Starwood Property Trust Inc (STWD) 2009 Q3 法說會逐字稿

Greetings and welcome to the Starwood Property Trust third quarter 2009 earnings call. (Operator Instructions) It is now my pleasure to introduce your host, Evelyn Infurna, Investor Relations with ICR. Thank you, Ms. Infurna. You may begin.

Thank you, Devon. Today, I would like to remind everyone that part of the discussion this afternoon will include forward-looking statements. These statements are not guarantees of future performance, and therefore, undue reliance should not be placed on them. We refer all of you to Starwood Property Trust third quarter 2009 earnings release and filings with the SEC for a more detailed discussion of important factors that could cause actual results to differ materially from those contained in the Company's forward-looking statements. The Company disclaims any obligation to update its forward-looking statements.

Also during the call, the Company will be discussing core earnings, which is a non-GAAP financial measure. Please see the Company's press release for a reconciliation of core earnings to net income, the most directly comparable GAAP measure. It is now my pleasure to turn the call over to Starwood's Chief Financial Officer, Barbara Anderson.

Thank you, Evelyn. Hello, everyone, and welcome to the inaugural earnings call for Starwood Property Trust. Today I will be sharing our third quarter 2009 financial results and investment activities with you. After my remarks, I'll turn the call over to Barry Sternlicht, our Chief Executive Officer, to discuss market color and our view on current conditions, and then we will have a question-and-answer session. On August 17, 2009, Starwood Property Trust completed its initial public offering, issuing almost 47.6 million shares at $20 per share and raising $921 million including the Green Shoe and private placement. In addition, and in accordance with our perspective, one million share equivalents were granted in stock-based compensation that vests over a three-year period. As the (inaudible) awards are currently anti-dilutive, they are excluded from fully diluted earnings per share and core earnings.

For this sub period ended September 30, 2009, net interest income on our investments was $612,000, and we earned an additional $583,000 in interest income on our cash balances. For the same period, we incurred management expenses of $2.5 million and G&A expenses of $0.5 million. The result was a net loss of $1.9 million or $0.04 per share. Excluding the noncash stock-based compensation charges of $812,000, our core earnings were a net loss of $1.1 million, or $0.02 cents per share. We did not have any nonrecurring costs in the period, but the costs are not necessarily indicative of where we expect our annual G&A expense to be when fully invested.

During the quarter, we invested roughly $152 million in AAA rated CMBS securities through a 75-25 co-investment partnership, which was then levered through the TALF government program at an all-in rate of 3.8%. We expect a yield to maturity in excess of 16% on our net $23 million investment. These securities are of the 2006-2007 vintage and secured by a diverse pool of six-rate loans.

The Starwood private real estate funds may co-invest 25% in any investments that they deem fit their criteria and did so in their TALF CMBS purchases. We will be the 75% majority owner. These joint investment are consolidated, which is why our balance sheet shows $202 million in debt securities as of September 30, 2009. Since quarter end, we have acquired an additional $121 million of net investment on a wholly owned basis. The first, completed in early October, with $11 million of first mortgage bond, secured by a four-star New York City hotel in an expected unlevered yield to maturity of 11%. The second, which closed in early November, with $110 million portfolio of loans, with an expected unlevered yield to maturity of 13%.

The loan secured by seven southeast properties, predominantly distribution facilities, leased to a single tenant. Since the IPO, we have chosen to invest our cash extremely conservatively, avoiding any chance for capital losses, and so we carry cash in short-term interest-bearing accounts. At September 30, 2009, we had cash balance of $893 million, and after the investments I just described, our cash available is roughly $775 million today. I will now turn the call over to Barry to share his thoughts on the markets and our current opportunities. Barry?

Thank you, Barbara. Good afternoon, everyone. A pleasure to be back at the microphone doing an earnings call. It's been a few years. Anyway, what I thought I would do is talk a little about the market today, our strategy, and what we see going forward.

In general, we're pleased with our performance so far. I think we have chosen a strategy of being extremely conservative and patient with the capital we were able to raise. I think--I will start off by saying the amount of money that Barbara mentioned we raised was net of the offering expenses paid to the underwriter group. That was $920 million, the gross number was more like $950 million. And $20 million came from us, the manager, co-investing with our shareholders, which are most of you.

We have chosen, from the start, to build a diverse book. The diversity, we refer to geography; we refer to tenant mix; we refer to the kind of asset we lend against we refer to the kind of asset we lend against; and we also referring to duration. One of the nice things about our $110 million investment, which was a 13 IRR, is it is 15-year duration. And for that tenant, this is the only debt that they carry. It's also about four or five to one EBITDA to debt service. We feel it's a very secure piece of paper and was actually an acquisition of an existing loan through an intermediary that one of our Washington office sourced. We also think we're being -- we are basically focused on investments we can understand, that we can explain to you. We are very cognizant that for this Company to achieve our ambitions, it will be back to the markets, and we're doing nothing too exotic or toxic or things you can't understand.

I think our investment pace has been picking up . We're seeing more and more deals. And we have our dedicated team resourced around the read and also leveraging against the acquisition strength of the Company across the nation and our four offices. I think one thing we've surprised about -- if I had to say I was surprised about anything -- as you know, transaction volume in the United States is probably down 80%. Maybe it's picking up a little bit, but the only things that can be sold today are feed properties. So those of you who met with us during the road show, we talked, for example, about the HSBC headquarters sale in New York which wound up being bought by an Israeli Company, IDB. But they only went to market for 40% financing, choosing and a bit of levering it highly to get a very low loan to value loan.

And I guess since the middle of the year, or really maybe since August, with transaction volume down 80% or 90%, maybe transaction volume is down from $400 billion a year to something like $60 billion. Lucky if it makes $60 billion this year in the United States. The life companies are ever-increasing source of capital for people who want low, very low LTVs. And we're fining that if it's a very simple deal, they are able and willing, and over the last couple of months they have come to market to be more competitive and providing debt financing to what I call "no 'but' deals." There's no 'but'. They don't have to go to investment committee and say "but." Like, it's a good loan, but the tenant's leaving. So, for very simple investments, the life companies are certainly in the market, and because the transaction volume is so low, life companies used to be 10% of the market, and now they are probably 75% of the permanent capital market.

But, our story is really not that. Our story is to use our real estate expertise to find the right LTV, based on the stability of the income stream in the asset and in our knowledge of the markets by property type. So we're going to be patient. We have a feeling that the banks will, as their balance sheets heal, they will begin to take the hits necessary to move some of the loans on their books.

We're in contact with many of the banks and many borrowers. It will be interesting to see how TALF develops. As you know, TALF is set to expire early next year. We were a major participant in TALF in the first two months of our existence. And then about a month ago, we got a call from the Treasury Department, and they suggested that a public company should no longer participate in TALF. And they were--appeared to be worried about foreign shareholders benefiting from the TALF financing by owning our stock. Obviously foreigners can participate in private equity funds and do so, and hedge funds and everything else. So we have been working with Treasury, as long as a couple of other of our compatriots in the space. And we believe over the next 30 days, they will come out with regulations that will clarify that, in fact, the blocks that we have on ownership of the read that no one person can own 'X' shares of stocks (inaudible) and I think Treasure agrees, will clear this issue up.

But, we have been out of the TALF market. And even in the TALF space, as Barbara mentioned, and we have chosen to be very conservative, buying almost exclusively [AT] notes and assuming full extension of those notes to give you the yield that you're looking at. If in fact they pay off at maturity, the yields would be higher than the yields that we quoted in our press release. And we continue to identify -- we're not blindly buying the CMBS securities. We are underwriting the securities. We selected a small minority of issues that we feel comfortable with. And of course, if you are in this space, you need really not only understand the real estate, but you really have to understand the extension risk and know something about the borrower base.

Our focus going forward continues to be more complicated things and larger loans. And if i get asked a question, which if I were you, I'd ask me, is the pace of our investments. Because some of our investments that we are looking today could be several hundred million dollars in one deal. We can't really tell you that the money will take X months to put out. I can tell you is we are going to be good stewards of shareholder capital, and we are going to look at the risk and reward of each of our investments, knowing that our goal here is not to get the asset back. We're very interested in large loans. There are fewer suppliers of capital to them. And in fact, we are going to pull the trigger on one of these large investments, the capital will go out quickly.

The other point that Barbara made, which shouldn't be lost on you, is that we're investing unlevered. So it will be our goal, because we have all the cash, and we need to put it to work, to pay a dividend. So, as we get scale and have a more diversified book, we will either lever on lines, or we'll lever in the market place with live companies taking out the senior positions of our paper. The more diverse the book, the cheaper the senior debt or the A-1 note, as we told you on the offerings, will be. That will boost the yield of our, for example our 13% first mortgage could jump to 16% to 19% in that position. But right now, we want to invest our cash, so we're investing unlevered, except, of course, for TALF, where the leverage is available today, and we wouldn't take that exposure. So in TALF, we are leveraging --buying and leveraging those notes. We're also trying to be more creative with our capitol and stock and look at other investments and other strategies we can deploy to build this into a broad-based financial company that can fill the gap left behind by such people as CIT and perhaps Capmark, with their recent filing.

We're very much aware of the competitive landscape. I think the government decision to allow the banks to extend loans even where the appraisal value was lower than the face value of the debt is unfortunate, but again, we're in no huge rush. We are going to find the right pace to invest the capital. And we still think we can meet our objectives that we outlined during the IPO process to pay a substantial dividend. As for our dividend, as the pace of our invests grows and our invested capital grows, we would expect the scale of dividend to grow with it. And we, as shareholders and you, as shareholders, I think would look forward to us paying a significant dividend in a world that appears to have very little yield. I will say that people are beginning to chase yield, and part of our theory here is that the government will, if this keeps up, have to raise short rates. And that will create some more opportunities for us to deploy capital at rates that will meet our objectives.

I think the short end of the curve, which inevitably should rise, it probably should rise now, for multiple reasons, nothing to do with our Company. If, in fact, that happens, I think people will begin to discern risk again. And at the moment, there's this huge chasing of yield across the investment-grade market, the junk markets, and clearly even in the real estate markets, though I would tell you that there are a lot of situations today where in-place rents are above current rents. And the concessions that will be necessary to retain or put in new tenants -- you have to look carefully at where that money is going to come from because we don't want it to come from us.

Having said that, our niche, again, is the more creative loans, where we will make a loan on a loan. Some of the pipeline investments that-- we are not going to go into too much detail, but some of them are retail. We'll make our first hotel loan, hopefully, in the near future. It's actually a pool of hotels. But I am pleased, actually, with the diversity of the portfolio. I knew we could lend to the hotel market because nobody else will. I am very excited that the minority of our positions are hotel investments at the current moment. Although, we obviously feel a tremendous expertise in that area, and there's less capital flowing to that.

I also think that maybe we'll be getting kickers in deals faster than I thought. And while they would be difficult to value for shareholders because they don't throw off the current yield, they will provide -- they will enable us to recycle capital, get capital gains and redeploy the capital without diluting the shareholder base.

So I also think that one of the things we tend to focus on a lot is replacement cost, and especially in the key markets. We look at some major property in cities like New York. But, we're careful at the moment, not wanting to push the pace just for the sake of investing. We have seen that actually happen before. And again, we would rather invest wisely for the longer term than the short term, and put the money out and then have problems down the road. So we intend to be what we were, I think, chartered to be, which is a good steward of capital, and put the money out at the right pace. And whatever pace that is,it changes nearly every week as we have our acquisition meetings.

The pipeline. The pipeline exceeds well over $1 billion in an array of yields, and that's only what made the list. And there are thousands of -- not thousands, probably hundreds, of inquiries we get that we can shoot in the head right off the bat because the properties don't cover debt service, or they have a tenant leaving in ten minutes, and then won't cover debt service. We are also cognizant of who the borrowers are, and what would be their financial wherewithal to step up and fill any gaps if we were to run into trouble.

So overall, I think those are my comments. I hope we can exceed your expectations in the coming months. And again, I think we would have thought that the banks would have sold a lot of assets. The one other comment I would make -- which they're not, there aren't that many deals being done, and the ones that are being offered, many of them, the positions are nearly worthless. The one other comment I would make is the FDIC has been taking back many banks, and most of those pools have not seen the light of day. They continue to pile assets up at the FDIC. Many of the tiny loan balance deals are not of interest to us, at least not at the moment. We are working on some of these FDIC pools right now. There's a portfolio of performing loans in the market that we have been bidding on from a different kind of entity, if not the FDIC.

And for those of you who saw the Corus transaction, we would have bought the performing loans of Corus into the REIT. And about 40% of those loans we could have bought in the REIT and would have. They had a number of complications. One of which was we had to then agree on splitting the pie between the equity deals that were being foreclosed on in the REO, and the value of the performing loans.

We never had to deal with that issue for two reasons. One, actually the government said they didn't want to do a transaction with two entities. So the government said, we do not want a joint bid by two different entities because their debt is crossed. And they wanted one loan against the whole portfolio, and they certainly didn't want two loans. So that ended the academic discussion. But the other major problem with that particular portfolio, and might be similar to other portfolios, which we will have to deal with if, in fact, this happens, is the debt is fully amortizing, meaning that every dollar that we had borrowed from the government is the first dollars paid off. So we would have income at the REIT and no cash to pay it, which is not our style.

So, in general, what we're trying to do is find loans that will pay at least a base dividend rate, which is the [eight] before the incentive fee to us. But the incentive fee for us is really --it is great if we get it. We intend to get it, but we're not going to make loans that we consider highly risky in order to achieve it. We're really going to stick to our knitting and build a lasting enterprise that I think everyone will be very proud of owning, and hopefully the share price will respond accordingly. Well, I think with that, we'll take any

Thank you We will now be conducting a question-and-answer session. (Operator Instructions) One moment, please, while we pull for questions. Our first question is from the line of Stephen Laws with Deutsche Bank. Please proceed with your question.

Hi, good afternoon. Thanks for taking questions. Can you just talk about the market in a little more detail? You talked about folks and replacing costs and looking at some marketing properties in New York. Can you talk about maybe opportunities for geographically-- or by asset type that you're seeing? And also any places where you are seeing over competition, where you're just not comfortable with the returns available -- specific places or anywhere that has caused you to take more of a long-term focus and not push the pace, as you refer to it on your comments?

Yes. I want to make one correction. I was corrected by one of my colleagues, that it's the Fed, not the Treasury, that has blocked the public companies from participating in TALF at the moment. So let us leave that to the side.

Our book is very geographically diverse. What I'm looking at in (inaudible) is in seven different locations. I actually don't know, but it is probably five different states, maybe it's seven different states. Obviously the CMBS investments we have made are very diversified. So we have three places we source deals. We look at the public markets, things that are trading in the public markets, and opportunistically pick up debt we find compelling. On even corporate opportunities, like the bond on that hotel in New York City, and the subsequent bond issue we bought on different small-balanced CMBS. We'll even buy CDO debt. So we'll do that. That's one source of deals.

Obviously those credit yields have come in. And so, we cherry pick them. We look at things that are maybe misunderstand or we really think --there is one example where a company is real estate-related, and the bonds are -- the Company, you can probably get a 12 or 13 on first mortgage of bond, where the trading is four times debt to EBITDA. So very good coverage, two-to-one coverage on the bond payment. And we'd be very comfortable if the Company's been around a long time, that these are probably good bonds. And then, we're finding it hard to put out--to find enough to make a difference. So that is one area, is corporate debt.

The second area would be the commercial mortgage securities, whether it's RNBS or CMBS. Their yield backed up again, we are out of the market, so it is academic, but are cherry picking those issues.

The third, or maybe there is four, the third one is straight loans, originating loans. There, I'm looking at our list -- I'm not going to tell you the cities -- but Virginia, Washington D.C. , Houston, San Francisco, Austin, Long Beach, New York, Newark, New Jersey, Maryland, Florida, Illinois -- so I'm just reading off cities that we're looking at large, and some of these loans while we listed as various. It's a portfolio. One of these investments is for a fund that has assets, six different buildings in six different states. So by asset class, we're seeing good diversity, but I will say that if it's a simple loan -- we had an office building down in San Diego area that was a great asset. An A-asset and an A-location for 50% loan or 55% loan, there will be five life companies that will make a bid on that. Probably inside 6% today, 6.25%, 6.5%.

So, we're going to be what people expect us to be, is creative. Not only by how we structure deals, and how we achieve our return objectives. But also looking at partnering with people that can bring us off market and transactions and other source of deals. So we're not going to go into it because it's too early in our life cycle to lay out our entire business plan for our competitors, necessarily. But I think in the stock, you have a floor of the cash, and the upside of us figuring out great things to do with your cash. So, I think it's a very unusual risk-reward dynamic, from a shareholder perspective.

I am happy. I would have expected -- I was worried we would see just hotel paper. I mentioned that. I would say say hotels are a minority of what we're focused on right now. Again, if you're looking at retail, you have got to understand retail. You have got to understand the ability of income stream. You have got to understand what's happening in the retail markets, and I think we will all see the fallout in the retail space post-Christmas. If it's a decent Christmas, many people survive. If it's not, we are going to expect to see some of these inline tenants and some of the anchors maybe disappear. So it's a really tricky time in retail.

One of the deals in the $66 million that hasn't closed but is -- one is a mall investment. The other one is a shopping center. So, one is a big mall --one is a second and one is a first. Those are both -- we're happy with both transactions. They have different return -- obviously one is a first and one is a second. We think they're both incredibly solid investments. So, at the moment, as I said, we're generally pleased. It is competitive. More competitive than you thought. And some of the big holes for capital in real estate involve the transition deals, like making a loan on a stuck development project or providing, somehow providing the capital to a borrower so he can put the TI in the building to finish the building. We have not gone there yet.

It's a huge market. And we're a small player in a huge market, which means we can be very fleet of foot and dance around and find the opportunity to deploy the capital at very attractive rates of return. I should mention one other thing, which I left out of my comments, which is the scale of the Company helps us because the administration cost of the REIT are fixed. When the -- it's roughly between $5 million and $6 million a year. That's the internal costs of running the business. When the scale of the Company doubled, the drain, if you will, or the yield deficit that that represents, is half of what it used to be. So it's basis points rather than percentages. And significant competitive advantage against companies that are in the space that are much smaller than we are because we have to invest your money at lower rates of return to have the same net distributable income and dividend to the

Great. Thanks for the color there. And maybe if --would you comment toward the FDIC -- you said a lot of the assets they have taken over, they have yet to liquidate those and sell them in the market. Any idea, is that something we should see more of in the fourth quarter opportunities there, or is it more of a next-year type thing, with the holidays coming up in the next month or so? Any idea on the timing when the FDIC might --?

If you asked me three months ago, I would have said we'd see in it the fourth quarter. But it seems that they're a little understaffed, and they're getting these -- they're very busy trying to fold a bank a weekend, or (inaudible) banks a weekend. There are a couple of portfolios we have prescreened that we will be very aggressive on in terms of underwriting them. We like their content, and we're waiting -- the one was supposed to be out in October, then it was November, then it was December, and now it's January. The good news is we know it's coming, and it's going to come. It just hasn't come yet. We're geared up. There is a large portfolio in the market right now that we're working on. And there are a couple, but they're not -- the FDIC is really not blowing out a lot of property yet. They must be over $30 billion backlog right now of assets sitting on their books.

Great. Thanks a lot for taking my questions, Barry.

Yes.

Our next question come from the line of Don Fandetti with CITIgroup. Please proceed with your question.

Hi, good evening, everyone. Barry, quick question in commercial real estate property values are down, somewhere in the 40% range. Do you generally think we have troughed here? And what is your outlook on property value?

Yes, good question. It's the reason there's not enough trading is because we will end, let's say we will end 60 even, go to 75% of a very good, solid income stream. Let's say a net lease deal to a credit tenant for a long time, where a debt matures a decade before the lease does. There's no way to fill the gap, right. That's why nothing is trading because property values are down 40%, but very few people carried 60% debt -- at least not enough people carried 60% debt -- against their old values. So now, the equity is in the debt, and the borrowers cannot find the capital to pay off the debt. So everything is worked out and everybody is in the extension mode with their special servicer of choice

My view is with rates this low, property is one of the last places people feel they can find yield. So I don't think you are going to see double-digit cap rates across any of the income classes, no matter what happens to rates right now. There's enough less sophisticated money in the market that looks at a 7 or an 8 from property, and looks at 3.5 from the treasury, and says that's a pretty (expletive) good deal. So, you have seen a retail deal on Fifth Avenue just traded a 5% yield, which was the real estate, in the Saint Regis in New York City. You have seen an office building trade to the Germans at a 6% yield. 6.3% I think it was, which was sold by Vornado. We have seen apartments sell sub 6.

I think people are just looking into the cash alternatives and what's their downside. I would tend to agree that for the most part, you probably have seen -- it really all depends -- it is a terrible statement to make. You can't do this in the gross fashion. You have a building leased in New York City, $120 a foot. When it rolls, it's rolling to $60 a foot. So, what is it worth? That's the challenge of investing today. Another building might be in place around $50 a foot and it's going to roll to $60 a foot. So, it probably hasn't dropped that much in value at least -- probably has dropped in value but not as much.

So you see everything -- I think it's safe to say that cash flows are income producing assets, which I would call retail, industrial, office -- are going to be flattish, if you're lucky, for the next two to two-and-a-half, three years, right. That would be heroic efforts to keep your cash [machine] intact, if the building is at market. Hotels are going to have a negative year next year, just because expenses will go up faster than revenue. If they pick up, they're going up in the second half of the year. And it's not visible today, and forward bookings and it'd really depend on the kind of asset it is, in my opinion. In other words, if it's a limited-service hotel by a roadside, maybe it will fare better than the big resort hotel that requires 7,000 business groups.

And the last asset class, multi-family, that we talk about is a difficult asset class for us to deploy capital in because money is available from Fannie Mae to finance it.. And we have looked at, and lost, a deal on a multi in California. And we've even lost hotel deals to people. I'm not really that worried about finding opportunities, like I said -- they come in waves. And because we're willing to do a big deal, we can put out a lot of capital quickly if we think it's a compelling opportunity. And we'll hunt for those vacuums of capital in the country where there is no money, and you can get higher yields for, I think, an upside and modest downside.

Okay. And then on the $100-plus million warehouse loan (inaudible). I assume there is some level of hair, where you can bring an edge. Does the lease roll pretty high in the next few years? Where do you make money on this, and how did you get the deal?

We don't want to go into too much detail. There's no lease termination rights. It's a 15-year deal. And we bought an existing loan that had to be sold for a going-out-of-business company to raise some cash. Our partners in the Washington office found the investment, and we underwrote it and visited every asset and their mission-critical centers for the tenant. They're not going anywhere; they're state of the art. So we're very comfortable both with our basis and the duration. I'm not sure we will replicate that one, but it was a (expletive) of an investment. Thirteen unlevered. I think our current coupon is that high. It was a little bit of accretion in it, but not much. It was probably 11 current, and two points (inaudible) Because we bought the loan at a slight discount.

I guess the last question -- I'm not trying to push you to ramp up by any means -- but I'm just trying to get a sense, as you look at the opportunities today versus, let's say, three months ago, are you more optimistic or less optimistic that you can meet the ramp up targets knowing it's very lumpy? Just trying to get a sense if things have slipped, if they've gotten better, or neutral.

I don't think I would go with neutral. Obviously, the cheapest stuff -- the life companies are back out making some loans on existing assets. And what we're doing, and I'm sure others are trying to do, is partner with them to try to raise the proceeds to borrowers. So we have talked to many of the life companies. The issue with no transactions and only fees properties trading-- or the seller -- the only way to get the prize -- some of the banks will finance your purchase. And we'll do -- we'll make the right investment and we'll finance the purchase of a mezzanine, but it really depends on our underwriting. So, we're definitely the [grand dot] of real estate. We're definitely going to focus on value and our goal isn't to --.

We want to be big because of a gain -- the scale economies in the business, which are significant, especially at funding cost, ultimately, for the vehicle. But we don't want to have any problems getting there because we want to be able to -- that will scare people. So we're really focused on risk and reward. And I'm pretty comfortable that we'll put this capital out, hopefully at a pace that you will find attractive. And we can meet another four estimates on the stock, and we'll tell you which one we're going to meet.

I'm certainly higher than the low-end of the estimates, and hopefully as high as the high end of the estimates, but really, it's hard to predict. I know it must be challenging for you. It's really hard to predict because, there is an investment in the shop that is not included in those numbers, the circled numbers or probable -- north of several hundred million dollars. I think it's ours to do or to lose. And we just have to figure out how high in the capital stack we want to go and for what return. And that's what we get paid for, is to make those judgment calls and hopefully, find the right balance between current yields, accruing yield and maybe an equity kicker.

If it's really --there is one thing going on in the market, which I think is helpful. Which is that some people are very embarrassed about what has happen to their investments or their fund. And so, one of the things we're going to respect is their confidentiality, so that's a competitive advantage for us to work with them in fixing their cap stacks. Real estate is a great imperfect market, and sometimes guys in those positions don't want to hire a broker to go see 700 people, so there are 700 people talking about them at cocktail parties around the country. So they come to us. We quietly come up with a creative solution. We'll try to explain it in whatever detail we actually must do in order to give you disclosure, which we promise you. But we're not going to take out a competitive advantage at the same time.

Okay, thanks.

(Operator Instructions) Our next question comes from the line of Joshua Barber with Stifel Nicolaus. Please proceed with your question.

Dave Fick, actually, with Josh. Barry, you just alluded to a fairly significant transaction that would be a large percentage of your investable capital. How big would you go, and would you look at laying off something that was several hundred million to others, or would you take that much from one deal?

Perfect for us would be to take it down and then get rid of it, like have a forward-commitment to take half of it out. We put out $700 million of capital, and then we go back and we lever to take out the first.

Right.

We're going to have several hundred million dollars of additional capital to invest, but right know, we'd like to get the capital invested so if we can have a forward commitment to take out 'x'-percent of the deal -- we are not going to put $300 million in one deal permanently in the vehicle. That doesn't fulfill any of the criteria I talked about.

Exactly. That's why I asked the question.

We're not going to do that. On the other hand, being able to get the deal and control it and carve out whatever piece we want, either as a coinventor direct -- when we're bidding -- and there are situations in the market today where there's one other guy, right. We would rather split the deal with them and maintain our pricing than, frankly, compete. And hopefully, they will take the same view. And we have, in certain situations -- in fact, a deal today, we teamed with one person for one piece of the capital structure and a different firm for the other piece of the capital structure, and apparently the borrower didn't like either quote and pulled the deal. That happens.

I think one of the things about this space it is takes time. We're a firm on a couple of transactions, and we're going to do our underwriting. In fact, I was talking to the executive who is doing the transaction this morning. It's in the second pool of the $250 million of highly probable deals. And the borrower would like it closed in two weeks, and our guys are telling us it could take three or four weeks to finish due diligence, and come on, we've got to get the money done. But, we are going to finish our due diligence, and we have got to investment for the long haul. As those of us who invest with us privately know we take our fiduciary duty pretty seriously.

On the other hand, we don't have to get it perfect, we just have to get it about right, not on due diligence, but on pricing. There isn't much difference to us if we do a 12/15 or a 12/8. Especially if we're right. If we get duration, and property values do begin to recover. Aggressively, (inaudible) two, three and four, we are going to have capital gains in the paper. So getting lockouts today is fantastic. And if you can get paper out locked out 15 years, it can (inaudible) trade 140% of par. if we're right about the call. And then we have created capital gains and current income, and that's like a dream if you're in this vehicle. So, lockouts are important and we're balancing short- and-long-term duration for you, trying to get a portfolio started. That's one place I'm pleasantly surprised, is on the duration of the paper we're willing to write -- because a lof of people are looking at -- even now, with the DDR TALF deal that came out, I guess is coming out today -- that deal is wonderful. Except it's only 50-something% L TV. That makes our business easier, right.

We get a guy needed 70%, the bottom 50 trade that type -- well, we would love to write -- Scott Wolfstein is now the Chairman Emeritus. We would have liked Scott to lend him additional proceeds against that portfolio, and we can charge our higher spread because a senior got taken out so tightly. That's a good thing, right. And I think the government is going to withdraw from the property markets at some point. And I hope we have a lot of money either in this raise, or another raise to take advantage of the fact that once they're gone, I think some of stuff is going tol trade slightly differently than it's trading today. I don't think these are the credit card markets. These are lumpy cash flows. And I think the market is at least a little more sophisticated than it used to be. And if you look at the suppliers of capitals of the space, there's just no ifs, ands, or buts about it. There is a greatly diminished universe of suppliers of capital to the property sector. And there's still as much property out there as there ever was.

Right. Just following up on your comment on the difficulties with TALF and potential resolution, you're putting capital out on an unlevered basis until you deploy the IPO proceeds. Are you working today with a bank group on the terms of your initial leverage beyond TALF, whether it be a line -- what might that entail and what might the format be?

We continue to work with three different lenders on the line basis. Paying the fees up front today on money we are not going to draw for next month doesn't make any sense, it just burns through our cash balances. And we think, at the moment, I tell you there is a better execution available to us to lever than maybe a bank line. The bank lines have to be nimble, and that would be the inverse of what we usually get quoted by banks today. Nimble is not high on their list of things to do. So a line that is not a line isn't a line. So in other words, a line -- and we have been arguing with one of the banks, or discussing with the banks, would be a more, a friendly user term. That if you bought a building 50% levered, a 50% fall, but it covered their line balance 5 to 1 -- I'm just making this up -- wouldn't they be better off than asking us to have a building 90% full with 1.2-to-one debt service coverage to their position? They say they don't really care. They want the buildings to be 90% full. If the lease expires next week, that's not really full.

Right.

We're working with different banks. It's not an issue, but if you see the execution of the DDR deal and listen about my comments about life companies, we're pretty confident that it's going to be binary. Either they show up and spreads come in for the most --the lowest LTV position, which is what is happening. What you're seeing is the AAA, the bottom, the real AAA, the new AAA, it's pretty tight. It went at 4%, I guess in the DDR deal. But that was probably 30% of value.

Yes (inaudible).

By the way that wasn't really four. That was six. To the TALF guy, that-the four's a six. We also don't remember. I didn't mention this, but we're not taking mismatched duration risk. One of our big challenges with the bank line is getting the right term to match a 15-year loan. It's not that easy. One of the reasons we haven't bought some of the other CMBS paper is we don't want to have the potential of being unlevered. In CMBS it's 5/67 yields and 5/7 yields, and you're 5 when the paper goes away. We have a massive capital call. We're not interest in capital calls.

It will be interested to see how you play that out then, because I have never see a line that would give you the kind of term that your assets ---

You're seeing a lot of guys put stuff on lines and then put them out in more permanent capital structures.

Yes, exactly.

That's not an issue. It won't be an issue for at least six months, my guess is. But you're right. We'll see how it plays out.

Well, there are no CDOs. You mentioned CIT as an example of a potential opportunity there, the fact that they're not in the market. What in their business plan would fit something Starwood might do?

I would rather not comment. They have lines of business that we think would be interesting for us. Our goal is to built a multicylinder company that has a -- that can fire up -- maybe there is 12 cylinders, and eight of them are working at once and four of them are turned off, and then two of those that were on are off, and the other two turn on. There are lines of business that people are not in today, but we don't want to complicate things yet. Because we would rather keep it really straightforward and simple. Really, from our perspective, while we're delighted the economy seems to be healing itself slowly, we're not wow, boom, on the economy here.

There are areas of property that we think are interesting and we have expertise in. But at least initially we're probably not likely to venture into. And some of CIT's businesses were in line -- were businesses like that. We have been offered loans on gas stations and loans on (inaudible) and blah blah blah. If we like the cash flow stream, we'll make a loan. But, gas stations are probably a little too exotic for us right now. And we really want the shareholders to feel comfortable and understand what we're doing. If you understand what we're doing, and like what we're doing, you will give us more capital to grow. If we made it too confusing, I think that will be a long-term negative.

Okay. And a couple of accounting details, you had roughly $40 million of built-in accretion on the purchase loans. How are you guys going to handle the accounting for the tax-gap differences?

Hi, David, it's Barbara. How are you?

Good, thanks.

I guess I'm confused what you mean by handle the accounting. For GAAP it will be accreted to income.

Right. In terms of dividend requirement, you could end up with a dividend requirement without the cash.

We are going to have to balance that. Obviously if we have that issue, we're going to reserve cash to pay the dividend so we don't have an issue. But that is something we're going to have to be monitoring on a portfolio basis, and it is an interesting challenge. We have avoided --what are we avoiding? There are deals with high IRRs that have (inaudible) plus 30 paper. We just can't buy them because the income is high, but the cash is so low that that's going to pose a problem. So we have stayed away from (inaudible) floater loans right now because of the low coupon on them. And you almost can't buy them cheaply enough to make --what I like to say, our bogey on payout ratios or current cash pay.

You said there are no discounted payoff terms on the deals you have done so far?

No. On the stuff we have done so far, no.

Lastly, you talked lot about --

Like one of the deals in the pipeline has an opportunity to pay off but we have not closed it yet.

Okay. It sounds like your looking a lot of product that's being shown to you. I think your initial business plan did include some origination.

Yes.

You haven't really talked a lot about that. Could you do so?

Yes. To have originations, you have to have borrowers. And what we're finding, and working on adding originators to our staff, actually. I'm not going to go into too much detail, if you'll allow me to skip it a little bit, but it is an area that we would like to originate more loans. Again, I think because the kinds of assets we're used to underwriting, the $15 million investments and up -- most of these things are not moving. There's not the velocity because guys can't refi, and they're working with their banks and just extending those lines lines. I think we will be creative. I think we have proven ourselves to be creative. It's an area we will definitely build up.

Leo Wong is here sitting with me from Goldman. He has been focused a lot on our securities side. We also have been working on the origination side, too. Some of these loans that we're coming up with are both originations. The $66 million (inaudible), they're both originations. We bought a loan, I guess, an existing loan, for the $110 million deal. And then in the bulk of the pipeline, I would say about 2/3 of it is originations. So of the billion so-odd -- it's bigger than that. But I'm giving you a nice enough number. A lot of it is originations.

One of the things you're seeing -- a good place us to play is loans on loans, right. Where guys buying back their loans and we can make that loan on a loan, which live company probably isn't going to do. That's an area that is pretty attractive to us. We don't consider it just transition asset, it's a stable asset, it's just got a transitional capital structure. One of the investments in the 250 group is what I call transitional. The coupon is set at one level while it's a loan on a loan and then another level when it gets the REO back. That's a dozen or more properties in a portfolio that he is taking advantage of a moment in time to buy his debt back at a discount, and we are going to lend him some portion of the capital. He's going to put a whole bunch more money -- He is existing lender and he's buying into senior debt. I think just like anything, as the market sees us perform and produce -- we've got to be flexible. We've got to bob and weave with the marketplace, which I think we're doing.

Okay. And I did have one other -- you talked about trying to be transparent at the same time, as providing for some confidentiality for your borrowers given their difficult situations at times. You, as an organization, have made a decision, I think is what I'm hearing, that you're not going to be disclosing property level information.

I would say this. I don't think we have made that decision. I realize I would like to know those facts, if I could, myself.

Right.

In some cases, the borrower asked us not to reveal who they are. We are going to try to respect that. On the other hand, I think when we get bigger, and there's -- we can give you more granularity because no one loan or borrower is really going to affect anything. But in this art, what I call our start-up competitive race stage, probably if we can, we will tell you.

If we think there's a business reason not to tell you, we won't be able to tell you. We will use that kind of business judgment rule ourselves on what we talk about. And we're aware that we are one of the larger players in the space today. But we just lost a deal to a company I never heard of on two hotels down in the Houston, Texas, area. And we really obviously -- it's a competitive space and people are looking for yields. Rates rise, our business will get better because money will go other places. That doesn't really belong (inaudible) right now, but it's here because it's the only yield left in the world. At least it seems like it at the moment.

Okay, thank you. We'll follow back on that with you privately.

Excellent.

Our next question comes from the line of Ken Bruce with Bank of America. Please proceed with your question.

Hi, Ken.

Hi, your comments have been very helpful. I think you made a couple of points along the way. You thought the yield that you were showing on the initial portfolio were conservative and that there might be some upside, as well as potential equity kickers that you're looking at. Could you elaborate on that, please?

We mentioned the yield were 16% of CMBS, which was yield to worse, if they get paid off earlier there, it's higher. And on the large transaction was 13 unlevered, so you would lever it 50%, 60%, pick a coupon, and you're going to wind up at very high yields on the stub equity. And the stuff in the pipeline, one deal we won't lever, it's a mezzanine. Although, it's a mezzanine on an excellent asset . And the other is a first mortgage on a shopping center, and the highly probable investments are mostly first mortgages. In fact, I'm looking at them -- they're all first mortgages. And I think we can lever those into the-- we were talking about levered yields from 13 to 15 in first mortgages, and it's still achievable. Then you net our expenses out and the fees and you wind up with hopefully a dividend that will take the stock -- that the market will find very attractive trade to a lower dividend yield and the stock will rise.

One of the problems when we did Istar, when we started Istar, was that we had some equity kickers and the market just has no clue and rightfully so, doesn't know how to value them. Because they're not in the current income. They just sit on the sideline. But they do fill gaps and they do create capital gains if it's real money. It's kind of like when we opened in Cala di Volpe in Sardinia and our stock was trading at six times EBITDA at one point. And we said these assets are worth 20 times. But nobody cared unless we sold them, right? Kickers are -- we won't sacrifice coupons for kickers. But we will take a pay rate, an accrual rate, if necessary, and the kicker.

As we climb capital stacks, we look at kickers, and we haven't really gone there. The only time -- and it's not -- I'm looking with 40 deals on the sheet, only one of them involves material kicker. But it's a big loan and that is one of the reasons we would take a kicker on it. I think it's just gravy. For us it will be to get the bogey on the paper north of the 20 IRR. If you're going to go off in the capital stack, You've got to get a great return. If we can achieve that, we will do that. It is not something we've been looking to do because we haven't, frankly, climbed high enough in the LTVs, in the loan to value, to ask anybody with a straight face for a kicker. As you think about it, and they need to get a transaction done, and you like your risk/reward, you would do that and we will do that or we'll get look back IRRs or other kickers that will get returns to, hopefully, well beyond what we outlined to the shareholders during our

Right. And then to the degree that you are originating larger loans than your hold size would dictate. Is that a situation where you could get fees and (inaudible) fees and sell out the junior piece or --

Absolutely.

I think that that is helpful. You have already answered lot of questions.

Thank you.

Mr. Sternlicht, there appear to be no further questions at this time. I would like to turn the floor back over to you for closing comments.

We look forward to chatting with everybody again in three-or-so months time, and we hope everyone has a great Thanksgiving, and if we don't speak to you, a great New Years. I think we're presenting at some conference coming up, so look for us there if you want to come visit. We're available --myself, Barbara, Leo- we're available to chat any time with the shareholders. Thanks a lot.

This concludes today's teleconference. You may disconnect your lines at this time. Thank you for your participation.