Velocity Financial, Inc. — Q2 2023 Form 10-Q
Reporting period: Three and six months ended June 30, 2023. Financial statements are unaudited. Dollar amounts below are in millions except per-share data.
Business context
Velocity originates and manages investor real estate loans, primarily secured by residential rental and commercial properties, and earns most of its revenue from loan interest. It also operates Century, an FHA multifamily mortgage originator and servicer. At June 30, the loan portfolio had $3.72 billion in unpaid principal across 9,541 loans in 45 states and the District of Columbia; weighted-average origination LTV was 68.2%.
Financial performance and position
| Metric | Q2 2023 | Q2 2022 | Six months 2023 | Six months 2022 |
|---|---|---|---|---|
| Interest income | $74.9 | $59.2 | $145.4 | $111.3 |
| Net interest income | $25.3 | $26.3 | $49.7 | $37.7 |
| Provision for loan losses | $0.3 | $0.3 | $0.9 | $1.0 |
| Other operating income | $14.0 | $3.6 | $26.9 | $9.9 |
| Operating expenses | $22.2 | $14.8 | $44.0 | $27.7 |
| Net income | $12.2 | $10.8 | $23.0 | $14.0 |
| Diluted EPS | $0.36 | $0.31 | $0.67 | $0.40 |
- Q2 portfolio yield was 8.24%, while portfolio-related cost of funds was 5.58%. Portfolio-related net interest margin was 3.24%, down from 4.10% a year earlier; total-company net interest margin was 2.78%, versus 3.54%.
- At June 30, total assets were $3.95 billion, total liabilities $3.55 billion, and equity $405.2 million. Cash and cash equivalents were $34.0 million, with another $16.8 million restricted. Debt on the balance sheet totaled approximately $3.45 billion, including securitized debt, warehouse facilities and corporate debt.
- Six-month cash from operating activities was $32.4 million; investing activities used $212.6 million and financing activities provided $168.9 million. Cash, cash equivalents and restricted cash decreased by $11.3 million to $50.8 million.
- Management reported total liquidity and available warehouse capacity of $648 million: $34 million cash, $38 million available against unencumbered loans, $573 million warehouse capacity and a $3 million revolving line.
Material changes and unusual items
- Q2 net income rose year over year despite lower net interest income, as other operating income increased substantially. The increase included $2.4 million of unrealized gains on fair-value loans and $5.6 million of unrealized gains on fair-value securitized debt.
- Interest income increased with portfolio growth and a higher loan yield, but portfolio-related interest expense rose faster, reflecting higher balances financed and higher rates. Management attributed the year-over-year margin decline primarily to higher funding costs.
- Originations were $258.6 million in Q2, up from $217.0 million in Q1 2023 but down from $445.4 million in Q2 2022. The filing attributes the year-over-year decline to higher interest rates and strategically reduced originations.
- Beginning October 1, 2022, the company elected fair-value accounting for new originated mortgage loans; beginning January 1, 2023, it elected fair-value accounting for certain securitized debt. Fair-value movements affect reported income, and origination and securitization costs for these instruments are expensed as incurred. This reduces direct comparability with prior periods.
- During Q2, the company completed two securitizations, issuing $64.8 million and $202.2 million of securities. On August 2, 2023, after quarter-end, it completed another securitization of $85.9 million of loans.
- The company received approximately $4.2 million of employee retention credits in Q2, but deferred the net amount after specialist fees because uncertainty about the credit remained unresolved.
Outlook, risks and contingencies
- The filing provides no numerical earnings or origination guidance. Management expects to continue using securitized debt as a principal long-term funding source, while noting that market conditions could limit issuance and access to financing.
- Nonperforming loans increased to $371.2 million, or 10.0% of portfolio UPB, from $292.8 million, or 8.3%, at December 31, 2022; they were 8.2% a year earlier. Loans in the COVID-19 forbearance program totaled $181.9 million UPB, of which 23.9% were nonperforming or nonaccrual.
- The allowance for credit losses was $4.6 million, or 0.15% of non-fair-value loans’ UPB. Management used a severe-stress economic scenario in its allowance estimate and cited inflation, supply-chain disruption, recession concerns and the Russia/Ukraine war.
- Funding costs are exposed to floating rates on warehouse facilities. The 2013 repurchase facility had a September 29, 2023 maturity; several other warehouse facilities also have nearer-term maturities. The $215 million corporate term loan bears fixed interest at 7.125% and matures in March 2027. The company reported compliance with applicable debt covenants.
- Loans are concentrated in California (21.7% of UPB), New York (19.2%) and Florida (14.0%); investor 1–4 unit properties account for 54.2%. The company cited real-estate market stress, recession, competition and funding availability as risks. Management said pending legal matters were not expected to have a material effect.
Most important facts for investors to verify
- Whether nonperforming loans continue to rise, and how effectively the company resolves delinquencies and converts foreclosures or REO into recoveries.
- Whether portfolio yields can keep pace with higher warehouse and securitization funding costs, and the resulting effect on net interest margin.
- How much reported earnings depend on unrealized fair-value gains and whether those gains persist or reverse.
- Renewal, refinancing and covenant terms for warehouse facilities, including the 2013 facility’s stated September 2023 maturity, and continued access to securitization markets.
- Resolution of the deferred employee retention credit and performance of the post-quarter $85.9 million securitization.