Rithm Capital Corp. (RITM) Q4 2014 Earnings Report, Transcript and Summary

Good morning. My name is Stephaney and I will be your conference operator today. At this time, I will like to welcome everyone to the New Residential Fourth Quarter and Full Year 2014 Earnings Conference Call. All lines have been placed on mute to prevent any background noise. After the speaker’s remarks, there will be a question-and-answer session. [Operator Instructions]. Thank you. I would now like to turn the call over to Ms. Mandy Chalk. Please go ahead.

Thank you, Stephaney and good morning, everyone. I would like to welcome you today to New Residential's fourth quarter and full year 2014 earnings call. Joining me here today are Michael Nierenberg, our CEO and Jonathan Brown, our Interim CFO and CAO, and Cameron MacDougall, our General Counsel. Throughout the call we are going to reference earnings supplement that was posted to the New Residential Website this morning. If you have not already done so, I would suggest that you download it now. Before I turn the call over to Michael, I would like to point out that certain statements made today will be forward-looking statements. These statements, by their nature are uncertain, and may differ materially from actual results. I encourage you to review the disclaimers in our press release and investor presentation regarding forward-looking statements and to review the risk factors contained in our annual and quarterly reports filed with the SEC. And now, I will like to turn the call over to Michael.

Thanks, Mandy. Good morning, everybody, and thanks for joining our call this morning. We are really excited to talk to you about our fourth quarter results as well as our full year for 2014. We are really proud of our team we had a terrific year. We will also be discussing our merger with HLSS which we announced this week and discussed on a call this past Monday. We will share as much information with you as possible however please be aware there are many things we cannot discuss as HLSS has not released Q4 results and we have not completed the merger at this time. I will be referring to our deck which has been posted online. As I take you through our presentation our goal with our company continues to be simplification of our business and our story. Our core business is to focus on mortgage servicing, servicing advances and non-agency securities with associated call rights. To the extent we see opportunities in large addressable markets that will afford our shareholders outside returns we will invest capital in those areas but for now we want to continue our focus on our core business and the simplification of our company. Now I will begin on page 2, in our deck. Our current market cap is approximately $2.1 billion which is up 1.7 billion at the end of 2013. Since inception we have had outstanding results generating a return on equity of 26%. Our year-over-year growth in core earnings is up 46%. Our year-over-year growth in all areas has been excellent. We have paid out 343 million of dividends since the spin of the company in May of 2013, that’s on a capital base of $1.4 billion. We continue to grow our core earnings and our dividends. Our excess MSR portfolio is currently $209 billion which is approximately flat year-over-year. We have call rights on $95 billion of mortgage loans and again we announced a merger which we are happy to discuss with you with HLSS which will take our MSR portfolio to approximately $400 billion UPB while diversifying our servicing relationships. Now I will take you through our financial performance. For full year 2014 our GAAP income was $353 million or $2.53 per diluted share, that's a 22% year-over-year increase. Our core earnings are $219 million, or $1.57 per diluted share which is an increase of 55%. Common dividends paid $218 million or $1.58 per share which is a 60% increase on a year-over-year basis. And in the fourth quarter we announced a dividend increase of 9% from $0.35 to $0.38 per common share. Looking at fourth quarter results our GAAP income was $54 million or $0.38 per diluted share. Our core earnings were $58 million or $0.41 per diluted share and we paid common dividends of $54 million or $0.38 per diluted share. I just want to point out in the quarter we had an average cash balance of $263 million to be steadily invested at capital at a 15% return that would add approximately another $0.05 to $0.07 per share to our core earnings. Now if you flip to page 4. Taking you through 2014 and some of our subsequent events or highlights in the first quarter of 2015. In 2014 we acquired $36 billion UPB of MSRs, our life-to-date return on our MSR portfolio was 29% and then subsequent to 2014 in the first quarter of 2015 we acquired or committed to acquire $38 billion UPB of legacy Agency MSRs. So the MSR market in our opinion is starting to open, we're starting to see more bank selling and working with our partners Nationstar and the regulators we feel like we're going to be able to grow our portfolios. In the servicer advance space we refinanced $4.3 billion of our facilities with lower cost of funds, higher advance rates and longer maturities. On our initial invested capital of $330 million our life-to-date IRR is 42% and then subsequent to 2014 we refinanced and increased the capacity for two borrowing facilities to $1.8 billion. So lot of activity around the servicer advance space and we continue to expand our relationships with the banks who continue to want to enter that space and be a bigger presence. On the non-agency part of our business our strategy is pretty simple; we try to buy non-agency securities where we own the associated call rights. So in 2014 we collapsed 60 Non-Agency deals for a total UPB of $1.4 billion. Subsequent to collapsing those deals we issued three non-agency loan securitizations for $1.2 billion and our life-to-date return on that portfolio is 55%. On our opportunistic investment sector, last year we purchased $1.7 billion UPB of mortgage loans for the market value of $1.3 billion throughout the course of 2014 we resolved $247 million for a 63% return and then subsequent to 2014 we agreed to sell $862 million of our loans for a total return of 32%. Post the closing of all of those sales we will have approximately $100 million of equity remaining in our loan business. On the consumer loan portfolio we completed a $2.6 billion refinancing in Q4, we more than monetized our initial basis. Our current carrying cost on that is zero and we generated a 73% lifetime IRR, through this fantastic performance we expect the IRR on a go forward basis to be something around 90%. If you flip to page 5, what this shows is our balance sheet as of 12/31. Again we're going to continue to focus on our three core business segments Excess MSRs, Servicing Advances and non-agency securities with the associated call rights. If you look to the bottom right you will see Excess MSRs $749 million of net investment with a 15% to 20% lifetime expected return. Currently I pointed out earlier that our return on that investment is 29% lifetime. Servicer advances our current net investment is $203 million and our expected lifetime return on that is 20% to 25% and I had pointed out that our current lifetime return is 42% there. On residential securities and call rights we have $276 million of invested capital and we think our returns are going to be 12% to 18%, keep in mind on deals where we own the underlying collateral the returns are likely to be greater than that. And then the opportunistic investments sector we have $311 million as of 12/31 and I pointed out what the sale of our loans that sector will get reduced to approximately $100 million. And then our net cash balance at the as of 12/31 is $99 million. Now I would like to take you through our portfolio update. If you flip to Page 7, again our portfolio of MSR is $249 billion, it’s a very, very season portfolio most of the borrowers the average tenure of the mortgage loan is between eight years and nine years the current LTBs have north of a 80% the FICO scores are 676 and the delinquency profile of our portfolio is 13.6%. I point out those characteristics because what we have seen in the course of 2014 with [rates rallying] and mortgage rates coming down the impact on our portfolio has been extremely limited. So we have very, very stable cash flows, very, very stable prepayments and then particularly on the agency side our recapture rates have been anywhere from 30% to 35%. On our initial investment at $777 million our life-to-date cash flows that we received back have been $360 million or 46% of our initial investment. We expect future cash flows of $1.2 billion on a go forward basis. If you flip to Page 8, this is a Slide we put in pretty much in every presentation we talked about the excess MSR market, we feel that there is still plenty of room for us to grow the banks are starting to sale more assets as the regulatory environment is starting to evade a bit and we are very, very encouraged by our recent purchases of $30 billion of MSRs in Q1 and we feel like on a go forward basis we are going to be able to continue to work with the banks and acquire plenty more MSRs on a go forward basis. Page 9, we have our servicer advances with the performance update as I pointed out our initial investment was $313 million which represented a 45% interest in a pool of $5.2 billion of non-agency servicer advances we have received $178 million of cash flow back and our current carrying value was approximately $204 million and our resulting life-to-date IRR has been 42%. So terrific performance on those investments. If you flip to Page 10, this is our non-agency portfolio, the results have been terrific. If you start with the top-line in 2014 we executed we called 60 deals in the non-agency market and not only we add gains in those deals from the bonds that we held in portfolio those gains or accretion from our cost basis to far resulted in gains of $12 million on those associated deals. So as I pointed out again earlier, on our non-agency portfolio our strategy is to own non-agency securities where we own the associated call rights so we are hopeful in ’15 and on a go forward basis we are able to monetize bonds at a discount and see those up to par. Our current carrying value now on the $1 billion that we have in our portfolio or $0.75 on a dollar. Page 11, what we tried to do is layout how the deal collapse opportunity works. So if you take a look at that page we buy underlying bonds at a discount which [indiscernible] paid off at par, we exercised a clean-up call purchasing the loans at par plus expenses, we then sell or re-securitize the performing loans at a premium and then we retained the distressed loans which get modified or liquidated over time. So it’s a very important part of our core strategy and if you take a look at the bottom part of page 11, the current population of callable loans today is $9.3 billion and I will caveat that we cannot call all of those loans or securities today as the delinquency profile on each underlying pool of mortgages is different. So as the delinquency profiles or as delinquencies decrease you could expect us to be able to call more securities and then what we try to do is layout on the bottom of the page as we think about on a go forward basis what we are going to be able to call. Page 12, if you take a look at our 2015 and go forward what I want to point out is again the MSR markets are open so we are very encouraged about our ability to grow our MSR portfolios. As we mentioned on Monday we announced an agreement with HLSS to do a merger, we are very much encouraged by that. We committed to purchase 30 billion again of UPB of legacy excess MSRs and we agreed to sale our Resi loans generating a 30% return. We see the estimated MSR pipeline currently at approximately $150 billion. We expect the MSR market to remain active because banks are selling we are also starting to see some of the non-bank sale. We see additional opportunities from our non-agency deal collapses and then more importantly we want to continue to simplify our message around our business, focus on our three course segments. Finally our portfolio is very well positioned in this interest rate environment as we think about at some point as the [Fed] going to start raising rates the value of our holding should increase. Now before I discuss our acquisition of HLSS, I just want to talk a little bit about it and then we put in a couple of pages on the flipbook. As I pointed out in my opening remarks we'll answer whatever questions we can but we are restricted a little bit in what we could say. The merger with HLSS for us is a terrific one and it adds to our portfolio of MSRs and advances. As far as HLSS' balance sheet it's pretty simple and very similar to ours. It's really MSRs and the associated servicing advances. The combination of our two companies gives us great scale in MSRs and advanced investments and allows us to simplify our company focusing on our core segments which I stated again MSRs, advances, and non-agency securities with call rights. We feel this strategy will enable us to lower our cost of funds in our dividend yield. If you look at where HLSS has traded over the course of the past couple years if you assume a dividend yield of approximately 8% which is a target for us a similar result would result in a stock price north of $20 a share. So with that if you flip to the two pages on HLSS we'll talk about our strategy and why we think it's good for our company. Then what we did is we put in a one page sheet on what the combined balance sheet will look like and then we'll open it up for questions. For us it gives us the ability to diversify our servicer relationships with Nationstar as our primary partner it's always good to have another servicing relationship and Ocwen is one of the largest non-bank servicers in the U.S, so having both Nationstar and Ocwen gives us a little bit more bandwidth and the ability to acquire for MSRs. We want to continue to grow our servicing asset portfolio as a result this merger gives us an extra 165 billion UPB of MSRs and that takes again towards our 400 billion UPB of MSRs. And what we really think most importantly to our shareholders it will be beneficial for long-term earnings growth, its core to our investment strategy and we expect the acquisition to be accretive to our earnings. If you flip to page 15, this is really the combined balance sheet. I know there is a lot of large numbers on here but the way I would think about it is HLSS is a company again that has two loan portfolios of which one was sold and there was a case filed on that on Monday, so there is this another small loan portfolio of early buyout loans which are government guaranteed and then there is servicing advances and MSRs. For us we'll have servicing advances, MSRs, I pointed out earlier our loan portfolio will be more opportunistic in nature and take on a smaller importance on a go forward basis. And then the other part of our business will be non-agency mortgage securities with the associated call rights. So with that I will turn it over to the operator and we will open up for questions.

[Operator Instructions] Our first question comes from the line of Bose George with KBW.

Actually the first question is just on the HLSS the debt equity mix on the HLSS transaction. And actually when I look at slide 15 -- I actually -- can we infer from that just what the mix is going to be for the deal?

Yes. I mean basically what this really is, is our balance sheet as of Q4 and their balance sheet as of Q3. So what we tried to do is just lay it out on one page, so you can just, you could have an view as to what the combined company would look like.

And I mean in terms of when you referred to the -- actually on your previous calls you may have talked about self-funding does that include any capital from Fortress or other sources or is it basically debt and equity that's going to be issued by NRZ?

When we said on a call we have enough funds to self-fund the transaction, we could do that with our own balance sheet. And I think [bodes] for now that's the way that we are approaching it and then we will update you down the road as far as how we're thinking about it. But we can sell funds -- we can self-fund with our own balance sheet.

Okay. Actually just switching over to the quarter -- actually how much was the MSR -- negative MSR mark in the quarter?

It was pretty flat it was down marginally it was down a couple of million dollars but overall it was pretty flat.

And then just one more. On the consumer finance the refinancing you guys did in the fourth quarter was their gain that went through GAAP as well as looking forward I think probably a little bigger gain. What happened -- can you just discuss the gain on that refinancing?

Hi this is John Brown. So we had a gain that was expected on the refinancing but we had some offsetting losses on some economic hedges that were reported in the quarter. Those are primarily offset by gains on some assets that were sold in the first quarter, so you will see a flip of that in the first quarter.

Okay. And those would be -- these assets sold those are unrelated to the consumer finance portfolio is something else?

Correct.

Okay. But so the gain that we should have expected in 4Q we'll see coming in 1Q?

Partially you saw in 4Q and partially you will see it in 1Q.

Actually, great can I just throw in one quick additional one, the 12% to 15% -- actually you guys gave a 15% to 20% return on expected return on the MSRs and Nationstar yesterday mentioned a 12% to 15%. Is a difference there that you position the excess gives you a better return just curious how do you tie the two numbers?

I think the recent purchases we are estimating along with our partners at Nationstar a 12 to 15 type return. However if rates do rise and we do believe rates are going to rise and the fed is going to increase rates we believe we will have some upside on those portfolio. Keeping in mind in our existing portfolio of $249 billion for the part of our legacies so they are going to be fairly immune from a rallying rates and we do think they are going to be benefit from a risen rate. And there is life-time return on that portfolio buzz is 29%. So overall we are still pretty comfortable with our projection of a 15% to 20% life-time return.

Your next question comes from the line of Paul Miller with FBR Capital Markets.

Hey Mike can you talk going back to self-funding the portfolio and you said your update is down the road, what were -- how you thinking about this -- why would you issued if you could self-fund it now, why would you issued debt or capital down the road or would it be mainly because you are seeing better opportunities?

Paul you know our balance sheet, you know kind of what we've done I think over the course of the past couple of years. We think we have lots of options. And you can speculate and I think I mentioned to you everything on the phone we just can’t really get into how we are thinking about all of our options right now. We have pulled some loans which have raised some cash, which are kind of non-core investments; we've sold some other non-agency securities that are where we didn’t know the associated call rights. So you couple that with what we think our options are, I think we have plenty of options to do this. I know it doesn’t help you Paul.

So when can you fill us in with more detail about this. I mean after the HLRS release earnings or this is just down the road as you guys take a look at this?

It’s really down the road. Clearly we still have to close on the transaction, so I would expect it's going to be some time.

Your next question comes from line of Henry Coffey with Sterne Agee.

Well in addition to answering Paul’s question I think we all want to know what a post merge company looks like. You now have -- there are actually about when I looked at the BFA deal from years ago and turned out they are like actually six or seven special servicers out there that picked up those BFA assets on that basis. So now you have two vendors managing your business. What kind of dialogue is going to go on between your company and Ocwen in terms of what they need to deliver and what you can do about it? Now it really is a vendor relationship. They obviously need to get the servicer advances lower. What’s the dialogue going to be going forward?

It’s going to be a very -- we hope it would be a very cooperative one. We would hold our servicer as with our partner Nationstar we would hold -- we would have a hopefully a terrific relationship with Ocwen we would hold them to the highest standards of servicing, but we think they are a good servicer and that’s one of the reasons why we are entering into this transaction. You know this merger with --

Are there any impairments do you for example bring in a third-party or another party so you can have a champ your challenge environment every month making sure that everyone -- Nationstar, Ocwen whoever else you bring into the equation are all delivering the highest returns for NRZ.

Yes, I think a lot of that stuff is already built in, working with the two largest non-bank servicers in the business having an MSR portfolio of north of $400 billion I think it puts us in a very, very good spot. To the extent there are other things that we could do down the road obviously we would do that. But I think we are pretty comfortable with Ocwen we are comfortable with Nationstar and we look forward to working with both in a very collaborative way.

What is your assessment about what it really cost it service and non-agency portfolio right now, in terms of however you want to express it basis points?

Hen from the delinquencies in the portfolio and I think listen certain servicers will be more low cost than others but I think it depends on the delinquencies in the portfolio.

And then a simple question in terms of your actual cash balances, I saw one -- you got over 289 I think, I didn’t write them, 212 million cash and then you are using 90 in your example. What are your current cash resources in terms of on balance sheet cash and assets you could sell and then I just had other last question.

I will start with the [12/31] question. So we had 230 million of cash in our GAAP balance sheet that includes like 60 million of cash that is in the servicer advance deal and it also includes 55 million that's reserved to pay off the dividends on January 31. So when you adjust those out that's how you get to 99 million that's in the presentation. And as far as our current liquidity obviously we sold some assets since year-end [indiscernible].

And then the last question. You know there is the whole issue of [indiscernible] compliance which involves a lot of specialized [reflectors] to hold the assets, the hold agency bonds basically. Are there -- I know there are things you can do to mitigate that but I have never had those articulated, so maybe you can give us some sense of what you might be able to do to continue to reduce the requirement that you hold agency mortgages?

Yes I think those for us we're always evaluating different things but we always want to be obviously compliant with REIT rules and REIT requirements. I think at this point we have some agency pools on our balance sheet. As we stated in the past we do not make big duration bets on our agency portfolio, so I would kind of leave it at that.

Your next question is a follow-up from Bose George with KBW.

Actually I missed the answer to Henry's second question just on the current liquidity that’s available?

So, yes I mean we had the 99 million that Mike was talking about and then we have sold assets since year-end, we have a significantly larger cash balance now that we're going to disclose the exact amount but we're feeling very good about our liquidity.

Actually in terms of the servicing advance facilities is there a way to think about how much liquidity can be freed up by optimizing those more effectively either at HLSS or NRZ?

Sure on the NRZ side, our LTVs are a little bit north of 90%, if you look on the HLSS side their LTVs are approximately 85%, I think that's probably a fair way to think about that Bose -- not everything is apples to apples but the portfolios are fairly similar and on the non-agency side or the PLS side so I think that would be a good place to start.

And then just in terms of counterparty risk on the HLSS transaction, now how do you think about this growth in terms of servicing advance funding issue, actions by bondholders anything else just how would you characterize how you are viewing that risk?

I think nobody ever said the mortgage market was easy. I'll start with that comment. But we are the funder to Ocwen or to Nationstar on servicing advances. So we have very, very strong relationships with all of our lending counterparties which are typically the very large banks. So we feel good about that. As it relates to bondholder stuff and other things I just -- all that stuff is -- there is a lot of speculation -- we will continue to work with everybody to make sure that we have a very sound and safe mortgage market as we are very big capital provider to the mortgage market not just on servicing advances and MSRs but also on bonds. So I think that's the way we will think about it.

And then just one last one. In terms of HLSS having the rights to the MSRs versus being the main servicer does that need to change or does it make any difference as you -- as the merger takes place?

No it doesn't need to change Bose.

Your next question comes from Kenneth Bruce with Bank of America, Merrill Lynch.

I guess and I am sorry if this was addressed on Monday -- Monday seems like a long time ago already. In terms of the call rights you pointed out that you look for bonds where basically you would have the call rights. And in case of HLSS and Ocwen I think Ocwen has basically 0.22 call rights strategy as well and I am wondering who do you think owns the call rights in the context of HLSS?

I think it varies but it's our belief that the majority are owned by Ocwen.

At this time there are no additional questions. I will turn it back over to Mike for closing remarks.

Thank everyone for calling in. A lot of exciting time for us and we appreciate all your support. Have a great weekend.

Thank you. This concludes today's conference call. You may now disconnect.