UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-Q [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended June 30, 1999 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 Commission File No. 0-21341 OCWEN FINANCIAL CORPORATION --------------------------- (Exact name of registrant as specified in its charter) Florida 65-0039856 - ------- ---------- (State or other jurisdiction (I.R.S. Employer of incorporation or organization) Identification No.) 1675 Palm Beach Lakes Boulevard, West Palm Beach, Florida 33401 --------------------------------------------------------------- (Address of principal executive offices) (Zip Code) (561) 682-8000 -------------- (Registrant's telephone number, including area code) Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports) and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [ ]. Number of shares of Common Stock, $.01 par value, outstanding as of August 9, 1999: 60,601,156
OCWEN FINANCIAL CORPORATION FORM 10-Q I N D E X ================================================================================ PART I - FINANCIAL INFORMATION PAGE Item 1. Interim Consolidated Financial Statements (Unaudited).............. 3 Consolidated Statements of Financial Condition at June 30, 1999 and December 31, 1998........................... 3 Consolidated Statements of Operations for the three and six months ended June 30, 1999 and 1998.............................. 4 Consolidated Statements of Comprehensive Income for the three and six months ended June 30, 1999 and 1998...................... 5 Consolidated Statement of Changes in Stockholders' Equity for the six months ended June 30, 1999........................... 6 Consolidated Statements of Cash Flows for the six months ended June 30, 1999 and 1998.............................. 7 Notes to Consolidated Financial Statements......................... 9 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations........................................ 18 Item 3. Quantitative and Qualitative Disclosures About Market Risk......... 57 PART II - OTHER INFORMATION Item 6. Exhibits and Reports on Form 8-K................................... 62 Signature................................................................... 64 2
<TABLE> <CAPTION> PART I - FINANCIAL INFORMATION ITEM 1. INTERIM FINANCIAL STATEMENTS (UNAUDITED) OCWEN FINANCIAL CORPORATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION (DOLLARS IN THOUSANDS, EXCEPT SHARE DATA) June 30, December 31, 1999 1998 ----------- ----------- <S> <C> <C> Assets: Cash and amounts due from depository institutions ............................... $ 107,476 $ 120,805 Interest earning deposits ....................................................... 18,127 49,374 Federal funds sold .............................................................. 75,000 275,000 Securities available for sale, at fair value .................................... 733,271 593,347 Loans available for sale, at lower of cost or market ............................ 132,425 177,847 Investment in capital stock of Federal Home Loan Bank, at cost .................. 10,825 10,825 Loan portfolio, net ............................................................. 133,678 230,312 Discount loan portfolio, net .................................................... 1,008,764 1,026,511 Investments in low-income housing tax credit interests .......................... 180,566 144,164 Investment in unconsolidated entities ........................................... 79,958 86,893 Real estate owned, net .......................................................... 183,162 201,551 Investment in real estate ....................................................... 22,256 36,860 Premises and equipment, net ..................................................... 43,805 33,823 Income taxes receivable ......................................................... 36,627 34,333 Deferred tax asset .............................................................. 68,279 66,975 Excess of purchase price over net assets acquired, net .......................... 17,030 12,706 Principal, interest and dividends receivable .................................... 11,798 18,993 Escrow advances on loans ........................................................ 107,097 88,277 Other assets .................................................................... 42,123 99,483 ----------- ----------- $ 3,012,267 $ 3,308,079 =========== =========== Liabilities and Stockholders' Equity Liabilities: Deposits ..................................................................... $ 1,874,553 $ 2,175,016 Securities sold under agreements to repurchase ............................... 133,741 72,051 Obligations outstanding under lines of credit ................................ 94,039 179,285 Notes, debentures and other interest bearing obligations ..................... 279,236 225,000 Accrued interest payable ..................................................... 27,318 33,706 Accrued expenses, payables and other liabilities ............................. 41,928 61,053 ----------- ----------- Total liabilities .......................................................... 2,450,815 2,746,111 ----------- ----------- Company-obligated, mandatorily redeemable securities of subsidiary trust holding solely junior subordinated debentures of the Company ............ 125,000 125,000 Minority interest ............................................................... 465 592 Commitments and contingencies (Note 7) Stockholders' equity: Preferred stock, $.01 par value; 20,000,000 shares authorized; 0 shares issued and outstanding ............................................................ -- -- Common stock, $.01 par value; 200,000,000 shares authorized; 60,601,156 and 60,800,357 shares issued and outstanding at June 30, 1999 and December 31, 1998, respectively ......................................................... 608 608 Treasury Stock, 205,300 shares at June 30, 1999 .............................. (1,832) -- Additional paid-in capital ................................................... 166,262 166,234 Retained earnings ............................................................ 262,953 257,170 Accumulated other comprehensive income, net of taxes: Unrealized gain on securities available for sale ........................... 9,947 14,057 Net unrealized foreign currency translation loss ........................... (1,951) (1,693) ----------- ----------- Total stockholders' equity ................................................. 435,987 436,376 ----------- ----------- $ 3,012,267 $ 3,308,079 =========== =========== THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL STATEMENTS. 3 </TABLE>
<TABLE> <CAPTION> OCWEN FINANCIAL CORPORATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF OPERATIONS (DOLLARS IN THOUSANDS, EXCEPT SHARE DATA) Three Months Six Months ---------------------------- ---------------------------- For the periods ended June 30, 1999 1998 1999 1998 - ----------------------------------------------------------------- ------------ ------------ ------------ ------------ <S> <C> <C> <C> <C> Interest income: Federal funds sold and repurchase agreements .................. $ 2,059 $ 1,404 $ 5,454 $ 2,437 Securities available for sale ................................. 15,659 8,728 32,848 16,672 Loans available for sale ...................................... 11,014 25,291 19,144 34,794 Loans ......................................................... 8,878 11,655 15,044 17,917 Discount loans ................................................ 25,553 42,281 55,556 79,078 Investment securities and other ............................... 384 1,532 1,035 2,017 ------------ ------------ ------------ ------------ 63,547 90,891 129,081 152,915 ------------ ------------ ------------ ------------ Interest expense: Deposits ...................................................... 23,559 28,677 50,387 56,522 Securities sold under agreements to repurchase ................ 2,281 2,062 3,772 3,701 Obligations outstanding under lines of credit ................. 5,293 15,103 9,017 19,623 Notes, debentures and other interest bearing obligations ...... 6,705 6,734 13,460 13,586 ------------ ------------ ------------ ------------ 37,838 52,576 76,636 93,432 ------------ ------------ ------------ ------------ Net interest income before provision for loan losses .......... 25,709 38,315 52,445 59,483 Provision for loan losses ..................................... 623 9,675 4,362 11,929 ------------ ------------ ------------ ------------ Net interest income after provision for loan losses ........... 25,086 28,640 48,083 47,554 ------------ ------------ ------------ ------------ Non-interest income (loss): Servicing fees and other charges .............................. 18,929 13,972 37,180 23,696 (Loss) gain on interest earning assets, net ................... (5,867) (48,015) 14,275 (23,261) Gain on real estate owned, net ................................ 2,677 10,521 3,306 11,547 Other income .................................................. 9,073 9,771 15,625 15,648 ------------ ------------ ------------ ------------ 24,812 (13,751) 70,386 27,630 ------------ ------------ ------------ ------------ Non-interest expense: Compensation and employee benefits ............................ 24,330 29,766 51,540 51,247 Occupancy and equipment ....................................... 8,732 8,507 19,369 14,925 Loan expenses ................................................. 2,652 7,357 6,780 9,694 Net operating loss on investments in real estate and certain low-income housing tax credit interests ............ 1,374 1,046 3,221 2,292 Amortization of excess of purchase price over net assets acquired ............................................ 257 563 487 934 Other operating expenses ...................................... 10,440 9,010 18,511 11,168 ------------ ------------ ------------ ------------ 47,785 56,249 99,908 90,260 ------------ ------------ ------------ ------------ Distributions on Company-obligated, mandatorily redeemable securities of subsidiary trust holding solely junior subordinated debentures ....................................... 3,398 3,398 6,797 6,797 Equity in (losses) earnings of investment in unconsolidated entities ...................................................... (3,470) 544 (4,713) 544 ------------ ------------ ------------ ------------ (Loss) income before income taxes ............................... (4,755) (44,214) 7,051 (21,329) Income tax benefit (expense) .................................... 972 6,383 (1,396) 5,810 Minority interest in net loss (income) of consolidated subsidiary 96 (68) 128 (35) ------------ ------------ ------------ ------------ Net (loss) income ............................................. $ (3,687) $ (37,899) $ 5,783 $ (15,554) ============ ============ ============ ============ (Loss) income per share: Basic ......................................................... $ (0.06) $ (0.62) $ 0.10 $ (0.26) ============ ============ ============ ============ Diluted ....................................................... $ (0.06) $ (0.62) $ 0.10 $ (0.26) ============ ============ ============ ============ Weighted average common shares outstanding: Basic ......................................................... 60,730,614 60,713,593 60,765,485 60,682,432 ============ ============ ============ ============ Diluted ....................................................... 60,730,614 60,713,593 60,807,036 60,682,432 ============ ============ ============ ============ THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL STATEMENTS. 4 </TABLE>
<TABLE> <CAPTION> OCWEN FINANCIAL CORPORATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (DOLLARS IN THOUSANDS) Three Months Six Months -------------------- -------------------- For the periods ended June 30, 1999 1998 1999 1998 - ---------------------------------------------------------------- -------- -------- -------- -------- <S> <C> <C> <C> <C> Net income (loss) .............................................. $ (3,687) $(37,899) $ 5,783 $(15,554) Other comprehensive income, net of tax: Unrealized gains on securities available for sale ........... (6,683) 18,296 (1,498) 23,455 Less: Reclassification adjustment .......................... 364 -- (2,613) -- -------- -------- -------- -------- Net change in unrealized gains on securities available for sale ........................................ (6,319) 18,296 (4,111) 23,455 Unrealized foreign currency translation adjustment arising during the period ......................................... (432) -- (257) -- -------- -------- -------- -------- Other comprehensive income .................................. (6,751) 18,296 (4,368) 23,455 -------- -------- -------- -------- Comprehensive (loss) income .................................... $(10,438) $ 19,603 $ 1,415 $ 7,901 ======== ======== ======== ======== Disclosure of reclassification adjustment: Unrealized holding gains arising during the period on securities sold ............................................ $ 371 $ 250 Less: Adjustment for gains included in net (loss) income ... (7) (2,863) -------- ------- Net reclassification adjustment for gains recognized in other comprehensive (loss) income in prior years .......... $ 364 $(2,613) ======== ======= THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL STATEMENTS </TABLE> 5
<TABLE> <CAPTION> OCWEN FINANCIAL CORPORATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY FOR THE SIX MONTHS ENDED JUNE 30, 1999 (DOLLARS IN THOUSANDS) Accumulated other Common Stock Additional comprehensive ---------------------- Paid-in Treasury Retained income, Shares Amount Capital Stock earnings net of taxes Total ---------- --------- ----------- ----------- ---------- ------------ ----------- <S> <C> <C> <C> <C> <C> <C> <C> Balances at December 31, 1998 ........... 60,800,357 $ 608 $ 166,234 $ -- $ 257,170 $ 12,364 $ 436,376 Net income .............................. -- -- -- -- 5,783 -- 5,783 Change in unearned directors' compensation .......................... 6,099 -- 28 -- -- -- 28 Purchase of treasury shares ............. (205,300) -- -- (1,832) -- -- (1,832) Other comprehensive income, net of taxes: Change in unrealized gain on securities available for sale ...... -- -- -- -- -- (4,111) (4,111) Change in unrealized foreign currency translation loss .......... -- -- -- -- -- (257) (257) ---------- --------- ----------- ----------- ---------- ---------- ----------- Balances at June 30, 1999 ............... 60,601,156 $ 608 $ 166,262 $ (1,832) $ 262,953 $ 7,996 $ 435,987 =========== ========= =========== =========== ========== ========== =========== THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL STATEMENTS. 6 </TABLE>
<TABLE> <CAPTION> OCWEN FINANCIAL CORPORATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS (DOLLARS IN THOUSANDS) For the six months ended June 30, 1999 1998 - ---------------------------------------------------------------------------------- --------- --------- <S> <C> <C> Cash flows from operating activities: Net income (loss) ............................................................. $ 5,783 $ (15,554) Adjustments to reconcile net income (loss) to net cash provided by operating Activities: Net cash provided by trading activities ....................................... 36,804 55,657 Proceeds from sale of loans available for sale ................................ 560,336 943,947 Purchases of loans available for sale ......................................... (47,103) (350,622) Origination of loans available for sale ....................................... (481,720) (399,221) Principal payments received on loans available for sale ....................... 18,764 52,464 Premium amortization, net ..................................................... 13,116 75,508 Depreciation and amortization ................................................. 12,084 6,703 Provision for loan losses ..................................................... 4,362 11,929 Provision for real estate owned ............................................... 14,840 5,871 (Gain) loss on sale of interest-earning assets, net ........................... (14,275) 15,080 Gain on sale of real estate owned, net ........................................ (21,406) (23,382) Gain on sale of investment in real estate ..................................... (1,631) -- Gain on sale of low-income housing tax credit interests ...................... -- (4,746) Equity in losses (earnings) of unconsolidated entities, net ................... 4,713 (544) Decrease (increase) in principal, interest and dividends receivable ........... 7,195 (6,045) Increase in income taxes receivable ........................................... (2,293) (11,386) Increase in deferred tax asset ................................................ (1,304) (33,466) Increase in escrow advances ................................................... (18,820) (10,153) Decrease (increase) in other assets, net ...................................... 41,525 (62,743) (Decrease) increase in accrued expenses, interest payable and other liabilities ....................................................... (25,614) 42,926 --------- --------- Net cash provided by operating activities ........................................ 105,356 292,223 --------- --------- Cash flows from investing activities: Proceeds from sale of securities available for sale ........................... 633 91,230 Purchase of securities available for sale ..................................... (479,224) (453,449) Maturities of and principal payments received on securities available for sale .......................................................... 290,113 148,621 Purchase of securities held for investment .................................... -- (74,084) Investment in low-income housing tax credit interests ......................... (37,717) (23,030) Proceeds from sale of low income housing tax credit interests ................. -- 21,927 Proceeds from sale of discount loans .......................................... 238,704 318,222 Proceeds from sale of loans held for investment ............................... 26,243 -- Purchase and origination of loans held for investment, net of undisbursed loan funds ...................................................... (15,658) (104,351) Purchase of discount loans .................................................... (395,298) (587,608) Decrease in real estate held for investment ................................... 16,447 43,519 Principal payments received on loans held for investment ...................... 84,425 90,102 Principal payments received on discount loans ................................. 107,813 175,840 Proceeds from sale of real estate owned ....................................... 142,363 155,050 Purchase of real estate owned in connection with discount loan purchases ...... (31,490) (7,769) Acquisition of subsidiaries ................................................... (5,196) (426,096) Additions to premises and equipment ........................................... (20,475) (20,954) --------- --------- Net cash used in investing activities ............................................ (78,317) (652,830) --------- --------- </TABLE> (Continued on next page) 7
<TABLE> <CAPTION> OCWEN FINANCIAL CORPORATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED) (DOLLARS IN THOUSANDS) For the six months ended June 30, 1999 1998 - --------------------------------------------------------------------------- ----------- ----------- <S> <C> <C> Cash flows from financing activities: (Decrease) increase in deposits ........................................ $ (300,463) $ 161,555 Increase in securities sold under agreements to repurchase ............. 61,690 25,720 Repayment of short-term notes .......................................... -- (1,506) Net (repayments) proceeds from issuance of obligations under lines of credit ................................................ (85,246) 203,153 Payments and repurchase of notes and mortgages payable ................. 4,236 -- Advances from the Federal Home Loan Bank ............................... 50,000 -- Exercise of common stock options ....................................... -- 15,350 Repurchase of common stock options ..................................... -- (14,107) Repurchase of common stock (treasury stock)............................. (1,832) -- Repurchase of common stock in connection with acquisition of subsidiary ........................................................... -- (7,772) ----------- ----------- Net cash (used) provided by financing activities .......................... (271,615) 382,393 ----------- ----------- Net (decrease) increase in cash and cash equivalents ...................... (244,576) 21,786 Cash and cash equivalents at beginning of period .......................... 445,179 152,244 ----------- ----------- Cash and cash equivalents at end of period ................................ $ 200,603 $ 174,030 =========== =========== Reconciliation of cash and cash equivalents at end of period: Cash and amounts due from depository institutions ...................... $ 107,476 $ 16,160 Interest earning deposits .............................................. 18,127 19,870 Federal funds sold and repurchase agreements ........................... 75,000 138,000 ----------- ----------- $ 200,603 $ 174,030 =========== =========== Supplemental disclosure of cash flow information: Cash paid during the period for: Interest ............................................................. $ 83,024 $ 93,031 =========== =========== Income taxes ......................................................... $ 524 $ 34,425 =========== =========== Supplemental schedule of non-cash investing and financing activities: Real estate owned acquired through foreclosure ....................... $ 83,532 $ 106,030 =========== =========== Exchange of discount loans and loans available for sale for securities ............................................ $ 758,032 $ 1,233,811 =========== =========== Acquisition of businesses: Fair value of assets acquired ........................................... $ 5,304 $ 449,420 Liabilities assumed ..................................................... 101 15,069 Less stock issued ....................................................... -- (7,772) ----------- ----------- Cash paid ............................................................... 5,203 426,579 Less cash acquired ...................................................... (7) (483) ----------- ----------- Net cash paid for assets acquired ....................................... $ 5,196 $ 426,096 =========== =========== THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL STATEMENTS. 8 </TABLE>
OCWEN FINANCIAL CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS JUNE 30, 1999 (DOLLARS AND BRITISH POUNDS IN THOUSANDS, EXCEPT SHARE DATA) ================================================================================ NOTE 1 BASIS OF PRESENTATION The accompanying unaudited consolidated financial statements have been prepared in conformity with the instructions to Form 10-Q and Article 10, Rule 10-01 of Regulation S-X for interim financial statements. Accordingly, they do not include all of the information and footnotes required by U.S. generally accepted accounting principles ("GAAP") for complete financial statements. The consolidated financial statements include the accounts of Ocwen Financial Corporation ("OCN" or the "Company") and its subsidiaries. OCN owns directly and indirectly all of the outstanding common and preferred stock of its primary subsidiaries, Ocwen Federal Bank FSB (the "Bank"), Investors Mortgage Insurance Holding Company ("IMI"), Ocwen UK plc ("Ocwen UK") and Ocwen Technology Xchange, Inc. ("OTX"). OCN also owns 97.8% of Ocwen Financial Services ("OFS"), with the remaining 2.2% owned by Admiral Home Loan ("Admiral") and reported in the consolidated financial statements as a minority interest. All significant intercompany transactions and balances have been eliminated in consolidation. The Bank is a federally chartered savings bank regulated by the Office of Thrift Supervision ("OTS"). In the opinion of management, the accompanying financial statements contain all adjustments, consisting of normal recurring accruals, necessary for a fair presentation of the Company's financial condition at June 30, 1999 and December 31, 1998, the results of its operations for the three and six months ended June 30, 1999 and 1998, its comprehensive income for the three and six months ended June 30, 1999 and 1998, its cash flows for the six months ended June 30, 1999 and 1998, and its changes in stockholders' equity for the six months ended June 30, 1999. The results of operations and other data for the six month period ended June 30, 1999 are not necessarily indicative of the results that may be expected for any other interim periods or the entire year ending December 31, 1999. The unaudited consolidated financial statements presented herein should be read in conjunction with the audited consolidated financial statements and related notes thereto included in the Company's Annual Report on Form 10-K for the year ended December 31, 1998. Certain reclassifications have been made to the prior period's consolidated financial statements to conform to the June 30, 1999 presentation. In preparing the consolidated financial statements, management is required to make estimates and assumptions that affect the reported amounts of assets and liabilities at the dates of the statements of financial condition and revenues and expenses for the periods covered. Actual results could differ from those estimates and assumptions. NOTE 2 CURRENT ACCOUNTING PRONOUNCEMENTS In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities." SFAS No. 133 establishes accounting and reporting standards for derivative and hedging activities and supercedes and amends a number of existing standards. SFAS No. 133 requires that an entity recognize all derivatives as either assets or liabilities in the statement of financial condition. The gain or loss recognition is determined on the intended use and resulting designation of the financial instruments as follows: o Gains or losses on derivative instruments not designated as hedging instruments are recognized in the period of change in fair value. o Gains or losses on derivative instruments designated as hedging the exposure to changes in the fair value of a recognized asset, liability or firm commitment are recognized in earnings in the period of the fair value change, together with the offsetting fair value loss or gain on the hedged item. o Gains or losses on derivative instruments designated as hedging exposure to variable cash flows arising from a forecasted transaction are initially reported, to the extent the fair value change is offset by the change in the forecasted cash flows, as a component of other comprehensive income. The portion of the change in fair value in excess of the offsetting change in forecasted cash flows is reported in earnings in the period of the change. 9
OCWEN FINANCIAL CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS JUNE 30, 1999 (DOLLARS AND BRITISH POUNDS IN THOUSANDS, EXCEPT SHARE DATA) ================================================================================ o Gains or losses on derivative instruments designated as foreign currency hedges of net investments in foreign operations are reported in other comprehensive income as part of the foreign currency translation adjustment. SFAS No. 133 precludes the use of nonderivative financial instruments as hedging instruments, except that nonderivative financial instruments denominated in a foreign currency may be designated as a hedge of the foreign currency exposure of an unrecognized firm commitment denominated in a foreign currency or a net investment in a foreign operation. Under SFAS No. 133, an entity that elects to apply hedge accounting is required to establish at the inception of the hedge the method it will use for assessing the effectiveness of the hedging derivative and the measurement approach for determining the ineffective aspect of the hedge. Those methods must be consistent with the entity's approach to managing risk. SFAS No. 133 is effective for all fiscal quarters of fiscal years beginning after June 15, 1999. Initial application of SFAS No. 133 should be as of the beginning of an entity's fiscal quarter; on that date, hedging relationships must be designated anew and documented pursuant to the provisions of SFAS No. 133. Earlier application of SFAS No. 133 is encouraged but is permitted only as of the beginning of any fiscal quarter that begins after issuance of SFAS No. 133. The Company has not yet adopted SFAS No. 133 nor has it determined what the impact on the results of operations, financial position or cash flows would be as a result of implementing SFAS No. 133. In June 1999, the FASB issued SFAS No. 137, "Accounting for Derivative Instruments and Hedging Activities - Deferral of the Effective Date of SFAS No. 133 an amendment of SFAS No. 133." SFAS No. 137 defers the effective date of SFAS No. 133 to all fiscal quarters of all fiscal years beginning after June 15, 2000. SFAS No. 137 is effective upon issuance. NOTE 3 ACQUISITIONS On June 2, 1999, OTX acquired substantially all of the assets of Synergy Software, LLC ("Synergy"), a developer of commercial and multi-family mortgage servicing systems, for $10.0 million of which $5.0 million has been paid and $5.0 million is a holdback which will be released over time if certain performance objectives are attained. Synergy is in the final stages of developing its SynergyOPEN(TM) software, a 32-bit, Microsoft(R) Windows-based commercial and multifamily mortgage servicing system that employs multi-tier architecture to allow distributed computing. The acquisition was accounted for as a purchase. The excess of purchase price over net assets acquired related to this transaction amounted to $4,811 and is being amortized on a straight-line basis over a period of 15 years. Synergy is a wholly-owner subsidiary of OTX. On July 25, 1999 OCN entered into a definitive merger agreement with OAC (the "Merger") providing for OCN to acquire OAC for 0.71 shares of OCN common stock for each outstanding share of OAC common stock (other than those OAC shares owned by OCN or its subsidiaries). OCN has agreed to provide in certain circumstances up to $25 million in financing for OAC's operations prior to the merger. The Merger, which is structured to be taxable to the OAC shareholders, is expected to close in the fourth quarter of 1999, subject to antitrust approvals and the approval of the shareholders of each of OCN and OAC. In connection therewith, on August 10, 1999, OCN filed a joint proxy and registration statement on Form S-4 with the Securities and Exchange Commission ("SEC"). If the Merger is consummated, OAC will no longer qualify as a REIT under the provisions of the Code, which requires a REIT to be owned by 100 or more persons. If OAC does not qualify as a REIT, it will be subject to tax (including any applicable alternative minimum tax) on its taxable income at regular corporate rates. See Note 7. NOTE 4 CAPITAL SECURITIES In August 1997, Ocwen Capital Trust I ("OCT"), a wholly-owned subsidiary of OCN, issued $125,000 of 10 7/8% Capital Securities (the "Capital Securities"). Proceeds from issuance of the Capital Securities were invested in 10 7/8% Junior Subordinated Debentures issued by OCN. The Junior Subordinated Debentures, which represent the sole assets of OCT, will mature on August 1, 2027. Holders of the Capital Securities are entitled to receive cumulative cash distributions accruing from the date of original issuance and payable semi-annually in arrears on February 1 and August 1 of each year, commencing on February 1, 1998, at an annual rate of 10 7/8% of the liquidation amount of $1,000 per Capital Security. Payment of distributions out of moneys held by OCT, and payments on liquidation of OCT or the redemption of Capital Securities, are guaranteed by the Company to the extent OCT has funds available. If the Company does not make principal or interest payments on the Junior Subordinated Debentures, OCT will not have sufficient funds to make distributions on the Capital Securities, in which event the guarantee shall not apply to such distributions until OCT has sufficient funds available. The Company has the right to defer payment of interest on the Junior Subordinated Debentures at any time or from time to time for a period not exceeding 10 consecutive semi-annual periods with respect to each deferral period, provided that no extension period may extend beyond the stated maturity of the Junior Subordinated Debentures. Upon the termination of any such extension period and the payment of all amounts then due on any interest payment date, the Company may elect to begin a new extension period. Accordingly, there could be multiple extension periods of varying lengths throughout the term of the Junior Subordinated Debentures. If interest payments on the Junior Subordinated Debentures are deferred, distributions on the Capital Securities will also be deferred and the Company may, and may not permit any subsidiary of the Company to, (i) declare or pay any dividends or distributions on, or redeem, purchase, acquire, or make a liquidation payment with respect to, the Company's capital stock or (ii) make any payment of principal, interest or premium, if any, on or repay, repurchase or redeem any debt securities that rank PARI PASSU with or junior to the Junior Subordinated Debentures. During an extension period, interest on the Junior Subordinated Debentures will continue to accrue at the rate of 10 7/8% per annum, compounded semi-annually. 10
OCWEN FINANCIAL CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS JUNE 30, 1999 (DOLLARS AND BRITISH POUNDS IN THOUSANDS, EXCEPT SHARE DATA) ================================================================================ The Junior Subordinated Debentures are redeemable prior to maturity at the option of the Company, subject to the receipt of any necessary prior regulatory approval, (i) in whole or in part on or after August 1, 2007 at a redemption price equal to 105.438% of the principal amount thereof on August 1, 2007 declining ratably on each August 1 thereafter to 100% on or after August 1, 2017, plus accrued interest thereon, or (ii) at any time, in whole (but not in part), upon the occurrence and continuation of a special event (defined as a tax event, regulatory capital event or an investment company event) at a redemption price equal to the greater of (a) 100% of the principal amount thereof or (b) the sum of the present values of the principal amount and premium payable with respect to an optional redemption of such Junior Subordinated Debentures on August 1, 2007, together with scheduled payments of interest from the prepayment date to August 1, 2007, discounted to the prepayment date on a semi-annual basis at the adjusted Treasury rate plus accrued interest thereon to the date of prepayment. The Capital Securities are subject to mandatory redemption, in whole or in part, upon repayment of the Junior Subordinated Debentures at maturity or their earlier redemption, in an amount equal to the amount of the related Junior Subordinated Debentures maturing or being redeemed and at a redemption price equal to the redemption price of the Junior Subordinated Debentures, plus accumulated and unpaid distributions thereon to the date of redemption. For financial reporting purposes, OCT is treated as a subsidiary of the Company and, accordingly, the accounts of OCT are included in the consolidated financial statements of the Company. Intercompany transactions between OCT and the Company, including the Junior Subordinated Debentures, are eliminated in the consolidated financial statements of the Company. The Capital Securities are presented as a separate caption between liabilities and stockholders' equity in the consolidated statement of financial condition of the Company as "Company-obligated, mandatorily redeemable securities of subsidiary trust holding solely junior subordinated debentures of the Company". Distributions payable on the Capital Securities are recorded as a separate caption immediately following non-interest expense in the consolidated statement of operations of the Company. The Company intends to continue this method of accounting going forward. NOTE 5 DERIVATIVE FINANCIAL INSTRUMENTS The Company uses derivative financial instruments for the purpose of reducing its exposure to adverse fluctuations in interest and foreign currency exchange rates. While these hedging instruments are subject to fluctuations in value, such fluctuations are generally offset by the change in value of the underlying exposures being hedged. INTEREST RATE MANAGEMENT In managing its interest rate risk, the Company on occasion enters into swaps. Under swaps, the Company agrees with other parties to exchange, at specified intervals, the difference between fixed-rate and floating-rate interest amounts calculated by reference to an agreed notional amount. The terms of the swaps provide for the Company to receive a floating rate of interest equal to the London Interbank Offered Rate ("LIBOR") and to pay fixed interest rates. The notional amount of the outstanding swap is amortized (i.e., reduced) monthly based upon estimated prepayment rates. The Company had no interest rate swaps outstanding at June 30, 1999 and December 31, 1998. The Company also enters into short sales of Eurodollar and U.S. Treasury interest rate futures contracts as part of its overall interest rate risk management activity. Interest rate futures contracts are commitments to either purchase or sell designated financial instruments at a future date for a specified price and may be settled in cash or through delivery. Eurodollar futures contracts have been sold by the Company to hedge the maturity risk of certain short-duration mortgage-related securities. U.S. Treasury futures have been sold by the Company to hedge the risk of a reduction in the market value of fixed-rate mortgage loans and certain fixed-rate mortgage-backed and related securities available for sale in a rising interest rate environment. The Company had no interest rate futures contracts outstanding at June 30, 1999 and December 31, 1998. The Company also manages its interest rate risk by purchasing European swaptions and put options. A European swaption is an option to enter into an interest rate swap at a future date at a specific rate. A European put option allows the Company to sell a specified quantity of an asset, at a specified price at a specified date. The following table sets for the terms and values of these 11
OCWEN FINANCIAL CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS JUNE 30, 1999 (DOLLARS AND BRITISH POUNDS IN THOUSANDS, EXCEPT SHARE DATA) ================================================================================ financial instruments at June 30, 1999. The Company held no such financial instruments at December 31, 1998. <TABLE> <CAPTION> Notional Strike Amount Maturity Rate/Price Fair Value ---------- ---------- ------------ ------------ <S> <C> <C> <C> <C> European 10 year treasury swaption .......................... $ 2,000 8/99 6.70% $ 23 7,500 3/00 6.78% 189 5,800 5/00 6.72% 176 European 10 year treasury put option, 4.75% due 11/05/08..... -- 11/99 $ 92.91 139 ------- ---------- $15,300 $ 527 ======= ========== </TABLE> FOREIGN CURRENCY MANAGEMENT The Company enters into foreign currency derivatives to hedge its equity investments in Ocwen UK and Kensington. It is the Company's policy to periodically adjust the amount of foreign currency derivative contracts it has entered into in response to changes in its recorded equity investment in these foreign entities. The Company has determined that the local currency of its foreign subsidiary, Ocwen UK and its equity investment in Kensington, is the functional currency. In accordance with SFAS No. 52, "Foreign Currency Translation", assets and liabilities denominated in a foreign currency are translated into U.S. dollars at the current rate of exchange existing at the statement of financial condition date and revenues and expenses are translated at average monthly rates. The Company sells short foreign currency futures contracts ("currency futures") to hedge its foreign currency exposure related to its equity investment in Ocwen UK. Periodically, the Company adjusts the amount of currency futures contracts it has entered into in response to changes in its equity investment in Ocwen U.K. In addition, during 1998 the Company sold short foreign currency futures contracts to further hedge its foreign currency exposure related to its equity investment in Kensington. Under the terms of the currency futures, the Company had the right to receive $1,547 and pay (pound)938. These currency futures were closed during January 1999. The fair value of the currency futures is based on quoted market prices. The Company entered into a foreign currency swap agreement ("currency swap") with a AAA-rated counterparty to hedge its equity investment in Kensington. Under the terms of the currency swap, the Company will swap (pound)27,500 for $43,546 in five years based on the exchange rate on the date the contract became effective. The discount on the currency swap, representing the difference between the contracted forward rate and the spot rate at the date of inception, is amortized over the life of the currency swap on a straight-line basis. The value of the currency swap is calculated as the notional amount of the currency swap multiplied by the difference between the spot rate at the date of inception and the spot rate at the financial statement date. The resulting translation adjustments, the unamortized discount on the currency swap and the values of the hedging financial instruments are reported as translation adjustments and included as a component of accumulated other comprehensive income in stockholders' equity. 12
OCWEN FINANCIAL CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS JUNE 30, 1999 (DOLLARS AND BRITISH POUNDS IN THOUSANDS, EXCEPT SHARE DATA) ================================================================================ The following table sets forth the terms and values of these financial instruments at June 30, 1999, and December 31, 1998. <TABLE> <CAPTION> Notional Amount --------------------------- Contract Unamortized Maturity Pay Receive Rate Discount Fair Value -------- ------------- ---------- --------- ----------- ---------- <S> <C> <C> <C> <C> <C> <C> JUNE 30, 1999: Currency swap...................... 2003 (pound)27,500 $ 43,546 1.5835 $ 1,297 $ 165 ============= ========= ========= ========= British Pound currency futures..... 1999 (pound)31,000 $ 49,724 1.6040 n/a $ 769 1999 14,250 22,886 1.6060 n/a 382 1999 563 895 1.5910 n/a (6) ------------- --------- --------- (pound)45,813 $ 73,505 $ 1,145 ============= ========= ========= DECEMBER 31, 1998: Currency swap...................... 2003 (pound)27,500 $ 43,546 1.5835 $ 1,562 $ 2,096 ============= ========= ========= ========= British Pound currency futures..... 1999 (pound) 938 $ 1,547 1.6500 n/a $ (6) 1999 26,563 43,828 1.6500 n/a (181) ------------- --------- --------- (pound)27,501 $ 45,375 $ (187) ============= ========= ========= </TABLE> Because interest rate futures and foreign currency futures contracts are exchange traded, holders of these instruments look to the exchange for performance under these contracts and not the entity holding the offsetting futures contract, thereby minimizing the risk of nonperformance under these contracts. The Company is exposed to credit loss in the event of nonperformance by the counterparty to the interest and currency swaps and controls this risk through credit monitoring procedures. The notional principal amount does not represent the Company's exposure to credit loss. On January 1, 1999, eleven of the fifteen member countries of the European Union converted to a common currency (the "Euro"). Since such time transactions have been conducted using either the Euro or the countries' existing currencies. Although the United Kingdom is a member of the European Union, it is not one of the participating countries in the Euro conversion, and the Company currently does not have transactions or operations in any of the participating countries. As a result, the Euro conversion had no effect on the Company's financial condition or results of operations. NOTE 6 REGULATORY REQUIREMENTS The Financial Institutions Reform, Recovery and Enforcement Act of 1989 ("FIRREA") and the regulations promulgated thereunder established certain minimum levels of regulatory capital for savings institutions subject to Office of Thrift Supervision ("OTS") supervision. The Bank must follow specific capital guidelines stipulated by the OTS which involve quantitative measures of the Bank's assets, liabilities and certain off-balance sheet items. An institution that fails to comply with its regulatory capital requirements must obtain OTS approval of a capital plan and can be subject to a capital directive and certain restrictions on its operations. At June 30, 1999, the minimum regulatory capital requirements were: o Tangible and core capital of 1.50 percent and 3.00 percent of total adjusted assets, respectively, consisting principally of stockholders' equity, but excluding most intangible assets, such as goodwill and any net unrealized holding gains or losses on debt securities available for sale. o Risk-based capital consisting of core capital plus certain subordinated debt and other capital instruments and, subject to certain limitations, general valuation allowances on loans receivable, equal to 8.00 percent of the value of risk-weighted assets. 13
OCWEN FINANCIAL CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS JUNE 30, 1999 (DOLLARS AND BRITISH POUNDS IN THOUSANDS, EXCEPT SHARE DATA) ================================================================================ At June 30, 1999, the Bank was "well-capitalized" under the prompt corrective action ("PCA") regulations adopted by the OTS pursuant to the Federal Deposit Insurance Corporation Improvement Act of 1991 ("FDICIA"). To be categorized as "well-capitalized," the Bank must maintain minimum core capital, Tier 1 risk-based capital and total risk-based capital ratios as set forth in the table below. The Bank's capital amounts and classification are subject to review by federal regulators about components, risk-weightings and other factors. The following tables summarize the Bank's actual and required regulatory capital at June 30, 1999: <TABLE> <CAPTION> To Be Well Minimum Capitalized for Commitment for Capital Prompt Corrective Capital Actual Adequacy Purposes Action Provisions Requirements ---------------------- --------------------- ---------------------- ------------ Ratio Amount Ratio Amount Ratio Amount Ratio ------ ----------- ----- ----------- ----- ----------- ------------ <S> <C> <C> <C> <C> <C> <C> <C> Stockholders' equity, and ratio to total assets ........................... 10.28% $ 253,082 Net unrealized gain on certain available for sale securities ....................... (729) Excess mortgage servicing rights............. (588) Acquired real estate......................... (19,846) ------------ Tangible capital, and ratio to adjusted total assets .............................. 9.50% $ 231,919 1.50% $ 36,629 ============ =========== Tier 1 (core) capital, and ratio to adjusted total assets ..................... 9.50% $ 231,919 3.00% $ 73,257 5.00% $ 122,095 9.00% =========== =========== Low-level recourse deduction................. (12,181) ------------ Tier 1 capital, and ratio to risk-weighted assets ...................... 11.52% $ 219,738 6.00% $ 114,399 ============ =========== Allowance for loan and lease losses.......... 23,853 Subordinated debentures...................... 98,000 ------------ Tier 2 capital............................... 121,853 ------------ Total risk-based capital, and ratio to risk-weighted assets ...................... 17.92% $ 341,591 8.00% $ 152,533 10.00% $ 190,666 13.00% ============ =========== =========== Total regulatory assets...................... $ 2,463,072 ============ Adjusted total assets........................ $ 2,441,909 ============ Risk-weighted assets......................... $ 1,906,657 ============ </TABLE> The OTS has promulgated a regulation governing capital distributions. The Bank is considered to be a Tier 1 association under this regulation because it met or exceeded its fully phased-in capital requirements at December 31, 1996. A Tier 1 association that before and after a proposed capital distribution meets or exceeds its fully phased-in capital requirements may make capital distributions during any calendar year equal to the greater of (i) 100% of net income for the calendar year to date plus 50% of its "surplus capital ratio" at the beginning of the year or (ii) 75% of its net income over the most recent four-quarter period. In order to make these capital distributions, the Bank must submit written notice to the OTS 30 days in advance of making the distribution. 14
OCWEN FINANCIAL CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS JUNE 30, 1999 (DOLLARS AND BRITISH POUNDS IN THOUSANDS, EXCEPT SHARE DATA) ================================================================================ The OTS recently published amendments to its capital distribution regulation which became effective April 1, 1999. Under the revised regulation, the Bank is required to file either an application or a notice with the OTS at least 30 days prior to making a capital distribution. The OTS may deny the Bank's application or disapprove its notice if the OTS determines that (a) the Bank will be "undercapitalized", "significantly undercapitalized" or "critically under capitalized", as defined in the OTS capital regulations, following the capital distribution, (b) the proposed capital distribution raises safety and soundness concerns or (c) the proposed capital distribution violates a prohibition contained in any statute, regulation, agreement between the Bank and the OTS or a condition imposed on the Bank in an application or notice approved by the OTS. In addition to these OTS regulations governing capital distributions, the indenture governing the $98,000 of 12% subordinated debentures (the "Debentures") due 2005 and issued by the Bank on June 12, 1995 in the original amount of $100,000, limits the declaration or payment of dividends and the purchase or redemption of common or preferred stock in the aggregate to the sum of 50% of consolidated net income and 100% of all capital contributions and proceeds from the issuance or sale (other than to a subsidiary) of common stock, since the date the Debentures were issued. Following an examination by the OTS in late 1996 and early 1997, the Bank committed to the OTS to maintain a core capital (leverage) ratio and a total risk-based capital ratio of at least 9% and 13%, respectively. The Bank continues to be in compliance with this commitment as well as the regulatory capital requirements of general applicability (as indicated above). Based on discussions with the OTS, the Bank believes that this commitment does not affect its status as a "well-capitalized" institution, assuming the Bank's continued compliance with the regulatory capital requirements to be maintained by it pursuant to such commitment. NOTE 7 COMMITMENTS AND CONTINGENCIES At June 30, 1999, the Company had commitments to (i) originate $22,515 of subprime loans secured by single family residential properties, subject to the borrower meeting certain conditions, and (ii) fund $11,159 of loans secured by multi-family residential buildings. In addition, the Company through the Bank had commitments under outstanding letters of credit in the amount of $25,705 at June 30, 1999. The Company, through its investment in subordinate securities and subprime residuals, which had a fair value of $242,042 (amortized cost of $229,721) at June 30, 1999, supports senior classes of securities. On April 23, 1999, a complaint was filed on behalf of a putative class of public shareholders of OAC in the Circuit Court of the Fifteenth Judicial Circuit, Palm Beach County, Florida against OCN and OAC. On April 23, 1999, a complaint was filed on behalf of the putative classes of public shareholders of OAC in the Circuit Court of the Fifteenth Judicial Circuit, Palm Beach Country, Florida against OAC and certain directors of OAC. The plaintiffs in both complaints seek to enjoin the consummation of the merger. Alternatively, in the event the merger is consummated, the plaintiffs seek damages for alleged breaches of common law fiduciary duties. NOTE 8 BUSINESS SEGMENT REPORTING Operating segments are defined as components of an enterprise that (a) engage in business activities from which it may earn revenues and incur expenses, (b) whose operating results are regularly reviewed by the enterprise's chief operating decision-maker to make decisions about resources to be allocated to the segment and assess its performance, and (c) for which discrete financial information is available. An operating segment may engage in business activities for which it has yet to earn revenues. The Company conducts a variety of business activities within the following segments: 15
OCWEN FINANCIAL CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS JUNE 30, 1999 (DOLLARS AND BRITISH POUNDS IN THOUSANDS, EXCEPT SHARE DATA) ================================================================================ <TABLE> <CAPTION> Net Interest Non-Interest Non-Interest Net (Loss) Total At or for the three months ended June 30, 1999 Income Income Expense Income Assets - ----------------------------------------------- ------------ ------------ ------------ ----------- ----------- <S> <C> <C> <C> <C> <C> Discount loans: Single family residential loans ............ $ 5,370 $ (13,702) $ 3,836 $ (8,865) $ 521,263 Commercial real estate loans ............... 4,706 5,893 4,967 3,298 743,263 ----------- ----------- ----------- ----------- ----------- 10,076 (7,809) 8,803 (5,567) 1,264,526 ----------- ----------- ----------- ----------- ----------- Domestic mortgage loan servicing ............ 1,343 13,548 9,590 3,223 80,165 Investment in low-income housing tax credits. (2,660) 1,745 3,002 1,452 225,624 Commercial real estate lending .............. 5,622 378 15 3,712 39,494 UK operations ............................... 8,363 19,031 12,234 9,217 257,397 OTX ......................................... 4 314 4,574 (4,256) 27,536 Domestic subprime family residential lending. 2,951 (3,427) 3,360 (2,518) 129,244 Investment securities ....................... 860 (1,514) 1,593 (1,756) 519,409 Equity investment in OAC .................... -- -- -- (3,267) 35,968 Other ....................................... (850) 2,546 4,614 (3,927) 432,904 ----------- ----------- ----------- ----------- ----------- $ 25,709 $ 24,812 $ 47,785 $ (3,687) $ 3,012,267 =========== =========== =========== =========== =========== Net Interest Non-Interest Non-Interest Net (Loss) Total At or for the six months ended June 30, 1999 Income Income Expense Income Assets - ----------------------------------------------- ------------ ------------ ------------ ----------- ----------- <S> <C> <C> <C> <C> <C> Discount loans: Single family residential loans ............ $ 12,252 $ (4,132) $ 7,935 $ (4,343) $ 521,263 Commercial real estate loans ............... 11,788 13,528 11,064 6,800 743,263 ----------- ----------- ----------- ----------- ----------- 24,040 9,396 18,999 2,457 1,264,526 ----------- ----------- ----------- ----------- ----------- Domestic mortgage loan servicing ............ 2,537 27,479 19,073 6,730 80,165 Investment in low-income housing tax credits. (5,021) 2,368 6,271 2,997 225,624 Commercial real estate lending .............. 7,197 1,102 419 5,850 39,494 UK operations ............................... 15,524 24,625 23,373 9,346 257,397 OTX ......................................... 10 706 7,977 (7,261) 27,536 Domestic subprime family residential lending ....................... 7,280 (1,811) 10,139 (2,982) 129,244 Investment securities ....................... 2,452 (1,615) 3,201 (1,844) 519,409 Equity investment in OAC .................... -- -- -- (3,485) 35,968 Other ....................................... (1,574) 8,136 10,456 (6,025) 432,904 ----------- ----------- ----------- ----------- ----------- $ 52,445 $ 70,386 $ 99,908 $ 5,783 $ 3,012,267 =========== =========== =========== =========== =========== </TABLE> 16
OCWEN FINANCIAL CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS JUNE 30, 1999 (DOLLARS AND BRITISH POUNDS IN THOUSANDS, EXCEPT SHARE DATA) ================================================================================ <TABLE> <CAPTION> Net Interest Non-Interest Non-Interest Net (Loss) Total At or for the three months ended June 30, 1998 Income Income Expense Income Assets - ----------------------------------------------- ------------ ------------ ------------ ----------- ----------- <S> <C> <C> <C> <C> <C> Discount loans: Single family residential loans ............ $ 6,134 $ 11,348 $ 586 $ 4,520 $ 766,262 Commercial real estate loans ............... 15,532 15,712 5,801 11,773 1,010,738 ----------- ----------- ----------- ----------- ----------- 21,666 27,060 6,387 16,293 1,777,000 ----------- ----------- ----------- ----------- ----------- Domestic mortgage loan servicing ............ 1,575 10,262 13,408 819 21,445 Investment in low-income housing tax credits. (1,979) (60) 2,269 1,435 179,497 Commercial real estate lending .............. 6,149 2,940 490 5,173 146,952 UK operations ............................... 4,910 17,225 11,423 7,449 209,350 OTX ......................................... -- 307 3,453 (3,146) 18,506 Domestic subprime family residential lending ................................... 3,492 503 10,118 (4,268) 309,254 Investment securities ....................... 724 (73,743) 1,459 (47,122) 418,152 Other ....................................... 1,778 1,755 7,242 (14,532) 425,423 ----------- ----------- ----------- ----------- ----------- $ 38,315 $ (13,751) $ 56,249 $ (37,899) $ 3,505,579 =========== =========== =========== =========== =========== Net Interest Non-Interest Non-Interest Net (Loss) Total At or for the six months ended June 30, 1998 Income Income Expense Income Assets - ----------------------------------------------- ------------ ------------ ------------ ----------- ----------- <S> <C> <C> <C> <C> <C> Discount loans: Single family residential loans ............ $ 12,989 $ 31,643 $ 4,326 $ 18,703 $ 766,262 Commercial real estate loans ............... 26,450 20,617 10,112 17,057 1,010,738 ----------- ----------- ----------- ----------- ----------- 39,439 52,260 14,438 35,760 1,777,000 ----------- ----------- ----------- ----------- ----------- Domestic mortgage loan servicing ............ 2,644 19,481 21,273 2,323 21,445 Investment in low-income housing tax credits. (4,470) 4,686 3,915 6,394 179,497 Commercial real estate lending .............. 7,241 2,913 1,226 5,068 146,952 UK operations ............................... 4,910 17,225 11,423 7,449 209,350 OTX ......................................... -- 512 4,760 (4,248) 18,506 Domestic subprime family residential lending. 7,123 7,989 19,888 (3,587) 309,254 Investment securities ....................... (1,799) (79,805) 2,980 (53,991) 418,152 Other ....................................... 4,394 2,369 10,357 (10,722) 425,423 ----------- ----------- ----------- ----------- ----------- $ 59,482 $ 27,630 $ 90,260 $ (15,554) $ 3,505,579 =========== =========== =========== =========== =========== </TABLE> Other consists primarily of consolidated tax effects not allocated to individual business units, individually insignificant business activities, including the Company's historical loan portfolio of conventional single family residential loans, small commercial loan originations, unsecured collections, and the operations of OCC. 17
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations ================================================================================ GENERAL The Company's primary business activities currently consist of its single family residential, multi-family residential and commercial discount loan acquisition and resolution activities, subprime single family residential lending, mortgage loans serviced for others, the development of loan servicing technology and software for the mortgage and real estate industries, and investments in low-income housing tax credit interests. The Company is a registered savings and loan holding company subject to regulation by the OTS. The Bank is subject to regulation by the OTS, as its chartering authority, and by the Federal Deposit Insurance Corporation ("FDIC") as a result of its membership in the Savings Association Insurance Fund ("SAIF") administered by the FDIC, which insures the Bank's deposits up to the maximum extent permitted by law. The Bank is also subject to certain regulation by the Board of Governors of the Federal Reserve System ("Federal Reserve Board") and currently is a member of the Federal Home Loan Bank ("FHLB") of New York, one of the 12 regional banks which comprise the FHLB System. The consistency of the operating results of the Company can be significantly affected by inter-period variations in: (i) the amount of assets acquired, particularly discount loans; (ii) the amount of resolutions of discount loans, particularly large multi-family residential and commercial real estate loans; (iii) the amount of multi-family residential and commercial real estate loans which mature or are prepaid, particularly loans with terms pursuant to which the Company participates in the profits of the underlying real estate; (iv) sales by the Company of loans and securities; and (v) the volume and frequency of the Company's securitization of loans. Additionally, the results for the first quarter of 1998 do not include the operations of Ocwen UK, which was acquired in April 1998. The Company continuously evaluates opportunities with respect to its business in order to enhance shareholder value. To that end, the Company has, like many other companies in the financial services industry, from time to time considered and explored a variety of potential material transactions and participated in discussions regarding such transactions with third parties, and the Company will likely continue to do so in the future. The Company cannot predict whether or when any such transaction may be consummated or the form that such a transaction may take. The following discussion of the Company's consolidated financial condition, results of operations, capital resources and liquidity should be read in conjunction with the Interim Consolidated Financial Statements and related Notes included in Item 1 hereof. RECENT DEVELOPMENTS On July 25, 1999 OCN entered into a definitive merger agreement with OAC (the "Merger") providing for OCN to acquire OAC for 0.71 shares of OCN common stock for each outstanding share of OAC common stock (other than those OAC shares owned by OCN or its subsidiaries). OCN has agreed to provide in certain circumstances up to $25 million in financing for OAC's operations prior to the merger. The Merger, which is structured to be taxable to the OAC shareholders, is expected to close in the fourth quarter of 1999, subject to antitrust approvals and the approval of the shareholders of each of OCN and OAC. In connection therewith, on August 10, 1999, OCN filed a joint proxy and registration statement on Form S-4 with the Securities and Exchange Commission ("SEC"). If the Merger is consummated, OAC will no longer qualify as a REIT under the provisions of the Code, which requires a REIT to be owned by 100 or more persons. If OAC does not qualify as a REIT, it will be subject to tax (including any applicable alternative minimum tax) on its taxable income at regular corporate rates. See Note 7 to the Interim Consolidated Financial Statements included in Item 1 hereof. On August 13, 1999, the Company reported that it entered into a contract with Southern Pacific Funding Corporation to service 17,660 subprime residential mortgage loans having an unpaid principal balance of $1.3 billion. The loans were transferred to the Company's new national servicing center in Orlando, Florida on August 3, 1999. 18
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations ================================================================================ <TABLE> <CAPTION> SELECTED CONSOLIDATED FINANCIAL INFORMATION June 30, December 31, Increase 1999 1998 (Decrease) ------------ ------------- ----------- <S> <C> <C> <C> BALANCE SHEET DATA (Dollars in thousands) Total assets ....................................................... $ 3,012,267 $ 3,308,079 (9)% Securities available for sale, at fair value ....................... 733,271 593,347 24 Loans available for sale, at lower of cost or market ............... 132,425 177,847 (26) Loan portfolio, net ................................................ 133,678 230,312 (42) Discount loan portfolio, net ....................................... 1,008,764 1,026,511 (2) Investment in low-income housing tax credit interests .............. 180,566 144,164 25 Investment in unconsolidated entities .............................. 79,958 86,893 (8) Real estate owned, net ............................................. 183,162 201,551 (9) Total liabilities .................................................. 2,450,815 2,746,111 (11) Deposits ........................................................... 1,874,553 2,175,016 (14) Obligations outstanding under lines of credit ...................... 94,039 179,285 (48) Notes, debentures and other interest bearing obligations ........... 279,236 225,000 24 Capital Securities ................................................. 125,000 125,000 -- Stockholders' equity ............................................... 435,987 436,376 -- At or For the Three Months Ended June 30, ----------------------------------------------- Increase 1999 1998 (Decrease) ------------ ------------- ----------- <S> <C> <C> <C> OPERATIONS DATA (Dollars in thousands) Net interest income ................................................ $ 25,709 $ 38,315 (33)% Provision for loan losses .......................................... 623 9,675 (94) Non-interest income (loss) ......................................... 24,812 (13,751) 280 Non-interest expense ............................................... 47,785 56,249 (15) Equity in (losses) earnings of investment in unconsolidated entities ....................................... (3,470) 544 (738) Income tax benefit ................................................. 972 6,383 (85) Net loss ........................................................... (3,687) (37,899) 90 PER COMMON SHARE Loss per share: Basic ........................................................... $ (0.06) $ (0.62) 90% Diluted ......................................................... (0.06) (0.62) 90 Stock price: High ............................................................ $ 9.38 $ 28.38 (67)% Low ............................................................. 8.19 22.31 (63) Close ........................................................... 8.88 26.88 (67) Repurchase of common stock (treasury stock) (1) .................... $ 8.92 $ -- -- KEY RATIOS Annualized return on average assets (2) ............................ (0.47)% (3.80)% 88% Annualized return on average equity (2) ............................ (3.36) (34.88) 90 Efficiency ratio (3) ............................................... 101.56 226.44 (55) Core (leverage) capital ratio ...................................... 9.50 9.64 (2) Risk-based capital ratio ........................................... 16.71 16.11 (4) </TABLE> 19
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations ================================================================================ <TABLE> <CAPTION> At or For the Six Months Ended June 30, ----------------------------------------------------- Increase 1999 1998 (Decrease) --------------- ---------------- -------------- OPERATIONS DATA (Dollars in thousands) <S> <C> <C> <C> Net interest income.............................................. $ 52,445 $ 59,483 (12)% Provision for loan losses........................................ 4,362 11,929 (63) Non-interest income.............................................. 70,386 27,630 155 Non-interest expense............................................. 99,908 90,260 11 Equity in (losses) earnings of investment in unconsolidated entities .................................... (4,713) 544 (966) Income tax (expense) benefit..................................... (1,396) 5,810 (76) Net income (loss)................................................ 5,783 (15,554) 137 PER COMMON SHARE Earnings (loss) per share: Basic......................................................... $ 0.10 $ (0.26) 138% Diluted....................................................... 0.10 (0.26) 138 Stock price: High $ 12.31 $ 30.75 (62)% Low 7.75 22.25 (65) Close......................................................... 8.88 26.88 (67) Repurchase of common stock (treasury stock) (1) ................. $ 8.92 $ -- -- KEY RATIOS Annualized return on average assets (2).......................... 0.36% (.86)% 184% Annualized return on average equity (2).......................... 2.64 (7.23) 173 Efficiency ratio (3) ............................................ 84.58 102.98 (18) Core (leverage) capital ratio.................................... 9.50 9.64 (2) Risk-based capital ratio......................................... 17.92 16.11 4 </TABLE> (1) On April 16, 1999, the Company announced that its Board of Directors had authorized the repurchase of up to six million of its issued and outstanding shares of common stock. During the second quarter of 1999, the Company repurchased 205,300 shares of its common stock for a total of $1.8 million. The 205,300 shares were the first such shares repurchased under this program. (2) Exclusive of the impairment charges of $28.7 million and $81.8 million ($22.9 million and $65.6 million after tax) for the three months ended June 30, 1999 and 1998, respectively, the annualized return on average assets would have been 2.43% and 2.76% for the three months ended June 30, 1999 and 1998, respectively and the annualized return on average equity would have been 17.48% and 25.49% for the three months ended June 30, 1999 and 1998, respectively. Exclusive of the impairment charges of $28.9 million and $90.3 million ($23.1 million and $72.2 million after tax) for the six months ended June 30, 1999 and 1998, respectively, the annualized return on average assets would have been 1.81% and 3.13% for the six months ended June 30, 1999 and 1998, respectively and the annualized return on average equity would have been 13.19% and 26.34% for the six months ended June 30, 1999 and 1998, respectively. (3) The efficiency ratio represents non-interest expense divided by the sum of net interest income before provision for loan losses, non-interest income and equity in (losses) earning of investment in unconsolidated entities. Exclusive of the impairment charges of $28.8 million and $81.8 million for the three months ended June 30, 1999 and 1998, respectively, the efficiency ratio would have been 63.02% and 52.61% for the three months ended June 30, 1999 and 1998, respectively. Exclusive of the impairment charges of $28.9 million and $90.3 million for the six months ended June 30, 1999 and 1998, respectively, the efficiency ratio would have been 67.96% and 50.71% for the six months ended June 30, 1999 and 1998, respectively. 20
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations ================================================================================ RESULTS OF OPERATIONS: THREE AND SIX MONTHS ENDED JUNE 30, 1999 VERSUS THREE AND SIX MONTHS ENDED JUNE 30, 1998 SEGMENT PROFITABILITY. The following table presents the contribution by business segment to the Company's net income for the periods indicated. <TABLE> <CAPTION> Three Months Ended June 30, Six Months Ended June 30, ---------------------------------------- ------------------------------------ Increase Increase For the periods ended June 30, 1999 1998 (Decrease) 1999 1998 (Decrease) - ------------------------------------ ----------- ---------- ---------- ---------- --------- --------- <S> <C> <C> <C> <C> <C> <C> (Dollars in thousands) Discount loans: Single family residential loans.. $ (8,865) $ 4,520 $ (13,385) $ (4,343) $ 18,703 $ (23,046) Commercial real estate loans..... 3,298 11,773 (8,475) 6,800 17,057 (10,257) ----------- ---------- ---------- ---------- --------- --------- (5,567) 16,293 (21,860) 2,457 35,760 (33,303) ----------- ---------- ---------- ---------- --------- --------- Domestic mortgage loan servicing.... 3,223 819 2,404 6,730 2,323 4,407 Low-income housing tax credits...... 1,452 1,435 17 2,997 6,394 (3,397) Commercial real estate lending...... 3,712 5,173 (1,461) 5,850 5,068 782 UK operations....................... 9,217 7,449 1,768 9,346 7,449 1,897 OTX ................................ (4,256) (3,146) (1,110) (7,261) (4,248) (3,013) Domestic subprime single family residential lending................ (2,518) (4,268) 1,750 (2,982) (3,587) 605 Investment securities............... (1,756) (47,122) 45,366 (1,844) (53,991) 52,147 Equity investment in OAC............ (3,268) -- (3,268) (3,485) -- (3,485) Other............................... (3,926) (14,532) 10,606 (6,025) (10,722) 4,697 ----------- ---------- ---------- ---------- --------- --------- Net (loss) income $ (3,687) $ (37,899) $ 34,212 $ 5,783 $ (15,554) $ 21,337 =========== ========== ========== ========== ========= ========= </TABLE> o SINGLE FAMILY RESIDENTIAL DISCOUNT LOANS. Net losses in 1999 included $22.8 million of pretax impairment charges on residential subordinate securities recorded in the second quarter. Also in the second quarter of 1999, OCN completed one securitization of single family residential loans with an aggregate unpaid principal balance of $90.0 million and recorded a total gain of $8.9 million, of which $6.7 million was a cash gain. In the second quarter of 1998, the Company completed one securitization of single family residential loans with an aggregate unpaid principal balance of $98.3 million, which accounted for a total gain of $12.2 million, of which $7.4 million was a cash gain. For the six months ended June 30, 1999 and 1998, securitization gains totaled $22.8 million and $28.9 million, respectively. See "Non-Interest Income." o COMMERCIAL REAL ESTATE DISCOUNT LOANS. Net income for the first six months of 1998 included $8.2 million of pretax gains on sales of large commercial real estate owned properties as compared to $4.1 million for the same period in 1999. Also contributing to the decline in net income for 1999, was an increase in the provision for loss in fair value on real estate owned, offset by a decline in the provision for loan losses. Net income for 1998 also included $4.8 million of pretax gains on the sale of large commercial discount loans, as compared to $2.6 million of gains on sales of large and small commercial discount loans and a $3.8 million gain on the sale of commercial subordinate securities for the same period in 1999. o DOMESTIC MORTGAGE LOAN SERVICING. The increase in net income from mortgage loan servicing during 1999 reflects an increase in servicing fees as compared to 1998, and was primarily due to an increase in the average unpaid principal balance of loans serviced for others. The unpaid principal balance of loans serviced for others averaged $10.24 billion and $10.40 billion during the three and six months ended June 30, 1999, respectively, as compared to $7.12 billion and $6.63 billion during the three and six months ended June 30, 1998. o LOW-INCOME HOUSING TAX CREDITS. Net income for the six months ended June 30, 1998 included a $4.7 million gain on the sale of investments in two tax credit interests during the first quarter of 1998. o UK OPERATIONS. Net income for 1999 included a $10.2 million gain recorded in connection with one securitization of subprime single family loans with an aggregate unpaid principal balance of $295.2 million during the second quarter. For 1998, net income included a $9.1 million gain recorded in connection with one securitization of subprime single family loans with an unpaid principal balance of $363.8 million during the second quarter. 21
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations ================================================================================ o OTX. Recently, OTX introduced its RealTrans(SM) software, an update to its e-commerce solution for ordering mortgage and real estate products and services via the Internet. Real Trans(SM) links banks, brokers, appraisers, agents, title insurers, attorneys and other ancillary service providers to facilitate the closing of mortgage and real estate transactions. The losses recorded by OTX reflect the continued investment in the development of this business. Additionally, on June 2, 1999, OTX acquired substantially all of the assets of Synergy Software, LLC ("Synergy"), a developer of commercial and multi-family mortgage servicing systems Synergy is in the final stages of developing its SynergyOPEN (TM) software, a 32-bit, Microsoft(R) Windows-based commercial and multifamily mortgage servicing system that employs multi-tier architecture to allow distributed computing. See Note 4 to the Interim Consolidated Financial Statements included in Item 1 hereof. o DOMESTIC SUBPRIME SINGLE-FAMILY RESIDENTIAL LENDING. Net losses in 1999 included $4.1 million of pretax impairment on subprime residual securities in the second quarter as compared to $4.2 million in 1998, also in the second quarter. In the fourth quarter of 1998, the Company closed its domestic retail branch network, wrote down the related assets and goodwill, and centralized its remaining operations in West Palm Beach. In 1999, the Company closed its domestic wholesale branch network, resulting in a 1999 first quarter pre-tax charge of $1.6 million. In the second quarter of 1999, the Company securitized loans (domestic) aggregating $148.6 million and recorded a total gain on sale of $1.1 million, all of which was non-cash. In the second quarter of 1998, the Company securitized loans with an aggregate unpaid principal balance of $382.7 million for a gain of $9.7 million, all of which was non-cash. See "Non-Interest Income." The Company continues to investigate strategic alternatives with respect to its subprime domestic wholesale operations and has begun investigating strategic alternatives with respect to its UK operations. o INVESTMENT SECURITIES. The net losses on investment securities during 1998 were primarily due to $86.1 million of pretax impairment losses ($77.6 million during the second quarter) on the Company's portfolio of AAA-rated agency interest-only securities ("IOs") The Company discontinued this investment activity and sold the IOs during the third quarter of 1998. NET INTEREST INCOME. The operations of the Company are substantially dependent on its net interest income, which is the difference between the interest income received from its interest-earning assets and the interest expense paid on its interest-bearing liabilities. Net interest income is determined by an institution's net interest spread (i.e., the difference between the yield earned on its interest-earning assets and the rates paid on its interest-bearing liabilities), the relative amount of interest-earning assets and interest-bearing liabilities and the degree of mismatch in the maturity and repricing characteristics of its interest-earning assets and interest-bearing liabilities. The following table sets forth, for the periods indicated, information regarding the total amount of income from interest-earning assets and the resultant average yields, the interest expense associated with interest-bearing liabilities, expressed in dollars and rates, and the net interest rate spread and net interest margin. Information is based on daily balances during the indicated periods. 22
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations ================================================================================ <TABLE> <CAPTION> Three months ended June 30, ---------------------------------------------------------------------------- 1999 1998 -------------------------------------- ------------------------------------ Average Annualized Average Annualized Balance Interest Yield/Rate Balance Interest Yield/Rate ----------- ----------- ---------- ----------- ---------- ---------- <S> <C> <C> <C> <C> <C> <C> AVERAGE ASSETS: (Dollars in thousands) Federal funds sold and repurchase agreements... $ 173,451 $ 2,059 4.75% $ 127,444 $ 1,404 4.41% Securities available for sale (1).............. 591,156 15,659 10.60 589,879 8,728 5.92 Loans available for sale (2)................... 373,723 11,014 11.79 998,282 25,291 10.13 Loan portfolio (2)............................. 174,442 8,878 20.36 285,609 11,655 16.32 Discount loan portfolio (2).................... 958,571 25,553 10.66 1,307,021 42,281 12.94 Investment securities and other................ 30,451 384 5.04 48,227 1,532 12.71 ----------- ----------- ---------- ----------- --------- ------- Total interest-earning assets.................. 2,301,794 63,547 11.04 3,356,462 90,891 10.83 ----------- --------- Non-interest earning cash...................... 56,590 25,264 Allowance for loan losses...................... (28,400) (24,143) Investments in low-income housing tax credit interests........................ 170,761 113,851 Investment in unconsolidated entities.......... 83,893 45,929 Real estate owned, net......................... 197,152 176,613 Investment in real estate...................... 41,955 61,573 Other assets................................... 331,721 237,353 ----------- ----------- Total assets................................ $ 3,155,466 $ 3,992,902 =========== =========== AVERAGE LIABILITIES AND STOCKHOLDERS' EQUITY: Interest-bearing demand deposits............... $ 26,083 252 3.86% $ 26,884 257 3.82% Savings deposits............................... 1,536 9 2.34 1,743 10 2.29 Certificates of deposit........................ 1,536,659 23,298 6.06 1,843,357 28,410 6.16 ----------- ----------- ---------- ----------- ---------- ------- Total interest-bearing deposits............. 1,564,278 23,559 6.02 1,871,984 28,677 6.13 Securities sold under agreements to repurchase. 145,768 2,281 6.26 159,371 2,062 5.18 Federal Home Loan Bank advances................ 3,473 37 4.26 -- -- -- Obligations outstanding under lines of credit.. 342,501 5,293 6.18 924,218 15,103 6.54 Notes, debentures and other.................... 224,810 6,668 11.86 226,373 6,734 11.90 ----------- ----------- ---------- ----------- ---------- ------- Total interest-bearing liabilities......... 2,280,830 37,838 6.64 3,181,946 52,576 6.61 ----------- ---------- Non-interest bearing deposits.................. 22,580 19,440 Escrow deposits................................ 196,240 142,986 Other liabilities.............................. 91,474 88,932 ----------- ----------- Total liabilities........................... 2,591,124 3,433,304 Capital securities............................. 125,000 125,000 Stockholders' equity........................... 439,342 434,598 ----------- ----------- Total liabilities and stockholders' equity.. $ 3,155,466 $ 3,992,902 =========== =========== Net interest income before provision for loan losses................................. $ 25,709 $ 38,315 =========== ========== Net interest rate spread....................... 4.40% 4.22% Net interest margin............................ 4.47% 4.57% Ratio of interest-earning assets to interest-bearing liabilities................ 101% 105% </TABLE> 23
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations ================================================================================ <TABLE> <CAPTION> Six months ended June 30, ---------------------------------------------------------------------------- 1999 1998 -------------------------------------- ------------------------------------ Average Annualized Average Annualized Balance Interest Yield/Rate Balance Interest Yield/Rate ----------- ----------- ---------- ----------- ---------- ---------- <S> <C> <C> <C> <C> <C> <C> AVERAGE ASSETS: (Dollars in thousands) Federal funds sold and repurchase agreements... $ 229,576 $ 5,454 4.75% $ 102,164 $ 2,437 4.77% Securities available for sale (1).............. 550,249 32,848 11.94 559,602 16,672 5.96 Loans available for sale (2)................... 325,369 19,144 11.77 668,838 34,794 10.40 Loan portfolio (2)............................. 194,403 15,044 15.48 283,412 17,917 12.64 Discount loan portfolio (2).................... 964,504 55,556 11.52 1,343,067 79,078 11.78 Investment securities and other................ 37,303 1,035 5.55 42,437 2,017 9.51 ----------- ----------- ----------- ---------- Total interest-earning assets.................. 2,301,404 129,081 11.22 2,999,520 152,915 10.20 ----------- ---------- Non-interest earning cash...................... 85,389 22,744 Allowance for loan losses...................... (26,651) (25,026) Investments in low-income housing Tax credit interests........................ 158,979 122,775 Investment in unconsolidated entities.......... 85,089 44,055 Real estate owned, net......................... 205,467 174,283 Investment in real estate...................... 41,112 65,569 Other assets................................... 342,295 219,556 ----------- ----------- Total assets................................ $ 3,193,084 $ 3,623,476 =========== =========== AVERAGE LIABILITIES AND STOCKHOLDERS' EQUITY: Interest-bearing demand deposits............... $ 48,228 892 3.70% $ 29,966 613 4.09% Savings deposits............................... 1,551 18 2.32 1,739 20 2.30 Certificates of deposit........................ 1,635,190 49,477 6.05 1,817,165 55,889 6.15 ----------- ----------- ------- ----------- ---------- ---- Total interest-bearing deposits............. 1,684,969 50,387 5.98 1,848,870 56,522 6.11 Securities sold under agreements to repurchase. 111,520 3,772 6.76 131,130 3,701 5.64 Federal Home Loan Bank advances................ 1,737 37 4.26 3,740 109 5.83 Obligations outstanding under lines of credit.. 292,479 9,017 6.17 604,214 19,623 6.50 Notes, debentures and other.................... 225,334 13,423 11.91 226,626 13,477 11.89 ----------- ----------- ----------- ---------- Total interest-bearing liabilities ......... 2,316,039 76,636 6.62 2,814,580 93,432 6.64 ----------- ---------- Non-interest bearing deposits.................. 26,978 21,022 Escrow deposits................................ 195,683 126,283 Other liabilities.............................. 91,124 106,047 ----------- ----------- Total liabilities........................... 2,629,824 3,067,932 Capital securities............................. 125,000 125,000 Stockholders' equity........................... 438,260 430,544 ----------- ----------- Total liabilities and stockholders' equity.. $ 3,193,084 $ 3,623,476 =========== =========== Net interest income before provision for loan losses................................. $ 52,445 $ 59,483 =========== ========== Net interest rate spread....................... 4.60% 3.56% Net interest margin............................ 4.56% 3.97% Ratio of interest-earning assets to Interest-bearing liabilities................ 99% 107% </TABLE> (1) Excludes effect of unrealized gains or losses on securities available for sale. (2) The average balances include non-performing loans, interest on which is recognized on a cash basis. The following table describes the extent to which changes in interest rates and changes in volume of interest-earning assets and interest-bearing liabilities have affected the Company's interest income and expense during the periods indicated. For each category of interest-earning assets and 24
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations ================================================================================ interest-bearing liabilities, information is provided on changes attributable to (i) changes in volume (change in volume multiplied by prior rate), (ii) changes in rate (change in rate multiplied by prior volume) and (iii) total change in rate and volume. Changes attributable to both volume and rate have been allocated proportionately to the change due to volume and the change due to rate. <TABLE> <CAPTION> Three Months Six Months -------------------------------------- ----------------------------------- 1999 vs. 1998 1999 vs. 1998 -------------------------------------- ----------------------------------- Increase (decrease) due to Increase (decrease) due to -------------------------------------- ----------------------------------- For the periods ended June 30, Rate Volume Total Rate Volume Total - ------------------------------------------------ --------- --------- --------- --------- --------- --------- <S> <C> <C> <C> <C> <C> <C> Interest-earning assets: (Dollars in thousands) Federal funds sold and repurchase agreements .................................. $ 116 $ 539 $ 655 $ (10) $ 3,027 $ 3,017 Securities available for sale.................. 6,912 19 6,931 16,459 (283) 16,176 Loans available for sale....................... 3,595 (17,872) (14,277) 4,083 (19,733) (15,650) Loan portfolio................................. 2,445 (5,222) (2,777) 3,490 (6,363) (2,873) Discount loan portfolio........................ (6,651) (10,077) (16,728) (1,682) (21,840) (23,522) Investment securities and other................ (712) (436) (1,148) (761) (221) (982) --------- --------- --------- --------- --------- --------- Total interest-earning assets.............. 5,705 (33,049) (27,344) 21,579 (45,413) (23,834) --------- --------- --------- --------- --------- --------- Interest-bearing liabilities: Interest-bearing demand deposits............... 3 (8) (5) (64) 343 279 Savings deposits............................... -- (1) (1) -- (2) (2) Certificate of deposit......................... (455) (4,657) (5,112) (893) (5,519) (6,412) --------- ---------- ---------- --------- --------- --------- Total interest-bearing deposits............ (452) (4,666) (5,118) (957) (5,178) (6,135) Securities sold under agreements to repurchase .................................. 406 (187) 219 672 (601) 71 Federal Home Loan Bank advances................ 37 -- 37 (24) (48) (72) Obligations outstanding under lines of credit.................................... (779) (9,031) (9,810) (949) (9,657) (10,606) Notes, debentures and other obligations........ (20) (46) (66) 22 (76) (54) --------- --------- --------- --------- --------- --------- Total interest-bearing liabilities............. (808) (13,930) (14,738) (1,236) (15,560) (16,796) --------- --------- --------- --------- --------- --------- Increase (decrease) in net interest income...... $ 6,513 $ (19,119) $ (12,606) $ 22,815 $ (29,853) $ (7,038) ========= ========= ========= ========= ========= ========= </TABLE> The Company's net interest income before provision for loan losses of $25.7 million decreased $12.6 million or 33% during the three months ended June 30, 1999 as compared to the same period in the prior year. The decrease in net interest income reflects a $27.3 million decrease in interest income, offset by a $14.7 million decrease in interest expense, and occurred primarily as a result of a decrease in the average balance of interest earning assets and interest bearing liabilities. The net interest spread increased 18 basis points during the three months ended June 30, 1999 as a result of a 21 basis point increase in the weighted average yield on interest-earning assets and a 3 basis point increase in the weighted average rate on interest-bearing liabilities. The impact of these rate changes resulted in a $6.5 million increase in net interest income. Average interest-earning assets decreased by $1.05 billion or 31% during the three months ended June 30, 1999 and reduced interest income by $33.0 million, while average interest-bearing liabilities decreased $901.1 million or 28% and reduced interest expense by $13.9 million. The net impact of these volume changes resulted in a decrease of $19.1 million to net interest income. 25
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations ================================================================================ <TABLE> <CAPTION> Average Balance Increase Average Yield Increase ------------------------- (Decrease) ------------------------ (Decrease) For the three months ended June 30, 1999 1998 $ 1999 1998 Basis Points - ----------------------------------- ----------- ----------- ----------- ------------ ----------- -------------- (Dollars in thousands) <S> <C> <C> <C> <C> <C> <C> Federal funds sold and repurchase agreements ........ $ 173,451 $ 127,444 $ 46,007 4.75% 4.41% 34 Securities available for sale... 591,156 589,879 1,277 10.60 5.92 468 Loans available for sale ....... 373,723 998,282 (624,559) 11.79 10.13 166 Loan portfolio ................. 174,442 285,609 (111,167) 20.36 16.32 404 Discount loan portfolio ........ 958,571 1,307,021 (348,450) 10.66 12.94 (228) Investment securities and other .................... 30,451 48,227 (17,776) 5.04 12.71 (767) ----------- ----------- ----------- $ 2,301,794 $ 3,356,462 $(1,054,668) 11.04 10.83 21 =========== =========== =========== Average Balance Increase Average Yield Increase ------------------------- (Decrease) ------------------------ (Decrease) For the six months ended June 30, 1999 1998 $ 1999 1998 Basis Points - ---------------------------------- ----------- ----------- ----------- ------------ ----------- -------------- (Dollars in thousands) <S> <C> <C> <C> <C> <C> <C> Federal funds sold and Repurchase agreements......... $ 229,576 $ 102,164 $ 127,412 4.75% 4.77% (2) Securities available for sale... 550,249 559,602 (9,353) 11.94 5.96 598 Loans available for sale........ 325,369 668,838 (343,469) 11.77 10.40 137 Loan portfolio.................. 194,403 283,412 (89,009) 15.48 12.64 284 Discount loan portfolio......... 964,504 1,343,067 (378,563) 11.52 11.78 (26) Investment securities and other..................... 37,303 42,437 (5,134) 5.55 9.51 (396) ----------- ----------- ------------ $ 2,301,404 $ 2,999,520 $ (698,116) 11.22 10.20 102 =========== =========== ============ </TABLE> Interest income on discount loans decreased by $16.7 million or 40% in the three months ended June 30, 1999, as a result of a $348.4 million or 27% decrease in the average balance and a 228 basis point decrease in the weighted average yield earned. For the six months ended June 30, 1999, interest income on discount loans decreased $23.5 million or 30% primarily as a result of a $378.6 million or 28% decrease in the average balance and a 26 basis point decline in the average yield. Securitizations, as well as a decline in acquisition volume, have contributed significantly to the decline in the average balance. The yield on the discount loan portfolio is likely to fluctuate from period to period as a result of the timing of resolutions, particularly the resolution of large multi-family residential and commercial real estate loans, and the mix of the overall portfolio between performing and nonperforming loans. Interest income on loans available for sale decreased $14.3 million or 56% during the second quarter of 1999 as compared to the same period in 1998 as a result of a $624.6 million or 63% decrease in the average balance, offset in part by a 166 basis point increase in the weighted average yield earned. For the first six months of 1999, interest income on loans available for sale decreased $15.7 million or 45% due to a $343.5 million or 51% decline in the average balance, offset in part by a 137 basis point increase in the average yield earned. The decline in the average balance reflects securitizations of foreign and domestic subprime loans and a decline in originations due in large part to the closure of domestic subprime origination branch networks. Interest income on the loan portfolio decreased by $2.8 million or 24% in the three months ended June 30, 1999, as a result of a $111.2 million or 39% decrease in the average balance, offset by a 404 basis point increase in the weighted average yield earned. For the six months ended June 30, 1999, interest income on the loan portfolio decreased $2.9 million or 16% as a result of an $89.0 million or 31% decline in the average balance, offset in part by a 284 basis point increase in the average yield earned. The significant yields and declining average balances on the loan portfolio reflect the continuing payoff of multifamily and nonresidential loans. 26
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations ================================================================================ Interest income on securities available for sale increased by $6.9 million or 79% during the second quarter of 1999 as compared to the same period in 1998 primarily as a result of a 468 basis point increase in the weighted average yield earned. For the first six months of 1999, interest income on securities available for sale increased $16.2 million or 97% primarily due to a 598 basis point increase in the average yield. As indicated in the table below, the higher yields earned during 1999 reflect a change in the composition of the securities available for sale portfolio. <TABLE> <CAPTION> Average Balance Annualized Yield ----------------------------- ----------------------------- For the three months ended June 30, 1999 1998 1999 1998 - ------------------------------------ ----------- -------------- ---------- ------------ <S> <C> <C> <C> <C> CMOs (AAA-rated)................ $ 362,820 $ 227,160 5.29% 5.54% Subordinates and residuals...... 228,336 124,467 19.02 12.31 IOs (AAA-rated agency).......... -- 204,103 -- 1.29 Other........................... -- 34,149 -- 12.78 ----------- -------------- $ 591,156 $ 589,879 10.60% 5.92% =========== ============== Average Balance Annualized Yield ----------------------------- ----------------------------- For the six months ended June 30, 1999 1998 1999 1998 - ------------------------------------ ----------- -------------- ---------- ------------ <S> <C> <C> <C> <C> CMOs (AAA-rated)................. $ 327,010 $ 211,242 5.57% 5.71% Subordinates and residuals....... 223,239 109,873 21.27 18.56 IOs (AAA-rated agency)........... -- 201,026 -- (1.13) Other............................ -- 37,461 -- 8.48 ----------- -------------- $ 550,249 $ 559,602 11.94% 5.96% =========== ============== </TABLE> The average yield on the IOs and residuals was adversely affected by declining interest rates and the resulting increase in prepayment speeds. During the second quarter of 1998, OCN discontinued its IO this investment activity and sold its entire portfolio of IOs in July 1998. <TABLE> <CAPTION> Average Balance Increase Average Rate Increase ------------------------- (Decrease) -------------------- (Decrease) For the three months ended June 30, 1999 1998 $ 1999 1998 Basis Points - ------------------------------------- ----------- ----------- ----------- ---------- --------- ------------- (Dollars in thousands) <S> <C> <C> <C> <C> <C> <C> Deposits ........................... $ 1,564,278 $ 1,871,984 $ (307,706) 6.02% 6.13% (11) Securities sold under agreements to repurchase .......... 145,768 159,371 (13,603) 6.26 5.18 108 Obligations outstanding under lines of credit .................. 342,501 924,218 (581,717) 6.18 6.54 (36) Notes, debentures and other......... 228,283 226,373 1,910 11.75 11.90 (15) ----------- ----------- ----------- $ 2,280,830 $ 3,181,946 $ (901,116) 6.64 6.61 3 =========== =========== =========== </TABLE> 27
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations ================================================================================ <TABLE> <CAPTION> Average Balance Increase Average Rate Increase ------------------------- (Decrease) -------------------- (Decrease) For the six months ended June 30, 1999 1998 $ 1999 1998 Basis Points - ------------------------------------- ----------- ----------- ----------- ---------- --------- ------------- (Dollars in thousands) <S> <C> <C> <C> <C> <C> <C> Deposits ........................... $ 1,684,969 $ 1,848,870 $ (163,901) 5.98% 6.11% (13) Securities sold under agreements to repurchase .................... 111,520 131,130 (19,610) 6.76 5.64 112 Obligations outstanding under lines of credit .................. 292,479 604,214 (311,735) 6.17 6.50 (33) Notes, debentures and other ........ 227,071 230,366 (3,295) 11.86 11.80 6 ----------- ----------- ----------- $ 2,316,039 $ 2,814,580 $ (498,541) 6.62 6.64 (2) =========== =========== =========== </TABLE> Interest expense on deposits decreased $5.1 million or 18% during the three months ended June 30, 1999 primarily due to a $ 307.7 million or 16% decrease in the average balance of certificates of deposit. For the six months ended June 30, 1999, interest expense on deposits decreased $6.1 million or 11%, also primarily due to a decline in the average balance of certificates of deposit. Interest expense on obligations outstanding under lines of credit decreased $9.8 million or 65% during the second quarter of 1999 primarily due to a $581.7 million or 63% decline in the average balance. For the first six months of 1999, interest expense on obligations outstanding under lines of credit decreased $10.6 million or 54% primarily due to a $311.7 million or 52% decline in the average balance. Lines of credit are used primarily to fund the acquisition and origination of subprime single family loans at OFS and Ocwen UK. The decline in the average balance of lines of credit during 1999 is consistent with the decline in the average balance of loans available for sale during the same period. For additional information regarding lines of credit, see "Changes in Financial Condition - Obligations Outstanding Under Lines of Credit" and "Liquidity, Commitments and Off-Balance Sheet Risks." PROVISIONS FOR LOAN LOSSES. Provisions for losses on loans are charged to operations to maintain an allowance for losses on each of the loan portfolio and the discount loan portfolio at a level which management considers adequate based upon an evaluation of known and inherent risks in such loan portfolios. Management's periodic evaluation is based upon portfolio composition, asset classifications, historical loss experience, current economic conditions and trends, collateral values and other relevant factors. The following table sets forth the components of the Company's provision for loan losses for the periods indicated. <TABLE> <CAPTION> Three Months Six Months ------------------------------- ------------------------------- For the periods ended June 30, 1999 1998 1999 1998 - ------------------------------------------- ------------- ------------- ------------- ------------- (Dollars in thousands) <S> <C> <C> <C> <C> Discount loans........................... $ (1,280) $ 9,562 $ 3,409 $ 11,485 Loan portfolio........................... 1,903 113 953 444 ------------- ------------- ------------- ------------- Total.................................. $ 623 $ 9,675 $ 4,362 $ 11,929 ============= ============= ============= ============= </TABLE> The decline in provisions for discount loan losses during 1999 as compared to 1998, is primarily due to a decline in the discount loan balance. Despite a decline in the loan portfolio balance, the provision for loan portfolio losses increased during 1999 primarily as a result of an increase in nonperforming loans. The following table sets forth the allowance for loan losses as a percentage of the respective loan balances at the dates indicated. <TABLE> <CAPTION> June 30, 1999 June 30, 1998 ------------------------------------------ ------------------------------------- Loan Allowance Loan Allowance Allowance Balance as a % Allowance Balance as a % ---------- ---------- ------------ --------- ---------- --------- <S> <C> <C> <C> <C> <C> <C> Discount loans.......... 20,405 1,029,169 1.98 22,852 1,444,358 1.58% Loan portfolio.......... $ 5,853 139,531 4.19% $ 4,139 285,090 1.45 ---------- ---------- --------- ---------- $ 26,258 $1,168,700 2.25% $ 26,991 $1,729,448 1.56% ========== ========== ========= ========== </TABLE> Overall, the Company's aggregate allowance for losses on the loan portfolios and real estate owned at June 30, 1999 increased to 3.18% of the respective balances as compared to 2.02% at June 30, 1998. 28
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations ================================================================================ Although management utilizes its best judgment in providing for possible loan losses, there can be no assurance that the Company will not change its provisions for possible loan losses in subsequent periods to a higher level from that recorded to date in 1999. Changing economic and business conditions, fluctuations in local markets for real estate, future changes in non-performing asset trends, large upward movements in market interest rates or other reasons could affect the Company's future provisions for loan losses. For further discussion and analysis regarding the provisions for loan losses, see "Changes in Financial Condition Allowances for Losses." NON-INTEREST INCOME. The following table sets forth the principal components of the Company's non-interest income during the periods indicated. <TABLE> <CAPTION> Three Months Six Months ------------------------------ ------------------------------- For the periods ended June 30, 1999 1998 1998 1998 - -------------------------------------------- ------------ ------------ ------------ ------------ (Dollars in thousands) <S> <C> <C> <C> <C> Servicing fees and other charges............ $ 18,929 $ 13,972 $ 37,180 $ 23,696 (Loss) gain on interest-earning assets, net. (5,867) (48,015) 14,275 (23,261) Gain on real estate owned, net.............. 2,677 10,521 3,306 11,547 Other income................................ 9,073 9,771 15,625 15,648 ------------ ------------ ------------ ------------ Total.................................. $ 24,812 $ (13,751) $ 70,386 $ 27,630 ============ ============ ============ ============ </TABLE> The increases in servicing fees and other charges reflects an increase in loan servicing and related fees as a result of an increase in the average balance of loans serviced for others. The unpaid principal balance of loans serviced for others averaged $10.24 billion and $10.40 billion during the three and six months ended June 30, 1999, respectively, as compared to $7.12 billion and $6.63 billion during the three and six months ended June 30, 1998. The increase in the average balance of loans serviced for others was primarily related to servicing retained in connection with subprime securitizations, net of repayments. The Company completed construction of its national servicing center in Orlando, Florida, in July 1999 as scheduled. The following table sets forth the Company's loans serviced for others at June 30, 1999. <TABLE> <CAPTION> ---------------------- ---------------------- -------------------- ----------------------- Discount Loans Subprime Loans (1) Other Loans Total ---------------------- ---------------------- -------------------- ----------------------- No. of No. of No. of No. of Amount Loans Amount Loans Amount Loans Amount Loans ----------- ------- ----------- ------- ----------- ------- ----------- -------- <S> <C> <C> <C> <C> <C> <C> <C> <C> (Dollars in thousands) Loans securitized ...... $ 1,162,660 18,555 $ 2,028,039 38,546 $ -- -- $ 3,190,699 57,101 Loans serviced for third parties .............. 1,372,020 18,388 5,359,045 80,492 982,792 749 7,713,857 99,629 ----------- ------ ----------- ------- ----------- ----- ----------- ------- $ 2,534,680 36,943 $ 7,387,084 119,038 $ 982,792 $ 749 $10,904,556 156,730 =========== ====== =========== ======= =========== ===== =========== ======= </TABLE> (1) Includes 42,328 loans with an unpaid principal balance of $977.8 million ((pound)619.8 million) which were serviced by Ocwen UK. Loss on interest-earning assets for the second quarter of 1999 of $5.9 million was primarily comprised of $28.8 million of impairment charge on securities available for sale, offset by $20.2 million of securitization gains, as presented in the table below, and $1.4 million of gains on the sale of commercial discount loans. Loss on interest-earning assets, net, for the second quarter of 1998 of $48.0 million was primarily comprised of $31.0 million of securitization gains, as presented in the table below, and a $2.8 million gain recognized on the sale of small commercial discount loans, offset by $81.8 million of impairment losses on securities available for sale. See "Changes in Financial Condition- Securities Available for Sale." Gains on interest-earning assets (as well as other assets, such as real estate owned, as discussed below) generally are dependent on various factors which are not necessarily within the control of the Company, including market and economic conditions. As a result, there can be no assurance that the gains on sale of interest-earning assets (and other assets) reported by the Company in 29
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations ================================================================================ prior periods will be reported in future periods or that there will not be substantial inter-period variations in the results from such activities. The following table sets forth the Company's net gains recognized in connection with the securitization of loans during the periods indicated. <TABLE> <CAPTION> Book Value of Securities Loans Securitized Retained - ------------------------------------------------------------------- (Non-cash Cash Type of Loans Principal No. of Loans Net Gain Gain) Gain - ----------------------------------------- ----------- ------------ ---------- ---------- ---------- (Dollars in thousands) <S> <C> <C> <C> <C> <C> FOR THE THREE MONTHS ENDED JUNE 30,1999: Single family discount ................. $ 90,037 1,443 $ 8,864 $ 2,133 $ 6,731 Single family subprime: Domestic ............................ 148,628 1,381 1,117 7,659 -- Foreign (Ocwen UK) .................. 295,157 8,983 10,207 34,452 -- ---------- ---------- ---------- ---------- ---------- 443,785 10,364 11,324 42,111 -- ---------- ---------- ---------- ---------- ---------- $ 533,822 11,807 $ 20,188 $ 44,244 $ 6,731 ========== ========== ========== ========== ========== FOR THE THREE MONTHS ENDED JUNE 30,1998: Single family discount ................. $ 98,345 1,155 12,219 $ 4,831 $ 7,388 Single family subprime: Domestic ............................ 382,716 4,522 9,675 27,262 -- Foreign (Ocwen UK) .................. 363,801 14,179 9,133 33,988 -- ---------- ---------- ---------- ---------- ---------- 746,517 18,701 18,808 61,250 -- ---------- ---------- ---------- ---------- ---------- $ 844,862 19,856 $ 31,027 $ 66,081 $ 7,388 ========== ========== ========== ========== ========== FOR THE SIX MONTHS ENDED JUNE 30, 1999: Single family discount (1) ............. 227,303 3,137 $ 22,763 $ 4,040 $ 18,723 Single family subprime: Domestic ............................ 235,572 2,192 3,834 12,091 -- Foreign (Ocwen UK) .................. 295,157 8,983 10,207 34,452 -- ---------- ---------- ---------- ---------- ---------- 530,729 11,175 14,041 46,543 -- ---------- ---------- ---------- ---------- ---------- $ 758,032 14,312 $ 36,804 $ 50,583 $ 18,723 ========== ========== ========== ========== ========== FOR THE SIX MONTHS ENDED JUNE 30,1998: Single family discount ................. $ 325,894 4,932 $ 28,917 $ 20,205 $ 8,712 Single family subprime Domestic ............................ 544,116 5,961 17,607 37,124 -- Foreign (Ocwen UK) .................. 363,801 14,179 9,133 33,988 -- ---------- ---------- ---------- ---------- ---------- 907,917 20,140 26,740 71,112 -- ---------- ---------- ---------- ---------- ---------- $1,233,811 25,072 $ 55,657 $ 91,317 $ 8,712 ========== ========== ========== ========== ========== </TABLE> (1) Includes 392 loans with an unpaid principal balance of $25.2 million securitized from the loan portfolio 30
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations ================================================================================ The following table sets forth the results of the Company's investment in real estate owned (which does not include investments in real estate), which were primarily related to the discount loan portfolio, during the periods indicated: <TABLE> <CAPTION> Three Months Six Months ------------------------------ ------------------------------ For the periods ended June 30, 1999 1998 1999 1998 - ----------------------------------------------------- ------------ ------------ ------------ ------------ (Dollars in thousands) <S> <C> <C> <C> <C> Gains on sales....................................... $ 12,205 $ 14,619 $ 21,407 $ 23,382 Provision for loss in fair value..................... (9,779) (1,645) (14,840) (5,879) Rental income (carrying costs), net.................. 251 (2,453) (3,261) (5,956) ------------ ------------ ------------ ------------ Gain on real estate owned, net..................... $ 2,677 $ 10,521 $ 3,306 $ 11,547 ============ ============ ============ ============ </TABLE> At June 30, 1999 the Company had established valuation allowances on real estate owned of $17.3 million, or 8.61% of the balance, as compared to $11.2 million or 6.9% of real estate owned at June 30, 1998. For additional information relating to the Company's real estate owned, see "Changes in Financial Condition-Real Estate Owned." Other income for the first six months of 1999 of $15.6 million was primarily comprised of $7.9 million of brokerage commissions earned in connection with Ocwen UK loan originations, $3.1 million of management fees earned from OAC and $1.6 million of gains on sales of investments in real estate. For the six months ended June 30, 1998, other income of $15.6 million was primarily comprised of $4.6 million of gains on the sale of low-income housing tax credit interests, $2.9 million of gains on sales of investments in real estate, $2.7 million of brokerage commissions earned in connection with Ocwen UK loan originations and $2.3 million of management fees earned from OAC. NON-INTEREST EXPENSE. Non-interest expense decreased $8.5 million or 15% in the second quarter of 1999 as compared to the second quarter of 1998, and increased $9.6 million or 11% in the first six months of 1999 as compared to the same period in 1998. The increase in non-interest expenses for the first six months of 1999 was primarily related to the acquisition of Ocwen UK on April 24, 1998. Total non-interest expenses incurred by Ocwen UK amounted to $22.9 million and $11.3 million during the six months ended June 30, 1999 and 1998, respectively. The following table sets forth the principal components of the Company's non-interest expense during the periods indicated. <TABLE> <CAPTION> Three Months Six Months ------------------------------ ------------------------------ For the periods ended June 30, 1999 1998 1999 1998 - ---------------------------------------------------- ------------ ------------ ------------ ------------ (Dollars in thousands) <S> <C> <C> <C> <C> Compensation and employee benefits.................. $ 24,330 $ 29,766 $ 51,540 $ 51,247 Occupancy and equipment............................. 8,732 8,507 19,369 14,925 Loan expenses....................................... 2,652 7,357 6,780 9,694 Net operating loss on investments in real estate and certain low-income housing tax credit interests......................................... 1,374 1,046 3,221 2,292 Amortization of goodwill ........................... 257 563 487 934 Other operating expenses............................ 10,440 9,010 18,511 11,168 ------------ ------------ ------------ ------------ Total............................................ $ 47,785 $ 56,249 $ 99,908 $ 90,260 ============ ============ ============ ============ </TABLE> The decrease in compensation and employee benefits during the three months ended June 30, 1999 reflects a reduction in profit sharing expense in connection with the Company's decision to grant options under its annual incentive plan at an exercise price equal to fair market value. Previously, options were granted at exercise prices below fair market value, resulting in the recognition of compensation expense. Also contributing to the decline in compensation and employee benefits was a decrease in commissions incurred by OFS as a result of the closing of retail and wholesale branch networks, and a decrease in recruiting related expenses as a result of an increase in direct hiring. These declines were partially offset by an increase in profit sharing expense in connection with the Company's implementation of a long-term incentive plan in the fourth quarter of 1998. For the six months ended June 30, 1999 as compared to the same period in 1998, compensation and employee benefits incurred by Ocwen UK increased $6.9 million, while that incurred by OFS declined $6.1 million. 31
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations ================================================================================ The $4.4 million increase in occupancy and equipment expenses during the six months ended June 30, 1999 was primarily due to a $1.9 million increase in technology costs and a $1.0 million increase in rent expense. Ocwen UK accounted for $2.2 million of the $4.4 million increase in occupancy and equipment expenses for the six months ended June 30, 1999. The Company completed construction of its national servicing center in Orlando, Florida, in July 1999 as scheduled. The $4.7 million, or 64%, and $2.9 million, or 30%, decrease in loan expenses in the three and six months ended June 30, 1999, respectively, reflects significant declines in the average balance of loans during 1999. The average balance of loans (loans available for sale, loan portfolio and discount loans) declined 42% and 35% during the three and six months ended June 30, 1999, respectively, as compared to the same periods in 1998. Other operating expenses are primarily comprised of professional fees (primarily consulting), marketing, travel related costs, and regulatory and insurance. The $7.3 million increase in other operating expenses during the six months ended June 30, 1999 was due primarily to a $2.4 million increase in professional fees, primarily consulting, a $1.8 million increase in advertising and a $0.9 million increase in travel related costs. EQUITY IN LOSSES OF INVESTMENTS IN UNCONSOLIDATED ENTITIES. The following table summarizes the company's equity in losses of investments in unconsolidated entities for the periods indicated. <TABLE> <CAPTION> Equity in (Losses) Earnings --------------------------------------------------------- Ownership Three months Ended June 30, Six Months Ended June 30, ---------------------------- --------------------------- ------------------------- Entity Shares/Units % 1999 1998 1999 1998 - ------------------- ------------ -------- ---------- --------- ----------- ---------- (Dollars in thousands) <S> <C> <C> <C> <C> <C> <C> OAC................ 1,540,000 8.12% $ (1,475) $ -- $ (1,539) $ -- OPLP............... 1,808,733 8.71% (1,793) -- (1,947) -- Kensington (1)..... 549,993 36.05% (289) 544 (1,430) 544 Other.............. Various various 87 -- 203 -- ---------- --------- ----------- ---------- $ (3,470) $ 544 $ (4,713) $ 544 ========== ========= =========== ========== </TABLE> (1) Equity in earnings of investment in Kensington includes goodwill amortization of $0.6 and $1.2 million for the three and six months ended June 30, 1999, respectively, as compared to $0.9 million for the three and six months ended June 30, 1998. See "Changes in Financial Condition - Investment in Unconsolidated Entities". INCOME TAX EXPENSE. Income tax benefit (expense) amounted to $1.0 million and $6.4 million during the second quarter of 1999 and 1998, respectively, and ($1.4) million and $5.8 million for the first six months of 1999 and 1998, respectively. OCN's income tax provision for 1999 reflects an expected tax rate of 19.8%. OCN's expected income tax rate is less than its statutory income tax rate primarily due to tax credits resulting from its investment in certain low-income housing tax credit interests. Tax credits amounted to $4.6 million and $4.3 million for the second quarter of 1999 and 1998, respectively, and $9.1 million and $9.0 million for the first six months of 1999 and 1998, respectively. Additionally, 1998 income tax expense was reduced as a result of the utilization of $8.6 million of net operating tax loss carryforwards. See "Changes in Financial Condition-Investments in Low Income Housing Tax Credit Interests". CHANGES IN FINANCIAL CONDITION SECURITIES AVAILABLE FOR SALE. At June 30, 1999, securities available for sale amounted to $733.3 million or 24% of the Company's total assets as compared to $593.3 million or 18% of total assets at December 31, 1998. Securities available for sale are carried at fair value with unrealized gains or losses reported as a separate component of stockholders' equity net of deferred taxes. Unrealized losses on securities that reflect a decline in value which is other than temporary are charged to earnings. Securities available for sale at June 30, 1999 included an aggregate of $14.2 million of net unrealized gains ($20.0 million of gross gains and $8.6 million of gross losses) as compared to $21.7 million of unrealized gains ($22.0 million of gross gains and $0.3 million of gross losses) at December 31, 1998. 32
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations ================================================================================ The following table sets forth the fair value of the Company's securities available for sale at the dates indicated. <TABLE> <CAPTION> Increase (Decrease) June 30, December 31, ----------------------- 1999 1998 Dollars Percent --------- --------- --------- ------- <S> <C> <C> <C> <C> Mortgage-related securities: (Dollars in thousands) Single-family residential: CMOs (AAA-rated) .................... $ 491,156 $ 344,199 $ 146,957 43% Subordinates: BB-rated .......................... 8,878 9,921 (1,043) (11) B-rated ........................... 5,061 4,940 121 2 BBB-rated ......................... 16,667 17,593 (926) (5) Unrated ........................... 28,486 58,359 (29,873) (51) Subprime residuals: Unrated ........................... 162,328 135,187 27,141 20 AAA-rated non agency interest only... 16,518 6,981 9,537 137 --------- --------- --------- 729,094 577,180 151,914 26 --------- --------- --------- Multi-family residential and commercial: Unrated interest only ............... 77 106 (29) (27) Subordinates: B-rated ........................... 1,165 1,230 (65) (5) Unrated ........................... 2,935 14,831 (11,896) (80) --------- --------- --------- 4,177 16,167 (11,990) (74) --------- --------- --------- Total ............................. $ 733,271 $ 593,347 $ 139,924 24 ========= ========= ========= </TABLE> The Company's securities available for sale increased by $140.0 million or 24% during the six months ended June 30, 1999, due primarily to $428.9 million of purchases and $50.4 million of subordinates and residual securities acquired in connection with the Company's securitizations of 14,312 loans, which was offset by $290.1 million of maturities and principal repayments, $29.1 million of impairment and $11.8 million of net premium amortization. At June 30, 1999, the fair value of the Company's investment in subordinate and residual interests amounted to $225.5 million ($212.2 million of amortized cost) or 31% of total securities available for sale and supported senior classes of securities having an outstanding principal balance of $4.2 billion. Because of their subordinate position, subordinated and residual classes of mortgage-related securities provide protection to and involve more risk than the senior classes. Specifically, when cash flow is impaired, debt service goes first to the holders of senior classes. In addition, incoming cash flows may be held in a reserve fund to meet any future repayments until the holders of senior classes have been paid and, when appropriate, until a specified level of funds has been contributed to the reserve fund. Further, residual interests exhibit considerably more price volatility than mortgages or ordinary mortgage pass-through securities, due in part to the uncertain cash flows that result from changes in the prepayment rates of the underlying mortgages. Lastly, subordinate and residual interests involve substantially more credit risk than the senior classes of the mortgage-related securities to which such interests relate and generally are not as liquid as the senior classes. The Company generally retains subordinate and residual securities, which are certificated, related to its securitization of loans. Subordinate and residual interests in mortgage-related securities provide credit support to the more senior classes of the mortgage-related securities. Principal from the underlying mortgage loans generally is allocated first to the senior classes, with the most senior class having a priority right to the cash flow from the mortgage loans until its payment requirements are satisfied. To the extent that there are defaults and unrecoverable losses on the underlying mortgage loans, resulting in reduced cash flows, the most subordinate security will be the first to bear this loss. Because subordinate and residual interests generally have no 33
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations ================================================================================ credit support, to the extent there are realized losses on the mortgage loans comprising the mortgage collateral for such securities, the Company may not recover the full amount or, indeed, any of its initial investment in such subordinate and residual interests. The Company generally retains the most subordinate classes of the securities from the securitization and therefore will be the first to bear any credit losses. The Company determines the present value of anticipated cash flows at the time each securitization transaction closes, utilizing valuation assumptions appropriate for each particular transaction. The significant valuation assumptions include the anticipated prepayment speeds and the anticipated credit losses related to the underlying mortgages. In order to determine the present value of this estimated excess cash flow, the Company currently applies a discount rate of 18% to the projected cash flows on the unrated classes of securities. The annual prepayment rate of the securitized loans is a function of full and partial prepayments and defaults. The Company makes assumptions as to the prepayment rates of the underlying loans, which the Company believes are reasonable, in estimating fair values of the subordinate securities and residual securities retained. During 1999, the Company utilized proprietary prepayment curves generated by the Company (reaching an approximate range of annualized rates of 15%-50%). In its estimates of annual loss rates, the Company utilizes assumptions that it believes are reasonable. The Company currently estimates annual losses of between 0.03% and 4.06% of the underlying loans. Subordinate and residual interests are affected by the rate and timing of payments of principal (including prepayments, repurchase, defaults and liquidations) on the mortgage loans underlying a series of mortgage-related securities. The rate of principal payments may vary significantly over time depending on a variety of factors, such as the level of prevailing mortgage loan interest rates and economic, demographic, tax, legal and other factors. Prepayments on the mortgage loans underlying a series of mortgage-related securities are generally allocated to the more senior classes of mortgage-related securities. Although in the absence of defaults or interest shortfalls all subordinates receive interest, amounts otherwise allocable to residuals generally are used to make payments on more senior classes or to fund a reserve account for the protection of senior classes until overcollateralization or the balance in the reserve account reaches a specified level. In periods of declining interest rates, rates of prepayments on mortgage loans generally increase, and if the rate of prepayments is faster than anticipated, then the yield on subordinates will be positively affected and the yield on residuals will be negatively affected. The credit risk of mortgage related securities is affected by the nature of the underlying mortgage loans. In this regard, the risk of loss on securities backed by commercial and multi-family loans and single-family residential loans made to borrowers who, because of prior credit problems, the absence of a credit history or other factors, are unable or unwilling to qualify as borrowers under guidelines established by the Federal Home Loan Mortgage Corporation ("FHLMC") and the Federal National Mortgage Association ("FNMA") for purchases of loans by such agencies, generally involve more risk than securities backed by single-family residential loans which conform to the requirements established by FHLMC and FNMA for their purchase by such agencies. The Company adjusts its securities portfolio to market value at the end of each month based upon the lower of dealer quotations or internal values, subject to an internal review process. For those securities which do not have an available market quotation, the Company will request market values and underlying assumptions from the various securities dealers that underwrote, are currently financing the securities, or have had prior experience with the type of security to be valued. When quotations are obtained from two or more dealers, the average dealer quote will be utilized. The Company periodically assesses the carrying value of its subordinate securities and residual securities retained as well as the servicing assets for impairment. There can be no assurance that the Company's estimates used to determine the gain on securitized loan sales, subordinate securities and residual securities retained and servicing asset valuations will remain appropriate for the life of each securitization. If actual loan prepayments or defaults exceed the Company's estimates, the carrying value of the Company's subordinate securities and residual securities retained and/or servicing assets may be decreased or the Company may increase its allowance for possible credit losses on loans sold through a charge against earnings during the period management recognized the disparity. Other factors may also result in a write down of the Company's subordinate securities and residual securities retained in subsequent periods. 34
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations ================================================================================ It is intended that any securities retained by the Bank resulting from the securitization of assets held by it directly will be distributed to the Company as a dividend, subject to the Bank's ability to declare such dividends under applicable limitations. During the first quarter of 1999, a subordinate security with a fair value of $3.5 million was distributed by the Bank to the Company in the form of a dividend. At June 30, 1999, the Bank held three subordinate securities with an aggregate fair value of $13.8 million ($12.2 million of amortized cost) which are expected to be distributed by the Bank to the Company during the third quarter of 1999. 35
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations ================================================================================ The following tables detail the Company's securities available for sale portfolio at June 30, 1999, and its estimates of expected yields on such securities, taking into consideration expected prepayment and loss rates together with other factors. <TABLE> <CAPTION> Anticipated Subordi- Yield to Class Size nation/OC Maturity At: Issue Rating ------------------ Interest Level At: ---------------- Securitization (Issuer) Security Date Rating Agencies Issuance 6/30/99 Percentage 6/30/99 Purchase 6/30/99 ------------------------- ------- ---- ------ -------- -------- -------- ---------- ------- -------- ------- <S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> SINGLE-FAMILY RESIDENTIAL (Dollars in thousands) Subordinates: BCF 1996 R1(5).......... B3 Oct-96 NR (a),(b) $70,773 $47,843 50.00% None 15.70% 13.57% BCF 1997 R1(5).......... B4 Mar-97 NR (b),(c) 21,784 10,889 49.71 None 13.46 (27.36) BCF 97 R2 (5)........... B4 Jun-97 Ba2,BB (b),(c) 6,358 5,927 73.54 7.66% 9.58 (.17) B5 B2,B 6,264 5,839 73.54 4.29 10.74 (2.71) B6 NR 13,883 7,418 73.54 None 15.98 (6.76) BCF 1997 R3 (5)......... B4 Dec-97 NR (b),(d) 69,582 50,443 50.24 None 15.84 (6.97) ORMBS 1998 R1 (6)....... B4 Mar-98 NR (b),(d) 101,774 88,403 50.34 None 20.50 5.07 ORMBS 1998 R2 (6)....... B4A Jun-98 Ba2 (b) 1,056 1,030 100.00 6.78 13.22 (30.80) B4F Ba2 937 902 100.00 7.92 19.23 (23.98) B5A B2 880 858 100.00 5.29 23.78 (26.93) B5F B2 937 902 100.00 5.97 11.78 (24.48) B6A NR 3,696 3,044 100.00 None 16.72 15.07 B6F NR 3,345 2,758 100.00 None 19.50 (10.31) ORMBS 1998 R3 (6)....... B4 Sep-98 Ba2,BB (b),(d) 11,765 11,567 85.87 13.01 11.71 15.16 B5 B2,B 9,151 8,996 85.87 9.43 16.54 17.70 B6 NR 26,145 23,726 85.87 None 18.00 13.36 ORMBS 1999 RI (6)...... B5A Mar-99 B2,B (b),(d) 1,630 1,601 100.00 5.67 17.73 23.66 B5F B2,B 1,843 1,811 100.00 5.42 17.74 21.52 B6A NR 3,586 3,506 100.00 None 18.00 30.15 B6F NR 4,299 4,224 100.00 None 18.00 22.61 ORMBS 1999 R2 (6) ...... B4 Jun-99 BB (a),(c),(d) 10,530 10,530 100.00 4.00 13.45 13.09 B5 B 4,680 4,680 100.00 6.00 18.45 17.78 B6 NR 7,020 7,020 100.00 None 18.00 17.36 CSFB 1996-1R (ITT 94-P1) (8) ........ 4B2 Oct-96 NR (b),(c) 1,046 192 100.00 None N/A N/A Interest Only: OML 2 (7)............... DAC-IO Nov-98 Aaa,AAA (b),(c) 186,175 158,596 100.00 N/A 28.50 18.48 OML 3 (7) .............. DAC-IO Jun-99 Aaa,AAA (b),(c) 259,548 259,548 100.00 N/A 25.30 23.25 Subprime residuals: SBMS 1996 3 (1)......... R Jun-96 NR (a),(b) 130,062 39,402 100.00 12.17 15.52 2.62 MLM1 1996 1 (2)......... R Sep-96 NR (a),(b) 81,142 25,103 100.00 17.74 15.16 4.32 MS 1997 1 (3)........... X1 Jun-97 NR (a),(b) 17,727 12,162 100.00 3.38 21.47 15.52 X2 87,118 37,202 100.00 7.57 20.38 6.34 1997 OFS 2 (4).......... X Sep-97 NR (a),(b) 102,201 58,404 100.00 5.36 19.65 6.88 1997 OFS 3 (4).......... X Dec-97 NR (a),(b) 208,784 133,592 100.00 5.75 19.59 16.06 1998 OFS 1 (4).......... X Mar-98 NR (b),(d) 161,400 114,244 100.00 2.68 18.00 13.60 1998 OFS 2 (4).......... X Jun-98 NR (a),(b) 382,715 246,862 100.00 4.62 19.46 7.05 1998 OFS 3 (4).......... X Sep-98 NR (a),(d) 261,649 228,636 100.00 3.41 18.00 18.15 1998 OFS 4 (4).......... X Dec-98 NR (a),(b),(c) 349,000 334,901 100.00 2.14 18.00 24.60 1999 OFS 1 (4) ......... X Jun-99 NR (a),(b) 148,628 148,628 100.00 2.47 18.00 17.60 OML 1 (7)............... R Jun-98 NR (a),(d) 344,148 257,945 100.00 RF $10,900 20.72 50.70 OML 2 (7)............... B Nov-98 Baa2,B (b),(c) 16,725 16,504 100.00 RF $ 5,900 12.50 11.60 R NR 186,175 158,596 100.00 RF $ 5,900 36.50 15.61 S NR 6,311 6,101 100.00 None 25.30 23.25 OML 3 (7) .............. S Jun-99 NR (b),(c) 3,945 3,945 100.00 RF $ 1,500 25.30 23.25 R NR 260,386 260,386 100.00 N/A 25.30 23.25 MULTI-FAMILY AND COMMERCIAL Subordinates: BCF 1997 C1 (5)......... F Dec-97 B (c) 3,210 3,210 100.00 16.40 11.21 10.35 G NR 12,197 12,207 100.00 None 15.00 19.95 Interest-only: BCF 1997 C1 (5)......... XI Dec-97 NR (c) 67,350 28,245 100.00 N/A 6.93 51.01 X2 NR 35,359 20,114 100.00 N/A 8.53 29.75 </TABLE> 36
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations ================================================================================ <TABLE> <CAPTION> Anticipated Subordi- Yield to Class Size nation/OC Maturity At: Issue Rating ------------------ Interest Level At: ---------------- Securitization (Issuer) Security Date Rating Agencies Issuance 6/30/99 Percentage 6/30/99 Purchase 6/30/99 ------------------------- ------- ---- ------ -------- -------- -------- ---------- ------- -------- ------- <S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> SINGLE-FAMILY RESIDENTIAL (Dollars in thousands) E-IO BB 10,271 10,271 100.00 N/A 7.00 27.67 FNMA 1995 M2 (9)........ M Jun-95 NR (c) 100,275 10,854 100.00 N/A N/A (18.82) BFBT Arm Strip.......... IO Jun-94 NR N/A 157,182 8,754 100.00 N/A 0.00 27.32 ISSUERS: (1) Salomon Brothers Mortgage Securities VII (6) Ocwen Residential MBS Corporation RATING AGENCIES: (2) Merrill Lynch Mortgage Investors, Inc. (7) Ocwen Mortgage Loans (a) S&P (3) Morgan Stanley ABS Capital I, Inc. (8) Credit Suisse First Boston (ITT Federal (b) Moody's (4) Ocwen Mortgage Loan Asset Backed Bank, FSB) (c) Fitch Certificates (9) Federal National Mortgage Association (d) DCR (5) BlackRock Capital Finance L.P. (10)Berkley Federal Bank & Trust - ----------------------------------------------------------------------------------------------------------------------- N/A - Not Available RF - Reserve funds are actual cash reserves </TABLE> 37
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations ================================================================================ <TABLE> <CAPTION> Weighted Weighted Total Actual Life Actual Life Average Average Delinquency to Date to Date Collateral Balance Coupon At LTV/DSCR at CPR at Losses at Product Type At ------------------ Securitization (Issuer) 6/30/99 at 6/30/99 6/30/99 6/30/99 6/30/99 6/30/99 Issuance 6/30/99 - ----------------------- --------- ---------- ----------- ----------- ----------- --------------- --------- ------- <S> <C> <C> <C> <C> <C> <C> <C> <C> <C> SINGLE-FAMILY RESIDENTIAL (Dollars in thousands) Subordinates: BCF 1996 R1 (5)......... 10.04% 97.91% 12.24% 13.32% $ 19,993 98% Fixed, 2% ARM 505,613 320,230 BCF 1997 R1 (5)......... 10.06 112.03 22.22 13.24 10,264 98% Fixed, 2% ARM 177,823 124,038 BCF 97 R2 (5)........... 8.06 88.59 32.76 12.54 5,724 26% Fixed, 74%ARM 251,790 173,003 BCF 1997 R3 (5)......... 9.63 112.23 20.97 10.20 17,213 98% Fixed, 2% ARM 579,851 473,301 ORMBS 1998 R1 (6)....... 8.94 121.21 21.18 7.26 11,364 98% Fixed, 2% ARM 565,411 514,342 ORMBS 1998 R2 (6)....... 9.01 89.49 30.32 12.41 1,034 45% Fixed, 55%ARM 123,917 103,784 ORMBS 1998 R3 (6)....... 8.96 127.02 30.40 5.47 1,983 98% Fixed, 2% ARM 261,452 251,544 ORMBS 1999 R1 (6)....... 9.05 85.85 12.44 11.58 18 56% Fixed, 44%ARM 147,101 139,740 ORMBS 1999 R2 (6)........ 9.29 117.42 -- -- -- 100% fixed 117,004 117,004 CSFB 1996 1R (ITT 94-P1) (8) ....... 7.21 N/A 3.39 N/A 156 100% 1-Year CMT 32,487 6,264 Interest-only: OML 2 (7).............. 12.30 62.54 38.34 23.95 723 100% UK Subprime 186,175 158,596 OML 3 (7).............. 11.59 66.07 -- -- -- 100% UK Subprime 260,386 260,386 Subprime residuals: SBMS 1996 3 (1)......... 11.00 69.73 18.76 32.44 2,823 56% Fixed, 44%ARM 130,062 39,402 MLM1 1996 1 (2)......... 11.23 75.09 18.43 34.35 1,648 32% Fixed, 68%ARM 81,142 25,103 MS 1997 1 (3)........... 10.53 74.79 17.40 30.97 1,133 25% Fixed, 75%ARM 17,727 12,162 11.05 74.79 17.40 30.97 1,133 25% Fixed, 75%ARM 87,118 37,202 1997 OFS 2 (4).......... 10.28 78.38 15.39 26.92 815 17% Fixed, 83%ARM 102,201 58,404 1997 OFS 3 (4).......... 10.11 79.62 17.08 25.29 1,248 18% Fixed, 82%ARM 208,784 133,592 1998 OFS 1 (4).......... 10.33 80.07 17.51 23.77 984 14% Fixed, 86%ARM 161,400 144,244 1998 OFS 2 (4).......... 10.77 75.98 13.05 35.01 1,084 38% Fixed, 62%ARM 382,715 246,862 1998 OFS 3 (4).......... 10.38 79.15 17.52 15.98 369 28% Fixed, 72%ARM 261,649 228,636 1998 OFS 4 (4).......... 10.51 76.78 16.96 5.99 -- 41% Fixed, 59%ARM 349,000 334,901 1999 OFS 1 (4).......... 9.90 75.69 -- -- -- 64% Fixed, 36%ARM 146,628 146,628 OML 1 (7)............... 13.67 61.23 25.40 24.20 147 100% UK Subprime 344,148 257,945 OML 2 (7)............... 12.30 62.54 38.34 23.95 723 100% UK Subprime 186,175 158,596 OML 3 (7)............... 11.59 66.07 -- -- -- 100% UK Subprime 260,386 260,386 MULTI-FAMILY AND COMMERCIAL Subordinates: BCF 1997 C1 (5)......... 10.08 1.52 14.08 N/A -- 20% Multi-family, 128,387 74,411 19% Hotel, 16% Industrial Interest-only: BCF 1997 C1 (5)......... 10.08 1.52 14.08 N/A -- 20% Multi-family, 128,387 74,411 19% Hotel, 16% Industrial FNMA 1995 M2 (9)..... 9.48 1.35 -- 10.07 -- 100% Multi-family 216,797 138,251 BFBT Arm Strip.......... 8.20 N/A N/A N/A N/A 100% Conventional 157,182 8,754 ARMS </TABLE> 38
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations ================================================================================ The following table sets forth the principal amount of mortgage loans by the geographic location of the property securing the mortgages that underlie the Company's securities available for sale portfolio at June 30, 1999. <TABLE> <CAPTION> Description California Texas Florida New York Maryland Other (1) Total - ---------------------------- ---------- ---------- ---------- ---------- ---------- ---------- ---------- (Dollars in thousands) <S> <C> <C> <C> <C> <C> <C> <C> Single family residential ... $ 722,023 $ 260,377 $ 271,364 $ 209,295 $ 166,347 $1,777,721 $3,407,127 Multi-family and commercial. 47,367 1,884 17,378 29,060 9,423 92,650 197,762 ---------- ---------- ---------- ---------- ---------- ---------- ---------- Total ...................... $ 769,390 $ 262,261 $ 288,742 $ 238,355 $ 175,770 $1,870,371 $3,604,889 ========== ========== ========== ========== ========== ========== ========== Percentage (2) ............. 21% 7% 8% 7% 5% 52% 100% ========== ========== ========== ========== ========== ========== ========== </TABLE> (1) No other individual state makes up more than 21% of the total of other. (2) Based on a percentage of the total unpaid principal balance of the underlying loans. The following table summarizes information relating to the Company's mortgage-related securities available for sale at June 30, 1999. <TABLE> <CAPTION> ANTICIPATED REMAINING ANTICIPATED ORIGINAL YIELD TO WEIGHTED ANTICIPATED MATURITY AVERAGE AMORTIZED PERCENT YIELD TO AT REMAINING RATING/DESCRIPTION COST FAIR VALUE OWNED MATURITY 6/30/99(1) COUPON LIFE (2) - -------------------------------- ----------- ------------ ---------- ------------ ------------ -------- ---------- (Dollars in thousands) <S> <C> <C> <C> <C> <C> <C> <C> SINGLE-FAMILY RESIDENTIAL: BB-rated subordinates...... $ 8,693 $ 8,878 87.04% 11.93% 16.43% 6.86% 6.43 B-rated subordinates....... 4,254 5,061 89.19 16.06 34.70 7.05 4.06 BBB-rated subordinate...... 14,733 16,667 100.00 12.50 11.52 8.36 3.25 Unrated subordinates....... 27,521 28,486 72.69 21.97 36.46 8.82 2.72 AAA-rated interest-only.... 17,635 16,518 100.00 23.60 19.28 4.94 2.10 Unrated subprime residuals. 153,018 162,328 100.00 20.18 27.02 -- 6.57 MULTI-FAMILY AND COMMERCIAL: Unrated interest-only...... 43 77 100.00 -- 43.54 0.34 1.21 B-rated subordinates....... 1,165 1,165 51.20 10.35 16.03 10.28 6.74 Unrated subordinates....... 2,803 2,935 51.20 15.00 20.24 10.28 7.30 </TABLE> (1) Changes in the June 30, 1999 anticipated yield to maturity from that originally anticipated are primarily the result of changes in prepayment assumptions, loss assumptions and charges taken to reduce the value of the securities. (2) Equals the weighted average life based on June 30, 1999 book value. The following table sets forth the property types of the Company's commercial mortgage-backed securities at June 30, 1999, based upon the principal amount. Percentage Property type Invested --------------------------------- ---------- Multi-family..................... 72.17% Lodging.......................... 6.68 Warehouse........................ 5.71 Office........................... 4.51 Mixed Use........................ 3.71 Other............................ 7.22 ------------ Total............................ 100.00% ============ The following is a glossary of terms included in the above tables. 39
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations ================================================================================ ACTUAL LIFE TO DATE CPR - The Constant Prepayment Rate is used to measure the average prepayment rate for the underlying mortgage pool(s) over the period of time lapsed since the issuance of the securities through the date indicated and is calculated as follows: <TABLE> <CAPTION> <S> <C> <C> <C> <C> _ _ | | | | | | | ( 1 - Final Aggregate Balance ACTUAL ) ( 12 ) | Actual Life-to-Date CPR = 100 X | ( --------------------------------- ) X ( ---------------- ) | | ( Final Aggregate Balance SCHEDULED ) ( Months in Period ) | | | |_ _| </TABLE> ACTUAL LIFE-TO-DATE LOSSES - Represents cumulative losses of the original collateral at the indicated date. ANTICIPATED YIELD TO MATURITY AT JUNE 30, 1999 - Effective yield from inception to maturity based on the current carrying value and the then current estimate of future cash flows under the assumptions at the respective date. ANTICIPATED YIELD TO REMAINING MATURITY AT JUNE 30, 1999 - Effective yield based on the current carrying value and the then current estimate of future cash flows under the assumptions at the respective date. ANTICIPATED YIELD TO MATURITY AT PURCHASE - Effective yield from inception to maturity based on the purchase price and anticipated future cash flows under pricing assumptions. CLASS SIZE - Represents the dollar size of a particular class. Class Size for subprime residuals is equal to the Collateral Balance at the respective date. COLLATERAL BALANCE - Represents the unpaid principal balance including arrearage of the underlying collateral of the entire securities at the indicated date. INTEREST ONLY - Interest Only ("IO") securities receive the excess interest remaining after the interest payments have been made on all senior classes of bonds based on their respective principal balances. There is no principal associated with IO securities and they are considered liquidated when the particular class they are contractually tied to is paid down to zero. INTEREST PERCENTAGE - Represents the percentage of the particular class of security owned by the Company. ISSUE DATE - Represents the date on which the indicated securities were issued. OVER-COLLATERIZATION LEVEL - For residual interest in residential mortgage-backed securities, over collaterization ("OC") is the amount by which the collateral balance exceeds the sum of the bond principal amounts. OC is achieved by applying monthly a portion of the interest payments of the underlying mortgages toward the reduction of the class certificate principal amounts, causing them to amortize more rapidly than the aggregate loan balance. The OC percentage, expressed as a percentage of the outstanding collateral balance, represents the first tier of loss protection afforded to the non-residual holders. The OC percentage also determines whether the over-collaterization target has been satisfied as of a specific date, such that cash flows to the residual holder are warranted. To the extend not consumed by losses on more highly rated bonds, OC is remitted to the residual holders. RATING - Refers to the credit rating designated by the rating agency for each securitization transaction. Classes designated "A" have a superior claim on payment to those rated "B", which are superior to those rated "C." Additionally, multiple letters have a superior claim to designations with fewer letters. Thus, for example, "BBB" is superior to "BB," which in turn is superior to "B." The lower class designations in any securitization will receive interest payments subsequent to senior classes and will experience losses prior to any senior class. The lowest potential class designation is not rated ("NR") which, if included in a securitization, will always receive interest last and experience losses first. SECURITIZATION - Series description. SECURITY - Represents the name of the class associated with each securitization held by the Company. This has no relationship to a formal rating but is for identification purposes (although the names are usually in alphabetical or numeric order from the highest rated to the lowest rated). SUBORDINATION LEVEL - Represents the credit support for each mortgage-backed security by indicating the percentage of outstanding bonds whose right to receive payment is subordinate to the referenced security. The subordinate classes must experience a complete loss before any additional losses would affect the particular referenced security. 40
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations ================================================================================ TOTAL DELINQUENCY - Represents the total unpaid principal balance of loans more than 30 days delinquent at the indicated date as a percentage of the unpaid principal balance of the collateral at such date. WEIGHTED AVERAGE COUPON - Represents the interest rate of the underlying mortgage loans weighted by the unpaid principal balance of the underlying mortgage loans at the respective date. WEIGHTED AVERAGE DSCR - Represents debt service coverage ratio, which is calculated by dividing cash flow available for debt service by debt service and applies to the multi-family and commercial securities. WEIGHTED AVERAGE LTV - Represents the ratio of the unpaid principal balance including arrearage to the value of the underlying collateral and applies to the single-family residential securities. LOANS AVAILABLE FOR SALE. The Company's loans available for sale at June 30, 1999, which are carried at the lower of cost or fair value, decreased by $45.4 million or 26% from December 31, 1998, and consist primarily of single family residential loans to subprime borrowers. The Company generally intends to sell or securitize its single family residential loans to subprime borrowers and, as a result, all of such loans were classified as available for sale at June 30, 1999 and December 31, 1998. The Company's single family residential lending activities to subprime borrowers is conducted by OFS and Ocwen UK. The following table sets forth the composition of the Company's loans available for sale by type of loan at the dates indicated. June 30, December 31, 1999 1998 ------------ ------------- (Dollars in thousands) Single family residential loans............. $ 132,245 $ 177,578 Consumer loans.............................. 180 269 ------------ ------------- $ 132,425 $ 177,847 ============ ============= The following table sets forth the activity in the Company's net loans available for sale during the periods indicated. <TABLE> <CAPTION> Three Months Six Months ---------------------------- ----------------------------- For the periods ended June 30, 1999 1998 1999 1998 - ------------------------------------------------------------- ----------- ----------- ----------- ----------- (Dollars in thousands) <S> <C> <C> <C> <C> Balance at beginning of period............................... $ 374,094 $ 493,106 $ 177,847 $ 177,041 Purchases: Single family residential (1) (2)......................... 32,440 441,293 47,103 763,013 Originations: Single family residential (1) Domestic ............................................... 42,517 170,593 188,713 353,115 Foreign (Ocwen UK) ..................................... 152,965 46,106 293,007 46,106 ----------- ----------- ----------- ----------- 195,482 216,699 481,720 399,221 Sales (3).................................................... (457,052) (777,117) (558,517) (943,276) (Increase) decrease in lower of cost or market reserve....... 2,609 (752) 1,964 (1,079) Principal repayments, net of capitalized interest............ (12,866) (32,814) (10,591) (53,817) Transfer to real estate owned................................ (2,282) (2,056) (7,101) (2,744) ----------- ----------- ----------- ----------- Net increase (decrease) in loans.......................... (241,669) (154,747) (45,422) 161,318 ----------- ----------- ----------- ----------- Balance at end of period..................................... $ 132,425 $ 338,359 $ 132,425 $ 338,359 =========== =========== =========== =========== </TABLE> 41
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations ================================================================================ (1) During the six months ended June 30, 1999 and 1998, the Company purchased and originated single family residential loans to subprime borrowers. (2) Purchases of single family residential loans during the six months ended June 30, 1998 include $292.8 million purchased from the U.S. operations of Cityscape Financial Corp. (3) Included in sales for the six months ended June 30,1999, is the securitization of 2,192 domestic subprime single family loans with an aggregate unpaid principal balance of $235.6 million and 8,983 foreign subprime single family loans with an unpaid balance of $295.2 million. Included in sales for the six months ended June 30, 1998 is the securitization of 5,961 domestic subprime single family loans with an aggregate unpaid principal balance of $544.1 million and 14,179 foreign subprime single family loans with an aggregate unpaid principal balance of $363.8 million. The loans available for sale portfolio is secured by mortgages on properties geographically located throughout the United States and the United Kingdom. The following table sets forth the five states or countries in which the largest amount of properties securing the Company's loans available for sale were located at June 30, 1999: <TABLE> <CAPTION> Single-family Residential Consumer Total ----------- ---------- ------------ (Dollars in thousands) <S> <C> <C> <C> UK.......................... $ 79,448 $ -- $ 79,448 New Jersey.................. 8,915 -- 8,915 Florida..................... 5,959 80 6,039 Michigan.................... 5,539 -- 5,539 Illinois.................... 5,173 -- 5,173 Other(1).................... 27,211 100 27,311 ----------- ---------- ------------ Total....................... $ 132,245 $ 180 $ 132,425 =========== ========== ============ </TABLE> (1) Consists of properties located in 36 other states, none of which aggregated over $4.3 million in any one state. The following table presents a summary of the Company's non-performing loans (loans which were past due 90 days or more) in the loans available for sale portfolio at the dates indicated: <TABLE> <CAPTION> June 30, December 31, 1999 1998 ----------- ----------- (Dollars in thousands) <S> <C> <C> Non-performing loans: Single family (1)................................. $ 28,442 $ 39,415 Consumer.......................................... 3 9 ----------- ----------- $ 28,445 $ 39,424 =========== =========== Non-performing loans as a percentage of: Total net loans available for sale................ 21.49% 22.17% Total assets...................................... 0.94% 1.19% </TABLE> (1) Includes $6.0 million ((pound)3.8 million) and $7.2 million ((pound)5.4 million) of non-performing loans related to Ocwen UK at June 30, 1999 and December 31, 1998, respectively. Non-performing loans consist primarily of subprime single-family residential loans reflecting the higher risks of default associated with such loans. Although subprime loans generally have higher levels of default than 42
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations ================================================================================ prime loans, the Company believes that the borrower's equity in the security property and the Company's expertise in the area of resolution mitigates the higher default risk. DISCOUNT LOAN PORTFOLIO. At June 30, 1999, the Company's net discount loan portfolio amounted to $1.01 billion or 33.5% of the Company's total assets as compared to $1.03 billion or 31% of total assets at December 31, 1998. The following table sets forth the composition of the Company's discount loan portfolio by type of loan at the dates indicated. June 30, December 31, 1999 1998 ------------ ------------ (Dollars in thousands) Single family residential loans........ $ 512,950 $ 597,100 Multi-family residential loans......... 260,313 244,172 Commercial real estate loans (1)....... 483,378 449,010 Other loans............................ 18,734 10,144 ------------ ------------ Total discount loans................ 1,275,375 1,300,426 Unaccreted discount (2)................ (246,206) (252,513) ------------ ------------ 1,029,169 1,047,913 Allowance for loan losses.............. (20,405) (21,402) ------------ ------------ Discount loans, net (3)............. $ 1,008,764 $ 1,026,511 ============ ============ (1) The balance at June 30, 1999 consisted of $170.9 million of loans secured by office buildings, $120.5 million of loans secured by hotels, $104.4 million of loans secured by retail properties or shopping centers and $87.6 million of loans secured by other properties. The balance at December 31, 1998, consisted of $154.1 million of loans secured by office buildings, $100.4 million of loans secured by hotels, $21.2 million of loans secured by retail properties or shopping centers and $173.3 million of loans secured by other properties. (2) The balance at June 30, 1999 consisted of $129.6 million on single family residential loans, $43.4 million on multi-family residential loans, $72.2 million on commercial real estate loans and $1.0 million on other loans. The balance at December 31, 1998 consisted of $161.6 million on single family residential loans, $20.8 million on multi-family residential loans, $69.8 million on commercial real estate loans and $0.3 million on other loans. (3) The discount loan portfolio included $13.6 million and $8.2 million at June 30, 1999 and December 31, 1998, respectively, of charged-off unsecured credit card receivables which were acquired at a discount. Collections of unsecured credit card receivables are accounted for under the cost recovery method. The discount loan portfolio is secured by mortgages on properties geographically located throughout the United States. The following table sets forth the five states in which the largest amount of properties securing the Company's discount loans were located at June 30, 1999. <TABLE> <CAPTION> Commercial Single-family Multi-family Real Estate Residential Residential and Other Total --------------- -------------- ------------- ------------- (Dollars in thousands) <S> <C> <C> <C> <C> California.................... $ 41,790 $ 21,179 $ 121,161 $ 184,130 New York...................... 55,573 6,285 82,092 143,950 Michigan...................... 8,067 64,714 26,174 98,955 Illinois...................... 17,726 72,357 1,312 91,395 New Jersey.................... 50,791 856 12,837 64,484 Other (1)..................... 209,401 51,519 185,335 446,255 --------------- -------------- ------------- ------------- Total..................... $ 383,348 $ 216,910 $ 428,911 $ 1,029,169 =============== ============== ============= ============= </TABLE> (1) Consists of properties located in 44 other states, none of which aggregated over $56.9 million in any one state. 43
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations ================================================================================ The following tables set forth the activity in the Company's net discount loan portfolio during the periods indicated. <TABLE> <CAPTION> Three months ended June 30, --------------------------------------------------------- 1999 1998 -------------------------- --------------------------- No. of No. of Balance Loans Balance Loans ----------- ----------- ----------- ------------ (Dollars in thousands) <S> <C> <C> <C> <C> Balance at beginning of period, net..... $ 893,180 6,042 $ 1,171,623 8,571 Acquisitions(1)......................... 381,501 2,774 585,756 4,138 Resolutions and repayments (2).......... (75,252) (305) (130,265) (590) Loans transferred to real estate owned.. (37,468) (468) (84,404) (636) Sales(3)................................ (116,635) (1,306) (115,196) (1,168) Increase in discount.................... (40,025) -- (2,646) -- Decrease (increase) in allowance........ 3,463 -- (3,362) -- ----------- ----------- ----------- ------------ Balance at end of period, net........... $ 1,008,764 6,737 $ 1,421,506 10,315 =========== =========== =========== ============ </TABLE> (1) During the three months ended June 30, 1999, acquisitions consisted primarily of $233.2 million of single family residential loans, $39.3 million of multi-family residential loans, $107.0 million of commercial real estate loans and $2.0 million of other loans. For the three months ended June 30, 1998, acquisitions consisted primarily of $293.9 million of single family residential loans, $145.5 million of multi-family residential loans, $146.3 million of commercial real estate loans and $ 0.1 million of other loans. (2) Resolutions and repayments consists of loans which were resolved in a manner which resulted in partial or full repayment of the loan to the Company, as well as principal payments on loans which have been brought current in accordance with their original or modified terms (whether pursuant to forbearance agreements or otherwise) or on other loans which have not been resolved. (3) Included in sales for the three months ended June 30, 1999 is the securitization of 1,443 discount single family residential mortgage loans with an aggregate unpaid principal balance of $90.0 million. Included in sales for the three months ended June 30, 1998 is the securitization of 1,155 discount single family residential mortgage loans with an aggregate unpaid principal balance of $98.3 million. <TABLE> <CAPTION> Six months ended June 30, --------------------------------------------------------- 1999 1998 -------------------------- --------------------------- No. of No. of Balance Loans Balance Loans ----------- ----------- ----------- ------------ (Dollars in thousands) <S> <C> <C> <C> <C> Balance at beginning of period, net..... $ 1,026,511 8,100 $ 1,434,176 12,980 Acquisitions(1)......................... 486,458 3,339 676,305 4,710 Resolutions and repayments (2).......... (123,942) (528) (205,791) (1,087) Loans transferred to real estate owned.. (108,162) (1,170) (149,207) (1,323) Sales(3)................................ (279,032) (3,004) (355,559) (4,965) Decrease in discount.................... 5,935 -- 20,941 -- Decrease in allowance................... 996 -- 641 -- ----------- ----------- ----------- ------------ Balance at end of period, net........... $ 1,008,764 6,737 $ 1421,506 10,315 =========== =========== =========== ============ </TABLE> (1) During the six months ended June 30, 1999, acquisitions consisted primarily of $274.1 million of single family residential loans, $72.0 million of multi-family residential loans, $131.8 million of commercial real estate loans and $8.6 million of other loans. For the six months ended June 30, 1998, acquisitions consisted primarily of $335.3 million of single family residential loans, $148.5 million of multi-family residential loans, $186.2 million of commercial real estate loans and $6.3 million of other loans. 44
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations ================================================================================ (2) Resolutions and repayments consists of loans which were resolved in a manner which resulted in partial or full repayment of the loan to the Company, as well as principal payments on loans which have been brought current in accordance with their original or modified terms (whether pursuant to forbearance agreements or otherwise) or on other loans which have not been resolved. (3) Included in sales for the six months ended June 30, 1999 is the securitization of 3,137 discount single family residential mortgage loans with an aggregate unpaid principal balance of $227.3 million. Included in sales for the six months ended June 30, 1998 is the securitization of 4,932 discount single family residential mortgage loans with an aggregate unpaid principal balance of $325.9 million. The following table sets forth certain information relating to the payment status of loans in the Company's discount loan portfolio at the dates indicated. <TABLE> <CAPTION> June 30, 1999 December 31, 1998 ----------------------- ---------------------- Principal % of Principal % of Amount Loans Amount Loans ----------- ------- ---------- ------- <S> <C> <C> <C> <C> Loans without Forbearance Agreements: (Dollars in thousands) Current....................................... $ 637,982 50.02% $ 578,269 44.47% Past due 31 to 89 days........................ 36,393 2.85 35,555 2.73 Past due 90 days or more...................... 431,455 33.83 509,838 39.21 Acquired and servicing not yet transferred.... 100,270 7.86 57,048 4.39 ----------- ------- ---------- ------- Subtotal.................................... 1,206,100 94.56 1,180,710 90.80 ----------- ------- ---------- ------- Loans with Forbearance Agreements: Current....................................... 2,020 0.16 1,180 0.09 Past due 31 to 89 days........................ 1,734 0.14 4,046 0.31 Past due 90 days or more (1).................. 65,521 5.14 114,490 8.80 ----------- --------- ---------- --------- Subtotal.................................... 69,275 5.44 119,716 9.20 ----------- --------- ---------- --------- Total............................................ $ 1,275,375 100.00% $1,300,426 100.00% =========== ========= ========== ========= </TABLE> (1) Includes $64.9 million of loans which were less than 90 days past due under the terms of the forbearance agreements at June 30, 1999, of which $60.3 million were current and $4.6 million were past due 31 to 89 days. Includes $110.1 million of loans which were less than 90 days past due under the terms of the forbearance agreements at December 31, 1998, of which $77.9 million were current and $32.2 million were past due 31 to 89 days. For discussion and analysis regarding the allowance for loan losses on discount loans, see "Changes in Financial Condition - Allowance for Losses" below. 45
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations ================================================================================ LOAN PORTFOLIO. The following table sets forth the composition of the Company's loan portfolio by type of loan at the dates indicated. <TABLE> <CAPTION> June 30, December 31, 1999 1998 ------------ ------------ (Dollars in thousands) <S> <C> <C> Single family residential loans.................................. $ 1,911 $ 30,361 Multi-family residential loans: Permanent..................................................... 33,276 53,311 Construction.................................................. 12,909 22,288 ------------ ------------ 46,185 75,599 ------------ ------------ Commercial real estate and land loans: Hotel: Permanent................................................... 20,610 29,735 Construction................................................ -- 6,896 Office buildings.............................................. 75,673 93,068 Land.......................................................... 1,788 2,266 Other......................................................... -- 6,762 ------------ ------------ Total....................................................... 98,071 138,727 ------------ ------------ Consumer......................................................... 88 132 ------------ ------------ Total loans................................................. 146,255 244,819 Undisbursed loan funds........................................... (5,295) (7,099) Unaccreted discount.............................................. (1,429) (2,480) Allowance for loan losses........................................ (5,853) (4,928) ------------ ------------ Loans, net.................................................. $ 133,678 $ 230,312 ============ ============ </TABLE> The loan portfolio is secured by mortgages on properties geographically located throughout the United States. The following table sets forth the five states in which the largest amount of properties securing the Company's loan portfolio were located at June 30, 1999. <TABLE> <CAPTION> Single-family Multi-family Commercial Residential Residential Real Estate Consumer Total ------------- ------------ ------------- ------------- ------------ (Dollars in thousands) <S> <C> <C> <C> <C> <C> New York.................. $ 158 $ 9,360 $ 24,581 $ 34 $ 34,133 Florida................... -- -- 14,732 -- 14,732 California................ 21 7,583 5,617 -- 13,221 Massachusetts............. 67 -- 12,875 -- 12,942 Virginia.................. -- -- 9,657 -- 9,657 Other (1)................. 1,665 29,242 30,609 54 61,570 ------------- ------------ ------------- ------------- ------------ Total..................... $ 1,911 $ 46,185 $ 98,071 $ 88 $ 146,255 ============= ============ ============= ============= ============ </TABLE> (1) Consists of properties located in 19 other states, none of which aggregated over $8.1 million in any one state. 46
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations ================================================================================ (2) The following table sets forth the activity in the Company's gross loan portfolio during the periods indicated. <TABLE> <CAPTION> Three Months Six Months --------------------------- ---------------------------- For the periods ended June 30, 1999 1998 1999 1998 - ----------------------------------------------------- --------- --------- --------- --------- (Dollars in thousands) <S> <C> <C> <C> <C> Balance at beginning of period....................... $ 189,989 $ 305,072 $ 244,819 $ 294,925 --------- --------- --------- --------- Originations: Multi-family residential loans.................... 1,758 8,500 4,225 22,271 Commercial real estate loans...................... 6,400 40,945 11,500 59,930 --------- --------- --------- --------- Total loans originated.......................... 8,158 49,445 15,725 82,201 --------- --------- --------- --------- Sales (1)............................................ (3,394) -- (25,486) -- Principal repayments, net of capitalized interest.... (48,392) (58,156) (86,231) (80,765) Loans and transfer to real estate owned.............. (106) -- (2,572) -- --------- --------- --------- --------- Net increase (decrease) in loans................ (43,734) (8,711) (98,564) 1,436 --------- --------- --------- --------- Balance at end of period (2)......................... $ 146,255 $ 296,361 $ 146,255 $ 296,361 ========= ========= ========= ========= </TABLE> (1) Included in sales of the six months ended June 30, 1999 is the securitization of 392 single family residential mortgage loans with an aggregate unpaid principal balance of $25.2 million. (2) The decline in the balance of the gross loan portfolio at June 30, 1999, as compared to June 30, 1998, is primarily due to repayments of commercial real estate loans (hotels and office buildings) and multifamily residential loans, as well as the sale of single family residential loans. As of June 30, 1999 the Company ceased origination of multifamily and commercial real estate loans. The following table presents a summary of the Company's non-performing loans (loans which are past due 90 days or more) in the loan portfolio and significant ratios at the dates indicated: June 30, December 31, 1999 1998 ----------- ----------- (Dollars in thousands) Nonperforming loans (1) Single family residential loans........... $ 302 $ 1,169 Multi-family residential loans............ 13,441 7,392 Commercial real estate and other.......... 14,217 488 ----------- ----------- $ 27,960 $ 9,049 =========== =========== Nonperforming loans as a percentage of: Total loans (2)........................... 19.84% 3.85% Total assets.............................. 0.93% 0.27% Allowance for loan losses as a percentage of: Total loans (2)........................... 4.19% 2.09% Nonperforming loans....................... 20.94% 54.46% (1) The Company did not have any loans which were accruing interest and were past due 90 days or more at the dates indicated. (2) Total loans are net of undisbursed loan proceeds and unaccreted discount. ALLOWANCES FOR LOSSES. The Company uses an internal asset review system to identify problem assets. The Company's determination of the level and the allocation of the allowance for loan losses and, correspondingly, the provisions for such losses, is based on various judgments, assumptions and projections regarding a number of factors, including, but not limited to, asset risk classifications, current and forecasted economic and market conditions, loan portfolio composition, historical loan loss experience and industry experience. The allowance for loan losses is adjusted monthly to reflect management's current assessment of the effect of these factors on estimated inherent loan losses. While management uses all information available to it to estimate losses on loans, future changes to the allowance may become necessary based on changes in economic and market conditions. The OTS, as part of its examination process, 47
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations ================================================================================ periodically reviews the adequacy of the Company's allowance for loan losses. Such agency may require the company to recognize changes to the allowance based on its judgment about information available to it at the time of examination. The following table sets forth the allocation of the Company's allowance for loan losses at the dates indicated by loan category and the percentage of loans in each category to total loans in the respective portfolios at the dates indicated: <TABLE> <CAPTION> June 30, 1999 December 31, 1998 ---------------------------------------- ---------------------------------------- Gross Gross Loan Loan Allowance Percent Balance Percent Allowance Percent Balance Percent ---------- ------- ---------- ------- ---------- ------- ---------- ------- (Dollars in thousands) <S> <C> <C> <C> <C> <C> <C> <C> <C> Loan portfolio: Single family ........ $ 30 0.5% $ 1,911 1.3% $ 215 4.3% $ 30,361 12.4% Multi-family ......... 1,900 32.5 46,185 31.6 2,714 55.1 75,599 30.9 Commercial real estate 3,923 67.0 98,071 67.1 1,999 40.6 138,727 56.7 Consumer ............. -- -- 88 -- -- -- 132 -- ---------- ----- ---------- ----- ---------- ----- ---------- ----- $ 5,853 100.0% $ 146,255 100.0% $ 4,928 100.0% $ 244,819 100.0% ========== ===== ========== ===== ========== ===== ========== ===== Discount loan portfolio: Single family ........ $ 10,856 53.2% $ 512,950 40.2% $ 10,307 48.2% $ 597,100 45.9% Multi-family ......... 2,503 12.3 260,313 20.4 2,457 11.5 244,172 18.8 Commercial real estate 6,887 33.8 483,378 37.9 8,607 40.2 449,010 34.5 Other ................ 159 0.7 18,734 1.5 31 0.1 10,144 0.8 ---------- ----- ---------- ----- ---------- ----- ---------- ----- $ 20,405 100.0% $1,275,375 100.0% $ 21,402 100.0% $1,300,426 100.0% ========== ===== ========== ===== ========== ===== ========== ===== </TABLE> The allocation of the allowance to each category is not necessarily indicative of future losses and does not restrict the use of the allowance to absorb losses in any other category. The following table summarizes activity in the allowance for loan losses related to the Company's loan portfolio and discount loan portfolio during the six months ended June 30, 1999. <TABLE> <CAPTION> Balance Balance December 31, June 30, 1998 Additions Charge-offs Recoveries 1999 ---------- ----------- ----------- ---------- ---------- <S> <C> <C> <C> <C> <C> Loan portfolio: Single family................... $ 215 $ (177) $ (8) $ -- $ 30 Multi-family.................... 2,714 (794) (20) -- 1,900 Commercial real estate.......... 1,999 1,924 -- -- 3,923 Consumer........................ -- -- -- -- -- ---------- ----------- ---------- ---------- ---------- $ 4,928 $ 953 $ (28) $ -- $ 5,853 ========== =========== ========== ========== ========== Discount loans: Single family................... $ 10,307 $ 2,481 $ (2,156) $ 224 $ 10,856 Multi-family.................... 2,457 417 (371) -- 2,503 Commercial...................... 8,607 353 (2,073) -- 6,887 Other........................... 31 158 (30) -- 159 ---------- ----------- ---------- ---------- ---------- $ 21,402 $ 3,409 $ (4,630) $ 224 $ 20,405 ========== =========== ========== ========== ========== </TABLE> 48
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations ================================================================================ INVESTMENTS IN LOW-INCOME HOUSING TAX CREDIT INTERESTS. In 1993, the Company commenced a program to invest in multi-family residential projects which have been allocated low income housing tax credits under Section 42 of the Internal Revenue Code by a state tax credit allocating agency. The carrying value of the Company's investments in low-income housing tax credit interests are as follows at the dates indicated. <TABLE> <CAPTION> June 30, December 31, 1999 1998 ----------- ----------- (Dollars in thousands) <S> <C> <C> Investments solely as a limited partner made prior to May 18, 1995.............. $ 18,510 $ 19,607 Investments solely as a limited partner made on or after May 18, 1995........... 72,457 56,299 Investments both as a limited and, through subsidiaries, as a general partner... 89,599 68,258 ----------- ----------- $ 180,566 $ 144,164 =========== =========== </TABLE> Investments by the Company in low-income housing tax credit interests made on or after May 18, 1995, in which the Company invests solely as a limited partner, are accounted for using the equity method in accordance with the consensus of the Emerging Issues Task Force as recorded in Issue Number 94-1. Limited partnership investments made prior to May 18, 1995, are accounted for under the effective yield method as a reduction of income tax expense. Low-income housing tax credit partnerships in which the Company invests both as a limited and, through a subsidiary, as general partner are presented on a consolidated basis. INVESTMENT IN UNCONSOLIDATED ENTITIES. The Company's investments in unconsolidated entities was comprised of the following at the dates indicated. <TABLE> <CAPTION> Ownership Carrying Value ------------------------ ---------------------------------- Entity Shares/Units % June 30, 1999 December 31, 1998 - -------------------- ------------ ------- ------------- ----------------- (Dollars in thousands) <S> <C> <C> <C> <C> OAC................. 1,540,000 8.12% $ 14,729 $ 16,268 OPLP................ 1,808,733 8.71% 21,239 22,820 Kensington.......... 549,993 36.05% 42,905 46,586 Other............... various various 1,085 1,219 ------------ ------------ $ 79,958 $ 86,893 ============ ============ </TABLE> Other consists primarily of the Company's joint venture investment, which consisted of a 10% interest in BCFL, a limited liability company formed by the Bank and BlackRock in January 1997 to acquire discount multi-family residential loans from HUD. For the six months ended June 30, 1999, the Company recorded equity in the losses of its investments in OAC and OPLP of $1.5 million and $2.0 million, respectively. At June 30, 1999 and December 31, 1998, the Company's investment in OAC stock was pledged as collateral on obligations outstanding under a line of credit. The Company's investment in Kensington includes the excess of the purchase price over the net investment in the amount of $33.3 million ((pound) 20.2 million) at June 30, 1999, as compared to $34.5 million ((pound)20.9 million) at December 31, 1998. For the six months ended June 30, 1999, the Company recorded equity in the losses of its investment in Kensington of $0.3 million. See "Results of Operations-Equity in Losses of Investment in Unconsolidated Entities." REAL ESTATE OWNED. Properties acquired through foreclosure are valued at the lower of the adjusted cost basis of the loan or fair value less estimated costs of disposal of the property at the date of foreclosure. Properties included in the Company's real estate owned are periodically re-evaluated to determine that they are being carried at the lower of cost or fair value less estimated costs to dispose. Rental income related to properties is reported as earned. Holding and maintenance costs related to properties are recorded as period costs as incurred. Decreases in market value of foreclosed real estate subsequent to foreclosure are recognized as a valuation allowance on a property 49
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations ================================================================================ specific basis. Subsequent increases in the market value of the foreclosed real estate are reflected as reductions in the valuation allowance, but not below zero. Such changes in the valuation allowance are charged or credited to income. The following table sets forth certain information relating to the Company's real estate owned at the dates indicated: <TABLE> <CAPTION> June 30, December 31, 1999 1998 ------------- ------------ (Dollars in thousands) <S> <C> <C> Discount loan portfolio: Single family residential........... $ 83,009 $ 94,641 Multi-family residential............ 2,465 20,130 Commercial real estate............. 90,289 82,591 ------------- ------------ Total............................. 175,763 197,362 Loan portfolio......................... 2,685 227 Loans available for sale portfolio..... 4,714 3,962 ------------- ------------ $ 183,162 $ 201,551 ============= ============ </TABLE> The following table sets forth the activity in the valuation allowance on real estate owned for the periods indicated. <TABLE> <CAPTION> Three Months Six Months -------------------------------- -------------------------------- For the periods ended June 30, 1999 1998 1999 1998 - ----------------------------------------------------- -------------- -------------- -------------- -------------- (Dollars in thousands) <S> <C> <C> <C> <C> Balance at beginning of period (1)................... $ 13,545 $ 13,242 $ 15,325 $ 12,346 Provision for loss in fair value..................... 9,779 1,644 14,840 5,878 Charge-offs and sales................................ (6,064) (3,682) (12,905) (7,020) -------------- -------------- -------------- -------------- Balance at end of period (1)......................... $ 17,260 $ 11,204 $ 17,260 $ 11,204 ============== ============== ============== ============== </TABLE> (1) The valuation allowance as a percentage of total real estate owned was 8.61% at June 30, 1999 as compared to 7.07% at December 31, 1998, and 6.88% at June 30, 1998. The following table sets forth the activity in real estate owned during the periods indicated. <TABLE> <CAPTION> Three months ended June 30, ---------------------------------------------- 1999 1998 --------------------- ---------------------- No. of No. of Amount Properties Amount Properties --------- ---------- --------- ---------- (Dollars in thousands) <S> <C> <C> <C> <C> Balance at beginning of period ...... $ 208,831 1,873 $ 172,693 1,642 Properties acquired through foreclosure or deed-in-lieu thereof: Discount loans ................. 37,468 468 84,404 637 Loans available for sale ....... 2,282 35 2,056 12 Loan portfolio ................. 106 2 -- -- Less discount transferred ...... (13,418) -- (24,134) -- --------- --------- --------- --------- 26,438 505 62,326 649 --------- --------- --------- --------- Acquired in connection with acquisitions of discount loans ... 23,330 429 8,137 135 --------- --------- --------- --------- Sales ............................... (71,722) (941) (93,586) (779) Decrease (increase) in allowance .... (3,715) -- 2,037 -- --------- --------- --------- --------- Balance at end of period(1) ......... $ 183,162 1,866 $ 151,607 1,647 ========= ========= ========= ========= </TABLE> 50
<TABLE> <CAPTION> Six months ended June 30, --------------------------------------------- 1999 1998 --------------------- --------------------- No. of No. of Amount Properties Amount Properties --------- ---------- --------- ---------- (Dollars in thousands) <S> <C> <C> <C> <C> Balance at beginning of period ....... $ 201,551 1,999 $ 167,265 1,505 Properties acquired through foreclosure or deed-in-lieu thereof: Discount loans .................. 108,162 1,170 149,207 1,323 Loans available for sale ........ 7,101 91 2,744 20 Loan portfolio .................. 2,572 4 -- -- Less discount transferred ....... (34,303) -- (45,922) --------- --------- --------- --------- (83,532) 1,265 106,029 1,343 --------- --------- --------- --------- Acquired in connection with acquisitions of discount loans .... 31,490 575 11,052 188 --------- --------- --------- --------- Sales ................................ (131,476) (1,973) (133,880) (1,389) Decrease (increase) in allowance ..... (1,935) -- 1,141 -- --------- --------- --------- --------- Balance at end of period(1) .......... $ 183,162 1,866 $ 151,607 1,647 ========= ========= ========= ========= </TABLE> (1) The increase in real estate owned at June 30, 1999, as compared to June 30, 1998, is primarily the result of commercial real estate properties acquired through foreclosures on discount loans. The following table sets forth the amount of time that the Company had held its real estate owned at the dates indicated. <TABLE> <CAPTION> June 30, 1999 December 31, 1998 ------------------------ ----------------------- Amount % Amount % ------------ --------- ------------ ------- (Dollars in thousands) <S> <C> <C> <C> <C> One to two months................................... $ 43,096 23.5% $ 38,444 19.1% Three to four months................................ 17,651 9.7 79,264 39.3 Five to six months.................................. 25,293 13.8 27,115 13.4 Seven to twelve months.............................. 63,599 34.7 26,122 13.0 Over twelve months.................................. 33,523 18.3 30,606 15.2 ------------ --------- ------------ --------- $ 183,162 100.0% $ 201,551 100.0% ============ ========= ============ ========= </TABLE> 51
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations ================================================================================ The following table sets forth certain geographical information by type of property at June 30, 1999 related to the Company's real estate owned. <TABLE> <CAPTION> Multi-family Residential Single family Residential and Commercial Total ------------------------- -------------------------- -------------------------- No. of No. of No. of Amount Properties Amount Properties Amount Properties ---------- ---------- ----------- ---------- ----------- ---------- (Dollars in thousands) <S> <C> <C> <C> <C> <C> <C> Florida.................. $ 4,016 72 $ 49,341 10 $ 53,357 82 California............... 13,661 174 6,794 6 20,455 180 Connecticut.............. 4,605 83 12,953 2 17,558 85 Georgia.................. 1,214 26 14,078 2 15,292 28 New York................. 11,068 277 950 3 12,018 280 Other (1)................ 53,516 1,183 10,966 28 64,482 1,211 ---------- ---------- ----------- ---------- ----------- ---------- Total................. $ 88,080 1,815 $ 95,082 51 $ 183,162 1,866 ========== ========== =========== ========== =========== ---------- </TABLE> (1) Consists of properties located in 43 other states, none of which aggregated over $10.0 million in any one state. DEPOSITS. Deposits decreased $300.5 million or 14% from December 31, 1998. The decrease in deposits during the six months ended June 30, 1999 was primarily the result of a $195.1 million decrease in brokered deposits obtained through national investment banking firms which solicit deposits from their customers, an $88.5 million decrease in deposits obtained through direct solicitation and marketing efforts to regional and local investment banking firms, institutional investors and high net worth individuals and a $24.9 million decrease in escrow deposits. Brokered deposits obtained through national investment banking firms amounted to $1.29 billion at June 30, 1999, as compared to $1.48 billion at December 31,1998. Deposits obtained through direct solicitation and marketing amounted to $288.9 million at June 30, 1999, as compared to $377.4 million at December 31, 1998. At June 30, 1999, the Company had $170.3 million of certificates of deposit in amounts of $100,000 or more, including $96.9 million of deposits of states and political subdivisions in the U.S. which are secured or collateralized as required under state law. See "- Liquidity, Commitments and Off-Balance Sheet Risks" below. NOTES, DEBENTURES AND OTHER INTEREST-BEARING OBLIGATIONS. Notes and debentures outstanding at the dates indicated, mature as follows. <TABLE> <CAPTION> June 30, December 31, 1999 1998 ------------ ------------ 1999: <S> <C> <C> 5.975% Federal Home Loan Bank advance due July 1....... 50,000 -- 2003: 11.875% Notes due October 1............................ 125,000 125,000 2004: Loan payable due May 24 (LIBOR plus 150 basis points).. 6,236 -- 2005: 12% Subordinated Debentures due June 15 (1)............ 98,000 100,000 ------------ ------------ $ 279,236 $ 225,000 ============ ============ </TABLE> (1) During the first quarter of 1999, the Company repurchased $2.0 million of its 12% subordinated Debentures at par. OBLIGATIONS OUTSTANDING UNDER LINES OF CREDIT. Obligations outstanding under lines of credit amounted to $94.0 million at June 30, 1999, a decrease of $85.2 million from December 31, 1998. The decrease is primarily the result of a decline in the balance of loans available for sale. Borrowings under lines of credit generally have a one-year term and interest rates which float in accordance with a designated prime rate. For additional information regarding lines of credit, see "Liquidity, Commitments and Off-Balance Sheet Risks." 52
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations ================================================================================ COMPANY-OBLIGATED, MANDATORILY REDEEMABLE SECURITIES OF SUBSIDIARY TRUST HOLDING SOLELY JUNIOR SUBORDINATED DEBENTURES OF THE COMPANY. In August 1997, Ocwen Capital Trust I issued $125.0 million of 10 7/8% Capital Securities. Proceeds from issuance of the Capital Securities were invested in 10 7/8% Junior Subordinated Debentures issued by the Company. The Junior Subordinated Debentures, which represent the sole assets of the Trust, will mature on August 1, 2027. Intercompany transactions between Ocwen Capital Trust I and the Company, including the Junior Subordinated Debentures, are eliminated in the consolidated financial statements of the Company. For the three and six months ended June 30, 1998 and 1999, the Company recorded $3.4 million and $6.8 million, respectively, of distributions to holders of the Capital Securities. See Note 4 to the Interim Consolidated Financial Statements included in Item 1 hereof. STOCKHOLDERS' EQUITY. Stockholders' equity decreased $0.4 million during the six months ended June 30, 1999. The decrease in stockholders' equity during this period was primarily attributable to a $4.1 million decrease in unrealized gain on securities available for sale and repurchases of common stock in the amount of $1.8 million, offset by net income of $5.8 million. During the second quarter of 1999 the Company repurchased 205,300 shares of its common stock. See the Consolidated Statements of Changes in Stockholders' Equity in the Interim Consolidated Financial Statements included in Item 1 hereof. LIQUIDITY, COMMITMENTS AND OFF-BALANCE SHEET RISKS Liquidity is a measurement of the Company's ability to meet potential cash requirements, including ongoing commitments to fund deposit withdrawals, repay borrowings, fund investment, loan acquisition and lending activities and for other general business purposes. The primary sources of funds for liquidity consist of deposits, FHLB advances, reverse repurchase agreements, lines of credit and maturities and principal payments on loans and securities and proceeds from sales thereof. An additional source of asset liquidity is the ability to securitize assets such as discount loans and subprime loans. Sources of liquidity include certificates of deposit obtained primarily from wholesale sources. At June 30, 1999, the Company had $1.64 billion of certificates of deposit, including $1.29 billion of brokered certificates of deposit obtained through national investment banking firms, all of which are non-cancelable. At the same date scheduled maturities of certificates of deposit during the 12 months ending June 30, 2000 and 2001 and thereafter, amounted to $216.8 million, $299.3 million and $1.12 billion, respectively. Brokered and other wholesale deposits generally are more responsive to changes in interest rates than core deposits and, thus, are more likely to be withdrawn from the Company upon maturity as changes in interest rates and other factors are perceived by investors to make other investments more attractive. Management of the Company believes that it can adjust the rates paid on certificates of deposit to retain deposits in changing interest rate environments, and that brokered and other wholesale deposits can be both a relatively cost-effective and stable source of funds. There can be no assurance that this will continue to be the case in the future, however. Sources of borrowings include FHLB advances, which are required to be secured by single family and/or multi-family residential loans or other acceptable collateral, and reverse repurchase agreements. At June 30, 1999, the Company was eligible to borrow up to an aggregate of $603.3 million from the FHLB of New York (subject to the availability of acceptable collateral) and had $1.1 million of single family residential loans and $10.4 million of multi-family residential loans and $77.3 million of short duration CMO's (all of which were held by the Bank) pledged as security for any such advances. At June 30, 1999 the Company had $50.0 million outstanding in FHLB advances. At the same date, the Company had contractual relationships with 12 brokerage firms and the FHLB of New York pursuant to which it could obtain funds from reverse repurchase agreements. At June 30, 1999, the Company had unrestricted cash and equivalents of $168.6 million (including $155.8 million held at the Bank), $413.9 million of short duration CMOs (all of which were held by the Bank), and $102.3 million of subordinate and residual mortgages that could be used to secure additional borrowings. 53
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations ================================================================================ The Company's lines of credit obtained through its subsidiaries to finance its subprime lending are as follows: <TABLE> <CAPTION> Balance Outstanding at Amount of Entity 6/30/99 Facility Committed Amount Maturity Date Interest Rate - --------------- -------------- --------- ---------------- ------------- ------------- (Dollars in thousands) <S> <C> <C> <C> <C> <C> OFS (1)........ $ 7,193 $ 200,000 $ 100,000 July 2001 LIBOR + 75 basis points 11,635 115,000 100,000 May 2000 LIBOR + 95 - 150 basis points 1,726 50,000 50,000 May 2000 LIBOR + 137.5 basis points Ocwen UK (1)... 47,790 197,188 201,412 Nov. 1999 LIBOR + 80 basis point 23,137 157,750 161,130 April 2000 LIBOR + 87.5 basis points IMI (2) ....... 2,558 Lesser of N/A N/A LIBOR + 150 basis points ---------- $15,000 or 60% of market value of collateral Total ......... $ 94,039 ========== </TABLE> (1) These lines are used to fund mortgage loan originations and are generally advanced at a rate of 80% to 90% of the principal balance of the mortgage loan and are secured by such mortgage loans. (2) Line is collateralized by the shares held by the Company in OAC. OFS's terms of the line of credit agreements contain, among other provisions, requirements for maintaining certain profitability, defined levels of net worth and debt-to-equity ratios. At June 30, 1999 and December 31, 1998, OFS failed to comply with the maintenance of profitability covenant for one of its credit lines. OFS obtained the lender's agreement waiving the requirement of this covenant for the six months ended June 30, 1999 and the year ended December 31, 1998. The Company believes that its existing sources of liquidity, including internally generated funds, will be adequate to fund planned activities for the foreseeable future, although there can be no assurances in this regard. Moreover, the Company continues to evaluate other sources of liquidity, such as lines of credit from unaffiliated parties, which will enhance the management of its liquidity and the costs thereof. The Company's operating activities provided cash flows of $105.4 million and $292.2 million during the six months ended June 30, 1999 and 1998, respectively. During the foregoing periods, cash flows from operating activities were provided primarily by proceeds from sales of loans available for sale, and cash resources were used primarily to purchase and originate loans available for sale. The decrease in net cash flows provided by operating activities during the first half of 1999 as compared to the first half of 1998 was due primarily to a decline in proceeds from the sales of loans available for sale, and an increase in originations of loans available for sale, partially offset by a decrease in purchases of loans available for sale The Company's investing activities used cash flows totaling $78.3 million and $652.8 million during the six months ended June 30, 1999 and 1998, respectively. During the foregoing periods, cash flows from investing activities were provided primarily by principal payments on and sales of discount loans and loans held for investment, maturities and principal payments on securities available for sale and proceeds from sales of real estate owned. Cash flows from investing activities were primarily utilized to acquire subsidiaries, to purchase and originate discount loans and loans held for investment and purchase securities available for sale. The decrease in net cash used by investing activities during the six months ended June 30, 1999 as compared to the same period in 1998, was due primarily to the acquisition of Ocwen UK in April 1998, a decline in purchases of discount loans and purchases and originations of loans held for investment, an increase in maturities of and principal payments on securities available for sale and a decline in proceeds from sales of discount loans. The Company's financing activities used cash flows of $271.6 million and provided cash flows totaling $382.4 million during the six months ended June 30, 1999 and 1998, respectively. In the first half of 1998, cash flows from financing activities were provided primarily by the issuance of obligations under lines of credit and deposits. In the first half of 1999, cash used related primarily to deposits and the repayment of obligations under lines of credit. 54
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations ================================================================================ The Bank is required under applicable federal regulations to maintain specified levels of "liquid" investments in qualifying types of U.S. Government, federal agency and other investments having maturities of five years or less. Current OTS regulations require that a savings association maintain liquid assets of not less than 4% of its average daily balance of net withdrawable deposit accounts and borrowings payable in one year or less. Monetary penalties may be imposed for failure to meet applicable liquidity requirements. The Bank's liquidity, as measured for regulatory purposes, amounted to 11.53% at June 30, 1999. The Bank's ability to make capital distributions pursuant to the OTS capital distribution regulations is limited by the regulatory capital levels which it has committed to the OTS it would maintain, commencing on June 30, 1997. As a result of an agreement between the Company and the OTS to dividend subordinate and residual mortgage-related securities resulting from securitization activities conducted by the Bank, which had an aggregate fair value of $13.8 million at June 30, 1999, the Bank may be limited in its ability to pay cash dividends to the Company. See "Regulatory Capital Requirements". In addition to the foregoing OTS limitations, there are certain contractual restrictions on the Bank's ability to pay dividends as set forth in the indenture governing the Bank's $98.0 million of 12% Debentures. See Note 6 to the Interim Consolidated Financial Statements included in Item 1 hereof. At June 30, 1999, the Bank held three subordinate securities with an aggregate fair value of $13.8 million. Future cash dividends also depend on future operating results of the Bank. At June 30, 1999, the Company had $33.6 million of unfunded commitments related to the purchase and origination of loans. Management of the Company believes that the Company has adequate resources to fund all of its commitments to the extent required and that substantially all of such commitments will be funded during 1999. See Note 7 to the Interim Consolidated Financial Statements included in Item 1 hereof. In addition to commitments to extend credit, the Company is party to various off-balance sheet financial instruments in the normal course of business to manage its interest rate and foreign currency rate risk. See "Asset and Liability Management" above and Note 5 to the Interim Consolidated Financial Statements included in Item 1 hereof. The Company conducts business with a variety of financial institutions and other companies in the normal course of business, including counterparties to its off-balance sheet financial instruments. The Company is subject to potential financial loss if the counterparty is unable to complete an agreed upon transaction. The Company seeks to limit counterparty risk through financial analysis, dollar limits and other monitoring procedures. REGULATORY CAPITAL REQUIREMENTS Federally-insured institutions such as the Bank are required to maintain minimum levels of regulatory capital. These standards generally must be as stringent as the comparable capital requirements imposed on national banks. In addition to regulatory capital requirements of general applicability, a federally-chartered savings association such as the Bank may be required to meet individual minimum capital requirements established by the OTS on a case-by-case basis upon a determination that a savings association's capital is or may become inadequate in view of its circumstances. Following an examination in late 1996 and early 1997, the Bank committed to the OTS to maintain a core capital (leverage) ratio and a total risk-based capital ratio of at least 9% and 13%, respectively. The Bank continues to be in compliance with this commitment as well as the regulatory capital requirements of general applicability, as indicated in Note 6 to the Interim Consolidated Financial Statements included in Item 1. Based on discussions with the OTS, the Bank believes that this commitment does not affect its status as a "well-capitalized" institution, assuming the Bank's continued compliance with the regulatory capital requirements required to be maintained by it pursuant to such commitment. Although the above individual regulatory capital requirements have been agreed to by the OTS, there can be no assurance that in the future the OTS will agree to a decrease in such requirements or will not seek to increase such requirements or will not impose these or other individual regulatory capital requirements in a manner which affects the Bank's status as a "well-capitalized" institution under applicable laws and regulations. 55
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations ================================================================================ RECENT ACCOUNTING DEVELOPMENTS For information relating to the effects on the Company of the adoption of recent accounting standards see Note 2 to the Interim Consolidated Financial Statements in Item 1 hereof. YEAR 2000 DATE CONVERSION The Company is in the process of establishing the readiness of its computer systems and applications for the year 2000 with the objective of having no effect on customers or disruption to business operations. The Company has established a project plan to achieve year 2000 readiness of its mission critical and non-mission critical systems, including hardware infrastructure and software applications. The project plan has a budget of approximately $2.0 million and is divided into six phases: identification, evaluation, remediation, validation, risk assessment and contingency planning. During 1998, the Company substantially completed the systems identification and evaluation phases of the project as well as remediation and validation of its mission critical systems. As of June 30, 1999, the Company had expended approximately 96% of budgeted man-hours and incurred costs of approximately $1.8 million, which included approximately $309,000 for Year 2000 testing tools, additional hardware, and outside consulting assistance, while the remainder consisted of labor and overhead expense from within the Company. In its systems evaluation and validation efforts, the Company has employed automated testing tools that are designed to meet guidelines established by the Federal Financial Institution Examination Council ("FFIEC") as required by the OTS. All new application development will include year 2000 readiness validation prior to implementation, followed by such end-to-end testing as may be necessary. During 1999 the Company is focusing on any remaining validation tasks, including remediation and validation of its non-mission critical systems and end-to-end testing with third parties. During the second quarter of 1999, the Company participated in the Mortgage Banker Association Year 2000 Inter-System Readiness Test with other mortgage industry leaders as a means of coordinating critical end-to-end validation. As part of the identification and evaluation phases of the project, the Company documented critical operating functions within each business unit, as well as strategic third-party and vendor relationships. These efforts also serve as the basis of the Company's year 2000 risk assessment and contingency planning efforts. The Company has retained a business continuity expert to prepare contingency plans and assist with the testing and validation of these plans. The business continuity expert reviewed the Company's year 2000 customer disclosure, mission critical systems testing results, critical vendor listings, software and hardware inventories, and disaster recovery plans for critical business units. On the basis of this review, the business continuity expert built a Company intranet business continuity template and database, established roles and responsibilities for key personnel in the business continuity plan, and informed the Company that as of April 30, 1999, the Company's year 2000 posture was sound and conformed to FFIEC requirements. However, because it is not possible to foresee all of the problems that may arise as a result of year 2000 issues, the Company believes that there can be no assurance that all contingencies have been adequately addressed by the business continuity plan. Because the Company has validated the year 2000 readiness of its mission critical systems and has developed business continuity plans to accommodate unforeseen disruptions, the Company believes that its most reasonably likely worst case year 2000 scenarios are characterized by potential failures of non-critical vendor or customer computer systems or end-to-end disruptions involving as yet unidentified, and hence untested, third-party systems and records stored on those systems. The Company could experience disruptions across all business segments as a result of year 2000 systems failures at government agencies, utilities, telecommunications providers, couriers and financial services vendors, among others. Concerning specific Company business functions, data acquired from third-parties might contain year 2000 incompatible components, which could impact the timeliness of third-party loan servicing functions such as payment processing or loan resolution. In addition, loans acquired by the Company could experience increased borrower or tenant defaults stemming from year 2000 related business shortfalls, dislocations or delays. Such risks could also impact the value of the Company's portfolio of mortgage-backed securities, as these are dependent upon the underlying pool of mortgage loans. There can be no assurance that such risks, if realized individually or collectively, would not have a material adverse effect on the Company's business, results of operations or financial condition. 56
Item 3. Quantitative and Qualitative Disclosures About Market Risk ================================================================================ ASSET AND LIABILITY MANAGEMENT Asset and liability management is concerned with the timing and magnitude of the repricing of assets and liabilities. It is the objective of the Company to attempt to control risks associated with interest rate movements. In general, management's strategy is to match asset and liability balances within maturity categories to limit the Company's exposure to earnings variations and variations in the value of assets and liabilities as interest rates change over time. The Company's asset and liability management strategy is formulated and monitored by the Asset/Liability Committee, which is composed of officers of the Company, in accordance with policies approved by the Board of Directors of the Company. The Asset/Liability Committee meets regularly to review, among other things, the sensitivity of the Company's assets and liabilities to interest rate changes, the book and market values of assets and liabilities, unrealized gains and losses, including those attributable to hedging transactions, purchase and sale activity, and maturities of investments and borrowings. The Asset/Liability Committee also approves and establishes pricing and funding decisions with respect to overall asset and liability composition. The Asset/Liability Committee is authorized to utilize a wide variety of off-balance sheet financial techniques to assist it in the management of interest rate risk. These techniques include interest rate exchange or swap agreements, Eurodollar and U.S. Treasury interest rate futures contracts and foreign currency swap agreements. INTEREST RATE RISK MANAGEMENT. Under interest rate swap agreements, the parties exchange the difference between fixed-rate and floating-rate interest payments on a specified principal amount (referred to as the "notional amount") for a specified period without the exchange of the underlying principal amount. Interest rate exchange agreements are utilized by the Company to protect against the decrease in value of a fixed-rate asset or the increase in borrowing cost from a short-term, fixed-rate liability, such as reverse repurchase agreements, in an increasing interest-rate environment. At and for the six months ended June 30, 1999, the Company had no outstanding interest rate exchange agreements. Interest rate exchange agreements had the effect of decreasing the Company's net interest income by $32,000 and $70,000 during the three and six months ended June 30, 1998, respectively. The Company also enters into interest rate futures contracts, which are commitments to either purchase or sell designated financial instruments at a future date for a specified price and may be settled in cash or through delivery. Eurodollar futures contracts have been sold by the Company to hedge the repricing or maturity risk of certain short duration mortgage-related securities, and U.S. Treasury futures contracts have been sold by the Company to offset declines in the market value of its fixed-rate loans and certain fixed-rate mortgage-backed and related securities available for sale in the event of an increasing interest rate environment. The Company had no outstanding interest rate futures and Eurodollar futures contracts outstanding at and for the six months ended June 30, 1999. Futures contracts had the effect of decreasing the Company's net interest income by $49,000 during the six months ended June 30, 1998. See Note 4 to the Interim Consolidated Financial Statements included in Item 1 hereof. During the six months ended June 30, 1999, the Company entered into swaption and put option contracts to hedge its interest rate exposure on certain of its investments in low-income housing tax credit interests. Swaption contracts are options to enter into an interest rate swap agreement at a future date at a specific interest rate. A European put option allows the Company to sell a specified quantity of an asset at a specified price at a specific date. See Note 5 to the Interim Consolidated Financial Statement included in Item 1 hereof. The Asset/Liability Committee's methods for evaluating interest rate risk include an analysis of the Company's interest rate sensitivity "gap", which is defined as the difference between interest-earning assets and interest-bearing liabilities maturing or repricing within a given time period. A gap is considered positive when the amount of interest-rate sensitive assets exceeds the amount of interest-rate sensitive liabilities. A gap is considered negative when the amount of interest-rate sensitive liabilities exceeds interest-rate sensitive assets. During a period of rising interest rates, a negative gap would tend to adversely affect net interest income, while a positive gap would tend to result in an increase in net interest income. During a period of falling interest rates, a negative gap would tend to result in an increase in net interest income, while a positive gap would tend to affect net interest income adversely. Because different types of assets and liabilities with the same or similar maturities may react differently to changes in overall market rates or conditions, changes in interest rates may affect net interest income positively or negatively even if an institution were perfectly matched in each maturity category. 57
Item 3. Quantitative and Qualitative Disclosures About Market Risk ================================================================================ The following table sets forth the estimated maturity or repricing of the Company's interest-earning assets and interest-bearing liabilities at June 30, 1999. The amounts of assets and liabilities shown within a particular period were determined in accordance with the contractual terms of the assets and liabilities, except (i) adjustable-rate loans, performing discount loans, securities and FHLB advances are included in the period in which they are first scheduled to adjust and not in the period in which they mature, (ii) fixed-rate mortgage-related securities reflect estimated prepayments, which were estimated based on analyses of broker estimates, the results of a prepayment model utilized by the Company and empirical data, (iii) non-performing discount loans reflect the estimated timing of resolutions which result in repayment to the Company, (iv) fixed-rate loans reflect scheduled contractual amortization, with no estimated prepayments, (v) NOW and money market checking deposits and savings deposits, which do not have contractual maturities, reflect estimated levels of attrition, which are based on detailed studies of each such category of deposit by the Company, and (vi) escrow deposits and other non-interest bearing checking accounts, which amounted to $211.6 million at June 30, 1999, are excluded. Management believes that these assumptions approximate actual experience and considers them reasonable; however, the interest rate sensitivity of the Company's assets and liabilities in the table could vary substantially if different assumptions were used or actual experience differs from the historical experience on which the assumptions are based. <TABLE> <CAPTION> June 30, 1999 --------------------------------------------------------------------------- Within Four to More than Three Three Twelve One Year to Years Months Months Three Years and Over Total ------------ ------------ ------------ ------------ ------------ Rate-Sensitive Assets: (Dollars in thousands) <S> <C> <C> <C> <C> <C> Interest-earning deposits....................... $ 18,127 $ -- $ -- $ -- $ 18,127 Federal funds sold.............................. 75,000 -- -- -- 75,000 Securities available for sale................... 142,216 320,030 143,982 127,043 733,271 Loans available for sale (1).................... 5,161 55,913 36,211 35,140 132,425 Investment securities, net...................... -- -- -- 10,825 10,825 Loan portfolio, net (1)......................... 55,661 41,190 26,407 10,420 133,678 Discount loan portfolio, net.................... 148,524 521,447 141,142 197,651 1,008,764 ------------ ------------ ------------ ------------ ------------ Total rate-sensitive assets................... 444,689 938,580 347,742 381,079 2,112,090 ------------ ------------ ------------ ------------ ------------ Rate-Sensitive Liabilities: NOW and money market checking deposits.......... 7,241 3,799 7,539 13,734 32,313 Savings deposits................................ 78 210 414 766 1,468 Certificates of deposit......................... 272,290 522,261 691,642 142,941 1,629,134 ------------ ------------ ------------ ------------ ------------ Total interest-bearing deposits............... 279,609 526,270 699,595 157,441 1,662,915 FHLB Advances................................... 50,000 -- -- --- 50,000 Securities sold under agreements to repurchase.. 133,741 -- -- -- 133,741 Obligations outstanding under lines of credit... 94,039 -- -- -- 94,039 Notes and debentures............................ 6,236 -- -- 223,000 229,236 ------------ ------------ ------------ ------------ ------------ Total rate-sensitive liabilities.............. 563,625 526,270 699,595 380,441 2,169,931 Interest rate sensitivity gap before off-balance sheet financial instruments....... (118,936) 412,310 (351,853) 638 (57,841) Off-Balance Sheet Financial Instruments: Swaptions and put option contracts.............. 23 504 -- -- 527 ------------ ------------ ------------ ------------ ------------ Interest rate sensitivity gap...................... $ (118,913) $ 412,814 $ (351,853) $ 638 $ (57,314) ============ ============ ============ ============ ============ Cumulative interest rate sensitivity gap........... $ (118,913) $ 293,901 $ (58,952) $ (57,314) ============ ============ ============ ============ Cumulative interest rate sensitivity gap as a Percentage of total rate-sensitive assets....... (5.63)% 13.92% (2.79)% (2.71)% ============ ============ ============ ============ (1) Balances have not been reduced for non-performing loans. </TABLE> Although the interest rate sensitivity gap analysis is a useful measurement and contributes toward effective asset and liability management, it is difficult to predict the effect of changing interest rates based solely on that measure. The OTS has established specific minimum guidelines for thrift institutions to observe in the area of interest rate risk as described in Thrift Bulletin No. 13a, "Management of Interest Rate Risk, Investment Securities, and Derivative Activities" ("TB 13a"). Under TB 13a, institutions are required to establish and demonstrate quarterly compliance with board-approved limits on 58
Item 3. Quantitative and Qualitative Disclosures About Market Risk ================================================================================ interest rate risk that are defined in terms of net portfolio value ("NPV"), which is defined as the net present value of an institution's existing assets, liabilities and off-balance sheet instruments. These limits specify the minimum net portfolio value ratio ("NPV Ratio") allowable under current interest rates and hypothetical interest rate scenarios. An institution's NPV Ratio for a given interest rate scenario is calculated by dividing the NPV that would result in that scenario by the present value of the institution's assets in that same scenario. The hypothetical scenarios are represented by immediate, permanent, parallel movements in the term structure of interest rates of plus and minus 100, 200, and 300 basis points from the actual term structure observed at quarter end. The minimum NPV Ratio for each of the seven rate shock scenarios and the corresponding limits approved by the Board of Directors of the Bank, is as follows at June 30, 1999. Rate Shock Board Limits Current (in basis points) (minimum NPV Ratios) NPV Ratios ------------------------ -------------------- ---------- +300 5.00% 18.41% +200 6.00 18.66 +100 7.00 18.83 0 8.00 18.90 -100 7.00 18.91 -200 6.00 18.90 -300 5.00 18.96 The Asset/Liability Committee also regularly reviews interest rate risk by forecasting the impact of alternative interest rate environments on net interest income and NPV, and evaluating such impacts against the maximum potential changes in net interest income and NPV that is authorized by the Board of Directors of the Bank. The following table quantifies the potential changes in net interest income and NPV should interest rates go up or down (shocked) 300 basis points, assuming the yield curves of the rate shocks will be parallel to each other. The cash flows associated with the loan portfolios and securities available for sale are calculated based on prepayment and default rates that vary by asset. Projected losses, as well as prepayments, are generated based upon the actual experience with the subject pool, as well as similar, more seasoned pools. To the extent available, loan characteristics such as loan-to-value ratio, interest rate, credit history, prepayment penalty terms and product types are used to produce the projected loss and prepayment assumptions that are included in the cash flow projections of the securities. When interest rates are shocked, these projected loss and prepayment assumptions are further adjusted. For example, under current market conditions, a 100 basis point decline in the market interest rate is estimated to result in a 200 basis point increase in the prepayment rate of a typical subprime residential loan. Most commercial and multi-family loans are not subject to prepayments as a result of prepayment penalties and contractual terms which prohibit prepayments during specified periods. However, for those commercial and multi-family loans where prepayments are not currently precluded by contract, declines in interest rates are associated with steep increases in prepayment speeds in computing cash flows. A risk premium is then calculated for each asset, which, when added to the interest rate being modeled, results in a matrix of discount rates that are applied to the cash flows computed by the model. The base interest rate scenario assumes interest rates at June 30, 1999. Actual results could differ significantly from those estimated in the table. Estimated Changes in Change in interest Rates -------------------------------- (Rate shock in basis points) Net Interest NPV ---------------------------- ------------ ------ +300 10.20% (6.61) +200 6.80 (3.92) +100 3.40 (1.72) 0 -- -- -100 (3.40) 1.28 -200 (6.80) 2.43 -300 (10.20) 3.94 Management of the Company believes that the assumptions used by it to evaluate the vulnerability of the Company's operations to changes in interest rates approximate actual experience and considers them reasonable; however, the interest rate sensitivity of the Company's assets and liabilities and the estimated effects of changes in interest rates on the Company's net interest 59
Item 3. Quantitative and Qualitative Disclosures About Market Risk ================================================================================ income and NPV could vary substantially if different assumptions are used or actual experience differs from the historical experience on which they are based. FOREIGN CURRENCY EXCHANGE RATE RISK MANAGEMENT. The Company uses foreign currency derivatives to hedge its equity investment in Ocwen UK and Kensington ("net investment hedges"). The Company's exposure to foreign currency exchange rates exists with the British Pound versus the U.S. dollar. It is the Company's policy to periodically adjust the amount of foreign currency derivative contracts it has entered into in response to changes in its recorded equity investment in these foreign entities. During 1998, the Company entered into a foreign currency swap with a AAA-rated counterparty to hedge its equity investment in Kensington. Under the terms of the agreement, the Company will swap (pound)27.5 million for $43.5 million in five years based on the exchange rate on the date the contract became effective. During the second quarter of 1999, the Company also sold short foreign currency futures contracts to further hedge its foreign currency exposure related to its equity investment in Kensington. Under the terms of the currency futures, the Company had the right to receive $0.9 million and pay (pound)0.6 million. The Company sells short foreign currency futures to hedge its foreign currency exposure related to its equity investment in Ocwen UK. During the first quarter of 1999, the Company increased its derivative hedging instruments to include its foreign currency exposure resulting from the unrealized gain on securities available for sale related to Ocwen UK. Under the terms of the currency futures, at June 30, 1999 the Company had the right to receive $72.6 million and pay (pound)45.3 million. At December 31, 1998, the Company had the right to receive $43.8 million and pay (pound)26.6 million. The value of the currency futures is based on quoted market prices. See Note 5 to the Interim Consolidated Financial Statements included in Item 1 hereof. The Company's net investment hedges and related foreign currency equity investments and net exposures as of June 30, 1999 and December 31, 1998 were as follows. <TABLE> <CAPTION> Equity Investment Net Hedges Net Exposure ----------------- ------------ ------------ <S> <C> <C> <C> JUNE 30, 1999: (Dollars in thousands) Ocwen UK (1)............... $ 64,578 $ 72,613 $ 8,035 Kensington................. $ 42,905 $ 44,441 $ 1,536 DECEMBER 31, 1998: Ocwen UK (1)............... $ 53,436 $ 43,828 $ (9,608) Kensington................. $ 46,586 $ 45,093 $ 1,493 </TABLE> (1) Equity Investment in Ocwen UK excludes unrealized gains on securities available for sale. Total stockholders' equity of Ocwen UK at June 30, 1999, including unrealized gain on securities available for sale and foreign currency translation, net of tax, was $72.2 million. The net exposures are subject to gain or loss if foreign currency exchange rates fluctuate. Additional information required by this Item appears in Note 5 to the Interim Consolidated Financial Statements included in Item 1 hereof, and is incorporated herein by reference. 60
Item 3. Quantitative and Qualitative Disclosures About Market Risk ================================================================================ FORWARD-LOOKING STATEMENTS CERTAIN STATEMENTS CONTAINED HEREIN ARE NOT, AND CERTAIN STATEMENTS CONTAINED IN FUTURE FILINGS BY THE COMPANY WITH THE SECURITIES AND EXCHANGE COMMISSION (THE "COMMISSION"), IN THE COMPANY'S PRESS RELEASES OR IN THE COMPANY'S OTHER PUBLIC OR SHAREHOLDER COMMUNICATIONS MAY NOT BE BASED ON HISTORICAL FACTS AND ARE "FORWARD-LOOKING STATEMENTS" WITHIN THE MEANING OF SECTION 27A OF THE SECURITIES ACT OF 1933, AS AMENDED, AND SECTION 21E OF THE SECURITIES EXCHANGE ACT OF 1934, AS AMENDED. THESE FORWARD-LOOKING STATEMENTS, WHICH ARE BASED ON VARIOUS ASSUMPTIONS (SOME OF WHICH ARE BEYOND THE COMPANY'S CONTROL), MAY BE IDENTIFIED BY REFERENCE TO A FUTURE PERIOD(S) OR BY THE USE OF FORWARD-LOOKING TERMINOLOGY SUCH AS "ANTICIPATE," "BELIEVE," "COMMITMENT," "CONSIDER," "CONTINUE," "COULD," "ENCOURAGE," "ESTIMATE," "EXPECT," "FORESEE," "INTEND," "IN THE EVENT OF," "MAY," "PLAN," "PRESENT," "PROPOSE," "PROSPECT," "UPDATE," "WHETHER," "WILL," "WOULD," FUTURE OR CONDITIONAL VERB TENSES, SIMILAR TERMS, VARIATIONS ON SUCH TERMS OR NEGATIVES OF SUCH TERMS. ALTHOUGH THE COMPANY BELIEVES THE ANTICIPATED RESULTS OR OTHER EXPECTATIONS REFLECTED IN SUCH FORWARD-LOOKING STATEMENTS ARE BASED ON REASONABLE ASSUMPTIONS, IT CAN GIVE NO ASSURANCE THAT THOSE RESULTS OR EXPECTATIONS WILL BE ATTAINED. ACTUAL RESULTS COULD DIFFER MATERIALLY FROM THOSE INDICATED IN SUCH STATEMENTS DUE TO RISKS, UNCERTAINTIES AND CHANGES WITH RESPECT TO A VARIETY OF FACTORS, INCLUDING, BUT NOT LIMITED TO, THE ABILITY OF THE COMPANY AND OAC TO CONSUMMATE THE MERGER, MARKET PRICES OF THE COMMON STOCK OF THE COMPANY AND OAC, INTERNATIONAL, NATIONAL, REGIONAL OR LOCAL ECONOMIC ENVIRONMENTS (PARTICULARLY IN THE MARKET AREAS WHERE THE COMPANY OPERATES), GOVERNMENT FISCAL AND MONETARY POLICIES (PARTICULARLY IN THE MARKET AREAS WHERE THE COMPANY OPERATES), PREVAILING INTEREST OR CURRENCY EXCHANGE RATES, EFFECTIVENESS OF INTEREST RATE, CURRENCY AND OTHER HEDGING STRATEGIES, LAWS AND REGULATIONS AFFECTING FINANCIAL INSTITUTIONS, REAL ESTATE INVESTMENT TRUSTS, INVESTMENT COMPANIES AND REAL ESTATE (INCLUDING REGULATORY FEES, CAPITAL REQUIREMENTS, INCOME AND PROPERTY TAXATION, ACCESS FOR DISABLED PERSONS AND ENVIRONMENTAL COMPLIANCE), UNCERTAINTY OF FOREIGN LAWS, COMPETITIVE PRODUCTS, PRICING AND CONDITIONS (INCLUDING FROM COMPETITORS THAT HAVE SIGNIFICANTLY GREATER RESOURCES THAN THE COMPANY), CREDIT, PREPAYMENT, BASIS, DEFAULT, SUBORDINATION AND ASSET/LIABILITY RISKS, LOAN SERVICING EFFECTIVENESS, ABILITY TO IDENTIFY ACQUISITIONS AND INVESTMENT OPPORTUNITIES MEETING THE COMPANY'S INVESTMENT STRATEGY, COURSE OF NEGOTIATIONS AND ABILITY TO REACH AGREEMENT WITH RESPECT TO MATERIAL TERMS OF ANY PARTICULAR TRANSACTION, SATISFACTORY DUE DILIGENCE RESULTS, SATISFACTION OR FULFILLMENT OF AGREED UPON TERMS AND CONDITIONS OF CLOSING OR PERFORMANCE, TIMING OF TRANSACTION CLOSINGS, RECENT EFFORTS TO REFOCUS ON CORE BUSINESSES AND INCREASE LIQUIDITY, DISPOSITIONS AND WINDING DOWN OF DISCONTINUED BUSINESSES, ACQUISITIONS AND INTEGRATION OF ACQUIRED BUSINESSES, SOFTWARE INTEGRATION, DEVELOPMENT AND LICENSING, AVAILABILITY OF AND COSTS ASSOCIATED WITH OBTAINING ADEQUATE AND TIMELY SOURCES OF LIQUIDITY, DEPENDENCE ON EXISTING SOURCES OF FUNDING, ABILITY TO REPAY OR REFINANCE INDEBTEDNESS (AT MATURITY OR UPON ACCELERATION), TO MEET COLLATERAL CALLS BY LENDERS (UPON RE-VALUATION OF THE UNDERLYING ASSETS OR OTHERWISE), TO GENERATE REVENUES SUFFICIENT TO MEET DEBT SERVICE PAYMENTS AND OTHER OPERATING EXPENSES AND TO SECURITIZE WHOLE LOANS, TAXABLE INCOME EXCEEDING CASH FLOW, AVAILABILITY OF DISCOUNT LOANS FOR PURCHASE, SIZE OF, NATURE OF AND YIELDS AVAILABLE WITH RESPECT TO THE SECONDARY MARKET FOR MORTGAGE LOANS AND FINANCIAL, SECURITIES AND SECURITIZATION MARKETS IN GENERAL, ALLOWANCES FOR LOAN LOSSES, CHANGES IN REAL ESTATE CONDITIONS (INCLUDING LIQUIDITY, VALUATION, REVENUES, RENTAL RATES, OCCUPANCY LEVELS AND COMPETING PROPERTIES), ADEQUACY OF INSURANCE COVERAGE IN THE EVENT OF A LOSS, KNOWN OR UNKNOWN ENVIRONMENTAL CONDITIONS, YEAR 2000 COMPLIANCE, OTHER FACTORS GENERALLY UNDERSTOOD TO AFFECT THE REAL ESTATE ACQUISITION, MORTGAGE AND LEASING MARKETS, SECURITIES INVESTMENTS AND RAPID GROWTH COMPANIES, AND OTHER RISKS DETAILED FROM TIME TO TIME IN THE COMPANY'S REPORTS AND FILINGS WITH THE COMMISSION, INCLUDING ITS REGISTRATION STATEMENTS ON FORMS S-1 AND S-3 AND PERIODIC REPORTS ON FORMS 10-Q, 8-K AND 10-K. SPECIFIC REFERENCE IS MADE TO EXHIBIT 99. 1, FILED HEREWITH, FOR A DESCRIPTION OF MATERIAL RISKS FACED BY THE COMPANY AND ITS SECURITIES HOLDERS. GIVEN THESE UNCERTAINTIES, READERS ARE CAUTIONED NOT TO PLACE UNDUE RELIANCE ON SUCH STATEMENTS. THE COMPANY DOES NOT UNDERTAKE, AND SPECIFICALLY DISCLAIMS ANY OBLIGATION, TO PUBLICLY RELEASE THE RESULT OF ANY REVISIONS THAT MAY BE MADE TO ANY FORWARD-LOOKING STATEMENTS TO REFLECT THE OCCURRENCE OF ANTICIPATED OR UNANTICIPATED EVENTS OR CIRCUMSTANCES AFTER THE DATE OF SUCH STATEMENTS. 61
Item 6. Exhibits and Reports on Form 8-K ================================================================================ PART II OTHER INFORMATION ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K (a) Exhibits. 3.1 Amended and Restated Articles of Incorporation (1) 3.2 Amended and Restated Bylaws (2) 4.0 Form of Certificate of Common Stock (1) 4.1 Form of Indenture between the Company and Bank One, Columbus, NA as Trustee (1) 4.2 Form of Note due 2003 (included in Exhibit 4.1) (1) 4.3 Certificate of Trust of Ocwen Capital Trust I (3) 4.4 Amended and Restated Declaration of Trust of Ocwen Capital Trust I (3) 4.5 Form of Capital Security of Ocwen Capital Trust I (4) 4.6 Form of Indenture relating to 10 7/8% Junior Subordinated Debentures due 2027 of the Company (3) 4.7 Form of 10 7/8% Junior Subordinated Debentures due 2027 of the Company (4) 4.8 Form of Guarantee of the Company relating to the Capital Securities of Ocwen Capital Trust I (3) 4.9 Form of Indenture between the Company and The Bank of New York as Trustee (5) 4.10 Form of Subordinated Debentures due 2005 (5) 10.1 Ocwen Financial Corporation 1991 Non-Qualified Stock Option Plan, as amended (6) 10.2 Annual Incentive Plan (1) 10.3 Ocwen Financial Corporation 1996 Stock Plan for Directors, as amended (7) 10.4 Ocwen Financial Corporation 1998 Annual Incentive Plan (7) 10.5 Ocwen Financial Corporation Long-Term Incentive Plan (7) 10.6 Loan Facility Agreement dated April 23, 1999 between Ocwen Limited, National Westminster Bank plc, and Ocwen Financial Corporation (filed herewith) 10.7 Agreement of Merger dated as of July 25, 1999 among Ocwen Financial Corporation, Ocwen Asset Investment Corp. and Ocwen Acquisition Company (8) 27.1 Financial Data Schedule-For the three months ended June 30, 1999 (filed herewith) 99.1 Risk factors (filed herewith) - ---------------------- (1) Incorporated by reference to the similarly described exhibit filed in connection with the Registrant's Registration Statement on Form S-1 (File No. 333-5153) as amended, declared effective by the commission on September 25, 1996. (2) Incorporated by reference to the similarly described exhibit included with the Registrant's Annual Report on Form 10-K for the year ended December 31, 1998 (3) Incorporated by reference to the similarly described exhibit filed in connection with the Company's Registration Statement on Form S-1 (File No. 333-28889), as amended, declared effective by the Commission on August 6, 1997. (4) Incorporated by reference to similarly described exhibit included with Registrant's Quarterly Report on Form 10-Q for the quarter ended September 30, 1997. (5) Incorporated by reference to the similarly described exhibit filed in connection with Amendment No.2 to Offering Circular on Form OC (on Form S-1) filed on June 7, 1995. (6) Incorporated by reference to the similarly described exhibit filed in connection with the Registrant's Registration Statement on Form S-8, File No. 333-44999, effective when filed with the Commission on January 28, 1998. (7) Incorporated by reference to the similarly described exhibit to the Company's Definitive Proxy Statement with respect to the Company's 1998 Annual Meeting as filed with the Commission on March 31, 1998. 62
Item 6. Exhibits and Reports on Form 8-K ================================================================================ (8) Incorporated by reference to the similarly described exhibit included with the Registrant's current report on Form 8-K filed with the Commission on July 26, 1999. (b) Reports on Form 8-K. (1) A Form 8-K was filed by the Company on July 26, 1999 which contained a news release announcing the signing of a definitive agreement with Ocwen Asset Investment Corp. ("OAC") that contemplates that OAC would merge with an indirect subsidiary of the Company. The Form 8-K also contained the Agreement of Merger dated July 25, 1999 among the Company, Ocwen Acquisition Company and OAC. (2) A Form 8-K was filed by the Company on August 12, 1999 which contained a news release announcing its financial results for the second quarter of 1999. 63
SIGNATURE Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. Ocwen Financial Corporation By: /s/ MARK S. ZEIDMAN --------------------------------------- Mark S. Zeidman, Senior Vice President and Chief Financial Officer (On behalf of the Registrant and as its principal financial officer) Date: August 16, 1999 64