EDGAR 10-K Filing

Company CIK: 1614806
Filing Year: 2021
Filename: 1614806_10-K_2021_0001628280-21-003949.json

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ITEM 1. BUSINESS
Item 1. Business
Overview
Great Ajax Corp. is a Maryland corporation that is organized and operated in a manner intended to allow us to qualify as a REIT. We primarily target acquisitions of RPLs, which are residential mortgage loans on which at least five of the seven most recent payments have been made, or the most recent payment has been made and accepted pursuant to an agreement, or the full dollar amount, to cover at least five payments has been paid in the last seven months. We also acquire and originate SBC loans. The SBC loans that we target through acquisitions generally have a principal balance of up to $5.0 million and are secured by multi-family residential and commercial mixed use retail/residential properties on which at least five of the seven most recent payments have been made, or the most recent payment has been made and accepted pursuant to an agreement, or the full dollar amount, to cover at least five payments has been paid in the last seven months. We also originate SBC loans that we believe will provide an appropriate risk-adjusted total return. Additionally, we invest in single-family and smaller commercial properties directly either through a foreclosure event of a loan in its mortgage portfolio or through a direct acquisition. We may also target investments in NPLs either directly or with joint venture partners. NPLs are loans on which the most recent three payments have not been made. We may acquire NPLs either directly or with joint venture partners. We own a 19.8% equity interest in our Manager and an 8.0% equity interest in the parent company of our Servicer. GA-TRS is a wholly owned subsidiary of the Operating Partnership that owns the equity interest in the Manager and the Servicer. We have elected to treat GA-TRS as a TRS under the Internal Revenue Code of 1986, as amended (the “Code”). Our mortgage loans and real properties are serviced by the Servicer, also an affiliated company.
In 2014, we formed Great Ajax Funding LLC, a wholly owned subsidiary of the Operating Partnership, to act as the depositor of mortgage loans into securitization trusts and to hold the subordinated securities issued by such trusts and any additional trusts we may form for additional secured borrowings. AJX Mortgage Trust I and AJX Mortgage Trust II are wholly owned subsidiaries of the Operating Partnership formed to hold mortgage loans used as collateral for financings under our repurchase agreements. On February 1, 2015, we formed GAJX Real Estate Corp., as a wholly owned subsidiary of the Operating Partnership, to own, maintain, improve and sell certain real estate owned properties (“REO”) purchased by us. We have elected to treat GAJX Real Estate Corp. as a TRS under the Code.
Our Operating Partnership, through interests in certain entities as of December 31, 2020 and December 31, 2019, holds 99.9% and 99.8%, respectively, of Great Ajax II REIT Inc. which holds an interest in Great Ajax II Depositor LLC which was formed to act as the depositor of mortgage loans into securitization trusts and to hold the subordinated securities issued by such trusts and any additional trusts we may form for additional secured borrowings. We have securitized mortgage loans through a securitization trust and retained subordinated securities from the secured borrowings. Each such trust is considered to be a variable interest entity (“VIE”), and we have determined that we are the primary beneficiary of each such VIE and it is consolidated in the financial statements of Great Ajax Corp.
In 2018, we formed Gaea Real Estate Corp. (“Gaea”), as a wholly owned subsidiary of the Operating Partnership. We elected to treat Gaea as a TRS under the Code in 2018, and we elected to treat Gaea as a REIT under the Code in 2019 and thereafter. Also during 2018, we formed Gaea Real Estate Operating Partnership LP, a wholly owned subsidiary of Gaea, to hold investments in commercial real estate assets. We also formed BFLD Holdings LLC, Gaea Commercial Properties LLC, Gaea Commercial Finance LLC and Gaea RE LLC as subsidiaries of Gaea Real Estate Operating Partnership. In 2019, we formed DG Brooklyn Holdings, LLC, also a subsidiary of Gaea Real Estate Operating Partnership LP, to hold investments in multi-family properties. On November 22, 2019 Gaea completed a private capital raise in which it raised $66.3 million from the issuance of 4,419,641 shares of its common stock to third parties to allow Gaea to continue to advance its investment strategy. We retained a 23.2% ownership interest in Gaea following the transaction. At December 31, 2020 we own approximately 23.0% of Gaea, and Gaea is no longer consolidated in our financial statements.
We elected to be taxed as a REIT for U.S. federal income tax purposes beginning with our taxable year ended December 31, 2014. Our qualification as a REIT depends upon our ability to meet, on a continuing basis, various complex requirements under the Code relating to, among other things, the sources of our gross income, the composition and values of our assets, our distribution levels and the diversity of ownership of our capital stock. We believe that we are organized in conformity with the requirements for qualification as a REIT under the Code, and that our current intended manner of operation enables us to meet the requirements for taxation as a REIT for U.S. federal income tax purposes.
Strategy
We are continuing the opportunistic strategy developed by our Manager’s management team in a REIT structure that we believe provides us access to capital and allows us to compete for more significant investment opportunities in the evolving mortgage markets. This strategy enables us to generate attractive current yields and risk-adjusted total returns for our stockholders. We intend to continue to distribute substantially all of our REIT taxable income to our stockholders in accordance with applicable REIT qualification requirements. Our strategy consists of:
•constructing and owning a portfolio of residential RPLs and SBC loans at discounts to the unpaid principal balance (“UPB”) and significant discounts to underlying property values;
•expanding our acquisitions of RPLs, SBC loans, and limited acquisitions of NPLs through joint ventures;
•constructing concentrations of investments in geographic areas, cities and neighborhoods with certain demographic and economic trends and attributes;
•working, through our Servicer, to (1) support the continued performance of RPLs; (2) convert a portion of our NPLs to performing status; (3) determine the optimal loss mitigation strategy on an asset-by-asset basis; and (4) manage the process and timelines for converting NPLs to sale or rental REO;
•when economically efficient, securitizing our RPL portfolio to create long-term, fixed rate, non-recourse financing, while retaining one or more tranches of any subordinated securities we may create;
•opportunistically mitigating our interest rate and prepayment risk, including, potentially, through the use of a variety of hedging instruments; and
•working through joint ventures with third party investors to acquire pools of mortgage loans and other mortgage related assets, which may create value additive opportunities for us, our Manager (an affiliated entity), and our Servicer (an affiliated entity). Depending upon the needs, liquidity and risk profiles of our third party investors, the criteria for asset acquisitions by our joint ventures may differ somewhat from the criteria we would use for asset acquisitions intended exclusively for our own portfolio.
We believe that purchasing RPLs at a discount to UPB and a significant discount to underlying property values, as well as working, through our Servicer, to support continuing or new payments by borrowers, allows us to achieve our targeted returns. However, if actual results differ from our assumptions, particularly if the value of the underlying properties were to decrease significantly, we may not achieve our targeted returns.
We price each loan pool we acquire on a loan-by-loan basis and focus on acquiring loans with the underlying property located in or in close proximity to urban centers where we believe that home price appreciation (“HPA”) will outpace the national market. We use proprietary models to predict probabilistic future cash flows for each loan and generate cash flow projections. Factors affecting our cash flow projections include resolution method, resolution timeline, foreclosure costs, rehabilitation costs and eviction costs. Some of the variables used are the specific location of the underlying property, loan-to-value ratio, property age and condition, change and rate of change of borrower credit rating, servicing notes, interest rate, monthly payment amount and neighborhood rents. For loan pool acquisitions, we target a 5-10% return on RPLs, including SBC loans, and a 7-15% return on NPLs, without taking into account or giving effect to any borrowings, which we refer to as an unlevered return. We analyze each RPL for re-default probability, loan-to-value ratio, interest rate and structure of the loan and the likely resolution method in the event the loan stops performing. Each RPL is analyzed through both a performing and non-performing path.
While we expect to purchase loans and real properties nationwide, we target urban centers (including densely populated suburbs) because we believe that an increasing number of families and young professionals prefer to live in areas that are in close proximity to employment centers, public transportation and retail and other amenities that are typically more common in such areas, creating liquidity and predictability, which we believe, provides greater potential for HPA. By focusing on urban centers and targeted densely populated suburbs we are able to more efficiently manage our portfolio and scale our Servicer's high-touch loan servicing platform. Our Manager has compiled data that suggests that HPA can vary significantly from neighborhood to neighborhood even within the same city. Our Manager’s proprietary analytics include inputs for economic and demographic data that includes unemployment rates, housing starts, crime rates, education, electoral participation and other variables that we believe closely correlate to property values. These analytics help us determine cities, neighborhoods and properties that we believe will experience HPA.
We seek to build concentrations of loans and real properties in certain markets. These markets include, but are not limited to, Phoenix, Arizona; Los Angeles and San Diego, California; Miami, Ft. Lauderdale, West Palm Beach, Orlando and Tampa, Florida; Atlanta, Georgia; New York and New Jersey metropolitan area; Houston and Dallas, Texas; Portland, Oregon; and Maryland and Virginia near Washington, DC. In addition to its experienced servicing staff, our Servicer has contracted with local experts in areas where it services a significant number of loans that provide local area market intelligence, monitor properties and can manage rehabilitation projects for REO or repairs for rental properties. We believe having affiliated local experts and a centralized management team provides us a competitive advantage and leads to more informed decision-making and better execution.
The following provides further detail as to our RPL and SBC loan acquisition strategy:
•We believe that buying RPLs is more efficient and lower risk than acquiring single-family REO. We purchase RPLs at a discount from UPB and a significant discount to underlying property value, but the borrower is required to pay interest on the full UPB, leading to a higher current yield. The borrower is also responsible for property taxes, insurance and maintenance, which are all costs that the owner of a REO would otherwise have to pay. In addition, to the extent that the UPB exceeds the home’s or commercial property’s value, the lender will benefit from all price appreciation, net of carrying and liquidation costs, until such time as the price exceeds the UPB plus any arrearages and expenses. While the return to the mortgage loan owner is thus capped, there is also risk mitigation if the REO value decreases, until the value is less than the price the lender paid for the loan.
•The histories of distressed mortgage loans often provide more insight into the likelihood of default than acquiring newly originated mortgage loans, which should allow our Manager to model default risk and price acquisitions more accurately.
•If an RPL becomes an NPL, we, through the Servicer, have a number of ways to mitigate our loss. These loss mitigation techniques include working with the borrower to achieve performance, including through modification of the mortgage loan terms as well as short sale, assisted deed-in-lieu of foreclosure, assisted deed-for-lease, foreclosure and other loss mitigation activities. With each REO acquired, we assess the best potential return, typically either through rental, sale with carryback financing, which we believe will increase the potential pool of purchasers, or sale without our financing the purchase.
•We believe that we are able to purchase mortgage loans at lower prices than single-family REO properties because sellers of such loans are able to avoid paying the costs typically associated with sales of real estate, whether single-
family residences or smaller commercial properties, such as broker commissions and closing costs of up to 10% of gross proceeds of the sale. We believe this motivates sellers to accept lower prices for the RPLs than they would if selling REO directly.
Our comprehensive loan and property history database and data tracking lead to a deep understanding of our markets. This understanding, coupled with our long-term relationships with loan sellers, we believe allows us to purchase loans at a discount to UPB and a significant discount to current property values. Our database contains foreclosure timelines on an individual county basis and in some instances, also on an individual judge basis. In addition to resolution timeline data, we track data by state, Metropolitan Statistical Area (“MSA”) and zip code regarding crime rates, education, electoral participation and other variables that we believe closely correlate with property values.
Our strategy is adaptable to changing market environments, subject to compliance with the income and other tests, which allows us to continue to qualify and maintain our qualification as a REIT for U.S. federal income tax purposes and to maintain our exclusion from regulation as an investment company under the Investment Company Act. As a result, our acquisition and management decisions depend on prevailing market conditions, and our targeted investments may vary over time in response to market conditions. We may change our strategy and policies without a vote of our stockholders. Moreover, although our independent directors will periodically review our investment guidelines and our portfolio, they generally will not review particular proposed asset acquisitions or asset management decisions. See “- Investment Guidelines.”
Our Portfolio
The following table outlines the carrying value of our portfolio of mortgage loan assets and single-family and smaller commercial properties as of December 31, 2020 and 2019 ($ in millions):
As of December 31,
Our portfolio at year-end: 2020 2019
Residential RPLs $ 1,057.5 $ 1,085.5
Residential NPLs 38.7 30.9
SBC loans 23.2 35.1
Property held-for-sale, net 7.8 13.5
Rental property, net 0.7 1.5
Investments in securities at fair value 273.8 231.7
Investment in beneficial interests 91.4 58.0
Total mortgage related assets $ 1,493.1 $ 1,456.2
We closely monitor the status of our mortgage loans and, through our Servicer, work with our borrowers to improve their payment records.
Investment Process
We value our portfolio on a loan-by-loan and property-by-property basis. Purchase prices generally are at a discount to UPB and a significant discount to current property value, based in part on up to two unaffiliated broker price opinions (“BPOs”) for every property. Employees and agents of our Manager periodically view the exteriors of properties prior to completion of due diligence and the information from such visits is incorporated into final loan pricing negotiations with the sellers.
We estimate our resolution timelines using a combination of proprietary data, modeling and historical trends. Our analysis of the resolution or foreclosure timeline for a mortgage loan is based on its history to date with added time cushion. We have developed a robust database of foreclosure timelines on an individual county basis and, in some instances, on an individual judge basis. We also use statistical models to determine the expected modification success probability and the expected short sale success probabilities. We have an extensive due diligence process to validate data consistency, accuracy and compliance and to perform document and third-party lien reviews on all loan files.
The most important factors in analyzing RPLs are the level and duration of continued re-performance, the potential for HPA, prevailing interest rates, the potential for economic growth and the availability of financing for the borrower. The analysis of all mortgage loan and REO acquisitions is also affected by the supply of existing housing and rate of housing starts as higher construction costs, particularly if replacement cost is greater than market price, can slow the rate of starts and new
housing inventory and lead to rising rental rates relative to mortgage payments. We evaluate geographic location priorities based on many different factors and data, including, but not limited to, employment rates and the local mismatch between employment rates and housing supply, demographic shifts, cost of new construction, social services, education, crime and voting participation rates.
The following graphic outlines the process the Manager generally uses for assessing RPL and NPL portfolio purchase opportunities:
Investment Guidelines
All of our investment activities are conducted by our Manager on our behalf pursuant to the Amended and Restated Management Agreement with the Manager, which expires March 5, 2034 (the “Management Agreement”). Our principal objective is to generate attractive risk-adjusted returns for our stockholders over the long-term through dividends and capital appreciation.
Our board of directors (“Board of Directors”) has adopted an investment policy designed to facilitate the management of our capital and assets and the maintenance of an investment portfolio profile that meets our objectives. The investment policy will help the Board of Directors oversee our efforts to achieve a return on assets consistent with our business objectives and to maintain adequate liquidity to meet any financial covenants and regular cash requirements.
Any purchase of RPLs, SBC loans or real property is analyzed by the portfolio acquisition group. Our Manager may, without a vote of our stockholders, consider any investment consistent with our investment policy. We may also acquire single-family homes, smaller multi-family residential properties, smaller mixed use retail/residential/office properties and smaller commercial properties either upon foreclosure or other settlement of our owned NPLs or in the market and opportunistically either sell such property, including offering mortgage loans to the purchasers, or holding it as a rental for the short or long term.
Our Manager is authorized to finance our investment positions through repurchase agreements, secured debt and other financing arrangements, provided such agreements are negotiated with counterparties approved by the investment committee. Our Manager believes it is critical to structure any financing facilities to significantly limit the risk to our business from falling collateral values and margin calls. We fund many of our asset acquisitions with non-recourse securitizations in which the underlying collateral is not marked to market and employ repurchase agreements without the obligation to mark to market the underlying collateral to the extent available. We may also hedge our interest rate exposure on our financing activities through
the use of interest rate swaps, forwards, futures and options, subject to prior approval from the investment committee, though no such hedges are currently in use. We also acquire loans and other real estate assets through joint ventures.
Our Board of Directors has adopted the following additional investment guidelines:
•investments and acquisitions that exceed 15% of our equity from time to time must be approved by the Investment Supervisory Committee of our Board of Directors;
•no investment shall be made that would cause us to fail to qualify as a REIT for U.S. federal income tax purposes;
•no investment shall be made that would cause us to be regulated as an investment company under the Investment Company Act;
•our assets will be invested within our target assets, as described above; and
•until appropriate investments can be identified, we may pay off short-term debt or invest the proceeds of any offering in interest-bearing, short-term investments, including funds that are consistent with qualifying and maintaining our qualification as a REIT.
Our investment policy and guidelines may be changed from time to time by our Board of Directors without the approval of our stockholders.
Broad Investment Policy Risks
Our investment policy is very broad and, therefore, our Manager has great latitude in determining the types of assets that are appropriate investments for us, as well as the individual investment decisions. In the future, our Manager may make investments on our behalf with lower rates of return than those anticipated under current market conditions and/or may make investments with greater risks to achieve those anticipated returns. Our Board of Directors periodically reviews our investment policy and guidelines and our investment portfolio but does not review or approve each proposed investment by our Manager unless it falls outside our previously approved investment policy or constitutes a related party transaction. In conducting periodic reviews, our Board of Directors relies primarily on information provided to it by our Manager. Transactions entered into by our Manager may be costly, difficult or impossible to unwind by the time they are reviewed by our Board of Directors.
In addition, we may change our business strategy and investment policy and targeted asset classes at any time without the consent of our stockholders, and this could result in our making investments that are different in type from, and possibly riskier, than our current investments or the investments currently contemplated. Changes in our investment strategy and investment policy and targeted asset classes may increase our exposure to interest rate risk, counterparty risk, default risk and real estate market fluctuations, which could materially and adversely affect us.
Policies with Respect to Certain Transactions
Other than (i) transactions in which our Servicer is the holder of record because we or our subsidiaries may not hold the necessary license to hold those assets directly, but where we are the beneficial owner of at least 95% of the participation rights in those assets, or (ii) as approved by a majority of the independent members of our Board of Directors, we generally will not purchase portfolio assets from, or sell them to, our directors or officers or to our Manager, Aspen or any of their affiliates or engage in any transaction in which they have a direct or indirect pecuniary interest, including in connection with the securitization of any of our mortgage loan assets (other than our agreements with our Manager, the Servicer and Aspen described in more detail herein) without the consent of the Investment Supervisory Committee of the Board of Directors.
Policies with Respect to Certain Other Activities
We intend to raise additional funds through future offerings of equity or debt securities or the retention of cash flow (subject to REIT distribution requirements) or a combination of these methods. In the event that our Board of Directors determines to raise additional equity capital, it has the authority, without stockholder approval, to issue additional common stock or preferred stock in any manner and on such terms and for such consideration as it deems appropriate, at any time, subject to compliance with applicable regulatory requirements.
In addition, we expect to borrow money to finance or refinance the acquisition of RPLs, SBC loans and REO and for general corporate purposes, and we may borrow to finance the payment of dividends. Our investment policy, the assets in our portfolio, the decision to use leverage and the appropriate level of leverage will be based on our Manager’s assessment of a variety of factors, including our historical and projected financial condition, liquidity and results of operations, financing covenants, the cash flow generation capability of assets, the availability of credit on favorable terms, our outlook for borrowing costs relative to the unlevered yields on our assets, our intention to qualify and maintain our qualification as a REIT and
exemption from the Investment Company Act, applicable law, and other factors, as our Board of Directors may deem relevant from time to time. Our decision to use leverage is at our Manager’s discretion and is not subject to the approval of our stockholders. We are not restricted by our governing documents in the amount of leverage that we may use.
We may also invest in the securities of other REITs, other entities engaged in real estate activities or securities of other issuers for the purpose of exercising control over such entities or with the intention of realizing short-term or long-term gains. We do not intend that our investments in securities will require us to register as an investment company under the Investment Company Act, and we would intend to divest such securities before any such registration would be required. We do not intend to underwrite securities of other issuers. We finance our assets with what we believe to be a prudent amount of leverage, which will vary from time to time based upon the particular characteristics of our portfolio, availability of financing and market conditions. We have funded and intend to continue to fund our asset acquisitions with non-recourse securitizations in which the underlying collateral is not marked to market and employ repurchase agreements without the obligation to mark to market the underlying collateral to the extent available. Our repurchase agreements include terms ranging from a maximum borrowing base of 85% of market value to 70% of purchase price, not to exceed 65% of property value. See “Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations - Liquidity and Capital Resources” for a description of our securitizations, our repurchase financing facility and any other outstanding indebtedness.
In a repurchase agreement, we sell an asset to a counterparty at a discounted value, or the loan amount, and simultaneously agree to repurchase the same asset from such counterparty at a price equal to the loan amount plus interests. Despite being legally structured as sales and subsequent repurchases, repurchase agreements are generally accounted for as debt secured by the underlying assets. During the term of a repurchase agreement, we generally receive the income and other payments distributed with respect to the underlying assets, and pay interest to the counterparty. While the proceeds of our repurchase agreement financings are often used to purchase additional assets subject to the same repurchase agreement, our financing arrangements are not expected to restrict our ability to use proceeds from these arrangements to support our other liquidity needs. Our repurchase agreement arrangements are typically documented under the standard form master repurchase agreement of the Securities Industry and Financial Markets Association, with the ability for both parties to request margin. Given daily market volatility, we and our repurchase agreement counterparties are required to post additional margin collateral to each other from time to time as part of the normal course of our business. Our repurchase agreement financing counterparties generally have the right to determine the value of the underlying collateral for purposes of determining the amount of margin, subject to the terms and conditions of our agreement with the counterparty, including, in certain cases, our right to dispute the counterparty’s valuation determination.
We may utilize other types of borrowings in the future, including, but not limited to, debt financing through bank credit facilities, warehouse lines of credit and structured financing arrangements, among others. We may also seek to raise additional capital through public or private offerings of debt or equity securities, depending upon market conditions. However, there can be no assurance as to how much additional financing capacity such efforts will produce, what form the financing will take or that such efforts will be successful. If we are unable to expand our sources of financing, our business, financial condition, liquidity and results of operations may be materially and adversely affected.
Our use of leverage, especially in order to increase the amount of assets supported by our capital base, may have the effect of increasing losses when these assets underperform. Our charter, bylaws and investment policies require no minimum or maximum leverage and our Investment Supervisory Committee has the discretion, subject to the oversight of our Board of Directors, to change both our overall leverage and the leverage used for individual asset classes. Because our strategy is flexible, dynamic and opportunistic, our overall leverage will vary over time and our Board of Directors believes it is appropriate to apply higher leverage to higher quality assets.
We currently do not hedge the risk associated with the mortgage loans and real estate underlying our portfolios. However, we may undertake risk mitigation activities with respect to our debt financing interest rate obligations. We expect that our debt financing may at times be based on a floating rate of interest calculated on a fixed spread over the relevant index, as determined by the particular financing arrangement. A significantly rising interest rate environment could have an adverse effect on the cost of our financing. To mitigate this risk, we may use derivative financial instruments such as interest rate swaps and interest rate options in an effort to reduce the variability of earnings caused by changes in the interest rates we pay on our debt, subject to our maintaining compliance with the terms of the no-action letter so that we are not treated as a commodity pool operator for purposes of the Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Dodd-Frank Act”). See “- Operating and Regulatory Structure - Commodity Pool Operator Exemption.”
These derivative transactions will be entered into solely for risk management purposes, not for investment purposes. When undertaken, these derivative instruments likely will expose us to certain risks such as price and interest rate fluctuations, timing risk, volatility risk, credit risk, counterparty risk and changes in the liquidity of markets. Therefore, although we expect
to transact in these derivative instruments purely for risk management, they may not adequately protect us from fluctuations in our financing interest rate obligations.
The Management Agreement
We have 19.8% ownership in our Manager. Under the Management Agreement, the Manager implements our business strategy and manages our business and investment activities and day-to-day operations, subject to oversight by our Board of Directors. Among other services, the Manager, directly or through affiliates, provides us with a management team and necessary administrative and support personnel. Additionally, we pay directly for services related to internal audit, a function that reports to the Audit Committee of the Board of Directors. We do not currently have any employees paid directly by us and do not expect to have any other employees that are paid directly by us in the foreseeable future. Each of our executive officers is an employee or officer, or both, of the Manager and/or the Servicer.
Under the Management Agreement, we pay both a base management fee and an incentive fee to the Manager.
The base management fee equals 1.5% of our stockholders’ equity per annum, including equity equivalents such as our convertible senior notes, and is calculated and payable quarterly in arrears. We have the option to pay the management fee between 50% to 100% cash at our discretion, and pay the remainder in shares of our common stock. For purposes of calculating the management fee, our stockholders’ equity means: the sum of (i) the net proceeds from any issuances of common stock or other equity securities we or the Operating Partnership have issued (without double counting) since inception (allocated on a pro rata daily basis for such issuances during the fiscal quarter of any such issuance), and (ii) our and our Operating Partnership’s (without double counting) retained earnings calculated in accordance with accounting principles generally accepted in the United States (“U.S. GAAP”) at the end of the most recently completed fiscal quarter (without taking into account any non-cash equity compensation expense incurred in current or prior periods), less (A) any amount that we or our Operating Partnership pays to repurchase shares of common stock or outstanding limited partnership units of our Operating Partnership (“OP Units”) since inception, (B) any unrealized gains and losses and other non-cash items that have affected consolidated stockholders’ equity as reported in our consolidated financial statements prepared in accordance with U.S. GAAP, and (C) one-time events pursuant to changes in U.S. GAAP, and certain non-cash items not otherwise described above, in each case after discussions between the Manager and our independent directors and approval by a majority of our independent directors. As a result, our stockholders’ equity, for purposes of calculating the management fee, could be greater or less than the amount of stockholders’ equity shown on our consolidated financial statements.
In the event we elect to pay the Manager in shares of our common stock, the calculation to determine the number of shares of our common stock to be issued to the Manager is outlined as follows. The initial $1.0 million of the quarterly base management fee is payable 75% in cash and 25% in shares of our common stock. Any amount of the base management fee in excess of $1.0 million is payable in shares of our common stock (at our discretion) until payment is 50% in cash and 50% in shares (the “50/50 split”). Any remaining amount of the quarterly base management fee after the 50/50 split threshold is reached may be payable in equal amounts of cash and shares (at our discretion). The quantity of common stock is determined based on the average of the closing prices of its common stock on the New York Stock Exchange (“NYSE”) on the five business days preceding the date on which the most recent regular quarterly dividend to holders of its common stock is paid. The Manager has agreed to hold any shares of common stock it receives as payment of the base management fee for at least three years from the date such shares of common stock are received.
The Manager is also entitled to an incentive fee, payable quarterly and calculated in arrears, of 20% of the amount by which total dividends on our common stock and distributions on OP units exceeds 8% of book value. However, no incentive fee may be paid to the Manager with respect to any calendar quarter unless our cumulative core earnings, defined as U.S. GAAP net income or loss less non-cash equity compensation, unrealized gains or losses from mark to market adjustments, one-time adjustments to earnings resulting from changes to U.S. GAAP, and certain other non-cash items, is greater than zero for the most recently completed eight calendar quarters. In the event that the payment of the quarterly base management fee has not reached the 50/50 split, all of the incentive fee is payable in shares of our common stock until the 50/50 split occurs. In the event that the total payment of the quarterly base management fee and the incentive fee has reached the 50/50 split, 20% of the remaining incentive fee is payable in shares of our common stock and 80% of the remaining incentive fee is payable in cash. Our dividend payments are driven by our taxable income. If our taxable income continues at the levels we have recently experienced, we could continue to exceed the threshold for paying an incentive fee to our Manager, and thereby trigger such payment.
We also reimburse the Manager for all third-party, out-of-pocket costs it incurs for managing our business, including third-party diligence and valuation consultants, legal expenses, auditors and other financial services. The reimbursement obligation is not subject to any dollar limitation. Expenses are generally reimbursed in cash on a monthly basis.
We would be required to pay the Manager a termination fee in the event that the Management Agreement is terminated as a result of (i) a termination by us without cause, (ii) our decision not to renew the Management Agreement upon the determination of at least two-thirds of our independent directors for reasons including the failure to agree on revised compensation, (iii) a termination by the Manager as a result of us becoming regulated as an investment company under the Investment Company Act (other than as a result of the acts or omissions of the Manager in violation of investment guidelines approved by our Board of Directors), or (iv) a termination by the Manager if we default in the performance of any material term of the Management Agreement (subject to a notice and cure period). The termination fee will be equal to twice the combined base fee and incentive fees payable to the Manager during the 12-month period ended as of the end of the most recently completed fiscal quarter prior to the date of termination.
Under the Management Agreement, we pay a quarterly base management fee based on our stockholders’ equity, including equity equivalents such as our issuance of convertible senior notes, and may be required to pay a quarterly and annual incentive management fee based on our cash distributions to our stockholders and increases in our book value. Manager fees are expensed in the quarter incurred and the portion payable in common stock is included in stockholders’ equity at quarter end.
The Servicer
We are also a party to the Servicing Agreement (the “Servicing Agreement”), expiring July 8, 2029, with the Servicer. Our Servicer, Gregory, was formed by the members of our Manager’s management team to service “high-touch” assets, which are loans that require substantial and active interaction with the borrower for modification or other resolution. These loans are to less creditworthy borrowers or for properties the value of which has decreased and are more expensive to service because they require more frequent interaction with customers and greater monitoring and oversight. Our Servicer is licensed to service loans in all states where such license is required to conduct its business, and currently has mortgage loan origination staff who are licensed in 13 states. It also holds mortgage lending, debt collection or similar licenses in the states where such licenses are required. Our Servicer is a Freddie Mac authorized servicer, a Home Affordable Modification Program (“HAMP”) registered servicer, a Veterans Administration Servicer and has unsupervised Title II Mortgage authorization from the Federal Housing Administration (“FHA”). We own an 8.0% equity interest in the parent company of our Servicer through a TRS with warrants to acquire an additional 12.0%.
Our Servicer must comply with a wide array of U.S. federal, state and local laws and regulations that regulate, among other things, the manner in which it services our mortgage loans and manages our real property in accordance with the Servicing Agreement, including recent Consumer Financial Protection Bureau (“CFPB”) mortgage servicing regulations promulgated pursuant to the Dodd-Frank Act. These laws and regulations cover a wide range of topics. The laws and regulations are complex and vary greatly among the states and localities. In addition, these laws and regulations often contain vague standards or requirements, which make compliance efforts challenging. From time to time, the Servicer may become party to certain regulatory inquiries or proceedings, which, even if unrelated to the residential mortgage servicing operation, may result in adverse findings, fines, penalties or other assessments and may affect adversely the Servicer’s reputation.
The Servicer receives an annual servicing fee ranging from 0.65% annually of UPB to 1.25% annually of UPB. The servicing fee is based upon the status of the loan at acquisition. Servicing fees are paid monthly. The fees do not change if an RPL becomes non-performing or vice versa. For certain of our joint ventures, the servicing fee rate for RPLs is reduced to an annual servicing fee rate of 0.42% to 0.20% annually on a loan-by-loan basis for any loan that makes seven consecutive payments. The total fees we incur for these services depend upon the UPB and type of mortgage loans that the Servicer services pursuant to the terms of the Servicing Agreement. Servicing fees for our real property assets are the greater of (i) the servicing fee applicable to the underlying mortgage loan prior to foreclosure, or (ii) 1.00% annually of the fair market value of the REO as reasonably determined by the Manager or 1.00% annually of the purchase price of any REO we otherwise purchase.
We also reimburse the Servicer for all customary, reasonable and necessary out-of-pocket costs and expenses incurred in the performance of its obligations, including the actual cost of any repairs and renovations to REO properties. The total fees we incur for these services will be dependent upon the property value, previous UPB of the relevant loan, and the number of REO properties.
If the Servicing Agreement has been terminated other than for cause or the Servicer terminates the Servicing Agreement, we will be required to pay a termination fee equal to the aggregate servicing fees payable under the Servicing Agreement for the immediate preceding 12-month period.
Our Servicer services our mortgage loans, MBS, REO and other real estate assets. Our Servicer is licensed to service loans or is exempt from licensing in all states in which it does business. Our Servicer is also an approved servicer for the FHA
and the Veterans Administration (“VA”). As of the date of this Annual Report, our Servicer is licensed in every state in which licensing is required for such activities.
Our Servicer employs various loan resolution methodologies with respect to our residential mortgage loans, including loan modification, collateral resolution and collateral disposition. To help us achieve our business objective, the Servicer focuses on (1) supporting the continuing performance of our RPLs; (2) converting a portion of our RPLs and NPLs to performing status; and (3) managing the foreclosure process and timelines with respect to the remainder of those loans.
Our preferred resolution methodology is typically to cause the RPLs and NPLs to perform. Following a period of continued performance, we expect many borrowers will refinance these loans with other lenders at or near the estimated value of the underlying property, potentially generating attractive returns for us. We believe loan re-performance followed by refinancing generates near-term cash flows, provides the highest possible stable economic outcome for us and is a socially responsible business strategy because it keeps more families in their homes. In certain circumstances, we may also consider selling these newly performing loans. However, based on historical experience, we expect that many of our residential NPLs will enter into foreclosure, ultimately becoming REO that we can, partially based on our analysis of risk-adjusted returns, sell, or convert into rental properties. If a REO property does not meet our investment criteria, we expect the Servicer to engage in REO liquidation and short sale processes to dispose of the property and generate cash for reinvestment in other acquisitions. We believe that our multifaceted resolution approach generally creates optimal stable returns, as all loans and REO may not be amenable to a single resolution strategy. To avoid the 100% prohibited transaction tax on the sale of dealer property by a REIT, we may dispose of assets that may be treated as held “primarily for sale to customers in the ordinary course of a trade or business” by contributing or selling the assets to a TRS, prior to marketing the asset for sale. For more information regarding our resolution methodologies, see “Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations - Factors That May Affect Our Operating Results - Resolution Methodologies.”
The Servicer collects and remits mortgage loan payments, responds to borrower inquiries, accounts for principal and interest, holds custodial and escrow funds for payment of property taxes and insurance premiums, counsels or otherwise works with delinquent borrowers, supervises foreclosures and property dispositions and generally administers the loans. In return for these servicing functions, we pay servicing fees to the Servicer equal to specified percentages of the outstanding unpaid principal balance of the loans being serviced. We are entitled to other forms of servicing compensation, rather than the Servicer, such as late payment or modification fees and any prepayment penalties payable by borrowers. Servicing compensation also includes interest income, or the “float,” earned on collections that are deposited in various custodial accounts between their receipt and the scheduled or contractual distribution of the funds to investors. Generally, the Servicer does not advance delinquent monthly payments of interest or principal in respect of mortgage loans but will be obligated to make certain servicing advances.
The Servicer also services the mortgage loans underlying the MBS we create and sell to investors pursuant to customary agreements.
Under the Servicing Agreement, the Servicer also provides property management, lease management and renovation management services associated with the real properties we acquire upon conversion of mortgage loans that we own or that we acquire directly and assists in finding third party financing for such properties.
When we determine to sell a particular REO asset through our Servicer, we have the capability in certain states to underwrite and offer mortgage financing to the purchaser. We rely on our Servicer’s in-depth knowledge of the properties when we facilitate financing in connection with a sale of a property through an unaffiliated lender. Unlike more traditional lenders, which base their underwriting primarily on the Fair Isaac Corporation (FICO®) credit risk score, our Servicer focuses on the borrower’s cash flow and residual income after satisfaction of monthly requirements, including the expenses for any dependents, employment stability and the ability to make a cash down payment. As a result, when selling REO property, we may choose to purchase the loan. We believe that our ability to offer financing tailored to the particular borrower provides another tool to maximize our return by converting REO to long-term significant net yield generating assets. Our Servicer receives no additional compensation from us for originating REO sale financing or other loans that we acquire.
Competition
In acquiring our assets, we compete with other mortgage and hybrid REITs, hedge funds, specialty finance companies, savings and loan associations, banks, mortgage bankers, insurance companies, mutual funds, investment banking firms, financial institutions, governmental bodies and other entities. Most of our competitors are significantly larger than us, have greater access to capital and other resources and may have other advantages over us. In addition to existing companies, other companies may be organized for similar purposes, including companies focused on purchasing mortgage assets. A proliferation
of such companies may increase the competition for equity capital and thereby adversely affect the price of our shares of common stock. In addition, some of our competitors may have higher risk tolerances or different risk assessments, which could allow them to consider a wider variety of assets and establish more relationships than us.
In the face of this competition, we rely on our Manager’s professionals and their industry expertise, which we believe provides us with a competitive advantage and helps us assess risks and determine appropriate pricing for certain potential assets. In addition, we believe that these relationships enable us to compete more effectively for attractive asset acquisition opportunities. However, we may not be able to achieve our business objectives due to the competitive risks that we face.
Operating and Regulatory Structure
Tax Requirements
We elected to be taxed as a REIT for U.S. federal income tax purposes beginning with our taxable year ended December 31, 2014. Provided that we continue to maintain our qualification as a REIT, we generally will not be subject to U.S. federal income tax on our REIT taxable income that is currently distributed to our stockholders. REITs are subject to a number of organizational and operational requirements, including a requirement that they currently distribute at least 90% of their annual REIT taxable income excluding net capital gains. We cannot assure you that we will be able to continue to comply with such requirements in the future. Failure to qualify as a REIT in any taxable year would cause us to be subject to U.S. federal income tax on our taxable income at regular corporate rates (and any applicable state and local taxes). Even if we qualify for taxation as a REIT, we may be subject to certain U.S. federal, state, local and non-U.S. taxes on our income. For example, for any business that we conduct through a TRS, the income generated by that subsidiary will be subject to U.S. federal, state and local income tax. GAJX Real Estate Corp. is a wholly owned subsidiary of the Operating Partnership formed to own, maintain, improve and sell certain REO purchased by us. GA-TRS LLC (“GA-TRS”) is a wholly owned subsidiary of our Operating Partnership that owns our 19.8% equity interest in our Manager and our 8.0% interest in the parent of our Servicer. We have elected to treat both GAJX Real Estate Corp. and GA-TRS as TRSs under the Code.
Investment Company Act Exclusion
We conduct our operations so that neither we nor any of our subsidiaries is required to register as an investment company under the Investment Company Act. Section 3(a)(1)(A) of the Investment Company Act defines an investment company as any issuer that is or holds itself out as being engaged primarily in the business of investing, reinvesting or trading in securities. Section 3(a)(1)(C) of the Investment Company Act defines an investment company as any issuer that is engaged or proposes to engage in the business of investing, reinvesting, owning, holding or trading in securities and owns or proposes to acquire investment securities having a value exceeding 40% of the value of the issuer’s total assets (exclusive of U.S. government securities and cash items) on an unconsolidated basis, which we refer to as the 40% test. Excluded from the term ‘‘investment securities,’’ among other things, are securities issued by majority-owned subsidiaries that are not themselves investment companies and are not relying on the exclusion from the definition of investment company set forth in Section 3(c)(1) or Section 3(c)(7) of the Investment Company Act.
We are organized as a holding company and conduct our businesses primarily through wholly owned subsidiaries of our Operating Partnership. Our Operating Partnership holds certain real estate and real estate-related assets, directly and through subsidiaries. Neither we nor our Operating Partnership nor Great Ajax Funding is an investment company under Section 3(a)(1)(C). In addition, we conduct our operations so that neither we nor our Operating Partnership nor Great Ajax Funding come within the definition of an investment company by ensuring that less than 40% of the value of our total assets on an unconsolidated basis consists of “investment securities.”
We monitor our compliance with the 40% test and the holdings of our subsidiaries to ensure that each of our subsidiaries is in compliance with an applicable exemption or exclusion from registration as an investment company under the Investment Company Act.
Our 19.8% equity interest in our Manager and our 8.0% equity interest in the parent company of our Servicer are owned by GA-TRS, which is a special purpose subsidiary of our Operating Partnership. GA-TRS may rely on Section 3(c)(1) or 3(c)(7) for its Investment Company Act exclusion and, therefore, our interest in such subsidiary would constitute an ‘‘investment security’’ for purposes of determining whether we pass the 40% test. We also may form certain other wholly owned or majority-owned subsidiaries that will invest, subject to our investment guidelines, in other real estate-related assets. These subsidiaries may rely upon the exclusion from the definition of investment company under the Investment Company Act pursuant to Section 3(c)(1) or 3(c)(7) of the Investment Company Act. The securities issued by any wholly owned or majority-owned subsidiary that we may form and that are excluded from the definition of “investment company” based on Section
3(c)(1) or 3(c)(7) of the Investment Company Act, together with any other investment securities we may own, may not have a value in excess of 40% of the value of our total assets on an unconsolidated basis.
In addition, we believe that neither we nor certain of our subsidiaries will be considered investment companies under Section 3(a)(1)(A) of the Investment Company Act because we and they will not engage primarily or hold themselves out as being engaged primarily in the business of investing, reinvesting or trading in securities. Rather, we and such subsidiaries will be primarily engaged in non-investment company businesses related to real estate. Consequently, we and our subsidiaries expect to be able to conduct our operations such that none will be required to register as an investment company under the Investment Company Act.
Certain of our subsidiaries may also rely upon certain exclusions from the definition of investment company under Section 3(c)(5)(C) of the Investment Company Act. Section 3(c)(5)(C), as interpreted by the staff of the SEC, requires an entity to invest at least 55% of its assets in “mortgages and other liens on and interests in real estate,” which we refer to as “qualifying real estate interests,” and at least 80% of its assets in qualifying real estate interests plus “real estate-related assets.”
On August 31, 2011, the SEC published a concept release entitled “Companies Engaged in the Business of Acquiring Mortgages and Mortgage Related Instruments” (Investment Company Act Rel. No. 29778). This release notes that the SEC is reviewing the Section 3(c)(5)(C) exclusion relied upon by companies similar to us that invest in mortgage loans. There can be no assurance that the laws and regulations governing the Investment Company Act status of companies similar to ours, or the guidance from the SEC or its staff regarding the treatment of assets as qualifying real estate assets or real estate-related assets, will not change in a manner that adversely affects our operations as a result of this review. To the extent that the SEC or its staff provides more specific guidance regarding any of the matters bearing upon our exclusion from the need to register under the Investment Company Act, we may be required to adjust our strategy accordingly. Any additional guidance from the SEC staff could provide additional flexibility to us, or it could further inhibit our ability to pursue the strategies that we have chosen.
The loss of our exemption from regulation pursuant to the Investment Company Act could require us to restructure our operations, sell certain of our assets or abstain from the purchase of certain assets, which could have an adverse effect on our financial condition and results of operations. See “Item 1A. Risk Factors - Risks Related to Our Organizational Structure - Maintenance of our exclusion from registration as an investment company under the Investment Company Act imposes significant limitations on our operations.”
Commodity Pool Operator Exemption
Under the Dodd-Frank Act, any investment fund that trades in swaps may be considered a “commodity pool,” which would cause its operators to be regulated as a “commodity pool operator,” or (“CPO”). We have relied on no-action relief from registration from the Commodity Futures Trading Commission (“CFTC”) and filed our claim with the CFTC to perfect the use of the no-action relief from registration. In order to be exempt from registration as a CPO under the no-action relief, we must, among other non-operation requirements: (1) limit our initial margin and premiums required to establish our swap or futures positions to no more than 5% of the fair market value of our total assets; and (2) limit our net income derived annually from our swaps and futures positions that are not “qualifying hedging transactions” to less than 5% of our gross income. The need to operate within these parameters could limit the use of swaps by us below the level that we would otherwise consider optimal or may lead to the registration of our company or our directors as CPOs. See “Item 1A. Risk Factors - Risks Related to Regulatory and Legislative Actions - We may be unable to operate within the parameters that allow us to be excluded from regulation as a commodity pool operator, which would subject us to additional regulation and compliance requirements, and could materially adversely affect our business and financial condition.”
Environmental Matters
As an owner of real estate, we are subject to various U.S. federal, state and local environmental laws, regulations and ordinances and also could be liable to third parties resulting from environmental contamination or noncompliance with environmental laws at our properties. Environmental laws can impose liability on an owner or operator of real property for the investigation and remediation of contamination at or migrating from such real property, without regard to whether the owner or operator knew of or was responsible for the presence of the contaminants. The costs of any required investigation or cleanup of these substances could be substantial. The liability is generally not limited under such laws and could exceed the property’s value and the aggregate assets of the liable party. The presence of contamination or the failure to remediate contamination at our properties also may expose us to third-party liability for personal injury or property damage or adversely affect our ability to sell, lease or renovate the real estate or to borrow using the real estate as collateral. See also “Item 1A. Risk Factors.”
Employees
Exclusive of certain incentive stock grants, we do not currently have any employees who are paid directly by us, and, excluding incentive stock grants, do not expect to have any employees paid directly by us in the foreseeable future. Each of our executive officers is an employee or officer or both, of our Manager or of the Servicer, and they are paid by our Manager or the Servicer, as applicable. Our Manager and the Servicer share employees with other affiliates of Aspen as necessary to implement our business strategy.
Available Information
Our web address is www.greatajax.com. Our annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934, as amended (the “Exchange Act”) are made available on our website as soon as reasonably practicable after we electronically file such material with, or furnish it to, the U.S. Securities and Exchange Commission (the “SEC”).
The information on our website does not constitute a part of this Annual Report and is not incorporated by reference. Our reference to the URL for our website is intended to be an inactive textual reference only.

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ITEM 1A. RISK FACTORS
Item 1A. Risk Factors
You should carefully consider the risks described below together with the other information included in this Annual Report. Our business, financial condition or results of operations could be adversely affected by any of these risks. If any of these risks occur, the value of our common stock could decline.
Risks Related to Our Business
The outbreak of COVID-19 has adversely affected, and will likely continue to adversely affect, our business, financial condition, liquidity and results of operations.
We believe the worldwide COVID-19 pandemic has negatively affected our business and is likely to continue to do so. The outbreak has caused significant volatility and disruption in the financial markets both globally and in the United States. If COVID-19, or another highly infectious or contagious disease, continues to spread or the response to contain it is unsuccessful, we could experience material adverse effects on our business, financial condition, liquidity, and results of operations. The extent of such effects will depend on future developments, which are highly uncertain and cannot be predicted, including the geographic spread of the virus, the overall severity of the disease, the duration of the outbreak, the measures that have been or may be taken by various governmental authorities in response to the outbreak (such as quarantines, travel restrictions and mandated forbearance measures on mortgage collections) and the possible further impacts on the global economy. The continued spread of COVID-19 could also negatively impact the availability of key personnel necessary to conduct our business. Additionally, governments have adopted, and we expect will continue to adopt, policies, laws and plans intended to address the COVID-19 pandemic and adverse developments in the credit, financial and mortgage markets. We cannot know if these programs will be effective, sufficient or otherwise may have a positive material and adverse impact on our business.
A significant portion of our mortgage loans may become NPLs, which could increase our risk of loss.
We may acquire mortgage loans where the borrower has failed to make timely payments of principal and/or interest currently or in the past. As part of the mortgage loan portfolios we purchase, we also may acquire performing loans that subsequently become non-performing. Under current market conditions, many of these loans will have current loan-to-value ratios in excess of 100%, meaning the amount owed on the loan exceeds the value of the underlying real estate. Although we expect to purchase loans at significant discounts to UPB and underlying property value, if actual results are different from our assumptions in determining the prices for such loans, particularly if the market value of the underlying property decreases significantly, we may incur significant losses. There are no limits on the percentage of NPLs we may hold. Any loss we incur may be significant and could materially and adversely affect us.
We primarily own higher risk loans, which are more expensive to service than conventional mortgage loans.
A significant percentage of the mortgage loans we own are higher risk loans, meaning that the loans are made to less creditworthy borrowers or for properties the value of which has decreased, including as a result of the COVID-19 pandemic. These loans are more expensive to service because they require more frequent interaction with customers and greater monitoring and oversight. Additionally, in connection with mortgage market reforms and recent and possible future regulatory developments, servicers of higher risk loans may be subject to increased scrutiny by state and U.S. federal regulators or may
experience higher compliance costs, which could result in a further increase in servicing costs. Through the Servicing Agreement, the Servicer passes along to us many of the additional third-party expenses incurred by it in servicing these higher risk loans. The greater cost of servicing higher risk loans, which may be further increased through regulatory changes, could adversely affect our business, financial condition and results of operations.
A change in delinquencies for the loans we own could adversely affect our business, financial condition and results of operations.
A significant percentage of the mortgage loans we own are higher risk loans, which tend to have higher delinquency and default rates than GSE and government agency-insured mortgage loans. These higher risk loans, combined with decreases in property values, have caused increases in loan-to-value ratios, resulting in borrowers having little or negative equity in their property, which may provide an incentive to borrowers to strategically default on their loans. Recent laws delay the initiation or completion of foreclosure proceedings on specified types of residential mortgage loans or otherwise limit the ability of mortgage servicers to take actions that may be essential to preserve the value of the mortgage loans. Any such limitations are likely to cause delayed or reduced collections from mortgagors.
The lack of liquidity of our assets may adversely affect our business, including our ability to sell our assets.
We acquire assets, securities or other instruments that are not liquid or publicly traded, and market conditions could significantly and negatively affect the liquidity of other assets.
In addition, mortgage-related assets generally experience periods of illiquidity, including periods of delinquencies and defaults with respect to residential and commercial mortgage loans. Further, validating third-party pricing for illiquid assets may be more subjective than for liquid assets. Any illiquidity of our assets may make it difficult for us to sell such assets if the need or desire arises. In addition, if we are required to liquidate all or a portion of our portfolio quickly, we may realize significantly less than the value at which we previously recorded our assets. We may also face other restrictions on our ability to liquidate any assets for which we have or could be attributed with material non-public information. If we are unable to sell our assets at favorable prices or at all, it could materially adversely affect our business, financial condition and results of operations and our ability to make distributions to our stockholders. Assets that are illiquid are more difficult to finance, and to the extent that we use leverage to finance assets that become illiquid, we may lose that leverage or have it reduced. Assets tend to become less liquid during times of financial stress, which is often the time that liquidity is most needed. As a result, our ability to sell assets or vary our portfolio in response to changes in economic and other conditions may be limited by liquidity constraints, which could adversely affect our results of operations and financial condition.
The principal and interest payments on our retained MBS are not guaranteed by any entity and, therefore, are subject to increased risks, including credit risk as a result of the COVID-19 pandemic.
We create and retain MBS that are backed by residential mortgage loans that do not conform to the Fannie Mae or Freddie Mac underwriting guidelines. Consequently, the principal and interest on those MBS are not guaranteed by GSEs such as Fannie Mae and Freddie Mac, or securitized through Ginnie Mae. We do not currently expect to acquire third-party non-Agency MBS. Our MBS are and will be subject to many of the risks of the respective underlying mortgage loans. In particular, the market for MBS has been, and is expected to continue to be, significantly and adversely impacted by the COVID-19 pandemic. A residential mortgage loan is typically secured by a single-family residential property and is subject to risks of delinquency and foreclosure and risks of loss. The ability of a borrower to repay a loan secured by a residential property depends upon the income or assets of the borrower. A number of factors, including the impact of the COVID-19 pandemic, a prolonged economic downturn, unemployment, acts of God, terrorism, social unrest and civil disturbances, may impair borrowers’ abilities to repay their mortgage loans. In periods following home price declines, “strategic defaults” (decisions by borrowers to default on their mortgage loans despite having the ability to pay) also may become more prevalent.
In the event of defaults under mortgage loans backing any of our retained MBS, we will bear a risk of loss of principal to the extent of any deficiency between the value of the collateral and the principal and accrued interest of the mortgage loan. Additionally, in the event of the bankruptcy of a mortgage loan borrower, the mortgage loan to such borrower will be deemed to be secured only to the extent of the value of the underlying collateral at the time of bankruptcy (as determined by the bankruptcy court), and the lien securing the mortgage loan will be subject to the avoidance powers of the bankruptcy trustee or debtor-in-possession to the extent the lien is unenforceable under state law. Foreclosure of a mortgage loan can be an expensive and lengthy process which could have a substantial negative effect on our anticipated return on the foreclosed mortgage loan. If borrowers default on the mortgage loans backing our MBS and we are unable to recover any resulting loss through the foreclosure process, our business, financial condition and results of operations and our ability to make distributions to our stockholders could be materially adversely affected.
Residential mortgage loan modification, refinance, or forbearance programs, future legislative action, and other actions and changes in the general economy may materially and adversely affect the supply of, value of, and returns on RPLs and NPLs.
Our business model depends on the acquisition of a steady supply of RPLs, our ability to support continued performance by borrowers under RPLs, the success of our loan modification and other resolution efforts and to a certain extent, the conversion of a portion of those loans to REO that we can then sell or rent. The number of RPLs available for purchase may be reduced by uncertainty in the lending industry and the governmental sector and/or as a result of general economic conditions. Lenders have delayed foreclosure proceedings, offered payment forbearance, renegotiated interest rates, or refinanced loans for borrowers who face foreclosure.
In addition, as a reaction to the COVID-19 outbreak, the U.S. federal government has instituted and may continue to institute programs aimed at assisting at-risk homeowners, or reducing the number of properties going into foreclosure or going into non-performing status. Government sponsored or mandated loss mitigation programs may involve, among other things, the modification of residential mortgage loans to reduce the principal amount of the loans (through forbearance and/or forgiveness) and/or the rate of interest payable on the loans or to extend the payment terms of the loans. For example, section 4022 of the Coronavirus Aid, Relief, and Economic Security Act (the “CARES Act”), requires that for a limited period of time, and upon a request by a borrower with a federally backed mortgage loan who is experiencing a COVID-19-related financial hardship, the servicer of the borrower’s loan must grant the borrower a forbearance for up to 180 days (or longer if the borrower requests an extension). Certain states have imposed or encouraged similar forbearance programs, or may do so in the future. Extended forbearance, foreclosure timelines and eviction timelines could result in lower yields and losses on our mortgage loan and beneficial interest portfolios and losses on our REO held-for-sale. Ongoing disruption in the credit markets could result in margin calls from our financing counterparties and additional mark downs on our Investments in debt securities, beneficial interests and mortgage loans. These programs, any other programs that may replace them, future legislative or regulatory actions, including possible amendments to the bankruptcy laws that result in the modification of outstanding residential mortgage loans, as well as changes in the requirements necessary to qualify for refinancing residential mortgage loans, may materially and adversely affect the value of, and the returns on, our portfolio of RPLs and NPLs.
Other governmental actions may affect our business by hindering the pace of foreclosures. Certain jurisdictions suffer from a backlog of foreclosures, due to a combination of volume constraints and legal actions, including those brought by the U.S. Department of Justice (“DOJ”), the U.S. Department of Housing and Urban Development (“HUD”), State Attorneys General, the Office of the Comptroller of the Currency, and the Federal Reserve Board against mortgage servicers alleging wrongful foreclosure practices. Legal claims brought or threatened by the DOJ, HUD, CFPB and State Attorneys General against residential mortgage servicers have produced large settlements. A portion of the funds from these settlements were directed to homeowners seeking to avoid foreclosure through mortgage modifications, and servicers are required to adopt specified measures to reduce mortgage obligations in certain situations. We expect that the settlements will help many homeowners avoid foreclosures that would otherwise have occurred. It is also possible that other residential mortgage servicers will agree to similar settlements. In addition, the U.S. Congress and numerous state legislatures have considered, proposed or adopted legislation to constrain foreclosures, or may do so in the future. These developments will reduce the number of homes in the process of foreclosure and decrease the supply of properties and assets that meet our investment criteria.
The Dodd-Frank Act also created the CFPB, which supervises consumer financial services companies (including bank and non-bank mortgage lenders and mortgage servicers) and enforces U.S. federal consumer protection laws as they apply to banks, credit unions and other financial services companies, including mortgage servicers, and which has issued many regulations regarding mortgage origination and servicing. These regulations provide for special remedies in favor of consumer mortgage borrowers, particularly upon default and foreclosure. It remains uncertain whether any of these measures significantly affect foreclosure volumes. If foreclosure volumes were to decline significantly, we may experience difficulty in finding target assets at attractive prices, which will materially and adversely affect us. Also, the number of families seeking rental housing might be reduced by such legislation, reducing rental housing demand for properties that we may seek to rent in our markets.
The supply of RPLs and SBC loans may decline over time as a result of higher credit standards for new loans and the prices for RPLs and SBC loans may increase, which could materially and adversely affect us.
As a result of the continuing effects of the economic crisis in 2008, there has been an increased supply of RPLs available for sale. However, in response to the economic crisis, the origination of jumbo, subprime, Alt-A and second-lien residential mortgage loans has dramatically declined as lenders have increased their standards of creditworthiness in originating new loans and fewer homeowners may go into NPL status on their residential mortgage loans. Lenders may continue to rely on heightened credit standards, in light of the economic effects of the COVID-19 crisis or other crises. In addition, the prices at which both residential and SBC RPLs can be acquired may increase due to the entry of new participants into the distressed loan
marketplace or a smaller supply of RPLs in the marketplace. For these reasons, along with the continuing slow rate of general improvement in the economy, the supply of RPLs that we may acquire may decline over time, which could materially and adversely affect us.
The SBC loans we expect to acquire will be subject to the ability of the commercial property owner to generate net income from operating the property as well as the increased risks of delinquency and foreclosure.
The ability of a commercial mortgage borrower to repay a SBC loan secured by an income-producing property, such as a multi-family residential and commercial mixed use retail/residential property, typically is dependent primarily upon the successful operation of such property rather than upon the existence of independent income or assets of the borrower. If the net operating income of the property is reduced, the borrower’s ability to repay the SBC loan may be impaired. Net operating income of an income producing property can be affected by, among other things, tenant mix, success of tenant businesses, property management decisions, property location and condition, competition from comparable types of properties, changes in laws that increase operating expense, limit rents that may be charged, or that restrict eviction and replacement of nonpaying tenants, any need to address environmental contamination at the property, the occurrence of any uninsured casualty at the property, changes in national, regional or local economic conditions or specific industry segments, declines in regional or local real estate values, declines in regional or local rental or occupancy rates, increases in interest rates, real estate tax rates and other operating expenses, changes in governmental rules, regulations and fiscal policies, including environmental legislation, acts of God, terrorism, social unrest and civil disturbances. In particular, the number of commercial property delinquencies and foreclosures has, and is expected to continue to, significantly increase as a result of the COVID-19 pandemic. In the event of the bankruptcy of a commercial mortgage loan borrower, the SBC loan to such borrower will be deemed to be secured only to the extent of the value of the underlying collateral at the time of bankruptcy (as determined by the bankruptcy court), and the lien securing the SBC loan will be subject to the avoidance powers of the bankruptcy trustee or debtor-in-possession to the extent the lien is unenforceable under state law. Foreclosure of a SBC loan can be an expensive and lengthy process, which could have a substantial negative effect on our anticipated return on the foreclosed SBC loan.
Our SBC loans in respect of smaller multi-family residential properties or smaller mixed use retail/residential properties may be subject to defaults, foreclosure timeline extension, fraud, commercial price depreciation and unfavorable modification of loan principal amount, interest rate and amortization of principal.
Our SBC loans secured by multi-family or commercial property may be subject to risks of delinquency and foreclosure, and risk of loss that may be greater than similar risks associated with loans made on the security of single-family residential property. The ability of a borrower to repay a loan secured by an income-producing property typically depends primarily upon the successful operation of such property rather than upon the existence of independent income or assets of the borrower. If the net operating income of the property is reduced, the borrower’s ability to repay the loan may be impaired. Net operating income of an income-producing property can be affected by, among other things:
•tenant mix;
•success of tenant businesses;
•property management decisions;
•property location and condition;
•competition from comparable types of properties;
•changes in laws that increase operating expenses or limit rents that may be charged;
•any need to address environmental contamination at the property or the occurrence of any uninsured casualty at the property;
•changes in national, regional or local economic conditions and/or specific industry segments;
•declines in regional or local real estate values;
•declines in regional or local rental or occupancy rates;
•increases in interest rates;
•real estate tax rates and other operating expenses;
•changes in governmental rules, regulations and fiscal policies, including environmental legislation; and
•acts of God, terrorist attacks, social unrest and civil disturbances.
Difficult conditions in the mortgage, residential real estate and smaller commercial real estate markets as well as general market concerns may adversely affect the value of the assets in which we invest and these conditions may persist for the foreseeable future.
Our business is materially affected by conditions in the residential mortgage market, the residential real estate market, the smaller commercial real estate market, the financial markets and the economy in general. Concerns about the residential
mortgage market, as well as the COVID-19 pandemic, inflation, energy costs, geopolitical issues, concerns over the creditworthiness of governments worldwide and the stability of the global banking system, continuing relatively high unemployment and under-employment and the availability and cost of credit have contributed to increased volatility and diminished expectations for the economy and markets going forward. In particular, the residential mortgage market in the United States has experienced a variety of difficulties and changed economic conditions, including defaults, credit losses and liquidity concerns. The smaller commercial real estate mortgage market also may face increased defaults, losses, or liquidity concerns due to economic conditions or government imposed forbearance programs.
Certain commercial banks, investment banks and insurance companies continue to announce losses from exposure to the residential mortgage market. These factors have affected investor perception of the risk associated with mortgage-backed securities, other real estate-related securities and various other asset classes in which we may invest. As a result, values of certain of our assets and the asset classes in which we intend to invest have experienced volatility. Further deterioration of the mortgage market and investor perception of the risks associated with MBS we may retain as part of our securitizations, as well as other assets that we acquire could materially adversely affect our business, financial condition and results of operations and our ability to make distributions to our stockholders.
We may be materially and adversely affected by risks affecting borrowers or the single-family rental properties in which our investments may be concentrated at any given time, as well as from unfavorable changes in the related geographic regions.
Our assets are not subject to any geographic, diversification or concentration limitations. Accordingly, our investment portfolio may be concentrated by geography, single-family rental property characteristics and/or borrower demographics, increasing the risk of loss to us if the particular concentration in our portfolio is subject to greater risks or undergoing adverse developments. In addition, adverse conditions in the areas where the properties securing or otherwise underlying our investments are located (including business layoffs or downsizing, industry slowdowns, changing demographics and other factors) and local real estate conditions (such as oversupply or reduced demand) may have an adverse effect on the value of our investments. A material decline in the demand for single-family housing or rentals in these or other areas where we own assets may materially and adversely affect us. Lack of diversification can increase the correlation of non-performance and foreclosure risks among our investments. Historically, our mortgage and real estate assets have been concentrated in Florida and the western and southwestern United States.
Changes in the underwriting standards by Freddie Mac, Fannie Mae or FHA could make it more difficult to refinance our purchased mortgage loans.
Stricter underwriting standards by Freddie Mac, Fannie Mae or the FHA could affect our ability to refinance mortgage loans and the terms on which mortgage loans may be refinanced, which may adversely affect our business and results of operations. For example, in 2010, Freddie Mac and Fannie Mae announced tighter underwriting guidelines, particularly for adjustable rate mortgages, (“ARMs”), and hybrid interest-only ARMs (“Hybrid ARMs”). Specifically, Freddie Mac announced that it would no longer purchase interest-only mortgages and Fannie Mae changed its eligibility criteria for purchasing and securitizing ARMs to protect consumers from potentially dramatic payment increases. If Freddie Mac, Fannie Mae, or the FHA were to adopt other restrictive underwriting standards, that could affect our ability to refinance loans and the terms of those loans.
The whole residential mortgage loans and other residential mortgage assets in which we invest are subject to risk of default, among other risks.
The mortgage loans and other mortgage-related assets that we acquire from time to time may be subject to defaults (including re-default for RPLs), foreclosure moratoria or timeline extensions, fraud, residential price depreciation and unfavorable modification of loan principal amount, interest rate and amortization of principal, or government-mandated payment forbearances, among other factors, which could result in losses to us. Residential mortgage loans are secured by single-family residential property and, are subject to risks of delinquency and foreclosure and risks of loss. The payment of the principal and interest on the mortgage loans we acquire would not typically be guaranteed by any sponsored enterprise (“GSE”), such as Fannie Mae and Freddie Mac, or securitized through Ginnie Mae or any other governmental agency. Additionally, by directly acquiring whole mortgage loans, we do not receive the structural credit enhancements that can benefit senior tranches of MBS. A whole mortgage loan is directly exposed to losses resulting from nonpayment or other default. Therefore, the value of the underlying property, the creditworthiness and financial position of the borrower and the priority and enforceability of the lien will significantly affect the value of such mortgage. The ability of a borrower to repay a loan secured by a residential property typically depends upon the income or assets of the borrower. A number of factors, including a general economic downturn, acts of nature, terrorism, social unrest and civil disturbances, may impair a borrower’s ability to repay a mortgage loan. Foreclosure of a mortgage loan can be an expensive and lengthy process, which could have a substantial
negative effect on our anticipated return on a foreclosed mortgage loan. In the event of a foreclosure, we may assume direct ownership of the underlying real estate. The liquidation proceeds upon sale of such real estate may not be sufficient to recover our cost basis in the loan, and any costs or delays involved in the foreclosure or liquidation process may increase losses.
Whole mortgage loans are also subject to “special hazard” risk such as property damage caused by hazards, such as earthquakes or environmental hazards, not covered by standard property insurance policies. In the event of the bankruptcy of a mortgage loan borrower, the mortgage loan to such borrower will be deemed to be secured only to the extent of the value of the underlying collateral at the time of bankruptcy (as determined by the bankruptcy court), and the lien securing the mortgage loan will be subject to the avoidance powers of the bankruptcy trustee or debtor in possession to the extent the lien is unenforceable under state law. In addition, claims may be assessed against us on account of our position as a mortgage holder or property owner, including assignee liability, responsibility for tax payments, environmental hazards and other liabilities. In some cases, these liabilities may be “recourse liabilities” or may otherwise lead to losses in excess of the purchase price of the related mortgage or property. Although we acquire mortgage loans at significant discounts from their UPB and underlying property value, in the event of any default under a mortgage loan held directly by us, we bear a risk of loss of the principal to the extent of any deficiency between the value of the collateral and the principal and accrued interest of the mortgage loan, which could have a material adverse effect on our cash flow from operations and results of operations. The MBS we retain from our own securitizations evidence interests in, or are secured by, pools of residential mortgage loans. Accordingly, the MBS that we hold is subject to all of the risks of the respective underlying mortgage loans.
For certain residential mortgage loans, the Dodd-Frank Act established, through amendment to the Truth in Lending Act (“TILA”), life-of-loan liability on any holder of a residential mortgage loan that takes action on the loan following default (including foreclosure). This liability is premised upon violation of the ATR Rule, as well as violation of the loan originator compensation rule. Borrower remedies, available by way of recoupment or set-off, include statutory damages and attorneys’ fees.
If we fail to develop, enhance and implement strategies to adapt to changing conditions in the commercial real estate industry and capital markets, our financial condition and results of operations may be materially and adversely affected by our acquisition of SBC loans.
The manner in which we compete and the types of SBC loans we are able to acquire will be affected by changing conditions resulting from sudden changes in the commercial real estate industry, regulatory environment, the role of credit rating agencies or their rating criteria or process, or the U.S. and global economies generally. If we do not effectively respond to these changes, or if our strategies to respond to these changes are not successful, our financial condition and results of operations may be adversely affected. In addition, we can provide no assurances that we will be successful in executing our business strategy in successfully acquiring SBC loans.
If we acquire and subsequently re-sell any whole mortgage loans, we may be required to repurchase such loans or indemnify investors if we breach representations and warranties.
If we acquire and subsequently re-sell any whole mortgage loans, we would generally be required to make customary representations and warranties about such loans to the loan purchaser. Our residential mortgage loan sale agreements and terms of any securitizations into which we sell loans will generally require us to repurchase or substitute loans in the event we breach a representation or warranty given to the loan purchaser. In addition, we may be required to repurchase loans as a result of borrower fraud or in the event of early payment default on a mortgage loan. Repurchased loans are typically worth only a fraction of the original price. Significant repurchase activity could materially adversely affect our business, financial condition and results of operations and our ability to make distributions to our stockholders. Further, depending on the level of repurchase and resale activities, we may determine to conduct any such activities through a taxable REIT subsidiary.
We are subject to counterparty risk and may be unable to seek indemnity or require our counterparties to repurchase mortgage loans if they breach representations and warranties, which could cause us to suffer losses.
When selling mortgage loans, sellers typically make customary representations and warranties about such loans. Our residential mortgage loan purchase agreements may entitle us to seek indemnity or demand repurchase or substitution of the loans in the event our counterparty breaches a representation or warranty given to us. However, there can be no assurance that our mortgage loan purchase agreements will contain appropriate representations and warranties, that we will be able to enforce our contractual right to repurchase or substitution, or that our counterparty will remain solvent or otherwise be able to honor its obligations under its mortgage loan purchase agreements. Our inability to obtain indemnity or require repurchase of a significant number of loans could harm our business, financial condition, liquidity, results of operations and our ability to make distributions to our stockholders.
Certain investments in portfolios of whole mortgage loans and other mortgage assets may require us to purchase less desirable mortgage assets as part of an otherwise desirable pool of mortgage assets, which could subject us to additional risks relating to the less desirable mortgage assets.
If we acquire portfolios of whole mortgage loans and other mortgage assets, the portfolio may contain some assets that we would not otherwise seek to acquire on their own. These other assets may subject us to additional risks, including impaired performance and reduce the return on our investments.
To the extent that due diligence is conducted on potential assets, such due diligence may not reveal all of the risks associated with such assets and may not reveal other weaknesses in such assets, which could lead to losses.
Before making an investment, we conduct (either directly or using third parties) certain due diligence. There can be no assurance that we will conduct any specific level of due diligence, or that, among other things, our due diligence processes will uncover all relevant facts or that any purchase will be successful, which could result in losses on these assets, which, in turn, could adversely affect our business, financial condition and results of operations and our ability to make distributions to our stockholders.
The failure of a seller of mortgage loans to provide all the necessary documentation to us could adversely affect our ability to leverage our assets or otherwise service the mortgage loans that we will own.
Pursuant to customary provisions in the purchase agreements governing our loan acquisitions, we also generally have the right to cause the sellers to repurchase certain loans if they do not provide proper documentation to evidence ownership or first lien status with respect to such loans within a specified time period. Any delay or inability to obtain such documentation could adversely affect our ability to leverage such loans, and could adversely affect the Servicer’s ability to service those mortgage loans and any such repurchases by the sellers would decrease the size of our portfolio.
Market conditions as a result of the COVID-19 pandemic and other factors may affect our ability to securitize assets, which could increase our financing costs and adversely affect our results of operations and ability to make distributions.
Our ability to obtain permanent non-recourse financing through securitizations is affected by a number of factors, including:
•conditions in the securities markets, generally;
•conditions in the asset-backed securities markets, specifically;
•yields on our portfolio of mortgage loans;
•the credit quality of our portfolio of mortgage loans; and
•our ability to obtain any necessary credit enhancement.
As a result of the COVID-19 pandemic, the asset-backed securitization markets have experienced unprecedented disruptions, and securitization volumes have decreased sharply. These recent conditions in the securitization markets include reduced liquidity, increased risk premiums for issuers, reduced investor demand, financial distress among financial guaranty insurance providers, a general tightening of credit and substantial regulatory uncertainty. If these conditions do not improve, they could increase our cost of funding, and could reduce or even eliminate our access to the securitization market. As a result, these conditions could preclude us from securitizing assets acquired for such purpose.
Our ability to sell mortgage loans into securitizations could also be delayed, limited, or precluded by legislative and regulatory reforms applicable to asset-backed securities and the institutions that sponsor, service, rate, or otherwise participate in, or contribute to, the successful execution of a securitization transaction. Other factors could also limit, delay, or preclude our ability to sell assets into securitizations. Provisions of the Dodd-Frank Act have required significant revisions to the legal and regulatory framework that apply to the asset-backed securities markets and securitizations. For example, Section 15G of the Exchange Act, as modified by the Dodd-Frank Act, generally requires the issuer of asset-backed securities to retain not less than five percent of the credit risk of the assets collateralizing the asset-backed securities. While Section 15G includes an exemption for asset-backed securities that are collateralized exclusively by residential mortgages that qualify as “qualified residential mortgages” (as defined in the accompanying regulations), RPLs of the type that we intend to purchase and securitize generally will not qualify for this exemption. We therefore are required to retain five percent or more of the credit risk associated with the assets we securitize.
In addition to these laws and rules, other U.S. federal or state laws and regulations that could affect our ability to sell assets into securitization programs may be proposed, enacted, or implemented. These laws and regulations could effectively preclude us from financing our assets through securitizations or could delay our execution of these types of transactions. Other matters, such as (i) accounting standards applicable to securitization transactions and (ii) capital and leverage requirements applicable to banks and other regulated financial institutions that traditionally purchase and hold asset-backed securities, could also result in less investor demand for securities issued through securitization transactions.
Prepayment rates can change, adversely affecting the performance of our assets and our ability to reinvest the proceeds thereof.
The frequency at which prepayments (including voluntary prepayments by borrowers, loan buyouts and liquidations due to defaults and foreclosures) occur on mortgage loans, including those underlying MBS, is affected by a variety of factors, including the impact of the COVID-19 pandemic, prevailing level of interest rates as well as economic, demographic, tax, social, legal, and other factors. We expect prepayments rates to decrease as a result of the COVID-19 pandemic. Generally, borrowers tend to prepay their mortgages when prevailing mortgage rates fall below the interest rates on their mortgage loans. When borrowers prepay their mortgage loans at rates that are faster or slower than expected, it results in prepayments that are faster or slower than expected on the mortgage loans and any related MBS. These faster or slower than expected payments may adversely affect our profitability, although the effects vary because upon prepayment we can receive 100% of the remaining UPB that we had purchased at a significant discount.
We may purchase loans that have a higher interest rate than the prevailing market interest rate. In exchange for this higher interest rate, we may pay a premium to par value to acquire the loan. In accordance with U.S. GAAP, we amortize this premium over the expected term of the security or loan based on our prepayment assumptions or its contractual terms, depending on the type of loan or security purchased. If a loan is prepaid in whole or in part at a faster than its expected rate or contractual term (as applicable), we must expense all or a part of the remaining unamortized portion of the premium that was paid at the time of the purchase, which will adversely affect our profitability.
We also may purchase securities or loans that have a lower interest rate than the prevailing market interest rate. In exchange for this lower interest rate, we may pay a discount to par value to acquire the loan. We accrete this discount over the expected term of the loan based on our prepayment assumptions or its contractual terms, depending on the type of loan or security purchased. If a loan is prepaid at a slower than expected rate, however, we must accrete the remaining portion of the discount at a slower than expected rate. This will extend the expected life of investment portfolio and result in a lower than expected yield on loans purchased at a discount to par.
Prepayment rates generally increase when interest rates fall and decrease when interest rates rise, but changes in prepayment rates are difficult to predict. Prepayments can also occur when borrowers sell the property and use the sale proceeds to prepay the mortgage as part of a physical relocation or when borrowers default on their mortgages and the mortgages are prepaid from the proceeds of a foreclosure sale of the property. The GSE guidelines for repurchasing delinquent loans from MBS trusts and changes in such guidelines also affect prepayment rates. Consequently, prepayment rates also may be affected by conditions in the housing and financial markets, which may result in increased delinquencies on mortgage loans, cost of capital, general economic conditions and the relative interest rates on fixed and adjustable rate loans, which could lead to an acceleration of the payment of the related principal.
The adverse effects of prepayments may affect us in various ways. Particular investments may underperform relative to any hedges that we may have constructed for these assets, resulting in a loss to us. Furthermore, to the extent that faster prepayment rates are due to lower interest rates, the principal payments received from prepayments will tend to be reinvested in lower-yielding assets, which may reduce our income in the long run. Therefore, if actual prepayment rates differ from anticipated prepayment rates, our business, financial condition and results of operations and ability to make distributions to our stockholders could be materially adversely affected.
Slower prepayments may result in lower yields, current period income and cash collections as payments of interest and principal may be collected over a longer time period. While total cash collection may be higher than anticipated over the life of the loan, current period operating results could be adversely impacted.
The real estate assets and real estate-related assets we invest in are subject to the risks associated with real property.
We own real estate directly as well as assets that are secured by real estate. Real estate assets are subject to various risks, including:
•declines in the value of real estate, including as a result of the COVID-19 pandemic;
•acts of nature, including earthquakes, floods and other natural disasters, which may result in uninsured losses;
•acts of war or terrorism, including the consequences of terrorist attacks, such as those that occurred on September 11, 2001;
•adverse changes in national and local economic and market conditions;
•changes in governmental laws and regulations, fiscal policies and zoning ordinances and the related costs of compliance with laws and regulations, fiscal policies and ordinances;
•costs of remediation and liabilities associated with environmental conditions such as indoor mold; and
•the potential for uninsured or under-insured property losses.
We expect the value of U.S. real estate to significantly decline in urban areas as a result of the COVID-19 pandemic. The occurrence of any of the foregoing or similar events may reduce our return from an affected property or asset and, consequently, materially adversely affect our business, financial condition and results of operations and our ability to make distributions to our stockholders.
We are subject to risks of loss from weather conditions, man-made or natural disasters and climate change.
Weather conditions and man-made or natural disasters such as hurricanes, tornadoes, earthquakes, floods, droughts, fires and other environmental conditions can damage properties that we own or that collateralize our loans. If properties collateralizing our mortgage loans incur damages that reduce the value of the collateral to an amount below the UPB of our loan, borrowers may cease making payments to us on those loans, and any foreclosure efforts may recover substantially less value than the amount we are due or no value at all. Because we seek to build concentrations of mortgage loans and real properties in certain markets, we may be particularly vulnerable to the impact of a localized weather condition, man-made or natural disaster or effects of climate change. Any of these events could adversely impact the demand for, and value of, our assets and could also directly impact the value of our assets through damage, destruction or loss, and could thereafter materially impact the availability or cost of insurance to protect against these events. Although we believe the properties collateralizing our mortgage loans and our remaining owned real estate are adequately covered by insurance, we cannot predict if we or our borrowers will be able to obtain appropriate coverage at a reasonable cost in the future, or if we will be able to continue to pass along all of the costs of insurance to our tenants. Any weather conditions, man-made or natural disasters or effects of climate change, whether or not insured, could have a material adverse effect on our financial performance, the market price of our common shares and our ability to pay dividends. In addition, there is a risk that one or more of our property insurers may not be able to fulfill their obligations with respect to claims payments due to deterioration in their financial condition driven by such events.
Investments in second-lien mortgage loans could subject us to increased risk of losses.
We invest in second-lien mortgage loans or create securitizations with MBS backed by such loans. If a borrower defaults on a second lien mortgage loan or on its senior debt (i.e., a first-lien loan in the case of a residential mortgage loan), or in the event of a borrower bankruptcy, such loan will be satisfied only after all senior debt is paid in full. As a result, if we invest in second-lien mortgage loans and the borrower defaults, we may lose all or a significant part of our investment.
The allocation of capital among our mortgage loans may vary, which may adversely affect our financial performance.
In executing our business plan, we regularly consider the allocation of capital between residential mortgage loans, SBC loans and REO. The allocation of capital may vary due to market conditions, the expected relative return on equity of each, the judgment of our Manager, the demand in the marketplace for certain mortgage loans and REO and the availability of specific investment opportunities. We also consider the availability and cost of our likely sources of capital. If we fail to appropriately allocate capital and resources across mortgage loans or fail to optimize our acquisition and capital raising opportunities, our financial performance may be adversely affected.
Our use of models in connection with the valuation of our assets and determination of the timing and amount of cash flows expected to be collected subjects us to potential risks in the event that such models are incorrect, misleading or based on incomplete information.
As part of the risk management process, we use our Manager’s detailed proprietary models to evaluate, depending on the asset class, house price appreciation and depreciation by county, region, prepayment speeds and foreclosure frequency, cost and timing. Models and data are used to value assets or potential assets, assess the timing and amount of cash flows expected to be collected, and may also be used in connection with any hedging of our acquisitions. Many of the models are based on historical trends. These trends may not be indicative of future results. Furthermore, the assumptions underlying the models may
prove to be inaccurate, causing the models to also be incorrect. In the event models and data prove to be incorrect, misleading or incomplete, any decisions made in reliance thereon expose us to potential risks. For example, by relying on incorrect models and data, especially valuation or cash flow models, we may be induced to buy certain assets at prices that are too high, to sell certain other assets at prices that are too low, overestimate the timing or amount of cash flows expected to be collected, underestimate the timing or amount of cash flows expected to be collected, or to miss favorable opportunities altogether. Similarly, any hedging based on faulty models and data may prove to be unsuccessful.
Valuations of some of our assets will be inherently uncertain, may be based on estimates, may fluctuate over short periods of time and may differ from the values that would have been used if a ready market for these assets existed.
While in some cases our determination of the fair value of our assets will be based on valuations provided by third-party dealers and pricing services, we will value most of our assets using unobservable inputs based upon our judgment, and such valuations may differ from those provided by third-party dealers and pricing services. Valuations of certain assets are often difficult to obtain or unreliable. In general, dealers and pricing services heavily disclaim their valuations. Additionally, dealers may claim to furnish valuations only as an accommodation and without special compensation, and so they may disclaim any and all liability for any direct, incidental or consequential damages arising out of any inaccuracy or incompleteness in valuations, including any act of negligence or breach of any warranty. Depending on the complexity and illiquidity of an asset, valuations of the same asset can vary substantially from one dealer or pricing service to another. The valuation process has been particularly difficult recently because market events have made valuations of certain assets unpredictable, and the disparity of valuations provided by third-party dealers has widened.
Our business, financial condition and results of operations and our ability to make distributions to our stockholders could be materially adversely affected if our fair value measurements of these assets were materially higher than the values that would exist if a ready market existed for these assets.
An increase in interest rates may cause a decrease in the amount of certain of our target assets that are available for acquisition, which could adversely affect our ability to acquire target assets that satisfy our investment objectives and to generate income and pay dividends.
Rising interest rates generally reduce the demand for mortgage loans due to the higher cost of borrowing. A reduction in the volume of mortgage loans originated may affect the amount of target assets available to us for acquisition, which could adversely affect our ability to acquire assets that satisfy our investment objectives. Rising interest rates may also cause our target assets that were issued prior to an interest rate increase to provide yields that are below prevailing market interest rates. If rising interest rates cause us to be unable to acquire a sufficient volume of our target assets with a yield that is above our borrowing cost, our ability to satisfy our investment objectives and to generate income and pay dividends may be materially and adversely affected.
An increase in interest rates may cause a decrease in the ability of our borrowers to refinance their existing mortgages, and may cause additional economic distress for borrowers with mortgages subject to changes in interest rates, causing our cash collections to decrease, and our anticipated resolution timelines to increase.
Rising interest rates may reduce the desirability of refinancing existing mortgages by increasing a borrower’s monthly payments. Rising interest rates may also cause economic distress to borrowers with mortgage terms that subject them to market-based increases in interest rates. Consequently borrowers who might otherwise have refinanced their mortgages may not be able to do so on favorable terms. And borrowers with interest-rate sensitive mortgages may experience payment increases that preclude their ability to makes such payments in a timely manner, if at all. As a result, the duration of our resolution timelines may be extended, with an associated negative impact in our cash collections and /or our earnings.
The Servicer’s operations are heavily regulated at the U.S. federal, state and local levels and its failure to comply with applicable regulations could materially adversely affect our expenses and results of operations, and there is no assurance that we could replace the Servicer with servicers that satisfy our requirements or with whom we could enter into agreements on satisfactory terms.
In January 2018, we acquired a 4.9% equity interest in the parent company of our Servicer which increased to 8.0% in May 2018, and we also own warrants to purchase additional equity interests. The Servicer must comply with a wide array of U.S. federal, state and local laws and regulations that regulate, among other things, the manner in which it services our mortgage loans and manages our real property in accordance with the Servicing Agreement, including CFPB mortgage servicing regulations promulgated pursuant to the Dodd-Frank Act, and temporary payment forbearance requirements and foreclosure moratorium under the CARES Act. These laws and regulations cover a wide range of topics such as licensing;
allowable fees and loan terms; permissible servicing and debt collection practices; limitations on forced-placed insurance; special consumer protections in connection with default and foreclosure; and protection of confidential, nonpublic consumer information (privacy). The volume of new or modified laws and regulations has increased in recent years, and states and individual cities and counties continue to enact laws that either restrict or impose additional obligations in connection with certain loan origination, acquisition and servicing activities in those cities and counties. The laws and regulations are complex and vary greatly among the states and localities, and in some cases, these laws are in direct conflict with each other or with U.S. federal law. In addition, these laws and regulations often contain vague standards or requirements, which make compliance efforts challenging. Material changes in these rules and regulations could increase our expenses under the Servicing Agreement. From time to time, the Servicer may be party to certain regulatory inquiries and proceedings, which, even if unrelated to the residential mortgage servicing operation, may result in adverse findings, fines, penalties or other assessments and may affect adversely its reputation. The Servicer’s failure to comply with applicable laws and regulations could adversely affect our expenses and results of operations. If we were to determine to change servicers, there is no assurance that we could find servicers that satisfy our requirements or with whom we could enter into agreements on satisfactory terms. The Servicer’s failure to comply with these laws and regulations could also indirectly result in damage to our reputation in the industry and adversely affect our ability to effect our business plan.
The failure of the Servicer to service our assets effectively would materially and adversely affect us.
We rely on the Servicer to service and manage our assets, including managing collections on our whole mortgage loans and the mortgage loans underlying our retained MBS. If the Servicer is not vigilant in encouraging borrowers to make their monthly payments, the borrowers may be far less likely to make these payments, which could result in a higher frequency of default. If the Servicer takes longer than we expect to liquidate non-performing assets, our losses may be higher than originally anticipated. We also rely on the Servicer to provide all of our property management, lease management and renovation management services associated with the real properties we acquire upon conversion of residential mortgage loans that we own or that we acquire directly. The failure of the Servicer to effectively service our mortgage loan assets, including the mortgage loans underlying any MBS we may own, REO and other real estate-related assets could negatively impact the value of our investments and our performance.
We rely on the Servicer for our loss mitigation efforts relating to mortgage loan assets, which loss mitigation efforts may be unsuccessful or not cost-effective.
We depend on a variety of services provided by the Servicer, including, among other things, to collect principal and interest payments on our whole mortgage loans as well as the mortgage loans underlying our retained MBS and to perform loss mitigation services. In addition, legislation and regulation that have been enacted or that may be enacted in order to reduce or prevent foreclosures through, among other things, loan modifications, may reduce the value of mortgage loans. Mortgage servicers may be required or incentivized by the U.S. federal government or other jurisdictions to pursue such loan modifications, as well as forbearance plans and other actions intended to prevent foreclosure, even if such loan modifications and other actions are not in the best interests of the owners of the mortgage loans. In addition to legislation and regulation that establish requirements or create financial incentives for mortgage loan servicers to modify loans and take other actions that are intended to prevent foreclosures, federal legislation has also been adopted that creates a safe harbor from liability to creditors for servicers that undertake loan modifications and other actions that are intended to prevent foreclosures. Finally, recent laws and regulations, including CFPB regulations, delay the initiation or completion of foreclosure proceedings on specified types of residential mortgage loans or otherwise limit the ability of mortgage servicers to take actions that may be essential to preserve the value of the mortgage loans underlying the MBS. Any such limitations are likely to cause delayed or reduced collections from mortgagors and generally increase servicing costs. As a result of these legislative and regulatory actions, the Servicer may not perform in our best interests or up to our expectations, which could materially adversely affect our business, financial condition, results of operations and our ability to make distributions to our stockholders. Furthermore, the lack of government assistance and relief made available to mortgage servicers as a result of the COVID-19 pandemic may materially and adversely impact the Servicer.
Certain mortgage loans our Servicer services are higher risk loans, which are more expensive to service than conventional mortgage loans.
Certain mortgage loans our Servicer services are higher risk loans, meaning that the loans are made to less credit worthy borrowers or for properties the value of which has decreased. These loans are more expensive to service because they require more frequent interaction with customers and greater monitoring and oversight. Additionally, in connection with mortgage market reforms and recent and possible future regulatory developments, servicers of higher risk loans are subject to increased scrutiny by state and federal regulators and experience higher compliance costs, which could result in a further increase in servicing costs. Our Servicer may not be able to pass along any of the additional expenses it incurs in servicing
higher risk loans to its servicing clients. The greater cost of servicing higher risk loans, which may be further increased through regulatory changes, consent decrees or enforcement, could adversely affect ours and our Servicer’s business, financial condition and results of operations.
We may be affected by deficiencies in foreclosure practices of third parties, as well as related delays in the foreclosure process as a result of the COVID-19 pandemic.
As a reaction to the COVID-19 pandemic, the U.S. federal government has instituted and may continue to institute programs aimed at assisting at-risk homeowners, or reducing the number of properties going into foreclosure or going into non-performing status. As a result, there is significant uncertainty regarding the timing and ability of servicers to remove delinquent borrowers from their homes, so that they can liquidate the underlying properties and ultimately pass the liquidation proceeds through to owners of the mortgage loans or related MBS. In addition, given the magnitude of the housing crisis, and in response to the well-publicized failures of many servicers to follow proper foreclosure procedures (such as “robo-signing”), mortgage servicers are being held to much higher foreclosure-related documentation standards than they previously were. However, because many mortgages have been transferred and assigned multiple times (and by means of varying assignment procedures) throughout the origination, warehouse and securitization processes, mortgage servicers may have difficulty furnishing the requisite documentation to initiate or complete foreclosures. This leads to stalled or suspended foreclosure proceedings, and ultimately additional foreclosure-related costs. Foreclosure-related delays also tend to increase ultimate loan loss severities as a result of property deterioration, amplified legal and other costs, and other factors. Many factors delaying foreclosure, such as borrower lawsuits, judicial backlog and scrutiny, and government-mandated foreclosure moratoria as a result of the COVID-19 pandemic, are outside of servicers’ control and have delayed, and will likely continue to delay, foreclosure processing in both judicial states (where foreclosures require court involvement) and non-judicial states. The Servicer’s failure or inability to remove delinquent borrowers from their homes in a timely manner could increase our costs, adversely affect the value of the property and mortgage loans and have a material adverse effect on our results of operations and business.
Changes in applicable laws or noncompliance with applicable law could materially and adversely affect us.
As an owner of real estate, we are required to comply with numerous U.S. federal, state and local laws and regulations, some of which may conflict with one another or be subject to limited judicial or regulatory interpretations. These laws and regulations may include zoning laws, building codes, landlord-tenant laws and other laws generally applicable to business operations. Noncompliance with laws or regulations could expose us to liability.
Lower revenue growth or significant unanticipated expenditures may result from our need to comply with changes in (i) laws imposing remediation requirements and potential liability for environmental conditions existing on properties or the restrictions on discharges or other conditions, (ii) rent control or rent stabilization laws or other residential landlord-tenant laws or (iii) other governmental rules and regulations or enforcement policies affecting the rehabilitation, use and operation of any single-family rental properties we may own, including changes to building codes and fire and life-safety codes.
Our decision whether to rent or sell any REO we acquire upon conversion of NPLs or acquire directly will depend on conditions in the relevant geographic markets, and if our assumptions about rental rates and occupancy levels in our markets are not accurate, our operating results and cash available for distribution could be adversely affected.
We either sell or rent the real property, either single-family residences or smaller commercial properties, that we acquire upon conversion of non-performing mortgage loans or directly. The success of our business model substantially depends on conditions in the applicable sales or rental markets in the relevant geographic markets, including, among other things, occupancy and rent levels. If those assumptions prove to be inaccurate, our operating results and cash available for distribution could be lower than expected, potentially materially.
Rental rates and occupancy levels for single-family residential properties have benefited in recent periods from macroeconomic trends affecting the U.S. economy and residential real estate and mortgage markets in particular, including:
•increases in housing costs which make the traditional concept of home ownership, especially for younger workers, more difficult;
•a tightening of credit that has made it more difficult to finance a home purchase, combined with efforts by consumers generally to reduce their exposure to credit;
•economic and employment conditions that have increased foreclosure rates; and
•a concentration of high-paying employment opportunities in certain large metropolitan areas currently experiencing significant HPA is pricing homes beyond the reach of many buyers, and also forcing reductions in HPA in outlying areas.
The single-family rental market is currently significantly larger than in historical periods. We do not expect the favorable trends in the single-family rental market to continue indefinitely. The strengthening of the U.S. economy and job growth, the current availability of low residential mortgage rates and government-sponsored programs promoting home ownership, may contribute to a stabilization or reversal of the current trend that favors renting rather than homeownership. In addition, we expect that as investors increasingly seek to capitalize on opportunities to purchase undervalued housing properties and convert them to productive uses, the supply of single-family rental properties will decrease and the competition for tenants will intensify. To the extent that a significant portion of our business becomes single-family rentals, a softening of the rental property market in our markets could adversely affect our operating results and cash available for distribution, potentially materially.
We may incur significant costs in restoring our properties, and we may underestimate the costs or amount of time necessary to complete restorations.
Before determining whether to rent or sell any of our properties, the Servicer will perform a detailed assessment, including on-site reviews of such properties, to identify the scope of restoration to be completed. Beyond customary repairs, we may undertake improvements designed to optimize overall property appeal and increase the value and rentability of the property when such improvements can be done cost effectively. To the extent properties are occupied, restorations may be postponed until the premises are vacated. We expect that nearly all of our properties will require some level of restoration immediately upon their acquisition or in the future following expiration of a lease or otherwise. We may acquire properties that we plan to restore extensively. In addition, in order to reposition properties in the rental market, we will be required to make ongoing capital improvements and may need to perform significant restorations and repairs from time to time. Consequently, we are exposed to the risks inherent in property restoration, including potential cost overruns, increases in labor and material costs, delays by contractors in completing work, delays in the timing of receiving necessary work permits and certificates of occupancy and poor workmanship. If our assumptions regarding the cost or timing of restorations across our properties prove to be materially inaccurate, we could be materially and adversely affected.
Contingent or unknown liabilities could materially and adversely affect us.
Our acquisition activities are subject to many risks. We may acquire properties that are subject to unknown or contingent liabilities, including liabilities for or with respect to liens attached to properties, unpaid real estate taxes, utilities or other charges for which a prior owner remains liable, clean-up or remediation of environmental conditions or code violations, claims of vendors or other persons dealing with the acquired properties and tax liabilities, among other things. In each case, our acquisition may be without any, or with only limited, recourse with respect to unknown or contingent liabilities or conditions. As a result, if any such liability were to arise relating to our properties, or if any adverse condition exists with respect to our properties that is in excess of our insurance coverage, we might have to pay substantial sums to settle or cure it, which could materially and adversely affect us. The properties we acquire may also be subject to covenants, conditions or restrictions that restrict the use or ownership of such properties, including zoning laws and regulations and prohibitions on leasing or on tenant evictions, or requirements to obtain the approval of home owner associations prior to leasing. We may not discover such restrictions during the acquisition process and such restrictions may adversely affect our ability to operate such properties as we intend.
Poor tenant selection and defaults by our tenants may materially and adversely affect us.
Our success with any REO that we may seek to rent will depend, in large part, upon our Servicer’s ability to attract and retain qualified tenants for our properties, whether residential or commercial. This will depend, in turn, upon our ability to screen applicants, identify good tenants and avoid tenants who may default. We will inevitably make mistakes in our selection of tenants, and we may rent to tenants whose default on our leases or failure to comply with the terms of the lease or other regulations could materially and adversely affect us and the quality and value of our properties. For example, tenants may default on payment of rent, make unreasonable and repeated demands for service or improvements, make unsupported or unjustified complaints to regulatory or political authorities, make use of our properties for illegal purposes, damage or make unauthorized structural changes to our properties that may not be fully covered by security deposits, refuse to leave the property when the lease is terminated, engage in domestic violence or similar disturbances, disturb nearby residents with noise, trash, odors or eyesores, fail to comply with applicable regulations, sub-let to less desirable individuals in violation of our leases or permit unauthorized persons to occupy the property.
In addition, defaulting tenants will often be effectively judgment-proof. The process of evicting a defaulting tenant from a family residence can be adversarial, protracted and costly. Furthermore, some tenants facing eviction may damage or destroy the property. Damage to our properties may significantly delay re-leasing after eviction, necessitate expensive repairs or
impair the rental revenue or value of the property. In addition, we will incur turnover costs associated with re-leasing the properties, such as marketing expense and brokerage commissions, and will not collect revenue while the property is vacant. Although we will attempt to work with tenants to prevent such damage or destruction, there can be no assurance that we will be successful in all or most cases. Such tenants will not only cause us not to achieve our financial objectives for the properties in which they live, but may subject us to liability, and may damage our reputation with our other tenants and in the communities where we do business.
A significant uninsured property or liability loss could have a material adverse effect on us.
We carry commercial general liability insurance and property insurance with respect to our rental properties on terms we consider commercially reasonable. There are, however, certain types of losses (such as losses arising from acts of war) that are not insured, in full or in part, because they are either uninsurable or the cost of insurance makes it economically impractical. If an uninsured property loss or a property loss in excess of insured limits were to occur, we could lose our capital invested in a single-family rental property or group of rental properties as well as the anticipated future revenues from such single-family rental property or group of properties. If an uninsured liability to a third party were to occur, we would incur the cost of defense and settlement with or court ordered damages to that third party. A significant uninsured property or liability loss could materially and adversely affect us.
We may be required to make determinations of a borrower’s creditworthiness based on incomplete information or information that we cannot verify, which may cause us to purchase or originate loans that we otherwise would not have purchased or originated and, as a result, may negatively impact our business or reputation.
The commercial real estate lending business depends on the creditworthiness of borrowers, which we must judge. In making such judgment, we may depend on information obtained from non-public sources and the borrowers in making acquisition decisions and such information may be difficult to obtain or may be inaccurate. As a result, we may be required to make decisions based on incomplete information or information that is impossible or impracticable to verify. A determination as to the creditworthiness of a prospective borrower is based on a wide range of information including, without limitation, information relating to the form of entity of the prospective borrower, which may indicate whether the borrower can limit the impact that its other activities have on its ability to pay obligations related to the SBC loan.
We may change our investment strategy, investment guidelines and asset allocation without notice or stockholder consent which may result in riskier investments. In addition, our charter provides that our Board of Directors may authorize us to revoke or otherwise terminate our REIT election without the approval of our stockholders.
Our Board of Directors has the authority to change our investment strategy or asset allocation at any time without notice to or consent from our stockholders. To the extent that our investment strategy changes in the future, we may make investments that are different from, and possibly riskier than, the investments described in this Annual Report. A change in our investment or leverage strategy may increase our exposure to interest rate and real estate market fluctuations or require us to sell a portion of our existing investments, which could result in gains or losses and therefore increase our earnings volatility. Decisions to employ additional leverage in executing our investment strategies could increase the risk inherent in our asset acquisition strategy. Furthermore, a change in our asset allocation could result in our allocating assets in a different manner than as described in this Annual Report.
In addition, our charter provides that our Board of Directors may authorize us to revoke or otherwise terminate our REIT election, without the approval of our stockholders, if it determines that it is no longer in our best interests to qualify as a REIT. These changes could adversely affect our financial condition, results of operations, the market value of our common stock, and our ability to make distributions to our stockholders.
Our inability to compete effectively in a highly competitive market could adversely affect our ability to implement our business strategy, which could materially and adversely affect us.
Our profitability depends, in large part, on our ability to acquire targeted assets at favorable prices. We face significant competition when acquiring RPLs and SBC loans and our other targeted assets. Our competitors include other mortgage REITs, financial companies, public and private funds, hedge funds, commercial and investment banks and residential and commercial finance companies. Many of our competitors are substantially larger and have considerably greater access to capital and other resources than we do. Furthermore, new companies with significant amounts of capital have recently been formed or have raised additional capital, and may continue to be formed and raise additional capital in the future, and these companies may have objectives that overlap with ours, which may create competition for assets we wish to acquire. Some competitors may have a lower cost of funds and access to funding sources that are not available to us. In addition, some of our competitors may
have higher risk tolerances or different risk assessments, which could allow them to consider a wider variety of assets to acquire and establish more relationships than us. We also may have different operating constraints from those of our competitors including, among others, tax-driven constraints such as those arising from our intention to qualify and maintain our qualification as a REIT and restraints imposed on us by our attempt to comply with certain exclusions from the definition of an “investment company” or other exemptions under the Investment Company Act. Furthermore, competition for assets in our targeted asset classes may lead to the price of such assets increasing, may reduce the number of attractive RPL and SBC loan investment opportunities available to us or increase the bargaining power of asset owners seeking to sell, which would increase the prices for these assets. If such events occur, our ability to implement our business strategy could be adversely affected, which could materially and adversely affect us. We cannot assure you that the competitive pressures we face will not have a material adverse effect on our business, financial condition and results of operations.
Our ability to make distributions to our stockholders depends on our operating results, our financial condition and other factors, and we may not be able to make regular cash distributions at a fixed rate or at all under certain circumstances.
We make distributions to our stockholders in amounts such that we distribute substantially all of our taxable income in each year (subject to certain adjustments). This distribution policy enables us to avoid being subject to U.S. federal income tax on our taxable income that we distribute to our stockholders. However, our ability to make distributions depends on our results of operations, which may experience uneven cash flow because we hold RPLs and NPLs, our earnings, applicable law, our financial condition and such other factors as our Board of Directors may deem relevant from time to time. We will declare and make distributions to our stockholders only to the extent approved by our Board of Directors.
We are highly dependent on communications and information systems operated by third parties, and systems failures could significantly disrupt our business and negatively impact our operating results.
Our business is highly dependent on communications and information systems that allow us to monitor, value, buy, sell, finance and hedge our investments. These systems are operated by third parties, including our affiliates, and, as a result, we have limited ability to ensure continued operation. In the event of systems failure or interruption, we will have limited ability to affect the timing and success of systems restoration. Any failure or interruption of our systems could cause delays or other problems in our securities trading activities which could have a material adverse effect on our business, financial condition and results of operations and our ability to pay distributions to our stockholders.
Security breaches and other disruptions could compromise our information and expose us to liability, which would cause our business and reputation to suffer.
In the ordinary course of our business, we, through the Servicer, may acquire and store sensitive data on our network, such as our proprietary business information and personally identifiable information of borrowers obligated on loans and our prospective and current mortgages and tenants. The secure processing and maintenance of this information is critical to our business strategy. Despite our security measures, our information technology and infrastructure may be vulnerable to attacks by hackers or breached due to employee error, malfeasance or other disruptions. Any such breach could compromise our networks and the information stored there could be accessed, publicly disclosed, lost or stolen. Any such access, disclosure or other loss of information could result in legal claims or proceedings, liability under laws that protect the privacy of personal information, regulatory penalties, disruption to our operations and the services we provide to customers or damage our reputation, which could materially and adversely affect us.
Uncertainty about the future of the LIBOR may adversely affect our business and financial results.
LIBOR and other indices which are deemed "benchmarks" are the subject of recent national, international, and other regulatory guidance and proposals for reform. Some of these reforms are already effective, whereas others are still to be implemented. These reforms may cause such benchmarks to perform differently than in the past, or have other consequences which cannot be predicted. We expect that, over time, the Secured Overnight Financing Rate (“SOFR”) published by Federal Reserve Bank of New York will replace U.S. Dollar LIBOR as the principal reference rate for U.S. Dollar-denominated floating rate instruments. However, the manner and timing of this shift is currently unknown. SOFR is an overnight rate instead of a term rate, making SOFR an inexact replacement for LIBOR. Market participants are still considering how various types of financial instruments and securitization vehicles should be modified following a discontinuation of LIBOR. It is possible that not all of our assets and liabilities will transition away from LIBOR at the same time, and it is possible that not all of our assets and liabilities will transition to the same alternative reference rate. No assurance can be provided that these uncertainties or their resolution will not adversely affect the use, level, and volatility of SOFR, LIBOR or other interest rates or the value of SOFR-based or LIBOR-based securities, including our mortgage loans. These uncertainties or their resolution also could negatively
impact our loan and other asset values, interest income, funding costs, asset-liability management strategies, and other aspects of our business and financial results.
Risks Related to Leverage and Hedging
We use leverage in executing our business strategy, which may adversely affect the return on our assets and may reduce cash available for distribution to our stockholders and increase losses when economic conditions are unfavorable.
We use leverage to finance our investment operations and to enhance our financial returns and potentially to pay dividends. Sources of leverage may include bank credit facilities, warehouse lines of credit, structured financing arrangements (including securitizations) and repurchase agreements, among others. We may also seek to raise additional capital through public or private offerings of debt or equity securities, depending upon market conditions. We may use repurchase agreements to acquire certain assets, including our internally developed MBS, until we can securitize the assets. Because repurchase agreements are short-term borrowing, typically with 30- to 90-day terms (although some may have terms up to 364 days), they are more subject to volatility in interest rates and lenders willingness to extend such borrowings. We currently do not expect a majority of our borrowings to be repurchase agreements or other short-term borrowings. Through the use of leverage, we may acquire positions with market exposure significantly greater than the amount of capital committed to the transaction. We intend to use leverage for the primary purpose of financing acquisitions for our portfolio and not for the purpose of speculating on changes in interest rates. We do not have a targeted debt-to-equity ratio generally or for specific asset classes. We may, however, be limited or restricted in the amount of leverage we may employ by the terms and provisions of any financing or other agreements that we may enter into in the future, and we may be subject to margin calls as a result of our financing activity. Our ability to achieve our investment and leverage objectives depends on our ability to borrow money in sufficient amounts and on favorable terms and, as necessary, to renew or replace borrowings as they mature.
Leverage magnifies both the gains and the losses of our positions. Leverage increases our returns as long as we earn a greater return on investments purchased with borrowed funds than our cost of borrowing such funds. However, if we use leverage to acquire an asset and the value of the asset decreases, the leverage increases our losses. Even if the asset increases in value, if the asset fails to earn a return that equals or exceeds our cost of borrowing, the leverage decreases our returns.
We may be required to post large amounts of cash as collateral or margin to secure our repurchase commitments. In the event of a sudden, precipitous drop in value of our financed assets, we might not be able to liquidate assets quickly enough to repay our borrowings, further magnifying losses. Even a small decrease in the value of a leveraged asset may require us to post additional margin or cash collateral. This may decrease the cash available to us for distributions to stockholders, which could adversely affect the price of our common stock. In addition, our debt service payments reduce cash flow available for distribution to stockholders. We may not be able to meet our debt service obligations. To the extent that we cannot meet our debt service obligations, we risk the loss of some or all of our assets to sale to satisfy our debt obligations.
To the extent we are compelled to liquidate qualifying real estate assets to repay debts, our compliance with the REIT rules regarding our assets and our sources of income could be negatively affected, which could jeopardize our ability to qualify and maintain our qualification as a REIT. Failing to qualify as a REIT would cause us to be subject to U.S. federal income tax (and any applicable state and local taxes) on all of our income and decrease profitability and cash available for distributions to stockholders.
We may not be able to achieve our optimal leverage or target leverage ratios.
We use leverage as a strategy to increase the return to our investors. However, we may not be able to achieve our desired leverage for any of the following reasons:
•we determine that the leverage would expose us to excessive risk;
•our lenders do not make funding available to us at acceptable rates or on acceptable terms; and
•our lenders require that we provide additional collateral to cover our borrowings which may be the case in volatile markets.
In addition, if we exceed our target leverage ratios, the potential adverse impact on our financial condition and results of operation described above may be amplified.
Non-recourse long-term financing structures such as securitizations expose us to risks that could result in losses to us.
We have used and intend to continue to use securitization and other non-recourse long-term financing for our investments if, and to the extent, available. In such structures, lenders typically have only a claim against the assets included in the securitizations rather than a general claim against the owner-entity. Prior to each such financing, we may seek to finance our investments with relatively short-term facilities until a sufficient portfolio is accumulated. As a result, we would be subject to the risk that we would not be able to acquire, during the period that any short-term facilities are available, sufficient eligible assets or securities to maximize the efficiency of a securitization.
We also bear the risk that we may not be able to obtain new short-term facilities or may not be able to renew any short-term facilities after they expire should we need more time to seek and acquire sufficient eligible assets or securities for a securitization. In addition, conditions in the capital markets may make the issuance of any such securitization less attractive to us even when we do have sufficient eligible assets or securities. While we retain and expect to retain the unrated equity component of securitizations and, therefore, still have exposure to any investments included in such securitizations, our inability to enter into such securitizations may increase our overall exposure to risks associated with direct ownership of such investments, including the risk of default. Additionally, the securitization of our portfolio could magnify our exposure to losses because any equity interest we retain in the issuing entity would be subordinate to the notes issued to investors and we would, therefore, absorb all of the losses sustained with respect to a securitized pool of assets before the owners of the notes experience any losses. An inability to securitize our portfolio may adversely affect our performance and our ability to grow our business.
Our inability to refinance any short-term facilities would also increase our risk because borrowings thereunder would likely be recourse to us as an entity. If we are unable to obtain and renew short-term facilities or to consummate securitizations to finance our investments on a long-term basis, we may be required to seek other forms of potentially less attractive financing or to liquidate assets at an inopportune time or price.
Additionally, our secured debt is structured with multiple interest rate step-ups generally beginning after an initial three-year borrowing term. While we fully intend to refinance these borrowings at lower interest rates before the step-up date is reached, we cannot guarantee that we will be able to refinance these borrowings on favorable terms, or at all, potentially exposing us to higher amounts of interest expense.
Our failure to comply with covenants contained in any debt agreement, including as a result of events beyond our control, could result in an event of default that could materially and adversely affect our operating results and our financial condition.
We may enter into debt facilities that will require us to comply with various operational, reporting and other covenants that limit us from engaging in certain types of transactions. If there were an event of default under our debt facilities that was not cured or waived, the holders of the defaulted debt could cause all amounts outstanding with respect to that debt to be immediately due and payable. We cannot assure you that our assets or cash flow would be sufficient to fully repay borrowings under our outstanding debt instruments, either upon maturity or if accelerated, upon an event of default, or that we would be able to refinance or restructure the payments on those debt instruments.
Hedging against interest rate changes and other risks may materially adversely affect our business, financial condition and results of operations and our ability to make distributions to our stockholders.
Subject to qualifying and maintaining our qualification as a REIT and exemption from registration under the Investment Company Act, we may pursue various hedging strategies to seek to reduce our exposure to adverse changes in interest rates. Our hedging activity would vary in scope based on the level and volatility of interest rates, the types of liabilities and assets held and other changing market conditions. Interest rate hedging may fail to protect or could adversely affect us because, among other things:
•interest rate hedging can be expensive, particularly during periods of rising and volatile interest rates;
•available interest rate hedges may not correspond directly with the interest rate risk for which protection is sought;
•the duration of the hedge may not match the duration of the related assets or liabilities being hedged;
•to the extent hedging transactions do not satisfy certain provisions of the Code or are not made through a TRS, the amount of income that a REIT may earn from hedging transactions to offset interest rate losses is limited by the Code provisions governing REITs;
•the value of derivatives used for hedging is adjusted from time to time in accordance with accounting rules to reflect changes in fair value; and downward adjustments, or “mark to market losses,” would reduce our stockholders’ equity;
•the credit quality of the hedging counterparty owing money on the hedge may be downgraded to such an extent that it impairs our ability to sell or assign our side of the hedging transaction; and
•the hedging counterparty owing money in the hedging transaction may default on its obligation to pay.
Our hedging transactions, which would be intended to limit losses, may actually adversely affect our earnings, which could reduce our cash available for distribution to our stockholders.
Risks Related to Regulatory and Legislative Actions
We operate in a highly regulated industry and continually changing U.S. federal, state and local laws and regulation could materially adversely affect our business, financial condition and results of operations and our ability to pay dividends to our stockholders.
The residential mortgage industry is highly regulated. We and our Manager are required to comply with a wide array of U.S. federal, state and local laws and regulations that regulate, among other things, the manner in which each of us conducts our businesses. These regulations directly impact our business and require constant compliance, monitoring and internal and external audits. A material failure to comply with any of these laws or regulations could subject us and our Manager to lawsuits or governmental actions and damage our reputation, which could materially adversely affect our business, financial condition and results of operations.
On March 27, 2020, the CARES Act was adopted, which, among other things, provides emergency assistance to qualifying businesses and individuals as a result of the COVID-19 pandemic. There can be no assurance that these interventions or future acts by the government will be successful or that the programs established by the CARES Act or future legislation will have and maintain sufficient liquidity to achieve its purpose. While we may indirectly receive financial, tax or other relief and other benefits under and as a result of the CARES Act, it is not possible to estimate at this time the availability, extent or impact of any such relief.
U.S. federal, state and local governments frequently propose or enact new laws, regulations and rules related to mortgage loans, including servicing and collection of mortgage loans. Laws, regulations, rules and judicial and administrative decisions relating to mortgage loans include those pertaining to Real Estate Settlement Procedures Act (“RESPA”), equal credit opportunity, fair lending, fair credit reporting, truth in lending, fair debt collection practices, service members protections, compliance with net worth and financial statement delivery requirements, compliance with U.S. federal and state disclosure and licensing requirements, the establishment of maximum interest rates, finance charges and other charges, qualified mortgages, secured transactions, payment processing, escrow, loss mitigation, collection, foreclosure, repossession and claims-handling procedures, and other trade practices and privacy regulations providing for the use and safeguarding of non-public personal financial information of borrowers. Our service providers, including the Servicer and outside foreclosure counsel retained to process foreclosures, must also comply with many of these legal requirements.
In particular, the Dodd-Frank Act resulted in a comprehensive overhaul of the financial services industry in the United States and includes, among other things (i) the creation of a Financial Stability Oversight Council to identify emerging systemic risks posed by financial firms, activities and practices, and to improve cooperation among U.S. federal agencies, (ii) the creation of the CFPB, authorized to promulgate and enforce consumer protection regulations relating to financial products and services, including mortgage lending and servicing, and to exercise supervisory authority over participants in mortgage lending and mortgage servicing, (iii) the establishment of strengthened capital and prudential standards for banks and bank holding companies, (iv) enhanced regulation of financial markets, including the derivatives and securitization markets, and (v) amendments to the TILA, and the RESPA, aimed at improving consumer protections with respect to mortgage originations and mortgage servicing, including disclosures, originator compensation, minimum repayment standards, prepayment considerations, appraisals and loss mitigation and other servicing requirements. Unpredictable events, such as the recent COVID-19 pandemic, may create economic shocks, to which federal, state, and local governments respond with new borrower and tenant rights and protections. Certain federal and state regulators continue to consider proposals to apply regulatory prudential standards to nonbank servicers, which may impact how our service providers, including the Servicer, are regulated. In addition, a new presidential administration may focus supervision and enforcement tools more aggressively on residential mortgage lenders and servicers, which could result in increased regulatory scrutiny and potentially increased penalties assessed for determinations of non-compliance with applicable requirements.
In addition, although we do not intend to acquire MBS in which the underlying mortgage loans are guaranteed or insured by any GSE or U.S. governmental agency, actions taken by or proposed to be taken by, among others, FHFA, the U.S. Treasury, the Federal Reserve Board or other U.S. governmental agencies that are intended to regulate the origination, underwriting guidelines, servicing guidelines, servicing compensation and other aspects of mortgage loans guaranteed by the GSEs or U.S. governmental agencies (known as “Agency RMBS”) can have indirect and sometimes direct effects on our business and business model, results of operations and liquidity. For example, loan originators and servicers, investors and other participants in the mortgage securities markets may use regulatory guidelines intended for Agency RMBS as guidelines or
operating procedures in respect of non-Agency RMBS. In addition, changes in underwriting guidelines for Agency RMBS generally affect the supply of similar or complementary non-Agency RMBS.
Our Manager’s or our Servicer’s failure to comply with these laws, regulations and rules may result in reduced payments by borrowers, modification of the original terms of mortgage loans, permanent forgiveness of debt, restrictions on tenant evictions, delays in the foreclosure process, increased servicing advances, litigation, enforcement actions, and repurchase and indemnification obligations.
We expect that legislative and regulatory changes will continue in the foreseeable future, which may increase our operating expenses, either to comply with applicable law, to deal with regulatory examinations or investigations, or to satisfy our lenders and investors that we are in compliance with those laws, regulations and rules that are applicable to our business. Any of these new, or changes in, laws, regulations or rules could adversely affect our business, financial condition and results of operations.
Certain jurisdictions require licenses to purchase, hold, enforce or sell residential mortgage loans. In the event that any such licensing requirement is applicable and we are not able to obtain such licenses in a timely manner or at all, our ability to implement our business strategy could be adversely affected, which could materially and adversely affect us.
Certain jurisdictions require a license to purchase, hold, enforce or sell residential mortgage loans. We currently do not hold any such licenses, and there is no assurance that we will be able to obtain them or, if obtained, that we will be able to maintain them. In connection with these licenses we would be required to comply with various information reporting and other regulatory requirements to maintain those licenses, and there is no assurance that we will be able to satisfy those requirements on an ongoing basis. Our failure to obtain or maintain such licenses or our inability to enter into another regulatory-compliant structure, such as establishing a trust with a federally chartered bank as trustee to purchase and hold the residential mortgage loans, could restrict our ability to invest in loans in these jurisdictions if such licensing requirements are applicable. In lieu of obtaining such licenses, we may contribute our acquired RPLs to one or more wholly owned trusts whose trustee is a national bank, which may be exempt from state licensing requirements, or the seller of such loans may continue to hold the loans on our behalf until we obtain the applicable state license. If required, we will form one or more subsidiaries that will apply for necessary state licenses. If these subsidiaries obtain the required licenses, any trust holding loans in the applicable jurisdictions may transfer such loans to such subsidiaries, resulting in these loans being held by a state-licensed entity. There can be no assurance that we will be able to obtain the requisite licenses in a timely manner or at all or in all necessary jurisdictions, or that the use of the trusts will reduce the requirement for licensing, any of which could limit our ability to invest in residential mortgage loans. Our failure to obtain and maintain required licenses may expose us to penalties or other claims and may affect our ability to acquire an adequate and desirable supply of mortgage loans to conduct our securitization program and, as a result, could harm our business.
We could be subject to liability for potential violations of predatory lending laws, which could materially adversely affect our business, financial condition and results of operations and our ability to make distributions to our stockholders.
Residential mortgage loan originators and servicers are required to comply with various U.S. federal, state and local laws and regulations, including anti-predatory lending laws and laws and regulations imposing certain restrictions on requirements on “high cost” loans. Failure of our Manager or service providers to comply with these laws could subject us, as an assignee or purchaser of the related residential mortgage loans, to monetary penalties and could result in impairment in the ability to foreclose such loans or the borrowers rescinding the affected residential mortgage loans. Lawsuits have been brought in various states making claims against assignees or purchasers of high cost loans for violations of state law. Named defendants in these cases have included numerous participants within the secondary mortgage market. If the loans are found to have been originated in violation of predatory or abusive lending laws, we could incur losses, which could materially adversely affect our business, financial condition and results of operations and our ability to make distributions to our stockholders.
Changes to U.S. federal income tax laws could materially and adversely affect us and our stockholders.
The present U.S. federal income tax treatment of REITs and their shareholders may be modified, possibly with retroactive effect, by legislative, judicial or administrative action at any time, which could affect the U.S. federal income tax treatment of an investment in our shares. The U.S. federal income tax rules, including those dealing with REITs, are constantly under review by persons involved in the legislative process, the IRS and the U.S. Treasury Department, which results in statutory changes as well as frequent revisions to regulations and interpretations.
Risks Related to Our Management and Our Relationship with Our Manager, the Servicer and Aspen
We have conflicts of interest with our Manager, the Servicer and Aspen, and certain members of our Board of Directors, as well as our management team, have, or could have in the future, conflicts of interest due to their respective relationships with these entities, and such conflicts could be resolved in a manner adverse to us.
Conflicts between us and our Manager. Our Manager manages our business, investment activities and affairs pursuant to the Management Agreement. This agreement was not negotiated at arm’s length and, accordingly, could contain terms, including the basis of calculation of the amount of the fees payable to our Manager, that are less favorable to us than similar agreements negotiated with unaffiliated third parties. Furthermore, the calculation of our Manager’s incentive fee is based on, among other measures, the dividends declared by our Board of Directors. In evaluating investments and other management strategies, the opportunity to earn incentive compensation may lead our Manager to place undue emphasis on the maximization of dividends at the expense of other criteria, such as preservation of capital, in order to achieve higher incentive compensation. Investments with higher yield potential are generally riskier or more speculative. This could result in increased risk to the value of our investment portfolio.
As an externally managed REIT, we are entirely managed by our Manager, which negotiates all our agreements and deals with all our contractual counterparties on our behalf. For example, our Manager acts for us in connection with the Servicing Agreement, including monitoring the performance of our Servicer under the agreement and exercising any available rights or remedies on our behalf. Our Manager and our Servicer are affiliates. Each of our officers is an officer of our Manager or the Servicer.
Conflicts between us and the Servicer. The Servicing Agreement was also not negotiated at arm’s length and could contain terms that are less favorable to us than similar agreements negotiated with unaffiliated third parties. In addition, the Servicer is generally not prohibited from providing similar services to other owners of mortgage loans and real estate assets, including other affiliates of Aspen.
Particular risks associated with our license for the name “Great Ajax.” If the Management Agreement expires or is terminated for any reason, the trademark license agreement pursuant to which we license the mark “Great Ajax” from Aspen will also terminate within 30 days. Upon any such termination, we would be required to cease doing business using the name “Great Ajax” and would have to change our corporate name, both of which could have a material adverse effect upon our business. All goodwill associated with our use of the mark “Great Ajax” is not our asset and such goodwill cannot be transferred by us to a third party. In addition, we need to obtain the consent of Aspen before we are permitted to register the licensed mark in any jurisdiction in the world. Failure to obtain such consent could have a material adverse effect on us, including our ability to expand our business into new jurisdictions.
Our Management team may engage in other activities and may have interests that conflict with ours. Our Manager and members of its management team may engage in any other business or render similar or different services to others including, without limitation, the direct or indirect sponsorship or management of other investment-based accounts or commingled pools of capital, so long as its services to us are not impaired thereby; provided that it may not engage in any such business or provide such services to any other entity that invests in the asset classes in which we intend to invest so long as we have on hand an average of $25.0 million in capital available for investment over the previous two fiscal quarters or our independent directors determine that we have the ability to raise capital at or above our most recent book value. If this occurs, our Manager or members of its management team may devote a disproportionate amount of time and other resources to acquire or manage properties owned by others. In addition, Aspen has agreed, for itself and its subsidiaries, including our Servicer, to similar restrictions on their ability to compete with us. We will seek to manage any potential conflicts through provisions of our agreements with them and through oversight by independent members of our Board of Directors or general dispute resolution methods. However, there can be no assurance that such measures will be effective, that we will be able to resolve all conflicts with our Manager, our Servicer and Aspen or that the resolution of any such conflicts will be no less favorable to us than if we were dealing with unaffiliated third parties.
We own a 19.8% equity interest in our Manager and an 8.0% equity interest in the parent company of our Servicer through GA-TRS, with warrants to purchase an additional equity interest in GAFS. As of March 3, 2021, two of our larger stockholders, Flexpoint Great Ajax Holdings LLC (“Flexpoint REIT Investor”) an affiliate of an investment fund managed by Flexpoint Ford LLC, and investors consisting of an investment fund for which Wellington Management Company LLP is the investment adviser and one or more other investment advisory clients of Wellington Management Company LLP (collectively, the “Wellington Investors”) own 4.29% and 17.14%, respectively, of our outstanding common stock. In addition, Flexpoint REIT Investor and one of the Wellington Investors each own 26.73% of our Manager, and 9.03% of Great Ajax FS LLC (“GAFS”), the parent of the Servicer, with warrants to purchase an additional equity interest in GAFS. Mr. Mendelsohn controls 50% of the manager of Aspen, which owns a 26.73% investment in our Manager and a 73.94% interest in GAFS, and has certain economic and/or management rights with respect to approximately 9.22% of the interests in Aspen. Furthermore,
each of our executive officers is an executive officer of our Manager or the Servicer or both and has interests in our relationship with them that may be different from the interests of our stockholders. In particular, these individuals, other than the chief financial officer, have a direct interest in the financial success of our Manager or the Servicer, which may encourage these individuals to support strategies in furtherance of their financial success that adversely affect us. Such ownership creates conflicts of interest when such directors or members of our management team are faced with decisions that involve us and our Manager, our Servicer, Aspen or any of their respective subsidiaries. See “Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters” and “Item 13. Certain Relationships and Related Transactions and Director Independence - Agreements with Anchor Investors.”
Our Board of Directors has approved a very broad investment policy and guidelines for our Manager and will not review or approve each investment decision. We may change our investment policy and guidelines without stockholder consent, which may materially and adversely affect the market price of our common stock and our ability to make distributions to our stockholders.
Our Manager is authorized to follow a very broad investment policy and guidelines and, therefore, has great latitude in determining the types of assets that are proper investments for us, as well as the individual investment decisions. In the future, our Manager may make investments with lower rates of return than those anticipated under current market conditions and/or may make investments with greater risks to achieve those anticipated returns. Our Board of Directors will periodically review our investment policy and guidelines and our investment portfolio but will not review or approve each proposed investment by our Manager unless it falls outside the scope of our previously approved investment policy and guidelines or constitutes a related party transaction.
In addition, in conducting periodic reviews, our Board of Directors relies primarily on information provided to it by our Manager. Furthermore, our Manager may use complex strategies. Transactions entered into by our Manager may be costly, difficult or impossible to unwind by the time they are reviewed by our Board of Directors. In addition, we may change our investment policy and guidelines and targeted asset classes at any time without the consent of our stockholders, and this could result in our making investments that are different in type from, and possibly riskier than, our current investments or the investments currently contemplated. Changes in our investment policy and guidelines and targeted asset classes may increase our exposure to interest rate risk, counterparty risk, default risk and real estate market fluctuations, which could materially and adversely affect us.
We depend on our Manager. We may not be able to retain our engagement of our Manager under certain circumstances, which could materially and adversely affect us. Termination of our Manager by us without cause is difficult and costly and our agreements with our Servicer may simultaneously terminate or be terminated, as applicable.
Our success depends upon our relationships with and the performance of our Manager and its key personnel. Key personnel may leave its employment or may become distracted by financial or operational issues in connection with their business and activities unrelated to us and over which we have no control or may fail to perform for any reason. Our Manager may engage in any other business or render similar or different services to others, including, without limitation, the direct or indirect sponsorship or management of other investment-based accounts or commingled pools of capital, so long as its services to us are not impaired thereby; provided that our Manager may not engage in any such business or provide such services to any other entity that invests in the asset classes in which we intend to invest so long as we have on hand an average of $25 million in capital available for investment over the previous two fiscal quarters or our independent directors determine that we have the ability to raise capital at or above our most recent book value. Aspen Capital has agreed for itself and its subsidiaries to similar restrictions. In the event our Manager provides its services to a competitor, it may be difficult for us to secure a suitable replacement to our Manager on favorable terms, or at all or maintain our engagement of our Manager. In the event that the Management Agreement is terminated for any reason or our Manager is unable to retain its key personnel, it may also be difficult for us to secure a suitable replacement to our Manager on favorable terms, or at all. If we terminate the Management Agreement without cause thereafter or our Manager terminates the Management Agreement due to our default in the performance of any material term of the Management Agreement, we will be required to pay a significant termination fee. In addition, the Management Agreement will automatically terminate at the same time as the Servicing Agreement if the Servicing Agreement is terminated for any reason. If the Management Agreement expires or is earlier terminated, we and our Servicer have certain rights to terminate the Servicing Agreement and the trademark license agreement will automatically terminate. The occurrence of any of the above-described events could materially and adversely affect us.
The incentive fee payable to our Manager under the Management Agreement will be payable quarterly based on the dividends declared by our Board of Directors and may cause our Manager to select investments in more risky assets to increase its incentive compensation.
Our Manager will be entitled to receive incentive compensation based upon, among other measures, the dividends declared by our Board of Directors in its discretion. In evaluating investments and other management strategies, the opportunity to earn incentive compensation may lead our Manager to place undue emphasis on the maximization of dividends at the expense of other criteria, such as preservation of capital, in order to achieve higher incentive compensation. Investments with higher yield potential are generally riskier or more speculative. This could result in increased risk to the value of our investment portfolio.
The Servicing Agreement was not negotiated at arm’s length.
Under the Servicing Agreement, the Servicer provides us with critically important services, including, among many others, the servicing of our whole mortgage loans, including the mortgage loans underlying our MBS, loan modification services, assisted deed-in-lieu of foreclosure services, assisted deed-for-lease services and other loss mitigation services with respect to our mortgage loans and property management, leasing management and renovation management services with respect to our real property assets and assistance in finding third party financing for such properties. The Servicing Agreement has an initial term of 15 years, expiring July 8, 2029. We may not terminate the Servicing Agreement except for cause or if we terminate the Management Agreement for cause, the Servicer may terminate the Servicing Agreement without cause by providing written notice to us no later than 180 days prior to December 31 of any year, and the Servicing Agreement will terminate effective on the December 31 next following the delivery of such notice. The Servicing Agreement also provides that the Servicer may terminate the agreement within 180 days after receiving notice that the Management Agreement has terminated, without any termination payment by us if the Management Agreement has been terminated for cause. If the Management Agreement has been terminated other than for cause and the Servicer terminates the Servicing Agreement, we will be required to pay a significant termination fee. The Management Agreement will automatically terminate at the same time as the Servicing Agreement if the Servicing Agreement is terminated for any reason. Upon any termination of the Servicing Agreement, it may be difficult for us to secure suitable replacements or we may secure alternative servicers with less effective servicing platforms or at greater expense. In addition, the Servicer has no liability to us for its negligence in performing services for us under the Servicing Agreement, unless that negligence rises to the level of gross negligence or willful misconduct. The material terms of the Servicing Agreement are further described in “Item 1. Business - The Servicer.” The Servicing Agreement was not negotiated at arm’s length; accordingly, it may contain terms that are less favorable to us than agreements negotiated with one or more unaffiliated third parties might contain.
Failure of our Servicer to effectively perform its obligations under the Servicing Agreement could materially and adversely affect us.
We are contractually obligated to service the residential mortgage loans that we acquire and we must operate or provide for the operation of the real estate assets we will own. We do not have any employees, a servicing platform, licenses or technical resources necessary to service our acquired loans. Consequently, we have engaged our Servicer to service our mortgage loans and other real estate assets. If for any reason our Servicer is unable to service these loans or real estate assets at the level and/or the cost that we anticipate, or if we fail to pay our Servicer or otherwise default under the Servicing Agreement, and our Servicer ceases to act as our servicer, alternate service providers may not be readily available on favorable terms, or at all, which could adversely affect our Manager’s performance under the Management Agreement and our business and results of operations. Our Servicer’s failure to perform the services under the Servicing Agreement would have a material adverse effect on us. Currently, we are our Servicer’s largest customer.
Pursuant to the terms of the Servicing Agreement, our Servicer is required to pay taxes, insurance and other charges when the borrower does not have sufficient funds in to pay the amounts themselves or when the loan has converted to REO. Our Servicer generally recovers these amounts from the liquidation proceeds from the underlying loans or REO. In the event our Servicer is unable to fund these borrower or REO charges, we might have to advance the funds to protect our interest in the loan or REO. This advancing in advance of receiving liquidation proceeds could place a strain on our operating capital, our Servicer’s operating capital, and our ability to invest in additional assets.
Our Manager has a contractually defined duty to us rather than a fiduciary duty.
Under the Management Agreement, our Manager has a contractual, as opposed to a fiduciary, relationship with us that limits its obligations to us to those specifically set forth in the Management Agreement. The ability of our Manager and its officers and employees to engage in other business activities may reduce the time it spends managing us. In addition, unlike the relationship we have with our directors, there is no statutory standard of conduct under the Maryland General Corporation Law (the “MGCL”) for officers of a Maryland corporation. Officers of a Maryland corporation, including our officers who are employees of our Manager, are subject to general agency principles including the exercise of reasonable care and skill in the performance of their responsibilities as well as the duties of loyalty, good faith and candid disclosure.
Risks Related to Our Organizational Structure
Maintenance of our exclusion from regulation as an investment company under the Investment Company Act imposes significant limitations on our operations.
We intend to continue to conduct our operations so that neither we nor any of our subsidiaries is required to register as an investment company under the Investment Company Act. We are organized as a holding company and we conduct our business primarily through wholly owned subsidiaries of our Operating Partnership. Neither we nor our Operating Partnership nor Great Ajax Funding is an investment company under Section 3(a)(1)(C). The securities issued by our subsidiaries that are excluded from the definition of “investment company” under Section 3(c)(1) or Section 3(c)(7) of the Investment Company Act, together with other investment securities we may own, cannot exceed 40% of the value of all our assets (excluding U.S. government securities and cash) on an unconsolidated basis. This requirement limits the types of businesses in which we may engage and the assets we may hold. Our 19.8% equity interest in our Manager and our 8.0% equity interest in the parent company of our Servicer are held by GA-TRS, which is a special purpose subsidiary of our Operating Partnership, and GA-TRS may rely on Section 3(c)(1) or Section 3(c)(7) for its Investment Company Act exclusion and, therefore, our interest in such subsidiary would constitute an “investment security” for purposes of determining whether we pass the 40% test (see “Item 1. Business - Operating and Regulatory Structure - Investment Company Act Exclusion” for additional information regarding the 40% test).
Certain of our subsidiaries may rely on the exclusion provided by Section 3(c)(5)(C) under the Investment Company Act. Section 3(c)(5)(C) of the Investment Company Act is designed for entities “primarily engaged in the business of purchasing or otherwise acquiring mortgages and other liens on and interests in real estate.” This exclusion generally requires that at least 55% of the entity’s assets on an unconsolidated basis consist of qualifying real estate assets and at least 80% of the entity’s assets consist of qualifying real estate assets or real estate-related assets. These requirements limit the assets those subsidiaries can own and the timing of sales and purchases of those assets.
To classify the assets held by our subsidiaries as qualifying real estate assets or real estate-related assets, we will rely on no-action letters and other guidance published by the SEC staff regarding those kinds of assets, as well as upon our analyses (in consultation with outside counsel) of guidance published with respect to other types of assets. There can be no assurance that the laws and regulations governing the Investment Company Act status of companies similar to ours, or the guidance from the SEC or its staff regarding the treatment of assets as qualifying real estate assets or real estate-related assets, will not change in a manner that adversely affects our operations. In fact, in August 2011, the SEC published a concept release in which it asked for comments on this exclusion from regulation. To the extent that the SEC staff provides more specific guidance regarding any of the matters bearing upon our exemption from the need to register under the Investment Company Act, we may be required to adjust our strategy accordingly. Any additional guidance from the SEC staff could further inhibit our ability to pursue the strategies that we have chosen. Furthermore, although we intend to monitor the assets of our subsidiaries regularly, there can be no assurance that our subsidiaries will be able to maintain their exclusion from registration. Any of the foregoing could require us to adjust our strategy, which could limit our ability to make certain investments or require us to sell assets in a manner, at a price or at a time that we otherwise would not have chosen. This could negatively affect the value of our common stock, the sustainability of our business model and our ability to make distributions.
Registration under the Investment Company Act would require us to comply with a variety of substantive requirements that impose, among other things:
•limitations on capital structure;
•restrictions on specified investments;
•restrictions on leverage or senior securities;
•restrictions on unsecured borrowings;
•prohibitions on transactions with affiliates; and
•compliance with reporting, record keeping, voting, proxy disclosure and other rules and regulations that would significantly increase our operating expenses.
If we were required to register as an investment company but failed to do so, we could be prohibited from engaging in our business, and criminal and civil actions could be brought against us.
Registration with the SEC as an investment company would be costly, would subject us to a host of complex regulations and would divert attention from the conduct of our business, which could materially and adversely affect us. In addition, if we purchase or sell any real estate assets to avoid becoming an investment company under the Investment Company
Act, our net asset value, the amount of funds available for investment and our ability to pay distributions to our stockholders could be materially adversely affected.
The ownership limit in our charter may discourage a takeover or business combination that may have benefited our stockholders.
To assist us in qualifying as a REIT, among other purposes, our charter generally limits the beneficial or constructive ownership of our (a) common stock by any person to no more than 9.8% in value or in number of shares, whichever is more restrictive, of the aggregate of the outstanding shares of our common stock and (b) capital stock by any person to no more than 9.8% in value or in number of shares, whichever is more restrictive, of the aggregate of the outstanding shares of our capital stock. We have waived these ownership limits, to a certain extent, for Flexpoint REIT Investor, the Wellington Investors and certain other investors. This and other restrictions on ownership and transfer of our shares of stock contained in our charter may discourage a change of control of us and may deter individuals or entities from making tender offers for our common stock on terms that might be financially attractive to you or which may cause a change in our management. In addition to deterring potential transactions that may be favorable to our stockholders, these provisions may also decrease your ability to sell our common stock.
Our stockholders’ ability to control our operations is limited.
Our Board of Directors approves our major strategies, including our strategies regarding investments, financing, growth, debt capitalization, REIT qualification and distributions. Our Board of Directors may amend or revise these and other strategies without a vote of our stockholders. Further, Flexpoint REIT Investor and the Wellington Investors own significant portions of our common stock, will continue to have significant influence over us, and may have conflicts of interest with us or you now or in the future.
Certain provisions of Maryland law could inhibit a change in our control.
Certain provisions of the MGCL may have the effect of inhibiting a third party from making a proposal to acquire us or impeding a change of control under circumstances that otherwise could provide our stockholders with the opportunity to realize a premium over the then-prevailing market price of our common stock, including:
•“business combination” provisions that, subject to limitations, prohibit certain business combinations between us and an “interested stockholder” (defined generally as any person who beneficially owns 10% or more of the voting power of our outstanding voting stock or an affiliate or associate of ours who, at any time within the two-year period immediately prior to the date in question, was the beneficial owner of 10% or more of the voting power of our then-outstanding stock) or an affiliate of an interested stockholder for five years after the most recent date on which the stockholder became an interested stockholder, and thereafter require two supermajority stockholder votes to approve any such combination; and
•“control share” provisions that provide that a holder of our “control shares” (defined as voting shares of stock which, when aggregated with all other shares of stock owned by the acquiror or in respect of which the acquiror is able to exercise or direct the exercise of voting power (except solely by virtue of a revocable proxy), entitle the acquiror to exercise one of three increasing ranges of voting power in electing directors) acquired in a “control share acquisition” (defined as the direct or indirect acquisition of ownership or control of issued and outstanding “control shares,” subject to certain exceptions) generally has no voting rights with respect to the control shares except to the extent approved by our stockholders by the affirmative vote of two-thirds of all the votes entitled to be cast on the matter, excluding all interested shares.
We elected to opt out of these provisions of the MGCL, in the case of the business combination provisions, by resolution of our Board of Directors exempting any business combination between us and any other person (provided that such business combination is first approved by our Board of Directors, including a majority of our directors who are not affiliates or associates of such person), and in the case of the control share provisions, pursuant to a provision in our bylaws. We may not opt back in to either of these provisions without the approval of the holders of a majority of our shares of common stock.
Our authorized but unissued common and preferred stock may prevent a change in control of the company.
Our charter authorizes us to issue additional authorized but unissued common stock and preferred stock without stockholder approval. In addition, our Board of Directors may, without stockholder approval, (i) amend our charter to increase or decrease the aggregate number of our shares of stock or the number of shares of any class or series of stock that we have authority to issue and (ii) classify or reclassify any unissued common stock or preferred stock and set the preferences, rights and
other terms of the classified or reclassified shares. As a result, among other things, our board may establish a class or series of common stock or preferred stock that could delay or prevent a transaction or a change in control of the company that might involve a premium price for our common stock or otherwise be in the best interests of our stockholders.
Our rights and the rights of our stockholders to take action against our directors and officers are limited, which could limit your recourse in the event of actions not in your best interest.
Our charter limits the liability of our present and former directors and officers to us and our stockholders for money damages to the maximum extent permitted under Maryland law. Under current Maryland law, our present and former directors and officers will not have any liability to us or our stockholders for money damages other than liability resulting from:
•actual receipt of an improper benefit or profit in money, property or services; or
•active and deliberate dishonesty by the director or officer that was established by a final judgment and is material to the cause of action.
In addition, our charter authorizes us to indemnify our present and former directors and officers for actions taken by them in those and other capacities to the maximum extent permitted by Maryland law and our bylaws require us to indemnify our present and former directors and officers, to the maximum extent permitted by Maryland law, in the defense of any proceeding to which he or she is made, or threatened to be made, a party by reason of his or her service to us as a director or officer in these and other capacities. In addition, we may be obligated to pay or reimburse the expenses incurred by our present and former directors and officers without requiring a preliminary determination of their ultimate entitlement to indemnification. As a result, we and our stockholders may have more limited rights against our present and former directors and officers than might otherwise exist absent the current provisions in our charter and bylaws or that might exist with other companies, which could limit your recourse in the event of actions not in your best interests.
Our charter contains provisions that make removal of our directors difficult, which could make it difficult for our stockholders to effect changes to our management.
Our charter provides that, except pursuant to a Special Election Meeting (as defined in the charter), subject to the rights of holders of one or more classes or series of preferred stock to elect or remove one or more directors, a director may be removed only for “cause” (as defined in our charter), and even then only by the affirmative vote of at least two-thirds of the votes entitled to be cast generally in the election of directors. At a Special Election Meeting, our Manager, the Servicer, Aspen Yo and our directors and officers shall not vote the shares of common stock they beneficially own in the election or removal of directors. At a Special Election Meeting, a majority of the votes entitled to be cast is required to remove a director. Vacancies may be filled only by a majority of the remaining directors in office, even if less than a quorum, for the full term of the directorship in which the vacancy occurred (other than vacancies among any directors elected by the holder or holders of any class or series of preferred stock, if such right exists). These requirements make it more difficult to change our management by removing and replacing directors and may prevent a change in our control that is in the best interests of our stockholders.
Our charter generally does not permit ownership in excess of 9.8% of our common stock or of our stock of all classes and series based on value or number of shares, and attempts to acquire our stock in excess of the stock ownership limit will be ineffective unless an exemption is granted by our Board of Directors. These provisions may restrict change of control or business combination opportunities in which our stockholders might receive a premium for their shares of common stock.
We elected to be taxed as a REIT for U.S. federal income tax purposes beginning with our taxable year ended December 31, 2014. In order for us to continue to qualify as a REIT, no more than 50% of the value of our outstanding shares of capital stock (after taking into account options to acquire shares of stock) may be owned, directly or constructively, by five or fewer individuals during the last half of any calendar year. “Individuals” for this purpose include natural persons, private foundations, some employee benefit plans and trusts, and some charitable trusts. In order to help us qualify as a REIT, among other purposes, our charter generally limits the beneficial or constructive ownership of our (a) common stock by any person to no more than 9.8% in value or in number of shares, whichever is more restrictive, of the aggregate of the outstanding shares of our common stock or (b) capital stock by any person to no more than 9.8% in value or in number of shares, whichever is more restrictive, of the aggregate of the outstanding shares of our capital stock. Our Board of Directors, in its sole and absolute discretion, may grant an exemption to certain of these prohibitions, subject to certain conditions and receipt by our Board of Directors of certain representations, covenants and undertakings. Our Board of Directors waived such limit in connection with the ownership by Flexpoint REIT Investor, the Wellington Investors and certain other investors. Our Board of Directors may also from time to time increase this ownership limit for one or more persons and may decrease such limit for all other persons. Any decrease in the ownership limit generally applicable to all stockholders will not be effective for any person whose percentage ownership of our stock is in excess of such decreased ownership limit until such time as such person’s percentage
ownership of our stock equals or falls below such decreased ownership limit, but any further acquisition of our stock in excess of such decreased ownership limit will be in violation of the decreased ownership limit. Our Board of Directors may not increase the decreased ownership limit (whether for one person or all stockholders) if such increase would allow five or fewer individuals (including certain entities) to beneficially own more than 49.9% in value of our outstanding capital stock.
Our charter’s constructive ownership rules are complex and may cause the outstanding shares of our stock owned by a group of related individuals or entities to be deemed to be constructively owned by one individual or entity. As a result, the acquisition of less than 9.8% of the outstanding shares of any class or series of our stock by an individual or entity could cause that individual or entity to own constructively in excess of 9.8% of the outstanding shares of our common stock or of our stock of all classes and series and thus violate the ownership limits or other restrictions on ownership and transfer of our stock. Any attempt by a stockholder to own or transfer our stock in excess of the ownership limit without the consent of our Board of Directors or in a manner that would cause us to be “closely held” under Section 856(h) of the Code (without regard to whether the stock is held during the last half of a taxable year) or would otherwise cause us to fail to qualify as a REIT will result in the stock being automatically transferred to a trustee for a charitable trust or, if the transfer to the charitable trust is not automatically effective to prevent a violation of the stock ownership limit or the restrictions on ownership and transfer of our stock, any such transfer of our shares will be void ab initio. Further, any transfer of our stock that would result in our shares being beneficially owned by fewer than 100 persons will be void ab initio.
These ownership limitations could have the effect of discouraging a takeover or other transaction in which holders of our shares of common stock might receive a premium for their shares of common stock over the then-prevailing market price or which holders might believe to be otherwise in their best interests.
Conflicts of interest could arise in the future as a result of our structure.
Conflicts of interest could arise in the future as a result of the relationships between us and our affiliates, on the one hand, and our Operating Partnership or any partner thereof, on the other. Our directors and officers have duties to our company under applicable Maryland law in connection with their oversight of the management of our company. At the same time, we, through our wholly owned subsidiary, will have fiduciary duties, as a general partner, to our Operating Partnership and to any partners thereof under Delaware law in connection with the management of our Operating Partnership. Our duties as a general partner to our Operating Partnership and any of its affiliates may come into conflict with the duties of our directors and officers. In the event of a conflict between the interests of our stockholders and the interests of the affiliates of our Operating Partnership, we will endeavor in good faith to resolve the conflict in a manner not adverse to either our stockholders or the affiliates; provided, that for so long as we own a controlling interest in our Operating Partnership, any such conflict that we, in our sole and absolute discretion, determine cannot be resolved in a manner not adverse to either our stockholders or the affiliates of our Operating Partnership will be resolved in favor of our stockholders.
Risks Related to Our Common Stock
The market price of our common stock may fluctuate, and you could lose all or part of your investment.
The stock market in general has been, and the market price of our common stock in particular will likely be, subject to fluctuation, whether due to, or irrespective of, our operating results and financial condition. Our financial performance, government regulatory action, tax laws, interest rates and market conditions in general could have a significant impact on the future market price of our common stock. Some of the other factors that could negatively affect our share price or result in fluctuations in our share price include:
•economic and public health impact as a result of the COVID-19 pandemic;
•weakening of the mortgage loan market;
•actual or anticipated variations in our quarterly operating results;
•increases in market interest rates that lead purchasers of our common stock to demand a higher yield;
•changes in our cumulative core earnings or earnings estimates;
•changes in market valuations of similar companies;
•actions or announcements by our competitors;
•actual or perceived conflicts of interest, or the discontinuance of our strategic relationships, with our Manager, the Servicer or Aspen;
•adverse market reaction to any increased indebtedness we incur in the future;
•additions or departures of key personnel;
•actions by stockholders;
•speculation in the press or investment community;
•our ability to maintain the listing of our common stock on a national securities exchange;
•failure to qualify or maintain our qualification as a REIT; and
•failure to maintain our exemption from registration under the Investment Company Act.
The preparation of our consolidated financial statements involves the use of estimates, judgments and assumptions, and our consolidated financial statements may be materially affected if such estimates, judgments and assumptions prove to be inaccurate.
Consolidated financial statements prepared in accordance with U.S. GAAP require the use of estimates, judgments and assumptions that affect the reported amounts. Different estimates, judgments and assumptions reasonably could be used that would have a material effect on the consolidated financial statements, and changes in these estimates, judgments and assumptions are likely to occur from period to period in the future. Significant areas of accounting requiring the application of management’s judgment include, but are not limited to, determining the fair value of our assets and the timing and amount of cash flows from our assets. These estimates, judgments and assumptions are inherently uncertain and, if they prove to be wrong, we face the risk that charges to income will be required. Any such charges could significantly harm our business, financial condition, results of operations and the price of our securities. See “Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations” for a discussion of the accounting estimates, judgments and assumptions that we believe are the most critical to an understanding of our future plan of operations.
If we fail to establish and maintain an effective system of internal controls, we may not be able to determine accurately our financial results or to prevent fraud.
Effective internal controls are necessary for us to provide reliable financial reports and effectively prevent fraud. We may in the future discover areas of internal control that need further improvement, and we cannot be certain that we will be successful in maintaining adequate control over our financial reporting and financial processes. Furthermore, as we grow our business, our internal controls will become more complex, and we will require significantly more resources to ensure that our internal controls remain effective. If we or our independent auditors discover a material weakness, the disclosure of that fact, even if quickly remedied, could reduce the market value of our common stock. Additionally, the existence of any material weakness or significant deficiency would require management to devote significant time and incur significant expense to remediate any such material weakness or significant deficiency and management may not be able to remediate any such material weakness or significant deficiency in a timely manner, or at all.
We have not established a minimum distribution payment level and we cannot assure you of our ability to pay distributions in the future.
To continue to qualify and maintain our qualification as a REIT and generally not be subject to U.S. federal income and excise tax, we make regular quarterly distributions to holders of our common stock out of legally available funds. Our current policy is to pay quarterly distributions that, on an annual basis, will equal all or substantially all of our net taxable income. We have not, however, established a minimum distribution payment level and our ability to pay distributions may be adversely affected by a number of factors, including the risk factors described in this Annual Report. All distributions are made at the discretion of our Board of Directors and depend on our earnings, our financial condition, any debt covenants, qualification and maintenance of our REIT qualification, restrictions on making distributions under Maryland law and other factors as our Board of Directors may deem relevant from time to time. We may not be able to make distributions in the future and our Board of Directors may change our distribution policy in the future. We believe that a change in any one of the following factors, among others, could adversely affect our results of operations and impair our ability to pay distributions to our stockholders:
•the profitability of the assets we hold, purchase or originate;
•our ability to make profitable acquisitions and originations;
•margin calls or other expenses that reduce our cash flow;
•defaults in our asset portfolio or decreases in the value of our portfolio; and
•the fact that anticipated operating expense levels may not prove accurate, as actual results may vary from estimates.
We cannot assure you that we will achieve results that will allow us to make a specified level of cash distributions or increases in cash distributions in the future. In addition, some of our distributions may include a return of capital.
We may pay distributions from offering proceeds, borrowings or the sale of assets to the extent that distributions exceed earnings or cash flow from our investment activities.
We may pay distributions from offering proceeds, borrowings or the sale of assets to the extent that distributions exceed earnings or cash flow from our investment activities. Because our assets will consist primarily of RPLs that may not receive payments on a regular basis, we may experience uneven cash flow, making it more difficult to maintain the necessary cash to pay distributions. Such distributions would reduce the amount of cash we have available for investing and other purposes and could be dilutive to our financial results. In addition, funding our distributions from our net proceeds may constitute a return of capital to our investors, which would have the effect of reducing each stockholder’s basis in its common stock.
Future sales of our common stock or other securities convertible into our common stock could cause the market value of our common stock to decline and could result in dilution of your shares.
Sales of substantial amounts of shares of our common stock could cause the market price of our common stock to decrease significantly. We cannot predict the effect, if any, of future sales of our common stock, or the availability of shares of our common stock for future sales, on the value of our common stock. Sales of substantial amounts of shares of our common stock, or the perception that such sales could occur, may adversely affect prevailing market values for our common stock.

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ITEM 1B. UNRESOLVED STAFF COMMENTS
Item 1B. Unresolved Staff Comments
None.

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ITEM 2. PROPERTIES
Item 2. Properties
Our principal executive offices are shared with our Manager and our Servicer and are located in 13190 SW 68th Parkway, Suite 201 Tigard, OR 97223. The lease for these premises expires on July 31, 2030; we are not responsible for any lease costs.

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ITEM 3. LEGAL PROCEEDINGS
Item 3. Legal Proceedings
Neither we nor any of our subsidiaries are party to nor is any of our property the subject of any material pending legal or regulatory proceedings. We and our affiliates may be involved, from time to time, in legal proceedings that arise in the ordinary course of business.

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ITEM 4. MINE SAFETY DISCLOSURE
Item 4. Mine Safety Disclosures
Not applicable.
PART II

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ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY
Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
Our shares of common stock have been listed on the NYSE since February 13, 2015 under the symbol “AJX.”
Holders
As of March 3, 2021, there were 173 common stockholders of record.
Dividends
We elected to be taxed as a REIT for U.S. federal income tax purposes beginning with our taxable year ended December 31, 2014. U.S. federal income tax law requires that a REIT distribute each year an amount equal to at least 90% of its REIT taxable income, determined without regard to the deduction for dividends paid and excluding any net capital gain.
To satisfy the distribution requirement necessary to qualify as a REIT and to avoid paying U.S. federal tax on our income, we make regular quarterly distributions of substantially all of our REIT taxable income to holders of our common stock. Any distribution we make is at the discretion of our Board of Directors and depends upon our earnings and financial condition, qualification and maintenance of REIT status, applicable provisions of the MGCL and such other factors as our Board of Directors deems relevant. For more information regarding risk factors that could materially adversely affect our earnings and financial condition, see “Item 1A. Risk Factors.”
To the extent that cash available for distribution is less than our REIT taxable income, we could be required to sell assets, borrow funds or raise equity capital to make cash distributions or make a portion of the required distribution in the form of a taxable stock distribution or distribution of debt securities. We generally are not required to make distributions with respect to activities conducted through GA-TRS or any other TRS that we may form.
We anticipate that our distributions generally will be taxable as capital gain to our stockholders, although a portion of the distributions may be designated by us as ordinary income or may constitute a return of capital. We furnish annually to each of our stockholders a statement setting forth distributions paid during the preceding year and their characterization as ordinary income, return of capital or capital gains.
Performance Graph
The following graph shows the cumulative total shareholder return at market close on February 13, 2015 (the first day of trading of our common stock) through December 31, 2020 for (1) our common stock ("AJX"), (2) the Russell 2000 and (3) the FTSE NAREIT Mortgage REIT index (“FNMR”). The graph and table show the total return on a hypothetical $100 investment in our common shares and in each index, respectively, on February 13, 2015, the first day on which our shares were listed on the NYSE, including the reinvestment of all dividends. The graph and table below shall not be deemed to be “soliciting material” or to be “filed,” or to be incorporated by reference in future filings with the SEC, or to be subject to the liabilities of Section 18 of the Exchange Act, except to the extent that we specifically incorporate it by reference into a document filed under the Securities Act or the Exchange Act.
Purchases of Equity Securities by the Issuer and Affiliated Purchasers
For the years ended December 31, 2020 and December 31, 2019, we repurchased 48,464 and no shares, respectively, of our common stock through open market transactions. Additionally, for the years ended December 31, 2020 and December 31, 2019, we received 25,531 and 12,971 shares, respectively, of our own common stock in settlement of earnings distributions from our investment in our Manager.
Unregistered Sales of Securities
In private placement transactions in 2020 pursuant to Section 4(a)(2) of the Securities Act, we issued our four independent directors an aggregate of 15,384 shares of our common stock in payment of part of their quarterly director fees for 2020 and the fourth quarter of 2019.

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ITEM 6. SELECTED FINANCIAL DATA
Item 6. Selected Financial Data
The selected consolidated financial data below should be read in conjunction with “Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations” and our consolidated financial statements and the related notes included elsewhere in this Annual Report on Form 10-K, from which it is derived. The selected condensed consolidated statements of income data for the years ended December 31, 2020, 2019 and 2018, as well as the selected condensed consolidated balance sheet data as of December 31, 2020 and 2019 are derived from the audited consolidated financial statements included elsewhere in this Annual Report. The condensed consolidated statements of income data for the years ended December 31, 2017 and 2016 and the selected consolidated balance sheets data at December 31, 2018, 2017, and 2016 have been derived from our audited consolidated financial statements that are not included in this Report. The historical results presented below are not necessarily indicative of future results of operations.
For the year ended December 31,
Statements of Income ($ in thousands except per share data) 2020 2019 2018 2017 2016
INCOME
Interest income $ 100,071 $ 112,416 $ 108,181 $ 91,424 $ 70,688
Interest expense (48,692) (59,325) (53,335) (39,101) (25,573)
Net interest income 51,379 53,091 54,846 52,323 45,115
Provision for credit benefit/(losses) 10,820 (803) (1,164) - -
Net interest income after provision for credit benefit/(losses) 62,199 52,288 53,682 52,323 45,115
(Loss)/income from investment in affiliates (155) 1,332 762 707 558
(Loss)/income on sale of mortgage loans(1)
(705) 7,123 - - 143
Other income 2,272 4,176 3,720 1,765 881
Total revenue, net 63,611 64,919 58,164 54,795 46,697
EXPENSE
Related party expense - loan servicing fees 7,678 9,133 10,148 8,245 6,083
Related party expense - management fee 8,456 7,356 6,025 5,340 3,949
Other fees and expenses 13,333 10,788 9,754 9,794 7,191
Total expense 29,467 27,277 25,927 23,379 17,223
Loss on debt extinguishment 661 429 836 1,131 565
Income before provision for income taxes 33,483 37,213 31,401 30,285 28,909
Provision for income taxes (benefit) (125) 124 64 131 35
Consolidated net income 33,608 37,089 31,337 30,154 28,874
Less: consolidated net income attributable to the non-controlling interest 5,112 2,384 2,997 1,227 1,038
Consolidated net income attributable to Company 28,496 34,705 28,340 28,927 27,836
Less: dividends on preferred stock 5,740 - - - -
Consolidated net income attributable to common stockholders $ 22,756 $ 34,705 $ 28,340 $ 28,927 $ 27,836
Basic earnings per common share $ 1.00 $ 1.74 $ 1.50 $ 1.58 $ 1.65
Diluted earnings per common share $ 1.00 $ 1.59 $ 1.43 $ 1.51 $ 1.65
Total dividends declared $ 0.83 $ 1.28 $ 1.27 $ 1.13 $ 0.99
(1)During the year ended December 31, 2020, we sold 26 SBC mortgage loans with a carrying value of $26.1 million and UPB of $26.2 million for a loss of $0.7 million. Comparatively, during the year ended December 31, 2019, we sold 965 loans with a carrying value of $178.8 million and UPB of $202.1 million for a gain of $7.1 million. During the years ended December 31, 2018, 2017 we sold no mortgage loans. During the year ended December 31, 2016, we sold 572 loans with a carrying value of $78.1 million and UPB of $100.3 million for a gain of $0.1 million.
As of December 31,
Balance sheet ($ in thousands) 2020(1)
2019(2)
2018(3)
2017(4)
Total assets $ 1,653,732 $ 1,576,841 $ 1,602,871 $ 1,395,738 $ 957,402
Total liabilities $ 1,139,241 $ 1,192,757 $ 1,268,592 $ 1,078,300 $ 674,679
Non-controlling interests $ 29,130 $ 24,202 $ 33,445 $ 27,082 $ 10,431
Total equity $ 514,491 $ 384,084 $ 334,279 $ 317,438 $ 282,723
(1)Total assets include $307.1 million of mortgage loans, total liabilities include $250.6 million of secured debt, and non-controlling interests includes $27.4 million from the 50.0% and 63.0% owned joint ventures, which we consolidate under GAAP at December 31, 2020.
(2)Total assets include $341.8 million of mortgage loans, total liabilities include $284.8 million of secured borrowings, and non-controlling interests includes $22.4 million from a 50.0% and 63.0% owned joint ventures, which we consolidate under GAAP at December 31, 2019.
(3)Total assets include $337.0 million of mortgage loans, total liabilities include $231.9 million of secured debt, and non-controlling interests includes $20.4 million from the 50.0% and 63.0% owned joint ventures, which we consolidate under GAAP at December 31, 2018
(4)Total assets include $177.1 million of mortgage loans, total liabilities include $88.4 million of secured borrowings, and non-controlling interests includes $14.0 million from a 50.0% owned joint venture, which we consolidate under GAAP at December 31, 2017.

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ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS
Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations
Overview
Great Ajax Corp. is a Maryland corporation that is organized and operated in a manner intended to allow us to qualify as a REIT. We primarily target acquisitions of RPLs, which are residential mortgage loans on which at least five of the seven most recent payments have been made, or the most recent payment has been made and accepted pursuant to an agreement, or the full dollar amount, to cover at least five payments has been paid in the last seven months. We also acquire and originate SBC loans. The SBC loans that we target through acquisitions generally have a principal balance of up to $5.0 million and are secured by multi-family residential and commercial mixed use retail/residential properties on which at least five of the seven a most recent payments have been made, or the most recent payment has been made and accepted pursuant to an agreement, or the full dollar amount, to cover at least five payments has been paid in the last seven months. We also originate SBC loans that we believe will provide an appropriate risk-adjusted total return. Additionally, we invest in single-family and smaller commercial properties directly either through a foreclosure event of a loan in its mortgage portfolio or through a direct acquisition. We may also target investments in NPLs either directly or with joint venture partners. NPLs are loans on which the most recent three payments have not been made. We may acquire NPLs either directly or with joint venture partners. We own a 19.8% equity interest in our Manager and an 8.0% equity interest in the parent company of our Servicer. GA-TRS is a wholly owned subsidiary of the Operating Partnership that owns the equity interest in the Manager and the Servicer. We have elected to treat GA-TRS as a TRS under the Code. Our mortgage loans and real properties are serviced by the Servicer, also an affiliated company.
In 2014, we formed Great Ajax Funding LLC, a wholly owned subsidiary of the Operating Partnership, to act as the depositor of mortgage loans into securitization trusts and to hold the subordinated securities issued by such trusts and any additional trusts we may form for additional secured borrowings. AJX Mortgage Trust I and AJX Mortgage Trust II are wholly owned subsidiaries of the Operating Partnership formed to hold mortgage loans used as collateral for financings under our repurchase agreements. On February 1, 2015, we formed GAJX Real Estate Corp., as a wholly owned subsidiary of the Operating Partnership, to own, maintain, improve and sell certain REOs purchased by us. We have elected to treat GAJX Real Estate Corp. as a TRS under the Code.
Our Operating Partnership, through interests in certain entities as of December 31, 2020 and December 31, 2019, holds 99.9% and 99.8%, respectively, of Great Ajax II REIT Inc. which holds an interest in Great Ajax II Depositor LLC which was formed to act as the depositor of mortgage loans into securitization trusts and to hold the subordinated securities issued by such trusts and any additional trusts we may form for additional secured borrowings. We have securitized mortgage loans through a securitization trust and retained subordinated securities from the secured borrowings. Each such trust is considered to be a VIE, and we have determined that we are the primary beneficiary of each such VIE.
In 2018, we formed Gaea, as a wholly owned subsidiary of the Operating Partnership. We elected to treat Gaea as a TRS under the Code for 2018, and we elected to treat Gaea as a REIT under the Code in 2019 and thereafter. Also during 2018, we formed Gaea Real Estate Operating Partnership LP, a wholly owned subsidiary of Gaea, to hold investments in commercial real estate assets. We also formed BFLD Holdings LLC, Gaea Commercial Properties LLC, Gaea Commercial Finance LLC and Gaea RE LLC as subsidiaries of Gaea Real Estate Operating Partnership. In 2019, we formed DG Brooklyn Holdings, LLC, also a subsidiary of Gaea Real Estate Operating Partnership LP, to hold investments in multi-family properties. On November 22, 2019 Gaea completed a private capital raise in which it raised $66.3 million from the issuance of 4,419,641 shares of its common stock to third parties to allow Gaea to continue to advance its investment strategy. We retained a 23.2% ownership interest in Gaea following the transaction. At December 31, 2020 we own approximately 23.0% of Gaea and is no longer consolidated in our financial statements.
We elected to be taxed as a REIT for U.S. federal income tax purposes beginning with our taxable year ended December 31, 2014. Our qualification as a REIT depends upon our ability to meet, on a continuing basis, various complex requirements under the Code relating to, among other things, the sources of our gross income, the composition and values of our assets, our distribution levels and the diversity of ownership of our capital stock. We believe that we are organized in conformity with the requirements for qualification as a REIT under the Code, and that our current intended manner of operation enables us to meet the requirements for taxation as a REIT for U.S. federal income tax purposes.
Our Portfolio
The following table outlines the carrying value of our portfolio of mortgage loan assets and single-family and smaller commercial properties as of December 31, 2020 and December 31, 2019 ($ in millions):
December 31, 2020 December 31, 2019
Residential RPLs $ 1,057.5 $ 1,085.5
Residential NPLs 38.7 30.9
SBC loans 23.2 35.1
Property held-for-sale, net 7.8 13.5
Rental property, net 0.7 1.5
Investments in securities at fair value 273.8 231.7
Investment in beneficial interests 91.4 58.0
Total mortgage related assets $ 1,493.1 $ 1,456.2
We closely monitor the status of our mortgage loans and, through our Servicer, work with our borrowers to improve their payment records.
Market Trends and Outlook
COVID-19
The COVID-19 pandemic that began during the first quarter of 2020 created a global public-health crisis that resulted in widespread volatility and deteriorations in household, business, and economic market conditions, including in the United States, where we conduct all of our business. During 2020 many governmental and nongovernmental authorities directed their actions toward curtailing household and business activity in order to contain or mitigate the impact of the COVID-19 pandemic and deployed fiscal- and monetary-policy measures in order to seek to partially mitigate the adverse effects. These programs have had varying degrees of success and the extent of the long term impact on the mortgage market remains unknown.
The COVID-19 pandemic began to meaningfully impact our operations in late March 2020 and this disruption was reflected in our results of operations for the quarter ended March 31, 2020. Since then many of these negative impacts have improved throughout 2020, as follows:
•We recorded net recovery of credit loss provisions of $10.8 million on our Mortgage loan portfolio and Investments in beneficial interests during the year ended December 31, 2020. We recorded total expense of $5.1 million for provision for anticipated credit losses on our Mortgage loan portfolio and Investments in beneficial interests during the three months ended March 31, 2020, as a result of expectations of extended portfolio durations and longer foreclosure and eviction timelines. However, during the remainder of 2020 we recovered $15.9 million in credit loss provisions on
these portfolios which was as a result of better than expected loan performance and the related positive impact on future repayments.
•We recorded a net $0.9 million of unrealized losses on our Investments in debt securities to other comprehensive income during the year ended December 31, 2020. We recorded $28.4 million in unrealized losses on our Investments in debt securities to other comprehensive income for the three months ended March 31, 2020. However, during the remainder of 2020 we recovered $27.5 million of those unrealized losses.
•During the course of the year, we settled net margin calls in the amount of $0.5 million with our repurchase financing counterparties during the year ended December 31, 2020. For the three months ended March 31, 2020 we settled $28.2 million of net margins calls with our repurchase financing counterparties due to the extreme disruption in the residential mortgage securities market from the COVID-19 pandemic, and since then have recovered $27.7 million of cash deposits on a net basis from our repurchase financing counterparties as collateral prices rebounded off the March 31, 2020 levels.
The pandemic has continued and continues to significantly and adversely impact certain areas of the United States. As a result, our forecast of macroeconomic conditions and expected lifetime credit losses on our mortgage loan and beneficial interest portfolios is subject to meaningful uncertainty. While substantially all of our borrowers continue to make scheduled payments and we continue to receive payments in full, we have acted swiftly to support our borrowers with a mortgage forbearance program. While we generally do not hold loans guaranteed by GSEs or the US government, we, through our Servicer, are nonetheless offering a forbearance program under terms similar to those required for GSE loans. Borrowers that are able to provide documentation of a negative impact of COVID-19 are entitled to three months of forbearance. The three monthly payments may then be repaid over 12 months. If a borrower cannot repay the deferred amount, our Servicer will work with them on repayment options. Notwithstanding the foregoing, to the extent special rules apply to a mortgagor because of the jurisdiction or type of the Mortgage Loan, the Servicer will comply with those rules. Our Servicer has extensive experience dealing with delinquent borrowers and we believe it is well positioned to react on our behalf to any increase in mortgage delinquencies. The following list shows the COVID-19 forbearance activity in our mortgage loan portfolio as of February 28, 2021(1) :
•Number of COVID-19 forbearance relief inquiries: 1,236
•Number of COVID-19 forbearance relief granted: 347
(1)Statistics are for loans carried on our balance sheet including loans held in Ajax 2017-D and Ajax 2018-C where third parties own 50% and 37%, respectively. Statistics do not include non-consolidated joint ventures where we own bonds and beneficial interests issued by the joint ventures.
During the year ended December 31, 2020, we raised $125.0 million, net of offering costs, in a series of private placements of preferred stock and warrants. We expect to use the net proceeds from the private placement to acquire mortgage loans and mortgage-related assets consistent with our investment strategy and that this additional capital will provide sufficient liquidity to both benefit from any investment opportunities and protect against future market disruption.
Notwithstanding this additional capital and liquidity, we expect continued volatility in the residential mortgage securities market in the short term and increased acquisition opportunities later in the year or early 2021. Extended forbearance, foreclosure timelines and eviction timelines could result in lower yields and losses on our mortgage loan and beneficial interest portfolios and losses on our REO held-for-sale. Ongoing disruption in the credit markets could result in margin calls from our financing counterparties and additional mark downs on our Investments in debt securities, beneficial interests and mortgage loans.
We believe that certain cyclical trends continue to drive a significant realignment within the mortgage sector notwithstanding the impact of the pandemic. Through the end of the fourth quarter, the recent trends noted below have continued, including:
•historically low interest rates and elevated operating costs resulting from new regulatory requirements continue to drive sales of residential mortgage assets by banks and other mortgage lenders;
•declining home ownership in certain areas due to rising prices, low inventory, tighter lending standards and increased down payment requirements that have increased the demand for single-family and multi-family residential rental properties;
•rising home prices are increasing homeowner equity and reducing the incidence of strategic default;
•rising prices have resulted in millions of homeowners being in the money to refinance;
•the Dodd-Frank risk retention rules for asset backed securities have reduced the universe of participants in the securitization markets;
•the lack of a robust market for non-conforming mortgage loans will reduce the pool of buyers due to tighter credit standards as a result of the COVID-19 pandemic; and
•an increase in the prices of residential mortgage loans and residential real estate as a result of the COVID-19 outbreak we believe will generate new opportunities in residential mortgage-related whole loan strategies.
The origination of subprime and alternative residential mortgage loans remains substantially below 2008 levels and the qualified mortgage and ability-to-repay rule requirements have put pressure on new originations. Additionally, many banks and other mortgage lenders have increased their credit standards and down payment requirements for originating new loans. Recent market disruption from the pandemic has sharply reduced financing alternatives for borrowers not eligible for financing programs underwritten by the GSEs or the federal government.
The combination of these factors has also resulted in a significant number of families that cannot qualify to obtain new residential mortgage loans. We believe the U.S. federal regulations addressing “qualified mortgages” based on, among other factors such as employment status, debt-to-income level, impaired credit history or lack of savings, limit mortgage loan availability from traditional mortgage lenders. In addition, we believe that many homeowners displaced by foreclosure or who either cannot afford to own or cannot be approved for a mortgage will prefer to live in single-family rental properties with similar characteristics and amenities to owned homes as well as smaller multi-family residential properties. In certain demographic areas, new households are being formed at a rate that exceeds the new homes being added to the market, which we believe favors future demand for non-federally guaranteed mortgage financing for single-family and smaller multi-family rental properties. For all these reasons, we believe that demand for single-family and smaller multi-family rental properties will increase in the near term and remain at heightened levels for the foreseeable future.
We believe that investments in residential RPLs with positive equity provide an optimal investment value. As a result, we are currently focusing on acquiring pools of RPLs, though we may acquire NPLs, either directly or with joint venture partners, if attractive opportunities exist. Through our Servicer, we work with our borrowers to improve their payment records. Once there is a period of continued performance, we expect that borrowers will typically refinance these loans at or near the estimated value of the underlying property.
We also believe there are significant attractive investment opportunities in the SBC loan and property markets and originate as well as purchase these loans, particularly in urban areas where there is a sustainable trend of young adults desiring to live near where they work. We focus on densely populated urban areas where we expect positive economic change based on certain demographic, economic and social statistical data. The primary lenders for smaller multi-family and mixed retail/residential properties are community banks and not regional and national banks and large institutional lenders. We believe the primary lenders and loan purchasers are less interested in these assets because they typically require significant commercial and residential mortgage credit and underwriting expertise, special servicing capability and active property management. It is also more difficult to create the large pools of these primary banks lenders and portfolio acquirers typically desire. We continually monitor opportunities to increase our holdings of these SBC loans and properties.
We also believe that banks and other mortgage lenders have strengthened their capital bases and are more aggressively foreclosing on delinquent borrowers or selling these loans to dispose of their inventory. Additionally, many NPL buyers are now interested in reducing their investment duration and have begun selling RPLs.
Factors That May Affect Our Operating Results
Acquisitions. Our operating results depend heavily on sourcing residential RPLs and SBC loans and, when attractive opportunities are identified, NPLs. We believe that there is generally a large supply of RPLs available to us for acquisition and we believe the available supply provides for a steady acquisition pipeline of assets since large institutions are active sellers in the market. However, we expect that our residential mortgage loan portfolio may grow at an uneven pace, as opportunities to acquire distressed residential mortgage loans may be irregularly timed and may involve large portfolios of loans, and the timing and extent of our success in acquiring such loans cannot be predicted. We also believe there may be increased opportunities to acquire NPLs due to the pandemic. In addition, for any given portfolio of loans that we agree to acquire, we typically acquire fewer loans than originally expected, as certain loans may be resolved prior to the closing date or may fail to meet our diligence standards. The number of loans not acquired typically constitutes a small portion of a particular portfolio. In any case where we do not acquire the full portfolio, we make appropriate adjustments to the applicable purchase price.
Financing. Our ability to grow our business by acquiring residential RPLs and SBC loans depends on the availability of adequate financing, including additional equity financing, debt financing or both in order to meet our objectives. We intend to leverage our investments with debt, the level of which may vary based upon the particular characteristics of our portfolio and on market conditions. We have funded and intend to continue to fund our asset acquisitions with non-recourse secured
borrowings in which the underlying collateral is not marked to market and employ repurchase agreements without the obligation to mark to market the underlying collateral to the extent available. We securitize our whole loan portfolios, primarily as a financing tool, when economically efficient to create long-term, fixed rate, non-recourse financing with moderate leverage, while retaining one or more tranches of the subordinate MBS so created. The secured borrowings are structured as debt financings and not real estate investment conduit (“REMIC”) sales. We completed the securitization transactions pursuant to Rule 144A under the Securities Act of 1933, as amended (the “Securities Act”), in which we issued notes primarily secured by seasoned, performing and non-performing mortgage loans primarily secured by first liens on one-to-four family residential properties. Currently there is substantial uncertainty in the securitization markets which could limit our access to financing.
To qualify as a REIT under the Code, we generally will need to distribute at least 90% of our taxable income each year (subject to certain adjustments) to our stockholders. This distribution requirement limits our ability to retain earnings and thereby replenish or increase capital to support our activities.
Resolution Methodologies. We, through the Servicer, or our affiliates, employ various loan resolution methodologies with respect to our residential mortgage loans, including loan modification, collateral resolution and collateral disposition. The manner in which an NPL is resolved will affect the amount and timing of revenue we will receive. Our preferred resolution methodology is to modify NPLs. Once successfully modified and there is a period of continued performance, we expect that borrowers will typically refinance these loans at or near the estimated value of the underlying property. We believe modification followed by refinancing generates near-term cash flows, provides the highest possible economic outcome for us and is a socially responsible business strategy because it keeps more families in their homes. In certain circumstances, we may also consider selling these modified loans. Through historical experience, we expect that many of our NPLs will enter into foreclosure or similar proceedings, ultimately becoming REO that we can sell or convert into single-family rental properties that we believe will generate long-term returns for our stockholders. Our REO properties may be converted into single-family rental properties or they may be sold through REO liquidation and short sale processes. We expect the timelines for each of the different processes to vary significantly. The exact nature of resolution will depend on a number of factors that are beyond our control, including borrower willingness, property value, availability of refinancing, interest rates, conditions in the financial markets, regulatory environment and other factors. To avoid the 100% prohibited transaction tax on the sale of dealer property by a REIT, we may dispose of assets that may be treated as held “primarily for sale to customers in the ordinary course of a trade or business” by contributing or selling the asset to a TRS prior to marketing the asset for sale.
The state of the real estate market and home prices will determine proceeds from any sale of real estate. We will opportunistically and on an asset-by-asset basis determine whether to rent any REO we acquire, whether upon foreclosure or otherwise. We may determine to sell such assets if they do not meet our investment criteria. In addition, while we seek to track real estate price trends and estimate the effects of those trends on the valuations of our portfolios of residential mortgage loans, future real estate values are subject to influences beyond our control.
Conversion to Rental Property. From time to time we will retain an REO property as a rental property and may acquire rental properties through direct purchases at attractive prices. The key variables that will affect our residential rental revenues over the long-term will be the extent to which we acquire properties, which, in turn, will depend on the amount of our capital invested, average occupancy and rental rates in our owned rental properties. We expect the timeline to convert multi-family and single-family loans into rental properties will vary significantly by loan, which could result in variations in our revenue and our operating performance from period to period. There are a variety of factors that may inhibit our ability, through the Servicer, to foreclose upon a residential mortgage loan and get access to the real property within the time frames we model as part of our valuation process. These factors include, without limitation: state foreclosure timelines and the associated deferrals (including from litigation); unauthorized occupants of the property; U.S. federal, state or local legislative action or initiatives designed to provide homeowners with assistance in avoiding residential mortgage loan foreclosures that may delay the foreclosure process; U.S. federal government programs that require specific procedures to be followed to explore the non-foreclosure outcome of a residential mortgage loan prior to the commencement of a foreclosure proceeding; and declines in real estate values and high levels of unemployment and underemployment that increase the number of foreclosures and place additional pressure on the already overburdened judicial and administrative systems. We do not expect to retain a material number of single family residential properties for use as rentals. We do, however, intend to focus on retaining multi-unit residences derived from foreclosures or acquired through outright purchases as rentals.
Expenses. Our expenses primarily consist of the fees and expenses payable by us under the Management Agreement and the Servicing Agreement. Additionally, our Manager incurs direct, out-of-pocket costs related to managing our business, which are contractually reimbursable by us. Loan transaction expense is the cost of performing due diligence on pools of mortgage loans under consideration for purchase. Professional fees are primarily for legal, accounting and tax services. Real estate operating expense consists of the ownership and operating costs of our REO properties, both held-for-sale and as rentals, and includes any charges for impairments to the carrying value of these assets, which may be significant. Those expenses may
increase due to extended eviction timelines caused by the pandemic. Interest expense, which is subtracted from our Interest income to arrive at Net interest income, consists of the costs to borrow money.
Changes in Home Prices. As discussed above, generally, rising home prices are expected to positively affect our results, particularly as this should result in greater levels of re-performance of mortgage loans, faster refinancing of those mortgage loans, more re-capture of principal on greater than 100% LTV (loan-to-value) mortgage loans and increased recovery of the principal of the mortgage loans upon sale of any REO. Conversely, declining real estate prices are expected to negatively affect our results, particularly if the home prices should decline below our purchase price for the loans and especially if borrowers determine that it is better to strategically default as their equity in their homes decline. While home prices have risen to, or in some cases beyond, pre-Great Recession levels in many parts of the United States, there are still significant regions where values have not materially increased. We typically concentrate our investments in specific urban geographic locations in which we expect stable or better property markets. However, when we analyze loan and property acquisitions we do not take HPA into account except for rural properties for which we model negative HPA related to our expectation of worse than expected property condition. It is too early to determine the impact of the COVID-19 outbreak on HPA and the resulting impact on our markets. A significant decline in HPA will have an adverse impact on our operating results.
Changes in Market Interest Rates. With respect to our business operations, increases in existing interest rates, in general, may over time cause: (1) the value of our mortgage loan and MBS portfolio to decline; (2) coupons on our ARM and hybrid ARM mortgage loans and MBS to reset, although on a delayed basis, to higher interest rates; (3) prepayments on our mortgage loans and MBS portfolio to slow, thereby slowing the amortization of our purchase premiums and the accretion of our purchase discounts; (4) the interest expense associated with our borrowings to increase; and (5) to the extent we enter into interest rate swap agreements as part of our hedging strategy, the value of these agreements to increase. Conversely, decreases in interest rates, in general, may over time cause: (a) prepayments on our mortgage loan and MBS portfolio to increase, thereby accelerating the accretion of our purchase discounts; (b) the value of our mortgage loan and MBS portfolio to increase; (c) coupons on our ARM and hybrid ARM mortgage loans and MBS to reset, although on a delayed basis, to lower interest rates; (d) the interest expense associated with our borrowings to decrease; and (e) to the extent we enter into interest rate swap agreements as part of our hedging strategy, the value of these agreements to decrease. We currently expect the pace of loan prepayments to slow due to the COVID-19 outbreak.
Market Conditions. Due to the dramatic repricing of real estate assets that occurred during the 2008 financial crisis and the continuing uncertainty regarding the direction and strength of the real estate markets including as a result of the pandemic, we believe a void in the debt and equity capital available for investing in real estate exists as many financial institutions, insurance companies, finance companies and fund managers have determined to reduce or discontinue investment in debt or equity related to real estate. We believe the dislocations in the residential real estate market have resulted or will result in an “over-correction” in the repricing of real estate assets, creating a potential opportunity for us to capitalize on these market dislocations and capital void to the extent we are able to obtain financing for additional purchases.
We believe that in spite of the continuing uncertain market environment for mortgage-related assets, including as a result of the pandemic outbreak, current market conditions offer potentially attractive investment opportunities for us, even in the face of a riskier and more volatile market environment. We expect that market conditions will continue to impact our operating results and will cause us to adjust our investment and financing strategies over time as new opportunities emerge and risk profiles of our business change.
COVID-19 Pandemic. The pandemic has also impacted, and is likely to continue to impact, directly or indirectly, many of the other factors discussed above, as well as other aspects of our business. New developments continue to emerge and it is not possible for us to predict with certainty which factors will impact our business. In addition, we cannot assess the impact of each factor on our business or the extent to which any factor, or combination of factors, may cause actual results to differ materially from those contained in any forward-looking statements. In particular, it is difficult to fully assess the impact of the pandemic at this time due to, among other things, uncertainty regarding the severity and duration of the outbreak domestically and internationally and the effectiveness of federal, state and local government efforts to contain the spread of COVID-19, the effects of those efforts on our business, the indirect impact on the U.S. economy and economic activity and the impact on the mortgage markets and capital markets.
Critical Accounting Policies and Estimates
Certain of our critical accounting policies require management to make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. We consider significant estimates to include expected cash flows from mortgage loans and fair value measurements. We believe that all of the decisions
and assessments upon which our consolidated financial statements are and will be based were or will be reasonable at the time made based upon information available to us at that time. We have identified our most critical accounting policies to be the accounting policies associated with our mortgage-related assets and our borrowings.
Mortgage Loans
Purchased Credit Deteriorated Loans ("PCD Loans") - As of their acquisition date, the loans we acquired have generally suffered some credit deterioration subsequent to origination. As a result, prior to the adoption of ASU 2016-13, Financial Instruments - Credit Losses, otherwise known as CECL, on January 1, 2020, we were required to account for the mortgage loans pursuant to ASC 310-30, Accounting for Loans with Deterioration in Credit Quality. Under both standards, our recognition of interest income for PCD loans is based upon our having a reasonable expectation of the amount and timing of the cash flows expected to be collected. When the timing and amount of cash flows expected to be collected are reasonably estimable, we use expected cash flows to apply the effective interest method of income recognition.
Under both CECL and ASC 310-30, acquired loans may be aggregated and accounted for as a pool of loans if the loans have common risk characteristics. A pool is accounted for as a single asset with a single composite interest rate and an aggregate expectation of cash flows. However, CECL allows more flexibility to us to adjust its loan pools as the underlying risk factors change over time. Under ASC 310-30, RPLs were determined by us to have common risk characteristics and were accounted for as a single loan pool for loans acquired within each three-month calendar quarter. Similarly, NPLs were determined to have common risk characteristics and were accounted for as a single non-performing pool for loans acquired within each three-month calendar quarter. The result was generally two additional pools (RPLs and NPLs) each quarter. Under CECL, we have re-aggregated our loan pools around similar risk factors, while eliminating the previous distinction for the quarter in which loans were acquired. This resulted in a reduction of the number of loan pools to four as of March 31, 2020. The number of pools was then re-evaluated and increased to six as of June 30, 2020 and remains at six loan pools as of December 31, 2020. Each loan pool is oriented around similar risk factors. Excluded from the aggregate pools are loans that pay in full subsequent to the acquisition closing date but prior to pooling. Any gain or loss on these loans is recognized as Interest income in the period the loan pays in full.
Our accounting for PCD loans gives rise to an accretable yield and an allowance for credit losses. Under CECL, upon the acquisition of PCD loans we record the acquisition as three separate elements for 1) the amount of purchase discount which we expect to recover through eventual repayment by the borrower, 2) an allowance for future expected credit loss and 3) the UPB of the loan. The purchase price discount which we expect at the time of acquisition to collect over the life of the loans is the accretable yield. Cash flows expected at acquisition include all cash flows directly related to the acquired loan, including those expected from the underlying collateral. We recognize the accretable yield as Interest income on a prospective level yield basis over the life of the pool. Our expectation of the amount of undiscounted cash flows to be collected is evaluated at the end of each calendar quarter. If we expect to collect greater cash flows over the life of the pool, any prior allowance is reversed to the extent of the increase and the expected yield to maturity is adjusted on a prospective basis. The allowance for credit losses is increased when we estimate we will not collect all amounts previously estimated to be collectible. Reduction to the allowance, or recovery, may occur if there is an increase in expected future cash flows that were previously subject to a provision for loss. Management assesses the credit quality of the portfolio and the adequacy of loan loss reserves on a quarterly basis, or more frequently as necessary. Significant judgment is required in this analysis. Depending on the expected recovery of our investment, we consider the estimated net recoverable value of the loan pools as well as other factors, such as the fair value of the underlying collateral. Because these determinations are based upon projections of future economic events, which are inherently subjective, the amounts ultimately realized may differ materially from the carrying value as of the reporting date.
Our mortgage loans are secured by real estate. We monitor the credit quality of the mortgage loans in our portfolio on an ongoing basis, principally by considering loan payment activity or delinquency status. In addition, we assess the expected cash flows from the mortgage loans, the fair value of the underlying collateral and other factors, and evaluate whether and when it becomes probable that all amounts contractually due will not be collected.
Borrower payments on our mortgage loans are classified as principal, interest, payments of fees, or escrow deposits. Amounts applied as interest on the borrower account are similarly classified as interest for accounting purposes and are classified as operating cash flows in our consolidated Statement of Cash Flows. Amounts applied as principal on the borrower account including amounts contractually due from borrowers that exceed our basis in loans purchased at a discount, are similarly classified as principal for accounting purposes and are classified as investing cash flows in the consolidated Statement of Cash Flows as required under U.S. GAAP. Amounts received as payments of fees are recorded in Other income and classified as operating cash flows in the consolidated Statement of Cash Flows. Escrow deposits are recorded on the Servicer’s balance sheet and do not impact our cash flow.
Non-PCD Loans - While we generally acquire loans that have experienced deterioration in credit quality, we also acquire loans that have not experienced a deterioration in credit quality and originate SBC loans which are also subject to the provisions of CECL as discussed above.
We estimate any allowance for credit losses for our non-PCD loans based on historical experience and the risk characteristics of the individual loans. Impaired loans are carried at the present value of expected future cash flows discounted at the loan’s effective interest rate, the loan’s market price, or the fair value of the collateral if the loan is collateral dependent. For individual loans, a troubled debt restructuring is a formal restructuring of a loan where, for economic or legal reasons related to the borrower’s financial difficulties, a concession that would not otherwise be considered is granted to the borrower. The concession may be granted in various forms, including providing a below-market interest rate, a reduction in the loan balance or accrued interest, an extension of the maturity date, or a combination of these. An individual loan that has had a troubled debt restructuring is considered to be impaired and is subject to the relevant accounting for impaired loans.
If necessary, an allowance for loan losses is established through a provision for loan losses charged to expenses. The allowance is the difference between the expected future cash flows from the loan and the contractual balance due.
Real Estate
Real estate owned Property - We acquire real estate properties directly through purchases, when we foreclose on the borrower and take title to the underlying property, or the borrower surrenders the deed in lieu of foreclosure. Property is recorded at cost if purchased, or at the present value of future cash flows if obtained through foreclosure. Property that we expect to actively market for sale is classified as held-for-sale. Property held-for-sale is carried at the lower of its acquisition basis or net realizable value (fair market value less expected selling costs, and any additional costs necessary to prepare the property for sale). Fair market value is determined based on broker price opinions (“BPOs”), appraisals, or other market indicators of fair value including list price or contract price, if listed or under contract for sale at the balance sheet date. Net unrealized losses due to changes in market value are recognized through a valuation allowance by charges to income through real estate operating expenses. No depreciation or amortization expense is recognized on properties held-for-sale. Holding costs are generally incurred by the Servicer and are subtracted from the Servicer’s remittance of sale proceeds upon ultimate disposition of properties held-for-sale.
Rental property is property not held-for-sale. Rental properties are intended to be held as long-term investments but may eventually be reclassified as held-for-sale. Property that arose through conversions of mortgage loans in our portfolio such as when a mortgage loan is foreclosed upon and we take title to the property or the borrower surrenders the deed in lieu of foreclosure is generally held for investment as rental property if the cash flows from use as a rental exceed the present value of expected cash flows from a sale. We also acquire rental properties through direct purchases of properties for our rental portfolio. Depreciation is provided for using the straight-line method over the estimated useful lives of the assets of 27.5 years. We perform an impairment analysis for rental property using estimated cash flows if events or changes in circumstances indicate that the carrying value may be impaired, such as prolonged vacancy, identification of materially adverse legal or environmental factors, changes in expected ownership period or a decline in market value to an amount less than cost. This analysis is performed at the property level. The cash flows are estimated based on a number of assumptions that are subject to economic and market uncertainties including, among others, demand for rental properties, competition for customers, changes in market rental rates, costs to operate each property and expected ownership periods.
Renovations are performed by the Servicer, and those costs are then reimbursed to the Servicer. Any renovations on properties which we elect to hold as rental properties are capitalized as part of the property’s basis and depreciated over the remaining estimated useful life of the property. We may perform property renovations to maximize the value of a property for either its rental strategy or for resale.
Investments in securities at fair value
Our Investments at Fair Value as of December 31, 2020 and December 31, 2019 consist of investments in senior and subordinated notes issued by joint ventures, which we form with third party institutional accredited investors. We recognize income on the debt securities using the effective interest method. Additionally, the notes are classified as available-for-sale and are carried at fair value with changes in fair value reflected in our consolidated statements of comprehensive income. We mark our investments to fair value using prices received from our financing counterparties and believe any unrealized losses on our debt securities to be temporary. Any other-than-temporary losses, which represent the excess of the amortized cost basis over the present value of expected future cash flows, are recognized in the period identified in our consolidated statements of income. Risks inherent in our debt securities portfolio, affecting both the valuation of the securities as well as the portfolio’s interest income include the risk of default, delays and inconsistency in the frequency and amount of payments, risks affecting
borrowers such as man-made or natural disasters, or the pandemic, and damage to or delay in realizing the value of the underlying collateral. We monitor the credit quality of the mortgage loans underlying our debt securities on an ongoing basis, principally by considering loan payment activity or delinquency status. In addition, we assess the expected cash flows from the mortgage loans, the fair value of the underlying collateral and other factors, and evaluate whether and when it becomes probable that all amounts contractually due will not be collected.
Investments in beneficial interests
Our Investments in beneficial interests as of December 31, 2020 and December 31, 2019 consist of investments in the trust certificates issued by joint ventures which we form with third party institutional accredited investors. The trust certificates represent the residual interest of any special purpose entity formed to facilitate certain investments. We account for our Investments in beneficial interests under CECL, as discussed under Mortgage Loans. The methodology is similar to that described in “Mortgage Loans” except that we only recognize the ratable share of gain, loss income or expense.
Debt
Secured Borrowings - Through securitization trusts which are VIEs, we issue callable debt secured by our mortgage loans in the ordinary course of business. The secured borrowings facilitated by the trusts are structured as debt financings, and the mortgage loans used as collateral remain on our consolidated balance sheet as we are the primary beneficiary of the securitization trusts. These secured borrowing VIEs are structured as pass through entities that receive principal and interest on the underlying mortgages and distribute those payments to the holders of the notes. Our exposure to the obligations of the VIEs is generally limited to our investments in the entities; the creditors do not have recourse to the primary beneficiary. Coupon interest expense on the debt is recognized using the accrual method of accounting. Deferred issuance costs, including original issue discount and debt issuance costs, are carried on our consolidated balance sheets as a deduction from Secured borrowings, and are amortized to interest expense on an effective yield basis based on the underlying cash flow of the mortgage loans serving as collateral. We assume the debt will be called at the specified call date for purposes of amortizing discount and issuance costs because we believe it will have the intent and ability to call the debt on the call date. Changes in the actual or projected underlying cash flows are reflected in the timing and amount of deferred issuance cost amortization.
Repurchase Facilities - We enter into repurchase financing facilities under which we nominally sell assets to a counterparty and simultaneously enter into an agreement to repurchase the sold assets at a price equal to the sold amount plus an interest factor. Despite being legally structured as sales and subsequent repurchases, repurchase transactions are generally accounted for as debt secured by the underlying assets. At the maturity of a repurchase financing, unless the repurchase financing is renewed, we are required to repay the borrowing including any accrued interest and concurrently receive back our pledged collateral from the lender. The repurchase financings are treated as collateralized financing transactions; pledged assets are recorded as assets in our consolidated balance sheets, and debt is recognized at the contractual amount. Interest is recorded at the contractual amount on an accrual basis. Costs associated with the set-up of a repurchasing contract are recorded as deferred expense at inception and amortized over the contractual life of the agreement. Any draw fees associated with individual transactions and any facility fees assessed on the amounts outstanding are recorded as deferred expense when incurred and amortized over the contractual life of the related borrowing.
Fair Value
Fair Value of Financial Instruments - Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. A fair value hierarchy has been established that requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. The standard describes three levels of inputs that may be used to measure fair value:
•Level 1 - Quoted prices in active markets for identical assets or liabilities.
•Level 2 - Observable inputs other than Level 1 prices, such as quoted prices for similar assets and liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities.
•Level 3 - Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities.
The degree of judgment utilized in measuring fair value generally correlates to the level of pricing observability. Assets and liabilities with readily available actively quoted prices or for which fair value can be measured from actively quoted prices generally will have a higher degree of pricing observability and a lesser degree of judgment utilized in measuring fair value. Conversely, assets and liabilities rarely traded or not quoted will generally have little or no pricing observability and a
higher degree of judgment utilized in measuring fair value. Pricing observability is impacted by a number of factors, including the type of asset or liability, whether it is new to the market and not yet established, and the characteristics specific to the transaction.
The fair value of mortgage loans is estimated using the Manager’s proprietary pricing model which estimates expected cash flows with the discount rate used in the present value calculation representing the estimated effective yield of the loans. The value of transfers of mortgage loans to REO is based upon the present value of future expected cash flows of the loans being transferred.
We value our investments in debt securities using estimates provided by our financing counterparties. We also rely on our Manager's proprietary pricing model to estimate the underlying cash flows expected to be collected on these investments as a comparison to the estimates received from financing counterparties. We also rely on our Manager's proprietary pricing model to estimate the underlying cash flows expected to be collected on our investments in beneficial interests. During the quarter ended September 30, 2020, we transferred our beneficial interests from level 2 to level 3 due to our increased reliance on our Manager’s pricing model for these valuations.
Our investment in the Manager is valued by applying an earnings multiple to base fee revenue.
Our investments in AS Ajax E LLC and AS Ajax E II LLC are valued using estimates provided by financing counterparties and other publicly available information.
The fair value of our investment in GAFS, including warrants, is determined by applying an earnings multiple to expected earnings.
The fair value of our investment in Gaea is estimated using a projected net operating income for its property portfolio.
The fair value of our investment in the loan pool LLCs is determined by using estimates of underlying assets and liabilities taken from our Manager's pricing model. Previously through September 30, 2020 the fair value of the investment in the loan pool LLCs was presented as the carrying value due to the recent nature of the acquisition transactions.
The fair value of secured borrowings is estimated using estimates provided by our financing counterparties, which are compared for reasonableness to our Manager’s proprietary pricing model which estimates expected cash flows of the underlying mortgage loans collateralizing the debt. During the quarter ended June 30, 2020, we transferred our secured borrowings from level 3 to level 2 due to our increased reliance on the use of estimates provided by our financing counterparties in the determination of secured borrowings fair values.
Our put option liability is adjusted to approximate market value through earnings. Fair value is determined by using the greater of the expected call or put prices based on the call price, the carry cost discount and the interest discount.
Our borrowings under repurchase agreements are short-term in nature, and our Manager believes it can renew the current borrowing arrangements on similar terms in the future. Accordingly, the carrying value of these borrowings approximates fair value.
Our convertible senior notes are traded on the NYSE; the debt’s fair value is determined from the NYSE closing price on the balance sheet date.
The carrying values of our Cash and cash equivalents, Cash held in trust, Receivable from Servicer, Prepaid expenses and other assets, Management fee payable and Accrued expenses and other liabilities are equal to or approximate fair value.
Recent Accounting Pronouncements
Refer to the notes to our consolidated financial statements for a description of relevant recent accounting pronouncements.
Results of Operations
For the year ended December 31, 2020, we had net income attributable to common stockholders of $22.8 million, or $1.00 per share, for basic and diluted common shares. For the year ended December 31, 2019, we had net income attributable to common stockholders of $34.7 million or $1.74 per share, for basic and $1.59 for diluted common shares. For the year ended December 31, 2018, we had net income attributable to common stockholders of $28.3 million, or $1.50 per share, for basic and $1.43 for diluted common shares. Key items for the year ended December 31, 2020 include:
•Formed joint ventures that acquired $1.2 billion in UPB of mortgage loans with collateral values of $1.9 billion and retained $144.7 million of varying classes of securities.
•Purchased $55.1 million of RPLs, with UPB of $61.7 million and 59.4% of property value, $14.1 million of NPLs, with UPB of $16.0 million and 50.7% of property value and $19.8 million of SBC loans, with UPB of $20.3 million and 52.8% of property value, to end the year with $1.1 billion in net mortgage loans.
•Interest income of $100.1 million; net interest income of $51.4 million excluding the impact of a net $10.8 million recovery of provision for credit losses.
•Net income attributable to common stockholders of $22.8 million.
•Basic earnings per share of $1.00 per share.
•Book value per share of $15.59 at December 31, 2020.
•Taxable income of $0.55 per share.
•Collected total cash of $240.3 million, from loan payments, sales of REO and investments in debt securities and beneficial interests.
•Held $107.1 million of cash and cash equivalents at December 31, 2020; average daily cash balance was $110.5 million.
•At December 31, 2020, 71.9% of our portfolio based on UPB had made at least the last 12 out of 12 payments.
Our consolidated net income attributable to common stockholders decreased for the year ended December 31, 2020 to $22.8 million from $34.7 million for the year ended 2019 and $28.3 million for the year ended 2018. Our net interest income after the recovery of provision for credit losses increased to $62.2 million for the year ended December 31, 2020 from $52.3 million for the year ended 2019 and $53.7 million for the year ended 2018, primarily as a result of $10.8 million in net recovery of provision for credit losses on our loan and beneficial interest portfolios. Comparatively, for the years ended 2019 and 2018 our provisions for credit losses were expenses in the amounts of $0.8 million and $1.2 million, respectively. Other income decreased for the year ended December 31, 2020 to $2.3 million from $4.2 million for the year ended 2019 and $3.7 million for the year ended 2018 primarily driven by the decrease in rental revenue from the capital raise transaction for Gaea in the fourth quarter of 2019. Also during the year ended December 31, 2020 we sold 26 mortgage loans with a carrying value of $26.1 million, and UPB of $26.2 million for a loss of $0.7 million. Comparatively, during the year ended 2019 we sold 965 mortgage loans with a carrying value of $178.8 million and UPB of $202.1 million for a gain of $7.1 million. We sold no mortgage loans during the year ended 2018. Our book value decreased to $15.59 per share from $15.80 at December 31, 2019 primarily from the effects of our stock dividend of 781,222 shares paid out on March 27, 2020.
We recorded a loss from our investment in affiliates of $0.2 million for the year ended December 31, 2020 compared to income of $1.3 million for the year ended 2019 and $0.8 million for the year ended 2018. The primary driver of the loss in 2020 is the flow-through impact of the mark to market loss on shares of our stock held by our Manager and our Servicer. We account for our investments in our Manager and our Servicer using the equity method of accounting.
We recorded $1.4 million in impairments on our REO held-for-sale portfolio in real estate operating expense for the year ended December 31, 2020 compared to $2.1 million for the year ended 2019 and $2.7 million for the year ended 2018. Impairments during the year were driven primarily by the costs of holding the properties. We continue to liquidate our REO properties held-for-sale at a faster rate than we acquire properties, with 50 properties sold during the year ended December 31, 2020 while 20 were added to REO held-for-sale through foreclosures. We expect the rate of new foreclosures to slow due to the continuing impact of the COVID-19 pandemic. During the year ended December 31, 2019 we sold 109 REO properties while adding 61 through foreclosures.
Table 1: Results of Operations
For the year ended December 31,
($ in thousands) 2020 2019 2018
INCOME
Interest income $ 100,071 $ 112,416 $ 108,181
Interest expense (48,692) (59,325) (53,335)
Net interest income 51,379 53,091 54,846
Provision for credit benefit/(losses) 10,820 (803) (1,164)
Net interest income after provision for credit benefit/(losses) 62,199 52,288 53,682
(Loss)/income from investment in affiliates (155) 1,332 762
(Loss)/income on sale of mortgage loans (705) 7,123 -
Other income 2,272 4,176 3,720
Total revenue, net 63,611 64,919 58,164
EXPENSE
Related party expense - loan servicing fees 7,678 9,133 10,148
Related party expense - management fee 8,456 7,356 6,025
Loan transaction expense (211) 328 389
Professional fees 2,834 2,550 2,179
Real estate operating expenses 1,482 3,685 3,252
Other expense 9,228 4,225 3,934
Total expense 29,467 27,277 25,927
Loss on debt extinguishment 661 429 836
Income before provision for income taxes 33,483 37,213 31,401
Provision for income taxes (benefit) (125) 124 64
Consolidated net income 33,608 37,089 31,337
Less: consolidated net income attributable to the non-controlling interest 5,112 2,384 2,997
Consolidated net income attributable to Company 28,496 34,705 28,340
Less: dividends on preferred stock 5,740 - -
Consolidated net income attributable to common stockholders $ 22,756 $ 34,705 $ 28,340
Interest Income
Our primary source of income is accretion earned on our mortgage loan and mortgage securities portfolios offset by the interest expense incurred to fund and hold portfolio acquisitions. Net interest income after recovery of provision for credit losses increased to $62.2 million for the year ended December 31, 2020 from $52.3 million for the year ended December 31, 2019 and $53.7 million for the year ended December 31, 2018 primarily as a result of a net $10.8 million recovery of provision for credit losses on our loan and beneficial interest portfolios as a result of better than expected loan performance and the impact this has on expectations of future repayment rates. As a result we recorded recoveries of provisions for credit losses of $8.3 million on our mortgage loan portfolio and $2.5 million on our investments in beneficial interests. Comparatively during the years ended December 31, 2019 and 2018 we recorded net provisions for credit losses of $0.8 million and $1.2 million, respectively, on our mortgage loan portfolio and no provisions for credit losses on our investments in beneficial interests. Our accounting for credit losses during the calendar year 2020 is based on CECL, under which both increases and decreases in payment expectations are recorded in the period determined. For the comparative periods in 2019 and 2018, our impairment charges were determined under ASC 310-30, under which decreases in payment expectations were recorded in the period determined while increases in payment expectations were recorded prospectively over the remaining life of the loan pool.
Our gross interest income for the year ended December 31, 2020 was $100.1 million, a decrease from $112.4 million for the year ended 2019 driven primarily by a decrease in our average balance of our mortgage loan portfolio offset by an increase in the average balance of our debt securities and beneficial interests. Additionally, interest income on our debt securities and beneficial interests are recorded net of servicing fees while interest income on our loan portfolio is recorded gross of servicing fees. Gross interest income for the year ended December 31, 2018 was $108.2 million. The overall increase in gross interest income from 2018 to 2019 was primarily due to an increase in our portfolio of debt securities and beneficial interests.
The weighted average balance of our mortgage loan portfolio decreased to $1.1 billion for the year ended December 31, 2020 from $1.2 billion for the year ended December 31, 2019 and $1.3 billion for the year ended December 31,
2018. Interest income on our debt securities and beneficial interests portfolios increased to $9.9 million and $11.8 million, respectively, for the year ended December 31, 2020, as our investments in debt securities and beneficial interests continues to outpace our investments in mortgage loans. Interest income on our debt securities and beneficial interests portfolios for the year ended December 31, 2019 was $6.7 million and $6.4 million, respectively, compared to $2.0 million and zero, respectively, for the year ended December 31, 2018. Additionally, we collected $240.3 million in cash payments and proceeds on our mortgage loans, securities and REO held-for-sale for the year ended December 31, 2020 compared to collections of $253.6 million for the year ended December 31, 2019, and $219.8 million for the year ended December 31, 2018. During 2020 we continued to see an elevated volume of payoffs as borrowers continued to refinance or sell the underlying property.
Our interest expense decreased for the year ended December 31, 2020 to $48.7 million from $59.3 million for the year ended 2019 and from $53.3 million for the year ended 2018 primarily due to decreases in the average interest rates applicable to our mortgage and bond repurchase agreements and secured borrowings as LIBOR remains extremely low. Additionally, improvements in the credit quality of our loan portfolio has allowed us to issue senior bonds at increasingly lower rates. We expect our cost of funds to continue to decrease in the current interest rate and credit environment.
The interest income detail for the years ended December 31, 2020, 2019 and 2018 are included in the table below ($ in thousands):
Table 2: Interest income detail
For the year ended December 31,
2020 2019(1)
2018(1)
Accretable yield recognized on RPL, NPL and SBC loans $ 77,841 $ 97,942 $ 105,148
Interest income on beneficial interests 11,754 6,426 -
Interest income on debt securities 9,852 6,655 1,980
Bank interest income 346 1,031 628
Other interest income 278 362 425
Interest income $ 100,071 $ 112,416 $ 108,181
Provision for credit benefit/(losses) 10,820 (803) (1,164)
Total interest income after provision for credit benefit/(losses) $ 110,891 $ 111,613 $ 107,017
(1)Previously presented combination of interest income on securities and interest income on beneficial interests has been bifurcated to show each separately.
The average balance of our mortgage loan portfolio, debt securities, beneficial interests and debt outstanding for the years ended December 31, 2020 and 2019 are included in the table below ($ in thousands):
Table 3: Average Balances
For the year ended December 31,
2020 2019(1)
Mortgage loan portfolio $ 1,103,472 $ 1,210,370
Average carrying value of debt securities $ 261,320 $ 155,041
Average carrying value of beneficial interests $ 71,195 $ 37,859
Total average asset level debt $ 1,043,445 $ 1,090,296
(1)Previously presented combination of average carrying value of debt securities and beneficial interests has been bifurcated to show to average carrying value of debt securities and average carrying value of beneficial interests separately.
Gain (loss) on sale of mortgage loans
During the year ended December 31, 2020 we sold 26 mortgage loans with an aggregate carrying value of $26.1 million and UPB of $26.2 million for a loss of $0.7 million. During the year ended December 31, 2019 we sold 965 mortgage loans with an aggregate carrying value of $178.8 million and UPB of $202.1 million for a gain of $7.1 million. We sold no mortgage loans during the year ended December 31, 2018.
Other Income
Other income decreased for the year ended December 31, 2020 as compared to both the years ended 2019 and 2018 due to decreased rental income from the impact on our rental portfolio of our Gaea capital raise in November 2019 and lower income from the federal government’s HAMP as more loans reached the five-year threshold beyond which no additional fees are earned. This was partially offset by the increased net gain on sale of property held-for-sale and the gain on sale of securities. A breakdown of Other income is provided in the table below ($ in thousands):
Table 4: Other Income
For the year ended December 31,
2020 2019 2018
Net gain on sale of Property held-for-sale $ 1,011 $ 610 $ 414
Late fee income 700 779 916
HAMP fees 370 836 1,489
Gain on sale of securities 149 8 363
Rental Income 42 1,943 538
Total Other Income $ 2,272 $ 4,176 $ 3,720
Expenses
Total expenses for the year ended December 31, 2020 increased from the years ended 2019 and 2018. Other expense increased by $5.0 million from the year ended 2019 and again by $0.3 million in 2019 from 2018. The increase in 2020 is primarily a result of amortization expense on the put option on our outstanding warrants and an increase in management fees driven by an increase in our capital base as a result of our private placements of preferred stock and warrants completed during the second quarter of 2020. The increase from 2018 to 2019 was driven primarily by an increase in management fee expense from continued growth in our equity base. Our professional fees were higher in 2020 than 2019 and in 2019 from 2018 primarily from increases in fees for tax consulting and legal services. For the year ended December 31, 2020 as compared to the year ended 2019 and 2018 these increases were offset by lower loan servicing fees as a result of a lower average balance of our mortgage loan portfolio due to increased investments in our joint ventures. Real estate operating expense decreased in 2020 by $2.2 million over 2019, due to the impact on our rental portfolio of the Gaea capital raise in November 2019. Comparatively, real estate operating expense increased by $0.4 million from 2018 to 2019 due to the inclusions in our financial results of our portfolio of rental property prior to the capital raise transaction for Gaea in the fourth quarter of 2019. Loan transaction expense was reduced in 2020 from 2019 and again in 2019 from 2018 due to lower direct loan purchases for our own portfolio as compared to joint ventures. A breakdown of our expenses is provided in the table below ($ in thousands):
Table 5: Expenses
For the year ended December 31,
2020 2019 2018
Other expense $ 9,228 $ 4,225 $ 3,934
Related party expense - management fee 8,456 7,356 6,025
Related party expense - loan servicing fees 7,678 9,133 10,148
Professional fees 2,834 2,550 2,179
Real estate operating expense 1,482 3,685 3,252
Loan transaction expense (211) 328 389
Total expenses $ 29,467 $ 27,277 $ 25,927
Other Expense
Other expense for the year ended December 31, 2020 increased from the years ended 2019 and 2018 primarily due to the amortization of our put option expense, borrowing related expenses and insurance expense offset by lower employee and service provider share grants. A breakdown of other expense is provided in the table below ($ in thousands):
Table 6: Other Expense
For the year ended December 31,
2020 2019 2018
Amortization of put option expense $ 4,733 $ - $ -
Insurance 835 695 588
Borrowing related expenses 802 554 586
Employee and service provider share grants 728 839 880
Taxes and regulatory expense 481 478 293
Directors' fees and grants 427 423 482
Other expense 355 266 273
Software licenses and amortization 302 227 210
Travel, meals, entertainment 265 293 389
Lien release non due diligence 156 253 66
Internal audit services 144 197 167
Total other expense $ 9,228 $ 4,225 $ 3,934
Equity and Net Book Value per Share
Our net book value per share was $15.59 and $15.80 at December 31, 2020 and 2019, respectively, a decrease of $0.21. While U.S. GAAP does not specifically define the parameters for calculating book value, we believe our calculation is representative of our book value on a per share basis, and our Manager believes book value per share is a valuable metric for evaluating our business. The net book value per share is calculated by dividing equity, after adjusting for the anticipated conversion of the senior convertible notes into shares of common stock, the subtraction of non-controlling interests and preferred shares classified in equity, and shares for Manager and director fees that were approved but still unissued as of the date indicated, unvested employee and service provider stock grants and the common shares from assumed conversion of our Senior convertible notes. A breakdown of our book value per share is set forth in the table below ($ in thousands except per share amounts):
Table 7: Book Value per Common Share
As of December 31,
2020 2019
Outstanding shares 22,978,339 22,142,143
Adjustments for:
Unvested grants of restricted stock, and Manager and director shares earned but not issued as of the date indicated 4,280 2,600
Conversion of convertible senior notes into shares of common stock 7,834,299 8,270,208
Total adjusted shares outstanding 30,816,918 30,414,951
Equity at period end $ 514,491 $ 384,084
Net increase in equity from expected conversion of convertible senior notes 110,250 120,669
Adjustment for equity due to preferred shares (115,144) -
Net adjustment for equity due to non-controlling interests (29,130) (24,257)
Adjusted equity $ 480,467 $ 480,496
Book value per share $ 15.59 $ 15.80
Table 8: Fair Value Balance Sheet
The table below presents a summarized version of our U.S. GAAP balance sheets as compared to a summarized balance sheets presented at our estimates of fair values. While U.S. GAAP does not specifically define the parameters for the presentation of a fair value balance sheet, we believe the presentation is representative of our fair value, and our Manager believes this presentation is a valuable metric for evaluating our business below ($ in thousands):
December 31, 2020 December 31, 2019
GAAP Adjustments for fair value Fair Value GAAP Adjustments for fair value Fair Value
ASSETS
Cash and Cash held in trust $ 107,335 $ - $ 107,335 $ 64,363 $ - $ 64,363
Mortgage loans, net 1,119,372 112,709 1,232,081 1,151,469 108,916 1,260,385
Investments in debt securities and beneficial interests 365,252 - 365,252 289,639 - 289,639
Investments in affiliates, real property and other assets 61,773 10,682 72,455 71,370 6,262 77,632
Total Assets $ 1,653,732 $ 123,391 $ 1,777,123 $ 1,576,841 $ 115,178 $ 1,692,019
LIABILITIES AND EQUITY
Liabilities:
Secured borrowings, net $ 585,403 $ 1,016 $ 586,419 $ 652,747 $ 5,171 $ 657,918
Borrowings under repurchase agreements 421,132 - 421,132 414,114 - 414,114
Convertible senior notes, net 110,057 618 110,675 118,784 13,389 132,173
Other liabilities 22,649 - 22,649 7,112 - 7,112
Total Liabilities 1,139,241 1,634 1,140,875 1,192,757 18,560 1,211,317
Equity:
Total Equity 514,491 121,757 636,248 384,084 96,618 480,702
Total Liabilities and Equity $ 1,653,732 $ 123,391 $ 1,777,123 $ 1,576,841 $ 115,178 $ 1,692,019
The adjustments for fair value for our mortgage loans are determined using our Manager’s proprietary pricing model which estimates expected cash flows with the discount rate used in the present value calculation representing the estimated effective yield of the loans.
The fair values of our investments in affiliates are determined using methodologies appropriate to each affiliate. As of December 31, 2020, our investment in the Manager is valued by applying an earnings multiple to base fee revenue. Our investment in AS Ajax E LLC and AS Ajax E II LLC are valued using estimates provided by financing counterparties or other publicly available information. The fair value of our investment in GAFS, including warrants, is determined by applying an earnings multiple to expected earnings. Our investment in Gaea is estimated using a projected net operating income for its property portfolio. As of December 31, 2020 our investment in the loan pool LLCs are presented by using estimates of underlying assets and liabilities from our Manager's pricing model. Previously through September 30, 2020 the fair value of our investment in the loan pool LLCs was presented as the carrying value due to the recent nature of the acquisition transactions.
The fair value of secured borrowings is estimated using estimates provided by our financing counterparties, which are compared for reasonableness to the Manager’s proprietary pricing model, which estimates expected cash flows of the underlying mortgage loans collateralizing the debt.
The fair value of our convertible senior notes is determined from the NYSE closing price of such notes on the balance sheet date.
Mortgage Loan Portfolio
For the years ended December 31, 2020 and December 31, 2019, we acquired 304 and 573 RPLs with an aggregate acquisition price of $55.1 million and $104.5 million, respectively, representing 89.3% and 85.3% of UPB, respectively. We acquired 65 and 35 NPLs for the years ended December 31, 2020 and December 31, 2019 with an aggregate acquisition price of $14.1 million and $5.7 million, respectively, representing 87.8% and 84.2% of UPB, respectively. For the years ended December 31, 2020 and December 31, 2019, we acquired 14 and 22 SBC loans with an aggregate acquisition price of $19.8 million and $19.0 million, respectively, representing 97.7% and 100.0% of UPB, respectively. We ended the period with $1.1 billion of mortgage loans with an aggregate UPB of $1.2 billion as of December 31, 2020 and $1.2 billion of mortgage loans with an aggregate UPB of $1.3 billion as of December 31, 2019.
The following table shows loan portfolio acquisitions for the years ended December 31, 2020, and 2019 ($ in thousands):
Table 9: Loan Portfolio Acquisitions
For the year ended December 31,
2020 2019
RPLs
Count 304 573
UPB $ 61,704 $ 122,463
Purchase price $ 55,090 $ 104,478
Purchase price % of UPB 89.3 % 85.3 %
NPLs
Count 65 35
UPB $ 16,022 $ 6,732
Purchase price $ 14,075 $ 5,668
Purchase price % of UPB 87.8 % 84.2 %
SBC loans
Count 14 22
UPB $ 20,276 $ 19,025
Purchase price $ 19,800 $ 19,034
Purchase price % of UPB 97.7 % 100.0 %
During the year ended December 31, 2020, 538 mortgage loans, representing 11.1% of our ending UPB, were liquidated. Comparatively, during the year ended 2019, 1,562 mortgage loans, representing 24.4% of our ending UPB, were liquidated. Our loan portfolio activity for the years ended December 31, 2020 and 2019 are presented below ($ in thousands):
Table 10: Loan Portfolio Activity
For the year ended December 31,
2020 2019(1)
Beginning carrying value $ 1,151,469 $ 1,310,873
RPL, NPL and SBC portfolio acquisitions, net cost basis 88,965 129,186
Draws on SBC loans 56 912
Accretion recognized 77,129 96,064
Payments received on loans, net (175,678) (191,647)
Reclassifications to REO (4,764) (12,104)
Sale of mortgage loans (26,111) (180,992)
Provision for credit benefit/(losses) on mortgage loans 8,274 (803)
Other 32 (20)
Ending carrying value $ 1,119,372 $ 1,151,469
(1)Includes reclass of SBC non-pooled portfolio acquisitions, net cost basis to RPL, NPL and SBC portfolio acquisitions, net cost basis.
Table 11: Portfolio Composition
As of December 31, 2020 and December 31, 2019, our portfolios consisted of the following ($ in thousands):
December 31, 2020(1,2)
December 31, 2019(1,2)
No. of Loans 6,031 No. of Loans 6,184
Total UPB(3)
$ 1,204,804 Total UPB(3)
$ 1,268,126
Interest-Bearing Balance $ 1,127,499 Interest-Bearing Balance $ 1,190,917
Deferred Balance(4)
$ 77,305 Deferred Balance(4)
$ 77,209
Market Value of Collateral(5)
$ 1,967,419 Market Value of Collateral(5)
$ 1,783,856
Original Purchase Price/Total UPB 82.2 % Original Purchase Price/Total UPB 82.9 %
Original Purchase Price/Market Value of Collateral 53.7 % Original Purchase Price/Market Value of Collateral 61.9 %
Weighted Average Coupon 4.44 % Weighted Average Coupon 4.55 %
Weighted Average LTV(6)
72.8 % Weighted Average LTV(6)
83.5 %
Weighted Average Remaining Term (months) 297 Weighted Average Remaining Term (months) 311
No. of first liens 5,973 No. of first liens 6,124
No. of second liens 58 No. of second liens 60
No. of Rental Properties 6 No. of Rental Properties 10
Capital Invested in Rental Properties $ 710 Capital Invested in Rental Properties $ 1,591
RPLs 94.4 % RPLs 95.3 %
NPLs 3.5 % NPLs 2.7 %
SBC loans 2.1 % SBC loans 2.0 %
No. of REO properties held-for-sale 32 No. of REO properties held-for-sale 58
Market Value of other REO(7)
$ 8,105 Market Value of other REO(7)
$ 13,987
Carrying value of debt securities and beneficial interests in trusts $ 369,330 Carrying value of debt securities and beneficial interests in trusts $ 288,362
Loans with 12 for 12 payments as an approximate percentage of UPB(8)
71.9 % Loans with 12 for 12 payments as an approximate percentage of UPB(8)
76.0 %
Loans with 24 for 24 payments as an approximate percentage of UPB(9)
65.1 % Loans with 24 for 24 payments as an approximate percentage of UPB(9)
64.0 %
(1) Includes the impact of 1,003 mortgage loans with a purchase price of $177.3 million, UPB of $194.3 million and collateral value of $295.3 million acquired in the fourth quarter of 2017 through a 50.0% owned joint venture which we consolidate.
(2)Includes the impact of 256 mortgage loans with a purchase price of $47.4 million, UPB of $52.8 million and collateral value of $68.1 million acquired in the third quarter of 2018 through a 63.0% owned joint venture which we consolidate.
(3)At December 31, 2020 and 2019, our loan portfolio consists of fixed rate (53.5% of UPB), ARM (8.9% of UPB) and Hybrid ARM (37.6% of UPB); and fixed rate (52.8% of UPB), ARM (9.5% of UPB) and Hybrid ARM (37.7% of UPB), respectively.
(4)Amounts that have been deferred in connection with a loan modification on which interest does not accrue. These amounts generally become payable at the time of maturity.
(5)As of date of acquisition.
(6)UPB as of December 31, 2020 and 2019, divided by market value of collateral and weighted by the UPB of the loan.
(7)Market value of REO is based on net realizable value. Fair market value is determined based on appraisals, BPOs, or other market indicators of fair value including list price or contract price.
(8)Loans that have made at least 12 of the last 12 payments, or for which the full dollar amount to cover at least 12 payments has been made in the last 12
months.
(9)Loans that have made at least 24 of the last 24 payments, or for which the full dollar amount to cover at least 24 payments has been made in the last 24
months.
Table 12: Portfolio Characteristics
The following tables present certain characteristics about our mortgage loans by year of origination as of December 31, 2020 and December 31, 2019, respectively ($ in thousands):
Portfolio at December 31, 2020
Years of Origination
After 2008 2006 - 2008 2005 and prior
Number of loans 639 3,471 1,921
Unpaid principal balance $ 156,250 $ 780,956 $ 267,598
Mortgage loan portfolio by year of origination 13.0 % 64.8 % 22.2 %
Loan Attributes:
Weighted average loan age (months) 91.0 166.7 205.8
Weighted Average loan-to-value 69.4 % 77.0 % 62.6 %
Delinquency Performance:
Current 53.0 % 51.9 % 53.3 %
30 days delinquent 13.6 % 11.4 % 10.9 %
60 days delinquent 3.8 % 6.7 % 6.8 %
90+ days delinquent 25.3 % 25.1 % 25.4 %
Foreclosure 4.3 % 4.9 % 3.6 %
Portfolio at December 31, 2019
Years of Origination
After 2008 2006 - 2008 2005 and prior
Number of loans 625 3,576 1,983
Unpaid principal balance $ 153,923 $ 826,684 $ 287,519
Mortgage loan portfolio by year of origination 12.1 % 65.2 % 22.7 %
Loan Attributes:
Weighted average loan age (months) 88.0 154.5 193.3
Weighted Average loan-to-value 72.7 % 81.2 % 66.5 %
Delinquency Performance:
Current 61.9 % 56.9 % 58.8 %
30 days delinquent 9.5 % 13.0 % 12.6 %
60 days delinquent 6.5 % 8.4 % 8.2 %
90+ days delinquent 20.5 % 17.3 % 17.3 %
Foreclosure 1.6 % 4.4 % 3.1 %
Table 13: Loans by State
The following table identifies our mortgage loans by state, number of loans, loan value, collateral value and percentages thereof at December 31, 2020 and December 31, 2019 ($ in thousands):
December 31, 2020 December 31, 2019
State Count UPB % UPB Collateral
Value(1)
% of
Collateral
Value State Count UPB % UPB Collateral
Value(1)
% of
Collateral
Value
CA 947 $ 329,725 27.4 % $ 589,225 30.0 % CA 1,010 $ 370,838 29.2 % $ 564,169 31.6 %
FL 655 108,293 9.0 % 174,849 8.9 % FL 689 119,728 9.4 % 156,967 8.8 %
TX 410 42,432 3.5 % 81,810 4.2 % NY 331 105,853 8.3 % 161,646 9.1 %
GA 352 45,817 3.8 % 71,586 3.7 % NJ 290 66,762 5.3 % 80,472 4.5 %
NY 329 103,475 8.6 % 177,524 9.0 % MD 257 63,349 5.0 % 74,027 4.2 %
NJ 287 65,764 5.5 % 89,389 4.5 % GA 363 48,969 3.9 % 62,960 3.5 %
MD 248 60,082 5.0 % 77,693 4.0 % VA 206 44,193 3.5 % 57,678 3.2 %
NC 240 33,146 2.8 % 52,217 2.7 % IL 228 42,962 3.4 % 49,586 2.8 %
IL 227 41,410 3.5 % 54,379 2.8 % TX 399 39,689 3.1 % 69,874 3.9 %
VA 205 43,563 3.6 % 63,132 3.2 % MA 181 37,596 3.0 % 53,785 3.0 %
PA 185 21,294 1.8 % 31,248 1.6 % NC 240 31,402 2.5 % 42,977 2.4 %
MA 177 35,454 2.9 % 61,220 3.1 % WA 114 28,489 2.2 % 43,372 2.4 %
AZ 150 29,765 2.5 % 47,835 2.4 % AZ 154 26,321 2.1 % 34,277 1.9 %
SC 129 14,206 1.2 % 22,213 1.1 % NV 107 21,384 1.7 % 27,540 1.5 %
TN 115 12,721 1.1 % 22,690 1.2 % PA 180 20,978 1.7 % 26,936 1.5 %
OH 110 12,929 1.1 % 17,843 0.9 % SC 129 15,282 1.2 % 21,263 1.2 %
WA 104 23,874 2.0 % 43,784 2.2 % MI 98 14,339 1.1 % 21,876 1.2 %
IN 98 9,180 0.8 % 14,476 0.7 % OH 110 13,515 1.1 % 15,451 0.9 %
NV 97 18,614 1.5 % 30,344 1.5 % OR 66 12,991 1.0 % 19,519 1.1 %
MI 97 13,103 1.1 % 19,832 1.0 % CT 72 12,594 1.0 % 15,832 0.9 %
CT 77 13,529 1.1 % 18,115 0.9 % TN 115 12,566 1.0 % 19,203 1.1 %
LA 76 7,631 0.6 % 11,910 0.6 % CO 63 12,368 1.0 % 22,471 1.3 %
MO 75 9,383 0.8 % 12,545 0.6 % MN 54 10,200 0.8 % 12,753 0.7 %
OR 70 24,303 2.0 % 46,279 2.4 % MO 80 10,003 0.8 % 12,427 0.7 %
CO 54 10,450 0.9 % 22,665 1.2 % IN 100 9,521 0.8 % 12,545 0.7 %
MN 49 9,121 0.8 % 13,242 0.7 % UT 52 8,923 0.7 % 13,957 0.8 %
UT 44 6,895 0.6 % 14,932 0.8 % LA 74 7,585 0.6 % 11,389 0.6 %
AL 44 3,670 0.3 % 4,891 0.2 % HI 17 7,229 0.6 % 10,093 0.6 %
WI 37 4,696 0.4 % 6,385 0.3 % DE 33 6,566 0.5 % 7,626 0.4 %
KY 36 4,158 0.3 % 6,032 0.3 % WI 37 4,772 0.4 % 5,827 0.3 %
DE 34 6,509 0.5 % 7,999 0.4 % DC 16 4,542 0.4 % 6,368 0.4 %
NM 30 4,450 0.4 % 6,207 0.3 % NM 30 4,525 0.4 % 5,407 0.3 %
OK 27 2,511 0.2 % 3,827 0.2 % KY 34 3,969 0.3 % 5,213 0.3 %
MS 26 2,149 0.2 % 3,168 0.2 % AL 43 3,569 0.3 % 4,480 0.3 %
AR 20 1,447 0.1 % 2,016 0.1 % RI 15 3,232 0.3 % 4,188 0.2 %
KS 19 1,379 0.1 % 2,897 0.1 % NH 17 3,016 0.2 % 4,290 0.3 %
NH 18 3,223 0.3 % 5,087 0.3 % OK 30 2,631 0.2 % 3,948 0.2 %
IA 18 1,736 0.1 % 2,267 0.1 % MS 25 2,389 0.2 % 3,062 0.2 %
DC 17 5,131 0.4 % 8,138 0.4 % ID 14 1,723 0.1 % 2,755 0.2 %
WV 17 1,258 0.1 % 1,830 0.1 % IA 16 1,599 0.1 % 2,011 0.1 %
HI 16 6,456 0.5 % 9,305 0.5 % WV 17 1,595 0.1 % 2,208 0.1 %
RI 14 3,084 0.3 % 4,481 0.2 % ME 11 1,564 0.1 % 1,829 0.1 %
ID 12 1,496 0.1 % 2,971 0.2 % KS 18 1,391 0.1 % 2,435 0.1 %
ME 10 1,372 0.1 % 1,801 0.1 % AR 18 1,318 0.1 % 1,777 0.1 %
MT 6 803 0.1 % 1,336 0.1 % NE 6 702 0.1 % 836 0.1 %
PR 5 518 - % 592 - % MT 5 697 0.1 % 1,005 0.1 %
SD 4 537 - % 872 - % PR 6 546 - % 838 0.1 %
NE 4 528 - % 603 - % WY 4 519 - % 593 - %
WY 3 438 - % 356 - % SD 3 509 - % 678 - %
ND 3 395 - % 472 - % VT 2 467 - % 470 - %
VT 2 452 - % 518 - % ND 3 403 - % 595 - %
AK 2 249 - % 391 - % AK 2 253 - % 372 - %
6,031 $ 1,204,804 100.0 % $ 1,967,419 100.0 % 6,184 $ 1,268,126 100.0 % $ 1,783,856 100.0 %
(1)As of date of acquisition.
Table 14: Debt Securities and Beneficial Interest Acquisitions
For the year ended December 31,
2020 2019
Class A securities
UPB $ 116,952 $ 140,168
Purchase price $ 115,558 $ 139,530
Purchase price % of UPB 98.8 % 99.5 %
Class B securities
UPB $ 9,923 $ 17,143
Purchase price $ 9,817 $ 16,845
Purchase price % of UPB 98.9 % 98.3 %
Beneficial interests
Purchase price $ 19,307 $ 31,450
Liquidity and Capital Resources
Source and Uses of Cash
Our primary sources of cash have consisted of proceeds from our securities offerings, our secured borrowings, repurchase agreements, principal and interest payments on our loan portfolio, principal paydowns on securities, and sales of properties held-for-sale. Depending on market conditions, we expect that our primary financing sources will continue to include secured borrowings, repurchase agreements, and securities offerings in addition to transaction or asset specific funding arrangements and credit facilities (including term loans and revolving facilities). We expect that these sources of funds will be sufficient to meet our short-term and long-term liquidity needs. As the local and global economies have weakened as a result of the COVID-19 pandemic, ensuring adequate liquidity is critical. We believe we have access to adequate resources to meet the needs of our existing operations, mandatory capital expenditures, dividend payments, and working capital, to the extent not funded by cash provided by operating activities. However, we expect the COVID-19 pandemic to adversely impact our future operating cash flows due to the inability of some of our borrowers to make scheduled payments on time or at all, and the potential for HPA decline. From time to time, we may invest with third parties and acquire interests in loans and other real estate assets through investments in joint ventures using special purpose entities that can result in investments at fair value and investments in beneficial interests, which are reflected on our consolidated balance sheet.
As of December 31, 2020 and December 31, 2019, substantially all of our invested capital was in RPLs, NPLs, SBC loans, property held-for-sale, debt securities, beneficial interests and rental properties. We also held approximately $107.1 million of cash and cash equivalents, an increase of $42.8 million from our balance of $64.3 million at the end of 2019, which was an increase of $9.2 million from our balance of $55.1 million at December 31, 2018. Our average daily cash balance during 2020 was $110.5 million, an increase from our average daily cash balance of $57.6 million during the year ended December 31, 2019 and also an increase from our average daily balance of $50.7 million at December 31, 2018.
Our collections of principal and interest payments on mortgages and securities, payoffs and proceeds and on the sale of our property held-for-sale were $240.3 million, $253.6 million and $219.8 million for the years ended December 31, 2020, 2019 and 2018, respectively.
Our operating cash outflows, including the effect of restricted cash, for the year ended December 31, 2020 and 2019 were $13.9 million and $15.0 million, respectively. Our operating cash inflows, including the effect of restricted cash, for the year ended December 31, 2018 was $1.0 million. Our primary operating cash inflow is cash interest payments on our mortgage loan pools, which was $48.1 million, $57.0 million and $60.0 million, respectively, for the years ended December 31, 2020, 2019 and 2018, respectively. Non-cash interest income accretion was $29.0 million, $39.1 million and $43.7 million for the years ended December 31, 2020, 2019 and 2018, respectively. Interest income on beneficial interests was $11.8 million, $6.4 million and zero during the years ended December 31, 2020, 2019 and 2018, respectively. Interest income on debt securities was $9.9 million, $6.7 million and $0.8 million during the years ended December 31, 2020, 2019 and 2018, respectively. During the year ended December 31, 2020 we recognized a loss of $0.7 million from the sale of 26 mortgage loans to Gaea, an affiliated entity. During the year ended December 31, 2019, we recognized a gain of $7.1 million from the sale of 965 mortgage loans to a related party joint venture, Ajax Mortgage Loan Trust 2019-C (“2019-C”). No mortgage loans were sold during the year ended December 31, 2018.
Though the ownership of mortgage loans and other real estate assets is our business, U.S. GAAP requires that operating cash flows do not include the portion of principal payments that are allocable to the discount we recognize on our mortgage loans including proceeds from loans that pay in full or are liquidated in a short sale or third party sale at foreclosure or the proceeds on the sales of our property held-for-sale. These activities are all considered to be investing activities under U.S. GAAP, and the cash flows from these activities are included in the investing section of our consolidated statements of cash flows. We expect that the impact of the COVID-19 outbreak will put pressure on our cash flow from operations as we enter into loan modifications on certain of our loans permitting interest payments to be deferred.
For the year ended December 31, 2020, our investing cash inflows of $24.2 million were driven primarily by the proceeds from principal payments on and payoffs of our mortgage loan portfolio of $127.5 million, principal payments on and payoffs of our debt securities and beneficial interests of $53.5 million, the sale of $38.9 million of debt securities held as investments and the sale of our mortgage loans to Gaea in the amount of $25.4 million. This was offset by purchases of debt securities and beneficial interests of $144.7 million and acquisitions of mortgage loans of $89.0 million. For the year ended December 31, 2019 our investing cash inflows of $100.2 million were driven primarily by the proceeds from the sale of mortgage loans of $212.6 million, principal payments on and payoffs of our mortgage loan portfolio of $134.7 million, principal payments on and payoffs of our debt securities and beneficial interests of $42.4 million, and the sale of $39.6 million of debt securities held as investments. This was offset by purchases of debt securities and beneficial interests of $187.8 million and acquisitions of mortgage loans of $129.2 million. For the year ended December 31, 2018 our investing cash outflows of $190.4 million were primarily driven by the acquisition of mortgage loans of $171.3 million and purchases of debt securities and beneficial interests of $176.4 million offset by principal payments on and payoffs of our mortgage loan portfolio of $142.1 million.
Our financing cash flows are driven primarily by funding used to acquire mortgage loan pools. We fund our mortgage loan pool acquisitions primarily through secured borrowings, repurchase agreements and the proceeds from our convertible debt and equity offerings. For the year ended December 31, 2020, we had net financing cash inflows of $32.7 million due to the issuance of our preferred stock and warrants, net of any offering costs for $125.0 million in a series of private placements to institutional accredited investors. Financing cash flows were also impacted by additional borrowings through repurchase transactions of $315.4 million and secured debt of $114.5 million, offset by repayments of $308.3 million on repurchase transactions and pay downs of existing debt obligations of $183.5 million on secured debt. We had net financing cash outflows for the year ended 2019 of $76.0 million due to repayments on repurchase transactions of $444.4 million and secured debt of $241.1 million, offset by additional borrowings through repurchase transactions of $322.6 million, on secured debt of $283.9 million and proceeds of $34.3 million from the sale of our common stock under our At the Market program (see Financing Activities - Equity offerings below). We had net financing cash inflows for the year ended 2018 of $163.8 million primarily from the issuance of secured notes for proceeds of $167.1 million, the issuance of convertible debt for net proceeds of $15.2 million, and proceeds from our repurchase agreements of $311.1 million, which was offset by the repayments on repurchase transactions of $53.4 million and on secured debt of $254.2 million. For the years ended December 31, 2020, 2019 and 2018 we paid $17.8 million, $27.1 million and $26.3 million, respectively, in cash dividends and distributions.
Financing Activities - Equity offerings
On February 28, 2020, our Board of Directors approved a stock buyback of up to $25.0 million of our common shares. The amount and timing of any repurchases will depend on a number of factors, including but not limited to the price and availability of the common shares, trading volume and general circumstances and market conditions. As of December 31, 2020 we held 107,243 shares of treasury stock consisting of 58,779 shares received through distributions of our shares previously held by our Manager and 48,464 shares acquired through open market purchases in the fourth quarter of 2020 under our approved stock buyback plan. As of December 31, 2019 we held 33,248 shares of treasury stock received through distributions of our shares previously held by our Manager.
During the year ended December 31, 2020, we issued an aggregate of $130.0 million of preferred stock and warrants to institutional accredited investors in a series of private placements. We issued 2,307,400 shares of 7.25% Series A Fixed-to-Floating Rate Preferred Stock and 2,892,600 shares of 5.00% Series B Fixed-to-Floating Rate Preferred Stock, each at a purchase price per share of $25.00 and two series of five-year warrants to purchase an aggregate of 6,500,000 shares of our common stock at an exercise price of $10.00 per share. Each series of warrants includes a put option that allows the holder to sell the warrants to us at a specified put price on or after July 6, 2023. Under U.S. GAAP, we are required to allocate the proceeds between the Preferred stock and warrants. The allocation of the proceeds, net of all offering costs, resulted in the Preferred series A shares receiving an allocation of $51.1 million, the Preferred series B shares receiving an allocation of $64.0 million and the warrants an allocation of $9.5 million. We mark the obligation for the warrants and future put liability to market though earnings. We expect to use the net proceeds from the private placement to acquire mortgage loans and mortgage-related assets consistent with our investment strategy.
During the year ended December 31, 2020, we did not sell any shares of common stock under our At the Market program which we established in October 2016, to sell, through our agents, shares of common stock with an aggregate offering price of up to $50.0 million. During the year ended December 31, 2019, we sold 2,278,518 shares of common stock for proceeds, net of issuance costs of $34.3 million under our At the Market program. During the year ended December 31, 2018, we did not sell any shares of common stock under our At the Market program. In accordance with the terms of the agreements, we may offer and sell shares of our common stock at any time and from time to time through the sales agents. Sales of the shares, if any, will be made by means of ordinary brokers’ transactions on the NYSE or otherwise at market prices prevailing at the time of the sale.
On November 22, 2019, Gaea completed a private capital raise transaction through which it raised $66.3 million from the issuance of 4,419,641 shares of its common stock to third parties to allow Gaea to continue to advance its investment strategy. The purchase price per share was $15.00. Upon completion of the private placement, we retained ownership of approximately 23.2% of Gaea with third party investors owning the remaining approximately 76.8%. Prior to the date of the capital raise, we consolidated Gaea’s results and balances. At December 31, 2020 we owned approximately 23.0% of Gaea with third party investors owning the remaining approximately 77.0%. From the date of the capital raise forward, we account for our investment in Gaea under the equity method.
Financing Activities - Borrowings and Repurchase Arrangements
From inception (January 30, 2014) to December 31, 2020, we have completed 16 secured borrowings, not including secured borrowings we completed for non-consolidated joint ventures (See Table 18: Investments in joint ventures), through securitization trusts pursuant to Rule 144A under the Securities Act, six of which were outstanding at December 31, 2020. The secured borrowings are structured as debt financings and not REMIC sales, and the loans included in the secured borrowings remain on our consolidated balance sheet as we are the primary beneficiary of the secured borrowing trusts, which are VIEs. The secured borrowing VIEs are structured as pass through entities that receive principal and interest on the underlying mortgages and distribute those payments to the holders of the notes. Our exposure to the obligations of the VIEs is generally limited to our investments in the entities. The notes that are issued by the secured borrowing trusts are secured solely by the mortgages held by the applicable trusts and not by any of our other assets. The mortgage loans of the applicable trusts are the only source of repayment and interest on the notes issued by such trusts. We do not guarantee any of the obligations of the trusts under the terms of the agreement governing the notes or otherwise.
Our secured borrowings are structured with Class A notes, subordinate notes, and trust certificates, which have rights to the residual interests in the mortgages once the notes are repaid. With the exception of our Ajax Mortgage Loan Trust 2017-D (“2017-D”) secured borrowings, from which we sold a 50% interest in the Class A notes and a 50% interest in the residual equity to third parties and 2018-C secured borrowings, from which we sold a 95% interest in the Class A notes and 37% in the Class B and trust certificates, we have retained the subordinate notes and the trust certificates from the six secured borrowings outstanding at December 31, 2020.
For all of our secured borrowings the Class A notes are senior, sequential pay, fixed rate notes, and with the exception of 2017-D and 2018-C as noted above, the Class B notes are subordinate, sequential pay, fixed rate notes with the exception of 2019-D, 2019-F and 2020-B which are subordinate, sequential pay, fixed rate notes for Class B-1 and variable rate notes for Class B-2 and Class B-3. The interest rate is effectively the rate equal to the spread between the gross average rate of interest the trust collects on its mortgage loan portfolio minus the rate derived from the sum of the servicing fee and other expenses of the trust. The Class M notes issued under 2017-B, 2019-D, 2019-F and 2020-B are also mezzanine, sequential pay, fixed rate notes.
For all of our secured borrowings, except 2017-B, 2019-D, 2019-F and 2020-B, which contains no interest rate step-up, if the Class A notes have not been redeemed by the payment date or otherwise paid in full 36 months after issue, an interest rate step-up of 300 basis points is triggered. Twelve months after the 300 basis points step up is triggered, an additional 100 basis point step up will be triggered, and an amount equal to the aggregate interest payment amount that accrued and would otherwise be paid to the subordinate notes will be paid as principal to the Class A notes on that date and each subsequent payment date until the Class A notes are paid in full. After the Class A notes are paid in full, the subordinate notes will resume receiving their respective interest payment amounts and any interest that accrued but was not paid while the Class A notes were outstanding. As the holder of the trust certificates, we are entitled to receive any remaining amounts in the trusts after the Class A notes and subordinate notes have been paid in full.
The following table sets forth the original terms of all outstanding securitization notes at their respective cutoff dates as of December 31, 2020:
Table 15: Secured Borrowings
Issuing Trust/Issue Date Interest Rate Step-up Date Security Original Principal Interest Rate
Ajax Mortgage Loan Trust 2017-B/ December 2017 None Class A notes due 2056 $115.8 million 3.16 %
None Class M-1 notes due 2056(3)
$9.7 million 3.50 %
None Class M-2 notes due 2056(3)
$9.5 million 3.50 %
None Class B-1 notes due 2056(1)
$9.0 million 3.75 %
None Class B-2 notes due 2056(1)
$7.5 million 3.75 %
Trust certificates(2)
$14.3 million - %
Deferred issuance costs $(1.8) million - %
Ajax Mortgage Loan Trust 2017-D/ December 2017 April 25, 2021 Class A notes due 2057(4)
$177.8 million 3.75 %
None Class B certificates(4)
$44.5 million - %
Deferred issuance costs $(1.1) million - %
Ajax Mortgage Loan Trust 2018-C/ September 2018 October 25, 2021 Class A notes due 2065(5)
$170.5 million 4.36 %
April 25, 2022 Class B notes due 2065(5)
$15.9 million 5.25 %
Trust certificates(5)
$40.9 million - %
Deferred issuance costs $(2.0) million - %
Ajax Mortgage Loan Trust 2019-D/ July 2019 None Class A-1 notes due 2065 $140.4 million 2.96 %
None Class A-2 notes due 2065 $6.1 million 3.50 %
None Class A-3 notes due 2065 $10.1 million 3.50 %
None Class M-1 notes due 2065(3)
$9.3 million 3.50 %
None Class B-1 notes due 2065(6)
$7.5 million 3.50 %
None Class B-2 notes due 2065(6)
$7.1 million variable(7)
None Class B-3 notes due 2065(6)
$12.8 million variable(7)
Deferred issuance costs $(2.7) million - %
Ajax Mortgage Loan Trust 2019-F/ November 2019 None Class A-1 notes due 2059 $110.1 million 2.86 %
None Class A-2 notes due 2059 $12.5 million 3.50 %
None Class A-3 notes due 2059 $5.1 million 3.50 %
None Class M-1 notes due 2059(3)
$6.1 million 3.50 %
None Class B-1 notes due 2059(6)
$11.5 million 3.50 %
None Class B-2 notes due 2059(6)
$10.4 million variable(7)
None Class B-3 notes due 2059(6)
$15.1 million variable(7)
Deferred issuance costs $(1.8) million - %
Ajax Mortgage Loan Trust 2020-B/ August 2020 None Class A-1 notes due 2059 $97.2 million 1.70 %
None Class A-2 notes due 2059 $17.3 million 2.86 %
None Class M-1 notes due 2059(3)
$7.3 million 3.70 %
None Class B-1 notes due 2059(6)
$5.9 million 3.70 %
None Class B-2 notes due 2059(6)
$5.1 million variable(7)
None Class B-3 notes due 2059(6)
$23.6 million variable(7)
Deferred issuance costs $(1.8) million - %
(1)The Class B notes are subordinate, sequential pay, fixed rate notes with Class B-2 notes subordinate to the Class B-1 notes. We have retained the Class B notes.
(2)The trust certificates issued by the trusts and the beneficial ownership of the trusts are retained by Great Ajax Funding LLC as the depositor. As the holder of the trust certificates, we are entitled to receive any remaining amounts in the trusts after the Class A notes, Class M notes, where present, and Class B notes have been paid in full.
(3)The Class M notes are subordinate, sequential pay, fixed rate notes with Class M-2 notes subordinate to the Class M-1 notes. We have retained the Class M notes.
(4)Ajax Mortgage Loan Trust ("AJAXM") 2017-D is a joint venture in which a third party owns 50% of the Class A notes and 50% of the Class B certificates. We are required to consolidate 2017-D under GAAP and are reflecting 100% of the mortgage loans, in Mortgage loans, net. 50% of the Class A notes, which are held by the third party, are included in Secured borrowings, net and 50% of the Class B-1 certificates are recognized as Non-controlling interest.
(5)AJAXM 2018-C is a joint venture in which a third party owns 95% of the Class A notes and 37% of the Class B notes and certificates. We are required to consolidate 2018-C under GAAP and are reflecting 100% of the mortgage loans, in Mortgage loans, net. 95% of the Class A notes and 37% of the Class B notes, which are held by the third party, are included in Secured borrowings, net. The 5% portion of the Class A notes retained by us have been encumbered under a repurchase agreement. 37% of the Class C certificates are recognized as Non-controlling interest.
(6)The Class B notes are subordinate, sequential pay, with B-2 and B-2 notes having variable interest rates and are subordinate to the Class B-1 notes. The Class B-1 notes are fixed rate notes. We have retained the Class B notes.
(7)The interest rate is effectively the rate equal to the spread between the gross average rate of interest the trust collects on its mortgage loan portfolio minus the rate derived from the sum of the servicing fee and other expenses of the trust.
Convertible Senior Notes
On April 25, 2017, we completed the public offer and sale of $87.5 million in aggregate principal amount of our convertible senior notes (the “notes”) due 2024, with follow-on offerings of an additional $20.5 million and $15.9 million, respectively, in aggregate principal amount completed on August 18, 2017 and November 19, 2018, respectively, which, combined with the notes from our April offering form a single series of fungible securities. The notes bear interest at a rate of 7.25% per annum, payable quarterly in arrears on January 15, April 15, July 15 and October 15 of each year. The notes will mature on April 30, 2024, unless earlier repurchased, converted or redeemed. During certain periods and subject to certain conditions the notes will be convertible by their holders into shares of our common stock at a conversion rate of 1.7279 shares of common stock per $25.00 principal amount of the notes, which represents a conversion price of approximately $14.47 per share of common stock. The conversion rate, and thus the conversion price, may be subject to adjustment under certain circumstances.
During the first and third quarter of 2020, we completed a series of convertible note repurchases for aggregate principal amounts of $8.0 million and $2.5 million, respectively, for total purchase prices of $8.2 million and $2.3 million, respectively. The carrying amounts of the equity component representing the embedded conversion feature reversed from Additional paid-in capital due to the first and third quarter of 2020 transactions were $0.1 million and zero, respectively.
Repurchase Transactions
We have two repurchase facilities whereby we, through two wholly owned Delaware trusts (the “Trusts”), acquire pools of mortgage loans which are then sold by the Trusts, as “Seller” to two separate counterparties, the “buyer” or “buyers.” One facility has a ceiling of $250.0 million and the other $400.0 million at any one time. Upon the time of the initial sale to the buyer, each Trust, with a simultaneous agreement, also agrees to repurchase the pools of mortgage loans from the buyer. Mortgage loans sold under these facilities carry interest calculated based on a spread to one-month LIBOR, which are fixed for the term of the borrowing. The purchase price that the Trust realizes upon the initial sale of the mortgage loans to the buyer can vary between 70% and 85% of the asset’s acquisition price, depending upon the facility being utilized and/or the quality of the underlying collateral. The obligations of the Trust to repurchase these mortgage loans at a future date are guaranteed by the Operating Partnership. The difference between the market value of the asset and the amount of the repurchase agreement is generally the amount of equity we have in the position and is intended to provide the buyer with some protection against fluctuations in the value of the collateral, and/or a failure by us to repurchase the asset and repay the borrowing at maturity. We also have four repurchase facilities substantially similar to the mortgage loan repurchase facilities where the pledged assets are the class B bonds and certificates from our securitization transactions. These facilities have no effective ceilings. Each repurchase transaction represents its own borrowing. As such, the ceilings associated with these transactions are the amounts currently borrowed at any one time. We have effective control over the assets subject to all of these transactions; therefore, our repurchase transactions are accounted for as financing arrangements.
A summary of our outstanding repurchase transactions at December 31, 2020 and 2019 follows ($ in thousands):
Table 16: Repurchase Transactions by Maturity Date
December 31, 2020
Maturity Date Origination date Maximum Borrowing Capacity Amount Outstanding Amount of Collateral Percentage of Collateral Coverage Interest Rate
January 6, 2021 October 9, 2020 $ 35,635 $ 35,635 $ 46,120 129 % 2.33 %
January 6, 2021 September 28, 2020 7,697 7,697 10,075 131 % 2.33 %
January 6, 2021 September 28, 2020 6,311 6,311 9,038 143 % 2.48 %
January 6, 2021 September 28, 2020 4,755 4,755 6,114 129 % 2.33 %
January 6, 2021 September 28, 2020 4,666 4,666 6,044 130 % 2.33 %
January 6, 2021 September 28, 2020 3,213 3,213 4,667 145 % 2.48 %
January 11, 2021 September 29, 2020 5,879 5,879 7,575 129 % 2.32 %
January 14, 2021 October 29, 2020 6,991 6,991 8,738 125 % 2.35 %
January 20, 2021 October 20, 2020 13,263 13,263 16,582 125 % 2.22 %
January 29, 2021 October 30, 2020 7,762 7,762 9,702 125 % 2.21 %
January 29, 2021 October 30, 2020 7,153 7,153 9,537 133 % 2.21 %
February 1, 2021 December 1, 2020 12,258 12,258 16,052 131 % 1.88 %
February 1, 2021 December 1, 2020 12,015 12,015 15,794 131 % 1.88 %
February 1, 2021 December 1, 2020 5,298 5,298 6,895 130 % 1.88 %
February 1, 2021 December 1, 2020 3,985 3,985 5,136 129 % 1.88 %
February 1, 2021 December 1, 2020 2,887 2,887 3,790 131 % 1.88 %
February 1, 2021 December 1, 2020 2,332 2,332 3,360 144 % 2.03 %
February 1, 2021 December 1, 2020 1,132 1,132 1,607 142 % 2.03 %
February 12, 2021 November 13, 2020 2,945 2,945 4,428 150 % 2.02 %
March 5, 2021 December 7, 2020 24,946 24,946 33,348 134 % 1.78 %
March 5, 2021 December 7, 2020 24,312 24,312 32,571 134 % 1.78 %
March 17, 2021 December 17, 2020 10,219 10,219 13,172 129 % 1.78 %
March 17, 2021 December 17, 2020 8,381 8,381 10,872 130 % 1.78 %
March 17, 2021 December 17, 2020 3,894 3,894 5,193 133 % 1.78 %
March 17, 2021 December 17, 2020 1,145 1,145 1,687 147 % 1.93 %
March 24, 2021 December 24, 2020 7,016 7,016 10,024 143 % 1.94 %
March 24, 2021 December 24, 2020 5,008 5,008 6,637 133 % 1.79 %
March 24, 2021 December 24, 2020 2,577 2,577 3,367 131 % 1.79 %
April 9, 2021 October 13, 2020 33,084 33,084 43,069 130 % 2.35 %
July 9, 2021 July 10, 2020 250,000 53,256 84,337 158 % 2.64 %
September 23, 2021 September 24, 2020 400,000 101,117 160,068 158 % 2.65 %
Totals/weighted averages $ 916,759 $ 421,132 $ 595,599 141 % 2.29 %
December 31, 2019
Maturity Date Origination date Maximum Borrowing Capacity Amount Outstanding Amount of Collateral Percentage of Collateral Coverage Interest Rate
January 3, 2020 November 26, 2019 $ 8,411 $ 8,411 $ 11,098 132 % 3.45 %
January 3, 2020 November 26, 2019 6,093 6,093 9,038 148 % 3.45 %
January 3, 2020 November 26, 2019 5,175 5,175 6,855 132 % 3.45 %
January 3, 2020 December 2, 2019 11,966 11,966 15,742 132 % 3.45 %
January 3, 2020 December 2, 2019 10,648 10,648 14,058 132 % 3.45 %
January 3, 2020 December 2, 2019 5,485 5,485 7,050 129 % 3.45 %
January 3, 2020 December 2, 2019 4,096 4,096 5,261 128 % 3.45 %
January 3, 2020 December 2, 2019 1,644 1,644 2,388 145 % 3.55 %
January 3, 2020 December 2, 2019 1,576 1,576 2,287 145 % 3.55 %
January 10, 2020 December 11, 2019 21,088 21,088 28,284 134 % 3.47 %
January 10, 2020 December 11, 2019 1,808 1,808 2,640 146 % 3.57 %
January 13, 2020 July 11, 2019 8,956 8,956 13,016 145 % 4.16 %
January 21, 2020 December 20, 2019 15,718 15,718 20,623 131 % 3.41 %
January 21, 2020 December 20, 2019 10,305 10,305 13,521 131 % 3.41 %
January 21, 2020 December 20, 2019 5,840 5,840 7,324 125 % 3.41 %
January 21, 2020 December 20, 2019 2,784 2,784 4,050 145 % 3.51 %
January 28, 2020 October 30, 2019 5,318 5,318 7,464 140 % 3.19 %
January 28, 2020 October 30, 2019 2,520 2,520 3,381 134 % 2.99 %
February 3, 2020 August 1, 2019 7,568 7,568 9,702 128 % 4.19 %
February 3, 2020 August 1, 2019 6,664 6,664 9,537 143 % 4.19 %
February 24, 2020 November 26, 2019 41,412 41,412 54,828 132 % 2.92 %
March 25, 2020 September 25, 2019 7,075 7,075 10,024 142 % 3.96 %
March 25, 2020 September 25, 2019 5,851 5,851 7,423 127 % 3.81 %
March 26, 2020 September 26, 2019 27,075 27,075 34,591 128 % 3.81 %
March 27, 2020 September 27, 2019 2,915 2,915 3,709 127 % 3.79 %
June 3, 2020 December 6, 2019 6,097 6,097 7,891 129 % 3.64 %
June 3, 2020 December 6, 2019 4,704 4,704 6,106 130 % 3.64 %
June 3, 2020 December 6, 2019 3,053 3,053 4,035 132 % 3.64 %
June 3, 2020 December 6, 2019 2,332 2,332 3,360 144 % 3.79 %
June 3, 2020 December 6, 2019 1,132 1,132 1,607 142 % 3.79 %
June 19, 2020 December 19, 2019 13,447 13,447 18,076 134 % 3.55 %
June 19, 2020 December 19, 2019 1,155 1,155 1,687 146 % 3.70 %
June 30, 2020 December 30, 2019 5,286 5,286 7,044 133 % 3.57 %
June 30, 2020 December 30, 2019 3,324 3,324 4,667 140 % 3.72 %
July 10, 2020 July 12, 2019 250,000 28,931 57,397 198 % 4.28 %
September 24, 2020 September 25, 2019 400,000 116,662 164,403 141 % 4.24 %
Totals/weighted averages $ 918,521 $ 414,114 $ 580,167 140 % 3.77 %
As of December 31, 2020, we had $421.1 million outstanding under our repurchase transactions compared to $414.1 million as of December 31, 2019. The maximum month-end balance outstanding during the year ended December 31, 2020 was $467.3 million, compared to a maximum month-end balance for the year ended 2019 of $562.0 million. The following table presents certain details of our repurchase transactions for the years ended December 31, 2020 and 2019 ($ in thousands):
Table 17: Repurchase Balances
For the year ended December 31,
2020 2019
Balance at the end of year $ 421,132 $ 414,114
Maximum month-end balance outstanding during the year $ 467,344 $ 561,982
Average balance $ 411,420 $ 481,889
The decrease in our average balance from $481.9 million for the year ended December 31, 2019 to our average balance of $411.4 million for the year ended December 31, 2020 was due to a net decrease in repurchase financing during the year ended December 31, 2020, as a result of decreased investments in mortgage loans and debt securities.
As of December 31, 2020 and 2019, we did not have any credit facilities or other outstanding debt obligations other than the repurchase facilities, secured borrowings, put option liability and our Senior convertible notes.
We are not required by our investment guidelines to maintain any specific debt-to-equity ratio, and we believe that the appropriate leverage for the particular assets we hold depends on the credit quality and risk of those assets, as well as the general availability and terms of stable and reliable financing for those assets.
Dividends
We may declare dividends based on, among other things, our earnings, our financial condition, our working capital needs, new opportunities, and distribution requirements imposed on REITs. The declaration of dividends to our stockholders and the amount of such dividends are at the discretion of our Board of Directors.
On March 4, 2021, our Board of Directors declared a dividend of $0.17 per share, to be paid on March 31, 2021 to stockholders of record as of March 18, 2021. Our Management Agreement with our Manager requires the payment of an incentive management fee above the amount of the base management fee if either, (1) for any quarterly incentive fee, the sum of cash dividends on our common stock, plus distributions on our externally-held operating partnership units, plus any quarterly increase in book value, all calculated on an annualized basis, exceed 8% of our book value, or (2) for any annual incentive fee, the value of quarterly cash dividends on our common stock, plus cash special dividends on our common stock, plus distributions on our externally-held operating partnership units all paid out within the applicable calendar year, paid out of our taxable income, exceeds of 8% (on an annualized basis) of our stock’s book value. For the years ended December 31, 2020, 2019 and 2018 we recorded an expense of zero, $0.7 million and $0.1 million, respectively, for an incentive fee payable to the Manager. Our dividend payments are driven by the amount of our taxable income, subject to IRS rules for maintaining our status as a REIT.
Our most recently declared quarterly dividend represents a payment of approximately 4.36% on an annualized basis of an adjusted book value of $15.59 per share at December 31, 2020. If our taxable income increases from the level we experienced in 2020, we could exceed the threshold for paying an incentive fee to our Manager, and thereby trigger such payment. See Note 10 - Related party transactions.
Off-Balance Sheet Arrangements
Other than our investments in debt securities and beneficial interests issued by joint ventures, which are summarized below by securitization trust and our equity method investments discussed elsewhere in this report, we do not have any relationships with unconsolidated entities or financial partnerships, such as entities often referred to as structured finance or special purpose entities, which would have been established for the purpose of facilitating off-balance sheet arrangements or other contractually narrow or limited purposes. Further, we have not guaranteed any obligations of unconsolidated entities nor do we have any commitment or intent to provide funding to any such entities. As such, we are not materially exposed to any market, credit, liquidity or financing risk that could arise if we had engaged in such relationships.
Table 18: Investments in joint ventures
We form joint ventures with third party institutional accredited investors to purchase mortgage loans and other mortgage related assets. The debt securities and beneficial interests we carry on our consolidated balance sheets are issued by securitization trusts formed by these joint ventures, which are VIEs, that we have sponsored but which we do not consolidate since we have determined we are not the primary beneficiary.
A summary of our investments in joint ventures is presented below(1) ($ in thousands):
Great Ajax Corp. Ownership
Issuing Trust/Issue Date Security Total Original Outstanding Principal Coupon Ownership Percent Original Stated or Notional Principal Balance Retained Current Owned Stated or Notional Principal Balance Retained
Ajax Mortgage Loan Trust 2018-A/April 2018 Class A notes due 2058 $ 91,036 3.85 % 9.36 % $ 8,521 $ 6,044
Trust certificates $ 22,759 - % 9.36 % $ 2,130 $ 2,144
Ajax Mortgage Loan Trust 2018-B/June 2018 Class A notes due 2057 $ 66,374 3.75 % 20.00 % $ 13,275 $ 5,193
Trust certificates $ 28,447 - % 20.00 % $ 5,689 $ 4,097
Ajax Mortgage Loan Trust 2018-D/September 2018 Class A notes due 2058 $ 80,664 3.75 % 20.00 % $ 16,133 $ 13,442
Trust certificates $ 20,166 - % 20.00 % $ 4,033 $ 3,915
Ajax Mortgage Loan Trust 2018-E/December 2018 Class A notes due 2058 $ 86,089 4.38 % 5.01 % $ 4,313 $ 3,793
Class B notes due 2058 $ 8,035 5.25 % 20.00 % $ 1,607 $ 1,605
Trust certificates $ 20,662 - % 20.00 % $ 4,132 $ 4,130
Ajax Mortgage Loan Trust 2018-F/December 2018 Class A notes due 2058 $ 180,002 4.38 % 5.01 % $ 9,018 $ 6,894
Class B notes due 2058 $ 16,800 5.25 % 20.00 % $ 2,520 $ 3,360
Trust certificates $ 43,201 - % 20.00 % $ 6,480 $ 8,252
Ajax Mortgage Loan Trust 2018-G/December 2018 Class A notes due 2057 $ 173,562 4.38 % 25.00 % $ 43,390 $ 27,454
Class B notes due 2057 $ 16,199 5.25 % 25.00 % $ 4,050 $ 4,050
Trust certificates $ 41,655 - % 25.00 % $ 10,414 $ 10,585
Ajax Mortgage Loan Trust 2019-A/March 2019 Class A notes due 2057 $ 127,801 3.75 % 20.00 % $ 25,560 $ 16,052
Class B notes due 2057 $ 11,928 5.25 % 20.00 % $ 2,386 $ 2,388
Trust certificates $ 30,672 - % 20.00 % $ 6,134 $ 6,137
Ajax Mortgage Loan Trust 2019-B/March 2019 Class A notes due 2059 $ 163,325 3.75 % 15.00 % $ 24,499 $ 15,794
Class B notes due 2059 $ 15,244 5.25 % 15.00 % $ 2,287 $ 2,287
Trust certificates $ 39,198 - % 15.00 % $ 5,880 $ 5,976
Ajax Mortgage Loan Trust 2019-C/May 2019 Class A notes due 2058 $ 150,037 3.95 % 5.00 % $ 7,502 $ 6,102
Class B notes due 2058 $ 14,003 5.25 % 34.00 % $ 4,761 $ 4,761
Trust certificates $ 36,009 - % 34.00 % $ 12,243 $ 12,417
Ajax Mortgage Loan Trust 2019-E/September 2019 Class A notes due 2059 $ 181,101 3.00 % 6.55 % $ 11,862 $ 8,738
Class B notes due 2059 $ 16,903 4.88 % 20.00 % $ 3,381 $ 3,381
Trust certificates $ 43,464 - % 20.00 % $ 8,693 $ 8,558
Ajax Mortgage Loan Trust 2019-G/December 2019 Class A notes due 2059 $ 141,420 3.00 % 5.86 % $ 8,287 $ 7,575
Class B notes due 2059 $ 13,199 4.25 % 20.00 % $ 2,640 $ 2,640
Trust certificates $ 33,941 - % 20.00 % $ 6,788 $ 6,820
Ajax Mortgage Loan Trust 2019-H/December 2019 Class A notes due 2059 $ 90,381 3.00 % 20.00 % $ 18,076 $ 13,172
Class B notes due 2059 $ 8,435 4.25 % 20.00 % $ 1,687 $ 1,687
Trust certificates $ 21,692 - % 20.00 % $ 4,338 $ 4,375
Ajax Mortgage Loan Trust 2020-A/March 2020 Class A notes due 2059 $ 249,384 2.38 % 20.00 % $ 49,877 $ 43,069
Class B notes due 2059 $ 23,276 3.50 % 20.00 % $ 4,655 $ 4,428
Trust certificates $ 59,852 - % 20.00 % $ 11,970 $ 11,934
Ajax Mortgage Loan Trust 2020-C/September 2020 Class A notes due 2060 $ 339,365 2.25 % 10.01 % $ 33,970 $ 33,348
Class B notes due 2060 $ 21,754 5.00 % 10.01 % $ 2,178 $ 2,178
Trust certificates $ 73,964 - % 10.01 % $ 7,404 $ 7,393
Ajax Mortgage Loan Trust 2020-D/September 2020 Class A notes due 2060 $ 330,721 2.25 % 10.01 % $ 33,105 $ 32,571
Class B notes due 2060 $ 30,867 5.00 % 10.01 % $ 3,090 $ 3,090
Trust certificates $ 79,373 - % 10.01 % $ 7,945 $ 7,934
(1)Table does not include our 2017-D and 2018-C securitizations with total original outstanding principal of $222.3 million and $227.3 million respectively, as these trusts are consolidated within our financial statements.
Table 19: Contractual Obligations
A summary of our contractual obligations as of December 31, 2020 and 2019 is as follows ($ in thousands):
December 31, 2020 Payments Due by Period
Total Less than 1 Year 1 - 3 Years 3 - 5 Years More than 5 Years
Convertible senior notes $ 113,350 $ - $ - $ 113,350 $ -
Borrowings under repurchase agreements 421,132 421,132 - - -
Interest on convertible senior notes 29,105 8,218 16,436 4,451 -
Interest on repurchase agreements 3,345 3,345 - - -
Put obligation on outstanding common stock warrants 50,707 - - 50,707 -
Total $ 617,639 $ 432,695 $ 16,436 $ 168,508 $ -
December 31, 2019 Payments Due by Period
Total Less than 1 Year 1 - 3 Years 3 - 5 Years More than 5 Years
Convertible senior notes $ 123,850 $ - $ - $ 123,850 $ -
Borrowings under repurchase agreements 414,114 414,114 - - -
Interest on convertible senior notes 40,780 8,979 17,958 13,843 -
Interest on repurchase agreements 5,699 5,699 - - -
Total $ 584,443 $ 428,792 $ 17,958 $ 137,693 $ -
Our secured borrowings are not included in the table above as such borrowings are non-recourse to us and principal and interest are only paid to the extent that cash flows from mortgage loans (in the securitization trust) collateralizing the debt are received. Accordingly, a projection of contractual maturities over the next five years is inapplicable.
Inflation
Virtually all of our assets and liabilities are interest-rate sensitive in nature. As a result, interest rates and other factors influence our performance far more so than does inflation. Changes in interest rates do not necessarily correlate with inflation rates or changes in inflation rates. Our activities and consolidated balance sheet are measured with reference to historical cost and/or fair market value without considering inflation.
Subsequent Events
Since year end, we acquired two residential RPLs with aggregate UPB of $0.2 million in two transactions from two sellers. The RPLs were acquired at 89.7% of UPB and 67.1% of the estimated market value of the underlying collateral of $0.3 million. We also acquired one SBC loan for $3.6 million, which equals 100.0% of UPB and 36.4% of the underlying collateral value of $9.9 million.
We have also agreed to acquire, subject to due diligence, 322 residential RPLs and four NPLs with aggregate UPB of $53.8 million and $0.8 million, respectively, in six transactions and two transactions, respectively, from six sellers and two sellers, respectively. The purchase price of the residential RPLs equals 86.1% of UPB and 56.9% of the estimated market value of the underlying collateral value of $81.4 million. The purchase price of the NPLs equals 84.8% of UPB and 60.8% of the estimated market value of the underlying collateral of $1.1 million.
On January 5, 2021, we repurchased an aggregate principal amount of $2.5 million of our convertible senior notes for a total purchase price of $2.4 million.
On January 8, 2021, we acquired the remaining 37% of our 2018-C securitization trust from our joint venture partner. After the close of the transaction we owned 100% of the trust.
On January 29, 2021, we priced Ajax Mortgage Trust 2021-A with $146.2 million of AAA rated senior securities, $21.1 million of A rated securities and $7.8 million of BBB rated securities issued with respect to $206.5 million of mortgage loans. The AAA, A and BBB rated securities were issued at a weighted yield of 1.35% excluding transaction expenses, and represent 84.6% of the UPB of the underlying mortgage loans. A total of 1,082 of RPLs and NPLs with a collateral value of $368.1 million were securitized.
On February 12, 2021, we closed on Ajax Mortgage Loan Trust 2021-B with an aggregate of $215.9 million of senior securities and $20.2 million of subordinated securities issued with respect to $287.9 million of mortgage loans. The senior securities were issued at a yield of 2.25% excluding transaction expenses, and represent 75.0% of UPB of the underlying mortgage loans. A total of 1,384 of RPLs and NPLs with a collateral value of $473.2 million were securitized.
On February 25, 2021, we called the outstanding bonds of 2017-B and 2018-C.
On March 4, 2021, our Board of Directors declared a dividend of $0.17 per share, to be paid on March 31, 2021 to stockholders of record as of March 18, 2021.
On March 8, 2021, our Board of Directors appointed Mary Haggerty to a newly created position on our Board. Ms. Haggerty will also serve as a member of the Audit Committee. The appointment will become effective on Monday March 8, 2021. Ms. Haggerty served as a Managing Director of J.P. Morgan Chase from July 2008 until her retirement in March 2020.
Prior to joining J.P. Morgan Chase, Ms. Haggerty held various roles at Bear Stearns & Co., Inc. She has served as a director at J.P. Morgan Residential Mortgage Acceptance Corp., Reoco, Inc. and Bear Stearns Residential Mortgage Corporation. Additionally, she has also served as a director for Virtual Enterprises International, Inc., an educational non-profit, a director of The University at Albany Foundation, and a director of the Dean’s Advisory Board of the School of Business at the University of Albany. In her role for us, Ms. Haggerty is an independent director, as defined by the NYSE. In connection with her appointment, Ms. Haggerty will receive a stock award of 2,000 shares of our common stock subject to a one-year vesting period pursuant to our 2014 Director Equity Plan.

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ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Item 7A. Quantitative and Qualitative Disclosures about Market Risk
The primary components of our market risk are related to real estate risk, interest rate risk, prepayment risk and credit risk. We seek to actively manage these and other risks and to acquire and hold assets at prices that we believe justify bearing those risks, and to maintain capital levels consistent with those risks. The pandemic presents risks and uncertainties that we describe under “Risk Factors” and many of these are outside of our control.
Real Estate Risk
Residential property values are subject to volatility and may be affected adversely by a number of factors, including, but not limited to, national, regional and local economic conditions (which may be adversely affected by industry slowdowns and other factors); local real estate conditions (such as an oversupply of housing); construction quality, age and design; demographic factors; and retroactive changes to building or similar codes. Increases in interest rates will result in lower refinancing volume, and home price increases will slow. Decreases in property values could cause us to suffer losses.
Interest Rate Risk
We expect to continue to securitize our whole loan portfolios, primarily as a financing tool, when economically efficient to create long-term, fixed rate, non-recourse financing with moderate leverage, while retaining one or more tranches of the subordinate MBS so created. Interest rates are highly sensitive to many factors, including governmental monetary and tax policies, domestic and international economic and political considerations and other factors beyond our control. Changes in interest rates may affect the fair value of the mortgage loans and real estate underlying our portfolios as well as our financing interest rate expense. Additionally, rises in interest rates may result in a lower refinance volume of our portfolio.
We believe that a rising interest rate environment could have a positive effect on our operations to the extent we own rental real property or seek to sell real property. Rising interest rates could be accompanied by inflation and higher household incomes which generally correlate closely to higher rent levels and property values. It is possible that the value of our real estate assets and our net income could decline in a rising interest rate environment to the extent that our real estate assets are financed with floating rate debt and there is no accompanying increase in loan yield and rental yield or property values.
Prepayment Risk
Prepayment risk is the risk of change, whether an increase or a decrease, in the rate at which principal is returned in respect of the mortgage loans we own as well as the mortgage loans underlying our retained MBS, including both through voluntary prepayments and through liquidations due to defaults and foreclosures. This rate of prepayment is affected by a variety of factors, including the prevailing level of interest rates as well as economic, demographic, tax, social, legal and other factors. Prepayment rates, besides being subject to interest rates and borrower behavior, are also substantially affected by government policy and regulation. Changes in prepayment rates will have varying effects on the different types of assets in our portfolio. We attempt to take these effects into account. We will generally purchase RPLs and NPLs at discounts from UPB and underlying property values. An increase in prepayments would accelerate the repayment of the discount and lead to increased yield on our assets while also causing re-investment risk that we can find additional assets with the same interest and return levels. A decrease in prepayments would likely have the opposite effects. We currently expect the pace of loan prepayments to
slow due to the pandemic.
Credit Risk
We are subject to credit risk in connection with our assets. While we will engage in diligence on assets we will acquire, such due diligence may not reveal all of the risks associated with such assets and may not reveal other weaknesses in such assets, which could lead us to misprice acquisitions. Property values are subject to volatility and may be affected adversely by a number of factors, including, but not limited to, national, regional and local economic conditions (which may be adversely affected by industry slowdowns, public health crises and other factors), local real estate conditions (such as an oversupply of
housing), changes or continued weakness in specific industry segments, construction quality, age and design, demographic factors and retroactive changes to building or similar codes.
There are many reasons borrowers will fail to pay including but not limited to, in the case of residential mortgage loans, reductions in personal income, job loss and personal events such as divorce or health problems, and in the case of commercial mortgage loans, reduction in market rents and occupancies and poor property management services by borrowers. We will rely on the Servicer to mitigate our risk. Such mitigation efforts may include loan modifications and prompt foreclosure and property liquidation following a default. If a sufficient number of re-performing borrowers default, our results of operations will suffer and we may not be able to pay our own financing costs.

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ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Item 8. Consolidated Financial Statements and Supplementary Data
The consolidated financial statements required by this item are set forth in Item 15. of this Annual Report and are incorporated herein by reference.

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ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
None.

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ITEM 9A. CONTROLS AND PROCEDURES
Item 9A. Controls and Procedures
Evaluation of Disclosure Controls and Procedures
We conducted an evaluation of the effectiveness of the design and operation of our disclosure controls and procedures (as defined in Exchange Act Rule 13a-15(e)) as of the end of the period covered by this Annual Report on Form 10-K. The evaluation was conducted under the supervision and with the participation of management, including our Chief Executive Officer and Chief Financial Officer. Disclosure controls and procedures are controls and procedures designed to reasonably assure that information required to be disclosed in our reports filed under the Exchange Act, such as this Annual Report on Form 10-K, is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms. Disclosure controls and procedures are also designed to reasonably assure that such information is accumulated and communicated to our management, including the Chief Executive Officer and Chief Financial Officer, as appropriate to allow timely decisions regarding required disclosure.
The evaluation of our disclosure controls and procedures included a review of the controls’ objectives and design, our implementation of the controls and their effect on the information generated for use in this Form 10-K. In the course of the evaluation, we reviewed identified data errors, control problems or acts of fraud, and sought to confirm that appropriate corrective actions, including process improvements, were being undertaken. This type of evaluation will be performed on a quarterly basis so that the conclusions of management, including the Chief Executive Officer and Chief Financial Officer, concerning the effectiveness of the disclosure controls and procedures can be reported in our periodic reports on Form 10-Q and Form 10-K. The overall goals of these various evaluation activities are to monitor our disclosure controls and procedures, and to modify them as necessary. Our intent is to maintain the disclosure controls and procedures as dynamic systems that change as conditions warrant.
Based on the evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that, as of the end of the period covered by this Form 10-K, our disclosure controls and procedures were effective to provide reasonable assurance that information required to be disclosed in our Exchange Act reports is recorded, processed, summarized and reported within the time periods specified by the SEC, and that material information related to our company and our consolidated subsidiaries is made known to management, including the Chief Executive Officer and Chief Financial Officer, particularly during the period when our periodic reports are being prepared.
Management’s Annual Report on Internal Controls Over Financial Reporting
Management of the Company is responsible for establishing and maintaining adequate internal control over financial reporting for the Company. Internal control over financial reporting is defined in Rules 13a-15(f) and 15d-15(f) promulgated under the Exchange Act as a process designed by, or under the supervision of, the Company’s principal executive and principal financial officers and effected by the Company’s board of directors, management and other personnel to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with GAAP and includes those policies and procedures that:
•pertain to the maintenance of records that in reasonable detail accurately and fairly reflect the transactions and dispositions of the assets of the Company;
•provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with GAAP, and that receipts and expenditures of the Company are being made only in accordance with authorizations of management and directors of the Company; and
•provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of the Company’s assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Projections of any evaluation of effectiveness to future periods are subject to the risks that controls may become inadequate because of changes in conditions or that the degree of compliance with the policies or procedures may deteriorate.
The Company’s management assessed the effectiveness of the Company’s internal control over financial reporting as of December 31, 2020. In making this assessment, the Company’s management used criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission in Internal Control-Integrated Framework (2013).
Based on its assessment, the Company’s management believes that, as of December 31, 2020, the Company’s internal control over financial reporting was effective based on those criteria. There have been no changes in the Company’s internal control over financial reporting that occurred during the quarter ended December 31, 2020 that have materially affected, or are reasonably likely to materially affect, its internal control over financial reporting.
Report of the Independent Registered Public Accounting Firm
Our internal control over financial reporting at December 31, 2020 has been audited by Moss Adams LLP. Their attestation report on internal control over financial reporting appears in Part IV, Item 15 and expressed an unqualified opinion. Moss Adams LLP has also audited the consolidated financial statements as of and for the year ended December 31, 2020 and their report expressed an unqualified opinion on those consolidated financial statements.
Changes in Internal Control Over Financial Reporting
There have been no changes in the Company’s internal control over financial reporting that occurred during the Company’s last fiscal quarter that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.

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ITEM 9B. OTHER INFORMATION
Item 9B. Other Information
None.
PART III

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ITEM 10. DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE
Item 10. Directors, Executive Officers and Corporate Governance
The information required by this item is incorporated by reference from the Company’s definitive proxy statement for its 2021 annual stockholders’ meeting.

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ITEM 11. EXECUTIVE COMPENSATION
Item 11. Executive Compensation
The information required by this item is incorporated by reference from the Company’s definitive proxy statement for its 2021 annual stockholders’ meeting.

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ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS
Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
The information required by this item is incorporated by reference from the Company’s definitive proxy statement for its 2021 annual stockholders’ meeting.

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ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Item 13. Certain Relationships and Related Transactions, and Director Independence
The information required by this item is incorporated by reference from the Company’s definitive proxy statement for its 2021 annual stockholders’ meeting.

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ITEM 14. PRINCIPAL ACCOUNTING FEES AND SERVICES
Item 14. Principal Accountant Fees and Services
The information required by this item is incorporated by reference from the Company’s definitive proxy statement for its 2021 annual stockholders’ meeting.
PART IV

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ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES
Item 15. Exhibits and Consolidated Financial Statement Schedules
(a)(1) Financial Statements.
See the Index to Financial Statements at page of this report.
(a)(2) Financial Statement Schedule.
Schedule IV - Mortgage Loans on Real Estate.
All other financial statement schedules have been omitted since they are either not required, are not applicable or the required information is shown in the consolidated financial statements or related notes.
(a)(3) Exhibits.
Exhibit
Number Exhibit Description
3.1 Articles of Amendment and Restatement (incorporated by reference to Exhibit 3.1 to the Registration Statement on Form S-11 confidentially submitted to the SEC on September 23, 2014 (File No.:333-00787)).
3.2 Amended and Restated Bylaws (incorporated by reference to Exhibit 3.2 to the Registration Statement on Form S-11 confidentially submitted to the SEC on September 23, 2014 (File No.:333-00787)).
3.3 Articles Supplementary dated as of May 7, 2020 (incorporated by reference to Exhibit 3.1 to the Company's report on Form 8-K filed on May 8, 2020 (File No.:001-36844)).
3.4 Articles of Amendment to Articles Supplementary dated as of May 7, 2020 (incorporated by reference to Exhibit 3.2 to the Company's report on Form 8-K filed on May 8, 2020 (File No.:001-36844)).
4.1 Indenture, dated as of April 19, 2017, by and between the Registrant and Wilmington Savings Fund Society, FSB, as trustee (incorporated by reference to Exhibit 4.1 to the Company's report on Form 8-K filed on April 19, 2017 (File No.:001-36844)).
4.2 First Supplemental Indenture, dated as of April 25, 2017, by and between the Registrant and Wilmington Savings Fund Society, FSB, as trustee (incorporated by reference to Exhibit 4.1 to the Company's report on Form 8-K filed on April 25, 2017 (File No.:001-36844)).
4.3 Form of 7.25% Convertible Senior Note (incorporated by reference to Exhibit 4.2 to the Company's report on Form 8-K filed on April 25, 2017 (File No.:001-36844)).
4.4 Warrants Certificate dated as of May 4, 2020 (incorporated by reference to Exhibit 4.1 to the Company's report on Form 8-K filed on May 8, 2020 (File No.:001-36844)).
Exhibit
Number Exhibit Description
4.5 Warrants Certificate dated as of May 4, 2020 (incorporated by reference to Exhibit 4.2 to the Company's report on Form 8-K filed on May 8, 2020 (File No.:001-36844)).
10.1 Agreement of Limited Partnership of Great Ajax Operating Partnership LP (incorporated by reference to Exhibit 10.1 to the Registration Statement on Form S-11 confidentially submitted to the SEC on September 23, 2014 (File No.:333-00787)).
10.2 Amended and Restated Management Agreement dated October 27, 2015; incorporated by reference to Exhibit 10.1 to the Company’s report on Form 8-K filed on November 2, 2015 (File No.:001-36844)).
10.3 Servicing Agreement dated as of July 8, 2014 by and among the Servicer and the registrant and its affiliates Great Ajax Operating Partnership L.P. and Little Ajax II LLC (incorporated by reference to Exhibit 10.3 to the Registration Statement on Form S-11 confidentially submitted to the SEC on September 23, 2014 (File No.:333-00787)).
10.4 Form of Indemnification Agreement between registrant and each of its directors and officer (incorporated by reference to Exhibit 10.4 to the Registration Statement on Form S-11 confidentially submitted to the SEC on September 23, 2014 (File No.:333-00787)).
10.5 Assignment Agreement made as of July 8, 2014, by and between the entities identified on Exhibit A thereto and the registrant with respect to Little Ajax II LLC (incorporated by reference to Exhibit 10.5 to the Registration Statement on Form S-11 confidentially submitted to the SEC on September 23, 2014 (File No.:333-00787)).
10.6 2014 Director Equity Plan (incorporated by reference to Exhibit 10.6 to the Registration Statement on Form S-11 confidentially submitted to the SEC on September 23, 2014 (File No.:333-00787)).
10.7 2016 Equity Incentive Plan (incorporated by reference to Exhibit 10.1 of the Registrant’s Current Report on Form 8-K filed with the Commission on June 7, 2016. (File No.:333-00787)).
10.8 Form of Restricted Stock Award (incorporated by reference to Exhibit 10.7 to the Registration Statement on Form S-11 confidentially submitted to the SEC on September 23, 2014 (File No.:333-00787)).
10.9 Registration Rights Agreement made and entered into as of July 8, 2014, by and among the registrant and FBR Capital Markets & Co., as the initial purchaser/placement agent (“FBR”) for the benefit of FBR and certain purchasers of the registrant’s common stock (incorporated by reference to Exhibit 10.8 to the Registration Statement on Form S-11 confidentially submitted to the SEC on September 23, 2014 (File No.:333-00787)).
10.10 Trademark License Agreement dated as of July 8, 2014 between the registrant and Aspen Yo (incorporated by reference to Exhibit 10.9 to the Registration Statement on Form S-11 confidentially submitted to the SEC on September 23, 2014 (File No.:333-00787)).
10.11 Registration Rights Agreement made and entered into as of December 16 2014, by and among the registrant and certain purchasers of the registrant’s common stock (incorporated by reference to Exhibit 10.10 to the Registration Statement on Form S-11 confidentially submitted to the SEC on December 29, 2014 (File No.:333-00787)).
10.12 Second Amended and Restated Management Agreement, dated March 5, 2019, by and among Great Ajax Corporation, Great Ajax Operating Partnership, LP and Thetis Asset Management LLC (incorporated by reference to Exhibit 10.12 to the Company's report on Form 10-K filed on March 6, 2019 (File No.:001-36844)).
10.13 Description of Capital Stock (incorporated by reference to Exhibit 10.13 to the Company's report on Form 10-K filed on March 4, 2020 (File No.:001-36844)).
10.14 Securities Purchase Agreement dated as of May 4, 2020 (incorporated by reference to Exhibit 10.1 to the Company's report on Form 8-K filed on May 8, 2020 (File No.:001-36844)).
10.15 Registration Rights Agreement by and among Great Ajax Corp. and the Purchasers Named herein dated as of May 4, 2020 (incorporated by reference to Exhibit 10.2 to the Company's report on Form 8-K filed on May 8, 2020 (File No.:001-36844)).
10.16 Warrant Agency Agreement by and between Great Ajax Corp. and American Stock Transfer & Trust Company, LLC dated as of May 4, 2020 (incorporated by reference to Exhibit 10.3 on Form 10-Q filed on August 5, 2020 (File No.:001-36844)).
21.1* List of subsidiaries.
23.1* Consent of Moss Adams LLP.
31.1* Rule 13a-14(a) Certification of Chief Executive Officer of the Company in accordance with Section 302 of the Sarbanes-Oxley Act of 2002.
31.2* Rule 13a-14(a) Certification of Chief Financial Officer of the Company in accordance with Section 302 of the Sarbanes-Oxley Act of 2002.
Exhibit
Number Exhibit Description
32.1* Section 1350 Certification of Chief Executive Officer of the Company in accordance with Section 906 of the Sarbanes-Oxley Act of 2002.
32.2* Section 1350 Certification of Chief Financial Officer of the Company in accordance with Section 906 of the Sarbanes-Oxley Act of 2002.
101.INS** Inline XBRL Instance Document
101.SCH** Inline XBRL Taxonomy Extension Schema Document
101.CAL** Inline XBRL Taxonomy Extension Calculation Linkbase Document
101.DEF** Inline XBRL Taxonomy Definition Linkbase Document
101.LAB** Inline XBRL Taxonomy Definition Linkbase Document
101.PRE** Inline XBRL Taxonomy Extension Presentation Linkbase Document
104** Cover Page Interactive Data File (formatted as Inline XBRL and contained in Exhibit 101)
* Filed herewith.
** Furnished herewith.
(b) Exhibits.
See Item 15(a)(3) above.
(c) Financial Statement Schedule
Schedule IV - Mortgage Loans on Real Estate.
All other financial statement schedules have been omitted since they are either not required, are not applicable or the required information is shown in the consolidated financial statements or related notes.