The RMR Group Inc. (NASDAQ:RMR) Q1 2023 Earnings Call Transcript
The RMR Group Inc. (NASDAQ:RMR) Q1 2023 Earnings Call Transcript February 3, 2023
Operator: Good morning and welcome to the RMR First Quarter of Fiscal 2023 Financial Results Conference Call. All participants will be in listen-only mode. After today's presentation, there will be an opportunity to ask questions. Please note, this event is being recorded. I would now like to turn the conference over to Melissa McCarthy, Manager of Investor Relations. Please go ahead.
Melissa McCarthy: Good morning and thank you for joining RMR's first 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, they will provide details about our business and quarterly results followed by a question-and-answer session. I'd 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, February 3rd, 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 those 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 earnings release.
And now, I would like to turn the call over to Adam.
Adam Portnoy: Thanks Melissa and thank you for joining us this morning. Before we discuss the first quarter results, I would like to start by highlighting the enhanced earnings release format that we issued last night. This enhanced format is intended to align more closely with our alternative asset manager peers, and we expect it to be easier for investors and analysts to efficiently digest our results and make comparisons to our peer group. We have also evolved the way we define our clients, and as a result throughout our earnings release and 10-Q, you'll see them presented as either perpetual capital clients or private capital clients. As I sit here today and survey the overall economic environment, the ongoing market uncertainty driven in a large part by the Fed's rapid interest rate increases, has created significant headwinds for the commercial real estate industry.
This market uncertainty has significantly slowed real estate transaction volumes with many, including our organization, taking a more wait and see approach. The impact on the publicly trade REIT industry has also been significant with the U.S. REIT index down over 24% 2022, and each respective publicly traded REIT sector generating negative returns since returns last year. In light of these challenges, RMR strong first quarter financial results are a testament to the diversity of our clients and the durability of our business model. We ended the calendar year 2022 with $37.4 billion in assets under management with $30 billion representing perpetual capital. Additionally, over the course of 2022, our fee earning AUM increased almost 10% to end the year at $26.9 billion.
This quarter we reported adjusted net income of $0.51 per share, distributable earnings of $.58 per share, adjusted EBITDA of $26.4 million, and adjusted EBITDA margin of 50.8%. Finally, we again declared our dividend of $0.40 per share this quarter, which remains secure and well covered as evidenced by our 62.4% distribution payout ratio. From an operational perspective, our organization continued its focus on delivering high-quality and amenity rich buildings to our tenants. Despite a slowing and cautious commercial real estate market, from a leasing perspective, fundamentals across our managed assets remained favorable. Our portfolio of managed real estate ended the quarter and nearly 96% leased, and during the quarter, we helped arrange 2.5 million square feet of leases on behalf of our clients, which resulted in a combined 2% roll up in rents and a weighted average lease term of model of almost nine years.
As a reminder, we are limited as to what we can discuss this quarter regarding our publicly traded clients as we are reporting results in advance of them. With that said, I want to highlight some items of note across our perpetual capital clients. In October, SVC amended its revolving credit facility to extend the facilities maturity date to July, 2023 and remove restrictions on paying dividends and issuing secure debt. With the amendment behind them, SVC's board increased the quarterly cash dividend from $0.01 per share to $0.20 per share, which is well covered at a conservative 37% payout ratio. SVC management is currently focused on refinancing 500 million in bonds that will mature this June, with multiple options currently available to them.
Bond refinancing discussions at SVC have also been helped because all aspects of its business continue to perform well and the hotel sector fundamentals remain solid, as evidenced by higher TSA checkpoint travel volumes and increase occupancy and RevPAR levels across the industry. This positive momentum was evident this past week at the Alice Conference in Los Angeles, a major hotel industry event that included representation from both SVC and Sonesta, where the mood was the most upbeat since the beginning of the pandemic. As it relates to the retail portion of SVC's business, this same positive momentum is also evident as discretionary consumer spending continues to remain resilient across all income levels, household cash cushions remain well above pre-pandemic levels, and the majority of SVCs retail tenants remain current on their lease obligations.
Photo by sean pollock on Unsplash
Turning to our real estate lending platform, Seven Hills Realty Trust, our publicly trade mortgage REIT, continues to be a growth story for the organization as its loan book approaches $1 billion. And uncertain times like these lending against commercial real estate as compared to owning the equity in the same real estate is an attractive way to generate high-risk adjusted returns. Seven Hills' default free track record, coupled with the ability to access the broader RMR real estate platform, continues to be a differentiating factor for us. In January Seven Hills Board declared a 40% increase in its quarterly dividend from $0.25 per share to $0.35 per share. This new dividend rate is a strong signal of our confidence in the company's momentum and the stability of its loan portfolio.
At OPI, occupancy remains above 90% despite headwinds from high bid work arrangements and cost cutting measures across corporate America. While national indicators suggest office usage is improving, our internal data shows OPI's assets tracking ahead of national averages, which most likely reflects the diverse geographic nature of OPI's portfolio and its limited reliance on gateway markets. Given the current environment, we expect office fundamentals to remain subdued, specifically rent growth and lease rent growth and leasing velocity. As such, the organization is focused on getting ahead of OPI's upcoming 2023 and 2024 lease expirations by actively engaging tenants and thoughtfully investing in OPI's properties. At DHC, we are working with its senior living operators to improve DHC's operating performance.
As a reminder, in the third quarter -- in the third calendar quarter, DHC reported its sixth consecutive quarter of occupancy growth in its senior living communities. That trend is consistent with the broader industry, though inflationary pressures and labor supply challenges remain a headwind to margin and profitability for the entire industry. These efforts are critical to DHC's long-term success and its ability to refinance upcoming debt maturities in 2024 with over $800 million in cash as of September 30th, we are confident DHC can both weather these near-term challenges and continue strategically investing in its assets. Up close with our private capital business, which ended the year at over $7 billion in managed assets, including the Mountain joint venture that was created when ILPT acquired Monmouth REIT in early 2022.
The private capital portion of our business now represents 20% of our consolidated overall AUM and 15% of our fee earning AUM. Both significant milestones given this portion of our business is only about five years old. At this time, we are simultaneously pursuing organic private capital growth with our existing capital partners, developing new private capital vehicles and assessing strategic M&A opportunities as they present themselves. With over $200 million in cash and no debt, we believe we are well-positioned to take advantage of strategic opportunities that we believe will result from the ongoing market volatility. I'll now turn the call over to Matt Jordan, our Chief Financial Officer.
Matthew Jordan: Thanks Adam. Good morning, everyone. For the first quarter of fiscal 2023, we reported adjusted net income of $8.7 million or $0.51 per share, and adjusted EBITDA of $26.4 million, with both financial measures being in line with our quarterly guidance. Total management and advisory service revenues were $49.6 million this quarter, which was almost $4 million higher on a year-over-year basis, though down approximately $2 million sequentially. The sequential quarter decrease was primarily attributable to enterprise value declines at the manage equity REITs and normal seasonal declines at TA and Sonesta, partially offset by increases in construction supervision fees. Construction supervision fees almost doubled from the same period last year as RMR continues to look for ways to maximize value at our client's assets through redevelopment and repositioning efforts.
For the second fiscal quarter of 2023, we expect to generate between $48 million and $49.5 million of management and advisory service revenues based upon the current enterprise values of our managed equity REITs. As it relates to incentive fees, which as a reminder, based on a comparison of our managed equity REITs three year total shareholder return to their respective peer groups, we unfortunately did not earn any incentive fees for calendar 2022. With that said, OPI three-year total return exceeded its peer group by over 800 basis points. So, cumulative returns for OPI in the office sector were negative, given the headwinds broadly facing the office sector, which resulted in no incentive fees being due from OPI. Additionally, both OPI and SVC's total shareholder return for calendar 2022 exceeded their respective peer groups by over 500 basis points, which hopefully creates a foundation for future incentive fees.
Turning to expenses. Recurring cash compensation this quarter was approximately $33.3 million, an increase of $1.7 million on a sequential quarter basis, due primarily to annual merit increases that were effective October 1. While wage inflation and labor scarcity are moderating, we remain vigilant in continually assessing staffing levels and continue to look to secondary hiring locations and select outsourcing solutions to mitigate further expense growth. Looking ahead to next quarter, we expect recurring cash compensation to increase to approximately $34.5 million due to payroll tax and 401(k) contributions resetting on January 1 and then moderating at approximately $34 million each quarter thereafter. G&A expense of $9.2 million this quarter includes approximately $400,000 or $0.01 per share of technology transformation costs, which were excluded from adjusted EPS and adjusted EBITDA.
Over the next two years, we have committed up to $10 million to our technology infrastructure to ensure we harness the breadth of the data we generate internally to a strategic decision-making as well as ensure we have an operating environment that leverages technology to drive innovation and efficiencies. At this time, it's still early in our technology transformation journey, so we are unable to speak to the exact pattern of spend over the next 18 months, but it's worth noting that a portion of these technology investments will be both capitalizable and reimbursed by our clients. On a normalized basis, G&A should be approximately $9 million next quarter, excluding both technology investments and annual share grants to our Board of Directors in March.
We closed the quarter with over $200 million in cash. And given the rising interest rate environment we currently operate in, we generated interest income this quarter of approximately $1.8 million and expect this number to exceed $2 million per quarter throughout the remainder of fiscal 2023. Aggregating all the prospective assumptions I previously outlined, next quarter, we expect adjusted earnings per share to range from $0.46 to $0.49 per share and adjusted EBITDA should range from $24.5 million to $26.5 million. That concludes our formal remarks. Operator, would you please open the line to questions?
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