RH occupancy recovery curve is not turning out to be a straight line: We expect Dec’22 occupancy to be 40bp higher than Dec’21 (at the start of the year, we projected 310bp). Now, we project Dec’23 occupancy to be 400bp (previously 550bp) higher than Dec’22. This might look ambitious as CSH continues to struggle in four over-supplied markets i.e. Ottawa, Durham, Calgary and Quebec City wherein occupancy declined 130bp from Apr’22 to Sep’22. We think CSH will have to reposition or recycle some under-performing assets to come out of this occupancy drag.
2023 estimates are reduced as we expect slower NOI Margin ramp-up: Our CSH RH NOI margin is 32.8% in ‘23 versus 30.8% in 2022E and 38.6% in 2019. We think ‘19 margins are now distant memory. Our ‘23 AFFOPU estimates are reduced 3.4% and implies 20.1% y/y growth.
Portfolio optimization in planning: Post announcement to sell Ontario LTC business and B.C. LTC homes, on Q3 call, management mentioned for the first time that several other properties are currently under review for development and property specific strategies including service model changes, repositioning etc. Balance Sheet: See Exhibit 14 – leverage is high at 10.3x but expected to come down to 7.9x level by end of 2023. 18% of debt coming due in 2023 – no refinancing risk given availability of CMHC-insured debt. B/S is less of a concern.
Q3/22 Earnings Summary
Reported FFOPU in Q3/22 was $0.134, which is ~5% below Scotia estimate of $0.141 and consensus estimate of $0.144. FFOPU was down 11.1% y/y (it was 20% y/y in Q1 and Q2). Miss was entirely on NOI as RH NOI margin came in at 31.3% (down 90bp q/q) and below Scotia estimate of 32%.
RH occupancy stats were re-classified and now revised higher: Nov’22 SP occupancy was revised to 78.2% (from 77.3% disclosed a couple of weeks back). Anyways, we are still searching for meaningful recovery. Dec’22 occupancy estimate of 78.2% is 60bp higher than July’22. We think, recovery has pushed to Spring of 2023.
We downgraded CSH to SP rating post Q2 results (link to downgrade note). In the context of meaningful sell-off, we think the bar was set low heading into Q3 results. As such, we don’t expect further pressure on unit price due to Q3 results (despite a miss).
Apart from fundamentals, focus also on balance sheet: ~40% of total debt is coming due for renewal in 2023 and 2024 (~20% in 2023 and ~20% in 2024). We see limited refinancing risk due to CMHC-insured debt availability. We have already assumed higher rate of debt financing in our model. Current liquidity is strong at $182.4M, including $24.9M of cash and cash equivalents. We note CSH’s current unencumbered asset pool of $1.1B is in line with recent quarters.
Elevated pandemic expenses in Q3/22 and likely to remain in Q4 as well: CSH expects net pandemic expenses and incremental agency staffing costs in Q4/22 to be $3M to $5M. Expenses are likely to normalize over the course of 2023.
Number of homes in outbreak are still elevated – down from May spike but still on the higher side (Exhibit 3). New wave of pandemic resulted an uptick in outbreaks, putting pressure on the recovery in the short term.
Capital recycling (previously announced) – effectively exiting LTC in ON and redeployed proceeds into relatively new retirement homes in ON: See our two previous detailed notes on this subject. Net-net we like the transaction and think it was taken well by the market (in our view). Link to $446M LTC disposition note and link to $288M RH acquisition note.