I made a mistake. I did not figure out the game that Ocwen and Altisource are playing. Ocwen seems to receive fees from Altisource that could be (mis)construed as kickbacks under its “Data Access and Services Agreement”. These fees could be seen as a quid pro quo (“you scratch my back I’ll scratch yours”) for the big profits that Altisource formerly earned for lender placed insurance “brokerage”.
From Altisource’s latest 10-K page 61:
Additionally, we purchase certain data relating to Ocwen’s servicing portfolio in connection with a Data Access and Services Agreement. The Data Access and Services Agreement may be renegotiated and may be cancelled by either Altisource or Ocwen with 90 days prior written notice. Ocwen bills us a per asset fee for this data. For the years ended December 31, 2014, 2013 and 2012, Ocwen billed us $38.6 million, $20.0 million and $13.5 million, respectively. These amounts are reflected as a component of cost of revenue in the consolidated statements of operations. On December 31, 2014, we notified Ocwen that we are canceling the Data Access and Services Agreement, effective March 31, 2015.
Ocwen’s latest 10-Q contains the most information about the Data Access and Services Agreement (pages 44-45):
Our business is currently dependent on many of the services and products provided by Altisource under various long-term contracts, including the Services Agreements, Technology Products Services Agreements, Intellectual Property Agreements and the Data Center and Disaster Recovery Services Agreements. Under the Services Agreements, Altisource provides various business process outsourcing services. Under the Technology Products Services Agreements and the Data Center and Disaster Recovery Services Agreements, Altisource provides technology products and support services. In addition, we have entered into
(i) Support Services Agreements pursuant to which we and Altisource provide administrative and corporate services to each other and
(ii) a Data Access and Services Agreement pursuant to which we make available to Altisource certain data from our servicing portfolio in exchange for a per asset fee. The revenues and expenses related to our agreements with Altisource for the three and nine months ended September 30, 2014 and 2013 are set forth in the table below.
Services provided by Altisource under the Services Agreements with Ocwen are generally charged to the borrower and/or loan investor. Accordingly, such services, while derived from our loan servicing portfolio, are not reported as expenses by Ocwen. These services include residential property valuation, residential property preservation and inspection services, title services and real estate sales services. We believe the rates charged for these services are market rates as they are materially consistent with one or more of the following: the rates Ocwen pays to or observes from other service providers and the fees we believe Altisource charges to other customers for comparable services.
- Ocwen found an excuse to charge Altisource roughly $38.6M a year.
- Altisource has a lender placed insurance “brokerage” business that generates somewhere in the ballpark of $47M to $61M a year. Arguably, any kickbacks on lender placed insurance belong to Ocwen shareholders. By funneling the kickbacks into Altisource, Ocwen is essentially transferring money to Altisource.
The optics of this situation may not look good to regulators. Regulators may look at this situation and see the companies colluding to generate inflated fees and using these agreements to shuffle kickbacks around.
Going forward, it seems like Ocwen and Altisource are moving away from risky practices that could get them into trouble with regulators. (At least, I hope that this is what they’re doing.) This will hurt the profitability of both companies.
On December 31, 2014, Altisource notified Ocwen that it was cancelling the Data Access and Services Agreement. This seems like a material event with wide-ranging implications for both Ocwen and Altisource. It seems like the managements of both companies would like to have this fact buried in their 10-Qs and 10-Ks. Neither company addressed the Dec 31, 2014 cancellation of this agreement in their shareholder updates.
Culture of integrity
On the December 22, 2014 conference call Ocwen’s CEO Ronald Faris stated:
In summary, Ocwen is committed to a culture of integrity, transparency and accountability.
It seems that his actions do not match his words.
Things that seem off
Altisource’s January 16, 2015 presentation has some things that don’t seem right to me.
Projections given in the presentation slides assume a lower share count from share repurchases.EDIT (3/4/2015): The share count at the end of Q4 2014 is roughly 20.3M shares. The presentation slides show the weighted average over the entire year.
However, I’m not sure if management really wants to buy back shares. Altisource’s 10-K states:
During January 2015, we used $4.0 million to repurchase Altisource common stock.
This is a weak buyback given that the CEO stated that the stock was undervalued (“Now if you look at where the share price is trading today which is roughly 3 times the midpoint of our adjusted 2015 earnings per share scenario that we just gave you today, we believe the stock is trading at a very substantial discount to its value“). A few sentences later in the 10-K:
We intend to closely monitor the Ocwen related uncertainties and to modify our business plan as needed in response. As a result of these uncertainties, we intend to increase our cash and cash equivalents position throughout 2015. However, we will continue to monitor market conditions, and may, at some point in the future, consider repurchasing our common stock and/or our debt if conditions are favorable.
The projections strike me as deceptive given that management is not 100% sure it will repurchase shares.
In the Q&A, Henry Coffee asked the CEO if he was aware of any controversial product offerings that might see a sudden cancellation like the lender placed insurance business. Bill Sherpro’s response was: “Yes, Henry, we feel very good about the products and services that we’re in today. And the answer is no, we’re not aware of anything.” Sherpro’s overall tone on the conference call seem to contradict a sentence on page 81 of the 10-K: [There is a risk if] “The contractual relationship between Ocwen and Altisource changes significantly or there are significant changes to our pricing to Ocwen for services from which we generate material revenue.”
Turning to Altisource’s pricing to Ocwen, a recent analyst report has generated a lot of confusion on this topic and whether Altisource will need to reduce its pricing to Ocwen. Let me start by saying that we strive to provide services to Ocwen at rates comparable to the market and we firmly believe we charge Ocwen market rates for those services.
Again, this does not entirely agree with the sentence on page 81 of the 10-K.
Nationstar does not need to enter into convoluted contracts because it owns its default-related services businesses (or adjacent businesses). Because the servicing and default-related services businesses are under common ownership, the conflicts of interest are stronger. What Nationstar does with HomeSearch.com is a slightly more ruthless version of what Ocwen/Altisource does with Hubzu.com. See my post on the mortgage servicing game. I believe that Nationstar has very high regulatory risk because its fees are more inflated, it allows shill bidding, and it still seems to take insurance commissions on lender placed insurance.
Nationstar is in a tough spot. If Nationstar attracts the scrutiny of regulators like the NY DFS or the California DBO, it could end up paying a high price like Ocwen:
- A big fine.
- (A second big fine if regulators are unhappy. There is a precedent for this with the NY DFS.)
- The cost of a monitor.
- An injunction against buying more MSRs.
- Ongoing costs from complying with regulations that other servicers do not have to comply with.
I believe that Nationstar is avoiding purchases of high-delinquency MSRs because it does not want to attract regulatory scrutiny. I do not know why it purchased agency MSRs (presumably with very low delinquencies) from Ocwen. Maybe it is trying to keep its servicing capacity filled and/or is trying to juice its earnings by taking prepayment risk; Nationstar’s private equity owners likely want to continue to sell down their stake. In any case, I do not see growth ahead for Nationstar.
Thoughts on the mortgage servicing industry
I made a mistake. So far, mortgage servicing has turned out to be an ugly industry. Servicers have no idea what their future costs will be. The rules are arbitrary and constantly changing. Any number of regulators can cause serious harm to any given servicer or the industry (NY DFS, California DBO, CFPB, FTC, FHFA, other state regulators, state attorney generals, etc.). This is an industry where a very large number of regulators (arguably over 30) have the power to cause major harm to the industry or individual companies.
*Disclosure: Long OCN and ASPS. If these stocks rally strongly there is a good chance I may sell.