Altisource Portfolio Solutions S.A. — Q3 2017 Form 10-Q
Business context and reporting period
Altisource is an integrated service provider and marketplace for the mortgage and real estate industries. This unaudited filing covers the three and nine months ended September 30, 2017; comparisons are with the corresponding 2016 periods. Effective January 1, 2017, the company reorganized reporting into Mortgage Market, Real Estate Market, and Other Businesses, Corporate and Eliminations; prior-period segment figures were restated.
Financial performance
| Metric | Q3 2017 | Q3 2016 | Nine months 2017 | Nine months 2016 |
|---|---|---|---|---|
| Revenue | $235.0 million | $252.7 million | $726.1 million | $758.7 million |
| Service revenue | $224.3 million | $239.8 million | $692.3 million | $715.4 million |
| Gross profit | $60.1 million | $78.7 million | $187.9 million | $241.4 million |
| Operating income | $13.5 million | $24.9 million | $41.1 million | $79.7 million |
| Net income attributable to Altisource | $7.0 million | $10.6 million | $22.5 million | $49.1 million |
| Diluted EPS | $0.38 | $0.54 | $1.20 | $2.49 |
| Operating cash flow | $34.6 million | $36.6 million | $47.1 million | $106.0 million |
For the nine months, gross margin was 27% of service revenue versus 34% in 2016; operating margin was 6% versus 11%. Q3 margins were 27% and 6%, respectively, versus 33% and 10% a year earlier. The filing attributes margin pressure chiefly to revenue mix, including growth in lower-margin property preservation and buy-renovate-sell activity and declines in higher-margin services.
At September 30, 2017, cash and cash equivalents were $114.1 million, available-for-sale securities were $46.0 million, and total current assets were $283.2 million. Current liabilities were $110.0 million. Long-term debt had a $425.1 million principal balance and $420.4 million carrying amount, including current debt; the loan rate was 4.74% and maturity is December 2020. Cash declined $35.2 million from year-end 2016. Nine-month investing outflow was $7.6 million and financing outflow was $74.7 million. Total assets were $596.4 million and equity was $64.1 million.
Material changes versus prior periods
- Nine-month revenue fell 4%, while service revenue fell 3%; Q3 revenue fell 7% and service revenue fell 6% year over year.
- Operating income declined 48% for the nine months, and Altisource-attributable net income declined 54%. Lower SG&A, including reduced marketing and intangible amortization, did not offset weaker gross profit.
- Mortgage Market service revenue was nearly flat for the nine months but Q3 was down 5%; the filing cites Ocwen portfolio runoff, partly offset by higher-fee preservation referrals and non-Ocwen business.
- Real Estate Market nine-month service revenue declined 6%, and the segment recorded a $19.3 million operating loss versus $3.5 million operating income a year earlier. Costs associated with buy-renovate-sell activity and lower higher-margin REO brokerage revenue weighed on results.
- Other Businesses, Corporate and Eliminations service revenue fell 28% for the nine months, principally due to reduced IT infrastructure work for Ocwen and lower customer relationship management revenue.
- Operating cash flow fell 56%. Management cites a $28.0 million net payment for a previously accrued litigation settlement, an $11.6 million increase in short-term real estate investments, and lower net income; higher receivable collections partly offset these uses.
- The company repurchased $50.1 million par value of term debt at a discount during the nine months, recording a $5.4 million gain, and spent $25.0 million on share repurchases. Debt principal fell from $479.7 million at year-end 2016 to $425.1 million.
Outlook, risks, contingencies and unusual items
No quantified financial guidance is provided. Management said existing cash and expected operating cash flows should cover working capital, capital expenditures, debt service and other needs for the next 12 months, while cautioning that plans may not succeed and operations may not be profitable. Expected next-12-month cash requirements include approximately $5.9 million of mandatory term-loan principal, $20.0 million of interest and $2.5 million of distributions to Lenders One members.
- Customer concentration: Ocwen represented 58% of consolidated revenue for both the nine months and Q3 2017. Ocwen is transferring certain non-GSE mortgage servicing rights to NRZ; Altisource expects NRZ could become its largest customer and potentially account for more than 50% of revenue over time. A definitive services agreement with NRZ had not been signed by the filing date; negotiations were extended, and there is no assurance an agreement will be reached.
- Ocwen-related exposure: Ocwen faces regulatory actions, litigation and servicing restrictions, including a transition away from Altisource’s REALServicing platform. Such developments could reduce Ocwen’s service purchases, affect pricing, or cause portfolio transfers and could materially harm Altisource. REALServicing generated $20.1 million of service revenue in the first nine months and was estimated by management to be at pretax break-even.
- Regulatory contingency: Altisource disclosed a CFPB Notice and Opportunity to Respond and Advise concerning alleged issues primarily involving technology services provided to Ocwen. The company said it was premature to estimate a potential financial impact; an enforcement action could materially adversely affect its business, reputation and results.
- Debt and market risk: The secured term loan has restrictive covenants and variable-rate exposure. A one-percentage-point increase in the Eurodollar Rate would increase annual interest expense by approximately $4.3 million, based on the September 30 balance. A one-percentage-point change in the Indian rupee versus the U.S. dollar would change annual expenses by approximately $1.1 million.
- Other items: The company recorded $5.4 million of nine-month gains on early debt extinguishment. It adopted stock-compensation guidance effective January 1, 2017, with a $0.9 million cumulative adjustment between additional paid-in capital and retained earnings. Management estimated that adopting the new revenue standard in 2018 would likely defer less than 3% of consolidated revenue, primarily software-development professional services.
Important facts for investors to verify
- Progress and final terms of the NRZ services agreement, MSR transfers, and the related brokerage arrangements.
- Ocwen’s share of revenue and the pace and economic effects of its regulatory proceedings, servicing-portfolio transfers, and REALServicing transition.
- Whether weaker gross and operating margins stabilize, particularly in Real Estate Market and lower-margin growth businesses.
- Operating cash flow, receivable collections, real estate investment balances, and cash available after debt service and buybacks.
- Term-loan covenant headroom, future debt repurchases, variable-rate interest exposure, and compliance with restrictions on repurchases and other payments.
- Developments in the CFPB inquiry and any other regulatory or litigation matters; the filing provides no clear estimate of potential losses from these matters.