Arbor Realty Trust, Inc. Q4 2009 Earnings Call Transcript

Feb.27.10 | About: Arbor Realty (ABR)

Arbor Realty Trust, Inc. (NYSE:ABR)

Q4 2009 Earnings Call Transcript

February 26, 2010 10:00 am ET

Executives

Paul Elenio – CFO

Ivan Kaufman – President and CEO

Gene Kilgore – EVP, Structured Securitization

Analysts

David Chiaverini – BMO Capital Markets

Joshua Barber – Stifel Nicolaus

Operator

Good day ladies and gentlemen, and welcome to the fourth quarter 2009 Arbor Realty Trust earnings conference call. My name is Shinelle and I will be your coordinator for today. At this time, all participants are in a listen-only mode. (Operator instructions)

I would now like to turn the presentation over to your host for today’s call, Mr. Paul Elenio, Chief Financial Officer.

Paul Elenio

Okay. Thank you Shinelle, and good morning everyone and welcome to the quarterly earnings call for Arbor Realty Trust. This morning, we will discuss the results for the quarter and year ended December 31st, 2009. With me on the call today is Ivan Kaufman, our President and Chief Executive Officer.

Before we begin, I need to inform you that statements made in this earnings call may be deemed forward-looking statements that are subject to risks and uncertainties including information about possible or assumed future results of our business, financial condition, liquidity, results of operations, plans and objectives. These statements are based on our beliefs, assumptions and expectations of our future performance, taking into account the information currently available to us. Factors that could cause actual results to differ materially from Arbor’s expectations in these forward-looking statements are detailed in our SEC reports. Listeners are cautioned not to place undue reliance on these forward-looking statements which speak only as of today. Arbor undertakes no obligation to publicly update or revise these forward-looking statements to reflect events or circumstances after today, or the occurrences of unanticipated events.

And now that the Safe Harbor is behind us, I would like to turn the call over to Arbor’s President and CEO, Ivan Kaufman.

Ivan Kaufman

Thank you Paul, good morning everyone and thank you for joining us on today’s call. At this point, I hope everyone has had a chance to look over our fourth quarter earnings release that we issued this morning.

Before I turn things back over to Paul for a review of our fourth quarter financial results, I would like to spend some time focusing on our significant accomplishments and how we have positioned the company appropriately for the future. I would like to start by emphasizing how pleased we are in our ability to successfully restructure our entire balance sheet. Over the last 30 months, beginning in July of 2007, we faced one of the greatest dislocations in US history, which has had a dramatic impact on our liquidity, operational capability, and the ability to execute our business plan.

And although we have recorded substantial losses during this period, we believe we have been able to successfully navigate through the significant downturn. We do feel there is more work to be done, but I am very pleased with how we positioned the company.

We began 2009 of warehouse and term debt outstanding of approximately $525 million with five different financial institutions. Through the successful restructuring and paydown of these facilities, the balance was reduced to approximately $336 million as of September 30th, 2009, with effectively one financial institution. As announced in today’s press release, we were successful in coming to terms with the lender and negotiated retirement of this facility for $176 million or 52.5% of the amount outstanding.

Since we reached this agreement, we have been successful in paying down the discounted purchase price by $62 million, leaving a balance of approximately $114 million. We have focused on raising the necessary capital to close this transaction and per the agreement up until the end of August 2010 to do so. The completion of this transaction will result in a significant gain and increase through our book value per share.

As previously announced, we successfully restructured all of our $219 million [ph] of trust-preferred securities reducing the current pay rate significantly to 50 basis points for a three-year period, from approximately 2.90 over LIBOR. As of today, we are able to retire $114 million of this debt and a substantial discount in exchange for combination of bonds and cash. We will record a gain of approximately $26 million from this transaction in the first quarter of 2010.

We believe these significant debt retirements are major steps in positioning ourselves favorably to the future. This will also improve the right side of our balance sheet significantly by reducing our leverage and recourse debt substantially, leaving us fully to take advantage of the opportunities that exist in the market.

Additionally, management has been heavily focused on liquidity and as of today, we have approximately $63 million of cash on hand and around $20 million of cash collateral posted against our swaps. We are very pleased with our ability to manage our CDO vehicles efficiently, receiving all the cash distributions to lease vehicles in 2009 and the first quarter of 2010.

The effective management of our CDOs has also contributed greatly to the reduction of approximately $200 million in our warehouse and term debt facilities in 2009. We will continue to optimize and utilize these fixed utilities going forward by transferring assets and originating new loans where available and appropriate. Although we have taken significant losses, we believe we have done an effective job managing through the downturn by restructuring our balance sheet, which includes repurchasing the Wachovia and trust-preferred debt at deep discounts.

We have also executed effective strategy to manage and mitigate losses including repurchasing other debt and monetizing our equity investments. In fact, we recorded $54 million in gains from these repurchases during 2009 and around $12 million already in 2010. In addition, as I mentioned earlier, we recorded a gain of $26 million in the first quarter from the retirement of the portion of our trust-preferred debt.

We believe there could be similar opportunities for us in the area going forward, so we will continue to evaluate these transactions based on availability, pricing and liquidity. We also generated $43 million in cash and a gain of approximately $48 million in 2009 from monetizing our equity investments in prime.

Now, I would like to update you on our view of the market and a credit status of our portfolio. This environment has clearly had an impact on every borrower, our real estate values across all asset classes and geographic locations as commercial real estate fundamentals remain weak. As a result, we recorded $100 million of loan losses during the fourth quarter, related to 23 loans with an outstanding balance of approximately $618 million. Of that amount, $52 million were on loans in which we had previously recorded reserves, while $48 million were on new reserves.

We also restructured several loans during the quarter, reporting losses of around $25 million from these transactions. We now have $326 million of loan loss reserves at December 31st related to 31 loans, with an outstanding balance of approximately $694 million.

We also refinanced and modified $284 million of loans and extended $66 million of loans in accordance with their extension options in the fourth quarter. Additionally, we recorded a $9.8 million impairment charge in the fourth quarter related to certain bonds. In 2010, these bonds were exchanged along with cash in connection with the trust-preferred securities retirement I discussed earlier, resulting in a $26 million gain.

At December 31, the total amount of our non-performing loans increased to around $225 million from $200 million in September 30th. This was primarily due to the addition of five new non-performing loans with a carrying value of approximately $16 [ph] million partially offset by the payoff of one loan at a discount with a carrying value of around 33 million before reserves. If real estate values and fundamentals continue to decline in 2010, this will likely result in additional delinquencies and losses.

Accordingly, we will continue to focus on strengthening our balance sheet, preserving liquidity and aggressively managing our portfolio as we have been since the downturn began over two years ago. As the market continues to find its way, we are beginning to evaluate opportunities to participate in lending again. Although we feel the worst may be behind us, this is still a very difficult environment to navigate through and you must have the patience and capacity necessary to await the market recovery. We are extremely pleased with our ability to substantially improve our liquidity and restructure and retire a significant amount of debt at deep discounts.

This again will produce large gains and improve our balance sheet significantly. We have also taken the necessary steps managing our portfolio effectively, restructuring and monetizing loans and recording the appropriate amount of reserves at this time. As we continue to move ahead, we can’t emphasize enough the importance of effectively managing our portfolio. This remains a critical component during these times.

And as I have said before, we are fortunate to have a very tenured and seasoned management team to help guide us through this current environment. I will now turn the call over to Paul to take you through some of the financial results.

Paul Elenio

Okay. Thank you Ivan. As noted in the press release, we had a net loss for the fourth quarter of $133.7 million, or $5.27 per share. As in previous quarters, we did have a few large items that affected the numbers. We recorded $99.8 million of loan loss reserves and $24.5 million of losses from restructured and paid off loans during the quarter.

We now have $326 million of loan loss reserves on 31 loans, with UPB of around $694 million at December 31st, 2009. As Ivan mentioned, commercial real estate fundamentals continued to weaken and these reserves reflect current market conditions and our proactive approach in evaluating our portfolio and actively managing and monetizing our assets.

Additionally, we recorded an impairment charge of $9.8 million on one of our securities health and maturity during the quarter. The security was reclassified to help the sale and written down to its fair value due to the fact that we exchanged the security as part of the retirement of $114 million of trust-preferred securities. The details of this transaction were laid out in this morning’s press release, but just to summarize, we are extremely pleased with our ability to retire significant amount of trust-preferred debt at a substantial discount, which will generate a gain of around $26 million in the first quarter of 2010, while using only $10.5 million of corporate liquidity. The completion of this transaction has significantly improved our balance sheet and increased book value per share.

Looking at the rest of the results for the quarter, the average balance in core investments declined about $40 million from last quarter, mainly due to pay-offs and paydowns during the quarter. The yields for the quarter on these core investments was around 4.42% compared to 5.35% for the prior quarter without some non-recurring items related to impaired non-performing and restructured loans, the yield in these core assets was around 5.30% for the fourth quarter compared to around 5.45% for the third quarter. This decrease was primarily due to reduced rates in refinanced and modified loans as well as an increase in non-performing loans in the fourth quarter.

Additionally, the weighted average all-in yield in our portfolio was around 5.20% at December compared to 5.35% at September 30th, and again this decrease was due to lower rates in refinanced and modified loans and an increase in non-performing loans during the quarter. The average balance in our debt facilities decreased by around $40 million as well from last quarter, which again was due to payoffs and pay downs. The average cost of funds in our debt facilities was approximately 4.21% for the fourth quarter compared to 4.50% for the third quarter. Excluding the unusual impact on interest expense from our swaps, our average cost of funds was approximately 4.20% for the fourth quarter compared to around 4.12% for the third quarter. This increase was primarily due to the full impact of new pricing in the Wachovia debt restructuring which we closed in the third quarter.

In addition, our estimated all-in debt cost was around 4.25% at December 31st, 2009 compared to 4.20% at September 30th, 2009. So, overall, normalized net interest spreads in our core assets decreased to approximately 1.10% this quarter from 1.30% last quarter, primarily due to reduced rates in refinanced and modified loans and increase in non-performing loans and higher weighted average interest costs from the full effect of increased pricing on the Wachovia restructuring.

Next, our overall leverage ratios were around 69% on our core assets and around 81% including the trust-preferred debt for both the third and fourth quarters. And our overall leverage ratio on a spot basis was 4.2 to 1 at December 31st compared to 3.2 to 1 at September 30th. This increase is due to the reduction in net asset values from the fourth quarter loan reserves and losses from loan restructurings. Operating expenses were down from quarter-to-quarter, primarily due to $1.7 million for closure-related expenses in the third quarter and a $4.1 million success-based fee to our external manager for debt restructurings in the third quarter as well.

There are some changes in the balance sheet compared to last quarter that are worth noting. Cash and cash equivalents increased $37 million from last quarter, primarily due to cash received from discounted payoffs and the return of some of the cash posted as collateral against certain swap contracts from an increase in the value of these instruments during the quarter. As Ivan mentioned, liquidity continues to be a primary focus and we are pleased to report that we currently have around $63 million in cash on hand.

Notes payable and repurchase agreements decreased $17 million during the quarter. This was primarily due to our continued strategy of reducing term debt through loan payoffs and moving assets into our CDO vehicles, which also resulted in a $12 million decrease in restricted cash related to our CDOs during the quarter. We are also able to reduce term debt by another $45 million in the first quarter already by moving additional assets into our CDO vehicles. As we discussed in our press release this morning, the agreement to retire all of our debt with Wachovia at a substantial discount provides us with the ability to apply paydowns in the Wachovia facility as a dollar for dollar reduction to the discounted purchase price. So, as a result of our ability to pay down the Wachovia debt in the fourth and first quarters, the amount due to Wachovia under the discounted purchase agreement has been reduced to around $114 million from the original payoff figure of $176 million.

The ability to successfully reduce this debt by moving assets into our CDO vehicles overtime provides us with a lower cost of funds and reduces the amount of capital the company will need to complete this transaction. As disclosed in the earnings release, book value per share was $3.81 at December 31st, 2009, and adjusted book value was just under $8 a share, adding back deferred gains and temporary losses on our swaps.

As Ivan mentioned earlier, we believe there will be selective opportunities to repurchase our debt at significant discounts in the future and this is an area that we will continue to focus on. Additionally, the successful retirement of the trust-preferred securities in the first quarter as well as the discounted payoff with Wachovia if completed will considerably improve our balance sheet and could result in significant gains and increased book value per share.

Lastly, our portfolio’s statistics as of December 31st show that about 65% of our portfolio was variable rate, while 35% was fixed. By product type, about 61% was bridge, 13% junior participation and 26% was mezzanine and preferred equity. Our asset class 37% was multi-family, 28% was office, 16% hotel, 12% land and 1% condo, all of which are relatively unchanged from the prior quarter. Our loan to value was around 92%. Our weighted average median dollars outstanding was 66% and geographically we had around 38% of our portfolio concentrated in New York City.

That completes our prepared remarks for this morning, and I would like to turn it back to the operator to answer any questions you may have at this time. Operator?

Question-and-Answer Session

Operator

(Operator instructions) Your first question comes from the line of David Chiaverini of BMO Capital Markets.

David Chiaverini – BMO Capital Markets

Good morning, guys. A couple of questions for you. Well, it seems like a really good deal getting out of this Wachovia debt for such a big discount. I was wondering why did Wachovia agree to do this and what types of assets were securing this facility?

Ivan Kaufman

We are trying to figure out the best way to answer that, because it didn’t happen over a day, it happened over an extended period of time.

David Chiaverini – BMO Capital Markets

Okay.

Ivan Kaufman

And I just think sometimes it’s timing and execution and the right moment. So, I think we are very fortunate in being able to negotiate that discount, and you know, worked out very favorably for us. The assets that we have in that line today are, a significant portion of them or the majority of them are first mortgage liens. I think there are about 14 assets in that range. And by giving us the opportunity to buy that at a discount, it also afford us the ability to rework some of those assets to borrow and fuse additional cash and improve that asset position. So, I think Wells saw that, it would be beneficial for them and beneficial for us and result in what would be a better result. And some of the losses we took in the fourth quarter had to do with restructuring some of those loans, and I think that those discount we offer Wells actually facilitated our ability to pass that back to the borrower to infuse some cash and improve our collateral position substantially.

Paul Elenio

And Dave, a majority of the 14 assets, they are a mix of hotels, multi-family and office but office makes up a decent amount of that product.

Ivan Kaufman

I hope that answered your question, but –

David Chiaverini – BMO Capital Markets

Would you say the performance of those assets were worse or about the same as the overall Arbor portfolio?

Ivan Kaufman

We really didn’t evaluate that, and I could take a look at that. That was really within the picture. I think what was clearly in the picture was that was one remaining line. It was a stumbling block for us to – if we didn’t put that in the big position, it was a stumbling block for us to, you know, go forward effectively, and I think what Wells recognized to their credit was by cleaning up this facility and putting in a favorable position we have a very effective company going forward, and there were able to see that. So, it was well we would have a three-year period of managing through those assets at a very high basis, which would have been very difficult for the company, and for the company to grow in that position, it would have put a real stranglehold around our necks. By cleaning out this facility in the way we did, it allowed the company to really free itself up and manage itself very effectively become very viable. And I think if they look at the whole picture which they did, the result was very positive at the end of the day for them and for us to be able to go forward in a positive light.

David Chiaverini – BMO Capital Markets

What was their – didn't they get some warrants or options when it was renegotiated last year? Do you know what percent of the shares outstanding Wells owns?

Paul Elenio

Sure Dave, we do. They received a million shares of warrants. They were blended at a price of about $4. 500,000 of those shares were at a price of $3.50 invested immediately when we restructured the deal. Another 250,000 were done at, I think $4, which was a year out and another 250,000 was done at $4.50 which is a third year out.

David Chiaverini – BMO Capital Markets

Okay.

Paul Elenio

I am sorry, the last piece was 500,000 [ph], sorry.

David Chiaverini – BMO Capital Markets

Okay. So what's your plan in terms of raising the capital needed to pay this off before August 27th?

Ivan Kaufman

As we have indicated in our comment today is we have substantially reduced the amount that we have to pay them by about 60 million bucks. So, the obligation has gone down from I believe 160 something down –

Paul Elenio

176.

Ivan Kaufman

170 to 115, so we are making the job a lot easy for us. We are out in the market right now, you know, putting together the necessary financing. And we feel fairly comfortable in our ability to proceed to get this done.

David Chiaverini – BMO Capital Markets

Okay. So it'd be more of a financing rather than a asset sale type or will it be a combination of asset sales and –?

Ivan Kaufman

I think what we will continue to do is whittle down the number. We have some loans that are coming due that will get paid off. Number one, we have some loans that we may sell, but it will be more, I think it will be more primarily financing.

David Chiaverini – BMO Capital Markets

Okay. And then regarding the loan loss provision of, you know, $100 million this quarter, do you have an idea, have you done sort of a projection, I'm not sure if you're comfortable putting out projections, but where do you see this heading over the next few quarters, would it be the same neighborhood, or do you see it trending downward this year or what are your thoughts?

Paul Elenio

You know, we take loan reserves based on where the value of our portfolio is at that time. The question really becomes as to whether the fundamentals in commercial real estate are going to continue to decline or stabilize and that’s going to reflect what our loan losses will be. So, that really affects where we are going. We are hoping that the worst is behind us and that we have cleaned up our balance sheet and our portfolio and that the economy will stabilize. There are certain things that are outside of our control, which impact us, which are a little bit surprising and one of the things that we can’t anticipate is when we do have a performing loan from time-to-time and it’s in the single purpose entity, what we are finding is some of these borrowers file and pull our loans into their bankruptcy, which impact us, and sometimes that’s a result of broader economic conditions outside of commercial real estate. But all in all, you know, we feel that we have got a very good job in cleaning up our balance sheet and trying to facilitate, you know, a clean slate going forward. But if fundamentals do decline, they will be impacted in our portfolio accordingly.

David Chiaverini – BMO Capital Markets

Okay. And then not sure if you'll have this number handy, but how much of your loans and investments including your real estate-owned are not pledged to CDOs or secured facilities?

Ivan Kaufman

Yes, we do. A bulk of them are in the CDOs. We have the 14 assets we mentioned of our Wachovia’s collateral, and then we do have, you know, a handful of assets that are unencumbered. But for the most part, a majority of them are in CDOs and are in the Wells field that we are looking to retire the discount and free up. But most of them are in those two facilities with a handful being on encumbered.

Paul Elenio

We are about half a dozen of assets, which are unencumbered.

Ivan Kaufman

Right.

David Chiaverini – BMO Capital Markets

And do you know what those half a dozen represent like average loan size for each of those, are we talking like $50 million or –?

Ivan Kaufman

You mean the size, no, they are not that – they are spread out all over. Some are larger than others. I don’t have the data right in front of me on those assets, but it’s a combination of some loans with low UPBs and high UPBs.

David Chiaverini – BMO Capital Markets

Okay. Great and congrats again on negotiating a good deal with Wachovia and retiring the junior subordinated notes at a good discount as well. Thanks.

Ivan Kaufman

Thank you.

Operator

Your next question comes from the line of Joshua Barber from Stifel Nicolaus.

Joshua Barber – Stifel Nicolaus

Hi, good morning. Would you be able to talk a little about any possible gain you might have from the prime sale through the Lightstone Value Plus Reit Simon, and if you're looking at that as a one quarter event, second quarter event?

Ivan Kaufman

You know, if you remember, Josh, when we disclosed last quarter, we had exchanged all of our interest in prime for OP units and Lightstone. We hadn’t seen the full trade yet that they are doing with Simon or whether it will get done, but we at this point, we are effectively out of our interest in prime, we had exchanged it and monetized it. So, we don’t anticipate any future gains from that transaction.

Joshua Barber – Stifel Nicolaus

Is there some part of the prime retail assets that are actually held through the Lightstone Value Plus Reit?

Ivan Kaufman

Do you mean the ones that they are potentially selling to Simon?

Joshua Barber – Stifel Nicolaus

Yes.

Ivan Kaufman

I am not sure, I think they are, but again, we – our investment was monetize and we are not sure of the structure of the trade yet, we need to look through it, but we don’t anticipate that we will receive any income from that remaining investments.

Paul Elenio

Yes, we are in a process of requesting the documentation from that transaction now, which we have put in our requests here, if it will have any impact on us going forward.

Joshua Barber – Stifel Nicolaus

Okay. Can you tell us where your CDO tests are, how close you are, if you are at all to the OCR or IC tests on any of the CDOs?

Paul Elenio

Gene, are you on?

Gene Kilgore

I am Paul, I think you released that as of year-end, is that the information that we want?

Paul Elenio

We actually put that in our 10-K, which will be out shortly, but it has not been put out yet, but it will be out soon.

Joshua Barber – Stifel Nicolaus

Okay. Thanks very much.

Paul Elenio

Thank you.

Operator

(Operator instructions) There are no further questions. I would now like to turn the call back over to management.

Ivan Kaufman

Okay. Thank you for listening and for your questions today. And just to reiterate, we are very pleased with the results of what we were able to accomplish for last year and so far in the first quarter of this year. It’s been a difficult year, but restructuring our balance sheet has been a tremendous effort, and we have been successful in doing that.

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