RWA - 6s - 2022 - a time to start walking - Part 4

(Thread continued from RWA - 6s - 2022 - a time to start walking - Part 3)

RWA - 6s - 2022 - a time to start walking - Part 4

The DAO needs more LendCOs / Arrangers

Even with the targeted collateral portfolio outlined in my previous post, 6s Capital >> wants << other arrangers in the DAO ecosystem. At the time of this writing, there are ~9 Bn DAI outstanding. As DAI continues its geometric growth into 2022 and beyond, the ability for on-chain collateral to be able to keep up is hopeful, but unknown. As a result, the DAO may find itself needing to massively ramp up off-chain, real world asset (RWA) collateral if it does not want to be cornered into continued reliance on stablecoins. 6s’ debt ceiling, contemplated in 5 years, is small in the context of the current amount of DAI outstanding let alone what may be in place in future. As a result, 6s believes it will only (and should only) represent a small percentage of the DAI collateral market. And to ensure that 6s does >> NOT << have a disproportionate percentage of RWA collateral in the system, the DAO >> needs << other market participants to join. (Please DM if you are interested, 6s will help you!)

A system of constraints

From a lender’s perspective, first authorization for a scope is obtained and >> then << staff are engaged to work with borrowers to identify solid collateral and make loans while operating within the constraints of its authorization. This approach with regards to an expanded scope and authorization is quite similar to the book “Playing to the Edge”.

Just because a lender has authorization, doesn’t mean it will use all of it (to use the analogy in the book It will not use the entire playing field). BUT, it makes all the difference for a lender knowing that it can if needed or desired. This transactional certainty drives a productive decision making process / environment for lenders. A lender cannot engage with a borrower with the narrative of “I hopefully will be able to lend in this space in X months”. It must be, “I know I can lend to you if you can deliver appropriate collateral”. An example of not making use of a full authorization can be seen in 6s’ history to date. Because 6s’ was set up with a financial covenant compliance-driven lending structure from the start, 6s’ authorizations were based on certain covenant “ratios” (for example, the amount of debt outstanding against the value of collateral). 6s would be in breach of its authorizations, and its Credit Agreement, if these ratios were breached. Knowing therefore that a breach would be catastrophic, 6s will not allow, nor even get close to those ratio thresholds. It is simply not worth the risk.

(In addition, as previously outlined, 6s is also driven to operate well within its authorizations because it includes a “first loss equity component”. This means that in the event of non-performance of loans the owners of 6s make a loss before the DAO faces exposure.)

It is impossible today for 6s to accurately predict which sector will anchor its business in five years. Instead, given the constraint for >> ALL << lending activities for 6s (as they relate to being an Arranger for the DAO) is the total debt ceiling and compliance with financial covenants, the sector in which we lend is less important compared with making sure the terms for the underlying loans enable us to comply. The lending space is dynamic. The sectors 6s will focus on will be largely driven by market trends, industry expertise, societal impact, staff ability, regulation and of course, profit.

Running an operating business, not an investment fund

This is an important distinction for the community to be aware and mindful of. For the avoidance of any doubt, 6s Capital’s business model is that of running an operating business where 6s operates as a senior secured >> lender <<. 6s is not running an investment fund and has no plans to hold securities.

6s has access to other sources of funding aside from the DAO Credit Agreement(s) These range from a variety of classes of equity (both “common” and “preferred”), alongside an additional source of external credit (a “revolver”) that has its own allowable authorizations in the form of certain collateral types and financial covenants. Should 6s make a loan that does not fit within the authorizations of the Credit Agreement(s) extended from the DAO (in the form of the RWA Senior Lending Trust), 6s must finance that loan from another of its funding sources.

6s Forward Guidance

In 2022 we look forward to starting to “walk”. Under the currently approved lending scope, our transactional lending pipeline continues to solidify and strengthen. 6s has three existing borrowers planning for an expansion that will significantly increase our loan book, and as a result our credit needs, both in 2022 and into 2023. Today, 6s has ~$20MM in loans outstanding on a portfolio of projects. Our pipeline of transactions will require ~$40MM in additional credit during the course of the next 6 months alone. As the engagement with certain key tenants (like Tesla) increases as they ramp up their development pipelines, transactional certainty becomes ever more important to 6s. The pipeline in Q3 & Q4 2022 should be ~$100MM (or more) with materially >> more << in 2023. 6s will need increased debt ceilings as part of its authorizations under its Credit Agreement(s) with the DAO, in order to transact this increasing quantity of loans with certainty.

What’s more, this credit requirement guidance is specifically related only to 6s’ currently approved scope (credit tenant leases). Should the approved scope change, our debt ceiling values may need to be adjusted upwards accordingly.

There will be bumps

There is significant work to do to successfully start walking. Lots of work ahead for the 6s team to stand-up operations and run this lending business. It will be a while before we have “smooth sailing” for 6s or the DAO as it relates to building a portfolio of off-chain collateral in the form of RWAs. However, I can tell you it will be interesting, and 6s will not quit. Not on my watch, it is simply not an option.

We all want this to go faster, but the fastest we should go is the pace of “safe” (yet aligned with incentives). A walk. We have a world that needs changing, and we need more Arrangers / LendCOs to do it in a pragmatic way.

And then, we will run. Buckle up MakerDAO. Time to build and expand !!

(/fin)

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Expect a pair of proposals next week to address this specifically, with the “crawl, walk, run” approach 6S has used.