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Sun Communities Inc. (NYSE:SUI)

Q4 2007 Earnings Call

March 17, 2008 11:00 am ET

Executives

Gary Shiffman – Executive Chairman, CEO

Jeffrey Jorissen – Senior Advisor

Karen Dearing – CFO, Executive Vice President, Secretary, Treasurer

Analysts

Craig Nelcher – Citigroup

Brian Roman – Rice, Pack & Greer

Andrew McCullock – Green Street Advisors

Jeff Cross – Cross Capital

Steven Rodriquez – Lehman Brothers

Operator

Greetings and welcome to the Sun Communities Inc. fourth quarter 2007 earning results conference call. (Operator Instructions)

As a reminder, this conference is being recorded. At this time, management would like to inform you that certain statements made during this conference call, which are not historical facts, may be deemed forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995.

Although the Company believes the expectations reflected in any forward-looking statement are based on reasonable assumptions, the Company can provide no assurance that its expectations will be achieved. Factors and risks that could cause actual results to differ materially from expectations are detailed in this morning’s press release and from time to time in the Company periodic filings with the Securities and Exchange Commission.

The Company undertakes no obligation to advise or update any forward-looking statements to reflect events, circumstances after the date of this release.

Having said that, I would like to introduce management with us today Mr. Gary Shiffman, Chairman and Chief Executive Officer, Miss Karen Dearing, Chief Financial Officer and Mr. Jeff Jorissen, Former Chief Financial Officer. Thank you Mr. Shiffman, you may begin.

Gary Shiffman

Good morning everybody, this morning we reported funds from operations of 14.3 million or $0.70 per share for the fourth quarter of 2007 before 9.9 million or $0.48 per share of charges related to our investment and origin.

FFO per share for 2007 was $2.72 before the aforementioned charges related to origin.

Incomparable FFO per share for 2006 was $0.55 for the fourth quarter and $2.61 for the year again before 2006 impairment charge.

Net loss for the fourth quarter and year ended December 31, 2007 was 10.2 million or $0.57 per share and 16.6 million or $0.93 per share respectively including the origin related charges.

Total revenues increased from 227.8 million in ’06 to 236 million in 2007. Origins operating results for 2007 were profitable and in fact grew nearly 40% from ’06 operating results.

The loan portfolio has record low default rates, charge drop and delinquencies in ’07 and recoveries on defaulted loans were at a record high in ’07 as well.

The charges related to goodwill and loan impairment were a result of macro economic forces described in DPL & Origins press release of March 13, 2008. Origins Board of Directors is assessing strategic alternatives including sale of some or all of the Company or a continuation of operations related to third party fee business and management of its one million dollar loan portfolio.

At this time, what I would like to do is turn to Sun’s portfolio for review beginning with the weighted average rental increase for 2007 of 3.54% or just slightly above our ’07 guidance of 3.4%.

Our same property portfolio of 135 communities registered a revenue increase of 2% while expenses increased by 1.5% resulting in an NOI increase of 2.2% for the quarter.

Our occupied rental homes stand at 5,328 at the end of December ’07 an increase of about 752 from the prior year-end and the average monthly rental rate increased by 4.7% to $718 from $686 at year-end of ’06.

During 2007, we sold 353 rental homes compared to 170 in ’06. Through the first two months of ’08, we have had 82 sales of rental homes through the first two months.

In 2005, we purchased 2,185 homes and sold 425 homes for a net purchase of 1,760 homes. In ’06, we purchased 1,343 homes sold 492 for a net purchase of 851 homes and in ’07 we purchased 1,285 homes sold 712 for a net purchase of 573. Most of the net purchases are dedicated to the rental program and in two years the gross home purchases have declined by over 40% while net purchases have declined by 67%. The bottom line is that home purchases are declining, home sales are increasing and home purchases dedicated to the rental program are also declining.

In 2007, we lost 132 revenue-producing sites in our manufactured housing portfolio compared to a loss of 508 in 2006. This improvement was supported by a decline of about 260 homes repossessed by lenders in 2007 as compared to 2006. Our fourth quarter performance demonstrates substantial improvement over 2006. Q4 of ’06 we lost 439 sites as compared to fourth quarter of ’07 where we lost 67 sites.

Twenty-one or 15% of our communities lost approximately 400 manufactured housing sites in ’07. These communities represented two of the eleven in Ohio, seven of our 18 communities in Indiana, 11 of 46 in Michigan and one in Kansas. The occupancy issues remain confined to a limited number of communities in several weak markets.

As we turn from our portfolio review to our Company outlook excluding origin related charges, Sun’s FFO per share has grown from 254 in ’05, to 261 in ’06, to 272 in ’07 with earnings guidance of from 276 to 282 in ’08. That would represent compounded annual growth of just over 3% to the midpoint of our ’08 guidance.

In 2007, each category of same property showed growth in that operating income, RV communities, retirement communities and all age communities. This was also the case in ’06 and our 2008 guidance compares to our 2007 performance as follows:

weighted average rental increases of 3.1% in ’08 compared to 3.5% in ‘07

same property operating net income growth of 2.4% in ’08 compared to 2.1% in ‘07

the reduction in occupancy of 100 sites in ’08 compared to actual loss of occupancy of 132 in ‘07

Our expectation for growth in 2008 occurs within the context of the turmoil in the credit markets and concerns related to the economic prospects of the Midwest. The primary reason for the confidence in the manufactured housing industry and specifically our performance has been discussed different times and on occasions during these phone calls. The demand for affordable housing and the improving credit profile of the home owners in our community.

The demand for affordable housing is perhaps best measured for us by applications for living in our communities. In ’07, applications to live in our communities exceeded 14.500, which was almost 50% greater than the ’06 applications. Applications to buy homes increased from 1600 to 1700 as we state in our press release today. Sales of new and pre-owned homes increased from 500 in ’06 to 700 in ’07. The demand for affordable housing remains evident in every one of our markets.

There are several affordability measures that we like to point to. The construction cost per square foot of the average 1600 square foot manufactured homes according to the Manufactured Housing Institute was $40.13 for ’06 compared to $92 for the average 2.450 square foot site built home excluding the land. We believe even with continued pressure in the current site build housing market, the gap or affordability factor as we refer to remains very favorable. We seek to capture a customer that can only afford our product.

The average monthly rent for our rental portfolio is $1718 per month that equates to approximately $0.55 per square foot per month, for a 5,000 square foot site, with the home and adjacent parking and amenities equivalent to most apartment complexes; we believe superior privacy characteristics.

Our signature series of homes with square footage ranging from 1.456 to a little over 1,900 square feet and featuring drywall, nine-foot ceilings and site built features. Our deluxe model is retailing for approximately $0.50 per square foot, which includes site rent. Again, this compares to a site built home of 1,750 square feet financed at 6% for 30 years with annual property taxes around $4,300 that equate to a monthly cost of about $0.80 per square foot here in Michigan where we first began test marketing the Signature Series.

The improving credit profile of our homeowners is reflected in the following ways. The number of homes repossessed by lenders has declined from nearly 1,400 in the period of 2003 to 2005 to about 800 in 2007 and is currently running 50% of that high rate or at a rate of around 700 annually based on the first two months of 2008.

The average monthly delinquencies approximated 1.1 million in 2007 compared to 1.4 million in the peak year 2003. Bad debts have stabilized as a percentage of income from property at about 70 bases points currently and for the last two years.

In a challenging environment, we are very pleased with our results in 2007. We do look forward to slow continued, steady growth in 2008.

At this time I, Karen and Jeff would open it up to any questions.

Question-and-Answer Session

Operator

Thank you, ladies and gentlemen at this time we will be conducting a questions and answer session. (Operator Instructions)

Your first call is from the line of Craig Nelcher with Citigroup please proceed.

Craig Nelcher – Citigroup

Hi, I am here with Michael Billerman as well. Can you talk about in the financing environment for individuals looking to buy homes and put them in your communities today with Origin and others in the market place?

Gary Shiffman

Certainly, I think the most visible change that is taking place is what has happened at Origin as they discussed and we talked about briefly, the current conditions in the credit market make it not profitable for them to originate loans based on their securitization model. I think they were the primary lenders who used that model and the other lenders of note would be Vanderbilt and existing banks that (inaudible) dependents on securitization model, we haven’t seen any change in originations from those other groups; however, I think that there will be an effect overall by Origin not originating loans currently. They are much less than 1% of all the loans that originated in the Sun portfolio on an annual basis. I don’t think it has a direct effect on the Company as far as selling to third parties but certainly it is not a positive factor.

Craig Nelcher – Citigroup

Are there changes in the interest rates on loan just our in the market today that individuals can get?

Gary Shiffman

I think that for those individuals who qualify with the local vending institution and banks, they’ve seen a positive improvement to their lending rates related to the recent reduction in overall interest rates. I think that has been about the extent of it right now.

Craig Nelcher – Citigroup

What is your expectation for margins in the home sales business in ’08 with all this activity?

Gary Shiffman

Speaking to the biggest program that we are launching in ’08, which is the Signature Program, which to date in late December we rolled out about 20 communities with Signature sales, which are geared to just break even; but, increase new revenue producing sites. There is no margin there and I will turn to Karen and Jeff to talk about the rest of Sun Home services.

Jeff Jorissen

We are seeing some recovery in the Florida market, which has strong margins. We would expect them to be in their traditional 20 to 25% range. The mid-west and the rest of the portfolio Texas is a strong market and we really wouldn’t see much change in margins as we go into 2008 as compared to prior years with the exception that we are value pricing Signature Line and we would expect those margins to be closer to perhaps 10% than 20%.

Craig Nelcher – Citigroup

The last question, G&A in the quarter was quite low. Is there anything specific going on there and what run rate do you expect in ’08?

Karen Dearing

G&A for the quarter and for the year includes a reversal of about $900,000 of deferred compensation amortization. I think we have the run rate for earning our guidance for 2008 we had G&A of about 16 million.

Craig Nelcher – Citigroup

Thank you.

Operator

(Operator Instructions)

Your next call is from the line of Brian Roman with Weiss, Pack and Greer please proceed.

Brian Roman – Weiss, Pack and Greer

Good morning, I had to go in and out of the call so you may have answered some of this stuff. Your balance sheet, could you just remind us about your funding needs over the next 12 to 18 months.

Jeff Jorissen

We have maturities in 2008 of about 16 million and in 2009 of about 28 million and we’ve got a considerable capacity, like $70 million on our lines of credit. We do not foresee any critical financing situation arising during that period although we are always looking at the marketplace in terms of rates. Of course, rates although volatile can be attractive even now. We will proceed with our financing on an optimistic basis.

Brian Roman – Weiss, Pack and Greer

What are your funding needs going forward?

Jeff Jorissen

I just indicated we have debt maturities of 16 million.

Brian Roman – Weiss, Pack and Greer

I mean in terms of growing the business, do you find it advantages to that right now?

Jeff Jorissen

Acquisitions Gary?

Gary Shiffman

Yes, I think that we have made it clear strategically right now we are deep into the last portion of strategically getting in and out of the rental program as best we can, to asset manage the toughest properties that we have, in the Midwest in particular Michigan, Indiana and Ohio, some of Illinois. That coupled with not a lot of CAP rate movement and a difficult environment to finance properties, we do not see acquisitions as an area where we are going to need capital over the next 12 months. We do carefully look at the acquisition of homes, which has been the biggest use of capital and we see that steadily declining.

Additionally, in our Signature Program where we have been prepared to finance in house the first hundred homes about 70% of the 15 or so homes that have sold so far have been financed with third party capital. We have reduced capital needs there. We do have the capacity on encumbered properties to lever up on those and I think the opportunity for capital will be close examination of what we could utilize those proceeds for with these stock being always an attractive value at this current time. We are waiting to see how the market values the unencumbered properties to determine what we could do with our capital. There are no pending major capital needs that we are looking at right now.

Brian Roman – Weiss, Pack and Greer

That was a long way of saying that spreads aren’t wide enough right now to really go out and make any acquisitions.

Gary Shiffman

That would be correct as of this time on the acquisition front. I think we would do better just buying the stock.

Brian Roman – Weiss, Pack and Greer

You said you had a 3.5% rental increase on your sites in ’07. What’s your expectation in ’08?

Gary Shiffman

3.1% is in guidance.

Brian Roman – Weiss, Pack and Greer

Okay, thank you

Operator

Your next call is from the line of Andrew McCullock with Green Street Advisors please proceed.

Andrew McCullock – Green Street Advisors

Hi, good morning. What are the current spread that an individual can receive or have access to on a shadow loan versus like a 30 year fixed conforming mortgage?

Jeff Jorissen

This is the retail buyer loan? Andrew, could you re-ask the question?

Andrew McCullock – Green Street Advisors

What is the current spread, the current rates on shadow financing versus buying a single family home? It’s 200 to 250.

Jeff Jorissen

I am going to guess; you are starting with 9.5% channel loan with a larger spread for financing because of the more in cut for servicing, about a hundred bases points, you are taking it down to about 8.5% compared to whatever is available out there in the 6% range. I would imagine about 20 to 30 bases points for servicing. You are a good 250 to 300 bases point spread.

Andrew McCullock – Green Street Advisors

Could you give us an update just on Fannie and Freddie’s role in your space bowl from their appetite to buy shadow loans as well as their interest in financing at the community level.

Jeff Jorissen

I think that could be best when Brian and Former Chief Operating Officer and now our President addresses that and I do when we’ve both been in the industry for over twenty five years now and I can best describe Fanny and Freddie as having an appetite but never coming to the table. They just talk like they have a program and they are charged by the government to make more affordable “loans.” They never seem to have put together the programs to assist the industry.

Andrew McCullock – Green Street Advisors

Okay great, thanks.

Operator

Your next call is from the line of Jeff Cross from Cross Capital please proceed.

Jeff Cross – Cross Capital

Good morning guys, I was wondering if you could give us a little more detail on just where we are with the Signature Program and what’s happened year to date and what’s likely over the next few months.

Jeff Jorissen

I will respond to what I can because year to date hasn’t been reported yet. I understand that we are probably one quarter behind where we would like to be, we had a lot of disappointments when we rolled out the program in December due to very harsh winter conditions, which not only effected the promotions we wanted to do in the turn out but also the actual set-up and delivery of the homes.

About 20 communities now have Signature operations and inventory. They are predominantly in Michigan with a few in Indiana that’s where we rolled it out first. I think that we have 20 more communities in Texas and Colorado to be opened up during the second quarter and there are about 12 Signature sales in the budget for first quarter.

Twelve sales in the budget for first quarter and we are, I would say, one quarter behind where we would like to be at this point due to initial weather conditions and challenges to get the program going.

Jeff Cross – Cross Capital

Okay, thanks very much.

Operator

Your next call is from the line of Steven Rodriquez with Lehman Brothers please proceed.

Steven Rodriquez – Lehman Brothers

Hi, good morning that 12 that you just mentioned in other word two and a half months into the first quarter, how comfortable are you with it?

Jeff Jorissen

I think that 12 is in our budget because we believe it’s the right number for the quarter. While we have had some sales, sales have been slower than we like just due to weather conditions. I think that the main emphasis as we roll out the program is really creating the affordability factor and the value proposition that we’ve talked about for the customer and it appears on a comparative basis that we think we are right where we should be to hit our budget for 2008.

Steven Rodriquez – Lehman Brothers

Okay, fair enough. I am not sure if you mentioned this but have you been buying back your stock in the fourth quarter?

Gary Shiffman

We did not buy back any stock in the fourth quarter.

Steven Rodriquez – Lehman Brothers

As you said before, you would be honest in possibly going forward?

Gary Shiffman

I believe the Board is carefully reviewing that on a quarterly basis and it is something that is attractive now from a return standpoint and we believe a long-term value and it’s a question of deploying capital for the right needs for the Company and determining the cost per capital right now, which we are looking into.

Steven Rodriquez – Lehman Brothers

Is there a program put into place?

Karen Dearing

Yes, there is. We have 400,000 shares remaining on a million-share authorization.

Steven Rodriquez – Lehman Brothers

Great, thanks and my last question relates to the part of the write down. The 8 million portion of the write down from the origin of 32 million or so and I was wondering if you could talk further. What is the reason why that was written down? I’m not sure why that was written down because it seems like you…I thought it was more of an equity balance. Obviously, you write March’s market year equity balance, your line item; but I am not sure why that is also written down.

Karen Dearing

Those are items that were reported in Origin financial result. We be into our equity launch from affiliate, our percentage of those two items the goodwill impairment and the investment impairment.

Steven Rodriquez – Lehman Brothers

Okay, by marketing your equity value in the affiliate that doesn’t also take into account the goodwill write down, the affiliate does.

Karen Dearing

Essentially, that equity is off from affiliate and will take our investment value down and then we wrote in down another $1.9 million.

Steven Rodriquez – Lehman Brothers

Okay, fair enough thanks.

Operator

There are no further questions in the Q at this time. I would like to hand it back over to management.

Garry Shiffman

As I said earlier, I think the overall portfolio performance and performance that the Company was on track for what we hoped in 2007. Occupancy or loss of occupancy was greatly improved over ‘06 and we look for more steady slow growth in ’08. Karen, Jeff and I are always available for any follow up questions. We look forward to reporting first quarter results and appreciate everyone’s participation, thanks.

Operator

Ladies and gentlemen this does conclude today’s teleconference. Thank you for your participation. You may disconnect your line at this time.

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