Ready Capital Corporation: FY2020 Form 10-K Summary
Business context and reporting period
Ready Capital is an externally managed mortgage REIT advised by Waterfall Asset Management. It originates, acquires, finances and services small-to-medium balance commercial loans, SBA loans, residential mortgage loans and related securities through four segments: Acquisitions, SBC Originations, SBA Originations/Acquisitions/Servicing and Residential Mortgage Banking. The filing covers the fiscal year ended December 31, 2020, with comparative information for 2019 and 2018. Fourth-quarter 2020 results are also disclosed.
Operations were materially affected by the COVID-19 pandemic, including commercial real estate disruption, borrower forbearance requests, market volatility and tighter liquidity conditions. The company remained qualified as a REIT and reported effective disclosure and internal financial controls; Deloitte issued unqualified audit opinions.
Financial results and key metrics
| Metric | FY2020 | FY2019 | Change |
|---|---|---|---|
| Interest income | $258.6 million | $229.9 million | +12.5% |
| Interest expense | $175.5 million | $151.9 million | +15.5% |
| Net interest income before loan-loss provision | $83.2 million | $78.0 million | +$5.1 million |
| Provision for loan losses | $34.7 million | $3.7 million | +$31.0 million |
| Net interest income after provision | $48.4 million | $74.4 million | -$25.9 million |
| Non-interest income | $334.8 million | $174.6 million | +$160.1 million |
| Non-interest expense | $328.7 million | $184.5 million | +$144.3 million |
| Net income | $46.1 million | $75.1 million | -$29.0 million |
| Net income attributable to Ready Capital | $44.9 million | $73.0 million | -$28.1 million |
| Distributable earnings | $101.4 million | $67.3 million | +$34.1 million |
| Distributable earnings per common share | $1.82 | $1.54 | +$0.28 |
| GAAP EPS | $0.81 | $1.72 | -$0.91 |
| Dividends declared per common share | $1.30 | $1.60 | -$0.30 |
| Book value per common share | $15.00 | $16.14 | -$1.14 |
FY2020 non-interest income benefited from record residential mortgage banking activity, PPP-related income, SBA activity and servicing income. However, GAAP earnings were reduced by higher credit provisions, unrealized losses on residential mortgage servicing rights and other fair-value changes. Distributable earnings excludes specified unrealized and non-recurring items and is not a GAAP measure.
Fourth-quarter 2020 net income was $27.6 million, or $0.49 per diluted share, compared with $20.9 million, or $0.43 per diluted share, in the fourth quarter of 2019. Fourth-quarter distributable earnings were $28.8 million, or $0.51 per share, compared with $21.0 million, or $0.43 per share.
Portfolio, liquidity and leverage
- Total assets were $5.37 billion at December 31, 2020, up 8% from $4.98 billion.
- Total stockholders’ equity was $834.2 million, down 1% from $844.8 million; Ready Capital equity was $815.4 million.
- The consolidated loan portfolio had $4.505 billion of unpaid principal balance and $4.485 billion of carrying value before applicable allowances. Including consolidated securitization vehicles, total loans, net, were approximately $4.10 billion after allowances.
- Approximately 95.7% of loans were current or less than 30 days past due, while 3.4% were 60 or more days past due, compared with 1.4% at year-end 2019. Non-accrual loans totaled $134.2 million, versus $84.3 million.
- The allowance for loan losses was $46.7 million at year-end, including $29.5 million of general allowance and $17.2 million of specific allowance. CECL adoption produced an $11.1 million increase in the allowance and a $6.8 million after-tax reduction to opening retained earnings.
- Cash and restricted cash totaled $200.5 million at year-end, including $139.0 million of unrestricted cash and $47.7 million of restricted cash. Cash increased $72.5 million during 2020.
- Recourse debt carried at year-end was approximately $1.81 billion; non-recourse securitized debt was $1.91 billion. The reported recourse debt-to-equity leverage ratio was 2.2x, versus a target range of 1.5x to 2.5x. Management reported compliance with all debt covenants.
- Committed recourse financing was $3.25 billion, with $1.44 billion of reported availability. Secured borrowings and repurchase facilities are subject to collateral, margin and renewal risk.
- Cash flow from operating activities was $68.9 million, compared with cash used of $52.4 million in 2019. Investing activities used $59.4 million, while financing activities provided $63.1 million.
- Loan originations totaled $5.62 billion and loan acquisitions totaled $212.6 million. Residential agency originations were $4.25 billion, SBC originations were $1.16 billion and SBA originations were $214.3 million.
Material changes versus the prior comparable period
- Residential mortgage banking expanded sharply: 2020 originations were $4.25 billion, approximately double 2019 levels, and related non-interest income increased to $252.7 million from $83.5 million.
- PPP activity generated $23.4 million of reported net PPP-related income. The company facilitated approximately $2.7 billion of PPP loan fundings during 2020, including loans originated or sourced under a lender-service-provider arrangement.
- Credit costs increased substantially following adoption of CECL and management’s assessment of COVID-19-related borrower and collateral risks.
- Residential mortgage servicing rights declined to $76.8 million from $91.2 million after $37.3 million of unrealized losses, partly offset by $43.7 million of additions from loans sold with servicing retained.
- Non-interest expense increased primarily because of higher variable mortgage-banking costs, compensation, servicing costs, management fees and operating expenses.
- Book value per share declined to $15.00 from $16.14, while dividends per share declined to $1.30 from $1.60. Quarterly dividends were reduced from $0.40 in the first quarter to $0.25, $0.30 and $0.35 in subsequent quarters.
- The company adopted CECL on January 1, 2020 and recorded a cumulative-effect adjustment to retained earnings.
Guidance, outlook, commentary and unusual items
- Management stated that COVID-19 could materially deteriorate future revenue, cash flow, profitability and operating results, particularly during 2021. No formal earnings guidance was provided.
- Management expects to continue growing SBC, SBA, Freddie Mac and residential mortgage operations, supported by a reported year-end loan pipeline of approximately $2.12 billion, including $776.9 million of SBC originations, $187.2 million of SBC acquisitions, $122.6 million of SBA originations and $1.03 billion of residential agency originations. Pipeline execution is not assured.
- On December 6, 2020, Ready Capital agreed to acquire Anworth Mortgage Asset Corporation. Management expected the transaction to increase scale, liquidity, diversification and capital alternatives, with closing expected as early as the first quarter of 2021, subject to approvals and other conditions. The transaction remained subject to litigation and execution risk.
- Upon closing of the Anworth transaction, Waterfall’s base management fee would be reduced by $1.0 million per quarter for the first four full quarters, subject to the stated conditions.
- On February 10, 2021, the company issued $201.3 million of 5.75% senior notes due 2026. Proceeds were intended to redeem the $50.0 million of 6.50% senior notes due April 2021 and fund general business purposes, including SBC originations and acquisitions.
- Major risks include commercial real estate credit deterioration, COVID-19 effects, increased delinquencies and non-accruals, margin calls, short-term funding renewal risk, interest-rate and prepayment risk, LIBOR transition, counterparty risk, valuation uncertainty, servicing-rights volatility, REIT qualification, 1940 Act compliance and dependence on Waterfall.
- Approximately 2.0% of the commercial real estate portfolio was in forbearance plans at December 31, 2020. The company had no off-balance-sheet arrangements but had $285.4 million of unfunded SBC loan commitments, $7.8 million of SBC loans held for sale commitments and $575.6 million of residential agency loan commitments.
- Multiple shareholder lawsuits were filed in 2021 challenging disclosures and aspects of the proposed Anworth merger. The company stated that it intended to vigorously defend the actions.
Most important facts for an investor to verify
- Whether COVID-19-related forbearances, non-accrual loans and 60-plus-day delinquencies continue to increase and whether the $46.7 million allowance is adequate.
- Whether residential mortgage banking and PPP-related earnings are recurring or normalize materially below 2020 levels.
- The sustainability of the $1.30 annualized dividend rate relative to GAAP earnings, distributable earnings, cash flow, debt covenants and REIT distribution requirements.
- Near-term maturities and refinancing requirements, including 2021 secured facilities, repurchase agreements and the 2021 senior notes, and the effect of the February 2021 notes issuance and redemption.
- The completion, terms, financing, integration costs, litigation exposure and expected synergies of the Anworth transaction.
- The sensitivity of residential MSR valuations, fair-value assets, collateral values and borrowing capacity to prepayment rates, interest rates and credit spreads.
- The company’s transition away from LIBOR, including fallback provisions in debt, loans and hedging agreements.
- Waterfall’s management, incentive and reimbursable fees, conflicts of interest and the cost of terminating the management agreement.