Orchid Island Capital, Inc. — Q1 2019 Form 10-Q
Reporting period: Three months ended March 31, 2019; balance-sheet comparisons are to December 31, 2018. Orchid is an externally managed mortgage REIT investing primarily in agency residential mortgage-backed securities (RMBS), financed largely through short-term repurchase agreements.
Key financial metrics
| Metric | Q1 2019 / March 31, 2019 | Comparable period / prior year-end |
|---|---|---|
| Interest income | $32.4 million | $39.9 million in Q1 2018 |
| Interest expense | $18.9 million | $15.1 million in Q1 2018 |
| Net interest income | $13.5 million; 1.68% net interest spread | $24.8 million; 2.58% spread in Q1 2018 |
| Economic net interest income (non-GAAP) | $16.0 million; 2.01% economic spread | $21.8 million; 2.24% economic spread in Q1 2018 |
| Net income (loss) | $10.6 million; $0.22 per diluted share | $(16.4) million; $(0.31) per share in Q1 2018 |
| Net portfolio income (loss) | $12.8 million | $(13.3) million in Q1 2018 |
| Cash and cash equivalents | $125.9 million; restricted cash $17.0 million | $108.3 million and $18.0 million, respectively, at December 31, 2018 |
| RMBS at fair value | $3,088.5 million | $3,014.5 million at December 31, 2018 |
| Repurchase agreements | $2,866.7 million; 2.70% weighted-average borrowing rate | $3,025.1 million; 2.65% at December 31, 2018 |
| Total assets / stockholders’ equity | $3,257.7 million / $340.4 million | $3,395.6 million / $336.1 million at December 31, 2018 |
| Operating cash flow | $(1.6) million | $41.6 million provided in Q1 2018 |
| Dividends declared | $0.24 per common share for the quarter | $0.31 per share in Q1 2018 |
Material changes and performance
- Net income improved by $27.0 million year over year, reflecting a $98.3 million improvement in RMBS gains and a $26.1 million improvement in net portfolio income, partly offset by a $33.1 million swing in interest-futures results and lower net interest income.
- Net interest income declined $11.2 million year over year. Average RMBS holdings fell $693.8 million and average borrowings fell $630.6 million; meanwhile, average GAAP funding cost increased 88 basis points to 2.57%. Average asset yield was 4.25%, versus 4.27% in Q1 2018.
- Q1 2019 included $18.0 million of unrealized RMBS gains and $19.0 million of derivative losses. Excluding realized and unrealized gains and losses, management reported non-GAAP net earnings of $11.3 million, or $0.24 per share; this measure is not a substitute for GAAP results.
- RMBS portfolio fair value increased $74.0 million from year-end, while repurchase-agreement debt declined $158.3 million. Cash, cash equivalents and restricted cash together increased to $142.9 million.
- Prepayment speeds increased: portfolio CPR was 9.2%, compared with 7.7% in Q1 2018. The portfolio’s effective duration was 1.450 at March 31, down from 2.078 at year-end.
Cash flow, liquidity and capital
- Investing activities provided $182.9 million, including $655.4 million of RMBS sales and $94.8 million of principal repayments, offset partly by $547.4 million of purchases. Financing activities used $164.6 million, including net repurchase-agreement repayments, dividends and share repurchases.
- Management stated it believed available liquidity and capital resources were sufficient for investment activity, debt repayments and dividends required to maintain REIT status. At quarter-end, it reported $125.9 million of unrestricted cash and $59.4 million of unpledged securities.
- Repo agreements had a 35-day weighted-average remaining maturity, with maturities ranging from 1 to 87 days. The company reported meeting all margin calls during the quarter and a weighted-average collateral haircut of approximately 5.2%.
- During Q1, Orchid issued 1.27 million shares through its at-the-market program for $8.5 million net proceeds and repurchased 469,975 shares for approximately $3.0 million. After quarter-end, it issued a further 1.43 million shares for approximately $9.5 million net proceeds.
Outlook, risks and other notable items
- The filing provides no quantitative earnings or investment-return guidance. Management described global central-bank policy as accommodative and said market volatility had eased, while identifying potential increases in agency-MBS supply, seasonal prepayments and the reduction of Federal Reserve agency-MBS holdings as concerns for market performance.
- Principal risks include interest-rate and yield-curve movements, mortgage-spread widening, prepayment and extension risk, short-term repo renewal and haircut risk, margin calls, and counterparty failure. Management cautioned that modeled rate sensitivities depend on assumptions and may differ materially from actual outcomes.
- Repo funding is short term and may be renewed on less favorable terms or not renewed. A decline in collateral values or derivative positions could trigger margin calls and pressure liquidity. At quarter-end, aggregate repo counterparty exposure (“amount at risk”) was approximately $176.3 million; no individual counterparty exceeded 10% of equity.
- Management discussed uncertainty around housing-finance reform, the transition from LIBOR to SOFR, and future Federal Reserve policy. It also noted the captive-insurer subsidiary’s loss of Federal Home Loan Bank membership eligibility and uncertainty about possible legislative changes.
- The company reported no material pending legal proceedings, no known contingencies at March 31, 2019, and no material changes to previously disclosed risk factors. Disclosure controls were assessed as effective; no significant quarterly change in internal control over financial reporting was reported.
- The company declared an additional $0.08-per-share dividend on April 17, payable May 31, 2019; this was not reflected in the March 31 balance sheet. It operates as a REIT and generally must distribute at least 90% of REIT taxable income annually to maintain that status.
Most important facts for investors to verify
- Whether net interest income and spreads stabilize given lower portfolio balances and higher funding costs; distinguish GAAP figures from management’s non-GAAP economic measures.
- Whether RMBS fair-value and derivative gains or losses persist, and how changes in rates, mortgage spreads and prepayments affect book value.
- Whether short-term repo funding remains available on comparable terms and whether collateral haircuts, margin requirements or counterparty exposure increase.
- How the $0.24 quarterly declared dividend compares with future taxable income and cash generation; the filing does not establish a future dividend level.
- The effect of post-quarter share issuance and the April dividend on per-share results and equity, and the continuing implications of LIBOR transition and housing-finance policy developments.