KKR Real Estate Finance Trust Inc. (KREF) Earnings Call Transcript & Summary

Good morning, and welcome to the KKR Real Estate Finance Trust Inc. Second Quarter 2026 Financial Results Conference Call. [Operator Instructions] Please note this event is being recorded. I would now like to turn the conference over to Jack Switala. Please go ahead.

Great. Thanks, operator, and welcome to the KKR Real Estate Finance Trust Earnings Call for the Second Quarter of 2026. As the operator mentioned, this is Jack Switala. This morning, I'm joined on the call by our CEO, Matt Salem; our President and COO, Patrick Mattson; and our CFO, Kendra Decious. I'd like to remind everyone that we will refer to certain non-GAAP financial measures on the call, which are reconciled to GAAP figures in our earnings release and in the supplementary presentation, both of which are available on the Investor Relations portion of our website. This call will also contain certain forward-looking statements, which do not guarantee future events or performance. Please refer to our most recently filed 10-Q for cautionary factors related to these statements. Before I turn the call over to Matt, I will go through our results. For the second quarter of 2026, we reported a GAAP loss of $122 million or negative $1.95 per share. Book value as of June 30, 2026, was $10.24 per share. we reported a distributable loss of $36 million or negative $0.58 per share. Distributable earnings before realized losses was $6 million or $0.10 per share. Lastly, we paid a $0.10 cash dividend with respect to the second quarter. With that, I'd now like to turn the call over to Matt.

Thanks, Jack. Good morning, everyone, and thank you for joining us today. Let me begin by acknowledging our announcement that KRAS Board has initiated a review of strategic alternatives intended to enhance shareholder value. This process will be led by a strategic review committee composed solely of the Board's independent directors. I recognize there may be questions regarding the process. However, given its early stage and the need to preserve the integrity of the committee's review, we do not plan to comment further on this matter. But to grant any questions, to be clear, KKR has not submitted a proposal for any transaction to date. As the committee does its work, KKR will evaluate its potential participation in any KRA transaction but there's no guarantee that KKR would make any proposal in the future. KKR's stated goal as manager is to support the committee as effectively as possible. And as the largest shareholder, KKR is aligned with the committee's mandate to enhance shareholder value. We do not plan to comment any further on KKR's perspective on this matter as well. Let me turn to the results next. As we reach the midpoint of 2026, I'd like to focus on the progress we have made executing the action plan we outlined earlier this year. While there is still work ahead, we've made meaningful progress against our key priorities and believe the actions we've taken position KREF for book value stability and longer-term performance. Against that backdrop, we've reported distributable earnings before realized losses of $0.10 per share, covering our quarterly dividend. And then as a reminder, we continue to expect $0.40 per year of dividend to be covered by our annual distributable earnings before realized losses as we execute our business plan. Our expectations are for earnings to trough later this year but remain in this area over the next several quarters before the benefit of our portfolio repositioning emerges. Book value declined 13.7% during the quarter, primarily reflecting actions taken to position our watch list assets and legacy office exposures monetization. This quarter represents a significant step toward achieving our goals. We have adjusted reserves and carrying values to our current expectations for monetization of these assets. While we are still executing these resolutions and final outcomes could affect ultimate recovery levels, we believe the most significant book value impact is now behind us. And that KREF is positioned for greater stability going forward. Let me provide an update on our progress against the goals laid out for the year, legacy office. Legacy office exposure declined to 18% of the portfolio at June 30 compared to 21% at year-end 2025. We remain focused on reducing that exposure below 10% by year-end 2026. Watchlist watch list represents 16% of the portfolio as of June 30. Nearly half of the assets are currently being marketed, and we continue to target a complete reduction by year-end. Life Science, we entering modified approximately 19% of our life science exposure. Today, that figure has increased to 39%, and we believe the vast majority of expected reserves have now been recognized remain on track to address substantially all of our life science exposure through modifications or other resolutions by year-end. Lack new originations. Loans originated between 2024 and 2026 now represent approximately 32% of the portfolio compared with 19% as of 2025 year-end. We are continuing to target increasing newer vintage investments to more than half of the portfolio by year-end. We believe the portfolio we are building today will ultimately be more resilient and better positioned to support long-term earnings growth and book value stability. Importantly, each of these initiatives is interconnected. As we resolve watchless assets, we generate liquidity that can be redeployed under newer vintage investments. This portfolio rotation is well underway and should continue through the remainder of the year. Turning to repayments. During the quarter, we received over $800 million of repayments. As a reminder, we continue to expect more than $2 billion of repayments throughout 2026. To put that in some perspective, this represents over 35% of the portfolio size at the beginning of the year and is larger than the approximately $1.5 billion of repayments in each of 2024 and 2025. This repayment activity has generated liquidity to support our broader strategy, including funding new originations, allowing us to reposition the portfolio into newer vintages and execute share repurchases. Turning to capital allocation. During the quarter, we repurchased $38 million of common stock at a weighted average price of $6.63 per share generating approximately $0.32 per share of book value accretion. Subsequent to quarter end, we repurchased an additional $10 million of common stock at a weighted average price of $7.24 per share. Future capital allocation decisions on share repurchases will be part of the strategic review process. Overall, we believe the actions we have taken over the past several quarters have meaningfully advanced our transition plan. While there is still work to do, we remain focused on advancing our action plan, resolving certain legacy assets, proven performance of the portfolio and creating long-term shareholder value. With that, I will turn the call over to Patrick.

Thanks, Matt. Good morning, everyone. Overall, we made progress during the quarter as we continue to execute against our priorities. We're taking decisive action to address watch list assets advanced monetization plans across the portfolio, originated attractive new investments and maintained a strong liquidity position that provides significant flexibility as we continue to reposition the portfolio. Let me begin with an update on the portfolio and watch list, where we continue taking proactive steps to align the portfolio with our expectation for asset resolutions. During the quarter, 2 watch list loans were resolved, including a repayment on our Gordon multifamily loan previously risk-rated for as well as the Boston Life Science loan, which transitioned into the REO portfolio with no material impact to book value given prior reserves. Reflecting current market conditions, we downgraded our Chicago office and Carrollton Multifamily loans from risk rated 4 to risk weighted and a $42 million Dallas multifamily asset from which rated 3 to 4. Turning to the REO portfolio. Our focus remains on executing business plans and positioning assets toward monetization. We made continued progress across several assets. In Portland, Oregon, we expect to complete the entitlement process this month. positioning us to advance the monetization strategy for the mixed-use redevelopment project. In Mountain View, California, as a reminder, we executed a full building lease with open AI this year and we expect the tenant to take occupancy of a portion of space this quarter, and we currently anticipate bringing the property to market within the next year. In West Hollywood, we closed on the first condo sale this month and are in active discussions with prospective buyers on additional units. As we've discussed previously, we believe the REO portfolio contains embedded value that we can unlock through disciplined execution of these business plans and subsequent redeployment into performing loan assets. As we optimize our REO portfolio, we continue to benefit from resources across the broader KKR real assets platform, including our asset management and capital markets capabilities. . Turning next to originations. We remained active during the quarter, originating 3 loans for approximately $350 million with a weighted average LTV of 58%. These included a multifamily portfolio loan in Spain, a multifamily loan in Los Angeles, in the California office portfolio loan. We continue to identify attractive opportunities where we can be highly selective and disciplined in deploying capital. Finally, I'd like to highlight KREF's strong liquidity position. At quarter end, KRAF had over $700 million of liquidity, including $83 million of cash on hand and $350 million of undrawn capacity on our corporate revolver. Our total financing availability was $7 billion, including $2.6 billion of undrawn capacity and 79% of our financing remains non-mark-to-market. Importantly, we continue to expect elevated repayment activity throughout the remainder of the year. We received approximately $1.2 billion in repayments through the first 6 months and expect total repayments this year to exceed $2 billion. Our debt-to-equity ratio was 2.6x and our total leverage was 4.3x as of quarter end. As our payments continue, we expect total leverage to naturally move back into our target leverage range of 3.5 to 4x. To summarize, we continue to execute against our action plans and have made meaningful progress during this quarter. Looking ahead, our priorities remain clear. Continue reducing watch list exposure, monetize REO assets where appropriate, redeploy capital into attractive new investments and drive earnings recovery over time. With our strong liquidity position, robust liability structure and the support from the broader KKR platform, we believe we are well positioned to execute on these priorities. With that, we're happy to take your questions.

[Operator Instructions] Your first question comes from Tom Kathee with BTIG.

Matt, maybe starting with you. You mentioned in your prepared remarks how the increases in reserves in the lower book value really reflect your current expectations for monetization of watch list assets. But if we look back to 4Q and 1Q when you introduced the portfolio repositioning plan, if you will. You also took kind of significant reserves there. I think it was a combined another 12% plus. So maybe if we think of this quarter, how was the loan loss review process and book value assessment different than it was in the prior 2 quarters? And kind of what level of confidence do you have that we've reached book value stability at this point in time?

Yes. Thank you, Tom, for joining us and I appreciate the question. I'd say a couple of things to highlight there. I think last quarter, first of all, just last quarter, we indicated there could be further potential softness as we implemented the action plan. And some of this is discovery, right, as we go through this process, where are the clearing values? What are we seeing in the market? And I think this quarter's decline in book value reflects that and just reflects some of our posture as it relates to trying to monetize as much as possible and some of the transition to 4 to 5 or we've also begun to try to create liquidity on some of that portfolio through node sales as well. So at this point in time, we feel like we're positioned to execute on that with the watch list and have reserves or pricing kind of around our current expectations of monetizations. And as I highlighted on the prepared remarks, we haven't finalized all these yet, right? They're in different kind of stages of the process, but we certainly feel like the most significant impact to book value is behind us. And as we finalize these processes, there could be some small up and down, but we feel like we've we've come down the road and have these in a position where we understand the clearing values a little bit better right now.

And do you think, was it really this discovery process? Or was there also maybe an adjustment in the clearing values of these? Is there some level of erosion this past quarter?

Well, it's hard to say in terms of your -- I think it's the question of did the market move on us or do we just kind of know more about where the market is. I think it's hard to tell on some of these markets, especially when you're dealing with office assets, which are -- there's some level of liquidity in the market today for these, so I don't think that we have like a clear transparency in terms of like, okay, where was it last quarter? Where is it this quarter? I think what we have now is we're in a number of processes. We're getting real-time market feedback around levels to sell these, and we're adjusting, obviously, our reserves or our marks accordingly. .

Got it. Appreciate that, Matt. And then Patrick, maybe last 1 for us. You've previously ranked priorities for uses of capital. In the past, you discussed buybacks as 1 and then originations is to and then BP investing is 3. Obviously, very busy on the in this past quarter. As you look forward, especially with the level of repayments that have come in, how would you rank kind of your capital allocation priorities today if you look out for the rest of the year?

Tom, it's Matt. Maybe I can jump in for Patrick and take that 1 as well. I think, first of all, just as we think about the overall portfolio size, we'll take into account just some leverage ratios right now. So we got ahead in terms of investing a little bit. And we've been behind in the past, if you recall, some earlier quarters, we got a little bit behind. So we'll wait and adjust a little bit in terms of new originations here in the near term just because the portfolio leverage at about 4.3x. Think about our normal range is in that 3.5 to 4x area. So there's a little bit of repayment activity that we've been getting a ton of repayments and we'll get more here. That will kind of bring us back down in line. And then as we do that, we can start thinking about options for investing. And I think when we start to understand the option for investing, a couple of things to highlight there. First of all, as we think about the share buyback, clearly, that was really accretive, and we've done a lot of that over the course of the last couple of quarters here. That's part of the really the strategic review committee at this point. So we'll interact with them and try to understand what's the go forward there. And then outside of that, it's just regular way investing and just keeping in mind our our overall leverage ratios.

The next question comes from Jade Ramani with KBW.

Starting with Life Science. Can you give an update on the Risk 5 Boston Life Science loan, not the 1 that went into REO, but the other risk 5-rated loan?

Yes, Jay, it's Matt. Thank you for joining this morning. The update there is we are in modification discussions. We have maybe the more important part of that. I didn't specifically call it out, but I think we mentioned it in the prepared remarks is that we do believe we're fully reserved on that loan at this point in time. So we'll continue with with the modification discussions but do not anticipate negative book value implications on that particular asset going forward.

Okay. And can you say whether you think that will remain a loan or could go REO? .

I think it's too early to say that at this point in time. My guess is that does not go REO, but we've got discussions ahead of us. But I wouldn't look at it, like, if you're thinking about like projecting and drags on earnings and things like that and cash flow, I wouldn't be modeling it like that.

And what are you seeing across the rest of the Life Science book? Maybe you could start with Cambridge, which I know is a Class A asset, it was already modified, San Carlos and Redwood City, both have had some leasing. And then the REO that you now actually own.

Yes. I mean I'll speak at a high level. I think that we're seeing -- you're starting to see green shoots in the market. You're starting to see some leasing come back. I think it's still early. The markets that are more weighted towards Life Science, think about Boston, whether that's Cambridge or Seaport or South Boston, I think those are further behind. They're still green shoots, but they're further behind some of the West Coast markets that you mentioned, which are beginning to see more office demand, and that's causing a tightening in the market. And as you well know, a lot of these assets can be office or Life Science, so catching demand from from both of those, especially as you start to see the tech and AI leasing pick up on some of the West Coast markets, I think, has been helpful. And then as you start to move up the coast on the West Coast, like into Seattle, where we have REO, I'd say that is beginning to happen as well, where we're starting to see AI-related office leases, well, tech related, but specifically AI as well. Office leases tighten up that market a little bit. And so we're evaluating opportunities there. We have Life Science tenants in our asset, but could we have office tenants in the asset there too as the office market tightens up. So I think a lot of it right now is Life Science starting to come back, but it's early. And if you are any market that has AI and tech exposure and you have -- that's causing tightening in the overall markets, specifically related to office and there's some overflow into Life Science. That's kind of how I'd characterize it now. But but it still feels early on the Life Science side.