Starwood Property Trust, Inc. — Q1 2016 Form 10-Q
Reporting period: Three months ended March 31, 2016; balance-sheet comparisons are to December 31, 2015. Starwood Property Trust is an externally managed REIT focused on commercial real estate lending, investing and servicing, and property ownership in the U.S. and Europe.
Financial performance and position
| Metric | Q1 2016 | Q1 2015 / prior period |
|---|---|---|
| Revenue | $195.5 million | $178.8 million; up 9.3% |
| Net income attributable to Starwood | $26.7 million | $120.4 million |
| EPS, basic / diluted | $0.11 / $0.11 | $0.53 / $0.52 |
| Core Earnings, non-GAAP | $118.9 million; $0.50 per diluted share | $123.7 million; $0.55 per diluted share |
| Cash from operating activities | $131.1 million | $114.1 million |
| Cash and cash equivalents at quarter-end | $335.2 million | $368.8 million at December 31, 2015 |
| Declared dividend per common share | $0.48 | $0.48 |
Revenue growth reflected contributions from property acquisitions and higher CMBS income, partly offset by lower servicing fees and investment-securities income. GAAP net income fell sharply as other income swung to a $22.0 million loss from $79.3 million of income a year earlier. Q1 2015 included substantial VIE fair-value gains, derivative gains and a property-sale gain; Q1 2016 included a $24.7 million derivative loss and lower fair value of servicing rights and CMBS. The reported net margin was approximately 13.8% in Q1 2016 versus 67.5% in Q1 2015, a comparison heavily affected by these volatile items. Core Earnings, which management defines as a non-GAAP measure, also declined.
Lending-segment weighted-average unlevered and levered yields were 7.4% and 10.0%, respectively, versus 7.7% and 10.4% a year earlier. Its weighted-average secured borrowing rate, including hedging costs and financing-fee amortization, was 3.7%, compared with 3.5%.
At March 31, total assets were $94.4 billion and total equity was $4.1 billion. These totals include $85.1 billion of consolidated VIE assets and $84.2 billion of related liabilities; the filing says those obligations are restricted to the VIEs and have no recourse to the Company’s general credit. Outside those VIE liabilities, reported secured financing agreements were $4.48 billion, secured borrowings on transferred loans were $89.9 million, and convertible notes had a $1.33 billion carrying value ($1.37 billion principal).
Operating cash flow was $131.1 million, investing cash flow was negative $348.7 million and financing cash flow was positive $182.9 million. Investing outflows chiefly reflected loan originations and purchases, property acquisitions and securities purchases. Financing included net secured borrowings, offset in part by $114.6 million of dividends paid and $19.7 million of share repurchases. Restricted cash was $48.4 million.
Material changes and notable developments
- Held-for-investment loans, net, rose to $6.19 billion from $5.97 billion. The portfolio’s reported risk ratings were 81.6% rating 3, 5.5% rating 4 and none rating 5. The Company reported no impairment charges; one $8.2 million non-performing loan was acquired during the quarter, and otherwise no loans were 90 days or more past due.
- Property assets, net, increased to $1.15 billion from $919.2 million. The Company acquired 12 Woodstar affordable-housing communities with 3,082 units; the remaining two properties were acquired in April. It also acquired two properties from CMBS trusts.
- Effective January 1, 2016, adoption of ASU 2015-02 resulted in consolidation of 14 additional CMBS trusts, adding $15.1 billion of VIE assets and liabilities at March 31. The filing states the consolidation had no economic effect, but it materially affects reported balance-sheet scale and presentation.
- Secured financing agreements increased to $4.48 billion from $3.98 billion. The filing lists $734.966 million of scheduled secured-financing repayments within one year, assuming the stated assumptions, and says the Company was discussing extensions or amendments for facilities with near-term expirations. It reported compliance with financing covenants.
Outlook, risks and contingencies
- Management said it believed available liquidity and access to additional sources would be sufficient to meet financial obligations for at least the next 12 months. No earnings or revenue guidance was provided.
- The board declared a second-quarter dividend of $0.48 per share, payable July 15, 2016. Management intends to continue quarterly distributions, subject to board authorization and operating and debt-service requirements. The dividend exceeded Q1 GAAP EPS; Core Earnings is not a measure of cash available for distributions.
- There were future funding commitments on 50 loans totaling approximately $1.4 billion, of which management expected to fund $1.2 billion. The contractual-obligations table reports $1.157 billion of loan-funding commitments, excluding amounts management projected would not need to be funded. Funding is generally conditional on borrower requirements being met.
- Key disclosed risks include borrower defaults and collateral impairment; availability and cost of financing and liquidity; mismatches between asset repayments and financing maturities; changing interest rates and credit spreads; and foreign-currency hedge timing or collateral requirements. Approximately 84.9% of held-for-investment loans were variable rate. One non-consolidated CDO structure was in default; maximum risk of loss for unconsolidated securitization VIEs was $96.7 million, and the Company reported no obligation to support those securitizations.
- The filing reported no material pending or threatened legal proceedings, no material changes to previously disclosed risk factors, and effective disclosure controls. Loan guarantees may expose the Company to funding obligations if certain third-party construction lenders fail to fund; management said it knew of no circumstances requiring payment.
Important facts for investors to verify
- How much of the year-over-year GAAP earnings decline reflects fair-value, derivative, foreign-exchange and prior-year sale gains or losses, versus recurring segment performance; also review the Company’s Core Earnings adjustments.
- The quality, performance and collateral coverage of loan exposures, particularly rating-4 loans, the acquired non-performing loan and the concentration of loans in office and hospitality assets.
- Financing maturity and extension assumptions, available borrowing capacity, lender concentration, and the ability to meet the expected $1.2 billion of loan funding commitments while sustaining distributions.
- The dividend’s sustainability relative to taxable income and cash generation, given Q1 GAAP EPS of $0.11 and a declared dividend of $0.48 per share.
- The effect of VIE consolidation on reported assets, liabilities and earnings, and the valuation uncertainty associated with significant Level III fair-value measurements.