-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, NRuwbwzeAG5V7hLJVD0i+GdmBNTot4rHCQdeniwAS8TqNQJ7yYFbZmO0PBt7IPym r2Q3qH5epToLNANwrrgH5A== 0000950144-99-010848.txt : 19990902 0000950144-99-010848.hdr.sgml : 19990902 ACCESSION NUMBER: 0000950144-99-010848 CONFORMED SUBMISSION TYPE: 10-Q/A PUBLIC DOCUMENT COUNT: 1 CONFORMED PERIOD OF REPORT: 19990630 FILED AS OF DATE: 19990901 FILER: COMPANY DATA: COMPANY CONFORMED NAME: RESOURCE BANCSHARES MORTGAGE GROUP INC CENTRAL INDEX KEY: 0000893817 STANDARD INDUSTRIAL CLASSIFICATION: MORTGAGE BANKERS & LOAN CORRESPONDENTS [6162] IRS NUMBER: 570962375 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q/A SEC ACT: SEC FILE NUMBER: 000-21786 FILM NUMBER: 99704680 BUSINESS ADDRESS: STREET 1: 7909 PARKLANE ROAD SUITE 150 CITY: COLUMBIA STATE: SC ZIP: 29223 BUSINESS PHONE: 8037413000 MAIL ADDRESS: STREET 1: 7909 PARKLANE RD SUITE 150 STREET 2: 7909 PARKLANE RD SUITE 150 CITY: COLUMBI STATE: SC ZIP: 29223 10-Q/A 1 RESOURCE BANCSHARES MORTGAGE GROUP INC 1 UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, DC 20549 FORM 10-Q/A AMENDMENT NO. 1 TO (X) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For The Quarterly Period Ended June 30, 1999 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 000-21786 --------- RESOURCE BANCSHARES MORTGAGE GROUP, INC. - -------------------------------------------------------------------------------- (Exact name of registrant as specified in its charter) STATE OF DELAWARE 57-0962375 - -------------------------------------------------------------------------------- (State or other jurisdiction of (I.R.S. Employer Identification No.) incorporation or organization) 7909 Parklane Road, Columbia, SC 29223 - -------------------------------------------------------------------------------- (Address of Principal Executive Office) (Zip Code) Registrant's telephone number, including area code (803)741-3000 ------------- Indicate by check mark whether the registrant 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 each shorter period that the registrant was required to file such reports) and has been subject to such filing requirements for the past 90 days. YES X NO --- --- The number of shares of common stock of the Registrant outstanding as of July 31, 1999, was 21,292,315. Page 1 2 RESOURCE BANCSHARES MORTGAGE GROUP, INC. Form 10-Q/A for the quarter ended June 30, 1999 TABLE OF CONTENTS OF INFORMATION REQUIRED IN REPORT PAGE ---- ITEM 2. Management's Discussion and Analysis of 3 Financial Condition and Results of Operations SIGNATURES 44 2 3 RESOURCE BANCSHARES MORTGAGE GROUP, INC. ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS This 10-Q/A is being filed to revise the first sentence of the 9th paragraph under Liquidity and Capital Resources which discusses the Company's stock repurchase program. The following discussion and analysis should be read in conjunction with the Financial Information, the Consolidated Financial Statements of Resource Bancshares Mortgage Group, Inc. (the Company) (and the notes thereto) and the other information included or incorporated by reference into the Company's 1998 Annual Report on Form 10-K and the interim Consolidated Financial Statements contained herein. Statements included in this discussion and analysis (or elsewhere in this document) which are not statements of historical fact are intended to be, and are hereby identified as, "forward looking statements" for purposes of the safe harbor provided by Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. Readers are cautioned that any such forward-looking statements are not guarantees of future performance and involve a number of risks and uncertainties, and that actual results could differ materially from those indicated by such forward-looking statements. Important factors that could cause actual results to differ materially from those indicated by such forward-looking statements include, but are not limited to, the following which are described in the Company's Annual Report on Form 10-K for the year ended December 31, 1998, in this filing or from time to time in other reports filed by the Company with the Securities and Exchange Commission: (i) interest rate risks; (ii) changes in economic conditions; (iii) competition; (iv) possible changes in regulations and related matters; (v) litigation affecting the mortgage banking business; (vi) delinquency and default risks; (vii) changes in the market for servicing rights, mortgage loans and leases, (viii) environmental matters; (ix) changes in the demand for mortgage loans and leases, (x) changes in the value of residual interests in subprime securitizations, (xi) prepayment risks, (xii) Year 2000 risks, (xiii) possible changes in accounting estimates, (xiv) availability of funding sources and (xv) other risks and uncertainties. The Company disclaims any obligation to update any forward-looking statements. THE COMPANY The Company is a diversified financial services company engaged primarily in the business of mortgage banking, through the purchase (via a nationwide network of correspondents and brokers), sale and servicing of agency-eligible and subprime residential, single-family, first-mortgage loans and the purchase and sale of servicing rights associated with agency-eligible loans. In addition, the Company originates, sells and services small-ticket commercial equipment leases and originates, sells, underwrites for investors and services commercial mortgage loans. LOAN AND LEASE PRODUCTION The Company purchases agency-eligible residential mortgage loans from its correspondents and through its wholesale division and, until the sale of its retail production platform in May 1998, originated mortgage loans through its retail division. The Company also purchases and originates subprime mortgage loans and commercial mortgage loans and leases small-ticket equipment items. 3 4 A summary of production by source for the periods indicated is set forth below:
($ IN THOUSANDS) AT OR FOR THE SIX MONTHS AT OR FOR THE QUARTER ENDED JUNE 30, ENDED JUNE 30, ------------------------- ------------------------ 1999 1998 1999 1998 ---------- ---------- ---------- ---------- Agency-Eligible Loan Production: Correspondent $4,120,525 $5,659,460 $1,692,504 $2,764,060 Wholesale 1,155,730 1,483,489 443,908 748,629 Retail -- 264,059 -- 76,178 ---------- ---------- ---------- ---------- Total Agency-Eligible Loan Production 5,276,255 7,407,008 2,136,412 3,588,867 Subprime Loan Production 369,855 252,132 185,744 146,146 Commercial Mortgage (for Investors and Conduits) Loan Production 308,102 362,622 157,950 170,107 Lease Production 44,865 33,543 24,340 20,703 ---------- ---------- ---------- ---------- Total Mortgage Loan and Lease Production $5,999,077 $8,055,305 $2,504,446 $3,925,823 ========== ========== ========== ==========
Initially, the Company was focused exclusively on purchasing agency-eligible mortgage loans through its correspondents. In order to diversify its sources of residential loan volume, the Company started a wholesale operation in 1994, a retail operation in 1995 and a subprime division in 1997. Management anticipates that its higher margin wholesale and subprime production will account for an increasing percentage of total residential mortgage loan production as those divisions are expanded more rapidly than correspondent operations. In order to further diversify its sources of production and revenue, the Company acquired Resource Bancshares Corporation (RBC) in December 1997. Through RBC, the Company originates small-ticket commercial equipment leases and commercial mortgage loans. These two sources of production accounted for approximately 6% and 7% of the Company's total production for the six months ended June 30, 1999 and the second quarter of 1999, respectively. A summary of key information relevant to industry residential mortgage loan production activity is set forth below:
($ IN THOUSANDS) AT OR FOR THE QUARTER ENDED JUNE 30, ------------------------------------ 1999 1998 ------------ ------------ U. S. 1-4 Family Mortgage Originations Statistics (1): U. S. 1-4 Family Mortgage Originations $368,000,000 $352,000,000 Adjustable Rate Mortgage Market Share 16.00% 14.00% Estimated Fixed Rate Mortgage Originations $309,000,000 $303,000,000 Company Information: Residential Loan Production $ 2,322,156 $ 3,588,867 Estimated Company Market Share 0.63% 1.02%
(1) Source: Mortgage Bankers Association of America, Economics Department. The Company's total residential mortgage production decreased by 36% to $2.3 billion for the second quarter of 1999 from $3.6 billion for the second quarter of 1998. This decrease is primarily due to the overall level of competition in the marketplace among residential mortgage originators. 4 5 Correspondent Loan Production The Company purchases closed mortgage loans through its network of approved correspondent lenders. Correspondents are primarily mortgage lenders, larger mortgage brokers and smaller savings and loan associations and commercial banks that have met the Company's approval requirements. A summary of key information relevant to the Company's correspondent residential loan production activities is set forth below:
($ IN THOUSANDS) AT OR FOR THE SIX MONTHS AT OR FOR THE QUARTER ENDED JUNE 30, ENDED JUNE 30, ------------------------------ ------------------------------ 1999 1998 1999 1998 ----------- ----------- ----------- ----------- Correspondent Loan Production $ 4,120,525 $ 5,659,460 $ 1,692,504 $ 2,764,060 Estimated Correspondent Market Share (1) 0.57% 0.85% 0.46% 0.79% Approved Correspondents 867 901 867 901 Correspondent Division Expenses 32,365 31,333 15,303 16,594
(1) Source: Mortgage Bankers Association of America, Economics Department. The Company's correspondent loan production decreased by 39% to $1.7 billion for the second quarter of 1999 from $2.8 billion for the second quarter of 1998. This decrease in production is primarily due to the current level of competition in the market place as well as a rise in mortgage interest rates during the second quarter of 1999. While production declined 39% from quarter to quarter, correspondent division expenses declined by only 8%. This is primarily due to the fact that corporate overhead expenses are allocated to the correspondent division. These costs are primarily fixed in nature and did not decline with the decline in production. The number of approved correspondent lenders decreased 4% from quarter to quarter as the Company focused on maintenance of those correspondent relationships most compatible with the Company's overall business strategies. Wholesale Loan Production The wholesale division receives loan applications through brokers, underwrites the loans, funds the loans at closing and prepares all closing documentation. The wholesale branches handle all shipping and follow-up procedures on loans. Typically mortgage brokers are responsible for taking applications and accumulating the information precedent to the Company's processing of the loans. Although the establishment of wholesale branch offices involves the incurrence of fixed expenses associated with maintaining those offices, wholesale operations also provide for higher profit margins than correspondent loan production. Additionally, each branch office can serve a relatively sizable geographic area by establishing relationships with large numbers of independent mortgage loan brokers who bear much of the cost of identifying and interacting directly with loan applicants. A summary of key information relevant to the Company's wholesale production activities is set forth below: 5 6
($ IN THOUSANDS) AT OR FOR THE SIX MONTHS AT OR FOR THE QUARTER ENDED JUNE 30, ENDED JUNE 30, -------------------------- -------------------------- 1999 1998 1999 1998 ---------- ---------- ---------- ---------- Wholesale Loan Production $1,155,730 $1,483,489 $ 443,908 $ 748,629 Estimated Wholesale Market Share (1) 0.16% 0.22% 0.12% 0.21% Wholesale Division Direct Operating Expenses $ 8,474 $ 7,740 $ 3,917 $ 3,943 Approved Brokers 3,669 3,085 3,669 3,085 Number of Branches 17 15 17 15 Number of Employees 186 153 186 153
(1) Source: Mortgage Bankers Association of America, Economics Department. Wholesale loan production decreased 41% ($304.7 million) from $748.6 million for the second quarter of 1998 to $443.9 million for the second quarter of 1999 primarily as a result of increased competition in the marketplace, and an industry wide decline in refinancings. Strategically, management anticipates focusing over the longer term on continued expansion of its wholesale presence nationwide due to the relatively higher margins attributable to this channel. Management anticipates that the wholesale division will account for an increasing percentage of the Company's total loan production. Retail Loan Production Effective May 1, 1998, the Company sold its retail production franchise to CFS Bank. Retail loan production and retail divisional direct operating expenses for the six months ended June 30, 1998 were $264.1 million and $5.6 million, respectively. Subprime Loan Production In 1997, the Company began its initial expansion into subprime lending activities. The Company does subprime business under the name of its wholly-owned subsidiary, Meritage Mortgage Corporation. Management anticipates continuing near term increases in subprime production volumes as the Company begins to offer select subprime loan products through its existing nationwide correspondent production channel. 6 7 A summary of key information relevant to the Company's subprime production activities is set forth below:
($ IN THOUSANDS) AT OR FOR THE SIX MONTHS AT OR FOR THE QUARTER ENDED JUNE 30, ENDED JUNE 30, ------------------------ ---------------------- 1999 1998 1999 1998 -------- -------- -------- -------- Subprime Loan Production $369,855 $252,132 $185,744 $146,146 Estimated Subprime Market Share (1) 0.05% 0.04% 0.05% 0.04% Subprime Division Direct Operating Expenses $ 12,497 $ 10,575 $ 6,542 $ 5,952 Number of Brokers 2,182 1,659 2,182 1,659 Number of Employees 332 220 332 220 Number of Branches 19 17 19 17
(1) Source: Mortgage Bankers Association of America, Economics Department. The Company continues to expand its subprime operations. The Company increased its number of brokers by 523 and added two new subprime branches between June 30, 1998 and June 30, 1999. As a result, subprime production increased approximately 27% from quarter to quarter. As a result of excess operational capacity, subprime direct operating costs increased by only 10% from quarter to quarter. Commercial Mortgage Production The Company's subsidiary, Laureate Capital Corp.(Laureate), originates commercial mortgage loans for various insurance companies and other investors. Commercial mortgage loans are generally originated in the name of the investor and, in most instances, Laureate retains the right to service the loans under a servicing agreement. A summary of key information relevant to the Company's commercial mortgage production activities is set forth below:
($ IN THOUSANDS) AT OR FOR THE SIX MONTHS AT OR FOR THE QUARTER ENDED JUNE 30, ENDED JUNE 30, ------------------------ --------------------- 1999 1998 1999 1998 -------- -------- -------- -------- Commercial Mortgage Production $308,102 $362,622 $157,950 $170,107 Commercial Mortgage Division Direct Operating Expenses $ 5,704 $ 4,806 $ 2,809 $ 2,356 Number of Branches 13 11 13 11 Number of Employees 94 75 94 75
Lease Production The Company's leasing division, Republic Leasing, originates and services small-ticket commercial equipment leases. Substantially all of Republic Leasing's lease receivables are acquired from independent brokers who operate throughout the continental United States. A summary of key information relevant to the Company's lease production activities is set forth below: 7 8
($ IN THOUSANDS) AT OR FOR THE SIX MONTHS AT OR FOR THE QUARTER ENDED JUNE 30, ENDED JUNE 30, ------------------------ --------------------- 1999 1998 1999 1998 ------- ------- ------- ------- Lease Production $44,865 $33,543 $24,340 $20,703 Lease Division Direct Operating Expenses $ 2,923 $ 2,460 $ 1,426 $ 1,240 Number of Brokers 198 210 198 210 Number of Employees 66 61 66 61
SERVICING Agency-Eligible Mortgage Servicing Agency-eligible mortgage servicing includes collecting and remitting mortgage loan payments, accounting for principal and interest, holding escrow funds for payment of mortgage-related expenses such as taxes and insurance, making advances to cover delinquent payments, making inspections as required of the mortgaged premises, contacting delinquent mortgagors, supervising foreclosures and property dispositions in the event of unremedied defaults and generally administering mortgage loans. The Company is somewhat unique in that its strategy is to sell substantially all of its produced agency-eligible mortgage servicing rights to other approved servicers. In that regard, the Company believes it is the largest national supplier of agency-eligible servicing rights to the still-consolidating mega-servicers. Typically, the Company sells its agency-eligible mortgage servicing rights within 90 to 180 days of purchase or origination. However, for strategic reasons, the Company also strives to maintain a servicing portfolio whose size is determined by reference to the Company's cash operating costs which, in turn, are largely determined by the size of its loan production platform. By continuing to focus on the low-cost correspondent and wholesale production channels, the Company is able to minimize the cash operating costs of its loan production platform and thus the strategically required size of its agency-eligible loan servicing operation. A summary of key information relevant to the Company's agency-eligible loan servicing activities is set forth below: 8 9
($ IN THOUSANDS) AT OR FOR THE SIX MONTHS AT OR FOR THE QUARTER ENDED JUNE 30, ENDED JUNE 30, ------------------------------ ------------------------------ 1999 1998 1999 1998 ------------ ------------ ------------ ------------ Underlying Unpaid Principal Balances: Beginning Balance * $ 9,865,100 $ 7,125,222 $ 9,735,754 $ 7,980,181 Agency-Eligible Loan Production (net of servicing-released production) * 5,265,702 7,831,922 2,132,353 3,589,235 Bulk Acquisitions* -- 122,467 -- 122,467 Net Change in Work-in-Progress* 196,507 (67,610) 6,052 337,045 Sales of Servicing* (6,104,726) (4,804,235) (3,101,473) (2,269,219) Paid-In-Full Loans* (649,056) (650,891) (283,327) (284,255) Amortization, Curtailments and Other, net* (162,837) (187,549) (78,669) (106,128) ------------ ------------ ------------ ------------ Ending Balance* 8,410,690 9,369,326 8,410,690 9,369,326 Subservicing Ending Balance 3,111,358 2,624,893 3,111,358 2,624,893 ------------ ------------ ------------ ------------ Total Underlying Unpaid Principal Balances $ 11,522,048 $ 11,994,219 $ 11,522,048 $ 11,994,219 ============ ============ ============ ============
* These numbers and statistics apply to the Company's owned agency-eligible servicing portfolio and therefore exclude the subservicing portfolio. Of the $8.4 billion and $9.3 billion unpaid principal balance at June 30, 1999 and 1998, approximately $5.9 billion and $5.1 billion, respectively, are classified as available for sale, while $2.5 billion and $4.2 billion, respectively, are classified as held for sale. A summary of agency-eligible servicing statistics follows:
($ IN THOUSANDS) AT OR FOR THE SIX MONTHS AT OR FOR THE QUARTER ENDED JUNE 30, ENDED JUNE 30, ------------------------------ ------------------------------ 1999 1998 1999 1998 ------------ ------------ ------------ ------------ Average Underlying Unpaid Principal Balances (including subservicing) $ 13,110,771 $ 10,888,995 $ 12,739,230 $ 11,451,709 Weighted Average Note Rate* 7.30% 7.44% 7.30% 7.44% Weighted Average Servicing Fee* 0.43% 0.39% 0.43% 0.39% Delinquency (30+ days) Including Bankruptcies and Foreclosures* 2.27% 2.29% 2.27% 2.29% Number of Servicing Division Employees 149 160 149 160
* These numbers and statistics apply to the Company's owned agency-eligible servicing portfolio and therefore exclude the subservicing portfolio. The $1.29 billion, or 11%, increase in the average underlying unpaid principal balance of agency-eligible mortgage loans being serviced and subserviced for the second quarter of 1999 as compared to the second quarter of 1998 is primarily related to the Company's increased loan production volumes during the latter part of 1998. Since the Company generally sells servicing rights related to the agency-eligible loans it produces within 90 to 180 days of purchase or origination, increased production volumes generally result in a higher volume of mortgage servicing rights held in inventory pending sale. In addition during 1998 and the first six months of 1999, the Company decided to retain a portion of the servicing rights associated with its production. 9 10 Commercial Mortgage Servicing Laureate originates commercial mortgage loans for investors and in most cases, Laureate retains the right to service the loans. A summary of key information relevant to the Company's commercial mortgage servicing activities is set forth below:
($ IN THOUSANDS) AT JUNE 30, ---------------------------------- 1999 1998 ------------- ------------- Commercial Mortgage Loan Servicing Portfolio $ 3,951,343 $ 3,043,477 Weighted Average Note Rate 8.07% 8.29% Delinquencies (30+ Days) 0.50% 0.74%
Lease Servicing The Company's leasing division services leases that are owned by the Company and also services leases for investors. A summary of key information relevant to the Company's lease servicing activity is set forth below:
($ IN THOUSANDS) AT JUNE 30, ------------------------ 1999 1998 -------- -------- Owned Lease Servicing Portfolio $124,139 $ 70,581 Serviced For Investors Servicing Portfolio 24,068 54,423 -------- -------- Total Managed Lease Servicing Portfolio $148,207 $125,004 ======== ======== Weighted Average Net Yield For Managed Lease Servicing Portfolio 10.76% 10.74% Delinquencies (30+ Days) Managed Lease Servicing Portfolio 1.49% 2.45%
Consolidated Coverage Ratios A summary of the Company's consolidated ratios of servicing fees and interest income from owned leases to cash operating expenses net of amortization and depreciation follows:
($ IN THOUSANDS) AT OR FOR THE SIX MONTHS AT OR FOR THE QUARTER ENDED JUNE 30, ENDED JUNE 30, ------------------------- ------------------------- 1999 1998 1999 1998 -------- -------- -------- -------- Total Company Servicing Fees $ 24,995 $ 19,715 $ 11,997 $ 10,412 Net Interest Income from Owned Leases 3,389 1,982 1,744 1,036 -------- -------- -------- -------- Total Servicing Fees and Interest from Owned Leases $ 28,384 $ 21,697 $ 13,741 $ 11,448 -------- -------- -------- -------- Total Company Operating Expenses $ 85,334 $ 79,956 $ 41,804 $ 41,041 Total Company Amortization and Depreciation (20,778) (14,886) (10,240) (7,902) -------- -------- -------- -------- Total Company Operating Expenses, Net of Amortization and Depreciation $ 64,556 $ 65,070 $ 31,564 $ 33,139 -------- -------- -------- -------- Coverage Ratio 44% 33% 44% 35% ======== ======== ======== ========
Although the Company's coverage ratio is still below the Company's target level of between 50% and 80%, there was improvement in the coverage ratio for the second quarter and six months ended June 30, 1999 primarily due to the decline in production. Effective May 1, 1998, 10 11 the Company sold its retail production franchise, which accounted for $5.6 million and $1.7 million of the Company's cash operating expenses for the six months and quarter ended June 30, 1998, respectively. Without retail division operating expenses, the Company's coverage ratio would have been 36% for both the six months and quarter ended June 30, 1998. As market conditions permit, management would expect to bring this ratio back in line with the stated objective. RESULTS OF OPERATIONS - SIX MONTHS ENDED JUNE 30, 1999 COMPARED TO SIX MONTHS ENDED JUNE 30, 1998 SUMMARY BY OPERATING DIVISION Net income per common share on a diluted basis for the first six months of 1999 was $0.66 as compared to $0.97 for the first six months of 1998. This 32% decrease in net income per common share was less than the 36% decrease in net income primarily due to the impact of the Company's stock repurchase program which reduced the number of weighted average shares outstanding across comparative periods. Following is a summary of the allocated revenues and expenses for each of the Company's operating divisions for the six months ended June 30, 1999 and 1998, respectively:
($ IN THOUSANDS) RESIDENTIAL ----------------------------------- MORTGAGE PRODUCTION ---------------------- AGENCY - AGENCY - ELIGIBLE COMMERCIAL FOR THE SIX MONTHS ENDED JUNE 30, 1999* ELIGIBLE SUBPRIME SERVICING MORTGAGE LEASING OTHER CONSOLIDATED - --------------------------------------- --------- ---------- --------- ---------- --------- --------- ------------ Net interest income $ 6,097 $ 7,456 $ (2,383) $ 214 $ 3,389 $ 124 $ 14,897 Net gain on sale of mortgage loans 50,078 10,374 3,025 63,477 Gain on sale of mortgage servicing rights 4,823 4,823 Servicing fees 22,242 2,133 327 293 24,995 Other income 458 (1,559) 344 31 534 9 (183) --------- --------- --------- --------- --------- --------- --------- Total revenues 56,633 16,271 25,026 5,403 4,250 426 108,009 --------- --------- --------- --------- --------- --------- --------- Salary and employee benefits 23,651 6,784 1,805 3,248 1,353 370 37,211 Occupancy expense 4,328 1,252 207 541 214 96 6,638 Amortization and provision for impairment of mortgage servicing rights 17,320 982 18,302 General and administrative expenses 12,860 4,461 3,478 933 1,356 95 23,183 --------- --------- --------- --------- --------- --------- --------- Total expenses 40,839 12,497 22,810 5,704 2,923 561 85,334 --------- --------- --------- --------- --------- --------- --------- Income before income taxes 15,794 3,774 2,216 (301) 1,327 (135) 22,675 Income tax expense (5,644) (1,349) (792) 91 (543) 59 (8,178) --------- --------- --------- --------- --------- --------- --------- Net income $ 10,150 $ 2,425 $ 1,424 $ (210) $ 784 $ (76) $ 14,497 ========= ========= ========= ========= ========= ========= =========
11 12
($ IN THOUSANDS) RESIDENTIAL ----------------------------------- MORTGAGE PRODUCTION ---------------------- AGENCY - AGENCY - ELIGIBLE COMMERCIAL FOR THE SIX MONTHS ENDED JUNE 30, 1998* ELIGIBLE SUBPRIME SERVICING MORTGAGE LEASING OTHER CONSOLIDATED - --------------------------------------- --------- --------- --------- ---------- --------- --------- ------------ Net interest income $ 3,869 $ 3,413 $ 260 $ 1,982 $ 227 $ 9,751 Net gain on sale of mortgage loans 66,765 13,382 3,482 83,629 Gain on sale of mortgage servicing rights $ 1,080 1,080 Servicing fees 17,230 1,812 509 164 19,715 Other income 1,695 137 141 (2) 425 501 2,897 --------- --------- --------- --------- --------- --------- --------- Total revenues 72,329 16,932 18,451 5,552 2,916 892 117,072 --------- --------- --------- --------- --------- --------- --------- Salary and employee benefits 28,031 7,589 1,648 2,920 1,030 344 41,562 Occupancy expense 3,692 871 218 389 166 95 5,431 Amortization and provision for impairment of mortgage servicing rights 11,649 654 12,303 General and administrative expenses 12,945 2,115 3,117 843 1,264 376 20,660 --------- --------- --------- --------- --------- --------- --------- Total expenses 44,668 10,575 16,632 4,806 2,460 815 79,956 --------- --------- --------- --------- --------- --------- --------- Income before income taxes 27,661 6,357 1,819 746 456 77 37,116 Income tax expense (10,940) (2,249) (710) (282) (188) (54) (14,423) --------- --------- --------- --------- --------- --------- --------- Net income $ 16,721 $ 4,108 $ 1,109 $ 464 $ 268 $ 23 $ 22,693 ========= ========= ========= ========= ========= ========= =========
*Revenues and expenses have been allocated on a direct basis to the extent possible. Corporate overhead expenses have been allocated to agency-eligible mortgage production. Management believes that these and all other revenues and expenses have been allocated to the respective divisions on a reasonable basis. AGENCY-ELIGIBLE MORTGAGE OPERATIONS Following is a comparison of the revenues and expenses allocated to the Company's agency-eligible mortgage production operations.
($ IN THOUSANDS) FOR THE SIX MONTHS ENDED JUNE 30, --------------------------------- 1999 1998 ---------- ---------- Net interest income $ 6,097 $ 3,869 Net gain on sale of mortgage loans 50,078 66,765 Other income 458 1,695 ---------- ---------- Total production revenue 56,633 72,329 ---------- ---------- Salary and employee benefits 23,651 28,031 Occupancy expense 4,328 3,692 General and administrative expenses 12,860 12,945 ---------- ---------- Total production expenses 40,839 44,668 ---------- ---------- Net pre-tax production margin $ 15,794 $ 27,661 ---------- ---------- Production $5,276,255 $7,407,008 Pool delivery 5,710,345 7,171,373 Total production revenue to pool delivery 99 bps 101 bps Total production expenses to production 77 bps 60 bps ---------- ---------- Net pre-tax production margin 22 bps 41 bps ========== ==========
Summary The production revenue to pool delivery ratio decreased two basis points, or 2%, for the first six months of 1999 as compared to the first six months of 1998. Net gain on sale of mortgage 12 13 loans (88 basis points for 1999 versus 93 basis points for 1998) declined primarily due to compressed margins attributable to an aggressive competitive pricing environment in the correspondent channel and lower overall agency-eligible production volume. Net interest income increased from 5 basis points in 1998 to 11 basis points in 1999 primarily as a result of the generally steeper yield curve environment. The production expenses to production ratio increased 17 basis points, or 28%, for the first six months of 1999 as compared to the first six months of 1998. This was due to a 29% decrease in production volumes while operating expenses were decreased by only 9%. As a consequence of the foregoing, the Company's net agency-eligible pre-tax production margin decreased 19 basis points, or 46%, to 22 basis points while in absolute dollars it decreased $11.9 million, or 43%. Net Interest Income The following table analyzes net interest income allocated to the Company's agency-eligible mortgage production activities in terms of rate and volume variances of the interest spread (the difference between interest rates earned on loans and mortgage-backed securities and interest rates paid on interest-bearing sources of funds) for the six months ended June 30, 1999 and 1998, respectively.
($ in thousands) Variance Average Volume Average Rate Interest Attributable to - --------------------------------------- ----------------- ------------------------------ 1999 1998 1999 1998 1999 1998 Variance Rate Volume - --------------------------------------- -------------------------------------------------- INTEREST INCOME Mortgages Held for Sale and $ 889,631 $11,178,375 6.59% 6.89% Mortgage-Backed Securities $29,330 $40,592 $(11,262) $(1,316) $(9,946) - --------------------------------------- -------------------------------------------------- INTEREST EXPENSE $ 386,100 $ 464,620 3.62% 4.62% Warehouse Line $ 6,923 $10,643 $ (3,720) $(1,921) $(1,799) 492,144 681,723 5.15% 5.88% Gestation Line 12,559 19,869 (7,310) (1,785) (5,525) 120,119 94,282 5.85% 6.79% Servicing Secured Line 3,486 3,174 312 (558) 870 29,790 33,067 5.22% 5.89% Servicing Receivables Line 771 966 (195) (99) (96) 7,728 6,731 8.22% 7.88% Other Borrowings 315 263 52 13 39 Facility Fees & Other Charges 1,418 1,808 (390) (390) - --------------------------------------- -------------------------------------------------- $1,035,881 $ 1,280,423 4.96% 5.78% Total Interest Expense $25,472 $36,723 $(11,251) $(4,350) $ 6,901) - --------------------------------------- -------------------------------------------------- Net Interest Income Before 1.63% 1.11% Interdivisional Allocations $ 3,858 $ 3,869 $ (11) $ 3,034 $(3,045) ============ ================================================== Allocation to Agency-Eligible Servicing Division 2,239 N/A ----------------- Net Interest Income $ 6,097 $ 3,869 =================
Net interest income from agency-eligible production before interdivisional allocations remained constant at $3.9 million for the first six months of both 1999 and 1998. The 52 basis point increase in the interest-rate spread was primarily the result of the steeper yield curve environment in the first six months of 1999 compared to the first six months of 1998. The Company's mortgages and mortgage-backed securities are generally sold and replaced within 30 to 35 days. Accordingly, the Company generally borrows at rates based upon short-term indices, while its asset yields are primarily based upon long-term mortgage rates. Net Gain on Sale of Agency-eligible Mortgage Loans A reconciliation of gain on sale of agency-eligible mortgage loans for the periods indicated follows: 13 14
($ IN THOUSANDS) FOR THE SIX MONTHS ENDED JUNE 30, --------------------------------- 1999 1998 ----------- ----------- Gross proceeds on sales of mortgage loans $ 5,726,984 $ 7,239,752 Initial unadjusted acquisition cost of mortgage loans sold, net of hedge results 5,724,786 7,237,275 ----------- ----------- Unadjusted gain on sale of mortgage loans 2,198 2,477 Loan origination and correspondent program administrative fees 13,148 19,836 ----------- ----------- Unadjusted aggregate margin 15,346 22,313 Acquisition basis allocated to mortgage servicing rights (SFAS No. 125) 35,782 43,856 Net deferred costs and administrative fees recognized (1,050) 596 ----------- ----------- Net gain on sale of agency-eligible mortgage loans $ 50,078 $ 66,765 =========== ===========
Net gain on sale of agency-eligible mortgage loans decreased $16.7 million (25%) from $66.8 million for the first six months of 1998 to $50.1 million for the first six months of 1999. The decrease is primarily due to compressed margins attributable to an aggressive competitive pricing environment in the correspondent channel and lower overall agency-eligible production volume. Other Income In November 1998, the Company formed a captive insurance company, MG Reinsurance Company (MG Reinsurance). MG Reinsurance is licensed as a property and casualty insurer and operates as a monoline captive insurance company assuming reinsurance for agency-eligible mortgage loans initially purchased or produced by the Company. During the first six months of 1999, the Company recognized premium and investment income of approximately $0.4 million that has been included as other income in the agency-eligible production segment. The primary reason for the $1.2 million decline in other income from period to period is due to the nonrecurring gain of $1.5 million from the sale of the retail production franchise in the first six months of 1998. Salary and Employee Benefits Salary and employee benefits for the six months ended June 30, 1999 declined $4.4 million or 16% as compared to the six months ended June 30, 1998. The agency-eligible production decline led to declines in variable compensation costs such as commissions, incentives, overtime, and contract labor. SUBPRIME MORTGAGE OPERATIONS Following is an analysis of the revenues and expenses allocated to the Company's subprime mortgage production operations. 14 15
($ IN THOUSANDS) FOR THE SIX MONTHS ENDED JUNE 30, --------------------------------- 1999 1998 --------- --------- Net interest income $ 7,456 $ 3,413 Net gain on sale of mortgage loans 10,374 13,382 Other income (1,559) 137 --------- --------- Total production revenue 16,271 16,932 --------- --------- Salary and employee benefits 6,784 7,589 Occupancy expense 1,252 871 General and administrative expenses 4,461 2,115 --------- --------- Total production expenses 12,497 10,575 ========= ========= Net pre-tax production margin $ 3,774 $ 6,357 ========= ========= Production $ 369,855 $ 252,132 Whole loan sales and securitizations 322,910 214,971 Total production revenue to whole loan sales and securitizations 504 bps 788 bps Total production expenses to production 338 bps 419 bps --------- --------- Net pre-tax production margin 166 bps 369 bps ========= =========
Summary During the first six months of 1999, the Company produced $369.9 million of subprime loans and sold $196.9 million in whole loan transactions and delivered $126.0 million into the secondary markets through securitization transactions. At June 30, 1999, the Company had unsold subprime mortgage loans of $145.1 million. Overall, the subprime division operated during the first six months of 1999 at a 1.66% pre-tax production margin. The pretax margin decline of 203 basis points from the six months ended June 30, 1999, to the six months ended June 30, 1998, is primarily attributable to a 259 basis point decline in the gain on sale of subprime mortgage loans. This decline is primarily attributable to compressed margins in the subprime market during the first six months of 1999. Net Interest Income The following table analyzes net interest income allocated to the Company's subprime mortgage production activities in terms of rate and volume variances of the interest spread (the difference between interest rates earned on loans and residual certificates and interest rates paid on interest-bearing sources of funds) for the six months ended June 30, 1999 and 1998, respectively. 15 16
($ in thousands) Variance Average Volume Average Rate Interest Attributable to - ------------------------------------ ---------------- --------------- 1999 1998 1999 1998 1999 1998 Variance Rate Volume - ------------------------------------ ------------------------------------------ INTEREST INCOME Mortgages Held for Sale and $232,845 $111,877 10.24% 9.72% Residual Certificates $11,916 $5,439 $6,477 $ 596 $5,881 - ------------------------------------ ------------------------------------------ INTEREST EXPENSE $170,984 $ 69,590 5.43% 5.87% Total Interest Expense $ 4,604 $2,026 $2,578 $(374) 2,952 - ------------------------------------ ------------------------------------------ Net Interest Income Before 4.81% 3.85% Interdivisional Allocations $ 7,312 $3,413 $3,899 $ 970 $2,929 ------------- ------------------------------------------ Allocation to Agency-Eligible Servicing Division 144 N/A ---------------- Net Interest Income $ 7,456 $3,413 ================
Net interest income from subprime products increased 114% to $7.3 million for the first six months of 1999 as compared to $3.4 million for the first six months of 1998. This was primarily the result of the increase in subprime loan production volume and the generally steeper yield curve environment and an increase in accretion income earned on residual interests from $1.4 million for the six months ended June 30, 1998 to $3.0 million for the six months ended June 30, 1999. Net Gain on Securitization and Sale of Subprime Mortgage Loans A reconciliation of the gain on securitization of subprime mortgage loans for the periods indicated follows:
($ IN THOUSANDS) FOR THE SIX MONTHS ENDED JUNE 30, --------------------------------- 1999 1998 --------- --------- Gross proceeds on securitization of subprime mortgage loans $ 124,242 $ 124,237 Initial acquisition cost of subprime mortgage loans securitized, net of fees 126,043 126,975 --------- --------- Unadjusted loss on securitization of subprime mortgage loans (1,801) (2,738) Initial capitalization of residual certificates 8,867 9,262 Net deferred costs and administrative fees recognized (2,008) N/A --------- --------- Net gain on securitization of subprime mortgage loans $ 5,058 $ 6,524 ========= =========
The Company assesses the fair value of residual certificates quarterly, based on an independent third party valuation and other factors. This valuation is based on the discounted cash flows expected to be available to the holder of the residual certificates. Significant assumptions used at June 30, 1999 for all residual certificates then held by the Company include a discount rate of 13%, a constant default rate of 3% and a loss severity rate of 25%, and ramping periods are based on prepayment penalty periods and adjustable rate mortgage first reset dates. Constant prepayment rate assumptions specific to the individual certificates for purposes of the June 30, 1999 valuations are set forth below:
1997-1 1997-2 1998-1 1998-2 1999-1 OTHER ------- ------- ------- ------- ------- ------- Prepayment Speeds Fixed rate mortgages 32% cpr 30% cpr 28% cpr 28% cpr 28% cpr 32% cpr Adjustable rate mortgages 32% cpr 30% cpr 28% cpr 28% cpr 28% cpr 24% cpr
16 17 The assumptions used in the independent third party valuation above are estimated based on current conditions for similar instruments that are subject to prepayment and credit risks. Other factors evaluated in the determination of fair value include credit and collateral quality of the underlying loans, current economic conditions and various fees and costs (such as prepayment penalties) associated with ownership of the residual certificate including actual credit history of the individual residual certificates. Although the Company believes that the fair values of its residual certificates are reasonable given current market conditions, the assumptions used are estimates and actual experience may vary from these estimates. Differences in the actual prepayment speed and loss experience from the assumptions used, could have a significant effect on the fair value of the residual certificates. As summarized in the following analysis, the recorded residual values imply that the Company's securitizations are valued at 1.48 times the implied excess yield at June 30, 1999, as compared to the 1.41 multiple implied at March 31, 1999. The table below represents balances as of June 30, 1999, unless otherwise noted.
($ IN THOUSANDS) SECURITIZATIONS -------------------------------------------------------------- -------- ------- -------- 1997-1 1997-2 1998-1 1998-2 1999-1 Subtotal Other Total ------- ------- -------- -------- -------- -------- ------- -------- Residual Certificates $ 6,816 $ 8,663 $ 11,668 $ 13,531 $ 8,219 $ 48,897 $ 2,000 $ 50,897 Bonds $39,572 (*) $57,113 (*) $102,499 (*) $160,969 (*) $124,367 (**) $484,520 $31,446 (*) $515,966 ------- ------- -------- -------- -------- -------- ------- -------- Subtotal $46,388 $65,776 $114,167 $174,500 $132,586 $533,417 $33,446 $566,863 Unpaid Principal Balance $44,430 (*) $61,967 (*) $106,868 (*) $163,412 (*) $124,459 (**) $501,136 $34,478 (*) $535,614 ------- ------- -------- -------- -------- -------- ------- -------- Implied Price 104.41 106.15 106.83 106.79 106.53 106.44 97.01 105.84 ------- ------- -------- -------- -------- -------- ------- -------- Collateral Yield 10.43 10.05 9.76 9.72 9.85 9.86 11.53 9.93 Collateral Equivalent Securitization Costs (0.71) (0.65) (0.60) (0.60) (0.63) (0.62) (0.50) (0.62) Collateral Equivalent Bond Rate (4.75) (4.95) (5.06) (5.65) (5.39) (5.29) (6.94) (5.36) ------- ------- -------- -------- -------- -------- ------- -------- Implied Collateral Equivalent Excess Yield 4.97 4.45 4.10 3.47 3.83 3.95 4.09 3.95 ------- ------- -------- -------- -------- -------- ------- -------- Implied Premium Above Par 4.41 6.15 6.83 6.79 6.53 6.44 -- 5.83 Implied Collateral Equivalent Excess Yield 4.97 4.45 4.10 3.47 3.83 3.95 4.09 3.95 ------- ------- -------- -------- -------- -------- ------- -------- Multiple 0.89 x 1.38 x 1.67 x 1.96 x 1.70 x 1.63 x -- x 1.48 x ------- ------- -------- -------- -------- -------- ------- --------
* Amounts were based upon trustee statements dated June 25, 1999 that covered the period ended May 31, 1999. ** Amounts were based upon trustee statements dated July 25, 1999 that covered the period ended June 30, 1999. The Company sold subprime mortgage loans on a whole loan basis during the first six months of 1999 and 1998. Whole loans are generally sold without recourse to third parties with the gain or loss being calculated based on the difference between the carrying value of the loans sold and the gross proceeds received from the purchaser less expenses. Generally, no interest in these loans is retained by the Company. 17 18 A reconciliation of the gain on subprime mortgage whole loan sales for the periods indicated follows:
($ IN THOUSANDS) FOR THE SIX MONTHS ENDED JUNE 30, --------------------------------- 1999 1998 --------- --------- Gross proceeds on whole loan sales of subprime mortgage loans $ 204,317 $ 96,577 Initial acquisition cost of subprime mortgage loans sold, net of fees 196,867 89,719 --------- --------- Unadjusted gain on whole loan sales of subprime mortgage loans 7,450 6,858 Net deferred costs and administrative fees recognized (2,134) -- --------- --------- Net gain on whole loan sales of subprime mortgage loans $ 5,316 $ 6,858 ========= =========
The $1.5 million decrease in the net gain on whole loan sales of subprime mortgage loans from the first six months of 1998 gain of $6.9 million to $5.3 million reported for the first six months of 1999 is primarily due to compressed margins in the subprime market during the first six months of 1999. Also, in response to the growth in the subprime division, management reassessed its application of estimates related to Statement of Financial Accounting Standard No. 91, "Accounting for Nonrefundable Fees and Costs Associated with Originating or Acquiring Loans and Initial Direct Costs of Leases" in the third quarter of 1998. This resulted in a $2.1 million reduction in the net gain on whole loan sales of subprime mortgage loans in the first six months of 1999. Had this application occurred at June 30, 1998 approximately $0.8 million in net cost and administrative fees also would have been deferred during that six month period. A summary of key information relevant to the subprime residual assets is set forth below:
($ IN THOUSANDS) SECURITIZATIONS -------------------------------------------------------------- -------- -------- 1997-1 1997-2 1998-1 1998-2 1999-1 OTHER TOTAL -------- -------- -------- -------- -------- -------- -------- Residual Certificates: Balance at December 31, 1998 $ 7,997 $ 9,702 $ 10,815 $ 12,569 $ -- $ 4,700 $ 45,783 Initial Capitalization of Residual Certificates -- -- -- -- 8,867 -- 8,867 Accretion income 582 633 641 736 -- 363 2,955 Mark to market (602) (92) 212 226 (648) (3,063) (3,967) Cash Flow (1,161) (1,581) -- -- -- -- (2,742) -------- -------- -------- -------- -------- -------- -------- Balance at June 30, 1999 $ 6,816 $ 8,662 $ 11,668 $ 13,531 $ 8,219 $ 2,000 $ 50,896 ======== ======== ======== ======== ======== ======== ========
Other Income The Company generally retains residual certificates in connection with the securitization of subprime loans. These residual certificates are adjusted to approximate market value each quarter. For the six months ended June 30, 1999 and June 30, 1998, respectively, mark-to-market gain (loss) on residuals was approximately ($2.1) million and $0.1 million, respectively. This amount is reflected as other income (loss) within the subprime division. Mark to market adjustments on the residuals were the primary reason for the $1.7 million decline in other income for the six months ended June 30, 1999 as compared to the six months ended June 30, 1998. General and Administrative Expenses General and administrative expenses increased by $2.3 million when comparing the first six months of 1999 with the first six months of 1998. This is primarily attributable to an increase in subprime loan provision expense of $0.9 million and a 47% increase in subprime production. 18 19 AGENCY-ELIGIBLE MORTGAGE SERVICING Following is a summary of the revenues and expenses allocated to the Company's agency-eligible mortgage servicing operations for the six months ended June 30, 1999 and 1998:
($ IN THOUSANDS) FOR THE SIX MONTHS ENDED JUNE 30, -------------------------------- 1999 1998 ------------ ------------ Net interest expense $ (2,383) $ -- Loan servicing fees 22,242 17,230 Other income 344 141 ------------ ------------ Servicing revenues 20,203 17,371 ------------ ------------ Salary and employee benefits 1,805 1,648 Occupancy expense 207 218 Amortization and provision for impairment of mortgage servicing rights 17,320 11,649 General and administrative expenses 3,478 3,117 ------------ ------------ Total loan servicing expenses 22,810 16,632 ------------ ------------ Net pre-tax servicing margin (2,607) 739 Gain on sale of mortgage servicing rights 4,823 1,080 ============ ============ Net pre-tax servicing contribution $ 2,216 $ 1,819 ============ ============ Average servicing portfolio $ 10,004,227 $ 8,519,521 Servicing sold 6,104,726 4,804,235 Net pre-tax servicing margin to average servicing portfolio (5) bps 2 bps Gain on sale of servicing to servicing sold 8 bps 2 bps
Summary The ratio of net pre-tax servicing margin to the average servicing portfolio declined seven basis points primarily due to the allocation of net interest expense to the agency-eligible servicing division, which began during the first quarter of 1999. Had the $2.4 million in interest expense not been allocated to the agency-eligible servicing division in the first six months of 1999, the net pre-tax servicing margin to average servicing portfolio would have been (1) basis point. The six basis point increase in the gain on sale of servicing sold is primarily attributable to better execution of servicing sales in the marketplace. Loan servicing fees were $22.2 million for the first six months of 1999, compared to $17.2 million for the first six months of 1998, an increase of 29%. This increase is primarily related to an increase in the average aggregate underlying unpaid principal balance of mortgage loans serviced to $10.0 billion during the first six months of 1999 from $8.5 billion during the first six months of 1998, an increase of 17%. Similarly, amortization and provision for impairment of mortgage servicing rights also increased to $17.3 million during the first six months of 1999 from $11.6 million during the first six months of 1998, an increase of 49%. The increase in amortization is primarily attributable to the growth in the average balance of mortgage loans serviced as well as a $0.9 million increase in the provision for potential impairment of mortgage servicing rights. Given current market conditions, management regularly assesses market prepay trends and adjusts amortization accordingly. Management believes that the value of mortgage servicing 19 20 rights are reasonable in light of current market conditions. However, there can be no guarantee that market conditions will not change such that mortgage servicing right valuations will require additional amortization or impairment charges. Net Interest Expense During the first six months of 1999, the Company began to allocate interest expense to the agency-eligible servicing division. The net interest expense is comprised of benefits on escrow accounts of $4.1 million that is offset by $6.5 million in allocated interest expense. Had the Company allocated interest expense to the agency-eligible servicing division during the first six months of 1998, net interest expense would have been $4.2 million. The net interest expense would have been comprised of benefit from escrows of $6.8 million that would have been offset by $11.0 million in interest expense. Gain on Sale of Mortgage Servicing Rights A reconciliation of the components of gain on sale of mortgage servicing rights for the periods indicated follows:
($ IN THOUSANDS) FOR THE SIX MONTHS ENDED JUNE 30, --------------------------------- 1999 1998 ----------- ----------- Underlying unpaid principal balances of agency-eligible mortgage loans on which servicing rights were sold during the period $ 6,104,726 $ 4,804,235 =========== =========== Gross proceeds from sales of mortgage servicing rights $ 163,046 $ 110,661 Initial acquisition basis, net of amortization and hedge results 118,942 85,940 ----------- ----------- Unadjusted gain on sale of mortgage servicing rights 44,104 24,721 Acquisition basis allocated from mortgage loans, net of amortization (SFAS No. 125) (39,281) (23,641) ----------- ----------- Gain on sale of mortgage servicing rights $ 4,823 $ 1,080 =========== ===========
Gain on sale of mortgage servicing rights increased $3.7 million from $1.1 million for the first six months of 1998 to $4.8 million for the first six months of 1999. The increase in the gain on sale of mortgage servicing rights is primarily attributable to rising mortgage interest rates and to the increase in volume sold, which benefited execution of servicing sales into the secondary markets. COMMERCIAL MORTGAGE OPERATIONS Following is a summary of the revenues and expenses allocated to the Company's commercial mortgage production operations. 20 21
FOR THE SIX MONTHS ENDED JUNE 30, --------------------------------- ($ IN THOUSANDS) 1999 1998 ----------- ----------- Net interest income $ 214 $ 260 Net gain on sale of mortgage loans 3,025 3,482 Other income 31 (2) ----------- ----------- Total production revenue 3,270 3,740 ----------- ----------- Salary and employee benefits 3,248 2,920 Occupancy expense 541 389 General and administrative expenses 933 843 ----------- ----------- Total production expenses 4,722 4,152 ----------- ----------- Net pre-tax production margin (1,452) (412) ----------- ----------- Servicing fees 2,133 1,812 Amortization of mortgage servicing rights 982 654 ----------- ----------- Net pre-tax servicing margin 1,151 1,158 ----------- ----------- Pre-tax income $ (301) $ 746 ----------- ----------- Production $ 308,102 $ 362,622 Whole loan sales 320,627 362,622 Average commercial mortgage servicing portfolio 3,591,677 $ 2,862,729 Total production revenue to whole loan sales 102 bps 103 bps Total production expenses to production 153 bps 114 bps ----------- ----------- Net pre-tax production margin (51)bps (11) bps ----------- ----------- Servicing fees to average commercial mortgage servicing portfolio 12 bps 13 bps Amortization of mortgage servicing rights to average commercial mortgage servicing portfolio 6 bps 5 bps ----------- ----------- Net pre-tax servicing margin 6 bps 8 bps ----------- -----------
Laureate originates commercial mortgage loans for various insurance companies and other investors, primarily in Alabama, Florida, Indiana, North Carolina, Pennsylvania, South Carolina, Tennessee and Virginia. Substantially all loans originated by Laureate have been originated in the name of the investor, and in most cases, Laureate has retained the right to service the loans under a servicing agreement with the investor. Most commercial mortgage loan servicing agreements are short-term, and retention of the servicing contract is dependent on maintaining the investor relationship. Net Gain on Sale of Commercial Mortgage Loans A reconciliation of gain on sale of commercial mortgage loans for the periods indicated follows: 21 22
($ IN THOUSANDS) FOR THE SIX MONTHS ENDED JUNE 30, --------------------------------- 1999 1998 -------- -------- Gross proceeds on sales of commercial mortgage loans $320,627 $362,622 Initial unadjusted acquisition cost of commercial mortgage loans sold 320,627 362,622 -------- -------- Unadjusted gain on sale of commercial mortgage loans -- -- Commercial mortgage and origination fees 2,312 2,981 -------- -------- Unadjusted aggregate margin 2,312 2,981 Initial acquisition cost allocated to basis in commercial mortgage servicing rights (SFAS No. 125) 713 501 -------- -------- Net gain on sale of commercial mortgage loans $ 3,025 $ 3,482 ======== ========
The net gain on sale of commercial mortgage loans decreased $0.5 million (13%) from $3.5 million for the first six months of 1998 to $3.0 million for the first six months of 1999. The decrease is primarily attributable to the 12% decline in the volume sold for the first six months of 1999 as compared to the first six months of 1998. LEASING OPERATIONS Following is a summary of the revenues and expenses allocated to the Company's small-ticket equipment leasing operations for the periods indicated:
FOR THE SIX MONTHS ENDED JUNE 30, --------------------------------- ($ IN THOUSANDS) 1999 1998 --------- --------- Net interest income $ 3,389 $ 1,982 Other income 534 425 --------- --------- Leasing production revenue 3,923 2,407 --------- --------- Salary and employee benefits 1,353 1,030 Occupancy expense 214 166 General and administrative expenses 1,356 1,264 --------- --------- Total lease operating expenses 2,923 2,460 --------- --------- Net pre-tax leasing production margin 1,000 (53) --------- --------- Servicing fees 327 509 --------- --------- Net pre-tax leasing margin $ 1,327 $ 456 --------- --------- Average owned leasing portfolio $ 110,948 $ 59,129 Average serviced leasing portfolio 30,623 62,595 --------- --------- Average managed leasing portfolio $ 141,571 $ 121,724 ========= ========= Leasing production revenue to average owned portfolio 707 bps 814 bps Leasing operating expenses to average owned portfolio 527 bps 832 bps --------- --------- Net pre-tax leasing production margin 180 bps (18)bps ========= ========= Servicing fees to average serviced leasing portfolio 214 bps 163 bps
22 23 Substantially all of the Company's lease receivables are acquired from independent brokers who operate throughout the continental United States and referrals from independent banks. The Company has made an effort to increase the owned portfolio. As it has increased its owned portfolio more cost efficiencies have been achieved thereby increasing the net pre-tax leasing production margin. Net Interest Income Net interest income for the first six months of 1999 was $3.4 million as compared to $2.0 million for the first six months of 1998. This is an annualized net interest margin of 4.29% and 3.74% for the first six months of 1999 and the first six months of 1998, respectively, based upon average lease receivables owned of $110.9 million and $59.1 million, respectively, and average debt outstanding of $91.5 and $34.4 million, respectively. RESULTS OF OPERATIONS - QUARTER ENDED JUNE 30, 1999 COMPARED TO QUARTER ENDED JUNE 30, 1998 SUMMARY BY OPERATING DIVISION Net income per common share on a diluted basis for the second quarter of 1999 was $0.16 as compared to $0.56 for the second quarter of 1998. This 71% decrease in net income per common share was less than the 76% decrease in net income primarily due to the impact of the Company's stock repurchase program which reduced the number of weighted average shares outstanding across comparative periods. Following is a summary of the allocated revenues and expenses for each of the Company's operating divisions for the second quarter ended June 30, 1999 and 1998, respectively:
($ IN THOUSANDS) RESIDENTIAL --------------------------------- MORTGAGE PRODUCTION -------------------- AGENCY - AGENCY - ELIGIBLE COMMERCIAL FOR THE QUARTER ENDED JUNE 30, 1999(*) ELIGIBLE SUBPRIME SERVICING MORTGAGE LEASING OTHER CONSOLIDATED - -------------------------------------- -------- -------- --------- ---------- -------- -------- ------------ Net interest income $ 2,508 $ 3,983 $ (994) $ 120 $ 1,744 $ 62 $ 7,423 Net gain on sale of mortgage loans 16,885 7,517 1,786 26,188 Gain on sale of mortgage servicing rights 1,825 1,825 Servicing fees 10,539 1,158 166 134 11,997 Other income (276) (627) 183 20 383 5 (312) -------- -------- -------- -------- -------- -------- -------- Total revenues 19,117 10,873 11,553 3,084 2,293 201 47,121 -------- -------- -------- -------- -------- -------- -------- Salary and employee benefits 9,950 3,483 907 1,510 713 151 16,714 Occupancy expense 2,264 669 100 278 110 44 3,465 Amortization and provision for impairment of mortgage servicing rights 8,887 518 9,405 General and administrative expenses 7,006 2,390 1,700 503 603 18 12,220 -------- -------- -------- -------- -------- -------- -------- Total expenses 19,220 6,542 11,594 2,809 1,426 213 41,804 -------- -------- -------- -------- -------- -------- -------- Income before income taxes (103) 4,331 (41) 275 867 (12) 5,317 Income tax expense 5 (1,546) 10 (128) (351) 29 (1,981) -------- -------- -------- -------- -------- -------- -------- Net income $ (98) $ 2,785 $ (31) $ 147 $ 516 $ 17 $ 3,336 ======== ======== ======== ======== ======== ======== ========
23 24
($ IN THOUSANDS) RESIDENTIAL -------------------------------- MORTGAGE PRODUCTION -------------------- AGENCY - AGENCY - ELIGIBLE COMMERCIAL FOR THE QUARTER ENDED JUNE 30, 1998(*) ELIGIBLE SUBPRIME SERVICING MORTGAGE LEASING OTHER CONSOLIDATED - -------------------------------------- -------- -------- --------- ---------- -------- -------- ------------ Net interest income $ 2,133 $ 2,066 $ 131 $ 1,036 $ 93 $ 5,459 Net gain on sale of mortgage loans 35,724 7,211 1,520 44,455 Gain on sale of mortgage servicing rights $ 452 452 Servicing fees 9,110 897 241 164 10,412 Other income 1,608 (258) 48 (4) 206 323 1,923 -------- -------- -------- -------- -------- -------- -------- Total revenues 39,465 9,019 9,610 2,544 1,483 580 62,701 -------- -------- -------- -------- -------- -------- -------- Salary and employee benefits 13,690 4,290 820 1,399 477 172 20,848 Occupancy expense 1,720 499 98 203 86 45 2,651 Amortization and provision for impairment of mortgage servicing rights 6,347 327 6,674 General and administrative expenses 6,803 1,163 1,597 427 677 201 10,868 -------- -------- -------- -------- -------- -------- -------- Total expenses 22,213 5,952 8,862 2,356 1,240 418 41,041 -------- -------- -------- -------- -------- -------- -------- Income before income taxes 17,252 3,067 748 188 243 162 21,660 Income tax expense (6,983) (998) (303) (70) (107) (87) (8,548) -------- -------- -------- -------- -------- -------- -------- Net income $ 10,269 $ 2,069 $ 445 $ 118 $ 136 $ 75 $ 13,112 ======== ======== ======== ======== ======== ======== ========
*Revenues and expenses have been allocated on a direct basis to the extent possible. Corporate overhead expenses have been allocated to agency-eligible mortgage production. Management believes that these and all other revenues and expenses have been allocated to the respective divisions on a reasonable basis. AGENCY-ELIGIBLE MORTGAGE OPERATIONS Following is a comparison of the revenues and expenses allocated to the Company's agency-eligible mortgage production operations.
($ IN THOUSANDS) FOR THE QUARTER ENDED JUNE 30, ------------------------------ 1999 1998 ----------- ----------- Net interest income $ 2,508 $ 2,133 Net gain on sale of mortgage loans 16,885 35,724 Other income (276) 1,608 ----------- ----------- Total production revenue 19,117 39,465 ----------- ----------- Salary and employee benefits 9,950 13,690 Occupancy expense 2,264 1,720 General and administrative expenses 7,006 6,803 ----------- ----------- Total production expenses 19,220 22,213 ----------- ----------- Net pre-tax production margin $ (103) $ 17,252 ----------- ----------- Production $ 2,136,412 $ 3,588,867 Pool delivery 2,292,046 3,851,991 Total production revenue to pool delivery 83 bps 102 bps Total production expenses to production 90 bps 62 bps ----------- ----------- Net pre-tax production margin (7) bps 40 bps =========== ===========
24 25 Summary The production revenue to pool delivery ratio decreased 19 basis points, or 19%, for the second quarter of 1999 as compared to the second quarter of 1998. Generally, net gain on sale of mortgage loans (74 basis points for 1999 versus 93 basis points for 1998) declined primarily due to compressed margins attributable to an aggressive competitive pricing environment in the correspondent channel and lower overall agency-eligible production volume. Net interest income increased from 6 basis points in 1998 to 11 basis points in 1999 primarily as a result of the generally steeper yield curve environment. The production expenses to production ratio increased 28 basis points, or 45%, for the second quarter of 1999 as compared to the second quarter of 1998. As a consequence of the foregoing, the Company's net agency-eligible pre-tax production margin decreased 47 basis point, or 118%, to (7) basis points while in absolute dollars it decreased $17.4 million, or 101%. Net Interest Income The following table analyzes net interest income allocated to the Company's agency-eligible mortgage production activities in terms of rate and volume variances of the interest spread (the difference between interest rates earned on loans and mortgage-backed securities and interest rates paid on interest-bearing sources of funds) for the quarter ended June 30, 1999 and 1998, respectively.
($ IN THOUSANDS) VARIANCE AVERAGE VOLUME AVERAGE RATE INTEREST ATTRIBUTABLE TO -------------------------------------------- ------------------ ----------------- 1999 1998 1999 1998 1999 1998 VARIANCE RATE VOLUME -------------------------------------------- ------------------------------------------------ Interest Income Mortgages Held for Sale and $727,722 $1,217,037 6.53% 7.05% Mortgage-Backed Securities $11,874 $21,461 $(9,587) $ (959) $(8,628) -------------------------------------------- ------------------------------------------------ Interest Expense $337,058 $ 446,797 2.93% 4.67% Warehouse Line $ 2,460 $ 5,200 $(2,740) $(1,463) $(1,277) 380,946 738,672 5.14% 5.91% Gestation Line 4,882 10,884 (6,002) (731) (5,271) 112,631 98,038 5.79% 6.89% Servicing Secured Line 1,625 1,684 (59) (310) 251 31,283 30,066 5.23% 5.86% Servicing Receivables Line 408 439 (31) (49) 18 7,025 6,927 8.16% 7.59% Other Borrowings 143 131 12 10 2 Facility Fees & Other Charges 698 990 (292) (292) -------------------------------------------- ------------------------------------------------ $868,943 $1,320,500 4.72% 5.87% Total Interest Expense $10,216 $19,328 $(9,112) $(2,543) $(6,569) -------------------------------------------- ------------------------------------------------ Net Interest Income Before 1.81% 1.18% Interdivisional Allocations $ 1,658 $ 2,133 $ (475) $ 1,584 $(2,059) =============== ================================================ Allocation to Agency-Eligible Servicing Division 850 N/A ------------------ Net Interest Income $ 2,508 $ 2,133 ==================
Net interest income before interdivisional allocations from agency-eligible production decreased 22% to $1.7 million for the second quarter of 1999 compared to $2.1 million for the second quarter of 1998. The 63 basis point increase in the interest-rate spread was primarily the result of the steeper yield curve environment in the second quarter of 1999 compared to the second quarter of 1998. The Company's mortgages and mortgage-backed securities are generally sold and replaced within 30 to 35 days. Accordingly, the Company generally borrows at rates based upon short-term indices, while its asset yields are primarily based upon long-term mortgage rates. 25 26 Net Gain on Sale of Agency-eligible Mortgage Loans A reconciliation of gain on sale of agency-eligible mortgage loans for the periods indicated follows:
($ IN THOUSANDS) FOR THE QUARTER ENDED JUNE 30, ------------------------------ 1999 1998 ----------- ----------- Gross proceeds on sales of mortgage loans $ 2,297,236 $ 3,877,635 Initial unadjusted acquisition cost of mortgage loans sold, net of hedge results 2,298,209 3,875,380 ----------- ----------- Unadjusted gain on sale of mortgage loans (973) 2,255 Loan origination and correspondent program administrative fees 4,810 10,866 ----------- ----------- Unadjusted aggregate margin 3,837 13,121 Acquisition basis allocated to mortgage servicing rights (SFAS No. 125) 13,433 23,216 Net change in deferred administrative fees (385) (613) ----------- ----------- Net gain on sale of agency-eligible mortgage loans $ 16,885 $ 35,724 =========== ===========
Net gain on sale of agency-eligible mortgage loans decreased $18.8 million (53%) from $35.7 million for the second quarter of 1998 to $16.9 million for the second quarter of 1999. The decrease is primarily due to compressed margins attributable to an aggressive competitive pricing environment in the correspondent channel and lower overall agency-eligible production volume. Salary and Employee Benefits Salary and Employee Benefits for the quarter ended June 30, 1999 declined $3.7 million or 27% as compared to the quarter ended June 30, 1998. This production decline led to declines in variable compensation costs such as commissions, incentives, overtime, and contract labor. The 1998 salary and employee benefits cost also includes costs from the retail production franchise prior to the May 1, 1998 sale. 26 27 SUBPRIME MORTGAGE OPERATIONS Following is an analysis of the revenues and expenses allocated to the Company's subprime mortgage production operations:
($ IN THOUSANDS) FOR THE QUARTER ENDED JUNE 30, ------------------------------ 1999 1998 --------- --------- Net interest income $ 3,983 $ 2,066 Net gain on sale of mortgage loans 7,517 7,211 Other income (loss) (627) (258) --------- --------- Total production revenue 10,873 9,019 --------- --------- Salary and employee benefits 3,483 4,290 Occupancy expense 669 499 General and administrative expenses 2,390 1,163 --------- --------- Total production expenses 6,542 5,952 --------- --------- Net pre-tax production margin $ 4,331 $ 3,067 ========= ========= Production $ 185,744 $ 146,146 Whole loan sales and securitizations 224,286 128,268 Total production revenue to whole loan sales and securitizations 485 bps 703 bps Total production expenses to production 352 bps 407 bps --------- --------- Net pre-tax production margin 133 bps 296 bps ========= =========
Summary During the second quarter of 1999, the Company produced $185.7 million of subprime loans and sold $98.2 million in whole loan transactions and delivered $126.1 million in the secondary markets through securitization transactions. Overall, the subprime division operated during the second quarter of 1999 at a 1.33% pre-tax production margin. At June 30, 1999, the Company had unsold subprime mortgage loans of $145.1 million. The pretax margin decline of 163 basis points from the quarter ended June 30, 1999, to the quarter ended June 30, 1998, is primarily attributed to a 227 basis point decline in the gain on sale of subprime mortgage loans. This decline is primarily attributed to compressed margins in the subprime market during the second quarter of 1999. Net Interest Income The following table analyzes net interest income allocated to the Company's subprime mortgage production activities in terms of rate and volume variances of the interest spread (the difference between interest rates earned on loans and residual certificates and interest rates paid on interest-bearing sources of funds) for the quarter ended June 30, 1999 and 1998, respectively. 27 28
($ in thousands) Variance Average Volume Average Rate Interest Attributable to - ----------------------------------- -------------- --------------- 1999 1998 1999 1998 1999 1998 Variance Rate Volume - ----------------------------------- ---------------------------------------- INTEREST INCOME Mortgages Held for Sale and $259,927 $140,149 10.14% 9.83% Residual Certificates $6,590 $3,445 $3,145 $ 201 $2,944 - ----------------------------------- ---------------------------------------- INTEREST EXPENSE $197,577 $ 94,883 5.58% 5.83% Total Interest Expense $2,751 $1,379 $1,372 $(121) 1,493 - ----------------------------------- ---------------------------------------- Net Interest Income Before Interdivisional Allocations 3,839 2,066 $1,773 $ 322 $1,451 ---------------------------------------- Allocation to Agency-Eligible Servicing Division 144 N/A -------------- 4.56% 4.00% Net Interest Income $3,983 $2,066 ============ ==============
Net interest income from subprime products increased 86% to $3.8 million for the second quarter of 1999 as compared to $2.1 million for the second quarter of 1998. This was primarily the result of the increase in subprime loan production volume and the generally steeper yield curve environment and an increase in accretion income from $0.7 million for the quarter ended June 30, 1998 to $1.5 million for the quarter ended June 30, 1999. Net Gain on Securitization and Sale of Subprime Mortgage Loans A reconciliation of the gain on securitization of subprime mortgage loans for the periods indicated follows:
($ IN THOUSANDS) FOR THE QUARTER ENDED JUNE 30, ------------------------------ 1999 1998 --------- --------- Gross proceeds on securitization of subprime mortgage loans $ 124,242 $ 99,370 Initial acquisition cost of subprime mortgage loans securitized, net of fees 126,043 101,599 --------- --------- Unadjusted loss on securitization of subprime mortgage loans (1,801) (2,229) Initial capitalization of residual certificates 8,867 7,075 Net deferred costs and administrative fees recognized (2,008) N/A --------- --------- Net gain on securitization of subprime mortgage loans $ 5,058 $ 4,846 ========= =========
The Company sold subprime mortgage loans on a whole loan basis during the second quarters of 1999 and 1998. Whole loans are generally sold without recourse to third parties with the gain or loss being calculated based on the difference between the carrying value of the loans sold and the gross proceeds received from the purchaser less expenses. Generally, no interest in these loans is retained by the Company. Also, in response to the growth in the subprime division, management reassessed its application of estimates related to Statement of Financial Accounting Standard No. 91, "Accounting for Nonrefundable Fees and Costs Associated with Originating or Acquiring Loans and Initial Direct Costs of Leases" (SFAS No. 91) in the third quarter of 1998. This resulted in a $2.0 million reduction in the net gain on securitization of subprime mortgage loans in the second quarter of 1999. Had this application occurred at June 30, 1998 approximately $0.7 million in net costs and administrative fees also would have been deferred during the second quarter of 1998. 28 29 A reconciliation of the gain on subprime mortgage whole loan sales for the periods indicated follows:
($ IN THOUSANDS) FOR THE QUARTER ENDED JUNE 30, ------------------------------ 1999 1998 --------- --------- Gross proceeds on whole loan sales of subprime mortgage loans $ 102,267 $ 30,620 Initial acquisition cost of subprime mortgage loans sold, net of fees 98,243 28,255 --------- --------- Unadjusted gain on whole loan sales of subprime mortgage loans 4,024 2,365 Net change in costs and deferred administrative fees recognized (1,565) N/A --------- --------- Net gain on whole loan sales of subprime mortgage loans $ 2,459 $ 2,365 ========= =========
The Company reported only a slight increase ($0.1 million) in the net gain on whole loan sales of subprime mortgage loans primarily due to compressed margins in the subprime market during the second quarter of 1999. As part of the reassessment of the application of estimates related to SFAS No. 91 in the third quarter of 1998, a $1.6 million reduction in the net gain on whole loan sales of subprime mortgage loans was taken in the second quarter of 1999. Had this application occurred at June 30, 1998 approximately $0.2 million in net costs and administrative fees also would have been deferred during the second quarter of 1998. Other Income The Company generally retains residual certificates in connection with the securitization of subprime loans. These residual certificates are adjusted to approximate market value each quarter. For the quarters ended June 30, 1999 and June 30, 1998, respectively, mark-to-market gain (loss) on residuals was approximately $(0.8) million and $0.5 million, respectively. This amount is reflected as other income (loss) within the subprime division. AGENCY-ELIGIBLE MORTGAGE SERVICING Following is a summary of the revenues and expenses allocated to the Company's agency-eligible mortgage servicing operations for the quarters ended June 30, 1999 and 1998: 29 30
($ IN THOUSANDS) FOR THE QUARTER ENDED JUNE 30, ------------------------------ 1999 1998 ----------- ----------- Net interest expense $ (994) $ -- Loan servicing fees 10,539 9,110 Other income 183 48 ----------- ----------- Servicing revenues 9,728 9,158 ----------- ----------- Salary and employee benefits 907 820 Occupancy expense 100 98 Amortization and provision for impairment of mortgage servicing rights 8,887 6,347 General and administrative expenses 1,700 1,597 ----------- ----------- Total loan servicing expenses 11,594 8,862 ----------- ----------- Net pre-tax servicing margin (1,866) 296 Gain on sale of mortgage servicing rights 1,825 452 ----------- ----------- Net pre-tax servicing contribution $ (41) $ 748 =========== =========== Average servicing portfolio $ 9,623,230 $ 9,107,296 Servicing sold 3,101,473 2,269,219 Net pre-tax servicing margin to average servicing portfolio (8) bps 1 bps Gain on sale of servicing to servicing sold 6 bps 2 bps
Summary The ratio of net pre-tax servicing margin to the average servicing portfolio declined nine basis points primarily due to the allocation of net interest expense to the agency-eligible servicing division, which began during the first quarter of 1999. Had the $(1.0) million in interest expense not been allocated to the agency-eligible servicing division in the second quarter of 1999, the net pre-tax servicing margin to average servicing portfolio would have been (4) basis points. The 4 basis point increase in the gain on sale of servicing sold is primarily attributable to better execution of servicing sales in the marketplace. Loan servicing fees were $10.5 million for the second quarter of 1999, compared to $9.1 million for the second quarter of 1998, an increase of 16%. This increase is primarily related to an increase in the average aggregate underlying unpaid principal balance of mortgage loans serviced to $9.6 billion during the second quarter of 1999 from $9.1 billion during the second quarter of 1998, an increase of 6%. Similarly, amortization and provision for impairment of mortgage servicing rights also increased to $8.9 million during the second quarter of 1999 from $6.3 million during the second quarter of 1998, an increase of 40%. The increase in amortization is primarily attributable to the growth in the average balance of the mortgage loans serviced as well as a $0.9 million increase in the provision for potential impairment of mortgage servicing rights. Given current market conditions, management regularly assesses market prepay trends and adjusts amortization accordingly. Management believes that the value of mortgage servicing rights are reasonable in light of current market conditions. However, there can be no guarantee that market conditions will not change such that mortgage servicing right valuations will require additional amortization or impairment charges. 30 31 Net Interest Expense During the second quarter of 1999, the Company began to allocate interest expense to the agency-eligible servicing division. The net interest expense is comprised of benefits on escrow accounts of $2.1 million that is offset by $3.1 million in allocated interest expense. Gain on Sale of Mortgage Servicing Rights A reconciliation of the components of gain on sale of mortgage servicing rights for the periods indicated follows:
($ IN THOUSANDS) FOR THE QUARTER ENDED JUNE 30, ------------------------------ 1999 1998 ----------- ----------- Underlying unpaid principal balances of agency-eligible mortgage loans on which servicing rights were sold during the period $ 3,101,473 $ 2,269,219 =========== =========== Gross proceeds from sales of mortgage servicing rights $ 84,158 $ 54,294 Initial acquisition basis, net of amortization and hedge results 62,000 42,909 ----------- ----------- Unadjusted gain on sale of mortgage servicing rights 22,158 11,385 Acquisition basis allocated from mortgage loans, net of amortization (SFAS No. 125) (20,333) (10,933) ----------- ----------- Gain on sale of mortgage servicing rights $ 1,825 $ 452 =========== ===========
Gain on sale of mortgage servicing rights increased $1.4 million from $0.5 million for the second quarter of 1998 to $1.8 million for the second quarter of 1999. The increase in the gain on sale of mortgage servicing rights is primarily attributable to rising rates and the increase in volume sold, which benefited the current quarter's execution of servicing sales into the secondary markets. COMMERCIAL MORTGAGE OPERATIONS Following is a summary of the revenues and expenses allocated to the Company's commercial mortgage production operations: 31 32
FOR THE QUARTER ENDED JUNE 30, ------------------------------ ($ IN THOUSANDS) 1999 1998 ----------- ----------- Net interest income $ 120 $ 131 Net gain on sale of mortgage loans 1,786 1,520 Other income 20 (4) ----------- ----------- Total production revenue 1,926 1,647 ----------- ----------- Salary and employee benefits 1,510 1,399 Occupancy expense 278 203 General and administrative expenses 503 427 ----------- ----------- Total production expenses 2,291 2,029 ----------- ----------- Net pre-tax production margin (365) (382) ----------- ----------- Servicing fees 1,158 897 Amortization of mortgage servicing rights 518 327 ----------- ----------- Net pre-tax servicing margin 640 570 ----------- ----------- Pre-tax income $ 275 $ 188 ----------- ----------- Production $ 157,950 $ 170,107 Whole loan sales 155,365 170,107 Average commercial mortgage servicing portfolio 3,807,645 $ 2,907,213 Total production revenue to whole loan sales 124 bps 97 bps Total production expenses to production 145 bps 119 bps ----------- ----------- Net pre-tax production margin (21)bps (22) bps ----------- ----------- Servicing fees to average commercial mortgage servicing portfolio 12 bps 12 bps Amortization of mortgage servicing rights to average commercial mortgage servicing portfolio 5 bps 4 bps ----------- ----------- Net pre-tax servicing margin 7 bps 8 bps ----------- -----------
Laureate originates commercial mortgage loans for various insurance companies and other investors, primarily in Alabama, Florida, Indiana, North Carolina, Pennsylvania, South Carolina, Tennessee and Virginia. Substantially all loans originated by Laureate have been originated in the name of the investor, and in most cases, Laureate has retained the right to service the loans under a servicing agreement with the investor. Most commercial mortgage loan servicing agreements are short-term, and retention of the servicing contract is dependent on maintaining the investor relationship. Net Gain on Sale of Commercial Mortgage Loans A reconciliation of gain on sale of commercial mortgage loans for the periods indicated follows: 32 33
($ IN THOUSANDS) FOR THE QUARTER ENDED JUNE 30, ------------------------------ 1999 1998 -------- -------- Gross proceeds on sales of commercial mortgage loans $155,365 $170,107 Initial unadjusted acquisition cost of commercial mortgage loans sold 155,365 170,107 -------- -------- Unadjusted gain on sale of commercial mortgage loans N/A N/A Commercial mortgage and origination fees 1,463 1,316 -------- -------- Unadjusted aggregate margin 1,463 1,316 Initial acquisition cost allocated to basis in commercial mortgage servicing rights (SFAS No. 125) 323 204 -------- -------- Net gain on sale of commercial mortgage loans $ 1,786 $ 1,520 ======== ========
The net gain on sale of commercial mortgage loans increased $0.3 million (18%) from $1.5 million for the second quarter of 1998 to $1.8 million for the second quarter of 1999. The increase is primarily attributable to slightly higher margins on sales of commercial mortgage loans during the second quarter of 1999. LEASING OPERATIONS Following is a summary of the revenues and expenses allocated to the Company's small-ticket equipment leasing operations for the periods indicated:
FOR THE QUARTER ENDED JUNE 30, ------------------------------ ($ IN THOUSANDS) 1999 1998 -------- -------- Net interest income $ 1,744 $ 1,036 Other income 383 206 -------- -------- Leasing production revenue 2,127 1,242 -------- -------- Salary and employee benefits 713 477 Occupancy expense 110 86 General and administrative expenses 603 677 -------- -------- Total lease operating expenses 1,426 1,240 -------- -------- Net pre-tax leasing production margin 701 2 -------- -------- Servicing fees 166 241 -------- -------- Net pre-tax leasing margin $ 867 $ 243 -------- -------- Average owned leasing portfolio $117,344 $ 62,702 Average serviced leasing portfolio 27,215 59,249 -------- -------- Average managed leasing portfolio $144,559 $121,951 ======== ======== Leasing production revenue to average owned portfolio 725 bps 792 bps Leasing operating expenses to average owned portfolio 486 bps 791 bps -------- -------- Net pre-tax leasing production margin 239 bps 1 bps ======== ======== Servicing fees to average serviced leasing portfolio 243 bps 163 bps
33 34 Substantially all of the Company's lease receivables are acquired from independent brokers who operate throughout the continental United States and referrals from independent banks. The Company has made an effort to increase the owned portfolio. As it has increased its owned portfolio more cost efficiencies have been achieved thereby increasing the net pre-tax leasing production margin. Net Interest Income Net interest income for the second quarter of 1999 was $1.7 million as compared to $1.0 million for the second quarter of 1998. This is an annualized net interest margin of 2.72% and 3.6% for the second quarter of 1999 and the second quarter of 1998, respectively, based upon average lease receivables owned of $117.3 million and $62.7 million, respectively, and average debt outstanding of $80.3 and $38.6 million, respectively. 34 35 FINANCIAL CONDITION During second quarter of 1999, the Company experienced a 28% decrease in the volume of production originated and acquired compared to first quarter 1999. Production decreased to $2.5 billion during second quarter of 1999 from $3.5 billion during first quarter 1999. The June 30, 1999, locked residential mortgage application pipeline (mortgage loans not yet closed but for which the interest rate has been locked) was approximately $0.6 billion and the application pipeline (mortgage loans for which the interest rate has not yet been locked) was approximately $0.3 billion. Mortgage loans held-for-sale and mortgage-backed securities totaled $0.8 billion at June 30, 1999, versus $1.4 billion at December 31, 1998, a decrease of 45%. The Company's servicing portfolio (exclusive of loans under subservicing agreements) decreased to $8.4 billion at June 30, 1999, from $9.9 billion at December 31, 1998. Short-term borrowings, which are the Company's primary source of funds, totaled $1.0 billion at June 30, 1999, compared to $1.6 billion at December 31, 1998, a decrease of 39%. The decrease in the balance outstanding at June 30, 1999, resulted from decreased funding requirements related to the decrease in the balance of mortgage loans held-for-sale and mortgage-backed securities. Other liabilities totaled $118 million as of June 30, 1999, compared to the December 31, 1998 balance of $115 million, a decrease of 3%. The Company continues to face the same challenges as other companies within the mortgage banking industry and as such is not immune from significant volume declines precipitated by a rise in interest rates or other factors beyond the Company's control. LIQUIDITY AND CAPITAL RESOURCES The Company's primary cash-flow requirement involves the funding of loan production, which is met primarily through external borrowings. In August 1999 the Company and its wholly owned subsidiaries RBMG, Inc. and Meritage Mortgage Corporation, RBMG Asset Management Company, Inc. (not including the Company, the Restricted Group), have entered into a $540 million warehouse line of credit provided by a syndicate of unaffiliated banks that expires in July 2000. The credit agreement includes covenants requiring the Restricted Group to maintain (i) a minimum net worth of $170 million, plus the Restricted Group's net income subsequent to June 30, 1999, plus 90% of capital contributions to the Restricted Group and minus restricted payments, (ii) a ratio of total Restricted Group liabilities to tangible net worth of not more than 8.0 to 1.0, excluding debt incurred pursuant to gestation and repurchase financing agreements, (iii) RBMG, Inc.'s eligibility as a servicer of Ginnie Mae, FHA, VA, Fannie Mae and Freddie Mac mortgage loans and (iv) a mortgage servicing rights portfolio with an underlying unpaid principal balance of at least $5 billion. The provisions of the agreement also restrict the Restricted Group's ability to engage significantly in any type of business unrelated to the mortgage banking and lending business and the servicing of mortgage loans. 35 36 In August the Company and Restricted Group also entered into a $210 million subprime revolving credit facility and a $250 servicing revolving credit facility, which expire in July 2000. These facilities include covenants identical to those described above with respect to the warehouse line of credit. The Restricted Group was in compliance with the debt covenants in place at June 30, 1999 on a proforma basis. Although management anticipates continued compliance with current debt convenants, there can be no assurance that the Restricted Group will be able to comply with the debt covenants specified for each of these financing agreements. Failure to comply could result in the loss of the related financing. Asset Management Company, a wholly-owned subsidiary of Meritage Mortgage Corporation, and a bank are parties to a master repurchase agreement, pursuant to the terms of which Asset Management Co. is entitled from time to time to deliver eligible subprime mortgage loans in an aggregate principal amount of up to $150 million to the bank. The master repurchase agreement has been extended through August 31, 1999 and is in the process of being renewed. The Company has entered into an uncommitted gestation financing arrangement. The interest rate on funds borrowed pursuant to the gestation line is based on a spread over the Federal Funds rate. The gestation line has a funding limit of $1.2 billion. The Company entered into a $6.6 million note agreement in May 1997. This debt is secured by the Company's corporate headquarters. The terms of the agreement require the Company to make 120 equal monthly principal and interest payments based upon a fixed interest rate of 8.07%. The note contains covenants similar to those previously described. The Company entered into a $10.0 million unsecured line of credit agreement that expires in July 2000. The interest rate on funds borrowed is based upon prime. Republic Leasing Company, Inc. (RLC), a wholly-owned subsidiary of the Company, has a $200 million credit facility to provide financing for its leasing portfolio. The warehouse credit agreement matures in August 2000 and contains various covenants regarding characteristics of the collateral and the performance of the leases originated and serviced by RLC and that require the Company to maintain a minimum net worth of $60 million and that RLC maintain a ratio of total liabilities to net worth of no more than 10.0 to 1.0. The Company has been repurchasing its stock pursuant to Board authority since March 1998 and as of June 30, 1999 the Company had remaining authority to repurchase up to $3 million of the Company's common stock in either open market transactions or in private or block trades. Decisions regarding the amount and timing of repurchases will be made by management based upon market conditions and other factors. The repurchase authority will enable the Company to repurchase shares to meet the Company's obligations pursuant to existing bonus, stock option, dividend reinvestment and employee stock purchase and ESOP plans. The Company's primary objective is to offset the potentially dilutive effect that option exercises and stock issuances under these plans might otherwise have. Shares repurchased are maintained in the Company's treasury 36 37 account and are not retired. At June 30, 1999, there were 2,713,986 shares held in the Company's treasury account at an average cost of $12.54 per share. DIVISIONAL ANALYSIS OF PRE-TAX FUNDS GENERATED FROM OPERATIONS The analyses which follow are included solely to assist investors in obtaining a better understanding of the material elements of the Company's funds generated by operations at a divisional level. It is intended as a supplement, and not an alternative to, and should be read in conjunction with, the Consolidated Statement of Cash Flows which provides information concerning elements of the Company's cash flows. SUMMARY On a combined divisional basis, during the first six months of 1999 and 1998, the Company generated approximately $46.6 million and $23.6 million, respectively, of positive funds from operations.
($ in thousands) FOR THE SIX MONTHS ENDED JUNE 30, ------------------------------------ 1999 1998 -------- -------- Agency-eligible production $ 27,180 $ 9,582 Agency-eligible servicing 16,565 13,437 Subprime production 1,250 (1,104) Commercial mortgage 155 1,083 Leasing 1,480 582 -------- -------- $ 46,630 $ 23,580 ======== ========
Except for the subprime mortgage division, each of the Company's divisions produced positive operating funds during both quarters. The combined positive operating funds were invested to reduce indebtedness, pay dividends, repurchase stock and purchase fixed assets. AGENCY-ELIGIBLE PRODUCTION Generally, the Company purchases agency-eligible mortgage loans which are resold with the rights to service the loans being retained by the Company. The Company then separately sells a large percentage of the servicing rights so produced. At the time loans are sold, current accounting principles require capitalization of the estimated fair value of the retained mortgage servicing rights. Accordingly, amounts reported as gains on sale of agency-eligible mortgage loans may not represent positive funds flow to the extent that the associated servicing rights are not sold for cash but are instead retained and capitalized. In this context, the table below reconciles the major elements of pre-tax operating funds flow allocable to agency-eligible production activities. 37 38
($ in thousands) FOR THE SIX MONTHS ENDED JUNE 30, --------------------------------- 1999 1998 -------- -------- Income before income taxes $ 15,794 $ 27,661 Deduct: Net gain on sale of mortgage loans, as reported (50,078) (66,765) Add back: Cash gains on sale of mortgage loans 15,346 22,313 Cash gains on sale of mortgage servicing rights 44,104 24,721 Depreciation 2,014 1,652 -------- -------- $ 27,180 $ 9,582 ======== ========
AGENCY-ELIGIBLE SERVICING The Company's current strategy is to position itself as a national supplier of agency-eligible servicing rights to the still consolidating mortgage servicing industry. Accordingly, the Company generally sells a significant percentage of its produced mortgage servicing rights to other approved servicers under forward committed bulk purchase agreements. However, the Company maintains a relatively small mortgage servicing portfolio. As discussed above, mortgage servicing rights produced or purchased are initially capitalized and subsequently must be amortized to expense. Much like depreciation, such amortization charges are "non-cash". In this context, the table below reconciles the major elements of pre-tax operating funds flow allocable to agency-eligible mortgage servicing activities.
($ in thousands) FOR THE SIX MONTHS ENDED JUNE 30, --------------------------------- 1999 1998 -------- -------- Income before income taxes $ 2,216 $ 1,819 Deduct: Net gain on sale of mortgage servicing rights, as reported (4,823) (1,080) Add back: Amortization and provision for impairment of mortgage servicing rights 17,320 11,649 Depreciation 1,852 1,049 -------- -------- $ 16,565 $ 13,437 ======== ========
SUBPRIME PRODUCTION Generally, the Company purchases subprime loans through a wholesale broker network. The Company then separately sells or securitizes the loans so produced. At the time loans are securitized, existing accounting principles require capitalization of the estimated fair value of future cash flows to be received in connection with retention by the Company of a residual interest in the securitized loans. Accordingly, amounts reported as gains on sale of subprime mortgage loans may not represent cash gains to the extent that associated residual interests are retained and capitalized. In this context, the table below reconciles the major elements of pre-tax operating funds flow allocable to subprime mortgage production activities. 38 39
($ in thousands) FOR THE SIX MONTHS ENDED JUNE 30, --------------------------------- 1999 1998 -------- -------- Income before income taxes $ 3,774 $ 6,357 Deduct: Net gain on sale of subprime loans, as reported (10,374) (13,382) Accretion income on residuals (2,955) (1,361) Add back: Cash gains on sale of whole subprime loans 7,450 6,858 Cash received from investments in residual certificates 2,741 -- Depreciation and amortization of goodwill and intangibles 614 424 -------- -------- $ 1,250 $ (1,104) ======== ========
COMMERCIAL MORTGAGE Generally, the Company originates commercial mortgage loans for conduits, insurance companies and other investors. The Company either table funds the loans or originates the loans pursuant to pre-existing investor commitments to purchase the loans so originated. Similar to the agency-eligible operation, the Company generally retains the right to service the loans under various servicing agreements. At the time loans are sold, current accounting principles require capitalization of the estimated fair value of mortgage servicing rights produced. Accordingly, amounts reported as gains on sale of commercial mortgage loans may not represent cash gains to the extent that the associated servicing rights are not sold for cash but are instead retained and capitalized. Mortgage servicing rights initially capitalized must be amortized subsequently to expense. Much like depreciation, such amortization charges are "non-cash". In this context, the table below reconciles the major elements of pre-tax operating funds flow allocable to commercial mortgage production and servicing activities.
($ in thousands) FOR THE SIX MONTHS ENDED JUNE 30, --------------------------------- 1999 1998 ------- ------- Income before income taxes $ (301) $ 746 Deduct: Net gain on sale of commercial loans, as reported (3,025) (3,482) Add back: Cash gains on sale of whole commercial loans 2,981 2,312 Amortization and provision for impairment of commercial mortgage servicing rights 982 654 Depreciation and amortization of goodwill and intangibles 187 184 ------- ------- $ 155 $ 1,083 ======= =======
39 40 LEASING Generally, the Company originates small-ticket equipment leases for commercial customers that are retained as investments by the Company. Investments in leases originated and retained are financed through a borrowing facility at draw rates that approximate the net cash investment in the lease. Accordingly, financing activities related to growth in the balance of leases held for investment does not significantly impact operating cash flow. In this context, the table below reconciles the major elements of operating funds flow allocable to leasing activities.
($ in thousands) FOR THE SIX MONTHS ENDED JUNE 30, --------------------------------- 1999 1998 ------ ------ Income before income taxes $1,327 $ 456 Add back: Depreciation and amortization of goodwill and intangibles 153 126 ------ ------ $1,480 $ 582 ====== ======
YEAR 2000 The Company recognizes the need to address the potentially adverse impact that Year 2000 issues might have on its business operations. The Company's compliance efforts are ongoing under the guidance of its Director of Systems Operations and involve employees throughout the Company as well as outside consultants and contractors. The Company's Year 2000 Project leadership team meets with the Company's executive management weekly and the Board of Directors is routinely updated on the status of the Company's efforts. OVERVIEW OF THE COMPANY'S STATE OF READINESS The Company has reviewed its critical information technology and non-information technology systems and summarizes its state of readiness as follows: - - The Company's growth motivated a generalized review of the adequacy of its existing software environment and technological infrastructure to meet the Company's long-term operating requirements. Accordingly, the Company undertook an 18-month project to design and implement the Cybertek LoanXchange Mortgage Processing System (LoanXchange). Testing and implementation of this Year 2000 compliant system has been completed and the system is now in use. - - The Company's internally developed applications have been remediated and are now Year 2000 compliant. The remediated versions were also modified to work in conjunction with the LoanXchange system. 40 41 - - The Company uses various applications that were purchased or are used in a service bureau relationship with third parties. Compliant versions have been placed into production for all but two of these applications. - - The Company's new lock-box hardware and software has been installed and successfully tested, and will be placed into production during the third quarter. The final piece of software has been installed in a test environment and will be moved into production during September of 1999. - - The Company uses desktop software at each PC. Implementation of a standardized package that delivers Year 2000 compliant desktop software is near completion with completion scheduled for August of 1999. Remaining work consists primarily of installing NT 4 on the desktops. - - The Company uses computer hardware, including servers, desktop PCs and network infrastructure components. Remediation and upgrade of all data center hardware and network infrastructure to Year 2000 compliant hardware are complete. Desktop hardware is 95% complete with the rollout of 1,200 new desktops with completion scheduled for the third quarter of 1999. REVIEW OF MISSION CRITICAL BUSINESS SPECIFIC YEAR 2000 COMPLIANCE STATUS AGENCY-ELIGIBLE MORTGAGE PRODUCTION mission critical applications have been remediated or replaced by our new enterprise system, LoanXchange. MORTGAGE SERVICING - The only mission critical system is the Alltel servicing system which is used by the Company through a third-party service bureau relationship. Alltel has issued the Company a letter stating that it has completed modification of all systems used by the Company bringing them to Year 2000 compliance. Alltel is the largest vendor of servicing systems in the United States. Alltel and the Company participated in an industry sponsored testing program and the Company has received confirmation of the successful testing. LAUREATE CAPITAL CORP. - The Company operates its commercial mortgage origination and servicing business through its subsidiary, Laureate Capital Corp. (Laureate) Upgrade of Laureate's mission critical McCracken commercial mortgage servicing system to a Year 2000 compliant version has been completed and Laureate's mission critical systems are now Year 2000 compliant. REPUBLIC LEASING COMPANY, INC. - The Company operates its leasing business through its subsidiary Republic Leasing Company, Inc. (Republic Leasing). Republic Leasing's mission critical systems are Year 2000 compliant. MERITAGE MORTGAGE CORPORATION - The Company operates substantially all of its subprime loan origination business through its subsidiary, Meritage Mortgage Corporation (Meritage). 41 42 Upgrade of Meritage's mission critical Contour front-end loan processing system to a Year 2000 compliant version has been completed and Meritage's mission critical systems are now Year 2000 compliant. OTHER - The Company and all of its subsidiaries use the same general ledger, accounts payable and human resources systems. All of such systems are Year 2000 compliant. The HVAC system at the Company's home office is not compliant and will be replaced. THIRD PARTY SUPPLIERS Mission critical third party suppliers are Fannie Mae, Freddie Mac and Alltel. Software supplied to the Company by Fannie Mae and Freddie Mac has been certified as compliant and the Company has installed the compliant versions. In addition, Fannie Mae, Freddie Mac and the Company participated in an industry sponsored testing program and the Company has received confirmation of the successful testing. As discussed above, Alltel has also stated that its software and systems are compliant and the industry sponsored test program was successfully completed. TRADING PARTNERS The Company is communicating with suppliers, dealers, financial institutions and others with whom it does business to coordinate Year 2000 compliance. However, the Company's residential mortgage business is conducted through relationships with over 6,000 correspondents and brokers. The primary points of interaction with these customers relate to loan registration, loan locking and loan closing activities. These activities are initiated via phone and fax and through a compliant and proprietary interface that is made available over the Internet. The Company is not undertaking a readiness review of these relationships based on its assessment that the Year 2000 issue is not likely to have a material impact on the Company's ability to interact with these trading partners. FINANCIAL IMPACT Direct costs associated exclusively with achieving Year 2000 compliance are expected to be between $0.5 and $1 million dollars and will be paid out of cash flow. Additional system costs exceeding $8 million that are not directly related to Year 2000 but, that relate to upgrades noted above, serve to solve Year 2000 issues. Direct costs associated with the work performed to date were approximately $700 thousand through June 30, 1999. The Year 2000 effort is expected to use approximately 5% of Information Technology's 1999 budget. RISKS AND CONTINGENCY PLANNING The costs of the project and the date on which the Company believes it will complete the Year 2000 modifications are based on management's best estimates, which were derived utilizing numerous assumptions of future events, including the continued availability of certain resources and other factors. However, there can be no guarantee that these estimates will be achieved and actual results could differ materially from those anticipated. Specific factors that might cause such material differences include, but are not limited to, the availability and cost of personnel trained in this area, the ability to locate and correct all relevant computer code and unforeseen circumstances causing the Company to allocate its resources elsewhere. 42 43 Failure by either the Company or third parties to achieve Year 2000 compliance could cause short-term operational inconveniences and inefficiencies for the Company. This may temporarily divert management's time and attention from ordinary business activities. To the extent reasonably achievable, the Company will seek to prevent or mitigate the effects of such possible failures through its contingency planning efforts. 43 44 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. RESOURCE BANCSHARES MORTGAGE GROUP, INC. ---------------------------------------- (Registrant) /s/ Steven F. Herbert ------------------------------------------------------------ Steven F. Herbert Corporate Senior Executive Vice President and Corporate Chief Financial Officer (signing in the capacity of (i) duly authorized officer of the registrant and (ii) principal financial officer of the registrant) DATED: September 1, 1999 44 -----END PRIVACY-ENHANCED MESSAGE-----