iStar Inc. (NYSE:STAR) Q4 2016 Earnings Conference Call February 24, 2017 10:00 AM ET
Jason Fooks - VP of IR and Marketing
Jay Sugarman - Chairman and CEO
Geoff Jervis - COO and CFO
Jade Rahmani - KBW
Ben Zucker - JMP Securities
Andrew Molloy - Bank of America Merrill Lynch
Good day and welcome to iStar's Fiscal Year 2016 Earnings Conference Call. [Operator Instructions].
At this time for opening remarks and introductions, I would like to turn the conference over to Mr. Jason Fooks, Vice President of Investor Relations and Marketing. Please go ahead, sir.
Thank you, John and good morning everyone. Thank you for joining us today to review iStar's fiscal year 2016 earnings report. With me today are Jay Sugarman, Chairman and Chief Executive Officer and Geoff Jervis, our Chief Operating Officer and Chief Financial Officer. This morning's call is being webcast on our website at istar.com in the investors section. There will be a replay of the call beginning at 12:30 Eastern Time today. Dial-in for the replay is 1-800-475-6701 with the confirmation code of 418324.
Before I turn the call over to Jay, I'd like to remind everyone that statements in this earnings call, which are not historical facts, will be forward-looking. iStar's actual results may differ materially from these forward-looking statements and the risk factors that could cause these differences are detailed in our SEC reports. iStar disclaims any intent or obligation to update these forward-looking statements except as expressly required by law.
Now, I'd like to turn the call over to iStar's Chairman and CEO, Jay Sugarman. Jay?
Thanks, Jason. As our press release this morning noted, 2016 saw progress on multiple fronts at iStar. Earnings climbed solidly, profitable sales took place throughout the portfolio and share count was significantly reduced. Our goal in 2017 is to build on this progress, begin to translate progress into shareholder returns. Our internal earnings target for 2017 is $1.50 per share in adjusted income and $0.65 for net income. This compares to the $1.15 and $0.55 per share in adjusted income and net income respectively reported for 2016. Earning will be driven by a combination of increased investments, better balance sheet and cash management and a number of value realizations from portfolio assets that we believe have significant embedded gains.
Turning to 2016 full year and fourth quarter results, we successfully completed many sales and value realizations during the year, but also saw certain sales slide into 2017. Fourth quarter earnings did not benefit from the larger asset sales and realizations we have seen in the second and third quarters, but adjusted income remained positive and helped us exceed our year-over-year goal of growing earnings in excess of 50%. Investment fundings were higher in the fourth quarter and helped push total fundings for the year above 2015, but repayments also bumped higher and significantly outpaced investment fundings for both the fourth quarter and full year. Now with growing liquidity, we anticipate investment fundings in 2017 to exceed levels we saw in 2016 and you'll see us work to begin growing the balance sheet as we move deeper into 2017.
Geoff has quite a bit of information to share. So let me turn it over to him at this point. Geoff?
Thank you, Jay and good morning everyone. Results for the full year were strong, with net income and adjusted income coming in at $0.55 and $1.15 per diluted common share respectively. Full year results exceeded our guidance to 50% year-over-year earnings growth. Consistent with our stated business plan to intelligently monetize non-core assets, 2016 results included material gains from the sale of operating properties and land and development assets. While we have a relative degree of certainty with respect to the company's longer term earnings trajectory, quarter-to-quarter results have and will continue to be volatile as we continue to transition the character of our earnings to a more recurring profile.
Fourth quarter results are a perfect example of this volatility. The net loss of $0.27 per share and adjusted income of $0.04 per share versus $0.44 and $0.47 per share in the third quarter respectively. As we look forward, we are targeting full year 2017 net income of $0.65 per diluted share and full year 2017 adjusted income of $1.50 per diluted share. These estimates represent material growth from 2016 result as we expect continued significant activity in all parts of our portfolio.
Switching to investment activity, during the year, we originated nearly $700 million of new investments comprised of $432 million of new loans and $260 million of new net lease investment. This is also consistent with our stated business plan to invest proceeds from the monetization of non-core assets into our primary loan and net lease business line. During the year, we funded $767 million of capital into a combination of new and previously originated investments as well as ongoing development. On the inflow side, we realized $1.3 billion of sales and repayments during the year. Ultimately, investment in fundings will exceed sales and repayment activity. However, the high volume of sales this year has created a net reduction in invested asset. We continue to ramp up originations and our pipeline and expect this trend to reverse in 2017.
Moving over to the portfolio, our portfolio of investment assets stands at $4.6 billion and it's comprised of our core real estate finance and net lease assets as well as our operating properties and land and development assets. At year end, our real estate finance portfolio was $1.5 billion, generating $58 million of segment profit for the year. We break out our real estate finance portfolio into two categories, legacy loans made pre-2008 and iStar 3.0 loans made during and after the financial crisis. The vast majority of our loans, $1.2 billion are iStar 3.0 loan. These loans continue to be 100% performing and generated a yield of 8.9% in 2016.
Our legacy ones on the other hand are down to only $250 dollars or 17% of the real estate finance portfolio. This sub-portfolio is primarily comprised of one $145 million non-performing hotel loan. As a reminder, our borrower on this loan has filed for bankruptcy protection and while we believe that we are fully covered by the collateral that secures our loan, in light of the uncertainties litigation, in Q3, we took a $12.5 million specific reserve on this loan. As this investment is in litigation, we are unable to give further detail at this time, however as the process progresses, we will update the market as appropriate.
It is worth noting that over the last few years, we have successfully resolved multiple billions of dollars of legacy loans and as of today, we are down to only one such loan of any significance. Our net lease portfolio balance was $1.5 billion at quarter, comprised of $1.4 billion of wholly-owned investments and a $93 million equity investment in our net lease JV. As many of you know, our current net lease investment activity is primarily dedicated to our $500 million equity capital joint venture in which we share a 52-48 partnership with a single sovereign investor. JV also carries approximately two to one leverage. The yield on our overall net lease portfolio was 8.4% in 2016 with same store NOI growth of 4.1%. At the end of the year, portfolio occupancy and weighted average lease term were 98% and 14.7 years respectively and the net lease segment recorded profits of $72 million during the year.
Over to our operating portfolio, where we also made significant progress in 2016. Not only did we receive $377 million of proceeds from operating property sales and record income of $109 million, but also we continued to migrate the character of the remaining assets into more stabilized, ready for monetization shape. At year end, the portfolio is comprised of 29 assets with a gross book value of $608 million. We organize the portfolio into two categories; commercial and residential operating properties. The residential portfolio consists of 48 unsold condos with a balance of $83 million. This sub-portfolio is nearly liquidated after having sold nearly $1.3 billion of residential real estate and realizing gains on sale of nearly $300 million.
The commercial portfolio has also come a long way. Today, over 60% of the portfolio is classified as stabilized with only $189 million of assets classified as transitional. One year ago, the percentages were very different. 80% of the portfolio classified as transitional and 20% as stabilized. The good news is the progress we have made. The bad news is that this well of gains on sale will also soon run dry.
Our land and development portfolio had a balance of $1 billion at quarter end, roughly $100 million less than last year in terms of carrying value. While the book balance of land has remained relatively flat in 2016 and frankly since 2013, the improvement, stabilization transfer and sales of assets out of our portfolio has been material. During the year, we invested or transferred in $181 million of assets and sold or transferred out $221 million of assets. This is a continuation of a trend as we have sold $350 million or 30% of the balance of the land that we held in 2013. The reason the book balance of these assets has remained relatively stable is that we have invested $330 million into the remaining assets and also transferred $90 million of assets into the account over the same period.
The fruits of our labor are that despite having foreclosed on $1 billion portfolio of effectively unentitled land, today, 30% of that book has been sold or transferred. Of the remaining portfolio, 25% is in active asset sales, 40% is in development and except for 10% of the portfolio, everything else is fully entitled. In short, our land portfolio is dramatically different from 2013. On a specific note, in Q4, one of our largest land assets, Grand Vista, a 55-acre site in Surprise, Arizona that was a former Chrysler test track facility, was leased to a Fortune 100 company for $7.5 million a year in rent and is now subject to a purchase option. As a result, this asset was transferred out of our land portfolio and into our operating property portfolio.
In 2017, we expect to continue the trend and monetize between $200 million and $400 million of land and invest between $100 million and $150 million into the remaining assets. On the right hand side of the balance sheet, we remain in a position of significant liquidity as our cash and available borrowings stood at approximately $750 million at quarter end, $700 million as of today and we remain comfortably inside our leverage target of 2 to 2.5 times debt to equity and in compliance with all of our covenants. During the year, we repaid $1.5 billion of debt and issued new debt of approximately $775 million.
In the fourth quarter, our two convertible note securities with an aggregate balance of $378 million, matured and we retired these securities predominantly with cash on hand as contemplated. Subsequent to quarter end, we re-priced the $500 million term loan we issued in 2016 and reduced our pricing by 75 basis points, resulting in a savings of $3.75 million a year.
As we look forward, we expect to continue to capitalize on our improving posture with the rating agencies, banks and debt capital markets in advance of our $925 million of maturities in 2017. On the equity front, in 2016, we reduced basic and diluted share count by 12.5% and 30% respectively. We accomplish this reduction by buying back 10.1 shares of common equity in the market and retiring the aforementioned convertible notes. Also on the equity front, in Q4, we were added to the RMZ index as a hybrid REIT.
Before I turn it back to Jay, I wanted to spend a moment to give an update on our program of increased transparency and access. From a disclosure standpoint, after researching and discussing best practices with our peers, coverage analysts and investors, we have increased our disclosure, particularly our land disclosure in the previously filed 10-Qs and in the 10-K we will file this afternoon. In addition, the level of detail we now provide in our earnings press release and our prepared remarks on these earnings calls has and will continue to increase and be refined. This is only one set of examples of the increased and reported formatted information we now provide the market, as we have also created and posted multiple presentations to our website. Furthermore, as we have promised the market, we’ll be filing our first supplemental Q1 earnings in May.
On the outreach front, we've conducted multiple equity and debt non-deal roadshows and have met with more than 50 investors over the last eight months. In addition, we have attended both debt and equity conferences and will be attending the JP Morgan High Yield Conference in Miami this coming Monday and Tuesday.
In closing, we thank you for your continued support and look forward to the delivery, not only of our transparency and access plan, but more important, on our performance in terms of earnings and stock price. And with that, I'll turn it back to Jay.
Thanks, Jeff. I think there were two big takeaways from 2016. One, the number of assets we were able to realize on the value built up over the past few years. We've talked about these types of assets in the past, but we feel we've created significant value where that success doesn't show up in earnings until a realization event happens. 2016 was very good in this regard and we expect 2017 to be as good or better. And two, the significantly reduced share count from the beginning of the year and really from the middle of 2015 to today. We're retired almost a third of the diluted share count since the second quarter of 2015. I’d like to think of this as compressing the spring, making future successes more impactful and helping set us up for more substantial earnings growth and would have been possible with a higher share count. Delivering on the potential embedded in both these ideas will be a key focus in the coming year.
And with that operator, let's go ahead and open it up for questions.
[Operator Instructions] And we’ll first go to the line of Jade Rahmani with KBW. Please go ahead.
Thanks and good morning. When you say the well of gains will soon run dry, can you give some more color on the underlying asset base, the magnitude of which you expect to drive those gains, and how much runway is left for gains to be a significant earnings driver?
Sure. Good morning, Jade. So as you are well aware, the commercial and residential portfolios of the company have totaled about $3.3 billion when combined together historically and we've realized 400 plus million dollars of gains as we have worked through that portfolio. That portfolio currently stands at roughly $600 million. So just by sheer magnitude, we've brought down the potential for further gains. I think in addition, when you look into the $600 million of the remaining portfolio, roughly $80 million is in residential and that will continue to plug along, hopefully, we’ll get that -- the vast majority of that portfolio resolved in ’17. And then the remainder, $500 million roughly is in the commercial portfolio. Roughly $100 million of that is the Grand Vista assets that we transferred in. So that asset is - I would just probably say, but that more in the stabilized category, I don't necessarily think that is in the monetization camp. And so we only really have about $400 million of book value assets kept. Some of those assets are you know for example the Asbury Hotel and while ultimately that will be monetized, we have no intention of monetizing that asset, it’s about $50 million roughly of book balance until we progress much further along the development cycle with the entire Asbury plant.
So of the $400 million, how much would you say could be monetized in 2017 and 2018?
Jay, we’re not really giving guidance with respect to asset monetizations in that portfolio. I would say as I mentioned that we do expect to make significant and near complete progress on the residential side and with respect to what's left in the commercial portfolio there certainly are some candidates and we do obviously with the expectation we gave out with respect to guidance. We do expect some significant gains in the sales that we do execute.
In terms of the Grand Vista lease, can you give any more color? My understanding is that land is raw. So what's the nature of the lease, the type of company? And what do you imagine will happen? Is this company going to develop an industrial complex or something of that nature? And what's the duration of the lease you entered into?
We tried to give a little bit of the details in the comments but the lease term is five years with an extension right and a purchase option as we mentioned. And again a very substantial Fortune 100 company that is doing it as part of their core research, this was a test track facility, so you can guess some of the uses that might be used for.
Okay. In terms of capital management, what do you expect for loan repayments and also CapEx spend for this year?
So on the CapEx front as I mentioned in the land portfolio - in my land portfolio remarks, we expect to invest somewhere between $100 million and $150 million in that portfolio I think we're very excited about making some progress down at Asbury this year. And then with respect to our capital investments in the remaining commercial portfolio, it's not - it's certainly now that the portfolio has been reduced and primarily stabilized those numbers are going to be dramatically reduced in 2017. Our order of magnitude of our investments in operating portfolio would be you know call it somewhere in the $50 million range. And on the repayments front, there's just so many - so much out of our control. I think we do estimate that we will put more money out then ultimately is repaid and to the extent that repayments are less than we anticipate obviously that will lead to portfolio growth.
In terms of capital allocation, it looks like originations are generating 50 basis points or so higher yield, maybe higher than that, depending on type, than net leased, but the duration is shorter. So how do you look at balancing those two, and how do those returns compare with the returns on land CapEx?
I guess I'm bracket them in a couple different ways. On the finance business we're trying to stay away where most of the competition is. So we have been able to generate some higher yields in some situations where either a particular expertise or a particular leverage point we had allowed us to get extra return. What you see cash on cash on the net lease business is obviously just the return on the asset obviously those assets inside the JV have the potential for slightly higher returns based on the promote structure we have. And certainly don't reflect some IRR potential we think in the ultimate realization value of those assets. So we don't compare those just on cash on cash, we compare them on an IRR and ROE basis and we think they're both quite attractive right now. Land itself obviously we think about in a higher return category than the other two. So it does have to hit a higher hurdle rate. But we think embedded in our existing portfolio are some pretty attractive highly proprietary opportunities. And to the extent they can reach that bar, we're willing to continue to spend money on them. When they don't reach that bar, we pull back. So right now we're seeing given the still fairly strong numbers we see in the homebuilding industry and in some of the markets we're in that we should be able to turn those capital investments into attractive returns that beat our hurdle.
As we stand here today, in terms of the debt maturity profile, how do you plan to address those quite significant 2017-2018 maturities?
So we have a $100 million coming due in March, we have $275 million that comes due and is open to repayment in June and then we have a $550 million piece that comes due in November that is open in August. It's 4% debt so I would imagine we're not asked to repay that just any earlier than we have to. The way we'll address that you know we obviously we have access last year, we accessed multiple markets, we accessed a bank term loan, we accessed obviously revolver market, we accessed term loan market, we accessed the unsecured market and so we have many arrows in the quiver. And I think that our outreach efforts are paying dividends with respect to people paying attention and taking interest in iStar and so I think while certainly we are very diligent about it we have the utmost confidence that we will be able to refinance that debt and also as you know we carry today liquidity stands at $700 million. So we have ample liquidity on hand if you think about that with respect to repayment et cetera. We have a lot of levers that we control.
Thanks for that. Lastly, I just wanted to see if you could comment on the New York City condo market, both the standing of your existing projects and exposure, as well as how you see the current supply-demand dynamic playing out.
I think we saw actually a little bit of a pop here that went into the new year, I ascribe that to really a slowdown around the election cycle last year, some certainty it feels like some of those sales came back into the market. I wouldn’t expect that to continue that strength, but we did consistent buying through the first 45 days of this year. I think the good news for us is the - our basis in our remaining New York condo stuff is really safe. So we really don't feel like we have much exposure to the market right now. We do think there is supply that has touched the market that's going to make a new projects face some headwinds. But I think that can also be an opportunity. So as we see our existing portfolio reach either full realization or repayment. We will continue to look and see if there's any opportunities in that market.
Next we’ll go to Ben Zucker with JMP Securities, please go ahead.
The first one is kind of just high-level. In the L&D portfolio, I noticed that you mentioned the portfolio was entitled for 30,000 lots on the last earnings report, and that number was now 15,000. And I was just wondering is that related to the Grand Vista migration, or has there been any kind of change in plans or strategy there?
You got it Ben.
Just Grand Vista?
Cool. And then turning to the lending side, it looks like roughly half of all of last year's repayments came in the fourth quarter. And now that we sit almost 2 months through first quarter of 2017, I'm curious, has the level of repayment subsided? Or is it still elevated? And if I could go one further, and see if you could offer up any kind of nearer-term outlook for originations or repayments for the real estate finance segment, maybe just for like the first half of 2017, where you have better visibility, that would be helpful.
I think we have very large repayment in the fourth quarter so that was a bit of one timer. We do continue to receive repayments in ordinary course of business. So you'll see and I think we've said in the past couple of hundred million dollars of money going out the door and we expect something less than that this year for quarter coming in the door. It will be again dependent on some idiosyncratic factors. But our goal is to bump up originations, we have lots of liquidity, we have lots of sources of capital. Some of them are quite attractively priced right now, so I think the goal is to have those dollars going out the door, increase over time and we think dollars coming back this year. We're not expecting anything crazy, so not inconsistent with what you saw last year on an average basis.
Okay, that's very helpful. And then maybe on the same theme of capital deployment, I was just wondering how you guys view or feel about additional buybacks here at the 17.50 level. I know you still have a buyback in place, and in the past you have certainly shown a willingness to use it. And your comments around growth in earnings, tightening of the coil and managing cash balances better -- it just -- it seems like something that could be may be coming back in play. Is that a fair characterization? Or, given the debt maturities and all the moving pieces, is that just still more defensive at this point, and for optionality purposes?
Obviously we made a lot of progress on that front. I think [indiscernible] share repurchases over the last 18 months, we've probably done 17, 18 million shares at under $10. We think that was a good use of capital for the company. We'll continue to evaluate weakness in the stock, we will always look as a potential opportunity to redeploy some of that capital into our own balance sheet. But hopefully we're also seeing some pretty interesting investment opportunities. So it will be you know way both and see which one has the best impact for us.
Makes sense. Well, that's it for me. Congrats on a strong year; and nice job hitting your targets, guys.
Next we’ll go to Andrew Molloy with Bank of America Merrill Lynch. Please go ahead.
I just wanted to turn back to the original question about your debt maturity schedule. Can you provide any more color in terms of some of the levers that you would like to pull? I know you are mentioning that you have access to many markets. Do you have any idea, as you look forward on the $925 million through this year, what markets are most attractive to you and how you think about the refinance?
Absolutely, I think that you know as we have stated multiple times with conviction and we continue to state with conviction. We are committed unsecured borrower at a substantial unsecured borrowing base and we would envision a substantial amount of whatever we do would occur in the unsecured market.
Thank you. And just turning more high-level, can you walk us through or remind us on what your thoughts are on the optimal capital structure for the Company? And what would you see with the five preferreds that are callable in March, and if there is anything that you might do with those securities?
Sure. I think the optimal capital structure for the company and we've mentioned in the past you know our target leverage level is 2 to 2.5 times. The preferred are an important part of our capital structure. That said we have significantly shrunk the common equity capital base and so if we wanted to keep sort of the ratios in line, I think we do from time to time look at rightsizing the preferred, we have nothing sort of pending. But it’s certainly something that we consider and obviously we look at both the equity and debt markets and see what looks attractive relative to the preferred we have in place. But I think that talking about the optimal capital structure, I think it goes without saying that our maturity profile, we would like to carefully grab more duration I think that we're a little reluctant to go out and look sort of in the seven to ten year range just because of the cost. I think that we feel like you know sort of anywhere in that [indiscernible] would be nice to add and to push out duration a little bit. That said I think that as all of our remarks have consistently confirmed, we believe that we are in a period of transformation and so we're going to measure that, desire to get a little more duration against the fact that this company is making a lot of positive moves with respect to assets and liabilities. And taking duration right now needs to be measured against that.
Thank you. And one last question on the preferred. If you need to, can you remind us that -- do all six of those tranches have the ability to defer the dividend payment on those, if you need to pull that lever?
Yes they do.
And Mr. Fooks, we have no further questions.
Thank John. And thanks to everyone for joining us this morning. If you should have any additional questions on today's earnings release. Please feel free to contact me directly. John, would you give the conference call replay instructions once again. Thanks.
Certainly, and ladies and gentlemen the replay starts today at 12:30 PM Eastern Time today and will last until March 10 at midnight. The dial in for the replay is 1800-475-6701 and the access code 418324. That does conclude your conference for today. Thank you for your participation. You may now disconnect.
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