ACRES Commercial Realty(ACR) - 2023 Q2 - Quarterly Report

Part I - Financial Information Financial Statements The company's financial statements for the period ended June 30, 2023, show a decrease in total assets to $2.27 billion from $2.38 billion at year-end 2022, primarily due to a reduction in CRE loans Consolidated Balance Sheets As of June 30, 2023, total assets were $2.27 billion, a decrease from $2.38 billion at December 31, 2022, mainly driven by a reduction in CRE loans Consolidated Balance Sheet Summary | Account | June 30, 2023 (unaudited) | December 31, 2022 | | :--- | :--- | :--- | | Total Assets (in thousands) | $2,266,656 | $2,376,652 | | CRE loans, net (in thousands) | $1,938,089 | $2,038,787 | | Cash and cash equivalents (in thousands) | $57,112 | $66,232 | | Total Liabilities (in thousands) | $1,822,655 | $1,935,338 | | Borrowings (in thousands) | $1,749,199 | $1,867,033 | | Total Equity (in thousands) | $444,001 | $441,314 | - The allowance for credit losses increased from $18.8 million at the end of 2022 to $25.7 million as of June 30, 2023, reflecting a more cautious outlook on loan performance[12] - Assets of consolidated Variable Interest Entities (VIEs), primarily CRE loans pledged as collateral, totaled approximately $1.5 billion at both June 30, 2023, and December 31, 2022[13] Consolidated Statements of Operations For Q2 2023, net income was $5.6 million, up from $5.5 million in Q2 2022, driven by higher net interest income despite increased provision for credit losses Consolidated Statements of Operations Summary | Metric (in thousands) | Q2 2023 | Q2 2022 | Six Months 2023 | Six Months 2022 | | :--- | :--- | :--- | :--- | :--- | | Total Interest Income | $47,148 | $27,019 | $92,477 | $49,695 | | Net Interest Income | $14,706 | $11,274 | $28,660 | $19,043 | | Provision for credit losses | $2,700 | $524 | $7,796 | $(1,278) | | Net Income | $5,558 | $5,522 | $7,851 | $7,606 | | Net Income (Loss) to Common | $817 | $690 | $(1,599) | $(2,081) | | EPS - Diluted | $0.10 | $0.08 | $(0.19) | $(0.23) | Consolidated Statements of Cash Flows Net cash provided by operating activities significantly increased to $24.5 million for the first six months of 2023, while investing activities reversed to a cash inflow, and financing activities used cash Consolidated Statements of Cash Flows Summary | Cash Flow Activity (in thousands) | Six Months Ended June 30, 2023 | Six Months Ended June 30, 2022 | | :--- | :--- | :--- | | Net cash provided by operating activities | $24,469 | $13,717 | | Net cash provided by (used in) investing activities | $73,652 | $(247,927) | | Net cash (used in) provided by financing activities | $(130,568) | $10,516 | | Net Decrease in Cash (in thousands) | $(32,447) | $(223,694) | Notes to Consolidated Financial Statements The notes detail accounting policies, including the transition to SOFR, the $1.94 billion CRE loan portfolio, increased allowance for credit losses, and common stock repurchases - The company has transitioned its entire $1.9 billion floating-rate whole loan portfolio to SOFR-based interest rates. Of its $1.6 billion in floating-rate borrowings, 96.8% are tied to SOFR, with the remainder expected to be converted in 2023[49][50] - The CRE loan portfolio's carrying value decreased to $1.94 billion as of June 30, 2023, from $2.04 billion at year-end 2022. Multifamily properties represent the largest collateral type at 75.4% of the portfolio[73][76] - The allowance for credit losses increased to $25.7 million from $18.8 million at year-end 2022, with a provision of $7.8 million recorded in the first six months of 2023, primarily due to the negative macroeconomic outlook[78][81] - During the first six months of 2023, the company repurchased 215,160 shares of its common stock for $2.0 million. $5.3 million remains available under the current repurchase plan[154] Management's Discussion and Analysis of Financial Condition and Results of Operations Management discusses the impact of rising interest rates and inflation on the CRE market, noting risks to borrowers' debt service ability and the company's increased CECL allowance Overview The company, a REIT focused on CRE mortgage loans, navigated a challenging macroeconomic environment, resulting in a net portfolio decrease and an increased CECL allowance - The company is actively managing its operations in response to market pressures including inflation, rising interest rates, and disruptions in the credit markets[216][217] Loan Portfolio Activity | Activity (Six Months Ended June 30, 2023) | Amount (in millions) | | :--- | :--- | | Floating-rate CRE whole loan originations | $38.5 | | Loan payoffs | $141.4 | | Net funded commitments | $28.5 | | Net decrease to portfolio | $(74.4) | - The CECL allowance for credit losses stood at $25.7 million (1.3% of the loan portfolio) at June 30, 2023, up from $18.8 million (0.9%) at December 31, 2022, due to a worsening macroeconomic outlook[233] Results of Operations Net income allocable to common shares increased in Q2 2023 due to higher net interest income from rising benchmark rates, partially offset by increased provision for credit losses Key Financial Metric Changes | Metric (in thousands) | Q2 2023 vs Q2 2022 Change | Six Months 2023 vs 2022 Change | | :--- | :--- | :--- | | Net Interest Income | $3,432 | $9,617 | | Real Estate Income | $102 | $4,035 | | Provision for credit losses | $2,176 | $9,074 | | Total Operating Expenses | $3,449 | $14,177 | - The increase in aggregate interest income for the three and six months ended June 30, 2023 ($20.1M and $42.8M, respectively) was primarily attributable to the increase in benchmark interest rates[247] - The increase in aggregate interest expense for the three and six months ended June 30, 2023 ($16.7M and $33.2M, respectively) was also primarily driven by the rise in benchmark rates on securitized borrowings and warehouse facilities[247] Financial Condition The company's investment portfolio decreased to $2.13 billion, with an increased CECL allowance and a shift in loan credit quality towards lagging expectations Loan Risk Rating Distribution | Loan Risk Rating (Amortized Cost in thousands) | June 30, 2023 | December 31, 2022 | | :--- | :--- | :--- | | Rating 2 (Performing as expected) | $1,353,353 | $1,635,376 | | Rating 3 (Lags expectations) | $514,179 | $309,491 | | Rating 4 (Significantly lags) | $63,344 | $85,226 | | Rating 5 (Default likely) | $32,864 | $27,497 | | Total (in thousands) | $1,963,740 | $2,057,590 | - As of June 30, 2023, two CRE whole loans with total amortized costs of $28.2 million and one mezzanine loan of $4.7 million were in payment default[299] - Common stock book value per share decreased by $0.04 during the first six months of 2023, from $24.54 to $24.50. The decrease was mainly due to the net loss allocable to common shares, partially offset by accretive stock repurchases[330] Liquidity and Capital Resources The company maintains liquidity through cash, debt financing, and equity, with a decreased leverage ratio of 3.9x and no common stock dividends paid to preserve liquidity - At June 30, 2023, the company had $57.1 million of unrestricted cash and cash equivalents[345][360] - The company's leverage ratio decreased to 3.9x at June 30, 2023, from 4.2x at December 31, 2022, due to a net decrease in borrowings and a net increase in total equity[361] - No common share distributions were paid during the first six months of 2023 as the company focused on retaining liquidity and utilizing its significant Net Operating Loss (NOL) carryforwards[365] - The company has unfunded commitments of $128.7 million on its CRE loans and $4.1 million on a construction loan as of June 30, 2023[368][370][371] Quantitative and Qualitative Disclosures About Market Risk The company's primary market risks include credit and interest rate risk, with 94.5% of the loan portfolio having interest rate caps to mitigate rising rate impacts - The company mitigates credit risk from rising interest rates by requiring borrowers to purchase interest rate caps. As of June 30, 2023, 94.5% of the CRE loan portfolio's par value had interest rate caps in place[378] Interest Rate Sensitivity Analysis | Scenario | Impact on Annual Net Interest Income (in thousands) | Impact on Annual Net Interest Income Per Share | | :--- | :--- | :--- | | 100 Basis Point Decrease | $(924) | $(0.11) | | 100 Basis Point Increase | $943 | $0.11 | Controls and Procedures The CEO and CFO concluded that disclosure controls and procedures were effective, with no material changes to internal control over financial reporting during the quarter - Management, including the CEO and CFO, concluded that the company's disclosure controls and procedures were effective as of June 30, 2023[389] - No material changes were made to the company's internal control over financial reporting during the second quarter of 2023[390] Part II - Other Information Legal Proceedings The company's subsidiary, Primary Capital Mortgage, LLC (PCM), maintains a $1.1 million reserve for potential mortgage repurchase and indemnification claims, with no outstanding litigation demands - A reserve of $1.1 million was held as of June 30, 2023, for potential mortgage repurchase and indemnification claims related to the subsidiary Primary Capital Mortgage, LLC (PCM), although no litigation demands were outstanding[394] Risk Factors There have been no material changes to the risk factors disclosed in the company's Annual Report on Form 10-K for the year ended December 31, 2022 - The company reports no material changes to its risk factors from those presented in its 2022 Form 10-K[395] Unregistered Sales of Equity Securities and Use of Proceeds The company continued its common stock repurchase program, repurchasing 215,160 shares in the first half of 2023, with $5.3 million remaining available Common Stock Repurchase Activity | Period | Total Shares Purchased | Average Price Paid per Share | | :--- | :--- | :--- | | Jan 2023 | 9,822 | $9.78 | | Feb 2023 | 24,754 | $9.48 | | Mar 2023 | 45,168 | $9.39 | | Apr 2023 | 45,645 | $9.48 | | May 2023 | 62,001 | $8.61 | | Jun 2023 | 27,770 | $8.41 | - As of June 30, 2023, approximately $5.3 million remained available under the company's stock repurchase program[396] Other Information No director or officer adopted or terminated a Rule 10b5-1 or non-Rule 10b5-1 trading arrangement during the second quarter of 2023 - No directors or officers adopted or terminated Rule 10b5-1 trading arrangements during the three months ended June 30, 2023[397] Exhibits This section lists all exhibits filed with the Form 10-Q, including certifications by the CEO and CFO, and various agreements related to financing and management