Paul Elenio - Chief Financial Officer Ivan Kaufman - President and Chief Executive Officer.

Steve DeLaney - JMP Securities Jade Rahmani - KBW.

Good day, ladies and gentlemen and welcome to the Q3 2016 Arbor Realty Trust 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 be given at that time. [Operator Instructions]. As a reminder, this conference call is being recorded.

I would now like to introduce your first speaker for today, Chief Financial Officer, Mr. Paul Elenio. Please go ahead..

Okay. Thank you. Good morning everyone and welcome to the quarterly earnings call for Arbor Realty Trust. This morning we will discuss the results for the quarter ended September 30, 2016. With me on the call today is Ivan Kaufman, our President and Chief Executive Officer.

Before we begin, I need to inform that you statements made in this earnings call may be deemed forward-looking statements that are subject to risks 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. We are extremely excited to be discussing our results and accomplishments for the first time as a new company, now that we have successfully completed the acquisitions of the agency platform.

As we have discussed in the past, we believe this acquisition will be transformational to franchise future growth and success and we're very excited about the many benefits we will realized from this combination.

As you can see from this morning's press release we had a very strong third quarter already realizing many of the benefits of this combination including immediate accretion to AFFO, adding significant diversification and predictability to our earnings streams and significantly increased our equity base and market cap.

There were many other achievements during the third quarter as well, so we'd like to take the time for walk you through our significant accomplishments in our two distinct but complementary and cohesive business platforms. First I would like to discuss our agency origination and servicing platform.

This platform is extremely important to our overall business strategy and outlook going forward as it allows us to transition the REIT from a mono line dependent entity into a fully integrated franchise with a significant origination business with high barriers to entry thereby providing a natural limitation on competition.

We'll also enhanced our presence in the multifamily sector provide a strong foothold in the GSE portion in particular. As we've expressed many times we find the multifamily sector to be an extremely attractive market due to its solid fundamentals, significant borrow demand and strong performance through all cycles.

This agency business also produces significant recurrent, predictable earnings and longer duration assets and there is also less capital intensive and generate a high ROE than our current business operating on more of a self-funding basis providing a durable growth platform while minimizing the potential impact of capital market and interest rate volatility.

The newly acquired agency business is a leading national loan origination and servicing platform with over 230 direct employees including 20 originators operating all throughout the country with 17 sales and support offices in eight states.

We've over 20 years experience in the multifamily agency business having originated in excess of $20 billion in loans since inception and over $3 billion in loans in 2015.

As we've mentioned on our last call 2016 has also been another strong year to-date with 850 million originations in the third quarter and 2.5 billion originations for the first nine months. And we do expect to close out 2016 as our strongest origination year-to-date which we estimate could exceed 2015 originations by as much as 10%.

This growth has resulted in immediate accretion to our AFFO which was $0.21 for the third quarter and $0.59 for the first nine months substantially in excess of our $0.45 of dividend through September 30. We also believe that we have a very strong fourth quarter which will allow us to continue to grow our earnings and dividends in the future.

This platform also contains a very large and profitable servicing portfolio. The portfolio when acquired was just under $12 billion and to our strong third quarter production has grown to approximately $12.6 billion at September 30.

This service and portfolio contains approximately 48 basis points of servicing fees has an estimate of remaining life of approximately seven years and contains $400 million in escrow balances.

The earnings on this escrow balance are currently around one month LIBOR which provide a natural hedge against rising rates as these balances has significant additional earnings power as rates rise.

Additionally the majority of this servicing portfolio is prepayment protected which translates into a significant valued asset which has added diversity, duration and stability to our earnings stream. This is also a very scalable business that would provide significant growth in economies of scale.

So overall, we are very pleased with our third quarter results and we anticipate closing out 2016 with the strong fourth quarter from our agency platform which we are confident will allow us to continue to grow our earnings in dividend going forward.

Now I would like to focus on our third quarter accomplishments from our transitional balance sheet lending business. We continue focus heavily on growing our balance sheet originations business, while remaining extremely disciplined in our lending approach by investing in senior debt.

This has allowed us to generate leveraged returns in excess of what we would achieve by lending in the excess of what we would achieve by lending in the subordinate areas of the capital structure.

We originated $266 million of loans and experienced run-off of approximately $118 million in the third quarter resulting in $148 million of growth in our portfolio for the third quarter and our pipeline remains strong.

Our third quarter originations has an average yields of approximately 6.4% and we generated leveraged returns in excess of 14% on these investment.

Additionally, with a heavy focus on senior multifamily loans our portfolio is now comprised of 89% senior debt with 86% of that being multifamily assets which clearly have proven to be the most resilient asset class and product type in all economic cycles.

And with the significant improvements we have made in our financing facilities we are generating strong returns on capital in a very secure part of the capital structure. We also continue to provide extremely impressive results from the investments we made in the residential mortgage banking business in 2015.

Last year, we talked about how this business have picked up dramatically as a result of the current interest rate environment which allowed us to up our guidance significantly for the balance of the year.

The third quarter was even stronger than we expected recording nearly $4 million of income from this investment which is well above our previous estimates. As we have generated $8.6 million of income from this investments for the first nine months of this year resulting a return on our invested capital of greater than 100% for 2016.

Additionally, we also generated $700,000 of additional income in the third quarter from one of our equity interest. As we expect these two investments to generate a consistent annuity going forward of around $2 million to $2.5 million of income per quarter.

These strong results continue to demonstrate our unique ability to create significant additional earnings to new business ventures from structured transactions which we view as an important part of our franchise and an additional means of diversifying our income streams and adding power and its capabilities.

As I highlighted earlier the acquisition of manager's agency platform has also added significant additional income stream under extended duration of our earnings sources through long-dated prepayment protected servicing income from our significant agency servicing portfolio.

We've also continue to focus heavily on enhancing our debt structures which is one of the key to our success and remains a critical component of our business strategy.

The successful execution of this strategy has allowed us to generate superior leveraged returns in a very safe and stable part of the capital stack through the continuous use of non-recourse securitization vehicles. We have a tremendous amount of experience and capability in the securitization arena and continue to be a market leader in this space.

In the third quarter we closed our sixth non-recourse CLO securitization vehicle since the financial crisis and currently have an access of $1 billion of non-recourse debt to four vehicles with replenishment period going out as far as three years.

This non-recourse debt represents nearly 75% of our total financing allowing us to appropriately match fund, our assets with non-recourse liabilities and generate leveraged returns on our capital. Additionally, in October we successfully raised $85 million of accretive capital in the form of a convertible note instrument with very attractive terms.

The note carries an interest of 6.5% which is more than 200 basis points inside our common dividend yield and contains an initially convert price of $8.38 which is above both our comp stock market and tangible book value per share.

This was a very important capital raise which will allow us to deploy this capital into our growing pipeline investment and mid returns on our invested capital without diluting our book value. As a result of our recent success in the capital markets we are very pleased with our strong liquidity position.

We currently have approximately $150 million of cash on hand combined with over $75 million of investable cash in our CLO vehicles to fund our future investment opportunities. Overall, we are very pleased with our third quarter results and our ability to successfully complete the acquisition of the agency platform.

We believe the combination of our two significant business platforms will enhance our current platform, expand our market presence and broaden our products and create longer duration assets which will create the value for our franchise.

This is clearly a transformational combination that will allow us to significantly diversify and create more stable, predictable, long dated earnings streams and grow our core earnings and diverse dividends substantially.

We also believe we are now uniquely positioned as one of the only public mortgage RIET with the ability to originate and service GSE loans combined with a balance sheet to carry those loans allowing us to continue to expand and grow platform and franchise value.

And we are very excited and confident and our ability to continue to increase the value to our shareholders. I will now turn call over to Paul to take you through the financial results..

Okay. Thank you, Ivan. As Ivan mentioned, we are extremely pleased to have completed the acquisition of the agency business, which we believe will be transformational for our platform. As our press release this morning indicated, we had a very strong third quarter and have already started to realize many of the financial benefits of the combination.

As a result AFFO was $50 million or $0.21 per share for the third quarter and $33.9 million or $0.59 per share for the nine months ended September 30.

This is above our dividend to-date of $0.47 per share and we do believe we will have a strong fourth quarter from the agency business which should result in continued growth in our earnings and dividends going forward.

We have provided a substantial amount of financial information regarding our two significant business platform as well as some key metrics and data to assist our shareholder and better understanding our performance in the agency business.

The press release also include the detail reconciliation from GAAP net income to AFFO indicating the new adjustments from our agency business which include non-cash item such as mortgage servicing rights, amortization of mortgage servicing rights and amortization of intangible assets from the acquisition accounting.

Our AFFO for the quarter and year to-date ended September 30, translated into return on common equity of 10.8% and 8.8% respectively. This is up from last quarter due to the higher ROE associated with the agency business which is less capital intensive and operates more on a self-funded basis.

For the quarter we generated approximately $14 million of net income and approximately $6.8 million of AFFO from the agency business, a portion of the income from this business is subject to federal and state taxes inside of taxable REIT subsidiary.

For the third quarter we reported only a current state tax provision of $300,000 related to this income as we have federal tax NOLs from prior taxable RIET investment a portion of which were implied against the third quarter income.

After utilizing these NOLs we still have remaining NOLs that could shelter federal taxes from our agency business, but maybe one more quarter.

If we did not have these NOLs our current federal tax provision would have been approximately $1 million for the third quarter resulting in a current federal and state tax expense of approximately $1.3 million for the third quarter from the agency business.

We also had a very strong origination quarter on our agency platform closing $850 million loans since July's acquisitions were approximately 2.5 billion originations for the first nine-months of the year. For the quarter $669 million was Fannie Mae DUS origination and for the nine months we've originated $1.67 billion of Fannie Mae loans.

Origination fees and gains on sales of originated loans are recorded upon settlement or sale of the underlying mortgage loan which normally occurs anywhere from 30 to 60 days at the closing.

At that time many commissions earned related to the origination of the loan are recorded as compensation expense, therefore one important metric for tracking quarterly fee income is our loan sale volume which is approximately $969 million for the third quarter excluding the first 13 days of July prior to the acquisition.

However, the acquisition accounting required us to book the acquired loans held for sale of approximately $418 million at their fair value on the balance including fees and gains on sale, less commission expense which resulted us not being able to record the net income related to the sales of these loans during the quarter.

This had the effect of us reporting net margins relating to only $552 million of loans during the quarter instead of the reported sales of $969 million. The third quarter margins on these sales was 1.76% including miscellaneous fees which can range anywhere from 5 to 15 basis points per quarter.

We also reported $60 million or mortgage servicing rights income related to $750 million of committed loans during the third quarter. This represents an average mortgage servicing rights rate on committed loans of 2.23% for the third quarter.

Sales margins and MSR rates fluctuate primarily by GSE loan type in size therefore changes in the mix of loan origination volume may increase or decrease these percentages in the future.

The agency business also includes a significant servicing portfolio and has a balance of $12.6 billion at September 30, with weighted average servicing fee of approximately 48 basis points and estimate remaining life of seven years.

This portfolio was up 5.5% since the acquisition date and will generate significant predictable annuity of income going forward in excess of $60 million annually.

This annuity will significantly diversify our revenue streams and provide us with long dated stable predictable earnings streams that are prepayment protected and less sensitive to rate and market cycles. Additionally, as Ivan mentioned earlier this is a very scalable business that will provide significant growth and economies of scale in the future.

The acquisition of the agency platform has also increased our total equity to an excess of $700 million and has also increased our market capital over $500 million including the newly issued O.P unit spreading larger balance sheet and more efficient vehicle to excess capital in the future.

Now I'd like to talk about the third quarter results from our transitional balance sheet lending operation. We had a very strong quarter generating net income of $7.8 million and AFFO of approximately $9 million excluding depression expenses, non-cash stock compensation expense and acquisition cost.

As Ivan mentioned, we also able to continue to generate significant additional income streams recording $4.9 million of income from our equity investment in the third quarter which was up from $4.4 million we generated from these investments last quarter and we are estimating our equity investments to generate $2 million to $2.5 million of income for the fourth quarter as well.

We also had a strong origination quarter closing $266 million of new investment which is the $118 million of runoff which result a net growth in our portfolio of $148 million and we now have an investment portfolio of approximately $1.76 billion at September 30 earning in yield of approximately 6.14% which is up slightly from the yield of around 6.11% at June 30.

And with our primary focus in multifamily bridge loans our portfolio now consist of 89% bridge loans and 80% multifamily assets. The average balance in core investments was up from $1.64 billion last quarter to $1.73 billion this quarter largely due to the growth in our loan book during the quarter.

The average yield in these core investments did decrease to 6.15% for the third quarter from 6.76% for the second quarter largely due to $2 million more in accelerated fees from early runoff recorded in the second quarter.

Our total debt on core assets was approximately $1.42 billion at September 30 within all-in-debt course were approximately 4.09% which is up from a debt course around 4.01% at June 30, mainly do an increase in LIBOR during the quarter.

The average balance on debt facilities was also up to approximately $1.37 billion for the third quarter from approximately $1.25 billion for the second quarter and the average cost to funds in our debt facilities decrease slightly to approximately 4.19% for the third quarter compared to 4.24% for the second quarter mainly due to our new CLO vehicle which carries a lower debt rates in our overall debt cost.

Overall net interest spreads on our core assets on a GAAP basis did decreased to 1.96% this quarter compared to 2.52% last quarter.

Again largely due to significantly more accelerated fees from run-off in the second quarter compared to the third and our overall spot net interest spread decreased to 2.05% at September 30 from 2.10% at June 30, mainly due to higher cost associated with certain fees related to our warehouse line due to the timing of moving assets into our new CLO vehicle in the third quarter.

Additionally, as Ivan mentioned we currently have approximately $75 million of undeployed capital in our CLO vehicles combined with $150 million of cash on hand that went fully deployed should increased our net interest spreads substantially.

Our average leveraged ratio on our core lending assets including the trust preferred and perpetual preferred stock as equity were up slightly to approximately 69% this quarter compared to 66% last quarter and our overall debt to equity ratio on a spot basis, including the trust preferred and preferred stock as equity was also up to 1.7 to 1 at September 30th from 1.5 to 1 at June 30th due to the ramp up feature in our CLO vehicle, the cash of which has not been fully deployed as of September 30th.

Lastly, operating expenses related to our structured business appeared to be down significantly from last quarter. However, most of this decrease is due to allocating certain public company costs among our two business platforms as a result of the acquisition of the agency business.

Therefore, next quarter’s results should be more comparable to this quarter when looking at each of our business units expenses individually.

As far as our agency business operating expenses, we generally have one significant variable expense related to commissions earned on sold loans, which normally averages between 35% and 46% of our gains on sales, with the remaining operating expenses containing mostly fixed expenses that will stay fairly consistent quarter-to-quarter other than additions to staffing for the growth of our origination and servicing platform.

Additionally, as I mentioned earlier, the third quarter expenses did not include the first 13 days of July, as we closed on the acquisition of the Agency Platform on July 14th. That completes our prepared remarks for this morning and I will now turn it back to the operator to take any question you may have at this time.

Operator?.

Thank you. [Operator Instructions] And our first question comes from the line of Steve DeLaney with JMP Securities. Your line is now open..

Thank you. Good morning, gentlemen and congrats on a good start for the combined company..

Thanks, Steve..

Ivan, I was wondering if you would mind commenting a little bit on your smaller balance agency multifamily approach? Could you talk a little bit about your platform and your source? How you source loans on the smaller loans maybe compared to company like Walker Dunlop that goes after larger loans and in that if you would talk about your technology platform? I have seen some ads in CMA about your ALEX system and just would be curious to hear some comments about organically how the business runs when you come in every day? Thank you..

Sure. I think that’s a good question. It speaks a lot about our franchise. Given my background in running residential businesses and being to develop and build processes, we focus initially when we are building our business on smaller loans. That was an area of the market that people were not focused on.

So, it was little bit of a strategic approach to go where nobody else was. The problem is to do it efficiently and profitably was not an easy thing to do. So, we developed a lot of internal processes.

We trained our originators in a specific way and a recent implementation we developed the ALEX system, which is the Arbor LoanExpress system to be able to take the origination all the way through closing on an automated basis which reduces our costs significantly. We think it reduces -- to date we still have room to improve.

We save about 26 hours of -- 26 to 30 hours per loan originations and got our originations costs down significantly and we still have more room to grow. Just as importantly, many of our borrowers do multiple transactions. It’s very common for somebody to do 5, 10 transactions for most of the year.

So to the extent that they were able to use this automated system while originators who allows them to handle more production and communicate more effectively and take on a bigger load, a lot of originators do not like to originate these small loans because they are very cumbersome.

With the implementation of our ALEX program and the training of not only our originators and internal people but our borrowers just importantly, they are able to handle a greater number of transactions and not shy away from what would be smaller transactions when they can in fact think they can work on larger transactions.

So that’s been a cornerstone for us in the way we built our company. And clearly from small transactions become large transactions, whether it would be the borrower growing or whether the borrower just had access to other transactions.

So, our average loan balance actually continues to grow significantly even though we are a dominant force within the smaller loan business. We are the number one provider for Freddie Mac on small loans and Fannie Mae. I believe last year and it should be this year, we’ve done more loan units with Fannie and Freddie than any other lender.

That’s a tremendous accomplishment, gives us tremendous footprint and a tremendous presence and gives us huge amount of repeat business.

And what we found is, if somebody’s doing multiple transactions, they want to go back to us because of the consistency of the service and reliability of our communication and it’s a little less price sensitive but was service oriented..

That’s very helpful. Thank you, Ivan for that. We are seeing a lot about one caps. Citi actually, I saw something on Bloomberg two days ago that Citi’s actually saying that maybe the FHFA will raise the caps yet again. I guess that would be the third time for multifamily caps.

Practically speaking, Ivan, given your focus on the smaller loans and some larger loans but do the caps have a practical limit on your ability to originate? How do you see the discussion or noise about the caps affecting ACM?.

I think we are less affected by the cap because we focus on smaller loans which are excluded. We also focus on the affordability aspect of lending, so we’re less affected. But the caps could be a little bit of an issue if the market continues to grow. I think the agencies did get a bump this year.

I think that some of our loan production is going to be pushed to next year because everybody’s bumped up. So, we’ll see a little flow into the first quarter of next year. I think if the market is larger in 2017 than it is in 2016 in order for the agencies to continue to hold the same mark than they have now, they will need a little bit of a bump up.

So, at worst we will maintain the same level we did last year, plus the growth because a lot of what we do is outside of the cap. I’m not sure what the FHFA is going to do next year, but I think they will have to be cognizant of a larger market and see how they want to react accordingly. But it will have less impact on us than anybody else..

Appreciate it. Thank you for the comments this morning, Ivan..

Okay. Thank you..

[Operator Instructions] And we have a question coming from the line of Jade Rahmani with KBW. Your line is now open..

Thank you.

Just a high level question, what are your thoughts about potential M&A in the space as a tool to grow the platform? Are you interested or they any potential opportunities to combine with other entities, private or public?.

That’s a good question and I’m going to answer that in two ways. First, we will continue to see what other business operations we can start organically like our residential business, which has contributed significantly in other lines of business. And we are always keen to do that given our entrepreneurial nature.

We do have a history of having acquisitions to grow various businesses. I think that’s something we will evaluate very, very carefully and looked to use our currency and/or cash to expand our businesses. We think that valuations to different businesses over the last 36 months have been extremely high.

We were fortunate to have a related party transaction, which have a lot of economies to it to be able to pull off that transaction. I think if the market has a little dislocation, we will be uniquely positioned to be able to do that. Make no mistake about it.

We are specifically focused in the multifamily sector, all parts of the capital structure, all forms of origination and we will do what we can to find complementary businesses within that space to continue to grow that space but we will also look at other opportunities outside of that.

So, it is certainly a key management discussion here and we will be well positioned if there is some dislocation..

I was wondering if you comment on the crowdfunding initiative that I think is through a separate vehicle.

Is there any potential affiliation or joint venture, some kind of arrangement that ABR could have with that?.

So, ABR will be a big beneficiary of that. It has to be kept as a separate unrelated entity due to certain requirements with the agencies. We have gotten tremendous amount of requests from many of our repeat sponsors if they could access that kind of funding and to some of their deals.

And that is something that we feel could provide additional new sponsors to come in as well as enhance our relationships. So, we feel that ABR will be a real beneficiary of that product line..

In terms of borrower demand, seems like the GSE business is still very strong but overall, what are you seeing right? Are you seeing any diminution transaction volumes lost somewhat modestly? And also I was wondering if you could comment on your level of visibility at this point into deals that may close early in first quarter 2017?.

I think from the prepared remarks, we were very clear that our fourth quarter is very strong and we are going to finish the year strong. Our pipeline is strong. Our presence in brand and the market is getting stronger. We are the number one lender for small balance loans far and above anybody else.

And I think we continue to grow our market share and grab a bigger part of the market. We believe 2017 should be as good if not better than 2016, because of all the loans on the CMBS properties that were up for the loan. I think 2017 could be the biggest refinance year market.

If interest rates remain in this region, I think our acquisition activity will remain strong. So, we are very optimistic for 2017..

Can you just clarify what your average of loan size is in the agency business?.

Sure. Ivan, you want me to take that? So, currently for the quarter we had an average loan size as Ivan said has been moving up. So if you look at our portfolio of $12.6 billion, we have roughly 2,700 loans so that translates to an average loan size in the low five.

And it was probably around there in the third quarter, which is probably in the low sixes in the third quarter. But as Ivan mentioned on the Fannie Mae side of the business, our average loan size has started to creep up and I think of late, Ivan, correct me if I’m wrong, our average loan size on the Fannie side has crept up to about $8 million.

Generally, we are in the $5 million to $6 million range although lately we have seen some larger loans opportunities and our average loan size has started to creep up..

And just finally in terms of credit, are you seeing any changes sequentially that could suggest a deterioration, I think that’s one of the market fears about the series cycle right now?.

Well, clearly, we’ve had almost 24 quarters of rent growth in our multifamily properties which is unprecedented. We are very cautious in terms of how we are looking at future rent growth and future occupancies. So, we’ve taken a more conservative posture in the market than some other lenders and backed up our own credit underwriting standards.

There were certain markets that were oil patch related where about two years ago we started, just our credit philosophy. The fundamentals for renters and new housing starts specifically still work in favor of good occupancy and solid rents stabilized markets. But we are cautious about rent growth..

Thanks for taking the questions..

[Operator Instructions] And at this time I’m showing no further questions. So with that said, I’d like to turn the conference back over to CEO, Ivan Kaufman for any further remarks..

If there are no more questions, I’d just like to thank everybody for their participation. This has been a fantastic quarter and we are looking forward to a very successful fourth quarter and year-end. Everybody enjoy the news of the day and we look forward to our next call. Thank you. .

Ladies and gentlemen, thank you for participating in today’s conference. This does conclude the program. You may all disconnect. Everyone have a wonderful day..