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RAIT Financial Trust (NYSE:RAS)

Q2 2014 Earnings Conference Call

July 31, 2014 09:00 AM ET

Executives

Andres Viroslav - IR

Scott Schaeffer - CEO

Jim Sebra - CFO

Analysts

Jade Rahmani - KBW

Richard Eckert

Jason Stewart - Compass Point

Operator

Good day, ladies and gentlemen and welcome to the Q2 2014 RAIT Financial Trust Earnings Conference Call. My name is Alison and I'll be your operator for today. At this time, all participants are in listen-only mode. We will conduct a question-and-answer session towards the end of this conference. (Operator Instructions) And as a reminder, this call is being recorded for replay purposes.

I’d now like to turn the call over to Mr. Andres Viroslav. Please proceed, sir.

Andres Viroslav

Thank you, Alison, and good morning to everyone. Thank you for joining us today to review RAIT Financial Trust’s second quarter 2014 financial results. On the call with me today are Scott Schaeffer, Chief Executive Officer; and Jim Sebra, RAIT’s Chief Financial Officer.

This morning’s call is being webcast on our website at www.rait.com. There will be a replay of the call available via webcast on our website and telephonically beginning at approximately 1:00 PM Eastern Time today. The dial-in for the replay is 888-286-8010 with a confirmation code of 35898971.

Before I turn the call over to Scott, I would like to remind everyone that there may be forward-looking statements made in this call. These forward-looking statements reflect RAIT’s current views with respect to future events and financial performance. Actual results could differ substantially and materially from what RAIT has projected. Such statements are made in good faith pursuant to the Safe Harbor Provisions of the Private Securities Litigation Reform Act of 1995. Please refer to RAIT’s press release and filings with the SEC for factors that could affect the accuracy of our expectations or cause our future results to differ materially from those expectations.

Participants may discuss non-GAAP financial measures in this call. A copy of RAIT’s press release containing financial information, other statistical information and a reconciliation of non-GAAP financial measures to the most directly comparable GAAP financial measure is attached to RAIT’s most recent current report on Form 8-K available at RAIT’s website, www.rait.com under Investor Relations. RAIT’s other SEC filings are also available through this link. RAIT does not undertake to update forward-looking statements in this call or with respect to matters described herein except as maybe required by the law.

Now, I’d like to turn the call over to RAIT’s Chief Executive Officer, Scott Schaeffer. Scott?

Scott Schaeffer

Thanks, Andres and thank you all for joining our call today. RAIT is a multi-strategy commercial real estate company with a vertically integrated platform focused on lending, owning and managing commercial real estate related assets nationwide. We are pleased to report another quarter of solid loan production, with continued growth and stability in our portfolio of owned real estate. Our results this quarter as compare to the second quarter of 2013 demonstrate the strength and depth of our commercial real estate platform and our ability to drive revenues materially higher. As usual let’s start with some highlights.

Total revenues grew 25% to $73.3 million for the quarter. Net interest margin from our loan portfolio increased 13% to $27.1 million. Rental income from our property portfolio increased 41% to $39.2 million and net operating income increased 51% to $19.5 million. Cash available for distribution or CAD increased 66% to $19.7 million.

During the second quarter loan production continued ramping up with $246.3 million of newly originated loans consisting of $112.8 million of bridge loans, $119.7 million of conduit loans and $13.8 million of mezzanine loans. This production was partially offset by $67 million of commercial loan repayments and $47 million of conduit loan sales during the quarter.

During the first half of the year we originated over $470 million of loans and as expected the origination for waited towards floating rate bridge loans, which create recurring quarterly interest receipts and more stability to our earnings. In April we closed our closed our second floating rate securitization which provides match funded non-recourse financing to our on-balance sheet bridge loans.

We are ramping additional bridge loans for our third floating RAIT securitization which we expect to close towards the end of the third quarter or possibly early fourth quarter. In order to support the increase in investment activity we’ve added more personnel. We now have over 30 professional dedicated to originating underwriting and securitizing loans.

On to our portfolio of owned real estate, the portfolio continues to perform well. Rental income continues to climb through rental rate growth and property acquisitions in the multi-family portfolio. The apartment portfolio experienced year-over-year same store average rent per unit growth of 4%. In addition we are now seeing an uptick in leasing activity on our office and retail properties.

Our subsidiary, Independent Realty Trust and apartment property equity REIT which we externally advise and consolidate acquired two properties during the second quarter totaling 372 units for $41.8 million and now owns 5342 apartment units. RAIT currently owns approximately 7.3 million shares representing 28% of IRT’s outstanding common stock.

Now as a result of the performance across our core businesses, RAIT's board announced our eighth consecutive quarterly common dividend increase to $0.18 per share or approximately 75% of cash for the second quarter of 2014.

And at this point I'd like to turn the call over to Jim to go the financial results in more detail. Jim?

Jim Sebra

Thank you, Scott. For the second quarter CAD, was $0.24 per share or $19.7 million. This was a 66% increase over the second quarter of 2013 where CAD was $11.9 million. Compared to the second quarter of 2013, investment interest income was up $3.4 million due to increased loan production while investment interest expense was up $245,000, primarily due to increased warehouse lending for our floating rate loans in the second quarter of 2014, offset by reduced heading costs.

This quarter our loan production was $246 million, as compared to $171 million dollars of low production in the second quarter of 2013. As we've discussed previously the interest rate hedges in our rate RAIT I and rate RAIT II securitizations are continuing to burn off. Based on the current one month LIBOR curve, we expect to see $2 million of reduced hedging costs over the remaining portion of this year when compared to the 2013 run rate as hedges continue to expire according to their terms. From a credit statistics perspective, our CRE non-accrual loans declined to $30 million and represent about 2.3% of our loan portfolio at quarter end. Our current loan loss reserves are $15.3 million or 51% of our non-accrual loans and we believe we’re adequately reserved for any potential future losses.

Rental income increased by 41% or $11.3 million in Q2 2014 as compared to Q2 last year. This increase was primarily the result of $10.6 million of rental income associated with 16 properties that we’ve acquired since June 30 of last year. Rental revenue increased $500,000 due to continued improvement in occupancy and rental rates across the remaining same store properties.

Lastly fee and other income increased approximately $100,000 this quarter as compared to second quarter last year. While CMBS profitability on our condo loan sale business declined compared to last year. This decline was offset by $3 million of property management and leasing commissions associated with our retail property manager over retail this quarter or $5.9 million year to date.

With respect to some of the expenses, interest expense this quarter is up $3.2 million compared to second quarter last year, due primarily to $1.9 million of interest associated with mortgage loans used to finance the properties we acquired since second quarter of last year and $1 million of interest associated with our $60 million 7.625% senior notes that we issued in April this year.

Property operating expenses this quarter increased by $4.8 million as compared to second quarter of last year. This increase is the result of the 16 properties we’ve acquired since June 30 of last year. The property operating expenses in our same store portfolio was largely unchanged compared to second quarter last year.

Overall the net operating income of our real estate portfolio was $19.5 million this quarter, an increase of $6.6 million from Q2 of last year. Combined composition and administrative expenses remained flat at approximately 17% of total revenue this quarter as compared to the second quarter of last year. We are reporting a GAAP net loss for second quarter 2014 of $25.7 million or $0.31 per share, the GAAP net loss was attributable to $25 million of continued negative changes in the fair value of our various financial instruments adding $7.7 million loss from the sale of an asset within the legacy Taberna securitization. The primary driver of the negative change in the fair value of our financial instruments was an increase in the market price of the legacy Taberna securitization liabilities during 2014, the effect of which narrowed the gap between our adjusted book value and GAAP book value.

Please remember that the changes in the fair value of our financial instruments and the $7.7 million loss from the sale of the legacy Taberna securitization asset are non-cash. As such we believe that our presentation and discussion of CAD is more indicative of our financial performance.

With respect to our CRE CDOs we continue to meet all the over-collateralization tests. CRE I CDO reported an OC test of a $127% above the required level of a 116%. CRE CDO II reported an OC test of a 120%, above the required level of a 112%. These OC tests are relatively unchanged compared to year end 2013.

As of quarter end we continue to maintain good liquidity in capital available for investments. We accessed the capital markets again this quarter through a $60 million debt offering of 7.625% senior notes and raised net proceeds of approximately $58 million. Additionally Independent Georgia Trust, our consolidated subsidiary completed a recent $8 million common share offering and raised an additional $73 million of net proceeds. RAIT externally manages IRT an currently owns approximately 28% of IRT’s outstanding common stock.

Scott, this concludes the financial report, back to you.

Scott Schaeffer

Thanks, Jim. Operator this time I think we’d like to open up the call for questions.

Question-And-Answer Session

Operator

Thank you. (Operator Instructions) And your first question comes from the line of Jade Rahmani from KBW. Please proceed.

Jade Rahmani - KBW

I think at last disclosure you indicated $93 million of loans closed with $240 million in pipelines. So based on this quarter’s originations, I think that suggests about $87 million remained in the pipeline. Can you just discuss the status of those loans and the overall pipeline today and whether any have fallen through, as well as if you’ve added to the pipeline?

Scott Schaeffer

Sure, and thanks Jade. Yes, there were a number of loans that were scheduled to close by the end of June and just through timing and due diligence, the latest that they have been pushed into the third quarter. The pipeline continues to grow. I don’t believe as I sit here that we have lost any loans that we expected to be funding. It’s just timing and some get done before quarter end and some don’t.

Jade Rahmani - KBW

Okay, based on the conduit loan sales and the net income you disclosed, I think the implied margin is 6%. Do you think the outsize margin is attributable to the relatively modest volume of loan sales this quarter or do you believe that conduit margins have recently increased?

Scott Schaeffer

I think during in the second quarter spreads on the cost of the liabilities compressed. So the loans that we had priced and funded became more profitable when we sold them, but of course the market is very competitive and I don’t believe that we will continue with a 6% profit on sale for the third quarter.

Jade Rahmani - KBW

Do you think that 2% to 3% is reasonable to assume or are you running higher than that?

Scott Schaeffer

I think 3.5 is a good gate.

Jade Rahmani - KBW

Okay. And just lastly, on the $7.7 loss in the sale to need Taberna asset, can you confirm there’s no actual economic impact to RAIT?

Scott Schaeffer

Absolutely. This was a loan on that is held in one of the Taberna securitization that we consolidate that -- which the CDO was under water. So if the loan had paid off in full, it would not have benefitted rate and the loan with the loss doesn’t hurt rate. It was just a decision that we made, the collateral manager, that it was a very long dated piece of paper that would not have been recovered for many, many, many, years into the future and we made a decision to sell it now, take the cash and reduce the CDO liabilities at this time.

Operator

Thank you. Our next question comes from the Richard Eckert, please proceed, sir.

Richard Eckert

I have a quick question. Despite the rather large increases in revenue quarter and year-to-date, operating income has declined for both those period density [ph] and again that concludes a very resizable increase in the NOI of the operating properties. Can you comment on that?

Jim Sebra

Richard this is Jim Sebra. The reason that you see kind of a flattening if you will or a slight reduction operating income is because the depreciation and amortization line item has been growing. It was $8.6 million in the second quarter of last year and its $13.4 million in the second quarter of this year.

Richard Eckert

Okay. And that’s included in the near operating income?

Jim Sebra

Yes. That’s included in the operating income line of the financial statement.

Operator

Thank you. And your next question comes from Jason Stewart of Compass Point. Please proceed.

Jason Stewart - Compass Point

On the $67 million of repayments, can you give us just some idea of what portfolios those came out of specifically? Were any in the bridge lending business?

Jim Sebra

Yes. But the majority of it were in the old legacy CRE CDO, RAIT I and II. $20 million of it was from our first loading rate securitization.

Jason Stewart - Compass Point

And upon an early repayment, because I think that would be well before the original term, do you receive any exit fees on that?

Jim Sebra

Yes. The strategy of either exist fees or that we provide the permanent financing and then we would waive the exit fee but presumably we’re selling it currently at a 3.5 point profit.

Jason Stewart - Compass Point

Okay. And in this case would you care us to tell us now if you got the permanent financing or this is one of the reasons you took the exit fee?

Jim Sebra

We’ll get back to you. There was one that we did the permanent financing on, it might have been in the third quarter it relatively small. I think that the $20 million in the second quarter, we took, we got paid on our exit fee.

Jason Stewart - Compass Point

Okay. Got it. And on the loans originated of the conduit but not sold, could you give us the balance that was carried over at June 30?

Jim Sebra

Hey, Jason. This is Jim. I don’t have the number handy. Let me get it and get back to.

Jason Stewart - Compass Point

Okay. And then when we're thinking about the securitization at the end of 3Q, perhaps early 4Q is the sizing similar to the last securitization or you contemplating something larger?

Jim Sebra

Something larger.

Jason Stewart - Compass Point

Okay.

Jim Sebra

I’ll tell you at this point I expect it to be $250 million versus the $200 million or $198 million or $199 million it was -- the second floating rate deal was. This one we're looking to $250 million.

Jason Stewart - Compass Point

And similar structure would have include some prefunding potentially?

Jim Sebra

No. And the second one didn’t have any prefunding either. The first one did.

Jason Stewart - Compass Point

Okay. Got you. So $250 million, okay that’s perfect. And then one last one, sorry, on the urban and some of the retail repositioning that urban’s working on for you, any update on how that’s looking? It looks like the numbers have started to trend higher in terms of retail rent per square foot and occupancy. Anything -- is that due to the urban engagement which I think happen earlier this year?

Jim Sebra

It did happen earlier this year but it hasn’t been that long, I like to think that some of it is due to the urban involvement and we are seeing increased leasing activity or traffic if you will in most of our office and retail properties. I think the market just is generally getting a little bit better, in those areas and we’re going to benefit from that.

Operator

Thank you, I’d now like to turn the call back over to Scott Schaeffer for closing remarks.

Scott Schaeffer

Thank you and thanks everyone for joining us today. We continue executing on our growth strategy and look forward to sharing our progress with you next quarter. Thanks everyone and have a good day.

Operator

Thank you. Ladies and gentlemen thank you for your participation in today’s conference, this concludes the presentation. You may now disconnect and have great day.

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