Welltower Inc

NYSE:WELL

Earnings Call Transcript 2022-Q3

[Operator]

Hello. My name is Lisa, and I'll be your conference operator today. At this time, I would like to welcome everyone to the Welltower Third Quarter 2022 Earnings Call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there’ll be a question-and-answer session. [Operator Instructions].

I would now like to turn the call over to Mr. Matt McQueen, General Counsel. Please go ahead, sir.

[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 assurances that its 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, CEO]

Thank you, Matt. And good morning everyone. Today, I would like to describe our capital allocation priorities ProMedica Senior Care transaction and the rapidly evolving capital markets environment. I will also review some high level business trends before handling the call over to John, who will provide details on operational trends and a brief update on our operating platform.

I'm very pleased with the progress we have made since we last spoke 90 days ago, despite a flattish earnings trends on a sequential basis, driven by several existing headwinds, including FX, interest rate and utility expenses, our underlying business is actually improving meaningfully and setting up for the coil spring recovery that we hoped for. In our senior housing operating business, same-store revenue is up 10.8% year over year, driven by strong occupancy gains, and most importantly pricing power. 5.3% same-store rate growth is the best we have seen in our recorded history and I want to remind everyone that we're compounding already industry leading rate growth from last year.

From these early trends, I believe you will see a further improvement in Q4 which will create a strong setup for 2023. However perhaps what I'm most excited about is the progress we're making on the labor front with compensation for occupied unit is up 4.3% year-over-year, the lowest level of growth we have reported since the beginning of pandemic.

Our operating partners are experiencing a significant surge in applications, which has translated into strong increase in net hiring. In fact, in September, total portfolio monthly contract labor spend was the lowest since August of 2021 and subsequently improved in October. We believe this trend will continue into year-end outside the normal pickup agency use during the holiday season and into well into the next year.

We strongly believe the labor market is changing for the better, and it will help our sector to be a total standout amongst all real estate sectors next year on a relative basis. SHO portfolio same-store NOI growth was 17.6% in the quarter led by U.S., which posted third quarter of 20 plus percent growth and assisted living product reported same-store NOI growth of an impressive 25.1%.

Let me highlight three operating partners for you, that provide further insight into why I'm so pleased with our progress over the last 90 days. Number one, Oakmont. As you recall, we transition 10 top California assets to Oakmont in August. While we expected some initial disruption to occupancy NOI during that transition. In actuality, we recognize an immediate benefits due to remarkable performance from Courtney's team. These assets have experienced a slight increase of NOI and occupancy despite challenges that are normally incurred during a transition. This is the first time I've seen a transition with no negative P&L impact, apart from the six assets we transition to Oakmont last year.

I expect these properties as well as the other assets that we transition to Oakmont to add significantly to our 2023 growth. If you're visiting San Francisco this month for NAREIT Conference, I recommend you to join our property tour and experience firsthand the remarkable job this team has done. To my earlier point on shift of labor market during the summer, open positions across Oakmont platform was 16% of total jobs. It is down to low single digit at this point.

Number two StoryPoint. StoryPoint is one of our best operating partners perhaps will be the source of biggest NOI swing next year, with a billion dollars of investment with low occupancy properties, which is generating approximately 2.7% yield in Q3. StoryPoint made remarkable improvement a top line on both occupancy and rates, but the properties have not generated a significant NOI in 2022, as these properties were just over the breakeven occupancy and agency cost was very detrimental.

Their open positions are now down more than 50% through the end of October and we expect 80% reduction of agency by the end of this month. We believe that stabilized NIOI for this group of portfolio is about circa $80 million, which will be substantially achieved in 2024. While will not close this gap in 2023, I expect will make significant strides next year, and really over the half year way mark.

We cannot be more pleased with execution Dan and the team has pulled off. Number three Sunrise. Sunrise is our largest operator due to a national presence Sunrise experienced significant labor challenges and has had to rely on contract labor for last many quarters. Jack and his team has made remarkable progress in this area over the last 60 days. Contract labor down 52% from year-to-date run rate and I believe sunrise will be the biggest contributor to contract labor improvement in the coming months and quarters. Given strong rates Sunrise benefit from in this incredibly well located Welltower building, we should see extremely strong NOI growth contribution from Sunrise.

While we're encouraged, very encouraged by these trends, and our fourth quarter guidance of 21% growth at the midpoint, I'll remind you that we are at the very early inning of senior housing recovery. Will remain as excited as ever about the growth prospects in coming years and the 80 plus population growth will continue to accelerate. And as new construction in the sector will come to come to near a standstill. In fact, 2023 should see 4.5% increase in 80 plus population. As you may have observed only 2700 units got started in Q3. And frankly, I don't even understand how these people will make any money in development.

While new development should continue to come down, assuming people want to develop to make any money. Another interesting phenomenon we're observing is that the 1000s of units have being taken offline either because of obsolescence or because of higher and better use like behavioral health. As of 9/30, almost 15,000 units were taken offline on a TTM basis.

I also want to highlight consistent and steady performance of our outpatient medical group under Ryan's leadership. Our retention rate for the quarter is a remarkable 92.7% and rent spreads are ticking up into the mid-three, both new and renewal leases -- for both new and renewal leases, I'm pleased that our weighted average escalators are now about 3%. I'm also pleased that the low interest rate environment and the wall of capital that drove 2% to low 2% escalator seems to be a thing of the past.

Kelsey Seybold, which is our largest MOB tenant, and also represents a very significant portion of the Helmand pipeline was acquired by United Health during this summer. The significant credit upgrade of our largest tenant and our development client represents a meaningful value creation for our shareholders. The most significant change we observed in this however, in the MOB space, is the remarkable widening of cap rates. I've stayed like a broken record for a long time that MOB cap rate made no sense to us, given where the forward view of inflation was relative to underlying growth rate on the cash flow.

I'm pleased to see other capital sources are now waking up to the ugly realities of real return on capital in this inflationary environment. There was nothing wrong with this asset class except price. And I relieved to see that has finally changed billions of dollars of transactions were consummated at low cap rate, often which short term floating rate debt, the party's over with is over with capital structure and cash flow, as many of these vehicles are now upside down. We'll be observing the space closely in coming months and quarter.

Now, I would like to discuss our recent restructuring of a lease with ProMedica health system. I'm not going to bore you with the details our fundamental thesis of this investment in 2018. I laid it out, clearly when we did this transaction, we didn't predict COVID and the impact and its impact on the cash flow portfolio, and frankly, were underwhelmed by the execution. But the fundamental investment thesis of the original transaction should still protect our shareholder’s capital, that basis, and appropriate structure are critical to any real estate investment.

While we have historically relied on our operatively to drive cash flow and that yield, we never make real estate investment decision based on yield. We believe success in real estate investment over a long period of time, is a function of right basis and staying power. If you own an apartment in New York City for $400,000, while everybody owns equivalent apartment for $1 million, you can still charge rent for that unit and generate strong returns. That is such a simple yet perhaps one of the most overlooked concept on Wall Street.

The cacophony of noise around ProMedica as negative dark coverage over the last few months have reached a fever pitch. And we honestly understand and empathize with this Pavlovian response as the history of healthcare REIT sector is full of remedies, such as massive red cards, or disposal of assets at fire sale prices that result in significant value destruction to shareholders. Even though I'm personally humbled by the cash flow deterioration in the ProMedica portfolio, let me repeat that we are not experiencing a rent cut on a cash basis, and our investors are the beneficiary of a satisfactory total return to date. And that goes back to an incredibly favorable basis and structure.

To continue my metaphor previous metaphor, Manhattan apartment rents might come down from 5000 to 4000 in a bad year, but we never hypothetical even charged 4000 as we bought our unit at such a low price. That is why our rent is now going up not down after this transaction. And I continue to believe it remains below market and will be a source of future value creation.

As I mentioned in our last call, ProMedica has made significant strides in reducing its operating losses, which are farther narrow the last 90 days to both occupancy gains and lower labor cost contract labor costs particularly. Integral or its parent entity which we have done multiple transactions previously, has successfully executed many turnarounds, including those involving at our assets and we sold it to them in last couple of years and is well positioned to return these assets to its previous glory using a regional operating strategy, just like they have done over the last couple of years.

We are looking through integrates parent entity and the owner for the downside protection through subordination of their equity as well as significant other guarantees and will subsequently share significant value creation with us.

But I cannot overemphasize that the fundamental idea of below market rent basis equals to below market rent is not about ProMedica, it is about our belief how we invest and protect our shareholder’s capital. If a business has demand growth, and you can own it for significantly less than what it costs to build, the low leverage capital structure, it is challenging for me to see how lose money in most scenarios.

We remain partner with ProMedica, albeit on its surface on a much smaller scale and we'll be delighted to see the significant credit improvement of this important institution in Toledo.

Finally, let's discuss the current capital markets environment, which excites me to no end. Before I go into what we might do in the future, let's discuss what we have done in the past under this leadership team. If we go back and read all our comments about capital deployment in the last few years, you will notice a few attributes, one, was unlevered IRR buyers and we underwrite significant cap rate expansion at exit. Hence, the recent rate increase doesn’t fluster us, just as we have never chased low rates down under the guise of low cost per capital.

Two, our unrelenting focus on basis relative replacement cost, and as a result, we seriously dislike low cap rates in stabilized occupancy scenarios. Nothing has happened so far, even in this turbulent capital markets backdrop that require us to change how we invest capital. We are experiencing historic volatility in the treasury market, in every part of the -- with every part of the yield curve inverted right now, with significantly the most important two to 10 curve is as inverted as it was during Paul Volcker's time 40 years ago.

One approach for us would be to ride out the storm in a shelter and do nothing. But those of you know as well, know, we're unlikely to do so. We maintain a fairly favorable capital position and a war chest due to our extremely talented capital markets team under the leadership of Tim. Despite our unfavorable public cost of capital on a spot basis, today, we have no dearth of global institutions who want to partner with us.

And let me remind you, again, a simple capital allocation framework I've described to you before. Every company effectively has four choices of raising capital, one, tapping internal cash flow, two, issuing debt, three, issuing equity and four, disposition of existing assets. It also has five essential choices of deploying that capital. One, investing in existing assets, two, acquisitions, three, buying debt at a discount, four, paying a dividend and five, buying stock at a discount.

You can loosely call the first set of choices as selling, but the right description would be sourcing or raising capital, you can loosely call the second set of choices as buying, but perhaps the correct description will be deployment of capital.

Following the same line of thinking loosely speaking, consistently, buying low and selling high creates value for shareholders. In a more wholesome and thoughtful description, optimizing these choices from this menu of sources and uses in a tax efficient manner, creates meaningful value for continuing shareholders on a partial basis. Our goal is to maximize partial value and partial cash flow, not to become the biggest or the most revolutionary. Our capital allocation team on both sides of the balance sheet is poised to pounce on these great manual opportunities, while the most volatile and interest rate environment in four decades has put in front of us. And at the same time, John's team is just getting started on the journey of cash flow and platform optimization.

With that. I'll pass it over to John. John?

[John Burkart, COO]

Thank you, Shankh. I'll provide some insight into our operating business, starting with the medical office portfolio. In the third quarter same-store NOI growth for our outpatient medical business was 1.4% over the prior year's quarter which was below trends, due to some timing issues on tenant improvements, delaying moving and higher utility expenses. We continue to see strong retention levels at 93% in the quarter and accelerating renewal rates in the marketplace.

Turning to our senior housing operating portfolio, the recovery in the sector continues. As Shankh mentioned, revenue in our same-store portfolio came in at 10.8% in the third quarter compared to the prior year's quarter. All three regions showed strong revenue growth starting with Canada 4.4%, the U.S. and UK growing in an impressive 11.6% and 18.9% respectively.

Revenue growth for the quarter was driven by a 390 basis point increase in occupancy, and another quarter of healthy pricing power with REVPOR growth of 5.3%. As Shankh mentioned the highest we've witnessed. Sequentially, the portfolio occupancy continued to improve with a gain of 110 basis points during the quarter. While expenses remain a challenge, our operators continue to control expense for or expense per occupied room. The cost for compensation per occupied room only grew at 4.3% in the third quarter over the prior year's quarter. The lowest growth rate since 2019.

Expense for grew at a rate of 3.7% in the third quarter on a year-over-year basis, well below our REVPOR growth and 5.3%, driving expansion of 130 basis points on a year-over-year basis in our margins.

As our operators have pivoted from the COVID state to normalized operations and as labor and materials have become more available, we have aggressively addressed maintenance that was delayed during COVID. Which resulted in slightly elevated repairs and maintenance during the maintenance expense during the quarter. Overall, the quarter's occupancy gains strong REVPOR an expense controls enable the senior housing operating portfolio to deliver 17.6% year-over-year same-store NOI growth in the period led by the U.S. with over 20% year-over-year growth. While Canada NOI grew at 6.3% and UK was up 9.8%.

Going forward, we expect the operating portfolio to continue to deliver outside NOI growth with each geography expected to experience accelerating NOI growth in the fourth quarter. As we look forward to what many believes will be a weaker labor market in 2023, it's important to realize that labor as an expense represents about 60% of our total expenses.

Additionally, nurses are only about 5% of the labor force at the communities. And although there are other more specialized positions at the communities, most of the physicians require skills that are transferable from other sectors of the economy, allowing us to benefit from the softer labor market, as Shankh noted.

Regarding our operating platform, we continue to quickly move forward on plans to pilot our first module in early 2023 with several other modules in the works. Like all technology rollouts, it's about people, processes, data, and then technology. So it's not about flipping a switch, it takes teamwork. The results will show up over time. Our meetings with our operators have been very productive as we bring together their skills and experience with our own to build a better future for the industry.

Finally, I would like to thank our operators and their employees for making these results possible. It's been a full sprint since the beginning of COVID. And they have addressed one challenge after the next. We are finally at a point where it seems like there's light at the end of the tunnel. Occupancy continues to rise, net hiring is occurring month after month. REVPOR continues to outpace expense for which will drive further margin expansion, and so much more.

We wish to thank everyone and wish them a wonderful Thanksgiving. And thank you for your hard work. I'll now turn the call over to Tim.

[Tim McHugh, CFO]

Thanks, John. My comments today will focus on our third quarter 2022 results. Performance of our triple net investment segments in the quarter, our capital activity, our balance sheet liquidity update, and finally our outlook for the fourth quarter. Welltower reported third quarter normalized funds from operations of $0.84 per diluted share, representing 6.2% growth over the prior year period when adjusted for HHS funds received and changes in FX rates. Marking our second consecutive quarter of year-over-year growth since the start of the pandemic.

We also reported our second consecutive quarter positive total portfolio same-store NOI growth, the 7.2% year-over-year growth. Turning to our triple-net lease portfolios. As a reminder, our triple-net lease portfolio coverage and occupancy stats reported a quarter in arrears. So these statistics reflect the trailing 12 months ending 6, 30 2022. In our senior housing triple-net portfolio, same-store NOI increased 1.6% year-over-year, below the low end of our guidance range, which is primarily timing related.

Trailing 12-month EBITDA coverage is 0.83 times in the quarter. Next, same-store NOI and our long-term post-acute portfolio grew 3.1% year-over-year, in trailing 12 month EBITDA coverage of 1.31 times.

And lastly health systems, which comprise of our joint venture with ProMedica Health System. Had same-store NOI growth of positive 2.75% year-over-year, and trailing 12-month EBITDA and EBITDAR coverages were negative 0.01 and negative 0.6 respectively, as operations continue to be impacted by higher agency utilization costs in the second quarter relative to the prior year.

What are these coverage figures in context of our announcement last night, trailing 12-month ProMedica senior care EBITDAN coverage of negative 0.01 implies trailing 12 month EBITDAN of negative $1.6 million relative to $106.68 million of cash rent paid in the trailing 12-month period ending 6, 30 2022? The transition of the skilled nursing business will bring the remaining ProMedica senior care EBITDAN back to profitability with the trailing 12-month coverage of nearly two times relative to the remaining rent and the 58 assisted living facilities they will continue to operate.

Thus, the transition to Integra Health has a dual benefit providing us a well-capitalized strategic partner to focus on the skilled nursing properties while also leaving ProMedica senior care a substantially better financial state following the transaction.

Turning to the capital market activity. In the quarter we continue to enhance our balance sheet strength by utilizing our ATM program to raise approximately $760 million afford equity an average price of $80.12. We settled 9.1 million shares for total proceeds of at $842 million to fund $1 billion of net investment activity, leaving $1.5 billion of unsettled forward ATM as of 9, 30.

Post quarter end, we settled additional ATM proceeds to fund investment activity and pay down $850 million of total debt. $817 million of which was floating rate. Post that pay down, we have the full $4.0 billion available borrowing capacity on our line of credit, and no one secured maturities until 2024. We expect to finish the fourth quarter with consolidated net-debt-to EBITDA below 6.5 times for the first time since 2020.

From liquidity perspective, in addition to $4 billion, we pass in line of credit we have $1 billion of cash and forward equity and $580 million remaining near term dispositions and loan pay down proceeds and a 4.6 yield representing $5.6 billion of total near term liquidity.

Lastly, moving to our fourth quarter outlook. Last night, we provide an outlook for the fourth quarter of net income attributable to common stockholders, of $0.08 to $0.13 per diluted share, and normalized FFO of $0.80 to $0.85 per diluted share, or $82.5 at the midpoint. As mentioned in the release, our fourth quarter guidance contemplates no HHS funds to be received in the fourth quarter. So after adjusting for $1.5 of non-recurring items, including HHS funds receiving the third quarter were effectively flat for sequential FFO.

The sequential change is composed of $0.2 from sequential increases in senior housing operating portfolio and $0.1 from sequential increases in outpatient medical and senior housing triple net. These are offset by $0.3 of interest expense and foreign exchange headwinds. Underlying this FFO guidance, is estimated total portfolio of year-over-year same-store NOI growth of 8.5% to 10.5%. Driven by sub segment growth of outpatient medical, 1.5% to 2.5%. Long-term post Q 2.5% to 3.5%. Senior housing tripled net, 5% to 6%. And finally, senior housing operating growth of 18.5% to 23.5%. Driven by revenue growth of approximately 9.5% year-over-year. Underlying this revenue growth, is expectation approximately 200 basis points of year-over-year occupancy increase and rent growth approximately 7%.

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

[Shankh Mitra, CEO]

Thanks, Tim. One of my mentors, Peter Kaufman often says, life is not about predicting, it's about positioning. Did we predict that ProMedica EBITDA coverage will turn negative? Absolutely not. But we positioned for it and structured as such. Did we know COVID will happen and availability of credit in senior housing sector will weaken? No, but we positioned for it. We own more than 11,000 units of age restricted and age targeted apartments that will benefit from government agency backstop financing at very attractive pricing from which we can generate a couple of billions of dollars of proceeds.

Did we predict that our stock will be in the low 60s and we'll lose our access to equity capital? No, we didn't. But we positioned for it and raise $3.28 billion of capital at an average price of $86.55 this year. We have no idea if rates are going back down or going back up and how ugly the capital markets environment might turn before it gets better. We're laser focused on what we can control and have an incredible organization that is rallying to take advantage of the opportunities with how thoughts as opposed to gambler thoughts.

I cannot be more excited about the period of unprecedented far share value creation that we are embarking on for our existing owners. And with that, I'll open the call up for questions.

[Operator]

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

[Vikram Malhotra, Mizuho Securities]

Morning. Thanks so much for taking the questions. Just a quick 2-parter here. One, you talked a lot about pricing power. You gave the examples across operators on how pricing labor is improving. Just how sustainable is this across your regions maybe within the U.S., but also globally. And then can you just add on to that, any early signs that the elevated hit impacting fundamentals?

[Shankh Mitra, CEO]

I'll take the pricing power, John, if you take the tough that's great. So from a pricing for standpoint, Like, if you just look at what we said at the beginning of the year, nothing really changed, except if you think about what happens is in the industry, not at least for our portfolio, you've got a lot of renewals in the beginning of the year. And this year, we got very strong pricing, obviously. And given that the gap between where market rent is as well as where your renewal rates are obviously with the rents that are rolling off, there's a gap over a period of the year that sort of comes down. That's sort of what happens in the normal year.

What we have said this year, given that market rents have been rising at a faster rate than annual rates, first time, honestly, like a decade. So we have seen that gap close down pretty meaningfully, and you're seeing RevPOR increases are actually getting better through the year. You adds on top of that, that we are seeing some early renewals for next year in that sort of, call it, another 10-ish percent range, and we expect that obviously, we'll do similar type of pricing increases as we come to next year, you will see that pricing power will continue to hold up and RevPOR rate increases will continue to hold up. So we're pretty excited about it.

But remember, pricing power also comes in many forms and substances. So you have occupancy of the portfolio and many parts of the portfolio is getting to a point overall portfolio might still be at 80% occupancy, but there is segments of the portfolio well above high 80s and 90% occupancy where it starts to get pretty meaningful pricing power because you have no in to sell anymore.

So as we get into that environment more and more, I believe that you will see sustainable pricing power. I have no crystal ball on exactly what the macroeconomic environment would be next year. But as we sit here today, we feel very good about pricing.

[John Burkart, COO]

Yes. On your question regarding the flu, I most certainly can't predict the future. But what I can say is that the COVID protocols, I think, will mitigate the situation within our community, they're still in place. I was at one of the properties very recently, and I'm waiting in line to get in, we wash hands, temperature check, wear a mask, et cetera. And I'm going to align with employees any vendor, all of us. That's the protocol. It's a safe, thoughtful protocol. And so my expectation is that, that will have a very positive impact in the communities how the flu season goes in the U.S. and otherwise, I don't -- I can't predict that. But I do think the COVID protocols will be very positive going forward.

[Operator]

Your next question comes from the line of Derek Johnston with Deutsche Bank.

[Derek Johnston, Deutsche Bank]

Hi, everybody. Good morning. Can we discuss the newly authorized $3 billion in share repurchase program? How do you feel about the shares at current levels? And I guess, the possible timing of execution given the announcement comes in conjunction with earnings, which is seems unique? Thanks.

[Shankh Mitra, CEO]

Good morning, Derek. I think I laid out pretty clearly what our possible capital deployment opportunities look like buying back shares is one of them. And frankly speaking, as you know how we think, we are unlevered IRR buyers. And we look at everything from that lens or you can look at from the basis lens, and you will see that we find our stock to be very, very attractively priced, and we'll measure that against every other opportunities we have.

I cannot predict on timing. That's just not -- we just don't do that, as you know. But we know -- you know how we think. We think through a lens basis to replacement cost, and we think through and eye of total unlevered IRR. And if you do those calculations, you will come to the perhaps the same conclusion that we have done also.

[Operator]

Next question comes from the line of John Pawlowski with Green Street.

[John Pawlowski, Green Street]

Thanks for the time. John Burkart, as operations recover in the SHOP portfolio, in between AL versus IL, do you expect structurally different margins between the two businesses once fundamentals fully stabilized?

[John Burkart, COO]

There naturally are different margins starting out. But I think that the endpoint will change. I think what we're doing with the operating platform will change that across the board and because AL has perhaps might say more opportunity, though the impact might be slightly greater there. But I think the whole business is going in the right direction at this point in time. And I think we're benefiting across the board.

[Shankh Mitra, CEO]

John, you didn't ask for my opinion, my $0.02 on this topic is that you will see more improvement in AL than IL, but you'll see improvement in both. But you asked the right person, that question.

[Operator]

Your next question comes from the line of Wendy Ma with Evercore.

[Wendy Ma, Evercore]

Hi, good morning. And thank you for taking my questions. So could you please give us some color about the moving trends of different senior housing project types like IL AL and the senior apartments? And also given the current slowdown of the housing transaction market, have you observed any slowdown of your independent living move-in?

[Shankh Mitra, CEO]

I'm not sure I completely followed that question, but do you think -- I think you hired -- you asked about the moving trends in the senior’s apartment business. If I heard that correctly, I.

[Wendy Ma, Evercore]

And also -- sorry, can you give some color for different senior housing types like IL, AL and also the senior apartments?

[Shankh Mitra, CEO]

Yes. Okay. So I think I understand the question. So look, I mean, if you think about from a product-type perspective, as I mentioned, that the assisted living is going through probably the most robust recovery perhaps for nothing other than the fact that it is the most need-based environment. It's more least susceptible to in the macroeconomic environment. When you need it, you need the product when you need it. And obviously, it also fail farther. So we have more rooms to climb back up. So that's why we're seeing the most sort of robust recovery.

As I mentioned, the NOI growth in that sector for the quarter was 25-plus percent. So that's sort of -- let's just then talk about the senior’s apartment business. That business has been as good of a business as any business I've seen has been very strong, through COVID it's been very, very strong through times. I mean our portfolio is at 95-plus percent occupancy. As you know, we operate in the mid-market portion of that business, which is very dependent on social security and everything else.

And you've got a massive cola increase next year, which we also think will be very beneficial for the pricing power increase in that business next year. Independent living, you are obviously independent living did not fall as far as assisted living, and it's coming back more slowly. But that is -- I personally think that's a good business when you combine that with other property types. And I think obviously, Canada, which is our majority of our independent living exposure, has been so hard to recover, but as John noted, that we are starting to see improvement there.

[Operator]

Your next question comes from the line of Dan Bernstein with Capital One.

[Daniel Bernstein, Capital One Securities]

Hey, good morning. I just wanted to kind of expand on your comments about the upside down, I guess, private buyers in the MOB space. Just trying to understand there a little bit more if lenders are actually foreclosing on assets? And maybe if you are already seeing some opportunities there to buy assets at a better IRR? And maybe on a related question, does that just do your comments also apply to seniors housing and skilled nursing where I believe there are some upside down loans as well?

[Shankh Mitra, CEO]

Yes. So Dan, we haven't seen lenders are foreclosing on medical office loans yet. But my comment was if you -- it's just called the convexity of the situation, right, when you have very, very low rates, and people buying cap rates that are in that environment makes sense and then treasury card moves 200, 300 basis points. The treasury cards sitting on top of or above the cap rates that you are paid that's a prior upside down convexity situation, and that's the comment I was making, it takes time for lenders to foreclose, it takes time.

But we are starting to see some meaningful increase in the cap rates there, which is interesting. We're not yet to talk about whether we are going to look at that and execute on that yet. We have lots of opportunities that we see on a relative basis. We talked about, obviously, senior housing is one of those.

Nothing changed. I'm specifically pointed out in MOBs because that has changed. Senior housing as an opportunity was there for last 18 months and when executing on it, nothing changed there, right, and continues to be super attractive. On top of that, to the earlier question Derek asked, our stock isn't really attractive.

So we look at every opportunity and think about what's the unlevered IRR on a risk-adjusted basis and what's the sort of execution risk as well as obviously the frictional cost that comes with the execution risk. But is the way finally first time in years has become interesting. And yes, but it's interesting at a price. And that price is likely a lot lower than most what you think.

[Operator]

Your next question comes from the line of Ronald Kamdem with Morgan Stanley.

[Ronald Kamdem, Morgan Stanley]

Just 1 2-parter. Just looking back at the slide in the deck, on the long-term $543 million embedded NOI. My question is just on that $230 million that comes from getting back to 4Q '19 NOI levels. Your comments sounds like you're pretty constructive on sort of margin improvement still with sort of the acceleration you saw in revenues relative to expenses this quarter.

Can you just remind us how you're thinking about the margins of that $230 million versus sort of the 4Q '19 level is part one? And if I could take in a part two, which is just on the ProMedica consideration, about $0.5 billion, how much of that is the 15% stake that they're giving up? And how much of that is sort of the working capital.

[Tim McHugh, CFO]

Yes, I'll start with the first comment on the margin side. The assumption is we get back to pre-COVID levels. So no assumption on change in margins. We assume we get back to pre COVID level profitability and operating margins of about 30.8% across the portfolio.

[Shankh Mitra, CEO]

On the consideration, it's roughly half and half.

[Operator]

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

[Michael Carroll, RBC Capital Markets]

Yes, I just wanted to touch on the new SNF JV. I know you just kind of highlighted the rough size of the operating reserves ProMedica is going to be providing. But how is that going to be distributed to the new operators? Are they simply earmarked to fund near-term cash flow losses during the transitions? And what happens if these new operators don't actually need to access those reserves?

[Shankh Mitra, CEO]

The reserves are earmarked for the operating losses, working capital losses and that reserve will go to them to improve the quality of the portfolio. So if they do a good job and don't need all -- that's good for them. So they share the risk and they get the benefit of their savings there.

[Operator]

Your next question comes from the line of Tayo Okusanya with Credit Suisse.

[Tayo Okusanya, Credit Suisse]

Yes, good morning. Again, congrats on the quarter and the transition. I have been covering this from15 years. I don't think I've ever seen a rent restructuring where the rents went up. So that's pretty cool to see. In regards to Integra, and again, this idea that they're going to be subleasing a lot of the assets to regional operators. Just curious a little bit again. Your mantra in the past is always going to be as close to the operator as you possibly can. You add even on the Board at ProMedica. How is that relationship going to be with these subcontracted operators? And how do you kind of manage that to ensure you continue to kind of get operational excellence out of them?

[Shankh Mitra, CEO]

Tayo, extraordinarily good question, and thank you for your comment there. I'll just add one thing to that not only the rent is going up also the previous tenant being close to $0.5 million on the table. To make sure that these properties are taking care of going forward. So we think our partner for that.

So I'll just add to the question of why we didn't go and find the offers. Our mantra is to get close to the operators, but that's in the senior housing business. I fundamentally believe in the expertise, and we have worked with Integra and its parent company on many of these transactions before. There's no caution that they are significantly better in the skilled nursing business than we are aware and will ever be. So we are sharing and for creating that value, I've mentioned in my script that we're seeing very significant upside that they can create with them.

And return, they're providing us the downside protection, which is very important for us. So you think about it, you got to do in life, what you are best at. Think about from an op standpoint, we think we understand operations of senior living, the wellness housing business as well as MOB business. And we want to partner with people who we fundamentally believe on the other hand, are very good in other businesses, and that's what you're saying.

Fundamentally, it is sort of going through the decision-making is going to the people who are the best at what they are good at. At the same time, it sort of cut the risk reward in terms of who creates value. It's just as simple as that. As I've said before, you can see the value still remains at very attractive basis, what you can get to.

You know the total rent, you know what market sort of rent sort of constant of significant business is, and you can divide it to a value and you will see that value is still extraordinarily attractive and thus, the rent is extraordinarily attractive and remains below market. So there will be hopefully a lot of upside as the regional operators bring this portfolio back to his previous Glory, which we actually -- this is not a guess. We have -- we kill how many assets we have transacted, Medicare assets we’re transacted with Integra and its parent. About 21, 21 assets.

We have seen them doing it. And we are going on an execution path that we have seen in the last couple of years. So fully, there's a lot of value to be created for residents, for employees, for capital, and that will be shared between the two parties. But it is fundamentally the belief of they're giving us the downside protection for which they should enjoy very significant upside that they create -- on the other hand, for us, it's all about where we sit in the risk spectrum.

So it's a win-win-win for all three parties. ProMedica wants to focus on its core business, and wants to be in the higher margin business and that's the leadership that they are taking that forward. There's a very significant improvement in their credit.

For Welltower, it's obviously a great day for some value realization as well as, obviously, taking this portfolio to the hands where we can create another round of very significant up step of values. For Integra, they can ping it at a very attractive basis. And obviously, they're creating the value that they will share the upside with us. So it's a win-win-win on all fronts.

[Operator]

Your next question comes from the line of Mike Mueller with JPMorgan.

[Michael Mueller, JPMorgan]

Hi. We appreciate the expanded development disclosure. But what's the time frame that you see for ramping the developments from the 1.6% initial yield to the 7% stabilized yield?

[Tim McHugh, CFO]

Yes, Michael, I appreciate recognition that we're trying to help just the ramp or the kind of trajectory of how that cash flow comes through and it depends on the type of development. So we think about our -- where a lot of our starts have been as of late is more in the senior apartments to on the housing side. And there, you're talking about more 12, 18 months type ramp towards stabilization in the traditional senior housing side, it's more of a 24, 36-month ramp. And that's where more of the lower yields negative by able to come in the first 12 months.

[Operator]

Your next question comes from the line of Nicholas Yulico with Scotia Bank.

[Nicholas Yulico, Scotiabank]

Thanks. Good morning, everyone. I just want to go back to ProMedica. Clearly, strong pricing you got there and the cash rent going up as attractive. I just want to see, though, if you could let us know the GAAP impact because I didn't see any mention of lease escalators for the new arrangement you had previously. So just trying to understand the FFO impact from this. And separately, if you had -- I don't know if you're going to be filing details on the new lease, but if you had anything you can share right now in terms of escalators, financial covenants CapEx requirements because those were specific, very sort of onerous conditions of the last lease with ProMedica, which kind of strengthened I think, the whole process you went through. So any detail there would be helpful? Thanks.

[Shankh Mitra, CEO]

Very good question. The escalators remain the same, 2.75%. And the GAAP impact, as we mentioned, will be roughly neutral to slightly accretive. One of the leases are remaining the same lease ManorCare, the Aramco senior living lease is going to 10 years. So you have a negative GAAP impact there. So net-net, you will be roughly neutral to slightly attractive.

[Operator]

Your next question comes from the line of Austin Wurschmidt with KeyBanc.

[Austin Wurschmidt, KeyBanc Capital Markets]

Hi, good morning. Curious, first off, if there were other partners you approach for the ProMedica joint venture. How do we think about you going from a health system investment with feeders into these assets to the more regional operator approach? And then just lastly, I'm curious, kind of going back to 2016, 2017, wasn't the plan to ultimately exit the SNF business. And so curious how you think about the strategic direction of that segment of the portfolio?

[Shankh Mitra, CEO]

So can you please repeat the first part of your question again?

[Austin Wurschmidt, KeyBanc Capital Markets]

Yes. I was just curious if you approached any other partners beyond just Integra for the new joint venture.

[Shankh Mitra, CEO]

So look, it is no secret that we have been thinking about in the industry that we have been thinking about this particular portfolio for a long time. We have been approached by at least five parties who are interested in being this transaction similar or higher value similar or higher structures. We went with a partner that we know very well, where we felt the execution risk is much lower. But I think if you have heard that you have correctly heard that we have been approached by many groups because these assets are not only very attractive assets, they have very good history, but also the basis remains very, very attractive.

Going back to 2016, '17, I think your question was to exit the SNF business. I -- we are very clearly laid out two years ago when I took over as CEO we have a very simple strategy that we want to make money on a risk-adjusted basis on a partial basis for our existing shareholders.

That's the strategy, and it's a very simple strategy whether it's skilled nursing, whether it's medical office or the senior apartments, whether it's senior housing, what is debt to equity, value-add development, opportunistic will go anywhere we can find opportunities to make money on a partial basis for existing shareholders. That's a simple strategy.

[Operator]

Your next question comes from the line of Juan Sanabria with BMO Capital Markets.

[Juan Sanabria, BMO Capital Markets]

Hi, good morning. Shankh, I was just hoping you could talk to maybe opportunities you see outside of the U.S. given the unusually strong U.S. dollar and whether that presents a wider opportunity set for potential acquisitions?

[Shankh Mitra, CEO]

One extraordinarily good question. As you know, we get really excited about basis and were USD, we raised capital in USD, our expenses are mostly in USD, capital structures and USD. And we think about basis in terms of USD. And as you can figure out, U.K. on a U.S. dollar basis has never looked more attractive and Canada also looks pretty attractive. But U.K. particularly given what happens to the currency situation, it's extraordinarily attractive.

If you add on top of that, that you don't have a super functioning debt market in U.K., like you have the agency support in U.S. and Canada. It's a very, very interesting market. I have never seen U.K. opportunities as cheap as it looks today from the U.S. dollar investor. And that probably perhaps goes for any asset class, anything even for shoppers. So you're picking up the right thing, we're absolutely thinking about it.

[Operator]

Your next question comes from the line of Rich Anderson with SMBC.

[Richard Anderson, SMBC]

Thanks, good morning. Congrats on the ProMedica Integra transaction. The market seems to be rewarding you for that resolution. But the way I look at it is your kind of married ProMedica in 2018, but you signed a prenup, and that protected your downside. And all this is based on basis and it's all clear and understood. But now you're selling 15% to Integra, what happens to base for that 15%?

In other words, 85% I assume, stays put -- but are you selling -- are you upping your basis and eliminating some of that “prenup” component so that if there is a disruption going forward with Integra and its regional partners, that you still have an equal amount of protection should something go wrong here? Because a transition isn't a silver bullet. It usually -- it sometimes works, but sometimes not. So I just want to get a gauge in the future in terms of how you're protected going forward? Thanks.

[Shankh Mitra, CEO]

Yes. So our basis remains the same, and you can do the calculation on -- again, you have the total rent. You know what the give or take yield is in the business. And you can get to the total value, rent divided by the yield give will get you the value. You can divide that by the total number of beds, and you will see Integra basis are also very attractive. So our basis remains attractive. Remember, what we sold to Integra is what we got for ProMedica for nothing.

So it's important for you to understand the nuances of what's happening here. So our basis remains very attractive. Obviously, we got the support for the operator who is living and living, as I mentioned, living close to $0.5 billion on the table.

We created another structure where that 15%, which Integra is paying for remains subordinated that further lowers our net basis, which is the first time when you remember, I talked about that, that condition remains, we have obviously other guarantees in place, as I said. And if that's not the case, remains -- remember, in the last question, I said that people want these assets because they're very well-located assets, and a very good location and the very attractive basis.

So we don't see, as I said, look, anything can happen, Rich. But as I've mentioned before, four years ago on this topic, that low basis, well-located assets that have demand that's held in low-level structure, it's hard to see how we lose money. Anything can happen, anything is possible. But if you think about we have to leave within the realms of probabilities, not possibilities, it looks pretty good to me.

[Operator]

Your next question comes from the line of Michael Griffin with Citi.

[Nick Joseph, Citi]

Thanks. It's Nick Joseph here with Michael. You've talked a lot about the opportunity for improvements in modernization in senior housing. But when you look at the skilled side, and I recognize it's a very different business, more regulatory considerations and everything like that. But are there opportunities to improve either the operations or share best practices from a well perspective that maybe could help coverage going forward?

[Shankh Mitra, CEO]

Nick, first, congratulations for getting the top job. We have been a big fan of yours for a long time, and obviously, thank you for your question on the call today. So look, I've mentioned very, very clearly that we do not consider ourselves a skilled nursing expert. If we did, then we would not bring in our partners in this deal, who we consider knows the business better than we do. So I will leave that to our partner to execute the strategy, which we have mentioned, as Nikhil just mentioned, that we have done just from these portfolio 21 assets before, we'll leave it to them to maximize where, in this case, is this sort of a structural protection is what we are after, not maximizing value through operators. That's what they're bringing to the people in this case, and we remain focused on our core businesses, where -- whether it's senior living, whether it's well in housing or medical office, and that's what John is spending all this time.

[Operator]

Your next question comes from the line of Steven Valiquette with Barclays.

[Steven Valiquette, Barclays]

Great, thanks. Good morning. Just sticking with ProMedica for a minute here. I guess 1 of the expected operational synergies from ProMedica acquiring the ManorCare SNF assets in the first place was likely centered around good flow of patient referrals from ProMedica hospitals into a lease of the ManorCare SNFs where it made sense geographically. I guess I'm curious, with hindsight, it that part of the strategy plays out the way everyone thought it would maybe just perhaps the underwhelming execution that you alluded to, Shankh, was just more a function of just tough industry dynamics for SNFs overall?

And also under the new agreement then, does ProMedica patient referrals to the SNFs under Integra's operating control stay intact going forward as part of the strategy for Integra to turn things around is really to maybe widen and expand the Medicare post-acute referral sources to improve the occupancy?

[Shankh Mitra, CEO]

Let me try to address your question, Steve, and then Nikhil, you jump in. First is the fundamentally the strategic part of the patient flow point that you made has not played out. And has it not played out because we walk directly into a very tough environment of COVID or has it not played out because the idea we couldn't execute or ProMedica could not execute. I don't know the answer to that question. Hindsight is 2020. But there is no caution that it hasn't played out and the leadership at ProMedica firsthand will tell you that they're under wound with the execution as well. So no question, it hasn't played out.

And the second -- but if you think about it, again, I would recommend you, it's hard to say things, easy to say things sort of looking back I would like you to go back and to the call where I've described why we did this transaction, and we'll see how much we emphasize that we fundamentally think everything goes away, what we still have is the basis. Think about Steve as I mentioned, that you have a 2-bedroom apartment in New York City where cost it costs everybody $1 million bucks, but you bought something for $400,000 doing JC.

You don't need to charge the rent that everybody else is charging. That is the fundamental idea of how you make money will stay without taking a lot of risk. And that's what we saw, and that has played out, hopefully, you'll agree in this transaction. Nikhil, do you want to add anything to the second part of the question?

[Nikhil Chaudhri, Co-Head of U.S. Investments]

Yes, I think from a clinical programming perspective, I think this portfolio ManorCare ProMedica has always been good at providing good clinical programs, and they work closely with hospitals across different markets, whether it's for medical hospitals or not in creating programming that serves the need for the local hospitals. And that programming stays in place. And obviously, as new operators come in, they'll decide if they want to keep that in place, scale that back, enhance it. But this whole platform has been known to have incredible clinical programming and that stays in place.

[Operator]

Your next question comes from the line of Dave Rogers with Baird.

[David Rodgers, Baird]

Yes, maybe for John Burkart. John, as you obviously grow occupancy in the SHOP portfolio, you have more and more assets that are likely now at kind of stabilized occupancy. Can you talk about the margins at the stabilized assets? And if they stabilize to pre-COVID levels. And then any delay between the occupancy stabilization and margin that you're witnessing in that larger group of assets?

[John Burkart, COO]

Yes. Let me just give you an interesting piece of data. One of our operators that has very high occupancy in the 95% actually had expenses going backwards. And so you see some tremendous margin improvement there. The whole portfolio is going that way. And no doubt that the higher occupancy levels, as Shankh mentioned, was pushing able to push rents to achieve higher rent, which is, again, then driving better margins.

But on the expense side, we continue to see opportunities to improve as we go forward and move out of the situation during COVID. As I mentioned in my prepared remarks, one of the situations during COVID was there's a challenge to get some maintenance done, get people into the buildings, et cetera, et cetera. So our numbers today even reflect some elevated maintenance expenses, which will be reduced over the coming quarters and again, provide a stronger run rate.

So yes, things are going very good. They're going good at all levels. The -- as Shankh mentioned, we have maybe four buckets of assets with different levels of occupancy across the board and at the top occupancy assets. We're achieving fantastic margins as you get down the run, obviously, that's not the case, but we're continuing to improve occupancy and things are all looking forward. So hopefully, that answers your question.

[Operator]

Your next question comes from the line of Josh Dennerlein with Bank of America.

[Joshua Dennerlein, BofA Securities]

Yes. No, I appreciate all the color on ProMedica. I guess maybe one question on the senior housing side for the ProMedica. Was there any discussion of potentially moving that to another operator or you guys are pretty comfortable with how they're performing?

[Shankh Mitra, CEO]

As Tim mentioned, those assets actually a decent amount of profitability for them. And ProMedica, that is part of ProMedica strategic, obviously, planned, and those are, as you know, high margin businesses, and they have been even before COVID and we expect they will continue to come back to -- remember, where pre COVID assets on mid-80 to person occupancy was generating high 30% margin.

So I expect as you sort of come back from the COVID and get that occupancy stabilize. Frankly speaking, I will venture a guess that will be the best sort of margin part from all of ProMedica's businesses.

So look, I mean, that's where we stand today, and there's no reason to believe that those assets will not. As you can see, as part of this recovery from these occupancy levels in the business, margins are coming back. I'm not happy with where margins are today, and we're seeing obviously a lot of signs of improvement that we discussed. But the margin of this business should come back to a much higher level, and ProMedica should enjoy that like everybody else in the business.

[Operator]

At this time, there are no further questions. This concludes today's conference. You may now disconnect.