TRTX (2021 - Q3)

Greetings, and welcome to the TPG RE Finance Trust Third Quarter 2021 Earnings Call. [Operator Instructions]. As a reminder, this conference is being recorded. I would now like to turn the conference over to your host, Ms. Deborah Ginsberg, Vice President, Secretary for TPG RE Finance Trust. Thank you. You may begin. Deborah

Thanks, Melissa. Good morning, and welcome to TPG Real Estate Finance Trust Conference Call for the Third Quarter of 2021. I'm joined today by Matt Coleman, President; Bob Foley, Chief Financial Officer; and Peter Smith, Chief Investment Officer. Bob and Matt will share some comments about the quarter, and then we'll open up the call for questions. Yesterday evening, we filed our Form 10-Q and issued a press release with a presentation of our operating results, all of which are available on our website in the Investor Relations section. I'd like to remind everyone that today's call may include forward-looking statements, which are uncertain and outside of the company's control. Actual results may differ materially. For a discussion of some of the risks that could affect results, please see the Risk Factors section of our 10-Q. We do not undertake any duty to update these statements, and we will also refer to certain non-GAAP measures on this call. And for reconciliations, you should refer to the press release and our 10-Q. With that, I will turn the call over to Matt Coleman, President of TPG Real Estate Finance Trust.

Thank you, Deborah, and thanks to everyone for joining this morning's call. I'm pleased to report another strong quarter for TRTX. During the third quarter, we saw strong performance from all parts of our business, including originations, the loan portfolio and capital markets. Starting with originations. We continue to execute our multifamily-focused investment strategy, targeting markets with strong employment, income and education characteristics. For the quarter, we closed 7 loans with a total commitment amount of $482.9 million. Two loans were in Tampa, a market that demonstrates the positive demographic trends we seek, including in-migration accelerated by COVID. As a result, the increased demand for multifamily product has led to strong rent growth, resulting in compelling lending opportunities for us. Life science is the other asset class where we focused our origination strategy and attention. While this is an asset class with newer heightened focus among many of our peers, this is a sector where our lending activity dates back almost to our inception when we closed our first life science loan in 2015. It's also an asset class where we have significant strategic advantages, including substantial lab space ownership through TPG's Real Estate Private Equity business, long-standing senior adviser and executive relationships and substantial insights through TPG's Healthcare Group. During the third quarter, we closed 1 life science loan to a best-in-class sponsor in 1 of the best submarkets in San Diego. This loan is our sixth to this borrower, reflecting the value of long-standing direct relationships and repeat business. Following the end of the quarter, we had 4 additional closings, and we have 4 more loans in the closing process. Including that activity, year-to-date closed and in closing originations now exceed $1.8 billion. One of the loans we closed after quarter end is our first post-COVID hospitality loan. While we're still carefully watching the lingering effects of the pandemic on the hospitality space, we chose this loan as our hotel reentry point because the asset is located in a very strong market, the loan is secured by a well-established property with a strong pre-COVID operating history and the transaction was an acquisition with significant fresh sponsor equity. Although the lending market is competitive, we continue to source compelling, risk/reward opportunities that deliver ROEs in line generally with prepandemic returns. The relationships, connectivity and intellectual capital resident within TPG continue to provide us competitive advantages in sourcing, market selection and asset specific insights. Turning to the loan portfolio. Interest collections continue to be very strong in excess of 99%. The only loan in our portfolio that is not current is the defaulted retail loan in Southern California. We received full repayments during the quarter of $418 million across 2 multifamily loans and 1 office loan. Subsequent to quarter end, we received full repayment of $160 million loan secured by a mixed-use asset in Houston, which was sold by our borrower in a transaction that closed last week. We originated this loan in 2018 to refinance the construction loan and provide capital for lease-up and stabilization. And while COVID may have slightly delayed the sponsor's completion of its business plan, this is a good example of the natural life cycle of our transitional loans and the active investment sales market and capital markets for high-quality real estate. Finally, on October 4, we sold 1 hotel loan for par less transaction costs, which will enable us to redeploy that capital into higher-yielding, new loan investments. I'd now like to provide a brief update on the 2 assets we've covered on prior calls: Our retail loan in Southern California and our land positions in Las Vegas. Regarding the retail loan, we continue to work with the sponsors to sell the underlying real estate and that process is actively underway. I expect to have a further update next quarter. Turning to Las Vegas. We've entered into a contract with Clark County, Nevada, which owns and operates the adjoining McCarran International Airport to sell the 17-acre south parcel for $55 million. We expect the sale to close before Thanksgiving. Simultaneously, we've launched a process to sell the 10-acre north parcel. Timing on that process remains a bit more fluid, but we're encouraged by the robust economic recovery in Las Vegas. Across the portfolio, we're seeing strong operating performance, and we're pleased with these individual loan and REO resolutions, which free up equity that can generate future earnings. In that vein, we continue to have substantial available liquidity with approximately $254 million of free cash on hand, combined with relatively low leverage, which we can use to fuel future originations and portfolio growth. I will now turn it over to Bob to cover our third quarter results in more detail.

Thanks, Matt, and good morning, everyone. We reported yesterday for the quarter ended September 30 GAAP net income of $29.3 million, net income attributable to common shareholders of $26 million or $0.32 per diluted share and distributable earnings of $27 million or $0.33 per diluted share which represents a 1.45x coverage to our current common dividend and 1.2x coverage to the sum of our current common dividend and the dividend on our Series C preferred stock. Net interest margin decreased 2.2%, our weighted average loan coupon declined to 4.62% from 4.67% and the weighted average floor of our loan book declined to 1.33% from 1.44%, all primarily due to loan repayments of $460.4 million and lower coupon new originations of $433.6 million, along with deferred fundings of approximately $37 million. Book value per common share increased quarter-over-quarter to $16.15 from $16.03 due to earnings exceeding dividends paid on our common and preferred shares. We increased in September our quarterly dividend on common shares by 20% to $0.24 per share from $0.20 per share, which generates a yield to current book value of 5.9% and a yield to current share price of approximately 7.3%. Our CECL reserve declined modestly by $300,000 due to continued improvement in operating performance across our loan book, the reclassification to held-for-sale at quarter end and the subsequent sale on October 4 at par of an $88 million hotel loan offset by the general loan loss reserve related to $482.9 million of newly originated loan commitments with longer duration than our existing loans. Our reserve rate, excluding 1 specifically reserved loan, was 84 basis points compared to 85 basis points for the preceding quarter. Book value per common share before giving effect to our CECL reserve was $16.86 versus $16.75 in the second quarter. Optimization of our capital structure and thoughtful loan portfolio construction contribute to efficient utilization of your shareholders' equity. At quarter end, our stable debt capital base was 78% nonmark-to-market and 75% term funded with CRE CLOs. During the quarter, we extended our credit facilities with Goldman Sachs for 3 years and Bank of America for 1 year. Our weighted average spread for loan portfolio borrowings was 1.61%. Low-cost, long-term liabilities are a key ingredient in our ability to originate quality first mortgage loans at moderate loan to values. During the quarter, we utilized $367.8 million of reinvestment capacity in FL3 and FL4, created by loan repayments received during the third quarter to term fund 6 separate loans in the following property types: Multifamily, 53%; hotel, 44%; and office, 3%. Generally, the cost of funds in our CLOs is equal to or less than our secured credit facilities and the advance rate is higher, thus reinvestments improve our ROE and mitigate our financing risk. Due to this reinvestment activity and including the sale at par on October 4 of that $88 million hotel loan, only 1 of our 8 remaining hotel loans at quarter end was financed outside our CLOs. All of our hotel loans remain financed on a no-mark-to-market basis. Two other capital recycling efforts will soon bear fruit. The sale of the south parcel of our Las Vegas land REO and the short sale repayment of our only nonaccrual loan, a $21.2 million carrying value retail loan in Southern California. We expect to utilize existing capital loss carryforwards to absorb any gains that may result from the sale of our south parcel or the north parcel in the future. Loan originations of $483 million reflect our continuing focus on multifamily and life sciences properties in top 25 markets, located in high growth, low tax states primarily in the Southeast, Southwest and Western United States. The ratio of funded commitment to total commitment was 90%, consistent with prior quarters and reflecting our emphasis on financing shorter business plans with less execution and market risk. This keeps a high proportion of shareholder capital at work. Due to our strong origination space in 2021, fully 24% of our loan portfolio is comprised of post-COVID loans. At quarter end, our loan portfolio weighted average as-is LTV ratio was 66.4%, virtually unchanged from the 66.7% for the prior quarter. Risk ratings remained unchanged at 3.1 quarter-over-quarter. We collected 99.4% of scheduled interest. We expect our only nonaccrual loan will be repaid shortly. Our PIK balance at quarter end was only $3.5 million, a reduction of $700,000 quarter-over-quarter due to PIK repayments of almost $1 million outpacing new PIK accruals of a mere $200,000. All of our modified loans are performing. We have substantial investment capacity and defensive capital due to $254.3 million of available cash, available undrawn borrowing capacity of $47.4 million, unencumbered loan investments of $154.2 million that are eligible to be pledged under our existing financing arrangements and a debt-to-equity ratio that currently stands at 2.4:1 as compared to our target in excess of 3.5:1. So with that, we'll open the floor to questions. Melissa?

[Operator Instructions]. Our first question comes from the line of Tim Hayes with BTIG.

You got Ethan Saghi on for Tim Hayes. Just want to start, I know the dividend was just raised in September, and you've talked about taking a conservative approach on that front. But as we just saw another quarter of you all handily covering the dividend with distributable earnings, could you touch on what the trajectory of the dividend is going forward? Could we see an increase for the fourth quarter or possibly early next year?

It's Matt. As you know, we don't give dividend guidance. We do, however, regularly review the dividend with our Board, and that's something that we'll keep doing in the regular cadence of meeting with them. So I think beyond that, it's hard to be much more specific. Obviously, we're pleased by the healthy coverage that we saw this quarter.

All right. Yes, I understand that. All right. My next question is just going to be so originations this quarter were highly focused on multifamily and life sciences, 2 really competitive asset classes right now. Do you have a target allocation for these sectors? And how should we think about the impact on your portfolio yield as the concentration mix favors more defensive assets where yields are tighter?

Well, we don't have a -- we don't have a target. I mean we do see a high proportion of multifamily loans paying off also, as you would expect with the healthy real estate capital markets that we're seeing. And so if you compare the portfolio mix to about a year ago, you actually don't see that much change in multifamily, although it does obviously make up a higher percentage of both repayments and new originations. And it is reflective of where we think there's good relative risk/reward along with other asset classes. You heard me say in my remarks, we did our first post-COVID hospitality loan. As you know, we've done quite a bit of life sciences. And earlier in the year, we did some traditional office as well. So we're not focused exclusively, but we do like the overall risk/reward that we see in the mix of originations that we've reported. If you look at overall yields on the portfolio, as I said, we're continuing to see yields that are in line with pre-COVID. A lot of that has to do with the healthy and very accretive financings that we're able to get on the liability side, which Bob and his team have so ably led and which we've talked about before. But we are seeing spreads that when combined with that financing are generating returns and ROEs that remain generally in line with what we've seen historically.

Great. And then I'll just ask 1 last quick question. You guys are increasing exposure in the West. Just which markets are most attractive? And are you able to get more spread in those geographies?

You said in the Western United States.

Yes.

Yes. San Diego has been a very good life sciences market for us. We do like -- across other asset classes, we do like, I think many of the demographic and secular trends that we see in the Mountain West, Arizona, I think many of the migratory patterns that have been well characterized coming out of COVID. So we see them out in West as an attractive investing area, and we like the demographics there and then for obvious reasons. There are a number of West Coast markets, including San Francisco and San Diego, where we found good life sciences activity.

And I know Tim is looking forward to catching up with you all later.

We look forward to it.

Our next question comes from the line of Rick Shane with JPMorgan.

One housekeeping thing and then 1 more longer-term conceptual question. In terms of the hotel loan that was sold post quarter, you said it was sold at par with transaction costs. Did you recover transaction costs? Or is there a modest loss associated with the transaction costs, just so we can get that correct within our models?

Rick, thanks for your question this morning. We sold the loan at par. We incurred modest legal and brokerage fees of slightly less than $500,000 in connection with that transaction.

Okay. Perfect. The second question is probably more important. In some ways, we're looking at '22 as a transitional year for the industry. And that's really a function of floors rolling off creating some pressure on -- and I'll think about this on an ROA perspective to begin with, creating ROA pressure, but then ultimately a rebound in base rates hopefully or presumably as we move through the year if you take the forward curve. How are you guys thinking about that? And then given your relatively low leverage, do you think there is an opportunity to offset that ROA compression on the ROE side through a little bit of additional financial leverage.

Sure. We'll answer in reverse order. With respect to the use of leverage, I think we've been consistent and clear about our strategy, which is we are under levered and through COVID that was intentional. But we're currently levered about 2.4:1, if you look at some information we put out over the summer, it's available for those of you listening in our most recent corporate presentation, which is on our website. If we run the company at 3.5:1 leverage or thereabouts, we have, a, the ability to originate substantially more loans than we currently carry to the tune of $1.2 billion or $1.4 billion, somewhere in that range; and b, we do intend to use a little more leverage. I think -- so the answer to your question is, yes, you should expect to see more leverage. And I think you'll see that during 2022 as we continue to originate loans in conformance with the strategy that Matt described. With respect to part A of your question, which is basically NIM compression as the short end of the curve rises and the potential pressure that, that could put on our legacy loans that have very high floors, our weighted average floor across the whole book at this quarter end was 1.33%. That's down about 30 basis points from the prior quarter. All of that is obviously due to repayment of "legacy loans" and putting on new loans with floors between 10 and 25 basis points. So we are cognizant. Some of it is just a function of do repayments occur faster than the rise in LIBOR. And there are a lot of commercial reasons why borrowers would probably want to do that. And then there are also other tools available to us and others to immunize us or at least in part, immunize us from the impact of rising rates like hedging.

[Operator Instructions]. Our next question comes from the line of Don Fandetti with Wells Fargo.

I read a report recently that said commercial real estate transactions are up 20% from 2019 levels. I was just curious if you -- kind of as you look towards '22, given the potential change in the rate environment if you expect that to remain robust? And then also if you could comment on what you're seeing in terms of New York office? How you're feeling about that market?

Yes. I'll start, Don, and others should chime in. We're certainly seeing, and I think, feeling the uptick in transaction volume, which is not surprising, I think, given the availability of capital. Generally rates that have continued to be very low, even if there are changes on the horizon, we could debate how near term that is. And obviously, the continued impact of substantial government stimulus to offset the COVID pandemic, and we've seen that and I highlighted that or at least alluded to that in my earlier comments, for instance, with the repayment of the Houston mixed-use loan that I talked about earlier. And we're certainly seeing that I think as it impacts both our repayments, which return to what we think of as a more normalized run rate level this quarter compared to the first 2 quarters of the year. And we're also seeing that in the strength of our pipeline and transactions that are available for us to evaluate to finance. So we certainly affirm that as we evaluate the current conditions. As we look ahead, I think it's a little hard to know exactly, obviously what's going to happen with rates. They're presumably not going to get lower. There are obviously inflation fears and real estate in many instances can be a very effective inflation hedge. So on the one hand, that could be a bit of a further tailwind. Obviously, there could be industry-wide impacts with higher rates that affect pricing and other factors. Although in the scheme of things, I was looking at a rate chart the other day, if you look at rates from kind of 1980 to the present, we're, by any measure, still going to have historically low rates, even if there were to be modest increases next year. I think we're also seeing totally normal spreads between cap rates and interest rates. And so that could also be another factor that moves next year. But I think in general, we remain bullish on the real estate and real estate capital markets outlook as we look ahead to '22.

Yes. And I'll jump in there also. This is Peter Smith. Don, I think what you're saying is like, yes, we are seeing a lot more transaction volume and 20% feels about right. It might even be a little bit higher. I think part of that stems from -- there's just -- there's been a lot of borrower enthusiasm to continue to push cap rates lower, which means for us as lenders and stewards of capital, what we need to do we spend a lot more time to run a lot more deals into the garbage can a lot faster, just primarily because a lot of this transactional volume is because people are now paying low 3 caps or tighter in certain growth markets. So we really need to be vigilant and throw them quickly into the garbage and move on to something that makes a little more sense from a basis when you look at dollars per door, dollars per square foot, we really like that. And then Matt touched a little bit on the coupons, yes, we're still seeing -- we're seeing a lot of actionable deals in the coupons in the low 3s to upper 3% range. And as you can see where we're tracking with our [indiscernible] appears to be right in the middle there. So we feel pretty good about that. And with respect to New York City office, we see a lot of New York City office deals, and we haven't really acted or haven't gotten enthusiastic about any of them. But on the portfolio that we have in our book, I think collectively as a group were surprised that the leasing -- how well some of the leasing is going in some of the buildings and how that's going and didn't really expect that, but there is still -- there are a lot of leases getting signed in New York City right now more than people think.

Ladies and gentlemen, this concludes our question-and-answer session. I'll turn the floor back to Mr. Coleman for any final comments.

Thank you, Melissa. As you've heard this morning, we've again delivered strong quarterly results and are well positioned for further growth in assets and earnings as we enter Q4. We look forward to speaking with you again early in the New Year. Thank you.

Thank you. This concludes today's conference. You may disconnect your lines at this time. Thank you for your participation.