Gramercy Capital's CEO Discusses Q3 2012 Results - Earnings Call Transcript

| About: Gramercy Property (GPT)
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Gramercy Capital Corporation (GKK) Q3 2012 Earnings Call November 8, 2012 2:00 PM ET


Gordon DuGan – CEO

Jon Clark – CFO


Kevin Tracey – Oberon

Matthew Dodson – Edmunds White


Thank you everybody for joining us and welcome to Gramercy Capital Corporation’s Third Quarter 2012 Financial Results Conference Call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session. Please note, this conference is being recorded.

At this time, the company would like to remind our listeners that during the call, management may make forward-looking statements. Actual results may differ from the predictions that management may make today. Additional information regarding the factors that could cause such differences appear in the MD&A section of the company’s Form 10-K and other reports filed with the Securities and Exchange Commission.

Also, during today’s conference call, the company may discuss non-GAAP financial measures as defined by the SEC Regulation G. The GAAP financial measures most directly comparable to each non-GAAP financial measure discussed and a reconciliation of differences between each non-GAAP financial measure and the comparable GAAP financial measures can be found in the company’s press release announcing third quarter earnings, a copy of which can be found on the company’s website at

Before turning the call over to Gordon DuGan, Chief Executive Officer of Gramercy Capital Corporation, we would like to ask those of you participating in the Q&A portion of the call to please limit your questions to two per person.

Thank you. Please go ahead, Mr. DuGan.

Gordon DuGan

Good afternoon. Thank you all for joining us or good morning if you’re on the West Coast still. I’m Gordon Dugan. With me it’s Ben Harris Gramercy’s President, as well as Jon Clark, our CFO. I was going to talk a little bit about the business plan and progress we’re making on that. Jon will take us through third quarter numbers in greater detail.

I think one thing that struck me about both the – our results for the third quarter and the description of them is that we’re in a period where we’re transitioning from old Gramercy to new Gramercy and the financial results, as they relate to the CDO business, don’t directly impact the steps we’re taking to transition the company and the press release and the Q reflect primarily the legacy business as opposed to the progress we’re making in terms putting together the new business plan.

On that front we’re making tremendous progress on the new plan. My belief is Q4 is going to be a watershed quarter in terms of the transition, again, from old Gramercy to new Gramercy and we’re very excited about the progress we’re making. And I think that again Q4 is going to be very important for this company.

To review the plan in its very simplest terms, it’s clean up the legacy issues and reduce costs, number one. Number two, invest cash for recurring FFO and number three, simplify the story with greater focus on a net lease investment company story going forward.

In terms of the CDO sale, we, as you saw in the press release, have engaged Wells Fargo to market the CDO management business. We’ve received very strong interest and – from a number of very good legitimate buyers who know this business well. It’s more creative to them than our having a standalone dedicated team and so we’ve been very pleased with the strong interest.

And I think there are a couple of reasons there’s strong interest. The CDO market in a general way is coming back in the sense that new CLOs are being done. North Star announced that they have completed a new CLO. There is appetite for re-securitized paper and companies again that’s a scale business, companies that have scale in that business are the best owners of these types of assets. So, but we benefit from what’s happening in that market indirectly in my view based upon – and the way it shows up as the strong interest we’re getting in the CDO management business.

Our hope is the transaction will be completed this year and I think that the investors will be pleased with the results of that transaction. As with any transaction, it’s not over till it’s over, but we are pleased with how it’s going. We’ve seen very strong interest and I think the investors will be pleased at the point that we can announce something assuming we get to that point which is no small feat. These are very complicated assets to sell and the team here is working very hard on that.

In addition to that, in terms of reduction of costs, we are in the process of reducing head count and therefore MG&A will have a head count that when I started was around 125 will be below a 100. That’s necessary because the business is smaller than it was historically. We are reducing our lease commitments as part of that and we are going through now a top to bottom review of all costs at Gramercy. As I said in the past, SG&A is too high, MG&A is too high. It is too high, we’re bringing it down. We’re going to bring it down substantially.

You don’t really see that in the third quarter. I don’t think you’ll see a tremendous amount in the fourth quarter either, but I think the efforts will be – you’ll see the efforts take shape in 2013. One area of focus is professional fees. We’ve been very loaded with professional fees and in all levels we will be doing a top to bottom review that will be completed by the end of the year on every aspect of MG&A. We’ve done a good portion of it, but we have not finished that and that’s a top priority for us.

One thing that is of ongoing frustration, it’s not a new frustration, is the complexity of our numbers and our filings due to the CDO business. We mentioned that was one of the reasons for exiting that business. There are a number of them, including all the liquidity we have tied up in the business, but it continues to be even an analysis of the MG&A. The MG&A analysis is driven largely by the CDOs based on the GAAP accounting of consolidating all the CDOs onto our balance sheet and income statement.

And so the measures we are using internally such as head count, lease commitments, ongoing professional fees, et cetera, those things are not necessarily the drivers that you will see in the third and fourth quarter, as we continue to consolidate the CDO business. So it’s a difficulty that we just have to manage our way through, we know that we will.

In terms of the asset management contract we have that continues to run at a $12 million a year pace for management services, we also have substantial revenues for property management services as well. As noted in the agreement, when we close on the Bank of America transaction, that will step down to $9 million. We will make up about $1 million of that with the asset management fee we’ll be charging to the joint venture. But I would also note that – and we have this in our earlier filing on the transaction, the minimum term of that contract is extended by six months, so that the contract itself can’t end any sooner than now six months later.

And I think we’re going to find on the asset management side is, as AUM goes down on that business, as KBS sells some of those assets, we will continue to receive a fixed priced management contract. I think we will also get the ability to manage for a fee some of the assets that are sold at least for an interim period of time. So I wouldn’t be surprised if revenues and profitability get better in that segment and they are pretty good right now, but they can get better.

Also on the clean up side, I mentioned we have four corporate owned assets. We are in the process of selling two of those assets. One of those assets is a portfolio of bank branches and office buildings. We continue to make progress selling those. Another is a land, a piece of land in Hawaii.

Another one is a hotel and timeshare property called Whiteface up in Lake Placid, actually quite a nice property. I encourage any of you to go and stay there, it’s really quite nice. And then the fourth asset is a minority interest in Philips corporate headquarters in New Jersey, which will be a hold for us as it nears the types of assets that we are currently seeking to invest in.

The next piece of the business plan investing cash, we are making substantial progress on that front. As you see from the press release, we invested in the mezzanine loan to KBS, which mirrors the drop in our cash balance. Right now we have, as of September 30, $175 million of cash, $36 million of marketable bonds or marketable securities at fair market value, a $10 million of advances to the CDOs and plus when we close on the Bank of America acquisition that KBS loan will be paid back which as of September 30 was another $19 million. So we’ll in essence be paying our loan back with the proceed – KBS will be paying our loan back with the proceeds of the Bank of America portfolio purchase.

Let me talk a little bit about that. We’ve made substantial progress on that. As we disclosed the net expected price is approximately $350 million. We are buying $485 million of property and immediately selling $135 million of property, these are rough numbers again. This is taking a tremendous amount of effort. Just think about buying 115 properties, 5.5 million square feet and at the same time selling off 1.5 million square feet. We have entered into contracts to sell 1 million square foot building in Chicago and slightly less than a 0.5 million square feet in Charlotte.

We are very pleased with the prices we have obtained on those and that will net down our purchase price to roughly $350 million as we describe. We have made substantial progress with a major bank and we have a term sheet for $200 million loan. The entire transaction we expect to close at the end of November. Based on that capital structure, we will be $75 million equity investor and our partner Garrison Investment Group will be $75 million assuming the sales close and the mortgage financing closes all at the same time and while we think we are going to accomplish this in November and that’s our goal and our expectation, obviously, again, it’s a very large complicated transaction that could slip, that could not happen.

There are all sorts of things that can happen, but that – certainly our expectation is we’ll be able to accomplish that this month. As I said, that is no small amount of work to get all of those moving parts pulled together. It will be better than an 8.5% cap rate. Our expected borrowing costs will be less than 4.5%, that’s over 400 basis point spread with primarily Bank of America Credit which puts us into the low mid-teens on an equity return. Obviously that’s a very attractive equity return in this marketplace. One, frankly, that will be hard to match in future investments, but we will come close with that. But we are very, very happy about that.

One footnote on the KBS loan, the $19 million loan, if paid off by November 30, as we expect that will result in roughly 15% IRR for us on the loan as well as the very attractive portfolio purchase that I just described. I think it is a tremendous deal for us. I would say it’s as good a deal as I think anyone will do it this year at any company. I think it’s just – I think it’s that good a deal. So we are very, very happy with that. Again, assuming it all comes together and closes as we planned and that’s no small assumption, so I do want a caveat that.

We talked in the past about our pipeline. We have been mining that pipeline. We’ve moved a couple of transactions along. We had described those in the press release. The first one is a two-property transaction in Indianapolis. And I think, again, in context, we are still finishing our due diligence.

We have a contract. It may or may not happen, but it’s indicative of the types of things that we’re looking at and we hope to invest in. In this particular case, it is slightly over $27 million purchase price, a 10 year average lease term. Cap rate on a GAAP basis is 8.4%. We expect the borrowing rate between 3% and 4%. Again, a very large delta between the asset yield and our borrowing rate and so we are very pleased with the types of returns we are seeing on the assets we are targeting.

We also announced a letter of intent on an industrial portfolio. We expect that to be at a better than and 8.5% cap rate. Again, we are very pleased with the types of returns we’re seeing in the market. And overall on a historical basis these 350, 400, 450 spreads on the asset over are borrowing rate, those are historically very attractive rates, somewhat better than we expected coming into Gramercy. And so we are seeing – while cap rates are in absolute terms low, so are powering rates and the resulting spread is providing very high cash yields on the types of opportunities that we are looking for.

In addition to that, one area that we’ve talked about that we think presents a major opportunity for Gramercy and one that is, I think, a competitive advantage of ours and that’s the opportunity to purchase a large, privately held portfolio of assets that is seeking liquidity, either in cash and/or stock. There are large pools of portfolios of assets that are looking for liquidity.

The IPO market is not very good for REITs now. It’s quite difficult. There have been two in a similar space to ours, not exactly the same; Retail Properties of America and Spirit Finance, both of which priced well below the range and were really almost forced IPOs. And so I think what we’re – the opportunity we hope to capitalize on is one where we are extremely well positioned to help by, again, either for cash or stock or OP units, or a combination, a large privately held portfolio.

And the reason we’re well-positioned is, as we cleanup these legacy issues, we’ll have a good balance sheet, lots of liquidity, no recourse debt, a good debt-to-capital ratio, a recognized management team in our business. We have an OP set up place so we can issue OP units, or cash or both. And I think we are – if I look at the net lease landscape, we’re in a particularly good position to – as we enter 2013 and we cleanup our legacy issues to be able to take advantage of what continues to be a difficult IPO environment for portfolios of properties and this will be a major focus for us as we go into 2013.

Now those obviously are – they don’t grow on trees. They’re very specific. They’re not easy to pull off, but that will be a major focus for us as we enter 2013. In terms of the net lease landscape, what we’re finding is retail property is particularly competitive. There are a number of very large well-capitalized public companies focused on net lease retail properties. You have realty income, national retail properties et cetera, as well as a number of large non-traded REITs that are focused on that area. We see more opportunity in industrial and office.

We’re targeting the 50 major markets in the United States, average lease term is greater than 10 years. We plan to use 50% leverage overall. Some deals might be slightly more, some deals might be slightly less, but one-to-one leverage which we think is conservative in the right number and that can – then that should produce returns on equity in the low to mid-teens. And I have to say, again, we’re very happy with the opportunity set that we’re seeing today on the investment pipeline.

As I said earlier, Q4 in my mind is going to be a watershed quarter in the transformation of Gramercy into what we are driving it toward, which is a leading net lease company with a focus on industrial and office properties. We see a tremendous market opportunity in the space that we’re focused on. We’re making great progress in terms of cleaning up legacy issues, transforming the company into a pure play net lease company.

I think it’s very instructive, just to flip through our 10-Q and look at the complexity and the amount of time and resources dedicated to the CDO accounting and description of that accounting in the mark-to-market and all the rest that goes along with that business.

The net lease business is a simpler business, it’s not an easy business, but it’s a simpler business. And as we’re able to make progress, simplifying our business, we’ll see a number of benefits to it including a much more streamlined MG&A, a much more understandable series of financial statements and we’re making terrific progress on that front.

I’m very confident in the business plan we have. Our net lease companies are trading at near all-time high multiples, as we transform ourselves into a leading net lease company. I believe that we’ll benefit on a relative basis from that that. But we’ve got to clean up what we’re doing. We’ve got to invest the money, lower cost and simplify the story and again we’re making terrific progress.

I would also caution, it takes time. It doesn’t happen overnight. We’re working very hard to make those things happen, but they are taking time and because it takes time it doesn’t happen overnight, as you see in the press release or as I would say, we’re going to continue to not – to keep the dividends off for the time being while we make progress on the areas that I’ve discussed.

I’d also like to note that it’s been a very strange couple of weeks with Sandy and yesterday’s storm in New York. A trying couple of weeks for the team at Gramercy, especially those in the New York office and the Pennsylvania office in Jenkintown.

I would like to thank the Gramercy employees for their dedication and fighting through the very difficult conditions to get to the office, whether it was five-hour driving commutes or all sorts of other things I won’t bore you with. But people showed a lot of dedication and hard work to get through the last couple of weeks and it’s very proud to be part of the team, very proud for me to be part of that team. And then obviously our thoughts are with those that have had substantial loss of either property and/or god forbid, life.

In closing, I want to thank our investor’s for their support and patience. Your patience will be well rewarded. I’ve no doubt about that. We’re running very, very hard for our shareholders right now. One of my colleagues mentioned that for 2.5 month period, while during the height of the BOA work he went two and a half months without a personal dinner with his wife or friends. And so, we have people very dedicated working, extremely hard on behalf of the shareholders.

We’re very focused on creating value. We’re making terrific progress in doing that and I am absolutely certain it will be recognized by the market. I don’t think it’s being recognized very well by the market today and that’s part of our job to get the market to recognize it better. Jon Clark and I will be at NAREIT next week and we are very excited to be able to tell her story.

On behalf of all of us at Gramercy, I want to thank you for your support and patience and I’ll turn it over to Jon Clark to discuss the third quarter results in detail.

Jon Clark

Thanks, Gordon. This morning we reported FFO of $1.3 million for the third quarter or $0.03 per fully diluted common share, an increase of $19.9 million from the negative $18.6 million of FFO reported in the prior quarter or negative $0.37 per fully diluted common share.

The increase in FFO for the quarter was primarily attributable to the reversals $16.4 million of provision for loan losses during the quarter which were partially offset by a $5.4 million litigation reserve related to our Gramercy Finance segment. So we also reported GAAP net loss to common stockholders of $4.7 million or $0.09 period diluted common share for the third quarter as compared to GAAP net loss per common shareholders’ of $21.5 million or $0.42 per diluted common share for the prior quarter.

So just like last quarter, I’d like to walk through our balance sheet by our business segments starting with our liquidity position.

As Gordon said earlier, our balance sheet and our GAAP financial statements have always been complex due to the accounting consolidation rules particularly with respect to our CDOs and since Gordo referred to the 10-Q it seems like footnote 3 of our 10-Q, which talks about are CDO investments, seems increase by a page every single quarter. We have provided in our press release a summary statement that presents our balance sheet by business unit, which you might find helpful, gaining a better understanding of our business.

So next quarter our discussions will be substantially different as these new net lease investments are expected to close during the fourth-quarter being to have a contribution to our financial statements.

So on to liquidity, we ended the third quarter of 2012 with unrestricted cash of approximately $175.2 million as compared to $192.6 million of liquidity reported in the prior quarter. Simultaneous with the announcement of the purchase agreement for the Bank of America portfolio. We have funded as co-lender in mezzanine loans to affiliates of KBS, that mezzanine loan origination accounted for substantially all of the decrease in unrestricted cash for the quarter.

That loan will be deemed matured upon the completion of the purchase of the Bank of America portfolio and any outstanding loan balance will be applied as a credit against the purchase price at closing. So both our realty management and our CDO management business contributed positive cash flow for the quarter partially offsetting the KBS mezz loan which had origination was approximately $19.6 million.

So, in addition to cash, we hold CDO securities that are available for re-issuance and these bonds had a fair value of approximately $36.2 million as of September 30 and $32.9 million after principal repayments received in connection with the October 2012 distribution date came in.

These bonds could be sold in the market exchange to further increase our cash balance, but in the meantime we received interest income and principal where applicable on these bonds and compliance with over-collateralization test does not affect the payment on these senior most outstanding bonds.

On our consolidated statement of operations is interest income that we receive is eliminated in the consolidation and like other transactions between our business units, it appears more like a transfer of cash from restricted cash in our CDOs to unrestricted cash rather than appearing as a true revenue stream that it really is.

One additional source of liquidity is the amount that we have and are owed of approximately $10.2 million from our CDOs for loan enforcement costs and servicing advances. So our liquidity position provides a good base for the company’s new business strategy. Our liquidity position provides us with good flexibility to make purchases of net lease investments quickly for cash and then seek financing arrangements on acceptable terms after closing, when we need to in order to partially replenish our liquidity position.

So next let’s cover our Finance segment. We manage a portfolio of approximately $1.8 billion of loans and other lending investments and commercial mortgage backed securities or CMBS, which are primarily financed through three non-recourse collateralized debt obligations or CDOs.

This currently comprises a substantial portion of our assets and liabilities on our balance sheet. In addition, our Finance segment also owns seven interests in real estate acquired through foreclosure or REO, all but two of which are within our CDOs.

Substantially all of these loans and other lending investments in REO, except for the KBS mezz loan, serve as the collateral for the non-recourse CDO liabilities. And the income or principal generated from these investments is used to fund interest in principal obligations of the CDO securities.

We also serve as the collateral manager of these CDOs and received fees from our CDOs for performing these services. These are our senior collateral management fees, subordinate fees and servicing fees. These fees and distributions do not appear on our statement of operations as revenue due to the accounting consolidation, which eliminates the revenue received by our collateral management subsidiary and the corresponding expense paid by our CDOs.

On the balance sheet, these fees and distributions are really only reflected as a transfer of cash again between restricted cash in our CDOs and unrestricted cash back at corporate. Historically, a substantial portion of our company’s cash flows has been generated by distributions from CDOs within the Gramercy Finance division, with the remaining income from the CDOs after principal and interest payments are satisfied which were paid to the company. So our CDOs contain minimum interest coverage and asset overcollateralization covenants that must be satisfied for the company to receive cash flow and to receive the subordinate collateral management fees.

During periods when these covenants are not satisfied for a particular CDO, certain cash flows from that CDO that would otherwise be paid to the company are diverted from the company to repay principal and interest on the senior most outstanding CDO bonds. We do continue to receive senior collateral management fees and servicing fees when our overcollateralization tests are not met.

As of October 2012, the most recent distribution date, our 2005 and 2006 CDOs failed their asset overcollateralization test. This is the first time that our 2006 CDOs has failed its overcollateralization test at the distribution date.

The company’s 2005 CDO failed its overcollateralization test in July 2012 and had previously failed its overcollateralization test at the October, April and January 2011 distribution dates. The company’s 2007 CDOs has failed its overcollateralization test beginning with the November 2009 distribution date.

We believe it’s unlikely to that the company’s 2005, 2006 and 2007 CDO overcollateralization test will be satisfied in the foreseeable future. Due to the extent of the failure of the overcollateralization test and really the lack of events occurring within the CDO before the next distribution date that could positively affect overcollateralization.

To date in 2012, our CDOs have paid cash flow to us of approximately $39.1 million.

However, with the failure of the overlateralization test now for all three CDOs, the cash flow we received quarterly has decreased and will continue to decrease substantially.

In the third quarter with our 2006 cash flow satisfying its overcollateralization test, cash flow to the company from the CDOs was approximately $9.7 million. For the fourth quarter, with all three CDOs failing their overcollateralization tests, cash flow from the CDOs is expected to be less than $1 million.

Regarding credit quality within our CDOs, we recorded a reversal of loan loss provisions in the third quarter of $16.4 million as compared to a net $6 million in loan losses recorded in the previous quarter. The reversals recorded in the third quarter were attributable to two first mortgage loans and an underlying improvement of the specific performance of the collateral securing those loans.

I think it’s important to note that the accounting for these loans on our financial statements is not directly correlated to the calculations of overcollateralization tests. And in particular, the reversal of these loan losses of these two mortgages had no effect on the overcollateralization test of our CDOs.

Our reserve for loan losses as of September 30 was $79.2 million, which relate to eight separate loans, the net carrying value of the loans with reserves as of September 30 was $238.4 million.

At September 30, we have one non-performing loan with a carrying value of $51.4 million, net of reserves of $17.5 million. Subsequent to quarter end, we foreclosed on the collateral for this mortgage loan.

We defined sub-performing loans as loans that are not yet performing in material accordance with their terms, but they do not yet qualify as non-performing loans. The specific circumstances of these loans may cause them to develop into non-performing loans within the next 90 days.

At September 30, three loans and other lending investments with an aggregate carrying value of approximately $26.3 million, net of reserves of approximately $32 million were classified as sub-performing. Overall, the credit quality of the loans and other lending investments continue to improve from 2011 and 2010 levels, and the corresponding provision for loan losses have declined. We do not expect, however, the reversals of loan losses to continue at the rate noted during the third quarter of 2012.

Credit quality with respect to our CMBS continues to decline particularly with respect to 2007 vintage CMBS owned within our 2007 CDO. During the quarter, we recorded impairment charges of $15.4 million related to nine CMBS investments with an aggregate carrying value of approximately $77.5 million.

Interest expense on our consolidated statement of operations is entirely attributable to our CDO liabilities. For the third quarter of 2012, interest expense was approximately $19.7 million, down slightly from the $20.2 million incurred in the prior quarter.

So in addition to our Finance business segment, we also have a realty management and investment business. We own a portfolio of 44 buildings with a carrying value of approximately $28.6 million. This portfolio is cash flow negative and we continue to work towards reducing the drag by primarily looking for opportunities to dispose of those properties that offer little opportunity for substantive improvement in net cash flow.

This portfolio is encumbered by a first mortgage of approximately $27.2 million with our consolidated CDOs as lender. The most substantive and important part of our Realty business today is our asset management arrangement with KBS, which positively contributes to cash flow.

We manage approximately $1.9 billion of real estate, which is primarily comprised of 514 bank branches and 273 office buildings. This managed portfolio aggregates approximately 21 – 20.1 million square feet.

We earn management fees, administrative fees and asset management fees, which are recorded on our operating statement, and during the quarters, the fees aggregated approximately $8.8 million. The management fees and administrative fees are essentially designed to be a recovery of cost incurred, while the asset management fee is profitable to us.

Associated operating costs excluding tax expense for the owned and management portfolio aggregates approximately $6.3 million.

On our operating statement, property operating expenses aggregate approximately $13.6 million and the difference is attributable to costs related to REO owned by the Finance segment and specifically our CDOs, not the assets in the company’s Realty division. Of the expenses, approximately $3.7 million was related to non-cash impairments related to REOs.

For the third quarter of 2012, management, general and administrative expenses was approximately $17.1 million as compared to $11.9 million in the prior quarter. The increase was primarily attributable to $5.4 million reserve for estimated litigation contingencies. In addition, there was a one-time increase in salary and benefit expenses of about $1.3 million, which included payments to former executives pursuant to the expiration of their employment contracts and the payment of signing bonuses for a new management team, effective July 1.

Finally, the remainder of the increase was attributable to approximately $1.9 million of protective advances related to loans and other lending instruments within our CDOs, and additional professional fees and other loan enforcement costs for the pending foreclosure of assets like the LVH Hotel and Casino by the company’s CDOs.

Loan enforcement costs for the assets financed in our CDOs are typically advanced by the company and then reimbursed as servicing advances once the loan is resolved. These costs and advances are expensed on our consolidated financial statements; however, they are repayable by our CDOs over time as matters with respect to the underlying investments are settled.

When repayment occurs, the repayment appears as a transfer of cash from restricted cash in our CDOs to unrestricted cash of corporate. Repayment of such advances to the CDOs does not appear as revenue nor does it appear as MG&A expense reductions in future periods.

Without these one-time items, which aggregated about $8.6 million during the quarter, our MG&A run rate for the quarter would have been $8.5 million, which is far higher than our goal communicated in our investor presentation in September of an MG&A below $20 million. However, I think it’s important to know our initiatives to reduce our cost structure have yet to occur and we expect this goal remains achievable in 2013. Gordon?

Gordon DuGan

Thanks very much, Jon. As I mentioned with the frustration of having a financial statement that I find very obtuse, even though it’s correct, is one that we’re trying to resolve through the sale of the CDO process and I just want to thank Jon and his team as well as E&Y our outside auditors for all their hard work in pulling these together.

In any event, let’s turn it over to questions from the group.

Question-and-Answer Session


Thank you. We will now begin the question-and-answer session. (Operator Instructions) Kevin Tracey from Oberon is on line. Please go ahead.

Kevin Tracey – Oberon

Hi. Thanks for taking my questions. I guess first of all, I think in the operational review call, you said – you made a comment that you didn’t think the cash proceeds from the sales of your CDO interest would be very meaningful. But I guess, the comments today there being a lot of demand or a lot of interest in those assets as well as you made a comment that you think investors will be pleased, I guess, is that – has your view changed since your comment since your operational review call?

Gordon DuGan

Yeah, I’d say my view has changed. I think that based on the interest we’re getting as well as some remodeling that we’ve done of those cash flows, I think I was probably too guarded about that before and we do – that does reflect a change of view. I think that they’re very, very difficult instruments to value. As I’m sure all investors are fully aware, but yeah, it does reflect a more optimistic view on the value of that business.

Kevin Tracey – Oberon

Okay, great. Thanks. And then, I guess, I think originally on the second quarter call you made a comment that, I guess, you estimated that it would take 12 to 15 months to, I guess, fully invest Gramercy’s capital. And I think you said on the operational review call that that timeline was accelerated as a result of the Bank of America deal. I guess, given the feel in Indiana and as well as the potential for, as you said, to provide liquidity to some big private portfolio, has that – I guess, could you comment on that timeline as it stands now?

Gordon DuGan

Yeah, I would say probably in the tone and what I said in this call, there should be a view that we’re making more progress on that front than originally we stated. So 12 to 15 months, I think, I said in the operational review, we’re doing better than that and I would continue to say we’re doing better than that. We – it’s always subject to actually – everything coming together which having done this for 25 years, I’m always amazed at how hard it is for everything to come together. But, yeah, we’re doing – we’re making better progress than I expected when we started and better returns on the capital as well. So on all those fronts, I’m very pleased with the progress we’re making.

Kevin Tracey – Oberon

Okay, okay. And then lastly, I guess, just to clarify the $10.2 million that are owed from CDOs, does that show up on the balance sheet anywhere or not?

Jon Clark

No, that actually does not show up on the balance sheet at all, again, because of the CDO consolidation. It’s a payable by one subsidiary and receivable by another, so it gets eliminated.

Gordon DuGan

Yeah. So, as Jon said, when I – my hope – my comment about the frustration of just the way in which these VIEs are accounted for, for GAAP purposes, it’s absolutely correct. But when we make an advance it shows up as MG&A. Then when we actually get the money back, it doesn’t flow through the income statement and it never shows up on the balance sheet as a receivable from the CDOs, although as a businessperson that’s exactly what it is. It’s just a receivable from the CDOs. But the correct GAAP accounting is to consolidate the VIEs or CDOs. And so it leads to these types of things that are a driver for why we believe – why we’re – why we believe the sale of the CDO business is in the best interest of shareholders.

Kevin Tracey – Oberon

Right, right. Okay. Well, thank you.

Gordon DuGan

Thanks very much.


(Operator Instructions) The next question comes from Mathew Dodson from Edmunds White. Please go ahead.

Matthew Dodson – Edmunds White

Can you just talk a little bit about kind of bigger picture of how you would think about, potentially after you get the money invested when you would start to pay a dividend? Most REITs are kind of valued off of a yield basis and I’m just curious to kind of think about how you guys are thinking about that progression? And I mean, is that sometime in 2014? Can you just give us some kind of guidance there?

Gordon DuGan

Yeah, I would say we can’t give a particular guidance in terms of a date, but I can tell you how we think about it and we think about it in a couple of different ways. First of all, the intent and the plan is to be a dividend paying company, both on a preferred and a common basis and we are making substantial progress to that goal.

Secondly, dividends are paid out of recurring cash flows not out of cash on the balance sheet. And so to get to that goal, we have, as I said, this very simple plan of – simply said, but it takes a lot of work of cleaning up legacy issues, reducing G&A, getting the cash invested and my expectation would be that at the time we get near substantially or fully invested, that’s a time when the board would look at where do we sit from a dividend standpoint, assuming we’ve made progress on these other fronts of cleaning up the legacy issues. And it may be – then it may be later but that would be the time at which it becomes a particular moment for the board to start to think through the best time for that.

We also have a REIT test that we have to comply with. We will be in compliance this year without a dividend, but there is a REIT test that we have to comply with. So that is a variable that we’ll have to – we have that modeled, but that changes over time. So REITs are set up to pay dividends and our business plan is set up to pay a dividend. So we’ve – it’s a – we’re marching toward a – it’s a when not if and that having been said, we’ve got to make substantial progress with the business plan and we’re making that progress, but it will take some time. I think when we’re substantially or fully invested would be a time to really have a more granular view of, is it then or is it later and why and are we in compliance with the REIT test.

Matthew Dodson – Edmunds White

Thank you.

Gordon DuGan

Thank you, Matthew.


(Operator Instructions)

Gordon DuGan

I think there –


There are no additional questions at this time. Please go ahead with any final remarks.

Gordon DuGan

Again, thank you all for joining either live today or in replay. Jon and I are available. Please reach out to us if you have additional questions. We are happy to share with you everything we can share in our public filings and look forward to your additional questions. If anyone is going to be at NAREIT and we’re not on your schedule, please reach out to us, we’d love to meet with you next week in San Diego.

Thanks so much, and thank you for joining us today.


Thank you for participating in the Gramercy Capital Corporation third quarter 2012 financial results conference call. This concludes the conference for today. You may all disconnect at this time.

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