COMPANY UPDATE/ESTIMATE CHANGE Key Metrics FFO HR - NYSE - (2/14/2018) $27.70 Prior Current Prior Current Price Target N/A 2009 2010E 2010E 2011E 2011E 1Q 52-Week $0.51 Range -- $0.51 E $27.48 - -- $36.25 2Q Shares Outstanding $0.47 -- (mm) $0.51 E -- 125.1 3Q Market Cap. $0.49($mm) -- $0.52 E -- $3,465.3 4QE $0.48 -- $0.53 1-Mo. Average Daily Volume E -- 784,000 Year $1.95 $2.07 $2.07 E -- $2.20 E Institutional Ow nership 96.2% P/E 14.0x 13.2x 13.2x N/A 12.4x Debt/Total Capital Dec-17 24.3% Revenue Est 3-year ($mm) FFO Grow th Rate Est 3-year Dividend Prior GrowCurrent th Rate Prior 4.0% Current 0.0% 2009 Book Value 2010E 2010E 2011E 2011E $ 14.13 1Q $17.7 -- $17.8 E -- Dividend 2Q $17.4 -- $18.1 E -- $ 1.20 3Q Dividend $17.3 Yield -- $18.4 E -- 4.33% 4QE Est. Fixed $17.3 Charge Coverage -- $18.8 E -- 4.8X Year $69.7 $73.1 E -- $78.0 E FFO Company Description: LTC Properties, Prior Current Inc., headquartered 2016 in Westlake 2017 Village, California, 2018E is a2018e real 1Q estate investment $0.41 trust -- (REIT) $0.39 that invests $0.41 primarily in $0.40 longterm healthcare facilities through mortgage loans and direct 2Q $0.42 -- $0.39 $0.43 $0.41 real estate property ownership. 3Q $0.39 -- $0.38 $0.42 $0.39 4Q $0.41 -- $0.38 $0.43 $0.40 Year $1.63 $1.53 $1.69 * $1.60 P/E 17.0x 18.1x 17.3x * - May not add due to rounding, numbers historical, not adjusted Revenue ($mm) Prior Current 2016 2017 2018E 2018E 1Q $ 100.0 -- $ 104.6 $ 112.0 $ 111.9 2Q $ 102.6 -- $ 105.2 $ 114.3 $ 112.6 3Q $ 103.7 -- $ 107.0 $ 116.4 $ 115.0 4Q $ 105.3 -- $ 107.7 $ 118.4 $ 118.2 Year $411.6 $424.5 $461.1 $457.7 Company Description: Healthcare Realty Trust, Inc., headquartered in Nashville, Tennessee, is a real estate investment trust (REIT) that invests primarily in properties associated with the delivery of healthcare services through mortgage loans and direct real estate property ownership. The company also undertakes development of the same class of properties. Healthcare Real Estate Investment Trusts John Roberts J.J.B. Hilliard, W.L. Lyons, LLC 502.588.1165 / jmroberts@hilliard.com Institutional Sales Desk: George Moorin 502.588.9141/GMoorin@hilliard.com February 15, 2018 Healthcare Realty, Inc. HR -- NYSE Underperform-2 Conference Call Update Investment Highlights We are fine-tuning our estimate for HR s 2018 FFO to $1.60 a share, six cents below the consensus. We anticipate that we should see some positive near term growth around higher return development and redevelopment activity over the coming two years, which will be somewhat offset by dilutive asset sales. Net operating income (NOI) growth should remain above the norm for the medical office property (MOB) group due to the company s on-campus product mix. We are initiating a 2019 FFO estimate of $1.71 a share, compared to the consensus of $1.75 a share. We are assuming net investment in 2018 of around $195 million, slightly above management guidance. As we have noted many times before, HR s focus is on the medical office building (MOB) sector, particularly oncampus assets, something that could keep it in better stead than its peers in the current environment. We are retaining our Underperform rating on HR shares. While HR shares have come down with worries about increased interest rates, they remain at a premium, both from a multiple and dividend perspective. It trades at a more than 40% premium to even those companies with large MOB exposure. We are very much value-oriented in our recommendations, and valuation is above what we believe is appropriate, especially in light of the level of valuation in the peer group. Further, recent fundamentals have not been supportive of the premium valuation with a lack of dividend increases and FFO growth. We will need to see some positive momentum on these fronts before we can recommend the stock in light of current valuation levels and we just don t see that positive momentum occurring over the next several years. Note Important Disclosures on Page 6-7. Note Analyst Certification on Pages 6.
Additional Conference Call Discussion Management noted the continued transition of the property portfolio moving towards on-campus, multitenant MOB properties and away from single tenant properties and those not directly on property campuses. They find these properties to be lower risk and offering higher future growth. This transition will continue in 2018 and likely in 2019 and 2020 as well. With the current cash returns lower on the targeted assets versus those being purchased, the company will likely continue to see dilution on these transactions over the next several years. The expectation is that the positive fundamentals of the properties the company is transitioning into will increase long term growth and value. From a bottom line perspective, this has not occurred over the past four years. On the property fundamentals side, HR continues to provide solid operating metrics on its portfolio. Occupancy in the same store portfolio moved up ten basis points from the year earlier period to 89.4%. Rental rate increases provided a small amount of growth and were up 2.8% on the multi-tenant and 2.1% on the smaller single tenant portfolio, and were even higher at 3.7% for renewals on the multi-tenant portfolio. The retention rate sits at 81.9%. Looking at operating financials, Q4 property same store NOI showed an increase of 4.5%. Management noted that for the full year same store NOI growth was 4.1%. They are looking for same store property NOI growth continuing to be above the industry average for 2018 due to the strength of the property portfolio, on-campus locations and strong relationships that lead to higher yielding development activity. Management discussed its ongoing development activity, noting its low risk strategy of concentrating on existing tenants in markets where it already does business. These ongoing projects should provide incremental positive returns when completed. The two the company is currently working on should both be complete by early 2019, and are anticipated to cost just over $75 million. The return on these developments is anticipated to be solidly above acquisitions, in the 7-7.5% area. Management noted it would continue to discuss expansion and re-development opportunities with existing tenants as leases roll and sees some additional redevelopment activity with recent purchases. In looking at the acquisition environment, management noted that the cap rate environment remains challenging and expects to complete acquisitions in the 5.25-6.0% range and anticipates a total of $175-$225 million in purchases for the full year. In discussing last year s acquisitions, management noted a blended cap rate of 5.4%. In looking at asset sales, management noted that it received an average cap rate of about 7.0% on the $110 million in properties it sold in 2017, which is very dilutive in light of the cap rate of purchases as noted above. Management looks to be selling as much as $100 million in assets in 2018, and expects to close on one sale, a $45.5 million sale of a portfolio of seven properties in April at a cap rate consistent with what was sold in 2017. Beyond 2018, management anticipates around $50 million in divestitures annually over the next several years. Management was questioned on the dividend and noted the tight spread between the current payment and the cash available for distribution, a situation that will not be improved by the dilutive actions that the transition of the portfolio causes. As such, investors should not expect that an increase in the dividend is coming any time soon. 1st Quarter and 2018 Outlook Following our look at the fourth quarter and discussion with management, we are fine-tuning our Q1 FFO estimate to $0.40, and our full year 2018 estimate to $1.60 a share. The positive contribution from HR s recent purchases and the increased contribution from the development activity is being largely offset by the dilution from asset sales resulting in little near term upside to the bottom line. We also note that expenses are higher on the company s new properties, which is also pressuring the bottom line. We are assuming total net acquisitions and investments of $195 million including the impact of likely divestitures. We expect the cap rate environment to improve a little with the higher rate environment, although that will largely be offset by the higher cost of funding. At this point we are assuming no additional equity issuance other than Hilliard Lyons Equity Research 2 REITs
a modest amount from the ATM program, which we believe is reasonable in light of the drop of leverage with debt to total market capital ratio now well below 30%. Our estimate compares to the consensus number of $1.66 for 2018. Our initial projection for 2019 FFO is $1.71, below the consensus of $1.75 a share. Valuation and Rating Using our $1.60 a share estimate for 2018, HR shares are trading at 17.3 times current year s FFO. This is a large premium to the company s peer group, as shown in the below. Further, the company s yield remains well below that of the peer group. And while the fundamentals of the company s properties are good at the current time, we do not believe that this is enough to justify the current premium, which is over 40%. As such, we do not believe that HR is attractive on a valuation basis. And while the fundamentals and cash flow growth should be strong and at a premium to other asset classes, we have an issue on the potential for such long-term excess returns to continue beyond a defined period of time. We also note that we have expected the company to see such growth over the past several years and it has not materialized, leaving us in a wait and see mode. Further, the dilutive swaps of assets, while they may benefit the company longer term, have held back growth over the past three or four years and are likely to continue to do so over the next couple of years. HR s property mix has been and may continue to be one of the most sought after by investors and acquirers, with its low level of government reimbursement and lack of exposure to skilled nursing. However, such excess returns and low cap rates typically attract new investment. As such, we believe the current valuation metrics support our Underperform rating in spite of improving and likely accelerating fundamental performance. Health Care REITs Closing Price Current 2017E 2-Year Average Price / FFO Symbol 2/14/2018 Dividend Yield Payout Ratio 2017E 2018E Growth Rate 2017E 2018E Welltower, Inc. HCN $54.15 $3.48 6.4% 81.1% $4.29 $4.25-3.4% 12.6x 12.7x National Health Investors NHI $63.33 $3.80 6.0% 73.2% $5.19 $5.40 5.3% 12.2x 11.7x Physician's Realty Trust DOC $14.88 $0.92 6.2% 75.4% $1.22 $1.32 16.1% 12.2x 11.3x HCP, Inc. HCP $21.77 $1.48 6.8% 75.9% $1.95 $1.81-18.7% 11.2x 12.0x Ventas, Inc. VTR $49.62 $3.16 6.4% 76.0% $4.16 $4.10-0.4% 11.9x 12.1x LTC Properties, Inc. LTC $37.31 $2.28 6.1% 72.2% $3.16 $3.34 4.5% 11.8x 11.2x Health Care Sector Average $40.75 $2.57 6.3% 76.1% $3.36 $3.38-1.1% 12.1x 12.1x Healthcare Realty HR $27.70 $1.20 4.3% 75.0% $1.56 $1.60-0.9% 17.8x 17.3x Note: DOC is rated Long-term Buy, NHI, VTR, LTC and HCP Neutral and HCN Underperform by Hilliard Lyons. Source: NAREIT, Baseline and Hilliard Lyons' estimates. Note, HR, HCP and VTR 2017 numbers are actuals. Suitability HR has a suitability rating of 2 on our 1-4 scale, which we pushed up from 3 due to the recent equity offering. We find the company to have a strong balance sheet, and its tenant base is very diversified with a number of small tenants, as well as larger, credit tenants. Its lease rolls are also solid, with leases rolling off over an extended period of time. Its real estate ownership is also a positive factor, as is the company s geographic and operator diversification. On the other hand, the company is focused on a single asset class, albeit one that is relatively well thought of by investors currently. This reliance on medical office buildings could also be an issue if changes arise in doctor reimbursement. Risks There are a number of risks in owning HR shares and REITs as an investment group. REITs in general need access to debt capital to grow, if such debt capital is unavailable, the company may have difficulty in growing. The company s dividend is attractive to shareholders and REITs in general could see their prices decline if rates rise, as investors switch to lower risk, higher yielding bonds, potentially hurting HR s share price. Because of their thirst for debt, changes in interest rates can also impact a REIT s cash flow and Hilliard Lyons Equity Research 3 REITs
ability to make accretive acquisitions. HR s current capital structure and falling cash flow may limit its ability to make larger acquisitions. It is always possible that the company could make a poor acquisition in the future. HR s geographic exposure to Texas might be an issue should energy prices collapse. The company s construction business, while small, does create some additional issues versus those REITs that just own and lease properties. Annual yield is calculated by dividing the distribution amount by the current market price of the security. For US income tax purposes, the Company may classify all or a portion of its distributions as dividends or other non-dividend distributions. Note that for some investors, for US income tax purposes all or a portion of the Company s 2017 dividend or distribution was treated as return of capital and not as dividend income as reflected on the IRS Form 1099-Div for the 2017 tax year. The Company generally makes a final determination regarding the proper tax treatment of distributions after calendar year end. We urge each shareholder to consult with his or her own tax advisor to determine the tax consequences of the distributions received, including any state, local or foreign tax considerations. Hilliard Lyons Equity Research 4 REITs
Table 1. Consolidated Income Statement In Thousands 2014 2015 2016 2017 2018E Year Year Q1 Q2 Q3 Q4 Year Q1 Q2 Q3 Q4 Year Q1 Q2 Q3 Q4 Year Master Lease Rent $0 $0 $0 $0 Property Operating/Rental Income $365,006 $383,333 $98,740 $101,472 $102,534 $104,736 $407,482 $104,088 $104,869 $106,561 $107,333 $422,851 $111,452 $112,221 $114,576 $117,758 $456,007 Straight Line Rent $0 $0 $0 $0 $0 $0 $0 $0 $0 $0 $0 $0 $0 $0 $0 $0 $0 Mortgage Interest $3,666 $91 $0 $0 $0 $0 $0 $0 $0 $0 $0 $0 $0 $0 $0 $0 $0 Other $5,669 $5,047 $1,281 $1,170 $1,125 $573 $4,149 $481 $376 $392 $398 $1,647 $413 $416 $425 $437 $1,691 $374,341 $388,471 $100,021 $102,642 $103,659 $105,309 $411,631 $104,569 $105,245 $106,953 $107,731 $424,498 $111,865 $112,637 $115,001 $118,195 $457,698 Expenses General & Administrative $22,824 $26,925 $10,246 $8,129 $8,724 $8,707 $35,806 $9,280 $8,005 $8,021 $8,272 $33,578 $9,509 $8,166 $8,798 $8,983 $35,455 Property operating expense 135,631 140,195 35,406 36,263 37,504 37,285 146,458 37,834 38,184 40,626 40,590 157,234 40,568 40,905 43,825 44,689 169,988 Acquisition expense - - - - - - - - 785 507 302 1,594 250 200 200 200 850 Impairments - - - - - - - - - 5,059-5,059 - - - - - Bad Debt Expense, net 31 (201) (39) 78 (47) (13) (21) 66 105 14 (17) 168 - - - - - Interest Expense, net 71,903 65,442 14,852 14,722 13,636 13,839 57,049 14,159 14,239 14,107 13,707 56,212 14,136 14,616 15,131 15,698 59,581 Amortization 10,820 10,083 2,700 2,762 2,712 3,033 11,207 3,040 - - - 3,040 - Other - 9 - - - - - - - - - - - - - - - Depreciation 100,586 106,529 27,693 28,528 29,273 30,989 116,483 31,412 34,823 35,873 37,324 139,432 38,052 38,367 38,813 39,522 154,753 Total Expenses $341,795 $348,982 $90,858 $90,482 $91,802 $93,840 $366,982 $95,791 $96,141 $104,207 $100,178 $396,317 $102,515 $102,253 $106,767 $109,091 $420,627 Income from Operations $32,546 $39,489 $9,163 $12,160 $11,857 $11,469 $44,649 $8,778 $9,104 $2,746 $7,553 $28,181 $9,350 $10,384 $8,234 $9,103 $37,071 Minority interests ($313) $0 $0 $0 $0 $0 $0 $0 $0 $0 $0 $0 $0 $0 $0 $0 $0 Other income/loss $0 $78 $0 $0 $0 $74 $74 $0 ($5) $419 $279 $693 $0 $0 $0 $0 $0 Oper. Income from discontinued opers. $629 $16,276 ($7) ($12) ($23) $40,894 $40,852 $0 $0 $0 $0 $0 $0 $0 $0 $0 $0 Income taxes $0 $0 $0 $0 $0 $0 $0 $0 $0 $0 $0 $0 $0 $0 $0 $0 $0 Impairments ($3,105) ($37,094) $0 ($4) $0 $0 ($4) ($323) $0 $0 ($44,983) $0 $0 $0 $0 $0 $0 (Loss)/Gain on sale of assets $2,130 $50,687 $0 $1 $0 $0 $1 $23,390 $16,125 $8 $0 $39,523 $0 $0 $0 $0 $0 Income Bef. Preferred div $31,887 $69,436 $9,156 $12,145 $11,834 $52,437 $85,572 $31,845 $25,224 $3,173 ($37,151) $68,397 $9,350 $10,384 $8,234 $9,103 $37,071 Preferred dividends $0 $0 $0 $0 $0 $0 $0 $0 $0 $0 $0 $0 $0 $0 $0 $0 $0 Net Income for common $31,887 $69,436 $9,156 $12,145 $11,834 $52,437 $85,572 $31,845 $25,224 $3,173 ($37,151) $68,397 $9,350 $10,384 $8,234 $9,103 $37,071 Per share bef. Extra $0.33 $0.70 $0.09 $0.12 $0.10 $0.45 $0.78 $0.28 $0.22 $0.03 ($0.31) $0.58 $0.08 $0.08 $0.07 $0.07 $0.30 Extraordinary item $0.00 $0.00 $0.00 $0.00 $0.00 $0.00 $0.00 $0.00 $0.00 $0.00 $0.00 $0.00 $0.00 $0.00 $0.00 $0.00 $0.00 Net (loss) income per share $0.33 $0.70 $0.09 $0.12 $0.10 $0.45 $0.78 $0.28 $0.22 $0.03 ($0.31) $0.58 $0.08 $0.08 $0.07 $0.07 $0.30 Quarterly dividend rate $1.20 $1.20 $0.30 $0.30 $0.30 $0.30 $1.20 $0.30 $0.30 $0.30 $0.30 $1.20 $0.30 $0.30 $0.30 $0.30 $1.20 Shs Outstanding (diluted) 96,744,500 99,888,250 102,165,000 104,770,000 115,052,000 115,408,000 109,348,750 115,507,000 115,674,000 119,181,000 123,105,000 118,366,750 123,308,125 123,511,250 123,737,056 123,962,863 123,629,824 Table 5. Funds From Operations Calculation In Thousands 2016 2017 2018E Year Year Q1 Q2 Q3 Q4 Year Q1 Q2 Q3 Q4 Year Q1 Q2 Q3 Q4 Year Net income for common shareholders $31,887 $69,436 $9,156 $12,145 $11,834 $52,437 $85,572 $31,845 $25,224 $3,173 ($37,151) $68,397 $9,350 $10,384 $8,234 $9,103 $37,071 Add Back: Depreciation 108,859 114,533 30,800 31,716 32,557 34,699 129,772 35,555 35,421 36,478 37,869 145,323 39,174 39,498 39,958 40,687 159,318 JV Adjustment - - - - - - - - - - - - - - - - - Other $1,235 $41,871 $0 $229 $0 $0 $229 $915 $0 $0 $0 $0 250 200 200 200 850 Non-recurring Deduct: Gain/loss on sales of real estate ($666) ($65,863) $1,707 ($1) $730 ($40,001) ($37,565) ($23,390) ($15,334) $5,573 $46,073 ($39,523) $0 $0 $0 $0 $0 FFO Available for common $141,315 $159,977 $41,663 $44,089 $45,121 $47,135 $178,008 $44,925 $45,311 $45,224 $46,791 $174,197 $48,774 $50,082 $48,392 $49,991 $197,239 Diluted FFO available for common $141,315 $159,977 $41,663 $44,089 $45,121 $47,135 $178,008 $44,925 $45,311 $45,224 $46,791 $182,251 $48,774 $50,082 $48,392 $49,991 $197,239 Basic FFO per share $1.46 $1.61 $0.41 $0.42 $0.39 $0.41 $1.63 $0.39 $0.39 $0.38 $0.38 $1.48 $0.40 $0.41 $0.39 $0.40 $1.60 Diluted FFO per share $1.46 $1.60 $0.41 $0.42 $0.39 $0.41 $1.63 $0.39 $0.39 $0.38 $0.38 $1.54 $0.40 $0.41 $0.39 $0.40 $1.60 Shares, basic 96,505,000 99,538,250 101,815,000 104,420,000 114,702,000 115,058,000 108,998,750 115,157,000 115,324,000 118,831,000 122,755,000 118,016,750 122,958,125 123,161,250 123,387,056 123,612,863 123,279,824 Shares, diluted 96,855,000 99,888,250 102,165,000 104,770,000 115,052,000 115,408,000 109,348,750 115,507,000 115,674,000 119,181,000 123,105,000 118,366,750 123,308,125 123,511,250 123,737,056 123,962,863 123,629,824 Table 6. Funds Available for Distribution Calculation FFO Available for common $141,315 $159,977 $41,663 $44,089 $45,121 $47,135 $178,008 $44,925 $45,311 $45,224 $46,791 $174,197 $48,774 $50,082 $48,392 $49,991 $197,239 Less: Recurring real estate CAPX ($12,900) ($13,900) ($2,950) ($3,000) ($3,050) ($3,075) ($12,075) ($2,950) ($3,000) ($3,050) ($3,075) ($12,075) ($2,950) ($3,000) ($3,050) ($3,075) ($12,075) Debt adjustments $0 ($4,750) ($1,200) ($1,200) ($1,200) ($1,150) ($4,750) ($1,200) ($1,200) ($1,200) ($1,150) ($4,750) ($1,200) ($1,200) ($1,200) ($1,150) ($4,750) Other $0 $0 $0 $0 $0 $0 $0 $0 $0 $0 $0 $0 $0 $0 $0 $0 $0 Funds available for distribution $128,415 $141,327 $37,513 $39,889 $40,871 $42,910 $161,183 $40,775 $41,111 $40,974 $42,566 $157,372 $44,624 $45,882 $44,142 $45,766 $180,414 Per share $1.33 $1.42 $0.37 $0.38 $0.36 $0.37 $1.48 $0.35 $0.36 $0.34 $0.35 $1.33 $0.36 $0.37 $0.36 $0.37 $1.46 Source: Company reports and Hilliard Lyons estimates Hilliard Lyons Equity Research 5 REITs
Additional information is available upon request. Analyst Certification I, John M. Roberts, hereby certify that the views expressed in this research report accurately reflect my personal views about the subject company(ies) and its (their) securities. I also certify that I have not been, am not, and will not be receiving direct or indirect compensation in exchange for expressing the specific recommendation(s) in this report. Important Disclosures Hilliard Lyons analysts receive bonus compensation based on Hilliard Lyons profitability. They do not receive direct payments from investment banking activity. Investment Ratings Buy - We believe the stock has significant total return potential in the coming 12 months. Long-term Buy - We believe the stock is an above average holding in its sector, and expect solid returns to be realized over a longer time frame than our Buy rated issues, typically 2-3 years. Neutral - We believe the stock is an average holding in its sector, is currently fully valued, and may be used as a source of funds if better opportunities arise. Underperform - We believe the stock is vulnerable to a price set back in the next 12 months. Suitability Ratings 1 - A large cap, core holding with a solid history 2 - A historically secure company which could be cyclical, has a shorter history than a "1" or is subject to event driven setbacks 3 - An above average risk/reward ratio could be due to small size, lack of product diversity, sporadic earnings or high leverage 4 - Speculative, due to small size, inconsistent profitability, erratic revenue, volatility, low trading volume or a narrow customer or product base. Hilliard Lyons Investment Banking Recommended Issues Provided in Past 12 Mo. # of % of Rating Stocks Covered Stocks Covered Banking No Banking Buy 31 28% 10% 90% Hold/Neutral 74 66% 9% 91% Sell 7 6% 0% 100% As of 7 February 2018 Hilliard Lyons Equity Research 6 REITs
Other Disclosures Opinions expressed are subject to change without notice and do not take into account the particular investment objectives, financial situation or needs of individual investors. Employees of J.J.B. Hilliard, W.L. Lyons, LLC or its affiliates may, at times, release written or oral commentary, technical analysis or trading strategies that differ from the opinions expressed here. J.J.B. Hilliard, W.L. Lyons, LLC is a multi-disciplined financial services firm that regularly seeks investment banking assignments and compensation from issuers for services including, but not limited to, acting as an underwriter in an offering or financial advisor in a merger or acquisition, or serving as placement agent in private transactions. The information herein has been obtained from sources we believe to be reliable but is not guaranteed and does not purport to be a complete statement of all material factors. This is for informational purposes and is not a solicitation of orders to purchase or sell securities. Reproduction is forbidden unless authorized. All rights reserved. Hilliard Lyons Equity Research 7 REITs