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Edited Transcript of ACRE earnings conference call or presentation 2-May-17 4:00pm GMT

Thomson Reuters StreetEvents

Q1 2017 Ares Commercial Real Estate Corp Earnings Call

Chicago May 4, 2017 (Thomson StreetEvents) -- Edited Transcript of Ares Commercial Real Estate Corp earnings conference call or presentation Tuesday, May 2, 2017 at 4:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* John B. Jardine

Ares Commercial Real Estate Corporation - Co-CEO and Director

* John W. Stilmar

Ares Commercial Real Estate Corporation - Principal

* Robert L. Rosen

Ares Commercial Real Estate Corporation - Chairman and Interim Co-CEO

* Tae-Sik Yoon

Ares Commercial Real Estate Corporation - CFO and Treasurer

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Conference Call Participants

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* Charles Nabhan

Wells Fargo Securities, LLC, Research Division - Associate Analyst

* Douglas Michael Harter

Credit Suisse AG, Research Division - Director

* Jade J. Rahmani

Keefe, Bruyette, & Woods, Inc., Research Division - Director

* Jessica Sara Levi-Ribner

FBR Capital Markets & Co., Research Division - Research Analyst

* Steven Cole Delaney

JMP Securities LLC, Research Division - MD, Director of Specialty Finance Research and Senior Research Analyst

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Presentation

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Operator [1]

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Good afternoon, and welcome to ACRE Commercial Real Estate Corporation's conference call to discuss the company's first quarter 2017 earnings results. As a reminder, this conference is being recorded on May 2, 2017. I will now turn the call over to John Stilmar from Investor Relations

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John W. Stilmar, Ares Commercial Real Estate Corporation - Principal [2]

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Great. Thank you. Good afternoon, everyone, and we appreciate you for joining us on today's conference call. I'm joined today by Rob Rosen, our Chairman and Interim Co-CEO; John Jardine, our co-CEO; Tae-Sik Yoon, our CFO; Carl Drake, Head of Public Company Investor Relations; and Veronica Mendiola of our Investor Relations team. We're also joined today by Jamie Henderson, our new President and Chief Investment Officer. In addition to our press release and the 10-Q that we filed with the SEC, we have posted an earnings presentation under the Investor Resources section of our website at www.arescre.com.

Before we begin, I want to remind everyone that comments made during the course of this conference call and webcast and the accompanying document contains forward-looking statements and are subject to risks and uncertainties. Many of these forward-looking statements can be identified by the words such as anticipates, believes, expects, intends, will, should, may and similar such expressions. These forward-looking statements are based on management's current expectations of market conditions and management's judgment. These statements are not guarantees of future performance, conditions or results and involve a number of risks and uncertainties. The company's actual results could differ materially from those expressed in the forward-looking statement as a result of a number of factors, including those listed in its SEC filings. Ares Commercial Real Estate Corporation assumes no obligation to update such forward-looking statements. Please also note that past performance or market information is not a guarantee of future results.

I'll turn the call over to Rob Rosen. Rob?

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Robert L. Rosen, Ares Commercial Real Estate Corporation - Chairman and Interim Co-CEO [3]

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Good afternoon to everyone. Thank you, John. Before I begin, I want to welcome our new President and Chief Investment officer, Jamie Henderson, who started last week. Jamie is an experienced and accomplished commercial real estate executive and business leader who has been well-known to us in our lending markets for years. He helped build and manage a highly successful real estate debt investment platform at Barings Real Estate Advisors, a global advisory firm, and its predecessors, Cornerstone Real Estate Advisers and Babson Capital Management, and served in a leadership capacity at a multifamily focused real estate private equity firm. Given Jamie's extensive experience in commercial real estate across originations, lending and portfolio management, coupled with his strong relationships and management capabilities, we are highly confident that he will help John and me execute on our growth strategy for ACRE. We are thrilled to have him as part of our management team, and we look forward to Jamie's contributions in the coming months and years ahead.

Let me now provide some high-level comments on our earnings results and our expected earnings trajectory for the remainder of the year. As we discussed on our earnings call last quarter, we expected our earnings in the first half of 2017 to reflect our meaningful excess capital that is not yet deployed and earning investment income such that we would under-earn our dividend in the first half of the year. As expected, our first quarter earnings of $0.23 per share are well below our full earnings potential and below our current dividend.

As John Jardine will discuss, based upon the back-ended timing of our current quarter's investment activity, our second quarter may look similar to our first quarter. However, we are pleased to report that we are on track to achieve our full year plan and expect to deploy significant capital into new loans during the quarter that would add to our earnings run rate as we enter the second half of the year. We expect this will put us in a position to start out-earning our current dividend level in the third and fourth quarters.

Our available capital currently stands at approximately $128 million, and we believe we can fully deploy the majority of this capital by year-end in addition to the redeployment of currently anticipated repayments. Our balance sheet remains in excellent shape with modest leverage of 2.4x below our target range and is match funded and poised to benefit from potentially higher interest rates.

Our portfolio continues to perform very well. Credit quality remain strong and stable with no impairments or losses. We continue to use our broad origination platform and extensive relationships to source attractive investment opportunities all over the U.S. and in mostly, our favorite property types of multifamily office and student housing. We are staying very disciplined with strong focus on cash flowing properties where our borrower has a credible business plan to further add value.

In addition, our asset yields are improving, increasing 40 basis points to 6.4% compared to 6% at the end of the first quarter in 2016, and up 10 basis points compared to 6.3% at the end of our fourth quarter as our focus on senior floating rate loans generates higher asset-level returns in this rising interest rate environment. We continue to increase our sources of available financing, which allows us to support future portfolio growth at a very attractive cost of financing, as Tae-Sik will describe later in further detail, so far this year, we have increased our funding capacity by nearly $450 million, which includes the expansion of our Wells Fargo facility by $175 million and our $273 million privately placed securitization.

Based on our continued confidence in our full year outlook, our board declared a second quarter dividend of $0.27 per share, consistent with our first quarter's dividend level. I will now turn the call over to John Jardine to run through market conditions, recent investment activity and our new investment pipeline.

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John B. Jardine, Ares Commercial Real Estate Corporation - Co-CEO and Director [4]

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Thank you, Rob, and good afternoon, everyone. Let me start with some market comments that will put our historical and future expected originations into better context. As discussed on our last call 2 months ago, the real estate markets experienced a slowdown due to some macroeconomic factors, the U.S. presidential election and higher short- and long-term interest rates, which drove a reduction in property transaction volumes during the first quarter. Using data from real property analytics, first quarter property transaction volumes declined to 18% compared to the first quarter of 2016. Within the value-added real estate market, we witnessed a gap between buyers and sellers amid the rate volatility and uncertainty regarding potential tax reform.

However, the market began stabilizing towards the end of the first quarter and transaction flow is now improving as we expect certain transactions delayed in the first quarter will be pushed into the second and third quarters of this year. Market fundamentals are favorable with a strong labor market, steady levels of new supply, solid rent growth and stable occupancy levels in support of property values. In addition, strong levels of value-add and opportunistic real estate private equity dry powder exists in further support of transactions.

That said, market pricing and terms are increasingly competitive, and we continue to remain highly selective. We will not compromise our underwriting standards. And we are using our flexibility and property expertise to generate pricing that is attractive on a risk-adjusted basis and is accretive to our capital. We are using our broad national footprint to seek out opportunities that are focused on cash flowing properties with stable property fundamentals and conservative capital structures.

During the first quarter, the loans we closed were senior and floating rate and made sponsors pursuing value-added strategies on various multifamily properties. In the aggregate, first quarter originations were $134 million across 4 loans with most closing in the second half of the first quarter. For example, in the first quarter, we provided a $54 million floating rate senior loan in support of the acquisition of a 400-unit multifamily property by a highly experienced national sponsor in Tampa, Florida market. In this situation, we believe our loan is in excellent position due to the strong in-place cash flows and a sound business plan from our national sponsor, which includes increasing value through higher rents and occupancy to levels commensurate with the market. Importantly, there is de minimis new supply in the vicinity to compete with the property.

This case study highlights our focus on lending to high-quality sponsor-owned properties, whether it's existing cash flow, with a plan to further increase cash flow and therefore property value. We believe this type of lending supported by strong in-place cash flows and credible growth plans mitigates economic risks and potential changes in cap rates.

On the more than $1.5 billion of repayments since our inception, our borrowers have increased property cash flows on average by approximately 15% from successful executions of their business plan. This growth in cash flow increases the value of the property and deleverages our position, resulting in improved and highly attractive risk profiles for our loan.

With respect to repayments. We experienced $65 million of repayments in the first quarter, less than half of our quarterly average of 2016. So far, in the second quarter, our repayment levels continue to track well below last year's levels, with just $17 million of repayments made as of May 1. While we can't make any guarantees, based on an analysis of our borrowers' business plans and our ongoing communications with them, we continue to expect repayment activities for full year 2017 to track lower than last year's rate of repayment.

With an outlook for moderate repayments and a pickup in the advanced stages of our pipeline, we expect strong net capital deployment to support future earnings growth from current levels. In April alone, we have executed over $200 million of term sheets that are expected to close by quarter end. And we have seen a significant increase in our advanced stages of our pipeline compared to a few months ago. Our pipeline remains focused on stable properties with blank multifamily office and student housing with a concentration on senior floating rate loans, and we continue to be highly selective in retail and hospitality. We also continue to select junior capital investments in subordinate loans and debt-like preferred equity.

In summary, based upon improving transaction flow, our expectations for an increase in near-term new investment closings and a reduction in repayments, we have a strong conviction that we are on track this year to exceed our record production level in 2016 and meet our net deployment goals for the year. Now let me turn it over to Tae-Sik to discuss our results and financial position in greater detail.

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Tae-Sik Yoon, Ares Commercial Real Estate Corporation - CFO and Treasurer [5]

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Great. Thank you, John. In our earnings release this morning, we reported net income of $6.5 million or $0.23 per common share for the first quarter of 2017. Although our first quarter earnings did not meet our long-term objective of covering our dividend, they were in line with our internal expectations and reflect the underinvestment of our capital.

For the first quarter of 2017, the average unpaid principal balance of our investment loan portfolio was $1.3 billion, and our first quarter borrowings averaged $984 million, including our secured funding agreements, term loan and our recent securitization. As we have indicated previously, we remain well-positioned to benefit from rising short-term interest rates as our portfolio continues to be invested predominantly in senior floating rate loans. In fact, as of March 31, 2017, 97% of our portfolio, as measured by unpaid principal balance, was comprised of floating rate loans all indexed to 1 month U.S. LIBOR. And as part of our match-funding strategy, 100% of our debt liabilities are also floating rate, again indexed to U.S. LIBOR. As both our assets and liabilities are floating rate, we remain positively positioned for an increase in our earnings in a rising short-term interest rate environment. For example, using our first quarter 2017 portfolio and results on a pro forma basis, we estimate that a hypothetical 100 basis point increase in 1 month U.S. LIBOR will result in approximately $0.13 in additional earnings per common share on an annualized basis.

Since the beginning of the year, we have added approximately $450 million in new financing capacity. Yesterday, we entered into an amended $500 million warehousing facility with Wells Fargo, which increased by $175 million the existing $325 million facility and extended the maturity date to December 2018 along with 2 1-year extensions.

In March of 2017, we also executed a $273 million private-placed securitization with a well-known institutional investor, which is a highly efficient, lower-spread and nonrecourse source of financing. As part of the transaction, we were able to include a reinvestment period, giving us the ability to replace repaid loans in the pool for a period of 2 years rather than having proceeds go towards repayment of senior notes. This reinvestment period provides the opportunity to extend the term of the securitization.

We also achieved favorable call provisions during the life of the securitization financing, allowing us to more efficiently manage our capital. This latest securitization will free up incremental bank loan capacity to further support future portfolio growth while also providing us an opportunity for compelling returns on our capital. Given the efficient structure of this deal with an initial cost of debt of LIBOR plus 1.85% for fees and expenses, we expect this financing will be able to generate attractive and accretive mid-teens levered returns on our retained subordinate interest before fees and expenses.

Additionally, as we mentioned on our last earnings call, in the first quarter of 2017, we exercised our option to extend our $50 million City National Bank facility to March 2018 and, at the same time, also receive 2 additional 1-year extensions that would extend the maturity of this facility to March 2020, if fully exercised.

We continue our focus on match-funding our assets and liabilities. As of March 31, 2017, we had a weighted average remaining term of 2.7 years on our funding facilities, again, assuming we exercise available renewal options. This matches or exceeds the approximate 2-year average remaining life of our aggregate loans held for investment.

At quarter end, our balance sheet was moderately levered at 2.4x debt-to-equity, below our target of approximately 3x debt to equity. As of April 28, 2017, we had $128 million of available cash or an approved but undrawn capacity under our financing facilities to fund new loans in our pipeline, to fund outstanding commitments under existing loans and for other general corporate and working capital purposes. Excluding the impact of any repayment, our dry powder from this available liquidity is approximately $410 million of senior loans, assuming a hypothetical 2.5x debt-to-equity leverage ratio under our warehouse lines.

Before I turn the call back over to Rob, I want to reiterate that it is our goal to generate 100% coverage of our current dividend level for 2017 from earnings. Our earnings are not yet fully optimized while we have significant amount of excess capital. But once deployed, we believe we can optimize our earnings at higher sustainable levels during the second half of this year. And looking further out, we continue to believe that we can earn approximately 9% net on our equity capital.

With that, I will turn the call back over to Rob.

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Robert L. Rosen, Ares Commercial Real Estate Corporation - Chairman and Interim Co-CEO [6]

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Thank you, Tae-Sik.

In closing, we remain confident in all aspects of our business, including our market positioning, the benefits of the Ares platform, the credit quality of our portfolio and our strong financial picture. We also have great confidence in our ability to generate higher and attractive earnings levels for our shareholders. As John discussed, we are now seeing a pickup in activity. And our pipeline is comprised of high-quality assets that are consistent with our core portfolio holdings. We have significant capital to invest in this market, and we will continue to deploy it in a manner that is accretive for our shareholders and that supports attractive investment returns.

I also can't emphasize enough how confident I am that Jamie's leadership and expertise will add significantly to the long-term value of our company.

Lastly, I would like to thank one of our directors, John Hope Bryant, for all of his advice, leadership, integrity and wise counsel over the last 5 years. John has been one of our directors since our IPO, and has decided not to stand for re-election when his current term expires at our annual meeting in June due to the demands on his time from his other professional commitments. We want to wish John all the best in his new and existing endeavors.

With that, operator, could we please open the line for questions?

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Questions and Answers

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Operator [1]

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(Operator Instructions) And our first question will come from Jessica Levi-Ribner of FBR.

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Jessica Sara Levi-Ribner, FBR Capital Markets & Co., Research Division - Research Analyst [2]

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One just broadly on the competitive landscape, and then could you give a little bit more detail into the pipeline? Is it all senior loans? Could you maybe size it for us? I know that you said it's high quality and consistent with the current portfolio, but maybe some more details would be helpful, if you can give them.

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John B. Jardine, Ares Commercial Real Estate Corporation - Co-CEO and Director [3]

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The pipeline is generally -- has been traditionally 80% stretch senior loans and 20% subordinate paper. And we anticipate maintaining that ratio, maybe slightly increasing the subordinate loans that we'll have or transactions that we'll have in place. But you could look at 80% seniors stretch seniors, and the balance will be subordinate or debt-like preferred equity. And the pipeline is quite strong, as I mentioned in my prepared remarks.

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Jessica Sara Levi-Ribner, FBR Capital Markets & Co., Research Division - Research Analyst [4]

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And then just the competitive landscape overall, especially in the market that you play.

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John B. Jardine, Ares Commercial Real Estate Corporation - Co-CEO and Director [5]

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Well, in the stretched senior market with value-add lending, we have seen some competitive elements within the last quarter. We've seen a few new entrants but nothing that is alarming in our view. We have, as I mentioned to you, very skilled folks across our national footprint. We are able to take advantage of opportunities and inefficiencies in the marketplace effectively. Although there has been some modest compression in spreads, we don't see anything alarming in terms of the competitive landscape in front of us.

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Jessica Sara Levi-Ribner, FBR Capital Markets & Co., Research Division - Research Analyst [6]

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Okay. And then -- and one, just a clarification. You said earlier that you expect to even deploy 100 -- the $128 million plus the capital that comes back from repayments by year-end. Or did I hear that wrong?

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Robert L. Rosen, Ares Commercial Real Estate Corporation - Chairman and Interim Co-CEO [7]

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No, you didn't hear it wrong. I think that was -- this is Rob. I think that we said we'll get the exact word, but what we were saying was, was that the bulk of that would be deployed by year-end. And we don't want to be held to an exact number, but the message is loud and clear that the pipeline and originations are increasing. And that our confidence in deploying our excess capital and expected repayments is, in fact, our objective by the end of the year.

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Tae-Sik Yoon, Ares Commercial Real Estate Corporation - CFO and Treasurer [8]

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And Jessica just before you go, just to maybe clarify one point that John Jardine made. In terms of again the pipeline, as John said, I think going forward, he is looking at a pipeline that is sort of 80% senior, 20% on the mezz on the equity side. Just to clarify, our existing portfolio, in slight contrast to that, is more right now skewed towards senior. So right now, as of March 31, 92% of the portfolio is in senior loans and just 8% is in the subordinate one.

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Operator [9]

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And the next question will come from Steve Delaney of JMP Securities.

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Steven Cole Delaney, JMP Securities LLC, Research Division - MD, Director of Specialty Finance Research and Senior Research Analyst [10]

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Jamie, welcome aboard. We look forward to meeting you soon. John, thank you very much for the color on prepays and pipeline. I think that's the most in-depth you guys have been on that topic. And it was very helpful because we came in about $1 million higher in net interest income for the quarter, but we had identical originations and actually slightly higher prepay. So we were puzzled because that delta was about $0.03 a share. So it helps us a good bit. Now on the first quarter with the $65 million, can you recall whether that came -- the prepayment, or prepayments, if it was multiple, did they come in earlier in the quarter relative to your $134 million of originations?

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Tae-Sik Yoon, Ares Commercial Real Estate Corporation - CFO and Treasurer [11]

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Yes. Steve, this is Tae-Sik. So you're exactly right, is that the prepayments did come in much earlier in the quarter. So unfortunately, the prepayments were front-loaded and the originations of about $134 million were towards the latter half of the first quarter. So we suffered sort of both ends of that spectrum.

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Steven Cole Delaney, JMP Securities LLC, Research Division - MD, Director of Specialty Finance Research and Senior Research Analyst [12]

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Okay, just wanted to confirm that. And on the term sheets of $200 million, I understand that most of that coming obviously in the month of April. But is it expected that all $200 million of those loans have a chance to close by the end of the second quarter?

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Robert L. Rosen, Ares Commercial Real Estate Corporation - Chairman and Interim Co-CEO [13]

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Yes.

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Steven Cole Delaney, JMP Securities LLC, Research Division - MD, Director of Specialty Finance Research and Senior Research Analyst [14]

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Okay. All right, great. Okay, very good. And just lastly on competition, we think you guys are probably seeing there are 2 new commercial mortgage REIT IPOs in the marketplace, or one in the market, one that has been filed, KKR and TPG. And John, I'm curious. On the surface, that looks like new competition. But can you comment as to whether those 2 existing entities, these are not startups, whether you already see those players? Or in other words, are they existing participants in the marketplace rather than new competitors?

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John B. Jardine, Ares Commercial Real Estate Corporation - Co-CEO and Director [15]

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I run into TPG quite often as a worthy competitor.

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Operator [16]

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And the next question comes from Jade Rahmani of KBW.

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Jade J. Rahmani, Keefe, Bruyette, & Woods, Inc., Research Division - Director [17]

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Just on originations, since the reported originations came in line with what you had disclosed March 3 when you reported earnings last quarter, it doesn't look like you closed anything material in March and April. So was that attributable to the market slowdown and just the time lag in the timeline to closing loans? Or was there anything else that played into that?

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John B. Jardine, Ares Commercial Real Estate Corporation - Co-CEO and Director [18]

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No, there was just this sort of standard slippage. These loans are still sort of out there. They're active. It moves a month or 45 days, which sometimes happens.

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Jade J. Rahmani, Keefe, Bruyette, & Woods, Inc., Research Division - Director [19]

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On the term sheets, are those nonbinding? And what percentage of term sheets historically turn into closings?

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John B. Jardine, Ares Commercial Real Estate Corporation - Co-CEO and Director [20]

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So term sheets, there's money posted. Good faith deposits are posted. And generally, when you position that where it's executed with money up, you have a 99% chance that it closes. I mean, occasionally, you'll have something that will go wrong. They may find an environmental issue that no one can deal with, but it's rare.

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Jade J. Rahmani, Keefe, Bruyette, & Woods, Inc., Research Division - Director [21]

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Okay, that's very helpful. The commentary around repayments, you said 2017 repayments based on your current perspective should be below 2016, which would leave quite a significant amount of repayments in 2018 given the less than 2-year duration. So what percentage of the portfolio would you expect to mature in 2018?

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Tae-Sik Yoon, Ares Commercial Real Estate Corporation - CFO and Treasurer [22]

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Jade, again, the way we really analyze repayments at maturity as well as prepayments is we're evaluating one of each individual asset, each individual loan we're in very, very close contact with each of the borrowers to understand where they are in terms of executing their business plans. And what we find is that once they achieve their business plans, or are very close to achieving their business plans, they are looking to either monetize the assets by selling it or seeking long-term permanent financing. So we don't really look at this statistically. I think you're right. If you look at our so-called weighted-average life, it's about 2 years. That's based upon the contractual maturity. So if you look at 2017, as we indicated, we expect significantly less prepayment in 2017 than we had in 2016, largely because, as you saw, we had significant new originations activity in 2016. So a lot of our loans are relatively fresh. So I think in a general statement, I think you are correct. We would expect more repayments to be occurring in 2018 just from a mathematical standpoint. I don't think we have a quantified number for 2018 that we're prepared to provide. I think generally, you are correct. We would expect more prepayments in 2018 than 2017. But obviously, 2017, we expect to be significantly lower than 2016.

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Jade J. Rahmani, Keefe, Bruyette, & Woods, Inc., Research Division - Director [23]

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I mean, I guess my worry is that originations are ramping up currently. Hopefully, that continues for the next 2 quarters. That puts earnings on track to exceed the dividend by the end of the year, and hopefully match this dividend for the full year. But then in 2018, you'll be faced with another headwind, which is a spike in prepayments because of the short duration of the remaining portfolio. So are there strategies you can do now to obviate that risk?

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Robert L. Rosen, Ares Commercial Real Estate Corporation - Chairman and Interim Co-CEO [24]

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Yes. This is Rob. I think that I would respectfully take exception with the word spike. I think that last year, we had significantly higher repayments than we expected, and it's flowing into somewhat lower repayments in 2017. Mathematically, the portfolio turns over every 2 to 2.2 years. So we deal with that. We also are competitive in terms of refinancings when the refinancings are accretive and, in fact, are economically appropriate for us to do. So the repayments and prepayments are not 100% lost, but rather present opportunities in many instances for us to compete for refinancings. But offsetting the repayments is, in fact, a period of deployment that we anticipate increasing interest rates, higher spreads, and in fact, appropriate recycling and reunderwriting of credit and credit risk in 2018 as the existing portfolio repays. So while the math, in fact, can, in fact, suggest, as you called it, a headwind, for us, the opportunity to reunderwrite, redeploy, get capital out at increasing spreads and compete for refinancing sort of ameliorates the sort of risk that you're appropriately identifying.

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Tae-Sik Yoon, Ares Commercial Real Estate Corporation - CFO and Treasurer [25]

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And Rob, if I could maybe add 2 other comments. In 2016 not only, Rob, as you said, that we have significant repayments, but just recall that we also sold our mortgage banking business to ACRE Capital and generated approximately $93 million of additional cash to put to work as well. So in addition to the repayments, we have that onetime additional liquidity that became available. Second, to maybe reiterate what Rob said, in the history of ACRE, we've already had 50 loan repayments totaling about $1.5 billion. And so the portfolio has already turned at least once fully. And obviously, we have now fully redeployed those assets into the current portfolio. That is the nature of our business is to have short-term floating rate senior loan that will generally turnover in a 2 to 2.5 year time period. So it's all part of the business plan.

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Jade J. Rahmani, Keefe, Bruyette, & Woods, Inc., Research Division - Director [26]

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I was wondering if you could comment on credit quality. You mentioned strong credit quality and consistent performance. Or no -- I think the 10-Q said no loans are in default. Just could you comment on if credit performance was stable quarter-over-quarter, if there are any loans from your vantage point in which credit quality has deteriorated? And also could you comment on the retail aspect of the portfolio?

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John B. Jardine, Ares Commercial Real Estate Corporation - Co-CEO and Director [27]

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So from a credit perspective, we have not compromised our standards. And I think in our prepared remarks, we were fairly clear in our explanation as to the soundness and the creditworthiness of our portfolio. In terms of retail is concerned, we have 2 specific assets that are in the discrete mortgages that are on assets that are in the Chicago part -- the Chicago area. One of them is a very high-quality North Michigan Avenue property, which is probably, I think, the LTV at this point is like 65%. It has significant leasing. It's in very, very good shape and well-located, just a high-end retail asset, and we have no concerns about that. Another asset that we have is in the suburban market, where the business plan of a very successful household name that you would know, if I could tell you, basically was going to take a significant position in this property, acquired the property for the sole purpose of reletting that property from Barnes & Noble a health care provider that is investment-grade. So they took an asset that was -- or a space from a tenant that was paying $6, and they ended up with a -- getting a 15-year lease for $24 triple net. And they're going to be selling that asset in the summer. And we don't have the price on that yet because they're in the LOI stage, but we think it's probably going to be a good $25 million more than what our loan is. So it's probably somewhere in the mid-50s is probably where that price is going to come out. We have a few retail loans that are in a cross-collateralized pool of self-storage assets. And all that, we don't see any significant problems in that area as well. So from a retail perspective, we feel we're in very good shape.

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Jade J. Rahmani, Keefe, Bruyette, & Woods, Inc., Research Division - Director [28]

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And any other loans where performance could have -- where you are aware of performance deterioration?

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John B. Jardine, Ares Commercial Real Estate Corporation - Co-CEO and Director [29]

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No.

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Operator [30]

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The next question comes from Douglas Harter of Credit Suisse.

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Douglas Michael Harter, Credit Suisse AG, Research Division - Director [31]

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Just strategically, are you thinking -- would you consider doing any longer-duration loans to sort of help mitigate this sort of reinvestment cycle and keep capital deployed longer?

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John B. Jardine, Ares Commercial Real Estate Corporation - Co-CEO and Director [32]

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So we look at opportunities in every arena, in every way. However, our fundamental business has been -- and I think quite elegant, in that we're doing floating rate value-added lending, which helps to mitigate some of the risks relating to increases in interest rates. And then the creation of value, as I mentioned in my prepared remarks, it helps to delever our position. So the longer-term fixed-rate type deals are usually a lot more stabilized and are somewhat inconsistent with what our fundamental business model is all about. I don't -- I never say never, but we're, more or less, a short-term LIBOR-based value-add lending group.

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Robert L. Rosen, Ares Commercial Real Estate Corporation - Chairman and Interim Co-CEO [33]

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Yes. Look -- this is Rob. Let me make perhaps a slightly more emphatic point. From my perk as Chairman, I don't want to live through asset liability mismatches. And I don't want to have -- essentially, we've done a great job in extending the maturities of our warehouse lines. We've got no mark-to-market exposure. And our securitization that we just did, in fact, because of the replacement feature that we negotiated, extended the duration of that. But if we wound up with appropriately matched liabilities, taking advantage of longer-term liability opportunities in the market, then as long as we can match fund, I don't think we'd be opposed to that. But I think it's highly unlikely that we would subject our shareholders and ourselves to an asset-liability mismatch.

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Douglas Michael Harter, Credit Suisse AG, Research Division - Director [34]

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Great. And then just one more on the repayment outlook. I guess what are the -- I know you said you kind of look at it on a granular level. What would be the scenario that prepayments could accelerate faster than what you're looking for this year? What type of macro environment would make that more likely?

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Tae-Sik Yoon, Ares Commercial Real Estate Corporation - CFO and Treasurer [35]

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So maybe I'll start, Doug. I think from a property perspective, we want our borrowers to succeed in their business plan. We expect our borrowers to succeed in their business plans. And we think it's very likely our borrowers will succeed in their business plans. And what is probably the least predictable, if you want to call it that, is the timing of when they can achieve those results. And so again, while we're very specific, we're very tough of our assets, we think we know what's going on step by step as they reposition and further add value in cash flow free assets, it's really the timing of when they achieve those results that could impact our prepayment predictions or assumptions, either slower or faster. So again, I think that from a loan-by-loan perspective, it's the biggest factor in when prepayments can happen. So good news is sometimes not great news for us, right, because of the borrowers, very successful and does it faster than they expect, faster than we expect. It's likely they'll accelerate that repayment. Great news for the borrower. Great news from accretion of value. Unfortunately, not so great news in terms of having on earlier prepayment than what we would have projected. On the opposite sense again, if one of our borrowers takes longer than expected, obviously, not great news in terms of executing the business plan, but good news in terms of holding out on the asset longer, but still, over time, generating the value increase and cash flow increase that we expected. So from a property-by-property perspective, I think that is one impact. From a capital market standpoint, obviously, if there was a sharp decrease in borrowings spreads, where one of our borrowers said, "Hey, I can -- even though I haven't completed my business plan, I can get cheaper financing today than what I have with the team from ACRE," and they can try to refinance. We have not seen evidence of that very much in the past for a couple of reasons: one is we do have some lockout protection of our loans. So generally, in a 3-year loan, we'll have anywhere from 12 to 18 months. Not in all cases, but in general, we'll have 12 to 18 months of lockout protection. Secondly, we build in upfront fees. And in many cases, we build in exit fees. So that, it acts as somewhat of a barrier, if you want to call it that, but somewhat of a discouragement to pay us out early because those fees are going to be fully due, whether they prepay us at full maturity or they prepay us prior to that time period. So there's some things we can do to discourage prepayment, even in a scenario of much lower borrowings spreads. But again, I think those 2 would be the 2 ways to really think through and say, how could prepayment speeds impact our business.

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Operator [36]

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And we have time for one more question. That question will come from Charles Nabhan of Wells Fargo.

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Charles Nabhan, Wells Fargo Securities, LLC, Research Division - Associate Analyst [37]

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So I wanted to get some color around your near-term guidance that the second quarter earnings will relatively resemble the first quarter. Now if I think about the dynamics heading into the quarter, you closed a number of loans in the back half of the first quarter. You'll have the benefit of higher rates in the second quarter. And presumably, you'll be closing roughly 200 million that are in your pipeline towards the end. So if I think about all those factors in relation to your guidance, would that imply that you'll be receiving some repayments in the front half of the -- towards the beginning of the quarter, before those -- the pipeline is closed? Or what's driving -- given those tailwinds, what's driving the earnings to be in line with the first quarter?

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Tae-Sik Yoon, Ares Commercial Real Estate Corporation - CFO and Treasurer [38]

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Sure. Charles, why don't I start? So as you know, I think you said a lot of insightful comments of what drives earnings quarter to quarter. Let me just share a couple of other insights that impact quarter-to-quarter earnings as well. So one is just pure timing of when it happens in the quarter. Like you said, if you tend to close a new loan towards the second half of the quarter or towards the end of the quarter in particular, it has a relatively minimal impact on that current quarter's earnings. Same thing with repayments. So that's one. So secondly, I think you are right that we are expecting some level of repayments in the second quarter. Again, first quarter was relatively light at about $65 million. But again, we do expect and already have had about $17 million repayments in the second quarter itself. So there is some repayment activity. And the third is, with respect to repayment again, timing-wise, very important, but also as you know, when you get a repayment, as I sort of mentioned the question from Doug, is that when you do get the repayment and it's a repayment that happened substantially earlier than the state of maturity, there is an acceleration of the remaining unamortized fees associated with those repayments. So in some ways, if you get a repayment towards the end of the quarter, let's say, just hypothetically, you get it really like in the last couple of days of the quarter, it actually helps you in that current quarter because you've earned the interest income from holding it throughout the vast majority of the quarter, but you've also got the sort of onetime benefit, if you want to call it that, from accelerating the remaining unamortized these from that repayment loan. Having said all of that, clearly, our business is such that we regularly receive repayments. So even though I said it's a so-called onetime recognition of that payment, that does happen on a very regular basis. So we're trying to take all of that information in addition to what you described into account in terms of providing some level of estimation of what we think second quarter earnings will look like.

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Charles Nabhan, Wells Fargo Securities, LLC, Research Division - Associate Analyst [39]

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Got it. And as a follow-up. If we were to think about the business from an ROE standpoint, I think you said in the past that with the current capital base, your -- you would able to reach roughly 9% on an ROE basis. And given your outlook for originations and repayments in your pipeline, could you talk about when you would expect to reach that threshold and if that expectation still stands given the current capital base?

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Tae-Sik Yoon, Ares Commercial Real Estate Corporation - CFO and Treasurer [40]

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Sure. So that expectation definitely does stand. As I sort of mentioned in my remarks, once we're fully deployed, based upon the type of yields that we're able to generate, based upon the cost of capital on the liability side that we have in place today, that includes our warehouse lines as well as our securitization as well as our term loan. So based upon current conditions today, once we get full deployment, we believe that a 9% net ROE is definitely well within our reach and definitely our target earnings. From a target perspective, again, this isn't on a trailing 12-month basis, but as you can imagine, we have said that we expect to outearn our dividend in the second half of the year. And so let me just say that we expect to start reaching annualized basis on a go-forward basis, not on a trailing basis but on a go-forward basis, back towards again the second half of this year.

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Operator [41]

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And this concludes our question-and-answer session. I would like to turn the conference back over to Rob Rosen for any closing remarks.

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Robert L. Rosen, Ares Commercial Real Estate Corporation - Chairman and Interim Co-CEO [42]

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Thank you, operator. I want to thank everybody for joining the call. I want to have -- make sure that you all sort of understand the tremendous enthusiasm and confidence that we hope you see in Jamie Henderson joining ACRE as President and Chief Investment Officer. Just a reiteration, please. Always remember, we're a credit-focused shop. We don't stretch for credit or pricing, and protection of our capital and deployment of our capital in sound accretive investments is what we're all about. We thank you very much for the time that you spent with us and for your interest in ACRE. Thanks, operator.

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Operator [43]

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Ladies and gentlemen this concludes our conference call for today. If you missed any part of today's call, an archived replay of this conference call will be available approximately 1 hour after the end of this call through May 15, 2017, to domestic callers by dialing 1(877) 344-7529 and international callers by dialing 1(412) 317-0088. For all replays, please reference conference #10105461. An archived replay will also be available on the webcast link located on the homepage of the Investor Resources section of our website.