This article is not a discussion of Altisource’s (ASPS) business. The 10-K or other articles may provide a better underlying description of that background. However, I would like to focus on three points.
First, despite Alitsource’s insistence that it is moving away from its reliance on Ocwen (OCN) (and its other sibling, namely RESI), 75% of ASPS revenue is still derived directly from Ocwen or loans serviced by Ocwen.
|1H 2016||1H 2015||1H 2014|
|Ocwen Related Revenue||$378m||$409m||$452m|
|Percentage Ocwen Related Revenue||75%||80.5%||84.5%|
Another way to look at these numbers is that non-Ocwen related revenue increased from $83m in 1H 2014 to $127m in 2016 ($44m increase). Although the percentage increase of over 50% in two years looks good in the headlines, this increase is neither meaningful nor helpful “enough” for ASPS shareholders.
Over these past two years, ASPS has acquired four companies, Golden Gator (Rent Range and Investability), Castline, Mortgage Builder, and Owners.com. ASPS spent approximately $93.7m in cash and stock on these four companies. In other words, ASPS has spent $93.7m to acquire the $44m in additional non-Ocwen related revenue.
To take one example, ASPS acquired Owners.com in 2014 for $19.8m. In the most recent conference call, ASPS had this to say about Owners.com:
Our third initiative is growing our consumer real estate business leveraging Owners.com. Owners.com is a real estate brokerage and an online marketplace that connects home buyers and home sellers, and offers innovative and efficient realty services to both buyers and sellers. We believe that Owners.com is uniquely positioned to redefine the role of the real estate brokerage in the era of on-demand, web and mobile enabled transaction services such as Uber and Airbnb and marketplace services such as TripAdvisor and Expedia.
However, from the conference call slide deck we see that Owners.com did $2m in revenue in the past year and $1m in revenue in the first half of 2016.
This reminds me of the famous quip from Lloyd Benson to Dan Quayle: “I knew Jack Kennedy….Senator, you are no Jack Kennedy.” We all know Uber, Airbnb, Expedia and TripAdvisor….Owners.com is not one of these.
New Initiatives Lagging in Meaningful Growth And Profitability.
Second, ASPS asserts that they are moving aggressively away from Ocwen, which they are trying to do, however, this move is both too slow and too unprofitable. After having spent $93m in the past two years to acquire four businesses that have only increased ASPS’s non-Ocwen revenue by $44m, let’s look at what the profitability has done.
|1H 2016||1H 2015||1H 2014|
|Operating Margin %||8%||11%||18.8%|
New revenue from non-Ocwen related sources is slow to materialize, but more importantly, significantly less profitable than ASPS’s dying stream of income from Ocwen.
It is important to note how quickly the Ocwen revenue is dying. There are two important metrics with Ocwen. Average number of loans serviced by Ocwen and number of delinquencies (both figures in thousands).
|End of Period||Q2 2016||Q2 2015||Q2 2014|
|Ocwen Loans Serviced By Altisource||1501||2020||2267|
|Average Number of Delinquencies||242||389||404|
|Decline in Delinquencies since 2014||(40%)||(3%)|
Needless to say, the number of delinquencies being serviced by Altisource has declined over 40% in the past two years. As Ocwen slims down its balance sheet through refinancings of mortgages, sales of MSRs (to raise cash) and roll-off of mortgages, Altisource’s main source of revenue and profit is shrinking.
The UPB (unpaid principal balance) at Ocwen is shrinking quickly as we can see from the following table (source: Ocwen 10-K).
|Q1 2016||YE 2015||YE 2014||YE 2013|
Part of the additional riskiness of this relationship is a deadline for Ocwen to raise its servicer rating before April 2017. If Ocwen does not raise its servicer rating before this date, Ocwen may lose to right to service approximately $137 billion in UPB to NRZ in a deal it struck through the purchase of HLSS by NRZ. NRZ has its own in-house servicer, so there is a strong possibility that NRZ would bring these mortgages in-house and take that business away from Ocwen and therefore Altisource (although the logistics of this transfer may favor keeping these mortgages with Ocwen). In other words, ASPS’s Ocwen-related revenue could be approximately cut in half next April if Ocwen does not raise its servicer rating.
The final point I want to make is a red flag. ASPS purchased $48m worth of RESI stock in the first half of 2016. Their reasoning for this purchase was that RESI is an important customer and wanted to support them. During this period, RESI was engaged with a dissident shareholder who was unhappy with the terms of a contract RESI had struck with its outside manager, AAMC. The dissident shareholder was able to get AAMC and RESI to re-work the contract on more favorable terms for RESI. However, I have never seen a company buy stock of one of its customers to “show support.” Although this is solely my opinion, I believe that RESI has agreed to an ASPS-friendly contract for the servicing of its loans and properties and therefore ASPS wants to “support” current management to continue to milk the proverbial “gravy-train.”
Related, but not primary to this point, was the fact that ASPS recorded $3.4m in expenses related to their $48m RESI stock acquisition. That’s approximately 7% in transaction fees. This level of transaction expenses highlights the red flag nature of this stock purchase.
At first glance, ASPS appears to be trading for approximately 4x EV/FCF (OCF+interest): approximately $240m in TTM OCF+interest compared to an enterprise value of approximately $970m (500m equity + 470m in debt). Although this number looks attractive, closer examination shows that a significant amount of ASPS’s profitable revenue is declining quickly and at significant risk, while the “new” revenue is neither growing quickly nor particularly profitable. Additionally, some of ASPS’s new revenue is coming from a sibling of Ocwen, RESI, and ASPS’s relationship with RESI is already showing signs of potential red flags, potentially putting that revenue at risk in the future.
Matt Brice is the portfolio manager of The Sova Group, LLC, an investment firm that manages separate accounts for clients.
I can be reached at firstname.lastname@example.org