Walker & Dunlop, Inc. — Q3 2014 Form 10-Q
Business context and reporting period. The filing covers the quarter and nine months ended September 30, 2014, with comparisons to 2013. Walker & Dunlop originates, brokers, sells, and services commercial real estate loans, with a focus on multifamily financing through Fannie Mae, Freddie Mac, and HUD programs. Unless otherwise noted, financial amounts below are in millions of dollars.
Financial performance and condition
| Metric | Q3 2014 | Q3 2013 | Nine months 2014 | Nine months 2013 |
|---|---|---|---|---|
| Revenue | $98.1 | $73.7 | $248.2 | $233.6 |
| Income from operations | $24.5 | $12.7 | $57.3 | $48.8 |
| Net income | $15.1 | $8.1 | $35.2 | $30.3 |
| Diluted EPS | $0.47 | $0.23 | $1.08 | $0.88 |
| Operating margin | 25% | 17% | 23% | 21% |
| Net warehouse interest income | $5.0 | $1.8 | $11.2 | $5.2 |
- Revenue drivers: Mortgage banking gains were $63.3 million in Q3, up 40%, as loan originations increased 77% to $3.1 billion. For the nine months, mortgage banking gains were $150.1 million, down slightly from $151.3 million; higher origination volume was offset by lower origination-fee and mortgage-servicing-rights (MSR) rates.
- Servicing fees increased 9% to $25.0 million in Q3 and 9% to $72.3 million for the nine months, reflecting portfolio growth. Total servicing portfolio was approximately $41.2 billion at September 30.
- Personnel expense rose 35% to $41.9 million in Q3, mainly from origination commissions; nine-month personnel expense increased 4% to $100.5 million. Corporate debt interest expense increased to $2.6 million in Q3 and $7.8 million for the nine months.
- At September 30, total assets were $1.654 billion, cash and cash equivalents $84.6 million, restricted cash $19.7 million, and stockholders’ equity $408.1 million. Loans held for sale were $788.3 million; loans held for investment, net, were $205.1 million. MSRs had a $352.7 million carrying value; disclosed fair value was $436.4 million.
- Warehouse notes payable were $891.0 million and the term note carrying balance was $172.1 million. The term loan’s outstanding principal was reported as $173.7 million. The company reported compliance with debt covenants.
- Operating cash flow was negative $471.9 million for the nine months, versus positive $751.1 million in 2013, primarily reflecting the timing and net funding of loans originated and sold. Excluding cash flows from loan purchases and sales, operating cash flow was positive $23.7 million. Investing cash flow was negative $72.5 million; financing cash flow was positive $458.5 million. Cash declined $86.0 million from year-end 2013.
Material changes versus prior period
- Q3 originations rose to $3.124 billion from $1.763 billion; nine-month originations rose to $7.092 billion from $6.054 billion. Growth was principally in Fannie Mae and Freddie Mac lending.
- Interim loan originations were $229.9 million for the first nine months, versus $138.6 million a year earlier; the interim loan balance reached $207.2 million.
- Expenses grew more slowly than revenue for the nine months, and operating margin improved to 23% from 21%. Q3 operating margin rose to 25% from 17%.
- Share repurchases included a first-quarter purchase and retirement of 2.5 million shares from a large stockholder for approximately $35.5 million. The company had 31.812 million shares outstanding at September 30.
Outlook, commentary, risks, and unusual items
- Outlook: No specific earnings or revenue guidance was provided. Management expected GSEs to remain active and competitive for originations through the remainder of 2014 and into 2015, and anticipated continued growth in transitional lending. It expected HUD originations to remain challenging. Management cautioned that results fluctuate and interim results are not necessarily indicative of full-year results.
- Management described improving multifamily fundamentals but intense lender competition, low 2014 mortgage maturities, and an expected 2015–2017 maturity wave. Competition was pressuring origination fees and MSR rates. Reduced GSE or HUD originations could disproportionately lower non-cash mortgage-banking revenue.
- MSR valuation is sensitive to assumptions: a 100-basis-point increase in the discount rate would reduce estimated MSR fair value by $13.9 million. A 100-basis-point LIBOR increase was estimated to reduce annual net warehouse interest income by $3.9 million, while increasing annual escrow earnings by about $10.0 million.
- The maximum quantified exposure on Fannie Mae DUS risk-sharing guarantees was $3.836 billion; the filing emphasizes this is a worst-case measure, not expected loss. The risk-sharing allowance was $3.9 million, and no at-risk loans were 60 or more days delinquent at September 30. The company expects to fund a further $34.1 million of restricted liquidity over 48 months, assuming no portfolio paydowns, prepayments, or defaults.
- Reported operational liquidity at the operating subsidiary was $124.8 million against an $18.2 million requirement. The subsidiary’s reported net worth was $313.5 million against a $94.3 million requirement.
- Two lawsuits were disclosed, with no loss reserves recorded because management did not consider a loss probable. In the Capital Funding matter, a $1.8 million judgment against Credit Suisse affiliates remained on appeal; the company cited an indemnification arrangement, but noted potential interim defense costs. CA Funds Group seeks a $5.1 million placement fee plus interest and costs; discovery was ongoing.
- After quarter-end, the company completed its acquisition of Johnson Capital on November 1 for $18.0 million cash and common stock valued at $6.6 million. Purchase accounting and pro forma results were not yet available in the filing.
Important facts for investors to verify
- Whether origination growth and improved margins can persist as competition pressures fees and MSR values.
- Cash-flow trends after the substantial loan-funding-related operating cash outflow, and the availability and renewal terms of warehouse facilities.
- Actual credit losses and liquidity needs under DUS risk-sharing compared with the filing’s maximum-exposure figures.
- MSR valuation assumptions, prepayment experience, and the sensitivity of earnings and equity to interest rates.
- Developments in the two pending lawsuits and final accounting, integration costs, and results for the Johnson Capital acquisition.