ACRES Commercial Realty Corp.

Ladies and gentlemen, and welcome to the Q2 2019 Exantus Capital Corp Earnings Conference call. At this time, all participants are on a listen-only mode. Later, we will conduct a question-and-answer session, and instructions will follow at that time. If anyone should require assistance during the conference, please press star then zero on your touch-tone telephone. As a reminder, this conference is being recorded. I will now introduce your host for today's conference, Steve Weingraber, Senior Vice President for Corporate Finance. Sir, you may begin.

Good morning, and thank you for joining the call. Before we begin, 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. When used in this conference call, the words believes, anticipates, expects, and similar expressions are intended to identify forward-looking statements. While the company believes these forward-looking statements are based on reasonable assumptions, such statements are based on management's current expectations and beliefs and are subject to a number of trends, risks, and uncertainties that could cause actual results to differ materially from those contained in the forward-looking statements. These risks and uncertainties are discussed in the company's reports filed with the SEC, including its reports on Forms 8K, 10Q, and 10-K, and in particular, the risk factor section of our form 10-K. Listeners are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date hereof. The company undertakes no obligation to update any of these forward-looking statements. Furthermore, 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 to 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 are contained in our earnings release for the past quarter. I will now turn it over to Chairman of Exantus Capital Corp., Andrew Farkas, for opening remarks.

Good morning, all. Thanks for joining the call. With me today are Bob Lieber, our CEO, Matt Stern, our President, Dave Bryant, our CFO, Paul Hewson, Head of Commercial Real Estate Lending, and from whom you just heard, Steve Landgraber, Senior Vice President of Corporate Finance. So this was one of our most productive quarters with growing deployment numbers, the completion of a portfolio acquisition, and the closing of the most recent CLO. These achievements demonstrate our commitment to our business plan and inform all of our expectations of an increase in our quarterly dividends for the third quarter of 2019 to 25 cents. for an 11% increase over the second quarter of 2019. This allows us to continue to march forward consistent with the plans we've articulated over the course of the last year or so. With that, I'll turn it over to Bob. Bob Lieber, our CEO. Bob.

Thank you, Andrew, and good morning, everybody. We're going to dig into a little more of the details about what Andrew described here, but for the second quarter of 2019, we're reporting core earnings of $0.28 per share. which is up from core earnings of 25 cents per share last quarter and 20 cents per share during the second quarter of 2018. Gross commercial real estate investment was $476.1 million for the second quarter of 2019. This includes a loan portfolio acquisition made during the quarter with a committed balance of $210.8 million. We're pleased with the combination of our originations and loan portfolio acquisition generated substantial net deployment during the quarter. moving us closer to our end of year full deployment goal that we've articulated previously. Matt will provide more details on that shortly. Net deployment was $286.1 million, which compares to net deployment of $113 million during the second quarter of 2018. During the quarter, we grew our commercial real estate loan portfolio to almost $2 billion at $1.96 billion, and our CMBS portfolio at par to $482 million. Net interest income during the second quarter improved to $15.5 million or $0.49 per share compared to $14.5 million or $0.46 per share during the first quarter of 2019. This net interest income was driven primarily by net deployment and will continue to improve next quarter as we receive the full benefit of our investment activity, including our portfolio acquisition, which closed roughly two-thirds of the way into the second quarter. We have ample liquidity of over $150 million to continue to accretively deploy capital and grow net interest income. This translates to roughly $350 to $400 million of future deployment capacity from our balance sheet. We believe the current economic environment and real estate market remains supportive of our previous guidance of $850 to $1 billion of commercial real estate debt deployment in 2019. Note this does not include the impact of the portfolio acquisition. The backup in rates in the second quarter supports our real estate activity and our borrow relationships allow us to continue to win deals in a competitive lending environment. Turning to book value for a moment, the gap book value per share remained constant from last quarter at $14.06 per share. Economic book value increased to $13.63 in the second quarter compared to $13.60 last quarter. Economic book value has continued to remain within a relatively tight range of $13.54 and $13.72 over the past four quarters. We reported net income of $6.3 million or $0.20 per share compared to $5.5 million or $0.18 per share during the first quarter. And again, core earnings once again have covered our quarterly dividend. With that, I'd like to turn the call over to Matt Cern for more details. Matt?

Thank you, Bob, and good morning, everyone. At June 30, 2019, our commercial real estate loan portfolio balance has increased to $1.96 billion. During the quarter, we originated 16 commercial real estate loans and one preferred equity investment, totaling $252 million, and acquired 28 loans, totaling $211 million. The 16 senior floating rate loans that we originated have an average commitment of $15.2 million, with a weighted average spread of 318 basis points over 30-day LIBOR. We also made one preferred equity commitment of $8.7 million, with a fixed rate coupon of 11%. The 28 floating rate loans we acquired have an average spread of 406 basis points over 30-day LIBOR. The weighted average unlevered yield of new loans originated and acquired increased by 20 basis points to 6.07% during the second quarter, compared to 5.87% during the second quarter of 2018. Total CRE loan asset financing was $1.4 billion at quarter end, with a weighted average spread of 1.54%, compared to a spread of 1.66% during the second quarter of 2018. Our CRE loan portfolio grew by $285.3 million during the second quarter, as new loan originations and acquisitions exceeded payoffs and paydowns. Our portfolio diversification evolved slightly during the quarter, largely due to the aforementioned loan portfolio acquisition. Consistent with our comments last quarter, we expect our diversification to increase as we progress toward full deployment. Multifamily loans now account for 57.6% of our portfolio. Our next highest allocation is to office at 13.5%, followed by an 11.3% allocation to hotels. Finally, we want to make you aware that our loan portfolio is not impacted by any of the recent rent regulation legislation passed in New York State. Before turning to CMBS, I would like to discuss the portfolio acquisition from C3 Commercial Mortgage. On May 29, 2019, Exantus acquired 28 loans with a committed balance of $211 million. Along with the $252 million of originations this quarter, this portfolio acquisition was a meaningful contributor to our strong net deployment in the second quarter. C3 made the decision to exit its mortgage business and to divest its loan portfolio. This presented a portfolio acquisition opportunity for Exantus. and the resulting transaction was a meaningful deployment of capital into a diverse pool of loans at above-market spreads. We are very happy with this transaction for Exantus as it supports our objective of achieving full deployment. Turning now to our CMBS portfolio. During the second quarter, we acquired $13.2 million in face amount of CMBS bonds. partially offset by $12.4 million in sales and paydowns for net acquisitions of $800,000 at a weighted average coupon rate of 5.84%. At June 30, 2019, our $482 million CMBS portfolio at par, which has a carrying value of $446 million, was comprised of $322 million of floating rate bonds and $124 million of fixed rate bonds. This quarter, we recognized a net increase of two cents to book value from our CMBS portfolio, including the impact of mark-to-market on our interest rate swaps. As a reminder, our $2.4 billion CRE debt portfolio is 94% floating rate. Net investment production of $286.1 million for the quarter represents an approximately 13.5% increase from the first quarter. This quarter, we achieved core earnings at the low end of the range provided in our investor presentation's illustrative earnings profile. And as Bob highlighted, our current liquidity will allow us to still deploy between $350 and $400 million of incremental capital, supporting the core earnings outlook outlined in our investor deck. We are also pleased to announce our expectation of a sixth consecutive increase in our quarterly dividend for the third quarter of 2019 to $0.25 per share, or an 11% increase over the second quarter of 2019. With that, I'd like to turn it over to Dave Bryant to discuss our financials.

Dave Bryant Thank you, Matt, and good morning. Our GAAP net income allocable to common shares for the three months ended June 30, 2019, was $6.3 million. or 20 cents per share and was 11.8 million or 38 cents per share for the six months ended June 30th. Core earnings were 8.8 million or 28 cents per common share for Q2 2019 and 16.7 million or 53 cents per common share for the six-month period ended June 30th. Here to date, we've paid out common share dividends of 42.5 cents. The growth in our core earnings is being driven primarily by our net investment production. Accordingly, we saw net interest income increase by $1 million, or 7%, as compared to the first quarter of 2019, and by $2.1 million, or 15%, over the second quarter of 2018. The following material adjustments were made to net income to arrive at second quarter core earnings. First, a $1.3 million or $0.04 per share add back for evaluation adjustment on a loan included in the strategic plan, which I will cover in more detail. Second, a $700,000 or $0.02 per share add back for the non-cash amortization of discounts associated with our convertible note borrowings. Third, a $400,000 or approximately $0.01 per share add back for non-cash equity compensation And fourth, the $200,000 or approximately $0.01 per share add back for the non-cash increase to our general loan loss reserve. The balance of the 2Q adjustments net to a deduction of $47,000 and, of course, are listed in Schedule 1 of our earnings release. Furthermore, the $0.28 of core earnings per 2Q comfortably covers our $0.225 dividend paid. One of the remaining loans in our strategic plan has the underlying property completing some necessary repairs to enhance the value before it is marketed and sold. While the repairs are underway, the in-place receiver solicited several brokers' opinions of value as a prelude to marketing the asset. The result of taking these new brokers' opinions and our existing appraisal into account is an additional reserve of $750,000. Additionally, we have estimated $550,000 in closing costs and related fees, which coupled with the revised evaluation total the $1.3 million of additional reserve we've taken this quarter. GAAP net income adjusted for this reserve would have been $0.24 per common share. GAAP value remained flat from March 31st at $1,406 per common share and represents a 4 cent increase from December 31st of last year. We began reporting economic book value in non-GAAP metric at December 31st, 2018, in an effort to improve transparency for our shareholders and the analyst community. GAAP book value per share of 14.06 less the adjustments for unamortized discounts on our convertible notes and redemption value of our preferred stock which totaled $0.43 per share, yields an economic book value of $13.63 per share at June 30th. As a point of comparison, the economic book value at December 31st, 2017 was $13.63 per share, and this clearly reflects our book value stability. Our gap debt-to-equity ratio rose to 3.5 times at June 30th, up from 2.9 times at March 31st. Asset-specific debt rose by $314 million during the quarter, primarily due to the portfolio acquisition from C3 Commercial Mortgage and incremental leverage from the issuance of our newest CLO, Exanus Capital Corp. 2019-RSO7. Stockholders' equity remained flat as gap earnings were slightly above our dividend, below our dividend, I'm sorry, and we're offset by an improvement in our CNBS bond prices, which is reflected in other comprehensive income. As Matt discussed, we had strong net CRE loan production during the second quarter of 2019, and we also acquired 13.2 million of CNBS bonds, comprising 7.2 million of fixed rate bonds at a spread of 362 over swaps, and 6 million of floating rate bonds at a spread of LIBOR plus 220. Loan payoffs and paydowns were 153.6 million with a spread of LIBOR plus 4.44%, and these loans had an average life of 25 months. Our positive net loan production includes the loan portfolio acquisition from C3 Commercial Mortgage at the end of May And, of course, we will see the full benefit from that acquisition to our run rate earnings profile in the third quarter of 2019. After the quarter, we redeemed our 2017 CRE-5 CLO after a 24-month lifespan. We had recently seen our CLO's lifespan average approximately 36 months, but as the floating rate loan market was impacted by the reduction in loan spreads, over the last couple of years, borrowers took advantage of the favorable terms and refinanced out of their loans once their minimum interest periods expired. Looking ahead, we expect to redeem the remaining $21 million of 8% convertible notes when they mature in January 2020. Lastly, I want to reiterate that all of our loans have LIBOR floors. In a lower interest rate environment, LIBOR floors do provide some asset yield protection, but investment returns would also be enhanced by a decline in the corresponding costs of our liabilities. Since the start of 2018, we have originated or acquired 1.5 billion of CRE loans with a weighted average LIBOR floor of 2.04%, and these loans are largely still under their minimum interest period protections. With that, I'll turn the call back to Bob for final comments.

Thank you, Dave. And as Andrew said, this has been one of our most productive quarters, and you can see our long-term operating strategy remains on track. We continue to grow our portfolio and strategically deploy capital, keeping us on track to reach full deployment at the end of 2019. We acquired a high-quality portfolio of loans, which are accretive to core earnings. Economic book value increased from last quarter. and we will be recommending to our board that we raise our dividend to 25 cents for the third quarter of 2019. Based on our progress, we remain optimistic and look forward to updating you further on our next call. With that, I'd like to ask the operator to open up the call to any questions.

Thank you. If you would like to ask a question during this time, simply press star, then the number one on your touchtone phone. Once again, that is star one. Your first question is from Steve Delaney with J&P Securities.

Good morning, everyone, and congratulations on your continued progress. Obviously, it looks like the strength in earnings was attributed to the heavy deployment. I think Matt mentioned a figure of $476 million from all the investment categories. But we also noted we were looking very closely at repayments because of how competitive things are, and it seems like there's a lot of bridge-to-bridge type of activity going on. So we saw $137 million in the, I guess I'll call it the originated portfolio, about 8% on the quarter, which obviously lower prepayments helps as well. So I'm curious if looking at the portfolio now, and we should consider it one combined portfolio, I guess, with the portfolio, but can you give us some color on what you see as your repayment outlook for the second half of this year?

Thanks, Steve. Paul, do you want to?

I think, as you mentioned, with spreads having compressed and with liveware having compressed, as Dave mentioned, our loan is having floors. We expect that there will be prepayments in the second half. As we have loans that come closer to the completion of the fruition of our loans, business plans. There are very few of our loans that have gone bridge to bridge. Most of the prepayments that we've experienced are assets where the business plan has been completed and the asset is either refinanced by putting a permanent capital structure in place or sold. I think the near-term prepayments that we're looking at generally fall into those categories.

Okay, that's helpful. But it would seem like conditions in the market that I'm just, from our standpoint as analysts and how we're trying to, you know, you have 350 to 400, but you say of capacity, I'm just trying to kind of balance, you know, should we assume that that capital could likely be deployed by the end of the year, or will we be fighting...

repayments that may make it impractical to to get another 350 or 400 million deployed on a net basis I think in general we've guided that it would be our expectation as we as we pursue our aggregate capital deployment as we've guided the street thief that the inclusive of net of payoffs we would expect to approach that level around year-end this year obviously it's very difficult to predict exactly when payoffs will occur. But in general, I think it was our expectation relative to last year that that activity would slow down a little bit. And what I mean is by payoffs. And as a result, we do think, as you saw last quarter, I think it was about $113 million. This quarter, it was quite a bit higher. But even excluding the portfolio acquisition, it was about $100 million of net deployment. We would expect to continue to see that trend play out and that our net deployment would continue to rise.

The C3 loans also are seasoned and they have different type of call protection. So the amount of call protection remaining on the C3 loans is minimal. So what will drive the refinancing decisions mostly in those cases is how far along they are on getting to a place where they could put their longer-term capital structure in place. Because if you're moving toward that structure, the frictional cost of refinancing again for a floater and then to go to a fixed is pretty significant unless your plan has stalled.

Got it. Okay. And Matt, you mentioned that C3 itself is out of the lending business. Were you referring just to senior floating rate loans, similar to what the REIT does? Because I would assume that C3 is still doing conduit lending. So if you could clarify that, that would be helpful.

C3 is still doing conduit lending, and that maybe was a little bit confusing in the text. But The lending that could conceivably be deemed to be competitive to the rate, C3 has exited. So the floating rate business, C3 is no longer making floating rate loans of any strength. C3 is making fixed rate conduit loans.

Okay, great. I thought that was the case, but I just wanted to clarify that so we don't misrepresent it in our note. Well, thank you so much for the comments. That's all I have this morning. Appreciate it.

Thanks for your support, Steve.

Thanks, Steve. Got it.

Again, if you'd like to ask a question, simply press star, then the number one on your touchtone phone. Your next question is from Stephen Laws with Raymond James.

Hi, good morning. Morning. Morning. First, you know, you guys should be commended. I was looking back at your decks from one and two years ago, and you really, you guys have done a nice job of executing a strategic plan with reducing legacy assets and you know, net income, you know, return of 11%, core of over six. So it's been a nice job there. You know, following up on Steve's question, you know, it sounds like you guys expect full deployment end of year or close to that. You know, as we think about 2020 and potential growth from there, are there current assets that maybe weren't identified in the strategic plan that maybe you'll look to optimize? Do you think you'll see a pickup in repayments that will result in kind of a net flat portfolio size in 2020? Or do you think you'll be back in the market sometime in the first half of the year kind of thinking about options of growing the balance sheet and increasing the capital base?

I think we don't want to get too much into projections here when we talk about this going forward here. I think that we're optimistic about the momentum that we're going here. And we're constantly evaluating what our capital market choices might be. We haven't made any decisions about any of that here today. Our focus is on getting the continued deployment of the remaining availability that we have done and reported to our earnings and our dividends.

Okay, fair enough. And then I guess to bring things back much more near term, Dave, I think you commented in the in your remarks about, you know, we'll see an additional benefit in Q3 from the full quarter impact of the acquired portfolio, which was above market spreads. What day did that close or start contributing in Q2? So we can kind of think about that when we look at our model for what the full quarter impact might be.

Yeah, as Bob said, it was about two-thirds through the quarter, so right at the end of May. And so it was only one-third of an impact in this particular quarter. Great. That's helpful.

And then kind of bigger picture, Bob, when you think about, you know, you guys invest in the CRE debt, you've got the CMBS portfolio, you know, relative to each other, which do you find more attractive now? Clearly the portfolio acquisition was kind of a one-off, you know, investment. But, you know, as your normal course of business, how do you think about allocating capital between your different investment options?

We're looking at where we can find the best risk-adjusted returns in the real estate debt space, whether that be on the floating rate loans, whether that be in CMBS, or whether it be other kind of real estate credit investments. I think we've guided it around portfolio allocation, kind of 65% plus, which would be in our floating rate first mortgage business. And the balance will be made up by where we see the most attractive risk-adjusted returns to this.

Consistent with what Bob said. I think if you look at our investor presentation, we expect the loan portfolio to represent in the 65% to 75% range long-term. The balance of that today is in our bond portfolio. I think if you look at our portfolio today, it's closer to 80-20, but we continue to see opportunities in the bond side and look look for other opportunities to deploy capital. And it really does evolve just depending upon how the markets behave. Great.

And lastly, on the financing side for the CMBS securities, you know, can you talk about, you know, advance rates and the cost of that financing, what type of leverage you're able to put on the CMBS and, you know, maybe how that's changed and, you know, in your favor over the last year, if that's the case?

It certainly depends what type of bonds you're financing and what we're buying. We have a pretty, you know, a decent variety. Obviously, we have down the fairway conduit oriented CMBS that we buy, but there are other single asset, single borrower and agency oriented bonds that we buy. So it will depend. and obviously where it sits in the stack. But the financing against those bonds has remained attractive, consistent with what we're getting on repo on the loan side. And I would say, in general, leverage is about the same as we can see on the loan side in terms of our normal repo. But advance rates are, I'm sorry, the rate that we are charged is quite a bit lower on the bond side than you tend to see on the loan side.

Great. Well, thank you for taking my questions. And, again, nice job on the business developments over the last couple of years.

Great.

Thank you.

Thanks for your questions, Steve.

There are no further questions at this time. I would now like to turn it back to management for any closing remarks.

We want to thank you all for joining us for the second quarter earnings call, and we look forward to speaking again in a couple of months and updating you on our third quarter progress. Thank you all.

This concludes the Exantus Capital Q2 2019 earnings conference call. You may now disconnect.