DigitalBridge Group - Earnings Call - Q3 2020

Transcript

Operator (participant)

Greetings and welcome to Colony Capital's third quarter 2020 earnings conference call. At this time, all participants are on a listen-only mode. A question-and-answer session will follow the formal presentation. If anyone should require operator assistance during the conference, please press star zero on your telephone keypad. As a reminder, this conference is being recorded. I would now like to turn the conference over to your host, Severin White. Thank you. You may begin.

Severin White (Head of Investor Relations)

Good morning, everyone, and welcome to Colony Capital's third quarter 2020 earnings conference call. Speaking on the call today from the company is Marc Ganzi, our President and Chief Executive Officer, and Jacky Wu, our Chief Financial Officer. Before I turn the call over to them, I'll quickly cover the safe harbor, some of the statements that we make today regarding our business operations and financial performance, including the effect of the COVID-19 pandemic on those areas that may be considered forward-looking.

Such statements involve a number of risks and uncertainties that could cause actual results to differ materially. All information discussed on this call is as of today, November 6th, 2020, and the Colony Capital does not intend and undertakes no duty to update for future events or circumstances.

For more information, please refer to the risk factors discussed in our most recent Form 10-K filed with the SEC and our Form 10-Q for the quarter ended September 30, 2020. With that, I'll turn the call over to Marc Ganzi, our President and CEO. Marc.

Marc Ganzi (CEO)

Thanks, Severin, and thank all of you for joining us this morning and taking time to learn more about Colony Capital and the digital transformation we're in flight on. In terms of the agenda today, I'd like to start with a business update. I'd like to highlight some of our key accomplishments in the quarter, and then I'm going to turn it over to Jacky, who will walk you through our 3Q financial results and some of the progress we've made in our digital revenues and our digital business.

I'm going to finish today with a case study from our digital playbook. I want to highlight the progress we've made at DataBank, how we're creating the value for our shareholders, and where we see that business continuing to grow on the edge. Look, it's been an incredibly busy quarter again, so why don't we get right into the materials, and I'd please ask you to turn to page five.

Before I detail the significant progress we've made in the quarter, I'd like to start by briefly reviewing our strategic plan, particularly for investors that are now new to the Colony 2.0 story. We've had a profound transformation underway, transitioning from a diversified REIT managing real estate assets across many verticals to a singular platform that's focused exclusively on digital infrastructure, which is cell towers, data centers, fiber, and small cell infrastructure.

The key rationale for that transition is detailed right in the center of this slide. First, I want to align with powerful secular tailwinds that are driving consumer and enterprise demand for more, better, and faster digital connectivity. Second, I'm a big believer in simplification, business simplification, and a simpler narrative for you, our investors. Three, we've said this many times over the last couple of quarters, but the key to this entire business plan is predictable digital earnings, and this will be the engine that drives our stock forward in the coming years.

Lastly, attractive returns on invested capital. I've been in the digital infrastructure space for over 26 years, and what ultimately drives value creation over time and through cycles are attractive risk-adjusted returns that this business can reliably generate. With that context, I'd like you to flip to the next slide and update you on two key highlights from this last quarter that really exemplify our digital transformation and asset rotation.

Over the summer, we completed a lot of work to strengthen the Colony balance sheet, which put us in an amazing position to accelerate our digital transformation that you're seeing now. This past quarter, we executed on both sides of the great rotation. This slide is really the story of Q3 in a nutshell.

First, we signed an agreement to sell our hospitality business. It is a significant step in harvesting our legacy assets. One, we were able to achieve positive equity value for Colony shareholders despite the pressures that are facing the lodging sector today. Second, we reduced our consolidated debt by $2.7 billion. As most of you know, delivering the business is incredibly important to me as it positions us for success down the road.

Lastly, we're removing the distraction from a non-core asset. This simplification of the business is core to our narrative. On the right side, we have the other side of this rotation, which is investing in digital, and that's why you're here. We've made some great progress the last quarter, leading DataBank's acquisition of zColo. This $1.4 billion deal transforms DataBank into a national-scale edge data center operator with 29 Tier 1 and Tier 2 markets, 64 locations, tripling our footprint across the United States.

It's not just the square footage. It's really about the cross-connects. 30,000 cross-connects, up from 7,000. As I'll explain later, this is a big deal when you look at how networks are evolving and how our customer's architecture is changing. The deal was financed with $145 million of our balance sheet capital, maintaining our 20% ownership stake, along with $500 million of new co-investment capital that pays us fee and carry, in addition to arranging over $600 million in debt financing to support the acquisition.

Finally, this deal is highly accretive to the DataBank platform, and that is very critical. We talked about our ability to acquire high-quality digital assets at attractive and accretive levels, and this has proved positive, which we'll explore a bit more later in our presentation today. Next slide, please.

The hospitality sale is really a story and a narrative around our business simplification. The deal represents a significant milestone for two of my key priorities: one, simplifying the business; and two, deleveraging the balance sheet. Between the sale of these portfolios and the resolution of our hospitality business, we are shedding $3 billion of debt. That's a 44% reduction. Our debt-to-asset ratio declines from 67%-55%. Annual cash interest will decrease by over $110 million and will generate over $7 million in annual G&A savings.

We also successfully achieved positive equity value for Colony shareholders from the sale of this business and it's worth noting that the transaction value, $2.8 billion, was within 1% of our total carrying value on the balance sheet. I want to give special attention and credit to Dave Schwartz and the entire lodging team at Colony for getting this critical transaction done.

Next page, please. So let's go a little deeper into the story of combining DataBank and zColo. Our acquisition of zColo is really the story of the quarter in terms of building our exposure to high-quality digital assets. The table and the map presented here give you some context for what a transformative deal this is. First, three times the number of locations, which only increases the opportunity for our customers to work with us on the edge.

Second, it gives us a national footprint across 29 Tier 1 and Tier 2 markets. Third, this kind of scale is increasingly relevant as hyperscale technology and content companies locate compute resources and nodes closer to their customers. DataBank is their edge colocation provider of choice. One of the most exciting aspects of this deal will be to see what Raul Martynek, and his team do with these assets, which really were not core to Zayo given their focus on fiber.

The team at DataBank has been laser-focused on customers and building the premier edge data center company to serve them. They have the experience in acquiring and integrating acquisitions and a consistent track record of posting organic growth year-over-year, as we've demonstrated to you in the past. As some of you know, we also are the controlling shareholder of Zayo.

The seller, our Digital Colony Partners fund, working in concert with EQT, ran the sale process for zColo given DataBank's interest. It's worth noting this transaction is really a win-win for both parties. While DataBank achieves scale and accretive growth, Zayo divests of a non-core asset and generates $1.4 billion of additional liquidity that it can use to delever and fund future growth in their core fiber verticals of wholesale fiber and enterprise fiber.

We telegraph to many investors when they ask us about Zayo, what was the core thesis of investing in Zayo, and I always tell them it was about simplification. It was about returning Zayo to its core roots, which is the leading provider of connectivity services of long-haul metro fiber and enterprise fiber solutions for customers all across the U.S. and Europe.

There's a lot of great stuff happening at Zayo right now, including the announcement two weeks ago of Steve Smith agreeing to become our CEO. Steve's track record at Equinix was impressive: 17 times increase in equity value from $2 billion-$34 billion and an increase in revenues of over 10x from $400 million-$4.4 billion. We're excited to see what Steve is going to do with Zayo as he helps it lead it into its next phase of growth.

I'm honored and privileged to call Steve Smith my partner, and I also want to thank Dan Caruso as our partner as well. Dan will continue to be a vital member of our board and is founder of the business. We look forward to his input in helping Steve transition into this great new business. Look, at the end of the day, we couldn't be more thrilled.

We've got great leaders running all of our businesses: Raul Martynek, Steve Smith, Dan Caruso. All of these folks are really, from my perspective, the secret sauce at Digital Colony today, having great leaders building great businesses. Next slide, please. So I always like to refresh every quarter our promises made, promises kept slide. A lot of you seem to like this slide, so let's get to it and share with you some of the things that have happened inside of the quarter.

First of all, progress on delivering. Many of the key corporate initiatives to strengthen our balance sheet that we announced last quarter were finalized during Q3. One, we paid down the revolver. We now have $500 million available on that revolver today. We closed the $400 million strategic Wafra investment.

We issued $300 million of 2025 convertible notes, using those proceeds to pay down the bulk of the January 2021 convertible notes. We successfully tendered for $81 million of the remaining January 2021 convertible notes. There's $32 million remaining, and this yields significant interest savings for us. Second, we've continued to invest in high-quality digital assets. We closed the $190 million Vantage stabilized data center portfolio. Vantage SDC is what we call it.

Vantage SDC completed a watershed transaction in the financing markets about a month ago, closing a $1.3 billion securitization at an all-in rate of 1.8%. This lower interest rate drives improved IRRs and increased annualized cash flows derived from this investment for the entire portfolio of $22 million a year. So yield goes up, returns go up, and it's really an impressive example of our execution in high-quality digital assets.

Lastly, as I mentioned on the previous pages, we acquired zColo for $1.4 billion, and we've also invested $145 million from our balance sheet to lead this transaction while generating $500 million of incremental co-invest. Harvesting legacy assets and streamlining our organization. We've achieved $46 million in G&A savings year to date, and we expect to save $60 million, exceeding our original $40 million plan.

$430 million of year-to-date OED monetizations against a budget of $600-$700 million projected for full year 2020. Our hospitality sale led that narrative: $2.8 billion of hotels sold in the quarter, shedding $2.7 billion of debt and reducing our debt load by 44%. Last but not least, I've talked a lot about organic growth and delivering on core digital growth. $2.3 billion of net FEEUM raised year to date. 33% year-to-date FEEUM growth exceeding our 15% guidance.

We've more than doubled our promise in terms of our performance on this metric. $1.3 billion in net FEEUM was raised after 6/30/2020. All of this was co-invest capital. It enhances our balance sheet economics, like we mentioned in Vantage SDC and, of course, in DataBank. Inside the quarter, we raised an incremental $800 million for Vantage Europe, and we have $500 million in pending commitments for other co-investment vehicles as well. So it was a great quarter in fundraising.

So at the end of the day, it continues to be a story about execution. Execution, from my perspective, is the most important thing and all of these are about our key people delivering in each of their silos. I'm very proud of our progress inside the quarter. With that, I'm going to turn it over to Jacky, who is going to walk us into the finance section of our presentation today. Thank you, Jacky.

Jacky Wu (CFO)

Thank you, Marc. Good morning, everyone. As a reminder, in addition to the release of our third quarter earnings, we filed a supplemental financial report this morning, which is available within the public shareholder section of our website. Starting with our third quarter results on page 11, the company has continued to make progress in its digital transformation.

Digital assets under management increased to 50% of total AUM at the end of the third quarter and over 55% of total AUM on a pro forma basis, including pending digital transactions and the anticipated sale of the hospitality portfolio. For the third quarter, reported total revenues were $317 million, which represents a 10% increase from second quarter revenues of $287 million.

While this is a market improvement from last quarter, it is still a 12% decrease from the same period last year, primarily as a result of the impacts of the COVID pandemic on our legacy business, as well as from legacy asset sales. GAAP net loss attributable to common stockholders was $206 million, or $0.44 per share.

The significant sequential improvement is primarily due to our recognition of a $2 billion impairment charge on our legacy assets in the second quarter. Total company core funds from operations, excluding gains and losses, was $5 billion in the third quarter. This turned positive from a $19 million loss last quarter, driven by continued digital growth as well as improved performance on our legacy assets.

Turning to page 12, as we continue to simplify our business and further the digital transformation, we are also streamlining our financial disclosures for the legacy business while emphasizing our growing digital results in order to provide transparency to our investors. The prior digital segment has now been separated into three segments: Digital Investment Management, Digital Operating and Digital Other. We also introduced additional digital disclosures in the supplemental financial package this quarter.

First, Digital Investment Management consists of our recurring IM and performance fees generated through the management of our third-party equity capital. Second, the Digital Operating segment consists of our balance sheet investments in DataBank and Vantage Stabilized Data Centers. We will grow this segment as we continue to deploy capital into future direct balance sheet investments.

Third, Digital Other includes the equity method earnings of our inaugural Digital Colony Partners fund and our digital listed securities investments vehicles. These investments are held at fair value. On the legacy side of the business, we will continue to have a separate Wellness Infrastructure segment, so that segment remains unchanged. However, we are combining the Other Investment Management, Colony Credit Real Estate, and Other Equity and Debt segments to a new segment named Other.

We will continue to provide similar subsegment disclosures, but this change reflects the digital focus of the business going forward. Hospitality is no longer a segment, and we have moved it to discontinued operations given the pending sale transaction that Marc previously discussed. Moving to page 13, during the third quarter, the company continued to rebound from the impacts of COVID, generating positive Core FFO, excluding gains and losses of approximately $5 million.

The Core FFO improvement was driven by continued execution of our corporate strategy. First, we continued to grow our digital assets, which contributed $3 million in incremental earnings in the period. We had also committed to simplifying our business. We realized $2 million of incremental savings as a result of previously announced G&A reduction plan and $3 million in reduced corporate interest expense due to our efforts to delever the business.

Lastly, our legacy business improved quarter-over-quarter, driven by expense savings and national reopening efforts from the trough of the COVID pandemic. Turning to page 14, consolidated digital revenues increased to $119 million, driven by acquisitions of DataBank at the end of last year and Vantage Stabilized Data Centers in July of this year. Looking at the right side of the page, consolidated digital fee-related earnings and adjusted EBITDA increased to $54 million during the third quarter.

Our digital fee-related earnings declined slightly due to investment in personnel to support fundraising efforts and recent and future growth in digital fee-earning equity under management. Despite our increased investment in our platform, our recurring margin still improved to 46% or by 500 basis points over the prior quarter. Turning to page 15, we are reiterating our 2023 digital growth guidance.

We continue to target digital fee revenues of $150-$200 million by 2023 and digital fee-related earnings of $80-$110 million. In addition, we continue to expect to achieve $175-$225 million of Digital Operating EBITDA and $150-$200 million of Digital Operating core FFO. Our acquisition of Vantage Stabilized Data Centers, as well as our recently announced acquisition of zColo, are just two examples of our commitment to achieving those goals.

Turning to page 16, we have made great progress this year towards our digital transformation. Digital AUM has increased $12 billion year to date, with digital AUM increasing from 32%-55% of total AUM. In fact, since the inception of Digital Colony, Colony Capital has rotated over $45 billion in AUM, increasing digital to over $25 billion AUM while transitioning $20 billion of legacy assets.

Moving to page 17, including our pending and announced transactions, we will have achieved 33% growth in digital fee-earning equity in 2020, again, far exceeding our original 15% guidance set forth earlier this year. To recap, we raised over $700 million of fee-earning equity for the Zayo acquisition at the beginning of the year. We also raised over $900 million in net fee-earning equity for our Vantage data center platform through the third quarter.

Additionally, we expect to raise an additional $500 million in net fee-earning equity in the fourth quarter for pending transactions, which include zColo and additional Vantage platform fundings. Including these fourth quarter pending transactions, our digital fee-earning equity under management will be approximately $9.1 billion and we have plenty more to look forward to as our fundraising and M&A pipeline continues to be robust.

Turning to page 18, as we previously discussed, our execution of a new revolver facility, elimination of our original 2021 convertible notes maturity, and our partnership with Wafra has eliminated all liquidity risks and allowed us to accelerate our digital transformation and deploy dry powder towards digital acquisitions. Our current financial position is strong. With a 29% reduction in corporate liabilities, I am proud to say that we have virtually eliminated all near-term debt maturities.

In addition, we now see ending liquidity at $650-$750 million by year-end, which is a $25 million increase over the estimate we disclosed last quarter. This improvement is driven by our continued expectations that we will monetize $200-$300 million of legacy assets in the fourth quarter, with over 50% of those monetizations already under contract, and I am thrilled that our higher guidance still includes expected digital acquisitions such as zColo and our growing M&A pipeline. With that, I'd like to turn it back over to Marc, where he will lay out further details on our digital playbook. Thanks.

Marc Ganzi (CEO)

Thanks, Jacky. In this final section, I'd like to discuss how Colony is growing at the edge by taking you through a case study on DataBank. I believe this demonstrates the opportunities we're focused on, the value we bring to our portfolio companies, and that we ultimately create for you as a Colony shareholder. Next slide, please.

First, I want to give you some context. Everyone has been talking about the edge for the better part of the last 18 months, and for us, we really want to break the edge down and really explain what it means and why it's important. Let me start in the upper left of this slide on page 20. While computers continue to grow rapidly over the last 10 years, what's been underappreciated from my perspective is the exceptional growth in demand that's yet to come.

In just the next five years and beyond, as artificial intelligence systems move out of the lab and Internet of Things applications are deployed, machine-to-machine communications underpins use cases for AI, IoT, cloud computing, which will cause compute demand to skyrocket.

Moving a little bit over to the right, to the upper right here, where exactly does this demand from compute come from? Well, our belief is it's increasingly coming from the edge, and that's never been more prevalent than it's been in COVID. It's mobile, where the consumer enterprise customer is interacting with the network in real time.

This is not a short-term trend. It's really important to focus on that. It's part of a multi-decade cycle that will see compute migrate back to a distributed model at the edge of networks. Shifting to the lower right, that shift to decentralized computing is already forcing changes in network architecture as these new use cases require lower latency, of course, faster speeds, and greater device efficiency.

These new applications don't have time to send all that data back to headquarters. The answer has come to bring that data back in real time, which means you need compute resources close to the end user. This is really the definition of the edge. Lastly, lower left, which ultimately, as you'll see in the lower left graphic, will drive strong growth in edge server deployment.

As this chart highlights, Cowen estimates over the next eight years, edge servers will support 10% of cloud workloads globally. This is up from around a little over 1% today. That's over 1.5 million servers sitting in edge data centers around the world. That's a huge opportunity for DataBank, our edge data center portfolio company and it's that opportunity that underpins the transformative acquisition of zColo that we helped realize alongside DataBank's phenomenal management team.

Next slide, please. I've outlined the transformative nature of this transaction earlier, but here, let's cover the benefits to you, Colony shareholders. Last quarter, we detailed our creative DataBank acquisition strategy. Well, here it is in action by the numbers. The zColo deal will reduce our effective multiple to 15x on a blended basis, well below our public peers and our original entry multiple, which was around 22x. What's interesting is that the 15x multiple doesn't even fully capture the true economics to Colony shareholders.

On top of the solid core investment economics associated with our $145 million equity investment, we've raised $500 million of fee and carry-bearing co-investment capital, similar to exactly the same playbook we ran on Vantage Stabilized Data Center Co.. Those investment management earnings boost our returns, driving our Core FFO yield from 8%-10% day one, and as Core FFO stabilizes over the next couple of years, the yield migrates to north of 10%.

This is very difficult to accomplish in today's market where digital infrastructure assets are trading at all-time highs. From my perspective, it's a hybrid model built to benefit our shareholders first, high-quality balance sheet growth enhanced by asset-light investment management earnings. Next slide, please, so the case study here is all about creating value, and we've talked about it before. It's our Digital Colony value-add playbook.

The acquisition of zColo is really just the latest example of how we create alpha in our strategies today. Since 2016, the Digital Colony team has helped transform DataBank from a regional Midwestern data center operator to a national-scale edge data center provider by adding value across three key areas. First, we augmented the management team. I called on my good friend, Michael Foust, of 25 years, who is the co-founder of Digital Realty, who's been a Digital Colony advisor since our inception to be chairman of DataBank.

One of our key operating partners, Raul Martynek, who I've known since 1997, became our CEO in 2017. Raul is incredible. If you've ever had a chance to meet Raul, you should absolutely ask to go down to Dallas and have a meeting with him because he's amazing. This is a CEO that's been there five times now. He's very driven. He focuses on customers, driving organic growth, and has effectively integrated acquisitions as DataBank has grown rapidly.

We've also helped identify and recruit most of the senior leadership there to support Raul. Second, strategic development and financing. The Digital Colony capital markets team has been integral to the DataBank transformation. We raised all the equity and co-invest capital of over $1.4 billion, and we've arranged $1.5 billion of debt over the past four years, creating the fuel for DataBank to grow. The team's experience and network of relationships is manifesting itself right now as we finalize the zColo acquisition.

Lastly, M&A execution. Our senior team at Digital Colony has helped source and execute five acquisitions inside the DataBank platform, zColo will be number six. We brought all of our expertise to bear on this transformative deal. Justin Chang, the CIO of our digital balance sheet, has done an amazing job pulling all the pieces together. On top of that, we also helped seal DataBank's investment in EdgePresence, the micro data center company that we just invested in. These two deals, in fact, really position DataBank for the future in edge computing.

Next slide, please. So really, this is a story about executing on converged networks. The strategic investments that Colony is enabling today position DataBank to be at the forefront of the evolution of next-generation converged networks. From the zColo acquisition that gives us a scaled national footprint, with on-ramps to global internet traffic, to the far edge with EdgePresence and their modular data centers located at the base of cell towers, these are really important deals that sync DataBank's profile with the demand tsunami we see coming down the road in edge computing.

Look, from my perspective, one of the really interesting facets of the EdgePresence deal is how it highlights the benefits of being part of the Digital Colony ecosystem. Not only is DataBank making a $30 million strategic investment into this business, but EdgePresence is also partnering with Vertical Bridge, one of our other Digital Colony portfolio companies, to deploy their micro data centers at the base of Vertical Bridge's towers.

We're already in flight at 12 locations, and Vertical Bridge has tower locations in over 9,000 locations across the United States today. So this is really an equation, from my perspective, of taking multiple portfolio companies looking to ultimately deploy infrastructure for the benefit, most importantly, of our customers and providing these integrated solutions is really the future of where digital needs are going.

My conclusion here is simple. The breadth, power, and value of the Digital Colony platform is on full display here. Edge computing is a huge opportunity, and we're helping DataBank capitalize on it while building value for Colony shareholders. Next page, please. So look, I want to finish where we ended the last quarter, which is my commitment to you to continue to deliver on our commitments. That is the best thing this management team can do for you as our shareholders.

This is the slide we're going to keep coming back to as we did last quarter. Where are we? How are we following through on our commitments? So first, let me summarize for you. Our key commitment: addressing near-term corporate debt maturities and enhancing our liquidity. We paid down 2021 converts. We issued $300 million of new 2025 converts. We amended our revolver, and we've cleared the road to this digital conversion.

So from my perspective, that mission has been completed. Committing significant capital towards digital infrastructure growth. We deployed over $530 million between DataBank, zColo, and Vantage SDC in the last year. This is really another significant balance sheet investment that we made this quarter with zColo and what I can commit to you is that we will make another significant balance sheet investment over the next six months.

Our pipeline is robust and replete with opportunities, and we're working hard to bring you more high-quality assets that produce investment-grade, long-term predictable earnings for you, our shareholders. Third, we'll continue to deliver on core Digital Investment Management growth. We've already executed over 100% in terms of our FEEUM growth through three quarters. We still have another 90 days left in the year to continue to outperform this number and let me tell you, we plan to do that.

Our focus will be to grow the flagship digital equity and emerging credit franchises across our investment management platform. We have the best digital fundraising team in the world, and we will continue to go out and raise new capital supporting all of our great ideas. Lastly, simplification. Legacy asset monetizations and cost reductions have been core to my thesis in turning this story around.

We've monetized $430 million of legacy assets to date. The hospitality business is now under contract, and we've achieved $46 million in run-rate G&A savings year to date. By the end of the year, we believe we'll achieve $600-$700 million in total legacy asset sales. We'll continue to sharpen our focus on G&A, and we pledge to you that we'll hit $60 million in run-rate G&A savings by the end of the year. Look, it's been an incredibly busy quarter.

We've got another 60 days left in the year to continue to go out and execute, and at the end of the day, for us, the story remains unchanged. It's a story around execution and our pledge to you to build long-term value for our shareholders. I want to thank you for your time today, and I want to thank you for those of you that invested with us. I want to thank you for your trust.

Lastly, I want to thank all of you for listening to the story that continues to evolve as we change Colony into the leading digital infrastructure company in the world. Thank you.

Operator (participant)

At this time, we'll be conducting a question-and-answer session. If you'd like to ask a question, please press star one on your telephone keypad. A confirmation tone will indicate your line is in the question queue.

You may press star two if you'd like to remove your question from the queue. For participants using speaker equipment, it may be necessary to pick up your handset before pressing the star keys. One moment, please, while we poll for questions. Our first question comes from Jade Rahmani with KBW. Please proceed with your question.

Jade Rahmani (Managing Director)

Thank you very much. You talked about the investment pipeline. How does it split between what you might call proprietary deal flow, deals in which DigitalBridge may have a legacy investment or some history or interest and de novo originations? Generally speaking, where do you think the economics are better from a colony shareholder perspective, considering what you mentioned with respect to elevated valuations in the digital space?

Marc Ganzi (CEO)

Hey, good morning, Jade. It's Marc. How are you?

Jade Rahmani (Managing Director)

Good, thanks.

Marc Ganzi (CEO)

So look, our pipeline has never been busier, Jade. We've got about 31 deals in the pipeline today, accruing to about a total of about $20 billion in enterprise value. I would say five of those deals are currently either in the process of being finalized or have been executed, and of those five deals that will fall into the next quarter, all of them were proprietary. In other words, there was not a banker involved. There was not a broker where we sourced those transactions through the Digital Colony proprietary pipeline.

So from my perspective, the best way that we're going to create value for our shareholders today is not running to overheated auctions, but really sticking to our knitting, which is focusing on great relationships with CEOs that are in our sector and really making the pitch to them that we are the best partner of choice because of our relationships, our experience, our access to capital.

That's been a narrative that's worked really well for us. I think we can continue to do that. If you look at the progress of Fund 1 and you look at the 10 investments we made in Fund 1, eight out of those 10 transactions, Jade, were proprietary. So as we look at the next five deals we're doing, all of those being proprietary, this team has a great history and track record of creating proprietary deal flow.

Look, it's not to suggest that we don't look at auctions. We certainly do. We've looked at a lot of the big auctions that got done in this quarter. We just believe this is a moment in time, Jade, to be price disciplined. So that's where our focus is going to be: big pipeline, high focus on proprietary deal flow, and to maintain a high degree of discipline right now.

Jade Rahmani (Managing Director)

When you think about capital priorities and current liquidity, how much excess capital is available for investment? How do you split that between new investments and raising third-party capital to supplement that capital base and what are your thoughts around potentially redeeming preferreds or finding other ways to reduce leverage versus making new investments?

Marc Ganzi (CEO)

Thanks. Once again, it's almost like a bit of a broken record, so I'm not trying to be evasive with you, Jade, and we can certainly get into further detail on this later. But what I would say is, look, we always look at the way to deploy capital in all different ways, right?

So first, when we first came onto the scene and we were part of this management team alongside of Tom Barrack and Mark Hedstrom, Jacky Wu, and myself, we made it a priority to deliver the balance sheet first, and we did that a little bit last year in the fourth quarter, and we continued to execute on that in the second quarter and third quarter.

Now, at the same time, we've also been clear with you that we've had great success selling assets. We've been very disciplined. We've been very careful. Nothing's been a fire sale. We've taken our time. We've found the right buyers, and we've rotated cash to the balance sheet.

At the end of the day, as Jacky pointed out in our presentation today, we have the great privilege of having access to close to almost $900 million of total liquidity when you factor in our revolver. Now the question is, how do we deploy that cash, and what are the best opportunities?

I think what we've evidenced in the last two quarters with Vantage Stabilized Co., the DataBank investment, zColo, EdgePresence, we are prepared to deploy our balance sheet in an intelligent way. What I mean by intelligent, Jade, is if we have a great idea and we have a great opportunity, we use the strength of the balance sheet to get it under control. Then once we get it under control and we're going through the process of closing it, we optimize for the right mixture of balance sheet capital and third-party capital.

Largely, if we think the idea is really good for a certain type of investor, for example, that likes Yield and Vantage Stabilized Co., we go focus on that group of investors and we raise the capital. If you look at DataBank and zColo, which is a bit more of a growth-oriented asset, there's a certain type of investor that really likes those kinds of investments. We were very successful in raising capital for that idea.

So I like, Jade, this mixture of using the balance sheet and using third-party capital. I don't want to lock you in on a formula like, "Oh, we're going to use 20% of balance sheet capital and raise 80% third-party." That's really not how we think about it. We think about the opportunity to obviously deploy our own capital side by side with our partner's capital, but always with a keen eye in terms of preserving liquidity. As you've heard Tom Barrack say in previous quarters, cash is king.

Right now, we're dealing from a position of strength, which is really great for Colony shareholders. We have a lot of cash right now. We see also a lot of opportunity, and so we're going to continue to invest in high-quality assets for the balance sheet. We're going to continue to put cash to work, Jade, in new GP commitments. I think we've telegraphed that to you that our digital equity business, our digital credit business, and our digital liquid securities platforms are all growing.

They're all out raising third-party capital right now and we do so by putting up a pledge of our balance sheet capital and our investment management business. So I wish I could give you a strict formula, but I think there's a little more science to this than art. Sorry, there's a little more art than there is science.

But at the end of the day, we're deploying the balance sheet prudently and most importantly, everything we're doing, Jade, make sure you understand this, is with the eye towards growing long-term predictable digital revenues, and this was a great quarter for that. If you look at our growth in digital EBITDA, you look at our growth in terms of total digital revenues, we're making enormous progress quarter-over-quarter in terms of our growth rates.

I don't think you'll find another digital REIT out there that's grown quarter to quarter as much as we have in our digital revenues, and that's the key. This story right now is the fastest-growing digital REIT out there in terms of our revenue growth and our EBITDA growth quarter to quarter.

Jacky Wu (CFO)

Jade, one thing I want to just add is that on page 18, where I do walk the liquidity to our ending liquidity balance for the year, the $650-$750 already nets out in-process pipeline deals like zColo that has already been announced, and that's already netted in there. So we continue to guide the $200-$300 million of monetizations in the fourth quarter of this year. So that'll get you to that $1-$1.1 billion range.

That would be the gross amount of available liquidity for dry powder and deals net of any minimum cash. The last piece on the preferred equity redemption involves a couple of things. One is we did amend our revolver facility earlier this year. There is a bit of a break in terms of redemptions of preferreds.

As we continue to do well, we will look for a new facility at some point in time, and we will look to redeem those. We will be disciplined about it in terms of what the best return is versus digital opportunities.

Jade Rahmani (Managing Director)

Okay. I applaud the swift actions the management team has taken. It is definitely refreshing and very good to see the progress. I wanted to ask you about a particular one, as Tom Barrack might call it, a Rubik's Cube, which is CLNC.

There's an overhang in the mortgage rate space because people are looking at commercial real estate as a long cycle to recover and potential impairments, loan losses on the credit front. So that's one thing that they have to address.

Secondly, there's the liquidity that go into managing that. Finally, there is some excess investment capacity. But when you look at stocks like CLNC and there's many others, TRTX, Ladder to name a couple, trading at 40%-50% of book value, it means that investors are also potentially assuming an eventual dilutive capital raise. So CLNY owns 37% of CLNC and to me, that bodes for an opportunity.

You could have CLNC buy back some of those shares at a premium to where it's trading, yet it still would be wildly accretive to its book value, wildly accretive to its earnings. It would reduce the overhang of CLNY's 37% stake because people do wonder when those shares will be liquidated. Yet, it would provide CLNY with fresh capital to accelerate the digital transformation. How do you think about that as a potential option for both CLNY and CLNC to explore?

Marc Ganzi (CEO)

Jade, it's almost like you've bugged our investment committee. So look, seriously, first and foremost, I want to applaud Mike Mazzei, Andy Witt, David Palamé. For those of you that had the chance to hear that earnings presentation, it's also another great story of transformation and execution.

When we brought Mike Mazzei on board to run that business unit, we couldn't have been more clear about what the objectives were. First and foremost, to make sure that we shore up our loans that had any issues with them, hit repo lines on two loans, gravitating to liquidity.

Mike's done an amazing job stabilizing that portfolio, returning cash to the balance sheet, and now that business is poised, as you heard yesterday, to play offense and be selective, and they'll play offense inside of their sandbox. I don't get too involved in what Mike and his team does. I think they're doing a great job of executing, and as one of their largest shareholders, we couldn't be happier with the progress that's happening at CLNC.

When you look at its peer group, CLNC got ahead of its issues quickly. Mike addressed those issues. He stabilized the story. He rotated to cash and now we have an immutable position where we can play offense, and we'll continue to recover book value. You saw the shares perform well after market last night. They performed well today. We have a lot of confidence around that management team's capability.

In the meantime, we keep our options open, Jade. No option is off the table for CLNC. We've made that clear two quarters ago. We made it clear a quarter ago. I'll make it clear today. As we rotate to digital, if there's a good opportunity to harvest the hard work that's been done at CLNC, we have an open ear, and we'll listen to whatever proposal comes across the table.

In the meantime, it's just ruthless execution from Mike and the team, and that's what you're going to continue to hear from us. There's no fire sale in any of these silos anymore. We have cash. We have patience and we have good execution happening at all of our business units today.

Jade Rahmani (Managing Director)

Thank you very much. Appreciate your time.

Marc Ganzi (CEO)

Thanks, Jade.

Jacky Wu (CFO)

Thanks, Jade.

Operator (participant)

Our next question is from Randy Binner with B. Riley Securities. Please proceed with your question.

Randy Binner (Managing Director of Financials Equity Research)

Hey, good morning. Thanks. That's actually a pretty good segue into what I was curious about, and that is just a little bit more color on the legacy asset sale expectation you have for the fourth quarter that you gave in the sources and uses slide, the monetizations column.

Marc Ganzi (CEO)

Yeah. So look, I'll let Jacky give some of the granular detail. Let me give you the 50,000-foot architecture. Randy, and good to hear you this morning. Thanks for tuning in. First and foremost, as it relates to what I would call the four legacy silos, obviously, Lodging is in flight and being sold to Highgate.

So obviously, they'll be operating that business, and we wish them the best. It obviously had a good recovery in the third quarter, and Lodging will eventually recover, and that'll be a good investment for them. Wellness Infrastructure continues to exceed our expectations.

It also had a very good quarter. Rich Welch and the team are doing a great job. That portfolio has proven to be fairly pandemic-proof, and so we're very pleased with that. Much like CLNC, Randy, we have an open ear towards different ways to harvest that portfolio. Now that we've got Lodging in our rearview mirror, CLNC and healthcare Wellness Infrastructure come into sharper focus.

So both of those business units are doing exactly what they said they were going to do and I actually say both of them have exceeded our expectations for the year. Having those two businesses now stable and poised for ultimate harvesting is a really good place to be. We're playing off our front foot. We're not playing off our back foot. The last core vertical of value is OED. Once again, another business unit that has outperformed our expectations.

Jonathan Grunzweig, our CIO there, has done a great job harvesting and monetizing assets this year. We've got three to four more monetizations happening right now in the fourth quarter. As they come due, you'll see the press releases, and you'll see the information released. But we plan to be at the upper end of our guidance for OED monetizations this year.

It's just, once again, making sure, Randy, that we underpromise and overdeliver for our investors. I can say with a lot of conviction that Wellness Infrastructure, CLNC, and OED have absolutely outperformed our expectations this year.

Jacky Wu (CFO)

Yeah. The details, Randy, is $200 million-$300 million in the fourth quarter that we'll plan to guide. As Mark mentioned, we are looking at the higher end of that range. Those three to four deals already give us more than enough coverage for the lower end of that range and obviously, in addition to a couple of singles and doubles, we should get there. So we feel good about it, and that's part of the rotation that Mark has outlined.

Randy Binner (Managing Director of Financials Equity Research)

Yeah. No, $200 million-$300 million would be a good number and that's net to CLNY, correct? So that would be-

Jacky Wu (CFO)

Yeah, that's correct.

Randy Binner (Managing Director of Financials Equity Research)

When you get after you pay down the asset-level debt.

Jacky Wu (CFO)

That is correct, Randy.

Randy Binner (Managing Director of Financials Equity Research)

So where does that story go in 2021? Because for our sources and uses to continue to see digital investment, similar to the zColo deal, you're kind of funding that with legacy sales, right, on the margin, which is exactly the plan. But our model wants you to keep doing that. So these assets you're selling, are they closer to book value?

What's left? Does it get a lot harder? Because I think there's still some lodging and energy assets in there that might be a little bit harder to sell. Can you just give us a glimpse of what that ongoing OED liquidation process will look like in 2021, considering how good this fourth quarter result seems to be?

Jacky Wu (CFO)

Yeah, sure, Randy. The way I kind of look at it, I'll start with your last question, which is where we think we can monetize these things. Under fair market value accounting, we kind of look at it based on the last data points from potential third-party buyers. So that definitely is evidence for us to mark those marks. So in our supplementals, you'll see a total net equity value of about $1.5 billion in that other equity and debt line. We do believe that we can get close to that amount.

That's the basis of why we mark those things at that amount. In terms of 2021, I think that you should expect that we should be able to perform similar to what we did in 2020. We expect by 2023 that we will have fully rotated. Even if you take it on a straight line basis, you get there. We've clearly shown that we can outperform the sales.

Randy Binner (Managing Director of Financials Equity Research)

All right. That's great. I just have one more, and I'll let someone else hop on. But have you disclosed a GAAP book value for the quarter? There's a lot of great new disclosure here, but we're just looking for that number still.

Jacky Wu (CFO)

No, not yet.

Randy Binner (Managing Director of Financials Equity Research)

All right. Very good. Thanks a lot.

Marc Ganzi (CEO)

Thanks, Randy.

Operator (participant)

As a reminder, if you'd like to ask a question, please press star one on your telephone keypad. One moment, please, while we poll for questions. Our next question is from Colby Synesael with Cowen. Please proceed with your question.

Colby Synesael (Investment Banking)

Great. Thank you. First time on the Colony call. I actually have questions related to digital portfolio construction. One of the, I guess, segments of digital infrastructure that you're not really involved in right now is on the residential broadband side. I'm just curious if that's something you're pursuing and we could expect to see added to the portfolio at some point.

Then secondly, I appreciate that there's this focus on bolstering the digital side of the business and selling off the legacy portions, and you obviously want to kind of get there as soon as possible. So to sell digital assets would be somewhat counterintuitive.

But what are your thoughts on potentially selling off some of the digital assets, effectively recycling capital, putting a mark out there to kind of show that these values do, in fact, have the value that you perceive them to have, given where I would guess demand is for these assets today and potentially what you'd be able to sell them at? Thank you.

Marc Ganzi (CEO)

Yeah. Thank you, Colby. First time here, and I'm optimistic it will not be your last time here. So appreciate you tuning into the story. Let's start out with fiber-to-the-home. We've continued to look at every fiber-to-the-home opportunity for the last five years, and we've looked at opportunities in Europe. We've looked at opportunities in the U.S., LATAM. Let's break this down. There are really two kinds of models, Colby, today in fiber-to-the-home.

One is you can partner with a carrier, a telecommunications provider, a cable co, and you can own their infrastructure and enter into long-term agreements with them where you provide, on a wholesale basis, that network infrastructure, and so we've done that, actually. We did that with Cogeco in our Beanfield acquisition, and it was done at the right price, and it's been a great partnership, so we own that fiber.

They're our primary customer, and we've now gone on through Beanfield to lease up that fiber to other folks, and we continue to build laterals to support them and support other customers, so that wholesale business, we like quite a bit, and effectively, we did that deal at just a little over CAD 130,000 per route mile, which was about 1.4 above replacement cost. Now, replacement cost in the U.S. is about $65,000 per route mile.

So I'm always looking at this, Colby, with a sharp angle towards what can you do? Can you buy it, or can you build it? So generally speaking, we want to be pretty darn close to replacement cost when we're buying stuff and you heard me say it earlier. We're going to be price disciplined.

Then if you take that forward into other business models, which is more consumer-facing, and certainly you could look at, for example, a transaction that was done this week, which was Astound, and that is a consumer-facing business that does not have a long-term contract and you face a very competitive landscape in those markets where you're looking at a brand that's an overbuilder. So typically, you're either the second or you're the third operator in that market, and it's very competitive. You face a lot of churn.

You've got to deal with going into the household and actually connecting and at the end of the day, we looked at that deal and said, at over $400,000 per route mile, that doesn't make a lot of sense. Maybe it makes sense for one type of investor, but it really doesn't make sense for us.

Then I look at that and I say, "Gee, we bought Zayo, and we paid net of zColo, we paid about $12.6 billion, and we paid roughly about a little over $100,000 per route mile, which was about 1.3x replacement cost versus paying 5.34x replacement cost for something like Astound, where you have no long-term contracts and a lot of churn." So the devil, Colby, you've heard me say this before, in towers, data centers, fiber, small cells, the devil is in the underwriting.

You've got to be really careful about how you underwrite these asset classes. You always have to look through to the quality of the infrastructure. You have to look at the quality of the network. You have to look at the cost of the network because today, one of the great privileges we have at Colony Capital today is we're building. We're building new towers. We're building tons of data centers globally. We're building new fiber routes. We're building new small cells.

One of the great advantages we have at Colony Capital is our heritage, which is we're operators. 26 years of earning customers' trust and having the privilege to build their networks and being entrusted with their networks. We have a toggle that other investment managers don't have, and sometimes even our peer REITs don't have, which is we can build. We're very good at building.

We're very good at permitting. We're very good at design. We're very good at construction, RF engineering. All of these skills are resonant at Colony today, and that gives us a huge advantage to serve customers. Having a three-decade resume and reputation with our customers is totally central to our business model at Colony going forward.

So we look at that as massive comparative advantage for us. So that's my answer on fiber-to-the-home and how we look at fiber-to-the-home business models. Also, by the way, we're doing a little bit of fiber-to-the-home in Latin America at ATP and at Highline, where we enter into long-term, 15-year, 20-year, 25-year contracts with investment-grade customers where we're building network for them.

For me, the best place for Colony shareholders to play fiber-to-the-home is in long-term investment-grade contracts, not short-term consumer-facing businesses with high churn. Now, second part to your question about selling legacy assets, and you're right. It's a really good time to be a seller, so we had four investments in the last 16 months, Colby, that have been realized.

We did a partial recap of Vertical Bridge last June. It was a very successful transaction for our shareholders. We're delighted to partner with Caisse de dépôt, and that was a great outcome for Vertical Bridge shareholders, and that mark was roughly at about a 1.8 MOIC and just a little under an 18% IRR for our shareholders. We then went out and we had a partial realization of DataBank.

Now, that was two shareholders, one shareholder fully exiting, another shareholder partially exiting. We had an opportunity for our balance sheet to buy a piece of DataBank, and we did that. For the shareholders that exited, it resulted in roughly about a 22%-23% IRR and 2.1 MOIC. That was a great mark for our investors.

Then this year, we have two other marks to report. Obviously, the sale of the Vantage Data Centers at a 5.1% GAAP rate was a great outcome for the original Vantage shareholders. Vantage was an investment we made in 2017. The shareholders that got liquidity in that resulted in a 32.2% IRR for those shareholders.

Then lastly, ExteNet. We announced a transformative financing for ExteNet a couple of weeks ago. John Hancock and CDPQ leading the way were selling a third of ExteNet. This will result in about a 1.8 MOIC for investors. ExteNet's been a great investment for us, five years in the making. We're excited to welcome these two new shareholders.

What we've been very cleverly doing, Colby, is we've held some assets, but we've also marked assets, and we've found ways to rotate capital and to create returns for our existing shareholders and to continue to back those platforms with longer-term capital to help grow those businesses.

I mean, you look at logos like Vertical Bridge and Vantage and ExteNet, and they're all market leaders. While we're returning capital, getting the marks that investors want, we're also raising new capital and making sure that we can pilot those investments and steward them to the right outcomes. I couldn't be more happier with our four marks in the last, call it, five quarters.

I think our LPs and clients are very happy with our performance on the private investment side. I think our public shareholders are also quite happy with our performance in digital, particularly over the last two quarters.

Colby Synesael (Investment Banking)

Great. Thank you.

Marc Ganzi (CEO)

You're welcome.

Operator (participant)

Thank you. We have reached the end of our question and answer session. I'd like to pass the floor back over to management for any additional closing comments.

Marc Ganzi (CEO)

Look, thank you. I couldn't be happier with the quarter. This all starts with people at the end of the day. I think that this has been another great quarter of simple execution. This is what you can expect from this team going forward, is to continue to keep our heads down, our eye on the prize, which is this rotation, our promise to you to continue to get the cost structure correct, our promise to you to continue to raise capital, and ultimately, our promise to you to deliver long-term, high-quality digital learnings.

None of this happens without the dedicated professionals around the globe at Colony Capital, and I'm very much in their debt and have enormous gratitude and appreciation for the hard work that's happening. If you think about what's transpired since we did the DigitalBridge merger last July, it's been a profound amount of rotation. We've rotated, Jacky, I believe, $45 billion in assets in less than a year and a half.

That would be probably, and I don't have the data in front of me, but it's got to be one of the biggest AUM rotations in REIT history, and so this is hard work, but it doesn't get done without our people. I want to thank all of our Colony employees and partners around the globe. It's you that wake up every day and make it happen.

I want to thank you, our shareholders, for having your trust in us, and we'll continue to deliver for you in due course. So look, we're going to get back to work. We got a busy fourth quarter. In fact, we got a bunch of calls lined up and some new deals we're doing. So let us get back at it, which is continuing the rotation. Once again, have a great weekend, everyone and thank you for your time today. Take care. Thank you.

Operator (participant)

This concludes today's conference. You may disconnect your lines at this time, and we thank you for your participation.