Velocity Financial, Inc. — Q3 2021 Form 10-Q
Reporting period: Three and nine months ended September 30, 2021. Amounts below are in U.S. dollars; financial statement amounts are converted from thousands to millions unless noted.
Business context
Velocity originates and manages investor real estate loans secured by residential rental and small commercial properties, funding its portfolio primarily through securitizations, warehouse facilities, corporate debt and equity. At quarter-end, its loan portfolio had $2.27 billion unpaid principal balance (UPB) across 6,430 loans in 45 states and the District of Columbia. Average loan size was approximately $353,000 and weighted average loan-to-value at origination was 67.2%.
Financial results and position
| Metric | Q3 2021 | Q3 2020 | Nine months 2021 | Nine months 2020 |
|---|---|---|---|---|
| Interest income | $46.9m | $41.4m | $132.6m | $125.8m |
| Net interest income | $22.1m | $17.1m | $54.7m | $49.2m |
| Net income | $8.0m | $3.5m | $20.9m | $8.2m |
| Net income attributable to common stockholders | $5.0m | $3.5m | $13.0m | $(40.8)m |
| Basic / diluted EPS | $0.25 / $0.23 | $0.17 / $0.11 | $0.65 / $0.62 | $(2.03) / $(2.03) |
| Operating cash flow | — | $39.6m | $37.4m |
The nine-month 2020 common-stockholder loss included $49.0 million of deemed preferred-stock dividends; it did not represent an equivalent net-income loss.
- Margins and funding costs: Q3 portfolio yield was 8.77%, versus 8.21% a year earlier and 8.90% in Q2 2021. Portfolio-related net interest margin was 4.97%, up from 3.77% year over year and 4.83% sequentially. Total-company net interest margin was 4.13%, versus 3.39% a year earlier.
- Credit provision: Q3 provision for loan losses was $0.2 million, versus $1.6 million in Q3 2020. For the first nine months, the company recorded a $0.7 million reversal, compared with a $4.7 million provision in 2020. The allowance was $4.0 million, or 0.18% of relevant loan UPB.
- Balance sheet and debt: Total assets were $2.46 billion, total liabilities $2.12 billion, stockholders’ equity $242.2 million and preferred stock classified as $90.0 million of mezzanine equity. Net balances were $1.62 billion securitizations, $258.5 million warehouse and repurchase facilities, and $163.4 million secured corporate financing. Unrestricted cash was $35.5 million; restricted cash was $9.6 million.
- Cash flows: For the nine months, investing activities used $316.3 million, primarily reflecting loan originations; financing activities provided $301.5 million. Cash, cash equivalents and restricted cash increased $24.8 million to $45.1 million.
Material changes versus comparable periods
- Q3 net income rose to $8.0 million from $3.5 million, supported by higher portfolio balances and yield, lower portfolio-related interest expense, loan resolutions and lower credit provision. Nine-month net income increased to $20.9 million from $8.2 million.
- Q3 originations were $340.7 million, compared with $8.1 million in Q3 2020, when production was restarting after a temporary COVID-related suspension. Originations increased 32.8% from Q2 2021.
- Portfolio UPB increased from $1.93 billion at December 31, 2020 to $2.27 billion at September 30, 2021. Nonperforming loans were reported at $288.4 million, or 12.7% of portfolio UPB, down from $332.8 million, or 17.1%, at year-end 2020.
- In February 2021, the company issued a $175 million five-year term loan, using part of the proceeds to repay the remaining $78 million 2019 term loan. Q3 corporate-debt interest expense was $4.5 million, up from $1.9 million a year earlier; nine-month expense also included $2.9 million of debt-cost write-off and a $1.6 million prepayment fee tied to the refinancing.
- Operating expenses declined to $11.3 million in Q3 from $11.9 million, and to $32.6 million for the first nine months from $34.8 million, principally reflecting lower compensation and professional fees.
Outlook, risks and unusual items
- The filing gives no specific earnings, origination or margin guidance. Management says future results remain subject to uncertainty around COVID-19, including variants, economic conditions and effects on borrowers, employees and vendors.
- COVID-19 forbearance loans totaled $319.7 million UPB at quarter-end; 78.2% were performing/accruing and 21.8% were nonperforming/nonaccrual. Management used an adverse COVID stress scenario with a six-quarter forecast period in its credit-loss estimate, citing lingering pandemic and economic risks.
- Funding and credit risks include dependence on securitization and warehouse markets, variable-rate LIBOR-linked borrowings, lender covenants and collateral requirements, borrower defaults, and real-estate collateral values. The company reported covenant compliance at September 30, 2021. Warehouse and repurchase facilities had approximately $393 million of available capacity, per MD&A.
- The loan portfolio is concentrated in investor 1–4 unit properties (50.6% of UPB) and in California (23.2%), New York (22.1%) and Florida (13.3%).
- After quarter-end, on October 8, 2021, the company converted all 45,000 Series A preferred shares into 11.69 million common shares; the $90 million mezzanine-equity amount was to be reclassified to stockholders’ equity. On October 22, it completed a $204.5 million loan securitization. The ATM program permits up to $50 million of gross sales, subject to a 4 million share limit; Q3 sales were 10,727 shares for net proceeds of approximately $0.14 million.
- Management stated pending litigation was not expected to have a material effect. The filing reports no material change in internal control over financial reporting and says disclosure controls were effective.
Important facts for investors to verify
- Whether the improvement in nonperforming loans and credit costs is sustained, particularly as forbearance loans exit assistance programs.
- How loan-resolution recoveries, default interest and prepayment fees contribute to portfolio yield and earnings over time.
- Availability and cost of securitization and warehouse funding, covenant headroom, and exposure to LIBOR-linked rates.
- The impact of the preferred-stock conversion and resulting common-share dilution, along with any future ATM issuance.
- Whether regional and property-type concentrations, collateral valuations and economic conditions affect loan performance or the allowance for credit losses.