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WAC > SEC Filings for WAC > Form 10-K on 18-Mar-2013All Recent SEC Filings

Show all filings for WALTER INVESTMENT MANAGEMENT CORP | Request a Trial to NEW EDGAR Online Pro

Form 10-K for WALTER INVESTMENT MANAGEMENT CORP


18-Mar-2013

Annual Report


ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following discussion should be read in conjunction with the consolidated financial statements and notes thereto appearing elsewhere in this Annual Report on Form 10-K and the information set forth under Item 6. Selected Financial Data. This discussion contains a number of forward-looking statements, all of which are based on our current expectations and all of which could be affected by uncertainties and risks. Our actual results may differ materially from the results contemplated in these forward-looking statements as a result of many factors including, but not limited to, those described in "Risk Factors" under Item 1A. Historical results and trends which might appear should not be taken as indicative of future operations, particularly in light of our recent acquisitions of the ResCap assets and originations and capital markets groups in January 2013, RMS in November 2012 and Green Tree in July 2011 as discussed below.

The Company

Walter Investment Management Corp. and its subsidiaries, which may also be referred to as Walter Investment, the Company, we, our and us, is a full-service, fee-based provider to the residential mortgage industry. Our primary business provides value-added specialty servicing to the forward residential loan market across several product types including agency, non-agency, first and second lien and manufactured housing loans. Our specialty servicing business focuses on credit-sensitive residential mortgages. In addition to the forward loan servicing business, we have a leading franchise in the reverse mortgage sector which provides a full suite of services including loan servicing, loan origination, asset management and related technology. We operate several other related businesses which include a mortgage portfolio of credit-challenged, non-conforming residential loans, an insurance agency serving residential loan customers, and with the acquisition of the ResCap originations business in 2013, a fully integrated loan origination platform that primarily focuses on retention and recapture activities (Consumer Direct channel) for our servicing portfolio but also maintains sizable operations in the Retail and Correspondent lending channels. We operate throughout the United States, or U.S.

Executive Summary

For the years ended December 31, 2012 and 2011, we reported net loss of $22.1 million, or $0.73 per diluted share, and $66.4 million, or $2.41 per diluted share, respectively. The decline in net loss of $44.3 million during the year ended December 31, 2012 as compared to the prior year was due primarily to a $62.7 million charge to income tax expense in 2011 for the impact of our loss of REIT qualification. In addition, we recorded a $30.1 million loss on extinguishment of debt, net of tax, in connection with the repayment and termination of our second lien term loan and the refinancing of our first lien term loan facility and revolver during 2012. This amount was partially offset by fair value gains of $14.5 million primarily relating to assets and liabilities of Green Tree and RMS which are accounted for under the fair value option.

We recognized core earnings before income taxes of $134.1 million for the year ended December 31, 2012 in comparison to $67.0 million for the year ended December 31, 2011. The increase in core earnings before income taxes of $67.1 million was primarily attributable to an increase in total revenues from our Servicing, Insurance and ARM reporting segments of $198.4 million, $28.9 million and $24.7 million, respectively, offset by increases in total salaries and benefits and general and administrative expenses, excluding share-based compensation expense of $119.8 million, $4.2 million and $13.0 million, respectively, due to the acquisition of Green Tree on July 1, 2011 as a full twelve months of operations were included in the year ended December 31, 2012 compared to six months of operations for the year ended December 31, 2011. This net increase of $115.1 million was partially offset by an increase in interest expense on corporate debt of $35.1 million due to the debt


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financing used to partially fund the acquisition of Green Tree and the inclusion of twelve months of interest expense on corporate debt in the year ended December 31, 2012 compared to six months for the year ended December 31, 2011, as well as increases in depreciation and amortization expense and the provision for loan losses of $8.8 million and $7.3 million, respectively. The increase in depreciation and amortization expense was due primarily to the inclusion of twelve months of depreciation and amortization expense for the year ended December 31, 2012 compared to six months for the year ended December 31, 2011 as a result of the acquisition of Green Tree. The increase in the provision for loan losses was due to unfavorable trends in severity rates and increasing delinquencies. Core earnings before income taxes when compared to our net loss before income taxes reflects the following key adjustments: (1) step-up depreciation and amortization, or depreciation and amortization expense related to the increase in basis recognized on assets acquired with Green Tree and RMS,
(2) losses on extinguishment of debt, (3) share-based compensation expense,
(4) transaction and integration-related costs, (5) non-cash interest expense and, (6) the net non-cash fair value adjustments related to the reverse mortgage business and the Non-Residual Trusts. For a reconciliation of our consolidated income (loss) before income taxes under accounting principles generally accepted in the U.S., or GAAP, to our core earnings before income taxes, refer to the Business Segment Results section.

Adjusted Earnings Before Interest, Taxes, Depreciation and Amortization, or Adjusted EBITDA, was $241.7 million for the year ended December 31, 2012 in comparison to $123.5 million for the year ended December 31, 2011. The increase in Adjusted EBITDA of $118.2 million is primarily attributable to the increases in revenues less salaries and benefits and general and administrative expenses above of $115.1 million. Adjusted EBITDA when compared to our consolidated loss before income taxes reflects the adjustments noted above for core earnings before income taxes as well as the following key adjustments: (1) total depreciation and amortization expense including step-up depreciation and amortization noted as a core earnings adjustment above, (2) interest expense on our corporate debt, and (3) non-cash interest income. For a reconciliation of our consolidated income before income taxes under GAAP to our Adjusted EBIDTA, refer to the Business Segment Results section.

We generated $69.6 million in cash flow from operating activities during the year ended December 31, 2012 and finished the year with $442.1 million in cash and cash equivalents. We also had $124.7 million in funds available under our secured revolving credit facility at December 31, 2012.

We manage our Company in five primary reportable segments: Servicing; Asset Receivables Management, or ARM; Insurance; Loans and Residuals; and Reverse Mortgage. Refer to the Business Segment Results section for a presentation and discussion of our financial results by business segment. A description of the business conducted by each of these segments and related key financial highlights are provided below:

Servicing - Our Servicing business segment consists of operations that perform servicing for third-party investors in forward residential mortgages, manufactured housing and consumer installment loans and contracts, as well as for the Loans and Residuals segment and for the Non-Residual Trusts, which is reported in the Other segment. Our Servicing segment recognized $292.9 million in contractual servicing fees, $64.4 million in incentive and performance fees and $38.6 million in ancillary and other fees during the year ended December 31, 2012.

ARM - Our ARM business segment performs collections of post charge-off deficiency balances on behalf of securitization trusts and third-party asset owners. Asset recovery revenue was $38.9 million for the year ended December 31, 2012.

Insurance - Our Insurance business segment provides voluntary and lender-placed hazard insurance for residential loans, as well as other ancillary products, through our insurance agency for a commission. Net written premiums were $168.7 million for the year ended December 31, 2012, which included lender-placed activity of $87.1 million and voluntary activity of $81.6 million for the year ended December 31, 2012. Total insurance revenue was $73.2 million for the year ended December 31, 2012.

Loans and Residuals - Our Loans and Residuals business segment consists of the assets and liabilities of the Residual Trusts, as well as our unencumbered residential loan portfolio and real estate owned, all of which are associated with forward loans. Our net interest margin was 3.72% for the year ended December 31, 2012, down 83 basis points from the year ended December 31, 2011 due primarily to the


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decline in yield in the loan portfolio resulting from an increase in delinquent loans as well as the monetization of assets completed during the second quarter in 2011 in order to fund the acquisition of Green Tree. Total delinquent loans have increased to 7.01% at December 31, 2012 from 5.73% at December 31, 2011. The number of real estate owned properties has declined to 842 units at December 31, 2012, a reduction of 25 units from December 31, 2011.

Reverse Mortgage - Our Reverse Mortgage business segment, which was formed as a result of the acquisition of RMS, includes originations, aggregation and securitization activities and operations that perform servicing for third-party investors in reverse mortgage loans and other ancillary services for the reverse mortgage market. The Reverse Mortgage business also includes a mortgage portfolio of Home Equity Conversion Mortgages, or HECM, reverse mortgages. Our Reverse Mortgage business segment serviced 78,000 accounts with an unpaid principal balance of $12.9 billion at December 31, 2012 and recognized $5.1 million in servicing revenue, as well as $7.3 million in net fair value gains on HECM reverse mortgage loans and the HMBS related obligations, since the acquisition of RMS through the end of 2012.

Acquisitions

RMS

On November 1, 2012, we acquired 100% of the outstanding stock of RMS. Based in Spring, Texas, RMS provides a full suite of services to the reverse mortgage sector, including servicing, sub-servicing, loan origination and securitization, and related technology. The purchase price of $136.3 million for the acquisition included cash of $95.0 million and common stock with a fair value of $41.3 million. The cash portion of the acquisition was partially funded by our recent common stock offering in October of 2012. The acquisition was accounted for under the acquisition method and accordingly, the assets acquired and liabilities assumed were recorded at their estimated fair values. We acquired net assets with an estimated fair value of $136.3 million, which included the recognition of estimates of goodwill of $101.2 million and identifiable intangible assets of $20.8 million. The estimated fair values of the assets acquired and liabilities assumed from the RMS acquisition are presented in the table below:

                                                       Amount
                 Assets
                 Cash                                $    19,683
                 Restricted cash                           1,401
                 Residential loans                     5,331,989
                 Receivables                              11,832
                 Servicer and protective advances         17,615
                 Servicing rights                         15,916
                 Goodwill                                101,199
                 Intangible assets                        20,800
                 Premises and equipment                   15,633
                 Deferred tax asset                       19,052
                 Other assets                             13,245

                 Total assets acquired                 5,568,365

                 Liabilities
                 Payables and accrued liabilities         29,357
                 Debt                                    148,431
                 HMBS related obligations              5,254,231

                 Total liabilities assumed             5,432,019

                 Fair value of net assets acquired   $   136,346


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We have recently revised our fair value methodology for the HMBS related obligations (formerly known as Liability to GNMA Trusts) from what has been previously reported in public filings. We had defined the fair value unit of account as the obligation to pass through Federal Housing Administration, or FHA, cash flows under chapter 35 of the Government National Mortgage Association, or GNMA, guide. We previously estimated that obligation to be the fair value of the cash flows that a market participant would expect to pay out associated with the defined unit of account which consists of an obligation to pass through cash flows on a non-recourse basis from FHA insured HECM loans to the GNMA pools, as well as any cash flows from ongoing issuer obligations. We recently changed the fair value unit of account to a GNMA HMBS bond security. As a result of this recent change, the fair value of HMBS related obligations is the fair value of similar HMBS bond securities. The result of this recent change is to increase the fair value of the HMBS related obligations with an offsetting increase to goodwill in the preliminary purchase price allocation. The increase to the fair value of the HMBS related obligations and the resulting increase to goodwill over previously reported amounts primarily represents, among other things, the fair value of the market liquidity as a result of the GNMA HECM Mortgage-Backed Securities Program, lower yield requirements as a result of the GNMA guarantee, as well as the profit margin associated with converting the HECM loans to securities. For further information refer to the Transfer of Financial Assets section of Note 2 in the Notes to Consolidated Financial Statements.

In connection with the RMS acquisition, we transfer HECM reverse mortgage loans to the GNMA securitization pools. We account for the transfer of the HECM reverse mortgage loans to the GNMA securitization pools as a secured borrowing. As such, the HECM reverse mortgage loans are recognized as an asset and classified as residential loans with an offsetting HMBS related obligation included in the consolidated balance sheet. We have elected the fair value option for HECM reverse mortgage loans and the HMBS related obligations.

As an approved issuer of GNMA HMBS we assume certain obligations related to each security we issue. The most significant obligation is the requirement to purchase loans out of the HMBS pools once they reach certain limits as established by the FHA. Performing repurchased loans are defined as those repurchased loans that do not have any event of default and are able to be conveyed to the Department of Housing and Urban Development, or HUD. Nonperforming repurchased loans are generally liquidated in accordance with program requirements.

S1L

On December 31, 2012, in connection with the execution of a stock purchase agreement, we agreed to acquire all of the outstanding shares of S1L. Based in San Diego, California, S1L is a retail and wholesale reverse loan originator. S1L has a long-standing relationship with RMS, as S1L has been delivering loans using RMS's technology and RMS has acquired a significant amount of S1L's reverse origination production during recent years. We obtained effective control over S1L through an economic closing on December 31, 2012, with the legal closing to occur no later than April 30, 2013. The purchase price of $31.0 million consists of cash of $20.0 million that was paid on December 31, 2012 and up to an additional $11.0 million in contingent earn out to be paid upon the achievement by S1L of certain designated performance targets over the next twelve months. The cash payment made on December 31, 2012 was funded by cash on hand. The economic closing required acquisition method accounting in accordance with the authoritative accounting guidance for business combinations. Accordingly, the assets acquired and liabilities assumed were recorded at their estimated fair values on December 31, 2012. We recorded net assets with an estimated fair value of $26.1 million, including the recognition of estimates of goodwill of $8.8 million and identifiable intangible assets of $11.0 million. The estimated fair values of the assets acquired and liabilities assumed from the S1L acquisition are presented in Note 3 in the Notes to Consolidated Financial Statements. S1L is included in the Reverse Mortgage segment.

Green Tree

On July 1, 2011, we acquired 100% of the outstanding membership interests of Green Tree. Based in St. Paul, Minnesota, Green Tree is a fee-based, business services company providing high-touch, third-party servicing of credit-sensitive loans. The purchase price of the acquisition consisted of cash of approximately $1.0 billion and issuance of common stock with a fair value of $40.2 million. The cash portion of the purchase


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price was funded by monetizing certain existing assets and by the issuance of corporate debt totaling $765 million. The acquisition was accounted for under the acquisition method and accordingly, the assets acquired and liabilities assumed were recorded at their estimated fair values. We acquired net assets with an estimated fair value of $1.1 billion, which included the recognition of estimates of goodwill of $471.3 million and identifiable intangible assets of $150.1 million. Refer to Note 3 in the Notes to Consolidated Financial Statements for further information.

Pursuant to the accounting guidance for variable interest entities, or VIEs, we were required to consolidate, at the acquisition date, ten securitization trusts for which Green Tree performs the servicing. We do not currently own any residual interests in these trusts, and thus, we refer to these trusts as the Non-Residual Trusts. We have elected to account for certain of the assets acquired and liabilities assumed of the Non-Residual Trusts, which consist of forward residential loans, certain receivables and the mortgage-backed debt, at fair value. We own the residual interests in VIEs that were previously consolidated by us prior to the Green Tree acquisition. We refer to these trusts as the Residual Trusts.

Marix

On November 1, 2010, we acquired 100% of the outstanding membership interests of Marix Servicing, LLC, or Marix, a high-touch specialty mortgage servicer based in Phoenix, Arizona. The purchase price for the acquisition was a cash payment due at closing of less than $0.1 million plus contingent earn-out payments. The earn-out payments are driven by net servicing revenue in Marix's existing business in excess of a base of $3.8 million per quarter. During 2011 and 2012, no earn-out payments were earned or paid as the servicing revenue targets specified in the purchase agreement were not met in any of the four quarters in 2011 or 2012. In addition, management estimates that the revenue targets for 2013, the remaining year of the earn-out period, will not be met. Refer to Note 3 in the Notes to Consolidated Financial Statements for further information.

Residential Capital, LLC

We previously announced a joint bid with Ocwen Loan Servicing LLC to acquire certain mortgage-related net assets held by Residential Capital LLC, or ResCap, in an auction sponsored by the U.S. Bankruptcy Court. Pursuant to this agreement, we agreed to acquire the rights and assume the liabilities relating to ResCap's entire Fannie Mae mortgage servicing rights and related servicer advances, and ResCap's mortgage originations and capital markets platforms, or the ResCap net assets. The Company subsequently closed on its acquisition of the ResCap net assets on January 31, 2013. Refer to Note 3 for further information regarding the acquisition of the ResCap net assets.

Financing Transactions

Term Loans and Revolver

In July 2011, we entered into a $500 million first lien senior secured term loan and a $265 million second lien senior secured term loan, or 2011 Term Loans, to partially fund the acquisition of Green Tree. Also in July 2011, we entered into a $45 million senior secured revolving credit facility, or 2011 Revolver, which was subsequently increased in July 2012 to $90 million.

In October 2012, we repaid and terminated the second lien senior secured term loan with funds obtained through the issuance of convertible notes. See further discussion in the Convertible Notes section below. In November 2012, we refinanced our first lien senior secured term loan with a $700 million first lien senior secured term loan, or 2012 Term Loan, and refinanced our 2011 Revolver with a $125 million senior secured revolving credit facility, or 2012 Revolver. Our obligations under the 2012 Term Loan and 2012 Revolver are guaranteed by substantially all of our subsidiaries and secured by substantially all of our assets and substantially all assets of the guarantor subsidiaries subject to certain exceptions, the most significant of which include the assets of the consolidated Residual and Non-Residual Trusts and the residential loans of the GNMA securitization pools that have been recorded in our consolidated balance sheets.


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Convertible Notes

In October 2012, we closed on a registered underwritten public offering of $290.0 million aggregate principal amount of 4.50% convertible senior subordinated notes, or the Convertible Notes. The Convertible Notes will pay interest semi-annually on May 1 and November 1, commencing on May 1, 2013, at a rate of 4.50% per year, and will mature on November 1, 2019.

Prior to May 1, 2019, the Convertible Notes will be convertible only upon specified events and during specified periods, and, on or after May 1, 2019, at any time. The Convertible Notes will initially be convertible at a conversion rate of 17.0068 shares of our common stock per $1,000 principal amount of Convertible Notes, which is equivalent to an initial conversion price of approximately $58.80 per share. Upon conversion, we may pay or deliver, at our option, cash, shares of our common stock, or a combination of cash and shares of common stock. It is our intent to settle all conversions through combination settlement, which involves repayment of an amount of cash equal to the principal amount and any excess of conversion value over the principal amount in shares of common stock.

We generated net proceeds of approximately $280.4 million from the Convertible Notes after deducting underwriting discounts and commissions and offering expenses. We used the net proceeds from the Convertible Notes, together with cash on hand, to repay and terminate $265.0 million outstanding under our second lien senior secured term loan and pay certain fees, expenses and premiums in connection therewith.

Common Stock Offering

In October 2012, we closed on a registered underwritten public offering of 6,900,000 shares of our common stock, or the 2012 Common Stock Offering. The shares were sold at a price to the public of $42.00 per share. We generated net proceeds of approximately $276.1 million from the 2012 Common Stock Offering after deducting underwriting discounts and commissions and offering expenses. Subsequently, we used the net proceeds to partially fund our acquisitions of RMS and ResCap. See further discussion in Note 3 in the Notes to Consolidated Financial Statements.


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Results of Operations - Comparison of Consolidated Results of Operations for the Years Ended December 31, 2012, 2011 and 2010

We recognized net income (loss) of $(22.1) million, $(66.4) million and $37.1 million for the years ended December 31, 2012, 2011 and 2010, respectively. A summary of our consolidated results of operations is provided below (in thousands):

                                          For the Years Ended December 31,                          Variance
                                        2012             2011            2010          2012 vs. 2011         2011 vs. 2010
Revenues
Servicing revenue and fees           $   418,970       $ 186,177       $   2,267      $       232,793       $       183,910
Interest income on loans                 154,351         164,794         166,188              (10,443 )              (1,394 )
Insurance revenue                         73,249          41,651           9,163               31,598                32,488
Other revenues                            20,419           9,852           2,876               10,567                 6,976

Total revenues                           666,989         402,474         180,494              264,515               221,980

Expenses
Salaries and benefits                    230,107         117,736          27,495              112,371                90,241
Interest expense                         179,671         136,246          81,729               43,425                54,517
General and administrative               136,236          78,597          21,289               57,639                57,308
Depreciation and amortization             99,728          53,078             383               46,650                52,695
Provision for loan losses                 13,352           6,016           6,526                7,336                  (510 )
Other expenses, net                        9,267          18,073           9,408               (8,806 )               8,665

Total expenses                           668,361         409,746         146,830              258,615               262,916

Other gains (losses)
Net fair value gains (losses)             14,500          (1,052 )             -               15,552                (1,052 )
Gains (losses) on extinguishment         (48,579 )            95           4,258              (48,674 )              (4,163 )
Other                                          -           2,096             423               (2,096 )               1,673

Total other gains (losses)               (34,079 )         1,139           4,681              (35,218 )              (3,542 )
Income (loss) before income taxes        (35,451 )        (6,133 )        38,345              (29,318 )             (44,478 )
Income tax expense (benefit)             (13,317 )        60,264           1,277              (73,581 )              58,987

Net income (loss)                    $   (22,134 )     $ (66,397 )     $  37,068      $        44,263       $      (103,465 )

Servicing Revenue and Fees

We recognize servicing revenue and fees on servicing performed for third parties. This revenue includes contractual fees earned on the serviced loans, incentive and performance fees earned based on the performance of certain loans or loan portfolios serviced by us and loan modification fees. Servicing revenue and fees also includes asset recovery income, which is included in incentive and performance fees, and ancillary fees such as late fees and prepayment fees. Servicing revenue earned on loans held by consolidated VIEs, which consists of both the Residual and Non-Residual Trusts, is eliminated in consolidation. Servicing revenue and fees increased $232.8 million for the year ended . . .

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