents as we look into '08?

[Mark Ohlendorf:]

Yes.

[Mark Biffert -Goldman Sachs:]

Okay. The next question is related to the ancillary revenuesbusiness. I noted that the ACR portfolio, the average income per unit droppedfrom 195 to 183. Can you provide any color on that?

[Mark Ohlendorf:]

There was a slight decline in the quarter in the Part A expensesin the SNFs on the CCRCs. So, it's primarily a volume driven change quarter-to-quarter.

[Mark Biffert:]

So, is that [180] a better number to use to measure incomefrom there?

[Mark Ohlendorf:]

Well, again, we're forecasting as we roll this business out,in the range of $150 a unit.

[Mark Biffert -Goldman Sachs:]

Okay.

[Mark Ohlendorf:]

You know, this clearly will move a little bit fromquarter-to-quarter.

[Mark Biffert -Goldman Sachs:]

Okay. Andso, in regards to the additional items that or units that you expect to bringonline for building up ancillary revenues through your Brookdale legacyportfolio

[Mark Ohlendorf:]

In terms of

[Mark Biffert -Goldman Sachs:]

Yes.

[Mark Ohlendorf:]

The rollout plan in the fourth quarter is relatively modest,a few hundred additional units. As you know, we're well ahead of the initialplan we had for this year. So, the focus right now is on stabilizing theoperations that we've reached.

[Mark Biffert -Goldman Sachs:]

Okay. Andlastly, Bill, if you could, last quarter you kind of went through your math tocome up with a recurring run rate for your cash net income or cash fromfacility operations. Can you kind of go through that now, given that you'veseen the increase in operating expenses and to where you think that run rateis?

[Bill Doniger:]

Yes. The way I would try to answer that is, we would notexpect a whole lot of growth in the fourth quarter, because our run rate orwhere we thought we were getting to, as I mentioned, on an occupancy basis, wasroughly 93%. We're staying closer to 91%. The way our business is run, we've grownour occupancy over the end of the year. And so I don't think it's really anexpense issue. It's really just an assumption about occupancy and entrancefees, which I told you we kind of view as staying relatively flat. What you see, though, will be, for instance, our assistedliving business at markets jump in on this; changed where we raised all of theresident rates at the first of the year. So, the big rate increase that willmove the numbers materially will be at January, unlike the independent livingbusiness, where rates kind of grow annually based upon when people move in. And that bit of change will basically push the growth intothe first quarter versus the fourth quarter. Again, the difference from what wetalked about in the summer was really an occupancy based assumption, whichgiven the markets we just are not too optimistic about this part of the year.

[Mark Biffert:]

So, as we look at your run rate, it's going to come in alittle bit shy of a $2 dividend that you guys are paying. How does it affectyour decision, the Board's decision, on future dividend growth?

[Bill Doniger:]

Sure. That's a good question. And we obviously have a couplehundred million dollars in liquidity. If you look at our payout ratio, sincewe've gone public, it has come down almost every quarter. And so we're probablyat the lowest payout ratio that we've ever been. We've always been forward looking. The reason for that hasbeen we've been buying a lot of things; as we bought less, because we don'treally need to buy anything at this point to create what we think is prettyattractive growth. We obviously are going to be more conservative, if you will,in terms of dividend increases relative to what we think the kind of currentgrowth is and prospective growth. So, the payout ratio has gotten a lot tighterand I would expect it to continue that way. As to more specific than that,obviously, that's a Board decision.

[Mark Biffert -Goldman Sachs:]

Okay. Thanksagain.

[Operator:]

Our next question is from Kevin Fischbeck of LehmanBrothers. Please proceed with your question.

[Kevin Fischbeck:]

Okay. Thank you. Good morning. I wanted to clarify a coupleof the metrics that you provided. The same-store revenue growth in the actualquarter of 6.3 and operating income of 8.2, those numbers include the ancillaryservices; is that correct?

[Mark Ohlendorf:]

That's correct.

[Kevin Fischbeck:]

Okay. And does it include the startup losses from ancillaryservices on the NOI?

[Mark Ohlendorf:]

Yes, it would.

[Kevin Fischbeck:]

Okay. All right. And you talked a little bit about the financingtransactions that you completed in the quarter and then I guess subsequent tothe quarter. The numbers that you gave about the 187 of undrawn capacity, ifthere's $9 million in cash, is that after the most recent transaction closed inthe quarter?

[Mark Ohlendorf:]

It is. That's actually at the close of business yesterday.

[Kevin Fischbeck:]

Okay. And so the point is, I just want to clarify, I thinkyou said that you feel comfortable about your finance position for the next twoyears, potentially second half of '09, was…?

[Bill Doniger:]

Yes. Kevin, it's Bill. I mean, basically, if you think aboutour business, we finance our assets at, I don't know 60% leverage and we growunleveraged at 8%. So, we deleverage on an asset basis relatively quickly. givenour stock prices, we don't really feel like issuing equity. So, what we do is we refinance assets and use that to payoff our line, which is being used basically to fund expansions. And so, if wejust run out kind of a stabilized number on our portfolio and assume assetsthat are not prohibited from being refinanced, get refinanced, it's not a lot.We just use that to basically pay down our line. And at the end of, we said kind of the second half of '09,is when we theoretically have about 50 million; it could be zero, frankly, butjust using mathematical numbers and assumptions that's where we get to. And theline we view is kind of a bridge to our equity. But that's really the plan.

[Kevin Fischbeck:]

Okay. And then, I guess, one other clarification

[Bill Doniger:]

That's correct.

[Kevin Fischbeck:]

Okay. The other thing that I want to go over clarity on itseems like, obviously, you're not doing the same size deals you have lastcouple years, but you have announced a couple deals in the last quarter or so.What are you seeing there about the acquisition environment? How are prices? Andwhat are you looking for over the next 12 months?

[Bill Doniger:]

Again, I think the story in terms of prices is that my guessis prices are going in the direction of a buyer versus a seller, but we're notthat focused actually on acquisitions. Again, if we can grow, we -- I don'tknow. Where we're trading today on a free cash flow basis, it's roughly in a5-plus percent current free cash flow yield. If we can grow organically, whichwe believe we can, at 20-ish percent, we talk about the total return, 25% area. We're a pretty big company. And so, these small acquisitionsare a lot of work. They just don't move the meter nearly as much as justfilling up the beds that we want to fill up and doing our expansions. So, we'renot even looking at acquisitions, primarily for that reason. We just don't needto do them to create pretty good growth. That's really the answer to thequestion.

[Kevin Fischbeck -Lehman Brothers:]

Okay, great. Thanks.

[Operator:]

Our next question comes from Matt Ripperger of Citigroup.Please proceed with your question.

[Matt Ripperger -Citigroup:]

Hi. Thanks very much. A couple of questions

[Mark Ohlendorf:]

Generally, what's going to be in that line, Matt, are twogroups of projects. One group of projects is the capital projects that we'redoing to improve acquired locations. So, I think as we've discussed before,when we underwrite an acquisition, we often underwrite as part of our effectivecost of the deal, doing some capital spending to reposition the property. Sothat's one piece of this. And given the volume of acquisitions that occurred in '06, afair amount of this activity is occurring. The second group of this relates to doing major projectswithin the existing portfolio to reposition those assets. Now, that doesn'thappen quite as frequently as it does with the acquired locations, but it doeshappen in the existing portfolio as well. Obviously, we generally wouldn'tinvest this capital unless we see a yield, which is why we refer to it in thatway.

[Matt Ripperger -Citigroup:]

Given that your acquisition pace is decelerating relative to'06, is it fair to assume that your EBITDA enhancing CapEx will materiallydecline in '08?

[Mark Ohlendorf:]

It clearly will decline as we go through '08.

[Matt Ripperger -Citigroup:]

And the EBITDA enhancing CapEx is consistent with what yourexpectations were when you bought these assets in '06?

[Mark Ohlendorf:]

Yes, it is. That the one thing that's probably a littledifferent is, just given the magnitude of acquisition work that was done in'06, it's taking us a little longer to complete the projects than we wouldlike.

[Matt Ripperger -Citigroup:]

Is there any one or two portfolios of properties where themajority of this EBITDA enhancing CapEx is being allocated?

[Mark Ohlendorf:]

I would say not. It's probably spread across a number of theacquisitions. Obviously, the acquisitions that include assets that are older,were built 12 or 15 years ago, as opposed to five years ago, are going to getmore of this capital.

[Matt Ripperger -Citigroup:]

And there's the ACR portfolio, given the newness of thoseproperties is probably not getting much of it.

[Mark Ohlendorf:]

Correct.

[Matt Ripperger -Citigroup:]

Okay. The second question is

[Mark Ohlendorf:]

We can. Yes. On the ARC side, just to give you a sense ofthe distribution in the NOI, of the 183 of monthly NOI, about 33 of that comesout of home health in terms of that delivery system, the balance out oftherapy. Were you asking about the ramp up in the Brookdale units and howthat's…

[Matt Ripperger -Citigroup:]

Yes. Are the Legacy Brookdale units generating positive NOIon the ancillary business yet?

[Mark Ohlendorf:]

Well, when we look at the clinics that have been in place,let's say a year, so they've been in place a meaningful period of time, I thinkthe business is tracking where we would have expected. I think where we're atright now, that first year average is in the mid-50s, from an NOI standpoint,and the run rate today is in the low 70s, from an NOI standpoint. The delay in getting licensure in some of the home healthagencies is slowing us down a little bit, because particularly, as we get tothe more geographically dispersed Brookdale locations, and in many cases thatwill be the free-standing assisted living. I think, the experience is, homehealth will be a more viable delivery model there. But I think the performancearea is pretty much in line with the expectations we had.

[Matt Ripperger -Citigroup:]

And what's the NOI margin at the ACR facilities perancillary?

[Mark Ohlendorf:]

I believe, low 30s, right now. Well, overall, it's mid-30s,I believe, excuse me.

[Matt Ripperger -Citigroup:]

Okay.

[Mark Ohlendorf:]

Yes. Call it 32%, 33%.

[Matt Ripperger -Citigroup:]

And in the past you've given a little color about specificregions where you were seeing pockets of weakness, Florida,Arizona, etcetera. Is there anyelaboration you could provide on what you're seeing locally?

[Mark Ohlendorf:]

You're talking about senior housing occupancy?

[Matt Ripperger -Citigroup:]

Yes, senior housing occupancy in demand trends.

[Mark Ohlendorf:]

I'm not sure, Mark, that we would spot any significanttrends from what we -- differences in the trends from what we have said before.

[Mark Schulte:]

Yes. I think that generally, the markets we talked aboutbefore, obviously the Phoenix areawhere we have large CCRC presence and some parts of Florida,but it's very difficulty to tar a whole geographic area. I mean, we haveproperties that are doing extraordinarily well in Florida,and some that are more affected by weak housing markets. So geographically, we're -- I can't really generalize andsay one region of the country is worse than another.

[Matt Ripperger -Citigroup:]

Okay. And what was the $43 million expense related to changein fair value of derivative. What was that related to?

[Mark Ohlendorf:]

Well, again, we do not match our hedges. We do not try toqualify for matched hedge accounting. So that is simply the change in the valueof the hedges in the quarter. It's a non-cash item, but as interest ratesdeclined in the quarter, that's the accounting impact, the non-cash impact ofthose hedges, to mark-to-market, essentially.

[Matt Ripperger -Citigroup:]

Okay. And then the last question I had is

[Mark Ohlendorf:]

That does not.

[Matt Ripperger -Citigroup:]

And how is the presale of that community going?

[Mark Ohlendorf:]

It's going well. I think we're roughly 60% pre-sold in thatproject right now.

[Matt Ripperger -Citigroup:]

And you still have not begun construction?

[Mark Ohlendorf:]

We have not.

[Matt Ripperger -Citigroup:]

Okay. Thank you.

[Operator:]

Our next question comes from Ryan Daniels of William Blair.Please proceed with your question.

[Ryan Daniels -William Blair:]

Yes. Good morning, guys. I had a couple of quick,housekeeping-oriented, questions up front. First off

[Mark Ohlendorf:]

Well, you're adding together both the capital and theoperating piece of this I take it, to get to your number?

[Ryan Daniels:]

Yes.

[Mark Ohlendorf:]

I think in the fourth quarter, the operating piece is likelyto go up, because we're much more in the implementation mode, and the capitalpiece will come down somewhat. We are likely to be under the $25 million numberin 2007 standalone.

[Ryan Daniels:]

Okay. And then if we look forward to 2008, I know you guysprobably don't want to give a lot of numbers on that right now, but what mightthat look like as we go into '08? Should that continue to trail off throughoutthe year or will that just stabilize it at some point and run through theentire year at a given level?

[Mark Ohlendorf:]

Well, it clearly should trail off as we go through 2008.

[Ryan Daniels:]

Okay. And then, I appreciate all the color on the drop in thefacility operating income margins due to the labor and the utility costs,that's very helpful, can you comment on how much of that was offset during thequarter by some of the cost savings you've talked about? I think you had identified about $4 million in cost savings inlast quarter that you hope to achieve in the back end of the year. Have we seenthe impact of that or is a lot of that still going to be seen in the comingquarter or two?

[Mark Ohlendorf:]

I think, obviously, the $4 million number that we hadprovided was an estimate at that point.

[Ryan Daniels:]

Yes.

[Mark Ohlendorf:]

I think we have seen the lion share of that come into thenumbers in the third quarter.

[Ryan Daniels:]

Okay. And given that that was an estimate, was it similar tothe $4 million, a little bit lower, higher? Any…

[Mark Ohlendorf:]

It was a little bit lower, would be the experience.

[Ryan Daniels:]

Okay. And then this is more of a philosophical question, Iguess you guys have hit on this a few times Bill did, in talking about thedividend payment. But

[Mark Schulte:]

I think the way, I think to answer your question is, wespend capital to -- we bought assets, a fair number of assets we acquired were,we'll call them 87% occupied, little deferred capital, charging below marketrates because they don't look as nice as stuff in town. So we madeacquisitions. We assumed we put more capital in and then, obviously improvesthe quality of the asset; it should be able to charge more and get more peopleto show up, which will grow NOI. And so, we do refinancings to once we get access tostabilized financing, we refinance the assets that will take excess proceedsout. As I mentioned, we're using capital now basically to fund expansions. Andthat's what basically we could do it two ways. We can issue equity, which wedon't really feel like doing.

[Ryan Daniels:]

All right.

[Mark Schulte:]

Or we could basically use these under-leveraged assets as away to finance those, and that is our plan.

[Ryan Daniels:]

Okay. That helps clarify it. And then two more quick ones,then I'll hop off. First off

[Mark Schulte:]

Yes. I think I made that point before, but a lot of theseancillary services aren't just simply reactive, like after someone fell andbroke their hip, and they're proactive to try to keep people from falling or ifthey're experiencing, in that example, balance problems, we can make it, sothere isn't a fall. So, yes, I mean that, we're not really able to quantify itat this point, but we would expect that length of stay, for a number ofresidents, it's going to be increased due to the availability of the therapyservices.

[Ryan Daniels:]

Okay, great. And then the last one is just on the licensingdelays

[Mark Ohlendorf:]

Excellent question! Yes, it is. We actually have madeacquisitions of home health in Floridaalready, which, as you know, it's kind of a monopolistic market for those kindof permits.

[Ryan Daniels:]

Right.

[Mark Ohlendorf:]

And we are, as you said, looking at that in other marketsnow as well.

[Ryan Daniels:]

Okay, great. Thanks again, guys.

[Operator:]

Our next question comes from Daniel Bernstein of StifelNicolaus. Please proceed with your question.

[Daniel Bernstein:]

Good morning, gentlemen. When I'm computing average occupiedunits, just taking the average rate for the quarter and the number of units inthe quarter, I get an average occupied units was down just a little bit from Q2did you take any units offline for the EBITDA enhancing CapEx or expansion?

[Mark Ohlendorf:]

We did not. If you're using the units in service that's offthe table in the press release and trying to tie that back in to the averagerates, there's actually 920 units included in the CCRC total, that are equityhomes. So we actually take those out of the total when we calculate the averagerate. I'd suspect that may be the difference in your math there.

[DanielBernstein:]

Okay. Andin the cash flow statement, there was a change in future service costs that wasan add-back, just trying to figure out what that was and if that was and wherethat would be in the income statement?

[Mark Ohlendorf:]

It's actually not in the income statement. It's a technicalchange in the valuation of those reserves. This is very inside baseball. It wastriggered by the refinancing of a CCRC.

[Daniel Bernstein:]

So it's not in the CFFO or anything like that?

[Mark Ohlendorf:]

It's not. Part of the future service obligation calculationfor a CCRC is effectively based on the book value of the asset and the impliedfinancing around an asset, and we had a refinancing of a CCRC in the quarter.

[Daniel Bernstein:]

All my other questions were answered. Thank you.

[Operator:]

Our next question comes from Jeff [Ungler] of Standard andPoor's. Please proceed with your question.

[Jeff Ungler:]

Good morning. Just one quick question

[Mark Ohlendorf:]

We would not. We see the ancillary service business as atremendous revenue opportunity, which I think it's proven itself out. I mean,the two really aren't connected, whether it's -- in fact the ancillary serviceand availability actually enhances occupancy and marketability of theseproperties.

[Jeff Ungler:]

Okay, great. Thanks very much.

[Operator:]

Our next question comes from Frank Morgan of Jefferies andCompany. Please proceed with your question.

[Frank Morgan:]

Good morning. First question relates to the regulatorydelays

[Mark Ohlendorf:]

I think the primary markets that we're working through now areArizona, Texas-- Arizona and TexasI believe are the larger scale markets.

[Frank Morgan:]

Where you're experiencing the regulatory delays?

[Mark Ohlendorf:]

Yes. These are cases where we have applied for the licensesand permits and the regulatory approval process has been drawn out.

[Frank Morgan:]

Okay.

[Mark Schulte:]

They're either delaying the processing of the application orthe inspections. Some of this should get a little more granular is more tied toa lot of these state budgets that have cut back their staffing that does theselicensing applications. So, the work is really piling up for the few peoplethat are there.

[Frank Morgan:]

Okay. On the subject of ancillaries, I think Mark orsomebody answered a question talking about the impact of part A on theancillary growth. Could you elaborate on that? I didn't quite catch that.

[Mark Ohlendorf:]

It wasn't really on the ancillary growth, Frank. If you lookinside the ARC legacy portfolio, the NOI per unit from ancillary has changedfrom roughly 190 a unit last quarter to roughly 180 a unit this quarter. And itwas an answer to that question.

[Frank Morgan:]

But I thought most of this was part B business. I mean, is yourpart A business you're doing for nursing homes in local markets that getsrolled into that number?

[Mark Ohlendorf:]

No, no. Our owned SNFS on our CCRCs, that's our ownoperation, deliver ancillary services, and the delivery mechanism is our ownedtherapy company.

[Frank Morgan:]

Okay. So, you're delivering part, you're delivering to yourown contract to your own patient, you're delivering therapy services to peoplewho are part A patients?

[Mark Ohlendorf:]

That's right. And because that's such an intensive therapyregiment, when the part A census drops a bit, it does impact that per unitnumber.

[Frank Morgan:]

Okay. Alright, so

[Mark Ohlendorf:]

Well, the answer to the first question in terms of the netimpact of the expansions, there is a negligible impact on earnings in thequarter for those expansions that are open right now.

[Frank Morgan:]

Okay.

[Mark Ohlendorf:]

Second question related to the therapy services

[Frank Morgan:]

I guess the delay related to home healthcare, so homehealth.

[Mark Ohlendorf:]

Yes, there's kind of a holding cost of $10,000 to $20,000 amonth per location per agency, as those agencies sit in waiting for theirlicenses. Obviously, the bigger impact here is, we are not getting to the rampup of profitability after they open, which is substantially greater than$10,000 or $20,000 a month.

[Frank Morgan:]

And remind me

[Mark Ohlendorf:]

The delay in the ramp up is because we do not yet have ourpermits to operate.

[Frank Morgan:]

Okay. It's not one that's already open. Once it opens andthe delay from the time you get opened and licensed until you get to yournormal optimal performance, that's not being delayed?

[Mark Ohlendorf:]

Correct.

[Frank Morgan:]

Okay. And then finally

[Mark Ohlendorf:]

I guess I'm not sure how to elaborate on it, other than tosay that as we run the business every day, that's what happens with our rates.

[Mark Schulte:]

Generally, there's a large segment that are on annualagreements. If those agreements turn over, we give those people a 46% increase.The assisted living, which is on a month-to-month, we continued like all of theother operators to see good rate growth, and the ability to attract newcustomers or whatever, doesn't really necessarily affect what people arecharging in any given market.

[Frank Morgan:]

Okay. Last one and I'll hop off. Just kind of where werethings at the end of the quarter in terms of, like say in the month ofSeptember, with regard to occupancy and just basic operating trends? And howmuch of that would maybe carry over into the fourth? Thanks.

[Mark Ohlendorf:]

Sure. Well, actually, let me fast-forward a month, becausewe've been looking at October results. The trends are modestly positive, Iguess you would say. Occupancy is clearly holding to growing a little bit,particularly on the assisted living side. No meteoric changes, but things areclearly firm to slightly up.

[Bill Doniger:]

With that, we'll close. We appreciate your participation andwe'll be around for follow-up questions. Thank you very much.

[Operator:]

This concludes the conference call. Thank you everyone forjoining. You may now disconnect.