(A copy of this letter was submitted to Ocwen's Board of Directors)
Ladies and Gentlemen of the Board:
This letter comes from a small group of concerned Ocwen (NYSE:OCN) shareholders. We are not a large hedge fund but rather a few individual investors. Small fish with big ideas. We don't think it's up for debate whether or not Ocwen Financial's Q4 2016 results and the ensuing conference call left investors with a bad taste in their mouth.
Many shareholders saw Q3 as a turning point and CEO Ron Faris seemed to echo that sentiment on the Q3 conference call. It seemed the table was set for a great quarter given the economic backdrop.
On the Q3 call, Mr Faris indicated that a rise in interest rates would be a help to Ocwen. In Q4, we saw one of the largest spikes in the 10 year treasury in the last decade. On the Q3 call, Mr. Faris seemed optimistic about settling with the California DBO in 2016 yet that did not happen until mid February 2017 and for the full $25 million. One is left to wonder if that $25 million was wisely spent given that the New York DFS monitor still hampers Ocwen's ability to grow. Perhaps it would have been best to let the CA monitorship die of old age if NY is not settled. Regardless, it was unwise to paint a rosy picture regarding the regulators on the Q3 conference call as it is something completely out of Ocwen's control.
So when Ocwen delivered frankly disappointing results in what should have been a good economic climate for a mortgage servicer, investors are left wondering if management has the right vision to lead Ocwen back from the brink. Does management even have a vision? We feel management has a grasp on the issues facing Ocwen, but not the "all hands on deck" attitude nor the "desperate times call for desperate measures" plan to successfully turn this company around. We believe there is a very limited window in which a turnaround plan can be executed and that window narrows every day that decisive action is not taken. Ocwen is currently treading water (barely) and that only does more damage as the portfolio slowly runs off and precious scale is lost.
We are not supportive of the status quo so we feel the board should consider one of the three following options:
Break up the company and sell the MSRs. This is something that was not an option a short while ago. When interest rates were falling and MSR valuations being severely impaired, we would not have supported selling at the bottom. Given the post-election spike in the 10 year treasury and the recent MSR sales by Citi and PHH, breaking up Ocwen and selling it for scrap is a now viable option. The sum of the parts could unlock value that is currently trapped by the shadow of Ocwen's legal woes, abysmal reputation with consumers and regulators, and an overall cloud of uncertainty regarding Ocwen's future. A break up and asset sale would also assign recognition to some of the off balance sheet assets such as call rights and agency MSRs. This may be seen as a "fire sale" and Ocwen would likely get a lot of "low ball" offers but that is still more appealing direction than the slow death by portfolio run off and monitor expenses the company currently faces.
Pursue a three way merger with PHH (NYSE:PHH) and Walter Investment Management (NYSEMKT:WAC). This would surely require some leg-work and heavy lifting but we do not believe it is totally out of the question given the fact that PHH and WAC face many of the same obstacles as Ocwen, perhaps with a slightly smaller dose of regulatory baggage. There are other possible merger targets as well but these two seem to be a natural fit given that they too are in crisis mode (or at least they should be). The servicing industry is all about scale and combining the operations of all three companies would make a world of difference for margins. The opportunity to take out costs via synergies would be immense. Capital would be freed up to invest in technology.
Remain an independent company but implement drastic changes.
We would only support this third option if a clear plan was in place to right the ship.
If Ocwen is to remain an independent company, a rebranding is a vital necessity. Besides being one of the most uninspiring and downright stupid monikers in corporate America, the name "Ocwen" is poison. A fresh start is needed and the Ocwen name-plate needs to go (this would also be true if the company was to merge with PHH or Walter/Ditech as they are equally challenged in the name department). Management has repeatedly stated they wish to grow origination. Origination growth outside of Ocwen's own portfolio will never happen when consumers can simply type Ocwen into Google and see a laundry list of lawsuits and putrid consumer reviews in the first few search pages. Another option to just a name-change would be to acquire one of the smaller Silicon Valley tech heavy lenders like Lenda. Let them remain autonomous but give them the ability and resources to scale their business quickly and expand. Leverage their tech expertise.
We also believe there is a significant opportunity to refinance the loans in Ocwen's portfolio yet believe there has been incredibly little done on this front. Many Ocwen customers would qualify for an FHA loan which would come with juicy margins compared to standard agency loans. The credit impaired nature of the typical Ocwen customer is very well-suited for FHA loans. We believe this opportunity is outside of Ocwen's current capabilities. We would like to see the company strike a deal with a larger player in the mortgage space to refinance as much of the portfolio into FHA and QM agency loans. We envision a deal where origination revenue would be split but Ocwen would retain all servicing rights. The timing is perfect for this sort of arrangement. The rise in interest rates has likely left some of the larger online lenders with excess capacity and an appetite for originations. This would give Ocwen the ability to take out significant costs in its own origination department which has been a drag on earnings quarter after quarter. We feel a deal that outsources origination and allows Ocwen to focus on servicing would be beneficial. An added benefit would be that newly refinanced loans would be more interest rate sensitive so the underlying MSRs of the newly minted loans would benefit more if rates continue to rise as many expect.
We would also like to see the Board be proactive and authorize a share buyback program. Ocwen's cash position is one of its greatest strengths and while the company is handcuffed from purchasing MSRs, we believe it makes sense to deploy the cash elsewhere. The company would also be able to take advantage of buying shares at depressed levels due to many of the self-inflicted overhangs mentioned previously.
Finally, we think that it would be wise to move the call center back to the United States from India. This would go a very long way in increasing customer satisfaction that is so desperately needed. Technology has improved so much that this is not the ridiculous proposal that it may have been a few years ago. It may also earn favor with President Trump or his Commerce Secretary Wilbur Ross (one of your former board members). Automation and technology improvements in the mortgage industry means it is no longer a necessity to have the company's call center overseas. Many other players in the space have their call centers in the US which we feel gives them an advantage.
We do believe there is significant value trapped in Ocwen's shares so we would prefer to see the company pursue option #2 or #3 (or a combination of the two) as opposed to option #1.
The mortgage industry is incredibly fragmented and therefore is ripe for consolidation. Yes, we know Ocwen can not currently acquire MSRs due to regulatory issues. Yes, we know one of your big revenue generators, the Home Affordable Modification Program, has ended as of 12/31/16. But what is Ocwen going to do about it? There are other ways to increase value besides buying MSRs from other lenders.
We hope you will take these suggestions under consideration.
Orange Wisdom Research & friends.
Disclosure: I am/we are long OCN.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.