HCP's (HCP) 3Q earnings release on Tuesday (and subsequent conference call) was an important first step in clearing away some of the uncertainty stemming from the company's recent CEO change. Earnings for 2013 seem on track, the balance sheet remains in good shape, and the only excitement to be found in the P&L was a $26 million severance charge relating to the former CEO. That said, there were a lot of questions.
The first order of business was deal flow, and whether HCP intends to become slightly more aggressive (or more than slightly) in looking at new deals. Judging from some of the questions on the call, there does seem to be a view that the company has been lagging on the growth front. That perception may have been especially acute this quarter when competitor Ventas (VTR), reported $1.3 billion of new investments compared to only $55 million for HCP. While CEO Lauralee Martin has been on the job for less than a month, she did seem to suggest that HCP was reviewing a number of domestic transactions, and is well-positioned to compete for deals in the U.K. following the successful Barchester debt investment.
The next item of interest was the recent performance of HCP's Manor Care portfolio (29% of revenues), where trailing 12-month lease coverage remains on the skimpy side at 1.19x versus about 1.5x for the rest of HCP's post-acute/SNF facilities. HCP did point to HCR Manor Care's increased market share, cost saving initiatives and recent 1.2% Medicare rate increase as positive signs that could improve metrics in 2014. While coverage remains adequate for the time being, scheduled rent escalations will work against operating improvements at the property level.
This particular earnings call was also notable for a number of analysts trying to dig deeper into the Board's decision to terminate the former CEO, Jay Flaherty. Boardroom coups are rare in the staid world of health care REITs, and this may have been the sell-side's last opportunity to glean some additional insight into Flaherty's termination. To no one's surprise, Martin kept firmly to the script and would only point to HCP's higher staff turnover (four CFO's in 10 years for example) and need for a more inclusive management style as key factors in the Board's decision.
On a positive note, HCP's balance sheet seems to be in good shape and ready to support a potential uptick in deal flow. Book leverage at the end of 3Q was only 40%, with $1.2 billion of untapped borrowing capacity on the corporate revolver. HCP's dividend payout is manageable (for a REIT) at 87% of estimated 2013 FAD (ex-items). Although HCP's strategy over the last several years has been to reduce the dividend payout ratio by keeping dividend growth low, the Board might be feeling increased pressure to be more generous in 2014. A new CEO, a higher interest rate environment, and a healthy 9% increase in 2013 core FAD all point to something stronger than last year's 5% dividend increase.
In summary, there didn't seem to be any surprises in HCP's latest earnings release, the CEO severance charge was on the reasonable side of egregious, most of the portfolio is ticking along nicely, the Manor Care pool is an exception but unlikely to cause issues anytime soon, and HCP's financial underpinnings are sound. The stock has also recovered from its brief swoon relating to the CEO change.
At Wednesday's closing price of $42.31 (5.0% dividend yield) we would continue to hold HCP within the context of a diversified net-lease portfolio, although fresh money buys might be better directed into VTR or Health Care REIT (HCN) for the time being. That said, any minor difference between the stock performance of peers HCP, HCN or VTR has the potential to be swamped by market volatility related to QE-tapering. Positioning the sector, rather than positioning within the sector, should be investor's primary focus.