UDR, Inc.
Q1 2014 Earnings Call Transcript

Published: 29 Apr 2014

[Operator:]

Good day, ladies and gentlemen, and thank you for standing by. Welcome to the UDR's First Quarter 2014 Conference Call. [Operator Instructions] This conference is being recorded today, April 29, 2014. And I would now like to turn the conference over to Mr. Chris Van Ens, Vice President of Investor Relations. Please go ahead, sir.

[Christopher G. Van Ens:]

Thank you for joining us for UDR's first quarter financial results conference call. Our first quarter press release and supplemental disclosure package were distributed earlier today, and posted to our website, www.udr.com. In the supplement, we have reconciled all non-GAAP financial measures to the most directly comparable GAAP measure in accordance with Reg G requirements. I would like to note that statements made during this call, which are not historical, may constitute forward-looking statements. Although we believe the expectations reflected in any forward-looking statements are based on reasonable assumptions, we can give no assurance that our expectations will be met. Discussion of risks and risk factors are detailed in this morning's press release and included in our filings with the SEC. We do not undertake a duty to update any forward-looking statements. [Operator Instructions] Management will be available after the call for your questions that did not get answered on the call. I will now turn the call over to our President and CEO, Tom Toomey.

[Thomas W. Toomey:]

Thank you, Chris, and good afternoon, everyone. Welcome to UDR's first quarter conference call. On the call with me today are Tom Herzog, Chief Financial Officer; and Jerry Davis, Chief Operating Officer, who will discuss our results, as well as senior officers, Warren Troupe and Harry Alcock, who will be available during the Q&A portion of the call. My comments will be brief and focus on 5 topics. First, all aspects of our business continue to perform well in the first quarter. Operations is hitting on all cylinders, and our development completions and return in aggregate are meeting or exceeding the expectations. Apartment fundamental in our markets remained favorable, and our momentum entering the prime leasing season remained very positive. Second, our first quarter results came in at the high end or beat our initial guidance ranges provided in February on both earnings and same-store basis. Much of 2014 has yet to unfold, but we feel good about where we are, and we'll reevaluate and update you on our full year guidance on the second quarter call. Likewise we are in line or slightly ahead of the expectations set forth in our 2014 to 2016 strategic plan. We continue to view the plan as a solid roadmap for long-term value creation and remain fully focused on its execution. Third, we completed $295 million of accretive coastal development during the quarter. Maintaining a consistent development pipeline improves our portfolio quality and geographic footprint, and remains a primary driver or expected cash flow growth in the coming years. We are excited about the $566 million of development projects we have completed over the past 6 months, as well as the $183 million that is expected to come online during the remainder of 2014. Fourth, we completed the migration of the final 8 operating assets out of our original UDR/MetLife I joint venture with another set of transaction. After 3 years of hard work, this brings the operating community portion of the UDR/MetLife I joint venture to a close. Over this time, we have been pleased with the progress made in increasing our ownership interest to 50% in 16 of the original 26 condo-quality communities that are located in our core markets. And we are excited about the continued expansion of our relationship with the stable long-term partner in MetLife. I'd like to acknowledge Warren and Harry for their hard work that created a mutually beneficial outcome for both UDR and Met. Tom will provide further details on our investment to date, including our current estimated IRR. Fifth, we are making progress on our planned dispositions for the year, and while it is early to provide details, pricing has come in favorably versus original expectations. Tom will provide an update on our capital sources and uses in his prepared remarks. And finally, I'd like to thank all my fellow associates for their hard work in producing another strong quarter for UDR. We look forward to the remainder of 2014. With that, I will turn the call over to Tom.

[Thomas M. Herzog:]

Thanks, Tom. The topics I will cover today include

[Jerry A. Davis:]

Thanks, Tom, and good afternoon. In my remarks, I'll cover the following topics

[Operator:]

[Operator Instructions] And our first question is from the line of Jana Galan with Bank of America.

[Jana Galan:]

I was wondering if you can give some color around the changes to transaction activities for 2014? Was that largely led to what you would accomplish in the first quarter? Or just are you seeing less potential acquisitions out there?

[Thomas M. Herzog:]

It's Tom Herzog. As far as the transaction activity, we reduced the acquisition number down by $100 million at the midpoint. We increased the disposition guidance by $100 million at the midpoint. Equity, we just clarified that, that drove to $150 million and the cap rate spread, we just tightened up by 50 basis points. As it pertains to the reason for the changes, the acquisitions, we've got the Pacific City that was purchased in January, we're using that as one of the reversed 1031s, reduced in [ph] April acquisitions. Dispositions we raised, that created a couple hundred million of extra cash flow. We've got the joint venture contribution that we described that comes in as a net $79 million and then we have Steele Creek that comes in at about $60 million that we expect to fund during the year, leaves a little bit of extra cash flow in the mix. So those are the moving pieces that we have.

[Jana Galan:]

And you mentioned the $1.4 billion of non-core in potential dispositions, just given the strong demand for apartment assets, would you potentially increase that disposition number further?

[Thomas M. Herzog:]

Well, I mean, as far as the dispositions at the range that we've set, there really isn't going to be reason likely to increase the disposition number. We do have, of course, the capacity to do that if we needed to. But we're not expecting at this time that will be modified.

[Operator:]

And our next question is from the line of Nick Joseph with Citigroup.

[Nicholas Joseph:]

You mentioned that the pricing for the planned dispositions has been better-than-expected. Have you seen any increase in condo conversions in your markets?

[Harry G. Alcock:]

Nick, it's Harry Alcock. First of all, none of our assets that are in the market are going to be sold to condo converters. But in terms of the question itself, we're starting see a little bit of condo activity on existing operating assets creep into a couple of markets, New York was first, we're starting to see a little bit of it in San Francisco, and we're seeing more of it in those 2 markets on land sites where the -- many of the buyers are going to develop for a condo use.

[Nicholas Joseph:]

And in terms of guidance, what are you assuming on the price in for that unsecured bought issuance this quarter?

[Thomas M. Herzog:]

Well, we've -- it's to look at what current pricing is, Nick, this is Tom Herzog again, on the 10-year, we would assume it's somewhere roughly into the vicinity of 4%. If we went with the 7-year, it's more in the vicinity of 3.5%. We've got our guidance number in a little bit lower than that. So we've got a little bit of upside if we get to [indiscernible] between now and [indiscernible].

[Nicholas Joseph:]

And finally, what's the timing of the potential development start to MetLife I JV?

[Harry G. Alcock:]

Nick, it's Harry Alcock. The first couple of sites could start as early as later this year. We've got another 2 to 3 sites that could start in 2015, and then the remaining 2 or 3 would potentially be further out.

[Operator:]

Our next question is from the line of Derek Bower with ISI Group.

[Derek Bower:]

Given the MetLife funds carry higher leverage, can you speak to what your pro rata leverage metrics look like, pro forma the transaction? And how do you expect leverage, including the JVs to trend relative to your guidance in the 3-year plan?

[Thomas M. Herzog:]

As far as leverage on the MetLife joint venture or just leverage in general, as, I think, you're aware, we see our net-debt-to-EBITDA is the one I'll focus on, taking down during the year, probably on a consolidated basis and in the year somewhere around 6.5, and then further taking down during the period of our 3-year plan down to about 5.7. As to -- with the inclusion of JVs, we would see that number coming in at somewhere in the mid-6s by the end of the year. The impact of the MetLife swap was quite negligible to the look through, if you will, net-debt-to-EBITDA number somewhere around 0.4x. The transaction itself on the 6 assets came in at I think 56% leverage on that particular component bumped up against our actual leverage in the company and when you do the math on all that, it really does not make that big of an impact.

[Derek Bower:]

Great. You've talked in the past about your desire to increase your ownership stake in the MetLife funds, so now you've done that into Fund II. Can you speak to your desire intent to further increase your stake or own the remaining assets outright?

[Thomas W. Toomey:]

This is Toomey. Our intent in a short-term with Met is to continue to expand the relationship on a 50-50 basis with the development pipeline. And beyond that, we're comfortable right now at a 50-50 relationship on the operating assets, and we'll continue to always have dialogue with Met on a range of topics. And so we're comfortable where we're headed.

[Derek Bower:]

Great. And then just lastly, Jerry, how much more work is left to rightsize lease exposure schedule? And are you having these concessions to do so? And how should we think about the impact of these efforts on 2015 growth?

[Jerry A. Davis:]

Sure. Yes, we're continually moving lease expirations to get into the higher traffic months, which is -- which occur in the second and third quarter. A lot of the work has been done. So I think the impact in 2015, it'll be a little more of a normalized year as far as occupancy affected by these lease expirations changing, as well as new lease rate growth. Really not using concessions to achieve this, actually concessions, when you look at first quarter of '14 versus first quarter of '13, are down 29%. So haven't had to use that, it was really more through lease expirations. One thing we have seen is our resident base is selecting, on their own, to go a little bit more with longer term leases. We've offered up in some of our markets, such as DC and some of the Texas markets up to 14-month lease terms, and we found people opting more for these. This has expanded our average lease term from 11.6 months to 11.9, which has helped to drive down turnover. One thing it has done is when you look at new lease rate growth in first quarter, we are at 1% so far in April, we're at 2.5%. Short-term leases tend to have a bit of a higher premium, so they will help new lease rate growth. So we've seen a little bit of an impact on that. But even though people are selecting those longer term leases, we're finding people that need to move for jobs or select to move for home purchase, they will pay a lease break fee, and we've seen our fee income actually go up 7%. So while we are not overly happy with our new lease rate growth of 1%, which is about 120 basis points lower than it was in the first quarter of last year, we understand why it's happening, we think it has helped us push occupancy up to that 96.2% in the quarter, I would tell you today, our occupancy is at 96.8%. So we're running very high occupancy, probably given up a little bit of new lease rate growth, but it's really more resident selection.

[Thomas W. Toomey:]

Just before we move on to the next question, I want to clarify one thing. Your question on the net-debt-to-EBITDA with the JV pro-rata debt, I think I said 6.6% at the end of the year, I meant to say at the end of the 3-year strategy period. At the end of the year, it'd be more like 7.4x. So 6.6x at the end of '16, 7.4x at the end of '14.

[Operator:]

And our next question is from the line of Alexander Goldfarb with Sandler O'Neill.

[Alexander David Goldfarb:]

Just some quick questions here. One, on the increase in the disposition guidance, how does this compare to the dividend? Does this mean more pressure on paying out the dividend or there is sufficient weather coverage or ability to shelter the gains?

[Thomas M. Herzog:]

Yes. No, Alex, this is Tom Herzog. The dispositions had nothing to do with gain capacity or ability to cover the dividend. Yet literally, it's just -- it was cash flow decisions that we made. So nothing to do with the dividend.

[Alexander David Goldfarb:]

Right, right, to the point that by increasing dispositions, you're not changing the trajectory of what you think the dividend growth is going to be like?

[Thomas M. Herzog:]

No.

[Alexander David Goldfarb:]

Okay, okay. And then, Tom, just you made your comments on equity issuance downplaying that. I mean, there's still some in the guidance, but it sounds like from your comments, it's not going to happen. So over the next 3 years, as we think about the development program, is it just -- should we just factor in sort of like amount of dispositions, so as we're modeling it out as the development's deliver, we sort of have an offsetting amount of dispositions, is that the way we should think about it out or is there, I guess, a different way?

[Thomas M. Herzog:]

No, that's a good question. How we think about the dispositions is that the development program will be funded with these dispositions. And so as far as looking beyond that, I don't think there's a lot more to say. As far as equity issuance is in the plan, those are more of a placeholder. I kind of look at it this way. The cost of issuing equity is probably, call it, what, 4.85% on a yield basis and the cost of dispositions may be call it 6% and the cap rate are 5.5%, I think, is probably the vicinity of what we have in our -- built into our numbers. So there's not going to be much impact on the FFO as a result of -- if there's movement between those 2 numbers. So if there's fewer equity issuances, that's offset by disposition. So I just put that way. Those 2 numbers are relatively [indiscernible].

[Alexander David Goldfarb:]

Okay. And then just lastly, while we have to wait for updated guidance on the second quarter, would you -- should we just assume that there'd be increased disposition guidance? Is that more towards the back part of the year like fourth quarter? Or we should be expecting some pretty big trades in the upcoming few weeks, months?

[Harry G. Alcock:]

Alex, this is Harry. We closed one deal in January. I think the next 2, 3 deals could close in the second quarter and the balance will be the second half of the year.

[Operator:]

Our next question is from the line of Karin Ford with KeyBanc Capital Markets.

[Karin A. Ford:]

Just a question for Jerry on same-store revenue growth. You didn't see any deceleration really from fourth quarter to first quarter. How much deceleration are you expecting here in the back half of the year? I know you have more difficult to occupancy comps, but it sounds like you're running pretty far ahead. Should we -- is your expectation that we should see same-store revenue growth trend down from 1Q levels for the balance of the year?

[Jerry A. Davis:]

Yes, Karin, I definitely think it will trend down from the level we had in the first quarter. But we're just now entering our prime leasing season. So far, things have been going well. Our traffic and applications have held up a little bit better than last year. Turnover, as we've disclosed in the supplement, is down 120 basis points. And I can tell you, as through the month of April, it's down -- April versus April of last year another 130 basis points. Occupancy levels today are very high at 96.8% on the same-store pool. But we do have more difficult comps and I think you will see a deceleration. If I had to -- again, we're not updating guidance at this point, but if I had to handicap it right now, I'd say we'd be above the midpoint rather than below the midpoint of our full year guidance. Then we just like to see how the next 2 to 3 months play out before we update guidance.

[Karin A. Ford:]

Can you -- did you tell us where renewal notices are going out for, I guess, June and July?

[Jerry A. Davis:]

They're averaging right about 5.5%.

[Karin A. Ford:]

Okay, that's helpful.

[Jerry A. Davis:]

And I can tell you in the month of April, we achieved 5.7%.

[Karin A. Ford:]

Great, that's helpful. And then just last question is on -- do you have an estimate of if there'd be a change to the same-store growth if you backed out any kitchen and bath activity, this quarter?

[Jerry A. Davis:]

Yes, I mean, if we look at -- let me actually take a moment on that because here's how we think about it. So first of all, we don't have any camp Bs that are in place at the current date, but we do have revenue enhancing spend. And, I think, when you think about revenue enhancing spend, you need to look at it based on probably 3 pieces of data. The first one is the amount of capital spent, which I think as you know, we've disclosed in our 3-year strategic plan. The second is expected return that you get in the first year and in subsequent years. Third, I think, one has to consider the rollover effect of those enhancements that are dropping off from prior years. So in our case, we spent $10 million in 2013, we'll bump it a little bit in 2014. I think it's up to $11 million is the number. As I said in the past, and Jerry said, we typically underwrite to around 20% year one cash on cash return because these are relatively short life improvements often 10 years or so. And we seek to get an IRR hurdle of at least 200 basis points in excess of our WAC [ph]. The impact of $10 million of spend in the year of the spend is probably about 15 basis points on same-store. And if you took a 4 years worth, you're probably at 30 basis points. But because we've been doing this for a long time and the rollover effect occurs on I'm guessing that the same-store growth is probably closer to 0 because there's as much rolling up that's coming on. One other point that I'd make around this is the impact of redevelopments, which we would heard a lot about recently. And especially major redevelopments like a 2775 or a Rivergate and just to be clear, we do not include these in our same-store sales. And these projects are typically, call it, $70,000 to $100,000 per door, usually stripping them to the stud, so major projects and those are excluded from our same-store results all together. So if anybody has desire to want to dig deeper to how we do these calcs and how we look at it, I'm glad to take any of those questions offline.

[Operator:]

Our next question is from the line of Michael Salinsky with RBC Capital Markets.

[Michael J. Salinsky:]

Tom, I know you didn't update guidance, but you just inject the $79 million in the joint ventures. If you were to update guidance, what kind of lift we would we expect on the joint venture by and there just given the mark-to-market on the debt there?

[Thomas M. Herzog:]

Mike, this is Herzog again. The impact of the swaps themselves had a very slight positive impact in 2014, it'll be a bit more positive in 2015, but not enough to be probably adjusting your numbers for. Harry, I know you looked at those 2, I think, it was quite small, I don't think we have any...

[Harry G. Alcock:]

It'd be in the fractions of pennies rather than full pennies.

[Thomas M. Herzog:]

Yes.

[Michael J. Salinsky:]

Okay, fair enough. Second, question, the 3 plants starts for the back half of the year, do you hold the parcels on those already?

[Harry G. Alcock:]

We do. 2 of those 3 are MetLife parcels and the other's a wholly owned deal in Los Angeles.

[Michael J. Salinsky:]

And with those, you'd buy in the 46% you don't own and go from there on the pari passu, will you fund the development cost or how would you fund that?

[Jerry A. Davis:]

Yes, that's the expectation that we would develop those on a 50-50 basis with Met.

[Karin A. Ford:]

Okay. And finally, you get the debt maturing in the Texas joint venture. Obviously, Texas has been strong performer over the last couple of years. Just can you give us an update on what you're thinking is on the Texas joint venture, whether there's a plan to marketing any of those assets or just to extend that debt maturity?

[Thomas W. Toomey:]

Michael, this is Toomey. I think the intent in our conversations with our joint venture partner is when the debt is prepayable to expose those to the market and see what pies, we feel good about the prices of those assets at this time. And the job that Jerry and his team have done in running them. So they'll probably be able to be sold some time early next year.

[Operator:]

[Operator Instructions] And our next question is from the line of Haendel St. Juste with Morgan Stanley.

[Haendel Emmanuel St. Juste:]

Question on development. Understanding you're seeking yields 150, 200 basis points of bulk market cap rates. Given that we're late in the cycle and the recent, I guess, softness that your domain, Los Alisos and Fiori. Wanted to know whether you considered raising your return requirements for new development starts?

[Harry G. Alcock:]

Haendel, this is Harry. First of all, clearly, cost are rising, land prices are rising, but rents were also rising. So, I think, yields are generally flat. We don't intend to increase our yield requirements per se, but we will take all of those factors into account in underwriting these deals. And won't start a new deal until we hit those threshold, which is the 150 to 200 basis points. So it's true, not all deals are going to pencil today, clearly, less than what would have penciled 2 to 3 years ago.

[Haendel Emmanuel St. Juste:]

Okay. Can you talk more specifically, you talked about -- you seemed more optimistic on domain in Los Alisos, but more muted on Fiori perhaps can you go into -- am I reading that correctly, first of all? And then maybe can you talk a bit about the Fiori asset, what you're seeing there? Is it pricing that's the issue, is it weak demand, is it supply in uptown, can you talk a bit more about that?

[Jerry A. Davis:]

Haendel, it's Jerry. Fiori, as most of you know, is in Addison, Texas. We built a product that was comparable to what is built typically in uptown, about 10 miles north up in Addison. We priced it very similar to uptown assets and we're getting the pricing, the velocity just hasn't been there. We would attribute a large portion of that to general weakness in the uptown market today where a lot of these lines have been coming online. And that's kind of prevented us from getting the pricing we would have like to get in Fiori. We recently have cut pricing at Fiori to get leasing velocity back on track. In fact, this month, we had 40 gross leases in the month of April. Our expectation is to continue with it. One other sign of encouragement for Fiori is, Toyota announced yesterday, they're going to move their headquarters from Torrance, California to Plano, Texas and add about 4,000 to 5,000 jobs. Plano is about 5 or 6 miles north of Addison. We have about 1,200 heads up in Plano, as well as the 1,000 or so units at the Vitruvian Park that we think will really help us out there, too. But a lot of it has been softness in uptown due to new supply, some of it has been due to, we were introducing a new price point to the absent market and the leasing velocity has been just slower than we expected.

[Haendel Emmanuel St. Juste:]

Appreciate that. We haven't talked much about it lately, it seems. But A versus B performance in your portfolio this past quarter, is there any discernible performance and any thoughts as we head into decreasing season here?

[Jerry A. Davis:]

These are a little bit stronger, but it's not enough to really call anything on. What you typically find is in some markets, if your product is A and it's near-new supply, it's obviously, going to be competing more against lease-ups that tend to have higher concessions. But overall, Bs are less than probably 70 basis points better on pricing and, as far as occupancy, my entire portfolio was occupied at a very high level right now.

[Haendel Emmanuel St. Juste:]

Okay. One point of clarification you mentioned, I see that the first quarter same-store expenses in Northeast were, I guess, pretty far below expectations. You were talking earlier about some lower RNM costs and maybe some tax, realty tax benefits. Was that primarily the reason for the Northeast portfolio, the low year-over-year expense -- increase in expenses over there something else there?

[Thomas M. Herzog:]

No, I'm glad you asked. It's really 2 things. One, we've done a good job of hedging our heating costs up in the Northeast, about 90% are hedged, so that put a collar, if you will, on some of the utility expenses. The second thing is we get hit pretty hard last year with snow removal up in Boston. And typically in Boston, you buy a contract on the number of inches of snow that can be removed. We bought this year an unlimited amount of snow removal for a fixed-rate and we locked in that rate for the next 3 years because of that. And because of the harshness of the winter and especially up in Boston. We didn't have as much of snow removal cost up there, as you would've expected.

[Operator:]

And our next question is from the line of David Bragg with Green Street Advisors.

[David Bragg:]

Could you please share some of the specifics on the new Huntington Beach development deal? It looks like a really interesting site and it'd be great to hear your expectations for the total cost, rents per square-foot, and the yield on today's rents.

[Harry G. Alcock:]

Dave, it's Harry. I think, we acquired the site for $78 million, it's zoned for 516 units. We're still in the midst of the design process. The design will ultimately sort of determine the costs and the rents we expect, I think, we're probably a little bit early to start talking about those. We expect to start the project probably in some time early next year, and we'll talk about it more once we completed our work.

[David Bragg:]

Okay. All right, We'll circle back then. How about on 399 Fremont now that, that one has started. How is that one looking in terms of rents per square-foot and yield on today's rents?

[Harry G. Alcock:]

David, it's Harry again. Yes, we're well underway on that one. The costs numbers are published. We expect to spend approximately $318 million development as -- is going fine thus far. We expect that one to finish in late '15, early '16. Rents today should be somewhere in the neighborhood of $5.25 per foot and we'll trend up from there. We expect to stabilize yield on that one somewhere in the low-6s.

[Operator:]

Ladies and gentlemen, there are no further questions at this time. I'd like to turn the call back over to Mr. Tom Toomey. Please go ahead, sir.

[Thomas W. Toomey:]

Thank you, operator, and thank all of you for your time today. The closing remarks, I guess, I would say this. We're very excited about the position that we're in. With the leasing season upon us, the teams are pretty focused. And certainly, seen the traffic and the operational platform is running on all cylinders. So we're excited about that. I thought we had a very good quarter all the way down the line on all metrics and clearly, are performing at our 3-year plan or ahead of our 3-year plan and I would expect us to continue that trend for the balance of the year, and we look forward to seeing you guys in NAV [ph]. With that, operator, we'll end the call. Thank you.

[Operator:]

Ladies and gentlemen, this concludes the UDR's First Quarter 2014 Conference Call. This conference will be available for replay after 3