The RMR Group Inc. Q2 2023 Earnings Call
Good morning, and welcome to the RMR group's fiscal second quarter 2023 earnings conference call.
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Please note. This event is being recorded I would now like to turn the conference over to Melissa Mccarthy manager of Investor Relations. Please go ahead.
Good morning, and thank you for joining RMR second quarter of fiscal 2023 conference call.
With me on today's call are president and CEO , unimportant, <unk> and Chief Financial Officer, Matt Jordan.
And just a moment they will provide details about our business and quarterly results followed by a question and answer session.
I would like to note that the recording and retransmission of today's conference call is prohibited without the prior written consent of the company.
Today's conference call contains forward looking statements within the meaning of the private Securities Litigation Reform Act of 1995 and other securities laws.
These forward looking statements are based on Rmr's beliefs and expectations as of today May four 2023, and actual results may differ materially from those that we project.
The company undertakes no obligation to revise or publicly release the results of any revision to the forward looking statements made in today's conference call additional information concerning factors that could cause those differences is.
Is contained in our filings with the.
The Securities and Exchange Commission, which can be found on our website at www dot our M. Our group Dot com investors are cautioned not to place undue reliance upon any forward looking statements and.
In addition, we may discuss non-GAAP numbers during this call, including adjusted net income adjusted earnings per share adjusted EBITDA and adjusted EBITDA margin.
A reconciliation of net income determined in accordance with U S. Generally accepted accounting principles to adjusted net income adjusted earnings per share adjusted EBITDA and a calculation of adjusted EBITDA margin can be found in our financial results.
On today's call, we will discuss the planned merger between O P. I N D H C in our prepared remarks.
Oh P. I N D. H C have not yet filed a preliminary joint proxy and registration statement with the FCC and therefore, we will not be taking questions about the merger.
In addition, we will discuss the planned acquisition of T. A buy B P. S.
As a special meeting a T a shareholders to approve the merger. It takes place on May 10th we will not be taking questions on this transaction, either and now I'd like to turn the call over to Adam.
Thanks, Melissa and thank you all for joining us this morning.
In the second fiscal quarter of 2023, we continue to navigate a challenging economic environment for commercial real estate.
Despite this turbulent backdrop, we are pleased to report solid financial results highlighted by adjusted earnings per share of 49.
Adjusted EBITDA of $25 $3 million in an annual dividend of $1 60 per share that remain secure and well covered.
Collectively these results are a reflection of our diverse client base and durable business model.
As it relates to operating fundamentals across our platform. We are proud of the tireless efforts of our employees to drive continued value at our managed assets with RMR, ranging almost 2 million square feet of leasing on behalf of our clients at a weighted average lease term of over nine years during the quarter.
This leasing velocity across our managed portfolio resulted in a quarter end consolidated occupancy rate of almost 96%.
Calendar year 2023, so far has been marked by three milestone events among rmr's client companies all of which look to address the unique opportunities and challenges certain of our clients faced as we look to position them for long term sustainable success.
First in February G I announced that it entered into a definitive agreement to be acquired by BP for $1 $3 billion.
Ta has been on a transformational journey over the last three years and we are pleased with the 84% premium. This transaction represents for <unk> shareholders. There is a special meeting of shareholders scheduled for May test to approve the transaction and earlier this week <unk> announced that both ISS and glass Lewis.
This came out in support of the transaction.
Assuming ta gets the requisite shareholder approval. The sale is expected to close on may 15th.
Second in March our lowest life announced that ABP Trust successfully completed a tender offer at an 85% premium to the prior 30 day average trading price. We believe their Laris life now are private company will be able to enhance its focus on operational excellence and best position the company to successfully.
To deliver on its business plan.
Lastly in April two of our perpetual client capital clients, THC, and OPI announced an agreement to merge and change the combined company's name to diversified property Trust the.
The merger will create a diversified REIT with REIT with a broad portfolio defensive tenant base and strong growth potential.
Financially the merger is expected to be accretive to both entities leverage and cash flow.
The combined entity is expected to provide a sustainable annual dividend of $1 per share with the potential for dividend growth in the future.
As it relates to the D. H C. It is facing a number of serious near term challenges driven largely by debt covenant restrictions that prevent it from issuing or refinancing debt.
This problem is exacerbated by DHT, having $700 million of debt coming due in early 2024, and GAC does not expect to be debt covenant compliance before this debt comes due.
As a result, one of the biggest benefits of this merger for Ghd is that upon its completion. The combined company will be in debt covenant compliance and can access regular way refinancing of its debt maturities.
In addition, while the sharp recoveries underway and trending favorably it is not happening fast enough and further capital is needed. In addition to debt refinancing capital to fund investments in DHS portfolio to help drive the ongoing turnaround in the senior living properties.
Finally, ghd also benefits from the merger with OPI by immediately providing a significant increase in its dividend for shareholders.
Since the merger DHT does not dissipate reinstating its regular dividend until 2025.
As it relates to OPI. They are facing a number of cards and longer term challenges as office sector headwinds are likely to negatively affect office owners for the foreseeable future more specifically the financing environment for office properties is and expect it to remain very difficult.
For the foreseeable future one of the biggest benefits of the merger for OPI as it provides it with greater access to capital sources, including low cost government and agency debt.
Opi's office portfolio will also require increased capital investments in the coming years, and OPI was facing an unsustainable dividend rate prior to the merger announcement.
By emerging with THC OPI gains access to an attractive unencumbered portfolio of medical office buildings and life Science properties, and we expect OPI will benefit long term from the expected eventual recovery in Dht's shop portfolio.
Turning to other highlights some notes across our clients during the quarter FCC further enhance its financial profile by redeeming. Its June 2023, senior notes using the proceeds from a $610 million issuance of net lease mortgage notes in light of the challenging capital markets environment.
We are pleased with this financing and believe its attributable to the strength and positive outlook of sbcs retail portfolio.
<unk> is also expected to benefit from Bp's acquisition of Ta as FCC will receive approximately $379 million in cash from the transaction.
<unk> also strengthens its tenant credit characteristics, because the amended travel center leases will be guaranteed by bps, a minus credit ratings.
<unk> Hotel portfolio also continues to experience positive operating fundamentals with robust increases in occupancy ADR and revpar.
With all facets of Spc's business, improving we believe SBC is possibly on a path to generate incentive fees to RMR in the future.
At seven Hills Realty Trust, our publicly traded mortgage REIT. We believe there remains significant opportunities to grow this part of our business seven hills portfolio remains default free a testament to our disciplined underwriting and asset management capabilities. In addition, with the recent pull back by many regional banks seven here.
<unk> has seen its pipelines world over $1 billion in possible transaction.
Whether it be at seven hills, or a new private capital vehicle. We believe our successful lending platform leaves us well positioned to possibly grow this type of AUM for RMR in the future.
With almost $200 million in cash and no debt, we believe our durable business model affords us the benefit of patients to take advantage of strategic opportunities that we believe will result from the ongoing market volatility.
Now I'll turn the call over to Matt Jordan, Our Chief Financial Officer, Thanks, Adam and good morning, everyone for the second quarter. We reported adjusted net income of $8 1 million or <unk> 49 per share and adjusted EBITDA of $25 $3 million with both measures being in line with our quarterly guidance.
This quarter's adjusted EBITDA margin of 50%, yet again highlights the highly efficient and scalable platform RMR has in place.
Total management and advisory service revenues were $48 2 million, which was down $1 $4 million sequentially.
This decrease was primarily attributable to seasonal declines at Ta and sonesta.
As well as a decrease in construction management fees as large redevelopment projects at OPI and ghd wound down.
In regards to the financial impact to RMR from the Ta transaction Ta currently represents approximately $4 million in quarterly revenues.
The loss of this revenue will be offset over time by a number of factors, which includes the favorable impact to our management fees from the increase to FCC share price subsequent to the Ta transaction announcements.
As well as approximately $1 million in annual compensation savings and.
And the resulting interest income from the $100 million in cash RMR will receive in connection with the Ta transaction.
As it relates to next quarter based upon the current average enterprise values of our managed equity Reits.
Projected construction volumes and an expected closing date of may 15th for the Ta transaction, we expect to generate between 45 and $47 million.
Management and advisory service revenues next quarter.
This guidance excludes approximately $45 million in termination fees that we expect to receive upon completion of the Ta transaction.
Turning to expenses.
Recurring cash compensation was approximately $34 5 million, an increase of $1 3 million sequentially due primarily to payroll tax and four one K contributions resetting on January one.
This quarter, we recovered approximately 43% of our cash compensation from our clients.
Looking ahead to next quarter, we expect recurring cash compensation to be approximately $34 million.
With a projected reimbursement rate closer to 44%.
G&A expense of $95 million. This quarter includes approximately $500000 of costs related to annual board of directors share grants.
And approximately $600000 or <unk> <unk> per share of technology transformation costs.
On a normalized basis G&A should be approximately $9 million next next quarter, excluding technology investments.
We closed the quarter with almost $200 million in cash in connection with the Ta transaction, we expect to receive approximately $100 million from the sale of the Ta shares RMR owns and the termination fee I touched on earlier.
As such we expect to end next quarter with approximately $300 million in cash.
Aggregating all the prospective assumptions I outlined earlier next quarter, we expect adjusted earnings per share to range from 46 to <unk> 48 per share.
And adjusted EBITDA should range from 23% to $25 million.
Before we begin the question and answer portion of the call I would like to first acknowledge the publication of our annual sustainability report.
The report highlights the many accomplishments and programs that drive our organization each and every day.
As we've highlighted previously rmr's publicly committed to reducing greenhouse gas emissions at assets, we have operational control over by 50% by 2030 and to attain net zero emissions by 2050.
Through calendar 2022, we have already achieved almost a 35% reduction in greenhouse gas emissions through energy efficiency measures sustainable habits, and renewable energy programs we.
We encourage those listening to go to the sustainability section of Armours website, where you can see a collective overview of our environmental programs contributions to the communities we operate in and the investments we make in our people.
Secondly, as most of the highlighted earlier, we cannot address questions regarding either the planned merger between <unk> HC or the planned acquisition of Ta by BP.
Operator would you please open the line to questions.
Yeah.
We will now begin the question and answer session to ask a question you May Press Star then one on your telephone keypad.
If you are using a speakerphone please pick up your handset before pressing the keys.
To withdraw your question. Please press Star then two.
Once again that was star then one to ask a question at this time, we will pause momentarily to assemble the roster.
And our first question will come from Bryan Maher of B Riley Securities. Please go ahead.
Thank you and good morning.
Adam and Matt I guess, it's going to be a short Q&A session. Today for you with I'm talking about the deals but kind of related to that.
Noticed our G&A numbers, we're a little light relative to what you reported in the.
Second fiscal quarter is any of that really being driven by legal advisory fees or is that being accounted for elsewhere.
No G&A.
When you back out the two large items this quarter our run rate this quarter was actually $8 $4 million. So we feel pretty good actually where G&A landed but you got to exclude the director share grants.
And the other half a million dollars or so of technology transformation costs, which we back out of adjusted EBITDA.
Yeah, but I I got I believe you've had some pretty high legal and advisory costs, where would those be going are they going into the actual.
Managed REIT in op Cos correct to the Reits would be absorbing those costs not RMR.
Got it.
We hear what youre, saying as it relates to office challenges on financing and Phds and current test.
But can you give us any color on the appetite of some.
The sovereign wealth funds that you've dealt with in the past as to yes stepping up to the plate.
Should any of the managed REIT.
Further JV asset sales into those JV fees or other type of capital, where youre deep pocketed relationships.
Step up and help over the next six to 12 months if needed.
Sure Brian Yes, I think the relationships. We currently have are very much open for business.
As we stated before we have some good very good relationships with some very large Asian sovereign wealth funds.
I would say that the issue is that.
While they are very much open for business.
Their returns expectations have increased.
And so therefore pricing around assets that would could be put into a JV may not be very attractive for us I think we could explore it but based on our.
Our understanding and preliminary conversations with them about what they are doing and how they are looking at investments.
Not sure it would be very attractive alternative for our companies today. So it's not something I anticipate we see a lot of going forward.
You also have to keep in mind that some of the assets that would be most attractive and available to go into those JV is.
Good or bad maybe some of the better assets that we have that are currently generating a lot of the cash flow.
It helps our companies specifically DHT year, OPI or any are there any other reits and by.
By removing that very healthy cash flow.
Yes, you get a near term liquidity boost but you lose out on the cash flow going forward. So.
Sort of Youre solving a short term problem, but maybe not solving a longer term problem because you're still you got to replace that cash flow and that becomes exacerbated if the pricing for the assets into the JV or sale regardless is high.
And today the environment the environment. We're in it's available you can sell assets.
The sovereign wealth funds, we're dealing with are open for business.
But I don't think the pricing would be particularly attractive or really work to solve a lot of our problems now in a pinch if we really got it against the wall and we didn't want to absolutely go into complete default on our debt I suppose we could do it for a short term to pay off the debt maturity itself, but it.
Won't solve the covenant issue, because we will lose we lose cash flow.
Right now would that be aside from let's say <unk>, where you had wanted to put another 40% slug into the JV I guess it was the mountain JV.
And so the sale of 30 assets.
Aside from what you just talked about with respect to JV and asset sales. There is the game plan still to move forward with deconsolidation, yes. It does.
90, 95 properties out of LPG, and giving that stopped kind of new legs for life here.
That would definitely be the plan. Unfortunately, as LPT discloses in its financial package and I think as they talked about on their call.
That joint venture does not currently cash flow because of the rapid rise in interest rates and the floating rate debt, we put in place to finance the mountain JV. So while we do not anticipate there being a need for capital calls into the joint venture.
It is not throwing off.
Significant it's not starting off any cash flow and therefore for a core or core plus investment, which most investors when they invest in a core or core plus portfolio.
What is particularly high return, but they are looking for stability part of that stability is a current income we are not in a position that we can offer a current income in that portfolio. So we do not believe it would be attractive to any potential other additional joint venture partner.
So, yes, we'd love to sell an interest in that to somebody.
<unk> consolidated we don't believe and I think <unk> addressed this.
On their call as well we tried to highlight in some of the materials that IMTT puts out and its supplemental it's not practical to believe thats going to happen.
Right, but with the industrial reach that we track it seems like everybody is having a lot of success with driving renewal rates pretty impressively higher still you know in the 20% Zip code.
So it seems like it's only may be a matter of time that organically <unk> should be able to raise NOI to kind of get you out of that scenario, especially at wire more to believe the 10 year rates, where they are trading currently if interest rates were to come.
Backtracking at 12 months to 18 months from now it seems like there is a clear sign of light out of this situation is just going to take time is that correct.
There is a question of time, we're blessed with the fact that we have a very hot very well occupied very high credit quality tenant base, roughly 99% leased to very majority of investment grade rated tenants well located properties newer properties.
The average lease term is nine years. So the issue is that we don't and every lease that does come up for renewal, we are rolling up and we're rolling them up significantly.
Problem is we don't if there's a problem. It's just there's not a lot. That's renewing every year and so we're sort of blessed and cursed with that with that portfolio. Because we just don't have enough leases rolling I agree with your conclusion in Europe , and what you are saying, Brian that eventually it will grow out of.
But we're talking unfortunately years not months or quarters for it to grow out of it because it's going to take that much time for the leases the role enough leases to roll to create enough increase in NOI to really move the needle.
Got it just last from me I don't think I've seen anywhere and maybe you're yet to disclose it but.
But when OPI and Ghd do merger have you identified with the new benchmark index would be for that combined entity.
We have not.
As an interesting nuance question as we have discussed it.
Preliminarily at.
At the board level I will tell you that on a combined basis. The majority of the assets would be office office, including medical office and life science that all being said.
Think thats something that the board of the combined company will likely take up.
After the completion of the merger, we will consider that more seriously.
Got it thank you.
Yeah.
Once again, if you would like to ask a question. Please press Star then one.
And our next question will come from Ronald Camden of Morgan Stanley . Please go ahead.
Hey, good morning, guys to many months of Ronald Camden, maybe.
Maybe just following up on the previous question you guys talked about higher return hurdles in the private markets just understand asset sales and whatnot may help it may not help the covenants.
But just in terms of expectations for pricing relative to maybe where the stock's traded on the public market.
Could you guys comment on that at all.
So.
Based on implied cap rates that the stock's currently trading at a do seem quite a bit wider than where even.
Even at the higher cap rate environment, we are living in and on a private in the private market.
No.
I'm not talking about the merger itself, but one of the things that we've certainly been quite negatively affected by between the <unk> merger is that is the drop in the stocks at OPI Ghd, that's had a direct impact on rmr's cash flow.
So a significant direct negative impact.
And so yes, I do believe they're trading quite a bit wide of where you would see private valuations be for some of those assets. The issue is in the private markets is it's very hard to determine value, especially around the office because.
Theres very little trading activity going on in the marketplace.
In generally speaking anything that has the word office today feels like whether it is good office or bad office well located a newer buildings are older buildings is just negatively viewed across the board until everything gets thrown out.
With it I believe.
And I hope this to be true over the coming quarters or years that what's happened.
What happened I think an analogy in the retail sector over the last decade will start to happen in the office sector, where you investors lenders finance providers will start bifurcated between good office assets and bad office assets.
And I think the good office assets, which frankly, we have a portfolio that is majority a class buildings.
And were happened to have a portfolio thats not heavily located in gateway markets, which used to be where everybody wanted to be and I'm not sure. That's the right place to have a large portfolio today and office in Gateway markets. I think you may be better better served having a diverse portfolio and so class eight.
Office buildings in suburban markets across the country, especially in the southeast and southwest, which we have a large portion of properties. So it's a long way of answering your question, Yes, I think our stocks are not reflecting sure intrinsic value, but I think a lot of <unk>.
Stocks today are not reflective of intrinsic value because there is not a lot of transactions that people can point to to come up with real value and.
And even in the private marketplace.
Great that makes sense, and then obviously without getting into detail about the RMR.
OPI and ghd transaction.
Just.
Arms of <unk>.
Access to GSE financing.
I understand that was one of the.
The impetus for the transaction in general are one of it just in terms of.
Some of the underwriting.
Standards and whatnot that that will be looked at just because from my understanding the shop portfolio fully stabilized.
Will that be looked at kind of on a pro forma basis or just on <unk>.
Trailing results how are you thinking about that.
So just to make sure I understand your question how does in the shop portfolio hard as let's say the agencies look at financing those assets.
Yes, exactly yes, so they revised their financing criteria over the last few years.
And the good news is we have a.
A large portfolio of senior living assets and although they are struggling and improving.
Obviously.
With over 200, and roughly 30 assets roughly senior living assets.
We obviously have a.
Many assets that are performing fine Unfortunately up more assets not performing fine. So you don't have to take the entire portfolio you can take a group of assets.
Based on.
Historical and their agencies have become a little bit.
More forgiving in the way they do the underwriting where they may they will just look at maybe the most recent quarter.
And then annualize that keeping in mind your projections they won't take the last 12 months and so there is an opportunity in the agencies have been doing this largely because this is largely something that came out of the pandemic because they recognized it in the recovery for a lot of senior living assets.
If you look back 12 months youre going to have a pretty low underwriting.
Ability to underwrite now theyre more willing to look at just one quarter back which might obviously, if things have been improving over many quarters. The most recent quarter hopefully is the best quarter and then the annualize that and that's what you use for the underwriting.
Domestic that there is a portfolio of assets.
Within the <unk> portfolio.
That will provide for significant capital or financing to be able to report on those assets.
That we are not able to access today at THC.
And that again I said in my prepared remarks, I'm just repeating it is one of the benefits of the transaction is on a combined basis your debt covenant compliance. That's a huge thing that I think a lot of investors sort of brushed aside about the covenants. It's very onerous, we're not allowed to finance new that we're not.
<unk> finance or refinance expiring that you just can't issue any debt.
And by being in compliance. We can then access that what I think very very liquid open and cost competitive financing.
And if you're especially if youre in the office sector. If you have access to that funding window. I think you are at a competitive advantage in the marketplace.
Right and maybe just a follow up.
The underwriting is based on quarterly results I guess, the logical thing to do would be to wait until maybe the second half of 'twenty four.
Before you ask you actually access the GSE financing just to show had stabilized results does that kind of the right way to think about it or.
We have to wait yes. This is getting a little ahead of ourselves is planning a little bit too far out I think we are we could be in a position to put financing in place if we chose to.
In early 'twenty four we could be in a position to do so the question you're asking is would you do so and the answer is I don't know, but I do know that we could buy early 'twenty four and my belief do so and do so in a sizable way if we had to so.
It's there for us whether we choose to do it is a different question that you're asking but we can.
Okay. Thank you follow up guys.
Yes.
The next question is a follow up from Bryan Maher of B Riley Securities. Please go ahead.
Great. Thanks, So Adam you opened up that door for me on the shop financing question.
I think we understand here pretty well.
When we look at roughly $4 billion in unencumbered shop assets within D. H C.
Yeah.
We were thinking something along the lines you know maybe you Cherry pick out a $1 4 billion by the better performing NOI accelerated from Renova.
Renovations last year properties to do a tranche in early 2024 to take out the 2024 deaths for OPI and Ghd and then maybe you could do another one a year later after other shop NOI assets.
As you know.
Move moves northward.
Bank can support that debt is that unrealistic to be thinking in that way.
No youre directionally in the REIT thinking about things correctly, Brian those are all things we can do I will just put some more.
<unk> out there for you to think about obviously.
We want to be very careful in terms of if we access that market.
Picking the most mature properties that we are financing them too early in their recovery, we want properties that are.
Largely recovered and were not leaving some financing on the table.
1 billion 4 billion five in 'twenty four sounds a little heavy to me.
To be honest, but.
<unk>.
We did something that large I think we'd be taking some assets that were not fully recovered and leaving financing on the table. The other benchmark to keep in mind is there are limits to how much secured debt. We can ultimately put on the portfolio because remember we do not want to because every time, we put secured debt on.
We're moving those assets on the unencumbered asset pool, and we still we still have.
Unsecured bonds that are unsecured debt covenants and so yes, we have significant room to add secured financing.
Well into ability well past $1 billion.
But there's a limit to how much we can put on it so think about that I'm not sure you could say something like $1 billion five and then there is another $1 billion five I think you start really stressing covenants.
The unencumbered bonds, there will still be in place. So that's those are just some sort of reactions and markers for you to think about.
Right, but I got to believe that if you just did in the first half of 2024.
And when I say 1 billion 4 billion five any pledge 1 billion 4 billion five to take out 1 billion cash.
Your other debt.
I'll trade more favorably and one would have to believe that the bank groups associated with OPI EAC combined company would.
Have a sigh of relief and be.
Much more agreeable to just simply refinance debt that comes due on a go forward basis. After you may be tapped out in the first half a billion of $1 billion of agency debt is that correct thinking.
Brian that is correct thinking yes, I think in the near term, we have a bias towards thinking about putting agency debt on some.
Sometime in 'twenty four.
Timing is a little open it's a little ways away. So we're not.
Quite sure exactly when but sometime in 'twenty, four and Thats right.
Our hope is that we would then have.
More regular way access to the unsecured market going forward after that that would be the sort of base business plan.
But a lot that has a lot of assumptions in that base business plan that we have to see come through.
Perfect. Thank you that's helpful.
This concludes our question and answer session I would like to turn the conference back over to Adam Portnoy, President and Chief Executive Officer for any closing remarks.
Thank you all for joining us on today's call. We look forward to speaking with you again in the future.
Okay.
The conference has now concluded. Thank you for attending today's presentation and you may now disconnect.
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