FAIR VALUE

Valuation Allowance and Fair Value Measurement of Loans and Real Estate Held for Sale

Our valuation analysis process and procedures are disclosed in our Annual Report on Form 10-K for the fiscal year ended December 31, 2016. We perform a valuation analysis of our loans, REO held for sale, Other REO and equity investments not less frequently than on a quarterly basis. We consider all relevant, material circumstances to determine if, and the extent to which, a valuation allowance is required.

Impairment for collateral dependent loans is measured at the balance sheet date based on the then fair value of the collateral in relation to contractual amounts due under the terms of the applicable loan if foreclosure is probable. Substantially all of our loans in default are deemed to be collateral dependent.

REO assets that are classified as held for sale and Other REO are measured at the lower of carrying amount or fair value, less estimated cost to sell. If an asset is considered impaired, an impairment loss is recognized for the difference between the asset’s carrying amount and its fair value, less estimated cost to sell. If we elect to change the disposition strategy for our other real estate owned, and such assets were deemed to be held for sale, we may record additional impairment charges, and the amounts could be significant.

We assess the extent, reliability and quality of market participant inputs such as sales pricing, cost data, absorption, discount rates, and other assumptions, as well as the significance of such assumptions in deriving the valuation. We generally employ one of five valuation approaches (as applicable), or a combination of such approaches, in determining the fair value of the underlying collateral of each loan, REO held for sale and Other REO asset: (i) the development approach; (ii) the income capitalization approach; (iii) the sales comparison approach; or (iv) the receipt of recent offers on specific properties. The development, income capitalization, and sales comparison approach use significant unobservable inputs and are therefore classified as Level 3 inputs. A recent offer is an observable input and is therefore considered a Level 2 input. The valuation approach taken depends on several factors including:


•	the type of property;


•	the current status of entitlement and level of development (horizontal or vertical improvements) of the respective project;


•	the likelihood of a bulk sale as opposed to individual unit sales;


•	whether the property is currently or near ready to produce income;


•	the current sales price of property in relation to cost of development;


•	the availability and reliability of market participant data; and


•	the date of an offer received in relation to the reporting period.

With respect to properties or loans for which we (or the borrower) have received a bona fide written third-party offer (or entered into a purchase and sale agreement) to buy the related property, we generally utilize the offer or agreement amount even where the amount is outside our current valuation range, as offers and purchase agreements are considered lower (Level 2) inputs. An offer or agreement is only considered for valuation purposes if we deem it to be valid, reasonable, negotiable, and we believe the counterparty has the financial wherewithal to execute the transaction. When deemed appropriate, the offers received may be discounted to allow for potential changes in our on-going negotiations.

Factors Affecting Valuation

The underlying collateral of our loans, REO held for sale and Other REO assets vary by stage of completion, which consists of either raw land (also referred to as pre-entitled land), entitled land, partially developed land, or mostly developed/completed lots or projects. While we continue to utilize third party valuations for selected assets on a periodic basis as circumstances warrant, we rely primarily on our outside asset management consultants and internal staff to gather available market participant data from independent sources to establish assumptions used to derive fair value of the collateral supporting our loans and real estate owned for a majority of our loan and REO assets.

Our fair value measurement is based on the highest and best use of each property which is generally consistent with our current use for such property. In addition, our assumptions are based on assumptions that we believe market participants for those assets would also use. During the three months ended June 30, 2017, we performed both a macro analysis of market trends and economic estimates, as well as a detailed analysis on selected significant REO assets. In addition, our fair value analysis included a consideration of management’s pricing strategy in disposing of such assets.

The following is a summary of the procedures performed in connection with our fair value analysis as of and for the three and six months ended June 30, 2017:


1.	We reviewed the status of each of our loans to ascertain the likelihood of collecting or recovering all amounts due under the terms of the loans at maturity based on current real estate and credit market conditions.


2.	We reviewed the status of each of our REO assets to determine whether such assets continue to be properly classified as held for sale, held for development, operating properties or other REO as of the reporting date.

For the three and six months ended June 30, 2017, given the lack of significant change in overall general market conditions, we performed an internal analysis to evaluate fair value for the balance of the portfolio not covered by third-party valuation reports or existing offers or purchase and sale agreements. Our internal analysis of fair value included a review and update of current market participant activity, overall market conditions, the current status of the property, our direct knowledge of local market activity affecting the property, as well as other market indicators obtained through our asset management group and various third parties to determine whether there were any indications of a material increase or decrease in the value of the underlying collateral or REO asset since the last complete third party valuation for such assets. Our asset-specific analysis focused on the higher valued assets of our total loan collateral and REO portfolio. We considered the results of our analysis and the potential valuation implication to the balance of the portfolio based on similar asset types and geographic location.

Based on our analysis, the valuation approach taken and assumptions utilized with respect to each asset at December 31, 2016 remained generally applicable at June 30, 2017, except for those assets subject to a recent bona fide written third-party offer or executed purchase and sales agreements. See our Annual Report on Form 10-K for the fiscal year ended December 31, 2016 for a summary of the key assumptions and valuation methodologies utilized to derive fair value.

Selection of Single Best Estimate of Value

The results of our valuation efforts generally provide a range of values for the collateral valued or REO assets rather than a single point estimate because of variances in the potential value indicated from the available sources of market participant information. The selection of a value from within a range of values depends upon general overall market conditions as well as specific market conditions for each property valued and its stage of entitlement or development. In selecting the single best estimate of value, we consider the information in the valuation reports, credible purchase offers received and agreements executed, as well as multiple observable and unobservable inputs.

Valuation Conclusions

Based on the results of our evaluation and analysis, we did not record any non-cash provision for credit losses on our loan portfolio during the three and six months ended June 30, 2017 and 2016. However, we recorded other net recoveries of credit losses totaling $0.3 million and $0.1 million for the three months ended June 30, 2017 and 2016, respectively, resulting from the collection of cash and other assets recovered from certain guarantors on certain legacy loans and insurance recoveries received during the period. We recorded $0.3 million and $0.1 million in other net recoveries of credit losses for the six months ended June 30, 2017 and 2016, respectively. We recorded no impairment charges for real estate owned during the three and six months ended June 30, 2017 and 2016.

As of June 30, 2017 and December 31, 2016, the valuation allowance totaled $12.7 million, representing 63.0% and 97.1%, respectively, of the total outstanding loan principal and accrued interest balances. With the existing valuation allowance recorded as of June 30, 2017, we believe that, as of that date, the fair value of our loans, REO assets held for sale, and other REO is adequate in relation to the net carrying value of the related assets and that no additional valuation allowance or impairment is considered necessary. While the above results reflect management’s assessment of fair value as of June 30, 2017 based on currently available data, we will continue to evaluate our loans and REO assets to determine the appropriateness of the carrying value of such assets. Depending on market conditions, such updates may yield materially different values and potentially increase or decrease the valuation allowance for loans or impairment charges for REO assets.

There were no losses recorded during the three and six months ended June 30, 2017 or the three and six months ended June 30, 2016 in the categories for which net mortgage loans and REO held for sale were measured at fair value on a non-recurring basis based upon the lowest level of significant input to the valuation as of June 30, 2017 or 2016.