ACRES Commercial Realty Corp.: Form 10-Q for the period ended Mar 31, 2024

References in this quarterly report to “we,” “us” or the “Company” refer to ACRES Commercial Realty Corp. The following discussion and analysis of the Company’s financial condition and results of operations should be read in conjunction with the consolidated financial statements and accompanying notes appearing elsewhere in this report. Certain information contained in the discussion and analysis set forth below includes forward-looking statements that involve risks and uncertainties.

Special Note Regarding Forward-Looking Statements

This report contains certain forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. Such forward-looking statements can generally be identified by our use of forward-looking terminology such as “may,” “will,” “continue,” “expect,” “intend,” “anticipate,” “estimate,” “believe,” “look forward” or other similar words or terms. Because such statements include risks, uncertainties and contingencies, actual results may differ materially from the expectations, intentions, beliefs, plans or predictions of the future expressed or implied by such forward-looking statements. For information identifying important factors that could cause actual results to differ materially from those anticipated in the forward-looking statements, including, without limitation, factors impacting whether we will be able to maintain our sources of liquidity and whether we will be able to identify sufficient suitable investments to increase our originations, please refer to the Risk Factors section of the Company’s Annual Report on Form 10-K for the year ended December 31, 2023 filed with the U.S. Securities and Exchange Commission (the “SEC”). Except as expressly required by applicable securities law, the Company disclaims any intention or obligation to update or revise any forward-looking statements whether as a result of new information, future events or otherwise.

Overview

We are a Maryland corporation and an externally managed real estate investment trust (“REIT”) that is primarily focused on originating, holding and managing commercial real estate (“CRE”) mortgage loans and equity investments in commercial real estate properties through direct ownership and joint ventures. Our manager is ACRES Capital, LLC (our “Manager”), a subsidiary of ACRES Capital Corp. (collectively, “ACRES”), a private commercial real estate lender exclusively dedicated to nationwide middle market CRE lending with a focus on multifamily, student housing, hospitality, office and industrial property in top United States (“U.S.”) markets. Our Manager draws upon the management team of ACRES and its collective investment experience to provide its services. Our longer term objective is to provide our stockholders with total returns over time, including quarterly distributions and capital appreciation, while seeking to manage the risks associated with our investment strategies as well as to maximize long-term stockholder value by maintaining stability through our available liquidity and diversified CRE loan portfolio. Our short term strategy is to drive book value (“BV”) growth over the coming years by utilizing our NOL carryforwards of $46.6 million and a portion of our net capital loss carryforwards of $121.9 million, each at March 31, 2024. By retaining future earnings, we can grow our investable base and selectively deploy the anticipated capital growth into new whole loan originations at attractive yields, which we expect will grow our earnings available for distribution.

Currently, markets are grappling with inflation and the prospect of having higher interest rates for longer than originally forecasted. These market pressures have caused continued disruption in many market segments, including the financial services, real estate and credit markets and these disruptions have affected the availability and the cost of capital. The increase in the cost of capital is expected to cause dislocations in various investment and financing markets in which we participate as we and other market participants adjust to the new financing environment.

The U.S. Federal Reserve raised the Federal Funds rate by 5.25% in 11 rate hikes between March 2022 and July 2023 to combat inflation. While the U.S Federal Reserve has signaled they may lower rates in 2024, there is no certainty with respect to the timing and pace of potential decreases or if such decreases will occur. Interest rates may remain at or near recent highs, which creates further uncertainty for the economy and our borrowers. A rising interest rate environment generally correlates to increases in our net income. However, increases in interest rates may adversely affect our existing borrowers and could lead to nonperformance, i.e. the borrower’s inability to pay debt service. Additionally, rising rates and increasing costs may discourage consumer spending and slow corporate profit growth, which may negatively impact the collateral underlying our loans and impact our borrowers' ability to sell or refinance in the current market.

Additionally, the office property market continues to experience high vacancies, slower leasing activity and current tenants reevaluating their needs for physical office space due to remote-work trends across the country. These factors, coupled with inflation, higher interest rates projected longer than originally expected and dislocations in market liquidity, have converged to create higher levels of uncertainty surrounding property values, which in turn, also negatively impact borrowers' ability and willingness to financially support and standby their investments in their office properties, their abilities to sell or refinance their positions in the current market and ultimately our financial results.

In response, we continue to manage corporate liquidity actively and responsibly, manage our CRE assets through a solutions-based approach with our borrowers and manage our daily operations in light of changing macroeconomic circumstances. Our Manager also continuously monitors for new capital opportunities and selectively executes on agreements that are expected to enhance our returns.

We originate transitional floating-rate CRE loans with a target size of between $10.0 million and $100.0 million. During the three months ended March 31, 2024, we did not originate new floating-rate CRE loans. Loan payoffs during the three months ended March 31, 2024 were $80.8 million, offset by net funded commitments of $11.4 million, producing a net decrease to the portfolio of $69.4 million. During the year ended December 31, 2023, we selectively originated three floating-rate CRE whole loans with total commitments of $68.2 million. Loan payoffs during the year ended December 31, 2023 were $293.1 million, offset by net funded commitments of $40.5 million, producing a net decrease to the portfolio of $184.4 million.

Our CRE loan portfolio, which had carrying values of $1.7 billion and $1.8 billion at March 31, 2024 and December 31, 2023, respectively, comprised:

• First mortgage loans, which we refer to as whole loans. These loans are typically secured by first liens on CRE property, including the following property types: multifamily, student housing, hospitality, office, self-storage and retail. All but two of our CRE whole loans were current on contractual payments at March 31, 2024.
• Mezzanine debt that is senior to borrower’s equity but is subordinated to other third-party debt. These loans are subordinated CRE loans, usually secured by a pledge of the borrower’s equity ownership in the entity that owns the property or by a second lien mortgage on the property. At both March 31, 2024 and December 31, 2023, we had one mezzanine loan included in CRE loans held for investment that had no carrying value. This mezzanine loan was not current on contractual payments at March 31, 2024.

We generate our income primarily from the spread between the revenues we receive from our assets and the cost to finance our ownership of those assets, including corporate debt.

While the CRE whole loans included in the CRE loan portfolio are substantially composed of floating-rate loans benchmarked to the one-month Term Secured Overnight Financing Rate (“SOFR”), asset yields are protected through the use of benchmark floors and minimum interest periods that typically range from 12 to 18 months at the time of a loan’s origination. Our benchmark floors provide asset yield protection when the benchmark rate falls below an in-place benchmark floor. Our net investment returns are enhanced by a decline in the cost of our floating-rate liabilities that do not have benchmark floors. Our net investment returns will be negatively impacted by the rising cost of our floating-rate liabilities that do not have floors until the benchmark rate is above the benchmark floor, at which point our floating-rate loans and floating-rate liabilities will be match funded, effectively locking in our net interest margin until the benchmark floor rate is activated again or the floating-rate loan is paid off or refinanced.

In a business environment where benchmark rates are increasing significantly, cash flows of the CRE assets underlying our loans may not be sufficient to pay debt service on our loans, which could result in non-performance or default. We partially mitigate this risk by generally requiring our borrowers to purchase interest rate cap agreements with non-affiliated, well-capitalized third parties and by selectively requiring our borrowers to have and maintain debt service reserves. These interest rate caps generally mature prior to the maturity date of the loan and the borrowers are required to pay to extend them. In most cases the sponsors will need to fund additional equity into the properties to cover these costs as the property may not generate sufficient cash flow to pay these costs. At March 31, 2024, 77% of the par value of our CRE loan portfolio had interest rate caps in place with a weighted-average maturity of six months.

At March 31, 2024, our par-value $1.8 billion floating-rate CRE loan portfolio had a weighted average benchmark floor of 0.74%, while at December 31, 2023, this floor was 0.70%. With the trend of rising benchmark rates, we have seen the coupons on all of our floating-rate assets and debt rise accordingly. Because we have equity invested in each floating-rate loan, and because in all instances the benchmark interest rates are above our loan floors, the rise in interest rates resulted in an increase in our net interest income. See “Interest Rate Risk” in “Item 3: Quantitative and Qualitative Disclosures About Market Risk.”

Our portfolio comprises loans with a diverse array of collateral types and locations. Multifamily continues to comprise the majority of our portfolio, with 79.1% of our portfolio allocated to multifamily at March 31, 2024 and 79.6% at December 31, 2023. The following charts show our portfolio allocation by property type at March 31, 2024 and December 31, 2023:

From time to time, we may acquire real estate property through direct equity investments or as a result of our lending activities. During the three months ended March 31, 2024, we acquired an office property located in the East North Central region via deed-in-lieu of foreclosure that, at acquisition, had a cost basis of $14.0 million and a fair value of $20.3 million. We recognized a $5.8 million gain upon converting the loan to real estate owned and immediately contributed the property into a joint venture with an unrelated third-party, seeking to maximize the property's value through a multifamily conversion. We reported this investment as an investment in an unconsolidated entity on our consolidated balance sheets.

At March 31, 2024, the total carrying value of our net real estate-related assets and liabilities was $162.9 million on six properties owned, four of which are included in investments in real estate and two of which are included in properties held for sale on our consolidated balance sheets. The existence of net capital loss carryforwards available until December 31, 2025 allows for potential future capital gains on certain of these investments to be shielded from income taxes.

We use leverage to enhance our returns. The cost of borrowings to finance our investments is a significant part of our expenses. Our net interest income depends on our ability to control these expenses relative to our revenue. Our CRE loans may initially be financed with term facilities, such as CRE loan warehouse financing facilities, in anticipation of their ultimate securitization. We ultimately seek to finance our CRE loans through the use of non-recourse long-term, match-funded CRE debt securitizations.

At March 31, 2024 and December 31, 2023, our financing arrangements were as follows (dollars in thousands):

(1) Represents an asset-specific borrowing.

(2) Each of our CRE debt securitizations initially provided for a two-year reinvestment period that allowed us to reinvest CRE loan payoffs and principal paydown proceeds into the securitizations, pending certain eligibility criteria are met and rating agency approval is obtained. The reinvestment periods on both our securitizations ended in May 2023 and December 2023.

We reevaluate our current expected credit losses ("CECL") allowance quarterly, incorporating our current expectations of macroeconomic factors considered in the determination of our CECL reserves. At March 31, 2024, the CECL allowance on our CRE loan portfolio was $33.7 million, or 1.9% of our $1.8 billion loan portfolio. During the three months ended March 31, 2024, we recorded a provision for credit losses primarily attributable to worsening macroeconomic factors due to higher interest rates lasting longer than expected, compounded by an increase in modeled credit risk from the expected worsening of property-level performance.

At December 31, 2023, the CECL allowance on our CRE loan portfolio was $28.8 million or 1.5% of our $1.9 billion loan portfolio. During the year ended December 31, 2023, we recorded a provision for credit losses primarily attributable to the modeled increases in general portfolio credit risk compounded by ongoing uncertainty around the commercial real estate market’s current macroeconomic outlook, which affected our borrowers’ business plan execution and general market liquidity. In June 2023, we received the deed-in-lieu of foreclosure to a property formerly collateralizing an office loan in the East North Central region with a principal balance of $22.8 million, which resulted in a charge off of $948,000 against the allowance for credit losses.

Additionally, the decline in our CECL reserves from our highest reserve balance at June 30, 2020 of $61.1 million, or 3.4% of the par balance of our CRE loan portfolio, to our current reserve balance at March 31, 2024 of $33.7 million, or 1.9% of the par balance of our CRE loan portfolio, has been due to the following: the successful resolution of our individually evaluated loans with specific reserves, the overall newer vintage of our CRE loan portfolio (with only 9.4% of the portfolio, at March 31, 2024, being originated prior to the fourth quarter of 2020) as well as the increased percentage allocation of our CRE loan portfolio to multifamily loans over time. Multifamily loans have historically had the lowest credit losses of any asset class, and our percentage allocation of our CRE loan portfolio to multifamily has grown from 58.4% at June 30, 2020 to 79.1% at March 31, 2024.

We historically used derivative financial instruments, including interest rate swaps, to hedge a portion of the interest rate risk associated with our borrowings. In April 2020, we terminated all interest rate hedges in conjunction with the disposition of our financed commercial mortgage-backed securities (“CMBS”) portfolio. At March 31, 2024 and December 31, 2023, we had unrealized losses in connection with the terminated hedges of $4.5 million and $5.0 million, respectively, which will be amortized into interest expense over the remaining life of the debt. During the three months ended March 31, 2024, we recognized amortization expense on these terminated contracts of $420,000.

Common stock book value was $27.25 per share at March 31, 2024, a $0.60 per share increase from December 31, 2023.

Results of Operations

Our net income allocable to common shares for the three months ended March 31, 2024 was $556,000, or $0.07 per share-basic ($0.07 per share-diluted), as compared to net loss allocable to common shares for the three months ended March 31, 2023 of $2.4 million, or $0.28 per share-basic ($0.28 per share-diluted).

Net Interest Income

The following tables analyze the change in interest income and interest expense for the comparative three months ended March 31, 2024 and 2023 by changes in volume and changes in rates. The changes attributable to the combined changes in volume and rate have been allocated proportionately, based on absolute values, to the changes due to volume and changes due to rates (dollars in thousands, except amounts in footnotes):

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(1) Percent change is calculated as the net change divided by the respective interest income or interest expense for the three months ended March 31, 2023.

(2) Includes a decrease in fee income of $341,000 recognized on our CRE whole loans that was due to changes in volume.

(3) Net change pertains to amortization expense and is reflected in the change in volume.

Net Change in Interest Income for the Comparative three months ended March 31, 2024 and 2023:

Aggregate interest income decreased by $2.7 million for the comparative three months ended March 31, 2024 and 2023. We attribute the change to the following:

CRE whole loans. The decrease of $2.6 million for the comparative three months ended March 31, 2024 and 2023 was primarily attributable to a decrease in total par value of our CRE portfolio, offset by an increase in the benchmark rate over the comparative periods.

Other. The decrease of $114,000 for the comparative three months ended March 31, 2024 and 2023 was primarily attributable to a decrease in restricted cash in our CRE securitizations, offset by an increase in yields on our interest earning money market accounts.

Net Change in Interest Expense for the Comparative three months ended March 31, 2024 and 2023:

Aggregate interest expense decreased by $124,000 for the comparative three months ended March 31, 2024 and 2023. We attribute the change to the following:

Securitized borrowings. The net increase of $1.8 million for the comparative three months ended March 31, 2024 and 2023 was primarily attributable to an increase in the benchmark rate over the comparative periods, offset by paydowns on our borrowings.

Senior secured financing facility. The increase of $120,000 for the comparative three months ended March 31, 2024 and 2023 was primarily attributable to an increase in the benchmark rate over the comparative periods.

CRE - term warehouse financing facilities. The decrease of $2.2 million for the comparative three months ended March 31, 2024 and 2023 were primarily attributable to paydowns on our borrowings.

Unsecured junior subordinated debentures. The increase of $122,000 for the comparative three months ended March 31, 2024 and 2023 was primarily attributable to an increase in the benchmark rate over the comparative periods.

Average Net Yield and Average Cost of Funds:

The following tables present the average net yield and average cost of funds for the three months ended March 31, 2024 and 2023 (dollars in thousands, except amounts in footnotes):

(1) Average net yield includes net amortization/accretion and fee income and is computed based on average amortized cost.

(2) Includes fee income of $1.7 million and $2.1 million recognized on our floating-rate CRE whole loans for the three months ended March 31, 2024 and 2023, respectively.

(3) Includes amortization expense of $1.3 million for the three months ended March 31, 2024 and 2023, respectively, on our interest-bearing liabilities collateralized by CRE whole loans.

(4) Includes amortization expense of $164,000 and $155,000 for the three months ended March 31, 2024 and 2023, respectively.

(5) Includes net amortization expense of $397,000 and $393,000 for the three months ended March 31, 2024 and 2023, respectively, on 20 terminated interest rate swap agreements, respectively, that were in net loss positions at the time of termination. The remaining net losses, reported in accumulated other comprehensive loss on the consolidated balance sheets, will be accreted over the remaining life of the debt.

Real Estate Income and Other Revenue

The following table sets forth information relating to our real estate income and other revenue for the periods presented (dollars in thousands):

Aggregate real estate income and other revenue increased by $304,000 for the comparative three months ended March 31, 2024 and 2023. The increase in the comparative three months was primarily attributed to incremental revenues from the acquisition of an office building through deed-in-lieu of foreclosure in June 2023. The impact of those incremental revenues was partially offset by the loss of revenues from the sale of a hotel property in February 2023.

Operating Expenses

The following tables set forth information relating to our operating expenses for the periods presented (dollars in thousands):

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Aggregate operating expenses increased by $169,000 for the comparative three months ended March 31, 2024 and 2023. We attribute the change to the following:

General and administrative. General and administrative expenses increased by $276,000 for the comparative three months ended March 31, 2024 and 2023. The following table summarizes the information relating to our general and administrative expenses for the periods presented (dollars in thousands):

The increase in general and administrative expense for the comparative three months ended March 31, 2024 and 2023 was primarily attributable to the increase in legal fees related to our CRE loan assets and the timing of our interim audit billings.

Real estate expenses. The increase of $671,000 for the comparative three months ended March 31, 2024 and 2023 was primarily attributable to incremental real estate operating expenses from the acquisition of an office building through deed-in-lieu of foreclosure in June 2023. This was partially offset by the loss of expenses from the sale of a hotel property in February 2023.

Equity compensation - related party. The decrease of $417,000 for the comparative three months ended March 31, 2024 and 2023 was primarily related to the vesting of shares in 2023. As these shares fully vest, the expense related to equity compensation - related party decreases.

Other Income (Expense)

The following table sets forth information relating to our other income (expense) incurred for the periods presented (dollars in thousands):

Aggregate other income increased $5.1 million for the comparative three months ended March 31, 2024 and 2023. We attribute the change to the following:

Gain on sale of real estate. The decrease of $745,000 during the comparative three months ended March 31, 2024 and 2023 was primarily attributed to the sale of a hotel property in the Northeast region in February 2023 that generated a non-recurring gain of $745,000. No sales of real estate occurred in the three months ended March 31, 2024.

Gain on conversion of real estate. The increase of $5.8 million during the comparative three months ended March 31, 2024 and 2023 was primarily attributed to the completion of a deed-in-lieu of foreclosure that generated a non-recurring gain of $5.8 million as the fair value of the property exceeded the amortized cost basis of the loan.

Financial Condition

Summary

Our total assets were $2.1 billion and $2.2 billion at March 31, 2024 and December 31, 2023, respectively.

Investment Portfolio

The tables below summarize the amortized cost and net carrying amount of our investment portfolio, classified by asset type, at March 31, 2024 and December 31, 2023 as follows (dollars in thousands, except amounts in footnotes):

(1) Net carrying amount includes an allowance for credit losses of $33.7 million and $28.8 million at March 31, 2024 and December 31, 2023, respectively.

(2) Includes real estate related right of use assets of $19.1 million and $19.2 million, intangible assets of $7.6 million and $7.9 million, lease liabilities of $43.7 million and $44.3 million, mortgages payable of $51.3 million and $41.8 million, and other liabilities of $18,000 and $27,000 at March 31, 2024 and December 31, 2023, respectively.

(3) Includes property held for sale-related liabilities of $3.0 million at both March 31, 2024 and December 31, 2023.

(4) There are no stated rates associated with these investments.

CRE loans. During the three months ended March 31, 2024, we did not originate new CRE loans. We received $80.8 million in proceeds from loan payoffs offset by funding of $11.4 million of previously unfunded loan commitments, producing a net reduction of $69.4 million in the par balance of the portfolio.

The following is a summary of our loans (dollars in thousands, except amounts in footnotes):

(1) Amounts include unamortized loan origination fees of $4.2 million and $5.8 million and deferred amendment fees of $509,000 and $110,000 at March 31, 2024 and December 31, 2023, respectively.

(2) Benchmark rates ("BR") comprise one-month Term SOFR. Weighted-average one-month benchmark rates were 5.36% and 5.39% at March 31, 2024 and December 31, 2023, respectively. Additionally, weighted-average benchmark rate floors were 0.74% and 0.70% at March 31, 2024 and December 31, 2023, respectively.

(3) Maturity dates exclude contractual extension options, subject to the satisfaction of certain terms that may be available to the borrowers.

(4) Maturity dates exclude two and three whole loans, with amortized costs of $27.2 million and $41.2 million, in maturity default at March 31, 2024 and December 31, 2023, respectively.

(5) Substantially all loans are pledged as collateral under various borrowings at March 31, 2024 and December 31, 2023.

(6) CRE whole loans had $97.4 million and $109.4 million in unfunded loan commitments at March 31, 2024 and December 31, 2023, respectively. These unfunded loan commitments are advanced as the borrowers formally request additional funding and meet certain benchmarks, as permitted under the loan agreement, and any necessary approvals have been obtained.

At March 31, 2024, 26.7%, 21.1% and 15.8% of our CRE loan portfolio was concentrated in the Southwest, Southeast and Mountain regions, respectively, based on carrying value, as defined by the NCREIF. At December 31, 2023, 26.6%, 22.0% and 15.0% of our CRE loan portfolio was concentrated in the Southwest, Southeast and Mountain regions, respectively, based on carrying value. At March 31, 2024 and December 31, 2023, no single loan or investment represented more than 10% of our total assets and no single investment group generated over 10% of our revenue.

Investments in unconsolidated entities. Our investments in unconsolidated entities at March 31, 2024 comprised a 100% interest in the common shares of Resource Capital Trust I (“RCT I”) and RCC Trust II (“RCT II”), with a value of $1.5 million in the aggregate, or 3.0% of each trust and our investment in 65 E. Wacker Joint Venture, LLC (the "Venture"), representing a 90% interest in a joint venture formed for the purpose of converting an office property in the East North Central region to multifamily units with a value of $20.1 million. Our investments in unconsolidated entities at December 31, 2023 solely comprised our investments in RCT I and RCC Trust II.

We record our investments in RCT I’s and RCT II’s common shares as investments in unconsolidated entities using the cost method. We record our investment in the Venture as an equity method investment.

Investments in real estate and property held for sale. At March 31, 2024, we held investments in six real estate properties, four of which are included in investments in real estate and two of which are included in properties held for sale on the consolidated balance sheets.

The following table summarizes the book value of our investments in real estate and related intangible assets at March 31, 2024 and December 31, 2023 (in thousands, except amounts in the footnotes):

(1) Includes $38.4 million of land, which is not depreciable, at both March 31, 2024 and December 31, 2023. Also includes $59.1 million and $44.9 million of construction in progress, which is also not depreciable until placed in service, at March 31, 2024 and December 31, 2023, respectively.

(2) Primarily comprised a $18.8 million and $19.2 million right of use asset, at March 31, 2024 and December 31, 2023, respectively, associated with the ground lease disclosed at footnote (6) below as an operating lease. Amortization is booked to real estate expenses on the consolidated statements of operations.

(3) Refer to Note 8 in the Notes to the Consolidated Financial Statements for additional information on our remaining operating leases.

(4) Primarily comprised a franchise intangible of $4.5 million and $4.7 million, a management contract intangible of $2.9 million and a customer list intangible of $179,000 and $223,000, at March 31, 2024 and December 31, 2023, respectively.

(5) At March 31, 2024 and December 31, 2023, properties held for sale included a hotel acquired via deed-in-lieu of foreclosure in November 2020, as well as an office property acquired via deed-in-lieu of foreclosure in June 2023.

(6) Primarily comprised a $43.4 million ground lease with a remaining term of 92 years at March 31, 2024. Lease expense was $680,000 and $661,000 for the three months ended March 31, 2024 and 2023, respectively.

(7) Comprised an operating lease liability.

(8) Excludes items of working capital, either acquired or assumed.

Financing Receivables

Current market conditions have resulted in, and may continue to result in, a dislocation in capital markets, declining real estate values of certain asset classes and increased delinquencies and defaults, resulting in increased loan modifications, increased allowances for credit losses and an increased risk to borrowers of foreclosure actions. We routinely employ rigorous risk management and underwriting practices to proactively evaluate and maintain the credit quality of our CRE loan portfolio and work closely with our borrowers to mitigate potential losses.

The following tables show the activity in the allowance for credit losses for the three months ended March 31, 2024 and year ended December 31, 2023 (in thousands):

During the three months ended March 31, 2024, we recorded a provisions for expected credit losses of $4.9 million primarily driven by worsening macroeconomic factors due to higher interest rates lasting longer than expected, compounded by an increase in modeled credit risk from the expected worsening of property-level performance.

At March 31, 2024 and December 31, 2023, we individually evaluated the following loans for impairment:

• One office mezzanine loan in the Northeast region with a principal balance of $4.7 million at both March 31, 2024 and December 31, 2023. We fully reserved this loan in the fourth quarter of 2022, and it continues to be fully reserved at March 31, 2024. The loan entered payment default in February 2023 and has been placed on nonaccrual status.
• One retail loan in the Northeast region, with a principal balance of $8.0 million at both March 31, 2024 and December 31, 2023, for which foreclosure was determined to be probable. The loan was modified in February 2021 to extend its maturity to December 2021. In December 2021, this loan entered payment default and was placed on nonaccrual status. The borrower filed for bankruptcy in 2023 and the property was sold to a third-party bidder at auction in February 2024. The sale closed subsequent to March 31, 2024, at a purchase price of $8.3 million. The sale price and the "as-is" appraised value were in excess of its principal, and, as such, the loan had no allowance for CECL at both March 31, 2024 and December 31, 2023.
• One office loan in the Southwest region, with a principal balance of $19.1 million at both March 31, 2024 and December 31, 2023, for which foreclosure was determined to be probable. The loan had an initial maturity of March 2022, was modified three times to extend its maturity to June 2022. The loan has since entered into payment default and placed on nonaccrual status. However, in exchange for payments, comprising principal paydowns, interest payments and the reimbursement of certain legal fees, received between October 2022 and May 2024, we have agreed to temporarily defer our right to foreclose on the property until August 2024. Additionally, at both March 31, 2024 and December 31, 2023, this loan had an "as-is" appraised value in excess of its principal, and, as such, had no CECL allowance. Subsequent to March 31, 2024, the loan was paid down by $4.7 million from a combination of excess operating cash flow and principal payments received in accordance with the executed forbearance agreements.

Also, at December 31, 2023, we individually evaluated one additional loan:

• One office loan in the East North Central region with a principal balance of $14.0 million at December 31, 2023. During the year ended December 31, 2023, the loan entered into payment default and placed on nonaccrual status. The loan had an "as-is" appraised value in excess of its principal and interest balances, and, as such, had no allowance for CECL at December 31, 2023. In March 2024, we accepted the deed-in-lieu of foreclosure in full satisfaction of the loan and recognized a $5.8 million gain upon conversion based on the property's fair value of $20.3 million in the consolidated statement of operations. Upon receipt, the property was immediately contributed to a joint venture and our investment in that joint venture is included in investments in unconsolidated entities on the consolidated balance sheet.

Credit quality indicators

Commercial Real Estate Loans

CRE loans are collateralized by a diversified mix of real estate properties and are assessed for credit quality based on the collective evaluation of several factors, including but not limited to: collateral performance relative to underwritten plan, time since origination, current implied and/or re-underwritten loan-to-collateral value (“LTV”) ratios, loan structure and exit plan. Depending on the loan’s performance against these various factors, loans are rated on a scale from 1 to 5, with loans rated 1 representing loans with the highest credit quality and loans rated 5 representing loans with the lowest credit quality. Loans are rated a 2 at origination. The factors evaluated provide general criteria to monitor credit migration in our loan portfolio; as such, a loan’s rating may improve or worsen, depending on new information received.

The criteria set forth below should be used as general guidelines and, therefore, not every loan will have all of the characteristics described in each category below.

All CRE loans are evaluated for any credit deterioration by debt asset management and certain finance personnel on at least a quarterly basis. Mezzanine loans may experience greater credit risks due to their nature as subordinated investments.

For the purpose of calculating the quarterly provision for credit losses under CECL, we pool CRE loans based on the underlying collateral property type and utilize a probability of default and loss given default methodology for approximately one year after which we immediately revert to a historical mean loss ratio.

Credit risk profiles of CRE loans at amortized cost were as follows (in thousands, except amounts in the footnotes):

(1) The total amortized cost of CRE loans excluded accrued interest receivable of $11.8 million at both March 31, 2024 and December 31, 2023.

Credit risk profiles of CRE loans by origination year at amortized cost were as follows (in thousands, except amounts in footnotes):

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(1) The total amortized cost of CRE loans excluded accrued interest receivable of $11.8 million at both March 31, 2024 and December 31, 2023.

(2) Acquired CRE whole loans are grouped within each loan’s year of origination.

At both March 31, 2024 and December 31, 2023, we had one additional mezzanine loan included in other assets held for sale that had no carrying value.

Loan Portfolio Aging Analysis

The following table presents the CRE loan portfolio aging analysis as of the dates indicated for CRE loans at amortized cost (in thousands, except amounts in footnotes):

(1) During the three months ended March 31, 2024 and 2023, we recognized interest income of $665,000 and $917,000, respectively, on one CRE whole loan with a principal payment past due greater than 90 days at March 31, 2024.

(2) The total amortized cost of CRE loans excluded accrued interest receivable of $11.8 million and at both March 31, 2024 and December 31, 2023.

(3) Fully reserved at both March 31, 2024 and December 31, 2023.

At March 31, 2024 and December 31, 2023, we had two and three CRE whole loans, with total amortized costs of $27.2 million and $41.2 million, respectively, and one mezzanine loan, with a total amortized cost of $4.7 million, in payment default.

Loan Modifications

We are required to disclose modifications where we determined the borrower is experiencing financial difficulty and modified the agreement to: (i) forgive principal, (ii) reduce the interest rate, (iii) cause an other-than-insignificant payment delay, (iv) extend the loan term, or (v) any combination thereof.

During the three months ended March 31, 2024, we entered into the following two loan modifications that required disclosure:

• A multifamily loan with an amortized cost of $52.8 million, representing 3.0% of the total amortized cost of the portfolio, was modified to: (i) extend its maturity from June 2025 to June 2026, (ii) reduce its current interest rate from BR + 3.70% to BR + 1.70%, and (iii) defer interest of 2.00% that will be due at payoff. In connection with the modification, the borrower funded additional capital into the project for interest reserves to cover debt service.
• A multifamily loan with an amortized cost of $44.1 million, representing 2.5% of the total amortized cost of the portfolio, was modified to: (i) reduce its current pay interest rate from BR + 3.31% to a 5.00% fixed rate and (ii) defer the unpaid interest that will be due at loan payoff. In connection with the modification, the borrower funded additional capital into the project for interest reserves to cover debt service.

During the three months ended March 31, 2023, we did not enter into any loan modifications for borrowers that were experiencing financial difficulty.

Restricted Cash

At March 31, 2024, we had restricted cash of $4.0 million, which consisted of $3.1 million held in reserve for a construction loan, and $916,000 held in escrow for deposits or tax payments at our real estate properties or pledged with minimum reserve balance requirements. At December 31, 2023, we had restricted cash of $8.4 million, which consisted of $7.6 million held in reserve for a construction loan, and $800,000 held in escrow for deposits or tax payments at our real estate properties or pledged with minimum reserve balance requirements. The decrease of $4.4 million was primarily attributable to decrease in restricted cash at our investments in real estate.

Accrued Interest Receivable

The following table summarizes our accrued interest receivable at March 31, 2024 and December 31, 2023 (in thousands):

The increase of $106,000 in accrued interest receivable was primarily attributable to rising benchmark rates.

Other Assets

The following table summarizes our other assets at March 31, 2024 and December 31, 2023 (in thousands):

The increase of $205,000 in other assets was primarily attributable to increases in various receivables and prepaid accounts held at our real estate properties, offset by amortization.

Deferred Tax Assets

At both March 31, 2024 and December 31, 2023, our net deferred tax asset was zero, resulting from a full valuation allowance of $21.1 million, on our gross deferred tax asset as we believed it was more likely than not that some or all of the deferred tax assets would not be realized. We will continue to evaluate our ability to realize the tax benefits associated with deferred tax assets by analyzing forecasted taxable income using both historical and projected future operating results, the reversal of existing temporary differences, taxable income in prior carry back years (if permitted) and the availability of tax planning strategies.

Derivative Instruments

Historically, we sought to mitigate the potential impact on net income (loss) of adverse fluctuations in interest rates incurred on our borrowings by entering into hedging agreements. We classified our interest rate hedges as cash flow hedges, which are hedges that eliminate the risk of changes in the cash flows of a financial asset or liability.

We terminated interest rate swap positions associated with our prior financed CMBS portfolio in April 2020. At termination, we realized a loss of $11.8 million. At March 31, 2024 and December 31, 2023, we had a loss of $4.5 million and $5.0 million, respectively, recorded in accumulated other comprehensive loss, which will be amortized into earnings over the remaining life of the debt. During the three months ended March 31, 2024 and 2023, we recorded amortization expense of $420,000 and $416,000, respectively, reported in interest expense on the consolidated statements of operations.

At March 31, 2024 and December 31, 2023, we had unrealized gains of $142,000 and $164,000, respectively, attributable to two terminated interest rate swaps, in accumulated other comprehensive loss on the consolidated balance sheets, to be accreted into earnings over the remaining life of the debt. During both the three months ended March 31, 2024 and 2023, we recorded accretion income, reported in interest expense on the consolidated statements of operations, of $23,000, to accrete the accumulated other comprehensive income on the terminated swap agreements.

The following tables present the effect of derivative instruments on our consolidated statements of operations for the three months ended March 31, 2024 and 2023 (in thousands):

(1) Negative values indicate a decrease to the associated consolidated statement of operations line items.

Financing Arrangements

Borrowings under our financing arrangements are guaranteed by us or one or more of our subsidiaries. The following table sets forth certain information with respect to our borrowings (dollars in thousands, except amounts in footnotes):

(1) Includes $2.7 million and $2.9 million of deferred debt issuance costs at March 31, 2024 and December 31, 2023, respectively.

(2) Outstanding borrowings include accrued interest payable.

(3) Includes $1.5 million and $1.6 million of deferred debt issuance costs at March 31, 2024 and December 31, 2023, respectively.

(4) Includes $456,000 and $647,000 of deferred debt issuance costs at March 31, 2024 and December 31, 2023, respectively.

(5) Includes $207,000 and $259,000 of deferred debt issuance costs at March 31, 2024 and December 31, 2023, respectively.

(6) Outstanding borrowings are collateralized by a student housing construction project. Value of collateral and number of positions as collateral related to Oceanview Life and Annuity Company also applies to Florida Pace Funding Agency.

(7) Includes $1.0 million and $1.3 million of deferred debt issuance costs at March 31, 2024 and December 31, 2023, respectively.

(8) Includes $415,000 and $419,000 of deferred debt issuance costs at March 31, 2024 and December 31, 2023, respectively.

We were in compliance with all covenants in the respective agreements at March 31, 2024 and December 31, 2023.

Senior Secured Financing Facility

In July 2020, an indirect, wholly-owned subsidiary of ours (“Holdings”), along with its direct wholly-owned subsidiary (the “Borrower”), entered into a $250.0 million loan and servicing agreement (the “MassMutual Loan Agreement”) with Massachusetts Mutual Life Insurance Company (“MassMutual”) and the other lenders party thereto (the “Lenders”) to form an asset-based revolving loan facility ("MassMutual Facility") to finance our core CRE lending business. The MassMutual Facility initially had an interest rate of 5.75% per annum payable monthly and initially matured on July 31, 2027.

In December 2022, Holdings, the Borrower and the Lenders entered into an Amended and Restated Loan and Servicing Agreement, which amends and restates the MassMutual Loan Agreement, and reflects a senior secured term loan facility, not to exceed $500.0 million, composed of individual loan series issued upon mutual agreement of the Borrower and Lenders. Each loan series will be available for three months after the closing date agreed upon by the Borrower and Lender (“Commitment Period”), subject to the maximum dollar amount agreed upon for that series. The Commitment Period is subject to immediate termination upon the occurrence of an event of default. Each loan series will have a final maturity of five years from the issuance date for the loan series unless an additional time is mutually agreed upon by the Lenders and Borrower. The advance rate on portfolio assets will be mutually agreed upon by the Lenders and Borrower. Each loan series will have its own mutually agreed upon interest rate equal to one-month Term SOFR plus the applicable spread.

CRE - Term Warehouse Financing Facilities

In October 2018, an indirect, wholly-owned subsidiary of ours entered into a master repurchase agreement (the “JPMorgan Chase Facility”) with JP Morgan Chase to finance the origination of CRE loans. As amended, the JPMorgan Chase Facility has a maximum facility amount of $250.0 million, charges interest of one-month benchmark plus market spreads and has a maturity date of July 2026.

In November 2021, an indirect, wholly-owned subsidiary of ours entered into a master repurchase and securities contract agreement (the “Morgan Stanley Facility”) with Morgan Stanley Mortgage Capital Holdings LLC (“Morgan Stanley”) to finance the origination of CRE loans. As amended, the Morgan Stanley Facility has a maximum facility amount of $250.0 million, charges interest of one-month Term SOFR plus market spreads and matures in November 2024. We also have the right to request a one-year extension.

Mortgages Payable

In April 2022, Chapel Drive West, LLC, a wholly owned subsidiary of Charles Street – ACRES FSU Student Venture, LLC entered into a Loan Agreement (the “Mortgage”) with Readycap Commercial, LLC (“Readycap”) to finance the acquisition of a student housing complex. The Mortgage is interest only and has a maximum principal balance of $20.4 million, of which, $18.7 million was advanced in the initial funding. The Mortgage charges interest of one-month Term SOFR plus a spread of 3.80% and matures in April 2025, subject to two one-year extension options.

The Mortgage contains events of default, subject to certain materiality thresholds and grace periods, customary for this type of financing arrangement. The remedies for such events of default are also customary for this type of transaction.

In January 2023, Chapel Drive East, LLC, a wholly owned subsidiary of the FSU Student Venture, entered into a loan agreement (the "Construction Loan Agreement") with Oceanview Life and Annuity Company ("Oceanview") to finance the construction of a student housing complex (the "Construction Loan"). The Construction Loan is interest only and has a maximum principal balance of $48.0 million. The Construction Loan charges one-month Term SOFR plus a spread of 6.00% and matures in February 2025, subject to three one-year extension options.

In addition to the Construction Loan, Chapel Drive East, LLC entered into a financing agreement with Florida Pace Funding Agency to fund energy efficient building improvements and has a maximum principal balance of $15.5 million. This agreement charges fixed interest of 7.26% and matures in July 2053. Until July 2024, accrued interest will be added to the principal balance. We do not guarantee this financing agreement.

In connection with our investment in the student housing complex, ACRES RF entered into guarantees related to the Construction Loan. Pursuant to the guarantees, Jason Pollack, Frank Dellaglio and ACRES RF (collectively, the "Guarantors"), for the benefit of Oceanview, provided limited "bad boy" guaranties to Oceanview pursuant to the Construction Loan Agreement until the earlier of the payment in full of the indebtedness or the date of a sale of the property pursuant to a foreclosure of the mortgage or deed or other transfer in lieu of foreclosure is accepted by Oceanview. The Guarantors also entered into a Completion Guaranty Agreement for the benefit of Oceanview to guaranty the timely completion of the project in accordance with the Construction Loan Agreement, as well as a Carry Guaranty Agreement, for the benefit of Oceanview to guaranty and unconditional payment by Chapel Drive East, LLC of all customary or necessary costs and expenses incurred in connection with the operation, maintenance and management of the property and an Environmental Indemnity Agreement jointly and severally in favor of Oceanview whereby the Guarantors provided environmental representations and warranties, covenants and indemnifications (collectively the "Guaranties"). The Guaranties include certain financial covenants required of ACRES RF, including required net worth and liquidity requirements.

Securitizations

At March 31, 2024, we retained equity in two CRE loan securitizations that we executed, as follows:

ACR 2021-FL1

In May 2021, we closed ACR 2021-FL1, an $802.6 million CRE debt securitization transaction that provided financing for CRE loans. ACR 2021-FL1 included a reinvestment period, which ended in May 2023, that allowed it to acquire CRE loans for reinvestment into the securitization using uninvested principal proceeds. ACR 2021-FL1 issued a total of $675.2 million of non-recourse, floating-rate notes to third parties at par. We retained 100% of the Class F and Class G notes in addition to 100% of the outstanding preference shares. The preference shares are subordinated in right of payment to all other securities issued by ACR 2021-FL1. All notes issued mature in June 2036, although we have the right to call the notes beginning on the payment date in May 2023 and thereafter. As of March 31, 2024, we had not exercised this right.

ACR 2021-FL2

In December 2021, we closed ACR 2021-FL2, a CRE debt securitization transaction that can finance up to $700.0 million of CRE loans. ACR 2021-FL2 includes a reinvestment period, which ends in December 2023, that allows it to acquire CRE loans for reinvestment into the securitization using uninvested principal proceeds. ACR 2021-FL2 issued a total of $567.0 million of non-recourse, floating-rate notes to third parties at par. We retained 100% of the Class F and Class G notes in addition to 100% of the outstanding preference shares. The preference shares are subordinated in right of payment to all other securities issued by ACR 2021-FL2. All notes issued mature in January 2037, although we have the right to call the notes beginning on the payment date in December 2023 and thereafter. As of March 31, 2024, we had not exercised this right.

Corporate Debt

5.75% Senior Unsecured Notes Due 2026

On August 16, 2021, we issued $150.0 million of our 5.75% senior unsecured notes due 2026 (the “5.75% Senior Unsecured Notes”) pursuant to our Indenture, dated August 16, 2021 (the “Base Indenture”), between Wells Fargo, now Computershare Trust Company, N.A. (“CTC”), as trustee (the “Trustee”), and us as supplemented by the First Supplemental Indenture, dated August 16, 2021, between Wells Fargo, now CTC, and us (the “Supplemental Indenture” and, together with the Base Indenture, the “Indenture”). Prior to May 15, 2026, we may at our option redeem the 5.75% Senior Unsecured Notes, in whole or in part, at a redemption price equal to the sum of (i) 100% of the principal amount of the notes to be redeemed, plus accrued and unpaid interest to, but not including, the redemption date, and (ii) a make-whole premium.

Unsecured Junior Subordinated Debentures

During 2006, we formed RCT I and RCT II for the sole purpose of issuing and selling capital securities representing preferred beneficial interests. RCT I and RCT II are not consolidated into our consolidated financial statements because we are not deemed to be the primary beneficiary of these entities. In connection with the issuance and sale of the capital securities, we issued junior subordinated debentures to RCT I and RCT II of $25.8 million each, representing our maximum exposure to loss. The debt issuance costs associated with the junior subordinated debentures for RCT I and RCT II were included in borrowings and were amortized into interest expense on the consolidated statements of operations using the effective yield method over a ten year period.

There were no unamortized debt issuance costs associated with the junior subordinated debentures for RCT I and RCT II outstanding at March 31, 2024 and December 31, 2023. The interest rates for RCT I and RCT II, at March 31, 2024, were 9.55% and 9.53%, respectively. The interest rates for RCT I and RCT II, at December 31, 2023, were 9.61% and 9.60%, respectively.

Equity

Total equity at March 31, 2024 was $443.2 million, comprising $224.0 million of preferred equity and $219.2 million of common equity, and gave effect to $4.4 million of net unrealized losses on our terminated cash flow hedges, shown as a component of accumulated other comprehensive loss. Total equity at December 31, 2023 was $446.2 million, comprising $226.5 million of preferred equity and $219.7 million of common equity, and after giving effect to $4.8 million of net unrealized losses on our terminated cash flow hedges, shown as a component of accumulated other comprehensive loss. The decrease in equity during the three months ended March 31, 2024 was primarily attributable to distributions on our preferred stock, repurchases of preferred stock and common stock repurchases. This is partially offset by net income prior to preferred distributions, contributions from non-controlling interests and non-cash amortization of terminated cash flow hedges.

Our preferred equity is composed of the following at March 31, 2024:

• 4.8 million shares of 8.625% fixed to floating rate Series C cumulative redeemable preferred stock with a $25.00 per share liquidation preference ("Series C Preferred Stock"). The Series C Preferred Stock has no maturity date and we are not required to redeem it at any time. However, we may redeem it at our election, in whole or in apart, on or after July 30, 2024. Effective July 30, 2024, the Series C Preferred Stock will convert from its fixed rate of 8.625% to a floating rate equal to three-month Term SOFR plus a spread of 5.927%, but at no time shall the floating rate be less than 8.625%. Dividends are payable quarterly in arrears.
• 4.5 million shares of fixed 7.875% Series D cumulative redeemable preferred stock with a $25.00 per share liquidation preference (Series D Preferred Stock"). The Series D Preferred Stock has no maturity and we are not required to redeem it at any time. However, we may redeem it at our election, in whole or in apart, on or after May 21, 2026. Dividends are payable quarterly in arrears.

Balance Sheet - Book Value Reconciliation

The following table rolls forward our common stock book value for the three months ended March 31, 2024 (in thousands, except per share data and amounts in footnotes):

(1) Per share calculations exclude unvested restricted stock, as disclosed on our consolidated balance sheets, of 416,675 at March 31, 2024 and December 31, 2023, respectively, and include warrants to purchase up to 391,995 shares of common stock at both March 31, 2024 and December 31, 2023, respectively. The denominators for the calculations were 7,660,620 and 7,853,536 shares at March 31, 2024 and December 31, 2023, respectively.

(2) The per share amounts are calculated with the denominator referenced in footnote (1) at March 31, 2024. We calculated net income per common share-diluted of $0.07 using the weighted average diluted shares outstanding during the three months ended March 31, 2024.

(3) In November 2021, our Board authorized and approved the continued use of our existing share repurchase program to repurchase up to $20.0 million of our outstanding common stock. In November 2023, an additional $10.0 million of outstanding shares of both common and preferred stock was authorized. We purchased 2.2 million common shares for $22.2 million and 100,000 preferred shares for $2.2 million through March 31, 2024. Because we repurchased our common stock at significant discounts to book value, these repurchases were accretive to per share book value since the inception of the program.

(4) We calculated common stock book value as total stockholders’ equity of $432.8 million less preferred stock equity of $224.0 million at March 31, 2024.

Management Agreement Equity

Our monthly base management fee, as defined in our Management Agreement, is equal to 1/12 of the amount of our equity multiplied by 1.50% and is calculated and paid monthly in arrears.

The following table summarizes the calculation of equity, as defined in the Management Agreement (in thousands):

(1) Deducts underwriting discounts and commissions and other expenses and costs relating to such issuances.

(2) Excludes non-cash equity compensation expense incurred to date.

Earnings Available for Distribution

Earnings Available for Distribution (“EAD”) is a non-GAAP financial measure intended to supplement our financial results computed in accordance with accounting principles generally accepted in the United States of America (“GAAP”), and we believe EAD serves as a useful indicator for investors in evaluating our performance and ability to pay dividends.

EAD excludes the effects of certain transactions and adjustments in accordance with GAAP that we believe are not necessarily indicative of our current CRE loan portfolio and other CRE-related investments and operations. EAD excludes income (loss) from all non-core assets such as commercial finance, middle market lending, residential mortgage lending, certain legacy CRE loans and other non-CRE assets designated as assets held for sale at the initial measurement date of December 31, 2016.

EAD, for reporting purposes, is defined as GAAP net income (loss) allocable to common shares, excluding (i) non-cash equity compensation expense, (ii) unrealized gains and losses, (iii) non-cash provisions for credit losses, (iv) non-cash impairments on securities, (v) non-cash amortization of discounts or premiums associated with borrowings, (vi) net income or loss from a limited partnership interest owned at the initial measurement date, (vii) net income or loss from non-core assets, (viii) real estate depreciation and amortization, (ix) foreign currency gains or losses and (x) income or loss from discontinued operations. EAD may also be adjusted periodically to exclude certain one-time events pursuant to changes in GAAP and certain non-cash items.

Although pursuant to the Management Agreement we calculate incentive compensation using EAD that excludes incentive compensation payable to our Manager, we include incentive compensation payable to our Manager in calculating EAD for reporting purposes.

The following table provides a reconciliation from GAAP net income (loss) allocable to common shares to EAD allocable to common shares for the periods presented (in thousands, except per share data):

(1) Non-core assets are investments and securities owned by us at the initial measurement date in (i) commercial finance, (ii) middle market lending, (iii) residential mortgage lending, (iv) legacy CRE loans designated as held for sale and (v) other non-CRE assets included in assets held for sale.

For the three months ended March 31, 2024 and 2023, EAD in accordance with the Management Agreement, which excludes incentive compensation payable, was $1.3 million and $4.6 million, respectively, or $0.16 and $0.53, respectively, per common share outstanding. There was no incentive compensation payable incurred by us for the three months ended March 31, 2024 and $129,000 for the three months ended March 31, 2023.

Incentive Compensation Hurdle

With respect to each fiscal quarter commencing with the quarter ended December 31, 2022, an incentive management fee calculated and payable in arrears in an amount, not less than zero, equal to:

(i) for the first full calendar quarter ended December 31, 2022, the product of (a) 20% and (b) the excess of (i) our EAD (as defined in the Management Agreement) for such calendar quarter, over (ii) the product of (A) our book value equity (as defined in the Management Agreement) as of the end of such calendar quarter, and (B) 7% per annum;

(ii) for each of the second, third and fourth full calendar quarters following the calendar quarter ended December 31, 2022, the excess of (1) the product of (a) 20% and (b) the excess of (i) our EAD (as defined in the Management Agreement) for the calendar quarter(s) following September 30, 2022, over (ii) the product of (A) our book value equity (as defined in the Management Agreement) in the calendar quarter(s) following September 30, 2022, and (B) 7% per annum, over (2) the sum of any incentive compensation paid to our Manager with respect to the prior calendar quarter(s) following September 30, 2022 (other than the most recent calendar quarter); and

(iii) for each calendar quarter thereafter, the excess of (1) the product of (a) 20% and (b) the excess of (i) our EAD (as defined in the Management Agreement) for the previous 12-month period, over (ii) the product of (A) our book value equity (as defined in the Management Agreement) in the previous 12-month period, and (B) 7% per annum, over (2) the sum of any incentive compensation paid to our Manager with respect to the first three calendar quarters of such previous 12-month period; provided, however, that no incentive compensation shall be payable with respect to any calendar quarter unless EAD (as defined in the Management Agreement) for the 12 most recently completed calendar quarters (or such lesser number of completed calendar quarters from September 30, 2022) in the aggregate is greater than zero.

The following table summarizes the calculation of the Incentive Compensation Hurdle for the three months ended March 31, 2024 (dollars in thousands, except per share data):

(Back to Index)

(1) Calculated on a daily weighted average basis for the 12-month period ended March 31, 2024.

(2) Calculated as book value equity at March 31, 2024 multiplied by 1.75% (7% per annum).

The amount by which EAD (as defined in the Management Agreement) exceeds the Incentive Compensation Hurdle is multiplied by 20% to arrive at incentive compensation for the quarter.

Liquidity and Capital Resources

Liquidity is a measurement of our ability to meet potential cash requirements, including ongoing commitments to pay dividends, fund investments, repay borrowings and provide for other general business needs, including payment of our base management fee and incentive compensation. Our ability to meet our on-going liquidity needs is subject to our ability to generate cash from operating activities, which was $3.3 million for the three months ended March 31, 2024, and our ability to maintain and/or obtain additional debt financing and equity capital together with the funds referred to below.

At March 31, 2024, our liquidity consisted of $84.6 million of unrestricted cash and cash equivalents, and $7.5 million of potential proceeds from unlevered financeable CRE loans.

During the three months ended March 31, 2024, our principal sources of liquidity were: (i) proceeds of $19.3 million from advances from our term warehouse financing facilities; (ii) proceeds of $9.1 million from our mortgage payable with Oceanview Life and Annuity Company; and (iii) net proceeds of $4.4 million from repayments on our CRE portfolio.

These sources of liquidity were offset by our paydowns on our term warehouse facilities, deployments in CRE whole loans and real estate investments, repurchases of common and preferred stock, distributions on our preferred stock and ongoing operating expenses and substantially resulted in the $84.6 million of unrestricted cash we held at March 31, 2024.

The outstanding balance of our loan to ACRES Capital Corp., the parent of our Manager, was $10.9 million and $11.0 million at March 31, 2024 and December 31, 2023, respectively. The note bears interest at 3.00% per annum, payable monthly, and matures in July 2026, subject to two one-year extensions, at ACRES Capital Corp.’s option, and amortizes at a rate of $25,000 per month.

Cash Flows

For the three months ended March 31, 2024, our restricted and unrestricted cash and cash equivalents balance decreased $3.3 million, to $88.6 million. The cash movements can be summarized by the following:

Cash flows from operating activities. For the three months ended March 31, 2024, operating activities increased our cash balances by $3.3 million, primarily driven by net income after removing non-cash CECL provision, gain on conversion of real estate, non-cash amortization and depreciation and net changes in other assets and liabilities.

Cash flows from investing activities. For the three months ended March 31, 2024, investing activities increased our cash balances by $54.9 million, primarily driven by repayments of CRE loans, partially offset by funding of existing commitments on CRE whole loans and deployments in our investment in real estate.

Cash flows from financing activities. For the three months ended March 31, 2024, financing activities decreased our cash balances by $61.5 million, primarily driven by repayments on our term warehouse financing facilities and CRE securitization notes and distributions on our preferred stock and repurchases of our common stock and preferred stock, partially offset by proceeds from financing on our investments in real estate and term warehouse financing facilities.

Financing Availability

We utilize a variety of financing arrangements to finance certain assets. We generally utilize the following types of financing arrangements:

1. Senior Secured Financing Facility: Our senior secured financing facility allows us to borrow against loans and real estate investments that we own. This facility has an individual floating rate loan series structure that have a three month commitment period after the financing is approved by the lender, subject to the maximum dollar amount agreed upon for the series. Each floating rate loan series will have mutually agreed upon terms including (i) total commitment, including the capacity to fund future funding commitments, where applicable; (ii) advance rate on portfolio assets; (iii) interest rate composed of one-month Term SOFR plus a market rate spread; and (iv) maturity date of five years from the issuance date for the loan series unless an additional time is mutually agreed upon by the parties. The facility has a maximum portfolio LTV of 85% and contains customary events of default, subject to certain materiality thresholds and grace periods, customary for this type of financing arrangement.

2. Term Warehouse Financing Facilities (CRE loans): Term warehouse financing facilities effectively allow us to borrow against loans that we own. Under these agreements, we transfer loans to a counterparty and agree to purchase the same loans from the counterparty at a price equal to the transfer price plus interest. The counterparty retains the sole discretion over both whether to purchase the loan from us and, subject to certain conditions, the collateral value of such loan for purposes of determining whether we are required to pay margin to the counterparty. Generally, if the lender determines (subject to certain conditions) that the value of the collateral in a repurchase transaction has decreased by more than a defined minimum amount, we would be required to repay any amounts borrowed in excess of the product of (i) the revised collateral or market value multiplied by (ii) the applicable advance rate. During the term of these agreements, we receive the principal and interest on the related loans and pay interest to the counterparty.

3. Securitizations: We seek non-recourse long-term financing from securitizations of our investments in CRE loans. The securitizations generally involve a senior portion of our loan but may involve the entire loan. Securitization generally involves transferring notes to a special purpose vehicle (or the issuing entity), which then issues one or more classes of non-recourse notes pursuant to the terms of an indenture. The notes are secured by the pool of assets. In exchange for the transfer of assets to the issuing entity, we receive cash proceeds from the sale of non-recourse notes. Securitizations of our portfolio investments might magnify our exposure to losses on those portfolio investments because the retained subordinate interest in any particular overall loan would be subordinate to the loan components sold and we would, therefore, absorb all losses sustained with respect to the overall loan before the owners of the senior notes experience any losses with respect to the loan in question.

4. Mortgage payable: We have entered into a loan agreement to finance the acquisition of a student housing complex. This loan is interest only and has a maximum principal balance, most of which was advanced in the initial funding. The loan agreement contains events of default, subject to certain materiality thresholds and grace periods, customary for this type of financing arrangement. The remedies for such events of default are also customary for this type of transaction.

5. Construction loans: We have entered into a loan agreement to finance the construction of a student housing complex. This loan is interest only and has a maximum principal balance of $48.0 million. The loan agreement contains events of default, subject to certain materiality thresholds and grace periods, customary for this type of financing arrangement. The remedies for such events of default are also customary for this type of transaction. Additionally, we have entered into a financing agreement to fund energy efficient building improvements at this student housing complex, with a maximum principal balance of $15.5 million.

We were in compliance with all of our covenants at March 31, 2024 in accordance with the terms provided in agreements with our lenders.

At March 31, 2024, we had financing arrangements as summarized below (in thousands, except amounts in footnotes):

(1) Excludes deferred debt issuance costs of $2.7 million.

(2) Excludes accrued interest payable of $544,000 and deferred debt issuance costs of $1.9 million.

(3) Excludes deferred debt issuance costs of $207,000.

(4) Excludes deferred debt issuance costs of $1.0 million.

(5) Excludes deferred debt issuance costs of $415,000.

The following table summarizes the average principal outstanding during the three months ended March 31, 2024 and December 31, 2023 and the principal outstanding on our financing arrangements at March 31, 2024 and December 31, 2023 (in thousands, except amounts in footnotes):

(1) Principal outstanding excludes accrued interest payable of $310,000 and $311,000 and deferred debt issuance costs of $2.7 million and $2.9 million at March 31, 2024 and December 31, 2023, respectively.

(2) Principal outstanding excludes accrued interest payable of $544,000 and $539,000 and deferred debt issuance costs of $1.9 million and $2.3 million at March 31, 2024 and December 31, 2023, respectively.

The following table summarizes the maximum month-end principal outstanding on our financing arrangements during the periods presented (in thousands):

Historically, we have financed the acquisition of our investments through collateralized debt obligations ("CDO") and securitizations that essentially match the maturity and repricing dates of these financing vehicles with the maturities and repricing dates of our investments. In the past, we have derived substantial operating cash from our equity investments in our CDOs and securitizations, which will cease if the CDOs and securitizations fail to meet certain tests. Through March 31, 2024, we did not experience difficulty in maintaining our existing CDO and securitization financing and passed all of the critical tests required by these financings.

The following table sets forth the distributions received by us and coverage test summaries for our active securitizations for the periods presented (in thousands):

(1) Overcollateralization cushion represents the amount by which the collateral held by the securitization issuer exceeds the minimum amount required.

(2) Interest coverage includes annualized amounts based on the most recent trustee statements.

(3) Interest coverage cushion represents the amount by which annualized interest income expected exceeds the annualized amount payable on our active securitizations.

(4) The reinvestment period is the period in which principal proceeds received may be used to acquire CRE loans or the funded commitments of existing collateral for reinvestment into the securitization.

Our leverage ratio, defined as the ratio of borrowings to total equity, may vary as a result of the various funding strategies we use. At March 31, 2024 and December 31, 2023, our leverage ratio under GAAP was 3.7 and 3.8 times, respectively. The leverage ratio decreased during the period due to the net decrease in borrowings in combination with a net decrease to total equity.

Net Operating Losses and Loss Carryforwards

The following table sets forth the net operating losses and loss carryforwards for the periods presented (in millions):

(Back to Index)

At March 31, 2024, we have $46.6 million of cumulative net operating losses (“NOL”) to carry forward to future years. NOL can generally be carried forward to offset both ordinary taxable income and capital gains in future years. The Tax Cuts and Jobs Act (“TCJA”), along with revisions made by the Coronavirus Aid, Relief, and Economic Security (“CARES”) Act reduced the deduction for NOLs to 80% of taxable income and granted an indefinite carryforward period. Additionally, we have cumulative total net capital losses of $121.9 million, which are set to expire at December 31, 2025.

We also have tax assets in our taxable REIT subsidiaries (“TRS”). These tax assets are analyzed and disclosed quarterly in our financial statements. At March 31, 2024, our TRSs have $60.2 million of NOLs comprising: $39.8 million of pre-TCJA NOLs, some of which are set to expire beginning in 2044 and $20.4 million of NOLs with an indefinite carryforward period. Additionally, our TRSs have cumulative total net capital losses of $1.0 million, which are set to expire at December 31, 2024.

Distributions

We did not pay distributions on our common shares during the three months ended March 31, 2024 as we were focused on prudently retaining and managing sufficient excess liquidity. As a result of losses during 2020, we received significant NOL carryforwards and net capital loss carryforwards, as finalized in our 2020 tax return. We intend to retain taxable income by utilizing our NOL carryforwards and expect to generate capital gains to use a portion of our net capital loss carryforwards, thereby growing book value and our investable equity base. As we continue to take steps necessary to stabilize our earnings available for distribution, our Board expects to establish a plan for the prudent resumption of the payment of common share distributions. No assurance, however, can be given as to the amounts or timing of future distributions as such distributions are subject to our earnings, financial condition, capital requirements and such other factors as our Board deems relevant.

We intend to continue to make regular quarterly distributions to holders of our preferred stock.

U.S. federal income tax law generally requires that a REIT distribute at least 90% of its REIT taxable income annually, determined without regard to the deduction for dividends paid and excluding net capital gains, and that it pay tax at regular corporate rates to the extent that it annually distributes less than 100% of its taxable income. Before we pay any dividend, whether for U.S. federal income tax purposes or otherwise, we must first meet both our operating and debt service requirements on our repurchase agreements and other debt payable. If our cash available for distribution is less than our taxable income, we could be required to sell assets or borrow funds to make cash distributions, or we may make a portion of the required distribution in the form of a taxable stock distribution or distribution of debt securities.

Contractual Obligations and Commitments

(dollars in thousands, except amounts in footnotes)

(1) Excludes $310,000 of accrued interest payable.

(2) Includes $544,000 of accrued interest payable.

(3) Excludes $146,000 of accrued interest payable.

(4) Excludes $21.6 million of interest expense payable through maturity in August 2026.

(5) Excludes $26.2 million and $27.3 million of estimated interest expense payable through maturity, in June 2036 and October 2036, respectively.

(6) Lease liabilities includes a ground rent lease for a hotel property with a term of 92 years and an annual growth rate of 3%.

(7) Unfunded commitments on our originated CRE loans generally fall into two categories: (i) pre-approved capital improvement projects and (ii) new or additional construction costs subject, in each case, to the borrower meeting specified criteria. Upon completion of the improvements or construction, we would receive additional interest income on the advanced amount. At March 31, 2024, we had unfunded commitments on 48 CRE whole loans.

(8) Base management fees presented are based on an estimate of base management fees payable to our Manager over the next 12 months. Our Management Agreement also provides for an incentive compensation arrangement that is based on operating performance. The incentive compensation is not a fixed and determinable amount, and therefore it is not included in this table.

Off-Balance Sheet Arrangements

General

At March 31, 2024, we did not maintain any relationships with unconsolidated entities or financial partnerships that were established for the purpose of facilitating off-balance sheet arrangements or contractually narrow or limited purposes, although we do have interests in unconsolidated entities not established for those purposes. Except as set forth below, at March 31, 2024, we had not guaranteed obligations of any unconsolidated entities or entered into any commitment or letter of intent to provide additional funding to any such entities.

Unfunded Commitments

In the ordinary course of business, we make commitments to borrowers whose loans are in our CRE loan portfolio to provide additional loan funding in the future. Disbursement of funds pursuant to these commitments is subject to the borrower meeting pre-specified criteria. These commitments are subject to the same underwriting requirements and ongoing portfolio maintenance as are the on-balance sheet financial investments that we hold. Since these commitments may expire without being drawn upon, the total commitment amount does not necessarily represent future cash requirements. Whole loans had $97.4 million and $109.4 million in unfunded loan commitments at March 31, 2024 and December 31, 2023, respectively. Unfunded commitments are not considered in the CECL reserve if they are unconditionally cancellable.

Guarantees and Indemnifications

In the ordinary course of business, we may provide guarantees and indemnifications that contingently obligate us to make payments to the guaranteed or indemnified party based on changes in the value of an asset, liability or equity security of the guaranteed or indemnified party. As such, we may be obligated to make payments to a guaranteed party based on another entity’s failure to perform or achieve specified performance criteria, or we may have an indirect guarantee of the indebtedness of others.

In January 2023, Chapel Drive East, LLC, a wholly owned subsidiary of the FSU Student Venture, entered into a loan agreement (the "Construction Loan Agreement") with Oceanview Life and Annuity Company ("Oceanview") to finance the construction of a student housing complex (the "Construction Loan").

In connection with our investment in the student housing complex, ACRES RF entered into guarantees related to the Construction Loan. Pursuant to the guarantees, Jason Pollack, Frank Dellaglio and ACRES RF (collectively, the "Guarantors"), for the benefit of Oceanview, provided limited "bad boy" guaranties to Oceanview pursuant to the Construction Loan Agreement until the earlier of the payment in full of the indebtedness or the date of a sale of the property pursuant to a foreclosure of the mortgage or deed or other transfer in lieu of foreclosure is accepted by Oceanview. The Guarantors also entered into a Completion Guaranty Agreement for the benefit of Oceanview to guaranty the timely completion of the project in accordance with the Construction Loan Agreement, as well as a Carry Guaranty Agreement, for the benefit of Oceanview to guaranty and unconditional payment by Chapel Drive East, LLC of all customary or necessary costs and expenses incurred in connection with the operation, maintenance and management of the property and an Environmental Indemnity Agreement jointly and severally in favor of Oceanview whereby the Guarantors provided environmental representations and warranties, covenants and indemnifications (collectively the "Guaranties"). The Guaranties include certain financial covenants required of ACRES RF, including required net worth and liquidity requirements.

At March 31, 2024, the primary components of our market risk were credit risk, counterparty risk, financing risk, and interest rate risk, as described below. While we do not seek to avoid risk completely, we do seek to assume risk that can be quantified from historical experience, to actively manage that risk, to earn sufficient compensation to justify assuming that risk and to maintain capital levels consistent with the risk we undertake or to which we are exposed. Additionally, refer to Item 1A, "Risk Factors" included in our Annual Report on Form 10-K for the year ended December 31, 2023 for additional information on risks we face.

Credit Risks

Our loans and investments are subject to credit risk. The performance and value of our loans and investments depend upon the sponsors’ ability to operate the properties that serve as our collateral so that they produce cash flows adequate to pay interest and principal due to us. To monitor this risk, ACRES Capital, LLC’s asset management team reviews our investment portfolios and in certain instances is in regular contact with our borrowers, monitoring performance of the collateral and enforcing our rights as necessary.

In addition, we are exposed to the risks generally associated with the commercial real estate (“CRE”) market, including variances in occupancy rates, capitalization rates, absorption rates, and other macroeconomic factors beyond our control. We seek to manage these risks through our underwriting and asset management processes.

In a business environment where benchmark interest rates are increasing significantly, cash flows of the CRE assets underlying our loans may not be sufficient to pay debt service on our loans, which could result in non-performance or default. We partially mitigate this risk by generally requiring our borrowers to purchase interest rate cap agreements with non-affiliated, well-capitalized third parties and by selectively requiring our borrowers to have and maintain debt service reserves. These interest rate caps generally mature prior to the maturity date of the loan and the borrowers are required to pay to extend them. In most cases the sponsors will need to fund additional equity into the properties to cover these costs as the property may not generate sufficient cash flow to pay these costs. At March 31, 2024, 77.0% of the par value of our CRE loan portfolio had interest rate caps in place with a weighted-average maturity of six months.

Macroeconomic conditions may persist into the future and impair our borrowers’ ability to comply with the terms under our loan agreements. We maintain a robust asset management relationship with our borrowers and have utilized these relationships to address rising interest rates, lingering impacts of the COVID-19 pandemic, and other macroeconomic factors on our loans secured by properties experiencing cash flow pressure. While we believe the principal amounts of our loans are generally adequately protected by underlying collateral value, there is a risk that we will not realize the entire principal value of certain investments. In order to mitigate that risk, we have proactively engaged with our borrowers, particularly with those with near-term maturities, in order to maximize recovery.

Counterparty Risk

The nature of our business requires us to hold our cash and cash equivalents and obtain financing with various financial institutions. This exposes us to the risk that these financial institutions may not fulfill their obligations to us under these various contractual arrangements. We mitigate this exposure by depositing our cash and cash equivalents and entering into financing agreements with high credit-quality institutions.

Financing Risk

We finance our target assets using our CRE debt securitizations, a senior secured financing facility, warehouse financing facilities and mortgage payables. Over time, as market conditions change, we may use other forms of leverage in addition to these methods of financing. Weakness or volatility in the financial markets, the CRE and mortgage markets or the economy generally could adversely affect one or more of our lenders or potential lenders and could cause one or more of our lenders or potential lenders to be unwilling or unable to provide us with financing, or to decrease the amount of our available financing, or to increase the costs of that financing.

Interest Rate Risk

Our business model is such that rising interest rates will increase our net income, while declining interest rates will decrease net income, subject to the impact of interest rate floors. At March 31, 2024, 99.7% of our CRE loan portfolio by par value earned a floating rate of interest and may be financed with liabilities that both pay interest at floating rates and that are fixed. Floating-rate loans financed with fixed rate liabilities have a negative correlation with declining interest rates to the extent of our financing. The remaining 0.3% of our CRE loan portfolio by par value has a contractual fixed rate of interest. To the extent that interest rate floors on our floating-rate CRE loans are in the money, our net interest will have a negative correlation with rising interest rates to the extent of those interest rate floors. Our floating-rate loan portfolio of $1.8 billion had a weighted-average benchmark floor of 0.74% at March 31, 2024.

The following table estimates the hypothetical impact on our net interest income assuming an immediate increase or decrease of 100 basis points in the applicable interest rate benchmark (in thousands, except per share data):

(1) Includes our floating-rate CRE loans at March 31, 2024.

(2) Includes amounts outstanding on our securitizations, CRE term warehouse financing facilities, senior secured financing facility and unsecured junior subordinated debentures.

(3) Certain of our floating rate loans are subject to a benchmark floor.

(4) Decrease in rates assumes the applicable benchmark rate does not fall below 0%.

Risk Management

To the extent consistent with maintaining our status as a REIT, we seek to manage our interest rate risk exposure to protect our variable rate debt against the effects of major interest rate changes. We generally seek to manage our interest rate risk by monitoring and adjusting, if necessary, the reset index and interest rate related to our borrowings.

Disclosure Controls and Procedures

We maintain disclosure controls and procedures that are designed to ensure that information required to be disclosed in our Securities Exchange Act of 1934 reports is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission’s rules and forms, and that such information is accumulated and communicated to our management, including our Chief Executive Officer and our Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure. In designing and evaluating the disclosure controls and procedures, our management recognized that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives, and our management necessarily was required to apply its judgment in evaluating the cost-benefit relationship of possible controls and procedures.

Under the supervision of our Chief Executive Officer and Chief Financial Officer, we have carried out an evaluation of the effectiveness of our disclosure controls and procedures as of the end of the period covered by this report. Based upon that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures are effective at the reasonable assurance level.

Changes in Internal Control over Financial Reporting

There were no changes in our internal control over financial reporting during the quarter ended March 31, 2024 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

As of the date of this report, there have been no material changes to the risk factors disclosed under Part I, Item 1A, “Risk Factors” in our Annual Report on Form 10-K for the year ended December 31, 2023 filed with the Securities and Exchange Commission (“SEC”), except we may disclose changes to such factors or disclose additional factors from time to time in our future filings with the SEC.