Drive Shack Inc.
Q4 2015 Earnings Call Transcript

Published: 10 Mar 2016

[Operator:]

Good morning. My name is Denise, and I will be your conference operator today. At this time, I would like to welcome everyone to the Newcastle Fourth Quarter and Full Year 2015 Earnings Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers’ remarks there will be a question-and-answer session. [Operator Instructions] Thank you. Sohee Yoon [ph] you may begin your conference.

[Unidentified Company Representative:]

Thank you, Denise. And good morning, everyone. I'd like to welcome you today to Newcastle's fourth quarter and full year 2015 earnings call. Joining me here today are Wes Edens, the Chairman of our Board of Directors; Ken Riis, our Chief Executive Officer; Justine Cheng, our Chief Financial Officer; and Sarah Watterson, who will be discussing our golf business. We posted an investor presentation on our website which we encourage you to download if you have not already done so. Before I turn the call over to Wes, I'd like to point out that certain statements made today will be forward-looking statements. The statements by their nature are uncertain and may differ materially from actual results. We encourage you to review the disclaimers in our press release and investor presentation regarding forward-looking statements and to review the risk factors contained in our annual and quarterly reports filed with the SEC. And now, I'd like to turn the call over to Wes.

[Wes Edens:]

Great. Thanks, and welcome, everyone. I'm going to refer to the deck that we just recently posted to our website. So the first page of it, just the summary of results. For the fourth quarter core earnings were $9 million, which was $0.13 per share. AFFO $5 million, $0.08 per share, common dividends of $8 million, which is $0.12 per share. For the full year, earnings of $38 million, which is $0.57 per share, AFFO, $56 million, $0.84 per share and paid dividends in total of $0.48 per share. The comparative of this fourth quarter versus fourth quarter a year ago is a little bit murky because a year ago we hadn't completed the spin-out yet the new senior business yet. What I look at is the core golf business from a year ago to this year. EBITDA for 2015 was approximately $31 million, which is up from $24 million a year ago. Free cash flow of $16 million versus $10 million a year ago. So we had very, very good performance in the core business and in general had a very consistent and very good year across the board from a financial standpoint. Next page, page 3, the overview of the company at this point is an increasingly clarifying view. The legacy debt business that Kenny will talk about here in just a second, we had substantial amount of progress in monetizing a big chunk of that last year. The performance of the underlying investments have actually been quite constructive. We realized over $100 million in proceeds in real estate recoveries in 2015. In June, we collapsed the last two CDOs, CDOs VIII and IX, sold $181 million of face at par, generated proceeds of $70 million and just as importantly, really then did clean up the balance sheet dramatically. So this is getting easier and easier for people to follow, which of course is our objective. The golf business, the legacy portfolio has had a terrific amount of improvement since the time we took it over a few years ago. It's a portfolio of 86 courses across 13 states. It's generated EBITDA of $31 million, which is a 30% increase. We think it's poised to have a good year again this year. Again, there is some seasonal factors that now you'll have good comparisons year-over-year to follow and track that throughout the year. We feel very, very good about that, and we think that there are some good opportunities there. And then lastly, we have spent a lot of energy this year on a new initiative that Sarah will talk about here in just a few minutes ago. And that we've announced an intention to develop an innovative golf company, Drive Shack. We've partnered with TaylorMade, which we think is the leading golf club manufacturer technology provider in the world. We have developed prototypes for this and we made a lot of progress in our first couple of sites. Again this is something Sarah will talk about here in just a second. So with that, let me turn it over to Ken.

[Ken Riis:]

Thanks, Wes. Good results for our debt business in 2015. Our portfolio continues to generate solid returns as we strategically monetize the capital invested in the portfolio. For the full year, the portfolio decreased $340 million. We sold $213 [ph] million of non-agency assets in the year, received $86 million of pay-downs and reduced our agency portfolio by $40 million. This activity resulted in over $100 million of principal recovery to NCT or more than 25% of our total projected recovery at the beginning of the year. We ended the year with $717 million face amount of assets, split pretty evenly between non-agency and agency assets. I feel really good about the performance and overall credit quality of our non-agency portfolio. And we will continue to harvest the capital in our debt business over the next one to two years. So I hand it over to Sarah now to talk about golf.

[Sarah Watterson:]

Thanks, Ken. Turning to page 5, a little bit of overview of our existing American Golf portfolio. We have 86 properties across 13 states. Our portfolio is really optimally situated with 75% of our properties in the top 20 MSAs and the majority of our properties you can see are located in California and kind of the Sunbelt states. And so we experienced about 30 extra playable days versus the rest of the US. Our business is diversified across both the public and the private courses, as well as owned, leased, and managed courses. You'll see we have 63 high volume public courses that are situated again in year round golf markets. And then on the private side, we have 23 courses with nearly 15,000 club members who pay recurring annual dues. Turning to page 6, since Newcastle acquired the portfolio about two years ago, our team has really done a terrific job in managing our product offering, introducing new sales initiatives, and reducing expenses. All of these changes have really propelled our year-over-year growth and you can see that we achieved $31 million of adjusted EBITDA in 2015, which represents a 30% year-over-year increase and a 19% annual return since 2013. On the private side, that's really where most of our out performance came from this year, and again, it was really driven by member sales and new referral programs. The number of kind of high revenue full golf members grew by 200 to 9,000 over the course of the year, and dues per members were up 4% as well. This strong growth coupled with the expense management drove our private property EBITDA margins by nearly 2,000 basis points to about 27%. I think it's also important to note that if you look, we're still operating at about 81% of full golf membership capacity. So there is some meaningful upside potential there. Based on prior peaks, we believe that it's about 95% stabilized occupancy that we can achieve over the next several years. On the public side, we have 63 public courses. Again, 3.3 million rounds played per year, and most of these public courses are in Tier 1 markets. And so even though despite a small increase in the number playable days over the year, our rounds increased by 140,000 and our fees per round were up as well. I think the largest development in this side of the business was the rapid expansion of the players club over the course of the year. The players club is what I think of a gym-like membership program that we introduced at a lot of our public properties where members receive free golf clinics or access to races for a monthly fee ranging anywhere kind of between $30 and $50 per month. And it's a really high-margin program that's been incredibly successful this year and as we go into 2016 with 20,000 members, which we think can grow pretty substantially over the course of the year, it will provide a stable revenue mechanism for our public property courses. On page 7, we think there's still a tremendous amount of growth to be achieved organically in our American Golf business. We're thinking for 2016 adjusted EBITDA between $32 million to $36 million, which implies about a 10% increase at the mid-point. A lot of that as I mentioned is achieved organically through initiatives that we have in place already. And beyond that, we think there is earnings growth potential to be achieved throughout the year that we could achieve through reinvention opportunities or new acquisitions. Property reinvention is something new to American Golf on this side, but it's not new to our management team, and we believe the opportunity really exists at our 15 owned and private courses to update or add new amenities to our courses to improve member satisfaction and reinvigorate membership growth. These improvements might include things such as fitness centers or other kind of experiential items such as outdoor dining or resort style pools. And with the average age of our private club member at about 50 to 55, we believe implementing these amenities will attract a younger base and really position our company well for the future. On the acquisition front, as you can see from the chart on the bottom right hand side, there is over 13,000 owners that own only one course or club. And so these owners have no economies of scale, geographical diversification, and we believe our management team can leverage kind of the same recipe used at American Golf to drive value through our acquisition pipeline. We will be strategic and thoughtful in deploying capital as we go along on this acquisition process. What I am most excited about for the future of American Golf is on the Drive Shack opportunity and the golf business on the innovative side. We remain very excited to work along TaylorMade and build up these facilities across the US and the globe. You can see from the chart on the bottom side, really what a - how a Drive Shack and an entertainment golf facility differs from a traditional driving range. With 75 to 100 suites across three stories, it adds competitive gaming and teaching technology to expand this product to more than just golfers and include kind of family and friends. And this isn't something that - it's something that's newer to us, and it's not newer to the US. We have a competitor that's done an incredible job and it's very well kind of displayed across Asia and internationally. We plan on leveraging our golf expertise and working alongside TaylorMade, as Wes mentioned, as top equipment manager and technology kind of prowess across the US to develop these Drive Shacks across the globe. On page 9, we believe that the Drive Shack opportunity really complements our existing traditional golf business. As I mentioned, 75% of our courses are in top MSAs, and our average age of our current golfers is a little bit higher. And so introducing Drive Shack into the mix will bring a younger, more modern kind of demographic to our golf courses. Each of our golf courses have about 150 acres per course. And so slicing off 10 to 15 acres for a Drive Shack is a pretty minimal act. On the economic side, the unit economics are very compelling. It costs about $15 million to $20 million to build one of these facilities, and we believe each facility will generate about $5 million of sight level EBITDA. We're working to have three to five sites under development by year end. And we hope to scale this pretty quickly once we have those sites under development. And so with that, I'll turn it back to Wes.

[Wes Edens:]

Great. Thanks, Sarah. Just to wrap up on the last page or page 10, the business plan for the Company for the year is actually very clear. Number one is the process of continuing to monetize the debt opportunities, look for our chances to bring forward those assets and turn them into cash. Our expectation is that the bulk of this activity will be completed over the next two to three years. Although it's conceivable, given favorable markets, that we could accelerate that and that's something we're very, very focused on. But turning that into cash, making it simple, and generating all the proceeds we can there, is our number one goal for that portfolio. Number two on the traditional golf side, as Sarah said, we're very happy with the core performance of the existing assets. We do look to selectively add to those positions. There is a handful of things we're looking at right now. For our business, this is large as the golf industry is in the United States, it is incredibly fractured in its ownership. So there is many, many different opportunities out there. And this unique kind of positioning of operating assets that also have a lot of real estate value is something that we think presents a very, very compelling opportunity. I don't think it is an incredibly scalable, one size fits all kind of opportunity, but we do think that there's going to be some great chances to add to the portfolio. Number three, on innovation side, we think that there is proof of concept that this can be a very, very exciting area for us in terms of the competition that's out there. That said, we think that we are strategically in an incredibly good place in that we have a very large golf business. We have a large, geographically diversified portfolio, many of them in areas that we think are prime candidates for conversion. This partnership that we've got with TaylorMade, we are excited about. We think that the technology and the entertainment value of these facilities can be tremendous. We think what has been done in the industry is terrific. But of course we think that there is many, many things that could be done incrementally better and that's what we're focused on. We've spent a lot of time and energy on creating the first prototype for the investment, and as Sarah said, we've got many conversations which are going on right now at advanced stages. Our expectation is that we'll have a very active year and hopefully end up with three, four, five of these properties under development by the end of the year. And when you look at the unit economics that she just described, to the extent that we can actually build these in a timely manner in the United States and elsewhere, we think the growth potential for the company could really be tremendous. So it should be an exciting and change filled year for all of us. With that, I'd like to turn it over to the operator and we're happy to answer questions.

[Operator:]

[Operator Instructions] Your first question comes from Matthew Howlett from UBS. Your line is open.

[Matthew Howlett:]

Thanks, everyone. Thanks for taking my question. Ken and Wes, what's the update on the permanent financing on the golf assets. I think your last - you are going to be in the market at some point this year refinancing that short term debt with some mortgage debt. What's the update on that?

[Ken Riis:]

Actually Sarah, do you want to take that one?

[Sarah Watterson:]

Yes, of course. So we did extend our short term debt for the next several months and we're working through on the long-term financing. We still think the market is very attractive. We're looking to get between $125 million and $150 million of proceeds for our golf business and we hope to update you on the first quarter call.

[Matthew Howlett:]

Okay. So that would go - you freed up some cash so then I guess that goes to my next question. The cash is up a little bit this quarter, the unrestricted cash, $40 million. You free up some cash when you do this financing. What's the investment case against repurchasing stock? I maintenance, you used to give this person - sort of this chart on where you think in the recovery value of the debt asset, I am assuming that's around $300 million, and the golf, hope we apply some type of multiple to 10ish multiple to a 30 free EBITDA. What would be the investment case against just putting the buyback in place?

[Ken Riis:]

I think that the cash position of the company right now is sufficient obviously for operating purposes. The golf portfolio that Sarah was describing is quite under leveraged right now in our view. So any incremental financing will both extend the term of it and also increase the proceeds against it and still leave it very modestly leveraged. That is that combined with any asset sales we have on the debt side could result in substantial liquidity on the balance sheet. If and when that comes to pass, that will be a board decision on what best to do that. But I think returning it to shareholders at least in part is something which we would be very focused on. And that can take the form of extraordinary dividends, it could take the form of buybacks, and a host of other things. And obviously, you would look at what the investment environment would be to gauge that against. So I don't want to presume what we would do. In fact, we have liquidity. We're very, very focused on shareholder value though. So those are probably the three primary options if and when that comes to pass this year.

[Matthew Howlett:]

Got you. And just the recovery value, Ken, on the debt side, the recovery value is after the $100 million you got back last year, is still around $300 million. Is that still where you're targeting it?

[Ken Riis:]

Yes. It's right in that rage. That's sort of the mid-point, you know, its $250 million to $300 million.

[Matthew Howlett:]

Got you. And the last question on the Drive Shack. The returns and it looks like that's sort of almost approaching 30% IRR on these things. You upped the amount of - you upped the sort of two courses now you're sort of targeting. Now two to five instead of two to three, when can we expect this to kick in, in terms of having an impact to the adjusted EBITDA on the golf, is it more up to '17 or is going to be like '18?

[Ken Riis:]

It's more of a '17 process. I mean, just the - it's a real estate construction project at this point. So the first part is to get a prototype developed, you get plans done. That's actually largely finished. It's then to get a site selection or a conversion on an existing one and with any real estate project, you are not really in business until you have the permit in hand. We're having conversations with a number of different geographies right now. So I think once that happens, we'll then have a much, much more specific schedule which we can share with you. I think our guess is that from tee to green, not to be too cute about it, from the time we have that permit until the property is actually up and operating is probably a year or so, maybe little bit less as we do this more frequently, but that's probably reasonable. So it's right now March 8, I guess, right, so if we were to get something permitted here by the middle or third quarter of the year, it would be a second half of 2017 by the time you would see the economics start to roll out.

[Matthew Howlett:]

Great. Thanks, everyone.

[Operator:]

[Operator Instructions] Your next question comes from Sam Choe with Credit Suisse. Your line is open.

[Sam Choe:]

Most of my questions have been answered, but just one. As you guys get proceeds from the real estate debt, is it safe to assume that you guys will use more of those proceeds to invest in the innovative golf?

[Ken Riis:]

We do expect to invest in innovative golf. I think the capital structure for that part of the business is something which we're still in the process of figuring out. The numbers that Sarah gave you on the unit side are all un-leveraged numbers. I think it would be prudent for us to put some leverage against it. So and I also think in addition in many cases we'll find local partnerships in an effective way to be a real estate developer in all these different geographies. So the actual amount of capital that we need is still somewhat unclear. As we go through this, it will be clarify itself. I think even with that, so long as we get our financing in place and we liquidate our real estate in a timely manner, you'll end up with excess capital even above what we have invested in the Drive Shack business. But again, we'll do that - the context for that will become more clear as the year goes on.

[Sam Choe:]

Got it. Thank you.

[Operator:]

Seeing there are no further questions at this time, and I'll turn the call back over to the presenters.

[Unidentified Company Representative:]

Thank you, everyone.

[Operator:]

This concludes today's conference call. You may now disconnect.