Apollo Commercial Real Estate Finance Inc (ARI) 2013 Q4 法說會逐字稿

Good day, ladies and gentlemen. And welcome to the ARI fourth quarter 2013 earnings call. (Operator Instructions).

I would like to remind everyone that today's call is being webcast and recorded. Please note that they are the property of Apollo Commercial Real Estate Finance Incorporated, and that any unauthorized boost broadcast in any form is strictly prohibited. Information about the audio replay of this call is available in our earnings press release. I'd also like to call your attention to the customary safe harbor disclosure in our press release regarding forward-looking statements.

Today's conference call and webcast may include forward-looking statements and projections and we ask that you refer to our most recent filings with the SEC for important factors that could cause actual results to differ materially from these statements and projections. We do not undertake any obligation to update our forward-looking statements or projections unless required by law. To obtain copies of our latest SEC filings please visit our website at www.ApolloREIT.com. or call us at 212-515-3200. At this time, I would like to turn the call over to the Company's Chief Executive Officer, Stuart Rothstein.

Good morning, and thank you for joining us on the Apollo Commercial Real Estate Finance fourth quarter and full year 2013 earnings call. Joining me this morning in New York as usual are Scott Weiner our Chief Investment Officer and Megan Gaul, our Chief Financial Officer. The commercial real estate market had a strong year in 2013 with transaction volume up and operating fundamentals throughout most asset classes showing signs of significant improvement.

Over $355 billion of commercial properties were sold in 2013,a 19% gain in transaction volume from the prior year, and the Moody's Real Capital Analytics National Commercial Property Price Index posted a 15% increase. While core properties in gateway cities showed the strongest demand, capital flows have become more evenly distributed across markets and property types. In most major markets rents have increased and vacancies have decreased boding well for property performance, and given the relative lack of new construction, we expect the positive trends in operating performance to continue.

The commercial real estate debt market is a direct beneficiary of the increase in transaction volume, and as such, US CMBS issuancetotalled $86 billion in 2013, an increase of over 78% from prior year. The market has not shown signs of slowing down, and many anticipate that CMBS issuance will top $100 billion in 2014, as demand for financing remains strong. With respect to the capital markets the volatility in interest rates continues to have minimal impact on the commercial mortgage market.

Pricing on new issue CMBS remains stable, with spreads on ten year, AAA rated new issues at 91 basis points over swaps last week, which is four basis points lower than the 52 week average of swaps plus 95 basis points. The current economic back drop continues to be extremely positive for ARI and as a result the Company has a solid year of operating performance. ARI delivered a 10.4% total return to our common shareholders in 2013, as compared to a negative 2.7% return for the REM mortgage REIT index and 2.5% for the RMZ US REIT index.

The Company deployed over $420 million of equity into $525 million of commercial real estate debt investments with a weighted average internal rate of return of 13%. This is our most active year for new investments since the Company went public in 2009. Our investments consisted of first mortgage loans, subordinate financing and legacy CMBS, and we were diversified across multiple geographies and property types including residential, office, industrial, hospitality, and our first investment in the health care space. Our average loan size was $36 million, and 77% of the loans we originated in 2013 had floating interest rates. Importantly, ARI has become a significant capital partner for several of the largest global investment banks and conduit lenders and a preferred relationship for commercial real estate brokers.

Our ability to originate our own investments as opposed to buying loans in the secondary market, enables ARI to negotiate the most favorable deal structures and economics for the Company. As part of the broader Apollo Commercial Real Estate debt platform, which completed over $2.5 billion of new investments in 2013, the Company has developed a reputation as an innovative, reliable capital solutions provider. We also remained focused on more actively sourcing new transactions through Apollo's global platform.

We completed a $47 million mezzanine transaction, for a health care portfolio in the fourth quarter that was presented to us through a health care finance company acquired by an Apollo affiliate last year, and we now have an active dialog with many borrowers in the health care sector. We also sourced through Apollo our previously announced commitment to make a $50 million investment in KBC Bank Deutschland which is still on track for closing in the first half of 2014 pending final regulatory approval. We are very excited about this transaction, as it is expected to provide us with an attractive return as well as a gateway to the recovering European real estate lending market.

Another area we have experienced success through our relationship with Apollo is our CMBS investing. Apollo on behalf of managed accounts is in the CMBS market on a daily basis, and on occasion comes across opportunities often created by market dislocations for ARI to invest in legacy CMBS that meet the Company's return parameters. In 2013, we identified one such opportunity and invested $30 million of equity into $134 million of legacy CMBS formally rated AAA which have been underwritten to generate an IRR of 13%. In addition, in the fourth quarter, ARI's investment in the Hilton CMBS was repainted par and the Company realized an IRR of 16%.

Turning our attention to our portfolio, as of December 31, the amortized cost of ARI's commercial real estate debt investments totaled $800 million. The portfolio has a levered weighted average under-written IRR of 14.1%, and a weighted average duration of 3.3 years. Importantly, due to our pro-active asset management, the credit quality of our loan portfolio remains stable. We are extremely proud of the progress the Company made in 2013, and we believe that ARI is well positioned for growth in 2014.

To facilitate that growth, we are in the process of expanding our commercial real estate debt team, both in New York, and in London. And plan to establish a dedicated CRE debt team in Europe. Yesterday, we closed an $80 million firstmortgage loan, and our investment pipeline remains robust.

We are looking at a wide variety of transactions both the US and internationally across varying property types as well as within different parts of the capital structure. We are confident in our ability to identify, underwrite, and complete investments that continue to generate consistent returns with prior -- returns consistent with prior investments and consistent with our previously stated return targets for ARI. In growing the Company, we remain focused on protecting book value, and we are continuing to explore several strategies to more effectively use leverage to fund new investments. At this point I would like to turn the call over to Megan to review our financial performance.

Thank you, Stuart. I want to remind everybody that we have posted our supplemental financial information package on our website which contains detailed information about the portfolio as well as ARI's financial performance. For the fourth quarter of 2013, we announced operating earnings of $14.5 million or $0.39 per share, as compared to $7.4 million or $0.27 per share for the same period in 2012.

Net income available to common shareholders for the fourth quarter of 2013 was $14 million or $0.37 per share, as compared to $7.1 million or $0.26 per share for the same period in 2012 also. For the year ended December 31, 2013, the Company reported operating earnings of $51.4 million or $1.44 per share, as compared to $33 million or $1.50 per share, for 2012.

Net income available to common stockholders for the year ended December 31st 2013 was $45 million or $1.26 per share. As compared to $37.1 million or $1.64 per share in 2012. A reconciliation of operating earnings and operating earnings per share, and GAAP net income and GAAP net income per share can be found in our earnings release, contained in the Investor Relations section of our website www.ApolloREIT.com. GAAP book value per share at December 31, 2013 was $16.18, which was unchanged from September 30.

As a reminder we do not mark our loans to market for financial statement purposes. We currently estimate that there's another $0.24 per share of value when our loans are marked to market, and as such estimate our market value per share to be $16.42 at December 31. With respect to repayments, in the first quarter we received a total of $71 million principal repayments from two mezzanine loans and the Company's investment in the Hilton CMBS. In aggregate the Company realized 14% IRRon those investments.

Subsequent to quarter end we received an additional $15 million principle repayment from another mezzanine loan on which the Company also realized a 14% IRR. We continue to operate the Company with low leverage and as of December 31st, our debt-to-equity ratio is 0.4 to one. Subsequent to quarter end, we amended our purchase agreement with Wells Fargo, which we used to finance our AAA rated CMBS for a term of one year and lowered the pricing to libor plus 80 basis points from libor plus 105. We believe our business model remains favorable in this volatile interest rate environment and are confident ARI is well positioned if interest rates [rise]. In addition to minimal use of leverage, 52% of our loan portfolio has floating interest rates at December 31.

Finally, as indicated in our press release the Board of Directors announced a common share dividend for the quarter ended March 31 2014, of $0.40 per share. This is the 15 consecutive quarter of a $0.40 common dividend. Based on yesterday's closing price ARI's stock offers an attractive 9.7% yield. And with that we would like to open the line for questions. Operator?

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

Good morning. Thank you for taking the question. Regarding your deal team comment, can you talk about the number of loan originators you currently have, and where you expect that to get to, is that really the main area in which you are looking to expand?

Hi, it's Scott Weiner. I would say with respect to direct origination and people focused completely on debt, it is over a dozen. But then in addition, as Stuart mentioned, the way that Apollo is set up we have no walls so we have a real estate equity group we work closely with, who helps us identify deals and underwrite them, as well as the health care affiliate. And then within private equity and other parts of Apollo, it's a very integrated business model. So we have a few hundred professionals. Obviously not 100% focused on real estate, but they do come across deals and have plenty of relationships from the co-founders on down.

And so with respect to expanding the team, are you looking to hire loan originators or other types of people?

Yes, I think continue to have people focused on commercial real estate debt. I think the way our business model works is that the way we're structured is that the people working on deals aren't just going out and meeting people and handing them off. We have a model where people stay with the deal from beginning to end. We think that's the model that makes the most sense, to have a client relationship, work on the documentation and the proposals, the legal side. Also work with others on the realty underwriting side.

And then continue on post closing with assisting the asset management. We do have dedicated asset managers, we do have underwriters but we do like our people to stay involved in the deal from beginning to end, and then also through post closing.

Without using the phrase loan originators, Jade, I would say we are adding four people to the real estate debt deal team.

Okay.

So underwriting, analysis, origination, it's all focused on doing more deals in the debt space.

And regarding leverage, can you talk about your comfort with levering the balance sheet, and if you can put parameters around that? And the strategies you are exploring. I think previously you mentioned a revolver, some type of corporate credit facility. And I'm not sure if you still look at the first mortgage portfolio as having too little duration for securitization. There's been some recent deals that have been successful and from peers. What other leverage strategies you are looking at.

I guess taking your questions in reverse, I would say given what we tend to do on the first mortgage side of things either the duration of the more stable stuff, so to speak,or the stuff we have done recently, which I would describe as properties a little bit more in transition. I would not expect a securitization from us, any time soon. That being said, we've been running the Company (inaudible) somewhere between 0.2 or 0.3 turns of leverage now for the better part of a year, and I think whether it is a broad corporate credit facility expanding one of our existing facilities just to provide more leverage, and maybe more buckets for different types of capital. Or perhaps doing something in the public markets either in term loan, or convertible note fashion, I would say we are in one of those good environments now where we seem to have a lot of different options available to us.

And I think for us it's a mix between duration of capital we want to put in place, timing of execution, vis-a-vis when new capital will get invested. And also what works best given where we see likely deployment going forward. I think everything I mentioned is in one form or another available to us. And I think the expectation would be as needed we'll pull the trigger on things over the next quarter or two to give us more capacity to invest.

Great, thank you for taking the questions.

You're welcome. Thanks Jade.

Our next question come from the line of Charles Nabhan with Wells Fargo Securities. Your line is open.

Good morning, and thank you for taking my question. If I can just follow up with Jade's question, regarding the debt team build out, the dozen new employees is that across Europe and the U.S.? Or is that just the U.S.?

What I was referring to, it's not a dozen new employees. It's really a dozen investment professionals focused on deals. Does not include finance, legal, asset management. So it is really a growth, what I would say it's probably four. We do -- we are active in Europe, we have a separate business over in Europe. Apollo that is, both on account of the NTL side and the equity side, which we have levered. We are looking at with the acquisition at KBC as Stewart mentioned earlier, as well as an increase in activity over there, putting some more dedicated people on the ground. But that is still a work in progress. Right now, we worked at being the debt team in conjunction with folks on the ground there, but I do think we are seeing that business come back, both for ARI and our other buckets of capital we will put dedicated people there and continue to do well.

If I could focus on that point for a second. Within Europe do you have any particular geographic focuses right now?

With respect to the performing debt business, which we have talked about ARI being. I would say it is western Europe, the U.K., France, Germany, Netherlands those markets. Apollo is very active the non-performing business as we've said before. We don't have that as a strategy, for the REIT. We view this as a performing fixed income alternative, if you will, generating a current yield.

I guess some of our brethren have done NPLs so we are looking at really pure performing loans.

And I think one (inaudible) -- one of the key, hopefully resolved, of the investments we committed to making into the German bank, is that once that deal is complete, and we begin the relationship and integration with their business over the time, there will be opportunities for ARI coming out of the ability to partner with a German bank that has an appropriate cost of capital to do the senior piece of a financing, and working in conjunction with ARI, you can do a sub-debt piece and provide one-stop shopping to those looking for a full debt stack.

Great, uh --

And also -- I would also say in addition, as I mentioned we are [asked] in a non-performing business, so while ARI would not buy a non-performing portfolio, we certainly have been spending time using that experience and even on deals that we lose the bid on, looking at financing those portfolios for the winner.

Finally, if I can have one more follow up, can you give us a sense of your liquidity position at quarter's end or even at this point in the quarter following the deal you announced post 12/31, and give us a sense for what your capacity is for future investments.

I think given the deal we just announced as part of earnings, I think we have about somewhere between -- in the neighborhood of $50 million to deploy. Depending on some information we have vis-a-vis what has not been presented publicly, so we're given expected, vis-a-vis payments or partial repayments. We are basically one deal away so to speak, of having to do something, and given the pipeline, I would refer back to my comments on leverage as being the path at which we will figure out how to continue to get capital deployed.

Great. Thank you, guys.

You got it.

(Operator Instructions). I'm showing we have a follow up question, from the line of Jade Rahmani from KBW. Your line is open.

Thank you. Can you quantify the earnings impact of pre-payments in the quarter? And also what your expectations for pre-payments would be for the year?

In terms of a quarter, we had one small loan pay off, roughly mid-quarter, which we knew was coming and got the capital redeployed quickly, so I would say the impact was pretty de minimis. I think for the year, it's a little tough to quantify the gross amount of expected pre-payments because I would say there's a couple deals we currently have outstanding right now that we expect to refinance. But in many respects we expect to be part of that refinancing. And keep our position outstanding. In terms of pure repayments, sitting here today you are probably looking at a number that is less than $100 million probably closer to $50 million.

One of our earlier condo conversions jobs is nearing completion, and will start selling and closing units and repaying us we expect toward the middle of the year. That's really the only sizable one. Because obviously there's no refinancing out of that field.

And with respect to the impact of pre-payments, so there was no accelerated, or just recognition of yield maintenance that boosted earnings in the quarter

No.

And then on the origination pace, does the last couple of quarters of origination square well with what you would expect for 2014 or do you think with the additional head count, the pace of origination is likely to increase?

What I'd say is look, it is always tough to be specific on quarters. Though I do think we have established a pattern over the last several of doing bigger, larger deals. So I think -- I think they will -- certainly some of the closings will be lumpier. I think given where we sit right now, in terms of conversations on leverage, and ability to boost the balance sheet a little bit, I think we feel pretty good about our ability to source the capital needed to get deals outstanding.

And given the pipeline, we feel pretty good about what is achievable. Without putting, call it a fine point on it with respect to quarters, I think given what we have done over last, call it, year or so is indicative of where I think we can get to a new investment perspective.

And just on the net lease JVI was wondering if you could make any comment on that. And also one of your competitors mentioned the cash profile of that business, specifically with respect to debt amortization. And that being an inhibitor of the attractiveness of that business within the commercial mortgage REIT format. Can you just comment on how you view that?

Two separate questions I think in terms of the JV,or call can it free option that we established last year, I would say that the dialog is ongoing. I think I have indicated on prior calls, that just because we have a relationship with someone we're not just throwing capital at it. Anything sourced on that front needs to be compared with other opportunities, and I would say given the amount of capital still chasing that lease deal [dog me] right now. we still see better opportunities elsewhere in our business.

At certain times in the market, to the extent you can find long term leases in the right types of assets, there is potential to generate some very attractive returns with duration that is very attractive for a vehicle like this. And I think we continue to think that over some time horizon there might be times to get into that business. There's nothing specific to the asset class from either a depreciation or an amortization perspectivethat would cause us not to continue looking at the space.

Great, thank you.

Our next question comes from the line of Steve DeLaney with JMP Securities. Your line is open.

Good morning, everyone, and thank you for taking my question. Stuart, I apologize if this has been covered. I'm bouncing between two calls. I was wondering if you could comment on what you are existing investment capacity is in terms of -- based on your current cash can flow, and capital base, and that would be a good place to start. And that would be a good place to start. Then I have a follow up. Thanks.

I commented briefly that given the deal we announced as part of the earnings release, I think we have about $50 million left to deploy. I would tell you given what we have in our pipeline right now, that $50 million appears to have been spoken for multiple times. So obviously everything that we're working on in the pipeline is still subject to getting to the finish line. And as I was discussing earlier on the call, I think the path to generating the capital we need to continue investing and continue working through our pipeline is really predicated on adding a little bit more leverage to a company that is today trading at somewhere between 0.2, and 0.3 times leveraged, so very -- no meaningful leverage.

Yes.

And I think the opportunities exist to think about a corporate credit facility, to think about expanding our existing facilityto include different types of collateral, so looking at the public markets either in term loan or convertible note form. Always risk of execution, butI would say at least preliminarily, based on discussions and/or term sheets that have been exchanged, each of those avenues seems like a viable source of additional capital right now. And I think the challenge for myself and Scott is really around timing capital to be brought into the Company when capital gets invested to minimize any earnings drag, and also be thoughtful around the duration of capital that we are adding to the balance sheet as it pertains to the duration of investments that we're making.

That's helpful, and we have previously discussed that you have, unlike some of your peers that are very focused on senior loans and leverage those two-and-a-half, three times, you have very little leverage if any on your senior loans. So that's helpful, and I do think that maybe where you guys have to make this decision, but obviously levering unencumbered assets is obviously a -- seems to be a first step without taking on undue funding risk prior to actually levering capital. But to the extent that you are looking at capital, we are seeing, I think, very nice executions on the convertible notes and we are all benefiting from these continued low interest rates out in the three, five, seven year part of the curve. So I appreciate that, that's helpful.

And lastly the only thing I have is and again, apologies if you mentioned it, but can you give us any update on the timing of your German bank transaction? It seems like early on, last quarter's call, you were saying that regulatory approvals could take some time, almost could be nine to 12 months out, and I am wondering if you have a update for us there.

Yes, look, we are still thinking Q2, by the end of Q2, at least given what we are hearing from the regulators now. Both Scott and I are on regular calls with the broader deal team, just to get an update both on the regulatory environment, as well as the performance of the bank during this period of getting to closing. I think we -- from an operations perspective, we remain pretty encouraged from a performance perspective. And feel very good about the investment that we made. I would rather not be in the business of predicting what is going to happen with German regulatory authorities. Which sounds daunting when I say it, but I would say best guess today would be by the end of Q2.

Well, that's helpful, it is getting closer as we move along. And is there a specific product? We hear a lot about the European market, and less competition, because the banks are in worse shape, and so -- while -- what we are hearing and I appreciate you and Scott commenting on this, is that we are hearing not to necessarily assume that you are going to necessarily get higher yields whether those are unlevered or levered, but that you might get the same yield with a better structure and a lower LTV? Better covenance, that type of thing, just because it's more of a lender's market, than a borrower's market. I'd just be curious if you have gotten far enough along to think about what the lending opportunities are actually going to look like relative to what you see here in the states? Thank you.

Well, remember, it is a bank, so the area that they will be focused on is more akin to what a Wells Fargo focuses on here in the states with their balance sheet. So a different market than what we are or a Blackstone, or a Starwood might focus on in terms of first mortgage. They're going to be more focused on what I would say is lower to moderate leverage cash flowing assets. Europe, really has never had -- well, I shouldn't say never, of late, the CMBS market unlike the U.S. has really not come back.

It's always been a bank dominated market, I would say the banks are certainly coming back. There are still some like an RBS who announced today that they are still shrinking their book, but there are other banks who are coming back. I would say from a senior spread perspective, it is not as you said, going to be wildly different from the bank. I mean the bank is going to be looking to do loans, first mortgage loans in the twos. L-2 somethingin that area, The bank -- the bank business model is not predicated on senior mortgage spreads being 400 or 500 over.

Got it.

And the real estate, as a bank, commercial real estate, while we think it is an attractive area, will only be one part, it is going to have corporate and other businesses that a bank has. I do think the bank which traditionally today has been focused only on Germany, under Apollo, and our co-investors ownership, the idea is to expand the bank to other markets.

So, for instance, the German commercial real estate lending market is probably the most competitive market out there, even probably more than the U.S., but we still do see opportunities in the U.K., the bank will have the ability to invest in the U.S. at some point, we believe, and so again, it's a bank, it's not any kind of a debt fund if you will.

Got it. I appreciate you clarifying that Scott, because I was a little off in my thinking. You are going to earn equity in this bank, and obviously if they are lending in the bank, it's going to be subject to their portfolio standards etc. Is there any opportunity for let's say, more leverage type -- working in concert with the bank? They make a first lean, restructure something as an AB note or you come in.

Yes, absolutely.

That's where I was going.

(inaudible -- multiple speakers) Yes, and then that is one of the strategic things that we think, in addition to the investment in and of itself being what we think is very attractive investment for ARI, we think the ability to partner ARI's desire and willingness to do more higher leverage subordinate (inaudible) with the banks desire to do lower leverage lower yielding, can offer a one stop solution to borrowers with a very attractive blend and cost of funds given what the bank is looking to achieve.

Great, okay thank you, guys for the comments it is helpful, appreciate it.

You got it, Steve.

And I am not showing any further questions on the phone lines at this time, I would like to turn the call back over to management for closing remarks.

Thank you, operator, and thank you for everybody participating today.

Ladies and gentlemen, thank you for participating in today's conference, this does conclude the program and you may all disconnect. Everyone have a good day.