Walker & Dunlop, Inc. — Q3 2017 Form 10-Q
Reporting period: Three and nine months ended September 30, 2017; filed November 8, 2017. The company originates, sells, brokers and services commercial real estate loans, with a primary focus on multifamily lending, and provides multifamily investment-sales brokerage services.
Financial performance and position
| Metric | Q3 2017 | Q3 2016 | Nine months 2017 | Nine months 2016 |
|---|---|---|---|---|
| Total revenue | $179.7 million | $154.8 million | $504.7 million | $396.9 million |
| Income from operations | $54.7 million | $48.7 million | $166.9 million | $124.6 million |
| Walker & Dunlop net income | $34.4 million | $29.6 million | $112.2 million | $77.1 million |
| Diluted EPS | $1.06 | $0.96 | $3.49 | $2.51 |
| Operating margin | 30% | 31% | 33% | 31% |
| Adjusted EBITDA (non-GAAP) | $45.0 million | $36.2 million | $146.3 million | $95.7 million |
- Q3 revenue rose 16% and net income rose 16% year over year; nine-month revenue rose 27% and net income rose 45%. Growth reflected increased loan originations and servicing fees. Personnel expense increased 22% in Q3 and 28% year to date, mainly from commissions, higher headcount, bonuses and stock compensation.
- Loan origination volume was $7.6 billion in Q3 versus $4.2 billion, and $18.0 billion for nine months versus $11.5 billion. Q3 included a $1.9 billion Freddie Mac portfolio transaction. Nine-month brokered originations increased 79% and HUD originations increased 41%; interim originations declined.
- Servicing portfolio was $70.3 billion at September 30, up from $63.1 billion at year-end 2016. Mortgage servicing rights (MSRs) had a $587.9 million carrying value and $773.9 million estimated fair value. A 100-basis-point increase in the MSR discount rate would reduce estimated fair value by $24.6 million, based on the filing’s sensitivity analysis.
- Operating cash flow was negative $1.33 billion for the nine months, versus positive $1.30 billion in 2016, principally because loan-originations activity used $1.42 billion, compared with a $1.24 billion cash source in 2016. Excluding loan-origination activity, operating cash flow was positive $93.5 million. Investing cash flow was positive $27.4 million and financing cash flow positive $1.29 billion.
- At September 30, cash and cash equivalents were $85.4 million; cash, restricted cash and pledged securities together totaled $197.6 million. Total assets were $4.50 billion and total equity was $716.3 million.
- Warehouse notes payable were $3.31 billion, funding a substantially larger pipeline of loans held for sale; warehouse capacity, including temporary increases, was $6.61 billion. Corporate note payable was $163.9 million on the balance sheet; its stated principal was $166.5 million. The company reported covenant compliance.
Changes, outlook and notable items
- Revenue growth outpaced expense growth for the first nine months, lifting operating margin to 33% from 31%; Q3 margin was 30%, compared with 31%. Q3 and year-to-date origination-fee and MSR revenue rates per loan volume were lower, in part due to a greater mix of brokered, Freddie Mac and floating-rate loans and large portfolio transactions.
- The company formed a joint venture in Q2 with a 15% ownership interest to originate and finance interim loans. It expects substantially all qualifying interim loans to be originated by the JV going forward. In Q3 it sold $119.8 million of existing interim loans to the JV at par and said it does not expect further such portfolio sales.
- Management described multifamily fundamentals as strong and expected record industry origination volume in 2017, continued growth in its capital-markets platform and meaningful HUD lending. It did not provide company-specific financial guidance. Management noted slower rent growth, increased multifamily construction and vacancy rates, fierce lending competition, and uncertainty about future interest-rate moves and GSE lending limits.
- Management said higher short-term rates and a flatter yield curve had compressed the loan-held-for-sale warehouse spread; further flattening could continue to pressure this income. It expects lower net warehouse interest income from interim loans as the existing portfolio matures, partly offset by its share of JV income.
- The $75 million share-repurchase authorization had $64.2 million remaining at quarter-end. During the first nine months, the company repurchased and retired 228,000 shares under the program for $10.8 million; total cash used for repurchases and employee tax withholding was $28.9 million.
- The company disclosed a maximum quantifiable Fannie Mae DUS guarantee exposure of $5.4 billion, which it emphasized is not an estimate of likely loss. At quarter-end, one loan was 60 or more days delinquent, with a $6.0 million balance; the risk-sharing allowance was $3.8 million. The company said Harvey and Irma had not materially affected its operations or allowance based on its preliminary assessment, but warned that effects on affected borrowers could emerge later.
- There were no material changes to the risk factors reported in the 2016 Form 10-K. Ordinary-course litigation was not believed to be material. The company expected adoption of the new expected-credit-loss standard to increase its risk-sharing allowance, but said the amount was not yet known.
Important facts for investors to verify
- Whether loan-volume growth, servicing-fee growth and the expanded servicing portfolio can persist, and how lower origination/MSR revenue rates affect profitability.
- Whether temporary warehouse capacity can be renewed or repaid as expected, and the effect of higher short-term rates, funding costs and loan-pipeline size on liquidity and spreads.
- MSR valuation assumptions, particularly discount rates and prepayment expectations, given the size of the asset and disclosed sensitivity.
- Credit quality and potential DUS risk-sharing losses, including subsequent developments in the delinquent loan and hurricane-affected collateral; distinguish the maximum guarantee exposure from probable loss.
- Actual results against management’s market outlook, including multifamily rent growth, construction and vacancies, GSE caps, and the shift of interim lending to the joint venture.