Lument Finance Trust, Inc. quarterly report, Q2 FY2019

Business context and reporting period

This is the unaudited Form 10-Q for the quarter ended June 30, 2019. The filing’s registrant name is Hunt Companies Finance Trust, Inc. (NYSE: HCFT); the request identifies the company as Lument Finance Trust. The company was shifting from legacy mortgage securities into transitional, floating-rate commercial real estate loans, primarily multifamily. It is externally managed and has elected REIT status.

Key financial results and position

MetricQ2 2019 / June 30, 2019Comparable period / prior year-end
Net interest income$4.05 million$4.57 million in Q2 2018
Net income (loss)$1.39 million; $0.06 per common shareQ2 2018: loss of $21.49 million; $(0.94) per share
Six-month net income (loss) attributable to common stockholdersLoss of $0.71 million; $(0.03) per shareSix months 2018: loss of $11.93 million; $(0.51) per share
Commercial mortgage loans$599.77 million across 47 loans; 100% floating rate; weighted-average coupon 6.5%$555.17 million across 44 loans at December 31, 2018
Total assets / equity$657.35 million / $108.87 million$679.35 million / $150.20 million at December 31, 2018
Cash and liquidity$7.16 million unrestricted cash; $42.88 million restricted cash$7.88 million unrestricted and $51.33 million restricted at December 31, 2018
Debt$504.95 million CLO liabilities and $39.23 million net secured term loan$503.98 million CLO liabilities; no term loan at December 31, 2018

Six-month operating cash flow was $2.33 million, versus $5.81 million in the first half of 2018. Cash, cash equivalents and restricted cash totaled $50.04 million at June 30, 2019. Management reported recourse debt-to-equity of 0.4:1 and total GAAP debt-to-equity of 5.0:1; most debt is CLO debt that is non-recourse to the company. No profit margin measure is clearly provided.

Material changes versus prior periods

  • Q2 2019 returned to common-stockholder profitability, compared with a substantial Q2 2018 loss. The comparison is materially affected by 2018 sales and closeout of the legacy Agency/non-Agency securities and hedges, and by securitization trusts consolidated in 2018 but no longer consolidated in 2019.
  • First-half net interest income increased to $8.25 million from $7.69 million, while total other loss narrowed to $0.42 million from $12.26 million. The first-half common-stockholder loss includes a $3.09 million deemed dividend tied to preferred-stock redemption.
  • The loan portfolio grew by $44.60 million from year-end: $117.54 million of purchases, offset by $72.94 million of principal repayments. In Q2, management cited $52.9 million of loan purchases and $38.9 million of payoffs.
  • In February, the company borrowed $40.25 million under a six-year secured term loan at a stated 7.25% rate and used the proceeds, with working capital, to redeem all 1.61 million Series A preferred shares, carrying an 8.75% dividend rate.
  • The common dividend was raised from $0.07 to $0.075 per share for Q2, paid July 15, 2019. First-half declared common dividends were $0.15 per share.

Outlook, risks, contingencies and unusual items

  • No specific earnings or investment guidance is provided. Management said available cash flow, prior equity proceeds and borrowing capacity were expected to cover anticipated short-term needs; longer-term needs depend in part on additional debt or equity financing and CLO issuance.
  • Management says floating-rate assets and CLO liabilities are largely indexed to 30-day LIBOR and that rising rates generally benefit net interest income. However, higher borrower debt service could stress property cash flows and increase credit risk; declines in rates, refinancing availability, loan prepayments and reinvestment spreads also affect returns.
  • The company reported no impaired, nonaccrual or maturity-default loans and no loan-loss allowance at June 30. Its portfolio is concentrated in multifamily collateral (88.4%) and the Southwest (35.5%); 89.4% of loans were rated moderate risk or better, compared with 91.3% at year-end.
  • Restricted CLO cash is not freely available for general corporate use. CLO obligations are non-recourse, but are secured by assets held in the CLOs. The company also had $31.6 million of unfunded commitments on loans in one CLO; an affiliate had $51.0 million of commitments on loans in the other.
  • Legacy MAXEX backstop guarantees covered loans with an estimated outstanding principal balance of $1.405 billion. MAXEX Clearing LLC assumed the obligations and agreed to indemnify FOAC; the company said it knew of no circumstances expected to trigger a claim. The scale of the underlying exposure and the assumption arrangement remain important contingencies.
  • The company failed the REIT 75% gross-income test for 2018 because of hedge-termination gains and paid the associated $1.96 million tax in April 2019. It believed its REIT election would not be affected in current or future periods, but identified REIT qualification as an ongoing risk.
  • Disclosure controls were deemed ineffective at June 30 due to material weaknesses involving tax-advisor oversight and review/documentation of account balances. Remediation steps were underway but not all controls were fully operational or considered remediated.

Important facts for investors to verify

  1. Confirm current loan-level performance, risk-rating migration, collateral values and the concentration of multifamily and Southwest exposures.
  2. Assess dividend sustainability against recurring earnings, cash available for distribution, REIT distribution requirements and the first-half common-stockholder loss.
  3. Review term-loan covenants, maturity and borrowing-base requirements, and distinguish unrestricted liquidity from CLO-restricted cash and non-recourse debt.
  4. Verify MAXEX Clearing LLC’s continuing financial capacity and the remaining duration and terms of assumed backstop guarantees.
  5. Track remediation and independent testing of the disclosed material weaknesses, and monitor REIT tax compliance following the 2018 income-test failure.