Earnings Call Transcript - TRTX Q2 2020

Operator, Operator

Greetings. Welcome to the TPG RE Finance Trust Second Quarter 2020 Earnings Conference Call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. Please note, this conference is being recorded. I would now turn the conference over to your host, Deborah Ginsberg. You may begin.

Deborah Ginsberg, Host

Thank you. Good morning. Welcome to TPG Real Estate Finance Trust's second quarter 2020 conference call. I’m joined today by Greta Guggenheim, Chief Executive Officer, and Bob Foley, Chief Financial Officer. Greta and Bob will share some comments about the quarter, after which we’ll open the line for questions. Yesterday evening, we filed our Form 10-Q and issued a press release with our operating results, all of which are available on our website in the Investor Relations section. I’d like to remind everyone that today’s call may include forward-looking statements, which are uncertain and outside the company’s control. Actual results may differ materially. For a discussion of some of the risks that could affect results, please see the Risk Factors section of our most recent 10-K and 10-Q reports. We do not undertake any obligation to update these statements. We will also refer to certain non-GAAP measures during this call, and for reconciliations, please refer to the press release and our Form 10-Q. With that, it’s my pleasure to turn the call over to Greta Guggenheim, Chief Executive Officer of TPG Real Estate Finance Trust.

Greta Guggenheim, CEO

Thank you, Deborah. Good morning and welcome to our second quarter earnings call. While the equity and debt capital markets indicate we’re in a recovery, we expect to continue to see significant volatility. The time it will take for us to meaningfully recover is unknown. With U.S. aircraft at a relative standstill and office attendance very low, real estate NOI continues to have downward pressure. Although we believe the trough is behind us, we operate in an environment where there is no clarity regarding near-term economic conditions. Additionally, there are numerous factors that will continue to affect the slope of the recovery period, virus spread, vaccine, the election, and relations with China, to name just a few. In this environment, we are defensively focused. In particular, we are taking the following steps to best position our company. First, we have added to our senior management. I am delighted to announce that Matt Coleman joined us this week as President of the RE. Matt’s experience with TPG Real Estate Equity Investing business, prior workout experience during the great recession, and his legal and operational background brings valuable experience and perspective to our business. Matt is very familiar with TRT as he has been continuously involved with us starting with our inception in 2015 through the IPO in 2017 and to the present. We look forward to partnering with him. Second, we’re focused on liquidity. A key driver of liquidity is the timing of loan repayments. During the first half of the year repayments were $321 million. Repayments in the last two years prior to March generally occurred significantly earlier than we had anticipated or wanted, driven in large part by the continued spread tightening and borrowers' ability to increase proceeds in a refinance. This phenomenon has stopped. Borrowers are not rushing to repay despite low LIBOR and treasury rates as they expect NOI will improve as COVID gets under control and the economy rebounds. Despite this, we are aware of several potential repayments in cases where borrowers are in the process of refinancing our loan or selling the underlying property. Our primary use of cash is to fund future draws for CapEx, tenant improvement and leasing commissions, and interest reserves on our existing book. We have only $15 million of construction loan future fundings under our one construction loan and the remainder of our deferred fundings totaled $420 million through December 2021. As a reminder, we receive financing from our lenders to finance up to approximately 65% of these future funding draws. During the quarter, we decided to pay down our whole loan credit facilities by approximately $158 million or 8%. This reduced our advance rate on loans pledged to our bank lenders from 76% to 68%. Our objective was to reduce risk in the portfolio given the uncertainty of the timing of an economic recovery. Also, we continue to evaluate our sales of individual loans or interest in loans where we believe it makes sense. Third, we are focused on asset management. Our senior and junior origination teams have joined with our asset managers to form a single team to manage our assets. Asset highlights include that 63 of our 65 loans are current on interest payments, which represents 97% of interest payments. We are in the process of completing a loan modification that will bring the number of current loans to 64% in the near-term. The one loan that will remain not current is a loan on a portfolio of limited service hotels, and although the operations are certainly feeling the impact of COVID and shutdowns, it is in large part because of a dispute between the two owners that they have not come to the table with additional equity to effectuate a modification. The properties themselves are Marriott and Hilton-branded limited service hotels, and in six of the seven, we have been tipped in the last year. Current occupancy is in the 40% range, which is approximately breakeven NOI. The properties are in drive-to locations and are not dependent on corporate group convention business. This acquisition loan was originated in 2019 with significant new equity invested. In the second quarter, we modified six loans with a $458 million unpaid principal balance. These modifications resulted in an accrual of $551,000 of interest in the second quarter. Other than the one hotel loan I referenced previously, our hotel sponsors have contributed substantial equity to support their properties. Most of the properties can support their operating costs from property cash flow. Office property rent collections are averaging about 90% in our diversified office portfolio. Multifamily rent collections have also been strong and averaged over 90%. 86% of the properties securing our multifamily properties generally are in non-urban locations and/or are low-rise properties. Collections are strong, but we think the distinction between borrowers who have embraced virtual tours and other non-contact leasing strategies and those who have not is important. We executed a non-binding term sheet to provide acquisition financing for an office building in Brooklyn. This financing will repay an existing TRT loan, which was the subject of the deed in lieu request we disclosed last quarter. The acquirer of this asset and prospective borrower under a new loan is an existing borrower of TRT with whom we have a long successful track record. This is a very experienced office property owner-operator in New York City, as well as other markets. The new loan required significant equity contributions from the borrower, including cash at closing and future guaranteed cash contributions. Our core earnings for the quarter are $17.5 million or $0.23 a share, which reflects an $0.18 per share or $13.8 million loss on the sale of our $99.3 million loan on a Class A multifamily property in Downtown Houston. The primary purpose of this 50% loan to cost loan was to provide lease-up financing and additional improvements. Since origination, the property stabilized to a 94% occupancy. However, due to significant record concessions in the market, retail space vacancy in this property is higher than underwritten OpEx relative to newly constructed properties. In our view, with the low prospects for meaningful NOI growth, we decided to sell the loan. While COVID and the resulting economic impacts, including lower oil prices, have not helped the property, our decision to sell the loan was not motivated by COVID. This loan has been the subject of continued focus and we were able to negotiate a price which we felt maximized value for us. Bolstering earnings is our 167-basis-point LIBOR floor on loans, which is 150 basis points in the money, or asset weighted average cost of capital of 5.06% versus our liabilities weighted average cost of capital of approximately 1.86%. To conclude, we are committed to maximizing the performance of our loan book and continue to focus on maintaining and increasing liquidity in these uncertain times. I will now turn the call over to Bob.

Bob Foley, CFO

Thanks, Greta, and good morning, everyone. A quick review of operating results. For the second quarter, we generated GAAP net income of $42.9 million or $0.52 per diluted common share, net income available to TRTX common shareholders was $40.1 million, also $0.52 per common share, and core earnings were $17.5 million or $0.23 per diluted common share. Our net interest margin was $44.2 million, up 2.1% from the prior quarter. We had no loans on non-accrual as of June 30. We paid on July 14th, the $0.43 per share dividend relating to the first quarter of this year, and we paid last week on July 24th, the $0.20 per share dividend declared on June 16th. Book value at quarter end was $16.55 per share, an increase of $0.49 per share, due primarily to the issuance of warrants in connection with the Series B Preferred Stock we issued on May 28th to a fund managed by Starwood Capital Group, and GAAP earnings in excess of our $0.20 per share common dividend. Our second quarter results had several drivers. First, net interest margin grew quarter-over-quarter by 2.1%, due largely to the positive benefits of our in the money LIBOR floors on 100% of our loans, combined with non-zero LIBOR floors on only 5% of our liabilities, and that combination remains an important driver of our net interest margin. All of our assets and liabilities are floating rates. At quarter end, our weighted average LIBOR floor was 1.67%. In comparison, LIBOR at quarter end was 16 basis points. We continue to explore strategies to cost effectively preserve this positive margin against fluctuations in rates. Expenses were up 26% quarter-over-quarter, due primarily to non-recurring COVID-related expenses of approximately $2.9 million. We continue to manage tightly our controllable expenses, but we recognize the need for professional services to help us manage the business. The base management fee was virtually unchanged from the first quarter. We paid no incentive management fee in the second quarter, nor did we in the first, and we will not until we earn back over time the loss sustained in the first quarter. Loan loss expense was actually a benefit or income during the second quarter of $10.5 million, because the decline in our CECL reserve of $24.3 million net outstripped the loss on sale of $13.8 million incurred from the sale of that first mortgage loan that Greta described. In summary, the loan's realized loss was materially less than its CECL related loss reserve that we booked at March 31. We held higher than normal cash balances during the quarter for defensive purposes, ending the quarter with roughly $300 million of available liquidity, including $173 million of cash on hand, net of cash we are required to hold for covenant compliance, $46.2 million of immediately available funds under our credit facilities, and $81.3 million available for reinvestment from our second CLO FL2. It was a very busy quarter for us on the capital markets front, where we raised $225 million of preferred stock, deleveraged aggregate borrowings under our existing secured credit facilities by $157.7 million or roughly 7.7% of the outstandings. We extended maturities on three existing credit facilities while simultaneously rightsizing the commitment amounts of two of those three facilities. We moved certain existing loans to our CLOs, and borrowed and repaid regularly with our repo lenders in the normal course of business. We issued $225 million of Series B 11% cumulative preferred stock, and we hold an option to issue up to $100 million more before year-end in two tranches of $50 million each. This capital buttresses our capital base during these uncertain times, with size to address our expected capital needs and aligns us with Starwood Capital Group, one of the strongest investors in the commercial real estate space. The voluntary deleveraging payments we made in late May, which totaled $157 million, reduced our average advance rate on repo borrowings to 68% from 76%, which implies a lender look-through LTV of a very modest 44%. In exchange for these payments, we will have a holiday for margin calls for certain defined periods and our work continues to increase from 51% share of total borrowings that are non-mark-to-market, non-recourse and equal or longer dated than our loan investments. We exercised existing extension options on our credit facilities with Morgan Stanley, Goldman Sachs and Bank of America to add at least 12 months of term to each arrangement. Additional extensions are available to us. With Goldman and Bank of America, we reduced the financing commitments to avoid unnecessary fees, but we did retain options to increase each facility to $500 million at a future date. The weighted average final maturity of our secured credit facilities is now 2.3 years and these facilities represent 49% of our current borrowings. Non-recourse, non-mark-to-market borrowings represent 51% of our borrowings. Our two CLOs represent almost 48% of current borrowings have final rated maturities of 2034 and 2037, but their true maturity dates are tied to the repayment behavior of the underlying loans. Across both CLOs, the weighted average extended maturity of the loans so financed is about 4.3 years. During the quarter we borrowed a total of $23.5 million from four of our repo lenders in connection with the funding of $62.5 million of preexisting loan commitments to our borrowers. During the quarter we recycled $64.6 million of CLO reinvestment capacity, generating $22.6 million of cash for TRTX net of debt repayment on the loans contributed. That capacity was created by a partial principal payment of $15 million on one of our hotel loans, and the removal and refinancing outside of our CLOs of an existing loan. This recycling will remain available to us until the CLO reinvestment periods expire in the fourth quarter of 2020 for FL2 and the fourth quarter of 2021 for FL3, all subject to loan repayments that create the capacity I just mentioned. And finally, with respect to leverage, at quarter end, our debt-to-equity ratio was 2.8 to 1, which is consistent with our long-term historical trends and comfortably below our financial covenants. Regarding CECL, at June 30th, our CECL reserve was $58.7 million or $0.76 per share, a net reduction of $24.3 million over the prior quarter. The principal cause of the decline was the sale in early June of a $99.3 million first mortgage loan that created a realized loss of $13.8 million. The removal of that loan from our portfolio and its related CECL estimates of loan loss reserves resulted in a reduction in the CECL reserve of $24.8 million. The net impact of these offsetting factors, plus a net increase in the general CECL reserve of $0.5 million was to increase our net income by $10.5 million. Expressed in basis points against the total commitment amount of our portfolio, the CECL reserve was 104 basis points, as compared to 144 basis points at March 31. On the same-store basis, our CECL reserve is slightly higher than the 101 basis points at March 31, which reflects our continuing caution regarding the COVID impacted economy and its impact on commercial real estate performance and values. We independently assessed one of our 65 loans, which is a hotel loan that Greta described earlier, because it met the GAAP guidance for doing so. This collateral dependent loan's contribution to the CECL reserve was less than $2 million and was estimated using discounted cash flow analysis. The macroeconomic assumptions embedded in our CECL analysis remained very conservative. We’re three months deeper into this COVID crisis. Our analysis assumes we’re no closer to a recovery. We do expect quarter-over-quarter changes and those reserve may continue to change materially in responses to COVID macroeconomic assumptions, observed transactions in the investment sales and loan sales markets, and the actual operating performance of our loan collateral. Our weighted average risk rating measured on the amortized cost declined quarter-over-quarter to 3.1 from 3.2, reflecting the sale of one 5-rated loan, classification to 5 from 4 of the hotel portfolio loan Greta described and the upgrade to 2 from 3 of the multifamily loan based on performance that exceeds underwriting. We modified six loans during the second quarter to allow, among other things, borrowers to accrue 50% of interest due for up to six months. At June 30th, we accrued approximately $551,000 of payment-in-kind or PIK interest. Interest collections during the quarter were strong and we had no non-accrual loans at quarter end. Future performance will depend on many factors, especially the pace and the strength of the reopening of our national economy. And with that, we’ll turn the floor, excuse me, we’ll open the floor to questions.

Operator, Operator

Our first question is from Stephen Laws from Raymond James. Please proceed with your question.

Stephen Laws, Analyst

Good morning, Greta and Bob. Greta, could you provide some insights on the six loan modifications? How are those discussions progressing and what are the key points being negotiated? I assume the existing LIBOR floors will still apply as we move into the new duration. Additionally, could you share more details about how many more modifications are anticipated? I know you mentioned one is in process, but any further insights on those discussions would be appreciated.

Greta Guggenheim, CEO

In the second quarter, we modified six loans, four of which included some interest deferral. None of the interest deferrals exceeded 50% of the monthly debt service, and no deferral period was longer than six months, often being significantly shorter. All modifications involved hotel loans, and two of the six did not have any interest deferral. Each of these loans requires the sponsor to make substantial equity contributions to the property, either upfront or on an ongoing basis, to cover other costs and expenses as well as the 50% interest deferral. In one case, the borrower contributed equity equal to 13% of the loan amount, with two-thirds going toward paying down the loan and the remainder funding an interest reserve. Additionally, hotel flags have allowed borrowers to use FF&E reserves for operating costs and debt service, which we permit under these modifications. We are currently working on one modification and have completed a few others after the second quarter, primarily focused on hotel properties experiencing the most stress.

Stephen Laws, Analyst

Great. I appreciate the color on that, Greta. And I guess switching properties each from those hotel loans. You mentioned all hotel loans to office, your largest property type exposure. Can you give us any color just on discussions with borrowers, however, you would like to dissect it, whether it’s gateway city versus non-gateway or maybe central business district versus more outside the downtown area, business office complexes. Can you talk maybe a little bit about what those borrowers are seeing, how those discussions are going and differences in demand and maybe how you expect performance to be inside that property type?

Greta Guggenheim, CEO

Sure. The cities that people are most concerned about are the urban centers. In New York City, we have three main office properties, one of which is mixed-use due to a component of retail, although its primary function is office space. Among these three office properties, one is fully leased to a strong tenant for 15 years. Another is also fully leased, with about 47% of the space rented to a successful online streaming movie company for a long duration, and that tenant is performing well. We also have one mixed-use property in Manhattan that features a diverse range of tenants. This property is institutionally owned by one of the top three largest insurance companies and is managed by a highly regarded, office-focused private equity firm. That's our exposure in New York. We don't have downtown properties in other major cities like San Francisco, Los Angeles, or Chicago. Our properties are quite diverse. We do have some assets in Silicon Valley outside of San Francisco, including one loan related to life sciences, and another outside of San Diego that’s also in the life sciences sector. Overall, our markets are diverse, and we are not heavily exposed to the specific cities that are a concern, at least in the urban core. I hope that clarifies things for you.

Stephen Laws, Analyst

Great. Yeah. That’s helpful. A lot of discussions seem to be taking place on the office category and location clearly being at the center of that discussion. Bob…

Greta Guggenheim, CEO

I’m sorry to interrupt, but regarding your question about the discussions with the borrowers, I can share that our office rent collections are around 90%. Unlike our hotel borrowers, our office borrowers haven't approached us asking for interest deferrals or other modifications.

Stephen Laws, Analyst

That’s great color. Appreciate that comment. Bob, at the risk of asking a question that may need a call back. So, CECL and the assumptions behind that, clearly, the reserve in March was a bigger number for the loan that was sold than what was realized on sale? Can you talk about those assumptions? Is it simply conservatism that something changed from March to May or March to the sale that makes it a unique situation or is there likely conservatism across all the assumptions in CECL? So maybe, and I know that’s a very general broad question, but any color there would be great?

Bob Foley, CFO

Sure. Good morning, Stephen. Let’s see if we can break that down into two topics and take the second one first. I would say that the results of the sale of the loan when compared to the CECL reserve, in our view, largely reflects the team’s ability to identify a buyer for that note who had a materially rosier view of Houston and CBD Houston multifamily than we did. So, in that regard, we found the outlier and executed with that. With respect to our views on the conservatism of our economic assumptions and everything else, all the other judgmental factors that are involved in the CECL reserve, we came out of the box in March on a conservative bent. If you had prepared a schedule and your research that lined up, reserves measured in basis points across the space, ours were near the high end of the range, frankly. At this quarter end, net of the loan that was sold, it appears that our reserves are more in line, relationship wise, with our competitors. But we were conservative out of the box. You saw that we downgraded from higher levels to four all but one of the hotel loans in our portfolio at March end and risk ratings were an important driver of loss reserve estimates. So I think that quarter-over-quarter, we remain very conservative in our macroeconomic assumptions. But I think the market should evaluate our CECL reserve in the context of us having adopted a very conservative stance beginning in March.

Stephen Laws, Analyst

That’s helpful. You’re correct. The reserve levels certainly are pretty wide range across the sector. Last question, I think a quick one, the loan that went from a four to five non-accrual. How much interest income did that contribute in Q2 that we assume going forward, we’ll go to pay down the carrying value of the loan?

Bob Foley, CFO

Yeah. And generally speaking, we use the cost recovery method. The GAAP permits different approaches, and we can come back to you on the precise amount. It’s not material in comparison to the company's net interest margin as a whole.

Stephen Laws, Analyst

Right. Fantastic. Thanks for taking my question both of you, Greta…

Bob Foley, CFO

Yeah.

Stephen Laws, Analyst

...and Bob.

Greta Guggenheim, CEO

Thank you.

Operator, Operator

And our next question is from Steve Delaney from JMP Securities. Please proceed with your question.

Steve Delaney, Analyst

Good morning, Greta and Bob and Matt. Welcome. I look forward to meeting you. If I could start, you mentioned that there was an impact on core EPS from the Houston loan sale. I apologize that I wasn’t writing fast enough to keep up with that?

Greta Guggenheim, CEO

Yes. The realized loss from that was $13.8 million, which reduced core earnings by $0.18.

Steve Delaney, Analyst

$0.18. Okay. And I think this is correct: as far as the impact on core, we should always just focus on realized losses rather than anything that’s going on within CECL, whether that would be general or specific. Is that correct?

Greta Guggenheim, CEO

Yeah.

Bob Foley, CFO

Yes.

Steve Delaney, Analyst

Okay. Great. Please highlight for us each quarter when you actually have a realized loss. Thanks for the clarity there. Regarding LIBOR floors, they are really helping the group as you all work hard to address these credit issues, but the impact on quarterly earnings from 167 basis points is $0.15. Beyond just the hotel you were describing, as you meet with your hotel borrowers and negotiate modifications, should we expect to receive requests to either lower or remove LIBOR floors? And as we move forward, do you anticipate that the weighted average floor will decline over the next 6 to 12 months?

Greta Guggenheim, CEO

None of our modifications have we changed the interest rate or the floor on our loans.

Steve Delaney, Analyst

Interesting. Okay. Great. All right. Well, then maybe…

Greta Guggenheim, CEO

If anything, the spread may increase. If some negotiations allow for relief on the extension tests we have scheduled in a year and a half, we could trade that off for a higher spread. Our priority is to achieve the largest pay down possible, but there are cases where we might actually increase the spread.

Steve Delaney, Analyst

That makes sense. It seemed like the loan sales in Houston were unique because you found a strategic local buyer with market knowledge. More generally, would you consider additional loan sales to reduce your asset management burden? Do you anticipate that a secondary market will emerge there, especially with the news about private equity funds raising money for distressed debt?

Greta Guggenheim, CEO

Well, we would consider parcels. So, we would look at a…

Steve Delaney, Analyst

Okay.

Greta Guggenheim, CEO

If someone approached us to buy a loan at par. Regarding our hotel loans, we don’t feel now is the time to be selling hotel exposure. We think most of the distress that’s going on with hotels is COVID and economic shutdown related, and our hotels' occupancy really is varying across the board. We have one hotel that is not reopened, that is supposed to be opening within the next 30 to 60 days. I haven’t seen the latest update; it may be sooner than that. But it was scheduled to open in July and then I believe that got pushed back to August, so it has zero percent occupancy. On the other end of the spectrum, we have a hotel that has 77% occupancy, and then a lot in between. In general, for limited service hotels, breakeven occupancy is around 35% to cover operating costs, and if you have a union hotel in an urban market like New York City, which we don’t happen to have, but that would be at the higher extreme, maybe 50% to 55% occupancy. But we don’t believe now is the time to sell these hotel loans because people are using a discount rate today and looking at an IRR that reflects the uncertainty regarding the timing of the recovery. So, once that uncertainty diminishes through medical achievements for vaccine and therapeutics, then we believe the discount rate that investors would require drops materially and you’ll realize a better result from a sale.

Steve Delaney, Analyst

Yeah. Makes sense. Well, thank you both for your comments. Appreciate it.

Bob Foley, CFO

Thank you, Steve.

Operator, Operator

And our next question is from Rick Shane from JP Morgan. Please proceed with your question.

Rick Shane, Analyst

Thank you for allowing me to ask my questions this morning. I found your remarks about the incentive fee quite interesting. I appreciate that you have high watermarks in place for spherical investors. I'm curious about how you view this situation considering the challenges associated with the economic model of reaching that high watermark again, particularly regarding the future ability to earn the incentive fee. What are your thoughts on this? Although it may sound repetitive, I believe it's encouraging that TPG is reaffirming their commitment to the vehicle. Still, I have concerns about the potential for incentive fees to be significantly reduced for an extended period.

Bob Foley, CFO

Well, Rick, it’s a good question from an analytical standpoint. The provisions of our management agreement, which as you know are very, very similar to those of everyone else in the publicly traded space. For us to be in the money on the incentive fee or for the manager to be in the money on the incentive fee and for the REIT to be obligated to pay it, several tests need to be met. One of them is that cumulative core earnings need to be positive as measured over the preceding 12 quarters. So the simple math there would be to take a look at what our cumulative core earnings were assuming that last quarter, the first quarter was T equals zero and then divide that by what you think our run rate core earnings are going forward. And it’s not immediate, but it’s close enough that I think TPG and the employees of the manager can see it, and they know that it’s there and they know that by doing the credit articulated earlier with some cooperation from the macro economy that we can get there. But in the interim, our duty is to our shareholders and to maximize the value of the company, and that’s largely about ensuring that the credit outcomes on our portfolio are as positive as they can be and that we continue to maintain a strong liability and liquidity profile. Greta, anything that you would want to amplify?

Greta Guggenheim, CEO

I think you covered it very well. Thank you.

Rick Shane, Analyst

Yeah. Look, and I appreciate that. Obviously, we’ve all known each other for a long time and I am highly aware of your individual personal commitments and integrity around that. It’s an interesting question in terms of motivating sort of the next level of managers and employees, and certainly an important consideration, and it sounds like TPG is being supportive, which is good.

Bob Foley, CFO

Yeah. The last point, Rick, I’m sorry to interject, but I think it warrants emphasis. TRTX is strategically it remains a very important part of the larger TPG investment platform. We are not the only permanent capital vehicle that the firm has sponsored. TSLX, the business lender, the BDC-type lender, is a very important and a very successful platform as well. But this is an area of true commitment, an emphasis by TPG as a global firm. Of that all of us can assure you and everybody else on the call.

Rick Shane, Analyst

Great. Thank you, Bob. I do appreciate that. And the other thing I just wanted to circle back on is, last quarter you guys had discussed a property where the sponsor advocates presented to you the notion of deed in lieu and that loan is still on the books exactly the way it was carried last quarter. I’m assuming that those conversations have taken a different course. But I am curious as you’re in conversations with your sponsors, if you’re finding any other sort of surprising scenarios, that was a loan that at least on paper looked like a really good situation on a relative basis. And I’m just curious if you’re finding little strange incentives or motivations that are driving unexpected conversations?

Greta Guggenheim, CEO

We’re not seeing that in the portfolio. You’re right that this situation was unexpected. I think it might be due to differing views among the ownership. However, this asset I mentioned earlier is being acquired by a borrower we know well, who is capable of successfully managing office properties and improving challenging situations. The only other property that stands out is the one ranked fifth, which is the only hotel property where the borrowers have not presented us with a substantial modification proposal. This surprises us because we believe that given its limited service and drive-to location, it would be in their economic best interest to pursue modifications for this property rather than allowing it to go past due for three months. So that’s the only other unexpected case; the rest of the portfolio has not shown any surprising news so far.

Rick Shane, Analyst

Great. Yeah. That definitely sounds like the sort of prototypical idiosyncratic situation. So that’s a good example. Thank you so much guys.

Greta Guggenheim, CEO

Thank you.

Operator, Operator

And our next question is from George Bahamondes from Deutsche Bank. Please proceed with your question.

George Bahamondes, Analyst

Hi. Good morning, Greta and Bob. A question on, I want to follow up on Stephen’s earlier question regarding loan modifications. As you think about the world beyond the next six months for agreed upon periods between shared checks and the borrowers that you’ve been having discussions with more recently. Should there be a need for an extension of the modification beyond the agreed-upon period, can we see further loan modifications at that point or is it likely that those loans would be pretty soon sent for the default process? I’m just kind of curious to what your thoughts are kind of beyond the agreed-upon period ideally, the longer and better shape then, but just wondering what that might look like?

Greta Guggenheim, CEO

Well, that is the key question and that is why we highlight how uncertain these times are. And due to the fact that we just don’t know the pace of the recovery and when travel will improve to help these properties. However, the modifications that we’ve entered into have required very, very significant equity contributions from the borrower. So, I think, since they are still contributing their own cash to these properties each month to keep them open, to pay debt service and cover operating costs, and any other property-related expense, we would like to think that they will continue to support the property. That’s usually a good indicator of future behavior is how they are treating the property presently in terms of cash contributions. So if the virus spread continues and this current decrease in the rising cases reverses and case rises start increasing, yes, I think it’s quite possible there will be a need for further modifications and we will work with borrowers who continue to support their properties.

George Bahamondes, Analyst

Understood. Can you provide some hypothetical scenarios that may require additional cash from their side?

Greta Guggenheim, CEO

We have been willing to defer up to three months' interest. This is done by deferring 50% of the interest over a maximum of six months, and often for a shorter period. There are also other options available for borrowers so they may not need to defer their interest payments. I expect the outcomes to be similar to that. We believe these properties will recover alongside the economy. While corporate business travel hotels may take longer to rebound, our leisure-focused and limited service properties, which make up the majority securing our loans, should recover at a similar pace to the overall economic recovery. We do feel that corporate business travel may face long-term challenges, possibly even permanent changes, as people's perspectives on travel seem to have shifted; however, it remains to be seen how enduring that sentiment will be.

George Bahamondes, Analyst

Great. That’s helpful color, Greta. I appreciate that and that’s it for me today. My questions have been asked and answered.

Bob Foley, CFO

Thank you, George.

Operator, Operator

And our next question is from Stephen Laws from Raymond James. Please proceed with your questions.

Stephen Laws, Analyst

A couple of follow-ups if you guys don’t mind. Greta, I guess, first, what are your borrowers, how many of your have been able to receive some type of funding either to furlough employees or something that they’re leaning on? Do they need additional support from the government or are these largely borrowers that really don’t qualify for anything under these programs? Can you provide any color around that?

Greta Guggenheim, CEO

Well, most of our hotel borrowers did qualify for the PPP funds and have already received it. I don’t know if they’re qualified for additional future funds. We haven’t heard of them receiving more funds. But the rest of our borrowers were not aware of them taking advantage or benefiting from the governmental programs. Many of our borrowers are large institutional-type entities and have not needed the assistance.

Stephen Laws, Analyst

All right. That's great. Finally, regarding the Starwood Capital Group, I understand you have the second and third options available. How should we interpret that? I assume it's probably not intended for proactive purposes. Could you share any thresholds or insights on what might lead you to consider accessing that second round? Is it related to liquidity on your balance sheet, something within the portfolio, or a change in the long-term outlook? What is the decision-making process for potentially utilizing the second and possibly third options of that financing?

Greta Guggenheim, CEO

Yes. We negotiated to have those because of the tremendous amount of uncertainty and opaqueness in how this economic recovery will pan out. And at this point, we haven’t made any decision to draw it or not to draw it. But as you pointed out, it would not be for offensive reasons. It would be for defensive reasons. If we found the economy taking a really severe turn to the negative, it’s there to help us. But at this point, we haven’t made a decision on how we’re going to proceed with that.

Stephen Laws, Analyst

Certainly, it's a valuable option that we can consider if we determine it's necessary, but we want to avoid any dilution or high financing costs. Thank you for your follow-up questions.

Greta Guggenheim, CEO

Thank you.

Operator, Operator

We have reached the end of the question-and-answer session. And I will now turn the call over to Greta Guggenheim for closing remarks.

Greta Guggenheim, CEO

Well, thank you all for joining us today and we look forward to another eventful quarter and speaking with you at the end of the third quarter.

Operator, Operator

This concludes today’s conference and you may disconnect your lines at this time. Thank you for your participation.