Starwood Property Trust, Inc. — FY2014 Form 10-K
Reporting period: Fiscal year ended December 31, 2014. The filing also reports fourth-quarter results. Starwood Property Trust (NYSE: STWD) is an externally managed REIT focused on commercial real estate lending, investment and servicing in the U.S. and Europe.
Business context and significant developments
- The company reported two segments: Real Estate Lending and Real Estate Investing and Servicing, the latter including the LNR servicing, investment and conduit businesses acquired in April 2013.
- On January 31, 2014, Starwood spun off its single-family residential segment as Starwood Waypoint Residential Trust (SWAY), distributing one SWAY share for every five STWD shares. SWAY received net assets with an estimated book value of approximately $1.1 billion; its results are presented as discontinued operations.
- The Lending Segment expanded its loan portfolio through originations and acquisitions. Net loans were $6.30 billion at year-end, up from $4.75 billion. The company also committed $150 million to a 33% interest in a retail fund and issued $431.3 million of 3.75% convertible notes due 2017.
Financial performance
| Metric | FY2014 | FY2013 |
|---|---|---|
| Revenue | $702.9 million | $549.5 million |
| Income from continuing operations | $502.1 million | $330.1 million |
| Net income attributable to STWD | $495.0 million | $305.0 million |
| Diluted EPS | $2.24 | $1.82 |
| Core Earnings per diluted share (non-GAAP) | $2.17 | $2.11 |
| Cash flow from operating activities | $220.7 million | $326.3 million |
| Dividends declared per common share | $1.92 | $1.82 |
Revenue rose approximately 28% and attributable net income rose approximately 62% year over year. Growth reflected a larger loan portfolio and the additional operating period from LNR; comparisons for the Investing and Servicing Segment are not directly comparable because LNR was acquired during 2013. Net income also includes significant fair-value and consolidated-VIE items; GAAP revenue and assets are affected by VIE consolidation.
- Fourth quarter: revenue was $178.8 million, net income attributable to STWD was $91.5 million, diluted EPS was $0.40 and Core Earnings per diluted share was $0.50. Third-quarter values were $181.4 million, $165.0 million, $0.73 and $0.55, respectively.
- Portfolio: net loans were $6.30 billion. Approximately 77% of loans held-for-investment were variable rate, with a weighted-average spread of 6.0% over their applicable reference rates. The loan loss allowance was $6.0 million; no individual held-for-investment loan impairment was recorded, although $3.3 million of LNR-acquired loans were at least 90 days past due.
- Cash and liquidity: cash and cash equivalents were $255.2 million, down from $317.6 million. Operating cash flow was $220.7 million; investing activities used $1.71 billion and financing activities provided $1.44 billion. Management said it believed liquidity and access to further liquidity were sufficient for at least 12 months.
- Debt and leverage: secured financing agreements were $3.14 billion and convertible notes had $1.49 billion principal outstanding ($1.42 billion carrying value). Total debt-to-assets was 52.2% under the company’s stated measure; current financing agreements cap leverage at 75% of defined total assets. Contractual obligations include $500.4 million of secured-financing repayments within one year and $2.0 billion of expected loan funding commitments.
- Margins and non-cash items: interest expense increased to $161.1 million from $111.8 million. Other income included $70.4 million of fair-value gains on loans held-for-sale and $212.5 million of net income from consolidated VIEs. Foreign currency losses were $29.9 million. These items make reported earnings less representative of recurring cash performance.
Outlook, risks and unusual items
- No quantitative earnings or portfolio guidance was provided. Management’s stated priorities were continued lending across loan sizes, growth in subordinate CMBS and special servicing, expansion of conduit lending and securitization, and selective real estate equity investments. Management cautioned that suitable investment opportunities are not assured.
- The board declared a $0.48-per-share first-quarter 2015 dividend, payable April 15, 2015. The company has no minimum distribution guarantee; future distributions depend on earnings, liquidity, debt covenants, REIT requirements and board discretion.
- Key risks include borrower defaults and declining collateral values; construction-loan funding and completion risk; illiquidity and valuation uncertainty in lower-rated or unrated assets; interest-rate, refinancing, currency and counterparty exposure; repurchase-agreement margin calls and refinancing; and reliance on capital-market access.
- Management and the filing identify conflicts of interest arising from the external manager’s affiliation with Starwood Capital Group, related-party co-investments, and management compensation. The manager receives a 1.5% base fee on defined stockholders’ equity and incentive compensation tied to Core Earnings. A December 2014 management-agreement amendment increased the 2014 incentive fee by $18.0 million to reflect the SWAY spin-off.
- Incentive compensation and Core Earnings are important interpretive considerations: Core Earnings is non-GAAP, is used to calculate incentive fees, and is not a measure of operating cash flow or funds available for distributions.
- The company reported compliance with financing covenants, no material pending or threatened legal proceedings, and no material changes to internal control during the fourth quarter. Deloitte issued unqualified opinions on the financial statements and internal control over financial reporting.
Important facts for investors to verify
- Reconcile GAAP earnings with Core Earnings and cash flow, including the impact of fair-value changes and VIE consolidation.
- Review the $2.0 billion expected loan-funding commitments, their timing and conditions, and capacity to fund construction obligations.
- Assess near-term financing maturities, extensions, collateral requirements and access to repurchase and bank facilities.
- Monitor loan credit migration, the $6.0 million allowance, the past-due LNR loans, construction exposure and concentration by property type and geography.
- Evaluate the sustainability of the $0.48 quarterly dividend against taxable income, cash generation, leverage and covenants.
- Review related-party investment allocations, the management-fee structure and the $18.0 million incentive-fee adjustment.
- Interpret reported total assets of $116.1 billion with care: $107.8 billion of VIE assets and $107.2 billion of VIE liabilities were consolidated, and those VIE obligations generally have no recourse to STWD.