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Health Care REIT May 13, 2010

Posted by shaferfinancial in Finance, Uncategorized.
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HCN is the third and final core equity holding I own.  It’s last quarter by the numbers was down, but they are pulling off their overall investing strategy beautifully.  First, the numbers.  The normalized funds available for distribution was $86M versus $82.6M the first quarter of last year, an increase of 4%.  However, since they had an equity issue last year they have 14% more outstanding shares.  This brought the normalized funds available for distribution [FAD] per share down to $.70 from $.76 year on year.  The payout ratio is now 97% versus 89% last year.  The funds from operation also rose [$92M versus $87M] but suffered the same per share decline to $.75 from $.81.  FFO payout is now up to 91%.  I would prefer both these ratio’s be in the mid 80s%.  Gross revenues are up $152M to $138M or 10%.  Total expense are up $128M compared to $91M [40%], but the majority of the increase in expenses relate to cost of extinguishing debt.  Total assets are up 10% to $6.7B.

So what is going on here?  Well, HCN has gone on a buying spree and at the same time reduced debt.  $585M in acquisitions to be exact for the quarter.  They increased their guidance for net investments to $700M-$1.1B.  They also swapped some convertible senior notes that had a yield of 4.5% to debt with a yield of 3%.

So, what is the strategy?  They are continuing to rotate out of older, stand alone, nursing facilities in favor of MOB [Medical Office Buildings] and newer, on campus or affiliated skilled nursing facilities.  The MOBs are either on campus or affiliated with significant hospital organizations and/or research facilities.  The driver of these investments is the long-standing relationships with the top health care management organizations around the country.  HCN stands alone in its investment strategy that started last year at the height of the recession.

Unfortunately, the CCRCs [Continuing Care Retirement Communities] are just now emerging from the recession and in some cases have been allowed to defer rent owed.  This deferment is starting to ease as CCRCs sales and rentals have begun to improve this quarter.  Still an issue that needs to be kept an eye on.

Bottom line the 156th consecutive dividend was announced.  Investments have intensified.  Capital has been raised.  New investments seemed to be situated for positive future growth.  Although the quarter numbers are concerning, I am still very positive for the future.  This is one of those times that acting like Warren Buffett and trusting management and the long term viability of the business will pay off.

The price appreciated 2% over the quarter.  My yield/cost is around 11%.  Current yield at price is 6.36%.  I question when the dividend will start rising again?  Certainly, I don’t expect it too in 2010.  Hopefully, during 2011 those investments will start increasing the funds from operations dramatically and the CCRCs will be healthy.  I won’t be adding to my position.  My rate of return for the quarter was 4.75% on HCN.

If you are considering added on to a position or initializing a position in any of the three equities I own please do your own due-diligence.

Here are my thoughts:

If I was looking for capital growth then Berkshire Hathaway is a place I would consider.  I will be adding on to my position over the next few months.  If dividends are the objective, then MMP, should be strongly considered. [Be careful of holding to much in a tax-deferred account].  I think the dividend growth potential is great. If things go well for me and I have some spare funds I will add to my investment.  HCN is a hold for me now.  I will not be adding on to my position this quarter.  But that does not say anything about my confidence in this company.  Just, that at the current price, I think it is fair to say it won’t increase much over the short-term until the dividend coverage improves and/or dividends start going up again.  I have great confidence that will happen in 2011, if not sooner.  It just that I think I will be able to buy shares in the near future at a similar price.  My dividends for both HCN and MMP are reinvested in the stocks.  That won’t change for me, so officially, I will be purchasing HCN through dividend reinvestment.

Hope this helps folks understand the three equities I own.

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