ACRES Commercial Realty - Q3 2024

Executive Summary

• Q3 2024 delivered GAAP diluted EPS of $0.36, up both quarter-over-quarter and year-over-year, with net income allocable to common at $2.8M, supported by a $2.8M gain on conversion to REO and modest CECL reserve decrease; total revenues were $22.353M, down 6.9% YoY but up vs Q2.
• Earnings Available for Distribution (EAD) fell to $0.24 per diluted share from $0.51 in Q2, driven by lower real estate operations (-$0.14), higher preferred dividend costs from Series C moving to floating (-$0.06), and lower net interest income (-$0.04).
• Book value per share rose to $27.92 (from $27.20 in Q2), with $1.7M of buybacks (114K shares) executed at ~46% discount to book; $2.3M remains on the plan, and liquidity stood at $79.7M at quarter-end.
• Management is actively monetizing REO assets (FSU student housing opened at 95% occupancy; three additional sales in process) and is preparing for a new CRE CLO to re-lever and pursue mid- to high-teens ROEs; trajectory toward a “market-based dividend” over the next 12 months is a stated goal.

What Went Well and What Went Wrong

• What Went Well

  • GAAP EPS improved to $0.36; book value increased to $27.92, aided by REO conversion gains and buybacks at a large discount to book.
  • Portfolio performance remained stable: 94% of CRE loans current; WA risk rating held at 2.7; weighted average spread steady around BR + 3.73%.
  • Clear capital allocation roadmap: monetization of REO assets underway (FSU student housing at 95% occupancy) with intent to redeploy into originations and pursue new CLO financing to restore earnings power.

• What Went Wrong

  • EAD per share declined materially to $0.24 (from $0.51 in Q2), reflecting lower real estate operations, higher preferred dividends from Series C floating, and lower NII due to paydowns and deleveraging.
  • Revenues declined YoY to $22.353M from $24.006M amid portfolio runoff and lower net interest income vs prior year.
  • Liquidity decreased to $79.7M (from $98.4M in Q2), while CLO paydowns continued to delever the platform, pressuring near-term EAD until new financing is executed.

Transcript

Operator (participant)

Good day, ladies and gentlemen, and welcome to the third quarter 2024 ACRES Commercial Realty Corp earnings conference call. Currently, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session with instructions to follow at that time. If anyone requires assistance during the conference, please press star, then zero on your touch-tone telephone. As a reminder, this call is being recorded. I would now like to introduce your host for today's conference, Kyle Brengel, Vice President Operations. You may begin.

Kyle Brengel (VP of Operations)

Good morning, and thank you for joining our call. I would like to highlight that we have posted the third quarter 2024 earnings presentation to our website. This presentation contains summary and detailed information about the quarterly results of the company. Before we begin, I want to remind everyone that certain statements made during the call are not based on historical information and may constitute forward-looking statements. When using this conference call, the words "believes," "anticipates," "expects," and similar expressions are intended to identify forward-looking statements. Although the company believes that these forward-looking statements are based on reasonable assumptions, such statements are based on management's current expectations and beliefs and are subject to several trends, risks, and uncertainties that could cause actual results to differ materially from those contained in the forward-looking statements.

These risks and uncertainties are discussed in the company's reports filed with the SEC, including its reports on Forms 8-K, 10-Q, and 10-K, and in particular, the risk factor section of its Form 10-K. Listeners are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date hereof. The company undertakes no obligation to update any of these forward-looking statements. Furthermore, certain non-GAAP financial measures may be discussed on this conference call. Our presentation of this information is not intended to be considered in isolation or as a substitute for the financial information presented in accordance with GAAP. Reconciliations of non-GAAP financial measures to the most comparable measures prepared in accordance with generally accepted accounting principles are contained in the earnings presentation for the past quarter. With me on the call today are Mark Fogel, President and CEO, and Eldron Blackwell, ACR CFO.

Also available for Q&A is Andrew Fentress, Chairman of ACR. I will now turn the call over to Mark.

Mark Fogel (President and CEO)

Good morning, everyone, and thank you for joining our call. Today, I will provide an overview of our loan operations, real estate investments, and the health of the investment portfolio, while Eldron Blackwell will discuss the financial statements, liquidity condition, book value, and operating results for the third quarter 2024. Of course, we look forward to your questions at the end of our prepared remarks. The Acres team continues to execute on our business plan by developing a pipeline of high-quality investments, actively managing the portfolio, and continuing to focus on growing earnings and book value for our shareholders. Loan payoffs during the period were $118.1 million, foreclosures were $23.7 million, and funded commitments during the quarter were $7.4 million, producing a net decrease to the loan portfolio of $134.4 million.

The weighted average spread of the floating-rate loans in our $1.6 billion commercial real estate loan portfolio is now 3.73% over one-month term SOFR rates. The portfolio generally continues to perform, demonstrating sound and consistent underwriting and proactive asset management. The company ended the quarter with $1.6 billion of commercial real estate loans across 56 individual investments. At September 30th, there were 11 loans rated 4 or 5, which represented 23% of the par value of our portfolio, an increase of 2% as compared to the second quarter 2024, and our weighted average risk rating was 2.7 at both June 30th and September 30th. We continue to manage several investments in real estate that we expect to monetize at gains in the future. These anticipated gains will be offset by deferred tax assets, and we expect to retain the equity and reinvest potential gains into our loan portfolio.

Our student housing development near Florida State University opened in August at 95% occupancy, and we initiated a marketing effort in September to explore a sale of the asset. We will provide updates in future quarters on the monetization of this asset. During the period, we foreclosed on two loan assets. One asset is an office property in Austin, Texas. Upon conversion, we recorded a $2.8 million unrealized gain based on market offers for the property. The second asset is a $9.3 million multifamily property in Memphis, Tennessee. We are working on a plan to bring this asset to stabilization and exit with a positive outcome. In summary, the Acres team continues to be focused on the overall quality of the investment portfolio, including investments in real estate, with the goal of improving credit quality and recycling capital into performing assets.

We will now have ACR's CFO, Eldron Blackwell, discuss the financial statements and operating results during the third quarter.

Eldron Blackwell (CFO)

Thank you, and good morning, everyone. GAAP net income allocable to common shares in the third quarter was $2.8 million or $0.36 per share diluted. GAAP net income for the quarter included $10.5 million in net interest income, a net loss on real estate operations of $665,000, which included depreciation of $1.3 million, and, as Mark previously mentioned, a gain of $2.8 million or $0.35 per share resulting from the conversion of a CRE loan to real estate owned. We saw a decrease to current expected credit losses or CECL reserves of $291,000 or $0.04 per share as compared to an increase in CECL reserves during the second quarter of $1.3 million. The decrease in the general CECL reserves was primarily driven by a decrease in modeled credit risk resulting from payoffs, modifications, and net improvements in property-level performance offset by a minor worsening of macroeconomic factors.

The total allowance for credit losses at September 30th was $34.7 million and represented 2.19% or 219 basis points on our $1.6 billion loan portfolio at par and comprised $4.7 million in specific reserves and $30 million in general credit reserves. Earnings available for distribution or EAD for the third quarter was $0.24 per share as compared to $0.51 per share for the second quarter. The difference primarily resulted from a $0.14 decrease in real estate operations and a $0.06 decrease in dividends on our preferred stock due to the Series C stock converting from a fixed rate to a floating rate. Lastly, we saw a $0.04 run rate decline in net interest income resulting from net payoffs that occurred during the quarter. GAAP book value per share was $27.92 on September 30th versus $27.20 on June 30th.

During the third quarter, we used $1.7 million to repurchase 114,000 common shares at an approximate 46% discount to book value, and there was approximately $2.3 million remaining on the board-approved program at quarter end. Available liquidity at September 30th was $79 million, which comprised $70 million of unrestricted cash and $9.7 million of projected financing available on unlevered assets. Our GAAP debt-to-equity leverage ratio slightly decreased to 3.3x at September 30th from 3.6x at June 30th, primarily as a result of payoffs in our two remaining CRE securitizations, and our recourse debt leverage remained consistent at 1.1x at both September 30th and June 30th. With that, I will turn the call to Andrew Fentress for closing remarks.

Andrew Fentress (Chairman)

Thanks, Eldron, and thanks, Mark. And I appreciate everybody joining the call this morning. As we've talked about, we're in the process of monetizing not just the assets that we proactively acquired over the last couple of years, but also some of the REO assets that have arisen. We've got two examples of having done that profitably recently, and we expect that over the next two quarters, the current fourth quarter and probably the calendar first, that much of that work will be completed and we'll be able to report back to you on the results and how they're going to impact book value per share. But directionally, our projection is that it's going to be flat to better than where it is today.

With those sales and monetization, we expect to redeploy that capital back into the loan book and really turn the page to focus on earnings and our ability to drive to a market-based dividend over the forward 12 months. And so that's really where the team is organized and focused today. And we'll try to share as much specifics as we can with you during the Q&A and look forward to your questions. So with that, Operator, if you can open the lineup, we'll look forward to the first question.

Operator (participant)

Ladies and gentlemen, at this time, if you would like to ask a question, simply press star one on your telephone keypad. If at any point your question has been answered, you may remove yourself from the queue by pressing star two. Once again, that is star one to signal for a question and star two to remove yourself. We will pause for just a moment to allow questions to assemble. We'll hear first from Matthew Erdner with Jones Trading. Please go ahead.

Matthew Erdner (Analyst)

Hey, good morning, guys. Thanks for taking the question. So when it comes to monetizing these equity assets and REO, are you guys looking to fully clear this stuff off of your books before turning to originations, or are you guys open to kind of doing it hand in hand together while you're disposing of assets and originating at the same time?

Andrew Fentress (Chairman)

It'll be the latter. So as we monetize, we'll redeploy gradually. We're not going to wait until they're all completed to begin that process.

Matthew Erdner (Analyst)

Okay. That's helpful there and then turning towards the dividend, what are you guys looking for there to kind of get that back up and going? Is it full monetization of the assets and getting X amount of capital deployed? What are you guys looking for there as targets?

Andrew Fentress (Chairman)

We haven't set a specific target, but what we're going to do is to continue to monetize the assets, drive EAD, and then pay out of EAD a dividend that we believe will be growing as we, again, re-lever the balance sheet and get back to focusing on driving earnings. As you're aware, one of the things that we're fighting, if you will, on the EAD front is the deleveraging that's occurring as a result of the current CLOs being paid down, and so the liquidity that gets created from monetizations first goes to pay down the AAA tranches. So we're going to have to flip at some point to thinking about how to issue a new one, and that will impact our ability to drive earnings as well, so that's all in the near future for us.

Matthew Erdner (Analyst)

Right. Right. That's helpful there. And then can you remind me how much you guys used for share repurchases this quarter and then what's left? I think I missed those two numbers. I saw the 114,000 shares, but what was the amount there?

Eldron Blackwell (CFO)

Sure. We used $1.7 million. This is Eldron. We used $1.7 million, and we have about $2.3 million left on the program.

Matthew Erdner (Analyst)

Okay. Great. Thank you, guys.

Eldron Blackwell (CFO)

Got it.

Andrew Fentress (Chairman)

Thanks, Matt.

Operator (participant)

Next, we'll hear from the line of Stephen Laws with Raymond James. Please go ahead.

Stephen Laws (Analyst)

Hey, good morning. I'm close to the end of the year, so I want to congratulate you guys. I think your stock's doubled over the last year in best-performing mortgage REIT year to date. So I know you guys have accomplished a lot, and it seems like the next six months are going to be pretty exciting, Andrew, given your comments. And so I wanted to follow up on that. I think student housing with the FSU asset, likely the first domino to fall or first REO to sell. Can you talk about what other assets you think are near-term liquidations and how we should think about the sales playing out over the next six months?

Andrew Fentress (Chairman)

Yeah. Without getting too specific, Stephen, because we want to report on the results rather than give projections on that, but what I would say is, in addition to the one that you mentioned, there are three others that are in process now that we have a high degree of certainty on being executed over the next couple of quarters.

Stephen Laws (Analyst)

Great. And then as you think about turning the loan pipeline back on, how is that going? Are you re-engaged there? Will you do loans on any of these assets to the buyer as a way to put some money to work on assets you already know? Kind of how do we think about ramping up the pipeline and when we'll start to see new originations close?

Andrew Fentress (Chairman)

So it really is about liquidity. So as you've seen, we've got about $80 million of liquidity available to the company right now. So we want to be mindful of the appropriate amount of liquidity to keep on the balance sheet. And then as these assets, again, repay, we'll be able to redeploy that because many of them are, as you're aware, not on a CLO. And so when they sell, we don't have to pay down bonds associated with it. So it's equity that becomes available to put on a warehouse and go and reoriginate. To give you also a reminder, Acres as a platform manages capital away from this REIT. And so we are very much engaged with the marketplace each and every day and originating new loans weekly.

And so we expect to just be able to move some of that flow into the REIT once the dollars are available. So we have not been absent from the marketplace. And so this will be just allocating some of the origination to this vehicle once the liquidity profile is appropriate.

Stephen Laws (Analyst)

Great. Appreciate you highlighting that. And a little follow-up on your comments around the securitizations. I've got to get in the filings to see exactly what the FL1 and FL2 have paid down to. But when you look at the blended financing cost of those, how do they compare with kind of where the CLO markets are today? I know a couple of other mortgage REITs have recently done deals that included both a ramp period and two- to three-year reinvest period. How close are we to collapsing one of these vehicles and looking at doing a new deal and kind of how do the financing costs compare to where the CLO markets are today?

Andrew Fentress (Chairman)

So as it relates to the FL1 and FL2 terms, those were done obviously in a market environment that were particularly attractive. So I'm not sure if we collapse these two and redeploy into a new one, they're going to be at the same levels, but spreads are wider as well. So what we really focus on are the ROEs that the structure can deliver to the shareholders. And we expect, based upon what's happening in the current market with the CLO executions, it will be able to drive that kind of mid- to high-teens ROE outcome based upon the collateral that we have, what we're warehousing, what we see in a pipeline, assuming that the CRE CLO market stays at approximate levels to where they are today. So we're definitely thinking about that and have developed plans for it.

Stephen Laws (Analyst)

Great. Look forward to coming announcements and appreciate the comments this morning.

Andrew Fentress (Chairman)

Yeah. Thanks, Stephen.

Operator (participant)

As a reminder, ladies and gentlemen, it is star one on your telephone keypad to signal for a question. We'll hear next from Chris Muller, Citizens JMP. Please go ahead.

Christopher Muller (Analyst)

Hey, guys. Thanks for taking the question. So I guess following up on some of the REO topic here, I see in one of your footnotes in the deck that valuations are as of the date you acquired it. So have you guys had any type of appraisal since then or just any general thoughts of directionally, I guess, where valuations could be today given you've held some of those properties for a little while now?

Andrew Fentress (Chairman)

So you're right that we hold these at cost or depreciated value if they're being on a depreciation schedule. So we're not going to mark them until they actually get monetized. So when we actually sell the asset as part of a process, we'll record the gains then. Does that answer your question?

Stephen Laws (Analyst)

Yeah. And just any thoughts of what those gains could be? I mean, it's about $200 million of assets on the balance sheet there. So is that like a $300 million type number, or is it just going to be some incremental gains on top of that $200 million?

Andrew Fentress (Chairman)

I would categorize it as the latter, sort of incremental gains. But I don't want to be specific in terms of giving projections. We'll give you the results when they actually get completed, and I think they're going to be positive gains. They're going to be gains, not losses. I'll put it in that category.

Stephen Laws (Analyst)

Got it. Got it. And I guess on a similar note, just a quick housekeeping one. So on that unrealized gain with the REO conversion, once that is realized, will that flow through EAD?

Eldron Blackwell (CFO)

That's correct. This is Eldron. When we monetize that asset, you'll see that as an adjustment to EAD.

Stephen Laws (Analyst)

Got it. Got it. And then just one last quick one here. So it looks like the 4-year loans declined by one loan in the quarter. Was that one of the foreclosed loans, or did that loan pay off, or was it upgraded?

Andrew Fentress (Chairman)

That's correct. This market was a conversion to REO.

Stephen Laws (Analyst)

Got it. And I guess just following up on that real quick, so what drove it from going to a four to REO? Was that something that was on your guys' radar? Just any color you could give on that would be helpful.

Andrew Fentress (Chairman)

Yeah. I mean, it was always on our radar. It was a borrower that we had been working with. The borrower essentially has other issues within his portfolio and kind of ran out of steam and his ability to keep the loan current, and we went ahead with the foreclosure as our remedy in the quarter.

Stephen Laws (Analyst)

Got it. Thanks for taking the questions, and look forward to seeing this story play out over the next couple of quarters.

Andrew Fentress (Chairman)

Thank you. Thanks, Chris.

Operator (participant)

Ladies and gentlemen, that's just one final reminder. That is star one. If you would like to signal for a question, and I'll pause for just a moment. It appears we have no further questions at this time. I'd like to turn the floor back over to management for any additional or closing comments.

Andrew Fentress (Chairman)

Thank you, everyone, for joining the call. Everyone have a happy and safe Halloween.

Operator (participant)

Thank you. Once again, ladies and gentlemen, that will conclude today's call. Thank you for your participation. You may disconnect at this time.