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SFI > SEC Filings for SFI > Form 10-Q on 6-May-2013All Recent SEC Filings

Show all filings for ISTAR FINANCIAL INC

Form 10-Q for ISTAR FINANCIAL INC


6-May-2013

Quarterly Report


Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
Certain statements in this report, other than purely historical information, including estimates, projections, statements relating to our business plans, objectives and expected operating results, and the assumptions upon which those statements are based, are "forward-looking statements" within the meaning of the Private Securities Litigation Reform Act of 1995, Section 27A of the Securities Act of 1933, as amended (the "Securities Act"), and Section 21E of the Securities Exchange Act of 1934, as amended (the "Exchange Act"). Forward-looking statements are included with respect to, among other things, iStar Financial Inc.'s (the "Company's") current business plan, business strategy, portfolio management, prospects and liquidity. These forward-looking statements generally are identified by the words "believe," "project," "expect," "anticipate," "estimate," "intend," "strategy," "plan," "may," "should," "will," "would," "will be," "will continue," "will likely result," and similar expressions. Forward-looking statements are based on current expectations and assumptions that are subject to risks and uncertainties which may cause actual results or outcomes to differ materially from those contained in the forward-looking statements. We undertake no obligation to update or revise publicly any forward-looking statements, whether as a result of new information, future events or otherwise. In assessing all forward-looking statements, readers are urged to read carefully all cautionary statements contained in this Form 10-Q and the uncertainties and risks described in Item 1A-"Risk Factors" in our 2012 Annual Report (as defined below), all of which could affect our future results of operations, financial condition and liquidity. For purposes of Management's Discussion and Analysis of Financial Condition and Results of Operations, the terms "we," "our" and "us" refer to iStar Financial Inc. and its consolidated subsidiaries, unless the context indicates otherwise. The discussion below should be read in conjunction with our consolidated financial statements and related notes in this quarterly report on Form 10-Q and our annual report on Form 10-K for the year ended December 31, 2012 (the "2012 Annual Report"). These historical financial statements may not be indicative of our future performance. We have reclassified certain items in our consolidated financial statements of prior periods to conform to our current financial statements presentation.
Introduction
iStar Financial Inc. is a fully-integrated finance and investment company focused on the commercial real estate industry. We provide custom-tailored investment capital to high-end private and corporate owners of real estate and invest directly across a range of real estate sectors. We are taxed as a real estate investment trust, or "REIT," and have invested more than $35 billion over the past two decades. Our primary business segments are real estate finance, net leasing, operating properties and land.
Executive Overview
We have recently made significant progress in strengthening our balance sheet and positioning us for the future. We executed several capital markets transactions that extended our debt maturities, including three senior notes issuances which marked our return to the unsecured debt markets for the first time since 2008. The rates associated with the financings that we completed in the latter half of 2012, following an upgrade of our corporate credit ratings, were materially lower than our earlier financings. In addition, during the first quarter of 2013, we refinanced our largest senior secured credit facility reducing the interest rate and issued Preferred Stock to fund new investment activities and general corporate purposes. Within our real estate and loan portfolios, our performing loans, net lease assets and residential condominium projects performed well, and we continued to make progress reducing the balance of our non-performing loans and enhancing the value of our commercial operating properties and land assets through the investment of capital and intensive asset management. We intend to continue these efforts, with the objective of eventually having these assets contribute positively to earnings. During the quarter ended March 31, 2013, we saw a meaningful contribution to earnings from our performing loans, net lease assets and sales of our residential operating properties. However, the performance of our commercial operating properties and nonperforming loans resulted in losses and our land assets incurred sizable carrying costs, which factors continue to negatively impact our earnings. For the quarter ended March 31, 2013, we recorded a net loss allocable to common shareholders of $(41.3) million, compared to a loss of $(54.8) million in the prior year.
With respect to liquidity, during the first quarter of 2013, we received $355.3 million of proceeds from our portfolio and we raised $194.0 million in net proceeds through a preferred stock offering. As of March 31, 2013, we had $545.3 million of debt maturities due before December 31, 2013, with a majority of that amount due in October 2013. As of March 31, 2013, we had $468.4 million of cash on hand and in April 2013, we sold our interest in LNR for net proceeds of $220.3 million. Additionally, as of March 31, 2013, we had unencumbered assets with a carrying value of $3.10 billion. Our capital resources to meet debt maturities in the coming year include debt refinancings, proceeds from asset sales, loan repayments from borrowers and may include equity capital raising transactions.


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Results of Operations for the Three Months Ended March 31, 2013 compared to the

Three Months Ended March 31, 2012
                                          For the Three Months Ended
                                                   March 31,
                                             2013             2012          $ Change      % Change
                                                        (in thousands)
Operating lease income                  $    58,473       $    53,123     $    5,350           10  %
Interest income                              24,667            37,203        (12,536 )        (34 )%
Other income                                 11,393            10,756            637            6  %
Total revenue                           $    94,533       $   101,082     $   (6,549 )         (6 )%
Interest expense                        $    71,566       $    85,344     $  (13,778 )        (16 )%
Real estate expenses                         37,916            35,068          2,848            8  %
Depreciation and amortization                17,389            16,168          1,221            8  %
General and administrative                   21,848            22,845           (997 )         (4 )%
Provision for loan losses                    10,206            17,500         (7,294 )        (42 )%
Impairment of assets                              -               749           (749 )       (100 )%
Other expense                                 5,625               453          5,172        >100%
Total costs and expenses                $   164,550       $   178,127     $  (13,577 )         (8 )%
Gain (loss) on early extinguishment of
debt, net                               $    (9,541 )     $     1,704     $  (11,245 )      >100%
Earnings from equity method investments      21,678            34,786        (13,108 )        (38 )%
Income tax expense                           (4,075 )          (1,271 )       (2,804 )      >100%
Income (loss) from discontinued
operations                                      961           (13,361 )       14,322        >100%
Gain from discontinued operations             5,044             2,406          2,638        >100%
Income from sales of residential
property                                     23,697             6,733         16,964        >100%
Net income (loss)                       $   (32,253 )     $   (46,048 )   $   13,795          (30 )%

Revenue-Operating lease income increased to $58.5 million during the three months ended March 31, 2013 and includes income from net lease assets and commercial operating properties. Operating lease income from commercial operating properties increased to $21.4 million during the three months ended March 31, 2013 from $15.9 million for the same period in 2012. We acquired title to additional commercial operating properties at the end of 2012, which contributed $4.0 million in operating lease income for the three months ended March 31, 2013. The impact of new leases within the portfolio also contributed to this increase by $1.4 million period over period. As of March 31, 2013, commercial operating properties, excluding hotels and multifamily properties, were 60.7% leased compared to 44.2% leased as of March 31, 2012. Operating lease income from net lease assets remained consistent at approximately $37 million in the 2013 and 2012 periods. As of March 31, 2013, net lease assets were 95.0% leased compared to 94.4% leased as of March 31, 2012. For the three months ended March 31, 2013, the net lease portfolio generated a weighted average effective yield of 9.1% compared to 9.9% during the same period in 2012.
Interest income for the three months ended March 31, 2013 declined primarily due to a decrease in the average balance of performing loans to $1.37 billion from $2.09 billion for the same period in 2012. The decrease in performing loans was primarily due to loan repayments as well as performing loans moving to non-performing status (see Risk Management below). For the three months ended March 31, 2013, performing loans generated a weighted average effective yield of 7.2% as compared to 7.0% in 2012.
Other income primarily includes revenue related to hotel properties included in the operating property portfolio, which was $8.1 million for the three months ended March 31, 2013 compared to $8.8 million for the same period in 2012. For the three months ended March 31, 2013, other income also includes $2.2 million related to the prepayment and sales of loans.
Costs and expenses-Interest expense decreased for the three months ended March 31, 2013, primarily due to a lower average outstanding balance partially offset by a higher weighted average cost of debt. The average outstanding balance of our debt declined to $4.60 billion for the three months ended March 31, 2013 from $5.80 billion for the three months ended March 31, 2012. Our weighted average effective cost of debt increased to 6.22% for the three months ended March 31, 2013 as compared to 5.88% during the three months ended March 31, 2012, primarily due to the maturity of lower cost debt being refinanced with debt at higher rates in the first half of 2012.


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The increase in real estate expense was primarily driven by additional properties to which we took title and due to an increase in costs on certain land assets. Expenses for operating properties were $25.7 million for the three months ended March 31, 2013 as compared to $25.8 million for the same period in 2012. Operating expenses for net lease assets increased slightly to $5.7 million for the three months ended March 31, 2013 from $5.1 million for the same period in 2012. Carrying costs and other expenses on our land assets increased to $6.5 million for the three months ended March 31, 2013 from $4.2 million for the same period in 2012, primarily related to increased pre-development activities. Depreciation and amortization increased for the three months ended March 31, 2013 primarily due to the acquisition of additional operating properties. General and administrative expenses decreased primarily due to lower payroll and employee related costs and decreased legal expenses. Payroll and employee related costs declined due to staffing reductions, while legal expenses declined due to the settlement of litigation in June 2012 (see Part II. Item 1. Legal Proceedings).
Provisions for loan losses totaled $10.2 million during the three months ended March 31, 2013 and included specific reserves on non-performing loans, offset by a reduction in the general reserve primarily due to a reduction in the balance of performing loans outstanding during the current year (see Risk Management below).
There were no asset impairments for the three months ended March 31, 2013. For the three months ended March 31, 2012, we recorded impairments of $16.1 million related to operating properties which resulted from changing market conditions and changes in business strategy for certain assets. Of this amount, $15.3 million relates to real estate assets held for sale or sold and were therefore included in discontinued operations for the three months ended March 31, 2012. Other expense for the three months ended March 31, 2013 increased primarily due to $3.6 million of third party expenses incurred in connection with the refinancing of our October 2012 Secured Credit Facility with our February 2013 Secured Credit Facility (see Liquidity and Capital Resources below). Gain (loss) on early extinguishment of debt, net-During the three months ended March 31, 2013, $4.9 million of net losses on the early extinguishment of debt was primarily related to accelerated amortization of discounts and fees in connection with the refinancing of our October 2012 Secured Credit Facility with our February 2013 Secured Credit Facility. We also recorded $4.6 million of losses related to the accumulated amortization of discounts and fees in connection with amortization payments that we made on our 2012 and 2013 Secured Credit Facilities (see Liquidity and Capital Resources below). During the same period in 2012, we repurchased $124.1 million aggregate principal amount of our convertible notes due October 2012, fully repaid the $244.0 million remaining balance on our unsecured credit facility due in June 2012, repaid $89.8 million on our 2011 Tranche A-1 Facility and repurchased $96.3 million par value of senior unsecured notes. In connection with these repayments and repurchases prior to maturity, we recorded a net gain on early extinguishment of debt of $1.7 million.
Earnings from equity method investments-Earnings from equity method investments decreased during the three months ended March 31, 2013, primarily due to the Madison Funds recording a significant unrealized gain related to the pending sale of an investment during March 2012 and due to lower income from sales of residential property units recorded by one of our real estate equity investments.
During the same period in 2012, we recorded our share of the Madison Funds significant unrealized gain related to the pending sale of an investment which was approximately $13.7 million.
Income tax expense-Income tax expense increased for the three months ended March 31, 2013 compared to the same period in 2012 due to increased gains from unit sales, increased income from our investment in LNR, as well as the full utilization of net operating losses by March 31, 2013.
Discontinued operations-During the three months ended March 31, 2013, we sold a commercial operating property with a carrying value of $24.1 million which resulted in a net gain of $5.0 million and a net lease asset with a carrying value of $0.9 million for proceeds that approximated carrying value. During the three months ended March 31, 2012, we sold a net lease asset with a carrying value of $4.1 million for a net gain of $2.4 million.
Income (loss) from discontinued operations includes operating results from net lease assets and commercial operating properties held for sale or sold as of March 31, 2013. For the three months ended March 31, 2012, income (loss) from discontinued operations includes impairment of assets of $15.3 million. Income from sales of residential property-During the three months ended March 31, 2013 and 2012, we sold condominium units for total net proceeds of $75.2 million and $49.5 million, respectively, that resulted in income from sales of residential properties totaling $23.7 million and $6.7 million, respectively.


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Adjusted income and Adjusted EBITDA
In addition to net income (loss), we use Adjusted income and Adjusted EBITDA to measure our operating performance. Adjusted income represents net income (loss) allocable to common shareholders, prior to the effect of depreciation and amortization, provision for loan losses, impairment of assets, stock-based compensation expense, and gain (loss) on early extinguishment of debt. Adjusted EBITDA represents net income (loss) plus the sum of interest expense, income taxes, depreciation and amortization, provision for loan losses, impairment of assets and stock-based compensation expense, less gain (loss) on early extinguishment of debt.
We believe Adjusted income and Adjusted EBITDA are useful measures to consider, in addition to net income (loss), as they may help investors evaluate our core operating performance. Adjusted income and Adjusted EBITDA should be examined in conjunction with net income (loss) as shown in our Consolidated Statements of Operations. Adjusted income and Adjusted EBITDA should not be considered as an alternative to net income (loss) (determined in accordance with GAAP), as an indicator of our performance, or to cash flows from operating activities (determined in accordance with GAAP) as a measure of our liquidity, nor are Adjusted income and Adjusted EBITDA indicative of funds available to fund our cash needs or available for distribution to shareholders. Rather, Adjusted income and Adjusted EBITDA are additional measures for us to use to analyze how our business is performing. It should be noted that our manner of calculating Adjusted income and Adjusted EBITDA may differ from the calculations of similarly-titled measures by other companies.

                                        For the Three Months Ended
                                                 March 31,
                                           2013             2012
                                              (in thousands)
Adjusted income
Net income (loss) allocable to common
shareholders                           $  (41,263 )     $  (54,792 )
Add: Depreciation and amortization(1)      17,454           17,239
Add: Provision for loan losses             10,206           17,500
Add: Impairment of assets(2)                  (32 )         16,024
Add: Stock-based compensation expense       5,202            4,666
Less: (Gain) loss on early
extinguishment of debt, net                 9,541           (1,704 )
Less: HPU/Participating Security
allocation                                 (1,372 )         (1,765 )
Adjusted income (loss) allocable to
common shareholders                    $     (264 )     $   (2,832 )


Explanatory Notes:
_______________________________________________________________________________


(1) For the three months ended March 31, 2013 and 2012, depreciation and amortization includes $65 and $1,071, respectively, of depreciation and amortization reclassified to discontinued operations.

(2) For the three months ended March 31, 2013 and 2012, impairment of assets includes ($32) and $15,275 of impairment of assets reclassified to discontinued operations.


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                                                          For the Three Months Ended March 31,
                                                               2013                   2012
                                                                     (in thousands)
Adjusted EBITDA
Net income (loss)                                      $         (32,253 )     $         (46,048 )
Add: Interest expense(1)                                          71,566                  86,142
Add: Income tax expense                                            4,075                   1,271
Add: Depreciation and amortization(2)                             17,454                  17,239
EBITDA                                                 $          60,842       $          58,604
Add: Provision for loan losses                                    10,206                  17,500
Add: Impairment of assets(3)                                         (32 )                16,024
Add: Stock-based compensation expense                              5,202                   4,666
Less: (Gain) loss on early extinguishment of debt, net             9,541                  (1,704 )
Adjusted EBITDA                                        $          85,759       $          95,090


Explanatory Notes:
_______________________________________________________________________________


(1) For the three months ended March 31, 2012, interest expense includes $(798) of interest expense reclassified to discontinued operations.

(2) For the three months ended March 31, 2013 and 2012, depreciation and amortization includes $65 and $1,071, respectively, of depreciation and amortization reclassified to discontinued operations.

(3) For the three months ended March 31, 2013 and 2012, impairment of assets includes ($32) and $15,275 of impairment of assets reclassified to discontinued operations.

Risk Management
Loan Credit Statistics-The table below summarizes our non-performing loans,
watch list loans and the reserves for loan losses associated with our loans ($
in thousands):
                                                                        As of
                                                         March 31, 2013     December 31, 2012
Non-performing loans
Carrying value(1)                                       $      358,805     $         503,112
As a percentage of total carrying value of loans                  22.7 %                27.5 %
Watch list loans
Carrying value                                          $       41,742     $          44,350
As a percentage of total carrying value of loans                   2.6 %                 2.4 %
Reserve for loan losses
Total reserve for loan losses                           $      521,795     $         524,499
As a percentage of total loans before loan loss
reserves                                                          24.8 %                22.3 %
Non-performing loan asset-specific reserves for loan
losses                                                  $      465,837     $         476,140
As a percentage of gross carrying value of
non-performing loans                                              56.5 %                48.6 %

Non-Performing Loans-We designate loans as non-performing at such time as:
(1) the loan becomes 90 days delinquent; (2) the loan has a maturity default; or
(3) management determines it is probable that it will be unable to collect all amounts due according to the contractual terms of the loan. All non-performing loans are placed on non-accrual status and income is only recognized in certain cases upon actual cash receipt. As of March 31, 2013, we had non-performing loans with an aggregate carrying value of $358.8 million. Our non-performing loans decreased during the three months ended March 31, 2013, primarily due to the reclassification of certain non-performing loans to performing status as well as paydowns received on non-performing loans during the quarter.


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Watch List Loans-During our quarterly loan portfolio assessments, loans are put on the watch list if deteriorating performance indicates they warrant a higher degree of monitoring and senior management attention. As of March 31, 2013, we had loans on the watch list with a combined carrying value of $41.7 million. Reserve for Loan Losses-The reserve for loan losses was $521.8 million as of March 31, 2013, or 24.8% of the gross carrying value of total loans, compared to $524.5 million or 22.3% at December 31, 2012. The change in the balance of the reserve was the result of $10.2 million of provisioning for loan losses, reduced by $12.9 million of charge-offs during the three months ended March 31, 2013. Due to the continued volatility of the commercial real estate market, the process of estimating collateral values and reserves require us to use significant judgment. In addition, the process of estimating values and reserves for our European loan assets, is subject to additional risks related to the continued economic uncertainty in the Eurozone. We currently believe there are adequate collateral and reserves to support the carrying values of the loans. The reserve for loan losses includes an asset-specific component and a formula-based component. An asset-specific reserve is established for an impaired loan when the estimated fair value of the loan's collateral less costs to sell is lower than the carrying value of the loan. As of March 31, 2013, asset-specific reserves decreased slightly to $490.9 million compared to $491.4 million at December 31, 2012, primarily due to charge-offs on loans offset by additional reserves established on existing non-performing loans. The formula-based general reserve is derived from estimated principal default probabilities and loss severities applied to groups of performing loans based upon risk ratings assigned to loans with similar risk characteristics during our quarterly loan portfolio assessment. During this assessment, we perform a comprehensive analysis of our loan portfolio and assign risk ratings to loans that incorporate management's current judgments about their credit quality based on all known and relevant factors that may affect collectability. We consider, among other things, payment status, lien position, borrower financial resources and investment in collateral, collateral type, project economics and geographical location as well as national and regional economic factors. This methodology results in loans being segmented by risk classification into risk rating categories that are associated with estimated probabilities of default and principal loss. We estimate loss rates based on historical realized losses experienced within our portfolio and take into account current economic conditions affecting the commercial real estate market when establishing appropriate time frames to evaluate loss experience.
The general reserve decreased to $30.9 million or 2.4% of the gross carrying value of performing loans as of March 31, 2013, compared to $33.1 million or 2.4% of the gross carrying value of performing loans at December 31, 2012. This reduction is primarily attributable to the reduction in the balance of performing loans combined with a slight improvement in the weighted average risk ratings of performing loans to 3.00 as of March 31, 2013 compared to 3.01 as of December 31, 2012.
Risk concentrations-As of March 31, 2013, our total investment portfolio was comprised of the following property/collateral types ($ in thousands)(1):

Property/Collateral    Real Estate       Net Lease       Operating                                       % of
Types                    Finance          Assets         Properties         Land           Total         Total
Land                  $    273,481     $         -     $          -     $  976,925     $ 1,250,406        21.5 %
Office                      59,357         406,116          308,424              -         773,897        13.3 %
Industrial / R&D            94,818         558,945           58,528              -         712,291        12.3 %
Entertainment /
Leisure                     75,078         484,380                -              -         559,458         9.6 %
. . .
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