CA - American Hotel Income Properties REIT LP (AHOTF) Q2 2023 Earnings Call Transcript
2023-08-09 16:00:26 ET
American Hotel Income Properties REIT LP (AHOTF)
Q2 2023 Results Conference Call
August 09, 2023 01:00 PM ET
Company Participants
Jonathan Korol - Chief Executive Officer
Bruce Pittet - Chief Operating Officer
Travis Beatty - Chief Financial Officer
Conference Call Participants
Frank Lee - BMO Capitals
Tom Callahan - RBC
Tal Woolley - National Bank Financial
Presentation
Operator
Good morning. And welcome to American Hotel Income Properties REIT LP’s Second Quarter Results Conference Call. At this time, all participants are in listen-mode. Following the formal remarks, there will be a question-and-answer session for analysts only. Instructions will be provided at that time for you to queue up for your questions.
Before we begin the call, AHIP would like to remind listeners that the following discussion will include forward-looking information within the meaning of the applicable Canadian securities laws, which forward-looking information is qualified by this statement.
Comments that are not a statement of fact, including projections of future earnings, revenue, income and FFO are considered forward-looking and are based on certain assumptions and involve various risks and uncertainties.
Risks and uncertainties that if realized and assumptions that if false could cause AHIP’s actual financial and operating results to differ significantly from forward-looking information discussed today are detailed in AHIP’s public filings, which are available on AHIP’s website at ahipreit.com, as well as on SEDAR.
Participants on this call should not place undue reliance on such information, which is provided based on management’s expectations and assumptions as of the date of this call. AHIP does not undertake any obligation to publicly update such information to reflect subsequent events or circumstances, except as required by law.
On this call, AHIP will discuss certain non-IFRS financial measures. For the definition of these non-IFRS financial measures, the most directly comparable IFRS financial measure and a reconciliation between the two, please refer to the MD&A.
References to prior year operating results are comparisons of AHIP’s portfolio of 70 properties results in the period versus the same period properties results today. First quarter and second quarter 2023 occupancy, ADR and RevPAR figures referenced exclude the residence in Neptune and Courtyard Wall in New Jersey as these two hotels were not available due to renovation post the weather-related damage in late December 2022. All figures discussed on today's call are in U.S. dollars unless otherwise indicated. A replay of this call will be available on AHIP's website.
Discussing AHIP performance today are Jonathan Korol, Chief Executive Officer; Bruce Pittet, Chief Operating Officer; and Travis Beatty, Chief Financial Officer.
I will now turn the call over to Jonathan Korol, Chief Executive Officer. Please go ahead.
Jonathan Korol
Thank you, operator, and thanks everyone for joining us today for our second quarter financial results conference call. Top-line performance at our 70 property select service hotel portfolio continued to improve this quarter, with revenue growing by 5% on a same-store basis compared to Q2 2022. This was driven by occupancy and room rate trends remaining positive with broad demand from leisure, corporate and group guest segments.
RevPAR for the quarter finished at $98.48, a 4% improvement over Q2 2022. We'd like to highlight that we once again achieved the highest quarterly ADR in the history of the Company this quarter. For the quarter, rates ended at 105% of Q2 2022, and 110% of Q2 2019. This marked the eighth consecutive quarter where we have matched or exceeded 2019 rates, and we expect this trend to continue.
The overall demand picture remains strong with sustained demand from our leisure guests as well as the gradual return of business and group travel, as demonstrated by the 9% growth in RevPAR and our Embassy Suites portfolio during the quarter. The return of business travel remains a near term catalyst, and we believe the improving results of our Embassy Suites portfolio points to this segment picking up momentum across the United States.
Operating margins continue to be pressured by the challenging operating environment we've experienced since early 2022. Specifically, labor shortages and inflationary impacts on operating cost remain our focus. NOI margin decreased by 210 basis points to 33.3% for the quarter compared to the same period of 2022.
We are continuing to focus on hiring more in-house labor, reducing turnover, and improving housekeeping productivity to address these problems. Progress is slow and labor costs will remain elevated into 2024. This is where our ability to control and manage daily rates is a key benefit. Continued growth and ADR will help in partially mitigating the effects of rising labor costs and general inflationary pressures impacting the portfolio.
Despite these persistent challenges, we are confident in our ability to navigate this dynamic operating environment and to add long-term unitholder value. As the interest rate environment remains elevated and volatile, the fixed rate nature of our debt obligations provide a substantial benefit to us.
Overall, 91% of our debt obligations are fixed rate coupons or subject to variable to fixed swap arrangements. Leverage reduction remains a priority and we continue to trend in the right direction, demonstrated by our debt to gross book values being reduced by 200 basis points and debt to trailing 12 months EBITDA down 0.2x over the last 12 months.
We do not have any meaningful debt maturities until 2024 and are well positioned to manage potential economic volatility in the coming quarters. Last year saw us return to our normal capital program as we invested heavily in renovating our portfolio.
Our 2023 capital program is ongoing, but given the uncertainty around the timing of our insurance claims on weather-related damage at some of our hotels, we expect a slightly reduced level of spend in 2023 relative to 2022 as some projects initially slated for 2023 will be pushed into 2024.
These planned projects are expected to generate a meaningful return on investment through the refreshment and upgrade of guest facing items, ensuring that each property maintains its competitive advantage in the market.
During the quarter, we closed on the strategic disposition of a hotel property in North Carolina for gross proceeds of 11.7 million. We use 6.5 million of the total proceeds to repay the mortgage on the property and intend to use the remaining proceeds to further pay down debt or purchase assets with high returns and more attractive markets.
Growth remains our priority over the long term, what we will always explore opportunities to dispose of assets where the return projections lagged the average return expectations for the remainder of our portfolio.
Touching on growth, we do continue to evaluate growth opportunities that would expand our hotel portfolio and geographic footprint. As a result of the investment by BentallGreenOak and Highgate, we are aligned with two well-capitalized strategic partners who support the pursuit of attractive acquisition opportunities.
Lastly, we released our second annual corporate responsibility and sustainability report during the quarter. This report is designed to help our stakeholders understand our commitment and efforts regarding environmental stewardship, social responsibility, and governance.
We will continue to report on present and future commitments with respect to ESG initiatives, all of which will be overseen by our board of directors nominating and governance committee.
I'd like to acknowledge the efforts of our brand partners, hotel managers, vendors, guests, and other stakeholders for their stated commitments to implement programs that have a positive effect on our business, the environment, and our communities.
I'll now turn the call over to Bruce Pittet to discuss second quarter hotel operations. Travis will then highlight key financial metrics.
Bruce?
Bruce Pittet
Thank you, Jonathan, and good morning everyone. AHIP's portfolio of premium branded select service hotel properties continue to demonstrate strong demand metrics in the second quarter of 2023.
For Q2 2023, our portfolio had an occupancy average of 74% or 99% of 2022 levels. ADR continues to be the catalyst for RevPAR recovery across AHIP's portfolio, finishing at a record of $133 for the quarter above Q2 2022 levels by 5%. We continue to anticipate strong ADR performance across the portfolio going forward.
Q2 2023 RevPAR finished at $98, a 4% increase over Q2 2022. Portfolio results continue to be disrupted by the weather event of late December 2022 that caused weather related damage at several hotel properties. Of the hotel properties damaged, two hotels continue to have considerable rooms out of order during Q2, skewing year over year operational comparisons, the 105 room residence in Neptune, New Jersey, reopened May 18th with 55 guest rooms in service.
At the time of the weather event, the hotel was under renovation. The renovation was restarted in May, and at the end of Q2, 84 fully renovated guest rooms were in service. The 113 room Courtyard Wall, New Jersey ended Q2 with 87 guest rooms in service.
We anticipate all guest rooms from both properties to be back in service at some point in Q3 and common area elements of both hotels are anticipated to be back in service in Q4. We reference three distinct segments of our business, extended stay, select service, and our Embassy Suites hotels.
During Q2 of 2023, the extended stay segment achieved a RevPAR of $100 or a 100% of where we were in Q2 2022. The select service segment achieved a RevPAR of $93. This represents 105% of 2022 levels, and as Jonathan mentioned, the Embassy Suite segment achieved a RevPAR of $111 or a 9% increase over the same period in 2022, and notably slightly above 2019.
We continue to see signs of corporate and group travel recovery across the portfolio. Midweek occupancy continues to improve with occupancies in the mid to high 70% range. In comparison, weekend occupancies are more typically in the low to mid 80% occupancy range. We continue to achieve ADR and RevPAR premiums on weekends versus midweek. Strong indicators of corporate business demand are the negotiated rate segment, which has seen revenue recovered 84% of 2019 levels, and the GDS channel, which is mostly driven by travel agent booking corporate travel for the clients finished at 86% of 2019 levels.
The Embassy also look good bellwether for the portfolio as it pertains to the group and corporate segment recovery, as we continue to see the greatest RevPAR growth in this segment of portfolio. Our food and beverage revenues, which are primarily attributed to our Embassy Hotels, are continuing to approve against 2019 benchmarks. F&B revenues were 85% of 2019 performance.
For our portfolio of 70 assets, NOI margin finished at 94% of 2022. Rising costs driven by wage rates third-party labor usage, turnover and general inflationary pressures are holding margins below 2022 levels. Hourly wages in particular have been a major headwind, as they are up 5% year-over-year and over 36% since 2019.
As mentioned, the disruption at the residence in Neptune and the Courtyard Wall continues to impact results. Excluding these two assets on a dollar basis, NOI was up 3% versus Q2 2022. Our focus remains on margin performance initiatives with our hotel manager, including the reduction of third-party contract labor, reducing overtime, improving housekeeping productivity, reducing employee turnover and improving procurement program compliance.
In general, the pace of cost growth is slowing. Portfolio employee turnover is trending down and our labor mix has improved with our contract labor use declining. At the start of 2023, our third-party labor workforce consisted of 254 FTEs or full time equivalents. At the end of Q2, we had reduced that number to less than 200 FTEs. However, this number is still significantly above pre-pandemic levels.
Turning to AHIP's capital program. As Jonathan mentioned, we have reduced our forecasted capital spend in 2023 to approximately $19 million from the $34 million we had previously communicated. The $19 million capital plan includes approximately $7 million in PIPs and $12 million in FF&E capital improvements, which will partially be funded through restricted cash.
Total capital spend through the first half of 2023 was $7.5 million. Initial results for July suggest a slight step down from June with occupancy of 73%, ADR of $135, and RevPAR of $99 or 99% of July 2022 RevPAR levels.
The first week of July was slower-than-anticipated with the July 4th holiday landing on Tuesday and impacting corporate demand for the entire week. The remainder of July saw weekly occupancy consistent with June.
And with that update on our hotel operations, I'll now turn the call over to Travis to highlight key financial and capital metrics for the second quarter.
Travis Beatty
Thank you, Bruce. Good morning. Normalized diluted funds from operation or FFO was $0.14 per unit for the quarter, compared to a normalized diluted FFO of $0.15 for Q2 of 2022. As of June 30, 2023, AHIP had $40 million in available liquidity, compared to $24 million at December 31, 2022. The available liquidity of $40 million was comprised of an unrestricted cash balance of 25 million, and a boring availability of $15 million under our revolving credit facility.
In addition, AHIP has a restricted cash balance of 27.6 million as of the end of the quarter. AHIP is making steady progress on our leverage metrics and intend to bring our debt to growth book value closer to a level of our peer group over time, which would be in the range of 40% to 50%. This is expected to be achieved through a combination of improvement operating results, a sustainable distribution policy, and selective equity issuance and support of growth transactions. Debt to EBITDA has been stable over the last 12 months.
The weighted average interest rate for all term loans and credit facilities was 4.55% as of June 30, 2023, an increase of 9 basis points from the end of the year. Short- and long-term interest rates have increased significantly over the last 12 months. However, AHIP does not expect a material interest expense increase in 2023. While our interest will increase at the expiry of the interest rate swap, we have staggered maturities and no meaningful CMBS maturities until late 2024.
Commencing in the first quarter of 2024, the boring base availability under our revolving credit facility will be determined by a revised test, which now includes 65% of the capitalized value of the underlying properties, where value is determined based on the trailing 12-month cash flows of such properties at a capitalization rate in most cases of 8%.
This loan to value test included in a 2020 forbearing base may reduce the borrowing base availability under the credit facility. As a result of the weather-related damage mentioned earlier, the total impairment on the hotel properties is 9 million at June 30, 2023. This is comprised of remediation costs of 3 million and rebuilding cost estimate of 6 million.
As of June 30th, we'd incurred 7.9 million in costs to remediate and rebuild the damaged hotels. For business interruption insurance, we expect to recover most of the lost income from late December 2022 until the damaged hotels are fully operational, which is expected to be by the end of the third quarter 2023. In the second quarter of 2023, AHIP recorded 1.9 million for the business interruption claim. The business interruption proceeds are included in our normalized FFO calculation.
As a result of the claims noted above, higher replacement costs and generally higher insurance premiums, AHIP completed its property insurance renewal effective June 1st, 2023 with a significant increase in premiums compared to the expiring policy. On an annualized basis, the increase from the prior year is approximately 3.5 million, which will be recognized in earnings over a 12-month period.
I'll now turn the call back to Jonathan for some closing remarks.
Jonathan Korol
Thanks, Travis. I'm encouraged by the demand acceleration that is continuing across the 22 U.S. states in which AHIP owns hotels. We are not seeing any evidence of a demand slowdown for our leisure guests and business traveler demand has meaninglessly picked up in 2023. I am confident in the ongoing efforts of our asset management team, along with our hotel manager to navigate this challenging operating environment and drive margin improvement.
As Bruce mentioned, we've begun to see some key metrics slowly start to trend in the right direction. We continue to pay out monthly distributions as our ability to provide our unitholders with a meaningful cash yield on their investment remains the top priority for us.
Based on our closing price, yesterday, the annualized U.S. dollar distribution of $0.18 per unit represents a cash yield of approximately 10%. Lastly, I would like to convey my appreciation to all of the teams at each of our hotel properties for their continued dedication to providing a great guest experience.
So with that overview of our second quarter and recent initiatives, we'll now open the call to questions from analyst.
Operator?
Question-and-Answer Session
Operator
[Operator Instructions] The first question comes from Frank Lee with BMO Capitals. Your line is open.
Frank Lee
So just wanted to start on with ADR, if I did my mask correctly, I've seen probably ADR gross was like roughly 6% this quarter and that compares to like low double digit gross in the previous two quarters. And is that, do you see -- do you expect ADR growth to moderate in the second half of this year? Because I read about the broader US hotel industry saw a moderation in the ADR growth this quarter.
Jonathan Korol
Hi, frank. It's Jonathan here. Yes, the second half the comps are a little bit more challenging because ADR growth really took off back in around this time last year. So, we would expect the average to come down over the last half of the year.
Frank Lee
And on the occupancy side, should we expect occupancy to trend closely to 2022 levels? Sounds like the case from early July results.
Jonathan Korol
Yes, I think, occupants holding pretty steady at those levels. I think we're quite encouraged by the midweek occupancy increases that we're seeing from the corporate traveler. And we're in the summer, we're in the summer leisure season right now, and I'd expect that as we get closer to September, October, November those business metrics are going to continue to improve.
Frank Lee
So considering both end, there shouldn't be much change from your previous guided 5% to 8% full year ballpark growth, right?
Jonathan Korol
It sounds like you're attuned to the industry metrics and I'd say that we're following those pretty closely. So, those are good proxy.
Frank Lee
Just want to lastly touch on the $3.5 million increasing in the insurance premium so that spans over Q3 2023 to Q2 2024, right, the next 12 months?
Travis Beatty
That right. We, one month of the increase is incorporated in Q2 results strength, this is Travis. But 11/12 of the increase will be included over the next the next two quarters plus two months. Three quarters plus two months…
Frank Lee
Do you know how much roughly that related to the claims you had? I just want to get a sense of the, like the percentage gross on like regular premium.
Jonathan Korol
It's pretty tough to back that out, but we talk to other operators who are seeing 75% to a 100% increase in annual insurance premiums. And it of course depends on the nature of their portfolio and how much is in wind or flood zones. But I would say all of the increase about a third of it was due to our claims experience.
Operator
[Operator Instructions] The next question comes from Tom Callahan with RBC. Your line is open.
Tom Callahan
Good afternoon guys or I guess maybe good morning depending on the time zone. Maybe just first one for me, Travis, can you just give a sense or a bit of color on how you thinking about the balance sheet over the next six months and maybe specifically just the approach to liquidity? Just wondering, in this case given the borrowing base calculation that you flagged that maybe you will look to kind of prioritize liquidity in the next six months?
Travis Beatty
Yes. Thanks, Tom. We do have some maturities, of course. We have got a couple on the CMBS side in December and then another portfolio in April. In aggregate, those are about $35 million. So it's not a huge number, but something we are planning for. The CMBS market is available to us now, based on current SOFR rates for 5 and 10 years, you are looking at about 3.75% and the spreads that they are looking for in that market are in the neighborhood of 400.
So, we are looking at 7.5% to 8%, if we were to refinance those today. But we have got some time, although our interest rates seem like they are going to be a little higher than we expected 3 to 6 months ago. We still have time to see how the market goes and see if those credit spreads come in a little bit. Those have expanded significantly over the last 6 to 12 months. So if we can get some normalization there, we might have some room to get a better spread.
We highlighted in our comments the borrowing base does change early next year. We don't know, if there is going to be a pay down. It's going to be primarily based on the trailing 12 month cash flow through Q1 of next year. So, we have got 9 of the 12 months still to come on that measure, but we have got a number of options.
We can refinance that in the CMBS market. There is some assets that we currently have CMBS debt on that if we put them on the credit facility, it would expand our borrowing capacity. We could get an amendment the same way we did last year. So, we have got a number of options. I think you are on point that addressing these maturities over the next 6 to 12 months is a big area of focus for us.
Tom Callahan
Got it. And maybe just a quick follow-up there. Am I correct in re-improvising your comments related to the swap there in the prepared remarks that you are planning to just let that expire at the end of November?
Travis Beatty
Yes. We are.
Tom Callahan
Okay. Got it. And then maybe just one more for me. You guys probably had a bunch of color there on NOI margins in the commentary. Just curious, I know this quarter was impacted from the two weather related hotels there, but how do you see kind of the gap to 2022 on NOI margins playing out over the course of the year? Is this something where you think you can narrow that gap versus this quarter or just kind of any thoughts there?
Jonathan Korol
Well, the big change on the NOI margins right now is the insurance step-up. And that's going to -- that means about 100 bps. So minus that 100 bps, we got about 150 to 200 to make up to get back to 2019. And I think the pace of that is really going to be determined by the dynamics, as Bruce has outlined in the labor market.
I think depending on your view of the economy, the labor markets are becoming a lot more accommodating to business. But the pace is very market-specific. So whether or not we can do that in 6 months, whether or not we can do that in 24 months, a lot of that is going to be affected the macro event.
Operator
The next question comes from Tal Woolley with National Bank Financial.
Tal Woolley
Just to go back to understand the borrowing base impact question for the credit facility, if you were subject to the test now, do you have a sense of what like the -- your exposure might be on the credit facility side?
Travis Beatty
Tal, I don't think that's a number that is -- we don't have that number to provide on the call. We've got the options that I described earlier mean that we're not going to face the tests that we're looking at today by the time we get to Q1 of 2023. So, I think we're going to look at the operating outlook. It's going to depend a little bit on interest rates, and we've got some options in terms of amendments or moving different assets on the line or out of line to affect that calculation.
Tal Woolley
Okay. And like you I'm assuming like speaking with your lenders, the addition of like securing new properties against that facility is not much of an issue, or like I'm just curious about on the lending side, whether they're as amenable to this kind of stuff as they've been in the past?
Travis Beatty
Yes. As long as we're in compliance with the agreement, which we would expect to be putting properties on the line is well defined in the credit agreement then it's an available option to us.
Tal Woolley
Okay. And then I guess as the unit prices come down here, you're now sporting a double-digit yield. Like how is the board thinking about capital allocation right now? Is there -- are you wondering if there's more effective ways for you to deploy your capital right now?
Jonathan Korol
Well, we mentioned -- Tal, it's Jonathan here. I think when we announced the distribution back in November 2021, we were as one of the first hotel REITs to announce it. And I think a lot of people at the time felt like our $0.18 was quite conservative. And I think that we did that because we felt there could be some headwinds coming our way, and we wanted the flexibility to be able to allocate between capital into our properties, paying our distribution and growth.
I think growth right now is just because there aren't a lot of trades. There aren't a lot of owners there that are wanting to sell at the moment, as we all see that the headwinds are 6- to 12-month headwinds. And beyond that, there just aren't any hotels being built, actually supply is coming out of the market and most owners are pretty excited about that. Capital, we talked a little bit about our capital plans being pushed back a little bit. And -- but we've always mentioned that the distribution, given our shareholder base is a priority for us and it will continue to be so.
Tal Woolley
And then -- sorry, just earlier in your remarks, I don't know if I heard it wrong, but you said that you're not expecting ADR to decline year-over-year in the back half of this year but you're expecting the growth in ADR -- the growth in average asking rate too slow versus...
Travis Beatty
Let's say the average is -- they don't quote me on these numbers. Let's say the average is five and probably -- and you ran seven in the first half. The last half is probably three. It's probably down the average, but it's still growth. And the reason for that is last half -- last half of last year was pretty strong.
Tal Woolley
And then I'm just wondering if you can speak, it's been a while now since the new Boards come together. How have you found that process and has it changed any of your long-term thinking about how to run the Company?
Jonathan Korol
Well, it hasn't really been a long time because we had our first meeting yesterday with our newest Board member. Again, we've had a lot of time to discuss. We've had a lot of time to discuss our, our strategic plan, prioritizing growth over the long term. And it's clear that the Board has strong consensus on desire to continue to grow this company.
Operator
[Operator Instructions] At this time, I show no further questions. I would now like to turn the call back to Jonathan Korol for closing remarks.
Jonathan Korol
Thanks again everyone for joining us on our call today. I look forward to speaking with you in early November, when we report our third quarter 2023 results. Have a great day.
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American Hotel Income Properties REIT LP (AHOTF) Q2 2023 Earnings Call Transcript