Broadmark Realty Capital Inc (BRMK) 2021 Q1 法說會逐字稿

Greetings, and welcome to Broadmark Realty Capital's First Quarter 2021 Earnings Call. (Operator Instructions) As a reminder, this conference is being recorded. I would now like to turn the conference over to your host, Mr. Nevin Boparai, Chief Legal Officer. Please go ahead, sir.

Good afternoon. Thank you for joining us today for Broadmark Realty Capital's First Quarter 2021 Earnings Conference Call. In addition to the press release issued this afternoon, we filed a supplemental package with additional detail on our results, which is available in the Investors section on our website at www.broadmark.com. As a reminder, remarks made on today's conference call may include forward-looking statements. Forward-looking statements are subject to risks and uncertainties that may cause actual results to differ materially from those discussed today. We do not undertake any obligation to update our forward-looking statements in light of new information or future events. For a more detailed discussion of the factors that may affect the company's results, please refer to our earnings release for this quarter and to our most recent SEC filings.

During this call, we will also be discussing certain non-GAAP financial measures. More information about these non-GAAP financial measures and reconciliations to the most directly comparable GAAP financial measures are contained in our earnings release and SEC filings. This afternoon's conference call is hosted by Broadmark's Chief Executive Officer, Jeff Pyatt, and Chief Financial Officer, David Schneider. Management will make some prepared comments, after which we will open up the call to your questions. Now I will turn the call over to Jeff.

Thank you, Nevin, and welcome to our first quarter earnings call. This afternoon, I'll begin with a market overview and a discussion of our first quarter performance, and then I'll turn the call over to David to provide additional detail on our financial results and loan portfolio. We will then open up the call for your questions.

We've completed another quarter with strong originations, and we continue to be encouraged by the exceptional strength we see in the housing and construction markets. Fundamentally, it is one of the best markets we've seen in years. Housing availability remains near multi-decade lows, home price appreciation in the past year alone has been in the double digits across much of the country. And we are experiencing a goldilocks environment of low interest rates, combined with expectations for stable economic growth as we continue to navigate through COVID-19. The fact is we are in the middle of a long-term housing shortage that is the result of many years of undersupply, and our current pace of building is not even enough to keep up with existing demand. Even with the heightened pace of activity, this housing shortage will take many years to resolve, particularly in markets that are experiencing strong in migration. This implies there are meaningful sustained growth opportunities for Broadmark as we move ahead. All else equal, we are expecting these market conditions to remain highly supportive of our lending activities for the foreseeable future. While we lend across a variety of property types, our focus is predominantly on residential construction, which represented most of our first quarter originations.

In the first quarter, we generated $149 million of originations and amendments. This was shy of our fourth quarter volume, which was truly an exceptionally productive quarter. But this first quarter rate is one that we feel we can maintain and improve on over time. Importantly, our pace of originations accelerated over the course of the first quarter, with the bulk of our activity occurring in March. This strength carried over into the second quarter.

The environment remains competitive, but we remain confident in our ability to further grow our business and expand market share given our extensive borrower relationships and deep market expertise. Last quarter, we noted significant capital inflows into construction lending, resulting from the low interest rate environment and strong fundamentals. We also saw a high level of institutional investor interest in single-family rental housing as certain operators have demonstrated that rental homes can be run profitably at scale. Broadmark has had many years of experience with build-to-rent projects, and we expect they will continue to be a large part of the housing market going forward, but we are not rental operators, and it is important to remember that we only finance the construction phase of these projects.

And so we do not incur the expenses and operational risk associated with maintaining and leasing those houses over time. We are not competing with institutional owners and operators for rental homes, but their success is helping to drive further demand for the types of projects we finance. The end buyer of our projects might be a mom-and-pop investor or maybe a private equity fund that is buying up houses by the hundreds. In either case, the influx of investor capital is helping to ensure that our borrowers have good exit opportunities, which is ultimately good for Broadmark. In general, we view this intense investor interest as a validation of our business model and as a source of market liquidity. However, it is also a competitive for us, and it will require us to remain disciplined and evaluate our pricing relative to appropriate risk levels across our markets and project types.

Over the years, we've seen even sophisticated investors try to enter this lending market and fail because they lack the appropriate experience to manage the construction process, estimate costs that can change rapidly, respond to the needs of the borrower base, and properly understand local market and even neighborhood conditions. While we have seen increased competitive pricing pressures across our markets, we remain confident in our business model, which has served us well for over 10 years in a variety of markets and interest rate environments. We can also be flexible with certain elements of our loan structure without sacrificing pricing or our maximum 65% LTV. We see our strong recent origination volumes validation that we can compete in a competitive market on the basis of borrower relationships, loan structure, terms and service rather than on price. As always, we remind you that we are internally managed and fully aligned with our fellow shareholders' interest. With that, I'll turn it over to David to review the financials.

Thanks, Jeff, and good afternoon, everyone. Our operating results are detailed on Slide 9 of our earnings presentation. For the first quarter of 2021, we reported total revenue of $29.5 million and net income of $20.4 million. On a per share basis, this reflects a GAAP net income of approximately $0.15 per diluted common share. Adjusting for the impact of nonrecurring costs and other noncash items, our distributable earnings for the first quarter were $23.3 million or $0.18 per diluted common share. Interest income on our loans in the first quarter was $22 million and fee income was $7.5 million.

On the expense side, as we have previously stated, we are making substantial progress on bringing in-house our legal and other corporate functions. For the first quarter, we had cash compensation expense of $2.9 million and G&A expense of $2.8 million, together totaling $5.7 million. This is a reduction from our $6.7 million run rate in 2020. And in the coming quarters, we expect to continue to see a run rate below $6 million per quarter as a result of these efforts.

With regard to origination volumes, which are presented on Page 10 of the earnings presentation, in the first quarter, our originations and amendments totaled $149 million, in line with our historical pace. We reiterate that origination volumes may vary from quarter-to-quarter based on the timing of loan closings.

Now, turning to our balance sheet, as detailed on Slide 15 of our earnings presentation, we had $204.3 million of cash and no debt outstanding as of March 31. As previously announced, in the first quarter, we closed on a $135 million revolving credit facility. Although we remain fully undrawn on the facility and do not intend to use it as a source of leverage, it enables us to reduce the balance of cash that we're required to carry on our balance sheet to match our unfunded commitments. As a result, we have freed up significant existing capital, which we can now deploy to fund new loans.

In the first quarter, we reduced our cash balance by approximately $20 million, and we aim to reduce it by another $80 million or so over the coming quarters for a run rate of $100 million to $120 million in cash balances. We also previously announced that in the first quarter, we filed a $200 million at the market or ATM program that further enhances our toolkit of capital sources. To be clear, we did not issue any shares in the first quarter and do not presently have a need for capital, with ample cash and liquidity on our balance sheet. In the event that we raise additional capital in the future, we are fully aligned with the interest of our shareholders and would access only when we believe that it is in the long-term interest for Broadmark shareholders.

Turning to our portfolio management, as of March 31, we had 29 loans in contractual default, representing $200 million in total commitments or 16% of the total portfolio by value. While most of these are legacy defaults resulting from COVID related disruptions, we did have 8 new loans enter default status, representing approximately $43 million in total commitments during the first quarter. Most of the new defaults were a result of cost overruns or construction delays on projects due in part to rising prices of materials and labor shortages in those markets. As a reminder, in our industry, it is not uncommon to have loans go into and out of default even during normal times, given the reality of construction delays and the short-term nature of our loans. We continue to expect that the most common results of defaults will be a positive economic outcome for Broadmark as we capture our fees over a slightly longer time line or recover the value of the property.

The loans on nonaccrual status continue to result in an earnings drag of approximately $0.03 per quarter of distributable earnings per share and, as we are a collateral-based lender on non-income-producing construction projects, our nonaccrual balance will remain significant until we achieve more substantial progress on exiting loans and default status. During the quarter, we resolved 3 defaulted loans and realized a loss of $1.4 million on the sale of collateral related to one residential construction loan, which we foreclosed on in 2020. Importantly, the majority of loans in contractual default are for projects that are in construction complete or nearly complete status or collateralized by residential properties, which gives us confidence in our ability to resolve with positive economic outcomes.

To conclude, we are very pleased with our capital position and liquidity as we look to address the substantial demand for new construction. Looking ahead, we remain committed to our 4 principles. Maximize earnings on our currently deployed capital through the continued resolution of loans and contractual default. Maximum deployment of existing capital with the credit facility now in place. Ensure sufficient operating capital available for deployment through our various sources, including through our shelf registration statement. And finally, identify opportunities for new earnings power and growth. Now I'd like to turn the call back to Jeff for a few closing comments.

Thanks, David. We are very pleased with our pace of activity in the first quarter. The exceptionally strong fundamentals of the housing market remain highly supportive of our business, and we are excited for the opportunities ahead. As we continue to grow our platform as a lender of choice, our focus remains on consistent execution. For over 10 years, we have provided reliable service to our borrowers and steady cash flow growth to our investors. Today, we are better capitalized than ever. We see plenty of opportunities in the market, and we are well prepared to go out and continue to execute. This completes our prepared remarks. We will now open up the line for questions. Operator?

(Operator Instructions) Your first question comes from the line of Stephen Laws with Raymond James.

I guess kind of to touch on -- follow-up on some comments in your prepared remarks, builders, supply chain and issues with getting material, certainly seeing some impact on the portfolio. But can you talk about how that's impacting your pipeline, if at all? Is it muting demand for new loans because of those issues they may be having with other projects?

Hi, Steve, it's Jeff Pyatt. Nice to hear from you. The short answer, in a word, is no. Our borrowers remain optimistic about the market they're in. Sure, they're frustrated by supply chain issues, they are frustrated by the cost of lumber that we all read about, but they are bullish about the markets ahead of them, the housing market just broadly. And so I -- it's not affecting our pipeline at all.

Great. And speaking of the pipeline, and then when you think about the expected repayments, maybe you have visibility the next few months. What's the timeline you expect to reach kind of that $100 million to $120 million normalized cash level? Is that achievable in 3 months, or is it more of a 6 to 9-month target?

Hey, Steven, David Schneider here. Thanks for that question. So I think we made some good progress in the first quarter. We decreased our cash balance by about $20 million and continue to kind of focus on deploying as much capital as possible. We had, I think you recall, we had significant payoffs in the fourth quarter. I think we were at about $169 million, which is kind of a record high for us. That normalized a bit in the first quarter. We had about $114 million in payoffs, which is kind of a normal quarter for us. If we continue at that run rate of somewhere around $110 million, $120 million in quarterly payoffs, we expect to continue to make similar progress. It's not potentially greater than that $20 million drop that we had in Q1. So it's not going to be one quarter, to answer your question, it's probably closer to the 6 to 9-month time frame, and that will largely be driven by how payoffs turn out. But if the payoffs are kind of normalized, I think we can probably get closer to the 6 months. But as long as we combine that with good origination activity, similar to what we did in Q1, 6 months is probably a good target.

Great. And last question for me. I think Illinois was a new state, I think, that popped up on your geographic diversification slide. Can you talk about the demand there? I mean 3%, it seems to have leapfrogged a number of states. But can you talk about Illinois specifically and then just other efforts to diversify geographically in the Southeast and mid-Atlantic?

Sure. Illinois, the loan that came to us in Illinois, we weren't seeking out Illinois as a state, but this opportunity came to us. Tom Gunnison from our Mountain West region looked at it as we do with any loan, and especially in a new area, got down to really the neighborhood as well as the product type. We looked at the borrower, their history, the guarantors, all the things that we look at. And then, of course, looked at the foreclosure laws and the usury laws and all those things that we look at whenever we go into a new market, and just thought it was a very sound deal. And so that's really what drove that one in particular. We are looking at new markets. We always have. We -- remember, we started out in Washington, Oregon and Idaho.

And so we continue to take our disciplined approach. We -- I expect we will continue to expand. And again, we look at the state for growth opportunities, for placement opportunities, the ability to get repaid. And as I said, we focus on the foreclosure law to make sure that we can get out of a loan. We look at usury laws, we look at pricing. And then we'll tackle states. And more importantly, within those states, cities and the microregions. You mentioned the Southeast. Jordan Siao, our SVP down there, and his team, they're a great group of folks. You look at the size of that market, and they should be growing. And I think will continue to grow at an outsized pace for themselves compared to other regions. And I expect the same in the Mid-Atlantic region. Again, we've got a great team, and we've got a good market up there.

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

Just trying to look ahead for the year and kind of tie together your comments. Jeff, I mean you've characterized $149 million as a strong quarter. So let's just round that and call it $150 million. David, you were talking about repayments and that they were a little higher this quarter, but something $100 million, $120 million. So just really oversimplifying it, but you've got I think about an extra $100 million of cash you would describe as excess. So in an oversimplified fashion over the balance of this year, if you could originate $150 million and only get $100 million, you would net $150 million. You would not only be fully deployed, but you could be in a position where you're looking to acquire some additional capital. Is that -- that would put you close to $600 million in originations. And just that scenario that I laid out, is that a viable or realistic scenario for where you're positioned and where you see the market currently?

Sure. Thanks, Steve. Great question. I would say $140 million, $150 million of originations is a good quarter. It's not a great quarter, I think we can probably increase that. I think we were at closer to $200 million in Q4.

$195 million.

Yes, $195 million with originations and amendments. We are seeing competition. We talked about that in our prepared remarks. But we still think we're getting our share. So $150 million I think is plausible. We'll be content with $150 million, but we think we can potentially get higher. The payoffs are a little bit harder to project, but we certainly weren't expecting $170-ish million in Q4. So a couple of quarters of those will certainly impact the ability to bring down that cash balance. But yes, I think we threw our 6 months in response to Steven's question, I still think that's a good period. But there is -- we are a hard business to project sometimes for these, whether it's payoffs or originations, the timing does matter, and they do get lumpy at some points in time. So it's a little bit harder to project. But I still think it's probably going to take us about 6 months to get through there and have a net drop in our cash of $100 million and get to that run rate that we're looking for.

Okay. That's helpful. And Jeff, as you see the pipeline, a lot of your comments were strength of housing and the residential market. Is -- would you describe the pipeline as heavily weighted towards residential and housing at this time?

I might avoid the word heavily, but let's go with weighted toward. And it ebbs and flows, but we have always been known as a residential loan, both single-family and multifamily, and I think we continue to be. We certainly see some opportunities on the commercial side and like a little bit of commercial. We try to keep our land percentage low. And having said that, we also know that there is a dearth of building lots for single-family homebuilders. They have to have some inventory. So with what's going on in the residential market and the backlog of housing, I think we're pretty content to stay focused on single-family.

Got it. Got it. Music to my ears. The -- you commented on the defaults and supply chain, labor conflicts, etc., labor issues in the past year. When you look at your defaulted loans, I guess $192 million, is there anything in there that represents finished product that's been slow to sell, been slow to liquidate, but 90-plus percent completed? Or would you characterize it as that's -- you don't have like challenging or product that's not moving at the cost basis? Is it really more just this getting it built kind of issue?

I would say generally, Steve, it's getting it built. I think we have I think 70% though of the existing portfolio of defaults is construction complete or construction near complete. When they are resi collateral, we typically are able to move through those pretty quickly. I would say we do have a couple, and I would actually probably not label this challenging, I mean we feel pretty good about we have a couple of hotels that are in default that have been there for a little while. The hotel markets are coming back, they're eventually going to come back. We're not going to ever be forced to rush out of a project. So something like hotels, we feel like the value is going to be much greater 6 months, 9 months from now than it is today.

And as that kind of value picks up, well then it looks a lot more attractive for us to exit. I think we have the benefit of being unlevered that we don't get forced into moving quickly on projects like hotels and offices where we think the values are going to go up over time. And if we need to, for us, we've said it many times, foreclosure is kind of the last resort for us. But if we need to foreclose, we've done it in the past, and if we need to take over a hotel and have it operate for a little while to get occupancy rates up and then ultimately exit at a better economic outcome, we're happy to do that.

(Operator Instructions) Your next question comes from the line of Tim Hayes with BTIG.

My first question here, just a follow-up on kind of your comments on the commercial side of things. I think 20% of originations were in the commercial realm this quarter. Can you give us an idea what kind of assets you're lending on the commercial side? And it sounds like you're constructive on hotel, but I don't know if that's an asset class that you're looking to put capital into at this point?

Sure. Yes, I'll take a stab at that, Tim, and let Jeff comment if needed as well. We've done some -- we've had a lot of good loans related to storage. So we've done some storage. I think we did a little bit more storage this quarter. We're not looking to put a ton of our investments in hotels, but if a good hotel comes around, we're also not going to scoff at it. So we're not scared of commercial. I think we're open to commercial. It's a case-by-case basis. If there's a really good piece of collateral and a really good borrower, potentially a new borrower that we haven't worked with before, we're going to be open to different types of collateral outside of residential. And kind of strategic type loans sometimes really work out well for us.

Okay. So I guess storage seems like it might have taken up the bulk of the originations this quarter?

Yes. I would say storage was -- go ahead, Jeff.

Well, I'm reluctant to get into too much loan level detail. So David, go ahead and get into more, if you'd like. But Tim, yes, so storage has been something. We've looked at hotels. We've looked at -- we've got a -- we've had opportunities. We have a repeat borrower, another guy in the commercial space, and I'd really rather not get into it, but it's a nice asset. We built one out for him or financed one for him that worked well, and he wanted to do another one. And so we said, yes, a borrower in Utah. So we -- it's like everything we do, it's sort of a case-by-case basis and then really trying to keep our focus on the residential.

All right. No, that's good color there. I appreciate it, Jeff. And then on the private REIT AUM, I think it ticked up only slightly this quarter after seeing some healthier growth maybe in the first quarter. Markets are getting healthier and I think the outlook for real estate in general has improved over the past 3 to 6 months. So I would think that interest on the private fund would also be getting stronger as well as people get more confidence in the outlook. So I'm just curious how demand has been there, why you think growth may pull back a little bit on the private side of things, and any expectations for pace going forward?

Sure. Thanks, Tim. So I think we raised about $26 million in the first quarter of 2021, and we had about $88.4 million of AUM as of March 31. We have a big pipeline. We continue to have a big pipeline of interest in the lending platform. We view the private REIT as a source of capital. And I think that's an important note. We've made great strides I think since we initially launched it and being able to grow it to $88 million. We think there's some room to grow it significantly more than that.

But I would say right now we're in a situation where we've got a great cash position, we're making a very conscious effort to reduce our cash on balance sheet at pubco. And we're not going to go -- we're not going to raise capital simply to raise capital. And with its current focus on continuing to deploy as much capital as we can in the upcoming quarters to again bring that cash balance run rate to somewhere around $100 million to $120 million, we're limiting the amount of capital that we take in through the private REIT until we can bring that cash balance down and then really ramp it up going forward when we need the capital again.

Okay. Got it. So it's not really a demand issue. It's more just about capital allocation. That's I guess for you guys?

That's correct.

Okay. And then my last one here, just should -- until you guys deploy that $80 million or so of cash, should we expect the credit facility to remain at 0? Or do you expect you might put on a little bit of leverage as you put some of that equity to work?

No. I think expectation should be, in the near term it's going to remain undrawn. We continue to view it as a cash management tool as a kind of a backstop for us. We've kind of shifted our thinking, we think about our total liquidity. So we think about that plus our cash balance on hand. As long as we've got somewhere around 3 months of working capital and that combined liquidity, then we feel pretty good. So no plans to draw on that in the near term.

Your next question comes from the line of Matthew Howlett with B. Riley.

I might have missed this one, but just go over again with the increased competition coming in, how you're maintaining your share, how you're defending pricing? Is it the relationships, the speeds, the structures, the certainty of capital to execute? Just go over it again and how you're defending market share?

Can I go with all of the above?

Yes.

There is competition. And there always has been and it comes and goes. And a lot of those newcomers don't have much to compete on except price and so they compete on price. We have had to be more flexible or creative on, it's probably not the right word, but flexible on pricing. But we rely heavily, and we continue to rely heavily on our certainty of execution, on working with borrowers who know what they're going to get. Many of our borrowers experienced problems with other lenders or saw others experience problems with other lenders a year ago. And -- but there is competition. There will be. The one thing I'd ask you to remember is our size compared to the size of the overall housing market. And so for us to do a good job and take good care of our borrowers, will we lose some once in a while? Sure. Will we get new ones? Sure. We try to do the best we can on pricing, keep the pricing as high as we can to stay and still stay competitive, and we seem to be getting our share.

Got it. And when you say it comes and goes, I mean, is this just something you've seen through the cycles, and it's just something that at some point it will be shaken out over time?

Sure, yes. So those of you who have been on calls with me before have heard me say that it's easy to loan money out, and it's hard to get paid back. And I will argue that they're, with housing being as fashionable in the news as it is, that there are a lot of people interested in the housing market. There are a lot of people who hold themselves out there as lenders, and then they'll turn around and sell their notes to a third party. And when that third-party may start to have some troubles with some of the loans that are on their books, if I'm writing a loan and then selling it off, I don't have as much risk as Broadmark does, who writes loans and keeps them in our portfolio. And so we underwrite very carefully. And then when we have defaults, which we do, we manage through them. And so I think as things get tougher, some of those third parties will back out. That's what's happened in the past. And then -- and there will be other newcomers that come in. And all we really can do is focus on being, it sounds a little trite, but just focus on being really good at what we do, and it's worked for us.

Got you. No, it makes complete sense. And then on that sort of topic, when you look at, I know you've got a lot of work to do with the cash management to put that to work, but when you look at longer term, let's just say 18 months out, and you look at where the size of the portfolio could go or where you think it could go, I know you want to get -- I know you have the private REIT and I know you'd love to get those warrants exercised if you could. I know you've got the ATM and it could be really efficient. But when you think about how big the portfolio could go and now that you're going toward it could be a year as a public company, how do we think about funding future growth? Would you think about tapping the public debt markets, preferred markets, longer term, something else? Or could you get up to $2 billion in size? Would you want to be that size? Just a little over -- when you think of long-term trajectory with that portfolio growth and how you're going to get there.

Sure. Yes. And I think the initial answer is, we want to grow as big as possible. And I think that's a long-term view. I don't know that we have a specific number in mind right now, but we definitely want everyone to be thinking about this as a long-term growth investment in us. In terms of how we think about growing the size of the portfolio, I think we're always going to look for the most efficient sources of capital, right? I think we're in a really good position where we've got multiple tools in our toolbox now, whether it's the private REIT, we've got the ATM out there. We think there's other potential sources of capital that we could use. We're going to do whatever is in the best interest of our shareholders in whatever is most accretive when it gets time for us to start thinking about raising additional capital. So we don't say no to anything. I think when it gets to that time, hopefully later in this year, we'll be in a position where we have access to all different sources of capital. And as those sources change over time and become cheaper or more expensive or harder to access, we'll be in a great position where we can pivot and adapt to whatever is the best source at that time.

Am I right to presume that your bankers are calling, reaching -- talking about access to the preferred markets, term loan markets, unsecured markets, but all of the above that you could look at something that long-term they'd consider?

Yes. Absolutely. We have lots of calls, and we're always going to take those calls and explore different opportunities. I mean, that's the real benefit of us now being a public company, access to all these different capital sources. And we're going to explore all of them and see what makes the most sense for our capital structure long term.

Ladies and gentlemen, we have reached the end of the question-and-answer session, and I would like to turn the call back to management for closing remarks.

Thank you all for joining us today, for being part of our call, for your continued confidence in Broadmark and our platform. On behalf of everyone in our company, I'm grateful and appreciate it. Stay safe, stay healthy, and we will talk to you in a quarter, if not sooner. Back to you, Operator.

Thank you. This does conclude today's conference. You may disconnect your lines at this time. Thank you all for your participation.