Arbor Realty Trust Inc (ABR) 2018 Q1 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the First Quarter 2018 Arbor Realty Trust Earnings Conference Call. (Operator Instructions) And as a reminder, this conference is being recorded.

I would now like to turn the call over to Mr. Paul Elenio, CFO. Sir, you may begin.

Okay. Thank you, and good morning, everyone, and welcome to the quarterly earnings call for Arbor Realty Trust. This morning, we'll discuss the results from the quarter ended March 31, 2018. With me on the call today is Ivan Kaufman, our President and Chief Executive Officer.

Before we begin, I need to inform you that statements made in this earnings call may be deemed forward-looking statements that are subject to risks and uncertainties, including information about possible or assumed future results of our business, financial condition, liquidity, results of operations, plans and objectives. These statements are based on our beliefs, assumptions and expectations of our future performance, taking into account the information currently available to us. Factors that could cause actual results to differ materially from Arbor's expectations in these forward-looking statements are detailed in our SEC reports.

Listeners are cautioned not to place undue reliance on these forward-looking statements, which speak only as of today. Arbor undertakes no obligation to publicly update or revise these forward-looking statements to reflect events or circumstances after today or the occurrences of unanticipated events.

I'll now turn the call over to Arbor's President and CEO, Ivan Kaufman.

Thank you, Paul, and thanks to everyone for joining us on today's call. As you can see from this morning's press release, we started off 2018 with another tremendous quarter, which continues to demonstrate the strength of our brand and the value of our operating franchise.

As a result, I'm extremely pleased to announce that we increased our quarterly dividend from $0.21 to $0.25 a share, a $0.4 and 19% increase from the prior quarter and a 32% increase so far in 2018. This also represents our sixth dividend increase in the last 8 quarters and a 67% increase over that time period. Our dividend is now at an annual run rate of $1 a share. And based on our strong results and outlook for the remainder of the year, we intend to pay a $0.25 quarterly dividend for the rest of the year, and evaluate our earnings performance at that time to determine the timing of our future dividend increases.

This significant increase in our dividend reflects the tremendous success we have achieved from the full integration of our Agency Business acquisition. It has been roughly 2 years since we acquired the Agency Business. And during the integration of that business, we purposely chose to be very conservative in our approach to growing our dividend until we could fully evaluate the significant benefits we would achieve from that acquisition. At this point, it has become very clear that the impact of this business has been exponential and extremely accretive to our earnings, which has greatly exceeded our own expectations.

Now I would want to discuss the reasons why our earnings have been so strong and will continue to grow, and we can maintain our current dividend and evaluate potential opportunities to increase it in the future.

We've experienced tremendous growth in our agency originations volume, which continues to generate strong margins. We produced record agency originations of $4.5 billion last year, which was an increase of 19% from the prior year. With an extremely strong pipeline, we remain confident in our originations volume for the balance of the year.

Additionally, our servicing portfolio has grown 40% since the acquisition, while we have been able to maintain a servicing fee of approximately 48 basis points. This portfolio generates very significant, long-dated, predictable annuity of income of around $80 million gross annually and growing, which is mostly prepayment-protected. This income stream from our servicing portfolio, combined with the fee income we generate from our originations, has created significant diversity and a high level of certainty in our income sources.

Due to the changes in the tax law that have primarily reduced corporate tax rates from 35% to 21%, we will also experience an increase in AFFO of around $0.04 to $0.06 a share annually.

Additionally, with respect to assets on our balance sheet, we've experienced tremendous growth, while other lenders have been seeing reductions in their portfolios. We grew our balance sheet investment portfolio 48% in 2017 and another 5% in the first quarter of 2018. We've also achieved significant economies of scale by substantially reducing our debt cost in all our borrowing facilities, which has allowed us to maintain our margins and generate levered returns in excess of 30 -- 13% in a very competitive market and outperform our peers. And the income generated from these assets is a significant component of our earnings, and we're confident in our ability to continue to grow this income stream.

In the first quarter, we also executed a very successful trade, issuing $100 million of new 5-year unsecured debt on a fixed rate of 5.625%. The proceeds from this issuance were used to repay a 7.375% unsecured debt instrument, which will increase our annual AFFO by approximately $0.02 a share. Again, for all these reasons, we are very comfortable with our current dividend, and we have done a great job in diversifying our income streams and create certainty and growth within our business.

Now I would want to tell you why we are extremely undervalued, and then great investment opportunity at these levels. First, from a historical perspective, prior to the announcement of the acquisition of our agency platform 2 years ago, we were trading at a dividend yield of approximately 9% based on a quarterly dividend of $0.15 a share. Today, with the dollar per share annual dividend, if you apply the same pre-acquisition dividend yield analysis, we should be trading at approximately $11 a share. Furthermore, our dividend is even more valuable today after the new tax law change that has substantially reduced the tax rate on REIT dividends. If you apply this benefit to our historical dividend yield, we should be trading at $12 a share.

On top of that, today, we are a much more valuable company based on a more complete operating franchise, significant and consistent increases to our earnings, our larger market cap, flow and liquidity and a more predictable, stable and long-dated income stream.

We also feel strongly that given our significant operating platform and GSE business, we should be valued at a similar P/E ratio to other public GSE platforms, such as Walker & Dunlop, which will result in a stock price more in the range of $13 to $15.

We have a highly motivated, dedicated senior management team, who are fully aligned with over 30% inside ownership. This is clearly the highest level of inside ownership in this space, and we are very committed to working extremely hard to continue to increase the value of our franchise and maximize the return to our shareholders.

I will now turn the call over to Paul to take you through the financial results.

Okay. Thank you, Ivan. As our press release this morning indicated, we had a very strong first quarter with adjusted AFFO of $23.7 million or $0.28 per share, and our first quarter results reflect an annualized return on average common equity of approximately 12%. As Ivan mentioned, we continue to put up record results, and we are very pleased to have significantly increased our dividend again this quarter another 19% to $0.25 a share.

Looking at our results from our Agency Business. We generated approximately $19 million of income in the first quarter or nearly $1.1 billion in originations and loan sales. The margins on our first quarter sales were 1.71%, including miscellaneous fees compared to a 1.48% all-in margin on our fourth quarter sales, largely due to changes in the mix and size of our loan products, which include more FHA loan sales in the first quarter that produced a much higher margin than other loan products. And we recorded commission expense of approximately 39% on the first quarter gain on sales as compared to 38% on our fourth quarter gains.

We also recorded $19.6 million of mortgage servicing rights income related to $1 billion of committed loans during the first quarter, representing an average mortgage servicing rights rate of around 1.88% compared to 1.77% on our fourth quarter committed loans of $1.2 billion. This is mainly due to some larger loans in the fourth quarter that generally have lower servicing fees.

Sales margins and MSR rates fluctuate primarily by GSE loan type and size. Therefore, changes in the mix of loan origination volumes may increase or decrease these percentages in the future.

Our servicing portfolio also grew another 3% during the quarter to $16.7 billion at March 31 with a weighted average servicing fee of approximately 48 basis points and an estimated remaining life of approximately 8 years. This portfolio will continue to generate a significant predictable annuity of income going forward around $80 million gross annually.

Additionally, early runoff in our servicing book continues to produce prepayment fees related to certain loans that have yield maintenance provisions. This accounted for $3.7 million in prepayment fees in the first quarter and $4.9 million in the fourth quarter. These fees were recorded in the servicing revenue, net of a write-off for the corresponding MSRs in these loans.

We also continue to increase our interest-earning deposits with nearly $500 million of escrow balances, earning slightly less than 1-month LIBOR. These balances provide a natural hedge against rising interest rates, as they will generate significant additional earnings power as rates increase. In fact, for every 1% increase in the interest rate, these deposits could earn an additional $5 million annually or approximately $0.05 a share in additional earnings.

We did have a large onetime noncash income item during the quarter of approximately $12.5 million related to receiving basis on the $50 million of seller financing we repaid, which was recorded as a deferred tax benefit in the first quarter. And as we discussed on our last call, the reduction in corporate tax rates from 35% to 21% will increase our after-tax earnings from the Agency Business, and could contribute as much as an additional $0.04 to $0.06 a share to our AFFO for 2018.

We also had another very strong quarter in our balance sheet lending operation. We grew our investment portfolio of 5% to $2.8 billion on $314 million of new originations, net of approximately $191 million of runoff. This growth continues to increase our core earnings run rate. And we remain extremely confident that through our deep origination network, we would be able to continue to grow our balance sheet investment portfolio in the future.

Our $2.8 billion investment portfolio had an all-in yield of approximately 7.28% at March 31, which is up significantly from a yield of around 6.99% at December 31, mainly due to an increase in LIBOR. The average balance in our core investments increased to $2.7 billion for the first quarter from $2.3 billion for the fourth quarter due to the significant growth we experienced in the first and fourth quarters. And the average yield in these investments was 7.08% for the first quarter compared to 6.94% for the fourth quarter, largely due to an increase in LIBOR, partially offset by lower rates on fourth quarter originations, the full effect of which is reflected in the first quarter.

The debt on our core assets was approximately $2.5 billion at March 31, with an all-in debt cost of approximately 5.09% compared to a debt cost of around 4.83% at December 31, mainly due to an increase in LIBOR. The average balance on our debt facilities increased to approximately $2.3 billion for the first quarter from approximately $1.9 billion for the fourth quarter, primarily due to financing our first quarter growth. And the average cost of funds in our debt facilities was up to 5.33% for the first quarter compared to 4.66% for the fourth quarter, but that's mainly due to $2.4 million of noncash fees we expensed related to the early payoff of our 7 3/8% unsecured debt with our new 5 5/8% unsecured debt instrument as well as from an increase in LIBOR during the quarter.

And as Ivan mentioned earlier, we do expect the replacement of our higher cost unsecured debt with our new low-cost instrument to increase our AFFO by approximately $0.02 a share annually.

Overall, net interest spreads on our core assets on a GAAP basis decreased to 1.77% this quarter compared to 2.28% last quarter, mainly due to the noncash fees expense in the first quarter from the early payoff of the debt. And our overall spot net interest spreads was up to 2.19% at March 31 from 2.16% at December 31. And with approximately 88% of our portfolio comprised of floating rate loans, we will see an increase in our net interest income spreads as interest rates continue to rise in the future.

And lastly, the average leverage ratio on our core lending assets, including the trust preferreds and perpetual preferred stock as equity, was up to approximately 76% in the first quarter from 72% in the fourth quarter, largely due to our new convertible debt offering that closed late in the fourth quarter and our overall debt-to-equity ratio on a spot basis, including the troughs in preferred stock as equity was up to 2.2:1 at March 31 from 2.1:1 at December 31, all due to the issuance of our new 5-year unsecured debt instrument in March, the proceeds of which were used to pay off our higher rate debt in April.

That completes our prepared remarks for this morning, and I'll now turn it back to the operator to take any questions you may have at this time. Operator?

(Operator Instructions) Our first question comes from the line of Jade Rahmani of KBW.

This is actually Ryan on for Jade. Congrats on the strong quarter. Just at a high level, in terms of the overall CRE market, Ivan, how many rate hikes do you think that the market can absorb before we start seeing diminishing credit performance? And I'm not just talking about for Arbor's portfolio, but just your thoughts overall. It seems that we're seeing a trend of decelerating NOI growth. So I think some are concerned that with the rate hikes that the market is forecasting, we can start to see cap rates widen.

So we have, in our portfolio, seen a deceleration of NOI because actually the NOI is above our underwritten forecast even for last year. So while we may not see the kind of growth that we've seen historically in the multifamily sector, there's been a good level of stabilization. Whether that changes in '18 or '19, I'm not sure. Definitely, we've seen a bump in the 10-year, and there should be some level of corresponding change in cap rates. We haven't seen cap rates widen at all yet. And keep in mind, we are, at least I am personally, an active buyer of multifamily assets in the market. And there's still a lot of pressure on cap rates. It hasn't materially changed. So the real question is, when on a multifamily sector are we going to see rents soften and vacancies soften? '18 looks very solid at the moment. The rise in interest rates, we bumped over 3. We settled back down on the 10-year. That's been offset a little bit by tightening of spreads. I think spreads came in about 50 basis points. So there's been about a -- we estimate about a 50 basis point widening in borrowing costs on fixed rate debt, and we haven't seen that much at this point. So that's our overall view.

Okay. And just in terms of the overall market for Fannie Mae in the quarter, it looks like, for the marketing end, Fannie Mae delivery volumes were a bit soft, particularly in February and March. It looks like the weakness may have been timing related, partially due to the outsized January volumes a year ago, due to the caps. But just wondering what your thoughts were on the outlook for Fannie Mae being more competitive for the remainder of the year.

Well, I think what you saw in the first quarter was people were a little bit in shock, and a lot of the refis maybe people kicked down the road as rates jumped up and we're in the 3 level. So that might have stalled volume. Overall, the market's extremely competitive. I do believe the agency is going to come in. Maybe the market's 5% to 10% smaller than it was last year, so perhaps the agencies will be 5% to 10% less than they were last year.

Okay. And just finally, can you discuss the current liquidity position and how you approach capital issuance, and maybe just remind us of what target leverage is? It looks like the way we calculated debt to adjusted common equity is around 3x today, but looking at the balance sheet for the structure business in particular would imply higher leverage for that business. So I'm just wondering what your thoughts are on that and liquidity today.

I think we evaluate our pipeline. We have a pretty good-sized pipeline, but that changes as we move forward, and then also changes based on the leverage that we're able to obtain in the marketplace. Paul, you have any comment on that?

No, I think that's right. The leverage we've been hovering around, Ryan, is pretty much where we've had it. We've been up a little bit because of the convert we mentioned that we did last quarter. But to me, that's in lieu of equity. But I think the leverage we've been obtaining on the borrowing for our assets has been pretty consistent, and I think that leverage probably holds because I think Ivan's right on the rest of the pipeline is where it is. We've got some big numbers in the pipeline, and then it changes as we go. So right now, we're in really good shape from a pipeline perspective. And from a leverage perspective, we really like the leverage we're at.

Our next question comes from the line of Rich Shane of JPMorgan.

When looking at our model, one place where we see some variances in terms of employee expenses in the first quarter, there was a pretty significant jump sequentially. I'm curious if there's anything seasonal related to bonuses or stock comp that we need to be thinking about there as we refine those estimates going forward.

Sure. It's Paul. And there were some things that were seasonal. The biggest item was that every first quarter of the year, we do our annual stock ramps to our employees and to the board. So that hit the numbers in the first quarter. It ends up in those G&A -- in those comp and G&A numbers pretty significantly. And then also, every year, at this time, you have the FICA reset or the fringe reset for FICA. So FICA was up a lot in the first quarter, then we think will settle back in, in the second quarter as people hit the FICA cap after they get their bonuses after the first quarter. So that does run off in the first quarter a little bit more than you'll see in the other quarters. So those are the 2 items that are kind of seasonal and not really reflective in future quarters.

Our next question comes from the line of Steve Delaney of JMP Securities.

Ivan, I'd like to pick up on your conversation with Ryan a minute ago. And it doesn't seem unreasonable with GSE. Agency volumes might be down 5% to 10%, but, I guess, the question I would have for you is, if that's the case, do you think your volumes would be down 5% or so? Or do you think you have the ability to gain market share and either have flat or possibly even higher agency volumes this year?

Well, I think that we operate in many different business lines. And clearly, the growth of our structured business is a little ahead of where we thought. We're pretty confident where our pipeline is. We do a lot of small loans, which is a little bit more resilient to where volumes are. Our sales force kind of is pretty ingrained. It's holding its own and possibly growing market share. We've also started certain new lines of business. We started a single-family rental program, which I don't know if you saw we're one of, I think, just people to be approved by Freddie Mac, and we're entering that market space. So I think given the nature of our business, given the fact of how organic our salespeople are and our clients, we feel pretty comfortable with where our pipeline is even in a shrinking market to be able to outpace the rest of the market.

Okay, that's helpful. And it kind of ties into my next question. The volume was down a little bit sequentially, but you guys actually made more money in the first quarter than you did in the fourth quarter. And the growth -- the gain on sale margin higher obviously was the driver. The FHA business and the conduit lending business, are those products that you expect some fairly consistent activity in? And I'm just curious if that activity, which we haven't seen quite as much of in the past, is this the result of any new hires or programs that you've put in place in recent quarters?

Yes. I mean, we've put a big investment into our FHA platform, and it takes a long time for those loans to go through the system. We do expect a significant growth on a percentage basis over last year. The CMBS business is not a real income driver. It's more an accommodation to our customers, and it keeps our sales guys in the fray with our -- in the business sector. That's not something that really contributes dramatically in overall business. Getting back to your other comment, our business with Fannie Mae as a percentage of where they were off in their first quarter of where we're slightly off. We're way ahead of where they were off. So I think they were off maybe 20%, 25% relative to the prior quarter. I'll get those exact numbers. We...

That's 35% year-over-year.

Yes. So if you look at our numbers, we're only up about 10%. So getting to where your market share is with Fannie Mae, we've grown our market share with them. So the numbers speak for themselves.

Yes. Okay, great. And just one final thing. Paul, I had to step away from the desk right as you were talking about escrow balances. And if you gave a figure for what your current escrow balances are running, I missed that, so if you could share that, that would be helpful.

Sure. They're running around $500 million right now. So -- and that's a number we have. And we've been hovering around there, and we expect that to grow over time. And as we've talked about, Steve, in the past, it's a great natural hedge against interest rates rising because we're earning pretty much a little bit less than LIBOR. And as rates continue to rise, I think that can be a meaningful contributor to our earnings.

Yes, no question. We'll make sure that's in -- that we have that linked to 30-day LIBOR going forward with a little discount.

Our next question comes from the line of Ben Zucker of BTIG.

I think that general consistency in your volumes from the seasonally strong fourth quarter to the seasonally weak 1Q was pretty interesting. We've always heard that the small balanced borrower is much less sensitive to changes in interest rates than a larger loan borrower. So could you comment on what the market feels like right now? And specifically, I'm much more interested in your thoughts on the borrower for your GSE SPC loans rather than your comments on bridge loan demand.

Sure. I do believe that our delivery to Freddie Mac for the first quarter are ahead of the pace that they were last year. So that business continues to grow. And I believe we're going to do more Freddie Mac SBLs in 2018 than we did in 2017. So I think it speaks to that bar being a little bit more consistent in the market, more resilient. But more importantly what we're seeing with the growth of that borrower is that they're continuing to grow that portfolio. And their loyalty is very, very deep with Arbor. So those clients are growing. We're growing with them, a little less sensitive to interest rate movements than other borrowers. So that's always been our strategy, and it's paid off for us.

And Ben, it's Paul. I mean, you talked about the first quarter from last year. And I think we all know that the first quarter from last year had some spillover from the prior year from the cap issues. And so to me, I look at the first quarter versus the fourth quarter, and they were almost identical, a little bit down. So we are not seeing significant reductions at all right now in the volumes. So we're actually pretty pleased the way we are. And if we were able to duplicate this number for the next few quarters, then time will tell what we do up and down. We would come in, in line maybe even above what we did last year. So that's what we're targeting.

That's very helpful, Paul. Could you quickly talk about the $42 million or so of CRE loans that you originated that were not the typical bridge product? I checked the 10-Q quickly and, I guess, these were preferred equity-type investments. But could you just give some color on these loans? Are these stand-alone preferred equity? Or are they kind of contiguous with the senior loan you guys also provided?

Yes, we do, as we've talked about in the past, where probably 90% of our book is senior debt. The other 10% is mezzanine and P/E. We did have one loan during the quarter that was a P/E investment. The rest were all bridge loans. As Ivan will tell you, we do traffic in that space as well, and provide liquidity to our borrowers in those areas. It's not a huge part of our book, but it is about 10% of our book. So this quarter, we had less than that, but we had one loan that was a P/E investment.

We saw a repeat borrower, who we've been doing business with for 10 years. And I'm very comfortable with that particular borrower, a New York City asset, which we're pretty pleased about. So it's not something we do every quarter. It's part of our lines of business that we do, that we're very active with.

Yes. Just part of offering the full suite of products for your borrowers? And then just real quickly, as cleanup, I feel like I have to ask this, but based on the new dividend level, $0.25 per quarter, would it be fair to assume that on a forward 4-quarter basis that you would expect to earn at least $1 in AFFO? And I ask this understanding that the GSE business will have its natural fluctuations. So the earnings trend might not be linear necessarily, but just generally speaking.

Sure. I mean, both Paul and I will -- we're very, very comfortable with that on a go-forward basis. And we still feel there are a lot of different avenues from the company. Just like each quarter, we come out with ways where we'll save money, whether it be through issuing debt or taxes or whatever. So we're real comfortable with that. We're comfortable with where our pipeline is. We're 4 months into the year with actually a pipeline. So we kind of know where we are for the next 2 months, which we've taken care of half of the year. So we wouldn't have done that to be aggressive. We did that in the same manner that we raised our dividend historically.

Yes. And I want to echo that thought from Ivan. Ben, we do not give guidance on our numbers, as you know, but we never would have put the dividend at $0.25 if we didn't feel extremely confident that we will earn at least that number, if not more. So we certainly are very, very confident in that number. That's not a number we're growing into. That's a number we have. And so I'm very confident with that.

Well, I think that investors should be very happy to hear that. So congrats on another strong quarter and an impressive dividend increase.

And we do have a follow-up question from the line of Jade Rahmani of KBW.

Just on headcount, can you say how that's trended in over the past few quarters or year in both the structured and agency side, maybe how many originators you have on the balance sheet business and how many brokers you have on the GSE side?

Paul will give you the numbers, but I want to state my overall philosophy, what I'd like to accomplish this year. Up until this year, the whole industry has grown dramatically, and we've grown at a rate of at least 20% per year. This is going to be the first year where the rest of the industry should be somewhat flat to declining. I am hoping that we should be able to achieve certain economies through not having to chase our people and pay extraordinary amounts to retain people in any environment. So the benefit you get to a flat to declining industry is the opportunity to really take a look at your payroll, take a look at your expenses and tighten them up. But I'll give the numbers back to Paul to deal with.

Sure. So I think the numbers -- and as Ivan said, we're really looking this year to generate significant economies of scale. We've already started that. But the numbers are, on the structured side, we've probably added 8% to 10% increase in headcount year-over-year. On the agency side, it's more like 12% to 14%, but a lot of that has to do with the growth in the servicing portfolio as well. So I think the way we look at this is we're going to get significant economies of scale, both in the structured business at that portfolio, $2.8 billion growth. We will do it obviously with less incremental costs, and we'll get economies of scale there. And as our servicing portfolio continues to grow, you don't need to add one body for every loan you're originating. So obviously, we'll get economies of scale there. So historically, they've been around 8% to 10% on the structured, 12% to 14% on the agency, but I still think we'll be able to do better than that going forward.

Thank you. And at this time, I'm showing no further questions. I'd like to turn the conference back over to Mr. Ivan Kaufman for closing remarks.

All right. Thank you, everybody, for participating in our call. Clearly, it's been an extraordinary quarter for us, and we look forward to a great year. Have a nice day.

Ladies and gentlemen, thank you for your participation in today's conference. This does conclude the program. You may now disconnect. Everyone, have a great day.