The RMR Group Inc. (NASDAQ:RMR) Q2 2024 Earnings Call Transcript May 8, 2024
The RMR Group Inc. isn’t one of the 30 most popular stocks among hedge funds at the end of the third quarter (see the details here).
Operator: Good afternoon. And welcome to the RMR Group Fiscal Second Quarter 2024 Earnings Conference Call. All participants will be in listen only mode [Operator Instructions]. Please note that this event is being recorded. I would now like to turn the conference over to Kevin Barry, Senior Director of Investor Relations. Please go ahead.
Kevin Barry: Good afternoon. And thank you for joining RMR’s second quarter of fiscal 2024 conference call. With me on today’s call are President and CEO, Adam Portnoy; and Chief Financial Officer, Matt Jordan. In just a moment, they will provide details about our business and quarterly results, followed by a question-and-answer session. First, I would like to note that management will not be answering questions about the debt exchange offer that its client Office Properties Income Trust announced last week as the offering period is currently open. I would also 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 8, 2024, 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 contained in our filings with the Securities and Exchange Commission, which can be found on our Web site at www.rmrgroup.com. Investors are cautioned not to place undue reliance upon any forward-looking statements. In addition, we may discuss non-GAAP numbers during this call, including adjusted net income, adjusted earnings per share, distributable earnings and adjusted EBITDA.
A reconciliation of net income determined in accordance with US Generally Accepted Accounting Principles to these non-GAAP figures can be found in our financial results. I will now turn the call over to Adam.
Adam Portnoy: Thanks, Kevin. And thank you all for joining us today. Since our last earnings call, we have continued to advance our business and support our clients through the current headwinds facing many aspects of commercial real estate. Overall, real estate transaction volumes have remained subdued for over a year, largely a result of an increase in interest rates, persistent inflation and uncertainty regarding whether the Federal Reserve will cut interest rates later this year. While interest rates may remain higher for longer, we do remain cautiously optimistic about an improving market environment later this year and into 2025. The resiliency and strength of the RMR platform over many years and through numerous business cycles gives us a solid foundation to continue creating long term value for all our stakeholders.
Last night, we reported second quarter results that reflect both revenue growth, driven by our recent residential platform acquisition, and investments we are making to ensure RMR remains well-positioned to take advantage of growth opportunities in the future. This quarter, we generated distributable earnings per share of $0.51 and adjusted EBITDA of $22.7 million. With nearly $200 million of cash and no corporate debt, we have ample flexibility to continue making the necessary investments to further our strategic objectives. The strength of our balance sheet and the durability of our cash flows also led to our recent announcement regarding an increase to our recurring dividend by 12.5% to $0.45 per quarter, which remains well covered in a 64% payout ratio.
We ended the quarter with AUM of over $41 billion, broadly diversified across all major commercial real estate sectors. While perpetual capital accounts for approximately 68% of our AUM, over the past four years, we have strategically focused on increasing our private capital AUM from essentially zero to more than $13 billion today. Our fiscal second quarter marks the first quarter of RMR Residential’s results being incorporated, and we remain optimistic about the future of this business. Despite a recent leveling-off in multifamily rent growth in the Sunbelt region, which is largely the result of absorbing new supply, the long term multifamily fundamentals in the Sunbelt are supported by favorable long term trends, including continued population in migration, a strong labor market, declining construction starts and the cost differential between owning a home and renting.
While multifamily deal volume has been muted, we have recently seen a considerable uptick in new transaction marketing activity, which we believe bodes well for deployment of our residential dry powder in the back half of calendar 2024. Our residential acquisitions team is currently tracking close to 100 deals across various Sunbelt markets, including a number of potential off market transactions. Beyond our residential platform, we are continually evaluating strategic growth opportunities that leverage our existing capabilities. To this end, we are in the initial stages of creating a private debt vehicle that capitalizes on the attractive risk adjusted returns, private credit is currently generating and leverages the experience and expertise of our lending platform Tremont Realty Capital.
Tremont has demonstrated a successful track record originating commercial mortgages that have generated substantial shareholder returns at our public mortgage REIT, Seven Hills Realty Trust. Since it began managing Seven Hills, Tremont has made approximately 50 value add and light transitional investments totaling $1.3 billion, resulting in a weighted average gross IRR of 14.5% on its realized investments. With constrained bank lending for commercial real estate together with nearly $2 trillion of commercial real estate debt maturing by the end of 2026, we see a meaningful opportunity to increase loan volume for both public and private capital investors. To launch this new strategic initiative, we plan to amass a seed portfolio of up to $100 million in loans over the coming months using our own balance sheet, which would in turn help expediate capital raising for this vehicle.
These loans will be levered through a bank repurchase facility resulting in RMR’s net equity or cash commitment to be minimal. Based on market feedback, we believe raising private capital via a seeded venture will garner greater success than attempting to raise a blind pool of capital. As third party investors are identified for this Tremont managed vehicle, a substantial majority of the equity investment we are making is expected to be repaid and the investments to move off balance sheet at RMR. In support of this strategic initiative, last month, we accepted an application from a prospective borrower for a floating rate mortgage loan secured by a hotel in Massachusetts for a gross commitment of $40 million. In the coming months, we plan to make additional commitments for similar type loans.
And we look forward to updating you on the progress of this strategic initiative in the future. Turning to noteworthy highlights of our perpetual capital clients. During the quarter, we remain focused on assisting our clients with the execution of their strategic and financial priorities. We arranged over 3 million square feet of leases on behalf of our clients with an weighted average roll up in rent of 17%. More than 60% of this quarter’s leasing activity was executed at ILPT, highlighting continued strong demand for the company’s industrial and logistics properties. ILPT’s quarterly earnings once again demonstrated solid operating results. Occupancy increased to 99%. Cash leasing spreads grew 25% or the strongest in six quarters and same property cash basis NOI was up 230 basis points.
With no final debt maturities until 2027, ILPT has the flexibility to be patient until the financing environment improves. DHC continues to advance key initiatives focused on improving its operating results and further strengthening its capital and liquidity profile. First quarter financial results reflect continued improvement in DHC’s SHOP segment, with same property cash basis NOI increasing almost 10% year-over-year and continued roll-ups in rent within their medical office and life sciences segment. DHC has also outlined targeted strategies for capital deployment and operator transitions within the SHOP’s portfolio to continue improving performance. OPI has made considerable progress since the beginning of the year addressing its debt maturities and continues to execute on its financing strategies amid a challenging and lending environment for the office sector.
The company recently launched an offer to exchange certain of its outstanding unsecured senior notes for new senior secured notes. Additional information about this exchange offer can be found in OPI’s press release, which was issued last week. Lastly, at SVC, overall hotel performance during the quarter reflected softer seasonal trends, as well as the impact of ongoing renovations across the portfolio. SVC remains intensely focused on improving hotel operating trends and enhancing the quality of its hotel portfolio to best position its operators for long term growth. To that end, the company is currently executing a twofold strategy aimed at investing in its hotel renovation program and advancing plans to dispose of lower performing assets that have been a drag on profitability.
In addition, the near term challenges within SVC’s lodging portfolio is somewhat offset by the stability of SVC’s net lease portfolio. With that, I’ll now turn the call over to Matt Jordan, Executive Vice President and our Chief Financial Officer.
Matt Jordan: Thanks Adam. And good afternoon, everyone. For second quarter, we reported adjusted net income of $0.39 per share, adjusted EBITDA of $22.7 million and distributable earnings of $0.51 per share. This quarter’s results were inline with our guidance and reflect the balance of cost containment and necessary platform level investments to support long term growth. This quarter, we continued the integration of the RMR Residential platform and remain on track to identify the synergies outlined at the time we announced the acquisition. The realization of the synergies and the related impact on our financials will occur in varying periods over the next two years. Given the expectations around multifamily capital markets activity that Adam highlighted earlier, we expect RMR Residential to remain largely breakeven through at least next quarter.
Turning to this quarter’s results. Recurring service revenues were $49.6 million, an increase of $3.4 million sequentially and inline with our expectations. The sequential increase reflects the full quarter impact of RMR Residential, partially offset by declines in construction management fees as a result of slowing construction spend at our clients. Next quarter, we expect recurring service revenues to remain relatively flat at an expected range of $48 million to $50 million. This estimated range assumes enterprise values at our managed equity REIT stay at their current levels, normal seasonal improvements in Sonesta related management fees and consistent levels of construction spend. Cash compensation was approximately $44 million, which includes the full quarter impact of RMR Residential, as well as the adverse impacts of payroll tax and 401k contributions resetting on January 1st, both of which were partially offset by strategic restructuring actions taken over the last 12 months.
Looking ahead to next quarter, we expect cash compensation to remain at these same levels and our cash reimbursement rate to be approximately 50%. G&A expenses this quarter were $11.6 million, which includes $600,000 of annual director share grants and $200,000 of technology transformation costs. The remaining $10.8 million of recurring G&A expenses reflects increased levels of third party construction costs and higher than anticipated expenses related to RMR Residential. As it relates to RMR Residential, the bulk of those costs are from marketing and technology expenses, the majority of which are passed through to managed properties and are included in our service revenues. Next quarter, we expect recurring G&A to remain at approximately $11 million.
Aggregating these collective assumptions, next quarter, we expect adjusted earnings per share to be between $0.37 and $0.39 per share, adjusted EBITDA to range from $21 million to $22 million and distributable earnings to range from $0.46 to $0.48 per share. As it relates to our balance sheet, we ended the quarter with almost $200 million in cash and no corporate debt, providing us ample flexibility to continue investing in our platform and leaves us well positioned to capitalize on strategic opportunities as they arise. Before we begin the question-and-answer portion of the call, I would like to first acknowledge the publication of our Annual Sustainability Report. RMR remains committed to reducing greenhouse gas emissions at assets we have operational control over by 50% by 2029 and to attain net zero emissions by 2050.
Through calendar 2023, we are well on our way having achieved a 35% reduction in greenhouse gas emissions through energy efficiency measures, sustainable procurement and renewable energy programs. Lastly, as Kevin highlighted earlier, we can not address questions regarding OPI’s current debt exchange offer. That concludes our formal remarks. Operator, would you please open the line to questions?
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