Pennymac Financial Services, Inc. annual report, FY2022

PennyMac Financial Services, Inc. — FY2022 Form 10-K

Business context and period. This annual report covers the fiscal year ended December 31, 2022; it is not a standalone fourth-quarter report. PennyMac is a mortgage finance company with production, servicing, and investment management segments. It originates and purchases residential loans, services loans for itself and others, and manages investments for PennyMac Mortgage Investment Trust (PMT).

Financial and operating performance

Amounts are in U.S. dollars; financial figures are rounded.

Metric	FY2022	FY2021
Net revenues	$1.986 billion	$3.167 billion
Income before taxes	$665.2 million	$1.359 billion
Net income	$475.5 million	$1.003 billion
Diluted EPS	$8.50	$14.87
Adjusted EBITDA (non-GAAP)	$591.1 million	$2.041 billion
Operating cash flow	$6.033 billion	$2.563 billion

• Revenue fell 37% and net income fell 53% year over year. Net income margin was approximately 24.0%, compared with 31.7% in 2021. Adjusted EBITDA is a non-GAAP measure and should not be treated as discretionary cash flow.
• Production: segment revenue was $865.2 million, down from $2.307 billion; pretax income was $48.5 million, down from $1.044 billion. Loan production totaled $109.1 billion UPB, versus $234.6 billion.
• Servicing: segment revenue rose to $1.081 billion from $817.3 million; pretax income increased to $613.6 million from $306.7 million. Net loan servicing fees were $951.3 million, versus $183.0 million, reflecting materially different MSR valuation and hedging effects between years.
• Investment management: segment revenue was $40.1 million and pretax income was $3.1 million, down from $43.3 million and $8.1 million, respectively. No performance incentive fees were earned in 2022.
• At year end, the servicing portfolio totaled $551.7 billion UPB, up from $509.7 billion. MSRs were carried at $5.954 billion, compared with $3.878 billion a year earlier.
• Operating cash flow was substantially affected by mortgage loan inventory movements; the filing identifies $5.677 billion of cash flow from loans held for sale. Investing cash flow was negative $721.6 million and financing cash flow was negative $4.323 billion. Cash and short-term investments were $1.341 billion at year end.
• Total debt was $7.011 billion, including $3.289 billion short-term and $3.723 billion long-term debt; total debt was $10.850 billion at year-end 2021. Debt-to-equity was 2.0x, versus 3.2x. Total assets were $16.823 billion and stockholders’ equity was $3.471 billion.
• Dividends declared were $0.80 per share, unchanged from 2021. The Company repurchased $406.1 million of stock in 2022; cumulative repurchases under the program were $1.717 billion through year end.

Material changes and management outlook

• Management attributed weaker production results to higher interest rates, lower refinance demand, reduced production volumes, narrower gain-on-sale margins, and lower EBO loan redelivery gains. Total UPB of loans purchased or originated for the Company and PMT fell by more than half.
• Servicing results benefited from lower expected prepayments and higher MSR fair value as rates rose. MSR fair value increased by $354.2 million net of cash-flow realization, while MSR hedging results were a loss of $631.5 million. These valuation and hedge movements make reported servicing income sensitive to market assumptions.
• The Company reduced expenses to reflect lower production activity. Total expenses declined to $1.321 billion from $1.808 billion, including lower compensation and loan origination costs; period-end headcount fell to 4,135 from 7,208.
• Management cited economists’ 2023 mortgage origination market estimate of $1.6–$1.9 trillion, compared with approximately $2.2 trillion in 2022, and expected some 2022 business trends to continue. This is market context, not company earnings guidance.
• Management stated liquidity was sufficient for current needs and reported compliance with applicable covenants and Agency capital and liquidity requirements as of December 31, 2022. The Company had $6.5 billion of additional secured borrowing capacity, subject to eligible collateral, facility terms, and other conditions. Many facilities are short-term and subject to renewal and margin calls.

Risks, contingencies, and unusual items

• Interest-rate and mortgage-market volatility can affect loan volumes, gain-on-sale results, MSR valuations, hedging costs, borrowing costs, and liquidity. A substantial portion of assets—57% at year end—was measured at fair value; $6.3 billion of total assets used Level 3 inputs involving significant unobservable assumptions.
• Funding depends on warehouse, repurchase, and other external financing arrangements. Debt is substantial, some borrowings carry variable rates, and collateral value changes can trigger margin calls or forced asset sales.
• The Company relies materially on PMT for loan purchases, fulfillment and subservicing activity, and investment management fees. Related agreements may be terminated or not renewed; key agreements extend to June 30, 2025, subject to renewal and earlier-termination provisions.
• Servicing advances, borrower delinquencies, defaults, EBO loan performance, Agency requirements, loan repurchase claims, and counterparties’ ability to honor obligations may affect cash needs and losses. The Company recorded a $32.4 million liability for representations-and-warranties losses and said it expects such losses to rise versus historical experience, while believing the recorded liability is adequate.
• As of year end, 1.3% of loans in the predominantly government-insured or guaranteed MSR portfolio were in forbearance plans and delinquent. Changes in borrower performance or servicing requirements could increase advances and servicing costs.
• Legal matters include a pending Black Knight dispute, which the Company says it intends to defend, and a pending CFPB NORA process concerning alleged RESPA and TILA violations from 2015–2016. The Company says the alleged violations were remediated and does not expect the matter to have a material adverse effect; outcomes remain uncertain. Management stated other ordinary-course proceedings are not expected to have a material adverse effect.
• The auditor issued an unqualified opinion on the financial statements and internal controls. MSR valuation was identified as a critical audit matter because it depends on significant judgments, including pricing spreads and prepayment assumptions. Management reported effective disclosure controls and internal control over financial reporting.
• Subsequent events included a $0.20-per-share dividend declared in January 2023, extension of $650 million of term notes originally due in February 2023, and renewal or extension of repurchase agreements maturing before the report date.

Investor verification priorities

1. Review quarterly results and loan production trends to assess whether the sharp production contraction and lower margins persisted into 2023.
2. Test MSR valuation sensitivity, hedge effectiveness, and cash-flow implications against changes in interest rates, prepayment speeds, servicing costs, and discount spreads.
3. Confirm liquidity, eligible collateral, borrowing availability, covenant headroom, facility renewals, and exposure to margin calls and near-term maturities.
4. Track servicing portfolio delinquencies, forbearance, servicing advances, EBO outcomes, and the adequacy of repurchase and indemnification reserves.
5. Monitor PMT relationship terms and concentration, as well as developments in the CFPB matter and Black Knight litigation.