RMR Group Inc

NASDAQ:RMR

Earnings Call Analysis

Earnings Call Transcript 2023-Q4

[Operator]

Good morning, and welcome to The RMR Group Fiscal Fourth Quarter 2023 Earnings Conference Call. [Operator Instructions] Please also note that this event is being recorded today. I would now like to turn the call over to Kevin Barry, Senior Director of Investor Relations. Please go ahead.

[Kevin Barry, executive]

Good morning, and thank you for joining RMR's Fourth Quarter of Fiscal 2023 Conference Call. With me on today's call are President and CEO, Adam Portnoy; and Chief Financial Officer, Matt Jordan. In just a moment, we will provide details about our business and our 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, November 16, 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 contained in our filings with the Securities and Exchange Commission, which can be found on our website 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, 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 the calculation of adjusted EBITDA margin can be found in our financial results.

I will now turn the call over to Adam.

[Adam Portnoy, executive]

Thanks, Kevin, and thank you all for joining us this morning. RMR finished fiscal year 2023 with solid financial results, once again highlighting the stability of our platform in light of a challenging year for commercial real estate. This stability stems in large part from the fact that most of our recurring fee revenue is generated from long-term perpetual and private capital funds.

For the fiscal fourth quarter, we reported adjusted net income per share of $0.48 and adjusted EBITDA of $25.4 million. Our quarterly distribution remains well covered, and we ended the quarter with strong liquidity, no debt and assets under management of approximately $36 billion. We remain on track to acquire several multifamily platforms and expect the transaction to close by the end of the year. As a reminder, this accretive acquisition provides us an opportunity to gain meaningful scale in the multifamily space through a vertically integrated platform with strong operational expertise and a proven track record. It also advances RMR's private capital growth strategy in terms of both AUM and expanded private capital relationships. Since announcing a deal, both organizations have been focused on obtaining the third-party consent required to close the transaction.

We have also been joining the CARROLL management team in meetings with capital partners to introduce them to RMR and to ensure they appreciate the benefits of the combined platform. The feedback from all partners has been very positive and they have all communicated an eagerness to continue investing in multifamily properties with RMR once the transaction closes and commercial real estate markets stabilize. As a reminder, in addition to its third-party management business and growing development capabilities, the existing CARROLL fund series has the potential to make more than $3 billion of additional multifamily investments through 2025.

We look forward to closing the transaction and the opportunity in front of us to scale the CARROLL multifamily business and create significant value for RMR. Turning now to the commercial real estate markets and RMR operational highlights. Commercial real estate markets remained under significant pressure as persistent economic uncertainty and elevated cost of capital have led to a sustained slowdown in debt financing and property sales activities. Additionally, market expectations for interest rates to remain higher for longer have delayed the capital markets recovery and put further downward pressure on real estate valuations. Although the overall market remains difficult for commercial real estate, the current market environment may produce additional external growth opportunities to further build out our platform. Following the CARROLL acquisition, RMR will still have approximately $200 million in cash, no debt, and we will remain well-positioned to take advantage of current market volatility.

We will continue to evaluate opportunities that have presented -- that have been presented to us to further diversify our revenue base and expand our private capital business. From a leasing perspective, despite the industry challenges, RMR delivered another productive quarter, arranging 3.1 million square feet of commercial leases on behalf of our clients. This activity resulted in average rental rates that were approximately 8.4% higher than previous rents for the same space and had a weighted average lease term of approximately 6 years. For the full year, our leasing volumes exceeded 12 million square feet, and our portfolio of managed real estate ended the year approximately 96% leased. We believe these results speak to the tireless efforts of RMR's asset and property management teams to proactively engage tenants and the brokerage community to ensure the value of our high-quality real estate portfolio is maximized.

Turning now to a few brief highlights at our clients this past quarter. OPI continues to focus on navigating the challenging conditions facing the office sector. As OPI approaches 2024, their focus will be on upcoming lease expirations and existing vacancies, along with addressing upcoming debt maturities. To this end, the company has closed on more than $177 million of interest-only mortgage financings since May.

Considering the challenges related to financing office properties in today's capital markets, this recent progress serves as a testament to our OPI's attractive portfolio of highly financeable properties. With a $4 billion real estate portfolio by gross book value that is more than 90% unencumbered, OPI is able to evaluate multiple strategies to proactively manage its balance sheet in the future.

At DHC, same-property NOI continued to show meaningful year-over-year improvement as growth in shop occupancy and rate exceeded industry benchmarks. While senior living fundamentals remain supportive of further growth, the pace of the SHOP recovery has been inconsistent and DHC does not expect to be in compliance with its debt incurrence covenant until the end of 2024.

Given upcoming debt maturities, we are currently in discussions with DHC's Bank Group to possibly extend the maturity date of its credit facility. DHC also recently engaged B. Riley Securities to help evaluate capital raising options which could include asset sales, joint ventures and permissible finance such as preferred equity or 0 coupon bonds.

Turning to SVC. Overall results reflect continued improvement in financial and operational performance within the hotel portfolio and strong cash flow generation from its service retail assets. From a capital markets perspective, last week, SVC priced $1 billion of senior secured notes at an interest rate of [ 85%. ] The notes, which will mature in 2031, are secured by the durable cash flows of 70 of its BP leased properties. SVC plans to use the proceeds from this offering to repay all of its 2024 debt maturities, which leaves SVC very well positioned heading into next year.

To sum up, while the market backdrop remains challenged, our financial profile is strong, and we continue to make progress executing on the strategic plans of our clients and growing the private capital side of our business. With the pending CARROLL acquisition, we look forward to delivering meaningful growth and value creation for our investors in the years to come.

With that, I'll now turn the call over to Matt Jordan, our Chief Financial Officer, who will review our financial results for the quarter.

[Matthew Jordan, executive]

Thanks, Adam, and good morning, everyone. For the fourth quarter, we reported adjusted net income of $0.48 per share, adjusted EBITDA of $25.4 million and an adjusted EBITDA margin of over 53%. Our quarterly results exceeded the high end of our guidance, primarily due to construction management fees coming in stronger than expected as well as the favorable impact of our continued focus on cost containment.

As Adam highlighted earlier, we expect the CARROLL transaction to close by the end of the year. As we continue to invest time in preparing to integrate the 2 organizations, we remain excited about the increased scale, expanded sector diversification and added operational expertise to the transaction results in. Given the uncertainty of exactly when the CARROLL transaction will close, any financial guidance for next quarter will be focused solely on RMR's legacy business.

Recurring service revenues were $45.4 million this quarter, which was down $1.7 million sequentially. This decrease was in line with expectations and primarily attributable to the full quarter impact and the resulting loss of service revenues of the TA transaction that closed in mid-May. As it relates to next quarter, based upon the current enterprise values of our Managed Equity REITs and typical seasonal declines at Sonesta, we expect recurring service revenues to be between $42.5 million and $44 million.

It's also worth noting that this quarter, we generated $468,000 in incentive fees from Seven Hills Realty Trust, our commercial mortgage REIT. Seven Hills continues to outperform its peer group by taking advantage of the recent pullback by traditional CRE lenders to invest at attractive terms. Our Tremont lending team has curated a strong loan portfolio that underscores their disciplined underwriting and asset management capabilities even in this period of volatile market conditions. Turning to expenses, recurring cash compensation of approximately $34 million was flat on a sequential-quarter basis and slightly ahead of our guidance due to annual bonus true-ups of approximately $500,000. Looking ahead to next quarter, we expect recurring cash compensation to remain at approximately $34 million as annual merit increases, which were effective October 1, will be offset by the elimination of corporate office roles that occurred earlier this year.

The restructuring of these corporate office roles will also result in a modest increase in our cash reimbursement rate to approximately 46%. G&A costs of $7.8 million were unusually low this quarter, decreasing approximately $1.8 million sequentially, primarily due to lower technology investment costs, a onetime franchise tax benefit of over $500,000 and a continued focus on cost containment, including thoughtfully limiting professional fees. On a normalized basis, G&A should be approximately $8.5 million next quarter. As it relates to our income tax rate, this quarter's rate of 15.7% was slightly higher than normal due to our year-end true-up of nondeductible costs. We expect our tax rate for next quarter to drop back to more normalized levels of approximately 15%.

Aggregating all these prospective assumptions I outlined earlier, next quarter, we expect adjusted earnings per share to range from $0.43 to $0.45 per share and adjusted EBITDA should range from $22 million to $24 million. That concludes our formal remarks. Operator, would you please open the line to questions?

[Operator]

[Operator Instructions] At this time, we will take our first question, which will come from Bryan Maher with B. Riley.

[Bryan Maher, analyst]

Just a couple for me. Adam and Matt, maybe in light of the Managed REITs being either in the market now or expected to be in the market for some refinancing, and I know SVC just did their deal last week, are you seeing any increased appetite from lenders as it relates to what's happened just this week with the pullback in rates and maybe a desire to kind of lock something in before interest rates possibly head back down, which, I guess, would be favorable to your execution?

[Adam Portnoy, executive]

Sure, Bryan, and good to hear from you. I guess with returns to capital, your question is really about available capital or debt capital, specifically around commercial real estate and maybe even more specifically around our REITs. I would say it's hard to say if there's been any noticeable difference in just the last week and the pullback in rates. But I can tell you, we have a pretty good feel just from 2 publicly announced activities. One, the SVC financing that you referenced and I referenced earlier, where we raised $1 billion, and we are very pleased with the amount of interest in that transaction.

We raised that transaction. We launched it at $800 million, got well over $4 billion of interest, ended up accelerating the closing or the pricing of it by a day and upping the size by building $1 billion and lowering the price. So that was a pretty good indication to us that the debt markets are open for the right structure and the right real estate. The other activity that we are engaged in and we've publicly announced is with one of our companies with your firm, Bryan, B. Riley, we've engaged them to help us explore options for DHC.

And I would say that generally speaking, we've had a pretty favorable response from investors generally in talking with the company. And so between those two data points, I would say there is debt in financing capital available in the marketplace in today's market. I think it's really, if anything, and this is just conjecture that buyers of debt, investors and debt have maybe concluded that the interest rates are either at their peak or close to their peak.

And so therefore, they can have a little bit better idea about how to plan, and that's true for real estate as well. When you sort of have an idea of where the interest rates may be, you can do a little better job planning. And so maybe that's really what's driving further interest by debt investors in commercial real estate financing, but maybe more specifically our businesses as well. So I think that answers your question, Bryan.

[Bryan Maher, analyst]

Yes, pretty well. I mean when we think about, let's say, OPI going into next year, and I know you've been chipping away $100 million here, $100 million there with secured financing, does the current environment open up a scenario where you can do something a little bit more profound? Or do you think as it relates to OPI and office in general, you keep going along the route of chipping away $100 million here, $100 million there?

[Adam Portnoy, executive]

Yes. I don't -- without knowing exactly what you mean by profound, I mean, I think the current plan is to sort of go at it a little bit like you said, $100 million here, $100 million there, sprinkling some asset sales, we do our bank credit facility that's coming due at OPI. I would say that we feel pretty good about our ability to redo that facility. It is due in about 2.5 months from now, and we feel comfortable that we will be able to renew that or redo that facility as well as put a certain amount of properties and put secured financing in place as well as I would not say sell a large number of properties, but sell enough properties that we can likely do it at acceptable enough prices that we can get through the next year at least and into 2025.

That's not to say that there isn't a larger transaction to be done, but I think, generally speaking, large financings in and around the office is harder to do likely. It is not what we're planning to happen. That's not to say that if it doesn't become available, we wouldn't gauge in a transaction like that, but to do a large financing, debt financing of some sort, using offices collateral or using an office REIT as the issuer is probably more difficult in the current environment. And our expectation is it may remain that way for some -- for a few quarters at least.

[Bryan Maher, analyst]

One more for me, and I'll hop back in the queue. When I look at all of the RMR companies and -- I cover them all, except Seven Hills, and I look at the quarter after quarter leasing activity success throughout the various portfolios and the general high level of occupancy you run, even including OPI, what do you say to the naysayers out there as it relates to where the shares of the Managed REITs have traded? I don't know, maybe for fear, vacancies increase or whatever. It's just not playing out in the numbers. So how do you -- what would you say to them?

[Adam Portnoy, executive]

So I think what we are incredibly focused on. I can't specifically say why stocks trade where they trade. But I can say all I -- what we can do as a management company is come to work every day and try to do as good a job as we can to preserve equity value for the different vehicles. And frankly, given the current environment, we're pretty focused on balance sheets at DHC and OPI and obviously, the SVC as well in the other vehicles. So I think that's where our focus is and doing that in sort of the least disruptive way and to maximize shareholder value in that process is very much a focus for us.

With regard to leasing, I agree with you. Our portfolio, we do an incredibly strong job leasing our portfolio. I think that's a testament to the RMR organization and the folks in the property management and asset management groups. I mean this is an organization that takes their job very seriously. These are professionals that have been doing this for their entire career.

We have a nationwide network of offices and professionals doing this. I think we frankly do a better job leasing than most of our peers because of that and because we are so focused on commercial real estate almost exclusively. So yes, I think the platform is an incredible benefit for the individual REITs that are managed by RMR. And so I would argue that it's something that should be highlighted, and I'm glad you have -- you are highlighting it, Bryan, because I think it's something that we should be spending more time talking about and highlighting for investors.

Our re-leasing efforts have been phenomenal. I mean, 12 million square feet in the fiscal year is a lot of leasing that we have done. And we are 96% leased across the board. So we feel pretty good about those metrics.

[Operator]

[Operator Instructions] And with no remaining questions, we will conclude our question-and-answer session. I would like to turn the conference back over to Adam Portnoy for any closing remarks.

[Adam Portnoy, executive]

Thank you for joining us today. Operator, that concludes our call.

[Operator]

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect your lines.