Q3 2021 Washington Real Estate Investment Trust Earnings Call
Welcome to the Washington Real estate investment Trust third quarter earnings Conference call.
A reminder, today's call is being recorded before turning the call. She is the company's president and Chief Executive Officer, Paul Mcdermott, Amy Hopkins, Vice President of Investor Relations will provide some introductory information Amy. Please go ahead. Thank.
Thank you and good morning, everyone. Before we begin please note that forward looking statements may be made during this discussion such statements involve known and unknown risks and uncertainties, which may cause actual results to differ materially and we undertake no duty to update them as actual events unfold.
First certain of these reps and I think he thought.
Reconciliations of the GAAP and non-GAAP financial measures discussed on this call are available in our most recent earnings press release and financial supplement which were distributed yesterday and can be found in the Investor Relations page of our website participating in todays call with me will be Paul Mcdermott, President and Chief Executive Officer, Steve Murphy, Executive Vice President and Chief Financial Officer.
Drew Hammond, Vice President, Chief Accounting Officer, and Treasurer, and Grant Montgomery, Vice President and head of research now I'd like to turn the call over to Paul.
Thank you Amy good morning, everyone and thanks for joining us today.
I'd like to start off with an update on the progress of our south eastern market expansion. Following our commercial asset sales I will also discuss the efforts that are underway to transform our operating model and current market conditions in the DC Metro and Atlanta, where we are actively growing our footprint.
Steve will then update you on our portfolio performance and trends and we will discuss our third quarter results and outlook as we execute our transformation.
Starting with our geographic expansion. We are pleased to report that in just over four months since our transformation announcement, we have already deployed or tied up over 55% of our $450 million target.
We have deployed or under binding contract to deploy approximately $154 million and we have been awarded another 97 million that is moving toward a binding contract.
We also have other opportunities that we are pursuing all of which align with our strategies and offer very strong NOI growth prospects.
We have a very active pipeline and remain confident that we will meet our target over the balance of this year and perhaps into early next year.
During the quarter, we closed the sales of our office and retail portfolios as planned.
We closed our first southeastern multifamily acquisition, the Oxford on August 10th for $48 million.
We have three additional acquisitions in process, including two communities that are under binding contract for $106 million.
The $97 million property that is moving towards a binding contract.
We expect all three to close during the fourth quarter.
We have and will remain disciplined and we are only underwriting assets that fit our strategy and provides stronger NOI growth.
Three of our initial properties aligned with our B class portfolio strategy.
With price points that target the deepest demand segments and their respective Mark Submarkets and the other property aligns with our class B value add strategy and offers a near term value add renovation pipeline.
Our first acquisition the Oxford is a 240 unit garden style community and the city of Conyers, Georgia.
Areas, primarily comprised of family households, who want the benefits of living in the suburbs combined with connectivity as downtown Midtown and the South Atlanta business District, along with the proximity to local employment nodes included the Interstate 20 corridor, which is experiencing significant investment as employer.
<unk> expand into the area.
The Oxford was built in 1999 and over the past five years same store rent growth for the Submarkets 1999 product has outperformed the average for all 19 vintage apartments in the Atlanta market and significantly outperformed the overall Atlanta market rent growth for all apartments.
Over the past three years, the Submarket has widened its outperformance versus the reasons ninety's vintage rent growth by over 3%.
The Oxford has performed very well during the first two and a half months. We've operated it with very strong new lease rate growth of 25% during September and increasing to 26% in October.
Occupancy is tracking above our expectations driven by very high retention rates and new leasing activity.
We acquired the Oxford at a cap rate of four 7% and we expect an NOI growth rate double very high for the next three years.
Two of the properties that we currently expect to close in the fourth quarter are located in Henry County, and the southern suburbs of Atlanta, where rent growth has outperformed the overall manta market on a trailing five and three year basis and is projected to continue to outperform over the next several years.
These properties are a strategic fit aligning with our class B portfolio strategy, we will provide more details after we close.
In terms of our plans for our remaining capital and growth beyond we are underwriting opportunities to acquire southeastern communities with low double digit NOI growth prospects, which is stronger than our initial expectations. When we decided to enter these markets.
While the southeastern markets are competitive we have several advantages that appeal to sellers and are helping us to succeed.
We have a 55 year track record of owning and operating multifamily properties and a strong track record of execution, which allows for a smooth and efficient due diligence process.
We have well established relationships in the multifamily industry that trans and into our new southeastern growth markets that we are profiting from.
Additionally, we are an all cash buyer with no financing contingencies, which sets us apart and adds a greater level of certainty of execution to the seller.
While cap rates have tightened further since June we are keying in on opportunities that will yield outsized rent and NOI growth.
And align with our strategic goals.
Investment discipline is critical for us and we spent a lot of time and effort researching and selecting our target markets and strategies for each market.
Our research tells us that the industrial mix of an economy can determine what rent growth will look like over the long term.
Our current target markets of Atlanta, Raleigh, Durham, and Charlotte have outsized exposure to industry that drive productivity growth.
Which creates a virtual feedback loop of job and income growth in migration and increasing education levels.
Year over year effective rents for Atlanta, Raleigh, Durham, and Charlotte grew by 19, 8%, 19% and 17, 6% respectively in September as reported by real page.
New lease trade outs were even stronger averaging 22, 7% across the three markets and a 580 basis point inflection between June and September.
Annual demand also serves to cross these markets as in migration and household formation drove record setting absorption.
Reported first quarter annual demand had already exceeded the five year average in each target market yet it climbed over 23% higher from the first and third quarters.
Raleigh Durham posted a second quarter annual demand at 142% of its five year average, while Charlotte and Atlanta second quarter annual demand top 162, and 161% of their five year averages respectively.
In order to maintain a disciplined approach and invest in these economies without competing with new supply.
Evaluating acquisition opportunities at the Submarket level and targeting vintages with price points located at the deepest section of the demand curve.
We are targeting renters that are benefiting from economic and wage growth, but remain underserved by new supply, which provides us the opportunity to create a quality living experience, while also growing rents without competing with new supply.
We remain in active negotiations pursuing additional opportunities and we'd like to tie up another $200 million in multifamily assets that we expect can now be completed by early 2022.
Again, we remain disciplined and are committed to allocating capital according to our strategy.
We have passed on opportunities that did not meet our criteria or would not generate accretive growth.
While we believe diversifying and expanding our footprint makes sense. We will also continue to explore acquisition opportunities in northern Virginia should they create greater value for <unk>.
Washington apartment market is exhibiting some of the same positive trends that we're seeing in our southeastern target markets.
Year over year effective rents climbed 640 basis points from June to September.
Suburban Virginia performance, followed a similar pattern, but with even stronger growth with year over year effective rent growth accelerated to nine 7% in September.
Our DC portfolio was positioned well with 80% of our portfolio in northern Virginia, where the rapidly expanding consumer technology sector continues to drive job and income growth.
Furthermore, our value oriented price points offer favorable supply and demand fundamentals over the long term as the regional housing shortage worsens and cost of ownership and new apartment supply remains unaffordably for mid market renters.
Before I turn it over to Steve I'd like to discuss the efforts that are underway to transform and expand our operating model.
As many of you know we've been planning this transformation for several years and our transformation plan includes bringing property level management in house, while building a new operating platform for the future.
Over the past year, we have worked with a consultant to map out a plan to optimize our operational design as we scale our multifamily portfolio.
We are now in phase one of this project, which includes three phases in total.
We're making steady progress against the roadmap that we laid out and we anticipate that by the time of our year end call.
We will have selected all technology.
Staff will see elements required to support our operations, including a comprehensive human capital program and established a new brand that best defines our approach for investors residents and employees.
At that time, we expect to be able to give guidance on G&A and transformation costs as we will be actively building out the platform.
We hope to execute phase II, which includes core platform implementation in 2022, and phase III, which incorporates the onboarding of our property management functions to our internal systems starting in late 2022 into mid 2023.
While we control our revenue strategy and do all capital planning internally.
Day to day marketing maintenance and property management staffing have been outsourced.
Following the complete internalization of property management and enhancements to our operational platform, we expect to realize significant operational benefits from streamlining our business processes through the use of technology.
Establishing a closer connection with our residents to operational design efficiencies as we scale the business and optimize G&A expenses.
At the property level, we believe that there are operating efficiencies ahead of us from internalizing property management, because we are designing.
And operating platform aligns with our strategies for resident experience and employee satisfaction and growth.
By utilizing corporate functions in a centralized model.
We can be highly scalable, which will allow us to grow NOI at a much higher rate the G&A expenses.
By designing and implementing our operating platform from scratch.
Limited by existing infrastructure and will offer value and opportunity to all our stakeholders.
Now I'd like to turn the call over to Steve to discuss our performance and trends.
<unk> of our value creation opportunities our third quarter results.
Our near term outlook as we execute our transformation.
Thank you Paul and good morning, everyone.
The lease rate momentum that we experienced during the summer months has continued into the fall and we are positioned well heading into the winter months with low double digit lease rate growth on our most recent new lease executions.
New lease rate growth was 9% for leases signed in September and 11% for leases signed thus far in October on an effective basis.
On the renewal side, there has been very strong demand and the renewal lease rate growth was over 6% for September renewals and over 7% for October renewals on an effective basis.
Concessions declined dramatically from June through September and are nearing pre COVID-19 levels.
Total concessions for September move ins declined over 95% compared to June move ins driven by both the decline in the number of new leases with concessions and a decline in the average concession amount per lease.
The percentage of new leases with concessions declined from an average level of 60% during the first half of the year for only 9% of new leases for September movements.
The average concession value for new leases, where concessions were granted declined by 60% from $3500.
For June event to approximately $560 per hub for September move outs.
Occupancy remained strong with a forward trend that will allow us to continue to increase rents.
Same store average occupancy grew 40 basis points in October compared to the third quarter.
Our suburban lease rates continue to outperform urban lease rates, although the gap has narrowed due to the strong rebound we are experiencing in our urban portfolio.
Blended lease rate growth was 7% for leases signed in September and over 8% for leases signed in October on an effective basis, which represents a significant increase from the third quarter average.
For move ins that took place during the third quarter blended lease rate growth was three 5% on average on an effective basis, representing a 620 basis point increase from the second quarter.
Lease rate growth for September and October move ins and lease executions with November and December move in dates indicate steady and consistent improvement through year end.
We expect strong lease rate growth through the winter months, and then through the spring and summer leasing seasons in 2022.
Rents have shown a swift recovery.
The inflection as indicated by the rapid weekly improvement in lease rate growth began towards the end of June and rental rates improve rapidly through the summer.
In August we started signing new leases that were above pre COVID-19 levels for the majority of our portfolio specifically the average effective rent for new leases in the third quarter was above the same month in 2019 for 17 of our 21 same store properties.
In fact, new leases for our suburban portfolio were 10% above the 2019 level on average in the third quarter.
Highlighting how well our suburban properties performed during the pandemic.
We expect to see steady growth in <unk>.
Average portfolio wide rent levels as the market recovery works its way in our rent roll over the next year.
Our ability to capture this embedded growth will be slower during the winter months as less than 25% of our leases expire between November and December. During this time, we will be focused on balancing rent growth with retention as maintaining a balanced and fundamentals heading into 2022 will set us up for anticipated except.
<unk> strong spring and summer leasing season.
As we enter the spring and summer, we will be positioned to capture both the impact of the recovery and market rent growth beyond the COVID-19 related recovery.
Trove lease up momentum continues and it is now over 85% occupied we expect trove to be a key growth driver, adding approximately $7 billion of NOI in 2022, and $7 6 million of NOI in 2023.
We also continue to monitor demand levels at Riverside, where we have a shovel ready opportunities at 767 units, which we put on hold when Covid hit.
While lease executions that Riverside are on a positive trend. We're currently monitoring projected lease rate growth to support this development.
Our renovation programs are actively ramping up after they were temporarily pause during the pandemic.
We have a pipeline of approximately 2700 units in our same store portfolio.
As expected the pace of renovations picked up through the summer months, while unit turnover seasonally high.
In many cases, we preserve the renovation opportunity for the next term as we're achieving strong effective rent growth without currently having to make a capital investment.
Year to date, we are fully renovated over 130 units and have invested capital in upgrading 110 additional units.
We are securing low to mid double digit cash on cash returns year to date.
We expect to spend $3 million on our renovation program. This year ramping up to approximately seven and a half to $8 million next year for the current same store portfolio.
In the spirit of our transformation into a multifamily REIT.
We have made changes to our earnings materials, and non-GAAP financial metrics to be more in line with and comparable to other multifamily Reits.
We believe that our new presentation makes comparisons of our operating results more meaningful provides additional insight into our operating performance and trends.
First we provided a more detailed expense breakdown of both controllable and non controllable expenses, including property operating taxes and insurance and property management.
We've included a detail of our same store operating results by geographic region. As we continue executing our strategic plan to diversify into multiple geographic regions.
Third we modified our calculation of NOI, So exclude property management expense, which is more consistent with the multifamily industry standard better presents the impact of our trends in occupancy rates rental rates and operating costs.
Our operating performance.
We retrospectively adjusted our previously reported multifamily NOI for comparability and overall this adjustment has increased our NOI margin by 300 to 400 basis points.
Fourth we updated our definition of NOI for residential communities to exclude NOI from ground level retail tenants.
The separation of nonresidential NOI from residential NOI provides a better representation of our core performance by distinguishing between the core operations of the business and ancillary NOI.
Fifth we changed the name of the non-GAAP measure funds available for distribution or Fad to <unk>, because we believe that <unk> was the more commentary in the multifamily sector.
Did not make any change to the calculation and there is no difference in the definition of <unk> and Fad as previously.
Six weeks.
We expanded our disclosure of same store metrics, having operating margin and effective lease rate growth.
And finally, we combined our earnings release and financial supplement into one earnings package.
All of these adjustments are described in detail on page 14 is a third quarter earnings package.
Now turning to financial performance net income for the third quarter was about 2021 was approximately $31 million or <unk> 37 per diluted share compared to a net loss of $1 million or one cent per diluted share in the prior year.
<unk> was <unk> 20 per diluted share, reflecting a year over year decline of 16 due to the impact of our commercial asset sales.
Multifamily same store NOI declined 40 basis points compared to the prior year driven by the impact of leases signed during the pandemic.
As expected the rapid rebound in core multifamily operating trends that began towards the end of the second quarter is and will continue to have a more gradual impact on our financial performance.
While new lease executions began to improve rapidly starting in June and into July those movements started to impact our results in late August and we expect the inflection in lease rates to have a greater impact on our fourth quarter results.
Furthermore, the impact of the concession and amortization peaked during the third quarter driven by the timing of the peak in concessions, which occurred towards the very end of 2020 and into the first quarter of 2021.
The impact of concessions and amortization.
The NOI peaked in August and began to decline on a monthly basis in September.
Excluding the impact of amortization related to concessions granted in prior periods.
AME store multifamily NOI increased 2% on a year over year basis during the third quarter.
Our resident credit.
Continues to be excellent.
The small amount of delinquent rents that we have local rental assistance programs have helped us on the margin today, we collected 99% of multifamily rents during the third quarter and received $400000 of local government rent assistance from residents.
Year to date residents have received over $1 $4 million of rental assistance.
Other NOI, which represents Watergate 600 declined four 9% in the third quarter compared to the prior year, primarily due to higher taxes, and payroll expenses and a favorable bad debt recovery in the prior year period.
Leasing activity at Watergate 600 has been steady despite the challenging environment in the DC office market.
We signed an 8200 square foot new lease with a credit tenant during the quarter.
Two renewals and one expansion post quarter end.
Our percentage leased has increased to 92% and we have activity to allow us to create further value in the asset.
Just one remaining office asset is an iconic building with riverfront and monument views high quality institutional tenants and a weighted average lease term of eight years.
We continue to see opportunities to create value by owning and leasing Watergate 600.
Now touching on our outlook for the balance of the year. We are reinstating full year 2021 guidance for the core <unk> range of $1 <unk> per share to $1 <unk> per share.
We estimate that our same store multifamily portfolio will contribute between 90 and $95 million of NOI for the year.
At the midpoint. This implies an approximate four 5% multifamily growth rate for the fourth quarter compared to the prior year period.
We expect healthy same store NOI growth in the fourth quarter and further growth in 2022.
Troll and the Oxford are expected to contribute between 375 and $4 million to $5 million of 2021 NOI.
600 is expected to contribute approximately $12 $75 million of NOI.
We completed the sale of the office portfolio on July 26th for the for gross proceeds of $766 million and.
<unk> completed the sale of retail portfolio on September 22nd for gross proceeds of $168 $3 million.
We acquired the Oxford on August 10th.
Which as Paul highlighted has performed very well, thus far and is tracking ahead of underwriting based on rents.
As we've discussed we entered into binding agreements to acquire two communities in the Atlanta market for $106 million and are moving towards an additional binding agreement for another property to $97 million. All three of these transactions are expected to close during the fourth quarter.
We redeemed all $300 million of senior unsecured notes that previously were scheduled to mature in 2022 on August 26, and repaid $150 million of amounts outstanding under the term loan maturing in 2023 on September 27.
We ended the quarter with a very low net debt to EBITDA ratio of one four times.
While we may be in the mid to high five times net debt to adjusted EBITDA range in the first year. After executing these transactions as we progressed through the second and third years of multifamily NOI growth.
We would aspire to operate in the lower half of the five to six times range.
With very little debt maturing in the near term, none earlier than 2023, and our equity versus debt ratio is expected to get close to 80% to 20%, which will be very strong.
We have no secured debt in our capital structure, which provides us with flexibility to take on some agency debt or other secured debt as we acquire apartments.
Rover, we believe we will continue to have most of our line available to strong liquidity will be maintained.
We currently have approximately $1 billion of liquidity, including the full availability of our $700 million line of credit, which we further extended another four years this quarters.
Before I turn the call back to Paul I am pleased to share that earlier. This month, we published our 2021, ESG report, which outlines our ESG vision and objectives at the multifamily company.
With this report we are proud to be among the first multifamily Reits to commit to achieving net zero carbon operations, we detailed a number of exciting ESG projects underway, including pursuit of Green building certifications for multifamily.
B assets.
Growing our pipeline.
Site solar projects.
And the integration of climate risk into the Companys overall enterprise risk management framework, including evaluating climate risk and asset resilience as part of our underwriting process.
And with that I will now turn the call back to Paul.
Thank you Steve.
Overall, we're off to a very good start progressing on our geographic expansion and have executed most of our transformation to a multifamily company.
We have completed the sale of our commercial segments and we have closed on one asset.
Two others under contract and as we said have been awarded one more asset in Atlanta.
We have an active pipeline of opportunities that align with our strategy.
And we remain confident we can allocate this capital appropriately over the balance of this year and into early next year.
For the balance of 2021, we remain focused on investing our remaining capital and firming up our plan to transform and expand our operating model.
We expect to achieve operating efficiencies as we scale the business and execute our plan to bring property level operations back in house.
We look forward to keeping you updated on our progress as we expand our geographic footprint and transform our operating platform.
Now the team and I would like to open the call to answer your questions.
Thank you ladies and gentlemen, the floor is now open for questions. If you have any questions or comments. Please press star one on your phone at this time, if you wish to withdraw from the queue. Please press star two.
That while posing your question. Please pick up your handset if listing on speaker phone could you provide optimum sound quality.
Please hold a moment, while we poll for questions.
And our first question today is coming from Jim Sullivan at BT I G. Your line is live you may begin.
Yes. Thank you.
Couple of questions first of all in terms of the acquisition activity.
I believe on the initial acquisition the Oxford, you indicated that a cap rate of four 7%.
And I was unclear whether that $4 seven was.
Based on the underwriting you did at the time of the acquisition or whether it was based on kind of the current run rates that you're achieving.
It was based on our underwriting at the time of the acquisition taking into account yes.
Yes, what's happening on a trailing basis, but not necessarily projecting the exact same rental growth that they've achieved over the last six months.
For the prolong underwriting period.
Now that that cap rate I believe is somewhat higher than you've been talking about in conversations before you started actually closing acquisitions and I guess.
Given the liquidity and given your ambitions in terms of acquisitions in the coming couple of months here.
Is that four seven indicative of where you think you are going to be I think you had been talking about rates, maybe closer to four earlier.
Good question, Jim Theres no doubt.
This is Steve by the way.
There is no doubt that since we've rolled this out in June that there is cap rates have compressed further competitively in the southeast markets with about 55% of our target in terms of what we wanted to get out from a capital allocation standpoint, now tied up or insight.
We're averaging a four.
And we would go a little under that but the other thing that one point out as we talked about what we thought NOI would be like over the first three years when we set that target based on our research what we're actually finding and our underwriting is that the NOI growth that we have for the first three or four years, our multiples as a <unk>.
Notable of what we had originally assumed when we had our initial cap rate targets. So.
We are identifying assets that are right on strategy, we see some cap rate compression, but we're actually seeing NOI growth.
Much greater than we originally assumed so we're happy that this is going to create the growth.
That we wanted through geographic diversification so far.
And in talking about the <unk>.
That said you have kind of under agreement are heading for agreement on I think you've indicated that one of them is it be value add.
And I wonder in that respect if you could kind of share with us.
What the expected spend per unit would be I know its early days you might know that finalized this but whatever.
Acacias you could give would be helpful.
Jim Hi, its Paul.
We're still in negotiations on that asset and so we're happy to talk about that once the once the deal is closed but since we're still in negotiations with the seller I prefer to defer that for now thank you.
Okay Fair enough and then finally for me.
The the operating platform.
Rollout that you described it was helpful to get that detail into the phasing and timing.
I'd be curious.
If you have established.
The budget for that and of that cost.
You could share with us what is your project that cause us to be.
What percentage if if any you can provide that to us it would be capitalized versus expensed.
Jim.
Have a preliminary estimate of that we really would like to give that detail. After we finished phase one which is should conclude here near year end.
And we do expect.
A portion of that.
To be capitalized.
And it is just we're in phase, one which is scoping out really the <unk>.
Technology platform the whole human capital plan for integrating this at the operational level and branding and then the web technology, and we were going through a process and the actual amount.
That we would spend depends on the selections we make here in phase one.
I have a preliminary estimate I don't really want to put it out to the February call. When we have a budget that I'm very confident in but.
There is almost half of it would be capitalized.
Only a preliminary budget that I looked at but we will we really look forward to giving clarity. The team is working very hard right now and we're trying to target to have it done before our February year end call. So that we can speak to that and talk about the timing and the phase in and kind of what our goals are in terms of what we might be able to achieve as a result of implementing it.
Okay fair enough thanks, guys.
Thank you.
Our next question today is coming from John Powell Laski at Green Street.
Your line is live you may begin.
Great. Thank you for taking the question maybe just one follow up clarify clarifying question on the cap rates stayed the 4% cap rates.
<unk> 12 month basis or an in place NOI concept.
It's on a forward under our underwriting looking at what we believe we're going to be doing at each of the properties and that's a blended.
Cap rate across the five the first one was higher the last one was a little lower to blend to a four so far.
Okay makes sense.
Paul could you understand we'll wait for actual quantification of the rollout of the operating platform, but the the intensive human capital program you alluded to can you just give us some more details on what that actually entails.
Number of senior executives you have to bring on overall head count expansion, just a bit more context on the human capital program will be helpful.
Well, Jon I'd be happy to do that once it's completed but we're in the as Steve alluded to we are in the preliminary stages.
Formulating that.
I think you.
No because you cover so many multifamily REIT.
We are basically taking property level.
Operations, and bringing them in house, and I think youre pretty familiar with what it is to staff an asset.
So we are.
Putting that putting that pen to paper right now and I think as Steve alluded to we'd probably have a better idea.
Of what that will look like probably buy.
The year end earnings call in February but for right now that that work is not complete yet John and Paul the only thing I would add because I think you were commenting kind of at the more senior leadership levels and all of US. He was asking we do expect from our preliminary work when we put the initial roadmap together working with consultants.
Expect to achieve efficiencies very much operationally and that's and that the property management level.
We believe they would be staffed tighter we believe that there'll be some functions that are centralized and so we do see an opportunity to.
Create some of those efficiencies with a fully integrated.
Great.
Okay I appreciate it last question.
No.
London months keep rolling by and that the world is getting back to normal, particularly in the apartment rental side, but there is still this unnerving lull in terms of a rebound in office utilization. So now that you've got a little bit more leasing done at Watergate.
There is a lack of a resurgence in office utilization make you want to accelerate the sale of Watergate.
Well I think as we've been fairly consistent saying John that we are we think theres still some opportunity to create value at the Watergate.
As Steve alluded to in his remark, we did signed one lease we extended another R. R. Walt on that property is now eight years I think we're seeing some good activity right now.
We'd like to.
Get.
Some more leasing activity accomplished but we are.
Keeping our eye on the on the DC market.
And when we think the time is appropriate to bring it to the market to create optimal value we're going to do that.
Alright, Thank you for your time.
Thank you.
Our next question today is coming from Anthony pay alone at J P. Morgan. Your line is live you may begin.
Thanks, just first I guess further on the cap rate discussion just to make sure we have our definitions right here she said.
Forward 12 months, NOI and is that before or after.
Property management cost that you seem to be taken out these days about three 5% and then also any capex reserves.
Yes. It is.
That is basically our NOI over our purchase price.
The way, we calculate that and.
We've definitely underwritten our own internal costs.
And.
Our property management costs are built into the structure. So when we were looking at.
The initial cap rate, we were taking into account what we think our cost structure will be at the property level in terms of Capex.
We are underwriting tech capex in terms of what we want to do.
With the building kind of year by year as we as we look at it.
And so that if we were to make additional capital investments, we're not including that in the initial cap rate, we don't on the others, but we do report that.
And when we look at the renovation opportunities.
Part of that Capex, we think of those as individual ROI opportunities Tony.
Create their own their own return.
Okay, but.
But that's for then as before the property management expense.
Number.
I think I think the way we had written it it actually did take into account the property management expenses.
The redefining of it for financial reporting to be comparable to other companies did not change the way we've been looking at it traditionally in our acquisition models Tony.
Got it I understand I'm, just trying to make sure we're.
Talking about the same thing.
Okay and then.
I caught.
I think you had mentioned maybe a 10%.
Suburban rents that are above nine 2019 levels, but I didn't know if you had given a number if you can give a number or is just the overall portfolio loss to lease right now.
Yes, the loss to lease for the portfolio, we did put out.
An updated investor deck.
Last night also.
And we do have the hostility slide on there so our urban loss to lease right now is around 17% Subaru.
Suburban is actually a little lower blended loss polices around 14%.
Okay got it I missed that.
Alright, and then just on this <unk>.
<unk> management.
Platform building out the organization.
Yes. The question is.
If you finish up this $450 million that you set out to do is that enough to really have the scale you need to do better than been using third parties.
Tony I think.
Paul we're going to obviously continue to scale the platform that that's the whole.
Reason, we're going through this exercise and we have many ways to do that.
We would we would expect to be continuing to draft off the momentum of the $450 million initially.
As as.
For example, I mean, we still have the Watergate to monetize we've been approached about JV as you know we have riverside that shovel ready where we could.
Also repatriate capital into into other market. So I think we've got you now.
A lot of.
Opportunity in front of us, but the whole point here is to build this up to gain some of those efficiencies that we've alluded to that we're trying to create buy redoing the platform.
Okay can you with the stock in the 'twenty five 'twenty $6 range can you make sense of.
Using the equity here to do these deals.
Yes, Tony.
Thing that we wanted to do initially was with all of the moving parts as everybody seems to.
College and comment.
The multiples things like that we're going to take a little while to make sense. I think we're we're trading basically on an implied cap rate that's wider than the other multifamily Reits knowing that we've got a good leverage good balance sheet lot of flexibility, but knowing we've got to get <unk>.
Capital out now we wanted to initially give ourselves time, so we're sitting there.
With capital already raised from the transformation to still reinvest we also have at least two other <unk>.
Two other sources of capital that might make sense before we'd have to go back to other markets, but we wanted to create a capital structure that allows us access to all the different markets as capital continues to change under conditions in terms of what's the most optimal way to go but we still have Watergate the harvest as a source of capital for expansion.
And we also have a huge development opportunity sitting on a huge asset in Riverside that theres a lot of capital that would like to partner with us to kind of continue to develop and expand that we have no joint ventures, no secured debt. So we've got a pretty clean structure to look at different sources of capital.
And that if we entered into a joint venture where we kept an interest in that that might provide a lot of capital for other geographic expansion as well.
But.
We hope that we've simplified the company's.
Structure that it's easier for equity investors to look at us and say now we know what class of asset you are and we're not worried about one or two of the other classes and hopefully will have access to that capital.
Believe that we've got such a clean balance sheet that we can access different kinds of debt capital including secured debt.
What's the right way to structure apartment deal. So I think we've got enough capital to get the initial wave done and created flexibility and optionality for two or three steps before saying, we absolutely have to go raise equity. So I hope that's the way we thought about it strategically and I think so far we're still executing that way.
Got it okay. That's helpful. Thank you.
Thank you. Our next question today is coming from Blaine Heck at Wells Fargo. Your line is live.
Great. Thanks, most of my questions have been asked.
One for Steve.
You know how should we think about the potential dividend growth going forward now that youre your payout and portfolio have been reset as it kind of fair to assume it should follow closely with <unk> from here.
I think so and I think we're coming in at when we reset the dividend level. We looked at are saying that our governor would be somewhere around 75% <unk> payout ratio to kind of keep an eye on.
And we were comfortable that.
After we get this $4 50 redeployed that we're going to be able to operate within that.
As I said.
One of the things, we're very pleased about and one of the main reasons for geographic diversification is expansion to other markets that are growing better in all this is these are some of the best economic conditions that we've looked at and our own marketing. Some time in terms of loss to lease we talked about the continued inflection and we were at.
In terms of.
Net effective rents for new leases, we talked about October being 11, while the last two weeks for up to 12%, 13%. So things are trending well, but we're also seeing underwriting and seeing NOI growth that we're going to be happy about here, even being greater where we're trying to allocate new capital to so we think it's important to diversify.
And I think if you think about <unk> growth.
Right now I think our recurring capex to enter.
<unk> is down to around 5% now and and that's a lot different than when we had the commercial portfolio kind of dragging us and we think that we are.
We're being strategic about where we're allocating capital for greater NOI growth, which will create greater <unk> growth. So I think that we will have the opportunity for <unk> to grow.
As we continue to execute this.
Hopefully that means the dividend, we will have opportunities to grow down the road too.
Very different from office thanks, guys.
This.
Thank you. Our next question today is coming from Michael Lewis at risk Securities. Your line is live you may begin.
Great. Thank you.
Great all the detail as Youre doing this.
Kind of meaningful repositioning and along those lines you talked about this opportunity to bill when you want.
No.
A big picture question about what that means in terms of the portfolio you mentioned buying dispersed asset at a four seven cap. It sounds like maybe you could do some that are.
Sub four.
Do you envision kind of value add opportunities through redevelopment down the line.
Is it is it b quality in a locations or is it a suburban strategy.
How do you kind of think about it is you have this opportunity kind of built this portfolio up.
Michael It's Paul.
I would probably say all of the above because I think we have allocations to all of those buckets and if.
If you recall R R.
The strategy that we laid out on June 15th.
When we talked about this transformation.
We really talked about the <unk> strategy and how we would hit that im going to ask grant to jump in here.
And a second to really talk about that but in addition to the three strategic Spears. The grant will go through we also still have a 2700 unit renovation pipeline, we have a 767.
Unit shovel ready development opportunity with some other development opportunities already embedded in our existing portfolio in this region, so but before I go any further let me turn it over to grant to maybe just talk about those three sure.
The core of our focus is on the renter.
And then we're really following the mid market renter in those midmarket vendors can be found in a variety of locations both suburban and urban.
Our class B strategy really targeting areas that have this outsized submarket growth with future innovation potential that may might not make sense today, but those submarkets that we really identified have the underlying strengths that really point to that future opportunity while harvesting the strong rents.
With us today.
Secondly is the value add which we have significant experience with here in the Washington, DC area and are finding opportunities in the southeast as well those are ones, where we have the immediate opportunity.
To do full scale unit renovations and we've really focusing on properties in submarkets where the.
Rent gap between those properties and the class a product in.
He has plenty of room to renovate and not compete directly against those while serving that underserved renter that may be in a more expensive submarket and.
In this underserved by the current product there and then finally.
With our existing portfolio, we have some class a minus properties, which are of a higher quality slightly.
Slightly different renter, but still a mid market renter.
But really focused on the value orientation of that and those were being really careful about in terms of our operations. So that we try.
Try to stay below about 110% of the market median rent. This will be found from our researches that typically new developments in these markets, including Washington, DC delivered about 120% to 130% of the market median and if we can stay below that 110% rate on the class a properties, we really missed a lot of the direct head to head competition.
And so we can be successful in that upper end of the mid market stat as well so we.
We think we'll build that portfolio out both in suburban locations urbanizing locations across these markets, but just as a sort of.
Predicated upon where we're going in many of these markets a large volume of them will be suburban because these markets are highly suburban in nature. So hopefully that answers your question.
Yeah, that's great. Thank you.
And then I just wanted to ask about.
Setting up the platform in these technology investments.
I know in terms of cost I think you guys had had put a number out there. It included some debt repayment that maybe already came to fruition, but how do we think about how those costs kind of layer in.
Over time is it going to be are you going to be.
Splitting out transition costs from your core <unk> or for <unk>.
Several quarters I imagine.
Or are there some big upfront costs.
That kind of layer in.
And I think that's a great question, we're going to try to be.
As transparent as possible in terms of breaking out things. So you can track. It I think we initially had transaction costs related to all of the execution here and there.
Those went through multiple line items, including the gain on the sale of our assets.
The debt breakage costs and costs related to that.
<unk> costs are costs that are probably going to go on through the phase of this project.
So.
When we look at G&A and talked about that for a second and then relate it back to transformation costs right now the 2021 costs are higher due to all of this execution.
In 2022.
G&A should start to normalize and we intend to separate the transformation investments that we'll be making within 2022.
And for our future platform and our full integration and hopefully be giving guidance.
In February about that.
And those costs, we talked about the phasing of this so the first phase is not a significant investment, but it's underway right now and it's in it's in our costs embedded in our cost structure for the fourth quarter. When we look at our G&A that's implied for the fourth quarter of this year.
A more significant cost and will give an estimate in February will be in February I mean, it will be in 2022, and that's where some of that as Jim asked will be capitalized and will be expense, but that's where we'll be implementing.
Implementing.
A complete integrated future technology platform.
We will be creating the human capital structure, which includes all the jobs scripts as all the incentive programs, how we will operationally staff.
Every every location.
It will include the investments that we'll make in web design and branding.
We use tech.
Technology for.
For overnight pricing.
All be integrated.
Some of which will be capitalized.
Our timing is to make most of that investment and have an in place before we bring the first property back in an integrated way, which we're targeting for late 'twenty, two and the phase in through mid 'twenty three.
We hope to lay that out.
And so that can be tracked separately and we can start to normalize and we do expect.
Operating efficiencies that will show up in a few places hopefully the NOI the property and hopefully in the property management expenses.
As we go forward and we also believe on the G&A side, it will start to normalize and scalable as we have sunset commercial have made some of this investment.
But very importantly, I think Paul talked about strategically.
This all makes the most sense, if we scaled the business and I think G&A is very scalable at this company in terms of not having to add a significant amount of G&A as we as we expand so we will try our very best to as we make this transformation to make it clear the only ongoing costs.
After we execute the final.
Parts of the transactions will be the transformation related to the integration of the platform and that should run into late 'twenty two I think.
Thank you.
Thank you. Our final question today is coming from Bill Crow at Raymond James Your line is live you may begin.
Thanks, Good morning, guys, Paul Paul your team up with some great macro works a little amount of focus there.
I think arguably your current target renter cohort might be relatively more sensitive to the inflationary pressures on gasoline utilities rental rate increases that are going into effect right now and I'm. Just curious as you look out a year. If you think about lapping the increases that are that are being pushed.
Today.
Do you think.
Class B.
Of course, we're big proponents of workforce housing you think you'll be able to get the same rental rate increases a year from now as a class a.
Phil Hi, it's Paul I'm going to ask grant to jump in here real quick and then I'll follow up.
Sure. So I think part of it is that.
No.
We don't expect rental rate increases and 20% a year from now so there will be some sort of tailing down of that going forward, but we are.
Heartened by the strong.
Income growth that we've actually seen ADP came out with a report yesterday showing.
Showing that wages have grown three 3%.
Across the U S and for those that were changing jobs is actually double that at six 6%, but as it relates to what we're trying to do in our portfolio. The strongest growth was actually in the southeast.
Which was three 8% and in some of the industries that.
Our residents are likely to be employed in such as trade transportation and utilities. So for example, our locations that we are acquiring and Henry County is really sort of a nexus of logistics for the Atlanta area trade transportation and utilities.
<unk> were up six 7%.
And construction wages up 5%. So these are the type of people that will be in.
Reside in our properties. So I think we're really heartened by that I think the news came out yesterday.
Costco was increasing their wages as well so unlike other.
At times in there.
Recoveries were actually seen strong wage growth at the bottom of the strata to the mid level of the strata and so I think we're heartened by that.
In terms of what that means for the ability of our renters to be able to.
Sort of absorb some of the growing costs in terms of the rent budget moving forward into 'twenty two.
Bill the only thing I'd add to that is.
Sure.
Ken.
I can't.
Complement grant enough for how detailed he is.
On his answers, but the only thing I would just say is our experience, especially through COVID-19.
When when there was.
Job loss pressure when there was even now looking forward some.
Perceived inflationary pressures.
<unk> just got stronger we saw people, leaving.
The AA minuses and quite frankly.
I looked at our suburban B.
During the Covid performance.
As you recall a lot of people were questioning why are we why we employ to be suburban strategy not only the growth, but just the resiliency that we saw.
And that income demographic, because it's really the only only affordable product type that is located in an infrastructure with schools retail services et cetera, and so.
We think that the continued pressures.
May put some pressure on our renters, but we think there is a.
Steve <unk> is the demand curve and so we think we're going to see plenty.
Demand for that type of product moving forward Bill.
Alright, I appreciate the thoughts.
Okay.
Thank you we have no further questions in the queue at this time.
I'd like to thank everyone again for your time and interest today, we will continue to update you as we progress our multifamily transformation and we look forward to speaking with many of you over the next several weeks.
Thank you.
Thank you ladies and gentlemen, this does conclude todays event you may disconnect at this time and have a wonderful day. Thank you for your participation.