The past 18 months have been interesting for healthcare real estate investment trust HCP, Inc. (NYSE:HCP). After dismal performance from its skilled nursing assets, the company decided to change its direction, spinning off its troubled assets and taking other steps to improve the financial condition and stability of its portfolio.
1. Only 58% of HCP's revenue comes from rental income
Unlike many REITs that generate virtually all of their revenue from renting out properties, HCP's rental income makes up less than 60% of its revenue. This is because not all of HCP's properties are leased out to tenants in a passive manner. Specifically, nearly half of the company's senior housing properties are operated as partnerships with some of the largest and most respected senior housing operators in the industry, such as Brookdale Senior Living.
2. HCP has virtually no debt maturities until 2019
As part of its repositioning, HCP decided to use proceeds from its spin-off transaction to address virtually all of its debt obligations that were set to mature before 2019. Not only does HCP not have any major debt maturities until that time, but substantially all of the company's debt is at fixed interest rates, the average of which has declined by 200 basis points since 2010.
3. HCP has one of the strongest and most diverse portfolios of all healthcare REITs
In the post-spinoff era, HCP now has one of the most stable and diverse portfolios of healthcare assets in the industry. Although senior housing is HCP's largest focus, it makes up just 44% of the portfolio, with substantial stakes in medical office and life science properties (more on those later). In addition, 94% of HCP's remaining portfolio is made up of private-pay healthcare businesses, which are generally far more stable than those dependent on government reimbursements.
4. HCP has $650 billion of opportunities in its investable universe
Now that HCP has gotten the riskier assets out of its portfolio, it can look to the future. The company foresees a lot of acquisition opportunities in the years ahead. Just 15% of healthcare properties are REIT-owned, as compared with 40% or more in other types of real estate such as malls and hotels, so the industry is still in the early stages of REIT consolidation. When combined with the growing supply of healthcare properties expected as the U.S. population ages, HCP sees a total of $650 billion of potential future investment opportunities. To be clear, I don't think that HCP will actually end up acquiring anywhere close to this amount of properties. The point is that there is going to be a massive pool of potential properties to acquire, from which HCP can hand-pick the most attractive opportunities.
5. In addition to acquisitions, HCP develops properties from the ground up
Not only is there tremendous potential to grow through acquisitions, but HCP also grows by developing properties from the ground up, which can be an even better value creator. As a simplified example, let's say that medical office properties generate a 7% annual return on their value. So, if HCP buys a medical office building for $10 million, it can be expected to generate $700,000 in annual profit.
However, if HCP can build the same property for just $8 million, this profit now translates to a much higher 8.8% annual return. Not only that, but $2 million of instant equity has been created for shareholders.
Again, this is an oversimplification, but the basic concept applies. Currently, HCP has $820 in committed ground-up developments in its pipeline, which should be a nice driver of growth in funds from operations (FFO) in the years ahead.
6. HCP's redevelopment could generate strong returns
Another value-adding opportunity HCP has identified is redevelopment of its medical office assets. The company aims to ramp up its redevelopment efforts to the point where it will be investing $75 million to $100 million in redeveloping its properties annually. The company claims these projects will produce cash-on-cost returns of 9%-12%, so this could definitely be a worthwhile undertaking.
7. HCP has incredibly stable life science and medical office portfolios
HCP's senior housing properties are the most well-known component of the company's business, and it makes sense since they are the largest part of the business. However, it's important for investors to know just how attractive HCP's life science and medical office properties are.
For starters, the life science portfolio, whose tenants include biotech companies, medical device manufacturers, pharmaceutical companies, and more, has maintained a 97% occupancy ratio over the past two years. Plus, HCP has 2.1 million square feet of developable land to further grow this part of its business in the future.
The company's medical office properties are nearly all affiliated with hospitals and healthcare systems, and also maintain impressive occupancy rates above 90%. And HCP's tenants consistently report more satisfaction than the industry average.