Municipal Mortgage & Equity, L.L.C. (MMAB) Q2 2014 Results Earnings Conference Call August 21, 2014 4:30 PM ET
Michael Falcone - Chief Executive Officer
Lisa Roberts - Chief Financial Officer
Good afternoon, and welcome to the MuniMae Second Quarter Results and Business Update Conference Call. All participants will be in listen-only mode. (Operator instructions) After today's presentation, there will be an opportunity to ask questions. (Operator instructions) Please note, this event is being recorded.
I would now like to turn the conference over to Mike Falcone, CEO. Please go ahead.
Thank you, operator. Good afternoon, everyone, and welcome. With me on the call today is Lisa Roberts, our Chief Financial Officer, Gary Mentesana and Earl Cole who normally attend this call are both travelling and not able to join us today. Lisa and I will deliver our prepared remarks and take questions.
The purpose of our call today is to review our second quarter results and to provide an overall business update. Some comments today will include forward-looking statements regarding future events and projections of financial performance of MuniMae, which are based on current expectations. These comments are subject to significant risks and uncertainties, which include those identified in filings with the SEC that could cause actual results to differ materially from those expressed in these forward-looking statements. The company undertakes no obligation to update any of the information contained in the forward-looking statements.
With respect to our second quarter results, which Lisa will review in detail later, we ended the quarter with $73.4 million of common equity, which represented a $1.94 of equity per common share. Common equity declined by $7.3 million during the second quarter, largely as a result of our common share repurchases and our purchase of additional shares in International Housing Solutions or IHS.
We repurchased our common shares at an average price of $1.78, a price that we found attractive and that was accretive to our common book value per share. We purchased the IHS shares in anticipation of closing our second multi investor fund, which in fact occurred early in the third quarter.
During the second quarter, we also entered into Total Return Swap or TRS agreements with a notional amount of $110 million. The significant amount of the agreements are tied to bond investments that we own prior to the sale of TE Bond Sub and we believe these investments will deliver mid teen returns and will have the right risk adjusted return profile for us.
Second quarter's operating cash results were slightly above breakeven and based on our most recent internal projections, we continue to expect operating cash results to be roughly breakeven for the remainder of 2014.
We realized that ultimately continuing to operate at breakeven on cash flows from operations is not a sustainable model for the company; it does however provide the time required to find the appropriate way to invest capital for the future growth of the company.
As it relates to the company's strategic direction, management and the Board continue to review opportunities to deploy our cash in ways that will grow common shareholder value over time.
We also continue to look for opportunities to sell non-strategic assets. As discussed previously, our focus remained in real estate investment and asset management. We continue to favor taxable investments, which will allow us to monetize our deferred tax assets with the goal of generating mid teen’s investment returns or higher in order to reach what we think are market levels of return on equity.
But we believe there may be opportunities to invest in U.S. housing finance related business acquisitions, but within our existing international business in ways, which could provide attractive risk adjusted returns. Our exploration of these opportunities is ongoing and we may ultimately conclude that these alternatives do not make sense.
As we said on our last call, we do not see many plain vanilla unleveraged investments in multifamily debt or equity in the U.S. today that generate the attractive risk adjusted returns we seek. However, there are limited niche investment opportunities such as the second quarter TRS investments, which we believe have the right risk return profile for us moving forward.
As mentioned in our most recent filing on the international side of the business, we recently closed on our second multi-investor fund with approximately $70 million of third party capital at initial closing. Similar to our first multi-investor fund, we will provide asset management and other operational services for a fee and for participation rights and profits above our preferred returned.
We also have a co-investment in this fund of 2%, which will earn a return consistent with that of the other fund investors.
Turning to our share repurchase program, significant progress has been made in the execution of our buyback program. As of August 15, we had repurchased 5.2 million of common shares at an average price of $1.53. Since inception of the program in January of 2013, under the most recently amended plan, the total number of shares eligible to be repurchased is 7 million, which leaves us with the capacity to repurchase an additional 1.8 million shares.
Going forward, the Board will determine a price up to which it will authorize management to repurchase shares in the open market based on an assessment of the economic benefit of such repurchases.
Effective with the filing of our second quarter 2014 report, [was until] (ph) modified by further action by the Board that maximum price is $1.92 per share.
We want to continue the buyback program as a mechanism to return cash to our shareholders and help provide liquidity to the market for our shares. Although we concurrently pay up to $1.92, I want to emphasize that this is the maximum price and that going forward, we will continue to repurchase shares only at prices that we believe are competitive will help turn as investments.
I will now turn the call over to Lisa to review the company's second quarter 2014 results. Lisa?
Thank you, Mike. We reported common shareholders' equity of $73.4 million at June 30, 2014, a decline of $7.3 million from the first quarter of 2014, but an overall increase of $8.1 million from yearend December 31, 2013.
We reported total comprehensive income to common shareholders of $15.7 million for the first six months of 2014, which included a comprehensive loss of $700,000 for the second quarter of 2014. The second quarter's comprehensive loss was comprised of a $2.4 million net loss, partially offset by other comprehensive income of $1.7 million, due primarily to unrealized mark-to-market gains on the bond portfolio.
Outside of total comprehensive income, we reported a net production directly to common shareholders' equity of $7.6 million for the first six months of 2014, which included a net reduction to common shareholders' equity of $6.6 million for the second quarter of 2014.
Net reductions to common equity for the second quarter of '14 were comprised of $3.8 million as a result of our share buyback program whereby 2.1 million shares were repurchased at an average price of $1.78. The remaining $2.8 million net reduction was a result of our purchase of additional shares in IHS for $1.6 million, bringing our ownership interest in IHS to 96%.
As a result, we transferred a $2.8 million deficit equity balance associated with these shares, inclusive of the $1.6 million cash payment, out of non-controlling interest equity and into common equity.
Our press release issued last week, included those and adjusted income statement and an adjusted balance sheet. These reports better enable us to explain our results by removing the impact of consolidated funds and ventures and discontinued operations. Because these reports include non-GAAP metrics, we have record filed into our published GAAP financial results.
Turning to the adjusted income statement Exhibit B of our press release, which summarizes the second quarter results as compared to the second quarter results from last year, starting at the bottom, line 18 shows the total comprehensive loss to common shareholders of $700,000 for second quarter '14 as compared to $31.2 million for second quarter '13.
Going back to the top of the adjusted income statement and focusing on the significant changes, on line one, adjusted bond interest income of $3.2 million for the second quarter of '14 down $12.8 million from second quarter '13's adjusted bond interest income of $16 million.
The majority of this decline was driven by declines in the weighted average bond portfolio from $1.1 billion for the second quarter of 2013 to $275 million for the second quarter of '14 as a result of the sale of our common shares in TEB during the third quarter of '13.
Line four is a new line item that shows the amount of net interest income recognized from the total return swaps that we entered into during second quarter that was treated as derivatives from an accounting perspective. These total return swaps have a current notional amount of approximately $95 million for which we are receiving a fixed rate and we're paying a floating rate of interest based on the seven-day municipal swap index plus a spread.
On line seven, adjusted interest expense was $4.5 million for second quarter '14, down $14.8 million from second quarter '13's adjusted interest expense of $19.3 million. A little over half of the reduction was due to deferred cost that was accelerated and recognized in full in the second quarter of '13 associated with the debt that was assumed by the purchaser of our common shares in TEB.
The remainder of the decline was due to interest or distributions on TEB related debt and preferred shares that were transferred as part of our sale of TEB.
On line eight, adjusted operating expenses include salaries and benefits and administrative expenses, professional fees and other miscellaneous expenses. These expenses were $5.7 million for second quarter '14, down $2.6 million from second quarter '13, driven by a reduction in operating cost across the Board, but largely concentrated and a reduction in professional fees, mainly due to fees incurred in 2013 related to our sale of TEB.
On line 10, adjusted net gains on assets and derivatives of $600,000 for second quarter of '14, included $800,000 of unrealized gains, transferred out of accumulated other comprehensive income associated with two bonds that were redeemed during the second quarter of '14. These gains were partially offset by $200,000 of mark-to-market losses on derivatives.
Net gains of $1.2 million for the second quarter of '13 were primarily related to mark-to-market gains on derivatives reported during the period as well as a $400,000 gain on sale of a bond.
On line 11, we reported net gains on early extinguishment of liabilities of $400,000 for second quarter 2014, which included a $1.1 million gain associated with a discounted settlement of $1.9 million obligation related to professional fees for $800,000 as well as a $200,000 gain on the retirement of a debt obligation.
Partially offsetting these gains was a $900,000 loss on a $14 million bond that we effectively repurchased at a premium and refinanced through a total return swap. Previously we had sold this bond at a discount with a guarantee of full principal and interest.
On line 12, adjusted net gains on the sale of real estate for $300,000 for the second quarter of 2014 as a result of additional cash received from prior sales and consistent with the level of gains reported during second quarter of 2013.
For the six months ended June 30, 2014, net gains on the sale of real estate were $15.3 million and included $14 million of gains recorded during the first quarter of '14 related to two multi-family property sales.
Separately, as disclosed in our filing and as reflected on our adjusted balance sheet, we had $20.8 million of real estate held for sale at the end of second quarter 2014, which was sold during the third quarter of 2014, resulting in a gain on sale of real estate of $2.3 million in the third quarter.
Also shown on our adjusted balance sheet is $25 million of real estate that is currently held for use, the majority of which are land investments and provide some opportunity for value appreciation in the future. However this value appreciation will not likely result in a large gain experience during the first quarter of this year.
On line 13, net gains due to real estate consolidation and foreclosure of $8.5 million during the second quarter of '13 relates to real estate consolidations during the period that resulted in unrealized gains recorded on the underlined bonds being transferred out of accumulated other comprehensive income and into the income statement having no impact on equity. We had no activity of this nature during the second quarter of '14.
Line 14, adjusted other net losses includes various asset impairments depreciation, income and loss allocation on certain equity investments and other miscellaneous items. The decline in losses was largely due to $900,000 of asset impairments taken in the second quarter of '13 that were not repeated during the second quarter of '14.
Finally on line 17, total other comprehensive income to common shareholders of $1.7 million during second quarter '14 was primarily the result of $2.9 million and unrealized bond gains, partially offset by the reversal of unrealized gains on two bonds redeemed during the period as mentioned earlier whereby $800,000 of unrealized gains were transferred from other comprehensive income to the income statement.
Total other comprehensive loss to common shareholders of $30.8 million during the second quarter of '13 was primarily the result of $22.4 million in unrealized bond losses as well as the reversal of unrealized gains on six bonds during the period whereby $8.5 million on unrealized gains were transferred from other comprehensive income to the income statement.
I'll now turn to the adjusted balance sheet, which is reported on Exhibit A. Exhibit A adjust our GAAP balance sheet to remove the assets obligations and third party equity related to certain funds and ventures that are consolidated on our GAAP balance sheet even though we have little to no equity interest.
Reported on line one, at June 30, 2014, we had cash and cash equivalents of $43.7 million. This cash balance is down $53.9 million from March 31, 2014, as a result of $54.7 million of cash used in financing and investing related activities offset by $800,000 of cash generated from operating cash flows.
As described in our press release, we use $25.1 million to purchase bonds that are serving as collateral to certain total return swaps entered into during second quarter ’14 and another $16.5 million to purchase a bond investment that we expect to finance during the third quarter.
Additionally we posted $5.6 million as restricted cash to service collaterals to certain total return swaps entered into during second quarter and used cash of $5.4 million to repurchase common shares and to purchase additional shares and IHS.
As reflected on line three, we had bonds with a book carrying value of $239.6 million comprised of multifamily tax exempt bonds and community development district bonds and as disclosed in our filings, we estimated a fair value of these bonds to be $242.4 million at June 30, 2014, or $2.8 million higher than our book carrying value.
As previously discussed, this value has not yet been recognized for GAAP because in certain circumstances, we account for the real estate serving as collateral to our bonds and under GAAP we cannot recognize the value appreciation until the real estate is sold.
As reflected in our filing at June 30, 2014, the unpaid principal balance of our bond portfolio was $280.4 million and the average pay rate on the portfolio was 5.4%. Also our bond portfolio had $113.5 million of associated debt sending us entirely through total return swaps with an effective average interest rate and pay rate of approximately 1.5% at June 30, 2014.
Line four reflects the book basis of our equity investment in the South Africa ventures we manage. At June 30, 2014, our investments in the South Africa fund and the South Africa partnership were $3.7 million and $1.2 million respectively for a total of $4.9 million as shown on Exhibit A.
In addition to our equity interest, which gave us the right to investment returns, our international operations is entitled to fees for providing asset management and other services to the funds as well as carried interest.
On Line five as mentioned earlier, we show a book basis of $25 million in fixed real estate investments, four of which are land related investments in California, Arizona, Georgia and Virginia.
Line six shows the three real estate properties classified as held-for-sale at June 30, 2014, that were foreclosed on during first quarter of ’14 and sold during the third quarter.
As described in our filings, we sold these three real estate properties with net assets consisting primarily of the $20.8 million of real estate reflected on line six for $22.9 million resulting in a gain on sale of real estate of $2.3 million that will be recorded during third quarter.
Line seven shows our investment in preferred stock. As discussed in our disclosures, this is an equity investment and a private mortgage lender in service or specializing and affordable and market rate multifamily housing and it’s the entity that we sold our agency lending business back in 2009.
At June 30, 2014 the liquidation preference on these shares, which is the unpaid principal amount as well as the estimated fair value of these shares was $36.6 million and the weighted average pay rate was 14.4%. Also these investments have $36.6 million of associated debt in the form of total return swaps with an average pay rate of 4.2% at June 30, 2014.
Turning to the liability side of the balance sheet, the majority of the debt reflected on line 10 of $328.8 million with an average effective interest rate of 4.9% and an average pay rate of 2.7% at June 30, 2014.
Earlier I outlined that $113.5 million of this debt relates to our bond portfolio and $36.6 million relates to our preferred stock investment. This debt also includes our subordinate debt of $147.5 million, which is considered corporate debt and not asset-specific debt.
The remaining debt balance of $31.2 million is comprised mainly of notes payable and other debt, most of which is not financing interest earning assets.
I'll now turn the call back over to Mike. Mike?
Thanks Lisa. Before opening the call up for questions, I just want to take moment to say that over the intermediate term, we feel that there will be opportunities to put capital to work in a way that will create significant shareholder value in the long run.
At the same time, we continue to look for ways to maintain or improve the attractiveness of an investment in our shares. As always we remain committed to our shareholders and thank you for your support.
We’ll now open the call for questions. Operator?
We will now begin the question-and-answer session. (Operator instructions) And the first question comes from Greg Bennett, a Private Investor. Please go ahead.
Good afternoon, Mike, how are you?
I am well, Greg. How are you today?
Good. Hey, on the IHS investment or the pickup of the 13%, am I correct, so did you get $1.6 million for that?
So can we say that the 87% or if were to figure out the value of what you own based on that evaluation, does that come to about $12 million?
If you assume that what we’re buying was a straight 13% interest, the math would work out the way that you described. But there were some contingent payments due under that stock based on the fact that that stock came from -- dated back to the founding of the company. So it’s not exactly a straight line.
All right, but am I correct when you’re though the balance -- not you, but when Lisa was going through the balance sheet, is the adjustment investments in the SA Fund and SA Partnerships $4.9 million. Is that equity, is it stock that you have also in this?
I’ll let Lisa answer that, won’t she?
All right. When I was referring to our investment in the fund and the partnership, we have a co-investment of 2.7% interest in the fund and that represents our investment and we have a 5% co-investment in the partnership.
What we are buying here, IHS is the operating company, separate and distinct from our co-investments in the funds that IHS manages. So we’re talking about here buying shares in the operating company.
So the value of IHS to us as an entity if you will, if you think of the whole business, it’s the sum of the value of the operating company plus the value of the investments in the investment vehicles. The value of the investment in the investment vehicles is on our balance sheet. The value of the operating business is not really -- it's reflected in this purchase, but there’s no -- you can’t look to align on our balance sheet. This is value of IHS operating business.
Now that you own 95% or 96%, is this going to change the way that you’re doing your reporting in the future Lisa?
No. It will not.
Okay. So the value of -- anyway there is an item on the balance sheet, this IHS investment, they have -- that you pay $1.6 million for 13%, but nowhere on your balance sheet is it reflected as for what the value is. Is that right Mike?
Right. IHS in and of itself has kept some cash on the balance sheet. So obviously it is a subsidiary of ours. We owe 96% of it. So that cash is on our balance sheet. It’s not that balance sheet really -- it’s not much more to that balance sheet, specifically the operating company itself.
It has employees, which were serving to manage the funds and ventures for which we have our investment in those ventures on our balance sheet, but the operating company -- any value that we might get for selling those 96% shares is not on our balance sheet. That would be gain that we would recognize upon a potential sale.
The way I think of it Greg, is we’re building goodwill in the business. but it's not yet reflected on the balance sheet nor should be. Excuse me.
Okay. So is IHS considered an investment that is for sale or is it something that you consider part of your long-term strategic growth plan?
Our strategy is to grow our businesses and create the most value that we can for shareholders. In that context, both every business is for sale and every business is a business we expect to grow. I am sure that’s a completely lousy answer but it has the benefit of being the truth.
Sure. This all is good. So you mentioned Mike in your comments that you’re an investor. You’re eating your own cooking in that you’re an investor and in the second fund, the South African fund I think you're an investor in the first one.
When you’re giving the presentation to your investors, what is the -- you're going to get the expected return on your equity. What is the expected return that you tell people for the South African Fund?
These funds are marketed as opportunistic investments and so they’ve got returns that would be similar to returns that you would expect on opportunistic investments. So and again these are targeted returns, but we certainly talked to people about high-teens to low 20s kind of returns, but those are targets and it all depends on our ability to find good deals and manage them well.
The first fund that you had some experience with, have you been able to obtain that kind of return?
The returns on our first fund are below that level, but obviously they’re attractive enough that we’ve been able to attract investors to the second fund.
Okay. The non-performing portfolio of real estate or the non-performing portfolio of the bonds, I think one of your colleagues usually address that, but -- there weren’t any comments about that, but what is the -- what is the current state, I guess a lot of these weren’t at the Atlanta, Georgia market I believe?
Yes typically -- Earl has commented on those in response to questions in the past. I would say in general if we look at what’s happening to our assets in the Atlanta market, we are generally seeing some modest improvement. It’s not -- we haven’t seen the improvement in our portfolio that you would -- you’ve perhaps read about it in the Atlanta market.
It has to do with the fact that our units are rented to people who earn moderate income. So tend not to be some of the upward pressure that you do on market rate feels. So it’s okay. It’s something we’re paying attention to and trying to figure out why we’re not performing as well as the overall Atlanta market.
Okay. You touched upon that during the quarter that you bought back a bond -- you had a guarantee of $29, you bought it back. Did you make money on that or was that something where you had a guarantee where you lost money. I am a little bit confused.
So we sold that bond few years back at a discount to $18.5. We had an obligation. The face value of the bond was I want to say $20. That may not be exactly right. But we bought it back from the party that we sold it to for $18.5. So I am talking about a deal called Spanish [fort] (ph). Was that the deal you were talking about?
Well, I don’t know. Yes, and then so you bought this back from them and they had a right to put it back to you, right? A guarantee or something, is that right?
Yes, I am going to let Lisa answer this one because I was answering the question on a different deal. Go ahead Lisa.
Yes, overall economically and Mike can complement -- supplement this discussion. We did sell an interest in a bond at a discount. The bond face was $14 million.
We sold it a couple of years ago. I am not sure exactly when at a discount and I don’t have in front of me the exact discount and we guarantee that purchase or the full principal and interest on that portion of the bond, so we did not derecognize that from a GAAP standpoint. So we’ve been carrying that as a bond and secured borrowing.
We effectively repurchased that bond. Actually another counterparty actually purchased that bond at a premium and we entered into a total return swap on that. So economically yes, that’s a loss to us because we sold it at discount and effectively purchased it back at a premium and that -- like I said, it was around $800,000 loss because we were carrying that bond, that debt on our books at around $13.7 million and the effective price of that bond was $14.5 million resulting in a $100,000 loss.
But this is a performing bond. I would take it as a performing bond. You pay the premium to put it back on your balance sheet.
Okay. So this is a way -- do you have any -- are there any other bonds that you sold in the past, you have guarantees -- are there outstanding potential guarantees or reliabilities on those bonds or provisions where they can put it back to you?
No this is the only one, which is in part why we did this transaction to essentially clean up the guarantee.
Okay. Great. I will let somebody else ask a question. Thank you very much.
The next question comes from [Ted Lou] (ph) with Valley Financial Group. Please go ahead.
Hello Michael, I just had a real simple question. Could you prioritize your say top three corporate objectives or would you say your operating more opportunistically?
I would say our top three objectives as we look forward for the rest of the year are first, to take advantage of the prices that we’re seeing in this market and to sell assets that we think are highly valued now that may not be highly valued in the future.
The second is to make sure that we put the cash that we have on our balance sheet to work over the long run building a profitable business and that’s very closely related to the third, which is entering into transactions where we take steps to either lower our interest cost or to earn some interest over short-term period where we achieve breakeven or better so that we can make decisions about the long run investment on the capital without feeling pressure to do so because of short-term cash losses.
So I would say -- there are lot of others -- a little while ago I probably would have included closing the second IHS fund on that list, but since that has happened, I wouldn’t put it on there.
That's very helpful. Thank you.
(Operator instructions) As we have no further questions, this concludes the question-and-answer session. I would like to turn the conference…
Okay. I thought you were going to hang up. I did want to have a closing remark.
I was going to turn it right back over to you, Mr. Falcone.
Great. Thank you. Just finally today, I didn't want to make a comment. Many of you may have missed the raspy voice of [Mike] (ph) on our call today. Mike was a long-time shareholder and participant in this call and we learned recently of his death and would like to express our condolences to his family and his colleagues.
Mike was a warm, but persistent and insightful questionnaire of me and my colleagues and he helped make us better to explaining our actions and we'll miss him. So I thought, I would just take a minute and recognize Mike and thank him publicly for all he did to help us as a company.
On that note, I would like to adjourn this call and thank everyone very much for their participation. Thank you.
The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.
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