04/27/22 08:09 PM EDT

INVH 1Q22 RESULTS | ROC ROLLING OVER EVERYWHERE | 4.27.22 | (INVH, AMH)

Rob Simone, CFA

Takeaway: Not a great looking quarter relative to expectations or from a RoC perspective - separate from our core short thesis

Hedgeye Chart of the Day: Quad 4-Effed

Ticker: INVH

Subsector: Single-Family Rentals

Headline: On an absolute basis 1Q22 was fine, just not relative to expectations or on RoC

We are going to start here with what we think matters, putting the quarterly financials to the side for a moment. We view the quarter as a disappointment, separate and apart from the core of our short thesis around the permitting issue.
First, the company did not raise its outlook for the year, which as we saw with Best Idea Long EQR is just not going to cut it in this market, especially not for a company with expectations this high and that just caught a string of Old Wall upgrades + PT increases over the past few weeks heading into earnings.
Second, the second derivative on same store blended leasing spreads flipped negative in 1Q, driven primarily by a decel in the RoC on renewals and an outright acceleration to the downside on new lease spreads. In a world where we believe expectations were for renewal spreads to continue accelerating on a lag and converging to new lease spreads, it appears possible that renewal rate increases are in the process of topping. This is bad for a company running at historically low turnover rates. The negative second derivative for the forward-looking blended metric is not great for forward internal growth expectations, and y/y comparisons only get tougher from here. In our view tenant composition and credit quality offers INVH and the rest of SFR much less leeway vs. Apartments to raise rates in the face of a rising cost of living.
Third, SSRev growth decelerated sequentially, SSExp growth accelerated sequentially, and SSNOI growth decelerated sequentially on a "Core" basis. Not great all around.
Fourth, while the overall same store bad debt expense improved -30bps y/y as a % of gross rental revenue vs. our -35bp assumption, something is clearly going on in California. California stood out for its sequential core revenue decline, and we wonder if it is due to higher delinquency / COVID relief fund issues seen elsewhere in residential. Look for more color on the call hopefully. In general, we are of the opinion that INVH is in a place right now where it cannot be as aggressive on rent increase in California, a market comprising just under ~20% of NOI. As a reminder, AMH has essentially eliminated its California exposure, which from the beginning we viewed as an asset.
We have said from the beginning that we saw much less, if any, upside to FY22 numbers for INVH relative to AMH, and post-1Q we think growth expectations need to be dialed back.
While we do not expect management to address the permitting issue in any meaningful way, we hope that some intelligent questions are asked on the call tomorrow. A few suggestions for the bold: (1) what are your thoughts on the potential for additional complaints to be filed in other states, (2) can you state publicly and for posterity that directing GCs to not obtain necessary permitting and "to just get the work done" is not a company-wide policy, (3) can you confirm exactly when the company was made aware of the lawsuit, (4) can you layout expected "one-time" or "non-recurring" legal expenses related to litigating this case, (5) do your regional property / asset management teams keep accurate records of all permitting and other "data tape" items, (6) if so, has that data been transmitted to the court, (7) if not, why would you not do that, (8) can you confirm whether or not GC contracts contain "reciprocal clauses" preventing INVH from disclaiming its obligation to make sure homes are properly permitted and in code, (9) can you opine on whether CA municipalities have actually "declined" to participate, or whether they are actually in a "legal holding pattern, and (10) can you publicly state the percentage of your renovation projects that are "high touch," require over ~$50k of investment per home and whether you have made sure that work for these projects was performed by licensed contractors?" Just a few ideas...