VELOCITY FINANCIAL, INC. The following discussion should be read in conjunction with the information
included in our Annual Report on Form 10-K for the year ended
In addition, the statements and assumptions in this Quarterly Report that are not statements of historical fact are forward-looking statements within the meaning of federal securities laws. In particular, statements about our plans, strategies and prospects as well as estimates of industry growth for the next quarter and beyond are forward-looking statements. For important information regarding these forward-looking statements, please see the discussion below under the caption "Cautionary Note on Forward-Looking Statements."
References to "the Company," "Velocity," "we," "us" and "our" refer to
Business
We are a vertically integrated real estate finance company founded in 2004. We primarily originate and manage investor loans secured by 1-4 unit residential rental and commercial properties, which we refer to collectively as investor real estate loans. We originate loans nationwide across our extensive network of independent mortgage brokers which we have built and refined over the 19 years since our inception. Our objective is to be the preferred and one of the most recognized brands in our core market, particularly within our network of mortgage brokers. We operate in a large and highly fragmented market with substantial demand for financing and limited supply of institutional financing alternatives. We have developed the highly-specialized skill set required to effectively compete in this market, which we believe has afforded us a durable business model capable of generating attractive risk-adjusted returns for our stockholders throughout various business cycles. We offer competitive pricing to our borrowers by pursuing low-cost financing strategies and by driving front-end process efficiencies through customized technology designed to control the cost of originating a loan. Furthermore, by originating loans through our efficient and scalable network of approved mortgage brokers, we are able to maintain a wide geographical presence and nimble operating infrastructure capable of reacting quickly to changing market environments. Our primary source of revenue is interest income earned on our loan portfolio. Our typical loan is secured by a first lien on the underlying property with a personal guarantee and, based on all loans in our portfolio as ofMarch 31, 2023 , has an average balance of approximately$393,000 . As ofMarch 31, 2023 , our loan portfolio totaled$3.6 billion of UPB on properties in 45 states and theDistrict of Columbia . The total portfolio had a weighted average loan-to-value ratio, or LTV at origination, of 68.1%, of which the 1-4 unit residential rental loans, which we refer to as investor 1-4 loans, represented 53.0% of the UPB. For the three months endedMarch 31, 2023 , the annualized yield on our total portfolio was 8.00%. We fund our portfolio primarily through a combination of committed and uncommitted secured warehouse facilities, securitizations, corporate debt, and equity. The securitization market is our primary source of long-term financing. We have successfully executed twenty-six securitizations, resulting in a total of over$5.6 billion in gross debt proceeds fromMay 2011 throughMarch 2023 . We may also continue to sell loans from time to time for cash in lieu of holding the loans in our loan portfolio. One of our core profitably measurements is our portfolio related net interest margin, which measures the difference between interest income earned on our loan portfolio and interest expense paid on our portfolio-related debt, relative to the amount of loans outstanding over the period. Our portfolio-related debt consists of our warehouse facilities and securitizations and excludes our corporate debt. For the three months endedMarch 31, 2023 , our annualized portfolio related net interest margin was 3.23%, an increase compared to the 2.84% for the quarter endedDecember 31, 2022 , mainly as a result of higher loan yield during the three months endedMarch 31, 2023 . We generate profits to the extent that our portfolio related net interest income exceeds our interest expense on corporate debt, provision for loan losses and operating expenses. For the three months endedMarch 31, 2023 , including net income attributable to noncontrolling interest, we generated pre-tax income and net income of$14.8 million and$10.7 million , respectively. OnDecember 28, 2021 , the Company acquired an 80% ownership interest inCentury Health & Housing Capital, LLC ("Century"). Century is a licensedGinnie Mae issuer/servicer that provides government-insuredFederal Housing Administration (FHA) mortgage financing for multifamily housing, senior housing and long-term care/assisted living facilities. Century originates loans through its borrower-direct origination channel and services the loans through its in-house servicing platform, which enables the formation of long-term relationships with its clients and drives strong portfolio retention. Century earns origination fees and servicing fees from the mortgage servicing rights on its servicing portfolio.
Items Affecting Comparability of Results
Due to a number of factors, our historical financial results may not be
comparable, either from period to period, or to our financial results in future
periods. We have summarized the key factors affecting the comparability of our
financial results below.
29
--------------------------------------------------------------------------------
We have made an election to apply the fair value option ("FVO") accounting to
all our originated mortgage loans on a go-forward basis beginning October 1,
2022 . The fair value option loans are presented on a separate line item in the
consolidated balance sheet. We will not record a CECL loan loss reserve on fair
value option loans.
We have also made an election to apply the fair value option ("FVO") accounting
to all our securitizations effective
Recent Developments Securitizations
During the quarter ended
Continued Market Uncertainties
Our operational and financial performance will depend on certain market developments, including any lingering impact of the COVID-19 pandemic, theRussia /Ukraine war, a global recession, heightened stress in the real estate and corporate debt markets, recent bank failures, and macroeconomic conditions and market fundamentals, which can all affect each of these factors and potentially impact our business performance.
Critical Accounting Policies and Use of Estimates
The preparation of financial statements in accordance withU.S. GAAP requires certain judgments and assumptions, based on information available at the time of preparation of the consolidated financial statements, in determining accounting estimates used in preparation of the consolidated financial statements. The following discussion addresses the accounting policies that we believe apply to us based on the nature of our operations. Our most critical accounting policies involve decisions and assessments that could affect our reported assets and liabilities, as well as our reported revenues and expenses. We believe that all of the decisions and assessments used to prepare our financial statements are based upon reasonable assumptions given the information available at that time. These polices and estimates relate to the allowance for loan losses and deferred income tax assets and liabilities. Our critical accounting policies and estimates are described in Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations included in our Annual Report on Form 10-K for the year endedDecember 31, 2022 as filed with theSEC .
How We Assess Our Business Performance
Net income is the primary metric by which we assess our business performance.
Accordingly, we closely monitor the primary drivers of net income which consist
of the following:
Net Interest Income
Net interest income is the largest contributor to our net income and is
monitored on both an absolute basis and relative to provisions for loan losses
and operating expenses. We generate net interest income to the extent that the
rate at which we lend in our portfolio exceeds the cost of financing our
portfolio, which we primarily achieve through long-term securitizations.
Accordingly, we closely monitor the financing markets and maintain consistent
dialogue with investors and financial institutions as we evaluate our financing
sources and cost of funds.
30
--------------------------------------------------------------------------------
To evaluate net interest income, we measure and monitor: (1) the yields on our
loans, (2) the costs of our funding sources, (3) our net interest spread and (4)
our net interest margin. Net interest spread measures the difference between the
rates earned on our loans and the rates paid on our funding sources. Net
interest margin measures the difference between our annualized interest income
and annualized interest expense, or net interest income, as a percentage of
average loans outstanding over the specified time period.
Periodic changes in net interest income are primarily driven by: (1) origination
volume and changes in average outstanding loan balances and (2) interest rates
and changes in interest earned on our portfolio or paid on our debt.
Historically, origination volume and portfolio size have been the largest
contributors to the growth in our net interest income. We measure net interest
income before and after interest expense related to our corporate debt and
before and after our provisions for loan losses.
Credit Losses
We strive to minimize actual credit losses through our rigorous screening and underwriting process and life of loan portfolio management and special servicing practices. We closely monitor the credit performance of our loan portfolio, including delinquency rates and expected and actual credit losses, as a key factor in assessing our overall business performance.
Operating Expenses
We incur operating expenses from compensation and benefits related to our employee base, rent and other occupancy costs associated with our leased facilities, our third-party primary loan servicing vendors, professional fees to the extent we utilize third-party legal, consulting and advisory firms, and costs associated with the resolution and disposition of real estate owned, among other items. We monitor and strive to prudently manage operating expenses and to balance current period profitability with investment in the continued development of our platform. Because volume and portfolio size determine the magnitude of the impact of each of the above factors on our earnings, we also closely monitor origination volume along with all key terms of new loan originations, such as interest rates, loan-to-value ratios, estimated credit losses and expected duration.
Factors Affecting Our Results of Operations
Our results of operations depend on, among other things, the level of our net interest income, the credit performance of our loan portfolio and the efficiency of our operating platform. These measures are affected by a number of factors, including the demand for investor real estate loans, the competitiveness of the market for originating or acquiring investor real estate loans, the cost of financing our portfolio, operating costs, the availability of funding sources and the underlying performance of the collateral supporting our loans. While we have been successful at managing these elements in the past, there are certain circumstances beyond our control, including any lingering impact of the COVID-19 pandemic, theRussia /Ukraine war, an expected recession, and macroeconomic conditions and market fundamentals, which can all affect each of these factors and potentially impact our business performance.
Competition
The investor real estate loan market is highly competitive which could affect our profitability and growth. We believe we compete favorably through diversified borrower access driven by our extensive network of mortgage brokers and by emphasizing a high level of real estate and financial expertise, customer service, and flexibility in structuring transactions, as well as by attracting and retaining experienced managerial and marketing personnel. However, some of our competitors may be better positioned to market their services and financing programs because of their ability to offer more favorable rates and terms and other services.
Availability and Cost of Funding
Our primary funding sources have historically included cash from operations,
warehouse facilities, term securitizations, corporate debt and equity. We
believe we have an established brand in the term securitization market and that
this market will continue to support our portfolio growth with long-term
financing. Changes in macroeconomic conditions can adversely impact our ability
to issue securitizations and, thereby, limit our options for long-term
financing. In consideration of this potential risk, we have entered into a
credit facility for longer-term financing that will provide us with capital
resources to fund loan growth in the event we are not able to issue
securitizations.
One of our six warehouse repurchase and revolving loan facilities have interest
payment obligations tied to the one-month USD London Interbank Offered Rate, or
LIBOR. Five of our warehouse repurchase and revolving loan facilities have
interest payment obligations tied to the Secured Overnight Offering Rate
("SOFR"). The authorized administrator of LIBOR confirmed during March 2021 that
it intended to cease the publication or loss of representativeness of LIBOR. In
particular, the last date of publication or representativeness of one-month USD
LIBOR will be June 30, 2023 . We expect that the index used in the calculation of
the interest rate for our warehouse facilities and corporate debt will
transition from LIBOR to a Secured Overnight Financing Rate ("SOFR") or a
suitable replacement index prior to June 30, 2023 . As we renew our financing
agreements with our warehouse facilities, we are working with our warehouse
facilities to include language on the transition to SOFR. We do not expect the
cessation of LIBOR nor the transition to a replacement index to have a material
adverse effect on our cost of funding, results of operations or financial
condition.
31
--------------------------------------------------------------------------------Loan Performance
We underwrite and structure our loans to minimize potential losses. We believe our fully amortizing loan structures and avoidance of large balloon payments, coupled with meaningful borrower equity in properties, limit the probability of losses and that our proven in-house asset management capability allows us to minimize potential losses in situations where there is insufficient equity in the property. Our income is highly dependent upon borrowers making their payments and resolving delinquent loans as favorably as possible. Macroeconomic conditions can, however, impact credit trends in our core market and have an adverse impact on financial results.
Macroeconomic Conditions
The investor real estate loan market may be impacted by a wide range of
macroeconomic factors such as interest rates, residential and commercial real
estate prices, home ownership and unemployment rates, and availability of
credit, among others. We believe our prudent underwriting, conservative loan
structures and interest rate protections, and proven in-house asset management
capability leave us well positioned to manage changing macroeconomic conditions.
Portfolio and Asset Quality
Key Portfolio Statistics
December 31,
March 31, 2023 2022 March 31, 2022
($ in thousands)
Total loans $ 3,596,176 $ 3,512,486 $ 2,876,816
Loan count 9,147 8,893 7,365
Average loan balance $ 393 $ 395 $ 391
Weighted average loan-to-value 68.1 % 68.2 % 67.9 %
Weighted average coupon 8.15 % 7.95 % 7.50 %
Nonperforming loans (UPB) (A) $ 309,937 $ 292,789 $ 275,487
Nonperforming loans (% of total) (A) 8.62 % 8.34 % 9.58 %
(A) Reflects the UPB of loans 90 days or more past due or placed on nonaccrual
status. Includes $38.7 million , $39.6 million , and $54.2 million of COVID-19
forbearance-granted loans 90 days or more past due or placed on nonaccrual
status as of March 31, 2023 , December 31,2022 , and March 31, 2022 , respectively.
Total Loans. Total loans reflects the aggregate UPB at the end of the period. It excludes deferred origination costs, acquisition discounts, fair value adjustments and allowance for credit losses.
Loan Count. Loan count reflects the number of loans at the end of the period. It includes all loans with an outstanding principal balance.
Average Loan Balance. Average loan balance reflects the average UPB at the end of the period (i.e., total loans divided by loan count).
Weighted Average Coupon. Weighted average coupon reflects the weighted average loan rate at the end of the period.
Weighted Average Loan-to-Value. Loan-to-value, or LTV, reflects the ratio of the
original loan amount to the appraised value of the underlying property at the
time of origination. In instances where the LTV at origination is not available
for an acquired loan, the LTV reflects our best estimate of value at the time of
acquisition. Weighted average LTV is calculated for the population of loans
outstanding at the end of each specified period using the original loan amounts
and appraised LTVs at the time of origination of each loan. LTV is a key
statistic because requiring the borrower to invest more equity in the collateral
minimizes our exposure for future credit losses.
Nonperforming Loans. Loans that are 90 or more days past due, in bankruptcy, in
foreclosure, or not accruing interest, except for certain loans in our COVID-19
forbearance program, are considered nonperforming loans. The dollar amount of
nonperforming loans presented in the table above reflects the UPB of all loans
that meet this definition.
32
--------------------------------------------------------------------------------Originations and Acquisitions
The following table presents new loan originations and acquisitions and includes
average loan size, weighted average coupon and weighted average loan-to-value
for the periods indicated:
Weighted Weighted
Average Average Average
($ in thousands) Loan Count Loan Balance Loan Size Coupon LTV
Three Months Ended March 31, 2023 :
Loan originations - held for investment 587 $ 197,888 $ 337 11.08 % 66.6 %
Loan originations - held for sale 2 19,088 9,544 5.34 % 47.5 %
Total loan originations 589 $ 216,976 $ 368 10.58 % 65.0 %
Loan acquisitions - held for investment - - - (- )% (- )%
Total loans originated 589 $ 216,976 $ 368 10.58 % 65.0 %
Three Months Ended December 31, 2022 :
Loan originations - held for investment 831 $ 262,653 $ 316 10.34 % 68.3 %
Loan originations - held for sale 1 15,135 15,135 5.85 % 60.5 %
Total loan originations 832 $ 277,788 $ 334 10.10 % 67.9 %
Loan acquisitions - held for investment - - - (- )% (- )%
Total loans originated 832 $ 277,788 $ 334 10.10 % 67.9 %
Three Months Ended March 31, 2022 :
Loan originations - held for investment 1,167 $ 581,369 $ 498 6.29 % 69.2 %
Loan originations - held for sale - - - (- )% (- )%
Total loan originations 1,167 $ 581,369 $ 498 6.29 % 69.2 %
Loan acquisitions - held for investment 2 3,954 1,977 6.34 % 57.0 %
Total loans originated and acquired 1,169 $ 585,323 $ 501 6.30 % 69.1 %
During the first quarter of 2023, we originated $217.0 million of loans, which
was a decrease of $364.4 million from $581.4 million for the quarter ended March
31, 2022 , primarily as a result of strategically reducing originations.
Loans Held for Investment and Loans Held for Investment at Fair Value
Our total portfolio of loans held for investment consists of both loans held for investment at amortized cost, which are presented in the consolidated balance sheet as loans held for investment, net, and loans held for investment at fair value, which are presented in the consolidated balance sheets as loans held for investment at fair value. The following tables show the various components of loans held for investment as of the dates indicated: (in thousands) March 31, 2023 December 31,
2022
Unpaid principal balance$ 3,578,791 $
3,512,486
Valuation adjustments on FVO loans 14,122
7,463
Deferred loan origination costs 32,144
33,429
Total loans held for investment, gross 3,625,057
3,553,378
Allowance for credit losses (5,045 ) (4,893 ) Loans held for investment, net$ 3,620,012 $
3,548,485
The following table illustrates the contractual maturities for our loans held for investment in aggregate UPB and as a percentage of our total held for investment loan portfolio as of the dates indicated:
March 31, 2023 December 31, 2022 March 31, 2022
($ in thousands) UPB % UPB % UPB %
Loans due in less than one year
28,862 0.8
31,777 0.9 15,847 0.6
Loans due in more than five years 3,399,916 95.0 3,333,793 94.9 2,695,280 96.3
Total loans held for investment
Allowance for Loan Losses
For theDecember 31, 2022 CECL estimate, we used a severe stress scenario with an eight-quarter reasonable and supportable forecast period followed by a two-quarter straight-line reversion period. We considered the potential impact of the Omicron variant and the effect of the variant on further supply chain disruptions. We also considered lower than forecasted employment numbers, expiring unemployment benefits, and an upcoming flu season. 33 -------------------------------------------------------------------------------- For theMarch 31, 2023 estimate, we considered a severe stress scenario with an eight-quarter reasonable and supportable forecast period followed by a two-quarter straight-line reversion period. Management concluded that applying the severe stress scenario was appropriate given the uncertainty around future COVID cases, the war betweenRussia andUkraine , spike in inflation, continued disruption in the supply chain, and concerns of a recession. Our allowance for loan losses as ofMarch 31, 2023 was$5.0 million compared to$4.9 million as ofDecember 31, 2022 and$4.7 million as ofMarch 31, 2022 . The increase in allowance for credit losses fromDecember 31, 2022 and fromMarch 31, 2022 was primarily due to a less optimistic outlook for the macroeconomy. We strive to minimize actual credit losses through our rigorous screening and underwriting process, life of loan portfolio management and special servicing practices. Additionally, we believe borrower equity of 25% to 40% provides significant protection against credit losses. The various scenarios, the weighting of scenarios, as well as the forecast period and reversion to historical loss, is subject to change as conditions in the market change and the Company's ability to forecast economic events evolves. To estimate the allowance for loan losses in our non-FVO loans held for investment portfolio, we follow a detailed internal review process, considering a number of different factors including, but not limited to, our ongoing analyses of loans, historical loss rates, relevant environmental factors, relevant market research, trends in delinquencies, effects and changes in credit concentrations, and ongoing evaluation of fair values. The following table illustrates the activity in our allowance for loan losses over the periods indicated: Three Months Ended December 31, ($ in thousands) March 31, 2023 2022 March 31, 2022 Allowance for credit losses: Beginning balance $ 4,893$ 5,330 $ 4,262 Provision for loan losses 636 (437 ) 730 Charge-offs (484 ) - (328 ) Ending balance $ 5,045$ 4,893 $ 4,664 Total loans held for investment (UPB), excluding FVO (1)$ 3,142,181 $ 3,243,854 $ 2,798,632 Allowance for credit losses / loans held for investment, excluding FVO 0.16 % 0.15 % 0.17 % (1)
Reflects the UPB of loans held for investment excluding loans held for investment at fair value (FVO).
Credit Quality - Loans Held for Investment and Loans Held for Investment at Fair Value
The following table provides delinquency information on our loans held for
investment and loans held for investment at fair value by UPB as of the dates
indicated:
COVID-19 COVID-19 COVID-19
($ in thousands) March 31, 2023 (A) Forbearance December 31, 2022 (A) Forbearance March 31, 2022 (A) Forbearance
Performing/Accruing:
Current $ 3,049,110 85.2 % $ 132,688 $ 2,969,989 84.6 % $ 120,884 $ 2,388,442 85.3 % $ 186,569
30-59 days past due 141,253 3.9 13,529 186,051 5.3 33,668 94,058 3.4 12,698
60-89 days past due 78,491 2.2 10,157 63,657 1.8 6,902 41,960 1.5 7,228
90+ days past due - - - - - - - - -
Total Performing Loans 3,268,854 91.3 156,374 3,219,697 91.7 161,454 2,524,460 90.2 206,495
Nonperforming/Nonaccrual:
<90 days past due 23,544 0.7 1,480 17,852 0.5 1,116 26,044 0.9 7,354
90+ days past due 40,947 1.1 2,344 32,566 0.9 1,681 27,472 1.0 3,794
Bankruptcy 15,132 0.4 6,014 22,435 0.6 7,272 18,334 0.7 4,380
In foreclosure 230,314 6.5 28,902 219,936 6.3 29,482 203,637 7.3 38,686
Total nonperforming loans 309,937 8.7 38,740 292,789 8.3 39,551 275,487 9.8 54,214
Total loans held for
investment $ 3,578,791 100.0 % $ 195,114 $ 3,512,486 100.0 % $ 201,005 $ 2,799,947 100.0 % $ 260,709
(A)
Balance includes $195.1 million UPB of loans held for investment as of March 31,
2023 , $201.0 million as of December 31, 2022 , and $260.7 million as of March 31,
2022 in our COVID-19 forbearance program.
Other than loans in the COVID-19 forbearance program, loans that are 90+ days
past due, in bankruptcy, in foreclosure, or not accruing interest are considered
nonperforming loans. Nonperforming loans were $309.9 million , or 8.7% of our
held for investment loan portfolio as of March 31, 2023 , compared to $292.8
million , or 8.3% as of December 31, 2022 , and $275.5 million , or 9.8% of the
held for investment loan portfolio as of March 31, 2022 . We believe the
significant equity cushion at origination and the active management of loans
will continue to minimize credit losses on the resolution of defaulted loans and
disposition of REO properties.
34
--------------------------------------------------------------------------------
Historically, most loans that become nonperforming resolve prior to converting
to REO. This is due to low LTVs at origination and our active management of the
portfolio. The following tables summarize the resolution activities of loans
that became nonperforming prior to the beginning of the periods indicated or
became nonperforming and subsequently resolved during the periods indicated. We
resolved $36.9 million of long-term and short-term non-performing loans during
the quarter ended March 31, 2023 as compared to $34.3 million during the quarter
ended March 31, 2022 . We also resolved $1.8 million of nonperforming loans
transferred to REO during the quarter ended March 31, 2023 as compared to $3.0
million during the quarter ended March 31, 2022 . From these resolution
activities, we realized net gains of $1.3 million and $1.8 million during the
quarter ended March 31, 2023 and 2022, respectively. This is largely the result
of collecting default interest and prepayment penalties in excess of the
contractual principal and interest due on loans.
The table below includes resolutions for our long-term nonperforming loans and
REO's.
Three Months Ended
Long-Term Loans March 31, 2023 December 31, 2022 March 31, 2022
Gain / Gain / Gain /
($ in thousands) UPB (Loss) UPB (Loss) UPB (Loss)
Resolved - paid in full $ 11,274 $ 632 $ 8,188 $ 329 $ 9,144 $ 474
Resolved - paid current 18,477 233 9,648 21 7,597 117
Resolved - REO sold 570 137 2,404 67 2,522 469
Total resolutions $ 30,321 $ 1,002 $ 20,240 $ 417 $ 19,263 $ 1,060
Recovery rate on resolved
nonperforming UPB 103.3 % 102.1 % 105.5 %
The table below includes resolutions for our short-term nonperforming loans and
REO's, now being held for investment, and also includes loans that were granted
a COVID-19 forbearance in 2020. Prior to January 1, 2021 , nonperforming loan
resolutions presented only consisted of long-term nonperforming loans held for
investment since the short-term loans, or loans with a maturity of two-year or
less, were being held for sale until later in 2020. The short-term loans do not
require prepayment fees and usually result in a lower gain when paid in full, as
compared to long term loans.
Three Months Ended
Short-Term and March 31, 2023 December 31, 2022 March 31, 2022
Forbearance Loans
Gain / Gain / Gain /
($ in thousands) UPB (Loss) UPB (Loss) UPB (Loss)
Resolved - paid in full $ 5,560 $ 348 $ 4,092 $ 82 $ 13,820 $ 646
Resolved - paid current 1,633 9 457 - 3,783 39
Resolved - REO sold 1,209 (21 ) 529 74 503 35
Total resolutions $ 8,402 $ 336 $ 5,078 $ 156 $ 18,106 $ 720
Recovery rate on
resolved
nonperforming UPB 104.0 % 103.1 % 104.0 %
Our charge-offs incurred have been small as a percentage of nonperforming loans
held for investment. The table below shows our actual loan losses for the
periods indicated.
Three Months Ended
($ in thousands) March 31, 2023 December 31, 2022 March 31, 2022
Average nonperforming loans for the
period (1) $ 298,703 $ 279,224 $ 278,349
Charge-offs 484 - 328
Charge-offs / Average nonperforming
loans for the period (1) 0.65 % (2) 0.00 % (2) 0.47 % (2)
(1)
Reflects the monthly average of nonperforming loans held for investment during
the period.
(2)
Reflects annualized charge-offs to average nonperforming loans for the period.
35
--------------------------------------------------------------------------------Concentrations - Loans Held for Investment
As ofMarch 31, 2023 , our held for investment loan portfolio was concentrated in investor 1-4 loans, representing 53.2% of the UPB. Mixed used properties represented 12.6% of the UPB. No other property type represented more than 10.0% of our held for investment loan portfolio. Geographically, the principal balance of our loans held for investment were concentrated 22.0% inCalifornia , 19.9% inNew York , 13.7% inFlorida , and 7.5% inNew Jersey . Property Type March 31, 2023 ($ in thousands) Loan Count UPB % of Total UPB Investor 1-4 5,518$ 1,904,535 53.2 % Mixed use 1,075 449,811 12.6 Retail 644 308,131 8.6 Multifamily 552 304,281 8.5 Warehouse 346 221,238 6.2 Office 457 197,696 5.5 Other(1) 554 193,099 5.4 Total loans held for investment 9,146$ 3,578,791 100.0 % (1) All other properties individually comprise less than 5.0% of the total unpaid principal balance. Geography (State) March 31, 2023 ($ in thousands) Loan Count UPB % of Total UPB California 1,239$ 786,462 22.0 % New York 1,278 712,156 19.9 Florida 1,267 489,268 13.7 New Jersey 849 269,070 7.5 Other(1) 4,513 1,321,835 36.9 Total loans held for investment 9,146$ 3,578,791 100.0 % (1)
All other states individually comprise less than 5.0% of the total unpaid principal balance.
Real Estate Owned (REO)
REO includes real estate we acquire through foreclosure or by deed-in-lieu of foreclosure. REO assets are initially recorded at fair value, less estimated costs to sell, on the date of foreclosure. Adjustments that reduce the carrying value of the loan to the fair value of the real estate at the time of foreclosure are recognized as charge-offs in the allowance for credit losses. Positive adjustments at the time of foreclosure are recognized in other operating income. Subsequent to foreclosure, we periodically obtain new valuations, reductions in fair value are reflected as valuation adjustments. As ofMarch 31, 2023 , our REO included 39 properties with a lower of cost or estimated fair value of$21.8 million compared to 27 properties with a lower of cost or estimated fair value of$13.3 million as ofDecember 31, 2022 . Key Performance Metrics Three Months Ended March 31, December 31, March 31, ($ in thousands) 2023 (1) 2022 (1) 2022 (1) Average loans$ 3,525,028 $ 3,494,995 $ 2,682,851 Portfolio yield 8.00 % 7.51 % 7.76 % Average debt - portfolio related 3,151,650 3,124,409
2,356,433
Average debt - total company 3,366,650 3,339,409
2,535,348
Cost of funds - portfolio related 5.33 % 5.23 % 4.00 %
Cost of funds - total company 5.49 % 5.39 % 6.42 %
Net interest margin - portfolio
related 3.23 % 2.84 % 4.25 %
Net interest margin - total company 2.76 % 2.36 % 1.69 %
Charge-offs/Average loans held for
investment 0.06 % 0.00 % 0.05 %
Pre-tax return on equity 15.26 % 12.37 % 4.42 %
Return on equity 11.10 % 8.71 % 3.65 %
(1)
Percentages are annualized.
Average Loans
Average loans reflects the daily average of total outstanding loans, including
both loans held for investment and loans held for sale, as measured by UPB, over
the specified time period.
36
--------------------------------------------------------------------------------Portfolio Yield
Portfolio yield is an annualized measure of the total interest income earned on our loan portfolio as a percentage of average loans over the given period. Interest income includes interest earned on performing loans, cash interest received on nonperforming loans, default interest and prepayment fees. The fluctuations in our portfolio yield over the periods shown was primarily driven by loans placed on non-accrual status during the periods.
Average Debt -
Portfolio-related debt consists of borrowings related directly to financing our loan portfolio, which includes our warehouse facilities and securitizations. Total company debt consists of portfolio- related debt and corporate debt. The measures presented here reflect the monthly average of all portfolio- related and total company debt, as measured by outstanding principal balance, over the specified time period.
Cost of Funds -
Portfolio related cost of funds is an annualized measure of the interest expense incurred on our portfolio-related debt as a percentage of average portfolio-related debt outstanding over the given period. Total company cost of funds is an annualized measure of the interest expense incurred on our portfolio-related debt and corporate debt outstanding over the given period. Interest expense includes the amortization of expenses incurred in connection with our portfolio related financing activities and corporate debt. Through the issuance of long-term securitizations, we have been able to fix a significant portion of our borrowing costs over time. The strong credit performance on our securitizations has allowed us to issue debt at attractive rates.
Our portfolio related cost of funds increased to 5.33% for the three months
ended
Net Interest Margin -
Portfolio related net interest margin measures the difference between the interest income earned on our loan portfolio and the interest expense paid on our portfolio-related debt as a percentage of average loans over the specified time period. Total company net interest margin measures the difference between the interest income earned on our loan portfolio and the interest expense paid on our portfolio-related debt and corporate debt as a percentage of average loans over the specified time period. Over the periods shown below, our portfolio related net interest margin of 3.23% for the three months endedMarch 31, 2023 increased from 2.84% for the three months endedDecember 31, 2022 , and decreased from 4.25% for the three months endedMarch 31, 2022 . The increase fromDecember 31, 2022 was primarily due to higher loan yields. The decrease fromMarch 31, 2022 was primarily due to higher debt cost caused by an overall increase in interest rates. Our total company net interest margin increased to 2.76% for the three months endedMarch 31, 2023 from 1.69% for the three months endedMarch 31, 2022 and increased from 2.36% for the three months endedDecember 31, 2022 , respectively. The increase in total company net interest margin during the three months endedMarch 31, 2023 from the three months endedMarch 31, 2022 andDecember 31, 2022 was primarily due to higher loan yields and lower corporate interest expense as compared toMarch 2022 . 37 -------------------------------------------------------------------------------- The following tables show the average outstanding balance of our loan portfolio and portfolio-related debt, together with interest income and the corresponding yield earned on our portfolio, and interest expense and the corresponding rate paid on our portfolio-related debt for the periods indicated: Three Months Ended March 31, 2023 December 31, 2022 March 31, 2022 Interest Average Interest Average Interest Average Average Income / Yield / Average Income / Yield / Average Income / Yield / ($ in thousands) Balance Expense Rate (1) Balance Expense Rate (1) Balance Expense Rate (1) Loan portfolio: Loans held for sale$ 12,896 $ 64,699 $ 69,092 Loans held for investment 3,512,133 3,430,296 2,613,759 Total loans$ 3,525,029 $ 70,521 8.00 %$ 3,494,995 $ 65,632 7.51 %$ 2,682,851 $ 52,049 7.76 % Debt: Warehouse facilities$ 225,497 $ 4,833 8.57 %$ 286,094 $ 5,776 8.08 %$ 338,247 $ 3,765 4.45 % Securitizations 2,926,153 37,196 5.08 % 2,838,315 35,078 4.94 % 2,018,186 19,791 3.92 % Total debt - portfolio related 3,151,650 42,029 5.33 % 3,124,409 40,854 5.23 % 2,356,433 23,556 4.00 % Corporate debt 215,000 4,139 7.70 % 215,000 4,139 7.70 % 178,915 17,140 38.32 % Total debt$ 3,366,650 $ 46,168 5.49 %$ 3,339,409 $ 44,993 5.39 %$ 2,535,348 $ 40,696 6.42 % Net interest spread - portfolio related (2) 2.67 % 2.28 % 3.76 % Net interest margin - portfolio related 3.23 % 2.84 % 4.25 % Net interest spread - total company (3) 2.52 % 2.12 % 1.34 % Net interest margin - total company 2.76 % 2.36 % 1.69 % (1) Annualized. (2) Net interest spread - portfolio related is the difference between the rate earned on our loan portfolio and the interest rates paid on our portfolio-related debt. (3) Net interest spread - total company is the difference between the rate earned on our loan portfolio and the interest rates paid on our total debt.
Charge-Offs
Our annualized charge-off rate over the average loans held for investment for the three months endedMarch 31, 2023 remained low at 0.06% compared to 0.00% for the three months endedDecember 31, 2022 and 0.05% for the three months endedMarch 31, 2022 . The charge-offs rate reflects year-to-date annualized charge-offs as a percentage of average loans held for investment for the respective quarter. We do not record charge-offs on FVO loans which are carried at estimated fair value. We do not record charge-offs on our loans held for sale which are carried either at fair value, or carried at the lower of cost or estimated fair value.
Pre-Tax Return on Equity and Return on Equity
Pre-tax return on equity and return on equity reflect income before income taxes and net income including income attributable to noncontrolling interest, respectively, as a percentage of the monthly average total stockholders' equity including noncontrolling interest over the specified period. Pre-tax return on equity and return on equity were higher during the quarter endedMarch 31, 2023 compared to the quarters endedDecember 31, 2022 andMarch 31, 2023 due to the increase in income before income taxes and net income. Three Months Ended December 31, ($ in thousands) March 31, 2023 2022 March 31, 2022 Income before income taxes (A) $ 14,757$ 11,693 $ 3,911 (2) Net income (B) 10,736 8,227 3,231 Monthly average balance: Stockholders' equity (C) 386,935 378,005 353,635 Pre-tax return on equity (A)/(C) (1) 15.3 % 12.4 % 4.4 % Return on equity (B)/(C) (1) 11.1 % 8.7 % 3.7 % (1) Annualized. (2)
Excluded
38
--------------------------------------------------------------------------------Components of Results of Operations
Interest Income
We accrue interest on the UPB of our loans in accordance with the individual terms and conditions of each loan, discontinuing interest and reversing previously accrued interest once a loan becomes 90 days or more past due (nonaccrual status). When a loan is placed on nonaccrual status, the accrued and unpaid interest is reversed as a reduction to interest income and accrued interest receivable. Interest income is subsequently recognized only to the extent that cash payments are received or when the loan has returned to accrual status. Payments received on nonaccrual loans are first applied to interest due, then principal. Interest accrual resumes once a borrower has made all principal and interest payments due, bringing the loan back to current status. Interest income on loans held for investment is comprised of interest income on loans and prepayment fees less the amortization of deferred net costs related to the origination of loans. Interest income on loans held for sale is comprised of interest income earned on loans prior to their sale. The net fees and costs associated with loans held for sale carried at the lower of cost or fair value, are deferred as part of the carrying value of the loan and recognized as a gain or loss on the sale of the loan. The fees and costs associated with loans held for sale carried at fair value are recognized and expensed as incurred.
Interest Expense - Portfolio Related
Portfolio related interest expense is incurred on the debt we incur to fund our loan origination and portfolio activities and consists of our warehouse facilities and securitizations. Portfolio related interest expense also includes the amortization of expenses incurred as a result of issuing the debt, which are amortized using the level yield method. Key drivers of interest expense include the debt amounts outstanding, interest rates, and the mix of our securitizations and warehouse liabilities.
Net Interest Income - Portfolio Related
Portfolio related net interest income represents the difference between interest income and portfolio related interest expense.
Interest Expense - Corporate Debt
Interest expense on corporate debt primarily consists of interest expense paid with respect to the 2021 Term Loan and the 2022 Term Loan, as reflected on our consolidated balance sheets, and the related amortization of deferred debt issuance costs.
Net Interest Income
Net interest income represents the difference between portfolio related net interest income and interest expense on corporate debt.
Provision for Loan Losses
EffectiveJanuary 1, 2020 , we adopted ASU 2016-13 Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments replacing the incurred loss accounting approach with the current expected credit loss (CECL) approach. Under the CECL methodology, the allowance for credit losses is calculated using a third-party model with our historical loss rates by segment, loans position as of the balance sheet date, and assumptions from us.
Other Operating Income
Gain on Disposition of Loans. When we sell a loan held for sale, we record a gain or loss that reflects the difference between the proceeds received for the sale of the loans and their respective carrying values. The gain or loss that we ultimately realize on the sale of our loans held for sale is primarily determined by the terms of the originated loans, current market interest rates and the sales price of the loans. In addition, when we transfer a loan to REO, we record the REO at its fair value at the time of the transfer. The difference between the fair value of the real estate and the carrying value of the loan is recorded as a gain or a loan charge-off. Unrealized Gain/(Loss) on Fair Value Loans. We have elected to apply the fair value option accounting to all of our originated mortgage loans on a go-forward basis beginningOctober 1 , 2022.We have elected to account for certain purchased distressed loans at fair value using FASB ASC Topic 825, Financial Instruments (ASC 825). We regularly estimate the fair value of these loans as discussed more fully in the notes to our consolidated financial statements. Changes in fair value subsequent to initial recognition of fair value loans are reported as unrealized gain/(loss) on fair value loans, a component of other operating income within the consolidated statements of income.
Other Income. Other income includes the following:
Mortgage Servicing Rights. The Company has elected to record its mortgage servicing rights using the fair value measurement method. Changes in fair value are reported as unrealized gains/(losses) on mortgage servicing rights.
Servicing Fee Income. Century earns servicing fees for servicing mortgage loans for others.
39
--------------------------------------------------------------------------------
Valuation Allowance on Loans Held for Sale. For loans held for sale that are
carried at the lower of cost or estimated fair value, the adjustments of the
carrying value to estimate fair value are reported as valuation allowance.
Fee Income. In certain situations, we collect fee income by originating loans and realizing miscellaneous fees.
Operating Expenses
Compensation and Employee Benefits. Costs related to employee compensation, commissions and related employee benefits, such as health, retirement, and payroll taxes.
Origination Expenses. Costs related to our loan origination activities.
Securitizations Expenses. Costs related to issuance of our securitizations.
Loan Servicing. Costs related to our third-party servicers.
Professional Fees. Costs related to professional services, such as external audits, legal fees, tax, compliance and outside consultants.
Rent and Occupancy. Costs related to occupying our locations, including rent, maintenance and property taxes.
Real Estate Owned, Net. Costs related to our real estate owned, net, including gains/(losses) on disposition of REO, maintenance of REO properties, and taxes and insurance.
Other Operating Expenses. Other operating expenses consist of general and administrative costs such as, travel and entertainment, marketing, data processing, insurance and office equipment.
Provision for Income Taxes
The provision for income taxes consists of the current and deferredU.S. federal and state income taxes we expect to pay, currently and in future years, with respect to the net income for the year. The amount of the provision is derived by adjusting our reported net income with various permanent differences. The tax- adjusted net income amount is then multiplied by the applicable federal and state income tax rates to arrive at the provision for income taxes.
© Edgar Online, source
