Onity Group Inc (ONIT) 2003 Q4 法說會逐字稿

Good afternoon and thank you all for holding. I'd like to remind all parties today's call is being recorded. If you have any objections, you may disconnect at this time. I would like to turn the call over to your speaker, Mr. Bob Leist, Vice President and Chief Accounting Officer.

Thank you, sir. You may begin. Thank you.

Good afternoon, everyone and thank you for joining us today. Before we begin I want to remind you that a slide presentation is available to accompany our remarks. To access the slides, log on to our website at www.Ocwen.com. Select shareholder relations, then conference calls fourth quarter 2003 results, and then view slides. Each viewer will be able to control the progression of the slides during the presentation. To move the slides ahead, please click on the gray button pointing to the right.

As indicated on slide 2, our presentation may contain certain forward-looking statements that are made pursuant to the Safe Harbor provisions of the federal securities laws. These forward-looking statements may be identified by reference to a future period or by use of forward-looking terminology. They may involve risks and uncertainties that could cause the company's actual results to differ materially from the results discussed in the forward-looking statements. For an elaboration of the factors that may cause such a difference, please refer to the risk disclosure statement in today's earnings release, as well as the company's filings with the Securities and Exchange Commission including OCN's 2002 10-K.

We are happy to make Ocwen news releases, 10-Qs, 10-Ks and other materials available to you via e-mail. If you are not already receiving our materials by e-mail and would like to be added to our distribution list, please e-mail Linda Ludwig at lludwig@ocwen.com.

As indicated on slide 3, joining us for today's presentation are Bill Erbey, Chairman and CEO of Ocwen, Ron Faris, president, and Mark Zeidman, Senior Vice President and CFO. The presentation will be followed by a question and answer period during which well-be taking questions for those attending the conference by telephone.

Without further delay I'll turn the call over to Bill Erbey. Bill?

Thank you, Bob. Thanks to all of you for attending Ocwen's fourth quarter conference call. As shown an slide 4, I will cover three topics in my remarks today. One, an overview of the 2003 earnings. Two, our remaining non-core assets. And, three, the current economic environment for our servicing business. Following my remarks, Ron and Mark will provide more detailed information.

I'm very happy to open my remarks by noting that we have reported net income for the third consecutive quarter and ended 2003 with net income of $4.8 million. These results reflect year over year improvements across the board in our core businesses, our non-core businesses and our corporate segment. As illustrated on slide five, pre-tax income in our core businesses rose to $29.2 million in 2003, an increase of 163% over last year. While, as shown on slide six, the fourth quarter dipped somewhat reflecting pressure on the servicing business, we've experienced strong growth in core business earnings over the past several years. Our core businesses reported average quarterly losses of $7.4 million in 2000, $1.7 million loss in 2001, and average quarterly pre-tax income of $3.4 million in 2002. In 2003 these businesses reported average quarterly pre-tax income of $7.3 million.

Our residential loan servicing business earned $31 million as compared to $32 million last year, a decrease of 3%. As shown on slide 7, our portfolio continued to grow during the year, rising to $37.7 billion of unpaid principal balance at year end, an increase of 23% over December of last year. I will have more to say about the challenging environment in which servicing is operating in a moment and Ron will cover our servicing and other core business results in more detail later in the call.

OTX results improved by 52% in 2003 as compared to 2002. As graphed on slide 8, OTX reported a quarterly loss of $3.2 million in the fourth quarter of 2003, reflecting a slowdown versus the prior two quarters, largely as a result of the substantial decline in prime mortgage originations in the fourth quarter which adversely impacted REALTrans results. Despite these challenges, we continue to add new clients and our OTX quarterly results are well ahead of the $6 million loss and the $9 million average quarterly losses reported in the preceding two years.

As depicted on slide 9, our non-core losses in 2003, after excluding the arbitration charge of $10 million in the first quarter this year, were a loss of $1.4 million as compared to a loss of $68.2 million in 2002. These results reflect a significant reduction in new reserves in 2003 as compared to 2002, strong cash flow in 2003 on our residual securities portfolio, and approximately $4 million of net gains on commercial asset sales during the year. Our corporate sector also reflected improvements in 2003 reporting a pre-tax loss of $12.8 million, as compared to a loss of $27.4 million last year. This improvement is primarily due to $8.7 million of reduced interest expense in 2003, as well as lower technology and other expenses, and a reduced loss on debt redemption.

As shown on slide 10, since December of 1999 our non-core assets have been reduced from $1.9 billion to $182 million as of December 31, 2003. During 2003 we reduced non-core assets by $68 million or 27%.

As shown on slide 11, commercial assets represent 70% of the remaining non-core assets, subprime securities represent 21%, and affordable housing and corporate assets comprise the remaining 9%.

As depicted on slide 12, the five largest remaining assets comprise 72% of the remaining balance. While the small number of remaining assets makes it difficult to forecast the timing of future sales with precision, we have already made further progress in January, having sold our second-largest asset with a net book value of $37.6 million. In the process, however, we retained a $15.5 million mezzanine loan to facilitate the sale. We continue to maintain the strongest reserve levels we have ever had and we believe that we are in the final stages of achieving our goal.

Before turning the call over to my colleagues, I also want to share with you my perspective on the adverse environment in our servicing business is operating. As we had mentioned in prior calls, our business model, unlike many financial institutions, benefits from rising interest rates and is challenged by a low interest rate environment. During 2003 we experienced a substantial and escalating prepayments on subprime loans, which comprised the vast majority of our portfolio. Not only do prepayments result in the loss of future servicing fees, they result in increases to the rate at which we amortize our mortgage servicing rights. The asset's created each time we purchase the servicing pool. Prepayments also create the obligation by the servicer to remit a final month of interest to the investor.

As shown on slide 13, during 2003 our combined PMSR amortization and prepayment interest expense, which were reported as reductions of servicing fees, increased by $48.5 million. These escalating costs culminated in the first quarter expense of $35.3 million. It's a testament to the skill and dedication of our team members in the servicing business that, despite the enormous challenge represented by prepayments, our 2003 results decreased only $1 million or 3% from 2002.

In closing, I would like to share with you our evolving marketing strategy. We believe the best approach to marketing our product line is through enhanced orientation towards providing solutions to our customers ranging from complete outsourcing, to performing selected services, or supplying software solutions. To that end, we are realigning our business units into customer focused segments supported by a unified sales force, as depicted on slide 14.

While our commitment to our technology products remains unchanged, we believe this approach enhances the value-added equation for our clients. Beginning the first quarter of 2004, we will begin to report our core business results along five customer focused segments. The first is residential servicing, comprising of our residential loan servicing operations and our real servicing and other servicing products. Second is origination services, including Ocwen Realty Advisors, REALTrans, and our newly announced bundled services initiative. The third is commercial servicing, including our domestic servicing operation, REALSynergy product, and international servicing conducted through our joint-venture with GSS. And fifth, fourth rather, is unsecured collections, which will continue its current activity. And finally, global outsourcing, our expanded business process outsourcing operation.

I believe that our return to profitability in 2003, the continued profitability of our core businesses, and the reduction of losses in a non-core and corporate segments all demonstrate that we are achieving the benefits we anticipate from our strategy. I remain optimistic that we will achieve further earnings growth in 2004, particularly if interest rates rise towards year end.

I would not like to turn the call over to our President, Ron Faris.

Thank you, Bill.

My remarks today will cover the servicing business, Ocwen Realty Advisors, unsecured collections, and global outsourcing. As shown on slide 16, these four business lines generated a total of $43.7 million of profit during 2003, a 12.8% increase over 2002.

Turning to slide 17, you will see that our servicing business reported pre-tax net income of $5.2 million in the fourth quarter compared to $9.2 million in the fourth quarter of 2002.

As shown on slide 18, our servicing portfolio unpaid principal balance at the end of the the fourth quarter was $37.7 billion, a 2% increase from the third quarter of 2003 and a 23% increase over the December 31, 2002 balance. For the year, the servicing business generated $31 million in net income, a $931,000 decline from the prior year.

Net revenues in the servicing business were $25.7 million in the fourth quarter, a 1% decrease compared to the same quarter last year. In Bill's comments, he discussed the impact prepayments had on our MSR amortization in compensating interest. I'd like to expand upon that by breaking the components apart. I'd also like to focus on the impact of lower interest rates on our float income, as well. Over the past several quarters, we have been steadily increasing our rate of amortization on servicing rights to reflect increased projected prepayment volumes. The average unpaid principal balance of our portfolio has increased by 26% over the prior year, while the amortization of servicing rights has increased 62% to $25.3 million in the fourth quarter compared to $18.7 million during the fourth quarter of 2002.

As I indicated before, our portfolio of loan service grew by 23% during the year; however, I think it is important to point out that the balance of our mortgage servicing rates actually declined year-over-year from $172 million to $167 million. The decline occurred because of the acceleration in MSR amortization due to faster CPR projections and because we were able to acquire more subservicing contracts in 2003, which have lower servicing fees, but much less sensitivity to prepayment speeds.

As shown on slide 19, the quarterly average annualized prepayment speed has increased significantly over the past five quarters from around 28% CPR to 38% CPR, an increase of approximately 36%. We anticipate the prepayment speeds will remain at these higher levels for the near future.

For the fourth quarter our net losses, from interest earned on collection account balances in compensating interest payments on payoff, increased by $4.2 million or 50% over the same period the prior year. For the year, our net earnings from interest earned on collection account balances and compensating interest declined by $12 million or 40% from 2002. For the year revenues in the servicing business decreased by $1.5 million or 1.5% over 2002.

On the expense side, we saw a 22% increase in expenses in the fourth quarter of 2003 over the fourth quarter of 2002 as a result of an increase in number of loans serviced, start-up costs related to the new VA property contract, and an increase in certain costs due to bringing back in-house certain collection activities previously performed by outside parties. For the year, expenses in the servicing business decreased by $550,000 as compared to 2002. In 2004 we will continue to utilize Six Sigma to improve efficiency and quality for our customers. We will also continue to expand our global work force within the servicing business.

As shown on slide 20, our unsecured collections business posted pre-tax income of $1.9 million in the fourth quarter as compared to $900,000 during the same period in 2002. For the year, unsecured collections reported net pre-tax income of $5.3 million, a 32% increase over 2002. Our focus in 2004 will be to utilize Six Sigma to improve our collection capabilities and to continue our grow our offshore operations.

Slide 21 shows that Ocwen Realty Advisors, our property valuation division, reported pre-tax income of $1.7 million for the fourth quarter of 2003 compared to $675,000 in the fourth quarter of 2002. Fourth quarter 2003 margins increased 31% compared to 21% during fourth quarter 2002. For the full year, Ocwen Realty Advisors reported net income of $5.4 million, a 109% increase over 2002. In 2004, we will look to continue expansion of our vendor network in our ongoing effort to reduce costs and improve our turn times. We will also look to expand our product offerings, particularly as they relate to loan originations.

I am pleased to report that during the fourth quarter our global outsourcing business generated $1.9 million in revenue compared to $206,000 during the fourth quarter of 2002. As shown on slide 22, this business generated $900,000 of profit during the fourth quarter with a profit margin of 48%. For the year, this business generated $4.5 million in revenue and $1.9 million in pre-tax net income. We have three active clients all of whom should continue to expand their relationship with Ocwen in 2004 and we anticipate additional opportunities to expand our client base over the coming quarters. Unsecured collection, Ocwen Realty Advisors, and global outsourcing all complement our servicing business, capitalize on core competencies, and provide additional value-added services to our core client base. These business lines continue to make progress in reducing their cost structures and improving their product quality through Six Sigma initiatives, the better use of technology, and globalization.

Finally, in an effort to address the issue of rapid prepayment speeds within the servicing business, we have begun to offer our loan servicing borrowers the opportunity to refinance their loans with Ocwen. In the past, we have had to turn away our customers who wish to refinance their loans with us. By offering this service, we hope to generate additional income and retain our servicing customer base, thus partially hedging our risk to increasing prepayment speeds. The loans we originate will have a guaranteed takeout.

Thank you, everyone. I'd now like to turn the call over to Mark Zeidman.

Thank you, Ron.

I'd like to discuss the progress we made in strengthening the company's balance sheet in 2003. Slide 24 presents a comparative summary of the company's assets as of December 31, 2003 and December 31, 2002. Note that the largest asset class on our books is servicing advance receivables. Total servicing advance receivables, including match funded servicing advances equaled $481 million at the end of 2003, or approximately 39% of total assets, as compared to only $388 million, or 32% of total assets at the end of 2002. Servicing advance receivables are advances that the company has made in connection with its role as the residential loan servicer of various securitization trusts.

Typically the company's right to be reimbursed for this receivable stands at the top of the securitization water fall, that is before the right of the AAA note holders to receive principle and interest payments. Generally, therefore, servicing advances are considered as having the highest credit quality. This is important to keep in mind when looking at the company's balance sheet for two reasons. First, it means that a significant percentage of our assets are better than AAA rated in terms of the company's exposure to credit risk. Second, servicing advances are relatively easy to finance and, as such, provide an important source of liquidity.

The second-largest asset category is cash. We closed the year with $216 million of cash and cash equivalents, an increase of $24 million over the end of 2002. Of this amount, the bank had $172 million and the holding company had $44 million. In total, cash represented 17.4% of total assets at the end of the year, an increase from 15.7% of total assets at the end of 2002.

Non-core assets are the third largest class on the balance sheet. Non-core assets, including securities, loans, investments in real estate, and REO totalled $182 million at the end of the year. As Bill mentioned earlier, we made good progress during the year in reducing our remaining investment in these assets. We believe that we've recorded adequate loss reserves on the remaining assets and that they are recorded at realistic values.

Finally, mortgage servicing rights of $166 million is the fourth largest asset category on the books at the end of the year, a decrease from $172 million at the end of 2002. Total servicing rights declined, in part, because of the high rates of amortization that we experienced in 2003, as Bill and Ron discussed earlier. Additionally in order to reduce our exposure to loss from high prepayment speeds, we have increasingly sought to enter into subservicing agreements with our customers that do not require we purchase mortgage servicing right. We continue to monitor the fair value of our portfolio of mortgage servicing rights by reference to both internal models and external opinions of value. And we believe that the net book value of our servicing rights are fairly stated in view of the economic environment of low interest rates and low prepayment speeds.

On the liability side of the balance sheet, our strategy has been to reduce our reliance on expensive high yield bonds and brokered deposits and to diversify funding sources. As you can see on slide 25, we closed the year with only $84 million of brokered deposits as compared to $198 million at the end of 2002. This is important because the remaining brokered deposits were issued several years ago and have a weighted average interest rate of approximately 6.7%. By way of comparison, our non-brokered certificates of deposit have a weighted average interest rate of only 2.63% and new retail deposits that we issue are, of course, even cheaper in today's low interest rate environment.

We also made good progress in reducing long-term debt, having started the year with approximately $133 million of high yield bonds that had a weighted average interest rate of approximately 11.5%. By the end of 2003, we had reduced this to only $56 million of notes that have a coupon of 10 and 7/8. The replacement of this debt with newer, cheaper, sources of funding will improve the company's bottom line. We continue to look for new and less expensive sources of financing.

In 2003 we executed a new $100 million credit facility for servicing advances at Ocwen Federal Bank. I'm also happy to report that we recently renewed an existing $200 million credit facility for servicing advances, also at Ocwen Federal Bank. This facility, which was to have expired in December 2003, has been renewed for two more years. Additionally we executed a new $12.5 million credit facility for mortgage servicing rights at the holding company level. Unfortunately, another lender notified us that a $100 million facility for servicing advances that is due to mature in April of 2004 would not be renewed. However, I'm confident that we will be able to replace the amounts that we have borrowed on this credit line with borrowings from our new and other existing credit facilities.

The company closed the year with a debt-to-equity ratio of approximately 2.9:1, about the same as it began the year. Additionally, the bank's core capital ratio of 15.09% and risk capital ratio of 14.95% remain in excess of amounts that we have agreed to maintain with the OTS.

In conclusion, I believe that improvements in the credit quality of our assets and the reductions in our overall cost of funds will help to set the stage for continuing growth and profitability in the year 2004.

I'd now like to turn the call back to Bill.

I'd like to, now, turn the call open to any questions that you might have.

Thank you. At this time if you'd like to ask a question press star followed by 1 on the touchtone phone, I will announce you prior to asking your question. If your question has been answered, you may press star 2 to withdraw your question. Again, at this time, If you wish to ask a question please press star followed by 1, now.

And our first question comes from Tom Napoli from Piper Jaffray. You may ask your question.

Bob Napoli from Piper Jaffray. Good afternoon. A couple questions on the servicing business. The prepayment speeds, I guess, look to have stabilized or maybe come down just very, very slightly in the fourth quarter. Is that, kind of, the outlook that we're stable at a high level for right now? Or are you seeing any modest continuing improvement in pre-paid speeds as we move into '04 here?

This is Ron. I think that probably the way you said it, in the steady to a slight modest decline is what we're seeing, but modest at best at this point. But it's very difficult to predict what's gonna occur over the next few months.

Now, yeah, the number you gave out, you gave out $25.3 million amortization number and then in your press release you had a $35 million number. The difference is the compensating interest?

Yes.

Okay. And if you take those, those were kind of right in line with our expectations, yet your income came in a couple million below. Was there a couple million of expenses, setup expenses, for your new program? The FHA program?

The expense increases I described was a combination of the setup for the VA contract, as well as bringing in-house certain collection activities that were previously done externally.

Why was that done? Was that, was it a onetime cost to bring that inside?

No, that will be an ongoing cost. And --

Why was that done?

It was really done as part of our overall commitment to -- I'm sorry, hold on one second. Okay. It was done, actually, we had to add some additional internal loan servicing processes that had been previously outsourced. We did this so that we could continue to improve the quality of the collections activities that we provide to or clients, as well as ensure that we have good quality customer service.

Okay. You had very modest growth in the fourth quarter, what would be the outlook of growth of the portfolio in '04 and can you talk about pricing of portfolios? We've heard somebody recently say they're paying about 65 basis points for, recently, for subprime portfolios. What's the outlook for growth in pricing, competitive nature?

I think consistent with prior years, our expectation is that we can, hopefully, grow the portfolio about 15% year-over-year. I mean, the 65 basis points, I think, is a reasonable number, but you're gonna see portfolios trade anywhere from 60 basis points up to close to 80. It's still a wide range, depending on the portfolio and the characteristics of the portfolio.

Thanks. My last question. On your program refi. program, which is new, you said you have a guaranteed takeout. So you're not taking any credit risk on these refinancings?

That's correct.

One thing you should keep in mind, on the question you asked before, Bob, just so [inaudible] is that we continue our program of overall reducing our operating expenses year-over-year. You saw that significantly, even with that uptick in the fourth quarter, overall expenses were down for the year?

Yes.

We would expect to continue to move our expenses down year-over-year with, as Ron said, through more outsourcing, technology, and Six Sigma. So, we've set goals all along of between 10-15% unit cost reductions in our business units.

So you think you can have a dollar reduction in expenses in the servicing business in '04, as you grow the portfolio?

Well, we're -- I'm not gonna go that far in terms of the projections, we are projecting to reduce our per unit cost. So if we grow the portfolio faster than 15%---

Right. Okay. Thank you very much.

Thank you. Our next question comes from [John Hecht] from JMP Securities. You may ask your question.

Hello, thanks for taking your question. Just a quick question about, in terms of forecasting the subservicing component of your servicing. Do you guys have, sort of, an internal goal as to, overall, what the mix will be between subservicing and servicing? And can you just provide a little bit of details behind the economics? Your getting, basically, 50 points on a servicing contract. What does that mean at the subservicing level?

I think in an ideal world, we'd like to do as much as we can on a subservicing basis to limit our exposure to the prepayment risks, but in reality, probably somewhere -- probably it's more likely that the market will only bear about maybe 30% of what you do in a year on a subservicing basis. And again, that's yet to be seen, but I think that's probably what my expectation would be.

As far as, kind of, the difference from purchasing the servicing rights, instead of receiving 50 basis points, generally you're gonna receive, maybe, somewhere in the range of 17-22 basis points on the subservicing basis.

Okay, thank you.

Thank you. [Kathy Nolan from Solomon Asset Management], you may ask your question.

Yes. Good afternoon. I'd just like to know how much is drawn on the servicer advance facility, which is coming up for maturity in April 2004? And perhaps you could address your plans with respect to debt reduction in this year. I guess there's $56 million of high yield debt outstanding.

Sure. This is Mark Zeidman. There was approximately $69 million borrowed on the line that's not going to be renewed at the end of December. As of today, I think we've paid that down to about $27 million. And I really don't anticipate any problem in terms of repaying the remaining amount and just re-pledging the collateral that's on that line to other lenders. In terms of debt reduction, we do have one remaining issue outstanding, $56 million of 10 7/8 notes that are not callable in 2007. Every now and then, some bonds, I'm made aware of certain bonds that come up on the open market and I like to understand what's available at what price, but at least at this point we don't have plans to aggressively buy them back.

Thank you.

Thank you, again, if you have a question press star followed by 1 on the touch tone phone. We have another question from Bob Napoli. You may ask your question.

Just a couple of little items, I guess. On the corporate line, your corporate expenses were up at $3.3 million, up sequential quarter, despite the fact you paid off some high yield debt. We thought that number would go down. What is -- is that $3.3 million the proper run rate for that corporate sector?

Bob, this is Mark. No, I don't think so. I think we're going to see that come down significantly in 2004. There are number of components in the corporate segment, interesting, one is in the interest component actually decreased significantly quarter-over-quarter. In the fourth quarter, in addition to interest, there were certain unallocated technology service division expenses. You may recall we mentioned this earlier and we've changed our management accounting policy, such that, in 2004 all of those costs are gonna be fully allocated out to the business unit. So between that change in management accounting policies, the decrease in high yield debt, I would project we're gonna see a significant decrease. Can't guarantee, but I would project we're gonna see a significant decrease in the corporate segment expenses.

Okay. So there were some one-time items in this quarter's numbers?

Yes . There were, frankly, a handful of relatively one-time items, not a single one of which, in and of itself, was material. For example. We had a Florida sales tax audit that we settled for $140,000 and a Florida tangible personal property tax audit that we settled for $90,000. And there's, literally, a list of ten or so of those that are part of the reason why we're still looking at a $3.3 million net loss in this segment in the fourth quarter.

Okay. With -- On your unsecured collections business and your Realty Advisors, you had some nice sequential increases in income. Are those sustainable earnings levels or are we gonna, kind of, see those sectors, as small as they are, kind of being bumpy as we move into '04 as far as their profitability?

Our view on unsecured collections because we are still making very good margins off a pool of receivables we purchased where we, obviously, get 100% of it, I think you'll see some modest increases in that business, but more of it will be from recurring fee-based business as opposed to the old business there. In respect to ORA, we're projecting we can see some nice improvements in ORA. Certainly, nowhere close to what you saw last year where it more than doubled.

Right. And the global outsourcing business, I guess First American is your biggest client there, right?

No, they're not a client.

Not a client FAF? Okay. That business, are you looking for substantial growth in global outsourcing? I mean, you've had a nice ramp up.

We think that we have good opportunity to continue to expand the three existing clients that we have, which should in and of itself, generate a nice increase for the year. What's more difficult to predict is the new clients that we hope to bring on board. But, we're very optimistic that this business line is going to have a very good growth pattern this coming year.

All of our customers, I think, are extremely happy with the service. Most of them have signed up to double the seats they have this year. So, we would like to add many more new customers, but quite frankly, you should still see a very strong earnings pattern just from the existing client base that we have.

Okay. There's been obviously some consumer group, I guess, attacks if you will, on the collecting activities, kind of, following -- trying to capitalize, maybe, off of what you saw with Fairbanks. Can you talk about what affect that's having on you, if any, and how you see that unfolding in '04.

This is Ron. I think the impact on us is, probably, in that it does absorb management time. Unfortunately, there's no way around that. So, that is something that we're having to contend with, but far as the losses themselves, in our minds they have no merit. We're defending them vigorously in court. Our track record has been quite impressive. We haven't had a single case that's been certified as a class-action and all the cases that have been decided have been decided in Ocwen's favor, either by court ruling or voluntary dismissal by plaintiffs when confronted with the facts.

Great. Okay. Thank you.

Thank you. Again, if you have a question, press star followed by 1. I'm showing no further questions at this time.

Thank you, everyone. Have a great afternoon and evening. Good night.

Today's conference has concluded. Thank you for joining.