Good afternoon, and welcome to Ares Commercial Real Estate Corporation's Conference Call to discuss the company's third quarter 2020 financial results. As a reminder, this conference is being recorded on October 29, 2020. I will now turn the call over to Veronica Mayer from Investor Relations.

Good afternoon and thank you for joining us on today's conference call. I am joined today by our CEO, Bryan Donohoe; David Roth, our President; Tae-Sik Yoon, our CFO; and Carl Drake, our Head of Public Company, Investor Relations. In addition to our press release and the 10-Q that we filed with the SEC, we have posted an earnings presentation under the Investor Resources section of our website at www.arescre.com. Before we begin, I want to remind everyone that comments made during the course of this conference call and webcast and the accompanying documents contain forward-looking statements and are subject to risks and uncertainties. Many of these forward-looking statements can be identified by the use of words such as anticipates, believes, expects, intends, will, should, may, and similar expressions. These forward-looking statements are based on management's current expectations of market conditions and management's judgment. These statements are not guarantees of future performance, condition or results and involve a number of risks and uncertainties. The company's actual results could differ materially from those expressed in the forward-looking statements as a result of a number of factors, including those listed in its SEC filings. Ares Commercial Real Estate Corporation assumes no obligation to update any such forward-looking statements. During this conference call, we will refer to certain non-GAAP financial measures. We use these as measures of operating performance, and these measures should not be considered in isolation from or as a substitute for, measures prepared in accordance with generally accepted accounting principles. These measures may not be comparable to like-titled measures used by other companies. With that, I will now turn the call over to Bryan Donohoe.

Thanks, Veronica. And thanks everyone for joining today. As you can see from our earnings release, our business continues to perform well despite conditions brought on by the pandemic. In order to understand how we are positioned today, I think it's important to first remind everyone that since the inception of ACRE, we are focused on defensively positioning our portfolio to withstand market downturns. For example, we carefully structured our loans with meaningful covenant protections to make sure we can protect our rights. We held firm in our deal negotiations to ensure that we are protected from falling interest rates by getting LIBOR floors. We maintained the portfolio with a 94% allocation to senior mortgage loans, and we purposefully avoided marketable securities. We shied away from what we viewed as overpriced gateway markets and pivoted more and more to multi-family, office properties with long-term leases, and industrial properties and focused on areas with lower cost of living, lower state taxes and growing demographics. We diversified our funding sources, especially with respect to more volatile asset classes such as hospitality, and structured our financing so that we do not have margin calls based on changes in market spreads. We believe our ability to successfully navigate this cycle is in part due to these strategic decisions. As a result, our portfolio quality, earnings, and dividends have all remained relatively stable. This stability can be seen through our third quarter core earnings per share of $0.31, which is consistent with our second quarter levels. It can also be seen in the credit performance of our portfolio in the quarter. Our portfolio has a number of attributes that drive this stability. It is very well diversified across 49 different loans and is primarily collateralized by multi-family, office, and industrial properties. We have a total…

Great. Thank you, Bryan. And good afternoon, everyone. Earlier today, we reported GAAP net income of $14.9 million or $0.44 per common share, and core earnings of $10.5 million or $0.31 per common share, largely consistent with our prior quarter results. Our earnings continue to benefit from LIBOR floors, with 95% of our loans having such built-in protection at a weighted average rate of 1.74%. As discussed in our last earnings call, during the second and third quarters, we sold or monetized 5 loans at an average of 97% of par, including one hotel loan. These transactions improved our cash position, reduced our hotel exposure, and lowered our overall leverage. The difference between our GAAP and core earnings in the third quarter reflects the $4 million or $0.12 per common share in loss associated with the sale of 2 of these loans. With respect to Westchester Marriott, performance continue to improve in the third quarter. We are seeing the positive impact of our plan to reduce expenses and rebuild our revenue base. Our sales and marketing team successfully solicited government and other central workers. And our hotel has benefited from less competition from other properties in the area that have either temporarily or permanently closed. As of September 30, 2020, we continued to build book value up to $14.03 per common share, versus $13.91 at the end of the second quarter of 2020. Turning to our liquidity. As of yesterday's close, we had approximately $91 million in unrestricted cash. Given our earnings from operations outlook and current cash flow needs, we believe that our liquidity levels are appropriate. However, should the need for further liquidity arise, we have additional sources of cash available to us, including reinvestment capacity under the Ares warehouse. Now let me discuss our liabilities and debt facilities. We continue to reduce our debt to equity ratio to 2.8x versus 3x at the end of the second quarter and 3.2x as of the end of the first quarter, all of which excludes CECL reserves. On a recourse basis, our debt-to-equity leverage is 1.8x. And as a reminder, none of our warehouse financing facilities contain mark-to-market remarketing provisions that are based on changes in market borrowing spreads. Finally, our CECL reserve was at $27 million at the end of the third quarter, lower by approximately $1 million from the prior quarter. This reduction in the CECL reserve was primarily attributable to contract reductions and loan commitments and pay downs, and the shorter average remaining term in the overall loan portfolio. And with that, I will now turn the call back over to Bryan for some closing remarks.

Thanks, Tae-Sik. In conclusion, we believe we are very well positioned based on the differentiated actions we took to structure our portfolio defensively prior to the pandemic. All of the actions we have taken to defensively position our portfolio diversify our loans geographically and by market and spread out of our funding sources has positioned us to deliver consistent earnings and dividends. With our current liquidity position, we expect to be in a position to selectively take advantage of the more attractive investment opportunities, which we believe we will continue to see in the market going forward. We appreciate the support from our shareholders and employees. And thank you for the time today. With that, I'll ask the operator to open the line for questions. Thank you.

[Operator Instructions] The first question will be from Doug Harter of Credit Suisse.

Can you just talk about your current liquidity holdings, kind of how you think that that progresses over the coming quarters? And assuming that that number comes down, how would you prioritize deploying that liquidity?

Sure, Doug. This is Tae-Sik. Liquidity is obviously of paramount importance and we have been building the amount of liquidity over the past few quarters. As you can see, as of even just the last couple of days, we're up to about $91 million, which if you look at it as a percentage of our equity, look at it as a percentage of our overall loans and potential needs, we think we're at a very appropriate level today. Obviously, we're also taking into consideration what we anticipate our cash flow from operations to be on a go-forward basis. I think having said all that, we remain cautious. The markets are quite volatile. So we want to make sure that we continue to have appropriate levels of liquidity to support the business. At this point, we do feel we're in a good position. So we are evaluating the uses of that capital, including deploying that capital into new investments, but no firm decisions have been made on that. But we do believe that liquidity is at a good level, where we can start to look at some offense opportunities, while at the same time, making sure that we have the appropriate amount of defensive liquidity, and that we have other plans in place that we can move very quickly on to actually add additional cash onto the balance sheet if necessary.

Got it. And Tae-Sik, it looked like kind of the average asset yield ticked up during the quarter. Was there anything kind of that would -- you would kind of call out in there that we should be aware of?

Not really. I think you'll see a little bit of changes in asset yields based upon portfolio composition, based upon potentially some modifications, potentially on some partial repayments, or full repayments. But no, it's not really due to changes in big, big significant changes in the portfolio. I think it’s fine tuning of the portfolio. One of the nice things, again, about our portfolio is that 95%, 97% of our portfolio is either floating rate with a fixed LIBOR floor. We also mix in a small amount of fixed rate loans. So even with the sharp changes and drop in LIBOR that we've seen, you have not seen a change in our overall unleveraged effective yield. So we do expect this to be relatively steady and whatever changes you see so far, sort of quarter-to-quarter are not due to any significant changes in the portfolio.

The next question is from Steve Delaney of JMP Securities.

Congratulations on the quarter. Wondering if you could give us an update on your Westchester hotel, any strategy -- any changes there from a strategy standpoint? And if you could estimate sort of the quarterly cash drain that you're now seeing on the property?

Yes. Thanks for the question. I think the strategy we took at the outset with the Westchester Marriott really mirrors a lot of the way we thought about the overall portfolio, which was to take a long-term view, and I think that served us well in the portfolio and certainly with respect to Westchester Marriott. As Tae-Sik indicated in his remarks, we've benefited from the fact that a good portion of our competitive set has closed either temporarily or permanently. So as you've seen this national uptick in demand and while it's certainly less than prior years, as you all know, we've been able to kind of harness more of that demand into our assets. So – and there's been some one-off events that have continued to benefit us. Obviously, it's still relatively opaque to book group business on a go-forward basis, but we are seeing the benefits of staying open, of containing our costs, and really have minimized any downsides with respect to that asset.

And Bryan, in terms of just quarter-to-quarter operating results, approximately what would you say the impact currently is on your earnings?

Really relatively flat overall. I think it's obviously the risk in lodging assets generally is the daily mark-to-market of revenues. But -- so it's tough to say how consistent that will be. But we've been extremely pleased with the decisions that we've made at the asset. I mean, to have created this cost contained asset and still be able to successfully manage, and like I said, harness as much revenue as possible, given 40% reduction in our competitive set. We're really pleased with what we've done there.

And then follow-up, we noticed this morning that Blackstone announced they had done $1 billion CLO in the fourth quarter. Your 2017 CLO, I believe the reinvestment expires in March. Just curious how you're seeing that market, that financing market these days, and if you have the flexibility to call your CLO either before or when it -- when reinvestment expires, what your plan is next spring?

Yes, we look at a lot of different options with respect to our financing, as we indicated earlier on the call. I think the fact that the capital markets have returned for CLOs and CMBS, generally, I think, are a couple of positives, right? First and foremost, that fluid really helps to allow for willing buyers and sellers to come back to the table. And so I think, over the long term, those types of markets being open should allow for more repayments over time, just in general, right, and allowing a more normal course of business. We evaluate on a constant basis, the most efficient way to finance our assets. And obviously, as we've said in prior quarters, our partners on the financing side have been extremely constructive. But certainly there's accretive solutions in the CLO market today, relative to certain financings, warehouse lines and the like. So it's something we're going to continue to look into like we do in the normal course.

The next question will be from Stephen Laws of Raymond James.

You noted in your remarks leverage continues to decline, and you're certainly benefiting from LIBOR floors. Thinking about the valuation, how do you evaluate potential stock repurchases against the leverage declines you've made? Is that something you consider here given the surprise to book? And -- pretty small amount of unfunded commitments, I guess, relative to the total portfolio size, so can you maybe comment on valuation and how you think about returning capital to shareholders possibly through a stock repurchase?

Yes, certainly…

Yes, go ahead, Tae-Sik.

Great. Sure, Stephen. So in terms of share repurchase, as you know, several years ago during Capital Markets timing we did go ahead and repurchase some shares. And we continue to evaluate the attractiveness of doing so. I mean, obviously, with our shares trading at current levels a significant discount to our book value. It would certainly be accretive from a book value per share perspective to do a meaningful share buyback. At the same time, we obviously have other uses of capital, including some of the things that we just talked about, in terms of having some offense opportunities as well as making sure that we have enough cash and liquidity for defense purposes as well just given the great volatility of the market. So we haven't obviously done a share buyback recently, but it is certainly something that we will continue to evaluate. And the considerations that we will take into account is certainly accretion to book value per share. But also making sure that, again, we sustain a sufficient level of liquidity, and also sustain a level of market capitalization that will continue to make our shares liquid in the market. As you know, one of the challenges we have at ACRE is just a small size of our overall balance sheet, including equity capital. And to the extent that we do share buybacks, that will obviously decrease that share capital further, which is something, again, won't stop us from doing it certainly, but it's certainly one of the factors that we would want to take into consideration.

Great. And I guess you probably should have started with the leverage side. You brought leverage down almost half a turn over the last couple of quarters. Where do you see that near term? Is there a level where you start to make new investments? Are you focused on -- is there a target that you'd like to get to 2.5 or somewhere else? Can you maybe talk about where you'd like to see leverage trend over the next 6 to 12 months?

Sure. Great question. And we've been -- we have been very focused on reducing our leverage and we're balancing our leverage with all of the other important factors, right? All the other important factors about generating attractive ROEs to our investors continuing to pay a consistent cash dividend to our investors. It'd be so called easy enough for us to further delever and delever the balance sheet to make it more conservative and safe on a relative basis. But obviously, that has its knock-on effect of reducing earnings and reducing our ability to pay dividends. And so, we're trying to find the right balance. And so, I would say, we have been helped by the fact that we have our LIBOR floors so that we can continue to generate very attractive returns with $91 million of liquidity and with lower leverage. And so we'll continue to evaluate our leverage levels in the overall context. Having said all that, I think we are still comfortable saying that the target leverage that we are looking at right now is right around, call it, 2.75 plus or minus 25, so a range of 2.5 to 3 is kind of where we think given today's market conditions that we would want to target today. So we're right there. And again, it'll be fluid depending on what happens with market conditions, what happens with pipeline, what happens with our overall loan performance, and we're always looking to potentially change it. But for the snapshot right now, it's somewhere between that 2.5 to 3 with a midpoint of 2.75.

The next question comes from Jade Rahmani of KBW.

Ares' management participated through a fund in a single-family rental transaction with Pretium Partners, an active participant in that sector. And one of the other commercial mortgage REITs called [indiscernible] cited that space has attractive on the debt side. Is that an area that potentially could be earmarked for a new investment?

Yes. Thanks for the…

David, do you want to give a little bit of an intro there?

Yes, I was going to say -- I'm obviously involved with the equity side of business as well and we did announce the transaction. Obviously, it's a public company transaction, so I can't really comment on that. But needless to say, when you do something like that, you -- it reflects that you find the cash flows and the sector attractive. I've spent a long time in this sector. I was, in my prior life, at Blackstone, was responsible for the initial investment in Invitation Homes, so have a lot of expertise. Was on the public company board for a long time. And so I would just say, as a concept, we like the space, and obviously, work hand-in-hand with our partners on the debt side to help them understand opportunities that might exist in that space.

Yes. And Jade, I'll just add -- I mean, obviously, David speaks to the collaboration between the groups and our own involvement in between debt equity and investments in different sectors like that. I think one of the phenomenon we're seeing, right, as you've kind of redlined retail and certainly at least temporarily, being extremely cautious on lodging assets today, with that reduction in the denominator effectively makes you look outside the normal 4 or 5 food groups of our investment universe, right. And I think when you look around, what you see is extremely consistent rental collections despite this downturn in that sector. And so, I do think it's an attractive place to play, and I think it's also an asset that becomes very leverageable by our counterparts. So I think it is something that will see an increased share of the pie going forward.

And can you give a flavor for some of the other types of transactions in the pipeline? You said, you're very excited about the potential to deploy capital.

Yes. I mean, what we've seen is, as certain banks have pulled back from the markets, we're seeing attractive opportunities in industrial that have typically been more well banked by the super-regional banks and the like. And certainly in the multi-family space, the continued liquidity being provided by Fannie and Freddie has really been an anchor for that market. And so we can step into assets that are in lease-up in the markets that we cited some of those tax migration areas, mid-rise buildings that have been just almost uniformly less affected by the virus or the fallout from the virus, and really attach at interesting levels and create meaningfully higher spreads relative to where these same assets would have traded 12 months ago. Beyond that, I think there's certainly -- continue to be a smattering of more esoteric asset classes that you've seen become more incumbent in the real estate equity markets, but the primary focus is going to remain in cash flowing multi-family, industrial and the like.

In terms of the nonaccrual loans, what's the aggregate number of individual loans on nonaccrual? And are there any additional loans targeted for sale?

Sure, Jade. So the number of loans in nonaccrual status is 3. Early this year, right at the onset of the pandemic, I think we had 4 loans. We have taken one off nonaccrual status based upon some modifications that we were able to get done with the borrower, which resulted in both a partial pay down and some funding of reserves that really significantly increased the likelihood of interest payments, so we took the one loan off of nonaccrual. So as of 3Q, we have 3 loans that are that are on nonaccrual. And in terms of loans for sale, now, as of 09/30, we had no loans held for sale. As of second quarter, as we mentioned, we had a couple of loans that were held for sale. We took the marks through unrealized loss in the second quarter and obviously reversed that in the third quarter, so you'll see some activities there. But as of third quarter, there is no loans available for sale.

And in terms of the outlook for those 3 loans, what do you anticipate happening?

I think with respect to those 3 loans, and really the entire portfolio, conversations have remained very constructive with our borrowers. And we've continued to maintain dialogue on a weekly basis with them and we're seeing increased collections throughout the portfolios we mentioned, right? If we look at the trend line, we've been picking up a point or 2 on rent collections underlying the portfolio throughout, certainly, for the last 3, 4 months. And that progress and the fact that these borrowers, in most cases have continued to infuse equity into the assets, makes us feel pretty confident that resolution will be positive ultimately. And I think like a lot of borrowers today, I think they need more time to execute their business plan, but we still feel confident in the ultimate outcome.

Thank you very much.

And just add to that, Jade…

Go on.

Just to add to that, I think -- again, it's important to note that the 3 loans that are on nonaccrual are unique and that they continue to pay current interest. So they are not behind on interest, and yet I think we took steps to put them on nonaccrual and start amortizing down our carrying value as we were receiving the interest payments. But again, I just want to make sure this is not the typical nonaccrual situation where you're not accruing and you're not receiving the interest payments. In these all 3 situations, we're actually receiving the interest payments and yet we're still maintaining them on nonaccrual status.

[Operator Instructions] The next question is from Charlie Arestia from JPMorgan.

I noticed in the Q there was 4 loan modifications that happened in the quarter. Can you talk to the nature of those modifications, and I'm wondering if those were all met with additional equity contributions from the sponsors?

Yes, certainly. Good question. I think as a backdrop, given the types of assets we finance, and especially if you compare what we do relative to CMBS, where it's really kind of a closed circuit, loan modifications can be done in the normal course as business plans progress, accelerate, decelerate and the like. Obviously, the impact of COVID has caused both acceleration in certain business plans and deceleration in others. In general, the things that we will tweak are going to be maturity date, certain deferral of covenants, and in almost every instance, we're getting something in return for that, that makes sense based on the specific business plan and situation. So -- and in many cases, that does include an equity infusion. And as I indicated earlier, we think that equity infusion that has been made in the normal course by these borrowers speaks to their own belief in their equity investment, and I think that speaks positively to ultimate outcome for the debt investment as well.

Okay, got it. And then, if you could just specifically provide any additional color on the Alabama student housing loan? I think the maturity was extended to December of this year, just wondering how things are progressing on that asset?

That's an asset that certainly fits into that category of a business plan interrupted by COVID and the plan is for that asset to be sold by the current owner, and I think the extension just gives really a runway for that sale to occur.

And this concludes our question-and-answer session. I'd now like to turn the conference back over to Bryan Donohoe for any closing remarks.

Thank you. I just want to thank everybody for their time today. Certainly, appreciate the continued support of ACRE and look forward to speaking with you again on our next earnings call. And if you have any additional questions, please reach out to our IR team. Thank you.

Thank you. Ladies and gentlemen, this concludes our conference call for today. If you missed any part of today's call, an archived replay of this conference call will be available approximately 1 hour after the end of this call through November 5, 2020 to domestic callers, by dialing 1 (877) 344-7529 and to international callers by dialing 1 (412) 317-0088. For all replays, please reference conference number 10148188. An archived replay will also be available on our webcast link located on the homepage of the Investor Relations resources section of our website.