Apollo Commercial Real Estate Finance, Inc. — Q3 2017 Form 10-Q
Reporting period: Three and nine months ended September 30, 2017. ARI is an externally managed commercial real estate debt REIT focused on first mortgages, subordinate loans and commercial mortgage-backed securities (CMBS). Unless noted otherwise, financial amounts below are in millions of dollars.
Financial performance and position
| Metric | Q3 or September 30, 2017 | Comparable period or prior balance |
|---|---|---|
| Net interest income | Q3: $71.2; nine months: $191.3 | Q3 2016: $53.3; nine months 2016: $147.0 |
| Net income | Q3: $68.4; nine months: $151.7 | Q3 2016: $69.9; nine months 2016: $98.8 |
| Net income available to common stockholders | Q3: $57.2; nine months: $121.9 | Q3 2016: $60.6; nine months 2016: $77.9 |
| GAAP diluted EPS | Q3: $0.54; nine months: $1.23 | Q3 2016: $0.83; nine months 2016: $1.11 |
| Operating Earnings, non-GAAP | Q3: $49.8, or $0.47/share; nine months: $133.0, or $1.34/share | Q3 2016: $32.7, or $0.45/share; nine months 2016: $96.0, or $1.38/share |
| Common dividend declared | $0.46/share for Q3 | $0.46/share for Q3 2016 |
| Loans held for investment, net | $3,558.6 | $2,693.1 at December 31, 2016 |
| Total assets / stockholders’ equity | $3,932.9 / $2,097.6 | $3,483.0 / $1,932.2 at December 31, 2016 |
| Cash and restricted cash | $140.3 | $263.5 at December 31, 2016 |
| Cash flow, nine months | Operating: +$113.5; investing: −$508.8; financing: +$272.1 | 2016: +$79.7; +$1,419.8; −$1,280.1, respectively |
Portfolio and returns: At quarter-end, the company held 56 loans with $3,579.2 of principal and $80.2 of unfunded commitments. The portfolio’s weighted-average cash coupon was 8.5% and weighted-average all-in yield was 9.5%. First mortgages represented $2,218.2 and subordinate loans $1,340.4. Manhattan collateral accounted for 35.0% of loan carrying value.
Debt and liquidity: Repurchase-agreement borrowings were $1,289.5 net of deferred financing costs ($1,278.6 on the balance sheet), versus $1,146.6 at year-end 2016. Convertible senior notes had a $471.9 carrying value, including $230.0 principal of new 4.75% notes due 2022; existing 5.50% notes are due 2019. Management stated liquidity and access to additional funding were sufficient for at least 12 months. The company reported compliance with borrowing covenants. It targets loan borrowings of approximately 35% of total loan portfolio value.
Changes versus comparable periods
- Q3 net interest income rose $17.9 year over year, primarily reflecting a larger loan portfolio and higher LIBOR, partly offset by increased interest expense and reduced securities holdings. Nine-month net interest income increased $44.2.
- Q3 net income declined $1.5 year over year, while common EPS fell from $0.83 to $0.54. The filing attributes the per-share comparison partly to a larger share count; Q3 2016 net income included a $40.0 bargain purchase gain from the AMTG merger. Nine-month net income increased, but 2016 also included that merger gain and different securities, currency and derivative valuation results.
- Loan investments increased substantially from year-end, while securities declined. The company raised approximately $248.9 net from a June 2017 common-stock offering and $224.8 net from the August 2022 convertible-note issuance. It redeemed all Series A preferred stock for $86.3 in August.
- Q3 results included a $13.5 unrealized securities gain, a $7.8 foreign-currency gain, a $7.5 derivative loss and a $4.1 realized asset-sale loss. For the first nine months, derivative losses were $17.9 and foreign-currency gains were $17.8.
Outlook, risks and notable items
- Outlook: Management cited commercial real estate debt maturities and market conditions as potential sources of attractive risk-adjusted investment opportunities, particularly in first-mortgage and mezzanine lending. The filing provides no numerical earnings or dividend guidance. The company intends to continue regular quarterly common dividends, subject to board discretion and results.
- Credit and valuation: A Bethesda, Maryland condominium loan was placed on cost-recovery accounting effective April 1; the company recorded a $1.981 loan-loss provision and $3.019 impairment on a related investment in Q2. Aggregate loan-loss provisions were $17.0 at quarter-end. The CMBS portfolio was classified Level III because of illiquidity and unobservable broker-quote inputs; its $191.9 fair value was based on quoted prices ranging from 63 to 101.
- Interest-rate sensitivity: The company estimated that a 100-basis-point LIBOR increase would raise quarterly net interest income by approximately $20.2, or $0.19 per share, based on $2,028.6 of net variable-rate exposure and assuming no changes to its financial structure.
- Liquidity and funding risks: Repurchase financing is collateralized and can be subject to margin calls. The company’s REIT distribution requirement limits retained capital. Management also identified credit losses, real estate values, prepayments, interest rates, financing availability and market liquidity as risks.
- Regulatory/legal: A shareholder lawsuit concerning the AMTG merger was dismissed with prejudice; the appeal period expired without an appeal. The company said it was cooperating with a Department of Justice request related to AMTG’s former residential portfolio, sold in 2016.
- After quarter-end: The company reported $294.1 of first-mortgage loan commitments, all funded, and $166.2 of loan repayments. It also increased the JPMorgan facility’s maximum capacity to $1,393.0. A stock transaction with QHREAC exchanged $30.8 of common shares purchased for $30.8 of Series B preferred stock repurchased.
Key facts for investors to verify
- Reconcile GAAP EPS with non-GAAP Operating Earnings, particularly the effects of security marks, currency and derivatives, loan impairments and preferred dividends.
- Assess the credit quality and collateral concentration of the expanded loan portfolio, including the Bethesda loan and the 35% Manhattan exposure.
- Review Level III CMBS valuation assumptions and the potential effect of illiquidity or further price changes.
- Check borrowing availability, collateral requirements, margin-call triggers and upcoming facility maturities; stated facility capacity is not necessarily freely available liquidity.
- Evaluate dividend coverage and the effect of preferred dividends, share issuance, leverage and REIT distribution requirements on future common-stock returns.
- Follow the status and potential implications of the DOJ information request.