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spk05: Good day and welcome to the Velocity Financial Inc. Third Quarter 2021 Earnings Conference Call. All participants will be in listen-only mode. Should you need assistance, please signal a conference specialist by pressing the star key followed by zero. After today's presentation, there will be an opportunity to ask questions. To ask a question, you may press star, then one on your touchtone phone. To withdraw your question, please press star, then two. Please note this event is being recorded. I would now like to turn the conference over to Chris Holtman, Chief Accounting Officer. Please go ahead.
spk07: Thank you, Grant. Hello, everyone, and thank you for joining us today for the discussion of Velocity Financial's third quarter 2021 results. Joining me today on the call are Chris Farrar, Velocity's President and Chief Executive Officer, and Mark Sipaniak, Velocity's Chief Financial Officer. Earlier this afternoon, we released our third quarter 2021 press release and the accompanying earnings presentation, which are available on our investor relations website. I'd like to remind everybody that today's call may include forward-looking statements, which are uncertain and outside of the company's control, and actual results may differ materially. For discussion of some of the risk and other factors that could affect results, please see the risk factors and other cautionary statements made in our communications with shareholders, including the risk factors disclosed in our filings with the SEC. Also note that the content of this conference call contains time-sensitive information that is accurate only as of today, and we do not undertake any duty to update forward-looking statements. We may also refer to certain non-GAAP measures on this call. For reconciliations of these non-GAAP measures, you should refer to the earnings materials on our investor relations website. And finally, today's call is being recorded and will be available on the company's website later today. I'll now turn the call over to Chris Farrar.
spk04: Thanks, Chris, and welcome, everyone, to the third quarter call. Obviously, we had a fantastic quarter as we broke numerous historical records. And first off, I just want to thank all my team members who work so hard every day to achieve the results that we've been seeing lately. People are highly engaged and enjoy helping our customers succeed, and we're seeing really strong demand for our products a very healthy real estate environment, especially in the BPL segment, which is driven by a large supply-demand imbalance, and excellent securitization markets, all of which are reflected in our operating results announced today. In terms of originations, we funded just over $340 million in new loans in Q3, beating our old record of $321 million funded in the fourth quarter of 2019, which was obviously pre-pandemic. Our investments in automation and systems have empowered us to become more efficient than ever before, and the momentum is building. Recently, there has been a lot of press about rising mortgage rates, and we're pleased to report that our new applications continue to increase as has been our historical experience in past rising rate environments. September and October were sequentially historical record months for the dollar amount of new loans submitted, with over $410 million of new applications coming through our broker portal in October, again breaking a pre-COVID record of $316 million set in October of 2019. Turning to asset quality, we're also pleased with the continued trend of reduced non-performing loans, and our special servicing team has done a great job working with customers to resolve issues. Most loans are resolved well before final foreclosure, and we see very few delinquent loans becoming REOs. On the financing side of the business, our capital markets team has been very busy keeping pace with our new originations, closing our third deal of the year in October. with a fourth securitization planned in December, and our interest expense is obviously benefiting from these lower-cost securitizations. Our goal for 2021 was to fund a billion dollars in new loans, and I'm excited that we'll pass that goal by next week. As we continue to take market share and grow our portfolio, we are highly focused on improving customer service levels, challenging our people to learn, and developing new opportunities to help investors finance their real estate with the ultimate goal of enhancing shareholder value. Our team is well prepared to capitalize on the favorable market dynamics that are unique to our sector, and we're confident in our ability to grow our business. We appreciate the continued support from all stakeholders, and we'll now review our earnings materials in more detail. Starting off on page three, I'll kick us off of the presentation here. Obviously, from an earnings perspective, a great quarter. I focus primarily on core earnings, and those are down just slightly from the previous quarter. And the one thing that I'd like to point out, we tried to make clear in our press release, was in Q2, we sold about $2.5 million We earned about $2.5 million off of whole loan sales, and we did very little of that in the third quarter. And so had we kept at that pace and sold loans, our core earnings obviously would have been much, much higher. We've talked about in the past that we evaluate those decisions and try to be opportunistic about when we sell whole loans and we securitize. Obviously, our bias is to securitized and so those gains although not recognized in this quarter from a potential whole loan sale will obviously be picked up in future periods so really pleased with with how earnings came out very strong obviously in them and good interest income growth as we added new loans from the production perspective I mentioned record quarter The portfolio is growing nicely, and importantly, we saw NPLs come down 260 basis points quarter over quarter. So as we've said before, we're slowly just eroding that backlog of COVID-related stuff and seeing good performance there as well. On the financing and capital side, I mentioned the securitization market has been very good to us, and we see it still continuing to be strong. We did establish an ATM program, and we're pleased to have that in place. We did sell a very small amount of stock just to make sure that all the plumbing worked, and so it's a good program to have in place for us as we continue to grow. And then finally here on slide three, we did upsize one of our facilities from $100 million to $200 million, and extended that renewal period out to a two-year period. So we've got very good support and in a good position from a financing capital perspective. On page four, subsequent to the quarter end, we previously announced the conversion of the preferred shares. So that's good. We've cleaned up that, and there's no uncertainty hanging out there about what could potentially happen there. And then finally, I did mention we closed that third securitization in October. So all in all, there's been great momentum. And with that, I'll turn it over to Mark to walk you through the rest of the presentation.
spk02: Thanks, Chris. Good afternoon, good evening, everybody. On page five, core income and book value growth, our gap income and core income was the same for Q3. There really were no unusual items. So at $8 million for the quarter, As Chris mentioned, that's comparable to a core income of $8.5 million for Q2. But in Q2, we did sell more loans. We had an overall gain on sale of about $2.2 million. We only had a gain on sale of about $500,000 in Q3 because we made a conscious decision to hold more of our originated loans and put them into the securizations. Because as we'll see in the next couple of slides, our NIM has widened out because the Securitization cost has come down, so we thought it very prudent to put more loans into our securitizations and kind of build that go-forward locked-in spread. But if you did it on a normalized basis and take out that 2.2 million gain in Q2 and put in just the $500,000 that we had in Q3 on a normalized basis run rate, Q3 core income was actually about 11% higher than Q2 on just a pure NIM basis. And then the book value per share, you can see that quarter over quarter, it's increased from $1,162 a share to $1,205 at the end of the third quarter. Looking at loan production, loan production, again, we hit a record for the company in Q3, which is under $341 million in production, so production is very strong. And in October, we actually hit a little bit over $138 million just for the month. That's a record for the company for a single month. So as Chris mentioned, the appetite for our product is out there. The real estate market is very strong, and we're seeing great production numbers. On the loan portfolio, this kind of gives you a look at the portfolio. We ended the quarter at just under $2.3 billion compared to about $2.1 billion for Q2. And the growth that we've been experiencing throughout the last four or five quarters has been good growth in all of our products. It's not any one product taking off more than the other. It's good growth across all the products. And while we're growing our production and our in-place portfolio, at the bottom of that slide, you can see that our LTVs are holding very consistent, right around 66%, 67%. And the average loan balances are staying right around the $350,000. So everything's been staying the same in terms of our commitment to quality and LTV and good credit. but at the same time growing the production. Our net interest margin for third quarter was 4.97, so 14 basis point increase over Q2's net interest margin of 483. That was mainly driven by the talk about the cost of funds. If you look at the right-hand side, our average cost of funds from Q2 to Q3 declined from 481 to 448. So as we continue putting on these lower cost securitizations, we're reducing our complete total cost of funds and widening out the NIM. And you can see the net interest income for Q3 was 26.6 million compared to 24.4 million for Q2, about a 10% increase there. On loan investment portfolio performance, as Chris mentioned, some of the higher non-performing loan ratios that we experienced during the heat of COVID Towards the end of last year and with our COVID forbearance program, we've been continuously working that off and very successful with our special servicing department, getting these things resolved successfully. And we ended up the quarter at 12.7% not performing rate. That's a drop compared to 15.3% at the end of Q2. And if you go all the way back to the end of the year, we're at 17.2%. So we're coming now at the end of nine months at 12.7%. Great success in working off those not performing loans. And again, with very little of that going to foreclosure. We're working off successful by either paying off or paying current. And if you look at the next slide, you can kind of see what's happening there. We're maintaining that very successful non-resolution activity by high UPB and the paid in full, paid in current, very low in terms of the REO. And we're continuing to make positive gains on these non-performing loans over and above the contractual principal and interest due to the collection of default interest and on the long-term loans on the prepayment fee. Keep in mind the short-term loans and the bottom of the table, short-term loans are not subject to prepayment fees, but we still collect the default interest. So you can see overall still making a nice gain on the resolution of these loans. Next slide, our CECL Reserve. CECL Reserve stayed fairly constant to Q2, right around the $4 million mark. It's just under $4 million for Q2. And we're right around 18, 19 basis points. We're still very comfortable with that level. At its height, it was like 29 or 30 basis points, and that was due to the macroeconomic forecast. If you recall, we use a COVID stress scenario macroeconomic forecast in our CECL model, and during the height of the COVID pandemic, of course, all the economic factors that go into that macroeconomic forecast were stressed very heavily, and the reserve went up. Now those same economic factors have returned to much more of a normal type status, or at least close to normal, and that macroeconomic forecast comes back with less severe uh, reserve requirements. So now we're running right at around 18 or 19. We feel comfortable with that because as a comparison, pre COVID at the end of 2019, we're around 12 or 13 basis points. So even, even bringing it down, we're still one and a half times, you know, what our reserve was running pre COVID. So we feel very comfortable with that as our loan production continues to grow. And charge offs on that slide, you see charge offs very low for the quarter, about $162,000, you know, for the quarter. kind of coming back closer to our normal charge-off rate is right around the $350,000 per quarter, if you go back several years. So at $162,000, it's kind of starting to come back down to what we expect. I think you'll see those charge-offs coming down because, again, that non-performing loss rate is coming down as well. Chris, I'll turn it over to you for the outlook for go-forward business.
spk04: Great. Thanks, Mark. On 12 here, just kind of summing up in terms of the addressable market, seeing very good activity there and strength. Mentioned that we think rising mortgage rates actually help us as our clients tend to look for alternative ways to generate revenue and often end up originating the types of loans that we focus on. And so we think just there are a number of good factors out there that give us a lot of confidence in the forward outlook in terms of demand. On the financial performance, again, still think that building the portfolio and having that stable earning stream is going to continue to grow as we add more loans. And then obviously keep working on our delinquency strategy. That rate should slow down just because we came from such a high level, but we still expect improvement to get back down to normal levels sometime next year. And then lastly, from the liquidity and capital perspective, we mentioned the different steps we've taken, but we've got access to capital both in the short term from the warehouse side and then the longer term from the capital markets through securitization. So feeling good about capital or a capital position. The last slide I'll mention is 13. We introduced this last time with the economic value of equity. As you know, most of our competitors use a fair value accounting. We do not. We carry our loans at amortized costs, so we feel it's important to try to lay out it. If we were to do some type of fair value type presentation, we think that it would obviously impact our presentation of the balance sheet. So we've got a buildup here of not only the fully diluted value of equity, but the embedded gains in the portfolio as well as the platform value, the premium there. I've seen a couple more platforms trade in the last quarter or so, again, around that sort of 10% of annual production level. So we think $150 million plus is very fair for the platform value, and you can see there's a pretty significant pickup in book value of equity under this method. So that will wrap up our formal presentation, and we'll open it up for questions now.
spk05: We will now begin the question and answer session. To ask a question, you may press star then 1 on your touch-tone phone. If you're using a speakerphone, please pick up your handset before pressing the keys. To withdraw your question, please press star, then two. At this time, we will pause momentarily to assemble our roster. First question today comes from Steven Laws with Raymond James. Please go ahead.
spk06: Hi, good afternoon. You know, fantastic progress on the NPLs and also notice that there's continued decline in your 60-day delinquencies of performing loans. So it seems like, you know, making a lot of headway there. Is there any type of target you look at? It's kind of, you know, you guys came public right before COVID hit, you know, unfortunate timing. But how do we think about a normalized NPL level and kind of what's the glide path to that over the coming quarters?
spk04: Sure. Hi, Stephen. Yeah, so we guided folks on this roadshow to kind of a 7% to 9% range for delinquency. That's historically where it's been over the last 15 years. So that's where we expect to end up. We're making good progress there. We aren't having any delays or problems foreclosing or running through court systems. So Sometimes it's just a matter of the clock running out on people and forcing them to make a decision, but we think by the latter half of next year, we'll be back into that sort of normalized range. It's difficult to predict. I could be off by a quarter or two, but most importantly, as long as we continue to see that trend going that way, we'll be pleased.
spk06: Great. Thanks, Chris. Thinking about the NEM, continue to see that's widened again this quarter. I guess to start on the financing cost side, you've made a lot of progress there, especially as you've increased the mix of new securitizations. I saw in the release you've done another deal in Q4. Can you talk about the legacy deals that have some higher rates attached to them? how are those paying down and any opportunities to collapse those and re-securitize those loans that could further reduce that financing cost of the portfolio?
spk04: Sure. Yeah, we are constantly monitoring all of those deals. Each one has a different call level, and we're working on a couple of them right now that we think we can call now. in the fourth quarter. And then next year, we'll probably be able to call a few more. So we have to, you know, make sure we check all the boxes and line everything up, but we definitely intend to do that. I think, you know, there's some pretty significant savings there, even though some of these older deals are a smaller portion of the overall financing, it'll still be a meaningful pickup. So yeah, we expect that to help us over the next few quarters, definitely next year as well.
spk06: Great. And last question for this afternoon, you know, you've cited in your last page, some of the, uh, the transactions of other platforms being acquired in the space. Certainly a lot of, uh, people looking to get in the BPL, um, You know, how has competition changed as some of those platforms are now on bigger balance sheets or maybe have the ability to fund larger origination volumes? Have you seen material pricing pressure? Is it too soon to tell since many of those transactions just occurred? And has that changed the competitive landscape at all?
spk04: We haven't seen any pressure on our pricing. I'm sure the competitive landscape is constantly changing, but a lot of these platforms, it's amazing how we end up in different little niches. We don't really have anybody stepping on our toes right now. I know the fix and flip space, there's a lot of people going after that. We're doing a very small amount of that. So I think that's where I see the most amount of competition. But in terms of where we lend, you know, we always have competition, but we're not feeling any pricing pressure or anything that is forcing us to act irrational. Great.
spk06: Thanks for the comments this afternoon. Thank you.
spk05: Our next question comes from Don Fandetti with Wells Fargo. Please go ahead. I just had a question.
spk02: Obviously, your originations continue to ramp very nicely. What are you doing internally in terms of just trying to increase marketing and broaden the net for larger originations over the next year or so?
spk04: Yeah. Hi, Don. It's a good question. We've got a number of marketing initiatives that our team has undertaken and doing a great job of driving traffic to our website and driving leads. We're doing virtual presentations. We're doing trade shows. So we're doing a number of different things to continue to get our name out there and expand. We're also adding account executives and trying to expand and markets where we have less penetration. So all those things combined are obviously working and showing up in our results, and we think that will continue next year as well. Okay.
spk02: And then just kind of a follow-up to your last question. Typically in these types of markets, when they're hot and origination volumes are strong, you do see yield compression. Is that something that we should all just assume will happen? I know you're not seeing it currently, but, you know, Is that something that we should prepare for as we go into next year?
spk04: Yeah. We're not forecasting it for our model. I don't know how to predict the broader market, whether or not that'll happen. We price our rate sheet based on where we can execute in the securitization and capital markets, and that really drives our pricing. So Um, I don't know if we'll see a bunch of crazy competition come in and start driving yields lower. I kind of don't think so because what I tend to see mostly out there is a lot of our competitors offer any products as opposed to just what we focus on. And so I don't see, you know, two big gorillas that are just trying to buy up the market or, or use pricing to, to gain share. So, um, You know, we think we can maintain our spreads going forward. We've done it over the last 15 years and think it will continue.
spk05: Thank you.
spk02: Sure.
spk05: Our next question comes from Steve Delaney with JMP Securities. Please go ahead.
spk01: Hi, everyone. Of course, the highlight that really jumps off the page, Chris, is the 33% increase sequential growth in volume, and also the commentary just about how vibrant, strong your target markets are. On page six, you do mention, and I think you're probably being modest about, you almost may sound like, hey, this is just good is happening to us, but I'm sure you talked about adding, I'm sure there's a hell of a lot of effort from you and the team and everybody that resulted in that 33. It's more than just a strong market. So But you did mention introduction of lending products. Could you highlight or comment on what did you bring out new to the market that you think might have contributed to the growth and will help going forward? Thanks.
spk04: Sure. Absolutely. Hi, Steve. Yeah, so I guess there are two things I would say on that. Number one, you're absolutely right that this is a tremendous amount of hard work, and to to Don's earlier question about competition, a lot of people say they're going to go after this space and don't do it successfully. It's very difficult and it's a tricky niche to get into. So you're absolutely right. Number one is just heavy lifting and hard work from our people. That's really the main driver. In terms of products, we did introduce some of these short-term products. That helps the more you can kind of open up opportunities for a salesperson to speak to a client and give them options, the better chance you have of landing some business with them. But we haven't really materially tweaked our programs to a level that I could point to and say this is what drove 20% of that increase or whatever. I think it's just more of a combined effort and all of our hard work paying off.
spk01: Yeah, and it's clearly in the investor one to four. Just looking at the bar chart there is really driving it. So if you've got that work and you don't want to spend too much energy and create distractions with little kind of marginal things that are cute but maybe not really moving the needle. That's right. You made a comment about your customers and just taking the time to do more of this business. If I think about a loan broker – who for the last two years was just crushing refis for, you know, near prime borrowers, you know, no-brainer borrowers and just pumping out the agency refis. You know, even with marginally higher rates, you know, that game has slowed and talk about competition, right, in terms of that space. Is it just this matter of the loan brokers basically having the capacity and the time to look for something else to do? and say, hey, you know, I'm going to go to my phone directory, and I'm going to get these one-to-four rental guys that I used to work with before I got busy with refis. You know, I'm just going to call these guys, take them to lunch, and try to build that network back up.
spk04: Yeah, no, your premise is spot on. I guess I would just add, You're right. If their phone starts to slow down, they can go back to all those previous customers. And when you look on those loan applications, it's amazing how many times they own another piece of property and they can create an opportunity there. And other situations, quite frankly, they literally need to generate some revenue and just turn on the marketing and start marketing our product. We have a number of good clients that exclusively market our product and they're highly successful and they generate a lot of business. So, um, we, we provide marketing materials to, to our brokers and show them how they can direct their dollars effectively and grow this in this space. So, um, that, that's another way to, to continue to grow our pipe.
spk01: And do you think your product, um, you know, obviously there's an agency investor product, um, You know, like everything with the GSEs, it's a tight box, and the documentation is just insane. But do you think there's plenty of business for you? You know, I guess the FHFA reversed the caps, right? There was going to be a cap, and they took that off when Sheila Thompson got in. But do you think your product is differentiated enough, easier – Maybe the agency has the lowest possible coupon, but are there other things that make your product and your process easier on the borrower than an agency execution?
spk04: Yeah, absolutely. You nailed it spot on. We never really thought the cap was going to do much for our business and really never paid much attention to it. To your point, if they want to go through the brain damage and they have the all of the qualifications, they're not going to come to us anyway. So we've always served a different slice of the market. And I can tell from talking to our account executives that cold calling a broker now, they're more open to hearing about what we have to offer. So I see minds opening because I think, as you mentioned, things are changing on that side a bit.
spk01: Great. Well, good caller. I appreciate it. Enjoyed the conversation and stay well.
spk04: Thanks, you too, Steve.
spk05: Again, if you'd like to ask a question, it is star then one. Our next question will come from Aaron Saiganovich with Citi.
spk03: Please go ahead. Thanks. The rising home price depreciation, I would imagine, is kind of helping you in twofold by increasing the size of loans needed for your single-family rental and also helping on the resolutions of any of your past due loans. At what point does the rising HPA become an issue or a little bit of a net negative?
spk04: Yeah. Hi, Aaron. Good question. Personally, for me, I kind of hope for just a very soft, flat market, kind of up 1% type market. I think those are the best, healthiest markets for everybody because it doesn't get too hot or too cold. If it continues to go at this clip, I think that could create a problem just from an affordability perspective and I will say, though, we see a number of pockets across the U.S. where that rate of acceleration is definitely slowing. So I think that's actually a healthy sign for everybody. We'll have to watch and see where that goes next year. But if it continues in double digits for a couple more years, I think that would definitely be a problem.
spk03: Okay. And then the... The lower cost of funds as you continue to issue new securizations at more attractive pricing, is the expectation that you'll pass on some of that to acquire, you know, to get some new or make your product more attractive to new borrowers, or is it just more of a function of, you know, the competitive environment that you see?
spk04: Yeah. We definitely pass that on and it shows up in our rate sheet depending on how we execute. So absolutely, we figure out where we need to be from a spread perspective and where our ROE targets are and that's where we set our rates and if our competitors are higher or lower, so be it. We just feel like we have to be disciplined and make sure that we are in the right returns, risk adjusted on our capital. So we definitely deliver those benefits to our customers.
spk03: Okay. And then lastly, maybe Mark can help me with this one. You're issuing a small amount of equity via your ATM. Is there a metric that we should be looking at in terms of leverage, equity, et cetera, that can kind of guide us to leverage? Think about how much equity you'll need and how much you'll be issuing.
spk02: Out of the ATM, we didn't issue much in September because when the ATM became functional, number one, we only had like four or five trading days left in our open trading period. We have blackout periods, of course, so I think we had like four or five trading days. That's why we only issued like 10,000 or 11,000 shares. It kind of goes along with the average trading volume. We watch the average trading volume. We obviously don't want to issue a super large percentage of the average trading volume. So depending on how the liquidity of the stock moves and the average trading volume, we watch that very closely. And then we kind of set our ATM issuances based off of maybe a certain percent of the average trading volume. So again, it depends on how the trading volume goes. Remember, we've just added a lot more shares with the conversion of the preferred to the common as well. So we've got more common shares out there now. So we need to kind of see how that plays out and what it does to the average trading volume.
spk03: And is there kind of a guiding leverage factor that you are trying to stay within or any kind of metric that can help us from a modeling perspective?
spk04: Yeah, I'll take that one. I think, you know, we've been talking to bankers in – we think we need to be somewhere close to where we are today. We'd like to stay in the kind of five and a half to six and a half range, just depending on how we grow. We'll add a little bit of equity, a little bit of debt, you know, depending on where we are and how the balance sheet looks. But I think that type of leverage level is where we want to sit. I agree.
spk02: I was going to say right around 6%. So I agree, five and a half to six and a half is perfect, yep. Perfect. All right. Thanks so much. Okay.
spk05: Ladies and gentlemen, this will conclude our question and answer session. I would like to turn the conference back over to Chris Farrar, CEO, for any closing remarks.
spk04: Great. Thank you all for taking the time to listen to our story. We appreciate it and look forward to talking to everybody after the end of the year. Thanks, everyone.
spk05: The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.
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