EUR 850.00 For Business Accounts Only

Morningstar | Modest Growth for Ventas in 3Q Still Beats Our Low Expectations

Fundamentals for Ventas outperformed our low expectations for growth in the third quarter, but it was while the headline normalized funds from operation number beat our estimate (after stripping out a one-time fee the company produced normalized FFO in line with our assumptions). Senior housing fundamentals continue to be weak due to high supply and the lingering impact of the prior strong flu season. Senior housing occupancy was up 80 basis points sequentially but still down 60 basis points year over year. Low rate growth of only 1.8% and expense growth of 3.1% led to a same-store net operating income decline of negative 2.7% compared with last year, although that came in higher than our estimate of negative 3.2%. The rest of the portfolio continued to produce positive growth. The triple-net portfolio was up 3.0%, in line with our estimate. The same-store medical office portfolio was only up 1.1%, but that beat our estimate of 0.2% growth. While the life science portfolio represents only 7% of Ventas' total NOI, the same-store portfolio grew 12.9%, above our 10.5% estimate. As a result, Ventas reported a modest total company NOI growth of only 1.3% for the quarter, but that still beat our 0.7% estimate. Normalized funds from operations came in at $0.99 but included a 3-cent fee received from Kindred, so the run-rate of $0.96 is more in line with our estimate. Despite the headline beat, management raised 2018 guidance by only a penny at the low end and our 2018 estimate is at the high end of the updated guidance, so we will have to see if management is being conservative or if the fourth quarter will underperform our expectations. The results of this quarter do not change our long-term thesis that healthcare will experience a few more slow quarters in the near term before a spike in demand drives significant revenue growth, so we are not changing our $63 fair value estimate for the no-moat company.

Supply continues to weigh on senior housing performance for Ventas with another quarter of NOI declines. The same-store NOI decline of 2.7% is within management's full-year guidance range of down 1% to down 3% for the sector. Year to date, we estimate that Ventas' same-store portfolio is down 1.7%, so the midpoint suggests that the fourth quarter may be around or a little worse than the third quarter. While management did not provide guidance for 2019, it said that the supply picture will be similar to 2018 and that senior housing may experience another year of negative NOI. While we agree with the assessment that 2019 will be another difficult year in terms of processing new supply, 2019 should benefit from coming off the severe flu season of 2018 (assuming this year's flu season is more in line with the historical average), which leads us to assume that NOI should be flat in 2019 for seniors housing. Management commented that the number of construction starts is now at a five-year low, a 1.7% annualized rate compared with existing inventory. Given that demand is currently rising at 2%, we should see demand outpacing supply in the next 12-24 months as the current construction inventory gets cycled through. We believe that the rising costs of construction and financing will further suppress supply growth and with demand ramping up over the next few years we like the long-term outlook for the sector despite the near-term headwinds.