NorthStar Realty Finance's CEO Discusses Q2 2012 Results - Earnings Call Transcript

| About: Colony NorthStar, (CLNS)

NorthStar Realty Finance Corporation (NRF) Q2 2012 Earnings Call August 2, 2012 10:00 AM ET


Al Tylis - Co-President, COO & Secretary

David Hamamoto - Chairman & CEO

Debra Hess - CFO


Joshua Barber - Stifel Nicolaus

Steve Delaney - JMP Securities

Zach Tanenbaum - MLV & Company


Good day ladies and gentlemen, thank you for standing-by. Welcome to the NorthStar Realty Finance second quarter 2012 results conference call. During today’s presentation, all parties will be in a listen-only mode. Following the presentation, the conference will be opened for questions. (Operator Instructions) This conference is being recorded today, August 2, 2012.

I would now like to turn the conference over to Al Tylis, Co-President and Chief Operating Officer for NorthStar. Please go ahead.

Al Tylis

Thank you very much. Welcome to NorthStar’s second quarter 2012 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 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.

Additionally, certain non-GAAP financial measures will be discussed on this 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

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

David Hamamoto

Thanks Al, and thanks everyone for joining us. In addition to Al, I am joined today by Dan Gilbert, Co-President and Chief Investment Officer; Debra Hess our CFO and Ron Lieberman, our General Counsel.

During the second quarter of 2012, mixed U.S. economic indicators along with heightened concerns our Europe’s sovereign debt crisis resulted in slower than expected economic growth in U.S. Despite the overall uneven economic recovery, we continue to see a steady positive trend in commercial real estate fundamental and investor interest in this sector remains strong, supported by the extended low interest rate environment.

Liquidity in commercial real estate debt market continues to improve amplified by $12 billion of non-agency CMBS issuance during the second quarter, which was double the $6 billion of issuance during the first quarter. And it appears we're on-track for full-year 2012 estimated issuance of $35 billion to $40 billion which is in line with expectation.

Throughout the first half of 2012, we continue of focus on steadily expanding our overall platform and making accretive investments with expected total returns in excess of our current cost of capital. Last week, we announced our fourth consecutive increase to our common dividend, representing a 60% increase in cash distributions to our shareholders over the past 12 months. As we look ahead to the remainder of 2012 and beyond, we’re well positioned to continue executing our business strategy and we will continue to evaluate over dividend on a quarterly basis.

We remain disciplined in managing our balance sheet and continue to maintain a healthy liquidity position, especially relative to our near-term corporate debt maturity. For the last several quarters, we’ve highlighted that given the significant volume of commercial real estate loans maturing over the next several years and the limited liquidity available to commercial real estate owners relative to historic norm, there is a compelling investment environment for lenders to have access to capital and an established commercial real estate loan origination platform with a strong track record

Towards this end, since the beginning of 2012, we have directly originated 18 loans with a principle balance of $451 million including $265 million on behalf of our non-traded REIT, NorthStar Real Estate Income Trust or NorthStar Income. Originations year-to-date were primarily first mortgages and the loans originated for NRF balance sheet are expected to generate a 17% return on invested equity.

Looking at our lines of credit for financing the loans that we originate, as of today we are almost fully drawn on our $200 million of credit facilities with Wells Fargo for financing mortgage loans at NorthStar and NorthStar Income. Furthermore, we have recently closed three additional credit facilities, two of which are for NorthStar Income with a combined initial size of $90 million and a third facility for NorthStar’s balance sheet with an initial size of $40 million, but with expectations for near term increases and availability.

In addition to financing our loan originations with long-term bank credit facilities, the three facilities that we just closed have terms of five, six and six years respectively includes the debt extension option. We have had preliminary conversations, rating agencies and banks about returning to the securitization market to finance these loans.

As we have indicated previously, we believe that some form of securitization should become available to commercial real estate finance companies like ours that have proven track records, deep investment organizations and a willingness to retain risks associated with loans that we directly originate.

We continue to make significant progress in building out our non-traded REIT business including our broker-dealer. Our capital raising pace continues to be strong and we continue to be a top 10 capital raiser in the sector.

In addition, we are also excited that our healthcare oriented vehicle NorthStar Healthcare Income or NorthStar Healthcare which will be focused on GAAP and equity investments in the mid-acuity senior housing space consistent with NorthStar's $562 million of owned healthcare assets should be declared effective very shortly.

We then look forward to executing selling agreement with broker dealers especially those that have financial advisors who have participated strongly in NorthStar Income. Overall, we made strong and measurable progress to our long-term business objectives and believe we are well positioned to continue to grow cash flows in long-term shareholder value. And now I would like to turn the call back over to Al who will further discuss our business strategy. Al?

Al Tylis

Thanks, David. Since the beginning of 2012, NorthStar has invested approximately $290 of equity and $552 million of gross investments including $371 million of investments during the second quarter. Consistent with our strategy, these investments include loan organizations, repurchases of our CDO bonds and other opportunistic real estate related investments. Our investments year-to-date are projected to generate a weighted average return on equity of greater than 18%.

Our own CDO bonds continued to be a compelling investment opportunity. Despite over all market volatility, we have seen a noticeable increase in the number of market participants looking to buy CRE CDO bonds including our CDO bonds and the prices that are being paid in the market.

Our increased pricing in compensation makes buying large quantities of our CDO bonds essentially more challenging, this dynamic is validating our investment pieces in a $800 million of bonds that we currently own and we still expect that the stressed European banks will continue to need to exit their positions in these bonds.

Until proceeds that we could receive from our CDO bonds that we have purchased year-to-date is approximately $285 million which we purchased at an average price of $0.46 on a dollar or $153 million discounts to par. Our expected total return on these purchases is in excess of 20%. In addition to our loan originations and CDO bond repurchases, we also focused on creating value through other types of real estate related investments that often [stem] from aspects of our legacy portfolio and the broad real estate discipline and experience that we have in NorthStar.

Year-to-date, we have invested equity of $77 million in these types of investments with an expected weighted average return on equity of 16% with potential upside in many of these instances. We will continue to make capital allocation decisions with the best long-term risk adjusted return profile for our shareholders.

In addition to investing on our balance sheet, we continue to focus on growing NorthStar’s fee based revenue by expanding our asset management business. Our non-traded REIT business continues to make significant progress. During the second quarter of 2012, we raised $92 million for our CRE debt oriented vehicle NorthStar income with an additional $37 million raised in July bringing us to $362 million of capital raised in total.

Despite an overall summer slowdown for most programs in the non-traded REIT market, we continue to build our sales volume with July being our best sales month-to-date reflecting our success in executing on our business plan for NorthStar income.

This vehicle currently has 16 CRE loans and one CMBS investment with an aggregate principal balance of $342 million. As David mentioned, we recently closed two additional credit facilities for this vehicle totaling $90 million with anticipated near-term increases in availability signifying further validation of our platform.

We are confident that this business will result in significant long-term fee streams for NorthStar that will be highly valued by the public markets. Turning to the WaMu Litigation, we are extremely pleased that this case should finally be behind us with the recent decision by the California Supreme Court to deny the plaintiff’s request to review the Appellate Court’s decision in our favor.

We expect to receive $29 million related to our surety bond posted for this litigation during the third quarter. I would like to now turn the call over to Debra who will review our financial results for the second quarter of 2012. Debra?

Debra Hess

Thanks Al and good morning everyone. I would like to take a few minutes to discuss our GAAP and AFFO results for the quarter and our investment portfolio. As you saw in today's press release, we recorded a GAAP net loss of $78 million or $0.62 per diluted shares for the second quarter. Consistent with prior quarters, the largest contributor of our GAAP loss is the non-cash fair value adjustment. This represented $95 million or $0.73 per diluted shares of our GAAP loss.

Our second quarter AFFO totaled $28 million or $0.22 per share. Of this non-cash fair value adjustment, $71 million related to our third party outstanding CDO bonds. As underlying asset values continue to improve, the value of our CDO bonds continue to go up, resulting in unrealized GAAP losses.

Interestingly, these GAAP losses actually validate the invested value we are seeing in repurchasing our own CDO bonds as significant discounts to par. In other words, as we report these non-cash GAAP losses, economically our investments in our own CDO bonds are actually appreciating and increasing value of our shareholders which could translate into the $417 million of cash profits for shareholders or approximately $3 per share.

In terms of investment portfolio as of June 30, with $2.7 billion of commercial real estate debt investments primarily financed in 5 CDOs that are not profit collateralized with each other or financing our credit facility or health unleveraged on our balance sheet. We only have two non-performing loans at June 30 representing $14 million in aggregate principal amounts and $4 million in carrying value.

A majority of our debt investments are first mortgage loans that we directly originated and we've seen the credit trends in our underlying portfolio continue to improve steadily. Loan loss reserves totaled $172 million at June or approximately 7% of total loans relating to 18 loans for a carrying value of $252 million.

As of June 30, our securities portfolio of $2.9 billion and are predominantly CMBS. The securities portfolio is primarily advanced in six CDOs and on the credit facilities that we entered into in the fourth quarter of 2011.

Our $1 billion commercial real estate portfolio continued to perform well. It comprise of $404 million of core commercial real estate, suburban office, retail and industrial properties and $562 million portfolio of healthcare properties which are predominantly private pay.

As of June 30, our core net lease portfolio was 96% leased with an approximate 6.2 year weighted average lease term, and our net lease healthcare portfolio was a 100% leased to third-party operators with a weighted average lease coverage of 1.4 times and an approximate 7.4 year weighted average lease term.

To summarize, we have been very active in 2012 in terms of raising capital and successfully deploying it in [accretive] way. To conclude, we currently have a strong liquidity position with approximately $205 million of unrestricted cash.

This concludes our prepared remarks for today. Now, let's open up the call for questions. Operator?

Question-and-Answer Session


Thank you. We will now begin the question-and-answer session. (Operator Instructions) Our first question comes from the line of Joshua Barber from Stifel Nicolaus. Please go ahead.

Joshua Barber - Stifel Nicolaus

Would you be able to give us a little bit more details on your recently originated loan book, the 17% levered return on equity sounds really great and it’s actually above I think what some of your peers have been doing. Can you talk a little bit about what your leverage levels are, what sort of asset class that and the various coupons and property types that you guys are doing today, just to give us a better idea of where you are sourcing those opportunities?

Al Tylis

Sure Josh. Just given our overall profile, the $186 million of loans that we have originated at NRF are predominantly first mortgages, only $12 million of that total is one, mezzanine loans. The LTV is in the right around mid 70s, for what we have done and it’s a mix of -- there is some multifamily, there is some retail office; there is a hotel investment there as well. So it’s really a mix of collateral types, it is all first mortgages. Its investments that we largely source through relationships that people here at NorthStar have.

Joshua Barber - Stifel Nicolaus

But it is fair to classify virtually all of them as transitional assets today and that would basically mean all floating rate loans?

Al Tylis

They are all floating rate loans and I think I will probably classify them more accurately as light transitional as opposed to just the traditional transitional properties you might be thinking, but I think we look at it as a light transitional that include properties that have healthy cash flow to that.

Joshua Barber - Stifel Nicolaus

Okay, you guys have talked in the past before about being able to get opportunities from vintage in your portfolio sort of like the Hancock Tower, are you seeing more of those developing now especially in today’s markets and with greater liquidity that you guys have today.

David Hamamoto

I think Josh, why we are always looking to participate when there is a restructuring or refinancing opportunity so we continue to be active and opportunistic about sourcing new investments in situations where we have a control advantage.

Joshua Barber - Stifel Nicolaus

My last question, do you have any CDO cash that is still available for reinvestments or has the reinvestment period for all of the CDOs ended?

Al Tylis

The reinvestments ended for all the CDOs.


Thank you. Our next question comes from the line of Steve Delaney.

Steve Delaney - JMP Securities

Recently you disclosed that you have been approved by S&P and Fitch as a special servicer. I assume on CMBS deals, could you maybe give us a progress update if there is one there and may be comment on how one goes about from a business development standpoint pursuing those engagements?

David Hamamoto

Yeah we have approved – we are approved as special servicer and obviously given the control position we have and our big CMBS (inaudible) in a position where we can become the special servicer and we have done that on a limited number of instances, but we see that opportunity expanding over time.

Steve Delaney - JMP Securities

But David, do you actually have to -- is this decision like on a CMBS or CDO, it's basically trustee's decision to appoint the special servicer or whoever owns the (inaudible) bond?

Al Tylis

Steve, it's the controlling class of a particular CMBS trust, so we may have a CMBS bond in one of our CDOs that becomes a controlling class of the underlying CMBS Trust and that would allow us to appoint the special servicer.

Steve Delaney - JMP Securities

So is there like when you are buying third-party CDO bonds, is that sort of a interlocking part of your investment strategy on what you might target, where not only might you see a good value in the bond, but you might have a shot at gaining some of that asset management business as well?

Al Tylis

We are not buying third-party CDO bonds, but on occasion we do buy CMBS positions and certainly a consideration is the income and principal you can receive from the bond as well as potentially control that may lead to additional fees from that investment.


(Operator Instructions) Our next question comes from the line of Zach Tanenbaum from MLV & Company.

Zach Tanenbaum - MLV & Company

I want to ask a little bit about your pipeline, can you quantify what you are looking at on the origination side going forward in terms of dollar amount and then also if you could talk a little bit about how competition has been trending, who you are running into as you are looking at originations. I know David mentioned CMBS volumes are picking up, are you running into conduits or other REITs, just give a little color on that.

David Hamamoto

Yeah, today I think we've originated about $450 million of loans between NRF balance sheet and I think and we would expect that that pace to continue. We are not really running into the CMBS conduit guys, we focused on a little different asset type.

But I would say some of the other public companies in our space with that access to capital, we see it as competitors but for the most part, the magnitude of the opportunity is significantly greater than the amount of capital available today.

So it continues to be a pretty favorable dynamic for putting out new money in new loan situations and I think we will continue to focus on first mortgages with pretty solid credit as we have done in the first half of the year.

Zach Tanenbaum - MLV & Company

Great and then on the new facility at NRF, the 40 million facility, I think you mentioned it as a six-year term with the extension option. Is pricing on that similar to your in place facility and then also is there, I think you alluded to I guess an accordion feature that it can be upsized, can you just talk a little bit more about what the full size of that facility might be?

Al Tylis

Sure, in terms of pricing it’s a wider range of pricing. And it's a facility that I think is probably a little more flexible in terms of the type of assets than our existing facility. So it's not a specific price point, but there is I would say just a wider range of pricing depending on the type of assets and I think in terms of size, we'd expect to double fairly soon and with the hope of further increasing it.

Zach Tanenbaum - MLV & Company

And last question, the 30 million from the WaMu lawsuit, you mentioned, that’s coming back to you in the third quarter. Will that be unrestricted cash that you can use for new investments?

Al Tylis



Thank you and we have no further questions at this time. Ladies and gentlemen, this concludes the NorthStar Realty Finance second quarter 2012 results conference call. If you would like to listen to a replay of today’s conference, please dial 1-800-406-7325 or 303-590-3030 with the access code of 4551897. ACT would like to thank you for your participation. You may now disconnect.

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