Front Yard Residential Corp - FORM 10-Q - November 7, 2017

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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549

FORM 10-Q

x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2017

OR

o TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR TRANSITION PERIOD FROM __________ TO __________

COMMISSION FILE NUMBER: 001-35657

resi-logoa05a01a07.jpg

Altisource Residential Corporation
(Exact name of registrant as specified in its charter)

MARYLAND
46-0633510
(State or other jurisdiction of incorporation or organization)
(I.R.S. Employer Identification No.)

c/o Altisource Asset Management Corporation
5100 Tamarind Reef
Christiansted, United States Virgin Islands 00820
(Address of principal executive office)

(340) 692-1055
(Registrant’s telephone number, including area code)

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 x  No o

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 during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes x  No o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):
Large Accelerated Filer
o
 
Accelerated Filer
x
Non-Accelerated Filer
o
(Do not check if a smaller reporting company)
Smaller Reporting Company
o
 
 
 
Emerging Growth Company
o

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. o

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

As of October 31, 2017, 53,447,950 shares of our common stock were outstanding.


Altisource Residential Corporation
September 30, 2017
Table of Contents


i


References in this report to “we,” “our,” “us” or the “Company” refer to Altisource Residential Corporation and its consolidated subsidiaries, unless otherwise indicated. References in this report to “AAMC” refer to Altisource Asset Management Corporation and its consolidated subsidiaries, unless otherwise indicated.

Special note on forward-looking statements

Our disclosure and analysis in this Quarterly Report on Form 10-Q contain “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended (the “Securities Act”), and Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”). In some cases, you can identify forward-looking statements by the use of forward-looking terminology such as “may,” “will,” “should,” “expects,” “intends,” “plans,” “anticipates,” “believes,” “estimates,” “predicts” or “potential” or the negative of these words and phrases or similar words or phrases that are predictions of or indicate future events or trends and that do not relate solely to historical matters. You can also identify forward-looking statements by discussions of strategy, plans or intentions.

The forward-looking statements contained in this report reflect our current views about future events and are subject to numerous known and unknown risks, uncertainties, assumptions and changes in circumstances that may cause our actual results to differ significantly from those expressed in any forward-looking statement. Factors that may materially affect such forward-looking statements include, but are not limited to:

•
our ability to implement our business strategy;
•
our ability to make distributions to our stockholders;
•
our ability to acquire assets for our portfolio, including difficulties in identifying single-family rental assets and properties to acquire;
•
our ability to sell residential mortgage assets or non-rental real estate owned on favorable terms;
•
the impact of changes to the supply of, value of and the returns on single-family rental and mortgage assets;
•
our ability to complete proposed transactions in accordance with anticipated terms and on a timely basis or at all;
•
our ability to successfully integrate newly acquired properties into our portfolio of single-family rentals;
•
our ability to predict our costs;
•
our ability to effectively compete with our competitors;
•
our ability to apply the proceeds from financing activities or residential mortgage loan and non-rental real estate owned asset sales to target assets in a timely manner;
•
changes in the market value of our acquired real estate owned and single-family rental properties;
•
our ability to successfully modify or otherwise resolve sub-performing and non-performing loans;
•
our ability to convert residential mortgage loans to rental properties and generate attractive returns;
•
changes in interest rates and in the market value of the collateral underlying our sub-performing and non-performing loan portfolios;
•
our ability to obtain and access financing arrangements on favorable terms or at all;
•
our ability to maintain adequate liquidity;
•
our ability to retain our engagement of AAMC;
•
the failure of Altisource Portfolio Solutions S.A. or Main Street Renewal, LLC to effectively perform their obligations under various agreements with us;
•
the failure of our mortgage loan servicers to effectively perform their servicing obligations;
•
our failure to maintain qualification as a REIT;
•
our failure to maintain our exemption from registration under the Investment Company Act;
•
the impact of adverse real estate, mortgage or housing markets;
•
the impact of adverse legislative, regulatory or tax changes; and
•
general economic and market conditions.

While forward-looking statements reflect our good faith beliefs, assumptions and expectations, they are not guarantees of future performance. Such forward-looking statements speak only as of their respective dates, and we assume no obligation to update them to reflect changes in underlying assumptions or factors, new information or otherwise. For a further discussion of these and other factors that could cause our future results to differ materially from any forward-looking statements, please see Part II, Item 1A in this Quarterly Report on Form 10-Q and “Item 1A. Risk factors” in our Annual Report on Form 10-K for the year ended December 31, 2016.

ii


Part I
 
Item 1. Financial Statements (Unaudited)

Altisource Residential Corporation
Condensed Consolidated Balance Sheets
(In thousands, except share and per share amounts)


September 30, 2017

December 31, 2016
 
(Unaudited)
 
 
Assets:



Real estate held for use:



Land
$
265,129


$
220,800

Rental residential properties
1,137,343


926,320

Real estate owned
75,568


289,141

Total real estate held for use
1,478,040


1,436,261

Less: accumulated depreciation
(61,192
)

(27,541
)
Total real estate held for use, net
1,416,848


1,408,720

Real estate assets held for sale
124,405


133,327

Mortgage loans at fair value
67,321


568,480

Cash and cash equivalents
169,941


106,276

Restricted cash
42,191


22,947

Accounts receivable, net
22,130


34,931

Prepaid expenses and other assets
9,382


10,166

Total assets
$
1,852,218


$
2,284,847





Liabilities:



Repurchase and loan agreements
$
1,100,106


$
1,220,972

Other secured borrowings
—


144,099

Accounts payable and accrued liabilities
58,591


51,442

Related party payables
4,680


5,266

Total liabilities
1,163,377


1,421,779





Commitments and contingencies (Note 7)
—


—





Equity:



Common stock, $0.01 par value, 200,000,000 authorized shares; 53,447,950 shares issued and outstanding as of September 30, 2017 and 53,667,631 shares issued and outstanding as of December 31, 2016
534


537

Additional paid-in capital
1,180,012


1,182,245

Accumulated deficit
(491,705
)

(319,714
)
Total equity
688,841


863,068

Total liabilities and equity
$
1,852,218


$
2,284,847



See accompanying notes to condensed consolidated financial statements.
1

Altisource Residential Corporation
Condensed Consolidated Statements of Operations
(In thousands, except share and per share amounts)
(Unaudited)


Three months ended September 30, 2017
 
Three months ended September 30, 2016

Nine months ended September 30, 2017

Nine months ended September 30, 2016
Revenues:

 





Rental revenues
$
32,960

 
$
9,590


$
88,680


$
24,242

Change in unrealized gain on mortgage loans
(28,128
)
 
(41,152
)

(157,817
)

(155,306
)
Net realized (loss) gain on sales of mortgage loans
(2,700
)
 
9,447


73,077


80,506

Net realized gain on sales of real estate
21,369

 
26,307


62,132


94,833

Interest income
164

 
209


341


425

Total revenues
23,665

 
4,401


66,413


44,700

Expenses:

 




 
Residential property operating expenses
17,493

 
15,011


55,089


51,215

Real estate depreciation and amortization
15,309

 
5,149


45,288


12,790

Acquisition fees and costs
283

 
5,202


659


8,306

Selling costs and impairment
7,352

 
11,570


30,686


50,003

Mortgage loan servicing costs
802

 
7,792


9,672


27,960

Interest expense
14,240

 
10,174


44,965


37,060

Share-based compensation
358

 
419


2,824


493

General and administrative
3,452

 
2,081


8,656


8,607

Management fees to AAMC
4,129

 
4,658


13,377


14,234

Total expenses
63,418

 
62,056


211,216


210,668

Operating loss
(39,753
)
 
(57,655
)
 
(144,803
)
 
(165,968
)
Losses resulting from natural disasters
(6,021
)
 
—

 
(6,021
)
 
—

Insurance recoveries related to natural disasters
2,886

 
—

 
2,886

 
—

Other expense
—

 
—


—


(750
)
Loss before income taxes
(42,888
)
 
(57,655
)

(147,938
)

(166,718
)
Income tax expense (benefit)
28

 
(17
)

42


106

Net loss
$
(42,916
)
 
$
(57,638
)

$
(147,980
)

$
(166,824
)

 
 







Loss per share of common stock - basic:
 
 







Loss per basic share
$
(0.80
)
 
$
(1.06
)

$
(2.77
)

$
(3.05
)
Weighted average common stock outstanding - basic
53,408,288

 
54,178,129


53,508,881


54,722,828

Loss per share of common stock - diluted:


 







Loss per diluted share
$
(0.80
)
 
$
(1.06
)

$
(2.77
)

$
(3.05
)
Weighted average common stock outstanding - diluted
53,408,288

 
54,178,129


53,508,881


54,722,828




 







Dividends declared per common share
$
0.15

 
$
0.15


$
0.45


$
0.60



See accompanying notes to condensed consolidated financial statements.
2

Altisource Residential Corporation
Condensed Consolidated Statements of Stockholders' Equity
(In thousands, except share and per share amounts)
(Unaudited)

 
Common Stock
 
Additional Paid-in Capital
 
Accumulated Deficit
 
Total Equity
 
Number of Shares
 
Amount
 
 
 
December 31, 2016
53,667,631

 
$
537

 
$
1,182,245

 
$
(319,714
)
 
$
863,068

Common shares issued under share-based compensation plans, net of shares withheld for employee taxes
150,613

 
1

 
104

 
—

 
105

Repurchases of common stock
(370,294
)
 
(4
)
 
(5,161
)
 
—

 
(5,165
)
Dividends on common stock ($0.45 per share)
—

 
—

 
—

 
(24,011
)
 
(24,011
)
Share-based compensation
—

 
—

 
2,824

 
—

 
2,824

Net loss
—

 
—

 
—

 
(147,980
)
 
(147,980
)
September 30, 2017
53,447,950

 
$
534

 
$
1,180,012

 
$
(491,705
)
 
$
688,841



 
Common Stock
 
Additional Paid-in Capital
 
Accumulated Deficit
 
Total Equity
 
Number of Shares
 
Amount
 
 
 
December 31, 2015
55,581,005

 
$
556

 
$
1,202,418

 
$
(50,617
)
 
$
1,152,357

Common shares issued under share-based compensation plans, net of shares withheld for employee taxes
18,707

 
—

 
30

 
—

 
30

Repurchases of common stock
(1,730,070
)
 
(17
)
 
(18,767
)
 
—

 
(18,784
)
Dividends on common stock ($0.60 per share)
—

 
—

 
—

 
(32,874
)
 
(32,874
)
Share-based compensation
—

 
—

 
493

 
—

 
493

Net loss
—

 
—

 
—

 
(166,824
)
 
(166,824
)
September 30, 2016
53,869,642

 
$
539

 
$
1,184,174

 
$
(250,315
)
 
$
934,398



See accompanying notes to condensed consolidated financial statements.
3

Altisource Residential Corporation
Condensed Consolidated Statements of Cash Flows
(In thousands)
(Unaudited)
 
Nine months ended September 30, 2017

Nine months ended September 30, 2016
Operating activities:
 
 
 
Net loss
$
(147,980
)
 
$
(166,824
)
Adjustments to reconcile net loss to net cash used in operating activities:
 
 
 
Change in unrealized gain on mortgage loans
157,817

 
155,306

Net realized gain on sales of mortgage loans
(73,077
)
 
(80,506
)
Net realized gain on sales of real estate
(62,132
)
 
(94,833
)
Real estate depreciation and amortization
45,288

 
12,790

Selling costs and impairment
30,686

 
50,003

Accretion of interest on re-performing mortgage loans
—

 
(107
)
Share-based compensation
2,824

 
493

Amortization of deferred financing costs
5,904

 
8,840

Changes in operating assets and liabilities:
 
 
 
Accounts receivable, net
(4,925
)
 
6,612

Related party receivables
—

 
2,180

Deferred leasing costs
(598
)
 
(69
)
Prepaid expenses and other assets
(4,205
)
 
(4,729
)
Accounts payable and accrued liabilities
4,377

 
19,031

Related party payables
(586
)
 
4,926

Net cash used in operating activities
(46,607
)
 
(86,887
)
Investing activities:
 
 
 
Investment in real estate
(61,738
)
 
(291,688
)
Investment in renovations
(26,235
)
 
(38,334
)
Real estate tax advances
(3,964
)
 
(7,791
)
Mortgage loan resolutions and dispositions
470,591

 
508,712

Mortgage loan payments
6,648

 
16,438

Disposition of real estate
211,974

 
315,973

Investment in derivative financial instrument
—

 
(55
)
Net cash provided by investing activities
597,276

 
503,255

Financing activities:
 
 
 
Proceeds from exercise of stock options
243

 
51

Payment of tax withholdings on share-based compensation plan awards
(138
)
 
(21
)
Repurchase of common stock
(5,165
)
 
(18,784
)
Dividends on common stock
(24,149
)
 
(30,206
)
Repayments of other secured debt
(144,971
)
 
(348,565
)
Proceeds from repurchase and loan agreements
111,088

 
392,506

Repayments of repurchase and loan agreements
(400,269
)
 
(460,025
)
Payment of deferred financing costs
(4,399
)
 
(8,320
)
Net cash used in financing activities
(467,760
)
 
(473,364
)
Net change in cash, cash equivalents and restricted cash
82,909

 
(56,996
)
Cash, cash equivalents and restricted cash as of beginning of the period
129,223

 
137,268

Cash, cash equivalents and restricted cash as of end of the period
$
212,132

 
$
80,272

 
 
 
 

See accompanying notes to condensed consolidated financial statements.
4

Altisource Residential Corporation
Condensed Consolidated Statements of Cash Flows (continued)
(In thousands)
(Unaudited)

 
Nine months ended September 30, 2017
 
Nine months ended September 30, 2016
Supplemental disclosure of cash flow information:
 
 
 
Cash paid for interest
$
39,715

 
$
27,983

Income taxes paid
28

 
180

Seller financing of assets acquired
167,682

 
489,259

Transfer of mortgage loans to real estate owned, net
42,320

 
168,395

Changes in accrued capital expenditures
2,910

 
(1,695
)
Changes in receivables from mortgage loan resolutions and dispositions, payments and real estate tax advances to borrowers, net
(6,319
)
 
(157
)
Changes in receivables from real estate owned dispositions
(10,266
)
 
(11,295
)
Dividends declared but not paid
8,209

 
8,226



See accompanying notes to condensed consolidated financial statements.
5

Altisource Residential Corporation
Notes to Condensed Consolidated Financial Statements
September 30, 2017
(Unaudited)

1. Organization and Basis of Presentation

Altisource Residential Corporation (“we,” “our,” “us,” or the “Company”) is a Maryland real estate investment trust (“REIT”) focused on acquiring, owning and managing single-family rental (“SFR”) properties throughout the United States. We conduct substantially all of our activities through our wholly owned subsidiary, Altisource Residential, L.P. (“ARLP”), and its subsidiaries. On December 21, 2012, we became a stand-alone publicly traded company with an initial capital contribution of $100 million.

We employ a diversified SFR property acquisition strategy that includes acquiring large portfolios and smaller pools of SFR properties from a variety of market participants. In 2015, we commenced the disposition of sub-performing and non-performing mortgage loans (“NPLs”) and real estate owned (“REO”) properties that we had previously acquired in order to create additional liquidity and purchasing power to build our rental portfolio. As of September 30, 2017, we had disposed of the substantial majority of our remaining NPL portfolio and REO properties and had increased our rental portfolio to more than 10,000 homes.

We are managed by Altisource Asset Management Corporation (“AAMC” or our “Manager”). As we do not have any employees, AAMC provides us with dedicated personnel to administer our business and perform certain of our corporate governance functions. AAMC also provides portfolio management services in connection with our acquisition and management of SFR properties and the ongoing management of our remaining residential mortgage loans and REO properties. See Note 8 for a description of this related party relationship.

We have property management contracts with two separate third-party service providers for, among other things, leasing and lease management, operations, maintenance, repair, property management and property disposition services in respect of our SFR and REO portfolios. Also, we have servicing agreements with two separate mortgage loan servicers for the remaining mortgage loans in our portfolio.

Basis of presentation and use of estimates

The accompanying unaudited interim condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States (“U.S. GAAP”). All wholly owned subsidiaries are included, and all intercompany accounts and transactions have been eliminated.

The unaudited interim condensed consolidated financial statements and accompanying unaudited condensed consolidated financial information, in our opinion, contain all adjustments that are of a normal recurring nature and are necessary for a fair presentation of our financial position, results of operations and cash flows for the interim periods. The interim results are not necessarily indicative of results for a full year. We have omitted certain notes and other information from the interim condensed consolidated financial statements presented in this Quarterly Report on Form 10-Q as permitted by the Securities and Exchange Commission (“SEC”) rules and regulations. These condensed consolidated financial statements should be read in conjunction with our annual consolidated financial statements included within our 2016 Annual Report on Form 10-K, which was filed with the SEC on March 1, 2017.

Our financial statements include the accounts of our wholly owned subsidiaries as well as the variable interest entities (“VIEs”) of which we are the primary beneficiary. We eliminate intercompany accounts and transactions upon consolidation.

The determination of the VIE’s primary beneficiary requires an evaluation of the contractual and implied rights and obligations associated with each party’s relationship with or involvement in the entity, an estimate of the entity’s expected losses and expected residual returns and the allocation of such estimates to each party involved in the entity. We reassess our involvement with VIEs on a quarterly basis. Changes in methodologies, assumptions and inputs in the determination of the primary beneficiary could have a material effect on the amounts presented within the condensed consolidated financial statements.

In certain instances, we hold both the power to direct the most significant activities of each VIE as well as an economic interest in the entity, and, as such, we are deemed to be the primary beneficiary or consolidator of the VIE. We determined that our former securitization trust, ARLP Securitization Trust, Series 2015-1 (“ARLP 2015-1”), was a VIE of which we were the

6

primary beneficiary. We repaid the notes issued under ARLP 2015-1 and terminated the securitization in May 2017. Therefore, as of September 30, 2017, we no longer consolidate any VIEs in our interim condensed consolidated balance sheet. See Note 6 for more information regarding ARLP 2015-1.

Use of estimates

The preparation of condensed consolidated financial statements in conformity with U.S. GAAP requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities as of the date of the condensed consolidated financial statements and the reported amounts of revenues and expenses during the reporting periods. Actual results could differ materially from those estimates.

Recently issued accounting standards

Adoption of recent accounting standards

In January 2017, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) No. 2017-01, Business Combinations (Topic 805): Clarifying the Definition of a Business, in an effort to clarify the definition of a business with the objective of adding guidance to assist entities with evaluating whether transactions should be accounted for as acquisitions (or disposals) of assets or businesses. This ASU is effective for fiscal years beginning after December 15, 2017 and interim periods within those fiscal years. We adopted the provisions of ASU 2017-01 effective January 1, 2017. Although this adoption had no significant effect on our previously reported consolidated financial information, we expect that the majority of our future acquisitions of SFR properties will no longer meet the definition of a business under the amended guidance. As a result, for our future SFR acquisitions that do not meet the definition of a business, we expect to capitalize certain acquisition costs that would have otherwise been expensed in the period incurred.

In November 2016, the FASB issued ASU 2016-18, Statement of Cash Flows (Topic 230): Restricted Cash. The amendments in ASU 2016-18 require that a 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. Therefore, 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. This ASU is effective for public business entities for fiscal years beginning after December 15, 2017 and interim periods within those fiscal years. The amendments in ASU 2016-18 should be applied on a retrospective transition basis. Early adoption is permitted, including adoption during an interim period. Effective January 1, 2017, the Company has adopted the provisions of ASU 2016-18. As a result of this adoption, the Company has retrospectively reclassified $2.8 million of cash flows related to changes in restricted cash from investing activities on the cash flow statement to the cash, cash equivalents and restricted cash balances for the nine months ended September 30, 2016 to be consistent with the current presentation. Restricted cash balances include amounts related to tenant deposits, mortgage loan escrows and reserves for debt service established pursuant to our repurchase and loan agreements and other secured borrowings.

In March 2016, the FASB issued ASU 2016-09, Compensation – Stock Compensation (Topic 718). ASU 2016-09 makes several modifications to Topic 718 related to the accounting for forfeitures, employer tax withholding on share-based compensation and the financial statement presentation of excess tax benefits or deficiencies. ASU 2016-09 also clarifies the statement of cash flows presentation for certain components of share-based awards. This ASU is effective for interim and annual reporting periods beginning after December 15, 2016. Our adoption of this amendment on January 1, 2017 did not have a significant effect on our condensed consolidated financial statements.

Recently issued accounting standards not yet adopted

In August 2017, the FASB issued ASU 2017-12, Derivatives and Hedging (Topic 815): Targeted Improvements to Accounting for Hedging Activities. The ASU expands the activities that qualify for hedge accounting and simplifies the rules for reporting hedging transactions. This ASU is effective for public business entities for fiscal years beginning after December 15, 2018, and interim periods within those fiscal years. Early adoption is permitted. We do not expect the adoption of this standard to have a material impact on our consolidated financial statements.

In May 2017, the FASB issued ASU 2017-09, Compensation - Stock Compensation (Topic 718). The amendments in ASU 2017-09 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. This ASU is effective for all entities for annual periods, and interim periods within those annual periods, beginning after December 15, 2017. The amendments in ASU 2017-09 should be applied prospectively to

7


an award modified on or after the adoption date. Early adoption is permitted, including adoption during an interim period. We do not expect the adoption of this standard to have a material impact on our consolidated financial statements.

In February 2017, the FASB issued ASU 2017-05, Other Income - Gains and Losses from the Derecognition of Nonfinancial Assets (Subtopic 610-20). ASU 2017-05 clarifies that a financial asset is within the scope of Subtopic 610-20 if it meets the definition of an in substance nonfinancial asset. The amendments define the term “in substance nonfinancial asset,” in part, as a financial asset promised to a counterparty in a contract if substantially all of the fair value of the assets (recognized and unrecognized) that are promised to the counterparty in the contract is concentrated in nonfinancial assets. If substantially all of the fair value of the assets that are promised to the counterparty in a contract is concentrated in nonfinancial assets, then all of the financial assets promised to the counterparty are in substance nonfinancial assets within the scope of Subtopic 610-20. This amendment also clarifies that nonfinancial assets within the scope of Subtopic 610-20 may include nonfinancial assets transferred within a legal entity to a counterparty. For example, a parent company may transfer control of nonfinancial assets by transferring ownership interests in a consolidated subsidiary. ASU 2017-05 is effective for periods beginning after December 15, 2017, with early application permitted for fiscal years beginning after December 15, 2016. We are currently evaluating the impact of ASU 2017-05 on our consolidated financial statements.

In October 2016, the FASB issued ASU 2016-16, Income Taxes (Topic 740): Intra-Entity Transfers of Assets Other Than Inventory. The amendments in ASU 2016-16 eliminate the exception of recognizing, at the time of transfer, current and deferred income taxes for intra-entity asset transfers other than inventory. This ASU is effective for public business entities for fiscal years beginning after December 15, 2017, including interim periods within those annual periods. Early adoption is permitted, including adoption during an interim period. The amendments in ASU 2016-16 should be applied on a modified retrospective transition basis. We do not expect the adoption of this standard to have a material impact on our consolidated financial statements.

In August 2016, the FASB issued ASU 2016-15, Statement of Cash Flows (Topic 230): Classification of Certain Cash Receipts and Cash Payments. The amendments in ASU 2016-15 address eight specific cash flow issues and apply to all entities that are required to present a statement of cash flows under Topic 230. The amendments in ASU 2016-15 are effective for public business entities for fiscal years beginning after December 15, 2017 and interim periods within those fiscal years. Early adoption is permitted, including adoption during an interim period. The amendments in ASU 2016-15 should be applied on a modified retrospective transition basis. We do not expect the adoption of this standard to have a material impact on our consolidated financial statements.

In June 2016, the FASB issued ASU 2016-13, Financial Instruments - Credit Losses (Topic 326) Measurement of Credit Losses on Financial Instruments, which amends the guidance on measuring credit losses on financial assets held at amortized cost. The amendment is intended to address the issue that the previous “incurred loss” methodology was restrictive for an entity's ability to record credit losses based on not yet meeting the “probable” threshold. The new language will require these assets to be valued at amortized cost presented at the net amount expected to be collected with a valuation provision. This ASU is effective for fiscal years beginning after December 15, 2019. The amendments in ASU 2016-13 should be applied on a modified retrospective transition basis. We do not expect the adoption of this standard to have a material impact on our consolidated financial statements.

In February 2016, FASB issued ASU 2016-02, Leases (Topic 842). ASU 2016-02 requires that lessees recognize assets and liabilities for leases with lease terms greater than twelve months in the statement of financial position and also requires improved disclosures to help users of financial statements better understand the amount, timing and uncertainty of cash flows arising from leases. Accounting by lessors is substantially similar to current practice. This ASU is effective for fiscal years beginning after December 15, 2018, including interim reporting periods within those fiscal years. Early adoption is permitted. The amendments in ASU 2016-02 should be applied on a modified retrospective transition basis, and a number of practical expedients may apply. These practical expedients relate to the identification and classification of leases that commenced before the effective date, initial direct costs for leases that commenced before the effective date and the ability to use hindsight in evaluating lessee options to extend or terminate a lease or to purchase the underlying asset. While we are still evaluating the overall impact of this ASU, we do not expect the adoption of this standard to have a material impact on our consolidated financial statements.

In January 2016, the FASB issued ASU 2016-01, Financial Instruments - Overall (Subtopic 825-10). ASU 2016-01 requires all equity investments to be measured at fair value with changes in the fair value recognized through net income (other than those accounted for under equity method of accounting or those that result in consolidation of the investee). The amendments also require an entity to present separately in other comprehensive income the portion of the total change in the fair value of a liability resulting from a change in the instrument-specific credit risk when the entity has elected to measure the liability at fair

8


value in accordance with the fair value option for financial instruments. In addition, the amendments eliminate the requirement to disclose the fair value of financial instruments measured at amortized cost for entities that are not public business entities and the requirement to disclose the method(s) and significant assumptions used to estimate the fair value that is required to be disclosed for financial instruments measured at amortized cost on the balance sheet for public business entities. The amendments in this update are effective for fiscal years beginning after December 15, 2017, including interim periods within those fiscal years. Early adoption is permitted. The amendments in ASU 2016-01 should be applied by means of a cumulative-effect adjustment to the balance sheet as of the beginning of the fiscal year of adoption. We do not expect the adoption of this standard to have a material impact on our consolidated financial statements.

In May 2014, the FASB issued ASU 2014-09, Revenue from Contracts with Customers (Topic 606). ASU 2014-09 is a comprehensive new revenue recognition model requiring a company to recognize revenue to depict the transfer of goods or services to a customer at an amount reflecting the consideration it expects to receive in exchange for those goods or services. In August 2015, FASB issued ASU 2015-14, Revenue from Contracts with Customers (Topic 606): Deferral of the Effective Date, which effectively delayed the adoption date of ASU 2014-09 by one year. In 2016 and 2017, the FASB issued accounting standards updates that amended several aspects of ASU 2014-09. ASU 2014-09, as amended, is effective for fiscal years, and interim periods within those years, beginning after December 15, 2017. Early adoption is permitted for fiscal years, and interim periods within those years, beginning after December 15, 2016. Management has assessed its revenues, which are primarily revenues from rental activities that are outside of the scope of ASU 2014-09. Therefore, we do not expect the adoption of this standard to have a material impact on our consolidated financial statements. We anticipate applying this amendment using the modified retrospective method.

2. Asset Acquisitions and Dispositions

Real estate assets

Asset acquisitions

On March 30, 2017, we entered into an agreement to acquire up to 3,500 SFR properties (the “HOME Flow Transaction”) from entities (the “Sellers”) sponsored by Amherst Holdings, LLC (“Amherst”) in multiple closings. Through the third quarter of 2017, we have consummated two closings under the HOME Flow Transaction and anticipate that a final closing to acquire approximately 1,750 to 2,000 additional SFR properties will occur in the fourth quarter of 2017.

•
In the first closing on March 30, 2017, our indirect wholly owned subsidiary, HOME SFR Borrower II, LLC (“HOME Borrower II”), acquired 757 SFR properties for an aggregate purchase price of $106.5 million, which is subject to potential purchase price adjustments as described in Note 7. The purchase price was funded with approximately $79.9 million in a seller financing arrangement (the “HOME II Loan Agreement,” see Note 6), representing 75% of the aggregate purchase price, as well as $26.6 million of cash on hand. We capitalized $1.5 million of acquisition fees and costs related to this portfolio acquisition pursuant to ASU 2017-01. The value of in-place leases was estimated at $2.4 million based upon the costs we would have incurred to lease the properties and is being amortized over the weighted average remaining life of the leases of approximately seven months as of the acquisition date. We allocated the purchase price to land, building, site improvements and furniture, fixtures and equipment based on the relative fair value of the properties acquired.

•
In the second closing on June 29, 2017, our indirect wholly owned subsidiary, HOME SFR Borrower III, LLC (“HOME Borrower III”), acquired 751 SFR properties for an aggregate purchase price of $117.1 million, which is subject to potential purchase price adjustments as described in Note 7. The purchase price was funded with approximately $87.8 million in a seller financing arrangement (the “HOME III Loan Agreement,” see Note 6), representing 75% of the aggregate purchase price, as well as $29.3 million of cash on hand. We capitalized $1.3 million of acquisition fees and costs related to this portfolio acquisition pursuant to ASU 2017-01. The value of in-place leases was estimated at $2.0 million based upon the costs we would have incurred to lease the properties and is being amortized over the weighted average remaining life of the leases of approximately nine months as of the acquisition date. We allocated the purchase price to land, building, site improvements and furniture, fixtures and equipment based on the relative fair value of the properties acquired.

Following the above closings, as of September 30, 2017, we were committed to purchase up to 1,992 additional stabilized rental properties from the Sellers, 1,250 of which are subject to the Sellers' good faith efforts to offer such properties for sale (see Note 7).


9


During the three and nine months ended September 30, 2017, we acquired 10 and 27 residential properties, respectively, under our other acquisition programs for an aggregate purchase price of $0.9 million and $2.7 million.

Acquisitions accounted for as business combinations

On September 30, 2016, ARLP acquired a portfolio of 4,262 SFR properties for an aggregate purchase price of $652.3 million in two separate seller-financed transactions. In the first transaction, ARLP acquired 3,868 of the 4,262 properties through its entry into a Membership Interest Purchase and Sale Agreement (the “MIPA”) with MSR I, LP (“MSR I”). Pursuant to the MIPA, ARLP acquired from MSR I 100% of the membership interests of HOME SFR Equity Owner, LLC (“HOME Equity”), a newly formed special purpose entity and sole equity owner of HOME SFR Borrower, LLC (“HOME Borrower”), which owned the 3,868 SFR properties. Following the consummation of the transaction, HOME Equity and HOME Borrower became indirect, wholly owned subsidiaries of the Company. In the second transaction, ALRP entered into a Purchase and Sale Agreement (the “PSA”) with Firebird SFE I, LLC, an independent wholly owned subsidiary of MSR II, LP. Pursuant to the PSA, HOME Borrower, as assignee from ARLP, acquired the remaining 394 of the 4,262 properties. We refer to these acquisitions, collectively, as the “HOME SFR Transaction.”

We recognized acquisition fees and costs related to the HOME SFR Transaction of $3.9 million. The value of in-place leases was estimated at $9.8 million based upon the costs we would have incurred to lease the properties and was amortized over the weighted average remaining life of the leases, which was approximately seven months as of date of the HOME SFR Transaction.

We recognized $163 thousand in revenues and $59 thousand in earnings related to the HOME SFR Transaction in our condensed consolidated statements of operations for the three and nine months ended September 30, 2016.

The following table sets forth the allocation of the estimated fair value of the assets acquired as well as the source of funds related to the HOME SFR Transaction ($ in thousands):

Estimated fair value of assets acquired:
 
 
 
Land
 
 
$
123,793

Rental residential properties
 
 
499,307

Real estate owned
 
 
19,437

Prepaid expenses and other assets (1)
 
 
9,809

   Total allocation of purchase price
 
 
$
652,346

 
 
 
 
Source of funds:
 
 
 
Cash on hand
 
 
$
163,087

Debt financing (Note 6)
 
 
489,259

   Total purchase price
 
 
$
652,346

________
(1)
Represent estimated lease-in-place intangible asset.

On March 30, 2016, we completed the acquisition of 590 SFR properties located in five states from an unrelated third party for an aggregate purchase price of approximately $64.8 million. We recognized acquisition fees and costs related to this portfolio acquisition of $0.6 million. The value of in-place leases was estimated at $0.7 million based upon the costs we would have incurred to lease the properties and was amortized over the weighted average remaining life of the leases of approximately seven months as of the acquisition date.

During the three and nine months ended September 30, 2016, we acquired 238 and 642 residential properties, respectively, under our other acquisition programs for an aggregate purchase price of $24.6 million and $64.7 million, respectively.


10

Supplemental pro forma financial information (unaudited)

The following supplemental pro forma financial information summarizes our results of operations as if the HOME SFR Transaction occurred on January 1, 2016 as follows ($ in thousands, except per share amounts):

 
Three months ended September 30, 2016
 
Nine months ended September 30, 2016
Unaudited pro forma revenues
$
18,711

 
$
86,021

Unaudited pro forma net loss
$
(59,717
)
 
$
(173,562
)
Loss per basic common share
$
(1.10
)
 
$
(3.17
)
Weighted average common stock outstanding - basic
54,178,129

 
54,722,828

Loss per diluted common share
$
(1.10
)
 
$
(3.17
)
Weighted average common stock outstanding - diluted
54,178,129

 
54,722,828


The following table presents the adjustments included for each period ($ in thousands):

 
Three months ended September 30, 2016
 
Nine months ended September 30, 2016
Revenues from consolidated statement of operations
$
4,401

 
$
44,700

Add: historical revenues of acquired properties not reflected in consolidated statement of operations
14,310

 
41,321

Unaudited pro forma revenues
$
18,711

 
$
86,021

 
 
 
 
Net loss from consolidated statement of operations
$
(57,638
)
 
$
(166,824
)
Plus: historical net income of acquired properties not reflected in consolidated statement of operations
8,416

 
25,566

Less: pro forma depreciation and amortization
(5,157
)
 
(15,472
)
Less: pro forma interest expense
(4,737
)
 
(14,212
)
Less: pro forma management fees
(601
)
 
(2,620
)
Unaudited pro forma net loss
$
(59,717
)
 
$
(173,562
)

The supplemental pro forma financial information for all periods presented was adjusted to reflect real estate depreciation and amortization on the acquired properties and related intangible assets, interest expense on the related financing facility and incremental management fees that would have been incurred under the asset management agreement. The supplemental pro forma financial information is for informational purposes only and is not necessarily indicative of the actual results of operations that would have been achieved if the acquisition had taken place on January 1, 2016, nor does it purport to represent or be indicative of the results of operations for future periods.

Dispositions

During the three and nine months ended September 30, 2017, we sold 450 and 1,385 REO properties, respectively, and recorded $21.4 million and $62.1 million, respectively, of net realized gain on sales of real estate.

During the three and nine months ended September 30, 2016, we sold 604 and 2,200 REO properties, respectively, and recorded $26.3 million and $94.8 million, respectively, of net realized gain on sales of real estate.

Mortgage loans at fair value

Dispositions and resolutions

During the three and nine months ended September 30, 2017, we sold 0 and 2,660 mortgage loans, respectively, to third party purchasers. In addition, we resolved 11 and 122 mortgage loans, respectively, primarily through short sales, refinancing and foreclosure sales. In connection with these sales and resolutions, we received proceeds of $0.1 million (net of $(2.8) million of

11

post-closing price adjustments related to prior sales) and $463.8 million, respectively, and recorded $(2.7) million and $73.1 million of net realized (loss) gain on sales of mortgage loans, respectively.

During the three and nine months ended September 30, 2016, we sold 1 and 1,974 mortgage loans, respectively, to third party purchasers. In addition, we resolved 109 and 400 mortgage loans, respectively, primarily through short sales, refinancing and foreclosure sales. In connection with these sales and resolutions, we received gross proceeds of $29.3 million and $506.9 million, respectively, and recorded $9.4 million and $80.5 million, respectively, of net realized gains on mortgage loans.

As of September 30, 2017, we had sold the substantial majority of our mortgage loan portfolio and had 431 remaining mortgage loans. We anticipate additional sales of our remaining mortgage loans, and we anticipate that the proceeds generated from any such transactions would be utilized, in part, to continue to facilitate our strategy to grow our SFR portfolio through the purchase of additional SFR properties.

Transfers of mortgage loans to real estate owned

During the three months ended September 30, 2017, we transferred 13 mortgage loans to REO, which were offset by 13 reversions of REO properties to mortgage loans, at an aggregate fair value based on broker price opinions (“BPOs”) of $1.5 million. During the nine months ended September 30, 2017, we transferred an aggregate of 261 mortgage loans to REO at an aggregate fair value based on BPOs of $42.3 million. Such transfers occur when the foreclosure sale is complete; however, subsequent to a foreclosure sale, we may be notified that the foreclosure sale was invalidated for certain reasons. In connection with these transfers to REO, we recorded $0.8 million and $15.2 million in change in unrealized gain on mortgage loans that resulted from marking the properties to their most current market value for the three and nine months ended September 30, 2017, respectively.

During the three and nine months ended September 30, 2016, we transferred an aggregate of 246 and 914 mortgage loans, respectively, to REO at an aggregate fair value based on BPOs of $48.6 million and $168.4 million, respectively. In connection with these transfers to REO, we recorded $10.7 million and $34.8 million, respectively, in change in unrealized gains on mortgage loans.

3. Real Estate Assets, Net

In September 2017, Hurricanes Harvey and Irma impacted certain of our properties in Texas and Florida, respectively, all of which are covered by wind, flood and business interruption insurance. For the quarter ended September 30, 2017, our condensed consolidated statement of operations reflects an estimated total net loss of $3.1 million for the properties affected by the hurricanes, which includes estimated gross casualty losses of $6.0 million, partially offset by estimated insurance recoveries of $2.9 million. We may record additional losses or receive additional insurance recoveries in future periods as property inspections are completed and insurance claims are confirmed. In addition, we experienced a nominal amount of lost revenue during the third quarter of 2017 related to lost rents at certain affected properties, the majority of which we expect to be recovered from the proceeds of our business interruption insurance.

Real estate held for use

As of September 30, 2017, we had 10,404 single-family residential properties held for use. Of these properties, 8,998 had been leased, 448 were listed and ready for rent and 565 were in varying stages of renovation and unit turn status. With respect to the remaining 393 REO properties, we will make a final determination whether each property meets our rental profile after (a) applicable state redemption periods have expired, (b) the foreclosure sale has been ratified, (c) we have recorded the deed for the property, (d) utilities have been activated and (e) we have secured access for interior inspection. A majority of the REO properties are subject to state regulations that require us to await the expiration of a redemption period before a foreclosure can be finalized. Once the redemption period expires, we immediately proceed to record a new deed, take possession of the property, activate utilities and start the inspection process in order to make our final determination. If an REO property meets our rental profile, we determine the extent of renovations that are needed to generate an optimal rent and maintain consistency of renovation specifications. If we determine that the REO property will not meet our rental profile, we list the property for sale, in certain instances after renovations are made to optimize the sale proceeds.

As of December 31, 2016, we had 9,939 single-family residential properties held for use. Of these properties, 7,293 had been leased, 703 were listed and ready for rent and 607 were in various stages of renovation. With respect to the remaining 1,336 REO properties, we were in the process of determining whether these properties would meet our rental profile.


12

With respect to residential rental properties classified as held for use, we perform an impairment analysis using estimated cash flows if events or changes in circumstances indicate that the carrying value may be impaired, such as prolonged vacancy, identification of materially adverse legal or environmental factors, changes in expected ownership period or a decline in market value to an amount less than the carrying amount. This analysis is performed at the property level. These cash flows are estimated based on a number of assumptions that are subject to economic and market uncertainties, including, among others, demand for rental properties, competition for customers, changes in market rental rates, costs to operate each property and expected ownership periods.

If the carrying amount of a held for use asset exceeds the sum of its undiscounted future operating and residual cash flows, an impairment loss is recorded for the difference between estimated fair value of the asset and the carrying amount. We are not able to recover any such impairments should the estimated fair value subsequently improve. We generally estimate the fair value of assets held for use by using BPOs. In some instances, appraisal information may be available and is used in addition to BPOs.

During the three and nine months ended September 30, 2017, we recognized $0.2 million and $3.0 million, respectively, of impairment on real estate held for use, all of which related to our properties under evaluation for rental strategy.

During the three and nine months ended September 30, 2016, we recognized $1.2 million and $6.2 million, respectively, of impairment on real estate held for use, which primarily related to our properties under evaluation for rental strategy.

Real estate held for sale

As of September 30, 2017 and December 31, 2016, our real estate held for sale included 546 and 594 REO properties, respectively, having an aggregate carrying value of $124.4 million and $133.3 million, respectively. Management determined to divest these properties because they do not meet our residential rental property investment criteria.

We record residential properties held for sale at the lower of the carrying amount or estimated fair value less costs to sell. The impairment loss, if any, is the amount by which the carrying amount exceeds the estimated fair value less costs to sell. In the event that the estimated fair value of impaired properties held for sale subsequently improves, we are able to recover impairments to the extent previously recognized. We generally estimate the fair value of our real estate held for sale by using BPOs.

During the three and nine months ended September 30, 2017, we recognized $2.1 million and $8.7 million, respectively, of net impairment on our real estate held for sale.

During the three and nine months ended September 30, 2016, we recognized $7.2 million and $23.0 million, respectively, of net impairment on our real estate held for sale.


13

4. Mortgage Loans

As of September 30, 2017, all of our remaining mortgage loans were held for sale. We determined to dispose of these mortgage loans because we do not expect the collateral underlying the loans to be rental candidates.
 
 
 
 
 
 
 
 
 
The following table sets forth information related to our mortgage loans at fair value, the related unpaid principal balance and market value of underlying properties by delinquency status as of September 30, 2017 and December 31, 2016 ($ in thousands):
 
 
Number of Loans
 
Fair Value and Carrying Value
 
Unpaid Principal Balance
 
Market Value of Underlying Properties
September 30, 2017
 
 
 
 
 
 
 
 
Current
 
179

 
$
28,964

 
$
37,127

 
$
44,523

30
 
37

 
5,364

 
7,102

 
9,923

60
 
4

 
372

 
812

 
708

90
 
122

 
15,557

 
31,900

 
31,238

Foreclosure
 
89

 
17,064

 
25,649

 
27,898

Mortgage loans at fair value
 
431

 
$
67,321

 
$
102,590

 
$
114,290

 
 
 
 
 
 
 
 
 
December 31, 2016
 
 
 
 
 
 
 
 
Current
 
730

 
$
134,550

 
$
160,325

 
$
199,313

30
 
76

 
8,980

 
13,747

 
15,905

60
 
38

 
4,730

 
6,987

 
8,199

90
 
417

 
49,960

 
84,996

 
95,202

Foreclosure
 
2,213

 
370,260

 
557,266

 
581,221

Mortgage loans at fair value
 
3,474

 
$
568,480

 
$
823,321

 
$
899,840


Re-performing residential mortgage loans

For the three and nine months ended September 30, 2017 and 2016, we recognized no provision for loan loss and no adjustments to the amount of the accretable yield for our re-performing residential mortgage loans. For the three and nine months ended September 30, 2017, we accreted no interest income with respect to our re-performing loans. For the three and nine months ended September 30, 2016, we accreted $35 thousand and $107 thousand, respectively, into interest income with respect to our re-performing loans. At September 30, 2017 and December 31, 2016, our re-performing loans had a UPB of $2.1 million and $5.7 million, respectively, and a carrying value of $1.2 million and $3.7 million, respectively.

The following table presents changes in the balance of the accretable yield for the periods indicated:
Accretable Yield
Nine months ended September 30, 2017

Nine months ended September 30, 2016
Balance at the beginning of the period
$
1,757

 
$
2,146

Payments and other reductions, net
(876
)
 
—

Accretion
—

 
(107
)
Balance at the end of the period
$
881

 
$
2,039



14


5. Fair Value of Financial Instruments

The following table sets forth the fair value of financial assets and liabilities by level within the fair value hierarchy as of September 30, 2017 and December 31, 2016 ($ in thousands):
 
 
 
Level 1
 
Level 2
 
Level 3
 
Carrying Value
 
Quoted Prices in Active Markets
 
 Observable Inputs Other Than Level 1 Prices
 
 Unobservable Inputs
September 30, 2017
 
 
 
 
 
 
 
Recurring basis (assets)
 
 
 
 
 
 
 
Mortgage loans at fair value
$
67,321

 
$
—

 
$
—

 
$
67,321

Not recognized on condensed consolidated balance sheets at fair value (liabilities)
 
 
 
 
 
 
 
Repurchase and loan agreements
1,100,106

 
—

 
1,105,473

 
—

 
 
 
 
 
 
 
 
December 31, 2016
 
 
 
 
 
 
 
Recurring basis (assets)
 
 
 
 
 
 
 
Mortgage loans at fair value
$
568,480

 
$
—

 
$
—

 
$
568,480

Not recognized on condensed consolidated balance sheets at fair value (liabilities)
 
 


 


 


Repurchase and loan agreements
1,220,972

 
—

 
1,226,972

 
—

Other secured borrowings
144,099

 
—

 
144,971

 
—


We have not transferred any assets from one level to another level during the nine months ended September 30, 2017 or during the year ended December 31, 2016.

The carrying values of our cash and cash equivalents, restricted cash, accounts receivable, accounts payable and accrued liabilities and related party payables are equal to or approximate fair value. The fair values of mortgage loans at fair value are estimated based on (i) our asset manager's proprietary discounted cash flow pricing model or (ii) market information, including an offer to purchase the loans from a third party. The fair value of the repurchase and loan agreements is estimated using the income approach based on credit spreads available to us currently in the market for similar floating rate debt. The fair value of other secured borrowings was estimated using observable market data.


15

The following table sets forth the changes in our level 3 assets that are measured at fair value on a recurring basis ($ in thousands):
 
Three months ended September 30, 2017
 
Three months ended September 30, 2016
 
Nine months ended September 30, 2017
 
Nine months ended September 30, 2016
Mortgage loans at fair value
 
 
 
 
 
 
 
Beginning balance
$
67,738

 
$
711,503

 
568,480

 
$
1,277,870

Change in unrealized gain on mortgage loans
2,185

 
(8,105
)
 
(64,644
)
 
(39,539
)
Net realized gain on sales of mortgage loans
126

 
9,447

 
73,077

 
80,506

Mortgage loan dispositions, resolutions and payments
(1,355
)
 
(33,108
)
 
(469,328
)
 
(523,457
)
Real estate tax advances to borrowers
261

 
1,161

 
3,513

 
6,255

Selling costs on loans held for sale
(406
)
 
—

 
(1,457
)
 
(1,005
)
Accretion of interest on re-performing mortgage loans
—

 
35

 
—

 
107

Transfer of mortgage loans to real estate owned, net
(1,228
)
 
(48,591
)
 
(42,320
)
 
(168,395
)
Ending balance
$
67,321

 
$
632,342

 
$
67,321

 
$
632,342

 
 
 
 
 


 
 
Change in unrealized gain on mortgage loans at fair value held at the end of the period
$
2,237

 
$
341

 
$
(308
)
 
$
2,581


The significant unobservable inputs used in the fair value measurement of our mortgage loans at fair value were discount rates, forecasts of future home prices, alternate loan resolution probabilities, resolution timelines and the value of underlying properties. Significant changes in any of these inputs in isolation would have resulted in a significant change to the fair value measurement. A decline in the discount rate in isolation would have increased the fair value. A decrease in the home pricing index in isolation would have decreased the fair value. Individual loan characteristics such as location and value of underlying collateral affected the loan resolution probabilities and timelines. An increase in the loan resolution timeline in isolation would have decreased the fair value. A decrease in the value of underlying properties in isolation would have decreased the fair value. As of September 30, 2017, our remaining mortgage loans were held for sale, and the fair value is primarily based on active bids for the portfolio and pricing expected to be received in a sale.

The following table sets forth quantitative information about the significant unobservable inputs used to measure the fair value of our mortgage loans at fair value as of December 31, 2016:
Input
 
December 31, 2016
Equity discount rate
 
17.0%
Debt to asset ratio
 
65.0%
Cost of funds
 
3.5% over 1 month LIBOR
Annual change in home pricing index
 
-11.2% to 15.1%
Loan resolution probabilities — modification
 
0% to 5.9%
Loan resolution probabilities — rental
 
0%
Loan resolution probabilities — liquidation
 
31.8% to 100%
Loan resolution probabilities — paid in full
 
0% to 66.2%
Loan resolution timelines (in years)
 
0.1 to 5.8
Value of underlying properties
 
$3,500 to $4,600,000


16

6. Borrowings

Repurchase and loan agreements

Our operating partnership and certain of its Delaware statutory trust and/or limited liability company subsidiaries, as applicable, have entered into master repurchase agreements and loan agreements to finance the acquisition and ownership of the SFR properties, other REO properties and the remaining mortgage loans in our portfolio. We have effective control of the assets associated with these agreements and therefore have concluded these are financing arrangements. As of September 30, 2017, the average annualized interest rate on borrowings under our repurchase and loan agreements was 4.45%, excluding amortization of deferred debt issuance costs.

At September 30, 2017, we were party to one repurchase agreement and five loan agreements. Below is a description of each agreement outstanding during the nine months ended September 30, 2017:

Repurchase Agreement

•
Credit Suisse (“CS”) is the lender on the repurchase agreement entered into on March 22, 2013, (the “CS Repurchase Agreement”) with an initial aggregate maximum borrowing capacity of $100.0 million. The CS Repurchase Agreement has been amended on several occasions, ultimately increasing the aggregate maximum borrowing capacity to $600.0 million as of December 31, 2016 with a maturity date of November 17, 2017. Pursuant to the amended and restated repurchase agreement with CS dated November 18, 2016, the aggregate maximum borrowing capacity of the CS Repurchase Agreement decreased incrementally on each of January 31, 2017, February 28, 2017, June 30, 2017 and September 30, 2017 to an aggregate of $350.0 million as of September 30, 2017. At September 30, 2017, the CS Repurchase Agreement had an aggregate maximum borrowing capacity of $350.0 million, and we had an aggregate of $243.2 million outstanding thereunder. We are currently in renewal discussions with CS and expect to renew this facility for one year on similar terms.

Loan Agreements

•
Nomura Corporate Funding Americas, LLC (“Nomura”) is the lender under a loan agreement dated April 10, 2015 (the “Nomura Loan Agreement”) with an initial aggregate maximum funding capacity of $100.0 million. The Nomura Loan Agreement has been amended on several occasions, ultimately increasing the maximum funding capacity to $250.0 million on December 31, 2016. On April 6, 2017, we entered into an amended and restated loan and security agreement with Nomura that retained our aggregate maximum borrowing capacity of $250.0 million ($100.0 million of which is uncommitted but available to us subject to our meeting certain eligibility requirements), removed the exit fee requirement upon early repayment and extended the maturity date to April 5, 2018. As of September 30, 2017, we had an aggregate of $105.3 million outstanding under the Nomura Loan Agreement.

•
In connection with the seller financing related to the HOME SFR Transaction, we entered into a loan agreement (the “MSR Loan Agreement”) between HOME Borrower, the sellers and MSR Lender, LLC (“MSR Lender”), as agent. Pursuant to the MSR Loan Agreement, HOME Borrower borrowed approximately $489.3 million from the lenders (the “MSR Loan”). Effective October 14, 2016, the MSR Loan Agreement was assigned to MSR Lender and, in connection with MSR Lender’s securitization of the MSR Loan, we and MSR Lender amended and restated the MSR Loan Agreement to match the terms of the bonds in MSR Lender's securitization of the MSR Loan. The aggregate amount of the MSR Loan and the aggregate interest rate of the MSR Loan remained unchanged from the original loan agreement. The MSR Loan is a floating rate loan, composed of eight floating rate components, interest on each of which is computed monthly based on one-month LIBOR plus a fixed component spread. The initial maturity date of the MSR Loan is November 9, 2018. HOME Borrower has the option to extend the MSR Loan beyond the initial maturity date for three successive one-year terms to an ultimate maturity date of November 9, 2021, provided, among other things, that there is no event of default under the MSR Loan Agreement on each maturity date. The MSR Loan is secured by the membership interests of HOME Borrower and the properties and other assets of HOME Borrower.

•
In connection with the seller financing related to the first closing under the HOME Flow Transaction on March 30, 2017, HOME Borrower II entered into the HOME II Loan Agreement with entities sponsored by Amherst, pursuant to which we borrowed approximately $79.9 million in connection with the first acquisition of properties. The HOME II Loan Agreement is a floating rate loan, composed of eight floating rate components, interest on each of which is computed monthly based on one-month LIBOR plus a fixed component spread. The entire principal amount is

17

currently allocable to one component at a fixed-rate spread over one-month LIBOR, which is anticipated to be the weighted average fixed rate spread for the duration of the HOME II Loan Agreement. The initial maturity date of the HOME II Loan Agreement is October 9, 2019. HOME Borrower II has the option to extend the HOME II Loan Agreement beyond the initial maturity date for three successive one-year extensions, provided, among other things, that there is no event of default under the HOME II Loan Agreement on each maturity date. The HOME II Loan Agreement is secured by the membership interests of HOME Borrower II and the properties and other assets of HOME Borrower II.
    
•
On April 6, 2017, RESI TL1 Borrower, LLC (“TL1 Borrower”), our indirect wholly owned subsidiary, entered into a credit and security agreement (the “Term Loan Agreement”) with American Money Management Corporation, as agent, on behalf of Great American Life Insurance Company and Great American Insurance Company as initial lenders, and each other lender added from time to time as a party to the Term Loan Agreement (collectively, the “Lenders”). Pursuant to the Term Loan Agreement, TL1 Borrower borrowed $100.0 million to finance the ownership and operation of SFR properties. The Term Loan Agreement has a maturity date of April 6, 2022 and a fixed interest rate of 5.00%.

•
In connection with the seller financing related to the second closing under the HOME Flow Transaction on June 29, 2017, HOME Borrower III entered into the HOME III Loan Agreement with entities sponsored by Amherst, pursuant to which we borrowed approximately $87.8 million in connection with the second acquisition of properties. The HOME III Loan Agreement is a floating rate loan, composed of eight floating rate components, interest on each of which is computed monthly based on one-month LIBOR plus a fixed component spread. The entire principal amount is currently allocable to one component at a fixed-rate spread over one-month LIBOR, which is anticipated to be the weighted average fixed rate spread for the duration of the HOME III Loan Agreement. The initial maturity date of the HOME III Loan Agreement is October 9, 2019. HOME Borrower III has the option to extend the HOME III Loan Agreement beyond the initial maturity date for three successive one-year extensions, provided, among other things, that there is no event of default under the HOME III Loan Agreement on each maturity date. The HOME III Loan Agreement is secured by the membership interests of HOME Borrower III and the properties and other assets of HOME Borrower III.

As of September 30, 2017, the maximum aggregate funding available to us under the repurchase and loan agreements described above was $1.4 billion, subject to certain sublimits, eligibility requirements and conditions precedent to each funding. As of September 30, 2017, an aggregate of $1.1 billion was outstanding under these repurchase and loan agreements.


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The following table sets forth data with respect to our repurchase and loan agreements as of September 30, 2017 and December 31, 2016 ($ in thousands):
 
Maximum Borrowing Capacity
 
Book Value of Collateral
 
Amount Outstanding
 
Amount of Available Funding
September 30, 2017
 
 
 
 
 
 
 
CS Repurchase Agreement due November 17, 2017
$
350,000

 
$
372,667

 
$
243,243

 
$
106,757

Nomura Loan Agreement due April 5, 2018
250,000

 
173,515

 
105,289

 
144,711

MSR Loan Agreement due November 9, 2018
489,259

 
625,985

 
489,259

 
—

HOME II Loan Agreement due October 9, 2019
79,879

 
104,073

 
79,879

 
—

Term Loan Agreement due April 6, 2022
100,000

 
115,364

 
100,000

 
—

HOME III Loan Agreement due October 9, 2019
87,803

 
115,490

 
87,803

 
—

Less: deferred debt issuance costs
—

 
—

 
(5,367
)
 
—

 
$
1,356,941

 
$
1,507,094

 
$
1,100,106

 
$
251,468

 
 
 
 
 
 
 
 
December 31, 2016
 
 
 
 
 
 
 
CS Repurchase Agreement due November 17, 2017
$
600,000

 
$
902,339

 
$
582,659

 
$
17,341

Nomura Loan Agreement due April 6, 2017
250,000

 
238,142

 
155,054

 
94,946

MSR Loan Agreement due November 9, 2018
489,259

 
638,799

 
489,259

 
—

Less: deferred debt issuance costs
—

 
—

 
(6,000
)
 
—

 
$
1,339,259

 
$
1,779,280

 
$
1,220,972

 
$
112,287


Our business model relies to a significant degree on both our short-term financing and longer duration asset backed financing arrangements, and we generally do not carry sufficient liquid funds to retire any of our short-term obligations upon their maturity. Prior to or upon such short-term maturities, management generally expects to (1) refinance the remaining outstanding short-term facilities, obtain additional financing or replace the short-term facilities with longer-term facilities and (2) continue to liquidate non-rental REO properties and certain mortgage loans in the ordinary course, which will generate cash to reduce the related financing. We are in continuous dialogue with our lenders, and we are currently not aware of any circumstances that would adversely affect our ability to complete such refinancings. We believe we will be successful in our efforts to refinance or obtain additional financing based on our recent success in renewing our outstanding facilities and obtaining new financing and our ongoing relationships with lenders.

Terms and covenants related to the CS Repurchase Agreement

Under the terms of the CS Repurchase Agreement, as collateral for the funds drawn thereunder, subject to certain conditions, our operating partnership and/or one or more of our limited liability company subsidiaries will sell to the lender equity interests in the Delaware statutory trust subsidiary that owns the applicable underlying mortgage or REO assets on our behalf, or the trust will directly sell such underlying mortgage assets. In the event the lender determines the value of the collateral has decreased, the lender has the right to initiate a margin call and require us, or the applicable trust subsidiary, to post additional collateral or to repay a portion of the outstanding borrowings. The price paid by the lender for each mortgage or REO asset we finance under the CS repurchase agreement is based on a percentage of the market value of the mortgage or REO asset and, in the case of mortgage assets, may depend on its delinquency status. With respect to funds drawn under the CS Repurchase Agreement, our applicable subsidiary is required to pay the lender interest based on the lender’s cost of funds plus a spread calculated based on the type of applicable assets collateralizing the funding, as well as certain other customary fees, administrative costs and expenses to maintain and administer the CS Repurchase Agreement. We do not collateralize any of our repurchase facilities with cash. The CS Repurchase Agreement is fully guaranteed by us.

The CS Repurchase Agreement requires us to maintain various financial and other covenants, including maintaining a minimum adjusted tangible net worth, a maximum ratio of indebtedness to adjusted tangible net worth and a minimum fixed charge coverage ratio. In addition, the CS Repurchase Agreement contains customary events of default.


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Terms and covenants related to the Nomura Loan Agreement

Under the terms of the Nomura Loan Agreement, subject to certain conditions, Nomura may advance funds to us from time to time, with such advances collateralized by SFR properties and other REO properties. The advances paid under the Nomura Loan Agreement with respect to the applicable properties from time to time will be based on a percentage of the market value of the properties. We may be required to repay a portion of the amounts outstanding under the Nomura Loan Agreement should the loan-to-value ratio of the funded collateral decline. Under the terms of the Nomura Loan Agreement, we are required to pay interest based on the one-month LIBOR plus a spread and certain other customary fees, administrative costs and expenses in connection with Nomura's structuring, management and ongoing administration of the facility. The Nomura Loan Agreement is fully guaranteed by us.

The Nomura Loan Agreement requires us to maintain various financial and other covenants, including a minimum adjusted tangible net worth, a maximum ratio of indebtedness to adjusted tangible net worth and specified levels of unrestricted cash. In addition, the Nomura Loan Agreement contains events of default (subject to certain materiality thresholds and grace periods), including payment defaults, breaches of covenants and/or certain representations and warranties, cross-defaults, certain material adverse changes, bankruptcy or insolvency proceedings and other events of default customary for this type of transaction. The remedies for such events of default are also customary for this type of transaction and include the acceleration of the principal amount outstanding under the Nomura Loan Agreement and the liquidation by Nomura of the SFR and REO properties then subject thereto.

Terms and covenants related to the MSR Loan Agreement, the HOME II Loan Agreement and the HOME III Loan Agreement

Under the terms of the MSR Loan Agreement, the HOME II Loan Agreement and the HOME III Loan Agreement, each of the facilities are non-recourse to us and are secured by a lien on the membership interests of HOME Borrower, HOME Borrower II and HOME Borrower III and the acquired properties and other assets of each entity, respectively. The assets of each entity are the primary source of repayment and interest on their respective loan agreements, thereby making the cash proceeds of rent payments and any sales of the acquired properties the primary sources of the payment of interest and principal by each entity to the respective lenders. Each of the loan agreements require that the applicable borrower comply with various affirmative and negative covenants that are customary for loans of this type, including limitations on the indebtedness each entity can incur, limitations on sales and dispositions of the properties collateralizing the respective loan agreements, minimum net asset requirements and various restrictions on the use of cash generated by the operations of such properties while the respective loan agreements are outstanding. Each loan agreement also includes customary events of default, the occurrence of which would allow the respective lenders to accelerate payment of all amounts outstanding thereunder. We have limited indemnification obligations for wrongful acts taken by HOME Borrower, HOME Borrower II or HOME Borrower III under their respective loan agreements in connection with the secured collateral.

Even though the MSR Loan Agreement, the HOME II Loan Agreement and the HOME III Loan Agreement are non-recourse to us and all of our subsidiaries other than the entities party to the respective loan agreements, we have agreed to limited bad act indemnification obligations to the respective lenders for the payment of (i) certain losses arising out of certain bad or wrongful acts of our subsidiaries that are party to the respective loan agreements and (ii) the principal amount of each of the facilities and all other obligations thereunder in the event we cause certain voluntary bankruptcy events of the respective subsidiaries party to the loan agreements. Any of such liabilities could have a material adverse effect on our results of operations and/or our financial condition.

Terms and covenants related to the Term Loan Agreement

The Term Loan Agreement requires that the TL1 Borrower comply with various affirmative and negative covenants that are customary for loans of this type including, without limitation, reporting requirements to the agent; maintenance of minimum levels of liquidity, indebtedness and tangible net worth; limitations on sales and dispositions of the properties collateralizing the Term Loan Agreement and various restrictions on the use of cash generated by the operations of the properties while the Term Loan is outstanding. We may be required to make prepayments of a portion of the amounts outstanding under the Term Loan Agreement under certain circumstances, including certain levels of declines in collateral value. The Term Loan Agreement also includes customary events of default, the occurrence of which would allow the Lenders to accelerate payment of all amounts outstanding thereunder. The Term Loan Agreement is non-recourse to us and is secured by a lien on the membership interests of TL1 Borrower and the properties and other assets of TL1 Borrower. The assets of TL1 Borrower are the primary source of repayment and interest on the Term Loan Agreement, thereby making the cash proceeds received by TL1 Borrower from rent payments and any sales of the underlying properties the primary sources of the payment of interest and principal by TL1

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Borrower to the Lenders. We have limited indemnification obligations for wrongful acts taken by TL1 Borrower and RESI TL1 Pledgor, LLC, the sole member of TL1 Borrower, in connection with the secured collateral for the Term Loan Agreement.

We are currently in compliance with the covenants and other requirements with respect to the repurchase and loan agreements. We monitor our lending partners’ ability to perform under the repurchase and loan agreements and have concluded there is currently no reason to doubt that they will continue to perform under the repurchase and loan agreements as contractually obligated.

Other secured borrowings

On June 29, 2015, we completed a securitization transaction in which ARLP 2015-1 issued $205.0 million in ARLP 2015-1 Class A Notes with a weighted coupon of approximately 4.01% and $60.0 million in ARLP 2015-1 Class M Notes. In May 2017, we repaid all of the notes issued under ARLP 2015-1 and concurrently terminated the securitization.

The following table sets forth data with respect to the ARLP 2015-1 notes as of December 31, 2016 ($ in thousands):

 
Interest Rate
 
Amount Outstanding
December 31, 2016
 
 
 
ARLP Securitization Trust, Series 2015-1
 
 
 
ARLP 2015-1 Class A Notes due May 25, 2055
4.01
%
 
178,971

ARLP 2015-1 Class M Notes due May 25, 2044
—
%
 
60,000

Intercompany eliminations
 
 
 
Elimination of ARLP 2015-1 Class A Notes due to ARNS, Inc.
 
 
(34,000
)
Elimination of ARLP 2015-1 Class M Notes due to ARLP
 
 
(60,000
)
Less: deferred debt issuance costs
 
 
(872
)
 
 
 
$
144,099


7. Commitments and Contingencies

Litigation, claims and assessments

From time to time, we may be involved in various claims and legal actions arising in the ordinary course of business. Set forth below is a summary of legal proceedings to which we are a party as of September 30, 2017:

Martin v. Altisource Residential Corporation et al.
On March 27, 2015, a putative shareholder class action complaint was filed in the United States District Court of the Virgin Islands by a purported shareholder of the Company under the caption Martin v. Altisource Residential Corporation, et al., 15-cv-00024. The action names as defendants the Company, our former Chairman, William C. Erbey, and certain officers and a former officer of the Company and alleges that the defendants violated federal securities laws by, among other things, making materially false statements and/or failing to disclose material information to the Company's shareholders regarding the Company's relationship and transactions with AAMC, Ocwen Financial Corporation (“Ocwen”) and Home Loan Servicing Solutions, Ltd. These alleged misstatements and omissions include allegations that the defendants failed to adequately disclose the Company's reliance on Ocwen and the risks relating to its relationship with Ocwen, including that Ocwen was not properly servicing and selling loans, that Ocwen was under investigation by regulators for violating state and federal laws regarding servicing of loans and Ocwen’s lack of proper internal controls. The complaint also contains allegations that certain of the Company's disclosure documents were false and misleading because they failed to disclose fully the entire details of a certain asset management agreement between the Company and AAMC that allegedly benefited AAMC to the detriment of the Company's shareholders. The action seeks, among other things, an award of monetary damages to the putative class in an unspecified amount and an award of attorney’s and other fees and expenses.

In May 2015, two of our purported shareholders filed competing motions with the court to be appointed lead plaintiff and for selection of lead counsel in the action. Subsequently, opposition and reply briefs were filed by the purported shareholders with respect to these motions. On October 7, 2015, the court entered an order granting the motion of Lei Shi to be lead plaintiff and denying the other motion to be lead plaintiff.

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On January 23, 2016, the lead plaintiff filed an amended complaint.

On March 22, 2016, defendants filed a motion to dismiss all claims in the action. The plaintiffs filed opposition papers on May 20, 2016, and the defendants filed a reply brief in support of the motion to dismiss the amended complaint on July 11, 2016.

On November 14, 2016, the Martin case was reassigned to Judge Anne E. Thompson of the United States District Court of New Jersey. In a hearing on December 19, 2016, the parties made oral arguments on the motion to dismiss, and on March 16, 2017 the Court issued an order that the motion to dismiss had been denied. On April 17, 2017, the defendants filed a motion for reconsideration of the Court’s decision to deny the motion to dismiss. On April 21, 2017, the defendants filed their answer and affirmative defenses. Plaintiff filed an opposition to defendants’ motion for reconsideration on May 8, 2017. On May 30, 2017, the Court issued an order that the motion for reconsideration had been denied. Discovery has commenced and is ongoing.

We believe this complaint is without merit. At this time, we are not able to predict the ultimate outcome of this matter, nor can we estimate the range of possible loss, if any.

Amendment and Waiver Agreement with Altisource Solutions

In connection with the HOME SFR Transaction and to enable Main Street Renewal, LLC (“MSR”) to be property manager for the acquired properties, we and Altisource Solutions S.à r.l. (“Altisource Solutions”), a wholly owned subsidiary of Altisource Portfolio Solutions S.A. (“ASPS”), entered into an Amendment and Waiver Agreement (the “Amendment and Waiver Agreement”) to amend the Master Services Agreement (the “MSA”) between Altisource Solutions and us, dated December 21, 2012, under which Altisource Solutions was the exclusive provider of leasing and property management services to us. Pursuant to the Amendment and Waiver Agreement, we obtained a waiver of the exclusivity requirements under the MSA for the acquired properties. Additionally, the Amendment and Waiver Agreement permits us to utilize the property management services of MSR in connection with the acquisition of certain additional properties if we acquire such additional properties from an investment fund or other entity affiliated with Amherst in one or more transactions prior to an agreed-upon date. The Amendment and Waiver Agreement also amended the MSA to require us or any surviving entity to pay a $60 million liquidation fee to Altisource Solutions if (i) we sell, liquidate or dispose of 50% or more of our SFR portfolio managed by Altisource Solutions over a rolling eighteen (18) month period without using the proceeds of such sales, liquidations or disposals to purchase additional SFR assets or if (ii) the surviving entity in a change of control does not assume the MSA with Altisource Solutions as property manager. The liquidation fee will not be required to be paid if we or any surviving entity terminate the MSA as a result of a material breach of the MSA by Altisource Solutions, for Altisource Solutions’ failure to meet certain specified performance standards or for certain other customary reasons.

Commitments and contingencies related to the HOME Flow Transaction

In connection with the HOME Flow Transaction, as of September 30, 2017, we had committed to purchase up to 1,992 additional stabilized rental properties from the Amherst sponsored entities in an additional closing that is expected to occur during the fourth quarter of 2017. Because the additional properties to be acquired had not yet been finalized prior to the date of this report, we are unable to predict the total aggregate purchase price for such closing under the HOME Flow Transaction.

Pursuant to the purchase and sale agreement underlying the HOME Flow Transaction (the “PSA”), the ultimate purchase price of the properties acquired or to be acquired is subject to potential adjustment based on a predetermined formula set forth in the PSA and certain amendments thereto, which is dependent upon the valuation of the acquired properties at a future date. Because such future valuation of the properties is unknown, we are unable to predict the ultimate adjustments, if any, that will be made to the initial aggregate purchase price at this time.


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8. Related-Party Transactions

Asset management agreement with AAMC

On March 31, 2015, we entered into our current asset management agreement (the “AMA”) with AAMC. The AMA, which became effective on April 1, 2015, provides for a management fee structure as follows:

•
Base Management Fee. AAMC is entitled to a quarterly base management fee equal to 1.5% of the product of (i) our average invested capital (as defined in the AMA) for the quarter multiplied by (ii) 0.25, while we have fewer than 2,500 single-family rental properties actually rented (“Rental Properties”). The base management fee percentage increases to 1.75% of invested capital while we have between 2,500 and 4,499 Rental Properties and increases to 2.0% of invested capital while we have 4,500 or more Rental Properties;

•
Incentive Management Fee. AAMC is entitled to a quarterly incentive management fee equal to 20% of the amount by which our return on invested capital (based on AFFO defined as our net income attributable to holders of common stock calculated in accordance with GAAP plus real estate depreciation expense minus recurring capital expenditures on all of our real estate assets owned) exceeds an annual hurdle return rate of between 7.0% and 8.25% (or 1.75% and 2.06% per quarter), depending on the 10-year treasury rate. To the extent RESI has an aggregate shortfall in its return rate over the previous seven quarters, that aggregate return rate shortfall gets added to the normal quarterly return hurdle for the next quarter before we are entitled to an incentive management fee. The incentive management fee increases to 22.5% while we have between 2,500 and 4,499 Rental Properties and increases to 25% while we have 4,500 or more Rental Properties; and
 
•
Conversion Fee. AAMC is entitled to a quarterly conversion fee equal to 1.5% of the market value of the single-family homes leased by us for the first time during the applicable quarter.
 
Because we have more than 4,500 Rental Properties, AAMC is entitled to receive a base management fee of 2.0% of our invested capital and a potential incentive management fee percentage of 25% of the amount by which we exceed our then-required return on invested capital threshold.

We have the flexibility to pay up to 25% of the incentive management fee to AAMC in shares of our common stock.

Under the AMA, we reimburse AAMC for the compensation and benefits of the General Counsel dedicated to us and certain other out-of-pocket expenses incurred by AAMC on our behalf.

The AMA requires that AAMC continue to serve as our exclusive asset manager for an initial term of 15 years from April 1, 2015, with two potential five-year extensions, subject to our achieving an average annual return on invested capital of at least 7.0%. Neither party is entitled to terminate the AMA prior to the end of the initial term, or each renewal term, other than termination by (a) us and/or AAMC “for cause” for certain events such as a material breach of the AMA and failure to cure such breach, (b) us for certain other reasons such as our failure to achieve a return on invested capital of at least 7.0% for two consecutive fiscal years after the third anniversary of the AMA and (c) us in connection with certain change of control events.


23

Summary of related-party transactions

The following table presents our significant transactions with AAMC, which is a related party, for the periods indicated ($ in thousands):
 
Three months ended September 30, 2017
 
Three months ended September 30, 2016
 
Nine months ended September 30, 2017
 
Nine months ended September 30, 2016
Base management fees (1)
$
3,966

 
$
4,208

 
$
12,176

 
$
12,838

Conversion fees (1)
163

 
450

 
1,201

 
1,396

Expense reimbursements (2)
300

 
196

 
706

 
553

______________
(1)
Included in management fees in the condensed consolidated statements of operations.
(2)
Included in general and administrative expenses in the condensed consolidated statements of operations.

No incentive management fee under the AMA was payable to AAMC during the three and nine months ended September 30, 2017 or 2016 because our return on invested capital (as defined in the AMA) was below the cumulative required hurdle rate. Under the AMA, to the extent we have an aggregate shortfall in our return rate over the previous seven quarters, that aggregate return rate shortfall gets added to the normal quarterly 1.75% return hurdle for the next quarter before AAMC is entitled to an incentive management fee. As of September 30, 2017, the aggregate return shortfall from the prior seven quarters under the AMA was approximately 57.30% of invested capital. In future quarters, return on invested capital must exceed the required hurdle for the current quarter plus any carried-forward cumulative additional hurdle shortfall from the prior seven quarters before any incentive management fee will be payable to AAMC.

9. Share-Based Payments

2016 Equity Incentive Plan

Beginning in July 2016, our non-management directors each received annual grants of restricted stock units issued under the Altisource Residential Corporation 2016 Equity Incentive Plan (the “2016 Equity Incentive Plan”). These restricted stock units are eligible for settlement in the number of shares of our common stock having a fair market value of $60 thousand on the date of grant. Subject to accelerated vesting in limited circumstances, the restricted stock units vest on the earlier of the first anniversary of the date of grant or the next annual meeting of stockholders, with distribution mandatorily deferred for an additional two years thereafter until the third anniversary of grant (subject to earlier distribution or forfeiture upon the respective director’s separation from the Board of Directors). The awards were issued together with dividend equivalent rights. In respect of dividends paid to our stockholders prior to the vesting date, dividend equivalent rights accumulate and are expected to be paid in a lump sum in cash following the vesting date, contingent on the vesting of the underlying award. During any period thereafter when the award is vested but remains subject to settlement, dividend equivalent rights are expected to be paid in cash on the same timeline as underlying dividends are paid to our stockholders.

The annual grant of restricted stock units was made to our non-management directors on May 26, 2017 with respect to the 2017 to 2018 service year in an aggregate number of 20,980 restricted stock units with a weighted average grant date fair value of $14.30 per share. On April 24, 2017, an aggregate of 2,747 restricted stock units with a weighted average grant date fair value of $14.13 per share were granted to two of our non-management directors who were appointed to the Board subsequent to the 2016 Annual Meeting of Stockholders. During the nine months ended September 30, 2016, an aggregate of 1,232 shares of restricted stock were granted to a director who joined the Board on March 1, 2016 with a weighted average grant date fair value of $9.30 per share, and a former director forfeited 625 shares of restricted stock with a weighted average grant date fair value of $18.25 per share due to his departure from the Board on March 1, 2016. In addition, an aggregate of 26,520 shares of restricted stock with a weighted average grant date fair value of $9.05 were granted to our non-management directors on July 11, 2016.

On May 26, 2017, an aggregate number of 247,906 restricted stock units and 567,227 stock options were granted to certain employees of AAMC pursuant to the 2016 Equity Incentive Plan. The restricted stock units and stock options had a weighted average grant date fair value of $14.30 per share and $3.17 per share, respectively.

On August 9, 2016, an aggregate of 247,008 shares of restricted stock and 695,187 stock options were granted to certain employees of AAMC pursuant to the 2016 Equity Incentive Plan. The restricted stock and stock options had a weighted average grant date fair value of $10.04 per share and $1.91 per share, respectively.


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On August 8, 2017, an aggregate of 17,802 restricted stock units granted to certain employees of AAMC with an aggregate grant date fair value of $11.80 were canceled.

The restricted stock granted to AAMC employees will vest in equal annual installments on each of the first three anniversaries of the grant date, subject to acceleration or forfeiture. The stock options granted to AAMC employees will vest in three equal annual installments on the first, second and third anniversary of the later of (i) the date of the option award and (ii) the date of the satisfaction of certain performance criteria, subject to acceleration or forfeiture. The performance criteria is satisfied on the date on which the sum of (a) the average price per share for the consecutive 20-trading-day period ending on such date plus (b) the amount of all reinvested dividends, calculated on a per-share basis from the date of grant through such date, shall equal or exceed 125% of the price per share on the date of grant (the “Performance Goal”); provided however that the Performance Goal must be attained no later than the fourth anniversary of the grant date. In the event that the Performance Goal is not attained prior to the fourth anniversary of the grant date, the stock options shall expire.

We recorded $0.4 million and $2.8 million of share-based compensation expense for the three and nine months ended September 30, 2017, respectively. We recorded $0.4 million and $0.5 million of share-based compensation expense for the three and nine months ended September 30, 2016, respectively. As of September 30, 2017 and 2016, we had $4.4 million and $3.8 million, respectively, of unrecognized share-based compensation cost remaining with an average remaining estimated term of 1.5 years and 1.8 years, respectively.

2012 Conversion Option Plan and 2012 Special Conversion Option Plan

On December 21, 2012, as part of our separation transaction from ASPS, we issued stock options under the 2012 Conversion Option Plan and 2012 Special Conversion Option Plan to holders of ASPS stock options to purchase shares of our common stock in a ratio of one share of our common stock to every three shares of ASPS common stock. The options were granted as part of our separation to employees of ASPS and/or Ocwen solely to give effect to the exchange ratio in the separation, and we do not include share-based compensation expense related to these options in our condensed consolidated statements of operations because they are not related to our incentive compensation. As of September 30, 2017, options to purchase an aggregate of 118,664 shares of our common stock were remaining under the Conversion Option Plan and Special Conversion Option Plan.

10. Derivatives

We may enter into derivative contracts from time to time in order to mitigate the risk associated with our variable rate debt. We do not enter into derivatives for investment purposes. Derivatives are carried at fair value within prepaid expenses and other assets in our condensed consolidated balance sheet. Upon execution, we may or may not designate such derivatives as accounting hedges.

On September 29, 2016, we entered into an interest rate cap to manage the economic risk of increases in the floating rate portion of the MSR Loan Agreement. The interest rate cap has a strike rate on the one-month LIBOR of 2.938%, a notional amount of $489.3 million and a termination date of November 15, 2018. At each of September 30, 2017 and December 31, 2016, the interest rate cap had a nominal fair value. We did not designate the interest rate cap as an accounting hedge; therefore, changes in the fair value of the interest rate cap are recorded as a component of interest expense in our condensed consolidated statement of operations. For the nine months ended September 30, 2017, we recognized a nominal amount related to changes in the fair value of the interest rate cap.

11. Income Taxes

As a REIT, we must meet certain organizational and operational requirements, including the requirement to distribute at least 90% of our annual REIT taxable income excluding capital gains to our stockholders. As a REIT, we generally will not be subject to federal income tax to the extent we distribute our REIT taxable income to our stockholders and provided we satisfy the REIT requirements, including certain asset, income, distribution and stock ownership tests. If we fail to qualify as a REIT, and do not qualify for certain statutory relief provisions, we will be subject to U.S. federal, state and local income taxes and may be precluded from qualifying as a REIT for the subsequent four taxable years following the year in which our REIT qualification was lost. As a REIT, we may also be subject to federal taxes if we engage in certain types of transactions.

Our condensed consolidated financial statements include the operations of our taxable REIT subsidiary (“TRS”), which is subject to federal, state and local income taxes on its taxable income. From inception through September 30, 2017, the TRS

25

operated at a cumulative taxable loss, which resulted in our recording a deferred tax asset with a corresponding valuation allowance.

As of September 30, 2017 and 2016, we did not accrue interest or penalties associated with any unrecognized tax benefits. We recorded nominal state and local tax expense along with nominal penalties and interest on income and property for the three and nine months ended September 30, 2017 and 2016. Our subsidiaries and we remain subject to tax examination for the period from inception to December 31, 2016. The Company and its subsidiaries file income tax returns in the U.S. and various state, local and foreign jurisdictions. On February 16, 2017, the IRS opened an examination of the 2014 tax year of the TRS. On May 30, 2017, we received confirmation from the IRS that the examination of the TRS’ 2014 tax year was closed without any changes.

12. Earnings Per Share

The following table sets forth the components of basic and diluted loss per share (in thousands, except share and per share amounts):
 
Three months ended September 30, 2017
 
Three months ended September 30, 2016
 
Nine months ended September 30, 2017
 
Nine months ended September 30, 2016
Numerator
 
 
 
 
 
 
 
Net loss
$
(42,916
)
 
$
(57,638
)
 
$
(147,980
)
 
$
(166,824
)
 
 
 
 
 
 
 
 
Denominator
 
 
 
 
 
 
 
Weighted average common stock outstanding – basic
53,408,288

 
54,178,129

 
53,508,881

 
54,722,828

Weighted average common stock outstanding – diluted
53,408,288

 
54,178,129

 
53,508,881

 
54,722,828

 
 
 
 
 
 
 
 
Loss per basic common share
$
(0.80
)
 
$
(1.06
)
 
$
(2.77
)
 
$
(3.05
)
Loss per diluted common share
$
(0.80
)
 
$
(1.06
)
 
$
(2.77
)
 
$
(3.05
)

We excluded the items presented below from the calculation of diluted earnings per share as they were antidilutive for the periods indicated:
 
Three months ended September 30, 2017
 
Three months ended September 30, 2016
 
Nine months ended September 30, 2017
 
Nine months ended September 30, 2016
Denominator (in weighted-average shares)
 
 
 
 
 
 
 
Stock options
154,698

 
151,755

 
171,240

 
154,828

Restricted stock
136,190

 
35,671

 
167,320

 
15,545


We have the flexibility to pay up to 25% of the incentive management fee to AAMC in shares of our common stock. Should we choose to do so, our earnings available to common stockholders would be diluted to the extent of such issuance. Because AAMC did not earn any incentive management fees, no dilutive effect was recognized for the nine months ended September 30, 2017 or 2016.

13. Segment Information

Our primary business is the acquisition and ownership of single-family rental assets. Our primary sourcing strategy is to acquire these assets by purchasing single-family rental properties, either on an individual basis or in pools, or by the resolution of NPLs. As a result, we operate in a single segment focused on the acquisition and ownership of rental residential properties.


26

14. Subsequent Events

Management has evaluated the impact of all events subsequent to September 30, 2017 and through the issuance of these interim condensed consolidated financial statements. Except as discussed below, we have determined that there were no additional subsequent events requiring adjustment or disclosure in the financial statements.

Subsequent to September 30, 2017, we completed an auction process to sell a portfolio of 365 mortgage loans with an aggregate UPB of $85.2 million to an unrelated third party. Subject to typical confirmatory due diligence and negotiation of a definitive purchase agreement, we expect to consummate this transaction during the fourth quarter of 2017. As is customary in these transactions, this confirmatory due diligence process may result in certain loans being removed from the sale or a repricing of certain loans; therefore, the final composition and proceeds of this portfolio sale are subject to adjustment depending on the final diligence results and further negotiation by the parties. No assurance can be given that this transaction will be completed on a timely basis or at all.


27


Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations

Our Company

We are a Maryland real estate investment trust (“REIT”) focused on acquiring, owning and managing single-family rental (“SFR”) properties throughout the United States. We conduct substantially all of our activities through our wholly owned subsidiary, Altisource Residential, L.P. (“ARLP”), and its subsidiaries. We conduct an SFR business with a diversified SFR property acquisition strategy and an efficient property management structure in order to pursue our objective of becoming one of the top single-family equity REITs serving working class American families and their communities.

Our strategy is to build long-term shareholder value through the creation of a large portfolio of SFR homes that are targeted to operate at a best-in-class yield. The Company believes there is a compelling opportunity in the single-family rental market and that it has implemented the right strategic plan to capitalize on the sustained growth in single-family rental demand. The Company targets the moderately-priced single-family home market that, in the Company's view, offers optimal yield opportunities.

In order to achieve this goal, we have focused on (i) identifying and acquiring large portfolios and smaller pools of high-yielding SFR properties; (ii) working with our property managers to implement a cost-effective and scalable property management structure; (iii) selling certain mortgage loans and non-rental real estate owned (“REO”) properties that do not meet our targeted rental criteria, which generates cash that we may reinvest in acquiring additional SFR properties; and (iv) extending the duration of our financing arrangements to better match the long-term nature of our rental portfolio.

We are managed by Altisource Asset Management Corporation (“AAMC” or our “Manager”), which we rely on to provide us with dedicated personnel to administer our business and perform certain of our corporate governance functions. AAMC also provides portfolio management services in connection with our acquisition and management of SFR properties and the ongoing disposition and management of our remaining REO properties and residential mortgage loans.

We have also entered into property management service agreements with two separate third-party property managers, Altisource Portfolio Solutions S.A. (“ASPS”) and Main Street Renewal, LLC (“MSR”, together with ASPS, our “Property Managers”), to provide, among other things, leasing and lease management, operations, maintenance, repair and property management services in respect of our SFR portfolios. We believe that our relationships with our Property Managers and our access to their respective nationwide renovation and property management vendor and internal networks enables us to competitively acquire and operate large portfolios of SFR properties or individual SFR properties on a targeted basis.

Management Overview

During the third quarter of 2017, we continued to focus on our strategic objectives of identifying and acquiring high-yielding SFR properties and disposing of certain mortgage loans and non-rental REO properties in order to further build our SFR property portfolio.

On March 30, 2017, we entered into an agreement to acquire up to 3,500 SFR properties (the “HOME Flow Transaction”) from entities (the “Sellers”) sponsored by Amherst Holdings, LLC (“Amherst”) in multiple closings. During the third quarter and the beginning of the fourth quarter of 2017, we evaluated the acquisition of a portfolio of approximately 1,750 to 2,000 additional SFR properties from the Sellers in the Home Flow Transaction and anticipate that the final closing for that portfolio of properties will occur in the fourth quarter of 2017.

We also continued to make significant progress toward completing the disposition of our remaining mortgage loans by completing an auction process to sell a portfolio of 365 mortgage loans with an aggregate unpaid principal balance (“UPB”) of $85.2 million to an unrelated third party. The anticipated sale represents 83% of the UPB of the remaining mortgage loans in our portfolio. Subject to typical confirmatory due diligence and negotiation of a definitive purchase agreement, we expect to consummate this transaction during the fourth quarter of 2017. As is customary in these transactions, this confirmatory due diligence process may result in certain loans being removed from the sale or a repricing of certain loans; therefore, the final composition and proceeds of this portfolio sale are subject to adjustment depending on the final diligence results and further negotiation by the parties. No assurance can be given that this transaction will be completed on a timely basis or at all. The substantial majority of our mortgage loans were previously sold during the first six months of 2017, and we expect to have an insignificant number of mortgage loans remaining upon the completion of the anticipated sale.


28


In addition, we have continued to make significant progress on the sale of our non-rental REO properties with an additional 450 and 1,385 of such properties sold during the three and nine months ended September 30, 2017, respectively. We intend to continue to sell our remaining REO properties that do not meet our rental profile as soon as reasonably practicable based on market conditions.

These mortgage loan and non-rental REO property sales continue to allow us to recycle capital that we expect to utilize in the purchase of pools of stabilized rental homes at attractive yields, to repurchase common stock or for such other purposes as we may determine. We expect our continued divestiture of our remaining mortgage loans and non-rental REO properties will continue to have positive impacts on our results of operations.

In September 2017, Hurricanes Harvey and Irma impacted certain of our properties in Texas and Florida, respectively, all of which are covered by wind, flood and business interruption insurance. For the quarter ended September 30, 2017, our condensed consolidated statement of operations reflects an estimated total net loss of $3.1 million for the properties affected by the hurricanes, which includes estimated gross casualty losses of $6.0 million, partially offset by estimated insurance recoveries of $2.9 million. We may record additional losses or receive additional insurance recoveries in future periods as property inspections are completed and insurance claims are confirmed. In addition, we experienced a nominal amount of lost revenue during the third quarter of 2017 related to lost rents at certain affected properties, the majority of which we expect to be recovered from the proceeds of our business interruption insurance.

We are also in the process of negotiating a renewal and extension of the repurchase facility with Credit Suisse (“CS”) maturing on November 18, 2017 for an additional year. Although we cannot provide assurance that we will be successful in renewing and extending the facility with CS, we expect to renew and extend the CS repurchase facility on or prior to November 18, 2017.

We believe the foregoing developments are critical to our strategy of building long-term stockholder value through the creation of a large portfolio of SFR homes that we target operating at a best-in-class yield.

Portfolio Overview

Real Estate Assets

As of September 30, 2017, we had 10,404 single-family residential properties held for use. Of these properties, 8,998 had been leased, 448 were listed and ready for rent and 565 were in varying stages of renovation and unit turn status. With respect to the remaining 393 REO properties, we will make a final determination whether each property meets our rental profile after (a) applicable state redemption periods have expired, (b) the foreclosure sale has been ratified, (c) we have recorded the deed for the property, (d) utilities have been activated and (e) we have secured access for interior inspection. A majority of the REO properties are subject to state regulations that require us to await the expiration of a redemption period before a foreclosure can be finalized. Once the redemption period expires, we immediately proceed to record a new deed, take possession of the property, activate utilities and start the inspection process in order to make our final determination. If an REO property meets our rental profile, we determine the extent of renovations that are needed to generate an optimal rent and maintain consistency of renovation specifications. If we determine that the REO property will not meet our rental profile, we list the property for sale, in certain instances after renovations are made to optimize the sale proceeds.

As of December 31, 2016, we had 9,939 single-family residential properties held for use. Of these properties, 7,293 had been leased, 703 were listed and ready for rent and 607 were in various stages of renovation. With respect to the remaining 1,336 REO properties, we were in the process of determining whether these properties would meet our rental profile.


29


The following table presents the number of real estate assets by status as of the dates indicated:

 
 
September 30, 2017
 
December 31, 2016
Rental:
 
 
 
 
Leased
 
8,998

 
7,293

Listed and ready for rent
 
448

 
703

Renovation or unit turn
 
565

 
607

Total rental
 
10,011

 
8,603

Evaluating for rental strategy
 
393

 
1,336

Total real estate held for use
 
10,404

 
9,939

Held for sale
 
546

 
594

Total real estate assets
 
10,950

 
10,533


The following table sets forth a summary of our total real estate portfolio as of September 30, 2017 ($ in thousands):

State / District
 
Number of Properties
 
Carrying
Value (1) (2)
 
Weighted Average Age in Years (3)
Alabama
 
130

 
$
20,293

 
17.6

Arizona
 
29

 
5,992

 
27.3

Arkansas
 
10

 
1,185

 
28.0

California
 
167

 
57,938

 
41.6

Colorado
 
16

 
3,214

 
28.5

Connecticut
 
24

 
5,270

 
64.8

Delaware
 
17

 
2,480

 
40.2

Dist. of Columbia
 
6

 
863

 
75.8

Florida
 
1,224

 
178,512

 
28.1

Georgia
 
2,986

 
325,090

 
30.1

Hawaii
 
2

 
334

 
38.7

Idaho
 
2

 
265

 
26.9

Illinois
 
231

 
39,436

 
46.0

Indiana
 
584

 
76,551

 
20.2

Kansas
 
20

 
3,190

 
39.1

Kentucky
 
74

 
11,072

 
22.2

Louisiana
 
13

 
1,822

 
30.9

Maine
 
1

 
100

 
143.0

Maryland
 
218

 
40,104

 
35.7

Massachusetts
 
63

 
14,495

 
83.5

Michigan
 
24

 
3,906

 
39.2

Minnesota
 
97

 
16,789

 
66.5

Mississippi
 
220

 
31,562

 
17.4

Missouri
 
120

 
18,913

 
26.4

Nevada
 
14

 
2,066

 
28.9

New Hampshire
 
1

 
177

 
123.0

New Jersey
 
135

 
21,813

 
58.3

New Mexico
 
28

 
3,357

 
26.7

New York
 
49

 
9,512

 
69.5

North Carolina
 
648

 
88,369

 
19.1


30


Ohio
 
33

 
4,704

 
31.7

Oklahoma
 
312

 
46,793

 
25.5

Oregon
 
9

 
2,046

 
31.8

Pennsylvania
 
70

 
10,244

 
62.6

Rhode Island
 
37

 
5,099

 
79.1

South Carolina
 
69

 
8,949

 
20.5

Tennessee
 
1,279

 
183,492

 
20.5

Texas
 
1,869

 
272,194

 
25.9

Utah
 
18

 
2,934

 
45.5

Vermont
 
4

 
530

 
86.7

Virginia
 
36

 
9,513

 
30.1

Washington
 
40

 
7,744

 
51.5

West Virginia
 
1

 
153

 
16.0

Wisconsin
 
20

 
2,188

 
49.7

Total
 
10,950

 
1,541,253

 
29.4

_____________
(1)
The carrying value of an asset held for use is based on historical cost plus renovation costs, net of any accumulated depreciation and impairment. Assets held for sale are carried at the lower of the carrying amount or estimated fair value less costs to sell.
(2)
The carrying value of properties acquired in the HOME Flow Transaction (described below) to date are included based upon the initial purchase price, which is subject to certain purchase price adjustment provisions as set forth in the purchase and sale agreement.
(3)
Weighted average age is based on the age of each property weighted by its proportion of the total carrying value for its respective state.

Real Estate Acquisitions

On March 30, 2017, we entered into an agreement to acquire up to 3,500 SFR properties from the Sellers in multiple closings (the “HOME Flow Transaction”). Through the third quarter of 2017, we have consummated two closings under the HOME Flow Transaction and anticipate that a final closing to acquire approximately 1,750 to 2,000 additional SFR properties will occur in the fourth quarter of 2017.

•
In the first closing on March 30, 2017, HOME Borrower II acquired 757 SFR properties for an aggregate purchase price of $106.5 million, which is subject to potential purchase price adjustments. The purchase price was funded with approximately $79.9 million in a seller financing arrangement (the “HOME II Loan Agreement”), representing 75% of the aggregate purchase price, as well as $26.6 million of cash on hand.

•
In the second closing on June 29, 2017, HOME Borrower III acquired 751 SFR properties for an aggregate purchase price of $117.1 million, which is subject to potential purchase price adjustments. The purchase price was funded with approximately $87.8 million pursuant to the HOME III Loan Agreement, representing 75% of the aggregate purchase price, as well as $29.3 million of cash on hand.

Following the above closings, as of September 30, 2017, we were committed to purchase up to 1,992 additional stabilized rental properties from the Sellers, 1,250 of which are subject to the Sellers' good faith efforts to offer such properties for sale.

During the three and nine months ended September 30, 2017, we acquired 10 and 27 residential properties, respectively, under our other acquisition programs for an aggregate purchase price of $0.9 million and and $2.7 million.

On September 30, 2016, we acquired a portfolio of 4,262 single-family residential properties located in 14 states for an aggregate purchase price of $652.3 million in two separate seller-financed transactions. The properties were acquired from two separate investment funds sponsored by Amherst, neither of which is a related party to us. In the first transaction, ARLP acquired 3,868 of the 4,262 properties through our entry into a Membership Interest Purchase and Sale Agreement (the “MIPA”) with MSR I, L.P. (“MSR I”). Pursuant to the MIPA, ARLP acquired from MSR I 100% of the membership interests of HOME SFR Equity Owner, LLC (“HOME Equity”), a newly formed special purpose entity and sole equity owner of HOME

31


Borrower, which owned such 3,868 single-family residential properties. Following the consummation of the transaction, HOME Equity and HOME Borrower became indirect, wholly owned subsidiaries of the Company. In the second transaction, ALRP entered into a Purchase and Sale Agreement (the “PSA”) with Firebird SFE I, LLC. Pursuant to the PSA, HOME Borrower, as assignee from ARLP, acquired the remaining 394 of the 4,262 properties. We refer to these acquisitions, collectively, as the “HOME SFR Transaction.”

On March 30, 2016, we completed the acquisition of 590 SFR properties located in five states from an unrelated third party for an aggregate purchase price of approximately $64.8 million. We recognized acquisition fees and costs related to this portfolio acquisition of $0.6 million. The value of in-place leases was estimated at $0.7 million based upon the costs we would have incurred to lease the properties and was amortized over the weighted average remaining life of the leases of approximately seven months as of the acquisition date.

During the three and nine months ended September 30, 2016, we acquired 238 and 642 residential properties, respectively, under our other acquisition programs for an aggregate purchase price of $24.6 million and $64.7 million, respectively.

Real Estate Dispositions

During the three and nine months ended September 30, 2017, we sold 450 and 1,385 REO properties, respectively, and recorded $21.4 million and $62.1 million, respectively, of net realized gains on real estate.

During the three and nine months ended September 30, 2016, we sold 604 and 2,200 residential properties, respectively, and recorded $26.3 million and $94.8 million, respectively, of net realized gains on real estate.

The following table summarizes changes in our real estate assets for the periods indicated:
 
First Quarter 2016
 
Second Quarter 2016
 
Third Quarter 2016
 
Nine months ended September 30, 2016
 
First Quarter 2017
 
Second Quarter 2017
 
Third Quarter 2017
 
Nine months ended September 30, 2017
Real Estate Assets
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Beginning
6,516

 
6,895

 
6,588

 
6,516

 
10,533

 
11,073

 
11,391

 
10,533

Acquisitions
703

 
291

 
4,500

 
5,494

 
757

 
768

 
10

 
1,535

Dispositions
(686
)
 
(910
)
 
(604
)
 
(2,200
)
 
(413
)
 
(522
)
 
(450
)
 
(1,385
)
Mortgage loan conversions to REO, net (1)
360

 
308

 
246

 
914

 
195

 
66

 
—

 
261

Other additions (reductions)
2

 
4

 
1

 
7

 
1

 
6

 
(1
)
 
6

Ending
6,895

 
6,588

 
10,731

 
10,731

 
11,073

 
11,391

 
10,950

 
10,950

_____________
(1)
Subsequent to the foreclosure sale, we may be notified that the foreclosure sale was invalidated for certain reasons.

Mortgage Loan Assets

As of September 30, 2017, we had 431 remaining mortgage loans with an aggregate UPB of approximately $102.6 million and an aggregate market value of underlying properties of approximately $114.3 million. During the nine months ended September 30, 2017, we completed the sale of 2,660 mortgage loans to third parties.

As of December 31, 2016, we had 3,474 mortgage loans with an aggregate UPB of approximately $823.3 million and an aggregate market value of underlying properties of $899.8 million.

Mortgage Loan Resolutions and Dispositions

During the three and nine months ended September 30, 2017, we sold 0 and 2,660 mortgage loans, respectively, to third party purchasers. In addition, we resolved 11 and 122 mortgage loans, respectively, primarily through short sales, refinancing and foreclosure sales. In connection with these sales and resolutions, we received gross proceeds of $0.1 million (net of $(2.8) million of post-closing price adjustments related to prior sales) and $463.8 million, respectively, and recorded $(2.7) million and $73.1 million of net realized (loss) gain on sales of mortgage loans, respectively.

32



During the three and nine months ended September 30, 2016, we sold 1 and 1,974 mortgage loans, respectively, to third party purchasers. In addition, we resolved 109 and 400 mortgage loans, respectively, primarily through short sales, refinancing and foreclosure sales. In connection with these sales and resolutions, we received gross proceeds of $29.3 million and $506.9 million, respectively, and recorded $9.4 million and $80.5 million, respectively, of net realized gains on mortgage loans.

As of September 30, 2017, we have sold the substantial majority of our non-performing and re-performing loans that were not expected to be rental candidates. We expect to continue to sell non-performing loans that do not meet our rental criteria. Due to the substantial proportion of our mortgage loans that have already been sold, although the number of remaining mortgage loans that may be sold will be substantially lower than it has been in prior periods.

The following table summarizes changes in our mortgage loans at fair value for the periods indicated:
 
First Quarter 2016
 
Second Quarter 2016
 
Third Quarter 2016
 
Nine months ended September 30, 2016
 
First Quarter 2017
 
Second Quarter 2017
 
Third Quarter 2017
 
Nine months ended September 30, 2017
Mortgage Loans at Fair Value
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Beginning
7,036

 
5,429

 
4,104

 
7,036

 
3,474

 
2,645

 
442

 
3,474

Resolutions
(169
)
 
(122
)
 
(109
)
 
(400
)
 
(78
)
 
(33
)
 
(11
)
 
(122
)
Dispositions
(1,078
)
 
(895
)
 
(1
)
 
(1,974
)
 
(556
)
 
(2,104
)
 
—

 
(2,660
)
Mortgage loan conversions to REO, net(1)
(360
)
 
(308
)
 
(246
)
 
(914
)
 
(195
)
 
(66
)
 
—

 
(261
)
Ending
5,429

 
4,104

 
3,748

 
3,748

 
2,645

 
442

 
431

 
431

_____________
(1)
Subsequent to the foreclosure sale, we may be notified that the foreclosure sale was invalidated for certain reasons.

Metrics Affecting Our Results

Revenues

Our revenues primarily consist of the following:

i.
Rental revenues. Minimum contractual rents from leases are recognized on a straight-line basis over the terms of the leases in residential rental revenues. Therefore, actual amounts billed in accordance with the lease during any given period may be higher or lower than the amount of rental revenue recognized for the period. As we acquire more SFR properties and continue to divest non-rental REO properties, we expect a greater portion of our revenues will be rental revenues. We believe the key variables that will affect our rental revenues over the long term will be average occupancy levels and rental rates.

ii.
Net realized gain on sales of mortgage loans. We record net realized gains or losses, including the reclassification of previously accumulated net unrealized gains, upon the liquidation of a loan, which may consist of short sale, third party sale of the underlying property, refinancing or full debt pay-off of the loan. We expect the timeline to liquidate loans will vary significantly by loan, which could result in fluctuations in revenue recognition and operating performance from period to period. Additionally, the proceeds from loan liquidations may vary significantly depending on the resolution methodology. We generally expect to collect proceeds of loan liquidations in cash and, thereafter, have no continuing involvement with the asset.

iii.
Change in unrealized gains from the conversion of loans to REO. Upon conversion of loans to REO, we mark the properties to the most recent market value. The difference between the carrying value of the asset at the time of conversion and the most recent market value, based on BPOs, is recorded in our statement of operations as change in unrealized gain on mortgage loans. We expect the timeline to convert acquired loans into REO will vary significantly by loan, which could result in fluctuations in our revenue recognition and our operating performance from period to period. The factors that may affect the timelines to foreclose upon a residential mortgage loan include, without limitation, state foreclosure timelines and deferrals associated therewith; unauthorized parties occupying the property; inadequacy of documents necessary to foreclose; bankruptcy proceedings initiated by borrowers; federal, state or local legislative action or initiatives designed to provide homeowners with assistance in avoiding residential mortgage loan

33


foreclosures; continued declines in real estate values and/or sustained high levels of unemployment that increase the number of foreclosures and that place additional pressure and/or delays on the judicial and administrative proceedings.

iv.
Change in unrealized gains from the change in fair value of loans. The fair value of each of our mortgage loans is adjusted in each reporting period as the loan proceeds to a particular resolution (i.e., modification, liquidation or conversion to real estate owned). As a loan approaches resolution, the resolution timeline for that loan decreases, and costs embedded in the discounted cash flow model for loan servicing, foreclosure costs and property insurance are incurred and removed from future expenses. The shorter resolution timelines and reduced future expenses each increase the fair value of the loan. The increase in the value of the loan is recognized in change in unrealized gain on mortgage loans in our condensed consolidated statements of operations. The exact nature of resolution will be dependent on a number of factors that are beyond our control, including borrower willingness to pay, property value, availability of refinancing, interest rates, conditions in the financial markets, the regulatory environment and other factors.

v.
Net realized gain on sales of real estate. REO properties that do not meet our investment criteria are sold out of our taxable REIT subsidiary. The realized gain or loss recognized in the financial statements reflects the net amount of realized and unrealized gains on sold REOs from the time of acquisition to sale completion.

As we acquire more SFR properties and continue to divest non-rental REO properties, we expect that a greater portion of our revenues will be rental revenues. We believe the key variables that will affect our rental revenues over the long term will be the number of acquired properties, average occupancy levels and rental rates. We anticipate that a majority of our leases of single-family rental properties to tenants will be for a term of one to two years. As these leases permit the residents to leave at the end of the lease term without penalty, we anticipate our rental revenues will be affected by declines in market rents more quickly than if our leases were for longer terms. Short-term leases may result in high turnover, which involves expenses such as additional renovation costs and leasing expenses or reduced rental revenues. Our occupancy rate is defined as leases in force in which the tenant is in place and occupying the property and leases in force in which the tenant is expected to move in shortly as a percentage of our SFR properties that are leased or available for lease. Our occupancy rate at September 30, 2017 was 95.3%. Our rental properties had an average annual rental rate of $14,636 per home for the 8,998 properties that were leased at September 30, 2017.

We continue to sell non-rental REO properties that do not meet our rental investment criteria to generate additional cash for reinvestment in other acquisitions. The real estate market and home prices will determine proceeds from any sale of real estate. In addition, while we seek to track real estate price trends and estimate the effects of those trends on the valuations of our portfolios of residential mortgage loans, future real estate values are subject to influences beyond our control.


Our investment strategy is to develop a portfolio of single-family rental properties in the United States that provides attractive risk-adjusted returns on invested capital. In determining which REO properties we retain for our rental portfolio, we consider various objective and subjective factors, including but not limited to gross and net rental yields, property values, renovation costs, location in relation to our coverage area, property type, HOA covenants, potential future appreciation and neighborhood amenities.

Expenses

Our expenses primarily consist of residential property operating expenses, depreciation and amortization, acquisition fees and costs, selling costs and impairment, mortgage loan servicing costs, interest expense, share-based compensation, general and administrative expenses, certain expense reimbursements to our Manager as well as management fees to our Manager under the asset management agreement (the “AMA”). Residential property operating expenses are expenses associated with our ownership and operation of residential properties, including expenses such as property management fees, expenses towards repairs, utility expenses on vacant properties, turnover costs, property taxes, insurance and HOA dues. Depreciation and amortization is a non-cash expense associated with the ownership of real estate and generally remains relatively consistent each year in relation to our asset levels since we depreciate our properties on a straight-line basis over a fixed life. Acquisition fees and costs include due diligence fees, property inspection fees, real estate commissions and other fees and costs involved in our efforts to acquire assets. Selling costs and impairment represents our estimated and actual costs incurred to sell a property or mortgage loan and an amount that represents the carrying amount over the estimated fair value less costs to sell. Mortgage loan servicing costs are primarily for servicing fees, foreclosure fees and advances of residential property insurance. Interest expense consists of the costs to borrow money in connection with our debt financing of our portfolios. Share-based compensation is a non-cash expense related to our share-based incentive programs. General and administrative expenses consist of the costs related to the general operation and overall administration of our business. Expense reimbursements include the compensation

34


and benefits of the General Counsel dedicated to us and certain out-of-pocket expenses incurred by AAMC on our behalf. Management fees paid to AAMC consist of a base management fee of 2% of our invested capital (as defined in the AMA), a conversion fee for assets that are converted to single-family rentals during each quarter and an incentive management fee calculated as 25% of our return on invested capital that exceeds a minimum threshold for each period.

Other Factors Affecting Our Consolidated Results

We expect our results of operations will be affected by various factors, many of which are beyond our control, including the following:

Acquisitions

Our operating results will depend on our ability to identify and execute upon SFR properties and other single-family residential assets. We believe that there is currently a large potential supply of SFR and REO properties available to us for acquisition. Generally, we expect that our SFR portfolio may grow at an uneven pace, as opportunities to acquire SFR and REO properties may be irregularly timed and may at times involve large or small portfolios. The timing and extent of our success in acquiring such assets cannot be predicted.

Financing

Our ability to grow our business is dependent on the availability of adequate financing, including additional equity financing, debt financing or a combination thereof, in order to meet our objectives. We intend to leverage our investments with debt, the level of which may vary based upon the particular characteristics of our portfolio and on market conditions. To the extent available at the relevant time, our financing sources may include term loan facilities, warehouse lines of credit, securitization financing, structured financing arrangements, seller financing loan arrangements, repurchase agreements and bank credit facilities, among others. We may also seek to raise additional capital through public or private offerings of debt or equity securities, depending upon market conditions. To qualify as a REIT under the Internal Revenue Code, we will need to distribute at least 90% of our taxable income each year to our stockholders. This distribution requirement limits our ability to retain earnings and thereby replenish or increase capital to support our activities.

Mortgage Loan Resolution Activities

The sale of our mortgage loans from time to time has allowed us to recycle our capital to grow our rental portfolio. For the mortgage loans remaining in our portfolio, we currently are evaluating additional dispositions. Prior to any such disposition, we will continue to employ various loan resolution methodologies for certain of the remaining loans in our portfolio. In particular, we expect to (1) convert a portion of our remaining sub-performing and non-performing loans to performing status and (2) manage the foreclosure process and timelines with respect to the remainder of those loans. Our evaluation of continually evolving market dynamics and the pricing of distressed mortgage loans will impact the timing of any potential sales of the remaining mortgage loans in our portfolio.

Disposition of Mortgage Loans

During 2015, we commenced efforts to sell certain non-performing loan portfolios to take advantage of attractive market pricing and evolving market conditions. As of September 30, 2017, we have sold the substantial majority of our mortgage loan portfolio and have only 431 mortgage loans remaining in our portfolio, of which 365 are included in the sale expected to close in the fourth quarter of 2017. Sales of mortgage loans that do not meet our rental property criteria have been a growth catalyst for our company, allowing us to recycle capital that we expect to continue to use to purchase rental properties that meet our return profile.

Resolution of Mortgage Loans

Prior to the disposition of the remaining mortgage loans in our portfolio, we expect that certain of our residential mortgage loans will continue to be liquidated as a result of a short sale, third party sale of the underlying property, refinancing or full debt pay-off of the mortgage loan. Upon liquidation of a mortgage loan, we have recorded net realized gains, including the reclassification of previously accumulated net unrealized gains on those mortgage loans.


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A portion of our remaining residential mortgage loans will continue to be converted into REO properties either through foreclosure or as a result of our acquisition of the property via alternative resolution such as deed-in-lieu of foreclosure. The timeline to convert acquired mortgage loans into REO can vary significantly by loan.


We anticipate that REO properties that meet our investment criteria will be converted into SFR properties, which we believe will generate long-term returns for our stockholders. If an REO property does not meet our rental investment criteria, we expect to liquidate the property and generate cash for reinvestment in other acquisitions, repurchases of common stock, dividend distributions or such other purposes as we may determine.

Portfolio Size

The size of our SFR portfolio will also impact operating results. Generally, as the size of our investment portfolio grows, the amount of revenue we expect to generate will increase. A growing investment portfolio, however, will drive increased expenses, including possibly higher property management fees and, depending on our performance, fees payable to AAMC. We may also incur additional interest expense if we incur additional debt to finance the purchase of our assets.

Results of Operations

The following sets forth discussion of our results of operations for the three and nine months ended September 30, 2017 versus the three and nine months ended September 30, 2016. Our results of operations for the periods presented are not indicative of our expected results in future periods.

Three and nine months ended September 30, 2017 compared to three and nine months ended September 30, 2016

Rental revenues

Rental revenues increased to $33.0 million and $88.7 million for the three and nine months ended September 30, 2017, respectively, compared to $9.6 million and $24.2 million for the three and nine months ended September 30, 2016, respectively. The number of leased properties increased to 8,998 at September 30, 2017 from 3,143 at September 30, 2016 (excluding the 4,262 SFR properties acquired at the end of the third quarter of 2016 in the HOME SFR Transaction as we recognized nominal rental revenues related to these properties during the third quarter of 2016). We expect to generate increasing rental revenues as we continue to acquire, renovate, list and rent additional residential rental properties. Our rental revenues will depend primarily on the number of SFR properties in our portfolio as well as occupancy levels and rental rates for our residential rental properties. Because our lease terms generally are expected to be one to two years, our occupancy levels and rental rates will be highly dependent on localized residential rental markets and our renters’ desire to remain in our properties.

Change in unrealized gain on mortgage loans

Change in unrealized gain on mortgage loans was $(28.1) million and $(157.8) million for the three and nine months ended September 30, 2017, respectively, compared to $(41.2) million and $(155.3) million for the three and nine months ended September 30, 2016. This was primarily due to the reclassification of net realized gains on the resolution or sale of mortgage loans and disposition of REOs, fewer REO conversions and lower accretion from the significant decrease in our total mortgage loan portfolio from ongoing sales and resolutions. The change in unrealized gains for the three and nine months ended September 30, 2017 and 2016 can be categorized into the following three components:

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First, we recognized an aggregate of $0.8 million and $15.2 million in unrealized gains upon conversion of mortgage loans to REO for the three and nine months ended September 30, 2017, respectively, compared to $10.7 million and $34.8 million for the three and nine months ended September 30, 2016, respectively. Upon conversion of these mortgage loans to REO, we mark the properties to the most recent market value. During the three months ended September 30, 2017, we converted 13 mortgage loans to REO status, which were offset by 13 reversions of REO properties to mortgage loan status. During the nine months ended September 30, 2017, we converted a net of 261 mortgage loans to REO status. During the three and nine months ended September 30, 2016, we converted a net of 246 and 914 mortgage loans to REO status, respectively;

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Second, we recognized an aggregate change in unrealized gains of $3.5 million and $2.2 million from the net change in the fair value of loans for the three and nine months ended September 30, 2017, respectively, compared to an aggregate change in unrealized gains of $(12.9) million and $9.8 million from the net change in the fair value of loans during the three and nine months ended September 30, 2016, respectively. The fair value of our mortgage loans is

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based on the underlying value of the collateral, current market conditions, different resolution scenarios and other factors. The assumptions utilized to determine fair value include, but are not limited to, equity discount rate, debt to asset ratio, cost of funds estimates, projected resolution timelines and costs and changes in annual home pricing index. During the three and nine months ended September 30, 2017, the fair value of our mortgage loans was impacted primarily by our disposition of the substantial majority of our mortgage loans at fair value during the second quarter of 2017; and

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Third, we reclassified an aggregate of $32.4 million and $175.3 million from unrealized gains on mortgage loans to realized gains on real estate and mortgage loans, reflecting real estate sold and the resolution or sale of NPLs for the three and nine months ended September 30, 2017, respectively. This compares to an aggregate of $39.0 million and $199.9 million reclassified from unrealized gains on mortgage loans to realized gains for the three and nine months ended September 30, 2016, respectively.

As of September 30, 2017, we had sold or resolved the substantial majority of our mortgage loan portfolio and had 431 mortgage loans remaining in or portfolio. The fair value of mortgage loans is based on a number of factors that are difficult to predict and may be subject to adverse changes in value depending on the financial condition of borrowers, as well as geographic, economic, market and other conditions. Therefore, we may experience realized or unrealized losses on our mortgage loans in future periods.

Net realized (loss) gain on sales of mortgage loans

Net realized loss on sales of mortgage loans was $(2.7) million for the three months ended September 30, 2017 compared to a net realized gain on sales of mortgage loans of $9.4 million for the three months ended September 30, 2016. The amount recognized during the third quarter of 2017 relates primarily to post-closing price adjustments on sales executed in the first six months of 2017. In addition, we also resolved 11 mortgage loans at fair value for the three months ended September 30, 2017 as compared to our resolution of 109 mortgage loans at fair value during the three months ended September 30, 2016, primarily from short sales, foreclosure sales and other liquidation events.

Net realized gain on sales of mortgage loans decreased to $73.1 million for the nine months ended September 30, 2017 from $80.5 million for the nine months ended September 30, 2016. This decrease is primarily driven by a decline in the average economics on mortgage loan resolutions and the number of mortgage loans resolved during 2017, which declined to 122 resolutions from 400 resolutions during the nine months ended September 30, 2017 and 2016, respectively, primarily from short sales, foreclosure sales and other liquidation events. This decline was partially offset by net realized gains on increased loans sales during 2017, which increased to 2,660 mortgage loans sold from 1,974 mortgage loans sold during the nine months ended September 30, 2017 and 2016, respectively.

Net realized gain on sales of real estate

Net realized gains on real estate decreased to $21.4 million for the three months ended September 30, 2017 from $26.3 million for the three months ended September 30, 2016. This decrease was principally due to realized gains recognized on reduced dispositions of 450 REO properties during the three months ended September 30, 2017 compared to 604 properties during the three months ended September 30, 2016.

Net realized gains on real estate decreased to $62.1 million for the nine months ended September 30, 2017 from $94.8 million for the nine months ended September 30, 2016. This decrease was principally due to realized gains recognized on reduced dispositions of 1,385 REO properties during the nine months ended September 30, 2017 compared to 2,200 properties during the nine months ended September 30, 2016.

As our portfolio of non-rental REO properties declines, we expect to recognize lower realized gains on real estate.

Residential property operating expenses

We incurred $17.5 million and $55.1 million for the three and nine months ended September 30, 2017, respectively, compared to $15.0 million and $51.2 million, for the three and nine months ended September 30, 2016, respectively. At September 30, 2017, we had 10,950 total properties, of which 8,998 were leased, compared to 6,469 total properties, of which 3,143 were leased, at September 30, 2016 (excluding the 4,262 SFR properties acquired at the end of the third quarter of 2016 in the HOME SFR Transaction as we recognized nominal residential property operating expenses related to these properties during the third quarter of 2016). Generally, we expect to incur increasing residential property operating expenses as we acquire more

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residential properties and/or convert more mortgage loans to REO. However, we expect this increase in expense arising from increased volume of properties to be partially offset by a decrease in the average residential property operating expense as the proportionate number of non-rental properties in our portfolio declines. Our residential property operating expenses for rental properties will be dependent primarily on residential property taxes and insurance, property management fees, HOA dues and repair and maintenance expenditures. Our residential property operating expenses for properties held while we are evaluating whether such properties will be good rental candidates will be dependent primarily on residential property taxes and insurance, property management fees, HOA dues, utilities, property preservation and repairs and maintenance.

Real estate depreciation and amortization

We incurred $15.3 million and $45.3 million of real estate depreciation and amortization for the three and nine months ended September 30, 2017, respectively, compared to $5.1 million and $12.8 million for the three and nine months ended September 30, 2016, respectively, due primarily to growth in our rental portfolio. Our residential rental portfolio increased to 10,011 properties at September 30, 2017 from 4,279 properties at September 30, 2016 (excluding the 4,262 SFR properties acquired at the end of the third quarter of 2016 in the HOME SFR Transaction as we recognized nominal real estate depreciation and amortization related to these properties during the third quarter of 2016). We expect to incur increasing real estate depreciation and amortization as we place more residential properties into service. Real estate depreciation and amortization are non-cash expenditures that generally are not expected to be indicative of the market value or condition of our residential rental properties.

Real estate depreciation and amortization includes amortization of lease-in-place intangible assets associated with our real estate acquisitions. We recognized $1.7 million and $8.3 million of lease-in-place intangible asset amortization for the three and nine months ended September 30, 2017, respectively, compared to $0.4 million and $1.3 million for the three and nine months ended September 30, 2016, respectively.

Acquisition fees and costs

We incurred $0.3 million and $0.7 million of acquisition fees and costs for the three and nine months ended September 30, 2017, respectively, compared to $5.2 million and $8.3 million for the three and nine months ended September 30, 2016, respectively. This decrease is primarily due to the capitalization of acquisition costs during 2017 upon our adoption of Accounting Standards Update No. 2017-01, Business Combinations (Topic 805): Clarifying the Definition of a Business, effective January 1, 2017, which we expect will result in the majority of our SFR property acquisitions being excluded from the definition of a business and, therefore, our capitalization of costs to acquire such properties.

Selling costs and impairment

Real estate selling costs of REO held for sale were $5.3 million and $17.5 million for the three and nine months ended September 30, 2017, respectively, compared to $3.2 million and $19.8 million for the three and nine months ended September 30, 2016, respectively. As our portfolio of non-rental REO properties declines, we expect to recognize lower selling costs upon transfer of REO properties to held for sale.

We recognized $(0.2) million and $1.5 million of mortgage loan selling costs for the three and nine months ended September 30, 2017. We recognized $1.0 million of mortgage loan selling costs during the nine months ended September 30, 2016. With the sale of the substantial majority of our remaining mortgage loans during the first six months of 2017, we anticipate our mortgage loan selling costs to decline in future periods.

We recognized $2.3 million and $11.7 million of REO valuation impairment for the three and nine months ended September 30, 2017, respectively, compared to $8.4 million and $29.2 million and for the three and nine months ended September 30, 2016, respectively. For our real estate held for use, if the carrying amount of the asset exceeds the sum of its undiscounted future operating and residual cash flows, an impairment loss is recorded for the difference between estimated fair value of the asset and the carrying amount. If an increase in the fair value of our held for use properties is noted at a subsequent measurement date, we do not recognize the subsequent recovery. For our real estate held for sale, we record the properties at the lower of either the carrying amount or its estimated fair value less estimated selling costs. If the carrying amount exceeds the estimated fair value, as adjusted, we record impairment equal to the amount of such excess. If an increase in the fair value of our held for sale properties is noted at a subsequent measurement date, a gain is recognized to the extent of any previous impairment recognized.


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Mortgage loan servicing costs

We incurred $0.8 million and $9.7 million of mortgage loan servicing costs, primarily for advances of residential property insurance, foreclosure fees and servicing fees for the three and nine months ended September 30, 2017, respectively, compared to $7.8 million and $28.0 million for the three and nine months ended September 30, 2016, respectively. This reduction of servicing costs was primarily due to a reduction of loans requiring servicing following the conversion, sale or other resolution of our mortgage loans without replenishing our loan portfolio in other loan acquisitions. We incur mortgage loan servicing and foreclosure costs as our mortgage loan servicers provide servicing for our loans and pay for advances relating to property insurance, foreclosure attorney fees, foreclosure costs and property preservation. Therefore, our loan servicing costs may fluctuate based on the size of our mortgage loan portfolio.

Interest expense

Interest expense relates to borrowings under our repurchase and loan agreements and our other secured borrowings (including amortization of deferred debt issuance costs). Interest expense increased to $14.2 million for the three months ended September 30, 2017 from $10.2 million for the three months ended September 30, 2016. The increase was driven by increased average outstanding debt balances during 2017 and increases in the variable component of our contractual interest rates.

Interest expense increased to $45.0 million for the nine months ended September 30, 2017 from $37.1 million for the nine months ended September 30, 2016. This increase was driven primarily by increased average outstanding debt balances during 2017 and by increases in the variable component of our contractual interest rates.

Certain of the interest rates under certain of our repurchase and loan agreements are subject to change based on changes in the relevant index. We also expect our interest expense to increase as our debt increases to fund and/or leverage our ownership of existing and future portfolios we intend to acquire, including in connection with each of the anticipated closings under the HOME Flow Transaction.

Share-based compensation

Share-based compensation expense was $0.4 million and $2.8 million for the three and nine months ended September 30, 2017 compared to $0.4 million and $0.5 million for the three and nine months ended September 30, 2016. The increase in share-based compensation expense is due to awards being granted to employees of AAMC in August 2016 and May 2017, in each case pursuant to the Altisource Residential Corporation 2016 Equity Incentive Compensation Plan (the “2016 Equity Incentive Plan”). Prior to our adoption of the 2016 Equity Incentive Plan, we made annual grants of restricted stock as compensation solely to our Directors. The share-based compensation expense related to grants to employees of AAMC will be fluctuate with changes in the price of our stock because we mark-to-market the fair value of the RSU and option awards since the recipients are not employees of the Company.

General and administrative expenses

General and administrative expenses increased to $3.5 million from $2.1 million for the three months ended September 30, 2017 and 2016, respectively, primarily due to increased legal and professional costs related to increased activity in ongoing litigation and general corporate activities.

General and administrative expenses were $8.7 million and $8.6 million for the nine months ended September 30, 2017 and 2016, respectively.

Management fees

Pursuant to the AMA, we incurred base management fees to AAMC of $4.0 million and $12.2 million during the three and nine months ended September 30, 2017, respectively, compared to $4.2 million and $12.8 million during the three and nine months ended September 30, 2016, respectively. The decrease in base management fees is primarily driven by declines in our average invested capital, partially offset by increases in the base management fee percentage under the AMA related to the increase in our portfolio.


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We incurred conversion fees to AAMC of $0.2 million and $1.2 million during the three and nine months ended September 30, 2017, respectively, compared to $0.5 million and $1.4 million during the three and nine months ended September 30, 2016, respectively. We expect the conversion fees to fluctuate dependent upon the number and fair market value of properties converted to rented properties for the first time during the quarter.

Because we have more than 4,500 rented properties, AAMC is entitled to receive a base management fee of 2% of our invested capital and a potential incentive management fee percentage of 25% of the amount by which we exceed our then-required return on invested capital threshold.

Losses resulting from natural disasters

In September 2017, Hurricanes Harvey and Irma impacted certain of our properties in Texas and Florida, respectively, all of which are covered by wind, flood and business interruption insurance. For the quarter ended September 30, 2017, our condensed consolidated statement of operations reflects an estimated total net loss of $3.1 million for the properties affected by the hurricanes, which includes estimated gross casualty losses of $6.0 million, partially offset by estimated insurance recoveries of $2.9 million. We may record additional losses or receive additional insurance recoveries in future periods as property inspections are completed and insurance claims are confirmed. In addition, we experienced a nominal amount of lost revenue during the third quarter of 2017 related to lost rents at certain affected properties, the majority of which we expect to be recovered from the proceeds of our business interruption insurance.

Liquidity and Capital Resources

As of September 30, 2017, we had cash and cash equivalents of $169.9 million compared to $106.3 million as of December 31, 2016. Our liquidity reflects our ability to meet our current obligations (including our operating expenses and, when applicable, retirement of, and margin calls relating to, our financing arrangements) and make distributions to our stockholders. We are required to distribute at least 90% of our taxable income each year to our stockholders to qualify as a REIT under the Internal Revenue Code. This distribution requirement limits our ability to retain earnings and thereby replenish or increase capital to support our activities.

We were initially funded with $100.0 million on December 21, 2012. Since our inception, our primary sources of liquidity have been proceeds from equity offerings, borrowings under our repurchase and loan agreements and securitization financings, cash generated from our rental portfolio, cash generated from loan liquidations and interest payments we receive from our portfolio of mortgage assets. We expect our existing business strategy will require additional debt and/or equity financing. Our Manager continues to explore a variety of financing sources to support our growth, including, but not limited to, asset backed term financing, seller financing loan arrangements, securitization transactions, debt financing through bank warehouse lines of credit, additional and/or amended repurchase agreements and additional debt or equity offerings. Based on our current borrowing capacity, leverage ratio and anticipated additional debt financing transactions, we believe that these sources of liquidity will be sufficient to enable us to meet anticipated short-term (one year) liquidity requirements, including paying expenses on our existing residential rental and loan portfolios, funding distributions to our stockholders, paying fees to AAMC under the asset management agreement and general corporate expenses. However, there can be no assurance as to how much additional financing capacity such efforts will produce, what form the financing will take or that such efforts will be successful. If we are unable to renew, replace or expand our sources of financing, our business, financial condition, liquidity and results of operations may be materially and adversely affected.

Repurchase and Loan Agreements

At September 30, 2017, we were party to one repurchase agreement and five loan agreements. Below is a description of each agreement outstanding during the nine months ended September 30, 2017:

Repurchase Agreement

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CS is the lender on the repurchase agreement entered into on March 22, 2013, (the “CS Repurchase Agreement”) with an initial aggregate maximum borrowing capacity of $100.0 million. The CS Repurchase Agreement has been amended on several occasions, ultimately increasing the aggregate maximum borrowing capacity to $600.0 million as of December 31, 2016 with a maturity date of November 17, 2017. Pursuant to the amended and restated repurchase agreement with CS dated November 18, 2016, the aggregate maximum borrowing capacity of the CS Repurchase Agreement decreased incrementally on each of January 31, 2017, February 28, 2017, June 30, 2017 and September 30, 2017 to an aggregate of $350.0 million as of September 30, 2017. At September 30, 2017, the CS Repurchase

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Agreement had an aggregate maximum borrowing capacity of $350.0 million, and we had an aggregate of $243.2 million outstanding thereunder. We are currently in renewal discussions with CS and expect to renew this facility for one year on similar terms.

Loan Agreements

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Nomura is the lender under a loan agreement dated April 10, 2015 (the “Nomura Loan Agreement”) with an initial aggregate maximum funding capacity of $100.0 million. The Nomura Loan Agreement has been amended on several occasions, ultimately increasing the maximum funding capacity to $250.0 million on December 31, 2016. On April 6, 2017, we entered into an amended and restated loan and security agreement with Nomura that retained our aggregate borrowing capacity of $250.0 million ($100.0 million of which is uncommitted but available to us subject to our meeting certain eligibility requirements), removed the exit fee requirement upon early repayment and extended the maturity date to April 5, 2018. As of September 30, 2017, we had an aggregate of $105.3 million outstanding under the Nomura Loan Agreement.

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In connection with the seller financing related to the HOME SFR Transaction, we entered into a loan agreement (the “MSR Loan Agreement”) between HOME SFR Borrower, LLC (“HOME Borrower”), our indirect wholly owned subsidiary, the sellers and MSR Lender, LLC (“MSR Lender”), as agent. Pursuant to the MSR Loan Agreement, HOME Borrower borrowed approximately $489.3 million from the lenders (the “MSR Loan”). Effective October 14, 2016, the MSR Loan Agreement was assigned to MSR Lender and, in connection with MSR Lender’s securitization of the MSR Loan, we and MSR Lender amended and restated the MSR Loan Agreement to match the terms of the bonds in MSR Lender's securitization of the MSR Loan. The aggregate amount of the MSR Loan and the aggregate interest rate of the MSR Loan remained unchanged from the original loan agreement. The MSR Loan is a floating rate loan, composed of eight floating rate components, interest on each of which is computed monthly based on one-month LIBOR plus a fixed component spread. The initial maturity date of the MSR Loan is November 9, 2018. HOME Borrower has the option to extend the MSR Loan beyond the initial maturity date for three successive one-year terms to an ultimate maturity date of November 9, 2021, provided, among other things, that there is no event of default under the MSR Loan Agreement on each maturity date. The MSR Loan is secured by the membership interests of HOME Borrower and the properties and other assets of HOME Borrower.

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In connection with the seller financing related to the first closing under the HOME Flow Transaction on March 30, 2017, HOME Borrower II entered into the HOME II Loan Agreement with entities sponsored by Amherst, pursuant to which we borrowed approximately $79.9 million in connection with the first acquisition of properties. The HOME II Loan Agreement is a floating rate loan, composed of eight floating rate components, interest on each of which is computed monthly based on one-month LIBOR plus a fixed component spread. The entire principal amount is currently allocable to one component at a fixed-rate spread over one-month LIBOR, which is anticipated to be the weighted average fixed rate spread for the duration of the HOME II Loan Agreement. The initial maturity date of the HOME II Loan Agreement is October 9, 2019. HOME Borrower II has the option to extend the HOME II Loan Agreement beyond the initial maturity date for three successive one-year extensions, provided, among other things, that there is no event of default under the HOME II Loan Agreement on each maturity date. The HOME II Loan Agreement is secured by the membership interests of HOME Borrower II and the properties and other assets of HOME Borrower II.
    
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On April 6, 2017, RESI TL1 Borrower, LLC (“TL1 Borrower”), our indirect wholly owned subsidiary, entered into a credit and security agreement (the “Term Loan Agreement”) with American Money Management Corporation, as agent, on behalf of Great American Life Insurance Company and Great American Insurance Company as initial lenders, and each other lender added from time to time as a party to the Term Loan Agreement (collectively, the “Lenders”). Pursuant to the Term Loan Agreement, TL1 Borrower borrowed $100.0 million to finance the ownership and operation of SFR properties (the “Term Loan”). The Term Loan Agreement has a maturity date of April 6, 2022 and a fixed interest rate of 5.00%.

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In connection with the seller financing related to the second closing under the HOME Flow Transaction, HOME Borrower III entered into the HOME III Loan Agreement with entities sponsored by Amherst, pursuant to which we borrowed approximately $87.8 million in connection with the second acquisition of properties. The HOME III Loan Agreement is a floating rate loan, composed of eight floating rate components, interest on each of which is computed monthly based on one-month LIBOR plus a fixed component spread. The entire principal amount is currently allocable to one component at a fixed-rate spread over one-month LIBOR, which is anticipated to be the weighted average fixed rate spread for the duration of the HOME III Loan Agreement. The initial maturity date of the HOME III Loan

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Agreement is October 9, 2019. HOME Borrower III has the option to extend the HOME III Loan Agreement beyond the initial maturity date for three successive one-year extensions, provided, among other things, that there is no event of default under the HOME III Loan Agreement on each maturity date. The HOME III Loan Agreement is secured by the membership interests of HOME Borrower III and the properties and other assets of HOME Borrower III.

The maximum aggregate funding available to us under the repurchase and loan agreements described above as of September 30, 2017 was $1.4 billion, subject to certain sublimits, eligibility requirements and conditions precedent to each funding. As of September 30, 2017, an aggregate of $1.1 billion was outstanding under these repurchase and loan agreements.

Terms and covenants related to the CS Repurchase Agreement

Under the terms of the CS Repurchase Agreement, as collateral for the funds drawn thereunder, subject to certain conditions, our operating partnership and/or one or more of our limited liability company subsidiaries will sell to the lender equity interests in the Delaware statutory trust subsidiary that owns the applicable underlying mortgage or REO assets on our behalf, or the trust will directly sell such underlying mortgage assets. In the event the lender determines the value of the collateral has decreased, the lender has the right to initiate a margin call and require us, or the applicable trust subsidiary, to post additional collateral or to repay a portion of the outstanding borrowings. The price paid by the lender for each mortgage or REO asset we finance under the CS repurchase agreement is based on a percentage of the market value of the mortgage or REO asset and, in the case of mortgage assets, may depend on its delinquency status. With respect to funds drawn under the CS Repurchase Agreement, our applicable subsidiary is required to pay the lender interest based on the lender’s cost of funds plus a spread calculated based on the type of applicable assets collateralizing the funding, as well as certain other customary fees, administrative costs and expenses to maintain and administer the CS Repurchase Agreement. We do not collateralize any of our repurchase facilities with cash. The CS Repurchase Agreement is fully guaranteed by us.

The CS Repurchase Agreement requires us to maintain various financial and other covenants, including maintaining a minimum adjusted tangible net worth, a maximum ratio of indebtedness to adjusted tangible net worth and a minimum fixed charge coverage ratio. In addition, the CS Repurchase Agreement contains customary events of default.

Terms and covenants related to the Nomura Loan Agreement

Under the terms of the Nomura Loan Agreement, subject to certain conditions, Nomura may advance funds to us from time to time, with such advances collateralized by SFR properties and other REO properties. The advances paid under the Nomura Loan Agreement with respect to the applicable properties from time to time will be based on a percentage of the market value of the properties. We may be required to repay a portion of the amounts outstanding under the Nomura Loan Agreement should the loan-to-value ratio of the funded collateral decline. Under the terms of the Nomura Loan Agreement, we are required to pay interest based on the one-month LIBOR plus a spread and certain other customary fees, administrative costs and expenses in connection with Nomura's structuring, management and ongoing administration of the facility. The Nomura Loan Agreement is fully guaranteed by us.

The Nomura Loan Agreement requires us to maintain various financial and other covenants, including a minimum adjusted tangible net worth, a maximum ratio of indebtedness to adjusted tangible net worth and specified levels of unrestricted cash. In addition, the Nomura Loan Agreement contains events of default (subject to certain materiality thresholds and grace periods), including payment defaults, breaches of covenants and/or certain representations and warranties, cross-defaults, certain material adverse changes, bankruptcy or insolvency proceedings and other events of default customary for this type of transaction. The remedies for such events of default are also customary for this type of transaction and include the acceleration of the principal amount outstanding under the Nomura Loan Agreement and the liquidation by Nomura of the SFR and REO properties then subject thereto.

Terms and covenants related to the MSR Loan Agreement, the HOME II Loan Agreement and the HOME III Loan Agreement

Under the terms of the MSR Loan Agreement, the HOME II Loan Agreement and the HOME III Loan Agreement, each of the facilities are non-recourse to us and are secured by a lien on the membership interests of HOME Borrower, HOME Borrower II, HOME Borrower III and the acquired properties and other assets of each entity, respectively. The assets of each entity are the primary source of repayment and interest on their respective loan agreements, thereby making the cash proceeds of rent payments and any sales of the acquired properties the primary sources of the payment of interest and principal by each entity to the respective lenders. Each of the loan agreements require that the applicable borrower comply with various affirmative and negative covenants that are customary for loans of this type, including limitations on the indebtedness each entity can incur, limitations on sales and dispositions of the properties collateralizing the respective loan agreements, minimum net asset

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requirements and various restrictions on the use of cash generated by the operations of such properties while the respective loan agreements are outstanding. Each loan agreement also includes customary events of default, the occurrence of which would allow the respective lenders to accelerate payment of all amounts outstanding thereunder. We have limited indemnification obligations for wrongful acts taken by HOME Borrower, HOME Borrower II or HOME Borrower III under their respective loan agreements in connection with the secured collateral.

Even though the MSR Loan Agreement, the HOME II Loan Agreement and the HOME III Loan Agreement are non-recourse to us and all of our subsidiaries other than the entities party to the respective loan agreements, we have agreed to limited bad act indemnification obligations to the respective lenders for the payment of (i) certain losses arising out of certain bad or wrongful acts of our subsidiaries that are party to the respective loan agreements and (ii) the principal amount of each of the facilities and all other obligations thereunder in the event we cause certain voluntary bankruptcy events of the respective subsidiaries party to the loan agreements. Any of such liabilities could have a material adverse effect on our results of operations and/or our financial condition.

Terms and covenants related to the Term Loan Agreement

The Term Loan Agreement requires that the TL1 Borrower comply with various affirmative and negative covenants that are customary for loans of this type including, without limitation, reporting requirements to the agent; maintenance of minimum levels of liquidity, indebtedness and tangible net worth; limitations on sales and dispositions of the properties collateralizing the Term Loan Agreement and various restrictions on the use of cash generated by the operations of the properties while the Term Loan is outstanding. We may be required to make prepayments of a portion of the amounts outstanding under the Term Loan Agreement under certain circumstances, including certain levels of declines in collateral value. The Term Loan Agreement also includes customary events of default, the occurrence of which would allow the Lenders to accelerate payment of all amounts outstanding thereunder. The Term Loan Agreement is non-recourse to us and is secured by a lien on the membership interests of TL1 Borrower and the properties and other assets of TL1 Borrower. The assets of TL1 Borrower are the primary source of repayment and interest on the Term Loan Agreement, thereby making the cash proceeds received by TL1 Borrower from rent payments and any sales of the underlying properties the primary sources of the payment of interest and principal by TL1 Borrower to the Lenders. We have limited indemnification obligations for wrongful acts taken by TL1 Borrower and RESI TL1 Pledgor, LLC, the sole member of TL1 Borrower, in connection with the secured collateral for the Term Loan Agreement.

We are currently in compliance with the covenants and other requirements with respect to the repurchase and loan agreements. We monitor our lending partners’ ability to perform under the repurchase and loan agreements and have concluded there is currently no reason to doubt that they will continue to perform under the repurchase and loan agreements as contractually obligated.

As amended, the CS Repurchase Agreement and the Nomura Loan Agreement provide for the lender to finance our portfolio at advance rates (or purchase prices) ranging from 55% to 85% of the “asset value” of the mortgage loans and REO properties. The amounts borrowed under these agreements are subject to the application of “haircuts.” A haircut is the percentage discount that a lender applies to the market value of an asset serving as collateral for a borrowing under a repurchase or loan agreement for the purpose of determining whether such borrowing is adequately collateralized. As of September 30, 2017, the weighted average contractual haircut applicable to the assets that serve as collateral for the CS Repurchase Agreement and the Nomura Loan Agreement was 10.6% of the carrying value of such assets. Under the CS Repurchase Agreement and the Nomura Loan Agreement, the “asset value” generally is an amount that is based on the market value of the mortgage loan or REO property as determined by the lender. We believe these are typical market terms that are designed to provide protection for the lender to collateralize its advances to us in the event the collateral declines in value. Under these agreements, if the carrying value of the collateral declines beyond certain limits, we would have to either (a) provide additional collateral or (b) repurchase certain assets under the agreement to maintain the applicable advance rate.

The decrease in amounts outstanding under our repurchase and loan agreements from December 31, 2016 to September 30, 2017 is primarily due to reductions of our repurchase and loan agreements upon the liquidation of REO properties or mortgage loans or the sale of pools of mortgage loans, partially offset by the consummation of the HOME II Loan Agreement and the HOME III Loan Agreement. Our overall advance rate under the CS Repurchase Agreement and the Nomura Loan Agreement decreased from 63.0% at December 31, 2016 to 62.0% at September 30, 2017, primarily due to the sale of assets with higher advance rates. The advance rate on each of the MSR Loan Agreement, the HOME II Loan Agreement and HOME III Loan Agreement is 75% of the aggregate purchase price. The advance rate on the Term Loan Agreement is 72% of the BPO value of the underlying properties. We do not collateralize any of our repurchase facilities with cash. See Note 6 to our condensed consolidated financial statements for additional information regarding our repurchase and loan agreements.


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The following table sets forth data with respect to our contractual obligations under our repurchase and loan agreements as of and for the three months ended September 30, 2017, December 31, 2016 and September 30, 2016 ($ in thousands):

 
Three months ended September 30, 2017
 
Three months ended December 31, 2016
 
Three months ended September 30, 2016
Balance at end of period
$
1,105,473

 
$
1,226,972

 
$
1,189,253

Maximum month end balance outstanding during the period
1,126,988

 
1,233,187

 
1,189,253

Weighted average quarterly balance
1,123,650

 
1,208,219

 
737,049

Amount of available funding at end of period
251,468

 
112,287

 
650,006


Other secured borrowings

On June 29, 2015, we completed a securitization transaction in which ARLP Securitization Trust, Series 2015-1 (“ARLP 2015-1”) issued $205.0 million in ARLP 2015-1 Class A Notes with a weighted coupon of approximately 4.01% and $60.0 million in ARLP 2015-1 Class M Notes. In May 2017, we repaid all of the notes issued under ARLP 2015-1 and concurrently terminated the securitization.

The following table sets forth data with respect to the ARLP 2015-1 notes as of December 31, 2016 ($ in thousands):

 
Interest Rate
 
Amount Outstanding
December 31, 2016
 
 
 
ARLP Securitization Trust, Series 2015-1
 
 
 
ARLP 2015-1 Class A Notes due May 25, 2055
4.01
%
 
178,971

ARLP 2015-1 Class M Notes due May 25, 2044
—
%
 
60,000

Intercompany eliminations
 
 
 
Elimination of ARLP 2015-1 Class A Notes due to ARNS, Inc.
 
 
(34,000
)
Elimination of ARLP 2015-1 Class M Notes due to ARLP
 
 
(60,000
)
Less: deferred debt issuance costs
 
 
(872
)
 
 
 
$
144,099


Repurchases of Common Stock

The Board of Directors has authorized a stock repurchase program under which we may repurchase up to $100.0 million in shares of our common stock. At September 30, 2017, a total of $51.5 million in shares of our common stock had been repurchased to date under this authorization, including $5.0 million in common stock repurchased during the nine months ended September 30, 2017. Repurchased shares are held as shares available for future issuance and are available for general corporate purposes.

Amendment and Waiver Agreement with Altisource Solutions

In connection with the HOME SFR Transaction and to enable MSR to be property manager for the acquired properties, we and Altisource Solutions S.à r.l. (“Altisource Solutions”), a wholly owned subsidiary of ASPS, entered into an Amendment and Waiver Agreement (the “Amendment and Waiver Agreement”) to amend the Master Services Agreement (the “MSA”) between Altisource Solutions and us, dated December 21, 2012, under which Altisource Solutions was the exclusive provider of leasing and property management services to us. Pursuant to the Amendment and Waiver Agreement, we obtained a waiver of the exclusivity requirements under the MSA for the acquired properties. Additionally, the Amendment and Waiver Agreement permits us to utilize the property management services of MSR in connection the acquisition of certain additional properties if we acquire such additional properties from an investment fund or other entity affiliated with Amherst in one or more transactions prior to an agreed-upon date. The Amendment and Waiver Agreement also amended the MSA to require us or any surviving entity to pay a $60 million liquidation fee to Altisource Solutions if (i) we sell, liquidate or dispose of 50% or more of our SFR portfolio managed by Altisource Solutions over a rolling eighteen (18) month period without using the proceeds of such sales, liquidations or disposals to purchase additional SFR assets or if (ii) the surviving entity in a change of control does

44


not assume the MSA with Altisource Solutions as property manager. The liquidation fee will not be required to be paid if we or any surviving entity terminate the MSA as a result of a material breach of the MSA by Altisource Solutions, for Altisource Solutions’ failure to meet certain specified performance standards or for certain other customary reasons. Should we be required to pay the liquidation fee, our liquidity would be materially and adversely impacted.

Commitments and contingencies related to the HOME Flow Transaction

In connection with the HOME Flow Transaction, as of September 30, 2017, we had committed to purchase up to 1,992 additional stabilized rental properties from the Sellers in an additional closing that is expected to occur during the fourth quarter of 2017. Of these 1,992 properties, 1,250 properties are subject to Sellers’ good faith efforts to offer such properties for sale. Because the additional properties to be acquired have not yet been finalized prior to the date of this report, we are unable to predict the total aggregate purchase price for such closing under the HOME Flow Transaction.

Pursuant to the purchase and sale agreement underlying the HOME Flow Transaction (the “PSA”), the ultimate purchase price of the properties acquired or to be acquired is subject to potential adjustment based on a predetermined formula set forth in the PSA, which is dependent upon the valuation of the acquired properties at a future date. Because such future valuation of the properties is unknown, we are unable to predict the ultimate adjustments, if any, that will be made to the initial aggregate purchase price at this time.

Cash Flows

We report and analyze our cash flows, including cash, cash equivalents and restricted cash, based on operating activities, investing activities and financing activities. The following table sets forth our cash flows for the periods indicated ($ in thousands):

 
Nine months ended September 30, 2017
 
Nine months ended September 30, 2016
Net cash used in operating activities
$
(46,607
)
 
$
(86,887
)
Net cash provided by investing activities
597,276

 
503,255

Net cash used in financing activities
(467,760
)
 
(473,364
)
Total cash flows
$
82,909

 
$
(56,996
)

Net cash used in operating activities for the nine months ended September 30, 2017 and 2016 consisted primarily of net loss for the period and net realized gains on mortgage loans and real estate, partially offset by a net reclassification of unrealized gains on mortgage loans to realized gains, selling costs and impairments on real estate and mortgage loans and net changes in operating assets and liabilities.

Net cash provided by investing activities for the nine months ended September 30, 2017 and 2016 consisted primarily of proceeds from mortgage loan resolutions and dispositions and dispositions of real estate, partially offset by investment in real estate and renovations.

Net cash used in financing activities for the nine months ended September 30, 2017 consisted primarily of net repayments of repurchase and loan agreements (excluding the seller financing arrangements related to the HOME Flow Transaction), the repayment of the notes issued under ARLP 2015-1 securitization trust, payment of dividends and repurchases of common stock. Net cash used in financing activities for the nine months ended September 30, 2016 consisted primarily of repayments of the notes issued by the two of our former securitization trusts, net repayments of repurchase and loan agreements, payment of dividends and repurchases of common stock.

Off-balance Sheet Arrangements

We had no off-balance sheet arrangements as of September 30, 2017 or December 31, 2016.

Recent Accounting Pronouncements

See Item 1 - Financial Statements (Unaudited) - Note 1, “Organization and basis of presentation - Recently issued accounting standards.”


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Critical Accounting Judgments

Accounting standards require information in financial statements about the risks and uncertainties inherent in significant estimates, and the application of generally accepted accounting principles involves the exercise of varying degrees of judgment. Certain amounts included in or affecting our financial statements and related disclosures must be estimated, which requires us to make certain assumptions with respect to values or conditions that cannot be known with certainty at the time our condensed consolidated financial statements are prepared. These estimates and assumptions affect the amounts we report for our assets and liabilities, our revenues and expenses during the reporting period and our disclosure of contingent assets and liabilities at the date of our condensed consolidated financial statements. Actual results may differ significantly from our estimates, and any effects on our business, financial position or results of operations resulting from revisions to these estimates are recorded in the period in which the facts that give rise to the revision become known.

For additional details on our critical accounting judgments, please see Item 7. “Management's Discussion and Analysis of Financial Condition and Results of Operations - Critical Accounting Judgments” in our Annual Report on Form 10-K for the year ended December 31, 2016 as filed with the Securities and Exchange Commission (“SEC”) on March 1, 2017.

Item 3. Quantitative and Qualitative Disclosures About Market Risk

Market risk includes risks that arise from changes in interest rates, foreign currency exchange rates, commodity prices, equity prices and other market changes that affect market sensitive instruments. The primary market risks that we are currently exposed to are real estate risk and interest rate risk. A substantial portion of our investments are, and we expect will continue to be, comprised of rental properties and NPLs. The primary driver of the value of both these asset classes is the fair value of the underlying real estate.
 
Real Estate Risk
 
Residential property values are subject to volatility and may be affected adversely by a number of factors, including, but not limited to: national, regional and local economic conditions (which may be adversely affected by industry slowdowns and other factors); local real estate conditions (such as an oversupply of housing); construction quality, age and design; demographic factors; uninsured property and casualty loss and changes to building or similar codes. Decreases in property values could cause us to suffer losses. We manage our real estate risk exposure by comparing values and saturation in the markets in which we own SFR properties. We manage our growth in each market based upon this analysis, which could cause us to alter the geographic focus of our growth initiatives.

Interest Rate Risk
 
We will be exposed to interest rate risk from our (a) acquisition and ownership of residential mortgage loans and (b) debt financing activities. Interest rate risk is highly sensitive to many factors, including governmental monetary and tax policies, domestic and international economic and political considerations and other factors beyond our control. Changes in interest rates may affect the fair value of the residential mortgage loans and real estate underlying our portfolios as well as our financing interest rate expense.

To date, we have not hedged the risk associated with the residential mortgage loans and real estate underlying our portfolios. However, we have undertaken and may continue to undertake risk mitigation activities with respect to our debt financing interest rate obligations. We expect that our debt financing will at times be based on a floating rate of interest calculated on a fixed spread over the relevant index, as determined by the particular financing arrangement. A significantly rising interest rate environment could have an adverse effect on the cost of our financing. To mitigate this risk, we have used and may continue to use derivative financial instruments such as interest rate swaps and interest rate caps in an effort to reduce the variability of earnings caused by changes in the interest rates we pay on our debt.

These derivative transactions will be entered into solely for risk management purposes, not for investment purposes. When undertaken, these derivative instruments likely will expose us to certain risks such as price and interest rate fluctuations, timing risk, volatility risk, credit risk, counterparty risk and changes in the liquidity of markets. Therefore, although we expect to transact in these derivative instruments purely for risk management, they may not adequately protect us from fluctuations in our financing interest rate obligations.

We entered into our first interest rate cap on September 29, 2016 in order to manage the economic risk of increases in the floating rate portion of the MSR Loan Agreement. We will be reimbursed by the counterparty of the interest rate cap to the

46


extent that the one-month LIBOR exceeds the strike rate based on the scheduled notional amount of the interest rate cap. We are also exposed to counterparty risk should the counterparty fail to meet its obligations under the terms of the agreement.

We currently borrow funds at variable rates using secured financings. At September 30, 2017, we had $516.2 million of variable rate debt outstanding not protected by interest rate hedge contracts and $489.3 million that was protected by the interest rate cap. The estimated fair market value of our aggregate variable rate borrowings was $1.0 billion. If the weighted average interest rate on this variable rate debt had been 100 basis points higher or lower, our annual interest expense would increase or decrease by $10.1 million, respectively.


Item 4. Controls and Procedures

The Company maintains disclosure controls and procedures that are designed to ensure that information required to be disclosed in the Company's filings under the Securities Exchange Act of 1934, as amended (the “Exchange Act”) is recorded, processed, summarized and reported within the time periods specified in the SEC's rules and forms and to ensure that such information is accumulated and communicated to the Company’s management, including its Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure.

Our Chief Executive Officer and Chief Financial Officer have evaluated the effectiveness of our disclosure controls and procedures (as defined in Rule 13a-15(e) and Rule 15d-15(e) of the Exchange Act) as of the end of the period covered by this quarterly report. Based upon that evaluation, management has determined that the Company's disclosure controls and procedures were effective as of September 30, 2017.

Changes in Internal Control over Financial Reporting

There have been no changes in the Company's internal control over financial reporting during the fiscal quarter ended September 30, 2017 that have materially affected, or are reasonably likely to materially affect, the Company's internal control over financial reporting.

Limitations on Controls

Our disclosure controls and procedures and internal control over financial reporting are designed to provide reasonable assurance of achieving their objectives as specified above. Management does not expect, however, that our disclosure controls and procedures or our internal control over financial reporting will prevent or detect all error or fraud. Any control system, no matter how well designed and operated, is based upon certain assumptions and can provide only reasonable, not absolute, assurance that its objectives will be met. Further, no evaluation of controls can provide absolute assurance that misstatements due to error or fraud will not occur or that all control issues and instances of fraud, if any, within the Company have been detected.


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Part II

Item 1. Legal Proceedings

From time to time, we may be involved in various claims and legal actions arising in the ordinary course of business. Set forth below is a summary of material legal proceedings to which we are a party as of September 30, 2017:

Martin v. Altisource Residential Corporation et al.
On March 27, 2015, a putative shareholder class action complaint was filed in the United States District Court of the Virgin Islands by a purported shareholder of the Company under the caption Martin v. Altisource Residential Corporation, et al., 15-cv-00024. The action names as defendants the Company, our former Chairman, William C. Erbey, and certain officers and a former officer of the Company and alleges that the defendants violated federal securities laws by, among other things, making materially false statements and/or failing to disclose material information to the Company's shareholders regarding the Company's relationship and transactions with AAMC, Ocwen Financial Corporation (“Ocwen”) and Home Loan Servicing Solutions, Ltd. These alleged misstatements and omissions include allegations that the defendants failed to adequately disclose the Company's reliance on Ocwen and the risks relating to its relationship with Ocwen, including that Ocwen was not properly servicing and selling loans, that Ocwen was under investigation by regulators for violating state and federal laws regarding servicing of loans and Ocwen’s lack of proper internal controls. The complaint also contains allegations that certain of the Company's disclosure documents were false and misleading because they failed to disclose fully the entire details of a certain asset management agreement between the Company and AAMC that allegedly benefited AAMC to the detriment of the Company's shareholders. The action seeks, among other things, an award of monetary damages to the putative class in an unspecified amount and an award of attorney’s and other fees and expenses.

In May 2015, two of our purported shareholders filed competing motions with the court to be appointed lead plaintiff and for selection of lead counsel in the action. Subsequently, opposition and reply briefs were filed by the purported shareholders with respect to these motions. On October 7, 2015, the court entered an order granting the motion of Lei Shi to be lead plaintiff and denying the other motion to be lead plaintiff.

On January 23, 2016, the lead plaintiff filed an amended complaint.

On March 22, 2016, defendants filed a motion to dismiss all claims in the action. The plaintiffs filed opposition papers on May 20, 2016, and the defendants filed a reply brief in support of the motion to dismiss the amended complaint on July 11, 2016.

On November 14, 2016, the Martin case was reassigned to Judge Anne E. Thompson of the United States District Court of New Jersey. In a hearing on December 19, 2016, the parties made oral arguments on the motion to dismiss, and on March 16, 2017 the Court issued an order that the motion to dismiss had been denied. On April 17, 2017, the defendants filed a motion for reconsideration of the Court’s decision to deny the motion to dismiss. Plaintiff file an opposition to defendants’ motion for reconsideration on May 8, 2017. On May 30, 2017, the Court issued an order that the motion for reconsideration had been denied. Subsequently, on April 21, 2017, the defendants filed their answer and affirmative defenses. Discovery has commenced and is ongoing.

We believe this complaint is without merit. At this time, we are not able to predict the ultimate outcome of this matter, nor can we estimate the range of possible loss, if any.

Item 1A. Risk Factors

There have been no material changes in our risk factors since December 31, 2016. For information regarding our risk factors, you should carefully consider the risk factors discussed in “Item 1A. Risk factors” in our Annual Report on Form 10-K for the year ended December 31, 2016 filed with the SEC on March 1, 2017.

Item 4. Mine Safety Disclosures
    
Not applicable.


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Item 6. Exhibits

Exhibits
Exhibit Number
 
Description
 
Separation Agreement, dated as of December 21, 2012, between Altisource Residential Corporation and Altisource Portfolio Solutions S.A. (incorporated by reference to Exhibit 2.1 of the Registrant's Current Report on Form 8-K filed with the SEC on December 28, 2012).
 
Membership Interest Purchase and Sale Agreement, dated September 30, 2016, between MSR I, LP and Altisource Residential, L.P. (incorporated by reference to Exhibit 2.1 of the registrant's Current Report on Form 8-K filed with the SEC on October 3, 2016).
 
Purchase and Sale Agreement, dated September 30, 2016, between Firebird SFE I, LLC and Altisource Residential, L.P. (incorporated by reference to Exhibit 2.2 of the registrant's Current Report on Form 8-K filed with the SEC on October 3, 2016).
 
Articles of Restatement of Altisource Residential Corporation (incorporated by reference to Exhibit 3.3 of the registrant's Current Report on Form 8-K filed with the SEC on April 8, 2013).
 
By-laws of Altisource Residential Corporation (incorporated by reference to Exhibit 3.2 of the Registrant's Registration Statement on Form 10 filed with the SEC on December 5, 2012).
 
Certification of CEO Pursuant to Section 302 of the Sarbanes-Oxley Act
 
Certification of CFO Pursuant to Section 302 of the Sarbanes-Oxley Act
 
Certification of CEO Pursuant to Section 906 of the Sarbanes-Oxley Act
 
Certification of CFO Pursuant to Section 906 of the Sarbanes-Oxley Act
101.INS*
 
XBRL Instance Document
101.SCH*
 
XBRL Taxonomy Extension Schema Document
101.CAL*
 
XBRL Taxonomy Extension Calculation Linkbase Document
101.DEF*
 
XBRL Taxonomy Extension Definition Linkbase Document
101.LAB*
 
XBRL Extension Labels Linkbase
101.PRE*
 
XBRL Taxonomy Extension Presentation Linkbase Document
__________
* Filed herewith.

49


Signatures

Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, as amended, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

 
 
 
 
Altisource Residential Corporation
Date: 
November 7, 2017
By:
/s/
Robin N. Lowe
 
 
 
 
Robin N. Lowe
 
 
 
 
Chief Financial Officer


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