ARI
#Thank you, operator.
Good morning, and thank you all for joining us on the ARI first quarter 2017 earnings call.
As usual, joining me this morning are <UNK> <UNK>, the Chief Investment Officer of our manager; and <UNK> <UNK>, our CFO.
Following the successful common stock offering completed at the end of 2016, the first quarter of 2017 represented ARI's most active quarter to-date in terms of capital deployment.
The company committed to over $450 million of new commercial real estate loans and funded an incremental $115 million for previously closed loans.
Notably, the capital invested was primarily deployed in floating-rate first mortgage loans across a broad spectrum of property types and geographies.
As we indicated on our last quarter's call, first quarter operating earnings were always going to be impacted by the capital raised from both the sale of the remaining AMTG assets and the year-end stock offering.
However, given the pipeline of opportunities available for ARI, we felt it was appropriate to generate additional investable capital.
The robust pace of deployment during the first quarter speaks to the breadth of ARI's origination platform, though from a timing perspective, most of the investments closed during the latter half of the first quarter.
As I have previously stated, each of ARI's investments is a bespoke transaction and we frequently do not have control over the timing of closings.
Therefore, our investment activity tends to be lumpy.
The ARI dividend policy has always taken into account operating earnings with a multi-quarter perspective, and we continue to maintain our confidence in ARI's ability to provide a well-covered attractive dividend to our investors in 2017.
Looking specifically at the Q1 investments, ARI remains focused predominantly on floating-rate first mortgage loans.
At quarter end, 88% of ARI's loan portfolio was invested in floating-rate loans and our pipeline remains weighted toward LIBOR floaters, which leaves ARI well positioned for the anticipated rise in short-term rates.
It is worth noting that included in ARI's robust Q1 deployment was the origination of 4 loans secured by hotels.
Overall, ARI's net exposure to hotels in light of some expected repayments should not change much.
However, it is worth using our recent hotel loan originations as an example of ARI's ability to find attractive risk-adjusted opportunities and to utilize the broader Apollo platform in support of our efforts.
During much of 2016, there was pervasive negative sentiment around the hotel sector and this was reflected in both the weak performance of the hotel stocks and more relevant for us, many lenders pulled back from pursuing and providing hotel loans.
While some of the concern was justified, we continued to actively pursue hotel transactions.
We were able to use the knowledge gained from the hotel investment efforts in our real estate private equity funds, as well as the tremendous amount of experience within the broader Apollo platform to identify several attractive hotel loan investments.
The 4 loans which closed during the quarter are first mortgages on well-capitalized hotels at an attractive basis with lower loan-to-value ratios.
The weighted average LTV across the loans is sub-60% at 58%.
While not critical to our underwritten thesis, since the election in November, the hospitality industry has seen an uptick in performance and expectations which has benefited the underlying properties we financed.
Turning now to our investment portfolio this quarter-end, ARI's loan portfolio totaled $3.2 billion with a fully levered weighted average underwritten IRR of approximately 14% and a weighted average LTV of 63%.
I want to take a minute to discuss ARI's retail exposure as retail has been a very prominent topic in the news lately.
Historically, ARI has generally avoided financing malls.
The collective view of our team, based upon many years of experience is that the outcomes from mall lending and investing can be unpredictable and binary and we strategically sought to avoid that risk.
As such, ARI's exposure to traditional retail is limited to 2 loans totaling $195 million, one for the retail portion of our recently constructed lifestyle center in Cincinnati, Ohio; and the second, a street-level retail condo at (inaudible) location in South Beach at the base of Lincoln Road, which just closed this past quarter.
The remainder of what has typically been described as retail and ARI's loan portfolio, our predevelopment loans totaling approximately $500 million to sponsors who are aggregating properties currently occupied by urban, street-level retail, with a view towards redeveloping the location.
In each of these instances, any changes to the properties cannot take place until our loan is repaid or we agree to finance the next phase of the project.
You will note in our supplemental financial information package this quarter, we reclassified our retail exposure into 2 categories: retail and urban retail flash predevelopment, to clarify what we believe is a meaningful difference in ARI's retail exposure.
Away from the loan portfolio, we continue to trim our CMBS holdings.
During the quarter, we again took advantage of favorable market conditions and sold $69 million of CMBS bonds at prices above where the bonds had previously been marked.
At quarter-end, CMBS represented just 5% of ARI's net equity and we expect the company's investment in CMBS will continue to wind down both as bonds repay and we pursue sales when warranted.
As we look ahead, we believe the current economic climate remains very favorable for our business model.
While recent data indicated commercial real estate transaction volume was down in the first quarter, there is still a healthy level of acquisition refinancing and recapitalization activity which continues to create a strong pipeline of opportunities for ARI.
As always, the market remains competitive, but given what has been accomplished in ARI's 7-plus years as a public company and the strength of Apollo's real estate credit platform, we remain confident in our ability to find investments that meet ARI's target investment criteria.
As always, we will seek to ensure a balance between the investment opportunity and our ability to access attractively priced capital.
And with that, I will turn the call over to <UNK> to review our financial results.
Thank you, <UNK>, and good morning, everyone.
For the first quarter of 2017, our operating earnings were $38.6 million or $0.41 per share, compared to $29.8 million or $0.44 per share in 2016.
GAAP net income for the same period in 2017 was $37.8 million or $0.41 per share, as compared to $12.8 million or $0.18 per share in 2016.
A reconciliation of operating earnings to GAAP net income is available in our earnings release in the Investor Relations section of our website.
Turning to leverage.
We ended the quarter with a 1.2x debt-to-common equity ratio.
During the quarter, we upsized our facility with JPMorgan, increasing our borrowing capacity to $1.1 billion and extended the maturity date to March of 2020.
At quarter-end, we are just under $900 million outstanding on this facility.
Also in April, ARI upsized the Deutsche Bank facility to $450 million plus our asset-specific financing of GBP 45 million.
We have significant capacity available under both credit lines.
While our capital base continues to grow, our G&A expense ratio has essentially remained flat.
Annualized G&A for Q1 as a percentage of equity was 41 basis points, which continues to be one of the lower percentages amongst our peer group.
I also wanted to comment on a recent announcement.
Last week, S&P added ARI to the S&P SmallCap 600 index.
You may have noticed an elevated trading volume in our stock over the past several days, which we believe is correlated to ARI's inclusion in the index.
Finally, I wanted to highlight our dividend.
Based on Monday's closing price, our stock offers an attractive 9.5% yield.
Our board will meet again in mid-June to discuss the Q2 dividend, and we will make an announcement shortly thereafter.
And with that, we'd like to open the line for questions.
Operator, please go ahead.
Yes, Steve, I'll let <UNK> comment.
I mean to be fair, I think the point <UNK> is trying to make, Steve, again, it's deal-by-deal, right.
I mean, there are things that come in that we literally after a quick read of an offering memorandum or a quick conversation with the borrower you completely eliminate for whatever the reason might be and there is other transactions where you dig in and roll up your sleeves.
Some get to the finish line and some do not.
But let's make no ---+ I don't want anybody to equivocate, this is a bottoms-up sort of deep dive underwriting on every transaction that we do.
Yes, it's effectively a cash flow mortgage at this point for all practical purposes.
And I would say, given performance of the underlying asset at this point, it is a low to mid-single digits return on sort of the recast balance.
Yes.
I mean, we are in frequent dialogue.
In some respects, we are playing for time, right.
It's an unlevered asset on our behalf.
So we can hold it on balance sheet as long as we need.
I think the asset I would describe as stable, which is somewhere in the mid- to high 70s, low 80s from an occupancy perspective.
Rents have not moved much.
I would say anecdotally, the commentary around Williston and the Bakken in general has been somewhat more favorable over the last are few months just in terms of rig counts, employment expectations, barrels coming out of the ground.
Beyond what's physically constructed, there are some incremental, both entitled and untitled land that serves as collateral as well.
And I would say there is regular weekly dialogue amongst us, the borrower as well as the on-site property manager in terms of leasing progress, leasing strategies and also maybe, abilities at some point.
Call it in the short to mid-term to maybe monetize some of the excess collateral.
But it's a regular dialogue.
We have fully protected all our contractual rights as a lender.
But I would say at this point, we still view it as a sort of beneficial to working this out to keeping the borrower engaged in working with us and trying to get to a solution.
But to be perfectly candid, this is going to take time.
Look, the one that's on the watch list, so to speak, is the one we just referenced.
I would say, generally speaking, sequentially, no notable trends across the portfolio that sort of in any way materially changes credit performance.
I think at any given point in time, there are always transactions where we are more or less involved with borrowers just sort of an understanding what's going on.
But I would say, generally, across the board, I would describe credit performance as stable.
I would say generally speaking, things are performing modestly better than our underwriting.
Maybe not as strong as what the borrowers would have hoped in terms of their most optimistic operating plans, but our underwritings are always somewhat more conservative to the borrowers' expectations.
So I would say, we're very comfortable with what our underwritten expectations for these strategies were.
I think, depending on the asset type or asset class, I think there has been more or less outperformance relative to underwriting.
But I would say, we're pretty comfortable with the credit profile at this point of what's in the book.
I don't know that I'd couch it by anything along geography.
I think what we've generally found on our predevelopment loans at a high level, is that it typically takes borrowers longer than they initially anticipate to get plans in place, entitlements in place and typically along the way, things change which has ended up being a good thing for us as a borrower, because as long as we are comfortable with the asset protection, we're perfectly happy with the borrower who is longer a significant amount of equity taking somewhat longer to finalize their plans and then move forward quite possibly to take us out of a transaction.
And I think we've found that to be on the predevelopment side an opportunity in terms of us being able to work with borrowers to maybe extend maturity dates, add new collateral to the extent they require additional properties and just keep the economics going for ARI.
I would say, at a high level, no secret that we've tended to have meaningful exposure to the New York condo market pretty consistently for the last 3 or 4 years.
Putting aside the one project that everybody always wants to discuss, which is the Steinway Building.
I would say, for the rest of the stuff we've done in New York, I would generally say that pace of sales and pricing of sales has been as good or slightly better than we would have hoped for, for the stuff that is selling somewhere between the mid-teens to the, call it, the high 2s in terms of price per square foot.
And I would also say, on par, it's taken slightly longer than the developer ---+ for the developer or redeveloper to get there CO or their temporary certificate of occupancy and deliver units so our loans might have been outstanding slightly longer.
So that's sort of good news on the sales side.
Maybe a little longer to develop or redevelop the assets but certainly within a range of underwritten possible outcomes.
So nothing sort of surprising there.
And then I would say, we've tended on the margin not to do an overabundance of, I'd call it, traditional office lease up plays.
But I would say, where we've taken lease up risk on office assets, I would say, the performance has been within the range of expectations, call it as expected.
Yes.
Look, I think the most current update is they are building.
It continues to go up.
They've actually cleared height wise the original Steinway Building, and now they're going with what we call the tower units.
So development continues at pace.
I would say, the marketing office is open but there is really not an aggressive marketing effort at this point.
And depending on estimates, you got another 18 months plus or minus of construction to go.
But it's ---+ construction is continuing as expected.
<UNK>, do you want to comment.
Yes, I think the primary driver of that was probably one of our larger predevelopment loans that we pushed out from '17 to '18.
And again, I'd put that in the category of a good thing for the company.
Good borrower, we're comfortable with the business plan, collateral and certainly had an opportunity to not extend maturity, but it was I think an easy economic decision, an underwriting decision to do that.
I think from a capital plan and the way we think about it, I think our experience over the last 5 or 6 years has been more often than not, some amount of the stated maturities end up getting extended for various reasons.
Given the cycle we've been in over the last 6 years, they've tended to be pretty positive reasons, which is borrower wants to add some additional collateral and expand their business plan.
Borrower wants to rethink through their business plan and is willing to pay up for the ability to extend and they're still strong asset protection.
So we've always sort of somewhat weighted our maturities.
I think in terms of capital plan as we think about it from a high level, we still look at the balance sheet today.
And I'd argue, we're still modestly underlevered relative to what the company could handle from a leverage perspective, certainly given the bigger size of our portfolio today.
And certainly, a first step in that process was expanding the lines with JPMorgan and DB, as <UNK> mentioned, to give us more flexibility.
And then obviously, we've certainly been paying close attention to what's gone on in the capital markets, particularly some of the recent senior secured notes and convertible offerings that have taken place in our space that have been pretty attractive.
That being said, our desire has always been and will continue to be to try and pair up capital as closely as possible to the pipeline.
So we'll let the pipeline sort of drive the capital decisions and at least at this point, the pipeline feels pretty strong.
Look, I think it's certainly on our radar screen.
I agree with you, the bids were spotty.
But I think we've got a platform that's beyond just ARI's continually in the market, which I think increases our chances to find bespoke one-off opportunities to sell pieces.
I think we were very happy with the execution in the first quarter.
We maintained an active dialogue with the Street, vis-\u0102\xa0-vis what we own and what that bids might be.
I think if you look at CMBS over the history of the investment, it's been a fine investment.
I think if you look at the expected return going forward, I still think it makes sense for us to be opportunistic to sell when we can and redeploy that capital as needed.
Again, I think it creates some noise in our operating earnings, which is to be quite honest with you, really just noise and annoyance factor.
If you look at the loss we took in the first quarter, right.
There was no impact from that sale vis-\u0102\xa0-vis book value because we sold it at the mark or slightly above the mark that we were carrying it at.
But we do show a $1 million realized loss, which is at the end of the day, a complete noncash realized loss, because all that is, is matching up historical cost basis versus realized proceeds for an asset that is already mark-to-market in our book value.
But it is what it is.
I think even with that sort of potential noise and operating earnings, I think we're still biased when we can opportunistically sell.
Look, I think at a high level, this is no ---+ meant as no disrespect to the company that's going public tomorrow.
I would say, one additional company or several going public will not dramatically change the competitive landscape.
I think we have felt it has been a competitive landscape for the last 6 years, 7 years that we've been in business.
I think there is clearly proven to be a need for those of us that provide the type of capital we provide in the form of transitional senior mortgages as well as bridge loans.
And I think we've always described the marketplace as competitive for the last 5 or 6 years.
And I would say, we would expect it to remain competitive.
We feel confident in our ability to get capital deployed.
We feel confident in our ability to find transactions that make sense.
We've always expected there would be additional competition in the companies that are hopefully going public tomorrow or in the future are not surprises.
And in some respects, arguably having more companies public in the space might actually be a good thing in terms of equity investor focus and coverage of the space and giving investors more reason to track what's going on in the commercial mortgage REIT public space which has become a small group of companies and we'll probably benefit from having more names in the space.
Operator.
Thank you, Operator, and thanks to everybody for participating this morning.
