Andrew Ahlborn

Thanks, Tom.
Third-quarter GAAP losses per common share were $0.07 while distributable earnings showed a loss of $0.28. Excluding realized losses on asset sales, distributable earnings were $0.25 per common share, representing an 8.4% return on average stockholders’ equity. The distributable loss primarily reflects the timing difference between the valuation allowances recorded in the first and second quarters and realized losses from settlements in the third quarter.
Three key factors impacted our quarterly earnings. First, revenue from that interest income, servicing income, gain on sale, and origination income increased $19 million or 22% quarter over quarter to $104 million. The change is primarily driven by $8.7 million growth in gain on sale revenue from our small business lending business, with sales of $254.3 million generating gain on sale revenue of $24.2 million.
$6.6 million growth in origination income from small business working capital loans, through the Funding Circle platform, and higher SBA 7(a) production. $2.1 million growth in servicing income from MSRs acquired through the Madison One and Funding Circle acquisitions.
Net interest income held steady quarter by quarter at $51 million. Interest income declined $7.6 million primarily from portfolio reductions to payoffs and liquidations. This is offset by lower interest expense from deleveraging of our CRE CLOs.
Quarterly interest income was 73% cash and 27% accrued or paid in kind. This equates to a cash yield in the portfolio of 6.6%. Of the 27%, 50% related to construction assets acquired in the Mosaic transaction, of which 74% are expected to be repaid at the end of the year. Non-accrual balances remained stable at $260 million, representing 2.8% of the portfolio.
Second, the combined provision for loan loss and valuation allowance decreased $17.9 million. The $53.2 million increase in CECL reserves was due to a $4.6 million decrease in the general allowance plus $57.8 million of specific reserves on several assets. The decrease in the valuation allowance is due to an $88.2 million recovery from loan sales, all set by $17.2 million increase on loans remaining on the balance sheet at quarter end.
The release of the valuation allowances related to the settlement of $315.7 million of loans. Loan settlements had an incremental impact of $11.5 million net of tax.
Third, as expected, offering costs rose 1% to $60.4 million, reflecting $11.5 million in Funding Circle costs and a $4.1 million increase in variable costs related to production. Non-cash REO charge-offs included in other operating expenses were $525,000 in the quarter, down from $9.1 million in the second quarter.
We recorded a $32.2 million bargain purchasing from the completion of the Funding Circle transaction, primarily driven by realizing a deferred tax asset, net of evaluation allowances. On the balance sheet, book value per share is now $12.59 per share versus $12.97 per share last quarter.
The change is primarily due to declines of $0.31 per share related to CECL, $0.11 per share related to net realized losses, and $0.06 per share reduction from net changes in cash flow hedges through other comprehensive income. These declines were partially offset by a $0.13 per share increase related to the bargain purchase gain. Distributable earnings, absent realized losses, cover the dividend. Our strong liquidity position includes $181 million in unrestricted cash and $20 million in committed but undrawn borrowings.
With that, we will open the line for questions.

Operator

(Operator Instructions) Crispin Love, Piper Sandler.

Crispin Love

Thank you. Good morning, Tom and Andrew. First, can you just give a little more detail on the loan sales in the quarter? I saw the $110 million loss. What was the total sale amount and the discount you sold it at? And then on what’s left to sell, is it $218 million or did I get that wrong?

Andrew Ahlborn

Hey. Good morning, Crispin. So we settled in the quarter a total of $331 million. The pricing was relatively in line with what we disclosed last quarter, which was right around [$70 million]. The sales generated roughly $55 million in proceeds. And the EPS impact of those sales in the quarter was $0.11 — a loss of $0.11.
IN addition to that, we do have a population of $218 billion of loans remaining on the balance sheet that we anticipate selling. We took increased valuation allowances of roughly $15 million growth of the effects of tax. And that had a $0.13 effect on EPS.

Crispin Love

Okay, I appreciate that, Andrew. And then, just in the third quarter, can you disclose how much was — how much interest income was from PIK and just expectations from PIK over the next few quarters?

Andrew Ahlborn

Yeah, as Tom said in his comments, a little over 20% was either PIK or accrued. When you break those two components down, the PIK component is coming from construction loans acquired in the Mosaic transaction. The expectation is that a large portion of those pushing 75% clear out in the fourth quarter and turn to actually through cash-paying investments. The other subset relates to the modified loans. As Tom also mentioned here, roughly 66% of that is cash paying with the component being accrued if the ultimate recoverable — recoverability is supportable. So that’s the breakdown.

Crispin Love

Okay, great. And then, sorry, but is that 20% that’s PIK — is that 20% of interest income or net interest income?

Andrew Ahlborn

It’s on the top line.

Operator

Douglas Harter, UBS.

Douglas Harter

Thanks. I guess thinking of the originated portfolio, how do you expect the trajectory of either delinquents or non-accrual assets to perform both resolutions and inflows of potential new problem assets?

Thomas Capasse

Yeah, Andrew, do you want to comment on that? And just actually I think one thing to underscore is the so-called denominator effect, which we’re seeing in the industry in terms of the portfolio decline being greater than the new assets — I’m sorry, new 60-day delinquents, but maybe, Adam, just comment on that more broadly.

Adam Zausmer

Yes, sure. On the originated portfolio, as we’ve been highlighting, the majority is multi-family product, right? So it’s 70%-plus in multi. We feel that there’s strong equity in these deals. And certainly, the market is improving. And as Tom and Andrew highlighted the commercial real estate space, specifically the multi-family area where we’re so heavily exposed is certainly on a stabilizing path, especially as rates begin to ease the fundamentals are certainly more favorable.
I’d say that it — delinquency will remain volatile, right, as we work through the portfolio. But as we’ve highlighted, it’s certainly peaked our delinquency. And also, the denominator effect as we’re originating less new loans today, that denominator is going — is going down as loans are paying off.
So we had about $700 million of exits this year, which is certainly reducing that denominator. We’ve only had about $50 million of new $60 million-plus delinquency in the quarter. And so that’s — although there was a 90% — sorry, a 90 basis-point increase in the $60 million-plus, it’s only attributable to about $50 million of new $60 million-plus. So as Tom highlights, that denominator effect is certainly impacting the delinquency increase.

Douglas Harter

I appreciate that. And as you think about kind of the pace of recovery within commercial real estate, how do you — or how do you think about the difference maybe between lower short-term rates but kind of a backup in longer-term rates, and which one of those is likely to have more of an impact on the market?

Andrew Ahlborn

Yeah, I mean, certainly.
I was going to say just on the more broadly, we’re definitely seeing unequivocally a flattening in the curve on the multi-family space, especially lower-middle market. Delinquencies on [costar] were flat at 5.8% for the first time in four or five quarters. Vacancy rate is 5.8% and rent growth is kind of flat-lined at around 0.3% and even some of the negative markets you’re starting to see like Austin, which was down year over year 7%, you’re starting to see that flatten out as well.
So that’s — on the asset side, that’s — you’re seeing a definitive stabilization in cap rates and property values. and our mark-to-market LTV is well under 100, especially on the loans that are — have been modified or have some four or five risk rating. So that’s the relative, a positive there.
As far as rates, it’s an interesting dynamic. The short rates, as the curve steepened, as you see a — steepening in the curve, the short — decline in short rates will definitely benefit our modified loans by improving the debt service coverage ratio, all else being equal, while they work out their business plans and on a delayed basis and improve NOI.
So there’s kind of a — on the back end of the cycle, you’re seeing the benefit of the debt service coverage expansion, which got crushed during the — when rates gapped out in 2022. So I think that’s going to benefit us. And then another sell thing we’re seeing is that there’s a lot of new private debt capital coming into the — into this multi-family market. And we’re seeing some of our better loans that have that were extended and modified being taken out by bridge on bridge from private debt.
So that dynamic is going to — is a tailwind. The headwind is, however, though, is to the extent long rates, the 10-year stays elevated at above 4.5. That means the takeout from — our takeout is focused on GSE, Fannie, Freddie, is going to be harder to hit that debt yield on a takeout. So those are the two countervailing trends in terms of rates.

Operator

Jade Rahmani, KBW.

Jade Rahmani

Thank you very much. Other assets is a category I’ve been tracking, and the large components include deferred loan fees and accrued interest about 25%, goodwill and intangible similar ratio and then deferred asset — deferred tax assets. Is there any risk of write-down or impairment of any of these categories as you sell non-performing loans since presumably some portion of the deferred loan fees, accrued interest relate to that and potentially some of the goodwill relates to the Mosaic and Broadmark acquisitions?

Andrew Ahlborn

Good morning, Jade. So I’ll take them in the components. So the deferred tax asset gets evaluated regularly. And impair based on profitability expectations down at the TRS. We don’t expect any impairment issues there based on the trajectory of those businesses.
On the accrued interest, we are only accruing interest that we believe to be recoverable. With that being said, there are certain circumstances where the asset management staff may recommend something like a DPO. And in that case, the accrued interest would be part of the write-off though. Although we believe that the effect of that to be fairly minimal.
Goodwill also gets evaluated regularly. At this time, we don’t see any impairment on the goodwill.

Jade Rahmani

And does any of the goodwill relate to Broadmark or Mosaic?

Andrew Ahlborn

Both of those were bargain purchase gains.

Jade Rahmani

So is that a no?

Andrew Ahlborn

Yeah. So the goodwill — you can’t have goodwill if you have a bargain purchase gain, so no. They do not [relate to trades].

Jade Rahmani

Okay. Thank you for clarifying that. And then just, in your mind, the balance — because I know there’s a lot of moving parts across the portfolio. Some of the non-performing loans and REO were inherited through M&A. And clearly, you anticipated some of that. But what’s the balance today of non-performing loans and REO?

Thomas Capasse

Yeah, Andrew, do you want to touch on that in the context of the — yeah, Jade, the way we bifurcate the portfolio is the originated portfolio of $7.3 billion. And then the M&A portfolio now is down to, what is it, it’s only 10% of our total $800 million.
So maybe frame that question — the answer to that question in the context of those two portfolios.

Andrew Ahlborn

Yeah, Adam, you want to touch on the bifurcation there?

Adam Zausmer

Yeah, so from a dollar perspective — pardon me, just do the math here. So the originated has delinquency of about $400 million — just north of $400 million. And then on the acquired portfolio, the M&A piece, it is — excuse me, one minute. It is $150 million.

Jade Rahmani

And the balance of REO?

Adam Zausmer

The REO is $160 million.

Jade Rahmani

Okay.

Adam Zausmer

In a sale process today.

Jade Rahmani

Okay. Could you give the dollar value of modifications completed in the quarter? The 20% PIK is a really high number. It implies $45 million of PIK interest in the quarter, which I think was up from, you said, last quarter $21 million. So it basically doubled. If you could just give the dollar value of modifications and correct me if any of those numbers are not right.

Adam Zausmer

Yeah. So the modifications on the bridge book were about $250 million in the quarter. Previous quarter, it was approximately $700 million. So across the entire bridge portfolio, the modifications are roughly $1 billion dollars across 32 assets and the vast majority of those sit within CLOs.

Jade Rahmani

Okay. But it is around $45 million of interest income. Do you think the $45 million increases or stay stable, decreases?

Andrew Ahlborn

Jade, as I said earlier, a good chunk of that is coming from those construction loans acquired in the Mosaic transaction. And the expectation is that 77% of that balance pays off at quarter end or rolled into a cash flow loan at quarter end. So I think that number is going to come down.

Jade Rahmani

Okay. And when those pay off, you think they’re going to pay off at par and there won’t be issues — credit issues there.

Andrew Ahlborn

Well, the takeout of those loans can take a variety of forms. Part of the platform we built is being involved in the economics of these projects through the life cycle. And so the payoff could in the form of an actual payoff via refi somewhere else or move it into a cash flow bridge loan on our balance sheet. So it could take a variety of different forms.

Thomas Capasse

Yeah, that’s important differentiation, Jade. Well, our business model now is to the whole life cycle. So you start with ground up construction and once the project is near stabilization, it slipped into a bridge loan. And ultimately, if it’s multi-family, we’ll a GSE — multi-GSE loan. But we’re looking to stay with these sponsors across the project life cycle.

Operator

Steven Laws, Raymond James.

Stephen Laws

Hi, good morning. Tom and Andrew, appreciate the color you guys have provided so far, you’ve covered a lot. Wanted to touch on CECL. Can you talk about the reserve build and how that’s allocated between general and specific? And what assets drove that CECL reserve build this quarter? And I guess, confidence around this level or considerations about potential increases in that as we move forward?

Andrew Ahlborn

Yeah. So I’ll let Adam talk on the specifics. But overall, the CECL reserve is a little over 1% and 32% of the total CECL is in the general bucket.
Adam, do you want to talk on the movements this quarter?

Adam Zausmer

Yeah, and then the movements this quarter, that $50 million, it’s almost entirely in the M&A portfolio across a broad range of property types, office, industrial. And there’s some multi in there.

Stephen Laws

Okay, great. Appreciate some color there. And as we think about the distributable earnings number. ex-loss is $0.25. As we think about sequential change moving into Q4, what are the one-time items in that number that we need to think about? Or do you feel comfortable that distributable earnings ex-losses can continue to cover the $0.25 dividend?

Andrew Ahlborn

Yeah, I think the $0.25 level is a good baseline. When I think about go forward earnings, I think there are a few things that are important. The first is the contribution of the small business lending platform, given all the growth and capital investments we’ve made over the last couple of quarters and years, is now substantial to the totality of the company, contributing over 350 basis points of return to the overall platform. And that is a level we expect is sustainable and grows as some of the businesses we’ve purchased come online.
And so when you think about how that affects go forward earnings as the CRE portion of our business, which accounts for the majority of the equity, rebounds and migrates back to historical return levels, as the portfolio turns over and the M&A portfolio is repositioned, migrates back to that 600, 800 basis point return level. We get closer to our original thesis of building the business this way, which is having that small business lending platform provide a premium to competitive commercial real estate returns.
And so I think there’s a growth path from these levels. There are no one-time items, and I’m aware with the exception of there’s still a bucket of loans held for sale where you are going to have the impact of realized losses flow through the distributor earnings cap. But absent those losses, I think there is a growth path headed into 2025.

Stephen Laws

Great. I wanted to touch on the CLOs. You guys talked about them, I think, every quarter this — every call this year. They’re different, as you mentioned, the static nature. And earlier this year, you talked about the special servicer and your thoughts on potentially changing that or doing it in-house.
Can you talk about how that relationship is and your ability to kind of manage some of these assets? And how quickly you can start? Or do you have to continue to let them go bad before you can actually step in and start to do something?

Thomas Capasse

Adam, maybe kind of frame it in the context of the relative success we’ve had with the existing servicer in terms of changing the protocols around how quickly we address mods and that dynamic with our asset management team. So maybe touch on that.

Adam Zausmer

Yeah, I think at the onset of this stress due to the rate environment and towards the end of the last year, I think as we started to see relief requests from our clients, I think the special servicing industry struggled with how to address the environment, what type of modifications they would employ. I think, early on, we certainly struggled to execute market modifications and to provide our clients with relief.
I think, in Q2 and especially this quarter, we have made significant progress with our special servicer, again, continuing to industry — sorry, continuing to execute industry standard mods to help. These projects have some breathing room to navigate through this challenging environment.
These modifications help the tenant base in terms of putting capital into these projects and not having to utilize different alternatives versus a mod. So in summary, I’d say our relationship with our special servicer remains healthy. And the pace at which we are executing solutions for our clients is healthy as well.

Stephen Laws

Great. I appreciate the color on that and good to see that relationship is improving. So I appreciate the comments today and I hope you all have a very good day.

Operator

Christopher Nolan, Ladenberg Thalmann.

Christopher Nolan

Tom, am I correct to that your comments earlier were sort of you’re thinking that you’re through the worst of the commercial real estate cycle for Ready Capital?

Thomas Capasse

Yeah, we’re definitively seeing, as evidenced by Adam’s comments, in terms of the kind of sawtooth down in the absolute dollar delinquencies. And what we’re seeing in terms of the migration of the four, five assets as it relates to the originated portfolio, it definitely is mirroring what you’re seeing in terms of the macro data on in the multi-family sector.

Christopher Nolan

Great. And then in your earlier comments, in terms of lower interest rates, improved coverage ratio, is your coverage ratio calculation before or after property taxes and other municipal fees?

Thomas Capasse

Adam, do you want to comment that in terms of the calculation on the debt DSCR? I mean, it’s somewhat formulaic because we look at it from a Fannie Freddie methodology, but maybe, Andrew, a comment on that in terms of the OpEx.

Adam Zausmer

Yes, sure. Yeah, the coverage ratios are after taxes and reserves.

Christopher Nolan

And final question is given all that, what’s the outlook for the 10% distributable ROE target you guys discussed in previous quarters?

Thomas Capasse

Andrew (multiple speakers)

Andrew Ahlborn

I think we are — so absent the realized losses, is in the mid-8%s this quarter. Given my comment before about the sustainability of profitability from the small business lending segment. As the CRE part of the business recovers, I think we march towards that 10% target.

Christopher Nolan

Okay. So the calculation should be excluding realized losses going forward because before I didn’t think that was really an issue.

Andrew Ahlborn

So the realized losses that we posted are related to the population of assets we transferred into health for sale primarily and so not 100% of that bucket settled in the third quarter. So you are going to see some noise as the remaining $218 million settles into next year. So the economic impact of that transfer, for the most part, has been felt through the book value of the company but you will see the realized components flow through distributable earnings.
We think that distribute earnings less realized losses is an important metric just to have comparability of the core operations of the business across periods.

Operator

Matt Howlett, B. Riley Securities.

Matt Howlett

Oh, hey. Thanks, Tom and Andrew. Did you say you freed up $55 million in cash from the loan sales of this quarter?

Andrew Ahlborn

Yes.

Christopher Nolan

So what would be — just walk me through the cadence of the loan sales in the fourth quarter. You get the mortgage company. How much cash are you going to continue to free up in the next few quarters from these sales?

Andrew Ahlborn

Yeah, so the — maybe take the component. So on the resi side, as Tom mentioned, the MSRs are currently in market. The expectation is the sale of those, none of any financing clears roughly $40 million of incremental cash. The platform itself most likely settles in the first quarter of next year. And the impact of that transaction is roughly $10 million in that range. So there’ll be some earn out component, but the upfront cash will be roughly $10 million.
Absent that, we do expect the settlement of the remaining assets to flow into next year. And that should clear roughly $40 million or so of cash as well. And then you’re just going to have the normal cadence of the portfolio paying off. But those are the main items.

Matt Howlett

Okay? So you have $180 million in cash. It seems like that’s going to obviously go up with those sales. My question is — you have one small maturity next year like $120 million. My question is this — I mean, financing, are you talking to the banks? We’re hearing the banks are out there. They want to lend.
Can you — do you have assets in secured costs? Could you do an unsecured deal? And then two, I’m assuming you didn’t buy back any stock this quarter. Why wouldn’t you really get aggressive with the buyback since the worst is over. Docks at 60% of the book. Obviously, this value in SBA, this is not reflected in book. I think we’ll both agree to that. Why wouldn’t you get aggressive here and take advantage of this discount? The worse is over.

Andrew Ahlborn

(multiple speakers) It’s two components there. On the debt maturity for next year, we are certainly talking to all of our banking counterparts and previous lenders about refi-ing that into a new issue. And with that being said, we are positioning the company to take care of that maturity in cash, should those not materialize.
And then on the buyback program, I think we agree at this price, the stock looks attractive from the — from a buyback perspective. And I do expect it’s something you will see from the company in the upcoming months.

Matt Howlett

Okay. No, I mean, obviously we can do the math, but it’s enormously accretive at this discount. But when you say paying into cash, why — I mean could you — I mean, are there any financing — other financing options may not really lever it on a recourse basis? I mean there are other assets you could play. I mean (multiple speakers)

Andrew Ahlborn

Yeah, sure. We’re exploring — sorry to cut you off. Yeah, we are exploring all those. Refi-ing into an unsecured issuance. We have a significant amount of unencumbered assets on the balance sheet that we could use for secured issuance. There’s a variety of other structures we are also exploring. So that is obviously the preferred path. I think just to be conservative, we are also planning the company’s liquidity profile to make sure that debt maturity is not an issue for us in the upcoming months.

Matt Howlett

Got you. Okay, good. Look, we look forward to that. Obviously, I think you — I think the market will applaud any type of share repurchases at these discounts.
I guess the last question is, on the SBA, I mean, that digital business, the iBusiness and the SBA, maybe what could you do with that? Any sort of — how is that doing? I mean, you got this digital business. I mean it could, obviously, in the world of fintechs get a much better multiple on its own. I just would love to hear [to set up] something you don’t see in mortgage rates, and you guys have one.

Thomas Capasse

Yeah, you can see the — and I think it’s significantly underappreciated in our peer group, just given that it is a nuanced regulated capital-light insurance business. But in terms of the iBusiness aspect, we purchased them back in 2019. They were a leader in unsecured small business lending.
And then, they adopted their tech to the PPP, which was very accretive. And since then, there’s been the initiative within the SBA to emphasize small loans below $350,000, which many times are minority women-owned businesses. And so, that’s been a significant initiative by the SBA. So what we’ve done — and there you could use a scorecard methodology, which is very similar to how you underwrite unsecured loans.
So what we’ve done is we’ve developed — the iBusiness has developed a tech stack, which is now being mark marketed as a third-party underwriting model for banks. Banks just do not focus at all. Even if they do SBA loans, it’s mostly for larger loans again above the $350,000 to the $5 million.
So this — iBusiness, the idea with iBusiness is to grow the, if you will, the revenue stream from this software-based business. And then once it achieves, as you pointed out, the valuation in a mortgage REIT, it’s nowhere near what it would be in a standalone C corp. So the idea would be to look at a backdoor IPO via a tax free spin off to shareholders.
I mean, again, that’s kind of how we think of Ready Cap in a way, it — for these capital like businesses that achieve scale. It’s like as if we’re a private equity or fund that has the ability to finance these businesses very cheaply versus venture capital and then spin it off.
So anyway, so long way to answer to your question, but that this — the growth you’ve seen in the SBA 7(a) business is testimony to that strategy in that they’ve — we’re achieving in our traditional large loan around $500 million and roughly $500 million this past — on a run-rate basis this past quarter in the small loan as well.

Matt Howlett

But will you be — I mean that could trade-off a multiple to revenue. Will you begin providing a separate data on that it’s employed? What it’s doing and the financials on it?

Thomas Capasse

Yeah, as the business scales and achieves what we believe to be scale in terms of the number of bank customers and revenue streams as it relates to that, we would look to do segment reporting.

Operator

Thank you. That concludes our question-and-answer session. I’d like to hand the call back over to Thomas Capasse for any closing remarks.

Thomas Capasse

We appreciate everybody’s time and look forward to next quarter’s call.

Operator

Thank you. That does conclude today’s teleconference. We appreciate your participation. You may disconnect your lines at this time. Enjoy the rest of your day.