Franklin BSP Realty Trust, Inc. (FBRT) Earnings Call Transcript & Summary

Good morning, everyone, and thank you for joining us today. I'm Lindsey Crabbe, and I'm pleased to serve as today's moderator. Joining me are Rich Byrne, CEO of FBRT; Mike Comparato, President of FBRT; and Jerry Baglien, CFO and COO of FBRT. Before we get started, there's just a few housekeeping notes. We are going to record this webinar and post it to our website so anyone can join if they'd like to in the future. And please take a moment to review the forward-looking statement slide that should be on your screen here in a moment. Today, we're going to cover the key aspects of the Newpoint acquisition and our previously filed pro forma financial statements. [Operator Instructions]. So moving on, I'll ahead and get started. As many of you know, we closed our acquisition of Newpoint on July 1. To quickly recap, Newpoint is a leading vertically integrated commercial real estate finance company. Newpoint provides loan origination, servicing, asset management and a suite of agency products. And Newpoint is one of just 19 multifamily originators in the U.S. approved by all 3 GSEs: Fannie Mae, Freddie Mac and FHA/HUD. This acquisition adds a scaled agency origination and servicing platform to FBRT, which enhances our income stability and creates a pathway for long-term book value per share growth. With that, let's jump into our discussion.

Mike, would you be able to walk through what we are aiming to accomplish by bringing Newpoint onto our balance sheet and maybe go through how it strategically changes FBRT?

Happy to. And thank you, Lindsey, for the opening, and thank you, everybody, for joining this morning. I don't think we could be more excited about the acquisition, I think, as we've talked about on all of our earnings calls. This is something that we've been trying to accomplish literally for the decade that I've been running Benefit Street Partners Real Estate Group. We've always touted to the market that we had one of, if not the broadest product offerings out there in terms of our expertise and ability to do everything, kind of a cradle-to-grave one-stop shop. We can do construction loans, bridge loans, all asset classes. We've got a CMBS platform. So our pitch to clients was always, come to us, we can do everything. That one thing that was missing in that everything was the agency business. And I think especially given how active we are in the multifamily sector, it was just a big piece that was missing in the puzzle, and that piece now fits. So it is now -- FBRT is now legitimately a cradle-to-grave provider of debt capital to the market, and we can go from construction to bridge, now to full-blown agency. And I think the cross-selling of those products for the FBRT and BSP teams and the Newpoint teams is just tremendous. It's going to give us an advantage in the marketplace that we're already seeing bear fruit today and benefiting from today. As I mentioned on our last earnings calls, we've already transacted with borrowers who previously had no reason to transact with us before because we didn't have agency licenses. So for all of those reasons, I think it's a great add to the business. I think the 2, I don't want to say ancillary benefits, but it's an incredibly capital-light business. Other -- obviously, we committed a lot of capital to acquiring it. But unlike the whole loan origination business that we run on the day-to-day business, the agency business is 100% financed by warehouse lines. So we don't have to commit capital to close loans and then we sell them to agencies. So it's an incredibly efficient investment for us overall. And then I would say, lastly, just having the servicing business. Again, we're very -- everything we do is internal. We underwrite everything internally. We originate everything internally. We asset manage everything internally. We now get to service everything internally. And that's not only great for our clients, but it's also going to be a huge cost savings for FBRT and also a place that we can grow our third-party servicing for outside parties. So I touched on a lot of things in that answer and sorry for going so long, but there are so many ways in which this Newpoint acquisition should pay dividends for a long, long time.

That's really helpful, Mike. I guess just drilling in a little bit more, are you able to share a bit more on the cross-selling that we've seen since the close of the acquisition late in -- or early in Q3?

Absolutely. And I can even give an example of a loan, I think we're closing tomorrow, hopefully, really interesting opportunity with one of the top 10 multifamily owners in the United States. Again, we had never transacted with this group before because we didn't have the agency licenses, and they're acquiring a large portfolio of assets. I think it's 47 or 48 individual assets, and they have different business plans for both. Some they want to own long term, just part of their long-term portfolio. Others, they want to add a little bit of value with some CapEx and renovations and then sell those over the next 1, 2, 3 years. So our joint venture -- I don't want to say joint venture, but our ability to jointly sell our products was incredibly helpful for this client. And so we're writing an agency loan on like 30 of the 47 properties for a 5-year basis or 7-year basis. And then we're putting the other 17 on a short-term floating rate loan on our balance sheet that just has a ton of flexibility. There aren't any platforms out there that could offer them that. And so not only did we solve a problem for the borrower, but we also got paid a little bit of a premium to the market because we didn't have competition that was ready and able to do that. So the cross-selling has been great. I think we're closing our first new -- we're closing our first agency originated loan within the BSP ecosystem in the next week or 2. We've already closed several Newpoint originated loans for the balance sheet program. So the cross-selling is happening. The closings are happening. And I think most importantly, we're able to talk to clients and just offer them something that hasn't been available in the market before.

That's great. I think that also really leads into my next question. You probably answered some of it already with that. But let's expand on how this truly gives us a competitive edge? Why a sponsor might choose FBRT over a competitor? I think there's probably a lot of points there you can walk through, but maybe highlight what you think the most important ones are.

Yes. I mean I think I just touched on it for a minute. I'll keep going, though. The agency business is very much a commodity business, right? What you get from Fannie and Freddie, any agency lender should be able to get from Fannie and Freddie. So how do you differentiate yourself within that space? I mean, one, of course, is service. You can just be better, more responsive, work faster, but also it's other products. And so if we're going head-to-head with another agency lender with a borrower, how do we differentiate? We tell them all the other things that we can do. It's not necessarily we might not be able to help you on this deal, but if you have a construction loan in a few quarters, if you have a bridge loan in a few quarters, if you need this or if you need that, we've got all of these things. So the sales pitch to every borrower out there is we've got a set of tools that other people just don't have. And if you give us your agency business, you get access to all of these other tools that other people don't have. So that should help us win ties, but it also should just grow the pie just larger overall. So I think it's -- again, I think this is a real life-changing moment for FBRT overall. Does it take 3 months or 12 months to fully integrate and get the thing running like a well-oiled machine? That's obviously to be determined. We're hoping sooner rather than later. And I think we've already made tremendous progress on that integration, but it's going really, really well so far.

Okay. Great. Now I think we want to move into some of our financials. FBRT published pro forma financials on August 1, which provides a view of how Newpoint would have historically been consolidated and demonstrates the capital efficiency of this business. Can you just expand on that capital efficiency and then maybe highlight any key points that we might want to bring up on those pro formas?

I think I touched on the capital efficiency. Oh there you go, Jerry. I was going to have Jerry. Thanks, Jerry. Go ahead.

Yes. Yes, happy to jump in. You kind of hit a little bit of this already, Mike. So I'm going to repeat some of what you said. But when we say capital efficiency, what we're referring to is how much additional equity from the business is going to be tied up in Newpoint. And I think this is one of the more attractive parts of it in that there's none. I mean, in our view, other than sort of investing and growing the business, potentially adding team members and things like that as we scale, there's not really capital needed for deal flow. Like Mike mentioned, these are 100% financed assets as they're originated. So it doesn't require more equity than what we already invested in the business. I mean that's one of the beauties of it. It's very capital light on the balance sheet side of the business. And the only real operating cost is your personnel. There's no machinery. The personnel are the machinery that generate all this. And we don't have to raise a bunch more equity to scale this business. It really scales with the firepower that they have in the business and what we're lending to it with all the stuff that Mike talked about before with our synergies. So it's hyper efficient and only gets more efficient as we scale it from here on out.

Great. That's a good segue into accounting for Newpoint. We put together a slide, it's the next slide in the deck that walks through some of what an agency loan would look like as we consolidate Newpoint. So Jerry, would you mind just kind of walking through some of this and helping explain what distributable earnings might look like after once we consolidate Newpoint?

Sure. There's a lot of things to touch on here. Distributable in some ways, is fairly simple. I mean all we're trying to get to is what is the cash flow that's being generated off this business. And so you really just have to back out the noncash items. You're going to take out any noncash activity from the MSRs. That's really 2 components. It's the initial valuation that you put on. When you rate lock a loan, you're going to put the value of that future MSR onto your book at fair value. So that's essentially the discounted cash flow value of all those income streams that you're going to get from the mortgage servicing rights. That becomes an asset on your book. You'll place it on at a day 1 value. That gain, if you will, isn't a cash gain, obviously. It's just -- it's all to be received in the future. It amortizes down over the life of that loan, right? As the loan starts to wear off and you get close to maturity, the value of those servicing rights declines because the cash flows start to go away as you get towards the end. Those are both noncash activities. So we take that out of our distributable earnings. All that we're leaving in from the servicing side is the actual cash flow from the servicing. So whatever we're getting paid to actually service those assets. That stays in. That's your real income. That's what we can distribute it to investors. So that will stay in. The noncash parts come out of there. The other piece, similar to our existing business is just any loan loss reserves. So even though we're selling these loans into securitizations, you still retain some risk exposure on the Fannie Mae assets in particular. There is a risk sharing agreement. There's some variability across our portfolio and the exact metrics of that, but you have to reserve for some probability of share losses in the future. The probability on that is much lower than on a transitional lending book, but it's still similar in terms of how we'll run the CECL process. We'll have to look at what is the risk of the loans, what's our potential loss share on those and that will flow through in the same way that we reserve on our balance sheet loans for potential credit losses. Again, that's a noncash activity. Other than a realized loss in that regard, those would be reversed out as well. So those will be quarterly reserves one way or the other depending on both specific and macroeconomic activity at the time we're making those on a quarterly basis. So there's a few things there, kind of unique on the MSR side. The CECL stuff should be pretty consistent with how you've thought about CECL in the past on our balance sheet.

Okay. Great. And I'm sure we'll probably have some follow-ups on those. But for now, I'd like to move on to -- you mentioned servicing. And maybe just talking a little bit more about how the MSRs will help support book value growth in the future. I would love to hear more about that.

Sure. And I think this is probably one of the key parts of the acquisition for us, is this puts us in a very unique position in the mortgage REIT space. I think we have a tool now that almost no one else has outside of really Arbor. And it's that we are able to grow the book value of this company on a go-forward basis, at least for the foreseeable future. And that's because those MSRs that we just talked about before on distributable earnings, they do create assets every time you rate lock a loan. So you're adding a real asset to the balance sheet, right? Every time you lock in that servicing contract, you're getting cash flows for the next 5 to 40 years depending on the product type that we're originating. And the book value of those goes right to the balance sheet. So you're adding assets every time you close the loan. So you get a gain on sale, which is great, but then you get those long-term income streams from the servicing side. Those will continue to accrue, basically building book value to you reach an inflection point where you're originating just as much as you have paying off every single quarter. At that point, you'll come to a stabilization of the addition of those future cash flows to what's coming off. One of the things we liked about this book, in particular, is that -- I think the average life is about 6.8 years on the servicing book, which means we're not quite to the midpoint on what we're getting. So even if you ran at a steady state, we did know better with their originations than they did the year or so before we bought them, it's a while before you reach that equalization point, right, that you have as much coming off as you have going on. So even if we ran flat, we would still be adding to the value of those assets because they're not starting to amortize away yet. Our expectation is that we're going to grow that volume on a go-forward basis that you can see our projections that we put in here and published when we released everything for last quarter. We're planning on growing this, which means that's going to push that inflection point out even further. So you're talking 5 to 10 years potentially depending on how effective we are growing this business before you get to that equilibrium point, which means every single quarter, give or take a little bit, obviously, you have an ebb and flow in certain quarters. But certainly, on an annual basis, you should expect to see that value of that MSR book grow that's going to drive some actual growth in your book value. So I think that's in this space, an extremely powerful tool because usually the best you can do is break even on our book, right? You hope that every loan you make pays you back you get that money back and you recycle it again. And generally speaking, you're only going to degrade that book value because no one is perfect with credit losses in perpetuity. This gives us a way to kind of offset the real risk in the industry, and I think give people some upside to growing this business in its totality.

Yes. That's helpful. I think it really does make the case for why FBRT is going to be so unique here moving forward. And then talking about servicing a little bit more, what are the opportunities for third-party servicing beyond our own originations?

Yes. I think that's an aspirational part of the business for us. We have a fair amount of work to do, and this will get into some other stuff we're going to hear on later, but putting these 2 businesses together and fully matching up all the efficiencies, getting rid of all the duplicative costs and in making this thing run as smooth as we would like it to, to really be a best-in-class operator is going to take some time. I've mentioned this before when I've talked to individual investors, and I think we've hinted at it on our other calls. It's -- you can't flip the switch, and we show that in kind of the projections on our near-term earnings on this in the long term. But part of that long-term return is not just taking in our own servicing, but I think being active on and another, whether that's purchasing MSRs, whether that's going out and trying to win new issue business, I think we'll have the chance to do both. I think we've got some pretty good expertise across a wide spectrum of different real estate credit products at this point, which will make us appealing for some of this third-party business. And I think that's a chance to scale beyond our internal deal flow, which I think that's kind of the key engine of growth. But long term, I do think this becomes another avenue of growth for us as we look to use that servicing group as a real strategic avenue to kind of enhance our balance sheet.

Great. And you touched on this a bit, but I would like to talk about just how heavy the lift is before we really start realizing synergies. We shared some of our expectations on our Q2 earnings call, and those are on the screen again. Nothing's changed on this slide. But maybe we could talk about are the expectations you're macro driven? And just a little bit more on timing, I think, would be helpful for the audience?

Yes, this probably goes in a couple of parts, and maybe I'll let Mike get on some of the deal stuff because I think you mentioned some. But let me start with some practical things. I think if you look at how a lot of services and expenses shake out for any business, a lot of that is engaged on an annual basis, which goes back to flip the switch concept. Some of that just has to burn off naturally before you can eliminate it, doing just basic things, audit cost, tax costs, legal costs, service providers, a lot of those things are engaged on a more programmatic and day-by-day basis. I mean it might take a couple of quarters or through the end of the year into early next year before some of that just normal business operating cost. That's -- with shared service providers are no longer needed service providers on a go-forward basis just naturally goes away. The other part of it is just in terms of personnel overlap, expertise we have in-house, refining the structure of the organization. Again, that happens maybe slightly quicker, but the cost flow through also takes some time as well. So again, it's probably a couple of quarters, which all this ties into kind of our near-term projections in the range, which looks a little lower than you might expect in terms -- versus kind of the teens return we want longer term. You just have some natural drag in the burn-off and the integration of these 2 businesses. So it's not a perfect time line, but I do think it takes a few quarters through early next year to kind of get through the bulk of that and then you start to really see, I think, the efficiencies of the 2 businesses on a more combined basis. Now I think the deal flow, Mike can probably speak to you better than I, because I think we have seen a lot of power in that regard much, much quicker as you would expect, because we can interface people directly now and start to wrap our arms around some of that.

Yes. And I touched on that earlier, Jerry, and whether it's new point-related cross-selling or BSP related origination. The one thing, and I think the only thing that matters is our pipeline is outstanding. I would borderline use the word phenomenal. We've got so many great things going on. It seems like every cylinder is hitting from the CMBS group to balance sheet to just kind of everything that we do is all working at the moment, and I think just a Newpoint deal is the cherry on top for that. So couldn't be more excited about what we're going to accomplish between now and the end of the year and then getting the final integration done with Newpoint and just where it goes from here. But the idea is to grow, right? And Jerry said it, we didn't have a way to grow book value as a mortgage REIT, right? You made a loan for 10, you got some interest and hopefully, you got 10 back. This is an opportunity to actually grow book value and I think makes us very, very unique within the sector. And at the same time, gives a lot of stability to the earnings, right? That servicing business is very, very sticky. It's very predictable. And so hopefully, that will take some of the volatility out of quarterly earnings as well.

Great. That's helpful. And then just to remind everyone, if you do have any questions, you're able to enter them in the chat box on your screen. I just have one final one, and that's one I think we've touched on before. But can you just address how we're thinking about GSE reform risk?

Yes. I mean, we've talked about it before. At least I've talked about it on panels and other Q&A. I don't know how much we addressed it on our earnings call. But it's pretty difficult to handicap at the moment. But I think any outcome is ultimately an acceptable outcome. I do think the reality is that this is much harder to figure out and actually execute than the world might think. I think the past 3 administrations have all talked about unwinding the conservatorship. It's a very, very tangled web, it's very complicated. What I can say with almost absolute certainty is, I do not think this administration or any administration is going to do something that's going to mess with homeownership and the cost of mortgages in the U.S. So if they don't find a path that is very, very clear that doesn't disrupt the market, I just don't think that they'll go down it. I don't know if that means an explicit guarantee instead of the implicit security. I don't know what that means. I'm just very confident that we're not going to introduce uncertainty to our housing market. Could there be more competitors invited into the space? Maybe. I'm not sure that, that matters, whether you have 5 competitors, 14 competitors or 22 competitors. 5 is enough. So I wouldn't think the introduction of more lenders really changes the dynamic very much. I just think that we've got something here that's very unique. I don't think the GSE reform has any sort of major risk because whatever happens applies to everybody. It's not going to be unique to Benefit Street or FBRT. And I just don't see them doing something that's going to meaningfully disrupt the market. So as long as we're on a level playing field with everybody else, I think with our product offering and with the athletes that we have, we're going to outperform.

Well, that is a great way to wrap it up. Thanks, Mike and Jerry. That ends the prepared portion of what we have. We will post the replay to our website and then you guys all have my contact information. If you have any follow-up questions from this, please feel free to reach out. We'll also share just this updated slide deck on the website, so you have the accounting there on what a Newpoint originated loan might look like. But again, thank you so much for joining us today. And if you have any follow-ups, please reach out.

Thanks, everyone.

Thanks.