DigitalBridge Group Inc

NYSE:DBRG

Earnings Call Transcript 2018-Q3

[Operator]

Greetings, and welcome to Colony Capital's Third Quarter 2018 Earnings Conference Call. [Operator Instructions] And as a reminder, this conference is being recorded. I would now like to turn the conference over to Lasse Glassen, Managing Director at ADDO Investor Relations. Thank you, please go ahead.

[Lasse Glassen]

Good morning, everyone. Welcome to Colony Capital Inc.'s Third Quarter 2018 Earnings Conference Call. With us today from the company is Tom Barrack, Executive Chairman and CEO; Darren Tangen, President and outgoing CFO; Mark Hedstrom, COO and incoming CFO; and Neale Redington, the company's Chief Accounting Officer.

Before I hand the call over to them, please note that on this call certain information presented contains forward-looking statements. These statements are based upon management's current expectations and are subject to risks, uncertainties and assumptions. Potential risks and uncertainties that could cause the company's business and financial results to differ materially from these forward-looking statements are described in the company's periodic reports filed with the SEC from time to time. All information discussed on this call is as of today, November 7, 2018, and Colony Capital does not intend and undertakes no duty to update future events or circumstances. In addition, certain of the financial information presented in this call represents non-GAAP financial measures, reported on both a consolidated and segmented basis. The company's earnings release, which is issued this morning and is available on the company's website, presents reconciliations to the appropriate GAAP measure and an explanation of why the company believes such non-GAAP financial measures are useful to investors. In addition, the company has prepared a table that reconciles certain non-GAAP financial measures to the appropriate GAAP measure by reportable segment, and this reconciliation is also available on the company's website.

And now I'd like to turn the call over to Tom Barrack, Executive Chairman and CEO of Colony Capital. Tom?

[Thomas Barrack, executive]

Thanks, Lasse, and good morning and thank you, everyone, for joining us on today's call.

I first want to begin by thanking Richard for his service and his tremendous dedication to Colony over the past 15 years, and by applauding his many extraordinary accomplishments. Richard has been my friend and partner for almost 3 decades. First at Merrill, where his legacy as a pioneer for public equity securitization for real estate is imprinted across many of today's most prestigious large-cap real estate investment trust and real estate operating companies and of course, most recently, at Colony, where his contributions can't be overstated. His insights, his integrity, his friendship have been critical factors in Colony's evolution to this day.

The last time we spoke was on the Colony Capital fourth quarter earnings call for fiscal year 2017, which took place this last March. At that time, my stated near-term goals were shared with you, which included: One, finalizing the defensive positioning of the scale, asset class selection and complexity of our balance sheet assets acquired in the merger; two, contemporaneously reinvigorate and realign the incentives of our athletes on the field, while reducing bureaucracy and streamlining the businesses; three, transitioning investment profiles, our balance sheet assets away from a defensive yield-driven model and to an offensive total return Investment Management driven model, which is more appropriate for today's complicated investment environment; and fourth, focus on the anticipatory offense of balance sheet-originated acquisitions, vehicles and platforms, in which Colony's balance sheet acts as the GP alongside fee-bearing third-party capital.

In the past 6 months, we laid the foundation for each of these endeavors. Now let me elaborate with some specifics. On the balance sheet side, we've extensively monetized nonstrategic investments and have generated almost $1.1 billion in asset sales this year, and we've addressed a series of refinancings across our other balance sheet verticals. As it relates to Investment Management, first, we raised more than $900 million in co-investment. Next, we raised $3.75 billion of outside capital alongside our $250 million GP capital commitment for our inaugural Digital Colony fund. Additionally, we formed Colony Credit real estate, the third largest publicly listed mortgage REIT on the New York Stock Exchange. And additionally, we took concrete steps to launch an emerging markets private equity platform.

Last March, on the earnings call, I told you that I would get back to you with further details surrounding the Colony vision and my corresponding operational role as the usher of our Investment Management-led growth. I'll now proceed to fill you in with the granularity of our business plan as well as my go-forward responsibilities on the Colony team. Concurrent with the execution of our offense, we are implementing a series of near-term actions already in motion today to restore shareholder value and over time increase cash flow per share. In addition to my return as Chief Executive Officer, we've aligned our corporate management team to match the opportunity set and challenges that remain and along with that will come a revival of our legacy Colony Capital culture. These changes include Darren's promotion to the role of President, with a keen focus on growth of new investment products as well as rationalization of existing owned real estate. In addition, Mark Hedstrom, who was our CFO for almost 20 years and most recently served as our COO, will become the Chief Financial Officer. We will rigorously execute on a fully identified large-scale G&A net cost reduction program made possible by our exit from certain noncore business lines, which total $50 million to $55 million in lower expenses for 2019 alone, all but approximately $10 million of which will be cash savings. Further to our G&A reduction program, we remain sensitive to the reality that our results are largely dependent on empowering great people and we will have some additions as well. Simultaneously with the net G&A reduction program, the organization will become more decentralized, delegating greater responsibility, while always holding lieutenants to a rigorous standard of results focused accountability on a more decentralized basis. We will generate substantial liquidity through the harnessing of nonstrategic assets and balance sheet heavy real estate verticals and plan to generate more than $1 billion in additional net equity proceeds from asset sales by the end of 2019, and we'll utilize that capital to originate and syndicate new third-party investment products on a global basis. We'll fortify the balance sheet, protect the $0.44 dividend and seek to maintain REIT status even as investment management earnings grow in 2019. This will include deleveraging and extending the duration of some remaining liabilities, locking in fixed rate debt whenever we can and reserving capital for near-term maturities and capital expenditures.

The key to our success is simple: It is capital allocation. We will balance the sale of income-producing assets with the redeployment of capital, which can leverage third-party investing partnerships of acceptable duration and terms. Assets priced to perfection and our macro outlook are driving us to scour the globe for compelling value added and opportunistic transactions, which can be paired with third-party capital targeting capital gains oriented long-term total returns. As we consummate more and more total returns to our transactions, we will slowly transition our ownership of balance sheet investments from a harvester of fully priced to mature assets to new opportunistic themes driven by the anticipation of macro corrections and micro misalignments in an effort to create and build total return without sacrificing the stability of distributable yield. This transition will occur as a result of the utilization of our balance sheet to originate opportunistic transactions or portfolio acquisitions, which can be subsequently syndicated to fee-bearing third-party capital. It also will occur as we utilize our balance sheet to acquire and grow operating platforms, which we can subsequently sell down to the public or private markets as you have seen at our industrial single-family rental digital infrastructure and credit platforms. You can expect much more along these exact lines. We will use our balance sheet to acquire pre-existing complementary Investment Management platforms in additional growth areas such as emerging markets, which view our infinite life balance sheet and global distribution capabilities as strategic and important in and of themselves.

In March, on our fourth quarter earnings call, we promised to deliver on the defensive portion of our path to shareholder value, while laying the seeds for offense. We've accomplished just that. A senior management restructuring, G&A reductions, a cultural reorientation, a rush to liquidity and the corresponding transition and the total return profile of our balance sheet are all in motion today. Our successful fund-raising of Digital Colony, our successful syndication of AccorInvest, our formation of CLNC and our creation of the emerging markets platform all demonstrate the positive direction of the growth of our alternative Investment Management business.

Our health care and hospitality verticals are in rotation, and we will maximize cash flows by restructuring debt, enhancing operations and transitioning lower quality assets to higher-quality assets. We'll monetize assets in both these verticals at every opportunity in which the private market ascribes a higher value than the public market.

Digital infrastructure, light and bulk industrial and emerging markets are total return-oriented asset classes in which you can expect Colony to redeploy the massive liquidity, which we will generate from asset sales in the coming year.

We've executed on the defense, we've introduced the beginning of a new offense, the results of which are starting to emerge. And the newly aligned management structure will leave us positioned for a more opportunistic capital allocation focus and a much condensed time frame.

Thanks very much. And now I will hand over the call to Darren Tangen.

[Darren Tangen, executive]

Thank you, Tom. Good morning, everyone, and thanks for joining us today. As a reminder, in addition to the release of our third quarter earnings, we filed a corporate overview and supplemental financial report this morning. Both of these documents are available within the public shareholders section of our website.

Before I begin my comments, I'd like to quickly echo Tom's sentiments about Richard. I've had the distinct pleasure to work closely with Richard for over 15 years and he has been an incredible friend, partner and mentor to me. For these reasons, I have very mixed emotions about his departure. And I wish him only the best in his future endeavors and thank him for all of his many valuable contributions to Colony.

On to our quarterly results. Overall, we had another very good quarter and we're very pleased with our combined results through the first 9 months of 2018. Fund-raising and asset monetizations, in particular, are well ahead of the targets that we established at the beginning of the year. And company-wide core FFO is also now looking to finish 2018 slightly ahead of plan. This improved 2018 outlook has emerged following better-than-expected third quarter operating results from our real estate verticals and Investment Management businesses taken as a whole, notwithstanding weaker-than-expected market results from CLNC and our OED segments.

Third quarter 2018 net loss attributable to common stockholders was $70 million or $0.15 per share, and core FFO was $102.2 million or $0.20 per share. This brings our year-to-date core FFO to $0.58 per share, which is ahead of where we expected to be through the first 9 months of the year. However, as a reminder, seasonality always negatively impacts our fourth quarter hospitality and health care businesses, which will see reduced contribution to core FFO during this period. I won't get into all the specific third quarter operating results for each of our segments on this call, but details can be found in our publicly filed earnings materials.

In retrospect, we have made tremendous progress in 2018 in our transition away from asset heavy real estate verticals and nonstrategic OED investments to more balance sheet light Investment Management businesses and strategies. This remains consistent with our vision for the company and the transition plan we began earlier this year. While we've made progress laying the foundation for growth in our refocused strategy, we recognize that our strategic plan remains incomplete, and we now need to execute on the offensive opportunities in front of us. We will continue to generate substantial liquidity in our $1.5 billion net book value, nonstrategic OED portfolio and move to monetize positions in health care, hospitality, industrial and CLNC. This capital will be redeployed to rapidly expand our Investment Management business and grow third-party fee-bearing capital and investment strategies with a greater total return profile. For example, we used our balance sheet to invest and commit approximately $600 million to new investments this year, which led to $5.2 billion of third-party capital raising year-to-date, our most successful fund-raising campaign since the global financial crisis. We intend to continue in this same vein in 2019 and we are very excited about the launch of several new products and strategies, which we will report on next quarter.

More broadly, to accelerate our strategic plan, we will continue to exit subscale businesses and those that are inconsistent with the strategic vision that Tom and I just outlined. With the expected liquidity from exiting noncore businesses and assets, we must remain disciplined about capital allocation and deployment. We will also continue to derisk our balance sheet through deleveraging and refinancing activities in the face of rising interest rates. For these reasons, as well as the continued exit of nonstrategic businesses, we have announced a corporate restructuring and cost-reduction plan to simplify and realign the global organization with a refocused corporate strategy. Following a strategic review process initiated earlier this year, the plan is expected to deliver $50 million to $55 million of annual cost savings on a run-rate basis by the end of 2019. The majority of these savings will be seen in 2019 and early 2020, although we may see some savings realized in the fourth quarter of this year. These initiatives will result in a more decentralized operational structure better suited for further growth in our Investment Management business. In conjunction with the restructuring, we estimate that the company's global workforce will decrease by 15%. These are very challenging decisions to make, and which we do not take lightly, but are critical for the long-term positioning and performance of the company.

In summary, 2018 has been a very busy and productive year for Colony. But as we turn to offense in 2019, we will become a more balance sheet light Investment Management focused company and this will underpin our strategy going into next year. We will continue to be a net seller of real estate assets and disciplined about capital redeployment. But to be clear, the foundation of our future growth rests with our Investment Management business and our talented group of people across the organization. Our reinvigorated team will source and transact on the most compelling opportunities around the globe where we have the competitive edge and where we can employ a third-party capital model focusing primarily on investments within the real asset spectrum. This is our path forward to maximize shareholder value and we look forward to reporting our successful progress against these initiatives in the quarters ahead.

With that I'd like to turn the call over to the operator to begin Q&A. Operator?

[Operator]

[Operator Instructions] Our first question is from the line of Randy Binner with B. Riley.

[Randolph Binner, analyst]

My first question is on the targeted $50 million to $55 million of savings. Is there an upfront cost that we should think of for that program? And what would the timing of that be?

[Mark Hedstrom, executive]

This is Mark Hedstrom. Thanks, Randy, for the question. There are -- there will be costs associated with the reduction in force. Those will occur at the same time as those reductions occur, so they'll be somewhat spread out. We don't anticipate unusual costs upfront. There will be some other costs and restructuring to achieve administrative cost savings as well. Those will occur really throughout the year.

[Randolph Binner, analyst]

But they would be -- but the $50 million to $55 million, it's not net of those expenses? There's a cost to achieve it. So it would just be kind of ratably as we roll through '19, is that the right way to think of it?

[Mark Hedstrom, executive]

That's the right way to think of it.

[Randolph Binner, analyst]

Size-wise, is it like something like $10 million to $20 million or is it -- I mean, just trying to get an idea on order of magnitude.

[Mark Hedstrom, executive]

That's probably a reasonable estimate, although we don't have a final number for that yet.

[Randolph Binner, analyst]

Okay, that seems proportionally right. And then on the commentary around the goal for $1 billion of asset sales net by year-end '19. I guess the question is, where would those primarily come from? And would that contemplate any potential change with the very large health care maturity that you have at year-end '19?

[Darren Tangen, executive]

Randy, it's Darren Tangen here. So the majority of those asset sales we're anticipating here in the fourth quarter of this year and going into 2019 are really coming out of the nonstrategic OED segment. So I don't know if you noted in the earnings release this morning, but we actually went from about $1.9 billion of net book value last quarter to $1.5 billion of net book value at the end of September -- sorry, at the end of the third quarter, and it's really that portfolio that we're going to continue to focus on for monetizations again, through the balance of this year and throughout all of 2019.

[Randolph Binner, analyst]

Speaking of OED, with the sales in the quarter, can you characterize kind of where they came in relative to market equity value?

[Darren Tangen, executive]

Yes. I mean, really consistent with where carrying value was. I mean, I think on a blended basis, there might have been a small net gain, but again, in the aggregate, very close to carrying value.

[Randolph Binner, analyst]

Just if I could do one more, just on the health care portfolio and the maturity next year. Is there any update you can give us there? It seems like health care is less of a core segment. If 15% of the headcount is being reduced, it seems like there might be a structural change. So is that -- is there potentially kind of a strategic shift in how that matter will be dealt with?

[Darren Tangen, executive]

Not with health care but there is that looming liability, mortgage maturity at the end of next year that you referenced. And one of the things that we're working on here in the near term is closing a refinancing of a smaller portfolio that exists -- of medical office buildings that is a part of that collateral pool today. So with those proceeds, there'll be a partial amortization of that loan and that might be something we want to do more of into 2019 as we work towards the final maturity in December of 2019, just to have that ultimate refinancing be on a smaller balance.

[Operator]

Our next question comes from the line of Jade Rahmani with KBW.

[Jade Rahmani, analyst]

Just bigger picture outlook. What impact do you expect additional fed rate hikes to have on the commercial real estate market? So far, it seems that the wall of capital and plethora of debt funds have stepped in to absorb any impact of the move in the tenure, but it feels like we could potentially be on the cusp of a change in the market, meaning a correction in pricing. Do you agree, and do you anticipate Colony to be a net beneficiary of potential deterioration that may play out?

[Thomas Barrack, executive]

Jade, good morning. It's Tom. If we knew the exact answer to that this talk would be at 90, right? I think it's very simple from where we're going to have an interest rate point of view, which is we have to be impervious to it. So on the floating rate debt portion of our balance sheet that we've got it's always a catch up. So if you look at health care and hospitality and the floating rate debt aspect of it, theoretically, if supply and demand is at a parity and the Fed is continuing to raise interest rates, and we have a short term blurb, we should get an increase and NOI at the bottom line from both occupancy and ADR at the hospitality side. Even with growing health care and hospitality cost at the bottom line, it lags. But I think our point of view is the rush of liquidities as central banks stop going long everywhere, right, in the U.S, our balance sheet, maybe it stays at $3 trillion. The U.S. already signifies they're going to start pulling out and they've done that, and Japan will follow. So as you pull out of the long side liquidity becomes an issue, not really interest rates. So in the flood of liquidity that we are seeing in third-party capital is epic. And kind of moving away from this surgically, perfectly driven yield environment where we think investors are confusing return on capital with return of capital, you see it big time in assets like health care and hospitality, right? CapEx is a killer. So we switch from that and say, what we're interested in is free cash flow and total return. And however Nobel Prizes had been won on the fact that there really is no difference in analyzing total return between what component is yield and what component is residual. So we're not playing the interest rate game. We're adapting every time that we can to fixed rate, extending the term, hedging where it's appropriate. But we're really looking at cracks and fissures that will occur as a result of investors redefining their own asset classes and portfolios, and getting away from taking the donkey end of these real estate assets, which is being a passive owner of stabilized yield with no value adding component. It's just not going to work in the long term. That's a much better market for us. We're going to be much more opportunistic, we're going to have tremendous liquidity, we're going to move to monetization every time we can where it's not a strategic continuing yield, we're going to protect the dividend at all costs and you're going to see the component of Investment Management income as a percentage of our total income increase without sacrificing REIT status this year. So we're hoping a little bit of dislocation will be very good for us.

[Jade Rahmani, analyst]

In terms of the strategic outlook, do you expect Colony to remain an independent stand-alone company? Or does it make sense to consider combining with other players in the Investment Management space?

[Thomas Barrack, executive]

Look, all things are possible but the bottom line is we don't need anybody. I think we're at the forefront of being independently viable and if the arbitrage ends up being that we can take advantage in the public or private market by our balance sheet of acquiring another entity, and that's a faster path to increasing share price, distributable dividend and total return, we'd that. But we're not interested in tucking ourselves into somebody else's set of problems.

[Jade Rahmani, analyst]

Back to the health care maturity question. Is turning over the properties to the servicer a viable consideration at this point and also free up management resources and just the internal amount of attention that's being spent on that noncore part of the business?

[Darren Tangen, executive]

Jade, it's Darren. I mean look, that's always an alternative with nonrecourse mortgage financing. But that's not our plan with this portfolio, no. As I mentioned, we are working on a smaller refinancing, which is a subset of the assets in that collateral pool. And that might very well be, as I mentioned earlier with Randy, the strategy going into 2019 to sort of break it up and do multiple refinancings to get that large loan ultimately refinanced in December of next year.

[Jade Rahmani, analyst]

Okay. Can you discuss the NRE internalization that was announced today and strategic alternatives? As a place to deploy capital, wouldn't you consider increasing your stake in NRE since it's trading so far below NAV and adding scale through your own European investments that way?

[Darren Tangen, executive]

Sure. Well, we do own 11% of NRE today, and that position we took was really to create alignment with the other shareholders and because we saw that company trading at such a significant discount to its NAV. I think we've come to the realization, along with the discussions we've had with the board and the strategic committee there that we've made various strategic attempts to find ways to close that gap between where NRE has recently traded and where its NAV is. And we failed to find a way to really close that gap, which I think was why the discussion ultimately led to the disclosure this morning that the strategic committee of NRE has hired a bank and they're going to run a strategic alternatives process. As a part of that, we negotiated with the strategic committee for an amount that we would be willing to terminate the management contract in the context of either a sale, or failing a sale if there was an internalization of management of that company. And I think if you sort of see how NRE has traded over the last couple of days -- they also announced yesterday the sale of one of their major assets at a very favorable price, which I think sort of really proves out the NAV of that company. So I mean look, this is really about doing the right thing and creating value for NRE shareholders and, of course, we're one of the largest as an 11% shareholder. And that was really why we decided to do what was announced this morning.

[Jade Rahmani, analyst]

Yes. I think it also is a positive signal about how Colony approaches trading value for investors. On the industrial side, with the open-end structure, do you anticipate that to continue? Or does it make sense to migrate that capital into a permanent vehicle such as a REIT or something else?

[Darren Tangen, executive]

No. I think it very much makes sense, and in many ways, an open-end fund is a private cap -- the market version of a permanent capital vehicle, right, in that it can be perpetual. But I think, no, we like that the structure. We think it's the appropriate structure for that business. That's a strategic business for us that we want to be in over the long run, and our hope is that it will continue to grow similar to how it has grown this year.

[Thomas Barrack, executive]

I think an interesting thing again, going to where we're going on offense, is we just have been awarded a big industrial portfolio, which has 2 components. It's got a light industrial component, and it's got a bulk industrial component. And we've been trying to get into the bulk business for quite a while because institutionally, especially abroad, it's a much wider marketplace. So as we look at the open-end front side of our logistics in light industrial business, the bulk side could be an entirely different product set from an entirely different constituency, and that's really the mark. And then next year is to supply the third-party investment marketplace with the kind of products that they want, by using our balance sheet to originate transactions where our competitors can't. That's our competitive edge. A balance sheet, which at times looks daunting, is really the secret weapon. And the more liquidity that we create in this kind of a marketplace, the better leverage we'll have on third-party capital. And bulk is a place that now you'll see us move.

[Jade Rahmani, analyst]

In terms of the management changes that were announced, with all due respect to Darren Tangen who I've known for quite a long time here, I'm just curious why management decided not to bring in someone new from the outside to step into the role as President?

[Thomas Barrack, executive]

I think, let me answer this because Darren's probably too humble to do that. We looked at all those options and when we analyzed all the attributes that we needed, Darren actually comes up on top of any third-party list. But in addition to that, as you have been patient in cycling with us through this merger, the complexity, it would take any new entrant a year just to figure out where the architecture of the structure is. So our best assets have been our homegrown people. The key to this business is teams and themes. At every example of Darren growing into the next set of responsibility you're going to see that across the realm. We're going to move from a decentralized bureaucratic anchored structure, which is a result of what we had to do in this merger, to a decentralized regional focus that's built on action and silos, and Darren is the best person for that. As Mark returning to CFO status, Mark was the CFO for 20 years. So as we did what we -- and Richard did a very good job on what he had to do. This merger was a nightmare. It was very difficult. And we knew it was difficult, and that's why we did it. The complexity was one of the advantages that we saw. So we have all the expertise internally to get the job done. And we wake up every morning and say, there's only one thing, which our CEO team and friends say every day in their own accord, which is the fight never ends and failure is not an option. So there's no outside resource that's going to make it easier. We have the resources inside, we have the equipment, give them the resources, hold them accountable, and transition from harvesting stale yield to producing and seeding third-party capital on a total return basis. And that's going to be Darren's job, so he's sitting here sweating as we're talking.

[Operator]

[Operator Instructions] Our next question is from the line of Mitch Germain with JMP.

[Mitch Germain, analyst]

Darren, I know you didn't spend much time on the quarter. Just curious the $0.20, is that a clean number to build on? I know we've got some seasonality to account for next quarter in launching, but is that kind of the way we should think about that number?

[Darren Tangen, executive]

Yes. There was about a $0.01 of net gains, and I think there was about $0.02 of other positive nonrecurring type contributions to that core FFO result, Mitch. So I suppose if you take those 2 components out, you'd be more $0.17 clean.

[Mitch Germain, analyst]

If I listen to what Tom talked about and Darren yourself about kind of directionally where you're heading next year, it seems like sales will continue to dominate, there could be a bit of a drag as to when you deploy that capital and the third-party AUM kind of builds up. How does this model, in terms of how it's structured today, begin to produce some meaningful earnings growth?

[Thomas Barrack, executive]

It's the right question, and we think that the magic formula is to use our revolver in a really smart way. And we have a $1 billion revolver that we hardly ever use. So if you look at cost of capital, which we sit down every day on your behalf trying to figure out, the lowest cost of capital that we have at the moment is that revolver. So if you looked at total return on every dollar of equity that we invest and say we want to be a 10% to 12%, the harvesting of those assets and the monetization and a little bit of lag behind using our revolver is the answer to not monetize and lose that yield before we have a real utilization of those funds. And we've done a great job. The repurchase of common stock, that debate will go on forever as to when to do it and what price to do it and how to do it. We did it effectively in this last year and we're happy with what we did. We retired preferred stock, which we think was the prudent thing to do in kind of curating our balance sheet. But going forward, using that revolver a little ahead of where we are as we create products and then harvesting the monetization in the private markets for those assets is what we intend to do. And building those platforms is just like calling digital. We know what we did on $250 million of capital and raising almost $3.7 billion in less than a year, it's based on the team and the theme and our distribution mechanism. So when you really look at the value of what the entity is at the end of the day, to distribute that kind of product it's pretty remarkable. Same with AccorInvest. Same with what we have in our pocket to -- we have almost $1 billion of equity in each of the CLNC and industrial vehicles. We can reduce our GP investment in those entities at any time that we want when we have a higher and better use for the capital. So the name of the game I think for all of us, especially Colony today, is capital allocation.

[Mitch Germain, analyst]

Tom, while I have you, if I get a sense from your discussion point, your commentary, it seems like an outright exit from lodging or health care doesn't seem to be in the cards but, clearly, both of those segments are not structured with a third party vehicle to the extent at least that I'm sure you want. Is over time the thought that -- when are we going to gain some insight as to what the long-term strategy is for those 2 segments in particular?

[Thomas Barrack, executive]

Yes. I think -- the segments have been built with such complication that they don't lend themselves to immediate third-party access. So if you think in health care there's already a third-party intended piece, so that third-party piece, which was a marked premerger kind of hamstrings us from what we can do in each of those asset classes. So if you look at skilled nursing and medical office and senior housing, all which are cycling in a different place, we've got options with all of them. And it might end up that the opportunity really is in when are all 3 of those asset classes within health care. Like senior housing, we've got a tremendous senior housing business in the U.K., and it's doing a great job on the whole portfolio. But I think the answer to your question is that the CapEx expenditures at this time in the cycle, in this market for those businesses, is horrible, as it is in hospitality. Dave Schwarz runs our hospitality business, we've got a tremendous select service business, but nobody really looks at free cash flow. When you go below the line and you look at what it takes in recurring CapEx just to keep market share, quite honestly, I've never understood the business, right? You're just staying even. So if you look at all of our competitive REITs, they all have the same problem, which is to keep market share as occupancy is moving up and ADR is slowly moving up. Wages and expenses eat into it, and then just as you start making gains you have to redo your PIF, CapEx comes in and you lose it again. So long term for us, at this point in the cycle where always assets are priced to perfection and that marketplace is really, in our estimation, confusing return of capital and return on capital, you exit every time you have an opportunity in the private markets for a total sale. So the third-party annexing of assets in both of those portfolios is piecemeal, too complicated to do in whole. So we'll run to the exit door every time that we can to lighten up our balance sheet load.

[Mitch Germain, analyst]

Got you. And last one for me. If I look at the other equity in debt market, I know you've got the strategic, you've got nonstrategic, things like obviously investment funds, NRE and CLNC, maybe Darren, what specifically -- how do you want this segment to look in a year or 24 months away? Like where are the ideal candidates for sale within this bucket?

[Darren Tangen, executive]

Sure. Really, I would say in 2 years' time Mitch, we want to see that $1.5 billion of net book value and the nonstrategic component of OED be virtually all monetized. At the same time, you're going to see the strategic OED, which is a $600 million of net book value at the end of the quarter as opposed to $500 million the quarter before that is going to continue to grow, right? I mean, that's where we're going to be taking these 5% or 10% GP co-investment positions and raising third-party capital to go pursue one-off transactions or these might be positions that we have in funds or other vehicles. So that part of OED is going to be growing. The nonstrategic part is going to be shrinking. And when those actually cross over, what we're likely to do is reclassify or rename this segment, and it'll be named something like GP co-investment, because that's really what this is going to migrate or morph into becoming.

[Mitch Germain, analyst]

And the GP -- just last one, I apologize, just a follow-up. The GP co-investments, obviously they are a host of different types of investments. I mean, what is the breakdown in terms of property versus debt versus volumes -- I mean, how do we gain some insight on what that bucket involves?

[Darren Tangen, executive]

Well, we'll probably start -- as it becomes more material in size, we'll probably need to provide more granularity on what the individual positions are. But just to give you -- I mean it's mostly equity positions. There are some credit-oriented positions in terms of our GP stake. You may recall that our last global opportunistic credit fund, which is called CDCF IV, CLNY was a 20% LP or co-investor in that fund. So all of those 20% fundings that, that fund has invested in represents part of the strategic OED. But the majority of the strategic OED are co-investments into equity oriented deals. A more recent example of that was the EUR 50 million co-investment we made alongside EUR 650 million of third-party capital in this AccorInvest deal that Tom mentioned earlier, right? So all of these little GP stakes are what's sitting in the strategic OED category.

[Operator]

That concludes our question-and-answer session. I'd like to turn the floor back over to management for closing comments.

[Thomas Barrack, executive]

Thanks, everyone. This is Tom, and thanks for being on the call with us today, and thanks for your patience as we transition. A difficult period and today has been a heroic day in some aspects, and it's also a day of thanks and consideration to Richard and the great team that brought us to the point that we now transition into 2019 with great hopes and expectations. And hang in there with us, I think you're going to be happy at the end of this year. Thanks for your time.

[Operator]

This concludes today's teleconference. You may disconnect your lines at this time, and thank you for your participation.