Good morning, ladies and gentlemen. Thank you for standing by. Welcome to the Flagship Communities REIT Q3 2022 Earnings Call. At this time, all participants are in a listen-only mode. Following the presentation, we will hold a brief question and answer session for analysts and institutional investors. If anyone has any difficulties hearing the conference, please press star zero for operator assistance at any time. I would like to remind everyone that today's call is being recorded. Today's presenters are Kurt Keeney, Flagship's President and Chief Executive Officer, Nathan Smith, Chief Investment Officer, and Eddie Carlisle, Chief Financial Officer. Please note that comments made on today's call may contain forward-looking information, and this information, by its nature, is subject to risks and uncertainties. Actual results may differ materially from the views expressed today. For further information on these risks and uncertainties, please consult the company's relevant filings on SEDAR.
These documents are also available on Flagship's website at flagshipcommunities.com. Flagship has also prepared a corresponding PowerPoint presentation, which it encourages you to follow along with during this call. I would now like to turn the conference over to Kurt Keeney. Please go ahead, sir.
Thank you, operator. Good morning, everyone. Thank you for joining us today. During the Q3, we continued to demonstrate the solid fundamentals of the MHC industry while also further strengthening our portfolio with two acquisitions within our existing footprint. Our outlook for the MHC industry remains positive even in the current inflationary environment with rising mortgage rates in the United States. Over the past 25 years, the MHC industry has consistently outperformed all other real estate classes during similar economic conditions. As one of the Midwest region's largest MHC operators, we are well-positioned for long-term growth for three main reasons. First is the highly fragmented nature of the MHC industry, which has limited supply. The MHC industry is primarily comprised of local owner-operators. The top 50 MHC investors are estimated to control approximately 17% of the 4.2 million manufactured housing lots in the United States.
There is also limited supply of new manufactured housing communities, given the various layers of regulatory restrictions, competing land uses, and scarcity of land zoned, which creates high barriers to entry for new market entrants. Second, we have a stable and growing resident base. The majority of our residents have steady jobs, or they are retired and receiving Social Security or fixed income from the government. In fact, as of January 2023, the United States government has authorized an 8.7% increase in Social Security and disability payments, the largest increase in the past 40 years. As such, the residents in our communities are less affected by inflationary pressures as those with traditional stick-built homes who are more prone to fluctuation in their rents and their mortgage rates. Finally, we maintain a conservative low-cost debt profile with long-dated average maturity.
Our philosophy is to obtain secured debt on a fixed-rate basis. This strategy allows us to maintain staggered maturities to lessen our risk exposure while allowing us to ride out difficult economic cycles in the fullness of time. Eddie will provide more details of this during his remarks. The strong fundamentals of the MHC industry, coupled with our operating success, translated into a solid and predictable financial performance for the quarter, which enabled us to announce a 5% increase to our monthly cash distribution to unitholders subsequent to year-end. We also continue to enhance our corporate governance with the appointment of Anne Rooney to our board. Ann has held a number of board positions and has extensive experience within the MHC industry. We also want to acknowledge Iain Stewart, who has resigned his board position seat.
Iain was one of the original board members and was key in helping us establish a public REIT. He made many contributions to Flagship during his tenure, and we are grateful and thank him for all of his efforts. Now let's turn to the financial results for the quarter. Our revenues, net operating income, and adjusted funds from operations all remained consistent and increased relative to the same period last year. This is mainly due to three factors. First, the acquisitions we have completed to date. Second, both lot rent increases and occupancy increases across the portfolio, and third, cost containment initiatives we realized during the quarter. I will now turn it over to Nathan to provide more details on our operating regions and strategy. Nathan.
Thanks, Kurt. Good morning, everyone. We are focused on optimizing our current portfolio as well as adding external opportunities that adhere to our bolt-on strategy. During the Q3, we made progress on both fronts. In September, we acquired two MHCs in our existing footprint of Louisville, Kentucky and Bloomington, Illinois for approximately $32.3 million. Located just north of Springfield, the Bloomington community is located in the heart of Central Illinois within the Tri-Cities region and is within easy access to Veterans Parkway and Interstate 74 and 55. Bloomington is located in one of the most productive agricultural areas of the United States. In addition to major manufacturers and industries, it serves as the headquarters for State Farm and COUNTRY Financial. Recently, the electric vehicle maker Rivian established a state-of-the-art manufacturing facility in the community. Turning to our Louisville acquisition.
Flagship has been operating in Louisville, Kentucky for over 25 years. Louisville is home to Churchill Downs and UPS Worldport, and is considered a healthcare hub for the entire United States. Louisville metro area is a regional economic hub of 24 surrounding counties in Kentucky and Southern Indiana. It's also a strategic location for thousands of companies and is a day's drive to two-thirds of the U.S. population, which makes it highly conducive for logistics. These acquisitions and all the others we have made to date were made possible in part through our long-standing industry relationship. We have been in the MHC space for 27 years, and during that time, we have established ourselves as credible operators and have gained many relationships in the industry, both of which are necessary for growth. These acquisitions also adhere to our strict and disciplined criteria as follows.
First, we're looking for opportunities that will be accretive to our adjusted funds from operation per unit. Second, we are seeking opportunities that will enable us to leverage management synergies and generate economies of scale. Finally, we're seeking acquisition targets within our current markets or adjacent U.S. states where we currently operate with similar regulatory frameworks and characteristics as the existing markets within our portfolio. This framework allows us to achieve measured growth while establishing a platform to acquire adjacent properties or enter new jurisdictions. We also have significant opportunities to optimize our organic portfolio. This quarter, we grew both our occupancy and our same community NOI, which speaks to the merits of MHC in the current economic environment. I'll now turn it over to Eddie, our CFO, to talk about our financial performance for the quarter. Eddie?
Thanks, Nathan. Good morning, everyone. We generated $15 million in revenue during the Q3, which was $3.6 million higher than the same period last year, primarily due to acquisitions, lot rent increases, and occupancy increases across the portfolio. Net operating income and NOI margins were $9.8 million and 65.5%, respectively, compared to $7.6 million and 66.6% during the Q3 of 2021. Same community NOI for the Q3 was $6.8 million, an increase of 9.7% compared to the Q3 of 2021. FFO and FFO per unit for the Q3 were $5.3 million and $0.27 per unit, a 21% and 5.8% increase, respectively, from the Q3 of 2021.
Adjusted funds from operations and AFFO per unit were $4.6 million and approximately $0.24 per unit, respectively, a 23.1% and 7.8% increase, respectively, from the Q3 of 2021. Same community occupancy of 82.2% increased by 1.1% as of September 30 versus September 30 of 2021. As Nathan mentioned, we believe this increase speaks to the merits of MHCs in the current economic environment and our ability to optimize our existing portfolio. Rent collections for the Q3 were 98.2%, which demonstrates the strength and predictability of the MHC sector and was within our expectations. As at September 30, our total lot occupancy was 83.1%, and our average monthly lot rent was $385. Both of these metrics were within our expectations.
We ended the quarter with total cash and cash equivalents of $4.8 million, with $4 million available on our operating line of credit. The REIT also has 20 unencumbered assets with a value of approximately $50 million. We remain committed to preserving a conservative debt profile. Our weighted average mortgage term to maturity is 11.7 years, with our first maturity due in 5.5 years, and our weighted average mortgage interest rate was 3.68% as at the end of the quarter. Both of these metrics are especially rare for companies that operate in the real estate sector. With that, I'll now turn it back over to Kurt for some final remarks. Kurt?
Thanks, Eddie. We just reached our two-year anniversary as a public REIT, and we've been pleased with our operating and financial performance since that time. Our solid progress since going public gave us the confidence to announce two increases in our monthly cash distribution to unitholders. These decisions were also indicative of our positive outlook on the MHC industry. We believe we will continue to be poised for growth as housing prices, high monthly rental rates, and mortgage rates increases have potential to lead more people toward manufactured housing, which is a very cost-effective pathway to homeownership. Manufactured homes offer a better living experience compared to other options. These homes are detached structures that do not share walls, utilities, air conditioning, or heating with any other homes. Our customers typically enjoy two, three, and four-bedroom homes, typically with two bathrooms.
These homes also have a deck, a yard, a driveway, in-home laundry facilities, all for less than the cost of renting an apartment. Our MHCs also typically include recreational amenities and common areas, including clubhouses, green spaces, playgrounds, basketball courts, soccer fields, fishing lakes, and after-school programming.
We are one of the Midwest region's largest MHC operators, and we are the only pure play manufactured housing investment in the Canadian capital markets. Our REIT offers investors an opportunity to participate in a niche and stable market with significant growth potential. We certainly thank you for your time today, and now I'll open the line for questions.
Thank you, sir. Ladies and gentlemen, we will now begin the question and answer session. If you would like to ask a question, please press star followed by one on your telephone keypad. If your question has been answered and you would like to withdraw, please press star followed by two. If you are using a speakerphone, please lift the handset before entering any keys. One moment for your first question. Your first question will come from Brad Sturges of Raymond James. Please go ahead.
Hi, good morning, guys.
Morning, Brad.
Just wanted to touch on, you know, what you're seeing in the acquisition market right now. You do have a little bit of balance sheet capacity, I guess, if you wanted to do some smaller transactions. Just curious to see how you're thinking about using that capacity today and what the opportunities might be.
Nathan, do you want to grab this?
Sure. We are seeing opportunities in acquisitions. Obviously we did 2 this past quarter, and we hope to do some coming forward. You know, we do have some opportunities ahead of us, and so we feel very comfortable. You know, everybody's asking, you know, when the cap rate is going to move. Right now we're still seeing it stay pretty stable. You know, it will. We'll see where it goes in the future.
Brad, just to follow up on your question about balance sheet capacity. You know, as we've talked, we do have still about $50 million of uncovered assets that we have the ability to go out and do some leverage on to be able to do acquisitions. We certainly have some balance sheet capacity without needing to come to the market at this point to do, you know, to do some acquisitions.
Is the current interest rate environment shaking loose more opportunities than what you might have seen up earlier in the year? Or has it been a pretty consistent deal flow?
I don't think that the current interest rate has taken hold in the MH sector where people you know, my guess is it'll be next year before those have loans coming due. There is a lot of people out there that have floating rate debt, that they underwrote these properties at a 3% and 4% interest rate, and now they're at 7% or more. We'll see how long that will take them. That's one of the reasons why the three of us have been so diligent in trying to get our interest rate locked in over the past two years, which we have succeeded. It makes us. We're looking very good compared. Well, we're looking very good.
Other people, I'm hearing that there will be some stressors in 2023.
You would expect next year you might see some, maybe some larger portfolios hit the market, available for
Yeah. I think you're more likely to see some of this private equity sell off certain markets. Like, you know, they're like, they have one in, let's make it up, Little Rock. They would just say, "I'm getting out of that one in Little Rock and paying down my debt and taking my gain and moving forward," and trying to you know reposition their community where they have for the last probably three or four years just been buying anywhere, everywhere with no rhyme and reason to it. And then they will find that difficult to manage in this kind of environment that we're in. I think they'll turn around, and they'll start selling some of that to consolidate to their portfolios.
Okay, thanks. I'll turn it back.
Thanks, Brad.
Your next question comes from Kyle Stanley of Desjardins. Please go ahead.
Thanks. Morning, guys.
Morning, Kyle.
Hi, Kyle.
Would you be able to disclose what same property AMR was and maybe how that compared quarter-over-quarter and quarter-over-quarter, if you have that on hand?
Yeah. The same property is going to be. I don't have the exact number in front of me, but the percentage quarter-over-quarter is almost identical to the total portfolio. Look at it comparative to the total portfolio. It's almost the same percentage increase quarter-over-quarter.
Okay, great. Thanks for that. There was a very small sequential decline in occupancy from the Q2. Was that related to the acquisitions that were completed?
Yeah, it was. The acquisitions that we completed in the core markets there in Northern Kentucky, those acquisitions. It was a relatively large acquisition, you know, 300+ lots, and it had 70% total occupancy between the two, and that's what really had the effect on the occupancy.
Okay. I think we've talked about this in the past, just, you know, some elements of seasonality in your business. If we look at, you know, your NOI margin in the Q4 of last year, I believe that's when it peaked. Just wondering if you could just remind us of the seasonality and should we expect, maybe, you know, the strongest margin of the year in the Q4 again?
Yeah. The seasonality for us really comes around, obviously, the summer months, right? The spring and summer when the grass is growing the most and we're bringing in temporary labor to, you know, cut the grass. We're bringing in folks who, you know, contractors to do the work to help cut the grass. This year additionally, we kind of had a little additional stressor, which was some significant storm damage to some of the trees in the communities. Those are very expensive to have those trees cut down and removed. That was actually a relatively large number in the Q3.
You know, most of it's gonna be around those maintenance type items, whether it be grass cutting, tree maintenance, and even just general outside maintenance in the community. Those are the summer months when we're able to get that work done, spring and summer. You know, you would expect to see Q2, Q3 potentially a little lower. Q4 will all depend on the weather events, really. As we think about Q4 in our markets, most of the time, we don't see snow. When we have to start doing snow kind of street maintenance for snow, that can hurt margins a little bit.
To the extent that we have weather with us in the Q4, that would traditionally, I would think, is where you would see the higher margins.
Okay, perfect. Just one last one for me. There was some mention in your disclosure about a small dip in rent collections. Is there anything to read into there? Is that reflective of the economy or just, you know, transitional?
I'll take that one. At the end of the day, it's really just some COVID programs ending. That wasn't significant. What's interesting is in some of our markets, COVID support has absolutely ended, which is actually a healthy thing, not a bad thing. For example, in the state of Indiana, the COVID programs actually stopped and then restarted again. It's a little sporadic, but we don't consider it a big risk factor. It's just return to some normalization.
Okay, perfect. That's it for me. I'll turn it back, guys. Thanks.
Sure.
Ladies and gentlemen, once again, if you would like to ask a question, please press star one at this time. Your next question will come from Himanshu Gupta of Scotiabank. Please go ahead.
Thank you and good morning.
Good morning, Himanshu.
Good morning. Just on the distribution increase, 5% distribution increase announced. Just wondering, do you have a target AFFO payout ratio in mind? Or is that, you know, a reflection of your expectation of AFFO growth next year?
I don't know that we have a target in mind at this point, Himanshu. I think our entire commitment is that we think we can have a distribution increase annually. We're gonna be very conservative about that. The number may fluctuate on a payout ratio perspective, but I'm comfortable with the 5% range. You know, we did it last year about the same time and, you know, it's when the coast is clear and you can see the short-term foreseeable future.
Fair enough. Then, you know, continuing with the kind of outlook question there. Same community NOI growth was very strong this year. How should we think about like 2023? Like, in the same kind of indication, like 4%-5% rent growth and some occupancy gains there?
Yeah. I think our guidance really hasn't changed, you know, which is, you know, 2%-3% occupancy growth. It's coming in a little tighter in the occupancy, and we're getting a little more on lot rent. You know, those moments are gonna happen from time to time. You know, Nathan and I have lived through these types of recessionary periods before. Typically, we're having customers because the alternative housing sources are having such inflationary pressures. First it was the price of the home, now it's mortgage rates going up, and rent and apartment rents have gone up as well. And while some of those have come down a little bit, we haven't actually seen it come down in the apartments that are coming to us. Those are still up, you know, 30% over the last two years.
At the end of the day, we look at it and we know more customers are coming our way. I think that's what we see in the foreseeable future. I think, you know, we'll be in a really good spot, and that's historically where we've been during, you know, these negative cycles, more people come towards us.
Got it. Continued consistent rent growth and occupancy gains.
Mm-hmm.
-uh, with the-
Yeah.
Without a recession next year. Okay. You know, obviously, you know, Kurt, you mentioned you and Nathan have gone through recessionary periods there. I mean, you have gone through debt cycles also. So-
Yeah.
How is the availability of debt, you know, today or expected next year? Do you think any cutback from regional banks or even Freddie or, you know, Fannie, making less debt available for the asset class? Anything you are hearing or expecting?
No. I think what's fascinating about it, again, and I said this before, is that all recessions are not equal, right? They all act a little differently. You know, back during the financial crisis, the problem was you couldn't get a loan, right? I mean, at one point, the CMBS market was tied down. Right now, the debt markets are fully open. You may not like the interest rate, but they're open. At the end of the day, we haven't seen any restriction on availability of debt, but what we have seen is, you know, spreads move out, and we're just real thankful that we locked our interest rates in. You know, we've got a lot of 20-year and even some 30-year fixed rate debt.
We're real pleased with where we're at, and we kinda hope that it's an opportunity for us. You know, if you've got debt maturing, you know, at 4%, you might be trying to renew that at 6%. You might just make the decision that those one-off operators might make a decision to actually sell.
Got it. You actually make a good point. The debt market is fully open, although the cost of debt has moved out. Is that the reason why, you know, Nathan said that cap rates haven't moved because the debt market is open and market is still able to absorb higher cost of debt? I mean, is that why the valuation is holding so far?
It's certainly a factor. Again, if the debt markets weren't open, then you're gonna have, you know, a little bit of chaos. The truth of it is, you know, our segment of real estate has got very little supply, so we spend our time trying to source, and Nathan spends a lot of his time sourcing. It takes years to actually source a deal. I think what you may see is that there's a bifurcation in the market where these institutional-grade assets or the stable assets, no, we're not seeing any cap rate expansion there. Matter of fact, we actually have data that actually shows that portfolios are trading basically the same when it comes to institutional portfolio. You may see some bifurcation when the smaller destabilized assets are hitting the market.
Those might have cap rate expansion. Again, it's kinda. I'll kinda say that isn't that a return to normal? They shouldn't have been priced at the same cap rate as some of the other ones, which is what we've seen in the last couple years. I think you're gonna see that bifurcation, and I think it's kinda healthy when you see it. At the end of the day, we don't think, you know, institutional money have actually come down or gone up.
All right. That's a good point there. My last question is around, you know, some commentary around private equity, and they might react to variable cost of debt. Just wondering, is private equity even active in your Midwest area? Or do you think, you know, private equity have been more aggressive and active on the coastal, you know, the Floridas and Californias of the world? Or do you-
Yes.
Do you run into private equity in a lot in Midwest as well?
Nathan, you wanna tackle that one?
Yeah. I would say now after Hurricane Ian that they're thinking about the Florida and the coastal properties much different. You know, the ability to buy insurance especially loss of rent income insurance is going to very destabilize those assets on the coast if you are a private equity and you need those kind of things. Quite frankly if you're going to CMBS market or Fannie Mae Freddie Mac or Life Co they're going to ask you to have a loss of rent income and right now it's just simply not available. I'm hearing that a lot. Private equity you know they're definitely as we would say cooled their jets.
They have been out there for a while, and I think they're just, like, looking at this going, "Oh, this isn't as easy as we thought it was.
Yeah.
Because, you know, the thing, the problem they have is they refuse to do any long-term debt like we've locked it in with Life Cos or CMBS. They won't do that. I mean, they do almost always a balance sheet debt.
Got it.
That's really taken a hit to them.
That's good color, Nathan. Thank you, guys. I'll turn it back.
Thank you.
Your next question comes from David Crystal of Echelon Capital Markets. Please go ahead.
Hey, thanks. Good morning, guys. Eddie-
Good morning, David.
Just a quick clarification on the unencumbered asset base. Did you say $50 million or $15 million?
50. Without a 0.
50. Okay. Thought so. How comfortable are you taking up leverage from here in terms of, you know, I think you've articulated a 45%-55% debt to GBV. At the moment, you're, you know, well below the lower bound of that. You know, for the right opportunity, how high would you go? Would you stretch to that 55%?
I don't think so, David. I mean, we've stuck with the mantra that is when debt comes, it's certainly less debt is more. 45%-55% is the range that we've given. I think our position at this point is we wanna keep a four handle on our leverage. You may see us stretch it up some. If you remember, we were at 49.8% at IPO. I don't foresee us going any higher than that, really. I mean, it would have to be an absolute perfect deal that would drive anything beyond that.
In that vein of kind of finding that perfect deal, you know, I think you're kinda stuck with the same debt, same new debt terms as any of your peers would be on refinancing. You know, what kind of investment spread are you looking for? Would you really be looking for a very distressed counterparty, where you might get, you know, below market pricing on the asset acquisition? In terms of timing, like, I think you mentioned that 2023 would likely surface better opportunities, but how should we look at modeling future acquisitions?
I'll jump on this one, Eddie. At the end of the day, you know, we take the opportunities that the market gives us, and we're real mindful to not take on too much value add simultaneously. We're also very mindful to not take on what I would call deep value adds, too much of that as well. Because that could. Too much value add is just like development. You have to be mindful not to do that. I think you'll see us see some, you know, modest value add at a decent cap rate. Like I said, I think there's gonna be a bifurcation there.
I think you'll still see those really stable assets in pretty much in the same wheelhouse we've got before. We were buying in the you know basically five, six, seven caps and you'll see that, and they'll be nice, stable assets. There are still gonna be people that need to trade, and it's not gonna have to do anything to do with the recession or debt maturity. There's still somebody that wants to retire. There's still somebody that their kids don't wanna hold the asset anymore. You know those deals you know while they are few and far between, they still happen.
Fair. Just quickly on the chattel lending. I know I think in previous quarters, rates hadn't really moved up. Has there been any change on financing costs for these homes?
Yes, they've gone up. The interesting moment is that, you know, our rates have moved up from the 9% to basically 10% on chattel loans, so about a point. Now you say, "Oh my gosh, that's the end of the world." Well, it's actually something to be mindful of. But at the end of the day, the mortgage rates on the competing projects, competing housing products, you know, they moved from basically 3% to 7%. You just look at it and say, "What does that mean?" Again, more people are being pushed towards us, is what it means. I do think you might sell, and Nathan could chime in. I think you might see more single wide sales than double wide sales or multi-sectional. Nathan, do you wanna chime in?
Yeah. Yeah, yeah. I think you. That's what normally happens here in this, right? What we have seen is from pre-COVID to the peak of COVID, the price of the house, you know, escalated quite a bit, and we're starting to see it start to come down. As I had talked about last year that when they were talking about the supply chain of how to get a home, that we weren't having a problem because there really wasn't that big of a problem. What was really happening is people were in the manufactured housing industry buying too many homes that they didn't need and or they couldn't sell, they wouldn't turn in them quick enough, and they might have overbought.
You're gonna see some pressures on those people to finally flush that inventory out in the Q4 and the Q1 of 2023. You know, the houses are gonna have to come down some because we're gonna need to match what the people can afford, and we're doing that every day right now.
Okay, great. Thanks, guys. I'll turn it back.
Thanks, David.
There are no other questions at this time, so I will turn the conference back to Kurt Keeney for any closing remarks.
Thank you, operator, and thank you, everyone for participating. Please feel free to reach out to our investor relations team at ir@flagshipcommunities.com if you have any further questions.
Ladies and gentlemen, this does conclude your conference call for this morning. We would like to thank you all for participating and ask you to please disconnect your lines.