Independence Realty Trust's (IRT) CEO Scott Schaeffer on Q2 2016 Results - Earnings Call Transcript

| About: Independence Realty (IRT)

Independence Realty Trust Inc., (NYSEMKT:IRT)

Q2 2016 Earnings Conference Call

August 3, 2016, 09:00 AM ET

Executives

Andres Viroslav - Investor Relations

Scott Schaeffer - Chief Executive Officer

James Sebra - Chief Financial Officer

Farrell Ender - President of Independence Realty Trust

Analysts

Brian Hogan - William Blair

Matt Damstrom - FBR

Daniel Donlan - Ladenburg

Operator

Good morning, ladies and gentlemen, and welcome to the Q2 2016 Independence Realty Trust Inc. Earnings Conference Call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session and instructions will follow at that time. [Operator instruction] As a reminder, this conference call is being recorded.

I would now like to turn the conference over to, Mr. Andres Viroslav. Please go ahead.

Andres Viroslav

Thank you, Shawn, and good morning to everyone. Thank you for joining us today to review Independence Realty Trust second quarter 2016 financial results. On the call with me today are Scott Schaeffer, IRT’s Chief Executive Officer; Jim Sebra, IRT’s Chief Financial Officer; and Farrell Ender, President of Independence Realty Trust.

This morning's call is being webcast on our website at www.irtreit.com. There will be a replay of the call available via webcast on our website and telephonically beginning at approximately 12:00 PM Eastern Time today. The dial-in for the replay is 855-859-2056 with a confirmation code 47294804.

Before I turn the call over to Scott, I would like to remind everyone that there may be forward-looking statements made in this call. These forward-looking statements reflect IRT's current views with respect to future events and financial performance. Actual results could differ substantially and materially from what IRT has projected. Such statements are made in good faith pursuant to the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995. Please refer to IRT's press release, supplemental information and filings with the SEC for factors that could affect the accuracy of our expectations or cause our future results to differ materially from those expectations.

Participants may discuss non-GAAP financial measures in this call. A copy of IRT's press release and supplemental information containing financial information, other statistical information, and a reconciliation of non-GAAP financial measures to the most directly comparable GAAP financial measure is attached to IRT's most recent current report on Form 8-K available at IRT's website www.irtreit.com under Investor Relations. IRT's other SEC filings are also available through this link. IRT does not undertake to update forward-looking statements in this call or with respect to matter described herein except as maybe required by law.

Now, I would like to turn the call over to IRT's Chief Executive Officer, Scott Schaeffer. Scott.

Scott Schaeffer

Thanks, Andres and thank you all for joining our call today. Earnings for the second quarter came in as expected at $0.22 of core FFO. The portfolio performed well this quarter with 5% same-store NOI growth, which offset the reduction in NOI from the previously announced property sales. The Trade Street portfolio continues to exceed our expectations, and delivered a 13.5% year-over-year NOI growth.

During the quarter, we completed our plan of retiring the interim loan utilized to acquire the Trade Street portfolio last September. In total, we sold four properties and used the net proceeds generated from these sales plus the proceeds from refinancing three properties of our KeyBank facility to reduce the interim loans to approximately $35 million.

We retired the remaining balance with the new $40 million senior term loan facility that has a lower interest cost and a two-year term. These transactions lengthened our debt maturity profile, reduced our unsecured recourse debt and lowered our debt to gross assets to 64%.

Looking ahead our focus remains on driving NOI growth through rental rate increases while actively managing operating expenses. We believe our portfolio has more growth ahead. We continue to manage an active pipeline as we see solid opportunities to grow the portfolio.

And at this point, I would like to turn the call over to Farrell to discuss the IRT's portfolio followed by Jim to go through the financial results.

Farrell Ender

Thanks, Scott. We continue to see positive fundamentals in our business, which led to another quarter in which we saw all of our key metrics improve year-over-year. The total portfolio saw occupancy increase of 80 basis points from 93.6% to 94.4%. Rental rates increased from $840 last year to $961 in Q2 of 2016 and up from $952 sequentially.

NOI margin increased from 53.7% last year to 56% in Q2 of this year, slightly up from 55.7% last quarter. Looking at our same-store portfolio, NOI grew by 5% year over year. Driven by a revenue increases 3.1% and an increase in expenses of 1.1%. The average rental rate increased 2.9% from $832 to $856.

Occupancy increased 30 basis points to 93.9% and NOI margin increased almost 1 percentage point to 53.8%. The Trade Street same-store saw 5.4% in revenue a 4.3% decrease in operating expenses attributed to lower insurance personal and repair and maintenance cost. The yielded in NOI growth of 13.5%.

Combining the same-store portfolio and the Trade Street portfolio, NOI growth year over year was 8.9%. Our portfolio benefits from being in well-located suburban non-gateway markets with limited exposure to new construction. We expect the fundamentals in our market will remain strong throughout the balance of the year.

For example, we ended July with total occupancy of 94.9% and average occupancy for the month 94%. Rent growth combined for new and renewed leases averaged 4.8% during the month of July. Renewals and new leases that we have signed to-date for August and September had average increases of 5.8% and 5.2% respectively. We expect these rates to remain consistent as we get through the summer and fall leasing season. We saw solid NOI growth year-over-year in the majority of the markets in which have to greatest this exposure.

Louisville representing 12% of our total NOI experienced 2.8% of revenue growth, 1% expense growth and 4.2% NOI growth, [indiscernible] with a 10.7% share of our total NOI, experienced 4.4% rent growth, a decline in expenses of 12% and NOI growth of 24%. The expense savings was a combination of a decline of the two former Trade Street properties and successfully retenanting two communities in the same-store portfolio, which reduce bad debt and turn over expenses compared to the second of 2015.

Raleigh which contributes 10% of our total NOI, had revenue growth of 8.3% combined with expense growth of 0.5% yielding NOI growth of 14.5%. And Atlanta with 9.5% of our total NOI had revenue growth of 11.5%, expense savings of 1.8% generating NOI growth of 22.6%. Much of this growth can be credited to successful upgrade program at one of our communities, where we've upgraded 20 units at a cost of $5500 hours per unit and receiving an average rent premium of a $160 per month. This equates to a 35% return and we will continue upgrading the property as tenants vacate.

And regards to the pipeline, we see cap rates for communities on our pipeline remain in a high 5% to low 6% range over the past six months, as the debt markets have been relatively stable. The drop in treasuries was met with lenders implementing full rates on treasury pricing, which absorbed some, but all of the benefit of the lower bond pricing.

We’re currently seeing rates for seven and 10 year fix rate debt in the 3 % to 3.5% range. We continue to look at opportunities through our various relationships while managing our available capital with remaining capital on our line.

I'll now turn the call over to Jim.

James Sebra

Thanks Farrell. GAAP earnings this quarter was $0.61 per share or $29 million, up from $337,000 at the same quarter of last year. Core FFO this quarter was $0.22 per share or $10.8 million, up 69% from $6.4 million in the same quarter of last year. Our acquisition of Trade Street in September of last year and the gain or sell the properties this year continues to be the primary driver of our positive changes and earnings and core EBITDA.

From the P&L perspective, trends in revenue expenses continue to match our expectations. During the six months ended June 30, 2016, we had gains through the sales of three real estate assets of approximately $32 million. We ended the quarter with $1.3 billion of gross assets representing 12,982 units and $880 million debt. During the quarter, we sold two properties, which generated $30 million of proceeds after repayment of the debt underlying the properties.

We also entered into permanent financing on three properties generating a $160 million of proceeds. These proceeds were used to pay down our interim and revolving facilities with KeyBank. We also entered into a new $40 million senior term loan facility with KeyBank, the proceeds of which were used to repay the remaining balance of the interim facilities. These activities have reduced our leverage to 64% as of June 30, 2016.

Our strategy of one, resulting capital to delever, and two, growing Trade Street’s NOI and cash flows through cost reductions are driving continued improved performance throughout IRT's balance sheet and earnings. As part of our strategy, we also entered into a five-year interest rate swap that converts a $150 million of our floating rate debt to fixed rate debt. After considering the effects of hedging, 85% of our debt is now fixed, and that's down from only 52% fixed at the end of March.

Before handing the call back to Scott, let's discuss our earnings guidance for 2016. Previously we guided that our core FFO would be $0.82 and $0.88 per share. We are increasing our core FFO guidance to a range of $0.84 to $0.88 for 2016. The earnings release continues further information on the assumptions incurred in that guidance. For Q3, we are expecting core FFO to be between $0.21 and $0.23 per share. Scott.

Scott Schaeffer

Thank you, Jim. Shawn, let's go ahead and open up the call for questions.

Question-and-Answer Session

Operator

[Operator Instructions] Your first quarter comes from the line of Brian Hogan with William Blair. Your line is now open.

Brian Hogan

Good morning. Now that you are through with property sales and got your line refinanced and in your prepared remarks you talked about an active pipeline. Can you expand on that comments and where are you looking at in your existing geographies to get more scale and how competitive is the process?

Scott Schaeffer

Yes, so we're looking to expand in a couple of markets, we have single assets in Orlando, Columbus, it's competitive, but we have significant relationships, we are looking at a couple of OP deals where we have a unique situation to be able to offer that ability. But it's a process of managing our relationships, managing the pipeline, and managing our available capital.

Brian Hogan

All right. Construction activity, you mentioned there was - I mean your locations that don’t have a lot of activity going on, but can you comment on that? Are you seeing increase billing activity, I mean, obviously rents are growing up at a nice pace. Do you see more competition from new build?

Farrell Ender

Yes, this is Farrell. I don’t want to say they don’t have construction, it’s just not near to the level that you seen in other markets. I mean, on a macro level, if you look at - it goes hand-in-hand with the supply multifamily with the supply single-family and the supply single-family homes are down significantly and multifamily is just filling the gap right now.

The restat that just came out for 2016 incorporating the first half for the year, shows that on average our portfolio will have a 90% absorption rate, where the national average will be 75%. So, again, we’re just seeing less the markets that we are exposed to in Orlando, Dallas, Austin, Scarlett. We have less exposure given the amount of property we have in these market and the product is in most cases different than the new products being delivered. Both A minus, B plus properties are not computing with the new construction.

Scott Schaeffer

You have to remember that our average rent is $950 or $950 a unit and you cannot afford new construction at those rent levels. So even the markets where there is some now construction, it’s not near us and that new construction doesn’t really compete for our tenant.

Brian Hogan

All right. With rental rate being I think you mentioned up 5% there about near the summer. What is your ability to continue to push that rent and take that one step further, I mean you are cost and that can good strides there, how much room is left there and then do you have a NOI margin target in mind?

James Sebra

Well we always want the NOI margin to be higher and we've been able to increase that margin, really steadily quarter over quarter. In a B plus class apartment, when you get into the mid to high 50s, you are probably at maximum margin. So I’m not sure there is a whole lot of room left there, but we will continue to do it and as we push rent and control expenses, you will see incremental increases in that margin.

As far as pushing rents, we still believe there is real room, I mean, you have to remember again at $900 apartment per month. If you raise it 5%, you are talking about $45 a month and I’m not sure that even in a period where you have low wage growth that people are going get up and move over $45. So we still think there is a lot of room for continued rent growth in our properties.

Brian Hogan

And one last one for me at the moment is, the payout ratio tick down in the quarter, but it’s still relatively high relative to your peers. Do you have a target in mind and obviously you are growing operating earnings, it’s a best way to do it, but would you benefit from a slight dividend cut to get down along with your peers will help you valuation out, because you are paying out a lot of your earnings.

James Sebra

Well we are paying out lot of earnings and think at the size company that the dividend - and first of all let me say, we have no plans thought for the dividend cut, so that’s not on the table even begin remotely discussed here. The dividend is covered, any savings that we would have from a different dividend strategy would not amount to enough capital to really move the needle in any direction.

The portfolio is well occupied very stable. We are continuing to push rents and grow NOI and core FFO. So we are comfortable with the dividend where it is, even though it may be a high payout ratio relative to our peers, because we recognize the income and NOI is only growing, which will then give us more cushion in coming months.

Brian Hogan

All right. Thanks for your time. Nice quarter.

James Sebra

Thanks.

Scott Schaeffer

Thank you.

Operator

And your next question comes from Patrick Kealey with FBR. Your line is now open. Your line is now open.

Matt Damstrom

This is actually, Matt on for Pat. Just a quick question, regionally when we are looking at rental trends within your core markets where are you seeing the most strengths and being able to push rights higher?

Scott Schaeffer

Austin and Florida. I mean, Austin just continues to impress when we saw double-digit rent growth at one of our properties in high-single-digit rent growth at the other and it's really I think just a testament to the strategy of doing a B to B plus.

Matt Damstrom

Okay, great and on the other hand are there any markets where you are starting to see maybe a little bit of moderation?

Scott Schaeffer

Our two most challenging markets are Oklahoma City and Little Rock, where we are basically flat across the board. And Oklahoma City has obvious reasons, Little Rock is just a smaller market less dynamic, less job growth.

Matt Damstrom

Okay, perfect. That's very helpful. Thank you.

Operator

And your next question comes from Dan Donlan with Ladenburg. Your line is now open.

Daniel Donlan

Thank you, most of my questions have been answered. But just kind of curious on the Trade Street portfolio. I know a lot of the properties that were newly delivered in 2015 and into late 2014 and just kind of curious if they have more odd leasing cycles. I mean typically you see most leases in [Indiscernible] come due in the spring, but since some of these communities were delivered all different times during the year, which is just kind of curious how are you guys are dealing with that and is there the opportunity to see kind of greater rent growth in the back half of the year is that still there in terms of seeing the initial leases that may be were signed upon completion finally starting to turn or is kind of most of that lower hanging fruit over with at this point in time.

Farrell Ender

Dan, it's Farrell. I mean we've gotten through most of it. We've gone through two cycles, there is the opportunity at the Atlanta property Big Creek where we are still in the first leasing phase of Phase II, but it's not going to be significant on the overall portfolio.

Daniel Donlan

Okay. I appreciate it. That's it from me.

Operator

I’m showing no further questions at this time. I would now like to turn the conference back to Scott Schaeffer.

Scott Schaeffer

Thanks everyone for joining our call today and we look forward to speaking with you after the third quarter. Thanks.

Operator

Ladies and gentlemen this does the today's conference. Thank you for your participation. Have a wonderful day. You may now disconnect.

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