Q3 2023 Chicago Atlantic Real Estate Finance Inc Earnings Call

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Good day and thank you for standing by welcome to the Chicago, Atlanta Real Estate Finance, Inc. Third quarter 2023 earnings call. At this time all participants are in a listen only mode. After the speaker's presentation. There will be a question and answer session to ask a question during this session.

You'll need to press star one one on your telephone you will then hear an automated message advisory. Your hand is raised to withdraw your question. Please press star. One again, please be advised that today's conference is being recorded I would now like to hand, the conference over to your speaker today Tripp Sullivan. Please go ahead.

Thank you good morning, welcome to the Chicago Atlanta Real estate Today Conference call to review the company's results for the third quarter of 2023.

Call today will be John Mazza rocket Executive Chairman, Tony Campbell, Chief Executive Officer, Andreas boat buyer co President and Chief Investment Officer, Peter Shock co President I feel Silverman interim Chief Financial Officer.

Our results were released this morning in our earnings press release, which can be found on the Investor Relations section of our website.

With our supplemental filed with the SEC.

A live audio webcast of this call is being made available today.

To listen to the replay of this webcast will you remind you that the remarks made herein are as of today.

Day November eight 2023 and will not be updated subsequent to this call.

During this call certain comments and statements we make may be deemed forward looking statements within the meaning prescribed by the securities law, including statements related to the future performance of our portfolio.

Our pipeline of potential loans and other investments.

Future dividends and financing activities.

All forward looking statements represent Chicago Atlanta judgment as of the date of this conference call and are subject to risks and uncertainties that could cause actual results to differ materially from our current expectations.

Investors are urged to carefully review various disclosures made by the company, including the risks and other information disclosed in the company's filings with the SEC.

We also will discuss certain non-GAAP measures, including but not limited to distributable earnings.

Adjusted distributable earnings.

Definitions of these non-GAAP measures and reconciliations to the most comparable GAAP measures.

<unk> in our filings with the SEC I'll now turn the call over to John lots of records.

Please go ahead.

Thanks, Greg Good morning, everyone.

Said last quarter that it might be time to be cautiously optimistic and we continue to stand by that same outlook.

In addition to the positive development in a number of states in the last 90 days, we've seen HHS come out with a recommendation to reschedule candidates from our schedule one to schedule three.

The positive development towards the elimination of the cumulative tax burden of operators, resulting from $2 88, as well as safe banking, taking a different form of safer.

While we remain skeptical about the near term prospects of safer passing Congress anytime soon and the all important rule implementation to take even longer than your perception is that changes at the federal level or more possible.

That change in perception is positively affecting the reality for equity capital among investors and operators that reality has had a clear impact on the credit of our borrowers in absolute dollars.

Now that there has been some movement at the federal level. We've been asked if we think that there will be a new supply of capital entering the industry. Thank.

Thank you lauralee among the larger banks, we continue to believe that the cannabis industry will remain capital constrained for some time with demand accelerating in overall credit quality improving.

If larger banks get involved in the industry as a federal regulations settle we still think the first and best option will be to provide capital to proven lenders such as Chicago Atlanta.

The learning curve and need.

Rule implementation will be.

A tough initial hurdle for the larger and more highly regulated financial institutions.

We have remained fully committed to this industry from day, one and we're big believers in the space there isn't an operator, we work with <unk>, Atlanta or investor in the industry, who doubted our commitment or our ability to deliver on their capital needs.

With the largest platform our own originations team experiencing direct lending, a well capitalized and conservative balance sheet and.

And a diversified loan portfolio, we make the strongest case as the leading capital provider in the space.

Another indication of how the environment has improved is that our pipeline of actionable deals has increased to over 600 million from $400 million last quarter. The origination team has been active in states, such as Maryland, Missouri, and Ohio, where transaction activity has picked up because of the adult use transitions.

The maturities that we and other capital providers have talked about for some time still presents a tangible and sizable opportunity. There are large operators, they still need to refinance the bond and or debt facilities. In the next 12 to 18 months when you add that to the growth in new states the outcome as an upward lift to our pipeline.

We have always tried to be prudent and realistic when evaluating the cannabis space I wanted to close with the point that drives everything we do here in Chicago Atlanta, each investment decision, we make must provide our investors with an attractive yield and protection of principal we've proven to be good stewards of our investors' capital.

You can expect more of that stewardship as we navigate these opportunities ahead of US I will now turn it over to Peter.

Thank you John.

I'd like to first provide a quick update on our partnership with New York and New York's Canada's social equity investment fund.

During the quarter, we funded approximately $19 million at the reached $50 million commitment to the social equity investment bank.

While there is ongoing litigation in New York surrounding licensing that has slowed deployment at the time, we remain committed to supporting this initiative and card licensees across the state and we're highly confident in the credit profile of our funding.

We are exploring social equity initiatives in other states, but it's too early to report anything on that front.

We bring an unmatched scale in the industry and expertise across real estate operational financial legal and credit underwriting to make these initiatives actionable.

As you've done it before we continue to focus our origination and core markets of interest while remaining very disciplined on our underwriting.

You can expect that we will continue to take a lead in markets with strong moats and with operators, who excel at the fundamentals.

Tony why don't you take off again.

Good morning.

From a credit perspective, our portfolio has experienced a meaningful improvement in the last 60 to 90 days with equity values responding positively to the potential rescheduling news thats, a clear positive from a risk premium perspective, and improves our position as equity values have increased.

If $2 80 egos away then the operator profitability and free cash flow should improve materially and multiples will expand which is the type of event that usually attracts more equity capital.

At September 30, our loan portfolio had total loan commitments of $356 million across 27 portfolio companies with a weighted average yield to maturity of 19, 3% compared with 19, 2% at June 30th and 18, 3% a year ago, our weighted average loan to <unk>.

Apprise value remained attractive at 42, 5% compared with 41% at June 30.

Based on the strong start to the quarter, which we disclosed on the last call total gross originations increased $35 million approximately $33 million of which was funded new borrowers.

That was partially offset by $11 million of principal repayments 9 million of which was related to unscheduled early repayments.

Our portfolio was 81% floating rate based off the prime rate, which is down from 88% last quarter and up from approximately 60% in September of 2022.

The slight decrease in floating rate loans was due to three new loans originated in the quarter, which have fixed coupon.

The largest of which was the loans in New York, Social equity cannabis investment fund even with these new originations we continue to see a positive impact on portfolio yield each time, the federal reserve raises their target rate and the prime rate increases.

Ill now turn it over to Andreas.

As disclosed last quarter, we moved loan number nine which was approximately $16 $3 million of principal outstanding to nonaccrual.

We noted then that we were in the process of exercising our rights and remedies to pursue full repayment of outstanding obligations and that this course of action was borrower specific.

Timber <unk> the loan remains on nonaccrual. However, the administrative agent has foreclosed on the membership interest of the borrower and is in the process of obtaining bids to sell the assets and satisfaction of below.

We believe those beds will be in excess of our carrying value on the balance sheet.

On the capital structure side, we had $63 million outstanding on the revolving credit facility as of September 30.

Subsequent to quarter end, we drew another $11 million on the line that leaves us a total of $25 million of liquidity net of estimated liabilities as noted in our press release, we are re initiating discussions with our lending group to expand the line to fund additional investment opportunities.

We have the ability to expand the facility up to 125 million via the existing accordion feature and believe this will be a more efficient means of funding growth in the portfolio.

Our balance sheet remains at low leverage at 23% of book equity at quarter end compared with 22% at year end.

Debt service coverage ratio on a consolidated basis was seven 2% to one as of quarter end compared with the requirement of 135 to one.

Ultimately, we would like to approach leverage equal to 100% of our book equity the near term realistic target is closer to 50% of book equity either target would remain far below that of other mortgage Reits and apply substantial growth in the portfolio over the next few years.

We intend to get there in a very measured fashion, while also providing a compelling yield to our investors I'll now turn it over to Phil to review our financial results.

Thank you net interest income for the three months ended September 30th remained consistent with prior quarter at approximately $13 $7 million gross interest income increased approximately $5 million driven by the positive impact of the 25 basis point increase in the prime rate in July and the yield generated a new Q3.

Fundings of nearly $35 million.

The portfolio remains well diversified with loans to 27 borrowers as of September 30th.

In the third quarter, we recognized approximately $7 million in nonrecurring interest income from early principal repayments as compared to <unk> $6 million during the second quarter.

These increases were offset by the incremental interest expense on the $20 million in net borrowings on our revolving credit facility during the quarter.

Total operating expenses before the provision for credit losses were consistent with the second quarter.

The <unk> 2 million decrease in management and incentive fees were offset by a corresponding increase in stock based compensation expense.

Adjusted distributable earnings was <unk> 57 per weighted average diluted share for Q3, compared with 55 cents during Q2, we.

We distributed a dividend of <unk> 47 for the third quarter, which resulted in a dividend payout ratio of approximately 83%.

Year to date, we have distributed approximately 80% of taxable income.

Q3 earnings per weighted average diluted common share was <unk> 54, compared to <unk> 47 in Q2 our.

Quarterly seasonal reserves remained consistent with prior quarter at approximately $5 2 million as of September 30, and June 30.

The reserve determination for the quarter considered reversals attributable to the principle payments received during Q3, which included the full repayment of loan number 15 and was offset by new reserves on third quarter originations.

Credit quality of the portfolio remained stable with 88% of the portfolio risk rated three or better as of September 30, compared to 87% as of June 30th owner.

On a relative size basis, our reserves for expected credit losses represents one 5% of outstanding principal as of September 30, as compared to one 6% as of June 30.

Approximately 74% of the portfolio based on outstanding principal is fully secured by real estate collateral 'twenty.

23% is partially secured with the remaining 3% having no real estate collateral.

Our portfolio on a weighted average basis had real estate coverage of one five times as of September 32023.

Our book value as of September 30th increased to $15 17 per common share compared with $15 <unk> as of June 30.

Lastly, I would note that based on our results through the first nine months of the year. We affirm our previously issued 2023 outlook operator, we're now ready to take questions.

As a reminder to ask a question. Please press star one one on your telephone and wait for your name to be announced to address withdraw. Your question. Please press star one again.

Yeah.

And we'll take our first question from Crispin Love of Piper Sandler Your line is open.

Thanks, Sarah and good morning, everyone. I appreciate you taking my questions.

First off so you talked about the credit worthiness of your operators and improving just given the potential for changes in scheduling and also regulatory relief, but with this improvement in credit.

Think that yields with new borrowers could decrease even if there isn't a big pickup in competition over the near term.

Thank you for your question Chris. This is John we haven't we haven't observed anything that points to compression of interest.

Basically yield.

So we expect actual yields to remain where they are.

Okay great helpful.

Then just on loan number nine which is a non accrual it sounded like in your comments that you expect that loan to be resolved with a sale do you have any more color there or timing that you would maybe expect a sale.

For that long.

For a workout or for the foreclosure process I think its been pretty a pretty fast process given.

Given the fact that there is no capability of.

Declaring bankruptcy.

We feel that the bids will ultimately be in excess of our carrying value.

That's all I have for now.

Hoping to resolve it very soon.

Great good.

News there and then just one last one from me just on the dividend and it seems.

That youre on track to pay.

Pay a special dividend in the fourth quarter I'm, just curious if that still stands with with a target of distributing 90% to 100% of net income through dividends, we expect to distribute.

Okay above 90%, yes.

Great. That's all I had for questions. Thank you Kristen.

As a final reminder, that star one one to ask a question.

And we'll go to Mark Smith of Lake Street. Your line is open.

Hi, guys.

Curious if Germany.

Any thoughts on Ohio are there new states and maybe any callout for states that are.

Moving on pace or while or or any other new states, maybe you're taking a little longer to get up and running.

Yes, I think yesterday was a monumental day, because Ohio is.

Traditionally conservative market, so seeing that 50, 657% has been very encouraging.

We sort of expected it but it's one thing to expect that and another to actually have it.

On the ballot, so and then passing.

I think I think Florida it looks good we'll see we'll see what happens.

I don't have a crystal ball so.

We just have to wait.

Has there been any significant moves in and build out our need for capital and some of the states that have been more recently.

Move to either <unk> or medical.

Absolutely.

Those are the states that we see most of the movement like I mentioned, Maryland, Ohio was sort of expected. So there was some movement there and then Missouri.

Okay.

And then similarly.

As you look broadly at the industry and in particular in states, where you are today are you seeing any regions or areas that are have become more troubling or do you feel like we've kind of bottomed out.

Across the board.

I think we've pretty much bottomed out and you see some positive momentum and actually the western states surprisingly.

Some of those numbers from a price perspective at least wholesale price perspective are taking on a year over year basis.

Sure.

Positively so.

Yes, definitely when you.

When you strip out capital from an industry.

And that industry is very capex intensive it is not surprising that prices have plateaued from from a wholesale perspective.

So that's.

That's a positive development.

Okay.

And the last one for me just if you can discuss any more than that.

Some shift to more fixed rate.

Volunteers this quarter.

Do you see more of that as we move forward.

Any additional thoughts would be great.

No I think it was just random yes, we saw it as well.

I think it was just.

It just happened, we don't expect to move to a fixed rate.

Structure.

Having said that we do have floors.

So at fixed rate in an environment where rates may.

Start coming down is not the worst position to be in.

Okay, great. Thank you.

Thank you.

And there appears to be no additional questions I will turn it back to John <unk> for any closing remarks.

Thank you all for joining us this morning, we're available for follow up questions.

Thanks again, thank you.

This concludes today's conference call. Thank you for participating you may now disconnect.

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