This is a follow-up to my previous post. I suspect that the EPS decrease from Altisource shutting down its lender placed insurance brokerage business is largely not recurring and is more like a one-time charge. If the EPS hit is one-time, it would mean that Altisource’s franchise is largely unaffected.
Over 5 quarters, the EPS drop will be roughly $59-77M. This is a lot of money. In the last reported quarter (Q3 2014), Altisource reported:
- Net income of $42.3M
- Insurance services revenue of $53.587M.
- Related-party insurance services revenue of $14.801M.
A 50 to 65 cents EPS hit translates to roughly $11.82M to $15.266M per quarter.
Dividing $11.82M (50 cents/share) by insurance services revenue, the net income margin is 22%. This assumes that the brokerage business accounts for all of the segment’s revenue, which is not the case. If the brokerage business accounted for less than all of the segment’s revenue, then net income margin would be significantly higher. The >22% margin is well above Altisource’s overall margin of 14.7%. This leads me to believe that kickbacks on force-placed insurance are involved. I don’t see how else the margins can be so high.
Now, Altisource does not own any MSRs. It has no way of steering force-placed insurance business to any particular insurance company. How did kickbacks manage to find its way to Altisource?
Beltline Road Insurance Agency
An 8-K/A filing from Altisource provides some information on Beltline and what appears to be kickbacks on force-placed insurance:
Deferred Revenue — Deferred revenue relates to a marketing services agreement made with an insurance company and insurance commission income on lender placed hazard insurance policies. The revenue on the marketing services agreement is recognized on a straight-line basis over the life of the agreement, and the revenue on the lender placed policies is recognized on a straight-line basis over the life of the policy. As of September 30, 2012, deferred revenue of $8.5 million comprised $2.2 million related to the marketing services agreement and $6.3 million related to insurance commission income on lender placed policies. As of September 30, 2011, deferred revenue of $10.5 million comprised $3.4 million related to the marketing services agreement and $7.1 million related to insurance commission income on lender placed policies. Beltline recognized insurance commission income of approximately $19.3 million, $22.4 million and $25.9 million for the fiscal years ended September 30, 2012, 2011 and 2010, respectively, included in Revenues in the combined statements of income.
“lender placed hazard insurance policies” is the same as force-placed insurance.
“Marketing services” and “insurance commission” may (or may not) refer to kickback payments.
In the past, Beltline was part of Homeward. Later, Ocwen bought Homeward. Then Altisource bought Beltline and other sub-businesses from Ocwen. This could explain why Altisource is involved in kickbacks on force-placed insurance.
The structure may be setup this way because:
- Altisource can pursue some legitimate businesses relating to force-placed insurance as part of its marketplaces strategy. All mortgage servicers (including Ocwen) legitimately need to buy force-placed insurance on behalf of the mortgage investors. It’s the kickbacks on force-placed insurance that can be an issue.
- Ocwen wants to take kickbacks and wants to disguise these kickbacks. A potential mechanism for doing this is to take a lump-sum cash payment for the sale of Beltline to Altisource. Ocwen receives kickbacks upfront as a one-time cash payment (rather than getting the kickbacks as they come). Presumably the agreement runs until a certain termination date (Q4 2015). The Associated Press article linked to in my previous post essentially makes the argument that Ocwen is disguising its kickbacks.
Somehow, the contracts may have been structured in a way that Altisource is the bagholder. Instead of having Ocwen force place insurance at inflated prices, it will presumably force place insurance at cost. (Altisource could theoretically have similar deals with other mortgage servicers.) Altisource presumably has no way of getting back the lump sum payments it paid out.
If my theory is right, then Altisource’s balance sheet will either have intangible assets or deferred revenue that correspond to lump sum payments. Deferred revenues are inconsistent with my theory because they appear to be too low. There was $13.5M as of 3Q 2014. Altisource is saying that it will lose $59-77M after tax, which exceeds the amount of deferred revenue. There is $250M in intangible assets. If my theory is right, then we should see an impairment of intangible assets in the next quarter.
Of course, I may be completely wrong about all of this.
*Disclosure: Long ASPS and OCN.