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American Residential Properties, Inc. (NYSE:ARPI)

Q2 2014 Earnings Conference Call

August 14, 2014 11:00 AM ET

Executive

Shant Koumriqian – Chief Financial Officer and Treasurer

Stephen G. Schmitz – Chairman and Chief Executive Officer

Laurie A. Hawkes – President, Chief Operating Officer and Director

Christopher Jay Byce – Senior Vice President - Investments

Analyst

Haendel E. St. Juste – Morgan Stanley

Dennis McGill – Zelman & Associates

Steve Stelmach – FBR Capital Markets

Omotayo Okusanya – Jefferies & Co.

Jana Galan – Bank of America, Merrill Lynch

Buck Horne – Raymond James & Associates

Doug Christopher – Crowell, Weedon & Co

Operator

Welcome to the Q2 2014 Earnings Conference call. My name is Richard and I'll be your operator for today’s call. At this time, all participants are in a listen-only mode. Later we will conduct a question-and-answer session. Please note that this conference is being recorded.

I'll now turn the call over to Shant Koumriqian, CFO of American Residential Properties. You may begin.

Shant Koumriqian

Thank you. Good morning, everyone and thank you for joining us today for American Residential Properties' second quarter 2014 conference call. With me this morning are two co-founders, Stephen Schmitz, our Chairman and Chief Executive Officer and Laurie Hawkes, our President and Chief Operating Officer.

On today’s call, Steve will provide an overview of our second quarter results. Laurie will discuss our operating platform and trends in our portfolio, and I'll review our second quarter financial results. We will then open up the call to your questions.

For your reference, the press release and financial schedules containing information we will be discussing on today’s call were filed yesterday with the SEC. You may also find this information on our website at www.amresprop.com in the Investor Relations section.

Before we begin, please note that today's discussion may include forward-looking statements. Forward-looking statements reflect our current views regarding future events and are typically associated with the use of words such as anticipates, target, expect, estimates, believe, assume, project and should or other similar words. We caution all those listening including investors not to rely on forward-looking statements. They imply risks and uncertainties and actual results may differ materially from expectations.

We encourage you to carefully consider the risks described in our filings with the SEC which may be obtained on the SEC’s website. We do not undertake any obligation to update or correct any forward-looking statements if later events prove them to be inaccurate.

With that said, I would now like to turn the call over now to Steve Schmitz. Steve, please go ahead.

Stephen G. Schmitz

Thank you, Shant, and welcome ladies and gentlemen to our second quarter 2014 earnings call. I’m pleased to report that we achieved a number of important milestones since our last conference call in May.

To begin with, as we announced last week, we clinched a securitization transaction offering single-family rental pass-through certificates that represent beneficial ownership interests in a loan secured by a portion of our portfolio of single-family properties. The securitization transaction is intended to reduce our cost of capital over the long run.

The certificates will not be registered under the Securities Act and will be offered and sold in the United States to qualified institutional buyers only in accordance with the requirements of Rule 144A under the Securities Act. As such, it is not appropriate for me or the Company to provide any additional details at this time. As soon as it is appropriate to provide details publicly, we will do so through a press release.

Next, I’m pleased to report that we delivered double-digit core FFO of $0.11 per diluted share on revenue of $20.8 million, which is up 19% from $17.5 million in the prior quarter. On the acquisition front, we purchased 443 single-family homes which is a 7% increase. That brings our total portfolio to 7,205 homes as of June 30, 2014.

During the quarter, we intentionally paced our real estate investment activity to $86 million pending better visibility to our capital sources. Even so, for the first six months of 2014, we’ve invested $203 million in asset which is on target with our run rate of approximately $100 million per quarter.

It’s important to note that the measured activity in the second quarter in no way reflects a decline in attracting investment opportunities. On the contrary, we continue to acquire homes below replacement costs and our plan to reach critical mass of 1,000 homes in five core markets is going exceptionally well. We’ve already reached that level in Phoenix and Houston and we expect to have 1,000 homes in Dallas and Atlanta by year-end and in Nashville early 2015.

Second, our strong leasing performance quarter-over-quarter increased our lease rate by 800 basis points to 89% for our total portfolio and to 95% for stabilized properties. We are also seeing increased rental demand for single family homes across all of our core markets driven by an improving economy and new household formation. We believe this will translate into sustained high occupancy rates and low turnover which in turn drive increased rents for both new leases and renewals. This quarter, average rents on renewals increased 3.1% and we envision that number going higher as a result of the rental demand we just discussed.

This quarter, we also expanded our credit facility for the third time since our IPO. Our borrowing capacity under this facility is now $500 million with an accordion feature to $750 million. We believe that having nine top tier banks in our lending group plus favorable reviews from the rating agencies speaks to the progress we’ve made in executing our business plan since our IPO and reflects growing confidence in our business model.

On this call, I’d also like to welcome the newest member of our Senior Management Team, Patricia Dietz, who was recently appointed General Counsel. Prior to joining us, Patty was at GE Capital and she brings 15 years of broad based relevant experience to American Residential Properties. She is a great addition to our strong bench of top talent.

Finally, a lot’s been said about the institutionalization of the single-family rental market, but to us it’s all about the resident. From the day we pioneered this sector with our own capital, we’ve been committed to one mission, providing great housing to families who want quality homes in the safe neighborhoods near good schools.

Our resident centric approach drives us every day to provide the best possible services to our residents. We’re confident that our relentless focus on creating value for our residents will translate into long-term value for our shareholders as well.

With that, I will turn the call over to Laurie Hawkes, our President and Chief Operating Officer. Laurie?

Laurie A. Hawkes

Thank you, Steve, and good morning everyone. I would like to take the next few minutes to update you on the volume and sourcing of our latest acquisitions, the restoration and integration of these assets, our trends and leasing and occupancy, and progress on our in-house leasing program.

Consistent with our core acquisition strategy and in line with our objective to continue to expand our presence in our existing markets, we deployed $86 million of capital for the acquisition and restoration of homes in the second quarter. Of the 443 homes purchased in the quarter, 30% were in Florida, 25% in Tennessee, 22% in Texas, and 20% in Georgia, with the remaining 3% in three other markets.

The mix of our sourcing channels will vary quarter-to-quarter, based on identifying attractive acquisition opportunities in our core markets. This quarter over 54% of our acquisitions were sourced to the single flow MLS, 39% via auctions and 7% via portfolio purchases. As Steve commented, our acquisition pace this quarter did not reflect the decline in compelling investment opportunities, but rather a correlation with the timing of capital.

In fact from July 1 to July 31, we acquired and contracted to acquire an additional 676 homes at an average cost of $109 million, including acquiring 242 single-family homes for a total purchase price of approximately $36 million, and contracting to acquire 434 additional homes for a total purchase price of $73 million.

These recent acquisitions in homes under contact are located in Florida, Georgia, North Carolina, Texas and Tennessee with a cumulative HPA projected by John Burns, real estate consulting ranges from 19.2% to 31.1% over the next four years.

Turning to restoration, this quarter we restored 806 homes at an average cost of approximately $12,100, reflecting an increase commensurate with the increased number of auction properties we have acquired. And as we’ve noted, auction properties typically require more time and cost more than double the amount to restore than our typical MLS assets. We are today averaging 23,000 for auction properties.

Moving onto leasing and occupancy trends, our team turned in another impressive quarter. We signed a total of 1857 leases, including 1283 new leases, representing a 7.7% increase over the first quarter, plus an additional 574 renewals. There were approximately 1327 of contractual lease expirations and unscheduled move outs of which 349 residents actually vacated, resulting an increase in our resident retention rate to 74%.

For the corresponding decline in our turnover to 26%, this quarter we achieved rental increases on renewals averaging 3.1% as Steve mentioned, up 30 basis points from last quarter. Renewal increases averaged over 4% in Dallas, Corpus Christi, and parts of California, Charlotte, Jacksonville, Las Vegas, Nashville, Phoenix, Raleigh, San Antonio and Tampa averaging at or above 3%.

The lease rate for our portfolio increased 800 basis points to 89% with 8 of the 13 states in which we operate having 90% or greater lease rates. Homes owned that were rent-ready 90 days or longer increased to 95% versus 93% from the previous quarter. And of special note, I would like to highlight that our progress in a number of our core markets. In Dallas, our largest market, our lease rate improved to 94%, up from 84%, for a 10% increase.

We achieved a 90% lease rate in Tennessee, up from 63%, for a 27% increase, and we achieved a lease rate of 93% in North Carolina up from 79% for a 14% improvement. On our fourth quarter 2013 call, I mentioned our goal was to return to a greater than 90% long-term occupancy rate in the overall self-managed portfolio within the next two quarters. Six months later we’ve done so, and we’re pleased to report that our focus on growing occupancy and reducing turnover are showing positive results.

We are making steady headway toward our long-term occupancy goal in the mid-90% range. We are seeing growing demand for single-family rentals across all of our markets. This demand is no longer driven by the financial crisis, but we believe rather an improving economy and new household formation.

The latest research from Zelman & Associates estimates household formation of 1.25 million households in 2014, up from 945,000 in 2013 and 645,000 in 2012. In contrast, the growth of new housing stock is well behind what is needed to keep pace with this projected increase in household formation.

Single-family housing starts are expected to be roughly 620,000 this year, well below the pace of what is needed, as has been the case for the last six years, it will only exacerbate this mismatch between supply and demand, which portents a very real housing crisis, I should say shortage. But to us demand is only one side of the equation; another key component is delivering the best product and the best rental experience to our residents.

Our resident-centered mission drives everything we do from buying and renovated homes to great neighborhood to continuing to build out our sophisticated operating international platform capable of delivering a wide range of services and amenities. We do work very hard everyday to earn the trust and confidence of our residents and to fulfill our mission of being what we consider best-in-class and first choice for single-family rentals in our markets.

Our in-house resident services center is instrumental to our process and our progress. It provides our residents with a single point contact for all inquiries relating to leasing, accounting and maintenance with a rapid response rate. We believe, providing this high quality resident experience is absolutely critical to resident retention and rental growth.

Touching on one of those top priorities in terms of initiatives; our in-house leasing program in Phoenix has been a tremendous success. In that market, we saw occupancy growth of 95% from 78% after the pilot program first started, and we are moving ahead with this program with a projected rollout in Atlanta, North Carolina and Dallas.

Finally, our objective is always to maximize total return on equity by purchasing homes that offer substantial home price depreciation and overall compelling current yield and often times we achieved both. As the debt markets evolve, we truly believe our financial flexibility is expanding, which will only enhance our ability to execute our discipline to acquisition strategy and adjust across our core markets.

Broader access to capital also points to the fact that single-family rental as an asset class is maturing. Debt markets are taking note that demand is strong, there are outside buying opportunities and continue to be. Our margins are improving as efficiencies evolve. There is a natural deleveraging as home price appreciation occurs and these assets are more liquid than any other real estate class.

We feel this growing acknowledgment and understanding of the single-family rental industry as well as our business model will create positive momentum for both ARP and the sector going forward.

I’d like to now turn the call over to Shant, our Chief financial Officer to discuss financial results for the quarter.

Shant Koumriqian

Thank you, Laurie, and hello everyone. I will start with the discussion of our statement of operations, and then turn to our balance sheet.

Total revenue for the second quarter of 2014 increased 19% to $20.8 million from $17.5 million in the prior quarter. The sequential quarterly increase is primarily due to rental income generated from net new leases on an additional 884 homes quarter-over-quarter.

Portfolio operating expenses which include property operating and maintenance expense, real estate, taxes and home owners association fees increased 18% to $9.1 million in the second quarter compared to $7.7 million in the prior quarter. The primary driver of the increase was the growth in our portfolio as well as carrying cost on vacant homes that became rent ready during the quarter.

Our self-managed portfolio increased by 443 homes or 7% quarter-over-quarter, while total investment in our self-managed portfolio increased by $72 million or 10% over the same time period.

Net operating income for the second quarter of 2014 increased 21% to $11.7 million from $9.7 million in the first quarter of 2014, while our NOI margin improved to 56% in the current quarter.

Interest expense is $4.9 million compared to $4.2 million last quarter, a result of higher average borrowings outstanding on our revolving credit facility during the second quarter. Second quarter interest expense also included 692,000 in non-cash bonds discount amortization related to our exchangeable notes.

General, administrative expense for the quarter decreased slightly to $3.5 million from $3.7 million in the prior quarter. G&A for the current quarter also includes $691,000 in non-cash stock compensation expense.

Core FFO, which excludes the impact of acquisition expense, severance charges, and non-cash bond discount amortization was $3.6 million or $0.11 per diluted share for the second quarter, which compares to $2.2 million or $0.07 per diluted share for the first quarter of 2014.

Now turning to our balance sheet, as of June 30 we owned 7205 single-family homes for a total investment of more than $1 billion. During the quarter, we acquired 443 homes and incurred restoration and re-tenancy costs of approximately $14 million. Our portfolio was 89% leased and was comprised of 6595 self-managed homes that were 88% leased and 610 homes subject to long-term net leases.

As of June 30, we had approximately $38 million in cash and cash equivalents and an outstanding balance of $364 million on our revolving credit facility. Our ratio of debt to underappreciated assets was approximately 43% as of June 30 on assets that secure the line, which have appreciated substantially since we have started acquiring them. Our available liquidity as of June 30 was approximately $164 million and comprised of $38 million in cash and $126 million in available borrowing capacity under our newly expanded credit facility.

As to additional near-term liquidity, our credit facility has an accordion feature, which allows us to increase the capacity to $150 million, subject to meeting certain criteria, and would provide us with an incremental $250 million in capacity. This concludes our prepared remarks. I will now turn the call over to the operator, who will open the floor for questions. Operator?

Question-and-Answer Session

Thank you. (Operator Instructions) Our first question online comes from Haendel St. Juste from Morgan Stanley. Please go ahead.

Haendel E. St. Juste – Morgan Stanley

Hey, good morning, out there.

Stephen G. Schmitz

Haendel, good morning.

Laurie A. Hawkes

Hi, Haendel.

Haendel E. St. Juste – Morgan Stanley

So understanding and appreciating the sensitivity about the ongoing securitization. I wanted to get some clarity, if you could, on where exactly you are in the process? And then perhaps if you could show us some clarity on what has caused the delay from your previous timing expectations you gave on last quarter’s call?

Stephen G. Schmitz

Do you know what, I tell you, there is nothing I’d love more than to talk to you about this deal, but we are surrounded by lawyers Haendel, and they’ve said it’s a private deal, its non-public and there is absolutely nothing we can say. And as soon as we can say something, we’ll issue a press release and you’ll be the first to know.

Laurie A. Hawkes

Well. I will add to that Haendel. In terms of the delay, it was a factor of the radiancy process as well as trying to navigate the various participants entering the market and trying to in lockstep not to be in the market at the same time as others.

Haendel E. St. Juste – Morgan Stanley

Okay. Well. I guess part of my concern, I was wondering if the number of deals in the marketplace might have impacted the mid and perhaps may be you get the function of slow August being a slow demand time period anyway. But…

Stephen G. Schmitz

Hey, we’d love to chat with you about it, Haendel, but we just really can’t.

Haendel E. St. Juste – Morgan Stanley

Of course, I’ll jump in for now. But understanding that you slowed your acquisition pace deliberately during the quarter because of limited capital how should we think about the pace of deploying capital through year-end assuming you get your securitization completed here soon?

Stephen G. Schmitz

Well, I’d tell you how exactly I used to think about it. I mean, we – it’s not something we give the actual guidance on, but we said a call or two ago that, unofficially we’re kind of looking at a pace of $100 million a quarter and that’s kind of the pace we’ve been on. And we believe that by year-end, we’ll be able to look back and say we did that. So…

Shant Koumriqian

Yeah. And Haendel, if you look at the current quarter as well, we’ve put out of July 31 $110 million on the books. If you were to compare that to April 30, that’s up probably $35 million to $40 million and like we said previously, we anticipate a run rate at this point of $100 million a quarter.

We have capacity to grow the portfolio to $1.5 billion in total asset size without – with current debt capacity, and that would put us at a debt-to-cost ratio of under 60%. Again, remember, these assets have appreciated significantly since we’ve acquired them. So on a loan to value basis it will be significantly below that. So on a near term basis we continue to believe that we can acquire homes at 100 million a quarter potentially more and we'll obviously update you on that as facts and circumstances change.

Haendel E. St. Juste – Morgan Stanley

Can you share with us perhaps some color on the gross or perhaps the net yield you're seeing? You mentioned looking at homes in Georgia, Texas, North Carolina. Curious as to what those yields are today, how that compares to a year ago. And then potentially, if you would be willing to lower your return requirement, given clearly that home values have run here quite a bit of late.

Christopher Jay Byce

Sure. On the first one, in terms of in the current quarter the mix shifted more towards Georgia, Florida and we’ve acquired a little bit less in Texas, if you look at the mix of where we are buying, you can see that in the property table. Those tend to be jurisdictions of lower classes; therefore, you have a lower starting gross yield. But in terms of gross yields this quarter, blended underwritten to the low 10%s, 10.1%, 10.2% in terms of underwritten net yields or in the mid-5s, 5.4%, 5.5% that compares to 10.75% gross yields last quarter and about 5.75% to 5.8% net yield.

And in terms of the main variable that you would want to look to when you comparing our yields to others is the CapEx, R&M and turn assumption. So that’s kind of the one variable difference between some of the different operators that are out there. So if you’re to adjust ours, I think the yields will be relatively similar. We’ve definitely seen gross yields come down over the last year as well as net yields, but we’ve also moved two different markets.

Stephen G. Schmitz

Yeah, Haendel, our analysis really hasn’t changed, we’ve always look for markets where we can get the best yield and where we believe that there is significant opportunity for HPA, and to the extent there is further yield compression in certain markets, obviously we take that into consideration.

And one of the new factors that we’re actually quite enthused about is we can see upward pressure on rents in a lot of the markets that we are in and that hasn’t really been the case heretofore. We are seeing household formation up and it hasn’t been up for decades in this country. And so that’s a new factor and so we could be in for a protracted period of increased rents. And if that’s the case, obviously that’s a new element that goes into our yield analysis.

Haendel E. St. Juste – Morgan Stanley

I appreciate that. One last one, if I may, before I yield the floor. Shant, perhaps for you. You've added the CIO last quarter. Chief Legal Counsel this quarter, just curious on what the expected annual run rate for G&A going forward, ballpark-ish, will be.

Shant Koumriqian

Yeah, for the next several quarters I mean we’ve talked about a around a $4 million per quarter run rate, I mean this quarter was a little bit lower, you’ve got lumpiness in professional fees that will occur quarter-over-quarter.

But at least for the next several quarter we are looking at somewhere in the $4 million a quarter run rate, $60 million annualized, and that includes stock comp expense. So again, when you compare our G&A to others, make sure you’re backing out the stock comp expense and comparing that on an apples-to-apples basis.

Haendel E. St. Juste – Morgan Stanley

Got it. Thank you, guys.

Stephen G. Schmitz

Thank you.

Operator

Our next question online comes from Dennis McGill from Zelman & Associates. Please go ahead?

Dennis McGill – Zelman & Associates

Hi, thank you. Just wanted to follow-up on that last point you made on the net yields, I think you said that they compressed, so it looks like about 30 days at this point, that was sequentially, and yet your incremental acquisitions are in markets that I would think are higher yield, lower asset inflation potential. So just trying to square that, and just think through what’s driving that compression, especially in an environment where you are getting the renewal bonds on rents?

Stephen G. Schmitz

Yeah, so that’s from an underwritten perspective, Dennis, and for example in the current quarter, 25% of the homes were in Florida. If you look at Florida, there’s much higher home price appreciation potential, now granted we look at net cash flow yields that are primary factor. But if you’re buying in California, the net yields are a little lower compared to markets, say like Texas, where the net yields will be in the higher 5s. So a part of it is driven by mix as to where we were buying in the current quarter.

Shant Koumriqian

Also a relatively small sample size.

Dennis McGill – Zelman & Associates

Okay.

Stephen G. Schmitz

Okay. I guess the answer is, I wouldn’t read too much into that.

Dennis McGill – Zelman & Associates

Okay. And then Laurie, with respect to the turnover, with it being below or within the first quarter kind of going against the seasonal norms, can you just maybe elaborate a little bit more on what you guys are either doing internally or what you’re seeing generally across the market that would drive turnover down?

Laurie A. Hawkes

It’s a great question. We’ve been advocating as you know for some time that this is a sector unlike multi-family, which has room to improve in terms of its efficiencies, and that perhaps maybe even mid-20s, it’s realistic as opposed to 33% where we all model our numbers.

Yes, in terms of the seasonality, you’d expect some other movement. But candidly, I think it’s a nod to the fact that we are increasing our service on a regular basis. We’re trying to be responsive, we have our 90 day average program relative to renewals, and as you know, retention is powerful, in fact it’s even more so than rent growth relative to keeping them in the homes.

So we’re very pleased with it. We intend to continue to focus on it. The 120-day in terms of calling is not as effective, but certainly the 90-day program has worked well. So it’s a fine balance between retention and driving the rent, but we think we can do both.

Dennis McGill – Zelman & Associates

Okay. And then just kind of on the same lines, with respect to turnover costs, repair and maintenance costs now at the size of the portfolio, any data you can give us there on what you’re seeing?

Shant Koumriqian

Yeah, its Shant Koumriqian yes, in terms of repair and maintenance cost, nothing unusual quarter-over-quarter, so there is really nothing to point out to. As we are growing the portfolio obviously the R&M expenses is increasing proportionate to the size of the portfolio but we are not seeing anything unusual.

Dennis McGill – Zelman & Associates

What is usual? What’s kind of the normal expense that you’re incurring per house?

Stephen G. Schmitz

The normal expense that we budget for per house is somewhere in the $750 per house per year range. And when we look at our all-in cost, we look at turn cost R&M and CapEx reserve. So typically somewhere in that $750 per house per year range, a component activity R&M, a component of that can be capitalized as well.

Dennis McGill – Zelman & Associates

I’m sorry and that total number including turn pay model per house?

Stephen G. Schmitz

Total number that we including turn sensitive of $2,000 and $2,500 – $2,000 to $2,250 per year on all three components.

Dennis McGill – Zelman & Associates

Perfect. Thanks, Laurie.

Laurie A. Hawkes

Thanks.

Stephen G. Schmitz

Thank you.

Operator

Our next question on line comes from Steve Stelmach from FBR. Please go ahead.

Steve Stelmach – FBR Capital Markets

Good morning, guys.

Stephen G. Schmitz

Hi, Steve.

Steve Stelmach – FBR Capital Markets

Let me get some color on just driving some operating leverage in the business. Clearly you guys have a lot of low hanging fruit as you continue to build the portfolio as you get your financing in place. The way we want to think about is, how you guys allocate capital to drive that operating leverage? Is it to get those five markets above 1,000 homes? Is that the real needle mover or is to get something smaller markets up to more sizeable scale, and how should we think about that, Steve?

Stephen G. Schmitz

Well, it’s really the former to start out because once you hit a certain number, you can do some simple things like take a handyman and put him on payroll and you don’t have all those trip charges that you would normally have if you have to hire that out, or you can do that with inspectors, you can put him on payroll so you don’t have to hire third parties to going and do inspections, and you get a lot better control also because the people are your employees so you are not stuck in the queue with other people.

So we think things like that can create some immediate savings, and we also have learned that whenever we have feet on the street, we get a better sense of what the market is and what’s going on in the market generally and all around. And so we’ve identified those five markets now.

We’ve also mentioned the next year of markets, where we are after say 500 homes, but those are all markets where we can conceivably go to 1,000 too, and may be then some. And so what we have concluded is that, to be everywhere just doesn’t make sense unless you're awfully, awfully large in terms of capital and headcount. So we’ve got to be in less markets and have more debt, we think we can generate a better return that way, particularly by managing the expense side.

Steve Stelmach – FBR Capital Markets

Okay. And so would it be safe to assume that maybe you recycle some of the assets in those smaller markets that get a little more subscale or just is it just a matter of getting those smaller markets up to the sort of magic threshold, whatever that may be?

Stephen G. Schmitz

Well, if they are really small. I mean, if there’s – there are markets we’re in where we got less than 200 houses, and we’re not buying anymore, and so may be we got 100 houses, I may note, those would be candidates at some point to recycle that capital. Subject to REIT rules, of course, on dispositions, but clearly, some of those where we could take gains actually and end up at less management expense going forward. So yeah, it is – we look at all of that and we’ll continue to do so.

Laurie A. Hawkes

I think, Steve, I also have to say that it does influence when we are looking at, for instance, a portfolio of acquisitions which we do continually, and we see them in markets that we’re already in, and our decision clearly influenced by how it’s built out and dives deeper into those markets that we want to be a bigger presence in. And if it complements the markets we are already in, and we obviously take that into consideration.

Steve Stelmach – FBR Capital Markets

Great, that’s helpful, guys. Last quarter, you guys provided a little bit of color on the build-to-rent strategy, the pilot program down in Atlanta. Wondering if you’ve taken any delivery of those homes yet and if so, sort of what the status is there?

Laurie A. Hawkes

We expect delivery in the third and fourth quarters, and we are on plan and are very pleased with the progress.

Steve Stelmach – FBR Capital Markets

Okay. Great, thanks guys, and congrats on the quarter.

Stephen G. Schmitz

Thanks a lot.

Operator

(Operator Instructions) Our next in the line comes from Tayo Okusanya from Jefferies. Please, go ahead?

Omotayo Okusanya – Jefferies & Co.

Yes. Good morning, everyone.

Stephen G. Schmitz

Hi, Tayo.

Omotayo Okusanya – Jefferies & Co.

Yeah. Congrats on the quarter. I really liked the leasing activity. That was really good to see. On the capital markets side of things, one of your peers is kind of out there with a follow-on offering. Again, I know you guys are working on a securitization, but how do you start to think about equity relative to debt at current level?

Stephen G. Schmitz

Well, you know it’s something we couldn’t – we always look at the state of the equity markets for sure, and it’s something we’ll always considered and look at depending on what's going on in the market place. As Shant mentioned, for the near term, we’ve got enough debt capacity to carry us through at our present pace. So we have no other plans at the moment.

Omotayo Okusanya – Jefferies & Co.

Yeah, but – is the way you're thinking about the trigger point, either the stock has to go above the IPO price or the stock has to go above book value or do you have some type of threshold that will make you more confident with issue – more comfortable with issuing equity?

Stephen G. Schmitz

There’s not really a set threshold at all. I mean, we continue to look at it within the context of what’s going on in the market, in the space, what the opportunities are for acquisitions, all kind of ways together.

Omotayo Okusanya – Jefferies & Co.

Okay. That’s helpful. And Shant, could you just give a little bit more color about the requirements that you need to meet in order to be able to access the accordion on the line of credit?

Shant Koumriqian

Yes. So the accordion and it’s the same requirements that have been in place every time we’ve exercised the accordion not be in default, meet the covenants, and go out and secure additional commitments. And again, in our credit facility, we’ve got nine national, international banks that all have capacity to lend, and we’ve gone to them each time.

So it’s a process of going through and securing those commitments from either the existing group. And again over the last year and a half, if you recall, we started with a four bank group, and we brought in an additional five.

So you can either secure the capacity from the existing bank group or go out and find it, but the documents are in place in order to exercise the accordion. So from the administrative perspective, it’s there in set up.

Omotayo Okusanya – Jefferies & Co.

Okay. And again, once you hit those requirements, the banks are required to give you the accordion or…

Shant Koumriqian

No.

Omotayo Okusanya – Jefferies & Co.

Okay. Because they could still…

Shant Koumriqian

They are not.

Omotayo Okusanya – Jefferies & Co.

On their end, they can still turn the request down for whatever reason?

Shant Koumriqian

Any individual bank has to make their own credit decision, and again you can exercise accordion and bring all nine in, a few in. If you look at the last accordion exercise we did, we brought it in with several of the banks, not all of them. So, but yes, it’s not a firm commitment. We have to go out and fill it out, but like I said in the past, we’ve had plenty of success going out and filling out the accordion each time we’ve exercised it.

Laurie A. Hawkes

Yeah. I think, Tayo, to add to that, we were oversubscribed in the last round, and we actually kept it to where it is, because it’s a balance between cost and availability. But the interest, and the desire to be involved is considerable, and that doesn’t appear to be an issue.

Omotayo Okusanya – Jefferies & Co.

Okay, that's helpful. And then just one more from me. Again, you now have a fairly large, stabilized portfolio. You have a large portfolio that you've owned for six months or more. So you're clearly starting to have a lot of a lot of kind of good empirical data behind the business model.

Again, just when you kind of look at that data of actuals versus forecasts, could you talk a little bit about what differences you're seeing, kind of areas where things are a little bit better or where things might be a little bit worse than initially, when you guys went public and what your expectations were?

Shant Koumriqian

Yeah, in terms of the various line items, a lot of the line items generally known into terminable. Obviously there was some estimates involved in things like real estate taxes. We’ve seen – with scale property management expense come down, we think there is some additional room for that to come down.

Insurance costs are a line item that has been better than we anticipated, faster than we anticipated, there are more and more insurance companies participating in the space whereas if you went back two years or three years ago, you had very limited capacity on the insurance side.

The R&M, what ends up happening with the R&M is you are growing a portfolio this quickly, your R&M expenses could be higher or lower than you anticipate, but in general I think once a portfolio of home starts to become stabilize, you start to see routine expenses and margins within those various line times. But again as you’re growing and acquiring so many assets, there tend to be a lot of noise.

And in one quarter, your R&M expense can be higher or lower than you anticipated and that’s not necessary indicative of any ongoing trends. But again, we’re seeing the number of those line items comedown and as we’re dealing with the various components of growth in that, we think there is opportunity in future in some of these other line items, including, for example, the R&M turn and CapEx costs.

Laurie A. Hawkes

And Tayo, I would add to that, I think the retention numbers and the improvement of retention numbers. We are pleased with perhaps faster than we expected but we do think it’s a sector that should benefit from it because of the stickiness of families, and that will have a meaningful improvement as well as getting to over 90% in literally eight of our states at this point is a huge plus.

Omotayo Okusanya – Jefferies & Co.

That’s helpful. Thank you very much.

Laurie A. Hawkes

Thank you.

Operator

Our next question comes from Jana Galan from Bank of America. Please go ahead.

Jana Galan – Bank of America, Merrill Lynch

Thank you. Good morning. Laurie, on the sourcing of homes in July, is it materially different from where it occurred in second quarter and then if you could just may be comment on the portfolio opportunity landscape?

Laurie A. Hawkes

I’ll comment – I’ll ask I think Jay may be in the room in terms of the acquisition. In terms of percentage, we have been active in the auctions and that includes in Texas, Florida and Georgia. So that component in July has played a meaningful role. In terms of MLS, that’s an ongoing consistent program where we constantly are calling all of our market across the U.S. and adding to that equation as we see great opportunities. And to the portfolio side, we are actually looking at a number of significant portfolios and we see them constantly.

I think they did offer spread in terms of where people are valuing those portfolios is coming more into line, and I think that will be interesting across the board for the entire sector going forward. I don’t know whether Shant, Steve or Jay you’d like to add the comment as to the percentages I do not have those as a breakout to the $109 million for July in front of me.

Shant Koumriqian

Yeah, Jana, the mix is relatively consistent, so we are acquiring in the same markets that we’ve been acquiring at. So if you look at the current quarter, it’s a relatively consistent mix.

Jana Galan – Bank of America, Merrill Lynch

And just on the portfolio opportunities that you are viewing, would those be consistent with your current kind of home size and rent level or would you consider going higher end?

Shant Koumriqian

Go ahead Steve.

Stephen G. Schmitz

We pretty much stay within the same band that we’ve always looked at, in terms of the price levels of the rents. That’s kind of a starting point.

Jana Galan – Bank of America, Merrill Lynch

Thank you. And then maybe just on the potential for dividend, as you get closer to reaching target scale in many of your markets, how is your Board thinking about the dividend?

Shant Koumriqian

Yeah, in terms of the dividend again that’s something that we monitor and we are looking at it on a quarterly basis. At this point the decision that we’ve made as the best use of capital is to continue to acquire homes, but the ability to initiate a dividend is there we monitor it regularly and we’ll update you as a situation changes.

Jana Galan – Bank of America, Merrill Lynch

Great. Thank you very much.

Stephen G. Schmitz

Thank you.

Operator

Our next question on line comes from Buck Horne from Raymond James. Please go ahead.

Buck Horne – Raymond James & Associates

Hey, thanks, good morning.

Stephen G. Schmitz

Good morning.

Buck Horne – Raymond James & Associates

I'm wondering if we can talk a little bit about some of the markets where you inherited those preferred operator homes into the self-managed portfolio, places like Indianapolis and I think Florida as well, some of those older homes. What's the plan to improve – either improve the occupancy in some of those legacy homes and/or what's your thoughts around dispositions of those homes? Or how do you want to manage some of those inherited preferred operator homes?

Stephen G. Schmitz

That’s a great question Buck, and we look at both of those alternatives, I mean, we always look at – does it make sense, how much do we have to invest? Does that make sense, what’s the return or are there some homes in that package that where a disposition might make sense. And we’re currently evaluating that as we speak and so as soon as we know more we'll pass that long.

Shant Koumriqian

Yeah. And Buck right now we are focused on leasing up the assets, just like any other asset within the portfolio over time, if it doesn’t meet our whole profile it could definitely be identified as an asset to recycle. And as this industry matures ourselves and others will recycle capital. We’re moving out of specific markets and recycle specific asset. So any asset within the portfolio that doesn’t meet that parameter is obviously a candidate for recycling, but at this point, we’re renovating the houses, and we’re focusing on leasing them up.

Laurie A. Hawkes

I think, I will talk on that point. I mean, it’s such a small percentage of our portfolio. It’s one that we clearly are doing all of the above. But in the normal course of business, it’s becoming obviously a decreasing percentage of any of our business.

Buck Horne – Raymond James & Associates

I appreciate that, but there is no like REIT restrictions in terms of timeframe, in terms of you have to hold it for a certain amount of time before you can sell any of those homes?

Stephen G. Schmitz

You can sell the home at anytime as long as you move it into a taxable re-subsidiary, and pay tax on any gain associated with the asset or you have to hold an asset for a minimum of two years for the production of rental revenue. And once you held an asset for two years, you have the capacity to sell less than 10% of your cost basis at the beginning of the year, 10% of the fair market value of your portfolio at the beginning of the year or under seven properties and that’s really more geared towards larger commercial assets. Those are three safe harbors.

So once you go into an asset for two years, and there’s a couple of other requirements. You have flexibility to sell it within your operating partnership, and not have to pay tax on it as long as you are paying a dividend or recycling the capital. But if you want to sell it prior to the two year period, you can sell any asset by moving it into a TRS.

Buck Horne – Raymond James & Associates

Okay. That's very helpful. I think it gives you a broader framework for thinking about the entire portfolio as well. Thinking about net yields that you are achieving through your acquisition channels, are there any major differences in what you are finding available in terms of the net yield that's available through auctions at this point versus what you're seeing in the MLS versus the portfolios? Is there any meaningful difference in the spreads that can be achieved?

Stephen G. Schmitz

Not substantial though, as we go out. We look at the product in the same way the biggest difference there is that – an auction home would generally be priceless than an MLS home, but you have greater variability of CapEx needs, so you add that in. The benefit is that the auction homes often times allow us to get into neighborhoods that we would have difficulty getting into via the MLS. And it varies too by the way depending on who is at the auction, and who is aggressive, and that sort of thing. That’s why it’s always been important to us that we have experience in all the channels which we do.

Buck Horne – Raymond James & Associates

Okay. And I know it's small, but I want to go back to it real quick. But just the build-to-rent program, is that – based on what your experience is, is that something you would contemplate expanding at this point going forward? And can you help us quantify exactly how much you plan to spend on build-to-rent homes for the back half of the year.

Laurie A. Hawkes

Yeah. Buck, I mean we are limited right now to the 105 homes that we’re discussing in five subdivisions around the Atlanta area and it compared very favorably with what we’re buying on the MLS. As an example, when we’re talking about $69 a square foot, and probably 2300 square foot home, so it’s in our sweet spot, and they’re brand new.

At this point, we have no plans to look elsewhere, and we are evaluating on a continual basis, but I think our objective is to successfully deliver and occupy these houses and look at the ongoing opportunities from there.

Buck Horne - Raymond James & Associates

All right. Thanks, guys. Great quarter. Thank you.

Stephen G. Schmitz

Thank you.

Laurie A. Hawkes

Thanks, Buck.

Operator

Our next question comes from Doug Christopher from Crowell, Weedon. Please go ahead?

Doug Christopher – Crowell, Weedon & Co.

Hi, thanks for taking my questions. I have two. The first is – and forgive me if I missed this – but last fourth quarter, the preferred operator issues seemed to be kind of a big issue. It seems to be a non-event now. Is that correct?

Stephen G. Schmitz

Yes, it is correct, because we took those all into our self-managed program as we mentioned last time.

Doug Christopher – Crowell, Weedon & Co.

And did you – anything that you’ve learned along the way or that you operationally, administratively, anecdotally that you could share on how you worked through that so quickly?

Stephen G. Schmitz

Well, I think the thing we’ve learned along the way in all risk factors is that, when we manage things it tends to work out better than when we have third parties manage things. That’s kind of always been the case.

Doug Christopher – Crowell, Weedon & Co.

Okay, Thank you.

Shant Koumriqian

And I think, Doug, the way to think about the preferred operator who has a portfolio acquisition and we’ve acquired portfolios, so it’s just an integration processes, it’s a process of getting the leases, working with the tenants and transitioning the assets to our portfolio, which is no different than if we were to acquire a portfolio of assets which we’ve done since 2012.

Doug Christopher – Crowell, Weedon & Co.

Okay, and well done with that. And then, just lastly, with the growth – and we’re talking about pretty significant growth quarter-by-quarter, facing challenges, and really delivering strong results. Anything, I guess, on the supply side, on the build-up side, that's gotten better from maybe partnerships in certain markets? Anything that you can share there?

Shant Koumriqian

Well, we’ve built relationships with a lot of people out there. I mean we’ve spent a couple of years really building up what we call our flow business, which is our MLS business, which necessitates having a good relationship with residential brokers in those markets that we continue to educate on exactly what kind of product we’re looking for and how we analyze it, and that because of time and because of a lot of management time, that’s gotten much better over time.

We’re really quite thrilled with how that’s gone, it’s allowed us to look at them, the MLS business kind of is a floor of consistent acquisitions. The auction we can go in and out on an as needed or as recommended basis. And the portfolios are opportunistic.

Doug Christopher – Crowell, Weedon & Co

And then, Jay, go ahead.

Christopher Jay Byce

Sorry, I was going to say we can be nimble in all of the sectors and considering that we’ve bought only about 5% of our products through the auction process, the prospect of the auction process diminishing as distressed assets move to the system would not deter nor in anyway I think impede our progress relative to the acquisition side.

Doug Christopher – Crowell, Weedon & Co

And then regarding – I appreciate the MLS comments, but what about on the kind of the build-up side, the suppliers, the materials? Is there anything that's improving positive, neutral, negative in that area?

Laurie A. Hawkes

In terms of the contractors our national purchasing programs the opportunities continue. Effectively, we have our three largest programs which I think you're aware of, which is Sears, Home Depot, as well as Pittsburgh Paints, but there are numerous other programs both regionally on an national level that were constantly evaluating and have implemented.

In fact I think the industries, prual are becoming much more sophisticated about trying to service the SFR sector, because they realize it is a burgeoning new sector. And we will take growth advantage of all of the above, it may in fact alter some of the supply chain avenues that the industries have known, but the savings we think will be of great importance particularly to our net yields.

Doug Christopher – Crowell, Weedon & Co

Thank you very much.

Stephen G. Schmitz

Thanks a lot Dough.

Laurie A. Hawkes

Thank you.

Operator

Our final question comes from Omotayo Okusanya from Jefferies. Please go ahead.

Omotayo Okusanya – Jefferies & Co.

Yes. I may have missed this, but did you talk a little bit about just in regards to the acquisition pipeline, whether, again, most of that stuff is all from the auction market, whether you are looking at a potential portfolio deal?

Stephen G. Schmitz

Well, it’s mostly MLS right now and we’ve built that way intentionally, so that the MLS is a steady flow of business that we get a very, very close look at, and we’ve been in that business since we started really six years ago. We go to the auctions that was only about 5% of production.

We go to the auctions what in certain markets there is an auction and in some markets there is not an auction, and we go to that on an opportunistic basis when it makes sense. And then portfolios you never know when you are going to see a portfolio, that we will see them, we just don’t know when and we view those as an opportunity also.

Omotayo Okusanya – Jefferies & Co.

Okay.

Laurie A. Hawkes

Tayo the mix for the last quarter was over 15% was MLS. And then we had 39% auctions, which is up, and then the balance was 7% portfolio in the last quarter. And we clearly are if you are looking at our mix now similar, but the portfolios, as we call them are elephants, and when they come in they could clearly move that mix considerably in any given quarter, and we would adjust it accordingly.

And we have had great experience, as you know in 2012 we integrated almost 80 portfolios into our portfolio on a larger basis. And knowing how to do that, knowing the due diligence, and knowing how to integrate it is critical and it’s to date one that has not been as prevalent in the market, but we think on a go forward basis you will see a lot more of it going forward.

Omotayo Okusanya – Jefferies & Co.

Okay. Thank you.

Stephen G. Schmitz

Thanks Tayo.

Operator

We have no further questions at this time. I’d now like to turn the call over to Steve Schmitz for closing remarks.

Stephen G. Schmitz

I would just like to say thank you everybody. We appreciate your interest and your participation and we’ll look forward to speaking with you next quarter.

Operator

Thank you, ladies and gentlemen. This concludes today’s conference. Thank you for participating. You may now disconnect.

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