Business Context and Reporting Period
Company: Ares Commercial Real Estate Corp (Ares)
Filing Type: Form 8-K (Current Report)
Date of Report: June 4, 2013
Event: On May 14, 2013, Ares entered into a Purchase and Sale Agreement to acquire all outstanding common units of EF&A Funding, L.L.C. (d/b/a Alliant Capital LLC), a nationwide originator and servicer of multifamily residential mortgage loans.
Key Financial Metrics and Transaction Terms
Acquisition Consideration:
- Cash: $52.9 million (subject to adjustments).
- Equity: 588,235 shares of Ares common stock issued in a private placement.
Alliant Capital Portfolio Metrics (as of March 31, 2013):
- Servicing Portfolio: Approximately $3.9 billion in multifamily loans (approx. 1,000 loans).
- Mortgage Servicing Rights (MSRs) Fair Value: Approximately $61.9 million.
- At-Risk Balance (as of Dec 31, 2012): $3.9 billion subject to Fannie Mae risk-sharing obligations.
- Collateral Pledged (as of Dec 31, 2012): $13.7 million in securities and cash.
- Allowance for Risk-Sharing (as of Dec 31, 2012): $11.4 million (0.29% of at-risk balance).
Financing and Liquidity:
- Warehouse Facility: $100 million committed (including $20 million accordion) via Bank of America, maturing June 30, 2013.
- Escrow Deposit: $1 million deposited with Citibank, N.A. (refundable if terminated by June 12, 2013).
- Estimated Fee Remittance: Approximately $3.8 million in origination fees/premiums to be remitted to Alliant Capital regarding HUD loans.
Note: This filing does not provide Ares' consolidated revenue, profit, or cash flow figures for the reporting period; it focuses on the acquisition transaction.
Material Changes and Strategic Benefits
The acquisition represents a material strategic shift for Ares, transitioning from a primary focus on transitional "bridge loans" to a broader platform including long-term Agency Loans (Fannie Mae, FHA, Ginnie Mae). Key anticipated changes include:
- Revenue Diversification: Addition of fee-based origination and servicing revenues to Ares' existing direct lending model.
- Scale and Presence: Integration of Alliant Capital's national direct origination platform and approximately 90 employees.
- Product Expansion: Ability to offer turnkey financial solutions for both short-term and long-term multifamily financing.
- Accounting Changes: Future financial statements will include new asset classes (MSRs) and expenses (employee compensation) not previously reported, and may reflect deferred tax liabilities.
Outlook, Risks, and Contingencies
Management Outlook: Management expects the transaction to accelerate scaling, broaden product offerings, and provide predictable servicing cash flows. The combined entity aims to leverage Alliant Capital's approvals for FHA and Ginnie Mae loans for incremental revenue growth.
Key Risks and Contingencies:
- Regulatory and Agency Dependence: Alliant Capital's business relies heavily on Fannie Mae, FHA, and Ginnie Mae. Loss of approved lender status or changes in government policy (e.g., Fannie Mae conservatorship reforms) could materially harm operations.
- Risk-Sharing Obligations: Under the Fannie Mae DUS program, Alliant Capital shares risk of loss (capped at one-third of unpaid principal balance). Increased defaults could trigger significant payouts and liquidity strain.
- Integration Challenges: Risks include managing a larger workforce, integrating distinct business cultures, and complying with new regulatory requirements (e.g., Sarbanes-Oxley).
- Financing Availability: The acquisition depends on securing equity or debt financing. Failure to do so could force asset liquidation or deal termination.
- Market Conditions: Sensitivity to interest rate fluctuations, commercial real estate values, and the recovery of the CMBS market, which could reduce demand for Agency Loans.
Investor Verification Checklist
- Verify the status of the $1 million escrow deposit and the June 12, 2013 termination deadline.
- Review the unaudited pro forma financial statements (Exhibit 99.3) to assess the combined entity's projected leverage and earnings.
- Confirm the renewal status of Alliant Capital's $100 million warehouse facility with Bank of America, maturing June 30, 2013.
- Monitor Fannie Mae's strategic plan regarding the contraction of its multifamily footprint and potential impacts on Alliant Capital's origination volume.
- Assess the adequacy of the $11.4 million allowance for risk-sharing against potential future loan defaults in the $3.9 billion portfolio.
- Check for any updates on the $3.8 million estimated fee remittance obligation to Alliant Capital regarding HUD loans.