KKR Real Estate Finance Trust (NYSE:KREF) Q1 2024 Earnings Call Record April 24, 2024
KKR Real Estate Finance Trust Co. wasn't among the 30 most popular stocks among hedge funds at the end of the third quarter (see the details here).
Operator: Good morning, and welcome to the KKR Real Estate Finance Trust Inc. first quarter 2024 earnings conference call. All participants are participating in listen-only mode. [Operator Instructions] This event is being recorded. I would now like to hand the reins over to Jack Switala. Please continue.
Jack Switala: Thank you. Thank you, operator. Welcome to KKR Real Estate Finance Trust's first quarter 2024 earnings call. As the operator stated, this is Jack Switala. Joining me on the conference call today are our CEO Matt Salem, our President and COO Patrick Mattson, and our CFO Kendra DeShas. I want to let you know that during the conference call, we will reference GAAP measures and reconciled non-GAAP financial measures in our earnings call and supplemental presentations, which you can find in the Investor Relations section of our website. This conference call also contains forward-looking statements, which are not guarantees of future events or performance. Please refer to our recently filed 10-Q for cautionary statements regarding these statements.
Before I hand it over to Matt, I'll just give you a quick summary of our financial results. Our GAAP net loss for the first quarter of 2024 was $8.7 million, or negative $0.13 per share. Distributable earnings for the quarter were $26.7 million, or $0.39 per share. Our book value per share as of March 31, 2024 was $15.18, a decrease of approximately 2% sequentially. Our CECL provision increased to $3.54 per share from $3.06 per share in the prior quarter. In mid-April, we paid a cash dividend of $0.25 per common share for the first quarter. Now I'd like to hand it over to Matt.
Matt Salem: Thank you, Jack. Good morning, everyone. Thank you for joining us today. I want to start with a quick update on the state of the market. Despite the most recent Consumer Price Index coming in better than expected and fading hopes for near-term interest rate cuts, the commercial real estate market is rebounding with increased transaction volume, price transparency and liquidity across most property types. Bright spots are beginning to emerge as interest rate expectations narrow, economic growth continues to grow and valuations stabilize. The lending environment is competitive as capital availability exceeds subdued transaction volume. Over the past 24 months, insurance companies, foreign banks and government entities have been able to meet market needs.
The story continues
In response to broader macroeconomic strength, spreads have tightened with recent lending on stable properties in the mid-$100s. With U.S. banks still largely on the sidelines and increased market activity, we expect this supply-demand imbalance to normalize and possibly reverse, creating an attractive opportunity for KREF to fill this void as lending resumes in the coming quarters. But our team has not been dormant. Given KKR's large and diversified CRE credit platform, we have been actively originating loans throughout this cycle. Our banking, insurance and debt fund capital pools across the U.S. and Europe are actively investing with a budget of approximately $10 billion this year. Our own pipeline exemplifies this recovery in deal volume with an existing pipeline of over 100 deals totaling approximately $20 billion in discussions or closings.
This compares favorably to last year's average weekly pipeline of $14 billion. While we expect CRE lending to remain subdued across U.S. banking, we are seeing a notable shift in preference for institutions like ours from direct mortgage originations to loan-on-loan originations, which are more efficient to handle capital, less resource intensive and relatively safer. In terms of property type fundamentals, the office sector remains challenging, but is beginning to become more liquid than six months ago. We continue to identify potential office issues within KREF's portfolio on our watchlist and do not anticipate any negative rating transitions from the office sector to our watchlist.
With regards to life sciences, we remain positive on the sector given the long-term demand driven by scientific and technological innovation. While the market is seeing reduced funding, we downgraded one additional life sciences loan to our watch list this quarter as a result of challenges posed by a near-term leasing slowdown. Multifamily fundamentals are slowing due to new supply trends, but the sector remains very liquid. Market research suggests that multifamily construction starts will decline 50% in 2024 compared to 2022, leading many investors to ignore the rising interest rate environment and current rent pressures. Multifamily represents 43% of our portfolio and is performing well with weighted average rents up 3.4% year over year.
A high rise building in the city skyline reflecting the company's business.
Now, I would like to talk about KREF's first quarter 2024 financial results. KREF comfortably covered its dividend of $0.25 per share with distributable earnings of $0.39 per share this quarter. As stated last quarter, we set the dividend at a level that can be covered by distributable earnings, net of losses on our normalized loan portfolio, under various scenarios. Our expectation is that in the near term, the dividend, net of losses on DE, will continue to significantly exceed the dividend. With the support of KKR Capital Markets, KREF continues to have liquidity of $620 million as of the end of the quarter. This includes $107 million in cash on hand and $450 million in unused corporate revolving loans. The Company has diversified funding sources across multiple facilities totaling $8.7 billion, with unused capacity of $2.9 billion.
78% of our secured loans are fully unmarked with the remaining balances being only marked to market. KREF has no corporate debt or final loan maturities until 2026. The composition of KREF's financing structure remains a true differentiator. During the quarter, we received $336 million in loan repayments, including a full repayment of $173 million on a previously 4-rated DC office loan and $151 million on a previously 4-rated New York City condo loan. We funded $103 million against loans closed in the prior year for a net write-down of $232 million. In four of the past five quarters, repayments have exceeded funded amounts. And we expect this trend to continue, with repayments expected to total more than $1 billion through 2024. KREF has an external management vehicle that benefits from access to the resources, relationships and expertise of KKR's global real estate platform, which manages approximately $70 billion in assets across both debt and equity.
Our dedicated team of approximately 150 real estate professionals is highly regarded as a full-service capital solutions provider. This integration provides us with the optimal toolkit to execute a variety of strategies and maximize the value of our entire portfolio. In addition, our affiliated rated special services firm, K-Star, with a team of 45+ professionals and over $45 billion in special services rights, representing over 5,000 properties, provides us with extensive access to a team of professionals with vast real-time market intelligence. We will navigate this challenging real estate market proactively and transparently. As we stated last quarter, we will patiently optimize our REO portfolio and, as we sell those assets, we believe we will be able to reinvest capital to generate additional distributable earnings of $0.12 per share per quarter.
Now, I'll hand it over to Patrick.
Patrick Mattson: Thank you, Matt. Good morning, everyone. Let's start with an update on our CECL reserves and watch list. Our CECL reserves increased $33 million this quarter primarily due to collateral-dependent loan reserves, bringing our total CECL reserves to $246 million. This was primarily due to a downgrade of a $37.5 million retained mezzanine loan secured by our Boston office property. As we noted last quarter, KREF is currently in modification discussions and expects a portion of the mezzanine loan to be subordinated to new capital contributions from our existing sponsors. For our Seattle Life Sciences Loan and Mountain View Office Loan, both of which are risk-rated 5, we worked with our respective sponsors in the second quarter to acquire title through deeds in lieu of foreclosure, are exploring joint venture partner pathways, and continue to evaluate our future business plans.
More information regarding these loans and our existing REO portfolio is provided on page 13 of the supplement. We had no realized losses in the first quarter of 2024. However, in the second quarter, we expect a significant portion of our collateral-dependent loan reserves to flow into distributable earnings as we expect to take ownership of our Mountain View asset in Seattle. Combined with the expected modification of our Boston office loan, we expect our realized losses in the second quarter to total approximately $140 million, or approximately $2 per share, which is consistent with our existing reserves across these three assets. For our Philadelphia asset, which became an REO last quarter, we have entered into agreements to sell two of the four buildings with completion expected in the second quarter.
The remaining office buildings and parking lots are acceptable for long-term holding. However, there may be opportunities to sell these properties as well, which we will share with you on our next conference call. KREF is well capitalized with a debt-to-equity ratio of 2.1 and a look-through leverage ratio of 4.1 as of the first quarter, slightly lower than at the end of the year. We expect debt reduction to continue through the remainder of 2024 as repayments are expected to exceed future funding obligations. KREF's weighted average risk rating of the portfolio remains at 3.2, with 85% of the portfolio having a risk rating of 3 or higher. KREF has built a diversified and enhanced debt structure through two CRE CLOs, several matched-term lending agreements, asset-specific financing structures, and a corporate revolver.
KREF's liquidity position of over $600 million as of quarter end, including $450 million of unused revolving loan capacity, is a key component of our ability to navigate this dynamic credit and interest rate environment. Our best-in-class funding, more than 75% of which is fully unmarked, combined with our longstanding relationships with funding partners and borrowers, gives KREF the tools at its disposal to withstand the challenges of today's market environment. Thank you for joining us today. We'll now take your questions.
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