Summary of FLAGSTAR BANCORP INC

Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
Where we say "we," "us," or "our," we usually mean Flagstar Bancorp, Inc. In some cases, a reference to "we," "us," or "our" will include our wholly-owned subsidiary Flagstar Bank, FSB, and Flagstar Capital Markets Corporation, its wholly-owned subsidiary, which we collectively refer to as the "Bank." General
Operations of the Bank are categorized into two business segments: banking and home lending. Each segment operates under the same banking charter, but is reported on a segmented basis for financial reporting purposes. For certain financial information concerning the results of operations of our banking and home lending operations, see Note 18 of the Notes to Consolidated Financial Statements, in Item 1, Financial Statements, herein.
Banking Operation. We provide a broad range of banking services to consumers and small businesses in Michigan, Indiana and Georgia. We also gather deposits within these three states and also via the internet. Our banking operation involves the gathering of deposits and investing those deposits in duration-matched assets consisting primarily of mortgage loans originated by our home lending operation. The banking operation holds these loans in its loans held for investment portfolio in order to earn income based on the difference, or "spread," between the interest earned on loans and investments and the interest paid for deposits and other borrowed funds. At September 30, 2009, we operated a network of 176 banking centers and provided banking services to approximately 147,000 customers. During the first nine months of 2009, we opened 3 banking centers, including 1 in Michigan and 2 in Georgia. We also closed 2 banking centers, 1 in Michigan and 1 in Indiana.
On October 2, 2009 we closed an additional 11 banking centers, including 8 in Michigan and 3 in Indiana. All but one of the 11 closed offices were in-store branches, and the impact of the closures will not materially impact our deposit totals. We review the performance of our network of banking centers on an ongoing basis and will continue to evaluate individual locations for their potential to grow and contribute to our profitability.
Home Lending Operation. Our home lending operation originates, acquires, securitizes and sells residential mortgage loans on one-to-four family residences in order to generate transactional income. The home lending operation also services mortgage loans on a fee basis for others and occasionally sells mortgage servicing rights into the secondary market. Funding for our home lending operation is provided primarily by deposits and borrowings obtained by our banking operation.
Critical Accounting Policies
Various elements of our accounting policies, by their nature, are inherently subject to estimation techniques, valuation assumptions and other subjective assessments. In particular, we have identified three policies that, due to the judgment, estimates and assumptions inherent in those policies, are critical to an understanding of our consolidated financial statements. These policies relate to: (a) fair value measurements; (b) the determination of our allowance for loan losses; and (c) the determination of our secondary market reserve. 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, given the sensitivity of our consolidated financial statements to these critical accounting policies, the use of other judgments, estimates and assumptions could result in material differences in our results of operations or financial condition. For further information on our critical accounting policies, please refer to our Annual Report on Form 10-K for the year ended December 31, 2008, which is available on our website, www.flagstar.com, under the Investor Relations section, or on the website of the SEC, at www.sec.gov.

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      Selected Financial Ratios (Dollars in thousands, except share data)

                                                    For the Three Months Ended                 For the Nine Months Ended
                                                          September 30,                              September 30,
                                                    2009                 2008                  2009                  2008

Return on average assets                              (7.60 )%             (1.72 )%              (3.65 )%              (0.50 )%
Return on average equity                            (130.64 )%            (32.15 )%             (67.44 )%             (10.29 )%
Efficiency ratio                                      146.6 %              105.2 %                93.8 %                79.0 %
Equity/assets ratio (average for the
period)                                                5.82 %               5.34 %                5.43 %                4.88 %
Mortgage loans originated or purchased          $ 6,641,674          $ 6,680,450          $ 25,405,969          $ 22,600,324
Other loans originated or purchased             $     5,812          $    34,666          $     57,220          $    301,420
Mortgage loans sold and securitized             $ 7,606,304          $ 6,809,608          $ 25,183,401          $ 22,076,479
Interest rate spread - bank only 1                     1.53 %               1.78 %                1.53 %                1.69 %
Net interest margin - bank only 2                      1.58 %               1.93 %                1.65 %                1.84 %
Interest rate spread - consolidated 1                  1.48 %               1.74 %                1.49 %                1.64 %
Net interest margin - consolidated 2                   1.46 %               1.82 %                1.56 %                1.73 %
Average common shares outstanding                   468,530               78,473               266,781                68,301
Average fully diluted shares outstanding            468,530               78,473               266,781                68,301
Charge-offs to average investment loans
(annualized)                                           3.48 %               0.83 %                3.96 %                0.71 %



                                                September 30,            June 30,            December 31,          September 30
                                                     2009                  2009                  2008                  2008
Equity-to-assets ratio                                  4.50 %                5.57 %                3.33 %                4.78 %
Core capital ratio 3                                    6.39 %                7.19 %                4.95 %                6.29 %
Total risk-based capital ratio 3                       12.06 %               13.67 %                9.10 %               11.10 %
Book value per common share                     $       0.86          $       1.38          $       5.65          $       8.09
Number of common shares outstanding                  468,530               468,530                83,627                83,627
Mortgage loans serviced for others              $ 53,159,885          $ 61,531,058          $ 55,870,207          $ 51,830,707
Capitalized value of mortgage servicing
rights                                                  1.06 %                1.07 %                0.93 %                1.41 %
Ratio of allowance to non-performing
loans                                                   50.0 %                50.4 %                52.1 %                54.1 %
Ratio of allowance to loans held for
investment                                              6.49 %                5.63 %                4.14 %                2.45 %
Ratio of non-performing assets to total
assets                                                  8.41 %                6.64 %                5.97 %                4.33 %
Number of banking centers                                176                   175                   175                   173
Number of home lending centers                            42                    45                   104                   111
Number of salaried employees                           3,220                 3,290                 3,246                 3,291
Number of commissioned employees                         436                   457                   674                   736

1 Interest rate spread is the difference between the annualized average yield earned on average interest-earning assets for the period and the annualized average rate of interest paid on average interest-bearing liabilities for the period.

2 Net interest margin is the annualized effect of the net interest income divided by that period's average interest-earning assets.

3 Based on adjusted total assets for purposes of tangible capital and core capital, and risk-weighted assets for purposes of risk-based capital and total risk based capital. These ratios are applicable to the Bank only.

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Results of Operations
Net Loss
Three Months. Net loss applicable to common stockholders for the three months ended September 30, 2009 was $298.2 million, $(0.64) per share-diluted, a $236.1 million increase from the loss of $62.1 million, $(0.79) per share-diluted, reported in the comparable 2008 period. The overall increase resulted from a $21.4 million decrease in interest income, a $47.7 million increase in non-interest expense, a $35.9 million increase in provision for loan losses, a $148.5 million increase in provision for federal income tax relating to the establishment of a deferred tax valuation allowance, and an increase of $4.6 million preferred stock dividends/accretion, offset by a $12.8 million increase in non-interest income and a $9.2 million decrease to interest expense.
Nine Months. Net loss applicable to common stockholders for the nine months ended September 30, 2009 was $442.2 million, $(1.66) per share-diluted, a $385.3 million increase from the loss of $56.9 million, $(0.83) per share-diluted, reported in the comparable 2008 period. The overall increase resulted from a $60.0 million decrease in interest income, a $219.3 million increase in non-interest expense, a $241.7 million increase in provision for loan losses, an $85.5 million increase in provision for federal income tax relating to the establishment of a deferred tax valuation allowance, and an increase of $12.5 million preferred stock dividends/accretion, offset by a $185.4 million increase in non-interest income and a $48.3 million decrease in interest expense.
Net Interest Income
Three Months. We recorded $47.6 million in net interest income before provision for loan losses for the three months ended September 30, 2009, a 20.4% decrease from $59.8 million recorded for the comparable 2008 period. The decrease reflects a $21.4 million decrease in interest income offset by a $9.2 million decrease in interest expense, primarily as a result of rates paid on deposits that decreased less than the decrease in yields earned on loans and mortgage-backed securities. In addition, in the three months ended September 30, 2009, as compared to the same period in 2008, our average interest-earning assets increased by $0.3 billion and our average interest-paying liabilities increased by $0.4 billion. Additionally, our interest income has been adversely affected by a significant increase in loans in which interest accruals have been discontinued. See Note 7 of the Notes to the Consolidated Financial Statements in Item 1. Financial Statements herein.
Average interest-earning assets as a whole repriced down 69 basis points during the three months ended September 30, 2009 and average interest-bearing liabilities repriced down 43 basis points during the same period, resulting in the decrease in our interest rate spread of 26 basis points to 1.48% for the three months ended September 30, 2009, from 1.74% for the comparable 2008 period. The Company recorded a net interest margin of 1.46% at September 30, 2009 as compared to 1.82% at September 30, 2008. At the Bank level, the net interest margin was 1.58% at September 30, 2009, as compared to 1.93% at September 30, 2008.
Nine Months. We recorded $164.3 million in net interest income before provision for loan losses for the nine months ended September 30, 2009, a 6.6% decrease from $176.0 million recorded for the comparable 2008 period. The decrease reflects a $60.0 million decrease in interest income offset by a $48.3 million decrease in interest expense, primarily as a result of rates paid on deposits that decreased less than the decrease in yields earned on loans and mortgage-backed securities. In addition, in the nine months ended September 30, 2009, as compared to the same period in 2008, our average interest-earning assets increased by $0.4 billion and our average interest-paying liabilities increased by $0.2 billion. Additionally, our interest income has been adversely affected by a significant increase in loans in which interest accruals have been discontinued. See Note 7 of the Notes to the Consolidated Financial Statements in Item 1. Financial Statements herein.

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Average Yields Earned and Rates Paid. The following table presents interest income from average interest-earning assets, expressed in dollars and yields, and interest expense on average interest-bearing liabilities, expressed in dollars and rates at the Company rather than the Bank. Interest income from earning assets includes the amortization of net premiums and net deferred loan origination costs of $1.6 million and $1.9 million for the three months ended September 30, 2009 and 2008, respectively. Interest income from earning assets includes the amortization of net premiums and net deferred loan origination costs of $5.1 million and $8.5 million for the nine months ended September 30, 2009 and 2008, respectively. Non-accruing loans were included in the average loan amounts outstanding.

                                                                  Three Months Ended September 30,
                                                    2009                                                    2008
                                Average                            Annualized           Average                            Annualized
                                Balance           Interest         Yield/Rate           Balance           Interest         Yield/Rate
                                                                       (Dollars in thousands)
Interest-earning assets:
Loans available for sale      $  2,369,451        $  31,387               5.30 %      $  2,196,230        $  40,063               7.14 %
Loans held for
investment                       8,224,796          105,462               5.12 %         9,403,920          132,100               5.52 %
Securities classified as
available for sale or
trading                          2,315,354           29,738               5.11 %           981,804           14,563               5.90 %
Interest-bearing
deposits                           210,874              517               0.97 %           258,122            1,416               2.18 %
Other                               40,053                3               0.03 %            30,427              395               5.16 %

Total interest-earning
assets                          13,160,528          167,107               5.07 %        12,870,503          188,537               5.76 %
Other assets                     2,524,962                                               1,598,395

Total assets                  $ 15,685,490                                            $ 14,468,898

Interest-bearing
liabilities
Deposits                      $  7,727,461           58,352               3.00 %         6,640,749           60,940               3.65 %
FHLB advances                    5,081,739           56,116               4.38 %         5,723,217           62,348               4.33 %
Security repurchase
agreements                         108,000            1,178               4.33 %           108,000            1,179               4.34 %
Other                              300,183            3,867               5.11 %           322,498            4,229               6.00 %

Total interest-bearing
liabilities                     13,217,383          119,513               3.59 %        12,794,464          128,696               4.02 %
Other liabilities                1,555,048                                                 901,824
Stockholders' equity               913,059                                                 772,610

Total liabilities and
stockholders' equity          $ 15,685,490                                            $ 14,468,898

Net interest-earning
assets                        $    (56,855 )                                          $     76,039

Net interest income                               $  47,594                                               $  59,841

Interest rate spread 1                                                    1.48 %                                                  1.74 %

Net interest margin 2                                                     1.46 %                                                  1.82 %

Ratio of average
interest-earning assets
to average
interest-bearing
liabilities                                                                100 %                                                   101 %

2 Net interest margin is the annualized effect of the net interest income divided by that period's average interest-earning assets.

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                                                                  Nine Months Ended September 30,
                                                    2009                                                    2008
                                Average                            Annualized           Average                            Annualized
                                Balance           Interest         Yield/Rate           Balance           Interest         Yield/Rate
                                                                       (Dollars in thousands)
Interest-earning assets:
Loans available for sale      $  2,916,769        $ 112,831               5.16 %      $  2,761,351        $ 141,551               6.74 %
Loans held for
investment                       8,662,589          339,402               5.23 %         8,978,992          384,488               5.65 %
Mortgage-backed
securities held to
Maturity                                 -                -                  -             400,169           15,576               5.20 %
Securities classified as
available for sale or
trading                          2,181,697           85,873               5.26 %         1,185,921           51,325               5.78 %
Interest-bearing
deposits                           223,324            1,799               1.08 %           254,227            5,561               2.92 %
Other                               37,765               28               0.10 %            28,907            1,453               6.71 %

Total interest-earning
assets                          14,022,144          539,933               5.14 %        13,609,567          599,954               5.82 %
Other assets                     2,144,571                                               1,528,888

Total assets                  $ 16,166,715                                            $ 15,138,455

Interest-bearing
liabilities
Deposits                      $  8,167,764          192,248               3.15 %      $  7,153,942          215,807               4.03 %
FHLB advances                    5,236,429          170,210               4.35 %         5,917,985          190,168               4.29 %
Security repurchase
agreements                         108,000            3,497               4.33 %           184,873            5,541               4.00 %
Other                              266,212            9,638               4.84 %           277,308           12,400               6.30 %

Total interest-bearing
liabilities                     13,778,405          375,593               3.65 %        13,534,108          423,916               4.18 %
Other liabilities                1,509,696                                                 866,208
Stockholders' equity               878,614                                                 738,139

Total liabilities and
stockholders' equity          $ 16,166,715                                            $ 15,138,455

Net interest-earning
assets                        $    243,739                                            $     75,459

Net interest income                               $ 164,340                                               $ 176,038

Interest rate spread 1                                                    1.49 %                                                  1.64 %

Net interest margin 2                                                     1.56 %                                                  1.73 %

Ratio of average
interest-earning assets
to average
interest-bearing
liabilities                                                                102 %                                                   101 %

2 Net interest margin is the annualized effect of the net interest income divided by that period's average interest-earning assets.

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Rate/Volume Analysis. The following table presents the dollar amount of changes in interest income and interest expense for the components of interest-earning assets and interest-bearing liabilities, which are presented in the preceding table. The table below distinguishes between the changes related to average outstanding balances (changes in volume while holding the initial average rate constant) and the changes related to average interest rates (changes in average rates while holding the initial average balance constant). Changes attributable to both a change in volume and a change in rates are included as changes in rate.

                                                                   Three Months Ended September 30,
                                                                           2009 Versus 2008
                                                                     Increase (Decrease) due to:
                                                               Rate              Volume            Total
                                                                            (In thousands)
Interest-earning assets:
Loans available for sale                                    $   (11,768 )       $   3,092        $  (8,676 )
Loans held for investment                                       (10,366 )         (16,272 )        (26,638 )
Securities classified as available for sale or trading           (4,495 )          19,670           15,175
Interest-earning deposits                                          (642 )            (257 )           (899 )
Other                                                              (516 )             124             (392 )

Total                                                           (27,787 )           6,357          (21,430 )

Interest-bearing liabilities:
Deposits                                                        (12,532 )           9,944           (2,588 )
FHLB advances                                                       712            (6,944 )         (6,232 )
Security repurchase agreements                                        -                (1 )             (1 )
Other                                                               (27 )            (335 )           (362 )

Total                                                           (11,847 )           2,664           (9,183 )

Change in net interest income                               $   (15,940 )       $   3,693        $ (12,247 )




                                                                   Nine Months Ended September 30,
                                                                           2009 Versus 2008
                                                                     Increase (Decrease) due to:
                                                               Rate              Volume            Total
                                                                            (In thousands)
Interest-earning assets:
Loans available for sale                                    $   (36,577 )       $   7,856        $ (28,721 )
Loans held for investment                                       (31,678 )         (13,407 )        (45,085 )
Mortgage-backed securities-held to maturity                           -           (15,576 )        (15,576 )
Securities classified as available for sale or trading           (8,618 )          43,166           34,548
Interest-earning deposits                                        (3,085 )            (677 )         (3,762 )
Other                                                            (1,871 )             446           (1,425 )

Total                                                           (81,829 )          21,808          (60,021 )

Interest-bearing liabilities:
Deposits                                                        (54,201 )          30,642          (23,559 )
FHLB advances                                                     1,971           (21,929 )        (19,958 )
Security repurchase agreements                                      264            (2,308 )         (2,044 )
Other                                                            (2,238 )            (524 )         (2,762 )

Total                                                           (54,204 )           5,881          (48,323 )

Change in net interest income                               $   (27,625 )       $  15,927        $ (11,698 )

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Provision for Loan Losses
Three Months. During the three months ended September 30, 2009, we recorded a provision for loan losses of $125.5 million as compared to $89.6 million recorded during the same period in 2008. The provisions reflect our estimates to maintain the allowance for loan losses at a level management believes is appropriate to cover probable losses inherent in the portfolio and had the effect of increasing our allowance for loan losses by $54.0 million. Net charge-offs increased in the 2009 period to $71.5 million, compared to $19.6 million for the same period in 2008, and as a percentage of investment loans, increased to an annualized 3.48% from 0.83%. See "Analysis of Items on Statement of Financial Condition- Assets- Allowance for Loan Losses," below, for further information.
Nine Months. During the nine months ended September 30, 2009, we recorded a provision for loan losses of $409.4 million as compared to $167.7 million recorded during the same period in 2008. The provisions reflect our estimates to maintain the allowance for loan losses at a level management believes is . . .