Ready Capital Corporation: Q1 2019 Form 10-Q Summary
Business context and reporting period
Ready Capital is an externally managed REIT and multi-strategy real estate finance company that originates, acquires, finances and services small-balance commercial, transitional, SBA, residential mortgage and related investments. The report covers the three months ended March 31, 2019, compared primarily with the three months ended March 31, 2018 and the December 31, 2018 balance sheet.
The company completed its stock-for-stock acquisition of Owens Realty Mortgage, Inc. on March 29, 2019, issuing approximately 12.2 million shares. Historical Ready Capital stockholders owned approximately 72% of the combined company and former ORM stockholders approximately 28%.
Financial performance and key metrics
| Metric | Q1 2019 | Q1 2018 | Change |
|---|---|---|---|
| Interest income | $48.8 million | $37.2 million | +$11.6 million |
| Interest expense | $(35.8) million | $(22.7) million | $(13.1) million |
| Net interest income before loan-loss provision | $13.0 million | $14.5 million | $(1.5) million |
| Provision for loan losses | $(0.5) million | $(0.2) million | $(0.4) million |
| Non-interest income | $56.3 million | $42.7 million | +$13.5 million |
| Non-interest expense | $(41.3) million | $(36.0) million | $(5.3) million |
| Net income | $30.5 million | $18.5 million | +$11.9 million |
| Net income attributable to Ready Capital | $29.5 million | $17.9 million | +$11.6 million |
| Basic and diluted EPS | $0.90 | $0.56 | +$0.34 |
| Core earnings, non-GAAP | $11.3 million | $15.5 million | $(4.2) million |
| Dividends declared per share | $0.40 | $0.37 | +$0.03 |
Reported net income included a $30.7 million bargain-purchase gain from the ORM merger, partly offset by $5.5 million of merger-related expenses and a $7.1 million unrealized loss on residential mortgage servicing rights. Core earnings declined because of lower joint-venture income, lower SBA loan-sale gains and reduced net interest income.
Balance sheet, liquidity and credit
- Total assets were $3.279 billion, up 8.0% from $3.037 billion at December 31, 2018.
- Total stockholders’ equity was $760.9 million, up 34.9%, primarily reflecting the shares issued in the ORM merger. Ready Capital equity was $741.1 million.
- Total loan portfolio, including consolidated VIE loans and loans held for sale, was $2.676 billion, up from $2.530 billion. Consolidated loans, net, were $2.559 billion.
- Cash, cash equivalents and restricted cash totaled $120.9 million at March 31, 2019, compared with $95.0 million at year-end. Cash and cash equivalents alone were $47.6 million.
- Approximately 96.1% of loan balances were current or less than 30 days past due. Loans 90 or more days past due represented 2.2%; non-accrual loans were $69.6 million, or 2.7% of total loans.
- The allowance for loan losses was $8.3 million at quarter-end, compared with $8.3 million at December 31, 2018.
- The company reported a 2.1x recourse debt-to-equity leverage ratio and stated that it was in compliance with all debt and financial covenants.
Cash flow and financing
| Cash flow category | Q1 2019 | Q1 2018 |
|---|---|---|
| Operating activities | $1.1 million | $48.2 million |
| Investing activities | $(170.4) million | $(146.4) million |
| Financing activities | $195.3 million | $116.5 million |
| Net increase in cash and restricted cash | $25.9 million | $18.2 million |
Financing included $236.9 million of net proceeds from securitized debt, while dividends paid were $13.3 million. Secured borrowings were $848.2 million, securitized debt obligations were $1.141 billion, and senior secured, convertible and corporate debt totaled $337.8 million at carrying value. Guaranteed loan financing declined to $34.0 million from $229.7 million following the unwind of an SBA securitization.
Material changes and operating trends
- Interest income increased primarily from growth in SBC and transitional loan originations, while higher financing costs caused net interest income before provisions to decline.
- Residential mortgage banking revenue declined substantially because residential MSRs recorded a $7.1 million unrealized loss versus a $4.9 million unrealized gain in the prior-year quarter. Variable mortgage banking expenses increased to $9.2 million from $2.3 million.
- SBC originations generated higher interest income, but SBA segment results declined due in part to a $1.9 million one-time acceleration of deferred financing costs related to early repayment of an SBA securitization.
- The ORM acquisition added approximately $130.4 million of loans, $68.0 million of real estate acquired in settlement of loans and $10.8 million of cash. Acquired real estate increased total real estate held for sale to $75.5 million from $7.8 million.
- The company originated $680.5 million of loans and acquired $128.7 million of SBC loans during the quarter. Reported pipelines included $573.3 million of SBC acquisitions, $458.4 million of SBC originations, $138.2 million of SBA originations and $198.7 million of residential commitments.
- In April 2019, the company completed a securitization of $320.8 million of transitional loans and issued $267.9 million of senior bonds at a weighted-average pass-through rate of LIBOR plus 1.33%.
Guidance, outlook, commentary and risks
Management expected to continue growing SBC, SBA and residential mortgage originations, acquiring loans and expanding servicing portfolios. Management stated that improving commercial real estate values, borrower property income and expected loan demand could support 2019 origination volumes, but emphasized that execution depends on access to capital and financing on favorable terms.
- Key risks include interest-rate and spread volatility, higher borrowing costs, margin calls, refinancing and repurchase-facility renewal risk, credit losses, declining collateral values, prepayments and extension of loan resolution timelines.
- The company finances a significant portion of its assets with secured borrowings and repurchase agreements; lenders may require additional collateral or increase haircuts if asset values decline.
- Residential MSR valuations are sensitive to prepayment rates, discount rates and servicing costs. A 10% adverse change in these assumptions could reduce MSR fair value by approximately $3.2 million to $3.4 million for prepayment or discount-rate changes and $1.6 million for servicing-cost changes.
- ORM-related real estate adds risks from vacancies, tenant defaults, operating costs, impairment, environmental liabilities and illiquidity.
- The company remains subject to REIT distribution and qualification requirements and must generally distribute at least 90% of taxable income to maintain REIT status.
- Unfunded commitments totaled $179.0 million for held-for-investment loans, $5.9 million for loans held for sale and $198.7 million of residential loan-origination commitments.
- No material legal proceedings were reported, and management stated that disclosure controls were effective.
Important facts for investors to verify
- Reconcile GAAP net income of $30.5 million and EPS of $0.90 with core earnings of $11.3 million and assess the recurring earnings profile excluding the ORM bargain-purchase gain.
- Review ORM acquisition accounting, including the preliminary $30.7 million bargain-purchase gain, acquired real estate valuations and potential integration or impairment costs.
- Monitor residential MSR fair values, prepayment assumptions and the effect of further valuation losses on earnings and book value.
- Assess leverage, secured funding maturities, borrowing-base requirements, haircuts, margin-call exposure and covenant compliance.
- Evaluate delinquency, non-accrual, impaired-loan and allowance trends, particularly within acquired SBA, acquired commercial and transitional portfolios.
- Confirm whether reported origination and acquisition pipelines convert to funded assets and whether financing capacity supports the stated growth strategy.
- Review subsequent securitization performance and the company’s ability to access capital markets on terms comparable to the April 2019 transaction.