Business context and reporting period
Starwood Property Trust, Inc. (NYSE: STWD) is an externally managed REIT focused on originating, acquiring, financing and managing commercial real estate debt, including mortgage loans and CMBS; it also invests in RMBS and residential real estate. This Form 10-K covers the fiscal year ended December 31, 2012. LNR, a proposed acquisition announced in January 2013, is not included in the reported results.
Financial and operating highlights
| Metric | FY 2012 | FY 2011 |
|---|---|---|
| Interest income | $307.0 million | $205.0 million |
| Interest expense | $47.1 million | $28.8 million |
| Net interest margin | $259.9 million | $176.2 million |
| Net income attributable to STWD | $201.2 million | $119.4 million |
| Basic and diluted EPS | $1.76 | $1.38 |
| Cash provided by operating activities | $265.6 million | $79.4 million |
| Cash and cash equivalents at year-end | $177.7 million | $114.0 million |
| Total assets | $4.324 billion | $2.997 billion |
| Total equity | $2.797 billion | $1.765 billion |
Fourth-quarter 2012 net interest margin was $74.7 million; net income attributable to STWD was $56.3 million and EPS was $0.42.
- Loans, net, were $3.000 billion at year-end, versus $2.448 billion in 2011. Available-for-sale CMBS and RMBS were $862.6 million, versus $341.7 million.
- Secured financing agreements and loan-transfer secured borrowings totaled $1.394 billion; total liabilities were $1.527 billion. Reported total debt to loan and MBS investments was 34.6%. Weighted-average cost of secured financing was 3.6%, including hedges.
- Management reported $441.2 million of aggregate undrawn financing capacity, including $98.9 million approved but undrawn, and stated it expected sufficient liquidity for at least 12 months. This depends in part on refinancing or extending facilities.
- Net cash increased $63.6 million: $265.6 million from operations and $986.7 million from financing, offset by $1.189 billion used in investing. Operating cash flow included $132.0 million of proceeds from sales of loans held for sale.
- Core Earnings, a non-GAAP measure, were $228.3 million, or $1.99 per diluted share. The company cautions that Core Earnings is not GAAP net income, operating cash flow, or a measure of funds available for distributions.
Material changes versus the prior comparable period
- Net interest margin rose $83.7 million, primarily because of higher investment activity; interest income increased $102.0 million while interest expense increased $18.3 million.
- Total assets grew about 44%, supported by portfolio growth and two 2012 common-stock offerings that generated approximately $875.7 million gross proceeds. Shares outstanding increased from 93.2 million at year-end 2011 to 135.5 million at year-end 2012.
- The portfolio shifted toward floating-rate assets: variable-rate loans and securities were 64.8% of investments at year-end 2012, versus 52.4% in 2011; fixed-rate holdings fell to 30.1% from 46.1%.
- Operating expenses increased to $75.4 million from $50.9 million. Management fees increased to $56.9 million from $38.9 million, including higher base and incentive fees. A $2.1 million loan-loss allowance was recorded in 2012; none was recorded in 2011.
- Available-for-sale securities generated $83.4 million of unrealized gains in other comprehensive income, compared with an $11.2 million unrealized loss in 2011. RMBS other-than-temporary impairment charges were $4.4 million, down from $6.0 million.
Outlook, commentary, risks and unusual items
- Management reported an expected annualized, compounded weighted-average levered portfolio return of 11.7%–12.2% as of year-end 2012. This is an estimate, not guaranteed guidance; the filing provides no clear quantified earnings or dividend forecast.
- Management’s strategy emphasized continued commercial real estate lending across the capital structure, residential property and non-performing loan investments, and expansion of syndication and securitization. The company said the conduit platform had been suspended following CMBS market disruption and all remaining conduit-originated loans were sold by year-end.
- The proposed LNR acquisition had a stated cash purchase price of $843 million. It remained pending at filing; STWD had paid a $50 million deposit and disclosed a commitment letter for a senior secured bridge facility of up to $300 million. Failure to close, financing availability, integration, servicing-business run-off, taxes and potential consolidation of CMBS pools were identified as risks.
- After year-end, STWD issued $600 million of 4.55% convertible senior notes due 2018, receiving $587.7 million net proceeds. The filing also reports a $0.44-per-share first-quarter 2013 dividend declaration.
- 2012 dividends declared were $1.86 per share, including a $0.10 special dividend; the board retains discretion over future distributions. The company warns that dividends are not assured and depend on earnings, liquidity, covenants and REIT requirements.
- Credit and concentration risks include hospitality exposure (45.3% of portfolio collateral by carrying value), lower-rated RMBS (70.4% rated CCC and 6.9% rated D), and a hotel-operator-related CMBS position representing 9.7% of total assets. The company reported no delinquent loans at December 31, 2012, but recorded a loan-loss allowance and RMBS impairment charges.
- Liquidity and market risks include margin calls, financing renewals, asset/liability maturity mismatches, interest-rate and foreign-currency exposure, illiquid investments, borrower defaults, property-value declines and uncertain fair-value estimates. The financing schedule showed $633.1 million of projected 2013 financing repayments; management expected certain facilities to be extended or refinanced.
- Unusual reported items included $25.5 million of realized investment-sale gains, $15.2 million of net losses on currency hedges, $8.6 million of net realized foreign-currency gains, and $6.5 million of unrealized foreign-currency remeasurement gains. Management modified the Core Earnings definition in 2012 to permit certain non-standard adjustments, subject to independent-director approval.
- Deloitte & Touche issued an unqualified opinion on the financial statements and internal control over financial reporting; management also concluded controls were effective.
Most important facts for investors to verify
- Whether the LNR acquisition closed, its final financing and funding mix, integration costs, servicing-fee outlook and any resulting CMBS-pool consolidation.
- Whether near-term repo facilities were extended or refinanced, and the actual impact of maturities, collateral haircuts and margin calls on liquidity.
- The quality, valuation and concentration of the hotel-related CMBS and lower-rated RMBS exposures, including subsequent credit performance and impairment assumptions.
- Whether recurring earnings and cash generation support distributions, distinguishing GAAP income, Core Earnings, taxable income and cash available for dividends.
- The effect of equity issuance, convertible debt and manager compensation on leverage, per-share earnings and potential dilution.