Washington, D.C. 20549
Amendment No. 1
x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 2007June 30, 2008 or
o¨ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from to .
Commission File Number: 1-14100
IMPAC MORTGAGE HOLDINGS, INC.
(Exact name of registrant as specified in its charter)
Maryland | 33-0675505 | |
(State or other jurisdiction of |
| (I.R.S. Employer |
19500 Jamboree Road, Irvine, California 92612
(Address of principal executive offices)
(949) 475-3600
(Registrant’s telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes xo No o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act.
Large accelerated filer xo Accelerated filer ox Non-accelerated filer o Smaller reporting company o
Indicate by check mark whether the registrant is a shell company (as defined in Exchange Act Rule 12b-2) Yes o No x
There were 76,083,86576,096,392 shares of common stock outstanding as of May 8, 2007.September 12, 2008.
EXPLANATORY NOTE
Impac Mortgage Holdings, Inc. (the “Company”) is filing this Amendment No. 1 to its Quarterly Report on Form 10-Q/A for the quarter ended June 30, 2008 filed with the Securities and Exchange Commission on September 15, 2008 solely for the purpose of correcting a typographical error in Exhibit 32.1 “Certifications of Chief Executive Officer and Chief Financial Officer pursuant to 18 U.S.C. Section 1350 as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002” regarding the quarter end to which the Certificate applies, which is the quarter ended June 30, 2008.
Except as described above, and except for currently dating the Exhibits attached hereto, this Amendment No. 1 on Form 10-Q/A does not modify or update any information reported in the original Quarterly Report on Form 10-Q for the quarter ended June 30, 2008 and it does not reflect events occurring after the date of the filing of the original Quarterly Report.
IMPAC MORTGAGE HOLDINGS, INC.
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| Consolidated Balance Sheets as of | 1 | |
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MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND | |||
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| The Mortgage Banking Industry and Discussion of Relevant Fiscal Periods |
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| 26 | ||
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| Fair Value of Financial |
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| 31 | ||
Selected Financial Results for the Three Months Ended June 30, 2008 | 32 | ||
Selected Financial Results for the Six Months Ended June 30, 2008 | 32 | ||
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| CERTIFICATIONS |
IMPAC MORTGAGE HOLDINGS, INC. AND SUBSIDIARIES
(dollar amounts in thousands, except share data)
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| March 31, |
| December 31, |
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| 2007 |
| 2006 |
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| (Unaudited) |
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ASSETS |
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Cash and cash equivalents |
| $ | 181,202 |
| $ | 179,677 |
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Restricted cash |
| 439 |
| 617 |
| ||
Securitized mortgage collateral |
| 21,462,312 |
| 21,050,829 |
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Finance receivables |
| 262,667 |
| 306,294 |
| ||
Mortgages held-for-investment |
| 1,156 |
| 1,880 |
| ||
Allowance for loan losses |
| (102,838 | ) | (91,775 | ) | ||
Mortgages held-for-sale |
| 857,222 |
| 1,561,919 |
| ||
Accrued interest receivable |
| 116,974 |
| 115,054 |
| ||
Derivative assets |
| 102,441 |
| 147,291 |
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Real estate owned, net |
| 251,943 |
| 161,538 |
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Other assets |
| 149,767 |
| 165,631 |
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Total assets |
| $ | 23,283,285 |
| $ | 23,598,955 |
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LIABILITIES |
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Securitized mortgage borrowings |
| $ | 20,998,378 |
| $ | 20,526,369 |
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Reverse repurchase agreements |
| 1,233,334 |
| 1,880,395 |
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Trust preferred securities |
| 97,863 |
| 97,661 |
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Other liabilities |
| 94,882 |
| 85,000 |
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Total liabilities |
| 22,424,457 |
| 22,589,425 |
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Minority interest |
| 1,000 |
| — |
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Commitments and contingencies |
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STOCKHOLDERS’ EQUITY |
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Series-A junior participating preferred stock, $0.01 par value; 2,500,000 shares authorized; none issued and outstanding as of March 31, 2007 and December 31, 2006, respectively |
| — |
| — |
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Series-B 9.375% cumulative redeemable preferred stock, $0.01 par value; liquidation value $50,000; 2,000,000 shares authorized, 2,000,000 shares issued and outstanding as of March 31, 2007 and December 31, 2006, respectively |
| 20 |
| 20 |
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Series-C 9.125% cumulative redeemable preferred stock, $0.01 par value; liquidation value $111,765; 5,500,000 shares authorized; 4,470,600 and 4,444,000 shares outstanding as of March 31, 2007 and December 31, 2006, respectively |
| 45 |
| 44 |
| ||
Common stock, $0.01 par value; 200,000,000 shares authorized; 76,083,865 shares issued and outstanding as of March 31, 2007 and December 31, 2006 |
| 761 |
| 761 |
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Additional paid-in capital |
| 1,172,261 |
| 1,170,872 |
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Accumulated other comprehensive income |
| 1,294 |
| 2,357 |
| ||
Net accumulated deficit: |
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Cumulative dividends declared |
| (792,743 | ) | (762,382 | ) | ||
Retained earnings |
| 476,190 |
| 597,858 |
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Net accumulated deficit |
| (316,553 | ) | (164,524 | ) | ||
Total stockholders’ equity |
| 857,828 |
| 1,009,530 |
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Total liabilities and stockholders’ equity |
| $ | 23,283,285 |
| $ | 23,598,955 |
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| June 30, |
| December 31, |
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| 2008 |
| 2007 |
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| (Unaudited) |
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ASSETS |
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Cash and cash equivalents |
| $ | 25,971 |
| $ | 24,387 |
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Trust assets |
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Investment securities available-for-sale |
| 8,644 |
| 15,248 |
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Securitized mortgage collateral (at fair value at June 30, 2008) |
| 11,055,382 |
| 16,532,633 |
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Derivative assets |
| 109 |
| 7,497 |
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Real estate owned (REO) at net realizeable value |
| 621,433 |
| 400,863 |
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Total trust assets |
| 11,685,568 |
| 16,956,241 |
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Assets of discontinued operations |
| 203,320 |
| 353,250 |
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Other assets |
| 48,684 |
| 57,194 |
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Total assets |
| $ | 11,963,543 |
| $ | 17,391,072 |
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LIABILITIES |
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Trust liabilities |
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Securitized mortgage borrowings (at fair value at June 30, 2008) |
| $ | 11,497,132 |
| $ | 17,780,060 |
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Derivative liabilities |
| 136,580 |
| 127,757 |
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Total trust liabilities |
| 11,633,712 |
| 17,907,817 |
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Trust preferred securities (at fair value at June 30, 2008) |
| 46,266 |
| 98,398 |
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Liabilities of discontinued operations |
| 253,334 |
| 405,341 |
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Other liabilities |
| 5,723 |
| 57,244 |
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Total liabilities |
| 11,939,035 |
| 18,468,800 |
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Commitments and contingencies |
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STOCKHOLDERS’ EQUITY |
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Series-A junior participating preferred stock, $0.01 par value; 2,500,000 shares authorized; none issued and outstanding |
| — |
| — |
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Series-B 9.375% cumulative redeemable preferred stock, $0.01 par value; liquidation value $50,000; 2,000,000 shares authorized, issued and outstanding |
| 20 |
| 20 |
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Series-C 9.125% cumulative redeemable preferred stock, $0.01 par value; liquidation value $111,765; 5,500,000 shares authorized; 4,470,600 shares issued and outstanding as of June 30, 2008 and December 31, 2007 |
| 45 |
| 45 |
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Common stock, $0.01 par value; 200,000,000 shares authorized; 76,096,392 shares issued and outstanding as of June 30, 2008 and December 31, 2007 |
| 761 |
| 761 |
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Additional paid-in capital |
| 1,175,125 |
| 1,173,562 |
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Accumulated other comprehensive income |
| — |
| 1,028 |
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Net accumulated deficit: |
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Cumulative dividends declared |
| (811,355 | ) | (803,912 | ) | ||
Retained deficit |
| (340,088 | ) | (1,449,232 | ) | ||
Net accumulated deficit |
| (1,151,443 | ) | (2,253,144 | ) | ||
Total stockholders’ equity (deficit) |
| 24,508 |
| (1,077,728 | ) | ||
Total liabilities and stockholders’ equity |
| $ | 11,963,543 |
| $ | 17,391,072 |
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See accompanying notes to consolidated financial statements.
1
IMPAC MORTGAGE HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
AND COMPREHENSIVE EARNINGS
(LOSS)
(in thousands, except per share data)(unaudited)
(Unaudited)
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| For the Three Months |
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|
| Ended March 31, |
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| 2007 |
| 2006 |
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INTEREST INCOME: |
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Mortgage assets |
| $ | 340,771 |
| $ | 333,376 |
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Other |
| 2,050 |
| 1,828 |
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Total interest income |
| 342,821 |
| 335,204 |
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INTEREST EXPENSE: |
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Securitized mortgage borrowings |
| 293,377 |
| 295,475 |
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Reverse repurchase agreements |
| 33,736 |
| 25,873 |
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Other borrowings |
| 2,253 |
| 2,382 |
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Total interest expense |
| 329,366 |
| 323,730 |
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Net interest income |
| 13,455 |
| 11,474 |
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Provision for loan losses |
| 29,374 |
| 150 |
| ||
Net interest (expense) income after provision for loan losses |
| (15,919 | ) | 11,324 |
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NON-INTEREST INCOME: |
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Realized gain from derivative instruments |
| 37,459 |
| 40,136 |
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Change in fair value of derivative instruments |
| (58,761 | ) | 51,429 |
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Gain (loss) on sale of loans |
| (9,131 | ) | 14,193 |
| ||
Provision for repurchases |
| (11,828 | ) | (10,336 | ) | ||
Gain (loss) on lower of cost or market writedown |
| (24,694 | ) | 3,496 |
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Amortization and impairment of mortgage servicing rights |
| (209 | ) | (351 | ) | ||
Gain on sale of other real estate owned |
| 844 |
| 354 |
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Provision for REO losses |
| (9,890 | ) | — |
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Other income |
| 5,648 |
| 8,821 |
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Total non-interest income |
| (70,562 | ) | 107,742 |
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NON-INTEREST EXPENSE: |
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Personnel expense |
| 18,388 |
| 18,621 |
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General and administrative and other expense |
| 5,124 |
| 5,073 |
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Professional services |
| 2,693 |
| 2,317 |
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Equipment expense |
| 1,558 |
| 1,510 |
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Occupancy expense |
| 3,820 |
| 1,368 |
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Data processing expense |
| 1,738 |
| 1,366 |
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Total non-interest expense |
| 33,321 |
| 30,255 |
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Net (loss) earnings before income taxes |
| (119,802 | ) | 88,811 |
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Income tax expense |
| 1,866 |
| 3,245 |
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Net (loss) earnings |
| (121,668 | ) | 85,566 |
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Cash dividends on cumulative redeemable preferred stock |
| (3,722 | ) | (3,672 | ) | ||
Net (loss) earnings available to common stockholders |
| $ | (125,390 | ) | $ | 81,894 |
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| For the Three Months |
| For the Six Months |
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|
| Ended June 30, |
| Ended June 30, |
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| 2008 |
| 2007 |
| 2008 |
| 2007 |
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INTEREST INCOME: |
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Total interest income |
| $ | 407,855 |
| $ | 316,443 |
| $ | 679,811 |
| $ | 621,191 |
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INTEREST EXPENSE: |
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Total interest expense |
| 403,599 |
| 308,569 |
| 668,206 |
| 605,374 |
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Net interest income |
| 4,256 |
| 7,874 |
| 11,605 |
| 15,817 |
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Provision for loan losses |
| — |
| 161,163 |
| — |
| 190,295 |
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Net interest income (expense) after provision for loan losses |
| 4,256 |
| (153,289 | ) | 11,605 |
| (174,478 | ) | ||||
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NON-INTEREST INCOME: |
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Change in fair value of derivative instruments |
| — |
| 91,670 |
| — |
| 73,672 |
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Change in fair value of net trust assets, excluding REO |
| (11,161 | ) | — |
| (7,633 | ) | — |
| ||||
Change in fair value of trust preferred securities |
| (997 | ) | — |
| (5,020 | ) | — |
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Losses from real estate owned |
| (4,830 | ) | (19,328 | ) | (9,086 | ) | (29,220 | ) | ||||
Real estate advisory fees |
| 4,696 |
| — |
| 8,540 |
| — |
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Other |
| 1,544 |
| (1,538 | ) | 3,442 |
| 3,749 |
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Total non-interest (expense) income |
| (10,748 | ) | 70,804 |
| (9,757 | ) | 48,201 |
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NON-INTEREST EXPENSE: |
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General and administrative |
| 4,925 |
| 4,451 |
| 8,912 |
| 9,960 |
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Personnel expense |
| 2,820 |
| 1,620 |
| 5,150 |
| 2,464 |
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Total non-interest expense |
| 7,745 |
| 6,071 |
| 14,062 |
| 12,424 |
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Net loss from continuing operations |
| (14,237 | ) | (88,556 | ) | (12,214 | ) | (138,701 | ) | ||||
Income tax expense from continuing operations |
| 2,202 |
| 4,969 |
| 8,728 |
| 8,956 |
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Net loss from continuing operations |
| (16,439 | ) | (93,525 | ) | (20,942 | ) | (147,657 | ) | ||||
Net loss from discontinued operations, net of tax |
| (11,048 | ) | (59,022 | ) | (10,360 | ) | (126,558 | ) | ||||
Net loss |
| (27,487 | ) | (152,547 | ) | (31,302 | ) | (274,215 | ) | ||||
Cash dividends on cumulative redeemable preferred stock |
| (3,722 | ) | (3,722 | ) | (7,443 | ) | (7,443 | ) | ||||
Net loss available to common stockholders |
| $ | (31,209 | ) | $ | (156,269 | ) | $ | (38,745 | ) | $ | (281,658 | ) |
See accompanying notes to consolidated financial statements.
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| For the Three Months |
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|
| Ended March 31, |
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| 2007 |
| 2006 |
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Net (loss) earnings |
| $ | (121,668 | ) | $ | 85,566 |
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Net unrealized gains (losses) on securities: |
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Unrealized holding gains (losses) arising during year |
| (1,063 | ) | 264 |
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Reclassification of losses included in net earnings |
| — |
| (853 | ) | ||
Net unrealized losses |
| (1,063 | ) | (589 | ) | ||
Comprehensive (loss) earnings |
| $ | (122,731 | ) | $ | 84,977 |
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Net (loss) earnings per share: |
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Basic |
| $ | (1.65 | ) | $ | 1.08 |
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Diluted |
| $ | (1.65 | ) | $ | 1.07 |
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Dividends declared per common share |
| $ | 0.10 |
| $ | 0.25 |
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2
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| For the Three Months |
| For the Six Months |
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|
| Ended June 30, |
| Ended June 30, |
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|
| 2008 |
| 2007 |
| 2008 |
| 2007 |
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Net loss |
| $ | (27,487 | ) | $ | (152,547 | ) | $ | (31,302 | ) | $ | (274,215 | ) |
Net unrealized losses on securities: |
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Unrealized holding losses arising during year |
| — |
| (1,656 | ) | — |
| (2,718 | ) | ||||
Reclassification of losses included in net earnings |
| — |
| 1,596 |
| — |
| 1,596 |
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Net unrealized losses |
| — |
| (60 | ) | — |
| (1,122 | ) | ||||
Comprehensive loss |
| $ | (27,487 | ) | $ | (152,607 | ) | $ | (31,302 | ) | $ | (275,337 | ) |
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Net loss per common share - Basic: |
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Loss from continuing operations |
| $ | (0.26 | ) | $ | (1.28 | ) | $ | (0.37 | ) | $ | (2.04 | ) |
Loss from discontinued operations |
| (0.15 | ) | (0.78 | ) | (0.14 | ) | (1.66 | ) | ||||
Net loss per share |
| $ | (0.41 | ) | $ | (2.05 | ) | $ | (0.51 | ) | $ | (3.70 | ) |
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Net loss per common share - Diluted: |
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Loss from continuing operations |
| $ | (0.26 | ) | $ | (1.28 | ) | $ | (0.37 | ) | $ | (2.04 | ) |
Loss from discontinued operations |
| (0.15 | ) | (0.78 | ) | (0.14 | ) | (1.66 | ) | ||||
Net loss per share |
| $ | (0.41 | ) | $ | (2.05 | ) | $ | (0.51 | ) | $ | (3.70 | ) |
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Dividends declared per common share |
| $ | — |
| $ | — |
| $ | — |
| $ | 0.10 |
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See accompanying notes to consolidated financial statements.
3
IMPAC MORTGAGE HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
(unaudited)(Unaudited)
|
| For the Three Months |
| ||||
|
| Ended March 31, |
| ||||
|
| 2007 |
| 2006 |
| ||
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| restated |
| ||
CASH FLOWS FROM OPERATING ACTIVITIES: |
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Net (loss) earnings |
| $ | (121,668 | ) | $ | 85,566 |
|
Adjustments to reconcile net earnings to net cash used in operating activities: |
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| ||
Provision for loan losses |
| 29,374 |
| 150 |
| ||
Amortization of deferred charge, net |
| 4,101 |
| 5,096 |
| ||
Amortization of premiums, securitization costs and debt issuance costs |
| 42,499 |
| 62,742 |
| ||
Gain on sale of other real estate owned |
| (844 | ) | (354 | ) | ||
(Gain) loss on sale of loans |
| 9,131 |
| (14,193 | ) | ||
Provision for repurchases |
| 11,828 |
| 10,336 |
| ||
Loss (gain) on lower of cost or market writedown |
| 24,694 |
| (3,496 | ) | ||
Change in fair value of derivative instruments |
| 58,761 |
| (51,429 | ) | ||
Purchase of mortgages held-for-sale |
| (2,503,337 | ) | (2,335,169 | ) | ||
Sale and principal reductions on mortgages held-for-sale |
| 731,955 |
| 2,910,149 |
| ||
Net change in deferred taxes |
| 20,060 |
| 84 |
| ||
Stock-based compensation |
| 869 |
| 666 |
| ||
Depreciation and amortization |
| 1,451 |
| 1,309 |
| ||
Amortization and impairment of mortgage servicing rights |
| 209 |
| 351 |
| ||
Net change in accrued interest (receivable) payable |
| (1,920 | ) | 12,046 |
| ||
Net change in restricted cash |
| 178 |
| (245 | ) | ||
Net change in other assets and liabilities |
| (25,983 | ) | 4,907 |
| ||
Net cash used in operating activities |
| (1,718,642 | ) | (688,516 | ) | ||
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CASH FLOWS FROM INVESTING ACTIVITIES: |
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|
| ||
Net change in securitized mortgage collateral |
| 1,853,081 |
| 2,260,335 |
| ||
Finance receivable advances to customers |
| (1,107,857 | ) | (991,768 | ) | ||
Repayments of finance receivables |
| 1,151,484 |
| 1,050,035 |
| ||
Purchase of premises and equipment |
| (1,107 | ) | (980 | ) | ||
Minority interest |
| 1,000 |
| — |
| ||
Net change in mortgages held-for-investment |
| 346 |
| 26,330 |
| ||
Sale of investment securities available-for-sale |
| — |
| 5,022 |
| ||
Distribution of deferred compensation plan benefits |
| — |
| 8,041 |
| ||
Net principal reductions on investment securities available-for-sale |
| 593 |
| (638 | ) | ||
Proceeds from the sale of other real estate owned |
| 29,952 |
| 14,175 |
| ||
Net cash provided by used in investing activities |
| 1,927,492 |
| 2,370,552 |
| ||
|
|
|
|
|
| ||
CASH FLOWS FROM FINANCING ACTIVITIES: |
|
|
|
|
| ||
Cash disbursements under reverse repurchase agreements |
| (4,016,885 | ) | (5,278,171 | ) | ||
Cash receipts from reverse repurchase agreements |
| 3,369,824 |
| 3,840,624 |
| ||
Proceeds from securitized mortgage borrowings |
| 2,384,131 |
| 919,932 |
| ||
Repayment of securitized mortgage borrowings |
| (1,918,567 | ) | (2,434,672 | ) | ||
Common stock dividends paid |
| (22,714 | ) | (15,225 | ) | ||
Preferred stock dividends paid |
| (3,722 | ) | (3,672 | ) | ||
Proceeds from sale of cumulative redeemable preferred stock |
| 608 |
| 272 |
| ||
Net cash used in financing activities |
| (207,325 | ) | (2,970,912 | ) | ||
|
|
|
|
|
| ||
Net change in cash and cash equivalents |
| 1,525 |
| 88,156 |
| ||
Cash and cash equivalents at beginning of period |
| 179,677 |
| 146,621 |
| ||
Cash and cash equivalents at end of period |
| $ | 181,202 |
| $ | 234,777 |
|
|
| For the Six Months |
| ||||
|
| Ended June 30, |
| ||||
|
| 2008 |
| 2007 |
| ||
CASH FLOWS FROM OPERATING ACTIVITIES: |
|
|
|
|
| ||
Net loss from continuing operations |
| $ | (20,942 | ) | $ | (147,657 | ) |
|
|
|
|
|
| ||
Provision for loan losses |
| — |
| 190,295 |
| ||
Provision for REO losses |
| 14,323 |
| 28,074 |
| ||
Loss (gain) on sale of REO |
| (5,237 | ) | 1,145 |
| ||
Amortization of deferred charge, net |
| 8,728 |
| 9,069 |
| ||
Amortization of debt issuance costs and mortgage servicing rights |
| 948 |
| 807 |
| ||
Amortization of premiums and securitization costs |
| — |
| 84,863 |
| ||
Change in fair value of derivative instruments |
| 12,144 |
| 1,354 |
| ||
Change in fair value of net trust assets, excluding REO and derivatives |
| (75,878 | ) | — |
| ||
Change in fair value of trust preferred securities |
| 5,020 |
| — |
| ||
Accretion of interest income and expense |
| (25,191 | ) | — |
| ||
Stock-based compensation |
| 653 |
| 812 |
| ||
Net change in accrued interest receivable |
| — |
| (547 | ) | ||
Net cash provided by (used in) operating activities of discontinued operations |
| 91,219 |
| (3,157,915 | ) | ||
Net change in other assets and liabilities |
| (41,444 | ) | (8,968 | ) | ||
Net cash used in operating activities |
| (35,657 | ) | (2,998,668 | ) | ||
|
|
|
|
|
| ||
CASH FLOWS FROM INVESTING ACTIVITIES: |
|
|
|
|
| ||
Securitized mortgage collateral |
| 1,342,015 |
| 3,468,817 |
| ||
Mortgages held-for-investment |
| 22 |
| (3,229 | ) | ||
Purchase of premises and equipment |
| 386 |
| (873 | ) | ||
Principal change on investment securities available-for-sale |
| 1,196 |
| 6,404 |
| ||
Proceeds from the sale of real estate owned |
| 197,796 |
| 76,532 |
| ||
Net cash provided by (used in) investing activities of discontinued operations |
| 11,805 |
| 191,664 |
| ||
Net cash provided by investing activities |
| 1,553,220 |
| 3,739,315 |
| ||
|
|
|
|
|
| ||
CASH FLOWS FROM FINANCING ACTIVITIES: |
|
|
|
|
| ||
Cash disbursements under reverse repurchase agreements |
| — |
| (90,642 | ) | ||
Cash receipts from reverse repurchase agreements |
| — |
| 92,392 |
| ||
Proceeds from securitized mortgage borrowings |
| — |
| 3,858,143 |
| ||
Repayment of securitized mortgage borrowings |
| (1,393,987 | ) | (4,323,044 | ) | ||
Common stock dividends paid |
| — |
| (30,326 | ) | ||
Preferred stock dividends paid |
| (7,443 | ) | (7,443 | ) | ||
Proceeds from sale of cumulative redeemable preferred stock |
| — |
| 608 |
| ||
Net cash (used in) povided by investing activities of discontinued operations |
| (116,465 | ) | (306,831 | ) | ||
Net cash used in financing activities |
| (1,517,895 | ) | (807,143 | ) | ||
|
|
|
|
|
| ||
Net change in cash and cash equivalents |
| (332 | ) | (66,496 | ) | ||
Cash and cash equivalents at beginning of period |
| 26,462 |
| 179,677 |
| ||
Cash and cash equivalents at end of period - Continuing Operations |
| 25,971 |
| 107,083 |
| ||
Cash and cash equivalents at end of period - Discontinued Operations |
| 159 |
| 6,098 |
| ||
Cash and cash equivalents at end of period |
| $ | 26,130 |
| $ | 113,181 |
|
See accompanying notes to consolidated financial statements.
|
| For the Three Months |
| ||||
|
| Ended March 31, |
| ||||
|
| 2007 |
| 2006 |
| ||
|
|
|
| restated |
| ||
SUPPLEMENTARY INFORMATION: |
|
|
|
|
| ||
Interest paid |
| $ | 387,072 |
| $ | 202,787 |
|
Taxes paid |
| 81 |
| 32 |
| ||
|
|
|
|
|
| ||
NON-CASH TRANSACTIONS: |
|
|
|
|
| ||
Accumulated other comprehensive loss |
| $ | (1,063 | ) | $ | (589 | ) |
Dividends declared but unpaid |
| 7,608 |
| 19,028 |
| ||
Transfer of mortgages to other real estate owned |
| 11,761 |
| 1,456 |
| ||
Transfer of securitized mortgage collateral to other real estate owned |
| 111,316 |
| 27,921 |
| ||
Transfer of loans held-for-sale to securitized mortgage collateral | �� | 2,430,042 |
| 694,336 |
| ||
Transfer of loans held-for-investment to securitized mortgage collateral |
| — |
| 225,764 |
| ||
Transfer of securitized mortgage collateral to loans held-for-investment |
| — |
| 114,358 |
|
4
|
| For the Six Months |
| ||||
|
| Ended June 30, |
| ||||
|
| 2008 |
| 2007 |
| ||
SUPPLEMENTARY INFORMATION (Continuing and Discontinued Operations): |
|
|
|
|
| ||
Interest paid |
| $ | 315,545 |
| $ | 651,736 |
|
Taxes paid |
| — |
| 116 |
| ||
|
|
|
|
|
| ||
NON-CASH TRANSACTIONS (Continuing and Discontinued Operations): |
|
|
|
|
| ||
Accumulated other comprehensive loss |
| $ | — |
| $ | (1,122 | ) |
Transfer of loans held-for-sale and held-for-investment to real estate owned |
| — |
| 20,872 |
| ||
Transfer of securitized mortgage collateral to real estate owned |
| 435,038 |
| 255,051 |
| ||
Transfer of loans held-for-sale to securitized mortgage collateral |
| — |
| 3,245,500 |
| ||
Transfer of securitized mortgage collateral to loans held-for-sale |
| — |
| 27,040 |
|
See accompanying notes to consolidated financial statements.
5
IMPAC MORTGAGE HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(dollars in thousands, except per share data or as otherwise indicated)
Note A—Summary of Business and Significant Accounting Policies
1. Business Summary and Financial Statement Presentation
Business Summary
Impac Mortgage Holdings, Inc. (the Company or IMH), is a Maryland corporation incorporated in August 1995 and has the following subsidiaries,subsidiaries: IMH Assets Corp. (IMH Assets), Impac Warehouse Lending Group, Inc. (IWLG), and Impac Funding Corporation (IFC), together with its wholly-owned subsidiaries Impac Secured Assets Corp. (ISAC), and Impac Commercial Capital Corporation (ICCC).
We are a
During late 2007, the Company’s board of directors elected to discontinue the non-conforming mortgage real estate investment trust, or “REIT,” that is a nationwide acquirer, originator, selleroperations conducted by IFC, commercial operations conducted by ICCC, retail mortgage operations conducted by IHL, and investorwarehouse lending operations conducted by IWLG.
The Company consists of non-conforming Alt-A residential mortgages, or “Alt-A mortgages,” and to a lesser extent, small-balance, commercial and multi-family mortgages, or “commercial mortgages.” We also provide warehouse financing to originators of mortgages.
We operate four core businesses:
·the Long-Term Investmentcontinuing operations which includes the long-term mortgage portfolio (residual interests in securitizations) conducted by IMH and IMH Assets;
· the Mortgage OperationsAssets, master servicing portfolio conducted by IFC and ISAC;real estate advisory fees from IMH’s advisory services agreement with a real estate marketing company.
· the Commercial Operations conducted by ICCC; and
· the Warehouse Lending Operations conducted by IWLG.
The long-term investment operations and the warehouse lending operations are conducted by IMH and IWLG at the REIT. The mortgage operations and commercial operations, which are a taxable REIT subsidiary (TRS), are conducted by IFC and ICCC, respectively.
The long-term investment operations generate earnings primarily from net interest income earned on mortgages held as securitized mortgage collateral and mortgages held-for-investment collectively (long-term mortgage portfolio) and associated hedging derivative cash flows. The long-term mortgage portfolio as reported on the Company’s consolidated balance sheet consists of mortgages held as securitized mortgage collateral and mortgages held-for-investment. Investments in Alt-A mortgages and commercial mortgages are initially financed with short-term borrowings supported by reverse repurchase agreements that are subsequently converted to long-term financing in the form of securitized mortgage borrowings. Cash flows from the long-term mortgage portfolio, proceeds from the sale of capital stock and the issuance of trust preferred securities also finance the acquisitions of new Alt-A and commercial mortgages.
The mortgage operations acquire, originate, sell and securitize primarily Alt-A adjustable rate mortgages (ARMs) and fixed rate mortgages (FRMs) from correspondents, mortgage brokers and retail customers. Correspondents originate and close mortgages under our mortgage programs and then sell the closed mortgages to the mortgage operationsinformation contained throughout this document is presented on a flow (loan-by-loan basis) or through bulk sale commitments. Correspondents include savings and loan associations, commercial banks and mortgage bankers. The mortgage operations generate income by securitizing and selling mortgages to permanent investors, including the long-term investment operations. These operations also earn revenue from fees associated with master servicing rights and interest income earned on mortgages held-for-sale. The mortgage operations use warehouse facilities provided by the warehouse lending operations to finance the acquisition and origination of mortgages.continuing basis, unless otherwise stated.
The commercial operations originate commercial mortgages, that are primarily adjustable rate mortgages with initial fixed interest rate periods of two-, three-, five-, seven- and ten-years that subsequently convert to adjustable rate mortgages, or “hybrid ARMs,” with balances that generally range from $500,000 to $5.0 million or by additional underwriting exception up to $10 million. Commercial mortgages have an interest rate floor, which is the initial start rate and in some circumstances have lock out periods, and prepayment penalty periods of three-, five-, seven- and ten-years. These mortgages provide greater asset diversification on our balance sheet as commercial mortgage borrowers typically have higher credit scores, typically have lower loan-to-value ratios, or “LTV ratios,” and the mortgages have longer average lives than residential mortgages.
The warehouse lending operations provide short-term financing to mortgage loan originators, including the mortgage and commercial operations, by funding mortgages from their closing date until sale to pre-approved investors. This business earns fees from warehouse transactions as well as net interest income from the difference between its cost of borrowings and the interest earned on warehouse advances, both of which are tied to the one-month London Inter-Bank Offered Rate (LIBOR) rate.
Financial Statement Presentation
The accompanying unaudited consolidated financial statements of IMH and ourits subsidiaries (as defined above) have been prepared in accordance with GAAPAccounting Principles Generally Accepted in the United States of America (GAAP) for interim financial information and with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by GAAP for complete financial statements. In the opinion of management, all adjustments, consisting of normal recurring adjustments considered necessary for a fair presentation, have been included. Operating results for the three-month periodand six month periods ended March 31, 2007June 30, 2008 are not necessarily indicative of the results that may be expected for the year ending December 31, 2007.2008.
All significant inter-company balances and transactions have been eliminated in consolidation. In addition, certain amounts in the prior periods’ consolidated financial statements have been reclassified to conform to the current year presentation. The ownership interest in consolidated subsidiaries from non-controlling shareholders is reflected as minority interest.
Management has made a number of estimates and assumptions relating to the reporting of assets and liabilities, the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period to prepare these consolidated financial statements in conformity with GAAP. The items affected by management’s estimates and assumptions include allowance for loan losses,the valuation of derivative financial instruments,trust assets and liabilities (including investment securities available-for-sale), the valuation of repurchase liabilities related to sold loans, the valuation of trust preferred securities, and the amortizationvaluation of various loan premiums and discounts due to prepayment estimates.loans held-for-sale. Actual results could differ from those estimates.
Premiums, discounts
Market Conditions, Status of Operations, Liquidity and securitization costs associated withCapital Resources
In 2007 and 2008, management has been seriously challenged by the securitizedunprecedented turmoil in the mortgage collateralmarket, including the following: significant increases in delinquencies and securitized mortgage borrowing are amortized or accreted into interest income/expense overforeclosures; significant increases in credit-related losses; decline in originations; tightening of warehouse credit and the projected livesvirtual elimination of the securitized mortgage collateral and securitized mortgage borrowings using the interest method. Our policy for estimating prepayment speeds for calculating the effective yield is to evaluate historical performance, market prepayment speeds, and current conditions. If our estimate of prepayments is incorrect, we may be required to make an adjustment to the amortization or accretion of premiums and discounts that would have an impact on future income.
2. Restated Consolidated Cash Flows for 2006 Interim Periods, and Reclassifications
Certain interim amounts in the 2006 Consolidated Statement of Cash Flows have been restated to properly reflect specific intercompany activities related to cash receipts from loan sales and cash disbursements for loan purchases between consolidated companies. Such intercompany loan salesecuritizations. As a result, the Company discontinued certain operations, resolved and purchase transaction activities had the effect of presenting separate cash inflows and outflows even though there was no cash inflow or outflow on a consolidated basis. This restatement serves to eliminate this intercompany activity from its Consolidated Statements of Cash Flows and present them as non-cash transactions.
The correctionterminated all but one of the error increases cash used inCompany’s reverse repurchase facilities and settled a portion of its outstanding repurchase claims, while also reducing its operating activitiescosts and increases cash provided by investing activities. The restatement of these transactions does not change total cash and cash equivalents as previously reported. Furthermore, the restatement has no effect on the Company’s Consolidated Statements of Operations and Comprehensive Earnings, Consolidated Balance Sheets or Consolidated Statements of Changes in Stockholders’ Equity.
The Company has reclassified the presentation of the Consolidated Statement of Operations and Comprehensive Income to reflect “Amortization and impairment of mortgage servicing rights,” “Write-down on investment securities available-for-sale,” and “Loss(gain) on disposition of real estate” as other non-interest income rather than non-interest expense, forliabilities. In the first quarter of 20062008, the Company also entered into an agreement with a real estate marketing company to conformgenerate advisory fees.
6
As describes in Note L, in September 2008, the Company executed definitive agreements, which require scheduled principal paydowns and remove any and all technical defaults that existed under the previous reverse repurchase facility.
In order to reduce dividend payments on its preferred stock, the Company is considering exchanging the preferred stock for common stock. In July 2008, the Company’s stockholders approved the potential issuance of common shares in excess of 20 percent of the existing common shares.
The Company earns advisory fees from a real estate marketing company specializing in the marketing and disposition of foreclosed properties. During the three and six months ended June 30, 2008, the Company earned $4.7 million and $8.5 million, respectively, from this relationship. The amount of real estate advisory fees the Company receives from this relationship are based on numerous factors, including real estate market conditions, the level of foreclosure activity, the ability of the marketing company to attract new business, and the Company retaining its CEO and avoiding liquidation. The agreement terminates in 2010 with the Company having an option to extend the agreement for an additional three years.
In July 2008, the Company executed a letter of intent, subject to execution of definitive agreements, to acquire a special servicing platform, whereby the seller will contribute specified balances of loans (mostly distressed) to the current period presentation.platform in order to provide sufficient cash flows to maintain the business during its initial operations.
There can be no assurance that the Company will be successful in executing the agreements outlined above. Also, there can be no assurance that the restructuring of the trust preferred securities or the preferred stock will occur. In addition,this event, the “Amortization of deferred charge” for 2006 was reclassified as income tax expense (benefit) rather than non-interest expense.
Please referCompany intends to reduce operating expenses to a level that is supportable by the Company’s Form 10-Krevenues from the existing long-term mortgage portfolio (residual interests in securitizations), master servicing portfolio and real estate advisory fees. Nevertheless, if the Company is not successful in completing the objectives outlined above, it may not be able to meet its contractual obligations for the next year, ended December 31, 2006, for more information regarding these reclassifications.including repayment of the reverse repurchase line, interest payments on trust preferred securities and preferred stock dividends.
3.2. Adoption of New Accounting Standards Stock Options
In December 2004,
Adoption of SFAS 157—Fair Value Measurements
The Company prospectively adopted the provisions of Financial Accounting Standards Board (“FASB”) issued(FASB) Statement No. 157 “Fair Value Measurements” (SFAS 157), as of Financial Accounting Standards (“SFAS”) No. 123 (revised 2004), “Share-Based Payment,” (“January 1, 2008. SFAS 123R”). 157 defines fair value, expands disclosure requirements around fair value and specifies a hierarchy of valuation techniques based on whether the inputs to those valuation techniques are observable or unobservable. Observable inputs reflect market data obtained from independent sources, while unobservable inputs reflect the Company’s market assumptions. These two types of inputs create the following fair value hierarchy:
· Level 1 — Quoted prices for identical instruments in active markets.
· Level 2 — Quoted prices for similar instruments in active markets; quoted prices for identical or similar instruments in markets that are not active; and model-derived valuations in which all significant inputs and significant value drivers are observable in active markets.
· Level 3 — Valuations derived from valuation techniques in which one or more significant inputs or significant value drivers are unobservable.
This Statementhierarchy requires companiesthe Company to use observable market data, when available, and to minimize the use of unobservable inputs when determining fair value.
For some products or in certain market conditions, observable inputs may not always be available. Through the second quarter of 2008, certain markets remained illiquid, and some key observable inputs used in valuing certain exposures were unavailable. When and if these markets are liquid, the Company will use the related observable inputs available at that time from these markets.
7
expenseTable of Contents
Under fair value accounting, the estimatedCompany is required to take into account its own credit risk when measuring the fair value of stock optionsassets and similar equity instruments issued to employees over the requisite service period. SFAS 123R eliminates the alternative to use the intrinsic method of accounting provided for in Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to Employees (“APB 25”), which generally resulted in no compensation expense recorded in the financial statements related to the grant of stock options to employees if certain conditions were met.liabilities.
Effective for the first quarter of fiscal 2006, we adopted SFAS 123R using the modified prospective method, which required us to record compensation expense for all awards granted after the date of adoption, and for the unvested portion of previously granted awards that remained outstanding at the date of adoption.
We continue using both the Black-Scholes-Merton option-pricing formula and straight-line amortization of compensation expense over the requisite service period of the grant. We will reconsider use of the Black-Scholes-Merton model if additional information becomes available in the future that indicates another model would be more appropriate for the Company, or if grants issued in future periods have characteristics that cannot be reasonably estimated using this model.
The following table presents a summary of option activity during the first quarter under the Company’s stock option plans:
| |||
| |||
|
| ||
|
| ||
|
| ||
|
|
| |
|
|
4.Adoption of SFAS 159 - Fair Value Option Recent Accounting Pronouncements
In February 2007, the FASB issued SFAS
The adoption of Statement No. 159 The“The Fair Value Option for Financial Assets and Financial Liabilities (“SFAS 159”)Liabilities” (SFAS 159) has also resulted in new valuation techniques used by the Company when determining fair value, most notably to value its securitized mortgage collateral and borrowings and trust preferred securities, which provides reporting entities an option to report selected financial assets, including investment securities designated as available for sale, and liabilities, including most insurance contracts,had not previously been carried at fair value. The Company prospectively adopted SFAS No. 159 establishes presentationas of January 1, 2008. SFAS 159 provides an option on an instrument-by-instrument basis for most financial assets and disclosure requirements designedliabilities to facilitate comparisonsbe reported at fair value with changes in fair value reported in earnings. After the initial adoption, the election is made at the acquisition of a financial asset, financial liability, or a firm commitment and it may not be revoked. Management believes that the adoption of SFAS 159 provides an opportunity to mitigate volatility in reported earnings and provides a better representation of the economics of the trust assets and liabilities.
Under the SFAS 159 transition provisions, the Company elected to apply fair value accounting to certain financial instruments (certain trust assets, trust liabilities and trust preferred securities) held at January 1, 2008. Differences between companiesthe December 31, 2007 carrying values and the January 1, 2008 fair values were recognized as an adjustment to retained deficit. The adoption of SFAS 159 resulted in a $1.1 billion decrease to retained deficit on January 1, 2008 from $(1.4) billion at December 31, 2007 to $(308.8) million at January 1, 2008.
As a result of deterioration in the real estate market since the second half of 2007, the Company significantly added to its allowance for loan losses during the third and fourth quarters of 2007. Principally, because of the increase in the allowance for loan losses, the Company reported a stockholders’ deficit as of December 31, 2007. This stockholders’ deficit was created primarily because the Company was required under GAAP to record an allowance for loan losses that choose different measurement attributesreduced securitized mortgage collateral in its consolidated trusts below the balance of the related securitized mortgage borrowings, resulting in a negative investment in certain consolidated trusts, even though the related trust agreements are nonrecourse to the Company. However, with the adoption of SFAS 159, the Company’s net investment position is unable to go below zero since the related trust liabilities are also recorded at fair value. Therefore the difference between the fair value of the trust assets and trust liabilities represents the net investment interests (residual interests in securitizations) in the trust at fair value.
The following table summarizes the initial retained earnings charge related to the prospective adoption SFAS 159 as of January 1, 2008 and the related fair value balances as of January 1, 2008.
|
| Ending Balance as of |
|
|
| Fair Value Balance |
| |||
|
| December 31,2007 |
| Adoption Net |
| as of January 1, 2008 |
| |||
|
| (Prior to Adoption) |
| Gain/(Loss) |
| (After Adoption) (5) |
| |||
Impact of electingthe fair value option under SFAS 159: |
|
|
|
|
|
|
| |||
Investment securities available-for-sale |
| $ | 15,248 |
| $ | 1,028 | (1) | $ | 15,248 |
|
Securitized mortgage collateral (2) |
| 16,532,633 |
| (821,311 | ) | 15,711,322 |
| |||
Securitized mortgage borrowings (3) |
| (17,780,060 | ) | 1,903,283 |
| (15,876,777 | ) | |||
Trust preferred securities |
| (98,398 | ) | 57,446 |
| (40,952 | ) | |||
Cumulative-effect adjustment (pre-tax) |
|
|
| 1,140,446 |
|
|
| |||
Tax impact (4) |
|
|
| — |
|
|
| |||
Cumulative-effect adjustment to reduce retained deficit |
|
|
| $ | 1,140,446 |
|
|
| ||
|
|
|
|
|
|
|
| |||
Total retained deficit as of December 31, 2007 |
|
|
| (1,449,232 | ) |
|
| |||
Cumulative-effect adjustment to reduce retained deficit |
|
|
| $ | 1,140,446 |
|
|
| ||
Total retained deficit as of January 1, 2008 (6) |
|
|
| $ | (308,786 | ) |
|
| ||
(1) | Investment securities available-for-sale are recorded at fair value at December 31, 2007, with a corresponding $1,028 thousand unrealized gain included in accumulated other comprehensive income. Included in the cumulative-effect adjustment was $1,028 thousand in unrealized holding gains that were reclassified from accumulated other comprehensive income to retained deficit. Due to the effect of reclassifying the $1,028 thousand from accumulated other comprehensive income to retained deficit, the investment securities available-for-sale balances do not add across. |
8
(2) | Components of securitized mortgage collateral at December 31, 2007 include the allowance for loan loss of $1.2 billion, accrued interest of $99.7 million and premiums of $183.1 million, which were part of its fair value for the adoption of SFAS 159. At June 30, 2008 and December 31, 2007, securitized mortgage collateral included $10.1 million and $9.1 million, respectively in master servicing rights, recorded at the lower of cost or market, related to consolidated securitizations and recorded at the lower of cost or market. | |
(3) | Components of securitized mortgage borrowings at December 31, 2007 include accrued interest of $17.1 million and securitization costs of $37.5 million, which were part of its fair value for the adoption of SFAS 159. | |
(4) | There was no tax effect of the adoption of SFAS 159 as the Company qualifies as a REIT for federal income tax purposes and its tax liabilities are only related to it deferred charges associated with previous inter-company loan sales. | |
(5) | The securitized mortgage collateral and securitized mortgage borrowings include the mortgage insurance and bond insurance proceeds to be received from third parties. | |
(6) | As of January 1, 2008, after adoption of SFAS 159, total stockholder’s equity was $61.7 million |
Changes in Significant Accounting Policies
Investment Securities Available-for-Sale
The Company elected to continue to account for similar typesall of its existing investment securities available-for-sale at fair value. Interest income is recorded based on the effective yield for the period based on the valuation of the previous quarter. Net gains and losses resulting from changes in fair value of investment securities available-for-sale are recorded within change in fair value of net trust assets in the Company’s consolidated statement of operations.
The Company’s election to account for its investment securities available-for-sale at fair value was based on the Company’s overall objective of moving toward fair value accounting for significant financial assets and liabilities. The standard also requires additional information to aid financial statement users’ understandingelection of SFAS 159 for these investment securities results in increased volatility within net earnings as a reporting entity’s choice to useresult of the recognition of fair value changes with no offsetting amounts that would result if these assets were economically hedged. However, management believes that electing fair value accounting for its investment securities results in a stronger reflection of the value, while furthering its objective of migrating toward fair value accounting.
Securitized Mortgage Collateral and Borrowings
The Company elected to account for certain of its securitized assets at fair value. Interest income on its earningssecuritized mortgage collateral and also requires entities to displayinterest expense on securitized mortgage borrowings, respectively, is recorded based on the faceeffective yield for the period based on the previous quarter’s valuation resulting in interest income and expense accretion. Net gains (losses) resulting from the changes in fair value of these items, are included in non-interest income in the balance sheetCompany’s consolidated statement of operations. Electing the fair value option allows the Company to avoid the burden of those assets and liabilitiesrecording losses on collateral for which the reporting entity has chosenCompany will not ultimately bare the loss. In addition, recording the collateral and borrowings at fair value will help to measurereflect the true economics of the transactions within the consolidated statement of operations. Upon the adoption of SFAS 159, all deferred costs associated with securitized mortgage collateral and borrowings have been recognized as a cumulative effect of a change in accounting principle within retained deficit as of January 1, 2008.
Trust Preferred Securities
The Company elected to account for all of its trust preferred securities at fair value. Interest expense on these items is recorded based on the effective yield for the period. Gains and losses resulting from the changes in fair value of these items are recorded within change in fair value of trust preferred securities in the Company’s consolidated statement of operations.
The Company’s election to account for its trust preferred securities at fair value was based on the Company’s overall objective of moving toward fair value accounting for significant financial assets and liabilities. The election of SFAS No. 159 is effectivefor these liabilities results in increased volatility within net earnings as a result of the beginningrecognition of fair value changes with no offsetting amounts that would result if these liabilities were economically hedged. However, management believes that electing fair value accounting for its trust preferred securities results in a reporting entity’s first fiscal year beginning after November 15, 2007. The Company is currently assessing the effect that SFAS 159 will have on the consolidated financial statements.
In September 2006, the SEC issued Staff Accounting Bulletin No. 108, Considering the Effects of Prior Year Misstatements when Qualifying Misstatements in Current Year Financial Statements (“SAB 108”), which provides interpretive guidance on the considerationstronger reflection of the effects of prior year misstatements in quantifying current year misstatements for the purpose of a materiality assessment. SAB 108 was issuedvalue, while furthering its objective to address diversity in practice in quantifying financial statement misstatements. SAB 108 is currently effective and did not have an effect on the consolidated financial statements.migrate toward fair value accounting.
3. Recent Accounting Pronouncements
In September 2006,March 2008, the FASB issued SFAS No. 157, Fair Value Measurement (“SFAS 157”), which defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles, and expands disclosures about fair value measurements. SFAS 157 is effective for fiscal years beginning after November 15, 2007 and interim periods within those fiscal years. The Company is currently assessing the effect that SFAS 157 will have on the consolidated financial statements.
In June 2006, the FASB issued Interpretation No. 48, Accounting for Uncertainty in Income Taxes, (“FIN 48”) which expands on the accounting guidance of FASB Statement No. 109, Accounting for Income Taxes. This interpretation prescribes a recognition threshold161, “Disclosures about Derivative Instruments and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. This interpretation also provides guidance on derecognition, classification, interest and penalties, accounting in interim periods, disclosure and transition. FIN 48 is effective for fiscal years beginning after December 15, 2006. The adoption of this interpretation by the Company has not had a significant effect on the consolidated financial statements.
In March 2006, the FASB issued SFAS No. 156, “Accounting for Servicing of Financial Assets-Hedging Activities” (SFAS 161), an amendment of FASB Statement No. 140” (“SFAS 156”). This statement requires an entity to recognize a servicing asset or servicing liability each time it undertakes an obligation to service a financial asset by entering into a servicing contract. This statement also requires separate presentation of servicing assets and servicing liabilities subsequently measured at fair value in the statement of financial position and additional disclosures for all separately recognized servicing assets and servicing liabilities. An entity should adopt this statement as of the beginning of its first fiscal year that begins after September 15, 2006. The Company has adopted this statement which has not had a material effect on the consolidated financial statements.
In February 2006, the FASB issued SFAS No. 155, “Accounting for Certain Hybrid Financial Instruments”, “an amendment of FASB Statements No. 133 and SFAS No. 140” (“SFAS 155”). This statement permits fair value re-measurement for any hybrid financial instrument that contains an embedded derivative that otherwise would require bifurcation. It also clarifies which interest-only strips and principal-only strips are not subject to FASB Statement No. 133, “Accounting for Derivative Instruments and Hedging Activities” (“(SFAS 133), to expand disclosure requirements for an entity’s derivative and hedging activities. Under SFAS 133”).161, entities are required to provide enhanced disclosures about how and why an entity uses derivative instruments, how derivative
9
instruments and related hedged items are accounted for under SFAS 155133 and its related interpretations, and how derivative instruments and related hedged items affect an entity’s financial position, financial performance, and cash flows. In order to meet these requirements, entities shall include qualitative disclosures about objectives and strategies for using derivatives, quantitative disclosures about fair value amounts of and gains and losses on derivative instruments, and disclosures about credit-risk-related contingent features in derivative agreements. SFAS 161 is effective for all financial instruments acquired or issuedfiscal years and interim periods beginning after the beginning of an entity’s first fiscal year that begins after SeptemberNovember 15, 2006.2008 with early adoption encouraged. The adoption ofCompany plans to adopt this statement has not had a material effectStatement on January 1, 2009, and there should be no impact on the consolidated financial statements.statements as this Statement only addresses disclosures.
In April 2008, the FASB voted to eliminate qualifying special purpose entities (QSPEs) from the guidance in FASB Statement No. 140 “Accounting for Transfers and Servicing of Financial Assets and Extinguishment of Liabilities” (SFAS 140). While the revised standard has not been finalized and the FASB’s proposals will be subject to a public comment period, this change may have a significant impact on the Company’s consolidated financial statements as it may lose sales treatment for assets previously sold to a QSPE, as well as for future sales. An effective date for any proposed revisions has not been determined by the FASB. As of June 30, 2008, the current principal balance of QSPEs to which the Company, acting as principal, has transferred assets and received sales treatment were $727.1 million. The Company’s investment in these QSPE’s consists of residual interests accounted for as investment securities available-for-sale in its consolidated balance sheets.
In connection with the proposed changes to SFAS 140, the FASB also is proposing three key changes to the consolidation model in FASB Interpretation No. 46(R), “Consolidation of Variable Interest Entities (revised December 2003)—an interpretation of ARB No. 51” (FIN 46(R)). First, the FASB will now include former QSPEs in the scope of FIN 46(R). In addition, the FASB supports amending FIN 46(R) to change the method of analyzing which party to a variable interest entity (VIE) should consolidate the VIE to a primarily qualitative determination of control instead of today’s risks and rewards model. Finally, the proposed amendment is expected to require all VIEs and their primary beneficiaries to be reevaluated quarterly. The previous rules required reconsideration only when specified reconsideration events occurred. As of June 30, 2008, the current principal balance of significant unconsolidated VIEs with which the Company is involved were approximately $727.1 million.
The Company will be evaluating the impact of these changes on the Company’s consolidated financial statements once the standard is approved and issued.
5.4. Legal Proceedings
The Company is party to litigation and claims which are normal in the course of ourits operations. While the results of such litigation and claims can notcannot be predicted with certainty, the Company believes the final outcome of such matters will not have a material adverse effect on ourthe Company’s financial condition or results of operations.
On November 9, 2007, and separately on August 25, 2008, two matters were filed against IFC in Orange County in the Superior Court of California, as case nos. 07CC11612 and 00110553, respectively, by Citimortgage, Inc., alleging claims for breach of contract and damages based upon representations and warranties made in conjunction with whole loan sales. These actions seek combined damages in excess of $4.2 million.
On June 28, 2008 a matter was filed against IFC in the Circuit Court of the Eighteenth Judicial District, Dupage County in Illinois, as case no. 2008L000721, by TR Mid America Plaza Corp., seeking damages for breach of contract (a lease agreement) in excess of $0.6 million plus such amount as determined through the date of judgment and payment of attorneys fees and costs.
The Company believes that it has meritorious defenses to the above claims and intends to defend these claims vigorously. Nevertheless, litigation is uncertain and the Company may not prevail in the lawsuits and can express no opinion as to their ultimate resolution. An adverse judgment in any of these matters could have a material adverse effect on the Company.
Please refer to IMH’s report on Form 10-K for the year ended December 31, 2007 for a description of other litigation and claims.
10
5.Income Taxes and Deferred Charge
In accordance with Accounting Research Bulletin No. 51, “Consolidated Financial Statements,” the Company records a deferred charge representing the deferral of income tax expense on inter-company profits that resulted from the sale of mortgages from taxable subsidiaries to IMH in prior years. The deferred charge is included in other assets in the accompanying consolidated balance sheets and is amortized as a component of income tax expense in the accompanying consolidated statements of operations over the estimated life of the mortgages retained in the securitized mortgage collateral. The Company recorded a tax provision of $2.2 million and $8.7 million for the three and six months ending June 30, 2008 and $5.0 million and $9.0 million for the three and six months ending June 30, 2007, respectively. The net provision is predominately the result of the amount of the deferred charge amortized and/or impaired resulting from credit losses, which does not result in any tax liability required to be paid.
Note B—Fair Value of Financial Instruments
The Company’s consolidated financial statements include financial assets and liabilities that are measured based on their estimated fair values. The use of fair value to measure the Company’s financial instruments is fundamental to its consolidated financial statements and is a critical accounting estimate because a substantial portion of its assets and liabilities are recorded at estimated fair value.
The application of fair value estimates may be on a recurring or nonrecurring basis depending on the accounting principles applicable to the specific asset or liability or whether management has elected to carry the item at its estimated fair value as discussed previously.
Effective January 1, 2008, the Company adopted two pronouncements affecting its fair value measurements and accounting: SFAS 157 and SFAS 159.
SFAS 157 defines fair value as the price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. SFAS 157 establishes a three-tiered fair value hierarchy that prioritizes the inputs used to estimate fair value into three broad levels, considering the relative reliability of the inputs:
· Level 1— Quoted prices in active markets for identical assets or liabilities. Level 1 assets and liabilities include debt and equity securities and derivative contracts that are traded in an active exchange market, as well as certain U.S. treasury, other U.S. Government and agency mortgage-backed debt securities that are highly liquid and are actively traded in over-the-counter markets.
· Level 2— Observable inputs other than Level 1 prices, such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities. Level 2 assets and liabilities include securities with quoted prices that are traded less frequently than exchange-traded instruments, securities and derivative contracts and financial liabilities whose value is determined using a pricing model with inputs that are observable in the market or can be derived principally from or corroborated by observable market data. This category generally includes trust assets or liabilities where more than a significant percentage of the fair values were derived using a pricing process that was based upon observable inputs.
· Level 3— Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities. Level 3 assets and liabilities include financial instruments whose value is determined using pricing models, discounted cash flow methodologies, or similar techniques, as well as instruments for which the determination of fair value requires significant management judgment or estimation. This category includes those assets and liabilities that were not included in Level 1 or Level 2.
11
The following table presents for each of these hierarchy levels, the Company’s assets and liabilities that are measured at fair value on a recurring basis, including financial instruments for which the Company has elected the fair value option at June 30, 2008.
|
| Recurring Fair Value Measurements |
| ||||||||||
|
| At June 30, 2008 |
| ||||||||||
|
| Level 1 |
| Level 2 |
| Level 3 |
| Total |
| ||||
Assets |
|
|
|
|
|
|
|
|
| ||||
Investment securities available-for-sale |
| $ | — |
| $ | — |
| $ | 8,644 |
| $ | 8,644 |
|
Securitized mortgage collateral (1) |
| — |
| 10,747,133 |
| 298,189 |
| 11,045,322 |
| ||||
Total Assets at Fair Value |
| $ | — |
| $ | 10,747,133 |
| $ | 306,833 |
| $ | 11,053,966 |
|
|
|
|
|
|
|
|
|
|
| ||||
Liabilities |
|
|
|
|
|
|
|
|
| ||||
Securitized mortgage borrowings |
| $ | — |
| $ | 11,180,164 |
| $ | 316,968 |
| $ | 11,497,132 |
|
Derivative liabilities, net (2) |
| — |
| 136,471 |
| — |
| 136,471 |
| ||||
Trust preferred securities |
| — |
| — |
| 46,266 |
| 46,266 |
| ||||
Total Liabilities at Fair Value |
| $ | — |
| $ | 11,316,635 |
| $ | 363,234 |
| $ | 11,679,869 |
|
(1) | Excluded from securitized mortgage collateral above is $10.1 million in master servicing rights related to consolidated securitizations and recorded at the lower of cost or market. | |
(2) | Derivative liabilities, net includes $109 thousand in derivative assets and $136.6 million in derivative liabilities, included within trust assets and trust liabilities, respectively. |
Level 3 assets and liabilities were 2.6 percent and 3.0 percent of total assets at fair value and total liabilities at fair value, respectively.
The following tables present a reconciliation for all assets and liabilities measured at fair value on a recurring basis using significant unobservable inputs (Level 3) for the three and six months ended June 30, 2008:
|
| Level 3 Recurring Fair Value Measurements |
| ||||||||||||||||
|
| Three Months Ended June 30, 2008 |
| ||||||||||||||||
|
| Fair Value -March 31, 2008 |
| Total Gains |
| Transfers in |
| Purchases, |
| Fair Value - |
| Unrealized gains |
| ||||||
Investment securities available-for-sale |
| $ | 10,621 |
| $ | (1,318 | ) | $ | — |
| $ | (659 | ) | $ | 8,644 |
| $ | (1,977 | ) |
Securitized mortgage collateral |
| 966,958 |
| 12,581 |
| (645,986 | ) | (35,364 | ) | 298,189 |
| (22,783 | ) | ||||||
Securitized mortgage borrowings |
| (998,395 | ) | (12,388 | ) | 661,157 |
| 32,658 |
| (316,968 | ) | 20,270 |
| ||||||
Trust preferred securities |
| (45,129 | ) | (1,137 | ) | — |
| — |
| (46,266 | ) | (1,137 | ) | ||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||
|
| Level 3 Recurring Fair Value Measurements |
| ||||||||||||||||
|
| Six Months Ended June 30, 2008 |
| ||||||||||||||||
|
| Fair Value - |
| Total Gains |
| Transfers in |
| Purchases, |
| Fair Value - |
| Unrealized gains |
| ||||||
Investment securities available-for-sale |
| $ | 15,248 |
| $ | (5,408 | ) | $ | — |
| $ | (1,196 | ) | $ | 8,644 |
| $ | (5,006 | ) |
Securitized mortgage collateral |
| 782,574 |
| (236,490 | ) | (119,516 | ) | (128,379 | ) | 298,189 |
| (189,290 | ) | ||||||
Securitized mortgage borrowings |
| (767,704 | ) | 265,815 |
| 98,688 |
| 86,233 |
| (316,968 | ) | 183,216 |
| ||||||
Trust preferred securities |
| (40,952 | ) | (5,314 | ) | — |
| — |
| (46,266 | ) | (5,020 | ) | ||||||
(1) | Represents the amount of total gains or losses for the period, included in earnings, attributable to the change in unrealized gains (losses) relating to assets and liabilities classified as Level 3 that are still held at June 30, 2008. |
12
The tables below summarize gains and losses due to changes in fair value, including both realized and unrealized gains and losses, recorded in earnings for Level 3 assets and liabilities for the three and six months ended June 30, 2008.
|
| Recurring Fair Value Measurements |
| ||||||||||
|
| Level 3 - Total Gains (Losses) Included in Net Loss |
| ||||||||||
|
| Three Months Ended June 30, 2008 |
| ||||||||||
|
| Investment Securities |
| Securitized Mortgage |
| Securitized Mortgage |
| Trust Preferred |
| ||||
Interest income |
| $ | 199 |
| $ | 10,306 |
| $ | — |
| $ | — |
|
Interest expense |
| — |
| — |
| (6,275 | ) | (140 | ) | ||||
Change in fair value of net trust assets, excluding REO |
| (1,517 | ) | 2,275 |
| (6,113 | ) | — |
| ||||
Change in fair value of trust preferred securities |
| — |
| — |
| — |
| (997 | ) | ||||
Total |
| $ | (1,318 | ) | $ | 12,581 |
| $ | (12,388 | ) | $ | (1,137 | ) |
|
| Recurring Fair Value Measurements |
| ||||||||||
|
| Level 3 - Total Gains (Losses) Included in Net Loss |
| ||||||||||
|
| Six Months Ended June 30, 2008 |
| ||||||||||
|
| Investment Securities |
| Securitized Mortgage |
| Securitized Mortgage |
| Trust Preferred |
| ||||
Interest income |
| $ | 399 |
| $ | 10,217 |
| $ | — |
| $ | — |
|
Interest expense |
| — |
| — |
| (15,176 | ) | (294 | ) | ||||
Change in fair value of net trust assets, excluding REO |
| (5,807 | ) | (246,707 | ) | 280,991 |
| — |
| ||||
Change in fair value of trust preferred securities |
| — |
| — |
| — |
| (5,020 | ) | ||||
Total |
| $ | (5,408 | ) | $ | (236,490 | ) | $ | 265,815 |
| $ | (5,314 | ) |
SFAS 159 permits fair value accounting to be elected for certain assets and liabilities on an individual contract basis at the time of acquisition or under certain other circumstances referred to as “remeasurement event dates.” For those items for which fair value accounting is elected, changes in fair value will be recognized in earnings, and fees and costs associated with the origination or acquisition of such items will be recognized as incurred rather than deferred. In addition, SFAS 159 allows application of the Statement’s provisions to eligible items existing at the effective date and management has elected to apply SFAS 159 to certain of those items as discussed below.
The following is a description of the measurement techniques for items recorded at fair value on a recurring basis and a non-recurring basis.
Recurring basis
Investment Securities Available-for-Sale. Pursuant to the Company’s adoption of SFAS 159, the Company elected to carry all of its investment securities available-for-sale at fair value. These investment securities are recorded at fair value and consist primarily of non-investment grade mortgage-backed securities. The fair value of the investment securities are measured based upon the Company’s expectation of inputs that other market participants would use. Such assumptions include judgments about the underlying collateral, prepayment speeds, credit losses, and certain other factors. Given the market disruption and lack of observable market data as of June 30, 2008, the fair value of the investment securities available-for-sale were measured using significant internal expectations of market participants’ assumptions. At June 30, 2008, investment securities available-for-sale were classified as Level 3 fair value measurements.
Securitized Mortgage Collateral – Pursuant to the Company’s adoption of SFAS 159, the Company elected to carry all of its securitized mortgage collateral at fair value. These assets consist primarily of Alt-A mortgage loans securitized between 2002 and 2007. Fair value measurements are based on the Company’s estimated cash flow models, which incorporate assumptions, inputs of other market participants and quoted prices for the underlying bonds. The Company’s assumptions include its expectations of inputs that other market participants would use. These assumptions include judgments about the underlying collateral, prepayment speeds, credit losses, and certain other factors. At June 30, 2008, securitized mortgage collateral was classified as Level 2 or Level 3 measurements depending on the observability of significant inputs to the model. As of June 30, 2008, the unpaid principal balance and fair values of loans 90 days or more past due was $2.7 billion and estimated at $1.6 billion, respectively. The aggregate unpaid principal balances exceed the fair value by $1.1 billion at June 30, 2008.
13
Securitized Mortgage Borrowings - Pursuant to the Company’s adoption of SFAS 159, the Company elected to carry all of its securitized mortgage borrowings at fair value. These borrowings consist of individual tranches of bonds issued by securitization trusts and are primarily backed by Alt-A mortgage loans. Fair value measurements include the Company’s judgments about the underlying collateral assumptions such as prepayment speeds, credit losses, and certain other factors and are based upon quoted prices for the individual tranches of bonds, if available. At June 30, 2008, securitized mortgage borrowings were classified as Level 2 or Level 3 measurements depending on the observability of significant inputs to the model. As of June 30, 2008, the unpaid principal balance and fair value of securitized mortgage borrowings was $16.5 billion and estimated at $11.5 billion, respectively. The aggregate unpaid principal balance exceeds the fair value by $5 billion at June 30, 2008.
Trust Preferred Securities - Pursuant to the Company’s adoption of SFAS 159, the Company elected to carry all of its trust preferred securities at fair value. These securities were measured based upon using other preferred stock issued by the Company adjusted for differences between the securities. The fair value of the trust preferred securities resulted in adjustments to reduce the par value for the following factors:
· | Stated interest rate adjustments to account for the stated yield difference between the trust preferred securities and the preferred stock issued by the Company, | |
· | Liquidity adjustments to reflect the presence of a lack of an actively traded market for these securities. | |
· | Preference adjustments to reflect the rights of the trust preferred securities as compared to the preferred securities. |
At June 30, 2008 trust preferred securities were classified as Level 3 measurements. As of June 30, 2008, the unpaid principal balance and fair value of trust preferred securities was $99.2 million and $46.3 million, respectively. The aggregate unpaid principal balance exceeds the fair value by $52.9 million at June 30, 2008.
Derivative Assets and Liabilities.For non-exchange traded contracts, fair value is based on the amounts that would be required to settle the positions with the related counterparties as of the valuation date. Valuations of derivative assets and liabilities reflect the value of the instruments, including the values associated with counterparty risk. With the issuance of SFAS 157, these values must also take into account the Company’s own credit standing, to the extent applicable, thus included in the valuation of the derivative instrument is the value of the net credit differential between the counterparties to the derivative contract. At June 30, 2008, derivative assets and liabilities were classified as Level 2 measurements.
Non-recurring basis
The Company is required to measure certain assets at fair value from time-to-time. These fair value measurements typically result from the application of specific accounting pronouncements under GAAP. The fair value measurements are considered non-recurring fair value measurements under SFAS 157.
Loans Held-for-Sale - Loans held-for-sale for which the fair value option was not elected are carried at lower of cost or market (LOCOM). When available, such measurements are based upon what secondary markets offer for portfolios with similar characteristics, and are considered Level 2 measurements. If market pricing is not available, such measurements are significantly impacted by the Company’s expectations of other market participants’ assumptions, and are considered Level 3 measurements. The Company utilizes internal pricing processes to estimate the fair value of loans held-for-sale, which is based on recent loan sales and estimates of the fair value of the underlying collateral. Loans held-for-sale, which are primarily included in assets of discontinued operations, are considered Level 3 measurements at June 30, 2008.
Mortgage Servicing Rights - Mortgage servicing rights (MSRs) for which the fair value option was not elected are carried at LOCOM. MSRs are not traded in an active market with observable prices. The Company utilizes internal pricing processes to estimate the fair value of MSRs, which are based on assumptions the Company believes would be used by market participants, including market discount rates, float, prepayment speeds and master servicing fees. MSRs, which are included in other assets, are considered Level 3 measurements at June 30, 2008.
14
The following table presents the fair values of those financial assets measured at fair value on a non-recurring basis at June 30, 2008.
|
|
|
|
|
|
|
|
|
| Total Gains (Losses) |
| ||||||||
|
| Non-recurring Fair Value Measurements |
| For the Periods Ended |
| ||||||||||||||
|
| As of June 30, 2008 |
| June 30, 2008 |
| ||||||||||||||
|
| Level 1 |
| Level 2 |
| Level 3 |
| Total |
| Three |
| Six |
| ||||||
Loans held-for-sale (1) |
| $ | — |
| $ | — |
| $ | 167,420 |
| $ | 167,420 |
| $ | (7,885 | ) | $ | (16,249 | ) |
Mortgage servicing rights |
| $ | — |
| $ | — |
| $ | 1,677 |
| $ | 1,677 |
| $ | (301 | ) | $ | (948 | ) |
(1) Includes $1.8 million and $165.6 million of loans held-for-sale within continuing and discontinued operations, respectively at June 30, 2008.
The following table represents changes in fair value of recurring fair value measurements for the three and six months ended June 30, 2008.
|
| Recurring Fair Value Measurements |
| |||||||||||||
|
| Changes in Fair Value Included in Net Loss |
| |||||||||||||
|
| Three Months Ended June 30, 2008 |
| |||||||||||||
|
|
|
|
|
| Change in Fair Value of |
|
|
| |||||||
|
| Interest Income |
| Interest Expense |
| Net Trust Assets |
| Trust Preferred |
| Total |
| |||||
Investment securities available-for-sale |
| $ | 687 |
| $ | — |
| $ | (1,517 | ) | $ | — |
| $ | (830 | ) |
Securitized mortgage collateral |
| 406,988 |
| — |
| (19,062 | ) | — |
| 387,926 |
| |||||
Securitized mortgage borrowings |
| — |
| (401,431 | ) | (88,886 | ) | — |
| (490,317 | ) | |||||
Trust preferred securities |
| — |
| (2,168 | ) | — |
| (997 | ) | (3,165 | ) | |||||
Derivative instruments |
| — |
| — |
| 98,304 |
| — |
| 98,304 |
| |||||
Total |
| $ | 407,675 |
| $ | (403,599 | ) | $ | (11,161 | ) | $ | (997 | ) | $ | (8,082 | ) |
|
| Recurring Fair Value Measurements |
| |||||||||||||||||
|
| Changes in Fair Value Included in Net Loss |
| |||||||||||||||||
|
| Six Months Ended June 30, 2008 |
| |||||||||||||||||
|
|
|
|
|
| Change in Fair Value of |
|
|
| |||||||||||
|
| Interest Income |
| Interest Expense |
| Net Trust Assets |
| Trust Preferred |
| Total |
| |||||||||
Investment securities available-for-sale |
| $ | 1,420 |
| $ | — |
| $ | (5,807 | )(1) | $ | — |
| $ | (4,387 | ) | ||||
Securitized mortgage collateral |
| 676,886 |
| — |
| (3,248,563 | )(1) | — |
| (2,571,677 | ) | |||||||||
Securitized mortgage borrowings |
| — |
| (663,248 | ) | 3,330,248 | (1) | — |
| 2,667,000 |
| |||||||||
Trust preferred securities |
| — |
| (4,350 | ) | — |
| (5,020 | ) | (9,370 | ) | |||||||||
Derivative instruments |
| — |
| — |
| (83,511 | )(2) | — |
| (83,511 | ) | |||||||||
Total |
| $ | 678,306 | (3) | $ | (667,598 | )(3) | $ | (7,633 | ) | $ | (5,020 | ) | $ | (1,945 | ) | ||||
(1) | The $75.9 million total change in fair value of these financial instruments is included as change in fair value of trust assets, excluding REO and derivatives, in the accompanying statement of cash flows for the six months ended June 30, 2008. | |
(2) | Included in this amount is $(12.1) million in non-cash changes in the fair value of derivative instruments, which are included in the accompanying statement of cash flows for the six months ended June 30, 2008, and $(71.4) million in cash settlements paid. | |
(3) | The totals include $(370.1) million and $344.9 million of accretion of interest income and expense, respectively. |
The change in fair value of the asset and liabilities above, excluding derivative instruments, are primarily due to the changes in credit risk. The change in fair value for derivative instruments is primarily due to the change in the forward LIBOR curve for the quarter.
15
Note C— Stock Options
The fair value of options granted, which is amortized to expense over the option vesting period, is estimated on the date of grant using the Black-Scholes-Merton option pricing model with the following weighted average assumptions:
|
| Six Months |
| ||
|
| Ended June 30, |
| ||
|
| 2008 |
| 2007 |
|
Risk-free interest rate |
| 1.88% to 2.13% |
| — |
|
Expected lives (in years) |
| 3.25 |
| — |
|
Expected volatility (1) |
| 87.3% - 89.9% |
| — |
|
Expected dividend yield (2) |
| 0.00% |
| — |
|
Grant date fair value of share options |
| $ 0.71 - 0.78 |
| — |
|
(1) Expected volatilities are based on the historical volatility of the Company’s stock over the expected option life.
(2) Expected dividend yield is zero because a dividend on the common stock is currently not probable over the expected life of the options granted during the six months ended June 30, 2008.
There were no stock options granted during the six months ended June 30, 2007.
The following table summarizes activity, pricing and other information for the Company’s stock options for the six-month period ended June 30, 2008:
|
|
|
| Weighted- |
| |
|
|
|
| Average |
| |
|
| Number of |
| Exercise |
| |
|
| Shares |
| Price ($) |
| |
Options outstanding at January 1, 2008 |
| 5,939,914 |
| $ | 9.75 |
|
Options granted |
| 7,810,000 |
| 1.28 |
| |
Options exercised |
| — |
| — |
| |
Options forfeited / cancelled |
| (1,131,164 | ) | 4.69 |
| |
Options outstanding at June 30, 2008 |
| 12,618,750 |
| $ | 4.91 |
|
Options exercisable at June 30, 2008 |
| 2,661,559 |
| $ | 12.94 |
|
As of June 30, 2008, there was approximately $5.6 million of total unrecognized compensation cost related to nonvested share-based compensation arrangements granted under the plan. That cost is expected to be recognized over a weighted average period of 1.2 years.
Note D—Reconciliation of Earnings Per Share
The following table presents the computation of basic and diluted net earnings per share including the dilutive effect of stock options and cumulative redeemable preferred stock outstanding for the periods indicated:
| For the Three Months |
| |||||
|
| Ended March 31, |
| ||||
|
| 2007 |
| 2006 |
| ||
Numerator for basic earnings per share: |
|
|
|
|
| ||
Net (loss) earnings |
| $ | (121,668 | ) | $ | 85,566 |
|
Less: Cash dividends on cumulative redeemable preferred stock |
| (3,722 | ) | (3,672 | ) | ||
Net (loss) earnings available to common stockholders |
| $ | (125,390 | ) | $ | 81,894 |
|
Denominator for basic earnings per share: |
|
|
|
|
| ||
Basic weighted average number of common shares outstanding during the period |
| 76,084 |
| 76,113 |
| ||
Denominator for diluted earnings per share: |
|
|
|
|
| ||
Diluted weighted average number of common shares outstanding during the period |
| 76,084 |
| 76,113 |
| ||
Net effect of dilutive stock options |
| — |
| 266 |
| ||
Diluted weighted average common shares |
| 76,084 |
| 76,379 |
| ||
|
|
|
|
|
| ||
Net (loss) earnings per share: |
|
|
|
|
| ||
Basic |
| $ | (1.65 | ) | $ | 1.08 |
|
Diluted |
| $ | (1.65 | ) | $ | 1.07 |
|
16
|
| For the Three Months |
| For the Six Months |
| ||||||||
|
| Ended June 30, |
| Ended June 30, |
| ||||||||
|
| 2008 |
| 2007 |
| 2008 |
| 2007 |
| ||||
Numerator for basic earnings per share: |
|
|
|
|
|
|
|
|
| ||||
Net loss from continuing operations |
| $ | (16,439 | ) | $ | (93,525 | ) | $ | (20,942 | ) | $ | (147,657 | ) |
Net (loss) earnings from discontinued operations |
| (11,048 | ) | (59,022 | ) | (10,360 | ) | (126,558 | ) | ||||
Less: Cash dividends on cumulative redeemable preferred stock |
| (3,722 | ) | (3,722 | ) | (7,443 | ) | (7,443 | ) | ||||
Net loss available to common stockholders |
| $ | (31,209 | ) | $ | (156,269 | ) | $ | (38,745 | ) | $ | (281,658 | ) |
Denominator for basic earnings per share: |
|
|
|
|
|
|
|
|
| ||||
Basic weighted average number of common shares outstanding during the period |
| 76,096 |
| 76,081 |
| 76,096 |
| 76,081 |
| ||||
Denominator for diluted earnings per share: |
|
|
|
|
|
|
|
|
| ||||
Diluted weighted average number of common shares outstanding during the period |
| 76,096 |
| 76,081 |
| 76,096 |
| 76,081 |
| ||||
Net effect of dilutive stock options |
| — |
| — |
| — |
| — |
| ||||
Diluted weighted average common shares |
| 76,096 |
| 76,081 |
| 76,096 |
| 76,081 |
| ||||
|
|
|
|
|
|
|
|
|
| ||||
Net loss per common share - Basic: |
|
|
|
|
|
|
|
|
| ||||
Loss from continuing operations |
| $ | (0.26 | ) | $ | (1.28 | ) | $ | (0.37 | ) | $ | (2.04 | ) |
Loss from discontinued operations |
| (0.15 | ) | (0.78 | ) | (0.14 | ) | (1.66 | ) | ||||
Net loss per share |
| $ | (0.41 | ) | $ | (2.05 | ) | $ | (0.51 | ) | $ | (3.70 | ) |
|
|
|
|
|
|
|
|
|
| ||||
Net loss per common share - Diluted: |
|
|
|
|
|
|
|
|
| ||||
Loss from continuing operations |
| $ | (0.26 | ) | $ | (1.28 | ) | $ | (0.37 | ) | $ | (2.04 | ) |
Loss from discontinued operations |
| (0.15 | ) | (0.78 | ) | (0.14 | ) | (1.66 | ) | ||||
Net loss per share |
| $ | (0.41 | ) | $ | (2.05 | ) | $ | (0.51 | ) | $ | (3.70 | ) |
For the three and six month periods ended March 31, 2007 and 2006,June 30, 2008, stock options to purchase 6.912.6 million and 4.4 million shares respectively, were outstanding but not included in the above weighted average calculations because they were anti-dilutive.
For the three and six month periods ended June 30, 2007, stock options to purchase 6.7 million shares were outstanding but not included in the above weighted average calculations because they were anti-dilutive.
Note C—E—Segment Reporting
The Company has two reporting segments, the continuing operations and discontinued operations. The following tables present the selected financial data and operating results by reporting segments for the three month periods ended March 31, 2007 and 2006:indicated:
|
| Reporting Segments as of and for the Three Months |
| ||||||||||||||||
|
| Ended March 31, 2007 |
| ||||||||||||||||
|
| Long-Term |
| Warehouse |
| Mortgage |
|
|
|
|
|
|
| ||||||
|
| Investment |
| Lending |
| Operations |
| Commercial |
| Inter- |
|
|
| ||||||
|
| Operations |
| Operations |
| (IFC) |
| Operations |
| Company (1) |
| Consolidated |
| ||||||
Balance Sheet Items: |
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||
Securitized mortgage collateral and mortgages held-for-investment |
| $ | 21,505,411 |
| $ | — |
| $ | 94,160 |
| $ | — |
| $ | (136,103 | ) | $ | 21,463,468 |
|
Mortgages held-for-sale |
| — |
| — |
| 719,938 |
| 137,284 |
| — |
| 857,222 |
| ||||||
Finance receivables |
| — |
| 1,075,582 |
| — |
| — |
| (812,915 | ) | 262,667 |
| ||||||
Total assets |
| 22,006,915 |
| 1,296,544 |
| 857,049 |
| 129,539 |
| (1,006,762 | ) | 23,283,285 |
| ||||||
Total stockholders’ equity |
| 735,062 |
| 256,314 |
| 22,424 |
| (9,688 | ) | (146,284 | ) | 857,828 |
| ||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||
Income Statement Items: |
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||
Net interest income |
| $ | (1,627 | ) | $ | 8,451 |
| $ | (4,331 | ) | $ | (314 | ) | $ | 11,276 |
| $ | 13,455 |
|
Provision for loan losses |
| 28,849 |
| (287 | ) | 812 |
| — |
| — |
| 29,374 |
| ||||||
Realized gain from derivatives |
| 36,624 |
| — |
| 740 |
| 95 |
| — |
| 37,459 |
| ||||||
Change in fair value of derivatives |
| (54,623 | ) | — |
| (2,549 | ) | (1,589 | ) | — |
| (58,761 | ) | ||||||
Other non-interest income |
| (9,985 | ) | 740 |
| (26,161 | ) | (38 | ) | (13,816 | ) | (49,260 | ) | ||||||
Non-interest expense and income taxes |
| 5,199 |
| 2,294 |
| 21,033 |
| 2,674 |
| (3,987 | ) | 35,187 |
| ||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||
Net (loss) earnings |
| $ | (63,659 | ) | $ | 7,184 |
| $ | (54,146 | ) | $ | (4,520 | ) | $ | (6,527 | ) | $ | (121,668 | ) |
|
| Continuing |
| Discontinued |
|
|
| |||
|
| Operations |
| Operations |
| Consolidated |
| |||
Balance Sheet Items as of June 30, 2008: |
|
|
|
|
|
|
| |||
Securitized mortgage collateral |
| $ | 11,055,382 |
| $ | — |
| $ | 11,055,382 |
|
Loans held-for-sale |
| 1,785 |
| 165,635 |
| 167,420 |
| |||
Total assets |
| 11,760,223 |
| 203,320 |
| 11,963,543 |
| |||
Total liabilities |
| 11,685,701 |
| 253,334 |
| 11,939,035 |
| |||
Total stockholders’ equity (deficit) |
| $ | 74,522 |
| $ | (50,014 | ) | $ | 24,508 |
|
|
|
|
|
|
|
|
| |||
Balance Sheet Items as of December 31, 2007: |
|
|
|
|
|
|
| |||
Securitized mortgage collateral |
| $ | 16,532,633 |
| $ | — |
| $ | 16,532,633 |
|
Loans held-for-sale |
| 1,684 |
| 279,659 |
| 281,343 |
| |||
Finance receivables |
| 336 |
| 12,458 |
| 12,794 |
| |||
Total assets |
| 17,037,822 |
| 353,250 |
| 17,391,072 |
| |||
Total liabilities |
| 18,063,459 |
| 405,341 |
| 18,468,800 |
| |||
Total stockholders’ deficit |
| $ | (1,025,637 | ) | $ | (52,091 | ) | $ | (1,077,728 | ) |
17
(1) Corporate overhead expenses are allocated to the segments based on percentageTable of time devoted to the segment, headcount, loan production, or other relevant measures. Income statement items include inter-company loan sale transactions and the elimination of related gains.Contents
|
| Reporting Segments as of and for the Three Months |
| ||||||||||||||||
|
| Ended March 31, 2006 |
| ||||||||||||||||
|
| Long-Term |
| Warehouse |
| Mortgage |
|
|
|
|
|
|
| ||||||
|
| Investment |
| Lending |
| Operations |
| Commercial |
| Inter- |
|
|
| ||||||
|
| Operations |
| Operations |
| (IFC) |
| Operations |
| Company (1) |
| Consolidated |
| ||||||
Balance Sheet Items: |
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||
Securitized mortgage collateral and mortgages held-for-investment |
| $ | 23,106,162 |
| $ | — |
| $ | — |
| $ | 120 |
| $ | (127,956 | ) | $ | 22,978,326 |
|
Mortgages held-for-sale |
| — |
| — |
| 712,632 |
| 88,466 |
| — |
| 801,098 |
| ||||||
Finance receivables |
| — |
| 1,063,883 |
| — |
| — |
| (771,933 | ) | 291,950 |
| ||||||
Total assets |
| 23,384,829 |
| 1,193,782 |
| 837,754 |
| 92,607 |
| (666,674 | ) | 24,842,298 |
| ||||||
Total stockholders’ equity |
| 1,030,473 |
| 225,023 |
| 107,464 |
| 1,385 |
| (149,424 | ) | 1,214,921 |
| ||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||
Income Statement Items: |
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||
Net interest income |
| $ | (12,088 | ) | $ | 7,691 |
| $ | 1,277 |
| $ | 134 |
| $ | 14,460 |
| $ | 11,474 |
|
Provision for loan losses |
| 150 |
| — |
| — |
| — |
| — |
| 150 |
| ||||||
Realized from derivatives |
| 40,136 |
| — |
| — |
| — |
| — |
| 40,136 |
| ||||||
Change in fair value of derivatives |
| 46,963 |
| — |
| 3,625 |
| 841 |
| — |
| 51,429 |
| ||||||
Other non-interest income |
| 90 |
| 797 |
| 19,355 |
| 1,036 |
| (5,101 | ) | 16,177 |
| ||||||
Non-interest expense and income taxes |
| 4,392 |
| 1,874 |
| 22,004 |
| 2,410 |
| 2,820 |
| 33,500 |
| ||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||
Net earnings (loss) |
| $ | 70,559 |
| $ | 6,614 |
| $ | 2,253 |
| $ | (399 | ) | $ | 6,539 |
| $ | 85,566 |
|
|
| Continuing |
| Discontinued |
|
|
| |||
|
| Operations |
| Operations |
| Consolidated |
| |||
Statement of Operations Items for the three months ended June 30, 2008: |
|
|
|
|
|
|
| |||
Net interest income |
| $ | 4,256 |
| $ | 1,543 |
| $ | 5,799 |
|
Change in fair value of derivatives, net |
| — |
| 258 |
| 258 |
| |||
Change in fair value of net trust assets |
| (11,161 | ) | — |
| (11,161 | ) | |||
Other non-interest income (expense) |
| 413 |
| (8,612 | ) | (8,199 | ) | |||
Non-interest expense and income taxes |
| (9,947 | ) | (4,237 | ) | (14,184 | ) | |||
Net loss |
| $ | (16,439 | ) | $ | (11,048 | ) | $ | (27,487 | ) |
|
|
|
|
|
|
|
| |||
Statement of Operations Items for the six months ended June 30, 2008: |
|
|
|
|
|
|
| |||
Net interest income |
| $ | 11,605 |
| $ | 3,213 |
| $ | 14,818 |
|
Change in fair value of derivatives, net |
| — |
| 112 |
| 112 |
| |||
Change in fair value of net trust assets |
| (7,633 | ) | — |
| (7,633 | ) | |||
Other non-interest income (expense) |
| (2,124 | ) | 867 |
| (1,257 | ) | |||
Non-interest expense and income taxes |
| (22,790 | ) | (14,552 | ) | (37,342 | ) | |||
Net loss |
| $ | (20,942 | ) | $ | (10,360 | ) | $ | (31,302 | ) |
|
| Continuing |
| Discontinued |
|
|
| |||
|
| Operations |
| Operations |
| Consolidated |
| |||
Statement of Operations Items for the three months ended June 30, 2007: |
|
|
|
|
|
|
| |||
Net interest income |
| $ | 7,874 |
| $ | 5,109 |
| $ | 12,983 |
|
Provision for loan losses |
| (161,163 | ) | (1,818 | ) | (162,981 | ) | |||
Change in fair value of derivatives, net |
| 91,670 |
| 3,870 |
| 95,540 |
| |||
Other non-interest income (expense) |
| (20,866 | ) | (38,159 | ) | (59,025 | ) | |||
Non-interest expense and income taxes |
| (11,040 | ) | (28,024 | ) | (39,064 | ) | |||
Net loss |
| $ | (93,525 | ) | $ | (59,022 | ) | $ | (152,547 | ) |
|
|
|
|
|
|
|
| |||
Statement of Operations Items for the six months ended June 30, 2007: |
|
|
|
|
|
|
| |||
Net interest income |
| $ | 15,817 |
| $ | 10,622 |
| $ | 26,439 |
|
Provision for loan losses |
| (190,295 | ) | (2,061 | ) | (192,356 | ) | |||
Change in fair value of derivatives, net |
| 73,672 |
| 567 |
| 74,239 |
| |||
Other non-interest income (expense) |
| (25,471 | ) | (82,814 | ) | (108,285 | ) | |||
Non-interest expense and income taxes |
| (21,380 | ) | (52,872 | ) | (74,252 | ) | |||
Net loss |
| $ | (147,657 | ) | $ | (126,558 | ) | $ | (274,215 | ) |
18
(1) Corporate overhead expenses are allocated to the segments based on percentageTable of time devoted to the segment, headcount, loan production, or other relevant measures. Income statement items include inter-company loan sale transactions and the elimination of related gains.
Note D—Mortgages Held-for-SaleContents
Mortgages held-for-sale for the periods indicated consisted of the following:
| At March 31, |
| At December 31, |
| |||
|
| 2007 |
| 2006 |
| ||
Mortgages held-for-sale - residential |
| $ | 757,591 |
| $ | 1,384,136 |
|
Mortgages held-for-sale - commercial |
| 136,439 |
| 177,619 |
| ||
Change in fair value of mortgages held-for-sale |
| (43,796 | ) | (18,717 | ) | ||
Net premiums on mortgages held-for-sale - residential |
| 6,550 |
| 18,024 |
| ||
Net premiums on mortgages held-for-sale - commercial |
| 438 |
| 857 |
| ||
Total mortgages held-for-sale |
| $ | 857,222 |
| $ | 1,561,919 |
|
Mortgage loans held-for-sale are recorded at the lower of cost or market determined on an aggregate basis. The change in fair value of the loans held-for-sale is recorded as an increase or decrease to non-interest income.
During the first quarter of 2007 the Company recorded a charge to earnings for the change in fair value of loans held-for-sale primarily due to an increase in non-performing loans held-for-sale to $92.7 million from $66.2 million at year end, primarily related to the amount of non-performing loans and the reduction in market prices of non-performing loans during the first quarter.
Note E—Securitized Mortgage Collateral
Securitized mortgage collateral consisted of the following:
| At March 31, |
| At December 31, |
| |||
|
| 2007 |
| 2006 |
| ||
Mortgages secured by single-family residential real estate |
| $ | 19,334,022 |
| $ | 19,118,064 |
|
Mortgages secured by commercial real estate |
| 1,920,707 |
| 1,728,240 |
| ||
Net unamortized premiums on mortgages - residential |
| 180,753 |
| 186,563 |
| ||
Net unamortized premiums on mortgages - commercial |
| 26,830 |
| 17,962 |
| ||
Total securitized mortgage collateral |
| $ | 21,462,312 |
| $ | 21,050,829 |
|
Note F—Allowance for Loan Losses
The allowance for loan losses is comprised of the following:
| At March 31, |
| At December 31, |
| |||
|
| 2007 |
| 2006 |
| ||
Securitized mortgage collateral and mortgages held-for-investment |
| $ | 90,465 |
| $ | 71,993 |
|
Specific reserve for securitized mortgage collateral |
| 1,501 |
| — |
| ||
Specific reserve for finance receivables |
| 3,055 |
| 10,598 |
| ||
Specific reserve for mortgage operations |
| 2,794 |
| 3,492 |
| ||
Specific reserve for estimated hurricane losses |
| 5,023 |
| 5,692 |
| ||
Total allowance for loan losses |
| $ | 102,838 |
| $ | 91,775 |
|
Activity for allowance for loan losses for the periods indicated was as follows:
| At March 31, |
| At March 31, |
| |||
|
| 2007 |
| 2006 |
| ||
Beginning balance |
| $ | 91,775 |
| $ | 78,514 |
|
Provision for loan losses |
| 29,374 |
| 150 |
| ||
Charge-offs, net of recoveries |
| (18,311 | ) | (4,406 | ) | ||
Total allowance for loan losses |
| $ | 102,838 |
| $ | 74,258 |
|
During the first quarter of 2007 the Company received settlement funds related to a specific finance receivable reserve, in which it collected $0.3 million in excess of the $3.5 million net receivable at December 31, 2006. As of December 31, 2006 the specific finance receivable balance was $11.2 million before the valuation allowance of $7.7 million. Charge-offs, net of recoveries, includes this $7.7 million.
Note G—Other Assets
Other assets for the periods indicated consisted of the following:
| At March 31, |
| At December 31, |
| |||
|
| 2007 |
| 2006 |
| ||
Deferred charge, net |
| $ | 48,285 |
| $ | 52,272 |
|
Investment securities available-for-sale |
| 29,976 |
| 31,628 |
| ||
Prepaid and other assets |
| 35,664 |
| 24,395 |
| ||
Cash margin balances |
| 18,087 |
| 19,112 |
| ||
Premises and equipment, net |
| 15,178 |
| 15,526 |
| ||
Deferred income taxes, net |
| — |
| 20,060 |
| ||
Investment in Impac Capital Trusts |
| 2,577 |
| 2,638 |
| ||
Total other assets |
| $ | 149,767 |
| $ | 165,631 |
|
|
| At June 30, |
| At December 31, |
| ||||
|
| 2008 |
| 2007 |
| ||||
Deferred charge |
| $ | 28,684 |
| $ | 37,412 |
| ||
Other receivables |
| 4,618 |
| — |
| ||||
Premises and equipment |
| 2,947 |
| 3,904 |
| ||||
Real estate owned outside trust |
| 2,269 |
| 4,571 |
| ||||
Prepaid expenses |
| 2,423 |
| 3,505 |
| ||||
Investment in capital trusts |
| 2,271 |
| 2,394 |
| ||||
Mortgage sevicing rights |
| 1,677 |
| 2,083 |
| ||||
Other assets |
| 3,795 |
| 3,325 |
| ||||
|
| $ | 48,684 |
| $ | 57,194 |
| ||
Note H—Real Estate Owned (REO)
Real estate owned, which consists of residential real estate acquired in satisfaction of loans, is carried at the net realizablerealizeable value less estimated selling and holding costs, offset by expected mortgage insurance proceeds to be received. AdjustmentsHistorically, adjustments to the loan carrying value required at the time of foreclosure are charged tooff against the allowance for loan losses. GainsHistorically, the Company would writedown REO for changes in the value of the real estate due to declining home prices during the holding period and recognize that amount as a provision for REO losses. The gains and losses related to REO are included in the cash flows of the securitized mortgage collateral. Losses or lossesgains from the ultimate disposition of real estate owned are recorded as (gain) lossgain (loss) on sale of other real estate owned in the consolidated statements of operations. The Company maintains an allowance against the REO for any changes in the value of the real estate subsequent to the initial transfer to REO. As of March 31, 2007, the Company maintained an allowance of $15.7 million, compared to $8.5 millionis recorded at December 31, 2006. The allowance for changes in theits estimated net realizable value at June 30, 2008 and December 31, 2007.
Activity for the Company’s REO consisted of the real estate ownedfollowing:
|
| Six Months Ended |
| Year Ended |
| ||
|
| June 30, 2008 |
| December 31, 2007 |
| ||
Beginning balance |
| $ | 405,434 |
| $ | 137,331 |
|
Foreclosures |
| 388,907 |
| 487,314 |
| ||
Liquidations |
| (170,639 | ) | (219,211 | ) | ||
REO |
| $ | 623,702 |
| $ | 405,434 |
|
|
|
|
|
|
| ||
REO inside trusts |
| $ | 621,433 |
| $ | 400,863 |
|
REO outside trust (1) |
| 2,269 |
| 4,571 |
| ||
REO |
| $ | 623,702 |
| $ | 405,434 |
|
(1) Amount represents REO related to a former on-balance sheet securitization, which was collapsed as the result of the Company exercising its clean-up call option. This REO is included in the REO balance. Asother assets within continuing operations.
19
Note I— Securitized Mortgage Borrowings
The following is selected information on securitized mortgage borrowings for the periods indicated (dollars in millions):
|
|
|
|
|
|
|
| Range of Percentages: |
| |||||||
|
|
|
|
|
|
|
|
|
| Interest Rate |
| Interest Rate |
| |||
|
| Original |
| Securitized mortgage borrowings |
|
|
| Margins over |
| Margins after |
| |||||
|
| Issuance |
| outstanding as of |
| Fixed Interest |
| One-Month |
| Adjustment |
| |||||
Year of Issuance |
| Amount |
| March 31, 2007 |
| December 31, 2006 |
| Rates |
| LIBOR (1) |
| Date (2) |
| |||
2002 |
| $ | 3,876.1 |
| $ | 48.7 |
| $ | 52.0 |
| 5.25 - 12.00 |
| 0.27 - 2.75 |
| 0.54 - 3.68 |
|
2003 |
| 5,966.1 |
| 809.3 |
| 906.7 |
| 4.34 - 12.75 |
| 0.27 - 3.00 |
| 0.54 - 4.50 |
| |||
2004 |
| 17,710.7 |
| 4,496.5 |
| 5,230.8 |
| 3.58 - 5.56 |
| 0.25 - 2.50 |
| 0.50 - 3.75 |
| |||
2005 |
| 13,387.7 |
| 7,746.5 |
| 8,578.1 |
| — |
| 0.24 - 2.90 |
| 0.48 - 4.35 |
| |||
2006 |
| 6,079.1 |
| 5,553.5 |
| 5,794.7 |
| 6.25 |
| 0.10 - 2.75 |
| 0.20 - 4.125 |
| |||
2007 |
| 2,385.0 |
| 2,371.6 |
| — |
| — |
| 0.06 - 2.00 |
| 0.12 - 3.00 |
| |||
Subtotal securitized mortgage borrowings |
|
|
| 21,026.1 |
| 20,562.3 |
|
|
|
|
|
|
| |||
Accrued interest expense |
|
|
| 21.3 |
| 22.8 |
|
|
|
|
|
|
| |||
Unamortized securitization costs |
|
|
| (49.0 | ) | (58.7 | ) |
|
|
|
|
|
| |||
Total securitized mortgage borrowings |
|
|
| $ | 20,998.4 |
| $ | 20,526.4 |
|
|
|
|
|
|
| |
|
|
|
|
|
|
|
| Range of Percentages: |
| |||||||
|
|
|
|
|
|
|
|
|
| Interest Rate |
| Interest Rate |
| |||
|
| Original |
| Securitized mortgage borrowings |
|
|
| Margins over |
| Margins after |
| |||||
|
| Issuance |
| outstanding as of |
| Fixed Interest |
| One-Month |
| Adjustment |
| |||||
Year of Issuance |
| Amount |
| June 30, 2008 |
| December 31, 2007 |
| Rates |
| LIBOR (1) |
| Date (2) |
| |||
2002 |
| $ | 3,876.1 |
| $ | 38.9 |
| $ | 42.1 |
| 5.25 - 12.00 |
| 0.27 - 2.75 |
| 0.54 - 3.68 |
|
2003 |
| 5,966.1 |
| 363.5 |
| 409.4 |
| 4.34 - 12.75 |
| 0.27 - 3.00 |
| 0.54 - 4.50 |
| |||
2004 |
| 17,710.7 |
| 2,430.8 |
| 2,751.8 |
| 3.58 - 5.56 |
| 0.25 - 2.50 |
| 0.50 - 3.75 |
| |||
2005 |
| 13,387.7 |
| 5,380.6 |
| 5,961.6 |
| — |
| 0.24 - 2.90 |
| 0.48 - 4.35 |
| |||
2006 |
| 5,971.4 |
| 4,761.7 |
| 5,015.7 |
| 6.25 |
| 0.10 - 2.75 |
| 0.20 - 4.125 |
| |||
2007 |
| 3,860.5 |
| 3,480.2 |
| 3,619.9 |
| — |
| 0.06 - 2.00 |
| 0.12 - 3.00 |
| |||
Subtotal securitized mortgage borrowings |
|
| 16,455.7 |
| 17,800.5 |
|
|
|
|
|
|
| ||||
Accrued interest expense |
|
|
| — |
| 17.1 |
|
|
|
|
|
|
| |||
Unamortized securitization costs |
|
|
| — |
| (37.5 | ) |
|
|
|
|
|
| |||
Fair value adjustment |
|
|
| (4,958.6 | ) | — |
|
|
|
|
|
|
| |||
Total securitized mortgage borrowings |
|
| $ | 11,497.1 |
| $ | 17,780.1 |
|
|
|
|
|
|
| ||
(1) One-month LIBORLondon Interbank Offered Rate (LIBOR) was 5.3195%2.46 percent as of March 31, 2007.June 30, 2008.
(2) Interest rate margins are generally adjusted when the unpaid principal balance of the securitized mortgage borrowings is reduced to less than 10-20%10% - 20% of the original issuance amount.
Note J— Repurchase Liabilities (Discontinued Operations)
Reverse Repurchase AgreementsFacilities
Reverse
The Company’s reverse repurchase agreements, included in discontinued operations, are secured by the Company’s loans held-for-sale, restricted cash and certain REOs. The following table presents the outstanding balance of the Company’s reverse repurchase facilities areas of the dates indicated:
|
| Discontinued Operations |
| ||||
|
| as of June 30, |
| as of December 31, |
| ||
|
| 2008 |
| 2007 |
| ||
Reverse repurchase line (1) |
| $ | 220,225 |
| $ | 318,669 |
|
Warehouse line (2) |
| — |
| 18,021 |
| ||
Total |
| $ | 220,225 |
| $ | 336,690 |
|
(1) | This line, which is guaranteed by IMH, is no longer funding loans and was in technical default of several covenants, including warehouse borrowing reduction, delivery of financial statements and financial covenants. As described in Note L, the Company has entered into an agreement to restructure this line. |
(2) | This line was paid off in full in May 2008. |
Repurchase Reserve
When the Company sells loans through loan sales it is required to finance our warehouse lending operationsmake normal and customary representations and warranties about the loans to fund and purchase mortgages by the purchaser. The Company’s whole loan sale agreements generally require it to repurchase loans if the Company breaches a representation or warranty given to the loan purchaser. In addition, the Company may be required to repurchase loans as a result of borrower fraud or if a payment default occurs on a mortgage operations.loan shortly after its sale. During the second quarter of 2008, the Company sold $7.9 million of loans as compared to $68.1 million in the first quarter of 2007, these facilities amounted to $6.0 billion,2008. During the second quarter of which $1.2 billion2008, we negotiated the settlement of borrowings were outstanding at March 31, 2007. These facilities consist$4 million in repurchase claims. As of uncommitted lines, which may be withdrawn at any time by the lender,June 30, 2008 and committed lines. At MarchDecember 31, 2007, the Company obtained required waivershad a liability for losses on loans sold with representations and warranties totaling $12.9 million and $25.7 million, respectively, included in liabilities from discontinued operations.
20
Note K—Repurchase ReserveDiscontinued Operations
The liability for mortgage repurchases is maintained for the purpose of repurchasing previously sold mortgages, for various reasons, including early payment defaults or breach of representations or warranties. The repurchase reserve is to provide for losses from repurchased loans when they are subsequently resold or repriced. In determining the adequacy of the reserve for mortgage repurchases, management considers such factors as specific requests for repurchase, known problem loans, underlying collateral values, recent sales activity of similar loans and other appropriate information. The repurchase requests were $126.7 million at March 31, 2007 as compared to $182.0 million at December 31, 2006. For the quarter ended March 31,
During 2007, the Company recorded a provision for repurchasesannounced plans to exit substantially all of $11.8 million comparedits mortgage, commercial, retail, and warehouse lending operations. Consequently, the amounts related to a provisionthese operations are presented as discontinued operations in the Company’s consolidated statements of $10.3 millionoperations and its consolidated statements of cash flows, and the asset groups to be exited are reported as assets and liabilities of discontinued operations in its consolidated balance sheets for the same periodperiods presented.
The following table presents the discontinued operations’ condensed balance sheets at June 30, 2008 and December 31, 2007:
|
| Discontinued Operations |
| ||||
|
| as of June 30, |
| as of December 31, |
| ||
|
| 2008 |
| 2007 |
| ||
Balance Sheet Items: |
|
|
|
|
| ||
Loans held-for-sale |
| $ | 165,635 |
| $ | 279,659 |
|
Finance receivables |
| — |
| 12,458 |
| ||
Total assets |
| 203,320 |
| 353,250 |
| ||
Total liabilities |
| 253,334 |
| 405,341 |
| ||
Total stockholders’ deficit |
| $ | (50,014 | ) | $ | (52,091 | ) |
Included in 2006, included in non-interest income. The provision for repurchases increased as a result of an increase in estimated losses associated with outstanding repurchase requests.
During the quarter ended Marchtotal liabilities at June 30, 2008 and December 31, 2007 the Company sold $709.7is a lease liability of $9.6 million in whole loan sales compared to $2.8 billion during the same period in 2006. The Company maintains a $17.1and $10.9 million, reserverespectively, which is guaranteed by IMH, related to office space that was previously occupied by the representationsdiscontinued operations and warranties, associated with these sales as of March 31, 2007 compared to $15.3is no longer being used by the Company. Loans held-for-sale includes a $107.8 million and $118.4 million fair value adjustment at June 30, 2008 and December 31, 2006, which is included in other liabilities.2008, respectively.
The following tables present discontinued operations condensed statement of operations for the three and six month periods ended June 30, 2008 and 2007;
|
| Discontinued Operations |
| ||||
|
| For the Three Months Ended June 30, |
| ||||
|
| 2008 |
| 2007 |
| ||
Income Statement Items: |
|
|
|
|
| ||
Net interest income |
| $ | 1,543 |
| $ | 5,109 |
|
Provision for loan losses |
| — |
| (1,818 | ) | ||
Change in fair value of derivative instruments |
| 258 |
| 3,870 |
| ||
Other non-interest (expense) income |
| (8,612 | ) | (38,159 | ) | ||
Non-interest expense and income taxes |
| (4,237 | ) | (28,024 | ) | ||
Net loss |
| $ | (11,048 | ) | $ | (59,022 | ) |
|
| Discontinued Operations |
| ||||
|
| For the Six Months Ended June 30, |
| ||||
|
| 2008 |
| 2007 |
| ||
Income Statement Items: |
|
|
|
|
| ||
Net interest income |
| $ | 3,213 |
| $ | 10,622 |
|
Provision for loan losses |
| — |
| (2,061 | ) | ||
Change in fair value of derivative instruments |
| 112 |
| 567 |
| ||
Other non-interest income (expense) |
| 867 |
| (82,814 | ) | ||
Non-interest expense and income taxes |
| (14,552 | ) | (52,872 | ) | ||
Net loss |
| $ | (10,360 | ) | $ | (126,558 | ) |
21
Note L—Income Taxes
During the quarter ended March 31, 2007, income tax expense was $1.9 million as compared to $3.2 million during the same period in 2006. The amount of income tax expense for quarter ended March 31, 2007 was primarily due to the recognition of $4.1 million of tax expense related to the amortization of the beginning of the year deferred charge balance plus a $0.9 million increase in the valuation allowance for deferred tax assets, partially offset by a $3.1 million tax benefit arising from the refund of taxes paid attributable to the carryback of the 2007 net operating losses. The Company makes an estimate of the effective tax rate expected to be applicable for the fiscal year when providing for income tax expense. The Company has reserved all tax benefits that cannot be utilized by carrying losses back to years in which tax payments were made. During the quarter ended March 31, 2007 the total amount of benefits that have not been recognized totalled $27.3 million, based on the Company’s combined effective tax rate. Management has determined these benefits do not meet the more-likely-than-not recognition threshold under FIN 48 and this tax benefit has not been recognized in the Company’s financial statements. Additionally the Company paid $9 thousand and $43 thousand of interest and penalties related to taxes during the first quarter of fiscal 2007 and 2006, respectively, included in other expenses.
Note M—Subsequent Events
In April 2007,September 2008, the Company entered into a preliminaryan agreement to settlerestructure its reverse repurchase line with its remaining lender. The balance of this line was $220.2 million at June 30, 2008. The agreement removes all technical defaults from financial covenant noncompliance and any associated margin calls for the pending federalterm of the agreement. The agreement calls for certain targets including a reduction of the borrowings balance to $100 million in 18 months with an advance rate of no more than 65 percent of the unpaid principal balance and state derivative class action cases against$50 million in 24 months with an advance rate of no more than 55 percent of the Company.unpaid principal balance. By meeting these targets, the agreement term can extend to 30 months. The settlementagreement also calls for monthly principal paydowns of $750,000 for one month and $1.5 million thereafter until the earlier of the Company raising capital or the end of the agreement term. If the Company is successful in raising capital, approximately 10% of the gross proceeds will be required to be paid as an additional principal paydown and the monthly principal paydown is reduced to $750,000. The interest rate is LIBOR plus 325 basis points, and all cash collected from the securing mortgage loans is required to be paid to the lender. Accomplishing the restructuring of this reverse repurchase line allows the Company to manage the remaining loans on the line for the eventual collection, refinance, sale or securitization without the risk of receiving margin calls.
In July 2008, the Company executed a letter of intent, subject to certain conditions including the execution of definitive agreements, to acquire a definitive agreement and court approval. Underspecial servicing platform, whereby the settlement, all claims asserted against the officers and directors named as defendants in those actionsseller will be dismissed, with no admissioncontribute specified balances of wrongdoing on the part of any defendant and the Company will agree to certain corporate governance practices. In addition, the proposed settlement will provide for an aggregate cash payment of up to $300,000 in attorney’s fees subjectloans (mostly distressed) to the plaintiff’s applicationplatform in order to and approval byprovide sufficient cash flows to maintain the court. There are no other fees the Company expects to incur to settle these cases This amount will be paid by the Company’s insurance carriers and will have no effect on the Company’s consolidated statementbusiness during its initial operations.
22
ITEM 2: | MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS |
(dollars in thousands, except per share data or consolidated statement of financial position.as otherwise indicated)
14
ITEM 2:MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Unless the context otherwise requires, the terms “Company,” “we,” “us,” and “our” refer to Impac Mortgage Holdings, Inc. (the Company or IMH), a Maryland corporation incorporated in August 1995, and its subsidiaries, IMH Assets Corp. (IMH Assets), Impac Warehouse Lending Group, Inc. (IWLG), and Impac Funding Corporation (IFC), together with its wholly-owned subsidiaries Impac Secured Assets Corp. (ISAC), and Impac Commercial Capital Corporation (ICCC).
This report on Form 10-Q contains certain forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. Forward-looking statements, some of which are based on various assumptions and events that are beyond our control, may be identified by reference to a future period or periods or by the use of forward-looking terminology, such as “may,” “will,” “believe,” “expect,” “likely,” “should,” “could,” “anticipate,“” or similar terms or variations on those terms or the negative of those terms. The forward-looking statements are based on current management expectations. Actual results may differ materially as a result of several factors, including, but not limited to failure to achieve projected earnings levels; unexpected or greater than anticipated increasesthe following: the ongoing volatility in creditthe mortgage and bond spreads; themortgage-backed securities industry and our ability to generate sufficient liquidity;successfully manage through the current market environment; management’s ability to accesssuccessfully implement future strategies and initiatives; ability to meet liquidity needs from cash flows generated from the equity markets; increasedlong-term mortgage portfolio and master servicing fees; our ability to reduce operating expenses and other outstanding liabilities, such as the trust preferred obligations; our ability to reduce dividend payments on preferred stock; ability to continue to pay dividends on outstanding preferred stock; failure to sell, or achieve expected returns upon sale of, mortgage originationloans, including non-performing loans, in the secondary market due to market conditions, lack of interest or purchase expensesineffectual pricing; risks related to the restructuring of the existing reverse repurchase facility, such as completion of definitive agreements, which may be hindered by worsening economic conditions in the mortgage market, and potential difficulties in meeting conditions set forth in the definitive agreement; our ability to meet margin calls to the extent the reverse repurchase line is not restructured; our ability to obtain additional financing and the terms of any financing that reduce current liquidity position more than anticipated; continuedwe do obtain; our ability to raise additional capital; inability to effectively liquidate properties through auction process or otherwise thereby decreasing advisory fees; increase in price competition;loan repurchase requests and ability to adequately settle repurchase obligations; risks related to the acquisition of a special servicing platform, which will involve or require, among other things, continuing due diligence, which could reveal matters not now known that affect our decision to seek to complete the acquisition on different terms than those announced or at all, obtaining necessary approvals and consents, including regulatory approvals related to servicing, which consents and approvals may be delayed or unobtainable, difficulties and delays in raising,obtaining regulatory approvals for the proposed transaction, potential difficulties in meeting conditions set forth in the definitive purchase agreement, and the parties’ timely performance of their respective pre-closing covenants and the satisfaction of other conditions, some of which may be beyond the control of the parties or render the acquisition uneconomical; the Company’s ability to successfully integrate the new servicing platform with its existing services; our ability to identify and establish or invest in, and successfully manage and grow, businesses that may be outside of the businesses in which we historically have operated; impairments on our mortgage assets; increases in default rates or losses on mortgage loans underlying our mortgage assets; inability to raiseimplement strategies effectively to increase cure rates, reduce delinquencies or mitigate losses on acceptable terms, additional capital, either through equity offerings, lines of credit or otherwise; the ability to generate taxable income and to pay dividends; interest rate fluctuations on our assets that unexpectedly differ from those on our liabilities; unanticipated interest rate fluctuations; changes in expectations of future interest rates; unexpected increase in our loan repurchase obligations; unexpected increase in prepayment rates on our mortgages;mortgage loans; changes in assumptions regarding estimated loan losses or anfair value amounts; increase in loan losses; continueddefault rates on our mortgages; changes in yield curve; the ability of our common stock and Series B and C preferred stock to continue trading in an active market; the loss of executive officers and other key management employees; our ability to accessmaintain effective internal control over financial reporting and disclosure controls and procedures; the securitization markets or other funding sources, the availabilityadoption of financing and, if available, the terms of any financing; changes in markets which the Company serves, such as mortgage refinancing activity and housing price appreciation; the inability to agree upon or the court’s rejection of any proposed settlement in pending federal and state derivative class action cases against the Company; the Company’s or plaintiff’s inability or unwillingness to satisfy conditions to the proposed settlement; the adoption of new laws that affect our business or the business of people with whom we do business; changes in lawsinterest rate fluctuations on our assets that affectdiffer from our productsliabilities; the outcome of litigation or regulatory actions pending against us or other legal contingencies; and our business;compliance with applicable local, state and federal laws and regulations and other general market and economic conditions.
For a discussion of these and other risks and uncertainties that could cause actual results to differ from those contained in the forward-looking statements, see “Risk Factors” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in the Company’s Annual Report on Form 10-K for the period ended December 31, 2006,2007, the other reports we file under the Securities and Exchange Act of 1934, and the additional risk factors set forth below in this quarterly report. This document speaks only as of its date and we do not undertake, and specifically disclaim any obligation, to publicly release the results of any revisions that may be made to any forward-looking statements to reflect the occurrence of anticipated or unanticipated events or circumstances after the date of such statements.
23
The Mortgage Banking Industry and Discussion of Relevant Fiscal Periods
The mortgage banking industry is continually subjectvulnerable to current events that occur in the financial services industry. SuchThese events include changes in economic indicators, government regulation, interest rates, price competition, geographic shifts, disposable income, housing prices, market liquidity, market anticipation, and customer perception, as well as others. The factors that affect the industry change rapidly.rapidly and can be unforeseeable.
In this environment, mortgage banking companies generally anticipate
Current events, including the future marketplace, engage in hedging activities and continuously reassess business plans and strategies to effectively position themselves in the marketplace.
As a result, current eventsadoption of SFAS 159, can diminish the relevance of “quarter over quarter” and “year-to-date over year-to-date” comparisons of financial information. In such instances, the Company intendsattempts to present financial information in its ManagementManagement’s Discussion and Analysis of Financial Condition and Results of Operations that is the most relevant to its financial information.
General OverviewStatus of Operations, Liquidity and Capital Resources
We are a
In 2007 and 2008, management has been seriously challenged by the unprecedented turmoil in the mortgage real estate investment trust, or “REIT,” that is a nationwide acquirer, originator, sellermarket, including the following: significant increases in delinquencies and investorforeclosures; significant increases in credit-related losses; decline in originations; tightening of non-conforming Alt-A residential mortgages, or “Alt-A mortgages,”warehouse credit and to a lesser extent, small-balance, commercial mortgages and multi-family, or “commercial mortgages.” We also provide warehouse financing to originators of mortgages.
We operate four core businesses:
·the Long-Term Investment Operations conducted by IMH and IMH Assets;
· the Mortgage Operations conducted by IFC and ISAC;
· the Commercial Operations conducted by ICCC; and
· the Warehouse Lending Operations conducted by IWLG.
The REIT (IMH) is comprisedvirtual elimination of the long-term investment operations and the warehouse lending operations. The Taxable REIT Subsidiaries (TRS) include the Mortgage Operations and Commercial Operations which are subsidiaries of the REIT.
During the first quarter, the market conditions required us to focus on preserving liquidity.for loan securitizations. As such, we have taken steps to preserve liquidity in the first quarter and as a result, have maintained liquidity levels consistent with year-end balances. We aggressively settled repurchase request claims. We have closely monitoredthe Company discontinued certain operations, resolved and terminated all but one of our reverse repurchase facilities to manageand settled a portion of our margin call exposure. Additionally we have decreased the period of time which the loans are outstanding on the facilities by selling loans more frequently. Duringrepurchase claims, while also reducing our operating costs and liabilities. In the first quarter of 2008, the Company also entered into an agreement with a real estate marketing company to generate advisory fees.
One of our goals has been to align the costs of our operations to the cash flows from our long-term mortgage portfolio (residual interests in securitizations), master servicing portfolio and real estate advisory fees. However, we have intentionally maintained certain personnel to allow us to explore future business opportunities should we be able to raise capital. As part of our other goals, we intend to 1) reduce or eliminate dividend payments on the Company’s preferred stock, and 2) modify the Company’s trust preferred securities, which may include reducing the interest rate.
In September 2008, the Company entered into an agreement to restructure its reverse repurchase line with its remaining lender. The balance of this line was $220.2 million at June 30, 2008. The agreement removes all technical defaults from financial covenant noncompliance and any associated margin calls for the term of the agreement. The agreement calls for certain targets including a reduction the borrowings balance to $100 million in 18 months with an advance rate of no more than 65 percent of the unpaid principal balance and $50 million in 24 months with an advance rate of no more than 55 percent of the unpaid principal balance. By meeting these targets, the agreement term can extend to 30 months. The agreement also calls for monthly principal paydowns of $750,000 for one month and $1.5 million thereafter until the earlier of the Company raising capital or the end of the agreement term. If the Company is successful in raising capital, approximately 10% of the gross proceeds will be required to be paid as an additional principal paydown and the monthly principal paydown is reduced to $750,000. The interest rate is LIBOR plus 325 basis points, and all cash collected from the securing mortgage loans is required to be paid to the lender. Accomplishing the restructuring of this reverse repurchase line allows the Company to manage the remaining loans on the line for the eventual collection, refinance, sale or securitization without the risk of receiving margin calls.
In order to reduce dividend payments on its preferred stock, the Company is considering exchanging the preferred stock for common stock. In July 2008, our stockholders approved the potential issuance of common shares in excess of 20 percent of our existing common shares. This exchange could offer the current preferred stockholders greater liquidity as common stockholders.
We are currently exploring opportunities to raise capital so that we may accomplish several strategic initiatives, which may include strategic acquisitions, acquiring a special servicing platform and investing in distressed mortgage assets and related securities. Raising additional capital through the sale of securities could significantly dilute the current common stockholders. There can be no assurance that we will be successful in accomplishing our goal to raise the capital needed to implement our strategic initiatives.
We earn advisory fees from a real estate marketing company specializing in the marketing and disposition of foreclosed properties. During the three and six months ended June 30, 2008, we earned $4.7 million and $8.5 million, respectively, from this relationship. The amount of real estate advisory fees we receive from this relationship are based on numerous factors, including real estate market conditions, the level of foreclosure activity, the ability of the marketing company to attract new business, and the Company retaining our CEO and avoiding liquidation. The agreement terminates in 2010 with the Company having an option to extend the agreement for an additional three years.
In July 2008, the Company executed a letter of intent, subject to execution of definitive agreements, to acquire a special servicing platform, whereby the seller will contribute specified balances of loans (mostly distressed) to the platform in order to provide sufficient cash flows to maintain the business during its initial operations. We believe this special servicing platform, combined with our current and anticipated businesses, will create a fully integrated platform that would be utilized to take advantage of opportunities within the distressed mortgage investment market.
24
There can be no assurance that we will be successful in accomplishing our objectives outlined above. In the event that we do not raise capital, we may not be able to make any of the acquisitions or implement the initiatives described above. Also, there can be no assurance that the restructuring of the trust preferred securities or the preferred stock will occur. In this event, we intend to reduce operating expenses to a level that is supportable by the revenues from the existing long-term mortgage portfolio (residual interests in securitizations), master servicing portfolio and real estate advisory fees. Nevertheless, if we are not successful in completing the objectives outlined above, we may not be able to meet our contractual obligations for the next year, including repayment of the reverse repurchase line, interest payments on trust preferred securities and preferred stock dividends.
At June 30, 2008, the Company had $24.5 million in stockholders’ equity. After reducing total stockholders’ equity by the $161.8 million in preferred stock liquidation value, our common equity deficit was $(137.3) million or $(1.80) per share.
To understand the financial position of the Company better, we believe it is important to understand the composition of the Company’s stockholders’ equity (deficit) and to which segment of the business it relates. At June 30, 2008, the equity (deficit) within our continuing and discontinued operations was comprised of the following significant assets and liabilities:
|
| Condensed Components of Stockholders’ Equity (Deficit) by Segment |
| |||||||
|
| As of June 30, 2008 |
| |||||||
|
| Continuing |
| Discontinued |
|
|
| |||
|
| Operations |
| Operations |
| Total |
| |||
Cash |
| $ | 25,971 |
| $ | 159 |
| $ | 26,130 |
|
Residual interests in securitizations (1) |
| 41,796 |
| — |
| 41,796 |
| |||
Mortgage servicing rights (1) |
| 11,737 |
| — |
| 11,737 |
| |||
Advisory fees receivable |
| 4,618 |
| — |
| 4,618 |
| |||
Trust preferred securities ($99,244 par) |
| (46,266 | ) | — |
| (46,266 | ) | |||
Repurchase liabilities (2) |
| — |
| (55,245 | ) | (55,245 | ) | |||
Lease liability (3) |
| — |
| (9,559 | ) | (9,559 | ) | |||
Deferred charge |
| 28,684 |
| — |
| 28,684 |
| |||
Net other assets |
| 7,982 |
| 14,631 |
| 22,613 |
| |||
Stockholders’ equity (deficit) |
| $ | 74,522 |
| $ | (50,014 | ) | $ | 24,508 |
|
(1) Included in mortgage servicing rights is $10.1 million in master servicing rights, included in securitized mortgage collateral, associated with our consolidated securitizations.
(2) Balance includes the net amount owed to our lender, which is guaranteed by IMH, and the repurchase reserve.
(3) Guaranteed by IMH.
Continuing operations
We currently have three primary sources of cash earnings:
· cash flows from the long-term mortgage portfolio;
· master servicing fees from the long-term mortgage portfolio; and
· real estate advisory fees
Since our consolidated and unconsolidated securitization trusts are non-recourse, we have netted trust assets and liabilities to more simply present the Company’s interest in these trusts, which are considered our residual interests in securitizations. We receive cash flows from our residual interests in securitizations to the extent they are available after required distributions to bondholders and maintaining overcollateralization levels within the trusts. The estimated fair value of the residual interests, represented by the difference in the fair value of trust assets (excluding the $10.1 in master servicing rights included in the basis of securitized mortgage collateral) and trust liabilities, was $41.8 million at June 30, 2008.
The Company acts as the master servicer for mortgages included in our CMO and REMIC securitizations. The master servicing fees we earn are generally 0.03 percent per annum on the declining principal balances of these mortgages plus
25
interest income on cash held until remitted to investors. Master servicing rights retained in connection with consolidated securitizations are included in securitized mortgage collateral in the Company’s consolidated balance sheet. Master servicing rights retained in connection with unconsolidated securitizations are included in other assets. The carrying amount of master servicing rights was $11.7 million at June 30, 2008, including $10.1 million included in securitized mortgage collateral.
We earn advisory fees and expect to receive significant cash flows from a real estate marketing company specializing in the marketing and disposition of foreclosed properties. During the three and six months ended June 30, 2008, we earned $4.7 million and $8.5 million, respectively, from this relationship. Real estate advisory fees from this relationship are based on numerous factors, including real estate market conditions, the level of foreclosure activity, the ability of this company to attract new business, retention of our CEO and avoiding liquidation. The agreement terminates in 2010 with the Company having an option to extend the agreement for an additional three years.
For the three months ended June 30, 2008 and 2007, we liquidated $52.0paid $2.0 million and $3.7 million in delinquent loansinterest on trust preferred securities and preferred stock dividends, respectively. For the six months ended June 30, 2008 and 2007, we paid $4.0 million and $7.4 million in interest on trust preferred securities and preferred stock dividends, respectively. As of the filing date of this report, the Company is current on all dividend payments.
At June 30, 2008, we had deferred charges of $28.7 million representing the deferral of income tax expense on inter-company profits that resulted from the sale of mortgages from taxable subsidiaries to both manage any margin call exposure onIMH in prior years. Net other assets include $2.9 million in premises and equipment, $2.3 million in investment in capital trusts and $2.4 million in prepaid expenses.
At June 30, 2008, cash within our reverse repurchase facilities as well as convert mortgage loans into cash.
Also, as discussed in our Form 10-K, in the first quarter, we added a new reverse repurchase facility with $1.0 billion in capacity and we renewed another reverse repurchase facility with $1.5 billion capacity extending the maturitycontinuing operations decreased to March 2008. We continue to complete securitizations, totaling $2.4 billion in the first quarter, to minimize exposure to margin calls and keep inventory low on these facilities. The reverse repurchase balance$26.0 million from $32.9 million at March 31, 2007 was $1.2 billion with a total capacity of $6.0 billion as compared2008. The decrease during the quarter is primarily related to $1.9 billion outstanding and $5.7 billioncash flows from our residual interests in capacity at December 31, 2006.
Although we expect reduced loan volume as comparedsecuritizations have started to 2006, current market conditions have created other opportunties for the Company. We have continued to price our loans for profitability which has resulted in reduced production volumes from the fourth quarter of 2006. We have also seen improvements in our adjusted net interest margindecline as a result of decreased amortizations dueincreased credit losses and increases in interest rates.
Discontinued operations
The Company’s most significant liabilities at June 30, 2008 relate to lower actualits repurchase liabilities and expected prepaymentsa lease liability within discontinued operations.
The repurchase liabilities consist of a repurchase reserve and longer durationthe net amount owed to our lenders which is collateralized by loans held-for-sale, restricted cash balances and certain real estate owned and other assets. During the quarter ended June 30, 2008, our $7.5 million warehouse line was fully paid off. The balance of our reverse repurchase line was approximately $220.2 million at June 30, 2008. We are currently distributing all principal and interest received from the collateral securing the reverse repurchase line to the lender. As described above, in September 2008, the Company entered into an agreement to restructure this line.
We were required to make normal and customary representations and warranties about the loans we had previously sold to investors. Our whole loan sale agreements generally required us to repurchase loans if we breached a representation or warranty given to the loan purchaser. In addition, we also could be required to repurchase loans as a result of borrower fraud or if a payment default occurs on a mortgage loan shortly after its sale. During the quarter, the repurchase liability increased $0.5 million to $12.9 million. Determination of the loansrepurchase liability is an estimate of losses from expected repurchases, and is based, in part, on the recent settlement of claims.
In connection with the discontinuation of our non-conforming mortgage, retail mortgage, warehouse lending and commercial operations, a significant amount of office space that was previously occupied is no longer being used by the Company. At June 30, 2008, the Company had a liability of $9.6 million, representing the present value of the minimum lease payments over the remaining life of the lease, offset by the expected proceeds from sublet revenue related to this office space.
The mortgage market faced continued adversity through the filing date of this document as the continued broad repricing of mortgage credit risk continued the severe contraction in market liquidity. Furthermore, the market has continued to try to quantify the ultimate loss rates that are going to be experienced in the portfolio offsetunderlying assets in asset backed securities.
Conditions in the secondary markets (the markets in which we historically sold or securitized mortgage loans), which dramatically worsened during the third quarter of 2007, continue to be depressed as investor concerns over credit quality and
26
a weakening of the United States housing market have remained high. As a result, the capital markets remain very volatile and illiquid and have effectively been unavailable to the Company. The Company believes the existing conditions in the secondary markets are unprecedented and, as such, inherently involve significant risks and uncertainty. These conditions could continue to adversely impact the performance of our long-term investment portfolio. Until bond spreads and credit performance return to more historical levels, it will be impossible for the Company to execute securitizations and loan sales. As a result, in 2007, the Company was forced to discontinue its correspondent, retail, wholesale and commercial mortgage operations as well as the warehouse lending operations, in response to the market conditions.
We believe several converging factors led to the broad repricing, including general concerns over the decline in home prices, the rapid increase in the number of delinquent loans (including Alt-A loans), the reduced willingness of investors to acquire commercial paper backed by mortgage collateral, the resulting contraction in market liquidity and availability of financing lines, the numerous rating agency downgrades of securities, and the increase in supply of securities potentially available for sale.
The downward spiral of negative pricing adjustments on assets had a compounding effect as lower prices led to increased lender margin calls for some market participants, which in turn, forced additional selling, causing yet further declines in prices. These events continued to multiply throughout this year.
Normal market trading activity through the second quarter of 2008 was unusually light as uncertainty related to future loss estimates and the lack of liquidity made it difficult for willing buyers and sellers to agree on prices. This condition was particularly acute with respect to securities backed by Alt-A loans where market participants were setting price levels based on widely varied opinions about future loan performance and loan loss severity. While the early credit losses. performance for these securities has been clearly far worse than initial expectations, the ultimate level of realized losses will largely be influenced by events that will likely unfold over the next several years, including the severity of housing price declines and the overall strength of the economy.
The deteriorating market for residential real estate loans is illustrated in the ABX 2006-1 indices shown below in subprime securitization bonds by initial rating. This earliest ABX index shows market prices for a designated group of subprime securities by credit rating. The index does not include any IMH bonds. It is shown here as an illustration of the price volatility in the general mortgage market since the beginning of last year and does not reflect actual pricing on IMH bonds which are backed by Alt-A loans rather than subprime. There is currently no comparable index for Alt-A mortgage product, but the general direction and magnitude of price movement in the index is reflective of the price movement experienced by the Company.
27
Impact of Recent Market Activity
As a result of the Company’s inability to sell or securitize non-conforming loans, the Company discontinued funding loans. Because the Company stopped funding loans, the Company discontinued substantially all of its mortgage (including commercial) and warehouse lending operations during the second half of 2007.
In addition to take advantagethe inability of whatthe Company to sell loans, the Company’s investment in securitized non-conforming loans has deteriorated in value primarily from estimated losses. As a result of continued deterioration in the real estate market through June 30, 2008, the Company increased its loan loss estimates primarily due to increased delinquencies in its long-term investment portfolio and increased loss severities related to the sale and liquidation of real estate owned properties. The decline in single-family home prices can be seen in the chart below.
28
As depicted in the chart above, average home prices peaked in 2006 at 226.29 and continued their dramatic decline through June 2008. The Standard & Poor’s/Case-Shiller 10-City Composite Home Price Index (the Index) for June 2008 was 180.38 (with the base of 100.00 for January 2000) and hasn’t been this low since June 2004 when the Index was 179.45. Beginning in the third quarter of 2007, the Company believes there is a correlation between the borrowers’ perceived equity in their homes and defaults. The original loan-to-value (defined as loan amount as a percentage of collateral value, “LTV”) and original combined loan-to-value (defined as first lien plus total subordinate liens to collateral value, “CLTV”) ratios of single-family mortgage remaining in the Company’s securitized mortgage collateral as of June 30, 2008 was 73 percent and 84 percent, respectively. The LTV and CLTV ratios may have increased from origination date as a result of the deterioration of the real estate market. We believe that home prices that have declined below the borrower’s original purchase price have a higher risk of default within our portfolio. Based on the Index, home prices have declined 20 percent through June 2008. Further, we believe will be attractive returnsthe home prices in California and Florida, the states with the highest concentration of our mortgages, have declined even further than the Index. As a result, we have dramatically increased our loan loss estimates, which are a primary assumption used in the distressed loan market, we have invested in an asset management group that will purchasevaluation of securitized mortgage collateral and liquidate distressed assets. In addition, we are reviewing other strategies to protect our adjusted net interest margin, reduce production costs and selectively maintain our mortgage operations infrastructure in preparation for when the market becomes more favorable.borrowings.
We define
Several of the critical accounting policies as those that are important to the portrayal of our financial condition and results of operations require management to make difficult and requirecomplex judgments that rely on estimates and assumptions based on our judgmentabout the effect of matters that are inherently uncertain due to the impact of changing market conditions and/or consumer behavior. We believe our most critical accounting policies relate to the valuation of: (1) assets and liabilities that are highly dependent on internal valuation models and assumptions rather than market quotations (see Fair Value of Financial Instruments discussion below); (2) derivatives and other hedging instruments; (3) loans held-for-sale, including estimates of fair value, and related lower of cost or market (LOCOM) valuation reserve; and (4) repurchase reserve (included in liabilities of discontinued operations). Refer to our 2007 Form 10-K for further discussion of our critical accounting policies and judgments.
Management discusses its critical accounting policies and related estimates with the performanceCompany’s Audit Committee on a regular basis. We believe the judgments, estimates and assumptions used in the preparation of our consolidated financial statements are appropriate given the factual circumstances at the time. However, given the sensitivity of our consolidated financial statements to these critical accounting policies, the use of other judgments, estimates and assumptions could result in material differences in our results of operations or financial condition.
29
Fair Value of Financial Instruments
The Company adopted SFAS 157 on January 1, 2008. SFAS 157 defines fair value, establishes a framework for measuring fair value and outlines a fair value hierarchy based on the inputs to valuation techniques used to measure fair value. SFAS 157 defines fair value as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date (also referred to as an exit price). SFAS 157 categorizes fair value measurements into a three-level hierarchy based on the extent to which the measurement relies on observable market inputs in measuring fair value. Level 1, which is the highest priority in the fair value hierarchy, is based on unadjusted quoted prices in active markets for identical assets or liabilities. Level 2 is based on observable market-based inputs, other than quoted prices, in active markets for identical assets or liabilities. Level 3, which is the lowest priority in the fair value hierarchy, is based on unobservable inputs. Assets and liabilities are classified within this hierarchy in their entirety based on the lowest level of any input that is significant to the fair value measurement.
The use of fair value to measure our financial instruments is fundamental to our financial statements and is a critical accounting estimate because a substantial portion of our assets and liabilities are recorded at any given time. estimated fair value. Financial instruments classified as Level 2 in our consolidated financial statements are valued primarily utilizing inputs and assumptions that are observable in the marketplace, and which can be derived from observable market data or corroborated by observable levels at which transactions are executed in the marketplace. Because financial instruments classified as Level 3 are generally based on unobservable inputs, the process to determine fair value is generally more subjective and involves a high degree of management judgment and assumptions. These assumptions may have a significant effect on our estimates of fair value, and the use of different assumptions, as well as changes in market conditions, could have a material effect on our results of operations or financial condition.
In determiningconjunction with the adoption of SFAS 157, the Company prospectively adopted SFAS 159 as of January 1, 2008. SFAS 159 provides an option on an instrument-by-instrument basis for most financial assets and liabilities to be reported at fair value with changes in fair value reported in earnings. After the initial adoption, the election is made at the acquisition of a financial asset, financial liability, or a firm commitment and it may not be revoked. Management believes that the adoption of SFAS 159 provides an opportunity to mitigate volatility in reported earnings and provides a better representation of the economics of the trust assets and liabilities.
Under the SFAS 159 transition provisions, the Company elected to apply fair value accounting to certain financial instruments (certain trust assets, trust liabilities and trust preferred securities) held at January 1, 2008. Differences between the December 31, 2007 carrying values and the January 1, 2008 fair values were recognized as an adjustment to retained deficit. The adoption of SFAS 159 resulted in a $1.1 billion decrease to retained deficit on January 1, 2008 from $(1.4) billion at December 31, 2007 to $(308.8) million at January 1, 2008.
Recurring basis
Investment Securities Available-for-Sale. Pursuant to the Company’s adoption of SFAS 159, the Company elected to carry all of its investment securities available-for-sale at fair value. These investment securities are recorded at fair value and consist primarily of non-investment grade mortgage-backed securities. The fair value of the investment securities are measured based upon our expectation of inputs that other market participants would use. Such assumptions include our judgments about the underlying collateral, prepayment speeds, credit losses, and certain other factors. Given the market disruption and lack of observable market data as of June 30, 2008, the fair value of the investment securities available-for-sale were measured using significant internal expectations of market participants’ assumptions. At June 30, 2008, investment securities available-for-sale were classified as Level 3 fair value measurements.
Securitized Mortgage Collateral – Pursuant to the Company’s adoption of SFAS 159, the Company elected to carry all of its securitized mortgage collateral at fair value. These assets consist primarily of Alt-A mortgage loans securitized between 2002 and 2007. Fair value measurements are based on the Company’s estimated cash flow models, which accounting policies meet this definition, we consideredincorporate assumptions, inputs of other market participants and quoted prices for the underlying bonds. The Company’s assumptions include our policiesexpectations of inputs that other market participants would use. These assumptions include our judgments about the underlying collateral, prepayment speeds, credit losses, and certain other factors. At June 30, 2008, securitized mortgage collateral was classified as Level 2 or Level 3 measurements depending on the observability of significant inputs to the model.
30
Securitized Mortgage Borrowings - - Pursuant to the Company’s adoption of SFAS 159, the Company elected to carry all of its securitized mortgage borrowings at fair value. These borrowings consist of individual tranches of bonds issued by securitization trusts and are primarily backed by Alt-A mortgage loans. Fair value measurements include our judgments about the underlying collateral assumptions such as prepayment speeds, credit losses, and certain other factors and are based upon quoted prices for the individual tranches of bonds, if available. At June 30, 2008, securitized mortgage borrowings were classified as Level 2 or Level 3 measurements depending on the observability of significant inputs to the model.
Trust Preferred Securities - - Pursuant to the Company’s adoption of SFAS 159, the Company elected to carry all of its trust preferred securities at fair value. These securities were measured based upon using other preferred stock issued by the Company adjusted for differences between the securities. The fair value of the trust preferred securities resulted in adjustments to reduce the par value for the following factors:
·Stated interest rate adjustments to account for the stated yield difference between the trust preferred securities and the preferred stock issued by the Company,
·Liquidity adjustments to reflect the presence of a lack of an actively traded market for these securities.
·Preference adjustments to reflect the rights of the trust preferred securities as compared to the preferred securities.
At June 30, 2008 trust preferred securities were classified as Level 3 measurements.
Derivative Assets and Liabilities.For non-exchange traded contracts, fair value is based on the amounts that would be required to settle the positions with respectthe related counterparties as of the valuation date. Valuations of derivative assets and liabilities reflect the value of the instruments including the values associated with counterparty risk. With the issuance of SFAS 157, these values must also take into account the Company’s own credit standing, to the extent applicable, thus included in the valuation of ourthe derivative instrument is the value of the net credit differential between the counterparties to the derivative contract. At June 30, 2008, derivative assets and liabilities were classified as Level 2 measurements.
Non-recurring basis
The Company is required to measure certain assets at fair value from time-to-time. These fair value measurements typically result from the application of specific accounting pronouncements under GAAP. The fair value measurements are considered non-recurring fair value measurements under SFAS 157.
Loans Held-for-Sale - Loans held-for-sale for which the fair value option was not elected are carried at lower of cost or market (LOCOM). When available, such measurements are based upon what secondary markets offer for portfolios with similar characteristics, and estimatesare considered Level 2 measurements. If market pricing is not available, such measurements are significantly impacted by our expectations of other market participants’ assumptions, and are considered Level 3 measurements. Loans held-for-sale, which are primarily included in assets of discontinued operations, are considered Level 3 measurements at June 30, 2008.
Mortgage Servicing Rights - Mortgage servicing rights (MSR), for which the fair value option was not elected are carried at LOCOM. MSRs are not traded in an active market with observable prices. The Company utilizes internal pricing processes to estimate the fair value of MSRs, which are based on assumptions the Company believes would be used by market participants. MSRs, which are included in determiningother assets, are considered Level 3 measurements at June 30, 2008.
We continue to refine our valuation methodologies as markets and products develop and the pricing for certain products becomes more or less transparent. While we believe our valuation methods are appropriate and consistent with those valuations. We believeof other market participants, the most critical accounting issues that requireuse of different methodologies or assumptions to determine the most complex and difficult judgments and that are particularly susceptible to significant change to our financial condition and resultsfair value of operations include the allowance for loan losses, derivativecertain financial instruments securitizationcould result in a materially different estimate of financial assetsfair value as financing versus sale, calculation of repurchase reserve, and amortization of loan premiums and securitization costs.the reporting date.
Allowance for REO LossesInterest Income and Expense
We provide an allowance for REO losses for mortgages held as real estate owned. In evaluating
Pursuant to the adequacyadoption of SFAS 159 on January 1, 2008, interest income and expense on the allowance forcollateral and borrowings in our securitized trusts is based on effective yields. The effective yield is the REO losses, management takes several items into consideration. When real estate is acquired in settlement of loans, or other real estate owned,rate used to derive the mortgage is written-down to a percentage of the property’s appraised value or broker’s price opinion less anticipated selling costs and including the mortgage insurance expected to be received. Subsequent changes in the net realizablefair value of the real estate ownedsecuritized trusts. Interest income and expense is reflected as an allowance for REO losses.calculated based on the estimated effective yields in the trusts multiplied by the fair value of the mortgage collateral and borrowings.
31
Selected Financial Highlights Results for the First Quarter of 2007Three Months Ended June 30, 2008
·Continuing Operations Estimated taxable income per diluted share was $0.25 compared to $0.19 for the fourth quarter of 2006 and $0.36 for the first quarter of 2006;
· Cash dividends declared per common share were $0.10 for the first quarter of 2007 compared to $0.25 for the fourth quarter of 2006 and $0.25 for the first quarter of 2006;
· Total assets were $23.3 billion as of March 31, 2007 compared to $23.6 billion as of December 31, 2006 and $24.8 billion as of March 31, 2006;
· Book value per common share was $9.15 as of March 31, 2007 compared to $11.15 as of December 31, 2006 and $13.87 as of March 31, 2006;
· The mortgage operations acquired and originated $2.2 billion of primarily Alt-A mortgages compared to $4.1 billion for the fourth quarter of 2006 and $2.1 billion for the first quarter of 2006;
· The commercial mortgage operations originated $196.9 million of commercial mortgages compared to $269.6 million for the fourth quarter of 2006 and $202.8 million for the first quarter of 2006; and
· The long-term investment operations retained for investment $2.2 billion of primarily Alt-A mortgages and $234.9 million of commercial mortgages compared to $2.7 billion of primarily Alt-A mortgages and $411.9 million of commercial mortgages for the fourth quarter of 2006 and $579.7 million of primarily Alt-A mortgages and $114.7 million of commercial mortgages for the first quarter of 2006.
First Quarter 2007 vs. Fourth Quarter 2006 GAAP Net Earnings
|
| For the Three Months Ended, |
| |||||||||
|
| March 31, |
| December 31, |
| Increase |
| % |
| |||
Interest income |
| $ | 342,821 |
| $ | 327,484 |
| $ | 15,337 |
| 5 | % |
Interest expense |
| 329,366 |
| 334,393 |
| (5,027 | ) | (2 | ) | |||
Net interest income |
| 13,455 |
| (6,909 | ) | 20,364 |
| 295 |
| |||
Provision for loan losses |
| 29,374 |
| 44,038 |
| (14,664 | ) | (33 | ) | |||
Net interest expense after provision for loan losses |
| (15,919 | ) | (50,947 | ) | 35,028 |
| 69 |
| |||
Total non-interest income |
| (70,562 | ) | 15,772 |
| (84,334 | ) | (547 | ) | |||
Total non-interest expense |
| 33,321 |
| 30,434 |
| 2,887 |
| 9 |
| |||
Income tax (benefit) expense |
| 1,866 |
| (6,104 | ) | 7,970 |
| 131 |
| |||
Net loss |
| $ | (121,668 | ) | $ | (59,505 | ) | $ | (62,163 | ) | (104 | )% |
Net loss per share — diluted |
| $ | (1.65 | ) | $ | (0.83 | ) | $ | (0.82 | ) | (99 | )% |
Dividends declared per common share |
| $ | 0.10 |
| $ | 0.25 |
| $ | (0.15 | ) | (60 | )% |
The results of operations for the first quarter of 2007 resulted in a net loss of $121.7$16.4 million or $1.65 per share as compared to a net loss of $59.5$93.5 million or $0.83 per share, for the fourthsecond quarter of 2006. The decrease was2007.
·Net interest income of $4.3 million for the second quarter of 2008 primarily duefrom our long-term mortgage portfolio as compared to the $38.3 million decrease in the change in fair value of the derivative instruments, a $16.7 million decrease in gains from the selling of loans, an $11.7 million increase in the provision for repurchases, offset by an increase in net interest income of $20.4 million.
Included in net earnings was a mark-to-market loss in$7.9 million for the fair value of derivative instruments. During the firstsecond quarter of 20072007.
·Master servicing fees of $1.5 million for the loss increased to $58.7 millionsecond quarter of 2008 as compared to a$1.7 million for the second quarter of 2007.
·Real estate advisory fees of $4.7 million for the second quarter of 2008 as compared to zero for the second quarter of 2007.
Discontinued Operations
·Net loss of $20.4$11.0 million duringcompared to a net loss of $59.0 million for the fourthsecond quarter 2006. The change in theof 2007.
·Reverse repurchase agreements were $220.2 million compared to $336.7 million at December 31, 2007.
·Loans held-for-sale were $165.6 million, including a fair value adjustment of the derivative instruments was primarily the result$106.9 million at June 30, 2008 compared to loans held-for-sale of $37.5$189.8 million, in cash receipts from derivatives and partially the result of changes in the expectation of future interest rates.
including a $107.8 million fair value adjustment at March 31, 2008. The decreasedecline in gains from the sale of loans was the result of a decrease in the execution price of loans sold, as a result of unfavorable market conditions and an increase in the volume of loans for sale in the marketplace. The increase in the provision for repurchases is due to an increase in the actual losses experienced in the first quarter on loans re-sold or re-priced. The decrease in the value of loans is a result of the saturation of loans for sale combined with the decreases in the value of the underlying collateral, as home prices in many regions continued to fall from the fourth quarter of 2006. Also affecting the value of the loans held-for-sale is primarily due to prepayments and loan sales.
Selected Financial Results for the levelSix Months Ended June 30, 2008
Continuing Operations
·Net loss of non-performing loans and$20.9 million compared to a net loss of $147.7 million for the levelfirst six months of pending foreclosures which makes additional home value decreases more likely.2007.
·Net interest income increased primarily as a result of the increases to the interest rates on our adjustable rate mortgages as well as an approximate $9.4$11.6 million increase to interest income, resulting from a decrease in the amortization of loan premiums. The amortization of loan premiums decreased as the Company adjusted the amortization based upon the actual prepayments for the first quarter and reduced its expected prepaymentssix months of 2008 primarily from our long-term mortgage investment portfolio as compared to net interest income of $15.8 million for future periods.the first six months of 2007.
·Master servicing fees of $2.9 million for the first six months of 2008 as compared to $3.2 million for the first six months of 2007.
·Real estate advisory fees of $8.5 million for the first six months of 2008 as compared to zero for the first six months of 2007.
Discontinued Operations
·Net loss of $10.4 million compared to a net loss of $126.6 million for the first six months of 2007.
Because dividend payments are based on estimated
While the Company has generated significant net operating loss carryforwards in recent periods, we do not expect to generate sufficient taxable income dividends mayin future periods to be more or less thanable to realize these tax benefits. Therefore, we have recognized a full valuation allowance against these net earnings. As such, we believe that the disclosure of estimated taxable income available to common stockholders, which is a non-generally accepted accounting principle, or “non-GAAP,” financial measurement, is useful information foroperating loss carryforwards in our investors.consolidated balance sheets.
The following table presents a reconciliation of net (loss) earnings (GAAP) to estimated taxable income available to common stockholders for the periods indicated (in thousands, except per share amounts):
| For the Three Months Ended (1) |
| ||||||||
|
| March 31, |
| December 31, |
| March 31, |
| |||
|
| 2007 |
| 2006 |
| 2006 |
| |||
Net (loss) earnings |
| $ | (121,668 | ) | $ | (50,550 | ) | $ | 85,566 |
|
Adjustments to net (loss) earnings: (2) |
|
|
|
|
|
|
| |||
Loan loss provision (3) |
| 38,734 |
| 39,766 |
| 150 |
| |||
Tax deduction for actual loan losses (3) |
| (11,262 | ) | (11,070 | ) | (4,406 | ) | |||
GAAP earnings on REMICs (4) |
| (14,932 | ) | (11,766 | ) | (1,377 | ) | |||
Taxable income on REMICs (5) |
| 12,843 |
| 15,685 |
| 6,098 |
| |||
Change in fair value of derivatives (6) |
| 54,623 |
| 19,305 |
| (46,963 | ) | |||
Dividends on preferred stock |
| (3,722 | ) | (3,682 | ) | (3,672 | ) | |||
Net loss (earnings) of taxable REIT subsidiaries (7) |
| 58,667 |
| 14,997 |
| (1,854 | ) | |||
Dividend from taxable REIT subsidiaries (8) |
| — |
| — |
| — |
| |||
Elimination of inter-company loan sales transactions (9) |
| 5,471 |
| 1,960 |
| (6,539 | ) | |||
Miscellaneous adjustments |
| 108 |
| (169 | ) | 120 |
| |||
Estimated taxable income available to common stockholders’ (10) |
| $ | 18,862 |
| $ | 14,476 |
| $ | 27,123 |
|
Estimated taxable income per diluted common share (10) |
| $ | 0.25 |
| $ | 0.19 |
| $ | 0.36 |
|
Diluted weighted average common shares outstanding |
| 76,084 |
| 76,084 |
| 76,379 |
|
(1) Estimated taxable income includes estimates of book to tax adjustments and can differ from actual taxable income as calculated when we file our annual corporate tax return. Since estimated taxable income is a non-GAAP financial measurement, the reconciliation of estimated taxable income available to common stockholders to net earnings is intended to meet the requirements of Regulation G as promulgated by the SEC for the presentation of non-GAAP financial measurements. To maintain our REIT status, we are required to distribute a minimum of 90%90 percent of our annual taxable income to our stockholders.
(2) Certain adjustments are made to net earnings in order to calculate estimated taxablestockholders, as well as meet certain asset and income due to differencestests set forth in the way revenues and expenses are recognized under the two methods.
(3) To calculate estimated taxable income, actual loan losses are deducted. For the calculation of net earnings, GAAP requires a deduction for estimated losses inherent in our mortgage portfolios in the form of a provision for loan losses, which are generally not deductible for tax purposes. Therefore, as the estimated losses provided for GAAP are realized, the losses will negatively and may materially impact future taxable income.
(4) Includes GAAP amounts related to the REMIC securitizations, which were treated as secured borrowings for GAAP purposes and sales for tax purposes. The REMIC GAAP income excludes the provision for loan losses recorded that may relate to the REMIC collateral included in securitized mortgage collateral. The Company does not have any specific valuation allowances recorded as an offset to the REMIC collateral.
(5) Includes amounts that are taxable toInternal Revenue Code. If the Company relatedfails to meet these requirements, or elects to terminate its residual interest in the securitizations,status as the REMICs are accounted for as sales in its tax filings.
(6) The mark-to-market change for the valuation of derivatives at IMH is income or expense for GAAP financial reporting but is not included as an addition or deduction for taxable income calculations, until realized.
(7) Represents net earnings of IFC and ICCC, our taxablea REIT, subsidiaries (TRS), which may not necessarily equal taxable income.
(8) Any dividends paid to IMH by the TRS in excess of their cumulative undistributed taxable incomewe would be recognized as return of capital by IMHsubject to federal income taxes at the extent of IMH’s capital investment in the TRS. Distributions from the TRS to IMH may not equal the TRS net earnings, however, IMH can only recognize dividend distributions received from the TRS as taxable income to the extent that the TRS distributions are from current or prior period undistributed taxable income. Any distributions by the TRS in excess of IMH’s capital investment in the TRS would be taxed as capital gains.
(9) Includes the effects to taxable income associated with the elimination of gains from inter-company loan sales and other intercompany transactions between IFC, ICCC, and IMH, net of tax and the related amortization of the deferred charge.
(10) Excludes the deduction for common stock dividends paid and the availability of a deduction attributable to net operating loss carry-forwards. As of December 31, 2006,regular corporate rates. While the Company had estimated Federal net operating loss carry-forwardshas no current plans to terminate its status as a REIT, there can be no assurance that future events or transactions would enable the Company to maintain this status.
32
Table of $8.2 million that are expected to be utilized prior to their expiration in the year 2020.
First Quarter 2007 vs. Fourth Quarter 2006Contents
Estimated taxable income increased $4.4 million to $18.9 million, or $0.25 per diluted common share, for the first quarter 2007, compared to $14.5 million or $0.19 per diluted common share, for the fourth quarter 2006. The increase in estimated taxable income was mainly attributable to an increase in adjusted net interest margin at IMH. The $6.7 million increase in adjusted net interest margin at IMH was primarily the result of a decrease in premium amortization, due to lower prepayments. A decrease in actual prepayments increased interest income and estimated taxable income $4.7 million and a decrease in projected prepayments also increased interest income and estimated taxable income $4.7 million, compared to the amortization rates used in the fourth quarter of 2006. Offsetting the increase to interest income was a non-recurring decrease in estimated taxable income from REMICs of $2.8 million which was primarily related to a change in the tax accounting for the REMICs from an accrual basis to a cash basis which creates a timing difference between the amounts recorded for GAAP purposes, compared to the amounts recorded for tax purposes.
Financial Condition and Results of Operations
Financial Condition
Condensed Balance Sheet Data(dollars in thousands)
|
| March 31, |
| December 31, |
| Increase |
| % |
| |||
|
| 2007 |
| 2006 |
| (Decrease) |
| Change |
| |||
Securitized mortgage collateral |
| $ | 21,462,312 |
| $ | 21,050,829 |
| $ | 411,483 |
| 2 | % |
Mortgages held-for-investment |
| 1,156 |
| 1,880 |
| (724 | ) | (39 | ) | |||
Finance receivables |
| 262,667 |
| 306,294 |
| (43,627 | ) | (14 | ) | |||
Allowance for loan losses |
| (102,838 | ) | (91,775 | ) | 11,063 |
| 12 |
| |||
Mortgages held-for-sale |
| 857,222 |
| 1,561,919 |
| (704,697 | ) | (45 | ) | |||
Derivatives |
| 102,441 |
| 147,291 |
| (44,850 | ) | (30 | ) | |||
Real estate owned, net |
| 251,943 |
| 161,538 |
| 90,405 |
| 56 |
| |||
Other assets |
| 448,382 |
| 460,979 |
| (12,597 | ) | (3 | ) | |||
Total assets |
| $ | 23,283,285 |
| $ | 23,598,955 |
| $ | (315,670 | ) | (1 | )% |
|
|
|
|
|
|
|
|
|
| |||
Securitized mortgage borrowings |
| $ | 20,998,378 |
| $ | 20,526,369 |
| $ | 472,009 |
| 2 | % |
Reverse repurchase agreements |
| 1,233,334 |
| 1,880,395 |
| (647,061 | ) | (34 | ) | |||
Other liabilities |
| 192,745 |
| 182,661 |
| 10,084 |
| 6 |
| |||
Total liabilities |
| 22,424,457 |
| 22,589,425 |
| (164,968 | ) | (1 | ) | |||
Minority interest |
| 1,000 |
| — |
| — |
| — |
| |||
Total stockholders’ equity |
| 857,828 |
| 1,009,530 |
| (151,702 | ) | (15 | ) | |||
Total liabilities and stockholders’ equity |
| $ | 23,283,285 |
| $ | 23,598,955 |
| $ | (315,670 | ) | (1 | )% |
|
| June 30, |
| December 31, |
| Increase |
| % |
| |||
|
| 2008 |
| 2007 |
| (Decrease) |
| Change |
| |||
Securitized mortgage collateral |
| $ | 11,055,382 |
| $ | 16,532,633 |
| $ | (5,477,251 | ) | (33 | )% |
Assets of discontinued operations |
| 203,320 |
| 353,250 |
| (149,930 | ) | (42 | ) | |||
Derivative assets |
| 109 |
| 7,497 |
| (7,388 | ) | (99 | ) | |||
Real estate owned (REO) |
| 621,433 |
| 400,863 |
| 220,570 |
| 55 |
| |||
Other assets |
| 83,299 |
| 96,829 |
| (13,530 | ) | (14 | ) | |||
Total assets |
| $ | 11,963,543 |
| $ | 17,391,072 |
| $ | (5,427,529 | ) | (31 | )% |
|
|
|
|
|
|
|
|
|
| |||
Securitized mortgage borrowings |
| $ | 11,497,132 |
| $ | 17,780,060 |
| $ | (6,282,928 | ) | (35 | )% |
Liabilities of discontinued operations |
| 253,334 |
| 405,341 |
| (152,007 | ) | (38 | ) | |||
Other liabilities |
| 188,569 |
| 283,399 |
| (94,830 | ) | (33 | ) | |||
Total liabilities |
| 11,939,035 |
| 18,468,800 |
| (6,529,765 | ) | (35 | ) | |||
Total stockholders’ equity (deficit) |
| 24,508 |
| (1,077,728 | ) | 1,102,236 |
| 102 |
| |||
Total liabilities and stockholders’ equity |
| $ | 11,963,543 |
| $ | 17,391,072 |
| $ | (5,427,529 | ) | (31 | )% |
Total assets and liabilities were $23.3$12.0 billion and $11.9 billion as of March 31, 2007June 30, 2008 as compared to $23.6$17.4 billion and $18.5 billion as of December 31, 2006, as2007, respectively. The decreases in total assets and liabilities were primarily the long-termresult of the Company electing to adopt SFAS 159 for a significant portion of the Company’s financial instruments. The adoption of SFAS 159 resulted in the reduction of the carrying basis of certain financial instruments (securitized mortgage collateral and borrowings and trust preferred securities) to fair value at January 1, 2008. Future changes in the fair value of these and other financial instruments will be recognized in earnings. Upon adoption, securitized mortgage collateral and securitized mortgage borrowings were reduced by $0.8 billion and $1.9 billion, respectively. During the first six months, the net change in the fair value of securitized mortgage collateral and securitized mortgage borrowings included in earnings was $(3.2) billion and $3.3 billion, respectively.
Our residual interests in securitizations are segregated between our single-family (SF) residential and multi-family (MF) residential portfolios and are represented by the difference between trust assets (including investment operations retained $2.2 billion of primarily Alt-A mortgagessecurities available-for-sale and $234.9 million of commercial mortgages offset by $709.7excluding the $10.1 million in whole loan salesmaster servicing rights included within the basis of securitized mortgage collateral) and $1.8 billiontrust liabilities. Future prepayment estimates for single-family and multi-family loans range from 16 percent and 28 percent for the 2002-2003 vintage years, respectively, and 11 percent and 14 percent for the 2007 vintage year, respectively. The decline in total prepayments.
the fair value of residual interest in securitizations is primarily due to an increase in interest rates. The following table presents selected information about mortgages held asthe estimated fair value of our residual interests and related assumptions used to derive these values at June 30, 2008:
|
|
|
|
|
|
|
| Fair Value Measurement Assumptions |
| |||||||
|
| Residual Interests by Vintage Year |
| Lifetime Loss Estimate |
| SF Discount |
| |||||||||
|
| SF |
| MF |
| Total |
| SF |
| MF |
| Rate (1) |
| |||
2002-2003 (2) |
| $ | 12,743 |
| $ | 9,056 |
| $ | 21,799 |
| 1 | % | 1 | % | 30 | % |
2004 |
| 2,787 |
| 6,556 |
| 9,343 |
| 2 | % | 1 | % | 40 | % | |||
2005 |
| 508 |
| 650 |
| 1,158 |
| 6 | % | 1 | % | 50 | % | |||
2006 (3) |
| 1,112 |
| 8,384 |
| 9,496 |
| 16 | % | 5 | % | 50 | % | |||
2007 |
| — |
| — |
| — |
| 22 | % | 7 | % | 50 | % | |||
Total |
| $ | 17,150 |
| $ | 24,646 |
| $ | 41,796 |
|
|
|
|
|
|
|
(1)The discount rate for all multi-family residual interests is 20 percent at June 30, 2008.
(2)2002-2003 vintage year includes CMO 2007-A, due to performance, which uses a 40 percent discount rate and was securitized mortgage collateral asin 2007 from collapsed securitizations which were originally securitized in 2002, 2003 and 2004.
(3)2006 vintage year includes ISAC 2005-2, due to performance, and the fact that it was a REMIC like all other 2006 securitizations.
33
Table of the dates indicated:Contents
|
| Residential |
| Commercial |
| ||||||||
|
| As of |
| As of |
| ||||||||
|
| March 31, |
| December 31, |
| March 31, |
| March 31, |
| December 31, |
| March 31, |
|
|
| 2007 |
| 2006 |
| 2006 |
| 2007 |
| 2006 |
| 2006 |
|
Percent of Alt-A mortgages |
| 99 | % | 99 | % | 99 | % | N/A |
| N/A |
| N/A |
|
Percent of non-hybrid ARMs |
| 6 | % | 7 | % | 12 | % | 1 | % | 2 | % | 3 | % |
Percent of hybrid ARMs |
| 72 | % | 73 | % | 75 | % | 99 | % | 98 | % | 97 | % |
Percent of FRMs |
| 22 | % | 20 | % | 13 | % | 0 | % | 0 | % | 0 | % |
Percent of interest-only |
| 72 | % | 72 | % | 72 | % | 15 | % | 14 | % | 12 | % |
Weighted average coupon |
| 6.83 | % | 6.75 | % | 6.19 | % | 6.21 | % | 6.15 | % | 5.79 | % |
Weighted average margin |
| 3.51 | % | 3.60 | % | 3.80 | % | 2.67 | % | 2.68 | % | 2.69 | % |
Weighted average original LTV |
| 74 |
| 74 |
| 75 |
| 66 |
| 66 |
| 67 |
|
Weighted average original credit score |
| 698 |
| 697 |
| 696 |
| 730 |
| 730 |
| 730 |
|
Percent with original prepayment penalty |
| 66 | % | 68 | % | 75 | % | 100 | % | 100 | % | 100 | % |
Prior 3-month constant prepayment rate |
| 32 | % | 39 | % | 36 | % | 8 | % | 6 | % | 8 | % |
Prior 12-month prepayment rate |
| 37 | % | 38 | % | 39 | % | 8 | % | 8 | % | 9 | % |
Lifetime prepayment rate |
| 29 | % | 29 | % | 26 | % | 6 | % | 6 | % | 5 | % |
Weighted average debt service coverage ratio |
| N/A |
| N/A |
| N/A |
| 1.27 |
| 1.27 |
| 1.24 |
|
Percent of mortgages in California |
| 51 | % | 51 | % | 54 | % | 62 | % | 63 | % | 66 | % |
Percent of purchase transactions |
| 56 | % | 58 | % | 60 | % | 50 | % | 51 | % | 52 | % |
Percent of owner occupied |
| 78 | % | 78 | % | 80 | % | N/A |
| N/A |
| N/A |
|
Percent of first lien |
| 98 | % | 99 | % | 99 | % | 100 | % | 100 | % | 100 | % |
The following table presents selected financial data as of the dates indicated (dollars in thousands, except per share data):indicated:
| As of and Year-to-Date Ended, |
| ||||||||
|
| March 31, |
| December 31, |
| March 31, |
| |||
|
| 2007 |
| 2006 |
| 2006 |
| |||
Book value per share |
| $ | 9.15 |
| $ | 11.15 |
| $ | 13.87 |
|
Return on average assets |
| (2.06 | )% | (0.31 | )% | 1.30 | % | |||
Return on average equity |
| (48.76 | )% | (6.38 | )% | 29.18 | % | |||
Assets to equity ratio |
| 27.14:1 |
| 23.38:1 |
| 20.45:1 |
| |||
Debt to equity ratio |
| 26.03:1 |
| 22.29:1 |
| 19.41:1 |
| |||
Mortgages owned 60+ days delinquent |
| $ | 1,416,379 |
| $ | 1,229,270 |
| $ | 764,787 |
|
60+ day delinquency of mortgages owned |
| 6.50 | % | 5.64 | % | 3.37 | % |
|
| As of and Year-to-Date Ended, |
| |||||||
|
| June 30, |
| December 31, |
| June 30, |
| |||
|
| 2008 |
| 2007 |
| 2007 |
| |||
Prior 12-month (CPR) - Single-family |
| 16 | % | 25 | % | 35 | % | |||
Prior 12-month (CPR) - Multi-family |
| 10 | % | 9 | % | 7 | % | |||
Total non-performing loans |
| $ | 2,542,034 |
| $ | 2,131,537 |
| $ | 1,261,818 |
|
Total non-performing loans to total loans |
| 15.0 | % | 11.7 | % | 6.5 | % | |||
Total non-performing assets |
| $ | 3,167,904 |
| $ | 2,543,775 |
| $ | 1,614,753 |
|
Total non-performing assets to total assets |
| 26.5 | % | 14.6 | % | 7.2 | % |
We believe that in order for us to generate positive cash flows and earnings we must successfully manage the following primary operational and market risks:
· liquidity risk;
· creditliquidity risk;
· credit risk;
·interest rate risk; and
· prepayment risk.
Liquidity Risk. We employ a leverage strategyRefer to increase assets by financing our long-term mortgage portfolio primarily with securitized mortgage borrowings, reverse repurchase agreements and capital, then using cash proceeds from these borrowings to acquire additional mortgage assets. We retain ARMs and FRMs that are acquired from and originated by
the mortgage and commercial operations and finance the acquisition“Status of those mortgages, during this accumulation period, with reverse repurchase agreements and capital. After accumulating a pool of mortgages, generally between $200 million and $2.5 billion, we sell the mortgages in the form of collateralized mortgage obligations, whole loan sales or REMICs. REMICs may be on balance sheet or off balance sheet. Under either accounting method our cash invested on the date of securitization is generally between 3 percent and 5 percent of the collateral. Our strategy is to sell or securitize our mortgages within 90 days of originations or purchases in order to reduce the accumulation period that mortgages are outstanding on short-term reverse repurchase facilities, which reduces our exposure to margin calls and reduces spread risk on these facilities. Securitized mortgage borrowings are classes of bonds that are sold to investors of mortgage-backed securities and as such are not subject to margin calls. In addition, the securitized mortgage borrowings generally require a smaller initial cash investment as a percentage of mortgages financed than does interim reverse repurchase financing. Additionally, as interest rates decline our requirement to maintain certain cash margin balances related to our derivatives increases, which reduces our cash and cash equivalents available for use in operations. As of March 31, 2007 our cash collateral balance totaled $18.1 million, as compared to $19.1 million as of December 31, 2006.
Because of the historically favorable loss rates of our Alt-A mortgages, we have generally received favorable credit ratings on our securitized mortgage borrowings from credit rating agencies, which has decreased our initial capital investment, in the form of over collateralization. The ratio of total assets to total equity, or “leverage ratio,” was 27.14 to 1 as of March 31, 2007 as compared to 23.38 to 1 as of December 31. 2006. The use of leverage at these levels allows us to grow our balance sheet by efficiently employing available capital. We continually monitor our leverage ratio and liquidity levels to attempt to insure that we are adequately protected against adverse changes in market conditions. For additional information regarding liquidity refer to “LiquidityOperations, Liquidity and Capital Resources.”
Credit Risk.We manage credit risk by retaining high credit quality Alt-A mortgages and commercial mortgages from our customers, adequately providing for loan losses and actively managing delinquencies and defaults. During first quarterdefaults through the servicers. Starting with the second half of 2007 we have not retained primarilyany additional Alt-A mortgages with an original weighted average credit scorein our long-term mortgage portfolio. Our securitized mortgage collateral primarily consisting of 706 and an original weighted average LTV ratio of 71 percent. Alt-A mortgages which are primarily first lien mortgages made to borrowers whose credit is generally within typical Fannie Mae and Freddie Mac guidelines but that have loan characteristics, including higher loan balances, higher loan-to-value ratios or lower documentation requirements (including stated-income loans), that may make them non-conforming under those guidelines. We primarily acquire non-conforming “A” or “A-” credit quality mortgages, collectively, Alt-A mortgages.
As of March 31, 2007,June 30, 2008, the original weighted average credit score of mortgages held as residentialsingle-family and commercialmulti-family securitized mortgage collateral was 698700 and 730 and732, an original weighted average LTV ratio of 7473 and 66 percent and an original CLTV of 84 percent and 66 percent, respectively. For additional information regardingThe LTV and CLTV ratios may have increased from origination date as a result of the long-term mortgage portfolio refer to “Note E—Securitized Mortgage Collateral”deterioration of the real estate market.
Using historical losses, current market conditions and available market data, the Company has estimated future loan losses, which are included in the accompanying notesfair value adjustment to our securitized mortgage collateral. While the consolidated financial statements.
We believe that we have adequately provided for loan losses. The allowance for loan losses increased to $102.8 million as of March 31, 2007 as compared to $91.8 million as of December 31, 2006. Actual loan charge-offs net of recoveries on mortgages in the mortgage portfolio and finance receivables increased to $18.3 million for first quarter 2007 as compared to $4.4 millioncredit performance for the first quarterloans has been clearly far worse than initial market expectations, the ultimate level of 2006. The $18.3 million includes a $7.7 million charge-offrealized losses will largely be influenced by events that will likely unfold over the next several years, including the severity of housing price declines and overall strength of the economy. If market conditions continue to deteriorate in excess of our expectations, the Company may need to recognize additional fair value reductions to our securitized mortgage collateral, which may also affect the value of the related to an IWLG specific finance receivable balance that was reserved at December 31, 2006.securitized mortgage borrowings.
We monitor our sub-servicersservicers to attempt to ensure that they perform loss mitigation, foreclosure and collection functions according to their servicing practices and each securitization trust’s pooling and servicing agreement. We have met with the management of our servicing guide. This includesservicers to assess our borrowers’ current ability to pay their mortgages and to make arrangements with selected delinquent borrowers which will result in the best interest of the borrower and the Company, in an effective and aggressive collection effort in order to minimize the number of mortgages which become seriously delinquent. When resolving delinquent mortgages, sub-servicersservicers are required to take timely and aggressive action. The sub-servicerservicer is required to determine payment collection under various circumstances, which will result in the maximum financial benefit. This is accomplished by either working with the borrower to bring the mortgage current or by foreclosing and liquidating the property. We perform an ongoing review of mortgages that display weaknesses and believe that we maintain an adequate loan loss allowance on our mortgages. When a borrower fails to make required payments on a mortgage and does not cure the delinquency within 60 days, we generally record a notice of default and commence foreclosure proceedings.proceedings, or arrange alternative terms of forbearance. If the mortgage is not reinstated within the time permitted by law for reinstatement, the property may then be sold at a foreclosure sale. At foreclosure sales, wesale, the trusts consolidated on our balance sheet generally acquire title to the property. As
34
The following table summarizes non-performing loans that we own, including securitized mortgage collateral, mortgages held for long-term investment and mortgages held-for-sale, that were 60 or more days delinquent for the periods indicated (in thousands):
|
| At March 31, |
|
|
| At December 31, |
|
|
| ||
|
| 2007 |
| % |
| 2006 |
| % |
| ||
|
|
|
|
|
|
|
|
|
| ||
Loans held-for-sale |
|
|
|
|
|
|
|
|
| ||
60 - 89 days delinquent |
| $ | 18,938 |
| 1 | % | $ | 11,107 |
| 1 | % |
90 or more days delinquent |
| 57,212 |
| 4 | % | 34,598 |
| 3 | % | ||
Foreclosures |
| 12,368 |
| 1 | % | 13,267 |
| 1 | % | ||
Delinquent bankruptcies |
| — |
| 0 | % | — |
| 0 | % | ||
Total 60+ days delinquent loans held-for-sale |
| 88,518 |
| 6 | % | 58,972 |
| 5 | % | ||
|
|
|
|
|
|
|
|
|
| ||
Long term mortgage portfolio |
|
|
|
|
|
|
|
|
| ||
60 - 89 days delinquent |
| $ | 330,793 |
| 23 | % | $ | 373,238 |
| 30 | % |
90 or more days delinquent |
| 354,186 |
| 25 | % | 275,089 |
| 22 | % | ||
Foreclosures |
| 513,858 |
| 36 | % | 403,489 |
| 33 | % | ||
Delinquent bankruptcies |
| 129,024 |
| 9 | % | 118,482 |
| 10 | % | ||
Total 60+ days delinquent long term mortgage portfolio |
| 1,327,861 |
| 94 | % | 1,170,298 |
| 95 | % | ||
|
|
|
|
|
|
|
|
|
| ||
Total 60 or more days delinquent |
| $ | 1,416,379 |
| 100 | % | $ | 1,229,270 |
| 100 | % |
We believeuse the Mortgage Bankers Association (MBA) method is most consistent with the SEC proposal of definingto define delinquency as a contractually required payment being 30 days or more past due, compared to the Office of Thrift Supervision (OTS) method. It is our view that the MBA methodology provides a more accurate reading on delinquency. The OTS methodology lags the MBA approach in reporting delinquencies by an additional 30 days.due. We measure delinquencies from the date of the last payment due date in which a payment was received, rather than starting the days on the date the payment was not made. If the Company had reported delinquencies under the OTS method totalreceived. Delinquencies for loans 60 days late or greater, foreclosures and delinquent would have been $1,066.6bankruptcies were $2,969.1 million or 4.89% at March 31, 2007.17.5 percent as of June 30, 2008.
The Company determinedfollowing table summarizes non-performing loans that the amounts previously reported as 90we own, including securitized mortgage collateral, loans held for long-term investment and loans held-for-sale for continuing and discontinued operations combined, that were 60 or more days delinquent (utilizing the MBA method) for the periods indicated:
|
| At June 30, |
|
|
| At December 31, |
|
|
| ||
|
| 2008 |
| % |
| 2007 |
| % |
| ||
Loans held-for-sale (1) |
|
|
|
|
|
|
|
|
| ||
60 - 89 days delinquent |
| $ | 11,483 |
| 0.5 | % | $ | 45,121 |
| 2 | % |
90 or more days delinquent |
| 59,038 |
| 2 | % | 51,294 |
| 2 | % | ||
Foreclosures |
| 10,195 |
| 0.5 | % | 23,936 |
| 1 | % | ||
Total delinquent loans held-for-sale |
| 80,716 |
| 3 | % | 120,351 |
| 5 | % | ||
|
|
|
|
|
|
|
|
|
| ||
Securitized mortgage collateral |
|
|
|
|
|
|
|
|
| ||
60 - 89 days delinquent |
| $ | 415,549 |
| 14 | % | $ | 490,946 |
| 18 | % |
90 or more days delinquent |
| 706,692 |
| 24 | % | 773,816 |
| 29 | % | ||
Foreclosures (2) |
| 1,555,217 |
| 52 | % | 1,093,385 |
| 41 | % | ||
Delinquent bankruptcies (3) |
| 210,892 |
| 7 | % | 189,106 |
| 7 | % | ||
Total delinquent long-term mortgage portfolio |
| 2,888,350 |
| 97 | % | 2,547,253 |
| 95 | % | ||
Total delinquent loans |
| $ | 2,969,066 |
| 100 | % | $ | 2,667,604 |
| 100 | % |
Total loans |
| $ | 16,926,026 |
|
|
| $ | 18,252,197 |
|
|
|
(1) Loans held-for-sale are substantially included in discontinued operations in the non-performing loans table above, andconsolidated balance sheets.
(2) Represents properties in the non-performing assetsprocess of foreclosure.
(3) Represents bankruptcies that are 30 days or more delinquent.
The following table below inadvertently included thesummarizes securitized mortgage collateral, loans held-for-investment, loans held-for-sale and real estate owned, inthat were non-performing for continuing and discontinued operations combined for the trusts. As a result of this determination, the prior year amounts have been revised downward to reflect a correction of this overstatement. In an effort to maintain consistent reporting of the non-performing loans included in the long term mortgage portfolio and the loans held-for-sale we revised the December 31, 2006 non-performing loans held-for-sale to report them under the MBA method. Under the OTS method, total 60 days or more delinquent loans held-for-sale was $70.3 million or 0.8 percent of loans held-for-sale at March 31, 2007.periods indicated:
|
| At June 30, |
|
|
| At December 31, |
|
|
| ||
|
| 2008 |
| % |
| 2007 |
| % |
| ||
90 or more days delinquent, foreclosures and delinquent bankruptcies |
| $ | 2,542,034 |
| 80 | % | $ | 2,131,537 |
| 84 | % |
Real estate owned |
| 625,870 |
| 20 | % | 412,238 |
| 16 | % | ||
Total non-performing assets |
| $ | 3,167,904 |
| 100 | % | $ | 2,543,775 |
| 100 | % |
Non-performing assets consist of mortgages that are 90 days or more delinquent, including loans in foreclosure and delinquent bankruptcies. It is our policy to place a mortgage on non-accrual status when it becomes 90 days delinquent and to reverse from revenue any accrued interest, except for interest income on securitized mortgage collateral wherebywhen the scheduled payment is received from the servicer whether or not the borrower makes the payment.servicer. As of March 31, 2007,June 30, 2008, non-performing assets as a percentage of totalthe outstanding principal balance of securitized mortgage assets was 5.6626.5 percent compared to 4.2614.6 percent as of year-end 2006.December 31, 2007.
The following table summarizes mortgages that we own, including securitized mortgage collateral, mortgages held for long-term investment, mortgages held-for-sale, and real estate owned that were non-performing for the periods indicated (in thousands):
|
| At March 31, |
|
|
| At December 31, |
|
|
| ||
|
| 2007 |
| % |
| 2006 |
| % |
| ||
90 or more days delinquent, foreclosures and delinquent bankruptcies |
| $ | 1,066,648 |
| 81 | % | $ | 844,925 |
| 84 | % |
Other real estate owned |
| 251,943 |
| 19 | % | 161,538 |
| 16 | % | ||
Total non-performing assets |
| $ | 1,318,591 |
| 100 | % | $ | 1,006,463 |
| 100 | % |
Real estate owned, which consists of residential real estate acquired in satisfaction of loans, is carried at the lower of cost or estimated fairnet realizable value less estimated selling costs. AdjustmentsHistorically, adjustments to the loan carrying value required at the time of foreclosure arewere charged against the allowance for loan losses. Losses or gains fromWith the adoption of FAS 159, the Company no
35
longer maintains an allowance for loan losses and adjustments to the carrying value of REO at the time of foreclosure are included in the change in the fair value of net trust assets. Changes in the Company’s estimates of net realizable value subsequent to the time of foreclosure and through the time of ultimate disposition of real estate owned are recorded as (gain) loss on sale of othergains or losses from real estate owned in the consolidated statement of operations. Subsequent adjustments to the carrying value after foreclosure are recorded as increases to the valuation allowance against the REO balance. At March 31, 2007, the allowance against REO was $15.7 million, as compared to $8.5 million at December 31, 2006. Real estate owned at March 31, 2007June 30, 2008 was $251.9$213.6 million, or 5651.8 percent higher than at December 31, 20062007 as a result of an increase in foreclosures from higher delinquencies and a decreasedeterioration in the percentage ofprevailing real estate liquidated, as a result of a seasoning ofmarket and, in part, due to borrowers’ inability to obtain replacement financing in conjunction with rising borrowing costs due to resets, reduced housing demand in the loan portfolio, as well as slowing home price appreciation. marketplace and lower housing prices.
We have realized a gain on dispositionsale of real estate owned in the amount of $844 thousand$1.8 million and $5.2 million for the quarterthree and six months ended March 31, 2007,June 30, 2008, respectively, as compared to $354 thousanda loss of $1.1 million for the quarterthree and six months ended March 31, 2006.
The following table presents a rollforwardJune 30, 2007. Additionally, for the three and six months ended June 30, 2008, the Company recorded an unrealized loss on the net realizable value of the real estate owned (in thousands):REO in the amount of $6.6 million and $14.3 million, respectively, which reflects the decline in value of the REO from the foreclosure date.
| For the quarter ended March 31, |
| |||||
|
| 2007 |
| 2006 |
| ||
Beginning balance |
| $ | 161,538 |
| $ | 46,351 |
|
Foreclosures |
| 123,077 |
| 29,377 |
| ||
Liquidations |
| (29,108 | ) | (13,821 | ) | ||
Net other change in REO |
| (3,564 | ) | (2,350 | ) | ||
Ending balance |
| $ | 251,943 |
| $ | 59,557 |
|
The following table presents a rollforwardthe balances and related activity of the allowance on the real estate owned (in thousands):for continuing operations:
| For the quarter ended March 31, |
| |||||
|
| 2007 |
| 2006 |
| ||
Beginning balance |
| $ | 8,539 |
| $ | — |
|
Provision |
| 9,890 |
| — |
| ||
Charge-offs |
| (2,757 | ) | — |
| ||
Ending balance |
| $ | 15,672 |
| $ | — |
|
|
| Six Months Ended |
| Year Ended |
| ||
|
| June 30, 2008 |
| December 31, 2007 |
| ||
Beginning balance |
| $ | 405,434 |
| $ | 137,331 |
|
Foreclosures |
| 388,907 |
| 487,314 |
| ||
Liquidations |
| (170,639 | ) | (219,211 | ) | ||
REO |
| $ | 623,702 |
| $ | 405,434 |
|
|
|
|
|
|
| ||
REO inside trusts |
| $ | 621,433 |
| $ | 400,863 |
|
REO outside trust (1) |
| 2,269 |
| 4,571 |
| ||
REO |
| $ | 623,702 |
| $ | 405,434 |
|
In additioncalculating the cash flows to assess the allowance for REO lossesfair value of the securitized mortgage collateral the Company maintains an allowance forestimates the lifetime losses embedded in our loan losses.portfolio. In evaluating the adequacy of the allowance for loanlifetime losses, management takes many factors into consideration. For instance, a detailed analysis of historical loan performance data is accumulated and reviewed, including the delinquency rates.reviewed. This data is analyzed for loss performance and prepayment performance by product type, origination year and vintage.securitization issuance. The data is also broken down by collection status. Our estimate of the required lifetime losses for these loans is developed by estimating both the rate of default of the loans and the amount of loss in the event of default. The rate of default is assigned to the loans based on their attributes (e.g., original loan-to-value, borrower credit score, documentation type, etc.) and collection status. The rate of default is based on analysis of migration of loans from each aging category. The loss severity is determined by estimating the net proceeds from the ultimate sale of the foreclosed property. The results of that analysis are then applied to the current mortgage portfolio and an estimate is calculated.created. We believe that pooling of mortgages with similar characteristics is an appropriate methodology in which to evaluate the allowance forlifetime loan losses.
Management also recognizes that there are qualitative and quantitative factors that must be taken into consideration when evaluating and measuring inherent losslosses in our loan portfolios. These items include, but are not limited to, economic indicators that may affect the borrower’s ability to pay, changes in value of collateral, projected loss curves, political factors, trends in, and amount of non-performing loansmarket conditions, competitor’s performance, market perception, historical losses, and industry statistics. The Company provides loan losses in accordance with its policies that include an analysis of the loan portfolio to determine estimated loan losses in the next 12 to 18 months. The analysis includes a detailed analysis of historical loan performance, an analysis based on the estimated value of the underlying property and a non-performing loans trend analysis. While our delinquency rates have increased, we believe our total allowanceassessment for loan losses, is adequate to absorb lossesbased on delinquency trends and prior loan loss experience and management’s judgment and assumptions regarding various matters, including general economic conditions and loan portfolio composition. Management continually evaluates these assumptions and various relevant factors affecting credit quality and inherent in our mortgage portfolio as of March 31, 2007.losses.
Interest Rate Risk. Refer to Item 3. “Quantitative and Qualitative Disclosures About Market Risk.”
Prepayment Risk. Risk. The Company uses prepayment penalties as a method of partially mitigating prepayment risk.risk for those borrowers that have the ability to refinance. Mortgage industry evidence suggests that the increasechanges in home appreciation rates and lower payment option mortgage products over the last three years hashad been a significant factor affecting borrowers refinancing decisions. As mortgage rates increase and housing prices decline, borrowers will find it more difficult to refinance to a lower rate at the reset dates.obtain cheaper financing. If borrowers are unable to pay their mortgage payments at the adjusted rate, delinquencies may increase. The three-month average combined constant prepayment rate (CPR) of single-family and multi-family loans held as securitized mortgage collateral decreased to 3011 percent at March 31, 2007June 30, 2008 from 3617 percent as of December 31, 2006. This reduction in prepayment rates has resulted in an increase in the amortization period for premiums paid to acquire loans, which has increased interest income, as described under “Estimated Taxable Income.”2007.
During the quarter ended March 31, 2007, 63%
36
As of March 31, 2007, 66% and 100% of mortgages held as residential and commercial securitized mortgage collateral had prepayment penalties, respectively. As of March 31, 2007,June 30, 2008, the twelve-month combined CPR of mortgagessingle-family and multi-family loans held as securitized mortgage collateral was 35%15 percent as compared to a 36%24 percent twelve-month average CPR as of December 31, 2006.2007. Prepayment penalties are charged to borrowers for mortgages that are paid early and recorded as interest income on our consolidated financial statements. Interest income from prepayment penalties helps offset amortization of loan premiums and securitization costs. During the first quarter of 2007 prepayment penalties received from borrowers were recorded as interest income and increased the yield on average mortgage assets by 11 basis points as compared to 19 basis points for the same period in 2006.income.
Results of Operations
For the Three and Six Months Ended March 31, 2007June 30, 2008 compared to the Three and Six Months Ended March 31, 2006June 30, 2007
Condensed Statements of Operations Data(dollars in thousands, except share data)
| For the Three Months Ended March 31, |
| ||||||||||
|
|
|
|
|
| Increase |
| % |
| |||
|
| 2007 |
| 2006 |
| (Decrease) |
| Change |
| |||
Interest income |
| $ | 342,821 |
| $ | 335,204 |
| $ | 7,617 |
| 2 | % |
Interest expense |
| 329,366 |
| 323,730 |
| 5,636 |
| 2 |
| |||
Net interest income |
| 13,455 |
| 11,474 |
| 1,981 |
| 17 |
| |||
Provision for loan losses |
| 29,374 |
| 150 |
| 29,224 |
| 19,483 |
| |||
Net interest income (expense) after provision for loan losses |
| (15,919 | ) | 11,324 |
| (27,243 | ) | (241 | ) | |||
Total non-interest income |
| (70,562 | ) | 107,742 |
| (178,304 | ) | (165 | ) | |||
Total non-interest expense |
| 33,321 |
| 30,255 |
| 3,066 |
| 10 |
| |||
Income tax (benefit) expense |
| 1,866 |
| 3,245 |
| (1,379 | ) | (42 | ) | |||
Net (loss) earnings |
| $ | (121,668 | ) | $ | 85,566 |
| $ | (207,234 | ) | (242 | )% |
|
|
|
|
|
|
|
|
|
| |||
Net (loss) earnings per share - diluted |
| $ | (1.65 | ) | $ | 1.07 |
| $ | (2.72 | ) | (254 | )% |
Dividends declared per common share |
| $ | 0.10 |
| $ | 0.25 |
| $ | (0.15 | ) | (60 | )% |
|
| For the Three Months Ended June 30, |
| |||||||||
|
|
|
|
|
| Increase |
| % |
| |||
|
| 2008 |
| 2007 |
| (Decrease) |
| Change |
| |||
Interest income |
| $ | 407,855 |
| $ | 316,443 |
| $ | 91,412 |
| 29 | % |
Interest expense |
| 403,599 |
| 308,569 |
| 95,030 |
| 31 |
| |||
Net interest income (expense) |
| 4,256 |
| 7,874 |
| (3,618 | ) | (46 | ) | |||
Provision for loan losses |
| — |
| 161,163 |
| (161,163 | ) | n/a |
| |||
Net interest income (expense) after provision for loan losses |
| 4,256 |
| (153,289 | ) | 157,545 |
| 103 |
| |||
Total non-interest income |
| (10,748 | ) | 70,804 |
| (81,552 | ) | (115 | ) | |||
Total non-interest expense |
| 7,745 |
| 6,071 |
| 1,674 |
| 28 |
| |||
Income tax expense (benefit) |
| 2,202 |
| 4,969 |
| (2,767 | ) | (56 | ) | |||
Net (loss) earnings from continuing operations |
| (16,439 | ) | (93,525 | ) | 77,086 |
| 82 |
| |||
Loss from discontinued operations, net |
| (11,048 | ) | (59,022 | ) | 47,974 |
| 81 |
| |||
Net loss |
| $ | (27,487 | ) | $ | (152,547 | ) | $ | 125,060 |
| 82 | % |
|
|
|
|
|
|
|
|
|
| |||
Net loss per share - diluted |
| $ | (0.41 | ) | $ | (2.05 | ) | $ | 1.64 |
| 80 | % |
Dividends declared per common share |
| $ | — |
| $ | — |
| $ | — |
| n/a | % |
|
| For the Six Months Ended June 30, |
| |||||||||
|
|
|
|
|
| Increase |
| % |
| |||
|
| 2008 |
| 2007 |
| (Decrease) |
| Change |
| |||
Interest income |
| $ | 679,811 |
| $ | 621,191 |
| $ | 58,620 |
| 9 | % |
Interest expense |
| 668,206 |
| 605,374 |
| 62,832 |
| 10 |
| |||
Net interest income (expense) |
| 11,605 |
| 15,817 |
| (4,212 | ) | (27 | ) | |||
Provision for loan losses |
| — |
| 190,295 |
| (190,295 | ) | n/a |
| |||
Net interest income (expense) after provision for loan losses |
| 11,605 |
| (174,478 | ) | 186,083 |
| 107 |
| |||
Total non-interest income |
| (9,757 | ) | 48,201 |
| (57,958 | ) | (120 | ) | |||
Total non-interest expense |
| 14,062 |
| 12,424 |
| 1,638 |
| 13 |
| |||
Income tax expense (benefit) |
| 8,728 |
| 8,956 |
| (228 | ) | (3 | ) | |||
Net (loss) earnings from continuing operations |
| (20,942 | ) | (147,657 | ) | 126,715 |
| 86 |
| |||
Loss from discontinued operations, net |
| (10,360 | ) | (126,558 | ) | 116,198 |
| 92 |
| |||
Net loss |
| $ | (31,302 | ) | $ | (274,215 | ) | $ | 242,913 |
| 89 | % |
|
|
|
|
|
|
|
|
|
| |||
Net loss per share - diluted |
| $ | (0.51 | ) | $ | (3.70 | ) | $ | 3.19 |
| 86 | % |
Dividends declared per common share |
| $ | — |
| $ | 0.10 |
| $ | (0.10 | ) | n/a | % |
Net Interest Income
We earn net interest income primarily from mortgage assets which include securitized mortgage collateral, mortgages held-for-investment, mortgagesloans held-for-sale finance receivables and investment securities available-for-sale, or collectively, “mortgage assets,” and, to a lesser extent, interest income earned on cash and cash equivalents. Interest expense is primarily interest paid on borrowings on mortgage assets, which include securitized mortgage borrowings, reverse repurchase agreements and borrowings secured by investment securities available-for-sale. NetWith the adoption of SFAS 159, net interest income also includesduring the quarter represents the effective yield of the net trust assets. During 2007, net interest income included (1) amortization of acquisition costs on mortgages
37
acquired from the mortgage operations, (2) accretion of loan discounts, which primarily representsrepresented the amount allocated to mortgage servicing rights when they are sold to third parties and mortgages are transferred to the long-term investment operations from the mortgage operations and retained for long-term investment, (3) amortization of securitized mortgage securitization expenses and, to a lesser extent, (4) amortization of securitized mortgage bond discounts.
The following table summarizes average balance, interest and weighted average yield on mortgage assets and borrowings on mortgage assets, included within continuing and discontinued operations, for the periods indicated (dollars in thousands):indicated:
|
| For the Three Months Ended March 31, |
| ||||||||||||||
|
| 2007 |
| 2006 |
| ||||||||||||
|
| Average |
|
|
| (8) |
| Average |
|
|
| (8) |
| ||||
|
| Balance |
| Interest |
| Yield |
| Balance |
| Interest |
| Yield |
| ||||
MORTGAGE ASSETS |
|
|
|
|
|
|
|
|
|
|
|
|
| ||||
Subordinated securities collateralized by mortgages |
| $ | 30,813 |
| $ | 1,597 |
| 20.73 | % | $ | 40,159 |
| $ | 720 |
| 7.17 | % |
Securitized mortgage collateral (1) |
| 20,672,576 |
| 303,602 |
| 5.87 | % | 23,507,250 |
| 297,509 |
| 5.06 | % | ||||
Mortgages held-for-investment and held-for-sale |
| 1,963,010 |
| 30,345 |
| 6.18 | % | 1,776,874 |
| 30,372 |
| 6.84 | % | ||||
Finance receivables |
| 272,866 |
| 5,227 |
| 7.66 | % | 301,009 |
| 4,775 |
| 6.35 | % | ||||
Total mortgage assets\ interest income |
| $ | 22,939,265 |
| $ | 340,771 |
| 5.94 | % | $ | 25,625,292 |
| $ | 333,376 |
| 5.20 | % |
|
|
|
|
|
|
|
|
|
|
|
|
|
| ||||
BORROWINGS |
|
|
|
|
|
|
|
|
|
|
|
|
| ||||
Securitized mortgage borrowings |
| $ | 20,183,144 |
| $ | 293,377 |
| 5.81 | % | $ | 23,015,890 |
| $ | 295,475 |
| 5.14 | % |
Reverse repurchase agreements |
| 2,241,789 |
| 33,736 |
| 6.02 | % | 1,919,992 |
| 25,873 |
| 5.39 | % | ||||
Total borrowings on mortgage assets\ interest expense |
| $ | 22,424,933 |
| $ | 327,113 |
| 5.83 | % | $ | 24,935,882 |
| $ | 321,348 |
| 5.15 | % |
|
|
|
|
|
|
|
|
|
|
|
|
|
| ||||
Net Interest Spread (2) |
|
|
|
|
| 0.11 | % |
|
|
|
| 0.05 | % | ||||
Net Interest Margin (3) |
|
|
|
|
| 0.24 | % |
|
|
|
| 0.19 | % | ||||
|
|
|
|
|
|
|
|
|
|
|
|
|
| ||||
Net interest income on mortgage assets |
|
|
| $ | 13,658 |
| 0.24 | % |
|
| $ | 12,028 |
| 0.19 | % | ||
Less: Accretion of loan discounts (4) |
|
|
| (13,335 | ) | (0.23 | )% |
|
| (15,920 | ) | (0.25 | )% | ||||
Adjusted by net cash receipts on derivatives (5) |
|
|
| 37,459 |
| 0.65 | % |
|
| 40,136 |
| 0.63 | % | ||||
Adjusted Net Interest Margin (6) |
|
|
| $ | 37,782 |
| 0.66 | % |
|
| $ | 36,244 |
| 0.57 | % | ||
|
|
|
|
|
|
|
|
|
|
|
|
|
| ||||
Effect of amortization of loan premiums and securitization costs (7) |
|
|
| $ | 42,296 |
| (0.74 | )% |
|
| $ | 62,499 |
| (0.98 | )% |
|
| For the Three Months Ended June 30, |
| ||||||||||||||
|
| 2008 |
| 2007 |
| ||||||||||||
|
| Average |
|
|
| (8) |
| Average |
|
|
| (8) |
| ||||
|
| Balance |
| Interest |
| Yield |
| Balance |
| Interest |
| Yield |
| ||||
MORTGAGE ASSETS |
|
|
|
|
|
|
|
|
|
|
|
|
| ||||
Subordinated securities collateralized by mortgages |
| $ | 10,333 |
| $ | 687 |
| 26.59 | % | $ | 29,094 |
| $ | 1,711 |
| 23.52 | % |
Securitized mortgage collateral (1) |
| 11,344,758 |
| 406,988 |
| 14.35 | % | 21,184,780 |
| 319,051 |
| 6.02 | % | ||||
Loans held-for-investment and held-for-sale (2) |
| 183,459 |
| 3,193 |
| 6.96 | % | 866,517 |
| 10,967 |
| 5.06 | % | ||||
Finance receivables |
| — |
| — |
| 0.00 | % | 163,456 |
| 2,965 |
| 7.26 | % | ||||
Total mortgage assets\ interest income |
| $ | 11,538,550 |
| $ | 410,868 |
| 14.24 | % | $ | 22,243,847 |
| $ | 334,694 |
| 6.02 | % |
|
|
|
|
|
|
|
|
|
|
|
|
|
| ||||
BORROWINGS |
|
|
|
|
|
|
|
|
|
|
|
|
| ||||
Securitized mortgage borrowings |
| $ | 11,645,457 |
| $ | 401,432 |
| 13.79 | % | $ | 20,772,443 |
| $ | 304,551 |
| 5.86 | % |
Reverse repurchase agreements |
| 231,489 |
| 1,797 |
| 3.11 | % | 1,134,264 |
| 17,236 |
| 6.08 | % | ||||
Total borrowings on mortgage assets\ interest expense |
| $ | 11,876,946 |
| $ | 403,229 |
| 13.58 | % | $ | 21,906,707 |
| $ | 321,787 |
| 5.88 | % |
|
|
|
|
|
|
|
|
|
|
|
|
|
| ||||
Net Interest Spread (3) |
|
|
| $ | 7,639 |
| 0.66 | % |
|
| $ | 12,907 |
| 0.14 | % | ||
Net Interest Margin (4) |
|
|
|
|
| 0.26 | % |
|
|
|
| 0.23 | % |
|
| For the Six Months Ended June 30, |
| ||||||||||||||
|
| 2008 |
| 2007 |
| ||||||||||||
|
| Average |
|
|
| (8) |
| Average |
|
|
| (8) |
| ||||
|
| Balance |
| Interest |
| Yield |
| Balance |
| Interest |
| Yield |
| ||||
MORTGAGE ASSETS |
|
|
|
|
|
|
|
|
|
|
|
|
| ||||
Subordinated securities collateralized by mortgages |
| $ | 12,738 |
| $ | 1,420 |
| 22.30 | % | $ | 29,949 |
| $ | 3,308 |
| 22.09 | % |
Securitized mortgage collateral (1) |
| 13,383,352 |
| 676,886 |
| 10.12 | % | 20,930,093 |
| 622,653 |
| 5.95 | % | ||||
Loans held-for-investment and held-for-sale (2) |
| 198,135 |
| 7,448 |
| 7.52 | % | 1,411,734 |
| 41,312 |
| 5.85 | % | ||||
Finance receivables |
| — |
| — |
| 0.00 | % | 217,859 |
| 8,192 |
| 7.52 | % | ||||
Total mortgage assets\ interest income |
| $ | 13,594,225 |
| $ | 685,754 |
| 10.09 | % | $ | 22,589,635 |
| $ | 675,465 |
| 5.98 | % |
|
|
|
|
|
|
|
|
|
|
|
|
|
| ||||
BORROWINGS |
|
|
|
|
|
|
|
|
|
|
|
|
| ||||
Securitized mortgage borrowings |
| $ | 13,686,955 |
| $ | 663,248 |
| 9.69 | % | $ | 20,479,422 |
| $ | 597,928 |
| 5.84 | % |
Reverse repurchase agreements |
| 258,649 |
| 5,159 |
| 3.99 | % | 1,684,967 |
| 50,973 |
| 6.05 | % | ||||
Total borrowings on mortgage assets\ interest expense |
| $ | 13,945,604 |
| $ | 668,407 |
| 9.59 | % | $ | 22,164,389 |
| $ | 648,901 |
| 5.86 | % |
|
|
|
|
|
|
|
|
|
|
|
|
|
| ||||
Net Interest Spread (3) |
|
|
| $ | 17,347 |
| 0.50 | % |
|
| $ | 26,564 |
| 0.12 | % | ||
Net Interest Margin (4) |
|
|
|
|
| 0.39 | % |
|
|
|
| 0.24 | % |
38
(1) Interest on securitized mortgage collateral in 2007 includes amortization of acquisition cost on mortgages acquired from the mortgage operations and accretion of loan discounts. During 2008, the Company started applying the effective yield used to derive the fair value of the securitized mortgage collateral.
(2)The held-for-sale balance excludes the lower of cost or market (LOCOM) writedown on the loans.
(3) Net interest spread on mortgage assets is calculated by subtracting the weighted average yield on total borrowings on mortgage assets from the weighted average yield on total mortgage assets.
(3)(4) Net interest margin on mortgage assets is calculated by subtracting interest expense on total borrowings on mortgage assets from interest income on total mortgage assets and then dividing by total average mortgage assets and annualizing the quarterly margin.
(4)Yield represents
Net interest income fromspread for the accretionsecond quarter of loan discounts, included2008 decreased $5.3 million (41 percent) as compared to the second quarter of 2007. The decrease in (1) above, divided by total average mortgage assets.
(5)Yield represents net cash receipts on derivatives divided by total average mortgage assets.
(6)Adjusted net interest marginincome was primarily due to declines in outstanding balances offset by an increase in net interest spread. During the quarter, the yield on mortgage assets is calculatedchanged by subtracting interest expense8.22 percent to 14.24 percent from 6.02 percent for the comparable 2007 period. The yield on total borrowings on mortgage assets, accretion of loan discounts and net cash receipts on derivatives from interest income on total mortgage assets dividedchanged by total average mortgage assets. Net cash receipts on derivatives are a component of realized gain on derivative instruments on the consolidated statements of operations. Adjusted net interest margin on mortgage assets is a non-GAAP financial measurement, however, the reconciliation provided in this table is intended7.70 percent to meet the requirements of Regulation G as promulgated by the SEC13.58 percent for the presentationquarter from 5.88 percent for the comparable period. The increase in the securitized mortgage collateral and borrowing yields is primarily a result of non-GAAP financial measurements. We believe that the presentationadoption of adjusted net interest margin on mortgage assets is a useful operating performance measure for our investors as it more closely reflectsSFAS 159 and the economics of net interest margins on mortgage assets by providing information to evaluate net interest income attributable to net investments.
(7)The amortization of loan premiums and securitization costs are componentsrelated recognition of interest income and interest expense respectively. Yield represents the cost of amortization of net loan premiums and securitization costs divided by total average mortgage assets.
(8) The yields represent annualized yields based on the resultseffective yields for the quarter.
For the three months-ended March 31, 2007 compared to the three months ended March 31, 2006June 30, 2008, based on fair value, as compared to using effective interest rates using the historical basis in the loans in the prior period. As the market’s expectation of future credit losses has increased, the market has demanded higher yields, as investors require a higher yield on these financial assets and liabilities.
Increases in net
Net interest income were primarily due to an improvement in net interest margins on mortgage assets primarily caused by the following:
·the Company increased the amortization period in which loan premiums paidspread for loans that are retained are amortized to interest income, and the period securitization costs are amortized to interest expense;
·the yield on borrowing costs has increased less during the first quarter 2007six months of 2008 decreased $9.2 million (35 percent) as compared to the first quarter 2006, while our mortgages have re-price upward faster than the increasesix months of 2007. The decrease in borrowing costs on the underlying borrowings; and
· prepayments have decreased, which extends the duration of higher yielding loans in the portfolio, as higher yielding loans tend to prepay at a faster rate than lower yielding loans.
Netnet interest income for the first quarter of 2007 increased $2.0 million (17 percent) as compared to 2006. The increase was primarily due to declines in outstanding balances offset by an increase in net interest margins on mortgage assets increasing by 5 basis points to 0.24% for 2007 as compared to 0.19% for 2006. The increase in adjusted net interest margins on mortgage assets was primarily due to a positive variance of 81 basis points inspread. During the first six months, the yield on mortgage assets as coupons have adjusted, partially offsetchanged by an unfavorable variance of 68 basis points in borrowing costs as4.11 percent to 10.09 percent from 5.98 percent for the one-month LIBOR, which is tiedcomparable 2007 period. The yield on total borrowings changed by 3.73 percent to 9.59 percent for the interest rate on our borrowings, rose 49 basis pointsfirst six months from March 31, 2006 to March 31, 2007, and realized gains from derivative assets had a favorable variance of 2 basis points.
Along with an5.86 percent for the comparable period. The increase in short-term interest rates, our expectation, based on past experience, was that we would see a corresponding decline in mortgage prepayment speeds which we have started to observe in our portfolio. However, mortgage prepayment speeds continue at heightened levels. As home prices have begun to stabilize and interest rates have remained flat, our securitized mortgage collateral reflects some degree of reduced prepayments with the three-month CPR rate declining to 30% as of March 31, 2007 from 36% as of December 31, 2006.
Amortization of loan premiums and securitization expenses decreased by 24 basis points to 0.74% of average mortgage assets during the first quarter of 2007 as compared to 0.98% of average mortgage assets during the same period in 2006. The decrease in amortization of premiums and securitization expenses was the result of a decrease in actual prepayments, which has increased the number of months in which the Company amortizes the premiums, therefore increasing interest income.
A substantial portion of our long-term mortgage investment portfolio consists of mortgages with prepayment penalty features that are primarily designed to help minimize the rate of early mortgage prepayments. However, if borrowers do prepay on mortgages, a prepayment penalty is charged which helps partially offset additional amortization of loan premiums and securitization costs related to the prepaid mortgages. During the first quarter of 2007, prepayment penalties received from borrowers were recorded as interest income and decreased 8 basis points to 11 basis points of mortgage assets as compared to 19 basis points of mortgage assets in the first quarter of 2006.
During the first quarter of 2007, adjusted net interest margins on mortgage assets, which is a non-GAAP financial measurement as indicated in the yield table above, increased by 9 basis points as compared to an increase of 5 basis points on net interest margin on mortgage assets. Adjusted net interest margin on mortgage assets increased more than net interest margin on mortgage assets due to a 2 basis point increase in realized gains from derivative instruments and a 2 basis point decrease on accretion of loan discounts.
Adjusted net interest margins were also affected during the first quarter of 2007 by our interest rate risk management policies which include the employment of balance guarantees that limit our derivatives to no more than 100% coverage of the principal amount outstanding on certain securitized mortgage borrowings at any given time. Our interest rate risk management policies are formulated with the intent to offset the potential adverse effects of changing interest rates primarily associated with cash flows on adjustable rate securitized mortgage borrowings. By design, our current interest rate risk management program typically provides 20% to 25% coverage of the outstanding principal balance of our six month LIBOR ARMs and generally 80% to no more than 98% coverage of the outstanding principal balance of intermediate, or hybrid, ARMs at the point in time that we securitize the mortgages.
For further information on our interest rate risk management policies refer to Item 3. “Quantitative and Qualitative Disclosures About Market Risk.”
26
Provision for Loan Losses
The Company provides loan losses in accordance with its policies that include an analysis of the loan portfolio to determine estimated loan loses expected in the next 12 to 18 months. The analysis includes a detailed analysis of historical loan performance, an analysis based on the estimated value of the underlying property and a non performing loans trend analysis. The results of that analysis are then applied to the current mortgage portfolio and an estimate is created.
The allowance for loan losses of $102.8 million at March 31, 2007 was comprised of specific reserves for estimated hurricane losses of $5.0 million, for finance receivables of $4.6 million, for the mortgage operations of $2.8 million and a loan portfolio reserve of $90.5 million. During the quarter ended March 31, 2007, specific reserves on finance receivables decreased by $6.0 million. The decrease in the specific reserve for finance receivables was due to a settlement of a receivable that had a $7.7 million specific reserve. Exclusive of specific reserves, the Company maintained an allowance for securitized mortgage collateral and mortgage loan held-for-investmentborrowing yields is primarily a result of the adoption of SFAS 159 and the related recognition of interest income and expense based on effective yields for loan losses of 42 basis points at March 31, 2007the six months ended June 30, 2008, based on fair value, as compared to 34using effective interest rates using the historical basis points at December 31, 2006. The ratio of loan portfolio reserve to annualized loan losses, which excludes the finance receivable charge off previously reserved, was 2.12 at March 31, 2007. The Company believes the total allowance for loan losses is adequate to absorb losses inherent in the loan portfolio at March 31, 2007.loans in the prior period. As the market’s expectation of future credit losses has increased, the market has demanded higher yields, as investors require a higher yield on these financial assets and liabilities.
For further information on delinquencies in our long-term investment portfolio and non-performing assets refer to “Financial Condition and Results of Operations—Credit Risk.”
Non-Interest Income
For the Three Months Ended March 31, 2007 compared to the Three Months Ended March 31, 2006:
Changes in Non-Interest Income(dollars in thousands)
|
| For the Three Months Ended March 31, |
| |||||||||
|
|
|
|
|
| Increase |
| % |
| |||
|
| 2007 |
| 2006 |
| (Decrease) |
| Change |
| |||
Realized gain from derivative instruments |
| $ | 37,459 |
| $ | 40,136 |
| $ | (2,677 | ) | (7 | )% |
Change in fair value of derivative instruments |
| (58,761 | ) | 51,429 |
| (110,190 | ) | (214 | ) | |||
Gain(loss) on sale of loans |
| (9,131 | ) | 14,193 |
| (23,324 | ) | (164 | ) | |||
Provision for repurchases |
| (11,828 | ) | (10,336 | ) | (1,492 | ) | (14 | ) | |||
Loss on lower of cost or market writedown |
| (24,694 | ) | 3,496 |
| (28,190 | ) | (806 | ) | |||
Amortization and impairment of mortgage servicing rights |
| (209 | ) | (351 | ) | 142 |
| 40 |
| |||
Gain on sale of real estate owned |
| 844 |
| 354 |
| 490 |
| 138 |
| |||
Provision for REO losses |
| (9,890 | ) | — |
| (9,890 | ) | (100 | ) | |||
Other income |
| 5,648 |
| 8,821 |
| (3,173 | ) | (36 | ) | |||
Total non-interest income |
| $ | (70,562 | ) | $ | 107,742 |
| $ | (178,304 | ) | (165 | )% |
|
| For the Three Months Ended June 30, |
| |||||||||
|
|
|
|
|
| Increase |
| % |
| |||
|
| 2008 |
| 2007 |
| (Decrease) |
| Change |
| |||
Change in fair value of derivative instruments |
| — |
| 91,670 |
| (91,670 | ) | n/a | % | |||
Change in fair value of net trust assets, excluding REO |
| (11,161 | ) | — |
| (11,161 | ) | n/a |
| |||
Change in fair value of trust preferred securities |
| (997 | ) | — |
| (997 | ) | n/a |
| |||
Losses from real estate owned |
| (4,830 | ) | (19,328 | ) | 14,498 |
| 75 |
| |||
Real estate advisory fees |
| 4,696 |
| — |
| 4,696 |
| n/a |
| |||
Other |
| 1,544 |
| (1,538 | ) | 3,082 |
| 200 |
| |||
Total non-interest income |
| $ | (10,748 | ) | $ | 70,804 |
| $ | (81,552 | ) | (115 | )% |
Realized Gain from Derivative Instruments. Realized gains from derivatives decreased by $2.7 million (7 percent) during the first quarter of 2007 as compared to the first quarter of 2006, or 65 basis points of total average mortgage assets during the first quarter of 2007 as compared to 63 basis points of total average mortgage assets during the first quarter of 2006. Realized gains from derivatives are recorded as current period expense or revenue on our consolidated financial statements and are included in the calculation of taxable income. Realized gains exclude the mark to market gains or losses that are realized for tax purposes at the taxable REIT subsidiaries when the loans held-for-sale are deposited into the securitization trust, and the related derivatives are deposited into a swap trust. These gains are not realized for GAAP purposes, as the deposit of the derivatives into the swap trust are considered an inter-company transfer, as the REIT consolidates the swap trust. For GAAP purpose, these gains and losses are included in change in fair value of derivative instruments.
Change in Fair Value of Derivative Instruments. Instruments. The change in the fair value of derivative instruments decreased by $91.7 million during the second quarter of 2008 as compared to the second quarter of 2007, as the Company no longer recognizes the derivative fair value adjustments as a separate component of non-interest income. As a result of the adoption of SFAS 159 the Company now recognizes changes in the fair value of derivative instruments as a component of the change in fair value of net trust assets. The change in fair value of derivative instruments was a gain of $98.3 million during the second quarter of 2008.
Change in Fair Value of Net Trust Assets. The Company recognized a $11.2 million loss from the change in fair value of net trust assets, which is comprised of a loss in the increase of fair value of securitized mortgage borrowings of $88.9 million, gain in the fair value of derivatives instruments of $98.3 million and losses on the reduction in fair value of securitized mortgage collateral and investment securities available-for-sale of $19.0 million, and $1.5 million, respectively. The overall reduction in fair value of the securitized mortgage collateral and securitized mortgage borrowings is the result of a decrease in the fair value of derivative instruments, a decrease in London Interbank Offered Rate (LIBOR) reflected in the forward yield curve and a decrease in the market prices of our mortgage-backed securities.
39
Change in the Fair Value of Trust Preferred Securities. During the second quarter of 2008 the Company recognized a loss in the amount of $1.0 million as a result of increase in the fair value of the trust preferred securities.
|
| For the Six Months Ended June 30, |
| |||||||||
|
|
|
|
|
| Increase |
| % |
| |||
|
| 2008 |
| 2007 |
| (Decrease) |
| Change |
| |||
Change in fair value of derivative instruments |
| — |
| 73,672 |
| (73,672 | ) | n/a | % | |||
Change in fair value of net trust assets, excluding REO |
| (7,633 | ) | — |
| (7,633 | ) | n/a |
| |||
Change in fair value of trust preferred securities |
| (5,020 | ) | — |
| (5,020 | ) | n/a |
| |||
Losses from real estate owned |
| (9,086 | ) | (29,220 | ) | 20,134 |
| 69 |
| |||
Real estate advisory fees |
| 8,540 |
| — |
| 8,540 |
| n/a |
| |||
Other |
| 3,442 |
| 3,749 |
| (307 | ) | (8 | ) | |||
Total non-interest income |
| $ | (9,757 | ) | $ | 48,201 |
| $ | (57,958 | ) | (120 | )% |
Change in Fair Value of Derivative Instruments. The change in the fair value of derivative instruments decreased by $110.2$73.7 million (214 percent) during the first quartersix months of 20072008 as compared to the first quartersix months of 2006. The amount2007, as the Company no longer recognizes the derivative fair value adjustments as a separate component of market valuation adjustment is primarily thenon-interest income. As a result of actual cash receipts on derivative instruments, and partially the resultadoption of SFAS 159 the Company now recognizes changes in the expectationfair value of future interest rates. We primarily enter into derivative contracts to offsetinstruments as a portioncomponent of the changeschange in cash flowsfair value of net trust assets. The change in fair value of derivative instruments was a loss of $83.5 million during the first six months of 2008.
associated withChange in Fair Value of Net Trust Assets. The Company recognized a $7.6 million loss from the change in fair value of net trust assets, which is comprised of gains on the reduction of fair value of securitized mortgage borrowings. We record a market valuation adjustment for these derivatives, as well as other derivatives used byborrowings of $3.3 billion, loss on the mortgage operations to hedge our loan pipeline and mortgage loans held for sale, as current period expense or revenue. Changesreduction in fair value of derivatives at IMH are included in GAAP net earningsinstruments of $83.5 million and backed out for purposes of calculating estimated taxable income.
Gainlosses on Sale of Loans. Gain on sale of loans decreased $23.3 million (164 percent) during the first quarter of 2007 as compared to the first quarter of 2006. The decrease was primarily due to a $2.1 billion (75 percent) decrease in whole loan sales as well as a reduction in execution price mainly due to the disposition of non-performing loans and the reduction in market prices of non-performing loans during the first quarter. Also the marketfair value of performingsecuritized mortgage collateral and non-performing loans decreased, due toinvestment securities available-for-sale of $3.2 billion and $5.8 million, respectively. The overall reduction in fair value of the saturationsecuritized mortgage collateral and securitized mortgage borrowings is the result of loans for salea decrease in the marketplace, compounded by decreasing home prices, which decreases the effective loan-to-value ratio.We use derivatives to protect the marketfair value of mortgages fromderivative instruments, a decrease in London Interbank Offered Rate (LIBOR) reflected in the point in time when we establish an interest rate lock commitment onforward yield curve and a particular mortgage prior to its close until the eventual sale or securitization. Any changes in interest rates on mortgages that we have committed to acquire at a particular rate until we sell or securitize the mortgage generally results in an increase or decrease in the market valueprices of the related derivative. For the quarter-ended March 31, 2007, we recorded a $660.7 thousand loss from the settlement of these derivatives as compared to a loss of $3.1 million for the quarter-ended March 31, 2006.our mortgage-backed securities.
Provision for Repurchases. Provision for repurchases increased $1.5 million (14 percent) during the first quarter of 2007 as compared to the first quarter of 2006. The increaseChange in the provision for repurchases was primarily due to an increase in actual losses, which resulted from a decrease in the credit qualityFair Value of the loans subject to repurchase. At the end of the first quarter of 2007, outstanding loan repurchase requests were $100.5 million, net of negotiated indemnifications, and requests that were inactive, which were $26.2 million compared to $177.2 million as of December 31, 2006, net of $4.8 million in inactive requests.
Loss on Lower of Cost or Market Writedown.Trust Preferred Securities. The loss on lower of cost or market (“LOCOM”) writedown increased $28.2 million (806 percent), primarily due to an increase in non-performing loans held-for-sale to $92.7 million from $66.2 million at year end, primarily related to repurchased loans. Also, the fair value in the marketplace of non-performing loans decreased, as investors require a higher yield, which reduced the fair value of our loans held-for-sale.
Provision for REO loss. During the first quartersix months of 20072008 the Company recordedrecognized a provision for REO lossesloss in the amount of $9.9$5.0 million as a result of changesincrease in the net realizablefair value of the real estate owned subsequent to the foreclosure date.trust preferred securities.
Non-Interest Expense
Changes in Non-Interest Expense(dollars
|
| For the Three Months Ended June 30, |
| |||||||||
|
|
|
|
|
| Increase |
| % |
| |||
|
| 2008 |
| 2007 |
| (Decrease) |
| Change |
| |||
General and administrative |
| $ | 4,925 |
| $ | 4,451 |
| $ | 474 |
| 11 | % |
Personnel expense |
| 2,820 |
| 1,620 |
| 1,200 |
| 74 |
| |||
Total operating expense |
| $ | 7,745 |
| $ | 6,071 |
| $ | 1,674 |
| 28 | % |
Total non-interest expenses remained increased on a quarter-over-quarter basis as personnel expense increased $1.2 million (74 percent) during the second quarter of 2008 as compared to same period in thousands)2007, as a greater amount of the Company’s personnel costs are being utilized within the continuing operations versus discontinued operations. The $474 thousand increase in general and administrative costs is primarily attributable to an increase in professional expenses.
|
| For the Three Months Ended March 31, |
| |||||||||
|
|
|
|
|
| Increase |
| % |
| |||
|
| 2007 |
| 2006 |
| (Decrease) |
| Change |
| |||
Personnel expense |
| $ | 18,388 |
| $ | 18,621 |
| $ | (233 | ) | (1 | )% |
General and administrative and other expense |
| 5,124 |
| 5,073 |
| 51 |
| 1 |
| |||
Professional services |
| 2,693 |
| 2,317 |
| 376 |
| 16 |
| |||
Equipment expense |
| 1,558 |
| 1,510 |
| 48 |
| 3 |
| |||
Occupancy expense |
| 3,820 |
| 1,368 |
| 2,452 |
| 179 |
| |||
Data processing expense |
| 1,738 |
| 1,366 |
| 372 |
| 27 |
| |||
Total operating expense |
| $ | 33,321 |
| $ | 30,255 |
| $ | 3,066 |
| 10 | % |
40
Changes in Non-Interest Expense
|
| For the Six Months Ended June 30, |
| |||||||||
|
|
|
|
|
| Increase |
| % |
| |||
|
| 2008 |
| 2007 |
| (Decrease) |
| Change |
| |||
General and administrative |
| $ | 8,912 |
| $ | 9,960 |
| $ | (1,048 | ) | (11 | )% |
Personnel expense |
| 5,150 |
| 2,464 |
| 2,686 |
| 109 |
| |||
Total operating expense |
| $ | 14,062 |
| $ | 12,424 |
| $ | 1,638 |
| 13 | % |
Total non-interest expenses increased $3.1 million (10 percent) on a quarter-over-quarter basis as occupancypersonnel expense increased $2.5$2.7 million (179(109 percent) during the first quartersix months of 20072008 as compared to same period in 2006. In compliance with Financial Accounting Standard No. 146 “Accounting for Costs Associated with Exit or Disposal Activities,” an additional2007, as a greater amount of the Company’s personnel costs are being utilized within the continuing operations versus discontinued operations. The $1.0 million ofdecrease in general and administrative costs relating to the Company’s ceased use of the buildings leased in Newport Beach, California were recorded in the first quarter of 2007, dueis primarily attributable to a decrease in the estimate of future sublet income. The other $1.5 milliondata processing, communications costs, and occupancy expense offset by an increase is the result of higher lease rates at the Company’s new headquarters in Irvine, California. However, the combining of operations into one location will increase operational efficiencies in the future.professional expenses.
Mortgage Acquisitions and Originations by Channel
The following table summarizes the principal balance of mortgage acquisitions and originations for the periods indicated (in thousands):
| For the Three Months Ended March 31, |
| |||||||||
|
| 2007 |
| 2006 |
| ||||||
|
| Principal |
|
|
| Principal |
|
|
| ||
|
| Balance |
| % |
| Balance |
| % |
| ||
By Production Channel: |
|
|
|
|
|
|
|
|
| ||
Correspondent acquisitions: |
|
|
|
|
|
|
|
|
| ||
Flow |
| $ | 206,602 |
| 8 |
| $ | 1,422,434 |
| 62 |
|
Bulk |
| 944,929 |
| 39 |
| 132,151 |
| 6 |
| ||
Total correspondent acquisitions |
| 1,151,531 |
| 47 |
| 1,554,585 |
| 67 |
| ||
Wholesale and retail originations |
| 1,097,663 |
| 45 |
| 549,549 |
| 24 |
| ||
Total mortgage operations acquisitions |
| 2,249,194 |
| 92 |
| 2,104,134 |
| 91 |
| ||
Commercial Mortgage Operations |
| 196,895 |
| 8 |
| 202,780 |
| 9 |
| ||
Total acquisitions and originations |
| $ | 2,446,089 |
| 100 |
| $ | 2,306,914 |
| 100 |
|
Acquisitions and originations remained flat, increasing to $2.4 billion for the first quarter of 2007 as compared to $2.3 billion for the same period in 2006. Commercial originations decreased 3% to $196.9 million for the first quarter of 2007 as compared to $202.8 million for the same period in 2006. Pricing and underwriting guideline strategy revisions and an increasingly competitive market are the primary reasons acquisitions and originations have remained relatively flat.
Results of Operations by Business Segment
Long-Term InvestmentContinuing Operations
Condensed Statements of Operations Data(dollars in thousands)
| For the Three Months Ended March 31, |
| ||||||||||
|
|
|
|
|
| Increase |
| % |
| |||
|
| 2007 |
| 2006 |
| (Decrease) |
| Change |
| |||
Net interest expense |
| $ | (1,627 | ) | $ | (12,088 | ) | $ | 10,461 |
| (87 | )% |
Provision for loan losses |
| 28,849 |
| 150 |
| 28,699 |
| 19,133 |
| |||
Net interest income after provision for loan losses |
| (30,476 | ) | (12,238 | ) | (18,238 | ) | (149 | ) | |||
|
|
|
|
|
|
|
|
|
| |||
Realized gain from derivative instruments |
| 36,624 |
| 40,136 |
| (3,512 | ) | (9 | ) | |||
Change in fair value of derivative instruments |
| (54,623 | ) | 46,963 |
| (101,586 | ) | (216 | ) | |||
Other non-interest income |
| (9,985 | ) | 90 |
| (10,075 | ) | (11194 | ) | |||
Total non-interest income |
| (27,984 | ) | 87,189 |
| (115,173 | ) | (132 | ) | |||
|
|
|
|
|
|
|
|
|
| |||
Non-interest expense |
| 5,199 |
| 4,392 |
| 807 |
| 18 |
| |||
Net (loss) earnings |
| $ | (63,659 | ) | $ | 70,559 |
| $ | (134,218 | ) | (190 | )% |
|
| For the Three Months Ended June 30, |
| |||||||||
|
|
|
|
|
| Increase |
| % |
| |||
|
| 2008 |
| 2007 |
| (Decrease) |
| Change |
| |||
Net interest income |
| $ | 4,256 |
| $ | 7,874 |
| $ | (3,618 | ) | (46 | )% |
Provision for loan losses |
| — |
| 161,163 |
| (161,163 | ) | n/a |
| |||
Net interest income (expense) after provision for loan losses |
| 4,256 |
| (153,289 | ) | 157,545 |
| 103 |
| |||
|
|
|
|
|
|
|
|
|
| |||
Change in fair value of net trust assets, excluding REO |
| (11,161 | ) | — |
| (11,161 | ) | n/a |
| |||
Change in fair value of derivative instruments |
| — |
| 91,670 |
| (91,670 | ) | n/a |
| |||
Real estate advisory fees |
| 4,696 |
| — |
| 4,696 |
| n/a |
| |||
Other non-interest income (expense) |
| (4,283 | ) | (20,866 | ) | 16,583 |
| 79 |
| |||
Total non-interest (expense) income |
| (10,748 | ) | 70,804 |
| (81,552 | ) | (115 | ) | |||
|
|
|
|
|
|
|
|
|
| |||
Non-interest expense and income taxes |
| 9,947 |
| 11,040 |
| (1,093 | ) | (10 | ) | |||
Net (loss) earnings from continuing operations |
| $ | (16,439 | ) | $ | (93,525 | ) | $ | 77,086 |
| 82 | % |
Net (loss) earningsloss for the quarter ended March 31, 2007June 30, 2008 decreased $134.2$77.1 million (190 percent) as compared to the firstsecond quarter of 2006.2007. The quarter-over-quarter decreaseprimary reason for the reduction in net earnings was primarily due to the change in fair value on derivative instruments which decreased $101.6 million (216 percent) for the first quarter of 2007 as compared to the first quarter of
2006. The market valuation adjustmentloss is the resultadoption of changes in the expectation of future interest ratesSFAS 159 for securitized mortgage collateral, borrowings and an inversion in the forward yield curve. Additionally, net interest income increased $10.5 million (87 percent), primarily due totrust preferred securities. The Company no longer records a reduction in premium amortization, as a result of lower actual and projected prepayment speeds. The Company’s adjusted coupon rates have increased in excess of the increase in borrowing costs, compared to the prior year first quarter, partially offset by realized gain (loss) from derivatives which decreased to $36.6provision for loan losses ($161.2 million for the firstsecond quarter of 2007 compared to $40.1 for the first quarter of 2006. Together, net interest income2007) and realized gain (loss) from derivative instruments increased 25% to $35.0 million for the three months ended March 31, 2007 compared to $28.0 million for the three months ended March 31, 2006. This increase is primarily attributable to the aforementioned reduction in premium amortization.
Mortgage Operations
Condensed Statements of Operations Data(dollars in thousands)
| For the Three Months Ended March 31, |
| ||||||||||
|
|
|
|
|
| Increase |
| % |
| |||
|
| 2007 |
| 2006 |
| (Decrease) |
| Change |
| |||
Net interest income (expense) |
| $ | (4,331 | ) | $ | 1,277 |
| $ | (5,608 | ) | (439 | )% |
Provision for loan losses |
| 812 |
| — |
| 812 |
| 100 |
| |||
Net interest income (expense) after provison for loan losses |
| $ | (5,143 | ) | $ | 1,277 |
| $ | (6,420 | ) | (503 | ) |
|
|
|
|
|
|
|
|
|
| |||
Gain on sale of loans |
| 5,248 |
| 19,948 |
| (14,700 | ) | (74 | ) | |||
Provision for repurchases |
| (11,828 | ) | (10,336 | ) | (1,492 | ) | (14 | ) | |||
Loss on lower of cost or market writedown |
| (24,694 | ) | 3,497 |
| (28,191 | ) | (806 | ) | |||
Other income |
| 3,304 |
| 9,871 |
| (6,567 | ) | (67 | ) | |||
Non-interest expense and income taxes |
| 21,033 |
| 22,004 |
| (971 | ) | (4 | ) | |||
Net (loss) earnings |
| $ | (54,146 | ) | $ | 2,253 |
| $ | (56,399 | ) | (2,503 | )% |
The mortgage operations generates income by securitizing or selling mortgages to permanent investors, including the long-term investment operations and, to a lesser extent, earns revenue from fees associated with mortgage servicing rights, master servicing agreements and interest income earned on mortgages held-for-sale.
Net earnings for the mortgage operations decreased $56.4 million (2,503 percent) primarily due to the following changes:
·decrease of $5.6 million in net interest income (expense);
·decrease of $14.7 million in gains from the sale of loans;
·increase in charges to expense of $28.2 million for the change in valuation of loans held-for-sale; and
·a decrease in other income of $6.6 million.
Net interest income dropped $5.6 million as the yields on borrowings to finance mortgage loans held-for-sale increased 63 basis points for the first quarter of 2007, primarily the result of a 49 basis point increase in the one-month LIBOR since the end of the first quarter of 2006.
Gains from the sale of loans decreased $14.7 million as a result of lower volumes of mortgages sold to third party investors which resulted in a decrease in gain (loss) on sale of loans. The decrease was primarily due to a $2.1 billion (75 percent) decrease in whole loan sales as well as a reduction in execution price mainly due to the disposition of non-performing loans, which decreased as a result of the saturation of loans for sale and the uncertainty in the real estate market.
The Company recorded loans held-for-sale at the lower of cost or market resulting in a $28.2 million increase in the write-down of loans held-for-sale as current market conditions, such as the widening of credit and bond spreads and a lack of demand for mortgage product forced the loans to drop in value prior to securitization, sale or transfer. The $24.7 million write-down was primarily attributable to loans repurchased during the first quarter of 2007 and fourth quarter of 2006. The mortgage operations are reflected as a stand-alone entity for segment financial reporting purposes; however, on the consolidated financial statements inter-company loan sales and related gains are eliminated.
Other income decreased $6.6 million which was primarily the result of an unfavorable mark to market adjustment on the derivatives at the mortgage operations. The mark to market adjustment for the first quarter of 2007 decreased $6.1 million to a loss of $2.5 million as a result of changes in the fair value of the derivative instruments due to the expectation of future interest rates.
Commercial Operations
Condensed Statements of Operations Data(dollars in thousands)
| For the Three Months Ended March 31, |
| ||||||||||
|
|
|
|
|
| Increase |
| % |
| |||
|
| 2007 |
| 2006 |
| (Decrease) |
| Change |
| |||
Net interest income (expense) |
| $ | (314 | ) | $ | 134 |
| $ | (448 | ) | (334 | )% |
Non-interest income |
| (1,532 | ) | 1,877 |
| (3,409 | ) | (182 | ) | |||
Non-interest expense and income taxes |
| 2,674 |
| 2,410 |
| 264 |
| 11 |
| |||
Net (loss) earnings |
| $ | (4,520 | ) | $ | (399 | ) | $ | (4,121 | ) | (1033 | )% |
Net (loss) earnings for the commercial operations was $4.1 million (1,033 percent) lower for the first quarter of 2007. Gain on sale of loans resulted in a loss of $2.9 million, including the cost, and change in the fair value of derivatives deposited into the trust, primarily as a result of the losses incurred during the first quarter in conjunction with the REMIC 07-2 securitization, as a result of bond proceeds and cash from selling the mortgage servicing, at less than the securitization and derivative costs included in the transaction. Non-interest income was $3.4 million (182 percent) lower in the first quarter of 2007 primarily due to the decrease in gain on sale of loans of $1.1 million andseparately the change in fair value of derivative instruments ($91.7 million gain for the second quarter of $2.4 million.2007), which is now included in the change in fair value of net trust assets, which consisted of a $98.3 million gain on derivatives offset by a $109.5 million decrease in the fair value of the remaining net trust assets, due to the decline in forward LIBOR rates. The commercial operations are reflectedfair value of trust preferred securities increased $1.0 million during the second quarter of 2008.
41
Condensed Statements of Operations Data
|
| For the Six Months Ended June 30, |
| |||||||||
|
|
|
|
|
| Increase |
| % |
| |||
|
| 2008 |
| 2007 |
| (Decrease) |
| Change |
| |||
Net interest income |
| $ | 11,605 |
| $ | 15,817 |
| $ | (4,212 | ) | (27 | )% |
Provision for loan losses |
| — |
| 190,295 |
| (190,295 | ) | n/a |
| |||
|
|
|
|
|
|
|
|
|
| |||
Net interest income (expense) after provision for loan losses |
| 11,605 |
| (174,478 | ) | 186,083 |
| 107 |
| |||
|
|
|
|
|
|
|
|
|
| |||
Change in fair value of net trust assets, excluding REO |
| (7,633 | ) | — |
| (7,633 | ) | n/a |
| |||
Change in fair value of derivative instruments |
| — |
| 73,672 |
| (73,672 | ) | n/a |
| |||
Real estate advisory fees |
| 8,540 |
| — |
| 8,540 |
| n/a |
| |||
Other non-interest income (expense) |
| (10,664 | ) | (25,471 | ) | 14,807 |
| 58 |
| |||
Total non-interest (expense) income |
| (9,757 | ) | 48,201 |
| (57,958 | ) | (120 | ) | |||
|
|
|
|
|
|
|
|
|
| |||
Non-interest expense and income taxes |
| 22,790 |
| 21,380 |
| 1,410 |
| 7 |
| |||
Net (loss) earnings from continuing operations |
| $ | (20,942 | ) | $ | (147,657 | ) | $ | 126,715 |
| 86 | % |
Net loss for the six months ended June 30, 2008 decreased $126.7 million as compared to the first six months of 2007. The primary reason for the reduction in net loss is the result of the adoption of SFAS 159 for securitized mortgage collateral, borrowings and trust preferred securities. The Company no longer records a stand-alone entityprovision for segment financial reporting purposes. However,loan losses ($190.3 million for the first six months of 2007) and separately the change in fair value of derivative instruments ($73.7 million gain for the first six months of 2007), which is now included in the change in fair value of net trust assets, which consisted of a $83.5 million loss on derivatives offset by a $75.9 million increase in the consolidated financial statements inter-company loan sales and related gains are eliminated.fair value of the remaining net trust assets, due to the decline in forward LIBOR rates. The fair value of trust preferred securities increased $5.0 million during the first six months of 2008.
Warehouse LendingDiscontinued Operations
Condensed Statements of Operations Data(dollars in thousands)
| For the Three Months Ended March 31, |
| ||||||||||
|
|
|
|
|
| Increase |
| % |
| |||
|
| 2007 |
| 2006 |
| (Decrease) |
| Change |
| |||
Net interest income |
| $ | 8,451 |
| $ | 7,691 |
| $ | 760 |
| 10 | % |
Recovery of loan losses |
| (287 | ) | — |
| (287 | ) | (100 | ) | |||
Non-interest income |
| 740 |
| 797 |
| (57 | ) | (7 | ) | |||
Non-interest expense and income taxes |
| 2,294 |
| 1,874 |
| 420 |
| 22 |
| |||
Net earnings |
| $ | 7,184 |
| $ | 6,614 |
| $ | 570 |
| 9 | % |
|
| For the Three Months Ended June 30, |
| |||||||||
|
|
|
|
|
| Increase |
| % |
| |||
|
| 2008 |
| 2007 |
| (Decrease) |
| Change |
| |||
Net interest income |
| $ | 1,543 |
| $ | 5,109 |
| $ | (3,566 | ) | (70 | )% |
Provision for loan losses |
| — |
| (1,818 | ) | 1,818 |
| n/a |
| |||
Net interest income after provison for loan losses |
| $ | 1,543 |
| $ | 3,291 |
| $ | (5,384 | ) | (164 | ) |
|
|
|
|
|
|
|
|
|
| |||
Loss on sale of loans |
| (8,246 | ) | (6,525 | ) | (1,721 | ) | (26 | ) | |||
Provision for repurchases |
| (1,823 | ) | (18,889 | ) | 17,066 |
| 90 |
| |||
Other income (loss) |
| 1,715 |
| (8,875 | ) | 10,590 |
| 119 |
| |||
Personnel expense |
| (3,680 | ) | (22,021 | ) | 18,341 |
| 83 |
| |||
|
|
|
|
|
|
|
|
|
| |||
Non-interest expense and income taxes |
| (557 | ) | (6,003 | ) | 5,446 |
| 91 |
| |||
Net loss |
| $ | (11,048 | ) | $ | (59,022 | ) | $ | 47,974 |
| 81 | % |
Net earningsloss for the discontinued operations decreased $48.0 million primarily due to the following changes:
·decrease of $17.1 million in provision for repurchases.
·decrease in other income (loss) of $10.6 million.
·decrease in personnel expense of $18.3 million.
42
Provision for repurchases decreased $17.1 million during the second quarter ended March 31, 2007 increased $570 thousand (9 percent)of 2008 as compared to 2007. The decrease in the first quarter of 2006. The increase in net earningsprovision for repurchases was primarily due to anthe settlement of $117 repurchase obligations.
Other income (loss) increased $10.6 million during the second quarter of 2008 as compared to 2007. The increase was mainly attributable to the Company recording a goodwill impairment charge of $760 thousand (10 percent)$12.4 million during the second quarter of 2007 related to the acquisition of certain production facilities.
The decrease in net interest income, aspersonnel expense during the quarter was a result of a 131 basis point increase in the yield from finance receivables despite the average balance on finance receivables declining by 9 percent quarter-over-quarter. Additionally, a recovery from loan losses was recorded which increased net earnings by $287 thousand. Non-interest expense and income taxes increased $420 thousand quarter over quartermore costs being allocated to continuing operations due to an increase in legal and professional expense. For the three months ended March 31, 2007 and March 31, 2006, no provision for loan loss was recorded. The warehouse lending operations is reflected as a stand-alone entity for segment financial reporting purposes. However, ondiscontinuation of the consolidated financial statements inter-company finance receivables and borrowings are eliminated.
Liquidity and Capital Resourcesmortgage operations.
|
| For the Six Months Ended June 30, |
| |||||||||
|
|
|
|
|
| Increase |
| % |
| |||
|
| 2008 |
| 2007 |
| (Decrease) |
| Change |
| |||
Net interest income |
| $ | 3,213 |
| $ | 10,622 |
| $ | (7,409 | ) | (70 | )% |
Provision for loan losses |
| — |
| (2,061 | ) | 2,061 |
| n/a |
| |||
Net interest income after provison for loan losses |
| $ | 3,213 |
| $ | 8,561 |
| $ | (9,470 | ) | (111 | ) |
|
|
|
|
|
|
|
|
|
| |||
Loss on sale of loans |
| (8,711 | ) | (40,327 | ) | 31,616 |
| 78 |
| |||
Provision for repurchases |
| 8,435 |
| (30,718 | ) | 39,153 |
| 127 |
| |||
Other income (loss) |
| 1,255 |
| (11,202 | ) | 12,457 |
| 111 |
| |||
Personnel expense |
| (8,973 | ) | (39,563 | ) | 30,590 |
| 77 |
| |||
|
|
|
|
|
|
|
|
|
| |||
Non-interest expense and income taxes |
| (5,579 | ) | (13,309 | ) | 7,730 |
| 58 |
| |||
Net loss |
| $ | (10,360 | ) | $ | (126,558 | ) | $ | 116,198 |
| 92 | % |
We recognize
Net loss for the needdiscontinued operations decreased $116.2 million primarily due to have funds available for our operating businesses and our customers’ demands for obtaining short-term warehouse financing until the settlement or sale of mortgages with us or with other investors. It is our policy to have adequate liquidity at all times to cover normal cyclical swings in funding availability and mortgage demand and to allow us to meet abnormal and unexpected funding requirements. We plan to meet liquidity through normal operations with the goal of avoiding unplanned sales of assets or emergency borrowing of funds. Toward this goal, our asset/liability committee, or “ALCO,” is responsible for monitoring our liquidity position and funding needs.following changes:
ALCO participants include senior executives of the long-term investment operations, the mortgage operations, the commercial operations, and warehouse lending operations. ALCO meets on a weekly basis to review current and projected sources and uses of funds. ALCO monitors the composition of the balance sheet for changes in the liquidity of our assets. Our primary liquidity consists of cash and cash equivalents; short-term securities available for sale, and maturing mortgages, or “liquid assets.”
We believe that current cash balances, short-term investments, currently available financing facilities, capital raising capabilities and excess cash flows generated from our long-term mortgage portfolio will adequately provide for projected funding needs and limited asset growth.
Our operating businesses primarily use available funds as follows:
· acquisition and originationdecrease of mortgages by the mortgage, commercial, and long-term investment operations;$31.6 million in loss on sale of loans.
· long-term investmentdecrease of $39.2 million in mortgages and mortgage backed securities by the long-term investment operations;provision for repurchases.
· provide short-term warehouse advances by the warehouse lending operations;decrease in other income (loss) of $12.5 million.
· pay interestdecrease in personnel expense of $30.6 million.
Loss on debt;
· distribute common and preferred stock dividends;
· pay operating and non-operating expenses; and,
· repurchasesale of loans under normal contractual representations and warranties.
Acquisition and origination of mortgages by the mortgage, commercial, and long-term investment operations. Duringdecreased $31.6 million to an $8.7 million loss in the first quartersix months of 2007 $2.4 billion2008. The decrease was acquired bydue to a significant reduction in the long-term investment operations for long-term investment which includes $2.2 billion of primarily Alt-A mortgages originated by the mortgage operations, and $234.0 million of commercial mortgages originated or acquired by the commercial operations. Capital invested in mortgages is outstanding until we sell or securitize mortgages, which is one of the reasons we attempt to sell or securitize mortgages within 90 days of acquisition or origination. Initial capital invested in mortgages includes premiums paid when mortgages are acquired and originated and our capital investment, or “haircut,” required upon financing, which is generally determined by the type of collateral provided. The mortgage operations acquired and originated mortgages which were financed with warehouse borrowings from the warehouse lending operations at a haircut generally between 2% to 15% of the outstanding principal balance of loans held-for-sale between periods resulting from collections, prepayments, loan sales, securitizations and reduced LOCOM adjustments. For the mortgages. In addition, ICCC originated $196.9six months ended June 30, 2008, gain on sale of loans $7.5 million, compared to a loss of commercial mortgages which were initially financed with short-term warehouse financing from$5.5 million in the warehouse lending operations at a haircutcomparable period of generally 3%2007. For the six months ended June 30, 2008, we recorded $16.2 million in additional LOCOM adjustments, compared to $34.9 million for the comparable period of 2007.
Provision for repurchases decreased $39.2 million during the outstanding principal balancefirst six months of the mortgages.
Long-term investment in mortgages by the long-term investment operations. The long-term investment operations acquire primarily Alt-A mortgages from the mortgage and commercial operations and finance them with reverse repurchase borrowings from the warehouse lending operations at substantially the same terms as the mortgage and commercial operations. When the long-term investment operations finance mortgages with long-term securitized mortgage borrowings, short-term reverse repurchase financing is repaid. Then, depending on credit ratings from national credit rating agencies on our securitized mortgages, we are generally required to provide an over-collateralization, or “OC”, of 0.35 percent to 1 percent of the principal balance of mortgages securing securitized mortgage financing2008 as compared to a haircut of 2 percent to 10 percent of the principal balance of mortgages securing short-term reverse repurchase financing. Our total capital investment in securitized mortgages generally ranges from approximately 2 percent to 5 percent of the principal balance of
mortgages securing securitized mortgage borrowings which includes premiums paid upon acquisition of mortgages from the mortgage operations, costs paid for completion of securitized mortgages, costs to acquire derivatives and OC required to achieve desired credit ratings. Commercial mortgages are financed on a long-term basis with securitized mortgage borrowings at substantially the same rates and terms as Alt-A mortgages. Commercial loans generally have a 3 percent haircut on reverse repurchase lines and initial over collateralization target of 2.75 percent to 3.37 percent
Provide short-term warehouse advances by the warehouse lending operations. We utilize committed and uncommitted reverse repurchase facilities with various lenders to provide short-term warehouse financing to affiliates and non-affiliated clients of the warehouse lending operations.2007. The warehouse lending operations provides short-term financing to the mortgage operations and non-affiliated clients from the closing of mortgages to their sale or other settlement with investors. The warehouse lending operations generally finances between 90% and 98% of the fair market value of the principal balance of mortgages, which equates to a haircut requirement of between 10% and 2%, respectively, at one-month LIBOR, plus a spread. The mortgage operations have uncommitted warehouse line agreements to obtain financing from the warehouse lending operations at one-month LIBOR plus a spread during the period that the mortgage operation accumulates mortgages until the mortgages are securitized or sold. As of March 31, 2007, the mortgage and commercial operations had $677.3 million and $135.5 million, respectively, of warehouse advances outstanding with the warehouse lending operations. In addition, as of March 31, 2007, the warehouse lending operations had $700.5 million of approved warehouse lines available to non-affiliated clients, of which $205.7 million was outstanding.
Our ability to meet liquidity requirements and the financing needs of our customers is subject to the renewal of our credit and repurchase facilities or obtaining other sources of financing, if required, including additional debt or equity from time to time. Any decision our lenders or investors make to provide available financing to usdecrease in the future will depend upon a number of factors, including:
· our compliance with the terms of our existing credit arrangements, including any financial covenants;
· our financial performance;
· industry and market trends in our various businesses;
· the general availability of, and rates applicable to, financing and investments;
· our lenders or investors resources and policies concerning loans and investments; and
· the relative attractiveness of alternative investment or lending opportunities.
Distribute common and preferred stock dividends. We are required to distribute a minimum of 90% of our taxable income to our stockholders in order to maintain our REIT status, exclusive of the application of any tax loss carry forwards that may be used to offset current period taxable income. Because we pay dividends based on taxable income, dividends may be more or less than net earnings. We declared cash dividends of $0.10 per outstanding common shareprovision for the first quarter of 2007 on estimated taxable income of $0.25 per diluted common share and paid cash dividends of $0.25 per outstanding common share for the fourth and first quarters of 2006. In addition, we paid cash dividends of $3.7 million on preferred stock during the first quarter of 2007.
A portion of dividends paid to IMH’s stockholders can come from dividend distributions from the mortgage operations and commercial operations, our taxable REIT subsidiaries, to IMH. During the first quarter of 2007, the mortgage and commercial operations provided no dividend distributions to IMH. The mortgage and commercial operations may seek to retain earnings to fund the acquisition and origination of mortgages, to expand the mortgage operations, or to fund operating losses. The board of directors of our taxable REIT subsidiaries, which is different from the board of directors of the registrant, may decide that the mortgage and/or commercial operations should cease making dividend distributions in the future. This could reduce the amount of taxable income that would be distributed to IMH stockholders in the form of common stock dividend payment amounts.
During the first quarter of 2007, our operating businesses wererepurchases was primarily funded as follows:
· Securitized mortgage borrowings and reverse repurchase agreements;
· excess cash flows from our long-term mortgage portfolio; and
· sale and securitization of mortgages.
Reverse repurchase agreements and securitized mortgage borrowings. We use reverse repurchase agreements to fund substantially all financing to affiliates and non-affiliated clients and for the acquisition and origination of Alt-A and commercial mortgages. As we accumulate mortgages, we finance the acquisition of mortgages primarily through borrowings on reverse repurchase facilities with third party lenders. We primarily use uncommitted and committed facilities with major investment banks to finance substantially all warehouse financing, as needed. During the first quarter of 2007 the warehouse facilities amounted to $6.0 billion, of which $1.2 billion was outstanding at March 31, 2007. The warehouse facilities provide us with a higher aggregate credit limit to fund the acquisition and origination of mortgages at terms comparable to those we have received in the past. These warehouse facilities may have certain covenant tests which we are required to satisfy. For a discussion of the Company’s compliance with its financial covenants see “Note J—Reverse Repurchase Agreements” in the accompanying notes to the consolidated financial statements. From time to time, we may also receive additional uncommitted interim financing from our lenders in excess of our permanent borrowing limits to finance mortgages during the accumulation phase and prior to securitizations or dispositions in the form of whole loan sales.
From time to time, we may also utilize term reverse repurchase financing provided to us by underwriters who underwrite some of our securitizations. The term reverse repurchase financing funds mortgages that are specifically allocated to securitization transactions, which allows us to reduce overall borrowings outstanding on reverse repurchase agreements with other lenders during the period immediately priordue to the settlement of $117 million in repurchase obligations.
Other income (loss) increased $12.5 million during the securitization. Terms and interest rates onfirst six months of 2008 as compared to 2007. The increase was mainly attributable to the term reverse repurchase facilities are generally lower than on other reverse repurchase agreements. Term reverse repurchase financing are generally repaid within 30 days fromCompany recording a goodwill impairment charge of $12.4 million during the date funds are advanced.
We expectsecond quarter of 2007 related to continue to use short-term reverse repurchase facilities to fund the acquisition of mortgages. If we cannot renew or replace maturing borrowings, we may havecertain production facilities.
The decrease in personnel expense during the quarter was a result of more costs being allocated to sell, on a whole loan basis,continuing operations due to the mortgages securing these facilities, which, depending upon market conditions may result in substantial losses. Additionally, if for any reason the market value of our mortgages securing reverse repurchase facilities decline, our lenders may require us to provide them with additional equity or collateral to secure our borrowings, which may require us to sell mortgages at substantial losses.
In order to mitigate the liquidity risk associated with reverse repurchase agreements, we attempt to sell or securitize our mortgages within 90 days from acquisition or origination. Although securitizing mortgages more frequently adds operating and securitization costs, we believe the added cost is offset as liquidity is provided more frequently with less interest rate and price volatility, as the accumulation and holding period of mortgages is shortened. When we have accumulated a sufficient amount of mortgages, we seek to issue securitized mortgages and convert short-term advances under reverse repurchase agreements to long-term securitized mortgage borrowings. The use of securitized mortgage borrowings provides the following benefits:
· allows us to use long-term financing for the durationdiscontinuation of the securitized mortgage asset secured by the underlying mortgages; andoperations.
· eliminates margin calls on the borrowings that are converted from reverse repurchase agreements to securitized mortgage borrowings.
During the first quarter43
Excess cash flows from our long-term mortgage portfolio. We receive excess cash flows on mortgages held as securitized mortgage collateral after distributions are made to investors on securitized mortgage borrowings to the extent cash or other collateral required to maintain desired credit ratings on the securitized mortgage borrowings is fulfilled and can be used to provide funding for some of the long-term investment operations’ activities. Excess cash flows represent the difference between principal and interest payments on the underlying mortgages, adjusted by the following:
· servicing and master servicing fees paid;
· premiums paid to mortgage insurers;
· cash payments / receipts on derivatives;
· interest paid on securitized mortgage borrowings;
· pro-rata early principal prepayments paid on securitized mortgage borrowings;
· OC requirements;
· actual losses, net of any gains incurred upon disposition of other real estate owned or acquired in settlement of defaulted mortgages;
· unpaid interest shortfall;
· basis risk shortfall;
· bond writedowns reinstated; and
· residual cashflow.
Sale and securitization of mortgages. We sell and securitize loans in the following ways:
· When the mortgage and commercial operations accumulate a sufficient amount of mortgages that are intended to be deposited into a securitized mortgage trust, it sells the mortgages to the long-term investment operations; and
· When selling mortgages on a whole loan basis, the mortgage operations will accumulate mortgages and enter into sales transactions with third party investors on a monthly basis.
The mortgage and commercial operations sold $2.4 billion of mortgages to the long-term investment operations during the first quarter of 2007 and sold $709.7 million of mortgages to third party investors through whole loan sales. Generally, the mortgage operations sold mortgage servicing rights on all mortgages sold during the first quarter of 2007, but retained all master servicing rights. The sale of mortgage servicing rights generated substantially all cash, which was used to acquire and originate additional mortgage assets.
Since we rely significantly upon sales and securitizations to generate cash proceeds to repay borrowings and to create credit availability, any disruption in our ability to complete sales and securitizations may require us to utilize other sources of financing, which, if available at all, may be on less favorable terms. In addition, delays in closing sales and securitizations of our mortgages increase our risk by exposing us to credit and interest rate risk for this extended period of time.
Issuance of Common and Preferred Stock. We have a shelf registration statement that allows us to sell up to $1.0 billion of securities, including common stock, preferred stock, debt securities and warrants. By issuing new shares periodically throughout the year, we believe that we were able to utilize new capital more efficiently and profitably.Contents
On September 30, 2005, the Company entered into a common stock sales agreement with Brinson Patrick Securities Corporation (Brinson Patrick) for the sale of up to 7.5 million shares of its common stock from time to time through Brinson Patrick as sales agent. No shares of common stock were sold during the first quarter of 2007.
On September 30, 2005, the Company entered into a Preferred Stock sales agreement with Brinson Patrick, for the sale of up to 800,000 shares of its 9.125% Series C Cumulative Redeemable Preferred Stock (Series C Preferred Stock) from time to time through Brinson Patrick as sales agent. During the three months ended March 31, 2007, we sold 24,700 shares of Series C Preferred Stock and received net proceeds of approximately $565,281. Brinson Patrick received a commission of 3% of the gross sales price per share of the shares of preferred stock sold pursuant to the sales agreement, which amounted to an aggregate commission of $17,501.
For the three months ended March 31, 2007, the ratio of earnings to fixed charges and ratio of earnings to combined fixed charges and preferred stock dividends was 0.64x and 0.63x, respectively. Earnings used in computing the ratio of earnings to fixed charges consist of net earnings before income taxes plus fixed charges. Fixed charges include interest expense on debt and the portion of rental expense deemed to represent the interest factor. The amount of the shortfall of earnings to fixed charges for the first quarter of 2007 was $119.8 million, which represents losses before taxes.
Inflation/Deflation
The consolidated financial statements and corresponding notes to the consolidated financial statements have been prepared in accordance with GAAP, which require the measurement of financial position and operating results in terms of historical dollars without considering the changes in the relative purchasing power of money over time due to inflation. The impact of inflation is reflected in the increased costs of our operations. Unlike industrial companies, nearly all of our assets and liabilities are monetary in nature. As a result, interest rates have a greater impact on our performance than do the effects of general levels of inflation. Inflation affects our operations primarily through its effect on interest rates, since interest rates normally increase during periods of high inflation and decrease during periods of low inflation. During periods of increasing interest rates, demand for mortgages and a borrower’s ability to qualify for mortgage financing in a purchase transaction may be adversely affected. During periods of decreasing interest rates and housing price appreciation, borrowers may prepay their mortgages, which in turn may adversely affect our yield and subsequently the value of our portfolio of mortgage assets.
Off Balance Sheet Arrangements
In the ordinary course of business, we sold whole pools of loans with recourse for borrower defaults. When whole pools are sold as opposed to securitized, the third party has recourse against us for certain borrower defaults. Because the loans are no longer on our balance sheet, the recourse component is considered a guarantee. During the first quarter of 2007, we sold $657.7 million of loans with recourse for borrower defaults compared to $977.8 million in the fourth quarter of 2006. We maintained a $17.1 million reserve related to these guarantees as of March 31, 2007 compared with a reserve of $15.3 million as of December 31, 2006. During the first quarter of 2007 we paid $57.2 million in cash to repurchase loans sold to third parties as compared to $39.6 million during the fourth quarter of 2006.
ITEM 3: QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
General Overview
We manage credit, prepaymentFor quantitative and liquidityqualitative disclosures about market risk, see Item 7A, “Quantitative and Qualitative Disclosures About Market Risk,” included in our annual report on Form 10-K for the normal course of business. Since a significant portion of our revenues and earnings are derived from net interest income, we strive to manage our interest-earning assets and interest-bearing liabilities to generate what we believe to be an appropriate contribution from net interest income. When interest rates fluctuate, profitability can be adversely affected by changes in the fair market value of our assets and liabilities and by the interest spread earned on interest-earning assets and interest-bearing liabilities. We derive income from the differential spread between interest earned on interest-earning assets and interest paid on interest-bearing liabilities. Any change in interest rates affects income received and income paid from assets and liabilities in varying and typically in unequal amounts. Changing interest rates may compress or widen our interest rate margins and affect overall earnings.
Interest rate risk management is the responsibility of the Asset Liability Committee (ALCO), which is comprised of senior management and reports results of interest rate risk analysis to the IMH board of directors on at least a quarterly basis. ALCO establishes policies that monitor and coordinate sources, uses and pricing of funds. ALCO also attempts to reduce the volatility in net interest income by managing the relationship of interest rate sensitive assets to interest rate sensitive liabilities. In addition, various modeling techniques are used to value interest sensitive mortgage-backed securities. The value of investment securities available-for-sale is determined using a discounted cash flow model using prepayment rate, discount rate and credit loss assumptions.year ended December 31, 2007. Our investment securities portfolio is available-for-sale, which requires us to perform market valuations of the securities in order to properly record the portfolio. We continually monitor interest rates of our investment securities portfolio as compared to prevalent interest rates in the market. We do not currently maintain a securities trading portfolio and are not exposedexposures to market risk as it relates to speculative trading activities.
Changes in Interest Rates
Interest rate risk management policies intended to limit our exposure to changes in interest rates primarily associated with cash flows on our adjustable rate securitized mortgage borrowings. Our primary objective is to limit our exposure to the variability in future cash flows attributable to the variability of one-month LIBOR, which is the underlying index of our adjustable rate securitized mortgage borrowings. We also monitor on an ongoing basis the prepayment risks that arise in fluctuating interest rate environments. Our interest rate risk management policies are formulated with the intent to offset potential adverse effects of changing interest rates on cash flows on adjustable rate securitized mortgage borrowings.
We primarily acquire for long-term investment ARMs and hybrid ARMs and, to a lesser extent, FRMs. ARMs are generally subject to periodic and lifetime interest rate caps. This means that the interest rate of each ARM is limited to upwards or downwards movements on its periodic interest rate adjustment date, generally six months, or over the life of the mortgage. Periodic caps limit the maximum interest rate change, which can occur on any interest rate change date to generally a maximum of 1% per semiannual adjustment. Also, each ARM has a maximum lifetime interest rate cap. Generally, borrowings arehave not subject to the same periodic or lifetime interest rate limitations. During a period of rapidly increasing or decreasing interest rates, financing costs could increase or decrease at a faster rate than the periodic interest rate adjustments on mortgages would allow, which could affect net interest income. In addition, if market rates were to exceed the maximum interest rate limits of our ARMs, borrowing costs could increase while interest rates on ARMs would remain constant. We also acquire hybrid ARMs that have initial fixed interest rate periods generally ranging from two to seven years which subsequently convert to ARMs. During a rapidly increasing or decreasing interest rate environment financing costs would increase or decrease more rapidly than would interest rates on mortgages, which would remain fixed until their next interest rate adjustment date. In order to provide protection against potential resulting basis risk shortfall on the related liabilities, we purchase derivatives.
The use of derivatives to manage risk associated with changes in interest rates is an integral part of our strategy. The amount of cash payments or cash receipts on derivatives is determined by (1) the notional amount of the derivative and (2) current interest rate levels in relation to the various strikes or coupons of derivatives during a particular time period. As of March 31, 2007 andchanged materially since December 31, 2006, we had notional balances of interest rate swaps, caps, and floors of $19.7 billion and $19.5 billion, respectively, with net fair values of $78.1 million and $132.5 million, respectively, pertaining to our current and pending securitizations. By using derivatives, we attempt to minimize the effect of both upward and downward interest rate changes on our long-term mortgage portfolio. Our goal is to moderate significant changes to base case net interest income, including net cash flows from derivatives, as interest rates change. We primarily acquire swaps, and to a lesser extent caps, to essentially convert our adjustable rate securitized mortgage borrowings into fixed rate borrowings. For instance, we receive one-month LIBOR on swaps, which offsets interest expense on adjustable rate securitized mortgage borrowings, and we pay a fixed interest rate.2007.
The interest rate risk profile of our balance sheet is more sensitive to changes in interest rates related to our liabilities. We use derivatives extensively in order to manage the interest rate, or price risk, inherent in our assets, liabilities and loan commitments. Our main objective in managing interest rate risk is to moderate the effect of changes in interest rates on our earnings over time. Our interest rate risk management strategies may result in significant earnings volatility in the short term. The success of our interest rate risk management strategy is largely dependent on our ability to predict the earnings sensitivity of our loan production operation and long-term investment operations in various interest rate environments. There are many market factors that affect the performance of our interest rate risk management activities including interest rate volatility, prepayment behavior, the shape of the yield curve and the spread between mortgage interest rates and treasury or swap rates. The success of this strategy affects our net earnings. This effect, which can be either positive or negative, can be material.
We measure the sensitivity of our net interest income to changes in interest rates affecting interest sensitive assets and liabilities using various simulations. These simulations take into consideration changes that may occur in investment and financing strategies, the forward yield curve, interest rate risk management strategies, mortgage prepayment speeds and the volume of mortgage acquisitions and originations. As part of various interest rate simulations, we calculate the effect of potential changes in interest rates on our interest-earning assets and interest-bearing liabilities and their affect on overall earnings. The simulations assume instantaneous and parallel shifts in interest rates and to what degree those shifts affect net interest income.
The following table estimates the financial effect to base case, including net cash flow from derivatives, from various instantaneous and parallel shifts in interest rates based on both our consolidated structure and un-consolidated structure, which refers to the notional amount of derivatives that are not recorded on our balance sheet as of February 28, 2007 (dollar amounts in millions):
| Changes in base case as of February 28, 2007 (1) |
| |||||||||
|
| Excluding net |
| Net cash flow |
| Including net cash |
| ||||
Instantaneous and Parallel Change in Interest Rates (2) |
| $ |
| (%) |
| $ |
| $ |
| (%) |
|
Up 300 basis points, or 3% (3) |
| (375 | ) | (615 | ) | 357 |
| (18 | ) | (12 | ) |
Up 200 basis points, or 2% |
| (237 | ) | (389 | ) | 238 |
| 1 |
| 1 |
|
Up 100 basis points, or 1% |
| (112 | ) | (184 | ) | 119 |
| 7 |
| 5 |
|
Down 100 basis points or 1% |
| 93 |
| 152 |
| (112 | ) | (19 | ) | (12 | ) |
Down 200 basis points or 2% |
| 181 |
| 297 |
| (222 | ) | (41 | ) | (27 | ) |
Down 300 basis points or 3% |
| 261 |
| 428 |
| (329 | ) | (68 | ) | (44 | ) |
(1) The dollar and percentage changes represent base case for the next twelve months versus the change in base case using various instantaneous and parallel interest rate change simulations, excluding the effect of amortization of loan discounts to base case.
(2) Instantaneous and parallel interest rate changes over and under the projected forward yield curve.
(3) This simulation was added to our analysis as it is relevant in light of the interest rate environment as of February 28, 2007 and the projected forward yield curve for 2007 and 2008.
In the previous table, the up 100 basis point scenario as of February 28, 2007 represents our projection of the net change from base case net interest income, which is derived from assumptions as previously discussed, if market interest rates were to immediately rise by 100 basis points. This means that we increase interest rates at all data points along our projected forward yield curve by 100 basis points and recalculate our projection of net interest income over the next 12 months. In addition, based on changes in interest rates, or changes in our forward yield curve, our model adjusts mortgage prepayment rates and recalculates amortization of acquisition and securitization costs and net cash receipts or payments on derivatives as part of the calculation of net interest income. Thus, if a 100 basis point interest rate increase occurred, the projected volatility to net interest income is positively impacted through our use of derivatives.
We estimate net interest income along with net cash flows from derivatives for the next twelve months using balance sheet data and the notional amount of derivatives as of February 28, 2007 and 12-month projections of the following primary drivers affecting net interest income:
· future interest rates using forward yield curves, which are considered market consensus estimates of future interest rates;
· mortgage acquisitions and originations;
· mortgage prepayment rate assumptions; and
· forward swap rates.
We refer to the 12-month projection of net interest income along with the 12-month projection of net cash flows from derivatives as the “base case.” For financial reporting purposes, net cash flows from derivatives are included in realized gain (loss) from derivative instruments on the consolidated financial statements. However, for purposes of interest rate risk analysis we include net cash flows from derivatives in our base case simulations as we acquire derivatives to offset the effect that changes in interest rates have on variable borrowing costs, such as securitized mortgage and warehouse borrowings. We believe that including net cash flows from derivatives in our interest rate risk analysis presents a more useful simulation of the effect of changing interest rates on net cash flows generated by our long-term mortgage portfolio.
Once the base case has been established, we “shock” the base case with instantaneous and parallel shifts in interest rates in 100 basis point increments upward and downward. Calculations are made for each of the defined instantaneous and parallel shifts in interest rates over or under the forward yield curve used to determine the base case and include any associated changes in projected mortgage prepayment rates caused by changes in interest rates. The results of each 100 basis point change in interest rates are then compared against the base case to determine the estimated dollar and percentage change to base case. The simulations consider the affect of interest rate changes on interest sensitive assets and liabilities as well as derivatives. The simulations also consider the impact that instantaneous and parallel shift in interest rates have on prepayment rates and the resulting affect of accelerating or decelerating amortization of premium and securitization costs.
Using information as presented above, and other analysis, the Company reviews its interest rate risk profile. Based on this review, the Company makes certain decisions on how to mitigate its interest rate risk.
ITEM 4: CONTROLS AND PROCEDURES
Evaluation of Disclosure Controls and Procedures
We are committed to maintaining
The Company maintains disclosure controls and procedures (as defined in the Securities Exchange Act of 1934 Risks 13-a-15(e)Rules 13a-15(e) or 15d – 15 (e)15d-15(e)) designed to ensure that information required to be disclosed in our periodic reports filed or submitted under the Securities Exchange Act of 1934, as amended, or the Exchange Act, is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms,forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that such information required to be disclosed by the Company in its reports that it files or submits under the Exchange Act is accumulated and communicated to ourthe Company’s management, including our Chief Executive Officer (CEO)its principal executive and Chief Financial Officer (CFO),principal financial officers, or persons performing similar functions, as appropriate to allow for timely decisions regarding required disclosure. In designing and evaluating our disclosure controls and procedures, management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives, and management necessarily is required to apply its judgment in evaluating the cost-benefit relationship of possible controls and procedures and implementing controls and procedures based on the application of management’s judgment.
As required by Rules 13a-15 and 15d-15 under the Exchange Act, in connection with the filing of this Quarterly Report on Form 10-Q, our management, under the supervision and with the participation of our CEO and CFO, conducted an evaluation of our disclosure controls and procedures, as such term is defined under Rule 13a-15(e). Based on thisthat evaluation, which included the findings of the restatement described herein, and the remediation of the material weakness as of December 31, 2006 described below, our principalCompany’s chief executive officer and our principalchief financial officer concluded that, ouras of that date, the Company’s disclosure controls and procedures, were not effective at a reasonable assurance level, at March 31, 2007.due to the identification of a material weakness, as discussed in the 2007 Form 10-K.
Material Weakness
In connection with its assessment of the Company’s internal control over financial reporting as of December 31, 2006,2007, management identified a material weakness related to our design and maintenanceeffectiveness of adequate controlsinternal control over the preparation, review, presentation and disclosure of amounts included in our consolidated statements of cash flows, which resulted in misstatements therein. Cash inflows and outflowsfinancial reporting related to certain intercompany mortgage loan sales and purchases were inappropriately classified as operating cash flows and investing cash flows rather than non-cash transfersa shortage of resources in the consolidated statements of cash flows. The restatement had no effect onaccounting department required to close its books and records effectively at each reporting date, obtain the Company’s cash position, taxable income, Consolidated Statements of Operationsnecessary information from operational departments to complete the work necessary to file its financial reports timely and Comprehensive Earnings, Consolidated Balance Sheets or Consolidated Statements of Changes in Stockholders’ Equity.failure to timely identify and remediate accounting errors.
Management’s Remediation Plan
The Company’s management remediatedhas continued to remediate the material weakness identified in Management’s Report on Internal Control over Financial Reporting as of December 31, 2006, through2007 by taking the designfollowing actions:
· effective February 2008, we appointed Todd Taylor as Interim Chief Financial Officer, and implementation of enhanced
· we hired additional resources for the accounting and finance departments on a contract basis to help perform certain accounting functions, until management can employ a more permanent solution.
We believe that our disclosure controls to aid in the timeliness of theand procedures, including our control over financial statement close process leadingreporting, have improved since year-end due to the correct preparation, review, presentationscrutiny of such matters by our management and disclosuresAudit Committee and the changes described above. However, due in part to continued lack of permanent staff in Accounting/Finance and in part to the effort needed to accurately document the change in accounting for fair value measurements, the Company continued to be late in closing its books and records effectively at the required reporting date. Therefore, the Company believes the material weakness related to our consolidated statementseffectiveness of cash flows.internal control over financial reporting is not fully remediated as of June 30, 2008.
Changes in Internal Control Over Financial Reporting
Except as noted above, there
There has been no change in the Company’s internal control over financial reporting during the Company’s quarter ended March 31, 2007,June 30, 2008, that has materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting.reporting, except the following:
· We have implemented controls associated with the adoption of SFAS 157 and SFAS 159 and fair value accounting.
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The Company’s 2006 10-K reported shareholder derivative actionsCompany is party to litigation and claims which are normal in the course of our operations. While the results of such litigation and claims cannot be predicted with certainty, the Company believes the final outcome of such matters will not have a material adverse effect on our financial condition or results of operations.
On November 9, 2007, and separately on August 25, 2008, two matters were filed against the Company and its senior officers and directorsIFC in Orange County in the U.S. DistrictSuperior Court Central District of California, as Case No. 07CC11612 and OrangeCase No. 00110553, respectively, by Citimortgage, Inc., alleging claims for breach of contract and damages based upon representations and warranties made in conjunction with whole loan sales. These actions seek combined damages in excess of $4.2 million.
On June 28, 2008, a matter was filed against IFC in the Circuit Court of the Eighteenth Judicial District, Dupage County Superior Court. In April 2007,in Illinois, as case no. 2008L000721, by TR Mid America Plaza Corp., seeking damages for breach of contract (a lease agreement) in excess of $0.6 million plus such amount as determined through the Company entered into a preliminary agreement to settle the currently pending federaldate of judgment and state derivative actions against the Company and its senior officers and directors. The settlement is subject to certain conditions including the execution of a definitive agreement and court approval. Under the proposed settlement, all claims asserted against the officers and directors
named as defendants in those actions will be dismissed with prejudice with no admission of wrongdoing on the part of any defendant and the Company will agree to certain corporate governance practices. In addition, the proposed settlement will provide for an aggregate cash payment of up to $300,000 in attorney’sattorneys fees subject to plaintiff’s application to and approval by the court, which will be paid entirely by the Company’s insurance carriers and will have no effect on the financial position of the Company.costs.
Please refer to IMH’s report on Form 10-K for the year ended December 31, 2006 regarding other litigation and claims.
We believe that we have meritorious defenses to the above claims and intend to defend these claims vigorously. Nevertheless, litigation is uncertain and we may not prevail in the lawsuits and can express no opinion as to their ultimate resolution. An adverse judgment in any of these matters could have a material adverse effect on us.
Please refer to IMH’s report on Form 10-K for the year ended December 31, 2007 for a description of other litigation and claims.
Our Annual Report on Form 10-K for the year ended December 31, 20062007 includes a detailed discussion of our risk factors. The information presented below updates and should be read in conjunction with the risk factors and information disclosed in that Form 10-K.
Recent DevelopmentsThe advisory service fees we earn pursuant to the advisory services agreement may be reduced upon the occurrence of certain conditions or the agreement may be terminated, which would have a material adverse effect on us.
Pursuant to the advisory services agreement with a real estate marketing company we earn advisory fees. For the three and six months ended June 30, 2008, we earned $4.7 million and $8.5 million, respectively in advisory fees, which, along with cash flows and master servicing fees from our long-term mortgage portfolio, is one of our primary sources of earnings. Although the Company is eligible to receive a termination fee in the Residential Mortgage Market May Adversely Affectcase of the Market Valuesale, transfer or merger of Our Assets.the marketing company or upon IMH entering into bankruptcy proceedings, IMH’s advisory fees may be reduced and the agreement subsequently terminated if certain conditions are not satisfied. If our CEO is no longer in a senior management capacity with the Company or any affiliates nor a director, then the advisory fee percentage is substantially reduced and the marketing company may terminate the agreement. Furthermore, if the Company fails to provide the agreed upon services, then the agreement may be terminated with no further obligations or payments to the Company. The reduction of the advisory fees or termination of the agreement would substantially decrease our income stream and could have a material adverse effect on our operations, financial condition and business prospects.
The occurrence of recent adverse developments in the mortgage finance and credit markets has affected our business and our stock price.
Beginning in the second quarter of 2007 and continuing through 2008, the mortgage industry and the residential housing market have been adversely affected as home prices declined and delinquencies increased. The residential mortgage market has recently encountered difficultiesis currently
45
experiencing unprecedented disruptions, which have had, and continue to have, an adverse impact on the Company’s earnings and financial condition. These disruptions are further evidenced by the recent event surrounding the takeover of Fannie Mae and Freddie Mac by the Federal government. These conditions may adversely affectnot stabilize or they may worsen for the performanceforeseeable future. Our ability to meet our long-term liquidity requirements is subject to several factors, such as decreasing our dividend and trust preferred payment obligations and possibly raising additional capital. Recent adverse changes in the mortgage finance and credit markets have eliminated or market valuereduced the availability, or increased the cost, of significant sources of funding for us. We may not be able to access sources of funding or, if available to us, we may not be able to negotiate favorable terms. Any decision by our lenders and/or investors to make additional funds available to us in the future will depend upon a number of factors, such as our compliance with the terms of our assets. existing credit arrangements, our financial performance, industry and market trends in our various businesses, the lenders’ and/or investors’ own resources and policies concerning loans and investments, and the relative attractiveness of alternative investment or lending opportunities. If we cannot raise cash by selling debt or equity securities, we may be forced to cut additional resources, sell more of our assets at unfavorable prices or discontinue various business activities to preserve cash. Furthermore, the price of our common stock declined significantly as a result of these events and the impact on our results of operations.
If we fail to successfully implement our strategic initiatives, our business, financial condition and results of operations could be materially and adversely affected.
In recent months, delinquencieslight of the continuing turmoil in the mortgage market, our ability to continue our operations is dependent upon our ability to successfully implement our strategic initiatives and lossesacquire new operations that contribute sufficient additional cash flow to enable us to meet our current and future expenses. Our future financial performance and success are dependent in large part upon our ability to implement our contemplated strategies successfully. We have restructured our existing reverse repurchase line and we are exploring to reduce or eliminate the dividend payments on our outstanding preferred stock and seeking to modify our trust preferred securities to reduce payment obligations. Our ability to implement any restructuring is dependent upon agreement of various third parties and security holders. We expect that these efforts and negotiations will be complex, and there can be no assurances that any negotiations or other efforts will be successful. To the extent that they are not, we would be unlikely to be able to continue our operations as planned thereby requiring us to reduce our operating costs and expenses so that our income can cover those costs.
We are also considering strategic acquisitions, such as acquiring a real estate marketing company, a special servicing platform and investing in distressed mortgage assets and related securities. Our ability to acquire new businesses is significantly constrained by our limited liquidity and our likely inability to obtain debt financing or to issue equity securities as a result of our current financial condition, as well as other uncertainties and risks. There can be no assurances that we will be able to acquire new business operations. We may not be able to implement our strategic initiatives successfully or achieve the anticipated benefits of their implementation. If we are unable to do so, we may be unable to satisfy our future operating costs and liabilities, including repayment of the restructured finance facility, interest payments on the trust preferred securities and payment of preferred stock dividends. Even if we are able to implement some or all of our strategic initiatives successfully, our operating results may not improve to the extent we anticipate, or at all.
If we are unable to raise additional capital or generate sufficient liquidity we may be unable to implement our strategic initiatives or conduct our operations.
We are considering raising capital in order to accomplish some of our strategic initiatives. If we are unable to access any capital on reasonable terms, we will not be able to accomplish our goals. Furthermore, we will then be dependent on our existing revenues from the long-term mortgage and master servicing portfolios and from real estate advisory fees. Our ability to conduct our operations will depend on our ability to effectively reduce operating costs to a level that is supportable by our revenues. We cannot assure you that any of these alternatives will be available to us, or if available, that we will be able to negotiate favorable terms.
Acquisitions of other businesses could result in operating difficulties.
As part of our strategic initiatives, we may seek to acquire a real estate marketing company and we may acquire a special servicing platform. If we continue to pursue these and any other business opportunities, the process of negotiating the acquisition and integrating an acquired business may result in operating difficulties and expenditures and may require significant management attention. Moreover, we may never realize the anticipated benefits of any new business or acquisition. We may not have, and may not be able to acquire or retain, personnel with experience in any new business we may establish or acquire. In addition, future acquisitions could result in contingent liabilities and/or amortization expenses related to goodwill and other intangible assets, which could harm our results of operations, financial condition and business prospects.
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We may not pay dividends to our common or preferred stockholders.
REIT provisions of the Internal Revenue Code generally require that we annually distribute to our stockholders at least 90 percent of all of our taxable income, exclusive of the application of any tax loss carry forwards that may be used to offset current period taxable income. These provisions restrict our ability to retain earnings and thereby generate capital from our operating activities. In addition, for any year that we do not generate taxable income, we are not required to declare and pay dividends to maintain our REIT status. We have not declared a common stock dividend since March 31, 2007.
The Series B Preferred Stock and Series C Preferred Stock currently receive quarterly dividends of $0.58594 and $0.57031 per share, respectively. Even if we choose not to pay dividends on our preferred stock, dividends will accrue whether or not current payment of dividends is prohibited, whether or not we have earnings, whether or not there are funds legally available for the payment of such dividends and whether or not such dividends are declared. The Company may decide not to pay dividends on preferred stock for any quarter or for a period of time in order to maintain its cash, operate its business or implement strategic initiatives. Although the Company may choose not to pay dividends, the continued payment and accrual of these dividends may prevent the Company from implementing new strategies in the current market environment, thereby, hindering our growth prospects. Plus, accumulating dividends with respect to residentialour preferred stock will negatively affect the ability of our common stockholders to receive any distribution or other value upon liquidation. The continued accrual and payment of the preferred stock dividends may have a material adverse effect on our liquidity, financial condition and operations.
We may not make payments on our trust preferred debt obligations in the foreseeable future
We currently have over $90 million in obligations related to junior subordinated debentures related to the outstanding trust preferred securities. We are required to make quarterly payments on these debt obligations. In order to preserve cash, the Company may decide not to make payments on these obligations. If the Company defers quarterly payments, it may do so for a limited period of time and it may not pay dividends on its capital stock during such period. If the Company continues to fail to pay the trust preferred obligations, then it will be in default and the entire amount may be immediately due and payable and it could be in cross-default with other existing finance facilities. Although the Company is exploring to modify the trust preferred obligations in order to decrease its payment obligations in some manner, we can not assure you that it will be successful.
The New York Stock Exchange (“NYSE”) has notified us that we are not in compliance with its continued listing criteria. If we are delisted by the NYSE, the price and liquidity of our common stock and preferred stock will be negatively affected.
Our common stock and Series B Preferred Stock and Series C Preferred Stock are currently listed on the New York Stock Exchange (the “NYSE”). We must satisfy certain minimum listing maintenance requirements to maintain such listing, including maintaining a minimum bid price of $1.00 per share for the common stock. On July 8, 2008, we received a second notice from NYSE Regulation Inc. (“NYSE Regulation”) that the Company was not in compliance with the NYSE continued listing standard related to maintaining a consecutive thirty day average closing stock price of over $1.00 per common share. NYSE Regulation noted that effective May 28, 2008 the Company had cured its previous non-compliance with the same NYSE continued listing standard. However, NYSE Regulation notified us that the Company’s common stock again fell below the $1.00 average share price requirement. After reviewing materials submitted by the Company specifying details as to its strategic plans to address the current share price deficiency, NYSE Regulation agreed to provide us an approximately four month cure period. NYSE Regulation will formally reevaluate our continued listing with the NYSE’s Listings and Compliance Committee at the end of this approximately four month cure period, and it will also continue to closely monitor the Company during this timeframe both with regards to share price levels and progress on its planned initiatives. Furthermore, on April 1, 2008 we received notification from the NYSE that the failure to timely file annual and interim reports with the Securities and Exchange Commission may subject us to suspension and delisting procedures.
We cannot assure you that the NYSE will maintain our listing in the future. In the event that our common stock and preferred stock is delisted by the NYSE, or if it becomes apparent to us that we will be unable to meet the NYSE’s continued listing criteria in the foreseeable future, we may seek to have our stock listed or quoted on another national securities exchange or quotation system. If our securities are delisted from the NYSE, then they may trade on the Over-the-Counter-Bulletin Board, which is viewed by most investors as a less desirable and less liquid market place. However, we cannot assure you that, if our common stock is listed or quoted on such other exchange or system, the market for our common stock
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will be as liquid as it has been on the NYSE. As a result, if we are delisted by the NYSE or transfer our listing to another exchange or quotation system, the market price for our common stock may become more volatile than it has been historically. Delisting from the NYSE could make trading our common stock and preferred stock more difficult for our investors, leading to declines in share price. Delisting of our common stock would also make it more difficult and expensive for us to raise additional capital.
We have restructured our reverse repurchase line which requires monthly payments and other payment obligations, will reduce our operating income, and contains other provisions that will restrict our business operations.
Our ability to finance our operations, grow our business and implement our strategic initiatives is dependent upon the availability of credit on commercially acceptable terms, including the use of warehouse lines of credit and repurchase agreements. On September 11, 2008, we executed a new warehouse line agreement with UBS Real Estate Securities Inc. (“UBS”). The agreement removes all technical defaults from financial covenant noncompliance and any associated margin calls for the term of the agreement. The agreement calls for certain targets including a reduction of the borrowings balance to $100 million in 18 months with an advance rate of no more than 65 percent of the unpaid principal balance and $50 million in 24 months with an advance rate of no more than 55 percent of the unpaid principal balance. By meeting these targets, the agreement term can extend to 30 months. The agreement also calls for monthly principal paydowns of $750,000 for one month and $1.5 million thereafter until the earlier of the Company raising capital or the end of the agreement term. If the Company is successful in raising capital, approximately 10% of the gross proceeds will be required to be paid as an additional principal paydown and the monthly principal paydown is reduced to $750,000. The interest rate is LIBOR plus 325 basis points, and all cash collected from the securing mortgage loans generallyis required to be paid to the lender. We may not have increasedthe funds available to make the required paydowns, which could result in defaults and we may continuenot have adequate assets to use as collateral. In the event we do not have sufficient liquidity to meet the payment requirements, UBS can accelerate our indebtedness, increase particularlyinterest rates and terminate our ability to borrow additional funds. Such a situation would likely result in a rapid deterioration of our financial condition.
We may not be able to access financing sources on favorable terms, or at all, which could adversely affect our ability to implement our strategic initiatives and operate our business as planned.
We have historically been dependent on warehouse lines, repurchase agreements, credit facilities, securitizations and other structured financings. Our ability to use these financing sources depends on various conditions in the non-prime sector. Even though we believemarkets, which are beyond our exposurecontrol, including lack of liquidity and greater credit spreads. We cannot assure you that these markets will provide an efficient source of long-term financing. Any new financing could subject us to non-prime products is minimalrecourse indebtedness and isthe risk that debt service on less than 0.2%efficient forms of financing would require a larger portion of our assets, this may affect ourcash flows, thereby reducing cash available for distribution, funds available for operations and assets. In addition, in recent months residential property values in many states have declined or remained stable, after extended periods during which those values appreciated. A continued decline or a lack of increase in those values may result inas well as for future business opportunities. If we are not able to borrow additional increases in delinquencies and losses on residential mortgage loans generally, especially with respect to second homes and investor properties, and with respect to any residential mortgage loans where the aggregate loan amounts (including any subordinate loans) are close to or greater than the related property values. Another factor that may have contributed to, and mayfunds in the future result in, higher delinquency rates is the increase in monthly payments on adjustable rate mortgage loans. Any increase in prevailing market interest ratesour new warehouse facility or arrange for new financing on terms acceptable to us, or if we default on our covenants or are otherwise unable to access funds under this facility, we may result in increased payments for borrowers whonot be able to continue to operate our business as planned, which would have adjustable rate mortgage loans. Moreover, with respect to hybrid mortgage loans after their initial fixed rate period,a material adverse effect on our business, financial condition, liquidity and with respect to mortgage loans with a negative amortization feature which reach their negative amortization cap, borrowers may experience a substantial increase in their monthly payments even without an increase in prevailing market interest rates. These general market conditions may affect the performanceresults of our mortgage loans or mortgage operations.
ITEM 2: UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
None.
ITEM 3: DEFAULTS UPON SENIOR SECURITIES
None.
ITEM 4: SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None
None
Restructured of Reverse Repurchase Line
On September 11, 2008, the Company entered into an agreement with UBS Real Estate Securities Inc. to restructure its reverse repurchase line with its remaining lender. The balance of this line was $220.2 million at June 30, 2008. The agreement removes all technical defaults from financial covenant noncompliance and any associated margin calls for the term of the agreement. The agreement calls for certain targets including a reduction of the borrowings balance to $100 million in 18 months with an advance rate of no more than 65 percent of the unpaid principal balance and $50 million in 24 months with an advance rate of no more than 55 percent of the unpaid principal balance. By meeting these targets, the agreement term can extend to 30 months. The agreement also calls for monthly principal paydowns of $750,000 for one month and $1.5 million thereafter until the earlier of the Company raising capital or the end of the agreement term. If the Company is successful in raising capital, approximately 10% of the gross proceeds will be required to be paid as an additional principal paydown and the monthly principal paydown is reduced to $750,000. The interest rate is LIBOR plus 325 basis points, and all cash collected from the securing mortgage loans is required to be paid to the lender.
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Accomplishing the restructuring of this reverse repurchase line allows the Company to manage the remaining loans on the line for the eventual collection, refinance, sale or securitization without the risk of receiving margin calls.
Annual Meeting of Stockholders
On July 10, 2008, we held our annual meeting of stockholders. Of 76,104,656 shares eligible to vote, 69,745,926, or 91.6 percent, votes were returned, formulating a quorum. At the annual stockholders meeting, the following matters were submitted to stockholders for vote Proposal I - Election of Directors; Proposal II - Ratification of the appointment of Ernst & Young LLP as our independent auditors for the year ending December 31, 2008; Proposal III – Amendments to the 2001 Stock Option, Deferred Stock, and Restricted Stock Plan; and Proposal IV – Potential Issuance of in excess of 20 percent of our outstanding shares of common stock in connection with a possible exchange of the Company’s Series B Preferred Stock and Series C Preferred Stock.
Proposal I—Election of Directors
The results of voting on these proposals are as follows:
Director |
| For |
| Withheld |
| Elected |
|
Joseph R. Tomkinson |
| 66,355,675 |
| 3,390,247 |
| Yes |
|
William S. Ashmore |
| 66,436,234 |
| 3,309,688 |
| Yes |
|
James Walsh |
| 66,450,743 |
| 3,295,179 |
| Yes |
|
Frank P. Filipps |
| 66,212,473 |
| 3,533,449 |
| Yes |
|
Stephan R. Peers |
| 66,305,502 |
| 3,440,420 |
| Yes |
|
Leigh J. Abrams |
| 66,324,583 |
| 3,421,339 |
| Yes |
|
All directors are elected at our annual stockholders meeting.
Proposal II – Ratification of the appointment of Ernst & Young LLP as our independent auditors for the year ending December 31, 2008.
Proposal II was approved with 68,372,826 shares voted for, 1,039,055 voted against and 334,039 abstained from voting, thereby, ratifying the appointment of Ernst & Young LLP as our independent auditors for the year ending December 31, 2008.
Proposal III – Amendments to the 2001 Stock Option, Deferred Stock, and Restricted Stock Plan
Proposal III was approved with 30,884,180 shares voted for, 13,826,301 voted against and 738,942 abstained from voting, thereby ratifying the amendment to the 2001 Stock Option, Deferred Stock, and Restricted Stock Plan.
Proposal IV – Potential Issuance of in excess of 20 percent of our outstanding shares of common stock in connection with a possible exchange of the Company’s Series B Preferred Stock and Series C Preferred Stock
Proposal IV was approved with 39,499,182 shares voted for, 2,573,181 voted against and 318,320 abstained from voting, thereby approving the potential issuance of in excess of 20 percent of our outstanding shares of common stock in connection with a possible exchange of the Company’s Series B Preferred Stock and Series C Preferred Stock.
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(a) Exhibits:
|
| |
|
| |
| Certification of Chief Executive Officer pursuant to Item 601(b)(31) of Regulation S-K, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. | |
31.2 | Certification of Chief Financial Officer pursuant to Item 601(b)(31) of Regulation S-K, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. | |
32.1* | Certifications of Chief Executive Officer and Chief Financial Officer pursuant to 18 U.S.C. Section 1350 as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. |
* This exhibit shall not be deemed “filed” for purposes of Section 18 of the Securities Exchange Act of 1934 or otherwise subject to the liabilities of that section, nor shall it be deemed incorporated by reference in any filing under the Securities Act of 1933 or the Securities Exchange Act of 1934, whether made before or after the date hereof and irrespective of any general incorporation language in any filings.
Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
IMPAC MORTGAGE HOLDINGS, INC.
/s/ | Todd R. Taylor |
|
by: | ||
| ||
| ||
(authorized officer of registrant and principal financial officer) | ||
Date: September 17, 2008 |
Date: May 10, 200750
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