Sun Communities, Inc. (SUI) Earnings Call Transcript & Summary

Thank you for joining us for the last session of our second day. It's great to see everyone in-person again. I'm really pleased to have with us Sun Communities. We have the full team. So right to the left of me is the CFO, Fernando Castro-Caratini.

It can just be Castro.

Castro?

Yes.

Fernando. I always trip that out. I'm sorry.

All good.

To his left is Gary Schiffman. And to Gary -- the CEO. And to the left of Gary is John McLaren, President and COO. But we'll have to talk about that transition. And to the left of John is Sara Ismail. And so with that I'll pass it over to Gary for opening remarks on Sun.

Thank you, [ Josh ], and for all of you in person here I have to assume you all work for Bank of America, or told you have to be here for this last presentation. So thank you very much. The end of a very positive and busy couple of days here. And I want to complement the bank on the great job you've done. So thank you. I'd start out by just suggesting that we have a very distinct business platform whereby we have 3 platform portfolios, manufactured housing, RV communities and marinas. They all share a fundamental strategic concept of high barriers to entry, very, very strong demand and very, very limited supply. So on that basis, we talked a lot about the similarities in those 3 platforms, and we're glad to talk about them today. I'm also pleased to share with you the fact that as we sit here, both on the manufactured housing side, on the RV side and on the marina side, demand remains very strong. There is very little to point to at this particular time that really doesn't cause us to feel like we're performing as expected to our underwriting and to our projections. Some interesting nuances that I'm sure we'll get through today when we look at inflation, where inflation is. But the fact of the matter is we've been public for 30 years and private doing the same thing for 5 to 7 years before that. We've lived through a lot of turbulent and volatile financial times. And what we suggest is our platforms aren't recession-proof, but they're very, very recession-resistant, so in turbulent times, good platforms to seek out. And it's fundamentally because of that demand supply imbalance and the inability to bring new product online. So with that, Josh, I think we can get started with Q&A.

Yes. No. I know you did put out a business update, so maybe if we could just start there for everyone's benefit who maybe missed that. Could you provide some color there?

Sure. With the 2 business updates, succession planning being one, but the one we're referring to is in our deck or…

Yes, in fact we can also talk about the succession planning at…

Yes, absolutely. When we put together our presentation deck, there were 2 updates in there. And they're really tied together. They relate to transient RV. And I think as we move through our meetings during the conference here, we recognize that we need to do a little bit of a better job connecting the dots here. But we look at our 3-day holiday weekends, Memorial Day, July 4 and Labor Day as sort of a bellweather indication of how we're doing in the transient RV business. And we announced that for Labor Day, year-over-year, we were up 1.6%. Additionally, we announced that we converted about 1,700 transient sites to annual leases through July 31. It's just an unprecedented breakthrough amount of conversions that we've experienced. In our normal business, we convert transient RV guests into annual guests, and they start leaving their home in place and paying rent for the entire 12 months to leave their RV there. We generally have a pickup of 40% to 60% in revenue the first year of the conversion because the revenue we're getting is spread over 12 months as opposed to just the short stay there. It's a very profitable piece of the business. And the average stay of an annual resident in an RV community is about 5 to 6 years. So previously we normally convert about 900 to 1,000 a year in 2021, and there's no cost to us. Conversions crept up to a record-breaking 1,700, and now we're at 1,700 as I reported through July 31. So those are the 2 updates. Why they are relevant is when we look at the 1% year-over-year increase in transient stay over that holiday weekend, on an apples-to-apples basis we have 7% fewer sites in the portfolio that can be rented. So if you adjust for that 7% sites, you assume the same occupancy during the weekend, the year-over-year growth on the transient side would look more like 7% to 8%. So we continue to see a very healthy and strong demand for transient even in the face of much higher gas prices. And the only thing I'd add in there is that generally we speak to the fact that transient guests come from around a 90-minute travel distance up to 3 hours. So even as high as gas prices get, it's not really significant as a percentage to that vacation experience that they have. So we didn't see any deterioration on the basis of gas prices and strong year-over-year growth, albeit on a staggering increase over the last couple of years that we've experienced as the post-COVID bounce into the outdoor RV world, so.

So what's driving that conversion from transient to annual?

It's a great question, and I think that -- we'd like to think it's the guest experience as we think of ourselves as the foremost provider of that transient stay, the work that we do within the communities, the management that takes place and the fact that perhaps a little bit of the inflationary pressure causes people to want to leave their RVs. And this becomes their vacation home, as John would tell you. They fix up their homes and their RVs and…

Yes. I think part of it, Josh, is one, last year, 2021, we had 270,000 new guests come to our resorts over the course of the year. And so like we've shared before, we don't anticipate holding on to every one of those guests that's tried the outdoor, our communities. But we've seen it come through both in the stays that we've had, and we've -- the 1.6% for Labor Day as an example represents growth on that new baseline that's been established with the new guests that are coming as well as, like Gary shared, the record number of conversions that we have. It's a very sort of natural process when you think about sort of the evolution of an RV that might originally come, maybe even a pop-up camper, okay, in some of our northern campgrounds and that sort of thing to evolving into a fifth wheel to a park model and then becoming an annual in our communities. And so they start -- it's a small community. And like Gary said, the experience that they have on the ground, the friendships and the relationships that they make and the years that they come, they make their investment there because it is kind of weird year after year, month after month, week after week to go to a different spot in the community, and you kind of like having your spot that's there, but what we love about it also is the fact that they make investments into their sites within our communities. So a lot of our guests that become annuals have put in brick paver patios, screen rooms onto their RVs and things like that. So they're making an investment and calling this, like Gary said, their summer cottage if it's up north or their snowbird retreat for the wintertime if it's down in Florida, and those sorts of things. So like I said, it's natural. It actually, to some degree, we love it when they put in pavers and things like that because on the operations side it feels like free CapEx a little bit and it obviously makes the community more beautiful.

And as the number of transient sites shrink, are you able to push pricing more aggressively on that side? Or I assume there's still a lot of demand out there for transient sites.

Yes. I mean Labor Day, that weekend itself represented a 11% increase in the average daily rates that we had. So yes, you start having less supply, which helps to increase rates. But on the transient side, we look at rates on a daily basis. So there's a lot of movement to our revenue management throughout the year.

And then Gary, just sticking with the topic of rates at NAREIT, one of the things that you mentioned that I thought was pretty interesting and kind of unique is it felt like you could, in this inflationary environment maybe push rate further across the portfolio on MH and annuals going forward. Is that still kind of your working assumption? And kind of how are you feeling about it today?

It is certainly a topic of discussion throughout the conference. So very, very relevant.

It's the first time it's come up.

Yes. I wish I had thought of that. Back to the matter is, for those of you who know the company, we put in annual rent increases to about 35% of the manufactured home residents by the end of September. So over the next 2 weeks, they need a 90-day notice effective so the rent can go up on January 1. That's for about 50%, the same for our annual RV residents. So last year, when we put in rental increases, we were in a kind of 4-ish CPI range we put in roughly -- was it 43, for the year. And then unfortunately we had to live with that for the next 12 months until this new rental season in this much higher 7, 8, 8-plus CPI environment. So we have in front of us the opportunity now to pass on the inflationary pressure in manufacturing housing and our annual RV and MH by CPI or market. So that's very positive, being able to push on the rents. In the marina space, there are no caps on the increases, and we're about to announce those for January 1 as well. And in the U.K., where we have our holiday parks communities, there's no cap as well. This isn't to suggest that rents are necessarily going to go up by 8.3%, but they will go up to a level that enhances on our incurred costs. For example, MH operates at a margin of 70% to 75%. So we'll look at those 25% expenses. We'll determine what we need to and cover the inflationary increases. And then we'll back into a number that gives the anticipated growth to our stakeholders and investors and arrive at a rental increase that at this time I would just share with you will be higher than anything our guests or residents have seen in the last 2 or 3 decades. So it will be substantial, but we're very comfortable in the justification with it. On the marina side, we talked about on the RV transient. We have that pricing adjustment every day to be able to change it. On the marina side, higher net worth members there, higher annual incomes, and we'll look for a substantial rental increase in the slips going out as well. And then we get to the U.K., and we expect similar things. When it comes to U.K. and rental increases, I'd share with everyone we'd like to take credit for it. But when we underwrote the transaction, we noticed that they lock in utility rates for a 5-year period. We thought it was interesting. Now it seems really, really interesting in that their utility rates in that 20% inflationary environment are actually locked in and have been locked in through the end of 2024. So those rates are generally passed on to the residents and the residents get the advantage of these lower rates. And therefore, the inflationary pressure they would experience in the holiday parks is even lower than the experience in their primary residences. So because you must have a primary residence in order to qualify for a park -- home in the Park Holidays, we're finding more that some of our more seasoned residents are closing down their primary residences and moving to their vacation homes and spending more time there, if you will. They're generally 1 hour to 1.5 hours outside of London, and they're saving on the big costly increase at utilities in their primary residence and enjoying the pass on of these locked-in prices. So obviously 2025 will be -- we'll have to wait and see what utilities look like at that time, but they get the benefit through 2024.

Maybe since you brought up Park Holidays, it's a newer business for a lot of folks, and it's a lot of concern about recession. Maybe walk us through, one, the demand for Park Holidays and then kind of how the asset class has performed in past recessions.

It's a great question. I'll start it and [indiscernible] can join in. But the question we asked ourselves in underwriting. Certainly we're aware of the macro environment taking place in the U.K. and elsewhere in the world as well as what we're seeing in home here in the U.S. Big part, I talked about the insulation against utilities, which has been a very pleasant situation. But the fact of the matter is when we did our underwriting, we took a look back to some of the energy prices due to imports. Very early on they've been operating this portfolio, much of management, for 17-plus years. And we took a look at our performance through Great Recession, then we looked at Brexit, and then we had the availability of information through COVID before we did the transaction. So as we look through all those periods of time, one thing that we found is the consistency that they have had with home sales, with margins on the home sales, with resales, with rental increases and the demand for the holiday homes. And more recently, through Brexit, it becomes much more difficult to travel to their European destinations. They can only be out of the country for certain periods of time. They can't take their pets. So there was a big push towards vacation ownership, and it was great for the holiday business. And then more recently, we believe with the reduction of the pound against the American currency for sure, we're seeing a significant taper off of vacation and travels to the U.S. and elsewhere as it's more expensive and benefiting from being able to use the pound sterling to be able to, at a like price purchase a home in one of the holiday park. So business is very, very good right there, yes.

Any questions from the field?

[indiscernible] higher-quality customers or is it more at risk because it's not [indiscernible]

Probably both, okay? But we do view them as a much higher quality credit. They not only have to, for their single-family primary residence, and it is checked out by the government on an annual basis, but 80% of the buyers buy for cash, okay? So all in all, and when I speak through the fact that we have seen the 17-year history and gone through these cycles and economic events, they have not seen a measurable change to the fundamentals of demand. We believe that we'll continue to see similar performance as they go forward. So there's nothing we could point to right now. But as in all of our platforms, RV, marina and the U.K., these are not primary residences in the MH business it is. However, we have a large segment of our manufactured housing business that are snowbirds. So they have home ownership in the north and come to either Florida or Arizona or one of our communities to holiday in the warm weather. And that's very, very similar to the Park Holiday business. The seasons are just different. The big time of spending time at their homes is the summertime when the weather is nice. Albeit I'm not sure how nice -- what the definition of nice is in the U.K. in my 5, 6 visits, and I don't mean to offend anybody.

Lot of indoor pools.

Lot of indoor pools, lot of grey skies. So to the best we could do of our underwriting, we feel good about the enhanced creditworthiness of that customer going forward.

I would just add to that, that is [indiscernible] customers is typically an older, more established demographic as well by virtue of having a primary residence. And like Gary mentioned, the credit quality overall.

Any other questions from the field?

[indiscernible].

It's a great question. I mean, as we look at what's taken place before COVID and after COVID, '21 over '20, we experienced, I think, 37% revenue growth on a same-site basis. John has spoken about 270,000 new visitors to our communities. So I think where we are now, perhaps we are a little aggressive at the beginning of the year how we thought about budgeting, and we -- our revised guidance to I think about 6.4 at the mid-point. Yes. And that will be impacted. We've got to think about how to communicate on the same-site basis because of all the conversion taking place. There's a little bit of work to do there, but we expect to be good at that level. But as we go forward, and we've talked a lot about it, I think with this 30-plus percent growth that we've experienced, we just have a new base level from which we believe it would just continue to grow at that 3% to 5% rate that is normal that we've experienced. And as often asked, how much of all this are we going to keep? Well, we think we keep that 37% growth and just grow off of that. People will return to other forms of vacation, they have, whether it be cruises, airplane, traveling to Disneyland, whatever the case is. But all these new people that have been exposed to the Sun properties, camping and glamping and RVing seem to be remaining with us.

[indiscernible].

Sure. Our recovery rates from a utility perspective average around 70% to 75% at our communities. Increased costs across the second quarter were primarily due to 2 items. One was payroll, which had been telegraphed as far as the step function increase to wages at our communities that started in the second half of 2021, that those now have entered the run rate and growth in payroll would be expected to moderate from that standpoint. We also experienced higher-than-expected tax assessments in Texas on the manufactured housing side, which we now are in the process of -- in testing. And as we get, hopefully, good results from those deliberations, we'll put that in results, we'll report that.

Maybe I want to ask you about, there's the announcement that John is going to step back from the CEO role and take on a more focused role on development. Could you kind of walk us through that rationale?

So I'll go big picture, and John can share with you all the thinking that's gone into that. I think that -- I think it's important to understand the Board and senior management has always focused on being good stewards of succession planning. I think whether it be for unexpected event or a transition like we just experienced we look at creating a deep bench by developing internal staff and bringing in external staff. Good examples of that is when Fernando came aboard 6…

6 years ago.

6 years ago. Bruce Thelen…

5.

5 years ago. And John will talk about that a little bit. We just also added something [indiscernible] on the strategic side of things. So -- and that's not for any specific succession planning, but that's to have a good deep bench. Then we have a lot of internal people. So this year we have had a transition after 20 years. Karen Dearing stepped down as Chief Financial Officer, Fernando stepped in, more recently the announcement with John and Bruce Thelen that I'll share. But for those of you wondering, I've still got a few years left. I'm not planning to go anywhere. I get up every morning anxious to be part of this company. And like I say, we all live and breathe it 365 days a year. Karen and John always took Christmas off, so they live and breathe at 364. I'm not sure if you're planning to take Christmas off or not.

Children would like to…

So there's nothing abrupt about this. It has been well-planned, well-thought-through, and I'll let John sort of share the dynamics with you, but being tied together at the hip for these last 20 years, there's not a day or a week that goes by that we don't talk both on a personal level, which has a lot to do with this change and on a business level, and it was well thought through as we moved forward on.

Yes, I'll talk about Bruce first. So I identified Bruce, I personally recruited Bruce Thelen to Sun as my potential successor for COO, actually more than 5 years ago, he was with Champion Home Builders. He was in our industry. He is who I worked very closely with as we went through the first iteration of our innovation in our homes that we add to our development and was fortunate to bring him aboard in early '18, placed him in the role that I had immediately before becoming Chief Operating Officer back in 2008 because it was so foundationary for me and preparing me for that role. Gave Bruce -- actually gave Bruce operational -- full operational reigns in February of 2020. So like 3 weeks before the pandemic started, which worked out for me, it didn't work out so well for Bruce, but it was obviously an important proving ground, okay, walking into that. We all worked very closely, of course, but he performed remarkably leading the team as we've seen with the results that we've released over the course of that time. And so I'm really excited for and proud of him, and I think he's going to be a big contributor, not just to our performance, but to the culture overall as a company and excited for him to take over fully with the COO title at the beginning of the year. For me, sort of on the personal nature, I don't -- I'll say it other than the fact that we're empty nesters, have our first grandchild. Daughter got married literally 1.5 weeks ago. We have a little bit of a unique situation where for the 20 years I've been with Sun, the family has really sort of revolved around my schedule because they had to for things that we did. And the unique situation is, we have 3 sons that are officers in the Marine Corps that are scattered throughout the globe and we'd like to see them a bit more, and that's -- it's hard for them to get leave for various reasons. And so this gives us the ability to kind of rebalance our time a little bit more, my wife and I. And so I'm excited for that. But I'm equally excited for the development role which I'll be taking at the first of the year was Sun because, frankly, I've been in that role for the last 2 years when I handed over the operational reins to Bruce, building that pipeline that I think I've shared with many folks in the room that really is sort of culminating now with 7 manufactured housing ground-up development. So we'll open their first phases over the course of the next 6 months. And so it's obviously taken 5 years to build that pipeline up and a lot of focus over the last 2 years. And then we've got a very large pool of sites for MH that are in various stages of entitlement today and just really narrow my focus a bit and make sure that we are executing on that as we have so many other things over the years and producing new communities that Bruce and the team can fill up. So it will be good. It will be great.

Exciting for everyone.

Yes, I think so.

Any other questions from the field?

Maybe somewhat additional question about [indiscernible] why not just lump all the reporting together [indiscernible] why not lump it all together and kind of make it a little bit less complex [indiscernible].

Well, it sounds like we just eliminated one page of the supplemental. Thanks. That'd be fantastic. I think it's as the -- we do over time, right, the U.K. portfolio will be division 43, right? That's how we will think about it. I think, over a short period of time as we're integrating the platform and proving that performance to the market. I think it will -- I think it's necessary to provide that disclosure, but I'll take note, well -- I'll keep tabs on that over the course of the next 12 to 24 months and would love to do that. Great. Just 1 less page, 1 less tree.

I just would add the following, as I've learned with John, this has been an acquisitive company, if you look back over 10 years, from Green Court to Carefree and half a dozen or more transformational acquisitions that we've done. The way that we kind of know they're fully integrated is when we no longer refer to them as the Green Court properties or the Carefree properties. And I think in the not-too-distant future, once we've got comfortable with anything, we won't segment them out as the Park Holiday properties, they'll just be the U.K. properties. And when that happens, you will see it fully integrated into the numbers in that segmented of that one.

I think with that we're right at time. We are asking all the management teams rapid -- 3 rapid fire questions. We've only had one management team fail us. Yes. So…

Did they decline or plead the fifth? What was it?

They weren't so rapid. So the first one is, which of the following is the greatest macro challenge facing U.S. public REITs today? A, risk of higher rates; B, risk of a recession; or C, the rise of private equity in nontraded REITs.

I'm going to go with higher rates.

Which of the following is the greatest sector-specific risk? One, labor issues; 2, supply; or 3 capital markets.

I think from the selection it would be capital markets.

Are you seeing any signpost of weakening demand? Yes or no?

No.

No.

Fantastic. You passed.

What answers were given to fail the test, like they went into paragraphs and answeres or…

Thank you all, I just -- we are always available for any follow-up questions, reach out to us. You can only reach me on Christmas Day, you can't reach them.

Also we have a fantastic marina tour next week. We need you all to come. It's so good. New Port.

On Tuesday.

So reach out to me. I can get you all the details. We have some spots. So it'll be great food, awesome company and marinas. It's hard to beat.

Thank you, everyone.

Thank you.

Yes, yes. If you need the details, I can send them to you, shoot you an e-mail, sure. What's that [indiscernible].