Dear Partners:
Firstly, all of us at Cannect hope that this communication finds you and your family healthy and managing through this extraordinarily trying time. I have spent the last few days at home calling our borrowers and investors to discuss the current environment and to explain what steps Cannect is taking as a result.
The greatest responsibility we have is managing your investment dollars and we take that responsibility very seriously.
I can tell you all that your investment in Cannect is as safe and secure as ever. We have over 30% of our portfolio sitting in cash right now. Our pivot to this defensive position in mid-February positions us now to lend when Canadians need us most and the market is void of competition. As banks and other mortgage lenders retreat, we will be able to earn excellent risk-adjusted returns for our investors. We enter this market as we always do, with caution. The courts are closed, our borrowers are weary and property values are uncertain. Although this period is temporary its effects on the consumer could be longer lasting. Our lending practices have always been conservative. That is not going to change.
The rapid evolution of the COVID-19 situation, the attendant violent reaction of financial markets, and the remarkable policy response to the crisis have all left savers and investors bewildered. It is natural that some of you will have questions and concerns about the status of our portfolio and it is our job to provide you with clarity. We cannot change the state of nature. What we can do is explain the simple undeniable facts about our business and reassure you that our capital is safely invested right alongside yours and that “our money is where our mouths are”.
We could write a book about all of the possible forces that the COVID-19 situation could exert on the business of real estate-secured lending, but we would rather get straight to answering some of the questions that we expect many of you will have, so without further ado.
Q: Is my money safe in Cannect MIC?
A: Yes. Cannect MIC has ample liquidity (much more than we would have in the normal course) and no debt. As always, our investments are loans secured by mortgage interests in real property in which our borrowers have substantial equity. A sensitivity analysis we performed on our book of business recently illustrates that even a 40% drop in housing prices would have a less than 2% net impact on our portfolio. Remember, Cannect lends to “newly non-bankable borrowers”; these are borrowers who are looking for help to refinance into lower cost debt. Our business hasn’t changed in the past and it isn’t changing now. For more detailed information on the fund as of today have a look at our portfolio update here.
Q: How does Cannect decide which mortgages to underwrite?
A: Our underwriting principles and policies are described in detail in our Offering Memorandum (linked here). However, we generally make loans for short terms (one year or less) secured by real property that we believe is worth substantially more than the loan we have extended plus any prior indebtedness. Usually, we will lend an amount, combined with prior indebtedness (if any), that is about 50-60% of the value of the property that is pledged as security. We also only lend money when we are satisfied that the borrower has a credible and probable exit strategy – that is to say, a way to repay us when their loan becomes due.
Q: What is the status of the portfolio at present?
A: Cannect MIC has 84 loans outstanding as of today. All are current with respect to interest payments. The average loan-to value ratio of our existing book is less than 50%. Those of you who have been around for a while know that our appraisals are always conservative. This is, in part, because our in-house appraiser is one of the largest investors in Cannect MIC.
Q: Will Cannect MIC still pay dividends?
A : As a Mortgage Investment Company, Cannect will continue to pay all of its pre-tax income as dividends. There will be no suspension of dividends.
Q: What steps is Cannect taking in response to the current COVID-19 issue?
A: As we mentioned above, Cannect has ample liquidity and no debt. We are monitoring our portfolio carefully. We are taking steps (enumerated below) to manage our credit exposure to our borrowers with the primary purpose of protecting our investors’ capital. Cannect has invested heavily in a technology stack that allows all its people to work effectively and securely from almost any location – so our business operations are continuing almost uninterrupted.
Q: Can you tell us how the risk profile of Cannect MIC has changed as a result of COVID-19?
A: We see two real centers of risk that have increased for the business of the MIC. First, as you know, our business relies on the periodic receipt of interest payments and the timely repayment of the principal amounts we have lent. We expect that some borrowers may have temporary difficulty in making their interest obligations or discharging their mortgages on a timely basis. We are in communication with all of our borrowers during this trying time and only 3 of our borrowers have asked for any support at all.
Second, the uncertainty surrounding COVID-19 will cause a period of illiquidity in the market for real property. A given property may not be saleable at an acceptable price at the moment. As a result, our ability to recover the amount we have lent through a power of sale process is less than it would have been a month ago. But remember we don’t take back peoples properties anyway.
That’s not our business. It has always been our mission to find good borrowers, help them to repair their financial situation and help them find cheaper capital to repay our bridge loans. We can tell you that this is still occurring. Regardless of the impact of COVID 19 our loans are being repaid each day through payouts organized by our mortgage brokerage and others that are moving the borrowers in our portfolio to lower cost capital.
Q: How does Cannect plan to address these risks?
A: It’s important to note that these are times that demonstrate the importance of our borrowers having an adequate equity cushion. The equity cushion works in Cannect’s favour in two ways: first, our borrowers have a substantial investment of their own money in their property. As a result, they have a strong incentive to behave in a manner that protects that investment, which means paying their interest and principal on a timely basis. Second, in the unlikely event that we have to take steps to enforce our rights as a creditor, the more equity the borrower has in the property, the more likely it is that we will recover all of the amounts that are due to us. For a more detailed explanation have a look at our piece on the importance of Loan to Value.
We do not believe that it serves anyone’s interest to aggressively exercise our rights as mortgagees at this time. Our reputation earned over many years, and consequently our ability to attract new borrowers in the future would be impaired significantly and perhaps permanently were we to do so. Our borrowers would suffer consequences (perhaps permanent and severe ones) as a result of events completely outside their control, and a rush to liquidate collateral as a lender-in-possession could very well expose our investors to losses that serve no purpose except to reduce short-term uncertainty at unreasonable medium- and long-term cost.
Cannect has communicated to its borrowers that it is willing and able to accommodate their reasonable needs for temporary relief from their contractual obligations to us. As we mentioned above, our primary purpose will always be earning income while protecting our investors’ capital for reinvestment. We feel strongly that abiding through this period of uncertainty will lead ultimately to a period of opportunity for our business such as we have not seen in many years.
Q: What if I have other questions?
A: We will be happy to answer any other questions you might have to the best of our ability. Please email us at info@cannectmic.ca and we will respond to your inquiry as soon as we can.
Sincerely,
Marcus Tzaferis,
President.
