Consistently Generating Above Average Yields

The MIC remains focused on first mortgages for single family residential units in B.C.

Despite a recent uptick in inflation, and a downtick in the unemployment rate, we anticipate the Bank of Canada will cut rates by June/July 2024, driven by rising financial instability, and mortgage costs.

In spite of a sharp decline in real estate activity in 2023, residential property prices have remained resilient. As of January 2024, prices in B.C. were up 11% YoY. We anticipate transaction volumes will pick up in H2-2024, driven by lower interest rates.

As of September 2023, FCMIC had $12M (6% of the portfolio) in stage three (impaired) mortgages, spread across 10 out of 256 properties, up from nil at the end of FY2022. We believe FCMIC&rsquo;s low LTV (51%) puts them in a comfortable position. FCMIC is not anticipating any losses from these impaired mortgages, a conviction supported by both management&rsquo;s and their auditor&rsquo;s decision to allocate nil of the portfolio to loan loss allowances.

Anticipating a decline in rates in H2-2024, we find high-yielding funds, such as FCMIC, increasingly appealing. We are projecting a yield of 9.1% in FY2024.

Investment Strategy

- Primary focus on single-family residential units in B.C.

- 25% of the MIC&rsquo;s assets are invested in industrial and commercial mortgages

- 30% of the MIC&rsquo;s assets are invested in second mortgages

- Terms of less than two years

- 75% LTV

The following table shows how FCMIC&rsquo;s portfolio compares to that of other MICs (with AUM of $100M+) focused on single-family residential units.

Source: FRC/Various

FCMIC has a lower risk-profile, driven by higher first mortgages, and lower LTV

FCMIC's ability to generate higher yields is driven by its large share of floating-rate mortgages, and use of leverage

FCMIC's portfolio is concentrated in B.C., indicating limited geographic diversification

Portfolio Details (YE: September 30th)

Source: Company/FRC

In FY2023, mortgage receivables were up 2% YoY to $193M vs our forecast of $200M

Debt/capital declined by 6 pp to 26%

Source: Company/FRC

In FY2023, mortgage originations were down 34% YoY; repayments were down 15%

Exposure to first mortgages declined, implying a slight increase in risk

At the end of FY2023, only 1.9% of mortgages had terms of 12+ months, down from 3.4% at the end of FY2022, implying lower risk

Source: Company/FRC

At the end of FY2023, only 1.9% of mortgages had terms of 12+ months, down from 3.4% at the end of FY2022, implying lower risk

Exposure to residential units (already built) declined 7.5 pp to 66%, implying higher risk

At the end of 2023, 61% of mortgages were in the Greater Vancouver area

Source: Company/FRC

LTV declined 2 ppt, implying lower risk

FCMIC has been able to raise lending rates quickly, as 70%+ of its mortgages are floating rates

Nil realized losses

Stage three (impaired) mortgages increased from nil at the end of FY2022, to 6% at the end of FY2023

Source: Company/FRC

However, management has not allocated any loan loss allowances as they are not expecting any losses from impaired mortgages, given the security held against them; we note that this is highly unusual as most MICs typically allocate 0.2%-1.0% of their mortgages to loan loss allowances

Source: FRC

In summary, we believe the portfolio&rsquo;s risk profile has increased slightly due to lower exposure to first mortgages, and higher stage three mortgages, partially offset by the impact of lower LTV mortgages

Financials

Source: Company/FRC

FY2023 revenue was up 44% YoY, beating our estimate by 1%, due to higher rates

Dividends were up 41% YoY, beating our estimate by 12%

Reported nil in loan loss provisions vs our forecast of $1M

The yield increased from 7.02% in FY2022, to 9.81% in FY2023, beating our estimate by 81 bp

Source: Company/FRC

The premium/differential has been declining due to competition

FRC Rating

Source: FRC

Due to higher rates, we are raising our FY2024 yield forecast from 7.9% to 9.1%

Source: FRC

Our forecast is conservative as we are assuming loan loss allowances totaling 0.5% of the portfolio over the next 24 months

Our estimate for the FY2024 yield varies between 8.0% and 9.5%, using various loan loss allowances

We are reiterating our overall rating of 2, and risk rating of 2. Anticipating a decline in rates this year, we find high-yielding funds, such as FCMIC, increasingly appealing. Key risks include a softer mortgage origination market, and higher default rates. We believe FCMIC generates higher than average yields, and maintains a relatively low-risk portfolio, with a high percentage of low-LTV/floating rate/first mortgages.

Risks

We believe the MIC is exposed to the following key risks (not exhaustive):

- Operates in a highly competitive sector

- Timely deployment of capital is crucial

- A downturn in the real estate sector may impact the company&rsquo;s deal flow

- Geographical concentration

- Distributions are not guaranteed

- Leverage increases the fund&rsquo;s exposure to negative events

- Although the MIC&rsquo;s primary focus is on first mortgages, it may invest in second mortgages which carry higher risk

- Default rates can rise during recession

Metrics	Value
Current Price	US $
Fair Value	US $
Risk	2
Week Range	US $
Shares O/S (M)	N/A
Market Cap. (M)	US $
Current Yield (%)	N/A
P/E (forward)	N/A
P/B	N/A

Metrics	Value
Current Price	US $
Fair Value	US $
Risk	2
Week Range	US $
Shares O/S (M)	N/A
Market Cap. (M)	US $
Current Yield (%)	N/A
P/E (forward)	N/A
P/B	N/A

Metrics	Value
Current Price	US $
Fair Value	US $
Risk	2
Week Range	US $
Shares O/S (M)	N/A
Market Cap. (M)	US $
Current Yield (%)	N/A
P/E (forward)	N/A
P/B	N/A

Metrics	Value
Current Price	US $
Fair Value	US $
Risk	2
Week Range	US $
Shares O/S (M)	N/A
Market Cap. (M)	US $
Current Yield (%)	N/A
P/E (forward)	N/A
P/B	N/A

First Circle Mortgage Investment Corporation

Consistently Generating Above Average Yields