ARBOR REALTY TRUST INC Q3 FY2024 earnings call

• The company has a diversified business model with countercyclical income streams, well - capitalized, and has outperformed peers. - Modified $1.2 billion of loans in the third quarter, with $710 million requiring borrowers to invest additional capital. - Total delinquencies decreased from $1.05 billion at June 30 to $945 million at September 30, but had additional billing queries of $225 million. - Took back $77 million of loans as REO in Q3, with $20 million getting new sponsors and $57 million owned and operated directly. - Continues to build CECL reserves, recording an additional $16 million in the third quarter. - Agency business had $1.1 billion in originations and loan sales in the third quarter, with margins up. - Fee - based servicing portfolio grew to $33 billion, generating predictable income. - Balance sheet lending operation had an 8.16% yield on the investment portfolio at September 30. - Single - family rental business had strong funding and commitments. - Construction lending business had its first deal and growing pipeline.

Arbor Realty Trust had a diversified business model. In the agency business, they had $1.1 billion in originations and loan sales in the third quarter, with loan sale margins up to 1.67% for the quarter. The fee - based servicing portfolio grew to approximately $33 billion at September 30, with a weighted average servicing fee of 38 basis points and an estimated remaining life of seven years, generating around $125 million gross annually. In the balance sheet lending operation, the $11.6 billion investment portfolio had an oil and yield of 8.16% at September 30. The single - family rental business had $240 million of funding and $375 million of commitments signed up in the third quarter, with nine - month numbers at $1.1 billion. The construction lending business closed its first deal of $47 million in the third quarter, with roughly $300 million under application, $200 million in LOIs, and $600 million of additional deals in screening. The agency business contributes over 45% of net revenues.

• Fourth quarter agency volumes are guided to be in the range of $1.2 billion to $1.5 billion, rate - dependent. If rates stay at current levels, expect $1.2 billion; if rates get meaningfully below 4%, expect $1.5 billion. - Expect resolutions of delinquencies to exceed new defaults, resulting in continued decline in total delinquencies. - Expect to take back more REO over the next few quarters. - Bridge lending program to be ramped up again, with expectations of originations in the bridge side.

• Market interest rate fluctuations can impact agency originations and runoff of balance sheet loans. - There could be additional new delinquencies in the environment which may affect total delinquencies. - Delays in agencies processing loans can impact the timing of closings and originations.

Q: Could you comment about the actual amount of realized losses that you've taken this year?

A: We haven't really had really any realized losses during the year. I think we had maybe a $1.5 million realized loss and last quarter or the first quarter, on small loan that we took back. But for the most part, some of the REO we took back during the quarter, we had some reserves on and we took those back at fair value. So, until we dispose of those REO assets, we don't have a gain or a loss. So, we've not seen any real significant realized losses or any material realized losses.

Q: You mentioned the $100 million three - year note issue at 9%. Could you comment on the purpose and use of proceeds?

A: Well, we felt it was appropriate price capital for what it is. It's a three - year capital. We didn't want to go out to a long time. And certainly, it is accretive relative to where our dividend was and it was an easy piece of capital to put in place. We're also seeing some pretty good opportunities in the mid - teens returns. So, we thought it was probably priced given where we were in the cycle, and it was also important for us to not go out five or seven years to out three years and not be too short. So, it's just an easy piece of capital to put in place.

Q: How does the pipeline build into next year for construction opportunities? And as you need more capital, how much more unsecured debt are you comfortable raising without equity?

A: I'm going to meander a little bit because we made a very strategic decision to put our effort into the build - to - rent or SFR business and construction business for a couple of reasons. Number one, the spreads have been very outsized, and there wasn't a lot of competition as regional banks really got dried up, and we really become a dominant lender in that space. we were lending in the, I would say, 350 to 450 spreads. And we were able to get a lot of commitment knowing that would be something that would be funding up in 2025. So, it was a good way to look at our business. We opted not to jump into -- and it's also a very low loan - to - value business. I think our average loan - to - value on that 65% or 60%, I thought that the bridge lending on multi was a little too aggressive at that juncture, and it was higher loan to value. And I wasn't as comfortable, and we had the optionality of really putting our capital into that space, which we did. I will tell you with clarity that spreads have tightened over the last 60 to 90 days by 75 basis points. So, we have embedded value in that pipeline. Now what's really happened in the marketplace is that the securitization market has come long back. And maybe a year ago, you really couldn't get an effect of securitization done. The CLO markets we are not as tight as they were in the heyday. They're not that far off, maybe they're free as out. So, there's a lot of efficiencies that have been drawn. And I think ramping up right now on the on the bridge lending platform, especially with cap costs coming down and securitization costs coming down, and we like that business. About a year ago, spreads were in the 4 to 450, cap close to a fortune. And I don't like to make in that business, so I stepped away from it. Now you're seeing spreads in $275 a quarter range with CLO leverage coming in 75 basis points to where it was and those deals make more sense. So, we'll be looking to really get more effective on that side of the business. I think the securitization market will be much more efficient, and we'll be able to tap that in the first quarter, which will be very effective in the way we leverage our balance sheet. Now, we've got to manage all of this where the interest rates are because, as I mentioned in my prepared remarks, interest rates have a lot to do with our runoff, and we'll manage our runoff and it on a moment - to - moment basis based on where rates are. We could see if rates come back down at 375 basis points, we can see an accelerated runoff on our balance sheet, which generates enormous cash. So, we'll pay attention to all those factors, and we'll tap the different avenues to increase our liquidity as needed, where appropriate based on how all those other features toggle.

Q: How is the agency business backlog impacting originations?

A: I think it's a great question and I am definitely involved in it because it's a little bit of a new work that the agencies would be sold backlogged. And normally, things would move much quicker when agencies don't turn around your loans, you can't rate lock them, right? So, there was a period of time where you were eager to rate lock these loans, they work well, but you couldn't get in position that cost us roughly in my estimation, $200 million to $300 million worth of loans that if rate locking would have closed. Now unfortunately, rates moved against us. So as long as that would work at 4% or 375 don't work today, okay? So, the question is, are they lost? Are they not lost? We have $1.8 billion pipeline roughly. And then you have normal fallout. We gave a range based on where interest rates are and where they could be and our range is $1.25 billion to $1.5 billion. So, that number of $250 million to $300 million, what I mentioned earlier, which is interest rate sensitive is the toggle feature of loans that are in the pipeline that if rates come down, will close. So, we think if freight stay $425 million will hit the $1.2 billion for the quarter. The $250 million if rates migrate down to 400, 390, 380, that $300 million, which was previously on the drawn - on board with those rates, which don't make sense because borrowers have to put cash back in. Those will only happen if rates come down.

Q: How much PIK income was there that was noncash in the third quarter?

A: For the third quarter, there was $15 million of PIK interest in our numbers. Of the $15 million that was PIK interest for the quarter, $3 million was related to a group of assets we modified in a prior year that we have substantial guarantees from the equity behind that we feel very, very strong. We're going to collect -- another -- on top of that, another couple of million dollars of that was mezzan PE, which part of our mezzan PE product, whenever we're doing mezzan PE, and we're doing it behind agency, that always has a PIK feature to it. That's just normal cost. So, you have to pay and you have our coal. The rest of it, which is about $10 million was related to mods that happened in the first and second and third quarter of this year with $4 million coming from our third quarter mods and $2 million coming from our second quarter mods and $4 million coming from our first quarter mods.

Q: Can you talk to the cash flow operations outlook and if the dividend you expect to be sustained?

A: We don't have the exact numbers you have in front of you, Jade. I think you're doing it on a quarterly basis. The Q, which was filed this morning, has a nine - month cash flow of $415 million cash from operations. If you adjust for the timing of the health of sale loans and adjust for the timing of the changes in other assets and other liabilities. It's at $328 million. The dividend for the nine months would have been $265 million. So, we cover. There are dips and there are increases obviously it depends on cash collection. There are certain loans that pay historically late and you get those cash in the subsequent quarter, but we do feel like we have adequate cash flow for many, many sources to cover the dividend.

Q: How much liquidity do you expect to use of the $600 million to take back the $250 million REO that you mentioned you expected?

A: I think that we're in the thick of it now. And as I mentioned, that a lot of these NPLs are very lowly levered relative to the rest of the business we've done, which has impacted that cash. But it's going to be a turning event. There are many loans that we have REO, we have slated borrowers for and one have a slated bar, you can be levered those loans up. There are a lot of loans we're seeing dispositions on and that's pure - cash. So, at the moment, I think that it will be somewhat consistent with what we've done. And I think we are is a pretty good outlook based on being in the bottom of the cycle.

Q: What are your expectations for bridge lending originations between now and year - end?

A: I think what we're looking at to some degree is a lot of the loans with construction loans, which you're getting the CMOs and lease up. We kind of like that business and that's where we're putting a lot of our attention. I mean, the math didn't have worked for me before when spreads were 400 over 450 and SOFR was a 5.25, and people had to buy caps, and their costs were enormous spreads, and we just did a bunch of loans at 275 over. And SOFR was lower and cap cost was substantially lower. So, I think we closed about $80 million, and we have another couple of hundred in the pipeline. So, I would say that and I'd like to see about $300 million to $400 million closed on the bridge lending side between now and year - end, and then ramp up that pipeline. We're also going to continue to do the build [indiscernible] construction lending. So, you have to look at it in its totality. In addition, we are putting a lot of money out on the pref and mezz. And that's been a 14% business, and that's been a very attractive business. So, we have a lot of flexibility here in terms of where we want to put our capital. But with the securitization market returning and with rates on the short end going down, we think that will be more bias.

Q: How confident are you in the current dividend level?

A: So, we have a pretty diversified business and a very resilient business. And there are a lot of things that go up and down in our business. Clearly, if rates come down a little bit on the 10 - year side, you'll see a dramatic growth in the agency business, which produced a substantial amount of revenue. On the other side, we'll see a little bit of decline on our escrow balances. So, they kind of offset each other. If rates do come down, I think you'll see the NPLs resolutions really, really decline, and that will be a great contributor to the way our future income comes. So, those are the kind of factors that we'll look at very strong. So, there's going to be some offsets some benefits in some negatives. So, I think we're in a pretty good position based on where rates are today. But if rates continue to decline, I think you can see a little bit more optimism on those numbers, even though there will be a decline on interest - earning escrows. Now also keep in mind the securitization market has come long back and there'll be a lot of efficiencies on our borrowing costs, if we do decide to issue in the beginning of next year. I mean we're paying on our warehousing lines, probably 250 million over to 275 of them. I think the securitization market, we could see 50 to 75 basis points of improvement on our borrowing cost and better leverage. So, those are the kind of things that we're evaluating and looking at.