Tree.com, Inc. (LendingTree) — Q1 2012 Form 10-Q
Business context and reporting period. The filing covers the three months ended March 31, 2012. Tree.com’s continuing business is its Exchanges operation, which connects consumers with lenders and other service providers. LendingTree Loans and the former Real Estate businesses are reported as discontinued operations. The company had agreed to sell substantially all LendingTree Loans operating assets to Discover; the deal remained pending at the filing date.
Financial performance and position
| Metric | Q1 2012 | Q1 2011 / comparison |
|---|---|---|
| Continuing-operations revenue | $13.2 million | $13.9 million; down 5% |
| Operating loss | $5.3 million | $15.7 million loss |
| Net loss from continuing operations | $3.3 million | $16.1 million loss |
| Net income (loss) attributable to common shareholders | $14.1 million | $39.5 million loss |
| Adjusted EBITDA, continuing operations | $2.5 million loss | $8.4 million loss |
| Continuing operating margin | (40)% | (113)% |
| Cash and cash equivalents at March 31 | $59.0 million | $45.5 million at December 31, 2011 |
| Restricted cash at March 31 | $14.9 million | $12.5 million at December 31, 2011 |
Continuing-operations operating cash use was $4.8 million, versus $10.5 million a year earlier; investing cash use was $3.0 million and financing cash use was $0.8 million. Consolidated cash increased $13.4 million in the quarter, including $22.0 million of net cash provided by discontinued operations. No clear total debt figure for continuing operations is provided. LendingTree Loans, classified as discontinued, had $142.2 million outstanding on warehouse lines at March 31, down from $197.7 million at year-end; these lines were secured by loans held for sale.
Discontinued operations contributed $17.4 million of net income, versus a $23.4 million net loss in Q1 2011. LendingTree Loans revenue was $50.9 million, compared with $19.3 million, and its net income was $17.5 million, compared with a $7.3 million loss. The consolidated profit therefore does not reflect profitable continuing operations.
Material changes versus prior period
- Continuing revenue fell modestly, but operating loss improved by $10.5 million as total continuing costs and expenses fell by $11.1 million.
- Selling and marketing expense declined 31% to $10.7 million; advertising expense declined 38%. Management attributed lower spending to the low-rate environment and improved marketing efficiency.
- Match-fee revenue declined 2% despite matched requests increasing 7%; mortgage match fees were pressured by an 18% fall in average fee per mortgage match.
- Q1 2011 included $4.7 million of continuing-operations litigation expense, versus $0.2 million in Q1 2012, contributing to the year-over-year loss improvement.
Outlook, risks, and unusual items
- Discover was expected to pay approximately $55.9 million in cash for LendingTree Loans assets, subject to closing conditions; management expected closing by mid-2012. Approximately $20.1 million of the purchase price was estimated to be held in escrow for actual or contingent liabilities. Discover generally would not assume pre-closing liabilities.
- After closing, LendingTree Loans was expected to stop originating loans, sell remaining loans, repay and terminate warehouse lines, and wind down. Tree.com would retain loan repurchase, indemnification, and premium-repayment obligations.
- The loan-loss reserve for previously sold loans was $33.5 million. The company estimated possible remaining losses of $30–$40 million and disclosed 340 pending repurchase or indemnification requests; actual exposure could differ materially.
- Warehouse-line availability was important to LendingTree Loans. Lines totaled $325 million of capacity, had varying near-term expirations, and one covenant reporting violation had been waived. Reduced availability or failure to renew or replace lines could materially affect operations and liquidity.
- Management cited mortgage-rate and housing-market volatility, seasonality, and the possibility that a failed or delayed sale could require working-capital actions or external financing. No quantitative full-year earnings guidance is provided.
- Q1 2012 consolidated net income included significant gains on discontinued-operations derivatives: $46.9 million recognized for interest-rate lock commitments and forward delivery contracts. Fair-value estimates include significant unobservable inputs.
- Disclosure controls were deemed ineffective because of material weaknesses in income-tax accounting oversight and impairment testing of indefinite-lived intangibles. Management described remediation steps, but acknowledged they might not be sufficient. A prior $29 million impairment was restated into Q2 2011.
- Litigation accruals were $2.2 million at March 31. A previously disclosed California class-action matter was scheduled for trial in April 2013; the filing reported no material developments in the quarter.
Important facts for investors to verify
- Whether the Discover transaction closed on the expected timetable, the final proceeds and escrow amount, and any retained liabilities.
- Whether continuing Exchanges operations can improve profitability and cash generation, given the Q1 operating loss and ongoing marketing and general costs.
- Whether warehouse facilities remained available through closing and whether covenant compliance and liquidity were maintained.
- How actual loan repurchase and indemnification claims compare with the $33.5 million reserve and the estimated $30–$40 million possible-loss range.
- Whether the disclosed internal-control weaknesses were remediated, and whether tax and intangible-asset accounting estimates require further adjustments.
- The extent to which discontinued-operations earnings depended on fair-value derivative gains and other volatile mortgage-related items.