Ivan Kaufman - President and CEO Paul Elenio - CFO.

Steve DeLaney - JMP Securities Jade Rahmani - KBW.

Good day, ladies and gentlemen, and welcome to the Arbor Realty Trust Second Quarter 2015 Earnings Conference Call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session and instructions will follow at that time. [Operator Instructions] As a reminder, this call is being recorded.

I would now like to introduce your host for today conference, CFO, Paul Elenio. Sir, please go ahead..

Okay. Thank you, Maurie and good morning everyone and welcome to the quarterly earnings call for Arbor Realty Trust. This morning, we’ll discuss the results for the quarter ended June 30, 2015. With me on the call today is Ivan Kaufman, our President and Chief Executive Officer.

Before we begin, I need to inform you that statements made in this earnings call may be deemed forward-looking statements that are subject to risk and uncertainties, including information about possible or assumed future results of our business, financial condition, liquidity, results of operations, plans and objectives.

These statements are based on our beliefs, assumptions and expectations of our future performance, taking into account the information currently available to us. Factors that could cause actual results to differ materially from Arbor’s expectations in these forward-looking statements are detailed in our SEC reports.

Listeners are cautioned not to place undue reliance on these forward-looking statements, which speak only as of today. Arbor undertakes no obligation to publicly update or revise these forward-looking statements to reflect events or circumstances after today or the occurrences of unanticipated events.

I’ll now turn the call over to Arbor’s President and CEO, Ivan Kaufman..

Thank you, Paul, and thanks to everyone for joining us on today’s call. As you can see from the morning’s press release, we had another very active and productive quarter. We produced strong operating results and continue to effectively execute our business strategy.

Before Paul takes you through the financial results, I would like to reflect on our significant accomplishments and focus on outlook for the remainder of 2015 and 2016.

As we discussed on previous calls, one of our primary goals for 2015 was to delever all of our remaining legacy securitization vehicles while continuing to add to new and improved non-recourse financing vehicles and short-term credit facilities when appropriate.

We’re extremely pleased to announce that in July, we successfully unwound CDO III, completing our goal earlier than expected of delevering all of our legacy CDO vehicles. This is a significant milestone for our Company, one that we are extremely proud of, which required a significant amount of patience and discipline to achieve.

The major accomplishment has resulted in substantially reduced debt costs, access to capital that was trapped in these vehicles to deploy at the high-yielding investment opportunities that will allow us to substantially grow our core earnings rate for 2015 and beyond.

Additionally, we have also experienced tremendous success and continuing to access the non-recourse securitization market and improving our short-term credit facilities.

In the second quarter, we renewed $175 million of our credit facilities by reducing our debt costs and adding to the type of assets we can finance in these facilities and we expect to continue to increase our capacity and reduce our debt costs on our short-term financing facilities in the future as the market continues to improve.

This success we have had in managing and improving our liability structures is a critical component of our business strategy, which has allowed us to finance our investments with the appropriate balance of recourse and non-recourse debt and generate strong leverage returns on our capital.

Another important goal is to continue to monetize our legacy portfolio, reducing the drag-on earnings from these lower-yielding investments. In addition, we also continue to focus heavily on growing our originations platform, while remaining extremely disciplined in our lending approach by investing in senior multifamily loans.

This has allowed us to successfully transition our portfolio to one which is comprised of 84% senior debt with 71% of that debt being multifamily assets. In addition, we have generated superior leverage returns on a most secured loan type and asset class.

In fact, the levered returns we are producing on senior debt are well in excess of the returns that are being achieved by lenders in the subordinated areas of the capital structure. This is extremely significant, given our view on where we are in a credit cycle.

In the second quarter, we originated approximately $233 million of loans with an average yield of approximately 7.11 [ph] and generated levered returns of approximately 15% on these investments.

We did experience approximately $260 million of payoffs and paydowns in the second quarter, which was higher than we originally anticipated as it remains very difficult to actively predict our run-off due to continued improving market conditions.

However, the yield on our second quarter originations was substantially higher than the yield on the second quarter run-off due to a significant amount of this run-off consisting of legacy assets with lower interest rates, which has resulted in an increase in the overall yield on our portfolio.

Additionally, now that we have successfully delevered all of our legacy securitization vehicles, this run-off has substantially increased our cash available to reinvest into new investment opportunities, which will allow us to also increase our earnings going forward.

As a result, we now have approximately $175 million of cash on hand, including $50 million of cash that is immediately deployable in our replenishable CLO vehicle combined with approximately $115 million of capacity in our short-term credit facilities to fund our investment opportunities.

This will allow us to continue to grow our business without an immediate need for additional capital. We remain sensitive to dilution, given our stock price and I’m very pleased that our strong liquidity position allow us to fund our future investments and increase our earnings without [indiscernible].

Another significant accomplishment is our continued ability to leverage our unique platform and consistently create significant additional income streams, which has allowed us to generate earnings well in excess of our dividend.

As we mentioned last quarter, we purchased $116 million defaulted first mortgage, which allowed us to earn default interest and miscellaneous fees.

The loan paid off in the second quarter generated approximately $6.7 million in fee income with $0.13 a share and approximately $17 million in cash from a combination of the payoff in an unlevered B note and from the fees we received upon payoff.

This transaction continues to demonstrate our unique ability to create additional earnings from structured transactions and/or equity kickers, which we view as an important part of our franchise and an additional means of diversifying our income streams.

We're also extremely pleased with the success we have experienced from our new investment in a residential mortgage banking business. As we mentioned in our last call, we had a very strong first quarter, recording $3 million of income from the investment, which exceeded our expectations.

As we got in to last quarter, we expect our earnings to be more in the range of approximately $500,000 to $1 million a quarter going forward.

We have very strong second quarter as well, recording $1.5 million of income from this investment, which is also above our expectation due to the carryover effect of low interest rate environment in to the early part of the second quarter.

As a result, we have generated $4.5 million or $0.09 a share in earnings from this investment from the first six months of the year.

We’re extremely pleased with these operating results and the significant earnings power of this investment represents yet another example of our ability to generate additional income stream that add to our earnings capacity.

In summary, we are extremely pleased with our operating results and with the many significant accomplishments we have achieved, including the completion of the de-leveraging of our CDO vehicles, substantially reducing our debt cost, while un-flapping [ph] the cash in these vehicles deployed in to high yield investments, the reduction of our low interest legacy portfolio, decreasing the drag on our earnings, the substantial contribution to earnings from our residential investments and from the monetization of our equity kickers, a 50% increase in our dividend over last year, the ability to produce significant earnings above our dividend and a continued focus on the multifamily senior lender lending area generating superior leverage returns.

As a result of these many significant accomplishments, we believe we are truly well-positioned in this market to continue to execute our business strategy, and increase our earnings and dividend overtime. I will now turn the call over to Paul to take you through the financial results..

Okay. Thank you, Ivan. As noted in the press release, net income for the second quarter was $10.5 million or $0.21 per share and AFFO was $12.7 million or $0.25 per share, adding back depreciation expense and non-cash stock compensation expense, which resulted in an annualized return on average common equity of approximately 11% for the quarter.

As Ivan mentioned, during the second quarter, we continued to generate significant additional income streams, recording $6.7 million of income from the successful payoff of a defaulted senior note we purchased last quarter and from the $1.5 million of income we generated from our residential mortgage business joint venture.

These investments have now generated over $11 million of income or $0.22 per share for the first six months of the year.

Looking at the rest of the results for the quarter, the average balance in our core investments was down slightly to $1.62 billion for the second quarter from $1.64 billion for the first quarter, due to a run-off outpacing our originations in the second quarter.

The yield on these core investments decreased to 6.46% for the second quarter from 6.71% for the first quarter, largely due to a decrease in accelerated fees from early run-off during the second quarter as compared to the first quarter.

However, the weighted average all-in yield on our portfolio increased to around 6.28% at June 30, 2015 compared to around 6.07% at March 31, 2015, mostly due to yields in our second quarter origination greatly exceeding the yield on our second-quarter run-off.

Additionally, as I mentioned earlier, we generated approximately $6.7 million in net fees in the second quarter related to the payoff of a discounted note we purchased last quarter, $7.9 million of which was recorded in a new line item for other interest income, which was partially reduced by $1.2 million of expenses related to this transaction that were recorded in operating expenses.

The average balance in our debt facilities was also down slightly to approximately $1.17 billion for the second quarter from approximately $1.2 billion for the first quarter.

The average cost of funds in our debt facilities decreased to approximately 4% for the second quarter compared to 4.71% for the first quarter, largely due to $2 million of deferred fees that were accelerated into interest expense when we unwound our securitization vehicles in the first quarter.

Without these items, our average debt costs decreased slightly to 4% for the second quarter compared to 4.04% for the first quarter and our estimated all-in debt cost was up slightly to approximately 3.86% at June 30, 2015 compared to around 3.81% at March 31, 2015.

If you were to include the dividend associated with our perpetual preferred offerings as interest expense, our average cost of funds excluding the deferred fees from our securitization unwind would be approximately 4.31% for the second quarter and approximately 4.35% for the first quarter and our estimated all-in debt cost would be 4.19% at June 30, 2015, compared to 4.12% at March 31, 2015.

Overall, net interest spreads on our core assets on a GAAP basis without the securitization unwind decreased from 2.67% last quarter to 2.47% this quarter.

Including the preferred stock dividend as debt cost, our average net interest spread also decreased from approximately 2.36% last quarter to approximately 2.15% this quarter, largely due to significantly more fees from accelerated run-off during the first quarter, compared to the second quarter.

However, our overall spot net interest spread, including the preferred stock dividend and debt cost increased to 2.09% in June 30th compared to 1.95% at March 31, mainly due to significantly higher yields in our second quarter originations as compared to the yields in our second quarter run-off.

Our average leverage ratios and our core lending assets remained relatively flat at approximately 61%, including the trust preferred and perpetual preferred stock as equity for the second quarter compared to 62% for the first quarter.

And our overall leverage ratios on a spot basis [indiscernible] and preferred stock as equity was 1.41% at June 30 and 1.61% at March 31.

Next, NOI related to our OREO assets decreased approximately $800,000 compared to last quarter, mostly due to the seasonal nature of income related to a portfolio of hotels that we want, which produces substantially more income in the first quarter of the year.

For the first six months, we have generated approximately $3.3 million in NOI from OREO assets and expect our OREO asset to produce NOI of approximately $3.5 million to $4 million for all of 2015.

Operating expenses were up approximately $700,000 compared to last year primarily due to certain expenses related to the pay-off of the discounted loan in the second quarter, partially offset by the vested portion of annual restricted stock grants issued to our directors, employees and employees of our manager in the first quarter.

We did have some changes to the right side of the balance sheet this quarter, including restricted cash increasing approximately $50 million, mostly due to run-off in our non-recourse securitization vehicles late in the second quarter, which will be redeployed into new investment opportunities.

Additionally, short-term debt decreased approximately $75 million, largely due to the repayment of the financing used to purchase the discounted note in the first quarter, which paid off in the second quarter. Lastly, our loan portfolio statistics as of June 30, show that about 72% of our portfolio was variable rate loans and 28% are fixed.

Our product type, 84% of bridge loans, 6% junior participations and 10% mezzanine and preferred equity. By asset class 69% was multi-family assets, 13% are office, 12% land and 4% hospitality. Our loan to value is around 76%, and geographically we have around 28% of our portfolio concentrated in the New York City area.

That completes our prepared remarks this morning and I will now turn it back to the operator to take any questions you may have at this time.

Maurie?.

[Operator Instructions] And our first question comes from the line of Steve DeLaney with JMP Securities. Your line is open, please go ahead. .

Thanks. So good morning, Ivan and Paul. .

Hey, good morning, Steve. .

So I noticed that you have classified another $11 million as real estate held for sale, you had cleaned what you had, the $14 million you had on the books at the end of the year.

Just wondering if you could describe the property, maybe in the location and any thoughts you have about the time, the marketing period involved here and whether there is a possibility to market value here maybe in excess of your cost? Thanks. .

Sure, Steve. Hey, it’s Paul. That property is one of the four hotel properties we have in the Daytona, Florida area for the portfolio we own. We did enter into just recently PSA on that asset. We think it is likely to close in the fourth quarter, obviously it’s earliest, so we think the process could take a quarter or two to get closed.

And as we talked about last quarter, we think we have done a really good job in managing these OREO properties, really stabilizing and increasing the NOIs. And as we talked about last quarter, we are perfectly fine holding these and generating the NOIs that we have been generating which have grown.

However, the market has been extremely high and to the extent that people are willing to come in and sort of values we think are appropriate and [indiscernible] to us will continue to look to online those if we can.

The other point I would make is, as we online those assets if we are successful, our cash just gets redeployed right back into a normal operations, earning the 14%, 15% yield. So we look at just one of the revenue classes going down and another revenue class going up..

Absolutely.

And do you have – you have some mortgages payable, is this a $11 million property, is this encumbered with the mortgage or would you receive a $11 million cash?.

It is not. It is unencumbered debt -- with debt right now and I think we disclosed in our 10-Q that based on the offer, it could be a little bit of a profit here on the sale of something $1 million, $1.5 million. Obviously it’s early yet, but that’s the indications we have right now. .

Okay, great. I appreciate that color. And Paul, I dug a little deeper into the income statement in terms of expenses than I normally do when I look at the quarterly report, and I noticed that employee comp and benefits, when we look at it year-over-year compared to second quarter of 2014, it looks like it was up about $1.4 million or 40%.

My first thought, might be restricted stock comp, but that was actually down year-over-year. So just help us understand like in that number, is this really just a function of headcount or does it have to do with incentive comp to loan originators, why are we seeing that number up so much? Thanks. .

It almost all has to do with commission and expenses related to the discounted note that we purchased in the first quarter that we – that it tailed off in the second quarter. As I discussed in my commentary, we earned $6.7 million of net fees on that transaction, $7.9 million is up in this new line item other interest income.

They were commissions and other compensation that was paid or accrued on that transaction that is down in employee compensation and that’s a $1.2 million of that $1.4 million increase. .

Okay, great. I didn’t realize. I know you mentioned there were expenses and I didn’t focus on the back that it would be in that line item, so that helped, thank you. .

Yeah, Steve, basically that was the incentive relative to the gain on that transaction, I mean, you should just net that out on a regular run rate basis. .

Yeah, the accounting doesn’t allow me to net it, but when I spoke – when we spoke in our commentary, we netted it, that’s how we look at. .

Okay, great. Well, glad I asked that, it would be closer to an accurate number on run rate, for comp. Thank you, Ivan.

And on your residential investment, I was looking at that this morning, trying to figure out the best way to think about your return and I know you’ve got a carrying value of like $19.5 million, but that includes $4.6 million of just earnings accrued.

So it looks like maybe your cash outlay for both the equity investment and the mortgages, it’s more like $15 million.

So I mean, when we think about the return on this investment relative to sort of the mid-teen ROE that you get on your levered bridge loan business, if we annualize your quarter, $1.5 million and of course that was I should point out that was better than you originally suggested it might be on your last call.

But I am getting like, returns on your cash investment something in the 30%, 40% type of ROE.

Am I thinking about the business properly or the return profile?.

You definitely are thinking about it correctly, it’s been an outstanding investment, a good diversification of our income stream. And I think, there is one other way to look at it as well. That’s a company that we are building, it’s a new company and it also has a lot of franchise value in the future.

So we are looking at a diversified income stream, a tremendous return and a franchise value and as you know, we’ve built companies and we are building that company and it’s part of this franchise and I think it adds a lot of value over time..

And, Steve, let me just help you a little bit. I think your numbers are actually a little light and I will tell you..

Okay..

Ivan is correct, the numbers have been extremely strong. We invested $9.6 million for the purchase of the qualified mortgage pointing that joint venture which is really all of the $4.6 million we’ve earned to-date. So technically it’s about 50% return on that capital.

The other part of the investment was the investment in the non-qualified mortgages which is about $5.3 million that we’ve invested to-date and that has been around breakeven, we’re working through in building that franchise. And we are working on now hopefully trying to get leverage related to that side of the business.

If we are successful, then some of that cash will be returned to us in the form of leverage, but the actual return on the qualified portion of this refi business are actually much higher than 30% of the investment..

Okay, got it..

It’s 30% to 35% on the total investment, you are correct..

I mean, it’s been an outstanding investment. We are only two quarters through and we are still pretty optimistic about the balance of the year and hopefully by the end of the year we can even report stronger results..

Okay, thanks. And so on the – points you are making, the $4.6 is just on the equity piece.

Any interest you earn on the NQM mortgages, that’s going to show up in your interest income, is that--?.

No, that don’t show up in the same line item, but today’s it’s been breakeven, so my point….

I see.

You are correct, $4.6 million over $15 million is roughly, 30%, 35%, but it’s really $4.6 million of the $9.6 million and the other business has been breakeven as we are building it..

Understand..

But if you look at it independently it’s even been a greater return on the qualified mortgage side. .

Okay, great, that clarifies it for me. And, Ivan, just to close out, several calls in the last week and people offering their own personal opinions on the commercial real estate cycle and I think frankly they differ.

The opinions differ and I think it depends whether you are looking at sovereign wealth funds, buying Park Avenue property, are you looking at the rest of America, if you will.

I would love to hear your thoughts on sort of what inning we are in this commercial market, this commercial real market cycle at least with respect to the real estate that you try to address and serve. .

So, it’s interesting, because if you ask most people, the general consensus is that we are in somewhat of an asset bubble. That would be the general consensus. And the issue when you are in that bubble is when is that bubble going to burst, alright. And we are all very cautious about it.

What we have managed to do and it’s taken an enormous amount of discipline to transition our book, as we said in our comments, to senior debt, leverage our senior debt, take mostly the multi-family which has clearly been the best performing asset in every downturn and manage to use these non-recourse securitization vehicles which are non-mark-to-market and get close to mid-teens 15% returns and insulate us to a large degree from the bubble bursting.

And while we may not have had the exuberance in the participation in the growth of that market, we’ve been very, very careful to position ourselves if the bubble does burst, but when it does burst, everybody knows it’s going to burst, but to make sure that we have continuity of earnings even in a difficult environment.

But the general consensus is that we are in a bubble. No one ever knows when it’s going to burst, but clearly asset values are high. Assets are trading below cap rates on concern when you have the highest level of rents and the lowest vacancy and people paying the highest number mathematically, that’s not going to work long time.

That’s my view overall..

Yeah, people are buying bonds, not real estate. It seems like, so thank you very much for the comments, both of you..

Thanks, Steve..

Thank you. And our next question comes from the line of Jade Rahmani with KBW. Your line is open..

Yes, thanks for taking my questions. Wanted to see if you could touch on the increasing yields you experienced in the quarter. If you could provide any color on that if it’s related to mix of junior participations and mezz.

And just on an apples-to-apples basis, maybe if you could touch on where senior debt yield is trending and where junior debt yields have been..

Sure. I will let Ivan handle the second part of that question, Jade, but let me dive into the first part. So the yield, the growth yields in the assets we originated during the quarter were 7.11% which was slightly down from the first quarter, but the first quarter had a few larger mezzanine loans that have on a gross basis a higher spread.

The more meaningful number is that levered returns on our investments was actually up in the second quarter than in the first quarter to about 15% levered return versus 14% in the first quarter.

And the real commentary that we were driving at is, overall the spot yield on our portfolio went up from 6.07% last quarter to 6.28% this quarter and that’s all to do with the fact that we originated $233 million of loans at 7.11%, but the run-off was at 5.4%.

And the reason the run-off – the yield on the run-off was at 5.4% is we were fortunate enough to get some repayments on substantial amount of our legacy portfolio which, as you know, when we worked through the crisis, a lot of that legacy portfolio was restructured at significantly lower rates and it was a drag on earnings.

So that’s really the reason the yields are up spot-over-spot and that’s a real benefit for us because getting those legacy portfolio of assets to run-off at those yields and now deploy it into these higher yields is a huge home run for us..

And then just on an apples-to-apples basis, can you comment on whether you’ve continued to see yield compression on senior debt originations as well as sub debt and also recent CMBS volatility has impacted loan pricing at all?.

So there clearly has been over the last 18 months significant yield compression. I think that things have kind of stopped at this point in time, where we have put a lot of our focus on is to reduce our debt cost, increase our leverage, and have some more efficiencies on that side.

I think our franchise and our origination capability has really allowed us to produce a consistent flow and I think within the industry, we have such a good repetition for being able to turnaround a transaction very, very quickly and it’s not uncommon for us to get a little bit of a premium on our transactions when people need a quick close and we continue to get transactions into the system that require a three, four week close and that usually lets us go onto some excess yields.

So we’ve able to manage our yields fairly effectively, create more efficiencies on the borrowing side to help us increase our returns effectively.

So that’s kind of where we are at right now, I am pleased to say that our stream of multi-family opportunities continues, we have diversified it some other asset classes on an one-off basis which has allowed us to get some additional returns as well and we’ve actually been able to get those other asset classes and top securitization vehicles which has been a tremendous achievement as well..

And just on the multi-family side, can you give me a view of the GSC [ph] lending cap issue and how you think it plays out, saw today that Freddie Mac just did a $5 billion deal, are you anticipating a material slowdown in the back half and do you think this actually could benefit ABR by being able to perhaps hold those loans until they can be refinanced through a GSC transaction next year?.

Sure.

I was very heavily involved in a lot of discussions on the cap and frankly what the agencies were able to do with the government is to segregate out the affordability aspect of loan originations which is not part of the cap and that gave the agencies enough flexibility to continue on their run rate and not shutdown their originations capability in 2015 and probably ’16 as well even with the size of the market.

So we think that the market will continue, originations will be consistent and it really does not have that much of an effect on ABR other than that our volume levels, and our breadth and originations capabilities are strong, we’re seeing more and more volume overall, so we get to see more transactions.

The recent volatility in the CMBS market, that hasn’t really affected us that much because most of what we do is on the multi-family side and most of that is agency business.

So we really haven’t seen the impact of that, perhaps we’ll see a little less run-off in our portfolio if CMBS is a little less aggressive, than the loans will stay on our books for a little bit longer with CMBS being aggressive sometimes borrowers opt out into the securitization market a little bit quicker but I think the impact will be nominal overall to ABR..

Thanks very much for taking the questions..

Thank you. [Operator Instructions] Our next question comes from the line of Lee Cooperman with Omega. Your line is open, please go ahead..

Thank you very much and good morning. Management has done a darn good job and I complement you, the stock has obviously not cared but it’s probably not atypical for stocks in this space but clearly what’s obvious is that the stock does respond to dividend.

And I don’t know if you can comment, but in your budgets I’m looking out, do you have a sense of the timing of the next dividend review, that would be question one.

And question two, I think for over two years now we’ve talked about the possibility of combing the private company with the public company and you didn’t make any comments about that today.

Should we assume as a dead issue or is there something that is still a possible scenario for us to look forward too? Thank you very much, and again congratulations on your performance..

Thanks Lee, its Ivan. And clearly we’ve shown growth in our dividend over the last year of 15% and we also announced early on in that we have a certain level of dividend.

We do wrestle with the fact that our earnings are so well in excess of our dividend and we can probably increase our dividend based on our earnings but given our stock price, we made a decision that is better to retain those excess earnings rather than distribute them because accessing capital and dilution is not an effective strategy given where we currently are.

So we have shown tremendous earnings capability well and above that.

And as we’ve discussed for a long period of time, we thought this would be a transitional year in building our core run rate, we think we’ve done a superior job and we also think we brought other income streams to bear to show greater earnings and we believe that going forward in ’16 we just have tremendous capability to have higher run rate.

Paul you want to comment on the transaction?.

Sure. So Lee as you mentioned about potential transaction, our disclosure is still the same, it’s been the last few quarters, which is, we’re still in discussion, so if you’re asking the question is it dead? No, it’s not dead, we’re still in discussions.

Is it possible? Yes, it’s possible, I can’t tell you how likely it is or when it will happen, yes it will happen but we are still in discussions, unfortunately that is mostly can say given our disclosure but we are still discussing it and it’s not something that is complete off the table..

It’s taking as long as a nuclear around you [ph], hope we have a better deal when it comes out..

I hope it will be a better deal as well..

Okay, good luck and thank you again, you’re doing a good job for us..

Thanks Lee..

Thanks..

Thank you. I’m showing no further questions, I would now like to turn the call back to Ivan Kaufman for any further remarks..

Okay, thank you everybody for participating on today’s call. We think the Company has had an outstanding quarter and year-to-date performance. Enjoy the rest of the summer; speak to you on next call..

Ladies and gentlemen, thank you for participating on today’s conference, this does conclude the program and you may all disconnect. Everyone have a great day..