Dream Residential Real Estate Investment Trust (DRRUN) Earnings Call Transcript & Summary

Welcome to the Dream Residential REIT Fourth Quarter 2024 Results Conference Call on Thursday, February 20, 2025. [Operator Instructions] And the conference is being recorded. [Operator Instructions] During this call, management of Dream Residential REIT may make statements containing forward-looking information within the meaning of applicable securities legislation. Forward-looking information is based on a number of assumptions and is subject to a number of risks and uncertainties, many of which are beyond Dream Residential REIT's control that could cause actual results to differ materially from those that are disclosed in or implied by such forward-looking information. Additional information about these assumptions and risks and uncertainties is contained in Dream Residential REIT's filings with securities regulators, including its latest annual information form and MD&A. These filings are also available on Dream Residential REIT's website at www.dreamresidentialreit.ca. Your host for today will be Mr. Brian Pauls, CEO of Dream Residential REIT. Mr. Pauls, please proceed.

Good morning, everyone, and thank you for joining us today for Dream Residential REIT's Fourth Quarter and Year-End 2024 Conference Call. Speaking with me today are Scott Schoeman, our Chief Operating Officer; and Derrick Lau, our Chief Financial Officer. The REIT continues to deliver stable operational performance. For Q4 2024, comparative properties NOI growth was 2.4%. For the year, comparative properties NOI growth was 3.7% and within our guidance that we had set at the beginning of 2024. Comparative properties NOI margin was 52.9% compared to 52.1% in the prior year comparative quarter. Top line revenue continues to be impacted by current operating conditions while we focus on managing controllable costs. FFO per unit was 17.3% -- $0.173 and compares to $0.177 in the prior year. We continue to prioritize our balance sheet strength. We ended 2024 with a net total debt to net total assets ratio of 33% and a weighted average term to maturity of 4.8 years on our mortgages. Overall, liquidity is approximately $60 million. We completed 196 suite renovations in 2024, which included commencing work in Cincinnati. This is below our initial target as we pivoted toward tenant retention and maintaining occupancy. We have now paused renovations in Oklahoma and will also pause in Dallas. Overall, I'm very pleased with the REIT's operational and financial performance, which has been largely consistent with expectations. There continues to be a disconnect between our trading price and the intrinsic value of Dream Residential's portfolio. With our year-end results, we have announced that the REIT has commenced a strategic review process with a goal to maximize value for our unitholders. We are committed to evaluating and exploring various alternatives to achieve this result. In light of this decision, we will not be providing formal 2025 guidance. I will now turn it over to Scott to provide an operations update for the quarter. Scott?

Thank you, Brian. We are pleased to report a net operating income of $6.3 million for the fourth quarter of 2024 and $24.9 million for the calendar year. This achieves the midrange of annual guidance and represents comparative property NOI growth of 2.4% for the quarter and 3.7% over the year. Peak supply, economic tension and winter seasonality have broadly restrained near-term revenue growth. But DRR's active and disciplined spend management practices, improved operating margins 100 basis points quarter-over-quarter and 30 basis points year-over-year. Our team is pleased with the leadership from our community directors and the resilience from our sustained property performance. Comparative property revenue for the year grew 0.8% higher than Q4 2023 and 3.5% higher than calendar year 2023. DRR portfolio average daily occupancy over calendar year 2024 stabilized even within 3 basis points of calendar year 2023, finishing at 93.4% on December 31, 2024. Average daily occupancy during Q4 improved 24 basis points compared with Q4 2023. DRR's Oklahoma communities led our other markets with 94.4% occupancy rate at quarter end and averaged over the trailing 12-month period. Our Oklahoma assets also led in quarter-to-quarter rent growth at 0.8% higher than the preceding quarter and matched our Cincinnati region assets with 3.0% annual in-place rent growth. Portfolio-wide, rents increased 0.5% from Q3 to Q4 and grew 2.2%, up from $1,156 last year to $1,181 this year. As a frame of reference, spanning more than 2.5 years since DRR went public, apartment list national rent indices for U.S. multifamily rents have remained flat from May 2022 through December 2024. DRR in-place rents have grown 17% over the same period from IPO through the end of Q4 2024. Leasing conditions across the United States are challenged and likely to remain subdued in the near term. During Q4, DRR leases decreased 2.3% on expiry. However, renewal trade-outs rose 4.6% for a blended 1.4% trade out. We prioritized renewing residents, as reflected by Cincinnati's 63% renewal rate and Oklahoma's 58% renewal rate. Dallas-Fort Worth communities renewal rate remained below 50% as the team completed 40 value-added renovation suites to close out the year. We reduced value-added work in 2024, completing 56 suites during Q4 and 196 suites over the year. Net renovation returns improved during the fourth quarter on $99 lease premiums. However, sustained returns trailed our target band of 12% to 16% for the year. As a result, construction paused in Dallas-Fort Worth and Oklahoma City. Value-add work does continue in Cincinnati. Renovation trade-outs on 35 suites in Cincinnati averaged more than $300 and pushed investment returns into the upper portion of our desired target band. The macro pipeline of new apartment deliveries is projected to drop 20% in 2025 and 60% in 2026. DRR assets are exceptionally well positioned for the upcoming shift from high supply to high demand. It is my pleasure to turn things over to Derrick Lau, our Chief Financial Officer.

Thank you, Scott, and good morning. For the quarter and year ended December 31, 2024, diluted funds from operation was $0.173 and $0.70 per unit, respectively. This compares to $0.177 and $0.705 in the prior year quarter and period. For the fourth quarter, net operating income was $6.3 million with NOI margin at 52.9%. This compares to $6.2 million and 51.9% in the prior year quarter. On a comparative properties basis, NOI increased 2.4% year-over-year. Interest expense was $1.9 million and G&A expenses was $1 million, which includes higher payroll-related expenses totaling approximately $140,000. The IFRS value of our properties is $400.5 million and compares to $396.4 million in Q3 2024. The increase in fair value reflects $4.1 million of building improvements and a $0.6 million fair value gain. During the quarter, we externally appraised 6 properties or approximately 31% of our portfolio by fair value. IFRS NAV was $13.39 per unit and compares to $13.47 per unit in Q3 2024. IFRS cap rates increased slightly by 5 basis points quarter-over-quarter to 5.84%. Net debt to net total assets was 33% and largely consistent quarter-over-quarter. On December 31 2024, we repaid [ $15 million ] in mortgages at Colt's Crossing and Ashton Glen using our previously undrawn credit facility. The REIT has no upcoming mortgage maturities in 2025 or 2026. At the end of 2024, our liquidity was approximately $60 million, comprising $5.5 million in cash and $55 million of availability on our credit facility. As Brian has noted, we will not be providing annual guidance as a result of our ongoing strategic review. Thank you, and I will now turn it back to Brian.

Thank you, Derrick. We would now like to open the call to questions.

[Operator Instructions] The first question comes from Jonathan Kelcher with TD Cowen.

First question, and I guess you're not going to answer a lot on these. But on the strategic review, as you sit here now, I guess, we think about just sort of a pause in terms of looking at new acquisitions that you'll just sort of run the portfolio as is, as a strategic review plays out?

Jonathan, we're continuing to run the business. We continue to evaluate opportunities in light of our liquidity and basically run the business as normal. So as we're normally watching markets, watching transactions, looking at opportunities, we continue to do that. But I think it's fair to say we're looking at the company as a whole and want to make sure anything we do is going to be added value.

Okay. Fair enough. And then I guess in the press release, you talked about or -- a more challenging leasing conditions entering 2025. Can you maybe expand a little bit on that? And which markets you're seeing that in?

Jonathan, this is Scott. I think what we're experiencing at the end of 2024 and in the early stages of 2025 is indicative of peak supply, longer periods of time to lease suites, slightly higher concessions. And we're seeing that across the country, but more pronounced in the Sunbelt and in our market, DFW. So we see some of that being seasonally impacted, and then we see the outlook as the macro delivery sort of transition to more of a demand mindset, I think we'll see those conditions change.

Okay. And that's sort of the back half of this year?

It's very market by market. And so I would say -- most analysts would say it's the back half of this year or the first half of 2026 in Dallas-Fort Worth.

Okay. And then last question, I guess, just for you, Derrick. I'm just curious as to why you repaid the mortgages with the line of credit instead of refinancing them?

Jonathan, so those became due January 1. And I think, as Brian mentioned, we're undergoing a strategic review, and we wanted to have flexibility going forward, depending on which path we choose. So putting our credit facility lets us -- gives us that additional flexibility to pursue a potential strategy. So as noted, that's why we didn't repay those mortgages. We constantly monitor the market. So depending on how the year goes, we will continue to evaluate that.

Okay. And what sort of difference in rates of the line versus what you would have been able to do?

Sure. So currently, the credit facility is at around 6.1%. If we were to place 5-year financing, it would probably be about 50 basis points to 5.5%, 5.6%.

The next question is from Roger Lafontaine with Nugget Capital Markets.

In regards to the strategic review, I was wondering if you'd be able to shed any light on the transaction liquidity market in Dallas or Cincinnati and whether you're seeing a good atmosphere for liquidating any apartments if that was a path you're going to choose? Or is -- are you able to shed any information on the strength of that market?

Thanks, Roger. We're -- we do watch these markets very closely. There's lots of capital that wants to be in this asset class. It's very defensive, it's very safe. The markets are nuanced, meaning that there is certain capital that wants to be in Texas or Oklahoma or Ohio. And so there's different levels of transactions in cap rates, but there's certainly continues to be transactions and interest in our type of properties in our property specifically and in the portfolio. So we're seeing all of that. And we're watching it closely. I would say there's not as much liquidity in transaction volume as there once was a few years ago. However, this is a very, very resilient asset class. And so we're watching that to try to answer your questions as best I can.

The next question is from Sairam Srinivas with Cormark Securities.

Just going back to your comment on the transaction market, Paul, and just can you give us a color in terms of are you seeing a lot more competitors or players doing more of repositioning in this market versus buying new product?

Yes. Sai, we're seeing a lot of new product coming into the market. As Scott mentioned in his remarks, we're seeing some trades within the market. We're seeing lease-ups. We're seeing some positioning of capital looking for opportunities where there may be a new project that is in lease-up that's struggling to get off a construction loan into permanent loan. So there's transactions that are opportunistic like that, but then there's also a lot of transactions that are just kind of strategic where people are buying into markets where there's maybe less competition than there was before. So we're seeing more of a normalized market than a hypermarket that we've come out of, but there's certainly a lot of long-term interest in this asset class. We obviously love it. We've been in it a long, long time and believe in our assets, our IFRS values. And so it's -- I would say, although we're in an inflection point where we've got pressure from cap rates and some supply, it's a very healthy asset class.

That makes sense. And Brian, maybe just -- it's probably a cheeky question, but putting a PaulsCorp hat on here, how does this market look from a development perspective? And if you were to make a development work right now, how do you think about it?

Sure. Developments are very tough to make right now. The developments -- there are cost pressures on land, on labor, on material, meaning that they have continued to rise, there's inflationary pressures in those areas and there's quite a bit of pressure or headwinds, barriers to entry for development from a financing standpoint. Construction loan standpoint, not only just being available, finding a construction loan, but the cost of that loan as well. So a tremendous amount of equity is required. The return on that equity for new construction is not that attractive. So we're coming off of a surge in supply, but Scott mentioned this that behind that surge is a pretty significant dearth, a reduction in supply, new starts, new building permits have dropped off a cliff. So we're in a -- this is a cyclical business. We're in a cycle where we're working through new supply and behind that is likely to be very low supply, but the renter demographic seems to be quite healthy. Buying homes in the United States is difficult, it's very expensive. And the renter pool or the renter demographic continues to grow. So that's why I previously said that it's a pretty healthy asset class because the future is good for rental properties, but it is kind of lumpy to get there.

Next question is from Himanshu Gupta with Scotiabank.

So on strategic review, I mean you mentioned the range of strategic alternatives you'll be looking at. So what are those alternatives you'll be looking at? I mean, is it the outright sale of the REIT? Are you looking to sell some assets in chunks, I mean exit some of markets, capital recycling? Like what is the [ preference ] of these alternatives right now?

Himanshu, I think our press release said what we're prepared to say. We're looking at everything. We're looking at the entire company. The goal is to narrow the gap between where we trade and what our intrinsic or NAV value is. We believe that gap is too wide. And so we're looking at kind of all alternatives. We wanted to announce that we're taking a hard look at that because that's a big priority for us.

Fair enough. And Brian, have you put any of the properties on the market for sale?

We have -- none of our properties are held for sale. We're continuing to operate the business.

[Operator Instructions] The next question is from Brad Sturges with Raymond James.

Not to belabor the point on the strategic review, but I guess I just want to understand, I guess, you've gone through a process the last few quarters in terms of looking at potential for JV opportunities. Is it fair to say that that appetite at the moment has been still a little bit subdued and that's why you're pivoting to a little bit more of a broader review? Or how should we think about that part of the strategic review in terms of related to like the joint venture opportunity that you had been pursuing?

Yes, Brad, it's a good question. I mentioned that we've been in discussions on JV opportunities, and that is true. That strategy is not off the table. I'd say it's still a possibility, but we have broadened the review to kind of look at all the possibilities. We're not narrowly focused on just JVs, but we're looking at everything, but that is certainly something that continues to be an option.

Okay. And just -- I apologize, I missed a little bit of your preamble, but just on the renovation activity, I think you noted that you plan to slow it down because some of the returns you were getting last year weren't quite hitting the threshold. Just how should we think about suite renovations this year? Is it more focused on Cincinnati? Or what's the target volume this year?

Thank you, Brad. Our value-add construction really has been reflective of the larger rental market and our decisions there. But we are still seeing very favorable returns in our Cincinnati asset. And we're generally, over the normal course of business operations, looking to renovate about 50 suites in Cincinnati in 2025.

And just to confirm, you're, I guess, effectively slowing down or halting in the other 2 markets in terms of renovations?

Correct. We have taken a pause there, and we can certainly undo that pause when the time is right, but we're pleased with the $300 trade outs that we've seen in Ohio, and we'll continue to work there.

The next question is from Kyle Stanley with Desjardins.

I understand no guidance just kind of given the strategic review. But based on your commentary, it's probably relatively safe to assume similar performance as maybe what we've seen in the last quarter or 2 in the year ahead?

I think -- Kyle, it's Derrick. Just given Scott and Brian's comments on the market, it's a little more challenging. So I think on a comparative properties NOI basis, it'll probably be a little lower than last year. So that's one piece. Interest expense, probably largely the same, maybe slightly higher because we are putting 2 mortgages on. And in terms of G&A, between Q3 and Q4, that might be a good run rate going forward. I mean this is all assuming the normal course of operations, so excludes any potential outcomes or work on the strategic review. So I hope that's helpful.

Yes. No, very, very helpful. And then again, going back, obviously, we've kind of touched on this already on the call. But just as it relates to the transaction environment, if we look back a few years ago in the more kind of immediate post-COVID era, it did seem like there was a lot of [ 1031 ] capital that had maybe rotated out of lower cap rate markets, California, Northeast; and was really looking for a home in the maybe higher-yielding markets, specifically in the Sunbelt. In your trafficking of the transaction markets in the last little while, have you seen any instances where you might see some of that [ 1031 ] capital looking for a home?

Yes. Kyle, I'll start and I'll let Scott elaborate. But I think we're still seeing rotation of capital into target or strategic markets for various investors. For example, some may be coming out of California for various reasons. It could be the exposure to environmental risks like the fires or insurance costs, those kinds of things, governmental regulations. But the markets we're in are attractive to a number of investors that are coming out of other markets. So whether it's [ 1031 ] rotation or it's just kind of a normal, just geographic investment rotation, we are seeing interest in these markets. So that continues, while, as I mentioned before, the transaction volume is lower than the times that you mentioned, there's still lots and lots of investors and lots of capital that wants multifamily long term as a long-term investment. But Scott, you may add to that.

I think that summarizes it.

This concludes the question-and-answer session. I would like to turn the conference back over to Mr. Pauls for any closing remarks.

Thank you, everyone, for participating in today's call. We look forward to speaking again soon. Take care.

The conference has now concluded. You may disconnect your lines. Thank you for participating, and have a nice day.