Independence Realty Trust, Inc. (IRT) Q3 2015 Earnings Report, Transcript and Summary

Good day ladies and gentlemen, and welcome to the Independence Realty Trust Incorporated Third Quarter 2015 Earnings Conference Call. At this time, all participants are in listen-only mode to reduce background noise, but later we will be conducting a question-and-answer session, instructions will follow at that time. [Operator Instructions]. As a reminder, today conference call is being recorded. I would now like to introduce your first speaker for today Andres Viroslav. You have the floor, sir.

Thank you, Andrew, and good morning to everyone. Thank you for joining us today to review Independence Realty Trust's third quarter 2015 financial results. On the call with me today are Scott Schaeffer, IRT's Chief Executive Officer; Jim Sebra, IRT's Chief Financial Officer; and Farrell Ender, our President of Independence Realty Trust. This morning's call is being webcast on our website at www.irtreit.com. There will be a replay of the call available via webcast on our website and telephonically beginning at approximately 12:00 p.m. Eastern Time today. The dial in for the replay is (855) 859-2056 with a confirmation code of 58477002. Before I turn the call over to Scott, I would like to remind everyone that there may be forward-looking statements made in this call. These forward-looking statements reflect IRT's current views with respect to future events and financial performance. Actual results could differ substantially and materially from what IRT has projected. Such statements are made in good faith pursuant to the Safe Harbor Provisions of the Private Securities Litigation Reform Act of 1995. Please refer to IRT's press release, supplemental information and filings with the SEC for factors that could affect the accuracy of our expectations or cause our future results to differ materially from those expectations. Participants may discuss non-GAAP financial measures in this call. A copy of IRT's press release with supplemental information and containing financial information, other statistical information, and a reconciliation of non-GAAP financial measures to the most directly comparable GAAP financial measure is attached to IRT's most recent current report on Form 8-K available at IRT's website www.irtreit.com under Investor Relations. IRT's other SEC filings are also available through this link. IRT does not undertake to update forward-looking statements in this call or with respect to matters described herein except as may be required by law. Now, I'd like to turn the call over to IRT's Chief Executive Officer, Scott Schaeffer. Scott?

Thanks, Andres, good morning and thank you all for joining our call today. The third quarter was highlighted with the closing on acquisition of Trade Street Residential, Inc. which happened September 17. The transaction added 19 properties, totaling 4,989 units with a focus on the southeastern part of the United States. The integration of the 19 properties is now complete and we will see the full income benefit to the portfolio in fourth quarter. The acquisition gives us scale as a newer high quality portfolio and increases liquidity in our shares. IRT now has a portfolio of 50 properties with over 14,000 units in predominantly non-gateway markets to continue to experience above average job growth and benefit from a supply demand and balance with limited editions to new apartment supply. As we mentioned on our last call, given where IRT shares are trading, we would not and did not issue equity to fund any portion of the Trade Street acquisition. We continue to believe there is an absolute disconnect between our current price of our shares relative to the value and performance of our portfolio. We continue to believe that IRT shares are extremely undervalued trading today at approximately a 24% discount to our NAV. The recently announced transaction between Starwood and Landmark Residential validates both our business plan and our asset valuations. Now that the acquisition is closed, we've turned our attention to reducing IRT's leverage ratio primarily through prudent property sales. Within the next nine months we except to fully retire $120 million interim loan which we used to fund the Trade Street acquisition. We identified a number of properties for sale which have realized our economic potential and are located well outside of our core southeastern footprint. The initial three properties are on targeted to be sold by the end of the first quarter of 2016. These three dispositions should generate approximately $50 million of net proceeds which will be utilized to reduce interim facility. We are currently under agreement to sell Center Point in Tucson for $33.4 million and expecting that $14 million in proceeds. We also have an executed LOI on Bell Creek in Denver. We intend to take TSRE to market in the first quarter of 2016. Additionally, the mortgage debt on our Oklahoma City portfolio is maturing in April of 2016, giving up the flexibility to sell or refinance that portfolio thereby providing additional funds to further reduce the current interim loan. We believe there was an excess of $5 million net proceeds available if the Oklahoma City portfolio were to be sold. In total, we can generate approximately $100 million through these sales which would pay down a significant portion of the $120 million of interim facility. At this, I would like to turn the call over to Farrell to discuss IRT's portfolio and to give some color around the integration of the Trade Street assets followed by Jim who will go through the numbers. Farrell?

Thanks Scott. We continue to see positive momentum, solid growth and stable occupancy in both the overall multifamily market and our portfolios. The portfolio [indiscernible] just 50 properties with an average occupancy of 94% an average effective monthly rent of $950 per unit. During the third quarter, as Scott mentioned we successfully integrated the 19th Trade Street property as the IRT portfolio. The property was seamless and after seven weeks into the acquisition, we've not identified any issues that will prove to be impactful to operations. The success of the integration was largely the result of Trade Street utilizing the same regional management structures IRT in addition to using the same property management software. We benefited from the two Trade Street regional managers joining our management team which maintained consistency at the properties. To-date of the 120 on-site staff inherited through the acquisition only eight has decided to level. We've already begun to realize certain cost synergies as part of the transaction. We terminated Trade Street lease on its Aventura office space which eliminated an annual leasing of $150,000. We expect to reduce the property management software cost by $100,000 due to our combined size, during due diligence we were able to identify and place property insurance on the Trade Street portfolio that maintained the same coverage at an annual savings of almost $400,000. Most significantly, the combined company's G&A savings is $5 million. The combined G&A of $9.7 million was almost $50 million the company has operated separately. We will continue to identify and recognize cost savings created by the combined companies. At the property level as we ended a 2016 budgeting process, we will be able to have tax rate cost savings in markets where we now have a larger presence. The additional scale gives us the ability to demand better pricing on advertising, landscaping and other vendor services. Looking to IRT's existing portfolio as I mentioned, we continue to see stable occupancies with the ability to push rents as we balance occupancy and rent growth. Our same store revenue was up 5.2% year-over-year and expenses increased 8.8% over the same time period producing NOI growth of 2%. The increased in expenses is directly attributed to the anticipated and underwritten real estate tax reassessment of our Oklahoma City portfolio. And higher payroll costs as we have fully staffed the majority of the same store portfolio as for the completion of evaluating, transitioning and training of the on-site employees. With that I'll hand it over to Jim.

Thanks Farrell. Before discussing the numbers, let's first discuss a point at the supplemental package being published this quarter. As indicated in the press release, the supplemental information package is available on our website irtreit.com in the Investor Relations section. The supplemental contains additional information on our operating performance, same store performance, leverage metrics and portfolio deals, we invite you to review our supplemental and various definitions for further information. Core FFO, this quarter was $0.20 per or $7 million, up 73% from $4 million for the same quarter of last year. This quarter, we are reporting GAAP net income of $24 million driven primarily by the $64 million gain on the Trade Street transaction more on that later. During the quarter operating revenue was up $2.8 million as compared to second quarter, a 12% increase related to the additional $2.6 million of revenues associated with 19 Trade Street properties we acquire on September 17. The increase in revenue in the remaining portfolio was driven by higher occupancies and improved rental rates. Property operating expenses increased $1.4 million this quarter as compared to second quarter again primarily driven by the operating expenses associated with the Trade Street portfolio. NOI for the portfolio at quarter-end was $13.5 million with an NOI margin of just over 53%. The portfolio's average occupancy was 94% during the quarter with a weighted average effective monthly rent created of $950. With regards to the same store portfolio, we provided an additional information in our supplemental package including three and nine-month same store comparisons and a five-quarter trend. While we presented the same store information quarterly, it should be noted that the same store portfolio for the three months ended September 30, 2015 was small comprised of only 19 properties totaling 5,342 units or about 38% of our portfolio. The same store portfolio for the nine-month period as of September 30 was even smaller comprised of 10 properties aggregating 2,709 units or 20% of our portfolio. For the nine months ended September 30, 2015 the same store NOI growth was just over 5% as compared to the same store period in 2014, and for the three months ended September 30, 2015 NOI growth was 2% compared to the same period in 2014. While NOI in both of the same store portfolios improved as revenues grew by approximately 5%, operating expenses however increased there by compressing both the NOI growth and the NOI margin. During Q3 of 2014, there were approximately $100,000 of some one-time operating expense reductions that did not repeat in the third quarter of 2015. Without these one-time savings in Q3 last year, same store NOI would have increased 4% for the three months period ended September 30, 2015. As I noted previously, the same store portfolios are small, and as a result small dollar changes may cause large percentage savings. During the quarter, the same store portfolio reported an average occupancy of 93.8% with a weighted average effective monthly rent of $811 per unit, up 3.6% from the third quarter of last year. During the quarter, we incurred $1.3 million of asset managed fees paid to our external advisors. Additionally, as part of the Trade Street transaction, IRT amended its advisor agreement and changed the structure of its base management [indiscernible] fees in order to align them better with the market. Ultimately the new advisor agreement fee structure would reduce the asset managed fee payable to IRT's external advisor when compared to the previous fee structure. Interest expense increased during the quarter by $800,000 as compared to the second quarter of this year. This increase is entirely related to the interest expense we incurred associated with the new and/or assumed debt in connection with the Trade Street [acquisition]. We ended the quarter with $1.4 billion of growth in investments in real estate representing just over 14,000 units and $1 billion of debt. During the quarter we did spend $1.5 million on return in capital expenditures or $140 per unit. Our recurring CapEx typically runs high on the second and third quarters as the weather supports the maintenance efforts. We do target annually to spend approximately $350 to $400 per unit. Turning now to Trade Street acquisition, we closed the transaction on September 17, 2015. We acquired all the assets in common share and OP units with Trade Street at $7.60 per share of which 50% was paid in cash and 50% was paid to the issuance of IRT's shares at $9.25 per share. To close the transaction, we paid our $139 million to Trade Street shareholders and issued 15.1 million common shares and 1.9 million IRT OP units. To fund the closing, we assumed or issued $150 million of property level debt, utilized $270.5 million of our $300 million Key Bank line of credit and fully funded the $120 million interim term facility also Key Bank. The credit facility bears interest on sliding scale ranging from 165 basis points of LIBOR to 245 basis points of LIBOR based on our corporate leverage. The interim term loan bears interest at LIBOR plus 500 basis points. Since the Trade Street transaction closed on September 17, we've not experienced a period of operations. However, two items of note during the quarter related to the transaction. First, we incurred and expensed $40.8 million of acquisition and other Trade Street related transaction expenses comprised primarily of $20 million of decisions costs and $15 million of professional fees. Secondly, we recorded a gain of $64 million resulting from the merger as property appraisals were approximately $30 million higher with the remaining gain associated with our lower cost rate price at closing. Under GAAP, we'll require [through core of the assets] required and liability to assume and stock issued at their fair value on a closing date. As the IRT stock price just prior to closing with $7.27 per share that's $1.98 lower then negotiated reference price of $9.25 per share, this lower stock price from accounting perspective will lower the consideration delivered to the Trade Street shareholders there by contributing to the gain. Before handing the call back to Scott here is some information on the fourth quarter that we're expecting. As we previously discussed, we expect the Trade Street properties will be accretive to core FFO as their first generation of leases continue to return. From a same store perspective, we are forecasting that the same store portfolio for the fourth quarter of 2015 should see revenue increases of approximately 4% and operating expense increases of approximately 2% which will result in same store NOI increases in excess of 5%. With the Trade Street portfolio and the same store forecast, I just mentioned, we are expecting core FFO of approximately $0.21 to $0.22 per share in the fourth quarter. Scott, this concludes the presentation.

Thank you, Jim. Operator, at this point, I think we should open the call for questions.

[Operator Instructions]. Our first question comes from the line of Wilkes Graham from Compass Point. Your line is open.

Hey, good morning. Scott, I appreciate all the detail on the delevering plan with the assets. Do you mind just, you went through -- it was sort of a lot of information quickly, can you just through the assets which you plan to sell again and did you expect $100 million of gross proceeds or was that equity?

Thanks Wilkes. The three properties that we have identified for sale are the property in Tucson which has named Center Point, the property in Denver which is Bell Creek and Tresa which is basically in Phoenix. And as we said they are all without I'll try to buy our core operating region today. The combined net cash proceeds after the sale those properties will be about $50 million that's cash free back to the company that would be able to available to retire part of the interim loan. The Oklahoma City portfolio we acquired it with an above market fixed rate financing in place that we assumed that made the prepayment of that loan at the time prohibitively expensive, that loan matures in April of next year, and then that's when we can pay it off with part. So again then what I was saying was, we are going to continue to monitor the situation but having that loan mature gives us the flexibility to sell those properties which would generate another $55 million give or take on free cash. We'll refinance them if we've been able to retire the interim loan to other ways in the interim. It gives us the ability to refinance those and continue to own them. So either way we think that we're in a good position because we can always sell the Oklahoma City portfolio and generate the cash. And it also is outside of our footprint, but there are five properties there, so it's little easier and meaningful to run those together if we decide to keep them.

Okay. Thank you. I appreciate all that. On the incentive fee, the new incentive fee, have you established what the new hurdle is?

We have. It's actually in the agreement that it has $0.20 of the core FFO per quarter.

Per quarter $0.80. Okay. And then Scott, let's say you get through these, you paid out that piece of debt, does that delever you to a level where you're comfortable, do you feel like you need any new equity after that, and either way once you get to that level, how do you see your strategy going forward?

Well, once we sell those assets, it reduces the leverage, the combined leverage down to about 60% of assets which is still slightly higher that we would like it to be, we think it should be in the 50s as an equity REIT going forward, and it's about 11% or 11 times, I should say, EBITDA. So again, being a relatively small REIT where we are distributing the lion share of our earnings into dividends, the only way we can grow is by new forms of capital. So there is no real urgency for growth in this environment, but if we want to grow in the future we're going to have to do that by finding new capital sources, but again I can't stress it enough. We're not going to issue equity at these price levels. I hope that answers your question.

It does. Thank you. That's it from me. I appreciate it.

Thank you. Our next question comes from the line of Brian Hogan from William Blair. Your line is open.

Good morning, guys.

Good morning, Brian.

The question on [indiscernible], do you think you have any capacity to continue to do any acquisition, I mean obviously there is a lot of timing and when you sell properties in this environment?

Yes, we do and we have. There is about a $17 million of cash that we have available that we could invest into further acquisitions, but as we continue to monitor the capital markets in the company what we're going to do is what's best either to use that to retire debt possibly buyback shares in the future if they remain at current levels. We're continued with acquisitions, but we're not jumping in and doing that right now because we are not sure that that's the best use of our cash. We have a number of properties that we are looking at that would be acquired for OP units, however again the price of our shares comes into play, we would only do that if we could issue shares at a price that made sense relative to net value and not the current market.

And Trade Street portfolio acquired other, any properties in there, I think that on the previous call you had mentioned that there might be two to three properties out there that might be available for sale or is that still the case or is it still evaluating?

We're still evaluating. We're looking into when we're talking to brokers on the chat to new properties and then if you look at the combined company's exposure, I meant that to potentially sell assets in that market.

Going forward the interest rate that I calculated on an all-in basis so that's 4.4% kind of talking about a true average for the quarter, I guess, but what interest rates can we assume going forward?

This is Jim. The supplemental does have a breakdown of our debt. I think the weighted average kind of cost back as of 9/30 as we have 3.6% range, so I think that's kind of is an appropriate expectation of where the cost should be going forward.

Thanks. And then a final question from me. On the last call, Scott, you mentioned that you expect $0.20 to $0.22 for a bulk of the share going forward for the Trade Street? And just kind of clarify does that include the property sales?

It includes the effect of the property sales, but it doesn't include any cash being generated from the property sales.

Okay, and so that's still the case $0.20 to $0.22 this year?

Well, Jim in his statement today just gave guidance for the fourth quarter of $0.21 to $0.22.

Alright. Thank you.

You're welcome.

Thank you. Our next question comes from the line of Sean Heberling from Valdés & Moreno. Your line is open.

Good morning gentlemen and congratulations on completing that transaction. I was just curious what are your thoughts on perhaps using or issuing preferred shares through either acquired properties, paid down debts or perhaps repurchase your common shares given that they are trading at roughly 24% discount to NAV?

Well, we are well aware of what [indiscernible] did a couple of weeks ago and looking at that as part of a number of alternatives available to us for additional capital. Again it's not ideal, because preferred share can be considered additional debt relative to the common, but we do recognize the benefit of having a perpetual preferred capital available to the company to continue its growth and the fact that it would be accretive to our common shareholders.

Great. Thank you.

You're welcome. Thank you.

Thank you. Our next question comes from the line of Daniel Donlan from Ladenburg. Your line is open.

This is actually John [indiscernible] in for Dan. Good morning gentlemen.

Good morning.

Just quickly, do you guys have any kind of maybe color on performance for, I know that it's been just a couple weeks from here now but the TSRE assets, do you have like historical same store performance for those properties to go into the TSRE zones?

Yeah sure and this is Jim. I mean at Trade Street, the properties have been generating some good positive same store performance year-over-year for first and second quarter, it's in that kind of 8% to 10% range. For the third quarter, the same store NOI performance for the Trade Street assets versus third quarter of last year was again in that same range by just under 10%.

Thank you very much. And then just can you touch a little bit more on, I know you mentioned the Landmark transaction. Is that kind of maybe a similar comp to your type of assets or your assets higher quality you had with Landmark and so are they still in that transaction or what is that pricing is about both in the multifamily space and portfolio transactions?

It was a larger portfolio than what we have, however the properties are largely in markets similar to ours, I think that our portfolio is a higher grade portfolio of properties. And my understanding is that the cap rate there was sub-6, so as I look at our portfolio and where we are -- what we paid for and how we're calculating our NAV, I think it's a very good comparable for our company.

Okay that's fair. The big difference in CapEx per unit, I know there is some seasonality, but is that typical to have that much variability from kind of quarter-to-quarter in terms of the CapEx per unit or is this something kind of one-time-ish this year?

Nothing one-time-ish, it was, the second and third quarter are typically higher simply because the weather better support the maintenance efforts. First quarter was kind of roughly half of the third quarter number and we expect the fourth quarter to be a lot lower than the third quarter number.

Okay, that's it for me. Thank you very much.

Thank you.

Thank you. We have no other questioners in the queue at this time. So I would like to turn the call back over to Scott Schaeffer for closing remarks.

We thank you for joining us today and we look forward to speaking with you after the fourth quarter. Have a good day.

Ladies and gentlemen, thank you again for your participation in today's conference. This now concludes the program and you may all disconnect your telephone lines at this time. Everyone have a great day.