Ready Capital Corp (RC) 2021 Q3 法說會逐字稿

Greetings, and welcome to Ready Capital Corporation Third Quarter 2021 Earnings Conference Call. (Operator Instructions) As a reminder, this conference is being recorded.

It is now my pleasure to introduce your host, Andrew Ahlborn, Chief Financial Officer. Thank you. You may begin.

Thank you, operator, and good morning, and thanks to those of you 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 relying on them. We refer you to our SEC filings for a more detailed discussion on 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 in 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 measure is available in our third quarter 2021 earnings release and our supplemental information, which can be found in the Investor Relations section of the Ready Capital website.

In addition to Tom and myself, we are also joined by Adam Zausmer, our Chief Credit Officer; and David Cohen, Co-President of Bridge Lending on today's call.

I will now turn it over to Chief Executive Officer, Tom Capasse.

Good morning, and welcome to those of you on the call today. In keeping with our practice of having members of the Executive Team join Andrew and me on calls to display the depth of our team, I'd like to welcome David Cohen to today's call. David, a key leader in our organization, is co-founder of Ready Capital's bridge lending business, which has grown to be one of the premier sources of capital for owners of lower middle market properties and transitions. Providing loans on transitional, value-add and event-driven commercial and multifamily real estate, David leads his core lending strategy, which accounts for nearly 1/2 of our capital allocation.

Now turning to results, we reported distributable earnings per share of $0.64, 23% growth from the prior quarter. This marks the sixth consecutive quarter where both return on equity and dividend coverage are in excess of our 10% and 105% targets. Both metrics are among the highest in our peer group, reflecting continued contributions across our multiple diverse business lines. At a high level, results continue to reflect post-COVID recovery in net interest margin in our core, small balance commercial, or SBC lending business with stable contribution from our government-sponsored gain on sale segments.

The post-COVID recovery in the SBC property market is lagging the large balanced commercial real estate market, reflected in 36% and 11% year-over-year increases in SBC property sales to over $150 billion in prices through July. This trend is driving loan demand across our diverse product offerings. We originated $1 billion of SBC loans in the quarter, holding consistent with record originations in the prior quarter. The volume was dispersed across our range of products which target all stages of an SBC property's life cycle from heavy transitional to stabilized agency loans.

In our Freddie Mac Small Balance Loan program, we originated $136 million and expect annual volume to exceed $700 million in Freddie Mac and bridge to Freddie volume by year-end. Despite quarterly volume declines due to changes in Freddie's affordability criteria and rate increases in the third quarter, demand for multifamily housing remains elevated. Freddie's recent rate reduction to as low as 2.6% in top markets is expected to drive increased volume through the end of the year.

In the quarter, activity in our conventional fixed-rate segments picked up for the first time since the start of the pandemic. These products target stabilized or stabilizing properties with our fixed-rate product, providing flexibility in term, repayment options and property types. Originations in the quarter for the segment exceeded $105 million. Fixed-rate originations of $71 million had an average rate of 4.1% and are expected to generate a low-teen levered yield over their 9-year duration. CMBS originations of $34 million would be contributed to the company's first standalone CMBS offering and will generate gain on sale revenue.

Our bridge lending business, which targets both heavy transitional to light transitional projects was the star performer, with over $730 million originated in the third quarter.

I'm going to turn it over to David to provide additional insight.

Thanks, Tom. Since the onset of COVID in 2020 and after the initial shock of the assumed negative implications on the commercial real estate lending market, there has been a forward-looking momentum in the market as lenders reentered the lending arena. The Ready Capital bridge lending platform quickly adapted to the changed market by focusing on certain preferred asset types and markets.

We remain disciplined on credit. This is evident in evaluating approximately 1,500 new deals in the third quarter and closing on 3.5% or $730 million. To accomplish our continued growth and market share capture, we focus on several key areas. First, our closed transaction volume was driven in particular by our ability to provide sponsors and brokers with certainty of execution through our unique upfront due diligence review process. In this market of uncertainty, execution certainty is paramount to be designated as the lender of choice.

To accomplish these objectives, the bridge lending platform enhanced its infrastructure in the third quarter with the hiring of an additional 4 employees to support transaction execution in the areas of production and credit. Second, we continue to focus on the financing demand for value-add multifamily and industrial properties. Multifamily properties accounted for 87% of the third quarter volume and 88% of volume funded year-to-date. Our focus on multifamily assets is based on the company's proprietary geo tier scoring model, which factors in local, macroeconomic, migration and demographic and absorption trends, as well as the predisposition towards the better classes of assets with qualified and experienced sponsors and operators that have the proven ability to execute a well-defined business plan.

In addition to our geo tier model overlay, we are also focused on the property level credit analysis, which includes evaluating the achievable pro forma rent levels for the value-add improvements from the loan proceeds, vacancy, concessions and bad debt along with property-alone basis. Additionally, we underwrite traditional credit metrics such as stabilized loan-to-value and debt yield. This strong and detailed underwriting focus provides us with the confidence in the loan that upon stabilization there is a clear path for an exit through a sale or refinancing into a fixed rate or agency loan.

Another favorable sector focus for us, benefiting from ongoing COVID dislocation is industrial. With the continuous increase of e-commerce sales, the industrial segment continues to show strength as supply chain demands is driving the need for industrial assets. With industrial specifically, some key factors we evaluate are the property's location and corridor accessibility and weather suited for local and/or national pendency and last-mile distribution to the end user, as well as understanding the property's functional capabilities or obsolescence.

This has been an incredible year for our bridge lending platform as we continue to build relationships and build upon our strong reputation as a prominent, small and middle-market balanced bridge lender. We will continue our path of consistent growth and increased market share by working with best-in-class and experienced brokers and sponsors and providing a well-structured loan with the certainty our customers have come to expect.

Let me turn the call back to Tom.

Thanks, David. To supplement our SBC direct lending, we also acquired $168 million in the quarter. The acquisitions included 49 loans with an average LTV of 58% and rates of 4.4%. The assets will be contributed to the company's 11 legacy loan securitization, and are expected to generate a 15% return over a 4-year duration. The current acquisition pipeline remains robust at $350 million.

Now I want to highlight the growth in our CRE lending business and acquisitions business in 2021. Our expectation is that the 2021 volume across all products will exceed $4 billion, 2x our normalized prepandemic originations in 2019. Although the market backdrop has been constructive to this growth, we believe our investment in expanding our capabilities, the increased recognition of the Ready Capital brand and the flexibility, certainty and reliability we provide to our customers has been a significant factor in this growth.

In our small business lending segment, which focuses on the Small Business Administration's, or SBA 7(a) loan program, post-COVID recovery in small business loan demand continues to drive origination volumes. During the quarter, SBA 7(a) volumes reached $138 million, which, along with the SBA's 90% guarantee and secondary market premiums averaging 12%, resulted in significant gain on sale margins. The sustained demand from small businesses reemerging from COVID, the opportunistic staff and technology investments made into the business over the last 4 quarters and product expansion, such as the 7(a) small loan program will continue to drive growth in this segment.

Our expectation is that annual volume in 2021 will surpass $425 million, almost 2x the average run rate from 2018 through 2020. I would also like to highlight that we completed the SBA's fiscal year, which ended September 30, as the sixth largest lender nationwide.

Now turning to our residential mortgage business. Originations remain consistent at $1 billion, but, as expected, average margin declined 15 basis points and average 92 basis points. Additionally, quarter-over-quarter, rate lock commitments fell 17% to $455 million, while the channel mix remained steady with purchase volume at 55%. On the mortgage servicing rights front, a high retention rate of 32% aided the growth of our MSRs to over $10.7 billion principal balance with a low pool weighted average coupon of 3.4%. We expect volumes to decline 20% in the fourth quarter due to seasonality and potential rate increases.

Overall commercial portfolio growth was healthy with SBC and SBA loans, posting a 13% gain to $6.1 billion. Ready Capital's portfolio is not only differentiated from the peer group, but provides a superior risk-adjusted return. The portfolio is one of the lowest-risk in the peer group, highly diversified across 4,500 loans with the largest asset accounting for only 2% of the portfolio and a conservative average loan-to-value of 64%.

SBC credit performance in the portfolio continues to improve with only 1.7% of loans 60-day plus delinquent and only 10 basis points in forbearance. SBA performance also continues to improve with 50 basis points of loans 60-day delinquent and 80 basis points in deferment. Remarkably, we have yet to realize a loss on a new origination.

Now on the corporate development side, we remain focused on further building scale as the market leader in private debt solutions for our core middle market commercial real estate client base across the property life cycle. The merger with Mosaic Real Estate Investors is the next phase of our growth plan and a natural fit for our existing business. Mosaic, founded in 2015, is a leading nonbank lender, having originated over $2.5 billion of loans across construction lending, preferred equity, light value add and multifamily and pre-construction development financing. The $470 million transaction includes the acquisition of the existing Mosaic portfolio with an initial purchase price equal to 82.5% of the portfolio value and a $98 million future earn-out dependent on the achievement of certain milestones.

Additionally, all origination and asset management staff will be merged into our existing SBC lending operations. This transaction furthers Ready Capital's competitive advantage via seamless expansion in our product mix from heavy transitional bridge to construction lending. Few nonbanks offer a lower middle market sponsor of full life cycle financing solutions from construction to agency takeout, but now we do. Aside from the product expansion, the transaction is expected to be accretive to earnings due to the 12% portfolio yield and unlevered balance sheet. Pending shareholder approval, we expect the transaction to close by the end of the first quarter of 2022. More information on the transaction can be found in the transaction presentation on the Ready Capital Investor Relations website.

In terms of the outlook, the business continues to benefit from our diverse channels as well as the increasing scale and reach of our lending activities. The combination of growing net interest margin and servicing revenue, the increased scale of our gain on sale businesses and the remaining benefit from our PPP efforts will continue to produce attractive returns for investors over the foreseeable future and strong support of our best-in-peer-group dividend.

With that, I'll turn it over to Andrew.

Thanks, Tom, and good morning. GAAP earnings and distributable earnings per share were $0.61 and $0.64, respectively, for the quarter. Distributable earnings of $49.4 million represents a 19% growth from the prior quarter and a 17.3% return on average stockholders' equity. Distributable earnings without PPP [totaled] $0.45 per share, a 20% increase from the prior quarter. The continued strength in earnings were driven by the growth in the portfolio due to increased lending volumes, the attractive economic climate for our gain on sales segments and the realization of deferred revenue associated with PPP.

Stable and reoccurring revenue from net interest income and servicing increased 22% quarter-over-quarter to $47.3 million. The growth in net interest income was driven by a 13% increase in the portfolio, which as of quarter end had a weighted average coupon of 4.9% and average margins of 240 basis points.

Additionally, we recognized a $4.5 million increase in quarter-over-quarter accretable payoffs, which were partially offset by a $2.5 million reduction in interest income on mortgage-backed securities due to the continued liquidation of the existing Anworth portfolio. The servicing portfolio increased to $15.8 billion with a weighted average servicing fee consistent at 29 basis points.

Gain on sale revenue from our SBA 7(a) and Freddie Mac SBL operations remained notable at $19.7 million. FDA production in the quarter continued to be at a 90% guarantee. And given the strength of the secondary markets, $117 million of sales resulted in net profit of $14.2 million.

As we discussed last quarter, we are currently selling a portion of production at below market premiums, which eliminates day 1 recognition of earnings but increases the retained yield over the loans duration. Freddie Mac sales totaled $110 million in the quarter, generating $1.8 million in revenue, with margins remaining consistent at 160 basis points.

As expected, net revenue from residential mortgage banking activities declined 15.6% to $12.9 million despite consistent quarter-over-quarter production due to the normalization of margins in 92 basis points. Additional income statement items of note include a $1.2 million increase in other income related to origination fees, which were offset by increases in compensation expense related to continued growth in staffing and bonus accruals, professional fee accruals and fees due to Ready Capital's manager.

Included in this quarter's earnings were $2 million in net income contribution from Red Stone, which was acquired by Ready Capital on July 31. Pretax PPP-related income totaled $17.7 million, which includes $18.7 million of interest income, offset by $1.2 million of interest expense and $200,000 of other income.

On a tax-effected basis, PPP increased net income available to stockholders by $13.3 million. As of September 30, we had $82.9 million of deferred revenue remaining, as well as $8.9 million of reserves pending resolution of their forgiveness process. PPP assets declined $400 million due to the forgiveness of roughly [18%] of the portfolio through September 30, and we expect the majority of the deferred revenue to be accreted into earnings over the next 3 to 4 quarters.

On the balance sheet, we continue to focus on the growth of the portfolio, the capitalization of the business and funding the growth of the franchise. To start, book value per share increased to $15.06, and we expect further growth to book value to both the mark-to-market on the MSR asset as well as the retention of earnings inside our taxable REIT subsidiaries. On the asset side of the balance sheet, the loan portfolio increased to $5.9 billion as a result of $1.1 billion in originations and acquisitions net of $500 million in payoffs. 73% of the portfolio is floating rate, with 70% of the remaining fixed rate loans match-funded. This growth was complemented with a $25.8 million increase in the servicing asset due to net additions, including those acquired with Red Stone as well as mark-to-market improvements.

To fund the growth of the portfolio, we liquidated $140 million of the remaining Anworth RMBS positions in the quarter. The increase in unconsolidated joint ventures was due to the inclusion of $35.6 million of assets related to the business combination with Red Stone. As of September 30, total leverage, inclusive of the Paycheck Protection Program Liquidity Fund was 5.9x, with recourse leverage at 2.2x. We recently closed a $350 million, 4.5% senior secured note offering to refinance our existing notes as well as to fund the robust pipeline. This deal continues the trend of reducing the company's cost of capital as we scale. Today, the weighted average cost of corporate leverage is 5.3% compared to 7% on December 31, 2020.

Additionally, the successful repositioning of the preferred stock inherited in the Anworth transaction is reflected in the new Ready Capital Series E on the September 30 balance sheet. In the quarter, we also completed the company's sixth and largest to date CRE CLO. The transaction securitized $653 million of originated bridge loans at an advance rate of 83% and a weighted average cost of 133 basis points, with the most senior bond having a plus 95 spread. We plan to be in the market with our 7th CRE CLO in the fourth quarter.

With that, we will open up the line for questions.

(Operator Instructions) Our first question comes from the line of Tim Hayes with BTIG.

First question around the Mosaic acquisition. Can you just give us a little bit more color around the profile of these loans? How does the collateral compare to what you might lend on from a transitional standpoint? Can you talk about kind of the credit profile and how these loans performed through to pandemic and kind of since the company started since 2015, any material realized losses in that business to talk about? Or also, I just want to touch on the maturity schedule, what that might look like over the next couple of years.

I'll hand off to Adam, just as a preference, Adam, we did -- Adam and his team conducted extensive due diligence. There's roughly, what is it, Andrew, Adam, roughly 35, 38 loans over the last 6 months. So maybe you can kind of do a bit of a deep dive in terms of the broad profile, credit profile of the portfolio.

Yes, sure. This is Adam. So the overall credit profile of this portfolio is strong. We have a healthy basis in the loan portfolio. Moderate weighted average as is LTV is based on fresh valuations that we ordered through our due diligence process. The portfolio has a good property type and geographic diversity, approximately 95% of assets are in what we call geo tiers 1 through 3, which are the largest and most liquid assets, excuse most liquid markets across the country. Approximately 25% of the portfolio is backed by multifamily properties, which obviously is a lower volatile asset class that we're very, excuse me, bullish on. Majority of the construction projects are well into construction phase with guaranteed maximum price contracts. This mitigates rising construction costs that the market is experiencing due to materials and labor shortages and then also supply chain issues.

In terms of a breakdown of the portfolio, construction represents about 60% of the assets. I'd say from a geographic perspective, about 40% of the assets are on the West Coast markets that we -- like Los Angeles, et cetera. From a credit performance perspective, the performance through the pandemic has been positive with over 90% of the portfolio fully performing today. 2 assets are in default, and there are 3 REO assets. 2 of the REOs were due to the pandemic, and there was 1 legacy REO. 3 to 4 assets have experienced a lead due to the pandemic, which is material supply shortage and our cost overruns. But we're comfortable with the assets due to the projects being backed by reputable, well-capitalized developers and sponsors who during the pandemic contributed additional equity as needed and had executed completion interest in carry guarantees at closing of the deals. There's 6 deals that received extensions since the onset of the pandemic, and want to highlight that 6 deals have been repaid at par since the beginning of our due diligence process, which is extremely favorable.

That's great color. I appreciate that. And then just the maturity schedule there, are these -- what are the duration on these loans. Do you expect to be facing some repayments in the near term? Yes, I'll leave it there and then maybe 1 or 2 follow-ups.

Yes, sure. The typical tenor of these loans is 3 -- excuse me, is 3 to 4 years. And these have various extension options. And then also, I'd say the weighted average is about 2 years remaining on the majority of these. And then in terms of refinances and payoffs, there's certainly a number that are in process where we're working closely -- excuse me, where Mosaic is working closely with the sponsors on their refinance and asset sales.

Okay. Got it. And then the collateral here, I mean, are these natural candidates for you guys to then offer some type of heavier transitional loan once it completes construction to get CO? Or is it different type of collateral than you're normally targeting?

No, it's very similar, given the bridge program that David walked through. I mean, there's certainly a significant amount of opportunities for us to do bridge financing on some of these assets. Specifically where there is -- where the projects are in a horizontal phase. And the entitlements are complete, the predevelopment phase is complete, and they're looking to go vertical. So David and his team, they're going to be building out a construction product at Ready Capital, where we can offer these clients bridge. And then additionally, on the more stabilized assets that are within the portfolio, there certainly would be a very good fit for our CMBS and fixed-rate platforms. So certainly a lot of opportunities there. And then also we have multiple investments in multifamily properties focused mostly in the Southeast, where we can work with our partners on the agency side to offer some of the large balance agency, Fannie or Freddie conventional.

Got it. Got it. Okay. It sounds like a, yes, nice kind of leading pipeline for other parts of the business, too. And then you just talked -- you mentioned earnings accretion from the deal. Any -- can you size that for us in the near/long or near/intermediate term, what you kind of expect the earnings contribution from this portfolio to be upon closing and maybe where you see it growing?

Tim, this is Andrew. I think you got to look at it or we're looking at it in 2 ways. The accretion is going to come from the fact that the portfolio on an unlevered basis is earning above our target returns. So it's roughly around a 12% unlevered return here. So that will be the first part. The second part will be just the operating leverage that comes with integrating that business into our existing infrastructure. So we certainly expect accretion from that as well. And then just the reinvestment of the additional $470 million of capital, whether through leverage or just the natural cash flow portfolio into our existing products. And so when you look at the return profile of the company today, given PPP is pushing it north of 15%. That's a hard hurdle to overcome. But as that runs off over the next 2, 3 quarters, the profile of this equity is certainly in excess of the sort of the net run rate of the existing business.

Right. Right. Makes sense. Okay. I appreciate that, Andrew. And then just last question for me around the acquisitions this quarter. Looks like a portfolio of low LTV, high-yielding loans. Can you just give us a little bit of color on where this acquisition came from, what kind of loans these are? And if you think you can even improve -- the advance rate looks pretty low. I'm assuming that's the financing on the loans there. I mean, are you able to kind of put those on your lines and get better leverage there and boost that ROE a bit? Any color on that would be helpful.

Adam, you want to…

Yes, sure. On the recent acquisitions, very consistent with the type of acquisitions that we've done historically, small balance loans spread about a nice geographic profile, nice diversity, sourced through a regional bank. And as you can see, certainly, extremely low LTVs, clean pay histories historically, nice amortization given the seasoning in these assets. Again, just from a diversity -- excuse me, from a diversity profile it fits very well with what we've been doing. And those assets are performing extremely well.

Your next question comes from the line of Stephen Laws with Raymond James.

1 quick follow-up to Tim's question. You mentioned the 12% on leverage yields, how much leverage is -- you think is appropriate for this type of construction loan? And kind of how do we think about the type of financing you'll use?

Yes. We certainly think to the extent we apply asset-level financing to the portfolio, probably going to have advance rates slightly lower than where our existing products are. But we do think the balance sheet provides optionality and whether we apply asset-specific financing or we do something like a term loan, given the sort of unencumbered nature of the balance sheet. So we'll work through those options depending on the markets between now and close, but we do think it provides us with that flexibility.

Yes. One thing I would just add to that, Andrew, is that one of the unique aspects of construction loans is the existence of a fairly liquid syndication market, either Pari-passu or AB notes. So that's another way we're going to look at leverage on this portfolio. And we're looking to manage the overall exposure in terms of net equity, that kind of 10% to 20%. On a pro forma basis, this will be about what Andrew is 16% net of reserves. That's kind of how we're thinking about the -- managing the net equity exposure as well as the overall amount of recourse leverage.

Great. Switching to the resi mortgage banking business. Can you talk about -- you've done a great job at maintaining volumes even as you've seen your mix shift more towards purchase the last 6 months. Can you talk about the outlook, both on volumes and what you're seeing in margins across the channel? And then any opportunities or headwinds created by the likely increase in conforming limits here in the near future?

There GMFS has continued to outperform and will in the -- in terms of their -- versus their peer group as measured by Strathmore and other data we track. But to answer your question, I think our guidance is for a decline of roughly 20% in the next quarter. But as far as margins, I think we've normalized to a -- it was 92 basis points this past quarter. I think, Andrew, you can chime in, but our expectation is a normalized range now of mid-90s to a little, let's call it, 1 to 1.25 in terms of a bandwidth. So I think you're seeing the expected normalization is occurring.

But I would will point out that if you look at some of the larger public comps, they've outperformed in terms of the -- both volume and margins and also the stability, remember, the strategy with our residential mortgage banking segment is to utilize -- to retain MSRs as a hedge for production declines, which has worked out very well in terms of normalized ROE. And there we also -- they benefit from a much lower volatility in their lower convexity risk in their MSR book due to the nature of the underlying geographic area, Louisiana, et cetera, and the lower WACC in the portfolio as well.

Great. And lastly, Andrew, one follow-up. You mentioned $83 million of PPP income remaining roll into earnings for the next 3 to 4 quarters. Is there any lumpiness to that? Is it going to be sort of straight-line recognition? How do we think about putting that into our models?

Yes. I do think there's going to be some volatility in how that rolls through earnings. If you look at the speed at which the first round of PPP was forgiven, there were certainly spikes in that processing between months 6 and 10, which we're rolling into. So I do expect there's going to be some increased activity over the upcoming months with the tail coming behind it. So unfortunately, not straight line, do you think there's going to be some increased activity over the fourth and first quarters, and then probably the effects will be less pronounced as we move from there.

Our next question comes from the line of Crispin Love with Piper Sandler.

First on the Mosaic transaction, I'm just looking for a couple of metrics. Is it fair that, I guess, as it stands right now, that earnings should be a run rate around $50 million to $55 million? And I'm just curious of what Mosaic could be on deferred revenues? And are those revenues primarily or vast majority manages income or if there's anything else there?

Yes. I can talk about the current earnings profile. As you look at the numbers this quarter, the normalized business and the absence of PPP is certainly running higher than our expectations on return on equity as well as the dividend. When you layer on $82 million and change of earnings to be recognized over the upcoming quarters, we certainly think that's going to push earnings to levels we're seeing this quarter for at least the next, call it, 2 quarters. And then in terms of the earnings contribution post closing, the way I would look at it is that the equity allocated into the Mosaic strategy is going to earn roughly an 11% bottom line return, with the majority of that revenue in fact coming on the interest income line item. Given there's no real leverage flowing through the financials today, the offset to that is going to be in the form of just some of the normalized OpEx.

Okay. Great. That's helpful. And then just broader on the Ready Capital business. Can you speak to the trajectory and the sustainability of core earnings? You definitely posted a really solid quarter this quarter -- at $0.64. So I'm just curious a little bit about what you think the trajectory could be and what some of the puts and takes will be. I know (inaudible) will soften a little bit, as you noted, with a 20% drop in originations, but SBC originations have remained very strong. So do you expect that momentum to continue? And just kind of how should that flow through and impact the overall core earnings of the business?

Yes, it's a good question. When we look at our 2022 business plans, what you're seeing is the, if you will, the transfer from the large gain on sale -- gain on sale revenues resulting from the pandemic stimulus packages, notably PPP, to the relevering of the SBC origination and acquisitions book, such that you're going to see kind of more of a prorated mix between -- right now, the equity allocation, if you look in the deck, I forgot which page it is, but it shows that we're now at about 90%, 90-10, SBC equity allocation and 10% on the gain on sale businesses. So what you're going to see in subsequent quarters is a normalization of the NIM related to that core SBC capital-heavy business. And that's being supported by record originations, right. We did $4 billion -- we will likely do $4 billion this year, 2x the normalized 2019. And so we see that continuing, especially in Dave's bridge business.

So that -- and that -- and the other thing to point out there is that with the capital markets execution on our, in particular, CRE CLOs, which only trade about 5 basis points higher on the AAAs than the benchmark ones like [Blackstone], et cetera, our ROEs are better than what they were pre pandemic, call it, maybe by 100 basis points or so on the -- on those businesses. So that will continue to support kind of a high single-digit ROE. And then the gain on sale businesses continued to grow post pandemic, in particular the SBA with the rollout of the -- we hired a number of -- added 20 staff to that business and also are rolling out new products like this SBA 7(a) small loan program. So we expect continued market share gains in that segment. And then we're adding incremental businesses like Red Stone, which are capital-light and also our benefit from government-sponsored programs, in that case the Freddie Mac Tax-Exempt program. And that will be offset a little bit by -- as we talked about by the normalization of the residential mortgage banking.

So kind of a long way to answer your question, but we are very bullish on the prospects of -- on the origination front going into 2022, which will support continued growth in the core NIM, which supports a high single-digit ROE supplemented by the 1 or 2 points attributable to the gain on sale businesses.

Okay. And if I could just sneak 1 more in. During the prepared remarks you talked about the 90% guarantee on SBA. Do you think that -- do you expect that 90% guarantee to hold going forward? Or do you think it could be moved back to 75%? And if that were to happen, any big impacts to the business?

Well, it's a good question. It's actually in the reconciliation bill right now to continue the 90%. The 90% remember was a -- borrowed from the Obama incentives from the GFC and then obviously implemented part of the Cares Act. So -- but it is in the current reconciliation bill, but that's -- the way that works from -- we're pretty active in our trade -- nonbank trade association, we're getting guidance from them that it's a bit of a coin flip as to whether that stays in. But from our standpoint, our base case scenario on earnings assumes a normalization back to the 75%. But if we get the 90%, that would be upside in the SBC gain on sale contribution. I'm sorry, SBA gain and sale contribution.

Congrats on a great quarter.

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

Tom, I'm curious what you make of the current lending environment. Lot of the mortgage REITs have seen a surge in production. Lot of the CRE brokers are citing debt funds as the most competitive. And many have a CLO exit. And also secondarily, how comfortable are you with the increase in average loan size that the Mosaic portfolio will introduce to the Ready Cap business?

Well, first on loan demand, and that's obviously being significantly driven by transaction volume. And remember, we're -- you mentioned the other mortgage REIT. They're in a rarified space, right. They're at large balance. Their average balances on transitional loan might be in the hundreds of millions and ours roughly in the, call it the $12 million to $15 million. So we squarely focus in the lower middle market. And there you're seeing kind of a lag recovery in terms of transaction volume through July, it was up, I forget what, 17% to $150 billion. So that's driving a lot of the growth in David's business. David, maybe you can just comment on that. I'll comment on the -- Adam comment on the Mosaic exposure. But Dave, just maybe you could comment on what you're seeing in terms of your core business in terms of competition from debt funds and demand from your client base.

Yes. I think it's very competitive right now. And as I mentioned in the dissertation before that the certainty of execution is paramount right now. And I think that a lot of our clients are looking for us through this upfront process. We had to review deals to go from beginning to end without much change. Now the volume is definitely being driven across the board. All states, there's a lot of movement and migration to the Sunbelt or wherever it may be. But the demand in particular for multifamily has been very, very voracious, it's been very -- there's been a water volume in that market. I think that since we focus on asset types, the multifamily and industrial in particular, that's where we're seeing the most value-add opportunities right now. And then followed by, I would say, self-storage and minimal on the hospitality, retail and then some office. But the demand is across the board, and it's going to continue so long as there's a good work from home platform that our tenants are looking to work from. And I think it will continue going forward. But the volume is the highest I've seen it in a while.

Yes. And just last point on that. And then Adam, maybe touch on the Mosaic in a moment. But Dave, I think another point you make in our management meetings is the competition in your strata of the market, lower middle market, is not as great in terms of new entrants and pricing and credit aggressive - being aggressive on credit in the large balance space, correct?

That's 100% correct, Tom. And once you get up to the over $50 million or even over $100 million of a loan size, the whole sphere changes in terms of the competitive nature. But there are very few lenders in the 5 to 20. And since we focus in that area in the middle market, small balance, it's definitely given us an advantage to, one, have diversity and also to be able to structure and close on those transactions.

Yes. That's helpful. So in terms of the second part of the question, Adam, maybe just touch on the current Mosaic transaction, how you and your team are going to manage the existing exposure. And then the go-forward in terms of -- we're bringing on, they have a very strong team in Mosaic. Mosaic was formed by a visionary and a pioneer in the CMBS market, Ethan Penner. And they -- so that team is going to be based in California, and we'll continue to -- will be integrated and continue to originate the construction loans. So maybe just Adam, very briefly touch on the existing exposure and then the go forward.

Yes. Jade, I think you touched on the comfort around the larger loan sizes. I think in regards to loan sizes, I'd like to say that the smaller deals, the underwriting on those are often more complex than the actual larger transactions, right? The risks are the same, et cetera, but you typically have with a smaller loan, less sophisticated sponsor, et cetera. But I think with the Mosaic portfolio, these larger loan sizes, the sponsors and developers are often more institutional than the small balance borrowers. Like I mentioned, more experienced, well capitalized, should they run into issues that can easily tap into their equity partners if needed. So that certainly gives us some comfort on the loan side.

And then also in David's bridge business, you've seen over the years within our own portfolio, the existing portfolio that our large -- our average loan sizes have been increases. I think that also helps with economies of scale in terms of underwriting and expenses related to the business. To Tom's second point about the team that we're bringing on, during the due diligence process we spent a lot of time out in these markets with the Mosaic asset managers with their leaders, et cetera, touring the markets, touring the assets, doing deep dives at the asset level. And what we came around with is that these are very experienced solid asset managers that have strong relationships, not just from a sponsor and client perspective, but from a third-party perspective, from local partners in the market that can assist with just local intel that you need on these type of assets. So working with those has been fantastic, and we're going to be bringing them on to the Ready Capital team. And that also gives us significant comfort that they're going to be helping us manage these assets going forward.

And just on Mosaic manager, you mentioned Ethan Penner. Wondering what will his role be with respect to Ready Capital. I think the language says that the Mosaic manager will continue to provide investment management services to certain prospective and existing clients, which I assume is of their own clients, but just curious about the role that they'll have with respect to ready capital.

Yes. Mosaic will be retained, essentially in a specialist asset manager role to manage the number of the assets in terms of disposition strategies, advance, how we -- syndication, et cetera. And there's an alignment there in terms of their existing LPs because there is the contingent equity right mechanism, the $98 million, which will accrete 90% to the existing Mosaic shareholders. So that -- so we think this arrangement creates a strong alignment of interest, both for Ready Cap as well as the Mosaic LPs.

Our next question comes from the line of Steve Delaney with JMP Securities.

Congratulations on the really strong results. Yes, I think it's -- when you look at what you've done with your performance of the legacy businesses and the acquisitions that you've bolted on in the last 6 months, I think you've really taken investor focus off of the PTP and the timing of that, et cetera. So props for that, I think that's good for the stock. Starting off, I think Tim nailed it on his first question. I think the question of the day is understanding the Mosaic portfolio in terms of property types in geo, and you certainly covered that. We also know that the team is going to stay. How many people are -- you said they're based in California, just roughly how many people are coming over to manage that portfolio?

Adam, you want to touch…

Yes, sure. On the asset management side, it's about 8 individuals. And then there's an origination team of 2 individuals. So the combination of that, right, the origination folks that obviously originated these loans underwrote them, et cetera, that's going to be a huge benefit for us as we move forward here. So it's about 10 folks based in California.

Okay. Great. And that group, obviously, you've got the existing portfolio. When -- Tom, as you look forward, is this something that you structure something as a separate TRS? Or do you see this group as sort of a sub manager to waterfall itself? How does -- I guess what I'm really asking, Tom, is do you see this other than acquiring a portfolio, do you see this having legs? And if it does, kind of how does it fit into the overall structure of the company?

Yes. No, that's a good question, Steve. This unequivocally is a great bolt-on fit for our existing product mix. If you think about it, if you're a sponsor, a lower middle market sponsor, what we offer them now through Dave's business is a so-called heavy transitional, right, whether we could acquire it, there'd be a lot of CapEx, but it's not ground-up construction. So now we go to ground-up construction, which is typically the bailiwick of the banks. Very few nonbanks in the space. And so like Bank of Ozarks, et cetera, they have much -- their LTVs by -- just given the nature of the high capital charges for construction loans with banks, they're more in the 50-ish, 60 most. And as a nonbank, we can go a little bit up the LTV spectrum, not by a lot, but kind of like a unitranche with leveraged loan.

But for us, this clearly is a new existing product offering that is a -- will fit our existing sponsor base. For example, just to give you one example, with the Red Stone, they do construction lending, right, for affordable with a takedown from Freddie. Well, now we can provide that, even more enhance their business by offering affordable construction -- sorry, offering construction lending for affordable multifamily with a known takeout with the Freddie tax-exempt bond. So this clearly is a product fit. And the individual, Alex Ovalle, who's coming on board, is very well-respected in the industry. He's been -- he was with Ethan back in the Nomura days, 25-plus years ago. So I think we see a very seamless product fit for this -- for construction lending vis-à-vis Dave's transitional lending business.

Great. That's great to hear. And then a quick follow-up on Red Stone since you mentioned it. I've been trying to understand exactly how they fit into the mix and whether do they focus more on low-income housing tax credit syndications or actually buying the MRBs and the GILs? Exactly, what is -- can you kind of clarify exactly the products they have to support low-income affordable housing?

Adam, you want to touch on that? I mean, just the upfront, though. They're not a syndicator. They basically utilize the Freddie mortgage tax exempt bond program. But Adam, maybe you could just kind of touch on their core business.

Yes, sure, Steve. So their sole focus is really providing construction and permanent financing for the preservation and construction of affordable housing, primarily utilizing tax-exempt on. So just some things that they've done over the years. So they've closed over $5 billion of multifamily affordable, 60,000 units. They got a $1.7 billion pipeline today of affordable projects. They have a Freddie Mac seller servicer license for the targetable affordable housing. They've done like 19 tax-exempt bond securitizations to date through the Freddie Mac program. So to Tom's point, I mean, yes, their sole focus is really construction and permanent financing for affordable housing. And clearly there's a significant demand from a tenant perspective to get into these affordable projects.

Got it. So yes, highly specialized, highly specialized and focused loan brokerage kind of platform. And obviously next year, starting next year, yes, we got an increase in the caps to $78 billion, but 50% has to be affordable. So it sounds like a really nice piece, addition. So listen, thanks for the questions -- for the comments this morning.

Our next question comes from the line of Chris Nolan with Ladenburg Thalmann.

My questions have been asked and answered.

There are no further questions in the queue. I'd like to hand the call back to management for closing remarks.

Again, appreciate everybody's time. It was a good quarter. And we look forward to subsequent calls. Have a good day.

Ladies and gentlemen, this does conclude today's teleconference. Thank you for your participation. You may disconnect your lines at this time, and have a wonderful day.