Walker & Dunlop, Inc. — Q2 2019 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2019; filed August 7, 2019. Walker & Dunlop originates, sells and services commercial real estate loans, with a focus on multifamily, and also provides debt brokerage, property sales and investment management services. Unless otherwise noted, amounts below are in U.S. dollars.
Financial performance
| Metric | Q2 2019 | Q2 2018 | Six months 2019 | Six months 2018 |
|---|---|---|---|---|
| Total revenue | $200.3 million | $178.2 million | $387.8 million | $325.7 million |
| Income from operations | $57.0 million | $53.0 million | $113.1 million | $96.9 million |
| Walker & Dunlop net income | $42.2 million | $41.1 million | $86.4 million | $78.0 million |
| Diluted EPS | $1.33 | $1.26 | $2.72 | $2.40 |
| Adjusted EBITDA (non-GAAP) | $62.6 million | $50.0 million | $129.3 million | $102.1 million |
| Reported operating margin | 28% | 30% | 29% | 30% |
- Q2 revenue increased 12% year over year, while net income rose 3%. For the first half, revenue increased 19% and net income 11%. Adjusted EBITDA rose 25% in Q2 and 27% in the first half.
- Q2 mortgage banking volume increased 9% to $6.20 billion; first-half volume increased 12% to $11.45 billion. First-half property sales volume more than doubled to $1.80 billion from $821 million.
- Q2 mortgage banking gains increased 5% to $106.9 million. Higher volume and origination fees were partly offset by lower servicing value recognized on new originations: the Q2 MSR rate fell to 68 basis points from 86 basis points. Management attributed fee compression, particularly on Fannie Mae loans, to intense competition and tighter investor spreads.
- Servicing fees rose 7% in Q2 and 8% for the first half as the average servicing portfolio grew 15%. The portfolio was $89.9 billion at June 30, up from $77.8 billion a year earlier; its weighted-average servicing fee rate declined to 23.4 basis points from 25.4.
- Personnel expense rose 18% in Q2 and 23% in the first half, reflecting higher headcount, salaries and commissions. Average headcount rose 12% in Q2 and 14% for the first half. First-half credit-loss provision increased to $3.6 million from $0.3 million, primarily due to two first-quarter defaults.
Financial position, cash flow and liquidity
- At June 30, 2019, total assets were $2.99 billion, total liabilities $2.03 billion and total equity $964.2 million. Cash and cash equivalents were $74.2 million; cash, restricted cash and pledged cash combined were $93.7 million.
- Warehouse notes payable were $1.314 billion, up from $1.161 billion at year-end 2018. The term loan had $298.5 million principal outstanding (book value $294.8 million). Total warehouse facility capacity was $4.905 billion, including committed and uncommitted amounts; $1.315 billion was outstanding. The company reported compliance with warehouse and term-loan covenants.
- For the first six months, operating cash flow was negative $159.2 million, versus negative $254.2 million in 2018, largely reflecting loan origination and sale timing. Excluding net cash used for loan origination activity, operating cash flow was positive $58.7 million, compared with $46.2 million. Investing cash flow was positive $30.7 million; financing cash flow was positive $101.9 million. Total cash, restricted cash and restricted cash equivalents declined $26.6 million from the start of the year.
- Agency and interim warehouse facilities support loan funding; management stated that available warehouse capacity and capital were adequate for origination needs. Operational liquidity for agency and lender requirements was $209.8 million, versus a stated minimum requirement of $36.7 million. Fannie Mae-defined net worth was $651.5 million versus a $186.0 million requirement.
- The company paid quarterly dividends of $0.30 per share in Q1 and Q2, up from $0.25 in 2018, and declared a $0.30 Q3 dividend payable September 9, 2019. A $50 million repurchase authorization had $48.5 million remaining at quarter-end.
Outlook, risks and notable items
- Management expected continued strength in multifamily financing, citing rental demand, strong labor markets and low multifamily vacancy. It also anticipated continued growth in debt brokerage and property sales. These are expectations, not quantified company earnings guidance.
- Management expected the effective tax rate for the remainder of 2019 to be approximately 26%–27%. It expected the servicing portfolio’s weighted-average fee rate to continue declining from 2018 levels, reflecting lower rates on new business and portfolio mix.
- Market risks include competition and further servicing-fee compression; possible changes to GSE policy or production limits; interest-rate and yield-curve movements; and the availability and renewal of warehouse funding. Fannie Mae and Freddie Mac each had a 2019 market-rate multifamily origination cap of $35 billion, with specified exclusions. Management noted uncertainty about future FHFA limits.
- LIBOR exposure is relevant to warehouse and corporate borrowing costs. The filing estimates that a 100-basis-point increase in 30-day LIBOR would reduce annual net warehouse interest income by $6.6 million and annual income from operations by $3.0 million, based on period-end balances. A 100-basis-point increase in MSR discount rates would reduce MSR fair value by an estimated $27.1 million.
- One $14.7 million loan held for investment was delinquent, impaired and on non-accrual at quarter-end. In July, the company agreed to a plan to recapitalize the project, change property management and extend the loan; restructuring was expected later in Q3. A separate large Fannie Mae risk-sharing loan defaulted in Q1. The first-half provision for risk-sharing obligations was $3.0 million, versus $0.3 million a year earlier.
- The maximum quantifiable contingent liability under Fannie Mae DUS guarantees was $7.1 billion; the filing cautions this is a theoretical maximum, not an estimate of likely loss. The company reported no material litigation and no material changes to the risk factors disclosed in its 2018 Form 10-K.
- The company planned to adopt the expected-credit-loss standard (ASU 2016-13) on January 1, 2020 and expected its risk-sharing allowance to increase, while the impact was still being assessed. A third-quarter 2019 amendment lowered the rate on one Agency warehouse facility; one smaller Agency facility expired in Q3, which management said it could manage with remaining facilities and cash.
Important facts for investors to verify
- Whether revenue and earnings growth continue to outpace rising personnel and other operating costs, and how much servicing-fee compression affects mortgage banking margins.
- The status and recovery prospects of the delinquent loan held for investment and the defaulted Fannie Mae risk-sharing loan, including subsequent restructuring, reserve adequacy and realized losses.
- Warehouse facility renewals, availability of uncommitted capacity, covenant compliance and the effect of LIBOR or other funding-cost changes on loan spreads and liquidity.
- Changes in GSE and FHFA production limits, and whether multifamily market demand and competition develop as management expected.
- The eventual impact of ASU 2016-13 adoption on allowances, retained earnings and reported credit-loss expense.