Apollo Commercial Real Estate Finance, Inc. quarterly report, Q3 FY2020

Apollo Commercial Real Estate Finance, Inc. — Q3 2020 Form 10-Q

Reporting period: Quarter and nine months ended September 30, 2020. ARI is an externally managed REIT that originates, acquires and manages commercial real estate loans and related debt investments. Amounts below are in U.S. dollars unless stated otherwise.

Key financial metrics

Metric	Q3 2020 / September 30, 2020	Comparison
Net interest income	$68.6 million for the quarter; $214.0 million for nine months	Quarter: down from $85.2 million. Nine months: down from $253.0 million.
Net income (loss) available to common stockholders	$46.0 million, or $0.31 per diluted share, for the quarter; loss of $28.5 million, or $0.20 per diluted share, for nine months	Quarter: $25.7 million, or $0.16 per share. Nine months 2019: $143.1 million, or $0.97 per share.
Operating Earnings (non-GAAP)	$52.9 million, or $0.36 per share, for the quarter; $104.3 million, or $0.68 per share, for nine months	Quarter: $72.6 million, or $0.47 per share. Nine months 2019: $197.6 million, or $1.35 per share.
Cash and operating cash flow	$438.2 million cash at quarter-end; $113.0 million operating cash flow for nine months	Cash was $452.3 million at December 31, 2019; operating cash flow was $188.3 million for the comparable 2019 period.
Loan portfolio	$6.44 billion net carrying value across 70 loans; 95% floating-rate. Weighted-average cash coupon 5.6% and all-in yield 6.2%.	Net carrying value was $6.38 billion across 72 loans at December 31, 2019; cash coupon was 6.5%.
Credit allowances	$236.2 million against funded loans, plus $3.6 million for unfunded commitments	Funded allowance includes $196.9 million specific and $39.3 million general CECL allowance. General allowance was $30.9 million at CECL adoption.
Debt and equity	$4.51 billion total debt carrying value; $2.32 billion stockholders’ equity; debt-to-equity ratio 1.7	Debt carrying value was $4.13 billion and equity $2.63 billion at December 31, 2019; debt-to-equity ratio was 1.4.
Book value and dividends	$15.00 per common share; quarterly common dividend declared of $0.35 per share	Book value was $16.03 at December 31, 2019; the 2019 quarterly common dividend was $0.46 per share.

Material changes and unusual items

• Net interest income fell as lower LIBOR and a larger balance of loans on cost-recovery or non-accrual status weighed on income. Loans totaling $602.2 million were in those statuses at September 30, compared with $196.4 million a year earlier.
• Nine-month GAAP results included $152.0 million of net loan-loss provisions, compared with $20.0 million in the 2019 period. In Q3, ARI recorded a $6.3 million net reversal of loan-loss allowances, which management attributed partly to an improved macroeconomic outlook since the prior quarter.
• ARI terminated its interest-rate swap in Q2 and recorded a $53.9 million realized loss. It replaced the swap with a three-year interest-rate cap, limiting LIBOR on its $500 million term loan to 0.75% and the loan’s maximum all-in coupon to 3.50%.
• Foreign-currency translation and forward-contract movements were volatile: Q3 reported a $27.0 million translation gain and a $34.5 million loss on forwards. The combined net effect of currency translation and forwards was a $7.5 million loss for the quarter and a $24.6 million gain for nine months.
• ARI repurchased 10.8 million common shares during the first nine months for $91.8 million at a weighted-average $8.45 per share. Common shares outstanding declined from 153.5 million at year-end 2019 to 143.3 million at September 30, 2020.

Liquidity, outlook and risks

• Management said it believed liquidity and access to additional liquidity were sufficient to meet financial obligations for at least the next 12 months. The company reported $438 million of cash, $11.9 million of approved undrawn secured-debt capacity and approximately $1.0 billion of unencumbered loan assets.
• ARI reported $3.5 billion of asset-specific financings and approximately $1.1 billion of corporate debt. It had no corporate debt maturities until August 2022. Secured financing agreements include mark-to-market provisions: collateral-value declines may reduce available borrowing or trigger margin calls. Approximately 55% of secured borrowings were recourse to ARI.
• Unfunded loan commitments were $1.4 billion. Their amount and timing depend on construction, property performance and other borrower needs; the filing estimates funding over a weighted-average remaining tenor of 4.1 years.
• COVID-19 had adversely affected asset values, borrower operations, financial markets and ARI’s results. Management said the pandemic’s ultimate impact could not be estimated. Risks include further credit losses, reduced collateral values, margin calls, financing constraints and additional borrower requests for modifications. ARI reported borrower modifications involving reserves, temporary payment deferrals and payment-in-kind interest.
• Portfolio exposures included hotels at 24.4% and office properties at 28.3% of carrying value; New York City represented 37.0% and the United Kingdom 18.2%. Seven loans, or 6.3% of portfolio carrying value, had the highest risk rating. Loans on cost recovery had $408.7 million amortized cost at quarter-end.
• Management provided no specific earnings or dividend guidance. The board determines distributions; REIT status generally requires distribution of at least 90% of taxable income. The filing’s interest-rate sensitivity estimates that an immediate 50-basis-point increase would reduce following-12-month net interest income by $10.9 million, while a 50-basis-point decrease would increase it by $3.2 million.
• A lawsuit seeking up to $700 million in damages was dismissed in 2019; plaintiffs appealed, and briefing was complete as of September 2020. Management said it believed the claims were without merit and did not expect a material adverse financial-statement effect.

Most important facts for investors to verify

1. Whether credit performance, hotel and other property collateral values, and the $408.7 million cost-recovery portfolio improve or deteriorate, and whether further specific CECL provisions are required.
2. Whether cash, unencumbered assets and financing capacity remain adequate against margin calls, secured-debt maturities and $1.4 billion of unfunded loan commitments.
3. How recurring earnings and dividend coverage compare with GAAP results and management’s non-GAAP Operating Earnings, particularly given lower interest income and the reduced common dividend.
4. Whether the Barclays private securitization’s reduced daily margining exposure and other financing terms continue to provide the expected liquidity protection.
5. The outcome of the appeal in the disclosed litigation and any material developments in COVID-19 impacts, borrower modifications or subsequent loan activity.