Fitch Affirms Healthcare Realty Trust's IDR at 'BBB'; Outlook Remains Negative

The rating affirmations center on Fitch's expectation that subsequent to expected near-term delevering transactions, the company's credit profile will be consistent with a 'BBB' IDR. While fixed charge coverage has deteriorated over the last year, driven by an increase in cost of funds, Fitch expects that it will improve over the near- to mid-term. The expected improvement is driven by anticipated delevering transactions and lease up of development assets.

The company's portfolio exhibits geographic and tenant diversification, while benefiting from the stable demand attributes of medical office space. Healthcare Realty also has demonstrated a commitment to reducing leverage levels through its ongoing ATM equity issuance program, in addition to anticipated issuance of follow-on common equity. Offsetting these credit strengths are relatively high leverage and low fixed charge coverage for the 'BBB' rating category.

Fitch-defined fixed charge coverage ratio, calculated as recurring operating EBITDA less Fitch's estimate of routine capital expenditures less straight-line rent adjustments, divided by interest expense and capitalized interest was 1.8x for the 12 months ended June 30, 2010, compared with 2.0x and 1.7x during 2009 and 2008, respectively.

HR had neither preferred stock nor preferred units outstanding as of June 30, 2010. The recent decline in fixed charge coverage stems from an increase in the company's cost of funds, due to the issuance of 6.5% senior notes due 2017, in addition to the renewal of the company's credit facility at a higher cost of Libor + 280 bps, up from Libor + 90 bps.

Fitch notes that fixed charge coverage is negatively impacted by the company's active development pipeline, which has a total projected cost of $233.1 million (excluding land held for development), or 12.1% of total assets, with $126.4 million remaining to be spent (6.5% of total assets), at June 30, 2010. Additionally, HR had $168 million of completed assets in lease-up at June 30, 2010. Fitch anticipates that subsequent to expected de-leveraging transactions and pro-forma for stabilization of properties under development and in lease-up, fixed charge coverage will rise above 2.0x in 2011 and 2012.

HR's leverage, defined as net debt to recurring operating EBITDA, was relatively high for the rating category at 7.0x as of June 30, 2010 (7.6x and 8.5x as of Dec. 31, 2009 and Dec. 31, 2008, respectively). That said, Fitch anticipates that leverage may decline below 6.0x through 2012, assuming the company raises equity as anticipated and developments are completed and stabilized on schedule.

The company's portfolio exhibits geographic diversification. On a square footage basis, as of June 30, 2010, 26.6% of the company's properties were in Texas, followed by Tennessee (12.4%), Florida (8.7%) and North Carolina (5.6%). No other state exceeded 5% of the total portfolio as of June 30, 2010, giving HR broad exposure to demand for health care real estate. Healthcare is approximately a $700 billion industry in 2009 according to the budget of the U.S. federal government, making up a significant share of gross domestic product. With continual growth expected in the healthcare industry, Healthcare Realty's predominantly Medical Office Building portfolio positions the company to benefit from increasing demand for healthcare services.

Credit concerns include a recent deterioration in fixed charge coverage due to higher cost debt on its renewed credit facility, and the terming out of the previous credit facility balance. Additionally, the company has seen occupancy dip to 88% as of 2Q'10, from 91% at 2Q'09, as master lease expirations have been converted to operating leases, driving a near-term reduction to occupancy as the company becomes responsible for leasing up the vacancy in those properties. Further, the company faces significant lease expirations over the next few years, ranging between 13.6% and 16.5% of total revenues annually from 2011 through 2014.

HR's secured debt to undepreciated book capital ratio was just 6.4% as of June 30, 2010, compared with 6.4% and 3.3%, as of Dec. 31, 2009 and Dec. 31, 2008, respectively. This ratio will likely remain low, based on management preference for unsecured debt, and as the company seeks to further delever.

HR's sources of liquidity (unrestricted cash, availability under its unsecured revolving credit facility, projected retained cash flows from operating activities after dividend payments) divided by uses of liquidity (debt maturities and projected routine capital expenditures) result in a liquidity coverage ratio of 1.6x for July 1, 2010 to Dec. 31, 2012, which is appropriate for the rating category. Unencumbered asset coverage of unsecured debt (calculated as annualized 2Q'10 unencumbered net operating income, divided by a conservative 9% capitalization rate) results in coverage of 1.8x as of June 30, 2010, which is relatively low for the rating category.

Based on Fitch's report, 'Equity Credit for Hybrids and Other Capital Securities' dated Dec. 29, 2009, the two-notch differential between HR's IDR and its indicative preferred stock rating of 'BB+' is consistent with Fitch's criteria for corporate entities with a 'BBB' IDR. As of June 30, 2010, the company had 50 million shares of preferred stock authorized, however, no preferred stock was outstanding.

The Negative Outlook centers on the current weak leverage and coverage metrics for the rating category, and the uncertainty inherent in future equity raises. Absent significant delevering transactions occurring between now and 2011, Fitch would view the company's credit profile more consistent with a lower rating.

The following factors may have a positive impact on Healthcare Realty's ratings and/or Outlook:

--If the company's net debt to recurring EBITDA ratio were to sustain below 5.5x (as of June 30, 2010 the company's leverage was 7.0x);

--If the company's fixed charge coverage ratio were to sustain above 2.5x (for the trailing 12 months ended June 30, 2010, coverage was 1.8x);

The following factors may have a negative impact on Healthcare Realty's ratings:

--If the company's leverage were to sustain above 7.0x;

--If the company's fixed charge coverage ratio were to sustain below 2.0x;

--Unencumbered asset coverage remaining below 2.0x based on a 9% cap rate (as of June 30, 2010 coverage was 1.8x).

Healthcare Realty Trust is a REIT headquartered in Nashville, Tennessee that owns a portfolio of healthcare-related properties in 28 states in the U.S. As of June 30, 2010, the portfolio consisted of 208 assets, totalling 13 million square feet. The portfolio is dominated by Medical Office Buildings, 78.1% of square footage, Physician Clinics 8% and Specialty Inpatient facilities 7.1%. As of June 30, 2010, Healthcare Realty had $2.3 billion of undepreciated book assets, a total market capitalization of $2.4 billion and an equity market capitalization of $1.4 billion.

Additional information is available at '[ www.fitchratings.com ]'.

Applicable Criteria and Related Research:

--Corporate Rating Methodology, Aug. 13, 2010;

--Criteria for Rating U.S. Equity REITs and REOCs, April 16, 2010;

--Equity Credit for Hybrids & Other Capital Securities - Amended, Dec. 29, 2009;

--Rating Hybrid Securities, Dec. 29, 2009.

Applicable Criteria and Related Research:

Equity Credit for Hybrids & Other Capital Securities - Amended

[ http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=493112 ]

Rating Hybrid Securities

[ http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=493086 ]

Corporate Rating Methodology

[ http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=546646 ]

Criteria for Rating U.S. Equity REITs and REOCs

[ http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=510465 ]

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Contributing Sources

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Fitch Affirms Healthcare Realty Trust's IDR at 'BBB'; Outlook Remains Negative