NorthStar Realty Finance's (NRF) CEO David Hamamoto on Q2 2014 Results - Earnings Call Transcript

Aug. 7.14 | About: NorthStar Realty (NRF)

NorthStar Realty Finance Corp. (NYSE:NRF)

Q2 2014 Results Earnings Conference Call

August 07, 2014 10:30 AM ET

Executives

Albert Tylis - President

David Hamamoto - Chairman and CEO

Debra Hess - Chief Financial Officer

Analysts

Steve DeLaney - JMP Securities

Bose George - KBW

Stephen Laws - Deutsche Bank

Dan Altscher - FBR

Operator

Good day, and welcome to the NorthStar Realty Finance Second Quarter 2014 Conference Call. Today’s conference is being recorded. At this time, I would like to turn the conference over to Mr. Albert Tylis, President of NorthStar Realty Finance. Please go ahead, sir.

Albert Tylis

Thank you very much. Welcome to NorthStar’s second quarter 2014 earnings conference call. Before the call begins, I would like to remind everyone that certain statements made in the course of this call are not based on historical information and may constitute forward-looking statements. These statements are based on management’s current expectations and beliefs, and are subject to a number of trends and uncertainties that could cause actual results to differ materially from those described in the forward-looking statements.

I refer you to the company’s filings made with the SEC for a more detailed discussion of the risks and factors that could cause actual results to differ materially from those expressed or implied in any forward-looking statements made today. The company undertakes no duty to update any forward-looking statements that may be made in the course of this call.

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

With that, I’m now going to turn the call over to our Chairman and Chief Executive Officer, David Hamamoto. David?

David Hamamoto

Thanks Al and thank you everyone for joining us. In addition to Al, I’m joined today by Dan Gilbert, our CIO; Debra Hess, our CFO; Ron Lieberman, our EVP and General Counsel.

On a macro level, U.S. GDP growth rebounded during the 2014 second quarter, growing at a seasonally adjusted annual rate of approximately 4%, surpassing expectations after [arbitrating] during Q1.

While the Fed continues to be patient and holds short-term interests near zero, U.S. economic indicators imply a near-term rebound in consumer and business spending. In commercial real estate, trends have remained quite favorable and strong investor demand for commercial real estate continues to drive crisis higher, combined with near-term supply growth constraints contributing to positive rent growth.

Liquidity has also continued to improve in the commercial real estate market with CMBS spreads generally trending lower throughout the year and CMBS issuance projected to be approximately $80 billion for the year.

Turning to NorthStar, we remain focused on maximizing value for shareholders by building a best-in-class diversified commercial real-estate company. During 2014, we have continued to utilize our broad and diversified commercial real-estate platform to strategically deploy capital through varied investments across commercial real estate asset classes. Year-to-date we’ve committed to $7.3 billion of investments for NRF including our recently announced agreement to acquire Griffin-American Healthcare REIT II, which once completed would increase our owned real estate to over $10 billion or 75% of pro forma assets.

As discussed on our Tuesday conference call, Griffin-American owns a high quality portfolio of 295 healthcare real estate properties comprised of 11.5 million square feet with medical office buildings representing 43% of the portfolio and senior housing representing 30% of the portfolio. Combined with our existing healthcare real estate assets which will bring our healthcare real estate business to approximately $5.6 billion of cost and representing an approximate 6.9% cash cap rate based on estimated 2015 NOI, we believe that we will have formed a best-in-class portfolio with substantial size, stability and diversification, and have created the framework for substantial multiple expansion and opportunities to unlock asset and platform value through future strategic transactions.

Part of the Griffin-American acquisition, we have commitments for $3.1 billion of attractive non-recourse financing at our disposal at a weighted average expected cost in the low 4% range. We expect the Griffin acquisition to close in the fourth quarter.

In hotel space, during the second quarter, we completed our previously announced $1.1 billion acquisition of the Innkeepers Portfolio. The Portfolio performed extremely well in Q2 with year-over-year RevPAR growth of 8% and the outlook for future growth is positive. Subsequent to the second quarter, we also closed on a $273 million hotel portfolio, consisting of 20 premium branded select service hotel with approximately 1,900 rooms located primarily in California and Texas affiliated with Marriott, Hilton and Intercontinental.

Our investment pipeline has also expanded into Europe. As discussed on last quarter’s conference call, the investment in Aerium firmly established our European presence and provides us with the sophisticated platform from which to strategically invest in real estate across Europe.

We are already evaluating a number of very interesting opportunities in Europe and expect to begin closing investments in Europe in the near future. I’d like now turn the call back over to Al to discuss our business strategy and objectives. Al?

Albert Tylis

Thanks David. During 2014 excluding the agreement to Griffin-American, we committed to $3.3 billion of investments including approximately $1.2 billion of invested equity across owned real estate, in the healthcare, manufactured housing, hotel, and net lease sectors, indirect ownership in real estate, two opportunistic investments in real estate private equity funds and in our commercial real estate lending business.

Yesterday we announced the common stock dividend of $0.50 per share for the second quarter. We also announced that we expect to clear quarterly dividend of $0.40 per share for the third and fourth quarter of 2014, representing a $1.60 per share annualized dividend.

Our expectation is that we will payout substantially all of our annualized CAD and while timing and seasonality of certain owned real estate such as our growing portfolio may introduce some quarterly variability to CAD, we have set the initial dividend at a level that we believe provides for safety and for the ability to increase as NorthStar continues its strong growth momentum

We also made considerable progress improving our capital structure and liquidity resources with our recently closed $500 million revolving corporate credit facility. This new facility provides us substantially greater financial flexibility than we’ve had in the past to fund our investment pipelines and as recognition of the strength and durability of NorthStar.

Turning to our non-traded REIT that are now managed by NorthStar Asset Management Group, we have raised capital today of $1.8 billion and our capital raising pace continues to pick-up strong momentum in the second quarter. Year-to-date, we have raised $479 million including $208 million during the second quarter, a 30% increase from the first quarter of 2014. July was even stronger with $97 million of capital raised.

In summary, we continue to see attractive opportunities across the commercial real-estate landscape and are excited about the long-term value we are creating. Our focus remains on building a diversified and durable commercial real-estate business and exploring all avenues of enhancing long-term shareholder value.

I’d like to now turn the call over to Debra, who will review our financial results for the second quarter. Debra?

Debra Hess

Thanks Al, and good morning everyone. We completed the spin-off of our asset management business effective June 30. Since the asset management business was still part of NRF during the second quarter, the quarter and year-to-date income results do not reflect what NRF will look like on a go forward basis for NSAM.

First while the aggregate results for the historical periods are the same, the aggregate historical net income earned by the asset management business is now reported as one number net in discontinued operations.

Second, NRF continue to report all expenses with some amount reported in discontinued operations related to an allocation to the non-traded REIT business. Again, this is not reflective of NRF go forward expenses. In terms of second quarter results, all share and per share amounts are reported post reverse stock split.

As you saw in this morning’s press release, we reported cash for the second quarter 2014 of 104 million or $0.58 per share. Our second quarter cash does not fully reflect the earnings power of our investments made during and subsequent to the quarter. As second quarter 2014 GAAP net loss included a $7 million non-cash technically realized loss related to the exchange offering and other conversions, this is similar to the loss we reported in the prior quarter.

35 million non-cash loss on the deconsolidation of another security CDO and a $53 million non-cash unrealized loss primarily attributable to the reversal of prior unrealized gains from when we elected this fair value asset and marked our CDO liabilities to market.

During the second quarter 2014 we deconsolidated CDO’s rate and we expected to consolidate one of the two remaining security CDOs, CDO 9 later this year. The other remaining CDO, CDO 1 with approximately $45 million of assets is callable in 2014. As we have discussed in the past the deconsolidation of CDO is positive in so many ways, importantly improving transparency and reducing the complexity of our business and financials, this is a special important post spend as we transition into more real estate equity investments.

We continue to wind down this legacy portfolio and for 2014, represents less than 10% of our cash flows will come within CDO equity distribution, and we expect this percentage to continue to decrease as it continues to grow our investments portfolio.

In terms of liquidity, we have 282 million of unrestricted cash and we also of a new $500 million facility which provides incremental liquidity for funding our investment pipelines.

This concludes our prepared remarks for today and now, let’s open up the call for questions. Operator?

Question-and-Answer Session

Operator

Thank you. (Operator Instructions). We’ll take our first question from Steve DeLaney with JMP Securities. Please go ahead.

Steve DeLaney - JMP Securities

Thanks. Good morning everyone and hello again. Just one quick thing, I know it’s been a long week for you guys. I was pleased to see that you found another opportunity in the world of real-estate private equity with the secondary LP unit. Just noticed that the yield here at 16% was slightly below what we had reported and you’re accruing on the prior transactions. I was curious if this has something to do with the nature of the underlying properties or maybe the life cycle of these particular partnerships or frankly, is it candidly just more of a reflective -- more of a competitive market? Thank you.

Albert Tylis

Sure Steve. Clearly, the value of these and the pricing has come in some over the last few years, since we bought it. So, I think we still see very attractive opportunities, we still think on a risk adjusted basis, it’s a quite a good investment. And I think that’s the area, kind of the mid teens area where we feel like you could transact in that space. I think what it does tell you is the hundreds of millions of dollars that we’ve invested over the last several years at much lower effective prices, I think it’s sort of validating those purchases and you’ll see the yields that we’re earning and the amount of capital that we’re also getting return from those is quite substantial.

So, we continue to view it as attractive. And again I think it is a function of an improving environment and people seeing the opportunity in those private equity positions.

Steve DeLaney - JMP Securities

Understood. And certainly didn’t to apply mean to apply 16% was not attractive return for an unlevered investment. Al, I’m just curious if you have some very creative structuring terms in your first couple deals where they really didn’t look like sales, they were more JVs or something; is the market more just the pure cash purchase one and done kind of transaction as you see the market today?

Albert Tylis

You’re still seeing some structures out there, may be less, below the less interesting but you’re still seeing some structures and then you are seeing just more straight cash bids given that those bids are starting to approach much closer to the NAVs than where we were buying these portfolios a couple of years ago.

Steve DeLaney - JMP Securities

Got it. Thanks for the color.

Operator

We’ll take our next question from Bose George with KBW.

Bose George - KBW

Hey guys, good morning. I just had a question on leverage. Just I was trying to think about the way you sort of think about your leverage on the different types of real estate investments that you make going forward. And for example, the hotel investment has lower, less equity. I mean should we think of that changing or the leverages vary in the different buckets just depending on how you choose to fund it.

Albert Tylis

Yes. Again Bose, I think we look at each investment on its own and try to decide for that particular investment, what’s the best capital structure. The hotel sector has been particularly aggressive in the CMBS market with respect to the financing costs, and so we’ve taken advantage of that. But we’re also cognizant of maintaining an overall leverage that’s acceptable, and so it will be a balance between equity issuance and debt. And so you will see variability in terms of the amount of leverage depending on the financing availability for each particular asset class.

Bose George - KBW

Okay, great. Thanks. That’s all I had.

Operator

And our next question will come from Stephen Laws with Deutsche Bank

Stephen Laws - Deutsche Bank

Hi. Good morning. Thanks for taking my question. I guess, maybe thinking about NorthStar, when I think about the pipeline, looks like the investments you guys make still hit or still all hitting that 12% 18% expected ROEs that have kind of been a consistent range for last few quarters. Is the pipeline still shaping up to continue that path with what you’re looking at? And can you maybe talk about how ROEs on the European investments may differ from those in the U.S.?

David Hamamoto

Sure. Look, I think we still continue to see a good flow of investment opportunities in that return range though we’re very optimistic about the future pipeline. And I think the scale at which we participated in these various sectors, give us a window into a huge amount of deal flow whether it’s the private equity or manufactured housing or healthcare. And these are areas that we’ve established ourselves as a leading investor in that space with a real platform.

And I think having those relationships within an existing platform enables us to see more things that are relationship based and opportunistic and off market. So, for instance in the healthcare area now with the breadth relationships we have with the operators, we anticipate add-on investments that should be particularly attractive.

In Europe, we continue to view it as a very exciting place to be where most of those countries are in the -- the economic cycle is behind the U.S. So, I think there is more -- there is less capital on a relative basis and more opportunities to buy things cheap.

With that, some of them are turnaround situations and generally in some of the markets in Europe yields have been lower, but we will continue to be disciplined and make sure that what we buy is long-term accretive for the business.

Stephen Laws - Deutsche Bank

Great. And on the -- when I think about capacity for new investments, $282 million of cash, $500 million available with revolver as of early August, I know that the private equity is not going to have financing in place on its. But when I think about capacity on a blended basis, maybe one to three times leverage, so $1.5 billion to $3 billion of available capacity for new investments, is that the right way to think about that liquidity number?

David Hamamoto

Generally, Stephen, it depends what we’re investing in, but yes I think if you look at -- we have a lot, substantial amount of availability on our line, we have the entire line actually undrawn the cash. So, we have as I mentioned on the private equity funds, we’ve gone over $200 million of capital back on those, we continue to see capital return to us, so -- and with buying at real-estate with non-recourse financing, a responsible leverage level. So, there is a meaningful amount of capacity for investments.

Stephen Laws - Deutsche Bank

Great. And then with regards to (inaudible) one last question on financing with Europe, do you have any pound or euro dominated financing facilities in place, will you look to do just asset level debt and avoid currency risk there or how do you plan to finance investments there?

David Hamamoto

Yes, I think we would seek to finance it in the local currency.

Stephen Laws - Deutsche Bank

Okay. With regards to NSAM the non-traded REITs, it looks like we had pretty acceleration in July about $4 million per business day, up from a little over 3 million per business day in June, what drove that, was any contribution from the RXR fund or it just continued acceleration that we have been seeing lately in the healthcare and the CRE debt two fund?

David Hamamoto

I want to keep the questions if you don’t mind just focused on NRF, but just the one comment on the capital raising your 97 million in July was clearly continued momentum for where we were in the prior quarter and I think that’s largely just a function of the capital raising trajectory of these vehicles as they become more mature and you have more investments in them, you start to get more and more capital flows as you get near the completion of an offering or further into the lifecycle. So the momentum that you have seen, certainly our expectation is that it will continue.

Stephen Laws - Deutsche Bank

And there is…

David Hamamoto

Okay, great.

Stephen Laws - Deutsche Bank

Okay, well that’s helpful, well I’ll save the rest of my NSAM questions for – at NSAM call whenever we have one. So thanks for taking my questions and congratulations on a lot of things going on. It’s been exciting to watch appreciate it.

David Hamamoto

Thank you.

Operator

Our next question will come from Dan Altscher with FBR.

Dan Altscher - FBR

Thanks, I appreciate you taking my call and good chatting with you guys. I guess a lot in the last couple of days. It seemed your notes that I guess are coming due at 930, can you just talk what the plan is there just maybe a refinance or term out on equity or try to reissue or issue a new convert there to take those what’s the thinking around those?

David Hamamoto

Dan, we obviously have a lot of flexibility on how to take those out. So, we haven’t made our final decision, but obviously a lot of capacity what we have, there is a option to that all those in shares which we did not expect to do. But otherwise we have a substantial amount of capacity to manage those and we’ll evaluate a that little bit closer.

Dan Altscher - FBR

Okay. And Debra you made interesting comment about CDO 1 being callable. Can we just talk a little bit more about that and what’s the call option there, do you have the ability to call it or how does that work?

David Hamamoto

Hey Dan, I’ll take that. It’s simply just a liquidation of the deal. So we have that option at some, it’s exactly in ‘15, but we have the option to liquidate which is essentially means all the assets gets old, all the bonds get repaid, to the extent there is an equity distribution and that’s the end of the CDO. If we recall, we did that with the CDO, last fall. The CDO..

Dan Altscher - FBR

Okay. Got it. Yes, I don’t know, I thought there is some little bit more specific around that. But no that’s helpful to clarify that. Maybe just thinking about also a forward question, since you do had a lot of capacity on the line and a lot of capacity in financing. With Griffin now taking or pro forma taking a fairly large portion of portfolio and some of that being in, how do you think about maybe the ongoing CapEx around the CapEx needs for that?

David Hamamoto

Yes, we’ve planned for that in our capital plan and we have that budgeted and there is some add on development opportunities as well as CapEx, so that’s -- we budgeted for that. In all our deals, whether it’s hotels, I mean we aim to make sure that the deals that are adequately capitalized for capital improvements and that’s generally in our budget.

Dan Altscher - FBR

Okay. And then maybe just one more on this new London Office building I guess we’ll see it when we do. But can you just give a little bit of the specs around it, is it a fully stabilized building or is it a transitional building or just a little bit background around it might be helpful?

David Hamamoto

Sure, Dan. Yes, it was actually sourced with our partners, something that came up a bit, off market but it’s a -- we think there is some improvements we made in occupancy and then we think there is some rent growth that we could obtain. But it’s largely stabilized.

Dan Altscher - FBR

Okay. Sounds great. I’ll drop back in the queue, I’m sure there are a lot of others too. Thanks.

Operator

And with no questions remaining, that does conclude our conference for today. A replay of this call will be available starting today, August 7, 2014 at 11 o’clock AM Central Time and will be available until August 14, 2014 at 11 o’clock AM Central Time. If you would like to listen to the replay, please dial phone number 1888-203-1112 or 719-457-0820 and enter pass code 9583325. Thank you for your participation. You may now disconnect.

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