Sun Communities - Q3 2013

Transcript

Operator (participant)

Ladies and gentlemen, thank you for standing by and welcome to the Sun Communities Third Quarter 2013 earnings conference call on the 29th of October, 2013. 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 statements 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 form and from time to time in the company's periodic filings with SEC. The company undertakes no obligation to advise or update any forward-looking statements to reflect events or circumstances after the date of this release.

Having said that, I'd like to introduce management with us today: Gary Shiffman, Chairman and Chief Executive Officer, Karen Dearing, Chief Financial Officer, and Jeff Jorissen, Director of Corporate Development. Throughout today's recorded presentation, all participants will be in a listen-only mode. After the presentation, there will be an opportunity to ask questions. If you have a question, please press the star followed by the one on your touch-tone phone. If you'd like to withdraw your question, please press the star followed by the two. And if you are using speaker equipment today, please lift the handset before making your selection. I would now like to turn the conference over to Gary Shiffman. Please go ahead, sir.

Gary Shiffman (President and CEO)

Thank you, Operator, and good morning. Today we reported funds from operations of $32.1 million, or $0.82 per share, for the third quarter of 2013, compared to $21.5 million, or $0.71 per share, in the third quarter of 2012. For the nine months of 2013, FFO was $90.9 million, or $2.44 per share, compared to $70.5 million, or $2.39 per share, in the nine months of 2012. All these results exclude transaction costs related to acquisition activity in all periods. Revenues for the nine months increased by 25% from $248 million in 2012 to $310 million in 2013. And at this time, I'd like to report portfolio. During the first nine months of 2013, revenue-producing sites increased by 1,312, as compared to an increase of 975 sites in the nine months in 2012.

Of that occupancy gain, or of the occupancy gain of 1,312 residents, 983 were in our same site portfolio, while 329 were in our recent acquisitions. The occupancy improvement in recently acquired properties reflects the success of our strategy to acquire high-quality, well-located communities based on in-place NOI that include vacancies or other market attributes that the company can take further advantage of, such as below-market rents and absence of capital by sellers to maintain or improve the communities. By filling these vacancies and investing capital to reposition them, we are able to accelerate the growth of net operating income in many of our acquired communities. Portfolio occupancy is at 89.6% at September 30th and is expected to exceed 90% by year-end and approach 93% by the end of 2014. At that time, the existing portfolio will have effectively achieved full occupancy.

As occupancy growth requires the investment in new homes in our communities, the activity will subside to a level necessary to sustain portfolio occupancy at around 93%. It's expected that the sales of the rental homes will significantly exceed rental new home purchases at that time, and the proceeds from sales will exceed the capital needed for any home purchases. The only prospective need for significant new home purchases for these rental programs would be due to expansions or the purchase of what we refer to as free vacant sites and community acquisitions, both of which represent sources of strong earnings growth. Now we turn to the same site portfolio of 159 communities. Revenues increased by 4.9% in the first nine months, while expenses increased by 3.6%, resulting in a 5.4% increase in NOI. The same site occupancy increased from 87.2% to 88.8% from September 2012 to 2013.

Home sales for the first nine months were 1,433, an all-time high at Sun Communities. This compares to 1,253 homes sold during the nine months ended September 2012. Applications to buy or rent homes in our communities exceeded 23,000 for the nine months, an increase of over 15% from 2012. Nearly 100 potential residents are applying for occupancy or purchase of a home across the portfolio every single day. Reviewing our expansions of existing communities, they continue on plan. We currently have 1,230 sites under development in eight communities, with 470 to be opened in the fourth quarter and the remaining 760 opening in 2014. Expansions are always scheduled in our communities with strong demand profiles and nearly full occupancies. While expansions are concentrated in the extremely strong Texas market, nearly a third of the sites will open in Ohio, North Carolina, and Colorado, where demand remains exceedingly strong.

Due to the strength of these markets, rental homes placed in these communities we expect to command premium pricing. Turning to our acquisitions, the company currently has approximately $160 million of manufactured housing in our communities under various stages of agreements and in advanced due diligence. Approximately $135 million of these communities will increase the company's footprint on the East and West Coast, as we shared as our focused strategic growth areas. Closing is expected on several of the communities late fourth quarter and early in 2014. On a separate note, the company recently settled all claims arising out of the litigation that had commenced against the affiliate of Equity Lifestyle Properties with respect to our recently acquired Morgan RV Resorts. In connection with that settlement, the company and ELS completely and fully released each other from any and all claims associated with the Morgan RV acquisition.

With this behind us, we will continue to move forward with the repositioning and capital investment required for the success of these acquired properties. Although 2013 results were impacted by a slight delay in beginning the capital improvement projects, we are gaining traction in seasonal business and expect that this increase in seasonal contracts, along with currently booked future reservations and a positive response expressed by returning guests, will create mid-teen revenue growth in this portfolio in 2014. We are currently in the process of refinancing our July 1st, 2014 debt maturity of approximately $170 million. The window for prepayment without cost begins January 1st, 2014, and we expect to pay off this maturing debt at that time with financing transactions of 10 and 12 years, whose indicative pricing based on current rates is approximately 50 to 85 basis points below the in-place interest rate on this debt.

The completion of these transactions will extend the weighted average maturity of our debt from 6.5 years to 10 years. We tightened our 2013 FFO guidance to $3.19-$3.23 per diluted share and expect fourth quarter to approximate $0.75-$0.79 per diluted share, excluding acquisition-related expenses and subsequently closed acquisitions. We expect to p````rovide 2014 guidance before the end of this year. At this time, Operator, we will turn it back over for questions and answers.

Operator (participant)

Thank you, sir. Ladies and gentlemen, we will now begin the question and answer session. As a reminder, if you have a question, please press the star followed by the one on your touch-tone phone. If you would like to withdraw your question, please press the star followed by the two. If you are using speaker equipment, please lift the handset before making your selection. Our first question is from the line of Jana Galan from Bank of America Merrill Lynch. Please go ahead.

Jalan Galan (Director)

Thank you. Good morning. I was curious with your $160 million potential acquisition pipeline, if you can give us some detail on what % is RV versus MH and how you plan to fund it?

Gary Shiffman (President and CEO)

The approximate breakdown is a 40 MH, 60 RV. We're very pleased that the RV communities that are currently under acquisition contain anywhere from 60%-90% seasonal RVs, so very, very stable, established RV revenue should be in place at the time that we take them over. I think that we've intended, for the most part, to fund these with a combination of their existing debt and draw off of our credit facility or directly to our credit facility if there is no debt in place.

Jalan Galan (Director)

Thank you. Then maybe more broadly, if you could comment on what you're seeing on the market in terms of cap rates.

Gary Shiffman (President and CEO)

Sure. You know, when that question comes up, certainly I've shared with the market and many others in this industry that there doesn't seem to be much change in the cap rates through long periods of time in manufactured housing. We've seen some compression in the RV world of maybe about 100 basis points of compression in cap rates from where it was a few years ago. Everything that we're looking at acquiring that I mentioned and that we put in our press release is betwee`n seven and eight cap rates.

Jalan Galan (Director)

Thank you. And then maybe just following up on the timing of the 2014 guidance, are you just waiting to get more clarity on the closing of the deals and maybe the terms for your debt refi, or is there something else that you're waiting to see how it plays out?

Karen Dearing (CFO)

Jana, we're in the middle of doing our budget process right now, so still kind of looking at that, and then we'll have a little bit more clarity on those acquisitions as time goes by.

Jalan Galan (Director)

Great. Thank you very much.

Operator (participant)

Our next question is from the line of Michael Bilerman with Citigroup. Please go ahead.

Nick Joseph (Global Head of Real Estate Research and Head of US Real Estate and Lodging Research Team)

Great. Thanks. It's actually Nick Joseph here with Michael. Sticking with the acquisition pipeline, how large of a shadow pipeline is there behind the current acquisition pipeline?

Gary Shiffman (President and CEO)

I think that we were quite specific to only indicate the pipeline that we have actually either under a letter of intent or a purchase agreement, and the pipeline probably beyond that is about 100% equal to that amount.

Nick Joseph (Global Head of Real Estate Research and Head of US Real Estate and Lodging Research Team)

Okay. Thanks. Then in terms of refinancing next year's debt, can you talk about the demand that you've seen so far from lenders and how much all-in rates have moved since you began discussions given the increase in the 10-Year?

Gary Shiffman (President and CEO)

I think that, and Karen can answer this if she wishes, we have seen a very strong appetite both on a securitized basis from bank balance sheet and from life company. And so the bidding and competitive process has been very aggressive, and we're very pleased at how tight the pricing has come in. And then more recently, we've seen, after a little bit of a rise in the 10-Year over the last 5, 6 days, a reduction of those rates. And I think we're looking to take advantage of that, knowing what we are trying to accomplish for first quarter refinancing of the debt that we discussed.

Karen Dearing (CFO)

Yeah. Nick, just more specifically, that debt is at a 5.05% rate right now. A piece of that refinancing is locked in at 4.2%, and indicative pricing on the other transaction is around 4.55%.

Nick Joseph (Global Head of Real Estate Research and Head of US Real Estate and Lodging Research Team)

Okay. Great. Thanks.

Operator (participant)

Ladies and gentlemen, if there are any additional questions, please press the star followed by the one at this time. If you are using speaker equipment, you'll need to lift the handset before making your selection. Our next question is from the line of David Harris with Imperial Capital. Please go ahead.

David Harris (Analyst)

Hi. Good morning, all. Maybe I missed this, but it looked like expenses, property operating expenses took quite a jump in the quarter. Was this something seasonal, or is this reflecting rather more the change in the composition of the portfolio over recent years?

Karen Dearing (CFO)

Well, I mean, on a same-site basis, David, we were in line with guidance on our top-line revenue. On our expenses, we missed guidance on expenses by about $270,000 for the quarter and about $550,000 we're up for the year. Those misses in same-site are primarily related to additional payroll costs and additional costs of some health benefits. We had some tough claim year this year. We've had three years of very strong claim years on our self-insured plan, and this year we just had a few larger claims, so we don't expect those to continue.

David Harris (Analyst)

But the payroll is going to be more of a permanent feature, isn't it?

Karen Dearing (CFO)

Yeah. Payroll will likely continue.

David Harris (Analyst)

Okay. And then CapEx took a big jump up this quarter. Again, is that seasonal? Because I'm looking at your third quarter last year, which you very helpfully provided for us, and it was at a much lower level. I mean, is that more related to activity in the quarter and we can expect it to tail off? Or again, is that reflecting a rather more higher run rate than we've had in previous years?

Karen Dearing (CFO)

That's reflecting a one-time project that we put into place this year. We allocated between $3.5 and $4.5 million for a significant road improvement in some of our communities.

Gary Shiffman (President and CEO)

Same thing in the Midwest. While we have a solid CapEx program, it had been probably 10, 15 years before we really did anything significant with our Midwest roads, and I think that it was kind of a desire to put them back into position for the next 10 or 15 years, so.

David Harris (Analyst)

Well, again, yeah, again, I asked the question then, should we assume a higher run rate than you've been running at in the past? I mean, obviously, these are very low levels, but it does rather impact one's thinking about perhaps the dividend.

Karen Dearing (CFO)

No, I wouldn't expect. It is a one-time event that we're talking about, and we've been running probably $150-$165 a site, and we'll continue to do that.

David Harris (Analyst)

Okay. Then looping it back and just repeating that question for you, perhaps, Gary, this doesn't impact in any way on your thoughts around dividend?

Gary Shiffman (President and CEO)

No, it doesn't. What I've shared with the marketplace is the board anticipates right after the first of the year at our next board meeting to review the dividend policy. Historically, at around an 80% payout ratio, we have looked to increase the dividend. I think that that would be the discussion that will take place, and based on where the payout ratio is, we'll share that information right after the next board meeting.

David Harris (Analyst)

Okay. That would be what with your fourth quarter earnings most likely?

Gary Shiffman (President and CEO)

Yeah.

David Harris (Analyst)

Okay. Terrific. Thank you very much.

Operator (participant)

As a reminder, ladies and gentlemen, if there are any additional questions, please press the star followed by the one at this time. Our next question is from the line of Paula Poskon with Robert W. Baird. Please go ahead.

Paula Poskon (Director and Senior Equity Research Analyst)

Thank you. Good morning, everyone.

Good morning.

Gary Shiffman (President and CEO)

Good morning, Paula.

Paula Poskon (Director and Senior Equity Research Analyst)

I see the trends in Michigan are quite improving. Occupancy up significantly year-over-year, and the pre-owned home sales particularly strong. What are you seeing just anecdotally there in the regional economy, and what gives you belief that that's going to continue?

Gary Shiffman (President and CEO)

I think anecdotally, for those of us living in the Midwest, in particular in Michigan and Detroit, we're seeing this secret resurgence that the rest of the country isn't quite experiencing or seeing. We've attributed a lot of it to the restructuring of the automotive world, taking away the uncertainty over the last few years and the hesitancy to spend on the sidelines. We're seeing the increase in all assets from. It's difficult for us to get additional office space. Multifamily is in high occupancy again. Retail's in demand. Light industrial, there are cranes out here again. So we're seeing a strong resurgence in Michigan. I think if you tie it a little bit further to what we're looking at in Indiana, which is slow, steady growth, we're starting to see a little bit more activity in manufactured housing, manufacturing, and RV manufacturing tick up.

Some of the mothballed factories, they're now talking about opening this year. So as we continue to concentrate our efforts in Indiana, I think we'll, which has been the one area that's lagged for us, we expect to see slow, steady growth. Site-built housing, I think I've shared a few articles in Michigan that have been in the Wall Street Journal where the inventory of quality used site-built homes, that overhang is gone. The average home is staying on less than seven days today on the multi-list and the desirable locations, and we're seeing prices bid up above the asking price. So it's just very, very good timing in Michigan right now. And I think you couple that with the fact that there has been no development in any asset class over the last five, six years. We anticipate seeing strong demand for what's affordable housing.

Karen Dearing (CFO)

Great. Thanks very much.

Operator (participant)

Our next question is from the line of Dave Bragg with Green Street Advisors. Please go ahead.

David Harris (Analyst)

Hi. Good morning. As it relates to the announced acquisition plans, can you talk about the decision process to fund them with debt as opposed to equity?

Gary Shiffman (President and CEO)

Sure. I think we've shared generally with the marketplace that long-term we look to be debt neutral on our balance sheet. Since 2011, we had raised $635 million in both common equity and preferred stock, and it's our goal to be less leveraged going forward than we were historically. So I think we'll certainly look to take advantage of the low interest rates right now. And when we talk about keeping the same leverage, if we can demonstrate to the marketplace the right accretiveness from the acquisitions that'll be funded by a combination long-term of what we hope will be low-cost debt and future equity in the marketplace.

David Harris (Analyst)

Thank you.

Operator (participant)

There are no further questions at this time. I'd now like to turn the call back over to Mr. Shiffman for closing remarks.

Gary Shiffman (President and CEO)

I think that we're very pleased with the progress that we've been making so far. We're very pleased with strategically what we've been able to accomplish in repositioning portfolio, and we look forward to sharing both results of fourth quarter and 2014 guidance on our next call or sooner.

Thank you.

Operator (participant)

Ladies and gentlemen, that does conclude the Sun Communities Third Quarter 2013 earnings conference call. Thank you for your participation. You may now disconnect.