Five Star Senior Living Inc.
Q2 2010 Earnings Call Transcript

Published: 29 Jul 2010

[Operator:]

Good day and welcome to the Five Star Quality Care second quarter 2010 financial results conference call. This call is being recorded. At this time, for opening remarks and introductions, I would like to turn the call over to the Vice President of Investor Relations, Mr. Tim Bonang. Please go ahead.

[Tim Bonang:]

Thank you. And good afternoon, everyone. Joining me on today's call are Bruce Mackey, Five Star's President and CEO, and Paul Hoagland, Five Star's CFO. The agenda for today's call includes a presentation by management followed by a question-and-answer session. I would also note that the recording and retransmission of today's conference call is strictly prohibited without prior written consent of Five Star. Before we begin today's call, I would like to state that today's conference call contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995 and Federal Securities Laws. These forward-looking statements are based on Five Star's present beliefs and expectations as of today, July 28, 2010. The company undertakes no obligation to revise or publicly release the results of any revisions to the forward-looking statements made in today's conference call other than through filings with the Securities and Exchange Commission or SEC regarding the supporting period. Actual results may differ materially from those projected in any forward-looking statements. Additional information concerning factors that could cause those differences is contained in our filings with the SEC. Investors are cautioned not to place undue reliance on any forward-looking statements. And with that, I would like to turn the call over to Bruce Mackey.

[Bruce Mackey:]

Thanks, Tim. And thanks, everyone, for joining us this afternoon. Just after market close, we reported net income from continuing operations of $0.23 per basic share and $0.22 per diluted share for the three months ended June 30, 2010. This compares to $0.29 per basic share and $0.26 per diluted share that we reported for the same period a year ago. However, second quarter of 2010 was a much stronger quarter for Five Star. Income from continuing operations for the second quarter of 2010 included several items that in aggregate resulted in a positive impact of $0.02 per basic share and $0.01 per diluted share respectively. Income from continuing operations for the second quarter of 2009 included several items that in aggregate resulted in a positive impact of $0.20 per basic share and $0.17 per diluted share respectively. Paul will review those one-time items that occurred during both periods in his prepared remarks. So excluding non-recurring items, second quarter 2010 income from continuing operations was $0.21 per basic and diluted share, which was a substantial increase over the second quarter of 2009 income from continuing operations of $0.12 per basic share and $0.09 per diluted share. As I will outline in a moment, I think we stand together with our peers in looking for an upturn in occupancy. It is clear that Five Star stands along among our peers when it comes to profitability. Of the four largest publicly traded senior living operators in the United States, based on units, Five Star alone has achieved profitability in each and every one of the past six quarters. We think this best-in-class operating performance in a challenging market environment underscores Five Star’s value, differentiates us from our peers, and shows that Five Star is proudly positioned to benefit from occupancy increases in the future. I would now give you some highlights from what was a massive quarter. On June 16, we announced the outcome of discussions between the Senior Housing Properties Trust board of trustees and Five Star’s Board of Directors regarding long-term strategies. The boards discussed a range of topics, including but not limited to changing one or more of the existing leases between Senior Housing and Five Star to a management arrangement between a Senior Housing-owned taxable subsidiary or TRS and Five Star; the possibility of combining Five Star into a Senior Housing-owned TRS; taking other actions to change the contractual arrangements between Senior Housing and Five Star; and lastly, maintaining the status quo. It was a positive exercise, but at the end of the day, the gap between interests of both companies which should make the bridge. For example, Senior Housing placed little value on Five Star’s plus $100 million of net operating loss or NOL carry-forwards, because Senior Housing as a REIT does not pay taxes, and with the change of control, the value of these NOLs would be greatly reduced. In addition, Five Star’s Board places greater value on the non-core portion of the business, such as the pharmacy, and the Senior Housing. The ultimate outcome was that the Boards agreed to consider the TRS structure, the future acquisitions of senior living communities that the companies may acquire together. On June 25, we announced Five Star’s additions of broad market Russell 3000 Index following Russell’s reconstitution of a comprehensive set of the US and global equity entities. As many of you know, the Russell indices are widely used by investment managers and institutional investor for index funds and in benchmark, both passive and active investment strategies. On July 1, we announced that Five Star exercised its right to sell its auction rate securities to UBS at par. This transaction netted Five Star $35.2 million of cash after the repayment of our line of credit, which was secured by the auction rate securities. This transaction was completed on July 1, 2010. During the second quarter we repurchased $7.7 million of convertible senior notes at a 10% discount at par. We have $42 million of convertible senior notes currently left that can be put to us in October 2013. In addition, Five Star gave notice to prepay of $4.5 million housing mortgage at an interest rate of 7.65%. This prepayment will happen by July 31. I’m pleased to report continued signs of stabilization in our occupancy. Occupancy for the second quarter of 2010 was 86.2% compared with 86.2% a quarter ago and 86.5% a year ago. Same-store occupancy for the second quarter of 2010 was 86.1% compared with 86.5% a year ago. Occupancy as of this past Friday was at 86%. In addition, it is noteworthy that our independent and assisted living occupancy is up on a comparative basis for the first time in four years to 86.6% in the second quarter of 2010 from 86.4% in the second quarter a year ago. We continue to see increased traffic to our buildings. By utilizing the lease tracking system put in place in late 2008, we can see the increase continue to trend in a positive direction. For example, our increase in the second quarter of 2010 increased about 14% over the first quarter of 2010 and 1% over the second quarter of 2009. Our web traffic also continues to trend in the right direction. An interesting point of note is that 17% of our inquiries now come from the Internet. In the second quarter of 2010, we took on about 850 deposits, which is down about 150 deposits from the first quarter of 2010, but is almost double the amount of deposits we took on in the second quarter of 2009. I believe that 2010 quarter-over-quarter decrease was a result of less discounting, which I will address in a momentum. We continue to do a good job of pushing rates where possible. Our average daily rate increased 1.7% year-over-year overall, and more importantly, 1.9% on a same-store basis. With the improving signs in the economy and the apparent stabilization in our occupancy, we are trying to find the right balance in regards to discounted rates. As reported on the last few calls, we were selectively discounting some of our (inaudible) rent units, primarily our independent living units. We begin to pay back this discounting during the second quarter of 2010. The second quarter of 2010 was the first quarter in several where we did not have a companywide discounting program in place. Given that our occupancy remains flat, I’d use it as a positive sign. Overall, we still expect our private pay rates to increase in 2010 between 3% and 4%. With regards to Medicare and Medicaid rates, based on state reporting, we expect about 1.5% increase in our overall Medicaid rate, and assuming a successful conversion to MDS 3.0 and RUGS IV, we should see a Medicare rate increase north of 2% based on historical patient mix. Moving on to other metrics, wages and benefit as a percent of senior living revenues were 50.3% in the second quarter, down from 51.1% a year ago and up slightly from the 50.2% we reported in the last quarter. This is an area where we have historically performed well in and have shown that this quarter. G&A as a percent of revenues was 4.5%, as we still maintain the leanest operations in the industry. Our stated goal is keep this for the year about 4.5% of revenues. Our core senior living business continued to be profitable. More than 85% of our total company revenues come from this business. 70% of our senior living revenues are coming from private pay sources. In the second quarter of 2010, Five Star Senior Living produced $26.7 million of EBITDAM compared to $22.7 million of EBITDAM for the first quarter of 2010. More significantly, Five Star Senior Living produced 24% more EBITDAM in the second quarter of 2010 compared to the $21.5 million produced in the second quarter of 2009. The rehabilitation hospitals, which account for 8% of our total revenues, while still a disappointment in the second quarter, significantly improved in performance from the first quarter of 2010. Our rehabilitation lost about $355,000 of EBITDAM. This is a $645,000 improvement over the $1 million of EBITDAM that was lost during the first quarter of 2010. On a positive note, we actually have a hearing tomorrow on one of our potential additional inpatient satellite units. Assuming this hearing goes well, we expect to get state approval around the end of this year. We continue to work on a traumatic brain injury clinic at our Woburn hospital and expect that to be up and running by year-end. We also received some positive news in regards to our Medicare rates. Effective October 1, 2010, we expect our rates to increase 2.3%. The pharmacy operations, which make up 6% of our total revenues, made $429,000 on an EBITDAM basis during the second quarter. As of the end of June, we were currently servicing approximately 12,500 customers and expect to add over 1,000 additional customers during the next several quarters. A majority of those customer additions will be third-party customers. We expect to sell during the third quarter four skilled nursing facilities located Nebraska that we leave something over. By selling these four facilities, we will eliminate an annual cash loss of approximately $150,000 and we reduce our annual rent of senior housing by an additional $150,000. The performance of these properties is added to the discontinued operations in the second quarter of 2010. After the end of the second quarter, Five Star reached an agreement to acquire 110-unit independent and assisted living community in Wisconsin for $14.7 million. This community is nearly 100% occupied and have a 12-acre campus that allows the possibility of immediate expansion. We expect that this transaction will close in the next few days. We are going to fund this acquisition by using $13.3 million of our cash on hand and assume a $1.4 million liability primarily related to refundable security deposits. We expect to close on both of these transactions during the third quarter. Of course, both of these transactions are subject to closing conditions, and there is no assurance that either the acquisition or sale will occur. The second quarter was an excellent operating quarter for Five Star. We are very well positioned to take advantage of the gradually rising occupancy that is anticipated for our industry. Our keys to success remain the same. Increase occupancy and average daily rate, and holding labor, operating expenses and G&A costs in check. Throughout the past year, we have performed consistently on the last four. We are very well positioned from a balance sheet perspective. As a reminder, at quarter-end, a $35 million revolving credit facility was untapped and remains so today. A quick back-of-the-envelope valuation in office the of Five Star at the end of the quarter shows $25.7 million of cash in addition of $35.2 million of cash from UBS, approximately $128 million in book value, not share market value, from the 25 communities that we own. These three alone total approximately $176 million and place no value on our operating business and underscores the valuation discount when you consider that our market cap at yesterday’s close was $107 million. And we continue to reduce, but little debt we have. At this point, I’d like to turn it over to Paul Hoagland, our Chief Financial Officer.

[Paul Hoagland:]

Thank you, Bruce. And good afternoon, everyone. For the second quarter, our senior living revenues increased $15.8 million or 6.3% to $266.8 million as compared to the second quarter of 2009. This increase was due primarily to revenues of $11 million from the 11 new communities we began to operate during the fourth quarter of 2009, plus increased per diem charges to our revenue of 1.7%, offset by a decrease in occupancy, which decreased from 86.5% to 86.2%. The 1.9% increase in senior living revenue at communities that we operated continuously since April 1, 2009, generated approximately $5 million of revenue at our comparable communities. As Bruce previously mentioned, we are encouraged by the occupancy increase at our IL and AL communities, which account for 76% of our senior living revenues. Senior living wages and benefit expenses increased $6 million or 4.7% to $134.2 million compared with last year. $5.5 million of this increase was due to our new communities. However, senior living wages and benefit costs for our comparable communities decreased as a percentage of revenues from 51.1% to 50.3%, primarily due to improved labor control and slightly favorable benefit costs. Other senior living operating expenses increased by $1.5 million or 2.4% compared to last year. This was due to a $2.3 million increase from our new communities and a $900,000 reduction at our comparable communities. Let’s spend a moment to discuss some of the detailed movement within our senior living operating costs. Our total senior living operating expenses decreased in the second quarter of 2010 to 22.9% as compared to 23.7% in the second quarter of 2009. We had less expense in our operating supplies, services, and utilities. We are increasing our focus on community expense and supply control, and are also taking steps to reduce our utility expenses. Although the seasonality of our business has historically seen our utility expense at its lowest point in the second quarter, in last year’s third quarter, utility expense increased by 60 basis points as a percentage of revenues. We recently entered into an outsourced processing arrangement with a third party that will pay, analyze and purchase energy for our company. In addition, we are making the capital investment just under $3 million in a lighting retrofit program that will be completed by the end of the year. We expect to see a reduction of approximately $2 million to perhaps as much as $3 million in annual utilities expense in 2011 as a result of these initiatives. As Bruce noted, our income from continuing operations was influenced by non-recurring items in the second quarter of 2010 and 2009. Income from continuing operations for the second quarter of 2010 included several items that in aggregate resulted in a positive impact of $560,000 or $0.02 and $0.01 per share, basic and diluted respectively on our earnings. These items were a $4.2 million gain on our holdings of auction rate securities and a $418,000 gain on the early extinguishment of convertible debt, offset by a $4 million loss on our UBS put right related to auction rate securities. Income from continuing operations for the second quarter of 2009 included several items that in aggregate resulted in a positive impact of $6.5 million or $0.20 and $0.17 per share, basic and diluted respectively on our earnings. These items included a $6.1 million gain on the early extinguishment of convertible debt of $239,000 unrealized gain on our UBS put right related to auction rate securities and a $195,000 unrealized gain on our holdings of auction rate securities. Turning to our ancillary businesses, the rehabilitation hospitals generated a second quarter EBITDAM loss of $355,000. Hospital revenues were down $564,000 or 2.2% compared to last year, primarily due to a decrease in occupancy, which decreased from 60.8% to 54.8%. Hospital expenses as a percentage of revenues increased by 280 basis points during the quarter due to increases in labor and benefit expenses driven from the decrease in occupancy. Our pharmacy operations achieved a $429,000 margin in the quarter, which is an increase of $432,000 from the prior year. Pharmacy revenues were up 8.9% compared with last year due to the impact of adding new customers, which was partially offset by lower average revenues per prescription due to higher sales of generic drugs. Total pharmacy expenses increased by 6.5% in the prior year due to higher costs associated with our rising customer base, but our revenue increase allowed us to capturing efficient EBITDAM flow-throughs. During the second quarter, general and administrative expenses increased $1.1 million or 8.2% from last year due to higher corporate and regional support costs primarily associated with communities we began to operate in the fourth quarter of 2009. Our G&A costs as a percentage of revenues are in line with last year’s 4.5% and are within our range of expectations. Rent expense increased $2.9 million or 6.4% compared to last year, with most of this increase due to new acquisition rent expenses of $2.6 million. Income taxes were $560,000 in the second quarter. And absent any unusual gains or losses next quarter, we expect taxes to be approximately the same or $500,000 in the third quarter. Before concluding today, let me review our liquidity, cash flow and selected balance sheet items. At June 30, we had cash and cash equivalents of $25.7 million, not including the $35.2 million that we received from UBS on July 1st, bringing our total cash to $60.9 million. As of June 30, we had nothing drawn on our $35 million revolving line of credit, and we are in full compliance with all covenants. Today, our balances remain undrawn. Consolidated EBITDA, excluding certain items noted in our press release, increased to $12.6 million, an increase of 48% during the quarter from $8.5 million last year. Operating cash flow for the second quarter was $45.8 million due to operating performance. We made $13 million of capital investments during the quarter and sold $9.6 million of CapEx to Senior Housing. Our accounts receivable management remained strong, as the number of days sales outstanding for our consolidated operations was 20 days at June 30, the lowest we have achieved in recent years. At the end of the second quarter, we had $194 million of net property and equipment, which include 25 properties directly owned by Five Star, 22 of which are unencumbered by debt. In addition to the $6.5 million of debt on our UBS line, which has been paid off on July 1st, we had $42 million of convertible senior notes and $12.4 million of HUD mortgages outstanding. We have given our notice of intent to repay a $4.5 million HUD mortgage in the third quarter. We believe we are in compliance with all material terms of our credit, note and mortgage arrangements. With that, I’d like to open it up to questions. Thank you very much.

[Operator:]

(Operator instructions) We will take our first question from Jerry Doctrow with Stifel Nicolaus.

[Jerry Doctrow:]

Thanks. Couple of little things and some bigger questions. Just, Paul, I think you gave the amount of CapEx sold to SNH (inaudible) it was nine-point something.

[Paul Hoagland:]

Yes, $9.6 million.

[Jerry Doctrow:]

$9.6 million. Okay, thanks. And do you know the interest expense on the converts for the quarter?

[Paul Hoagland:]

Well, 3.75 on –

[Bruce Mackey:]

Roughly $49 million quarter-over-quarter.

[Paul Hoagland:]

Yes. So –

[Jerry Doctrow:]

$49 million, that’s fine. I mean, I miscalculated. Okay. You had talked about some of the improvements in expenses, particularly on the Senior Housing Properties in the quarter. And then you also talked about the utilities sort of go up and – you know, I guess, I was trying to – one of the things I was trying to think through since relatively small changes in kind of expense numbers can have a big impact to the bottom line, whether there is any other shifting about. And maybe if you can just help us think through sort of net-net where that expense number and maybe other expense numbers are going to move. Sometimes there are these things that you don’t really call them one time, but just a little benefit. I think you mentioned some things of benefit cost of one of the items. Are there anything that sort of is going to shift up next quarter that we should really be thinking about?

[Bruce Mackey:]

Right now, Jerry, the biggest ones in utilities. And I think Paul tried to give a little bit as a percentage of revenues, probably about 50 basis points. If you look at last year’s historical performance, where we were in Q2 of ’09 going into Q3 of ’09 and that can translate to about $2 million, and again that’s looking at last year, where our utilities costs were last year.

[Jerry Doctrow:]

Okay. And the other stuff you’re mentioning in terms of gauging this firm, doing the lighting may help you down the road, but it’s not going to really impact that for the third quarter.

[Bruce Mackey:]

Yes. I don’t see benefit to that until probably at least the first quarter of 2011, maybe in the second quarter.

[Jerry Doctrow:]

Okay. I guess maybe speaking about Senior Housing for a second, I guess my sense from your comments, Bruce, was reasonably upbeat things bottom, feeling a bit better about where it’s going forward. Any sort of additional sort of color I guess on that? And I guess maybe – I don’t know, if you could give specific expectations for occupancy rate or that kind of thing. It looked like occupancy is stable, but you were sacrificing a little bit on rate, but then you‘re also saying kind of incentives were backing off. So, any additional color you can give us on where that’s going?

[Bruce Mackey:]

No, nothing significant. I mean, it is – like I said the first time in my prepared remarks, the first time in four years we saw a comparable increase in our AL/IL. So it does appear that we have stabilized, starting to turn the corner, working hard to really raise that over the next couple quarters. I think it’s going to be a long, slow drive up, but we are expecting it to drive up over the next couple years. We have a long way to go to get to our historical level of 91%, but I think when we do, you will really see some nice flow-through on that.

[Jerry Doctrow:]

Okay. And just on the acquisition, I think it was 110 units, any more color – or I guess the specifics on sort of rate or occupancy margin? Just trying to figure out what kind of impact it’s going to have to get it to the quarter, maybe a little color on when exactly it will close in the third.

[Bruce Mackey:]

We expect it to close in the next couple days. It is close to full. 110 units, close to full. We are expecting a double-digit return, north of 10% on the acquisition before taking into account expansion opportunities. And that is something we also take well [ph] pretty quickly. Hope to get additional units out of the ground starting very soon. They’ve got very successful all-timer products that we hope to capitalize on and hopefully double over the next several quarters.

[Jerry Doctrow:]

Okay. Okay. And then just on the skilled nursing that’s been sold, is there any kind of payment to SNH, sort of buyout those leases or whatever?

[Bruce Mackey:]

Yes, there is. It’s not that big money, but essentially the way our lease mechanics work with Senior Housing, the buyer of those assets will actually fund the money right to Senior Housing because they own them (inaudible). It’s below south of $1.5 million.

[Jerry Doctrow:]

Okay. That’s your payment to them or that’s the payment they are collecting from the buyer?

[Bruce Mackey:]

That’s the payment they are collecting from the buyer. We have no payment between us and Senior Housing.

[Jerry Doctrow:]

Okay, okay. And I guess maybe one last one and I’ll jump off. You’ve got all this cash and it was $60.9 million, obviously lots of other potential ways you could raise additional cash credit line, that sort of thing. So what are you thinking about doing with that? I mean, it opens up maybe a bunch of strategic possibilities, you know, buy assets, buy back shares, buy out properties from SNH that you might see more upside in. I mean, what are the kinds of things that are maybe under consideration because it’s a lot of money to be sitting on?

[Bruce Mackey:]

Yes. You said a few of them right there. I think the other things too would be we’re looking at debt, we’re buying – we're prepaying a HUD mortgage this quarter, $4.5 million. That will be a rate of 7.65% that’s gone. We’d like to take advantage of convertible debt too at a discount. And I hope to take advantage of that in the next quarter as well.

[Jerry Doctrow:]

Okay. But –

[Bruce Mackey:]

In addition to the items that you mentioned as well.

[Jerry Doctrow:]

Okay. And then you sense a priority or scale or how quick it might be put to use?

[Bruce Mackey:]

I think the biggest priority is delivering the balance sheet. I wouldn’t say – it's something I would – if we can find deals out there, we will take advantage of them. So we’re not having us to do that.

[Jerry Doctrow:]

And the de-levering could be buying out additional leases?

[Bruce Mackey:]

Could be. I think the priority is on the debt.

[Jerry Doctrow:]

To buyout the converts first?

[Bruce Mackey:]

Yes.

[Jerry Doctrow:]

Okay. All right. Let me jump off. Thanks.

[Bruce Mackey:]

All right. Thank you, Jerry.

[Operator:]

(Operator instructions) We’ll take our next question from Joel Ray with Davenport & Company.

[Joel Ray:]

Good afternoon, guys.

[Bruce Mackey:]

Good afternoon, Joel.

[Joel Ray:]

Great quarter. Congratulations.

[Bruce Mackey:]

Thank you very much.

[Joel Ray:]

Could you repeat for me what your current overall occupancy rate is? I think you had mentioned the AL, IL was at – was up nicely. But what about the overall?

[Paul Hoagland:]

Overall for the quarter, we were 86.2%.

[Joel Ray:]

And where do you stand today?

[Paul Hoagland:]

Today overall, as a company, we are 86% even. Okay? We do fluctuate up and down 10, 20 basis points. I mean, it’s not uncommon during the quarter.

[Joel Ray:]

Right. So that sounds, again, things sound like they are pretty stable. The outlook now that the federal tax incentives to buy a home have abated, are you seeing any change in your inflow of queries from seniors?

[Paul Hoagland:]

We haven’t recently, no. The increase is still strong. And I think it was evidenced between the – I'm not sure exactly when that benefit ran out. But we were up between the second quarter of 2010 and the first quarter of 2010 significantly and we were also up over the second quarter of 2009, and that’s on a same-store basis. So increases still have been strong. And we’re hearing not only from us but other operators around the country as well.

[Joel Ray:]

Okay. Well, that’s certainly encouraging. It’s also particularly encouraging that you don’t have to be as aggressive on discounting to get that in. On your labor cost side, that seems to be doing pretty well off late along with benefits, down versus prior year levels. I think some of that was due to changes in benefits. But I also heard some discussion on the call about systems trying to increase your operating efficiency. Could you elaborate a little bit on that?

[Paul Hoagland:]

Well, we currently do have systems and metrics in place that will help us schedule labor based on occupancy levels, but we continue to fine tune that program. For instance, in the first quarter to the second quarter, we saw about 30 basis points of improvement in overall wages although we did give back slightly in our benefits between primarily in the workers’ compensation area. But workers’ compensation, which is obviously a big expenses for the company is becoming an area of increased focus, and we are hoping to be able to, over the next six to 12 months, start to show some result on that as well.

[Joel Ray:]

So would it be fair to assume that we should be able to maintain this type of expense ratio over the balance of this year?

[Paul Hoagland:]

Something close to it, yes.

[Bruce Mackey:]

Yes, I’d agree.

[Joel Ray:]

That’s pretty encouraging. And I also note that your other expense did drop substantially this quarter, and I heard you mention utilities. Are there other factors that we should be thinking about? And of course, with the hot summer weather, I’m wondering whether or not in contrast to the cold winter weather where that drives up cost, would now your AC cost also potentially serves given the extreme heat we’ve had?

[Bruce Mackey:]

Clearly they were possible, Joel. If you look at – from a question that Jerry proposed, I kind of gave where we saw last year (inaudible) win-win here. And it’s been a hot July pretty much throughout the US. So hopefully there was the call about – you know, it could be a little bit more of a slide than we’ve seen in historical periods.

[Joel Ray:]

Right. Are there other variables that we should be thinking about on this other expense side that could mitigate that or could fluctuate some?

[Bruce Mackey:]

I don’t think we’re seeing anything material, in all honesty, either up or down in most of our other expense categories. When you go – you mentioned going into Q4, utilities to come back a little bit from where it might spiking Q3. And then Paul also talked about the utility programs that we are putting in place, which should help us –

[Joel Ray:]

Long-term.

[Bruce Mackey:]

Correct.

[Joel Ray:]

And finally, we haven’t talked much about the rehab hospital side where I know we’ve had ongoing construction efforts. Where are we today with some of those programs?

[Bruce Mackey:]

We’ve got out of the 12 hospitals, about 50% done with all their construction. We’re kind of taking a pause and making sure that we’re at least spending our capital widely. I think the big thing that I mentioned is the additional inpatient satellite unit at one of the New England campus. We literally have a hearing tomorrow. It’s a public hearing, the University of Law. And assuming that goes well, we hope to have that additional – you know, we have to class in the state to begin that unit in 2011 and then we are in the process of finalizing a traumatic brain injury clinic. That will be about an 18-bed unit at the New England Rehab Hospital as well. Construction is just about done. We expect that to be operational in the fourth quarter of this year, and that will be a very nice program. We have one of the stronger TBI programs really across the country at Braintree, and we hope to duplicate that at New England Rehab. That would be a nice success story for us.

[Joel Ray:]

Good. Tell me – I know that earlier we had been hearing from you that some of the referrals on the rehab side from regional acute hospitals had abated. They just weren’t passing as many patients on to you probably because they themselves won’t see as many. And likewise, I know that into the second quarter of this year, we were seeing weaker trends in the hospital business, physician visits etc. What is that doing to your business these days?

[Bruce Mackey:]

It’s obviously hurting it. Out of the few hospitals right now, we got one in New England, which is in Woburn, Braintree. The Braintree Hospital, that’s doing fairly well year-over-year and quarter-over-quarter. We are struggling at New England Rehab predominantly. You could recall, if you look at our overall combined occupancy, we’re down almost 600 basis points. And it’s really one or two of the front hospitals for New England that have been hurting us well. It’s in use. We’re working on it. And we hope it to reverse in the next couple quarters.

[Joel Ray:]

Very good. Well, thank you very much.

[Bruce Mackey:]

All right. Thank you, Joe.

[Joel Ray:]

A very good quarter.

[Bruce Mackey:]

Great. Thank you.

[Operator:]

And we’ll take our next question from George Walsh with Gilford Securities.

[George Walsh:]

Thank you. Also congratulations on the quarter.

[Bruce Mackey:]

Thanks, George.

[George Walsh:]

Just to clarify, again, I’m repeating probably (inaudible). I just want to clarify that versus the – results versus the first quarter that I think operations there came in about $0.09. So, would you see the variables were in terms of – it came at $0.21 here. So that’s about $0.11. So the utility costs, the rehab hospitals having less of a loss, and a profit in the pharmacy, were each of those the main factors that were involved in that $0.11 difference sequentially?

[Bruce Mackey:]

No, I – utilities really were – they were in line with 2009. So obviously our expectation may be a little bit less, but not much. The rehab hospitals, clearly that was probably $0.02, and then the rest is really things that Paul talked about in prepared remarks.

[George Walsh:]

Okay. But even sequentially, I’m talking about in Q1, is there that big a swing in utility cost that you can go for about that $0.09 to this $0.21?

[Paul Hoagland:]

No, it was more than just utilities. I mean, if you look at Q1 to Q2 from a standpoint of utilities, we picked up about eight-tenths of a point. I mean, it was obviously a nice move. But we also so reductions in our operating expenses, operating supplies that in total added up to a few tenths as well. So again, we are focusing more with regards to improving increasing controls on supplies, expenses. And collectively, it certainly had a good impact on the quarter.

[Bruce Mackey:]

I think (inaudible) is pretty much in line with where it was in Q1, down a little bit, but not much.

[George Walsh:]

Okay. So with the nature of its sense, I mean, utilities could be the variable, but it sounds like you are getting elements in there, Paul, that are – as you are getting your hands around the operation that can be more ongoing benefits as opposed to certain seasonal factors.

[Paul Hoagland:]

I think that that’s fair. I just don’t think it’s a significant number. I might be one or two-tenths. And obviously, on our volume, one or two-tenths is meaningful, but I think it’s fair.

[George Walsh:]

Okay. All right. And also, with the cash, so you are – July 1st, you were at about $60 million. And I guess that what you will be using out of that is about $14 million or $13 million for the acquisition and the pay-down of that debt, the ARS credit, the UBS line?

[Bruce Mackey:]

I think you are right on the net debt. That takes into account the UBS line overall. So we’ve got just a little bit more, sort of $14 million on the part of the acquisition. And then you’ve got the HUD mortgage prepayment of $4.5 million as well.

[George Walsh:]

Okay. And the buyback of the debt was already done before quarter-end. So that’s included in the balance sheet.

[Bruce Mackey:]

That’s exactly right. Yes.

[George Walsh:]

Okay. Very good. All right. Thanks a lot.

[Bruce Mackey:]

All right, George. It’s good talking to you.

[Operator:]

(Operator instructions) We’ll take our next question from Greg Gerst with Gerst Capital.

[Greg Gerst:]

Hi, guys. Nice quarter.

[Paul Hoagland:]

Thank you.

[Greg Gerst:]

Just wanted to check my math here, and I apologize, I wasn’t (inaudible) questions. So if it’s a repeat, I apologize. My math is showing you guys are approximately if we include the ARS assets, you’ve got approximately net cash of about $23 million. Is that consistent with what you have?

[Paul Hoagland:]

Well, we finished the quarter with $25.7 million in cash. That was before the $35 million redemption, which took place the first day of July.

[Greg Gerst:]

Right. So putting that in there, that’s already taking place, but when I add it all up, I come up with something north of $20 million as far as net cash. That’s in the ballpark?

[Paul Hoagland:]

It’s certainly – again, net cash was, call it, $25 million in the quarter – as we ended the quarter, yes.

[Greg Gerst:]

If we – I'm including the UBS, you have that $35 million odd, you got that cash. If we throw in the investment in the available for sale securities of, about $11 million, and then we put that against the converts and the mortgage note payable, it’s about a little bit north of $1 million. I guess the –

[Paul Hoagland:]

I guess the investment in the available – you know, a lot of that converts are in trends liabilities though.

[Greg Gerst:]

Okay. Okay. But you are – I mean, by any metric, you are in net cash right now?

[Paul Hoagland:]

Correct.

[Greg Gerst:]

So if we look at your enterprise value is less than your market cap today, and we get your market cap at the close, let’s say, it’s $110 million enterprise value. And if we annualize first six months EBITDA, you guys are at a very, very low EBITDA or market cap to free cash. How are we going to look at it? (inaudible) So my question is in terms of determining where to put your cash flow going forward, putting into your converts obviously, I’d like to ask about that new facility there. You said you’re getting double-digit return on that. Can you kind of take us through that a little bit in detail – little bit more detail on what you mean by that?

[Bruce Mackey:]

We don’t have the exact numbers on hand. So I really think it would be too much detail talking about the close, and everything that we’re looking at is really on a historical basis. But we expect to develop an additional 10 to 20 units over the next probably three to four quarters. And that’s I’d say double digits, probably north of 20%.

[Greg Gerst:]

Okay. It just seems to me even north of 20%, I mean, given the industry you guys are in, your capital structure right now; it’s hard for me to imagine a best risk reward than at least putting some of your capital into a share buyback starting now. Can you kind of correct me on that?

[Bruce Mackey:]

No, I can’t correct you. It’s something that Board does look at from time to time. And right now – but the small floats that we do have in the stock as well as the convertible debt that we will be put [ph] to us in 2013. Our Board gives us more of an appropriate choice to buy the convert back on that asset. So we can later liquidate because we do have restricted access to capital at times.

[Greg Gerst:]

Okay. Thanks. That’s it for me.

[Bruce Mackey:]

All right. Thank you, Greg.

[Operator:]

And we’ll take our next question from Jerry Doctrow with Stifel Nicolaus.

[Jerry Doctrow:]

Hi, just one last follow-up. On the rent growth, I don’t know if it’s because you move the stuff into discontinued ops or not, but (inaudible) lower. Is there any kind of seasonality of that when it gets reset based on revenue, or how should we think about that through the year?

[Bruce Mackey:]

No, I don’t think there’s any seasonality. It’s really a function of CapEx sales percentage rents.

[Paul Hoagland:]

Yes, it’s very predictable from the standpoint of that number. So, no, there is no seasonality.

[Jerry Doctrow:]

And how much rent did you move out to move into discontinued ops for the quarter?

[Bruce Mackey:]

Very small amounts. Like I said, maybe $150,000. And that’s also on an annual basis, they will be even less than that.

[Jerry Doctrow:]

Okay. Yes, all right. And otherwise, again, it’s just – is there a particular time during the year that the resets get done and when you do a percentage of revenue? Aren’t some of your rents percentage of revenue, or is that just done kind of on a continuous basis?

[Bruce Mackey:]

On a continuous basis. Each property has a base year. And as new properties gets added to that, like for example, you buy an acquisition with Senior Housing, we did some parts in 2009, 2010 will be the base year although the acquisition – and then we start paying percentage rent in 2011.

[Jerry Doctrow:]

Okay. Okay, thanks.

[Bruce Mackey:]

All right. Thank you, Jerry.

[Operator:]

And that concludes today’s question-and-answer session. I’d like to turn the call back to Mr. Bruce Mackey for any closing remarks.

[Bruce Mackey:]

Great. Thank you all for joining us on today’s call. We will be at the NIC Conference in Chicago in September. We look forward to seeing some of you there. We will also look forward to updating you on our Q3 results in late October. Thank you. Have a good afternoon.

[Operator:]

That concludes today’s conference call. We appreciate your participation.