Kelly Residential & Apartment Real Estate ETF
Q3 2017 Earnings Call Transcript

Published: 7 Nov 2017

[Operator:]

Good day, ladies and gentlemen, and welcome to the Altisource Residential Corporation Third Quarter 2017 Conference Call. At this time, all participants are in a listen-only mode. Later we will conduct a question-and-answer session and instructions will follow at that time. [Operator Instructions] As a reminder, this conference call maybe recorded. I’d now like to introduce your host for today’s conference, Mr. Robin Lowe, Chief Financial Officer. Sir, you may begin.

[George Ellison:]

Thank you Dania. Good morning, everyone, and thank you for joining us today. My name is Robin Lowe, and I’m the Chief Financial Officer of Altisource Residential Corporation, which we refer to as RESI. Before we begin, I want to remind you that a slide presentation is available to accompany our remarks. To access the slides, please log on to our Web site at www.altisourceresi.com. These slides provide additional information investors may find useful. As indicated on Slide 1, our presentation may contain certain forward-looking statements pursuant to the Safe Harbor Provisions of the Federal Securities Laws. These forward-looking statements may be identified by reference to a future period or by use of forward-looking terminology that may involve risks and uncertainties that could cause the Company’s actual results to differ materially from the results discussed in the forward-looking statements. For an elaboration of the factors that may cause such a difference, please refer to the risk disclosure statements in our earnings release, as well as the Company’s filings with the Securities and Exchange Commission, including our year-end December 31, 2016, Form 10-K, our first and second quarter 2017 Forms 10-Q and our third quarter 2017 Form-10-Q that we filed today. If you would like to receive our news releases, SEC filings, and other materials via email, please register on the shareholders page of our Web site using the e-mail alerts button. Joining me for today’s presentation is George Ellison, Chief Executive Officer of RESI. I’d now like to turn the call over to George.

[George Ellison:]

Thanks, Robin, and good morning, everyone. If you recall, we ended last quarter's call the discussion of our two primary goals

[Robin Lowe:]

Thank you, George. Today we're reporting a GAAP net loss of $42.9 million for the third quarter 2017. Before hurricane related items, the operating loss was $39.8 million, an improvement over the second quarter of 29%. Rental revenues increased 9.5% sequentially to $33 million, reflecting the full quarter impact of 751 homes acquired from Amherst at the end of the second quarter. Total revenues for the quarter were $23.7 million, a 76% increase over last quarter reflecting the declining impact of legacy asset disposition. We sold 450 non-rental REOs in the quarter and expect to close the sale of up to 365 mortgage loans in November that would leave only around 66 loans on our books with a carrying value of approximately $2.4 million. Expenses for the third quarter excluding hurricane related items was $63.4 million, an 8% reduction compared to the prior quarter and a 19% reduction compared to the first quarter of 2017. As we continue the disposition of legacy assets, we are seeing further reductions in related expense lines. Mortgage loans servicing costs dropped 69% compared to last quarter to less than $1 million. After the loan sales scheduled for November, this expense line should become insignificant. As we continue the disposition of non-rental REOs, we are seeing a reduction in average property operating cost as non-rental REOS are more expensive to maintain than rental homes. There was a 10% reduction in property operating expense in the third quarter compared to last quarter, despite the full quarter impact of the 751 homes purchased from Amherst at the end of the second quarter. 91% of properties are now in the rental portfolio compared to 88% last quarter and we expect this to trend towards 100% as we complete the disposition of non-rental REOs. Selling costs and impairment for the third quarter were 19% lower than the second quarter and 48% lower than the first quarter of 2017. Again, as we close out the remaining non-rental REO inventory, we should see further significant reductions in this line. Core FFO on the stabilized portfolio was $0.15, up from $0.12 last quarter and NOI margin was 65.8%, up from 62.2% last quarter. The NOI margin number reflects lower unit turn costs mainly due to timing of the quarter end and lower tax costs as some actual billings came in less than accruals. The fact that the first and second quarter purchases from Amherst were fully renovated and stabilized also contributed to lower costs in the third quarter. Most importantly, we continue to make strong progress on cost control. For example, a contributor to the high NOI margin this quarter was a reduction in insurance costs as we consolidated our insurance coverage into a single policy for all properties achieving a 35% reduction in premiums for significantly improved coverage. While on the subject of insurance, I would like to discuss the financial impact of hurricanes Harvey and Irma. We have 2,261 homes in the affected areas, 926 were impacted by the hurricanes. Of the 926, 740 experienced only minor damage, while the remainder experienced a range of more significant damage. We expect that the total financial impact to RESI of the hurricanes will be in the range of $2 million to $3 million, including insurance deductibles and the cost of minor repairs. Our third quarter 2017 financial statements include total estimated damages with both hurricanes before insurance recoveries of $6 million. Our property managers are continuing their assessments, but this is our best estimate of total damages at this time. We have also included insurance recoveries of $2.9 million in the third quarter financial statements. Again, this is an estimate and is at the bottom end of our expected range of insurance coverage. Work with our insurer is ongoing, and we believe that the final insurance recovery of the deductibles could potentially be in the range of $3 million to $4 million. As shown on Slide 6, at the end of the quarter we held a total of 10,950 properties, of which 10,011 were in the rental portfolio and 546 were held for sale. The remaining 393 were under evaluation for rental sale. The total number of REOs under evaluation or held for sale reduced by 30% compared to the prior quarter. With regard to liquidity and funding capacity on Slide 7, we had approximately $170 million of cash and cash equivalents at the end of the quarter and about $251 million of unused funding capacity for a total of approximately $421 million of available financing. This excludes additional seller financing under the Amherst agreement that we expect to use in the fourth quarter. We continue to work on extending financing duration and at the end of the second quarter 68% of our debt funding had a term of four years or longer. I will now turn the call back over to George.

[George Ellison:]

Thanks, Rob. So another strong quarter of delivering on promises at RESI. Almost everyone of our operating metrics are strong or improving or both. We are closing another large block of homes that fits our high-yielding affordable housing business model. So what’s next for RESI? First, we need to stay focused on using our remaining equity judiciously, [indiscernible] our liquidity, opportunistically buyback shares and stay disciplined about buying homes that fit our high yield requirements. And second, we need to continue to simply pound away at our key performance metrics, which will feed directly into increased shareholder value. We look forward to discussing our company with all of you and answering any questions you may have. Dania, I will turn it back to you.

[Operator:]

Thank you. [Operator Instructions] And our first question comes from the line of Jade Rahmani from KBW. Your line is open.

[Jade Rahmani:]

Thanks very much and congrats on managing through the hurricanes as well as making a continued progress on the single-family rental front. Just wanted to ask one question that seems to be weighing on the overall sector is potential slowing same-store rent growth. And I was wondering if you're seeing that trend or if you would attribute that to seasonality?

[Robin Lowe:]

I think we had a reasonable quarter on the rent growth, Jade. The blended number came in at 3.7%, which is close to sort of the 3.5% to 4% that we are kind of modeling. So, I don’t think we saw a lot of impact for that. We are quit okay with that.

[George Ellison:]

And it jump throughout by market to market, but overall the -- we are pleased with that. 4% is a great number, if you can hit that consistently.

[Jade Rahmani:]

Is there any reason to believe this deceleration which we are seeing play out in the apartment sector?

[Robin Lowe:]

You know we are not seeing at this stage. Obviously that’s -- as George said, it is not a variation between different markets. Some markets are pretty hot right now, others are not so, but overall I think we feel pretty confident in that 3.5% to 4% range.

[Jade Rahmani:]

Can you give any color on which markets you view as strongest. It seems that, for example, Fort Myers and Atlanta had the highest change in release rents and on the other hand Memphis and Oklahoma City were both somewhat soft.

[George Ellison:]

You know, Charlotte, it's pretty hard as well. The Oklahoma City is something we talked about before, I don’t think we have NOIs on this space, but when we chat later on we can walk you through NOIs by market. So, for example, in Oklahoma City of the occupancy is not where we want it, but the NOI is something like 67%. Memphis with same thing. Memphis's NOI is at 70%. So as we continue to focus on those, what we see bad numbers, but you already have a good NOI, as you fix that that’s going to be very -- even more positive. So across the board, it’s -- remember we are in the affordable housing space, there is a massive need for this housing and as you know it's still incredibly difficult for our customers to access the mortgage market. And that's we keep reiterating that theme, there is an enormous amount of supply of those homes, there is an enormous amount of mom-and-pops, so we’re going to continue to buy and roll up and the demand you can see it by age group continues to grow and so I think the demand from the customer side is going to stay very strong.

[Jade Rahmani:]

Have you had any talks with the GSCs on funding for this asset class at the affordable segment which seems to be a big focus for Freddie Mac, in particular?

[George Ellison:]

Yes. I mean, we feel something happened, we probably don’t want to say too much or anything at all. But obviously Fannie was involved in the IH transaction and that's great to see Minneapolis and those folks are pretty serious and Don Layton is very serious about as well. And so we are close to both those folks. I think to be fair, I can't speak for them, but I think they truly care about affordable housing and need credits for it that are being pressed by FHAs do, which I think they’re -- watch this space.

[Jade Rahmani:]

The pending acquisition in the fourth quarter are you able to say I noticed Tricon sold about 1,523 assets. Are you able to say whether you bid on those assets or if any of these plan acquisitions include all or part of that portfolio?

[George Ellison:]

We were interested in Silver Bay at every step of the way, and then Gary Berman bought them. And so we looked at the portfolio multiple times and knew it very well and [indiscernible] had all the homes in a box and we knew exactly we want to pay for all of them, that portfolio then changed and went to Tricon and then Tricon sold I think something like you said, 1,300, 1,400, 1,500, we bid on that, miss that. I think it's public knowledge Amherst bought that. We are obviously very close to them, so we were following a lot of those homes. And as you know you have been on a pool, some fit very, very well and some don’t fit at all and so again this trade is not done, but we will be able to tell you more about what's inside of it when I see the final numbers we're still ticking in time down to the last little bid, so we will be able to -- obviously a problem identifying for you, which of the Silver Bay, the Tricon, the Amherst to us homes there are.

[Jade Rahmani:]

Okay. And I guess, lastly, looking at the other category in the rental portfolio, there's around 2,000 homes. I was wondering are those -- is that a core part of the portfolio or is a lot of that potentially under evaluation for sale, if you feel, you don't have scale in some of those markets?

[George Ellison:]

Well as you know, we talk publicly there is two things going on -- and I expect more than two things in this. Two key things that I think about when I look at that bucket and it's markets where we're growing and we just haven't dropped to the critical size we had so, for example, St. Louis is not on here. St. Louis is a place we mentioned on the last call where we’re focused on. So there is a handful of cities, Birmingham, I don’t think is on here and we are going after Birmingham pretty hard. Ohio is not on here yet, so some of the other would be small places that are coming up and then exactly what you said at the end of your question, which is you know we’ve been on a mission to clean up not a lot, but probably 300 or 400 homes in the next year or so that are just end markets that were created by the last sort of business model of buying loans and if loans turned into homes that hit the proper yield, they were put in the portfolio. And that’s fine, but we change that strategy as you know a few years ago, and so if you have three homes that yield okay, but that’s all you have in a certain market, you probably want to trim that back unless it’s the first part which is unless you plan on growing there. So I think of it two ways. It's probably over time and I don't -- I’m not able to say exactly how long, but I would imagine by the end of '18, we have a lot of nonstrategic places cleaned up and you'll be able to see some of the growth cities actually hit the stage.

[Jade Rahmani:]

Great. Thanks very much. I will get back in the queue.

[George Ellison:]

Thanks, Jade.

[Operator:]

Thank you. And our next question comes from the line of Doug Arthur from Credit Suisse. Your line is open.

[Doug Arthur:]

Thanks. I know you said you're still sort of finalizing that the newest Amherst portfolio, but should we expect that portfolio to be a similar stabilized content or rented or leased content when it comes on board as to the other deals?

[George Ellison:]

Yes, it should be very, very similar.

[Doug Arthur:]

Got it. And then looking at the deallocation of the management fee between stabilized and the total, when should we expect that the stabilized portion of that to absorb the entirety of that cost?

[Robin Lowe:]

Yes. Obviously, Doug, as you know we move forward the stabilized rental portfolio becomes a greater part of the total and then finally all of it -- that allocation of management fee will increase. We basically use the equity assigned to the stabilized rental portfolio to allocate the management costs.

[Doug Arthur:]

So, I guess, with the loan sort of substantially sold and REO coming down pretty meaningfully. I mean, I guess, should we see that allocation to that segment go up in the fourth quarter noticeably or is it -- how should we expect that just so we can get the right expectations for that stabilized FFO?

[Robin Lowe:]

Yes, again as I say, it should go up in the fourth quarter with the new Amherst acquisition. So obviously we're at the beginning of November now, so at the time we get that trade done, it's not going to be a full quarters allocation. For modeling purposes, purchases I would think it might be a month.

[Doug Arthur:]

All right. Thank you.

[George Ellison:]

Thanks, Doug.

[Robin Lowe:]

Thanks, Doug.

[Operator:]

Thank you. [Operator Instructions] And our next question comes from the line of Mike Grondahl from Northland Securities. Your line is open.

[Mike Grondahl:]

Thank you. Thanks, guys. A quick question, now that you’ve hit that $0.15 FFO, how should we think about the incremental margin on the next bucket of rentals? Whether that's a 1,000 rentals or 5,000 rentals, how should we think about the kind of that leverage hitting the model?

[Robin Lowe:]

Yes. I’m -- the question -- you’re cutting with the question, Mike. Could you elaborate it slightly?

[Mike Grondahl:]

Yes. So 10,000 rentals are driving about a $0.15 FFO and you guys have needed quite a bit of scale, you've got into that scale, so if you added a 1,000 rentals, how should we think about that affecting the FFO? Like each 1,000 or 2,000 of rentals would equal how much FFO?

[Robin Lowe:]

Yes, obviously, FFO go up. I don't have numbers to give you in a sense of -- on absolute comp give you guidance, but obviously slightly obvious as the number of rental homes go up, FFO will continue to rise.

[Mike Grondahl:]

Okay. Maybe trying it slightly differently, George, how are you thinking about 2018 now? Obviously, this fourth quarter purchase gets you to about 12,000, what are some of the bands to think about for 2018?

[George Ellison:]

With some of the what?

[Mike Grondahl:]

The ranges that you would like to acquire homes for in 2018 …

[George Ellison:]

Okay.

[Mike Grondahl:]

… kind of a low end and a high-end.

[George Ellison:]

Yes, I mean, its again -- it will depend a little bit obviously on the price of the home, but Rob can walk you into as the last bit of loans goes out as the last bit of REOs goes out, how much equity we currently have, and then he will leave excess cash as a cushion he will put some leverage on that and so we look at that number to see how many homes we can purchase. So with that equity you can probably get somewhere in the 2,000 or 3,000 at the low-end. If you remember we bought the Atlanta homes in '15, I think the average house price is 85,000 or 90,000. So it could be as low as 2,000, 3000. It could be as high as 4,000, 5,000. But the number of homes really doesn’t matter quite as much, it's getting that equity invested in getting the same yield. So the home amount is a starting point. So I would say 3,000 to 5,000 more and there is quite a few pools still out there, so if we are able to get the right price that can happen pretty quickly. But we are going to hold the line on getting the yield, that’s the secret and so we will be patient, but looking to what could happen sometime in the next two months, it could happen in the next six months, so -- and then hopefully we can keep pushing that FFO, Rob was talking about.

[Mike Grondahl:]

Got you. And then just last quarter we talked a little bit about Oklahoma. And Memphis looked a little slower and you mentioned that a little earlier, are you seeing Memphis bottoming or is it still sort of sliding?

[George Ellison:]

You know the -- as I said, the -- you look at a few things, so there is certainly NOI in Memphis as well in Ohio and the Oklahoma City NOI is higher than our average. So there is some good news there and the demographics of both are great. We think Tennessee and it looks like the Carolinas are really a great place to live and raise families and so I think we’re going to continue to press into all the cities in Tennessee and with Memphis -- Memphis is as I view it, we have a massive utility that is pretty low rate now. So we’re still fine with Memphis.

[Mike Grondahl:]

Got it. Okay. Thanks a lot guys.

[George Ellison:]

Thanks, Mike.

[Robin Lowe:]

Thank you.

[Operator:]

Thank you. And we do have a follow-up question from Jade Rahmani from KBW. Your line is open.

[George Ellison:]

Jade?

[Jade Rahmani:]

Sorry. Just looking at the core NOI margin of 65.8%, quite a bit higher than some of the peers that have reported recently. Is there anything that you view as driving that primarily is it early days and we have seen the phenomenon on that NOI margins decline as the portfolio seasons, some the houses begin to turn or do you think that this is a sustainable level that could potentially increase as a result of the lower turnover ratio that this segment of the market might entail?

[Robin Lowe:]

Yes, I think it's a combination of both those things, Jade. So, as I said in this particular quarter, we sold per unit turn costs, I think some of these unit turns kind of across quarter end frankly as we were kind of very concerned with putting resources on to tenant care and hurricane damage, and so we sold at below the unit turn cost this quarter. And as I said, there were some lower tax cost as we saw actual billings come at less than accruals. I think your point is important one as well. I’m creating with my good progress on cost control to the longer term that helps us a lot and I think that’s the trend we expect to continue. And as I said, we will achieve significant savings on insurance this quarter, that alone contributed about .7% to the NOI improvement this quarter and that’s a sustainable long-term thing. So, George?

[George Ellison:]

Yes, the only thing I would add to that those are the -- obviously the granular facts that Rob has, the more broader, high-level answer that I would give is as I said you have certain cities on this list that have 67%, 68%, 69%, 70% NOI margin. So, the bigger we get we are going to be in a lot of cities and those NOIs are all over the place. The way I think about it is, I think we were 62% last quarter. We'll get to too down when we see 62%. We're not going to get to overly excited at 65.8%. We're obviously happy with it. We are shooting [ph] for a long-term trend and I think 65% is -- should always be the mark. In time hopefully we can -- the industry can press to make that even a little bit higher, but -- so I wouldn’t get to exercise when it's too low or too high. So we are very, very pleased, the team did a great job, but I think that number is always going to have a little bit of volatility to it.

[Jade Rahmani:]

Can you say again what drove the lower unit turn costs? Was that turns slipped into the fourth quarter or the costs were actually less than budget?

[Robin Lowe:]

Both of those things, Jade. We are definitely achieving some cost efficiencies. Property managements are doing better and better on that. So that’s one thing, but it also was as I said, a little bit of a timing issue just since -- resources were kind of diverted to the hurricane work. So both of those things.

[Jade Rahmani:]

And just a follow-up to I think Doug's question, the -- right now there is G&A being allocated to legacy assets that are running off. And so, you gave some color on which portions of G&A it would basically go away as those servicing costs diminished. But I guess, should we still expect a debt in core FFO temporarily as a result of increased G&A allocation to SFR? And how long -- might that take at a portfolio size of 12,000?

[Robin Lowe:]

I wouldn’t expect a significant dip, Jade. I think in that sense its fairly linear in a sense of allocating G&A to the core FFO. So I think what you should expect at some point, once that’s all allocated and we are a pure rental FFO is that you’re going to see a big increase, because that’s what covering on G&A and everything on top of that is going straight to the bottom line. So I think that’s a long-term trend.

[Jade Rahmani:]

Okay. Is there a portfolio level at which that really starts to have some powerful impacts to earnings?

[Robin Lowe:]

Yes, obviously we’ve said when we spent all our equity that we think we will probably get near around, let's say, 15,000 homes for example. So, at that point all of the equity -- sorry, all of that G&A gets allocated, so I think on top of that should be go straight to the bottom line.

[Jade Rahmani:]

And lastly something I ask basically to every single family rental company, can you just remind us what the per property costs are for RNM, for turn costs and for CapEx?

[Robin Lowe:]

Yes. We think right now our annual RNM is kind of in the range of $1,000 annual. On CapEx, we budget the same, a $1,000. I think we are a little conservative on that. I think our maintenance CapEx maybe a little less than that, but we want to be conservative right now. And our annualized turn cost is in the range of $250.

[Jade Rahmani:]

$250. So if that -- if people stayed four years, you’re saying on top of those other costs it would be about a $1,000 of turn?

[Robin Lowe:]

Yes, again we are being kind of a little conservative on our estimation of turn. As you pointed out earlier, our turnover is close to 4 years and 3 years based on current evidence. I would say the total turn cost is kind of probably $750 to $800.

[Jade Rahmani:]

And do you have any statistics on some percentage of your renters that would choose purchasing a home as an alternative? I would assume some of the other players have given about a third of move out or to buy a home. I would assume for you guys that’s much lower, is that the case?

[George Ellison:]

The -- I mean, I think the way you asked the question, do we know we’ve data on whether they would like to unlike we have that, like social data, but what you can't see is of those people who moved out from everybody in the industry, how many got mortgages, bought homes with mortgages. And as you said, I think most of our -- the other folks are running in the mid to high 30s and we are consistently in the mid teens, what was in disclosure?

[Robin Lowe:]

That’s 12%.

[George Ellison:]

12%, so its -- and that, Jade, is again we’re trying to be patient and continue to pound the way of the story, it's totally different model. The affordable housing space is a completely different model and its going to be for good and bad reasons, these folks are really challenged, there is a housing crisis in our country right now and we are square right in the middle of trying to address that need. And so these folks may have had mortgages pre-crisis, but it's very unlikely that they will be able to get mortgages required sometime. And that’s a huge segment of our population and they’re going to -- and that’s here we are trying to serve. And so the -- as I said the force of the demand for our homes is there. We know the homes are there, but I think the space is going to continue to grow and these folks are going to stay in the homes longer and that number right there, it won't hang too much on any one number, but think about that three times almost …

[Robin Lowe:]

Yes, probably three times.

[George Ellison:]

35% to 38% of our competitors are the people that move out get mortgages. Our folks can't get them. And until that changes, they need a place to live and they’re going to rent and then we are going to be there helping them.

[Jade Rahmani:]

And the 88% that don’t move out to buy or get a mortgage, are they moving to other single family rentals or back to apartments or where are they going?

[Robin Lowe:]

It's a whole range of things, Jade, as you would expect. People are going to move cities or have to move for one reason or another. So, there is no one sort of big directional thing.

[George Ellison:]

Yes, we get a -- the property managers give us the data, a nice pie chart that shows every slice and we got moved and transferring, as I said who bought a home, obviously credit issues were all [indiscernible] credit issues and so it's -- you can probably show people the break down quarterly, I don’t see a problem and you can see who moved out and why they moved out.

[Jade Rahmani:]

Thanks so much.

[George Ellison:]

Thanks, Jade.

[Operator:]

Thank you. And this conclude today’s Q&A session. I’d like to turn the call back over to the company for closing remarks.

[Robin Lowe:]

Thank you everyone for joining the call and have a great day. Thank you.

[George Ellison:]

Thanks everyone.

[Operator:]

Ladies and gentlemen, thank you for participating in today’s conference. This does conclude the program and you may all disconnect. Everyone have a great day.