Earnings Labs

Rithm Property Trust Inc. (RPT)

Q3 2017 Earnings Call· Fri, Nov 10, 2017

$14.46

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Transcript

Operator

Operator

Good afternoon and welcome to the Great Ajax Corp. Third Quarter 2017 Financial Results Conference Call. All participants will be listen-only mode. [Operator Instructions] Please note, this event is being recorded. I would now like to turn the conference over to Lawrence Mendelsohn, CEO. Please go ahead sir.

Lawrence Mendelsohn

Analyst

Thank you very much. Thank you everybody for joining us on our third quarter 2017 conference call. I'd like to, before we get started, just have everybody take a look at page two, the Safe Harbor Disclosure and then we can get on with the call. So, if we jump right to page three, in general a pretty good quarter. Good underlying economics of the loans we own and have bought, pretty exciting subsequent events as well, which we'll talk about more later, and some good NAV creation on the performance of our loans. A little more REO noise from foreclosed NPLs which I'll also talk about. We see and are experiencing continuing positive developments in loan markets and the securitization markets and our joint venture partnerships, developing those as well, and they are providing significant opportunities. In Q4, we have a lot going on as we'll see when we get to the subsequent event page. A little brief overview of Great Ajax Corp. for those a little bit less familiar, we use longstanding relationships to find loans from a diverse group of sellers. Our sourcing network is really, really, really important to what we do. It gives us the ability to acquire the types of loans that we want as opposed to just being an index fund, and it gives us the ability to buy them at the prices that we pay relative to others and we'll talk more about that a little later as well. We use our manager's proprietary analytics. We spend a lot of time analyzing data, large amounts of data for a variety of different reasons. Some of it to determine target loan characteristics and forecast performance patterns, some of it for geographic target market determination. The data analysis also helps us drive our loan…

Operator

Operator

We will now begin the question-and-answer session. [Operator Instructions] The first question comes from Jessica Levi-Ribner with B. Riley-FBR. Please go ahead.

Jessica Levi-Ribner

Analyst

Hi. Thanks for taking my question.

Lawrence Mendelsohn

Analyst

Sure. Jess, how are you?

Jessica Levi-Ribner

Analyst

Good. Thanks. How are you?

Lawrence Mendelsohn

Analyst

Good. Good.

Jessica Levi-Ribner

Analyst

So, just to go right back to your news that you're acquiring a 5% interest in Gregory, how can we think about that from an earnings standpoint and from a valuation standpoint, both for you and for Gregory?

Lawrence Mendelsohn

Analyst

Sure. And the outside Directors, I'll give them a lot of credit because they spent a long time thinking about how to structure it and initially hired Houlihan Lokey to do a valuation to kind of give them some guidance, but spent a lot of time going through numbers. One of the reasons why they decided to do only 5% was the same reason they decided that they wanted lots of warrants rather than only some warrants. The original discussion was buy a 9.9% interest and get no warrants. Then the more time they spent looking at and the more they saw demand for Gregory from people like Blackrock and DoubleLine, they decided that the optionality was really what mattered and that the best thing to do was buy a little less now in return for getting more optionality later. So, as a result, the 5% of $35 million, is a fair price. It's a little lower than what I will call the 50th percentile or right around the 50th percentile of the Houlihan valuation. But the upside from the warrants is really what drives it. From an earnings perspective, I don't think it will be hugely material in the next quarter or two, but as these JVs grow, it can become pretty material pretty quickly. But I wouldn't expect it -- realistically, the target is to get it closed by year end. There's obviously a lot of documents that have to get done. So, it wouldn't really be effective in any mathematical way to the income statement until the first quarter. And then my guess is that it wouldn't be material really until the second or third quarter. But when I think of from an NAV perspective, the valuation upside, that over time, if Gregory does what we all think it can do, I think the outside Directors will be glad to have those warrants.

Jessica Levi-Ribner

Analyst

And did you say 5% of $35 million?

Lawrence Mendelsohn

Analyst

So, it's based on the $35 million valuation of Gregory.

Jessica Levi-Ribner

Analyst

Okay.

Lawrence Mendelsohn

Analyst

And they will buy a 5% interest using that valuation and it will all be new capital, it won't be buying out a holder.

Jessica Levi-Ribner

Analyst

Okay.

Lawrence Mendelsohn

Analyst

And then they will have warrants. The prelim warrant numbers are $38 million valuation -- 5% at $38 million, 5% at $42 million, 5% at $50 million.

Jessica Levi-Ribner

Analyst

$42 million and then it jumps to $50 million?

Lawrence Mendelsohn

Analyst

Right. And that's the prelim handshake. Amongst the Gregory holders.

Jessica Levi-Ribner

Analyst

Okay. Thanks so much for that.

Lawrence Mendelsohn

Analyst

No problem.

Jessica Levi-Ribner

Analyst

Two other just slight questions on the expense line. The increased real estate operating expense, that was from that one NPL that you mentioned on the call?

Lawrence Mendelsohn

Analyst

Yes. So, about $1.1 million of impairment. One property was about 30% of that number and frustrating would be an understatement.

Jessica Levi-Ribner

Analyst

I hear you. But that should normalize or hopefully normalize on a go-forward?

Lawrence Mendelsohn

Analyst

Yes. REO is about as peaked as it's ever going to be from our NPL portfolios. So, yes, we'll see some REO over time, but the lion's share of the REO that's going to come from our late 2014 and early 2015 purchases, the lion's share has already been acquired and it is just kind of the remnants that are going to come last. Now, the good thing about the REO that comes last is the more the borrower fights, it's because the borrower is fighting because they like their house, not because they don't like their house. And as a result, the extreme tail of an NPL portfolio generally turns out to be okay or better properties and kind of the first two-thirds or first 70% tend to be the lesser properties.

Jessica Levi-Ribner

Analyst

Okay. And then one last thing, in the subsequent event area in the press release, you note that the majority of the costs associated with the acquisitions already done in the fourth quarter were accrued in the third quarter. Do you know how much that was about?

Lawrence Mendelsohn

Analyst

Off the top of my head I don't, but I have Mary here with me and she can probably look up that number. But it's probably about $600 per loan that closed plus $600 a loan that we kicked out. So, if you assume we have about 90% pull through, kind of a way to make a guesstimate would be take the number of loans and multiply it by 110% of $600.

Mary Doyle

Analyst

Yes, we have a couple hundred accrued on the balance sheet right now. It could go up or down just depending on how close we are on the accrual. What we typically do, we say what work has been done, what did we pay, that's what's unpaid. But some of it will filter over into the fourth quarter, so the work has yet to be performed and then we have to do an additional accrual.

Lawrence Mendelsohn

Analyst

Right. So, if we agreed in September to buy something in October and we ordered the title policies and we ordered the compliance checks and all that in September, that would be a Q3 -- that would be a September expense even if we acquired the loan in October.

Jessica Levi-Ribner

Analyst

Okay, great. Thanks so much.

Operator

Operator

The next question comes from Scott Valentin with Compass Point. Please go ahead.

Scott Valentin

Analyst · Compass Point. Please go ahead.

Thanks operator. Good afternoon. Thanks for taking my question.

Lawrence Mendelsohn

Analyst · Compass Point. Please go ahead.

My pleasure.

Scott Valentin

Analyst · Compass Point. Please go ahead.

Just with regard -- you guys had mentioned last quarter potential sale of some 12 for 12 or 24 for 24s in the home loan market. Is there any progress there? Any thoughts on that going forward?

Lawrence Mendelsohn

Analyst · Compass Point. Please go ahead.

Yes, we've had specific discussions with a couple of buyers. Some of which depend on what loans we decide to put into our securitization structures when we select the final populations. And then some of the loans that we think would be better off in a sale structure. So, while I don't want to say we're definitely going to sell loans, I think it's a realistic possibility that would be in the first quarter. But we need to come up with a final population. The other thing is there's a lot of REIT tax rules as to how much you can sell over time in any one year and in any rolling three-year average period. And we want to make sure that we always have at least 50% of that available to us because you never know when you see an opportunity that is so mouthwatering that you want to sell something and able to go buy it. So, we always want to leave a little bit of buffer room in the REIT tax rule calculation. So, if we were to sell loans, my guess would be it would be less than $100 million in terms of total sale of UPB, but probably north of $50 million.

Scott Valentin

Analyst · Compass Point. Please go ahead.

Okay, that helps. Thank you. And then I guess segue into the second question, last quarter you talked about achieving a rated transaction and that would lower the cost of funds even further. I guess that's still on track for the fourth quarter?

Lawrence Mendelsohn

Analyst · Compass Point. Please go ahead.

Yes. Still on track. We're working on exact timing. It could be early December, it could be early January. It won't be late December. We're also at the same time working on an unrated securitization and the order to some extent depends on some of the call rules of some of our 2015 B securitizations.

Scott Valentin

Analyst · Compass Point. Please go ahead.

Okay. And so in addition to what's in the portfolio today, you would call some existing securitizations to the--

Lawrence Mendelsohn

Analyst · Compass Point. Please go ahead.

We would likely either call or buy some loans out from some existing securitizations. We're spending a lot of time with lawyers and tax people figuring that out a good part of everyday right now.

Scott Valentin

Analyst · Compass Point. Please go ahead.

Okay. And then just final question on the dividend, I think you went through last quarter, had paid out $0.58, had earned $0.77 taxable income. I think again in this quarter you had $0.89 now of taxable income, paid out $0.88, so you're basically tracking exactly dividend to taxable income. Is that the way to think about it going forward? I know you wanted to keep the dividend kind of a base dividend, very manageable kind of a steady state upward march and then do specials every once in a while when it seems appropriate. Is that still the case, still the outlook?

Lawrence Mendelsohn

Analyst · Compass Point. Please go ahead.

Yes. The goal is steady state upward march in a predictable way. Unfortunately, performing loan taxable income is pretty predictable, but non-performing loan, because of the tax rules, is much harder to predict. Non-performing loans, as you can see from our portfolio, we've dramatically reduced as a percentage of the portfolio, but because of the absolute dollars of it from late 2014 and early 2015, it still has a material effect in any one quarter on taxable income. And the tax rules for non-performing loans were clearly not designed with REITs in mind.

Scott Valentin

Analyst · Compass Point. Please go ahead.

Okay. All right. Appreciate it. Thank you.

Operator

Operator

The next question comes from Kevin Barker with Piper Jaffray. Please go ahead.

Kevin Barker

Analyst · Piper Jaffray. Please go ahead.

Hey Larry, thanks for taking my questions.

Lawrence Mendelsohn

Analyst · Piper Jaffray. Please go ahead.

Hey Kevin.

Kevin Barker

Analyst · Piper Jaffray. Please go ahead.

Hey, how are you doing? Just had a quick question on the reasons behind the acquisition of Gregory, or at least the 5% from Gregory and the 15% warrants and the impetus for that occurring now.

Lawrence Mendelsohn

Analyst · Piper Jaffray. Please go ahead.

So, if you're an outside Director and you know that based on the servicing contract that you have with Gregory Funding, that Gregory can't service for any third-party unless Great Ajax's outside directors approve it, and unless Great Ajax -- or unless Great Ajax is making an investment in the same portfolio. So, the outside Directors to some extent control the ability for Gregory to grow. So, if you saw from some large institutional investors some demand for Gregory's servicing products, you as an outside director would say, wow, I might be able to buy something really cheap and then give it permission.

Kevin Barker

Analyst · Piper Jaffray. Please go ahead.

Got it. And then given that this is occurring, would you conceive any other consolidation of the corporate structure as it stands right now? Whether it be Gregory or other parts of the Ajax infrastructure and how the corporate structure is set up right now?

Lawrence Mendelsohn

Analyst · Piper Jaffray. Please go ahead.

Sure. I'd love for everything to be one and have it be completely internal. There is some regulatory restrictions and some ownership restrictions that made us set this up differently at the start. I think that our 20% ownership in the manager mitigates some of that, but the operating risk is still at the manager, but we get 20% of the ups basically with a zero basis. Having an interest in Gregory also helps get closer to that, especially with the optionality and the ability to have a say over its growth. I don't see anything near, near, near-term in the corporate structure that would change materially. But over time, it very well could, based on situations that we see. The one thing I will say is, for our outside Directors, it was absolutely, absolutely, absolutely important they were unwilling to make this investment in Gregory if it was going to be buying shares from the existing holder. They were only willing to do it if it was new capital.

Kevin Barker

Analyst · Piper Jaffray. Please go ahead.

Okay. All right. That's all I had. Thank you.

Operator

Operator

The next question comes from Robert Dodd with Raymond James. Please go ahead.

Robert Dodd

Analyst · Raymond James. Please go ahead.

Hi. A couple. On the issue that you explained the delta between GAAP and taxable this quarter and actually selling the REO. If -- given obviously you're at peak now, but you'd expect to continue to be selling those properties. Is that elevated delta between GAAP and taxable going to continue from that source in the near-term?

Lawrence Mendelsohn

Analyst · Raymond James. Please go ahead.

I wouldn't expect it to be as extreme as it was in this quarter. This quarter saw an awful lot of REO timing of closings. So -- and some late Q3 stuff where the cash came in later. Title companies sometimes -- I know you find this hard to believe, but sometimes title companies, when something closes on a Friday, don't send the money until Monday and it could be a different month. But I would expect that this quarter was probably a little more extreme than would be the norm. I would see some volatility from REO sales -- the other place you see it is when you have nonperforming loans that you do loan mods on, the mod is considered for tax purposes a debt for debt exchange. So, that creates taxable income. So, the more non-performing loans that reperform, that creates taxable income. And the more non-performing loans that get foreclosed on, creates taxable income. But the more REO you sell after you foreclosed on it, it creates taxable loss. So--

Robert Dodd

Analyst · Raymond James. Please go ahead.

Okay, that's really helpful actually. On kind [Indiscernible] looking into next year and maybe in Q1, selling some of your 12 for 12s, I mean would the intent be, to your point, there's rules about how much in a rolling period, et cetera, et cetera. Would the plan be to sell it in kind of a lump or spread it out? If you smear it out over a longer period, would that be easier to comply with the REIT rules, i.e., is it going to become a recurring quarterly thing or just kind of a one-time lump?

Lawrence Mendelsohn

Analyst · Raymond James. Please go ahead.

I think it's less likely to be a recurring quarterly thing. I think it will be more of a lump and it will likely coincide with the quick reuse of the proceeds.

Robert Dodd

Analyst · Raymond James. Please go ahead.

All right. Okay, fair enough.

Lawrence Mendelsohn

Analyst · Raymond James. Please go ahead.

So, think of it as, if I can sell for $100 and buy for $81 and then have it be worth $100 12 months later, I want to do that.

Robert Dodd

Analyst · Raymond James. Please go ahead.

Yes, that's a good trade. Last one, on the taxable question of that, does that, does the sale of a 12 for 12 reperforming, does that create a taxable gain or a taxable loss or anything like that?

Lawrence Mendelsohn

Analyst · Raymond James. Please go ahead.

So, it's likely to create a taxable gain with one caveat. That to the extent the 12 for 12s are loans that have already been modified, you've already had the taxable gain on that.

Robert Dodd

Analyst · Raymond James. Please go ahead.

Okay, [Indiscernible]?

Lawrence Mendelsohn

Analyst · Raymond James. Please go ahead.

It's the full employment act for tax accounting.

Robert Dodd

Analyst · Raymond James. Please go ahead.

So, beyond that, I mean on just the longer, obviously you've got a lot going on it looks like for Q4 and some sales in Q1 already. Are you seeing anything beyond that in the market that makes you optimistic or concerned about pricing or anything like that as you head into next year? I mean as you say, the pricing on NPLs has been elevated for a while. You've been keen on that pricing for a long time. Is there anything else you see in the market in terms of pricing and things like that that you think might be a little longer tailed?

Lawrence Mendelsohn

Analyst · Raymond James. Please go ahead.

Yes, I mean we've clearly seen banks, especially larger banks, being much bigger sellers than they have been in the past. And I think a lot of that has to do with home price appreciation has enabled them to be able to recapture reserves rather than take reserves when they sell. And it gets classified assets away and into someone else's hands and they get to recapture reserves. We've definitely seen funds, especially funds that were large NPL buyers, change their strategy dramatically from trying to liquidate as fast as possible to trying to modify as fast as possible, get paying and then sell. Depending on what they need in those sales, we found a number of funds who have been selling to us for years who have certain requirements like they need a mark or they need a certain amount of proceeds by a certain date. So, an auction structure doesn't work for them. So, we've actually seen more loans than ever before. It's a little bit lumpier than it used to be in the sense that while in Q2 we had a lot of transactions, in Q3 we had eight transactions, in Q4 we've already had a number of transactions and we expect a number more. But I think the size will continue to creep up of our individual transactions. But on the flip side, we're closing out a pool of one loan later this week. So, we're also seeing more activity on the small balance commercial side, which we also like. Although that will take a little while to ramp up and we have a lot of institutional investors who would like to co-invest with those, co-invest in those with us. So, the loan market is pretty strong. There clearly is a much better demand for things for loans that they believe they can go to the rating agencies and get immediately rated, almost like a rating agency enhancement level arbitrage game versus loans that they have to wait and get to perform until they get to that point, which is what our specialty really is. So, we haven't seen much price pressure. Maybe a point in our space. But in the clean pay 12 of 12 NBA current space, it's a sub 4% market now.

Robert Dodd

Analyst · Raymond James. Please go ahead.

Okay, got it. Very helpful. Thank you. Thanks a lot guys.

Lawrence Mendelsohn

Analyst · Raymond James. Please go ahead.

Sure.

Operator

Operator

[Operator Instructions] A follow-up question from Scott Valentin with Compass Point. Please go ahead.

Scott Valentin

Analyst

Thanks for taking my follow-up. I just want to confirm maybe the timing, I think you mentioned, I forget what page it was, it was the page that kind of showed performance metrics for the quarter, but you mentioned -- it was page 10. You mentioned with the lower cost of funds, you thought the ROAE, ex-REO impairment losses and lower cost of funds could get to 15% to 16%. I mean--

Lawrence Mendelsohn

Analyst

Yes, think of it as -- it's based on -- if you take our asset level finance, just our asset-based finance, not our overall finance, but just the securitization debt and the repo financing, asset level financing. If you were to reduce that by 50 basis points in costs and we would expect that over the course of late 2017 and 2018 that you'll see our securitization altogether financing reduced by about 50 to 70 basis points, our repo financing is obviously subject to where LIBOR goes. But our securitization financing, clearly where our 2015 and 2016 transactions were versus where our 2017 transaction in May and where it looks like these next two securitizations that we're working on will get done, will be significantly less expensive, perhaps as much as 75 basis points less expensive.

Scott Valentin

Analyst

Okay. So, it would be fair to say, again, to your point about LIBOR, assuming it follows the current curve, you would be 15%, 16% ROE by say Q2 2018, ex-the REO impairments and things like that?

Lawrence Mendelsohn

Analyst

Yes. Assuming we get these two securitizations done and probably one more sometime in 2018.

Scott Valentin

Analyst

Thanks. Very helpful. Thank you.

Lawrence Mendelsohn

Analyst

Sure.

Operator

Operator

This concludes our question-and-answer session. I would like to turn the conference back over to Lawrence Mendelsohn for any closing remarks.

Lawrence Mendelsohn

Analyst

Thank you everybody for being at our third quarter 2017 conference call. Mary and Russell and I thank you for joining and thank you for your questions and we're around and happy to discuss any additional questions you might have. And with that, I hope everybody has a good Tuesday night.

Operator

Operator

The conference is now concluded. Thank you for attending today's presentation. You may now disconnect.