TPG RE Finance Trust, Inc. — Q3 2022 Form 10-Q
Business and period: The externally managed commercial real estate finance company originates and acquires primarily floating-rate first mortgage loans secured by U.S. commercial properties. This unaudited report covers the three and nine months ended September 30, 2022; comparisons below are to the corresponding 2021 periods or, where indicated, June 30, 2022 and December 31, 2021.
Key financial results
| Metric | Q3 2022 / September 30, 2022 | Comparable period / change |
|---|---|---|
| Interest income; interest expense | $75.5 million; $45.1 million | Q3 2021: $60.0 million; $21.0 million |
| Net interest income | $30.4 million | Q3 2021: $39.0 million; down $7.6 million from Q2 2022 |
| Net income (loss) | $(114.6) million; $(1.52) per diluted common share | Q3 2021: $29.3 million; $0.32 per diluted share |
| Nine-month net income (loss) | $(96.3) million; $(1.38) per diluted common share | Nine months 2021: $93.7 million; $0.36 per diluted share |
| Credit-loss expense, net | Q3: $136.7 million; nine months: $183.8 million | Q3 2021: $0.1 million expense; nine months 2021: $5.8 million benefit |
| Loans held for investment, net | $5.09 billion, after $210.5 million loan allowance | December 31, 2021: $4.87 billion, after $42.0 million allowance |
| Total borrowings | $4.32 billion | December 31, 2021: $3.72 billion |
| Cash and cash equivalents | $236.1 million | December 31, 2021: $260.6 million |
| Available liquidity, as defined by the company | $571.3 million | December 31, 2021: $321.2 million |
| Book value per common share | $14.28 | December 31, 2021: $16.37 |
| Common dividend declared | $0.24 per share for Q3 | Unchanged from Q2 2022 and Q3 2021 |
Portfolio, cash flow and financing
- At quarter-end, 75 loans represented $5.79 billion of commitments and $5.33 billion of unpaid principal; all were floating rate. Weighted-average credit spread was 3.5%, all-in yield 7.1%, and extended maturity 2.9 years. Unfunded commitments were $462.9 million.
- Q3 activity included ten originations or acquisitions with $984.0 million of total commitments, and $371.1 million of full and partial repayments. For the first nine months, the company originated 17 and acquired five loans with $1.6 billion of commitments.
- Nine-month operating cash flow was $82.5 million, investing cash outflow was $616.8 million, and financing cash inflow was $509.8 million. Cash, cash equivalents and restricted cash decreased $24.5 million to $236.6 million.
- Borrowings comprised $2.47 billion of collateralized loan obligations (CLOs), $1.08 billion of secured credit agreements, $204.4 million under a secured revolving facility and $564.2 million of asset-specific financing. Non-mark-to-market financing was 74.9% of total borrowings. Debt-to-equity and total leverage ratios were each 3.13x, versus 2.36x and 2.45x, respectively, at year-end 2021.
- Available liquidity included $210.7 million of cash available for investment after required covenant cash, $286.6 million held in CLOs for eligible investments and $48.6 million of undrawn secured-credit capacity. These components are not all unrestricted corporate cash.
Material changes and management commentary
- The sharp deterioration in GAAP earnings was driven principally by the credit-loss provision. The loan allowance increased $132.3 million in Q3; total allowance, including $15.1 million for unfunded commitments, reached $225.6 million. Management cited weaker credit indicators, higher rates and inflation, reduced market liquidity, higher property capitalization rates, recession concerns and slower business-plan execution.
- The weighted-average portfolio risk rating rose to 3.2 from 3.0 at year-end. Loans rated 4 totaled $892.1 million and loans rated 5 totaled $277.2 million, compared with $632.4 million and $23.0 million, respectively. Three office loans were downgraded from rating 4 to 5 during Q3. Four loans totaling $277.2 million were individually assessed for credit losses; their specific reserve was $72.3 million.
- Two loans with $167.5 million amortized cost were on non-accrual at quarter-end. The company wrote off $4.4 million on a non-performing retail loan after the collateral property was sold and proceeds were applied to the loan.
- Despite higher interest income, Q3 net interest income fell sequentially because financing costs increased faster than asset yields. Management said benchmark rates had only recently moved above floors embedded in some loans. For the first nine months, net interest income decreased $9.8 million year over year as financing costs rose and loan floors initially constrained asset repricing.
- The company sold its remaining Las Vegas land parcel in April for $73.9 million net proceeds and recorded a $13.3 million gain. It reported no real estate owned at September 30. Q3 distributable earnings were $15.3 million, or $0.19 per diluted share, versus $21.5 million, or $0.27, in Q2; management attributed part of the decline to the retail-loan write-off. Distributable earnings are non-GAAP and exclude specified items, including credit-loss expense to the extent it exceeds realized losses.
Outlook, risks and contingencies
- The filing provides no specific earnings or portfolio guidance. Management said it moderated originations in the first half amid market volatility and increased investment activity in Q3 as lending conditions improved.
- Key risks include recession, inflation, rising interest rates and credit spreads, weaker commercial property values and liquidity, borrower defaults, and reduced office demand or delayed return-to-office. Office loans represented 28.0% of portfolio unpaid principal at September 30.
- Higher rates may reduce borrower prepayments and increase extension requests, potentially extending loan assets beyond some financing terms. Secured-credit facilities can require margin postings; lenders generally retain discretion over collateral acceptance and borrowing availability. The company reported compliance with financial covenants at quarter-end, but warned that future compliance is not assured.
- Most loans and financing were floating rate, with a net floating-rate exposure of approximately $1.01 billion. LIBOR cessation was expected by June 30, 2023; the company was continuing preparations for transition to SOFR and noted the risk of assets and liabilities transitioning at different times.
- After quarter-end, the company acquired by deed-in-lieu an 845,919-square-foot Dallas office property securing a loan with $89.2 million amortized cost and $76.5 million carrying value after a $12.7 million specific allowance. The loan had a risk rating of 5 at September 30.
- The company reported no material legal proceedings and no material changes to previously disclosed risk factors. Disclosure controls were assessed as effective; no material change in internal control over financial reporting was reported.
Most important facts for investors to verify
- Whether the $225.6 million total credit allowance adequately reflects office-property valuations, borrower performance and the macroeconomic assumptions used.
- Progress and potential recovery from the Dallas office foreclosure, and the status of the other risk-rating-5 and non-accrual loans.
- Whether the $571.3 million stated liquidity remains available after distinguishing CLO-restricted cash from corporate cash and considering unfunded commitments, dividends and financing needs.
- Debt refinancing, facility-extension and margin-call exposure, including the concentration of borrowing maturities and lender discretion over collateral.
- Whether rising asset yields can outpace funding costs, and how benchmark-rate floors and the LIBOR-to-SOFR transition affect net interest income.
- The sustainability of the $0.24 common dividend relative to GAAP results, cash requirements and non-GAAP distributable earnings.