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Intrinsic Value is all-important and is the only logical way to evaluate the relative attractiveness of investments and businesses.
Good morning, and welcome to the Healthcare Realty Trust Second Quarter Financial Results Conference call. [Operator Instructions] Please note, this event is being recorded.
I would now like to turn the conference over to Kara Smith. Please go ahead.
Thank you for joining us today for Healthcare Realty's Second Quarter 2021 Earnings Conference Call. Joining me on the call today are Todd Meredith, Bethany Mancini, Rob Hull and Chris Douglas.
A reminder that except for the historical information contained within, the matters discussed on this call may contain forward-looking statements that involve estimates, assumptions, risks and uncertainties. These risks are more specifically discussed in a Form 10-K filed with the SEC for the year ended December 31, 2020. These forward-looking statements represent the company's judgment as of the date of this call. The company disclaims any obligation to update this forward-looking material.
The matters discussed in this call may also contain certain non-GAAP financial measures, such as funds from operations, FFO, normalized FFO, FFO per share, normalized FFO per share, funds available for distribution, Fad, net operating income, NOI, EBITDA and adjusted EBITDA.
A reconciliation of these measures to the most comparable GAAP financial measures may be found in the company's earnings press release for the second quarter ended June 30, 2021. The company's earnings press release, supplemental information and forms 10-Q and 10-K are available on the company's website. I'll now turn the call over to our Chief Executive Officer, Todd Meredith.
Thank you, Kara. Good morning, everyone, and thank you for joining us for our second quarter earnings call. Today, I'll discuss current health care utilization trends, our second quarter results, and our external growth momentum. And I'll describe how our strategy delivers steady growth quarter after quarter. And I'll close by touching on a few of our internal initiatives.
First, we're pleased to see that most providers are back to normal in terms of utilization. Health care providers have proven their ability to operate throughout the pandemic. Patients have returned to their doctors, and we're hearing from our tenants that outpatient procedures are back to or above pre pandemic levels.
Even more encouraging, physicians and health systems are telling us their businesses are growing and they need more space to meet demand. This underscores our view that health care utilization is poised to continue growing on a consistent annual basis, propelled by aging demographics.
Turning to our results. We reported same-store NOI growth of 2.9% for the second quarter, which puts us back in line with our historical average of about 3%. Looking ahead, we're well positioned to sustain these steady levels of internal growth.
We continue to see the benefits of operating in dense markets with high barriers to entry. This insulates us from new supply and facilitates steady rent growth. As rents rise, we're well positioned to benefit from shorter lease terms, which gives us the ability to increase rents more often.
With respect to external growth, we're truly firing on all cylinders. Year-to-date, we've acquired 21 properties for over $400 million. We're well on our way to meet or exceed our 2020 acquisition volume, which was our best year ever, and we're confident in our ability to continue this momentum. Today, we're seeing aggregator sell portfolios comprised of lower quality, often isolated assets at premium cap rates. This is driving relative cap rate compression, especially on portfolios.
What makes us different is that we're sourcing individual quality assets at attractive prices in better markets and building on our strategic clusters. Our ability to smoothly integrate properties into our existing operations reflects the value of our platform.
Another source of value creation is our development pipeline, which includes over $1 billion of embedded growth opportunities. As an example, here in Nashville, we're starting an on-campus redevelopment project involving a property we've owned for over 15 years. In place of the existing building, we're constructing a larger LEED certified medical office building at the center of the Ascension St. Thomas Midtown Campus. This strengthens our relationship with St. Thomas and builds on our cluster of nearly 1 million square feet in Nashville. Our strategy is straightforward. We focus on markets with strong demographic trends and partner with leading health systems. In today's competitive environment, our local market knowledge and industry relationships help us source new investments and attract new tenants. Our cluster strategy amplifies these benefits, and we gain scale and efficiency as we lease and manage more and more properties in close proximity.
In terms of location, we target properties on and adjacent to campus, complemented with nearby off-campus facilities where we can drive incremental returns. We're able to further enhance our yields by engaging in targeted development projects and utilizing our joint venture partnership, which widens our opportunity set. This strategy has paid off.
In contrast to many other REITS, whose results were hard hit during the volatility of the last 18 months, we've delivered growth in FFO per share each quarter. Over the long term, our strategy creates value for shareholders through the steady compounding of cash flows.
Before I hand the call over to Bethany, let me take a few moments to highlight some recent initiatives. We believe the depth and breadth of our team as well as the long tenure of our leadership is a driver of our success. I'm pleased to announce that we recently promoted Julie Wilson, to Executive Vice President of Operations. Julie has been with us for over 20 years, and this promotion highlights her leadership and the growth of our platform in that time period.
Julie has oversight of our portfolio operations as well as marketing, technology and ESG groups. And with respect to ESG, we continue to dedicate resources to this important effort. Our ESG program will now be led full time by Carla Baca. This year, we completed our second GRESB survey. And later this year, we'll release our third corporate responsibility report.
And finally, as you may have heard in the introduction, we're pleased to welcome Kara Smith, who brings years of REIT Investor Relations experience and will lead these efforts for Healthcare Realty going forward. I'll turn the call over to Bethany now for an update on health care policy and recent trends.
Thank you, Todd. Health Systems are reporting strong momentum in elective care and patient utilization across the board. Performance was better-than-expected in the second quarter for the public hospital companies.
One of the main drivers for their recovery and growth outlook in outpatient volume. Physicians have been able to ramp up patient visits and surgeries more quickly than hospitals in most markets. MGMA reported positive average growth in physician compensation for 2020, a sign of strength amid the shutdown of routine care and elective surgery/ Ambulatory outpatient settings have also experienced strong employment growth throughout the recovery.
In 2021, physician offices continue to be a bright spot for job gains in the health care sector, which bodes well for medical office space demand. Physicians are expanding into larger practice groups to lower administrative costs, increase market share, and utilize external capital to fund growth.
Health care providers are also benefiting from a public health policy environment that continues to support positive reimbursement and expanded health insurance coverage. More than 2 million people gain insurance through ACA exchange marketplaces during a special enrollment period after Congress increased the availability of subsidies last year.
Congress is focused now on extending the 2-year expansion of ACA subsidies and exchange eligibility in the upcoming budget and infrastructure build. The legislative agenda should provide a stable backdrop for providers as they meet greater patient demand and pursue growth initiatives.
On the regulatory side, CMS is pursuing several avenues to lower health care costs. President Biden issued an executive order in July, mandating the FTC to increased scrutiny of hospital consolidation and anti-competitive practices among providers. BMS also continues to implement regulations on price transparency, requiring a list of hospitals prices to be published of their most common services.
It remains to be seen if consumer-friendly disclosures will change patient behavior when choosing their care. But these efforts to lower cost growth and ensure competition should accelerate incentives for health care delivery in outpatient settings. The correlation of health policy, hospital regulation, and outpatient trends is continuing to advance the nation's demand for medical office facilities. The opportunities that lie ahead position HR's portfolio and external growth prospects well within the rising tide of health care services.
Now, I will turn the call over to Rob to give us an update on investment activity. Rob?
Thank you, Bethany. Investor demand for MOBs has accelerated, highlighted by the resilience of the asset class over the last 18 months. As a result, cap rates have continued to trend lower. We have also seen an uptick in the number of portfolios in the market as MOB aggregators seek to capitalize on this demand and attractive pricing.
In our view, most of these portfolios of disparate assets are richly priced at 50 to 100 basis points over similar quality individual properties. In contrast, our strategy is to curate a high-quality portfolio, clustered in dense growing markets by targeting the properties we want.
We have been busy on the acquisition front. We closed on 14 buildings for $336 million since the end of March. These acquisitions had a blended initial cap rate of 5.2%, with another 30 basis points of embedded upside through lease-up. 3 quarters of these acquisitions are located directly on-campus and all are located in existing markets. The average 10-mile population density around these assets is over $900,000, and the projected growth of 5.4% is nearly double the U.S. average.
These assets also illustrate our cluster strategy and the depth of our existing health system relationships. As an example, we acquired 5 buildings associated with Centura Health, a leading system in Colorado that we have worked with for over a decade. We now have over 1 million square feet with Centura and expect to add more over time.
Year-to-date, we have completed $412 million of acquisitions, adding 1.1 million square feet to our portfolio. Given the strength of our activity year-to-date and a robust pipeline, we are raising our acquisitions guidance. The increased range is now $500 million to $600 million.
In this competitive environment, we are also taking advantage of the strong pricing to recycle capital into investments with better long-term growth prospects. We have closed on approximately $115 million of sales year-to-date. We are raising our disposition guidance to $115 million to $175 million for the year. In our development pipeline, we see increased momentum as hospitals expand their outpatient programs.
In Nashville, we kicked off a development that is highly integrated with Ascension St. Thomas' Midtown Hospital. We're building a 106,000 square foot LEED-certified MOB with the subterranean parking garage, and it will also include a new shared front entrance with the women's services tower of this leading hospital.
Our budget is $44 million, and construction will take approximately 2 years. At completion, we will have almost 450,000 square feet on this campus and nearly $1 million in the dense health care corridor of Nashville.
What's important is developments like these strengthen our provider relationships and are an attractive avenue to create value. We target development yields of 100 to 200 basis points above comparable stabilized assets.
In closing, our focus on relationships and clusters means that the investments we are making today will lead to more investments tomorrow. With our increased acquisitions guidance, we are on pace to deliver robust accretive net investment activity for the year. Now, I'll turn it over to Chris for a review of our financial results.
Thanks, Rob. Our second quarter results reflect the steady growth of our MOB focused business. Normalized FFO per share was $0.43, up $0.01 from a year ago. This is driven from the contribution of the $500 million in net acquisitions completed over the past 12 months, along with meaningful same-store growth.
Second quarter same-store NOI increased 2.9%, which is in line with our long-term outlook. Trailing 12-month same-store NOI growth was 2.3%, up from 2% in the first quarter. The year-over-year second quarter NOI growth benefited from a few key items. First, the 4.9% increase in expenses appears to be above normal. However, keep in mind, we're coming off of quarantine impacted lows from last year. On a compound annual growth rate basis from the second quarter 2019, expenses grew just under 1%. This is below our long-term expectation of 2% to 2.5%. The second, parking income, is essentially back to pre-pandemic levels. The rebound generated year-over-year growth of 45% in parking income for the quarter.
Finally, the $700,000 reserve for COVID rent deferrals booked in second quarter last year is boosting the year-over-year comparison. As a reminder, we reversed the majority of the reserves in the third and fourth quarter of 2020 as the deferrals were repaid. When you're updating your models, please keep in mind that this reversal, together with normalizing expenses will dampen year-over-year growth in the next 2 quarters. But the real takeaway is the consistent embedded growth in our portfolio.
The portfolio average in-place contractual rent increase is approaching 2.9%. For our second quarter lease renewals, the average cash leasing spread was 2.8%. Year-to-date, cash leasing spreads have averaged 3.8%, which is at the high end of our 3% to 4% target range. Releases commencing in the second quarter, our average future contractual increase is 3.1%, 20 basis points higher than our in-place average. This reflects our pricing power derived from our quality portfolio in attractive markets.
With respect to occupancy, we're still catching up from last summer. And like most in the real estate sector, we are working through the impact of delays and permitting and construction. On average, we have seen build out time lines increase by approximately 30%. In some high-growth markets like Dallas, permitting time lines, have more than doubled. As a result, our same-store average occupancy was down 50 basis points year-over-year.
While these delays may persist in the short run, we are optimistic about our ability to drive improvements in occupancy moving into next year. Tours and interest are strong across our portfolio as physicians seek space for their expansions. And over the long term, the projected growth in outpatient care will drive the need for more medical office real estate.
Regarding our balance sheet and liquidity, net debt-to-EBITDA was 5.1x, down from 5.3x in the first quarter. During the second quarter, we funded $223 million of investments with $66 million of dispositions, $38 million from our joint venture partner as well as the settlement of $116 million of forward equity contracts. As we look ahead, we have ample liquidity to fund our growing pipeline of acquisitions. We have $115 million of foreign equity contracts remaining to be settled, in addition to cash and other liquidity sources. The year-to-date FAD payout ratio is 85% with moderate maintenance CapEx in the first half of the year. We expect maintenance CapEx to increase as we move to the back half, but the payout ratio to remain below 90% for the year.
The events of the past 18 months more than proved the resilience of our portfolio. We believe the strong underlying demand drivers for outpatient care will help drive internal and external growth. These tailwinds, when combined with low leverage and access to multiple sources of capital will continue to drive compounding per share growth. Operator, we're now ready to open the line for questions.
[Operator Instructions] Our first question comes from Nick Yulico with Scotiabank.
I was hoping to hear just a little bit more in terms of the transaction market and the decision to increase guidance on the acquisition side. Maybe you could just talk a little bit more about some of the opportunities you're seeing and why you did increase that guidance?
Yes. Sure. I think if you -- kind of goes back to really last year, when we continue to benefit from our team being out and continue to build our pipeline. Really, if you look at kind of going back the way we source properties, really relationship driven. We're focusing on building out our clusters. And so we continued to build that last year. And as we came into this year, we really saw some momentum with closing on those properties, and we put that up for the first part of this year. And if you look at our pipeline, it's approaching the targeted pipeline that we're working on is approaching $1 billion. So we see some momentum there, and we're gaining a lot of traction. And so that level of confidence has sort of risen through the year as we've been able to execute on these.
And so I think you'll see us close on properties that look much like what we've already closed this year, primarily on an adjacent properties, building out our clusters in the existing markets that we're already in and that we know and have good relationships in.
Okay. Perfect. And then just a follow-up question is on the disposition activity, which I think you also -- you've lowered your yield expectation on that. And year-to-date, the yield has been lower on dispositions than the acquisitions, but some of those dispositions year-to-date were not fully leased assets. So I'm just trying to understand a little bit more in terms of that. It looks like an accretive benefit right now where you're investing versus where you're selling. How much of the disposition cap rates that are being affected by not selling fully leased buildings or stabilized buildings?
Yes. I mean I think it's a combination of the strong pricing environment. Certainly, we're taking advantage of that. But you're right, they were buildings that we didn't see an opportunity to build out the clusters in some cases where there was an opportunity for growth. And so some of those properties, although they were struggling occupancy wise, the buyers were local individuals who saw an opportunity. And so we were able to achieve a nice cap rate on some assets where we didn't see a lot of growth going forward. So I made the decision to roll out of them.
Our next question comes from Jordan Sadler with KeyBanc Capital Markets.
This is Arthur Porto on for Jordan. 2 questions for me. Is the elevated pace of investment sustainable in the long term? Or is this more sort of short-term in nature, maybe for the next year? And also, we noticed that the same-store portfolio continues to see some negative net absorption. So if you could provide some color on this trend, that would be appreciated.
Sure, Arthur. On the acquisition pace, as Rob described, I would say, the pipeline has continued to expand. And our view is it is sustainable. If you look back over 2, 3 years, maybe 3 or 4 years, you'll see that it's been building, and that's been a process of expanding the pipeline. And as Rob described, really focusing on building out our clusters. And so we just see a lot of depth there. It's a very targeted approach in the markets that we're in today that we want to expand upon, but also targeting some new markets. So we're making progress there. I think we see it as sort of a sustained effort to try to push towards a pace of approaching 10% of enterprise value each year. And obviously, it may ebb and flow a little bit from there, but you're seeing a close level or close to that level last year, certainly driving towards that this year, and that's our plan going forward. On the occupancy, Chris, you want to?
Yes. On occupancy and absorption, it really plays into what we've seen as it relates to delays in build-out, which is -- which has increased over the last year, and that's tied to extended permitting times as well as some delays in construction due to materials and such. But that's not a permanent issue. We view that as temporary, and it does appear to be leveling out and hopefully will start to reverse. But the underlying demand for space, including tours that we're seeing, remains strong and positive. So as we look out into the future into late this year, moving into next year, we have optimism on absorption and overall occupancy.
The next question comes from Nick Joseph with Citi.
You guys touched on the current portfolio premiums that you're seeing in the market. But as you look at different opportunities, and I'm sure you look at everything. Obviously, accretion is important. What are the key strategic considerations you consider when you're thinking about some of these larger portfolios that have been on the market?
I mean, clearly, the focus, whether it's an individual asset or it's a smaller portfolio or a much larger portfolio, and there's all of that available today. It's very market-driven. Obviously, we're very focused and disciplined about pricing. But strategically, we're very focused on how does this work with our portfolio. Are these -- the markets we're in and can expand our strategy and our clusters? Or is it new markets that we want to be in. Obviously, not every portfolio can be perfect. But you saw us several years ago, jump on the [ Meditenoli ] portfolio in Atlanta. That was a market that we really wanted to get into, and they had really high quality properties. So it made sense for us, and we were a bit more aggressive there. So it's very market-driven and then the next layer being the relationship with the health systems, whether they're market-leading, strong health systems. And then obviously, the strength of the assets themselves.
And then as you think about kind of the current company and the current enterprise value, how do you think about the ability to scale, if you were to get larger? And kind of what are the kind of considerations there? I don't know, either from the cost of capital or anything else, just given your current size versus kind of the negatives or the positives of growing.
There's 2 sides to that, right? There's the portfolio side, the operational side that I was just touching on, where we can build upon that scale and the efficiencies as well as market knowledge, sourcing, leasing that comes from getting larger in markets and having more markets that you can do that in. So all that can be positive with scale. As it relates to sort of the balance sheet capital, clearly, there are some efficiencies that you can scale up. We've seen that in our life cycle as that's improved. I would say we certainly benefit for being a relatively super safe asset class, and I think we've got a long track record there. And I would say as you look at, whether it's credit spreads or equity multiples, I think we have enjoyed some pretty attractive features there in terms of cost of capital. So we don't see a disadvantage. But as we grow and scale, I think that will certainly continue to benefit.
The next question comes from Vikram Malhotra with Morgan Stanley.
Maybe just first, just quick numbers. There was an impairment, I think, in the quarter. Could you just remind us what that was?
Yes, Vikram, this is Chris. That's related to the redevelopment that Rob talked about here in Nashville. We're going to be tearing down an existing building that we've owned for a while to make room for the larger new property. And so we went ahead and took that impairment this quarter in preparation for that demo happening later this year.
And then just as you're now focusing on renewals, call it, next 12 months, I remember a while ago, you were trying to push for higher in place contractual increases. I'm just wondering in a post-COVID environment, is there anything different you're seeing from your tenants or what you're trying to achieve in terms of either rent bumps or lease rents, or anything like that, anything related to just maybe a change in the structure of the leases.
No. I wouldn't say there's any material changes. Even if you saw this quarter, our contractual average is running just below 2.9% for the portfolio. And the future contractual increases for the leases that commenced this quarter were about 20 basis points higher. So we have been able to incrementally continue to grow those escalators, and that's our expectation. But it's a little bit here at a time kind of to grind higher. But we feel very confident about what we've been able to achieve and expect to continue to do so moving forward.
And then just last one, can you remind us the -- between sort of the on-balance sheet acquisitions and in the JV, sort of how your -- how sort of the decision-making is in terms of what property fits in each bucket? And specifically, what are the fees that you get on the joint venture?
As I mentioned in my remarks, Vikram, we certainly see the JV as a way to widen our opportunity set. And obviously, still very much down the center in terms of MOBs. But as we build out these clusters, it enables us to take on some different characteristics or profiles of investments where we can take something that maybe is somewhat value add, a little lower occupancy. And you've seen us do some of that. Rob described some of that in the acquisitions recently, and we can lease that up. So it may look -- may be a lower cap rate on the front end, but it's got a higher stabilized cap rate as it matures. And so we can do that in the JV very accretively and even enhance that, as you said, with some additional compensation for the work there. And then maybe on the other end of the scale is looking also at some more off-campus. And you've seen us put most of the off-campus assets we purchased in the JV as well. So it's a way for us to sort of widen the opportunity set but then balance the cost of capital and the risk that's in that.
And then on the fee structure, obviously, we're not going to give anything specific there. But as you would expect, various types of fees related to the value that we deliver with the JV partner.
The next question comes from Juan Sanabria with BMO Capital Markets.
Just curious on the occupancy recovery may be getting pushed out because of delays or what have you on build-outs, or permitting. If there's a kind of a lease versus occupied number spread, you can provide just to give us some visibility on when that occupancy will boost or to what level? And more broadly, how you're thinking about kind of the target occupancy, given the demand you're seeing and kind of expected retentions across the portfolio?
Yes. I think that it's kind of a multi-point answer on that. Specifically related to the executed leases that have yet to take occupancy, it's a little over 200,000 square feet right now, which is about 30% higher than what it is historically. You always have a portion of that. So that has grown basically in tandem with the amount of time that it has taken to complete the permitting and build-outs. So that's leveling off and hopefully starting to move back towards more historical levels, we do think that, that is -- that's where we're seeing some opportunity in the short run as it relates to stabilizing and hopefully improving our occupancy. Over the long run, we've said that there's going to be a portion of occupancy because our portfolio that might be different than others because of our focus on multi-tenant versus single tenant. And as a result, you just end up with churn and some kind of natural friction. But our hope and our goal is to continue to drive occupancy up into the higher in the 80s, approaching 90%.
But we don't expect with the portfolio and the multi-tenant that it's going to be 95% plus. We just don't think that that's realistic based off of the type of portfolio we have. But we also think that the advantages that you get from a multi-tenant portfolio and the growth that you have in that -- in the embedded escalators, the tenant retention, renewals certainly provide value that overcomes that last incremental piece of differential in occupancy.
And then just a follow-up on cap rates or acquisition yields. You mentioned compressing spreads for some lower quality assets. So maybe just if you could put some guideposts about where do you think pricing is today more broadly for the market for kind of the lower quality stuff, however you want to frame that on versus off or primary versus secondary markets relative to kind of your focus? And what do you think that -- sorry.
Yes. I think cap rates, we've just taken a look at what we've done so far this year, we're averaging [ 5.3 ]. And obviously, there's a range there of cap rates that we've acquired buildings at. But I think really, when we think about it as if you think about -- if you go back several quarters, maybe 5.5 was sort of our sort of our targeted quality asset, that's probably moved down into the low 5s. And I think that for the lower quality stuff that you mentioned, maybe that was in the 6-plus range. There's probably been a similar type move. I think where you see a real differences in the portfolios. Those are pricing -- seem to be pricing down in the low 5s for assets that probably need to be in the high 5s, low 6s. So you're just seeing that premium on the portfolios play out for assets that probably don't warrant a cap rate at that level.
Next question comes from Rich Anderson with SMBC.
So Chris, first to you, you said because of the reversal of deferrals in the back half of last year that we should expect a dampening year-over-year growth. So I guess you're talking about same store, should be -- are you talking relative to the 2.9% that you produced this quarter? Or I'm trying to get an idea of where the second half will land relative to your guidance of 2% to 3%.
Yes. I think that's exactly what we're pointing to, Rich, is that $2.9 billion, which is great, and that is what we would say, we expect long-term and consistent with what you are seeing in our contractual escalators as well as with our cash leasing spreads. You are going to have a few of these kind of comparison items that create some noise. And so it may be closer to the 2% range, but still within our guidance range that we provided for the year of that 2% to 3%. But long term, going back to that 3% tying to the underlying embedded growth in the escalators.
And then earlier on the call, I think it was Todd that you said you get to growing rents quicker with shorter term leases. Are you actually looking to go shorter-term to get at your rents? And then the second part of that question is, you're kind of getting 3% bumps and you're getting cash releasing spreads in that range, too. So how are you really getting more rent at sort of a similar level of growth, whether it's a bump or a release?
Yes. Over time, I mean, the answer to your first question would be we're not targeting necessarily shorter-term leases than we have now. It's just more of a relative comment to other sectors and so forth. And even peers in the space. And I think, again, that goes back to Chris' comment about our multi-tenant focus, a little different than single tenant, which tends to be longer. But our point is that's a benefit when you feel this pressure of rising costs, inflation, whatever, the materials, everything that's going on, the competition. So I think our view is we're well positioned as a result of that. As Chris said, we always expect rent bumps to be sort of in that average 3% roughly. It's been grinding higher towards that with more recent deals going a little higher than that. But those cash leasing spreads for us historically have been a little higher. And we just see the propensity of that to be increasing in this environment.
Again, we're not talking about double digit, but we could easily see a quarter kind of moving a little higher here and there every now and then above even the 4% level. But again, long term, 3% to 4% is really where we expect things to be.
Yes. So we're running right at 2.9% right now on escalators and long-term 3% to 4% on spreads. And year-to-date, we're at 3.8%. So we are seeing that we're seeing some -- yes, call it, 100 basis points improvement on spreads right now versus comps.
And then last question for me, a bit hypothetical. The events, recent events at HTA, a great portfolio. I'm not suggesting that they're selling, but that's certainly something people are talking about. High-quality portfolio, perhaps been a lot more off-campus than you would like. So how would you handle something like that? I assume you would take a look if, again, hypothetically, it became available. But is it just too hard to pencil because of your strategy relative to theirs?
Yes. Rich, obviously, we're all sort of kind of shocked by the drama in the low drama space of medical office. So it's 48 hours old and still to play out. But we're not going to speculate on that. I mean, obviously, we do look at everything. As you mentioned, you know us from years back, we've looked at everything, whether it's from one asset up to M&A deals, we've always looked if it's relevant in our space. So we're going to look at everything, but we have no idea what's going to play out, and we're not going to speculate.
The next question comes from Daniel Bernstein with Capital One.
I guess 2 questions, I guess. One, I don't know if you could provide any nuance on the leasing demand in terms of what type of physician specialties are more in demand than others? And if there's any particular type of space, it's maybe surgery versus physician space that's kind of in that demand? And then secondly, as COVID-19 sped up the decision-making process at hospitals in terms of their real estate decisions, whether that's leasing or selling assets, it's always been a very slow process, but it sounds like maybe that's picking up a little bit for one reason or another.
Yes. In terms of specialties, I wouldn't say there's anything to highlight there. As you know, we're more on and adjacent to campus. So you're going to see a higher acuity, higher specialist inside of our buildings. And so we're seeing growth in those types of practices. But nothing that I would say is worth noting in comparison of one specialty over another.
Yes. And I'd say, longer term, the trend has been certainly the highest specialties of orthopedics, cardiology, cancer, obstetrics and then specialized surgery, all things that fit into what Chris said near the campus demand. On the second point about decision-making, we certainly saw it slow down last year for all the same reasons we all had to sort of take inventory second quarter last year of liquidity and all the other things that come with that. That certainly throws some decision-making, and we are seeing that thaw, and that's been playing out over the last 2 or 3 quarters, which is great.
It certainly seems to be showing up in incremental growth plans at the hospital level, the one -- the development that Rob described here in Nashville was in the making for many years. I think some of you and maybe you, Dan, were here years ago when we did a property tour here in Nashville, and we were pointing at that building and said it was going to come down, and we'll replace it. Well, we're finally here. So that's encouraging to see that the long-term plans didn't change coming out of COVID.
So we are seeing it thaw and come back. It's going to be dependent upon the situation by health system and by market, but it's all very encouraging. And I'd say the same for physician groups, same thing, starting to really get aggressive on growth plans. So we're very encouraged by what that will bring.
Our next question will come from Mike Mueller of JPMorgan.
I know you've had management changes in recent years, and you're a relatively young team. But can you talk a little bit about what steps the Board takes to -- in terms of thinking about succession in case there is an unexpected departure?
Sure. We certainly do that with the Board every year. In fact, we just recently reviewed it again. So we definitely have that as a priority with the Board and the whole management team, obviously, starting with me, but even deeper than that. So we do that regularly. We certainly make sure that we have sort of unplanned and planned candidates in place. And I think that's a strength that I mentioned in my remarks that we have as a company that our founder, who you knew well, David Emery, was very focused on that when he ran the board and the company, and we continue to do that. So it's a large priority here. And I think we're very fortunate to have a lot of tenured people with a lot of expertise. So we're very confident in that plan.
[Operator Instructions] Our next question will come from Lukas Hartwich with Green Street Advisors.
So there's a lot of noise on the inflation front. And once the dust settles, do you have a sense of how replacement costs will have changed from medical office versus pre-COVID levels? Obviously, we're like everyone. We're watching the data, obviously, looking to see whether -- how temporary versus permanent it might be. The one consistent thing you can say over the years is that construction costs have tended to rise faster than rents have, and that's a positive, generally speaking, for your existing properties and rising rents. We know this because Rob's team and the development team are always trying to price out new developments, and it's always a bit challenging on the numbers. So it works well when there's obviously demand that's much greater than the supply of space. And so our view is that's -- it doesn't appear that it is going to be completely outsized and therefore, difficult to pencil any developments.
But incrementally, it's going to continue to be challenging, and I'd say that's, obviously, on the whole, beneficial to our existing assets. As we build out the clusters, we think that is a great addition to the barriers to entry that you have in dense markets and then, obviously, add to that the fast rising cost. So 4% to 5%, even 6% annual increases in construction costs has been a pretty regular thing. So I think that will continue to be the case and generally is beneficial to us.
Ladies and gentlemen, this concludes our question-and-answer session. I'd like to turn the conference back over to Todd Meredith for any closing remarks.
Thank you, everyone, for joining us today. We look forward to seeing many of you at some upcoming conferences in September, and have a great rest of your summer. Thanks.
The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.