Commercial Mortgage and Subordinate Loans, Net

6 Months Ended

Jun. 30, 2019

Commercial Mortgage and Subordinate Loans, Net

Our loan portfolio was comprised of the following at June 30, 2019 and December 31, 2018 ($ in thousands):



Loan Type	June 30, 2019		December 31, 2018
Commercial mortgage loans, net	$	4,206,754	$	3,878,981
Subordinate loans, net	1,236,990		1,048,612
Total loans, net	$	5,443,744	$	4,927,593

Our loan portfolio consisted of 93% and 91% floating rate loans, based on amortized cost, as of June 30, 2019 and December 31, 2018, respectively.

Activity relating to our loan investment portfolio, for the six months ended June 30, 2019, was as follows ($ in thousands):



	Principal Balance		Deferred Fees/Other Items ⁽¹⁾			Provision for Loan Loss ⁽²⁾			Carrying Value
December 31, 2018	$	4,982,514	$	(17,940	)	$	(36,981	)	$	4,927,593
New loan fundings	787,917		—			—			787,917
Add-on loan fundings ⁽³⁾	188,322		—			—			188,322



Loan repayments	(490,087		)	—			—			(490,087		)
Gain (loss) on foreign currency translation	(2,806		)	(58		)	—			(2,864		)
Provision for loan loss / (Realized loss on Investment) ⁽²⁾	(12,513		)	—			15,000			2,487
Deferred fees	—			(12,275		)	—			(12,275		)
PIK interest and amortization of fees	29,201			13,450			—			42,651
June 30, 2019	$	5,482,548		$	(16,823	)	$	(21,981	)	$	5,443,744

———————

(1) Other items primarily consist of purchase discounts or premiums, exit fees and deferred origination expenses.

(2) In addition to the $22.0 million provision for loan loss, we recorded an impairment of $3.0 million against an investment previously recorded under other assets on our condensed consolidated balance sheet. During the second quarter of 2019, the underlying collateral on a commercial mortgage loan and a contiguous subordinate loan secured by a multifamily property located in Williston, ND was sold resulting in a realized loss of $12.5 million. Consequently, the previously recorded $15.0 million loan loss provision was reversed.

(3) Represents fundings for loans closed prior to 2019.

The following table details overall statistics for our loan portfolio at the dates indicated ($ in thousands):



	June 30, 2019			December 31, 2018
Number of loans	71			69
Principal balance	$	5,482,548		$	4,982,514
Carrying value	$	5,443,744		$	4,927,593
Unfunded loan commitments ⁽¹⁾	$	1,192,118		$	1,095,598
Weighted-average cash coupon ⁽²⁾	8.2		%	8.4		%
Weighted-average remaining term ⁽³⁾	2.9 years			2.8 years

———————


(1)	Unfunded loan commitments are primarily funded to finance property improvements or lease-related expenditures by the borrowers. These future commitments are funded over the term of each loan, subject in certain cases to an expiration date.


(2)	For floating rate loans, based on applicable benchmark rates as of the specified dates.


(3)	Assumes all extension options are exercised.

The table below details the property type of the properties securing the loans in our portfolio at the dates indicated ($ in thousands):



	June 30, 2019				December 31, 2018
Property Type	Carrying Value		% of Portfolio		Carrying Value		% of Portfolio
Hotel	$	1,322,167	24.3	%	$	1,286,590	26.1	%
Residential-for-sale: construction	706,260		12.9	%	528,510		10.7	%
Residential-for-sale: inventory	395,375		7.3	%	577,053		11.7	%
Office	1,202,311		22.2	%	832,620		16.9	%
Urban Predevelopment	595,263		10.8	%	683,886		13.9	%
Multifamily	472,785		8.7	%	448,899		9.1	%
Industrial	227,451		4.2	%	32,000		0.6	%
Retail Center	158,128		2.9	%	156,067		3.2	%
Healthcare	142,933		2.6	%	156,814		3.2	%
Other	120,041		2.2	%	151,197		3.1	%
Mixed Use	101,030		1.9	%	73,957		1.5	%
Total	$	5,443,744	100.0	%	$	4,927,593	100.0	%

The table below details the geographic distribution of the properties securing the loans in our portfolio at the dates indicated ($ in thousands):



	June 30, 2019				December 31, 2018
Geographic Location	Carrying Value		% of Portfolio		Carrying Value		% of Portfolio
Manhattan, NY	$	1,883,438	34.6	%	$	1,669,145	33.9	%
Brooklyn, NY	553,859		10.2	%	346,056		7.0	%
Northeast	18,738		0.3	%	23,479		0.5	%
West	696,804		12.8	%	614,160		12.5	%
Midwest	638,981		11.8	%	631,710		12.8	%
Southeast	501,878		9.2	%	559,043		11.3	%
Southwest	119,910		2.2	%	96,345		2.0	%
Mid Atlantic	108,056		2.0	%	211,775		4.3	%
United Kingdom	654,952		12.0	%	700,460		14.2	%
Other International	267,128		4.9	%	75,420		1.5	%
Total	$	5,443,744	100.0	%	$	4,927,593	100.0	%

We assess the risk factors of each loan and assign a risk rating based on a variety of factors, including, without limitation, loan-to-value ratio ("LTV"), debt yield, property type, geographic and local market dynamics, physical condition, cash flow volatility, leasing and tenant profile, loan structure and exit plan, and project sponsorship. This review is performed quarterly. Based on a 5-point scale, our loans are rated "1" through "5," from less risk to greater risk, which ratings are defined as follows:

1. Very low risk

2. Low risk

3. Moderate/average risk

4. High risk/potential for loss: a loan that has a risk of realizing a principal loss

5. Impaired/loss likely: a loan that has a high risk of realizing principal loss, has incurred principal loss or has been impaired

The following table allocates the carrying value of our loan portfolio based on our internal risk ratings at the dates indicated ($ in thousands):



	June 30, 2019					December 31, 2018
Risk Rating	Number of Loans	Carrying Value		% of Loan Portfolio		Number of Loans	Carrying Value		% of Loan Portfolio
1	—	$	—	—	%	—	$	—	—	%
2	3	253,817		5	%	3	138,040		3	%
3	66	5,010,351		92	%	63	4,573,930		93	%
4	—	—		—	%	—	—		—	%
5	2	179,576		3	%	3	215,623		4	%
	71	$	5,443,744	100	%	69	$	4,927,593	100	%

Weighted-average risk rating				3.0					3.1

We evaluate our loans for possible impairment on a quarterly basis. We regularly evaluate the extent and impact of any credit deterioration associated with the performance and/or value of the underlying collateral property as well as the financial and operating capability of the borrower/sponsor on a loan by loan basis. Specifically, a property’s operating results and any cash reserves are analyzed and used to assess (i) whether cash from operations is sufficient to cover the debt service requirements currently and into the future, (ii) the ability of the borrower to refinance the loan and/or (iii) the property’s liquidation value. We also evaluate the financial wherewithal of any loan guarantors as well as the borrower’s competency in managing and operating the properties. In addition, we consider the overall economic environment, real estate sector and geographic sub-market in which the borrower operates. Such loan loss analysis is completed and reviewed by asset

management and finance personnel who utilize various data sources, including (i) periodic financial data such as debt service coverage ratio, property occupancy, tenant profile, rental rates, operating expenses, the borrower’s exit plan, and capitalization and discount rates, (ii) site inspections and (iii) current credit spreads and discussions with market participants. An allowance for loan loss is established when it is deemed probable that we will not be able to collect all amounts due according to the contractual terms of the loan.

We evaluate modifications to our loan portfolio to determine if the modifications constitute a troubled debt restructuring ("TDR") and/or substantial modification, under ASC Topic 310, "Receivables." During the second quarter of 2018, we determined that a modification of one commercial mortgage loan, secured by a retail center in Cincinnati, OH, with a principal balance of $171.2 million constituted a TDR as the interest rate spread was reduced from 5.5% over LIBOR to 3.0% over LIBOR. The entity in which we own an interest and which owns the underlying property was deemed to be a variable interest entity ("VIE") and it was determined that we are not the primary beneficiary of that VIE. During the fourth quarter of 2018, we recorded a $15.0 million loan loss provision against this loan. After the loan loss provision, the amortized cost of the loan was $158.1 million and $156.1 million as of June 30, 2019 and December 31, 2018, respectively. The loan loss provision was based on the difference between fair value of the underlying collateral, and the carrying value of the loan (prior to the loan loss provision). Fair value of the collateral was determined using the direct capitalization method. The significant unobservable input used in determining the collateral value was the capitalization rate which was 6.8%. The loan is on accrual status and we continue to receive contractual interest due. As of June 30, 2019 and December 31, 2018, this loan was assigned a risk rating of 5.

We recorded a $10.0 million loan loss provision and impairment against a commercial mortgage loan secured by a fully-built, for-sale residential condominium units located in Bethesda, MD. This was comprised of (i) $5.0 million loan loss recorded during the second quarter of 2018, and (ii) $2.0 million loan loss provision and $3.0 million of impairment recorded during the second quarter of 2017. The impairment was recorded on an investment previously recorded under other assets on our condensed consolidated balance sheet. After the loan loss provisions and related impairment, the amortized cost balance of the loan was $21.5 million and $27.2 million as of June 30, 2019 and December 31, 2018, respectively. The loan loss provision and impairment were based on the difference between fair value of the underlying collateral, and the carrying value of the loan (prior to the loan loss provision and related impairment). Fair value of the collateral was determined using a discounted cash flow analysis. The significant unobservable inputs used in determining the collateral value were sales price per square foot and discount rate which were an average of $662 per square foot across properties and 15%, respectively. Effective April 1, 2017, we ceased accruing all interest associated with the loan and account for the loan on a cost-recovery basis (all proceeds are applied towards the loan balance). As of June 30, 2019 and December 31, 2018, this loan was assigned a risk rating of 5.

During 2016, we recorded a loan loss provision of $10.0 million on a commercial mortgage loan and $5.0 million on a contiguous subordinate loan secured by a multifamily property located in Williston, ND. The loan loss provision was based on the difference between fair value of the underlying collateral, and the carrying value of the loan (prior to the loan loss provision). Fair value of the collateral was determined using a discounted cash flow analysis. The significant unobservable inputs used in determining the collateral value were terminal capitalization rate and discount rate which were 11% and 10%, respectively. We ceased accruing interest associated with the loan and only recognized interest income upon receipt of cash. As of December 31, 2018, the amortized cost of the loan, net of the loan loss provision, was $32.4 million and was assigned a risk rating of 5. During the second quarter of 2019, the underlying collateral was sold resulting in a realized loss of $12.5 million. Consequently, the previously recorded $15.0 million loan loss provision was reversed.

During the year ended December 31, 2018, we sold a $75.0 million ($17.7 million funded) subordinate position of our $265.0 million loans for the construction of an office campus in Renton, Washington. As of June 30, 2019, our exposure to the property is limited to a $190.0 million ($108.0 million funded) mortgage loan. This transaction was evaluated under ASC 860 - Transfers and Servicing and we determined that it qualifies as a sale and accounted for as such.

As of June 30, 2019 and December 31, 2018, the aggregate loan loss provision was $22.0 million and $37.0 million for commercial mortgage loans and subordinate loans, respectively.

We recognized payment-in-kind ("PIK") interest of $14.6 million and $29.1 million for the three and six months ended June 30, 2019, respectively, and $9.1 million and $19.7 million for the three and six months ended June 30, 2018, respectively.

We recognized $0 and $3.7 million pre-payment penalties and accelerated fees for the three and six months ended June 30, 2019, respectively and $1.6 million for each of the three and six months ended June 30, 2018.Loan Proceeds Held by Servicer

Loan proceeds held by servicer represents principal payments held by our third-party loan servicer as of the balance sheet date which were remitted to us subsequent to the balance sheet date. Loan proceeds held by servicer were $4.6 million and $1.0

million as of June 30, 2019 and December 31, 2018, respectively.