SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
|☒||ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the fiscal year ended December 31, 2020
|☐||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 001-39964
Home Point Capital Inc.
(Exact name of registrant as specified in its charter)
|(State or other jurisdiction of|
incorporation or organization)
|(I.R.S. Employer Identification No.)|
|2211 Old Earhart Road, Suite 250|
Ann Arbor, Michigan
|(Address of Principal Executive Offices)||(Zip Code)|
Registrant's telephone number, including area code
Securities registered pursuant to Section 12(b) of the Act:
|Title of each class||Trading Symbol||Name of each exchange on which|
|Common Stock, par value|
$0.0000000072 per share
|HMPT||The Nasdaq Stock Market LLC|
(The Nasdaq Global Select Market)
Securities registered pursuant to section 12(g) of the Act: None.
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.
Yes ☐ No ☒
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.
Yes ☐ No ☒
Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports); and (2) has been subject to such filing requirements for the past 90 days. Yes ☐ No ☒
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☐ No ☐
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act. (Check one):
|Large accelerated filer||☐||Accelerated filer||☐|
|Non-accelerated filer||☒||Smaller reporting company||☒|
|Emerging growth company||☐|
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐
Indicate by check mark whether the registrant has filed a report on and attestation to its management’s assessment of the effectiveness of its internal control over financial reporting under Section 404(b) of the Sarbanes-Oxley Act (15 U.S.C. 7262(b)) by the registered public accounting firm that prepared or issued its audit report. Yes ☐ No ☒
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act). Yes ☐ No ☒
Home Point Capital Inc. completed the initial public offering of its common stock on February 2, 2021. Accordingly, there was no public market for the registrant’s common stock as of June 30, 2020, the last business day of the registrant’s most recently completed second fiscal quarter. As of March 8, 2021, the aggregate value of the registrant’s common stock held by non-affiliates was approximately $98.5 million, based on the number of shares held by non-affiliates as of March 8, 2021 and the closing price of the registrant’s common stock on the Nasdaq Global Select Market on that date.
The registrant had outstanding 138,860,103 shares of common stock as of March 8, 2021.
DOCUMENTS INCORPORATED BY REFERENCE
TABLE OF CONTENTS
Cautionary Note on Forward-Looking Statements
This Annual Report on Form 10-K (this “Report”) contains certain “forward-looking statements,” as that term is defined in the U.S. federal securities laws. These forward-looking statements include, but are not limited to, statements other than statements of historical facts contained in this Report, including among others, statements relating to our future financial performance, our business prospects and strategy, anticipated financial position, liquidity and capital needs, the industry in which we operate and other similar matters. Words such as “anticipates,” “expects,” “intends,” “plans,” “predicts,” “believes,” “seeks,” “estimates,” “could,” “would,” “will,” “may,” “can,” “continue,” “potential,” “should” and the negative of these terms or other comparable terminology often identify forward-looking statements. These forward-looking statements are not guarantees of future performance and are subject to risks and uncertainties that could cause actual results to differ materially from the results contemplated by the forward-looking statements, including the risks discussed in this Report. Factors, risks, and uncertainties that could cause actual outcomes and results to be materially different from those contemplated include, among others:
•the spread of the COVID-19 (as defined herein) outbreak and severe disruptions in the U.S. and global economy and financial markets it has caused;
•our reliance on our financing arrangements to fund mortgage loans and otherwise operate our business;
•the dependence of our loan origination and servicing revenues on macroeconomic and U.S. residential real estate market conditions;
•the requirement to repurchase mortgage loans or indemnify investors if we breach representations and warranties;
•the requirement to make servicing advances that can be subject to delays in recovery or may not be recoverable in certain circumstances;
•competition for mortgage assets that may limit the availability of desirable originations, acquisitions and result in reduced risk-adjusted returns;
•our ability to continue to grow our loan origination business or effectively manage significant increases in our loan production volume;
•competition in the industry in which we operate;
•our success and growth of our production and servicing activities and the dependence upon our ability to adapt to and implement technological changes;
•the effectiveness of our risk management efforts;
•our ability to detect misconduct and fraud;
•any failure to attract and retain a highly skilled workforce, including our senior executives;
•our ability to obtain, maintain, protect and enforce our intellectual property;
•any cybersecurity risks, cyber incidents and technology failures;
•material changes to the laws, regulations or practices applicable to reverse mortgage programs operated by FHA and HUD;
•our vendor relationships;
•our failure to deal appropriately with various issues that may give rise to reputational risk, including legal and regulatory requirements;
•any employment litigation and related unfavorable publicity;
•exposure to new risks and increased costs as a result of initiating new business activities or strategies or significantly expanding existing business activities or strategies;
•any failure to comply with the significant amount of regulation applicable to our new investment management subsidiary;
•the impact of changes in political or economic stability or by government policies on our material vendors with operations in India;
•our ability to fully utilize our NOL and other tax carryforwards;
•any challenge by the IRS of the amount, timing and/or use of our NOL carryforwards;
•possible changes in legislation and the effect on our ability to use the tax benefits associated with our NOL carryforwards;
•the impact of other changes in tax laws;
•the impact of interest rate fluctuations;
•risks associated with hedging against interest rate exposure;
•the impact of any prolonged economic slowdown, recession or declining real estate values;
•risks associated with financing our assets with borrowings;
•risks associated with a decrease in value of our collateral;
•the dependence of our operations on access to our financing arrangements, which are mostly uncommitted;
•risks associated with the financial and restrictive covenants included in our financing agreements;
•our exposure to volatility in the London Inter-Bank Offered Rate;
•our ability to raise the debt or equity capital required to finance our assets and grow our business;
•risks associated with higher risk loans that we service;
•risks associated with derivative financial instruments;
•our ability to foreclose on our mortgage assets in a timely manner or at all;
•our ability to obtain and/or maintain licenses and other approvals in those jurisdictions where required to conduct our business;
•the impact of revised rules and regulations and enforcement of existing rules and regulations by the CFPB;
•legislative and regulatory changes that impact the mortgage loan industry or housing market;
•changes in regulations or the occurrence of other events that impact the business, operations or prospects of government agencies such as Ginnie Mae, the FHA or the VA, the USDA, or GSEs such as Fannie Mae or Freddie Mac, or such changes that increase the cost of doing business with such entities;
•the Dodd-Frank Act and its implementing regulations and regulatory agencies, and any other legislative and regulatory changes that impact the business, operations or governance of mortgage lenders;
•the CFPB, and its issued and future rules and the enforcement thereof;
•changes in government support of homeownership;
•changes in government or government sponsored home affordability programs;
•changes in governmental regulations, accounting treatment, tax rates and similar matters;
•risks associated with our acquisition of MSRs;
•the impact of our counterparties terminating our servicing rights under which we conduct servicing activities; and
•our failure to deal appropriately with issues that may give rise to reputational risk.
Many of the important factors that will determine these results are beyond our ability to control or predict. You are cautioned not to put undue reliance on any forward-looking statements, which speak only as of the date of this Report. Except as otherwise required by law, we do not assume any obligation to publicly update or release any revisions to these forward-looking statements to reflect events or circumstances after the date of this Report or to reflect the occurrence of unanticipated events. You should refer to the risks and uncertainties listed under the heading “Risk Factors” in Part I, Item 1A. of this Report, as such risk factors may be amended, supplemented or superseded from time to time by other reports we file with the Securities and Exchange Commission (“SEC”), for a discussion of other important factors that may cause actual results to differ materially from those expressed or implied by the forward-looking statements.
Website and Social Media Disclosure
We use our website (www.investors.homepoint.com) and our corporate Facebook, LinkedIn, and Twitter accounts as channels of distribution of Company information. The information we post through these channels may be deemed material. Accordingly, investors should monitor these channels, in addition to following our press releases, SEC filings and public conference calls and webcasts. The contents of our website and social media channels are not, however, a part of this Report.
Glossary of Defined Terms
As used in this Report, unless the context otherwise requires:
•“An Agency” or “Agencies” refers to Ginnie Mae, the FHA, the VA, the USDA and/or GSEs.
•“CFPB” refers to the Consumer Financial Protection Bureau.
•“Fannie Mae” refers to the Federal National Mortgage Association.
•“FHA” refers to the Federal Housing Administration.
•“Freddie Mac” refers to the Federal Home Loan Mortgage Corporation.
•“Ginnie Mae” refers to the Government National Mortgage Association.
•“GSE” refers to Government-Sponsored Enterprises, such as Fannie Mae and Freddie Mac.
•“Holdings” refers to Home Point Capital LP, a Delaware limited partnership, the direct parent of Home Point Capital Inc. prior to the consummation of the merger in connection with our initial public offering.
•“HUD” refers to the U.S. Department of Housing and Urban Development.
•“MBS” refers to mortgage-backed securities—a type of asset-backed security that is secured by a group of mortgage loans.
•“MSRs” refers to mortgage servicing rights—the right and obligation to service a loan or pool of loans and to receive a servicing fee as well as certain ancillary income. MSRs may be bought and sold, resulting in the transfer of loan servicing obligations. MSRs are designated as such when the benefits of servicing the loans are expected to adequately compensate the servicer for performing the servicing.
•“Sponsor” or “Stone Point Capital” refers to Stone Point Capital LLC.
•“Trident Stockholders” refers, collectively, to one or more investment entities directly or indirectly managed by Stone Point Capital, including Trident VI, L.P., Trident VI Parallel Fund, L.P., Trident VI DE Parallel Fund, L.P. and Trident VI Professionals Fund, L.P.
•“USDA” means the U.S. Department of Agriculture.
•“VA” means the U.S. Department of Veterans Affairs.
Unless the context otherwise indicates, any reference in this Report to “Home Point,” “our Company,” “the Company,” “us,” “we” and “our” refers to Home Point Capital Inc.
Item 1. Business
We are a leading residential mortgage originator and servicer driven by a mission to create financially healthy, happy homeowners. We do this by delivering scale, efficiency and savings to our partners and customers. Our business model is focused on leveraging a nationwide network of partner relationships to drive sustainable origination growth. We support our origination operations through a robust operational infrastructure and a highly responsive customer experience. We then manage the customer experience through our in-house servicing operations and our proprietary customer servicing portal, which we refer to as our Home Ownership Platform. We believe that the complementary relationship between our origination and servicing businesses allows us to provide a best-in-class experience to our customers throughout their homeownership lifecycle.
Our primary focus is our Wholesale channel, which is a business-to-business-to-customer distribution model in which we utilize our relationships with independent mortgage brokerages, which we refer to as our Broker Partners, to reach our end-borrower customers. In this channel, while our Broker Partners establish and maintain the relationship with the end-borrower, we as the lender underwrite the loan in-house and act as the original lender. This differentiates our Wholesale channel from our other two channels of mortgage origination: in our Direct channel, we as the lender engage with the end-borrower customers directly to originate mortgages, and in our Correspondent channel, we as the lender engage with original lenders, which we refer to as our Correspondent Partners, to purchase loans already issued to end-borrower customers.
According to Inside Mortgage Finance, we are the third largest wholesale lender by origination volume for the year ended December 31, 2020. Through our Wholesale channel, we propel the success of our more than 5,000 Broker Partners through a combination of full service, localized sales coverage and an efficient loan fulfillment process supported by our fully integrated technology platform. We differentiate ourselves from our peers focused on the wholesale channel by following a partnership approach towards our Broker Partners, where we seek to mitigate any conflict of interest by allowing the Broker Partners to maintain their customer relationships while we support them with our best-in-class technology platform. Broker Partners, which we define to include brokerage businesses that may include multiple broker employees, represent wholesale and non-delegated correspondent accounts that Home Point is authorized to conduct business with at a given point in time (whether or not we have recently originated mortgages through such broker).
While we initiate our customer relationships at the time the mortgage is originated, we maintain ongoing connectivity with our nearly 360,000 customers through our servicing platform, with the ultimate objective of securing them as a Customer for Life. Our retention strategy and partnership model has differentiated us from our competitors and is a key driver of our continued growth in the wholesale channel.
Our growth is bolstered by a rising tide from the overall wholesale channel, which has garnered an increased share of the overall U.S. residential mortgage market every year since 2016. We benefit from these trends, as well as from our distinct wholesale strategy, which together enable highly scalable production volumes, a strong mix of purchase transactions and favorable unit economics, driven by lower fixed costs.
Our Wholesale strategy further propels our growth, with total loan originations of $62.0 billion through our Broker Partner network in 2020.
Our at-scale, in-house servicing approach is a key differentiator to our Wholesale strategy. We also operate in the Correspondent channel, to source customers efficiently, and in the Direct channel, to provide lending to customers which we service.
We view our servicing platform as a key component to our strategy of providing a highly responsive customer experience. Retaining the servicing on our originations and managing a servicing platform in-house gives us the opportunity to establish a deeper relationship with our customers. This relationship is enhanced through our proprietary customer servicing portal, the Home Ownership Platform, which is our primary point of contact with our customers and is designed to house all interactions post-closing. These interactions can include servicing monthly loan payments, applying for a refinance or shopping for third-party homeowners’ insurance. This curated experience improves customer satisfaction and supports lasting customer relationships, which we believe allows us to better understand our customers’ future financing needs and extend the life of the relationship.
Our Home Ownership Platform, which had more than 340,000 unique users during the year ended December 31, 2020, differentiates us from our competitors in that it personalizes the experience for borrowers through the use of customized dashboards, such as allowing us to deliver critical information about borrowers’ accounts, including payment deadlines, forbearance status and escrow distributions and customized offerings, which allow us to connect borrowers to other third-party financial products such as insurance policies and home equity loans. We have continued to focus on using technology, data and analytics to enhance the home buying and homeownership experience for both our partners and our customers.
We have built a flexible technology infrastructure that is highly componentized, which we believe allows us to leverage nimble internal development teams and market leading third-party systems to provide a best-in-class experience for our partners and customers. We believe that our ability to rapidly reconfigure individual solutions using technology in areas such as underwriting, pricing and disclosure preparation reduces the complexity and improves the efficiency of the origination process.
These efforts have resulted in rapid growth in our originations and profitability. As we continue to grow, we believe the scalability of our partner-driven business model will produce significant operating leverage and increased profitability. We have grown our total net revenue from $199.7 million to $1.4 billion and our total net income (loss) from $(29.2) million to $607.0 million, in each case, from 2019 to the year ended December 31, 2020. In the same periods, we have also grown our non-GAAP core operating metrics for the same periods, with our Adjusted revenue growing from $276.9 million to $1.5 billion and our Adjusted net income growing from $28.2 million to $667.7 million. For a reconciliation of these non-GAAP financial measures to their closest GAAP financial measures, please see “Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations—Non-GAAP Financial Measures” for more information.
Our business model is focused on growing originations by leveraging a network of partner relationships that we support through reliable loan origination infrastructure and a highly responsive customer experience. Our operations are organized into two separate reportable segments: Origination and Servicing.
We originate mortgages in three distinct channels—our Wholesale channel, our Correspondent channel and our Direct channel. We choose to operate in these channels because we believe that together they:
•provide us efficient access to both purchase and refinance transactions throughout market cycles;
•benefit from the premise that in-market advisors will continue to be a cornerstone of the mortgage origination process;
•are highly scalable and flexible; and
•provide an optimized experience for our customers.
In each of these channels, our primary source of revenue consists of (i) gains on loans, which is the difference between the cost of originating or purchasing the mortgage loans and the price at which we sell such loans to investors, primarily the GSEs, and (ii) gains on fair value of MSRs.
Our originations are comprised of both purchase and refinance originations. While refinancing origination levels in the market vary based on a number of market dynamics, including interest rate levels, inflation, unemployment and the strength of the overall economy, we are focused on maintaining steady growth in our purchase origination volumes, which gives us a considerable advantage over our competitors as purchase originations tend to be more stable and reduce earnings volatility. In 2019, our purchase origination mix was 51%. In 2020, the low interest rate environment drove outsized growth in refinancing volumes, resulting in a purchase mix of 31%. However, we maintained strong growth in our purchase origination levels, which grew 70% year over year. Our purchase originations grew from $22.3 billion in 2019 to $62.0 billion in 2020.
We originate residential mortgages in our Wholesale channel through a nationwide network of more than 5,000 Broker Partners. We are strategically focused on this channel given that the underlying cost structure is more efficient than that of Distributed retail, where the costs and overhead associated with originating loans are the responsibility of the lender. As a result, we are able to operate with a lower fixed cost than many of our competitors. This highly leverageable cost structure allows for improved financial flexibility in varying interest rate environments.
Our Broker Partners have local and personal relationships with their customers and therefore can provide tailored and thoughtful advice. However, they do not have the underwriting, funding, distributing or servicing capabilities for these loans. We provide these resources, which allow them to operate with scale and compete against larger market participants. This can be seen through the rapid growth of our originations in this channel, which increased from $11.6 billion in 2019 to $37.9 billion in 2020. This enables our Broker Partners to be nimble and run their business in an entrepreneurial fashion. Our Broker Partners are focused on providing the best possible experience, service, and price to their customers, while we concentrate on maximizing the efficiency of the origination platform leveraged by our partners. While our Broker Partners are responsible for originating the loan, we, as the lender, are responsible for making the loan. As a result, the decision to extend credit to the borrower, and the associated credit risk exposure, is our sole responsibility and not the responsibility of our Broker Partners. While we maintain policies and procedures designed to monitor the performance of our Broker Partners, we are not liable for their independent actions.
The efficiency of our sales team, combined with our flexible cost structure, has positioned us to further consolidate volume from the smaller and less efficient wholesale lenders that still control over 50% of the wholesale market. We plan to do this by increasing the number of independent brokerages that serve as our Broker Partners. Further penetration of the highly fragmented brokerage market would allow us to maintain our industry leading growth profile.
The strategy we employ in our Wholesale channel is closely tied to our servicing strategy. Through our in-house servicing platform, we control the customer experience. This gives us the ability to include our Broker Partners in the management of the customer relationship and ultimately the retention of customers in our collective ecosystem. Our competitors either (i) sell servicing, which can result in inconsistent or adverse customer experiences or (ii) retain servicing and attempt to refinance these customers directly, creating friction in the partner relationship. We believe that our retention strategy and partnership model has differentiated us from others and is a key driver of our continued growth in the wholesale channel.
In our Correspondent channel, we purchase closed and funded mortgages from a trusted network of our Correspondent Partners. Our Correspondent Partners include primarily small- to medium-sized independent mortgage banks, builder affiliates and financial institutions. Our partners underwrite, process and fund loans, but typically lack the scale to economically retain servicing. Our financial institution partners prefer to sell to non-bank originators to avoid conflicting customer solicitation. This channel provides a flexible alternative for us to achieve our customer acquisition goals at a low cost. When favorable market opportunities present themselves, the channel can quickly be scaled up. We acquired $21.3 billion in production through approximately 600 Correspondent Partner relationships during 2020.
In our Direct channel, we originate residential mortgages primarily for existing servicing customers who are seeking new financing options. Our Direct strategy is focused on maximizing the customer retention opportunity in our servicing portfolio, but is differentiated from our competitors in that it is designed to be inclusive of both of our customers’ preferences and our Broker Partners’ in-market presence. For example, if a Broker Partner initiated customer proactively contacts us about a refinancing, we will refer the customer to the applicable Broker Partner that originally established the relationship. This strategy removes the conflict of interest that some competitors have between their direct and wholesale channels. If the customer prefers to use our Direct functionality, or if there is no Broker Partner perhaps because the customer was sourced through a Correspondent Partner, we can still fulfill the customer’s preference and retain the customer relationship. We call this our omni-channel retention strategy.
Due to our omni-channel retention strategy, we maintain stronger Broker Partner relationships and create a key point of differentiation when winning new Broker Partners. We do not compete with our Broker Partners, but instead help them maintain their end customers when having an in-market loan originator is important. This strategy enhances our ability to grow originations and retain customers.
Servicing our customers in-house provides an opportunity for more frequent customer contact. These interactions are enhanced through our proprietary Home Ownership Platform. This makes the process for a customer’s next transaction more efficient because we have an ongoing relationship with the customer and a rich data set that can be leveraged to better the loan origination process. By striving to make the process streamlined, reliable, and focused on the customer’s preference as to who they want as their loan originator, we believe we are able to create Customers for Life.
Over the course of the past year, we have significantly increased retention rates by leveraging our data and analytics to better understand our customers’ future financing needs. This allows us to proactively monitor our customer relationships over time.
Our Direct channel is focused on maximizing the retention opportunity of customers in our servicing portfolio. We believe that recapturing our customers is integral to our goal of creating Customers for Life. For that reason, we began building our Direct channel in 2019, and we have quickly scaled it from $0.5 billion of origination volume in the year ended December 31, 2019 to $2.8 billion in 2020.
Our Direct channel is a key piece of our omni-channel retention strategy, which we designed to meet the needs of our customers, as well as our Broker Partners. Our retention strategy is differentiated from our competitors because it reduces the ‘channel conflict’ that exists between brokers and originators in our competitors’ strategies.
We proactively look for opportunities to save our existing servicing portfolio customers money by identifying refinancing opportunities on their existing mortgage. Our strategy for doing this is to refer that customer back to the applicable Broker Partner that initially established the relationship. That referral creates an opportunity for our Broker Partners to generate incremental business without independently sourcing the loan. Our ability to deliver that lead to our Broker Partner allows us to build sticky, long-term relationships and add meaningful value for our Broker Partners. While a referral to our Broker Partner does not guarantee that we will ultimately originate the retained loan, we believe this strategy allows us to capture an increased share of our Broker Partner’s future business and advance our goal of maintaining Customers for Life.
In situations where the customer relationship was sourced through a Correspondent Partner, we look to originate that customer’s next loan through our Direct channel and retain the corresponding MSR. By maintaining flexibility to retain our customers through both our Broker Partners and our Direct channel, we are able to effectively execute our omni-channel retention strategy.
Servicing is a strategic cornerstone of our business and is central to our Customer for Life strategy, which extends the customer lifecycle. Our Servicing segment, which operates primarily out of our centralized office in Dallas, TX, is authorized to conduct business in all 50 states and D.C. We have dedicated significant time and resources to developing our in-house servicing capabilities so we can effectively execute our strategy. By continuing to increase origination volumes, we have been able to grow our servicing portfolio, which enables us to generate attractive economics and benefit from scale.
As of December 31, 2020, our number of servicing portfolio customers was almost 360,000, as compared to 236,000 at the end of 2019. During this same period, our servicing portfolio UPB increased from $52.6 billion at the end of 2019 to $91.5 billion at the end of 2020.
Our servicing business consists of collecting loan payments, remitting principal and interest payments to investors, managing escrow funds for the payment of mortgage-related expenses, such as taxes and insurance, performing loss mitigation activities on behalf of investors and otherwise administering our mortgage loan servicing portfolio in compliance with state and federal regulations and our investors’ guidelines. Strategically retaining servicing on the loans we originate and managing an in-house servicing platform allows us to establish deeper relationships with our customers. The relationship is enhanced through our proprietary Home Ownership Platform. The Home Ownership Platform offers our customers a curated experience with frequent touchpoints, which we believe supports a superior homeownership journey. This connectivity and ongoing dialogue helps us proactively find ways to help our customers, either through a refinancing of their mortgage or savings on another home-related product. Through frequency of interaction, coupled with providing effective solutions beyond a mortgage, we strive to develop a trusted relationship and ultimately increase the lifetime value of our customers.
We have utilized the Home Ownership Platform to support our customers during the COVID-19 pandemic. We have provided our customers with on-demand access to updates on forbearance policies and details on the various options available to help navigate through a period of significant uncertainty. In conjunction with our servicing team, we believe we were able to provide our customers with a high level of customer service, deepening our relationships and solidifying our position as a trusted partner.
The Home Ownership Platform is fully integrated into our broader technology infrastructure. We rely on fully integrated origination and servicing technology to drive efficiency, manage compliance and regulatory processes and facilitate seamless loan onboarding, funding and servicing. We believe that leveraging our technology platform as we continue to grow will allow us to further realize economies of scale and benefit from operating leverage in both our Origination and Servicing segments.
Over the course of the past year, we have initiated an asset management strategy to help us scale our servicing operation and support continued origination growth in a more capital-light manner. To execute on this strategy, we acquired a licensed entity, which will house servicing assets over time. We are preparing the launch of this investment vehicle and expect to begin raising third-party capital to grow the strategy in 2021. Our history of managing servicing assets for our balance sheet has given us the experience necessary to manage third-party capital.
Mortgage banking technology is evolving rapidly. Historically, it has been an advantage to develop technology in-house, but in today’s marketplace, there are various alternative technology solutions that provide a competitive advantage through increased flexibility and lower costs. Building and maintaining a monolithic, proprietary loan origination system is not only costly, but highly complex. This makes it increasingly challenging to evolve with emerging technologies. We have developed a multi-prong strategy whereby we (i) partner with best-in-class third-party software providers to meet our core technology needs and (ii) deploy internal resources to build proprietary software in areas where we believe we can create a strategic advantage. We integrate our third-party providers with our proprietarily built software to provide a unified, seamless experience for our partners and customers. We believe that our componentized approach promotes nimbleness and allows us to provide technology solutions faster than our competition, while retaining control in areas that we deem strategically important.
Our Home Ownership Platform is an example of our approach to technology. We have built a proprietary user interface that leverages third-party solutions to create a differentiated customer experience. The Home Ownership Platform presents our customers with a curated experience, which more broadly supports their home ownership journey. This is done together with third-party providers that offer a variety of products and services to our customers, including insurance, loans and other ancillary home service products. In addition to revenue generation, the successful execution of these offerings is intended to build a stronger relationship between us and our customers with the goal of retaining the customer in our ecosystem—Customers for Life.
The Home Ownership Platform provides a customized and enriched experience for our customers through the use of data and analytics. The platform serves as a tool to establish touch points with our customers and better understand their financing needs. By synthesizing the data, we can identify opportunities to increase the efficiency of processes via our simplistic and streamlined user interface. This user interface allows our customers to manage a variety of aspects of their existing and potential future homeownership products, including making monthly payments, exchanging documents and contacting support.
We believe the combination of customer-centric technology and process execution is key to creating the best platform. As a result, we have placed a heavy emphasis on process design and have assembled a team of process engineers that possess a unique combination of business acumen and an understanding of how to deploy mortgage technology. This process engineering team is integrated within the operations of our business to ensure our technology solutions are strategically aligned in developing and delivering efficiencies to the business. These efficiencies promote our ability to drive scale and better serve the needs of both our customers and our partners. The dedicated focus of this team enables us to constantly identify and streamline operational areas that can be best served through technological improvement.
U.S. Mortgage Market
The U.S. mortgage market is one of the largest and consistently growing financial markets in the world. As of December 31, 2020, according to the Federal Reserve Bank of New York there was approximately $10 trillion of residential mortgage debt outstanding in the United States. The mortgage origination market has averaged $2.0 trillion in annual originations since 2000, evidencing the consistency in market loan volume production. According to Fannie Mae’s Housing Forecast, total purchase and refinance originations are expected to reach nearly $4.1 trillion in 2021. Periods of outsized refinancing opportunities, such as 2020, provide significant upside in the mortgage market, while purchase mortgages, which represent $1.8 trillion of the market of the 2021 forecast, provide stability in market volumes.
We operate in a heavily regulated industry that is highly focused on consumer protection. Both the scope of the laws and regulations and the intensity of the supervision to which we are subject have increased in recent years, initially in response to the financial crisis, and more recently in light of other factors such as technological and market changes. Regulatory enforcement and fines have also increased across the financial services sector. We expect to continue to face regulatory scrutiny as an organization and as a participant in the mortgage sector.
Our business is subject to extensive oversight and regulation by federal, state and local governmental authorities, including the CFPB, HUD and various state agencies that license and conduct examinations of our loan servicing, origination and collection activities. From time to time, we also receive requests from federal, state and local agencies for records, documents and information relating to the policies, procedures and practices of our loan servicing, origination and collection activities. The GSEs, Ginnie Mae, and various investors and lenders also subject us to periodic reviews and audits.
The descriptions below summarize certain significant state and federal laws to which we are subject. The descriptions are qualified in their entirety by reference to the particular statutory or regulatory provisions summarized. They do not summarize all possible or proposed changes in current laws or regulations and are not intended to be a substitute for the related statues or regulatory provisions.
Federal, State and Local Laws and Regulations
We must comply with a large number of federal, state and local consumer protection laws and regulations including, among others:
•the Real Estate Settlement Procedures Act and Regulation X, which (1) require certain disclosures to be made to the borrower at application, as to the lender’s good faith estimate of loan origination costs, and at closing with respect to the real estate settlement statement, (2) apply to certain loan servicing practices including escrow accounts, customer complaints, servicing transfers, lender-placed insurance, error resolution and loss mitigation, and (3) prohibit giving or accepting any fee, kickback or a thing of a thing of value for the referral of real estate settlement services;
•The Truth In Lending Act, or TILA, Home Ownership and Equity Protection Act of 1994, and Regulation Z, which regulate mortgage loan origination activities, require certain disclosures be made to borrowers throughout the loan process regarding terms of mortgage financing, provide for a three-day right to rescind some transactions, regulate certain higher-priced and high-cost mortgages, require lenders to make a reasonable and good faith determination that consumers have the ability to repay the loan, mandate home ownership counseling for mortgage applicants, impose restrictions on loan originator compensation, and apply to certain loan servicing practices;
•Regulation N, which prohibits certain unfair and deceptive acts and practices related to mortgage advertising;
•certain provisions of the Dodd-Frank Act, including the Consumer Financial Protection Act, which, among other things, prohibit unfair, deceptive or abusive acts or practices;
•the Fair Credit Reporting Act, as amended by the Fair and Accurate Credit Transactions Act, and Regulation V, which regulate the use and reporting of information related to the credit history of consumers, require disclosures to consumers regarding the use of credit report information in certain credit decisions and require lenders to undertake remedial actions if there is a breach in the lender’s data security;
•the Equal Credit Opportunity Act and Regulation B, which prohibit discrimination on the basis of age, race and certain other characteristics in the extension of credit and require certain disclosures to applicants for credit;
•the Homeowners Protection Act, which requires certain disclosures and the cancellation or termination of mortgage insurance once certain equity levels are reached;
•the Home Mortgage Disclosure Act and Regulation C, which require reporting of loan origination data, including the number of loan applications taken, approved, denied and withdrawn;
•the Fair Housing Act, which prohibits discrimination in housing on the basis of race, sex, national origin, and certain other characteristics;
•the Fair Debt Collection Practices Act, which regulates the timing and content of third-party debt collection communications;
•the Gramm-Leach-Bliley Act, which requires initial and periodic communication with consumers on privacy matters and the maintenance of privacy regarding certain consumer data in our possession;
•the Bank Secrecy Act and related regulations from the Office of Foreign Assets Control, and the Uniting and Strengthening America by Providing Appropriate Tools Required to Intercept and Obstruct Terrorism Act, or the USA PATRIOT Act, which impose certain due diligence and recordkeeping requirements on lenders to detect and block money laundering that could support terrorist or other illegal activities;
•the Secure and Fair Enforcement for Mortgage Licensing Act, or the SAFE Act, which imposes state licensing requirements on mortgage loan originators;
•the Military Lending Act, or MLA, which restricts, among other things, the interest rate and other terms that can be offered to active military personnel and their dependents on most types of consumer credit, requires certain disclosures and prohibits certain terms, such as mandatory arbitration if a dispute arises concerning the consumer credit product;
•the Servicemembers Civil Relief Act, which provides financial protections for eligible service members;
•the Federal Trade Commission Act, the FTC Credit Practices Rules and the FTC Telemarketing Sales Rule, which prohibit unfair or deceptive acts or practices and certain related practices;
•the Telephone Consumer Protection Act, which restricts telephone and text solicitations and communications and the use of automatic telephone equipment;
•the Electronic Signatures in Global and National Commerce Act, or ESIGN, and similar state laws, particularly the Uniform Electronic Transactions Act, or UETA, which require businesses that use electronic records or signatures in consumer transactions and provide required disclosures to consumers electronically, to obtain the consumer’s consent to receive information electronically;
•the Electronic Fund Transfer Act of 1978, or EFTA, and Regulation E, which protect consumers engaging in electronic fund transfers;
•the Controlling the Assault of Non-Solicited Pornography and Marketing Act of 2003 and the FTC’s rules promulgated pursuant to such Act, or the CAN-SPAM Act, which establish requirements for certain “commercial messages” and “transactional or relationship messages” transmitted via email; and
•the Bankruptcy Code and bankruptcy injunctions and stays, which can restrict collection of debts.
In addition to applicable federal laws and regulations governing our operations, our ability to originate and service loans in any particular state is subject to that state’s laws, regulations and licensing requirements, which may differ from the laws, regulations and licensing requirements of other states. State laws often include limits on the fees and interest rates we may charge, disclosure requirements with respect to fees and interest rates and other requirements. Many states have adopted regulations that prohibit various forms of “predatory” lending and place obligations on lenders to substantiate that a customer will derive a tangible benefit from the proposed home financing transaction and/or have the ability to repay the loan. Many of these laws are vague and subject to differing interpretation, which exposes us to additional risks.
On January 1, 2020, the CCPA took effect, directly impacting our California business operations and indirectly impacting our operations nationwide. Generally speaking, the CCPA provides consumers with new privacy rights such as the right to request deletion of their data, the right to receive data on record for them, and the right to know what categories of data (generally) are maintained about them. It also mandates new disclosures prior to, and at, the point of data collection and
increases the privacy and security obligations of entities handling certain personal information of such consumers. The CCPA allows consumers to submit verifiable consumer requests regarding their personal information and requires our business to implement procedures to comply with such requests. The California Attorney General issued, and subsequently updated, proposed regulations to further define and clarify the requirements of the CCPA. The impact of this law and its corresponding regulations, future enforcement activity and potential liability is unknown. At least two additional states have enacted similar laws to the CCPA, and we expect more states to follow.
These laws and regulations apply to many facets of our business, including loan origination, loan servicing, default servicing and collections, use of credit reports, safeguarding of non-public personally identifiable information about our customers, foreclosure and claims handling, investment of and interest payments on escrow balances and escrow payment features, and mandate certain disclosures and notices to borrowers. These requirements can and do change as statutes and regulations are enacted, promulgated, amended, interpreted and enforced.
In response to COVID-19, the Coronavirus Aid, Relief, and Economic Security Act (“CARES Act”) imposes several new compliance obligations on our mortgage servicing activities, including, but not limited to, mandatory forbearance offerings, altered credit reporting obligations, and moratoriums on foreclosure actions and late fee assessments. Many states have taken similar measures to provide mortgage payment and other relief to consumers, which create additional complexity around our mortgage servicing compliance activities. Federal, state and local executive, legislative and regulatory responses to COVID-19 are rapidly evolving, not consistent in scope or application, and subject to change without advance notice.
Our failure to comply with applicable federal, state and local laws, regulations and licensing requirements could lead to, without limitation, any of the following:
•loss of our licenses and approvals to engage in our servicing and lending businesses;
•governmental investigations and enforcement actions;
•administrative fines and penalties and litigation;
•civil and criminal liability, including class action lawsuits and actions to recover incentive and other payments made by governmental entities;
•breaches of covenants and representations resulting in defaults and cross-defaults under our servicing and trade agreements and financing arrangements;
•damage to our reputation;
•inability to obtain new financing and maintain existing financing;
•inability to raise capital; or
•inability to execute on our business strategy.
Supervision and Enforcement
Since its formation, the CFPB has taken a very active role in the mortgage industry. The CFPB has rulemaking authority with respect to many of the federal consumer protection laws applicable to mortgage lenders and servicers, and its rulemaking and regulatory agenda relating to loan servicing and origination continues to evolve. The CFPB also has broad supervisory and enforcement powers with regard to non-depository financial institutions that engage in the origination and servicing of mortgage loans. The CFPB has conducted routine examinations of our business and will conduct future examinations.
As part of its enforcement authority, the CFPB can order, among other things, rescission or reformation of contracts, the refund of moneys or the return of real property, restitution, disgorgement or compensation for unjust enrichment, the payment of damages or other monetary relief, public notifications regarding violations, remediation of practices, external compliance monitoring and civil money penalties. The CFPB has been active in investigations and enforcement actions and has issued large civil money penalties since its inception to parties the CFPB determines violated the laws and regulations it enforces.
Individual states have also been active in the mortgage industry, as have other regulatory organizations such as the Multistate Mortgage Committee, a multistate coalition of various mortgage banking regulators. We also believe there has been a shift among certain regulators towards a broader view of the scope of regulatory oversight responsibilities with respect to mortgage lenders and servicers. In addition to their traditional focus on licensing and examination matters, certain regulators have begun to make observations, recommendations or demands with respect to areas such as corporate governance, safety and soundness and risk and compliance management.
In addition, we receive information requests and other inquiries, both formal and informal in nature, from our state regulators as part of their general regulatory oversight of our servicing and lending businesses.
The CFPB and state regulators have also increasingly focused on the use and adequacy of technology in the mortgage servicing industry. In 2016, the CFPB issued a special edition supervisory report that stressed the need for mortgage servicers to assess and make necessary improvements to their information technology systems to ensure compliance with the CFPB’s mortgage servicing requirements. The New York Department of Financial Services, or the NYDFS, also issued Cybersecurity Requirements for Financial Services Companies, which took effect in 2017, and which required banks, insurance companies, and other financial services institutions regulated by the NYDFS to establish and maintain a cybersecurity program designed to protect consumers and ensure the safety and soundness of New York State’s financial services industry.
New regulatory and legislative measures, or changes in enforcement practices, including those related to the technology we use, could, either individually or in the aggregate, require significant changes to our business practices, impose additional costs on us, limit our product offerings, limit our ability to efficiently pursue business opportunities, negatively impact asset values or reduce our revenues.
State Licensing, State Attorneys General and Other Matters
Because we are not a depository institution, we must comply with state licensing requirements to conduct our business, and we are licensed to originate loans in all 50 states and the District of Columbia. We also are able to purchase and service loans in all 50 states and the District of Columbia, either because we have the required licenses in such jurisdictions or are exempt or otherwise not required to be licensed to perform such activity in such jurisdictions.
Under the SAFE Act, all states have laws that require mortgage loan originators employed by non-depository institutions to be individually licensed to offer mortgage loan products. These licensing requirements require individual loan originators employed by us to register in a nationwide mortgage licensing system, submit application and background information to state regulators for a character and fitness review, submit to a criminal background check, complete a minimum of 20 hours of pre-licensing education, complete an annual minimum of eight hours of continuing education and successfully complete an examination. As a result of each license we maintain, we are subject to regulatory oversight, supervision and enforcement authority in connection with the activities that we conduct pursuant to the license, including to determine our compliance with applicable law.
We also must comply with state licensing requirements to conduct our business, and we incur significant ongoing costs to comply with these licensing requirements. Our licensed entities are required to renew their licenses, typically on an annual basis, and to do so they must satisfy the license renewal requirements of each jurisdiction. This generally will include financial requirements such as providing audited financial statements or satisfying minimum net worth requirements and non-financial requirements such as satisfactorily completing examinations as to the licensee’s compliance with applicable laws and regulations.
Failure to satisfy any of the requirements to which our licensed entities are subject could result in a variety of regulatory actions such as a fine, a directive requiring a certain step to be taken, a prohibition or restriction on certain activities, a suspension of a license or ultimately a revocation of a license. Certain types of regulatory actions could limit our ability to continue to conduct our business in the relevant jurisdictions or result in a breach of representations, warranties and covenants, and potentially cross-defaults in our financing arrangements which could limit or prohibit our access to liquidity to operate our business.
We compete with third-party businesses in originating forward mortgages, including other bank and non-bank financial services companies focused on one or more of these business lines. Competition in our industry can take many forms, including the variety of loan programs being made available, interest rates and fees charged for a loan, convenience in obtaining a loan, customer service levels, the amount and term of a loan, and marketing and distribution channels. Many of our competitors for forward mortgage originations are commercial banks or savings institutions. These financial institutions typically have access to greater financial resources, have more diverse funding sources with lower funding costs, are less reliant on loan sales or securitizations of mortgage loans into the secondary markets to maintain their liquidity, and may be able to participate in government programs in which we are unable to participate because we are not a state or federally chartered depository institution, all of which places us at a competitive disadvantage. Fluctuations in interest rates and general economic conditions may also affect our competitive position. During periods of rising rates, competitors that have locked in low borrowing costs may have a competitive advantage. Furthermore, a cyclical decline in the industry’s overall level of originations, or decreased demand for loans due to a higher interest rate environment, may lead to increased competition for the remaining loans. Any increase in these competitive pressures could be detrimental to our business.
We use a combination of proprietary and third-party intellectual property, including trade secrets, unregistered copyrights, trademarks, service marks, and domain names, and the intellectual property rights in our proprietary software, all of which we believe maintain and enhance our competitive position and protect our products.
Cyclicality and Seasonality
The demand for loan originations is affected by consumer demand for home loans and the market for buying, selling, financing and/or re-financing residential and commercial real estate, which in turn, is affected by the national economy, regional trends, property valuations, interest rates, and socio-economic trends and by state and federal regulations and programs which may encourage and accelerate or discourage and slowdown certain real estate trends. Our business is generally subject to seasonal trends with activity generally decreasing during the winter months, especially home purchase loans and related services.
Human Capital Resources
As of December 31, 2020, we employed approximately 3,500 full-time associates globally. None of our associates are covered by collective bargaining agreements, and we consider our associate relations to be good. Our culture and technology has allowed many of our associates (including executives and mortgage loan officers and staff) to work in divergent locations, which has allowed us to recruit and hire top managers and executives regardless of geography and to continue our business and operations without significant disruption from the COVID-19 pandemic.
Our website address is www.investors.homepoint.com. We make available on or through our website certain reports and amendments to those reports that we file with or furnish to the SEC in accordance with the Securities Exchange Act of 1934, as amended (the “Exchange Act”). These include our Annual Reports on Form 10-K, our Quarterly Reports on Form 10-Q, and our Current Reports on Form 8-K, and amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Exchange Act. We make this information available on or through our website free of charge as soon as reasonably practicable after we electronically file the information with, or furnish it to, the SEC. References to our website address do not constitute incorporation by reference of the information contained on the website, and the information contained on the website is not part of this document or any other document that we file with or furnish to the SEC. The SEC maintains a website that contains reports, proxy and information statements and other information regarding our filings at www.sec.gov.
The following is a summary of the principal risks that could adversely affect our business, results of operations and financial condition. If any of these risks actually occurs, our business, results of operations and financial condition may be materially adversely affected.
•the spread of the COVID-19 outbreak and severe disruptions in the U.S. and global economy and financial markets it has caused;
•our reliance on our financing arrangements to fund mortgage loans and otherwise operate our business;
•the dependence of our loan origination and servicing revenues on macroeconomic and U.S. residential real estate market conditions;
•the requirement to repurchase mortgage loans or indemnify investors if we breach representations and warranties;
•the requirement to make servicing advances that can be subject to delays in recovery or may not be recoverable in certain circumstances;
•competition for mortgage assets that may limit the availability of desirable originations, acquisitions and result in reduced risk-adjusted returns;
•our ability to comply with the laws and regulations to which we are subject, whether actual or alleged;
•our ability to continue to grow our loan origination business or effectively manage significant increases in our loan production volume;
•competition in the industry in which we operate;
•our ability to acquire loans and sell the resulting MBS in the secondary markets on favorable terms in our production activities;
•our being a “controlled company” within the meaning of Nasdaq rules and, as a result, qualifying for exemptions from certain corporate governance requirements; and
•our Sponsor controlling us and its interests conflicting with ours or yours in the future.
Item 1A. Risk Factors
You should carefully consider the risks and uncertainties described below and the other information set forth in this Report before deciding to invest in us. If any of the following risks actually occurs, our business, results of operations and financial condition may be materially adversely affected. The risks described below are not the only risks that we face. Additional risks not presently known to us or that we currently deem immaterial may also materially adversely affect our business, financial condition, liquidity and results of operations in future periods.
Risks Related to Our Business
General Business Risks
The current outbreak of the novel coronavirus, or COVID-19, has caused, and will continue to cause, disruption to our business, liquidity, financial condition and results of operations. Further, the spread of the COVID-19 outbreak has caused severe disruptions in the U.S. and global economy and financial markets and could potentially create widespread business continuity issues of an as yet unknown magnitude and duration.
In December 2019, COVID-19 was reported to have surfaced in Wuhan, China. COVID-19 has since spread to over 100 countries, including every state in the United States. On March 11, 2020, the World Health Organization declared COVID-19 a pandemic, and on March 13, 2020, the United States declared a national emergency with respect to COVID-19.
The outbreak of COVID-19 has severely impacted global economic activity and caused significant volatility and negative pressure in financial markets. The global impact of the outbreak has been rapidly evolving and many countries, including the United States, have reacted by instituting quarantines, mandating business and school closures and restricting travel. The outbreak has triggered a period of global economic slowdown and many experts predict that it may trigger a global recession. COVID-19 or another pandemic could have material and adverse effects on our ability to successfully operate due to, among other factors:
•a general decline in business activity;
•negatively impacting demand for our mortgage loan products, as well as borrowers’ ability to fulfill their loan obligations leading to an increase in delinquency rates, which could have a significant impact on the value of our mortgage assets;
•the requirement for us to advance material amounts of cash for delinquent principal, interest, taxes and insurance typically paid by borrowers, which may not be reimbursed for an extended period of time;
•the costs of preserving and liquidating defaulted properties, as a result of increased serious delinquencies and defaults;
•the destabilization of the real estate and mortgage markets, which could negatively impact fair value of our assets, reduce our loan production volume, reduce the profitability of servicing mortgages or adversely affect our ability to sell mortgage loans;
•difficulty accessing the capital markets on attractive terms, or at all, and a severe disruption and instability in the global financial markets, including the MBS market, or deteriorations in credit and financing conditions which could affect our access to capital necessary to fund business operations or address maturing liabilities on a timely basis;
•the inability to promptly foreclose on defaulted mortgage loans and liquidate the underlying real property due to the rapidly changing regulatory and administrative climate, including the suspension of foreclosures and evictions as mandated by governmental bodies;
•the potential negative impact on the health of our highly qualified personnel, in particular skilled managers, loan servicers, debt default specialists and underwriters, especially if a significant number of them are impacted; and
•a deterioration in our ability to ensure business continuity during a disruption.
The rapid development and fluidity of this situation precludes any prediction as to the ultimate adverse impact of COVID-19. Nevertheless, COVID-19 presents material uncertainty and may also exacerbate the other risks described herein, which may negatively impact our business, liquidity, financial condition and results of operations.
Our business relies on our financing arrangements to fund mortgage loans and otherwise operate our business. If one or more of such facilities are terminated, we may be unable to find replacement financing at commercially favorable terms, or at all, which could be detrimental to our business.
We currently fund substantially all of the MSRs and mortgage loans we close through borrowings under our financing arrangements and warehouse lines of credit along with funds generated by our operations. As of December 31, 2020, we held mortgage funding arrangements with ten separate financial institutions with a total maximum borrowing capacity of $4.2
billion. In January 2021, we entered into an additional mortgage funding arrangement with a total maximum borrowing capacity of $500 million. Each mortgage funding arrangement is collateralized by the underlying mortgage loans.
Of the ten existing mortgage warehouse lines of credit as of December 31, 2020, seven of the facilities are 364-day facilities and the other mortgage warehouse lines of credit are evergreen agreements. The facility entered into in January 2021 is also a 364-day facility. As of December 31, 2020, approximately $450 million of borrowing capacity under our mortgage warehouse lines of credit was committed, while the remaining borrowing capacity under our mortgage warehouse lines of credit was uncommitted and can be terminated by the applicable lender at any time. Three of the facilities require that we establish a cash reserve of $11.0 million which is reflected within Restricted cash on the consolidated balance sheet as of December 31, 2020.
Our borrowings are generally repaid with the proceeds we receive from mortgage loan sales. We are currently, and may in the future continue to be, dependent upon our lenders to provide the primary mortgage warehouse lines of credit for our loans. While we currently expect to be able to renew our existing warehouse facilities prior to their expiration, there is no guarantee that our current uncommitted facilities will be available for future financing needs, nor that we will be able to secure alternative funding facilities to replace any current facilities that we are unable to renew upon their scheduled expiration. In the event that any of our mortgage warehouse lines of credit is terminated or is not renewed, or if the principal amount that may be drawn under our funding agreements that provide for immediate funding at closing were to significantly decrease, we may be unable to find replacement financing on commercially favorable terms, or at all, which could be detrimental to our business.
Our ability to refinance existing debt and borrow additional funds is affected by a variety of factors, including:
•restrictive covenants and borrowing conditions in our existing or future financing arrangements that may limit our ability to raise additional debt;
•a decline in the liquidity in the credit markets;
•prevailing interest rates;
•the financial strength of our lenders;
•the decisions of lenders from whom we borrow to reduce their exposure to mortgage loans; and
•accounting changes that impact the calculations of covenants in our debt agreements.
If we are unable to refinance our existing debt or borrow additional funds due to any of the foregoing or other factors, our ability to maintain or grow our business could be limited.
Our loan origination and servicing revenues are highly dependent on macroeconomic and U.S. residential real estate market conditions.
Our success depends largely on the health of the U.S. residential real estate industry, which is seasonal, cyclical and affected by changes in general economic conditions beyond our control. We also have significant dependence on some states such as California and are subject to conditions in those states. Economic factors such as increased interest rates, slow economic growth or recessionary conditions, the pace of home price appreciation or lack thereof, changes in household debt levels and increased unemployment or stagnant or declining wages affect our customers’ income and thus their ability and willingness to make loan payments. National or global events including, but not limited to, the COVID-19 pandemic, affect all such macroeconomic conditions. Weak or a significant deterioration in economic conditions reduces the amount of disposable income consumers have, which in turn reduces consumer spending and the willingness of qualified potential borrowers to take out loans. As a result, such economic factors affect loan origination volume.
Additional macroeconomic factors including, but not limited to, rising government debt levels, the withdrawal or augmentation of government interventions into the financial markets, changing U.S. consumer spending patterns, changing expectations for inflation and deflation, and weak credit markets may create low consumer confidence in the U.S. economy or the U.S. residential real estate industry or result in increased volatility in the United States and worldwide financial markets and economy. Excessive home building or historically high foreclosure rates resulting in an oversupply of housing in a particular area may also increase the amount of losses incurred on defaulted mortgage loans, or may limit our ability to make additional loans in those affected areas. The economic impact of these events could also adversely affect the credit quality of some of our loans and investments and the properties underlying our interests.
Recently, financial markets have experienced significant volatility as a result of the effects of the COVID-19 pandemic. Many state and local jurisdictions have enacted measures requiring closure of businesses and other economically restrictive efforts to combat the COVID-19 pandemic. Unemployment levels have increased significantly and may remain at elevated levels or continue to rise. There may be a significant increase in the rate and number of mortgage payment delinquencies, and house sales, home prices and multifamily fundamentals may be adversely affected, which could lead to a material adverse decrease of our mortgage origination activities. For more information, see the risk factor entitled, “—The current outbreak of the novel coronavirus, or COVID-19, has caused, and will continue to cause, disruption to our business, liquidity, financial condition and results of operations. Further, the spread of the COVID-19 outbreak has caused severe disruptions in the U.S. and global economy and financial markets and could potentially create widespread business continuity issues of an as yet unknown magnitude and duration.”
Furthermore, several state and local governments in the United States are experiencing, and may continue to experience, budgetary strain, which will be exacerbated by the impact of the COVID-19 pandemic. One or more states or significant local governments could default on their debt or seek relief from their debt under the U.S. bankruptcy code or by agreement with their creditors. Any or all of the circumstances described above may lead to further volatility in or disruption of the credit markets at any time and adversely affect our financial condition.
Any uncertainty or deterioration in market conditions or prolonged economic slowdown or recession that leads to a decrease in loan originations will result in lower revenue on loans sold into the secondary market. Lower loan origination volumes generally place downward pressure on margins, thus compounding the effect of the deteriorating market conditions. Such events could be detrimental to our business. Moreover, any deterioration in market conditions that leads to an increase in loan delinquencies will result in lower revenue for loans we service for the GSEs and Ginnie Mae because we collect servicing fees from them only for performing loans. While increased delinquencies generate higher ancillary revenues, including late fees, these fees are likely unrecoverable when the related loan is liquidated.
Increased delinquencies may also increase the cost of servicing loans. The decreased cash flow from lower servicing fees could decrease the estimated value of our MSRs, resulting in recognition of losses when we write down those values. In addition, an increase in delinquencies lowers the interest income we receive on cash held in collection and other accounts and increases our obligation to advance certain principal, interest, tax and insurance obligations owed by the delinquent mortgage loan borrower. An increase in delinquencies could therefore be detrimental to our business. See the risk factor entitled, “Risks Related to our Mortgage Assets—A significant increase in delinquencies for the loans we service could have a material impact on our revenues, expenses and liquidity and on the valuation of our MSRs.”
Additionally, origination of loans can be seasonal. Historically, our loan origination has increased activity in the second and third quarters and reduced activity in the first and fourth quarters as home buyers tend to purchase their homes during the spring and summer in order to move to a new home before the start of the school year. As a result, our loan origination revenues vary from quarter to quarter. However, this historical pattern may be disrupted for the foreseeable future as a result of the shelter-in-place and similar protective orders that have been issued in response to the COVID-19 pandemic.
Any of the circumstances described above, alone or in combination, may lead to volatility in or disruption of the credit markets at any time and have a detrimental effect on our business.
We may be required to repurchase mortgage loans or indemnify investors if we breach representations and warranties.
When we sell loans, we are required to make customary representations and warranties about such loans to the loan purchaser. If a mortgage loan does not comply with the representations and warranties that we made with respect to it at the time of its sale, we could be required to repurchase the loan, replace it with a substitute loan and/or indemnify secondary market purchasers for losses.
As part of our correspondent production activities, we re-underwrite a percentage of the loans that we acquire, to ensure quality underwriting by our Correspondent Partners, accurate third-party appraisals and strict compliance with the representations and warranties that we require from our Correspondent Partners and that are required from us by our investors. No assurance can be given that the re-underwriting of a sample population of loans will identify any and all underwriting and regulatory compliance issues related to such loans or to any of the other loans we acquire from Correspondent Partners. In our Direct and Wholesale channels, we underwrite each loan prior to funding and attempt to comply with applicable investor guidelines. However, no assurance can be given that such underwriting will result in all cases with loans that fully comply with such guidelines, and state or federal law.
In the event of a breach of any representations or warranties we make to purchasers, insurers or investors, we believe, based on our experience, that in a majority of cases, for correspondent originated loans acquired using the “delegated underwriting” option, we will have recourse to the Correspondent Partner that sold the mortgage loans to us and breached similar or other representations and warranties. Although we believe we will have the right to seek a recovery of related repurchase losses from that Correspondent Partner, we cannot assure you that this will always be the case. For Correspondent loans where we do the underwriting, referred to as the “non-delegated underwriting” option, our ability to seek a recovery of repurchase and other losses from Correspondent Partners is more limited.
In addition to the customary representations and warranties we make, the documents governing our securitized pools of loans and our contracts with certain purchasers of our whole loans contain additional provisions that require us to indemnify or repurchase the related loans under certain circumstances. While our contracts vary, they contain provisions that require us to repurchase loans if the borrower fails to make loan payments due to the purchaser on a timely basis in the first few months after we sell the loan. We have been and continue to be subject to repurchase claims from investors for various reasons, and we will continue to be subject to such claims in the future. If we are required to indemnify or repurchase loans that we have sold or securitized, or will sell or securitize in the future, and this results in losses that exceed our reserve, such occurrence could have a material adverse effect on our business, financial condition and results of operations.
Furthermore, the repurchased loan typically can only be financed at a steep discount to its repurchase price, if at all, and can generally be sold only at a discount to the unpaid principal balance, which in some cases can be significant. Significant repurchase activity on Direct or Wholesale loans or on Correspondent loans without offsetting recourse to a counterparty that we purchased the loan from could materially and adversely affect our business, financial condition, liquidity and results of operations.
We are subject to counterparty risk and may be unable to seek indemnity from, or require our correspondent counterparties or sellers to repurchase mortgage loans if they breach representations and warranties, which could cause us to suffer losses.
When we purchase mortgage assets, our correspondent counterparty or seller typically makes customary representations and warranties to us about such assets. Our residential mortgage loan purchase agreements may entitle us to seek indemnity or demand repurchase or substitution of the loans in the event our counterparty breaches such a representation or warranty. However, there can be no assurance that our mortgage loan purchase agreements will contain appropriate representations and warranties, that we will be able to enforce our contractual right to demand repurchase or substitution, or that our counterparty will remain solvent or otherwise be willing and able to honor its obligations under our mortgage loan purchase agreements. Our inability to obtain indemnity or enforce repurchase obligations of counterparties and sellers for a significant number of loans could materially and adversely affect our business, financial condition, liquidity and results of operations.
We are required to make servicing advances that can be subject to delays in recovery or may not be recoverable in certain circumstances, which could adversely affect our business, financial condition, liquidity and results of operations.
During any period in which a borrower is not making payments, we are required under most of our servicing agreements in respect of our loans to advance our own funds to pass through scheduled principal and interest payments to security holders of the MBS or whole loans into which the loans are sold, and pay property taxes and insurance premiums, legal expenses and other protective advances. We also advance funds under these agreements to maintain, repair and market real estate properties on behalf of investors. In certain situations, our contractual obligations may require us to make advances for which we may not be reimbursed. If a mortgage loan serviced by us is in default or becomes delinquent, the repayment to us of the advance may be delayed until the mortgage loan is repaid or refinanced or a liquidation occurs. When a relatively young MSR portfolio such as ours ages, it is expected that the percentage of delinquent loans will typically increase and the amount of advances that are required and become outstanding in connection with such loans will increase in the aggregate. This increase in advances could have a material adverse effect on our business, financial condition, liquidity and results of operations.
In response to the COVID-19 pandemic, on March 27, 2020, the CARES Act was signed into law, allowing borrowers affected by the COVID-19 pandemic to request temporary loan forbearance for federally backed mortgage loans. In addition, in February 2021 the federal government announced an additional extension of three to six months depending on loan type. Nevertheless, servicers of mortgage loans are contractually bound to advance monthly payments to investors, insurers and taxing authorities regardless of whether the borrower actually makes those payments. We expect that such payments may continue to increase throughout the duration of the COVID-19 pandemic. While the GSEs recently issued guidance limiting the number of payments a servicer must advance in the case of a forbearance, we expect that a borrower who has experienced a loss of employment or a reduction of income may not repay the forborne payments at the end of the forbearance period. Additionally, we are prohibited by the CARES Act from collecting certain servicing related fees, such as late fees, during the forbearance plan period. We are further prohibited from initiating foreclosure and/or eviction proceedings under applicable investor and/or state law requirements. As of December 31, 2020, approximately 36,000 loans, or 10.0% of the loans in our MSR Servicing Portfolio had elected the forbearance option. We have so far successfully utilized other prepayments and mortgage payoffs to fund principal and interest advances relating to forborne loans, and have not advanced material amounts of principal or interest associated with forbearances. But, there is no assurance that we will be successful in doing so in the coming months and we will ultimately have to replace such funds to make payments in respect of such prepayments and mortgage payoffs. As a result, we may have to use our cash, including borrowings under our debt agreements, to make the payments required under our servicing operation.
In addition, multiple forbearance programs, moratoria of foreclosure and eviction and other requirements to assist borrowers enduring financial hardship due to the COVID-19 pandemic are being issued by states, agencies and regulators. These measures could stay in place for an extended period of time. If we are unable to comply with, or face allegations that we are in breach of, applicable laws, regulations or other requirements, we may face regulatory action, including fines, penalties and restrictions on our business. In addition, we could face litigation and reputational damage.
Competition for mortgage assets may limit the availability of desirable originations, acquisitions and result in reduced risk-adjusted returns and adversely affect our business, financial condition, liquidity and results of operations.
We face substantial competition in originating and acquiring attractive assets, both in our loan origination activities and our correspondent production activities. The competition for mortgage loan assets may compress margins and reduce yields, making it difficult for us to acquire assets with attractive risk-adjusted returns. There can be no assurance that we will be able to successfully maintain returns, transition from assets producing lower returns into investments that produce better returns, or that we will not seek investments with greater risk to obtain the same level of returns. Any or all of these factors could cause the profitability of our operations to decline substantially and have a material adverse effect on our business, financial condition, liquidity and results of operations.
In addition, the financial services industry is undergoing rapid technological changes, with frequent introductions of new technology-driven products and services. The effective use of technology increases efficiency and enables financial and lending institutions to better serve customers and reduce costs. We may not be able to effectively implement new technology-driven products and services as quickly as competitors or be successful in marketing these products and services to our Correspondent Partners and consumers. Failure to successfully keep pace with technological change affecting the financial services industry could harm our ability to attract customers and adversely affect our results of operations, financial condition and liquidity.
Our profitability depends, in part, on our ability to continue to acquire our targeted mortgage assets at favorable prices. We compete with mortgage REITs, specialty finance companies, private funds, banks, mortgage bankers, insurance companies, mutual funds, institutional investors, investment banking firms, depository institutions, governmental bodies and other entities, many of which focus on acquiring mortgage assets. Many of our competitors also have competitive advantages over us, including size, financial strength, access to capital, cost of funds, federal pre-emption and higher risk tolerance. Competition may result in fewer acquisitions, higher prices, acceptance of greater risk, lower yields and a narrower spread of yields over our financing costs.
We may not be able to continue to grow our loan origination business or effectively manage significant increases in our loan production volume, both of which could negatively affect our reputation and business, financial condition and results of operations.
Our mortgage loan origination business consists of providing purchase money loans to homebuyers and refinancing existing loans. The origination of purchase money mortgage loans is greatly influenced by traditional business customers in the home buying process such as realtors and builders. As a result, our or our partners’ ability to secure relationships with such traditional business customers will influence our ability to grow our loan origination business. Our loan origination business also operates through third-party mortgage professionals who do business with us on a best efforts basis (i.e., they are not contractually obligated to do business with us). Further, our competitors also have relationships with these brokers and actively compete with us in our efforts to expand our broker networks. Accordingly, we may not be successful in maintaining our existing relationships or expanding our broker networks. Our business is also subject to overall market factors that can impact our ability to grow our loan production volume. For example, increased competition from new and existing market participants, reductions in the overall level of refinancing activity or slow growth in the level of new home purchase activity can impact our ability to continue to grow our loan production volumes, and we may be forced to accept lower margins in our respective businesses in order to continue to compete and keep our volume of activity consistent with past or projected levels. If we are unable to continue to grow our loan origination business, this could adversely affect our business, financial condition and results of operations.
On the other hand, we may experience material growth in our mortgage loan volume and MSRs. If we do not effectively manage our growth, the quality of our services could suffer. For example, in connection with our increased loan origination volume in 2020, we identified a higher rate of errors in our post-closing loan quality control review of our originations function, and we implemented certain remedial measures to address these errors, including additional training programs for our associates. If these remedial measures are not effective or if these or other errors arise in connection with future growth in our loan volume, the quality of our loans could be impacted, which could in turn negatively affect our reputation and business, financial condition and results of operations.
Difficult conditions or disruptions in the MBS, mortgage, real estate and financial markets and the economy generally may adversely affect our business, financial condition, liquidity and results of operations.
Most of the Agency-eligible mortgage loans that we originate or acquire are delivered to the GSEs or Ginnie Mae to be pooled into an Agency MBS or sold directly to the Agencies through the cash window or other third parties. Any significant disruption or period of illiquidity in the general MBS market would directly affect our liquidity because no existing alternative secondary market would likely be able to accommodate on a timely basis the volume of loans that we typically acquire and sell in any given period. Accordingly, if the MBS market experiences a period of illiquidity, we might be prevented from selling the loans that we acquire into the secondary market in a timely manner or at favorable prices or we may be required to repay a portion of the debt securing these assets, which could impact the availability and cost of financing arrangements and would likely result in a material adverse effect on our business, financial condition and results of operations.
The success of our business strategies and our results of operations are also materially affected by current conditions in the broader mortgage markets, the financial markets and the economy generally. Continuing concerns over factors including inflation, deflation, unemployment, personal and business income taxes, healthcare, energy costs, geopolitical issues, the availability and cost of credit, the mortgage markets and the real estate markets have contributed to increased volatility and unclear expectations for the economy and markets going forward. The mortgage markets have been and continue to be affected by changes in the lending landscape, defaults, credit losses and significant liquidity concerns. A destabilization of the real estate and mortgage markets or deterioration in these markets may adversely affect the performance and fair value of our assets, reduce our loan production volume, reduce the profitability of servicing mortgages or adversely affect our ability to sell mortgage loans that we acquire, either at a profit or at all. Any of the foregoing could materially and adversely affect our business, financial condition, liquidity and results of operations.
The industry in which we operate is highly competitive, and is likely to become more competitive, which could adversely affect us.
We operate in a highly competitive industry that could become even more competitive as a result of economic, legislative, regulatory and technological changes. Non-banks of various sizes and types are becoming increasingly competitive in the acquisition of newly originated mortgage loans and servicing rights. Many banks and large savings institutions have significantly greater resources or access to capital than we do, as well as a lower cost of funds. Additionally, some of our existing and potential competitors may decide to modify their business models to compete more directly with our wholesale and correspondent production business. For example, non-bank loan servicers may try to leverage their servicing operations to develop or expand a wholesale and correspondent production business. Since the withdrawal of a number of large participants from the mortgage markets following the financial crisis in 2007, non-bank participants have become more active in these markets. As more non-bank entities enter these markets, or if more of the large commercial banks decide to become aggressive in the mortgage space once again, our production activities may generate lower volumes and/or margins. Accordingly, our inability to compete successfully or a material decrease in profit margins resulting from increased competition could adversely affect our business, financial condition, liquidity and results of operations.
We depend on our ability to acquire loans and sell the resulting MBS in the secondary markets on favorable terms in our production activities. If our ability to acquire and sell is impaired, this could subject us to increased risk of loss.
In our production activities, we acquire and originate new loans, including non-Agency loans, from our Broker Partners and Correspondent Partners and sell or securitize those loans to or through the Agencies or other third-party investors. We also may sell the resulting securities into the MBS markets. However, there can be no assurance that we will continue to be successful in operating this business or that we will continue to be able to capitalize on these opportunities on favorable terms or at all. In particular, we have committed, and expect to continue to commit, capital and other resources to this operation. However, we may not be able to continue to source sufficient loan acquisition opportunities to justify the expenditure of such capital and other resources. In the event that we are unable to continue to source sufficient opportunities for this operation, there can be no assurance that we would be able to acquire such assets on favorable terms or at all, or that such loans, if acquired, would be profitable to us. In addition, we may be unable to finance the acquisition of these loans or may be unable to sell the resulting loans or MBS in the secondary mortgage market on favorable terms or at all. We are also subject to the risk that the fair value of the acquired loans may decrease prior to their disposition either due to changes in market conditions, the delinquencies of our mortgage loans or a change in the condition of the underlying mortgage property. The occurrence of any one or more of these risks could adversely impact our business, financial condition, liquidity and results of operations.
The gain recognized from sales in the secondary market represents a significant portion of our revenues and net earnings. Further, we are dependent on the cash generated from such sales to fund our future loan closings and repay borrowings under our mortgage warehouse lines of credit. A decrease in the prices paid to us upon sale of our loans could materially adversely affect our business, financial condition and results of operations. The prices we receive for our loans vary from time to time and may be materially adversely affected by several factors, including, without limitation:
•an increase in the number of similar loans available for sale;
•conditions in the loan securitization market or in the secondary market for loans in general or for our loans in particular, which could make our loans less desirable to potential investors;
•defaults under loans in general;
•loan-level pricing adjustments imposed by Fannie Mae and Freddie Mac, including the recently imposed adjustments for the purchase of loans in forbearance and, although deferred for later implementation, refinancing loans;
•the types and volume of loans being originated or sold by us;
•the level and volatility of interest rates; and
•the quality of loans previously sold by us.
Further, to the extent we become subject to delays in our ability to sell future mortgage loans which we originate, we would need to reduce our origination volume to the amount that we can sell plus any excess capacity under our mortgage warehouse lines of credit. Delays in the sale of mortgage loans also increase our exposure to increases in interest rates, which could adversely affect our profitability on sales of loans.
The success and growth of our production and servicing activities will depend, in part, upon our ability to adapt to and implement technological changes.
The production process and our servicing platform are becoming more dependent upon technological advancement and depends, in part, upon our ability to effectively interface with our Broker Partners, Correspondent Partners and other third parties. Maintaining, improving and becoming proficient with new technology may require us to make significant capital expenditures. To the extent we are dependent on any particular technology or technological solution, we may be harmed if such technology or technological solution becomes non-compliant with existing industry standards, fails to meet or exceed the capabilities of our competitors’ equivalent technologies or technological solutions, becomes increasingly expensive to service, retain and update, becomes subject to third-party claims of intellectual property infringement, misappropriation or other violation or malfunctions or functions in a way we did not anticipate that results in loan defects potentially requiring repurchase.
We also rely on third-party software products and services to operate our business. If we lose our rights to such products or services, or our current software vendors become unable to continue providing services to us on acceptable terms, we may not be able to procure alternatives in a timely and efficient manner and on acceptable terms, or at all.
Additionally, new technologies and technological solutions are continually being released. We need to continue to develop and invest in our technological capabilities to remain competitive and our failure to do so could adversely affect our business, financial condition, liquidity and results of operations.
There is no assurance that we will be able to successfully adopt new technology as critical systems and applications become obsolete and better ones become available. Additionally, if we fail to respond to technological developments in a cost-effective manner, or fail to acquire, integrate or interface with third-party technologies effectively, we may experience disruptions in our operations, lose market share or incur substantial costs.
Our risk management efforts may not be effective.
We could incur substantial losses and our business operations could be disrupted if we are unable to effectively identify, manage, monitor and mitigate financial risks, such as credit risk, interest rate risk, prepayment risk, liquidity risk and other market-related risks, as well as operational, tax and legal risks related to our business, assets and liabilities. We also are subject to various federal, state, local and foreign laws, regulations and rules that are not industry specific, including health and safety laws, environmental laws, privacy laws and other federal, state, local and foreign laws and other regulations and rules in the jurisdictions in which we operate. Our risk management policies, procedures and techniques may not be sufficient to identify all of the risks to which we are exposed, mitigate the risks we have identified or identify additional risks to which we may become subject in the future. Expansion of our business activities may also result in our being exposed to risks to which we have not previously been exposed or may increase our exposure to certain types of risks including risks related to our hedging transactions and strategy, as well as access to cash reserves, and we may not effectively identify, manage, monitor and mitigate these risks as our business activity changes or increases.
We could be harmed by misconduct or fraud that is difficult to detect.
We are exposed to risks relating to fraud and misconduct by our associates, contractors, custodians, brokers and Correspondent Partners and other third parties with whom we have relationships. For example, associates could execute unauthorized transactions, use our assets improperly or without authorization, use confidential information for improper purposes or misreport or otherwise try to hide improper activities from us. This type of misconduct can be difficult to detect and if not prevented or detected could result in claims or enforcement actions against us or losses. In addition, such persons or entities may misrepresent facts about a mortgage loan, including the information contained in the loan application, property appraisal, title information and employment and income stated on the loan application. If any of this information was intentionally or negligently misrepresented and such misrepresentation was not detected prior to the acquisition or funding of the loan, the value of the loan could be significantly lower than expected. A mortgage loan subject to a material misrepresentation is typically unsalable or subject to repurchase if it is sold before detection of the misrepresentation. In addition, the persons and entities making a misrepresentation are often difficult to locate and it is often difficult to collect from them any monetary losses we have suffered. Our controls may not be completely effective in detecting this type of activity. Accordingly, such undetected instances of fraud may subject us to regulatory sanctions, litigation and losses, including those under our indemnification arrangements, and may seriously harm our reputation.
If we fail to maintain an effective system of internal controls, we may not be able to accurately determine our financial results or prevent fraud.
Effective internal controls are necessary for us to provide reliable financial reports and effectively prevent fraud. We may in the future discover areas of our internal controls that need improvement. We cannot assure you that we will be successful in maintaining adequate control over our financial reporting and financial processes. Furthermore, as we continue to grow our business, our internal controls will become more complex, and we will require significantly more resources to ensure our internal controls remain effective. If we or our independent auditors discover a material weakness, the disclosure of that fact, even if quickly remedied, could result in a default and cross-defaults under our financing arrangements.
There is the risk that material weaknesses could be identified in the future and a risk exists that we may not successfully remediate future material weaknesses. Accordingly, our failure to maintain effective internal control over our business could result in financial risk and losses that would be reflected in our financial statements or otherwise have a material adverse effect on our business, financial condition, liquidity and results of operations.
Our business could suffer if we fail to attract and retain a highly skilled workforce, including our senior executives.
Our future success will depend on our ability to identify, hire, develop, motivate and retain highly qualified personnel for all areas of our organization, in particular skilled managers, loan servicers, debt default specialists, loan officers and underwriters. Trained and experienced personnel are in high demand and may be in short supply in some areas. Many of the companies with which we compete for experienced associates have greater resources than we have and may be able to offer more attractive terms of employment. In addition, we invest significant time and expense in training our associates, which increases their value to competitors who may seek to recruit them. We may not be able to attract, develop and maintain an adequate skilled workforce necessary to operate our businesses, and labor expenses may increase as a result of a shortage in the supply of qualified personnel. If we are unable to attract and retain such personnel, we may not be able to take advantage of acquisitions and other growth opportunities that may be presented to us, and this could materially affect our business, financial condition and results of operations.
The experience of our senior executives is a valuable asset to us. Our management team has significant experience in the residential mortgage origination and servicing industry. Changes to our senior executive team may occur, which could have an adverse effect on our business, financial condition and results of operations. We do not maintain and do not currently plan to obtain key life insurance policies on any of our senior managers.
We could be adversely affected if we inadequately obtain, maintain, protect and enforce our intellectual property and proprietary rights, and we may encounter disputes from time to time relating to our use of the intellectual property of third parties.
We rely on a combination of strategies to protect our intellectual property and proprietary rights, including the use of trademarks, service marks, domain names, trade secrets and unregistered copyrights, as well as confidentiality procedures and contractual provisions. Nevertheless, these measures may not prevent misappropriation, infringement, reverse engineering or other violation of these rights by third parties. Any intellectual property rights owned by or licensed to us may be challenged, invalidated, held unenforceable or circumvented in litigation or other proceedings, and such intellectual property rights may be lost or no longer provide us meaningful competitive advantages. We cannot guarantee that we will be able to conduct our operations in such a way as to avoid all alleged infringements, misappropriations or other violations of such intellectual property rights. Third parties may raise claims against us alleging an infringement, misappropriation or other violation of their intellectual property or proprietary rights.
Whether it is to defend against such claims or to protect and enforce our intellectual property and proprietary rights, we may be required to spend significant resources including bringing litigation, which could be costly, time consuming and could divert the time and attention of our management team and result in the impairment or loss of portions of our rights, and we may not prevail. Our failure to secure, maintain, protect and enforce our intellectual property and proprietary rights, or defend against claims related to same, could adversely affect our brands and adversely impact our business.
Cybersecurity risks, cyber incidents and technology failures may adversely affect our business by causing a disruption to our operations, an unauthorized use or disclosure of confidential or regulated data and information, and/or damage to our business relationships, all of which could negatively impact our business.
The financial services industry as a whole is characterized by rapidly changing technologies. As our reliance on rapidly changing technology has increased, so have the risks posed to our information systems and the information therein, both internal and those of third-party service providers.
A cyber incident refers to any adverse event that threatens the confidentiality, integrity or availability of our information technology resources, or those of our third-party providers, that result in the unauthorized access to, or disclosure, use, loss or destruction of, personally identifiable information or other sensitive, non-public, confidential or regulated data and information (including our borrowers’ personal information and transaction data), the misappropriation of assets, or a significant breakdown, invasion, corruption, destruction or interruption of any part of such information technology resources and the data
therein. System disruptions and failures caused by fire, power loss, telecommunications outages, unauthorized intrusion, computer viruses and disabling devices, employee and contractor error, negligence or malfeasance, failures during the process of upgrading or replacing software and databases, hardware failures, natural disasters and other similar events may interrupt or delay our ability to provide services to our customers.
We have undertaken measures intended to protect the safety and security of our information systems and the information systems of our third-party providers and the data therein, including physical and technological security measures, employee training, contractual precautions and business continuity plans, and implementation of policies and procedures designed to help mitigate the risk of system disruptions and failures and the occurrence of cyber incidents. Despite our efforts, there can be no assurance that any such risks will not occur or, if they do occur, that they will be adequately addressed in a timely manner. It is possible that advances in computer capabilities, undetected fraud, inadvertent violations of our policies or procedures or other developments could result in a cyber incident or system disruption or failure. We may not be able to anticipate or implement effective preventive measures against all such risks, especially with respect to cyber incidents, as the methods of attack change frequently or are not recognized until launched, and because cyber incidents can originate from a wide variety of sources, including persons involved with organized crime or associated with external service providers. Those parties may also attempt to fraudulently induce associates, customers or other users of our systems to disclose sensitive information in order to gain access to our data or that of our Broker Partners and Correspondent Partners or borrowers. These risks have increased in recent years and may increase in the future as we continue to increase our reliance on the internet and use of web-based product offerings and on the use of cybersecurity. In addition, our current work-from-home policy may increase the risk for the unauthorized disclosure or use of personal information or other data.
We may also be held accountable for the actions and inactions of third-party vendors regarding cybersecurity and other consumer-related matters, which may not be covered by indemnification arrangements with our third-party vendors.
Additionally, cyberattacks on local and state government databases and offices, including the rising trend of ransomware attacks, expose us to the risk of losing access to critical data and the ability to provide services to our customers.
Any of the foregoing events could result in violations of applicable privacy and other laws, financial loss to us or to our customers, loss of confidence in our security measures, customer dissatisfaction, regulatory action or investigation, fines or penalties, additional regulatory scrutiny, significant litigation exposure and harm to our reputation, any of which could have a material adverse effect on our business, financial condition, liquidity and results of operations. We may be required to expend significant capital and other resources to protect against and remedy any potential or existing security breaches and their consequences. In addition, our remediation efforts may not be successful and we may not have adequate insurance to cover these losses.
Material changes to the laws, regulations or practices applicable to reverse mortgage programs operated by FHA and HUD could adversely affect the reverse mortgage business of Longbridge Financial, LLC.
As of December 31, 2020, we own a 49.7% equity interest in Longbridge Financial, LLC, which participates in the reverse mortgage business. The reverse mortgage industry is largely dependent upon the Federal Housing Administration, or the FHA, and HUD, and there can be no guarantee that these entities will continue to participate in the reverse mortgage industry or that they will not make material changes to the laws, regulations, rules or practices applicable to reverse mortgage programs. The reverse mortgage loan products originated by Longbridge Financial, LLC are Home Equity Conversion Mortgages, or HECM, an FHA-insured loan that must comply with the FHA’s and other regulatory requirements. Longbridge Financial, LLC also originates non-HECM reverse mortgage products, for which there is a limited secondary market. The FHA regulations governing the HECM product have changed from time to time. For example, on September 3, 2013, the FHA announced changes to the HECM program, pursuant to authority under the Reverse Mortgage Stabilization Act. The changes impact initial mortgage insurance premiums and principal limit factors, impose restrictions on the amount of funds that senior borrowers may draw down at closing and during the first 12 months after closing and require a financial assessment for all HECM borrowers to ensure they have the capacity and willingness to meet their financial obligations and the terms of the reverse mortgage. In addition, the changes require borrowers to set aside a portion of the loan proceeds they receive at closing (or withhold a portion of monthly loan disbursements) for the payment of property taxes and homeowners insurance based on the results of the financial assessment. The FHA also amended or clarified requirements related to HECMs through a series of issuances in 2014, including three Mortgagee Letters issued in June of 2014. The new requirements relate to advertising, restrictions on loan provisions, limitations on payment methods, new underwriting requirements, revised principal limits, revised financial assessment and property charge requirements and the treatment of non-borrowing spouses. The FHA has continued to issue additional guidance aimed at strengthening the HECM program. Most recently, the FHA issued a Mortgagee Letter changing initial and annual mortgage insurance premium rates and the principal limit factors for all HECMs. The reverse mortgage business of Longbridge Financial, LLC is also subject to state statutory and regulatory requirements including, but not limited to, licensing requirements, required disclosures and permissible fees. It is unclear how the various new requirements, including the financial assessment requirement, will impact the reverse mortgage business and ultimately, our investment in Longbridge Financial, LLC. In addition, because many of these guidance and regulations relate to protection of customers who faced foreclosures and evictions which led to adverse publicity in the reverse mortgage industry, negative publicity due to actions by other reverse mortgage lenders could cause regulatory focus on the business of Longbridge Financial, LLC.
Our vendor relationships subject us to a variety of risks.
We have significant vendors that, among other things, provide us with financial, technology and other services to support our mortgage loan servicing and origination businesses. If our current vendors were to stop providing services to us on acceptable terms, including as a result of one or more vendor bankruptcies due to poor economic conditions or other events, we may be unable to procure alternatives from other vendors in a timely and efficient manner and on acceptable terms, or at all. Further, we may incur significant costs to resolve any such disruptions in service and this could adversely affect our business, financial condition and results of operations. Additionally, in April 2012, the CFPB issued Bulletin 2012-03, as amended in 2016 by bulletin 2016-02, which states that supervised banks and non-banks could be held liable for actions of their service providers. As a result, we could be exposed to liability, CFPB enforcement actions or other administrative actions and/or penalties if the vendors with whom we do business violate consumer protection laws.
Our failure to deal appropriately with various issues that may give rise to reputational risk, including legal and regulatory requirements, could cause harm to our business and adversely affect our business and financial condition and may negatively impact our reputation.
Maintaining our reputation is critical to attracting and retaining customers, trading and financing counterparties, investors and associates. If we fail to deal with, or appear to fail to deal with, various issues that may give rise to reputational risk, we could significantly harm our business. Reputational risk could negatively affect our financial condition and business, strain our working relationships with regulators and government agencies, expose us to litigation and regulatory action, impact our ability to attract and retain customers, trading counterparties, investors and associates and adversely affect our business, financial condition, liquidity and results of operations.
Reputational risk from negative public opinion is inherent in our business and can result from a number of factors. Negative public opinion can result from our actual or alleged conduct in any number of activities, including lending and debt collection practices, corporate governance and actions taken by government regulators and community organizations in response to those activities. Negative public opinion can also result from social media and media coverage, whether accurate or not. Like other consumer-facing companies, we have received some amount of negative comment. These factors could tarnish or otherwise strain our working relationships with regulators and government agencies, expose us to litigation and regulatory action, negatively affect our ability to attract and retain customers, trading and financing counterparties and associates and adversely affect our business, financial condition, liquidity and results of operations.
Large-scale natural or man-made disasters may lead to further reputational risk in the servicing area. Our mortgage properties are generally required to be covered by hazard insurance in an amount sufficient to cover repairs to or replacement of the residence. However, when a large scale disaster occurs, the demand for inspectors, appraisers, contractors and building supplies may exceed availability, insurers and mortgage servicers may be overwhelmed with inquiries, mail service and other communications channels may be disrupted, borrowers may suffer loss of employment and unexpected expenses which cause them to default on payments and/or renders them unable to pay deductibles required under the insurance policies, and widespread casualties may also affect the ability of borrowers or others who are needed to effect the process of repair or reconstruction or to execute documents. Loan originations may also be disrupted, as lenders are required to re-inspect properties which may have been affected by the disaster prior to funding. In these situations, borrowers and others in the community may believe that servicers and originators are penalizing them for being the victims of the initial disaster and making it harder for them to recover, potentially causing reputational damage to us.
Moreover, the proliferation of social media websites as well as the personal use of social media by our associates and others, including personal blogs and social network profiles, also may increase the risk that negative, inappropriate or unauthorized information may be posted or released publicly that could harm our reputation or have other negative consequences, including as a result of our associates interacting with our customers in an unauthorized manner in various social media outlets.
In addition, our ability to attract and retain customers is highly dependent upon the external perceptions of our level of service, trustworthiness, business practices, financial condition and other subjective qualities. Negative perceptions or publicity regarding these matters—even if related to seemingly isolated incidents, or even if related to practices not specific to the origination or servicing of loans, such as debt collection—could erode trust and confidence and damage our reputation among existing and potential customers. In turn, this could decrease the demand for our products, increase regulatory scrutiny and detrimentally effect our business, financial condition and results of operations.
Employment litigation and related unfavorable publicity could negatively affect our business.
Team members and former team members may, from time to time, bring lawsuits against us regarding injury, creation of a hostile workplace, discrimination, wage and hour, employee benefits, sexual harassment and other employment issues. In recent years there has been an increase in the number employment-related actions in states with favorable employment laws, such as California, as well as an increase in the number of discrimination and harassment claims against employers generally. Coupled with the expansion of social media platforms and similar devices that allow individuals access to a broad audience, these claims have had a significant negative impact on some businesses. Companies that have faced employment or harassment related
lawsuits have had to terminate management or other key personnel and have suffered reputational harm that has negatively impacted their businesses. If we experience significant incidents involving employment or harassment related claims, we could face substantial out-of-pocket losses and fines if claims are not covered by our liability insurance, as well as negative publicity. In addition, such claims may give rise to litigation, which may be time-consuming, costly and distracting to our management team.
Initiating new business activities or strategies or significantly expanding existing business activities or strategies may expose us to new risks and will increase our cost of doing business.
Initiating new business activities or strategies or significantly expanding existing business activities or strategies may expose us to new or increased financial, regulatory, reputational and other risks. Such innovations are important and necessary ways to grow our businesses and respond to changing circumstances in our industry; however, we cannot be certain that we will be able to manage the associated risks and compliance requirements effectively. Such risks include a lack of experienced management-level personnel, increased administrative burden, increased logistical problems common to large, expansive operations, increased credit and liquidity risk and increased regulatory scrutiny.
Furthermore, our efforts may not succeed and any revenues we earn from any new or expanded business initiative or strategy may not be sufficient to offset the initial and ongoing costs of that initiative, which would result in a loss with respect to that initiative, strategy or acquisition.
Certain of our material vendors have operations in India that could be adversely affected by changes in political or economic stability or by government policies.
Certain of our material vendors currently have operations located in India, which is subject to relatively higher political and social instability than the United States and may lack the infrastructure to withstand political unrest, natural disasters or global pandemics. The political or regulatory climate in the United States, or elsewhere, also could change so that it would not be lawful or practical for us to use vendors with international operations in the manner in which we currently use them. If we could no longer utilize vendors operating in India or if those vendors were required to transfer some or all of their operations to another geographic area, we would incur significant transition costs as well as higher future overhead costs that could materially and adversely affect our results of operations. In some foreign countries with developing economies, it may be common to engage in business practices that are prohibited by laws and regulations applicable to us, such as the Foreign Corrupt Practices Act of 1977, as amended, or the FCPA. Any violations of the FCPA or local anti-corruption laws by us, our subsidiaries or our local vendors could have an adverse effect on our business and reputation and result in substantial financial penalties or other sanctions.
We may not be able to fully utilize our net operating loss, or NOL, and other tax carryforwards.
As of December 31, 2020, we had $161.6 million of NOL carryforwards for federal income tax purposes, which begin to expire in 2035. Our ability to utilize NOLs and other tax carryforwards to reduce taxable income in future years could be limited due to various factors, including (i) our projected future taxable income, which could be insufficient to recognize the full benefit of such NOL carryforwards prior to their expiration; (ii) limitations imposed as a result of one or more ownership changes under Section 382 of the Internal Revenue Code of 1986, as amended, or the Code, (which subject NOLs to an annual limitation on usage); and/or (iii) challenges by the Internal Revenue Service, or the IRS, that a transaction or transactions were concluded with the principal purpose of evasion or avoidance of federal income tax. As of December 31, 2020, $25.9 million of our NOL carryforwards for federal income tax purposes are subject to limitations under Section 382 of the Code, which we anticipate being able to fully utilize in the normal course.
The IRS could challenge the amount, timing and/or use of our NOL carryforwards.
The amount of our NOL carryforwards has not been audited or otherwise validated by the IRS after the tax year ended December 31, 2016. Among other things, the IRS could challenge the amount, timing and/or our use of our NOLs. Any such challenge, if successful, could significantly limit our ability to utilize a portion or all of our NOL carryforwards. In addition, calculating whether an ownership change has occurred within the meaning of Section 382 is subject to inherent uncertainty, both because of the complexity of applying Section 382 and because of limitations on a publicly traded company’s knowledge as to the ownership of, and transactions in, its securities. Therefore, the calculation of the amount of our utilizable NOL carryforwards could be changed as a result of a successful challenge by the IRS or as a result of new information about the ownership of, and transactions in, our securities.
Possible changes in legislation could negatively affect our ability to use the tax benefits associated with our NOL carryforwards.
The rules relating to U.S. federal income taxation are periodically under review by persons involved in the legislative and administrative rulemaking processes, by the IRS and by the U.S. Department of the Treasury, resulting in revisions of regulations and revised interpretations of established concepts as well as statutory changes, including increase or decreases in the tax rate. Future revisions in U.S. federal tax laws and interpretations thereof could adversely impact our ability to use some or all of the tax benefits associated with our NOL carryforwards.
Changes in tax laws may adversely affect us.
The Tax Cuts and Jobs Act, or the TCJA, enacted on December 22, 2017, significantly affected U.S. federal tax law, including by changing how the U.S. imposes tax on certain types of income of corporations and by reducing the U.S. federal corporate income tax rate to 21%. It also imposed new limitations on a number of tax benefits, including deductions for business interest, use of net operating loss carryforwards, taxation of foreign income, and the foreign tax credit, among others.
It also imposed new limitations on deductions for mortgage interest, which may affect the demand for loans which we acquire and service. The CARES Act, enacted on March 27, 2020, in response to the COVID-19 pandemic, further altered U.S. federal tax law, including in respect of certain changes that were made by the TCJA, generally on a temporary basis. There can be no assurance that future tax law changes will not increase the rate of the corporate income tax significantly, impose new limitations on deductions, credits or other tax benefits, or make other changes that may adversely affect our business, cash flows or financial performance. In addition, the IRS has yet to issue guidance on a number of important issues regarding the changes made by the TCJA and the CARES Act.
Interest rate fluctuations could significantly decrease our results of operations and cash flows and the fair value of our assets.
Interest rates are highly sensitive to many factors, including governmental monetary and tax policies, domestic and international economic and political considerations and other factors beyond our control. Due to the unprecedented events surrounding the COVID-19 pandemic along with the associated severe market dislocation, there is an increased degree of uncertainty and unpredictability concerning current interest rates, future interest rates and potential negative interest rates. Interest rate fluctuations present a variety of risks to our operations. Our primary interest rate exposures relate to the yield on our assets, their fair values and the financing cost of our debt, as well as to any derivative financial instruments that we utilize for hedging purposes. Decreasing interest rates may cause a large number of borrowers to refinance, which could result in the loss of future net servicing revenues with an associated write-down of the related MSRs. In addition, significant savings in interest rate movement may impact our gains and losses from interest rate hedging arrangements and result in our need to change our hedging strategy. Any such scenario could have a material adverse effect on our business, results of operations and financial condition.
Changes in the level of interest rates also may affect our ability to acquire assets (including the purchase or origination of mortgage loans), the value of our assets (including our pipeline of mortgage loan commitments and our portfolio of MSRs) and any related hedging instruments, the value of newly originated or purchased loans, and our ability to realize gains from the disposition of assets. Changes in interest rates may also affect borrower default rates and may impact our ability to refinance or modify loans and/or to sell real estate owned, or REO, assets.
Borrowings under some of our financing agreements are at variable rates of interest, which also expose us to interest rate risk. If interest rates increase, our debt service obligations on certain of our variable-rate indebtedness will increase even though the amount borrowed remains the same, and our net income and cash flows, including cash available for servicing our indebtedness, will correspondingly decrease. We currently have entered into, and in the future we may continue to enter into, interest rate swaps or interest rate swap futures that involve the exchange of floating for fixed-rate interest payments to reduce interest rate volatility. However, we may not maintain interest rate swaps or interest rate swap futures with respect to all of our variable-rate indebtedness, and any such swaps may not fully mitigate our interest rate risk, may prove disadvantageous, or may create additional risks.
In addition, our business is materially affected by the monetary policies of the U.S. government and its agencies. We are particularly affected by the policies of the U.S. Federal Reserve, which influence interest rates and impact the size of the loan origination market. In 2017, the U.S. Federal Reserve ended its quantitative easing program and started its balance sheet reduction plan. The U.S. Federal Reserve’s balance sheet consists of U.S. Treasuries and MBS issued by Fannie Mae, Freddie Mac and Ginnie Mae. To shrink its balance sheet prior to the COVID-19 pandemic, the U.S. Federal Reserve had slowed the pace of MBS purchases to a point at which natural runoff exceeded new purchases, resulting in a net reduction. Recently, in response to the COVID-19 pandemic, state and federal authorities have taken several actions to provide relief to those negatively affected by COVID-19, such as the CARES Act and the Federal Reserve’s support of the financial markets. In particular, the U.S. Federal Reserve announced programs to increase its purchase of certain MBS products in response to the COVID-19 pandemic’s effect on the U.S. economy, and the market for MBS in particular. The U.S. Federal Reserve also reduced the target range for the federal funds rate to 0 to 0.25% and announced a policy change in August 2020 to the way it sets interest rates that will likely keep interest rates in the U.S. relatively low for an extended period of time. The results of this recent policy change by the U.S. Federal Reserve are unknown at this time, as is its duration, but could affect the liquidity of MBS in the future.
Hedging against interest rate exposure may materially and adversely affect our business, financial condition, liquidity and results of operations.
We pursue hedging strategies to reduce our exposure to changes in interest rates. However, while we enter into such transactions seeking to reduce interest rate risk, unanticipated changes in interest rates may result in poorer overall performance than if we had not engaged in any such hedging transactions, in addition to directly affecting the percentage of loan applications in the underwriting process that ultimately close. Interest rate hedging may fail to protect or could adversely affect us because, among other things, it may not fully eliminate interest rate risk, it could expose us to counterparty and default and cross-default risk that may result in greater losses or the loss of unrealized profits, and it will create additional expense. Generally, hedging activity requires the investment of capital and the amount of capital required often varies as interest rates and asset valuations change. Thus, hedging activity, while intended to limit losses, may materially and adversely affect our business, financial condition, liquidity and results of operations.
A prolonged economic slowdown, recession or declining real estate values could materially and adversely affect us.
Our business and earnings are sensitive to general business and economic conditions in the U.S. A downturn in economic conditions resulting in adverse changes in interest rates, inflation, the debt capital markets, unemployment rates, consumer and commercial bankruptcy filings, the general strength of national and local economies and other factors that negatively impact household incomes could decrease demand for our mortgage loan products as a result of a lower volume of housing purchases and reduced refinancings of mortgages and could lead to higher mortgage defaults and lower prices for our loans upon sale.
In addition, a weakening economy, high unemployment and declining real estate values may increase the likelihood that borrowers will become delinquent and ultimately default on their debt service obligations. Our cost to service increases when borrowers become delinquent. In the event of a default, we may incur additional costs, the size of which depends on a number of factors, including, but not limited to, the instruction of the loan investor, location and condition of the underlying property, the terms of the guarantee or insurance on the loan, the level of interest rates and the time it takes to liquidate the property.
We finance our assets with borrowings, which may materially and adversely affect the income derived from our assets.
We currently leverage and, to the extent available, we intend to continue to leverage our assets through borrowings, the level of which may vary based on the particular characteristics of our asset portfolio and on market conditions. We have financed certain of our assets through repurchase agreements, pursuant to which we sell mortgage loans to lenders (i.e., repurchase agreement counterparties) and receive cash from the lenders. The lenders are obligated to resell the same assets back to us at the end of the term of the transaction. Because the cash we receive from the lender when we initially sell the assets to the lender is less than our cost to acquire the assets as well as the fair value of those assets (this difference is referred to as the haircut), if the lender defaults on its obligation to resell the same assets back to us we could incur a loss on the transaction equal to the amount of the difference in asset value sold back to us reduced further by interest accrued on the financing (assuming there was no change in the fair value of the assets).
The value of our collateral may decrease, which could lead to our lenders initiating margin calls and requiring us to post additional collateral or repay a portion of our outstanding borrowings.
We originate or acquire certain assets, including MSRs, for which financing has historically been difficult to obtain. We currently leverage certain of our MSRs under secured financing arrangements. Our MSRs are pledged to secure borrowings under a loan and security agreement. Our Fannie Mae, Freddie Mac, and Ginnie Mae MSRs are financed on a $500 million line of credit with a three year revolving period ending on January 31, 2022, followed by a one year amortization period which ends on January 31, 2023. Our secured financing arrangements pursuant to which we finance MSRs are further subject to the terms of an acknowledgement agreement with the related GSE and Ginnie Mae, pursuant to which our and the secured parties’ rights are subordinate in all respects to the rights of the applicable GSE or Ginnie Mae and subject to financial covenants similar to our financing arrangements. Accordingly, the exercise by any GSE or Ginnie Mae of its rights under the applicable acknowledgment agreement, including at the direction of the secured parties and whether or not we are in breach of our financing arrangement, could result in the extinguishment of our and the secured parties’ rights in the related collateral and result in significant losses to us.
We may in the future utilize other sources of borrowings, including term loans, bank credit facilities and structured financing arrangements, among others. The amount of leverage we employ varies depending on the asset class being financed, our available capital, our ability to obtain and access financing arrangements with lenders and the lenders’ and rating agencies’ estimate of, among other things, the stability of our asset portfolio’s cash flow.
Our operations are dependent on access to our financing arrangements, which are mostly uncommitted. If the lenders under these financing facilities terminate, or modify the terms of, these facilities, it could have a material adverse effect on our business, financial condition, results of operations and cash flows.
We depend on short-term debt financing in the form of secured borrowings under various financing arrangements with financial institutions. These facilities are primarily uncommitted, which means that any request we make to borrow funds under these facilities may be declined for any reason, even if at the time of the borrowing request we have then-outstanding
borrowings that are less than the borrowing limits under these facilities. We may not be able to obtain additional financing under our financing arrangements when necessary, which could have a material adverse effect on our business, financial condition, results of operations and cash flows and exposing us to, among other things, liquidity risks which could adversely affect our profitability and operations.
Our financing agreements contain financial and restrictive covenants that could adversely affect our financial condition and our ability to operate our businesses.
The lenders under our financing agreements require us and/or our subsidiaries to comply with various financial covenants, including those relating to tangible net worth, profitability and our ratio of total liabilities to tangible net worth. Our lenders also require us to maintain minimum amounts of cash or cash equivalents sufficient to maintain a specified liquidity position and maintain collateral having a market value sufficient to support the related borrowings. If we are unable to meet these financial covenants, our financial condition could deteriorate rapidly and could also result in a default or cross-defaults under our financing arrangements.
Our existing financing agreements also impose other financial and non-financial covenants and restrictions on us that impact our flexibility to determine our operating policies by limiting our ability to, among other things: incur certain types of indebtedness; grant liens; engage in consolidations and mergers and asset sales; make restricted payments and investments; and enter into transactions with affiliates. In our financing agreements, we agree to certain covenants and restrictions and we make representations about the assets sold or pledged under these agreements. We also agree to certain events of default (subject to certain materiality thresholds and grace periods), including payment defaults, breaches of financial and other covenants and/or certain representations and warranties, cross-defaults, servicer termination events, ratings downgrades, bankruptcy or insolvency proceedings, legal judgments against us, loss of licenses, loss of Agency, FHA, VA and/or USDA approvals and other events of default and remedies customary for these types of agreements. If we default on our obligations under our financing arrangements, fail to comply with certain covenants and restrictions or breach our representations and are unable to cure, the lender may be able to terminate the transaction or its commitments, accelerate any amounts outstanding, repurchase the assets, and/or cease entering into any other financing arrangements with us, which could also result in defaults or cross-defaults in our financing arrangements.
Because our financing agreements typically contain cross-default provisions, a default that occurs under any one agreement could allow the lenders under our other agreements to also declare a default, thereby exposing us to a variety of lender remedies, such as those described above, and potential losses arising therefrom. In addition, defaults and cross-defaults under our financing arrangements could trigger a cross-defaults under our trading agreements, which could have a negative impact on our ability to enter into hedging transactions. Any losses that we incur on our financing agreements could have a material adverse effect on our business, financial condition, liquidity and results of operations.
We may be adversely affected by changes in the London Inter-Bank Offered Rate, or LIBOR, reporting practices, the method in which LIBOR is determined, the possible transition away from LIBOR and the possible use of alternative reference rates.
LIBOR is the basic rate of interest used in lending between banks on the London interbank market and is widely used as a reference for setting the interest rate on loans globally. In July 2017, the head of the United Kingdom Financial Conduct Authority (“FCA”) announced the desire to phase out the use of LIBOR by the end of 2021, which was confirmed by the FCA in March 2021. On November 30, 2020, ICE Benchmark Administration (“IBA”), the administrator of LIBOR, with the support of the United States Federal Reserve and the United Kingdom Financial Conduct Authority, announced plans to consult on ceasing publication of USD LIBOR on December 31, 2021 for only the one week and two month USD LIBOR tenors, and on June 30, 2023 for all other USD LIBOR tenors. While this announcement extends the transition period to June 2023, the United States Federal Reserve concurrently issued a statement advising banks to stop new USD LIBOR issuances by the end of 2021. At this time, no consensus exists as to what rate or rates may become accepted alternatives to LIBOR, and it is impossible to predict whether and to what extent banks will continue to provide LIBOR submissions to the administrator of LIBOR, whether LIBOR rates will cease to be published or supported before or after 2021 or whether any additional reforms to LIBOR may be enacted.
The possible withdrawal and replacement of LIBOR with alternative benchmarks introduces a number of risks for us, our customers and our industry more widely. These risks include legal implementation risks, as extensive changes to documentation for new and existing customers, including lenders and real estate investors/owners, may be required. There are also financial risks arising from any changes in the valuation of financial instruments, which may impact our loan production and servicing businesses. There are also operational risks due to the potential requirement to adapt information technology systems and operational processes to address the withdrawal and replacement of LIBOR. In addition, the withdrawal or replacement of LIBOR may temporarily reduce or delay transaction volume and could lead to various complexities and uncertainties related to our industry.
Additionally, Fannie Mae and Freddie Mac ceased purchasing adjustable-rate mortgages (“ARMs”) based on LIBOR by December 31, 2020 and began accepting ARMs based on the Secured Overnight Financing Rate (“SOFR”) in August 2020. Fannie Mae’s and Freddie Mac’s switch to SOFR may result in a disruption of business flow for our business due to changes in loan pricing as a result of spread differential between LIBOR and SOFR and hedging issues, both from a differential in cost and uncertainty with timing for the transition to the new index. Additionally, our business may face operational risks associated with documentation for existing loans that may not adequately address the LIBOR transition and implementing SOFR into our systems and processes properly to ensure interest is accurately calculated.
While it is not currently possible to determine precisely whether, or to what extent, the possible withdrawal and replacement of LIBOR would affect us, the implementation of alternative benchmark rates to LIBOR could have a material adverse effect on our business, financial condition, results of operations and prospects.
We may not be able to raise the debt or equity capital required to finance our assets and grow our businesses.
The growth of our businesses requires continued access to debt and equity capital that may or may not be available on favorable terms, at the desired times or at all. In addition, we own certain assets, including MSRs, for which financing has historically been difficult to obtain. Our inability to continue to maintain debt financing for MSRs could require us to seek equity capital that may be more costly or unavailable to us.
We are also dependent on a limited number of banking institutions that extend us credit on terms that we have determined to be commercially reasonable. These banking institutions are subject to their own regulatory supervision, liquidity and capital requirements, risk management frameworks and risk thresholds and tolerances, any of which may materially and negatively impact their willingness to extend credit to us specifically or mortgage lenders and servicers generally. Such actions may increase our cost of capital and limit or otherwise eliminate our access to capital.
Our access to any debt or equity capital on favorable terms or at all is uncertain. Our inability to raise such capital or obtain such debt or equity financing on favorable terms or at all could materially and adversely impact our business, financial condition, liquidity and results of operations.
We utilize derivative financial instruments, which could subject us to risk of loss.
We enter into a variety of hedging arrangements such as derivative contracts, to hedge the fair value of the MSR portfolio and minimize market rate risk although we cannot assure you that these hedging arrangements will protect the value of our MSR assets. We utilize derivative financial instruments for hedging purposes, which may include swap futures, options, “to be announced” contracts and futures. However, the prices of derivative financial instruments, including futures and options, are highly volatile. As a result, the cost of utilizing derivatives may reduce our income and liquidity, and the derivative instruments that we utilize may fail to effectively hedge our positions. We are also subject to credit risk with regard to the counterparties involved in the derivative transactions.
The use of derivative instruments is also subject to an increasing number of laws and regulations, including the Dodd-Frank Wall Street Reform and Consumer Protection Act, or the Dodd-Frank Act, and its implementing regulations. These laws and regulations are complex, compliance with them may be costly and time consuming, and our failure to comply with any of these laws and regulations could subject us to lawsuits or government actions and damage our reputation, which could materially and adversely affect our business, financial condition, liquidity and results of operations.
We operate in a highly regulated industry with continually changing federal, state and local laws and regulations.
The mortgage industry is highly regulated, and we are required to comply with a wide array of federal, state and local laws and regulations that restrict, among other things, the manner in which we conduct our loan production and servicing businesses, including the fees that we may charge and the collection, use, retention, protection, disclosure and other processing of personal information. These regulations directly impact our business and require constant compliance, monitoring and internal and external audits. Both the scope of the laws and regulations and the intensity of the supervision to which our business is subject have increased over time in response to the financial crisis, as well as other factors, such as technological and market changes.
The laws and regulations and judicial and administrative decisions relating to mortgage loans and consumer protection to which we are subject include, for example, those pertaining to real estate settlement procedures, equal credit opportunity, fair lending, fair credit reporting, truth in lending, fair debt collection practices, service members protections, unfair, deceptive and abusive acts and practices, federal and state advertising requirements, high-cost loans and predatory lending, compliance with net worth and financial statement delivery requirements, compliance with federal and state disclosure and licensing requirements, the establishment of maximum interest rates, finance charges and other charges, ability-to-repay and qualified mortgages, licensing of loan originators and other personnel, loan originator compensation, secured transactions, property valuations, insurance, servicing transfers, payment processing, escrow, communications with consumers, loss mitigation, debt collection, prompt payment crediting, periodic statements, foreclosure, bankruptcies, repossession and claims-handling procedures, disclosures related to and cancellation of private mortgage insurance, flood insurance, the reporting of loan application and origination data, and other trade practices. For a more detailed description of the regulations to which we are subject, see “Item 1. Business—Regulation.”
We also must comply with federal, state and local laws related to data privacy and the handling of personally identifiable information, or PII, and other sensitive, regulated or non-public data. These include the recently enacted California Consumer Privacy Act, or the CCPA, and we expect other states to enact legislation similar to the CCPA, which limit how companies can use customer data and impose obligations on companies in their management of such data, and require us to modify our data processing practices and policies and to incur substantial costs and expenses in an effort to comply. The CCPA, among other things, requires new disclosures to California consumers and affords such consumers new abilities to opt out of certain sales of personal information, in addition to limiting our ability to use their information. The CCPA provides for civil penalties for violations, as well as a private right of action for certain data breaches that result from a failure to implement reasonable safeguards. This private right of action may increase the likelihood of, and risks associated with, data breach litigation. The service providers we use, including outside counsel retained to process foreclosures and bankruptcies, must also comply with some of these legal requirements. Changes to laws, regulations or regulatory policies or their interpretation or implementation and the continued heightening of regulatory requirements could affect us in substantial and unpredictable ways.
The influx of new laws, regulations, and other directives adopted by federal, state and local governments in response to the recent COVID-19 pandemic exemplifies the ever-changing and increasingly complex regulatory landscape in which we operate. While some regulatory reactions to COVID-19 relaxed certain compliance obligations, the forbearance requirements imposed on mortgage servicers in the recently passed CARES Act added new regulatory responsibilities. The GSEs and the Federal Housing Finance Agency, or the FHFA, Ginnie Mae, the U.S. Department of Housing and Urban Development, or HUD, state and local governments, various investors and others have also issued guidance relating to COVID-19. Future regulatory scrutiny and enforcement resulting from COVID-19 is unknown.
Our failure to comply with applicable federal, state and local consumer protection and data privacy laws could lead to:
•loss of our licenses and approvals to engage in our servicing and lending/loan purchasing businesses;
•damage to our reputation in the industry;
•governmental investigations and enforcement actions;
•administrative fines and penalties and litigation;
•civil and criminal liability, including class action lawsuits;
•diminished ability to sell loans that we originate or purchase, requirements to sell such loans at a discount compared to other loans or repurchase or address indemnification claims from purchasers of such loans, including the GSEs;
•inability to raise capital; and
•inability to execute on our business strategy, including our growth plans.
Furthermore, situations involving a potential violation of law or regulation, even if limited in scope, may give rise to numerous and overlapping investigations and proceedings, either by multiple federal and state agencies and officials in the United States. In addition, our failure, or the failure of our Broker Partners and Correspondent Partners to comply with these laws and regulations may result in increased costs of doing business, reduced payments by borrowers, modification of the original terms of mortgage loans, rescission of mortgages and return of interest payments, permanent forgiveness of debt, delays in the foreclosure process, litigation, reputational damage, enforcement actions, and repurchase and indemnification obligations, which could affect our investor approval status and our ability to sell or service loans. Our failure to adequately supervise vendors and service providers may lead to significant liabilities, inclusive of assignee liabilities, as a result of the errors and omissions of those vendors and service providers.
As regulatory guidance and enforcement and the views of the CFPB, state attorneys general, the GSEs and other market participants evolve, we may need to modify further our loan origination processes and systems in order to adjust to evolution in the regulatory landscape and successfully operate our lending business. In such circumstances, if we are unable to make the necessary adjustments, our business and operations could be adversely affected.
Our failure to comply with the laws and regulations to which we are subject, whether actual or alleged, would expose us to fines, penalties or potential litigation liabilities, including costs, settlements and judgments, and also trigger defaults under our financing arrangements, any of which could have a material adverse effect on our business, liquidity, financial condition and results of operations.
We may be subject to liability for potential violations of anti-predatory lending laws, which could adversely impact our results of operations, financial condition and business.
Various federal, state and local laws have been enacted that are designed to discourage predatory lending and servicing practices. The Home Ownership and Equity Protection Act of 1994, or HOEPA, prohibits inclusion of certain provisions in residential loans that have mortgage rates or origination costs in excess of prescribed levels and requires that borrowers be given certain disclosures prior to origination. Some states have enacted, or may enact, similar laws or regulations, which in some cases impose restrictions and requirements greater than those in HOEPA. In addition, under the anti-predatory lending laws of some states, the origination of certain residential loans, including loans that are not classified as “high cost” loans under applicable law, must satisfy a net tangible benefits test with respect to the related borrower. This test may be highly subjective and open to interpretation. As a result, a court may determine that a residential loan, for example, does not meet the test even if the related originator reasonably believed that the test was satisfied. The VA has also adopted rules to protect veterans from predatory lending in connection with certain home loans.
Failure of residential loan originators or servicers to comply with these laws, to the extent any of their residential loans are or become part of our mortgage-related assets, could subject us, as a servicer or, in the case of acquired loans, as an assignee or purchaser, to monetary penalties and could result in the borrowers rescinding the affected loans. Lawsuits have been brought in various states making claims against originators, servicers, assignees and purchasers of high cost loans for violations of state law. Named defendants in these cases have included numerous participants within the secondary mortgage market. If our loans are found to have been originated in violation of predatory or abusive lending laws, we could be subject to lawsuits or governmental actions, or we could be fined or incur losses.
The CFPB is active in its monitoring of the residential mortgage origination and servicing sectors. New or revised rules and regulations and more stringent enforcement of existing rules and regulations by the CFPB could result in increased compliance costs, enforcement actions, fines, penalties and the inherent reputational harm that results from such actions.
The CFPB has oversight of non-depository mortgage lending and servicing institutions and is empowered with broad supervision, rulemaking and examination authority to enforce laws involving consumer financial products and services and to ensure, among other things, that consumers receive clear and accurate disclosures regarding financial products and are protected from hidden fees and unfair, deceptive or abusive acts or practices. The CFPB has adopted a number of regulations under long-standing consumer financial protection laws and the Dodd-Frank Act, including rules regarding truth in lending, assessments of a borrower’s ability to repay, home mortgage loan disclosure, home mortgage loan origination, fair credit reporting, fair debt collection practices, foreclosure protections and mortgage servicing rules, including provisions regarding loss mitigation, prompt crediting of borrowers’ accounts for payments received, delinquency and early intervention, prompt investigation of complaints by borrowers, periodic statement requirements, lender-placed insurance, requests for information and successors-in-interest to borrowers. The CFPB also periodically issues guidance documents, such as bulletins, setting forth informal guidance regarding compliance with these and other laws under its jurisdiction, and issues public enforcement actions, which provide additional guidance on its interpretation of these legal requirements.
The CFPB also has enforcement authority and can order, among other things, rescission or reformation of contracts, the refund of moneys or the return of real property, restitution, disgorgement or compensation for unjust enrichment, the payment of damages or other monetary relief, public notifications regarding violations, limits on activities or functions, remediation of practices, external compliance monitoring and civil money penalties. The CFPB has made it clear that it expects non-bank entities to maintain an effective process for managing risks associated with third-party vendor relationships, including compliance-related risks. In connection with this vendor risk management process, we are expected to perform due diligence reviews of potential vendors, review vendors’ policies and procedures and internal training materials to confirm compliance-related focus, include enforceable consequences in contracts with vendors regarding failure to comply with consumer protection requirements, and take prompt action, including terminating the relationship, in the event that vendors fail to meet our expectations. Through enforcement actions and guidance, the CFPB is also applying scrutiny to compensation payments to third-party providers for marketing services and may issue guidance that narrows the range of acceptable payments to third-party providers as part of marketing services agreements, lead generation agreements and other third-party marketer relationships.
In addition to its supervision and examination authority, the CFPB is authorized to conduct investigations to determine whether any person is engaging in, or has engaged in, conduct that violates federal consumer financial protection laws, and to initiate enforcement actions for such violations, regardless of its direct supervisory authority. Investigations may be conducted jointly with other regulators. The CFPB has the authority to impose monetary penalties for violations of applicable federal consumer financial laws, require remediation of practices and pursue administrative proceedings or litigation for violations of applicable federal consumer financial laws. The CFPB also has the authority to obtain cease and desist orders, orders for
restitution or rescission of contracts and other kinds of affirmative relief and monetary penalties ranging from up to approximately $5,000 per day for ordinary violations of federal consumer financial laws to $25,000 per day for reckless violations and $1,000,000 per day for knowing violations.
The mortgage lending sector is currently relying for a significant portion of the mortgages originated on a temporary CFPB regulation, commonly called the “QM Patch,” which permits mortgage lenders to comply with the CFPB’s ability to repay requirements by relying on the fact that the mortgage is eligible for sale to Fannie Mae or Freddie Mac. Reliance on the QM Patch has become widespread due to the operational complexity and practical inability for many mortgage lenders to rely on other ways to show compliance with the ability to repay regulations. On June 22, 2020, the CFPB issued a notice of proposed rulemaking to, among other things, revise the general loan definition of a qualified mortgage. In a final rule released on October 20, 2020, the CFPB extended the temporary “GSE patch,” which grants QM status to loans eligible to be purchased or guaranteed by Fannie Mae or Freddie Mac, to expire on the mandatory compliance date of final amendments to the General QM loan definition in Regulation Z (or when the GSEs cease to operate under the conservatorship of the FHFA, if that occurs earlier). In December 2020, the CFPB issued a final rule amending the General QM loan definition in Regulation Z, with a mandatory effective date of July 1, 2021. However, on March 3, 2021, the CFPB released a notice of proposed rulemaking to delay the mandatory compliance date of the General QM final rule from July 1, 2021 to October 1, 2022. We cannot predict what final actions the CFPB will take and how it might affect us as well as other mortgage lenders.
Consistent with its active monitoring of residential mortgage origination and servicing, the CFPB may impose new regulations under existing statutes or revise its existing regulations to more stringently limit our business activities. In addition, uncertainty regarding changes in leadership or authority levels within the CFPB and changes in supervisory and enforcement priorities, including potentially more stringent enforcement actions, could result in heightened regulation and oversight of our business activities, materially and adversely affect the manner in which we conduct our business, and increase costs and potential litigation associated with our business activities. Our failure to comply with the laws and regulations to which we are subject, whether actual or alleged, would expose us to fines, penalties or potential litigation liabilities, including costs, settlements and judgments, and also trigger defaults under our financing arrangements, any of which could have a material adverse effect on our business, liquidity, financial condition and results of operations.
The state regulatory agencies continue to be active in their supervision of the loan origination and servicing sectors and the results of these examinations may be detrimental to our business. New or revised rules and regulations and more stringent enforcement of existing rules and regulations by state regulatory agencies could result in increased compliance costs, enforcement actions, fines, penalties and the inherent reputational harm that results from such actions.
We are also supervised by regulatory agencies under state law. State attorneys general, state licensing regulators, and state and local consumer protection offices have authority to investigate consumer complaints and to commence investigations and other formal and informal proceedings regarding our operations and activities. In addition, the GSEs and the FHFA, Ginnie Mae, the FTC, HUD, various investors, non-agency securitization trustees and others subject us to periodic reviews and audits.
State regulatory agencies have been and continue to be active in their supervision of loan origination and servicing companies, including us. If a state regulatory agency imposes new rules or revises its rules or otherwise engages in more stringent supervisory and enforcement activities with respect to existing or new rules, we could be subject to enforcement actions, fines or penalties, as well as reputational harm as a result of these actions. We also may face increased compliance costs as a direct result of new or revised rules or in response to any such stringent enforcement or supervisory activities. A determination of our failure to comply with applicable law could lead to enforcement action, administrative fines and penalties, or other administrative action.
Government responses to COVID-19, including the passage of the CARES Act, pose new and evolving compliance obligations on our business, and we may experience unfavorable changes in or failure to comply with existing or future regulations and laws adopted in response to COVID-19.
Due to the unprecedented impact on major sectors of the U.S. economy from COVID-19, numerous states and the federal government have adopted measures requiring mortgage servicers to work with consumers negatively impacted by COVID-19. The CARES Act imposes several new compliance obligations on our mortgage servicing activities, including, but not limited to mandatory forbearance offerings, altered credit reporting obligations, and moratoriums on foreclosure actions and late fee assessments. Many states have taken similar measures to provide mortgage payment and other relief to consumers, which create additional complexity around our mortgage servicing compliance activities. We cannot predict when or on what terms and conditions these measures will be lifted, which will depend on future legislative and regulatory developments in response to the COVID-19 pandemic.
The swift passage of the CARES Act increases the likelihood of unintended consequences from the legislation. An example of such unintended consequences is the liquidity pressure placed on mortgage servicers given our contractual obligation to continue to advance payments to investors on loans in forbearance where consumers are not making their typical monthly mortgage payments. Moreover, certain provisions of the CARES Act are subject to interpretation given the existing ambiguities in the legislation, which creates class action and other litigation risk.
Although much of the executive, legislative and regulatory action stemming from COVID-19 is focused on mortgage servicing, regulators are adjusting compliance obligations impacting our mortgage origination activities. Many states have adopted temporary measures allowing for otherwise prohibited remote mortgage loan origination activities. While these temporary measures allow us to continue to do business remotely, they impose notice, procedural, and other compliance obligations on our origination activity.
Federal, state and local executive, legislative and regulatory responses to COVID-19 are rapidly evolving, not consistent in scope or application, and subject to change without advance notice. Such efforts may impose additional compliance obligations, which may negatively impact our mortgage origination and servicing business. Any additional legal or regulatory responses to COVID-19 may unfavorably restrict our business operations, alter our established business practices, and otherwise raise our compliance costs.
Failure to comply with the GSEs, FHA, VA and USDA guidelines and changes in these guidelines or GSE and Ginnie Mae guarantees could adversely affect our business.
We are required to follow specific guidelines and eligibility standards that impact the way we service and originate GSE and U.S. government agency loans, including guidelines and standards with respect to:
•underwriting standards and credit standards for mortgage loans;
•our staffing levels and other servicing practices;
•the servicing and ancillary fees that we may charge;
•our modification standards and procedures;
•the amount of reimbursable and non-reimbursable advances that we may make; and
•the types of loan products that are eligible for sale or securitization.
These guidelines provide the GSEs and other government agencies with the ability to provide monetary incentives for loan servicers that perform well and to assess penalties for those that do not. In addition, these guidelines directly limit the types of loan products that we may offer in general and the mortgage loans that we may underwrite for specific borrowers to the extent that we those products to be supported by the GSEs and other government agencies. As a result, failure to comply with these guidelines could adversely impact our ability to benefit from GSE and other government agency support and could therefore impact our business.
At the direction of the FHFA, Fannie Mae and Freddie Mac have aligned their guidelines for servicing delinquent mortgages, which could result in monetary incentives for servicers that perform well and to assess compensatory penalties against servicers in connection with the failure to meet specified timelines relating to delinquent loans and foreclosure proceedings, and other breaches of servicing obligations. We generally cannot negotiate these terms with the Agencies and they are subject to change at any time without our specific consent. A significant change in these guidelines, that decreases the fees we charge or requires us to expend additional resources to provide mortgage services, could decrease our revenues or increase our costs.
In addition, changes in the nature or extent of the guarantees provided by Fannie Mae, Freddie Mac, Ginnie Mae, the USDA or the VA, or the insurance provided by the FHA, or coverage provided by private mortgage insurers, could also have broad adverse market implications. Any future increases in guarantee fees or changes to their structure or increases in the premiums we are required to pay to the FHA or private mortgage insurers for insurance or to the VA or the USDA for guarantees could increase mortgage origination costs and insurance premiums for our customers. These industry changes could negatively affect demand for our mortgage services and consequently our origination volume, which could be detrimental to our business. We cannot predict whether the impact of any proposals to move Fannie Mae and Freddie Mac out of conservatorship would require them to increase their fees. For further discussion, see “—We are highly dependent on the GSEs and Ginnie Mae and the FHFA, as the conservator of the GSEs, and any changes in these entities or their current roles could materially and adversely affect our business, liquidity, financial condition and results of operations.”
We are highly dependent on the GSEs and Ginnie Mae and the FHFA, as the conservator of the GSEs, and any changes in these entities or their current roles could materially and adversely affect our business, liquidity, financial condition and results of operations.
Our ability to generate revenues through mortgage loan sales depends to a significant degree on programs administered by the GSEs and Ginnie Mae and others that facilitate the issuance of MBS in the secondary market. The GSEs, Ginnie Mae and FHFA play a critical role in the mortgage industry and we have significant business relationships with them. Presently, almost all of the newly originated conventional conforming loans that we acquire from mortgage lenders through our correspondent production activities or our Direct channel activities qualify under existing standards for inclusion in mortgage securities backed by the GSEs and Ginnie Mae or for purchase by a GSE directly through its cash window. We also derive other material financial benefits from these relationships, including the assumption of credit risk by the GSEs and Ginnie Mae on loans
included in such mortgage securities in exchange for our payment of guarantee fees, our retention of such credit risk through structured transactions that lower our guarantee fees, and the ability to avoid certain loan inventory finance costs through streamlined loan funding and sale procedures to the Agencies and other third-party purchasers.
As a result of our dependence on the GSEs and Ginnie Mae, any adverse change in our relationship with them could materially and adversely affect our business, financial condition, liquidity and results of operations. In addition, Home Point Financial Corporation, Home Point Mortgage Acceptance Corporation, Longbridge Financial, LLC and Ginnie Mae have entered into a customary cross-default agreement. Pursuant to this agreement, an event of default by any of the parties under their respective Guaranty Agreements or Contractual Agreements with Ginnie Mae would constitute an event of default by the other parties under their respective agreements with Ginnie Mae. We cannot assure you that each of the parties will avoid an event of default under their respective agreements with Ginnie Mae. Accordingly, any such event of default would adversely impact our significant business relationship with Ginnie Mae and would materially and adversely affect our business, financial condition, liquidity and results of operations.
The disposition of the FHFA conservatorship of the GSEs continues to be debated between the U.S. Congress and the executive branch of the U.S. federal government and could also be impacted by a forthcoming U.S. Supreme Court case regarding whether FHFA’s structure is constitutional. In June 2018, the Presidential Administration brought forth a new proposal to end government conservatorship, which would result in full privatization of the GSEs. In September 2019, the U.S. Department of the Treasury, or the U.S. Treasury, the FHFA and HUD released plans to reform the housing finance system. These Agencies developed these plans in conjunction with one another and other government agencies, and include legislative and administrative reforms to achieve the following reform goals: (i) ending the conservatorships of the GSEs upon the completion of specified reforms; (ii) facilitating competition in the housing finance market; (iii) establishing regulation of the GSEs that safeguards their safety and soundness and minimizes the risks they pose to the financial stability of the United States; and (iv) providing that the federal government is properly compensated for any explicit or implicit support it provides to the GSEs or the secondary housing finance market. At this point, it remains unclear whether any of these legislative or regulatory reforms will be enacted or implemented. Any changes in laws and regulations affecting the relationship between the GSEs and the U.S. federal government could adversely affect our business and prospects. Although the U.S. Treasury has committed capital to the GSEs, these actions may not be adequate for their needs. If the GSEs are adversely affected by events such as ratings downgrades, inability to obtain necessary government funding, lack of success in resolving repurchase demands to lenders, foreclosure problems and delays and problems with mortgage insurers, they could suffer losses and fail to honor their guarantees and other obligations. Any discontinuation of, or significant reduction in, the operation of the GSEs or any significant adverse change in their capital structure, financial condition, activity levels in the primary or secondary mortgage markets or underwriting criteria could materially and adversely affect our business, liquidity, financial condition and results of operations. The roles of the GSEs could be significantly restructured, reduced or eliminated and the nature of the guarantees could be considerably limited relative to historical measurements. Elimination of the traditional roles of the GSEs, or any changes to the nature or extent of the guarantees provided by the GSEs or the fees, terms and guidelines that govern our selling and servicing relationships with them, such as increases in the guarantee fees we are required to pay, initiatives that increase the number of repurchase demands and/or the manner in which they are pursued, or possible limits on delivery volumes imposed upon us and other sellers/servicers, could also materially and adversely affect our business, including our ability to sell and securitize loans that we acquire through our correspondent production activities or our Direct channel activities, and the performance, liquidity and market value of our assets. Moreover, any changes to the nature of the GSEs or their guarantee obligations could redefine what constitutes an Agency MBS and could have broad adverse implications for the market and our business, financial condition, liquidity and results of operations.
Our ability to generate revenues from newly originated loans that we acquire through our correspondent production activities and originated by our Direct channel is also dependent on the fact that the Agencies have not historically focused on acquiring such loans directly from the smaller mortgage lenders with whom we have relationships, but have instead relied on banks and non-bank aggregators such as us to acquire, aggregate and securitize or otherwise sell loans from such lenders to investors in the secondary market. Certain of the Agencies have approved more of the smaller lenders that traditionally might not have qualified for such approvals, and more importantly are discussing programs where they would facilitate new or expanded options for a broad range of lenders to sell their servicing through executions other than whole loan sales to correspondent aggregators. In the future, the Agencies may continue to create initiatives, programs and technology that serve to discourage correspondent aggregators. To the extent that lenders choose to sell directly to the Agencies rather than through correspondent aggregators like us, this reduces the number of loans available for purchase in the correspondent business channel and could materially and adversely affect our business, financial condition, liquidity and results of operations.
We are required to have various Agency approvals and state licenses in order to conduct our business and there is no assurance we will be able to maintain those Agency approvals or state licenses or that changes in Agency guidelines will not materially and adversely affect our business, financial condition and results of operations.
We are subject to state mortgage lending, purchase and sale, loan servicing or debt collection licensing and regulatory requirements. Our failure to obtain any necessary licenses, comply with applicable licensing laws or satisfy the various requirements to maintain them over time could restrict our Direct channel activities or loan purchase and sale or servicing activities, result in litigation, or civil and other monetary penalties, or criminal penalties, or cause us to default under certain of our lending arrangements, any of which could materially and adversely impact our business, financial condition, liquidity and results of operations.
We are required to hold Agency approvals in order to sell mortgage loans to a particular Agency and/or service such mortgage loans on their behalf. Our failure to satisfy the various requirements necessary to maintain such Agency approvals over time would also substantially restrict our business activities and could adversely impact our results of operations and financial condition including defaults under our financing agreements.
We are also required to follow specific guidelines that impact the way that we originate and service Agency loans. A significant change in these guidelines that has the effect of decreasing the fees we charge or requires us to expend additional resources in providing mortgage services could decrease our revenues or increase our costs, which could also adversely affect our business, financial condition and results of operations.
In addition, we are subject to periodic examinations by federal and state regulators, our lenders and the Agencies, which can result in increases in our administrative costs, the requirement to pay substantial penalties due to compliance errors or the loss of our licenses. Negative publicity or fines and penalties incurred in one jurisdiction may cause investigations or other actions by regulators in other jurisdictions and could adversely impact our business.
In addition, because we are not a state or federally chartered depository institution, we do not benefit from exemptions from state mortgage lending, loan servicing or debt collection licensing and regulatory requirements. We must comply with state licensing requirements and varying compliance requirements in all states in which we operate and the District of Columbia, and regulatory changes may increase our costs through stricter licensing laws, disclosure laws or increased fees or may impose conditions to licensing that we or our personnel are unable to meet.
In most states in which we operate, a regulatory agency or agencies regulate and enforce laws relating to mortgage servicers and mortgage originators. Future state legislation and changes in existing regulation may significantly increase our compliance costs or reduce the amount of ancillary income we are entitled to collect from borrowers or otherwise. This could make our business cost-prohibitive in the affected state or states and could materially affect our business, financial condition and results of operations.
Our failure to comply with the significant amount of regulation applicable to our investment management subsidiary could materially adversely affect our business plans.
We anticipate registering Home Point Asset Management LLC, our wholly owned subsidiary, as an investment adviser under the Investment Advisers Act of 1940, or the Investment Advisers Act. Such investment management subsidiary would be subject to significant regulation in the United States, primarily at the federal level, including regulation by the SEC under the Investment Advisers Act. The requirements imposed by our regulators are designed primarily to ensure the integrity of the financial markets and to protect investors whose assets are being managed and are not designed to protect our stockholders. Consequently, these regulations often serve to limit our activities.
These requirements relate to, among other things, fiduciary duties to customers, maintaining an effective compliance program, solicitation agreements, conflicts of interest, recordkeeping and reporting requirements, disclosure requirements, limitations on agency cross and principal transactions between an adviser and advisory clients and general anti-fraud prohibitions. Registered investment advisers are also subject to routine periodic examinations by the staff of the SEC.
We also regularly rely on exemptions from various requirements of the Securities Act of 1933, as amended, or the Securities Act, the Exchange Act, the Investment Advisers Act, the Investment Company Act of 1940 and ERISA. These exemptions are sometimes highly complex and may in certain circumstances depend on compliance by third parties and service providers whom we do not control. If for any reason these exemptions were to be revoked or challenged or otherwise become unavailable to us, we could be subject to regulatory action or third-party claims, and our business could be materially and adversely affected. Regulations that would become applicable to our investment management subsidiary that are easily applied to traditional investments, such as stocks and bonds, may be more difficult to apply to a portfolio of loans, and can require procedures that are uncommon, impractical or difficult in our loan production and servicing business.
The failure by us to comply with applicable laws or regulations could result in fines, suspensions of individual associates or other sanctions, which could materially adversely affect our business, financial condition and results of operations. Even if an investigation or proceeding did not result in a fine or sanction or the fine or sanction imposed against us or our associates by a
regulator were small in monetary amount, the adverse publicity relating to an investigation, proceeding or imposition of these fines or sanctions could harm our reputation and cause us to lose existing customers.
If we are unable to comply with TRID rules, our business and operations could be materially and adversely affected.
The CFPB’s TILA-RESPA Integrated Disclosure, or TRID, rules impose requirements on consumer facing disclosure rules and impose certain waiting periods to allow consumers time to shop for and consider the loan terms after receiving the required disclosures. If we fail to comply with the TRID rules, we may be unable to sell loans that we originate or purchase, or we may be required to sell such loans at a discount compared to other loans. We could also be subject to repurchase or indemnification claims from purchasers of such loans, including the GSEs.
The conduct of our correspondents and/or independent mortgage brokers with whom we produce our wholesale mortgage loans could subject us to lawsuits, regulatory action, fines or penalties.
The failure to comply with any applicable laws, regulations and rules by the mortgage lenders from whom loans were acquired through our wholesale and correspondent production activities may subject us to lawsuits, regulatory actions, fines or penalties. We have in place a due diligence program designed to assess areas of risk with respect to these acquired loans, including, without limitation, compliance with underwriting guidelines and applicable law. However, we may not detect every violation of law by these mortgage lenders. Further, to the extent any other third-party originators with whom we do business fail to comply with applicable law, and subsequently any of their mortgage loans become part of our assets, or prior servicers from whom we acquire MSR fail to comply with applicable law, it could subject us, as an assignee or purchaser of the related mortgage loans or MSR, respectively, to monetary penalties or other losses. In general, if any of our loans are found to have been originated, serviced or owned by us or a third party in violation of applicable law, we could be subject to lawsuits or governmental actions, or we could be fined or incur losses.
The independent third-party mortgage brokers through whom we produce wholesale mortgage loans have parallel and separate legal obligations to which they are subject. These independent mortgage brokers are not considered our employees and are treated as independent third parties. While the applicable laws may not explicitly hold the originating lenders responsible for the legal violations of mortgage brokers, federal and state agencies increasingly have sought to impose such liability. The U.S. Department of Justice, through its use of a disparate impact theory under the Fair Housing Act, is actively holding home loan lenders responsible for the pricing practices of brokers, alleging that the lender is directly responsible for the total fees and charges paid by the borrower even if the lender neither dictated what the broker could charge nor kept the money for its own account. In addition, under the TRID rule, we may be held responsible for improper disclosures made to customers by brokers. We may be subject to claims for fines or other penalties based upon the conduct of the independent home loan brokers with which we do business.
Mortgage loan modification and refinance programs, future legislative action and other actions and changes may materially and adversely affect the value of, and the returns on, the assets in which we invest.
The U.S. government, primarily through the Agencies, has established loan modification and refinance programs designed to provide homeowners with assistance in avoiding residential mortgage loan foreclosures. We can provide no assurance that we will be eligible to use any government programs or, if eligible, that we will be able to utilize them successfully. These programs, future U.S. federal, state or local legislative or regulatory actions that result in the modification of outstanding mortgage loans, as well as changes in the requirements necessary to qualify for modifications or refinancing mortgage loans with the GSEs or Ginnie Mae, may adversely affect the value of, and the returns on MSRs, residential mortgage loans, residential MBS, real estate-related securities and various other asset classes in which we invest, all of which could require us to repurchase loans, generally, and specifically from Ginnie Mae and the GSEs, which may result in a material adverse effect on our business and liquidity.
Private legal proceedings alleging failures to comply with applicable laws or regulatory requirements, and related costs, could adversely affect our financial condition and results of operations.
We are subject to various pending private legal proceedings challenging, among other things, whether certain of our loan origination and servicing practices and other aspects of our business comply with applicable laws and regulatory requirements. The outcome of any legal matter is never certain. In the future, we are likely to become subject to other private legal proceedings alleging failures to comply with applicable laws and regulations, including putative class actions, in the ordinary course of our business.
With respect to legal actions for impending or expected foreclosures, we may incur costs if we are required to, or if we elect to, execute or re-file documents or take other actions in our capacity as a servicer. We may incur increased litigation costs if the validity of a foreclosure action is challenged by a borrower or a class of borrowers. In addition, if a court rules that the lien of a homeowners association takes priority over the lien we service, we may incur legal liabilities and costs to defend such actions. If a court dismisses or overturns a foreclosure because of errors or deficiencies in the foreclosure process, we may have liability in our capacity as seller, servicer or otherwise to the loan owner, a borrower, title insurer or the purchaser of the property sold in foreclosure. These costs and liabilities may not be legally or otherwise reimbursable to us, particularly to the
extent they relate to securitized mortgage loans or loans that we sell to the GSEs or other third parties. A significant increase in litigation costs and losses occurring from lawsuits could trigger a default or cross-defaults under our financing arrangements, which could have a material adverse effect on our liquidity, business, financial condition and results of operations.
Residential mortgage foreclosure proceedings in certain states have been delayed due to lack of judicial resources and legislation.
Several states, including California and Nevada, have enacted Homeowner’s Bill of Rights legislation to establish mandatory loss mitigation practices for homeowners which cause delays in foreclosure proceedings. It is possible that additional states could enact similar laws in the future. Delays in foreclosure proceedings could require us to delay the recovery of advances, which could materially affect our business, results of operations and liquidity and increase our need for capital.
When a mortgage loan we service is in foreclosure, we are generally required to continue to advance delinquent principal and interest to the securitization trust and to make advances for delinquent taxes and insurance and foreclosure costs and the upkeep of vacant property in foreclosure to the extent that we determine that such amounts are recoverable. These servicing advances are generally recovered when the delinquency is resolved. Regulatory actions that lengthen the foreclosure process will increase the amount of servicing advances that we are required to make, lengthen the time it takes for us to be reimbursed for such advances and increase the costs incurred during the foreclosure process.
The CARES Act temporarily paused all foreclosures, and the Agencies have further extended the pause on foreclosures. Many state governors also issued orders, directives, guidance or recommendations halting foreclosure activity including evictions. These measures will increase our operating costs, extend the time we advance for delinquent taxes and insurance and could delay our ability to seek reimbursement from the investor to recoup some or all of the advances. We cannot predict when or on what terms and conditions these measures will be lifted, which will depend on future legislative and regulatory developments in response to the COVID-19 pandemic.
Increased regulatory scrutiny and new laws and procedures could cause us to adopt additional compliance measures and incur additional compliance costs in connection with our foreclosure processes. We may incur legal and other costs responding to regulatory inquiries or any allegation that we improperly foreclosed on a borrower. We could also suffer reputational damage and could be fined or otherwise penalized if we are found to have breached regulatory requirements.
We may incur increased costs and related losses if a customer challenges the validity of a foreclosure action, if a court overturns a foreclosure or if a foreclosure subjects us to environmental liabilities.
We may incur costs if we are required to, or if we elect to, execute or re-file documents or take other action in our capacity as a servicer in connection with pending or completed foreclosures. In addition, if certain documents required for a foreclosure action are missing or defective or if a court overturns a foreclosure because of errors or deficiencies in the foreclosure process, we may have liability to a title insurer or the purchaser of the property sold in foreclosure or could be obligated to cure the defect or repurchase the loan. We may also incur litigation costs, timeline delays and other protective advance expenses if the validity of a foreclosure action is challenged by a customer. These costs and liabilities may not be legally or otherwise reimbursable to us, particularly to the extent they relate to securitized mortgage loans. A significant increase in such costs and liabilities could adversely affect our liquidity and our inability to be reimbursed for advances could adversely affect our business, financial condition and results of operations.
Regulatory agencies and consumer advocacy groups are becoming more aggressive in asserting claims that the practices of lenders and loan servicers result in a disparate impact on protected classes.
Antidiscrimination statutes, such as the Fair Housing Act and the Equal Credit Opportunity Act, prohibit creditors from discriminating against loan applicants and borrowers based on certain characteristics, such as race, sex, religion and national origin. The Fair Housing Act also expressly prohibits discrimination with respect to the purchase of mortgage loans. Various federal regulatory agencies and departments, including the U.S. Department of Justice and CFPB, take the position that these laws apply not only to intentional discrimination, but also to neutral practices that have a disparate impact on a group that shares a characteristic that a creditor may not consider in making credit decisions (i.e., creditor or servicing practices that have a disproportionate negative affect on a protected class of individuals).
These regulatory agencies, as well as consumer advocacy groups and plaintiffs’ attorneys, are focusing greater attention on “disparate impact” claims. The U.S. Supreme Court recently confirmed that the “disparate impact” theory applies to cases brought under the FHA, while emphasizing that a causal relationship must be shown between a specific policy of the defendant and a discriminatory result that is not justified by a legitimate objective of the defendant. Although it is still unclear whether the theory applies under the Equal Credit Opportunity Act, regulatory agencies and private plaintiffs can be expected to continue to apply it to both the Fair Housing Act and the Equal Credit Opportunity Act in the context of home loan lending and servicing. To the extent that the “disparate impact” theory continues to apply, we may be faced with significant administrative burdens in attempting to comply and potential liability for failures to comply.
Furthermore, many industry observers believe that the “ability to repay” rule issued by the CFPB, discussed above may have the unintended consequence of having a disparate impact on protected classes. Specifically, it is possible that lenders that make only qualified mortgages may be exposed to discrimination claims under a disparate impact theory.
In addition to reputational harm, violations of the Equal Credit Opportunity Act and the Fair Housing Act can result in actual damages, punitive damages, injunctive or equitable relief, attorneys’ fees and civil money penalties.
Risks Related to Our Mortgage Assets
Our acquisition of MSRs exposes us to significant risks.
MSRs arise from contractual agreements between us and the investors (or their agents) in mortgage securities and mortgage loans that we service on their behalf. We generally create MSRs in connection with our sale of mortgage loans to the Agencies or others where we assume the obligation to service such loans on their behalf. We may also purchase MSRs from third-party sellers. All MSR capitalizations are recorded at fair value on our balance sheet. The determination of the fair value of MSRs requires our management to make numerous estimates and assumptions. Such estimates and assumptions include, without limitation, estimates of future cash flows associated with MSRs based upon assumptions involving interest rates as well as the prepayment rates, delinquencies and foreclosure rates of the underlying serviced mortgage loans. The ultimate realization of future cash flows from the MSRs may be materially different than the values of such MSRs as may be reflected in our consolidated balance sheet as of any particular date. The use of different estimates or assumptions in connection with the valuation of these assets could produce materially different fair values for such assets, which could have a material adverse effect on our business, financial condition, results of operations and cash flows. Accordingly, there may be material uncertainty about the fair value of any MSRs we acquire or hold.
Prepayment speeds significantly affect MSRs. Prepayment speed is the measurement of how quickly borrowers pay down the unpaid principal balance of their loans or how quickly loans are otherwise brought current, modified, liquidated or charged off. We base the value of MSRs on, among other things, our projection of the cash flows from the related mortgage loans. Our expectation of prepayment speeds is a significant assumption underlying those cash flow projections. If prepayment speed expectations increase significantly, the fair value of the MSRs could decline and we may be required to record a non-cash charge, which would have a negative impact on our financial results. Furthermore, a significant increase in prepayment speeds could materially reduce the ultimate cash flows we receive from MSRs, and we could ultimately receive substantially less than what we estimated when initially capitalizing such assets.
Moreover, delinquency rates also have a significant impact on the valuation of any MSRs. An increase in delinquencies generally results in lower revenue because typically we only collect servicing fees from Agencies or mortgage owners for performing loans. Our expectation of delinquencies is also a significant assumption underlying our cash flow projections. If delinquencies are significantly greater than we expect, the estimated fair value of the MSRs could be diminished. Increased delinquencies also typically translate into increased defaults and liquidations, and as an MSR owner we are also responsible for certain expenses and losses associated with the loans we service, particularly on loans sold to Ginnie Mae. A reduction in the fair value of the MSR or an increase in defaults and liquidations would adversely impact our business, financial condition, liquidity and results of operations.
Changes in interest rates are a key driver of the performance of MSRs. Historically, in periods of rising interest rates, the fair value of the MSRs generally increases as prepayments decrease, and therefore the estimated life of the MSRs and related expected cash flows increase. In a declining interest rate environment, the fair value of MSRs generally decreases as prepayments increase and therefore the estimated life of the MSRs, and related cash flows, decrease.
There has been a long-term trend of falling interest rates, with intermittent periods of rate increases. More recently, there was a rising interest rate environment for the majority of 2018 and a falling interest rate environment in 2019 and 2020.
In addition, we may pursue various hedging strategies to seek to further reduce our exposure to adverse changes in fair value resulting from changes in interest rates. Our hedging activity will vary in scope based on the level and volatility of interest rates, the type of assets held and other changing market conditions. Interest rate hedging may fail to protect or could adversely affect us. To the extent we do not utilize derivative financial instruments to fully hedge against changes in fair value of MSRs or the derivatives we use in our hedging activities do not perform as expected, our business, financial condition, liquidity and results of operations would be more susceptible to volatility due to changes in the fair value of, or cash flows from, MSRs as interest rates change.
Furthermore, MSRs and the related servicing activities are subject to numerous federal, state and local laws and regulations and may be subject to various judicial and administrative decisions imposing various requirements and restrictions on our business. Our failure to comply with the laws, rules or regulations to which we or they are subject by virtue of ownership of MSRs, whether actual or alleged, could expose us to fines, penalties or potential litigation liabilities, including costs, settlements and judgments, any of which could have a material adverse effect on our business, financial condition, liquidity and results of operations.
Our counterparties may terminate our servicing rights under which we conduct servicing activities.
The majority of the mortgage loans we service are serviced on behalf of the GSEs and Ginnie Mae. These entities establish the base service fee to compensate us for servicing loans as well as the assessment of fines and penalties that may be imposed upon us for failing to meet servicing standards.
As is standard in the industry, under the terms of our master servicing agreements with the GSEs, the GSEs have the right to terminate us as servicer of the loans we service on their behalf at any time and also have the right to cause us to sell the MSRs to a third party. In addition, failure to comply with servicing standards could result in termination of our agreements with the GSEs with little or no notice and without any compensation. If any of Fannie Mae, Freddie Mac or Ginnie Mae were to terminate us as a servicer, or increase our costs related to such servicing by way of additional fees, fines or penalties, such changes could have a material adverse effect on the revenue we derive from servicing activity, as well as the value of the related MSRs. These agreements, and other servicing agreements under which we service mortgage loans for non-GSE loan purchasers, also require that we service in accordance with GSE servicing guidelines and contain financial covenants. If we were to have our servicing rights terminated on a material portion of our servicing portfolio, this could adversely affect our business.
A significant increase in delinquencies for the loans we service could have a material impact on our revenues, expenses and liquidity and on the valuation of our MSRs.
An increase in delinquencies will result in lower revenue for loans we service for the GSEs and Ginnie Mae because we only collect servicing fees from the GSEs and Ginnie Mae from payments made on the mortgage loans. Additionally, while increased delinquencies generate higher ancillary revenues, including late fees, these fees may not be collected until the related loan reinstates or in the event that the related loan is liquidated. In addition, an increase in delinquencies may result in certain other advances being made on behalf of delinquent loans, which may not be entirely reversible and would decrease the interest income we receive on cash held in collection and other accounts to the extent permitted under applicable requirements.
We base the price we pay for MSRs on, among other things, our projections of the cash flows from the related mortgage loans. Our expectation of delinquencies is a significant assumption underlying those cash flow projections. If delinquencies were significantly greater than expected, the estimated fair value of our MSRs could be diminished. If the estimated fair value of MSRs is reduced, we may not be able to satisfy minimum net worth covenants and borrowing conditions in our debt agreements and we could suffer a loss, which could trigger a default and cross-defaults under our other financing arrangements and trading agreements (impacting our ability to enter into hedging transactions) and the possible loss of our eligibility to sell loans to the Agencies or issue an Agency MBS, all of which would likely have a material adverse effect on our business, financial condition and results of operations.
We are also subject to risks of borrower defaults and bankruptcies in cases where we might be required to repurchase loans sold with recourse or under representations and warranties. A borrower filing for bankruptcy during foreclosure would have the effect of staying the foreclosure and thereby delaying the foreclosure process, which may potentially result in a reduction or discharge of a borrower’s mortgage debt. Even if we are successful in foreclosing on a loan, the liquidation proceeds upon sale of the underlying real estate may not be sufficient to recover our cost basis in the loan, resulting in a loss to us. For example, foreclosure may create a negative public perception of the related mortgaged property, resulting in a diminution of its value. Furthermore, any costs or delays involved in the foreclosure of the loan or a liquidation of the underlying property will further reduce the net proceeds and, thus, increase the loss. If these risks materialize, they could have a material adverse effect on our business, financial condition and results of operations. In addition, in the event of a default under any mortgage loan we have not sold, we will bear the risk of loss of principal to the extent of any deficiency between the value of the collateral and the principal and of the mortgage loan.
Our inability to promptly foreclose upon defaulted mortgage loans could increase our cost of doing business and/or diminish our expected cash flows.
Our ability to promptly foreclose upon defaulted mortgage loans and liquidate the underlying real property plays a critical role in our valuation of the assets which we acquire and our expected cash flows on such assets. There are a variety of factors that may inhibit our ability to foreclose upon a mortgage loan and liquidate the real property within the time frames we model as part of our valuation process or within the statutes of limitation under applicable state law. These factors include, without limitation: extended foreclosure timelines in states that require judicial foreclosure, including states where we hold high concentrations of mortgage loans, significant collateral documentation deficiencies, federal, state or local laws that are borrower friendly, including legislative action or initiatives designed to provide homeowners with assistance in avoiding residential mortgage loan foreclosures and that serve to delay the foreclosure process and programs that may require specific procedures to be followed to explore the refinancing of a mortgage loan prior to the commencement of a foreclosure proceeding and declines in real estate values and sustained high levels of unemployment that increase the number of foreclosures and place additional pressure on the judicial and administrative systems.
A decline in the fair value of the real estate that we acquire, or that underlies the mortgage loans we own or service, may result in reduced risk-adjusted returns or losses.
A substantial portion of our assets are measured at fair value. The fair value of the real estate that we own or that underlies mortgage loans that we own or service is subject to market conditions and requires the use of assumptions and complex analyses. Changes in the real estate market may adversely affect the fair value of the collateral and thereby lower the cash to be received from its liquidation. Depending on the investor and/or insurer or guarantor, we may suffer financial losses that increase when we or they receive less cash upon liquidation of the collateral for defaulted loans that we service. The same would apply to loans that we own. In addition, adverse changes in the real estate market increase the probability of default of the loans we own or service.
We may be adversely affected by concentration risks of various kinds that apply to our mortgage or MSR assets at any given time, as well as from unfavorable changes in the related geographic regions containing the properties that secure such assets.
Our mortgage and MSR assets are not subject to any geographic, diversification or concentration limitations except that we will be concentrated in mortgage-related assets. Accordingly, our mortgage and MSR assets may be concentrated by geography, investor, originator, insurer, loan program, property type and/or borrower, increasing the risk of loss to us if the particular concentration in our portfolio is subject to greater risks or is undergoing adverse developments. We may be disproportionately affected by general risks such as natural disasters, including major hurricanes, tornadoes, wildfires, floods, earthquakes and severe or inclement weather should such developments occur in or near the markets in California or the Gulf Coast region in which such properties are located. For example, as of December 31, 2020, approximately 23.0% of our mortgage and MSR assets had underlying properties in California. In addition, adverse conditions in the areas where the properties securing or otherwise underlying our mortgage and MSR assets are located (including business layoffs or downsizing, industry slowdowns, changing demographics, natural disasters and other factors) and local real estate conditions (such as oversupply or reduced demand) may have an adverse effect on the value of those assets. A material decline in the demand for real estate in these areas, regardless of the underlying cause, may materially and adversely affect us. Concentration or a lack of diversification can increase the correlation of non-performance and foreclosure risks among subsets of our mortgage and MSR assets, which could have a material adverse effect on our business, financial condition and results of operations.
Many of our mortgage assets may be illiquid and we may not be able to adjust our portfolio in response to changes in economic and other conditions.
Our MSRs, securities and mortgage loans that we acquire may be or become illiquid. It may also be difficult or impossible to obtain or validate third-party pricing on the assets that we purchase. Illiquid investments typically experience greater price volatility, as a ready market does not exist, or may cease to exist, and such investments can be more difficult to value. Contractual restrictions on transfer or the illiquidity of our assets may make it difficult for us to sell such assets if the need or desire arises, which could impair our ability to satisfy margin calls or access capital for other purposes when needed. In addition, if we are required to liquidate all or a portion of our portfolio quickly, we may realize significantly less than the recorded value, or may not be able to obtain any liquidation proceeds at all, thus exposing us to a material or total loss.
Fair values of our MSRs are estimates and the realization of reduced values from our recorded estimates may materially and adversely affect our financial results and credit availability.
The fair values of our MSRs are not readily determinable and the fair value at which our MSRs are recorded may differ from the values we ultimately realize. Ultimate realization of the fair value of our MSRs depends to a great extent on economic and other conditions that change during the time period over which it is held and are beyond our control. Further, fair value is only an estimate based on good faith judgment of the price at which an asset can be sold since transacted prices of MSRs can only be determined by negotiation between a willing buyer and seller. In certain cases, our estimation of the fair value of our MSRs includes inputs provided by third-party dealers and pricing services, and valuations of certain securities or other assets in which we invest are often difficult to obtain and are subject to judgments that may vary among market participants. Changes in the estimated fair values of those assets are directly charged or credited to earnings for the period. If we were to liquidate a particular asset, the realized value may be more than or less than the amount at which such asset was recorded. Accordingly, in either event, our financial condition could be materially and adversely affected by our determinations regarding the fair value of our MSRs, and such valuations may fluctuate over short periods of time.
We utilize analytical models and data in connection with the valuation of our assets, and any incorrect, misleading or incomplete information used in connection therewith would subject us to potential risks.
We rely heavily on models and data to value our assets, including analytical models (both proprietary models developed by us and those supplied by third parties) and information and data supplied by third parties. Models and data are also used in connection with our potential acquisition of assets and the hedging of those acquisitions. Models are inherently imperfect predictors of actual results because they are based on historical data available to us and our assumptions about factors such as future mortgage loan demand, default rates, severity rates, home price trends and other factors that may overstate or understate future experience. Our models could produce unreliable results for a number of reasons, including the limitations of historical
data to predict results due to unprecedented events or circumstances, invalid or incorrect assumptions underlying the models, the need for manual adjustments in response to rapid changes in economic conditions, incorrect coding of the models, incorrect data being used by the models or inappropriate application of a model to products or events outside of the model’s intended use. In particular, models are less dependable when the economic environment is outside of historical experience.
In the event models and data prove to be incorrect, misleading or incomplete, any decisions made in reliance thereon expose us to potential risks. For example, by relying on incorrect models and data, especially valuation models, we may be induced to buy certain assets at prices that are too high, to sell certain other assets at prices that are too low or to miss favorable opportunities altogether. Similarly, any hedging based on faulty models and data may prove to be unsuccessful.
We rely on internal models to manage risk and to make business decisions. Our business could be adversely affected if those models fail to produce reliable and/or valid results.
We make significant use of business and financial models in connection with our proprietary technology to measure and monitor our risk exposures and to manage our business. For example, we use models to measure and monitor our exposures to interest rate, credit and other market risks. The information provided by these models is used in making business decisions relating to strategies, initiatives, transactions, pricing and products. If these models are ineffective at predicting future losses or are otherwise inadequate, we may incur unexpected losses or otherwise be adversely affected.
We build these models using historical data and our assumptions about factors such as future mortgage loan demand, default rates, home price trends and other factors that may overstate or understate future experience. Our assumptions may be inaccurate and our models may not be as predictive as expected for many reasons, including the fact that they often involve matters that are inherently beyond our control and difficult to predict, such as macroeconomic conditions, and that they often involve complex interactions between a number of variables and factors.
Our models could produce unreliable results for a variety of reasons, including, but not limited to, the limitations of historical data to predict results due to unprecedented events or circumstances, invalid or incorrect assumptions underlying the models, the need for manual adjustments in response to rapid changes in economic conditions, incorrect coding of the models, incorrect data being used by the models, or inappropriate application of a model to products or events outside of the model’s intended use. In particular, models are less dependable when the economic environment is outside of historical experience, as was the case from 2008 to 2010 or during the present COVID-19 pandemic.
We continue to monitor the markets and make necessary adjustments to our models and apply appropriate management judgment in the interpretation and adjustment of the results produced by our models. As a result of the time and resources, including technical and staffing resources, that are required to perform these processes effectively, it may not be possible to replace existing models quickly enough to ensure that they will always properly account for the impacts of recent information and actions.
We depend on the accuracy and completeness of information from and about borrowers, mortgage loans and the properties securing them, and any misrepresented information could adversely affect our business, financial condition and results of operations.
In connection with our Wholesale, Correspondent and Direct channel activities, we may rely on information furnished by or on behalf of borrowers and/or our business counterparties including Broker Partners and Correspondent Partners. We also may rely on representations of borrowers and business counterparties as to the accuracy and completeness of that information, and upon the information and work product produced by appraisers, credit repositories, depository institutions and others, as well as the output of automated underwriting systems created by the GSEs and others. If any of this information or work product is intentionally or negligently misrepresented in connection with a mortgage loan and such misrepresentation is not detected prior to loan funding, the fair value of the loan may be significantly lower than expected. Whether a misrepresentation is made by the loan applicant, another third party or one of our associates, we generally bear the risk of loss associated with the misrepresentation. Our controls and processes may not have detected or may not detect all misrepresented information in our loan originations or acquisitions, or from our business counterparties. Any such misrepresented information could materially and adversely affect our business, financial condition and results of operations.
We expect the economic changes resulting from the COVID-19 pandemic coupled with the high refinance and purchase volumes that we are observing to increase the potential for customer fraud. During periods of high unemployment, we observe an increase in customers failing to disclose that their income and employment has been negatively impacted. We have also observed an increase in cyber fraud and phishing schemes affecting our business due to COVID-19. Fraudulent emails have been sent on behalf of the Company which introduce malware, including spyware, through malicious links in order to redirect funds to the fraudster’s account.
The technology and other controls and processes we have created to help us identify misrepresented information in our mortgage loan production operations were designed to obtain reasonable, not absolute, assurance that such information is identified and addressed appropriately. Accordingly, such controls may not have detected, and may fail in the future to detect, all misrepresented information in our mortgage loan production operations. In the future, we may experience financial losses and reputational damage as a result of mortgage loan fraud.
General Risk Factors
We will be a “controlled company” within the meaning of the rules of Nasdaq and the rules of the SEC and, as a result, qualify for, and intend to rely on, exemptions from certain corporate governance requirements. You will not have the same protections afforded to stockholders of other companies that are subject to such requirements.
Following the completion of our initial public offering (“IPO”) on February 2, 2021, our Sponsor beneficially owned approximately 92.0% of the voting power of common stock. As a result, we are a “controlled company” within the meaning of the corporate governance standards of Nasdaq. Under these rules, a company of which more than 50% of the voting power is held by an individual, group or another company is a “controlled company” and may elect not to comply with certain corporate governance requirements, including the requirement that:
•a majority of our board of directors consist of “independent directors” as defined under the rules of Nasdaq;
•our director nominees be selected, or recommended for our board of directors’ selection by a nominating/governance committee comprised solely of independent directors; and
•the compensation of our executive officers be determined, or recommended to our board of directors for determination, by a compensation committee comprised solely of independent directors.
We have and intend to continue to utilize these exemptions. As a result, we may not have a majority of independent directors and our Compensation Committee and Nominating and Corporate Governance Committee may not consist entirely of independent directors. Accordingly, you may not have the same protections afforded to stockholders of companies that are subject to all of the corporate governance requirements of Nasdaq.
Our Sponsor controls us and their interests may conflict with yours in the future.
Following our IPO, our Sponsor beneficially owned approximately 92.0% of the voting power of our common stock. As a result, our Sponsor is able to control the election and removal of our directors and thereby determine our corporate and management policies, including potential mergers or acquisitions, payment of dividends, asset sales, amendment of our amended and restated certificate of incorporation or amended and restated bylaws and other significant corporate transactions for so long as our Sponsor and its affiliates retain significant ownership of us. Our Sponsor and its affiliates may also direct us to make significant changes to our business operations and strategy, including with respect to, among other things, new product and service offerings, team member headcount levels and initiatives to reduce costs and expenses. This concentration of our ownership may delay or deter possible changes in control of the Company, which may reduce the value of an investment in our common stock. So long as our Sponsor continues to own a significant amount of our voting power, even if such amount is less than 50%, our Sponsor will continue to be able to strongly influence or effectively control our decisions and, so long as our Sponsor and its affiliates collectively own at least 5% of all outstanding shares of our stock entitled to vote generally in the election of directors, our Sponsor will be able to appoint individuals to our board of directors under the stockholders’ agreement that we entered into in connection with the IPO. The interests of our Sponsor may not coincide with the interests of other holders of our common stock.
In the ordinary course of their business activities, our Sponsor and its affiliates may engage in activities where their interests conflict with our interests or those of our stockholders. Our amended and restated certificate of incorporation provides that our Sponsor, any of its affiliates or any director who is not employed by us (including any non-employee director who serves as one of our officers in both his or her director and officer capacities) or his or her affiliates do not have any duty to refrain from engaging, directly or indirectly, in the same business activities or similar business activities or lines of business in which we operate. Our Sponsor and its affiliates also may pursue acquisition opportunities that may be complementary to our business and, as a result, those acquisition opportunities may not be available to us. In addition, our Sponsor may have an interest in pursuing acquisitions, divestitures and other transactions that, in their judgment, could enhance their investment, even though such transactions might involve risks to you.
In addition, our Sponsor and its affiliates are able to determine the outcome of all matters requiring stockholder approval and are able to cause or prevent a change of control of the Company or a change in the composition of our board of directors and could preclude any acquisition of the Company. This concentration of voting control could deprive you of an opportunity to receive a premium for your shares of common stock as part of a sale of the Company and ultimately might affect the market price of our common stock.
We have incurred, and will continue to incur, significantly increased costs and we became subject to additional regulations and requirements as a result of becoming a public company, and our management is, and will continue to be, required to devote substantial time to new compliance matters, which could lower our profits or make it more difficult to run our business.
As a public company, we have incurred, and will continue to incur, significant legal, regulatory, finance, accounting, investor relations, insurance and other expenses that we did not incur as a private company, including costs associated with public company reporting requirements and costs of recruiting and retaining non-executive directors. We also have incurred and will incur costs associated with the Sarbanes-Oxley Act and the Dodd-Frank Act and related rules implemented by the SEC and Nasdaq. The expenses incurred by public companies generally for reporting and corporate governance purposes have been increasing. Our management will need to devote a substantial amount of time to ensure that we comply with all of these requirements, diverting the attention of management away from revenue-producing activities. These laws and regulations also could make it more difficult or costly for us to obtain certain types of insurance, including director and officer liability insurance, and we may be forced to accept reduced policy limits and coverage or incur substantially higher costs to obtain the same or similar coverage. These laws and regulations could also make it more difficult for us to attract and retain qualified persons to serve on our board of directors, our board committees or as our executive officers. Furthermore, if we are unable to satisfy our obligations as a public company, we could be subject to delisting of our common stock, fines, sanctions and other regulatory action and potentially civil litigation.
As of December 31, 2020, while we were no longer an “emerging growth company,” we are a “smaller reporting company” and we cannot be certain if the reduced disclosure requirements applicable to “smaller reporting companies” will make our common stock less attractive to investors.
Because our gross revenue exceeded $1.07 billion in fiscal year 2020, we ceased to be an “emerging growth company” as defined in Section 2(a)(19) of the Securities Act as of December 31, 2020. However, we are a “smaller reporting company” as defined in Item 10(f)(1) of Regulation S-K. As such, we may take advantage of certain exemptions and relief from various reporting requirements that are applicable to other public companies that are not “smaller reporting companies,” including, among other things, providing only two years of audited financial statements, we will not be required to comply with the auditor attestation requirements of Section 404(b) of the Sarbanes-Oxley Act, we will be subject to reduced disclosure obligations regarding executive compensation in our periodic reports and proxy statements, and we will not be required to hold nonbinding advisory votes on executive compensation or stockholder approval of any golden parachute payments not previously approved. We will remain a “smaller reporting company” until the last day of the fiscal year in which (1) the market value of our common stock held by non-affiliates exceeds $250 million as of the end of the prior second fiscal quarter, or (2) our annual revenues exceed $100 million during such completed fiscal year and the market value of our common stock held by non-affiliates exceeds $700 million as of the prior second fiscal quarter. To the extent we take advantage of such reduced disclosure obligations, it may also make comparison of our financial statements with other public companies difficult or impossible.
We cannot predict if investors may find our common stock less attractive if we rely on the exemptions and relief granted to “smaller reporting companies.” If some investors find our common stock less attractive as a result, there may be a less active trading market for our common stock and our stock price may decline and/or become more volatile.
Failure to comply with requirements to design, implement and maintain effective internal controls could have a material adverse effect on our business and stock price.
As a privately-held company, we were not required to evaluate our internal control over financial reporting in a manner that meets the standards of publicly traded companies required by Section 404(a) of the Sarbanes-Oxley Act, or Section 404.
As a public company, we have significant requirements for enhanced financial reporting and internal controls. The process of designing and implementing effective internal controls is a continuous effort that requires us to anticipate and react to changes in our business and the economic and regulatory environments and to expend significant resources to maintain a system of internal controls that is adequate to satisfy our reporting obligations as a public company. If we are unable to establish or maintain appropriate internal financial reporting controls and procedures, it could cause us to fail to meet our reporting obligations on a timely basis, result in material misstatements in our consolidated financial statements and harm our results of operations. In addition, we are required, pursuant to Section 404, to furnish a report by management on, among other things, the effectiveness of our internal control over financial reporting in our annual report for fiscal year 2021. This assessment will need to include disclosure of any material weaknesses identified by our management in our internal control over financial reporting. The rules governing the standards that must be met for our management to assess our internal control over financial reporting are complex and require significant documentation, testing and possible remediation. Testing and maintaining internal controls may divert our management’s attention from other matters that are important to our business.
In connection with the implementation of the necessary procedures and practices related to internal control over financial reporting, we may identify deficiencies that we may not be able to remediate in time to meet the deadline imposed by the Sarbanes-Oxley Act for compliance with the requirements of Section 404. In addition, we may encounter problems or delays in completing the remediation of any deficiencies identified by our independent registered public accounting firm in connection
with the issuance of their attestation report. Our testing, or the subsequent testing (if required) by our independent registered public accounting firm, may reveal deficiencies in our internal controls over financial reporting that are deemed to be material weaknesses. Any material weaknesses could result in a material misstatement of our annual or quarterly consolidated financial statements or disclosures that may not be prevented or detected.
We may not be able to conclude on an ongoing basis that we have effective internal control over financial reporting in accordance with Section 404 or our independent registered public accounting firm may not issue an unqualified opinion. If either we are unable to conclude that we have effective internal control over financial reporting or our independent registered public accounting firm is unable to provide us with an unqualified report, investors could lose confidence in our reported financial information, which could have a material adverse effect on the trading price of our common stock.
Our stock price may change significantly, and you may not be able to resell shares of our common stock at or above the price you paid or at all, and you could lose all or part of your investment as a result.
The market price of our common stock may be highly volatile and could be subject to wide fluctuations. You may not be able to resell your shares at or above your purchase price due to a number of factors such as those listed in “—Risks Related to Our Business” and the following:
•results of operations that vary from the expectations of securities analysts and investors;
•results of operations that vary from those of our competitors;
•changes in expectations as to our future financial performance, including financial estimates and investment recommendations by securities analysts and investors;
•changes in economic conditions for companies in our industry;
•changes in market valuations of, or earnings and other announcements by, companies in our industry;
•declines in the market prices of stocks generally, particularly those of companies in our industry;
•additions or departures of key management personnel;
•strategic actions by us or our competitors;
•announcements by us, our competitors, our suppliers of significant contracts, price reductions, new products or technologies, acquisitions, dispositions, joint marketing relationships, joint ventures, other strategic relationships or capital commitments;
•changes in preference of our customers and our market share;
•changes in general economic or market conditions or trends in our industry or the economy as a whole;
•changes in business or regulatory conditions;
•future sales of our common stock or other securities;
•investor perceptions of or the investment opportunity associated with our common stock relative to other investment alternatives;
•changes in the way we are perceived in the marketplace, including due to negative publicity or campaigns on social media to boycott certain of our products, our business or our industry;
•the public’s response to press releases or other public announcements by us or third parties, including our filings with the SEC;
•changes or proposed changes in laws or regulations or differing interpretations or enforcement thereof affecting our business;
•announcements relating to litigation or governmental investigations;
•guidance, if any, that we provide to the public, any changes in this guidance or our failure to meet this guidance;
•the development and sustainability of an active trading market for our common stock;
•exchange rate fluctuations;
•changes in accounting principles; and
•other events or factors, including those resulting from informational technology system failures and disruptions, epidemics, pandemics, natural disasters, war, acts of terrorism, civil unrest or responses to these events.
Furthermore, the stock market may experience extreme volatility that, in some cases, may be unrelated or disproportionate to the operating performance of particular companies. These broad market and industry fluctuations may adversely affect the market price of our common stock, regardless of our actual operating performance. In addition, price volatility may be greater if the public float and trading volume of our common stock is low.
In the past, following periods of market volatility, stockholders have instituted securities class action litigation against various issuers. If we were to become involved in securities litigation, it could have a substantial cost and divert resources and the attention of executive management from our business regardless of the outcome of such litigation, which may adversely affect the market price of our common stock.
You may be diluted by the future issuance of additional common stock in connection with our incentive plans, acquisitions or otherwise.
As of December 31, 2020, we had 861,139,897 shares of common stock authorized but unissued. Our amended and restated certificate of incorporation authorizes us to issue these shares of common stock, options and other equity awards relating to common stock for the consideration and on the terms and conditions established by our board of directors in its sole discretion, whether in connection with acquisitions or otherwise. We have reserved shares for issuance under the 2021 Incentive Plan. Any common stock that we issue, including under the 2021 Incentive Plan or other equity incentive plans that we may adopt in the future, would dilute the percentage ownership currently held by our stockholders. In the future, we may also issue our securities in connection with investments or acquisitions. The amount of shares of our common stock issued in connection with an investment or acquisition could constitute a material portion of our then-outstanding shares of our common stock. Any issuance of additional securities in connection with investments or acquisitions may result in additional dilution to you.
Our ability to raise capital in the future may be limited.
Our business and operations may consume resources faster than we anticipate. In the future, we may need to raise additional funds through the issuance of new equity securities, debt or a combination of both. Additional financing may not be available on favorable terms or at all. If adequate funds are not available on acceptable terms, we may be unable to fund our capital requirements. If we issue new debt securities, the debt holders would have rights senior to holders of our common stock to make claims on our assets and the terms of any debt could restrict our operations, including our ability to pay dividends on our common stock. If we issue additional equity securities or securities convertible into equity securities, existing stockholders will experience dilution and the new equity securities could have rights senior to those of our common stock. Because our decision to issue securities in any future offering will depend on market conditions and other factors beyond our control, we cannot predict or estimate the amount, timing or nature of our future offerings. Thus, you bear the risk of our future securities offerings reducing the market price of our common stock and diluting their interest.
As a holding company, we depend on the ability of our subsidiaries to transfer funds to us to meet our obligations, including to pay dividends.
We are a holding company for all of our operations and are a legal entity separate from our subsidiaries. Dividends and other distributions from our subsidiaries are the principal sources of funds available to us to pay corporate operating expenses, to pay stockholder dividends, to repurchase stock and to meet our other obligations. The inability to receive dividends from our subsidiaries could have a material adverse effect on our business, financial condition, liquidity or results of operations.
Our subsidiaries have no obligation to pay amounts due on any of our liabilities or to make funds available to us for such payments. The ability of our subsidiaries to pay dividends or other distributions to us in the future will depend, among other things, on their earnings, tax considerations and covenants contained in any financing or other agreements. In addition, such payments may be limited as a result of claims against our subsidiaries by their creditors, including suppliers, vendors, lessors and employees.
If the ability of our subsidiaries to pay dividends or make other distributions or payments to us is materially restricted by cash needs, bankruptcy or insolvency, or is limited due to operating results or other factors, we may be required to raise cash through the incurrence of debt, the issuance of equity or the sale of assets. However, there is no assurance that we would be able to raise sufficient cash by these means. This could materially and adversely affect our ability to pay our obligations or pay dividends, which could have an adverse effect on the trading price of our common stock.
Future sales, or the perception of future sales, by us or our existing stockholders in the public market could cause the market price for our common stock to decline.
The sale of substantial amounts of shares of our common stock in the public market, or the perception that such sales could occur, including sales by our existing stockholders, could harm the prevailing market price of shares of our common stock. These sales, or the possibility that these sales may occur, also might make it more difficult for us to sell equity securities in the future at a time and at a price that we deem appropriate.
As of December 31, 2020, we had a total of 138,860,103 shares of our common stock outstanding. Of the outstanding shares, 7,250,000 shares sold in the IPO are freely tradable without restriction or further registration under the Securities Act, except for any shares held by our affiliates, as that term is defined under Rule 144 of the Securities Act, or Rule 144, including our directors, executive officers and other affiliates (including our Sponsor ).
The remaining outstanding 131,610,103 shares of common stock held by certain of our existing stockholders, including our Sponsor and certain of our directors and executive officers, representing approximately 94.8% of the total outstanding shares of our common stock as of December 31, 2020, are “restricted securities” within the meaning of Rule 144 and subject to certain restrictions on resale. Restricted securities may be sold in the public market only if they are registered under the Securities Act or are sold pursuant to an exemption from registration such as Rule 144.
In connection with the IPO, we, our executive officers, directors and certain of our existing stockholders that hold a significant amount of our common stock, including our Sponsor, signed lock-up agreements with the underwriters that, subject to certain customary exceptions, restrict the sale of the shares of our common stock and certain other securities held by them for 180 days following the date of the IPO. Goldman Sachs & Co. LLC and Wells Fargo Securities, LLC may, in their sole discretion and at any time without notice, release all or any portion of the shares or securities subject to any such lock-up agreements. An aggregate of 80,425 vested options are not subject to these lock-up agreements.
Upon the expiration of the lock-up agreements described above, all of the shares covered by these agreements will be eligible for resale in the public market pursuant to Rule 144, subject to our compliance with the public information requirement and, in the case of shares held by our affiliates, to volume, manner of sale and other limitations under Rule 144. We expect that certain of our existing stockholders will be considered an affiliate upon the expiration of the lock-up period based on their expected share ownership, as well as their board nomination rights (if applicable). Certain other of our stockholders may also be considered affiliates at that time.
In addition, pursuant to a registration rights agreement, our Sponsor has the right, subject to certain conditions, to require us to register the sale of their shares of our common stock under the Securities Act. See “Item 13. Certain Relationships and Related Party Transactions—Registration Rights Agreement.” By exercising its registration rights and selling a large number of shares, our Sponsor could cause the prevailing market price of our common stock to decline. Certain of our existing stockholders may have “piggyback” registration rights with respect to future registered offerings of our common stock. After giving effect to the IPO, the shares covered by registration rights represent approximately 92.0% of our total common stock outstanding. Registration of any of these outstanding shares of common stock would result in such shares becoming freely tradable without compliance with Rule 144 upon effectiveness of the registration statement.
On January 29, 2021, we filed a registration statement on Form S-8 under the Securities Act to register an aggregate of 22,344,275 shares of common stock subject to outstanding stock options and subject to issuance under the 2021 Incentive Plan and Employee Stock Purchase Plan. Shares registered under the registration statement on Form S-8 are eligible for sale in the open market.
As restrictions on resale end, or if our existing stockholders exercise their registration rights, the market price of our shares of common stock could drop significantly if the holders of these restricted shares sell them or are perceived by the market as intending to sell them. These factors could also make it more difficult for us to raise additional funds through future offerings of our shares of common stock or other securities.
If securities analysts do not publish research or reports about our business or if they downgrade our stock or our sector, our stock price and trading volume could decline.
The trading market for our common stock will rely in part on the research and reports that industry or financial analysts publish about us or our business. We do not control these analysts. Furthermore, if one or more of the analysts who do cover us downgrade our stock or our industry, or the stock of any of our competitors, or publish inaccurate or unfavorable research about our business, or if our operating results do not meet their expectations, the price of our stock could decline. If one or more of these analysts ceases coverage of the Company or fails to publish reports on us regularly, we could lose visibility in the market, which in turn could cause our stock price or trading volume to decline.
Anti-takeover provisions in our organizational documents could delay or prevent a change of control.
Certain provisions of our amended and restated certificate of incorporation and amended and restated bylaws may have an anti-takeover effect and may delay, defer or prevent a merger, acquisition, tender offer, takeover attempt, or other change of control transaction that a stockholder might consider in its best interest, including those attempts that might result in a premium over the market price for the shares held by our stockholders.
These provisions provide for, among other things:
•a classified board of directors, as a result of which our board of directors is divided into three classes, with each class serving for staggered three-year terms;
•the ability of our board of directors to issue one or more series of preferred stock;
•advance notice requirements for nominations of directors by stockholders and for stockholders to include matters to be considered at our annual meetings;
•certain limitations on convening special stockholder meetings;
•the removal of directors only for cause and only upon the affirmative vote of the holders of at least 66 2/3% of the shares of common stock entitled to vote generally in the election of directors if our Sponsor and its affiliates cease to beneficially own at least 40% of shares of common stock entitled to vote generally in the election of directors; and
•that certain provisions may be amended only by the affirmative vote of at least 66 2/3% of shares of common stock entitled to vote generally in the election of directors if our Sponsor and its affiliates cease to beneficially own at least 40% of shares of common stock entitled to vote generally in the election of directors.
These anti-takeover provisions could make it more difficult for a third party to acquire us, even if the third party’s offer may be considered beneficial by many of our stockholders. As a result, our stockholders may be limited in their ability to obtain a premium for their shares.
Our board of directors is authorized to issue and designate shares of our preferred stock in additional series without stockholder approval.
Our amended and restated certificate of incorporation authorizes our board of directors, without the approval of our stockholders, to issue 250 million shares of our preferred stock, subject to limitations prescribed by applicable law, rules and regulations and the provisions of our amended and restated certificate of incorporation, as shares of preferred stock in series, to establish from time to time the number of shares to be included in each such series and to fix the designation, powers, preferences and rights of the shares of each such series and the qualifications, limitations or restrictions thereof. The powers, preferences and rights of these additional series of preferred stock may be senior to or on parity with our common stock, which may reduce its value.
Our amended and restated certificate of incorporation provides, subject to limited exceptions, that the Court of Chancery of the State of Delaware will be the exclusive forum for substantially all disputes between us and our stockholders and the federal district courts will be the exclusive forum for Securities Act claims, which could limit our stockholders’ ability to bring a suit in a different judicial forum than they may otherwise choose for disputes with us or our directors, officers, team members or stockholders.
Our amended and restated certificate of incorporation provides, subject to limited exceptions, that unless we consent to the selection of an alternative forum, the Court of Chancery of the State of Delaware will, to the fullest extent permitted by law, be the sole and exclusive forum for any (i) derivative action or proceeding brought on behalf of our company, (ii) action asserting a claim of breach of a fiduciary duty owed by any director, officer, or other employee or stockholder of our company to the Company or our stockholders, creditors or other constituents, (iii) action asserting a claim against the Company or any director or officer of the Company arising pursuant to any provision of the Delaware General Corporation Law, or the DGCL, or our amended and restated certificate of incorporation or our amended and restated bylaws or as to which the DGCL confers jurisdiction on the Court of Chancery of the State of Delaware, or (iv) action asserting a claim against the Company or any director or officer of the Company governed by the internal affairs doctrine; provided that, the exclusive forum provision will not apply to suits brought to enforce any liability or duty created by the Exchange Act, which already provides that such claims must be bought exclusively in the federal courts. Our amended and restated certificate of incorporation also provides that, unless we consent in writing to the selection of an alternative forum, the U.S. federal district courts will be the exclusive forum for the resolution of any actions or proceedings asserting claims arising under the Securities Act. While the Delaware Supreme Court has upheld the validity of similar provisions under the DGCL, there is uncertainty as to whether a court in another state would enforce such a forum selection provision. Our exclusive forum provision does not relieve us of our duties to comply with the federal securities laws and the rules and regulations thereunder, and our stockholders will not be deemed to have waived our compliance with these laws, rules and regulations.
Any person or entity purchasing or otherwise acquiring any interest in shares of our capital stock will be deemed to have notice of and consented to the forum provisions in our amended and restated certificate of incorporation. This choice of forum provision may limit a stockholder’s ability to bring a claim in a judicial forum that it finds favorable for disputes with us or any of our directors, officers, other team members or stockholders. Alternatively, if a court were to find the choice of forum provision contained in our amended and restated certificate of incorporation to be inapplicable or unenforceable in an action, we may incur additional costs associated with resolving such action in other jurisdictions, which could harm our business, results of operations and financial conditions.
Item 1B. Unresolved Staff Comments
Item 2. Properties
We currently operate through a network of 10 leased corporate offices located throughout the United States, totaling approximately 270,000 square feet. Our headquarters and principal executive offices are located at 2211 Old Earhart Road, Suite 250, Ann Arbor, Michigan 48105. At this location, we lease office space totaling approximately 30,000 square feet. The lease for this location expires on June 30, 2029.
We believe that our facilities are in good operating condition and are sufficient for our current needs. Any additional space needed to support future needs and growth will be available on commercially reasonable terms.
Item 3. Legal and Regulatory Proceedings
As an organization that, among other things, provides consumer residential mortgage lending and servicing as well as related services and engages in online marketing and advertising, we operate within highly regulated industries on a federal, state and local level. We are routinely subject to various examinations and legal and administrative proceedings in the normal and ordinary course of business. This can include, on occasion, investigations, subpoenas, enforcement actions involving the CFPB or FTC, state regulatory agencies and attorney generals. In the ordinary course of business, we are, from time to time, a party to civil litigation matters, including class actions. None of these matters have had, nor are pending matters expected to have, a material impact on our assets, business, operations or prospects.
Item 4. Mine Safety Disclosures
Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
Market Information for Common Stock
Our common stock has been listed and traded on Nasdaq under the symbol “HMPT” since January 29, 2021.
Holders of Record
As of March 8, 2021, there were approximately 17 shareholders of record of our common stock. This does not include the significant number of beneficial owners whose stock is in nominee or “street name” accounts through brokers, banks or other nominees.
Beginning with the conclusion of the second fiscal quarter of 2021, we intend to pay cash dividends on a quarterly basis. Initially, we expect the quarterly dividends to be $0.15 per share and paid in the third fiscal quarter of 2021 to the shareholders of record on the date designated by the Board of Directors.
We cannot assure you that we will continue to pay dividends in the future, or that any such dividends will not be reduced or eliminated in the future. Any future determination to declare and pay cash dividends, if any, will be made at the discretion of our board of directors and will depend on a variety of factors, including applicable laws, our financial condition, results of operations, contractual restrictions, capital requirements, business prospects, general business or financial market conditions and other factors our board of directors may deem relevant.
Purchases of Equity Securities by the Issuer and Affiliated Purchases
Recent Sales of Unregistered Equity Securities
Issuer Repurchases of Equity Securities
Item 6. Selected Financial Data
Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations
Management’s discussion and analysis of our financial condition and results of operations should be read in conjunction with our consolidated financial statements and notes thereto included elsewhere in this Report. The following discussion includes forward-looking statements that reflect our plans, estimates and assumptions and involves numerous risks and uncertainties, including, but not limited to, those described in the “Item 1A. Risk Factors” section of this Report. Refer to “Cautionary Note on Forward-Looking Statements.” Future results could differ significantly from the historical results presented in this section.
We are a leading residential mortgage originator and servicer with a mission to create financially healthy, happy homeowners. Our business model is focused on growing originations through highly leverageable partner networks supported by at-scale operations, and managing the customer experience through our in-house servicing operation and proprietary Home Ownership Platform. Our originations are primarily sourced through a nationwide network of more than 5,000 independent mortgage brokerages, or our Broker Partners. We enable the success of our Broker Partner network through a unique blend of in market sales coverage and an efficient and scaled loan fulfillment process, which is supported by our fully integrated technology platform. We also source customers through nearly 600 correspondent sellers, or our Correspondent Partners. We maintain ongoing connectivity with nearly 360,000 customers through our servicing platform with the ultimate objective of establishing Customers for Life.
Servicing is a strategic cornerstone of our business and central to our Customer for Life strategy. Retaining our servicing and managing the servicing platform in-house gives us the opportunity to establish a deeper relationship with our customers. This relationship is enhanced through our proprietary Home Ownership Platform. The proprietary Home Ownership Platform differs from competitors in the way in which it personalizes the experience for borrowers through the use of customized dashboards, which allow us to deliver critical information about borrowers’ accounts such as payment deadlines, forbearance status and escrow distributions and customized offerings, which allow us to connect borrowers to other third-party financial products such as insurance policies and home equity loans.
This connectivity and ongoing dialogue help us proactively find ways to help our customers save money, either through a refinancing of their mortgage or savings on another home-related product. We believe the frequency of customer interaction, coupled with providing effective solutions beyond the mortgage, will result in the development of trusted, long-standing relationships and ultimately increase the lifetime value of the customer relationships.
By executing on this strategy, we have developed our de novo platform into an industry leader with a historic market-leading growth position. As of December 31, 2020, we are the third largest wholesale lender with the fastest growth of the top five wholesale originators, according to Inside Mortgage Finance. Overall, Home Point is the 10th largest non-bank originator in the United States, according to Inside Mortgage Finance, having originated $62.0 billion in the year ended December 31, 2020.
Our operations are organized into two separate reportable segments: Origination and Servicing.
In our Origination segment, we source loans through three distinct production channels: Direct, Wholesale and Correspondent. The Direct channel provides the Company’s existing servicing customers with various financing options. At the same time, it supports the servicing assets in the ecosystem by retaining existing servicing customers who may otherwise refinance their existing mortgage loans with a competitor. The Wholesale channel consists of mortgages originated through a nationwide network of more than 5,000 Broker Partners. The Correspondent channel consists of closed and funded mortgages that we purchase from a trusted network of Correspondent Partners. Once a loan is locked, it becomes channel agnostic. The channels in our Origination segment function in unison through the following activities: hedging, funding, and production. Our Origination segment generated contribution margins of $1.1 billion and $89.5 million for the years ended December 31, 2020 and 2019, respectively.
Our Servicing segment consists of servicing loans that were produced in our Originations segment where the Company retained the servicing rights. Servicing consists of collecting loan payments, remitting principal and interest payments to investors, managing escrow funds for the payment of mortgage-related expenses, such as taxes and insurance, performing loss mitigation activities on behalf of investors and otherwise administering our mortgage loan servicing portfolio in compliance with state and federal regulations. We also strategically buy and sell servicing rights. Our Servicing segment generated contribution loss of $65.7 million and contribution margin of $24.6 million for the years ended December 31, 2020 and 2019, respectively.
We believe that maintaining both an Origination segment and a Servicing segment provides us with a more balanced business model in both rising and declining interest rate environments, as compared to other industry participants that predominantly focus on either origination or servicing, instead of both.
Year ended December 31, 2020 Compared to Year Ended December 31, 2019 Summary
For the year ended December 31, 2020, we originated $62.0 billion of mortgage loans compared to $22.3 billion for the year ended December 31, 2019, representing an increase of $39.7 billion or 178.0%. Our MSR Servicing Portfolio as of December 31, 2020 was $91.5 billion of MSR UPB compared to $52.6 billion of MSR UPB as of December 31, 2019. We generated $607.0 million of net income for the year ended December 31, 2020 compared to $29.2 million of net loss for the year ended December 31, 2019. We generated $667.7 million of Adjusted net income for the year ended December 31, 2020 compared to $28.2 million for the year ended December 31, 2019. We generated $910.6 million of Adjusted EBITDA for the year ended December 31, 2020 compared to $69.4 million for the year ended December 31, 2019. Refer to “Non-GAAP Financial Measures” for further information regarding our use of Adjusted net income (loss) and Adjusted EBITDA, including limitations related to such non-GAAP measures and a reconciliation of such measures to net income, the nearest comparable financial measure calculated and presented in accordance with GAAP.
Total net income for the year ended December 31, 2020 included a loss of $285.3 million due to a decrease in the fair value of our MSRs resulting from the valuation model impact of a decrease in projected duration of cash flow collections during the period. According to the Mortgage Bankers Association (MBA) Mortgage Finance Forecast, average 30-year mortgage rates declined by approximately 70 basis points from December 31, 2019 to December 31, 2020. A decline of this nature generally results in higher prepayment speeds and a subsequent downward adjustment to the fair value of our MSRs for the loans that still exist in our portfolio. However, when rates decline, our Origination volume generally increases as refinance opportunities increase.
The above-described increase in Adjusted net income and Adjusted EBITDA was primarily due to an increase in Gain on loans, net of $1.2 billion and an increase in Loan fee income of $64.0 million for the year ended December 31, 2020 compared to the year ended December 31, 2019. The increase in Gain on loans, net and Loan fee income was driven by the increase in Origination volume described above and increased profit margins on overall loan sales to investors, which increased by 134 basis points or 149% for the year ended December 31, 2020 compared to the year ended December 31, 2019. Our increased Origination volume also resulted in an increase in Compensation and benefits expense of $247.0 million or 158.2% for the year ended December 31, 2020 compared to that for the year ended December 31, 2019. For definitions of, and more information about, these non-GAAP financial measures, see “—Non-GAAP Financial Measures” below.
In March 2020, the World Health Organization (WHO) categorized COVID-19 as a pandemic, and the COVID-19 outbreak was declared a national emergency. While the financial markets have demonstrated significant volatility due to the economic impacts of COVID-19, our flexible, scalable platform and technology-enabled infrastructure have enabled us to respond quickly to the increased market demand, resulting in record levels of Origination volume. We expect the increase in origination demands to remain steady as a result of the low interest rate environment and our competitive positioning in the markets.
On March 27, 2020, the Coronavirus Aid, Relief, and Economic Security Act (“CARES Act”) was enacted and signed into law. The CARES Act allows borrowers with federally backed loans to request a temporary mortgage forbearance through December 31, 2020. In addition, in February 2021, the federal government announced an additional extension of three to six months depending on loan type. As of December 31, 2020, approximately 36,000 loans, or 10.0%, of the loans in our MSR Servicing Portfolio had elected the forbearance option. Of the 10.0% of the loans in our MSR Servicing Portfolio that had elected the forbearance option as of December 31, 2020, approximately 51.9% remained current on their December 31, 2020 payments. As a result of the CARES Act forbearance requirements, we have experienced increases in delinquencies in our MSR Servicing Portfolio, and we believe delinquencies will likely remain elevated through the expiration of the CARES Act, which we believe is in line with industry performance.
As of December 31, 2020, the 60 days or more delinquent rate in our MSR Servicing Portfolio was 4.4%, compared to 1.7% as of December 31, 2019. As a servicer, we may be required to advance principal and interest to the investor for up to four months on GSE backed mortgages and longer on other government agency backed mortgages on behalf of borrowers who have entered a forbearance plan. In response to these potential GSE requirements, in April 2020, we amended our servicing advance facility to extend the maturity date to May 2021 and increased the total capacity from $50 million to $85 million. We plan to extend this facility beyond the current maturity date.
As of December 31, 2020, our Servicing advance receivable increased by $44.4 million, or 82.9% compared to December 31, 2019. The increase was primarily driven by an increase of $173.4 million in our MSR Servicing Portfolio as of December 31, 2020, compared to December 31, 2019. As a result, we increased our Servicing advance reserves by $4.1 million for the year ended December 31, 2020. However, out of the total increase in Servicing advance reserves of $4.1 million, $1.4 million was directly attributed to the COVID-19 pandemic. The increase of $4.1 million in the Servicing advance reserves was a result of increased delinquency rates on our MSR Servicing Portfolio stemming from the CARES Act. In addition, the Company’s cash and available line of credit positions remain positive. As of December 31, 2020, we had $165.2 million of unrestricted cash, $9.0 million in unused operating lines of credit, and $34.3 million in unused capacity from our servicing advance facilities.
We are currently prohibited from collecting certain servicing-related fees, such as late fees, and initiating foreclosure proceedings until the termination of the CARES Act forbearance period. As a result, we expect the effects of the CARES Act forbearance requirements to reduce our servicing income and increase our servicing expenses. Further, we have seen an increase in MSR prepayment speeds, which is driven by historically low interest rates. Refer to “Note 5, Mortgage servicing rights,” in the Company’s consolidated financial statements, for our increase in prepayment speeds. As a result of COVID-19, we experienced immaterial increased costs due to temporary process disruptions, resulting in holding loans held for sale in our portfolio longer than the average 30 days from funding to sale. While the incurred costs have thus far been immaterial, we expect this to be a continued risk until the COVID-19 pandemic has been remedied.
Finally, under the CARES Act, we elected to defer the payment of employer-related payroll taxes in the amount of $11.2 million during the year ended December 31, 2020. Under the CARES Act, 50.0% of the deferred payroll taxes are due by December 31, 2021 and 50.0% are due by December 31, 2022. We have recorded the accrual for deferred payroll taxes within Accounts payable and accrued expenses in our consolidated balance sheets as of December 31, 2020, as applicable.
We are continuing to focus on protecting the safety and well-being of our associates. In response to the COVID-19 pandemic, we quickly implemented a number of initiatives to ensure the safety of our associates. Since mid-March 2020, more than 90.0% of our associates have been working from home, and they are not participating in travel or face-to-face meetings that are deemed non-essential. To date, there has not been a material number of COVID-19 illnesses reported in our associate base, nor has there been a material impact to the observed productivity of our workforce in the aggregate.
While the COVID-19 pandemic has not had a material negative impact on our operational performance, financial performance, or liquidity to date, it is difficult to predict what the ongoing impact of the pandemic will be on the economy and our business. Refer to “Item 1A. Risk Factors” for more details.
Key Factors Affecting Results of Operations for Periods Presented
Residential Real Estate Market Conditions
Our Origination volume is impacted by broader residential real estate market conditions and the general economy. Housing affordability, availability and general economic conditions influence the demand for our products. Housing affordability and availability are impacted by mortgage interest rates, availability of funds to finance purchases, availability of alternative investment products and the relative relationship of supply and demand. General economic conditions are impacted by unemployment rates, changes in real wages, inflation, consumer confidence, seasonality and the overall economic environment. Recent market conditions, such as low interest rates and limited supply of housing, have led to home price appreciation and a decrease in the affordability index.
Changes in Interest Rates
Origination volume is impacted by changes in interest rates. Decreasing interest rates tend to increase the volume of purchase loan origination and refinancing whereas increasing interest rates tend to decrease the volume of purchase loan origination and refinancing.
Changes in interest rates impact the value of interest rate lock commitments and loans held for sale. Interest rate lock commitments represent an agreement to extend credit to a customer whereby the interest rate is set prior to the loan funding. These commitments bind us to fund the loan at a specified rate. When loans are funded, they are classified as held for sale until they are sold. During the origination and sale process, the value of interest rate lock commitments and loans held for sale inventory rises and falls with changes in interest rates; for example, if we enter into interest rate lock commitments at low interest rates followed by an increase in interest rates in the market, the value of our interest rate lock commitment will decrease.
The fair value of MSRs is also driven primarily by interest rates, which impact the likelihood of loan prepayments. In periods of rising interest rates, the fair value of the MSRs generally increases as prepayments decrease, and therefore the estimated life of the MSRs and related expected cash flows increase. In a declining interest rate environment, the fair value of MSRs generally decreases as prepayments increase and therefore the estimated life of the MSRs, and related cash flows, decrease.
There has been a long-term trend of falling interest rates, with intermittent periods of rate increases. More recently, there was a falling interest rate environment in 2020. Because origination volumes tend to increase in declining interest rate environments and decrease in increasing rate environments, we believe that our two principal sources of revenue, mortgage origination and mortgage loan servicing, contribute to a stable business profile by creating a natural hedge against changes in the interest rate environment. Additionally, to mitigate the interest rate risk impact, we employ economic hedging strategies. Our economic hedging strategies allow us to protect our investment and help us manage our liquidity through forward delivery commitments on mortgage-backed securities or whole loans and options on forward contracts.
Key Performance Indicators
We review several operating metrics, including the following key performance indicators to evaluate our business, measure our performance, identify trends affecting our business, formulate financial projections and make strategic decisions. We believe these key metrics are useful to investors both because they allow for greater transparency with respect to key metrics used by management in its financial and operational decision-making, and they may be used by investors to help analyze the health of our business.
Our origination metrics enable us to monitor our ability to generate revenue and expand our market share across different channels. In addition, they help us track origination quality and compare our performance against the nationwide originations market and our competitors. Other key performance indicators include the number of Broker Partners and number of Correspondent Partners, which enable us to monitor key inputs of our business model. Our servicing metrics enable us to monitor the size of our customer base, the characteristics and value of our MSR Servicing Portfolio, and help drive retention efforts.
The following summarizes key performance indicators for our business:
Origination Segment KPIs
|($ in thousands)||2020||2019|
|Origination Volume by Channel|
|Gain on sale margin|
Gain on sale margin (bps) (a)
Overall share of origination market (b)
|1.5 ||%||1.0 ||%|
Share of wholesale channel (c)
|7.0 ||%||3.5 ||%|
Origination Volume by Purpose
|Purchase ||30.9 ||%||50.6 ||%|
|Refinance||69.1 ||%||49.4 ||%|
(a) Calculated as Gain on sale, net divided by Origination volume.
(b) Calculated as the Company’s originations dollar value for the year divided by the total residential originations in the United States of America per Inside Mortgage Finance, a third party provider of residential mortgage industry news and statistics each year.
(c) Calculated as the Company’s originations dollar value for the year divided by the total wholesale originations in the United States of America per Inside Mortgage Finance, each year.
|Third Party Partners|
Number of Brokers (d)
Number of Correspondent Sellers (e)
(d) Number of Broker Partners with whom the Company sources loans from.
(e) Number of Correspondent Partners from whom the Company purchases loans.
Servicing Segment KPIs
|($ in thousands)||2020||2019|
MSR Servicing Portfolio - UPB (f)
MSR Servicing Portfolio - Units (g)
60 days or more delinquent (h)
|4.4 ||%||1.7 ||%|
MSR Multiple (i)
(f) The unpaid principal balance of loans we service on behalf of Ginnie Mae, Fannie Mae, Freddie Mae and others, at period end.
(g) Number of loans in our serving portfolio at period end.
(h) Total balances of outstanding loan principals for which installment payments are at least 60 days past due as a percentage of the outstanding loan principal as of a specified date. Includes delinquent loans in COVID-19 pandemic-related forbearance plans provided in the CARES Act.
(i) Calculated as the MSR fair market value as of a specified date divided by the related UPB divided by the weighted average service fee.
Non-GAAP Financial Measures
We believe that certain non-GAAP financial measures presented in this Report, including Adjusted revenue, Adjusted net income and Adjusted EBITDA can provide useful information to investors and others in understanding and evaluating our operating results. These measures are not financial measures calculated in accordance with GAAP and should not be considered as a substitute for net income, or any other operating performance measure calculated in accordance with GAAP and may not be comparable to a similarly titled measure reported by other companies.
We believe that the presentation of Adjusted revenue, Adjusted net income and Adjusted EBITDA provides useful information to investors regarding our results of operations because each measure assists both investors and management in analyzing and benchmarking the performance and value of our business. Adjusted revenue, Adjusted net income and Adjusted EBITDA provide indicators of performance that are not affected by fluctuations in certain costs or other items. Accordingly, management believes that these measurements are useful for comparing general operating performance from period to period, and management relies on these measures for planning and forecasting of future periods. The Company measures the performance of the segments primarily on a contribution margin basis. Additionally, these measures allow management to compare our results with those of other companies that have different financing and capital structures. However, other companies may define Adjusted revenue, Adjusted net income (loss) and Adjusted EBITDA differently, and as a result, our measures of Adjusted revenue, Adjusted net income and Adjusted EBITDA may not be directly comparable to those of other companies.
Adjusted revenue. We define Adjusted revenue as Total net revenue exclusive of the impact of the change in fair value of MSRs related to changes in valuation inputs and assumptions, net of MSRs hedge and adjusted for Income from equity method investment.
Adjusted net income. We define Adjusted net income as Net income (loss) exclusive of the impact of the change in fair value of MSRs related to changes in valuation inputs and assumptions, net of MSRs economic hedging results.
Adjusted EBITDA. We define Adjusted EBITDA as earnings before interest (without adjustment for net warehouse interest related to loan fundings and payoff interest related to loan prepayments), taxes, depreciation and amortization exclusive of the impact of the change in fair value of MSRs related to changes in valuation inputs and assumptions, net of MSRs economic hedging results.
The non-GAAP information presented below should be read in conjunction with the Company’s consolidated financial statements and the related notes.
The following is a reconciliation of Adjusted revenue, Adjusted net income and Adjusted EBITDA to the nearest GAAP financial measures of Total revenue, net and Net income (loss), as applicable:
Reconciliation of Adjusted Revenue to Total Revenue, Net
| ||Year Ended December 31,|
|($ in thousands)||2020||2019|
|Total revenue, net||$||1,377,342 ||$||199,725 |
Income from equity method investment
|16,894 ||2,701 |
Change in fair value of MSR (due to inputs and assumptions), net of hedge (a)
|81,129 ||74,481 |
|Adjusted revenue||$||1,475,365 ||$||276,907 |
Reconciliation of Adjusted Net Income to Total Net Income (Loss)
| ||Year Ended December 31,|
|($ in thousands)||2020||2019|
|Total net income (loss)||$||607,003 ||$||(29,210)|
Change in fair value of MSR (due to inputs and assumptions), net of hedge (a)
|81,129 ||74,481 |
Income tax effect of change in fair value of MSR (due to inputs and assumptions), net of hedge (b)
|Adjusted net income ||$||667,687 ||$||28,185 |Reconciliation of Adjusted EBITDA to Total Net Income (Loss)
| ||Year Ended December 31,|
|($ in thousands)||2020||2019|
|Total net income (loss)||$||607,003 ||$||(29,210)|
|Interest expense on corporate debt||18,400 ||27,721 |
|Income tax expense (benefit) ||198,554 ||(9,500)|
|Depreciation and amortization||5,531 ||5,918 |
Change in fair value of MSR (due to inputs and assumptions), net of hedge (a)
|81,129 ||74,481 |
|Adjusted EBITDA||$||910,617 ||$||69,410 |
(a) MSR fair value changes due to valuation inputs and assumptions are measured using a stochastic discounted cash flow model that includes assumptions such as prepayment speeds, delinquencies, discount rates, and effects of changes in market interest rates. Refer to “Note 2, Basis of Presentation and Significant Accounting Policies” and “Note 5, Mortgage Servicing Rights” to the Company’s consolidated financial statements. The change in the value of the MSR hedge is measured based on third party market values and cash settlement. Refer to “Note 16, Fair Value Measurements” in the consolidated financial statements. We exclude changes in fair value of MSRs, net of hedge from Adjusted revenue as they add volatility and we believe that they are not indicative of the Company’s operating performance or results of operations. This adjustment does not include changes in fair value of MSRs due to realization of cash flows, which remain in Adjusted EBITDA. Realization of cash flows occurs when cash is collected as customers make scheduled payments, partial prepayments of principal, or pay their mortgage in full.
(b) The income tax effect of change in fair value of MSR (due to inputs and assumptions), net of hedge is calculated as the MSR valuation change, net of hedge multiplied by the quotient of Income tax expense (benefit) divided by Income (loss) before income tax.
Description of Certain Components of our Results of Operations
Components of Revenue
Gain on loans, net includes the realized and unrealized gains and losses on mortgage loans, as well as the changes in fair value of all loan-related derivatives, including interest rate lock commitments, freestanding loan-related derivatives, and representation and warranty reserve.
Loan fee income consists of fee income earned on all loan originations, including amounts earned related to application and underwriting fees. Fees associated with the origination and acquisition of mortgage loans are recognized when earned, which is the date the loan is originated or acquired.
Interest income (expense), net consists of interest income recognized on loans held for sale for the period from loan funding to sale, which is typically 30 days, and interest earned on escrow and custodial funds held on behalf of our servicing customers and investors, respectively. Interest income (expense), net is presented net of interest expense related to our loan funding warehouse and other facilities as well as expenses related to amortization of capitalized debt expense, original issue discount, gains or losses upon extinguishment of debt, and commitment fees paid on certain debt agreements.
Loan servicing fees consist of fees received from loan servicing. Loan servicing involves the servicing of residential mortgage loans on behalf of an investor. Total Loan servicing fees include servicing and other ancillary servicing revenue earned for servicing mortgage loans owned by investors. Servicing fees received for servicing mortgage loans owned by investors are based on a stipulated percentage of the outstanding monthly principal balance on such loans, or the difference between the weighted-average yield received on the mortgage loans and the amount paid to the investor, less guaranty fees and interest on curtailments (reduction of principal balance). Loan servicing fees are receivable only out of interest collected from mortgagors and are recorded as income when earned, which is generally upon collection. Late charges and other miscellaneous fees collected from mortgagors are also recorded as income when collected.
Change in fair value of mortgage servicing rights. MSRs represent the fair value assigned to contracts that obligate us to service the mortgage loans on behalf of the owners of the mortgage loans in exchange for service fees and the right to collect certain ancillary income from the borrower. We recognize MSRs at our estimate of the fair value of the contract to service loans. Changes in the fair value of MSRs are recognized as current period income as a component of Change in fair value of MSRs. To hedge against interest rate exposure on these assets, we enter into various derivative instruments, which may include but are not limited to swaps and forward loan purchase commitments. Changes in the value of derivatives designed to protect against MSR value fluctuations, or MSR hedging gains and losses, are also included as a component of Change in fair value of MSRs.
Other Income includes income that is dissimilar in nature to revenues we earn from loan origination and servicing activities, such as proceeds from the sale of a business or contingent consideration received.
Components of Operating Expenses
Compensation and benefits expense includes all salaries, commissions, bonuses and benefit-related expenses for our associates.
Loan expense primarily includes loan origination costs, loan processing costs, and fees related to loan funding. As a result of adoption of Accounting Standards Codification (“ASC”) 606, Revenue from Contracts with Customers, or ASC 606, certain passthrough fees such as flood certification, credit report, and appraisal fees, among others, are presented net within Loan expense. A reclassification of these passthrough fees from Loan fee income to Loan expense is presented for periods subsequent to adoption.
Loan servicing expense primarily includes servicing system technology expenses, non-performing servicing expenses, and general servicing expenses, such as printing expenses, recording fees, and title search fees.
Occupancy and equipment includes rent expense, utilities, office supplies, technology and other office expenses.
General and administrative primarily includes marketing and advertising costs, travel and entertainment, legal reserves, and professional services, such as audit and consulting fees.
Depreciation and amortization includes depreciation of Property and equipment and amortization of Intangible assets.
Other expenses primarily consist of insurance, dues and subscriptions, and other employee-related expenses such as recruitment fees and training expenses.
Stock-based compensation consists of equity awards and is measured and expensed accordingly under ASC 718, Compensation—Stock Compensation.
Future Public Company Expenses
As a public company, we anticipate our operating expenses will increase as we establish and maintain governance and controls in accordance with SEC guidelines. We expect some of our expenses to increase as we establish more comprehensive compliance and governance functions, maintain and review internal controls over financial reporting in accordance with Sarbanes-Oxley and prepare and distribute periodic reports as required by SEC rules and regulations. Such expenses include, but are not limited to accounting, legal and personnel-related expenses. As a result, our historical results of operations may not be indicative of our results of operations in future periods.
Results of Operations – Years Ended December 31, 2020 and 2019
Consolidated Results of Operations
The following table sets forth certain consolidated financial data for each of the periods indicated:
| ||Year Ended December 31,|| || |
|($ in thousands)||2020||2019||$ Change||% Change|
|Gain on loans, net||$||1,384,936 ||$||199,501 ||$||1,185,435 ||594.2 ||%|
|Loan fee income||96,118 ||32,112 ||64,006 ||199.3 ||%|
|Interest income||60,181 ||51,801 ||8,380 ||16.2 ||%|
|Interest expense||(69,579)||(57,942)||(11,637)||20.1 ||%|
|Interest expense, net||(9,398)||(6,141)||(3,257)||53.0 ||%|
|Loan servicing fees||188,232 ||144,228 ||44,004 ||30.5 ||%|
|Change in fair value of mortgage servicing rights||(285,252)||(173,134)||(112,118)||64.8 ||%|
|Other income||2,706 ||3,159 ||(453)||-14.3 ||%|
|Total revenue, net||1,377,342 ||199,725 ||1,177,617 ||589.6 ||%|
|Compensation and benefits||403,246 ||156,197 ||247,049 ||158.2 ||%|
|Loan expense||45,408 ||15,626 ||29,782 ||190.6 ||%|
|Loan servicing expense||30,786 ||20,924 ||9,862 ||47.1 ||%|
|Occupancy and equipment||25,985 ||16,768 ||9,217 ||55.0 ||%|
|General and administrative||52,459 ||21,407 ||31,052 ||145.1 ||%|
|Depreciation and amortization||5,531 ||5,918 ||(387)||-6.5 ||%|
|Other expenses||25,264 ||4,296 ||20,968 ||488.1 ||%|
|Total expenses||588,679 ||241,136 ||347,543 ||144.1 ||%|
|Income (loss) before income tax||788,663 ||(41,411)||830,074 ||2004.5 ||%|
|Income tax expense (benefit) ||198,554 ||(9,500)||208,054 ||2190.0 ||%|
|Income from equity method investments||16,894 ||2,701 ||14,193 ||525.5 ||%|
|Total net income (loss)||$||607,003 ||$||(29,210)||$||636,213 ||2178.1 ||%|
Year Ended December 31, 2020 Compared to the Year Ended December 31, 2019
During the year ended December 31, 2020, we recorded Total net income of $607.0 million, an increase of $636.2 million, or 2178.1%, compared to a Total net loss of $29.2 million for the year ended December 31, 2019. The increase in Net income was primarily the result of increase in Gain on loans, net of $1,185.4 million or 594.2% due to the increase in loan origination and Gain on sale margin during the year ended December 31, 2020 compared to the year ended December 31, 2019. The increase was offset by an increase of unfavorable Change in fair value of MSRs of $112.1 million or 64.8% for the year ended December 31, 2020 compared to the year ended December 31, 2019 which was primarily driven by the decline in mortgage interest rates, which resulted in an increase in prepayment speeds. In addition, Compensation and benefits expense increased by $247.0 million, or 158.2%, for the year ended December 31, 2020 compared to the year ended December 31, 2019 due to increases in headcount as a result of the growth in the loan origination volume. These were partially offset by increase in Loan fee income of $64.0 million, or 199.3%, due to the increase in origination volume and an increase of $44.0 million or 30.5% in Loan servicing fees due to the growth of our MSR Servicing Portfolio for the year ended December 31, 2020 compared to the year ended December 31, 2019.
Total Revenue, Net
Gains on loans, net
The components of Gain on loans, net for the periods presented were as follows:
| ||Year Ended December 31,|
|($ in thousands)||2020||2019|
Gain on sales, net (a)
|$||1,548,595 ||$||209,261 |
|Change in fair value of loans held for sale, IRLCs, and related economic hedges||327,665 ||54,723 |
|Realized and unrealized loss from derivative financial instruments||(467,879)||(60,290)|
|Provision for losses relating to representations and warranties||(23,444)||(4,193)|
|Gain on loans, net||$||1,384,937 ||$||199,501 |
(a)The Gain on sales, net includes income related to originations of mortgage servicing rights.
The table below provides details of the characteristics of our mortgage loan production for each of the periods presented:
| ||Year Ended December 31,|
|(in thousands, except Gain on sale margin)||2020||2019|
|Origination volume||62,000,792 ||22,267,593 |
|Originated MSR UPB||60,086,183 ||20,484,918 |
Gain on sale margin (basis points) (a)
|223.4 ||89.6 |
Retained servicing (UPB) (b)
|99.0 ||%||96.8 ||%|
(a)Gain on sale margin represents the margin on loans sold, including the realized and unrealized gains and losses on sales of mortgage loans, as well as the changes in fair value of all loan-related derivatives, including interest rate lock commitments, freestanding loan-related derivatives, and representation and warranty reserve, and is calculated as the ratio of Gain on loans, net to the Sales volume UPB.
(b)Represents the percentage of our loan sales UPBs for which we retained the underlying servicing UPB during the period.
Gain on loans, net increased by $1,185 million, or 594.2%, for the year ended December 31, 2020 compared to the year ended December 31, 2019. The increase was due to an increase of $1,339 million in Gain on sales, net and an increase in the Change in fair value of loans held for sale, interest rate lock commitments (“IRLCs”), and related economic hedges of $272.9 million, partially offset by an increase of $407.6 million of Realized and unrealized loss from derivative financial instruments and an increase of $19.3 million of Provision for losses relating to representations and warranties for the year ended December 31, 2020 as compared to the year ended December 31, 2019. The increases in the components of Gain on loans, net is consistent with our increase in Origination volume and higher Gain on sale margins. The higher origination volume for the year ended December 31, 2020 compared to the year ended December 31, 2019 also resulted in an increase of the reserve provision for losses relating to representation and warranties. Refer to Note 15 - Representation and Warranty Reserve within the financial statements for additional information regarding the Provision for losses relating to representation and warranties.
Gain on sales, net increased by $1.3 billion, or 640.0%, for the year ended December 31, 2020 compared to the year ended December 31, 2019. The increase was consistent with our increase in Origination volume. Origination volume, excluding volume from the Distributed retail channel, increased by $39.7 billion, or 178.4% for the year ended December 31, 2020 compared to the year ended December 31, 2019, which was led by an increase in the wholesale market channel. The increase of our Origination volume was supported by declining interest rates during the year ended December 31, 2020, combined with a 74% increase in Broker partners and a 13% increase in Correspondent partners from the year ended December 31, 2020 compared to the year ended December 31, 2019. The decline in interest rates resulted in an increase in Refinance originations as a percentage of our total origination volume. The increase was further driven by an increase of originated MSRs. Originated MSRs increased by $299.5 million, or 109.5%, for the year ended December 31, 2020 compared to the year ended December 31, 2019. The Retained servicing (UPB) ratio increased to approximately 99.0% for the year ended December 31, 2020 from approximately 96.8% for the year ended December 31, 2019. In addition, Gain on sale margin increased by 149.3% for the year ended December 31, 2020 as compared to the year ended December 31, 2019. The increase in Gain on sale margin was primarily driven by the low interest rates market which resulted in increased demand, which led to increased margins for the year ended December 31, 2020 compared to the year ended December 31, 2019.
Gain on loans, net also includes unrealized gains and losses from the fair value changes in mortgage loans held for sale and IRLCs as well as realized and unrealized gains and losses from derivative instruments used to hedge the loans held for sale and IRLCs. The Net loss from these fair value changes increased by $134.6 million, or 2419%, for the year ended December 31, 2020 compared to the year ended December 31, 2019. Realized and unrealized losses from derivative financial instruments increased by $407.6 million or 676.0% for the year ended December 31, 2020 from the year ended December 31, 2019 due to unexpected changes in interest rates, offset by a gain of $272.9 million recognized in the year ended December 31, 2020 due to changes in fair value of loans held for sale and IRLCs resulting from favorable market conditions.
Loan fee income
Loan fee income increased by $64.0 million, or 199.3%, for the year ended December 31, 2020 compared to the year ended December 31, 2019. This increase was primarily driven by an increase in Origination volume discussed above for the year ended December 31, 2020 compared to the year ended December 31, 2019.
Loan servicing fees
| ||Year Ended December 31,|
|($ in thousands)||2020||2019|
|Servicing fees||$||193,035 ||$||141,195 |
|Late fees and other||(4,803)||3,033 |
|Loan servicing fees||$||188,232 ||$||144,228 |
The table below provides details of the characteristics of our mortgage loan servicing portfolio as of the periods presented:
| ||December 31,|
|($ in thousands)||2020||2019|
|MSR Servicing Portfolio (UPB)||$||91,482,967 ||$||52,600,546 |
|Average MSR Servicing Portfolio (UPB)||$||72,041,757 ||$||47,012,186 |
|MSR Servicing Portfolio (Loan Count)||359,323 ||236,362 |
|MSRs Fair Value Multiple (x)||2.9x||3.4x|
|Delinquency Rates (%)||5.5 ||3.5 |
|Weighted average credit score||740 ||722 |
|Weighted average servicing fee, net (bps)||30 ||30 |
Loan servicing fees increased by $44.0 million, or 30.5%, for the year ended December 31, 2020 compared to the year ended December 31, 2019. This increase was primarily driven by an increase in Servicing fees of $51.8 million due to an increase in the Average MSR Servicing Portfolio of $25.0 billion, or 53.2% as of December 31, 2020 compared to December 31, 2019, which was primarily driven by an increase in origination volume and our servicing ratio over the period.
Change in fair value of MSRs
| ||Year Ended December 31,|
|($ in thousands)||2020||2019|
|Realization of cash flows||$||(204,122)||$||(98,650)|
|Valuation inputs and assumptions||(195,595)||(133,997)|
|Economic hedging results||114,465 ||59,513 |
|Change in fair value of MSRs||$||(285,252)||$||(173,134)|
Change in fair value of MSRs presented losses for both years ended December 31, 2020 and 2019. Fair value losses increased by $112.1 million, or 64.8%, for the year ended December 31, 2020 compared to the year ended December 31, 2019. This was primarily driven by the increased Realization of cash flows due to an increase in actual prepayments. Typically, when interest rates decline, MSRs will prepay faster, resulting in an increase in the Realization of cash flows. The increased loss due to changes in Valuation inputs and assumptions was primarily driven by lower interest rates, which resulted in an increase in modeled prepayment speeds. These increased losses were partially offset by increased gains from our economic hedging results.
Interest expense, net
The components for Interest expense, net for the periods presented were as follows:
| ||Year Ended December 31,|
|($ in thousands)||2020||2019|
|Interest income||$||60,181 ||$||51,801 |
|Interest expense, net||$||(9,398)||$||(6,141)|
Interest expense, net increased by $3.3 million, or 53.0%, for the year ended December 31, 2020 compared to the year ended December 31, 2019. The increase in expense was driven by an increase in warehouse borrowing and related fees during the year ended December 31, 2020 as compared to the year ended December 31, 2019 due to increase in origination volume. Increase in warehouse borrowing expense was offset by a decrease in the term debt expense during the year ended December 31, 2020 as compared to the year ended December 31, 2019 primarily driven by a write off of debt issuance cost and prepayment penalty that occurred during the year ended December 31, 2019. Interest income increased due to an increase in interest earned on loans held for sale for the year ended December 31, 2020 as compared to the year ended December 31, 2019 which was driven by our increase in origination volume.
Other income decreased slightly by $0.5 million, or 14.3%, for the year ended December 31, 2020 compared to the year ended December 31, 2019. This decrease was primarily driven by contingent consideration received in 2019.
Total expenses increased by $347.5 million, or 144.1%, for the year ended December 31, 2020 compared to the year ended December 31, 2019. This was primarily driven by increases in Compensation and benefits expense, loan expense, general and administrative expense and other expenses.
Compensation and benefits expense increased by $247.0 million, or 158.2%, for the year ended December 31, 2020 compared to the year ended December 31, 2019. The increase was primarily driven by an increase of $130.3 million in commissions and bonuses resulting from an increase in Origination volume, as well as an increase of $116.8 million in salary and benefits largely driven by an 130.3% increase in employee headcount to support our growth in Origination volume. As a percentage of volume, Compensation and benefits expense was 0.65% and 0.70% of Origination volume for the years ended December 31, 2020 and 2019, respectively.
Loan expense increased by $29.8 million, or 190.6%, for the year ended December 31, 2020 compared to the year ended December 31, 2019. The increase was primarily driven by increases in loan costs due to an increase in Origination volume of $39.7 billion for the year ended December 31, 2020 compared to the year ended December 31, 2019.
Loan servicing expense increased by $9.9 million, or 47.1%, for the year ended December 31, 2020 compared to the year ended December 31, 2019. The increase was primarily driven by an increase of $5.1 million in loan servicing operations costs due to a 52.0% increase in mortgage servicing portfolio units as of December 31, 2020 compared to December 31, 2019 and a $4.9 million increase in the provision for servicing advance reserves due to an increase in servicing advances resulting from an increase in our servicing portfolio combined with increased cost associated with the forbearance provided for through the CARES Act.
Occupancy and equipment expense increased by $9.2 million, or 55.0%, for the year ended December 31, 2020 compared to the year ended December 31, 2019. The increase was primarily driven by an increase in equipment and information technology associated expense of $6.0 million and increase in other occupancy and equipment expense of $1.6 million for the year ended December 31, 2020 as compared to the year ended December 31, 2019, both of which were driven by an increased headcount.
General and administrative expense increased $31.1 million, or 145.1%, for the year ended December 31, 2020 compared to the year ended December 31, 2019. The increase was primarily driven by an increase in professional services fees of $28.9 million related to the professional and consulting services incurred during the Company’s initial public offering process that was initiated in 2020 as well as an increase in other outsourcing and professional services incurred due to increase in origination volume. The increase was partially offset by a decrease of $1.7 million in travel and entertainment expense for the year ended December 31, 2020 as compared to the year ended December 31, 2019 due to reduced travel as a result of the COVID-19 pandemic.
Depreciation and amortization expense decreased by $0.4 million, or 6.5%, for the year ended December 31, 2020 compared to the year ended December 31, 2019. The decrease was primarily driven by a decrease of $1.2 million in amortization of intangibles expense as a result of lower carrying value in 2020 and an impairment expense of $0.1 million recorded in the year ended December 31, 2019. The decrease was offset by an increase of depreciation expense of $0.9 million as a result of additional IT equipments acquired during the year ended December 31, 2020 as compared to the year ended December 31, 2019 as a result of our increase in headcount.
Income tax expense (benefit) increased by $208.1 million for the year ended December 31, 2020 compared to the year ended December 31, 2019. The increase is primarily due to an increase in pre-tax income. Our overall effective tax rate of 25.2% and 22.9% for the years ended December 31, 2020 and 2019, respectively, differed from the U.S. statutory rate of 21.0% primarily due the impact of state incomes taxes, adjustments to the partial valuation allowance on state net operating losses, offset by certain non-deductible expenses and the impact of state rate changes on the beginning deferred tax balances.
Summary Results by Segment for the Years Ended December 31, 2020 and 2019
We have two segments:
•Our Origination segment consists of a combination of retail and third-party loan production operations. The increase in revenues for the Origination segment was primarily driven by an increase in loan Origination volume.
•Our Servicing segment consists of servicing loans the Company had initially originated and subsequently sold, for which the Company retained servicing rights as well as MSRs the Company occasionally purchases from others. The decrease in revenues for the Servicing segment was primarily driven by a decrease in interest rates.
The table below presents details of Revenue and Contribution margin for the Origination segment:
| ||Year Ended December 31,|
|($ in thousands)||2020||2019|
|Gain on loans, net||$||1,384,977 ||$||200,646 |
|Loan fee income||96,118 ||32,072 |
|Loan servings fees||(3,499)||(846)|
|Interest income, net||1,576 ||2,697 |
|Total Origination segment revenue||1,479,172 ||234,569 |
|Directly attributable expense||384,950 ||145,114 |
|Contribution margin||$||1,094,222 ||$||89,456 |
The table below presents details of Revenue and Contribution margin for the Servicing segment:
| ||Year Ended December 31,|
|($ in thousands)||2020||2019|
Gain on loans, net
|Loan servicing fees||191,731 ||145,074 |
|Change in fair value of mortgage servicing rights||(285,252)||(173,134)|
|Interest income||7,426 ||18,883 |
|Other income||318 ||13 |
|Total Servicing segment revenue||(85,817)||(10,309)|
|Change in mortgage servicing rights due to valuation, net of hedge||(81,129)||(74,482)|
|Directly attributable expense||60,979 ||39,580 |
|Contribution margin||$||(65,667)||$||24,593 |
Liquidity and Capital Resources
Sources and Uses of Cash
Historically, our primary sources of liquidity have included:
•Borrowings, including under our warehouse funding facilities and other secured and unsecured financing facilities
•Cash flow from our operations, including:
•Sale of mortgage loans held for sale
•Loan origination fees
•Servicing fee income
•Interest income on loans held for sale, and
•Cash and marketable securities on hand
Historically, our primary uses of funds have included:
•Origination of loans
•Payment of interest expense
•Repayment of debt
•Payment of operating expenses, and
•Changes in margin requirements for derivative contracts
We are also subject to contingencies which may have a significant impact on the use of our cash.
Summary of Certain Indebtedness
To originate and aggregate loans for sale into the secondary market, we use our own working capital and borrow on a short-term basis primarily through committed and uncommitted mortgage warehouse lines of credit that we have established with different large global and regional banks and financial institutions. Our loan funding facilities are primarily in the form of master repurchase agreements and participation agreements. New loan originations that are financed under these facilities are generally financed at approximately 95% to 100% of the principal balance of the loan (although certain types of loans are financed at lower percentages of the principal balance of the loan).
At the time of either the funding or purchase, mortgage loans are pledged as collateral for borrowings on mortgage warehouse lines of credit. In most cases, loans will remain on one of the warehouse lines of credit facilities for only a short time, generally less than one month, until the loans are pooled and sold. During the time the loans are held for sale, we earn Interest income from the borrower on the underlying mortgage loan. This income is partially offset by the interest and fees we have to pay under the mortgage warehouse lines of credit.
When we sell a pool of loans in the secondary market, the proceeds received from the sale of the loans are used to pay back the amounts we owe on the mortgage warehouse lines of credit. We rely on the cash generated from the sale of loans to fund future loans and repay borrowings under our mortgage warehouse lines of credit. Delays or failures to sell loans in the secondary market could have an adverse effect on our liquidity position.
As of December 31, 2020, we held mortgage warehouse lines of credit arrangements with nine separate financial institutions with a total maximum borrowing capacity of $4.2 billion and we had an unused borrowing capacity of $1.2 billion. Refer to “Note 11 - Warehouse Lines of Credit” of our consolidated financial statements.
As of December 31, 2020, we maintained a servicing advance financing facility, MSR financing facility and an operating line of credit with total combined maximum borrowing capacity of $572.0 million and an unused borrowing capacity of $116.1 million. Refer to “Note 12 – Term Debt and Other Borrowings, net” of our consolidated financial statements.
The amount owed and outstanding on our mortgage warehouse lines of credit fluctuates significantly based on our origination volume and the amount of time it takes us to sell the loans we originate.
Our debt financing agreements also contain margin call provisions that, upon notice from the applicable lender at its option, require us to transfer cash or, in some instances, additional assets in an amount sufficient to eliminate any margin deficit. A margin deficit generally will result from any decline in the market value (as determined by the applicable lender) of the assets subject to the related financing agreement relative to the available financing and offsetting hedges. Upon notice from the applicable lender, we generally will be required to satisfy the margin call on the day of such notice or the following business day.
Subsequent to December 31, 2020, we completed our offering of $550.0 million aggregate principal amount of our senior unsecured notes due 2026 (the “Senior Notes”).
The warehouse facilities and other lines of credit require maintenance of certain operating and financial covenants, and the availability of funds under these facilities is subject to, among other conditions, our continued compliance with these covenants. These financial covenants include, but are not limited to, maintaining a certain minimum tangible net worth, minimum liquidity, minimum profitability levels, and ratio of indebtedness to tangible net worth, among others. A breach of these covenants can result in an event of default under these facilities following which the lenders would be able to pursue certain remedies against us. In addition, each of these facilities includes cross-default or cross- acceleration provisions that could result in all facilities terminating if an event of default or acceleration of maturity occurs under any facility.
We were in compliance with all covenants under our warehouse facilities and other lines of credit as of December 31, 2020 and 2019.
Our cash flows for the years ended December 31, 2020 and 2019 are summarized below.
| ||Year Ended December 31,|
|($ in thousands)||2020||2019|
|Net cash used in operating activities||$||(1,335,233)||$||(1,206,693)|
|Net cash used in investing activities||(14,398)||(10,608)|
|Net cash provided by financing activities||1,464,794 ||1,216,788 |
|Net increase (decrease) in Cash and cash equivalents and restricted cash||115,163 ||(513)|
|Cash and cash equivalents and restricted cash at end of period||$||196,893 ||$||81,731 |
Our Cash and cash equivalents and restricted cash increased by $115.2 million for the year ended December 31, 2020 compared to the year ended December 31, 2019.
Our Cash flows from operating activities are primarily influenced by changes in the levels of our inventory of loans held for sale as shown below:
|($ in thousands)||Year Ended December 31,|
|Cash flows from:||2020||2019|
|Mortgage loans held for sale ||$||(725,262)||$||(1,113,232)|
|Gain on loans, net||(1,384,936)||(199,501)|
|Change in fair value of derivative assets||(293,779)||(21,554)|
|Other operating sources||1,068,744 ||127,594 |
|Net cash used in operating activities||$||(1,335,233)||$||(1,206,693)|
Cash used in operating activities increased for the year ended December 31, 2020 compared to the year ended December 31, 2019. The increase in cash used in Gain on loans, net was primarily due to an increase in origination volume. The increase in cash used in Change in fair value of derivative assets was primarily due to increase in our interest rate lock commitment revenue and margin call assets as a result of increased volume and favorable interest rates. Increases were partially offset by a decrease in cash used in Mortgage loans held for sale due to an increase in sales proceeds, Other operating sources primarily due to an increase in Net income, and Deferred income tax due to increases in deferred tax liabilities related to MSRs and derivative assets for the year ended December 31, 2020 compared to the year ended December 31, 2019.
Cash used in investing activities increased for the year ended December 31, 2020 compared to the year ended December 31, 2019. The increase in cash used in investing activities was primarily due to the increase in purchases of IT and other equipment during the year ended December 31, 2020 compared to the year ended December 31, 2019 due to our increase in headcount, partially offset by the cash usage in the year ended December 31, 2019 for business acquisitions.
Our Cash flows from financing activities are primarily influenced by changes in warehouse borrowings as shown below:
|($ in thousands)||Year Ended December 31,|
|Cash flows from:||2020||2019|
|Warehouse borrowings||$||1,527,232 ||$||1,073,946 |
|Other financing sources||62,438 ||142,842 |
|Net cash provided by financing activities||$||1,464,794 ||$||1,216,788 |
Cash provided by financing activities for the year ended December 31, 2020 increased compared to the year ended December 31, 2019. The increase was primarily driven by increases in warehouse borrowings to be utilized for funding increased loan origination volume offset slightly by a decrease in other financing sources for the year ended December 31, 2020 compared to the year ended December 31, 2019 due to decrease in term debt borrowing.
Total shareholder’s equity increased by $517.2 million, or 126.0%, for the year ended December 31, 2020 compared to the year ended December 31, 2019. The increase was primarily driven by Net income of $607.0 million for the year ended December 31, 2020 and was partially offset by a dividend paid to our direct parent at the time, HPLP.
Contractual Obligations and Other Commitments
The following table sets forth certain of our contractual obligations as of December 31, 2020. Refer to “Note 11 - Warehouse Lines of Credit”, “Note 12 – Term Debt and Other Borrowings, net”, and “Note 13 - Commitments and Contingencies” of the notes to our consolidated financial statements for further discussion of contractual obligations, commercial commitments, and other contingencies, including legal contingencies.
|($ in thousands)||Total|
Term debt (a)
|$||409,772 ||— ||$||409,772 ||— ||— |
|Interest on long term debt||24,658 ||15,521||9,137 ||— ||— |
Advance facilities (b)
|43,200 ||43,200 ||— ||— ||— |
Warehouse facilities (b)
|3,005,415 ||3,005,415 ||— ||— ||— |
Operating line of credit (b)
|1,000 ||1,000 ||— ||— ||— |
|Mortgage-backed securities forward trades||12,163,797 ||12,163,797 ||— ||— ||— |
|Interest rate lock commitments||15,975,628 ||15,975,628 ||— ||— ||— |
Operating Leases (c)
|23,590 ||6,244 ||9,258 ||5,252 ||2,836 |
|Total||$||31,647,060 ||$||31,210,805 ||$||428,167 ||$||5,252 ||$||2,836 |
(a)The rate used to estimate interest was the rate as of December 31, 2020. The rate is based on the LIBOR rate and there has been a significant decline in the rate in 2020 which is reflected above. Term debt is net of debt issuance costs.
(b)Interest expense on advance, warehouse facilities and operating lines of credit is not presented in this table due to the short-term nature of these facilities.
(c)Payments due for our leases of office space and equipment expiring at various dates through 2029. The payments represent future minimum rental payments under the leases having an initial or remaining non-cancelable term in excess of one year.
Repurchase and Indemnification Obligations
In the ordinary course of business, we are exposed to liability with respect to certain representations and warranties that we make to the investors who purchase the loans that we originate. Under certain circumstances, we may be required to repurchase mortgage loans, or indemnify the purchaser of such loans for losses incurred, if there has been a breach of these representations and warranties, or in the case of early payment defaults. In addition, in the event of an early payment default, we are contractually obligated to refund certain premiums paid to us by the investors who purchased the related loan.
Off Balance Sheet Arrangements
Refer to “Note 13 - Commitments and Contingencies” to our consolidated financial statements included elsewhere in this form.
Critical Accounting Policies and Estimates
The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. We have identified certain accounting policies as being critical because they require us to make difficult, subjective or complex judgments about matters that are uncertain. We believe that the judgment, estimates, and assumptions used in the preparation of our consolidated financial statements are appropriate given the factual circumstances at the time. However, actual results could differ, and the use of other assumptions or estimates could result in material differences in our results of operations or financial condition. Our critical accounting policies and estimates are discussed below and relate to fair value measurements, particularly those determined to be Level 2 and Level 3. Refer to “Note 16 - Fair Value Measurements” to our consolidated financial statements.
Mortgage loans held for sale. We have elected to record Mortgage loans held for sale at fair value. The majority of our Mortgage loans held for sale at fair value are saleable into the secondary mortgage markets, and their fair values are estimated using observable quoted market or contracted prices or market price equivalents, which would be used by other market participants. These saleable loans are considered Level 2. A smaller portion of our Mortgage loans held for sale consist of loans repurchased from the GSEs that have subsequently been deemed to be non-saleable to GSEs when certain representations and warranties are breached. These repurchased loans are considered Level 3 at collateral value less estimated costs to sell the properties.
Changes in economic or other relevant conditions could cause our assumptions with respect to market prices of securities backed by similar mortgage loans to be different than our estimates. Increases in the market yields of similar mortgage loans result in a lower Mortgage loans held for sale at fair value.
Derivative financial instruments. We enter into IRLCs, forward commitments to sell mortgage-backed securities, and MSR-related derivatives which are considered derivative financial instruments. Our derivative financial instruments are accounted for as free-standing derivatives and are included in the consolidated balance sheets at fair value.
The Company estimates the fair value of IRLCs based on the value of the underlying mortgage loan, quoted MBS prices and estimates of the fair value of the MSRs and the probability that the mortgage loan will fund within the terms of the interest rate lock commitment. The Company estimates the fair value of forward sales commitments based on quoted MBS prices. The weighted average pull-through rate for IRLCs was 73% and 82% for the years ended December 31, 2020 and 2019, respectively. Given the significant and unobservable nature of the pull-through factor, IRLCs are classified as Level 3.
MSRs. We have elected to record MSRs at fair value. MSRs are recognized as a component of Gain on loans, net when loans are sold, and the associated servicing rights are retained. Subsequent changes in fair value of MSRs due to the collection and realization of cash flows and changes in model inputs and assumptions are recognized in current period earnings and included as a separate line item in the consolidated statements of operations.
We use a discounted cash flow approach to estimate the fair value of MSRs. This approach consists of projecting servicing cash flows discounted at a rate that management believes market participants would use in their determinations of value.
Changes in economic and other relevant conditions could cause our assumptions, such as with respect to the prepayment speeds, to be different than our estimates. The key assumptions used to estimate the fair value of MSRs are prepayment speeds and the discount rate. Increases in prepayment speeds generally have an adverse effect on the value of MSRs as the underlying loans prepay faster, which causes accelerated MSR amortization. Increases in the discount rate result in a lower MSR value and decreases in the discount rate result in a higher MSR value. Refer to “Note 5 - Mortgage Servicing Rights” to our consolidated financial statements.
New Accounting Pronouncements Not Yet Effective
Refer to “Note 2 - Basis of Presentation and Significant Accounting Policies” to our consolidated financial statements for a discussion of recent accounting developments and the expected effect on the Company.
Item 7A. Qualitative and Quantitative Disclosure about Market Risk
In the normal course of business, as a mortgage lender, we are subject to a variety of risks which can affect our operations and profitability. We broadly define these areas of risk as interest rate risk, credit risk and risk related to the COVID-19 pandemic.
Interest Rate and Fair Value Risk
Interest rate risk is highly sensitive to many factors, including governmental monetary and tax policies, domestic and international economic and political considerations, and other factors beyond our control. A change in interest rates may impact our IRLCs, MSRs valuations, and origination volume and associated revenue. Our operating results will depend, in part, on differences between the income from our investments and our financing costs. Presently our debt financing is based on a floating interest rate calculated on a fixed spread over the relevant index, as determined by the particular financing arrangement. Therefore, we engage in interest rate risk management activities in an effort to reduce the variability of income caused by changes in interest rates. To manage this price risk resulting from interest rate risk, we use business hedges and derivative financial instruments acquired with the intention of mitigating the risk associated with changes in interest rates that would be unfavorable to our IRLCs and MSRs. We do not use derivative financial instruments for purposes other than in support of our risk management activities.
Outstanding IRLCs are subject to interest rate risk and related price risk during the period from the date of the commitment through the loan funding date or expiration date as the interest rate on the loan is set prior to funding. This risk is present in periods where changes in short-term interest rates result in mortgage loans being originated with terms that provide a smaller interest rate spread above the financing terms of our warehouse facilities, which can negatively impact our net interest income. The loan commitments generally range between 30 and 90 days; however, the borrower is not obligated to obtain the loan. Forward MBS sale commitments or whole loans and options on forward contracts are used to manage the interest rate and price risk.
The fair value of MSRs is driven primarily by interest rates, which impact the likelihood of loan prepayments and refinancing. In periods of rising interest rates, the fair value of the MSRs generally increases as prepayments decrease, and therefore the estimated life of the MSRs and related expected cash flows increase. In a declining interest rate environment, the fair value of MSRs generally decreases as prepayments increase and therefore the estimated life of the MSRs and related cash flows decrease. We manage the impact that the volatility associated with changes in fair value of its MSRs has on its earnings with a variety of derivative instruments. The amount and composition of derivatives used to economically hedge the value of MSRs will depend on our exposure to loss of value on the MSRs, the expected cost of the derivatives, expected liquidity needs, and the expected increase to earnings generated by the origination of new loans resulting from the decline in interest rates. The increase in originations serves as a business hedge of the MSRs, providing a benefit when increased borrower refinancing activity results in higher production volumes, which would partially offset declines in the value of the MSRs thereby reducing the need to use derivatives. The benefit of this business hedge depends on the decline in interest rates required to create an incentive for borrowers to refinance their mortgage loans and lower their interest rates; however, this benefit may not be realized under certain circumstances regardless of the change in interest rates. Refer to “Note 5 - Mortgage Servicing Rights” in the consolidated financial statements.
We are subject to credit risk, which is the risk of default that results from a borrower's inability or unwillingness to make contractually required mortgage payments. We attempt to mitigate this risk through stringent underwriting standards, monitoring pledged collateral and other in-house monitoring procedures. As of December 31, 2020, the average credit score for loans in our MSR portfolio was 740. We are also subject to credit risk with regard to the counterparties involved in the derivative transactions and revenues from servicing regarding loans sold on the secondary market.
For loans that were repurchased or not sold in the secondary market, we are subject to credit risk to the extent a borrower defaults and the proceeds upon ultimate foreclosure and liquidation of the property are insufficient to cover the amount of the mortgage plus expenses incurred. We believe that this risk is mitigated through the implementation of stringent underwriting standards, strong fraud detection tools, and technology designed to comply with applicable laws and our standards.
Our credit exposure for amounts due from investors and derivative related receivables is mitigated since our policy is to sell mortgages only to highly reputable and financially sound financial institutions. Presently, almost all of the newly originated conventional conforming loans that we acquire from mortgage lenders through our correspondent production activities or our consumer direct activities qualify under existing standards for inclusion in mortgage securities backed by the GSEs and Ginnie Mae or for purchase by a GSE directly through its cash window. This results in the assumption of credit risk by the GSEs and Ginnie Mae on loans included in such mortgage securities in exchange for our payment of guarantee fees, our retention of such credit risk through structured transactions that lower our guarantee fees, and the ability to avoid certain loan inventory finance costs through streamlined loan funding and sale procedures to the agencies and other third-party purchasers.
Risk related to the COVID-19 pandemic
The COVID-19 pandemic has had, and continues to have, a significant impact on the national economy and the communities in which we operate. While the pandemic’s effect on the long-term macroeconomic environment has yet to be fully determined, and while the pandemic has not materially affected our results of operations, financial position or liquidity, if it continues for further months or years, the pandemic and governmental programs created as a response to the pandemic, could affect the core aspects of our business, including the origination of mortgages, our servicing operations, our liquidity and our employees. Such effects, if they continue for a prolonged period, may have a material adverse effect on our business and results of operations. For additional discussion on these risks please refer to “Risk Factors – Risks Related to Our Business – General Business Risks.” The current outbreak of COVID-19 has caused, and will continue to cause, disruption to our business, liquidity, financial condition and results of operations. Further, the spread of the COVID-19 outbreak has caused severe disruptions in the U.S. and global economy and financial markets and could potentially create widespread business continuity issues of an as yet unknown magnitude and duration.
Item 8. Financial Statements and Supplementary Data
Index to Consolidated Financial Statements and Supplementary Data
Report of Independent Registered Public Accounting Firm
Shareholders and Board of Directors
Home Point Capital Inc. & Subsidiaries
Ann Arbor, Michigan
Opinion on the Consolidated Financial Statements
We have audited the accompanying consolidated balance sheets of Home Point Capital Inc. & Subsidiaries (the “Company”) as of December 31, 2020 and 2019, the related consolidated statements of operations, shareholders’ equity, and cash flows for each of the two years in the period ended December 31, 2020, and the related notes (collectively referred to as the “consolidated financial statements”). In our opinion, the consolidated financial statements present fairly, in all material respects, the financial position of the Company at December 31, 2020 and 2019, and the results of its operations and its cash flows for each of the two years in the period ended December 31, 2020, in conformity with accounting principles generally accepted in the United States of America.
Change in Accounting Principle
As discussed in Note 1 to the consolidated financial statements, effective on January 1, 2020, the Company changed its method of accounting for leases due to the adoption of Accounting Standards Codification Topic 842, Leases.
Basis for Opinion
These consolidated financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on the Company’s consolidated financial statements based on our audits. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) (“PCAOB”) and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement, whether due to error or fraud. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. As part of our audits we are required to obtain an understanding of internal control over financial reporting but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion.
Our audits included performing procedures to assess the risks of material misstatement of the consolidated financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the consolidated financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the consolidated financial statements. We believe that our audits provide a reasonable basis for our opinion.
Critical Audit Matters
The critical audit matter communicated below is a matter arising from the current period audit of the consolidated financial statements that was communicated or required to be communicated to the audit committee and that: (1) relates to accounts or disclosures that are material to the consolidated financial statements and (2) involved our especially challenging, subjective, or complex judgments. The communication of critical audit matter does not alter in any way our opinion on the consolidated financial statements, taken as a whole, and we are not, by communicating the critical audit matter below, providing separate opinions on the critical audit matter or on the accounts or disclosures to which it relates.
Fair Value of Mortgage Servicing Rights
As described in Notes 2, 5 and 16 to the Company's consolidated financial statements, mortgage servicing rights are recognized as assets on the consolidated balance sheets when loans are sold and the associated servicing rights are retained. The Company has elected the fair value option for mortgage servicing rights, with a balance of $748,457 million as of December 31, 2020. The Company determines the fair value of mortgage servicing rights by estimating the fair value of the future cash flows associated with the mortgage loans being serviced. The key assumptions used in measuring the fair value of mortgage servicing rights are prepayment speeds and discount rates.
We identified the determination of the prepayment speeds and discount rate assumptions in the valuation of mortgage servicing rights as the critical audit matter. Auditing these significant assumptions involved especially challenging and subjective auditor judgment due to the nature and extent of audit effort required to address these matters, including specialized skill and knowledge needed.
The primary procedures we performed to address this critical audit matter included:
•Testing the completeness and accuracy of the mortgage loan level data utilized in the valuation of the mortgage servicing rights.
•Utilizing professionals with specialized skill and knowledge in valuation to assist in testing and evaluating the reasonableness of prepayment speeds and discount rate assumptions used in the valuation of mortgage servicing rights, including utilizing information obtained from market participants and recent market activity on other mortgage servicing right transactions to test management’s assumptions and identify potential sources of contrary information.
/s/ BDO USA, LLP
We have served as the Company's auditor since 2017.
BDO USA, LLP
March 12, 2021
HOME POINT CAPITAL INC. & SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
AS OF DECEMBER 31, 2020 AND 2019
(in thousands, except share and per share amounts)
|Cash and cash equivalents||$||165,230 ||$||30,630 |
|Restricted cash||31,663 ||51,101 |
|Cash and cash equivalents and Restricted cash||196,893 ||81,731 |
|Mortgage loans held for sale (at fair value)||3,301,694 ||1,554,230 |
|Mortgage servicing rights (at fair value)||748,457 ||575,035 |
|Property and equipment, net||21,710 ||12,051 |
|Accounts receivable, net||152,845 ||57,872 |
|Derivative assets||334,323 ||40,544 |
|Goodwill and intangibles||10,789 ||11,935 |
|GNMA loans eligible for repurchase||2,524,240 ||499,207 |
|Other assets||87,622 ||76,162 |
|Total assets||$||7,378,573 ||$||2,908,767 |
|Liabilities and Shareholders’ Equity:|
|Warehouse lines of credit||$||3,005,415 ||$||1,478,183 |
|Term debt and other borrowings, net||454,022 ||424,958 |
|Accounts payable and accrued expenses||167,532 ||39,739 |
|GNMA loans eligible for repurchase||2,524,240 ||499,207 |
|Other liabilities||299,890 ||56,368 |
|Total liabilities||6,451,099 ||2,498,455 |
|Commitments and Contingencies (Note 13)|
|Preferred stock (Authorized shares: 250,000,000; none issued and outstanding, par value $0.0000000072 per share)||— ||— |
|Common stock (Authorized shares: 1,000,000,000; 138,860,103 shares issued and outstanding, par value $0.0000000072 per share)||— ||— |
|Additional paid-in capital||519,510 ||454,861 |
|Retained earnings (accumulated deficit)||407,964 ||(44,549)|
|Total shareholders' equity||927,474 ||410,312 |
|Total liabilities and shareholders' equity||$||7,378,573 ||$||2,908,767 |
See accompanying notes to the consolidated financial statements.
HOME POINT CAPITAL INC. & SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE YEARS ENDED DECEMBER 31, 2020 AND 2019
(in thousands, except share and per share amounts)
|Years Ended December 31,|
|Gain on loans, net||$||1,384,936 ||$||199,501 |
|Loan fee income||96,118 ||32,112 |
|Interest income||60,181 ||51,801 |
|Interest expense, net||(9,398)||(6,141)|
|Loan servicing fees||188,232 ||144,228 |
|Change in fair value of mortgage servicing rights||(285,252)||(173,134)|
|Other income||2,706 ||3,159 |
|Total revenue, net||1,377,342 ||199,725 |
|Compensation and benefits||403,246 ||156,197 |
|Loan expense||45,408 ||15,626 |
|Loan servicing expense||30,786 ||20,924 |
|Occupancy and equipment||25,985 ||16,768 |
|General and administrative||52,459 ||21,407 |
|Depreciation and amortization||5,531 ||5,918 |
|Other expenses||25,264 ||4,296 |
|Total expenses||588,679 ||241,136 |
|Income (loss) before income tax||788,663 ||(41,411)|
|Income tax expense (benefit) ||198,554 ||(9,500)|
|Income from equity method investments||16,894 ||2,701 |
|Net income (loss)||$||607,003 ||$||(29,210)|
|Earnings (loss) per share:|
|Basic ||$||4.45 ||$||(0.21)|
See accompanying notes to the consolidated financial statements.
HOME POINT CAPITAL INC. & SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY
FOR THE YEARS ENDED DECEMBER 31, 2020 AND 2019
(in thousands, except share amounts)
Paid in Capital
|Balance January 1, 2019||138,860,103 ||$||— ||$||454,110 ||$||(15,339)||$||438,771 |
|Stock based compensation||— ||— ||751 ||— ||751 |
|Net loss||— ||— ||— ||(29,210)||(29,210)|
|Ending balance, December 31, 2019||138,860,103 ||$||— ||$||454,861 ||$||(44,549)||$||410,312 |
|Contributed capital||— ||— ||63,773 ||— ||63,773 |
|Dividends to parent||— ||— ||— ||(154,490)||(154,490)|
|Stock based compensation||— ||— ||876 ||— ||876 |
|Net income||— ||— ||— ||607,003 ||607,003 |
|Ending balance, December 31, 2020||138,860,103 ||$||— ||$||519,510 ||$||407,964 ||$||927,474 |
See accompanying notes to the consolidated financial statements.
HOME POINT CAPITAL INC. & SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE YEARS ENDED DECEMBER 31, 2020 AND 2019
| ||Years Ended December 31,|
|Operating activities:|| || |
|Net income (loss)||$||607,003 ||$||(29,210)|
|Adjustments to reconcile net income (loss) to cash used in operating |
|Depreciation||4,739 ||3,807 |
|Amortization of intangible assets||792 ||2,111 |
|Amortization of debt issuance costs||785 ||5,839 |
|Gain on loans, net||(1,384,936)||(199,501)|
|Provision for representation and warranty reserve||14,116 ||451 |
|Stock based compensation expense||876 ||751 |
|Deferred income tax||194,704 ||(9,144)|
|Gain on equity investment||(16,894)||(2,701)|
|Origination of mortgage loans held for sale||(63,195,254)||(23,116,236)|
|Proceeds on sale and payments from mortgage loans held for sale||62,469,992 ||22,003,004 |
|Change in fair value of mortgage servicing rights||285,252 ||173,134 |
|Change in fair value of mortgage loans held for sale||(95,940)||(33,643)|
|Non-cash lease expense||385 ||— |
|Change in fair value of derivative assets||(293,779)||(21,554)|
|Changes in operating assets and liabilities:|
|Increase in accounts receivable, net||(94,973)||(13,238)|
|Increase in other assets||904 ||188 |
|Increase in accounts payable and accrued expenses||127,793 ||18,071 |
|Increase in other liabilities||39,202 ||11,178 |
|Net cash used in operating activities||(1,335,233)||(1,206,693)|
See accompanying notes to the consolidated financial statements.
HOME POINT CAPITAL INC. & SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE YEARS ENDED DECEMBER 31, 2020 AND 2019
| ||Years Ended December 31,|
|Purchases of property and equipment, net of disposals||(14,398)||(5,690)|
|Business acquisitions, net of cash acquired||— ||(4,923)|
|Equity method investment||— ||5 |