The J.G. Wentworth Company (OTCQX:JGWE) Q2 2016 Earnings Conference Call August 9, 2016 10:00 AM ET
Erik Hartwell - IR
Stewart Stockdale - CEO
Roger Gasper - CFO
Mike Del Grosso - Jefferies
Ladies and gentlemen, thank you for standing by. Welcome to The J.G. Wentworth Company's Second Quarter 2016 Earnings Call. During the call, all participants will be in a listen-only mode. After the presentation, we will conduct a question-and-answer session. [Operator Instructions] Please note that this call is being recorded today, August 9, at 10:00 AM Eastern Time.
I would now like to turn the meeting over to your host for today's call, Erik Hartwell. Please go ahead.
Thank you, Operator. Good morning everyone and thank you for joining The J.G. Wentworth Company's second quarter 2016 earnings conference call. This morning you will be hearing from Stewart Stockdale, our Chief Executive Officer; and Roger Gasper, our Chief Financial Officer. After their prepared remarks we will open the call for questions.
We have included a brief presentation to accompany our remarks and you will find a link to this webcast included in the earnings press release. The slides for today's presentations have been posted on the Investor Section of jgw.com along with our earnings press release.
Statements in this conference call and in our earnings press release other than historical facts are forward-looking statements. Actual results may differ materially from those projected in the forward-looking statements. Factors that might cause the actual results to differ materially are discussed in our earnings press release. The company disclaims any intent or obligation to publicly update or revise any forward-looking statements regardless of whether new information becomes available, future developments occur or otherwise.
A few items we will speak about today are: Adjusted Earnings before Interest Expense, Taxes, Depreciation, and Amortization, or adjusted EBITDA, adjusted revenue, and adjusted expenses. Adjusted EBITDA is a non-GAAP financial measure which we define as our net income under U.S. GAAP before non-cash compensation expenses, provision for, or benefit from income taxes, amounts related to the consolidation of the structured settlements, securitization and permanent financing trust we use to finance our business, our senior secured credit facility, interest expense, debt issuance cost, depreciation and amortization, and certain other expenses.
We use adjusted EBITDA as we believe it represents a better measure than GAAP as a indication of our operating performance since it is the metric by which we assess our financial performance, and it is the operating measure specifically used in the calculation of certain covenants within the company's senior secured credit facility, and is reported to holders of the company's related term loan debts. Adjusted revenue is also a non-GAAP measure, which we define as revenue under U.S. GAAP before the amounts related to the consolidation of the securitization and permanent financing trust we use to finance our structured settlement business and adjusted for the impact of pre-funding on un-securitized finance receivables as applicable.
Additionally, we define adjusted expense as expense under U.S. GAAP before non-cash compensation expenses, provision for or benefit from income taxes, certain other items in accordance with our senior secured credit facility agreement, and for our structured settlement segment. Certain amounts related to the consolidation of our securitization and permanent financing trust we use to finance our business. Please refer to our earnings release for the reconciliation of our GAAP net income to adjusted EBITDA, including line items for adjusted revenue and adjusted expenses.
And now, I will turn the call over to our Chief Executive Officer, Stewart A. Stockdale.
Thank you, Erik. Good morning everyone, and thank you for joining our call today. I am pleased to welcome our new Chief Financial Officer, Roger Gasper, to the call today. Roger has been with Roger has been with J.G. Wentworth for over three years as our Controller, and then our Chief Accounting Officer. Some of you have already had the pleasure of working with Roger, and we are certainly glad that he has stepped into his new role. I also want to thank Scott Stevens for his contributions, and wish him well in his future endeavors.
Turning now to the results for the second quarter, we maintain our momentum as we continue to execute against our priorities to, one, improve the profitability and remain the leader in structured settlements payments purchasing. Two, grow Home Lending and gain share in the mortgage category. And three, launch our prepaid initiatives while maintaining adequate liquidity, tight cash management, and rigorous expense controls. We delivered another quarter of sequential improvement in our adjusted operating results. On a consolidated basis, we generated adjusted revenues of $62.1 million, up $5 million and 9% from the prior quarter, and adjusted EBITDA of $11 million, up $3 million and 38% sequentially from the first quarter of 2016.
Home Lending continues to perform above expectations, with new record levels of operational achievements. And structured settlements benefited from our efficiency initiatives with expenses lower by $1.2 million compared to the first quarter, and on a year-over-year basis lower by approximately $8 million in the quarter. Together, with the $9 million of savings achieved in the first quarter, we have now reduced expenses by nearly $17 million over the first six months of this year compared to the first six months of last year.
We are on pace to exceed the $25 million to $30 million in savings we previously committed. In addition, in June, as part of our ongoing initiative to improve the profitability of the structured settlements business, we identified an additional $15 million in cost savings. We now have a path to achieve a total of $40 million to $45 million in annualized cost savings run rate compared to 2015.
The incremental $15 breakdown as follows, $4 million from salary and benefits from recent headcount reductions, $5 million in reduced marketing, a sizable portion of which is non-working marketing dollars, $2 million from professional consulting in general and administrative, and $4 million from other operational expense reductions. At the same time, we are also capturing certain cost synergies related to the Home Lending acquisition, but are focused on investing for long-term profitable growth in the Home Lending division.
Let me now update you on the highlights for each of the businesses in the quarter. July 31, marked the one-year anniversary of J.G. Wentworth Home Lending, a division we created through acquisition. In the second quarter, Home Lending delivered record levels of operational performance, and achieved revenues of $26.8 million, and adjusted EBITDA of $8 million.
For the first six months of 2016, Home Lending has nearly created more earnings than it achieved for all of 2015. The acquisition has proven to be a great strategic component of our diversification strategy, and we are demonstrating that we can acquire a company, integrate it, and grow it in the first year. We believe we are on pace to far exceed the initial return on investment assumed in the business case.
Second quarter lock loan volume was $1.4 billion, up 33% sequentially from the first quarter, and closed loan volume was $846 million, up 49% from the first quarter. In addition, we were able to deliver to grow our servicing portfolio by more than $142 million -- excuse me, to $3.3 billion. We continue to see great momentum within our direct-to-consumer channels with our affiliate partnerships providing the bulk of the production. We added several new channels to the marketing mix, including national search engine marketing, direct mail, and email. Additionally, we are testing TV in the Richmond Virginia market. Through June, these new efforts generated double-digit lead growth in these channels month-over-month in each of the first six months of this year.
In the quarter, we also expanded our loan fulfillment operations to support the growth in origination volume, including the transfer of a number of qualified structured settlements employees to Home Lending. Home Lending was able to rapidly expand capacity while protecting margin. From every perspective, FICO scores, average loan size, and loan purchase type, purchase or refinance the quality of our second question originations was consistent with previous quarters, and we feel very good about the quality of our portfolio.
The Mortgage Bankers Association, MBA, issues quarterly performance reports comparing participating firms against each other. When we compare Q1, which is the latest available data, we are seeing balanced and robust results across several key performance indicators, that include 10% higher origination volumes versus our peers, 15% higher revenues per loan, 9% lower per-loan production expenses, and considerably higher profitability per loan compared to the MBA average. We are very pleased with the direction of Home Lending, and are continuing to fuel growth through improved processes and technology, with a focus on customer experience and operational efficiencies. We believe these improvements will keep us on a positive trajectory to continue to gain share in this vast category.
The structured settlements industry remains challenging, and transaction volumes were once again down this quarter. Despite the volume decrease, we managed to improve adjusted EBITDA sequentially by $1.3 million. The improvement came from our expense management initiatives that I previously mentioned. Compared to the first quarter, our cost of funds were lower based on the successful execution of our second fixed rate asset sale.
Fixed rate asset sales have proven to be a very effective compliment to our traditional securitization platform, and we are pleased with the favorable economics we are realizing from these transactions, as well as the continued strong demand for our paper from the investment community. These transactions are an important component of our funding diversification.
On the marketing front, we have made great strides in our overall optimization efforts. The marketing team is executing on multiple fronts, and is bringing innovation and insight to our overall marketing tactics, which we expect will improve conversion rates at all stages of the funnel. We continue to optimize our media mix, and constantly test various marketing executions targeting both new and existing customers. Our 30-second television spots are outperforming expectations, and we are seeing improvement in our digital marketing with YouTube, Google sponsored promotions, and Facebook.
Additionally, we have implemented a powerful automated email solution to drive stronger engagement with prospectus and customers. Marketing innovations have enabled us to realize savings from our marketing operations leaving more working media dollars available for elite generation.
We continue to operate in a highly competitive market place and have a daily focus on the turnaround of this business. We believe that to our family of brands we will continue to be the leader in Structured Settlement Payment purchasing. We are committed to adapting our organization to current market conditions and we plan to maintain strong levels of marketing, taking into consideration current market dynamics to fill customer engagement in anticipation a future market growth.
On the prepaid front after a long sale cycle we are making real progress. We believe this category will further diversify the company. As some of you know I have spend many year in the payment space and with that the forefront of prepaid innovation, creating and building the world's largest Visa gift card program at the time. I strongly believe that over the last few years there has been a general lack of innovation in the prepaid category. I'm pleased to announce that we'll be complimenting the lottery and gaming categories by connecting these industries to the payments ecosystem.
We will do this by leveraging our innovative products and our strong relationships with leading providers in the payments arena along with our own experienced management team. We have signed an agreement to bring our combination virtual open-loop gift card and state lottery scratch off tickets to market.
Additionally, we have received the approval from a second state on the product and are working on plans to launch. Also related to our prepaid initiatives we are working with various third parties and aim to connect the millions of consumers who participate in the physical and virtual casino, iGaming and fantasy sports wagering with an innovate payment solution.
We are excited about the prospectus and scale that our product will bring to these industries and the possible earnings potential for the company. It is still too early to forecast any material financial impact, but we expect to invest modestly over the next year to continue the project and we will update you periodically.
In closing, I want to thank our hundreds of employees who believe in our mission as we continue to navigate through our evolution. We have staid focused on stabilizing our Structured Settlements business, integrating and growing home lending and innovating in the prepaid category. Many committed employees deserve a ton of credit and I feel we have made great progress against our key initiatives.
Now I'd like to turn the call over to Roger to walk through the financial results. Roger?
Thanks, Stewart, and good morning. I also wish to thank everyone on the call for participating in this morning's presentation. I've had the pleasure of previously speaking with many of you as our Controller and Chief Accounting Officer and I'm now please to continue that dialogue in my new role. I'm also excited by the opportunity to serve on an executive team that has a well defined plan to transform J.G. Wentworth into a strong, diversified consumer financial services company.
And I believe that the important in our second quarter results that Steward just outlined is reason for confidence in the organization and in our employees as we strive to capitalize on our strength while simultaneously navigating through the current challenges and opportunities ahead for our enterprise.
Now looking at the results for this past quarter; we reported consolidated adjusted revenues of $62.1 million, a $5 million increase of the $57.1 million we reported in the first quarter of the year. Consolidated adjusted EBITDA on Q2 was $11 million and increase of $3 million over this $8 million reported in Q1 and represents a second consecutive quarter of sequential improvement in our consolidated adjusted results.
I'd like to point out that this quarter's adjusted EBITDA excludes a $5.5 million non-cash impairment charge to reduce certain intangible assets acquired during the 2011 Peachtree acquisition to their respective fair values. Specific to Structured Settlements we made progress in improving this segment's profitability despite a very competitive environment.
Total receivable balances purchases or TRB purchases felled $31 million from Q1 to $173 million in the second quarter, offsetting the decline in TRB purchases and despite strong competition we were able to slightly improve our per unit revenue from the prior quarter. Thanks in part to an improved cost of funds resulting from the direct asset sale we completed in mid June, which I will discuss shortly.
As a result, structured settlements second quarter adjusted revenue of 35.4 million was relatively flat with our first quarter adjustment revenue of 35.2 million. However, structured settlements adjusted EBITDA in the second quarter increased 1.3 million over Q1 to 3.1 million due primarily due to the cost reduction activities we previously announced that resulted in a net $1.2 million reduction in adjusted expense.
In addition to the cost saving initiatives already undertaken, we implemented further cost reduction actions in the second quarter and consequently reported $1.5 million severance charge during Q2. As a result of these additional actions, we now have a pact to achieving a $40 million to $45 million reduction in total annualized cost. A majority of which will come in structured settlements.
Home Lending delivered another strong quarter. After loan lock volume increased 53% in Q1 from the fourth quarter of 2015, Home Lending's locked loan volume increased another 33% sequentially in the second quarter to 1.4 billion. Additionally, closed loan volume in Q2 increased 49% sequentially from the first quarter to 846 million. As a result of this increased volume, Home Lending's revenue increased 4.9 million over the previous quarter to 26.8 million in Q2.
In addition to the significant growth in locked loan and closed loan volumes and revenue, we were also able to effectively manage Home Lending's adjusted expenses. Increases in Home Lending's adjusted expenses were once again concentrated primarily in volume sensitive categories such as marketing and compensation although we did beef up our infrastructure including the transfer of approximately 30 employees from structured settlements. As a result of the combination of revenue growth and expense management, Home Lending's adjusted EBITDA grew from 6.3 million in the first quarter to 8 million in Q2; a 27% increase.
Included in Home Lending's second quarter results was a $400,000 decline in the fair value of our MSR portfolio asset as a result of a decrease in market interest rates. At the end of the quarter, our MSR portfolio consisted of approximately 13,800 loans with an unpaid principal balance of 3.3 billion compared to an unpaid principal balance of 3.2 billion and 13,200 loans at the end of the preceding quarter.
From a liquidity and cash management standpoint, at the end of the second quarter, we had cash and cash equivalents of 37.6 million. Approximately, 11 million than the 26.5 million we had at the beginning of the quarter. Although the increase in cash is partially attributable to the timing of certain transactions, it does reflect the results of our cost reduction and cash management activities.
Also on June 17, we successfully executed 110.8 million fixed rate asset sales, which reduced our second quarter's cost of funds compared to first quarter. We are pleased with our most recent private placement asset sale. The second already this year as the economics were favorable compared to our last transaction and illustrates progress on building a set of diverse channels through which to access the capital markets.
We have also taken steps in the second quarter to adjust the capacity of our structured settlement and home lending short term revolving credit facilities to better reflect our current and projected liquidities. These and other details of our second quarter are detailed in our Form 10-Q to filed with the SEC later today.
We believe we have adequate liquidity and access to the capital markets to both fund our business as well as meet our term loans to cash interest obligations. Stewart outlined in his opening remarks certain of our key strategic priorities including cash management, expense controls, maintaining adequate liquidity, and diversifying and optimizing our funding sources. I am pleased to report that we made progress in all of these key areas in the second quarter.
Thank you. And operator at this time, we are now ready to open the call to questions.
[Operator Instructions] And your first question comes from Mike Del Grosso with Jefferies. Your line is now open.
Mike Del Grosso
Good morning, Mike.
Mike Del Grosso
Quick question on the cadence of the cost saves over the remainder of the year, what should we expect?
Overall, I think most of the savings are going to be coming from compensation and benefits, and our marketing categories.
Mike Del Grosso
And then the remainder would be in some of the other line items in our P&L, including G&A and professional and consulting.
Mike Del Grosso
And as for the timing over the course of the year, is that going to be mainly in the -- do you expect that to be pretty evenly distributed?
Yes, in overall through the next two quarters fairly evenly and consistently. So that by the end of the year we are most of the way there, if not all the way there to reach the 40-45, compared to 2015 levels. So we quoted the numbers that we have achieved for the first half of the year. So we are on pace or exceeding pace, and we just -- you know, we have gone and dug deep and really trying to make this business as profitable as possible, and we identified another $15 million that we already took action on it that related to the headcount. So that happened in June, and some of the other expenses will be flowing to the next couple of quarters.
Mike Del Grosso
Got it. And then on the TRB purchases, are there any liquidity constraints on new purchases or -- I know you are focusing on profitability, but if you could just kind of comment on the outlook there?
No, no liquidity whatsoever. As we have mentioned in the past, I mean it's very competitive marketplace. We are focused on profitability. So we are, but exited the wholesale business that we are really not participating in right now, because the rates are so low, that it doesn't make it very profitable for us. And we have decreased marketing expense. So, as we look to -- what do we call, right-size the operation, we anticipated lower levels, TRB. And we are seeing some signs of stabilization on the front-end metrics, you know, that include context, qualified leads and workable leads. So yes, we have seen a decline, I think our marketing team has done a really good job at really being more efficient and really quantifying not only leads, but quality of the leads, what we call leads, and then workable leads. So not all leads are created equal, but there is no liquidity issue as it relates to the TRB volumes.
Mike Del Grosso
Okay. So, most of the pull backs, and then competitive and focusing on being more efficient then, is that how we should read that?
Yes, competition, focus on profitability, and we are spending less on marketing, right? So, we try to get to that right next. It's going to be a smaller operation, more profitable operation. We are trying to get back to the profitability levels that we are inspiring to, and so, yes, those are the three components to the decrease in the TRB.
Mike Del Grosso
Got it, thank you, appreciate your time.
We anticipate them. The market seems to be down, I mean, all leading indications that we get from the marketplace is that the market is generally down. So, take those four things into the equation.
This concludes today's question-and-answer session. Stewart, I will turn the call back over to you.
I want to thank everybody for joining us, and more importantly, I want to thank all of our employees. They really have done a fantastic job over the course of the last three, six, nine months in delivering results on an ongoing basis. Thank you very much, and have a wonderful day.
And this concludes today's conference call. You may now disconnect.
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