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Intrinsic Value is all-important and is the only logical way to evaluate the relative attractiveness of investments and businesses.
Good day, ladies and gentlemen. Welcome to the Timbercreek Financial's Third Quarter Earnings Conference Call. [Operator Instructions] As a reminder, today's call is being recorded. I would now like to turn the meeting over to Blair Tamblyn. Please go ahead.
Good afternoon, everyone, and thanks for joining us today to discuss Timbercreek Financial's third quarter 2020 financial results. I'm excited to be joining the call today and to step back into the CEO role for the company. As we announced last week, we've made several management and Board changes, which reflect the recent reorganization of Timbercreek with the debt and equity businesses being separated into 2 companies. I talked with many of our investors and analysts over the years, and I look forward to reconnecting and connecting with others as we move forward. Cam, as many of you know, held those roles with both businesses and will continue in a senior capacity to the equity business. He has kindly joined us on the call and is working with me and our team to transition responsibility seamlessly. In addition to the CEO transition, we announced that Tracy Johnston has joined us as the new Chief Financial Officer, replacing Gigi Wong. We're excited to welcome Tracy to the CFO role, and I know that she's looking forward to the mandate. Tracy has been with us since July and brings a ton of industry experience to Timbercreek. In our Q3 earnings press release from Friday, we also announced several changes to the Board resulting from the reorganization. Scott Rowland, who many of you have heard from our recent calls, is the Chief Investment Officer of Timbercreek and is joining the TF Board as a Director. Steven Scott, a long-time independent director, has reached an agreement in principle to acquire an ownership position in Timbercreek Capital and will become a non-independent director as a result. To ensure the appropriate ratio of independent directors, Ugo and Cam have agreed to resign from the Board. As well, we welcomed Amar Bhalla as an independent director. Amar has strong governance experience and over 20 years experience in the acquisition, repositioning and redevelopment of GTA-based real estate across asset classes. On behalf of the entire team here, we thank Ugo, Cam and Gigi for their significant contributions to the company and look forward to collaborating with them as they continue to grow their direct real estate and public securities business, under the Hazelview brand. From an investor's perspective, there will be no impact to the operations and financial performance of the company. At the end of the day, we manage a portfolio of commercial mortgages and the investment team responsible for sourcing, underwriting and servicing these deals, led by Scott, Julie and Geoff, has not changed. They're supported by a deep team of more than 40 professionals focused on commercial real estate debt strategies. As we move forward, we are committed to regular communication with our shareholders and being a highly accessible and responsive team. In addition to Scott and Tracy, Geoff McTait, Head of Canadian Originations and Global Syndications, is on the call today to answer questions. I'll pause here and turn it over to Cam for a few comments. Cam?
Thanks, Blair. I will be brief as the main purpose of this call is to talk about the portfolio and to answer your questions. The past 4 years have been a highly rewarding experience for me professionally and personally. I've greatly enjoyed working with the team and interacting with all of you. This is a first-class commercial real estate lending platform. TF has the people, clients and expertise to continue delivering on its investment objectives. Let me turn the call over to Scott to discuss the portfolio and market trends. Scott?
Thanks, Cam. As we near the end of 2020, 3 quarters of the year into the COVID pandemic, we are pleased to report that our mortgage portfolio continues to be resilient with solid Q3 results. This performance underscores the benefit of our emphasis on durable income-generating assets and our conservative portfolio positioning. In recent quarters, we have presented additional detail around the number of loans that are current with their interest payments. This continues to tell a positive story. At quarter end, we had only one COVID-related delinquency, and we have no loans on deferred payment plans. Now that's not to say that there has not been an impact on our business from COVID. In the third quarter, as an example, we experienced lower new investment activity, which can reduce [ delinquency ] fee income. The summer months are often slower, and this was compounded this year by an industry-wide slowdown in transaction activity. In this environment, borrowers and lenders are taking more time to transact, which pushes out time lines on new deals. Despite this near-term headwind, we delivered distributable income in line with our expectations. In addition, we had a material uptick in repayments in the final month of Q3, which, when combined with our debt facility, will enable us to capitalize on new investment opportunities in the market. To that end, while we remain cautious in our investment approach, we have seen an increase in market activity, and our fourth quarter pipeline is strong. Turning to Slide 7. In terms of some key portfolio metrics, the story is consistent with prior quarters. Close to 84% of our investments were secured by income-producing assets at quarter end with approximately 15% in land and construction. At 50% of the portfolio, multiunit residential remains the largest segment. Apartments provide diverse, durable cash flow streams, which are important characteristics, especially in an economic downturn. And finally, we remain almost entirely invested in urban markets, which provide superior tenancy and asset liquidity. A few additional metrics to highlight relative to Q2 results. First mortgages represent 90.4% of the portfolio, down slightly from 92% in Q2. Our average loan-to-value decreased to 68.2% from just below 70%, reflecting the conservative approach we are taking on new deals. And despite a reduction in the prime rate, we have been able to maintain our weighted average interest rate, or WAIR, to date. The WAIR of our portfolio was 7.2% in Q3 and the exit WAIR was 7.2%, similar to Q2 and within our historical range. A high percentage of floating rate loans with floors in our portfolio, 77% of the portfolio at quarter end, has muted the impact of recent interest rate cuts. And lastly, term maturity was 1.1 years, down from 1.3 in Q2. Now as I mentioned, new investment activity was lighter in the quarter as was expected in this market environment. However, turnover returned to a more typical level at 12.3%, compared with 6.4% in Q2, reflecting the repayment activity I highlighted earlier. In aggregate, we invested roughly $90 million in new high-quality mortgage investments as well as additional advances on existing mortgages. We also had repayments of $146 million. On to Slide 10. We have a highly diversified portfolio, which contributes to its relatively low risk profile. At quarter end, we had 129 loans at an average size of just under $9 million. We currently have no hospitality exposure and remain cautious on the retail segment. At quarter end, our retail exposure was just under 16% with the vast majority of these loans being in well-located urban street front locations. These locations have held up well with COVID. They had experienced high tenant rent collections, and we are current with our interest payments on all of these loans. The primary concern in the retail landscape remains with traditional format fashion-oriented malls. We are very fortunate to have limited exposure here. But that takes me to some specific loan updates, and I will start with Northumberland Mall. Northumberland is a previous Stage 3 loan that was sold at par at the end of 2019. Timbercreek provided a 3-year loan, which is held at fair market value to allow sufficient time to execute on a multiyear stabilization plan. As a smaller market retail asset with existing vacancy, this property has faced additional headwinds with COVID. This included a 4-month interest deferral that we provided for the months of May through August. Beginning in September, the borrower has returned to making their contractual interest payments. Now given the challenges of this asset, we have been working with the borrower, and we are undertaking a strategic review to evaluate ways to optimize this property, including potential mixed-use scenarios. I could reduce the retail footprint. And as an example, we could add multifamily components to this site. Next, I will highlight the Sunrise multifamily portfolio. Net rental income remained stable in the year-to-date period, and the assets are performing well despite a challenging economic backdrop in Saskatchewan. Overall, collection rates and occupancy remained strong though at quarter end at around 92% and 89%, respectively. And finally, I wanted to discuss the increase in Stage 2 loans as reported at the end of quarter 3. Included in the numbers is a $6.8 million loan on a traditional format retail asset that went delinquent in August. We are currently in discussions with the borrower on a forbearance plan and continue to monitor this loan. Primary increase in Stage 2 involves $31.9 million of exposure with Cresford across 3 loans. And we've discussed our Cresford exposure on prior calls with the primary loan being the $100 million YSL development project on Yonge Street, of which Timbercreek Financial has a $13 million interest. By way of background, we have been working closely with Cresford and have provided additional time for them to sell their assets beyond the maturity dates of our loans. This process has been taking more time than anticipated so the decision was made at the end of this quarter to pursue additional legal remedies as per our rights as a lender. Now our decision to escalate the matter led to a reclassifying these loans to Stage 2 in the current financials. To be clear, we are taking these actions to accelerate the repayment of the loans, but we remain very confident in the value of the underlying real estate and our ability to exit these loans with full repayment. And now as a further update, just this past Friday, we have entered into a new forbearance agreement on the YSL project. This will involve Cresford recapitalizing the project. As part of this agreement, our loan facility will also be paid down from $100 million to $80 million, and interest will be prepaid to the end of the year. We have provided an extension option into Q1 2021, but the borrower has also indicated a desire to repay the loan in full prior to year-end. Finally, our other 2 loans at Cresford are both income-producing assets and both are current on their interest payments. Following a similar process, we expect to be repaid in full over the next quarter or 2, and as such, we plan to see these positions exit Stage 2. So some final thoughts for me on Slide 11. Through the past several quarters, our collections have remained high and largely unaffected by COVID. Subsequent to quarter end, we collected approximately 99.6% of October 2020 interest payments, which is materially in line with historical collection rates. This performance highlights the creditworthiness and financial capacity of our borrower base and the value of investing in income-producing assets. As I mentioned earlier, although new investment activity was modest in the third quarter, we have seen a material increase in our fourth quarter pipeline. While we remain focused on investing safely and prudently, given the uncertainty of COVID, we continue to see opportunities that provide an attractive risk return profile. At this point, I'll turn it over to Tracy to review the financials in more detail.
Thanks, Scott, and good afternoon, everyone. I look forward to talking with many of you over the coming months and quarters. First, I'll turn to the income statement highlights. Before I get into some of the specifics, I would like to call out 2 initiatives we have executed on in recent quarters to enhance our financial flexibility in light of COVID and potential market uncertainty. The first initiative was the use of our normal course issuer bid to acquire a significant number of shares at an accretive price relative to book value. To date this year, we have repurchased almost 2.5 million shares for $20 million at an average price of $8.05 per share. In a similar initiative, last month, we repaid $45.8 million of 5.4% convertible debentures using the existing credit facility. The credit facility was also renegotiated to increase its current size to $535 million from $500 million. The existing interest rate for new fundings of 2.5% on the credit facility is significantly less than the debenture, and given its revolving nature allows us to save even further during periods when the funds are undrawn. This initiative will result in approximately $1 million of interest savings through to July 2021 when the debenture would have matured. These cost management initiatives will enhance net income on a go-forward basis or allow for similar profitability on reduced revenue, should the team take a more conservative view on portfolio growth. Looking at a few income statement highlights. Net investment income for the third quarter was $24.1 million, which was down from prior year, mainly due to a negative fair value adjustment of $0.6 million on a mortgage investment due to a delay in the commencement of the development of the project. Net rental income of $344,000 in the period and $1.1 million year-to-date reflects stable occupancy levels, offset by a moderate operating cost increase. Lender fee income was down over the prior year to $1.5 million compared to $3.2 million in Q3 2019, consistent with the lower loan turnover, primarily as a result of the impact COVID-19 has had on the market. Third quarter net income was solid at $14.4 million, an increase from $13.9 million in the same period last year. Reducing financing costs for the period was an [ $0.8 million ] fair value gain on the interest rate swap. Basic and diluted earnings per share increased to $0.18, up from $0.17 last year. After adjusting for the gain on the interest rate swap, basic and diluted adjusted earnings per share was $0.17, consistent with the prior year. As Scott mentioned, we are in our targeted range for DI, which was $0.18 per share this quarter. Our payout ratio in DI was also in our desired range at 98.3% compared to 90.2% last year. When you look at the quarterly DI trends since the merger in 2016, it has been relatively stable between $0.17 and $0.20 per quarter. Please refer to the MD&A for a detailed reconciliation between DI and earnings per share. Turning now to the balance sheet highlights at September 30. Our financial position remains strong at quarter end. Between syndications, repayments and line availability, we remain well capitalized with ample liquidity. The net value of the mortgage portfolio, excluding syndications, was $1.15 billion at the end of Q3 2020, a decrease of $57.1 million from Q2 2020, which was really just a function of timing of new investments versus repayments as we subsequently funded a $78.3 million mortgage investment on October 1. The enhanced return portfolio was $93.6 million, which included $76.4 million of other investments and $17.2 million of net equity and investment properties, representing 6.9% of total assets net of syndications. With approximately $65 million available on the credit facility, the company was in a strong liquidity position entering Q4. Additionally, we had an unusually high cash balance of $69.5 million at quarter end, which, as previously mentioned, was subsequently deployed on October 1. I'll now turn the call back to Blair for closing comments.
Thanks, Tracy. As we look ahead, we're seeing positive signs in terms of new investment activity in the pipeline. However, as Scott said, the team will continue to take a cautious approach, consistent with our objective to preserve capital first and foremost. That completes our prepared remarks. With that, we'll open the call to questions. Operator?
[Operator Instructions] Our first question comes from Graham Ryding, TD Securities.
So maybe I appreciate the color that you gave on the Stage 2 and Stage 3. So just to be clear, the $31.9 million on the retail side that moves into Stage 2 that you're comfortable there, and you're not provisioning much against that essentially because you feel like the loan-to-value of that property is sufficient enough to cover any -- like there won't be any losses on that? Is that the message?
That's exactly right, Graham. The YSL project, as an example, the LTV for TF were in the 30%-wise. Lots of headroom there.
Okay. Does that cover the whole $31.9 million when you say 30s with the fair loan to value?
Yes. There's 3 different loans. So we have one loan is about 50% LTV. One loan, I want to say, is in the 60s. And the largest one is in the 30s. So very, very safe exposure position for us in the stock.
Okay. And then I got the prescription you gave on the $6.8 million in other. What about the $7.6 million in multi that's in Stage 2? What's that related to?
That's the Windsor in -- which is an asset we have in Calgary. That's under a forbearance agreement with prepaid interest. It's a multifamily building with some ground floor retail. But again, we're -- I'm looking at Geoff because I think...
Yes. So that one's loan-to-value in the mid-70s. Yes, we're -- obviously, we're in the extended forbearance period. There is substantial equity ahead of our position, and we expect to get repaid. Obviously, we're working through and figuring out the specific exit there, but the ability for this asset to trade, refinance, et cetera, will repay our position.
Okay. And is that a first mortgage for you?
This is a second mortgage.
Okay. Okay. The weighted average mortgage rate, it sounds like you're comfortable that you can maintain at this level. Is that a correct assessment?
Yes. I think from a pricing standpoint, we've continued to find it relatively sticky through the third quarter. No question, it's gotten more competitive as lenders came off the sidelines after a quiet Q2. But to this point, I think the compression we're seeing is predominantly in the conventional first mortgage low leverage space with our spot being conventional plus holding up quite well.
Okay. And then my last question, just the -- you recently made a change to the management agreement with Timbercreek Capital, I think it's called now. Like does that have any impact on Timbercreek Financial's revenue this quarter? And is it something that we'll notice over time as you amortize those lender fees in your revenue?
No. No. It's Blair, Graham. So the Board -- as we disclosed last quarter, the management agreement was renewed. But there -- I'm not sure exactly what you're referring to for this quarter, but I know it doesn't -- it won't have any new impact over our disclosure last quarter.
But it -- I guess traditionally, 100% of that lender fee flowing through into Timbercreek Financial, is it -- if I read it correctly, that it's about 80% of that lender fee is now going to flow through? Is that the right way to interpret the change?
I think the better way to think about it is, given the material nature of our A-Note syndication program, we're just -- we're disclosing that we will be compensated for arranging the A-Note syndications. So I wouldn't think about it as -- it's certainly not 80% of the gross fee revenue down from 100%. It's really -- it's a function of the materiality of A-Note syndication. So if A-Note syndications were 0, then there would be no revenue generated for Timbercreek Capital. But obviously, we think that A-Note syndications are hugely valuable to TF and evaluate A-Note syndications alongside utilization of our credit facility. And in many cases, an A-Note is a more accretive or attractive solution than utilizing a line. As you know, and we've talked about over the years, it's -- I mean it's a very actively managed portfolio. So we'll evaluate funding it with the line, equity or equity in an A-Note being syndicated. So is that helpful? I mean, not much has changed.
Okay. The A-Note syndication, I guess, what would that represent of a typical origination mix?
The A-Note, that definitely is a moving target, Graham, but I would say it's about 1/3.
Okay. And last one, it's potentially going to be impacted with the new agreement, the 1/3 of your origination for lender fees associated with that. Is that accurate?
It's accurate if -- from the perspective of it, it's like it's a borrower-paid fee, right? And then it's a small percentage of that fee on some of those loans because essentially, it's a double origination that we're doing, right, as a firm, on how we do line up that A-Note. So it really depends on the deals on the surface. So there's still a majority -- a vast majority, you still fall to TF's, right? And then all the home loan fees falls to TF. So...
So I mean we -- Graham, happy to go through it with you, if you'd like, off-line. It's probably easier doing it mathematically, I would think.
Yes. Okay. I was just trying to see if there's going to be any impact that we're going to notice or see through Timbercreek Finance.
Yes. I don't think you would expect to see an impact on a see-through basis. I think the idea here is for this to be a more strategic approach, whereby we'll be creating equivalent or more often better returns for the TF investor component by approaching and syndicating with different partners to get more accretive returns for TF. It's just going to be an active and more involved process, which is where the compensation piece comes in. The B-Note IRRs tend to be higher.
Okay. Just one last comment there, Graham. So if you think about a mortgage, we're originating it to, call it 68% LTV, the size of that A-Note syndication obviously impacts how much Timbercreek shareholder equity is deployed in that loan. So your risk is capped at the LTV of the loan being 68%, call it. So if we are able to syndicate an A-Note that represents 80% or 85% of that loan, that's going to be to the benefit of a TF shareholder. But what it means is we have to originate vastly more mortgages in order to keep the TF capital deployed. So we're happy to do that. It's just sort of originating 3x what we would or even more than if we were funding that same mortgage using entirely shareholder equity, so that's what Geoff is saying. So the TF shareholder is better off with more syndications. It's not increasing the riskiness of the underlying portfolio, which is my example of the loan-to-value. But as I said, we can go through that with you just looking at a model portfolio, if you'd like.
[Operator Instructions] And I do not show any further questions in the queue. I'll turn the call back to Blair for closing remarks.
Great. Thank you. So again, I'd just like to thank everyone for taking the time to participate on the call today. As we said, if there are any additional questions, please do reach out to us directly. And we appreciate your time. Have a good afternoon.
Thank you.
Thank you for joining us today, ladies and gentlemen. This concludes our call. You may now disconnect.