Table of Contents
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
☒QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 2019
or
☐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
incorporation or organization)
Identification No.)
19500 Jamboree Road, Irvine, California 92612
(Address of principal executive offices)
(949) 475-3600
(Registrant’s telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act:
Title of each class
Trading Symbol(s)
Name of each exchange on which registered
Common Stock, $0.01 par value
IMH
NYSE American
Preferred Stock Purchase Rights
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 ☒ No ☐
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer, smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer ☐
Accelerated filer ☒
Non-accelerated filer ☐
Smaller reporting company ☒
Emerging growth company ☐
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐
Indicate by check mark whether the registrant is a shell company (as defined in Exchange Act Rule 12b-2) Yes ☐ No ☒
There were 21,181,357 shares of common stock outstanding as of August 5, 2019.
1
IMPAC MORTGAGE HOLDINGS, INC. AND SUBSIDIARIES
FORM 10-Q QUARTERLY REPORT
TABLE OF CONTENTS
Page
PART I. FINANCIAL INFORMATION
ITEM 1.
CONSOLIDATED FINANCIAL STATEMENTS
Consolidated Balance Sheets as of June 30, 2019 (unaudited) and December 31, 2018
Consolidated Statements of Operations and Comprehensive Earnings (Loss) for the Three and Six Months Ended June 30, 2019 and 2018 (unaudited)
Consolidated Statement of Changes in Stockholders’ Equity for the Three and Six Months Ended June 30, 2019 and 2018 (unaudited)
Consolidated Statements of Cash Flows for the Six Months Ended June 30, 2019 and 2018 (unaudited)
Notes to Unaudited Consolidated Financial Statements
ITEM 2.
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Forward-Looking Statements
The Mortgage Industry and Discussion of Relevant Fiscal Periods
Selected Financial Results
Status of Operations
Liquidity and Capital Resources
Critical Accounting Policies
Financial Condition and Results of Operations
ITEM 3.
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
ITEM 4.
CONTROLS AND PROCEDURES
PART II. OTHER INFORMATION
LEGAL PROCEEDINGS
ITEM 1A.
RISK FACTORS
UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
DEFAULTS UPON SENIOR SECURITIES
MINE SAFETY DISCLOSURES
ITEM 5.
OTHER INFORMATION
ITEM 6.
EXHIBITS
SIGNATURES
CERTIFICATIONS
2
CONSOLIDATED BALANCE SHEETS
(in thousands, except share data)
June 30,
December 31,
2019
2018
ASSETS
(Unaudited)
Cash and cash equivalents
$
25,794
23,200
Restricted cash
7,141
6,989
Mortgage loans held-for-sale
420,957
353,601
Mortgage servicing rights
50,346
64,728
Securitized mortgage trust assets
2,931,793
3,165,590
Other assets
63,939
33,835
Total assets
3,499,970
3,647,943
LIABILITIES
Warehouse borrowings
362,973
284,137
Convertible notes, net
24,990
24,985
Long-term debt
43,910
44,856
Securitized mortgage trust liabilities
2,915,156
3,148,215
Other liabilities
50,652
35,575
Total liabilities
3,397,681
3,537,768
Commitments and contingencies (See Note 12)
STOCKHOLDERS’ EQUITY
Series A-1 junior participating preferred stock, $0.01 par value; 2,500,000 shares authorized; none issued or outstanding
—
Series B 9.375% redeemable preferred stock, $0.01 par value; liquidation value $31,850; 2,000,000 shares authorized, 665,592 noncumulative shares issued and outstanding as of June 30, 2019 and December 31, 2018 (See Note 12)
7
Series C 9.125% redeemable preferred stock, $0.01 par value; liquidation value $35,127; 5,500,000 shares authorized; 1,405,086 noncumulative shares issued and outstanding as of June 30, 2019 and December 31, 2018 (See Note 12)
14
Common stock, $0.01 par value; 200,000,000 shares authorized; 21,181,357 and 21,117,006 shares issued and outstanding as of June 30, 2019 and December 31, 2018, respectively
212
211
Additional paid-in capital
1,235,583
1,235,108
Accumulated other comprehensive earnings
24,254
23,877
Net accumulated deficit:
Cumulative dividends declared
(822,520)
Retained deficit
(335,261)
(326,522)
Net accumulated deficit
(1,157,781)
(1,149,042)
Total stockholders’ equity
102,289
110,175
Total liabilities and stockholders’ equity
See accompanying notes to unaudited consolidated financial statements
3
CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE EARNINGS (LOSS)
(in thousands, except per share data)
For the Three Months Ended
For the Six Months Ended
Revenues:
Gain on sale of loans, net
29,472
18,741
41,686
40,223
Servicing fees, net
3,536
9,861
6,505
19,324
(Loss) gain on mortgage servicing rights, net
(9,887)
167
(15,510)
7,872
Real estate services fees, net
807
1,038
1,613
2,423
Other
187
116
207
Total revenues
24,115
29,923
34,481
70,049
Expenses:
Personnel expense
14,339
16,678
28,461
34,421
Business promotion
2,013
9,000
4,936
18,730
General, administrative and other
5,281
10,846
10,507
19,122
Intangible asset impairment
13,450
Goodwill impairment
74,662
Total expenses
21,633
124,636
43,904
160,385
Operating income (loss)
2,482
(94,713)
(9,423)
(90,336)
Other income (expense):
Interest income
43,061
49,064
88,316
99,215
Interest expense
(40,518)
(48,518)
(83,977)
(97,648)
Change in fair value of long-term debt
388
258
654
1,481
Change in fair value of net trust assets, including trust REO (losses) gains
(1,459)
217
(4,142)
(1,921)
Total other income, net
1,472
1,021
851
1,127
Earnings (loss) before income taxes
3,954
(93,692)
(8,572)
(89,209)
Income tax expense
81
3,706
4,316
Net earnings (loss)
3,873
(97,398)
(8,739)
(93,525)
Other comprehensive earnings (loss):
Change in fair value of mortgage-backed securities
(7)
Change in fair value of instrument specific credit risk of long-term debt
267
(526)
363
(1,965)
Total comprehensive earnings (loss)
4,133
(97,924)
(8,362)
(95,490)
Net earnings (loss) per common share:
Basic
0.18
(4.65)
(0.41)
(4.46)
Diluted
4
CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS’ EQUITY
(in thousands, except share amounts)
Preferred
Common
Additional
Cumulative
Accumulated Other
Total
Shares
Paid-In
Dividends
Retained
Comprehensive
Stockholders’
Outstanding
Stock
Capital
Declared
Deficit
Earnings (Loss)
Equity
Balance, January 1, 2019
2,070,678
21
21,117,006
Proceeds and tax benefit from exercise of stock options
64,351
162
163
Stock based compensation
107
Other comprehensive earnings
117
Net loss
(12,612)
Balance, March 31, 2019
21,181,357
1,235,377
(339,134)
23,994
97,950
206
260
Net earnings
Balance, June 30, 2019
Balance, January 1, 2018
20,949,679
209
1,233,704
(146,267)
265,147
Reclassification related to adoption of ASU 2016-01
(27,018)
27,018
Adjustment related to adoption of ASU 2016-16
(7,827)
3,000
15
16
430
(1,440)
Balance, March 31, 2018
20,952,679
210
1,234,149
(177,239)
25,578
260,199
73,713
303
170
Other comprehensive loss
(525)
Balance, June 30, 2018
21,026,392
1,234,622
(274,637)
25,053
162,749
5
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
CASH FLOWS FROM OPERATING ACTIVITIES:
Gain on sale of mortgage servicing rights
(864)
Change in fair value of mortgage servicing rights
16,374
(9,572)
Gain on sale of mortgage loans
(31,946)
(47,766)
Change in fair value of mortgage loans held-for-sale
(8,334)
5,282
Change in fair value of derivatives lending, net
(4,566)
419
Provision for repurchases
3,160
1,594
Origination of mortgage loans held-for-sale
(1,402,859)
(2,354,373)
Sale and principal reduction on mortgage loans held-for-sale
1,373,784
2,467,591
Loss (gain) from trust REO
1,099
(603)
Change in fair value of net trust assets, excluding trust REO
3,043
2,524
(654)
(1,481)
Accretion of interest income and expense
13,768
20,544
Amortization of intangible and other assets
286
2,385
Amortization of debt issuance costs and discount on note payable
11
41
Stock-based compensation
313
599
Impairment of goodwill
Impairment of intangible assets
Change in deferred tax assets, net
4,315
Net change in other assets
(771)
(1,743)
Net change in other liabilities
(8,737)
(2,890)
Net cash (used in) provided by operating activities
(55,632)
81,453
CASH FLOWS FROM INVESTING ACTIVITIES:
Net change in securitized mortgage collateral
295,035
247,374
Proceeds from the sale of mortgage servicing rights
12
Finance receivable advances to customers
(350,264)
Repayments of finance receivables
354,826
Purchase of premises and equipment
(335)
(530)
Purchase of mortgage-backed securities
(5,347)
Proceeds from the sale of mortgage-backed securities
Proceeds from the sale of trust REO
10,607
11,207
Net cash provided by investing activities
300,993
262,613
CASH FLOWS FROM FINANCING ACTIVITIES:
Repayment of MSR financing
(40,133)
Borrowings under MSR financing
67,000
Repayment of warehouse borrowings
(1,133,320)
(2,355,268)
Borrowings under warehouse agreements
1,212,156
2,262,452
Payment of acquisition related contingent consideration
(554)
Repayment of securitized mortgage borrowings
(321,494)
(279,196)
Principal payments on capital lease
(81)
(106)
Tax payments on stock based compensation awards
(39)
(113)
Proceeds from exercise of stock options
319
Net cash used in financing activities
(242,615)
(345,599)
Net change in cash, cash equivalents and restricted cash
2,746
(1,533)
Cash, cash equivalents and restricted cash at beginning of period
30,189
39,099
Cash, cash equivalents and restricted cash at end of period
32,935
37,566
NON-CASH TRANSACTIONS:
Transfer of securitized mortgage collateral to trust REO
13,035
10,502
Mortgage servicing rights retained from loan sales and issuance of mortgage backed securities
1,999
16,756
Initial recognition of operating lease right of use assets (net of $3.8 million of deferred rent)
19,694
Initial recognition of operating lease liabilities
23,447
6
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
(dollars in thousands, except share and per share data or as otherwise indicated)
Note 1.—Summary of Business and Financial Statement Presentation
Business Summary
Impac Mortgage Holdings, Inc. (the Company or IMH) is a financial services company incorporated in Maryland with the following direct and indirect wholly-owned subsidiaries: Integrated Real Estate Service Corporation (IRES), Impac Mortgage Corp. (IMC), IMH Assets Corp. (IMH Assets) and Impac Funding Corporation (IFC). The Company’s operations include the mortgage lending operations and real estate services conducted by IRES and IMC and the long-term mortgage portfolio (residual interests in securitizations reflected as net trust assets and liabilities in the consolidated balance sheets) conducted by IMH. IMC’s mortgage lending operations include the activities of its division, CashCall Mortgage (CCM).
Financial Statement Presentation
The accompanying unaudited consolidated financial statements of IMH and its subsidiaries (as defined above) have been prepared in accordance with accounting principles generally accepted in the United States of America (GAAP) for interim financial information and with the instructions to Form 10-Q and Rule 8-03 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 six months ended June 30, 2019 are not necessarily indicative of the results that may be expected for the year ending December 31, 2019. These interim period condensed consolidated financial statements should be read in conjunction with the Company’s audited consolidated financial statements, which are included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2018, filed with the United States Securities and Exchange Commission (SEC).
All significant intercompany 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 period presentation.
Management has made a number of material 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. Additionally, other items affected by such estimates and assumptions include the valuation of trust assets and trust liabilities, contingencies, the estimated obligation of repurchase liabilities related to sold loans, the valuation of long-term debt, mortgage-backed securities, mortgage servicing rights, mortgage loans held-for-sale and derivative instruments, including interest rate lock commitments (IRLC). Actual results could differ from those estimates and assumptions.
Accounting Pronouncements Adopted in 2019
In February 2016, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update (ASU) 2016-02, “Leases (Topic 842)”, and subsequent amendments to the initial guidance: ASU 2017-13, ASU 2018-10, ASU 2018-11, ASU 2018-20 and ASU 2019-01 (collectively, Topic 842). Topic 842 requires companies to generally recognize on the balance sheet operating and financing lease liabilities and corresponding right-of-use assets. The Company adopted ASU 2016-02 on January 1, 2019 and applied the practical expedients included therein, as well as utilized the transition method included in ASU 2018-11. By applying ASU 2016-02 at the adoption date, as opposed to at the beginning of the earliest period presented, the presentation of financial information for periods prior to January 1, 2019 remained unchanged in accordance with Leases (Topic 840). On January 1, 2019, the Company recognized right of use (ROU) assets of $19.7 million (net of the reversal of $3.8 million deferred rent liability) and lease liabilities of $23.4
million in the consolidated balance sheet. There was no impact to retained earnings upon adoption of Topic 842. For additional information related to the impact of the new guidance, see Note 4.—Leases.
In February 2018, the FASB issued ASU 2018-02, “Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income.” This ASU allows a reclassification from accumulated other comprehensive earnings (AOCE) to retained earnings for the stranded tax effects caused by the revaluation of deferred taxes resulting from the newly enacted corporate tax rate in the Tax Cuts and Jobs Act (the Tax Act) which was signed into law in the fourth quarter of 2017. The ASU is effective in years beginning after December 15, 2018, including interim periods within those fiscal years. The Company adopted this guidance on January 1, 2019, and the adoption of this ASU had no impact on the Company’s consolidated financial statements.
Recent Accounting Pronouncements Not Yet Effective
In August 2018, the FASB issued ASU 2018-13, “Fair Value Measurement (Topic 820).” The ASU eliminates disclosures such as the amount of and reasons for transfers between Level 1 and Level 2 of the fair value hierarchy. The ASU adds new disclosure requirements for Level 3 measurements. This ASU is effective for fiscal years beginning after December 15, 2019, and interim periods within those fiscal years, with early adoption permitted for any eliminated or modified disclosures. The Company does not expect the adoption of this ASU to have a material impact on its consolidated financial statements.
In August 2018, the FASB issued ASU 2018-15, “Intangibles-Goodwill and Other- Internal-Use Software (Subtopic 350-40).” This ASU addresses customer’s accounting for implementation costs incurred in a cloud computing arrangement that is a service contract and also adds certain disclosure requirements related to implementation costs incurred for internal-use software and cloud computing arrangements. The amendment aligns the requirements for capitalizing implementation costs incurred in a hosting arrangement that is a service contract with the requirements for capitalizing implementation costs incurred to develop or obtain internal-use software (and hosting arrangements that include an internal-use software license). This ASU is effective for fiscal years beginning after December 15, 2019, and interim periods within those fiscal years, with early adoption permitted. The amendments in this ASU can be applied either retrospectively or prospectively to all implementation costs incurred after the date of adoption. The Company does not expect the adoption of this ASU to have a material impact on its consolidated financial statements.
In April 2019, the FASB issued ASU 2019-04, Codification Improvements to Topic 326, Financial Instruments-Credit Losses, Topic 815, Derivatives and Hedging, and Topic 825, Financial Instruments (ASU 2019-04), which provided certain improvements to ASU 2016-01, Financial Instruments-Overall (Subtopic 825-10): Recognition and Measurement of Financial Assets and Financial Liabilities (ASU 2016-01) and ASU 2016-13. As the Company adopted ASU 2016-01 on January 1, 2018, the improvements in ASU 2019-04 are effective in the first quarter of 2020. Early adoption is permitted. The Company expects to adopt ASU 2016-13 in the first quarter of 2020, as described above, and the improvements in ASU 2019-04 will be adopted concurrently. The Company does not expect the adoption of this ASU to have a material impact on its consolidated financial statements.
Note 2.—Mortgage Loans Held-for-Sale
A summary of the unpaid principal balance (UPB) of mortgage loans held-for-sale by type is presented below:
Government (1)
39,924
39,522
Conventional (2)
154,066
53,148
Non-qualified mortgages (NonQM)
214,193
256,491
Fair value adjustment (3)
12,774
4,440
Total mortgage loans held-for-sale
(1)
Includes all government-insured loans including Federal Housing Administration (FHA), Veterans Affairs (VA) and United States Department of Agriculture (USDA).
8
(2)
Includes loans eligible for sale to Federal National Mortgage Association (Fannie Mae or FNMA) and Federal Home Loan Mortgage Corporation (Freddie Mac or FHLMC).
(3)
Changes in fair value are included in gain on sale of loans, net in the accompanying consolidated statements of operations and comprehensive earnings (loss).
At June 30, 2019 and December 31, 2018, the Company had $3.0 million and $2.3 million, respectively, in UPB of mortgage loans held-for-sale that were in nonaccrual status as the loans were 90 days or more delinquent. The carrying value of these nonaccrual loans at June 30, 2019 and December 31, 2018 were $2.4 million and $1.8 million, respectively.
Gain on mortgage loans held-for-sale (LHFS), included in gain on sale of loans, net in the consolidated statements of operations and comprehensive earnings (loss), is comprised of the following for the three and six months ended June 30, 2019 and 2018:
27,822
28,641
41,430
57,979
Premium from servicing retained loan sales
416
6,273
Unrealized gains (losses) from derivative financial instruments
5,175
1,435
4,566
(665)
Realized (losses) gains from derivative financial instruments
(2,300)
(227)
(3,354)
11,818
Mark to market gain (loss) on LHFS
4,864
(391)
8,334
(5,282)
Direct origination expenses, net
(4,974)
(15,773)
(8,129)
(38,789)
(1,531)
(1,217)
(3,160)
(1,594)
Total gain on sale of loans, net
Note 3.—Mortgage Servicing Rights
The Company retains mortgage servicing rights (MSRs) from its sales and securitization of certain mortgage loans or as a result of purchase transactions. MSRs are reported at fair value based on the expected income derived from the net projected cash flows associated with the servicing contracts. The Company receives servicing fees, less subservicing costs, on the UPB of the underlying mortgage loans. The servicing fees are collected from the monthly payments made by the mortgagors or if delinquent, when the underlying real estate is foreclosed upon and liquidated. The Company may receive other remuneration from rights to various mortgagor-contracted fees, such as late charges, collateral reconveyance charges and nonsufficient fund fees, and the Company is generally entitled to retain the interest earned on funds held pending remittance (or float) related to its collection of mortgagor principal, interest, tax and insurance payments.
The following table summarizes the activity of MSRs for the six months ended June 30, 2019 and year ended December 31, 2018:
Balance at beginning of period
154,405
Additions from servicing retained loan sales
24,879
Reductions from bulk sales
(118,313)
Changes in fair value (1)
(16,374)
3,757
Fair value of MSRs at end of period
Changes in fair value are included within (loss) gain on mortgage servicing rights, net in the accompanying consolidated statements of operations and comprehensive earnings (loss).
9
At June 30, 2019 and December 31, 2018, the outstanding principal balance of the mortgage servicing portfolio was comprised of the following:
Government insured
104,284
51,157
Conventional
5,852,591
6,165,129
NonQM
1,848
Total loans serviced (1)
5,956,875
6,218,134
No collateral was pledged as part of the MSR Financing at June 30, 2019 or December 31, 2018. (See Note 6.)
The table below illustrates hypothetical changes in fair values of MSRs caused by assumed immediate changes to key assumptions that are used to determine fair value. See Note 8.—Fair Value of Financial Instruments for a description of the key assumptions used to determine the fair value of MSRs.
Mortgage Servicing Rights Sensitivity Analysis
Fair value of MSRs
Prepayment Speed:
Decrease in fair value from 10% adverse change
(2,256)
(1,419)
Decrease in fair value from 20% adverse change
(4,425)
(2,918)
Decrease in fair value from 30% adverse change
(6,481)
(4,475)
Discount Rate:
(1,624)
(2,345)
(3,148)
(4,532)
(4,579)
(6,575)
Sensitivities are hypothetical changes in fair value and cannot be extrapolated because the relationship of changes in assumptions to changes in fair value may not be linear. Also, the effect of a variation in a particular assumption is calculated without changing any other assumption, whereas a change in one factor may result in changes to another. Accordingly, no assurance can be given that actual results would be consistent with the results of these estimates. As a result, actual future changes in MSR values may differ significantly from those displayed above.
(Loss) gain on mortgage servicing rights, net is comprised of the following for the three and six months ended June 30, 2019 and 2018:
(9,881)
393
9,572
(Loss) gain on sale of mortgage servicing rights
(6)
864
Realized and unrealized losses from hedging instruments
(226)
(1,700)
Servicing fees, net is comprised of the following for the three and six months ended June 30, 2019 and 2018:
Contractual servicing fees
3,891
11,326
8,080
22,864
Late and ancillary fees
38
92
318
Subservicing and other costs
(393)
(1,632)
(1,667)
(3,858)
10
Note 4.—Leases
On January 1, 2019, the Company adopted Topic 842 using the modified retrospective transition approach and elected the practical expedients transition option to recognize the adjustment in the period of adoption rather than in the earliest period presented. On January 1, 2019, the Company recognized right of use (ROU) assets of $19.7 million (net of the reversal of $3.8 million deferred rent liability) and lease liabilities of $23.4 million and are included in other assets and liabilities, respectively, in the accompanying consolidated balance sheets.
The Company has three operating leases for office space and certain office equipment under long‑term leases expiring at various dates through 2024. The Company determines if a contract is a lease at the inception of the arrangement and reviews all options to extend, terminate, or purchase its right of use assets at the inception of the lease and accounts for these options when they are reasonably certain of being exercised. Regarding the discount rate, Topic 842 requires the use of the rate implicit in the lease whenever this rate is readily determinable. When the Company cannot readily determine the rate implicit in the lease, the Company determines its incremental borrowing rate by using the rate of interest that it would have to pay to borrow on a collateralized basis over a similar term. As a practical expedient permitted under Topic 842, the Company has elected to account for the lease and non-lease components as a single lease component for all leases of which it is the lessee. Leases with an initial term of 12 months or less are not recorded in the consolidated balance sheets and lease expense for these leases is recognized on a straight-line basis over the lease term. For operating leases existing prior to January 1, 2019, the rate used for the remaining lease term was determined as of the date of adoption. The Company had financing leases for office equipment which were not material at June 30, 2019 and are included in other assets and liabilities in the accompanying consolidated balance sheets.
During the three and six months ended June 30, 2019, cash paid for operating leases was $1.1 million and $2.2 million, respectively, while total operating lease expense was $983 thousand and $2.0 million, respectively. Operating lease expense includes short-term leases and sublease income, both of which are immaterial.
The following table presents the operating lease balances within the consolidated balance sheets, weighted average remaining lease term, and weighted average discount rates related to the Company’s operating leases as of June 30, 2019:
Lease Assets and Liabilities
Classification
Assets
Operating lease ROU assets
$ 18,112
Liabilities
Operating lease liabilities
$ 21,711
Weighted average remaining lease term
5.23 years
Weighted average discount rate
%
The following table presents the maturity of the Company’s operating lease liabilities as of June 30, 2019:
Remainder of 2019
2,221
Year 2020
4,541
Year 2021
4,593
Year 2022
4,721
Year 2023
4,867
Year 2024
3,729
Total lease commitments
24,672
Less: imputed interest
(2,961)
Total operating lease liability
21,711
As of June 30, 2019, the Company had no additional operating or finance leases that had not yet commenced.
Note 5.—Goodwill and Intangible Assets
In the first quarter of 2015, the Company acquired CCM and recorded $104.6 million of goodwill and intangible assets of $33.1 million, consisting of $17.2 million for trademark, $10.2 million for customer relationships and $5.7 million for a non-compete agreement with the former owner of CCM. The purchase price allocation was prepared with the assistance of a third party valuation firm.
The Company reviewed its goodwill and intangible assets for impairment at least annually as of December 31 or more frequently if facts and circumstances indicate that it is more likely than not that the fair value of a reporting unit that has goodwill is less than its carrying value. As previously disclosed in our quarterly and annual reports, CCM had continued to experience declines in mortgage refinancing originations and margin compression, primarily a result of sustained increases in market interest rates from a historically low interest rate environment. In addition, the business model of CCM had led to additional margin compression through adverse demand from investors, as a result of the borrowers’ propensity to refinance.
The CCM brand had also experienced a material loss in value resulting from 1) the aforementioned adverse treatment from capital market participants for loans produced by the reporting unit, 2) consumer uncertainty due to the use of a similar brand name by an unaffiliated financial services company and 3) substantial deterioration in brand awareness. In light of those developments, the Company shifted the consumer direct strategy and long-term business plans for CCM, which had resulted in significant reductions in the anticipated future cash flows and estimated fair value of the reporting unit.
At June 30, 2018, the Company performed an impairment test to evaluate the CCM goodwill and intangible assets for impairment. The fair value of its net assets was compared using three methodologies (two income approaches and one market approach), to the carrying value and determined that its goodwill was impaired. As a result, an impairment charge of $74.7 million related to goodwill and $13.5 million related to intangible assets was recorded during the quarter ended June 30, 2018. Subsequent to June 30, 2018, an additional $29.9 million and $4.9 million, respectively, of goodwill and intangible asset impairment was recorded and as of December 31, 2018, the Company had no goodwill or intangible assets remaining related to the CCM acquisition.
Note 6.—Debt
Warehouse Borrowings
The Company, through its subsidiaries, enters into Master Repurchase Agreements with lenders providing warehouse facilities. The warehouse facilities are uncommitted facilities used to fund, and are secured by, residential mortgage loans from the time of funding until the time of settlement when sold to the investor. In accordance with the terms of the Master Repurchase Agreements, the Company’s subsidiaries are required to maintain cash balances with the lender as additional collateral for the borrowings, which are included in restricted cash in the accompanying consolidated balance sheets.
The following table presents certain information on warehouse borrowings and related accrued interest for the periods indicated:
Maximum
Balance Outstanding at
Borrowing
Capacity
Maturity Date
Short-term borrowings:
Repurchase agreement 1 (1)
150,000
84,897
August 13, 2019
Repurchase agreement 2 (1)
50,000
49,544
47,108
August 26, 2019
Repurchase agreement 3
225,000
102,889
35,920
January 17, 2020
Repurchase agreement 4
200,000
114,642
80,141
July 30, 2020
Repurchase agreement 5
175,000
94,861
23,370
March 31, 2020
Repurchase agreement 6
100,000
1,037
12,701
June 25, 2020
Total warehouse borrowings
900,000
Subsequent to maturity, these lines were temporarily extended pending the renewal process.
MSR Financings
In February 2018, IMC (Borrower) amended the Line of Credit Promissory Note (FHLMC and GNMA Financing) originally entered into in August 2017, increasing the maximum borrowing capacity of the revolving line of credit to $50.0 million and extending the term to January 31, 2019. In May 2018, the agreement was amended increasing the maximum borrowing capacity of the revolving line of credit to $60.0 million, increasing the borrowing capacity up to 60% of the fair market value of the pledged mortgage servicing rights and reducing the interest rate per annum to one-month LIBOR plus 3.0%. As part of the May 2018 amendment, the obligations under the Line of Credit are secured by FHLMC and GNMA pledged mortgage servicing rights (subject to an acknowledgement agreement) and is guaranteed by IRES. In April 2019, the maturity of the line was extended until January 31, 2020. At June 30, 2019, there were no outstanding borrowings under the FHLMC and GNMA Financing agreement and approximately $30.0 million was available for borrowing.
In February 2017, IMC (Borrower) entered into a Loan and Security Agreement (Agreement) with a lender providing for a revolving loan commitment of $40.0 million for a period of two years (FNMA Financing). The Borrower is able to borrow up to 55% of the fair market value of FNMA pledged servicing rights. Upon the two year anniversary of the Agreement, any amounts outstanding will automatically be converted into a term loan due and payable in full on the one year anniversary of the conversion date. Interest payments are payable monthly and accrue interest at the rate per annum equal to one-month LIBOR plus 4.0% and the balance of the obligation may be prepaid at any time. The Borrower also paid the lender an origination fee of $100 thousand, which was deferred and amortized over the life of the FNMA
13
Financing. In February 2019, the line converted into a term loan with no balance. At June 30, 2019, there were no outstanding borrowings under the FNMA Financing agreement and is not available for borrowing against.
Convertible Notes
In May 2015, the Company issued $25.0 million Convertible Promissory Notes (2015 Convertible Notes). The 2015 Convertible Notes mature on or before May 9, 2020 and accrue interest at a rate of 7.5% per annum, to be paid quarterly. Transaction costs of approximately $50 thousand are being deferred and amortized over the life of the 2015 Convertible Notes.
Noteholders may convert all or a portion of the outstanding principal amount of the 2015 Convertible Notes into shares of the Company’s common stock (Conversion Shares) at a rate of $21.50 per share, subject to adjustment for stock splits and dividends (Conversion Price). The Company has the right to convert the entire outstanding principal of the 2015 Convertible Notes into Conversion Shares at the Conversion Price if the market price per share of the common stock, as measured by the average volume-weighted closing stock price per share of the common stock on the NYSE AMERICAN (or any other U.S. national securities exchange then serving as the principal such exchange on which the shares of common stock are listed), reaches the level of $30.10 for any twenty (20) trading days in any period of thirty (30) consecutive trading days after the Closing Date. Upon conversion of the 2015 Convertible Notes by the Company, the entire amount of accrued and unpaid interest (and all other amounts owing) under the 2015 Convertible Notes are immediately due and payable. To the extent the Company pays any cash dividends on its shares of common stock prior to conversion of the 2015 Convertible Notes, upon conversion of the 2015 Convertible Notes, the Noteholders will also receive such dividends on an as-converted basis of the 2015 Convertible Notes less the amount of interest paid by the Company prior to such dividend.
Long-term Debt
Junior Subordinated Notes
The Company carries its Junior Subordinated Notes at estimated fair value as more fully described in Note 8.—Fair Value of Financial Instruments. The following table shows the remaining principal balance and fair value of junior subordinated notes issued as of June 30, 2019 and December 31, 2018:
Junior Subordinated Notes (1)
62,000
Fair value adjustment
(18,090)
(17,144)
Total Junior Subordinated Notes
Stated maturity of March 2034; requires quarterly interest payments at a variable rate of 3‑month LIBOR plus 3.75% per annum.
Note 7.—Securitized Mortgage Trusts
Securitized Mortgage Trust Assets
Securitized mortgage trust assets, which are recorded at their estimated fair value, are comprised of the following at June 30, 2019 and December 31, 2018:
Securitized mortgage collateral
2,920,849
3,157,071
Real estate owned (REO), at net realizable value (NRV)
10,944
8,519
Total securitized mortgage trust assets
Securitized Mortgage Trust Liabilities
Securitized mortgage trust liabilities, which are recorded at their estimated fair value, are comprised of the following at June 30, 2019 and December 31, 2018:
Securitized mortgage borrowings
Changes in fair value of net trust assets, including trust REO gains and losses, are comprised of the following for the three and six months ended June 30, 2019 and 2018:
Change in fair value of net trust assets, excluding REO
3,113
1,807
(3,043)
(2,524)
(Losses) gains from REO
(4,572)
(1,590)
(1,099)
603
Note 8.—Fair Value of Financial Instruments
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 following table presents the estimated fair value of financial instruments included in the consolidated financial statements as of the dates indicated:
June 30, 2019
December 31, 2018
Carrying
Estimated Fair Value
Amount
Level 1
Level 2
Level 3
Derivative assets, lending, net (1)
8,449
3,351
Mortgage-backed securities (1)
5,378
1,000
Convertible notes
Derivative liabilities, lending, net (2)
1,215
683
Included in other assets in the accompanying consolidated balance sheets.
Included in other liabilities in the accompanying consolidated balance sheets
The fair value amounts above have been estimated by management using available market information and appropriate valuation methodologies. Considerable judgment is required to interpret market data to develop the estimates of fair value in both inactive and orderly markets. Accordingly, the estimates presented are not necessarily indicative of
the amounts that could be realized in a current market exchange. The use of different market assumptions and/or estimation methodologies may have a material effect on the estimated fair value amounts.
For securitized mortgage collateral and securitized mortgage borrowings, the underlying bonds are collateralized by Alt-A (non-conforming) residential and commercial loans and have limited or no market activity. The Company’s methodology to estimate fair value of these assets and liabilities include the use of internal pricing techniques such as the net present value of future expected cash flows (with observable market participant assumptions, where available) discounted at a rate of return based on the Company’s estimates of market participant requirements. The significant assumptions utilized in these internal pricing techniques, which are based on the characteristics of the underlying collateral, include estimated credit losses, estimated prepayment speeds and appropriate discount rates.
Refer to Recurring Fair Value Measurements below for a description of the valuation methods used to determine the fair value of mortgage servicing rights, mortgage loans held-for-sale, mortgage-backed securities, securitized mortgage collateral and borrowings, long-term debt and derivative assets and liabilities.
The carrying amount of cash, cash equivalents and restricted cash approximates fair value.
Warehouse borrowings carrying amounts approximate fair value due to the short-term nature of the liabilities and do not present unanticipated interest rate or credit concerns.
Convertible notes are recorded at amortized cost, which approximates fair value.
Fair Value Hierarchy
The application of fair value measurements 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.
FASB ASC 820-10-35 specifies a hierarchy of valuation techniques based on whether the inputs to those 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 (unadjusted) in active markets for identical instruments or liabilities that an entity has the ability to assess at measurement date.
Level 2—Quoted prices for similar instruments in active markets; quoted prices for identical or similar instruments in markets that are not active; inputs other than quoted prices that are observable for an asset or liability, including interest rates and yield curves observable at commonly quoted intervals, prepayment speeds, loss severities, credit risks and default rates; and market-corroborated inputs.
Level 3—Valuations derived from valuation techniques in which one or more significant inputs or significant value drivers is unobservable.
This hierarchy requires the Company to use observable market data, when available, and to minimize the use of unobservable inputs when estimating fair value.
As a result of the lack of observable market data resulting from inactive markets, the Company has classified its mortgage servicing rights, securitized mortgage collateral and borrowings, derivative assets and liabilities (IRLCs), and long-term debt as Level 3 fair value measurements. Level 3 assets and liabilities measured at fair value on a recurring basis were approximately 87% and 99% and 90% and 99%, respectively, of total assets and total liabilities measured at estimated fair value at June 30, 2019 and December 31, 2018.
Recurring Fair Value Measurements
The Company assesses its financial instruments on a quarterly basis to determine the appropriate classification within the fair value hierarchy, as defined by ASC Topic 810. Transfers between fair value classifications occur when there are changes in pricing observability levels. Transfers of financial instruments among the levels occur at the beginning
of the reporting period. There were no material transfers between Level 1 and Level 2 classified instruments during the six months ended June 30, 2019.
The following tables present the Company’s assets and liabilities that are measured at estimated fair value on a recurring basis, including financial instruments for which the Company has elected the fair value option at June 30, 2019 and December 31, 2018, based on the fair value hierarchy:
Mortgage-backed securities
Total assets at fair value
426,335
2,979,644
354,601
3,225,150
Total liabilities at fair value
2,959,066
3,193,071
At June 30, 2019 and December 31, 2018, derivative assets, lending, net included $8.4 million and $3.4 million, respectively, in IRLCs and is included in other assets in the accompanying consolidated balance sheets.
At June 30, 2019 and December 31, 2018, derivative liabilities, lending, net are included in other liabilities in the accompanying consolidated balance sheets.
The following tables present reconciliations for all assets and liabilities measured at estimated fair value on a recurring basis using significant unobservable inputs (Level 3) for the three months ended June 30, 2019 and 2018:
Level 3 Recurring Fair Value Measurements
For the Three Months Ended June 30, 2019
Interest
Securitized
Mortgage
rate lock
Long-
mortgage
servicing
commitments,
term
collateral
borrowings
rights
net
debt
Fair value, March 31, 2019
3,054,720
(3,051,736)
59,823
3,164
(44,561)
Total gains (losses) included in earnings:
Interest income (1)
3,950
Interest expense (1)
(10,198)
(108)
Change in fair value
40,558
(37,445)
5,285
Change in instrument specific credit risk
371
Total gains (losses) included in earnings
44,508
(47,643)
651
Transfers in and/or out of Level 3
Purchases, issuances and settlements:
Purchases
Issuances
Settlements
(178,379)
184,223
(12)
Fair value, June 30, 2019
(2,915,156)
(43,910)
Unrealized (losses) gains still held (3)
(263,682)
2,492,202
18,090
Amounts primarily represent accretion to recognize interest income and interest expense using effective yields based on estimated fair values for trust assets and trust liabilities. Net interest income, including cash received and paid, was $2.2 million for three months ended June 30, 2019. The difference between accretion of interest income and expense and the amounts of interest income and expense recognized in the consolidated statements of operations is primarily from contractual interest on the securitized mortgage collateral and borrowings.
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Amount represents the change in instrument specific credit risk in other comprehensive earnings in the consolidated statements of operations and comprehensive earnings (loss).
Represents the amount of unrealized gains (losses) relating to assets and liabilities classified as Level 3 that are still held and reflected in the fair values at June 30, 2019.
For the Three Months Ended June 30, 2018
Fair value, March 31, 2018
3,513,901
(3,508,477)
174,067
3,854
(45,337)
11,286
(17,117)
(182)
12,686
(10,879)
684
23,972
(27,996)
(450)
(136,836)
142,752
Fair value, June 30, 2018
3,401,037
(3,393,721)
180,733
4,538
(45,787)
(490,822)
2,666,746
16,213
Amounts primarily represent accretion to recognize interest income and interest expense using effective yields based on estimated fair values for trust assets and trust liabilities. Net interest income, including cash received and paid, was $1.8 million for three months ended June 30, 2018. The difference between accretion of interest income and expense and the amounts of interest income and expense recognized in the consolidated statements of operations is primarily from contractual interest on the securitized mortgage collateral and borrowings.
Represents the amount of unrealized gains (losses) relating to assets and liabilities classified as Level 3 that are still held and reflected in the fair values at June 30, 2018.
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The following tables present reconciliations for all assets and liabilities measured at estimated fair value on a recurring basis using significant unobservable inputs (Level 3) for the six months ended June 30, 2019 and 2018:
For the Six Months Ended June 30, 2019
Fair value, December 31, 2018
(3,148,215)
(44,856)
10,206
(23,751)
(223)
61,642
(64,685)
5,098
515
71,848
(88,436)
946
(308,070)
321,495
Amounts primarily represent accretion to recognize interest income and interest expense using effective yields based on estimated fair values for trust assets and trust liabilities. Net interest income, including cash received and paid, was $4.2 million for the six months ended June 30, 2019. The difference between accretion of interest income and expense and the amounts of interest income and expense recognized in the consolidated statements of operations and comprehensive earnings (loss) is primarily from contractual interest on the securitized mortgage collateral and borrowings.
Amount represents the change in instrument specific credit risk in other comprehensive earnings in the consolidated statements of operations and comprehensive earnings (loss) as required by the adoption of ASU 2016-01 on January 1, 2018.
For the Six Months Ended June 30, 2018
Contingent
consideration
Fair value, December 31, 2017
3,662,008
(3,653,265)
4,357
(44,982)
16,974
(37,197)
(321)
(20,069)
17,545
181
(3,095)
(19,652)
(805)
(257,876)
279,196
554
Amounts primarily represent accretion to recognize interest income and interest expense using effective yields based on estimated fair values for trust assets and trust liabilities. Net interest income, including cash received and paid, was $4.0 million for the six months ended June 30, 2018. The difference between accretion of interest income and expense and the amounts of interest income and expense recognized in the consolidated statements of operations and comprehensive earnings (loss) is primarily from contractual interest on the securitized mortgage collateral and borrowings.
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The following table presents quantitative information about the valuation techniques and unobservable inputs applied to Level 3 fair value measurements for financial instruments measured at fair value on a recurring and nonrecurring basis at June 30, 2019:
Estimated
Valuation
Unobservable
Range of
Weighted
Financial Instrument
Fair Value
Technique
Input
Inputs
Average
Assets and liabilities backed by real estate
Securitized mortgage collateral, and
DCF
Prepayment rates
3.4 - 29.5
8.0
Default rates
0.01 - 3.9
1.7
Loss severities
4.4 - 99.9
48.2
Discount rates
2.9 - 25.0
3.9
Other assets and liabilities
Discount rate
9.0 - 13.0
9.2
8.0 - 86.6
15.4
Derivative assets - IRLCs, net
Market pricing
Pull-through rate
6.1 - 99.9
72.8
9.4
DCF = Discounted Cash Flow
For assets and liabilities backed by real estate, a significant increase in discount rates, default rates or loss severities would result in a significantly lower estimated fair value. The effect of changes in prepayment speeds would have differing effects depending on the seniority or other characteristics of the instrument. For other assets and liabilities, a significant increase in discount rates would result in a significantly lower estimated fair value. A significant increase in one-month LIBOR would result in a significantly higher estimated fair value for derivative liabilities, net, securitized trusts. The Company believes that the imprecision of an estimate could be significant.
The following tables present the changes in recurring fair value measurements included in net earnings (loss) for the three months ended June 30, 2019 and 2018:
Changes in Fair Value Included in Net Earnings (Loss)
Change in Fair Value of
Net Trust
Long-term
Other Revenue
Gain on Sale
Income (1)
Expense (1)
Debt
and Expense
of Loans, net
280
Mortgage servicing rights (2)
Derivative assets — IRLCs
Derivative liabilities — Hedging Instruments
(110)
(10,306)
10,039
(2,697)
Amounts primarily represent accretion to recognize interest income and interest expense using effective yields based on estimated fair values for trust assets and trust liabilities.
Included in (loss) gain on MSRs, net in the consolidated statements of operations and comprehensive earnings (loss).
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Changes in Fair Value Included in Net (Loss) Earnings
Revenue
76
(38)
751
713
(17,299)
355
1,044
(2,549)
The following tables present the changes in recurring fair value measurements included in net (loss) earnings for the six months ended June 30, 2019 and 2018:
431
(532)
(23,974)
12,900
(19,631)
For the six months ended June 30, 2019, change in the fair value of net trust assets, excluding REO was $3.0 million.
1,160
246
(846)
(600)
(37,518)
9,818
(5,947)
(17,716)
For the six months ended June 30, 2018, change in the fair value of net trust assets, excluding REO was $2.5 million.
The following is a description of the measurement techniques for items recorded at estimated fair value on a recurring basis.
Mortgage servicing rights—The Company elected to carry its MSRs arising from its mortgage loan origination operation at estimated fair value. The fair value of MSRs is based upon market prices for similar instruments and a discounted cash flow model. The valuation model incorporates assumptions that market participants would use in estimating the fair value of servicing. These assumptions include estimates of prepayment speeds, discount rate, cost to service, escrow account earnings, contractual servicing fee income, prepayment and late fees, among other considerations. Mortgage servicing rights are considered a Level 3 measurement at June 30, 2019.
Mortgage loans held-for-sale—The Company elected to carry its mortgage loans held-for-sale originated or acquired at estimated fair value. Fair value is based on quoted market prices, where available, prices for other traded mortgage loans with similar characteristics, and purchase commitments and bid information received from market participants. Given the meaningful level of secondary market activity for mortgage loans, active pricing is available for similar assets and accordingly, the Company classifies its mortgage loans held-for-sale as a Level 2 measurement at June 30, 2019.
Mortgage-backed securities—The Company invested in mortgage-backed securities collateralized by NonQM loans originated by the Company and sold to third party investors. Fair value is based on prices for other traded mortgage-backed securities with similar characteristics and bid information received from market participants. Given the market pricing for other traded mortgage-backed securities, active pricing is available for similar assets and accordingly, the Company classifies its mortgage-backed securities as a Level 2 measurement at June 30, 2019.
Securitized mortgage collateral—The Company elected to carry its securitized mortgage collateral at fair value. These assets consist primarily of non-conforming mortgage loans securitized between 2002 and 2007. Fair value measurements are based on the Company’s internal models used to compute the net present value of future expected cash flows with observable market participant assumptions, where available. The Company’s assumptions include its expectations of inputs that other market participants would use in pricing these assets. These assumptions include judgments about the underlying collateral, prepayment speeds, estimated future credit losses, forward interest rates, investor yield requirements and certain other factors. As of June 30, 2019, securitized mortgage collateral had UPB of $3.2 billion, compared to an estimated fair value on the Company’s balance sheet of $2.9 billion. The aggregate UPB exceeded the fair value by $0.3 billion at June 30, 2019. As of June 30, 2019, the UPB of loans 90 days or more past due was $0.4 billion compared to an estimated fair value of $0.1 billion. The aggregate UPB of loans 90 days or more past due exceeded the fair value by $0.3 billion at June 30, 2019. Securitized mortgage collateral is considered a Level 3 measurement at June 30, 2019.
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Securitized mortgage borrowings—The Company elected to carry its securitized mortgage borrowings at fair value. These borrowings consist of individual tranches of bonds issued by securitization trusts and are primarily backed by non-conforming mortgage loans. Fair value measurements include the Company’s judgments about the underlying collateral and assumptions such as prepayment speeds, estimated future credit losses, forward interest rates, investor yield requirements and certain other factors. As of June 30, 2019, securitized mortgage borrowings had an outstanding principal balance of $3.2 billion compared to an estimated fair value of $2.9 billion. The aggregate outstanding principal balance exceeded the fair value by $0.3 billion at June 30, 2019. Securitized mortgage borrowings are considered a Level 3 measurement at June 30, 2019.
Long-term debt—The Company elected to carry its remaining long-term debt (consisting of junior subordinated notes) at fair value. These securities are measured based upon an analysis prepared by management, which considered the Company’s own credit risk, including previous settlements with trust preferred debt holders and discounted cash flow analysis. As of June 30, 2019, long-term debt had UPB of $62.0. million compared to an estimated fair value of $43.9 million. The aggregate UPB exceeded the fair value by $18.1 million at June 30, 2019. The long-term debt is considered a Level 3 measurement at June 30, 2019.
Derivative assets and liabilities, lending—The Company’s derivative assets and liabilities are carried at fair value as required by GAAP and are accounted for as free standing derivatives. The derivatives include IRLCs with prospective residential mortgage borrowers whereby the interest rate on the loan is determined prior to funding and the borrowers have locked in that interest rate. These commitments are determined to be derivative instruments in accordance with GAAP. The derivatives also include hedging instruments (typically TBA MBS) used to hedge the fair value changes associated with changes in interest rates relating to its mortgage lending originations. The Company hedges the period from the interest rate lock (assuming a fall-out factor) to the date of the loan sale. The estimated fair value of IRLCs are based on underlying loan types with similar characteristics using the TBA MBS market, which is actively quoted and validated through external sources. The data inputs used in this valuation include, but are not limited to, loan type, underlying loan amount, note rate, loan program and expected sale date of the loan, adjusted for current market conditions. These valuations are adjusted at the loan level to consider the servicing release premium and loan pricing adjustments specific to each loan. For all IRLCs, the base value is then adjusted for the anticipated Pull-through Rate. The anticipated Pull-through Rate is an unobservable input based on historical experience, which results in classification of IRLCs as a Level 3 measurement at June 30, 2019.
The fair value of the Hedging Instruments is based on the actively quoted TBA MBS market using observable inputs related to characteristics of the underlying MBS stratified by product, coupon and settlement date. Therefore, the Hedging Instruments are classified as a Level 2 measurement at June 30, 2019.
The following table includes information for the derivative assets and liabilities related to lending for the periods presented:
Total Gains (Losses)
Notional Amount
Derivative – IRLC's (1)
439,530
183,595
Derivative – TBA MBS (2)
209,154
88,018
299
(3,886)
9,275
Derivative – Forward delivery loan commitment
Amounts included in gain on sale of loans, net within the accompanying consolidated statements of operations and comprehensive earnings (loss).
Amounts included in gain on sale of loans, net and (loss) gain on mortgage servicing rights, net within the accompanying consolidated statements of operations and comprehensive earnings (loss).
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Nonrecurring Fair Value Measurements
The Company is required to measure certain assets and liabilities at estimated 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 nonrecurring fair value measurements under FASB ASC 820-10.
The following tables present financial and non-financial assets measured using nonrecurring fair value measurements at June 30, 2019 and 2018, respectively:
Total Losses (1)
REO (2)
11,214
Total losses reflect losses from all nonrecurring measurements during the period.
Balance represents REO at June 30, 2019, which have been impaired subsequent to foreclosure. For the three and six months ended June 30, 2019, the Company recorded $4.6 million and $1.1 million, respectively, losses related to changes in NRV of properties. Losses represent impairment of the NRV attributable to an increase in state specific loss severities on properties held during the period which resulted in a decrease to NRV.
Total Gains (Losses) (1)
June 30, 2018
8,440
Intangible assets
6,033
(13,450)
Goodwill
29,925
(74,662)
Total (losses) gains reflect (losses) gains from all nonrecurring measurements during the period.
Balance represents REO at June 30, 2018, which has been impaired subsequent to foreclosure. For the three and six months ended June 30, 2018, the Company recorded $1.6 million and $603 thousand, respectively, in (losses) gains related to changes in NRV of properties. Losses represent impairment of the NRV attributable to an increase in state specific loss severities on properties held during the period which resulted in a decrease to NRV. Gains represent recovery of the NRV attributable to an improvement in state specific loss severities on properties held during the period which resulted in an increase to NRV.
Real estate owned—REO consists of residential real estate (within securitized mortgage trust assets) acquired in satisfaction of loans. Upon foreclosure, REO is adjusted to the estimated fair value of the residential real estate less estimated selling and holding costs, offset by expected contractual mortgage insurance proceeds to be received, if any. Subsequently, REO is recorded at the lower of carrying value or estimated fair value less costs to sell. REO balance representing REOs which have been impaired subsequent to foreclosure are subject to nonrecurring fair value measurement and are included in the nonrecurring fair value measurements tables. Fair values of REO are generally based on observable market inputs, and are considered Level 2 measurements at June 30, 2019.
Intangible assets— The methodology used to determine the fair value as well as measure potential impairment of trademarks includes assumptions with inherent uncertainty, including projected sales volumes and related projected revenues, long-term growth rates, royalty rates that a market participant might assume and judgments regarding the factors to develop an applied discount rate. The carrying value of intangible assets is at risk of impairment if future projected usage, revenues or long-term growth rates are lower than those currently projected, or if factors used in the development of a discount rate result in the application of a higher discount rate. As the results of our testing indicated that the carrying values of certain of these assets would not be recoverable, we recorded intangible asset impairment of approximately $13.5 million during the quarter ended June 30, 2018. The intangible assets were considered Level 3 nonrecurring fair value measurements at June 30, 2018. Subsequent to June 30, 2018, an additional $4.9 million of intangible asset impairment was recorded and as of December 31, 2018, the Company had no intangible assets remaining.
Goodwill— For goodwill, the determination of fair value of a reporting unit involves, among other things, application of various approaches, which include developing forecasts of future cash flows with a number of assumptions including but not limited to, origination and margin projections, growth and terminal value projections, and judgements
24
regarding the factors to develop discount rates and cost of capital. The Company reviews its goodwill for impairment at least annually as of December 31 or more frequently if facts and circumstances indicate that it is more likely than not that the fair value of a reporting unit that has goodwill is less than its carrying value. The Company compared the fair value of its net assets using three methodologies (two income approaches and one market approach), to the carrying value and determined that its goodwill was impaired. As a result, the Company recorded an impairment charge of $74.7 million related to goodwill during the quarter ended June 30, 2018. Goodwill was considered a Level 3 nonrecurring fair value measurement at June 30, 2018. Subsequent to June 30, 2018, an additional $29.9 million of goodwill impairment was recorded and as of December 31, 2018, the Company had no goodwill remaining.
Note 9.—Income Taxes
The Company calculates its quarterly tax provision pursuant to the guidelines in ASC 740 Income Taxes. ASC 740 requires companies to estimate the annual effective tax rate for current year ordinary income. In calculating the effective tax rate, permanent differences between financial reporting and taxable income are factored into the calculation, and temporary differences are not. The estimated annual effective tax rate represents the Company’s estimate of the tax provision in relation to the best estimate of pre-tax ordinary income or loss. The estimated annual effective tax rate is then applied to year-to-date ordinary income or loss to calculate the year-to-date interim tax provision.
The Company recorded income tax expense of $81 thousand and $167 thousand for the three and six months ended June 30, 2019, respectively. Tax expense for the three and six months ended June 30, 2019 is primarily the result of state income taxes from states where the Company does not have net operating loss carryforwards or state minimum taxes, offset by a benefit resulting from the intraperiod allocation rules that are applied when there is a pre-tax loss from continuing operations and pre-tax income from other comprehensive income.
The Company recorded income tax expense of $3.7 million and $4.3 million for the three and six months ended June 30, 2018, respectively. Tax expense for the three and six months ended June 30, 2018 is primarily the result of an increase in the valuation allowance eliminating the net deferred tax asset, state income taxes from states where the Company does not have net operating loss carryforwards or state minimum taxes, including AMT.
At June 30, 2019, the Company had accumulated other comprehensive earnings of $24.3 million, which was net of tax of $11.1 million.
As of December 31, 2018, the Company had estimated federal net operating loss (NOL) carryforwards of approximately $564.6 million. Federal NOL carryforwards begin to expire in 2027. As of December 31, 2018, the Company had estimated California NOL carryforwards of approximately $386.0 million, which begin to expire in 2028. The Company may not be able to realize the maximum benefit due to the nature and tax entities that hold the NOL.
Note 10.—Reconciliation of Earnings (Loss) Per Share
Basic net earnings (loss) per share is computed by dividing net earnings (loss) available to common stockholders (numerator) by the weighted average number of vested common shares outstanding during the period (denominator). Diluted net earnings (loss) per share is computed on the basis of the weighted average number of shares of common stock outstanding plus the effect of dilutive potential common shares outstanding during the period using the if-converted method. Dilutive potential common shares include shares issuable upon conversion of Convertible Notes, dilutive effect of outstanding stock options and deferred stock units (DSUs).
25
Numerator for basic earnings (loss) per share:
Numerator for diluted earnings (loss) per share:
Interest expense attributable to convertible notes (1)
Net earnings (loss) plus interest expense attributable to convertible notes
Denominator for basic earnings (loss) per share (2):
Basic weighted average common shares outstanding during the period
21,181
20,964
21,170
20,958
Denominator for diluted earnings (loss) per share (2):
Net effect of dilutive convertible notes (1)
Net effect of dilutive stock options and DSU’s
Diluted weighted average common shares
21,189
Adjustments to diluted earnings (loss) per share for the convertible notes for the three and six months ended June 30, 2019 and 2018 were excluded from the calculation, as they were anti-dilutive.
Number of shares presented in thousands.
For the three months ended June 30, 2019, there were 1.2 million shares of Convertible Notes and 1.1 million stock options outstanding which were anti-dilutive. For the six months ended June 30, 2019, there were 1.2 million shares of Convertible Notes and 1.2 million stock options outstanding which were anti-dilutive. For the three and six months ended June 30, 2018, there were 1.2 million shares of Convertible Notes and 1.3 million stock options outstanding which were anti-dilutive.
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Note 11.—Segment Reporting
The Company has three primary reporting segments which include mortgage lending, real estate services and long-term mortgage portfolio. Unallocated corporate and other administrative costs are presented in Corporate and other.
Statement of Operations Items for the
Real Estate
Corporate
Three Months Ended June 30, 2019:
Lending
Services
Portfolio
and other
Consolidated
Loss on mortgage servicing rights, net
Other revenue
36
131
Other operating expense
(17,456)
(345)
(3,722)
(21,633)
Other income (expense)
1,905
(452)
Net earnings (loss) before income tax expense
7,606
462
40
(4,154)
Three Months Ended June 30, 2018:
Gain on mortgage servicing rights, net
101
(28,985)
(591)
(111)
(6,837)
(36,524)
305
1,177
(461)
Net (loss) earnings before income tax expense
(88,023)
447
1,167
(7,283)
Six Months Ended June 30, 2019:
98
53
(34,956)
(732)
(250)
(7,966)
(43,904)
3,320
(1,560)
(909)
1,081
881
(1,712)
(8,822)
27
Six Months Ended June 30, 2018:
186
(60,533)
(1,229)
(176)
(10,335)
(72,273)
638
1,373
(884)
(80,588)
1,194
1,383
(11,198)
Balance Sheet Items as of:
Total Assets at June 30, 2019 (1)
545,182
2,931,883
22,891
Total Assets at December 31, 2018 (1)
475,734
126
3,165,669
6,414
All segment asset balances exclude intercompany balances.
Note 12.—Commitments and Contingencies
Legal Proceedings
The Company is a defendant in or a party to a number of legal actions or proceedings that arise in the ordinary course of business. In some of these actions and proceedings, claims for monetary damages are asserted against the Company. In view of the inherent difficulty of predicting the outcome of such legal actions and proceedings, the Company generally cannot predict what the eventual outcome of the pending matters will be, what the timing of the ultimate resolution of these matters will be, or what the eventual loss related to each pending matter may be, if any.
In accordance with applicable accounting guidance, the Company establishes an accrued liability for litigation when those matters present loss contingencies that are both probable and estimable. In any case, there may be an exposure to losses in excess of any such amounts whether accrued or not. Any estimated loss is subject to significant judgment and is based upon currently available information, a variety of assumptions, and known and unknown uncertainties. The matters underlying the estimated loss will change from time to time, and actual results may vary significantly from the current estimate. Therefore, an estimate of possible loss represents what the Company believes to be an estimate of possible loss only for certain matters meeting these criteria. It does not represent the Company’s maximum loss exposure.
Based on the Company’s current understanding of these pending legal actions and proceedings, management does not believe that judgments or settlements arising from pending or threatened legal matters, individually or in the aggregate, will have a material adverse effect on the consolidated financial position, operating results or cash flows of the Company. However, in light of the inherent uncertainties involved in these matters, some of which are beyond the Company’s control, and the very large or indeterminate damages sought in some of these matters, an adverse outcome in one or more of these matters could be material to the Company’s results of operations or cash flows for any particular reporting period.
28
The legal matter updates summarized below are ongoing and may have an effect on the Company’s business and future financial condition and results of operations:
On July 3, 2019, a representative action was filed in the Superior Court of California, Orange County, entitled Law v. Impac Mortgage Corp. dba CashCall Mortgage under the California Labor Code Private Attorneys General Act. The plaintiff contends the defendant did not pay its employees overtime compensation, provide required meal and rest breaks, or provide accurate wage statements as required by law. The action seeks penalties, attorneys’ fees, and such other appropriate relief.
The Company is a party to other litigation and claims which are normal in the course of the Company’s operations. While the results of such other litigation and claims cannot be predicted with certainty, we believe the final outcome of such matters will not have a material adverse effect on our financial condition or results of operations. The Company believes that it has meritorious defenses to the claims and intends to defend these claims vigorously and as such the Company believes the final outcome of such matters will not have a material adverse effect on its financial condition or results of operations. 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’s financial position and results of operations.
Please refer to IMH’s report on Form 10-K for the year ended December 31, 2018 for a full description of litigation and claims.
Repurchase Reserve
When the Company sells mortgage loans, it makes customary representations and warranties to the purchasers about various characteristics of each loan such as the origination and underwriting guidelines, including but not limited to the validity of the lien securing the loan, property eligibility, borrower credit, income and asset requirements, and compliance with applicable federal, state and local law. The Company’s whole loan sale agreements generally require it to repurchase loans if the Company breached a representation or warranty given to the loan purchaser.
The following table summarizes the repurchase reserve activity, within other liabilities on the consolidated balance sheets, related to previously sold loans for the six months ended June 30, 2019 and year ended December 31, 2018:
Beginning balance
7,657
6,020
5,074
(1,125)
(3,437)
Total repurchase reserve
9,692
Commitments to Extend Credit
The Company enters into IRLCs with prospective borrowers whereby the Company commits to lend a certain loan amount under specific terms and interest rates to the borrower. These loan commitments are treated as derivatives and are carried at fair value. See Note 8. — Fair Value of Financial Instruments for more information.
Note 13.—Equity and Share Based Payments
Redeemable Preferred Stock
At June 30, 2019, the Company had outstanding $67.0 million liquidation preference of Series B and Series C Preferred Stock. The holders of each series of Preferred Stock, which are non‑voting and redeemable at the option of the Company, retain the right to a $25.00 per share liquidation preference in the event of a liquidation of the Company and the right to receive dividends on the Preferred Stock if any such dividends are declared.
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As previously disclosed within Note 11.—Redeemable Preferred Stock, of the 2018 Form 10-K, all rights of the Preferred B holders under the 2004 Articles were deemed reinstated. Subject to an appeal, the Company has cumulative undeclared dividends in arrears of approximately $15.2 million, or approximately $22.85 per outstanding share of Preferred B, increasing the liquidation value to approximately $47.85 per share. Additionally, every quarter the cumulative undeclared dividends in arrears will increase by $0.5859 per share, or approximately $390 thousand. The liquidation preference, inclusive of the cumulative undeclared dividends in arrears, is only payable upon voluntary or involuntary liquidation, dissolution or winding up of the Company’s affairs.
Share Based Payments
The following table summarizes activity, pricing and other information for the Company’s stock options for the six months ended June 30, 2019:
Weighted-
Number of
Exercise
Price
Options outstanding at December 31, 2018
1,001,469
13.16
Options granted
592,500
3.66
Options exercised
(64,351)
2.52
Options forfeited/cancelled
(376,364)
13.81
Options outstanding at June 30, 2019
1,153,254
8.67
Options exercisable at June 30, 2019
428,599
13.86
As of June 30, 2019, there was approximately $1.3 million of total unrecognized compensation cost related to stock option compensation arrangements granted under the plan, net of estimated forfeitures. That cost is expected to be recognized over the remaining weighted average period of 2.2 years.
The following table summarizes activity, pricing and other information for the Company’s restricted stock units (RSU’s) for the six months ended June 30, 2019:
Grant Date
RSU's outstanding at December 31, 2018
RSU’s granted
75,000
3.75
RSU’s issued
RSU’s forfeited/cancelled
RSU’s outstanding at June 30, 2019
As of June 30, 2019, there was approximately $249 thousand of total unrecognized compensation cost related to the RSU compensation arrangements granted under the plan. That cost is expected to be recognized over the remaining weighted average period of 2.7 years.
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The following table summarizes activity, pricing and other information for the Company’s deferred stock units (DSU’s) for the six months ended June 30, 2019:
DSU's outstanding at December 31, 2018
24,500
10.11
DSU’s granted
30,000
DSU’s issued
DSU’s forfeited/cancelled
DSU’s outstanding at June 30, 2019
54,500
6.61
As of June 30, 2019, there was approximately $126 thousand of total unrecognized compensation cost related to the DSU compensation arrangements granted under the plan. That cost is expected to be recognized over the remaining weighted average period of 2.4 years.
The following table summarizes activity, pricing and other information for the Company’s restricted stock awards (RSA’s) for the six months ended June 30, 2019:
RSA's outstanding at December 31, 2018
RSA’s granted
35,069
3.57
RSA’s issued
RSA’s forfeited/cancelled
RSA’s outstanding at June 30, 2019
As of June 30, 2019, there was no unrecognized compensation cost related to the RSA compensation arrangements granted under the plan as the amounts were accrued as part of an executive stay bonus in accordance with the executive’s employment agreement.
Note 14.—Subsequent Events
Subsequent events have been evaluated through the date of this filing.
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ITEM 2: MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
(dollars in thousands, except per share data or as otherwise indicated)
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 direct and indirect wholly-owned subsidiaries, Integrated Real Estate Service Corporation (IRES), Impac Mortgage Corp. (IMC), IMH Assets Corp. (IMH Assets), and Impac Funding Corporation (IFC).
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,” “projected,” “should,” “could,” “seem to,” “anticipate,” “plan,” “intend,” “project,” “assume,” 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 the following: successful development, marketing, sale and financing of new mortgage products, including expansion of non-Qualified Mortgage originations; inability to successfully reduce prepayment on our mortgage loans; ability to successfully diversify our loan products; decrease in our mortgage servicing portfolio or its market value; ability to increase our market share and geographic footprint in the various residential mortgage businesses; ability to manage and sell MSRs as needed; ability to successfully sell loans to third-party investors; volatility in the mortgage industry; unexpected interest rate fluctuations and margin compression; our ability to manage personnel expenses in relation to mortgage production levels; our ability to successfully use warehousing capacity and satisfy financial covenants; increased competition in the mortgage lending industry by larger or more efficient companies; issues and system risks related to our technology including cyber risk and data security risk; ability to successfully create cost and product efficiencies through new technology; more than expected increases in default rates or loss severities and mortgage related losses; ability to obtain additional financing, through lending and repurchase facilities, debt or equity funding, strategic relationships or otherwise; the terms of any financing, whether debt or equity, that we do obtain and our expected use of proceeds from any financing; increase in loan repurchase requests and ability to adequately settle repurchase obligations; failure to create brand awareness; the outcome, including any settlements, of litigation or regulatory actions pending against us or other legal contingencies; and our 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, 2018, and other subsequent reports we file under the Securities Exchange Act of 1934. This document speaks only as of its date and we do not undertake, and specifically disclaim any obligation, to release publicly 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.
The mortgage industry is subject to current events that occur in the financial services industry including changes to regulations and compliance requirements that result in uncertainty surrounding the actions of states, municipalities and government agencies, including the Consumer Financial Protection Bureau (CFPB) and Federal Housing Finance Agency (FHFA). These events can also include changes in economic indicators, interest rates, price competition, geographic shifts, disposable income, housing prices, market liquidity, market anticipation, environmental conditions, such as hurricanes and floods, and customer perception, as well as others. The factors that affect the industry change rapidly and can be unforeseeable making it difficult to predict and manage an operation in the financial services industry.
Current events can diminish the relevance of “quarter over quarter” and “year-to-date over year-to-date” comparisons of financial information. In such instances, we attempt to present financial information in Management’s
32
Discussion and Analysis of Financial Condition and Results of Operations that is the most relevant to our financial information.
March 31,
12,214
2,969
(5,623)
806
10,366
14,121
2,923
5,226
22,270
Operating income (loss):
(11,904)
Net interest income
2,543
1,796
546
4,339
1,567
265
Change in fair value of net trust assets
(2,683)
Total other income (expense)
(622)
(12,526)
86
Change in fair value of instrument specific credit risk
96
(12,495)
21,159
Diluted earnings (loss) per share
(0.60)
Summary Highlights
NonQM mortgage origination volumes were $315.1 million in the second quarter of 2019 compared to $343.3 million in the first quarter of 2019 and $306.1 million in the second quarter of 2018.
Mortgage servicing portfolio decreased slightly to $6.0 billion at June 30, 2019 as compared to $6.2 billion at December 31, 2018 and $16.8 billion at June 30, 2018.
Mortgage servicing rights (MSRs) decreased to $50.4 million at June 30, 2019 as compared to $59.8 million at March 31, 2019 and $180.7 million at June 30, 2018.
Net earnings were $3.9 million for the three months ended June 30, 2019 as compared to net losses of $12.6 million for the three months ended March 31, 2019 and net losses of $97.4 million for the three months ended June 30, 2018.
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Gain on sale of loans increased to $29.5 million for the three months ended June 30, 2019 as compared to $12.2 million for the three months ended March 31, 2019 and $18.7 million for the three months ended June 30, 2018.
Servicing fees, net were $3.5 million for the three months ended June 30, 2019 from $3.0 million for the three months ended March 31, 2019 and $9.9 million for the three months ended June 30, 2018.
Operating expenses (personnel, business promotion and general, administrative and other) for the three months ended June 30, 2019 decreased to $21.6 million from $22.3 million for the quarter ended March 31, 2019 and $36.5 for the quarter ended June 30, 2018.
For the second quarter of 2019, we reported net earnings of $3.9 million, or $0.18 per diluted common share, as compared to net loss of $97.4 million, or $4.65 per diluted common share, for the second quarter of 2018. For the second quarter of 2019, core earnings (as defined below) were $11.9 million, or $0.56 per diluted common share, as compared to core loss of $11.4 million, or $0.54 per diluted common share, for the second quarter of 2018.
For the six months ended June 30, 2019, we reported net loss of $8.7 million, or $0.41 per diluted common share, as compared to net loss of $93.5 million, or $4.46 per diluted common share, for the six months ended June 30, 2018. For the six months ended June 30, 2019, core earnings (as defined below) were $6.1 million, or $0.29 per diluted common share, as compared to core loss of $21.3 million, or $1.02 per diluted common share, for the six months ended June 30, 2018.
Net earnings (loss) for the second quarter of 2019 increased from the three months ended June 30, 2018 as a result of an increase in gain on sale of loans, net as well as a decrease in operating expenses and intangible asset and goodwill impairment charges partially offset by a mark-to-market decrease in fair value of our MSRs. Despite the decline in origination volumes to $821.4 million as compared to $1.0 billion in the second quarter of 2018, gain on sale margins increased to approximately 359 bps as compared to 181 bps for the same period in 2018. The increase in margins was a result of the significant drop in mortgage interest rates during the second quarter of 2019 which led to wider gain on sale margins. The primary driver of margin expansion was a combination of NonQM originations, which increased to 38% of total originations during the three months ended June 30, 2019 as compared 30% of total originations during the same period in 2018, as well as an increase in the percentage of our consumer direct originations. During the second quarter of 2019, operating expenses (personnel, business promotion and general, administrative and other) decreased to $21.6 million from $36.5 million (excluding impairment) for the quarter ended June 30, 2018. Additionally, the Company recorded intangible asset and goodwill impairment charges of $13.5 million and $74.7 million in the second quarter of 2018 while no impairment charges were recorded in the second quarter of 2019.
Non-GAAP Financial Measures
To supplement our consolidated financial statements, which are prepared and presented in accordance with generally accepted accounting principles in the United States (GAAP), we use the following non-GAAP financial measures: core earnings (loss) and core earnings (loss) per share. Core earnings (loss) and core earnings (loss) per share are financial measurements calculated by adjusting GAAP earnings before tax to exclude certain non-cash items, such as fair value adjustments and mark-to-market of mortgage servicing rights (MSRs), and legacy non-recurring expenses. The fair value adjustments are non-cash items which management believes should be excluded when discussing our ongoing and future operations. The Company has begun to use core earnings as it believes that it more accurately reflects the Company’s current business operations of mortgage originations and further aids our investors in understanding and analyzing our core operating results and comparing them among periods. These non-GAAP financial measures are not intended to be considered in isolation or as a substitute for net earnings (loss) before income taxes, net earnings (loss) or diluted earnings (loss) per share (EPS) prepared in accordance with GAAP. The tables below provide a reconciliation of net earnings (loss) before tax and diluted earnings (loss) per share to non-GAAP core earnings (loss) and per share non-GAAP core earnings (loss):
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(in thousands, except per shar data)
Net earnings (loss) before tax:
6,920
3,671
(7,580)
10,590
(23,779)
(388)
(265)
(258)
Change in fair value of net trust assets, including trust REO gains
1,459
2,683
(217)
4,142
1,921
Legal Settlements and Professional Fees, for Legacy Matters
50
1,761
2,355
Severance
539
504
741
Core earnings (loss) before tax
11,945
(5,848)
(11,370)
6,095
(21,340)
Diluted core earnings (loss) per share before tax
0.56
(0.28)
(0.54)
0.29
(1.02)
Adjustments:
0.01
0.21
0.33
0.17
(0.35)
0.50
(1.14)
(0.02)
(0.01)
(0.03)
(0.07)
Change in fair value of net trust assets, including trust REO gains (losses)
0.07
0.13
0.19
0.09
Legal settlements and professional fees, for legacy matters
0.08
0.11
0.03
0.02
0.04
0.64
3.56
Originations by Channel:
(in millions)
Change
Retail
566.5
321.6
459.9
Correspondent
52.9
57.0
374.9
Wholesale
202.0
202.9
199.4
Total originations
821.4
581.5
1,034.2
During the second quarter of 2019, total originations increased 41% to $821.4 million as compared to $581.5 million in the first quarter of 2019 and decreased 21% as compared to $1.0 billion in the second quarter of 2018. The increase in originations from the first quarter of 2019 was the result of a significant drop in mortgage interest rates during the second quarter of 2019. The decrease in originations from the second quarter of 2018 was a result of the repositioning and right sizing of staffing levels in anticipation of a higher interest rate environment in 2018 and early 2019.
Our loan products primarily include NonQM mortgages, conventional loans eligible for sale to Fannie Mae and Freddie Mac, loans eligible for government insurance (government loans) by the Federal Housing Administration (FHA), Veterans Affairs (VA) and United States Department of Agriculture (USDA).
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Originations by Loan Type:
For the Three Months Ended June 30,
For the Six Months Ended June 30,
% Change
315.1
306.1
658.4
554.3
456.4
302.4
662.1
822.5
49.9
425.7
82.4
977.5
1,402.9
2,354.3
Includes all government-insured loans including FHA, VA and USDA.
We continue to shift our strategy and direct our efforts on repositioning the Company by focusing on our core NonQM lending business. During the three months ended June 30, 2019, NonQM originations were 38% of total originations as compared to 59% and 30% for the three months ended March 31, 2019 and June 30, 2018, respectively. For 2019, we will continue to build upon this momentum and further our competitive advantage in the higher margin alternative credit product segment of the market.
During the second quarter of 2019, the origination volume of NonQM loans decreased to $315.1 million as compared to $343.3 million in the first quarter of 2019 and increased from $306.1 million in the second quarter of 2018. In the second quarter of 2019, the retail channel accounted for 24% of NonQM originations while the wholesale and correspondent channels accounted for 76% of NonQM production. In the first quarter of 2019, the retail channel accounted for 26% of NonQM originations while the wholesale and correspondent channels accounted for 74% of NonQM production as compared 25% and 75%, respectively, in the second quarter of 2018. The NonQM loans originated since 2016 have all been sold on a servicing released basis.
We believe there is an underserved mortgage market for borrowers with good credit who may not meet the qualified mortgage (QM) guidelines set out by the Consumer Financial Protection Bureau (CFPB). NonQM borrowers generally have a good credit history but income documentation that does not allow them to qualify for an agency loan, such as a self-employed borrower. We have established strict lending guidelines, including determining the prospective borrowers’ ability to repay the mortgage, which we believe will keep delinquencies and foreclosures at acceptable levels. We continue to refine our guidelines to expand our reach to the underserved market of credit worthy borrowers who can fully document and substantiate an ability to repay mortgage loans, but unable to obtain financing through traditional programs (QM loans).
We invested in the capital structure of two securitizations in 2018 and one during the first quarter of 2019, which were 100% backed by Impac NonQM collateral and the senior tranches received AAA ratings. During the fourth quarter of 2018, we expanded our investor relationships for NonQM which provides us with additional exit strategies for these nonconforming loans. We view these developments as the next step in the evolution and maturity of the NonQM market, and further evidence of the acceptance of the Company’s NonQM product within both the primary and secondary markets, reflective of the quality, consistency and performance of our loans.
In the second quarter of 2019, our NonQM origination volume was $315.1 million with an average FICO of 732 and a weighted average LTV of 70% as compared to NonQM origination volume of $343.3 million with an average FICO of 728 and a weighted average LTV of 69% for the quarter ended March 31, 2019 and NonQM origination volume of $306.1 million with an average FICO of 721 and a weighted average LTV of 67% for the quarter ended June 30, 2018.
Originations by Purpose:
Refinance
625.5
660.0
1,035.7
74
1,538.4
Purchase
195.9
374.2
367.2
815.9
100
During the second quarter of 2019, refinance volume decreased approximately 5% to $625.5 million as compared to $660.0 million in the second quarter of 2018 as a result of the right sizing of staffing levels in 2018 in anticipation of a higher interest rate environment. Our purchase money transactions declined 48% to $195.9 million during the second quarter of 2019, as compared to $374.2 million in the second quarter of 2018. The reduction in purchase money transactions stems from the combination of the aforementioned staffing levels as well as increasing home prices in California which have contributed to a decline in home sales.
Mortgage Servicing Portfolio:
(Unpaid principal balance (UPB), in millions)
Mortgage servicing portfolio
5,956.9
6,218.1
The mortgage servicing portfolio decreased slightly to $6.0 billion at June 30, 2019 as compared to $6.2 billion at December 31, 2018 and $16.8 billion at June 30, 2018. The decrease was due to a shift in strategy during the second half of 2018 to direct our efforts on repositioning the Company by focusing on our core NonQM lending business and strengthen our liquidity position. During the fourth quarter of 2018, we sold approximately $10.5 billion UPB of MSRs. During 2019, we continued to selectively retain mortgage servicing as well as increase whole loan sales on a servicing released basis to investors. The servicing portfolio generated net servicing fees of $3.5 million in the second quarter of 2019, a 64% decrease over the net servicing fees of $9.9 million in the second quarter of 2018 as a result of the aforementioned mortgage servicing sales in 2018. Delinquencies within the servicing portfolio have remained low at 0.24% for 60+ days delinquent as of June 30, 2019 as compared to 0.25% at December 31, 2018.
The following table includes information about our mortgage servicing portfolio:
At June 30,
% 60+ days
At December 31,
delinquent (1)
Fannie Mae
0.3
Freddie Mac
5,852.3
6,165.1
Ginnie Mae
104.3
51.2
1.8
Total servicing portfolio
Based on loan count.
For the second quarter of 2019, real estate services fees were $807 thousand as compared to $806 thousand in the first quarter of 2019 and $1.0 million in the second quarter of 2018. Most of our real estate services business is generated from our long-term mortgage portfolio, and as the long‑term mortgage portfolio continues to decline, we expect real estate services and the related revenues to decline.
In our long-term mortgage portfolio, the residual interests generated cash flows of $274 thousand in the second quarter of 2019 as compared to $488 thousand in the first quarter of 2019 and $1.9 million in the second quarter of 2018. The estimated fair value of the net residual interests increased $462 thousand in the second quarter of 2019 to $16.6 million at June 30, 2019, as a result of a decrease in forward LIBOR partially offset by an increase in loss assumptions for certain trusts as well as residual cash flows received.
For additional information regarding the long-term mortgage portfolio refer to Financial Condition and Results of Operations below.
During the six months ended June 30, 2019, we funded our operations primarily from mortgage lending revenues and, to a lesser extent, real estate services fees and cash flows from our residual interests in securitizations. Mortgage lending revenues include gains on sale of loans, net, servicing fees, net, proceeds from the sale of mortgage servicing rights and other mortgage related income. We funded mortgage loan originations using warehouse facilities, which are repaid
37
once the loan is sold. We may continue to manage our capital through the financing or sale of mortgage servicing rights. We may also seek to raise capital by issuing debt or equity.
In February 2018, IMC (Borrower), amended the Line of Credit Promissory Note (FHLMC and GNMA Financing) originally entered into in August 2017, increasing the maximum borrowing capacity of the revolving line of credit to $50.0 million and extending the term to January 31, 2019. In May 2018, the Line of Credit was further amended increasing the maximum borrowing capacity of the revolving line of credit to $60.0 million, increasing the borrowing capacity up to 60% of the fair market value of the pledged mortgage servicing rights and reducing the interest rate per annum to one-month LIBOR plus 3.0%. As part of the May 2018 amendment, the obligations under the Line of Credit are secured by FHLMC and GNMA pledged mortgage servicing rights (subject to an acknowledge agreement) and is guaranteed by Integrated Real Estate Services, Corp. At June 30, 2019, there were no outstanding borrowings under the FHLMC and GNMA Financing and we had approximately $30.0 million of available financing based on the fair market value of the mortgage servicing rights that we own. In April 2019, the maturity of the line was extended until January 31, 2020.
In February 2017, IMC (Borrower) entered into a Loan and Security Agreement (Agreement) with a lender providing for a revolving loan commitment of $40.0 million for a period of two years (FNMA Financing). The Borrower is able to borrow up to 55% of the fair market value of Fannie Mae pledged servicing rights. Upon the two-year anniversary of the Agreement, any amounts outstanding will automatically be converted into a term loan due and payable in full on the one-year anniversary of the conversion date. Interest payments are payable monthly and accrue interest at the rate per annum equal to one-month LIBOR plus 4.0%. The balance of the obligation may be prepaid at any time. In February 2019, the Fannie Mae revolving line of credit converted into a term loan with no balance. At June 30, 2019, there were no outstanding borrowings under the FNMA Financing and is not available for borrowing against.
Our results of operations and liquidity are materially affected by conditions in the markets for mortgages and mortgage-related assets, as well as the broader financial markets and the general economy. Concerns over economic recession, geopolitical issues, unemployment, the availability and cost of financing, the mortgage market and real estate market conditions contribute to increased volatility and diminished expectations for the economy and markets. Volatility and uncertainty in the marketplace may make it more difficult for us to obtain financing or raise capital on favorable terms or at all. Our operations and profitability may be adversely affected if we are unable to obtain cost-effective financing.
It is important for us to sell or securitize the loans we originate and, when doing so, maintain the option to also sell the related MSRs associated with these loans. Some investors have raised concerns about the high prepayment speeds of our loans generated through our retail direct channel and this has resulted and could further result in adverse pricing or delays in our ability to sell or securitize loans and related MSRs on a timely and profitable basis. During the fourth quarter of 2017, Fannie Mae sufficiently limited the manner and volume for our deliveries of eligible loans such that we elected to cease deliveries to them and we expanded our whole loan investor base for these loans. During 2018 and through the second quarter of 2019, we completed servicing released loan sales to whole loan investors and expect to continue to utilize these alternative exit strategies for Fannie Mae eligible loans. We continue to take steps to manage our prepayment speeds to be more consistent with our industry comparables and to reestablish the full confidence and delivery mechanisms to our investor base. We remain an approved Seller and Servicer with Fannie Mae and Freddie Mac.
We believe that current cash balances, cash flows from our mortgage lending operations, the sale of mortgage servicing rights, real estate services fees generated from our long-term mortgage portfolio, availability on unused FHLMC and GNMA Financing, and residual interest cash flows from our long-term mortgage portfolio are adequate for our current operating needs based on the current operating environment. We believe the mortgage and real estate services market is volatile, highly competitive and subject to increased regulation. Competition in mortgage lending comes primarily from mortgage bankers, commercial banks, credit unions and other finance companies which operate in our market area as well as throughout the United States. We compete for loans principally on the basis of the interest rates and loan fees we charge, the types of loans we originate and the quality of services we provide to borrowers, brokers and sellers. Additionally, performance of the long-term mortgage portfolio is subject to the current real estate market and economic conditions. Cash flows from our residual interests in securitizations are sensitive to delinquencies, defaults and credit losses associated with the securitized loans. Losses in excess of current estimates will reduce the residual interest cash receipts from our long-term mortgage portfolio.
While we continue to pay our obligations as they become due, the ability to continue to meet our current and long-term obligations is dependent upon many factors, particularly our ability to successfully operate our mortgage lending segment, manage and monetize our MSRs, real estate services segment and realizing cash flows from the long-term mortgage portfolio. Our future financial performance and profitability are dependent in large part upon the ability to expand our mortgage lending platform successfully.
We define critical accounting policies as those that are important to the portrayal of our financial condition and results of operations. Our critical accounting policies require management to make difficult and complex judgments that rely on estimates about the effect of matters that are inherently uncertain due to the effect of changing market conditions and/or consumer behavior. In determining which accounting policies meet this definition, we considered our policies with respect to the valuation of our assets and liabilities and estimates and assumptions used in determining those valuations. We believe the most critical accounting issues that require the most complex and difficult judgments and that are particularly susceptible to significant change to our financial condition and results of operations include those issues included in Management’s Discussion and Analysis of Results of Operations in IMH’s report on Form 10-K for the year ended December 31, 2018. Such policies have not changed during 2019.
Financial Condition
As of June 30, 2019 compared to December 31, 2018
The following table shows the condensed consolidated balance sheets for the following periods:
Increase
(Decrease)
Cash
2,594
152
67,356
(14,382)
(233,797)
30,104
89
(147,973)
LIABILITIES & EQUITY
78,836
0
Long-term debt (Par value; $62,000)
(946)
(233,059)
Repurchase reserve
2,035
40,960
27,918
13,042
47
(140,087)
Total equity
(7,886)
Book value per share
(0.40)
Tangible Book value per share
At June 30, 2019, cash increased $2.6 million to $25.8 million from $23.2 million at December 31, 2018. Cash balances increased primarily due an $11.5 million decrease in warehouse haircuts (difference between loan balance funded and amount advanced by warehouse lender). Offsetting the increase in cash was the payment of operating expenses and paydown of higher cost warehouse borrowings.
39
LHFS increased $67.4 million to $421.0 million at June 30, 2019 as compared to $353.6 million at December 31, 2018. The increase was due to $1.4 billion in originations during the first six months of 2019 partially offset by $1.3 billion in loan sales. As a normal course of our origination and sales cycle, loans held-for-sale at the end of any period are generally sold within one or two subsequent months.
MSRs decreased $14.4 million to $50.4 million at June 30, 2019 as compared to $64.7 million at December 31, 2018. The decrease was due to mark-to-market decreases in fair value of $16.4 million partially offset by additions of $2.0 million from servicing retained loan sales of $241.8 million in UPB. At June 30, 2019 and December 31, 2018, we serviced $6.0 billion and $6.2 billion, respectively in UPB for others.
In January 2019, we adopted ASU No. 2016-02, Leases, which requires the majority of leases to be recognized on the balance sheet. We adopted the ASU using the modified retrospective transition approach and elected the practical expedients transition option to recognize the adjustment in the period of adoption rather than in the earliest period presented. As a result, adoption of the new guidance resulted in the initial recognition of right of use (ROU) assets of $19.7 million (net of the reversal of $3.8 million deferred rent liability) and lease liabilities of $23.4 million in the consolidated balance sheet within other assets and liabilities, respectively.
Warehouse borrowings increased $78.8 million to $363.0 million at June 30, 2019 as compared to $284.1 million at December 31, 2018. The increase was due to a $67.4 million increase in LHFS at June 30, 2019. Our total borrowing capacity was $900 million at June 30, 2019 and December 31, 2018.
We have separate agreements with two lenders providing for MSR financing facilities of up to $60.0 million and $40.0 million. The $40.0 million facility converted into a a term loan with no balance in February 2019. At June 30, 2019, there were no outstanding borrowings under this facility and is not available for borrowing against. The $60.0 million facility allows us to borrow up to 60% of the fair market value of Freddie Mac and Ginnie Mae (subject to an acknowledgment agreement) pledged mortgage servicing rights. At June 30, 2019, there were no outstanding borrowings under this facility and we had approximately $30.0 million of available financing based on the fair market value of the mortgage servicing rights that we own.
Repurchase reserve increased $2.0 million to $9.7 million at June 30, 2019 as compared to $7.7 million at December 31, 2018. The increase was due to a $3.2 million provision for repurchase as a result of an increase in expected future losses, partially offset by $1.1 million in settlements primarily related to repurchased loans as well as refunds of premiums to investors for early payoffs on loans sold.
The changes in total assets and liabilities, at fair market value, are primarily attributable to decreases in our trust assets and trust liabilities as summarized below.
(236,222)
Other trust assets
2,425
Total trust assets
Total trust liabilities
Residual interests in securitizations
16,637
17,375
(738)
We receive cash flows from our residual interests in securitizations to the extent they are available after required distributions to bondholders and maintaining specified overcollateralization levels and other specified parameters (such as maximum delinquency and cumulative default) within the trusts. The estimated fair value of the residual interests, represented by the difference in the fair value of total trust assets and total trust liabilities, was $16.6 million at June 30, 2019 as compared to $17.4 million at December 31, 2018.
We update our collateral assumptions quarterly based on recent delinquency, default, prepayment and loss experience. Additionally, we update the forward interest rates and investor yield (discount rate) assumptions based on information derived from market participants. During the six months ended June 30, 2019, actual losses were slightly elevated as compared to forecasted losses for the majority of trusts, including those with residual value. Principal payments and liquidations of securitized mortgage collateral and securitized mortgage borrowings also contributed to the reduction in trust assets and liabilities. The decrease in residual fair value at June 30, 2019 was the result of an increase in loss assumptions for certain trusts as well as residual cash flows received during the second quarter of 2019 partially offset by the decrease in forward LIBOR during the second quarter of 2019.
The estimated fair value of securitized mortgage collateral decreased $236.2 million during the six months ended June 30, 2019, primarily due to reductions in principal from borrower payments and transfers of loans to Real Estate Owned (REO) for single-family and multi-family collateral. Additionally, other trust assets increased $2.4 million during the six months ended June 30, 2019, primarily due to an increase in REO from foreclosures of $13.0 million. Partially offsetting the increase was a decrease of $9.5 million in REO from liquidations for the six months ended June 30, 2019 and a $1.1 million decrease in the net realizable value (NRV) of REO.
The estimated fair value of securitized mortgage borrowings decreased $233.1 million during the six months ended June 30, 2019, primarily due to reductions in principal balances from principal payments during the period for single-family and multi-family collateral partially offset by an increase in loss assumptions.
To estimate fair value of the assets and liabilities within the securitization trusts each reporting period, management uses an industry standard valuation and analytical model that is updated monthly with current collateral, real estate, derivative, bond and cost (servicer, trustee, etc.) information for each securitization trust. We employ an internal process to validate the accuracy of the model as well as the data within this model. We use the valuation model to generate the expected cash flows to be collected from the trust assets and the expected required bondholder distribution (trust liabilities). To the extent that the trusts are over collateralized, we may receive the excess interest as the holder of the residual interest. The information above provides us with the future expected cash flows for the securitized mortgage collateral, real estate owned, securitized mortgage borrowings and the residual interests.
To determine the discount rates to apply to these cash flows, we gather information from the bond pricing services and other market participants regarding estimated investor required yields for each bond tranche. Based on that information and the collateral type and vintage, we determine an acceptable range of expected yields an investor would require including an appropriate risk premium for each bond tranche. We use the blended yield of the bond tranches together with the residual interests to determine an appropriate yield for the securitized mortgage collateral in each securitization.
The following table presents changes in the trust assets and trust liabilities for the six months ended June 30, 2019:
TRUST LIABILITIES
Level 3 Recurring Fair
Value Measurement
NRV (1)
Real
Net
estate
Total trust
trust
owned
assets
Recorded fair value at December 31, 2018
Total gains/(losses) included in earnings:
Change in FV of net trust assets, excluding REO (2)
Losses from REO – not at FV but at NRV (2)
70,749
(17,687)
Transfers in and/or out of level 3
Purchases, issuances and settlements
3,524
(304,546)
16,949
Recorded fair value at June 30, 2019
Accounted for at net realizable value.
Represents change in fair value of net trust assets, including trust REO gains in the consolidated statements of operations and comprehensive earnings (loss) for the six months ended June 30, 2019.
Inclusive of losses from REO, total trust assets above reflect a net gain of $60.5 million as a result of an increase in fair value from securitized mortgage collateral of $61.6 million offset by losses from REO of $1.1 million. Net losses on trust liabilities were $64.7 million from the increase in fair value of securitized mortgage borrowings. As a result, non-interest income—net trust assets decreased by $4.1 million for the six months ended June 30, 2019.
The table below reflects the net trust assets as a percentage of total trust assets (residual interests in securitizations):
Net trust assets
Net trust assets as a percentage of total trust assets
For the six months ended June 30, 2019, the estimated fair value of the net trust assets increased slightly as a percentage of total trust assets due to a decrease in forward LIBOR slightly offset by an increase in loss assumptions.
Since the consolidated and unconsolidated securitization trusts are nonrecourse to us, our economic risk is limited to our residual interests in these securitization trusts. Therefore, in the following table we have netted trust assets and trust liabilities to present these residual interests more simply. 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 and trust liabilities.
The following tables present the estimated fair value of our residual interests, by securitization vintage year, and other related assumptions used to derive these values at June 30, 2019 and December 31, 2018:
Estimated Fair Value of Residual
Interests by Vintage Year at
Origination Year
SF
MF
2002-2003 (1)
9,065
630
9,695
10,097
617
10,714
2004
2,943
796
3,739
1,554
668
2,222
2005
49
65
114
2006
3,089
4,435
2007 (2)
12,057
4,580
11,653
5,722
Weighted avg. prepayment rate
9.8
6.1
8.2
6.2
Weighted avg. discount rate
17.5
17.4
16.3
18.2
16.9
2002-2003 vintage year includes CMO 2007-A, since the majority of the mortgages collateralized in this securitization were originated during this period.
We utilize a number of assumptions to value securitized mortgage collateral, securitized mortgage borrowings and residual interests. These assumptions include estimated collateral default rates and loss severities (credit losses), collateral prepayment rates, forward interest rates and investor yields (discount rates). We use the same collateral assumptions for securitized mortgage collateral and securitized mortgage borrowings as the collateral assumptions determine collateral cash flows which are used to pay interest and principal for securitized mortgage borrowings and excess spread, if any, to the residual interests. However, we use different investor yield (discount rate) assumptions for securitized mortgage collateral and securitized mortgage borrowings and the discount rate used for residual interests based on underlying collateral characteristics, vintage year, assumed risk and market participant assumptions.
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The table below reflects the estimated future credit losses and investor yield requirements for trust assets by product (SF and MF) and securitization vintage at June 30, 2019:
Estimated Future
Investor Yield
Losses (1)
Requirement (2)
2002-2003
*
2007
Estimated future losses derived by dividing future projected losses by UPB at June 30, 2019.
Investor yield requirements represent our estimate of the yield third-party market participants would require to price our trust assets and liabilities given our prepayment, credit loss and forward interest rate assumptions.
Represents less than 1%.
Despite the increase in housing prices through June 30, 2019, housing prices in many parts of the country are still at levels which have significantly reduced or eliminated equity for loans originated after 2003. Future loss estimates are significantly higher for mortgage loans included in securitization vintages after 2005 which reflect severe home price deterioration and defaults experienced with mortgages originated during these periods.
Long-Term Mortgage Portfolio Credit Quality
We use the Mortgage Bankers Association (MBA) method to define delinquency as a contractually required payment being 30 or more days past due. We measure delinquencies from the date of the last payment due date in which a payment was received. Delinquencies for loans 60 days delinquent or greater, foreclosures and delinquent bankruptcies were $531.0 million, or 16.1% of the long-term mortgage portfolio, as of June 30, 2019 as compared to $595.5 million or 16.4% at December 31, 2018.
The following table summarizes the gross UPB of loans in our mortgage portfolio, included in securitized mortgage collateral, that were 60 or more days delinquent (utilizing the MBA method) as of the periods indicated:
Collateral
60 - 89 days delinquent
90,672
2.7
101,546
2.8
90 or more days delinquent
207,504
6.3
212,668
5.8
Foreclosures (1)
143,813
4.4
177,099
4.9
Delinquent bankruptcies (2)
88,987
104,232
2.9
Total 60 or more days delinquent
530,976
16.1
595,545
16.4
Total collateral
3,289,698
100.0
3,640,902
Represents properties in the process of foreclosure.
Represents bankruptcies that are 30 days or more delinquent.
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The following table summarizes the gross securitized mortgage collateral and REO at NRV, that were non-performing as of the dates indicated (excludes 60-89 days delinquent):
90 or more days delinquent, foreclosures and delinquent bankruptcies
440,304
13.4
493,999
13.6
Real estate owned inside and outside trusts
9,885
Total non-performing assets
451,518
13.7
503,884
13.9
Non-performing assets consist of non-performing loans (mortgages that are 90 or more days delinquent, including loans in foreclosure and delinquent bankruptcies) plus REO. It is our policy to place a mortgage on nonaccrual status when it becomes 90 days delinquent and to reverse from revenue any accrued interest, except for interest income on securitized mortgage collateral when the scheduled payment is received from the servicer. The servicers are required to advance principal and interest on loans within the securitization trusts to the extent the advances are considered recoverable. IFC, a subsidiary of IMH and master servicer, may be required to advance funds, or in most cases cause the loan servicers to advance funds, to cover principal and interest payments not received from borrowers depending on the status of their mortgages. As of June 30, 2019, non-performing assets (UPB of loans 90 or more days delinquent, foreclosures and delinquent bankruptcies plus REO) as a percentage of the total collateral was 13.7%. At December 31, 2018, non-performing assets to total collateral was 13.9%. Non-performing assets decreased by approximately $52.4 million at June 30, 2019 as compared to December 31, 2018. At June 30, 2019, the estimated fair value of non-performing assets (representing the fair value of loans 90 or more days delinquent, foreclosures and delinquent bankruptcies plus REO) was $140.6 million or 4.0% of total assets. At December 31, 2018, the estimated fair value of non-performing assets was $197.2 million or 5.4% of total assets.
REO, which consists of residential real estate acquired in satisfaction of loans, is carried at the lower of cost or net realizable value less estimated selling costs. Adjustments to the loan carrying value required at the time of foreclosure are included in the change in the fair value of net trust assets. Changes in our estimates of net realizable value subsequent to the time of foreclosure and through the time of ultimate disposition are recorded as change in fair value of net trust assets including trust REO gains (losses) in the consolidated statements of operations and comprehensive earnings (loss).
For the three and six months ended June 30, 2019 and 2018, we recorded a decrease of $4.6 million and $1.1 million in net realizable value of REO, respectively, compared to a decrease of $1.6 million and an increase of $603 thousand for the comparable 2018 periods. Increases and write-downs of the net realizable value reflect increases or declines in value of the REO subsequent to foreclosure date, but prior to the date of sale.
The following table presents the balances of REO:
REO
20,241
17,813
Impairment (1)
(9,027)
(7,928)
Ending balance
REO inside trusts
REO outside trusts
270
1,366
Impairment represents the cumulative write-downs of net realizable value subsequent to foreclosure.
In calculating the cash flows to assess the fair value of the securitized mortgage collateral, we estimate the future losses embedded in our loan portfolio. In evaluating the adequacy of these losses, management takes many factors into consideration. For instance, a detailed analysis of historical loan performance data is accumulated and reviewed. This data
44
is analyzed for loss performance and prepayment performance by product type, origination year and securitization issuance. The data is also broken down by collection status. Our estimate of losses for these loans is developed by estimating both the rate of default of the loans and the amount of loss severity 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, geographic location, 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 created. We believe that pooling of mortgages with similar characteristics is an appropriate methodology in which to evaluate the future loan losses.
Management recognizes that there are qualitative factors that must be taken into consideration when evaluating and measuring losses in the 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, political factors, employment and market conditions, competitor’s performance, market perception, historical losses, and industry statistics. The assessment for losses is based on delinquency trends and prior 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 losses.
Results of Operations
For the Three Months Ended June 30, 2019 compared to the Three Months Ended June 30, 2018
Revenues
(5,808)
Expenses
(124,636)
103,003
1,997
130
(1,676)
(3,706)
3,625
101,271
Earnings (loss) per share available to common stockholders—basic
4.83
Earnings (loss) per share available to common stockholders—diluted
For the Six Months Ended June 30, 2019 compared to the Six Months Ended June 30, 2018
(35,568)
(160,385)
116,481
2,772
(827)
(2,221)
(167)
(4,316)
4,149
84,786
Loss per share available to common stockholders—basic
4.05
Loss per share available to common stockholders—diluted
45
10,731
(6,325)
(10,054)
(231)
Other revenues
71
Gain on sale of loans, net. For the three months ended June 30, 2019, gain on sale of loans, net totaled $29.5 million compared to $18.7 million in the comparable 2018 period. The $10.7 million increase for the three months ended June 30, 2019 is primarily due to a $10.8 million decrease in direct loan origination expenses, a $5.3 million increase in mark-to-market gains on LHFS and a $1.7 million increase in realized and unrealized net gains on derivative financial instruments. Partially offsetting the increase in gain on sale of loans, net was a $5.9 million reduction of premiums from servicing retained loan sales, an $819 thousand reduction from the sale of mortgage loans and a $314 thousand increase in provision for repurchases.
The overall increase in gain on sale of loans, net was primarily due to an increase in margins despite the decrease in mortgage loans originated and sold during the second quarter of 2019. For the three months ended June 30, 2019, we originated and sold $821.4 million and $861.2 million of loans, respectively, as compared to $1.0 billion and $1.2 billion of loans originated and sold, respectively, during the same period in 2018. During the second quarter of 2019, margins increased to approximately 359 bps as compared to 181 bps for the same period in 2018. The increase in margins was a result of the significant drop in mortgage interest rates during the second quarter of 2019 which led to wider gain on sale margins, which more than offset our 21% decrease in originations compared to 2018. The primary driver of margin expansion was a combination of NonQM originations, which increased to 38% of total originations during the three months ended June 30, 2019 as compared 30% of total originations during the same period in 2018, as well as an increase in the percentage of our consumer direct originations.
Servicing fees, net. For the three months ended June 30, 2019, servicing fees, net were $3.5 million compared to $9.9 million in the comparable 2018 period. The decrease in servicing fees, net was the result of $10.5 billion in UPB of servicing sales during the fourth quarter of 2018 which decreased the servicing portfolio average balance 64% to $6.1 billion for the three months ended June 30, 2019 as compared to an average balance of $16.8 billion for the three months ended June 30, 2018. During the three months ended June 30, 2019, we had $51.8 million in servicing retained loan sales.
46
(Loss) gain on mortgage servicing rights, net.
226
Loss on sale of mortgage servicing rights
n/a
Changes in fair value:
Due to changes in valuation market rates, inputs or assumptions
(6,914)
7,580
(14,494)
Other changes in fair value:
Scheduled principal prepayments
(719)
(2,849)
2,130
Voluntary prepayments
(2,248)
(4,338)
2,090
Total changes in fair value
(10,274)
For the three months ended June 30, 2019, (loss) gain on MSRs, net was a loss of $9.9 million compared to a gain of $167 thousand in the comparable 2018 period. For the three months ended June 30, 2019, we recorded a $9.9 million loss from a change in fair value of MSRs primarily due to changes in fair value associated with changes in market rates, inputs and assumptions as well as voluntary and scheduled prepayments. As a result of the aforementioned significant decrease in interest rates during the second quarter of 2019, $6.9 million of the $9.9 million change in fair value of MSRs was primarily due to an increase in prepayment speed assumptions. Additionally, during the third quarter of 2018, we stopped hedging our mortgage servicing portfolio resulting in a $226 thousand reduction in realized and unrealized losses from hedging instruments related to MSRs during the three months ended June 30, 2019.
Real estate services fees, net. For the three months ended June 30, 2019, real estate services fees, net were $0.8 thousand as compared to $1.0 million in the comparable 2018 period. The $231 thousand decrease was primarily the result of a decrease in transactions related to the decline in the number of loans and the UPB of the long-term mortgage portfolio as compared to the comparable period in 2018.
1,463
(12,819)
(23,382)
(810)
(20)
Gain on sale of loans, net. For the six months ended June 30, 2019, gain on sale of loans, net totaled $41.7 million compared to $40.2 million in the comparable 2018 period. The $1.5 million increase for the six months ended June 30, 2019 is primarily due to a $30.7 million decrease in direct loan origination expenses and a $13.6 million increase in mark-to-market gains on LHFS. Partially offsetting the increase in gain on sale of loans, net was a $16.5 million reduction from the sale of mortgage loans, a $14.8 million reduction of premiums from servicing retained loan sales, a $9.9 million decrease in realized and unrealized net losses on derivative financial instruments and a $1.6 million increase in provision for repurchases.
The overall increase in gain on sale of loans, net was primarily due to an increase in margins despite the decrease in mortgage loans originated and sold during the first six months of 2019. For the six months ended June 30, 2019, we originated and sold $1.4 billion and $1.3 billion of loans, respectively, as compared to $2.4 billion and $2.4 billion of loans originated and sold, respectively, during the same period in 2018. During the six months ended June 30 2019, margins increased to approximately 297 bps as compared to 171 bps for the same period in 2018. The increase in margins was a result of the significant drop in mortgage interest rates which began in the first quarter of 2019, which led to wider gain on sale margins and more than offset our 40% decrease in originations compared to 2018. The primary driver of margin expansion was a combination of NonQM originations, which increased to 47% of total originations during the six months ended June 30, 2019 as compared 24% of total originations during the same period in 2018, as well as an increase in the percentage of our consumer direct originations.
Servicing fees, net. For the six months ended June 30, 2019, servicing fees, net were $6.5 million compared to $19.3 million in the comparable 2018 period. The decrease in servicing fees, net was the result of $10.5 billion in UPB of servicing sales during the fourth quarter of 2018 which decreased the servicing portfolio average balance 63% to $6.2 billion for the six months ended June 30, 2019 as compared to an average balance of $16.7 billion for the six months ended June 30, 2018. During the six months ended June 30, 2019, we had $241.8 million in servicing retained loan sales.
1,700
(11,454)
23,779
(35,233)
(1,503)
(5,958)
4,455
(3,417)
(8,249)
4,832
(25,946)
For the six months ended June 30, 2019, (loss) gain on MSRs, net was a loss of $15.5 million compared to a gain of $7.9 million in the comparable 2018 period. For the six months ended June 30, 2019, we recorded a $16.4 million loss from a change in fair value of MSRs primarily due to changes in fair value associated with changes in market rates, inputs and assumptions as well as voluntary and scheduled prepayments. As a result of the aforementioned significant decrease in interest rates during the six months ended June 30, 2019, $11.5 million of the $16.4 million change in fair value of MSRs was primarily due to an increase in prepayment speed assumptions. Additionally, during the third quarter of 2018, we stopped hedging our mortgage servicing portfolio resulting in a $1.7 million redutcion in realized and unrealized losses from hedging instruments related to MSRs during the six months ended June 30, 2019.
Real estate services fees, net. For the six months ended June 30, 2019, real estate services fees, net were $1.6 million as compared to $2.4 million in the comparable 2018 period. The $810 thousand decrease was primarily the result of a decrease in transactions related to the decline in the number of loans and the UPB of the long-term mortgage portfolio as compared to the comparable period in 2018.
48
(2,339)
(6,987)
(5,565)
(103,003)
Total expenses decreased by $103.0 million, or 83%, to $21.6 million for the second quarter of 2019, compared to $124.6 million for the comparable period in 2018. Personnel expense decreased $2.3 million to $14.3 million for the three months ended June 30, 2019 as compared to the same period in 2018. The decrease is primarily related to staff reductions during 2018 and into 2019 as well as a reduction in commission expense due to a decrease in loan originations. As a result of the reduction in loan origination volumes, we reduced overhead throughout 2018 and into 2019 to more closely align staffing levels to origination volumes in the current economic environment. As a result of the staff reductions made in 2018 and into 2019, average headcount decreased 18% for the second quarter of 2019 as compared to the same period in 2018.
Business promotion decreased $7.0 million to $2.0 million for the three months ended June 30, 2019 as compared to $9.0 million for the same period in the prior year. Business promotion decreased as a result of the shift in consumer direct marketing strategy we made in the latter half of 2018 away from radio and television advertisements to a digital campaign. The shift in strategy allows for a more cost effective approach, increasing the ability to be more price and product competitive to more specific target geographies.
General, administrative and other expenses decreased to $5.3 million for the three months ended June 30, 2019, compared to $10.8 million for the same period in 2018. The decrease was partially related to a $3.9 million reduction in legal fees as a result of the Company successfully resolving, through dismissal or settlement, three long standing litigation matters in 2018, which dated back to origination and securitization activities related to the mortgage crisis of 2008. The decrease in general, administrative and other expense was also attributable to a $1.0 million decrease in intangible asset amortization which was fully written-off or amortized in 2018, a $504 thousand decrease in occupancy expense as a result of the relocation of the retail direct division into our corporate office in the fourth quarter of 2018 and a $82 thousand decrease in other general and administrative expenses.
As part of the CCM acquisition, we recorded goodwill of $104.6 million, which was evaluated on a quarterly basis for impairment. Prior to the fourth quarter of 2017, the estimated fair value of CCM substantially exceeded its carrying value. As of December 31, 2017 and March 31, 2018, the estimated fair value of CCM did not substantially exceed its carrying value. As previously disclosed in our quarterly and annual reports, CCM has continued to experience declines in mortgage refinancing originations and margin compression, primarily as a result of sustained increases in market interest rates from a historically low interest rate environment. In addition, the business model of CCM had led to additional margin compression through adverse demand from investors, as a result of the borrowers’ propensity to refinance. The CCM brand had also experienced a material loss in value resulting from 1) the aforementioned adverse treatment from capital market participants for loans produced by the reporting unit, 2) consumer uncertainty due to the use of a similar brand name by an unaffiliated financial services company and 3) substantial deterioration in brand awareness. In light of these developments, a significant reduction in the anticipated future cash flows and estimated fair value for this reporting unit had occurred. The Company has shifted the consumer direct strategy and long-term business plans for CCM due to changing conditions. As a result, we recorded an impairment charge of $74.7 million related to goodwill and $13.4 million related to intangible assets during the quarter ended June 30, 2018. Subsequent to June 30, 2018, an additional $29.9 million and $4.9 million, respectively, of goodwill and intangible asset impairment was recorded during the third quarter of 2018. Goodwill and intangible assets were evaluated on a quarterly basis for impairment while the intangible assets were amortized over the useful lives of the various intangible assets.
(5,960)
(13,794)
(8,615)
(116,481)
Total expenses decreased by $116.5 million, or 73%, to $43.9 million for the six months ended June 30, 2019, compared to $160.4 million for the comparable period in 2018. Personnel expense decreased $6.0 million to $28.5 million for the six months ended June 30, 2019 as compared to the same period in 2018. The decrease is primarily related to staff reductions during 2018 and into 2019 as well as a reduction in commission expense due to a decrease in loan originations. As a result of the reduction in loan origination volumes, we reduced overhead throughout 2018 and into 2019 to more closely align staffing levels to origination volumes in the current economic environment. As a result of the staff reductions made in 2018 and 2019, average headcount decreased 22% for the six months ended June 30, 2019 as compared to the same period in 2018.
Business promotion decreased $13.8 million to $4.9 million for the six months ended June 30, 2019 as compared to $18.7 million for the same period in the prior year. Business promotion decreased as a result of the shift in consumer direct marketing strategy we made in the latter half of 2018 away from radio and television advertisements to a digital campaign. The shift in strategy allows for a more cost effective approach, increasing the ability to be more price and product competitive to more specific target geographies.
General, administrative and other expenses decreased to $10.5 million for the six months ended June 30, 2019, compared to $19.1 million for the same period in 2018. The decrease was partially related to a $5.2 million reduction in legal fees as a result of the Company successfully resolving, through dismissal or settlement, three long standing litigation matters in 2018, which dated back to origination and securitization activities related to the mortgage crisis of 2008. The decrease in general, administrative and other expense was also attributable to a $2.1 million decrease in intangible asset amortization which was fully written-off or amortized in 2018, a $575 thousand decrease in other general and administrative expenses and a $725 thousand decrease in occupancy expense as a result of the relocation of the retail direct division into our corporate office in the fourth quarter of 2018.
As previously discussed, we recorded an impairment charge of $74.7 million related to goodwill and $13.4 million related to intangible assets during the six months ended June 30, 2018. Subsequent to June 30, 2018, an additional $29.9 million and $4.9 million, respectively, of goodwill and intangible asset impairment was recorded during the third quarter of 2018. Goodwill and intangible assets were evaluated on a quarterly basis for impairment while the intangible assets were amortized over the useful lives of the various intangible assets.
Net Interest Income (Expense)
We earn net interest income primarily from mortgage assets, which include securitized mortgage collateral, loans held-for-sale and finance receivables, 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 secured by mortgage assets, which include securitized mortgage borrowings and warehouse borrowings and to a lesser extent, interest expense paid on long-term debt, Convertible Notes, MSR Financing and Term Financing. Interest income and interest expense during the period primarily represents the effective yield, based on the fair value of the trust assets and liabilities.
The following tables summarize average balance, interest and weighted average yield on interest-earning assets and interest-bearing liabilities, for the periods indicated. Cash receipts and payments on derivative instruments hedging interest rate risk related to our securitized mortgage borrowings are not included in the results below. These cash receipts and payments are included as a component of the change in fair value of net trust assets.
Balance
Yield
2,987,784
36,630
4.90
3,457,469
42,487
4.92
439,445
6,259
5.70
460,410
6,136
5.33
Finance receivables
26,288
417
6.35
30,827
172
2.23
34,170
0.28
Total interest-earning assets
3,458,056
4.98
3,978,337
4.93
2,983,446
34,435
4.62
3,451,099
40,652
4.71
Warehouse borrowings (1)
390,223
4,506
470,841
5,478
4.65
MSR financing facilities
52,577
776
5.90
44,236
1,106
10.00
45,562
1,133
9.95
24,988
471
7.54
24,969
7.55
197
16.24
Total interest-bearing liabilities
3,442,893
40,518
4,045,245
48,518
4.80
Net interest spread (2)
0.27
Net interest margin (3)
0.05
Warehouse borrowings include the borrowings from mortgage loans held-for-sale and finance receivables in 2018.
Net interest spread is calculated by subtracting the weighted average yield on interest-bearing liabilities from the weighted average yield on interest-earning assets.
Net interest margin is calculated by dividing net interest spread by total average interest-earning assets.
Net interest spread increased $2.0 million for the three months ended June 30, 2019 primarily attributable to an increase in the net interest spread between loans held-for-sale and their related warehouse borrowings as well as a decrease in interest expense as a result of the reduction in utilization of the MSR financing facility during the period. As a result, the net interest margin increased to 0.29% for the three months ended June 30, 2019 from 0.05% for the three months ended June 30, 2018.
During the quarter ended June 30, 2019, the yield on interest-earning assets increased to 4.98% from 4.93% in the comparable 2018 period. The yield on interest-bearing liabilities decreased to 4.71% for the three months ended June 30, 2019 from 4.80% for the comparable 2018 period. In connection with the fair value accounting for securitized mortgage collateral and borrowings and long-term debt, interest income and interest expense are recognized using effective yields based on estimated fair values for these instruments. The decrease in yield for securitized mortgage collateral and securitized mortgage borrowings is primarily related to a decrease in forward LIBOR which resulted in a decrease in yield as compared to the previous period.
51
3,044,213
76,652
5.04
3,525,649
85,624
4.86
394,232
11,377
5.77
513,253
12,753
4.97
24,694
800
6.48
30,265
287
1.90
32,890
0.23
3,468,710
5.09
4,096,486
4.84
3,038,369
72,487
4.77
3,518,488
81,610
4.64
342,220
8,303
4.85
524,105
11,603
4.43
43,363
1,273
5.87
44,442
2,237
10.07
45,368
2,202
9.71
24,987
943
24,967
43.75
221
15.38
3,450,050
83,977
4.87
4,156,512
97,648
4.70
0.22
0.14
0.25
Net interest spread increased $2.8 million for the six months ended June 30, 2019 primarily attributable to an increase in the net interest spread between loans held-for-sale and their related warehouse borrowings as well as a decrease in interest expense as a result of the reduction in utilization of the MSR financing facility during the period. As a result, the net interest margin increased to 0.25% for the six months ended June 30, 2019 from 0.08% for the six months ended June 30, 2018.
During the six months ended June 30, 2019, the yield on interest-earning assets increased to 5.09% from 4.84% in the comparable 2018 period. The yield on interest-bearing liabilities increased to 4.87% for the six months ended June 30, 2019 from 4.70% for the comparable 2018 period. In connection with the fair value accounting for securitized mortgage collateral and borrowings and long-term debt, interest income and interest expense are recognized using effective yields based on estimated fair values for these instruments. The increase in yield for securitized mortgage collateral and securitized mortgage borrowings is primarily related to decreased prices on mortgage-backed bonds partially offset by a decrease in forward LIBOR as compared to the previous period.
Change in the fair value of long-term debt.
Long-term debt (consisting of junior subordinated notes) is measured based upon an internal analysis, which considers our own credit risk and discounted cash flow analyses. Improvements in our financial results and financial condition in the future could result in additional increases in the estimated fair value of the long-term debt, while deterioration in financial results and financial condition could result in a decrease in the estimated fair value of the long-term debt.
In the first quarter of 2018, we adopted ASU 2016-01, which effectively bifurcates the market and instrument specific credit risk components of changes in long-term debt. The market portion will continue to be a component of net earnings (loss) as the change in fair value of long-term debt, but the instrument specific credit risk portion will be a component of accumulated other comprehensive earnings (loss).
52
During the three months ended June 30, 2019, the fair value of the long-term debt decreased $651 thousand. The decrease in estimated fair value was the result of a $388 thousand change in the market specific credit risk during the quarter as well as a $267 thousand change in the instrument specific credit risk partially offset by an increase due to accretion. During the six months ended June 30, 2019, the fair value of the long-term debt decreased $946 thousand. The decrease in estimated fair value was the result of a $654 thousand change in the market specific credit risk during the quarter as well as a $363 thousand change in the instrument specific credit risk partially offset by an increase due to accretion.
During the three months ended June 30, 2018, the fair value of the long-term debt increased by $268 thousand. The $268 thousand change was the result of a $526 thousand change in the instrument specific credit risk partially offset by a $258 thousand change in the market risk during the quarter. During the six months ended June 30, 2018, the fair value of the long-term debt increased by $484 thousand. The $484 thousand change was the result of a $2.0 million change in the instrument specific credit risk partially offset by a $1.5 million change in the market risk during the six months ended June 30, 2018.
(Loss) gains from REO
Change in fair value of net trust assets, including trust REO (loss) gains
The change in fair value related to our net trust assets (residual interests in securitizations) was a loss of $1.5 million for the three months ended June 30, 2019. The change in fair value of net trust assets, excluding REO was due to $3.1 million in gains from changes in fair value of securitized mortgage borrowings and securitized mortgage collateral as a result of a decrease in forward LIBOR during the quarter partially offset by an increase in loss assumptions for certain trusts. Additionally, the NRV of REO decreased $4.6 million during the period attributed to higher expected loss severities on properties within certain states held in the long-term mortgage portfolio during the period.
The change in fair value related to our net trust assets (residual interests in securitizations) was a gain of $0.2 million for the three months ended June 30, 2018. The change in fair value of net trust assets, excluding REO was due to $1.8 million in gains from changes in fair value of securitized mortgage borrowings and securitized mortgage collateral primarily associated recoveries on a certain later vintage multifamily trust with improved performance partially offset by an increase in LIBOR. Additionally, the NRV of REO decreased $1.6 million during the period attributed to higher expected loss severities on properties within certain states held in the long-term mortgage portfolio during the period.
The change in fair value related to our net trust assets (residual interests in securitizations) was a loss of $4.1 million for the six months ended June 30, 2019. The change in fair value of net trust assets, excluding REO was due to $3.0 million in losses from changes in fair value of securitized mortgage borrowings and securitized mortgage collateral primarily associated with increased loss assumptions partially offset by the recent decrease in forward LIBOR. Additionally, the NRV of REO decreased $1.1 million during the period attributed to higher expected loss severities on properties within certain states held in the long-term mortgage portfolio during the period.
The change in fair value related to our net trust assets (residual interests in securitizations) was a loss of $1.9 million for the six months ended June 30, 2018. The change in fair value of net trust assets, excluding REO was due to $2.5 million in losses from changes in fair value of securitized mortgage borrowings and securitized mortgage collateral primarily associated with an increase in LIBOR, partially offset by updated assumptions on certain later vintage trusts with improved performance. Additionally, the NRV of REO increased $603 thousand during the period attributed to lower expected loss severities on properties held in the long-term mortgage portfolio during the period.
Income Taxes
We recorded income tax expense of $81 thousand and $167 thousand for the three and six months ended June 30, 2019, respectively. Tax expense for the three and six months ended June 30, 2019 is primarily the result of state income taxes from states where we do not have net operating loss carryforwards or state minimum taxes, offset by a benefit resulting from the intraperiod allocation rules that are applied when there is a pre-tax loss from continuing operations and pre-tax income from other comprehensive income. For the three and six months ended June 30, 2018, we recorded income tax expense of $3.7 million and $4.3 million, respectively, primarily the result of an increase in the valuation allowance eliminating the net deferred tax asset, state income taxes from states where the Company does not have net operating loss carryforwards or state minimum taxes, including AMT.
As of December 31, 2018, we had estimated federal net operating loss (NOL) carryforwards of approximately $564.6 million. Federal NOL carryforwards begin to expire in 2027. As of December 31, 2018, we had estimated California NOL carryforwards of approximately $386.0 million, which begin to expire in 2028. We may not be able to realize the maximum benefit due to the nature and tax entities that holds the NOL.
Results of Operations by Business Segment
We have three primary operating segments: Mortgage Lending, Long-Term Mortgage Portfolio and Real Estate Services. Unallocated corporate and other administrative costs, including the cost associated with being a public company, are presented in Corporate. Segment operating results are as follows:
Mortgage Lending
23,121
28,769
(5,648)
Other income
1,941
1,636
(12,777)
(15,036)
2,259
(2,013)
(8,984)
6,971
(2,666)
(4,965)
2,299
95,629
For the three months ended June 30, 2019, gain on sale of loans, net totaled $29.5 million compared to $18.7 million in the comparable 2018 period. The $10.7 million increase for the three months ended June 30, 2019 is primarily due to a $10.8 million decrease in direct loan origination expenses, a $5.3 million increase in mark-to-market gains on LHFS and a $1.7 million increase in realized and unrealized net gains on derivative financial instruments. Partially offsetting the increase in gain on sale of loans, net was a $5.9 million reduction of premiums from servicing retained loan sales, an $819 thousand reduction from the sale of mortgage loans and a $314 thousand increase in provision for repurchases.
The overall increase in gain on sale of loans, net was primarily due to an increase in margins despite the decrease in mortgage loans originated and sold during the second quarter of 2019. For the three months ended June 30, 2019, we originated and sold $821.4 million and $861.2 million of loans, respectively, as compared to $1.0 billion and $1.2 billion of loans originated and sold, respectively, during the same period in 2018. During the second quarter of 2019, margins
54
increased to approximately 359 bps as compared to 181 bps for the same period in 2018. The increase in margins was a result of the significant drop in mortgage interest rates during the second quarter of 2019 which led to wider gain on sale margins, which more than offset our 21% decrease in originations compared to 2018. The primary driver of margin expansion was a combination of NonQM originations, which increased to 38% of total originations during the three months ended June 30, 2019 as compared 30% of total originations during the same period in 2018, as well as an increase in the percentage of our consumer direct originations.
For the three months ended June 30, 2019, servicing fees, net were $3.5 million compared to $9.9 million in the comparable 2018 period. The decrease in servicing fees, net was the result of $10.5 billion in UPB of servicing sales during the fourth quarter of 2018 which decreased the servicing portfolio average balance 64% to $6.1 billion for the three months ended June 30, 2019 as compared to an average balance of $16.8 billion for the three months ended June 30, 2018. During the three months ended June 30, 2019, we had $51.8 million in servicing retained loan sales.
For the three months ended June 30, 2019, other income increased to $1.9 million as compared to $305 thousand in the comparable 2018 period. The $1.6 million increase in other income was primarily due to a $776 thousand decrease in interest expense related to a decrease in the utilization of the MSR financing facilities during the second quarter of 2019. Additionally, net interest spread between loans held-for-sale and their related warehouse borrowing expense increased $678 thousand during the first quarter of 2019 as compared to the comparable period in 2018.
Personnel expense decreased $2.3 million to $12.8 million for the three months ended June 30, 2019 as compared to the same period in 2018. The decrease is primarily related to staff reductions we did throughout 2018 and into 2019 as well as a reduction in commission expense due to a decrease in loan originations. As a result of the reduction in loan origination volumes, we reduced overhead throughout 2018 and into 2019 to more closely align staffing levels to origination volumes in the current economic environment. As a result of the staff reductions made in 2018 and 2019, average headcount in the mortgage lending segment decreased 24% for the first quarter of 2019 as compared to the same period in 2018.
Business promotion decreased $7.0 million to $2.0 million for the three months ended June 30, 2019 as compared to the same period in the prior year. Business promotion decreased as a result of the shift in consumer direct marketing strategy we made in the latter half of 2018 away from radio and television advertisements to a digital campaign. The shift in strategy allows for a more cost effective approach, increasing the ability to be more price and product competitive to more specific target geographies.
General, administrative and other expenses decreased to $2.7 million for the three months ended June 30, 2019, compared to $5.0 million for the same period in 2018. The decrease was primarily related to a $1.0 million decrease in intangible asset amortization which was fully written-off or amortized in 2018, a $546 thousand decrease in occupancy expense as a result of the relocation of the retail direct division into our corporate office in the fourth quarter of 2018, a $443 thousand decrease in legal and professional fees and a $261 thousand decrease in other general and administrative expenses.
As previously discussed, we recorded an impairment charge of $74.7 million related to goodwill and $13.4 million related to intangible assets during the quarter ended June 30, 2018. See Note 5.-Goodwill and Intangible Assets of the “Notes to Consolidated Financial Statements” for additional information.
As part of the acquisition of CCM, we recorded accretion and change in fair value of the contingent consideration liability from the close of the transaction in March 2015 through the end of the earn-out period in December 2017. With
55
the end of the earn-out period in December 2017 and the final contingent consideration payment in the first quarter of 2018, we have no contingent consideration liability.
32,681
67,419
(34,738)
3,355
2,717
(24,836)
(32,242)
7,406
(4,909)
(18,695)
13,786
(5,210)
(9,596)
4,386
81,669
For the six months ended June 30, 2019, gain on sale of loans, net totaled $41.7 million compared to $40.2 million in the comparable 2018 period. The $1.5 million increase for the six months ended June 30, 2019 is primarily due to a $30.7 million decrease in direct loan origination expenses and a $13.6 million increase in mark-to-market gains on LHFS. Partially offsetting the increase in gain on sale of loans, net was a $16.5 million reduction from the sale of mortgage loans a $14.8 million reduction of premiums from servicing retained loan sales, a $9.9 million decrease in realized and unrealized net losses on derivative financial instruments and a $1.6 million increase in provision for repurchases.
For the six months ended June 30, 2019, servicing fees, net were $6.5 million compared to $19.3 million in the comparable 2018 period. The decrease in servicing fees, net was the result of $10.5 billion in UPB of servicing sales during the fourth quarter of 2018 which decreased the servicing portfolio average balance 63% to $6.2 billion for the six months ended June 30, 2019 as compared to an average balance of $16.7 billion for the six months ended June 30, 2018. During the six months ended June 30, 2019, we had $241.8 million in servicing retained loan sales.
For the six months ended June 30, 2019, (loss) gain on MSRs, net was a loss of $15.5 million compared to a gain of $7.9 million in the comparable 2018 period. For the six months ended June 30, 2019, we recorded a $16.4 million loss from a change in fair value of MSRs primarily due to changes in fair value associated with changes in market rates, inputs and assumptions as well as voluntary and scheduled prepayments. As a result of the aforementioned significant decrease in interest rates during the six months ended June 30, 2019, $11.5 million of the $16.4 million change in fair value of MSRs was primarily due to an increase in prepayment speed assumptions. Additionally, during the third quarter of 2018, we stopped hedging our mortgage servicing portfolio resulting in a $1.7 million reduction in realized and unrealized losses from hedging instruments related to MSRs during the six months ended June 30, 2019.
56
For the six months ended June 30, 2019, other income increased to $3.4 million as compared to $638 thousand in the comparable 2018 period. The $2.7 million increase in other income was primarily due to a $1.3 million decrease in interest expense related to a decrease in the utilization of the MSR financing facilities in the first six months of 2019. Additionally, net interest spread between loans held-for-sale and their related warehouse borrowing expense increased $1.1 million in the first six months of 2019 as compared to the comparable period in 2018.
Personnel expense decreased $7.4 million to $24.8 million for the six months ended June 30, 2019 as compared to the same period in 2018. The decrease is primarily related to staff reductions we did throughout 2018 and into 2019 as well as a reduction in commission expense due to a decrease in loan originations. As a result of the reduction in loan origination volumes, we reduced overhead throughout 2018 and into 2019 to more closely align staffing levels to origination volumes in the current economic environment. As a result of the staff reductions made in 2018 and 2019, average headcount in the mortgage lending segment decreased 27% for the six months of 2019 as compared to the same period in 2018.
Business promotion decreased $13.8 million to $4.9 million for the six months ended June 30, 2019 as compared to the same period in the prior year. Business promotion decreased as a result of the shift in consumer direct marketing strategy we made in the latter half of 2018 away from radio and television advertisements to a digital campaign. The shift in strategy allows for a more cost effective approach, increasing the ability to be more price and product competitive to more specific target geographies.
General, administrative and other expenses decreased to $5.2 million for the six months ended June 30, 2019, compared to $9.6 million for the same period in 2018. The decrease was primarily related to a $2.1 million decrease in intangible asset amortization which was fully written-off or amortized in 2018, an $875 thousand decrease in occupancy expense as a result of the relocation of the retail direct division into our corporate office in the fourth quarter of 2018, a $899 thousand decrease in other general and administrative expenses and a $514 thousand decrease in legal and professional fees.
As previously discussed, we recorded an impairment charge of $74.7 million related to goodwill and $13.4 million related to intangible assets during the six months ended June 30, 2018. See Note 5.-Goodwill and Intangible Assets of the “Notes to Consolidated Financial Statements” for additional information.
As part of the acquisition of CCM, we recorded accretion and change in fair value of the contingent consideration liability from the close of the transaction in March 2015 through the end of the earn-out period in December 2017. With the end of the earn-out period in December 2017 and the final contingent consideration payment in the first quarter of 2018, we have no contingent consideration liability.
Long-Term Mortgage Portfolio
(30)
(10)
(79)
(91)
(109)
1,089
702
387
772
Total other income
(1,159)
Earnings before income taxes
(1,127)
For the three months ended June 30, 2019, net interest income totaled $1.1 million as compared to $702 thousand for the comparable 2018 period. Net interest income increased $387 thousand for the three months ended June 30, 2019
57
primarily attributable to a $360 thousand increase in net interest spread on the long-term mortgage portfolio as well as a $27 thousand decrease in interest expense on the long-term debt associated with an decrease in three-month LIBOR as compared to the same period in 2018.
In the first quarter of 2018, we adopted ASU 2016-01, which effectively bifurcates the market and instrument specific credit risk components of changes in long-term debt. The market portion will continue to be a component of net earnings (loss) as the change in fair value of long-term debt, but the instrument specific credit risk portion will be a component of accumulated other comprehensive earnings (loss). During the three months ended June 30, 2019, the fair value of the long-term debt decreased $651 thousand. The decrease in estimated fair value was the result of a $388 thousand change in the market specific credit risk during the quarter as well as a $267 thousand change in the instrument specific credit risk partially offset by an increase due to accretion.
(88)
(67)
(22)
(45)
(183)
(154)
(29)
(74)
1,928
1,813
115
Total other (expense) income
(2,933)
(Loss) earnings before income taxes
For the six months ended June 30, 2019, net interest income totaled $1.9 million as compared to $1.8 million for the comparable 2018 period. Net interest income increased $115 thousand for the six months ended June 30, 2019 primarily attributable to a $151 thousand increase in net interest spread on the long-term mortgage portfolio partially offset by a $35 thousand increase in interest expense on the long-term debt associated with an increase in three-month LIBOR as compared to the same period in 2018.
In the first quarter of 2018, we adopted ASU 2016-01, which effectively bifurcates the market and instrument specific credit risk components of changes in long-term debt. The market portion will continue to be a component of net earnings (loss) as the change in fair value of long-term debt, but the instrument specific credit risk portion will be a component of accumulated other comprehensive earnings (loss). During the six months ended June 30, 2019, the fair value of the long-term debt decreased $946 thousand. The decrease in estimated fair value was the result of a $654 thousand change in the market specific credit risk during the quarter as well as a $363 thousand change in the instrument specific credit risk partially offset by an increase due to accretion.
The change in fair value related to our net trust assets (residual interests in securitizations) was a loss of $4.1 million for the six months ended June 30, 2019. The change in fair value of net trust assets, excluding REO was due to $3.0 million in losses from changes in fair value of securitized mortgage borrowings and securitized mortgage collateral primarily associated with increased loss assumptions partially offset by the recent decrease in forward LIBOR.
58
Additionally, the NRV of REO decreased $1.1 million during the period attributed to higher expected loss severities on properties within certain states held in the long-term mortgage portfolio during the period.
Real Estate Services
(280)
(473)
193
(65)
(118)
For the three months ended June 30, 2019, real estate services fees, net were $807 thousand compared to $1.0 million in the comparable 2018 period. The $231 thousand decrease in real estate services fees, net was the result of a $261 thousand decrease in real estate and recovery fees partially offset by a $23 thousand increase in loss mitigation fees and a $7 thousand increase in real estate service fees. The decrease is primarily the result of a decrease in transactions related to the decline in the number of loans and the UPB of the long-term mortgage portfolio as compared to 2018.
For the three months ended June 30, 2019, the $193 thousand reduction in personnel expense was due to a reduction in personnel and personnel related costs as a result of a decrease in transactions related to the decline in the number of loans and the UPB of the long-term mortgage portfolio as compared to the comparable period in 2018.
(601)
(1,044)
443
(131)
(185)
(313)
For the six months ended June 30, 2019, real estate services fees, net were $1.6 million compared to $2.4 million in the comparable 2018 period. The $810 thousand decrease in real estate services fees, net was the result of a $537 thousand decrease in real estate and recovery fees, a $143 thousand decrease in loss mitigation fees and a $130 thousand decrease in real estate service fees. The decrease is primarily the result of a decrease in transactions related to the decline in the number of loans and the UPB of the long-term mortgage portfolio as compared to 2018.
For the six months ended June 30, 2019, the $443 thousand reduction in personnel expense was due to a reduction in personnel and personnel related costs as a result of a decrease in transactions related to the decline in the number of loans and the UPB of the long-term mortgage portfolio as compared to 2018.
The corporate segment includes all compensation applicable to the corporate services groups, public company costs as well as debt expense related to the Convertible Notes and capital leases. This corporate services group supports all operating segments. A portion of the corporate services costs is allocated to the operating segments. The costs associated
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with being a public company as well as the interest expense related to the Convertible Notes and capital leases are not allocated to our other segments and remain in this segment.
Other expenses
(3,702)
(6,822)
3,120
Net loss before income taxes
3,129
For the three months ended June 30, 2019, other expenses decreased to $3.7 million as compared to $6.8 million for the comparable 2018 period. The decrease was primarily due to a $3.4 million reduction in legal fees associated with the Company successfully resolving, through dismissal or settlement, three long standing litigation matters in 2018, which dated back to origination and securitization activities related to the mortgage crisis of 2008. Partially offsetting the decrease in other expense was a $105 thousand increase in data processing expense and a $91 thousand increase in occupancy expense.
(25)
(7,913)
(10,314)
2,401
2,376
For the six months ended June 30, 2019, other expenses decreased to $7.9 million as compared to $10.3 million for the comparable 2018 period. The decrease was primarily due to a $4.6 million reduction in legal fees associated with the Company successfully resolving, through dismissal or settlement, three long standing litigation matters in 2018, which dated back to origination and securitization activities related to the mortgage crisis of 2008. Partially offsetting the decrease other expenses was a $488 thousand increase in personnel costs related to benefits and payroll taxes, a $252 thousand increase in data processing expense and a $231 thousand increase in occupancy expense.
ITEM 3: QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
As a smaller reporting company, the Company is not required to provide the information required by this Item.
ITEM 4: CONTROLS AND PROCEDURES
Evaluation of Disclosure Controls and Procedures
The Company maintains disclosure controls and procedures (as defined in the Securities Exchange Act of 1934 Rules 13a-15(e) or 15d-15(e)) designed at a reasonable assurance level to ensure that information required to be disclosed in reports filed or submitted under the Securities Exchange Act of 1934, as amended, is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that 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 the Company’s management, including its principal executive and principal financial officers, or persons performing similar functions, as appropriate to allow timely decisions regarding required disclosure.
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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 that evaluation, the Company’s chief executive officer and chief financial officer concluded that, as of June 30, 2019, the Company’s disclosure controls and procedures were effective at a reasonable assurance level.
Changes in Internal Control Over Financial Reporting
There has been no change in the Company’s internal control over financial reporting during the Company’s quarter ended June 30, 2019, that has materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting.
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ITEM 1: LEGAL PROCEEDINGS
Information with respect to this item may be found in Note 12 – Commitments and Contingencies of the “Notes to Unaudited Consolidated Financial Statements” included in Part I, Item 1 of this Quarterly Report on Form 10-Q, which is incorporated herein by reference.
ITEM 1A: RISK FACTORS
None.
ITEM 2: UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
ITEM 3: DEFAULTS UPON SENIOR SECURITIES
ITEM 4: MINE SAFETY DISCLOSURES
ITEM 5: OTHER INFORMATION
On August 7, 2019, the Company’s Board of Directors appointed Paul D. Licon to serve as the Company’s Principal Accounting Officer.
Paul Licon, 39, was appointed as the Company’s Principal Accounting Officer on August 7, 2019 and has been serving as Chief Accounting Officer since May 2019. Since April 2016, he served as the Company’s Senior Vice President, Controller. Prior to joining the Company, since January 2015, Mr. Licon was a Senior Manager with KPMG in the Financial Services practice. From May 2007 until December 2014, he was as auditor at Squar Milner LLP, and prior to that, an auditor at Ernst & Young. Mr. Licon holds a Bachelor’s degree in Business Administration from the University of Southern California.
There are no arrangements or understandings between Mr. Licon and any other persons pursuant to which he was selected as Principal Accounting Officer, nor are there any family relationships between Mr. Licon and any of the Company's directors or executive officers. Additionally, there are no transactions involving Mr. Licon that are required to be disclosed pursuant to Item 404(a) of Regulation S-K. In connection with this appointment, the Company expects to enter into its standard form of indemnification agreement for officers and directors with Mr. Licon.
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ITEM 6: EXHIBITS
(a)
Exhibits:
10.1
2010 Omnibus Incentive Plan, as amended, (incorporated by reference to exhibit 10.1 of the Company’s current report on Form 8-K filed with the SEC on June 26, 2019)
10.2
Amendment date April 18, 2019 to Line of Credit Promissory Note withMerchants Bank of Indiana.
31.1
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.
The following materials from Impac Mortgage Holdings, Inc.’s Quarterly Report on Form 10-Q for the quarter ended June 30, 2019, formatted in XBRL (Extensible Business Reporting Language): (1) the Condensed Consolidated Balance Sheets, (2) the Condensed Consolidated Statements of Operations and Comprehensive Earnings (Loss), (3) the Condensed Consolidated Statements of Cash Flows, and (4) Notes to Unaudited Consolidated Financial Statements, tagged as blocks of text.
* 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.
/s/ BRIAN KUELBS
Brian Kuelbs
Chief Financial Officer
(authorized officer of registrant and Principal Financial Officer)
August 9, 2019
/s/ PAUL LICON
Paul Licon
Chief Accounting Officer
(authorized officer of registrant and Principal Accounting Officer)
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