Stuart A. Rothstein - Chief Executive Officer, President and Director Megan B. Gaul - Chief Financial Officer, Principal Accounting Officer, Secretary and Treasurer Scott Weiner - Chief Investment Officer.

Daniel K. Altscher - FBR Capital Markets & Co., Research Division Steven C. Delaney - JMP Securities LLC, Research Division Jade J.

Rahmani - Keefe, Bruyette, & Woods, Inc., Research Division Charles Nabhan - Wells Fargo Securities, LLC, Research Division Amrita Ganguly - JP Morgan Chase & Co, Research Division Ryan Tomasello - Keefe, Bruyette, & Woods, Inc., Research Division.

Good day, ladies and gentlemen. Thank you for standing by, and welcome to the Apollo Commercial Real Estate Finance fourth quarter earnings conference call. [Operator Instructions] I'd like to remind everyone that today's call and webcast are being recorded. Please note that they are the property of Apollo Commercial Real Estate Finance, Inc.

and that any unauthorized broadcast in any form is strictly prohibited. Information about the audio replay of this call is available in our earnings press release. I'd also like to call your attention to the customary safe harbor disclosure in our press release regarding forward-looking statement.

Today's conference call and webcast may include forward-looking statements and projections, and we ask that you refer to our most recent filings with the SEC for important factors that could cause actual results to differ materially from these statements and projections.

We do not undertake any obligation to update our forward-looking statements or projections unless required by law. To obtain copies of our latest SEC filings, please visit our website at www.apolloreit.com or call us at (212) 515-3200. At this time, I'd like to turn the call over to the company's Chief Executive Officer, Stuart Rothstein..

Thank you, operator. Good morning, and thanks to all of you for joining us on the ARI Fourth Quarter and Full Year 2014 Earnings Call. As usual, joining me this morning in New York are Scott Weiner, our Chief Investment Officer; and Megan Gaul, our Chief Financial Officer, who will review ARI's financial results after my remarks.

Clearly, 2014 was a very successful year for ARI in all areas of our business. The company committed to invest over $1 billion of equity into over $1.5 billion of commercial real estate debt investments, by far our most active year-to-date.

Beyond just the volume of capital deployed during the year, it is worth noting several important metrics about our investment activity. We directly originated approximately 90% of our loan transaction as opposed to purchasing the loans in the secondary market, and over 50% of our loan transactions were with repeat borrowers.

We believe this clearly speaks to the depth and quality of our originations platform and the value borrowers see in our ability to structure and execute transaction.

Also notable in 2014 was the establishment of an international presence for ARI as we moved one of our Managing Directors to London and subsequently, during the year, closed 2 transactions in the United Kingdom. ARI's investment success was complemented by our efforts in managing and optimizing the company's capital structure.

Earlier in the -- early in the year, we completed $158 million common equity raise and followed that with 2 successful issuances of convertible notes totaling over $250 million.

As a result of our efforts, ARI reported operating earnings of $1.69 per share for 2014, a 17% increase over the prior year and comfortably in excess of the $1.60 annual dividend. At year-end, our portfolio totaled over $1.6 billion in carrying value, had a weighted average IRR of north of 13% and a weighted average duration in excess of 3 years.

Also worth noting, the weighted average loan-to-value of our loan portfolio was 62%. The credit quality of our portfolio has remained stable, and I am proud to say that after 5 years of operations, ARI has not recorded any principal losses.

Notably, as many investors in the markets continue to anticipate a rise in short-term rates, over the last few years, we have strategically increased the floating rate exposure in the company's loan portfolio such that at year-end, approximately 60% of our loans were LIBOR floaters.

Said differently, at year-end, there is roughly $0.10 per share of earnings embedded in the portfolio for 100-basis-point increase in LIBOR. Turning to the year ahead, we began 2015 by continuing to successfully deploy capital and optimize the company's capital structure. Specifically, we have closed 3 loan transactions to date totaling $165 million.

And beyond these transactions, there is over $250 million of future fundings from previously completed investments embedded in ARI's portfolio as well as a healthy pipeline of potential transactions comprised of both first mortgage and mezzanine loans.

Focusing on the balance sheet and capital availability, we ended the year with a debt-to-equity ratio of 1.2x, which is still below the target range of 1.3 to 1.5x that we've indicated we are comfortable with.

To increase financial flexibility, ARI amended and restated the company's primary financing facility and increased the borrowing capacity to $300 million while simultaneously lowering the interest rate and extending the maturity date.

The company also took advantage of a favorable financing market and closed an asset-specific credit facility with Goldman Sachs with a 4-year term that is consistent with the underlying collateral, generating $52 million of additional proceeds.

In addition, we also would expect that during the year, several loans within ARI's current portfolio will either partially or fully pay off during the year.

When we put these pieces together, the combination of ARI's robust investment activity during 2014 and the early part of this year and the ongoing optimization of the company's balance sheet in line with target leverage resulted -- has resulted in a significant increase in the operating earnings run rate of the company.

The increase was partially realized during 2014 as evidenced by the rise in quarterly operating earnings throughout the year, and management expects the positive trend in operating earnings to continue during 2015.

As such, our Board of Directors has voted to increase our dividend per common share of common stock by 10% to $0.44 per share for the first quarter of 2015.

Given our prior comments around the importance of earning the dividend and seeking to maintain a consistent quarterly dividend as well as a healthy payout ratio, we believe this action by our board is reflective of confidence in the current ARI portfolio and the business plan for 2015. And with that, I will turn the call over to Megan..

Thank you, Stuart, and good morning, everyone. As Stuart mentioned, ARI had a strong year of financial results across all operating metrics.

For the fourth quarter, the company announced operating earnings of $21.2 million or $0.45 per share, representing a per-share increase of 15% as compared to operating earnings of $14.5 million or $0.39 per share for the fourth quarter of 2013.

Net income available to common stockholders for the same period was $20.2 million in 2014 or $0.43 per share as compared to $14 million or $0.37 per share for 2013.

The company reported operating earnings of $74 million or $1.69 per share for the 12 months ended December 31, 2014, representing a 17% share -- per-share increase as compared to operating earnings of $51.4 million or $1.44 per share for 2013.

Net income available to common stockholders for the 12 months ended December 31, 2014, was $75.3 million or $1.72 per share as compared to net income available to common stockholders of $45 million or $1.26 per share for 2013.

A reconciliation of operating earnings and GAAP net income can be found in our earnings release contained in the Investor Relations section of our website, www.apolloreit.com. During the fourth quarter, we completed a $446 million of commercial real estate debt investment.

Our activity during the quarter was funded through a combination of loan prepayment, which totaled $168 million, as well as leverage from our facility. At year-end, our debt-to-equity ratio was 1.2x, and our GAAP book value per share was $16.39.

As a reminder, we do not mark our loans to market for financial statement purposes and currently estimate that the fair value of our loan portfolio at December 31 was approximately $12.5 million greater than the carrying value as of the same date.

It is important to note that as we have expanded our capital base, our G&A expense has essentially remained constant, creating better leverage for our operating platform. Annualized G&A as a percentage of common book value was 68 basis points at the end of the fourth quarter, which continues to be one of the lowest percentages among ARI's server.

And with that, we'd like to open the line for questions.

Operator?.

[Operator Instructions] And our first question comes from Dan Altscher from FBR Capital Markets..

Congratulations on the dividend increase, definitely a very positive announcement, I thought. Stuart, your comments I thought were pretty bullish for the outlook there for -- at least for the rest this year and, I guess, we're seeing it in the numbers.

But I mean, I guess, just to maybe reaffirm or confirm, at $0.44 current run rate, I assume you currently expect you can consistently earn or maybe even over-earn that on maybe a quarterly or annual basis..

That is clearly the way we feel about it right now..

Okay. That's definitely good to hear. You talked a little bit about Europe being again, still, an emerging opportunity. We're seeing it clearly in the U.K., I guess. One of the recent transactions done at a 10%-type IRR, nothing to be ashamed of, but maybe a little bit lower than what maybe some of the more U.S. products is looking like.

So can you maybe just talk about that opportunity a little bit there, what you're seeing there? Are 10% IRRs kind of the right return? Or is it maybe that deal specific or maybe it's a little bit more core versus core plus versus transitional opportunistic that might have different return profiles?.

I'll let Scott comment..

No, I would say just like the U.S., there are different returns for different risk profiles. The first deal that we did in the U.K. was slightly higher return. This was a portfolio of cash-flowing stabilized properties with fresh equity that we liked.

It was in the health care sector, which is a sector that we've been spending more time on, given Apollo has expanded to that and brought on a health care specialist team and the company. So for us, this is -- this was not transitional construction. We felt that return was appropriate. We also felt that it was going to be out for a long time.

It's a 5-year deal, also floating rate, so there's upside on the floating rate. It was a combination of things. I mean, I think as we look at Europe, clearly, I think we see more opportunities in the U.K. We do -- Apollo, overall, does have a large team in Europe doing real estate and other activities. So we do look at other jurisdictions.

We do like the U.K. from a rule of law and, obviously, liquidity. But we do spend time in other markets. And I would say, in Europe, we continue to look at transitional first mortgages like we do here. As part of our recently amended repo facility, we have the capability to do first mortgages in Europe and put leverage on it.

So we're looking at that sector as well as continuing to look at mezzanine deals..

No, that's helpful. That's good color. I mean, just one other follow-up just on the CMBS opportunity. And I understand you guys are looking at coupon by coupons or CUSIP -- or coupon-coupon, by a -- CUSIP by CUSIP and see where the opportunities arise.

But I guess, away from the new issue market, it seems like you're seeing a little bit of spread widening there, but it seems like you guys have actually put on maybe a little bit less exposure in that trade than you had previously, and so is just maybe that not the right way to think about the opportunity set going forward?.

Yes, I think when it came to CMBS, we really were optimistic and really focused more on the legacy space, and I think what's really important to us is the match duration. We've never been one to do -- borrow a 30-day repo and have that continue to roll like you see in the resi market and buy a longer-term asset.

So for us, the match-term funding was always very important because also, we're taking out interest rate risk. And so that worked well when we're buying 3-, 4-year duration CMBS. On the new issue front, we've stated we are not fans of the multi-borrower conduit market.

We think that originate-distribute model and what's going on there with 40-conduit originators all competing, they -- while they compete on price, they also compete on credit, and so we're not a B-piece buyer nor are we investor in that. We do look at the single-asset, single-borrower markets.

As we've talked about before, a variety of different vehicles we manage a few billion dollars of CMBS across different product types. But again, those yields are lower than what we would want to do for ARI. And while there is leverage available, there's a huge mismatch, which we're not comfortable with.

Clearly, on the CMBS floating rate market, you did see at the end of last year a real widening on some of those single-borrower or multi-borrower floating-rate deals, to where you got the maybe L 500. And I do think some people probably hedge funds, and others took advantage of that and put leverage on. That's really a trade.

So for us, with CMBS right now, we don't see the opportunities. I think CMBS, right now, is about 10% of the equity of our portfolio and that will continue to shrink as we get some repayments in CMBS and, obviously, grow the loan book. So going forward, we're not really expecting new CMBS deals this year.

We still look at it, and we're active in that market. So if something happens opportunistically, we will do it. But we're not really anticipating CMBS going forward..

Our next question comes from Steve Delaney of JMP Securities..

I guess, I'd like to start with the floating-rate characteristics of the portfolio, given that I think we just had Janet Yellen on TV for a couple of days, and it seems inevitable they could do something here. So you were 57% total floating rate, I'm looking at slide -- or Page 9 of slide deck, as of year-end.

But obviously, fourth quarter, floaters were 86% of production. So I'm just curious, this appears to be a conscious effort. I'm not sure whether it's more of an effort to get into senior loans versus mezz or whether you really are trying to improve your interest sensitivity. Just wondered if you could comment on that aspect of the portfolio..

I mean, we're obviously confident, and we like the floaters. But one of the things that does come with floaters is generally less call protection. So I think when you look at our fixed-rate portfolio, it's important to understand a lot of our fixed-rate loans are high single-digit, if not double-digit yields. That came with nice call protection.

So to the extent we feel we're getting a very attractive fixed rate yield that's coupled with call protection, yes, I would -- we kind of constantly talk about it, but there are trade-offs, right? So by -- we're -- as we talk about before, we're not in the condo business.

We're not making 4% or 5% fixed-rate loans, but if I could make a loan at 8% with 5 years of call protection, that versus doing a floater where I'm hoping that LIBOR goes up, which it hasn't, by the way, over the past few years and only getting 12 months of call protection, that's a trade. A little bit of it's the type of lending that we're doing.

Clearly, in the more transitional space because of the business plan of the borrower, that's going to be more of a floating-rate loan of shorter durations. To the extent we're doing some -- more stabilized stuff, maybe there is a potential to do fixed rate.

One of the deals we announced for the first quarter was a 5-year fixed-rate, call-protected loan and at a double-digit yield, and we like that. And we have 5 years of call protection..

That's helpful, and I understand the issue. We're seeing it with a lot of people now with prepayments, and they're having to run really fast just to maintain their portfolio.

What type of floors -- when you do a floater, what type of typical LIBOR floors do you put in?.

The market today is kind of no floor to 25 bps. It's different than the corporate market. I think the corporate market is more of a point floor. The mortgage market is 15 bps, 25 bps, kind of where it is..

So you're going to get a pretty -- with any kind of meaningful increase in short rates, you're going to -- it's going to kick in pretty quickly for you..

Yes..

Yes, absolutely. Okay. And then just kind of a housekeeping thing, I just haven't focused on it before.

But the foreign currency marks, I'm assuming all of those are noncash and -- is that correct?.

Yes. I mean, we -- there's margin posted back and forth, but ultimately, on what we've done in Europe, we're effectively perfectly hedged between the asset cash flows and the hedge cash flows..

Actually, what I was going to ask you is, are you actually trying to hedge your exposure there and....

Yes. I think for -- certainly, for our loans, we have done the -- some of our brothers have kind of taken the view that they're always going to be doing stuff in Europe and aren't hedging it. We've taken a different approach. I mean, it is very efficient to hedge on the pound today where we've been spending.

So why wouldn't you hedge it, given you can do it pretty efficiently?.

Got it. And it just gives you more flexibility if you ever want to repatriate that -- those investment dollars, I guess, if you are hedged. So....

Yes..

Okay. And Scott, you may have anticipated this question. I feel like I need to ask it. Back in November, you guys announced that you made a $58 million loan in North Dakota, and it was in an energy-centric market.

I just wondered if you would comment on your thought process when you made that loan and certainly, you would, I'm sure, underwrote it with some sensitivity to lower oil prices. I'm just curious what comments you can give us on that particular loan..

Yes, certainly, absolutely. And I would say that's really our only exposure to oil. We're not really along [ph] Houston or anything like that. That's the first mortgage loan on a multifamily property with a good sponsor who had real equity in the deal, brand new property that had recently been expanded. We did the loan after oil had started to fall.

It was not at $50. As I'm sure you know, Apollo is very active in the energy sector, both in the equity side as well as the credit side. So we spent a lot of time, and we focused on that part of the oil [indiscernible] shale where oil will need to go to and all that kind of stuff. And we really looked at it as an opportunistic way to make a loan.

I mean, we structured it with a 16-year am schedule, so a $58 million loan where we get $2.5 million of am a year. We had a going in debt yield of double digits. It was 10% when the property hedges open a second phase. We're now north of 13% debt yield, trending up to, we think, 15%, 16% debt yield, just to put numbers in perspective.

The property is in a full cash flow sweep until they achieve a 15.5% debt yield, so we continue to build up cash. The sponsor is very committed to it. There's actually leasing activity.

What we're seeing in the market is obviously new construction, which is always kind of the biggest concern there is really grounding to a halt, given lack of availability of construction funding, I think, which is great.

And the municipalities are doing what we thought they would do, which is closing the man camps and kind of moving people out of hotels. So our play, though, has been we don't need new people to move there. We just need the new -- the people that are already working there to want housing, and we're continuing to see that.

So I guess, we're a teen debt yield at 80% or so occupancy, and we think multifamily properties in the market continue to be nearly fully occupied. They're negotiating a big lease right now with a corporate user who is at another property, and that property is 100% and they need to expand.

And they're going to put people in the units, and so we like it. We're able to use -- leverage it on our credit facility and get an attractive risk-adjusted return..

Our next question comes from Jade Rahmani from KBW..

Can you talk about what quarterly pace of originations you think is sustainable?.

Yes. I mean, Jade -- and we've had this discussion before. I mean, I think the business is lumpy enough, and I know everybody always tries to model it on a quarterly basis.

We tend not to think about it on a quarterly basis, right? I would say, given where we sit today, given the volume we did last year, given what we know is embedded in the portfolio just from future fundings this year, we're very comfortable thinking that we could put out, call it, $750 million to $1 billion on an annual basis.

That is always subject to sort of constant changes in the market on returns as well as a constant analysis of where we are in terms of managing our capital base and deals we expect to get paid back on and things that we might -- that might get extended a little longer.

So I don't want to -- I'm not trying to avoid the quarterly analysis to -- but to be perfectly candid, we don't think about the business on a quarterly basis..

Okay.

And in that number, what do you think is -- what do you contemplate as a likely mix between first mortgages or whole loans and mezzanines?.

I would say that given the mortgages tend to be larger, you probably would see -- receive more mortgages. And as we've talked about, we've expanded the repo capacity and we have the ability to grow that more. So I think as we see attractive first mortgages, we will -- we'll do both of those. So it's tough to kind of do an exact rate.

And within our future fundings, most of that is in the first mortgage space, actually pretty much all of that, so you'll continue to see the first mortgage side of the book grow as those future fundings get funded..

And can you just discuss unlevered yields on first mortgages and mezzanine loans, what you think you can see on incremental originations, and just overall, if you think aggregate yields should decline as the mix shifts to first mortgages?.

I mean, to the extent we shift and continue to do more on the first mortgages and we're looking at it at unlevered basis, yes, then by definition, those yields because we don't lever our mezzanine.

But I think on overall portfolio, we're still comfortable that on a blended base is we're getting to continue to get into that teen -- 13% plus or minus levered return.

And I think within first mortgages, there are different types that there is what I would say lightly transitional or -- there's maybe something in lease-up or a hotel coming off a renovation that's kind of with -- in the 400 ZIP code over LIBOR.

And then as you move up, more transitional predevelopment, it goes wider all the way to construction, which is even wider. And then on the mezzanine side, we obviously focus on double-digit returns for our mezzanine book..

Just on the predevelopment, all the way to the construction, what do you think the range is? Is it from L plus 600 up to L plus 800? Or can it go higher than that?.

I think it can go higher than that, really, just depending on kind of the leverage and what you're doing. But yes, I would say 6 to high single digits. Yes, with the high single digits really being ones that you have to look at on an unlevered basis. That's how I'd think about it, which is why the yields are where they are..

For prepayments, is there an outsized quarter that you might expect this year? And also just in aggregate, what level would you expect the prepayment rate of, say, 30% or less than that?.

I think it's going to be less than 30%. I think it will be somewhat lumpy if you look at some of our older New York for-sale condo transactions.

Again, there's been -- I would say, in general, typically based on earliest prepayment date or earliest maturity date, I would say the experience to date has been things end up dragging on a little longer than we would envision.

So you end up with 3- to 6-month extension, but there's no 1 quarter sitting here today that's going to be a total outlier..

Our next question comes from Charles Nabhan from Wells Fargo..

How should we think about the $245 million of future funding commitments in 2015 from a timing standpoint? And does that $245 million include the portfolio of international destination homes that's -- that will be funded by the Goldman lot [ph] loan?.

No. That international, that was already fully funded, and we already had that funding, so that's not included in that. The future fundings are really kind of on the -- I think that the majority of that comes from first mortgage construction loans that we did.

As you remember, we did a large retail project out in Ohio as well as 2 for-sale condos outside of DC. That's really the majority of that. I would say that money will come out, I think the majority of it, over the next 6 months..

6 to 9 months..

Yes, 6 to 9 months..

Okay. And if I could follow up with Jade's question on yields. I know you alluded to some of the variability in first mortgages, and we're still in a low-rate competitive environment. I was wondering if you could comment on some of the offsets to potential yield compression such as lower funding costs..

I think for ARI from the beginning, we have tried to block and tackle and find more of a highly structured transactions. As we stated in the past, we are not trying to compete with the Wells Fargos of the world. And so the deals that we're looking at are often highly complex, maybe repeat borrowers where they need somebody who can understand it.

They want somebody who's going to continue to be there for them for their highly interactive loans. So I would say we stay out of that most liquid part of the capital structure where you're seeing the most competition. I would say with repo financing and also with the nascent CLO market, there is more financing available.

But that type of financing is really focused on, I would say, the next layer of loan that Wells Fargo -- maybe it's a little more leveraged than Wells Fargo wants to do. I'm using them as an example of a commercial bank who's active, not just because they're Wells Fargo, or has a little more transition to it. So I mean, I think that's where we start.

So we're not focused on that most competitive sector of the market. And to the extent that we are focused on that, our model to date has really been teaming up with a bank who can provide a very aggressive senior. We can provide the subordinate piece, and everyone is very happy.

From time to time, we do the whole loan and sell off the senior, so we can do it both ways..

Our next question comes from Amrita Ganguly from JPMorgan..

I'm on for Rich this morning. I just wanted to ask about the competitive market. On the one hand, we keep hearing about the $1 trillion to $1.5 trillion of maturities coming up over the next few years. But on the other hand, there has been a lot of, specifically REIT entrants into the market space lately.

So presumably, they all have the benefit of being able to lend on a nonrecourse basis, unlike banks. And we have seen, over the past 4 quarters, your leverage yield go from 14.1% to 13.4% at the same time as your leverage has crept up.

So how do you view the opportunity in light of the fact that other -- a lot of REIT money has entered the space lately, and some of your competitors have seen a -- some of your competitors, who kind of came out of the gate with very strong originations have seen a sort of a slowdown? So how should we think about your kind of run rate unlevered yield and leveraged? And how do you view the opportunity?.

Yes. Look, I think as I mentioned before, I think we're still comfortable in that 13% area. I think with the yields changing, part of that is a function of the mix.

I think some of our brethren have been very focused on what's exclusively on the first mortgage space maybe because they have competitive vehicles, so they kind of said they only can do first mortgages.

And look, and the markets rewarded for that because they're earning a lower yield, but the market rewards them with kind of requiring a lower dividend yield. So -- and I think it's just what people are focused on.

We have the ability -- I think one of the things that makes us better in the market in that we can do a $20 million mortgage or we can do $150 million mortgage, and both are important to us and both kind of help with the portfolio diversification.

I think that the most competitive parts of the market, which is where we're not in, is the conduit market. There are public vehicles that are in the conduit market as well as the big banks. There's 40-plus people doing that. That's not a market that we're in.

Also, we've talked about the L 250-type floating rate markets, also something that we're not in. But yes, there's plenty of capital out there. Stuart mentioned $1 billion number. If we are a $1 billion number, we are still decimal points of the total market size. So I think there's plenty enough to go around.

I mean, yes, there is that of wall maturities. I think history has shown that the special servicers like to extend that and get their fees and do that, and a lot of that will get taken out with new fixed-rate loans, just given the interest rate environment..

Our next question is a follow-up from Jade Rahmani of KBW..

This actually Ryan on for Jade.

Could you please elaborate a bit on current investment capacity?.

Yes. Look, I think, we -- as I mentioned, we've got still the ability to add some leverage to the company. We're running at about 1.2 turns of leverage now, as I've said, for multiple quarters in a row. We'd be comfortable taking that somewhere between 1.3 to 1.5, and I think the financing is clearly available.

We also expect some repayments throughout the year. So I would say working the portfolio and just given what we expect in the portfolio, there's, call it, $250 million to $500 million worth of capacity, depending on how we decide to work the portfolio, finance it and create availability of capital within the portfolio..

[Operator Instructions] And I show no further questions at this time. I'd like to turn it back to Stuart Rothstein for closing remarks..

Thank you, operator. Thanks for everybody for participating this morning..

Ladies and gentlemen, this does conclude today's conference. Thank you for your attendance. You may now disconnect. Everyone, have a great day..