Invesco Mortgage Capital Inc. — Q2 2013 Form 10-Q
Business context and reporting period
Quarter ended June 30, 2013; financial statements are unaudited. The externally managed REIT invests in agency and non-agency residential mortgage-backed securities (RMBS), commercial mortgage-backed securities (CMBS), and mortgage loans. It principally finances securities with short-term repurchase agreements and seeks shareholder returns mainly through dividends.
Financial performance and position
Amounts below are in U.S. dollars; balance-sheet and cash-flow figures are identified by period.
| Metric | Q2 2013 / June 30, 2013 | Comparable period / change |
|---|---|---|
| Interest income | $175.7 million | $139.0 million in Q2 2012 |
| Net interest income | $96.2 million | $82.3 million in Q2 2012 |
| Net interest margin | 1.59% | 1.88% in Q2 2012 |
| Net income attributable to common shareholders | $138.8 million; basic EPS $1.03, diluted EPS $0.95 | $78.8 million; basic and diluted EPS $0.68 in Q2 2012 |
| Core earnings (non-GAAP) | $79.8 million; $0.59 per share | $74.3 million; $0.64 per share in Q2 2012 |
| Common dividend declared | $0.65 per share | $0.65 per share in Q2 2012 |
| Total assets / total equity | $22.84 billion / $2.58 billion | Assets $18.91 billion / equity $2.59 billion at Dec. 31, 2012 |
| Book value per diluted common share | $17.88 | $20.83 at Dec. 31, 2012 |
| Cash and cash equivalents | $169.8 million | $286.5 million at Dec. 31, 2012 |
| Borrowings | $17.88 billion repos, $1.43 billion asset-backed securities (ABS), and $400 million exchangeable notes | Repos $15.72 billion; no ABS or exchangeable notes at Dec. 31, 2012 |
| Debt/equity ratio | 7.63x at period end | 6.30x at Dec. 31, 2012 |
For the six months ended June 30, 2013, net interest income was $189.1 million versus $169.0 million in 2012; common-shareholder net income was $222.8 million versus $161.9 million. Basic/diluted EPS was $1.69/$1.61 versus $1.40/$1.40. The six-month net interest margin was 1.61% versus 1.97%; average earning-asset yield was 3.23% versus 3.66%.
Six-month cash flows: operating activities provided $259.5 million; investing activities used $4.70 billion; financing activities provided $4.32 billion. Cash decreased $116.7 million from year-end. The company purchased $6.11 billion of MBS and $1.56 billion of residential loans during the period.
Material changes versus comparable periods
- Q2 common-shareholder GAAP earnings rose, but core earnings per share declined. The company attributed GAAP income growth mainly to a larger investment portfolio and gains on interest-rate swaps and swaptions; Q2 other income was $61.3 million versus $7.2 million a year earlier.
- Portfolio growth followed equity and debt issuance. In January, the company raised approximately $359 million net from a common-stock offering; it also issued $400 million of 5% exchangeable senior notes due 2018. Shares outstanding increased to 135.2 million from 116.2 million at year-end 2012.
- The company consolidated four residential-loan securitization trusts during the first half. At June 30, these VIEs held $1.55 billion of loans and had $1.43 billion of non-recourse ABS liabilities. A $663,000 loan-loss provision was recorded.
- Portfolio fair value increased to $19.81 billion from $18.47 billion at year-end, but net unrealized MBS losses and derivative gains/losses drove a $450.7 million six-month other comprehensive loss. Accumulated other comprehensive income moved from positive $86.4 million to a loss of $359.5 million; book value per share fell to $17.88.
Outlook, risks, and unusual items
- No specific earnings or dividend guidance was provided. Management said it intends to continue regular quarterly distributions and believed available cash flow and borrowing capacity could meet anticipated short-term liquidity needs; long-term liquidity depends on obtaining additional debt financing.
- Management identified Federal Reserve tapering expectations as a key market development: rising Treasury rates and wider Agency MBS spreads reduced asset values in Q2. It warned that reduced central-bank purchases could pressure valuations and increase volatility.
- Leverage and short-term repo funding expose the company to refinancing, counterparty, and margin-call risks. Repo borrowings generally reprice as they roll; lenders can demand additional collateral or cash when pledged securities decline in value. Management stated repo covenants were met and it was in compliance with derivative financial provisions at June 30.
- Interest-rate, spread, prepayment, extension, credit, and real-estate risks may affect income, portfolio values, and hedge effectiveness. The company had $12.2 billion of interest-rate swaps and $2.4 billion of outstanding swaptions; hedging is not assured to offset losses. Its market-risk sensitivity analysis estimated that a 100-basis-point rate increase would raise projected net interest income 6.28% but reduce portfolio value 1.45%; a 100-basis-point decline would reduce projected net interest income 51.35% and increase portfolio value 0.73%.
- The common dividend of $0.65 per share was paid July 26, 2013. The company reported no material change to previously disclosed risk factors, no legal proceedings, and effective disclosure controls.
Important facts for investors to verify
- Whether reported GAAP earnings are being interpreted alongside non-GAAP core earnings, which excludes investment-sale gains and realized/unrealized swap and swaption gains or losses.
- How continued rate and spread changes affect MBS valuations, accumulated other comprehensive income, and book value per share.
- Repo renewal terms, collateral haircuts, available liquidity, and capacity to meet margin calls given the 7.63x period-end debt/equity ratio.
- Credit performance and valuation assumptions for the newly consolidated residential-loan trusts, including California concentration and the adequacy of loan-loss reserves.
- The sustainability of the $0.65 quarterly common dividend relative to taxable income, cash needs, and financing conditions.