Five Star Senior Living Inc.
Q3 2014 Earnings Call Transcript

Published: 17 Dec 2014

[Operator:]

Good day and welcome to the Five Star Quality Care 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 Director of Investor Relations, Ms. Kimberly Brown. Please go ahead.

[Kimberly Brown:]

Thank you and good afternoon everyone. Joining me on today's call are Bruce Mackey, President and CEO, Paul Hoagland, Treasurer and CFO, and Scott Herzig, Chief Operating Officer. The agenda for today's call includes a presentation by management followed by a question-and-answer session. I would also note that the transcription, recording and retransmission of today's conference call are strictly prohibited without the prior written consent of Five Star. Before we begin, 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 other Securities Laws. These forward-looking statements are based on Five Star's present beliefs and expectations as of today, December 16th, 2014. 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, regarding this reporting 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 upon any forward-looking statements. Now, I would like to turn the call over to Bruce.

[Bruce Mackey:]

Thanks Kim and thanks everyone for joining the call and to your patience with us this year. 2014 has clearly been a challenging year for Five Star and its shareholders, given the restatement process and subsequent delayed filings. We are pleased to be in a position today to simultaneously report the first three quarters of 2014 and become current. As most of you know, we partnered with McGladrey as our outside auditor in October and our relationship is off to an excellent start. We will continue to work hard with McGladrey on our year-end audit and our expectation is that we’ll remain current and file our 2014 10-K on a timely basis. We are also looking forward to getting back on the road, meeting with investors and improving shareholder value. As I mentioned in the last call, the restatement in delayed filings has been a distraction for both Paul and me, although to a lesser extent on my end. Fortunately Scott has been able to focus 100% on the daily operations of business, but it will clearly be beneficial to have all three of us in a position to do the same. The first nine months of 2014 have also been challenging for Five Star from expense standpoint which had a negative impact on [EBITDAR] [ph] which was 165.8 million compared to 176.7 million last year. Audit fees related to restatement as well as health insurance due to some severe claims both spiked considerably. In addition, we incurred higher workers compensation and professional and general liability claims particularly in the first quarter. Paul will discuss in more detail in a moment, but I’m pleased to report these expenses have abated and we expect the fourth quarter to reflect a more normalized run-rate. I’m also encouraged that these expenses are primarily non-recurring in nature and in our community level of cost control culture remains intact. On a more positive note, both occupancy and rate improved across the vast majority of our business as the year progressed, which is reflected in the modest topline growth quarter-over-quarter. We believe the improvement we’re seeing is a direct result of our marketing programs, which Scott will address in a moment. With that I’ll turn over to Paul to walk through our results.

[Paul Hoagland:]

Thank you Bruce and good afternoon everyone and thank you for joining us on today’s call. Given that we are simultaneously reporting the first three quarters of 2014, my prepared remarks will primarily focus on the sequential trend in the nine months year-to-date result. We’ve seen improvements to our quarter-over-quarter revenue as the year has progressed. Senior living revenues have increased [nine tenths of a point] [ph] in the first quarter, 2.4% in the second quarter and 2.8% in the third quarter. For the nine months ended September 30th, senior living revenues were $824.6 million, an increase of 2.1% or $16.6 million over last year. Revenue in the first quarter of 2014 was negatively impacted by the sequestration mandated Medicare payment rate reductions that went into effect on April 1st, of 2013. During the second and third quarter, revenues have sequentially improved as we marked the one year anniversary of that Medicare rate cut and also as we’ve made gains in occupancy and rate throughout the year. Total senior living occupancy has increased by 40 basis points from 85.7% at yearend 2013 to 86.1%. As of September 30th, 2014, the performance of our AL portfolio has increased by 80 basis point from 88.4% at year-end 2013 to 89.2% as of September 30th, 2014. Rate has increased by 1.7% since year-end 2013 and is up 1.9% year-over-year. Management fee revenue from the 44 senior living communities we manage was $7.3 million for the first nine months, an increase of 6% from 2013. We are reporting a loss from continuing operations for the nine months ended September 30th of $9.2 million or $0.19 per basic and diluted share, primarily as a result of increased audit fees which are one-time in nature, higher than usual health claims, harsh winter conditions from this past winter and unusually high professional and general liability expenses. Senior living wages and benefits of the first nine months were $402.5 which are 48.8% of senior living revenues and are at the same level as last year's results of 48.8%. However, decreased labor cost of 50 basis points were offset by $5.6 million of higher than usual cost for employee health benefits and workers compensation claims. As we are fully self-insured, we will at times, experience higher costs in these areas. In 2014, the year-to-date health benefit cost is 4.1% of senior living revenues as compared to 3.6% in 2013. Other senior living operating expenses for the first nine months were $214.4 million, an increase of 8.1%. As a percentage of senior living revenues, other operating expenses for the first nine months were 26%, up 150 basis points from last year. This was due primarily to the following; purchase services for cleaning of $2.5 million or 30 basis point increase which were offset by a 50 basis point reduction in labor cost that I just mentioned; harsh winter conditions from this past winter which included utilities, which were $2.2 million higher than the previous year and $1 million of repair and building maintenance, as well as professional and general liability expenses, which were $1.9 million higher than the prior year. General and administrative expenses for the first nine months were $54.2 million compared to $45.8 million a year ago. G&A expense includes $4.7 million of non-recurring expense associated with the cost of the restatement. Excluding this non-recurring expense, G&A costs were $49.4 million or 4.7% of total revenues including our 44 managed properties. Rent expense for the first nine months was $147.8 million or 17.9% of senior living revenues, a 10 basis point decrease from 2013. Interest expense for the nine months was 3.8 million and depreciation and amortization was $23.5 million. EBITDAR excluding non-recurring items for the nine months ended September 30, was $165.8 million, a decrease of $10.9 million or 6% from last year. Recurring EBITDAR was primarily impacted by $7.5 million of higher cost of employee health benefits, workers compensation claims, professional and general liability expenses as well as $3.3 million of high expenses due to harsh winter conditions from this past winter. In addition, there was approximately $2 million of decreased EBITDAR due to major renovations that we have discussed on previous calls. As discussed in our last call, EBITDAR did impact a low point in the first quarter and began to rebound in the second and third quarters. We would expect continued improvement for the fourth quarter. Now I will review our liquidity, cash flow and selected balance sheet items. Cash flow from operating activities for the first nine months of 2014 was $28.3 million. During the nine months period, we invested $39 million of capital into our communities and sold $24 million of long-term capital improvements. We acquired one community in Dothan, Alabama in May for approximately $20 million which included 13.9 million of debt at 6.5%. At September 30, we had cash and cash equivalents of $24.9 million. At September 30, we had $354.1 million of net property and equipment which includes 31 properties direct at Five Star, 11 of which are unencumbered by death. We had $52.1 million of mortgage and notes payable. And September 30, we had $25 million outstanding on our two credit facilities which remained at $25 million today. We have a total borrowing capacity of $175 million. At the end of the quarter, our leverage was 22% of the book value and 13% of assets. We believe we are in compliance with all material terms of our credit, note and mortgage agreements. Now I would like to turn the call over to Scott, who will walk you through the key operating metrics and results. Scott?

[Scott Herzig:]

Thank you, Paul. As Bruce mentioned, for the first three quarters, we've seen improvement in both occupancy and rate. On our last earnings call I disclosed first and second quarter occupancy which can also be found in today's press release so I will focus on more recent stats and report on the third quarter's numbers. Total senior living occupancy was 86.1% of 10 basis points from the third quarter of last year. As of today, total senior living occupancy is at 86.3%, this is another positive step forward. Occupancy at our owned independent and assisted living communities was 88.2% in the third quarter, which was flat compared to a year ago. Independent assisted level occupancy at our leased communities improved 60 basis points to 89.5% compared to the third quarter of last year. Total CCRC occupancy was 83.2%, up 10 basis points from last year. Our managed occupancy improved 60 basis points to 88.2% in the third quarter, up from 87.6% a year ago. Our skilled nursing facilities reported occupancy of 79.3% for the third quarter, down 150 basis points from the third quarter of last year and caused the biggest drag in our overall occupancy. As a reminder the majority of our freestanding skilled nursing facilities are in small rural markets and continue to struggle to improve occupancy in a difficult operating setting which supports our strategy of continuing to increase our private pay revenues and limit our dependence on government-funded programs. Turning now to rate. Overall senior living average monthly rates increased 1.9% year-over-year in the third quarter. Looking at each area, third quarter average monthly rate increased 3% at our owned senior living communities, increased 2.3% at our leased senior living communities, increased 1.9% at our CCRCs and increased 2.1% at our skilled nursing facilities. We are pleased with the occupancy and rate improvements we are seeing in 2014 and would expect these positive trends to continue. Turning to some key initiatives. As I mentioned on our last call, earlier this year Five Star embarked on a process of overhauling our digital presence. Last month, we completed an important step with the launch of our new website which features a more user friendly interface and a much improved search engine optimization. The website launch was an important first step in our technology initiative and in the coming months we are planning to launch live chat functionality which provides an effective and instant engagement tool on our website and enables us to convert more visitors into strategic leads. In addition, we are about to launch several new web marketing campaigns which are aimed at driving more leads to our website. Given that 70% of our leads come in through online channels consistently upgrading our web presence and online campaigns is critical to the success of our business. In conjunction with the website launch, we continue to move our brand initiatives forward in an effort to further differentiate ourselves from the competition by concentration on three important pillars. They symbolize the true essence of who we are as a company and what makes us distinctive among our peers. Those pillars are Five Star Health and Wellness, Five Star Warmth and Hospitality and Five Star Dining and Nutrition. Health and Wellness includes everything from our award winning Alzheimer’s and dementia care program to our independent living programs and everything in between. We recently hired an industry expert to develop a new life engagement signature program which we plan to launch in January to maximize the impact we have on the health and wellness of our residents. Warmth and Hospitality encompasses our signature experience training, which means taking customer service to the next level and creating enriching experiences which are unique to Five Star. We recently hired two seasoned leaders in the hotel industry to champion this initiative, which includes rolling out our signature experience training across all of our communities. We firmly believe that as the senior living industry continues to evolve, Five Star will have a strategic advantage by offering more experiences and services that closely align ourselves with the hospitality world. Our last pillar is Food and Dining. Food is such a huge part of resident satisfaction so we thought, why not make it fun and create a better experience. As I mentioned on our last call, we partnered with a very talented celebrity chef named Brad Miller, who was a former contestant on Hell’s Kitchen among other numerous television appearances. To-date, Chef Miller has filmed a series of video demonstrations for our current and prospective residents and our chefs and he’s also added signature food items to all of our menus. In addition Chef Miller continues to host nationwide events for our residents and cooking challenges with our chefs. These events have been a fantastic opportunity for us to host referral sources, create positive buzz at our communities and ultimately improve occupancy. Now turning to our Rehab to Home project. As you’ll recall this program converts existing skilled nursing beds in our CCRCs to high-end private rehab suites. We currently have two new projects underway, one is in Kentucky and the other is in South Carolina. Given the success of past projects, we’re continuing to evaluate additional opportunities to convert units within our other CCRCs throughout the portfolio and I will update you on our progress on future calls. On the expansion front, we recently broke ground on two projects, one in Texas and the other in Tennessee. These two projects will add a combined total of approximately 50 units split between assisted living and memory care. We currently operate a 100% occupancy at both of these communities and as a result of our expansion investment, these communities will be better able to accommodate demand in their given markets and significantly drive EBITDAR at these communities. We are actively evaluating additional expansion opportunities and look forward to updating you on our future call. I will now turn the call over to Bruce.

[Bruce Mackey:]

Thanks Scott. Before we open the call to your questions, I’d like to take a moment to talk about our strategic initiatives. We continue to make progress on increasing the percentage of our private-pay revenues. At September 30th, the percentage of private-pay revenues was at an all-time high of 77.7%, an increase of 60 basis points compared to the third quarter of 2013. We had a successful disposition program in place to support this important initiative. More than a year-ago, 11 communities were identified to be marketed for sale, 8 of which were skilled nursing facilities dependent upon government funded programs. To-date, we have sold 7 of the 11 communities and are making good progress on the 4 remaining communities which we expect to sell in 2015. These dispositions have enabled us to put more focus on our core business which is operating private-pay senior living communities in areas where we have a geographic concentration. We have made great strides in increasing our private-pay revenues over the last several years and will continue to do so going forward. Turning to our acquisition and growth initiatives this year, as I reported in the last call in May we acquired a 116 units senior living community in Alabama on our own balance sheet for approximately $20 million. We were very pleased with this transaction and it was the first acquisition we’ve done on our own balance sheet since 2011. This community is a perfect fit for Five Star as of the 100% private pay and its located where we have a strong geographic presence. It is expected to increase annual revenue by $4.8 million and contribute $2 million of EBITDAR. We now own a total of 31 communities with the goal and capacity to do more deals on our own balance sheet. Early this month we began to manage two private pay communities with a combined total of 220 units including independent living, assisted living and memory care. Both of these communities are located in Wisconsin, a state where Five Star already had a strong geographic presence. We expect to remain active in sourcing details in 2015 and are optimistic that we will continue to expand our private pay portfolio. The senior living growth drivers remain intact and the program Five Star has put in the place are beginning to bear fruit as evidenced by our gains in revenue, occupancy and rate. Revenue has increased each and every quarter this year despite the challenges we faced and our senior living revenue was at an all-time high in the third quarter. As we return to a more normalized expense run rate, we expect this positive momentum to translate and to improve the bottom line of financial results continuing in the fourth quarter and ramping in 2015. Thank you again for joining today's call. We would now like to open the call up for questions.

[Operator:]

Thank you. [Operator Instructions]. And our first question will come from Brian Tanquilut of Jefferies. Go ahead please.

[Jason Plagman:]

Hey, guys. This is Jason Plagman on for Brian. First question. You mentioned some initiatives for expense reduction. Can you just walk me through what some of those are, and kind of the magnitude we should expect to see in Q4 and into 2015?

[Bruce Mackey:]

Yes, I don't think we really talked about expense reduction. The two biggest things that hit us in the expenses this year were G&A with our audit cost, roughly $5 million and health insurance a little bit less than that. Both of those primarily are one time in nature, the audit cost actually for the most part just go away with the fact that we are now current and kind of on a more normalized run rate if you will. G&A, I'm sorry, on the health side we had a number of high dollar claims that spiked in this year, predominantly in the third quarter and Paul, why don't you go in little more detail in terms of percentage of --

[Paul Hoagland:]

Yes, on the health insurance the company is self-insured and we are year-to-date at 4.1% health expense as a percentage of senior living revenues. Now that compares unfavorably year, we were at 3.6% through three quarters and we finished last year at 3.5%. The company has averaged approximately 3.4% in health care cost over the last five years on an annual basis and it can run as low as 3% which is what we ran in 2010 to as high as 3.7% we were in that 2009 and 2011. Unfortunately in the year 2014, we've seen a number of large claims that were far in excess of what we experienced in recent years which has brought us up to that 4.1. We certainly don't believe that, that will at all be our continued run rate.

[Bruce Mackey:]

No I think the other thing to add to that too, every year we do look very closely at our insurance program, our health insurance program we work with our expert [indiscernible] and we believe we've got a very good program, we tweak the program every year. This year we added a few new wellness initiatives that enable our employees to go out and if they do things like smoking session, weight loss et cetera, they get a reduced rate and theoretically we'll benefit through -- the company will benefit through lower health plans. So that's definitely something that we put into place this year and continue to put in place every year.

[Jason Plagman:]

Great, that's helpful. And the other question I had was, you posted some pretty solid rate growth this year. Should we expect that to continue and are there any opportunities for that to pick up a little bit more towards the 3% range, or are you happy with where you're at?

[Bruce Mackey:]

No we do expect that to pick up a little bit in 2015. Obviously the occupancy [strains] [ph] up and we should be able to garner a little bit more pricing power with that at the higher level. So we are hopeful that the rates we get in 2015 will be at our in an excess of that level.

[Paul Hoagland:]

Also in the first quarter of this year, we were still experiencing the sequester rate cut from 2013, so that certainly did dampen the 2014 year-to-date number by probably in the vicinity of about 30 basis point.

[Bruce Mackey:]

And we know Medicare went up over 1.5% effective 10/1 and we've seen some growth in the Medicaid rate. So even though the part that we don't focus on in terms of increasing rate, we've seen some positive rate growth and then on the other side of business private pay will be well north of 2%, closer to that 3% range.

[Operator:]

Thank you. Our next question is from Daniel Bernstein with Stifel. Go ahead please.

[Daniel Bernstein:]

Yes, I was just trying to understand the upside opportunity, maybe in some of the -- in buying more assets versus leasing assets. And then also, did any of the owned assets that you have perform better than the leased assets? Just trying to understand the performance difference between owned and leased.

[Bruce Mackey:]

No, I'd say both, the owned and all of our owned assets are independent assisted living. As a total group, I won't breakout owned versus the leased, just in total independent assisted living performed well for us. That portfolio makes up the vast majority of our properties [indiscernible] our EBITDAR comes from those properties and across the spectrum they all performed very well. If we look where the challenges were on a leased side, it’s in the skilled nursing side, which all of our 31 skilled nursing assets are leased and that’s been the biggest drag on the overall company in terms of performance. Next is the CCRCs and again if I look within the CCRCs and I’m targeting the leased CCRCs not the managed ones because the managed ones did fairly well. We had two properties in there that had some significant issues in the skilled nursing that we’ve rectified later in the year, so we had issues in early 2014 that we corrected by the end of 2014. We also had two properties that Paul talked about where we did significant capital additions and so and I talked about on this on the last call, we had a number of units one property alone had 70 units out of service for at least six months during 2014 all of which are back online now, 50 out of that 70 are full today, so that property has made a good turnaround. So I guess, answer your question, we did probably have a little bit more of a drag in the leased communities overall just because of the things that I mentioned skilled and those three properties I just mentioned on the CCRC side.

[Paul Hoagland:]

Yes and Dan I think further validating what Bruce has talked to you about is then when we look at the [IL/AL] owned versus [IL/AL] we leased we’re up basically 70 basis points from the beginning of the year on the owned and 80 basis points on the leased so again they pretty much run neck and neck, CCRCs are up only 30 basis points, we had a little bit of noise in there from the units under construction and then unfortunately our skilled portfolio was down 160 basis points from the beginning of the year.

[Bruce Mackey:]

Just the other one thing I would add to that Dan too is the rate growth we saw, again we saw some decent rate growth in both the portfolios owned versus leased as well.

[Daniel Bernstein:]

Was there any change in the skilled mix on the [SNF] portfolio? You had occupancy went down, but did you pick up any Medicare short-term stay, or is it simply a volume issue?

[Paul Hoagland:]

Yes it is mostly volume. We pretty much stayed flat with what we typically run there.

[Daniel Bernstein:]

And then in terms of -- if you aren't giving any guidance out, but given your increased capital capabilities and the revolver and available capital out there for seniors' housing, how much do you think you'd actually buy over the next, say, 12 months to 18 months? Is there some kind of plan that you have to buy 100 million or 200 million of assets? Or is it something less? Anything you can give us on the kind of the size of the pipeline that you're looking at?

[Bruce Mackey:]

We’re going to be opportunistic but we’re also going to make sure we remain -- our balance sheet remains in a conservative place, so it’s tough to put a number on it, I expect the number will be greater than we did this year, but to really pin a number on it, we haven’t done that.

[Operator:]

Thank you. We have no further questions in queue. Please go ahead Mr. Mackey with any closing remarks.

[Bruce Mackey:]

Great. Well I’d like to thank you all for joining us today. We look forward to seeing you at the Stifel Conference in January.

[Operator:]

Thank you then ladies and gentlemen. That does conclude our conference for today. Thank you for your participation and for using AT&T Executive Teleconference. You may now disconnect.