Walker & Dunlop, Inc. (NYSE:WD) Q1 2024 Earnings Call Transcript

Walker & Dunlop, Inc. (NYSE:WD) Q1 2024 Earnings Call Transcript May 2, 2024

Walker & Dunlop, Inc. misses on earnings expectations. Reported EPS is $0.35 EPS, expectations were $0.83. Walker & Dunlop, Inc. isn’t one of the 30 most popular stocks among hedge funds at the end of the third quarter (see the details here).

Operator: Good day, and welcome to the Q1 2024 Walker & Dunlop Earnings Call. Today’s conference is being recorded. At this time, I would like to turn the conference over to [Jenna Simms]. Please go ahead.

Unidentified Company Representative: Thank you, Ruth. Good morning everyone. Thank you for joining Walker & Dunlop’s first quarter 2024 earnings call. I have with me this morning our Chairman and CEO, Willy Walker; and our CFO, Greg Florkowski. This call is being webcast live on our website and a recording will be available later today. Both our earnings press release and website provide details on accessing the archived webcast. This morning, we posted our earnings release and presentation to the Investor Relations section of our website, www.walkerdunlop.com. These slides serve as a reference point for some of what Willy and Greg will touch on during the call. Please also note that we will reference the non-GAAP financial metrics, adjusted EBITDA and adjusted core EPS during the course of this call.

Please refer to the appendix of the earnings presentation for a reconciliation of these non-GAAP financial metrics. Investors are urged to carefully read the forward-looking statements language in our earnings release. Statements made on this call, which are not historical facts, may be deemed forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Forward-looking statements describe our current expectations and actual results may differ materially. Walker & Dunlop is under no obligation to update or alter our forward-looking statements, whether as a result of new information, future events, or otherwise. We expressly disclaim any obligation to do so. More detailed information about risk factors can be found in our annual and quarterly reports filed with the SEC.

I will now turn the call over to Willy.

Willy Walker: Thank you, Jenna, and good morning everyone. As we outlined in our February earnings call, the strong January jobs report pushed back expectations for a March rate cut and the 10-year treasury rose from 3.88% at year-end to a high of 4.34% during the first quarter. Market uncertainty and rising rates disrupted the transaction market, and according to RCA, first quarter 2024 multifamily property sales volume was the lowest level since Q2 of 2020, when the pandemic shut down the market. Yet within this context, the W&D team closed $6.4 billion of total transaction volume, down only 5% from Q1 of last year. Given slightly lower volumes and no one-time benefits that we earned in Q1 last year, which we pointed out on our last earnings call, Q1 diluted earnings per share were $0.35, down 56% year-over-year.

See also 25 Easy Pranks Guaranteed to Get Laughs and 12 Best Alternatives to Adidas Samba.

Q&A Session

Adjusted core EPS, which strips out non-cash mortgage servicing right revenues and expenses, was $1.19, up 2% from last year. And adjusted EBITDA, which has been an important indicator of W&D’s growth and financial stability, was $74 million, up 9% from Q1 of last year. The origination and servicing businesses we have built, with dramatic earnings growth and expansion cycles, and steady earnings and cash flow in down cycles, is what allows W&D to maintain our market presence and invest for the future in challenging markets. $6.4 billion of transaction volume was driven by strong debt brokerage volume of $3.3 billion, up 40% year-over-year. Our clients need capital and our debt brokerage team did a fantastic job finding the appropriate capital for their needs.

Importantly and atypically, over half of our Q1 debt brokerage deal flow was on non-multifamily assets in retail, hospitality, industrial and office. The vast majority of 2024 commercial real estate loan maturities are on non-multifamily assets, and the start to the year by our debt brokerage team using non-agency capital is encouraging. And as you can see on Slide 7, the Mortgage Bankers Association estimates that $929 billion of commercial real estate mortgages will churn in 2024. Of that rather large volume, only 28% or $257 billion are multifamily loans, and only 3% or $28 billion are Fannie, Freddie and HUD loans. In a normalized market, half the market would be multifamily loans and half that volume would be with the GSEs and HUD. This lack of multifamily and agency maturities is good from a maturity risk standpoint, but will require our team to search outside the W&D portfolio for financing opportunities, something our team has done consistently as W&D has climbed the league tables and built a $132 billion servicing portfolio.

In the first quarter alone, 79% of our refinancings were new loans to Walker & Dunlop. There are two big questions after Q1. First, are banks going to require loan payoffs or are they going to allow borrowers to extend? If banks call loans, there will be over $400 billion of maturities that need to be refinanced off bank balance sheets in 2024. If banks simply extend loans because they are performing and the bank is making SOFR plus 300, for example, there will be no 2024 refinancing of that loan. Second, are Fannie and Freddie going to step into the market and refinance multi-loans that are part of CMBS pools, debt fund CLOs, life insurance company portfolios or bank balance sheets? They have done this in the past and are doing this today.

But as we stated on our last earnings call, Fannie and Freddie have said that they expect to do the same volume in 2024 as they did in 2023, which, given the volume of 2024 maturities, surprises us. There are opportunities for the GSEs to exceed their 2023 volumes, but it will require them to be innovative and entrepreneurial and in partnership with their DUS and Optigo partners. For example, a multifamily construction loan on a new asset in Austin, Texas, might be priced at SOFR plus 300 with a 3,1,1 structure, three-year loan with two one-year extension options. If the asset is still leasing up and doesn’t have 90% occupancy, it can’t qualify for a GSE loan. But if Fannie and Freddie modified their occupancy requirements for assets owned by established developers with impeccable track records, they could put permanent financing on the asset that would do several things.

Reduce the borrowing costs, allow the owner to lock in long-term fixed-rate financing and also derisk the bank’s balance sheet. We continue to invest in technology and are seeing promising signs of growth in small-balance lending and appraisals. Our multifamily appraisal business apprise grew Q1 appraisal revenue by 20%, while the overall multifamily appraisal market shrunk by 53%. Our investments in technology have generated significant efficiencies in this business, and we achieved our Q1 growth with 23% fewer people. Our small balance lending business has maintained market share with Fannie and Freddie and grew Q1 revenues 17% year-over-year, with the opportunity to grow dramatically as banks continue to pull back from originating new small balance, multifamily loans.

Our servicing and asset management business contributed meaningfully to the strength in adjusted EBITDA, thanks to dramatically lower runoff in the portfolio and our conservative credit culture, which has led to strong credit fundamentals within the portfolio. We launched a new technology portal for W&D servicing clients at the end of 2023 and already have over 2,000 active users. Not only does this bespoke technology save W&D licensing fees, but it puts us closer to our clients with a technology solution we not only own and can upgrade, but also can add new features to engage more deeply with our significant servicing client base. Walker & Dunlop Affordable Equity, formerly known as Alliant Capital, generated $18 million of revenues in Q1, down 9% from the first quarter of last year.

Although this is a slow start to the year, we closed Affordable Equity Fund 119 with $163 million in funding in early April, which will add to syndication fee revenue in the second quarter. It is our expectation that W&D Affordable Equity increases both fundraising and disposition activity in 2024 with substantial growth over the team’s very successful 2023. Finally, credit in our servicing portfolio remains strong, and as a result of lower payoffs and continued growth in the portfolio, we grew servicing fees 6% year-over-year in Q1. This is one of the advantages of having both an origination and servicing platform inside of W&D. With limited runoff in the loan portfolio, even reduced loan origination volumes add UPB and fee income to our servicing business.

I will now turn the call over to Greg to discuss our Q1 financial performance in more detail and then I’ll come back with some thoughts about what we see coming ahead. Greg?

Greg Florkowski: Thank you, Willy, and good morning, everyone. Despite the market challenges Willy just outlined, our team delivered for our clients and our business delivered growth in adjusted EBITDA and adjusted core EPS for our shareholders. Diluted EPS was down 56% in Q1, but as a reminder, the first quarter last year included a few atypical items, including an $11 million benefit for credit losses, a $4.4 million premium write-off from the refinancing of acquired debt, and a $7.5 million investment banking transaction. These three transactions added about $0.45 of diluted EPS to our financial results last year, and without those items, diluted EPS this quarter would have grown, reflecting lower compensation and G&A expenses from our cost management efforts over the last year.

Lower transaction activity in Q1 brought our operating margin and return on equity down to 6% and 3%, respectively. A core component of our long-term strategy has been sustainable growth of our servicing portfolio to provide the capital to reinvest in the long-term growth of the business and support our quarterly dividend. Despite lower transaction activity during the tightening cycle, we continue to invest in our capital markets platform because it fuels the sustainable long-term growth of our servicing portfolio. At the end of this quarter, our servicing portfolio stood at $132 billion, up 6% from the prior year quarter, and generated $119 million of servicing and related revenues, up 12% compared to the year-ago quarter. When coupled with the largely recurring revenues of our asset management businesses, we are generating significant cash revenues.

As a result, adjusted EBITDA was $74 million this quarter, up 9% compared to the same quarter last year, illustrating the strength of our business model. Turning to segments and starting with Capital Markets. Total revenues for the segment declined 21% to $82 million, driven by lower investment banking revenues and a 30% decline in non-cash MSR revenues from GSE lending. Despite the GSE’s slow start, there are deals in capital available which drove our broker debt volumes up 40% compared to the same quarter last year. The decrease in non-cash MSR revenues drove a $7.2 million decrease in net income for the segment, while stronger cash revenues on transaction activity delivered in-line adjusted EBITDA at negative $19 million. Our Servicing and Asset Management segment, or SAM, continues to perform well, generating stable cash revenues from our growing servicing portfolio and assets under management.

SAM revenues increased 6% year-over-year to $141 million, due primarily to growth in servicing fees and related revenues. With little change now expected in short-term interest rates this year, placement fees should remain elevated in 2024, which will continue to drive our strong cash revenues and adjusted EBITDA for this segment. Total revenues from Walker & Dunlop Affordable Equity were down slightly from the same period last year, but as Willy mentioned, we expect a pickup in revenues after closing our latest multi-investor fund in April, a $163 million fund that will add to syndication revenues for the second quarter. Adjusted EBITDA for the segment was $120 million, up 6% year-over-year, and operating margin was 38% compared to 48% in the first quarter of last year, with the decline in operating margin driven by the previously mentioned $11 million provision benefit that boosted operating income in the first quarter of last year.

Before I turn to credit, I want to provide an update on the loan repurchases we reported last quarter. We received three loan repurchase requests, one from Fannie and two from Freddie. In March, we completed the repurchase of the Fannie loan for $13 million. We have begun our loss mitigation efforts to resolve the outstanding issues with the asset that led to the repurchase, and we do not anticipate incurring a material loss when the asset is sold following foreclosure. The two Freddie loans total $46 million, and in March, we entered into an indemnification agreement that shifts the risk of loss from Freddie to us on those two loans in lieu of repurchasing them. One of the loans with Freddie is an $11 million loan that is current and our customer is working on a plan to sell a portfolio of assets that includes our asset, and we are not expecting to incur a loss on that loan.

The second loan is a $35 million loan that shows evidence of fraud by the borrower. We are working on obtaining reliable financial information for this asset, including an understanding of capital investments required. Based on the preliminary information, we recognized a $2 million loss provision, for this loan during the quarter. We will provide updates in the coming quarters but may incur an additional $1 million to $3 million of expenses to fund operating costs and capital improvements for the asset in the coming quarters. The prompt resolution of these loans reflects our strong longstanding relationship with the GSEs, and we are not aware of any other potential repurchases from either agency. Turning to our at-risk portfolio, we ended the quarter with six defaulted loans totaling 11 basis points of the at-risk portfolio compared to three loans at the end of the fourth quarter.

One of the additional defaults is a $12 million loan with the same fraudulent borrower that defaulted on the Freddie loan I just discussed. The other two defaults were loans that were 30-plus days delinquent at year-end that defaulted during the quarter, leaving us with only five loans 30-plus days delinquent. These three new defaults had little impact on our overall loan loss reserves, though, because we already adjust forecasted losses upward when establishing our CECL reserves for exactly these types of unknown or unexpected events. As I have shared routinely throughout this tightening cycle, our at-risk portfolio is performing very well. We are actively gathering year-end financial information for our entire portfolio, and with most of the data already collected, the weighted average debt service coverage ratio remains over two times, with most of the collaterals in our portfolio generating more than twice their annual debt service payments.

Over 90% of our portfolio being fixed-rate loans and limited maturities over the next two years, we continue to feel very good about credit. As I mentioned earlier, our business model generates strong cash flow and we ended Q1 with $217 million of cash on the balance sheet after paying bonuses, earnout installments and our quarterly dividend. Given our strong financial position, our Board of Directors approved a quarterly dividend of $0.65 per share yesterday, payable to shareholders of record as of May 16, consistent with last quarter’s dividend. When we spoke to you in February, we struck a cautious tone with respect to the market conditions and our expected Q1 financial results. So far, our expectation that the GSEs will lend at similar levels to 2023 has been correct.

And though our pipeline with Fannie and Freddie is growing, we still believe that the GSEs will not meaningfully surpass their 2023 lending volume this year. One month into the second quarter, our clients are adapting to “higher for longer” and adjusting their business plans accordingly. While some deals will need to be adjusted or even reworked, many deals remain on track. Importantly, our pipeline of closed and signed deal flow for the second quarter is already 35% above the level closed for all of Q1, a positive indication that many clients are looking to transact rather than push transactions further and further into the future. Provided rates remain stable, we expect the market to adjust, and as Willy will discuss momentarily, there are several green shoots across our business that give us confidence we can achieve the goals we laid out for the full year during our last call.

In fact, although diluted EPS started slowly this year, our adjusted EBITDA and adjusted core EPS are in line with our full year expectations through the first quarter. We still have the ability to achieve our 2024 guidance for diluted EPS, adjusted core EPS, and adjusted EBITDA with the expectation that activity will pick up as the year progresses and a majority of our earnings will be generated in the second half of the year. We feel very good about the team we have in place, our ability to guide our clients through these challenging markets, and our ability to grow rapidly when the market turns. Thank you for your time this morning. I will now turn the call back over to Willy.

Willy Walker: Thanks, Greg. As the financial results that Greg just ran through show, we have a strong business model that enables us to weather market downturns while continuing to invest in our people, brand and technology to grow market share when the cycle turns. And while it is exceptionally difficult to predict when the cycle will turn, we are seeing promising signs that investors have given up hope for lower rates soon and begun to work higher for longer into their refinancing, acquisition and disposition decision-making. If 2023 was a wait-and-see year, 2024 may end up being the year when the clock ran out on re-financings, capital deployment and waiting for rate cuts that don’t materialize. As I mentioned previously, over half of our Q1 debt brokerage volume of over $3 billion was non-multifamily, reflective of the need for capital across all CRE asset classes.

W&D is known for multifamily, but as we have shown, our bankers and brokers expertly provide capital solutions across all CRE asset classes and we will continue doing so. We had a slow Q1 with the GSEs, but so did everyone. Our current pipeline of signed applications and rate-locked GSE loans for Q2 is already larger than what we rate-locked in all of Q1, but that is off of a very low base. As the GSEs achieve their affordable lending goals and gain confidence that their loan losses don’t become a problem, it is our expectation that they step into the market more in coming quarters. Our multifamily property sales team issued more broker opinion — excuse me, more broker opinion of value or BOVs during Q1 ’24 than in any previous quarter, yet only closed $1.2 billion of transaction volume versus $9.3 billion at the peak of the post-pandemic acquisition binge.

The quantity of BOVs being requested hopefully translates into a more fluid acquisitions market, as would-be sellers accept current market conditions and begin transacting. Blackstone’s announcement to acquire AIR Communities for $10 billion felt like the beginning of a new cycle, yet the subsequent surge in interest rates over the past three weeks seems to have tempered the market’s excitement. The Blackstone’s acquisition is reflective of three current market dynamics. First, there’s a ton of equity capital that has been on the sidelines for almost two years and needs to be deployed. Second, that while nobody knows exactly where the bottom of this cycle is, we are close to the bottom or beginning to recover. And third, “I’m waiting for rate cuts” is really not a reasonable statement given where the macro economy sits today.