Starwood Property Trust Inc (STWD) 2010 Q4 法說會逐字稿

Please stand by for real-time transcript. Greetings and welcome to the Starwood Property Trust fourth quarter and 2010 year end earnings conference call. At this time, all participants are in a listen-only mode. A brief question and answer session will follow the formal presentation.(Operator Instructions)As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Mr Andrew Sossen, General Counsel at Starwood Property Trust.Thank you, Mr Sossen, you may begin.

Good morning everyone and welcome to Starwood Property Trust's fourth quarter 2010 conference call. Yesterday we released our financial results for both the quarter and year ended December 31, 2010, and filed Form 10-K with the SEC. These documents are available in the Investor Relations section of the Company's website at www.starwoodpropertytrust.com.

Before the call begins, I would like to remind everyone that certain statements made in the course of this call are not based on historical information and may constitute forward-looking statements. These statements are based on management's current expectations and beliefs and are subject to a number of trends and uncertainties that could cause actual results to differ materially from those described in the forward-looking statements. I refer you to the Company's filings made with the SEC for a more detailed discussion of the risks and factors that could cause actual results to differ materially from those expressed or implied in any forward looking statements made today. The Company undertakes no duty to update any forward-looking statements that may be made during the course of this call.

Additionally, certain non-GAAP financial measures will be discussed on this conference call. Our presentation of this information is not intended to be considered in isolation or as a substitute for the financial information presented in accordance with GAAP. Reconciliations of these non-GAAP financial measures to the most comparable measures prepared in accordance with GAAP can be accessed through our filings with the SEC at www.sec.gov.

Joining me on the call today are Barry Sternlicht, the Company's Chief Executive Officer, Jerry Silvey, the Company's current Chief Financial Officer, Boyd Fellows, the Company's President, and Stew Ward, the Chief Financial Officer for the Company's external manager. With that, I'll turn the call over to Jerry.

Thank you, Andrew and good morning everyone. This is Jerry Silvey, the interim Chief Financial Officer of Starwood Property Trust. This morning I will be reviewing the Company's fourth quarter and year ended December 31, 2010, results and investment activities. Following my comments, Barry will discuss current market conditions and provide his views on both the current economic environment and recent events.

This quarter we reported $20.2 million of core earnings, up 13.6% over core earnings in the third quarter before giving effect to the third quarter securitization gains. Net interest margin was $24.5 million in the fourth quarter, up 7% from the third quarter. Core earnings per diluted share in the fourth quarter were $0.37 per share, which is on par with the third quarter before the aforementioned securitization gains.

We would like to highlight 3 major accomplishments during this past quarter. First, we had a highly successful secondary offering in December which raised net proceeds of $435 million through the issuance of 23 million new shares of stock. Worthy of note is that the fourth quarter core earnings per share would have been $0.04 higher except for the impact of the issuance of these 23 million new shares in our calculation. Proceeds from this raise were used to repay a portion of a revolving financing facilities and will be used to fund our acquisitions as our new origination team continues to ramp up.

Second, we completed 2 additional financing facilities, a $150 million warehouse financing facility with Goldman Sachs and a $125 million asset based credit agreement with Bank of America. This brings the number of our financing facilities to 5 with an aggregate available capacity of $1.1 billion. As of today, only $591 million is outstanding under these facilities as we had used a portion of the equity offering proceeds to repay a portion of this debt. The Company expects that it could draw down an additional $231 million under these facilities to finance the existing assets. It's also important to note that both the underlying assets and the related debt are match funded with respect to fixed versus floating rate debt.

Third, we invested over $543 million in target assets during the fourth quarter, which included the transactions detailed in our press release. This increase is total assets to the Company to over $2.1 billion, with $1.8 billion of target assets. The Company has $633 million of leverage in place on these assets with the ability to draw down an additional $231 million under existing debt facilities against these existing assets in our portfolio.

At actual debt levels -- the current actual debt levels, the leverage return on this existing portfolio is 11.4%. Please note that when the $231 million of additional leverage mentioned above is used, the expected leverage return on the existing target assets will increase to 12.9%. The risk profile of this portfolio has remained largely intact with an average last dollar LTV under the underlying collateral of under 65%. Also note that 25% of this net portfolio is floating and 75% is fixed.

Our CMBS investments, which are classified as available for sale on the balance sheet, totaled $275 million and are generating a 13.2% leverage return. Of this amount, $207 is our top related multi-asset CMBS. These are safe pieces of paper rated A 2 which have been financed with $171.3 million of match funded non-recourse debt. We've also been utilizing high quality, short duration RMBS securities, principally as a way to enhance or achieve and enhance return on our excess cash that has not yet been invested in our target asset portfolio. As of December 31, these securities aggregated $122 million and have generated a return of over 10%.

Let me bring you up to date on our current investment capacity. As of yesterday, March 1, we had $148 million of available cash, $217 million of undrawn financing line availability on existing assets, and over $200 million of net equity invested in CMBS and RMBS, which are predominantly liquid securities. With this, we have the capacity to acquire approximately $550 million of subordinated in mez loans or this available capital could be levered into a greater amount if we were to acquire [whole bridge] mortgage loans.

The current run rate of the portfolio, our investment pace to date, and our healthy future pipeline gives us the visibility to declare a $0.42 dividend for the fourth quarter which will be paid on April 15, 2011, to shareholders of record as of March 31. This represents a $0.02 or 5% increase over the fourth quarter's dividends, and represents an 8.4% dividend yield on the Company's weighted average stock issue price and a 7.3% dividend yield on yesterday's closing share price.

Before I turn the call over to Barry, I'd like to welcome Stew Ward as the new CFO of the REIT. He will be assuming the role effective March 15. Stew, as you know, has previously been functioning as the CFO and the Manager of the REIT and we've been working very closely together on the transition over the last 4 months. Stew has been integral to the closing of a large part of the $543 million of investments made during the fourth quarter, as well as our 2 new financing facilities.

It's been a pleasure to serve as the interim financial officer and getting to know a number of you. But I feel comfortable leaving the balance sheet in very good hands. With that said, I'd like to turn the call over to Barry to comment on the markets and provide some additional insights into our growth.

Thanks, Jerry. Thanks, Andrew. Good morning, everyone. I'm going to allow time in our questions for you to ask questions of Stew and also of Boyd. But I'll give you thoughts on the market on the quarter.

This was an important quarter for us. It was somewhat transformational for our Company. We completed the largest, first time add on offering in REIT history, raising $434 million. And while the price did get a little weaker than we hoped in the offering, we used it as an opportunity to acquire. I bought $5 million of stock for my trust funds in the offering because it was a great opportunity.

We are building out and spent a quarter building out the external adviser. We added 10 executives by bringing on board Boyd and his teams to Chris Tokarski and Warren de Haan. And today, as of now, we have 29 people 100% dedicated to the affairs of the REIT. And while we still leverage off the capabilities, the global capabilities of Starwood Capital Group, particularly in places like Europe where we're seeing increasing deal flow, we have a lot of people, some of which came on board in January. So, they are not included in the press release comments. And that includes some dedicated correspondent networks to help us build out our origination pipeline.

The world has really changed a lot since the IPO in August. No need to tell you that the capital and credit has returned. The markets are wide open. Here before the issues in refinancing deals has been actually people's willingness to refinance deals. LIBOR based loans that we're paying 63 basis points, a point and a half. Nobody felt an urgency necessarily to sell the loan. The banks didn't want to take the hits and sell at $0.60 and $0.70.

Now that the markets have recovered, actually, it is a double edged sword. I mentioned this in my comment and I quote in the press release. And markets are much more open. There's a lot more deal flow. The loans are being sold at $0.90 and $0.93. On the surface, that would imply that perhaps the opportunity no longer exists to earn the kinds of returns that we talked about at the IPO in August. But the contrary is actually true. If we look at the yield on the $543 million we put out in the fourth quarter, I think the stabilized yield will be 12.8%, which better than the 12% we talked about at the IPO. One of the consequences, however, for us of all this capital returning to the market is it continues to be difficult to monitor the pace of our investments.

We actually -- when I did the road show with Andrew for the follow on, we talked about two large deals closing. That would suck out most of the capital that we had raised in the offering and hopefully, that was part of the issue with our timing of that offering which I think surprised us. But we had 2 large deals, 1 of which you see we closed, the Columbia Sussex transaction. You can see that it's a very complicated structured transaction.

The second investment which we expected to close we're still working on. It's not dead by any means. We kept putting it back, adding more collateral to the pool, restructuring the deal. Checking the borrowers entire balance sheet, priced value of his home and everything else. As we make sure that we continue the theme, which has been consistent and boring since the first IPO quarter or first conference call, which is safety and discipline, safety of yield and a growing income stream and paying out what we earn. It's really -- for us, we're the tortoise, not the hare. We can be bigger, but we are going to be bigger with a good portfolio.

And at the moment, one of the comments I have been asked to talk about, we have no investment concerns in the existing portfolio. And to earn over a 12% stabilized yield on a portfolio with a 63% LTV, which is now 500 basis points, 450 to 500 basis points in excess of junk bond yields, I think is absolutely compelling and hopefully we continue to do so. The other thing the market allows us to do when you're buying loans at $0.90, or originating loans at tighter spreads, obviously, AAA spreads have come in, AA spreads have come in. So, we can offer -- we can pay more because we can finance our senior piece. So, the senior note of the position at a cheaper price than before. And that's a win, win, win.

It allows you to offer a 7% first mortgage and still earn 11 to 12 on your junior notes. And in some cases we can go lower. But for -- on a coupon, and we did, I believe in the Walgreens portfolio, which was 20 odd years, 25 year leases and 20 year leases left and a very compelling cash flow stream, although not that sizable of a transaction at the end of the day.

I think in the long run, when we look at ourselves now with Boyd's team and his capabilities and his teams capabilities is we want to distinguish ourselves in the marketplace by our flexibility, the speed at which we can react. Our 25 years of our firm's relationships with borrowers and then Boyd's 25 years and 10,000 and 13,000 names of relationships that he has worked with over the last two decades. We also have a global footprint. We are seeing an increasing pace of in our pipeline several opportunities for us in Europe that we will probably execute on.

And we are very flexible. A borrower can work with us. And for a cookie cutter deal, we're going to lose. We always said we'd lose. We lose to an insurance company that are quite aggressive right now writing senior debt. But we have the underwriting skills which we've honed over 20 years and through our investment community process to dial up and down the capital stack to find the right rewards for the appropriate risks that we think we're taking.

We think the portfolio is very sound. 62% LTV actually surprises me that it's that good. When I look at the pipeline for us going forward, which is well in excess of $1 billion and what we have, feel very comfortable about. Again, the timing can be tricky for us. We're going to close it when it's ready to be closed. We aren't going to race to close deals or lower our underwriting requirements. It's tricky today because a lot of people seem to be discarding all of their underwriting requirements. But, again, we can do that because I think we understand, we come from the equity house of life and we understand the risks associated with properties and we do operate across the world today with 9 offices.

So, I think the pace of our closings continues to be wobbly or irregular. Hard for analysts actually to put quarterly earnings numbers together for us. But we were able to increase our dividend to $0.42, which we think is terrific. I think it is best in class in our peer set and we expect to be earning every penny of it from current cash flow and gains in our portfolios.

And the pipeline also, if I talk about the characteristics of the pipeline, we have office deals in the pipeline. We have corporate mezzanines, we have some FDIC pools that we have been looking at and other bank pools. We're seeing more from the origination side which we consider proprietary. We're also pleased to have $600 million of ammunition, $550 million updated as of March 1. And, for example, the Columbia Sussex loan, the senior piece which we intend to securitize. I think carries an 8.25 coupon. And we think that was a spectacular origination by actually some of the Starwood Capital guys that worked on that for months. And probably that loan should have been done somewhat inside of that, but it's a complicated loan and we have a long relationship with the borrower and we're able to (Inaudible) other people weren't able to do.

And the last thing I'd say is we have talked about entering other businesses and I'm not going into too much of it. But there is one related business that I think the unique capabilities of Boyd and Stew and the rest of the group bring us, and we're going to be doing conduit loans, and we're going to do them in the taxable C Corp. They'll go in and out of the -- we have working with several lenders. So, that allows us to make loans at 5.25 and earn 4 points, which might be $1 million for the REIT and we will be working on structuring as tax efficient for the shareholders. But that allows us to employee all our people and stay busy all the time. And so if there's no mez piece and there's no -- the guy wants a 50% loan or a 45% loan, allows us to be competitive even when there's no junior note for us to take and still earn a good return for our shareholders and good cost of capital.

And all of those things are helpful with scale. I used to be skeptical of companies that said bigger is better. I often think, having run Starwood Hotels, that sometimes there are dis-economies of scale. Certainly you see often in operating business, managements sometimes lose focus as the companies get too big and they lose accountability. In a financial company like this in a financial business where ultimately we'd love to drive our own securitizations and get our own debt on the corporate balance sheet, scale is really important. And no single asset, no single repayment would interfere with the growth of the Company.

So, being big is better. But we're going to continue to grow at the right pace and I think we've said that from the start. Consistency of earnings and stability in growing a dividend, income stream and we are really, to remind those of you who are new to our shareholder base, we are focused on loans that are performing and will stay performing. We are not doing bankruptcy organizations in this vehicle. We think it's about safety and growth and income. With that, Stew and Boyd and myself, Andrew, Jerry, will all take any questions you have.

Thank you. Ladies and gentlemen, at this time we will be conducting a question and answer session.(Operator Instructions)

This could be our best earnings call ever with no questions.

Thank you, ladies and gentlemen. Our first question comes from the line of Joshua Barber with Stifel Nicolaus.

Good morning. Sorry to disappoint, there are some questions.

Oh, well.

You mentioned the possibility of writing conduit loans, but it sounded more like that would be a gain on sale business. Is there any potential there for you to actually be doing conduits and keeping the B piece yourself?

Yes, absolutely, but sometimes we are not writing them wide enough. We will retain the B piece if there is a B piece there.

And we're servicing the banks, actually in this business because we have an origination capability and it's a symbiotic relationship. As you know, the banks that have gone back to securitization, they really don't want to warehouse these loans for long periods of time. We think it could be a pretty significant business for us moving forward. We are in the main business of actually -- of asset aggregation and building this terrific risk reward yielding portfolio.

Yes. I guess how would you think about matching duration even if you're taking a little bit lower return on equity?

One of the smartest guys I ever met is sitting here in this space. So, I'll let Stew answer that question because I have no idea what they do. He has done all these hedging facilities that freak me out.

The business plan for the operation of the TRS is one that is fully hedged. So, we look at the securitization markets at the time that we're originating a loan as the financing source. But the settlement of that financing is forward. Anywhere between 60 and call it 150 days. And we enter into and have put in place, as Barry mentioned, a number of facilities with Wall Street players that allow us to hedge both interest rate, as well as credit spread risks that we feel prudent and that allow us to effectively, when we're pricing transactions to the customer, to lock in within a very tight tolerance the actual financing costs associated with a securitization that may not happen for, again, like I said, 90 to 60 to 150 days.

The business will be very prudent and to address a little bit the question you asked before, my bet is if you look at the business mix of what we'll -- when we do securitizations, the majority of those will involve situations where we retain B pieces. That's our primary business, as Barry mentioned. Assets under management.

It's not that wide.

Right, they're just not that wide. Nonetheless, my guess is more than 50% of the time when we securitize something it will really represent a financing transaction, but we want to avail ourselves because we have a broad net of our capabilities in the securitization market and the ability to earn gain on sale profits from loan originations that are low enough in leverage that they don't incorporate subordinate financings that we would provide otherwise. But that represent a good profit of opportunity for us.

But it sounds like a lot less of a gain on sale business if you're doing that full hedging rather than keeping the B pieces there. Would that be fair to say?

Suffice it to say that when we estimate profitability of the conduit only business, it is a fully hedged profit estimate. It's not a -- we're not taking -- we're not making spec bets on whether it be interest rates, or credit spreads and otherwise to win in the conduit game. It's a wholesale to retail strategy.

Understood. One quick question on your RMBS portfolio. I noticed that the rating there is now BB minus. Do you think of those -- are those -- I know they're all available for sale, but what's the strategy there? Is there -- do you think there's going to be a lot of par accretion or is that essentially a cash equivalent today? And if it is a cash equivalent, would you look to move up in the ratings spectrum?

We've done really well with that portfolio. We monitor it very closely. And we actually had 3 marks at year end to check before we expanded the footprint of that business. And the 2 marks were significantly higher than the mark that we were carrying it for. So, what we've done there is we had kept that as a cash management tool to less than one year maturities. We've expanded it slightly. And we can lever that portfolio. There's absolutely no leverage against it. It's held completely unleveraged. So, it's another source of cash for us.

We're going to -- we're pretty comfortable. We watch it really closely. We're pretty comfortable what we're doing there. We have, unfortunately for the quarter, and this quarter we've had too much cash. We've not taken above 10% of the assets of the entity. And we were sitting on for a lot of the quarter and this quarter $200 million plus of net cash, which doesn't earn quite a bit of capital. That's one of our challenges and our earnings.

We're not upset about that. We know we're going to put it out. We just want to put it out in the right investments. So, we would prefer to have found one earlier. We like what we've got in our pipeline and we're comfortable. Boyd, do you want to comment a little bit about pipeline or anything?

At January was a little bit slow in terms of signing up transactions. But we feel good about what's ahead. And generally, the transactions -- I think it's noteworthy that the transactions that didn't happen in January weren't as a result of us losing transactions to competitors, but rather as Barry said earlier, borrowers who backed up closing dates or have delayed things for other reasons.

I was trying to fix some learning more about certain situations making sure a borrower doesn't get into trouble after we make him a loan. We've-- we're very tough. We're very flexible. But we don't want to have any problems in the portfolio that we could have known at the time of the loan origination. Stuff happens in the world. Stuff -- when we make a loan, we want to get our money back.

Thanks very much, guys.

Thank you. (Operator Instructions)Our next question comes from the line of Stephen Laws with Deutsche Bank.

Thanks for taking my question. Congratulations on another nice quarter. Can you maybe -- you spent a lot of time talking about the underwriting standards and what you are seeing and I appreciate that. Can you talk a little bit about how that may change with European based investments or how it's different with those investments than here?And do your current lines in place allow you to add leverage to those investments there or do we need to get a line specifically for European investments?

And secondly, could you touch on the book value volatility?It's been a little bit more volatile the last couple quarters than I expected. Could you talk to what changes we saw in the quarter here at year end from 9/30?

Couple things. First on Europe, I think most of what we've been seeing in Europe we're trying to focus on our mezzanines that aren't going to be levered. Our current lines do not apply to European investments at the moment. And to the extent they grow into a much bigger piece of our -- we have hedged out currency risks, but to the extent they grow, there could be marks that get done quarter to quarter, which are obviously irrelevant from a value standpoint, but would affect earnings on a notional basis each quarter. That's one of the negatives of going offshore.

On the other hand, we do think there is going to be a lot more loan sales in Europe. And at better pricing I would say than some of the stuff you've seen in the US. They're certainly behind us on taking care of their issues and we had a few banks that had tarp money. They have banks that are holding on by the British government. As they re-capitalize and the Spanish banks will be held for sale.

We're going to be careful about how much of that we're going to do here. It gets to be a little complicated if we have wild swings in currencies. We're going to address that as it becomes an issue. It's not an issue yet. And there was another question.

Just book value volatility ticked down a little bit even with --

So, the book value, we issued stock at 1973 I want to say and paid the underwriting costs of the offering. And that transaction alone was about $0.20 odd diluted. $0.26 diluted to book value. And that was unfortunate, but obviously, we don't hopefully, have to come back to the market for a considerable period of time. And if we do, it should be a good news item. We probably were a month early in hindsight, but we would have gotten very low on cash.

We did an offering. We could come back twice for $250 million offerings, or come back once for a $430 million offering. We chose to not disturb the stock price. And we might see other ways to raise capital going forward that would be less disruptive to the shareholder base. That, we'll examine when that time comes. That won't be for a while.

So overall, I think what you're seeing is we are trying to originate more stuff in the states. What we're seeing, what's happened is we think there's going to be an interesting mezzanine piece to take down and we know it's a difficult business. When the street principles alone and then sells it down, it's going to be -- there was a big senior housing deal that was done and the underwriter thought it would get done at 10 and it got done, the junior note got done at 9. We are not buyers there. Not reflecting on the individual credit of that deal, we are seeing -- look at the MGM financing on CityCenter. I mean that's got a big pick position in it and the company's trailing EBITDA doesn't cover the debt service on a run rate basis.

There's some interesting things going on in the high yield market right now that are different. And I compare them to the kind of yields we've been able to produce at a 63% LTV with, I don't know what the overall debt service coverage is of the portfolio, but it's going to be pretty whopping. And these are to real coupons, not LIBOR, not LIBOR plus 100. Not 1.5% coupons. These are, obviously, significant coupons. The whole envelopes are 6%, 7%, 8%, 8.5%. They can withstand some turbulence in the market.

When we look at Europe and because of the volatility, we're trying to get higher spreads in Europe on our junior notes. And we're not chasing down yield in Europe.

Great, thanks a lot for taking my questions.

Thank you. Ladies and gentlemen, our next question comes from the line of Gabe Poggi with FBR Capital Markets.

Good morning, guys. I wanted to ask a question about what you're seeing in the competitive landscape. Barry, you had mentioned that obviously you guys are not in the cookie cutter-esque deals because the life insurers dominate there, but in terms of where you guys are looking to originate product, are you seeing more specialty finance companies? Are you competing directly with big banks? Conduit players? Regional banks?

I've heard that there's a significant amount of new lenders out there that are all clamoring to do conduit loans. The quality of those lenders depends -- can be argued. But just curious as to who you guys are seeing. Who you guys go up against.

I think we don't talk about it because everybody starts to call telling you that $1 trillion [of pay]. I think just in the -- there's a lot of paper out there that has been pushed. It was extended a year or extended two years. Some of it will have really high LTVs. And we're better in the -- 63% is an anomaly I would say. I would say you would see us be in the 60%, 70% to 80% LTV and if we're comfortable, as we mentioned earlier, we might take an equity kicker in a deal and go higher if we really understand the story. Sometimes we are seeing assets that either we owned at one point or we bid on in our history. We think we understand these assets pretty well and certainly the markets they are in, in multiple asset classes.

I'd tell you that there are 5 major banks playing in the securitization game. You know who they are. They're back doing deals. Again, it's not all bad. The conduits tend to be, typically as you would expect them to be, very undisciplined. They're not -- usually guys who are running a shop, trying to get it out the door faster than they can write the paper. And I'd say that we're disappointed that this has happened. I think the break will be the rating agencies. And I don't think they'll make the same mistakes they made before.

The pace at which this is going to happen and the pace at which they let underwriting senders slip will all be dependent upon the guy who regulates it, which is in this case, the same guys who drove the bus before into the ground, by the way. Maybe the people are different, but they are not any differently regulated that I can tell. I find that very troublesome. The guys driving the bus are still driving the bus.

And subordination levels are changing, securitization.It's all -- the world is not pricing risk correctly right now. And I think we just pick our spots. And find in a small -- in a world of trillions of dollars of loans, we're a tiny player. We don't need every loan, we just have to make enough loans to be able to run our business.

Fair enough. Thanks.

Thank you. (Operator Instructions)Ladies and gentlemen, unfortunately, we have no further time for questions. At this time, I'd like to turn the floor back to Mr Sternlicht for the closing remarks.

The only thing I would add, thank you all for being on the call, is come visit Stew and the group in San Francisco. They will be in the new offices in 3 weeks. And come see us and talk to us and tell us what you want to know. We'll provide any information you'd like. We want to be as transparent as possible so you understand the risks of what we do.Thank you very much for your time today.

Ladies and gentlemen, this concludes today's teleconference. You may disconnect your lines at time and thank you for your participation.