TPG RE Finance Trust Inc (TRTX) 2018 Q2 法說會逐字稿

Good morning, and welcome to TPG's Real Estate Finance Trust Second Quarter 2018 Conference Call. On the call today are Ms. Greta Guggenheim, Chief Executive Officer; and Mr. Bob Foley, Chief Financial and Risk Officer. Greta and Bob will share some comments about the quarter, and then we will open it up for questions.

Yesterday evening, the company filed its Form 10-Q and issued a press release, including a supplemental earnings presentation detailing its operating results for the quarter ended June 30, 2018, all of which are available on the website in the Investor Relations section.

Let me remind everyone that today's call may include forward-looking statements, which are uncertain and outside of the company's control. Actual results may differ material. For a discussion of some of the risks that could affect the company's operating results, please see the Risk Factors section of the company's Form 10-Q filed on August 6, 2018 with the SEC.

The company does not undertake any duty to update forward-looking statements. During this call, the company will also refer to certain non-GAAP measures. For reconciliations of these non-GAAP measures, please refer to the Form 10-Q and the earnings supplemental, which are posted on the website and have been filed with the SEC.

With that, it is my pleasure to turn the call over to Greta Guggenheim, Chief Executive Officer of TPG Real Estate Finance Trust.

Thank you, Brad, and good morning to everyone on the call. Thank you for joining us as we present our second quarter results. It was an excellent quarter, and it's been a great year-to-date through early August. In the second quarter, we continued the strong pace of originations established in the first quarter by closing 7 first mortgage loans, totaling $609 million. For the first 6 months of 2018, we originated $1.2 billion of first mortgage loans with a weighted average credit spread of 343 basis points. Our year-to-date originations are $1.8 billion, including 7 loans, totaling $637 million that have closed or in the process of closing since June 30. This volume nearly equals the amount we closed in all of 2017.

The weighted average loan to value of originations in the second quarter was 72% on an average loan size of $87 million. The small quarter-over-quarter increase in loan to value reflect our focus on cash-flowing, bridge and light transitional assets, which comfortably support higher advanced rates by us to our borrowers and higher leverage to us from our lenders. Year-to-date, our weighted average loan to value is 68%, which includes the $637 million originated since quarter end, which have a weighted average loan-to-value ratio of 62%.

For the second quarter, our weighted average credit spread was 308 basis points. Our average credit spread was tighter in part due to $190 million first mortgage loan with the credit spread at 270 basis points. This is the tightest spread we ever originated in TRT's history. By contrast, the weighted average spread for the $637 million source subsequent to quarter end is close to 400 basis points at 392 basis points over LIBOR.

Over $420 million of this was sourced directly with borrowers. Having these deep relationships able (sic) [enable] us to not rely on heavily mass marketed broker deals.

Year-to-date, our weighted average credit spread is 360 basis points. Please note that these attractive spreads were achieved without our origination of construction or mezzanine loans. It is difficult to extrapolate trends based on quarterly activity because large loan originations are quite lumpy, and a delayed closing can skew one quarter's results.

Spread compression has been a fact of life recently, but it has not been a roadblock to our progress. Our experienced team has successfully utilized our deep relationships with borrowers and brokers, which had been established over decades of lending and our extensive credit knowledge to source the most attractive lending opportunities.

We added a senior originator to our originations team during the second quarter to provide additional firepower. Also contributing to our positive momentum is our integration with TPG's real estate equity investment team and its ownership of 87 million square feet of commercial real estate in the United States. This greatly enhances our loan sourcing and loan evaluation.

Our reputation for responsiveness and deep engagement during the origination and asset management stages of our business is another TRT-differentiating factor. We strive to be the first call for every borrower's next investment, and our results suggest, it's working. For example, 3 of the 7 loans we originated in the second quarter were with repeat borrowers, and the remaining 4 loans involved borrowers and/or brokers with whom we have deep long-term lending relationship.

We remain disciplined in avoiding unwanted credit or tail risk down the road. For example, we don't target new construction loans, given the mature real estate cycle. We focus on diversified originations by size, geography, property type and sponsor and a mindful of concentration risk in our portfolio. We prefer to concentrate our efforts on loans with shorter-term business plans, strong sponsorship with skin in the game and strong underlying real estate fundamentals.

We believe our continued focus on disciplined deployment is evident in the quality and volume of our year-to-date loan originations. While the market is competitive, we are encouraged by our year-to-date origination volume of over $1.8 billion, which nearly equals our entire production for fiscal year 2017. Again, all of this is first mortgage loans on predominantly very light transitional, cash-flowing asset and with a weighted average spread of 360 basis points.

We are also excited about our robust loan pipeline, many of which are very far along in the underwriting process. Credit quality remains our top priority, and we feel very good about the quality of our loans and the risk-adjusted return.

With that, I'd like to turn the call over to Bob to discuss our results.

Thanks, Greta, and good morning, everyone. Since detail regarding operating performance, the loan portfolio, our capital base and other key performance indicators are contained in the 10-Q and the earnings supplemental, which we filed last night, this morning, I'll limit my remarks to a few items of particular interest.

First, our second quarter performance. We posted GAAP net income of $26.4 million or $0.44 per diluted share. This compared to $25.1 million or $0.42 per diluted share for the preceding quarter.

Earnings growth of 5.2% was driven primarily by net loan growth and loan assets of $206 million and a continued decline in our weighted average credits spread on borrowings of approximately 9 basis points quarter-over-quarter.

MG&A expense was in line with expectations, down roughly 3% and up 64% quarter over same quarter of 2017 due to various first-time costs as a public company. Book value per share was $19.80 at quarter end versus $19.82 at prior quarter end due to a noncash mark-to-market adjustment of $1.4 million, largely related to 2 Ginnie Mae-guaranteed multifamily project bonds that we account for as available for sale securities. This has no impact on earnings.

And we declared in mid-June and paid in July, a cash dividend of $0.43 per common share, an increase of $0.01 per share over the prior quarter. Our annualized dividend yield is now 8.7% on our book value per share at quarter end and 8.3% on Monday's closing share price of $20.69.

During the second quarter, we originated 7 loans, totaling $609.4 million. Initial fundings under new loan commitments totaled $531 million. Loan repayments were $414.6 million, lifting repayments for the first half of the year to $571 million, which is in line with our expectations.

Second quarter repayments included $129.7 million relating to our dwindling number of legacy construction loans, including our $89.7 million share of the condominium construction loan in South Florida that was repaid in its entirety when our borrower closed 306 of the 533 signed existing purchase contracts in 8 weeks. That's a daily average of almost 8 contract closings. Repayment of our legacy construction loans is expected to continue through the end of the year.

The ratio of initial loan fundings to new loan commitments for the quarter was 87.1%, which again highlights our continued emphasis on bridge and transitional loans with limited amounts of deferred funding. With this discipline, we put more capital to work at loan origination, and we reduce our exposure to business plans with the lengthy execution periods.

Accordingly, our unfunded loan commitments continue to decline quarter-over-quarter to $483 million, down $48 million from the prior quarter. In the second quarter, we acquired for short-term investment purposes approximately $74.9 million of high-grade CMBS using proceeds from loan repayments. In late July, we sold approximately $133 million of our CMBS portfolio to fund our existing loan pipeline.

Our experience and knowledge of commercial real estate and structured finance allows us to efficiently generate a meaningful yield pickup on cash for short periods as compared to repaying repo borrowings or investing in corporate commercial paper or other investment products.

A solid consistent return on equity is the result of our platform -- of our platform's continuing commitment to direct origination, leveraging the TPG platform, disciplined underwriting and credit decision making, attentive asset management and the prudent use of leading edge financing.

We manage these attributes to produce attractive ROE's, generally by targeting first mortgage loans with modest loan-to-value ratios, solid in-place debt yields and then pairing them with advance rates appropriate for their risk. Portfolio-wide asset level leverage rose to 74.8% from 71.3% in the prior quarter.

And for loan investments pledged during the second quarter, the lender-approved weighted average advance rate was 79.7%, and the weighted average credit spread was LIBOR plus 178 basis points, both demonstrating continued quarter-over-quarter improvement.

We executed during the quarter, our CLO's first 2 replenishments, which allowed us to recycle $56.9 million of loan repayments in our CLO, in order to mainly -- maintain leverage at 80% at a cost of life LIBOR plus 108 basis points.

Our debt-to-equity ratio increased to 2.4:1 from 2.14:1 during the prior quarter, further evidence of our success in ramping capital deployment and leverage, which are key drivers of ROE and dividend growth.

We do expect to tap the structured finance in private debt markets in future quarters to further reduce our cost of funds, extend the tenor of our liabilities and increase our use of nonrecourse, non-mark-to-market borrowings.

At quarter end, our liquidity and capital position was healthy. In addition to cash balances of $42.5 million, we had available to fund new investments $64 million of immediately available undrawn capacity under credit facilities, our high-grade CMBS investment portfolio, totaling $218 million, of which, I mentioned, $133 million was converted into cash in late July for a near-term deployment into new loan originations and $1.1 billion of available financing capacity under our secured revolving repurchase agreements and our warehouse facility, in total, $3 billion of committed financing capacity.

In July, we closed with CitiBank a $160 million full recourse table funding credit facility to enable us to close new loans more quickly than as usual the repurchase -- than repurchase and other secured credit facilities.

This allows us to be even more nimble in meeting borrower requirements for quick closings, which can also occasionally generate premium pricing to us. And it affords us a window during which we can optimize our financing decision, whether repo, syndication, note on note, CLO or otherwise. The targeted leverage of 3.5:1, our estimated potential new loan investment capacity is approximately $1.1 billion.

By comparison, as Greta mentioned earlier, we currently have a large pipeline of $636.6 million of loans closed or in the process of closing since quarter end. Credit performance remained solid. At quarter end, we had no loans on nonaccrual status, and we did not record a reserve for loan loss. At quarter end, our portfolio's weighted average risk rating was 2.8, up slightly from 2.7 for the prior quarter, driven by the repayment of highly rated loans, $609 million of quarterly originations that garnered the expected initial rating of 3 or slightly better than 3 and the transfer from category 3 to category 4 of a first mortgage loan with a near-term maturity.

Also, in July, we sold a 4-rated loan, a $2.7 million participation interest in a noncore fixed rate loan acquired from Deutsche Bank in late 2014. We sold this loan because it is not consistent with our large loan investment strategy. After this sale, which represented nearly 7 basis points of our loan portfolio at quarter end, the former Deutsche Bank portfolio represents less than 5% of our loan book.

Finally, rising rates are a positive for us, since substantially all our assets and all our liabilities are tied to the same LIBOR index. In addition, we generally require our borrowers to purchase out of the money interest rate caps to protect them and us from sharp rises in interest rates that might occur during the term of our loans, and we underwrite our loans with a conservative forward view of rates and their impact on future debt service coverage, cap rates and collateral value.

And with that, Greta and I would be happy to entertain your questions. Thanks very much. Donna?

(Operator Instructions) Our first question is coming from Stephen Laws of Raymond James.

Greta, I know you mentioned specifically you hate to try and draw a trend out of where spreads to LIBOR on new assets, new investments are going. But I guess, some of the follow-up on your prepared remarks, it seems like things have rebounded since quarter end, do you -- is there something you're seeing in the market? Is that simply a function of just small sample sizes with the origination volume, first and second quarter and then subsequent to quarter end? Maybe, could you give a little more detail about asset yields on new investments? How those have come back a little bit? And where you see them going from here?

Well there has definitely been spread compression. I mean, our year-to-date spreads of 360 are less than 2017 full year spread, so that -- I'm avoiding comparing quarter-to-quarter but trying to compare larger chunks of time. And looking at those periods, it's clear -- our spreads have clearly come in. But that being said, I feel like we -- certainly since quarter end, as our originations indicate, we are getting what I believe are very strong spreads on very high quality originations. And it is in part of result of having direct relationships with borrowers and brokers and not relying solely on mass marketed major national mortgage broker deals where you're forced to compete with maybe 20 other lenders and be the very tightest to win. I mean, we'll do those transactions because it is important to stay in the flow, but we so far have been able to rely on our deep relationships to get differentiated pricing on high quality deals. And also, I think the larger the loan size, the more competitive the loan. Now there is a certain size, where it thins out, but when you're in the $200 million to $400 million size, I think you see a lot of interest from some of our larger -- or some of the other public mortgage REITs as well as private debt funds. And our average loan size is slightly less than $100 million. We believe, it's less competitive, and I think our results prove that out.

Yes, you actually hit exactly on my second question to ask about what you're seeing in the top 5 or 10 MSAs versus the smaller markets, I guess, where smaller loans typically take place. And so it does sound like you're seeing less competition at the low end. Has that changed your focus at all? Or does it continue just to go through the pipeline and look at each individual investment on its own terms?

Well, we're focusing on the major markets, and a very high percent of our borrower originations, I think, it's over 60% are in the top 10 markets -- or of our portfolio are in the top 10 markets. You're not going to see our strategy shift materially in that. It's more the relationship with the sponsor and not chasing $250 million to $300 million loans and competing with the world.

Right. Great. And Bob, as we think about the portfolio in the second half of the year, you can't give good information on originations subsequent to quarter end. Are there any pre-pays? Or can you maybe give us any insight under pre-payments? I know the loan table has the fully extended maturity, but what's the state of maturity? Or do you have a good sense of maybe where pre-pays will be for the second half of this year?

Good question, Steve, and it's -- as you and others on the call know, we have a very attentive asset management platform, and one of the many advantages of being in the intermediate-to-large loan businesses is you can and you should manage your loans individually. And so we're in constant touch with our borrowers, and we try to act -- accurately forecast what we expect will be the repayment behavior of each and every loan. There's clearly some variability quarter-over-quarter, often driven more by the underlying business plan than by general capital markets conditions. I think the subtext of your question is, what should you expect for the rest of the year. And I would say that our expectations now are that repayment behavior for the rest of this year should be consistent with what we experienced over the first 2 quarters of the year taken as a whole. There will be variability, and it's often the case that the aggregate dollar amount of repayments that occur in a given half-year or a year will be very close to what we project, but the actual underlying loans that repay could vary. I mentioned that condo deal in South Florida earlier. We did not project that, that sponsor would close as all the contracts had been signed well in advance. That was really the premise of our investment decision. But that particular borrower is extremely good at closing deals. They operate multiple conference rooms, they'll drive borrowers around and get to their bank to bring their final bank check in. And so that deal actually closed out a little faster than we thought. That's just one example of the variability that can occur in repayments. But we would expect the second year to look like the first half -- or the second half of the year to look like the first half of the year.

Our next question is coming from Steve Delaney of JMP Securities.

Greta, you mentioned the large loan, the large office loan that was priced at LIBOR plus 270. Would that be the loan highlighted on Page 9 in Philadelphia?

Yes it is.

Okay. Could you just comment on what made that loan specifically attractive. In terms of LTV, it looks pretty much like some of the other loans. But what was attractive to that? And I guess the second part of the question would be to Bob that, would that loan -- is there anything about that loan that would cause it to finance better than another loan? Just curious about the decision process that you went through other than the fact it was putting a lot of money to work.

Sure. Look, that loan is consistent with our strategy and most of our other originations of major market, very strong sponsor and high quality asset, but it is also with the borrower that I personally have lent to over a long period of time and have had great experience with. He's -- the borrower is excellent at executing their business plan and is -- has a very good history of abiding by the loan documents that they sign, which obviously is important to us. So this is one that we leaned in on. As I mentioned before, larger loans tend to be a bit more competitive, and given our comfort with the sponsor, we chose to lean in on this one to win it, and you may see us do that from time to time.

Understand. That's a normal part of relationship management and holding onto your good clients. Kind of directly extension, and that is, I noticed that in the quarter, 95% of the loans were on office properties. Was that intentional on your part? Were there any multiple loans to the same borrower? And what should we -- it's always going to be a big part, giving your market focus, but anything behind the 95% concentration in the second quarter we should understand?

That wasn't a goal set out at the beginning of the quarter to have that high of a concentration. It is -- office is 36% of our portfolio. We continue to like office. We're shying away from retail. We're very, very selective on hotel. So it really leaves office and multifamily as our primary focus. Not to say, we won't do retail or hotel, but we're just much more selective. But this was not a target, it just happened. And there are repeat borrowers in there. Three of the loans are borrowers that we have financed before at TRT.

Great. And Bob, one for you. I noticed in the -- in your deck. You talk about the sale of the CMBS position, and you mentioned in your comments as well. Liquid asset helps to free up capital to fund your growing pipeline. Just curious if in the third quarter from an accounting standpoint if we should consider whether there would be any GAAP gain that would be recognized on that sale, anything above where they were maybe being carried at the 6/30 fair value mark.

Thanks, Steve, for all of your questions. I would say that's unlikely. Our -- with a few exceptions, our CMBS investment activity is driven primarily by our desire to invest cash thoughtfully for the short term when we have it, prior to its deployment into whole loans. And to do so, we generally buy very short-duration, AAA-rated primarily floaters. Sometimes some short-remaining life, fixed rate loans. But as a consequence to these, the price volatility, the DV01 of those bonds is very low, which -- it should be, given that this is intended to be a cash substitute.

And as a consequence, I don't think that people should expect to see material gains or losses from our CMBS investment activity.

(Operator Instructions) Our next question is coming from Rick Shane of JPMorgan.

I appreciate the additional disclosure on Page 6 related to the origination efforts in the pipeline. I just want to make sure that we understand whether or not the loan pipeline cited on Page – particularly Page 8, with footnotes for describing what the pipeline is, is representative of same pool of loans on the subsequent events page, that description.

Yes, it does.

Okay. So when we look at this, the subsequent events that just closed or are in the process of closing. And then on Page 8, it basically says pipeline and does not suggest that those are closed loans. I'm curious, given how favorable those metrics are, whether or not you expect a little bit more fallout in that pipeline versus what you normally would.

No, we do not. Many of these are acquisition loans, and so we believe that they will close as scheduled because the borrower doesn't want to miss that deadline. And also, over -- approximately half of these will be closed by the end of this week or at least that's our expectation.

Okay. Great. The disclosure in asset-level estimated return is very helpful. I'm assuming, when we look back at it over time, what we've seen is that through the first half of '18, there were -- or excuse me, in the fourth quarter of '17 and the first quarter of '18, there was some offset in terms of the spread compression, presumably driven by more efficient financing. In the second quarter, that sort of went away because that financing is in place. I'm curious that ultimately, there's going to be any benefit from scale as well when you make that calculation.

Rick, I'll take that question, and thank you for it. You're right with respect to our ROE, which is a net ROE after expenses and so on, on an asset-by-asset basis. We do expect that there will be benefits over time to scale, both as our book grows and as the company as a whole grows. MG&A, as we've discussed previously, we believe, we're at a good scale, and we have significant operating leverage embedded into the business. We've gotten past a lot of the startup public company costs, especially over the last couple of quarters. So we do think there's some benefits there. But bluntly, the big benefit over time of either improving or sustaining our ROE is making good investment decisions, having our team use their direct relationships to sort of skim the cream of the crop in terms of deal opportunities and then for our capital markets team to finance things really efficiently. And we've made very good headway in that regard, but we still have work to do. The CLO that we did in the first quarter, I think, was an important milestone for us, but there are other techniques available to us, especially in reliance on the bigger capital markets team here at TPG. And we would hope to exploit those over time.

Got it. So to put a really fine point on it, it's fair to say that the spreads and yields, as you -- so you've provided the metric, that asset level with ROE for 4 quarter. Fair to say that the spreads and yields have been dynamic. The funding assumption has been dynamic. Has the operating expense associated with that been dynamic? Or has that been a static assumption that ultimately will it improve?

I would say that it -- the operating expense as results have been closer to static, but if you spread our MG&A over the last several quarters, you'll see that it's flat. In fact, this quarter, it was slightly down quarter-over-quarter. And we don't -- in terms of MG&A, professional fees, operating expenses, asset management and servicing fees, we're on those like a hawk, and we think that those are sustainable levels for an extended relevant range of business volume. Let's put it that way.

At this time, I would like to turn the floor back over to Ms. Guggenheim for closing comments.

Thank you, again, for joining us this morning. We look forward to seeing you and speaking with you on the conference circuit and on the road over the next 3 months. In the interim, we hope you enjoy the last few weeks of summer.

Ladies and gentlemen, thank you for your participation. This concludes today's conference. You may disconnect your lines at this time, and have a wonderful day.