KKR Real Estate Finance Trust Inc. quarterly report, Q1 FY2022

KKR Real Estate Finance Trust Inc. — Q1 2022 Form 10-Q

Reporting period: Three months ended March 31, 2022. KREF is an externally managed mortgage REIT focused primarily on originating and acquiring transitional commercial real estate loans. Unless stated otherwise, amounts are in U.S. dollars.

Financial performance

Metric	Q1 2022	Q1 2021	Change
Interest income	$73.2 million	$64.8 million	+13.1%
Interest expense	$32.5 million	$27.4 million	+18.5%
Net interest income	$40.8 million	$37.4 million	+9.1%
Total other income	$6.4 million	$1.2 million	+$5.3 million
Net income attributable to KREF	$35.5 million	$30.1 million	+17.9%
Net income attributable to common stockholders	$29.8 million	$29.2 million	+2.1%
Basic / diluted EPS	$0.47 / $0.46	$0.52 / $0.52	Down
Common dividend declared per share	$0.43	$0.43	Unchanged

Management attributed higher net interest income year over year mainly to portfolio growth; higher market rates and greater borrowings also increased interest expense. Other income included REO operations, equity-method earnings and profit-sharing income. The common-stockholder earnings increase was modest despite higher company net income, reflecting increased preferred dividends and participating securities. Diluted EPS also reflects adoption of accounting guidance requiring potential conversion shares to be included.

Management reported non-GAAP Distributable Earnings of $29.8 million, or $0.47 per diluted weighted-average share, versus GAAP common-stockholder net income of $29.8 million. The company cautions that Distributable Earnings is not a substitute for GAAP net income and may not be comparable with similarly named measures at other REITs. No explicit net interest margin or other operating margin was reported in the provided filing text.

Balance sheet, portfolio, debt and liquidity

• Total assets were $7.15 billion at March 31, 2022, up from $6.70 billion at December 31, 2021. Commercial real estate loans, net of the credit allowance, were $6.75 billion, versus $6.29 billion at year-end.
• Cash and cash equivalents were $173.2 million, down from $271.5 million at year-end. Operating cash flow was $33.1 million; investing cash outflow was $530.5 million; financing cash inflow was $398.5 million. Cash, cash equivalents and restricted cash declined by $98.9 million during the quarter.
• The loan portfolio comprised 68 loans with $6.82 billion in principal and $7.14 billion in total loan exposure, including certain syndicated interests not consolidated on the balance sheet. All portfolio loans by exposure were floating rate; weighted-average LTV was 67%, average risk rating was 2.9, and 95% of exposure was rated 3 or better. Multifamily and office represented 48.8% and 25.1% of loan principal, respectively.
• The company reported collecting all interest payments due during the quarter and described its loan portfolio as 100% performing. Separately, one $5.5 million mezzanine loan had been placed on nonaccrual and fully written off; this written-off loan is excluded from the performing-portfolio statistics.
• Credit-loss allowance was $20.7 million for funded loans and $1.8 million for unfunded commitments, totaling $22.5 million. The quarter included a $1.2 million net reversal of credit-loss provision, primarily related to repayments of two higher-risk loans.
• Debt carrying values included $3.04 billion of secured financing agreements, $1.93 billion of CLOs, $338.0 million of secured term loan and $142.2 million of convertible notes. Debt-to-equity ratio was 1.5x and total leverage ratio 3.2x, down from 2.3x and 3.7x, respectively, at year-end. KREF said it was in compliance with financing covenants.
• Reported liquidity sources totaled $759.3 million: $173.2 million of cash, $520.0 million of revolver capacity and $66.1 million of available borrowings under other listed facilities. The company also cited $377.3 million of unencumbered senior loans that could be financed subject to lender approval. These amounts are not all unrestricted cash.
• Future loan-funding commitments were $1.45 billion, primarily for construction, property improvements and leasing-related costs. Book value per common share was $19.46, compared with $19.37 at year-end.

Material changes and unusual items

• In February, KREF issued a $847.5 million CLO financing (KREF 2022-FL3). CLO carrying value increased to $1.93 billion from $1.09 billion at year-end.
• In January, the company issued 6.21 million Series A preferred shares, raising net proceeds of $151.2 million. In March, it issued 6.49 million common shares, raising net proceeds of $133.8 million, and sold additional shares through its ATM program for $1.4 million net. The preferred issuance carries a 6.50% annual dividend; the common offering increased share count.
• The corporate revolver was increased to $520 million and extended to March 2027 during the quarter; in April 2022, after quarter-end, capacity was increased again to $610 million. KREF also increased the KREF Lending IX facility capacity to $750 million.
• KREF owns one retail REO property in Portland, Oregon, acquired through foreclosure in December 2021. It reported $2.6 million of REO operating expenses and $2.6 million of REO revenue during Q1; a one-time $0.4 million local tax refund was included in other income. The asset had a $78.6 million carrying value at quarter-end.
• Adoption of ASU 2020-06 changed diluted EPS presentation by adding 6.3 million potentially issuable shares related to the 2023 convertible notes. The notes have $143.8 million principal and a 6.125% coupon.

Outlook, risks and contingencies

KREF provided no numerical earnings, dividend or portfolio guidance. Management said current cash and liquidity sources were expected to meet anticipated short- and long-term financing, operating and other needs. The board declared a $0.43 per-share common dividend for Q1, paid April 15, 2022. In April, KREF also originated three multifamily loans totaling $150.0 million committed principal, as disclosed in subsequent events.

• Rates and benchmarks: All loan exposure and related portfolio financing was floating rate. At quarter-end, 87.1% of loans and 75.0% of outstanding floating-rate financing were indexed to LIBOR; the remainder was principally indexed to Term SOFR. KREF warned that the LIBOR transition could increase financing costs. Its disclosed sensitivity estimates were asymmetric: a 25-basis-point decrease was expected to increase next-12-month cash flows by about $1.0 million, a 50-basis-point increase to reduce them by about $1.4 million, and a 200-basis-point increase to raise them by about $7.8 million.
• Credit and property risk: Borrower performance, collateral values, refinancing conditions and property cash flows may deteriorate. COVID-19 aftereffects, inflation, labor shortages and supply-chain disruption could impair borrowers’ business plans. Hospitality and retail are identified as more exposed, though KREF reported limited portfolio exposure to those sectors.
• Funding and liquidity risk: Repurchase agreements can require additional collateral or repayment if collateral-specific credit values decline. Some financing facilities have near-term stated maturities or rely on extension options; unfunded loan commitments are substantial. KREF reported no margin calls to date.
• Other risks and contingencies: The filing cites general economic and real estate-market volatility, Russia-Ukraine conflict and sanctions, financing availability, REIT qualification, and conflicts arising from KKR’s influence and KREF’s external management. There were no material legal proceedings reported, and no material changes to previously disclosed risk factors.

Investor verification priorities

• Track performance and collateral coverage of higher-risk loans, the fully written-off mezzanine loan and the Portland retail REO; confirm the definition and exclusions behind the “100% performing” portfolio statement.
• Assess whether floating-rate asset income continues to outpace funding costs as rates rise, and monitor LIBOR-to-SOFR transition terms and the company’s rate-sensitivity assumptions.
• Review liquidity after funding the $1.45 billion of loan commitments, and check refinancing, extension and covenant headroom for facilities with 2022–2024 stated maturities.
• Evaluate the effect of the common and preferred share issuances on per-share earnings, book value and dividend coverage; compare non-GAAP Distributable Earnings with actual distributions.
• Monitor concentration in multifamily and office collateral, geographic exposures, the allowance for credit losses and changes in loan risk ratings.