Executive Summary / Key Takeaways

• Strategic Transformation from Failed Model: Healthcare Realty is executing a complete reset from its broken "1.0" acquisition-driven strategy to an operations-focused "2.0" model, addressing the excessive leverage and limited flexibility that collapsed the business after its 2022 merger.

• Pure-Play Advantage in Strongest Healthcare Sector: As the only public REIT focused exclusively on outpatient medical properties, HR is uniquely positioned to capture secular tailwinds while diversified peers struggle with senior housing and skilled nursing headwinds that comprise 30-70% of their portfolios.

• Balance Sheet Repair Creating Offensive Capacity: Through $1.3 billion in asset sales and $500 million in debt repayment, leverage has dropped from 6.7x to 5.8x, reaching below 6x for the first time since early 2022 and providing capital to reinvest in high-return internal projects.

• Operating Momentum Accelerating: Same-store cash NOI growth hit 5.4% in Q3 2025, driven by 90 basis points of occupancy gains and strong expense controls, while tenant retention reached 89%—the highest level in six years—demonstrating the value of strong health system relationships.

• Valuation Discount Reflects Credibility Gap: Trading at approximately 10x FFO—six turns below both its historical average and healthcare REIT peers—the stock prices in execution risk, creating asymmetric upside if management delivers on its 2.0 transformation.

Setting the Scene: The Only Pure-Play in Outpatient Medical

Healthcare Realty Trust operates as a real estate investment trust specializing exclusively in outpatient healthcare properties across 28 states, with 519 consolidated properties totaling 29.8 million square feet as of September 2025. This pure-play focus differentiates it dramatically from larger healthcare REITs like Welltower and Ventas , which allocate 30-70% of their capital to senior housing and skilled nursing facilities facing occupancy and reimbursement pressures. The company's long-standing presence is evidenced by executive tenures spanning over 24 years, suggesting establishment well before 2001.

The outpatient medical sector is experiencing its strongest fundamentals in decades. For the 17th consecutive quarter, occupancy across the top 100 metros has increased, approaching 93%—an all-time record. Demand for outpatient space materially exceeds supply, with completions as a percentage of inventory near historic lows. This supply-demand imbalance gives landlords pricing power and reduces vacancy risk, creating a favorable backdrop for operators with quality portfolios.

Healthcare Realty’s historical strategy, dubbed "Healthcare Realty 1.0," pursued growth through acquisitions and development, enabling premium valuations for years. However, the 2022 merger proved catastrophic, collapsing the business model under excessive leverage and an elevated payout ratio that left extremely limited financial flexibility. The company became a case study in how scale without operational discipline destroys value, with net debt-to-EBITDA peaking at 6.7x and shares collapsing as investors lost confidence.

Technology, Strategy, and Differentiation: The 2.0 Operating Model

The "Healthcare Realty 2.0" transformation represents a fundamental cultural shift from transactions to operations, where earnings growth and strong tenant relationships are paramount. New CEO Peter Scott, appointed in April 2025, has implemented five strategic action items that redefine the business.

First, corporate governance was overhauled by reducing the board from 12 to 7 directors, all appointed since 2020, with five having direct REIT CEO experience. This streamlined structure enables faster decision-making and better accountability. Second, organizational restructuring created an asset management model with dedicated local teams, achieving $10 million in run-rate G&A savings and targeting $45-46 million in 2026—down from significantly higher historical levels.

Third, the portfolio was segmented into three distinct buckets. The stabilized portfolio (75% of assets) comprises 470 properties with 95% occupancy and NOI margins exceeding 65%, serving as the primary growth engine. The lease-up portfolio (13% of assets) contains 95 properties at 70% occupancy with rents nearly 20% below market, representing a $50 million incremental NOI opportunity through targeted investments. The disposition portfolio (12% of assets) lags stabilized NOI growth by 700 basis points and is being sold to concentrate capital in priority markets.

Fourth, capital allocation was reprioritized internally, with $300 million earmarked over three years for "ready-to-occupy" spec suites and redevelopments rather than acquisitions. This shift from external growth to internal value creation targets superior returns by addressing underinvestment in existing assets. Fifth, balance sheet improvement is being driven by $1 billion in 2025 asset sales at blended cap rates of 6.5-7.0%, with proceeds funding debt reduction and the $500 million share repurchase authorization.

Financial Performance: Evidence of Operational Turnaround

Healthcare Realty’s financial results provide clear evidence that the 2.0 strategy is gaining traction, despite headline revenue declines. Rental income fell 6.2% year-over-year in Q3 2025 to $287.4 million, but this reflects intentional dispositions rather than operational weakness. The crucial metric—same-store cash NOI—accelerated to 5.4% growth, building on Q2’s 5.1% rate that was the highest in nine years. This outperformance was broad-based, driven by 90 basis points of occupancy gains, 3.9% cash leasing spreads, and continued expense discipline.

NOI margins in the stabilized portfolio exceeded 65% in Q2 2025, up from the low-60% range historically. This 300-plus basis point improvement demonstrates the earnings power of operational focus. General and administrative expenses, while up 8.2% in Q3 due to $5.2 million in restructuring charges, show normalized run-rate costs of $9.7 million—tracking toward the $46-49 million full-year guidance and $45 million 2026 target. This represents meaningful progress in eliminating the corporate bloat that plagued the 1.0 era.

The balance sheet repair is equally compelling. Net debt-to-adjusted EBITDA fell to 5.8x in Q3 2025, down from 6.4x at year-end 2024 and 6.7x at peak. This 0.9x reduction in leverage over three quarters provides the financial flexibility that was entirely absent post-merger. The company repaid $225 million of 2027 term loans in Q3 and has paid down approximately $500 million of notes and term loans in 2025. With $1.4 billion available on its $1.5 billion unsecured credit facility, liquidity is ample to fund the transformation.

The dividend reset, while painful, was necessary. The 23% reduction to $0.24 per quarter creates $100 million annually for reinvestment and alleviates pressure from $1.4 billion of low-coupon bonds maturing over three years. The payout ratio improved to 73% in Q3, putting the dividend on sustainable footing for the first time since the merger. This was an output of strategic necessity, not an input to placate shareholders.

Outlook and Execution: Can Management Deliver?

Management’s guidance for 2025 and beyond reflects confidence in the 2.0 model, but execution risks remain. The company is targeting $1 billion in asset sales for the full year, having completed $500 million year-to-date at a blended 6.5% cap rate. An additional $700 million pipeline exists, with the vast majority expected to close by year-end. The remaining assets skew toward value-add and legacy office properties, explaining the modest cap rate compression from earlier 7.0% guidance.

Same-store cash NOI growth guidance was raised to 4.0-4.75% for 2025, driven by expected occupancy gains of 75-125 basis points and continued lease-up of the 13% portfolio segment. This represents a material acceleration from the 2.9% full-year 2024 rate. The lease-up portfolio is expected to contribute $25 million of the targeted $50 million incremental NOI, with redevelopment projects contributing the remainder. Five assets were added to the redevelopment pipeline in Q3 with a $60 million budget, targeting nearly $8 million of incremental NOI.

G&A guidance of $46-49 million for 2025 implies fourth-quarter run-rates approaching the $45 million 2026 target. This would represent a 25-30% reduction from peak levels, demonstrating the scalability of the new asset management model. The company has achieved its initial $10 million savings goal and has clear line-of-sight to the final target.

Capital allocation will prioritize internal investment over acquisitions until leverage reaches the mid-5x range. The $300 million three-year investment in spec suites and redevelopments targets returns exceeding those available in the current transaction market, where cap rates for quality assets have compressed to the high-5% range. This disciplined approach contrasts sharply with the 1.0 era’s indiscriminate acquisition strategy.

Risks: What Could Break the Thesis

The transformation faces several material risks that could derail the recovery. Execution risk on asset sales is paramount. While $500 million has been sold and $700 million is in the pipeline, any market disruption or buyer financing issues could delay deleveraging and force the company to accept lower prices. The transaction market for outpatient medical is heating up, with bank loan rates dipping into the high-4% range and health system buyers highly active, but this favorable environment may not persist.

Tenant credit risk remains elevated. The Steward Health bankruptcy has impacted operations, though management has secured leases on over 80% of pre-bankruptcy square footage and expects to recover more than 80% of pre-bankruptcy NOI. The $19 million in secured revenue from an original $27 million exposure is trending better than anticipated. More concerning is Prospect Medical, which filed Chapter 11 in January 2025 and leases 80,912 square feet representing $2.9 million in annual revenue. While Hartford HealthCare has been designated as the successful bidder for associated assets, there are no assurances they will assume the leases. Management conservatively assumes zero revenue from Prospect in 2025 guidance.

Leverage remains elevated relative to peers. While 5.8x represents significant improvement, healthcare REIT leaders maintain net debt-to-EBITDA in the 4-5x range. The company’s goal of mid-5x by year-end 2025 still leaves it more vulnerable to interest rate increases or operational setbacks than better-capitalized competitors. The $1.4 billion in low-coupon bonds maturing over three years creates refinancing risk if credit markets tighten.

The operational transformation itself carries execution risk. The shift to an asset management model requires new talent, systems, and processes. While early results are promising—tenant retention at 89%, occupancy gains accelerating—any backsliding on expense control or leasing velocity would undermine credibility. The departure of Julie Wilson, EVP and Chief Administrative Officer, at year-end creates additional transition risk.

Competitive Context: Pure-Play vs. Diversified Giants

Healthcare Realty’s competitive positioning is defined by its exclusive focus on outpatient medical properties, contrasting sharply with diversified peers. Welltower (WELL), with a $140 billion market cap, allocates significant capital to senior housing and wellness communities facing occupancy pressures and labor cost inflation. Ventas (VTR) similarly balances outpatient medical with senior housing operating properties, creating strategic tension between segments with different cyclical dynamics. Omega (OHI) and Sabra (SBRA) focus on skilled nursing facilities, which carry substantially higher reimbursement and regulatory risks.

This diversification becomes a disadvantage in the current environment. While WELL and VTR manage senior housing headwinds, HR can allocate 100% of management attention and capital to outpatient opportunities. The company’s leasing velocity—new lease commencements as a percentage of vacant space running 50% higher than peers—demonstrates the focus advantage. An industry research piece assigned HR’s on-campus portfolio an average A+ score, signaling more resilient fundamentals than peers’ mixed-quality holdings.

The valuation gap reflects this differentiation. HR trades at approximately 10x FFO, six turns below its 10-year average and peer averages. WELL trades at 40x EBITDA and 140x earnings, while VTR trades at 24x EBITDA. Even after accounting for scale differences—WELL’s $151 billion enterprise value versus HR’s $10.9 billion—the discount appears excessive. HR’s pure-play model should command a premium, not a discount, in an environment where outpatient fundamentals are strongest and diversified peers face headwinds in 30-70% of their portfolios.

Valuation Context: Pricing in Execution Risk

At $17.46 per share, Healthcare Realty trades at a market capitalization of $6.21 billion and an enterprise value of $10.90 billion. The stock trades at approximately 10x normalized FFO per share—management’s estimate of six turns below both its historical average and healthcare REIT peers. This discount reflects a credibility gap from self-inflicted wounds during the 1.0 era rather than portfolio quality issues.

Key valuation metrics provide context for the risk/reward profile. The price-to-operating cash flow ratio of 13.4x compares favorably to WELL’s 50.2x and VTR’s 24.4x, suggesting the market prices HR’s cash generation at a substantial discount. The enterprise value-to-revenue multiple of 9.2x is in line with VTR’s 9.1x but well below WELL’s 15.5x, despite HR’s pure-play exposure to the sector with the strongest fundamentals.

The dividend yield of 5.41% is well-covered after the reset, with a Q3 2025 payout ratio of 73% versus the unsustainable 251% TTM figure distorted by one-time charges. This yield exceeds WELL’s 1.47% and VTR’s 2.40%, offering income-oriented investors compensation for execution risk. The balance sheet shows debt-to-equity of 1.0x, improved from peak levels but still elevated versus WELL’s 0.46x.

The company’s own assessment acknowledges the discount: "We know our valuation is a function of many self-inflicted wounds and a loss of credibility and does not remotely reflect the significant value embedded in our irreplaceable portfolio." This creates potential asymmetry—if management executes on the 2.0 transformation, multiple expansion could drive significant upside. If execution falters, the discount may persist or widen.

Conclusion: Transformation at an Inflection Point

Healthcare Realty stands at a critical inflection point where strategic reset meets sector tailwinds. The 2.0 transformation addresses the root causes of the 1.0 collapse—excessive leverage, poor capital allocation, and operational inefficiency—while positioning the company to capture the strongest outpatient medical fundamentals in decades. Same-store NOI growth of 5.4%, occupancy gains of 90 basis points, and margin expansion to over 65% demonstrate that the operating model is working.

The pure-play focus creates a durable competitive advantage against diversified peers distracted by struggling senior housing and skilled nursing segments. Trading at 10x FFO—six turns below historical and peer averages—the stock embeds significant execution risk but offers asymmetric upside if management delivers on its $1 billion disposition target, mid-5x leverage goal, and $50 million incremental NOI opportunity.

The investment thesis hinges on two variables: successful execution of the asset sale program to validate the portfolio optimization strategy, and sustained same-store NOI momentum to prove the lease-up portfolio can deliver targeted returns. For investors willing to underwrite management’s transformation, the combination of sector-leading fundamentals, operational improvements, and valuation discount creates a compelling risk/reward profile. The outpatient medical story is strong; Healthcare Realty’s 2.0 reset provides the clearest way to play it.