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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

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For the quarterly report year ended September 30, 2020

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For the transition period from __________________ to __________________

Commission File Number 001-11981

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☑   No ☐

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files) Yes ☑   No ☐

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.

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If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  Yes ☐ No ☑

There were 5,706,366 shares of common shares outstanding at November 2, 2020.

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MMA Capital Holdings, Inc.

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Cautionary Statement Regarding Forward-Looking Statements

This Quarterly Report on Form 10-Q for the period ended September 30, 2020 (this “Report”) should be read in conjunction with our Annual Report on Form 10-K for the year ended December 31, 2019 (“2019 Annual Report”), filed with the United States (“U.S.”) Securities and Exchange Commission (“SEC”), to which reference is hereby made. This Report contains forward-looking statements intended to qualify for the safe harbor contained in Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”). Forward-looking statements often include words such as “anticipate,” “believe,” “continue,” “could,” “estimate,” “expect,” “focus” “intend,” “may,” “plan,” “potential,” “project,” “see,” “seek,” “should,” “will,” “would,” and similar words or expressions and are made in connection with discussions of future events and future operating or financial performance.

Forward-looking statements reflect our management’s expectations at the date of this Report regarding future conditions, events or results. They are not guarantees of future performance. By their nature, forward-looking statements are subject to risks and uncertainties including the uncertain aspect of the novel strain of coronavirus pandemic, known as COVID-19. Our actual results and financial condition may differ materially from what is anticipated in the forward-looking statements. There are many factors that could cause actual conditions, events or results to differ from those anticipated by the forward-looking statements contained in this Report. For a discussion of certain risks and uncertainties and the factors that could cause our actual results to differ materially because of those risks and uncertainties, see Part II, Item 1A. “Risk Factors” of this Report and Part I, Item 1A. “Risk Factors” of our 2019 Annual Report.

Readers are cautioned not to place undue reliance on forward-looking statements in this Report or that we may make from time to time, and to consider carefully the factors discussed in Part II, Item 1A. “Risk Factors” of this Report and Part I, Item 1A. “Risk Factors” of our 2019 Annual Report in evaluating these forward-looking statements. We do not undertake to update any forward-looking statements contained herein, except as required by law.

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Business Operations

We are managed by our External Manager. We also rely upon other third-party vendors to conduct business operations, including vendors that provide information technology services, legal and accounting services or other support services.

As of September 30, 2020, there were no disruptions to the services provided by the External Manager and support provided by other third parties in connection with our business operations.

Renewable Energy Investments

As of September 30, 2020, the construction and development of renewable energy projects that have been financed through loans made by the Solar Ventures (as defined below) were not significantly impacted by the COVID-19 pandemic as the development and construction of such projects qualified as critical infrastructure or essential services. Furthermore, projects that were financed by loans made by the Solar Ventures did not experience any significant supply chain issues or construction delays during the third quarter of 2020.

All loans made by the Solar Ventures, which were valued at 100% of UPB at September 30, 2020, were assessed to be adequately secured and were expected at September 30, 2020 to be repaid in full. In most cases, the repayment of the Solar Venture loans, or their “take-out,” is dependent upon the refinancing of a given loan or the sale of an underlying renewable energy project to third-parties, both of which typically require some combination of tax credit equity, sponsor equity and construction or permanent debt financing. The Solar Ventures may themselves participate in the take-out of such loans by providing financing, including long-term mezzanine financing or other credit enhancements. Given the macro-economic conditions, uncertainty in the financial markets and our dependence on a functioning renewable energy finance market, we will continue to closely monitor loan performance and expected sources of repayment.

Origination activity at the Solar Ventures during the first nine months of 2020 has not been meaningfully impacted by COVID-19.

Other Investments and Hedging Instruments

The Company’s 80% ownership interest in a joint venture, which owns a mixed-use town center development that consists of hotel tenants, retail tenants and undeveloped land parcels and whose incremental tax revenues secure our tax-exempt municipal bond (“Infrastructure Bond”) (hereinafter, the “SF Venture”), was determined to be other-than-temporarily impaired during the preparation of our second quarter financial statements as of June 30, 2020, given the impacts of the downturn in the economy stemming from COVID-19. Consequently, the Company recognized a related $9.0 million impairment loss in its Consolidated Statements of Operations in the second quarter of 2020. There were no additional impairment charges recognized during the third quarter of 2020.

We are monitoring the economic impact of the COVID-19 pandemic on the performance of our investments and underlying real estate values. Although we have not recognized impairment charges other than that for the SF Venture discussed above, we believe it is reasonably possible that we may be required to recognize one or more material impairment charges over the next 12 months, particularly if underlying economic conditions deteriorate further. Because any such impairment charge will be based on future circumstances, we cannot predict at this time whether we will be required to recognize any further impairment charges and, if required, the timing or amount of any impairment charge.

Hedging instruments used by the Company to manage interest rate and foreign currency risks have performed in accordance with the contractual terms.

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DTAs

While COVID-19 caused a sharp deterioration in macro-economic conditions, the potential amount and permanence of long-term impacts of those conditions on the Company’s business was uncertain at September 30, 2020. Consequently, the Company did not make an adjustment in the third quarter of 2020 to the carrying value of DTAs that were recognized at December 31, 2019. However, given such uncertainty and other factors, we believe it is reasonably possible that, within the next 12 months, a reduction to the net carrying value of DTAs that is material to the Company’s financial statements could be recognized. However, whether we recognize such a loss and the exact timing and amount of loss recognition depends upon future circumstances and, therefore, cannot be predicted at this time.

Liquidity and Capital Resources

During the first nine months of 2020, COVID-19 has not prevented us from operating our business and making investments.

Through September 30, 2020, the Company was in compliance with all its debt covenants.  

Renewable Energy Investments

We invest in loans that finance renewable energy projects to enable developers, design and build contractors and system owners to develop, build and operate renewable energy systems throughout the U.S. Renewable energy debt in which we invest is primarily structured as senior secured fixed rate loans that are made through joint ventures or directly on our balance sheet. These loans, which are generally short-term in nature, are typically made to borrowers when they are in the late stages of development or in construction of their commercial, utility and community solar scale photovoltaic (“PV”) facilities that are located across different states and benefit from various state and federal regulatory programs. The short duration of loans in which we typically invest also helps us to efficiently manage interest rate risk, mitigate long-term risks such as credit exposure to off-take counterparties and provide us flexibility to target investments although there may be opportunities in the future to originate longer-dated investments that would provide greater insight into our future earnings.

We generally invest in renewable energy investments through the following joint ventures: Solar Construction Lending, LLC (“SCL”); Solar Permanent Lending, LLC (“SPL”); Solar Development Lending, LLC (“SDL”); these joint ventures together with our wholly owned subsidiary, Renewable Energy Lending, LLC (“REL”), are hereinafter referred to as the “Solar Ventures.” We are a 50% investor member in the renewable energy joint ventures in which we invest though we may periodically have a minority economic interest as a result of non-pro rata capital contributions made by our capital partner pursuant to non-pro rata funding agreements between our capital partner and us. Such non-pro rata funding agreements are generally executed in instances when the Company does not have sufficient liquidity at the time of a capital call. Distributions from such ventures are generally made in proportion to the members’ respective economic interests but may be made disproportionately to our capital partner, when our capital partner has made non-pro rata capital contributions, until such time that the amount of equity invested by the Company and its capital partner have come back into equal balance. At September 30, 2020, we had a minority economic interest in two of the Solar Ventures.

Lending Activities of the Solar Ventures

The Solar Ventures typically lend on a senior secured basis collateralized by solar projects, but may also invest in subordinated loans, mezzanine loans and revolving loans and may finance non-solar renewable technologies such as wind and battery storage, or provide equipment financing and other customized debt solutions for borrowers. The Solar Ventures have historically targeted loans that are underwritten to generate internal rates of return (“IRR”) ranging from 10% to 15%, before expenses, with origination fees that range from 1.0% to 3.0% on committed capital and fixed-rate coupons that range from 7.0% to 14.0%. These loans typically range in size from $2 million to over $50 million.

Since their inception in 2015, the Solar Ventures have invested in more than 195 project-based loans that total $2.9 billion of debt commitments for the development and construction of over 760 renewable energy project sites. When completed, these projects are expected to contribute to the generation of over 9.3 gigawatts of renewable energy, thereby eliminating approximately 267.6 million metric tons of carbon emissions over their project lives.

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The Solar Ventures closed $92.3 million of commitments across five loans during the third quarter of 2020 as compared to $247.5 million across 12 loans during the second quarter of 2020. Additionally, origination volume during the first nine months of 2020 declined to $626.9 million as compared to loan originations made during the first nine months of 2019 of $789.0 million. Declines in origination volumes during these periods were primarily driven by the amount of available capital and a desire to not overextend the Company’s liquidity given our share of unfunded loan commitments of the Solar Ventures and other business needs.

Through September 30, 2020, $1.8 billion of commitments across 143 project-based loans had been repaid with no loss of principal, resulting in a weighted-average IRR (“WAIRR”) of 16.2% that was on average higher than originally underwritten loan IRRs. For the three months ended September 30, 2020, 11 loans totaling $221.1 million of commitments had been repaid, resulting in a WAIRR of 12.4%. WAIRR is measured as the total return in dollars of all repaid loans divided by the total commitment amount associated with such loans, where (i) the total return for each repaid loan was calculated as the product of each loan’s IRR and its commitment amount and (ii) IRR for each repaid loan was established by solving for a discount rate that made the net present value of all loan cash flows equal zero. WAIRR has been higher than the net return on the Company's investments in the Solar Ventures because it is a measure of gross returns earned by the Solar Ventures on repaid loans and does not include the impact of certain items, including: (i) operating expenses of the Solar Ventures; (ii) the amortization of the purchase premium paid by the Company in the second quarter of 2018 to buyout our former investment partner’s interest in REL; and (iii) the opportunity cost of idle capital. 

At September 30, 2020, loans funded through the Solar Ventures had an aggregate unpaid principal balance (“UPB”) and total fair value (“FV”) of $745.8 million, a weighted-average remaining maturity of seven months and a weighted-average coupon of 10.0%. At December 31, 2019, loans funded through the Solar Ventures had an aggregate UPB and total fair value of $654.4 million, a weighted-average maturity of 10 months and a weighted-average coupon of 10.8%.

It should be noted that certain components of the national and some local renewable energy finance markets, such as the Electric Reliability Council of Texas, or “ERCOT”, have been and may further be affected by changing market dynamics, resulting in supply and demand imbalances, particularly for tax equity investments. These market dynamics may materially and negatively impact the Solar Ventures’ loan portfolio in a variety of ways, including, but not limited to, the availability and pricing of tax equity and the deterioration of underlying project value if the price of electricity falls due to competition or waning demand and a project has merchant exposure. The Solar Ventures’ concentration in some of the affected markets could further impact when and how capital invested in late-stage development and construction loans is repaid and re-invested. At September 30, 2020, 54% of the total UPB of outstanding loans of the Solar Ventures was associated with a single sponsor and financed projects located in the ERCOT. Additionally, at September 30, 2020, all but two of the underlying renewable energy projects that the Solar Ventures have lent against, both of which are in ERCOT and whose related financing had an aggregate UPB of $365.9 million, had usual and customary take-out commitments in place as generally required under the loan agreements, and negotiations were actively proceeding to obtain such commitments for the remaining two projects. At September 30, 2020, all Solar Venture loans, including those renewable energy projects in ERCOT, were valued at 100% of UPB, were assessed to be adequately secured and were expected to be repaid in full.

Table 1 provides financial information about the composition of the Solar Ventures’ loan portfolio at September 30, 2020 and December 31, 2019.

Table 1: Composition of the Solar Venture’s Loan Portfolio

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The Solar Ventures had $306.2 million of unfunded loan commitments that required borrowers to meet various conditions set forth in governing loan agreements in order for funding to occur. At September 30, 2020, $147.8 million of such commitments were attributable to the Company based upon its interest in these ventures. Unfunded loan commitments that qualify for funding are anticipated to be funded primarily by capital within the Solar Ventures through a combination of existing loan redemptions and idle capital. Idle capital may arise due to the difficulty of aligning loan repayments with funding obligations on a dollar-for-dollar basis. To the extent capital within the Solar Ventures is not sufficient to meet their funding obligations, additional capital contributions by the members of the Solar Ventures would be required.

Investment Interests and Related Carrying Values

At September 30, 2020, through MMA Energy Holdings, LLC, the Company was a 50% investor member but held economic interests of 43.4%, 50.0% and 42.9% in SCL, SPL and SDL, respectively, and was the sole member in REL. The carrying value and income-related information related to investments that we have made in, or related to, the Solar Ventures are further discussed below. During the third quarter of 2020, the Company and its capital partner in SCL and SDL funded various non-pro rata capital calls pursuant to which our capital partner contributed the full $56.0 million in SCL capital calls and $24.0 million of $39.0 million in SDL capital calls, while the Company contributed the $15.0 million balance, with respect to SDL. In addition, in accordance with a non-pro rata funding agreement between the Company and our capital partner, our capital partner in SCL received distributions of $65.0 million, while the Company received distributions of $15.0 million. As a consequence of these non-pro rata capital contributions and distributions during the third quarter of 2020, our economic interest in SCL and SDL decreased in percentage terms from 44.2% and 43.6% in SCL and SDL, respectively, at June 30, 2020.

Subsequent to September 30, 2020, the Company and its capital partner in SCL and SDL funded various non-pro rata capital calls pursuant to which our capital partner contributed $82.0 million of $97.0 million in SCL and SDL capital calls, while the Company contributed the balance of these capital calls, or $15.0 million, which represented the full $15.0 million of distributions received from the ventures subsequent to the third quarter. As a consequence of these non-pro rata capital contribution and distributions, our economic interest in SCL and SDL decreased to 39.2% and 39.6%, respectively.

In addition to investments in the Solar Ventures, in the fourth quarter of 2019, the Company invested in a loan originated by our External Manager with a $2.1 million commitment made to a special purpose entity that is secured by land, which is subject to a 25-year ground lease to a community solar project, and by the equity interests in the borrower. The UPB and fair value of this loan, which bears interest at a fixed rate of 8.0% and matures in December 2022, was $1.3 million at September 30, 2020.

Table 2 provides financial information about the carrying value of the Company’s renewable energy investments at September 30, 2020 and December 31, 2019.

Table 2:  Carrying Values of the Company’s Renewable Energy Investments

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The carrying value of the Company’s equity investments in the Solar Ventures increased $73.3 million during the nine months ended September 30, 2020 as a result of $45.8 million of net capital contributions made and $27.5 million of equity in income in the Solar Ventures that was recognized during the nine months ended September 30, 2020.

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Investment Income and Return on Investment

The Company applies the equity method of accounting to its equity investments in the Solar Ventures, which are not consolidated by the Company for reporting purposes. Accordingly, the Company recognizes its allocable share of the Solar Ventures’ net income based on the Company’s weighted-average percentage ownership during each reporting period. Separately, the Company recognizes interest income associated with the aforementioned loan using the interest method.

Table 3 summarizes income recognized by the Company in connection with our renewable energy investments for the periods presented.

Table 3:  Income Recognized from Renewable Energy Investments

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The Company generated an unlevered net return on investment from our renewable energy investments, as measured on a twelve-month trailing basis, of 11.1% and 12.2% for the periods ended September 30, 2020 and September 30, 2019, respectively. These returns were measured on a trailing four quarter basis at each reporting period by dividing total income from renewable energy investments by the average carrying value of renewable energy investments.

Refer to the comparative discussion of our Consolidated Results of Operations for more information about income that was recognized in connection with the Company’s renewable energy investments.

Leveraging our Renewable Energy Investments

On September 19, 2019, MMA Energy Holdings, LLC (“MEH” or “Borrower”), a wholly owned subsidiary of the Company, entered into a $125.0 million (the “Facility Amount”) revolving credit agreement with various lenders. During the first quarter of 2020, the maximum Facility Amount was increased to $175.0 million and the committed amount of the revolving credit facility increased from $100.0 million to $120.0 million upon the joinder of an additional lender and an increase in commitment by one of the existing lenders.

Obligations associated with the revolving credit facility are guaranteed by the Company and are secured by specified assets of the Borrower and a pledge of all of the Company’s equity interest in the Borrower through pledge and security documentation. Availability and amounts advanced under the revolving credit facility, which may be used for various business purposes, are subject to compliance with a borrowing base comprised of assets that comply with certain eligibility criteria, and includes late-stage development, construction and permanent loans to finance renewable energy projects and cash.

Borrowing on the revolving credit facility bears interest at the one-month London Interbank Offered Rate (“LIBOR”), adjusted for statutory reserve requirements (subject to a 1.5% floor), plus a fixed spread of 2.75% per annum. The Borrower has also agreed to pay certain customary fees and expenses and to provide certain indemnities. In certain circumstances where the interest rate is unable to be determined, including in the event LIBOR ceases to be published, the administrative agent to the credit agreement will select a new rate in its reasonable judgment, including any adjustment to the replacement rate to reflect a different credit spread. The maturity date of the credit agreement is September 19, 2022, subject to a 12-month extension solely to allow refinancing or orderly repayment of the facility.  

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At September 30, 2020, the UPB and carrying value of amounts borrowed under the revolving credit facility was $103.7 million and the Company recognized $4.3 million of related interest expense in the Consolidated Statements of Operations during the nine months ended September 30, 2020.

The liquidity accessed by the Company through the revolving credit facility has increased the amount of capital invested in the Solar Ventures.

Deferred Tax Assets

Deferred taxes arise from differences between assets and liabilities measured for financial reporting versus income tax return purposes. DTAs are recognized if we assess that it is more likely than not that tax benefits, including NOLs and other tax attributes, will be realized prior to their expiration.

At September 30, 2020, the reported carrying value of the Company’s net DTA was $56.2 million. A valuation allowance was also maintained at such reporting date against the portion of our DTAs that correspond to federal and state NOL carryforwards that we expected will expire prior to utilization based upon our forecast of pretax book income.

Investments in Bonds

The Company has one tax-exempt municipal bond that financed the development of infrastructure for a mixed-use town center development in Spanish Fort, Alabama and is secured by incremental tax revenues generated from the development. At September 30, 2020, the Infrastructure Bond had a stated fixed interest rate of 6.3% and had a UPB and fair value of $26.7 million and $24.1 million, respectively. During the second quarter of 2020, a financing transaction was executed that involved the sale of this bond investment to a third party with which the Company contemporaneously-executed a total return swap (“TRS”) agreement that also referenced such bond investment. Given the economic interest retained in such bond investment through the TRS agreement, the Company reported the conveyance of such investment as a secured borrowing and, therefore, continued to recognize the Infrastructure Bond on the Company’s Consolidated Balance Sheets.        

At September 30, 2020, we also held one subordinated unencumbered tax-exempt multifamily bond investment with a UPB and fair value of $4.0 million and $6.2 million, respectively.

Real Estate-Related Investments

At September 30, 2020, we maintained an interest in a real estate-related investment through our 80% ownership interest in the SF Venture. The carrying value of this investment was $9.7 million at September 30, 2020.

At September 30, 2020, the Company maintained an 11.85% ownership interest in the South Africa Workforce Housing Fund (“SAWHF”). SAWHF is a multi-investor fund that matured in April 2020. However, the fund does not anticipate fully exiting all its remaining investments until December 31, 2022. On May 22, 2020, the Company received a pro-rata distribution from SAWHF of 7.2 million common shares of a residential real estate investment trust (“REIT”) that is listed on the Main Board of the Johannesburg Stock Exchange. These REIT shares, which trade under the trading symbol “TPF,” are reported at their fair value and are denominated in South African rand. The carrying values of the Company’s equity investments in SAWHF and the REIT were $1.6 million and $2.6 million, respectively, at September 30, 2020.

At September 30, 2020, we also owned one direct investment in real estate consisting of a parcel of land that is currently in the process of development. This real estate is located just outside the city of Winchester in Frederick County, Virginia. During the first nine months of 2020, the Company invested $7.0 million in additional land improvements that were capitalized, increasing the carrying value of our investment. As of September 30, 2020, the carrying value of this investment was $15.4 million.

Other Debt Obligations

At September 30, 2020, the Company had other debt obligations that included subordinated debt, notes payable and other debt used to finance certain non-interest bearing investments and asset related debt that was used to finance interest bearing

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investments. During the second quarter of 2020, the Company closed a $10.0 million lending arrangement that is secured by our direct investment in real estate that is in process of development and a $23.5 million financing arrangement associated with its Infrastructure Bond investment. The carrying value and weighted-average yield of the Company’s other debt obligations was $134.7 million and 2.6%, respectively, at September 30, 2020. Refer to Table 9, “Debt,” for more information.

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SUMMARY OF FINANCIAL PERFORMANCE

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Net Worth

Common shareholders’ equity (“Book Value”) increased $3.1 million in the third quarter of 2020 to $277.6 million at September 30, 2020. This change was driven by $3.0 million of comprehensive income and $0.1 million of other increases in common shareholders’ equity.

Book Value per share increased $0.50, or 1.1%, in the third quarter of 2020 to $47.74 at September 30, 2020.

Book Value adjusted to exclude the carrying value of our net DTAs (“Adjusted Book Value”) increased $4.3 million in the third quarter of 2020 to $221.5 million at September 30, 2020. This change was driven by $4.0 million of “Net income from continuing operations before income taxes” and $0.3 million of other increases in Book Value.

Adjusted Book Value per share increased $0.71, or 1.9%, in the third quarter of 2020 to $38.08 at September 30, 2020.

Refer to “Use of Non-GAAP Measures” for more information regarding the reconciliation of Adjusted Book Value and Adjusted Book Value per share to our most comparable GAAP measures.

Comprehensive Income

We recognized comprehensive income of $3.0 million during the third quarter of 2020, which consisted of $2.9 million of net income and $0.1 million of other comprehensive income. In comparison, we recognized $4.9 million of comprehensive income in the quarter ended September 30, 2019, which consisted of $5.6 million of net income and $0.7 million of other comprehensive loss.

The $2.9 million of net income recognized in the third quarter of 2020 was primarily driven by the impact of strong returns on renewable energy investments. Refer to “Consolidated Results of Operations,” for more information.

Net income from continuing operations before income taxes in the third quarter of 2020 was $4.0 million, or $0.70 per share, as compared to $5.6 million of net income in the third quarter of 2019.

Other comprehensive gain of $0.1 million that we reported in the third quarter of 2020 was primarily attributable to net fair value gains that we recognized in connection with our bond investments.

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CONSOLIDATED BALANCE SHEET ANALYSIS

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This section provides an overview of changes in our assets, liabilities and equity and should be read together with our consolidated financial statements, including the accompanying notes to the financial statements.

Table 4 provides Consolidated Balance Sheets for the periods presented.

Table 4: Consolidated Balance Sheets

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Cash and cash equivalents increased primarily due to proceeds received in connection with financing transactions that closed in the second quarter of 2020 involving the Company’s Infrastructure Bond investment and our direct investment in real estate.  

Restricted cash increased primarily as a result of cash collateral to our counterparty in connection with the aforementioned financing transaction involving the Company’s Infrastructure Bond investment.

Investments in debt securities decreased primarily due to the recognition of net fair value losses in the first nine months of 2020 that were attributable to increases in the market yields of such investments.

Investments in partnerships increased primarily as a result of net capital contributions of $45.8 million that we made to the Solar Ventures and the recognition of $27.5 million of equity in income of our investees. The impact of these items was partially offset by the effects of both a $9.0 million impairment charge recognized in the second quarter of 2020 related to our equity investment in the SF Venture and a $2.9 million distribution from SAWHF of 7.2 million common shares of a listed residential REIT.

Deferred tax assets, net decreased $1.6 million primarily due to the tax impact associated with the recognition of taxable income in the third quarter of 2020 and the establishment of a valuation allowance against deferred tax benefits stemming from the $9.0 million impairment charge associated with the Company’s equity investment in the SF Venture during the second quarter of 2020.

Loans held for investment decreased primarily as a result of the repayment of the Company’s $53.6 million loan receivable from Hunt (the “Hunt Note”) on January 3, 2020.

Other Assets increased primarily as a result of $7.0 million of land improvement costs that were capitalized in connection with a real estate investment that is in process of development and the aforementioned distribution from SAWHF of REIT common shares.

Debt increased primarily as a result of proceeds received in the second quarter of 2020 related to the aforementioned financing transactions involving the Company’s Infrastructure Bond investment and direct investment in real estate that is in process of development. Furthermore, outstanding debt increased due to additional amounts drawn on our revolving credit facility during the first nine months of 2020.  

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CONSOLIDATED RESULTS OF OPERATIONS

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This section provides a comparative discussion of our Consolidated Results of Operations and should be read in conjunction with our consolidated financial statements, including the accompanying notes. See “Critical Accounting Policies and Estimates,” for more information concerning the most significant accounting policies and estimates applied in determining our results of operations.

Net Interest Income

Net interest income represents interest income earned on our investments in bonds, loans and other interest-earning assets less our cost of funding associated with the debt that we use to finance these assets.

Net interest income for the three months and nine months ended September 30, 2020, declined compared to that reported for the three months and nine months ended September 30, 2019, primarily due to the full repayment of the Hunt Note. Furthermore, net interest income for the nine months ended September 30, 2020, declined compared to that reported for the nine months ended September 30, 2019, due to the disposition and redemption of various bond-related investments throughout 2019.

Equity in Income from Unconsolidated Funds and Ventures

Equity in income from unconsolidated funds and ventures includes our allocable share of the earnings or losses from the funds and ventures in which we have an equity interest.

Table 6 summarizes equity in income from unconsolidated funds and ventures for the periods presented.

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Table 6: Equity in Income from Unconsolidated Funds and Ventures

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Equity in income from the Solar Ventures for the three months and nine months ended September 30, 2020, increased compared to that reported for the three months and nine months ended September 30, 2019, primarily as a result of a significant period-over-period increase in the amount of capital invested.

Equity in income from U.S. real estate partnerships for the three months and nine months ended September 30, 2020, decreased compared to that reported for the three months and nine months ended September 30, 2019, primarily as a result of an increase in net losses attributable to the Company from the SF Venture stemming in large part from both a decline in the net assets of the venture and an increase in undeveloped land license fees associated with the effects of COVID-19. A reduction in 2020 of nonrecurring gains associated with the sale of investment properties by real estate partnerships in which the Company maintained an ownership interest also contributed to this decline. We anticipate that we will continue to recognize equity in losses from the SF Venture for the foreseeable future.

Net (Losses) Gains

Net (losses) gains may include net realized and unrealized gains or losses relating to bonds, loans, derivatives, other assets, real estate and other investments as well as gains or losses realized by the Company in connection with the extinguishment of debt obligations.

The Company recognized net losses for the three months and nine months ended September 30, 2020, compared to net gains reported for the three months and nine months ended September 30, 2019, primarily due to nonrecurring gains of $2.2 million and $26.4 million that were recognized in the third quarter of 2019 and the first nine months of 2019, respectively, in connection with the sale or redemption of bond investments. The impact of these items was partially offset by decreases in net fair value losses of $0.5 million and $1.5 million for the three and nine months ended September 30, 2020, respectively, related to derivative instruments that stemmed from changes in reference interest and foreign exchange rates.

Other Interest Expense

Other interest expense for the three months and nine months ended September 30, 2020, increased compared to that reported for the three months and nine months ended September 30, 2019, primarily due to advances on the Company’s revolving credit facility. The increase in interest expense was partially offset by a reduction in interest expense associated with the subordinated debt that was attributable to a decrease in three-month LIBOR.

Impairment Losses

Impairment losses for the nine months ended September 30, 2020, were attributable to the Company’s equity investment in the SF Venture, which was determined to be other-than-temporarily impaired at June 30, 2020.

Operating Expenses

Operating expenses include management fees and reimbursable expenses payable to our External Manager, general and administrative expense, professional fees and other miscellaneous expenses.

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Table 7 summarizes operating expenses for the periods presented.

Table 7: Operating Expenses

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Operating expenses for the three months ended September 30, 2020, decreased compared to those reported for the three months ended September 30, 2019, primarily due to foreign currency gains that were recognized in the third quarter of 2020 in connection with the remeasurement of foreign currency-denominated assets into U.S. dollars for reporting purposes as the South African rand strengthened against the U.S. dollar during the third quarter of 2020. This decrease was partially offset by (i) an increase in the amount of compensation-related expense reimbursements that were payable to the External Manager and (ii) an increase in director fees that stemmed from the addition of new directors in 2020.

Operating expenses for the nine months ended September 30, 2020, increased compared to that reported for the nine months ended September 30, 2019, primarily due to: (i) an increase in the amount of compensation-related expense reimbursements that were payable to the External Manager as the reimbursement cap increased by $1.0 million for 2020; (ii) a $0.6 million increase in foreign currency losses recognized for nine months of 2020 in connection with the remeasurement of foreign currency-denominated assets into U.S. dollars for reporting purposes as the South African rand weakened against the U.S. dollar during such reporting period; and (iii) an increase in director fees that stemmed from the addition of new directors in 2020.

Income Tax Expense

Income tax expense recognized during the three months ended September 30, 2020, increased compared to that reported for the three months ended September 30, 2019, primarily due the recognition of net income in the third quarter of 2020, which resulted in the accrual of deferred income tax expense, while in 2019 the Company maintained a full valuation allowance against our DTAs.

In addition to the above, income tax expense recognized during the nine months ended September 30, 2020, increased compared to that reported for the nine months ended September 30, 2019, primarily due to the recognition in the second quarter of 2020 of deferred income tax expense to establish a valuation allowance against deferred tax benefits stemming from the $9.0 million impairment loss associated with the Company’s equity investment in the SF Venture. The corresponding DTA was assessed to not be realizable because the decline in fair value of our equity investment was determined to be other-than-temporary.

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LIQUIDITY AND CAPITAL RESOURCES

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Liquidity

Liquidity is a measure of our ability to meet potential short-term (within one year) and long-term cash requirements, including ongoing commitments to repay borrowings, fund and maintain our current and future assets and other general business needs. Our sources of liquidity include: (i) cash and cash equivalents; (ii) cash flows from operating activities; (iii) cash flows from investing activities; and (iv) cash flows from financing activities.

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Investing Activities

Net cash flows associated with investing activities include, but are not limited to, principal payments; capital contributions and distributions; advance of loans held for investment; and sales proceeds from the sale of bonds, loans and real estate and other investments.

Net cash flows used in investing activities during the nine months ended September 30, 2020 decreased $38.3 million compared to such net cash flows during the nine months ended September 30, 2019. This net decrease was primarily driven by (i) the full repayment of the $53.6 million Hunt Note during the first quarter of 2020, which was a $26.2 million increase in net principal payments received in 2020 as compared to the amount of bond-related sales proceeds received on bonds and loans held for investment in 2019 and (ii) a $10.6 million decrease in cash used for advances on and originations of loans held for investment in 2020 as compared to 2019.

Financing Activities

Net cash flows provided by financing activities during the nine months ended September 30, 2020 decreased $0.6 million compared to such net cash flows during the nine months ended September 30, 2019. This decrease was primarily attributable to a $35.8 million decline in net advances from the revolving credit facility. This decrease was largely offset by (i) $32.9 million of proceeds associated with second quarter 2020 financing transactions associated with the Company’s Infrastructure Bond investment and direct investment in real estate that is in process of being developed and (ii) a $1.5 million decline in debt issuance costs incurred in 2020 as compared to 2019.

Capital Resources

Our debt obligations include liabilities that we recognized in connection with our subordinated debt, revolving credit facility debt and other notes payable. The major types of debt obligations of the Company are further discussed below. We use the revolving credit facility to finance our investments in the Solar Ventures. See Notes to Consolidated Financial Statements – Note 6, “Debt,” for more information.

Table 9 summarizes the carrying values and weighted-average effective interest rates of the Company’s debt obligations that were outstanding at September 30, 2020 and December 31, 2019.

Table 9: Debt

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Subordinated Debt

At September 30, 2020 and December 31, 2019, the Company had subordinated debt obligations that had a total UPB of $86.7 million and $88.0 million, respectively. This debt included four tranches that amortize 2.0% per annum over their contractual lives, are due to mature with balloon payments between March 2035 and July 2035 and require the Company to pay interest based upon three-month LIBOR plus a fixed spread of 2.0%. At September 30, 2020 the weighted average interest pay rate on the outstanding debt was 2.3%.

Revolving Credit Facility Debt Obligations

At September 30, 2020 and December 31, 2019, MEH, a wholly owned subsidiary of the Company, had borrowed $103.7 million and $94.5 million, respectively, from the revolving credit facility. This debt obligation, which is guaranteed by the Company and secured by (i) specific assets of the Borrower and (ii) a pledge of all of the Company’s equity interest in the Borrower, which in turn owns our equity investments in the Solar Ventures, matures on September 19, 2022, and is subject to a 12-month extension solely to allow refinancing or orderly repayment of the debt obligation. This debt obligation bears interest equal to one-month LIBOR (subject to a 1.5% floor) plus a fixed spread of 2.75%, which, at September 30, 2020 was 4.25%.

Notes Payable and Other Debt

At September 30, 2020 and December 31, 2019, the Company had notes payable and other debt with a UPB of $17.7 million and $8.4 million, respectively.

At September 30, 2020 and December 31, 2019, $3.9 million and $6.8 million, respectively, of this debt relates to financing that was obtained to complete the purchase of the Company’s 11.85% ownership interest in SAWHF. This debt, which is denominated in South African rand and had an original contractual maturity of September 8, 2020, requires the Company to pay interest based upon the Johannesburg Interbank Agreed Rate (“JIBAR”) plus a fixed spread of 5.15%. At September 30, 2020, the interest rate on this debt was 8.6%. Subsequent to September 30, 2020, the Company and its counterparty agreed to an extension of this debt financing.

At September 30, 2020 and December 31, 2019, $4.4 million and $1.5 million, respectively, of the notes payable and other debt relates to debt obligations to the Morrison Grove Management, LLC principals (“MGM Principals”). This debt bears interest at 5.0%. The $2.9 million debt obligation amortizes over its contractual life and is due to mature on January 1, 2026. The $1.5 million debt obligation is interest only until March 31, 2026 and then amortizes in three equal installments until its maturity date of January 1, 2027.

On June 1, 2020, the Company entered into a $10.0 million construction loan that is secured by our direct investment in real estate that is in the process of development. The initial advance from this debt was $9.3 million and $0.5 million of capacity has been reserved for interest payments. The total amount advanced by the lender will not exceed 65% of the value of the pledged real estate plus 75% of the total development allowable hard costs incurred by the borrower. The loan is prepayable at any time without penalty, with all net proceeds realized from the sale of any portion of the real property required to be used to repay the outstanding UPB of the loan. Construction draws may not exceed a total principal sum of $11.1 million over the life of the facility, with the maximum outstanding UPB at any point in time not to exceed $10.0 million. The contractual maturity date of this facility is June 1, 2023, although the facility is subject to three extension options (at the discretion of the borrower and lender): (i) the first extension term would expire on November 1, 2023; (ii) the second extension term would expire on May 1, 2024 and (iii) the final amortized term would expire three years after the initial term, first extension term and second extension term, as applicable. Amounts drawn from this debt facility are repayable on an interest only basis at a rate of 4.85% with all outstanding principal due at maturity during the initial term, first extension term and second extension term. However, during the final extension term the debt bears interest at a rate of three-month LIBOR plus 3.0% per annum, subject to a 5.0% floor with principal amortization required monthly over the three year extension term. Obligations associated with this debt are guaranteed by the Company. At September 30, 2020, this debt obligation had a UPB of $9.4 million.

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Asset Related Debt

Asset related debt is debt that finances interest-bearing assets of the Company. The interest expense associated with this debt is included within “Net interest income” on the Company’s Consolidated Statements of Operations.

Bond Related Debt

On June 5, 2020, the Company entered into a TRS agreement involving our Infrastructure Bond, which was sold concurrently to our TRS counterparty. Proceeds received in connection with the conveyance of such bond investment were reported as a secured borrowing. The TRS did not receive financial statement recognition because it caused the transfer of such bond investment not to qualify as a sale for reporting purposes. The TRS agreement has a maturity date of June 6, 2022, and requires the Company to pay interest based upon the Securities Industry and Financial Markets Association index rate, subject to a 0.5% floor, plus a spread of 2.0%, which at September 30, 2020, was 2.5%. These payment terms are used to accrue interest related to the secured borrowing that was recognized upon conveyance of the Company’s bond investment. Additionally, as required under the terms of the TRS agreement, the Company pledged cash collateral of $10.0 million representing 37.5% of the referenced bond’s UPB. At September 30, 2020, this debt obligation had a UPB of $23.5 million. Additionally, under the terms of the TRS, the Company’s TRS counterparty is entitled to share in 10% of the increase in fair value, if any, of the Infrastructure Bond between the trade and termination dates of the TRS agreement. For reporting purposes, this provision is treated as a freestanding derivative instrument that is reported on a fair value basis.

Non-bond Related Debt

At December 31, 2019, the Company had a debt obligation to MGM Principals with a UPB of $3.5 million. Upon the full redemption of the Hunt Note on January 3, 2020, this asset related debt obligation to the MGM Principals was reclassified to notes payable and other debt.

Covenant Compliance

At September 30, 2020 and December 31, 2019, the Company was in compliance with all covenants under its debt arrangements.

Off-Balance Sheet Arrangements

At September 30, 2020 and December 31, 2019, the Company had no off-balance sheet arrangements.

Other Contractual Commitments

The Company is committed to make additional capital contributions to certain of its investments in partnerships and ventures. Refer to Notes to Consolidated Financial Statements - Note 3, “Investments in Partnerships,” for more information.

At September 30, 2020 and December 31, 2019, the Company, through its wholly owned subsidiary REL had unfunded loan commitments of $0.8 million and $1.6 million, respectively. Refer to Notes to Consolidated Financial Statements - Note 4, “Loans Held for Investment (“HFI”)” for more information.

The Company uses derivative instruments to hedge interest rate and foreign currency risks. Depending upon movements in reference interest and foreign exchange rates, the Company may be required to make payments to the counterparties to these agreements. Refer to Notes to Consolidated Financial Statements – Note 7, “Derivative Instruments,” for more information about these instruments.

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Other Capital Resources

Dividend and Share Buyback Policy

The Board makes the final determination regarding dividends and share buyback plans based on our External Manager’s recommendation, which is based on an evaluation of a number of factors, including our financial condition, business prospects, the predictability of recurring cash flows from operations, available cash and other factors the Board may deem relevant. The Board does not believe paying a dividend or repurchasing shares are appropriate at the current time.

Tax Benefits Rights Agreement

Effective May 5, 2015, the Company adopted a Tax Benefits Rights Agreement (the “Rights Plan”) designed to help preserve the Company’s NOLs. In connection with adopting the Rights Plan, the Company declared a distribution of one right per common share to shareholders of record as of May 15, 2015. The rights do not trade apart from the current common shares until the distribution date, as defined in the Rights Plan. Under the Rights Plan, the acquisition by an investor (or group of related investors) of greater than a 4.9% stake in the Company, could result in all existing shareholders other than the new 4.9% holder having the right to acquire new shares for a nominal cost, thereby significantly diluting the ownership interest of the acquiring person. On March 11, 2020, the Board approved an extension of the original five-year term of the Rights Plan until May 5, 2023, or until the Board determines that the plan is no longer needed, whichever comes first. Subsequently, shareholders ratified the Board’s decision to extend the Rights Plan at the Company’s 2020 annual meeting of shareholders.

On January 3, 2018, the Board approved a waiver of the 4.9% ownership limitation with respect to Hunt, increasing the limitation to 9.9% of the Company’s issued and outstanding shares in any rolling 12-month period without causing a triggering event.

At September 30, 2020, the Company had two shareholders who held greater than a 4.9% interest in the Company, one of which was its former Chief Executive Officer and current member of the Board, Michael L. Falcone. On March 11, 2020, the Board named Mr. Falcone an exempted person in accordance with the Rights Plan for open-market share purchases of up to an additional 7,500 common shares, to be completed by December 31, 2020, with the Board reserving all its rights under the Rights Plan for any subsequent purchase. Upon Mr. Falcone’s resignation as Chief Executive Officer on August 12, 2020, he became eligible for Board compensation. Pursuant to the policy of our Governance Committee, each Board member receives one-half of his or her Board compensation in common shares. On November 5, 2020, the Board adopted an Amended and Restated 2012 Non-Employee Directors’ Compensation Plan to coordinate elements of the Rights Plan and share compensation for directors, in addition the Board named Mr. Falcone an exempted person in accordance with the Rights Plan for purposes of his share-based Board compensation.

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CRITICAL ACCOUNTING POLICIES AND ESTIMATES

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The preparation of our consolidated financial statements is based on the application of GAAP, which requires us to make certain estimates and assumptions that affect the reported amounts and classification of the amounts in our consolidated financial statements. These estimates and assumptions require us to make difficult, complex and subjective judgments involving matters that are inherently uncertain. We base our accounting estimates and assumptions on historical experience and on judgments that we believe to be reasonable under the circumstances known to us at the time. Actual results could differ materially from these estimates. We applied our critical accounting policies and estimation methods consistently in all material respects and for all periods presented and have discussed those policies with our Audit Committee.

We evaluate our critical accounting estimates and judgments required by our policies on an ongoing basis and update them as necessary based on changing conditions. Management has discussed any significant changes in judgments and assumptions in applying our critical accounting policies with the Audit Committee of our Board. See Part I, Item 1A. “Risk Factors” in our 2019 Annual Report for a discussion of the risks associated with the need for management to make judgments and estimates in applying our accounting policies and methods. We have identified three of our accounting policies as critical because they involve significant judgments and assumptions about highly complex and inherently uncertain matters, and the use of reasonably different estimates and assumptions could have a material impact on our reported results of operations or financial condition. These policies govern:

See “Management’s Discussion and Analysis of Financial Condition and Results of Operations-Critical Accounting Policies and Estimates” in our 2019 Annual Report for a discussion of these critical accounting policies and estimates.

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ACCOUNTING AND REPORTING DEVELOPMENTS

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We identify and discuss the expected impact on our consolidated financial statements of recently issued accounting guidance in Notes to Consolidated Financial Statements – Note 1, “Summary of Significant Accounting Policies.”

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