Preferred Apartment Communities, Inc.
Q1 2017 Earnings Call Transcript

Published: 2 May 2017

[Operator:]

Good morning ladies and gentlemen and welcome to the Preferred Apartment Communities' First Quarter 2017 Earnings Conference Call. All participants will be in listen-only mode. [Operator Instructions] After today’s presentation, there will be an opportunity to ask questions. [Operator Instructions] Please note this event is being recorded. And now I would like to turn the conference over to Mr. Lenny Silverstein, President and Chief Operating Officer. Please go ahead, sir.

[Leonard Silverstein:]

Thank you for joining us this morning and welcome to Preferred Apartment Communities first quarter 2017 earnings call. We hope that each of you have had a chance to review our first quarter earnings report which we released yesterday after the market closed. In a moment, I’ll be turning the call over to John Williams, our Chairman and Chief Executive Officer for his thoughts. Also with us today are Dan DuPree, our Vice Chairman and Chief Investment Officer; Mike Cronin, our Executive Vice President and Chief Accounting Officer; John Isakson, our Chief Capital Officer; Joel Murphy, the President and Chief Executive Officer of New Market Properties; and others from our executive management team. Following the conclusion of our prepared remarks, we’ll be pleased to answer any questions you might have. Before we begin, I'd like everyone to note that forward-looking statements may be made during our call. These statements are not guarantees of future performance and involve various risks and uncertainties and actual results may differ materially. There is a discussion about these risks and uncertainties in yesterday’s press release. Our press release can be found on our website at pacapts.com. The press release also includes our supplemental financial data report for the first quarter with definitions and reconciliations of non-GAAP financial measures and other terms that may be used in today’s discussion. We encourage you to refer to this information during your review of our operating results and financial performance. Unless we otherwise indicate, all per share results that we discuss this morning are based on the basic weighted average shares of common stock and Class A partnership units outstanding for the period. Before I turn the call over to John, I want to remind everyone that our Annual Meeting of stockholders is scheduled for this Thursday at 9

[John Williams:]

Thanks Lenny. I'm extremely pleased to report that we had another extraordinary quarter. In fact, our company operated successfully across the Board, which is a direct reflection of both our senior management teams and our associates' incredible diligence and hard work. As you'll hear in a moment from Lenny, our first quarter financial results reflect the outstanding numbers as compared to the first quarter of last year. These financial results have allowed us to pay a healthy increasing dividend to our common stockholders, while at the same time maintaining a low core FFO payout ratio. Since our first common stock dividend following our IPO in April 2011, we've increased our dividend 10 times and produced an annualized dividend growth rate of 13.3%. In addition, we have just announced that we're again increasing our quarterly common stock dividend another 6.8% to a total of $0.235 per share payable to our stockholders of record as of the close of business on June 15th. During the first quarter, we also sold approximately $10 million of common stock primarily through our ATM program and warrant exercises. We continue to focus on the three key elements forming the foundation of Preferred [Indiscernible] Apartment communities, that is our product, P; our associates, A; and customers, C or PAC. We remain focused on the multi-family community operations including our senior housing, although we'll continue to divest a portion of my assets in non-multi-family properties such as grocery-anchor shopping centers and office properties. Dan DuPree will talk about specifics in a moment. I will highlight that we have acquired an aggregate of $1.3 billion of assets since January 1st, 2016 and $195.1 million since January 1st of this year. These assets were on board with debt with no guarantee upstream to PAC or no -- and no cross-collateralization of our operating [Indiscernible] units. We also disposed family assets during the first quarter producing a wonderful return to us to our stockholders and allowing us to continue to lower the age of our portfolio. We collected our aggregate gross proceeds from these sales of approximately $114 million and realized an average annualized return on these two investments of approximately 19.1%. In addition one of these communities was 25 years old which was the oldest in our portfolio and the other community was 17 years old. We expect to sell additional assets over time as form of our strategic plan. As of the end of the first quarter, the average age of our multi-family portfolio was 6.9 years, which we believe is one of the youngest in the industry. As I've explained before, we continue to focus on reducing the average age of our multi-family portfolio. We have continued to [Indiscernible] the experience and debt of our management team and remain committed to train our associates not only on technical skills and customer interactions, but also on leadership skills. To put this into perspective, year 2016 and the first quarter of 2017, PAC has on boarded and trained over 300 associates. We now have 500 associates how are committed to doing the very best they can to benefit all our stockholders, residence, tenants, and partners. Now, let me turn the call over to Lenny, who will walk you through the numbers. Lenny?

[Leonard Silverstein:]

Thanks John. Overall, we once again [Indiscernible] brilliant operating results for the first quarter in line with our internal budgets and tracking with our guidance. Revenues for the first quarter were almost $67 million or 60% greater than the revenues for the first quarter of last year. Our FFO for the first quarter of 2017 was approximately $9.6 million or $0.35 per share compared to approximately $3.9 million or $0.17 per share for the first quarter of 2016. For the first quarter this year, our core FFO was $10 million or $0.36 per share compared to $7 million or $0.30 per share for the first quarter last year. This represents a 20% increase in core FFO per share which by any metric is strong. Based on these results, we're reiterating our core FFO guidance range for the year of $1.40 to $1.48 per share. The midpoint of range continues to represent our goal to increase core FFO per share by 10% or more for 2017 compared to 2016. For the first quarter this year, we paid our common stockholders and unitholders a dividend of $0.22 per share representing 14.3% per share increase over the dividend we paid to our stockholders in the first quarter last year. In addition, our first quarter 2017 dividend payment represents a core FFO payout ratio of only 61.7%. Switching to other financial metrics, we continue to add quality assets to our portfolio in a meaningful way. Remember though if we believe it is appropriate for PAC to acquire an asset that may not initially be accretive to our stockholders, our advisors prepare to disburse some of its ongoing fees and, in fact, has done so on occasion. For the first quarter, our total assets net of depreciation were slightly over $2.5 billion, representing a 65.6% increase in total assets compared to the first quarter 2016. In addition to increasing total assets, our cash flow from operations this quarter was $18.3 million, which represents a 36.5% increase in cash flow compared to the first quarter of 2016. Although interest rates have risen somewhat from last year, there have been no surprises. At the end of the first quarter, our leverage on our assets based on the undepreciated book value was 57.3%. If however, we had measured the leverage against a market value of our assets instead of undepreciated book, we believe our leverage ratio would be substantially lower. A key component of our strategic finance are investment programs. I'd now like to introduce Dan DuPree to provide some more color on our acquisition activity, our loan investment program, and our [Indiscernible]. Dan?

[Dan DuPree:]

Thanks Lenny. Our strategy remains unchanged. We continue to focus on our core business, acquiring and managing best-in-class Class A multi-family and student housing communities. In pursuit of this strategy, we continue to make real estate investment loans that attract current returns and ultimately, the opportunity to buy Class A assets off market at a discount. During the year, we expect exercise options to acquire a number of multi-family communities that we previously have funded to our real estate investments loan program. During the first quarter this year, we acquired three multi-family communities one in Tampa, Florida; one in Birmingham, Alabama; and another in Williamsburg, Virginia. These acquisitions totaled 835 units. Of these three acquisitions, the multi-family community we acquired in Williamsburg is a great case study for our real estate loan investment program. In this case, we acquired the Williamsburg community pursuant to the exercise of our purchase option PAC received in connection with originating a $10.3 million real estate loan investment in August of 2013. As part of our due diligence process related to this loan, we under-wrote this community at the time of origination of the loan. We inspected it while under development on 17 separate occasions, mostly prior to completion CO of the property. Preferred Residential Management, our property management company, handled the lease-up on behalf of the developer. We received a great return on this investment loan and utilized our outstanding principal and accrued interest that we repay at closing as the equity needed for our acquisition loan. In addition the purchase option discount that we received as part of the loan origination resulted in embedded value between $3 million and $4 million above our purchase price. This is just one example of the success of our real estate loan investment program. As of the end of the first quarter, we owned and managed 25 multi-family communities representing 8,132 units in 16 cities across a eights states with a number of opportunities in our active pipeline. We also acquired one housing community in Tempe Arizona and near Arizona State University, representing 225 units or 640 beds. This is our second student housing acquisition and we expect to acquire additional student housing properties over the balance of the year. Subsequent to quarter end, we originated a real estate loan investment with Western National, representing an aggregate commitment of $31.5 million. Western National, one of the premier multi-family developers and managers in the country, has acquired a six and a half acre site in San Jose that is currently zoned to provide for up to 551 multi-family units and approximately 3,700 square feet of commercial space. Under our real estate investment loan program and including the Western National loan, we now have 31 loan investments outstanding aggregating $443 million in commitments. Our real estate loan program continues to generate excellent cash flow that few other investments could duplicate, creating a tremendous pipeline of new multi-family purchase opportunities aggregating over a $1 billion in estimated market value and represents potential significant embedded value due to discounted purchase options PAC receives at the time of the originations of this loan. Also subsequent to quarter end, we acquired 242-unit Class-A multi-family community in Louisville. In connection with this acquisition, we financed the project in part by assuming a $27.1 million, 37-year HUD loan that has a 3.34% all-in per annum fixed interest rate. As you know as part of our business plan, we also invest in non-multi-family communities such as grocery-anchored shopping centers to our new market platform. Now, I'd like to turn it over to Joel Murphy to discuss these activities. Joel?

[Joel Murphy:]

Thank you, Dan. With all of the recent headlines about retail and retail store closings, we thought it would be good time to clarify our shopping center including what it isn’t as well as what it is. We start with what it isn’t. We're not in the mall sector, we're not in higher end payroll retail sector, and we're not in the [unanchored shopping] center sector. We're in the grocery-anchored shopping center sector. Every one of our 32 shopping centers is anchored by grocery. The recent announcements of massive store closings are Macy's, JC Penney, Sears, [Indiscernible] as well as [Indiscernible] outlooks posted by Kohl's, Gap, J Crew and many other apparel retailers, while interesting, are not relevant to our focused grocery-anchored a necessity-based strategy. There are exactly zero of those stores in our portfolio. Now, let me turn to what our strategy is. We acquire, investing, and operate grocery-anchored centers that fit our investment criteria in suburban some markets within the top 100 metro areas in the Mid-Atlantic, Southeast, and all through Texas . We target centers that are market-dominant grocery-anchors that main number one or number two market share in their particular market and have high and growing sales volumes stores in a particular center. We will also occasionally target on a select basis, a specialty grocers, that is Sprouts, Fresh Market, or Trader Joes in a market where they have significant presence and where the center is located on outstanding prospects. So, why is this our strategy? Let me break it into two parts -- in seven parts actually. First, grocery-anchored, because is a $600 billion a year industry that only 2.4% which is to through electronic commerce versus 9.2% in the broader retail channels. Grocery sales through electronic channels is only expected to be 2.9% in 2018 and traditional grocers are evolving to meet this opportunities themselves through channels that is store pickup options, [like pick] lift, home delivery options such as [Indiscernible] and direct delivery. This only makes sense and see traditional grocers already have the distribution network in place two, three miles from their customers' house. But with 90% of household shop at a brick and mortar grocery store once-a-week every week, in other words 60% shop there two to three times a week. Furthermore, 85% of the NOI in our grocery-anchored portfolio comes from five sectors; grocery stores, restaurants, service, healthcare, and [Indiscernible], all categories insulated and resistant to electronic commerce. Second, number one and number two traditional market leaders. Why is that important because five grocery chains controls 44% of this $600 a year industry and 27 of our 32 centers are anchored by grocers in this top five. 18 of our centers are anchored by public that last year downgraded over $3 billion in operating cash flow. Six are anchored by [Indiscernible] including [Indiscernible] generated over $4 billion in operating cash flow last year. Third, high end growing sales per square foot grocery stores. This is a critical component. Sales at the property level are the ultimate parameter of the center's health and future prospects. Our portfolio of sales from our grocery anchors is very, high over $570 a square foot. So, differently, this means an average 50,000 square foot store is generating $26 million plus in sales for that store and generating significant traffic in and out of that center to the benefit of that particular grocery store and for our satellite tenants. Now, subsequent to quarter end, we did complete our first acquisition of the year an 80,000 square foot Public Anchor Center in the Atlantic MSA. This center is an excellent example of the strategy I just described. It's anchored by high volumes market-leading grocers that have high available square foot store and located in a solid suburban Sunbelt market with excellent demographics. Our centers did continue to receive a warmer section from quality like insurance company lenders as we financed this acquisition with a non-recourse 10-year loan at 3.99% from the principle financial verdict. And consistent with our overall company-wide strategy, this loan has no cost default, or cost collateralization or any guarantees including [Indiscernible] guarantee that go up to the PAC or PAC OTE level. While we remain active in the marketplace with our new acquisition opportunities, we remain diligent on staying inside this tight geographic in grocery-anchored strategy and being disciplined about our pricing. Now, let me turn the call back to John Williams.

[John Williams:]

Thanks Joel. Since our 2011 IPO, our team has done a great building a carefully constructed platform and executing on strategies and operations better than almost all others. Ultimately, I believe we've delivered on each and every promise financial goal we set. Our multi-family communities are among the most attractive in the industry, or highly [amenitized] and on average one of the youngest portfolios in the industry. Our investment in senior housing, grocery-anchored shopping centers and office buildings have complimented on our focus on multi-family quite well. We believe all these investments together with a cash flow generated by real estate loan investment program and potential embed value we've created through our discounted purchase option places PAC at the forefront of our industry. Before I turn the call over to the operator, there are several questions that have been asking in anticipation of today's call. First question, interest rates have moved up recently? How it has affected your results on your business plan? John Isakson, why don't you take that call -- that question?

[John Isakson:]

Thanks John. Well, recently, we did see a sharp rise in rates followed by tapering off with net result being an increase above 40 basis points today. Former rates were generally six months ago. There are couple of factors that have mitigated this rise. Cap rate have certainly leveled off in most of our markets and some have trended up phenomenally. Lenders have become more competitive in last few months and spreads on loans have compressed, which also helps close this gap further. In all I the acquisition market will continue to provide plenty of accretive opportunities in 2017. In the last few months, we bought several deals in financing with seven, 10, and even 35-year debt. The rates have been very competitive and on the balance over the last couple of months, the all-in rates have even declined.

[John Williams:]

Next question. Would you please update us on the status of potential spin-off and mid-market properties? Joel?

[Joel Murphy:]

Sure. Let me address that. So, we continue to discuss and review what a spin-off and mid-market as a standalone entity would like. But we want to get really clear on this. We'll only pursue such a transaction if we believe this to be a wise and biennial transaction for all our stockholders in the near and longer term. Mid-market needs to have reached sufficient scale to be solid and successful going forward standalone entity. We'll also carefully review what PAC would look like as an entity post-spin-off and mid-market. We will always keep [Indiscernible] actions that the resulting balance sheet to both PAC and mid-market will be on solid footings. And of course, we will also keep in mind what market conditions are like and would look like at any time of any such transaction.

[John Williams:]

Thanks Joel. The next question is your revenue numbers look a little light from the first quarter, can you please provide some color on this? Bill Leseman, could you answer this for us please?

[William Leseman:]

Yes, thanks John. In the last approximately six months, we've implemented Revenue Management System, YieldStar, on all of our properties. We understand with installation of this system, their revenues would see sudden drag as the systems learns our data. It is important to note that we anticipated impact on the rollout of YieldStar and the same-store portfolio achieved budgeted income.

[John Williams:]

Thanks Bill. The next question is it looks like the PAC's first quarter results were bright. I would agree with that. Would you please talk about your outlook for the balance of the year? Dan, why don't you take that one?

[Dan DuPree:]

As John stated earlier, our full year guidance remains unchanged. We began 2017 expecting another strong year and we continue to believe that is the case. Our unique capital -- our unique access to capital provides us with many opportunities for outsized returns.

[John Williams:]

Thanks Dan. Next question is we know you've acquired 18 grocery-anchored shopping centers through PAC's new market platform, over the last approximately 12 months; can you give us some visibility into operational performance of the market? Joel?

[Joel Murphy:]

Yes, let me take that. I actually really like that question because we focused on strategy in comments earlier, but the execution of that strategy is really important. So, we're intentionally focused on the operating results and the onboarding of our portfolio including tenant retention, new leasing, leasing renewals, and capital improvements to centers. We spent fourth quarter of 2016 and first quarter of 2017 continuing to build our talent and systems infrastructure to accommodate our growth with a deliberate focus on growing our asset management and financial accounting and brand management capability. During the first quarter of 2017, we made $100,000 of capital improvements to our properties including roofing, LED lighting upgrades, parking lot improvements, painting signage and we'll continue to make prudent capital investments on our properties through the balance of the year. We executed nearly 50,000 square feet in renewals for the quarter with an average rent spread of 8.7% and we leased a shop of 22,000 square feet in the quarter which exceeded our internal goal. And with this first quarter activity, 10 of our 32 centers are now a 100% leased and we raised our portfolio to potentially 40 basis points to 93.4%.

[John Williams:]

Thanks Joel. And with that I'd like to thank you for joining us on our earnings call this morning. I'd like to turn the call back to our operator and open the floor for many of questions or thoughts you might have. Operator?

[Operator:]

Ladies and gentlemen we will now open the floor to your questions. [Operator Instructions] And up first is John Bender with National Securities. Please go ahead.

[John Benda:]

Hey good morning everybody. Great quarter. How are you today?

[John Williams:]

Good. How are you?

[John Benda:]

Excellent, excellent. This question is -- is on new market. Just quickly, on the 8.6% lease renewals spread that you talked about, on how many leases were that and also could you speak about the number of leases expiring in 2017 and do you expect to see the same kind of growth in leases forward?

[Joel Murphy:]

John it's hard to say. Let me -- I can get -- I'll come back to you in a second on the exact number of deals. Portfolio is small, it's not a large number deal, but we do have about additional 100,000 square feet of renewals going on through the rest of the year. So, it wasn't a large subset, but it was a significant subset. I see the trend going on and I thought this to be a big number and probably be hard to go do, but what we like is that we're buying our asset in our centers at low going-in cost per foot. So what that means is we got relatively affective rent structures that have been raised and we get renewal opportunities.

[John Benda:]

All right, I agree. And then on the purchase options, looks like the ones that are coming up for availability in 2017, there appears to be about seven of them. Can we expect to see some of the accelerator, some of them pushed off and how are you guys thinking about the balance between taking down multi-family or taking down student housing properties?

[John Williams:]

John, we have a lot of activity in our loan program. We expect to close a number of transactions, four for sure, but could be as many as eight. Dan, do you want to add some color on that?

[Dan DuPree:]

Well, it's just generally. I mean we got 31 loans outstanding right now and typical deal takes about three years to mature. So, year-to-year, we're going to be looking at somewhere between eight and 10 of these on an annual basis. Our intent when we make the loans is that that we will acquire the assets stabilization, but there could be circumstances where the strategy might be to go ahead and pass on the purchase option. This might be where a product is -- performs extraordinarily well and the purchase options at a cap rate is diluted to earnings. So, I mean there could be situations like that, but as John said there is a handful of them that are definitely chewed up and there's a couple of others we're still trying to figure out what loan to go on.

[John Williams:]

Yes, John, we're really pleased with lease up of communities that are in our portfolio. We just had some outstanding lease months and we're very comfortable with where we are in terms of performance.

[John Benda:]

Okay. And then just to be clear even if a purchase option -- begetting purchase option comes and goes, you still collect the interest on the loan until whenever-- correct?

[John Williams:]

Absolutely.

[Joel Murphy:]

Yes, the accrued interest is sale or refinancing, whether that sale [is just] or otherwise.

[John Benda:]

Okay, great. All right. Thank you

[Joel Murphy:]

John. This is Joel; I just want to come back towards answering your question. There was about 20 renewal deals in the first quarter, we retained 85% of the folks and of the others, we're our election and we've already released a third of that--.

[John Benda:]

And what are you seeing on the releases in terms of our rent increase, is that in line with the renewals around that [8.5%] within your quarter?

[Joel Murphy:]

Yes, it's probably about in line with that. Actually sometime in some cases could be more if any on the tentative was out in the first place.

[John Benda:]

All right, great. Great. Thank you.

[Operator:]

Ladies and gentlemen, this concludes our question-and-answer session. I would now like to turn the conference back over to Mr. John Williams for any closing remarks.

[John Williams:]

Thank you for joining us. First quarter was an outstanding quarter for PAC and we thank all of our associates and senior management team and Board for giving us such choice of work. Thank you and we'll see you at the end of next quarter.

[Operator:]

Ladies and gentlemen, the conference has now concluded. Thank you for attending today's presentation. You may now disconnect.