ARBOR REALTY TRUST INC (ABR) FY 2022 MD&A

Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations

You should read the following discussion in conjunction with the sections of this report entitled “Forward-Looking Statements” and”Risk Factors,” along with the historical consolidated financial statements including related notes, included in this report.

35

Table of Contents

Overview

Through our Structured Business, we invest in a diversified portfolio of structured finance assets in the multifamily, SFR and commercial real estate markets, primarily consisting of bridge loans, in addition to mezzanine loans, junior participating interests in first mortgages and preferred and direct equity. We also invest in real estate-related joint ventures and may directly acquire real property and invest in real estate-related notes and certain mortgage-related securities.

Through our Agency Business, we originate, sell and service a range of multifamily finance products through Fannie Mae and Freddie Mac, Ginnie Mae, FHA and HUD. We retain the servicing rights and asset management responsibilities on substantially all loans we originate and sell under the GSE and HUD programs. We are an approved Fannie Mae DUS lender nationally, a Freddie Mac Multifamily Conventional Loan lender, seller/servicer, in New York, New Jersey and Connecticut, a Freddie Mac affordable, manufactured housing, senior housing and SBL lender, seller/servicer, nationally and a HUD MAP and LEAN senior housing/healthcare lender nationally. We also originate and service permanent financing loans underwritten using the guidelines of our existing agency loans sold to the GSEs, which we refer to as “Private Label” loans and originate and sell finance products through CMBS programs. We pool and securitize the Private Label loans and sell certificates in the securitizations to third-party investors, while retaining the servicing rights and APL certificates of the securitization.

We conduct our operations to qualify as a REIT. A REIT is generally not subject to federal income tax on its REIT-taxable income that is distributed to its stockholders, provided that at least 90% of its REIT-taxable income is distributed and provided that certain other requirements are met.

Our operating performance is primarily driven by the following factors:

Net interest income earned on our investments. Net interest income represents the amount by which the interest income earned on our assets exceeds the interest expense incurred on our borrowings. If the yield on our assets increases or the cost of borrowings decreases, this will have a positive impact on earnings. However, if the yield earned on our assets decreases or the cost of borrowings increases, this will have a negative impact on earnings. Net interest income is also directly impacted by the size and performance of our asset portfolio. We recognize the bulk of our net interest income from our Structured Business. Additionally, we recognize net interest income from loans originated through our Agency Business, which are generally sold within 60 days of origination.

Fees and other revenues recognized from originating, selling and servicing mortgage loans through the GSE and HUD programs. Revenue recognized from the origination and sale of mortgage loans consists of gains on sale of loans (net of any direct loan origination costs incurred), commitment fees, broker fees, loan assumption fees and loan origination fees. These gains and fees are collectively referred to as gain on sales, including fee-based services, net. We record income from MSRs at the time of commitment to the borrower, which represents the fair value of the expected net future cash flows associated with the rights to service mortgage loans that we originate, with the recognition of a corresponding asset upon sale. We also record servicing revenue which consists of fees received for servicing mortgage loans, net of amortization on the MSR assets recorded. Although we have long-established relationships with the GSE and HUD agencies, our operating performance would be negatively impacted if our business relationships with these agencies deteriorate. Additionally, we also recognize revenue from originating, selling and servicing our Private Label loans.

Income earned from our structured transactions. Our structured transactions are primarily comprised of investments in equity affiliates, which represent unconsolidated joint venture investments formed to acquire, develop and/or sell real estate-related assets. Operating results from these investments can be difficult to predict and can vary significantly period-to-period. When interest rates rise, the income from these investments can be significantly and negatively impacted, particularly from our investment in a residential mortgage banking business, since rising interest rates generally decrease the demand for residential real estate loans. In addition, we periodically receive distributions from our equity investments. It is difficult to forecast the timing of such payments, which can be substantial in any given quarter. We account for structured transactions within our Structured Business.

Credit quality of our loans and investments, including our servicing portfolio. Effective portfolio management is essential to maximize the performance and value of our loan and investment and servicing portfolios. Maintaining the credit quality of the loans in our portfolios is of critical importance. Loans that do not perform in accordance with their terms may have a negative impact on earnings and liquidity.

36

Table of Contents

COVID-19 Impact. The ongoing effects of COVID-19 created significant disruptions to the U.S. and global economies, which could continue a period of global economic slowdown. Although vaccine availability and usage have continued to increase, which has led to less negative short-term effects, such as travel bans, quarantines, layoffs and shutdowns, the ongoing longer-term macroeconomic effects on inflation, interest rates, capital markets, labor shortages, property values and global supply chains continue to negatively impact many industries, including the U.S. commercial real estate market. Although we have not been significantly impacted by COVID-19 to-date, the impact of COVID-19 on companies continues to evolve, and the extent and duration of the economic fallout from this pandemic to our business, particularly rising inflation, increasing interest rates and dislocation in capital markets, remains unclear and present risk with respect to our financial condition, results of operations, liquidity, and ability to pay distributions.

Significant Developments During 2022

Financing and Capital Markets Activity.

Structured Business Activity.

Agency Business Activity.

Dividend. We raised our quarterly common dividend three times during 2022 to an annual run rate of $1.60 per share, representing an 8% increase over the prior year.

37

Table of Contents

Current Market Conditions, Risks and Recent Trends

As discussed throughout this report, the ongoing COVID-19 pandemic continues to impact the global economy in unprecedented ways, causing significant disruptions and liquidity constraints in many market segments, including the financial services, real estate and credit markets. Although vaccine availability and usage have continued to increase, which has led to less negative short-term effects, such as travel bans, quarantines, layoffs and shutdowns, the ongoing longer-term macroeconomic effects on inflation, interest rates, capital markets, labor shortages, property values and global supply chains continue to negatively impact many industries, including the U.S. commercial real estate market. Although we have not been significantly impacted by COVID-19 to-date, adverse economic conditions have resulted, and may continue to result, in rising interest rates, dislocation in capital markets, declining real estate values of certain asset classes, increased payment delinquencies and defaults and increased loan modifications and foreclosures, all of which could have a significant impact on our future results of operations, financial condition, business prospects and our ability to make distributions to our stockholders.

The Federal Reserve has raised interest rates throughout 2022 to combat inflation and restore price stability and it is expected that rates will continue to rise throughout the first half of 2023, potentially even longer. Currently, rising interest rates will positively impact our net interest income since our structured loan portfolio exceeds our corresponding debt balances and the vast majority of our loan portfolio is floating-rate based on SOFR or LIBOR. In addition, a greater portion of our debt is fixed-rate (convertible and senior unsecured notes), as compared to our structured loan portfolio, and will not reset as interest rates rise. Therefore, increases in interest income due to rising interest rates is likely to be greater than the corresponding increase in interest expense on our variable rate debt. Additionally, we earn interest on our escrow balances, so an increasing interest rate environment will increase our earnings on such balances. See “Quantitative and Qualitative Disclosures about Market Risk” below for additional details. Conversely, such rising interest rates could negatively impact real estate values and limit a borrower’s ability to make debt service payments, which may limit new mortgage loan originations and increase the likelihood of incurring losses from defaulted loans if the reduction in the collateral value is insufficient to repay their loans in full.

We have been very successful in raising capital through various vehicles to grow our businesses. The anticipated continual rise in interest rates and unpredictable geopolitical landscape may cause a further dislocation in the capital markets resulting in a continual reduction of available liquidity. Tightening liquidity conditions in equity and capital markets affect the availability and cost of capital and the increased cost of credit, or degradation in debt financing terms, may impact our ability to identify and execute investments on attractive terms. Periods of volatility and dislocation in the capital markets, as observed recently, could limit our ability to grow our Structured Business since this business is more reliant on the capital markets to grow, but can also present us with unique avenues to participate in other lower cost financing options and build on existing, and create new, relationships with lenders. Since our Agency Business requires limited capital to grow, as originations are financed through warehouse facilities for generally up to 60 days before the loans are sold, tightening liquidity conditions in equity and capital markets should not have a substantial impact on our ability to grow this business.

We are a national originator with Fannie Mae and Freddie Mac, and the GSEs remain the most significant providers of capital to the multifamily market. In November 2022, the FHFA announced that its 2023 Caps for Fannie Mae and Freddie Mac will be $75 billion for each enterprise for a total opportunity of $150 billion, which has decreased from its 2022 loan origination caps of $78 billion for each enterprise. The FHFA has stated that they will continue to monitor the market and reserves the right to increase the 2023 Caps if warranted, however, they will not reduce the 2023 Caps if the market is smaller than initially projected. The 2023 Caps will continue to apply to all multifamily business, have no exclusions, and mandate that 50% be directed towards mission driven, affordable housing. The FHFA has removed the requirement that at least 25% be affordable to residents at or below 60% of AMI to reduce inconsistencies with their Housing Goals regulation. Further, the FHFA has changed certain definitions of mission driven affordable housing and also allows loans to finance energy or water efficiency improvements with units affordable at or below 80% of AMI to be classified as mission-driven, up from 60% AMI in 2022. This increase will allow the GSEs to expand their effort on energy and water conservation measures at workforce housing properties. Our originations with the GSEs are highly profitable executions as they provide significant gains from the sale of our loans, non-cash gains related to MSRs and servicing revenues. Therefore, a decline in our GSE originations could negatively impact our financial results. We are unsure whether the FHFA will impose stricter limitations on GSE multifamily production volume in the future.

38

Table of Contents

Changes in Financial Condition

Assets – Comparison of balances at December 31, 2022 to December 31, 2021:

Our Structured loan and investment portfolio balance was $14.46 billion and $12.16 billion at December 31, 2022 and 2021, respectively. This increase was primarily due to loan originations exceeding loan payoffs and paydowns by $2.33 billion. See below for details.

Our portfolio had a weighted average current interest pay rate of 8.17% and 4.26% at December 31, 2022 and 2021, respectively. Including certain fees earned and costs associated with the structured portfolio, the weighted average current interest rate was 8.42% and 4.62% at December 31, 2022 and 2021, respectively. Our debt that finances our loans and investment portfolio totaled $13.28 billion and $11.17 billion at December 31, 2022 and 2021, respectively, with a weighted average funding cost of 6.22% and 2.33%, respectively, which excludes financing costs. Including financing costs, the weighted average funding rate was 6.50% and 2.61% at December 31, 2022 and 2021, respectively.

Activity from our Structured Business portfolio is comprised of the following ($ in thousands):

​

​

Loans held-for-sale from the Agency Business decreased $739.5 million, primarily from loan sales exceeding originations by $670.4 million as noted in the following table, and the payoff of a $55.0 million Private Label loan. Loan sales included $489.3 million of Private Label loans which were sold in a Private Label loan securitization in the first quarter of 2022. Our GSE loans are generally sold within 60 days, while our Private Label loans are generally expected to be sold and securitized within 180 days from the loan origination date. Activity from our Agency Business portfolio is comprised of the following (in thousands):

​

​

Securities held-to-maturity increased $16.1 million, primarily due to the purchase, at a discount, of $27.6 million of APL certificates in connection with a Private Label securitization, partially offset by principal payments received from underlying loan payoffs from our B Piece bonds.

Investments in equity affiliates decreased $10.5 million, primarily due to $23.8 million in cash distributions received from our investment in a residential mortgage banking business and a $2.4 million other-than-temporary impairment in our North Vermont Avenue venture, partially offset by net fundings totaling $13.1 million on our Fifth Wall (“Fifth Wall”) and AMAC Holdings III LLC (“AMAC III”) ventures and $4.9 million of income from the residential mortgage business.

39

Table of Contents

Other assets increased $101.5 million, primarily due to increases in interest receivables from portfolio growth and increases in the benchmark index rates, along with the $30.1 million acquisition of a multifamily property for full satisfaction of the underlying debt.

Liabilities – Comparison of balances at December 31, 2022 to December 31, 2021:

Credit and repurchase facilities decreased $639.8 million, primarily due to loan sales exceeding originations in our Agency Business as described above.

Securitized debt increased $1.96 billion, primarily due to the issuance of two new CLOs and completion of our first Freddie Mac Q Series securitization, where we issued $2.76 billion of notes and certificates to third-party investors, partially offset by the unwind of a CLO totaling $441.0 million and paydowns on existing CLOs totaling $360.1 million.

Senior unsecured notes increased $105.4 million, primarily due to our issuance of $150.0 million of 8.50% notes, partially offset by the repurchase of $46.2 million of our 5.625% notes.

Convertible senior unsecured notes, net increased $21.0 million, primarily due to the issuance of $287.5 million of 7.50% convertible notes, substantially offset by the redemption of our 4.75% convertible notes totaling $264.0 million.

Due to borrowers decreased $35.4 million, primarily due to the funding of previously committed loan originations, partially offset by unfunded commitments on new originations in our Structured Business.

Other liabilities increased $47.9 million, primarily due to a $34.9 million increase in interest payable from greater debt balances on portfolio growth and higher benchmark interest rates and $20.9 million of financing placed on the multifamily property acquisition described above, partially offset by a decrease in accrued commissions from lower origination volume in 2022 compared to 2021.

Equity

During 2022, we sold 26,335,788 shares of our common stock through our “At-The-Market” equity agreement and a public offering, raising net proceeds totaling $408.7 million.

During 2022, we completed a public offering of an additional 3,292,000 shares of our Series F preferred stock, generating net proceeds of $77.1 million.

See Note 16 for details of our dividends declared and our deferred compensation transactions during 2022.

40

Table of Contents

Agency Servicing Portfolio

The following table sets forth the characteristics of our loan servicing portfolio collateralizing our mortgage servicing rights and servicing revenue ($ in thousands):

​

​

Our Agency Business servicing portfolio represents commercial real estate loans, which are generally transferred or sold within 60 days from the date the loan is funded. Primarily all loans in our servicing portfolio are collateralized by multifamily properties. In addition, we are generally required to share in the risk of any losses associated with loans sold under the Fannie Mae DUS program, see Note 11.

41

Table of Contents

Comparison of Results of Operations for Years Ended December 31, 2022 and 2021

The following table provides our consolidated operating results ($ in thousands):

​

nm – not meaningful

42

Table of Contents

The following table presents the average balance of our Structured Business interest-earning assets and interest-bearing liabilities, associated interest income (expense) and the corresponding weighted average yields ($ in thousands):

​

​

Net Interest Income

The increase in interest income was mainly due to a $476.6 million increase from our Structured Business, primarily due to a significant increase in our average core interest-earning assets from loan originations exceeding loan runoff, along with increases in the average yield on core interest-earning assets. The increase in the average yield was primarily due to increases in benchmark index rates, partially offset by lower rates on originations, as compared to loan runoff.

The increase in interest expense was mainly due to a $344.2 million increase from our Structured Business, primarily due to an increase in the average balance of our interest-bearing liabilities, due to the significant growth in our loan portfolio and the issuance of additional unsecured debt, along with an increase in the average cost of our interest-bearing liabilities, mainly from increases in benchmark index rates.

Agency Business Revenue

The decrease in gain on sales, including fee-based services, net was primarily due to a 30% decrease in the sales margin from 1.92% to 1.34%, along with a 15% decrease ($976.5 million) in loan sales volume. The decrease in the sales margin was primarily due to lower margins received on our Private Label and SFR loan sales.

The decrease in income from MSRs was primarily due to a 34% decrease in the MSR rate from 2.05% to 1.35% and a 19% decrease ($1.20 billion) in loan commitment volume. The decrease in the MSR rate was primarily due to lower average servicing fees on Fannie Mae loan commitments, due to a reduction in servicing rates on newer loans and a larger average loan size which carries lower servicing fees.

The increase in servicing revenue, net was primarily due to an increase in earnings on escrow balances as a result of increases in benchmark index rates as well as higher escrow balances during 2022.

43

Table of Contents

Other Income

The gains and losses on derivative instruments in 2022 and 2021, respectively, were related to changes in the fair values of our Swaps and forward sale commitments held by our Agency Business.

The decrease in other income, net during 2022 was primarily due to $15.7 million of unrealized impairment losses recorded on certain loans held-for sale in our Agency Business and $11.2 million of losses recognized in 2022 related to sales of bridge loans in our Structured Business.

Other Expenses

The decrease in employee compensation and benefits expense was primarily due to a decrease in commissions from lower GSE/Agency loan sales volume, partially offset by an increase in headcount as a result of the portfolio growth in both business segments.

The increase in selling and administrative expenses was primarily due to higher professional fees (legal and consulting) in connection with the growth in both business segments, as well as increases in travel and events as travel continues to gain momentum from COVID-19.

We recorded CECL provisions totaling $23.0 million during 2022 and a provision recovery of $27.3 million during 2021. The CECL provision in 2022 primarily reflects increases in our loans and investments balance, as a result of portfolio growth, along with rising interest rates and inflation in our CECL models for our Structured Business, which predominantly consists of variable rate loans. The provision recovery during 2021 was primarily due to the reversal of CECL reserves in both business segments in connection with improved market conditions and expected future forecasts.

We recorded an accrual of $7.4 million in 2022 pertaining to the settlement of the Extended Stay litigation as described in Note 14.

Loss on Extinguishment of Debt

The loss on extinguishment of debt in 2022 and 2021 represents deferred financing fees recognized in connection with the unwind of CLOs, along with the 2022 repurchase of our 4.75% convertible notes.

Gain on Sale of Real Estate

The gain recorded in 2021 was from our acquisition of an office property (for full satisfaction of the underlying debt) with an appraisal value in excess of the outstanding loan and the sale of a repurchased Fannie Mae loan.

Income from Equity Affiliates

Income from equity affiliates in 2022 primarily reflects $11.1 million in distributions received from our Lexford venture, $4.9 million of income from our investment in a residential mortgage banking business, and $2.6 million from an equity participation interest on a property that was sold. The income in 2022 was partially offset by a $2.4 million other-than-temporary impairment in our North Vermont Avenue investment. Income from equity affiliates in 2021 primarily reflects $34.6 million of income from our residential mortgage business. The higher income in 2021 from the residential mortgage business was driven by the historically low interest rates and strength in the residential housing market during 2021.

Provision for Income Taxes

In 2022, we recorded a tax provision of $17.5 million, which consisted of a current tax provision of $19.2 million and a deferred tax benefit of $1.7 million. In 2021, we recorded a tax provision of $46.3 million, which consisted of current and deferred tax provisions of $35.4 million and $10.9 million, respectively. The decrease in the tax provision was primarily due to lower income generated from our investment in a residential banking business and a decrease in the pre-tax income from our Agency Business.

44

Table of Contents

Preferred Stock Dividends

The increase in preferred stock dividends was due to the issuances of our Series D, E and F preferred stock, which included a significantly larger number of shares than our Series A, B and C preferred stock that were redeemed in the second quarter of 2021.

Net Income Attributable to Noncontrolling Interest

The noncontrolling interest relates to the outstanding operating partnership units (“OP Units”) issued as part of the 2016 acquisition of ACM’s agency platform (the “Acquisition”). There were 16,293,589 OP Units and 16,325,095 OP Units outstanding at December 31, 2022 and 2021, respectively, which represented 8.4% and 9.7% of our outstanding stock at December 31, 2022 and 2021, respectively.

Comparison of Results of Operations for Years Ended December 31, 2021 and 2020

For a discussion of our results of operations for the year ended December 31, 2021 compared to the year ended December 31, 2020, please refer to Item 7 of Part II, “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in our Annual Report on Form 10-K for the year ended December 31, 2021, which was filed with the SEC on February 18, 2022, and is available on the SEC’s website at www.sec.gov and the “Investor Relations” section of our website at www.arbor.com.

Liquidity and Capital Resources

Sources of Liquidity. Liquidity is a measure of our ability to meet our potential cash requirements, including ongoing commitments to repay borrowings, satisfaction of collateral requirements under the Fannie Mae DUS risk-sharing agreement and, as an approved designated seller/servicer of Freddie Mac’s SBL program, operational liquidity requirements of the GSE agencies, fund new loans and investments, fund operating costs and distributions to our stockholders, as well as other general business needs. Our primary sources of funds for liquidity consist of proceeds from equity and debt offerings, proceeds from CLOs and securitizations, debt facilities and cash flows from operations. We closely monitor our liquidity position and believe our existing sources of funds and access to additional liquidity will be adequate to meet our liquidity needs.

The ongoing COVID-19 pandemic has contributed to adverse economic and market conditions, causing significant disruptions and liquidity constraints in many market segments, including the financial services, real estate and credit markets, while adding to ongoing longer-term macroeconomic effects on inflation, interest rates and capital markets. We are monitoring the COVID-19 pandemic and its impact on our financing sources, borrowers and their tenants, as well as the economy as a whole, including the tightening liquidity conditions in equity and capital markets. To the extent that our financing sources, borrowers and their tenants continue to be impacted by the pandemic, or by the other risks disclosed in our filings with the SEC, it would have a material adverse effect on our liquidity and capital resources.

As described in Note 10, certain of our repurchase facilities include margin call provisions associated with changes in interest spreads which are designed to limit the lenders credit exposure. If we experience significant decreases in the value of the properties serving as collateral under these repurchase agreements, which is set by the lenders based on current market conditions, the lenders have the right to require us to repay all, or a portion, of the funds advanced, or provide additional collateral.

We had $13.28 billion in total structured debt outstanding at December 31, 2022. Of this total, $9.73 billion, or 73%, does not contain mark-to-market provisions and is comprised of non-recourse securitized debt, senior unsecured debt and junior subordinated notes, the majority of which have maturity dates in 2024, or later. The remaining $3.55 billion of debt is in credit and repurchase facilities with several different banks that we have long-standing relationships with. While we expect to extend or renew all of our facilities as they mature, we cannot provide assurance that they will be extended or renewed on as favorable terms.

As of February 8, 2023, we had approximately $685.0 million in cash and $420.0 million of replenishable cash available under our CLO vehicles, as well as other liquidity sources. In addition to our ability to extend our credit and repurchase facilities and raise funds from equity and debt offerings, we also have a $28.00 billion agency servicing portfolio at December 31, 2022, which is mostly prepayment protected and generates approximately $115.0 million per year in recurring cash flow.

At December 31, 2022, we had $2.49 billion of debt that was subject to margin calls related to changes in interest spreads.

45

Table of Contents

To maintain our status as a REIT under the Internal Revenue Code, we must distribute annually at least 90% of our REIT-taxable income. These distribution requirements limit our ability to retain earnings and thereby replenish or increase capital for operations. However, we believe that our capital resources and access to financing will provide us with financial flexibility and market responsiveness at levels sufficient to meet current and anticipated capital and liquidity requirements.

Cash Flows. Cash flows provided by operating activities totaled $1.10 billion during 2022 and consisted primarily of net cash inflows of $650.4 million as a result of loan sales exceeding loan originations in our Agency Business and net income of $353.8 million, as well as certain other non-cash net income adjustments.

Cash flows used in investing activities totaled $2.32 billion during 2022. Loan and investment activity (originations and payoffs/paydowns) comprise the majority of our investing activities. Loan originations from our Structured Business totaling $5.96 billion, net of payoffs and paydowns of $3.42 billion and proceeds from the sale of $397.3 million of structured loans, resulted in net cash outflows of $2.13 billion.

Cash flows provided by financing activities totaled $1.57 billion during 2022 and consisted primarily of net proceeds of $1.96 billion from securitized debt activity, $486.3 million of proceeds from the issuance of common and preferred stock and $124.6 million from senior unsecured notes activity, partially offset by net cash outflows of $617.0 million from debt facility activities (facility paydowns were greater than financed loan originations) and $321.7 million of distributions to our stockholders and OP Unit holders.

Agency Business Requirements. The Agency Business is subject to supervision by certain regulatory agencies. Among other things, these agencies require us to meet certain minimum net worth, operational liquidity and restricted liquidity collateral requirements, purchase and loss obligations and compliance with reporting requirements. Our adjusted net worth and operational liquidity exceeded the agencies’ requirements at December 31, 2022. Our restricted liquidity and purchase and loss obligations were satisfied with letters of credit totaling $69.0 million. See Note 14 for details about our performance regarding these requirements.

We also enter into contractual commitments with borrowers providing rate lock commitments while simultaneously entering into forward sale commitments with investors. These commitments are outstanding for short periods of time (generally less than 60 days) and are described in Note 12.

Debt Facilities. We maintain various forms of short-term and long-term financing arrangements. Borrowings underlying these arrangements are primarily secured by a significant amount of our loans and investments and substantially all our loans held-for-sale. The following is a summary of our debt facilities (in thousands):

46

Table of Contents

We utilize our credit and repurchase facilities primarily to finance our loan originations on a short-term basis prior to loan securitizations, including through CLOs. The timing, size and frequency of our securitizations impact the balances of these borrowings and produce some fluctuations. The following table provides additional information regarding the balances of our borrowings (in thousands):

​

​

Our debt facilities, including their restrictive covenants, are described in Note 10.

Off-Balance-Sheet Arrangements. At December 31, 2022, we had no off-balance-sheet arrangements.

Inflation. The Federal Reserve has raised interest rates throughout 2022 to combat inflation and restore price stability and it is expected that rates will continue to rise throughout the first half of 2023, potentially even longer. Currently, rising interest rates will positively impact our net interest income since our structured loan portfolio exceeds our corresponding debt balances and the vast majority of our loan portfolio is floating-rate based on SOFR or LIBOR. In addition, a greater portion of our debt is fixed-rate (convertible and senior unsecured notes), as compared to our structured loan portfolio, and will not reset as interest rates rise. Therefore, increases in interest income due to rising interest rates is likely to be greater than the corresponding increase in interest expense on our variable rate debt. See “Quantitative and Qualitative Disclosures about Market Risk” below for additional details.

Derivative Financial Instruments

We enter into derivative financial instruments in the normal course of business to manage the potential loss exposure caused by fluctuations of interest rates. See Note 12 for details.

Critical Accounting Estimates

Management’s discussion and analysis of financial condition and results of operations is based upon our consolidated financial statements, which have been prepared in accordance with the Financial Accounting Standards Board (“FASB”) Accounting Standards Codification(TM), the authoritative reference for accounting principles generally accepted in the U.S. (“GAAP”). The preparation of financial statements in conformity with GAAP requires the use of estimates and assumptions that could affect the reported amounts in our consolidated financial statements. Actual results could differ from these estimates.

A summary of our critical accounting policies is presented in Note 2. Many of these accounting policies require judgment and the use of estimates and assumptions when applying these policies in the preparation of our consolidated financial statements. Each quarter, we assess these estimates and assumptions based on several factors, including historical experience, which we believe to be reasonable under the circumstances. These estimates are subject to change in the future if any of the underlying assumptions or factors change.

47

Table of Contents

Non-GAAP Financial Measures

Distributable Earnings. We are presenting distributable earnings because we believe it is an important supplemental measure of our operating performance and is useful to investors, analysts and other parties in the evaluation of REITs and their ability to provide dividends to stockholders. Dividends are one of the principal reasons investors invest in REITs. To maintain REIT status, REITs are required to distribute at least 90% of their REIT-taxable income. We consider distributable earnings in determining our quarterly dividend and believe that, over time, distributable earnings is a useful indicator of our dividends per share.

We define distributable earnings as net income (loss) attributable to common stockholders computed in accordance with GAAP, adjusted for accounting items such as depreciation and amortization (adjusted for unconsolidated joint ventures), non-cash stock-based compensation expense, income from MSRs, amortization and write-offs of MSRs, gains/losses on derivative instruments primarily associated with Private Label loans not yet sold and securitized, changes in fair value of GSE-related derivatives that temporarily flow through earnings (net of any tax impact), deferred tax provision (benefit), CECL provisions for credit losses (adjusted for realized losses as described below), amortization of the convertible senior notes conversion option (in comparative periods prior to 2022) and gains/losses on the receipt of real estate from the settlement of loans (prior to the sale of the real estate). We also add back one-time charges such as acquisition costs and one-time gains/losses on the early extinguishment of debt and redemption of preferred stock.

We reduce distributable earnings for realized losses in the period we determine that a loan is deemed nonrecoverable in whole or in part. Loans are deemed nonrecoverable upon the earlier of: (1) when the loan receivable is settled (i.e., when the loan is repaid, or in the case of foreclosure, when the underlying asset is sold); or (2) when we determine that it is nearly certain that all amounts due will not be collected. The realized loss amount is equal to the difference between the cash received, or expected to be received, and the book value of the asset.

Distributable earnings is not intended to be an indication of our cash flows from operating activities (determined in accordance with GAAP) or a measure of our liquidity, nor is it entirely indicative of funding our cash needs, including our ability to make cash distributions. Our calculation of distributable earnings may be different from the calculations used by other companies and, therefore, comparability may be limited.

Distributable earnings are as follows ($ in thousands, except share and per share data):

​

48

Table of Contents