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Silver Bay Realty Trust (NYSE:SBY)

Q1 2014 Results Earnings Conference Call

May 8, 2014, 10:00 a.m. ET

Executives

Anh Huynh - Director, Investor Relations

David Miller - President and Chief Executive Officer

Larry Shapiro - Chief Operating Officer

Christine Battist - Chief Financial Officer

Analysts

Tony Paolone - JPMorgan

Dan Oppenheim - Credit Suisse

Dennis McGill - Zelman & Associates

Jana Galen - Bank of America Merrill Lynch

Jade Rahmani - KBW

Gabe Poggi - EJF

Operator

At this time, I would like to welcome everyone to Silver Bay’s first quarter 2014 financial results conference call. [Operator instructions.] I would now like to turn the call over to Anh Huynh, Director of Investor Relations for Silver Bay.

Anh Huynh

Thank you, operator, and good morning. I’d like to begin by welcoming everyone to Silver Bay’s first quarter 2014 conference call. On the call with us this morning are David N. Miller, President and Chief Executive Officer; Larry Shapiro, Chief Operating Officer; and Christine Battist, Chief Financial Officer.

For your reference, the press release and financial tables associated with today’s conference call were filed yesterday with the SEC. If you do not have copies of the materials, you may find them on our website.

This call is also being broadcast live over the Internet and may be accessed on our website at silverbayrealtytrustcorp.com in the Investor Relations section, under the Events Calendar page. We encourage you to reference the accompanying presentation to this call, which can also be found on our website on the Presentations page. In addition, we will be filing our 10-Q later today.

Before we begin, please note that today’s discussion may include forward-looking statements. Forward-looking statements reflect our views regarding future events and are typically associated with the use of words such as anticipate, target, expect, estimate, believe, assume, project, and should or similar words.

We caution all those listening, including investors, not to rely unduly on forward-looking statements. They imply risks and uncertainties and actual results may differ materially from expectations. We urge you to carefully consider the risks described in our filings with the SEC, which may be obtained on the SEC’s website at sec.gov. We do not undertake any obligation to update or correct any forward-looking statements if later events prove them to be inaccurate.

I would now like to turn the call over to David.

David Miller

Thanks, Anh, and thank you all for joining us today. My prepared remarks this morning will provide a summary of our first quarter performance, an overview of the recent developments in the U.S. housing market, and a review of our 2014 strategic priorities.

First quarter of 2014 was a solid quarter for Silver Bay across key financial and operating metrics. Please turn to slide three for the first quarter highlights. In addition to increasing aggregate occupancy, we continued to make operational progress, highlighted by growth in revenue and cash flow, as well as improved profitability.

For the first quarter, total revenue increased 9% on a sequential quarter basis to $18.1 million. Net operating income was up 11% sequentially to $9.2 million. Funds from operations grew 42% to $2.1 million, or $0.05 per share.

The latest housing data suggests continued momentum in the housing recovery. We continue to see declines in delinquencies, steady improvements in foreclosure and shadow inventories, and a reduction in negative homeowner equity. Existing and new home sales volumes have moderated due to housing price appreciation, increases in mortgage rates, and relatively weak income growth.

Nevertheless, the decline in available supply, combined with positive demographic factors and increasing costs of new home construction, point to continuing positive trends for future HPA and rental demand, all factors which bode well for our investment thesis and the demand for single-family rental homes.

For the first quarter of 2014, continued strengthening of home prices contributed to another quarter of NAV growth for Silver Bay. As of March 31, Silver Bay’s estimated NAV per share increased to $20.35 per share compared to $20.21 in the prior quarter, which was relatively in line with the seasonally slow months of the broader housing market.

We anticipate home prices to continue to appreciate, albeit at a more moderate pace than last year, and we remain optimistic about the continued long term performance of our markets. Many of our markets still remain well below peak prices and our estimates of replacement costs in markets exhibiting tightening supply suggests significant future upside to our portfolio.

We made meaningful headway advancing our strategic priorities during the quarter. To quickly review, our 2014 strategic priorities include NOI growth and margin expansion, continued portfolio growth, and optimizing our capital structure.

For the first quarter of 2014, our NOI grew 11% quarter over quarter and NOI margin increased to 51% as a result of revenue growth and expense management. We are pleased with the progress of our operational initiatives and continue to see strong demand for our homes, which resulted in improved occupancy and revenue.

We believe we are well-positioned to continue this positive trend through the year, which will in turn benefit cash flow and future dividend growth. Larry and Christine will provide a more detailed review of our operational and financial results later on the call.

Let me now turn to acquisitions. We believe that buying homes below replacement cost in markets that exhibit strong demographic and economic growth will support continued home price appreciation and rent increases in coming years. In addition, achieving growth through disciplined acquisitions will be a driver to realizing further scale efficiencies in our business operations.

Although distressed inventory has decreased substantially from a year ago, we are still seeing good opportunities in select markets that meet our rigorous underwriting standards. We remain committed to acquiring selectively and continue to believe the most compelling opportunities to add homes to our portfolio are in Florida, Texas, and Atlanta.

Consistent with our expectations, first quarter acquisitions were relatively light, as we began to build momentum and start writing offers, focusing primarily through the MLS channel. As of April 30, we owned over 5,800 properties with contracts in place for 90 additional properties. Our pace in April was significantly higher than the first quarter, and we expect this momentum to continue to build in the coming months.

As a reminder, purchasing homes through the MLS channels involves longer lead times compared to buying on the courthouse steps. We continue to monitor the auctions and may return if we find values compelling.

We are also seeing an increase in the number of small bulk transactions and larger portfolios of single family homes for sale and we anticipate that this trend will continue as the industry begins to consolidate. Successfully acquiring portfolios will depend on price and portfolio quality and fit.

We are currently evaluating a number of portfolios that range in size and geographic composition. While to date we have only closed on a few small portfolios, we do think that they present a nice opportunity to expand our existing portfolio and are likely to become more meaningful as the industry consolidates.

As such, our acquisition pace over the coming quarters could be lumpy. In the near term, we have plenty of dry powder from the undrawn portion of our credit facility and can use this to take advantage of portfolio opportunities as well as our traditional one by one acquisitions.

Our third priority is capital structure optimization, of which securitization is the main focus, and we continue to work through the process. A completed transaction will enable us to optimize our capital structure, reduce our financing cost, and enhance our FFO profile.

As you may know, there is some sensitivity around communications with regard to possible transactions of this kind, and we are therefore limited in what we can say. The rating agency diligence process is a comprehensive undertaking, which takes time, and our team is pursuing this strategy with urgency.

We are confident in our ability to complete a transaction in a reasonable timeframe, but are reluctant to lay out a more specific timetable, given that the product is relatively new and the process continues to evolve.

We are pleased with our first quarter performance, and believe that achieving our key priorities for the year will further enhance our total return profile and drive long term shareholder value. The acquisition environment remains attractive in select markets, and we remain optimistic about our long term business outlook and operational trajectory.

I’d now like to turn the call over to Larry.

Larry Shapiro

Thank you, David. On the call today, I will be providing some commentary on our operations for the first quarter. Please turn to slide six. For the first quarter of 2014, our aggregate occupancy was 92%, a 4 percentage point improvement over the last quarter. Aggregate occupancy increased quarter over quarter in almost all of our markets.

We increased the number of leased properties by 327 homes, or 7%, driven by net increases in Columbus, Atlanta, and Dallas. Most notably, we made huge strides in Columbus, gaining 39 percentage points over the quarter for an aggregate occupancy of 75%.

We internalized property management in Columbus in December and began leasing through our internal platform in January. We believe the rapid increase in occupancy is a testament to our management. We made no concessions or compromises to resident quality in order to lease properties quickly in Columbus. Rather, we focused on driving traffic through processes and procedures we developed over the past year of successful internal operations in other markets.

The average monthly rent for Columbus increased to $1,029, compared to fourth quarter rent of $992, which was revised from what we previously reported in our supplemental materials. Columbus is at 85% occupancy as of today, and will be over 90% occupied by the end of the second quarter.

Our stabilized occupancy for the first quarter increased 2 percentage points quarter over quarter to 95%. With the exception of Columbus, all of our markets have stabilized occupancies over 90%. As we stated before, our goal is to maintain stabilized occupancy well north of 90%, through effective leasing and high resident retention.

The average monthly rent on the portfolio increased modestly to $1,163. As we stated on our last earnings call, we believe that a 3% to 3.5% rent increase on a same-property basis is reasonable for this year. Based on our experience in the first quarter, we are comfortable with achieving this target for the year. We expect moderate rent growth in the coming quarters as the portfolio’s quarterly lease expirations step up and we look to drive rental increases on renewals.

We reported first quarter resident retention of 79%, with the total number of properties with lease expirations for the quarter being 1,011, including properties with month to month occupancy in the period. Of these properties, 213 turned over.

A total of 369 properties turned over in the quarter, representing 7% of our stabilized portfolio of 5,590 properties. As we stated last quarter, we believe our turnover metrics will become increasingly more meaningful as our portfolio becomes more seasoned.

Our focus this year has been to reduce overall property-level expenses, and we have begun to see preliminary results for this quarter. As part of our initiative for reducing overall property-level expenses, our centralized call centers are now fully operational, and we are processing all marketing, application, and maintenance calls for our internal markets from centralized locations.

We believe that over time our call centers will save on costs and also provide a highly satisfactory experience for our residents, which should contribute to favorable resident retention in the long term.

We’ve also identified a number of operational projects that will further optimize our business processes. For example, we recently implemented centralized HOA administration to support our internal offices.

Over the course of the next year, we will continue to evaluate opportunities to drive cost savings that will translate into NOI margin growth. We have made steady progress in developing a robust institutional platform in order to capture efficiencies of scale and are well-positioned for continued growth as we expand our horizons this year.

At this time, I would like to turn the call over to Christine for her comments.

Christine Battist

Thank you, Larry. Please turn to slide seven. The first quarter of 2014 marked our fifth consecutive quarter of revenue and NOI margin growth. Total revenue increased 9% on a sequential quarter basis to $18.1 million due to our higher occupancy base.

Net operating income continued to outpace revenue, increasing 11% quarter over quarter to $9.2 million. We reported funds from operations of $2.1 million, or $0.05 per share, up from $1.5 million, or $0.04 per share, for the prior quarter.

As David previously mentioned, NOI margin expansion is one of our strategic priorities for 2014 and on our last earnings call we outlined our plan to achieve this objective through a combination of revenue growth and operational enhancements. Our first quarter results demonstrate our initial progress towards this goal.

Now I will highlight a few items from our quarterly financial results. Property, operating, and maintenance expense decreased to $3.6 million. As a percentage of total revenue, property, operating, and maintenance improved to 20%, which compares to 23% for the prior quarter. This favorable sequential quarter change was primarily related to expense control, and to a lesser extent, to a higher base of revenue.

We continue to anticipate property operating and maintenance as a percentage of total revenue to improve by the end of this year as we grow our revenue through rental increases and occupancy stabilizes in all remaining markets, and we continue to execute cost controls.

As a reminder, we expect an increase in turnover-related expenses during the second and third quarters due to the number of leases scheduled to anniversary during these periods. However, we will continue to work on controlling spend in other areas to offset this increase as much as we can.

For property management, we recorded $3 million for the first quarter. As a percentage of total revenue, property management improved to 16% from 17% for the prior quarter, primarily due to a higher base of revenues. And we anticipate this positive trend will continue through 2014.

Excluding certain items, as outlined in our NOI table, property management would have been 14%, comparable to the prior quarter. By year-end, we believe that property management expenses as a percentage of total revenue will improve as a result of revenue growth against our current infrastructure expenses.

For the first quarter, real estate taxes were $2.5 million. The sequential quarter increase was primarily due to a reduction in capitalized property taxes of $351,000 due to our portfolio being mostly stabilized and $116,000 increase in certain markets due to higher assessed values.

As we mentioned on our previous call, we project stabilized NOI margin for the aggregate portfolio to be in the mid to upper 50s. I’m pleased that we’re making progress towards this target. NOI margin for the first quarter increased to 51%, which reflects our focus on managing expenses that are within our control.

During the quarter, the improvement in property operating and maintenance expense and property management expense as a percentage of total revenue contributed more than 360 basis points benefit to our NOI margin.

These improvements were partially offset by the quarterly increase in real estate taxes. As of March 31, we had a cash balance of $41 million in addition to $32 million in escrow deposits. We had $198 million outstanding on our credit facility, providing us ample capacity of $152 million.

In addition, we increased the dividend on common shares to $0.03 for the first quarter. I’m pleased to report that we commenced the year with another quarter of positive FFO. Given our operational progress, we believe we are well-positioned for increased cash flow generation through continued NOI margin expansion, which will, in turn, support future dividend growth.

This concludes our prepared remarks. I would now like to turn the call to the operator for questions.

Question-and-Answer Session

Operator

[Operator instructions.] The first question comes from Tony Paolone from JPMorgan.

Tony Paolone - JPMorgan

David, I was wondering if you could talk about the portfolio type transactions that you’re seeing in the market, and just maybe a little bit about how the sellers might be going about it. Are they willing to accept a discount to sell it as a portfolio? Do they want to get pretty close to, call it, retail pricing? Do they have tax issues that they might be thinking about? I’m just trying to understand the thinking on that side and how that’s working.

David Miller

You know, the portfolios out there really range from the very small few dozen homes that could be vacant or leased, to very significant sized portfolios. So it’s hard to make a generalized comment. I think the way we approach it is always similar to individual purchases, but in this case, we have to meet two primary parameters, which is it has to be accretive to our NAV as well as an appropriate yield.

We evaluate where pricing is today, where we think it’s going to go, and that’s somewhat driven by replacement costs. So we do a whole variety of analysis. As far as what people will accept, there have been pretty high expectations in the past. We think those are coming down, but again, that varies. So as you know in the past, we’ve completed some small transactions, where people were interested in recycling their capital, and we’re not overly aggressive with their expectations.

Some of the bigger transactions out there in portfolios are still at pricing that’s pretty healthy, but I think for we stick to our parameters and we look a lot, and I honestly can say that over the past four to six weeks, we’ve seen very significant increases in the number of portfolios out there, that we will ultimately be successful. But we’re going to remain disciplined. We talked about our dry powder, but we’re not looking to rush to do a transaction that doesn’t make sense for shareholders.

Tony Paolone - JPMorgan

And Christine, on the property management costs, just on an absolute basis, is the $3 million a pretty good number that supports what the acquisition and deal pipeline looks like for additional homes?

Christine Battist

In terms of our property management infrastructure, there’s two components of that. We have our internal offices that we support. And we could take on more activity with bulk purchases, and there’s limits sometimes to how much, depending on the size of the bulk. And then there’s the third-party fees, which are incremental, based on the additional properties that they lease. But we’re comfortable that we will continue to gain leverage on the infrastructure that we have in place with our existing portfolio, as well as anything that we may add here in the coming months.

Tony Paolone - JPMorgan

And if you could remind me, the turnover costs, I guess there might be some things like leasing commissions, perhaps, and then there’s just the make-ready cost, if you have a turn. Where do those flow through? Are some of those in property management and just some in operating and maintenance? Refresh my memory on that.

Christine Battist

Yeah, the costs in the property operating and maintenance line item, the key components are going to be repairs and maintenance, property insurance, market ready, and bad debt.

Tony Paolone - JPMorgan

Okay, so to the extent you have more activity, as you mentioned, like in Q2 and Q3, I guess any leasing-related commissions, things like that, that goes in property management?

Christine Battist

Right, and those costs then are amortized. If you pay a straight-up lease fee, then you would amortize it into property management over the term. But if you’re speaking of a significant bulk purchase, you don’t necessarily have deferred lease fees on that up front.

David Miller

Just to add, this turn cost, the bulk of it is the direct cost of turning the property. And those are expensed through property operating and maintenance.

Operator

The next question comes from Dan Oppenheim from Credit Suisse.

Dan Oppenheim - Credit Suisse

I was wondering, just in terms of the balance sheet, you talked about optimizing the capital structure. And given how strong the balance sheet is, would you think about doing more in terms of an aggressive share repurchase here given the discount between the market value of the properties and where the stock is at this point?

David Miller

In terms of optimization, we talked about getting debt in the 30% to 50% range. Certainly given where leverage levels are and securitization transactions that have been done, and others, we’re more comfortable closer to the upper end of that. But we need to get there first, so that will be something that progresses through the course of the year.

As far as share repurchases, we generally don’t, as a policy, discuss the details of our strategies, other than reporting on what we’ve done, but we have spent some time in the past talking about whether we think share repurchases are part of the capital allocation strategy. They can, at times, be good to use the capital to improve our net asset value and augment shareholder returns. So that’s how we approach it. It’s part of the larger discussion of capital allocation.

Dan Oppenheim - Credit Suisse

And then just wondering, in terms of just given the - again, similar question, in terms of the value and in terms of the market for the assets - do you think about some markets, like Tucson, where you’ve owned assets for quite some time and you look at that and think about what there would be in terms of home price appreciation going forward, and think about, okay, if we were to sell some of these assets and generate cash, could we put it elsewhere or use that for repurchase?

David Miller

Great question. We absolutely think in the future that will be a bigger part of our decision making. Right now it’s too early. We like these assets a lot, we think there’s plenty of upside. They’re still trading at pretty wide discounts to replacement cost in markets that they’re appreciating.

So we’re not planning much in the near term, but it’s certainly part of our valuation that we do on a regular basis, and I think in the future that is likely to be something that is more appropriate to consider seriously. But right now, we’re comfortable with our assets and we think there’s a lot more upside.

Operator

The next question comes from Dennis McGill from Zelman & Associates.

Dennis McGill - Zelman & Associates

First question just has to do with, I think last quarter you had kind of guided to revenue growth potential of 3% to 3.5% on a same store basis. And now that you’re improved on the occupancy side, and going to shift a little bit more to rent growth, just wondering how you guys gauged the ability to push the rents in the market and maybe talk about some of your bigger markets and what you think pricing power is today as you move in that direction.

Larry Shapiro

Really, on renewals, we’re seeing right around 3% increases in the quarter. New move-ins relatively flat, but it’s on a very small sample size, so overall, I think we’re seeing some pretty good pricing power. There are certain submarkets of some of our markets where things may be a little weaker, but in general I think, across most of our markets, we’re seeing the ability to push rents to the range that we gave previously.

David Miller

And I’ll just add on that, we’ve always maintained, out of caution, that it’s a little bit early until we have a really robust data set. Now, we’re starting to see more data. We don’t want to read too much into it, but as Larry said, things are consistent with what we gave guidance for the year for.

And there is a range. There’s a range that can be in the 1% to 2%, and then north of 4%, based on markets and submarkets. So in a market like Phoenix, there are differences across the market, but that market overall is trending pretty well. So I think as we get through more turns, more renewals, the next couple of quarters, it will be a much more robust data set, and then we can start inferring trends in those markets.

Dennis McGill - Zelman & Associates

And David, maybe just since you mentioned Phoenix there, could you maybe talk specifically at the book ends which markets are you seeing generally stronger and weaker pricing power? And then maybe wrapped up in that, in an environment where you see a lot of articles talking about lack of income growth, maybe just qualitatively why you feel like you have this pricing power?

David Miller

Not getting into too specifics of the various submarkets, we’ve talked in the past a little bit the West Valley, a little bit harder to push price. Some of our infill markets there’s strong demand for, so seeing a little bit better there on renewals. And I think that’s something that across not just Phoenix, other markets as well, it’s very home-dependent.

And again, that’s why we caution against making a blanket statement, because some homes are just going to be more in demand or on renewal side, we evaluate a residence, their wherewithal to pay, where the market rent is today versus when they might have moved in the home. So there’s a whole analysis that goes on, but we think pricing is pretty reasonable and demand is quite strong.

You make a point about income growth, certainly across the country in that median level, it’s been pretty muted, but we do underwrite pretty conservatively, and so in general the income to rent ratios are quite healthy, and so they can absorb rental increases as these markets, I think, exhibit less supply, that rents overall in the marketplaces will start to move up, and that our homes are very good quality and compare extremely well to a lot of the product out there, and that will ultimately help us maintain pricing and grow it.

Dennis McGill - Zelman & Associates

And then just last question, as it relates to NOI margin, the results from the first quarter sound like most of these metrics are going to have leverage as you move through the year. There’s maybe some pluses and minuses there. But do you feel confident thinking about Q1 as the low water mark for NOI margin as you move through the year?

Christine Battist

I can provide some commentary on that. As we continue to lease out the reminder of our portfolio, you’ll have a higher base of revenues that will be favorable to the NOI margin, as well as our infrastructure costs under property management and our internal offices will be able to leverage that.

And then, as I mentioned, controlling spend. Larry’s done a nice job of implementing a number of initiatives that we’re just starting to see in the first quarter some of the benefits, and would like to believe that we will continue to see benefits and some cost savings on R&M and turn costs on future quarters.

Operator

Next question comes from Jana Galen from Bank of America Merrill Lynch.

Jana Galen - Bank of America Merrill Lynch

Maybe following up on the question on markets and your renewal and rate increases, if you were able to maybe speak to which markets you’re seeing a little bit more competition, whether it be from single family rentals or from the apartment market and where you think maybe you were impacted by slightly weaker job growth?

Larry Shapiro

I think we’re seeing relatively strong demand across all of our markets. There’s certainly variances, but kind of around the number that we ended up with. I think David said earlier, we have some submarkets that are a little bit less, but in general we just believe that what we’re seeing on the ground is that demand is good and that we’re able to get rent increases where we’re trying to get them.

David Miller

And just to add, I think looking across the portfolio - and as always, cautioning the data set - but we hear folks say that Phoenix is challenged and certainly parts of it are harder to raise rents. But in aggregate, that’s one of our better markets on the renewal pricing, so I think everyone’s experiencing slightly different trends based on where their assets are located, based on where they may have priced them initially. And so that’s a market that’s quite good.

I think we’re seeing, generally across all of our markets, good demand, and the renewal pricing is somewhat of a function of do we have a robust data set that actually turned. And you know, we like what we’re seeing in Tampa, and in Texas as well, although that’s also quite a small data set. So I think in general we’re quite pleased, and given that we only really started to think about rental increases relatively recently, that there will be more to come.

Jana Galen - Bank of America Merrill Lynch

And if you can just maybe comment on how leasing has been trending for the first four months of the year, and having the total portfolio at 92% is very strong occupancy, maybe how much further you think you can take that?

Larry Shapiro

Obviously, there is some seasonality to leasing. You start out kind of slow in January, leasing builds throughout the year, and then tapers at the end of the year as you come into the holidays. I think we’ve been very successful in getting our portfolio leased. We think that there’s still some room to push that, and as we get more acquisitions we have shortened up the time from purchase to lease, so we believe that as we get more supply we can get that into the market quicker, get it leased quicker, and get revenue from it quicker.

David Miller

Yeah, we think the stabilized occupancy, particularly as we’re ramping up acquisitions again, is most relevant to what’s going on on the ground with the stabilized portfolio. And so in the mid-90s, we expect that to be a good number, and we’ll obviously work to increase that where appropriate and where possible. I think the aggregate occupancy over 90%, obviously if we do a bigger set of purchases of unleased properties, that could ebb and flow, but as Larry mentioned, the time from purchase to lease is dramatically shorter than where we were last year. So we’re pleased that we can purchase, turn those around, and lease them, and not have meaningful effect on aggregate occupancy in any sort of medium timeframe.

Operator

Next question comes from Jade Rahmani from KBW.

Jade Rahmani - KBW

First off, I do think the improvement in occupancy rate was impressive in the quarter. Just wanted to ask if you could drill down further on property management expense. Firstly, just the property management add-backs, which of those do you think will not be recurring in the remaining quarters of the year?

Christine Battist

In terms of the property management add-backs, they primarily related to implementation of a software computer system that we’re substantially complete with, so you could anticipate that to be very minimal on a go forward basis. Another item in there is the acquisition costs, there’s a portion that get expensed. But it’s a pretty nominal amount. So the largest of those items is really the software implementation that you could expect to be minimal on a go forward basis. But the other amounts, there will be some quarter over quarter.

Jade Rahmani - KBW

And just broadly, why do you think the ratio is so high as a percentage of revenue, because with respect to your internal property management, the four markets you manage have an average of over 1,000 homes. So I would expect you would have been able to archive greater efficiencies than by using third parties. Is it because within those four markets, the subscale markets are Columbus, Orlando, Southeast Florida, and Jacksonville, and so since each of those has less than 300 homes, spreading out that cost drives to that high ratio?

David Miller

It’s a good question. Stepping back, we talked about in the past, on property management, there’s two components. There’s first the direct cost of property management, so the office on the ground, whether it’s a third party or our internal managed office, and that’s a set of expenses.

And then we have on top of that the indirect or corporate property management that really exists to serve all the markets, whether they’re a third party or internal. And so separating out those two, we think the direct costs ultimately will be at or below what we pay third parties. And we’ve already seen that in some of the markets where we have scale.

But you mentioned a good point, which is a part of the place we get leverage going forward is if you look at some of the smaller markets that we’re managing internally in terms of number of assets, we have to first lease those up and get revenue from the properties we have, and then we’re adding properties there to get them to scale.

So those will then fall in line and be comparable to a third-party cost, but we will still have the corporate layer of management that really has to tie it together. That’s regional management and some of the property accounting that really goes over and follows all of those.

As a trend, I think over time, and this is consistent with what we’ve said in the past, we would expect to bring in more markets internally, if we don’t think our third party is doing a great job. And that’s something that, with our centralized processes that Larry has developed, we can do so much more easily and actually ultimately have cost savings.

So we’re pretty excited about the ability to bring those costs as a percentage of revenue down, and we would expect to see that through the year with lease up on our existing homes and additional growth of units.

Jade Rahmani - KBW

And the cost of the corporate overlay that’s on top of that, which I guess is not included in corporate G&A, is that the $1.25 million roughly that you’ve spoken to in the past?

David Miller

Yeah, I’m not sure if we broke out the number exactly, but you can go look when we have our additional disclosure in the 10-Q about how much we spend on third-party property management and imply a percentage that’s similar to that. You can back into what that overlay is.

Jade Rahmani - KBW

Regarding operating and maintenance, I was wondering if you could any unit-level metrics as to the subcomponents. For example, where is maintenance and repairs running per property on a quarterly basis? Where is bad debt expense on a percentage basis? And critically, where are you seeing turnover costs per property?

Christine Battist

Bad debt is running in line with our expectations in kind of that range of 1% to 1.5%.

Jade Rahmani - KBW

And the first one was maintenance and repairs per property.

David Miller

We have not broken out the components of property operating and maintenance, other than giving some color around the insurance costs and some of the other items in there. They are trending positively per our expectations. I think we expect to see more improvement as Larry’s initiatives take further hold. And we’re comfortable that our levels are very much in line with our underwriting.

Jade Rahmani - KBW

And lastly, on the turn costs per property?

Larry Shapiro

We underwrite, to a certain level. Our costs really have come in in that underwriting range. We’re comfortable with where they are, and we’d certainly like to drive them down as much as possible, but they’re within the bounds of what we’ve underwritten to in the past.

Jade Rahmani - KBW

Is that 1850 per property?

David Miller

1800 to 2000 is a reasonable range.

Operator

The next question comes from Gabe Poggi from EJF.

Gabe Poggi - EJF

When do you guys expect to get to the upper 50s for NOI margin? Do you have a targeted timeframe for when you’ll actually get there? And then what do you estimate is the impact to the bottom line? How much more does that move the dial from an FFO perspective, if we’re running at $0.05 a quarter right now at 50? Where does that take us?

David Miller

So, when we gave the guidance on that, that’s on stabilized portfolio, and it’s something that clearly we’re going to have incremental acquisitions. So you’re not going to be able to infer it from the full financials, but we’re running that in certain markets today. Certainly, markets that are more mature and have been stabilized for some time. And we expect to get there as we lease up the other markets and in some cases get a little more additional scale.

There is extreme amounts of leverage in the model going down to FFO, in that we’ve got a very fixed G&A load, and as we improve our NOI, which is a direct result of both margin and assets and revenue growth, it really does fall down to FFO. So as we get these existing assets leased up and the new purchases and our acquisition pace, we do expect there to be significant improvement in FFO.

Gabe Poggi - EJF

I guess just to follow up, I’m just thinking if the overall portfolio is 92% occupied, and the stabilized properties are 95%, and we’re doing $0.05 a quarter of FFO, how much more earnings oomph do we have at that level, because the delta between 92% and 95% isn’t really that far off? Trying to get a sense of the cost reductions you guys are trying to achieve over the course of the year. How much can we really drive the bottom line?

And then kind of piggybacking on that, if the number is not really acceptable to [unintelligible] just because of the friction of the business, at what point do you think Pine River potentially waives their fee, their 1.5, to get a better cash flow to the bottom line for shareholders?

David Miller

Let me start with the model. So revenue growth is very important here, given that there’s leverage in both the operating side of the cost structure as well as the G&A that I said. And so as we improve revenue as well as NOI margin, we get quite a bit of leverage there. The second component, which is obviously why it’s a big focus of ours, is on securitization. Lowering our cost of debt will dramatically improve FFO, and that falls right to the bottom line. So those are essentially the three key priorities, which is grow the top line, acquisitions as well as renewals, improve NOI margins, and focus on securitization. And we’ll see quite a dramatic ramp up in FFO.

You know, your last question, about the structure, all I can really say there is our board management team consistently review and evaluate all opportunities to create long term value for shareholders, and our advisory manager, our employees, the board, we’re all aligned in that goal, of driving shareholder returns. And the structure has allowed us to ramp up our business significantly, in a pretty short timeframe, and has been instrumental to our maturation as a public company. So all I can really say is the team, the board, consistently review all ways to create long term value.

Gabe Poggi - EJF

How many employees are at Silver Bay right now?

David Miller

It’s not something we’ve disclosed.

Operator

There are no more questions in the queue. This concludes the question and answer session. I would now like to turn the call back over to David Miller for his closing remarks.

David Miller

Thanks. I would now want to just take this opportunity to remind shareholders of our annual meeting, which will be held at 9 a.m. on May 21 at the Omni Berkshire Hotel in New York. We encourage shareholders to RSVP to investor relations if you’d like to attend.

So, thanks everyone who participated on the call today, and for your continued interest and support of Silver Bay. Have a great day.

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Source: Silver Bay Realty Trust's (SBY) CEO David Miller on Q1 2014 Results - Earnings Call Transcript

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