Ares Commercial Real Estate Corp (ACRE) 2018 Q2 法說會逐字稿

Good morning, and welcome to the Ares Commercial Real Estate Corporation's Conference Call to discuss the company's second quarter 2018 earnings results. As a reminder, this conference is being recorded on July 26, 2018. I will now turn the call over to Veronica Mendiola from Investor Relations. Please go ahead.

Thank you, Brian. Good morning, and thank you for joining us on today's conference call. I'm joined today by our CEO, Jamie Henderson; our CFO Tae-Sik Yoon; and Carl Drake and John Stilmar from Investor Relations.

In addition to our press release and the 10-Q that we filed with the SEC, we have posted an earnings presentation under the Investor Resources section of our website at www.arescre.com.

Before we begin, I want to remind you that -- everyone that comments made during the course of this conference call and webcast and the accompanying documents contain forward-looking statements and are subject to risks and uncertainties. Many of these forward-looking statements can be identified by the use of words such as anticipate, believe, expect, intend, will should, may and similar expressions. These forward-looking statements are based on management's expectations of market conditions and management's judgment. These statements are not guarantees of future performance, condition or results and involve a number of risks and uncertainties. The company's actual results could differ materially from those expressed in the forward-looking statements as a result of a number of factors including those listed in its the SEC filings. Ares Commercial Real Estate Corporation assumes no obligation to update any such forward-looking statements. During this conference call, we will refer to certain non-GAAP financial measures. We use these as measures of operating performance and these measures should not be considered in isolation from or as a substitute for measures prepared in accordance with generally accepted accounting principles. These measures may not be comparable to like titled measures used by other companies.

I will now turn the call over to Jamie Henderson who will begin with our second quarter highlights.

Thank you, Veronica. Good morning, everyone, and thanks for joining our call today. Let me start with some high-level commentary on our second quarter results.

We reported another strong quarter as we continue to benefit from recent profitability improvement initiatives and our predominantly match funded floating rate investment portfolio. For the second quarter, we generated GAAP and core earnings of $0.33 and $0.35 per share, up 39% and 46% respectively from the same period last year.

Our earnings benefited from a higher averaged portfolio balance as we more efficiently redeployed repaid capital into loans with attractive risk-adjusted returns. In addition, we continue to enjoy the benefits of our senior floating rate portfolio strategy as LIBOR increases drove incremental earnings during the second quarter.

And finally, the reduced cost of our liabilities also contributed to our year-over-year growth in earnings.

Given the higher level of earnings that we have obtained we are increasing our quarterly dividend by $0.01 for the second time this year. Our third quarter dividend will be $0.29 per share. Our ability to redeploy capital more efficiently and remain more fully invested underscores the progress we are making to broaden our product mix and leverage our national coverage in market segments that may be less efficiently covered by the competition.

During the second quarter, we originated 5 new loan commitments for $215 million across a variety of property types. Consistent with our current portfolio, the new loans closed were primarily senior floating rate loans, supplemented by select junior capital investments.

The largest loan we originated was a $68 million senior loan to finance the acquisition of a portfolio of hotels with strong brand affiliation, located in attractive markets throughout the Pacific Northwest. The loan will support a high-quality sponsors plan -- business plan to improve common areas and room interiors in order to increase revenues.

During our diligence process, we work closely with the Ares Real Estate private equity team and leverage their knowledge and insights into this hospitality brand and market segment. A real estate equity team has extensive experience in acquiring and repositioning hotels, and has owned over 38,000 key since inception.

Having started the year essentially fully invested, the team has done a nice job of matching new investments to repayments. Throughout the second quarter, our loan commitments totaled $310 million with approximately $257 million in fundings, which is in line with our repayments of approximately $238 million.

In addition, our anticipated gross levered returns on our new loans remain consistent with returns on repaid loans within our targeted levels of low double digits.

Commercial real estate fundamentals remain strong with healthy macroeconomic tailwinds. While the market remains very competitive, we are finding attractive new investments through our platform advantages, broad reach and geographic coverage. We're off to a strong start in the third quarter having executed $160 million in term sheets and transactions expected to close in the next few months.

I will now turn the call over to Tae-Sik to discuss our second quarter results in further details.

Great. Thank you, Jamie, and good morning, everyone. Earlier today, we reported GAAP net income of $9.3 million or $0.33 per common share, and core earnings of $10.1 million or $0.35 per common share for the second quarter of 2018.

Our core earnings increased by $0.11 per common share versus the comparable period for 2017, and this was really driven by 3 primary factors. First, we held approximately $300 million more in interest earning assets during the second quarter of 2018 versus the same period last year due to increased loan production. Second, as you know, we significantly reduced the overall cost over $110 million term loan in late 2017. We are seeing the earnings benefit from the lower cost of this liability come through in the first half of 2018.

And finally, as we have spoken about this in the past, our balance sheet is well positioned to take advantage of rising short-term interest rates. And as expected, we experienced an approximate $0.03 per common share lift to our core earnings in the second quarter of 2018 as 1 month LIBOR increased approximately 90 basis points year-over-year.

As far as repayment activity during the second quarter 2018, it was relatively light at $92 million. However, as some of these repayments occurred prior to their stated maturities, we did recognize approximately $0.02 per common share in the second quarter 2018 from accelerating remaining unamortized fees.

For the first half of 2018, loan repayments totaled $238 million. Going forward, we do expect heavier repayment activity in the second half of this year with aggregate repayments for 2018 exceeding prior year levels.

Our investment portfolio continues to perform well with no impairments or realized losses. However, as we have discussed previously as a commercial real estate lender primarily focused on working with borrowers under value-added business plans, we do expect to experience loan defaults from time to time. Accordingly, we diligently underwrite and structure our loans with these risks in mind. And in addition, as part of Ares' management, we have the in-house experience, staff and capabilities to manage defaulted loans and if necessary take back properties and manage them.

As described in our 10-Q filed earlier today, we have one senior loan with the principal balance of $38.6 million collateralized by a nationally branded full-service hotel that is in maturity default. The loan was due in early June 2018, and we continue to work with the borrowers on this loan. We have evaluated the loan for impairment and have concluded that no charge or reserve is necessary as of June 30, 2018. Our conclusion is based on a multitude of factors including collateral value, for which we have recently received an updated appraisal and an assessment of property cash flows.

As of the most recent financial reports we have received, the hotel property continues to generate positive cash flow, sufficient to pay regular interest due on the loan. Regular interest on the loan is current as of June 30, 2018, and we have not put the loan on nonaccrual status.

Finally, as Jamie mentioned earlier, our board declared a further midyear increase to our quarterly dividend to $0.29 per common share for third quarter 2018. This dividend will be payable on October 16, 2018, to stockholders of record as of September 28, 2018.

And so with that, I will turn the call back over to Jamie for some closing remarks.

Thanks, Tae-Sik. In closing, we have generated 2 really strong quarters of earnings thus far in 2018. And these positive earnings drivers should remain in place going forward. While we expect to experience more repayments during the second half of the year, we believe that the steps that we are taking to broaden our investments scope, expand our market coverage and further leverage the capabilities of the broader Ares platforms have improved our ability to reinvest our repayments and maintain a nearly fully invested status.

Looking forward, we feel really good about the operational progress that we have made. We feel that we have more operational and investment efficiencies that we can capitalize on gradually over time. We like our market position as a nimble, middle-market lender with a well-diversified portfolio of nearly all senior floating rate and short-duration loans that we believe will perform well over different economic environments. With that, I would like to now ask the operator to please open the line for questions and answers.

(Operator Instructions) And our first question today comes from Steve Delaney with JMP Securities.

I was wondering if you would just comment, Jamie, on your appetite or you need for growth capital at this point. It strikes me that you guys are in a really good place right now in terms of replacing runoff and staying reasonably invested. But just curious how you see, looking out over the next 6 to 12 months, the opportunity in front of you versus your existing capital base?

Steve, thanks very much. That's a great question, and we get that question pretty frequently. Clearly, we aspire to grow. We really like our position right now as -- with regards to not having an enormous weight of capital to deploy. We think it allows us to pick our spots very nimbly, and I think the team has done an excellent job of matching really good new originations of proceeds from repayments. And I think we've always reiterated to the market that as we come to the market to raise new capital, we'll do it in a way that doesn't dilute our existing shareholders.

You're being clear on that for sure. And -- so it -- they're obviously, a lot of instruments out there we're seeing active in the market, so it seems that you do have some opportunity for incremental financing if you wish to choose it, but I can appreciate your being disciplined and not putting growth ahead of profitability.

Maybe, Tae-Sik, this is probably best directed to you. Like the penny at a time kind of dividend strategy, I think it probably serves you better over time then one big lump sum pop in the dividend. I wondered if you can comment though, since your earnings have moved significantly higher, how are you running in terms of distributions against your year-to-date and projected taxable income that you will have for this full year. And if you are under distributed, what are your thoughts about how you will meet the distribution requirement going forward?

Sure, Steven, thanks for your question. No, you're absolutely right. As a REIT, we obviously do have distribution requirements based upon our taxable income, not based upon our GAAP income. We have also said in the past that our taxable income for the most part is pretty close to our GAAP income as well as our cash flow. So there's not a big disparity. We've obviously, so far in the year, have significantly out earned our dividend both in terms of GAAP income and core earnings income. We haven't fully assessed our taxable income, but it's pretty much in line with again, with the GAAP and core measures. So I think under the REIT laws, we do have some flexibility as to how we treat dividends, we do have some flexibility as to so called roll over potential, some of the taxable income that we might have. But we do obviously very much bear in mind the requirements under the REIT laws to make sure that we're in full compliance with that. Having said all that, I think the dividends that we want to set for the company are very much driven by management and then, of course, the board's approval and their viewpoint on the outlook of our earnings stream going forward.

So clearly, we have experienced very good growth in our earnings, and that's what led to the increase in the dividend midyear, which again was the second increase this year having raised it for the first quarter of 2018. And I think on a go-forward basis, we have a number of tools to manage the REIT requirements, some of which would be to roll over the gains, some of which to make special distributions or onetime distributions, some of which would be to obviously increase dividends overall. So there's a number of options we have. We have all that obviously, in mind. I think you're asking a very insightful question. But I do think that our dividend policy -- our regular dividend policy is very much based upon our assessment of our earnings potential and outlook.

Next question comes from Stephen Laws with Raymond James.

Tae-Sik, I guess, I appreciate the comments on the maturity default that was -- going to ask about that, so I appreciate you providing color there. To touch on the leverage and the maturity, can you talk about where your comparable operating portfolio leverage? Are you looking to maybe increase leverage in the third quarter ahead of the October scheduled repayments? Or kind of how are you thinking about the chunk of capital that comes back in October and that'll need to be redeployed?

Great. Thank you for participating on our call this morning. It's a very good question. I think in terms of leverage, when we talk generically about leverage and then more specifically about -- your question about would we look to potentially leverage up a little bit more in anticipation of the 2 large loans that are coming due in early October. So in terms of our overall leverage policy, I think we have said in the past that our goal is to be more or less plus or minus 3:1 debt to equity. I think you'll see that fluctuate as we have more production, as we have some other repayments, also will depend upon the type of loans we do. One of the reasons I think we're at the higher end of that range, right now we ended the quarter -- second quarter at 3.2 debt to activity, is because we're, again, 97% senior, and all of the warehouse financing, all of our CLO financing, all of our term-loan financing is all on balance sheet. So unlike doing a lot of mezzanine or B-Notes, where the embedded debt that you may be subordinate to is not on your balance sheet. When you're doing a senior loan, all of the debt that's ahead of you in terms of warehouse facilities securitization is on balance sheet. So I just want to make that clear that it's not always an apple-to-apple comparison when you look at another balance sheet that may appear less leveraged, but that may be because they have more subordinate loans that don't consolidate the underlying leverage.

So again, 97% senior loan and therefore, virtually all of the senior debt ahead of us is on balance sheet. So with that, we are at 3.2:1, which to us is a comfortable level. I think that is our target level, and that is where we find -- we think we generate the best-enhanced level of levered returns without undue risk on our financing facilities. The second thing just to mention is that we've been very steadfast in maintaining a match-funded balance sheet. Meaning that we match fund in terms of both interest rate risk as well as term. So 99% of our assets are floating rate,100% of our liabilities are floating rate, and they're both indexed to U.S. 1 month LIBOR. So very well match-funded. That really gives rise to what we had mentioned before about us benefiting from rising LIBOR rates because we are so well match-funded on our assets and liabilities.

The second way, we obviously, match fund is the term of the assets and liabilities. The average weighted term of our assets is to under 2 years, the weighted average life of our liabilities is 2.7 years. So again, we want to make that our liabilities don't come due before the maturity of our assets. And then really the third general policy, if you want to call it with respect to leverage, is that we will lever different debt to activity depending on the type of assets as well as type of facilities. So we will use higher leverage when we have done securitizations. So our last securitizations, FL3, we were slightly better than 4:1 debt to activity, which is higher than what we would normally do at 3:1. However, very low cost of financing, nonrecourse match-funded really meant that -- and the type of assets that we put in as collateral were very much cash flowing multifamily focused with a good diversity base. So in those kind of situations we would be more comfortable taking leverage up to that 4:1 level or has your typical warehouse line, your typical loan facility, I think that 3:1 level is an appropriate level of debt to activity.

So having said all that in response to your more specific questions about would we lever more in anticipation, the answer is yes, but not fully. No, we're not going to lever up the balance sheet to 4:1 in anticipation of a loan coming due and find ourselves in a difficult position, if that doesn't happen. But, again, our goal is to remain as fully invested without taking undue risk. So would we look to lever up a little more than we would otherwise? The answer is yes. So that we can stay ahead of anticipated repayments, but we're not going to lever up to anticipate the full repayment in October for example.

Great. I appreciate it...

Sorry for the long answer.

No, it's a great color. I appreciate it, given the financing capacity that you guys break out in your supplemental, it certainly seems like that allows you the flexibility to manage your pipeline and repayments in a way to keep capital fully deployed at close to the target leverage. So that's great. Maybe a broader question, Jamie, can you talk about sourcing and what you're seeing on competition out there, maybe where you're seeing the best opportunities, I assume it's outside of the top 10 MSAs. And clearly, looks like multifamily and office remain the 2 biggest exposures, but are there particular asset classes you like or property types that you like or don't like in the market today?

Sure. Thank you, Steve. And I wanted to also thank you for your coverage. We're really happy to have Raymond James on board. So, I guess, I'll take that in a couple of parts. The market is competitive. That's no secret, I think, you're going to hear that across the board on the competitors' earnings calls. But we'll say, we think we've built a material competitive advantage into our platform. And Ares through the years has invested very heavily in building out a regional office system. We have origination offices both in debt equity in New York, Chicago, Los Angeles, Dallas, Atlanta, and we have a small outpost in Washington D.C. We think that, that's a really intrinsic advantage. It gives us a much broader coverage of the mid-market space where we transact. I think if you looked at our portfolio, it's somewhat different than a lot of the competitors in terms of where we land and the size of the deals that we do, and our average loan balance is between $40 million and $50 million, and we've somewhat systematically avoided the very large loan space in the gateway cities. Not to say that's a bad strategy, it's just a different strategy. So we feel pretty good about our ability to source deals, maybe get a little better coverage in markets where the competition's less active. Strong ground game, I think, leads to better credit outcomes for us. With regard to the composition of our portfolio, you can see it's heavily weighted to multi and office. We like both those asset classes. And I think the rest of the portfolio is really well diversified into asset classes where we're going to take less exposures, and also really well diversified geographically.

Your next question comes from Doug Harter with Crédit Suisse.

Just first on the one maturity default. I was wondering if you could give us any sense of timeline as to resolution on that.

Sure, Doug, thanks for your question. So as we mentioned, the maturity default just happened, the loan was due in early June. So there hasn't been a lot of time and distance since the maturity default. We're obviously working very closely with the borrower on this situation. This is a situation where this is a hotel that underwent a fairly extensive room renovation, some common area renovation, and it has not yet restabilized coming out of that renovation. We, of course, are evaluating all of our options. As we mentioned, as a value-add transitional senior lender, we're very focused on making sure that we have all of our rights in the documents. As we mentioned, we have very strong management capabilities, special serving capabilities embedded within the areas management, real estate management operations. So we feel we're very well positioned to make sure we exercise all remedies. Obviously, one of the options is to modify and give the borrower more time, another option is to possibly seek to take back the asset. There are a lot of different avenues that we can go down. As far as your specific question of timeline, I don't think I can really give you anything more specific. I think, again, as we mentioned, the loan is current, the property is cash flowing. So the regular interest payment on the loan is current and has been current, and we anticipate that it'll continue to perform better or at least at that level. But as far as timeline of when we would have ultimate resolution, I think that's a little bit too early to kind of give you any more specifics.

And then, I guess, if we could just look out -- I guess, you talked about a couple of big maturities in October, but just the outlook for maturities and your comfort with the, kind of, credit quality given that maturity schedule?

Sure. So as I mentioned, we've had $238 million of loan repayments for the first half of this year, which was pretty much average for what we've experienced the last couple of years. I think we have seen some further likely repayments come to fruition than we did earlier this year. I think earlier this year, we had thought that our total repayments for the year would be about average that we've experienced in the last couple of years around $600 million to $700 million. I think we now see that the repayments in the second half of 2018 -- we think it's going to be greater. We don't know for sure, of course. It's not based upon so much stated maturity other than some of the loans that we talked about. But we are finding that some of the loans that don't actually come to mature, second half this year, have accelerated their business plans, and so that there's an increased likelihood of repayment. And that's why we mentioned that right now that we do expect heavier repayment in the second half versus the first half and that, that aggregate for 2018 will exceed or likely to exceed prior year levels. But I think that's probably a good statement with respect to credit because we believe that the business plans that these assets are experiencing are basically trending ahead of time.

And Doug, this is Jamie, I'll just add to that a little bit. As you know, historically, 4 quarter has been very strong originations quarter for us. We don't see that changing this quarter, and we've also invested heavily in beefing up the originations staff in adding in geographies where we were underrepresented. So we're investing upfront in anticipation of getting these repayments.

Your next question comes from Rick Shane with JPMorgan.

When we look at Slide 4. The implication of Slide 4 in terms of the floating rate fixed rate mix is that the portfolio should -- the yield on the portfolio should have a beta of almost 1 to LIBOR. And the reality is that over the last 12 months, where we have good data, the beta to LIBOR's been about half of that. And I think everybody understands the competitive pressures that have driven that. My question is the following. Given where you are right now, the fact that there is significant reinvestment need and the potential significant reinvestment need in the second half of the year, how do you weigh the idea as you start to approach book value, again, in terms of multiple of the benefits of scale versus the opportunity to maximize returns by being a little bit smaller in the current environment?

Sure. Rick, this is Tae-Sik. Maybe I'll take the first part of the question and maybe throw over the second part of the question over to Jamie. As far as how we're position relative to a rising LIBOR, as you know I'm not -- I obviously, didn't -- haven't seen the map behind the 50% sort of correlation that you referred to. But as I mentioned, when we have experienced a hypothetical 100 basis points rise in LIBOR, we would anticipate about $0.13 increase in our core earnings, which if you divide that by our book value of $14.70 in change, it's around 90 basis points. So it may not be quite 100%, but I think you'll see it's significantly higher than I think the 50% that you mentioned. And in fact, on the last 12 months quarter-to-quarter, second quarter '17 to second quarter '18, it's been about a 90 basis points increase in LIBOR. As we mentioned for the quarter, we experienced about a $0.03 increase in our earnings. Again, if you were to annualize that, I think, it would be closer to that 90 basis point increase in ROE based upon the increase in LIBOR. And, again, that's because as you said virtually all of our assets are floating rate, all indexed to U.S. 1-month LIBOR, there are no floors in place, and all of our liabilities are also, again, floating rate LIBOR all indexed to 1-month LIBOR.

Got it. So my back on the envelope math is literally looking at the 40 to 50 basis points increase in all-in yield on the portfolio versus the 100 basis point increase in LIBOR. I attribute the ROE enhancement to more efficient financing in part because you have less undrawn, and also because you've been able to lower your financing cost. It's interesting, you're right, they get you round up to some extent where the interest rate sensitivity would suggest, but I think it's been more -- my instinct is that it's more liability driven than asset driven in fact.

Got it. No, I think, I understand your math. I think the difference between our portfolio unlevered effective yield as you mentioned, the 40 to 50 there, that's partly offset then by a little less spread on the assets because that 6.8% all-in asset yield as you'll see as of 2Q 2018 that's a combination of LIBOR plus asset spread. So you're right, LIBOR's increased 90 and some of that has been offset by decreases in the asset yield in the borrowing spread.

And Rick, just to build upon that. I think that's been deliberate on our part, I think we've maintained quite a lot of credit discipline. And we see every single deal that the competition sees for the most part, and we've elected not to really reach for yield. And I'm thrilled that our portfolio is almost entirely floating rate first mortgages. I think it's a great place to be at this point in the cycle, particularly, in a rising rate environment. We're seeing the accretion every single quarter. With regard to your second question -- I'm sorry, go ahead.

oh, no, go ahead. I -- yes, that's what I wanted to circle to. Go ahead please, sorry.

And I think if I understood your question it's, how do you weigh the benefits of scale versus having excess capital in a competitive market. Is that -- I just want to make sure I'm answering the right question.

That's exactly and I realize the irony of me asking that question because I've been asking about building scale on the balance sheet for so long.

Yes, so once again, I'm really happy with where we sit because it's -- we're in a very managed controlled environment in terms of how much capital we need to deploy. We've invested a lot into people and the process to allow us to be more efficient in our deployment. When and if we elect to go to the capital markets and raise capital, it'll be done in a way that's nondilutive, and it'll be done at a time when we feel we can efficiently and rapidly invest the capital. Once we grow our capital base, as you all know, it's very accretive to earnings because it more efficiently absorbs the fixed overheads.

Next question comes from Jade Rahmani with KBW.

What are your thoughts around M&A? Are there any interesting potential combination opportunities? And without being specific, could you characterize the thematically whether they would expand into additional business lines, complementary areas, diversification-type strategies or would it be more expansion of what you're currently doing?

Thanks, Jade. I'll start and maybe Tae-Sik can finish. One of the great things of being inside Ares is we see enormous amounts of deal flow. We have -- Ares has a big primary equity business. We have dedicated strategy team that does nothing but analyze and digest acquisition -- merger and acquisition opportunities. The team is incredibly capable, and it's a huge resource for Tae-Sik and I to quickly get to the bottom of deals we see -- I would say we see everything that's coming through intermediaries, and we see a heck of a lot off-market flow as well. So, I guess, I'll answer your question by saying, we look at everything, we're very, very active in the review of deals all the time, I mean it's a big part of what Tae-Sik and I do. And that being said, we will only pull the trigger to the extent that we think it's accretive. We see people paying in a pretty hefty multiples for platforms, and we -- I'll say it like this, we look at everything, we analyze almost everything, but we're extremely deliberate in discipline with regard to pulling the trigger.

Just on the credit trends more broadly. Anything you're seeing in the market that gives you pause. Starting to see a couple of credit issues in the space just -- that seem one-off in nature, but in a benign environment just wanted to see if you've noticed any changes in the credit trends?

So I wouldn't say noticing anything material in terms of credit trends. I don't see anything structural or secular. Look, the U.S. macro picture is really good. I think unemployment claims are at close to a 50 year low, that's absolutely remarkable. A healthy consumer is a massive driver of GDP. GDP growth is excellent. Real GDP growth is probably approaching its best point in the cycle. Corporate earnings are really strong with limited exceptions. So the drivers of healthy commercial real estate are all in place. It's good wind at our backs. Supply is pretty much in check. The cost of coming out of the ground now is pretty high and that helps to mitigate new supply. I don't see ramp in abuses of leverage. Don't really see the equity trying to consume excess leverage, and don't see the capital markets providing excess leverage. SO generally speaking, I think it's pretty balance. In this business, there's always going to be onesie, twosies, I mean it's just the nature of the statistical probability of having one-off credit incidents if -- in a large portfolio. It happens. The real way to look at it in my opinion is does the manager have the in-house capability of not only managing through that situation but owning and operating and fixing the real estate if they had to.

Just on the hotel maturity default, what submarket is that in? And can you say what hotel flag that is?

Our policy is generally to let the -- is to really give the state. So as you'll see in our list of loans, you see that this property is located in New York. Really can't be more specific than that, but it is in the state of New York. And as far as flag, as I mentioned it's a very well known, nationally branded flag, one that, obviously, everybody would be very, very well familiar with, but again, our policy is not to give more specifics on that.

But a good vibrant market, good flag.

Is the loan in one of the CMBSs?

No.

Was it securitized? No? Okay.

No.

And then just looking at the repayment outlook for the rest of the year. Do you anticipate the self-storage loan that matures in October to repay?

Sure. So as you can imagine we're in regular communications with the borrower, and the borrower has indicated to us that they do plan and anticipate repayment at maturity. It's also noteworthy that the information we're getting about the self-storage asset themselves, they continue to perform well. We have, in fact, seen slight tick ups in occupancy at the portfolios. So we think the -- that the portfolio is readily refinanceable. Again, it's good to see continued steady improvements of the properties themselves. But again, the answer to your question based upon our communications with the borrower, we do anticipate a repayment at maturity, but we'll obviously, have more further information on that.

Great. And there any other loans that you think are at risk of missing scheduled maturity repayment in the second half of the year?

No, no. There's nothing on the so called watch list that would indicate. In fact, as I mentioned, I think if anything we're seeing an acceleration of repayments, really in the opposite direction.

And just back to the hotel. It sounds from your remarks, not sure if I'm misinterpreting, but that there's a slight bias toward potentially taking back the asset. This is the first time I've heard you guys emphasizing Ares' special servicing capabilities, ability to own assets and fix real estate. I mean as -- where as in the self-storage case previously, I don't think you were focused on that, you were focused on restructuring the loan. Is that a correct interpretation?

No. We're in the business of lending money and getting money back from at the end of the loan. That's our primary business. We are not a loan-to-own shop, but it's important to understand that we're very capable in the event that we needed to own something. Our great equity business at Ares with a loan track record, very successful track record of value-add equity investing, including hotels. So that's never our goal, but God forbid, if that came to pass, we're extremely well equipped to deal with it.

(Operator Instructions) Our next question comes from Ken Bruce from Bank of America Merrill Lynch.

My questions are going to be revisiting some earlier ones, one from Rick and I think one from Steve and/or combination of the two. I guess, as we've looked out over the past year or so you've seen some margin compression that has occurred and as was pointed out, some of that's been offset by better funding. I guess, as you're looking into the back half of the year where you do have some accelerated repayments, what are your thoughts in terms of your ability to continue to maintain the economics in the business generally like they are. And do you see any potential risk for margin compression as you look forward?

Ken, it's Jamie Henderson. Thank you, that's a great question. So, I guess, I'll take that in two parts. Number one, it's really hard to guess where the capital markets are going to be and where spreads are going to be in the future. I will say it feels to us like there's been slowing in the rate of compression over the course of the last few quarters. And I look at where we're reinvesting proceeds versus where the ROEs of those loans that are paying off, it's pretty close. So that feels really good. I think it's no secret that spreads have come in. But I think on balance, both the originations team and Tae-Sik's managing our liabilities has done a great job of preserving solid NIMs.

And then, I guess, the other kind of the adjunct question is, to the degree that you do see margin compression, I think Tae-Sik had alluded to being willing to take up leverage to offset that. Did I interpret that correctly?

Ken, I'm sorry if that was misunderstanding. No, I think our goal with respect to leverage is to lower the cost of leverage, all right. And I think you've seen a increase in our leverage versus a year ago because we have simply put out the capital at the levels -- at the 3:1 target debt-to-equity levels, but increase in the leverage from a year ago wasn't due to spread compression, but it was due to us targeting a certain level of return using leverage to enhance those overall returns. So it's not due to spread compression, but it's really, again, I think our overall business plan to really be at 3:1. And when you saw us a year ago at 2.5:1 or lower 2:1, it was because we were under deployed. And obviously, what we always want to do is invest in our equity capital first and then lever up from there. So it wasn't due to lower spreads on our assets, it was greater production that led to the higher 3:1 debt-to-equity ratios.

So we have the capacity but we're -- we've been very disciplined in the application of leverage.

Right. No, I -- maybe I didn't ask the question properly. So we've seen a lot of capital come in to certain sectors, that's obviously led to some level of margin compression. You've, kind of, talked about earlier in the call just how your asset sensitivity has been essentially benefiting you as rates have risen, but as we can think through that the math it would look like there is some pressure on the overall economics of the business. And one of the ways that you've been able to content with that is obviously, reduce your funding cost, but also use some of the structures to improve overall leverage. So the CLO would be an example of that. So I'm trying to understand if -- what you're willingness is to continue to do that to generate the -- similar returns in the business, which is I think is important as you kind of get through the heavy reinvestment schedule in order to -- since we still have still that stability in -- of dividend and dividend coverage.

And so I would answer it like this. I think we are blessed with an exceptional capital markets team that is able to source, kind of -- very, very good leverage for us. And we've also proven that we can use state of the art CLO technology that allows us very attractive reinvestment periods. And when I look at some of the other CLOs coming to the market, I don't see that same structural benefit. So we're fully equipped. It's just -- we, basically spend a lot of time determining how to optimize. And right now we feel pretty good about where we sit, but we do have additional capacity if we elect to use it.

Next question comes from Ben Zucker with BTIG.

All of them were pretty much asked and answered. But from a high level, what do you think it might take to bring back some of the positive momentum that we saw in the stock during the first part of the year? I think on the last conference call, you identified execution in earnings consistency as some of the keys to success. And Jamie, I'm just curious if you think that's still the case today?

Yes. So thank you, Ben, that's a great question, and we've been very clear about our objective to drive profitability through better execution, and not through taking excess risk or applying excess leverage. I think the team has done a great job of delivering on that. And we finished Q4 last year effectively fully invested. We've maintained that level of investment at attractive returns through Q1 and Q2. We're generating really solid, consistent higher level of earnings. So I think it's -- and we're steadily raising the dividend. Those are great outcomes, and those are in line with what we told the market. So in terms of velocity of the stock, when I look at it -- how some of the comps are trading, I see what I think a really attractive value in ACRE.

I definitely hear you on that Jamie. And as a quick follow-up are there any thoughts about whether a new investment type might help the story. I think the CMBS, the B-pieces in that market can generate unleveraged yields in the mid-teens. So that always seems like a good place for our credit focus shop to maybe earn some outsized returns on its capital. What are your guys thoughts on that market and investment type?

So we have the luxury of being able to take a relative value approach in terms of our primary business, which is floating rate first mortgages. We're still seeing really good relative value there. You can see that the company's earnings are increasing, and we're more or less sticking to our knitting with regard to that line of business. But we also have full capabilities at Ares to add other elements to the portfolio if we see relative value. So we're -- we have a team at Ares dedicated solely to B-piece investing. And we have large team dedicated solely to equity investing. So if we saw a relative value or when we see relative value in those sectors. And furthermore, we have full teams on the ground in Europe that are buying, improving and cash flowing equity real estate. So it's a fairly simple matter for us to lend over there when and if we see relative value. So we're relative value shop, and we have a great seat to look at all forms of real estate investment. And when and if we see good relative value outside of our historic primary lines of business, we'll transact.

At this time, this will conclude today's question-and-answer session. I'd like to turn the conference back over to Jamie Henderson for any closing remarks.

Thanks so much. I want to thank you all for your time today. I really appreciate it, great questions. And we look forward to speaking to you again in a few months on our next earnings call.

Ladies and gentlemen, this concludes our conference call for today. If you've missed any part of today's call, an archived replay of this conference call will be available approximately 1 hour after the end of this call through August 9, 2018, to domestic callers by dialing 1 (877) 344-7529 and to international callers by dialing 1 (412) 317-0088.

For all replays, please reference conference number 10121856. An archived replay will be -- also be available on a webcast link located on the homepage of the Investors Resources section of our website.