Tricon Residential Inc

TSX:TCN

Earnings Call Transcript 2018-Q1

[Operator]

Good morning. My name is Jamie, and I will be your conference operator today. At this time, I would like to welcome everyone to the Tricon Capital Q1 Analyst Call. [Operator Instructions] Thank you. Wojtek Nowak, Director of Corporate Finance and Investor Relations, you may begin your conference.

[Wojtek Nowak]

Thank you, Jamie. Good morning, everyone, and thank you for joining us to discuss Tricon's results for the 3 months ended March 31, 2018, which were shared in the news release we distributed yesterday.I'd like to remind you that our remarks and answers to your questions may contain forward-looking statements and information. This information is subject to risks and uncertainties that may cause actual events or results to differ materially. For more information, please refer to our most recent Management's Discussion and analysis and Annual Information Form, which are available on SEDAR. Our remarks also include references to non-GAAP financial measures, which are explained and reconciled in our MD&A.I would also like to remind everyone that all figures are being quoted in U.S. dollars unless otherwise stated. Please note that this call is available by webcast at triconcapital.com, and a replay will be accessible there following the call. Lastly, please note that during this call we will be referring to a supplementary conference call presentation posted on our website. If you haven't already accessed it, it will be a useful tool to help you follow along during the call. You can find the presentation in the Investor Information section of triconcapital.com under Events and Presentations. With that, I will turn the call over to Wissam Francis, CFO, Tricon Capital Group.

[Wissam Francis, Executive VP & CFO]

Thank you, Wojtek, and good morning, everyone. Our prepared remarks this morning will include highlights of our quarterly results and a discussion of our various investment verticals.Starting on Slide 5 of our presentation, Tricon continues to deliver strong growth in the first quarter of 2018, with assets under management increasing by 57% year-over-year to $4.8 billion. During the quarter, assets under management increased by $135 million, mainly driven by $149 million increase in Tricon American Homes, consisting of new investments and fair value gains related to strong home price appreciation in the portfolio.On Slide 6, you could see that on an IFRS basis, we reported diluted earnings per share of $0.46 this quarter compared to $0.07 in the same quarter last year, reflecting net income of $99 million compared to $8 million last year. The biggest driver was Tricon American Homes Investment Income, which increased by $74 million from the prior year as a result of the Silver Bay acquisition and strong fair value gains. The increase was partly offset by a $5 million of additional interest expense, driven by a higher credit facility balance and new debentures issued as well as $10 million of additional deferred income tax related to the higher TAH investment income. This quarter's result also includes a gain of $29 million related to a change in the fair value of the derivatives embedded in our convertible debentures as opposed to a $4 million loss on the derivative in the prior year. Let me remind you that this number is driven by changes in our share price, and so the gain is a result of our share price decreasing during the quarter. To provide a more normalized view of our performance, we present the bridge to adjusted income metrics on Slide 7, which removes the change in the fair value of the derivatives as well as other nonrecurring and noncash items.On an adjusted basis, we reported diluted earnings per share of $0.49, representing a 277% increase compared to $0.13 reported last year.Diving deeper into these metrics on Slide 8, you can see that our adjusted EBITDA increased significantly year-over-year to $115 million, representing our strongest quarter yet. The main driver was Tricon American Homes' adjusted EBITDA of $107 million, which included 2 main components. The first was net operating income of $36 million, which increased by 117% year-over-year as a result of more than doubling our portfolio size since last year, along with strong rent growth and expense containment. For the quarter, TAH reported healthy NOI margin of 62.8%. The second component was a fair value gain of $76 million, driven by home price appreciation of 1.5% for the quarter or 6% annualized as well as new BPOs completed for our recent securitization transaction that closed in early April. Approximately 60% of the fair value gain this quarter came from BPOs. In our other business verticals, Tricon Lifestyle Rentals reported positive year-over-year gains related to increased land values and development milestones achieved throughout the year on its purpose-built rental developments. In addition, Tricon Lifestyle Communities posted higher investment income as a result of fair value gains, which were driven by increased rents and occupancy, which we have been able to achieve following the value-enhancing capital expenditure programs at several manufactured housing communities. These gains were partially offset by lower adjusted EBITDA from Tricon Housing Partners, as we continue to work through cost and time line pressures on home building projects as mentioned last quarter, which Gary will elaborate upon later.Moving down to our income statement, compensation expense was higher this quarter, mainly due to an increase in the long-term incentive accrual, related to underlying project performance.Lastly, interest expense increased this year as a result of the incremental debt used to finance the acquisition of Silver Bay, and our income tax expense was higher as a result of increased pretax earnings. Taken together, our adjusted net income this quarter came to $76 million, which is almost 5x what we reported in Q1 last year. To wrap up our financial overview, I'd like to discuss our leverage and liquidity position, starting with our refinancing initiatives at TAH on Slide 9.Following the Silver Bay transaction last May, a large portion of TAH's debt was in the form of short-term floating rate warehouse facility, and our priority was to put in place a series of debt instruments to extend this term structure, reduce TAH's cost of debt, introduce new sources of financing and increase the proportion of fixed-rate debt, while minimizing interest rate risk.Subsequent to the quarter, TAH completed a $314 million fixed-rate securitization with a 7-year term and 3.86% average interest rate. With this transaction in place, we have substantially refinanced the $1.2 billion Silver Bay acquisition facility well ahead of our initial target. In aggregate, we have fixed the interest rate on almost 80% of TAH's debt compared to 18% at the time of acquisition and laddered out and extended the average maturity to 4.9 years from 2.5 years previously.TAH's blended cost of debt now sits at around 3.7% and at today's interest rate, we are realizing interest rate expense savings of approximately 90 basis points or $18 million annually under the current debt structure versus the original structure at acquisition. Looking more broadly at our corporate balance sheet on Slide 10, our goals of refinancing our debt and deleveraging remains on track. Phase 1 was to eliminate interest rate risk and refinancing risk. And to that end, we have refinanced all of our short-term debt to longer term maturities and fixed 80% of TAH's debt, but minimizing interest rate exposure. Phase 2 involves reducing our overall debt levels, which is progressing as planned. We have sold TAH's non-core homes ahead of schedule, and we are in the process of selling TLC on schedule. Following that, we will focus on monetizing TLR U.S., while at the same time we're expecting about $120 million of cash from THP1 U.S. over the next 2 years. I can confidently say that we are executing on our plan and on time to achieve our long-term target of 50% to 55% leverage on a look-through basis across our businesses. In terms of liquidity position, we currently have $130 million available under our revolving credit facility and expect this figure to improve materially in the coming quarters to provide us with increased flexibility for growth. With that, I'll turn the call over to Gary to provide additional insights into our performance of our business verticals.

[Gary Berman, President, CEO & Director]

Thank you, Wissam. The first quarter of 2018 was a busy time for our company with numerous strategic and operational achievements to highlight. To start, let's zoom in on the results of Tricon American Homes. It's been exactly 1 year since we completed the Silver Bay acquisition which closed on May 9, 2017. Slide 12 provides you with a summary of TAH's results, but also highlights how far we've come in one year and how we delivered on what we promised. First, we originally aimed to increase Silver Bay's NOI margin by 200 basis points to bring it in line with TAH's margin from 58% to 60%. In Q1, the TAH consolidated portfolio reported an NOI margin of 62.8%, clearly surpassing our goal. This quarter's margin was driven by strong rent growth of 5% on a blended basis, comprised of 6.3% on new move ins and 4.3% on renewals, while maintaining stabilized occupancy of 96.9%. Operating expenses were also well contained, particularly R&M and turnover expenses, which decreased by 100 basis points year-over-year as a percent of revenue. This result was partly driven by TAH's strong turnover rate of 24.9% as well as internalization of repairs and maintenance. Although one quarter does not make a year, and Q1 typically sees low turnover, we're currently trending in an NOI margin that is well above our expectation of 60%.Second, we plan on reducing combined G&A expense by eliminating Silver Bay's public company costs and other duplicate corporate expenses. TAH has essentially realized these synergies, taking the combined overhead from over $30 million at the time of the acquisition, down to a current run-rate of approximately $20 million annually. And lastly, as Wissam mentioned earlier, TAH disposed of its non-core homes and refinanced its debt ahead of schedule. With these initiatives in place, TAH is currently delivering annualized NOI of $142 million and core FFO of over $50 million. We think the best way to highlight TAH's operating performance year-over-year is through the same home portfolio presented on Slide 13. Let me walk you through some of the highlights. Same home NOI in the first quarter was almost $16 million, representing 5.9% growth year-over-year. This is driven by revenue growth of 3.9% coupled with expense growth of less than 1%, resulting in 120 basis points of NOI margin expansion. On the revenue side, the same home portfolio reported blended average rent growth of 4.4% in the period, slightly below the 5% from our total portfolio as a result of a different geographic mix of homes. On the cost side, repair and maintenance expense improved to 9.9% of revenues in Q1 compared to 11% of revenues in the prior period. This is largely result of our internalization of this function, which is driving cost savings. The reduction in R&M costs was partially offset by year-over-year increases in property taxes, which is also the direct result of strong home price appreciation, translating to higher set homes values across our markets. Lastly, our cost of insurance has declined year-over-year, as we've achieved pricing benefits from owning a larger portfolio of homes. With metrics like these, it is no surprise that single-family rental remains one of the most compelling investments in the broader real estate landscape.This sector's same home NOI growth is expected to lead the pack for the foreseeable future. For example, market research from Green Street is currently forecasting same home NOI growth of 4.7% for single-family rentals sector through 2020, as compared to 2.5% for apartments and nonresidential real estate sectors in the U.S., which is not dissimilar from the consensus view. The biggest driver for SFR's outperformance is rent growth, when overall shortage of single-family homes has resulted in a significant supply demand imbalance. This has allowed us to maintain a stabilized occupancy rate above 90% -- 95%, while continually growing rents by 4% to 5% per year.The other aspect of our investment thesis that continues to play out favorably is home price appreciation, which is a large contributor to our reported earnings. As shown on Slide 14, since getting into the business in 2012, we've invested almost $2.2 billion in acquiring homes and another $220 million in renovation CapEx. The fair value of these homes is now close to $2.9 billion, representing cumulative home price appreciation of over $450 million or approximately 19% of the total cost basis, which makes for very compelling return on investment on a levered basis. Of note, the homes we purchased in 2012 have appreciated by 76% from a cost basis.If you look at the annual Case Shiller data presented on this slide, you can see that home price appreciation across the U.S. has actually accelerated since 2015, and we expect it to continue to play a meaningful role in investment returns from TAH. We also remain very excited about the growth prospects for single-family rental as we've resumed our acquisition program of buying 400 to 500 homes per quarter.On Slide 15, we have some examples of recently acquired homes. TAH continues to focus on 10 growth markets, where homes can be acquired at attractive blended cap rates of approximately 6% and where we see opportunities to drive operating efficiencies through increase scale.We bought 396 homes in Q1 2018 across these markets and expect to surpass this metric in Q2. In order to help with the acquisition process, we have developed TriAD, a proprietary software tool which automatically scrapes the MLS every 15 minutes and filters listings based on specific acquisition criteria, after which our team underwrites all the homes that hit our Buy Box. As you can see on Slide 16, this quarter, there were over 100,000 new MLS listings in our active markets, of which 4,700 fit our acquisition criteria or Buy Box. Of this, we made 1,500 offers and purchased 396 homes. We expect to continue growing TAH which now accounts for 81% of our principal investments and is a key element of our strategy to increase our volume of stable, recurring cash flows.We often get asked the question how resilient is TAH's business model in a rising rate or inflationary environment and the response, we make the following 3 points. First, single-family rental has one of the shortest lease durations of any real estate asset class, allowing us to capture inflationary pressures in our rents very quickly. Second, inflation should benefit home price appreciation, especially in the context of the housing market with very tight supply of both existing and new homes. As such, the value of our homes should go up. And finally, TAH's debt is now at 80% fixed and termed out, lending exposure to rising rates. In short, we believe that along with our land holdings, TAH is actually the best way to play real estate in a rising rate environment.Let's now turn to Tricon Housing Partners or THP, our land and homebuilding business on Slide 17. In the quarter, THP generated investment income of $2.9 million, translating to a 4.7% annualized net return on invested capital, which is below our expectation of a 9% to 11% annual return.I would like to remind everyone that our investment income under IFRS is a function of realized cash flow as well as fair value changes driven by discounted cash flows or appraisals.This quarter's results have been impacted by recent budget updates that take into account supply constraints seen across the home building industry, including extended delivery schedules and labor constraints, which we discussed last quarter. Based on our accounting methodology, if there is a pushout or reduction of expected future cash flows relative to our underwriting, the fair value of the project is adjusted downward and this change shows up in investment income. As we work through these budget revisions, we continue to expect some near-term pressure on THP's results but ultimately expect to revert back to our target of 9% to 11% return on invested capital over time. We thought it would be helpful to put into perspective the industry-wide supply constraints. As you can see, on the building intensity chart presented on Slide 18, the homebuilding industry is delivering far fewer homes than it has historically, relative to the size of the population. Even though this shortage of housing is resulting in higher home prices, you can see from the bar chart on this slide that these pricing gains are largely being cannibalized by rising construction costs, in particular, higher cost of labor. With that said, investment income does not really speak to the demand for housing product, both in our THP business and across the industry. Let me give you one big data point from our Johnson business, which is one of the largest master-planned developers in the U.S. As you can see on Slide 19, homebuilders of Johnson communities had 1,031 home sales in Q1 across all projects, representing a year-over-year increase of 7%. This is a good indicator of future lot sales and is fairly representative of the momentum across the broader U.S. housing market, which we would characterize as being very healthy from a demand perspective. We believe demand for new homes is accelerating, as the millennial cohort, which makes up approximately 40% of the population, forms new households and becomes a key driver of demand for affordable starter homes, while the older boomer generation downsizes and seeks an active out-of-lifestyle. THP is well-positioned to benefit from both of these trends. As we look ahead to growing the THP business, we are screening new investments with a keen eye for potential cost and time line pressures and are taking a very prudent approach of underwriting in the current environment. The amount of deal activity in the space remains stable, and while we've been tracking a meaningful pipeline, we remain very conservative and will only pursue new investments that meet our risk-adjusted return criteria.Moving on to Tricon Lifestyle Rentals, our multifamily development and rental vertical. We continue to make progress on the development of 3 Canadian and 2 U.S. projects. On Slide 20, you can see The Selby, TLR's first project in Toronto, which is in the advanced stages of development with first occupancy expected later in the year. At 57 Spadina, on-site demolition of the existing building is largely complete, ensuring an excavation commenced in May. At Scrivener Square, TLR and Diamond Corp are working with COBE, award-winning architects from Copenhagen, to complete the design work underpinning the zoning approval. The current design recently received positive feedback at a design review panel meeting with the City of Toronto staff. And The McKenzie and The Maxwell, our 2 U.S. projects, are also nearing completion and lease- up and are targeted for disposition in 2019 with the proceeds expected to be applied towards corporate debt reduction.Our TLR growth efforts remain focused on building out a leading Class A multifamily portfolio in Canada, and specifically in Toronto. Toronto land market remains very competitive, and rather than compete head-to-head against condo developers with very aggressive underwriting assumptions, we instead have targeted land parcels specifically designated for rental. A prime example is our recently announced investment in Toronto's West Don Lands, profiled on Slide 21. This project offers us a unique large-scale opportunity to develop a vibrant master-planned community in Canada's fastest growing city with approximately 1,500 rental units, including 30% which are designated as affordable. We are excited to partner with 2 primary development partners, Dream and Kilmer, who've significant development experience in the downtown East region, while we contribute our development and rental operations expertise. The project is TLR's immediate path to scale as we now have approximately 2,500 units under development in Toronto. It is also very efficient use of our balance sheet as there is no upfront land purchase but rather a 99-year land lease for each parcel. Development will be funded by a 3-way equity commitment by the partners over approximately 3 years, with the potential for development financing through CMHC.On Slide 22, we wanted to give you some context for what a Canadian development portfolio of 2,500 units means to Tricon in terms of valuation. We estimate that the construction value of this portfolio is approximately CAD 1.2 billion. If we assume the midpoint of a projected development yield at 5.5%, that represents approximately $66 million of NOI of which Tricon holds a 30% interest. This is a meaningful portfolio that we expect will add another source of recurring cash flow to the existing streams we currently earn from TAH in contractual management fees.Looking forward, we're excited about the growth prospects for TLR Canada. There's a constant flow of opportunities to work with landowners, both governments and private individuals, who wish to partner with experienced developers to convert underutilized land into assets that deliver long-term recurring cash flows. Such opportunities would allow us to continue to expand our TLR vertical and build a leading Class A multifamily platform.The current market fundamentals, including extremely tight vacancy, strong population growth and healthy underlying economy in Toronto are extremely compelling and are driving very strong rent growth, making us confident that we will hit or exceed our underwritten returns. And I should add that there's no shortage of third-party investors interested in partnering with us to accelerate TLR's growth strategy.Lastly, I'd like to give you a quick update on Tricon Lifestyle Communities, our manufactured housing land-lease business on Slide 23. Subsequent to the quarter, TLC entered into agreement to sell its portfolio of 14 parts to a large institutional investor. We're currently working through the loan assumption process and expect the transaction to close in Q3. During the quarter, we recognized normal course fair value gains on the portfolio, bringing this total value to $146 million. We anticipate sales proceeds in excess of this amount, and we'll be in a position to share details with you once the transaction closed. We intend to apply these process toward reducing our corporate debt in a meaningful way. Lastly, on Slide 24, I would like to highlight the key features of our new compensation program unveiled in this year's management information circular issued earlier this week. Over the course of 2017, we gathered shareholder feedback and worked with the compensation consultants to revamp the compensation program in a way that reflects best practices and ensures long-term alignment between our management team and our shareholders. We recognize that Tricon has evolved from its beginning as a pure play asset manager towards an integrated owner and operator of real estate assets, which required a change in how performance was evaluated and rewarded. The most significant change is a revamp of the company's annual incentive plan. Previously, we determined a bonus pool of 15% to 20% of adjusted EBITDA for bonus purposes in a given year. Going forward, the target bonus pool for executives will be determined by aggregating individual AIP targets, which have been set using a size-adjusted market benchmarking study. The pool will then be adjusted up or down based on performance versus our business plan as approved by the board here. This approach is depicted at the bottom of Slide 24.Second, we're reducing the reliance on deferred share units in favor of non-dilutive performance share units as a key element of performance-based compensation. Each PSU will mirror the value of a Tricon share, and we will cliff vest over 3 years based on adjusted diluted EPS performance relative to targets set by the board. These awards will be settled in cash upon vesting rather than in stock.Third, we've implemented a policy to cap the annual burn rate associated with DSUs and stock options awarded in any given year at 2% of outstanding shares. We previously did not have such a cap. And lastly, we've introduced minimum share ownership requirements for the company's senior executives. We believe that this policy best aligns our executives' interests with those of its long-term shareholders by endorsing a significant tangible investment in our company. I encourage you to review our management information circular for additional details of this program. I'd like to conclude on Slide 25, which gives you a holistic view of how we think about of our diversified housing brand and how we structure investments. Tricon aims to be a one-stop shop for exposure to residential real estate for both public and private investors, and we are able to do this through complementary business verticals, with various risk appetites from opportunistic land investments and land and homebuilding via THP, to value-add investments and multifamily rental development via TLR, to more highly predictable income streams from single-family rental homes via TAH. Looking back at our recent accomplishments, the first few months of 2018 have been pivotal in creating a path of scale for our TLR vertical through the West Don Lands project, to complement our existing leadership positions in TAH and THP. In recent months, we've also significantly increased the stability and predictability of TAH, the main component of our earnings and AUM, by locking in almost 80% of its debt at fixed rates, while posting improved operating metrics. We feel very confident in our prospects and in the resilience of our business model, and we'll continue to focus on scale and predictability by investing across 3 core business verticals and augmenting our investments with third-party capital. We're off to a great start to 2018 and look forward to another exceptional year ahead.With that, I will pass the call back to Jamie to take questions, and we'll then be joined by other members of our senior management team, including Jon Ellenzweig, Andy Carmody, Andrew Joyner, and Kevin Baldrige.

[Operator]

[Operator Instructions] Your first question comes from Dean Wilkinson with CIBC.

[Dean Mark Wilkinson, Director of Institutional Equity Research]

Let's start with Wissam because he's the most fun. Just on the debt profile there, I just wanted to confirm. In TAH, you get about 22%, 23% of the debt which is now tied to LIBOR, right?

[Wissam Francis, Executive VP & CFO]

Correct.

[Dean Mark Wilkinson, Director of Institutional Equity Research]

The last amounts from the Silver Bay warehouse acquisition facility and the warehouse credit facility, were they just leftover stubs that you would intend to pay out? Are you going to let them run out to the maturity? Like, are they open to just term out?

[Wissam Francis, Executive VP & CFO]

The last -- the remaining 2 pieces, we're actually going to refinance them. They include homes that are held for sale. So if you notice, we have 90 home that are still held for sale. So those are the homes we've cut back.

[Dean Mark Wilkinson, Director of Institutional Equity Research]

Okay. All right. So on those, that would go out. And then you would lose that 60 -- $90-somewhat million. So you'd only have the one term loan at 2022 tied to LIBOR at that point.

[Wissam Francis, Executive VP & CFO]

That's correct.

[Dean Mark Wilkinson, Director of Institutional Equity Research]

Okay. That's simple. Gary, I think we keep having this conversation, but it just seems to keep getting better and better. Margins in the single-family rental business. What do you think these things could peak out? Here, they went 60%, 61%, 62%, towards 63%. How high could these go?

[Gary Berman, President, CEO & Director]

They can definitely go higher. I mean, think about it this way. If we can grow our rents by 4% a year, which, I mean, we've got very good visibility into that for the foreseeable future. And we're able to contain our expenses at roughly 1% to 2% growth, we're going to grow our margin by 100 bps a year. So again, we're not promising this, we're not providing guidance. But if you could do that for 3 years in a strong economy, you're going to grow the margin from 62% to 65%. So it's got a massive increase on NAV and valuation.

[Dean Mark Wilkinson, Director of Institutional Equity Research]

Yes, it's huge, as it's ton of torque there. I guess, it's just sort of -- where do you think these things could peak out? And...

[Gary Berman, President, CEO & Director]

I really don't know. I mean, to be candid, I'm surprised that we've got to 62%, 63% so quickly. I mean, really the internalization repairs and maintenance has made a huge difference. And I would say, we're probably only halfway through where we think we're going to end up with R&M. The other thing obviously is we've just started with revenue maximization software and implementing algorithms and that's starting to pay dividends. In fact -- and by no means does April make a longer-term trend, but our new lease growth in April was 8%, which is just outstanding, on the back of revenue maximization software, where we'd be willing to take slightly lower occupancy in order to get higher rent growth. So that's just beginning as well. The only offset, I mean, where we continue to see a headwind is obviously with property taxes. And that's obviously reflecting the very, very strong home price appreciation, which is obviously a different benefit.

[Dean Mark Wilkinson, Director of Institutional Equity Research]

Right. I know. You pick up the value, you lose some cash flow, but the value is going to be more in the long run, so makes sense.

[Operator]

Your next question comes from Jonathan Kelcher with TD.

[Jonathan Kelcher, Analyst]

Just following up on your last comment there, Gary. You said new lease growth was 8% in April?

[Gary Berman, President, CEO & Director]

Yes.

[Jonathan Kelcher, Analyst]

Did you see any occupancy drop with the revenue management software?

[Gary Berman, President, CEO & Director]

Yes, like 10 or 20 bps.

[Jonathan Kelcher, Analyst]

Okay. So off to -- obviously, off to a very strong start for...

[Gary Berman, President, CEO & Director]

Very strong. And we've only started that on new leases. We will be ultimately rolling into renewals as well. So we're still in the very early days of what this ultimately can mean. But I mean, the revenue maximization software is clearly going to help us. And on top of that, we're just continuing to see really huge demand for the product.

[Jonathan Kelcher, Analyst]

Okay. Flipping to Tricon Housing Partners. What -- I guess the write-down was mostly in Atlanta, is that the one project there?

[Gary Berman, President, CEO & Director]

Yes, it's correct.

[Jonathan Kelcher, Analyst]

What changed from Q4 when you took all the other write-downs in that vertical to Q1 that caused you to take it this quarter?

[Gary Berman, President, CEO & Director]

It's just, we're continuing to upgrade the business plans in all the different projects and private investment vehicles. We know sometimes that gets done over time. And so it's just a continuation of updating budgets. So in Q4, we updated some of the separate accounts, those active adult projects. And Laurel Canyon hadn't been updated or the Atlanta project, I should say, hadn't been updated in Q4; it was updated this quarter. So that, it's just really continuation. And I would say that it's going to continue, we're going -- I think we're going to see more pressure again next quarter and probably the quarter after as we continue to adjust our budget and sometimes it takes times to our earlier underwriting, which was aggressive compared to where we are in the market. We've obviously seen certainly cost pressures, which we've talked about before. But the other think we're having as a real issue with, Jon, is just timelines. We are having issue hitting milestones. And so, based on the way our accounting and our evaluation framework works, if we're not able to hit timing milestones, it will lead to a reduction in fair value. So it's a little bit unfortunate in some senses, because in many cases, the actual profitability of projects hasn't changed much. It's just that, we're falling behind on time. If we were a typical homebuilder, we would be showing different metrics. We'd probably be showing very strong sales, potentially year-over-year strong margins, but because we're in an environment where our valuations are compared to an earlier, more aggressive underwriting, we're going backwards right now.

[Jonathan Kelcher, Analyst]

Okay, so there's no real impairment in the overall products, just more of a matter of time.

[Gary Berman, President, CEO & Director]

Yes. In fact, I'll go further to say that, I mean, we haven't seen demand this strong for our product and for the industry since 2005 and '06. And I mean many of the projects the demand is off the hook. And I would go further to say that even with those very same active adult projects that we wrote down in Q4 and again in Q1. Our sales this year are, in some cases, ahead or substantially ahead of where they were last year as we've also made some product adjustments. So we're off to a good start. But unfortunately, it's not being reflected in the numbers right now.

[Jonathan Kelcher, Analyst]

Okay. And you said in your release that you expect 9% to -- dig it back to that 9% to 11% in 2019. What sort of -- I don't know, 4% to 7% make sense for 2018 for that vertical?

[Gary Berman, President, CEO & Director]

Yes. I think that's fair.

[Operator]

Your next question comes from Geoff Kwan with RBC Capital Markets.

[Geoffrey Kwan, Analyst]

You talked about the pressure that TAH with respect on the property tax side. I know that you've talked about before trying to fight the assessments and the property tax assessments. Can you provide some color, I guess, in terms of an update? How do you define what might be successful measures and what that could possibly do in terms of improvement to NOI margin?

[Gary Berman, President, CEO & Director]

Well, I'll start and then I'll hand it over to, probably, Jon to continue that, Geoff. But first of all, I would say the accrual that we take is based on an estimate that we use with our third party [ Rhine Tax ]. And so that's -- it's essentially what they think the property tax is going to be for the year and we just essentially straight-line it. As we get into the back half of the year, that's where we're going to see the tax notices in the reassessments. And so we really won't have a better -- we won't have a better idea, I think, where we end up until probably Q3. Probably Q3. So I'm going to hand it over to Jon, I think, to talk more specifically about whether we think there's any upside there.

[Jonathan Ellenzweig, Managing Director]

Sure. Thanks, Gary and good morning, Geoff. As Gary mentioned, we use a third-party tax consultant to help us assess what we think future property taxes are going to be. And then, that group is also responsible for challenging property tax assessments as they come in on a home-by-home basis. Last year was the first year that we use this specific group. And we did find that after going through these challenges, we saved on a number of homes, but I would classify that savings as in the hundreds of thousands of dollars. I wouldn't look to this as a huge area for upside. What I would look at it as is a way to contain the property taxes more or less in line with the accruals. And so what they are doing are looking for homes where the local municipality accesses it outside of what their expectations are and then they challenge that to bring it back in line with the expectations. So I would say it's more of a cost containment mechanism that necessarily an area for upside.

[Gary Berman, President, CEO & Director]

And Geoff, the only thing I would add to that because I know you also -- you track closely the Case Shiller index, which nationally has been up about 6% year-over-year. Our property taxes are up about 9% year-over-year, but if you actually look at homes that are below the medium price, which is obviously the homes that we own and are acquiring, those home prices have actually been higher than the 6%. So in many cases, the property tax increases are really dovetailing with the home price appreciation.

[Geoffrey Kwan, Analyst]

Got it. Okay. You guys talked about targeting, I think, about 400 to 500 new home sales -- not home sales, home purchases a quarter at TAH. What would have to change for you to up that -- up that guidance or up that target? Is it a matter of expanding sales to addition cities? Is it getting comfortable at your all past anything related to Silver Bay? Or some other sort of metric?

[Gary Berman, President, CEO & Director]

Yes, it's just purely availability of capital. We could definitely be acquiring -- I mean, I think based on the team we have in place, and obviously, our triad proprietary software, there's no reason why we couldn't be buying, call it, 800 homes per quarter. But we're really trying to manage our own internal cash flow. To the extent that more capital was available, to the extent that maybe one day we could bring in third-party capital, those would be ways where we could go faster.

[Geoffrey Kwan, Analyst]

Okay. If I can sneak in one last question. When I think about how you can improve and optimize your NOI margin, I suspect part of it is on a city-by-city basis that you get a certain level of scale that you can get that economies from repairs and maintenance as well as some of the other line items. Like is there a rough number that you guys think about, that if you get to X number of homes in a given market that we kind of do optimize the expense base to kind of maximize the NOI -- recognizing there's other stuff that can throw it apart in terms of property tax but just some thoughts there?

[Gary Berman, President, CEO & Director]

We don't have -- no, there's no -- I mean, I don't think there's any kind of specific metric which says that when we get to certain number of homes in a submarket, where as we cluster more tightly, we know that tangibly that leads to a higher margin. We don't have any -- I can't give you any specific information on that. We do know that as you add homes in a particular market, it does fall to the bottom line. And we do know that as we get more and more scale in a particular market, we're more efficient. We're able to hire better quality people in those submarkets, which obviously is a key -- this is a property management, this is a people person business, so that obviously drives your performance. So we do know that there's benefit of scale, Geoff, but unfortunately I can't give you a hard fact, a hard rule on that.

[Operator]

Your next question comes from Himanshu Gupta with JMP Securities.

[Himanshu Gupta, VP & Equity Research Analyst]

Gary, just a follow-up on your couple of comments regarding property tax. And then operating expenses. Growth of 1% to 2% for the year. How much property tax increase do you assume in that 1% or 2% growth? And are the R&M saving significant enough to offset the growth in property taxes?

[Gary Berman, President, CEO & Director]

Well, I mean to begin with, I'm not giving guidance, so I just want to be clear on that. And I also want to say that this is a seasonal business. So the margins are going to fluctuate from quarter-to-quarter, Q3 typically being a tougher quarter, giving -- given higher HVAC expenses. But yes, I am assuming -- in those numbers, I am assuming I'm not -- where we are today at 9% increase in property taxes. So as I said before, that 9% is an accrual, it was estimated with our third-party consultant, and we just basically straight-line it over the quarters. And we'll adjust it in the back half of the year once we get property tax bills and reassessments. But I think it's fairly -- we think it's fairly reasonable to assume that our property taxes will be up about 9% for the year. And then, repairs and maintenance, and obviously some of the savings and insurance is largely offsetting the increase in property taxes. That's why the overall expenses are only going up by about 1%.

[Himanshu Gupta, VP & Equity Research Analyst]

Got it. And on the same subject of single-family, turnover was fairly low at 25% this quarter. Just wondering, is it mostly seasonal? Or some of it is intentional? I mean, do you optimize your portfolio so that there are more turnover in summer months? You can get a better rent growth on your leases?

[Gary Berman, President, CEO & Director]

No, it's -- that's definitely seasonal. Q4 and Q1 are typically good quarters for turnover. We should see that turnover start to pick up certainly in Q2, where more people would move out. But on the whole, we're very comfortable with 30% for the full year and so, we obviously -- this quarter we did better, but it's largely to do with the season.

[Himanshu Gupta, VP & Equity Research Analyst]

Sure. And just a final question. Looking at the single-family portfolio, which markets you're seeing the most job growth and you're most constructive on? And which markets you think may be more challenged?

[Gary Berman, President, CEO & Director]

We are seeing strong job growth across the entire Sunbelt. I mean, it's really -- the job growth is absolutely phenomenal in many of our markets. Certainly, Dallas, Phoenix, Atlanta, Tampa, Charlotte, those are some of our biggest markets, very, very strong job growth. Even Houston starting to come back now as they start to recover from Harvey and oil prices tick back up. So Houston's feeling a lot better. The markets where I would say we're a little bit weaker would be Indianapolis, which has good fundamentals but it's just not as good as the Sunbelt, Colombia would be another market, a secondary market that we got in -- we moved into through a portfolio acquisition has somewhat weaker fundamentals. But across-the-board, Himanshu, I mean, the job growth is absolutely terrific.

[Himanshu Gupta, VP & Equity Research Analyst]

Awesome. And maybe I can just follow up on this. A fair bit of new supply has come online on the multifamily side in some of these Sunbelt markets. I know it's a different sort of multifamily versus single-family. Is that something you can keep an eye on?

[Gary Berman, President, CEO & Director]

Absolutely. But we don't think it's having any impact on our 4 projects. Remember, we've got 2 projects in our funds and then 2 on the balance sheet. And it hasn't really impacted our ability to lease up the buildings. The 2 ones in our funds are now basically stabilized, and we started marketing them. And so, I think we have chosen a good partner and we have chosen good locations that in some cases has insulated us from the additional overall supply. So it's partly a function of where your project located. And so, we performed very well on the leasing side. And the other thing I would say is that notwithstanding what's happening in the public markets, a lot of REITs are obviously trading at big discounts and now the private markets are extremely strong. And if anything, we're seeing cap rates hold or even in some cases come down.

[Operator]

Your next question comes from Stephen MacLeod with BMO.

[Furaz Ahmad]

This is Furaz Ahmad for Steve. I was wondering if you guys can provide an update on the built-to-rent initiatives you guys talked about last quarter. And how that's progressing and if you made any progress on that?

[Gary Berman, President, CEO & Director]

Yes. We started acquiring new homes, which are what we consider to be build-to-rent. We acquired a number of those in Q1 and Q2. And they looked -- I mean, we look to be getting yields that are slightly below where we would get an organic acquisition program. But obviously, the benefit we get is a brand-new home and we should have lower maintenance and CapEx going forward. So we just started with it. It's not a major part of our acquisition program. I think I want to stress that. But as we get -- as we see how these new homes perform, as we get more and more comfortable with it, it may become a larger part of the program. And so at this point, we're really just looking at -- we've been buying one-off homes, odd lots, let's say. But we also are going to start looking at what I would call horizontal communities and experimenting with that as well. But again, this is a -- it's a small part of the overall acquisition program. I would expect it not to be more than maybe 5% to 10% of total acquisitions in the short term.

[Furaz Ahmad]

Okay, that's great. And just -- I had a question on the labor issues that you guys have been facing. Is that broad-based everywhere where you guys are present or are you seeing it more in certain pockets, certain areas? And is that one of the reasons that's causing some of the delays in the THP business?

[Gary Berman, President, CEO & Director]

I'm going to hand that over to Andy Carmody.

[Andrew Carmody, Managing Director]

Certainly, terrific question. I think -- we think the labor shortage or concern is very broad-based in the U.S. If you look at U.S. employment today, many economists are calling it a sort of full employment. If you were to ask home building and construction management companies, they would say they are well short. So I think a lot of that construction labor has left the market and is not returning. And we expect that to extend for some time. The labor is driving a higher raw cost and delay, because of the shortage and the movement of that labor among jobs that can't cover accurately. And I think we anticipate that to see pressure from labor rising cost and delays for the foreseeable future.

[Operator]

Your next question comes from Tal Woolley with National Bank Financial.

[Tal Woolley, Research Analyst]

Just wanted to ask -- just on TLR, you've obviously got a few completions coming up over the next 12 months. Is take out financing for all of those buildings in place? And is there any opportunity there to liberate some proceeds? I know it won't be massive, but is there any opportunity to up-finance there?

[Gary Berman, President, CEO & Director]

Well, obviously the first question, it -- that really applies now to The Selby, which is going to come online later this year. And then, the other 2 projects which are nearing completion are in the U.S., which, obviously, we're looking to exit so that'll be a full takeout. But I'll let Andrew talk about The Selby.

[Andrew Carmody, Managing Director]

So as Gary communicated earlier, we're looking to start leasing the building in Q3 of this year. We will be eligible for construction -- excuse me, a permanent loan takeout when the project is closer to stabilization. That being said, we are already in discussions with banks and are receiving draft term sheets, and so clearly, thinking that direction. But it's too early days to be putting from debt in place right now.

[Tal Woolley, Research Analyst]

Okay. And now that you’re through the bulk of construction on The Selby, obviously, there's been a lot of chatter about rising construction costs here in Toronto. How have you found the performance has been on the cost front relative to your pro formas going into the project?

[Gary Berman, President, CEO & Director]

We are ahead of schedule on The Selby by about 1 and 2 months. And we're below budget, and we have a big contingency as well. The execution has been absolutely superb. It gives us a huge amount of confidence for our future buildings. And the rent, again, it's hard to know where the rent's going to end up. We'll certainly know in the 3 to 6 months. But we underwrote $2.90 a foot for rent for that building. And I'm going to guess, the rent right now is about $3.50. I mean, we won't know for sure, can even be higher than that. I mean, we won't know for sure until we start leasing. It's obviously a big building. So we're feeling very, very good about the underwriting.

[Tal Woolley, Research Analyst]

Okay. And then if we can just talk a bit about the West Don Lands project versus some of the -- something like The Selby. How do you think about the rent growth outlook long-term for that kind of project given the sort of government involvement and your -- you have affordable housing commitments and stuff like that in that project as well?

[Gary Berman, President, CEO & Director]

We really don't -- we're under -- I mean, all the products are basically at this point subject to rent control. So we don't view that. I mean, the only real difference between that project and the other projects is one, there's a ground lease, which in some cases a real advantage because we don't have to put up the capital upfront and given how competitive -- the landmark it is here in Toronto, that certainly does help as land prices have really moved up. The other -- the other component is the affordable housing, which I would really describe more as workforce housing. And the real benefit -- and we take that into account in the underwriting by the way, knowing that the rents are lower. So it all kind of comes out in the wash. But the real benefit of having the affordable component is then we get very, very attractive CMHC financing under the affordability program. So like -- I can't get into the specifics of the economics on this project, but let's just say, we think it's attractive. And I think the overall rent increases will be in line with the rest of our projects.

[Operator]

[Operator Instructions] Your next question comes from Mario Saric with Scotiabank.

[Mario Saric, Analyst]

Just maybe sticking to the Don Lands and the chart that you put in the presentation. I just want to confirm the TLR column at the end. That would presumably include the West Don Lands as well. So kind of your development yield that you're targeting would include the Don Lands?

[Gary Berman, President, CEO & Director]

Yes, that's correct. We're including the West Don Lands, we are estimating the total cost of all those projects is about $1.2 billion, and we're assuming a trended development yield of about 5.5% to calculate that NOI.

[Mario Saric, Analyst]

Okay. And then TLR ownership interest of 30% or 32% in the Don Lands. Would -- is that only TLR or is your expectation to bring in institutional capital as well?

[Gary Berman, President, CEO & Director]

No. For the West Don Lands, we don't expect to bring in institutional capital. So it's 30% across the entire portfolio. And I think that, Mario, I think that's where we're probably end up. We can use our capital very efficiently and we can bring in other strategic partners or investors where appropriate. But we're comfortable having a 30% interest in the portfolio across the board. And some projects might be higher or lower but across the board, we like to be at about 30%.

[Mario Saric, Analyst]

Got it. Okay. Maybe switching to TAH and Gary, just your commentary on April and the 8% munis growth, which is very strong. Do you have any -- it may be early days, but do you have any sense in terms of what impact utilizing the revenue maximization software had on the revenue growth in April?

[Gary Berman, President, CEO & Director]

Well, yes. I think -- well, if you look at Q1, Q1, the new lease growth was 6%, right, which is still very good trend. And then, you see that ticking up to 8%. That comes from using the algorithms to make smarter decisions. As to whether we should keep the properties on the market a little bit longer in order to hold out for higher rents, those are the type of decisions that a good algorithm will help you make. And so, rather than have people make those decisions, we can software's is going to be extremely helpful in order to maximize revenues.

[Mario Saric, Analyst]

I guess the base of my question is, when your comps and the U.S. reported results and also kind of talk about an uptick in new lease spread during April? So I'm just trying to get a sense in terms of how much of that 8% versus 6% would be, let's say, market-driven versus actual kind of incremental revenue growth coming from a different way of doing it?

[Gary Berman, President, CEO & Director]

Jon, you have any insight into that question? How would you think about it?

[Jonathan Ellenzweig, Managing Director]

I would say it's a combination of both. And again, we're only talking about a couple hundred basis points in one month so I would say it's too early to try to bifurcate and allocate, call that 200 basis points between the 2 buckets. But we see extremely strong demand, as Gary mentioned. So certainly part of it is on the demand side, but we do know from the way we've changed our revenue management process that we are seeing direct impacts from that as well. So I would -- I'm not going to precisely bifurcate those 200 basis points but I would say it's both of those.

[Mario Saric, Analyst]

Okay. And then, I guess with respect to I guess what I call the institutionalization of SFR. Gary talked about 4% rent growth, 1% to 2% expense growth, margins coming up another 200 to 300 basis points potentially our time. But all sounds pretty good. So when you talk with LP investors and pension funds with sovereigns and whatnot, if you had to kind of rank the catalyst that you see in terms of a substantial increase in limited partner investment in SFR and then kind of limited partner investment in SFR with Tricon, how would you rank those 3 key factors going forward?

[Gary Berman, President, CEO & Director]

I think they are important because I think institutions are starting to see how compelling these business is. And I mean, a lot of these major sovereign wealth funds and investors invest across the spectrum globally and in different real estate asset classes. And a lot of those asset classes the fundamentals are -- have plateaued, in some cases are deteriorating. Certainly in the case of retail, apartments in the U.S. seem like it's flatlined in some cases. So -- I mean, these metrics really get their attention. And so, I mean we're optimistic about major institutions wanting to come in and invest in this sector, because it's just got -- there are so many positive things about it. It's an asset class, it's not correlated to any other which they love in terms of the way they think about their own portfolios. They got to love the rent growth. We don't seem to get any credit for the home price appreciation, but I'll tell you something, to those investors, that HPA is extremely important and it's real. Think about this. I mean, if you were to get 3% home price depreciation a year with 30% equity, that's a 9% levered return. And we're getting 6% home price appreciation. So -- and I think they all -- I think major investors, private investors are hearing more and more. They understand how tight the residential market is in the U.S. There's no supply. There's absolutely no supply and so they understand, I think, how compelling it is to own existing homes. So I think all of these things are really good.

[Mario Saric, Analyst]

Your target -- your AUM target last quarter of $10 billion within 5 years. So is it -- majority of that presumably comes from bringing in capital to SFR. So is it just a matter of being the continued strong rent growth that you think will kind of put the switch for these investors? Or is there still [indiscernible]?

[Gary Berman, President, CEO & Director]

Yes, I think -- I do. I think to get to $10 billion, that would depend on bringing in a lot of third-party capital. Right now, we're probably, let's say we're 75% balance sheet, 25% third-party capital. I think to get to $10 billion, we'd probably have to close to 50-50, so the majority of the growth therefore would have to come from third-party capital. And in order to do that, given -- SFR's our largest business. We have to bring third-party capital into that business. So I think it's just a matter of time before we get there.

[Mario Saric, Analyst]

And do you think that -- agree now your target is kind of 400 to 500 homes a quarter, you mentioned with capital as a constraint, you can go up to 800 a quarter. So is that -- is buying 1,000 homes a quarter conducive to bringing in large-scale third-party capital into the business?

[Gary Berman, President, CEO & Director]

Yes, absolutely, because -- I mean, a lot of these investors -- if investors are going to come into this, they would probably be the largest and most sophisticated investors. They're the ones that are going to pioneer. It's not going to be the ones that typically follow commingled funds. So those investors tend to be very large, they want to put a lot of capital to work and therefore, they would be -- they wouldn't just be looking for strong rent growth and good operating fundamentals. They'd also be looking to understand how quickly capital could be put to work.

[Mario Saric, Analyst]

Okay. So my last question on this topic is, in your discussions with these investors, you get any sense of investors waiting for potential downturn in the economy to see how resilient the asset class could be before they started to allocate big dollars to this space?

[Gary Berman, President, CEO & Director]

Not really. But I think for some, that would definitely be a factor. But in the conversations that we've had over the last year or 2 with many different institutions, that hasn't really been, I think, a key driver in their process. But I do think -- I mean, our theory is that, this business, just like manufactured housing, will perform very, very well in a downturn. I mean, obviously we won't be able to drive rent. But if you can kind of maintain your NOI and your occupancy, we think that -- we think ultimately, I mean -- we don't forecast a recession anytime soon but ultimately, we'll go through a cycle and our feeling is that this business will perform very well. And I think if it does, it's going to re-rate again because at that point, I think everyone's going to realize what a strong business it is, how it's very good in good times and it's very stable in bad times.

[Mario Saric, Analyst]

Great. I guess kind of a similar phenomenon happened with the multifamily space several years ago, so that makes sense.

[Operator]

There are no further questions at this time. I will turn the call back over to the presenters.

[Gary Berman, President, CEO & Director]

Thank you, Jamie. I would like to thank all of you on the call for your participation. We look forward to speaking with you in August when we discuss our second quarter results for 2018.

[Operator]

This concludes today's conference call. You may now disconnect.