The Howard Hughes Corp. (HHC) CEO David O’Reilly on Q2 2022 Results – Earnings Call Transcript


The Howard Hughes Corp. (NYSE:HHC) Q2 2022 Results Conference Call August 4, 2022 10:00 AM ET

Company Participants

Eric Holcomb – SVP, IR

David O’Reilly – CEO

Jay Cross – President

Carlos Olea – CFO

David Striph – Head of Operations

Conference Call Participants

Alex Barron – Housing Research Center

Alexander Goldfarb – Piper Sandler

Anthony Paolone – JPMorgan

Hamed Khorsand – BWS Financial

John Kim – BMO

Peter Abramowitz – Jefferies

Operator

Hello, and welcome to the Howard Hughes Corporation Second Quarter Earnings Call. [Operator Instructions] Please note, today’s event is being recorded.

I now would like to turn the conference over to your host today, Eric Holcomb. Please go ahead, sir.

Eric Holcomb

Good morning, and welcome to the Howard Hughes Corporation Second Quarter 2022 Earnings Call. With me today are David O’Reilly, Chief Executive Officer; Jay Cross, President; Carlos Olea, Chief Financial Officer; Dave Striph, Head of Operations; and Peter Riley, General Counsel.

Before we begin, I would like to direct you to our website, www.howardhughes.com, where you can download both our second quarter earnings press release and our supplemental package. The earnings release and supplemental package include reconciliations of non-GAAP financial measures that will be discussed today in relation to their most directly comparable GAAP financial measures.

Certain statements made today that are not in the present tense or that discuss the company’s expectations are forward-looking statements within the meaning of the federal securities laws. Although the company believes that the expectations reflected in such forward-looking statements are based upon reasonable assumptions, we can give no assurance that these expectations will be achieved. Please see the forward-looking statement disclaimer in our second quarter earnings press release and the risk factors in our SEC filings for factors that could cause material differences between forward-looking statements and actual results. We are not under any duty to update forward-looking statements unless required by law.

I will now turn the call over to our CEO, David O’Reilly.

David O’Reilly

Thank you, Eric. Good morning, everyone, and thank you for joining us on our second quarter earnings call. Before we begin, I would like to quickly welcome Eric Holcomb, who recently joined HHC as our new Senior Vice President of Investor Relations. Eric brings over 25 years of financial experience on the team, including many years in Investor Relations, and we’re happy to have him on board as a fully dedicated resource for the investor community. John Saxon, who previously headed up Investor Relations, has transitioned to his new role as Chief of Staff for the company.

To start off today’s call, I’ll provide a brief overview of our second quarter segment performance and highlight the results of our master planned communities in the Seaport. Dave Striph will cover the performance of our operating assets, followed by remarks from Jay Cross who will provide updates on our development projects in Ward Village. Finally, Carlos Olea will provide a review of our financial results before we open up the lines for Q&A.

Looking at the results of our quarter, each of our operating segments performed incredibly well despite a challenging economic backdrop. MPC land sales revenue rose 46%, operating asset NOI increased 15% and revenues at the Seaport increased 166%, all compared to the second quarter of 2021. At Ward Village, condo sales remained strong with 20 units sold in the quarter, in addition to the incredibly robust presales activity with 681 units contracted during the period, largely driven by Ulana following the launch of its presales campaign in March.

Our strong results, both this quarter and year-to-date, demonstrate the resiliency of our business model and our unique portfolio of assets, which have proven their ability to withstand periods of economic volatility like we’re experiencing today. Our success would not be possible without the immense effort and work that has gone into growing and strengthening our assets over many years.

Today, one way this effort is being recognized is with the recent lead precertification of our Houston MPCs, the Woodlands and Bridgeland by the U.S. Green Building Council. This is a tremendous accomplishment as these communities are the first in Texas to achieve this prestigious status.

Further, the Woodlands is now the largest MPC in the world to earn this designation. Lead precertification recognizes the many initiatives implemented over the years, designed to promote a sustainable quality of life with extensive green space, diverse home products, highly acclaimed schools and extensive urban amenities. We’re extremely proud of this achievement and view it as an important driver of future growth as we develop sustainable communities that will attract new residents and tenants alike.

Now looking at our MPC segment. Revenue was up substantially in the second quarter, increasing 45% compared to the prior year. Land sales totaled $85 million or a 46% increase year-on-year, fueled by strong residential land sales, predominantly in Summerlin and Bridgeland. We also experienced continued growth in the average residential price per acre sold, increasing 25% since this time last year. Increasing home prices in our communities contributed to a sharp 62% increase in builder price participation revenue to $18 million.

While MPC revenue was significantly higher during the quarter, segment EBT of $71 million was up only 2% compared to the second quarter of 2021. This was primarily due to a $22 million reduction in earnings from Phase 1 of the summit, our 555-acre ultra-luxury community in Summerlin, which is nearing completion.

During the quarter, the Summit did not close on any custom lots or units as inventory remains limited. This is in comparison to the 16 unit sales that we saw in the year prior. However, I am pleased to announce that subsequent to quarter end, we reached an agreement with our joint venture partner, Discovery Land, to launch Phase 2 of the Summit. As part of this expansion, we contributed 54 acres of land, which will be used to sell an additional 27 custom home sites in this truly unique luxury community.

Looking at Summerlin in more detail. We sold 2 residential superpad sites during the quarter, representing 48 acres for an implied price per acre of $1.1 million, a 33% increase from the prior year. Summerlin also saw a 38% increase in builder price participation revenue during the quarter as home values continued to escalate higher. In Houston, where available lot inventory remains at all-time lows, both Bridgeland and the Woodland Hills posted strong results, generating the second highest quarterly revenue in EBT in their histories. In Bridgeland, land sales increased 136% compared to the prior year, fueled by a 78% increase in residential acres sold, as well as a 35% increase in price per acre at $576,000.

As a result of these impressive results, Bridgeland’s EBT increased by a staggering 79% versus the second quarter of ’21.

In the Woodland Hills, second quarter EBT was 66% higher compared to the prior year. This robust growth was driven by continued strong residential land sales, fueled by a 10% increase in the residential price per acre and our first commercial land sale for the site’s community’s first Church.

Finally, taking a look at Douglas Ranch in Phoenix West Valley, we’re working diligently in Trillium, the MPC’s first 3,000-acre village to install the infrastructure needed to contract the first 1,000 lots to homebuilders during the second half of the year.

During the second quarter, JDM Partners exercised its first option on Douglas Ranch, repurchasing a 9% ownership interest for $50 million. They also paid Howard Hughes a $10 million nonrefundable deposit to secure a second option to require up to an additional 41% or a total of 50%, which will expire on August 18. Overall, we’re very pleased with the strong results that we’ve seen in our MPCs thus far in 2022. While homebuilders are experiencing a decline in the number of new homes, overall demand for housing, particularly Houston, Las Vegas and Phoenix, remains healthy and still outweighs the available supply of new homes.

In the quarter, new home sales in our MPCs declined to 435 homes or a 37% reduction when compared to last year. Although these sales results are down from the abnormally high levels experienced over the past 2 years, home sales remained solid and are comparable to pre-COVID levels. The drop in home sales during the second quarter is largely related to 3 factors. First, and the primary reason, is rising mortgage rates and inflation are absolutely impacting home affordability for the average homebuyer. The second is that we are starting to see seasonality come back into view. Summer months are typically slower from a home sales perspective and tend to ramp up in the fourth quarter and first quarter. But we did not see that seasonality in 2020 or in 2021 as demand for housing surged to all-time highs.

The third factor is supply related. While improving, builders are still struggling to complete new homes due to the continued supply chain disruptions, putting pressure on their ability to deliver new homes quickly. With these in mind, we continue to believe that the outlook for future land sales in our MPCs remain positive. People continue to be attracted to our highly desirable communities, which offer an unmatched quality of life and an opportunity to live, work and play, all in one cohesive setting. These prospective buyers, which are often moving from higher cost states, tend to have strong purchasing power, which allow them to better withstand rising mortgage rates and inflationary constraints. This contributes to continued elevated demand for housing and is one of the primary reasons homebuilders continue to purchase additional lots in our MPCs at appreciating prices despite the market turmoil that exists today.

Overall, the outlook that we have for our MPCs remains strong. And as we look forward into the remainder of the year, we expect this momentum to continue. As a result, we are leaving our full year MPC guidance intact for 2022.

Shifting over to the Seaport. We had a tremendous quarter with a significant increase in foot traffic throughout this historic neighborhood. The Rooftop at Pier 17 recorded the highest number of visitors during the second quarter period in 3 years, attending over 210,000 guests, an increase of 85% over last year for various events in our summer concert series, which is on pace to have its most successful year yet.

We also hosted several private events, including a takeover of the Rooftop for Ape Fest, hosting over 12,000 Bored Ape Yacht Club NFT owners for a 4-day activation, headlined by several A-List performers, including Snoop Dogg and Eminem, which generated $1.8 million of revenue for the Seaport.

This foot traffic spilled over into our restaurants and retail operations, further boosting the quarter’s results as we continue to establish the Seaport as a premier, most exciting entertainment and dining venue in New York City.

Overall, the Seaport’s revenue increased to $27 million, a 166% increase over the same period last year, improving the net operating loss to $3.7 million for the quarter.

And finally, we signed a 15-year lease with Alexander Wang to transform 46,000 square feet at the Fulton Market Building, including 5,000 square feet of outdoor space into the iconic fashion brands new global headquarters in showroom. With this lease, the Fulton Market building is now 100% leased.

Now with that, I’m going to turn the call over to Dave Striph, our Head of Operations, to review the operating asset segment’s results.

David Striph

Thank you, David. In the second quarter, the strong momentum that has been building in our operating asset segment continued with the delivery of $66 million in net operating income. This reflected a 15% increase over the same period last year and an 18% increase on a same-store basis. The year-over-year improvement was achieved despite reduced NOI from noncore assets, including the 3 Woodlands-based hotels and the Riverwalk outlet in New Orleans which have been sold. The majority of this increase was seen in our multifamily assets, which produced quarterly NOI of $12 million, representing a strong 60% increase versus the prior year. This is largely due to the continued lease-up of our new communities and increased rents across the portfolio.

The strong demand for rentals in our markets was recently recognized by WalletHub which named Colombia, the #1 location in the U.S. to rent based on rental attractiveness and quality of life. This recognition in Colombia, as well as favorable rankings in our other MPCs is helping boost demand for available units with all of our properties leased at or above 94%.

With additional multifamily projects under construction in Bridgeland, Summerlin and Downtown Columbia, we see significant opportunities to further capitalize on this momentum and drive positive results as we bring these new projects online over the coming quarters. Office NOI of $30 million increased 13% versus the prior year. This improvement was primarily the result of new leasing activity at our Class A office towers in the Woodlands and Downtown Columbia. As companies continue to recover from the pandemic and employers are seeking to bring their employees back into the office, we are seeing an increase in leasing activity.

Given the flight to quality in today’s market, we are a clear beneficiary as a provider of premier Class A space located in one-of-a-kind communities which offer an exceptional lifestyle, including short commutes, unmatchable amenities, quality housing and improved work-life balance.

During the quarter, we executed over 88,000 square feet in new and renewal office leases in the Woodlands. We had similar success in Downtown Columbia with an 80,000 square foot lease with CareFirst signed at 6100 Merriweather which is a lead gold property. This lease largely completes the lease-up of this new office tower with 97% of building’s office space now fully leased.

Retail NOI of $15 million reflected a slight increase over the prior year. Ward Village saw meaningful improvement with a 47% increase in NOI driven by stronger leasing activity in a post-pandemic environment. These gains were partially offset by reduced NOI in Summerlin, which benefited from nonrecurring COVID-related payments in 2021. Excluding these payments, Summerlin NOI was up year-on-year with over 20% improvement in sales per square foot relative to pre-COVID peaks. And finally, retail NOI was also reduced due to the sale of Riverwalk in New Orleans during the second quarter.

Another component of our increased operating performance is attributable to strong fan attendance at the Las Vegas Ballpark, home to HHC’s Las Vegas Aviators, AAA baseball team. In the second quarter, the Ballpark generated $5 million of NOI, representing a 74% increase from the prior year. Thus far in the season, the Aviators are leading the minor leagues in attendance, surpassing levels from the same time in 2021 when COVID restrictions were still in place.

This also contributes to the improved performance at Downtown Summerlin as baseball fans enjoy the nearby shopping and dining before and after games.

Finally, our share of NOI from JV-owned assets increased nearly $700,000, almost entirely from the absence of net operating losses at 110 North Wacker, which was sold during the first quarter.

With that, I will now turn the call over to our President, Jay Cross.

Jay Cross

Thank you, Dave, and good morning. I’m pleased to report that we continue to make good progress on our development projects under construction, including over 1,100 multifamily units in Bridgeland, Summerlin and Downtown Columbia, a 267,000 square foot office tower in Summerlin and 53,000 square feet in 2 medical office buildings in the Woodlands. All of these projects, which are designated as green buildings, remain on track for delivery according to the respective completion schedules, with the majority expected to deliver in the second half of 2022 or early ’23. In addition to our projects already underway, we commenced construction during the quarter on Wingspan, our new single-family build-to-rent community in Bridgeland. This first of its kind development for Howard Hughes will encompass 263 homes over 27 acres, which will complement the strong demand we are seeing for single-family and multifamily offerings in this MPC. This unique product type will offer tenants 1 to 4 bedroom floor plans, as well as single-family home benefits, including private outdoor spaces and attached garage.

We’re excited to bring this new product to Bridgeland and expect Wingspan to begin welcoming its first residents in late ’23.

In Downtown Columbia, we expect to break ground later this quarter on our 86,000 square foot medical office building in the Lakefront District. With the project already 20% pre-leased, we are aiming to make the Link Front District the next health and wellness destination of Downtown Columbia.

At Seaport, construction of the Tin Building is substantially complete, and we are actively hiring and training staff for this one-of-a-kind food hall which will offer over 20 unique restaurant experiences in addition to an e-commerce platform for mobile ordering and delivery. Although we had planned to celebrate the grand opening during the summer, hiring has been challenging due to tight labor markets. As a result, we had to temporarily delay the grand opening, but we are now making great progress on hiring and onboarding process and expect to celebrate the 10 buildings grand opening later this quarter.

Also at the Seaport, we started site remediation work on 250 Water Street, commencing the long-awaited transformation for this 1 acre parking lot into a world-class 28-story mixed-use development. We look forward to providing more details on this project as construction gets underway.

And now turning to Ward Village in Hawaii, we generated $21 million in condo sales during the quarter, including the closing of 19 units for $17 million at A’ali’i, which completed construction late last year. This tower ended the quarter 95% sold with only 40 units remaining. Additionally, we sold 1 penthouse unit at Waiea during the second quarter, generating $4 million of revenue, leaving just 1 unit remaining to be sold in this tower.

At our 2 towers under construction, we contracted 28 units, including 27 at Ko’ula and 1 in Victoria Place, and we remain on track with our projected delivery schedules. Ko’ula, which we expect to deliver in the third quarter, ended the second quarter 96% presold with only 21 units remaining to be sold. Victoria Place, which will be completed in 2024, is already fully sold out, a first for Ward Village.

Presales activity at the park in Ulana, our next 2 towers in the pipeline have remained robust. We contracted 11 units at the park during the quarter with this tower now 91% presold. Our expectation is to start construction of the park during the second half of this year. At Ulana, our ninth condo tower, which will be fully dedicated to workforce housing, we contracted 627 units during the quarter with the tower 90% presold.

Strong presales of these towers represent significant future revenues that are secured by nonrefundable deposits. These projects will have a meaningful contribution to HHC’s bottom line upon completion, which will fuel the acceleration of new developments to come within our pipeline.

And with that, I would now like to hand the call over to our CFO, Carlos Olea.

Carlos Olea

Thank you, Jay. During the second quarter, we were able to carry forward the strong momentum generated in the first quarter, delivering strong results across all of our segments. Within this, despite ongoing economic headwinds, which have generated growing levels of uncertainty and volatility in the real estate market.

In summary, during the second quarter, we reported net income of $21.6 million or $0.42 per diluted share compared to net income of $4.8 million or $0.09 per diluted share during the prior year period. Our MPCs generated land sales revenue of $85 million, a 46% increase over the second quarter of 2021 and $71 million of EBT, a 2% increase compared to the prior year period despite a $22 million reduction in equity earnings from the Summit in Summerlin.

Our operating assets delivered $66 million of NOI, a 15% increase compared to the prior year period. At Ward Village, we closed on 20 condo units, resulting in $4.6 million of condo profit, up from $574,000 loss in the prior year period. At the Seaport, we recorded $3.7 million in net operating loss, a $716,000 improvement compared to the prior year period. Despite this operating loss, quarterly revenue of $27 million rose 166% over the prior year period.

Overall, we are very pleased with the performance of our business segments. Together with our continued favorable outlook for our businesses, we reiterate our full year guidance for 2022.

Outside of our segments, we recently completed our commitment to divest noncore assets with the sale of the outlet collection at Riverwalk in New Orleans. We sold this retail property for $34 million, generating net proceeds of $8 million. Since the announcement of our transformation plan in the fourth quarter of 2019, we have sold 15 noncore assets generating $578 million in net proceeds, which have been redeployed back into our core MPCs to fund new developments and repurchase stock at prices far below net asset value.

With respect to share buybacks, during the second quarter, we repurchased 2.2 million shares for $192 million. These shares were purchased at an average price of $89, which is well below intrinsic value.

Subsequent to quarter end, we repurchased an additional 369,000 shares for $25 million, leaving us with $15 million in available buyback capacity.

Looking at our balance sheet. At the end of the quarter, we had $573 million of cash in hand, providing us with plenty of capital to continue executing on our development projects. Even with an extensive pipeline of projects currently underway, the remaining equity contribution needed to fund this development is only $232 million. In other words, we have sufficient liquidity to launch additional developments throughout the remainder of this year and into 2023.

From a debt perspective, we had $4.8 billion outstanding at the end of the quarter with limited near-term maturities and approximately 79% due in 2026 or later. On the financing side, we closed some $230 million in refinancing for 4 properties. So this $194 million was related to 3 nonrecourse interest-only loans for 3 multifamily assets in the Woodlands with maturities in 2032.

During this rising rate environment, it is important to note that 83% of our debt is either fixed or swapped to a fixed rate, which significantly mitigates our interest rate risk.

With that, I would like to turn the call back over to David for closing remarks.

David O’Reilly

Thank you, Carlos. To wrap up the call before we start Q&A, I want to touch on a few key points. First, our financial results thus far in 2022 reflect the strength of our business model and our unique ability to withstand headwinds during periods of economic volatility. Housing lot inventory remains at historical lows, while prices for our land continues to rise, signifying the outsized demand that exists in our MPCs. Our operating asset portfolio is outperforming with growing demand and rising rents for our high-end multifamily, office and retail space.

With the full slate of new projects nearing the completion of construction, we have a steady pipeline to grow our stream of recurring income that will continue to drive our NAV higher. At the Seaport, one of its best quarters is now in the history books, but the best is yet to come with the grand opening of the Tin Building, lease-up of our remaining office space and continued growth in demand for our unique dining experiences. Overall, we continue to see solid fundamentals in our business going forward.

Second, despite incredible headwinds throughout the pandemic, we’ve successfully completed on our noncore asset disposition plans announced in 2019. We’ve used the net proceeds of $578 million to fuel new development projects within our core MPCs and to repurchase more than 5.3 million shares at a sizable discount, unlocking meaningful shareholder value and driving our NAV higher.

And finally, our balance sheet remains incredibly strong, despite allocating a considerable amount of capital to new projects and share repurchases. Our disciplined capital allocation approach is paying dividends, leaving us with considerable liquidity to fund additional opportunities for future growth.

With that, we’d now like to begin the Q&A portion of the call. We’ll start by answering a few questions that have been generated by Say Technology, which will be read by Eric Holcomb. Eric, can you read the first question?

Question-and-Answer Session

A – Eric Holcomb

Yes. Thanks, David. The first question is the Seaport segment had negative NOI of $8.3 million in the first quarter. Can management comment on the trajectory of earnings for the Seaport? And also, when is the Tin Building expected to open? Carlos, do you want to take this one?

Carlos Olea

Thanks, Eric, and good morning, everybody. Yes, so the loss of $8.3 million in the first quarter was still impacted by the Omicron and Delta variants that had a very severe impact in the city and the Seaport as well. However, in the second quarter, we saw a very significant swing to the upside with the impressive start to the concert series and specialty private events such as Ape Fest, both of which drove significant foot traffic to the area and our concert tours continues to drive significant foot traffic to the area. That resulted in the loss decreasing by 55% from the $8.3 million noted to $3.7 million in the second quarter with a very impressive revenue increase of 172% sequentially and 166% on a year-on-year basis.

Then from the leasing standpoint, we signed a 41,000 square foot lease with Alexander Wang at the Fulton Market Building, which fully leases out that building leaving us only with 88,000 square feet of office space remaining to the lease at Pier 17. And then one of the last remaining milestones to bring the Seaport closer to the stabilization is the Tin Building, we just had our soft opening for friends and family in the last week of July, and we expect to celebrate the grand opening of the Tin Building later this quarter.

And while in the near term, we might see some operating losses as we ramp up operations, in the long term we believe that this unique marketplace will deliver tremendous value for the Seaport.

Eric Holcomb

Thanks, Carlos. Second question is, do you expect your retail spaces to see higher or maintain rental occupancy with the COVID-19 virus slowing and more customers returning to physical retail and shopping. Dave?

David Striph

Sure. Good morning, everybody. Yes, I think our retail centers are performing much better in this new environment. As you’ve heard me say many times, Ward Village retail has lagged behind the rest of our portfolio due to strict travel restrictions in Hawaii. And really, since those restrictions have lifted, we’ve seen a strong comeback with leasing levels increasing to 89% this quarter compared to 82% last year. In addition, across the portfolio, we’ve been able to replace tenants who didn’t make it through the pandemic with really much stronger tenants who are producing significantly higher sales per square foot.

Eric Holcomb

The third question, how does the recession affect your business. David?

David O’Reilly

Sure. Eric, thanks. Happy to answer the question. Look, the Howard Hughes Corporation, you’ve heard me say time and time again, we live, breathe, eat and sleep increasing the intrinsic value or NAV of our company on a per share basis. And the largest driver of increasing that NAV is converting our raw commercial land into income-producing assets, at outsized risk-adjusted returns. Our ability to execute on that NAV growth is limited by the cash that comes into the company and demand to fill those buildings. If there is a recession that could impact home sales and shrink the amount of cash that comes in or there’s less demand in any of our regions, our pace of growth, our rate at which we would increase on a per share basis, the NAV of the company could slow.

With that said, the first half of the year is showing no signs of that with incredible strength in our MPC EBT, incredible lease-up of all of our assets and same-store results across the operating portfolio that are incredibly strong.

So look, to answer your question directly, it could slow the pace of growth of our NAV, but we don’t see signs of that today.

Eric Holcomb

Fourth question is, how do you balance the opportunity to repurchase shares, pay down debt and maintain enough liquidity to handle stressful economic conditions like the spring of 2020. Carlos?

Carlos Olea

Well, it’s a continuous process in which I spent a lot of time on, as does the rest of the management team. We’ll look at different factors. We’ll look at the cash in hand, which we ended our quarter with $573 million of unrestricted, we’ll look at our development commitments which we have $232 million of remaining development costs, we’ll look at our debt, where we have 79% of our debt not due until 2026 or later, we’ll look at our — at the price of our stock that we believe is still very attractive relative to intrinsic value and then we decide which one of these areas or other on our business will have the highest risk-adjusted return, and we deploy capital to those opportunities.

Eric Holcomb

Great. One last question from Say. Are there any plans to buy new properties. Jay?

Jay Cross

Thanks, Eric. Of course, we’re always looking at development opportunities because we’re, first and foremost a development company. However, when we think of significant land acquisition opportunities of scale, quality and product type, they are few and far between. A good example was our purchase of Douglas Ranch last year, and now we’ve embarked on a decades-long opportunity there. We are very pleased that we were able to get into the market quickly, Douglas Ranch already negotiating with homebuilders for our first 1,000 lots. And that’s an example of a long pipeline. So that if we weren’t to buy another MPC, we also have decades worth of residential and commercial development opportunities within our existing town centers. And we feel that, that pipeline with strong demand from those MPCs will keep us going for a long, long time.

Eric Holcomb

All right. Thanks, Jay. With that, operator, we’re going to open up the lines to Q&A.

Operator

[Operator Instructions] And the first question comes from John Kim with BMO.

John Kim

[Technical Difficulty] prepared remarks, the impact of mortgage rates on home sales. But I was wondering if you could talk about the impact it’s had on land values and land sales? And in particular, at Bridgeland the price per acre went up 16% sequentially in the face of rising mortgage rates. And so can you comment on, was this due to the mix of the land that was sold during the quarter? And also remind us when those prices were negotiated.

David O’Reilly

Great question, John. And John, welcome. Welcome to the call and welcome to coverage as Howard Hughes, we’re grateful to have you. It’s an excellent question. And I would tell you that in my view, the largest driver of what has seen us show strength in land sales, not just in the number of acres, but in price per acre, is what we see is a meaningful supply-demand imbalance as it relates to finished lots and land in the home — in the hands of homebuilders.

And they are — even with slower home sales, as we mentioned in our prepared remarks, they are still playing catch-up to get to an inventory level that they feel comfortable with, and an inventory level that we want them to have so that they have enough product on the ground to sell. As a result, the demand has not tapered, and the results this quarter and for the first half of this year, I think, demonstrate that, that there are a lot of homebuilders out there within our communities and a lot of homebuyers moving to our communities that want to be there, and they’re willing to pay that price to be there. And that has translated into a great price per acre of our residential land.

John Kim

Can you give us an indication of where price breaker will be for the remainder of the year? Or is that continue to increase or the price growth to decelerate or any other guidance you can provide?

David O’Reilly

Look, we don’t provide guidance on price per acre and certainly not on a quarterly basis. There’s just too much volatility in there relative to superpads or custom lots that could skew that data a little bit higher, a little bit lower. Look, I feel really good that the pricing that we’ve achieved year-to-date is pricing that we should expect to see for the rest of the year, in general I’m not going to say exactly down to the dollar, but I feel very good that what we’ve achieved to date is illustrative of what the value of our land is and it’s not a onetime event.

John Kim

Okay. Moving to condo sales. The margins on the condos that were closed this quarter was relatively low at 8%. And I know that’s specific to the one project A’ali’i — sorry, I’ll put you the name. I was wondering if you could comment on margins at Victoria Place and Ko’ula and how that compares to what you closed during the second quarter.

David O’Reilly

Yes. So John, I think that the 8% headline that you probably pulled from the income statement includes a couple of one-timers that are associated with the remediation efforts at Waiea. And on Page 8 of the supplemental, if you pull out that footnote E, it highlights the $2.7 million of the expenses were associated with that. And the actual margin, when you back out that one-timer was just north of 20%, which is more consistent with expectations, albeit perhaps even lower than what we’re expecting to see on these new towers. We’ve always targeted an average margin across the entire Ward Village portfolio of approximately 30%, and we still think that we’re going to be able to achieve that on a go-forward basis.

John Kim

Great. And then my final question is on the joint venture with Discovery, and you expanded it at Summerlin, where are those 54 acres? Where are they located?

David O’Reilly

They are directly sell, and they’re connected through an internal road within the main gates of the Summit. So it’s actually part of the overall community. It’s not a separate area or a separate gate or a separate entrance. It’s all connected, and we’re able to incorporate it in a pretty seamless way. That land that we’ve just closed on in the joint venture with Discovery is in the process of getting final plan approval. We’re hopeful to get that at the end of ’22, which would allow us to start officially contracting those live, selling and closing them late this year, early next year.

Operator

And the next question comes from Alexander Goldfarb with Piper Sandler.

Alexander Goldfarb

So David, on the land sale business, obviously, that’s a key part of Howard Hughes’ value creation. You spoke about return to seasonality, you spoke about the homebuilder shortages, trying to catch up on inventory, price appreciation and that home sales are back to 2019. Are — I guess as best as your crystal ball is, is — do you think the existing environment is sort of where you see a normalization, like from here, you would say, hey, as far as we can see, this looks to be where we’re leveling out? Or do you see a change going on, meaning if mortgage rates rise further, inflation continues that eventually this could curtail the impact of people moving into your MPCs, buying homes, et cetera?

David O’Reilly

Look, it’s really difficult for me to prognosticate where mortgage rates are going to be for the rest of the year, where inflation is going to be for the rest of the year, what the Federal Reserve is going to do and what that impact will be on home sales? What I’m very comfortable prognosticating is how our communities and our MPCs sit within their regions, and how attractive they remain relative to quality of life and affordability. We still see meaningful in-migration from the coast from the Northeast, Pacific Northwest and Midwest into Summerlin, into Bridgeland. And some of those folks that are leaving California are getting twice the house for half the money, and I honestly don’t think that those buyers are concerned with a 5.5% mortgage rate or a 3.5% mortgage rate because they’re making that quality of life trade. And that’s remained consistent. And I think that our relative positioning or relative affordability and the quality of life that we can offer within our communities is appealing to buyers despite higher home costs despite higher mortgage costs, and that’s translated into our financial results year-to-date.

Alexander Goldfarb

And then do you have a breakout or maybe an updated breakout of in-migration to your communities versus people moving into your communities from the local market and how that’s?

David O’Reilly

That moves quarter-to-quarter. I would say we’re still seeing north of 25% in Summerlin, slightly lower percentage in Bridgeland and a much lower percentage in the Woodland Hills, which is more of a starter home community. Typically, the more local buyer than an immigration there. But it still remains very strong. And we’re excited to appeal to those potential buyers and welcome those new residents into our communities that just — not just help generate land sales in MPC EBT, but they eventually shop in the centers, they rent office space in our buildings, and they contribute to the overall vibrancy of our community, and therefore the overall financial results of Howard Hughes.

Alexander Goldfarb

Okay. And then, Carlos, a question on accounting, always a fun topic. A lot of your floating rate debt, I believe, is tied around the construction loans that you used to fund development, that interest gets capitalized. Obviously, rates are rising. So how does this rising rates on your floating rate debt that’s tied to development — how does that impact the balance sheet in any way? Is that higher capitalized interest? Is that low — I mean, I’m just sort of curious how it really manifests in the P&L?

Carlos Olea

Right. Thank you, Alex. So yes, the floating rate debt on construction projects ends up being capitalized to the balance sheet basis. So when we ultimately, if you look at our development line, that’s where you see it, while it’s under construction and then when it gets placed in service, those entries will carry over to the land and building components that we have on the balance sheet. So for our construction projects, we’re really not carrying that risk on the income statement because it gets capitalized to the balance sheet and the future basis of the assets.

David O’Reilly

Where it does potentially impact us, Alex, is that it could reduce the yield on cost of these assets that we have under development. With that said, we have always projected our future interest cost and how much of that, that gets capitalized into the asset value, which is a relatively small amount to the overall construction side, using our best estimate of the forward curve. Historically speaking, we’ve almost always overestimated our interest cost on our construction project, and these most recent projects are actually coming in right around pro forma. So I think the conservative nature under the way that we modeled it has insulated us from changing any yield on cost as it relates to rising rates.

Operator

And the next question comes from Anthony Paolone with JPMorgan.

Anthony Paolone

I guess, start with the land sales part of the business. So I understand the normalization of seasonality, and also the comps against like superpad and stuff like that. But David, can you talk maybe just about what the builder behavior has been in, say, like the recent weeks or months? Because it seems like some of the broader housing data points have slowed considerably on a real-time basis here. And so just trying to understand if there’s any real shift that you’re seeing?

David O’Reilly

Yes. We’re having real-time dialogue with all of our builders and all of our communities. And all of the conversations to a company have been that they still remain excited and they still want to close on the land and the lots that we have available to sell. They still have a spot where they are undersupplied finished lots, they’re undersupplied lands in Summerlin and our land sales to date and what I expect our land sales to be for the balance of the year, really we’ll get them back to equilibrium.

It has been just so hot for 2 years that we have been scrambling to get them finished lots and land and accelerating that to the best we can. And unfortunately, we couldn’t quite keep up all the way. And this year, we’re going to be able to get that back to a steady state. I would tell you that the homebuilders are — they like us, report quarterly, and they’re worried about quarterly results, but they’re also thinking about where that product is going to come, not just next quarter, but next year. And they have to start thinking about those land acquisition decisions today to make sure that they’re ahead of it.

Anthony Paolone

So would it be fair to say that sort of the catch-up in your communities is going to kind of offset what broadly we’re seeing as kind of things slowing down?

David O’Reilly

Yes. I think nationally, a slower home sales absolutely consistent. And yes, we’ve seen fewer home sales in our communities. I still think that our communities have outperformed, not just the national averages, but the overall broader markets that they sit in, and we expect that outperformance to continue.

Anthony Paolone

Okay. And then on the builder participation side, does that go the other way if home sale prices come out to be lower? Like could you be on the hook for anything? Or is it just upside?

David O’Reilly

It’s a one-way option. It’s a little bit of schmuck insurance that when we get in an environment like this, where home prices are rising as fast as they are, that we’re getting paid an appropriate amount for our land, which is a considerable value component of why people are paying that much for the home. It’s the location that it’s in.

Anthony Paolone

Got it. Okay. And then on Douglas Ranch, does anything change in the way you think about spending there or operating it, if you end up with 90% versus, say 50?

David O’Reilly

No, not at all. Our strategy remains consistent regardless of our ownership percentage. We’re in it for the long haul. We’re in it for the long-term net asset value creation that developing a master planned community can deliver. And if we own 10% or 100%, our philosophy doesn’t change.

Anthony Paolone

Okay. And then just last one, just related to the expanded deal with Discovery. It seems like that that’s been pretty successful in Summerlin. Is there opportunity to do more with them in other MPCs of yours? Or this is what they do really just more germane to Summerlin?

David O’Reilly

I think there are some limited rifle-shot opportunities where we could continue to collaborate and partner and we have those discussions real time.

Operator

And the next question comes from Peter Abramowitz with Jefferies.

Peter Abramowitz

I just want to ask about your multifamily portfolio. Do you track rent-to-income ratios? If so, could you quantify that? And just talk about how your resident base is kind of be able to absorb these rent increases?

David O’Reilly

Peter, it’s a great question. And it is something we do track the average income and the median income of our tenants all the time. And it’s shocking that most of our properties are approaching triple-digit average income. And even though we have some meaningful rate increases across our portfolio, for the vast majority of our residents remains affordable. Those at the lower end of the spectrum, those that are in that to 40,000 to 60,000 average annual income, those are the watchlist tenants. Those are the ones that we have to keep an eye on. And if this recession potentially materializes the way it could, that could be the segment of the population that feels this heart that the inflationary pressures impact that segment of our population more dramatically than others, and that’s the area that we are keeping a very close eye on.

Peter Abramowitz

Got it. So I guess do you have a number for your rent-to-income ratio — or I guess, what is the average income of your multifamily customer?

David O’Reilly

We don’t publish it across the portfolio.

Peter Abramowitz

Okay. And I guess, what about the — you don’t publish the average income number either?

David O’Reilly

No, no.

Peter Abramowitz

Okay. Got it. And then my second question is on the Seaport. So I guess it looks like at Pier 17 historic district you basically breakeven quarter, before isolating that from the Tin Building. I guess, how much of that is seasonality and the events that are going on there, can you kind of continue to maintain that momentum and improve? Or is that something that is specific to the summer season you might expect it to take a step back in the remainder of the year?

David O’Reilly

No. Historically speaking, the Seaport has been a highly seasonal asset. And having summer concert series and activations and people out on the Pier drives better results in the warmer months, no doubt about it. I think the amount of volatility we’ve seen driven by seasonality, historically speaking, has been greater because there’s been less of the consistent recurring income since we have not leased that 80,000-plus square feet on Pier 17. I think with each incremental office lease we signed and whether that was ESPN, Nike and now Alexander Wang, that percentage or that impact of that seasonality starts to diminish. And if we’re able to get a little bit more leasing done and get that fourth floor, the Pier put away, that seasonality adjustment will become a much smaller portion of what we expect to see over time.

Operator

And the next question comes from Hamed Khorsand with BWS Financial.

Hamed Khorsand

First question was, could you just talk about the reason for G&A dropping from last year? It seems like quite a bit of a drop.

Carlos Olea

Yes, sure. So we — there were some onetime items in the prior period in our G&A. But then we’ve also just with the increase in our development pipeline would become more of that — more of our internal costs have been allocated to development projects ending up on our balance sheet instead of our G&A as they are related to the construction of those projects.

Hamed Khorsand

And are you just going to be capitalizing costs from here on?

Carlos Olea

Well, it is driven by the development pipeline. So it’s strictly related to that and to the activity on our MPC. So I can tell you there will always be a significant component that gets capitalized as direct cost to the development projects. How much that is exactly, it’s hard to tell, but it will always be correlated to our pipeline and our investment in our MPCs.

Hamed Khorsand

Okay. And then related to the Summit, could you just remind us on how the JV works with the land that you’re providing and what kind of income you’re expecting now that you’re providing more land to the Summit?

David O’Reilly

So we provide land on a fixed price per acre. Through the waterfall, we get our capital back, our implied price per acre. We get a preferred return. Discovery gets their capital, they multiple their capital and then we split the profits after that. The long-term implied price of — or long-term profitability of that will be dependent on what we sell per acre. And when we first started out at the Summit, we were selling lots at $2 million to $4 million per acre. And that number has crept up over the past couple of years to $8 million to $12 million. So I don’t want to kind of set expectations on what we could achieve since we haven’t sold any of those lots yet in the second phase yet. And I think there’s some meaningful pent-up demand because we have such limited inventory left in Phase 1 of the Summit.

Hamed Khorsand

And my last question was any change in your Douglas Ranch time line for development?

David O’Reilly

No, I think everything remains on pace. We’re in the process of getting all the infrastructure done to contract those first 1,000 lots and start hopefully building homes in the next year or so. Everything remains on track. We’re still looking at some early commercial development there and whether that’s a grocery-anchored center, a modest single-family for rent community or multifamily, I think that will be next after we get those first 1,000 homes on the ground or so.

Operator

And the next question is a follow-up from Anthony Paolone with JPMorgan.

Anthony Paolone

I just had a couple more, if I could. At the Seaport, we saw sort of the flywheel effect of getting events and stuff like that back going again. How would you characterize what you saw there on the managed side with events and the restaurants and such versus what you think it would look like on a stabilized basis? Like did you get there in the second quarter? Or is there still more to go?

David O’Reilly

I’d hate to say that we’ve hit the pinnacle of what we’re able to achieve with the Seaport. I don’t want to limit the team’s imagination nor mine. I still think that we have the opportunity to do better to be more efficient. I think that the margins right now are tighter than they have historically been because the increased cost of labor, the increased cost of food. But we do think that we are getting to a spot where people are starting to recognize this as a wonderful entertainment and culinary destination in Manhattan. And I think that will only be further exemplified when we open up the Tin Building. And that’s an asset here in the Seaport District that will just fuel more and more traffic. So I think that we can do better. I think we have room to continue to stabilize these restaurants, drive better revenue per foot, higher margins. And this is a great glimpse into the road map of what could be long term.

Anthony Paolone

Got it. And then second one, on the buyback, should we anticipate an additional authorization? And then also, Carlos, you outlined sort of liquidity that if you want to do more, you got the liquidity to do it. But if you do decide to do more, should we anticipate you’re doing something less somewhere else in the business or any other asset sales to consider to fund it?

Carlos Olea

Well, Tony, as we said in the prepared remarks, we have — we still have the $15 million left. So we can exercise that remaining authority. But I mean, to your point though, if we were to decide to do more of a buyback, would we have to do less of something else. Yes, I mean, with cash being a finite resource, we would have to go through that process that I described where we determine what’s going to give us the highest risk-adjusted return. And if it is buybacks and that does mean that we pass on some of the other options that we were evaluating.

Anthony Paolone

Okay. But it doesn’t sound like there’s anything that’s been lined up on that front quite yet?

David O’Reilly

Yes. Again, that’s a board discussion that we have all the time. And to the extent that in our next discussion with the Board, we reauthorize a new buyback, we’ll communicate it expeditiously.

Operator

And the next question comes from Alex Barrón with Housing Research Center.

Alex Barron

I wanted to ask some builders have discussed in their second quarter call that they’ve started to try to renegotiate land deals or walk away from some land options, others that they’re starting to cut prices and increased incentives. Have you guys had those types of conversations or had any builders try to renegotiate any of the land deals?

David O’Reilly

We don’t have options, so that we don’t take that type of risk. And we have not had any discussions to date of changing any pricing per lot or per acre with any of our builders.

Operator

And as that was the last question, I would like to return the floor to David O’Reilly for any closing comments.

David O’Reilly

Appreciate everyone’s participation today. Thank you for continuing to follow the Howard Hughes Corporation. We look forward to seeing you on our future investor relation events and future conference calls. And of course, if there’s any questions or concerns in between here and there, we’re always available to help. Thank you, again.

Operator

Thank you. The conference has now concluded. Thank you for attending today’s presentation. You may now disconnect your lines.



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