Hilltop Holdings Inc (HTH) 2005 Q3 法說會逐字稿

Good afternoon, ladies and gentlemen. Welcome to the Affordable Residential Communities, Inc. Third Quarter 2005 Earnings Conference Call.

[Operator Instructions].

At this time, I would like to turn the call over to Mr. Brad Cohen of Integrated Corporate Relations. Please go ahead, sir.

Thank you very much. At this time, management would like to inform you that certain statements made during the conference call, which are not historical facts, may be deemed forward-looking statements with the meaning of Section 27A of the Securities Act of 1933 and Sections 21E of the Securities and Exchange Act of 1934, as amended by the Private Securities Litigation Reform Act of 1995.

Although the Company believes that expectations reflected in any forward-looking statements are based on reasonable assumptions, they are subject to various risks and uncertainties. The Company can provide no assurance that expectations will be achieved, and actual results may vary. Factors and risks that could cause actual results to differ materially from expectations are detailed in today's press release and from time to time in the Company's periodic filings with the SEC. The Company undertakes no obligation to advise or update any forward-looking statements reflected in, or circumstances after the date of this release.

Having said that, I would like to yield the floor to Mr. Larry Kreider, Chief Financial Officer. Larry?

Thank you, Brad. On the call with me today are Larry Willard, our Chief Executive Officer and Scott Gazelle, our General Counsel. I refer everyone to our earnings release and supplemental data package that we issued today. This afternoon I will focus on providing some color on our financial results for the third quarter with respect to our income statement and balance sheet, and then turn the call over to Larry Willard for some broader comments on our company.

The results for the third quarter are detailed in the financial tables at the end of the release, and in our 10-Q, which was filed today. As is customary for us, we have provided some expanded financial information in our supplemental package, which is available on our website at www.aboutarc.com. All of our financial results and operating data for all time periods have been recast to reflect our decision, in the third quarter, to sell 79 additional communities, as we announced in September. In September, our Board authorized us to sell 79 communities, and we undertook plans to sell up to 71 of them in an auction format, using the company that previously conducted the sale of our communities in 2004.

We expect to sell the remaining communities in private party transactions or through brokers. We expect the auction to take place in December 2005, and all closings to occur in 2006. Consequently, the results of operations of these communities to be sold are reflected in discontinued operations and their balances reflected in assets held for sale and liabilities related to assets held for sale.

Turning to our results, our net loss in FFO in the third quarter of 2005 included non-cash charges net of related minority interest of $100.1 million or $2.45 per share associated with the discontinuance of 79 communities held for sale, and the impairment of goodwill. In connection with the community sales, the Company recorded a non-cash charge of $34.8 million during the third quarter of 2005, in accordance with SFAS number 144, accounting for the impairment or disposal of long-lived assets, related to the communities in which the Company expects to incur a loss.

We will record gains, if any, when the individual community sales transactions close in 2006. We cannot provide any assurance, of course, that these sales will occur or that we will, in fact, realize any such gains. We also recorded a $69.8 million charge to write off all of our remaining goodwill in the third quarter of 2005 in accordance with the provisions of SFAS number 142, goodwill and other intangible assets. We recorded this charge based on the decrease in the market value of the Company's common and preferred equity interests.

In accordance with SFAS number 144, the Company previously allocated $15.5 million of goodwill to the 79 discontinued communities included in assets held for sale. Overall, the third quarter results, relative to the second quarter, reflect stable results in our communities segment, higher losses in our retail home sales segment and comparable results in our finance and insurance segment. Communities net segment income reflects higher rental income due to occupancy improvements, offset by higher expenses, primarily for utility costs, including rate increases not offset by recoveries from residents and seasonal repairs and maintenance.

Net occupancy increased by 457 residents during the third quarter of 2005, to overall occupancy of 87.5% from 86.3% in the second quarter on a recasted basis. Including all of the discontinued properties that we will continue to operate through the closing of the expected sales in 2006, our overall occupancy was 85.4% in the third quarter, compared to 84.5% in the second quarter. The resident increases in the third quarter reflect a greater home renter resident base under our lease with option to purchase programs, lower move-ins of residents bringing with them their own homes, and lower incidents of finance companies removing repossessed homes. Also, home renter aggregate rental rates increased slightly in the quarter and homeowner ground lease rates remain steady. The occupancy gains were broad-based, as we experienced gains in nine of our top ten markets.

We also wish to point out that the occupancy percentage increases in the third quarter, reflects the removal of 157 home sites or 0.3% of occupancy that we no longer consider economically available for rent. As we disclosed last quarter, we removed 578 such home sites on a recasted basis or 1% of occupancy from our home site count in the second quarter. The retail net segment loss increase reflects lower sales volume, gross margin losses and higher operating expenses. The gross margin losses include lower margins on the home product itself and higher commissions.

Our main focus, at present, is to control costs, enhance community revenue sources and make profitable retail transactions. In this regard, the Company has recently taken steps to modify our marketing programs by adjusting pricing, lowering commissions and reducing sales headcount. We have also recently lowered the number of home purchases from the levels we incurred in the third quarter when we bought 1,426 homes, up from 1,200 homes in the second quarter.

We had an excess of 1,100 homes available for sale or lease at the end of the third quarter. However, while we do not provide guidance -- I should remind you here that there is a fair amount of seasonality in our business, in that the fourth and first quarters have historically been the slowest time of year for selling homes and generating new residents. This is mainly due to holidays, limiting the number of selling days, weather, and parents wanting their children to remain in the school that they just started.

The finance and insurance segment results remain steady, reflecting higher interest income from increasing consumer loans, offset by a full quarter of borrowings under our consumer finance line of credit and a full provision for loan losses. Our third quarter results also reflect higher interest expense from the August issuance of our 7.5% senior exchangeable notes, higher aggregate borrowings against homes under our lease receivables line of credit and floor plan lines of credit, and higher interest rates applicable to all our variable rate debt net of our swap.

G&A costs increased over the second quarter as a result of the cost of terminating an employment agreement. At this point, on a preliminary basis, we expect to incur a charge of approximately $1.1 million or $0.03 per diluted share in the fourth quarter 2005 related to a reduction in employees and a separation of John Sprengle, one of our ex-cofounders.

Turning to the dividend for the third quarter of 2005, the Board of Directors declared a dividend of 51.5625 cents on each share of our series A cumulative redeemable preferred stock, and eliminated the dividend on the common stock and operating partnership units. The Board will review the payment of dividends on a quarterly basis.

Turning to the balance sheet, a detail of our outstanding debt at the end of September 2005 is listed in our 10-Q filing and supplemental package, but our total debt is 1.1 billion. Our ability to service our debt remains quite manageable with 89% of the Company's debt not due until 2008 or later, assuming our senior variable rate debt due in 2006 is extended in accordance with the terms of the current debt agreement.

Our proportion of fixed rate debt was approximately 82% of total debt, including the impact of the Company's interest rate swaps. The impact of the interest rate swaps accounts for 10% of the 82%. As previously announced, the Company will likely seek to partially reduce our total debt outstanding with a portion of the proceeds from the sales of our community assets.

With that said, let me turn the call to our recently appointed CEO, Larry Willard.

Thank you, Larry. As this is my first visit with many of you, let me share with you a little about my background, where I think we, as a company, are today and provide some insight to where I think we are headed. I began my banking career in 1961. I have spent 43 years in various levels of management in the operations and lending side of the banking business. Up till December, 2004, which I spent 10 years, I served as Regional President for Wells Fargo Bank, responsible for New Mexico and various parts of Texas, which included 1800 employees and around $7 billion in assets.

Since December, 2004, I've served as Chairman of the Board of Wells Fargo Bank, New Mexico. In July, I came on the Board of Directors of ARC and served as the Audit Committee Chairman. I've been in the position of CEO for approximately six weeks. For just this reason, my comments today will focus on the future rather than the past, although I want to reiterate that it is not my plan or intent to provide guidance. I believe my experience, for over 20 years, of identifying, purchasing, repositioning and returning struggling or broken bank companies and their branches to profitability is, in many ways, analogous to the situation we are today at ARC. This experience and understanding, while not directly correlated to the manufacturing housing industry, is going to be quite beneficial as we work to improve this company's cash flow and profitability.

From a business strategy standpoint, we are in the process of evaluating the entire operations and budgets of the Company, while putting together a roadmap that will enable this company to attain more profitable operations. We understand that this will take time, and it will be an evolutionary process, not one that will change overnight. We have a plan, which includes the sale of some 79 properties, and at this time, we're going forward with the sale.

As we look at the Company, some properties have a market value in excess of our return expectations, and some do not fit in our overall economic footprint. As previously announced, we have retained Sheldon Good & Company to auction up to 71 communities. Sheldon Good has handled auctions for us in the past, generating solid results on our behalf, as shown by the approximate 7.5% average cap rate achieved in the last auction they conducted for us in December, 2004. As our financial statements show, our overall operation lost money this quarter, even after adding back the non-cash accounting charges associated with the planned sale of the 79 communities, and the write-off of all of our goodwill.

But our balance sheet continues to be solid. When you analyze the results, the gross operating profit and our retail sales and consumer finance segments are challenged, but our core community segment is performing well. Our administrative expense structure is inconsistent with the anticipated reduced number of owned communities we will have following the sale of the 79 communities. And we expect to address this issue in due course.

We do believe the core business, when operated efficiently, can provide significant cash flow. While it is early to talk definitively about those plans, and in light of the fact that a sale of up to 79 of our communities has not taken place, let me give you some insight into some of the current areas of focus. First, we're engaged in a detailed, bottoms-up budgeting process that will focus on operating effectiveness at the local community level. Our primary goals are first, to review, to reassess expense levels and income opportunities and second, identify opportunities for profitable growth with the liquidity we expect to attain from the community sales when consummated.

To this end, we have initially focused on rent levels and control and recovery of utility costs and other operating expenses. Second, we have made a determination to focus on profitable marketing programs in the sale and leasing of homes. As a result, we have implemented procedures to increase the pricing of our home and leasing transactions, while keeping their affordable levels as compared to the market. Our primary tools remain -- our rental home program, including our lease with option to purchase program, our for-sale inventory and our consumer finance program.

We have also taken steps to downsize the sales and marketing organizations. We expect to operate our sales and marketing initiatives more fully within our community operations utilizing the training achieved to date. Our focus is to utilize our community managers and sales staff to make cash sales of vacant, used homes, used rental homes coming off lease and newly purchased repossessions, home leases with options to purchase and standard home leases.

Supported by our inspired finance subsidiary, we are focusing on providing financing to new residents and the sale of new and used homes. We are also working with other retail sellers to help steer their sales into our communities. Third, we have made a determination that we must align our expense structure to one that fits a downsized company once our discontinued communities have been sold. We will address this in due course while continuing to ensure we maintain effective controls over the business.

Lastly, the proceeds from the sale of 79 communities should allow us to partially reduce our debt load and reduce interest expense in a meaningful way. Any excess funds may allow us to purchase homes for sale or lease as demand warrants and further improve operating performance. In summary, although it is ultimately critical to our success to grow occupancy, occupancy growth on its own, without an infrastructure properly aligned, will not be successful. Following our thorough community by community budgeting process, we will turn our attention to refining and identifying revenue and expense opportunities.

These may include adjusting selling prices of new and used homes, enabling us to be more profitable and add occupancy without eroding NOI margins, improving utility recoveries and expenses and increasing, where appropriate, ground lease rates. We will also seek to align our general and property management expense levels at the right time.

In the short time I've been with the Company and associated with our industry, I believe that we can provide a clean, attractive and affordable place for our residents to live that is competitive with other forms of housing, provides real value and service to our residents and generates returns for our investors.

To that end, we expect that our business plan will continue to focus on providing affordability and value in our communities and in our homes. In the coming quarters, I will provide you with details of the results of our activities.

Before I take questions, let me first take a moment to thank John Sprengle for his contributions to the Company and his help in my transition from Board member to company management. As we stated in the 8-K filing, John will be assisting us through the end of the month. In anticipation of questions regarding Scott Jackson, as we stated in our September 21st release, Scott's role is now as the Company's Vice Chairman. He continues to be actively involved in overseeing the planned sale of the 79 communities.

Also, we would like to thank Eugene Mercy, Jr., who recently announced his retirement from the Board, for his contributions to the Company. Lastly, we have recently added Charles Cummings to our Board, and he will also serve as the Chairman of our Audit Committee.

In closing, we know we must continue to be deliberate and diligent in our approach, and be willing to make changes as required if we are to be successful in getting this company to profitable levels.

I thank all of you for being here today. We would now like to take questions that any of you might have. Operator, please queue up the participants for questions.

Thank you, sir.

[Operator Instructions].

Paul Adornato, Harris Nesbitt.

Thanks. My question relates to the home sales business, a business that you have admitted is a tough one. You said that perhaps you might take some of the proceeds from the property sales and redeploy it into the home sales business, perhaps buying some more properties for your own accounts. I was wondering if you could give us an overview of the challenges facing that business and what you think you need to do in order to make it an effective part of your business going forward?

What we have found, as I've visited now about 100 of our communities, is that there is still room in most markets to increase our prices and still be competitive. And our community managers are well trained in sales, allowing us to cut back on our sales force, which we indicated in our comments. So, instead of trying to put a home in every space, it's really to evaluate our markets where we can go and get our markup. And we do believe there are plenty of markets where we can do that.

Okay. And just as a follow-up to the home sales, you mentioned that 71 are being sold through auction, yet there are 79 up for sale. You mentioned that the other 8, I think in the press release, are going to be sold separately. What is the difference between those groups of properties?

The other communities are what we call higher invest use communities and that we feel they have value in the marketplace over and beyond an operating value. So, we're listing those individually, rather than put them in the auction.

Okay. Thank you very much.

We'll take our next question from Jordan Sadler, Citigroup.

Hi. It's Craig Nulcher (ph) here with Jordan. My question is on the asset sales. On the books it said they were for $280 million, the net value. I was just wondering how that breaks out between the 71 they're going to sell through the auction versus the 8 being separate?

This is Larry Kreider. I wouldn't think it would be proportionate pretty much.

Okay. And second, have you reviewed the remaining portfolio, as far as impairments go, and if not, when would you expect to do that?

Well, we do review it in detail in the fourth quarter of each year, but we do review for any indications of impairment each quarter and we have no indications of impairment in the remaining portfolio at this point.

Just a follow-up on the $280 million of assets that are held for sale -- breaks out to roughly $20,000 per site. How did you come up with that value as sort of a value that you wrote these things down to?

We looked at each property, property by property. We looked at the expected sales proceeds. We compared it to the individual cost. (inaudible - cross talk) --

...But that has nothing to do with, let's say, the initial bid price on any of these things that these things are going up for auction for. There's no bridge, really, to that. They're just expected value you think they're going to garner?

That's correct.

Thank you.

[Operator Instructions].

William Atcheson (ph), Merrill Lynch.

I wanted to ask a question on the property operating expenses. A lot of companies have been having higher costs in utilities and all that. Your property expense margin, sequential quarter, just for discontinued ops, went up from 37% to 40.5%. Is that the number that we should be looking at going forward, 40.5% of revenues?

Well, we don't provide guidance, Bill, as you know, so I think we would just decline to answer that question on that basis.

Okay. Then I won't count that as one of my questions. How about, in G&A there was a reserve for severance, etc. What was the exact number in the third quarter?

The reserve for severance in the quarter was $1 million.

$1 million. And then on the lower home sale margins, what caused that? Was it more older homes, less new homes --?

Well, as I said in my piece, it was from lower margins on the home itself, and it was from higher commission costs.

We do have a follow-up question from Paul Adornato at Harris Nesbitt.

Larry Kreider, I was wondering if you could just run through the satisfaction of covenants, especially considering the asset sales as the balance sheet, perhaps, changes?

Well we, of course, comply with all covenants at the present time comfortably, and we think that the sale of the assets will only enhance that coverage.

Okay, thank you.

And we'll return to Jordan Sadler at Citigroup.

Thank you. I guess my first question just comes back to Larry Willard. Larry, could you maybe give us a sense -- I know you were only doing this for six weeks or so, as you mentioned -- what work have you done to assess the viability of the business overall? And do you have a sense for, let's say, when repossessions might moderate, how many people or residents left in your tenant base, are under water in their homes or anything like that? Are you doing any work that you could sort of give us some sort of parameters as to what you're looking at?

Yes. As I said earlier, I've been in over 100 of our communities in the last five weeks, and my plan is to -- ultimately is to virtually visit all the communities in the next few months. I've found, number one, our overall team to be very good. We're currently working on our 2006 budgets and we'll have an individual plan for each of our communities.

Looking at space rental pricing, collections, utility recapture, studying individual markets for sale or opportunities of new and used product, pricing of that product and more of a rifling approach to our marketing instead of the shotgun approach we've had in the past, right sizing of structure with a more push-down to a regional level attitude, and a focus on repair and maintenance and CapEx expenditures. We will monitor the area you're talking about very heavily as things move through the pipeline.

Do you think -- would the pace of, I guess, activity, and you break it out nicely in the table, for move-outs and move-ins, as it relates to the different levers that you guys have, repos versus rentals, lease to purchases and sales, was the activity reflected in the third quarter more reflective of, let's say, the old regime versus the new, and we should expect, based on the changes that you're making, things should change substantially? Meaning, will sales slow substantially, because you laid up 150 in the sales organization?

I think it's really early to say what that is going to yield. Obviously, our hope would be positive.

You think it could go up actually, the pace?

It's just early to know, I think.

And Jordan, we also are involved right now in a very detailed, bottoms-up budgeting process, and we'll know a lot more at the completion of that process.

Do you have any sort of comment, maybe, on the repossessions and what you're seeing there? Did that (inaudible) at all?

Well, I could just refer you to our supplemental, where we show, sequentially, a pretty substantial decline for the last four quarters, from the fourth quarter through this quarter. I think the rate has gone from an excess of 700 in the fourth quarter of last year down to a little over 300 in this quarter.

[Operator Instructions].

We'll go to Craig Leupold at Green Street Advisors.

Larry, can you provide for any kind of rough estimate, in terms of the gross proceeds that you expect from the sale of the 79 communities? And also, if you could comment, as part of that, on the costs of the transaction process?

This is Larry Kreider. I think we can't comment on the gross proceeds that we expect to obtain.

Okay. How about in terms of the cost?

I think the -- well, the costs are not disclosed, but I think they're typical and customary in this kind of transaction.

Given that we haven't seen many transactions like this, could you maybe give us a sense as to what customary might mean?

No, I can't.

Okay. And then, I guess for Larry Willard, you mentioned greater focus in terms of margins on the home sale business. Any change in strategy that you perceive as it pertains to the rental home program? Obviously, the program has continued to grow at a clip of, it looks like about 20 to $30 million a quarter. Do you anticipate continuing to grow the rental home business or, do you start to give up maybe some occupancy at some point if you don't think it's a profitable business?

Well, I think, which -- we've both talked about the process we're currently going through, and as we speak we currently are. We've got people in a room working on it right now, and that's where I will go as soon as I get off this call. But we're really looking at what each market gives us.

What I've found -- you go out there and you say, Larry, these are all the same. But the reality of it, they each have their own personality, each have their own economy and they each have their own personality. And I think, in that community study, one at a time we will ascertain what that market give us, and then what our plan will be as it relates to this array of menus, that being one of them, and the net results to do the best we can with that particular property.

Okay. And then one last question for Larry Kreider. You mentioned in the text that there was -- it looked like a decrease in occupancy related to the loss of 157 lots (ph). Is that -- am I reading that right?

It's a decrease in the total number of home sites that we consider economically viable.

Okay. So, that would actually have the impact of increasing occupancy.

That's correct. It has an effect on the denominature (ph).

Okay. Thank you.

[Operator Instructions].

And we'll return to Jordan Sadler at Citigroup.

Sorry, guys. I just had one more. What is the current cash on the balance sheet?

I think if you look at the balance sheet, it's around 50 million. I believe that's in the press release and in the 10-Q --

...That's at quarter-end, right, Larry?

Quarter-end, yes.

What is current cash on hand?

Oh, no, we can't -- I'll give you the amount at September 30.

Okay. You can't give me a sense of direction at this point?

No.

Okay, thank you.

And gentlemen, there appear to be no further questions. I'd like to turn the call back over to you for any additional or closing comments.

This is Larry Willard. I'd like to thank all of you for participating today. Obviously, we're interested in our investors and their future in this organization. And I pledge to you, we're going to do the very best we can to make it a good investment for you. Thank all of you for spending your time today on this call.

And this does conclude today's conference call. Thank you for your participation. You may disconnect at this time.