Welltower Inc

NYSE:WELL

Earnings Call Transcript 2022-Q1

[Operator]

Hello, and welcome to the Q1 2022 Welltower Inc. Earnings Conference Call. At this time, all participants are in a listen-only mode. After the speaker presentation, there will be a question-and-answer session. [Operator Instructions]

It is now my pleasure to introduce General Counsel, Matt McQueen.

[Matt McQueen, General Counsel]

Thank you, and good morning. As a reminder, certain statements made during this call may be deemed forward-looking statements in the meaning of the Private Securities Litigation Reform Act.

Although Welltower believes any forward-looking statements are based on reasonable assumptions, the Company can give no assurance best projected results will be attained. Factors that could cause actual results to differ materially from those in the forward-looking statements are detailed in the Company's filings with the SEC.

And with that, I'll hand the call over to Shankh for his remarks.

[Shankh Mitra, Chief Executive Officer]

Thank you, Matt, and good morning, everyone. I'll describe our capital allocation priorities in the rapidly evolving investment environment and review high-level business trends before handing the call over to John, who will detail operational trends.

A little over one year ago, our seniors housing operating business witnessed a powerful inflection point with occupancy gains and pricing power sustained through the remainder of the year despite Delta and Omicron variants.

This momentum continued into first quarter of this year and translated into the first period of year-over-year bottom line growth for our company since the beginning of pandemic. Our total portfolio revenue is up 32.7% year-over-year, driven by both organic revenue growth as well as a significant volume of high conviction capital deployment during the last 18 months.

On a same-store basis, our Senior Housing Operating portfolio revenue is up 11.2% year-over-year driven by a 4.6% occupancy growth and 4.6% rate growth. Encouragingly, we saw sequential pricing growth was 4.3%, the fastest growth recorded in our history despite only half of our operators pushing through in-house rent increases on Jan 1 schedule.

All of these translated into 18.4% same-store NOI growth in Q1, an impressive number that surpassed our expectations. We're all very encouraged by the speed at which free trades are moving up. And we expect same-store NOI growth will accelerate into the second half of the year, barring another COVID spike, all of this setting up to be a powerful earnings recovery that we anticipate in 2023 and beyond.

Before I turn into investment environment, I want to make two things here that are very important for multiyear earnings growth path. Number one, in 2018, when we converted our Brandywine Senior Living lease to RIDEA, I mentioned the two other portfolio we had in triple net structure that we hope to convert.

One of them was Legend Senior Living. After many years of discussion with Tim McCannon legendary Founder and CEO, I'm pleased to report that we have converted this relationship to RIDEA. Recall that we had an 88% and 20% profit JV between Welltower and Legend.

At conversion, Tim contributed a portion of his propco, five brand-new assets and has agreed to a future development agreement to create a powerful 93%, 7% equity partnership going forward. Finally, after years of persuasion, we have convinced him that we can grow the pie using our data analytics platform so significantly that will still be better off this by owning a smaller portion of the pie.

A partner of our company since '90s, Legend has paid every single dollar of rent that was owed to Welltower regardless of the coverage on a given day. Though these deals is dilutive to our FFO in 2022 due to significant agency leverages today, we expect cash flow relative to the previous rent will breakeven in beginning of 2023, and our shareholders will enjoy upside from thereon.

We hope for extraordinary partnership over last week -- had extraordinary partnership over the last three decades, and we hope that it will continue for many more to come. This transition, along with acquisition and future development partnership exemplifies our sole focus on enhancing long-term value of the portfolio and is indicative of the potential earnings subside in the portfolio that can be captured through a simple cap rate or multiple valuation methodology.

Number two, historically, our SHO business focused on managing managers and assets. Now that we have significantly upgraded our operational capabilities, including through the hiring of John Burkart, our COO, our focus in the SHO business will mirror the real estate and management services that we provide in our medical office business or what an apartment rig does with an understanding that we're limited in providing care services in a health -- qualified health care property.

This fundamental shift in our approach has a profound impact on how we think about our role in the operating step. This is particularly important as we think through the most important part of that operating platform, which is the technology staff. John will get into the details as part of his script, but we are delighted that he is in full scale development and implementation of a true operating platform at Welltower.

John is working closely with some of our best operating partners to launch this, call it RIDEA for now, but honestly, that doesn't do our new approach justice. As to the scale and impact, we think his plans will have on the customer experience and value creation overall. Needless to say, we expect this multiyear initiative will have a tremendous impact on our earnings growth trajectory and long-term compounding machine that we are setting up at Welltower.

Now let's talk about capital allocation. As you know, my team is extraordinarily focused on allocating capital to create part share value for existing shareholders. The keyword is existing. We'll favor our existing shareholders who have been our partners to think and thin, especially through thin. We are fiercely protective of their interest on a per share basis, and won't act in a manner that does not create significant value for them.

Because we're extremely transparent and genuinely dislike drama, I will mention to you that Welltower is the Party F referenced in theHTA HR merger proxy couple of weeks ago. Every week, we call owners of assets and express our interest to buy them at a price. This was no different.

I am genuinely disappointed that HR Board and management did not engage with us, but that is their prerogative. It is completely up to their shareholders and the Board, which presents our shareholders to decide how to maximize value. Because of the many rumors circulating and the reports and articles about this, I'll mention a few things before moving on to much more important items.

Number one, we're fair win-win people, we offer to buy the Company on public information at $31.75 per share, plus a breakup fee of $163 million from a which, as you have seen, the market bodes a significantly value destructive for our analyst reports.

We believe that our cash offer provided better value to HR shareholders than the HDA merger, and it was fully financed and were prepared to move within days. I read research notes that described our unfair pricing relative to what might be in market cap rate.

Please understand that we did not offer to buy an asset, we offer to buy a company that we are willing to pay for assets and pay a breakup fee that company out for company's existing shareholders for potential dilution that will respect and analyst community has been writing about. I hope this will stop mischaracterization of our offer and our intent.

Number two, Welltower always has and always will honor its agreement with third parties, including that with HTA. In fact, HTA itself piloted our NDA with them by providing -- by first disclosing it to HR and then later to the public in the joint proxy.

Further our NDA with them does not contain a standstill that will apply us to making an offer for HR as a stand-alone entity. As you would expect, we signed it with HTA in order to access information regarding HTA and its properties, therefore, the standstill only applies to HTA and its properties. Our proposal was expressly conditioned on HR not completing their HTA transaction.

Number three, we have never chased the deal and never will. We buy everything at a price and sell everything at a price. Although I'm disappointed that HR did not engage with us, as our offer -- we thought our offer would result into a superior outcome for HR shareholders, I have no intention of being hostile.

I personally like Todd, I called him and expressed our interest. We didn't buy shares in the public market, nor did we act in anything but a friendly way. They did not engage. Under these circumstances, we have nothing to do here.

Number four, contrary to what some analysts might have written, this deal would not have been dilutive to our senior housing growth. You don't know what proportion of equity, debt or joint ventures we might have contemplated for the transaction. But even if you think we were to do this entirely on the balance sheet, it would be a rather simple exercise.

Look at the NOI bridge in our business update, divide that NOI by existing number of shares, calculate the additional shares required by the HR transaction to calculate dilution on a part share basis and then add back the accretion from the deal. You will see our existing shareholders would have covered ahead.

We look at every single investment through the lens of opportunity costs. Specifically, we have to satisfactorily answer three questions that Buffett has taught us. And then what compared to what at the expense of what. This is not different.

And number five, we're not disappointed nor we are concerned about our growth of our senior housing business. While the contrary, in fact, we just reported 18.4% same-store NOI growth and expected to meaningfully accelerate in the second half of the year.

Now that I have put all these rumors to let's talk about the 30 or so owners who did engage with us to create win-win partnership transaction. Year-to-date, we have closed $1.2 billion of acquisitions across 21 different off-market or privately negotiated transactions. This is a remarkable stat given the pace of activity last year.

I find it difficult to talk about specific deals as it feels like picking your favorite children, but I still mention a handful of transactions to give you a sense. We bought 700 units at our three large communities in Washington State with Cogir to expand our partnership with Matthew and Dave. Dave Eskenazy is one of the best in the business, and I'm glad that he's now back full time at Cogir U.S. as a CEO.

We're also expanding our partnership with purchase of another property in Brentwood located in the East Bay of Northern California. All properties were bought at significant discount replacement cost. For example, the Brentwood asset contains large units, and it was bought for $320,000 per unit. We believe the replacement cost in East Bay today is easily significantly north of $500,000 units.

Additionally, we are significantly deepening our relationship with Dan and his team at StoryPoint with the acquisition of 33 communities in Michigan, Ohio and Tennessee in their backyard. With a median vintage of 2016, we're extremely pleased with the average price of 197,000 units, which is meaningful discount replacement cost with 63% of current average occupancy this sizable deal will be dilutive to our 2022 FFO per share, but properties are anticipated to generate significant occupancy, margin and cash flow growth in 2023 and beyond on the StoryPoint's enhanced operating platform.

This is another example of us choosing the right long-term investment decision and cash flow growth of our GAAP earnings situation, another thing you hear from us consistently.

In another transaction, we announced we're expanding our partnership with Courtney and our team at Oakmont with seven new assets in extraordinary locations in California. Courtney and her team are at the absolute top of operating echelons, and we cannot be happier to grow this partnership together.

Separately, within the medical office space, we bought four building property portfolio on the campus of one of the strongest hospitals in Birmingham, Alabama for a 5.5% cap rate in an absolute net lease structure at a great basis. Given the absolute debt structure, we expect unlevered IRR to be high single-digit range. We're also under contract to buy two large beautiful MOBs, one in San Francisco Bay Area, another in Sacramento MSA for a high 5% going-in cap rate at a great basis. Again, we expect to generate high single digits in IRR in both cases.

In terms of the financing market, in the last 30 days or so, we have seen a massive shift with property level leverage down 15 points, cost doubling and interest only disappearing from the market, both in seniors as well as in MOBs. This is starting to have a tectonic impact on asset pricing. To put bluntly, I have not been this excited about our acquisition prospects since Q4 of 2020.

About six weeks ago, an investor, whom I respect very much asked me if I'm optimistic about the next $7 billion of acquisitions, as I was about the last $7 billion of acquisition that we did since pivoting to offense in 4Q of '20. I instinctively answered what I truly believe that we're driven by value, not by volume, which is this investor took it as a no.

Today, that answer will be on equivocal yes. Yes, we are excited about the figuratively net $7 billion as we are when we acted on the last $7 billion. To that effect, our pipeline today is roughly $1.5 billion of deals in process across 20 different off-market or privately negotiated transactions. Several of these are potentially operating unit transactions, which we expect to be very popular with the sellers.

Please recall that we define our pipeline as transactions that are already under contract. In addition to this, we're negotiating another couple of billion dollars of acquisitions across several other transactions. While we may not eventually succeed in convincing sellers to agree to our price, please note that we don't need any given transaction. Price is the price.

We see cracks in the market and are focused on where the puck is going and not where the puck might have been. The value of a party that never titrates and doesn't request debt has really been higher. In more trust systems in nature, such as coastline, cloud, no matter how much you scale up or scale down, you notice a remarkable sale similarity property. You noticed that in same everyone in nature.

For example, in Florida cauliflower is same as cauliflower. This phenomenon is called fractal geometry. This is the same idea that our drive time polygons and isochrones are based on if you have seen our data science presentation. Interestingly, organization history is full of company to grow successfully through small bolt-on acquisitions in their advantageous niche only to present themselves on strategic acquisitions that get them in trouble.

David Packer, the founder of HP brilliantly said, more businesses die of indigestion than starvation to discuss this phenomenon. At Welltower, we don't have strategic acquisitions. In fact, sales similarity of mother-nature is highly visible in our investment philosophy. No matter how small or big a specific investment is where after the same, driven by the same factors.

In all cases, we're buying, number one, a reasonable basis relative to replacement costs; and number two, where we can add value by driving operational improvement. We are not spread investing deal junkies. We have true total retail investors and are optimistic that 2022 will be one of the best years in the Company's history from an acquisition point.

With that, I'll hand the call over to my partner, John Burkart, our Chief Operating Officer. John?

[John Burkart, Chief Operating Officer]

Thank you, Shankh. My comments today will touch upon the performance of our operating business in the quarter and provide some elements of our vision for senior housing.

Starting with our medical office portfolio. In the first quarter, our outpatient medical business delivered 2.7% same-store NOI growth over the prior year's quarter, while occupancy declined modestly to 94.5%. We continue to see strong retention rates in the first quarter of 92%, likely driven by rising construction costs, construction delays and the related increases in new lease rents. Going forward, we expect occupancy to decline modestly as we continue to increase renewal rates in line with market increases.

Now turning to our senior housing portfolio. The coiled spring, as Shankh has called it, is starting its expansion. Revenue in our same-store portfolio grew at 11. 2% in the first quarter compared to the prior year's quarter. That's over 2x the growth rate experienced last quarter and the highest year-over-year increase since at least 2017.

Our first quarter performance was led by our U.S. portfolio, which reported year-over-year top line growth of 13.5%. Additionally, as we've described in recent calls, pricing power continues to strengthen as reflected by strong renewal rate increases and improving market rate.

In fact, RevPAR growth in the first quarter increased by the highest level in years at 4.6% year-over-year and 4.3% sequentially. While expenses grew at a rate of 9.5%, the more insightful expense metric is expense POR or expense per occupied room, which only grew at a rate of 3%, and in the first quarter year-over-year on a year-over-year basis, the lowest since at least 2017.

The combination of higher rental rates, increasing occupancy and improving margins led to an outstanding NOI growth rate of 18.4%. Our operators continue to report very strong demand with traffic above 2019 levels, which bodes well for the peak sales season ahead.

And if things play out as we expect continued top line strength and further improvement on the expense side should result in a meaningful acceleration in NOI growth in the back half of the year. Understandably, since taking over as COO at Welltower, I've received questions about my vision and areas of focus, both of which I want to provide some insight to on this call.

I will outline the opportunity I see and highlight some key elements of my plan, which I believe Welltower is uniquely positioned to execute. As I evaluate the senior housing business, my perspective is a little different than the conventional wisdom that is developed as the health care REIT industry has evolved.

The healthcare REIT industry, including Welltower, started with triple net leases for senior housing, giving the owners little to no say in operations and asset management. As the industry evolved with RIDEA, the historic reliance on the operators to run the business continued. The senior housing industry was founded by strong visionary leaders who saw that there was a much better way for society to provide quality lifestyles for its aging members, and they acted accordingly, like so many industries, which are started by small businesses, they are specialists in their core focus, in this case, providing quality living experience for our aging population and generalists and the many other important elements related to running a modern operating business.

But as you know, I come to this business with a different perspective and have broken down the business into a few components. It's essentially the multifamily business that provides care with some hospitality. As Shankh alluded to in his opening remarks, although REITs are limited in providing care services, we can perform multifamily type functions like revenue management, capital management, procurement, provide IT expertise as well as leverage our data science expertise.

By doing so, we have the opportunity to fundamentally change the potential of this business by creating a full-scale operating platform and bringing operational excellence to the senior housing business. Overall, I have come to believe that Welltower has a substantial opportunity to improve the customer and employee experience and create shareholder value through leading the digital transformation of the business.

More to come on timing, but I will say that we are actively working on the initiative, partnering with best-in-class operators, and we will deliver various components as they are ready. The addition of the world-class operating platform will continue to dramatically increase the size and depth of the Welltower moat.

And it will greatly simplify the business for our top operators, enabling them to focus on their core strengths increasing their effectiveness and efficiency and driving increased total returns. We expect that all our stakeholders, including our operating partners and investors will emerge as winners in this next phase of the senior housing business.

I'll now turn the call over to Tim.

[Tim McHugh, Chief Financial Officer]

Thank you, John. My comments today will focus on our first quarter 2022 results. The performance of our triple net investment segments in the quarter. Our capital activity our balance sheet liquidity update; and finally, our outlook for the second quarter. Welltower reported fourth quarter net income attributable to common stockholders of $0.14 per diluted share and normalized funds from operations of $0.82 per diluted share, which was above the midpoint of our $0.79 to $0.84 per share guidance.

Despite our results only including approximately $600,000 of HHS funds versus the $6 million expectation we had previously forecasted as part of our guidance. This quarter represented our first with year-over-year normalized FFO growth since the start of the pandemic. And when excluding provider relief funds received in the respective periods, or $0.82 per share represents 15% year-over-year growth versus the first quarter of 2021. We are also pleased to report that total portfolio same-store NOI growth turned positive in the quarter. With 8.9% year-over-year growth, which compares favorably to guidance of 7%.

Turning to our triple net lease portfolios. As a reminder, our triple-net lease portfolio coverage and occupancy stats are reported a quarter years. So, these statistics reflect the trailing 12 months ending 12/31/2021. In our seniors housing triple-net portfolio, same-store NOI increased 6.9% year-over-year and exceeded our expectations, driven by improvements in rent collections on leases currently in cash recognition and the early impact of rental increases tied to CPI.

Trailing 12-month EBITDAR coverage was 0.82x and with a sequential improvement, mainly driven by the conversion of Legend Senior Living today in the quarter. As indicated last quarter, we expect coverages to continue to move higher through the rest of the year as the positive inflection point we started experiencing our SHO portfolio in the first quarter will be reflected in our triple-net coverages on a one-quarter lag.

Next, our long-term post-acute portfolio generated negative 1.8% year-over-year same-store NOI growth and trailing 12-month EBITDAR coverage was 1.3x. We completed $6.7 million of long-term post-acute sales in the quarter bringing our total sales in the last 12 months to $525 million and a blending cap rate is 7.5%, with an additional $202 million under contract for sale at quarter end.

As a result, our long-term post-acute portfolio represented just 4.8% and of total in-place NOI at year-end versus 10.1% at the end of 2020, a 530 basis point decline driven largely by the exit of our Genesis relationship.

And lastly, health systems, which is comprised of our ProMedica Senior Care joint venture with ProMedica Health System, had same-store NOI growth of positive 2.75% year-over-year and trailing 12-month EBITDAR coverage was 0.02x. As a reminder, this lease is backed by the full corporate guarantee from ProMedica Health System.

Turning to capital market activity. We continue to enhance our balance sheet strength and position the Company to capitalize a robust and highly visible pipeline of capital deployment opportunities by utilizing our ATM program to efficiently fund those near-term transactions.

Since the start of the year, we have sold 21 million shares via forward sale agreement, an initial weighted average price of approximately $89.9 per share for expected gross proceeds of $1.9 billion. We currently have approximately 19.5 million shares remaining unsettled, which are expected to generate future proceeds of $1.8 billion.

Additionally, we are seeing significant interest from potential sellers to accept OP units as consideration, providing further investment capacity. Taken together, our unsettled ATM proceeds, potential OP unit issuances and $352 million of expected property disposition and loan payoff proceeds provide ample capacity to fund our current investment pipeline.

During the quarter, we issued our second green bond comprised of $550 million of 10-year unsecured debt maturing in 2032, with a coupon of 3.85%. Following a similar discipline in our equity funding strategy, this is our fourth unsecured issuance since March of 2021, bringing total debt issuance over the span of $2.3 billion with an average duration of 9.5 years and average coupon of 3%.

At quarter end, when factoring in cash and restricted cash balances, our liquidity position exceeded the $4 billion of borrowing capacity on our line of credit. And when combined with the previously mentioned $2.1 billion of unsettled ATM proceeds and expected disposition proceeds, we remain in a very strong liquidity position.

Lastly, moving to our second quarter outlook. Last night, we provided an outlook for the second quarter of net income attributable to common stockholders per diluted share of $0. 20 to $0.25 per share, normalized FFO per diluted share of $0.82 to $0.87 per share or $0.845 at the midpoint. This guidance takes into consideration approximately $6 million of HHS funds expected to be received in the second quarter.

Guidance represents a $0.025 increase at the midpoint from our $0.82 per share number in 1Q. This $0.025 increase is composed of a $0. 04 sequential increase in our Senior Housing Operating portfolio NOI, $0.01 incremental increase in HHS funds and is offset by $0.025 of increased interest expense, lower foreign exchange rates, particularly the British pound, and dilution from development deliveries.

Underlying this FFO guidance is estimated in second quarter total portfolio year-over-year same-store growth of 8% to 10%, driven by sub-segment growth of outpatient medical, 2% to 3%; long-term post-acute 2% to 3%; Health System, positive 2.75% and senior housing triple net 7% to 8%. And finally, senior housing operating growth of 15% to 20%, driven by revenue growth of 11% and underlying this revenue growth is an expectation of approximately 500 basis points of year-over-year average occupancy increase and continued robust rate increases.

We continue to be pleased by the momentum of the top line recovery in our senior housing operating portfolio, driven by a combination of rate and occupancy growth, setting the stage for a multiyear recovery to average occupancy in the portfolio at 76.4% at quarter end, nearly 1,100 basis points below pre-COVID levels and nearly 1,500 basis points below peak occupancy levels.

We've described as recovery in the past as a coiled spring with both secular and cyclical tailwinds behind it. When we started to see the spring release in the core portfolio, we have made the conscious decision to steadily allocate capital to distressed, under-operated and often initially diluted properties, along with high-quality development projects.

While this capital allocation has the effect of offsetting some of our core growth today, we will sustainably amplify it in the years to come. In short, we're working hard to keep that spring coil even as we start to realize the power of the earnings growth it can drive.

And with that, I'll hand the call back over to Shankh.

[Shankh Mitra, Chief Executive Officer]

I want to sum it up -- sum up the call by saying I cannot be more pleased with the internal and external growth prospects of the Company. We have taken a lot of shots, suffered a lot of pain for the course of many years to finally get to the point where we believe we're primed for long-term compounding. The only way we know how to create significant shareholder wealth over a long period of time.

A great investment has three characteristics, outsized returns, low risk and long duration. While we are very successful in finding outsized returns in off-market opportunities that we continue to execute on were equally focused on lower risk and longevity. This is why we're obsessed with acquiring assets at a reasonable basis relative to replacement costs in order to reduce risk.

And in terms of longevity, Page 20 of our business update will describe to you 30 or so win-win contractual partnerships that we have signed through a seamless way of trust where we hope to deploy 30-plus billion dollars of capital over the next decade and beyond. We see enormous opportunity for growth within our circle of confidence, which we define as the area where we can allocate capital with households instead of using our predictive analytics platform.

This confluence of outsized internal and external growth has created a rare condition, which is called Leaping Emergent Effect or as Munger describes it, Lollapalooza effect. You as our owners can rest assured that we will not make any poor capital allocation decisions that will jeopardize these rare leaping emergent conditions that we have achieved through many years of hard work, luck, courage and a culture where everybody is all in.

With that, operator, please open the call up for questions. Thank you.

[Operator]

[Operator Instructions] Our first question comes from the line of Vikram Malhotra with Mizuho.

[Vikram Malhotra, Mizuho]

I'm going to try to just want to clarify one. But just first, Shankh, you talked about pricing power or rent growth accelerating. Can you maybe expand on that? What does that mean for the second half and maybe sustainability into '23 on shop pricing power?

And then just a clarification, just you talked a lot about the MOB, the HR bid. Just very simplistically, I mean, you've talked -- you've not liked MOBs historically, at least maybe a year or two years ago, like what changed very simplistically.

[Shankh Mitra, Chief Executive Officer]

Okay. Let me answer both of those questions separately. It's not too in. So first, let the answer the MOB question. We like all asset classes at a price. I've always said, even if you look back two quarters ago, we said it makes no sense to us that people buy MOBs in the high 4% cap rate range and after CapEx, you're in the low 4s, when you foresee in the breakeven market, how financing market was going to change, right?

I'm just surprised that people are surprised this happened. Now you are in a situation where your financing cost is higher than your cost of -- your return on equity at that kind of pricing, which is a real estate is called Death Cross, right? That is the harbinger of obviously what's to come on the asset pricing side.

That just doesn't make any sense to me why would you buy something at those prices with that growth related to inflation. Nothing has changed. Look at Vikram, what we just bought. We bought one MOB at an absolute triple net lease, which obviously means we're not responsible CapEx, call it, 5.5%, which is an equivalent triple net, will be close to a 6%. And we bought two others in California, that's high 5s, right, where we think that we can get to an unlevered high single-digit IRR. So that makes sense to us.

So it is all about pricing, not exposure that determines your investment success. Second point, obviously, the pricing power. We're -- obviously, we talked about how we think in-house pricing increase would be, and that's obviously very necessary to offset all the costs that we have seen in the system.

I'm particularly encouraged that what we see is street rates are moving. Street rates have moved, I would say, first quarter, we have seen high single digit. In April, we have seen some operators street rates well into double digits, right? So that, along with, if you think about half of our -- roughly speaking, half our residents on not Jan 1 scheduled, right, to receive -- they are on a schedule of anniversary rate.

So if you put those two together, we'll see sustained strong pricing power through the year, which we're very, very excited about.

[Operator]

Thank you. And our next question comes from the line of Steve Sakwa with Evercore ISI.

[Steve Sakwa, Evercore ISI]

Shankh, I was hoping you could maybe just expound a little bit on the distress that you're seeing in the transaction market. And I realize that you're not necessarily focused on initial cap rates, but I'm curious, when you look at your underwriting, have the unlevered IRRs that you think you're going to achieve change at all? And just trying to get a better flavor for the activity levels and just maybe how return hurdles might be going up for you?

[Shankh Mitra, Chief Executive Officer]

Yes. So Steve, if you recall, the initial phases of this pandemic, we have done many transactions in, call it, low single -- low double-digit unlevered IRR, which said as the market started to come back as sort of translated into a high single-digit unlevered IRR, right?

And given what happened in the marketplace in the last 30 days, with financing market totally blew up. As I said, leverage is down, cost of leverage is significantly up and IO completely vanished. If you think through that, that's really put a levered IRR model upside down, right?

So we are now starting to see -- I've seen more deals dropping from contracts in the last 30 days than I've ever seen in my career. So we are starting to see that all the deals are bouncing back. We always have said that price is a price, we give people a price, underwrite a deal on an unlevered basis.

So for us, it doesn't really change anything and we'll t he price. And we're seeing all those things that are coming back. So it is that I don't want to get too excited, but I'm starting to see the emergence of sort of those low double-digit unlevered deals starting to pop up again.

[Operator]

Thank you. And our next question comes from the line of Derek Johnston with Deutsche Bank.

[Derek Johnston, Deutsche Bank]

Just on the agency expenses down 10% sequentially. Can we get a sense of month-by-month improvement especially since Jan and even Feb likely had pretty high Omicron cases seems that agency utilization could have improved each month as we've moved through first quarter. We're just hoping you can quantify the monthly utilization trend and where agency stands today versus expectations?

[Shankh Mitra, Chief Executive Officer]

Derek, we don't want to get into month by month, but you're -- obviously, the way you were thinking about this question is the correct one. We have seen steady improvement through the quarter, and we have seen significant improvement post the quarter, right?

So if in or coming in, we have seen that, which is, frankly -- so what sort of gives us confidence that we think where things are continuing in the second quarter as well as in the back half of the year. This is obviously I want to -- I said this -- and I'm going to say this again, we're not in the business of predicting COVID.

All bets are off if you have a massive COVID spike again. But that's what we're seeing in normalized market conditions, things are improving rapidly. I don't know, Tim, do you want to add anything to that?

[Tim McHugh, Chief Financial Officer]

No, I think that's right. We gave color on our last call when we do January results we spoke to kind of seeing a 10% decline from December to January. And we gave similar color to and seeing a little better than that as a trend for the full quarter. So I think it gives you a read, we kind of saw consistent decreases relative to the counterpart in the fourth quarter.

[Operator]

Thank you. And our next question comes from the line of Joshua Dennerlein with Bank of America.

[Joshua Dennerlein, Bank of America]

I wanted to ask about the expanded partnership with Oakmont, what's so attractive about the Oakmont partnership? And then maybe could you also touch on the CCRCs that you acquired with them?

[Shankh Mitra, Chief Executive Officer]

Yes. So what's most attractive about Oakmont is Oakmont is one of the best operators in the business. I mean -- so we -- I mean, look at -- we have mentioned this before, -- they're one of the first ones to come back to sort of 90-plus percent occupancy range. If you look at Oakmont's portfolio performance, it'll be hard for us to believe for kind performance that there was a pandemic that good in operation.

Now going back to the point, what else is very attractive. We disclosed, obviously, I think, a couple of quarters ago, that we signed a long-term partnership development partnership with them. So we're very excited about that. We think we're going to create significant value for Oakmont principles as well as well as Welltower shareholders for us to come.

And CCRC, so we did not bring Oakmont to the CCRC, it's a CCRC that Oakmont developed in currently with a lot of -- obviously, this is not just entry-level CCIC. There's also a lot of rental units in there. So, we thought they do an extraordinary job of that.

And as we always said, just don't think about these things as this moniker, CCRC, this that, the RIDEA triple doesn't change what fundamentally the business is. These are large campuses. New things that we got at a basis and at a cash flow and see a potential growth of cash flow that we think we can make a lot of money.

So that's what we see about the partnership. We also bought four traditional rental model together that we think obviously is going to create meaningful growth as well. A lot of these assets open to 2021. So, you are not going to see probably a very significant amount of earnings contribution in 2022, but you will see potentially significant amount in 2023 and beyond.

[Operator]

Thank you. And our next question comes from the line of John Pawlowski with Green Street.

[John Pawlowski, Green Street]

Shankh, I wanted to go back to your comments about no intention of going hostile on HR. Forget HR for a moment, I'd just like to better understand your philosophical views on hospital takeouts broader than HR. So if the price is right, are you interested in going to hospital or do you have philosophically against it?

[Shankh Mitra, Chief Executive Officer]

I'm not going to comment philosophically what I think on hostile and not, frankly speaking, it's an inappropriate for us to do that. I will guarantee you that we will not go hostile. That's not how we do business.

We believe that were win-win people, and we like to deal with people who actually -- it just think about it just very simply, reciprocation is how the world works. You walk into an elevator, you smile at a person, 95% of the time that person smiles back at you, that's called mirrored reciprocation.

We like to deal with people who believe in mirror reciprocation or we can do win-win transactions with people. We have zero desire to go hostile on HR or anybody.

[Operator]

Thank you. And our next question comes from the line of Rich Anderson with SMBC.

[Rich Anderson, SMBC]

So, if I can just kind of use HR as a platform, but think more broadly about how you're thinking about the investment horizon. If your offer price is at a low 5% type implied cap rate on that stock, would you be would it make sense for you to kind of deploy this distressed model here? I don't think there's a whole lot of distress, but relatively speaking, sell the very good stuff, keep the older stuff and feed it redevelopment platform and thereby make your IRR hurdle. Is that kind of the mindset for HR and generally speaking about how you're going to approach almost like a contrarian approach to investing where you are dilutive to start, but much more accretive to end? And specifically to -- are you now only sitting idly by to see how it plays out. No more activity there. And finally, the $163 million break fee, that's not paid to HR, if something were to happen. Is that correct? So that's my one question.

[Shankh Mitra, Chief Executive Officer]

Okay. You asked three questions. I'll see if I remember all of these. So, first is, I will say that we invest, and I think I said this before, and I'm going to say this again, we invest -- and if there are two conditions that get satisfied. One, we think it's at a reasonable basis relative to replacement cost; b, we think we can add significant value on the operational side. These are the two things that needs to come together for us to invest capital in no matter what the specific one is.

My view of this hasn't changed. I'm not going to get into buy this, sell that that do this. It just not -- that's not just -- that's not appropriate for a conversation. It just depends on what asset you're talking about, right? So we're not going to obviously get into that. But I will tell you, what I have mentioned in my prepared remarks.

At the price, you know for us, we do everything at a price. At the price that we offered we thought HR shareholders will be much better off than going with the HTA merger. That was our opinion, right? And that the price was for the assets as well as releasing them from a potential transaction, which all of you have described as a significantly dilutive deal and market voted as such, right? So you got to think about asset plus liability, not just assets. That is a fundamental mistake of characterization of what's happening here.

Regardless, that's not, as I said, that each of our shareholders and their Board, which is representative of the shareholders progress, not ours. So it is very inappropriate for us to keep talking about something, but there's nothing to talk about, right? We're much more focused, as I said, about 30, 40 other owners who are very happily engaging with us to see how we can transact, how can we have a win-win transaction. And I don't have anything more to add to that.

[Operator]

Thank you. And our next question comes from the line of Richard Hill with Morgan Stanley.

[Adam Kramer, Morgan Stanley]

It's Adam Kramer on for Rich. And congrats on a really strong quarter here, and I appreciate all the commentary. I'll kind of keep this on aside from HR and kind of ask about April occupancy trends within SHO. Anything you can add about kind of sequential trends in April or second quarter to-date, I think, would be really helpful.

[Shankh Mitra, Chief Executive Officer]

We are encouraged by the April as well as early May trends. And we're also encouraged very much where the pricing is going. Remember, John's focus is on revenue maximization and frankly, NOI maximization. But we're very encouraged by both occupancy and rate trends and I'm assuming you're asking a senior housing, so in the senior housing portfolio.

[Operator]

Thank you. And our next question comes from the line of Nicholas Joseph with Citi.

[Michael Griffin, Citi]

This is Michael Griffin on for Nick. I'm curious, what do you need to see before being comfortable issuing full year guidance?

[Shankh Mitra, Chief Executive Officer]

We need to be comfortable to see that COVID is not around us.

[Operator]

Our next question comes from the line of Michael Carroll with RBC Capital Markets.

[Michael Carroll, RBC Capital Markets]

I wanted to stay on, I guess, or touch on the seniors housing pricing power topic. I mean, how much higher can RevPOR trend RevPOR growth trend, particularly when the occupancy gets back into the high 80s or even the low 90% range. I mean, I'm assuming there's only so high you can push rates on the existing residents, but would this dynamic help push street rates higher and then that could drive RevPOR higher. I mean, how should we think about that?

[Shankh Mitra, Chief Executive Officer]

Yes. So Mike, you were asking about my favorite topic, and you are asking me to venture a guess, right? So this is a pure guess and I understand you asked about it. But just start from the position of -- I don't know of any other sector where you can have pricing power in the high 70% kind of occupancy or mid- to high 70% occupancy range, right?

So we're very encouraged what's happening. But today, the pricing is driven by the necessity, as I described a couple of calls ago or maybe last call, on the necessity of keeping up with the quality of service, cost of everything is going up, including labor, and we do not believe cutting on services.

So that's just sort of the -- what's happening right now; however, there is going to be at a point, not so distant future and probably in the high 80% occupancy rate, where you will be -- you don't -- you wouldn't have rooms to sell. And then you're going to have a different type of pricing increase, right?

So that -- these two obviously provide a very, very good backdrop, and if you think through what are the development deliveries, right, that in the next few years are -- a couple of years are. And obviously, it takes a lot of time to bring supply back particularly as you think through what happened, right? The last sort of nail on the coffin for a development project was the financing cost, and that's also now gone completely crazy.

So you have costs going up every month for 1.5% to 2%, no one is going to give you a GMP for beyond these days before you lock something in for more than a week. That's kind of a crazy cost environment we are. So in putting it all together, pricing car can sustain for a very long period of time in this kind of demand supply scenario.

Now going back to your street rate conversation, I'll just give one example, and one example doesn't obviously is not represented on the whole portfolio. We have seen in April, some of our operators have raised street rates by 15%, while that in-house rate increases 8%, 9%, 10%, right? So we're starting to see for at least for a handful of operators, street rates has already -- increases are going above in-house rate increases.

A phenomena we haven't seen, I don't know don't hold me to it. Probably, I don't know, probably 2013, '14 time frame. But so we're pretty excited about it. We think that we have a long runway of pricing increase here. And frankly, as we fundamentally believe that our residents expect a lot from us, they're paying a lot and they expect a lot to reserve a lot and for that, it just costs more today.

[Operator]

Thank you. And our next question comes from the line of Nick Yulico with Scotiabank.

[Nick Yulico, Scotiabank]

Just wanted to go back to the Senior Housing operating segment and how we should think about sequential monthly occupancy gains. I wanted to see if we can get actually the specific number for April. And then also as we think about moving into May through September, third quarter, right. I mean you did make the comment hearing that you expect your year-over-year same-store NOI growth to improve meaningfully in the back half of the year, which would presumably factor in higher sequential occupancy growth than what you're seeing in the second quarter. So just trying to understand about like how we should think about the monthly pace, occupancy gains that could happen, maybe even in relation to last year?

[Shankh Mitra, Chief Executive Officer]

Yes. So Nick, if you look at Page 12 of our business update, you will see some sense of how seasonally plays out, right? We have laid that out. Obviously, we expect better than seasonal trends, significantly better than seasonal trends. In the second quarter, but where you see the ship really takes off within the third quarter. So thinking about it without getting into month-to-month, as I have already indicated, the selling season, the summer selling season just started, right?

We see very encouraging signs already and we think it will continue to improve as we go forward. Also remember, usually, every year in the Q1 is sort of when you go into -- from Q1 to Q2, going to start at a hole, right, because you lose occupancy. This year, we did not start at a hole, right? We built occupancy where you see occupancy decline. That will have a tremendous impact as you build the revenue line through the rest of the year. Tim, do you want to provide anything else?

[Tim McHugh, Chief Financial Officer]

Yes, I'd just add that from an average occupancy perspective, kind of speaking to that same point John just made, but because 1Q is historically negative, but even in this case, small game, average occupancy, which is kind of build off of the prior quarter and the current quarter recovery will accelerate into 3Q and does so historically. So, when we think about kind of sequential, the drive -- the part of it that's driven by occupancy will be its highest in the third quarter.

[Operator]

And our next question comes from the line of Austin Wurschmidt with KeyBanc Capital Markets.

[Austin Wurschmidt, KeyBanc Capital Markets]

So sticking with SHO and based on that move in street rates you mentioned were up in the double-digit range. Are you considering pushing rate increases even higher on future renewals through the balance of the year? And then I'm curious if you have a sense how below market your in-place rents are today relative to market? And does this sort of acceleration in fundamentals make you more upbeat about future shop acquisitions and more willing to take on the initial dilution that you talked about in your prepared remarks?

[Shankh Mitra, Chief Executive Officer]

Three questions there, but we will welcome to our call. I will try to remember everything you want. First is, no, it doesn't excite us more or less investing is about price. It's not about exposure. I cannot say this million times enough and if we call for you guys to understand how we allocate capital. It is all about price.

We own more senior housing than anyone. We bought more senior housing than anyone even the last 18 months. So senior housing is going to do significantly better. There has been no other beneficiary more beneficiary than us, right? So having said that, you think about the point, I also want to make sure you hear me. I said for a specific operator, I don't want you to think street rates are going up 15%, right? So everywhere, that's not what's happening.

But we see broad momentum of increasing street rate pretty much everywhere with every operator, okay? So let's just put that in the context of understanding how senior housing works. Remember, you have an acuity creep as people age in place or age in a community, okay? So you will always have the portion who is living versus the person who is coming in, there's a gap, right? There's a gap because of that to decrease, the frailty and the acuity creep. What we are seeing, this rapidly rising street rate is closing that gap pretty meaningfully.

And we hope that we'll see at some point that gap is going to come together. But at the same point, I understand, as we sort of get to the next year, right, there's going to be significant in-house rate increases again. So, you create another gap and you chase that gap again, right? That's how you build revenue.

So, we're pretty optimistic. Generally speaking, the tone of your question is the right one, which excites us very much this moving, obviously, rates that we are starting to see, we'll see that will be sustained, all things being equal through the year and will show up in our top line growth as well as the NOI growth that Tim and John talked about.

[Operator]

Thank you. And our next question comes from the line of Mike Mueller with JPMorgan.

[Mike Mueller, JPMorgan]

Just a quick expense question. It looks like your same-store SHO compensation has been running about 3.25 for the past two quarters. Can you remind us what portion of that would you say is abnormally high because of COVID and agency costs, where we could see that portion of it decline in the subsequent quarters?

[Tim McHugh, Chief Financial Officer]

Yes. So we peaked out at a little over 7% or 7.5% of our compensation line was agency in the fourth quarter. That came down to high 6x and we continue to expect that to normalize throughout the year. But just thinking about that from -- I think that's what you're asking, Mike, is just kind of what portion of that is agency.

We expect that agency to continue to deflate. But remember, that gets backfilled by full-time hours. So it's not -- there will be some offset of that from full-time employees coming on. I'll just note that, that's something that we're certainly seeing progress on coming out of the first quarter and in April is that the focus our operators have put on hiring full-time employees and we all know that's the solution to agency.

That's why we're seeing progress on the agency front because occupancy continues to build. So we're not seeing less of a demand for employees in the buildings. We're just seeing an ability to fill it more and more with our own staff versus agency.

[Shankh Mitra, Chief Executive Officer]

In fact, April probably was the best month we have seen from a net hiring perspective since we've started tracking this from the beginning of COVID. So you haven't seen the impact that we're talking about, you'll see that obviously in Q2 on a sequential basis, but again, I'm not going to comment on COVID. I have no way to predict what COVID is happening, not happening, going. But in a normalized market conditions, you will see that will improvement and will significantly expect the second half of the year.

[Operator]

Thank you. And our next question comes from the line of Juan Sanabria with BMO Capital Markets.

[Juan Sanabria, BMO Capital Markets]

Just hoping, if we could touch a little bit on the triple net business, you mentioned the Legend transition and a little bit of dilution there. But just holistically speaking, how should we think about the potential for further transitions, I guess, to shop at this point? And how same-store NOI should track towards the historical 2% to 3% given you're still kind of below the target rent coverage? And kind of what you expect that timing to be to get coverage back to a more sustainable level for those to kind of normalize the same-store growth in the coverage level?

[Shankh Mitra, Chief Executive Officer]

One thing about me that you probably have noticed over the years, we know each other that I'm extremely consistent. In 2018, I said there are two portfolios that I hope that we had in the RIDEA portfolio. In 2022, I'll tell you the same thing. And maybe if I couldn't convince the last one, I'll keep saying the same thing for years to come. So you should not expect a lot to change unless we believe, there is fundamentally economic reasons to change from RIDEA to triple net.

Fundamentally, we believe it's the same business, different structures for different reasons, different growth profile. So I've gone through this in the call before, so I don't want to waste your time. But that just -- you should not expect a lot more except that one that I have hoped for, for many, many years. So let's just now take the second part of your question.

So where you are today, Tim talked about it probably three, four calls in a row now, that we have a significant portion of our triple and portfolio in cash collection, right? And he mentioned when the growth comes back, you will see the other side of it. We have taken it on our chin, right, by putting in cash collection. And now we're on the other side.

So obviously, that line item for these operators are behaving like RIDEA, right, because that's what they are. They are cash collection. So on top of that, we have a substantial number of leases that are marked to inflation. And as inflation is going up, so you have overall portfolio is going up.

So, that probably -- these two together, probably 35%, 40% of the triple-net portfolio, and that's why you are seeing, obviously, that's why not only you are seeing, we continue to see significant sort of above average growth as long as we have average inflation that sort of in the system. Tim, do you want to add anything to that?

[Tim McHugh, Chief Financial Officer]

No, I'll just add, Juan, on your comment on coverages. So -- and restructuring -- so Shankh mentioned, we restructured a Legend lease in the quarter. We also restructured another triple-net lease in the quarter. And I would think about it from the timing makes sense given what we've talked about in the past, which is our operators were staying current with rent and resetting rents when they're staying current, and there's no line of sight and recovery doesn't make sense for other party.

So I think what you've seen here is an ability to come to the table on Legend to get to an agreement that makes sense for both parties, and we think we'll do very well for Welltower shareholders over time. But as you look at the Welltower triple-net portfolio coming out of the first quarter, we're at mid-80s coverage on a portfolio that's 70%, 70.5% occupied.

So, I think -- the important thing about the sustainability of that, I think, is quite high, given our view on the recovery. We said it all along. It's all recovery dependent, but we saw a strong recovery last year. We've seen rents continue to be paid. And we think given the occupancy there and the outlook in general in the space and where coverages are currently at, we're a pretty strong spot as far as sustainability of these rents and coverage recovery over the coming quarters.

[Operator]

Thank you. And our next question comes from the line of Steven Valiquette with Barclays.

[Steven Valiquette, Barclays]

So, Shankh, all your comments on the HR situation were obviously helpful to clear the air. I guess my question is if the HR HTA merger does close and actually goes through is the existence of that merged entity changed any of the strategic dynamics for Welltower in the MOB category, that is the positive or the negative that are worth calling out at this stage? Or is that merger really is just expected to be immaterial to either MOB industry pricing going forward or just perhaps immaterial to what Welltower is trying to accomplish in the MOB area based on what you see now?

[Shankh Mitra, Chief Executive Officer]

Steve, I have no comments on HR HTA merger. I will say that it remains a fragmented industry that one player size or lag thereof doesn't really make a difference. It's a health system driven industry and remains a very, very fragmented industry. So I have no comments other than the fact we don't see anything changing.

But I will offer a comment that I already have offered and bore you with details of what I've already said. At Welltower, we don't have a strategic acquisition. The only strategy that we have is to make money on a per share basis for existing shareholders. That is the only strategy we follow. And anything that doesn't fit to that model, we don't do it, right? So please understand, never count on us to do a strategic acquisition because we'll never will.

[Operator]

Thank you. And our next question comes from Steve Sakwa with Evercore ISI.

[Steve Sakwa, Evercore ISI]

I just wanted to have one follow-up. Tim, when you kind of looked at the second quarter guidance, obviously, NOI growth is kind of above FFO growth. And I know you kind of highlighted a couple of issues that seem to be pulling that down FX, G&A and development deliveries. I guess my question really is, as you move into the back half of the year and maybe into '23, do you see some of those headwinds dissipating? And should we start to see growth materially accelerate in line with NOI growth? Or does some of those headwinds persist for a bit longer?

[Tim McHugh, Chief Financial Officer]

Yes. Thanks, Steve. And I think this is -- this will expand a bit on the comment in my opening remarks around just our continued steady allocation of capital to distressed situations, near-term dilutive, even developments, the idea that we're seeing core earnings growth that's really driving the portfolio now.

And we're making long-term capital allocation decisions that are going to create sustainable growth over a multiyear period. And if I kind of take that in think about it in perspective of this quarter, and talked about same-store NOI growth on a year-over-year basis. So you go back to the second quarter of 2021, on the call, I spoke to a $0.77 per share number, if you back out out-of-period government grants. So this compares to $0.835 number ex HHS with our 2Q guide.

And I think the right way to think about bridging this is kind of three different buckets. So you've got the core portfolio, which is to your comment on same-store driven by same-store growth, 9% cash same-store growth equates to about lever 10% FFO growth number. Then you've got accretion from investments over kind of the last three quarters, you've got an offset of $0.03 from a combination of higher interest expense, higher G&A and then lower exchange rates on a year-over-year basis.

So if you dig in that investment accretion number a bit more, over the last three quarters, we have invested about $4.8 billion in capital. We've delivered another $500 million in developments. So we've got $5.3 billion of capital fully funded on the balance sheet as of 3/31 and it's expected to yield in the low 4s in that guide.

So keep in mind that these assets are significantly under earning where they're going to be long term and near term, it's because of operator transitions and lease-up within our recent deliveries. And of course, agency has also been a factor there. As these investments stabilize, they represent about $0.10 per share of FFO per quarter or $0.40 annually.

So just from the last kind of three quarters of capital allocation. And lastly, I'd just note, we've talked about our NOI bridge in our investor presentation and this is under 1/3 of that upside represented there. So it's kind of a snapshot within our year-over-year growth, showing how the capital we're putting to work is just creating the sustained earnings growth over a number of years going forward.

[Operator]

Thank you. And our next question comes from the line of Rich Anderson with SMBC.

[Rich Anderson, SMBC]

Thanks for the follow-up. I had some technical difficulties, so hopefully not repeating a question. But in terms of the use of OP units, obviously, your distressed model would imply older assets and hence, the attractiveness of units in a deal. How would you model out funding one point what do you say, the pipeline is $1.5 billion pipeline, plus another $2 billion that is under -- in the works. What percentage of that would be OP-unit deals? And then how would you time line the remaining forward ATM equity just so we can get our models in the right order.

[Shankh Mitra, Chief Executive Officer]

Okay. I will -- I hope I remember all the questions. First, we're not going to get into how many of these transactions will be in OP units or not. We might have given some indication of our previous press releases on some of the transactions. But beyond that, we're not going to get into how many will be or will not be. We have a general sense, but we're not going to get into that.

But let's just talk about something else that you asked, which is if you think about the pipeline of $1.5 billion under contract, right? Think about what Tim said, the $1.8 billion of capital that's raised in the ATM, but not settled. We have a few hundred million dollars of disposition, and that's just the equity piece, right?

You add X million that you think will come from the OP side, and then on a 65-35, you will see our investment sort of dry power for investment is actually $3-plus billion today, right? So that's sort of the question. And is there anything else I did not answer. I can't remember three questions at the same time, Rich.

But -- so I think I answered all your questions, if not just call me on my cell and we'll just walk you through. But we have ample capacity to invest capital that in the pipeline or could be in the shadow pipeline. Pipeline costs to deals under contract. Shadow pipeline is what we are negotiating.

And as I said, off that $2-plus billion, we might do zero because we transact at our price and the price is the price. And if we can convince someone to come to our price, we will do that transaction. So very much of we have the capital raised, but I cannot guarantee you that we apply to any of these transactions.

[Operator]

Thank you. And our next question comes from the line of John Pawlowski with Green Street.

[John Pawlowski, Green Street]

Just one modeling related item for me. Could you give me a sense, Tim, what percent of food and utility costs are ultimately passed through to the tenant on the SHO portfolio?

[Tim McHugh, Chief Financial Officer]

You think about a pass-through, I guess, you mean from like a direct billing?

[John Pawlowski, Green Street]

The higher rents, higher rents and higher fee income.

[Tim McHugh, Chief Financial Officer]

I'd say, all of it, we have an operating profit in that business. So you're making a profit on 1 basis. You're certainly seeing part of the rationale for rent increase being to offset inflationary pressures in both those categories.

But those aren't things -- food is something -- you're certainly in a lot of these different contracts you're highlighting as being a separate cost. Utilities generally not, but that's all wrapped into how pricing for the product works. So, I think when we talk about kind of seeing inflationary plus type rental increases. We're talking about the ability to offset the pressure we're seeing in food and utility inflation.

[Operator]

Thank you. Ladies and gentlemen, this concludes today's conference call. Thank you for participating, and you may now disconnect.