Ready Capital Corporation
Q2 2017 Earnings Call Transcript

Published: 6 Aug 2017

[Operator:]

Welcome to the Sutherland Asset Management Corporation Second Quarter 2017 Earnings Call. Today's conference is being recorded. And at this time, I'd like to turn it over to Rick Herbst, Chief Financial Officer. Please go ahead.

[Frederick Herbst:]

Thank you very much, Caitlyn. Good morning, and thanks to those of you who are on the call for joining us this morning. Some of our comments today will be forward-looking statements within the meaning of the federal securities laws. Such statements are subject to numerous risks and uncertainties that could cause actual results to differ materially from what we expect. Therefore, you should exercise caution in interpreting and in relying on them. We refer you to our SEC filings for a more detailed discussion of the risks that could impact our future operating results and financial condition. During the call, we will discuss our non-GAAP measures, which, we believe, can be useful in evaluating the company's operating performance. These measures should not be considered an isolation or as a substitute for our financial results prepared in accordance with GAAP. A reconciliation of these measures to the most directly comparable GAAP measures is available in our second quarter 2017 earnings release and the supplemental information provided. By now, everyone should have access to our second quarter 2017 earnings release and that supplemental information. Both can be found in the Investor's section of the Sutherland website. And now I'd like turn it over to Tom Capasse, our CEO.

[Thomas Capasse:]

Thanks, Rick. Well, we had a very productive second quarter as we continued to execute our strategic objectives. Earnings for the quarter were $0.34 per share, a 17% increase over last quarter. Originations of small balance commercial, or SBC loans, increased 42% over the first quarter to $252 million. And our current SBC origination pipeline, which we view as a leading indicator of volume, was at a record $297 million as of June 30. We also made great strides in our balance sheet as we look to fund growth. In terms of non-warehouse recourse financing, our 2017 target is $250 million, which is consistent with debt ratios appropriate to our unsecured rating. Year-to-date, we have issued $140 million through several transactions. In the first quarter, we issued $75 million in term notes, the proceeds of which were fully deployed by June. In June, we executed a $65 million second tranche with a yield-to-maturity 75 basis points tighter than the first tranche, which, we believe, reflects improved market reception of our credit. About half of the June note proceeds have been deployed, with the balance to be deployed during the third quarter. Had the funds of the 2 note offerings been fully deployed, we would have had an additional 75 to 100 basis points in bottom line ROE. We currently see the debt markets as remaining receptive for specialty finance companies, and will continue to evaluate opportunities to issue additional recourse debt for the balance of the year. Now In terms of nonrecourse debt, we closed 2 securitizations. Earlier this week, we closed our first securitizations of transitional and acquired owner-occupied loans, selling senior bonds totaling $338 million. In both transactions, we achieved a higher advance rate, a lower debt cost, while reducing our recourse debt ratio. In recognition of the stronger relative credit metrics of our transitional loan program, these bonds priced at near the tight end of post prices market spreads. Finally, in the second quarter, we also closed our third securitization of Freddie Mac SBC multi-family loans, retaining a 10% B piece at a 16% unlevered yield. Altogether, these financings raised $190 million of non-dilutive capital, which, at a target 3

[Frederick Herbst:]

Thanks, Tom. I'll take a few minutes to touch on a few of the highlights on some of the slides included in the supplemental information deck. Slide 3 summarizes some of the key metrics from the 3 securitizations completed over the last 6 weeks or so. In addition to generating approximately $50 million of investable cash, both the CLO and the owner-occupied securitizations resulted in interest rate savings of approximately 50 basis points when compared against the warehouse financing. In addition, these securitizations converted over $280 million of recourse debt to match funded nonrecourse term debt. Slide 4 reconciles our gross levered yield of 13.1% to our bottom line core ROE of 8.1% for the quarter. And while both GAAP and core earnings were up over the last quarter, we did again see some headwinds as a result of the deployment of the term loan proceeds. While we deploy the entire amount of the first $75 million term loan by the end of the quarter, it was a bit back ended, as the new loan originations were $52 million in April, $80 million in May and $120 million in June. And by the way, in July, we originated another $82 million of new loans. Had these funds been deployed during the quarter, as Tom mentioned, we estimate an additional 75 to 100 basis points to bottom line ROE. The strong origination volumes also generated increased realized gains on sales related to SBA and Freddie Mac loan sales. Slide 5 depicts our increasing new loan origination volumes, which have more than doubled from a year ago, and are showing consistent growth in most of our product lines. Slide 6 summarizes our conventional investor lending business. Paying down our warehouse lines with proceeds from the note offering had the effect of delevering this segment, which, in turn, reduced the levered ROEs here a bit. The new loan originations, I mentioned earlier, should bolster these returns going forward. Our origination pipeline, a key forward indicator, was up to $197 million, a modest increase from last quarter. Importantly, the credit quality of this portfolio remains extremely strong with only 1% of loans delinquent over 30 days. Slide 7 summarizes the SBA business, which continues to provide exceptional levered returns. The returns are a bit lower this quarter due to a decrease in the average leverage and a decrease in net interest margin, resulting from payoffs in the acquired portfolio. And while the loan payoffs appeared to negatively impact the ROE in this business, they do result in gains, which appear down below on the realized gains line. Including those gains, the ROE is back up into the mid-20s. We've now added 9, up from 5 the last quarter, 9 new loan officers since the beginning of the year, and our originations continue to be strong. In addition, our pipeline is at a record high, which is an increase of 25% from last quarter. Slide 8 shows some summary information for the acquired portfolio with no real significant changes since last quarter. Slide 9 summarizes our residential mortgage business, which continues to produce strong results. As we noted in the past, GMFS is a market leader in the Southeast and retains mortgage servicing rights to hedge fluctuations and originations due to changing interest rates. These retained MSRs provide an increasing revenue stream, as depicted in the graph on the right-hand side of this page. GMFS' origination volume this quarter was up 21% over the first quarter of this year. Of note, 80% of the mortgage volume represents purchase volume and only 20% represents refinance business. Generally, it is the refi business that can be impacted negatively by rising rate environments. We've added some additional detail on the sources of our originations for the quarter to give you a little bit more information on this product. Slide 10 shows the specific investment levels by type for the quarter, which provides a perspective on where our funds will place during the quarter. Virtually, every product line showed a significant increase during the quarter as compared to last quarter. These new loan origination volumes reflect the successful rollout of our origination platforms, and we expect will provide a more stabilized net interest margin going forward. The interest margin contribution from new loans is reflected on the charts on Slide 11. The next few slides reflect the diversity in our loan pools geographically by collateral type and by loan size. And we have a slide summarizing our current financing facilities on leverage. You'll note that on Slide 14 that the recourse leverage is a bit higher than in the past quarters. However, with the completion of the two securitizations post June 30, it will be reduced back to historical levels. We continue to seek opportunities to deploy additional capital to generate and improve risk adjusted returns. And now I'll turn it back over to Tom for some final thoughts before we take questions.

[Thomas Capasse:]

Thanks, Rick. On our investor call in November, we discussed a few objectives for 2017. Slide 15 summarizes our progress to date against these objectives. I'm not going to go into each one, but we accomplished all of these initiatives and have checked all the boxes. Our successful capital markets transactions have resulted in a modest increase in leverage, which, in turn, has resulted in additional capacity to make new loans as we've grown the scale of our franchise. We've accomplished a lot in our 2nd full quarter as a public company, and look forward to harvesting the benefits of these efforts as we move forward. We thank you, once again, for your confidence in our company and for your continued support. Operator, we'd now like to open it up for questions.

[Operator:]

[Operator Instructions]. We will go first to Jessica Levi-Ribner with FBR.

[Jessica Levi-Ribner:]

As we think about your liquidity, can you walk us through how much deployable capital you have at this point?

[Frederick Herbst:]

Right now, we have - as we currently speak, we have about half of the capital from the $65 million term loan, so, call it, $30 million. We closed the owner-occupied securitization yesterday and that generated about $15 million of capital. So that gets us up to $45 million. And we plan on - or scheduled to close the - repriced the CLO transaction yesterday. That is scheduled to close August 15. And that will generate about $35 million of investable cash. Now between now and then, we would be remaining quite a bit of loan volume, so that changes every day. But that gives an idea of the magnitude of where we're at.

[Jessica Levi-Ribner:]

Okay. Great. And on the corporate side, I know we've talked about maybe issuing some maybe baby monitors, something like that. Do you have any - can you speak to any plans maybe that you have in the coming quarter?

[Frederick Herbst:]

I can't talk about anything, specifically. I mean, we're always looking for opportunities. The markets seem to be pretty receptive as we saw with the second tranche of the term loan. So we're always looking at what would make the most for us in the opportunities that present themselves.

[Jessica Levi-Ribner:]

Okay. Great. So in terms of originations - or actually, let me just go back. In terms of the ROE, could we expect the ROE to increase by that 75 to 100 basis points in third quarter given that you'll be deploying the cash? Or is that not the right way to think about it?

[Frederick Herbst:]

I think it's fair to say, we will not - we certainly won't see any drag from the $75 million piece, as we saw in the first quarter. The second quarter, there'll be some drag from that. However, it should be mitigated by now that we've got the earnings from the first term loan proceeds. I hesitate to quantify where the REO is going to go - ROE is going to go. But we should see some increase going forward, yes, perhaps an unforeseen circumstances or in crazy marks to various instruments.

[Jessica Levi-Ribner:]

Okay. And do you think you're on track to hit 10% by early next year?

[Frederick Herbst:]

That is our goal, and we're very pleased with what we've achieved to date. That's been our stated goal for the last couple of quarters. And we think we're on the right path.

[Operator:]

[Operator Instructions]. We will go next to Jim Young, West Family Investments.

[James Young:]

Since you have basically achieved, from Slide 15 or 16, your strategic initiatives as you enumerated, have you announced - or will you announce any updated initiatives and goals that we can - that we should we aware of, not only just strategic, but also financial in addition to the 10% ROE goal that you've previously talked about?

[Thomas Capasse:]

Yes, we're - I got it, Rick.

[Frederick Herbst:]

Go ahead, Tom.

[Thomas Capasse:]

Yes, Jim. The terms of strategic initiatives, we do - we conduct regular planning both in terms of the financial and operating side of businesses. And we would plan on issuing strategic initiatives in conjunction with the fourth quarter for 2018.

[James Young:]

And what about any other financial goals other than the 10% ROE?

[Thomas Capasse:]

Go right ahead, Rick.

[Frederick Herbst:]

We're looking to continue to build our origination volumes. As I mentioned on the previous call, we are always evaluating additional sources of capital. We remain steadfast. We will not issue any equity below book value. And we believe, with the addition of the capital we've raised here between the securitizations and the term loan, with $200 million of debt, if we can reinvest that at our historical ROEs of 12%, 13%, 14%, we've got net kind of 6% after-tax cost of funds. 6% earnings spread on $200 million is $12 million. That gets our ROE up well into that 10% once it's fully deployed.

[Operator:]

[Operator Instructions]. We'll go next to Raj Patel, Farallon Investments.

[Rajiv Patel:]

So I just want to make sure I'm understanding this correctly. You've got your core and your ROE up to little over 8% in the quarter. And pro forma for spending the 2 bonds, you're plus or minus 9%. Then the other step you've taken to date is you've saved 50 basis points on that $500 million and some odd of those securitizations, the close that you have closed or about to close, I think that should total up to about another 50 basis points. Is that right? And then you've got...

[Frederick Herbst:]

Just to be clear, the 50 basis points as the savings on the debt, which is about - what was $300 million of warehouse debt, we're saving 50 basis points on the $300 million. So it's not 50 basis points ROE. I think where you're going is the 75 to 100 basis points was the impact on the second quarter had the $75 million been fully deployed. We now have $65 million. Once that's deployed, we'll add additional capacity and get up to between that and the proceeds from the securitizations, call it, $200 million. That's what, we believe, once that's fully deployed gets you another 200 or some basis points to the bottom line.

[Rajiv Patel:]

I got you. Okay. And at the current pace of this past quarter, is that deployed in one quarter? Or does that take you longer?

[Frederick Herbst:]

Are you referring to the $65 million?

[Rajiv Patel:]

Yes, just the - that capacity that gets you the 200 basis points. How quickly do you spend it? And do you feel like you are-- is this the right amount of firepower you should have on a quarterly - on an ongoing basis? You're always going to have some drag. Or is this a little more than normal as you kind of think about what you'll look like as a public company, a little less because you always going to have some drag, right, because you got to fund the next period of time.

[Frederick Herbst:]

Yes, exactly, because you always got to fund - we've always have to keep some cash back to fund some of those originations. And the originations that funded today, we don't get on a warehouse lines for 2, 3, 4 weeks. So there is always some drag. The numbers I spoke about were in addition to that kind of normal drag. In terms of capacity, yes, this - it depends on how quickly we dial up the acquisitions in our pipeline. We have a few deals we're looking at. Whether or not we close on them will dictate how quickly we deploy the capital we have available.

[Operator:]

And we'll take a follow-up from Jim Young.

[James Young:]

While it's early with Carole Mortensen's appointment as the Chief Operating Officer, has she embarked on any notable changes that we should be aware of? Or what's going to be the process for her to share her thoughts and initiatives with investors?

[Thomas Capasse:]

Yes. Carole has a great track record in operations for finance companies. And 2 of the initial focuses are, a, on the cost structure of the businesses, in particular the back end of servicing and operations in relation to the size of the loan portfolio. Right now, we're a young company in terms of ramping originations with credit being strong, so we're looking at the relationship between the servicing staff - back-end servicing staff versus originations. So that's number one. Number two, we're embarking on a branding campaign to increase the visibility of the Ready Capital name across the various products that we have, so as to create a clear, crisp story to our borrowers and our broker community. So I would say, those are the 2 initial transactions that Carole is focused on.

[Operator:]

And with no further questions, I'd like to turn things back to Mr. Capasse for closing remarks.

[Thomas Capasse:]

We thank everybody for the time today, and hope to speak again in the third quarter. And thank you for your support.

[Operator:]

That concludes today's conference. We thank you for your participation. You may now disconnect.