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Brookdale Senior Living (NYSE:BKD)

Q2 2013 Earnings Call

August 08, 2013 9:00 am ET

Executives

Ross C. Roadman - Senior Vice President of Investor Relations

T. Andrew Smith - Chief Executive Officer

Mark W. Ohlendorf - Co-President, Chief Financial Officer and Principal Accounting Officer

Analysts

Joshua R. Raskin - Barclays Capital, Research Division

Jack Meehan - Barclays Capital, Research Division

Kevin M. Fischbeck - BofA Merrill Lynch, Research Division

Nick Halen

Frank G. Morgan - RBC Capital Markets, LLC, Research Division

Daniel M. Bernstein - Stifel, Nicolaus & Co., Inc., Research Division

Dana Hambly - Stephens Inc., Research Division

Operator

Good morning my name is Regina, and I will be your conference operator today. At this time, I would like to welcome, everyone, to the Brookdale Senior Living Second Quarter Earnings Conference Call. [Operator Instructions] Thank you. I would now like to turn the conference over to Ross Roadman, Senior Vice President of Investor Relations. Sir, you may begin the conference.

Ross C. Roadman

Thank you, Regina, and good morning, everyone. I also would like to welcome you, all, to the Second Quarter 2013 Earnings Call for Brookdale Senior Living. Joining us today are Andy Smith, our Chief Executive Officer; and Mark Ohlendorf, our President and Chief Financial Officer.

I would like to point out that all statements today, which are not historical facts, may be deemed to be forward-looking statements within the meaning of the Federal Securities Laws. Actual results may differ materially from the estimates or expectations expressed in those statements. Certain of the factors that could cause actual results to differ materially from Brookdale Senior Living's expectations are detailed in the earnings release we issued yesterday and in the reports we filed with the SEC from time to time. I'd direct you to Brookdale Senior Living's earnings release for the full Safe Harbor statement.

With that, I'd like to turn the call over to Andy Smith. Andy?

T. Andrew Smith

Good morning. I want to add my welcome to all of our shareholders and other participants for our second quarter earnings call. I'll lead off today with some brief comments about the second quarter. I will then turn the call over to Mark to discuss our results in more detail before opening the call to your questions.

We are pleased with our second quarter results, which follow a strong first quarter. As a result, we have raised our full year CFFO guidance to between $2.35 and $2.45 per share. During the quarter, we produced $0.61 of adjusted CFFO per share. The $74.8 million of CFFO in the second quarter represents an 8% increase over the second quarter of 2012. We drove this year-over-year improvement for rate growth and occupancy gains, strong entrance fee sales and solid expense management.

Like the first quarter, our rate growth moderately exceeded our expectations. Excluding skilled nursing, our senior housing average monthly revenue per unit increased 2.7%, up slightly from last quarter's 2.6%. I exclude skilled nursing because of the impact of sequestration and the sensitivity of skilled rates to the mix between private pay, managed care and Medicare census, all of which can change very quickly.

Looking specifically at occupancy, we increased our quarterly average occupancy by 60 basis points for the consolidated portfolio over the second quarter of 2012. Sequentially, our consolidated occupancy was essentially flat with the first quarter when you exclude skilled nursing, which typically declines seasonally from Q1 to Q2. As expected, we saw an improving occupancy trend during the second quarter and ended with June's average occupancy at 88.7%. July followed the trend with average occupancy of 20 basis points to 88.9%.

This year's trend in occupancy growth is typical of our historical experience, where occupancy turns mid-second quarter and increases over the remainder of the year. We expect the same for the balance of this year. For us, another major of demand is our Independent Living entry fee sales. Our 128 sales and $16.4 million of net entry fee cash flow were both records for our second quarter. This strong performance was evidenced across all of our entry fee markets. It reflected our focus on sales execution and the improving home resale environment in our local markets. This segment of our business has a long sales cycle, and our sales staff has done a nice job in keeping current with our perspective leads.

Our national branding activation, which kicked off in May, has gotten off to a good start, and we remain excited about this effort. For those of you who have not had the opportunity to see our new television ads, I encourage you to take a look at them on our website at brookdale.com or on Brookdale's YouTube page. Establishing our brand is a bold initiative, and it is a critical element of our long-term strategy. Our goal is to take advantage of a very fragmented industry by leveraging our size, our geographical scale and the depth of our product offerings to establish Brookdale as the first truly national brand name in senior living.

In a nutshell, through strong public relations and advertising campaigns on a local, regional and national basis and in all forms of media, and by activating the brand internally, we expect to educate -- better educate the public about Brookdale, who we are, what we do and what we stand for. This supports our goal of engaging potential residents and their adult children earlier whether than later in their decision-making process. So we have a -- they have time to partner with us on clear choices, rather than when they are in crisis.

Over time, we are confident that the name Brookdale will become top of the mind for our prospective customers, who are searching for senior living solutions across the country. And we are confident that the name Brookdale will come to symbolize the trusted provider of the highest-quality senior living solutions for the growing population of seniors and their families that need our services.

We expect substantial benefits from this initiative for all of our stakeholders, our current and future residents, their families, our associates and our shareholders. Although this is a long-term effort, we are measuring short-term results to track our progress since the brand activation began in May. A few examples of early performance indicators comparing the 90 days after activation to the 90 days before, our website visits were up 26%, mobile device traffic was up 66% and completed leads from our website increased 11%.

We also continue to evolve our sales and marketing activities to adapt to a changing marketplace. We have expanded our third-party call center from our initial pilot program. It is successfully handling inbound inquiries, qualifying leads, capturing contact data and routing it to the appropriate local sales staff.

In July, this call center routed 42,000 inquiries to our communities, up 24% from May. Furthermore, we are piloting an internal call center staff with sales specialists, whose responsibility is to cultivate relationships with our older leads from our lead bank of more than 200,000.

Since May, our internal call center has supported 27 communities and generated 290 visits and 39 move-ins. This group is also piloting a live Internet chat function on our website during selected hours, which is being positively received. All of these initiatives are about winning the race to make a faster, deeper connection with our prospects to establish their trust and present our solutions.

I'm also pleased with our second quarter expense management as the cost control initiatives we began in 2012 continue to bear fruit. Our second quarter senior housing operating expenses grew 2.6% over the second quarter of last year, resulting in a 50 basis point increase in our senior housing facility operating income margin.

As we have said before, we are later focused on growing organically by improving our operational sales and marketing effectiveness. We are also continuing to invest in renovating our portfolio to improve the competitive position of our communities in order to drive occupancy and rate growth. We have completed 7 Program Max projects so far this year, and we have 16 more under construction, with an additional 18 in active development. Reinvestment in our portfolio continues to be our highest priority for capital investment.

In addition, we are actively evaluating a number of acquisition opportunities. During the quarter, we acquired 2 communities and announced an agreement to acquire 7 more. We expect this 7-community transaction to close prior to the end of the third quarter, and we expect it to add $0.01 to $0.02 to full year CFFO per share. We remain a firm believer that the industry will continue to provide ample opportunities for consolidation. We have demonstrated ability to acquire and integrate assets and operations accretively, and we will continue to evaluate these opportunities.

In conclusion, our second quarter results, like those for the first quarter, demonstrated great deal of positive momentum for Brookdale in an economic and industry environment that is gradually strengthening. We believe Brookdale is favorably positioned for the significant long-term growth opportunities before us, as the differentiated leader in the senior living industry. We are confident that we have the talent, the platform and the resources to leverage these opportunities to produce long-term improvement in our financial results and, therefore, increase long-term shareholder value.

I want to thank all of our associates for their hard work each and every day, as they provide high-quality services and care to our residents and their families. Their focus on our mission of enriching lives is what makes the difference for so many people. I also want to thank each of you for your interest in Brookdale.

Now here is Mark to review our financial results in more detail.

Mark W. Ohlendorf

Thanks, Andy. Looking at our key non-GAAP financial performance metrics, we saw that excluding certain items from both periods, our cash from facility operations, or CFFO, for the second quarter totaled $74.8 million, an 8.1% increase over the second quarter of 2012. Adjusted EBITDA was $117.4 million, a 4.7% year-over-year increase.

For the first 6 months of 2013, CFFO was $114.7 million, again, excluding certain items from both periods or a 13.4% increase for the same period of 2012. Our same-community data for senior housing for the second quarter of 2013 compared to the second quarter of 2012 is illustrative of our solid quarterly performance. We produced a 3.1% increase in same-community revenue due to a 2.2% increase in revenue per unit, which was somewhat muted by sequestration and skilled nursing and an 80 basis point improvement in occupancy.

For the second straight quarter, our initiatives to manage same-community costs resulted in modest expense growth at 2.2%. We continue to see progress as we implement new systems and processes to improve the matching of labor required to provide quality services to our residents, with labor resources actually deployed, even as we add associates to accommodate occupancy growth.

Our systems and processes assess and document our residents' need and create staffing plans to provide the quality of care required for each resident on an individual basis. These systems then match our staffing to most effectively provide the services. Savings in our employee benefit plans, energy management initiatives and purchasing discipline also contributed to moderate our cost growth.

Senior housing same-community operating income grew 4.8% versus the second quarter of 2012 and 3.5% for the full 6 months of 2013 versus the same period of 2012. We drove top line consolidated revenue growth of 3.8% for the second quarter over the second quarter of 2012. Total occupancy grew by 80 basis points year-over-year.

Looking at the year-over-year growth in occupancy by segment, Retirement Centers were up 60 basis points; Assisted Living, up 80 basis points; and together, the 2 CCRC segments were up 40 basis points. Our overall sequential occupancy was down 20 basis points from the first quarter of 2013. This decrease was largely attributable to seasonal softness in our skilled senses.

Compared to the first quarter, the quarter average occupancy for our Assisted Living segment was up 30 basis points, and Retirement Centers were down 10 basis points. As Andy indicated, occupancy improved month-to-month during the quarter. But with the first quarter seasonal decline, the average for the second quarter declined slightly from the first. The latter part of the quarter was particularly strong, with June average occupancy up 50 basis points over May followed by a 20 basis point increase in July over June.

In the segments, the Retirement Centers July average occupancy was 90.3%, up from the recent low point in March of 89.2% and the Assisted Living segment July average occupancy was 89.8%, up from the recent low point in March of 89%. During the second quarter, we saw similar pricing strength, as we experienced in the first quarter, with a 2.5% year-over-year increase in senior housing average revenue per unit. Eliminating the effect of sequestration on our skilled rates, our senior housing rates grew by 2.7%.

Our ancillary services business produced $58.7 million of revenue, a 1.7% increase from the second quarter of 2012. We saw an increase in Home Health volumes, continuing to come from the maturation of the rollout to the former Horizon Bay communities. As we expected, ancillary operating income for the second quarter was down $2.2 million from the second quarter of 2012 for 3 main reasons that we've discussed before: One, a decrease in volume in our outpatient therapy business, as residents deferred therapy over fear of the new approval caps; two, a rate reduction in therapy and home health due to sequestration; and three, a rate reduction in outpatient therapy due to the change in the MPPR.

As we move forward, we expect continued growth in our ancillary services business, particularly in Home Health and hospice. We now have 9 hospice agencies in operation, 5 of which are in start up. We expect to open at least 3 additional hospice care markets before the end of 2013. We continue to anticipate that full year operating income for our ancillary services segment will approximate last year's performance.

General and administrative expense was $46 million for the second quarter of 2013. Included in our G&A cost is noncash stock-based compensation expense of $7 million in integration, transaction-related and EMR rollout cost of $3.6 million. General and administrative expenses for the quarter, excluding these 2 items, was $35.4 million, an 11.9% increase over the second quarter of 2012, consistent with our internal expectations.

This increase in G&A resulted largely from modest wage and compensation growth, increased software licensing and maintenance cost for recently installed systems and technology and additional field operations staff support and sales resources that we put in place in 2012 to support an increased portfolio size and to drive performance. G&A expense was 4.5% as a percentage of total revenue under management. Our Q2 spending on routine CapEx, which is reflected in CFFO, was $10.7 million.

Our capital structure is very sound. As of today, we've successfully refinanced all of our 2013 mortgage debt maturities. In fact, over the next 3 years, we have only approximately $205 million of mortgage debt to refinance because of the refinancings we've completed in the last year.

As we discussed last quarter, we also amended our line of credit to increase our borrowing capacity and to lower our interest cost. During the quarter, we exercise our option to increased the line commitment from $230 million to $250 million.

Finally, turning to guidance. We're encouraged by what we've accomplished with the rate growth, entry fee sales and cost management in the first half of the year. We're raising our CFFO per share guidance to a range of $2.35 to $2.45.

While we don't give specific quarterly guidance, we wanted to remind everyone that our third quarter is historically our highest expense period due to seasonal items such as utilities and one more day in the quarter than the second quarter. In fact, looking at the last several years, we've generally experienced flat to sequentially down CFFO performance in the third quarter compared to the second. This guidance includes a partial year's accretion from the 7 asset acquisition. Otherwise, it does not include the impact of future acquisitions or dispositions, nor the expenses from transaction, integration and EMR rollout cost.

We'll now turn the call back to the operator to begin the question-and-answer session. Operator?

Question-and-Answer Session

Operator

[Operator Instructions] Our first question will come from the line of Joshua Raskin with Barclays.

Joshua R. Raskin - Barclays Capital, Research Division

Here with Jack as well. Just wanted to follow up, Andy. I appreciate all the comment on the national marketing. And I'm just curious if there's ways that you guys can measure the success there? I'm curious if there's ways to sort of see how move-in trends compare in specific geographies, where the marketing's been heavier. How are you guys tracking the success on that? And then maybe any thoughts on local brand for your facilities relative to the Brookdale brand? And if you have any comments on that as well?

T. Andrew Smith

Yes, sure. The -- ultimately, the branding campaign, it's primary measurement will be, over time, we expect to see greater move-ins, better conversion rates and better occupancy rates. Right now, we are measuring -- on a short-term basis, we are measuring the -- how many leads get to our website, how long they stay on the website, the depth of their review of our website, how many leads come from mobile applications, which, of course, we think is where the world is tending to, where marketing is evolving to. So we're trying to attract all of these shorter-term metrics right now to see if the branding campaign and the branding activation is as effective as we believe it will ultimately be. We'll continue to track those. Again, as I said in my prepared remarks, all of those metrics are up fairly sharply comparing the 90 days before activation of the brand to the 90 days after. Our year-over-year leads on our -- from our mobile applications and from our website are up more than 17%, is my recollection. So all of those things, we think, are contributed -- or contributors to the branding activations. In terms of whether -- how do we think about local branding as compared to the national branding. Over time, we expect the name Brookdale, again, as I said, to be synonymous with the trusted senior living provider in this entire country. We think once this branding activation is actually taken full hold, that it's going to be hard for our competitors to emulate the strategy. So we would expect local brand equity to be diminishing over time as the brand equity and the name Brookdale is further established.

Jack Meehan - Barclays Capital, Research Division

This is Jack. Mark, I appreciate the color on the June, July occupancy. Could you talk just a little bit about the trends you're seeing Independent versus Assisted? And then is there anything at regional that you can point out about that?

Mark W. Ohlendorf

Nothing particular will be notable on a regional basis. If you look at kind of the end of the quarter after occupancy did its seasonal bottom and begin to recover, we've actually seen the stronger performance on the Independent Living side. We had a very strong 60- to 90-day run there.

Jack Meehan - Barclays Capital, Research Division

Okay. And then last one for me, for Andy. You mentioned you're evaluating a number of acquisition opportunities. Any sense for the type of scale you're looking at there? And then what sort of leverage you feel comfortable with?

T. Andrew Smith

Well, just like in the past, Jack, what we -- we're looking at large acquisitions, we're looking at small acquisitions. Our strategy here is to be opportunistic to find acquisitions that fit with our portfolio either by augmenting what we have, in particular, regional marketplaces or opening up new markets, where we aren't currently provided that we do so in scale. We're big believers in scale in terms of local geography. In terms of the leverage that we would expect, it's about 65% loan-to-value would be our ordinary course expectation.

Operator

Your next question will come from the line of Kevin Fischbeck with Bank of America Merrill Lynch.

Kevin M. Fischbeck - BofA Merrill Lynch, Research Division

Just wanted to get a sense, because, I think, the NIC data from Q2 kind of spooked some people. And now that we've seen a few of the company's report numbers, it feels like the number's a little bit better maybe than the NIC data implied. I just want to get a sense from -- obviously, you guys are showing some momentum, I mean, do you feel like -- that, generally, the industry is seeing the flow through from the economy and the housing market? Or do you attribute some of this improvement that your company more to some of the initiatives you mentioned before rather on marketing and everything else?

T. Andrew Smith

Well, Kevin, we believe that we're executing better, and we certainly intend to. But I would say that across the entire industry, you're -- what you've seen here is pretty much ordinary course seasonal expectations. First quarter saw often, general speaking, certainly, for us, and, I think, for the balance of the industry, you see occupancy improve over the course of the year. We expect that to continue.

Kevin M. Fischbeck - BofA Merrill Lynch, Research Division

Okay. So you feel like the fundamentals of the other business are really acting well broadly?

T. Andrew Smith

Yes, absolutely.

Kevin M. Fischbeck - BofA Merrill Lynch, Research Division

Okay. And then it's been a little while, since there's been a direct comment on a real estate transaction. I mean, everyday that goes by without you guys announcing something, it feels like -- that we should just kind of put that behind us and focus on the core fundamentals. But I don't know if there's anything that you would or could say about your view about unlocking, potentially, the value of the real estate of the company?

T. Andrew Smith

Yes. The -- again, I don't think we have much to add to what we've said in the past, Kevin. We think it's part of our job to continually assess our capital structure in order to maximize our shareholders' interest. We're doing that, but there's nothing that we can add at this point to what we've said previously.

Kevin M. Fischbeck - BofA Merrill Lynch, Research Division

Okay. And then last question, on the cost side, and that's been -- some of the best surprises so far this year is that you guys have done a good job on that. I guess how much more runway do you think you have on cost control? Or is it even more about growing the top line and just leveraging that?

Mark W. Ohlendorf

Well, it's really both. I mean, our objective here for the next several quarters is to continue to maintain cost growth levels that are under normal inflationary levels. Most of what we're doing on the cost structure side of things is optimizing. So these expense growth rates 2% or a little bit more, 2% to 3%. Our objective is certainly to continue those for a period of time there.

Operator

Your next question will come from the line of Ryan Daniels from William Blair.

Nick Halen

This is Nick Halen for Ryan Daniels. I was hoping you could talk about the recently announced relationship you formed with HealthStream, maybe in to regards, if you can just discuss how you believe the web-based training initiatives will benefit your workforce and impact costs? And second, any color on future -- on the future model to sell jointly developed training solutions to other entities? Will that have much of a revenue impact?

T. Andrew Smith

Good question. The HealthStream partnership that we just forged is all about trying to improve our training techniques, so that we can better empower the 48,000 folks who work here. So we're just trying to develop better web-based systems that more effectively train the folks that work here. It's as simple as that. We're very excited about this partnership. We think it's going to bear huge fruit, and it's really going to give us a big step forward. We've already been -- our learning network has spent a lot of time, a lot of effort and a fair bit of money, trying to make sure that our workforce is appropriately trained on a continuing basis. But do we think this partnership is going to take us to a new level? It's too early to tell right now, right? We are much more concerned internally with Brookdale. We're doing what I just said, in terms of better training our current workforce. So it's too early to predict exactly how much revenue would be associated with exporting these programs to other players. But we'll update you on that as we move through the process.

Nick Halen

Okay, great. And could you remind us what you're doing internally to mitigate some of the margin pressures on the ancillary services business, given the rate cuts and the other pressures you mentioned?

Mark W. Ohlendorf

Well, certainly, we're doing everything we can to reduce cost and mitigate cost inflation over time. I think our situation in that business is simpler to what you've seen in some of the other larger operators of home care and outpatient therapy. The advantage we have going in is the infrastructure and overhead cost in that business for us is more efficient, because it's bolted on to the big senior housing platform. But it's largely a cost mitigation, cost control strategy as you a go forward.

Nick Halen

Okay. And just one quick question. Could you give us an update on the EMR rollout? In what areas you've put that in, and your remaining cost, and if you're starting to see any benefits from that initiative yet?

Mark W. Ohlendorf

Sure. We finished the rollout of EMR in our home care business earlier this year. So we're beginning to see -- you kind of have to run out all of your resident activity from the prior system, admit folks on the new system before you begin to see all the benefits. I think we're clearly seeing some significant benefits around the sort of compliance and general efficiency of the home care operation. So that's been successful. We're in the middle of rolling out EMR to our Outpatient Therapy business right now. That activity will continue through the end of this year, and then that transition process of admitting new folks onto the new system and kind of running through the service episode of folks in the prior system will continue as we go into early next year. And then as we go through the second half of this year and into next year, we'll be focused on some further EMR activities on the skilled nursing side and assessing the best course of action with assisted living. So we'll be pretty active with EMR, I suspect, at least through 2014.

Operator

You're next question will come from the line of Frank Morgan with RBC Capital Markets.

Frank G. Morgan - RBC Capital Markets, LLC, Research Division

I was hoping you could give us a little bit of commentary, what you're seeing with regard to the rate environment around the country? I think you commented on occupancies. But I'm just curious what you're seeing from -- on a competitive landscape? What your competitors are doing with rates today?

T. Andrew Smith

Yes. The -- I'd say that we think the rate environment -- we think we're doing a little better than our competition in terms of our ability to increase rate. I mean, it's still a competitive marketplace, it's not back where it was in 2006 or so. But as we indicated, we're doing a little bit better than we expected. And we think we're doing a little bit better than the competition. After the balance of the year, we expect a gradual rate improvement, reflecting an improved environment and higher occupancy that we've enjoyed.

Frank G. Morgan - RBC Capital Markets, LLC, Research Division

Okay. And then my second question on the net entry fee proceeds that you're getting, you, obviously, had a very good quarter. I'm just curious, how should we think about that with the balance of the year? What did you really have modeled in. And the dynamic between the receipts and the payouts. I know, in the past, there've been a period where payouts have been -- you had predicted, at some point, you would see a pickup in the net number, because you had already sort of prefunded, if you will, the payouts. I'm just curious, is this dynamic that we're seeing right now kind of where it should be? Or should anything change there? And how does that affect numbers, going forward?

Mark W. Ohlendorf

I'm not sure we would necessarily change our guidance in a meaningful way right now, Frank. We're performing marginally ahead of our internal expectation, which, of course, colored our guidance for the year. We are beginning to fill a lot of vacant units in the entry fee portfolio. So the number of units we have that don't have refund attachments is shrinking over time. In fact, in the quarter, refunds were a little bit higher than we would've expected, but the increase in sales volume more than covered it. So I think the general answer to your question is that the kind of the transactional activity there with sales and refunds, it's probably a relatively normal level right now. And I'd expect the year will be slightly ahead of what we originally guided but not dramatically.

Frank G. Morgan - RBC Capital Markets, LLC, Research Division

Okay. And then just last one. On the acquisition, you talked about still looking. Is anything changed there? I mean, do you sense that the market is -- that people are more receptive to selling now? Or is that just -- you're just kind of more of the same?

T. Andrew Smith

I'd say more of the same, Frank. I mean, there's a lot of opportunity, a lot of activity out there. Obviously, the interest rate environment's changed a little bit here. That may affect pure-spread investors view, a smidge but I don't think there's anything to remark upon. There are plenty of opportunities for us to pursue, and we're doing that.

Operator

Your next question will come from the line of Daniel Bernstein with Stifel.

Daniel M. Bernstein - Stifel, Nicolaus & Co., Inc., Research Division

Back to the acquisitions. I was trying to think about the trade off between building and acquiring at this point. You built a little bit in the past. Do you find construction development, at all, attractive here versus building? And maybe you can talk a little bit about if you were going to build today what the cost, say, per unit would be for your -- for CCRC and IL or AL replacement cost versus buying?

Mark W. Ohlendorf

Well, let me start this off, and we'll kind of pass it around the rim a little bit, Dan. Remember when we're doing expansions and additions to our existing portfolio, we're operating with some knowledge on the markets that you almost can't apply to acquisitions, right? So if we've got a scale of market -- we don't have dementia care in that market, let's say, just as an example. We know how many customers we move around internally that could use Dementia care. We have a pretty good sense of where Dementia care would best be deployed in the market from a geographic standpoint. What the customers in that market like. So not surprisingly, when we do additions and expansions, we see the highest returns of any capital we deploy, because we're operating with the level of understanding on the market that you almost can't apply in other areas. In terms of the numbers on construction cost, that varies a lot depending on the market. If you had to pick an average, it's...

T. Andrew Smith

$180,000 to $200,000.

Mark W. Ohlendorf

$180,000 to $200,000 is probably a good general average, but that could vary by 30%, 40%, 50%, depending on what market you're in.

Daniel M. Bernstein - Stifel, Nicolaus & Co., Inc., Research Division

Okay, but that's not ground up. That's just on the expansions and additions. I was thinking even more in terms of -- you're doing something like you did in the villages, where it's ground-up kind of development?

Mark W. Ohlendorf

Yes. That one's a little bit hard to reason from, because that's an entry fee community, which is a different animal than some other product types. That particular development would've been well over $300,000 a unit, but it's a very different kind of project as well.

Daniel M. Bernstein - Stifel, Nicolaus & Co., Inc., Research Division

Right, right. And have you looked at the Memory Care product, because that's, obviously, a very -- becoming very popular on the development side, freestanding Memory Care. Do you have a significant number of freestanding Memory Care as you look at that product? And how do you view that competition versus Memory Care within your existing facilities, AL, Memory Care or within your CCRCs? Do you feel freestanding Memory Care is a significant competitor to your product?

T. Andrew Smith

There are a lot of questions in there. I'll take a crack at it, and Mark can add in. Yes, we do have a number of freestanding Memory Care communities. Our perspective is that where we can have more elements of the continuum of care on one campus, that's better. So while we think a freestanding Memory Care product is a good one, we would rather have it coupled with assisted living or various levels of Memory Care. That's just part of our fundamental philosophy about how best to position a portfolio. There is a lot of new freestanding Memory Care that's been announced or at least has been talked about in terms of new construction. We're mindful of that, and we keep a close eye on it. We are not terribly concerned about all of that new announced construction, at least at this point. The absorption level is still probably 2 times what the new construction is. And when we look at our local markets, our competitive -- our folks who monitor the competitive landscape, along with our local folks are always watching out for new products. We see very little that are actually in our local submarkets. And in the isolated circumstances where we do see a new competitor that's broken ground and is going to come out of the ground, we develop plans very early to deal with that new competition and actually accelerate our capital expenditure program to make sure that we can compete effectively with that new competitor. But it's really for our local submarkets across the entire country a pretty limited number of new competitors that we see creating new de novo construction. So again, we're mindful and we're watchful, but we're not too terribly concerned right now.

Daniel M. Bernstein - Stifel, Nicolaus & Co., Inc., Research Division

Okay. One last question here. If we can go back over the impact of sequestration on -- in the quarter on the private pay senior's housing in terms of the skilled -- in terms of operating margin, you kind of went over that on the year-over-year. And I'm not sure I heard it on the quarter itself. What was the impact on operating margin, if you took skilled nursing sequestration out? And maybe what would be the rate growth -- where might be your average monthly rents if you took the sequestration out for this?

Mark W. Ohlendorf

Okay. There's kind of multiple answers to your question there. If you removed skilled nursing from the same-store comps -- all of skilled nursing, our same-store rate growth goes from, I believe, 2.2% to 2.7%, okay? The actual dollar impact in skilled nursing of sequestration in the second quarter is about $650,000, $700,000.

Daniel M. Bernstein - Stifel, Nicolaus & Co., Inc., Research Division

Okay. On the revenue side, or the income side?

Mark W. Ohlendorf

Well, the same thing.

Operator

Your next question will come from the line of Dana Hambly with Stephens.

Dana Hambly - Stephens Inc., Research Division

Mark, I appreciate you giving the July versus March numbers in the Retirement Centers and the AL, obviously, a huge improvement there. But I want to make sure I'm not getting ahead of myself, so I'm assuming that the CCRC occupancy was not more flatfish with where we were at the end of March?

Mark W. Ohlendorf

Yes. Actually, the skilled nursing component of the CCRCs accounts for the lion share of the occupancy decline from Q1 to Q2.

Dana Hambly - Stephens Inc., Research Division

Okay, that's fair.

T. Andrew Smith

Now, Daniel, what we expect and have begun to see at least early is that the second quarterly is soft for us seasonally in the skilled senses. But it, generally, begins to start to build around June through the balance of the year. And we saw that beginning in June -- I'm sorry, in July, and we expect it to continue through the balance of the year.

Dana Hambly - Stephens Inc., Research Division

Right, okay. So occupancy looks like it continues to improve through the rest of the year. Third quarter, high-expense quarter, so maybe looking at flattish to slightly down on the net CFFO number in the third quarter?

Mark W. Ohlendorf

Right.

Dana Hambly - Stephens Inc., Research Division

Okay. And just, Andy, you mentioned that reinvesting in the portfolio is priority #1. I think in the past, you've talked about returns on the Program Max investment. Can you just remind me kind of the level of spending going in the Program Max this year? And maybe you thought about it for next year? And where the returns on those investments are?

Mark W. Ohlendorf

Dana, it's Mark. Let me give you kind of the high-level numbers here. Initial guidance for the year was to deploy $60 million to $80 million of net cash in Program Max. Now that's not the same as the project cost, right, because we're working with a fair number of leased assets here. The gross number, I think, is $150 million or so. Now we don't see the returns right away. We have to get the capital deployed, build the assets, open the assets and fill them up. So while we target mid-teens yields on -- based on project costs, you probably don't see that until 3 to 4 quarters after the project opens and has an opportunity to stabilize. So I think, when we do our guidance for next few year, we will do our best to show you what's going on with Program Max. But I wouldn't expect you're going to see a significant economic effect of our new class of projects in the current year.

Operator

There are no further questions at this time. I would turn the conference over back to Mr. Roadman for any further remarks.

Ross C. Roadman

Thank you, Regina. With that, we, again, thank you for your participation, management will be around all day if you have some follow-up questions. With that, thank you very much.

Operator

Ladies and gentlemen, this does conclude today's conference. Thank you, all, for joining and you may now disconnect.

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