Orchid Island Capital, Inc. — Q1 2015 Form 10-Q
Reporting period: Three months ended March 31, 2015; balance-sheet comparisons are to December 31, 2014. Orchid is an externally managed mortgage REIT investing primarily in agency residential mortgage-backed securities (RMBS), funded largely through short-term repurchase agreements.
Financial performance and position
| Metric | Q1 2015 / March 31, 2015 | Comparable period / prior year-end |
|---|---|---|
| Interest income | $14.6 million | $3.8 million in Q1 2014 |
| Interest expense; net interest income | $1.3 million; $13.3 million | $0.4 million; $3.4 million in Q1 2014 |
| Economic net interest income (non-GAAP) | $13.0 million | $3.3 million in Q1 2014 |
| Net portfolio income | $7.3 million | $4.1 million in Q1 2014 |
| Operating expenses | $1.7 million | $0.5 million in Q1 2014 |
| Net income; diluted EPS | $5.5 million; $0.33 | $3.6 million; $0.71 in Q1 2014 |
| Dividends declared | $0.54 per share for Q1 | $0.54 per share in Q1 2014 |
| Total assets; stockholders’ equity | $1,770.8 million; $230.7 million | $1,657.8 million; $218.1 million at year-end 2014 |
| RMBS at fair value | $1,676.6 million | $1,549.2 million at year-end 2014 |
| Repurchase agreements | $1,459.5 million | $1,436.7 million at year-end 2014 |
| Cash and cash equivalents | $78.1 million | $93.1 million at year-end 2014 |
| Cash flow from operations | $(2.4) million | $0.1 million provided in Q1 2014 |
Average RMBS yield was 3.62%, GAAP funding cost was 0.36%, and net interest spread was 3.26%. Including the period’s hedge effects, economic funding cost was 0.44% and economic spread was 3.18%. These are reported portfolio measures, not conventional corporate operating margins. Repo debt was approximately 6.3 times period-end equity; the company’s assets were approximately 7.7 times equity.
Material changes and drivers
- Net income rose by $1.9 million year over year, while EPS fell from $0.71 to $0.33 as weighted-average shares increased from 5.1 million to 16.8 million following equity offerings.
- Interest income increased $10.8 million, primarily reflecting a substantially larger leveraged RMBS portfolio funded with capital raised in 2014 and 2015; average portfolio yield also rose from 2.75% to 3.62%.
- Derivative losses increased to $12.4 million from $1.7 million, chiefly losses on Eurodollar futures. RMBS gains were $6.3 million, including $6.3 million of unrealized gains and a small realized loss. Thus GAAP net interest income does not include all derivative effects; economic measures incorporate selected current-period hedge effects.
- Total expenses increased $1.2 million, including higher management fees, incentive compensation and administrative costs. Management fees and reimbursed costs are paid to affiliate Bimini Advisors.
- The March 2015 at-the-market equity program raised about $16.0 million net through quarter-end; the company reported 18.3 million shares outstanding on April 28. Additional post-quarter share sales raised about $5.1 million net.
- Operating cash flow was negative despite positive net income; investment purchases and sales, principal repayments, repo financing activity and equity issuance drove overall cash movements.
Liquidity, outlook and risks
- Management said available liquidity and capital resources were sufficient for investment activity, debt repayments and dividends as needed for REIT qualification. In addition to $78.1 million cash, the company reported $129.7 million of unpledged RMBS; that amount included unsettled purchases expected to be pledged after settlement.
- Repo borrowings had a 0.36% weighted-average rate, 22-day weighted-average remaining maturity and 5.4% weighted-average collateral haircut. The company reported $92.7 million maximum counterparty exposure under repo arrangements. It said it had maintained comparable repo terms through April 28, 2015, with maturities extending to July 27.
- No earnings or dividend guidance was provided. Management intended to continue monthly dividends and repo-based financing. A $0.18-per-share April dividend was declared after quarter-end and is not included in March 31 financial statements; the filing’s Q1 financial statements report $0.54 per share for the quarter.
- Key exposures include changes in interest rates and yield curves, mortgage prepayments and extension, mortgage spread widening, short-term funding availability and haircuts, margin calls, derivative performance, and counterparty default. Agency guarantees are not backed by the full faith and credit of the U.S. government; potential housing-finance reforms could affect Agency RMBS markets.
- Interest-rate sensitivity estimates are model-based and assume a static portfolio and unchanged mortgage spreads. The filing estimates a 3.16% reduction in equity value for a +100-basis-point shock and a 6.97% reduction for a −100-basis-point shock at March 31; actual outcomes could differ materially.
- The filing reported no material pending legal proceedings, no known contingencies, no material off-balance-sheet arrangements, and no material changes to previously disclosed risk factors. Management concluded disclosure controls were effective.
Investor verification priorities
- Reconcile the Q1 dividend figure of $0.54 per share with the separate dividend schedule, which also lists the post-quarter April declaration and totals $0.72 for declarations shown.
- Assess the sustainability of earnings and monthly distributions after accounting for derivative losses, share issuance and the distinction between GAAP and non-GAAP economic net interest income.
- Review refinancing and margin-call resilience given short repo maturities, leverage, collateral haircuts and unpledged securities that include unsettled purchases.
- Verify assumptions behind mortgage prepayment, fair-value and interest-rate sensitivity estimates, particularly the modeled losses under both rising- and falling-rate scenarios.
- Monitor further equity issuance, resulting dilution, affiliate management costs, and developments in Fannie Mae and Freddie Mac reform.