Centerspace (CSR) Q2 2015 Earnings Report, Transcript and Summary

Good morning, and welcome to the Investors Real Estate Trust Second Quarter Fiscal 2015 Earnings Conference Call. All participants will be in listen-only mode. [Operator Instructions] Please note this event is being recorded. I would now like to turn the conference over to Timothy Mihalick, President and CEO. Please go ahead, sir.

Thank you. Good morning and thank you for joining us today for IRET's second quarter fiscal 2015 earnings conference call. IRET's Form 10-Q was filed with the Securities and Exchange Commission yesterday December 10th, and our earnings release supplemental disclosure package was posted to our website at iret.com and also furnished yesterday on Form 8-K. Before we begin our remarks this morning, I want to remind you that during the call we will be making forward-looking statements which are predictions, projections, or other statements, about future events. These statements are based on current expectations and assumptions that are subject to risk and uncertainties. Our actual results could materially differ because of factors discussed in yesterday's Form 10-Q and the comments made during this conference call and in the risk factor sections of our annual and quarterly reports and other filings with the Securities and Exchange Commission. IRET does not undertake any duty to update any forward looking statements. With me today from management are Diane Bryantt, our Executive Vice President and Chief Financial Officer; and Tom Wentz, Executive Vice President and Chief Operating Officer. Now for my remarks. In the summer of July 2013, during both our earnings call and our investor analyst day, I laid out some specific strategies for IRET to improve operating and financial results and change the perception of IRET. Over the last 16 months, IRET has made tremendous strides to accomplish many of the strategic initiatives I laid out last summer, mainly disposing of non-core assets in our commercial segments, in order to focus on our multifamily residential and healthcare segments and in particular on development projects in those segments. As published in our earnings release last night, I believe investors are able to see the impact of the plan we implemented taking hold. The sale of properties we determine to have functional deficiencies, which created obsolescence in the marketplace have occurred and will continue in the future. The recycling of the proceeds in those sales has allowed us to continue down the path of funding our development projects as we expected and again results reflected in our earnings release last night. These efforts bring IRET to the point it is as today, and that is the delivery on the strategic plan. As I have stated repeatedly, the shift is turning and maybe not fast enough for some of you, but we will continue down the path I have continued to discuss. I believe IRET should be recognized for the implementation of the plan to-date and for what we expect to happen into the future. Before I turn the call over to Diane, I want to address the question that I'm sure is at the top of everyone's list and that is what impact will falling oil prices have on IRET. As you can imagine, we are sensitive to the continued drop in oil prices as it relates to the developments we have under construction and the energy impacted markets surrounding the Bakken. At this point and as indicated in our 8-K, we continue to be pleased with the lease up in our developments and continue to monitor the demand for housing in these markets. Since there is a wealth of information available about at what price drilling will continue in the Bakken, I reference the following quote from the Department of Mineral Resources Director of the State of North Dakota, Lynn Helms, in an article written by Jeff Beach in the Prairie Business Magazine that was dated November 17, 2014, in which he states 165 out of the 186 rigs are in the core drilling areas of Williams, McKenzie, Dunn, and Montreal County, and the State of North Dakota were operators can make money as long as prices stay above $29 to $45 per barrel. These counties are at ground zero, as it relates to the energy activity in Western North Dakota and continue to produce strong activity. In an article published in the Wall Street Journal on December 8, 2014 by Tess Steins, titled ConocoPhillips Cuts Drilling Budget by 20%, ConocoPhillips noted that about 5 billion of the spending plan is allocated toward Conoco's development drilling program down roughly from 6.5 billion in 2014, with the spending in the lower 48 states to remain focused on the Eagle Ford and Bakken shale regions. This indicates that at least one major development driller plan to continue to commit resources to the Bakken. Even though current oil prices have promoted budgets cuts in other drilling areas. In summary, we carefully monitor a variety of sources on Bakken activity and we currently remain optimistic with the Bakken region activity or remains sufficiently robust to support the projections used to underrate our development projects in the region. For more information regarding the state's energy activity, I would suggest that you log on to the North Dakota department of mill resources website oil and gas division at www.dmr.nd.gov/oilandgas. This site can provide up-to-date activity on current well activity and energy production general in the region. With that, I will now turn the call over to Diane Bryantt, our Executive Vice President and CFO.

Thank you, Tim. Good morning everyone. This morning, I will provide a brief recap of items of note as reported in IRET's 8-K press release and 10-Q for the second quarter of fiscal year 2015 which ended on October 31, 2014. Let's start with operations in the three and six months ending October 31. In review of our financial statements, I would note in particular two significant items in the second quarter that each contributed to meeting our two main long term objective, AFFO dividend coverage and growth through deployment of sales proceeds. First let's discuss AFFO dividend coverage and results of operations in the second quarter. We had very strong operating performance in the second quarters in our real estate operations. As detailed on Page 8 of the supplemental data included in our 8-K earnings release, FFO and AFFO in the second quarter were significantly higher than reported in the previously two quarters. This increase in NOI from our developments placed in services and from our acquisition over the past year was 2.9 million. We have realized a fast lease up and strong market rents for our development properties when they have opened. Also important is that our overall total same-store NOI increased by 500,000. The same-store increase is primarily driven by our multifamily segment as continued high occupancy provides for the ability to increase rental rates in those markets. It leads us to AFFO and dividend coverage. As detailed on page 14 of the supplemental information for the six months ended October 31st, our AFFO payout ratio was 96.3%. Barring an extremely severe winter in our market that would affect snow removal and utility expenses or other unforeseen events, we anticipate this trend to obtaining coverage to continue for the remaining quarters of fiscal year 2015. Moving on to our sales strategy. As we have previously discussed, we have strategically identified and sold assets that have significant lease expense, tenant improvements, or other investment needs. The goal was to redeploy those dollars into higher income producing properties in our multifamily and healthcare segments. First, selling properties with some occupancy challenges and shortening the holding period of these individual assets has caused some impairment recognition over the past few quarters. This non-cash expense has been realized over the past quarters and while it is not a factor in our reported FFO and AFFO, it is nonetheless - it nonetheless has an impact on our financial statements. Although not all sales have been impaired properties, year-to-date we have sold and have pending sales including our held-for-sale assets with approximately 64 million of property. This also, in comparison to fiscal year 2014, in which we had property sales totaling 69 million. The proceeds from these sales over the past two fiscal years have been redeployed into our development projects. Currently we have projects in various stages of constructions within total anticipated cost of 355 million with estimated equity needs to finance the development of $65 million. Using our cash on hand, sales proceeds and equity raise from our dividend reinvestment programs, we have sufficient equity to complete these projects. Our deal is that our continued focus on repositioning our balance sheet and asset allocations and our continued focus on operations and getting our development projects delivered to the market, will enable us to achieve these two main strategic objectives that affect our financial performance, dividend coverage and continued growth. Other items of significance that occurred in the quarter are as follows: regarding debt, we increased our line of credit availability to $90 million from $75 million with $50 million still remaining of borrowing capacity currently available. During the quarter, we refinanced two loans totaling $14.1 million and placed new debt of $6.5 million and we closed on a new construction loan for $15 million. The interest rate ranges at close on these loans were from 2.7% to 4.4%. We also paid off five loans totaling $4 million. Other items of note we received a final insurance proceeds from the Chateau fire number two of approximately 4 million. As previously discussed, we will not be recording any gain on involuntary conversion for the second fire event. We also acquired a 68 unit multifamily apartment complex in Bismarck, North Dakota, and placed into service 227 units within our development pipeline for a increase of 295 units in our multifamily portfolio in the second quarter. These properties estimated cap rate ranges were from 6% to 14%. However, tenant demand and market rents are exceeding our initial pro forma. As stated earlier, we are pleased with the first six months of operations in fiscal year 2015 with FFO of $0.31 and AFFO of $0.27 per share. We continue on the path of redeploying sales proceeds into our desired segments to multifamily and healthcare, and are diligently managing our large development pipeline to meet the objectives of increased earnings and AFFO coverage. To close, I report that IRET Board of Trustees have declared a quarterly distribution of $0.13 per common share in unit to be paid, January 16, 2015 to the shareholders of record on January 2nd. This will be IRET's 175th consecutive quarterly distribution. Thank you. And I will now turn the call over to Tom Wentz, Jr., Executive Vice President and Chief Operating Officer.

Thank you, Diane. As a follow up on the comments so far, this past quarter continues to trend of improved operations primarily due to our plan to shift away from non-core segments and assets in order to focus on growing those segments and asset types where IRET is the market leader or has a good path to market leadership. We continue to grow our best segments of multifamily and healthcare primarily through development and while some individual development projects are behind schedule as it pertains to delivery dates, overall our development portfolio is on track in terms of cost and more importantly slightly ahead of projections in the area of revenue. Well nothing is ever certain when it comes to ground-up development, our expectation is that our commitment to development that was implemented approximately three years ago in combination with the other elements of our plan, will continue to drive improved results. While we are primarily focused on delivering the development projects that are currently in progress, as well as disposing of non-core assets, as the key element of our plan to continue to grow and improve operations. We still remain active in land acquisition to ensure our future foundation for growth through development as well as through a limited amount of acquisitions. To echo Tim's comments on oil activity in that region, I would note that our development focus in our energy impacted markets has been on what we view as the permanent resident created by the energy sector, as opposed to the man-camp type development. But again, we certainly prefer $90 oil as opposed to $60. However, we are only about 45 days into the current price decline and accordingly it is difficult to assess at this point, if oil prices are being driven totally by actual demand or political reasons or a combination of both. Either way, as we said at the beginning of the energy boom in North Dakota over five years ago, we have a widely dispersed portfolio of quality real estate and did not go all in - in a tightly focused market or segment. As it pertains to debt and leverage, we do not expect any material change to our current overall levels of debt or type of debt. We have good flexibility on how we fund our growth and operations going forward. Depending on the level of development opportunities, we may slightly increase leverage levels on the existing portfolio. To maintain overall interest expense at current levels, we have continued the strategy of using more variable rate debt to capture the advantage of lower rates during development, as well as to provide more flexibility when it comes to our assets in terms of sale or repositioning. In regards to the previously discussed MR9 loan portfolio, the loan is still current and the metrics disclosed by us in June have not changed significantly as of this quarter end. Continuing to confirm no material negative impact to either operations or balance sheet should IRET elect to convey the underlying real estate back to the lender, in lieu of paying the loan at maturity in September 2016. Looking forward, we expect the amount of development and acquisitions to remain consistent with our current levels with our capacity being as high as 350 million over the next 12 to 18 months, depending on the final mix of acquisitions versus development. Our expected acquisition and development cap rates going forward range from approximately 5.5% to 12% in the multifamily segment and 7% to 8.5% in the healthcare segments. Thank you. And I will now turn the call over to the moderator for questions.

[Operator Instructions] The first question will come from Dave Rodgers of Robert W. Baird. Please go ahead.

Yes, good morning. I probably can't help myself on the energy topics, I'll have to ask a question to start there. With regard to your developments in Williston, I know you're active on delivering one in the quarter and it has additional phases to deliver. Can you dive in a little bit on any color regarding that particular property and the demand for additional units that you'll be bringing online? And any color around that would be really helpful?

Dave this is Tom. That project is slightly behind on delivery. Obviously, we’ve delivered the first several buildings of that project. Lease up is on track, very robust. We are not offering concessions. I guess we have not seen any material backup and demand or activity in the energy impacted markets at this point. And I guess we're not really expecting it just given the viability price point for energy development in North Dakota. I think it's pretty much an established fact that in the United States and even worldwide, this is the lowest cost energy producing area with the highest quality oil. And so I think there is a lot of room to go to the downside before there is a backup in activity. And at this point we have not seen anything that would cause us to change our opinion.

This is Tim, just on the follow up. I guess as I stated I did pull out a couple of quotes regarding the activity in the region, but if you go out, and I'm sure you’ll have the opportunity to and talk to your energy guys. But the indications we continue to get is the productivity from those four counties that I mentioned earlier as Tom, just touched on are so strong that they expect they will continue that drilling with those larger company.

On the flipside of that, we are also hearing manufacturing sales companies like Titan lowered sales guidance in terms of maybe some of the land moving equipment. I mean, are you seeing less competitive supply up there? Or any slowdown or pause from potential developers in that area related to the oil pressure?

Not, still not at this point. We are not thus far into it and maybe as we get a little close to the spring, we'll see a shift on that. But right now, we're in the – I don’t want to say the dead part of the season, but the concrete is in and buildings are being built and maybe a little better indication come spring when the ground begins to thaw and the need for that kind of equipment comes more relevant.

Okay.

And David, it may have an impact in the long term. I think again we've really focused on operating with very disciplined wide ranging strategy. And we did not ignore the other good markets. I mean it wasn't probably only a year or two ago we were questioned why we weren't investing more in Williston. And why were we putting money into Rochester, Minnesota or Minneapolis, Minnesota or South Dakota or some of those markets. But again, we've employed a very wide ranging strategy and did not ignore other markets. And so we'll see where energy goes but so far so good at this point for us.

All right. Switching to the capital. Thanks for the color. Switching to the capital recycling. You put nine additional assets and then a total 10 assets in the held-for-sale bucket. The nine office assets, are those all related to the MR9 assets that you’re talking about and the mark-to-market I guess on the write-down? I guess maybe then, second part of that question would be, can you talk about what the plan is in terms of monetizing additional assets, if in fact those are all the MR9 assets. What you'll do going forward in terms of monetizing additional assets that aren't in that bucket?

Dave, this is Tim. Those assets that we did put on the market are not the MR9 portfolio.

Okay, so those are completely separate?

Right.

So the timing and the plan for monetizing those 10, I think nine office and one retail asset, is that this quarter? Next quarter? Is it a function of development? How are you thinking about that?

It's certainly within long term, within a year, but we expect it that those will move quicker than that. That they’re out to market, there is a lot of demand as we’ve seen and we expect we'll be able to move those quicker, still probably within this fiscal year and to allow us continue to fund the development. Looking forward, we made it very clear that we’re going to continue down this path to sell additional assets. As we mentioned in the past, they’re a retail portfolio and continued to look at other assets and other product segments and we are not giving up on that plan and we intend to continue down that path.

That's good to hear. Last question for me and then I'll get back in the queue. With regard to the dividend coverage, I think by our estimates dividend coverage was positive in the quarter, but I think at the end of your release there was a comment that you're still on track for your prior expectation, which I think was sometime by the end of this year. So, a little bit of color would be helpful around do we go, do we take one step back and go two steps forward later this year? How are you thinking about the dividend coverage for the remainder of the year?

No, I think the expectation is we've outlined - going back as I mentioned early, and it was July of 2013 expectations and plans would have full year dividend coverage by the end of fiscal year 2015 and we still intend to accomplish that.

Okay. Great. Thank you.

[Operator Instructions] And at this time, I'm showing no additional questions in the queue. So we will conclude the question-and-answer session. I would like to hand the conference back over to Tim Mihalick, for his closing remarks.

Well thanks everybody for taking the time to listen in on the update on IRET. As I mentioned earlier in the beginning of the call, I'm very excited about the implementation, the progress we’ve made on our strategic plan, certainly pleased but not satisfied. We'll continue to move forward and accomplish what needs to be done to make IRET relevant in the REIT world. Thanks again and happy holidays to everybody. Thank you.

Ladies and gentlemen, the conference has now concluded. We thank for attending today's presentation. You may now disconnect your lines.