APOLLO COMMERCIAL REAL ESTATE FINANCE, INC. Management’s Discussion and Analysis of Financial Condition and Results of Operations (Form 10-Q)
FORWARD-LOOKING INFORMATION
We make forward-looking statements herein and will make forward-looking statements in future filings with theSecurities and Exchange Commission ("SEC"), press releases or other written or oral communications within the meaning of Section 27A of the Securities Act of 1933, as amended (the "Securities Act"), and Section 21E of the Securities Exchange Act of 1934, as amended (the "Exchange Act"). For these statements, we claim the protections of the safe harbor for forward-looking statements contained in such Sections. Forward-looking statements are subject to substantial risks and uncertainties, many of which are difficult to predict and are generally beyond our control. These forward-looking statements include information about possible or assumed future results of our business, financial condition, liquidity, results of operations, plans and objectives. When we use the words "believe," "expect," "anticipate," "estimate," "plan," "continue," "intend," "should," "may" or similar expressions, it intends to identify forward-looking statements. Statements regarding the following subjects, among others, may be forward-looking: the macro- and micro-economic impact of the COVID-19 pandemic, increasing interest rates and inflation; the severity and duration of the COVID-19 pandemic, including the emergence and spread of COVID-19 variants; actions taken by governmental authorities to contain the COVID-19 pandemic or treat its impact; the efficacy of the vaccines or other remedies and the speed of their distribution and administration; the impact of the COVID-19 pandemic on our financial condition, results of operations, liquidity and capital resources; market trends in our industry, interest rates, real estate values, the debt securities markets or the general economy; the demand for commercial real estate loans; our business and investment strategy; our operating results; actions and initiatives of theU.S. government and governments outside ofthe United States , changes to government policies and the execution and impact of these actions, initiatives and policies; the state of the economy generally or in specific geographic regions; economic trends and economic recoveries; our ability to obtain and maintain financing arrangements, including secured debt arrangements and securitizations; the timing and amount of expected future fundings of unfunded commitments; the availability of debt financing from traditional lenders; the volume of short-term loan extensions; the demand for new capital to replace maturing loans; expected leverage; general volatility of the securities markets in which we participate; changes in the value of our assets; the scope of our target assets; interest rate mismatches between our target assets and any borrowings used to fund such assets; changes in interest rates and the market value of our target assets; changes in prepayment rates on our target assets; effects of hedging instruments on our target assets; rates of default or decreased recovery rates on our target assets; the degree to which hedging strategies may or may not protect us from interest rate volatility; impact of and changes in governmental regulations, tax law and rates, accounting, legal or regulatory issues or guidance and similar matters; our continued maintenance of our qualification as a real estate investment trust ("REIT") forU.S. federal income tax purposes; our continued exclusion from registration under the Investment Company Act of 1940, as amended (the "1940 Act"); the availability of opportunities to acquire commercial mortgage-related, real estate-related and other securities; the availability of qualified personnel; estimates relating to our ability to make distributions to our stockholders in the future; our present and potential future competition; and unexpected costs or unexpected liabilities, including those related to litigation. The forward-looking statements are based on our beliefs, assumptions and expectations of our future performance, taking into account all information currently available to us. Forward-looking statements are not predictions of future events. These beliefs, assumptions and expectations can change as a result of many possible events or factors, not all of which are known to us. Refer to "Item 1A. Risk Factors" of this Quarterly Report on Form 10-Q and our Annual Report. These and other risks, uncertainties and factors, including those described in the annual, quarterly and current reports that we file with theSEC , could cause our actual results to differ materially from those included in any forward-looking statements we make. All forward-looking statements speak only as of the date they are made. New risks and uncertainties arise over time and it is not possible to predict those events or how they may affect us. Except as required by law, we are not obligated to, and do not intend to, update or revise any forward-looking statements, whether as a result of new information, future events or otherwise. Overview We are aMaryland corporation and have elected to be taxed as a REIT forU.S. federal income tax purposes. We primarily originate, acquire, invest in and manage performing commercial first mortgage loans, subordinate financings, and other commercial real estate-related debt investments. These asset classes are referred to as our target assets.
We are externally managed and advised by the Manager, an indirect subsidiary of Apollo, a high-growth global alternative asset manager with assets under management of approximately
The Manager is led by an experienced team of senior real estate professionalswho have significant expertise in underwriting and structuring commercial real estate financing transactions. We benefit from Apollo's global infrastructure and operating platform, through which we are able to source, evaluate and manage potential investments in our target assets.
Current market conditions
34 -------------------------------------------------------------------------------- During the first quarter of 2020, there was a global outbreak of COVID-19, which was declared by theWorld Health Organization as a pandemic. The ongoing COVID-19 pandemic has adversely impacted global economic activity and has contributed to significant volatility in financial markets. Due to various uncertainties, including the rise of new variants, the severity of such new variants, disparities in vaccination rates and vaccine hesitancy, the ultimate duration of the pandemic, and additional actions that may be taken by governmental authorities, further business risks could arise. Although more normalized activities have resumed and there has been improved global economic activity due to global and domestic vaccination efforts, we are not in a position to estimate the ultimate impact COVID-19 and its variants will have on our business and the economy as a whole, including longer-term macroeconomic effects on supply chains, inflation and labor shortages. For example, in response to recent inflationary pressure, theU.S. Federal Reserve and other global central banks have raised interest rates in 2022 and have indicated likely further interest rate increases. The effects of COVID-19 and its variants have adversely impacted the value of our assets, business, financial condition, results of operations and cash flows, and our ability to operate successfully. Some of the factors that impacted us to date and may continue to affect us are outlined in Item 1A. "Risk Factors."
Significant Accounting Policies and Use of Estimates
A summary of our critical accounting policies is set forth in our Annual Report under "Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations - Critical Accounting Policies and Use of Estimates."
Real estate owned (and related debts)
From time to time, we may obtain legal title to the collateral from our loans
due to non-performance. This acquisition of real estate is accounted for using
the acquisition method under Accounting Standards Codification ("ASC") Topic
805, "Business Combinations." We recognize and measure identifiable assets
acquired, liabilities assumed and any non-controlling interest in the acquiree,
if applicable, based on their relative fair values. Once real estate assets have
been recorded at fair value they are evaluated for impairment on a quarterly
basis. Please refer to "Note 2 - Summary of Significant Accounting Policies,"
"Note 3 - Fair Value Disclosure," and "Note 5 - Assets and Liabilities Related
to Real Estate Owned" for more information regarding real estate owned and our
valuation methodology.
Real estate assets acquired may include land, building, furniture, fixtures and
equipment ("FF&E"), and intangible assets. The fair value of land is determined
by utilizing the market or sales comparison approach, which compares the
property to similar properties in the marketplace. Although we exercise
significant judgment to identify similar properties, and may also consult
independent third-party valuation experts to assist, our assessment of fair
value is subject to uncertainty and sensitive to our selection of comparable
properties.
We estimate the fair value of any building and FF&E by the cost approach which
measures fair value as the replacement cost of these assets. This approach also
requires significant judgment, and our estimate of replacement cost could vary
from actual replacements costs.
Once real estate assets have been recorded at fair value, they are evaluated for
impairment on a quarterly basis. We consider the following factors when
performing our impairment analysis: (i) Management, having the authority to
approve the action, commits to a plan to sell the asset; (ii) significant
negative industry and economic outlook or trends; (iii) expected material costs
necessary to extend the life or operate the real estate asset; and (iv) our
ability to hold and dispose of the real estate asset in the ordinary course of
business. A real estate asset is considered impaired when the sum of estimated
future undiscounted cash flows to be generated by the real estate asset over the
estimated remaining holding period is less than the carrying value of such real
estate asset. An impairment charge is recorded equal to the excess of the
carrying value of the real estate asset over the fair value. When determining
the fair value of a real estate asset for the purpose of assessing impairment,
we make certain assumptions including, but not limited to: consideration of
projected operating cash flows, intended holding period of the real estate,
comparable selling prices and projected cash flows from the eventual disposition
of the real estate based upon our estimate of a capitalization rate and discount
rate. While we exercise significant judgment in generating our assumptions, the
asset's fair value is subject to uncertainty, as actual operating cash flows and
disposition proceeds could differ from those assumed in our valuations.
Additionally, the output is sensitive to the assumptions used in calculating any
potential impairment.
From time to time, real estate assets are classified as held for sale in the
period in which the six criteria under ASC Topic 360, "Property, Plant, and
Equipment" are met: (1) we commit to a plan and have the authority to sell the
asset; (2) the asset is available for sale in its current condition; (3) we have
initiated an active marketing plan to locate a buyer for the asset; (4) the sale
of the asset is both probable and expected to qualify for full sales recognition
within a period of 12 months; (5) the asset is being actively marketed for sale
at a price that is reflective of its current fair value; and (6) we do not
anticipate changes to our plans to sell the asset. Once a real estate asset is
classified as held for sale, depreciation is no longer recorded, and the asset
is reported at the lower of its carrying value or fair value less cost to sell.
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We determine the fair value of the real estate asset classified as held for sale
using valuation methodologies appropriate to what is included within the
disposal group, such as the market or sales comparison approach for land and the
cost approach for any building and FF&E. Although we exercise significant
judgment in generating the assumptions employed in these methodologies,
ultimately, the real estate asset's fair value is subject to uncertainty, as the
actual sales price of the real estate asset could differ from those assumed in
our valuations. Further, if it is determined that the asset should be reported
at its carrying value, the actual sales price of the real estate asset could
also differ from this amount.
Current Expected Credit Losses (“CECL”)
We measure and record potential expected credit losses related to our loan portfolio in accordance with the CECL Standard. The CECL Standard requires an entity to consider historical loss experience, current conditions, and a reasonable and supportable forecast of the macroeconomic environment. The FASB recognizes the WARM method as an acceptable approach for computing current expected credit losses. We have adopted the WARM method to determine the General CECL Allowance for the majority of loans in our portfolio, applied on a collective basis by assets with similar risk characteristics. If we determine that a borrower or sponsor is experiencing financial difficulty, we will record loan-specific allowances (our Specific CECL Allowance). Refer to "Note 2 - Summary of Significant Accounting Policies" to our consolidated financial statements of our most recent annual report on Form 10-K and "Note 4 Commercial Mortgage Loans, Subordinate Loans and Other Lending Assets, Net" for further discussion regarding CECL.
General allowance CECL
There are various significant assumptions required to estimate our General CECL Allowance which include deriving and applying an annual historical loss rate, forecasting and analyzing the impacts of macroeconomic conditions and the timing of expected repayments, satisfactions and future fundings. We derive an annual historical loss rate based on a CMBS database with historical losses from 1998 through the third quarter of 2022 provided by a third party,Trepp LLC . We apply various filters to arrive at a CMBS dataset most analogous to our current portfolio from which to determine an appropriate historical loss rate. Selecting these filters requires the use of significant judgment. The historical loss rate, and ultimately General CECL Allowance we calculated, is sensitive to the CMBS dataset that we select. We adjust our determined annual historical loss rate based on our outlook of the macroeconomic environment, for a reasonable and supportable forecast period-which we have determined to be one year. We determine our expectations for the macroeconomic environment by analyzing various market factors and assess the potential impact on our portfolio. This assessment requires the use of significant judgment in selecting relevant market factors and our expectations of the future macroeconomic environment. The future macroeconomic environment is subject to uncertainty as the actual future macroeconomic environment could vary from our expectations, which will impact our General CECL Allowance. Additionally, there are assumptions provided to us by the Manager that represent their best estimate as to expected loan maturity dates, future fundings, and timing of loan repayments. These assumptions, although made with the most available information at the time of the estimate, are subjective and actual activity may not follow the estimated schedule. These assumptions impact the future balances that the loss rate will be applied to and as such impact our General CECL Allowance. As we acquire new loans and the Manager monitors loan and sponsor performance, these estimates may change each period.
Specific CECL allowance
When we determine that a borrower or sponsor is experiencing financial
difficulty, we evaluate the related loan for loan-specific allowances, under the
practical expedient per the guidance. Determining that a borrower or sponsor is
experiencing financial difficulty requires the use of significant judgment and
can be based on several factors subject to uncertainty. These factors can
include, but are not limited to, whether cash from the borrower's operations are
sufficient to cover current and future debt service requirements, the borrower's
ability to potentially refinance the loan, and other circumstances that can
affect the borrower's ability to satisfy their obligations in accordance the
terms of the loan. When utilizing the practical expedient for collateral
dependent loans, the loan loss provision is determined as the difference between
the fair value of the underlying collateral, adjusted for estimated costs to
sell when applicable, and the carrying value of the loan (prior to the loan loss
provision), as repayment or satisfaction of a loan is dependent on a sale of the
underlying collateral. Collateral-dependent loans evaluated for a Specific CECL
Allowance are removed from the General CECL pool.
The fair value of the underlying collateral is determined by using method(s)
such as discounted cash flow, the market approach, or direct capitalization
approach. These methods require the use of key unobservable inputs, which are
inherently uncertain and subjective. Our estimate of fair value is sensitive to
both the valuation methodology selected and inputs used. Determining a suitable
valuation method and selecting the appropriate key unobservable inputs and
assumptions requires significant judgment and consideration of factors specific
to the underlying collateral being assessed. Additionally, the key
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unobservable inputs and assumptions used may vary depending on the information
available to us and market conditions as of the valuation date. As such, the
fair value that we derive and use in calculating our Specific CECL Allowance, is
subject to uncertainty and any actual losses, if incurred, could differ
materially from our provision.
Refer to “Note 2 – Summary of Significant Accounting Policies” to our Consolidated Financial Statements in our most recent Annual Report on Form 10-K for a complete listing and description of our significant accounting policies.
Operating results
All non-USD denominated assets and liabilities are translated to USD at the exchange rate prevailing at the reporting date and income, expenses, gains, and losses are translated at the prevailing exchange rate on the dates that they were recorded. Loan Portfolio Overview
The following table presents certain information regarding our loan portfolio in
Weighted Average Equity at
Weighted-Average Coupon All-in Yield Secured Debt carrying
Description Carrying Value (1) (1)(2) Arrangements (3) Cost of Funds(4) value(5)
Commercial mortgage loans, net $ 8,013,469 5.7 % 6.5 % $ 5,364,119 4.3 % $ 2,649,350
Subordinate loans and other lending 717,837 6.5 % 7.1 % - - 717,837
assets, net
Total/Weighted-Average $ 8,731,306 5.8 % 6.5 % $ 5,364,119 4.3 % $ 3,367,187
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(1) Weighted-Average Coupon and Weighted-Average All-in Yield are based on the applicable benchmark rates as ofSeptember 30, 2022 on the floating rate loans. (2) Weighted-Average All-in Yield includes the amortization of deferred origination fees, loan origination costs and accrual of both extension and exit fees. Weighted-Average All-in Yield excludes the benefit of forward points on currency hedges relating to loans denominated in currencies other than USD. (3) Gross of deferred financing costs of$13.5 million . (4) Cost of funds includes weighted average spread and applicable benchmark rates as ofSeptember 30, 2022 on secured debt arrangements. (5) Represents loan portfolio at carrying value less secured debt outstanding.
The following table sets out the details of our commercial mortgage portfolio and our portfolio of subordinated loans and other loan assets, on a loan-by-loan basis, at
Commercial Mortgage Portfolio
Construction
# Property Type Risk Rating
Date of origination Amortized cost Unfunded commitment Loan
3rd Party Subordinate Debt Fully-extended Maturity
Location 1 Hotel 3 10/2019$304 $28 Y 08/2024 Various,Spain 2 Hotel 3 11/2021 186 20 Y 11/2026 Various,UK /Ireland 3 Hotel 3 05/2022 178 25 Y 06/2027Napa Valley, CA 4 Hotel 3 04/2018 152 - 04/2023Honolulu, HI 5 Hotel 3 07/2021 146 33 08/2026 Various, US 6 Hotel 3 09/2015 146 - 06/2024Manhattan, NY 7 Hotel 3 11/2021 123 41 Y 12/2026St. Thomas , USVI 8 Hotel 3 08/2019 117 - 08/2024 Puglia,Italy 9 Hotel 3 10/2021 99 - 11/2026New Orleans, LA 10 Hotel(3)(6) 5 03/2017 98 - 10/2022Atlanta, GA 11 Hotel 3 11/2018 90 - 12/2023Vail, CO 12 Hotel 3 12/2019 60 - 01/2025Tucson, AZ 13 Hotel 3 05/2021 59 2 Y 06/2026Fort Lauderdale, FL 14 Hotel 3 05/2019 52 - 06/2024Chicago, IL 15 Hotel 3 12/2015 42 - 08/2024St. Thomas , USVI 16 Hotel 3 10/2021 39 39 10/2026Lake Como , Italy 17 Hotel 3 02/2018 27 - 11/2024Pittsburgh, PA 18 Hotel 3 12/2021 21 28 06/2025Dublin, Ireland 19 Office 3 01/2020 224 66 Y 02/2025Long Island City, NY 20 Office 3 03/2022 218 47 Y 04/2027Manhattan, NY 21 Office 3 02/2020 188 - 02/2025London, UK 22 Office 3 06/2019 183 13 08/2026Berlin, Germany 37
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23 Office 3 02/2022 144 - 06/2025 Milan, Italy
24 Office 3 02/2022 128 384 Y 02/2027 London, UK
25 Office 3 11/2017 121 - 01/2023 Chicago, IL
26 Office(1) 3 12/2017 103 - Y 10/2022 London, UK
27 Office 3 06/2022 87 - 06/2025 Rome, Italy
28 Office 3 03/2018 86 - Y 07/2023 Chicago, IL
29 Office 3 11/2021 33 38 Y 11/2025 Milan, Italy
30 Retail 3 04/2022 417 34 04/2027 Various, UK
31 Retail 3 10/2021 362 - 10/2026 Various, UK
32 Retail 3 08/2019 249 - Y 09/2025 Manhattan, NY
33 Retail 3 05/2022 155 - 06/2027 Various, US
34 Retail(3) 5 11/2014 104 - 09/2023 Cincinnati, OH
35 Residential(4) 3 08/2022 354 4 09/2024 Manhattan, NY
36 Residential 3 12/2021 195 15 12/2026 Various, UK
37 Residential 3 12/2018 136 43 Y 12/2023 Manhattan, NY
38 Residential 3 12/2021 101 31 01/2027 Manhattan, NY
39 Residential 3 05/2022 89 4 06/2027 Manhattan, NY
40 Residential 3 05/2021 82 - Y 05/2026 Cleveland, OH
41 Residential 3 12/2019 60 7 Y 11/2025 Boston, MA
42 Residential 3 04/2014 59 - 07/2023 Various
43 Residential 3 11/2014 50 - 06/2023 Various, US
44 Residential 3 12/2021 32 - Y 01/2026 Hallandale Beach, FL
45 Healthcare 3 03/2022 372 - 03/2027 Various, MA
46 Healthcare 3 10/2019 180 - 10/2024 Various, UK
47 Mixed Use 3 12/2019 281 88 Y Y 06/2025 London, UK
48 Mixed Use 3 03/2022 134 42 Y 03/2027 Brooklyn, NY
49 Mixed Use 3 06/2022 59 58 Y Y 06/2026 London, UK
50 Mixed Use 3 12/2019 39 - 09/2023 London, UK
51 Parking Garages 3 05/2021 270 5 05/2026 Various, US
52 Industrial 3 03/2021 232 - 05/2026 Various, Sweden
53 Portfolio(2) 3 06/2021 207 20 06/2026 Various, Germany
54 Caravan Parks 3 02/2021 183 - 02/2028 Various, UK
55 Urban Predevelopment(3) 5 01/2016 176 - 09/2023 Miami, FL
General CECL Allowance (19)
Subtotal / Weighted-Average
Commercial Mortgage Loans 3.1 $8,013 $1,115 3.1 Years
Portfolio of subordinated loans and other loan assets
# Property Type Risk Rating
Original date Amortized cost Unfunded commitment Construction loan Third-party subordinated debt Maturity fully extended
Location 1 Residential(4) 3 05/2020$232 $- Y 09/2024Manhattan, NY 2 Residential(4) 3 06/2015 187 13 Y 09/2024Manhattan, NY 3 Residential(3)(4) 5 11/2017 52 - Y 09/2024Manhattan, NY 4 Office 3 01/2019 100 - 12/2025Manhattan, NY 5 Office 3 08/2017 8 - 09/2024Troy, MI 6 Healthcare(5) 3 07/2019 51 - Y 06/2024 Various, US 7 Hotel 3 06/2015 23 - 07/2025Phoenix, AZ 8 Hotel 3 06/2018 20 - 06/2023Las Vegas, NV 9 Industrial 2 05/2013 32 - 05/2023 Various, US 10 Mixed Use 3 02/2019 16 - 10/2022 London, UK General CECL Allowance (3) Subtotal / Weighted-Average Subordinate Loans and Other Lending Assets 3.1$718 $13 2.0 Years 38
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Total / Weighted-Average
Loan Portfolio 3.1 $8,731 $1,128 3.0 Years
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(1)Includes $22.7 million of a subordinate participation sold accounted for as
secured borrowing.
(2)Includes portfolio of office, industrial, and retail property types.
(3)Amortized cost for these loans is net of the recorded Specific CECL
Allowance.
(4)Loans are secured by the same property.
(5)Single Asset, Single Borrower CMBS.
(6)Loan went into maturity default subsequent to the quarter ended September 30,
2022 .
Our average asset and debt balances for the nine months ended
were (in thousands of dollars):
Average month-end
balances for the nine months ended
September 30, 2022
Description Assets Related debt
Commercial mortgage loans, net $ 7,977,494 $ 5,039,066
Subordinate loans and other lending assets,
net 786,893 -
Subordinate loans, held for sale 833 -
Portfolio Management
Due to the impact of COVID-19, including longer-term macroeconomic effects on
supply chains, inflation and labor shortages, some of our borrowers have
experienced challenges which have prevented the execution of their business
plans and in some cases, resulted in temporary closures. As a result, we have
worked with borrowers to execute loan modifications which are typically coupled
with additional equity contributions from borrowers. Loan modifications to date
have included repurposing of reserves, temporary deferrals of interest or
principal, and partial deferral of coupon interest as payment-in-kind interest.
Investment Activity
During the nine months ended September 30, 2022 , we committed $3.5 billion of
capital to loans ($2.8 billion was funded at closing). In addition, during the
nine months ended September 30, 2022 , we received $1.5 billion in repayments and
funded $0.5 billion for commitments closed prior to 2022.
Net income available to common shareholders
For the nine months endedSeptember 30, 2022 and 2021, our net income available to common stockholders was$260.0 million , or$1.66 per diluted share of common stock, and$176.5 million , or$1.18 per diluted share of common stock, respectively.
Operating results
The following table sets forth information regarding our condensed consolidated
results of operations and certain key operating metrics compared to the most
recently reported period ($ in thousands):
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Three months ended
September 30, June 30, 2022 Q3'22 vs. Q2'22
2022
Net interest income:
Interest income from commercial mortgage loans $ 120,821 $ 99,386 $ 21,435
Interest income from subordinate loans and other 13,354 14,530 (1,176)
lending assets
Interest expense (72,302) (56,529) (15,773)
Net interest income 61,873 57,387 4,486
Operations related to real estate owned:
Revenue from real estate owned operations 14,428 18,630 (4,202)
Operating expenses related to real estate owned (13,308) (13,134) (174)
Net income related to real estate owned 1,120 5,496 (4,376)
Operating expenses:
General and administrative expenses (7,184) (7,130) (54)
Management fees to related party (9,719) (9,632) (87)
Total operating expenses (16,903) (16,762) (141)
Other income 285 68 217
Realized gain on investments 43,577 - 43,577
Cancellation of loan losses – CECL specific deduction, 53,000
3,000 50,000
report
Reversal of (provision for) loan losses - General 2,564 (2,056) 4,620 CECL Allowance, net Gain on foreign currency forward contracts 129,252 105,213 24,039 Foreign currency translation loss (92,782) (84,838) (7,944) Gain on interest rate hedging instruments 1,044 3,443 (2,399) Net income$183,030 $70,951 $112,079 Net Interest Income Net interest income increased by$4.5 million during the three months endedSeptember 30, 2022 compared to the three months endedJune 30, 2022 . The increase in interest income was primarily due to higher average index rates in the current period: averageU.S. LIBOR increased by 1.48%, averageU.S. SOFR increased by 1.50%, average Daily SONIA increased by 0.66% from the three months endedJune 30, 2022 to the three months endedSeptember 30, 2022 . Average EURIBOR increased by 0.49% during three months endedSeptember 30, 2022 above the 0.0% floors taken during the three months endedJune 30, 2022 . The increase in interest expense was primarily due to (i) higher average index rates in the current period, as noted above, and (ii) an increase in the weighted average balance of our outstanding debt facilities by$135.2 million for the three months endedSeptember 30, 2022 , as compared to three months endedJune 30, 2022 , which was partially offset by a decrease in interest expense related to the payoff of the 2022 Notes.
Transactions related to real estate held
In 2017, we originated a$20.0 million junior mezzanine loan which was subordinate to: (i) a$110.0 million mortgage loan, and (ii) a$24.5 million senior mezzanine loan, secured by a full-service luxury hotel inWashington, D.C. OnMay 24, 2021 , we acquired legal title to the hotel through a deed-in-lieu of foreclosure and the criteria for held-for-sale classification in ASC Topic 360, "Property, Plant, and Equipment" were not met. The assets and liabilities related to the hotel were assumed at their estimated fair value at acquisition and presented net of accumulated depreciation and impairment charges. As ofMarch 1, 2022 , the related assets and liabilities were transferred to assets and liabilities related to real estate owned, held for sale, as due to our marketing efforts on the property, as well as other developments, it now met the criteria for held for sale. Results of operations from the hotel are comprised of operating revenue, expenses and real estate asset depreciation. As ofMarch 1, 2022 , we ceased recording depreciation on the building and FF&E on the condensed consolidated statement of operations as the property was transferred to held for sale at such date. The hotel operations generated$1.1 million of net income during the three months endedSeptember 30, 2022 compared to$5.5 million of net income during the three months endedJune 30, 2022 . The decrease in net income from hotel operations primarily relates to the decrease in hotel occupancy and events held due to seasonality of hotel operations during the three months endedSeptember 30, 2022 compared to the three months endedJune 30, 2022 .
Refer to “Note 5 – Assets and liabilities related to owned properties” for more information on our impairment and realized losses on owned properties.
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Functionnary costs
General and administrative expenses
General and administrative expenses remained generally the same for the three months ended
Management fees to a related party
Management fees remained generally the same for the three months ended
Other income
Other income generally remained the same for the three months ended
Gain realized on investments
During the three months endedSeptember 30, 2022 , a$43.6 million realized gain on investments was recorded in connection with the title acquisition for one of our first mortgage loans secured by a multifamily development inBrooklyn, NY . The gain reflects the difference between the fair value of the property and the carrying value of the loan at the time of acquisition.
Refer to “Note 5 – Assets and liabilities related to properties held” for more information on our realized gains on investments.
Loan loss reversals – CECL specific provision, net
Our Specific CECL Allowance decreased by$53.0 million during the three months endedSeptember 30, 2022 . We reversed$53.0 million of previously recorded Specific CECL allowance on an urban predevelopment first mortgage loan inMiami, FL , because the collateral which secures the loan is under contract to be sold in the near term at a higher value than carrying value of the loan pre-reversal. During the three months endedJune 30, 2022 , we reversed$10.0 million of previously recorded allowance on a loan related to a multifamily development inBrooklyn, NY , due to market rent growth and value created from development activities, which was partially offset by a$7.0 million allowance on a loan secured by a hotel inAtlanta, GA resulting from the hotel having a slower than expected recovery from the COVID-19 pandemic. Refer to "Note 2 - Summary of Significant Accounting Policies" and "Note 4 - Commercial Mortgage Loans, Subordinate Loans and Other Lending Assets, Net" for additional information related to our Specific CECL Allowance.
Reversal of (provision for) loan losses – CECL general provision, net
Our General CECL Allowance decreased by$2.6 million during the three months endedSeptember 30, 2022 compared to the three months endedJune 30, 2022 due to portfolio seasoning and sale of unfunded commitments, which was partially offset by one new loan origination and a more adverse macroeconomic outlook.. The General CECL Allowance increased by$2.1 million during the three months endedJune 30, 2022 compared to the three months endedMarch 31, 2022 as a result of new loan originations and a more adverse macroeconomic outlook. Refer to "Note 2 - Summary of Significant Accounting Policies" and "Note 4 - Commercial Mortgage Loans, Subordinate Loans and Other Lending Assets, Net" for additional information related to our General CECL Allowance.
Foreign exchange loss and gain on derivative instruments
We use forward currency contracts to economically hedge interest and principal payments due under our loans denominated in currencies other than USD. When gains and losses on foreign currency translation and derivative instruments are evaluated on a combined basis, the net impact for the three months endedSeptember 30, 2022 andJune 30, 2022 was a$36.5 million and$20.4 million gain, respectively. The increase from the previous quarter represents a timing difference between the valuation on the foreign currency forward contracts, which are valued using spot rates, forward point estimates, and discount factors, and the foreign currency translation calculation which uses only spot rates. Additionally, as rates fell significantly during the quarter our unrealized gain 41 -------------------------------------------------------------------------------- from derivative instruments, including derivative instruments related to our future expected interest cash flow, increased. As derivative instruments related to our future expected interest cash flow have no offset in foreign currency (loss) they are accounting for some of the variance noted above.
Gain on rate hedges
During the second quarter of 2020, we entered into a three-year interest rate cap to cap LIBOR at 0.75%. During the three months endedSeptember 30, 2022 andJune 30, 2022 , the interest rate cap had an unrealized gain of$1.0 million and$3.4 million , respectively. The decrease in the unrealized gain is a result of the nearing maturity of the cap offset by the current interest rate forward curve. Subsequent Events
Refer to “Note 20 – Subsequent Events” to the accompanying condensed consolidated financial statements for information on significant transactions that occurred after
Contractual obligations, liquidity and capital resources
Liquidity is a measure of our ability to meet potential cash requirements, including ongoing commitments to fund and maintain our assets and operations, repay borrowings, make distributions to our stockholders and other general business needs. We utilize various sources of cash in order to meet our liquidity needs in the next twelve months, which is considered the short-term, and the longer term. Our current debt obligations consist of$1.5 billion of corporate debt at face value and$5.4 billion of asset financings. Our corporate debt includes: (i)$779.3 million of term loan borrowings, (ii)$500.0 million of senior secured notes, and (iii)$230.0 million of convertible notes. Our asset specific financings are generally tied to the underlying loans and we anticipate repayments of$765.0 million of secured debt arrangements in the short term. Specifics about our secured debt arrangements and corporate debt maturities and obligations are discussed below.
In addition to our debts, as of
We have various sources of liquidity that we are able to use to satisfy our short and long term obligations. As ofSeptember 30, 2022 , we had$319.3 million of cash on hand. As ofSeptember 30, 2022 , we also held approximately$1.1 billion of unencumbered assets, consisting of$517.8 million of senior mortgages and$534.1 million of mezzanine loans. Depending on market conditions, we may utilize additional borrowings as a source of cash, which may also include additional secured debt arrangements as well as other borrowings or conduct additional public and private debt and equity offerings.
We maintain policies relating to our use of leverage. See “Leverage Policies” below. In the future, we may seek to raise additional equity or debt capital or incur other forms of debt to fund future investments or refinance maturing debt.
We generally intend to hold our assets for investment purposes, although we may sell some of our investments to manage our interest rate risk and liquidity needs, to meet other business objectives, operation and adapt to market conditions.
To maintain our qualification as a REIT under the Internal Revenue Code, we must
distribute annually at least 90% of our REIT taxable income, determined without
regard to the deduction for dividends paid and excluding net capital gain. These
distribution requirements limit our ability to retain earnings and replenish or
increase capital for operations.
We also have interests in two unconsolidated joint ventures, each of which owns
underlying properties that secure one of our first mortgage loans, respectively
and are accounted for as off-balance-sheet arrangements. The unconsolidated
joint ventures were deemed to be Variable Interest Entities ("VIEs"), of which
we are not the primary beneficiary. Accordingly, the VIEs are not consolidated
in our condensed consolidated financial statements as of September 30, 2022 . Our
maximum exposure to loss from these commercial mortgage loans is limited to
their carrying value, which as of September 30, 2022 was $227.2 million .
Although there is risk of loss we have no contractual obligation to fund any
additional capital into the joint ventures.
Borrowings under various financing agreements
The table below summarizes the unpaid balances and maturities of our various financings:
42 --------------------------------------------------------------------------------
September 30, 2022 December 31, 2021
Borrowings Maturity (2) Borrowings Maturity (2)
Outstanding(1) Outstanding(1)
Secured credit facilities $ 3,648,950 January 2026 $ 2,256,646 October 2025
Barclays Private Securitization 1,715,169 January 2026 1,902,684 August 2024
Total Secured debt arrangements $ 5,364,119 $ 4,159,330
Senior secured term loans $ 779,250 January 2027 $ 785,250 January 2027
Senior secured notes 500,000 June 2029 500,000 June 2029
Convertible senior notes 230,000 October 2023 575,000 February 2023
Total Borrowings $ 6,873,369 $ 6,019,580
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(1)Borrowings Outstanding represent principal balances as of the respective
reporting periods.
(2)Maturity dates represent weighted average maturities based on borrowings
outstanding and assumes extensions at our option are exercised with consent of
financing providers, where applicable.
Secured credit facilities
As ofSeptember 30, 2022 , we had entered into secured debt arrangements with seven secured credit facilities through wholly-owned subsidiaries. Terms under various master repurchase agreements vary by secured credit facility.
Refer to “Note 7 – Secured credit arrangements, net” to our condensed consolidated financial statements for additional information regarding our secured credit facilities.
Barclays Private Securitization
InJune 2020 , through a newly formed entity, we entered into a private securitization with Barclays Bank plc. As ofSeptember 30, 2022 , we had £936.9 million, €491.8 million, and kr2.1 billion ($1.7 billion assuming conversion into USD) of borrowings outstanding under the Barclays Private Securitization secured by certain of our commercial mortgage loans. Refer to "Note 7 - Secured Debt Arrangements, Net" of our Condensed Consolidated Financial Statements for additional disclosure regarding our Barclays Private Securitization. Senior Secured Term Loans
In
and
Refer to "Note 8 - Senior Secured Term Loans, Net" of our Condensed Consolidated Financial Statements for additional disclosure regarding our 2026 Term Loan and 2028 Term Loan." Senior Secured Notes InJune 2021 , we issued$500.0 million of 4.625% Senior Secured Notes due 2029 (the "2029 Notes"), for which we received net proceeds of$495.0 million , after deducting initial purchasers' discounts and commissions. The 2029 Notes had a carrying value of$494.6 million and$494.1 million , net of deferred financing costs of$5.4 million and$5.9 million , as ofSeptember 30, 2022 andDecember 31, 2021 , respectively.
Refer to “Note 9 – Senior Secured Notes, Net” to our condensed consolidated financial statements for additional information regarding our 2029 Notes.
Senior Convertible Bonds
In two separate offerings during 2017, we issued an aggregate principal amount of$345.0 million of 4.75% Convertible Senior Notes due 2022 (the "2022 Notes"), for which we received$337.5 million , after deducting the underwriting discount and offering expenses. During the third quarter of 2022, we repaid the$345.0 million aggregate principal amount of the 2022 Notes. During the fourth quarter of 2018, we issued$230.0 million of 5.375% Convertible Senior Notes due 2023, for which we received$223.7 million after deducting the underwriting discount and offering expenses. AtSeptember 30, 2022 , the 2023 Notes had a carrying value of$229.2 million and an unamortized discount of$0.8 million . 43 --------------------------------------------------------------------------------
Refer to “Note 10 – Convertible Senior Notes, Net” to our condensed consolidated financial statements for additional information regarding our convertible notes.
Rate of endettement
The following table shows our debt ratio:
September 30, 2022 December 31, 2021
Debt to Equity Ratio(1) 2.8 2.4
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(1)Represents total debt less cash and loan proceeds held by servicer (recorded
with Other Assets, refer to "Note 6 - Other Assets" for more information) to
total stockholders' equity.
Leverage Policies
We use leverage for the sole purpose of financing our portfolio and not for the
purpose of speculating on changes in interest rates. In addition to our secured
debt arrangements and senior secured term loan, we access additional sources of
borrowings. Our charter and bylaws do not limit the amount of indebtedness we
can incur; however, we are subject to and carefully monitor the limits placed on
us by our credit providers and those that assign ratings on our company.
At September 30, 2022 , our debt-to-equity ratio was 2.8 and our portfolio was
comprised of $8.0 billion of commercial mortgage loans and $717.8 million of
subordinate loans and other lending assets. In order to achieve our return on
equity, we generally finance our mortgage loans with 2.0 to 3.0 turns of
leverage and generally do not finance our subordinate loans and other lending
assets given built-in inherent structural leverage.
Investment guidelines
Our current investment guidelines, approved by our Board of Directors, include the following:
• no investment will be made that would prevent us from qualifying as a REIT for
•no investment will be made which would require us to register as an investment company under the 1940 Act;
•the investments will be mainly in our target assets;
•no more than 20% of our net equity (on a consolidated basis) will be invested in any single investment at the time of the investment; in determining compliance with the investment guidelines, the amount of the investment is the net equity in the investment (gross investment less amount of third-party financing) plus the amount of any recourse on the financing secured by the investment; and •until appropriate investments can be identified, the Manager may invest the proceeds of any offering in interest bearing, short-term investments, including money market accounts and/or funds, that are consistent with our intention to qualify as a REIT.
The Board of Directors must approve any modification or waiver of these investment guidelines.
Dividends We intend to continue to make regular quarterly distributions to holders of our common stock.U.S. federal income tax law generally requires that a REIT distribute annually at least 90% of our REIT taxable income, without regard to the deduction for dividends paid and excluding net capital gains, and that we pay tax at regular corporate rates to the extent that we annually distribute less than 100% of our net taxable income. We generally intend over time to pay dividends to our stockholders in an amount equal to our net taxable income, if and to the extent authorized by our board of directors. Any distributions we make are at the discretion of our board of directors and depend upon, among other things, our actual results of operations. These results and our ability to pay distributions are affected by various factors, including the net interest and other income from our portfolio, our operating expenses and any other expenditures. If our cash available for distribution is less than our net taxable income, we could be required to sell assets or borrow funds to make cash distributions or we may make a portion of the required distribution in the form of a taxable stock distribution or distribution of debt securities.
Of the
44 -------------------------------------------------------------------------------- Except under certain limited circumstances, the Series B-1 Preferred Stock is generally not convertible into or exchangeable for any other property or any other of our securities at the election of the holders. On and afterJuly 15, 2026 , we may, at our option, redeem the shares at a redemption price of$25.00 , plus any accrued unpaid dividends to, but not including, the date of the redemption.
The following table details our dividend activity:
Three months ended Nine months ended Dividends declared per share of: September 30, 2022 September 30, 2021 September 30, 2022 September 30, 2021 Common Stock$0.35 $0.35 $1.05 $1.05 Series B Preferred Stock N/A N/A N/A 1.00 Series B-1 Preferred Stock 0.45 0.45 1.35 0.45 OnJuly 15, 2021 , we exchanged all 6,770,393 shares outstanding of our 8.00% Fixed-to-Floating Series B Cumulative Redeemable Perpetual Preferred Stock, par value$0.01 per share ("Series B Preferred Stock"), with a liquidation preference of$25.00 per share, for 6,770,393 shares of 7.25% Series B-1 Cumulative Redeemable Perpetual Preferred Stock, par value$0.01 per share ("Series B-1 Preferred Stock"), with a liquidation preference of$25.00 per share, pursuant to an exchange agreement with the two existing shareholders. Non-GAAP Financial Measures Distributable Earnings Distributable Earnings, a non-GAAP financial measure, is defined as net income available to common stockholders, computed in accordance with GAAP, adjusted for (i) equity-based compensation expense (a portion of which may become cash-based upon final vesting and settlement of awards should the holder elect net share settlement to satisfy income tax withholding), (ii) any unrealized gains or losses or other non-cash items (including depreciation and amortization related to real estate owned) included in net income available to common stockholders, (iii) unrealized income from unconsolidated joint ventures, (iv) foreign currency gains (losses), other than (a) realized gains/(losses) related to interest income, and (b) forward point gains/(losses) realized on our foreign currency hedges, (v) the non-cash amortization expense related to the reclassification of a portion of the Convertible Notes to stockholders' equity in accordance with GAAP, and (vi) provision for loan losses. Distributable Earnings may also be adjusted to exclude certain other non-cash items, as determined by the Manager and approved by a majority of our independent directors. For the three and nine months endedSeptember 30, 2022 , our Distributable Earnings were$95.9 million , or$0.67 per share, and$194.8 million , or$1.36 per share, respectively, as compared to$49.2 million , or$0.35 per share, and$143.6 million , or$1.01 per share, respectively, for the same period in the prior year. The weighted-average diluted shares outstanding used for Distributable Earnings per weighted-average diluted share has been adjusted from weighted-average diluted shares under GAAP to exclude shares issued from a potential conversion of the Convertible Notes. Consistent with the treatment of other unrealized adjustments to Distributable Earnings, these potentially issuable shares are excluded until a conversion occurs, which we believe is a useful presentation for investors. We believe that excluding shares issued in connection with a potential conversion of the Convertible Notes from our computation of Distributable Earnings per weighted average diluted share is useful to investors for various reasons, including the following: (i) conversion of Convertible Notes to shares requires both the holder of a note to elect to convert the Convertible Note and for us to elect to settle the conversion in the form of shares (ii) future conversion decisions by note holders will be based on our stock price in the future, which is presently not determinable; (iii) the exclusion of shares issued in connection with a potential conversion of the Convertible Notes from the computation of Distributable Earnings per weighted-average diluted share is consistent with how we treat other unrealized items in our computation of Distributable Earnings per weighted-average diluted share; and (iv) we believe that when evaluating our operating performance, investors and potential investors consider our Distributable Earnings relative to our actual distributions, which are based on shares outstanding and not shares that might be issued in the future.
The table below summarizes the reconciliation between the GAAP weighted average diluted shares and the weighted average diluted shares used for distributable income:
45 --------------------------------------------------------------------------------
Three months ended September 30, Nine months ended September 30,
2022 2021 2022 2021
Weighted-Averages Shares Shares Shares Shares
Diluted shares - GAAP 164,350,132 170,884,172 169,252,602 170,836,682
Potential shares issued under (21,187,719) (28,533,271) (26,057,847)
(28,533,271)
conversion of the Convertible Notes Unvested RSUs - - - - Diluted shares - Distributable Earnings 143,162,413 142,350,901 143,194,755 142,303,411 As a REIT,U.S. federal income tax law generally requires us to distribute annually at least 90% of our REIT taxable income, without regard to the deduction for dividends paid and excluding net capital gains, and that we pay tax at regular corporate rates to the extent that we annually distribute less than 100% of our net taxable income. Given these requirements and our belief that dividends are generally one of the principal reasons stockholders invest in a REIT, we generally intend over time to pay dividends to our stockholders in an amount equal to our net taxable income, if and to the extent authorized by our board of directors. Distributable Earnings is a key factor considered by the board of directors in setting the dividend and as such we believe Distributable Earnings is useful to investors. As discussed in "Note 5 - Assets and Liabilities Related to Real Estate Owned", during the three and nine months endedSeptember 30, 2022 , we recorded a$43.6 million realized gain on investments reflecting the difference between the fair value of a multifamily development property located inBrooklyn, NY acquired through a deed-in-lieu of foreclosure and the amortized cost of the loan at the time of foreclosure. As discussed in "Note 5 - Assets and Liabilities Related to Real Estate Owned" during the three and nine months endedSeptember 30, 2021 , we recorded$20.0 million realized loss on investments reflecting the difference between the fair value of a hotel acquired through a deed-in-lieu of foreclosure and the amortized cost of the loan at the time of foreclosure. Additionally, during the nine months endedSeptember 30, 2021 , we recorded an impairment of$0.6 million on our real estate owned, held for sale due to increased costs to sell. We also believe it is useful to our investors to present Distributable Earnings prior to realized gains (losses) and impairments on real estate owned and investments to reflect our operating results because (i) our operating results are primarily comprised of earning interest income on our investments net of borrowing and administrative costs, which comprise our ongoing operations and (ii) it has been a useful factor related to our dividend per share because it is one of the considerations when a dividend is determined. We believe that our investors use Distributable Earnings and Distributable Earnings prior to realized gains (losses) and impairments on real estate owned and investments, or a comparable supplemental performance measure, to evaluate and compare the performance of our company and our peers. A significant limitation associated with Distributable Earnings as a measure of our financial performance over any period is that it excludes unrealized gains (losses) from investments. In addition, our presentation of Distributable Earnings may not be comparable to similarly-titled measures of other companies, that use different calculations. As a result, Distributable Earnings should not be considered as a substitute for our GAAP net income as a measure of our financial performance or any measure of our liquidity under GAAP. Distributable Earnings are reduced for realized losses on loans which include losses that management believes are near certain to be realized. The table below summarizes the reconciliation from net income available to common stockholders to Distributable Earnings and Distributable Earnings prior to realized gains (losses) and impairments on real estate owned and investments ($ in thousands): 46 -------------------------------------------------------------------------------- Three months ended September 30, Nine months ended September 30, 2022 2021 2022 2021 Net income available to common stockholders $ 179,962
Adjustments: stock-based compensation expense
4,518 4,405 13,734 13,149 Gain on foreign currency forwards (129,252) (32,947) (257,227) (39,653) Foreign currency loss, net 92,782 24,413 210,138 27,808 Unrealized loss (gain) on interest rate cap (1,044) 75 (10,808) (171) Realized gains (losses) relating to interest income 2,908 (219) 8,020 (1,558) on foreign currency hedges, net Realized gains relating to forward points on foreign 1,545 63 8,168 75 currency hedges, net Amortization of the convertible senior notes related - 824 - 2,436 to equity reclassification Depreciation and amortization on real estate owned - 1,096 704 1,548
Release of current expected allowance for credit losses, net
(55,564) (5,766) (37,897) (36,590) Realized (gains) losses and impairments on real (43,577) - (43,577) 20,550 estate owned and investments Total adjustments: (127,684) (8,056) (108,745) (12,406) Distributable Earnings prior to realized gains (losses) and impairments on real estate owned and $ 52,278
investments
Realized gains (losses) and impairments on real $ 43,577 $ - $ 43,577$ (20,550)
land ownership and investments
Distributable Earnings $ 95,855
Diluted distributable earnings per share before realized gains (losses) and write-downs on real dollars
0.37$ 0.35 $ 1.06$ 1.15 estate owned and investments Diluted Distributable Earnings per share of common $ 0.67$ 0.35 $ 1.36$ 1.01
Stock
Weighted-average diluted shares - Distributable 143,162,413 142,350,901 143,194,755 142,303,411
Earnings
Book Value Per Share
The table below calculates our book value per share ($ in thousands, except per
share data):
September 30, 2022 December 31, 2021
Stockholders' Equity $ 2,407,685 $ 2,294,626
Series B-1 Preferred Stock (Liquidation
Preference) (169,260) (169,260)
Common Stockholders' Equity $ 2,238,425 $ 2,125,366
Common Stock 140,595,995 139,894,060
Book value per share $ 15.92 $ 15.19
The table below shows the evolution of our book value per share:
Book value per share
Book value per share at December 31, 2021 $ 15.19
General CECL Allowance 0.28
Book value per share at
$ 15.47
Earnings in excess of dividends 0.02
Realized gain on investments 0.31
Net unrealized gain on currency and interest rate hedges 0.29
Reversal of Specific CECL Allowance 0.18
47
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Vesting and delivery of RSUs (0.12) Adoption of ASU 2020-06 (0.02) Other (0.01)
Book value per share at
$
16.12
General CECL Allowance and depreciation and amortization
(0.20)
Book value per share atSeptember 30, 2022 $
15.92
We believe that presenting book value per share with sub-totals prior to the
CECL Allowances and depreciation and amortization is useful for investors for
various reasons, including, among other things, analyzing our compliance with
financial covenants related to tangible net worth and debt-to-equity under our
secured debt arrangements and senior secured term loan, which permit us to add
the General CECL Allowance to our GAAP stockholders' equity. Given that our
lenders consider book value per share prior to the General CECL Allowance as an
important metric related to our debt covenants, we believe disclosing book value
per share prior to the General CECL Allowance is important to investors such
that they have the same visibility. We further believe that presenting book
value before depreciation and amortization is useful to investors since it is a
non-cash expense included in net income and is not representative of our core
business and ongoing operations.
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