Investors' keen attention to seniors housing performance at the largest healthcare real estate investment trusts has led them to focus on an earnings metric that companies calculate inconsistently, market participants say.
Overreliance on the metric same-store net operating income in companies' seniors housing operating portfolios can have a distorting effect on share prices because the properties it measures represent only a slice of the REITs' overall business, with slices varying in size between companies, Healthpeak Properties Inc. CEO Tom Herzog said during an earnings conference call Oct. 31.
Citi analysts agree, noting that same-store NOI poses problems because competing companies do not all calculate the metric in the same way, sometimes even calculating it different ways themselves in different contexts.
In measuring a seniors housing operating portfolio, a variety of different factors, including fluctuations in rents and expenses, can cause "some pretty dramatic changes" in same-store NOI, Herzog said.
"What I worry about," he said, "is that we can have a change that is literally immaterial to our outcome for earnings for the year, but it can swing this metric that seems so exceedingly important to the Street, because I know that they're comparing it to certain peers where it's an enormous number in their portfolio."
Investors' focus turned to the metric after Ventas Inc., one of the three largest diversified healthcare REITs along with Healthpeak and Welltower Inc., reported a surprising 5.0% year-over-year decline in same-store NOI in its seniors housing operating portfolio in the third quarter, leading the company to tamp down on earnings growth expectations for the broader company for 2020.
Days later, Welltower reported a much more positive number 2.8% growth in the metric in its own seniors housing operating portfolio and its chief investment officer jabbed at Ventas, telling analysts: "In these times of low tide, you get to know more about other people's swimsuits."
All eyes turned to Healthpeak, which changed its name from HCP Inc. when it announced third-quarter earnings, and a day later the company reported its own numbers, with seniors housing operating portfolio same-store NOI declining by 6.0%.
Herzog noted, however, that the portfolio represents just 9.9% of the company's overall same-store NOI, and 16% of its total NOI. By contrast, seniors housing operating portfolios are much more significant lines of business for Ventas, representing 33% and 41.7% of total NOI at Ventas and Welltower, respectively.
Citi analyst Michael Bilerman, who asked Herzog about Healthpeak's same-store numbers during the call, said in an email that his team believes same-store NOI can be an instructive metric but he called the focus on it "misplaced," since definitions vary within and between property sectors.
Ultimately, Citi believes growth in earnings and cash flow should be the most significant considerations in evaluating companies, Bilerman said.
In a Nov. 3 note, Bilerman and fellow Citi analyst Nick Joseph said comparing the three largest healthcare REITs' same-store NOI for seniors housing operating portfolios is difficult because results vary depending on which properties are included in the metrics. At Healthpeak, for example, roughly 45% of the company's seniors housing operating portfolio NOI comes from its same-store pool, with the rest coming from properties that are excluded from the pool for various reasons.
Ventas and Welltower also calculate same-store NOI differently for their 10-K and 10-Q filings than they do for their quarterly supplemental earnings reports, the Citi analysts said. At Ventas, that means including properties intended for sale but not classified as "held for sale" in the 10-K and 10-Q computations but not in the supplemental report. At Welltower, the same-store results for the different types of filings vary depending on foreign currency exchange rates and calculations surrounding partial property ownership.
The upshot is that the third quarter's most closely watched metric for the healthcare REITs varies in its meaning between companies, and also sometimes between filings by the same company.
Bilerman said Citi analysts have been pushing for years for more consistent financial disclosures from REITs, with some success: Industrial REITs have agreed to uniform same-store reporting methods that he called "a model for other sectors."
On Healthpeak's call, Herzog indicated the healthcare REITs could one day agree to follow suit.
"It's something that we would gladly do," he said. "But it requires all parties to want to come together and come to a common definition. So if we find that our peers want to do the same, we will be the first to sign up."
One person whose firm invests in the healthcare REITs, speaking on the condition of anonymity, said such a move toward consistency is necessary, but expressed skepticism about the companies' willingness to work together.
"I would be surprised if the three teams can come together and form a solution," he said. "I think the sides are a little bit too much dug in in their positions, and don't seem to be in a position of wanting to compromise."