Apollo Commercial Real Estate Finance Inc (ARI) 2015 Q4 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Apollo Commercial Real Estate Finance fourth quarter 2015 earnings call. At this time, all participants are in a listen-only mode. I would like to remind everyone that today's call and webcast are being recorded. Please note that they are the property of Apollo Commercial Real Estate Finance Incorporation and that any unauthorized broadcast in any form is strictly prohibited. Information about the audio replay of this call is available in our earnings press release.

I would 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 those 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.

Thank you, Operator. Good morning and thank you for joining us on the Apollo Commercial Real Estate Finance fourth quarter 2015 earnings call. Joining me this morning as always are Scott Weiner, our Chief Investment Officer and Manager; and Megan Gaul, our Chief Financial Officer, who will review ARI's financial results after my remarks.

Before I comment on the current state of the market, I want to spend a few minutes recapping 2015 which was an exceptional year for ARI on many fronts. The company committed to approximately $1.1 billion of real estate debt transactions and grew our investment portfolio to approximately $2.5 billion. To fund our growth we strengthened and expanded ARI's balance sheet having upsized our main credit facility in addition to completing two attractively priced capital raises which increased ARI's equity market capitalization to over $1.4 billion. Our success in effectively managing capital raising and deployment in 2015 was evidenced by an investment portfolio that generated record operating earnings for the company.

ARI's strong earnings coupled with our continued confidence in what the company's investment portfolio will generate going forward resulted in our board of directors increasing the quarterly dividend per share of common stock twice during the year for a total per share increase in the quarterly dividend of 15%. We are extremely proud of ARI's performance and we are pleased to be able to pass on the benefits of the company 's success to our shareholders.

The beyond just the volume of capital deployed in 2015, it is worth noting several important metrics with respect to our investment activity. During the year we directly originated approximately 87% of our loans and over 56% of our transactions were with repeat borrowers. We have spoken often about the depth and quality of our originations platform and the benefit borrowers see in our ability to structure and execute transactions and we believe these metrics demonstrate the value of the platform we have built.

Our average investment size grew to approximately $50 million and we completed transactions for several new property types and in several new markets. We also completed a few larger deals during the year in which ARI syndicated portions of loans to other funds managed by Apollo demonstrated the continued benefit of being a part of the broader Apollo platform.

Our mix of first mortgage and subordinated debt was approximately 40% and 60% respectively and the weighted average loan to value for all 2015 transactions totalled 63%. At year end ARI's commercial real estate portfolio totalled $2.5 billion representing 52% growth on a year-over-year basis and was underwritten to generate a leverage weighted average IRR of 13.8%. The portfolio remains diversified both geographically and across property sectors.

At quarter end we had approximately $330 million in net condo exposures spread across six investments. Based upon appraisals the weighted average loan to net sell out value on the condos is approximately 58% and sales at our condominium projects in both New York and Bethesda, Maryland are tracking well and we are very comfortable with ARI's loan basis and the structures we have in place for each of these loans.

At this point I would like to take a few minutes to discuss the current state of the market. As many of you listening to this call are aware 2016 has started with tremendous volatility in the capital markets. In commercial real estate, this volatility is most evident in the CMBS market where spreads have continued to gap out as well as with the RNZ index which is down approximately 9% since the beginning of the year. As a reminder, we do not participate in the condo lending market and therefore the volatility in the CMBS market has minimal impact on our core lending business. If anything, we believe the challenges faced by condo lenders and the general uncertainty around value and pricing could create attractive risk-adjusted investment opportunities for ARI.

Away from the capital markets, to date real estate fundamentals across most markets and property types have remained strong and there continues to be robust transaction volume. Two factors that bode well for our business. While the volatility with the CMBS market has resulted in a slight decline to ARI's book value in Q4 due to lower marks on our holdings, we remain comfortable with our existing positions and we anticipate our CMBS portfolio will continue to deliver levered returns consistent with our underwriting at the time of investment.

As we look to 2016, we believe ARI is well-positioned for another solid year. As always our focus remains on keeping our capital efficiently deployed, being very thoughtful around credit and the risk-adjusted returns and continuing to earn our dividends. In terms of investing we have already closed $300 million of new transactions to date and we have approximately $90 million of future fundings from previously closed investments scheduled to occur throughout the year. In addition, we expect approximately $230 million of loans will be repayed during 2016.

We remain active in the market looking for new transactions and we will look to grow opportunistically. As always, we will seek to ensure a balance between the investment opportunity and our ability to access attractively priced capital. However, I want to emphasize that our ability to be active in the market and earn the dividend is not predicated on growing the company or raising additional capital.

Before I turn the call over to Megan I wanted to comment on our recent announcement that Megan will be leaving her position as CFO in June to pursue other opportunities. Megan has been an integral part of the ARI team and we are sad to see her go. She has agreed to stay through the filing of the Q1 2016 10Q and we have commenced a search to find her replacement. We are confident we will find a new candidate before Megan leaves in June and with that I will turn the call over to Megan.

Thank you, Stuart. Good morning everyone.

ARI had a very strong quarter of financial results across all operating metrics. For the fourth quarter of 2015 the company announced operating earnings of $32.4 million or $0.48 per share representing a per share increase of 6.7% as compared to operating earnings of $21.2 million or $0.45 per share for fourth quarter of 2014. Net income available to common stockholders for the same period was $21.4 million in 2015 or $0.32 per share as compared to $20.2 million or $0.43 per share for 2014. The company reported operating earnings of $112.7 million or $1.90 per share for the year ended December 31, 2015. Representing a 12.4% per share increase as compared to operating earnings of $74 million or $1.69 per share for 2014. Net income available to common stockholders for the year ended December 31, 2015, was $91.4 million or $1.54 per share as compared to net income available to common stock holders of $75.3 million or $1.72 per share for 2014.

A reconciliation of operating earnings to GAAP net income can be found in our earnings release contained in the investor relations section of our website ApolloREIT.com. GAAP book value per share as of December 31 was $16.21. The slight decline from last quarter was primarily driven by unrealized market to market losses on our CMBS portfolio. As a reminder, we do not mark our loans to market for financial statement purposes and currently estimate that the fair value of our loan portfolio as of December 31 was approximately $13.4 million greater than the carrying value as of that date. At December 31, 81% of the loans in our portfolio had floating interest rates and we continue to position the portfolio to benefit from an increase in short-term rates.

We anticipate that if LIBOR were to increase 50 basis points our portfolio would generate an additional $0.09 per share in annual operating earnings. With respect to ARI's leverage, ARI ended the quarter with a 1.1 times debt-to-equity ratio. During the quarter we increased the capacity on our JPMorgan facility to $600 million from $400 million and extended the maturity date for another year with a one year extension option.

I also wanted to highlight that while ARI was a member of Indianapolis of HLB we never used the facility and have no outstanding balances. Therefore we are not impacted by the recent decision by the FHA to discontinue membership for captive insurers.

Our G&A expenses continue to remain low. G&A as a percentage of common book value was 47 basis points for 2015 which continues to be one of the lowest percentages among ARI's peer group. As Stuart mentioned the credit quality of our portfolio remains stable and ARI hasn't lost any principle to date. Additionally, we review each loan in our portfolio for impairment individually each quarter and have determined that no loan loss reserves are needed at this time.

The one loan I would like to highlight is our first mortgage loan on a multifamily property located in Williston, North Dakota. You will note on page 10 of the supplemental that the LTV of the loan is now approximately 90%. Given the ongoing instability in the oil and gas market rents and occupancy of the property continue to be lower than we originally underwrote. However the loan is performing and the property continues to cover debt service. We believe the loan is well structured and the borrower is committed to ensure that the property and performance remains on track.

Finally, I would like to highlight ARI's attractive dividend yield. Based on Monday's closing price ARI stock offers an attractive 11.8% yield. Given the strength of our results to date and our previously stated goals to establish a consistent quarterly dividend that is covered by operating earnings and meets redistribution requirements, we have confidence in ARI's ability to earn a quarterly dividend in 2016. The board will meet mid-March to discuss the Q1 dividend and will make an announcement shortly thereafter.

And with that we would like open the line for questions. Operator?

Thank you.

(Operator Instructions)

Steve DeLaney, JMP Securities.

Good morning and thank you for taking the question.

Stuart, it appears that you guys have found another opportunity in Tribeca in terms of a condo conversion. Can you remind me is this your second or third condo project there in that submarket?

Hello. It is Scott.

Hello, Scott.

This would be our second. It is our second. The first one actually was repaid. It was --

Right.

And that was a ground-up construction that we had done where we repaid middle, end of last year. This is a conversion of an existing building. I would say, not as high end is that deal. But like I said, a conversion of an existing building that has been underway for awhile. So we partnered -- it was a repeat client and we partnered with a commercial bank that we know well to do the deal.

Can you comment on what the, as far as the price point, with the square footage, cost per square foot here versus the one that was recently paid off?

I would say that the one that was paid off was targeting stuff or sales circa probably $3,000 a foot.

Is finish out a little above $3,000 a foot.

Right. This one I think is targeting less, but to give you a sense, our last dollar is around $1,400 a foot for stuff that is sponsored brokers and we think it is going to sell well in excess of that.

Okay. Great.

And you had -- I guess this is for Megan -- you had a nice revenue pickup in the fourth quarter, it appeared, from your joint venture -- about $3 million, which was most of the revenue of $3.5 million for the year. Could you comment on that as to whether that was just a routine equity accrual in earnings? Or was there a one-time -- more of an item that was more of a one-time in nature there?

Yes. It is a mark-to-market valuation adjustment.

Oh, it was? Okay.

Yes, so that is why we back it out of the operating earnings, because it is unrealized. It is not distributable income.

Got it. Okay. So that was fair value and offsets some of what you had on your CMBS. Okay. Great.

Correct.

Steve, I am sorry. It was actually our third deal. We had actually done a conversion of an office building in Tribeca that was paid off through sales and we did a ground-up construction in Tribeca. So this would be actually our third deal.

Okay. Thanks.

I was thinking that you had -- this would have been the third, but I guess I didn't trust my old memory there. But I know that's a market that is an emerging market that you guys have believed in and have found opportunities. Thanks for clarifying that, Scott.

And then, I guess, lastly -- Stuart, this ties into your comment: obviously the equity markets here recently seem to be telling us that the equity markets are calling the top of the CRE market cycle. And the only question that seems to remain in the stock market's mind is whether that ends with a bang or whether it ends with a whimper. It doesn't sound like from your comments that fundamentally that you are seeing any deterioration either in fundamentals, or importantly, you commented on transaction activity, and I guess specifically, a high profile project that you are involved with, like the Steinway building on West 57th. Is it your understanding that, despite all the volatility in CMBS and the market disruptions, that the developers there -- is it their plan to continue to march forward? At this point nobody is pulling back and saying, okay I am putting my project on mothballs until the market settles down. Any color there would be helpful.

Yes. Look. First a few comments.

First of all, obviously what is going on, on the screen with respect to commercial real estate -- it is not just about commercial real estate, obviously, if we look at the broader industries, so I don't want to make it just about commercial real estate. I think it is also important to remember about commercial real estate that despite the growth of the REIT sector over the last 15 years, there is still much more private market activity in real estate than public market activity in real estate. And then lastly, real estate tends to be a lagging indicator -- right? It is not a leading indicator generally.

So I think this really, in some respects, Steve, hinges on the debate around, is what's going on a risk-off mentality and a lack of liquidity? Or is it a fundamental shift in the underlying economy and are we heading towards a recession? I would say I am not smart enough to know the answer to that. But we certainly debate it frequently in here within Apollo. We certainly have the benefit, broadly, of seeing what is going on across Apollo's range of activities.

And at least as we sit here today, if you look across most markets, real estate fundamentals are still okay. Occupancies are up. Space is getting leased. Assets are transacting, whether it be sold, refinance. Yes, there has been the announcement recently that some projects will probably go at a slower pace. But to the specific project you reference in your question, it is actively under construction every day, and at this point, the project is capitalized and it will continue to move forward.

Great. Appreciate the color. Thank you, Stuart.

You got it.

Jade Rahmani, KBW.

Good morning. Thanks for taking my question.

Can you comment on available investment capacity? And I guess, in the current environment, with the volatility we are seeing play out and where the stock is, just how you think about proceeding with what has been a pretty robust pace of originations? Or if you are looking to moderate that somewhat and just be more prudent? And finally, if you could comment on whether stock buybacks could factor into your thinking?

Yes. So I will try and cover all parts of that.

We ended the year at roughly 1.1 turns of leverage. So we do have capacity to add to the balance sheet. As always, I would not look at our $300 million pace early in the year as something that we are going to be able to fund on an annual basis unless there was an ability to raise capital during the year. But I think, more importantly, I refer back to my comments, which is: in order to hit our earnings goals for the year, in order to continue to meet and exceed the dividend, we are in a pretty comfortable place right now, given what we already have in the portfolio and what we know in terms of future funding. So we are active in the market, Jade, in the sense that we are constantly looking at deals, constantly looking for attractive investments; and given our leverage ability, we do have some additional capital to deploy.

That being said, we do not get hung up on a specific pace or target. We are comfortable meeting the earnings goals we have set already. Given where we sit here today we are comfortable with what the dividend's going to look like for the year. If we could raise capital at some point in the year attractively and it is still an attractive deal environment, we will address that at that point in time.

But to your question -- certainly, at this point in time there is no notion of raising additional capital and we do have a share buyback plan in place. I would say we have held in reasonably well today. It is something that comes up as part of our routine dialogue internally. And like others, we have a plan in place and will consider it as appropriate.

In terms of actual available investment capacity to date, without having to negotiate new facilities or amend existing facilities, can you quantify what that is?

It is a bit of a moving question because we obviously lever first mortgages. We don't measure mezzanine loans. So it really depends on the mix of business. But I would say at a high level there is a few hundred million dollars of capacity in the company.

And are you in active dialogues with lenders on new facilities or expanded facilities? And has their appetite for that changed at all?

We have recently increased the J.P. Morgan facility. We've got a very good relationship and dialogue with them. We are not specifically talking about adding any new facility. But certainly, in running the business; and as Scott is looking at new deals, to the extent there are things that come up where our returns might be improved by adding some financing as part of a deal, that is just sort of a regular way dialogue. And I would say there continues to be a desire to transact in the space. And those dialogues continue.

The first mortgage that you guys refinanced that was in your portfolio -- can you talk about that situation?

Sure. You mean that was a Miami retail loan and with a repeat bar where they were able to buy additional properties. That was always the idea, that we were with a sponsor who was looking at that market as a way to expand. We felt very comfortable with our initial deal, and then when they were able to buy additional surrounding properties, we financed that as well. There are existing retail properties there that work and are occupied. We are very comfortable with our base. I think the sponsor's business plan is to redevelop those retail properties. So, for example, if they are is one story they might want to redevelop them into two or three stories -- add some other stuff. It is part of the Miami Design District; that's the part of Miami that, that loan is in.

And at this point, surveying your portfolio, are there any delinquencies or lost loans that you -- besides the North Dakota, which you said is still performing -- that you would care to call out? And just more broadly, one of the issues with commercial mortgage REITs is the lack of loan loss provisioning. How do you think about potential loan loss provisioning? And at least preparing the Company for eventual increase in credit costs?

Yes. There is nothing else we would highlight at this point in time. I think, as Megan tried to address in her commentary, given the size of the portfolio and the accounting rules we operate under, everything is a loan-by-loan bottoms-up analysis. So we literally go through the entire portfolio each quarter and determine if a reserve is required on any specific loan. It is not a big enough portfolio, nor do we have the flexibility under accounting guidelines just to take top level reserves or squirrel money away if we decided to do that.

Thanks for taking my questions.

(Operator Instructions)

Charles Nabhan, Wells Fargo.

Good morning. Most of my questions have been asked.

But I wanted to get a little more color around the North Dakota loan. The last quarter you gave some metrics including occupancy, and you mentioned that the closing of the man camps might be a source of demand for that property. So I was just hoping to get a little more color on what is going on out there.

Sure. So the local governmental authorities -- I think it is the town councils -- did vote to close the man camps as of the summer. I think it is June/July, so I do think that is a positive thing that's coming. As you referenced the marks, there has been pressure on both occupancy and rents. We are down to about -- based on the latest rent roll -- about a 65% occupancy. If you think of the seasonality, the weather there, there have been some people that have been moving out and not many people move in, in North Dakota in the winter. So we do think that the market is higher; so we do think with the thawing, if you will, we believe that, that occupancy should go up. And obviously with the crew camps closing, that should create additional demand.

Okay. And could you also give us an update on 111 57th Street. I believe you said there is about 40 units and they were scheduled to start selling sometime around now. So any update would be helpful as well.

Yes. Stuart mentioned construction is underway and there is a crane on site. It is very close to our building so we walk by it every day. So construction is underway. They opened a pretty magnificent sales office on Fifth Avenue near the property and have commenced marketing. I think that's -- so things are well underway. I think they and we still feel very comfortable with the basis. There is obviously plenty of sales that are in the press and others that are well in excess of certainly our basis and also the sponsors basis. So I think they are proceeding along with their plan. Given its construction, it won't be completed for a few years. So I cannot speak to their strategy in terms of how they want to approach presales. But there is certainly no -- they don't have to sell anything right now. If they choose to sell they can, but they are marketing. I think there has been some nice advertising in The Times and other magazines.

And if I could sneak in one more high-level question.

Could you comment on what you are seeing in terms of competition in the senior and the mezz space from across the competitive fronts, be it banks, lifecos, some of the non-bank financials you compete with.

Sure. I think this speaks to Stuart's comments on the market. There obviously is the public market and private market. CMBS clearly has got that as volatile, but the latest stats I saw was of lending in the US, CMBS is maybe 25% of that. And a chunk of that is very large single-asset transactions. Life insurance companies, I think, last year put out probably around $60 billion. So it's really -- and same think on the equity side. You have the private and public, so it is really a tale of two markets and we don't really -- other than the legacy CMBS, we don't play in the CMBS market. We are not originating for conduit.

That being said, people read the news and see it. So I think from our perspective, the volatility has been good. I would say borrowers are certainly looking to relationship lenders and balance sheet lenders in more certainty. So I would say we're certainly getting more calls from repeat borrowers saying, hey, I would love do to this deal with you again. I trust you. I know you are going to be there. A lot of the borrowers obviously interact in different markets, so they see the changes that might happen between signing a term sheet and closing on certain types of deals. So I would say repeat borrowers are great.

I would also say from partnering with senior banks, a propos of the condo deal we did in Tribeca -- the banks I still think see commercial real estate as a safe haven. Clearly, their commercial real estate books have performed better than their energy or other corporate books. So they are very active and we have been a good partner with them. So I would say on that front it is working well. The insurance companies are not really something we do that much with. They are an important part of the market.

So I would say, look, overall transaction activity is really what creates deals for us. And right now both foreign and domestic buyers think that US real estate is an attractive asset quest. There are still deals that are happening that we are able to participate in.

Great. Thank you.

Jim Young, West Family Investments.

Stuart, you had mentioned (inaudible) in the financial market how spread through and gapped out for CMBS. But could you give us a sense as to how much wider is pricing for first mortgage loans that you are seeing in the marketplace? Is it by 5 basis points, 25 basis points? And likewise, how much wider is pricing for subordinated loans? Thank you.

I will let Scott comment.

Yes. Look, I think it depends on the market. Clearly, if you are borrowing in the conduit market, your spreads have gapped out. But given that, that's a spread market over the swap rate and swaps are now down to 160, from a borrower's perspective your rate is probably pretty close to what it was. We really haven't seen the portfolio lenders -- you could still borrow at 4% or sub-4% from an insurance company long-term fixed-rate; and there are still banks who are doing loans sub-200 over LIBOR.

So I would say -- and our market, given our competitors are either people who think like us and have the same cost of capital, we've never really tied in as much nor are we wanting as much. So I would say on the margin, yes, we are probably seeing an ability to get a little wider spread. But I think the volatility is really letting us dictate maybe stricter terms, because I think there is someone who is willing to pay you through structural pricing for more certainty than to have a balance sheet lender.

I would also say it is creating new opportunities for us to someone who might have gone through a securitized deal would rather now do a portfolio deal. And either that is us doing it by ourselves or us partnering with a bank where we hold the mezzanine loan. And then obviously, some of our competitors were relying on the CLO market, which is clearly gapped out. We never relied on that, so I think people who are doing maybe some smaller transitional loans, you're probably seeing a widening there just because that's really what the people were using the CLO market to finance.

Look, I think it's still a functioning market. I think the on the margin you have seen some moves; but I go back to my initial commentary that real estate tends to be a lagging indicator. And while I think you are seeing very small pockets of price widening, generally speaking the balance sheet lenders are still as active as they had been throughout the cycle. And at a 10-year at 175, insurance companies and banks are still looking to put good real estate loans on their books.

And obviously with our floating rate loans, LIBOR has moved up finally, so even to the extent we are not widening the spreads, our rate is still higher because of the underlying index.

Operator, are there any more questions?

We do have a follow up from Jade Rahmani with KBW.

Thanks. This is actually Ryan on for Jade. Thanks for taking the follow-up.

Can you say what drove the higher average LTVs in the portfolio in the quarter, outside of the increase in the LTV for the North Dakota loan? And secondly, given the increase in certainty we are seeing in a market overall have you been able to adjust your underwriting standards on new loans?

I wouldn't say adjust. Clearly, we have always been a -- very focused on preservation of capital sponsorship. We do a lot of acquisitions with fresh equity, always looking at our basis. So as I mentioned before, even like the Miami loan -- we are very comfortable in our basis with the existing property. Clearly the sponsor's intent is to redevelop or do something different, but our loan is not dependent on that happening. I think that, that has always been our approach -- is as a balance sheet lender. On the margin, I would say the volatility of the market clearly is allowing us to be pushed back on proceeds and structure.

Also, as Stuart mentioned, we are not trying to put out billions of dollars a year, so we can be very selective and really choose which loans do we want to do. And so I would say that's another way where it is reflective, where there is obviously a tremendous amounts of deals that we just pass on because we just don't need to do -- we are not a volume shop in that way. With respect to the LTV --

I think, on the LTV side -- and again, given our business I wouldn't describe a quarter to a trend. I think it's a mix issue in terms of -- mix between first mortgage and mezz. And I think as we look forward -- going forward I wouldn't describe what happened in the fourth quarter to a general trend in the way we are thinking about things or where LTVs are moving overall.

Yes, but I think we have generally been in that kind of 60, 65 if you look at the deals we did subsequent to quarter end. They were within that range.

Great. Thank you.

You got it.

Thank you. I am not showing any further questions at this time, so I will now turn the callback over to Management for closing remarks.

Thank you, Operator, and thanks to everybody for participating in the call today.

Ladies and gentlemen, that does conclude the program. You may all disconnect. Everyone, have a great day.