UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-Q

 

(Mark One)

For the quarterly period ended June 30, 2018

or

For the transition period from ___________ to ___________

Commission file number 1-14760

RAIT FINANCIAL TRUST

(Exact Name of Registrant as Specified in its Charter)

 

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

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes ☒    No ☐

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

 

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

 

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

 

A total of 92,532,749 common shares of beneficial interest, par value $0.03 per share, of the registrant were outstanding as of August 1, 2018.

 

 

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RAIT FINANCIAL TRUST

TABLE OF CONTENTS

 

 

 

 

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PART I—FINANCIAL INFORMATION

RAIT Financial Trust

Consolidated Balance Sheets

(Unaudited and dollars in thousands, except share and per share information)

 

The accompanying notes are an integral part of these consolidated financial statements.

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RAIT Financial Trust

Consolidated Statements of Operations

(Unaudited and dollars in thousands, except share and per share information)

 

 

The accompanying notes are an integral part of these consolidated financial statements.

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RAIT Financial Trust

Consolidated Statements of Comprehensive Income (Loss)

(Unaudited and dollars in thousands)

 

 

The accompanying notes are an integral part of these consolidated financial statements.

 

 

 

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RAIT Financial Trust

Consolidated Statement of Changes in Equity

(Unaudited and dollars in thousands, except share information)

 

The accompanying notes are an integral part of these consolidated financial statements.

 

 

 

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RAIT Financial Trust

Consolidated Statements of Cash Flows

(Unaudited and dollars in thousands) 

The accompanying notes are an integral part of these consolidated financial statements.

 

 

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RAIT Financial Trust

Notes to Consolidated Financial Statements

As of June 30, 2018

(Unaudited and dollars in thousands, except share and per share amounts)

 

 

NOTE 1: THE COMPANY

 

RAIT Financial Trust is a self-managed and self-advised Maryland real estate investment trust, or REIT, focused on managing a portfolio of commercial real estate, or CRE, loans and properties.  References to “RAIT”, “we”, “us”, and “our” refer to RAIT Financial Trust and its subsidiaries, unless the context otherwise requires.  

 

On June 27, 2018, RAIT Asset Holdings IV, LLC, or RAIT IV, a subsidiary of RAIT, completed the sale of its FL5 Interests, as defined below, and FL6 Interests, as defined below (collectively, the Interests), to Melody RE II, LLC, or the Purchaser, for an aggregate purchase price of $54,632.

 

Prior to the sale,  RAIT IV was the holder of:

 

 

As a result of the sale, RAIT is no longer the primary beneficiary of the Holdings 2016 and Holdings 2017 (collectively, the RAIT Venture VIEs), or FL5 and FL6. Therefore, RAIT deconsolidated those entities as of June 27, 2018. See Note 8: Variable Interest Entities for more information.  After the sale of the Interests, RAIT retained its role as servicer and special servicer of the loans in FL5 and FL6.

 

Also on June 27, 2018, RAIT, several of RAIT’s subsidiaries, including RAIT IV, and ARS VI Investor I, LP, or the Investor, entered into a Redemption and Exchange Agreement with the Investor whereby RAIT and RAIT IV redeemed and cancelled the remaining 2,939,190 preferred units of RAIT IV, or the preferred units, and RAIT’s corresponding Series D cumulative redeemable preferred shares, or the Series D preferred shares, for $56,765 of cash using the proceeds from the sale of RAIT IV’s FL5 Interests and FL6 Interests and defined available cash held by RAIT IV and $16,715 of liquidation preference of RAIT’s publicly traded Series A cumulative redeemable preferred shares, or the Series A preferred shares, Series B cumulative redeemable preferred shares, or the Series B preferred shares, and Series C cumulative redeemable preferred shares, or the Series C preferred shares.  See Note 9: Series D Preferred Shares for more information.

 

On September 7, 2017, we announced that our Board of Trustees, or the board, had formed a committee of independent trustees, or the special committee, to explore and evaluate a wide range of possible strategic and financial alternatives for RAIT. On February 20, 2018, we announced that the special committee had concluded this review and that the board had determined that this review did not identify a strategic or financial transaction with another counterparty that was preferable to the steps described below. This review, conducted with the support of financial and legal advisors, evaluated a wide range of potential alternatives which included, but were not limited to, (i) refinements of RAIT’s operations or strategy, (ii) financial transactions, such as a recapitalization or other change to RAIT’s capital structure and (iii) strategic transactions, such as a sale of all or part of RAIT.  As a result, the board, after considering the recommendations and advice of the special committee, RAIT’s management, in consultation with legal and financial advisors, determined that RAIT should take steps to increase RAIT’s liquidity and better position RAIT to meet its financial obligations as they come due. We refer to these steps as the 2018 strategic steps and they include, but are not limited to: (i) the suspension of RAIT’s lending business along with the implementation of other steps to reduce costs within its other operating businesses; (ii) the continuation of the process of selling RAIT’s owned real estate, or REO, portfolio and selling certain of our loans, while continuing to service and manage its existing CRE loan portfolio; and (iii) the engagement of a financial advisor, M-III Advisory Partners, LP, to advise and assist RAIT in its ongoing assessment of its financial performance and financial needs and in evaluating strategic and financial transactions.

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RAIT Financial Trust

Notes to Consolidated Financial Statements

As of June 30, 2018

(Unaudited and dollars in thousands, except share and per share amounts)

 

NOTE 2: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

 

a. Basis of Presentation

 

The accompanying unaudited interim consolidated financial statements have been prepared by management in accordance with U.S. generally accepted accounting principles, or GAAP. Certain information and footnote disclosures normally included in annual consolidated financial statements prepared in accordance with GAAP have been condensed or omitted pursuant to such rules and regulations, although we believe that the included disclosures are adequate to make the information presented not misleading. The unaudited interim consolidated financial statements should be read in conjunction with our audited financial statements as of and for the year ended December 31, 2017 included in our Annual Report on Form 10-K, or the Annual Report. In the opinion of management, all adjustments, consisting only of normal recurring adjustments, necessary to present fairly our consolidated financial position and consolidated results of operations and cash flows are included. The results of operations for the interim periods presented are not necessarily indicative of the results for the full year.

 

b. Going Concern Considerations

 

Under the accounting guidance related to the presentation of financial statements, an entity is required to evaluate on a quarterly basis whether the entity’s current financial condition, including its liquidity sources at the date that the financial statements are issued, will enable the entity to meet its obligations arising within one year of the date  the entity’s financial statements are issued and to make a determination as to whether it is probable, under the application of this accounting guidance, that the entity will be able to continue as a going concern over the applicable period.  The accompanying consolidated financial statements have been prepared on a going concern basis, which contemplates the realization of assets and the satisfaction of liabilities in the normal course of business.  The financial statements do not include any adjustments that might be necessary should RAIT be unable to continue as a going concern. As a result of the considerations articulated below, there is substantial doubt about RAIT’s ability to continue as a going concern within one year after the date that the financial statements are issued.

 

Analysis.  In applying the accounting guidance, management considered RAIT’s current financial condition and liquidity sources, including current funds available, forecasted future cash flows and RAIT’s conditional and unconditional obligations due over the next twelve months.  Management considered the following: i) the option of holders of our 4.0% convertible senior notes, which have an unpaid principal balance of $68,222 as of June 30, 2018, to require RAIT to redeem them in October 2018; ii) our senior secured notes which mature in April 2019 and have an unpaid principal balance of $9,500 as of June 30, 2018; iii) the financial covenant compliance requirements of certain of RAIT’s indebtedness; iv) RAIT’s existing non-compliance with and options to cure certain continued listing standards of the NYSE (including the potential implications thereof which are further discussed below); and (v) RAIT’s recurring costs of operating its business. Although not due within twelve months from the date of the issuance of these financial statements, management also considered our 7.125% senior notes which mature in August 2019 and have an unpaid principal balance of $68,408 as of June 30, 2018.

 

As previously disclosed, effective September 21, 2017, RAIT received written notification, or NYSE Notice #1, from the New York Stock Exchange, or the NYSE, that RAIT was not in compliance with an NYSE continued listing standard in Rule 802.01C of the NYSE Listed Company Manual because the average closing price of RAIT’s common shares fell below $1.00 over a consecutive 30 trading-day period ending September 15, 2017.  RAIT subsequently informed the NYSE that it intended to cure the price condition by proposing a reverse stock split or other action that may require approval of its shareholders.    

 

On May 11, 2018, RAIT received written notification, or NYSE Notice #2, from the NYSE that RAIT was not in compliance with an NYSE continued listing standard in Rule 802.01D of the NYSE Listed Company Manual because the trading price of RAIT’s common shares fell below $0.16, which the NYSE staff interpreted as “abnormally low” and, as a result, the NYSE immediately suspended trading of all of RAIT’s listed securities, or the Listed Securities.  On June 5, 2018, RAIT received written notification, or NYSE Notice #3, from the NYSE that RAIT was not in compliance with an NYSE continued listing standard in Rule 802.01B of the NYSE Listed Company Manual because RAIT had not maintained at least a $15.0 million average market capitalization over a 30-day trading period.  

 

On May 29, 2018, RAIT sent a notice, or the Appeal Notice, to the NYSE appealing the NYSE staff’s determinations in NYSE Notice #2, requesting review of these determinations by a committee of the NYSE’s Board of Directors, or the Review Committee, and requesting the opportunity to make an oral presentation to the Review Committee.  RAIT discussed the market capitalization

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RAIT Financial Trust

Notes to Consolidated Financial Statements

As of June 30, 2018

(Unaudited and dollars in thousands, except share and per share amounts)

 

continued listing standard in its Appeal Notice and has also asked the Review Committee to review the NYSE staff’s determination in NYSE Notice #3 in its appeal.  The NYSE has notified RAIT that the appeal is scheduled to be held on October 11, 2018.  During the appeal period, RAIT remains “listed” on the NYSE though trading in the Listed Securities is suspended.  On July 19, 2018, RAIT’s proposal to grant authority for its Board to effect a reverse stock split at a ratio between 10 shares into one share up to 50 shares into one share, was approved by its shareholders.  Subsequently, on July 19, 2018, the Board authorized a reverse stock split at a ratio of 50 shares into one share, which will become effective after the close of business on August 13, 2018. On August 1, 2018, RAIT made a formal written submission to the Review Committee to support its appeal.

 

There can be no assurance that RAIT will be able to cure these deficiencies or that RAIT will be able to continue to comply with any other continued listing standard of the NYSE.  RAIT’s ability to cure its non-compliance with the continued listing standards of the NYSE is dependent, in part, on the market price and market capitalization of RAIT’s common shares, which is not within RAIT’s exclusive control. If RAIT’s common shares ultimately were to be delisted for any reason from the NYSE before RAIT was able to cure the deficiencies, it could trigger the right of holders of RAIT’s senior secured notes and RAIT’s convertible notes to require us to repurchase their notes.  If RAIT failed to repay any senior secured notes or convertible notes for which the holders exercised repurchase rights, it could trigger cross defaults under, and ultimately the acceleration of, other RAIT indebtedness.

 

RAIT plans to control costs, to sell certain loans, to sell certain real estate properties and to continue to receive repayments of loans as they become due.  Consistent with these plans, RAIT has suspended new investment activity and the Board did not declare a dividend on RAIT’s outstanding preferred shares for the three months ended June 30, 2018.  Due to the inherent risks, unknown results and significant uncertainties associated with each of these matters and the direct correlation between these matters and RAIT’s ability to satisfy its financial obligations that may arise over the applicable twelve month period (including the 7.125% senior notes due in August 2019), RAIT is unable to conclude that it is probable that RAIT will be able to meet its obligations arising within twelve months of the date of issuance of these financial statements (including the 7.125% senior notes due in August 2019) within the parameters set forth in this accounting guidance.

 

Based on proceeds generated from assets sales and loan repayments that have occurred as of the date these financial statements were issued, RAIT’s current financial condition and currently available sources of repayment would enable RAIT to meet its obligations under the 4.0% convertible notes and its senior secured notes if and as they may become due over the twelve months from the date these financial statements were issued.  These notes are the only material obligations that may arise with respect to RAITs possible delisting by the NYSE.  However, RAIT’s current financial condition and currently available sources of repayment would not enable RAIT to meets its obligations under the 7.125% senior unsecured notes due in August 2019.  As a result, management evaluated whether this was mitigated by RAIT’s approved plans and expectations for the applicable period under the second step of this accounting standard.

 

RAIT’s ability to satisfy its obligations under the 7.125% senior notes and to maintain compliance with its debt covenants depends on management’s ability to sell certain of RAIT’s remaining real estate assets releasing cash from those sales and/or distributions on our retained interests in our RAIT I and RAIT II securitizations, to continue to control costs, to sell certain loans, to sell retained interests in certain FL securitizations and to continue to receive repayments of loans as they become due.  While controlling costs are within management’s control to some extent, selling real estate assets, selling loans, selling other assets and the timing of loan repayments involve performance by third parties.  Since many of the real estate assets, loans and other assets that management plans to sell or receive repayment from to satisfy its obligations are not subject to an executed purchase and sale agreement or other contractual agreement as of the date hereof, the sale of those assets cannot be considered probable of occurring.  

 

c. Principles of Consolidation

 

The consolidated financial statements reflect our accounts and the accounts of our majority-owned and/or controlled subsidiaries. We also consolidate entities that are variable interest entities, or VIEs, where we have determined that we are the primary beneficiary of such entities. The portions of these entities that we do not own are presented as noncontrolling interests as of the dates and for the periods presented in the consolidated financial statements. All intercompany accounts and transactions have been eliminated in consolidation.

 

Under Financial Accounting Standards Board, or FASB, Accounting Standards Codification, or ASC, Topic 810, “Consolidation”, the determination of whether to consolidate a VIE is based on the power to direct the activities of the VIE that most significantly impact the VIE’s economic performance together with either the obligation to absorb losses or the right to receive

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RAIT Financial Trust

Notes to Consolidated Financial Statements

As of June 30, 2018

(Unaudited and dollars in thousands, except share and per share amounts)

 

benefits that could be significant to the VIE. We define the power to direct the activities that most significantly impact the VIE’s economic performance as the ability to buy, sell, refinance, or recapitalize assets or entities, and solely control other material operating events or items of the entity. For our commercial mortgage loans, mezzanine loans, and preferred equity investments, certain rights we hold are protective in nature and would preclude us from having the power to direct the activities that most significantly impact the VIE’s economic performance. Assuming both criteria are met, we would be considered the primary beneficiary and would consolidate the VIE. We will continually assess our involvement with VIEs and consolidate the VIEs when we are the primary beneficiary. See Note 8: Variable Interest Entities for additional disclosures pertaining to VIEs.

 

For entities that we do not consolidate, we account for our investment in them either under the equity method pursuant to ASC Topic 323, “Investments-Equity Method and Joint Ventures” or cost method pursuant to ASC Topic 325, “Investments – Other”.

 

d. Use of Estimates

 

The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting periods. The items that include significant estimates are fair value of financial instruments and allowance for loan losses. Actual results could differ from those estimates.

 

e. Cash and Cash Equivalents

 

Cash and cash equivalents include cash held in banks and highly liquid investments with maturities of three months or less when purchased.  Cash, including amounts restricted, may at times exceed the Federal Deposit Insurance Corporation deposit insurance limit of $250 per institution.  We attempt to mitigate credit risk by placing cash and cash equivalents with major financial institutions.  To date, we have not experienced any losses on cash and cash equivalents.

 

f. Restricted Cash

 

Restricted cash consists primarily of tenant escrows and borrowers’ funds held by us to fund certain expenditures or to be released at our discretion upon the occurrence of certain pre-specified events, and to serve as additional collateral for borrowers’ loans.  As of June 30, 2018 and December 31, 2017, we had $59,338 and $123,398 of restricted cash, respectively, which primarily relates to tenant escrows and borrowers’ funds.

 

Restricted cash also includes cash received from the disposition of assets held by the issuers of our securitizations that are awaiting to be distributed to holders of our CDO notes payable and CMBS securitizations, as well as the proceeds from the issuance of CDO notes payable by securitizations that are restricted for the purpose of funding additional investments in securities subsequent to the balance sheet date.  As of June 30, 2018 and December 31, 2017, we had $36,508 and $34,516, respectively, of restricted cash held by securitizations.

 

As of June 30, 2018, restricted cash also includes $17,245 of loan payoff proceeds held by RAIT as servicer for FL6. These funds were remitted to FL6 subsequent to June 30. As discussed in Note 1: The Company, we deconsolidated FL6 upon the sale of our FL6 Interests.

 

g. Investments in Commercial Mortgage Loans, Mezzanine Loans and Preferred Equity Interests

 

We have invested in commercial mortgage loans, mezzanine loans and preferred equity interests. We account for our investments in commercial mortgage loans, mezzanine loans and preferred equity interests that we do not have the intention or ability to sell, at amortized cost. The carrying value of these investments is adjusted for origination discounts/premiums, nonrefundable fees and direct costs for originating loans which are amortized into income on a level yield basis over the terms of the loans.

 

Loans that we have the intention and ability to sell are classified as held for sale, and are measured at the lower of amortized cost or fair value. If the amortized cost exceeds the loan’s fair value, we establish a valuation allowance equal to the difference between the amortized cost and fair value.

 

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RAIT Financial Trust

Notes to Consolidated Financial Statements

As of June 30, 2018

(Unaudited and dollars in thousands, except share and per share amounts)

 

h. Allowance for Loan Losses, Impaired Loans and Non-accrual Status

 

We maintain an allowance for loan losses on our investments in commercial mortgage loans, mezzanine loans and preferred equity interests. Management’s periodic evaluation of the adequacy of the allowance is based upon expected and inherent risks in the portfolio, the estimated value of underlying collateral, and current economic conditions. The credit quality of our loans is monitored via quantitative and qualitative metrics.  Quantitatively we evaluate items such as the current debt service coverage ratio and annual net operating income of the underlying property.  Qualitatively we evaluate items such as recent operating performance of the underlying property and history of the borrower’s ability to provide financial support.  These items together are considered in developing our view of each loan’s risk rating which are categorized as either impaired or satisfactory. Management reviews loans for impairment and establishes specific reserves when a loss is probable under the provisions of FASB ASC Topic 310, “Receivables.” A loan is impaired when it is probable that we may not collect all principal and interest payments according to the contractual terms. As part of the detailed loan review, we consider many factors about the specific loan, including payment history, asset performance, borrower’s financial capability and other characteristics. Management evaluates loans for non-accrual status each reporting period. A loan is placed on non-accrual status when the loan payment deficiencies exceed 90 days unless it is well secured and in the process of collection, or if the collection of principal and interest in full is not probable. Payments received for non-accrual loans are applied to principal until the loan is removed from non-accrual status. Loans are generally removed from non-accrual status when they are making current interest payments. The allowance for loan losses is increased by the provision for loan losses and decreased by charge-offs (net of recoveries). We charge off a loan when we determine that all commercially reasonable means of recovering the loan balance have been exhausted.  This may occur at a variety of times, including when we receive cash or other assets in a pre-foreclosure sale or take control of the underlying collateral in full satisfaction of the loan upon foreclosure.  We consider circumstances such as these to indicate that the loan collection process has ceased and that a loan is uncollectible.

 

i. Investments in Real Estate

 

Investments in real estate are shown net of accumulated depreciation. We capitalize those costs that have been determined to improve the real property and depreciate those costs on a straight-line basis over the useful life of the asset. We depreciate real property using the following useful lives: buildings and improvements—30 to 40 years; furniture, fixtures, and equipment—5 to 10 years; and tenant improvements—shorter of the lease term or the life of the asset. Costs for ordinary maintenance and repairs are charged to expense as incurred.

Effective January 1, 2018, FASB ASC Topic 805, “Business Combinations” was amended to clarify the definition of a business by more clearly outlining the requirements for an integrated set of assets and activities to be considered a business and by establishing a practical framework to determine when the integrated set of assets and activities is a business. Prior to January 1, 2018, the properties we acquired were generally considered businesses and were accounted for as business combinations. Subsequent to January 1, 2018, we expect any properties that we acquire to generally not be considered businesses and, therefore, to be accounted for as asset acquisitions.  

Under business combination accounting, the fair value of the real estate acquired is allocated to the acquired tangible assets, generally consisting of land, building and tenant improvements, and identified intangible assets and liabilities, consisting of the value of above-market and below-market leases for acquired in-place leases and the value of tenant relationships, based, in each case, on their fair values.  Transaction costs and fees incurred related to the acquisition are expensed as incurred.  Under asset acquisition accounting, the costs to acquire real estate, including transaction costs related to the acquisition, are accumulated and then allocated to the individual assets and liabilities acquired based upon their relative fair value.  

 

In determining the fair value of the identified intangible assets and liabilities of an acquired property, above-market and below-market in-place lease values are recorded based on the present value (using an interest rate which reflects the risks associated with the leases acquired) of the differences between (i) the contractual amounts to be paid pursuant to the in-place leases and (ii) management’s estimate of fair market lease rates for the corresponding in-place leases, measured over a period equal to the remaining term of the lease. The capitalized above-market lease values and the capitalized below-market lease values are amortized as an adjustment to property income over the lease term.

 

The aggregate value of in-place leases is determined by evaluating various factors, including an estimate of carrying costs during the expected lease-up periods, current market conditions and similar leases. In estimating carrying costs, management includes real estate taxes, insurance and other operating expenses, and estimates of lost rental revenue during the expected lease-up periods

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RAIT Financial Trust

Notes to Consolidated Financial Statements

As of June 30, 2018

(Unaudited and dollars in thousands, except share and per share amounts)

 

based on current market demand. Management also estimates costs to execute similar leases including leasing commissions, legal and other related costs. The value assigned to this intangible asset is amortized over the assumed lease up period.

 

Management reviews our investments in real estate for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. The review of recoverability is based on an estimate of the future undiscounted cash flows (excluding interest charges) expected to result from the long-lived asset’s use and eventual disposition. These cash flows consider factors such as expected future operating income, trends and prospects, as well as the effects of leasing demand, competition and other factors. If impairment exists due to the inability to recover the carrying value of a long-lived asset, an impairment loss is recorded to the extent that the carrying value exceeds the estimated fair value of the property.

 

j. Revenue Recognition

 

 

For investments that we do not elect to record at fair value under FASB ASC Topic 825, “Financial Instruments”, origination fees and direct loan origination costs are deferred and amortized to net investment income, using the effective interest method, over the contractual life of the underlying loan security or loan, in accordance with FASB ASC Topic 310, “Receivables.”

 

For investments that we elect to record at fair value under FASB ASC Topic 825, origination fees and direct loan costs are recorded in income and are not deferred.

 

 

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RAIT Financial Trust

Notes to Consolidated Financial Statements

As of June 30, 2018

(Unaudited and dollars in thousands, except share and per share amounts)

 

 

Certain components of property income and fee and other income fall within the scope of FASB ASC Topic 606, “Revenue from Contracts with Customers”. This topic requires entities to disaggregate revenue into categories that depict how the nature, amount, timing, and uncertainty of revenue and cash flows are affected by economic factors. In the following table, revenue from contracts with customers is disaggregated by type of revenue.

 

 

There have been no changes in the measurement of revenue from contracts with customers resulting from the adoption of ASC 606.

 

k. Fair Value of Financial Instruments

 

In accordance with FASB ASC Topic 820, “Fair Value Measurements and Disclosures”, fair value is 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. Where available, fair value is based on observable market prices or parameters or derived from such prices or parameters. Where observable prices or inputs are not available, valuation models are applied. These valuation techniques involve management estimation and judgment, the degree of which is dependent on the price transparency for the instruments or market and the instruments’ complexity for disclosure purposes. Assets and liabilities recorded at fair value in the consolidated balance sheets are categorized based upon the level of judgment associated with the inputs used to measure their value. Hierarchical levels, as defined in FASB ASC Topic 820, “Fair Value Measurements and Disclosures” and directly related to the amount of subjectivity associated with the inputs to fair valuations of these assets and liabilities, are as follows:

 

 

 

 

The availability of observable inputs can vary depending on the financial asset or liability and is affected by a wide variety of factors, including, for example, the type of investment, whether the investment is new, whether the investment is traded on an active exchange or in the secondary market, and the current market condition. To the extent that valuation is based on models or inputs that are less observable or unobservable in the market, the determination of fair value requires more judgment. Accordingly, the degree of judgment exercised by us in determining fair value is greatest for instruments categorized in Level 3.

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RAIT Financial Trust

Notes to Consolidated Financial Statements

As of June 30, 2018

(Unaudited and dollars in thousands, except share and per share amounts)

 

 

Fair value is a market-based measure considered from the perspective of a market participant who holds the asset or owes the liability rather than an entity-specific measure. Therefore, even when market assumptions are not readily available, our own assumptions are set to reflect those that management believes market participants would use in pricing the asset or liability at the measurement date. We use prices and inputs that management believes are current as of the measurement date, including during periods of market dislocation. In periods of market dislocation, the observability of prices and inputs may be reduced for many instruments. This condition could cause an instrument to be transferred from Level 1 to Level 2 or Level 2 to Level 3.

 

Many financial instruments have bid and ask prices that can be observed in the marketplace. Bid prices reflect the highest price that buyers in the market are willing to pay for an asset. Ask prices represent the lowest price that sellers in the market are willing to accept for an asset. For financial instruments whose inputs are based on bid-ask prices, we do not require that fair value always be a predetermined point in the bid-ask range. Our policy is to allow for mid-market pricing and adjusting to the point within the bid-ask range that results in our best estimate of fair value.

 

Fair value for certain of our Level 3 financial instruments is derived using internal valuation models. These internal valuation models include discounted cash flow analyses developed by management using current interest rates, estimates of the term of the particular instrument, specific issuer information and other market data for securities without an active market. In accordance with FASB ASC Topic 820, “Fair Value Measurements and Disclosures”, the impact of our own credit spreads is also considered when measuring the fair value of financial assets or liabilities, including derivative contracts. Where appropriate, valuation adjustments are made to account for various factors, including bid-ask spreads, credit quality and market liquidity. These adjustments are applied on a consistent basis and are based on observable inputs where available. Management’s estimate of fair value requires significant management judgment and is subject to a high degree of variability based upon market conditions, the availability of specific issuer information and management’s assumptions.

 

l. Transfers of Financial Assets

 

We account for transfers of financial assets under FASB ASC Topic 860, “Transfers and Servicing”, as either sales or financings.  Transfers of financial assets that result in sales accounting are those in which (1) the transfer legally isolates the transferred assets from the transferor, (2) the transferee has the right to pledge or exchange the transferred assets and no condition both constrains the transferee’s right to pledge or exchange the assets and provides more than a trivial benefit to the transferor, and (3) the transferor does not maintain effective control over the transferred assets.  If the transfer does not meet these criteria, the transfer is accounted for as a financing.  Financial assets that are treated as sales are removed from our accounts with any realized gain (loss) reflected in earnings during the period of sale.  Financial assets that are treated as financings are maintained on the balance sheet with proceeds received from the legal transfer reflected as securitized borrowings or security-related receivables.

 

m. Deferred Financing Costs

 

Costs incurred in connection with debt financing are deferred and classified within indebtedness and charged to interest expense over the terms of the related debt agreements, under the effective interest method.

 

n. Intangible Assets

 

Intangible assets on our consolidated balance sheets represent identifiable intangible assets acquired in business acquisitions. We amortize identified intangible assets to expense over their estimated lives using the straight-line method. We evaluate intangible assets for impairment as events and circumstances change, in accordance with FASB ASC Topic 360, “Property, Plant, and Equipment.” The gross carrying amount for our in-place leases and above market leases was $12,207 as of June 30, 2018 and December 31, 2017, respectively.  The accumulated amortization for our intangible assets was $7,649 and $6,831 as of June 30, 2018 and December 31, 2017, respectively. We recorded amortization expense of $391 and $1,913 for the three months ended June 30, 2018 and 2017, respectively, and $818 and $4,560 for the six months ended June 30, 2018 and 2017, respectively. Based on the intangible assets identified above, we expect to record amortization expense of intangible assets of $757 for the remainder of 2018, $1,183 for 2019, $902 for 2020, $614 for 2021, $428 for 2022 and $674 thereafter. As of June 30, 2018, we have determined that the carrying value of our intangible assets is recoverable.

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RAIT Financial Trust

Notes to Consolidated Financial Statements

As of June 30, 2018

(Unaudited and dollars in thousands, except share and per share amounts)

 

 

o. Derivative Instruments

 

In accordance with FASB ASC Topic 815, “Derivatives and Hedging”, we measure each derivative instrument at fair value and record such amounts in our consolidated balance sheet as either an asset or liability. For derivatives designated as fair value hedges, derivatives not designated as hedges, or for derivatives designated as cash flow hedges associated with debt for which we elected the fair value option under FASB ASC Topic 825, “Financial Instruments”, the changes in fair value of the derivative instrument are recorded in earnings. For derivatives designated as cash flow hedges, the changes in the fair value of the effective portions of the derivative are reported in other comprehensive income. Changes in the ineffective portions of cash flow hedges, if any, are recognized in earnings.  

 

For derivatives cleared through the Chicago Mercantile Exchange, or CME, and the London Clearing House, or LCH, variation margin payments are considered settlements of the related derivatives. As of June 30, 2018, we had no derivative instruments outstanding.  

 

p. Income Taxes

 

RAIT, Taberna Realty Finance Trust, or TRFT, and the RAIT Venture REITs have each elected to be taxed as a REIT and to comply with the related provisions of the Internal Revenue Code of 1986, as amended, or the Internal Revenue Code. In February 2016 and January 2017, in conjunction with the ventures described in Note 5: Indebtedness and Note 8: Variable Interest Entities, we created two new entities that elected to be taxed as REITs, which we refer to as the RAIT Venture VIEs.  These entities hold the FL-5 and FL-6 junior notes for the aforementioned ventures.  Accordingly, we generally will not be subject to U.S. federal income tax to the extent of our dividends to shareholders and as long as certain asset, income and share ownership tests are met. If we were to fail to meet these requirements, we would be subject to U.S. federal income tax, which could have a material adverse impact on our results of operations and amounts available for dividends to our shareholders. Management believes that all of the criteria to maintain RAIT’s, TRFT’s and the RAIT Venture VIEs REIT qualification have been met for the applicable periods, but there can be no assurance that these criteria will continue to be met in subsequent periods.  

 

As discussed in Note 1: The Company, we completed the sale of our interests in the RAIT Venture VIEs on June 27, 2018, and, as a result, the purchaser will be responsible for their REIT compliance from and after that date.

 

We maintain various taxable REIT subsidiaries, or TRSs, which may be subject to U.S. federal, state and local income taxes and foreign taxes. Current and deferred taxes are provided on the portion of earnings (losses) recognized by us with respect to our interest in domestic TRSs. Deferred income tax assets and liabilities are computed based on temporary differences between our GAAP consolidated financial statements and the federal and state income tax basis of assets and liabilities as of the consolidated balance sheet date. We evaluate the realizability of our deferred tax assets (e.g., net operating loss and capital loss carryforwards) and recognize a valuation allowance if, based on the available evidence, it is more likely than not that some portion or all of our deferred tax assets will not be realized. When evaluating the realizability of our deferred tax assets, we consider estimates of expected future taxable income, existing and projected book/tax differences, tax planning strategies available, and the general and industry specific economic outlook. This realizability analysis is inherently subjective, as it requires management to forecast our business and general economic environment in future periods. Changes in estimate of deferred tax asset realizability, if any, are included in income tax expense on the consolidated statements of operations.

 

In prior years, our TRS entities generated taxable revenue primarily from (i) advisory fees for services provided to IRT, (ii) property management fees for services provided to RAIT properties, IRT properties and third-party properties, and (iii) fees and other income from our CMBS lending business.  In the current year, our TRS entities generate taxable revenue primarily from (i) property management fees for services provided to RAIT properties and third-party properties, and (ii) fees and other income from our CMBS lending business. In consolidation, the advisory fees and property management fees related to IRT were eliminated through October 5, 2016 and property management fees related to RAIT properties were eliminated in their entirety. Nonetheless, all income taxes are expensed and are paid by the TRSs in the year in which the revenue is received. These income taxes are not eliminated when the related revenue is eliminated in consolidation.

 

The TRS entities may be subject to tax laws that are complex and potentially subject to different interpretations by the taxpayer and the relevant governmental taxing authorities. In establishing a provision for income tax expense, we must make judgments and

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RAIT Financial Trust

Notes to Consolidated Financial Statements

As of June 30, 2018

(Unaudited and dollars in thousands, except share and per share amounts)

 

interpretations about the application of these inherently complex tax laws. Actual income taxes paid may vary from estimates depending upon changes in income tax laws, actual results of operations, and the final audit of tax returns by taxing authorities. Tax assessments may arise several years after tax returns have been filed. We review the tax balances of our TRS entities quarterly and, as new information becomes available, the balances are adjusted as appropriate.

 

As part of our change in strategic direction during the year ended December 31, 2016 and to decrease administrative processes, we moved our active TRS entities under a single holding company. We elected a November 30^th taxable year end for the TRS holding company. We estimated the effective tax rate and current income tax liability as of December 31, 2016 by projecting activity for the full taxable year ended November 30, 2017. As we projected ordinary taxable income for the TRS holding company for its taxable year ended November 30, 2017, we recognized a current income tax liability as of December 31, 2016. During the six months ended June 30, 2017, we updated our projections for 2017, which indicated an ordinary loss position for taxable year 2017 for the TRS holding company. As a result, we reversed the current income tax liability accrued as of December 31, 2016, which generated a current income tax benefit of $249 for the six months ended June 30, 2017.

 

q. Recent Accounting Pronouncements

 

Adopted within these Financial Statements

 

In May 2014, the FASB issued an accounting standard classified under FASB ASC Topic 606, “Revenue from Contracts with Customers”. This accounting standard establishes a single comprehensive model for entities to use in accounting for revenue arising from contracts with customers and supersedes the most current revenue recognition guidance, including industry-specific guidance. This accounting standard generally replaces existing guidance by requiring an entity to recognize the amount of revenue to which it expects to be entitled for the transfer of promised goods or services to customers. This accounting standard applies to all contracts with customers, except those that are within the scope of other Topics in the FASB ASC. During 2016 and 2017, the FASB issued multiple amendments to this accounting standard that provide further clarification to this accounting standard.  In February 2017, the FASB issued an accounting standard classified under FASB ASC Subtopic 610-20, “Other Income – Gains and Losses from the Derecognition of Nonfinancial Assets”. The amendments in this accounting standard clarify what constitutes an “in substance nonfinancial asset” and changes the accounting for partial sales of nonfinancial assets to be more consistent with the accounting for a sale of a business. The amendments in this accounting standard also provide further guidance on accounting for the derecognition of of non-financial assets by generally requiring the revenue recognition model under FASB ASC Topic 606 to be applied, which may allow for earlier gain recognition for certain sale transactions pursuant to which we have continuing involvement with the asset.  These standards were effective for annual reporting periods beginning after December 15, 2017. We have adopted this new standard as of January 1, 2018, and have applied the modified retrospective method.  The adoption of FASB ASC Topic 606 did not change our measurement of revenue from contracts with customers.  The adoption of FASB ASC Subtopic 610-20 resulted in a cumulative effect adjustment as an increase to shareholders’ equity in the amount of $761 as of the adoption date.  This adjustment is related to a previously deferred gain on the sale of two land parcels in 2017 that would have qualified for recognition under this accounting standard.

 

In January 2016, the FASB issued an accounting standard classified under FASB ASC Topic 825, “Financial Instruments”. This accounting standard addresses certain aspects of recognition, measurement, presentation, and disclosure of financial instruments.  Among other things, the amendment (i) eliminates certain disclosure requirements for financial instruments measured at amortized cost; (ii) requires the use of the exit price notion when measuring the fair value of financial instruments for disclosure purposes; (iii) requires separate presentation, in other comprehensive income, of the change in fair value of a liability, when the fair value option has been elected, resulting from a change in the instrument-specific credit risk; and (iv) requires separate presentation of financial instruments by measurement category and form.  This standard is effective for annual periods beginning after December 15, 2017, including interim periods within those fiscal years.  Early adoption is permitted for the separate presentation of changes in fair value due to changes in instrument-specific credit risk. We have adopted this new standard as of January 1, 2018, and have applied the modified retrospective method, which resulted in a cumulative effect adjustment as an increase to accumulated other comprehensive income (loss) and a decrease to retained earnings (deficit) in the amount of $9,257 as of the adoption date. This adjustment relates to the separate presentation of changes in instrument-specific credit risk on our junior subordinated notes, at fair value.

 

In August 2016, the FASB issued an accounting standard classified under FASB ASC Topic 230, “Statement of Cash Flows”.  This accounting standard provides guidance on eight specific cash flow issues; (i) debt prepayment or debt extinguishment costs; (ii) settlement of zero-coupon debt instruments or other debt instruments with coupon interest rates that are insignificant in relation to the

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RAIT Financial Trust

Notes to Consolidated Financial Statements

As of June 30, 2018

(Unaudited and dollars in thousands, except share and per share amounts)

 

effective interest rate of the borrowing; (iii) contingent consideration payments made after a business combination; (iv) proceeds from the settlement of insurance claims; (v) proceeds from the settlement of corporate-owned life insurance policies, including bank-owned life insurance policies; (vi) distributions received from equity method investees; (vii) beneficial interests in securitization transactions; and (viii) separately identifiable cash flows and application of the predominance principle. The amendments are effective for fiscal years beginning after December 15, 2017, and interim periods within those fiscal years.  Early adoption is permitted, including adoption in an interim period. This standard did not have an impact on our consolidated financial statements.

 

In October 2016, the FASB issued an accounting standard classified under FASB ASC Topic 740, “Income Taxes”.  The amendments in this accounting standard provide that the current and deferred income tax consequences of an intra-entity transfer of an asset other than inventory should be recognized when the transfer occurs rather than when the asset has been sold to an outside party.   Two common examples of assets included in the scope of this accounting standard are intellectual property and property, plant, and equipment.  The amendments in this standard are effective for annual reporting periods beginning after December 15, 2017, including interim reporting periods within those annual reporting periods.  Early adoption is permitted for all entities as of the beginning of an annual reporting period for which financial statements (interim or annual) have not been issued.  The amendments in this accounting standard should be applied on a modified retrospective basis through a cumulative-effect adjustment directly to retained earnings as of the beginning of the period of adoption. This standard did not have an impact on our consolidated financial statements.

 

In November 2016, the FASB issued an accounting standard classified under FASB ASC Topic 230, “Statement of Cash Flows”.  The amendments in this accounting standard require that the statement of cash flows explain the change during the period in the total of cash, cash equivalents, and amounts generally described as restricted cash or restricted cash equivalents.  Amounts generally described as restricted cash and restricted cash equivalents should be included with cash and cash equivalents when reconciling the beginning-of-period and end-of-period total amounts shown on the statement of cash flows.  The amendments in this update are effective for fiscal years beginning after December 15, 2017, and interim periods within those fiscal years.  Early adoption is permitted, including adoption in an interim period.  We have adopted this new standard as of January 1, 2018 and have utilized a retrospective transition method for each period presented in our consolidated financial statements. The adoption of this standard has resulted in the presentation of additional details regarding the changes in restricted cash in the consolidated statements of cash flows.

 

In January 2017, the FASB issued an accounting standard classified under FASB ASC Topic 805, “Business Combinations”. The amendments in this accounting standard clarify the definition of a business by more clearly outlining the requirements for an integrated set of assets and activities to be considered a business and by establishing a practical framework to determine when the integrated set of assets and activities is a business. The amendments in this accounting standard are effective for fiscal years beginning after December 15, 2017, including interim periods within those fiscal years. Early adoption is permitted for transactions not yet reflected in the financial statements. We have adopted this new standard as of January 1, 2018 although it has not yet had an impact on our consolidated financial statements.

 

In May 2017, the FASB issued an accounting standard classified under FASB ASC Subtopic 718, “Compensation – Stock Compensation”. The amendments in this accounting standard are to provide guidance about which changes to the terms or conditions of a share-based payment award require an entity to apply modification accounting in Topic 718.  The amendments in this accounting standard are effective for fiscal years beginning after December 15, 2017, including interim periods within those fiscal years. Early adoption of the amendments in this standard is permitted.  This standard did not have an impact on our consolidated financial statements.

 

Not Yet Adopted Within These Financial Statements

 

In February 2016, the FASB issued an accounting standard classified under FASB ASC Topic 842, “Leases”.  This accounting standard states that a lessee should recognize the assets and liabilities that arise from all leases with a term greater than 12 months. The core principle requires the lessee to recognize a liability to make lease payments and a "right-of-use" asset. The accounting applied by the lessor is relatively unchanged.  The amendments in this accounting standard are effective for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. Early application of the amendments in this standard is permitted. Management is currently evaluating the impact that this standard may have on our consolidated financial statements. The recognition of operating leases, for which we are the lessee, on the consolidated balance sheets is expected to be the most significant impact of the adoption of this accounting standard.

 

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RAIT Financial Trust

Notes to Consolidated Financial Statements

As of June 30, 2018

(Unaudited and dollars in thousands, except share and per share amounts)

 

In June 2016, the FASB issued an accounting standard classified under FASB ASC Topic 326, “Financial Instruments-Credit Losses”.  The amendments in this standard provide an approach based on expected losses to estimate credit losses on certain types of financial instruments.  The amendments also modify the impairment model for available-for-sale debt securities and provides for a simplified accounting model for purchased financial assets with credit deterioration since their origination.  The amendments in this standard expand the disclosure requirements regarding an entity’s assumptions, models, and methods for estimating the allowance for loan and lease losses.  In addition, public business entities will need to disclose the amortized cost balance for each class of financial asset by credit quality indicator, disaggregated by the year of origination.  This standard is effective for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years.  Early application of the guidance will be permitted for all entities for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years.  Management is currently evaluating the impact that this standard will have on our consolidated financial statements.

 

In July 2017, the FASB issued an accounting standard classified under FASB ASC Subtopic 260, “Earnings per Share”, Subtopic 480, “Distinguishing Liabilities from Equity”, and Subtopic 815, “Derivatives and Hedging”. The amendments in this accounting standard change the classification analysis of certain equity-linked financial instruments (or embedded features) with down round features and recharacterize the indefinite deferral of certain provisions of Topic 480 to a scope exception. The amendments in this accounting standard are effective for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. Early adoption of the amendments in this standard is permitted. Management is currently evaluating the impact that this standard may have on our consolidated financial statements.

 

In August 2017, the FASB issued an accounting standard classified under FASB ASC Topic 815, “Derivatives and Hedging”.  This accounting standard states specific limitations in current GAAP by expanding hedge accounting for both nonfinancial and financial risk components and by refining the measurement of hedge results to better reflect an entity’s hedging strategies. The amendments in this accounting standard are effective for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. Early adoption of the amendments in this standard is permitted. Management is currently evaluating the impact that this standard may have on our consolidated financial statements.

 

 

 

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RAIT Financial Trust

Notes to Consolidated Financial Statements

As of June 30, 2018

(Unaudited and dollars in thousands, except share and per share amounts)

 

 

NOTE 3: INVESTMENTS IN COMMERCIAL MORTGAGE LOANS, MEZZANINE LOANS AND PREFERRED EQUITY INTERESTS

 

Loans Held for Investment

 

The following table summarizes our investments in commercial mortgage loans, mezzanine loans and preferred equity interests held for investment as of June 30, 2018:

 

The following table summarizes our investments in commercial mortgage loans, mezzanine loans and preferred equity interests held for investment as of December 31, 2017:

 

 

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RAIT Financial Trust

Notes to Consolidated Financial Statements

As of June 30, 2018

(Unaudited and dollars in thousands, except share and per share amounts)

 

A loan is placed on non-accrual status if it is delinquent for 90 days or more or if there is uncertainty over full collection of principal and interest, which generally includes our impaired loans that have reserves. The following table summarizes the delinquency statistics of our commercial real estate loans held for investment as of June 30, 2018 and December 31, 2017:

 

    

(1)      Includes five loans that were current in accordance with their terms, but are on non-accrual due to uncertainty over whether we will fully collect principal and interest, and two loans that are 90 days or more past due in accordance with their terms.

 

As of June 30, 2018 and December 31, 2017, all of our commercial mortgage loans, mezzanine loans and preferred equity interests that were 90 days or more past due or in foreclosure were on non-accrual status.  It is noted that as of June 30, 2018, $96,104 of our loans are cash flow loans, which provide for the accrual of interest at specified rates which differ from current payment terms, and in some cases, do not require current payments. See Note 2: Summary of Significant Accounting Policies, (j) Revenue Recognition, for further discussion of our cash flow loans. As of June 30, 2018 and December 31, 2017, $92,647 and $98,603, respectively, of our commercial real estate loans were on non-accrual status and had a weighted-average interest rate of 6.7% and 6.1%, respectively. Also, as of June 30, 2018 and December 31, 2017, three loans with unpaid principal balances of $20,620 and $20,624, respectively, and weighted average interest rate of 12.9% were not recognizing interest based on the estimated value of the underlying collateral. Additionally, as of June 30, 2018, one loan, with the unpaid principal balance of $7,948, which had previously been restructured in a troubled debt restricting, or TDR, did not accrue interest in accordance with its restructured terms.

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RAIT Financial Trust

Notes to Consolidated Financial Statements

As of June 30, 2018

(Unaudited and dollars in thousands, except share and per share amounts)

 

 

Allowance For Loan Losses And Impaired Loans

 

During the three and six months ended June 30, 2018, we recognized provision for loan losses of $14,748 and $22,780.  Our provision for loan losses during the three and six months ended June 30, 2018 was primarily driven by two  and five loans, respectively, where the borrower and/or property experienced an unfavorable event or events during the period, which resulted in probable, incurred losses and credit related impairments recognized on the loans transferred to loans held for sale that are further discussed below.

 

We closely monitor our loans, which require evaluation for loan loss in two categories: satisfactory and watchlist. Loans classified as satisfactory are loans that are performing consistent with our expectations. Loans classified as watchlist are generally loans that have performed below our expectations, have credit weaknesses or in which the credit quality of the collateral has deteriorated. This is determined by evaluating quantitative factors including debt service coverage ratios, net operating income of the underlying collateral and qualitative factors such as current performance of the underlying collateral. We have classified our loans held for investment by credit risk category as of June 30, 2018 and December 31, 2017 as follows:

 

 

 

The following tables provide a roll-forward of our allowance for loan losses for our commercial mortgage loans, mezzanine loans and preferred equity interests held for investment for the three months ended June 30, 2018 and 2017:

 

 

 

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RAIT Financial Trust

Notes to Consolidated Financial Statements

As of June 30, 2018

(Unaudited and dollars in thousands, except share and per share amounts)

 

 

The following tables provide a roll-forward of our allowance for loan losses for our commercial mortgage loans, mezzanine loans and preferred equity interests held for investment for the six months ended June 30, 2018 and 2017:

 

 

 

Information on those loans considered to be impaired as of June 30, 2018 and December 31, 2017 was as follows:

 

 

 

The average unpaid principal balance and recorded investment of total impaired loans was $125,871 and $151,807 during the three months ended June 30, 2018 and 2017, respectively and $126,074 and $152,007 for the six months ended June 30, 2018 and 2017, respectively. We recorded interest income from impaired loans of $313 and $124 for the three months ended June 30, 2018 and 2017, respectively. We recorded interest income from impaired loans of $440 and $344 for the six months ended June 30, 2018 and 2017, respectively.

 

We have evaluated modifications to our commercial real estate loans to determine if the modification constitutes a troubled debt restructuring, or TDR, under FASB ASC Topic 310, “Receivables”. During the three and six months ended June 30, 2018, we determined that restructuring of one commercial real estate loan with an unpaid principal balance totaling $7,948 constituted a TDR as the interest payment rate was decreased to zero percent and the maturity date was extended. During the six months ended June 30, 2017, there were no restructurings of our commercial real estate loans that constituted a TDR.  During the six months ended June 30,

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RAIT Financial Trust

Notes to Consolidated Financial Statements

As of June 30, 2018

(Unaudited and dollars in thousands, except share and per share amounts)

 

2018, and June 30, 2017, there were no TDRs that subsequently defaulted for restructurings that had been entered into within the previous 12 months.

 

Loans Held for Sale

 

In February 2018, we began to pursue a sale of certain loans. In March 2018, we sold these loans, which had unpaid principal balance of $90,260 and received proceeds of $43,384 after repayment of $45,850 of secured warehouse facility debt and $349 of interest. We recognized a loss of $930 on these loans.

 

During March 2018, we transferred nine additional loans to held for sale as we had the intention and ability to sell these loans. The transfer was made at the lower of cost or fair value for each respective loan. During the three months ended June 30, 2018, six of these loans were sold or repaid, resulting in a net loss of $3,280.  The three remaining loans held for sale loans were measured at the lower of cost or fair value, resulting in a loss of $819 for three months ended June 30, 2018. As of June 30, 2018 these loans had an unpaid principal balance of $7,017 and a carrying amount of $6,198.

 

In May 2018, we began to pursue a sale of one additional loan. In June 2018, we sold this loan, which had unpaid principal balance of $13,000 and received proceeds of $11,577. We recognized a provision for loan loss of $1,423 on the transfer of this loan to loans held for sale.

        

 

 

NOTE 4: INVESTMENTS IN REAL ESTATE

 

The table below summarizes our investments in real estate:

 

As of June 30, 2018, our investments in real estate were comprised of land of $57,643 and buildings and improvements of $133,206. As of December 31, 2017, our investments in real estate were comprised of land of $73,003 and buildings and improvements of $201,669.

 

As of June 30, 2018, our investments in real estate of $190,849 were financed through $41,082 of mortgage loans or other debt held by third parties and $266,407 of mortgage loans held directly by RAIT or through our RAIT I and RAIT II CDO securitizations. As of December 31, 2017, our investments in real estate of $274,672 were financed through $62,297 of mortgage loans or other debt held by third parties and $298,050 of mortgage loans held directly by RAIT or through our RAIT I and RAIT II CDO securitizations. Together, along with commercial real estate loans held by RAIT I and RAIT II, these mortgage loans serve as collateral for the CDO notes payable issued by the RAIT I and RAIT II CDO securitizations. All intercompany balances and interest charges are eliminated in consolidation.

 

Property Sales:

 

During the six months ended June 30, 2018, we disposed of one office property. We also recognized $6 of losses on sales related to properties sold in the prior year, as we settled remaining amounts with third parties subsequent to the sale date. The below

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RAIT Financial Trust

Notes to Consolidated Financial Statements

As of June 30, 2018

(Unaudited and dollars in thousands, except share and per share amounts)

 

table summarizes the current year dispositions recorded at sale and also presents each property’s contribution to net income (loss) allocable to common shares, excluding the impact of the gain (loss) on sale:

 

In August 2018, we disposed of one office property and one retail property in a single transaction for a sales price of $30,000. We do not expect to recognize a significant gain or loss on the sale of this asset.

 

Impairment:

 

During the three and six months ended June 30, 2018, we recognized impairment charges related to certain real estate assets of $21,625 and $30,816, respectively, as it was more likely than not that we would dispose of the assets before the end of their previously estimated useful lives and a portion of our recorded investment in these assets was determined to not be recoverable.

 

During the three months ended June 30, 2018, due to the current conditions affecting one of our retail properties in its local market as well as our current efforts to increase our liquidity, we accepted a letter of intent to purchase this property which resulted in an impairment charge of $17,522.  During the three months ended June 30, 2018, we began to market two other retail real estate assets for sale.  We recognized $3,440 of impairment charges on these assets based on letters of intent to purchase these properties. During the three months ended June 30, 2018, we also recognized $662 of impairment charges related to another asset based on the status of negotiations for the sale of the asset.

 

During the six months ended June 30, 2018, we recognized additional impairment charges on two of our real estate assets of $9,191.  We recognized an impairment charge of $5,593 on one of the assets based on the status of negotiations for the sale of the asset.  The impairment charge of $3,598 on the other asset was driven by a default on the asset’s associated ground lease.

 

See Note 7: Fair Value of Financial Instruments for further information regarding our non-recurring fair value measurements.

 

Other Dispositions:

 

During the six months ended June 30, 2017, we incurred a non-cash loss on deconsolidation of properties of $15,947 relating to an industrial real estate portfolio containing ten properties with carrying value of $82,501 of investments in real estate and $81,941 of related cross-collateralized non-recourse debt as of December 31, 2016. During the six months ended June 30, 2017, the senior lender foreclosed on the mortgage liens encumbering five of these industrial properties and disposed of the properties through auction processes.  These five properties, including other assets, net of related liabilities, had an aggregate carrying value of $43,414. Upon foreclosure, we derecognized these net assets and extinguished related debt of $27,467 based on the proceeds received by the senior lender at the auctions. The difference between the net carrying value and the debt extinguished resulted in the non-cash loss noted above as full release of the remaining cross-collateralized non-recourse debt had not yet been received. The remaining five of these industrial properties had a carrying value of $38,516 of investments in real estate and $54,475 of related cross-collateralized non-recourse debt as of June 30, 2017. During the remainder of 2017, the remaining properties within this portfolio were foreclosed upon and, as a result, there were no assets or liabilities related to this portfolio on our balance sheet as of December 31, 2017.

 

 

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RAIT Financial Trust

Notes to Consolidated Financial Statements

As of June 30, 2018

(Unaudited and dollars in thousands, except share and per share amounts)

 

NOTE 5: INDEBTEDNESS

 

We maintain various forms of short-term and long-term financing arrangements. Generally, these financing agreements are collateralized by assets within securitizations.

 

The following table summarizes our total recourse and non-recourse indebtedness as of June 30, 2018:

 

 

      

 

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RAIT Financial Trust

Notes to Consolidated Financial Statements

As of June 30, 2018

(Unaudited and dollars in thousands, except share and per share amounts)

 

The following table summarizes our total recourse and non-recourse indebtedness as of December 31, 2017:

 

 

Recourse indebtedness refers to indebtedness that is recourse to our general assets, including the loans payable on real estate that are guaranteed by us. Non-recourse indebtedness consists of indebtedness of consolidated securitizations and loans payable on real estate which is recourse only to specific assets pledged as collateral to the lenders. The creditors of each consolidated securitization have no recourse to our general credit.

 

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RAIT Financial Trust

Notes to Consolidated Financial Statements

As of June 30, 2018

(Unaudited and dollars in thousands, except share and per share amounts)

 

The current status or activity in our financing arrangements occurring as of or during the six months ended June 30, 2018 is as follows:

 

Recourse Indebtedness

 

7.0% convertible senior notes. The 7.0% convertible senior notes are convertible at the option of the holder at a current conversion rate of 206.0859 common shares per $1 principal amount of 7.0% convertible senior notes (equivalent to a current conversion price of $4.85 per common share). As of June 30, 2018, $871 of the 7.0% convertible notes remain outstanding.  The 7.0% convertible senior notes are redeemable at par, at the option of the holder, in April 2021, and April 2026. During the six months ended June 30, 2018, there was no activity other than recurring interest during the current period. These notes do not contain financial covenants.

 

4.0% convertible senior notes. The 4.0% convertible senior notes are convertible at the option of the holder at a current conversion rate of 108.5803 common shares per $1 principal amount of 4.0% convertible senior notes (equivalent to a current conversion price of $9.21 per common share). The 4.0% convertible senior notes are redeemable at par, at the option of the holder, in October 2018, October 2023, and October 2028. These notes do not contain financial covenants.

 

During the three months ended March 31, 2018, we repurchased $6,000 in principal amount of the 4.0% convertible senior notes for $5,708. During the three months ended June 30, 2018, we repurchased $36,291 in principal amount of the 4% convertible senior notes for $35,319. As of June 30, 2018, $68,222 of the 4.0% convertible senior notes remain outstanding.

 

    

 

    

7.625% senior notes.  During the six months ended June 30, 2018, there was no activity other than recurring interest. As of June 30, 2018, $56,324 of the 7.625% senior notes remain outstanding. These notes contain financial covenants that are applicable upon the incurrence of debt as defined in the notes’ related indenture including a maximum leverage ratio covenant and a minimum fixed charge ratio covenant. We did not incur debt, as defined in this indenture, during the three months ended June 30, 2018. As of March 31, 2018, the leverage ratio, calculated in accordance with the indenture, was 74.6% as compared to a maximum leverage ratio not to exceed 80%, and for the preceding four quarters, the fixed charge coverage ratio, calculated in accordance with the indenture, was 1.34x as compared to a minimum fixed charge coverage ratio of no less than 1.20x.

 

7.125% senior notes.  During the six months ended June 30, 2018, there was no activity other than recurring interest. As of June 30, 2018, $68,408 of the 7.125% senior notes remain outstanding. These notes contain financial covenants that are applicable upon the incurrence of debt as defined in the notes’ related indenture including a maximum leverage ratio covenant and a minimum fixed charge ratio covenant. We did not incur debt, as defined in this indenture, during the three months ended June 30, 2018.  As of March 31, 2018, the leverage ratio, calculated in accordance with the indenture, was 74.6% as compared to a maximum leverage ratio not to exceed 80%, and for the preceding four quarters, the fixed charge coverage ratio, calculated in accordance with the indenture, was 1.34x as compared to a minimum fixed charge coverage ratio of no less than 1.20x.

 

Senior secured notes. During the six months ended June 30, 2018, we repaid $2,000 of the senior secured notes. These notes do not contain financial covenants.

 

Junior subordinated notes, at fair value. At issuance, we elected to record the $18,671 junior subordinated notes at fair value under FASB ASC Topic 825, with all subsequent changes in fair value recorded in earnings. As of June 30, 2018, the fair value, or carrying amount, of this indebtedness was $5,111. These notes do not contain financial covenants.

 

Junior subordinated notes, at amortized cost.  During the six months ended June 30, 2018, there was no activity other than recurring interest. These notes do not contain financial covenants.

 

Secured warehouse facilities. As of June 30, 2018, we had $0 of outstanding secured warehouse borrowings and $0 of outstanding commercial mortgage borrowings under the amended and restated master repurchase agreement, or the Amended MRA.  The Amended MRA had a capacity of $150,000 with a limit of $100,000 for floating rate loans. This facility was not renewed after its maturity in July 2018 and it has terminated.

 

 

 

 As of June 30, 2018, we had $0 of outstanding borrowings under the $75,000 commercial mortgage facility. This facility was not renewed after its June 2018 maturity and it has terminated.   

26

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RAIT Financial Trust

Notes to Consolidated Financial Statements

As of June 30, 2018

(Unaudited and dollars in thousands, except share and per share amounts)

 

 

As of June 30, 2018, we had $0 of outstanding borrowings under the $150,000 commercial mortgage facility. This facility was not renewed after its June 2018 maturity and it has terminated.   

 

Non-Recourse Indebtedness

 

CDO notes payable, at amortized cost. CDO notes payable at amortized cost represent notes issued by consolidated CDO securitizations which are used to finance the acquisition of unsecured REIT notes, CMBS securities, commercial mortgage loans and mezzanine loans in our commercial real estate portfolio. Generally, CDO notes payable are comprised of various classes of notes payable, with each class bearing interest at variable or fixed rates. Both RAIT I and RAIT II are meeting all of their over collateralization, or OC, and interest coverage, or IC, trigger tests as of June 30, 2018.

 

CMBS securitizations

 

On June 27, 2018, RAIT IV, a subsidiary of RAIT, completed the sale of its FL5 Interests and FL6 Interests to Melody RE II, LLC. As a result of the sale, we determined that RAIT is no longer the primary beneficiary of the RAIT Venture VIEs, FL5 or FL6 (each as defined in Note 8: Variable Interest Entities). Therefore, we deconsolidated those entities as of June 27, 2018. See Note 8: Variable Interest Entities for more information regarding this transaction.

     

As of June 30, 2018, our subsidiary, RAIT 2017-FL7 Trust, or RAIT FL7, had $340,738 of total collateral at par value, none of which was defaulted. As of June 30, 2018, RAIT FL7 had classes of investment grade senior notes with an aggregate principal balance outstanding of approximately $275,259 to investors. We currently own the unrated classes of junior notes, including a class with an aggregate principal balance of $65,479, and the equity, or the retained interests, of RAIT FL7. RAIT FL7 does not have OC triggers or IC triggers.  

 

As of June 30, 2018, our subsidiary, RAIT 2017-FL8 Trust, or RAIT FL8, had $228,122 of total collateral at par value, none of which was defaulted. As of June 30, 2018, RAIT FL8 had classes of investment grade senior notes with an aggregate principal balance outstanding of approximately $183,960 to investors. We currently own the unrated classes of junior notes, including a class with an aggregate principal balance of $44,162, and the equity, or the retained interests, of RAIT FL8. RAIT FL8 does not have OC triggers or IC triggers.  

 

The junior notes that we have retained in our CMBS securitizations include the class of junior notes that is subject to the first dollar of loss.

 

Loans payable on real estate

 

As of June 30, 2018 and December 31, 2017, we had $41,082 and $62,297, respectively, of other indebtedness outstanding relating to loans payable on consolidated real estate. These loans are secured by specific consolidated real estate assets included in our consolidated balance sheets.

 

Maturity of Indebtedness

 

Generally, the majority of our indebtedness is payable in full upon the maturity or termination date of the underlying indebtedness. The following table displays the aggregate contractual maturities of our indebtedness on or before December 31 by year:

 

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RAIT Financial Trust

Notes to Consolidated Financial Statements

As of June 30, 2018

(Unaudited and dollars in thousands, except share and per share amounts)

 

 

NOTE 6: DERIVATIVE FINANCIAL INSTRUMENTS

 

We may use derivative financial instruments to hedge all or a portion of the interest rate risk associated with our borrowings or fixed rate assets. The principal objective of such arrangements is to minimize the risks and/or costs associated with our operating and financial structure as well as to hedge specific anticipated transactions.  While these instruments may impact our periodic cash flows, they benefit us by minimizing the risks and/or costs previously described.  The counterparties to these contractual arrangements are major financial institutions with which we and our affiliates may also have other financial relationships. In the event of nonperformance by the counterparties, we are potentially exposed to credit loss. However, because of the high credit ratings of the counterparties, we do not anticipate that any of the counterparties will fail to meet their obligations.

 

Interest Rate Derivatives

 

We have historically entered into various interest rate swap contracts to hedge interest rate exposure on floating rate indebtedness.

 

We designate interest rate hedge agreements at inception and determine whether or not the interest rate hedge agreement is highly effective in offsetting interest rate fluctuations associated with the identified indebtedness. We use regression analysis to assess the effectiveness of our hedging relationship and use the hypothetical derivative method to measure any ineffectiveness at each reporting period. As of June 30, 2018, all of our cash flow hedge interest rate swaps had reached maturity. As of June 30, 2018, no new cash flow hedge interest rate swaps have been entered into.

 

The following table summarizes the aggregate notional amount and estimated net fair value of our derivative instruments as of June 30, 2018 and December 31, 2017:

 

 

Changes in fair value on our other interest rate derivatives are reported in change in fair value of financial instruments in the Consolidated Statements of Operations.  

 

 

NOTE 7: FAIR VALUE OF FINANCIAL INSTRUMENTS

 

Fair Value of Financial Instruments

 

FASB ASC Topic 825, “Financial Instruments” requires disclosure of the fair value of financial instruments for which it is practicable to estimate that value. The fair value of investments in mortgage loans, mezzanine loans, preferred equity interests, CDO notes payable, convertible senior notes, junior subordinated notes, warrants and investor share appreciation rights, or SARs, and derivative assets and liabilities is based on significant observable and unobservable inputs. The fair value of cash and cash equivalents, restricted cash, CMBS facilities, and other indebtedness approximates their carrying amount or unpaid principal balance due to the nature of these instruments.

 

Fair Value of Investment in Mortgage Loans, Held for Investment

The fair value of mortgage loans held for investment is determined using an exit price notion. Prior to adopting the January 2016 amendment to FASB ASC Topic 825, we measured the fair value of mortgage loans held for investment under an entry price

28

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RAIT Financial Trust

Notes to Consolidated Financial Statements

As of June 30, 2018

(Unaudited and dollars in thousands, except share and per share amounts)

 

notion. The entry price notion previously applied used a discounted cash flows technique to calculate the present value of expected future cash flows for a financial instrument. The exit price notion uses the same approach, but also incorporates other factors, such as enhanced credit risk, illiquidity risk, and market factors. We determined the fair value on substantially all of our loans for disclosure purposes, on an individual loan basis. The discount rates reflect current market rates for loans with similar terms to borrowers having similar credit quality on an exit price basis.

 

The following table summarizes the carrying amount and the fair value of our financial instruments as of June 30, 2018:

 

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RAIT Financial Trust

Notes to Consolidated Financial Statements

As of June 30, 2018

(Unaudited and dollars in thousands, except share and per share amounts)

 

 

The following table summarizes the carrying amount and the fair value of our financial instruments as of December 31, 2017:

 

 

Fair Value Measurements

 

The following table summarizes information about our liabilities measured at fair value on a recurring basis as of June 30, 2018, and indicate the fair value hierarchy of the valuation techniques utilized to determine such fair value:

 

 

 

The following tables summarize information about our assets and liabilities measured at fair value on a recurring basis as of December 31, 2017, and indicate the fair value hierarchy of the valuation techniques utilized to determine such fair value:

 

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RAIT Financial Trust

Notes to Consolidated Financial Statements

As of June 30, 2018

(Unaudited and dollars in thousands, except share and per share amounts)

 

 

When estimating the fair value of our Level 3 financial instruments, management uses various observable and unobservable inputs. These inputs include yields, credit spreads, duration, effective dollar prices and overall market conditions on not only the exact financial instrument for which management is estimating the fair value, but also financial instruments that are similar or issued by the same issuer when such inputs are unavailable. Generally, an increase in the yields, credit spreads or estimated duration will decrease the fair value of our financial instruments. Due to the inherent uncertainty of determining the fair value of investments that do not have a readily available market value, the fair value, as determined by management, may fluctuate from period to period and any ultimate liquidation or sale of the investment may result in proceeds that may be significantly different than fair value. For the fair value of our junior subordinated notes, at fair value, we estimate the fair value of these financial instruments using significant unobservable inputs. For the junior subordinated notes, at fair value, we use a discounted cash flow model as the valuation technique and the significant unobservable inputs as of June 30, 2018 include discount rates ranging from 30.61% to 30.68% and as of December 31, 2017 include discount rates ranging from 18.01% to 18.21%. The gains attributable to changes in instrument-specific credit risk were determined by discounting the future cash flows of the notes at base market interest rates and subtracting this amount from the total fair value of the instrument.

 

The following table summarizes additional information about assets and liabilities that are measured at fair value on a recurring basis for which we have utilized level 3 inputs to determine fair value for the six months ended June 30, 2018: 

 

The following table summarizes additional information about assets and liabilities that are measured at fair value on a recurring basis for which we have utilized level 3 inputs to determine fair value for the three months ended June 30, 2018:

 

Non-Recurring Fair Value Measurements

 

As of June 30, 2018, we measured one of our real estate assets at a fair value of $28,440 in our consolidated balance sheets as it was impaired.  The fair value was based on an executed purchase and sale agreement to sell the real estate asset and was classified within Level 2 of the fair value hierarchy.  The significant input was the purchase price derived by the potential buyer.

 

As of June 30, 2018, we measured three of our real estate assets at a fair value of $55,650 in our consolidated balance sheets as they were impaired.  The fair values were based on executed letters of intent to sell the real estate assets and was classified within Level 2 of the fair value hierarchy.  The significant input was the purchase price derived by the potential buyer.

 

Our other non-recurring fair value measurements relate primarily to our commercial real estate loans that are considered impaired. In evaluating our impaired loans, we estimate the fair value of the underlying collateral of the respective commercial real

31

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RAIT Financial Trust

Notes to Consolidated Financial Statements

As of June 30, 2018

(Unaudited and dollars in thousands, except share and per share amounts)

 

estate loan and compare that fair value to our total investment in the loan. When estimating the fair value of the underlying collateral of the commercial real estate loan, management uses discounted cash flow analyses and/or direct capitalization valuation analyses. The significant inputs to these valuations are capitalization rates and discount rates and are based on market information and comparable sales of similar properties.  As of June 30, 2018, we measured the underlying collateral of eleven of our loans at a fair value of $111,867 in our consolidated balance sheet as they were impaired.

 

Fair Value of Financial Instruments

 

The following tables summarize the valuation technique and the level of the fair value hierarchy for financial instruments that are not fair valued in the accompanying consolidated balance sheets but for which fair value is required to be disclosed. The fair value of cash and cash equivalents, restricted cash, secured warehouse facilities, commercial mortgage facilities and other indebtedness approximates cost due to the nature of these instruments and are not included in the tables below.

 

 

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RAIT Financial Trust

Notes to Consolidated Financial Statements

As of June 30, 2018

(Unaudited and dollars in thousands, except share and per share amounts)

 

 

The following table summarizes realized and unrealized gains and losses on assets and liabilities for which we elected the fair value option of FASB ASC Topic 825, “Financial Instruments” and derivatives as reported in change in fair value of financial instruments in the accompanying consolidated statements of operations:

 

 

The changes in the fair value for the junior subordinated notes for which the fair value option was elected for the three and six months ended June 30, 2018 and 2017 was primarily attributable to changes in base market interest rates. The changes in the fair value of derivatives for the three and six months ended June 30, 2018 and 2017 was primarily attributable to changes in interest rates. The changes in fair value of the warrants and investor SARs for the three and six months ended June 30, 2017 was primarily attributable to changes in the reference stock price and volatility.

 

 

NOTE 8: VARIABLE INTEREST ENTITIES

 

The determination of when to consolidate a VIE is based on the power to direct the activities of the VIE that most significantly impact the VIE’s economic performance together with either the obligation to absorb losses or the right to receive benefits that could be significant to the VIE. We evaluated our investments and determined that, as of June 30, 2018, our consolidated VIEs were: RAIT I, RAIT II, RAIT FL7, RAIT FL8, and the RAIT VIE Properties (Willow Grove and Cherry Hill).  As of December 31, 2017, our consolidated VIEs included the aforementioned VIEs and the two ventures described in Note 5: Indebtedness (RAIT Venture VIEs).

 

We consolidate the securitizations that we sponsor for which we have retained interests in and control the significant decisions regarding the collateral in these entities, such as the approval of loan workouts.  As of June 30, 2018, we consolidated the VIE properties as we own a majority of these entities and control the significant capital and operating decisions regarding the properties. 

 

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RAIT Financial Trust

Notes to Consolidated Financial Statements

As of June 30, 2018

(Unaudited and dollars in thousands, except share and per share amounts)

 

The following tables present the assets and liabilities of our consolidated VIEs as of each respective date. Certain amounts included in the tables below are eliminated upon consolidation with our other subsidiaries that maintain investments in the debt or equity securities issued by these entities.

 

 

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RAIT Financial Trust

Notes to Consolidated Financial Statements

As of June 30, 2018

(Unaudited and dollars in thousands, except share and per share amounts)

 

 

The assets of the VIEs can only be used to settle obligations of the VIEs and are not available to our creditors. The amounts that eliminate in consolidation include $228,250 of total investments in mortgage loans and $282,614 of indebtedness as of June 30, 2018 and $257,625 of total investments in mortgage loans and $370,351 of indebtedness as of December 31, 2017. We do not have any contractual obligation to provide the VIEs listed above with any financial support. We have not and do not intend to provide financial support to these VIEs that we were not previously contractually required to provide.

 

Deconsolidation of RAIT Venture VIEs and RAIT FL5 & RAIT FL6

 

On June 27, 2018, RAIT IV completed the sale of its FL5 Interests, as defined below, and FL6 Interests, as defined below (collectively, the Interests), to Melody RE II, LLC, or the Purchaser, for an aggregate purchase price of $54,632.

 

Prior to the sale, RAIT IV was the holder of:

 

35

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RAIT Financial Trust

Notes to Consolidated Financial Statements

As of June 30, 2018

(Unaudited and dollars in thousands, except share and per share amounts)

 

 

Holdings 2016 and Holdings 2017, have been referred to as the RAIT Venture VIEs.  As a result of the sale, RAIT is no longer the primary beneficiary of the RAIT Venture VIEs, FL5 or FL6.  Therefore, RAIT deconsolidated those entities as of June 27, 2018.

 

The following table summarizes the effects of deconsolidating the RAIT Venture VIEs, RAIT FL5 and RAIT FL6 from our balance sheet as of June 27, 2018:

 

 

 

 

NOTE 9: SERIES D PREFERRED SHARES

 

On October 1, 2012, we entered into a Securities Purchase Agreement, or the purchase agreement, with ARS VI Investor I, LLC, or the Investor, an affiliate of Almanac Realty Investors, LLC, or Almanac. During the period from the effective date of the purchase agreement through March 2014, we sold to the Investor on a private placement basis in four separate sales for an aggregate purchase price of $100,000, or the total commitment, the following securities: (i) 4,000,000 of our Series D Cumulative Redeemable Preferred Shares of Beneficial Interest, par value $0.01 per share, or the Series D preferred shares, (ii) common share purchase warrants, or the warrants, exercisable for 9,931,000 of our common shares, or the common shares (which had subsequently adjusted to 11,035,875 shares), and (iii) common share appreciation rights, or the Investor SARs, with respect to up to 6,735,667 common shares (which had subsequently adjusted to 7,485,045 shares).  

 

All transactions involving the issuance, repurchase, redemption and/or exchange of the Series D preferred shares discussed herein also involved the corresponding preferred units of RAIT IV, and with respect to the redemption on June 27, 2018 in connection with the below referenced Redemption and Exchange Agreement, resulted from the redemption of the linked preferred units of RAIT IV.

36

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RAIT Financial Trust

Notes to Consolidated Financial Statements

As of June 30, 2018

(Unaudited and dollars in thousands, except share and per share amounts)

 

 

In September 2015, we amended the purchase agreement with Almanac related to the Series D preferred shares.  This amendment changed two of the covenants therein.  As consideration for this amendment, we paid the Investor $450. We accounted for this amendment as a modification of the Series D preferred shares.

 

On December 7, 2016, we entered into a securities repurchase agreement with the Investor pursuant to which we repurchased and cancelled 464,000 Series D preferred shares at par for a purchase price of $11,600 which resulted in a decrease from 4,000,000 Series D preferred shares issued and outstanding to 3,536,000 Series D preferred shares issued and outstanding.

 

On June 22, 2017, we entered into a securities repurchase agreement with the Investor pursuant to which we repurchased and cancelled 402,280 Series D preferred shares at par for a purchase price of $10,057 which resulted in a decrease from 3,536,000 Series D preferred shares issued and outstanding to 3,133,720 Series D preferred shares issued and outstanding.

 

On March 19, 2018, we redeemed and cancelled 194,530 Series D preferred shares at par for a purchase price of $4,863 which resulted in a decrease from 3,133,720 Series D preferred shares issued and outstanding to 2,939,190 Series D preferred shares issued and outstanding.

 

As discussed in Note 1: The Company, on June 27, 2018, we entered into a Redemption and Exchange Agreement with the Investor whereby we redeemed and cancelled the remaining 2,939,190 preferred units of RAIT IV and RAIT’s corresponding Series D preferred shares for $56,765 of cash using the proceeds from the sale of RAIT IV’s FL5 Interests and FL6 Interests and defined available cash held by RAIT IV and $16,715 of liquidation preference of RAIT’s publicly traded Series A preferred shares, Series B preferred shares and Series C preferred shares.  Accordingly, the Investor received 383,147 of RAIT’s Series A preferred shares, 167,828 of RAIT’s Series B preferred shares, and 117,605 of RAIT’s Series C preferred shares.  In addition, RAIT paid the Investor an exchange fee of $418.  The Redemption and Exchange Agreement also provided for the termination of the Securities Purchase Agreement and mutual releases between RAIT and the Investor of the previously reported dispute between the two parties.

 

This transaction is accounted for as an extinguishment of Series D preferred shares of RAIT and issuance of Series A, Series B and Series C preferred shares, in each case, of RAIT.  Accordingly, the difference between the fair value of the consideration transferred to the Investor (i.e., cash and RAIT’s Series A, Series B and Series C preferred shares) and the carrying amount of the Series D preferred shares that were redeemed and exchanged represents a return from the Investor.  The following table summarizes the transaction:

 

 

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RAIT Financial Trust

Notes to Consolidated Financial Statements

As of June 30, 2018

(Unaudited and dollars in thousands, except share and per share amounts)

 

 

On October 11, 2017, we received a put right notice from the Investor exercising the Investor’s right to require us to purchase for $20,500 all the previous warrants and Investor SARs.  On October 17, 2017, RAIT purchased all of the warrants and Investor SARs.  As a result, RAIT had no further obligations beyond October 17, 2017 relating to the warrants and Investor SARs and none remain outstanding, respectively, as of that date.

 

 

 

NOTE 10: SHAREHOLDERS’ EQUITY

 

Preferred Shares

 

Dividends:

 

RAIT’s Board determined that it would suspend the dividend on RAIT’s outstanding preferred shares on June 12, 2018. The Board considers dividends on a quarterly basis.

 

The following table summarizes the dividends we declared and paid on the preferred shares for the six months ended June 30, 2018:

 

On March 19, 2018, we redeemed and cancelled 194,530 Series D preferred shares. The Series D Preferred Shares had a $1,665 total dividend declared on March 13, 2018 with a record date of March 23, 2018 which included a $103 payment on March 19, 2018 and a $1,562 payment on March 30, 2018.

As discussed in Note 9: Series D Preferred Shares, on June 27, 2018, we redeemed and cancelled the remaining 2,939,190 preferred units of RAIT IV and RAIT’s corresponding Series D preferred shares for $56,765 of cash using the proceeds from the sale of RAIT IV’s FL5 Interests and FL6 Interests and defined available cash held by RAIT IV and $16,715 of liquidation preference of RAIT’s publicly traded Series A preferred shares, Series B preferred shares, and Series C preferred shares (383,147 of Series A preferred shares, 167,828 of Series B preferred shares and 117,605 of Series C preferred shares).  Upon issuance, the Series A

38

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RAIT Financial Trust

Notes to Consolidated Financial Statements

As of June 30, 2018

(Unaudited and dollars in thousands, except share and per share amounts)

 

preferred shares had a fair value of $2,498, the Series B preferred shares had a fair value of $1,091 and the Series C preferred shares had a fair value of $776, based on the closing prices of the respective shares on June 27, 2018.

In the second quarter of 2018, the Board elected not to declare a dividend on RAIT’s Series A, B and C preferred shares. As of June 30, 2018, $5,063 of dividends on these shares were unpaid and in arrears. These dividends in arrears are included in (income) loss allocated to preferred shares on our consolidated statements of operations since they represent a claim on earnings superior to common shareholders, but have not been accrued as a liability since they have not been declared.

At Market Issuance Sales Agreement (ATM):

 

On June 13, 2014, we entered into an At Market Issuance Sales Agreement, or the 2014 Preferred ATM agreement, with MLV & Co. LLC, or MLV, providing that, from time to time during the term of the 2014 Preferred ATM agreement, on the terms and subject to the conditions set forth therein, we may issue and sell through MLV up to $150,000 aggregate amount of preferred shares.

With respect to each series of preferred shares, the maximum amount issuable is as follows: 4,000,000 Series A Preferred Shares, 1,000,000 Series B Preferred Shares, and 1,000,000 Series C Preferred Shares. Unless the 2014 Preferred ATM agreement is earlier terminated by MLV or us, the 2014 Preferred ATM agreement automatically terminates upon the issuance and sale of all of the Series A Preferred Shares, Series B Preferred Shares, and Series C Preferred Shares.

 

As of June 30, 2018, while 2,724,935 Series A Preferred Shares, 947,496 Series B Preferred Shares, and 999,675 Series C Preferred Shares had not been issued under the 2014 Preferred ATM agreement, we would need to register them for sale under the Securities Act of 1933, as amended.

 

Common Shares

 

Dividends:  

 

RAIT’s Board determined that it would suspend the dividend on RAIT’s outstanding common shares on November 1, 2017.  The Board considers dividends on a quarterly basis.

 

During the three and six months ended June 30, 2018, we paid $0 and $105, respectively, of dividends on restricted common share awards that vested in each respective period. These dividends were declared during the vesting period but remained forfeitable prior to vesting and became payable upon vesting in accordance with the terms of these awards.

 

Dividend Reinvestment and Share Purchase Plan (DRSPP):

 

We have a dividend reinvestment and share purchase plan, or DRSPP, under which we registered and reserved for issuance, in the aggregate, 10,500,000 common shares. During the six months ended June 30, 2018, we issued a total of zero common shares. As of June 30, 2018, 7,739,162 common shares, in the aggregate, remain available for issuance under the DRSPP.

 

Capital on Demand™ Sales Agreement (COD):

 

On November 21, 2012, we entered into a Capital on Demand™ Sales Agreement, or the COD sales agreement, with JonesTrading Institutional Services LLC, or JonesTrading, pursuant to which we may issue and sell up to 10,000,000 of our common shares from time to time through JonesTrading acting as agent and/or principal, subject to the terms and conditions of the COD sales agreement. Unless the COD sales agreement is earlier terminated by JonesTrading or us, the COD sales agreement automatically terminates upon the issuance and sale of all of the common shares subject to the COD sales agreement. During the six months ended June 30, 2018, we did not issue any common shares pursuant to this agreement. As of June 30, 2018, while 7,918,919 common shares, in the aggregate, had not been issued under the COD sales agreement, we would need to register them for sale under the Securities Act of 1933, as amended.

 

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RAIT Financial Trust

Notes to Consolidated Financial Statements

As of June 30, 2018

(Unaudited and dollars in thousands, except share and per share amounts)

 

Shareholders’ Equity Attributable to Common Shares:

 

As of June 30, 2018, total shareholders’ equity attributable to common shares was a deficit of $141,699.

 

Non-Controlling Interests

 

RAIT Venture VIEs:

 

During the six months ended June 30, 2018, the 2017 RAIT Venture VIE, which elected to be taxed as a REIT and that was formed in 2017 to hold the junior subordinated notes of FL-6, sold 125 preferred shares of the 2017 RAIT Venture VIE to unaffiliated purchasers.  The price was $1,000 per share and the 2017 RAIT Venture VIE received $76 of net proceeds. During the six months ended June 30, 2018, we distributed $15 to the non-controlling interest holders of the RAIT Venture VIEs. Refer to Note 2: Summary of Significant Accounting Policies, (p) Income Taxes, and Note 5: Indebtedness for further discussion about these entities.

 

On June 27, 2018, RAIT IV, a subsidiary of RAIT, completed the sale of its FL5 Interests and FL6 Interests to Melody RE II, LLC. As a result of the sale, we deconsolidated the RAIT Venture VIEs which resulted in the derecognition of $111 of noncontrolling interests related to the RAIT Venture VIEs. See Note 8: Variable Interest Entities for more information regarding this transaction.

 

Acquisition of noncontrolling interests related to PlazAmericas Mall:

 

On March 16, 2018, we acquired the noncontrolling interests related to PlazAmericas Mall, a retail real estate property, for $343, including transaction costs.  These noncontrolling interests had a carrying amount of $3,582.  As we previously held a controlling financial interest in PlazAmericas Mall, we accounted for the acquisition of the noncontrolling interests as an equity transaction.

 

NOTE 11: EARNINGS (LOSS) PER SHARE

 

The following table presents a reconciliation of basic and diluted earnings (loss) per share for the three and six months ended June 30, 2018 and 2017:

 

For the three and six months ended June 30, 2018, securities convertible into 8,175,121 and 8,353,773 common shares, respectively, were excluded from the earnings (loss) per share computations because their effect would have been anti-dilutive. For the three and six months ended June 30, 2017, securities convertible into 27,290,962 and 27,349,674 common shares, respectively, were excluded from the earnings (loss) per share computations because their effect would have been anti-dilutive.

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RAIT Financial Trust

Notes to Consolidated Financial Statements

As of June 30, 2018

(Unaudited and dollars in thousands, except share and per share amounts)

 

NOTE 12: RELATED PARTY TRANSACTIONS

 

In the ordinary course of our business operations, we have ongoing relationships and have engaged in transactions with the related entities described below. All of these relationships and transactions were approved or ratified by our audit committee as being on terms comparable to those available from an unaffiliated third party or otherwise not creating a conflict of interest.

 

Almanac Realty

 

On June 27, 2018, the purchase agreement that previously provided for Andrew M. Silberstein to serve as a trustee on our board was terminated as part of the Redemption and Exchange Agreement that was entered into with the Investor on June 27, 2018.  As part of the Redemption and Exchange Agreement, Mr. Silberstein resigned as a trustee.  While Mr. Silberstein was a trustee, his trustee fees were paid to the Investor.  Mr. Silberstein is an equity owner of Almanac and an officer of the Investor and holds indirect equity interests in the Investor. The transactions completed pursuant to the purchase agreement are described above in Note 9: Series D Preferred Shares.  Subsequent to June 27, 2018, Almanac Realty is not considered a related party.

 

Ballard Spahr LLP

 

On June 27, 2017, Justin P. Klein was appointed as a trustee on our board.  Mr. Klein is a partner at Ballard Spahr LLP. RAIT has paid Ballard Spahr LLP $52 and $84 during the three and six months ended June 30, 2018. The approximate dollar value of Mr. Klein’s interest in these fees was less than $1 for the six months ended June 30, 2018, based on Mr. Klein’s Ballard partnership interest.

 

Charles Frischer and the Libby Frischer Family Partnership

 

On March 30, 2018, the Libby Frischer Family Partnership, or LFFP, and RAIT signed a letter which provided that RAIT would exempt LFFP from RAIT’s common share ownership limit up to an amount equal to 12.5%. Charles F. Frischer (“Mr. Frischer”) is the general partner of LFFP.

 

On April 6, 2018, RAIT, LFFP and Mr. Frischer entered into a cooperation agreement which sets forth certain transfer restrictions and standstill provisions, among other things, for a period of time. Subsequent to entering into the cooperation agreement, on April 6, 2018, LFFP, and Mr. Frischer and RAIT signed a letter agreement which provided that RAIT would exempt LFFP from RAIT’s common share and preferred share ownership limits up to an amount equal to 15.0% with respect to each class of shares.  

 

On May 11, 2018, RAIT, LFFP and Mr. Frischer entered into a letter agreement which provided that RAIT would exempt LFFP from RAIT’s common share and preferred share ownership limits up to an amount equal to 20.0% with respect to each class of shares.

 

Highland Capital Management, L.P.

 

On May 26, 2017, RAIT entered into a previously disclosed cooperation agreement with Highland Capital Management, L.P. and its affiliates (Highland), which remains in effect.

IRT

 

During 2017, RAIT engaged in transactions with a former related party, Independence Realty Trust, or IRT. RAIT ended its last arrangement with IRT as of December 20, 2017 and does not consider IRT to be a related party after that date. The following are the transactions with IRT for the six months ended June 30, 2017:

 

Pursuant to a shared services agreement, IRT reimbursed RAIT $727 for general and administrative services for the six months ended June 30, 2017.  In addition, during the six months ended June 30, 2017, IRT reimbursed RAIT for $155 of general and administrative items that were paid on IRT’s behalf.

 

Pursuant to property management agreements with IRT with respect to RAIT’s multifamily properties, RAIT paid IRT $212 of property management fees for the six months ended June 30, 2017.  This is reflected within real estate operating expense in our consolidated statements of operations.

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RAIT Financial Trust

Notes to Consolidated Financial Statements

As of June 30, 2018

(Unaudited and dollars in thousands, except share and per share amounts)

 

 

Other

 

On December 20, 2016, Scott F. Schaeffer resigned from his position as Chief Executive Officer of RAIT and became the full-time Chief Executive Officer of IRT.  On the same date, Scott F. Schaeffer entered into a one year consulting agreement with RAIT for which he received compensation of $375.  For the six months ended June 30, 2017, $188 was earned and paid related to this consulting agreement, which is reflected in general and administrative expenses in our consolidated statements of operations. In accordance with the Memorandum of Understanding dated September 26, 2016, which memorialized the terms of Scott F. Schaeffer’s resignation, RAIT granted Scott F. Schaeffer 150,000 unvested shares of common stock on December 23, 2016, and made a $500 cash payment in January 2017.  The shares vested 50% on the six month anniversary and 50% on the one year anniversary of the grant date.

 

In accordance with the Memorandum of Understanding dated September 26, 2016, which memorialized the terms of James J. Sebra’s resignation, he was owed a cash bonus, payable in 2017, equal to 25% of his cash bonus for the year ended December 31, 2016.  As of June 30, 2017, $110 had been accrued as a payable for this cash bonus, which was subsequently paid.

 

NOTE 13: SUPPLEMENTAL DISCLOSURE TO STATEMENT OF CASH FLOWS

 

The following are supplemental disclosures to the statements of cash flows for the six months ended June 30, 2018 and 2017:

 

 

For a discussion of the non-cash changes in indebtedness and investments in real estate, restricted cash, other assets, intangible assets, accounts payable and accrued expenses, and other liabilities that occurred during the six months ended June 30, 2018, see Note 4: Investments in Real Estate and Note 5: Indebtedness.

 

During the six months ended June 30, 2018, we transferred nine loans to held for sale as we had the intention and ability to sell these loans. The transfer was made at the lower of cost or fair value for each respective loan. During the six months ended June 30, 2018, we sold six loans, which had an unpaid principal balance and carrying amount of $31,377. See Note 3: Investment in Commercial Mortgage Loans, Mezzanine Loans, and Preferred Equity Interests for further discussion.

 

During the six months ended June 30, 2018, we acquired the noncontrolling interests related to PlazAmericas Mall for $343, including transaction costs. See Note 10: Shareholders’ Equity for further discussion.

 

During the six months ended June 30, 2018, we redeemed and cancelled the remaining 2,939,190 preferred units of RAIT IV and the corresponding Series D preferred shares for $56,765 of cash and $16,715 of liquidation preference of RAIT’s publicly traded Series A preferred shares, Series B preferred shares and Series C preferred shares. See Note 9: Series D Preferred Shares for further discussion.

 

The following table summarizes our cash and cash equivalents and restricted cash balances as of June 30, 2018 and June 30, 2017:

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RAIT Financial Trust

Notes to Consolidated Financial Statements

As of June 30, 2018

(Unaudited and dollars in thousands, except share and per share amounts)

 

 

NOTE 14: COMMITMENTS AND CONTINGENCIES

 

General

 

We are involved from time to time in litigation on various matters, including disputes with tenants of owned properties, disputes arising out of agreements to purchase or sell properties, disputes arising out of our loan portfolio, negligence, and similar tort claims related to owned properties or employment related disputes. Given the nature of our business activities, these lawsuits are considered routine to the conduct of our business. The result of any particular lawsuit cannot be predicted, because of the very nature of litigation, the litigation process and its adversarial nature, and the jury system. We do not expect that the liabilities, if any, that may ultimately result from such routine legal actions will have a material adverse effect on our consolidated financial position, results of operations or cash flows, except as described below.

 

Employment Related Commitments and Contingencies

 

On February 21, 2018, Scott L.N. Davidson, our former Chief Executive Officer and President, pursuant to his previously disclosed employment agreement with us provided notice to RAIT of his intent to resign from his employment with RAIT for “Good Reason” (as defined in his employment agreement). While RAIT and Mr. Davidson entered into a separation agreement, under which Mr. Davidson’s employment with RAIT terminated effective February 28, 2018, each reserved their respective rights as to whether “Good Reason” exists.  On May 16, 2018, Mr. Davidson filed for arbitration against RAIT and, on June 14, 2018, against the trustees for RAIT's alleged non-payment of severance under his employment contract in the amount of $4,547 and alleged that the non-payment also constituted a breach of the Pennsylvania Wage Payment and Collection Law. We have not accrued any liability related to this matter as we have concluded it is not probable that a loss has been incurred. We may incur additional expenses and costs in connection with Mr. Davidson’s separation from RAIT.

 

During the six months ended June 30, 2017, we reached an agreement in principle to settle a matter with a former employee for $175.  This amount had been accrued as a liability as of June 30, 2017 and was subsequently paid during the third quarter of 2017.

 

RAIT Preferred Funding II, Ltd. v. CWCapital Asset Management LLC, et al.–Index No. 651729/2016 (Sup. Ct. N.Y.)

 

On September 20, 2017, RAIT Preferred Funding II, Ltd., or RAIT II, filed an amended complaint against CWCapital Asset Management, LLC, or CWCapital, Wells Fargo Bank N.A., or Wells Fargo, and U.S. Bank N.A., or U.S. Bank. This action concerns a loan, or the mortgage loan, to a non-party borrower, or the borrower, made in 2007.  RAIT II purchased $18,500 of the mortgage loan for which it holds a promissory note, or note B.  U.S. Bank is the trustee for a securitization trust that purchased the remaining $190,000 of the mortgage loan and for which it held a promissory note, or note A.  CWCapital is the special servicer and Wells Fargo is the master servicer for the mortgage loan (including note A and note B).  The parties’ rights and obligations are governed by, among other things, a pooling and servicing agreement and a co-lender agreement.  The mortgage loan was repaid in May of 2017, and the defendants have alleged that RAIT II was not entitled to receive any payoff of principal under note B pursuant to the subordination and other provisions of the co-lender agreement.  RAIT charged off its $18,500 note B during the year ended December 31, 2017.  In the amended complaint, RAIT II alleges, among other things, that the defendants breached certain of their obligations under the operative documents and RAIT II should have received, among other things, all of its $18,500 principal under note B.  The proceedings are still in the initial stages.

 

Loan Funding Commitments

 

Certain of the existing mortgage loans that we previously originated contain commitments to fund certain amounts that were not funded upon the origination of the mortgage loan. These loans are held by certain of our FL securitizations and these FL securitizations are required to purchase these funding commitments from us and at our direction as funds become available from loan payoffs in the FL securitization. As of June 30, 2018, our total outstanding funding commitment was $10,506.

 

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RAIT Financial Trust

Notes to Consolidated Financial Statements

As of June 30, 2018

(Unaudited and dollars in thousands, except share and per share amounts)

 

NOTE 15: SUBSEQUENT EVENTS

 

On July 19, 2018, pursuant to authority granted to the Board by the shareholders of RAIT, the Board authorized a reverse stock split of RAIT’s common shares that will become effective at 4:10 PM Eastern time on August 13, 2018. The common shares will begin trading on a split-adjusted basis when the market opens on Tuesday, August 14, 2018.  When the reverse stock split becomes effective, every fifty common shares issued and outstanding will be automatically combined into one issued and outstanding common share. Upon the effective date of the reverse stock split, the 92,532,749 common shares outstanding on August 1, 2018 will be reduced to approximately 1,850,655 common shares, without giving effect to any fractional shares that result from the reverse stock split and assuming no additional common shares are issued between the date of this report and the effective date.  If the reverse stock split had been effective prior to the issuance of these financial statements, basic and diluted earnings (loss) per share would both have been $(27.26) and $(45.82) per share for the three and six months ended June 30, 2018, respectively, based on 1,839,826 and 1,838,666 weighted average shares outstanding for the three and six months ended June 30, 2018, respectively.

 

On August 1, 2018, we completed the sale of our retail property management subsidiary for nominal consideration.  

 

We have evaluated subsequent events or transactions that have occurred after the consolidated balance sheet date of June 30, 2018, but prior to the filing of the consolidated financial statements on this Quarterly Report on Form 10-Q. We have determined that, except as disclosed within this Note and other Notes, there are no subsequent events that require disclosure in this Quarterly Report on Form 10-Q.

 

 

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Forward-Looking Statements

 

In addition to historical information, this discussion and analysis contains forward-looking statements. These statements can be identified by the use of forward-looking terminology including “may,” “believe,” “will,” “expect,” “anticipate,” “estimate,” “seek,” “continue” or similar words.

 

RAIT’s forward-looking statements include, but are not limited to, statements regarding RAIT’s plans and initiatives to:

Risks, uncertainties and contingencies that may affect the results expressed or implied by RAIT’s forward-looking statements include, but are not limited to:

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These factors, among others, could cause actual results to differ materially from the anticipated results or other expectations expressed in the forward-looking statements. We caution you not to place undue reliance on these forward-looking statements, which speak only as of the date of this report. All subsequent written and oral forward-looking statements attributable to us or any person acting on our behalf are expressly qualified in their entirety by the cautionary statements contained or referred to in this section. Except to the extent required by applicable law or regulation, we undertake no obligation to update these forward-looking statements to reflect events or circumstances after the date of this filing or to reflect the occurrence of unanticipated events.

 

Overview

 

We are an internally-managed Maryland real estate investment trust, or REIT, focused on managing a portfolio of commercial real estate (CRE) loans and properties.

 

During the six months ended June 30, 2018, we continued to undertake steps intended to increase RAIT’s liquidity and better position RAIT to meet its financial obligations as they come due.  We refer to these steps as the 2018 strategic steps and they include, but are not limited to:

 

Key developments related to the 2018 strategic steps included the following:

 

 

 

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During the three months ended June 30, 2018, we generated GAAP net income (loss) allocable to common shares of $(50.2) million, or $(0.55) per common share-diluted, as compared to $(125.8) million, or $(1.38) per common share-diluted, during the three months ended June 30, 2017.  

 

Sale of FL5 & FL6 Interests and Series D Preferred Shares Redemption

 

On June 27, 2018, RAIT IV, a subsidiary of RAIT, completed the sale of its FL5 Interests, as defined below, and FL6 Interests, as defined below (collectively, the Interests), to Melody RE II, LLC, or the Purchaser, for an aggregate purchase price of $54.6 million.

 

Prior to the sale, RAIT, through its subsidiary RAIT IV, was the holder of:

 

 

Prior to the sale, RAIT consolidated Holdings 2016 and FL5 and also consolidated Holdings 2017 and FL6 in its consolidated financial statements as RAIT was the primary beneficiary of these variable interest entities, or VIEs.  Holdings 2016 and Holdings 2017 have been referred to as the RAIT Venture VIEs in RAIT’s consolidated financial statements.  As a result of the sale, RAIT is no longer considered the primary beneficiary of these entities and has deconsolidated these entities from its consolidated financial statements.  RAIT recognized a loss of $8.2 million on the deconsolidation of these entities as the aggregate purchase price for the Interests of $54.6 million was less than RAIT’s net investment in these entities of $62.8 million.  After the sale of the Interests, RAIT retained its role as servicer and special servicer of the loans in FL5 and FL6.

 

Also on June 27, 2018, RAIT, several of RAIT’s subsidiaries, and ARS VI Investor I, LP, or the Investor, entered into a Redemption and Exchange Agreement whereby RAIT redeemed and cancelled the remaining 2,939,190 preferred units of RAIT IV and RAIT’s corresponding Series D preferred shares, for $56.8 million of cash using the proceeds from the sale of RAIT IV’s FL5 Interests and FL6 Interests and defined available cash held by RAIT IV and $16.7 million of liquidation preference of RAIT’s publicly traded Series A preferred shares, Series B preferred shares, and Series C preferred shares ($9.6 million of liquidation preference of Series A preferred shares, $4.2 million of liquidation preference of Series B preferred shares; and $2.9 million of liquidation preference of Series C preferred shares).

 

In addition, RAIT paid the Investor an exchange fee of $0.4 million.  The Redemption and Exchange Agreement also provided for the termination of the Securities Purchase Agreement and mutual releases between RAIT and the Investor of the previously reported dispute between the two parties.

 

The redemption and exchange of the preferred units of RAIT IV and the linked Series D preferred shares resulted in an increase to shareholders equity of $11.9 million as the consideration exchanged of $61.6 million was less than the $73.5 million of Series D preferred shares that were redeemed and cancelled.

 

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NYSE Continued Listing Status

 

As previously disclosed, effective September 21, 2017, RAIT received written notification, or NYSE Notice #1, from the New York Stock Exchange, or the NYSE, that RAIT was not in compliance with an NYSE continued listing standard in Rule 802.01C of the NYSE Listed Company Manual because the average closing price of RAIT’s common shares fell below $1.00 over a consecutive 30 trading-day period ending September 15, 2017. RAIT subsequently informed the NYSE that it intended to cure the price condition by proposing a reverse stock split or other action that may require approval of its shareholders.

 

On May 11, 2018, RAIT received written notification, or NYSE Notice #2, from the NYSE that RAIT was not in compliance with an NYSE continued listing standard in Rule 802.01D of the NYSE Listed Company Manual because the trading price of RAIT’s common shares fell below $0.16, which the NYSE staff interpreted as “abnormally low” and, as a result, the NYSE immediately suspended trading of all of RAIT’s listed securities.  On June 5, 2018, RAIT received written notification, or NYSE Notice #3, from the NYSE that RAIT was not in compliance with an NYSE continued listing standard in Rule 802.01B of the NYSE Listed Company Manual because RAIT had not maintained at least a $15.0 million average market capitalization over a 30-day trading period.  On May 29, 2018, RAIT sent a notice, or the Appeal Notice, to the NYSE appealing the NYSE staff’s determinations in NYSE Notice #2, requesting review of these determinations by a committee of the NYSE’s Board of Directors, the Review Committee, and requesting the opportunity to make an oral presentation to the Review Committee.  RAIT discussed the market capitalization continued listing standard in its Appeal Notice and has asked the Review Committee to review the NYSE staff’s determination in NYSE Notice #3 in its appeal.  The NYSE has notified RAIT that the appeal is scheduled to be held on October 11, 2018.  During the appeal period, RAIT remains “listed” on the NYSE though trading in RAIT’s listed securities is suspended.  RAIT cannot provide any assurance that the appeal will be successful.  

 

On July 19, 2018, RAIT’s proposal to grant authority for its Board to effect a reverse stock split at a ratio between 10 shares into one share up to 50 shares into one share, was approved by its shareholders. Subsequently, on July 19, 2018, the Board authorized a reverse stock split at a ratio of 50 shares into one share, which will become effective after the close of business on August 13, 2018.

 

See Item 1A of our Annual Report for risks relating to the potential consequences of our failure to meet NYSE continued listing standards, which include triggering possible acceleration of some of our indebtedness, which could materially adversely affect our liquidity.

 

Reverse Stock Split

 

On July 19, 2018, pursuant to authority granted to the Board by the shareholders of RAIT, the Board authorized a reverse stock split of RAIT’s common shares that will become effective at 4:10 PM Eastern time on August 13, 2018. The common shares will begin trading on a split-adjusted basis when the market opens on Tuesday, August 14, 2018.  When the reverse stock split becomes effective, every fifty common shares issued and outstanding will be automatically combined into one issued and outstanding common share. Upon the effective date of the reverse stock split, the 92,532,749 common shares outstanding on August 1, 2018 will be reduced to approximately 1,850,655 common shares, without giving effect to any fractional shares that result from the reverse stock split and assuming no additional common shares are issued between the date of this report and the effective date.  

 

Going Concern Considerations

 

Please see Part I, Item1, “Financial Statements —Note 2: Summary of Significant Accounting Policies—Going Concern

Considerations” and Part I, Item 2, “Management’s Discussion and Analysis of Financial Condition and Results of Operations—

Liquidity and Capital Resources” for a discussion of going concern considerations.

 

Commitments and Contingencies

 

Please see Part I, Item1, “Financial Statements —Note 14: Commitments and Contingencies” for a description of litigation and certain other possible events that could have a significant impact on our future operating results.

 

Trends That May Affect our Business

 

Investors should read Management’s Discussion and Analysis of Financial Condition and Results of Operations in our Annual Report for a detailed discussion of the following items:

 

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CRE Lending

 

We primarily own short-term bridge loans, subordinated, or “mezzanine,” loans and preferred equity interests. We historically offered mezzanine loans and preferred equity interests in limited circumstances to support first lien loans.  These represent a smaller portion of our CRE loan portfolio.  Our mezzanine loans are subordinate in repayment priority to a senior mortgage loan or loans on a property and are typically secured by pledges of ownership interests, in whole or in part, in the entities that own the real property. We generate a return on our preferred equity investments primarily through distributions to us at a fixed rate and, in some instances, the payment of distributions may be subject to there being sufficient net cash flow from the underlying real estate to make such payments. We used this investment structure as an alternative to a mezzanine loan where the financial needs and tax situation of the borrower, the terms of senior financing secured by the underlying real estate or other circumstances necessitate holding preferred equity. Our CRE loans are in most cases non-recourse or limited recourse loans secured by commercial real estate assets or real estate entities. This means that we look primarily to the assets securing the loan for repayment, subject to certain standard exceptions. Where possible, we sought to maintain direct lending relationships with borrowers, as opposed to investing in loans controlled by third-party lenders.

 

The tables below describe certain characteristics of our held-for-investment commercial mortgage loans, mezzanine loans, and preferred equity interests as of June 30, 2018 (dollars in thousands):

 

As of June 30, 2018, three mezzanine loans were classified as held for sale and had a carrying amount of $6.2 million.  

 

During the six months ended June 30, 2018, we originated $46.2 million of CRE loans prior to our implementation of the 2018 strategic steps.  During the six months ended June 30, 2018, we received CRE loan repayments of $170.0 million and deconsolidated loans with an unpaid principal balance of $266.6 million.  

 

During the six months ended June 30, 2018, we sold certain loans which had an unpaid principal balance of $128.8 million and received gross proceeds of $123.1 million.  We received $74.9 million of net proceeds after payment of the costs to sell those loans and repayments of indebtedness secured by certain of those loans of $48.2 million.

 

Certain of our commercial mortgage loans, mezzanine loans and preferred equity interests provide for the accrual of interest at specified rates which differ from current payment terms.  We refer to these loans as cash flow loans.  Although a cash flow loan accrues interest at a stated rate, pursuant to forbearance or other agreements, the borrower is only required to pay interest each month at a minimum rate, which may be as low as zero percent, plus additional interest up to the stated rate to the extent of all remaining cash flow from the property underlying the loan after the payment of property operating expenses.  Please see Part I, Item 1, “Financial Statements —Note 2: Summary of Significant Accounting Policies—Revenue Recognition” for further information on these loans.  As of June 30, 2018, we held investments we characterized as cash flow loans, with a recorded investment (including accrued interest) of $121.9 million comprised of preferred equity interests totaling $43.3 million, bridge loans totaling $48.0 million and mezzanine loans totaling $30.6 million.  

 

As of June 30, 2018, our nonaccrual loans total $92.9 million down from $98.6 million as of December 31, 2017 primarily due to charge-offs during the six months ended June 30, 2018.  We remain focused on working with our borrowers on these loans to either sell or refinance the underlying properties as expeditiously as possible.  As of June 30, 2018, we have a loan loss reserve of $16.7 million, representing approximately 18.0% of our nonaccrual loans and 2.3% of our total CRE loan portfolio.

 

We have historically financed our consolidated CRE loans on a long-term basis through securitizations. See Part I, Item 2, “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Securitization Summary” for more information about our securitizations.

 

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The charts below describe the property types and the geographic breakdown of our commercial mortgage loans, mezzanine loans, and preferred equity interests as of June 30, 2018:

 

    

 

REO Portfolio

 

As of June 30, 2018, our real estate portfolio had an aggregate gross cost (carrying value) of $190.9 million ($177.2 million) comprised of $77.1 million ($68.5 million) of office properties, $17.2 million ($12.9 million) of multifamily properties, $76.0 million ($75.2 million) of retail properties and $20.6 million ($20.6 million) of land. We are expecting to dispose of REO properties with an aggregate gross cost (carrying value), as of June 30, 2018, of approximately $140.2 million ($134.8 million) during the remainder of 2018. In August 2018, we sold one office property and one retail property in a single transaction for a sales price of $30.0 million.  

 

During the three and six months ended June 30, 2018, we recognized impairment charges related to certain real estate assets of $21.6 million and $30.8 million, respectively, as it was more likely than not that we would dispose of the assets before the end of their previously estimated useful lives and a portion of our recorded investment in these assets was determined to not be recoverable.

 

During the three months ended June 30, 2018, due to the current conditions affecting one of our retail properties in its local market as well as our current efforts to increase our liquidity, we accepted a letter of intent to purchase this property which resulted in an impairment charge of $17.5 million. During the three months ended June 30, 2018, we began to market two other retail real estate asset for sale. We recognized $3.4 million of impairment charges on these assets based on letters of intent to purchase these properties. We also recognized $0.6 million of impairment charges related to another asset based on the status of negotiations for the sale of the asset.  

 

During the six months ended June 30, 2018, we recognized additional impairment charges on two of our real estate assets of $9.2 million. We recognized an impairment charge of $5.6 million on one of the assets based on the status of negotiations for the sale of the asset.  The impairment charge of $3.6 million on the other asset was driven by a default on the asset’s associated ground lease.

 

We are continuing to market for sale a majority of our real estate properties, and the ultimate outcomes of the sales of those properties is dependent on current market conditions and demand specific to each individual property, among other factors. The ultimate outcomes of these processes may lead to additional impairment charges, which may have a material adverse effect on our financial condition and financial performance.

 

We have financed our portfolio of investments in commercial real estate through secured commercial mortgage loans held by either third-party lenders or our commercial real estate securitizations.

 

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The table below describes certain characteristics of our REO Portfolio as of June 30, 2018 (dollars in thousands).  We have historically invested in real estate properties, primarily multi-family properties, throughout the United States.  

 

The charts below describe the property types and the geographic breakdown of our investments in real estate as of June 30, 2018:

 

    

 

Securitization Summary

 

Overview. We have used securitizations to match fund the interest rates and maturities of our assets with the interest rates and maturities of the related financing. This strategy has helped us reduce interest rate and funding risks on our portfolios for the long-term. A securitization is a structure in which multiple classes of debt and equity are issued by a special purpose entity to finance a portfolio of assets. Cash flow from the portfolio of assets is used to repay the securitization liabilities sequentially, in order of seniority. The most senior classes of debt typically have credit ratings of “AAA” through “BBB–” and therefore can be issued at yields that are lower than the average yield of the loans collateralizing the securitization. The debt tranches are typically rated based on portfolio quality, diversification and structural subordination. The equity securities issued by the securitization are the “first loss” piece of the capital structure, but they are entitled to all residual amounts available for payment after the obligations to the debt holders have been satisfied. Our retained interests described below included in our investments in our consolidated securitizations are typically in such “first loss” position. Historically, the stated maturity of the debt issued by a securitization we have sponsored has been between 15 and 19 years for our FL securitizations and approximately 40 years for RAIT I and RAIT II. However, we expect the weighted average life of such debt to be shorter than the stated maturity due to the financial condition of the borrowers on the underlying loans and the characteristics of such loans, including the existence and frequency of exercise of any permitted prepayment, the prevailing level of interest rates, the actual default rate and the actual level of any recoveries on any defaulted loans. Debt issued by these securitizations is non-recourse to RAIT and payable solely from the payments by the borrowers on the loans collateralizing these securitizations. These assets are in most cases “non-recourse” or limited recourse loans secured by commercial real estate assets or real estate entities. This means that we look primarily to the assets securing the loan for repayment, subject to certain standard exceptions.

 

As of June 30, 2018, we had sponsored four outstanding securitizations with varying amounts of retained or residual interests held by us which we consolidate in our financial statements as follows: RAIT I, RAIT II, RAIT 2017-FL7 Trust, or RAIT-FL7 and RAIT 2017-FL8 Trust, or RAIT-FL8. We refer to RAIT FL7 and RAIT FL8 as the FL securitizations. We previously exercised our rights and unwound four other securitizations we had sponsored, RAIT 2013-FL1 Trust, or RAIT FL1, in 2015, RAIT 2014-FL2 Trust, or RAIT FL2, in 2016, RAIT 2014-FL3 Trust, or RAIT FL3, in April 2017, RAIT 2015-FL4 Trust, or RAIT FL4, in September 2017. During the three months ended June 30, 2018, we deconsolidated RAIT 2015-FL5 Trust or RAIT FL5 and RAIT 2016-FL6 or

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RAIT FL6 as described above. We originated substantially all the loans collateralizing RAIT I, RAIT II and the FL securitizations. We serve as the collateral manager, servicer and special servicer on RAIT I and RAIT II and as servicer and special servicer for each of the FL securitizations.  

 

Over time, our returns on and cash flows from our retained interests in our securitizations generally decrease as the senior classes of debt bearing relatively lower interest rates are paid down by collateral pool payments and other proceeds leaving more junior classes of debt bearing relatively higher interest rates on the smaller collateral pool.  As a result, we continue to evaluate strategies to manage the returns on our capital allocated to our retained interests in each of our securitizations consistent with our rights and obligations under our securitizations and relevant market conditions, which may include, without limitation, unwinding a securitization and rolling the remaining collateral over to a new securitization and may involve, where applicable, selling our properties securing loans included in the collateral pool and repaying such loans.  With respect to our floating rate CMBS securitizations described below, we have implemented a process of unwinding the FL securitizations when, because of loan repayments, the securitizations become inefficient and we have the means and desire to do so.  Under the terms of FL7 and FL8, the earliest that we could unwind these securitizations are June 2019 and December 2019, respectively.

 

Securitization Performance. RAIT I and RAIT II contain interest coverage triggers, or IC triggers, and over collateralization triggers, or OC triggers, that must be met in order for us to receive our subordinated management fees and our lower-rated debt or residual equity returns. If the IC triggers or OC triggers are not met in a given period, then the cash flows are redirected from lower rated tranches and used to repay the principal amounts to the senior tranches of CDO notes payable. These conditions and the re-direction of cash flow continue until the triggers are met by curing the underlying payment defaults, paying down the CDO notes payable, or other actions permitted under the relevant securitization indenture. As of the most recent payment information, all applicable IC triggers and OC triggers continue to be met for RAIT I and RAIT II, and we continue to receive all of our management fees, interest and residual returns from these securitizations. The FL securitizations do not have IC triggers and OC triggers.

 

Repayment of the loans collateralizing RAIT I and RAIT II outside their contractual maturities are expected to be slower than 2017 levels for the foreseeable future. In addition, we have 10 properties held for disposition with an aggregate gross cost of $140.2 million, and carrying value of $134.8 million, as of June 30, 2018.  The related indebtedness of these properties is expected to be repaid with the proceeds of any sales, which primarily includes paying down the most senior notes outstanding issued by RAIT I and RAIT II, as applicable. We continue to evaluate our real estate portfolio with regards to identifying other possible properties to sell as part of our previously disclosed debt reduction plan.  Because we own properties that are financed, in part, by loans collateralizing RAIT I and RAIT II, sales of our properties could result in a significant reduction of our securitization notes payable. These repayments have reduced our returns from these securitizations and we expect future repayments to continue to reduce these returns.  The proceeds of the $30 million real estate asset sale disclosed above will repay indebtedness of RAIT II and we expect to receive a distribution of approximately $23 million by the end of August 2018 on our retained interests in RAIT II from these proceeds. We currently expect a sufficient number of the remaining loans collateralizing RAIT II to be substantially repaid or otherwise disposed of by the end of 2018, which will allow us to redeem and collapse that securitization.  

 

If the CDO notes issued by RAIT I and RAIT II have not been redeemed in full prior to the distribution date occurring in November 2018, in the case of RAIT I, and August 2018, in the case of RAIT II, then an auction of the collateral assets of RAIT I or RAIT II, as relevant, will continue to be conducted by the relevant trustee periodically thereafter and, if certain conditions set forth in the relevant indenture are satisfied, such collateral assets will be sold at the auction and the relevant CDO notes will be redeemed, in whole, but not in part, on such distribution date. Eight auctions for RAIT I and fourteen auctions for RAIT II have been held but no sales occurred as not all of the conditions precedent were satisfied.

 

In March 2018, a rating agency, DBRS Limited, or DBRS announced that it had placed all classes of the floating rate notes issued by RAIT FL5, RAIT FL6 and RAIT FL8 under review with negative implications. DBRS did this citing concerns over RAIT’s ability to continue to effectively service and special service these transactions due to RAIT’s announcement of the 2018 strategic steps. DBRS announced it would revisit the ratings once additional information becomes available. RAIT’s ability to act as servicer and special servicer for these securitizations could be materially adversely affected if RAIT is unable to address DBRS’ concerns.

 

A summary of the investments in our consolidated securitizations as of the most recent payment date is as follows:

Our Legacy Securitizations

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Our Floating Rate CMBS Securitizations

 

 

 

The below table summarizes the current outstanding balances in our consolidated securitizations as of the most recent payment date:

 

 

 

 

 

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Results of Operations

Three Months Ended June 30, 2018 Compared to the Three Months Ended June 30, 2017

The following table sets forth information regarding our consolidated results of operations for the three months ended June 30, 2018 and 2017.

Revenue

Net interest margin. Net interest margin increased $2.4 million, or 55%, to $6.7 million for the three months ended June 30, 2018 from $4.3 million for the three months ended June 30, 2017. Investment interest income increased mainly due to the 2017 write off of $3.6 million of accrued interest receivable related to a loan whose interest income was determined to be not probable of collection based on the value of the underlying collateral using discounted cash flow models and market based assumptions.  This increase was offset by the $590.5 million of loan repayments and related repayments of indebtedness since July 1, 2017.

 

Property income. Property income decreased $8.3 million to $8.7 million for the three months ended June 30, 2018 from $16.9 million for the three months ended June 30, 2017. The decrease is primarily attributable to the sale or divestiture of 20 properties since July 1, 2017.

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Fee and other income. Fee and other income decreased $0.4 million to $1.2 million for the three months ended June 30, 2018 from $1.5 million for the three months ended June 30, 2017. The decrease is primarily attributable to lower property management fees earned by our retail property management subsidiary.

Expenses

Interest expense. Interest expense decreased $2.5 million, or 28%, to $6.4 million for the three months ended June 30, 2018 from $8.9 million for the three months ended June 30, 2017. The decrease is attributable to $67.2 million of recourse debt reductions since July 1, 2017 and $73.5 million of repayments of indebtedness related to property dispositions.

Real estate operating expense. Real estate operating expense decreased $4.1 million, or 43%, to $5.4 million for the three months ended June 30, 2018 from $9.5 million for the three months ended June 30, 2017. The decrease is primarily attributable to the sale or divestiture of 20 properties since July 1, 2017.

Property management expense. Property management expense decreased $0.9 million, or 34%, to $1.7 million for the three months ended June 30, 2018 from $2.7 million for the three months ended June 30, 2017. The decrease is primarily attributable to a decrease in the number of employees at our retail property management subsidiary.

Compensation expense. Compensation expense decreased $0.4 million to $3.1 million for the three months ended June 30, 2018 from $3.5 million for the three months ended June 30, 2017.  The primary driver of the decrease was a decrease in the number of employees.  

General and administrative expense. General and administrative expense increased $1.4 million, or 52%, to $4.1 million for the three months ended June 30, 2018 from $2.7 million for the three months ended June 30, 2017.  This is primarily due to increase in legal and consulting fees incurred as part of the 2018 strategic steps.

 

Provision for loan losses. Provision for loan losses decreased $6.1 million, or 29%, to $14.7 million for the three months ended June 30, 2018 from $20.9 million for the three months ended June 30, 2017.  During the three ended June 30, 2018, the provision for loan losses was primarily related to two loans where the borrower and/or property experienced an unfavorable event or events during the period, which resulted in probable, incurred losses.  

Depreciation and amortization expense. Depreciation and amortization expense decreased $4.9 million, or 63%, to $2.9 million for the three months ended June 30, 2017 from $7.8 million for the three months ended June 30, 2017. The decrease is primarily attributable to the sale or divestiture of 20 properties since July 1, 2017.

Shareholder activism expenses. During the three months ended June 30, 2017, we incurred $1.6 million of additional expenses beyond those normally associated with soliciting proxies for our annual meeting of shareholders as a result of responding to an activist campaign by an activist investor.  

Other income (expense)

Gains (losses) on assets. During the three months ended June 30, 2018, we incurred a $3.2 million loss on assets.  This includes a net $3.3 million loss on the sale or repayment of six loans held for sale, $0.8 million loss on three held for sale loans measured at the lower of cost or fair value, and a $0.9 million gain on the sale of one office property.

Gains (losses) on deconsolidation of VIEs. During the three months ended June 30, 2018, we completed the sale of RAIT IV’s interests in the FL5 and FL6 securitizations as described in Note 1 and Note 8.  As a result of the sale, we are no longer the primary beneficiary of the RAIT Venture VIEs, FL5 and FL6.  Therefore, RAIT deconsolidated those entities as of June 27, 2018 and recognized an $8.2 million loss on deconsolidation as the purchase price of $54.6 million was less than our net investment in our FL5 and FL6 securitizations of $62.8 million.

Gains (losses) on extinguishment of debt. During the three months ended June 30, 2018, we recognized a loss on extinguishment of debt of $2.4 million. This includes a $1.9 million loss related to defeasance of mortgage indebtedness upon the sale of one office property.  The remaining $0.5 million loss is due to the write-off of the unamortized deferred financing costs associated with indebtedness that was repurchased during the three months ended June 30, 2018.

Asset impairment. During the three months ended June 30, 2018, we recognized asset impairment charges of $21.6 million, which was primarily related to certain real estate assets where it was more likely than not that we would dispose of the assets before

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the end of their previously estimated useful lives and a portion of our recorded investment in these assets was determined to not be recoverable.

Change in fair value of financial instruments. During the three months ended June 30, 2018, the change in fair value of financial instruments increased our net income by $0.1 million. The fair value adjustments we recorded were as follows (dollars in thousands):

The changes in the fair value for the junior subordinated notes for which the fair value option was elected for the three months ended June 30, 2018 and 2017 was primarily attributable to changes in interest rates and instrument specific credit risks. The changes in the fair value of derivatives for the three months ended June 30, 2018 and 2017 was primarily attributable to changes in interest rates. The changes in fair value of the warrants and investor SARs for the three months ended June 30, 2017 was primarily attributable to changes in the reference stock price and volatility.

Income tax benefit (provision). During the three months ended June 30, 2017, the income tax provision related to insignificant activities occurring in our TRS entities during the period.

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Six Months Ended June 30, 2018 Compared to the Six Months Ended June 30, 2017

The following table sets forth information regarding our consolidated results of operations for the six months ended June 30, 2018 and 2017.

Revenue

Net interest margin. Net interest margin increased $2.8 million, or 23%, to $15.1 million for the six months ended June 30, 2018 from $12.2 million for the six months ended June 30, 2017. Investment interest income increased mainly due the 2017 write off of $3.6 million of accrued interest receivable related to a loan whose interest income was determined to be not probable of collection based on the value of the underlying collateral using discounted cash flow models and market based assumptions.  This increase was offset by the decrease in interest income resulting mainly from $590.5 million of loan repayments related repayments of indebtedness since July 1, 2017.

 

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Property income. Property income decreased $19.5 million to $17.5 million for the six months ended June 30, 2018 from $37.0 million for the six months ended June 30, 2017. The decrease is primarily attributable to the sale or divesture of 20 properties since July 1, 2017.

Fee and other income. Fee and other income decreased $0.8 million to $2.4 million for the six months ended June 30, 2018 from $3.2 million for the six months ended June 30, 2017. The decrease is primarily attributable to lower property management fees earned by our retail property management subsidiary.

Expenses

Interest expense. Interest expense decreased $5.9 million, or 31%, to $13.1 million for the six months ended June 30, 2018 from $19.0 million for the six months ended June 30, 2017. The decrease is attributable to $67.2 million of recourse debt reductions since July 1, 2017 and $73.5 million of repayments of indebtedness related to property dispositions.

Real estate operating expense. Real estate operating expense decreased $9.0 million to $11.2 million for the six months ended June 30, 2018 from $20.1 million for the six months ended June 30, 2017. The decrease is primarily attributable to the sale or divesture of 20 properties since July 1, 2017.

Property management expense. Property management expense decreased $1.2 million, or 25% to $3.7 million for the six months ended June 30, 2018 from $4.9 million for the six months ended June 30, 2017.  The decrease is primarily attributable to a decrease in the number of employees at our retail property management subsidiary.

Compensation expense. Compensation expense decreased $1.0 million to $6.0 million for the six months ended June 30, 2018 from $7.0 million for the six months ended June 30, 2017. The primary driver of the decrease was a decrease in the number of employees.

General and administrative expense. General and administrative expense increased $5.0 million to $10.4 million for the six months ended June 30, 2018 from $5.4 million for the six months ended June 30, 2017. This is primarily due to increase in legal and consulting fees incurred as part of our strategic alternatives process and the 2018 strategic steps.

 

Provision for loan losses. Provision for loan losses increased slightly to $22.8 million for the six months ended June 30, 2018 from $22.4 million for the six months ended June 30, 2017. During the six months ended June 30, 2018, the provision for loan losses was primarily related to five loans where the borrower and/or property experienced an unfavorable event or events during the period, which resulted in probable, incurred losses.

 

Depreciation and amortization expense. Depreciation and amortization expense decreased $11.2 million to $6.3 million for the six months ended June 30, 2018 from $17.8 million for the six months ended June 30, 2017. The decrease is primarily attributable to the sale or divesture of 20 properties since July 1, 2017.

Shareholder activism expenses. During the six months ended June 30, 2017, we incurred $694 of additional expenses beyond those normally associated with soliciting proxies for our annual meeting of shareholders as a result of responding to shareholder activism.  

IRT internalization and management transition expenses. During the six months ended June 30, 2017 we incurred $736 of advisory and consulting expenses directly related to impacts of the IRT internalization and our management transition.

Other income (expense)

Gains (losses) on assets. During the six months ended June 30, 2018, we incurred a net $4.1 million loss on assets.  This includes $4.2 million net loss on the sale or repayment of loans held for sale, $0.8 million loss on three held for sale loans measured at the lower of cost or market, and a $0.9 million gain on the sale of one property

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Gains (losses) on deconsolidation of properties. During the six months ended June 30, 2017, we incurred a non-cash loss on deconsolidation of properties of $15.9 million relating to an industrial real estate portfolio which contained ten properties with a carrying value of $82.5 million and $81.9 million of related non-recourse debt as of December 31, 2017. During the six months ended June 30, 2017, the senior lender foreclosed on the mortgage liens encumbering five of these industrial properties that had an aggregate carrying value of $43.1 million as well as $0.3 million of intangible and other assets, net of accrued expenses and other liabilities, and $27.5 million of related non-recourse indebtedness as well as certain other assets and other liabilities.  

Gains (losses) on deconsolidation of VIEs. During the six months ended June 30, 2018, we completed the sale of RAIT IV’s interests in the FL5 and FL6 securitizations as described in Note 1 and Note 8.  As a result of the sale, we are no longer the primary beneficiary of the RAIT Venture VIEs, FL5 and FL6.  Therefore, RAIT deconsolidated those entities as of June 27, 2018 and recognized an $8.2 million loss on deconsolidation as the purchase price of $54.6 million was less than our net investment in our FL5 and FL6 securitizations of $62.8 million.

Gains (losses) on extinguishment of debt. During the six months ended June 30, 2018, we recognized a loss on extinguishment of debt of $3.4 million. This includes a $1.9 million loss related to defeasance of mortgage indebtedness upon the sale of one office property.  The remaining $1.5 million loss is primarily due to the write-off of the unamortized deferred financing costs associated with the indebtedness.

Asset impairment. During the six months ended June 30, 2018, we recognized non-cash asset impairment charges of $30.8 million, which was primarily related to certain real estate assets where it was more likely than not that we would dispose of the assets before the end of their previously estimated useful lives and a portion of our recorded investment in these assets was determined to not be recoverable.

Change in fair value of financial instruments. During the six months ended June 30, 2018, the change in fair value of financial instruments increased our net income by $0.2 million. The fair value adjustments we recorded were as follows (dollars in thousands):

 

 

The changes in the fair value for the junior subordinated notes for which the fair value option was elected for the six months ended June 30, 2018 and 2017 was primarily attributable to changes in interest rates and instrument specific credit risks. The changes in the fair value of derivatives for the six months ended June 30, 2018 and 2017 was primarily attributable to changes in interest rates. The changes in the fair value of the warrants and investor SARs for the six months ended June 30, 2017 was primarily attributable to changes in the reference stock price and volatility.

Income tax benefit (provision). During the six months ended June 30, 2017, the income tax benefit was driven by a reversal of the current income tax liability accrued as of December 31, 2016 as a result of updating our projections for 2017.

Liquidity and Capital Resources

 

Liquidity is a measure of our ability to meet potential cash requirements, including ongoing commitments to repay borrowings, fund and maintain investments, pay dividends and other general business needs.

Our primary cash requirements are as follows:

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We intend to meet these liquidity requirements primarily through the following:

 

Our ability to incur new indebtedness is limited due to the financial covenants that are included in the indenture that governs our 7.625% senior notes and our 7.125% senior notes.  

 

The financial statements included in this report have been prepared on a going concern basis, which contemplates the realization of assets and the satisfaction of liabilities and other commitments in the normal course of business. As described in Part I, Item1, “Financial Statements —Note 2: Summary of Significant Accounting Policies—Going Concern Considerations”, our ability to continue to operate as a going concern is subject to certain risks and uncertainties.

 

In evaluating RAIT’s potential cash requirements over the next 12 months, management considered the option of holders of our 4.0% convertible senior notes, which have an unpaid principal balance of $68.2 million as of June 30, 2018, to require RAIT to redeem them in October 2018, our senior secured notes which mature in April 2019 and have an unpaid principal balance of $9.5 million as of June 30, 2018, the financial covenant compliance requirements of certain of RAIT’s indebtedness described below, RAIT’s existing non-compliance with and options to cure certain continued listing standards of the NYSE (including the potential implications thereof which are further discussed below) and RAIT’s recurring costs of operating its business.  Although not due within twelve months from the date of the issuance of these financial statements, management also considered our 7.125% senior notes which mature in August 2019 and have an unpaid principal balance of $68.4 million as of June 30, 2018.

 

As previously disclosed, effective September 21, 2017, RAIT received written notification, or NYSE Notice #1, from the New York Stock Exchange, or the NYSE, that RAIT was not in compliance with an NYSE continued listing standard in Rule 802.01C of the NYSE Listed Company Manual because the average closing price of RAIT’s common shares fell below $1.00 over a consecutive 30 trading-day period ending September 15, 2017.  RAIT subsequently informed the NYSE that it intended to cure the price condition by proposing a reverse stock split or other action that may require approval of its shareholders.  

 

On May 11, 2018, RAIT received written notification, or NYSE Notice #2, from the NYSE that RAIT was not in compliance with an NYSE continued listing standard in Rule 802.01D of the NYSE Listed Company Manual because the trading price of RAIT’s common shares fell below $0.16, which the NYSE staff interpreted as “abnormally low” and, as a result, the NYSE immediately suspended trading of all of RAIT’s listed securities.  On June 5, 2018, RAIT received written notification, or NYSE Notice #3, from the NYSE that RAIT was not in compliance with an NYSE continued listing standard in Rule 802.01B of the NYSE Listed Company Manual because RAIT had not maintained at least a $15.0 million average market capitalization over a 30-day trading period.  

 

On May 29, 2018, RAIT sent a notice, or the Appeal Notice, to the NYSE appealing the NYSE staff’s determinations in NYSE Notice #2, requesting review of these determinations by a committee of the NYSE’s Board of Directors, or the Review Committee, and requesting the opportunity to make an oral presentation to the Review Committee.  RAIT discussed the market capitalization continued listing standard in its Appeal Notice and has also asked the Review Committee to review the NYSE staff’s determination in NYSE Notice #3 in its appeal.  The NYSE has notified RAIT that the appeal is scheduled to be held on October 11, 2018.  During the appeal period, RAIT remains “listed” on the NYSE though trading in the Listed Securities is suspended.  On July 19, 2018, RAIT’s proposal to grant authority for its Board to effect a reverse stock split at a ratio between 10 shares into one share up to 50 shares into one share, was approved by its shareholders.  Subsequently, on July 19, 2018, the Board authorized a reverse stock split at a ratio of 50 shares into one share, which will become effective after the close of business on August 13, 2018.  On August 1, 2018, RAIT made a formal written submission to the Review Committee to support its appeal.

 

There can be no assurance that RAIT will be able to cure these deficiencies or that RAIT will be able to continue to comply with any other continued listing standard of the NYSE.  RAIT’s ability to cure its non-compliance with the continued listing standards of the NYSE is dependent, in part, on the market price and market capitalization of RAIT’s common shares, which is not within RAIT’s exclusive control. If RAIT’s common shares ultimately were to be delisted for any reason from the NYSE before RAIT was able to cure the deficiencies, it could trigger the right of holders of RAIT’s senior secured notes and RAIT’s convertible notes to require us to repurchase their notes.  If RAIT failed to repay any senior secured notes or convertible notes for which the holders exercised repurchase rights, it could trigger cross defaults under, and ultimately the acceleration of, other RAIT indebtedness.

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As previously disclosed, RAIT is implementing the 2018 strategic steps seeking to increase liquidity and reduce costs within our businesses.  As such, RAIT plans to control costs, to sell certain loans, to sell certain real estate properties and to continue to receive repayments of loans as they become due.  Consistent with the 2018 strategic steps and these plans, RAIT has suspended new investment activity and the Board did not declare a dividend on RAIT’s outstanding preferred shares during the three months ended June 30, 2018.  

 

Based on proceeds generated from asset sales and loan repayments that have occurred as of the date these financial statements were issued, RAIT’s current financial condition and currently available sources of repayment would enable RAIT to meet its obligations under the 4.0% convertible notes and its senior secured notes if and as they may become due over the twelve months from the date these financial statements were issued. These notes are the only material obligations that may arise with respect to RAITs possible delisting by the NYSE.  However, RAIT’s current financial condition and currently available sources of repayment would not enable RAIT to meets its obligations under the 7.125% senior notes due in August 2019.  RAIT’s ability to satisfy its obligations under the 7.125% senior notes and to maintain compliance with its debt covenants depends on management’s ability to sell certain of RAIT’s remaining real estate assets releasing cash from those sales and/or distributions on our retained interests in our RAIT I and RAIT II securitizations, to continue to control costs, to sell certain loans, to sell retained interests in certain FL securitizations and to continue to receive repayments of loans as they become due.  While controlling costs are within management’s control to some extent, selling real estate assets, selling loans, selling other assets and the timing of loan repayments involve performance by third parties.  Since many of the real estate assets, loans and other assets that management plans to sell or receive repayment from to satisfy its obligations are not subject to an executed purchase and sale agreement or other contractual agreement as of the date hereof, the sale of those assets cannot be considered probable of occurring.

 

If these plans or other alternative plans are not implemented as RAIT management expects, RAIT’s financial condition, liquidity and ability to continue as a going concern may be materially adversely affected. Subject to the considerations outlined in Part I, Item 1, “Financial Statements —Note 2: Summary of Significant Accounting Policies—Going Concern Considerations” and under this Part I, Item 2, “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Liquidity and Capital Resources,” if RAIT’s plans are implemented in the normal course of business, we believe our available cash balances, proceeds from the sales of assets, and cash flows from operations will be sufficient to fund our liquidity requirements over the next twelve months.

 

We have engaged in discussions with various stakeholders and are pursuing or considering a number of actions, but there can be no assurance that sufficient liquidity can be obtained from one or more of these actions or that these actions can be consummated within the period needed to meet certain obligations, and we could be required to seek relief under Chapter 11 of Title 11 of the U.S. Code.  We have engaged financial and legal advisors to assist us in, among other things, analyzing various strategic alternatives to address our liquidity and capital structure, including strategic and refinancing alternatives through one or more private restructurings. However, a filing under Chapter 11 may be unavoidable. Seeking bankruptcy relief would have a material adverse effect on our business, financial condition, results of operations, liquidity and returns to all stakeholders.

 

In these discussions or through open market purchases, we may seek to acquire, redeem, repurchase, restructure, refinance or otherwise enter into transactions to satisfy our debt or redeem our preferred shares which may include any combination of material payments of cash, issuances of our debt and/or equity securities, sales or exchanges of our assets or other methods.  From time to time our indebtedness and preferred shares may trade at discounts to their respective face amounts. In order to reduce future cash interest payments, as well as future principal amounts due upon any applicable put dates, at maturity or upon redemption, or payments on preferred shares, or to otherwise benefit RAIT, we may, from time to time, purchase such indebtedness or preferred shares for cash, in exchange for our equity or debt securities, or for any combination of cash and our equity or debt securities, in each case in open market purchases, privately negotiated transactions, exchange offers and consent solicitations or otherwise. We will evaluate any such transactions in light of then-existing market conditions, contractual restrictions and other factors, taking into account our current liquidity and prospects for future access to capital. The amounts involved in any such transactions, individually or in the aggregate, may be material and may materially reduce our liquidity or reduce or eliminate our ability to convert assets into liquidity. Any material issuances of our equity securities may have a material dilutive effect on our current shareholders.

 

As disclosed above, the 7.625% senior notes and 7.125% senior notes contain financial covenants consisting of a maximum leverage ratio covenant and a minimum fixed charge ratio covenant.  These covenants must be met in the event RAIT or any subsidiary meeting the definition thereof in these notes’ related indentures were to incur debt, as defined in such indentures, and are measured immediately after giving pro forma effect to the incurrence of such debt and the application of the proceeds thereof.  If RAIT failed to comply with these financial covenants, that would constitute an event of default under these indentures permitting the acceleration of the applicable senior notes in defined circumstances.  If RAIT failed to repay any senior notes that were accelerated, it could trigger cross defaults under, and ultimately the acceleration of, other RAIT indebtedness.  RAIT expects that these financial covenants will restrict RAIT’s and these subsidiaries’ ability to incur such debt for the foreseeable future because RAIT does not expect that these financial covenants would be met on such pro forma basis in the event RAIT or such subsidiaries incurred

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debt.  RAIT and these subsidiaries do not plan to incur any such debt, absent a pro forma use of proceeds that would permit compliance with these covenants.

Cash Flows

As of June 30, 2018 and 2017, we maintained cash and cash equivalents of approximately $72.2 million and $89.3 million, respectively, and restricted cash of approximately $113.1 million and $193.6 million, respectively. Our cash and cash equivalents were generated from the following activities (dollars in thousands):

 

 

Cash flow from operating activities for the six months ended June 30, 2018, as compared to the same period in 2017, increased $130.0 million primarily due to gross proceeds received of $122.7 million from the sale of certain loans during the six months ended June 30, 2018 partially offset by lower earnings as a result of lower loan volumes and the timing of payments for various accounts payable, accrued expenses and other liabilities.

The cash inflow for investing activities for the six months ended June 30, 2018 was primarily due to loan repayments of $170.0 million outpacing new investments in loans of $50.8 million. The cash inflow for investing activities for the six months ended June 30, 2017 was substantially due to $274.6 million of loan repayments and $141.6 million of proceeds from real estate sales outpacing new investments in loans of $263.5 million.  

The cash outflow from our financing activities during the six months ended June 30, 2018 was primarily due to repayments of indebtedness of $234.4 million. The cash outflow from our financing activities during the six months ended June 30, 2017 was primarily due to repayments of indebtedness of $416.5 million offset by proceeds from the issuance of other indebtedness of $17.0 million and net proceeds from the issuance of indebtedness from our securitizations and on our warehouse facilities of $281.2 million.  

 

As a REIT, we evaluate our dividend coverage based on our cash flow from operating activities, excluding acquisition and integration expenses, the origination and sale of loans, and changes in assets and liabilities. During the six months ended June 30, 2018, we paid distributions to our preferred shareholders of $11.2 million and generated cash flows from operating activities, before acquisition expenses, origination and sale of loans, and changes in assets and liabilities of $(4.6) million.  The excess distributions were primarily funded through cash flow from previously available cash and proceeds from the sale of loans, which is included in cash flows from operating activities in the consolidated statement of cash flows, and totaled $122.7 million for the six months ended June 30, 2018.

 

Capitalization

 

Refer to Note 5: Indebtedness, Note 9: Series D Preferred Shares, and Note 10: Shareholders’ Equity in the Notes to Consolidated Financial Statements, for information regarding our capitalization.

 

Due to the current trading levels of our publicly traded securities and other factors, we do not expect for the foreseeable future to generate liquidity from the proceeds from future offerings of our securities, including through our dividend reinvestment and share purchase plan, the 2014 Preferred ATM agreement or the COD sales agreement. With respect to sales pursuant to the 2014 Preferred ATM agreement or the COD sales agreement, these factors include our need to prepare and file a current prospectus supplement to our current universal shelf registration statement on Form S-3, or the shelf registration statement, to register any such sales and our limited eligibility to use our shelf registration statement since filing the Annual Report.  Pursuant to Instruction I.B.6 to Form S-3, or the Baby Shelf rules, since filing the Annual Report, we may not sell more than the equivalent of one-third of our public float during any 12 consecutive month period so long as our public float is less than $75.0 million, and we will not be able to rely on the Baby Shelf rules to use our universal shelf registration statement if our securities cease to be listed on a national securities exchange.  In addition, we are not an issuer eligible to use our shelf registration statement while we have dividend arrearages until we file our Annual Report for 2018.

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Off-Balance Sheet Arrangements and Commitments

 

There have been no material changes in off-balance sheet arrangements or commitments during the three and six months ended June 30, 2018 from the disclosures included in our Annual Report on Form 10-K for the year ended December 31, 2017.

 

Critical Accounting Estimates and Policies

 

Our Annual Report on Form 10-K for the year ended December 31, 2017 contains a discussion of our critical accounting policies. On January 1, 2018 we adopted a number of new accounting pronouncements and revised our accounting policies. See Note 2: Summary of Significant Accounting Policies in the Notes to Consolidated Financial Statements. Management discusses our critical accounting policies and management’s judgments and estimates with the audit committee of our Board.

 

 

There have been no material changes in quantitative and qualitative market risks during the three and six months ended June 30, 2018 from the disclosures included in our Annual Report on Form 10-K for the year ended December 31, 2017.

 

 

Disclosure Controls and Procedures

 

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

 

Under the supervision of our chief executive officer and chief financial officer and with the participation of our disclosure committee, we have carried out an evaluation of the effectiveness of our disclosure controls and procedures as of the end of the period covered by this report. Based upon that evaluation, our chief executive officer and chief financial officer concluded that our disclosure controls and procedures are not effective at the reasonable assurance level. Based upon a previously identified material weakness in our internal control over financial reporting, as of December 31, 2017, related to an ineffective continuous risk assessment process and monitoring activities to modify financial reporting processes and related internal controls impacted by changes in the business operations which led to ineffective process level controls over the accuracy of data inputs used in the valuation of a financial liability and not investigating and resolving the difference identified by a reconciliation control related to a financial asset, our chief executive officer and chief financial officer concluded that our disclosure controls and procedures were not effective at June 30, 2018.

 

Management is in the process of remediating the material weakness. Management is implementing enhancements to its risk assessment process and monitoring activities to ensure timely identification of changes in the business operations such that necessary changes in financial reporting processes and related internal controls are implemented. Notwithstanding this material weakness, RAIT’s management, including the CEO and CFO, has concluded that our consolidated financial statements included in this Form 10-Q fairly present, in all material respects, our financial position, results of operations and cash flows as of the dates, and for the periods presented, in conformity with U.S. generally accepted accounting principles.

 

Changes in Internal Control Over Financial Reporting

 

Except as otherwise stated above, there were no changes in our internal control over financial reporting or in other factors during the quarter ended June 30, 2018, that have materially affected, or were reasonably likely to materially affect, our internal control over financial reporting.

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Part II. OTHER INFORMATION

 

 

General

 

We are involved from time to time in litigation on various matters, including disputes with tenants of owned properties, disputes arising out of agreements to purchase or sell properties and disputes arising out of our loan portfolio. Given the nature of our business activities, these lawsuits are considered routine to the conduct of our business. The result of any particular lawsuit cannot be predicted, because of the very nature of litigation, the litigation process and its adversarial nature, and the jury system. We do not expect that the liabilities, if any, that may ultimately result from such routine legal actions will have a material adverse effect on our consolidated financial position, results of operations or cash flows.

 

RAIT Preferred Funding II, Ltd. v. CWCapital Asset Management LLC, et al.–Index No. 651729/2016 (Sup. Ct. N.Y.)

 

On September 20, 2017, RAIT Preferred Funding II, Ltd., or RAIT II, filed an amended complaint against CWCapital Asset Management, LLC, or CWCapital, Wells Fargo Bank N.A., or Wells Fargo, and U.S. Bank N.A., or U.S. Bank. This action concerns a loan, or the mortgage loan, to a non-party borrower, or the borrower, in 2007.  RAIT II purchased $18.5 million of the mortgage loan for which it holds a promissory note, or note B.  U.S. Bank is the trustee for a securitization trust that purchased the remaining $190.0 million of the mortgage loan and for which it held a promissory note, or note A.  CWCapital is the special servicer and Wells Fargo is the master servicer for the mortgage loan (including note A and note B).  The parties’ rights and obligations are governed by, among other things, a pooling and servicing agreement and a co-lender agreement. The mortgage loan was repaid in May of 2017, and the defendants have alleged that RAIT II was not entitled to receive any payoff of principal under note B pursuant to the subordination and other provisions of the co-lender agreement.  In the amended complaint, RAIT II alleges, among other things, that the defendants breached certain of its obligations under the operative documents and RAIT II should have received, among other things, all of its $18.5 million principal under note B.  On October 11, 2017, CWCapital and U.S. Bank moved to dismiss the amended complaint and on November 13, 2017 Wells Fargo moved to dismiss the amended complaint.  RAIT II filed its opposition to the motions to dismiss on November 27, 2017.  By Decision and Order dated January 29, 2018, the Court denied the defendants’ motions to dismiss the contract claims, leaving intact RAIT II’s breach of contract claims against all defendants.  The Court dismissed RAIT II’s non-contract claims (unjust enrichment, conversion, money had and received, and declaratory judgment) as duplicative of the surviving contract claims.  The litigation is now in the discovery phase.  RAIT Partnership, L.P. serves as the collateral manager and servicer for RAIT II.  The proceedings are still in the initial stages and RAIT II intends to vigorously pursue the matter.

 

 

There have not been any material changes from the risk factors previously disclosed in Item 1A—“Risk Factors” in our Annual Report on Form 10-K for the fiscal year ended December 31, 2017, except as described below.

 

The reverse stock split may adversely affect trading in our common shares.

 

While we are implementing the reverse stock split in response to the possibility that RAIT’s listed securities may be delisted from the NYSE, we cannot assure you that the trading price of our common shares will not decline after the reverse stock split.  We expect that the market for our common shares will become less liquid as a result of the reverse stock split.

 

RAIT’s ability to act as servicer and special servicer for RAIT FL5, RAIT FL6 and RAIT FL8 could be materially adversely affected if RAIT is unable to address DBRS’ concerns.

 

As described above under Part I, Item 2, “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Securitization Summary,” DBRS announced that it had placed all classes of the Floating Rate Notes issued by RAIT FL5, RAIT FL6 and RAIT FL8 under review with negative implications citing concerns over RAIT’s ability to continue to effectively service and special service these transactions due to RAIT’s announcement of the 2018 strategic steps. DBRS announced it would revisit the ratings once additional information becomes available.  RAIT’s ability to act as servicer and special servicer for these securitizations could be materially adversely affected if RAIT is unable to address DBRS’ concerns.

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We withheld the following common shares to satisfy tax withholding obligations during the quarter ending June 30, 2018 arising from the vesting of restricted share awards made pursuant to the RAIT Financial Trust 2017 Incentive Award Plan. These common shares may be deemed to be “issuer purchases” of common shares that are required to be disclosed pursuant to the item.

 

 

 

(b)  In June 2018, the Board determined to suspend the quarterly dividend on RAIT’s 7.75% Series A Cumulative Redeemable Preferred Shares, RAIT’s 8.375% Series B Cumulative Redeemable Preferred Shares, and RAIT’s 8.875% Series C Cumulative Redeemable Preferred Shares. Suspension of the dividends did not constitute an event of default under any of our indebtedness. However, as a result of such suspension, we are in arrears in the payment of dividends with respect to our preferred shares. The table below details the arrearage of our preferred stock dividends.

 

 

 

The disclosure below is intended to satisfy any obligation of ours to provide disclosure pursuant to Item 3.03 “Material Modification to Rights of Security Holders” and Item 5.03 “Amendments to Articles of Incorporation or Bylaws; Change in Fiscal Year” of Form 8-K.

As previously reported in RAIT’s Current Report on Form 8-K filed with the Securities and Exchange Commission on July 20, 2018, or the 7/20/18 8K, on July 19, 2018, pursuant to authority granted to the Board by the shareholders of RAIT through their approval of Proposal 4, or Proposal 4, set forth in RAIT’s Proxy Statement for its 2018 Annual Meeting of Shareholders, the Board authorized a 1-for-50 reverse stock split, or the Reverse Stock Split, of RAIT’s common shares of beneficial interest, par value $0.03 per share, or the Common Shares, to take effect at 4:10 PM Eastern time on Monday, August 13, 2018, or the Effective Date.  As previously reported in the 7/20/18 8K, when the Reverse Stock Split becomes effective, every fifty Common Shares issued and outstanding will be automatically combined into one issued and outstanding Common Share.  As previously reported in the 7/20/18 8K, the Common Shares will begin trading on a split-adjusted basis when the market opens on Tuesday, August 14, 2018. The disclosure concerning the Reverse Stock Split and the adoption of Proposal 4 contained in the 7/20/18 8K is incorporated herein by reference.

On August 6, 2018, RAIT filed articles of amendment, or the Articles of Amendment, to RAIT’s Declaration of Trust with the State Department of Assessments and Taxation of Maryland in order to effect the Reverse Stock Split as of the Effective Date.  The foregoing description of the Articles of Amendment does not purport to be complete and is qualified in its entirety by reference to the full text of the Articles of Amendment filed as Exhibit 3.1.18 hereto and incorporated herein by reference. 

 

The exhibits filed as part of this quarterly report on Form 10-Q are identified below.

 

 

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SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

 

 

 

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