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EX-32.2 - EXHIBIT 32.2 - PHH CORPphhex32220180630.htm
EX-32.1 - EXHIBIT 32.1 - PHH CORPphhex32120180630.htm
EX-31.2 - EXHIBIT 31.2 - PHH CORPphhex31220180630.htm
EX-31.1 - EXHIBIT 31.1 - PHH CORPphhex31120180630.htm

 
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

 FORM 10-Q
 
þ
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
For the quarterly period ended June 30, 2018
 
OR
 
o
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
For the transition period from                              to                              
 
Commission File Number: 1-7797
 
PHH CORPORATION
(Exact name of registrant as specified in its charter)
MARYLAND
 
52-0551284
(State or other jurisdiction of
 
(I.R.S. Employer
incorporation or organization)
 
Identification Number)
 
 
 
3000 LEADENHALL ROAD
 
08054
MT. LAUREL, NEW JERSEY
 
(Zip Code)
(Address of principal executive offices)
 
 
 
856-917-1744
(Registrant’s telephone number, including area code)
 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes þ No o
 
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes þ No o
 
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company” and "emerging growth company" in Rule 12b-2 of the Exchange Act. Large accelerated filer þ Accelerated filer o Non-accelerated filer o (Do not check if a smaller reporting company) Smaller reporting company o Emerging growth company o

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. o
 
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  Yes o No þ
 
As of August 1, 2018, 32,581,228 shares of PHH Common stock were outstanding.
 







Except as expressly indicated or unless the context otherwise requires, the “Company,” “PHH,” “we,” “our” or “us” means PHH Corporation, a Maryland corporation, and its subsidiaries.
 
CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS
 
Certain statements in this Quarterly Report on Form 10-Q are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Forward-looking statements may also be made in other documents filed or furnished with the SEC or may be made orally to analysts, investors, representatives of the media and others.
 
Generally, forward-looking statements are not based on historical facts but instead represent only our current beliefs regarding future events. All forward-looking statements are, by their nature, subject to risks, uncertainties and other factors. Investors are cautioned not to place undue reliance on these forward-looking statements.  Such statements may be identified by words such as “expects,” “anticipates,” “intends,” “projects,” “estimates,” “plans,” “may increase,” “may fluctuate” and similar expressions or future or conditional verbs such as “will,” “should,” “would,” “may” and “could.” Forward-looking statements contained in this Form 10-Q include, but are not limited to, statements concerning the following:
 
our expectations related to our strategic actions, their outcomes or the timing of any such actions, including our proposed Merger with Ocwen Financial Corporation ("Ocwen"), our estimates of transaction proceeds, operating losses and exit costs, the amount, timing and our expected use of any proceeds, and any other anticipated impacts on our results, client and counterparty relationships, debt arrangements, employee relations or expected value to shareholders;
our projected financial results and expected capital structure for the remaining business after executing our strategic actions based on our assessment of the market for subservicing and portfolio retention services, our business strategy, our competitive position and our ability to execute;
the method, amounts and timing of any capital returns to shareholders;
the potential results of our subservicing business development efforts and actions to improve portfolio retention results;
anticipated future origination volumes and loan margins in the mortgage industry;
our expectations of the impacts of regulatory changes on our business;
our assessment of legal and regulatory proceedings, other contingencies and reserves, and the associated impact on our financial statements and liquidity position; and
the impact of the adoption of recently issued accounting pronouncements on our financial statements. 
Actual results, performance or achievements may differ materially from those expressed or implied in forward-looking statements due to a variety of factors, including but not limited to the factors listed and discussed in “Part I—Item 1A. Risk Factors” in our 2017 Form 10-K and those factors described below: 
the effects of our strategic actions, and any associated transactions, on our business, management resources, customer, counterparty and employee relationships, capital structure and financial position;
our ability to execute and complete our remaining strategic actions and implement changes to meet our operational and financial objectives, including (i) restructuring our shared services platform; (ii) achieving our growth objectives and assumptions and (iii) meeting all of the closing conditions and completing our proposed Merger with Ocwen;
any failure to execute any portion of the sales of private MSRs under our existing agreements, or realize estimated proceeds from the transactions, which may be driven by the following reasons, among other factors: (i) not receiving required private loan investor, trustees and/or client (originations source) approvals; (ii) changes in the composition of the portfolio and related servicing advances outstanding on each sale date; and (iii) not meeting any other conditions precedent to closing, as defined in the respective agreements;
available excess cash from our strategic actions is dependent upon a variety of factors, including the execution of the sale of our private MSRs, the resolution of our outstanding legal and regulatory matters and the successful completion of other restructuring and capital management activities, including any unsecured debt repayments, in accordance with our assumptions;
the effects of any significant reduction in subservicing units, whether by termination of our subservicing agreements or by transfers of units out of our portfolio, by any of our largest subservicing clients on a material portion of our subservicing portfolio;

1


the ability to maintain our relationships with our existing clients, including our ability to comply with the terms of our private label and subservicing client agreements and any related service level agreements; 
the inability or unwillingness of any of the counterparties to our significant customer contracts, hedging agreements, or financing arrangements to perform their respective obligations under such contracts, or to renew on terms favorable to us, if at all;  
the effects of market volatility or macroeconomic changes and financial market regulations on the availability and cost of our financing arrangements, the value of our assets and the housing market; 
the effects of changes in current interest rates on our business, the value of our mortgage servicing rights and our financing costs; 
the impact of changes in U.S. financial conditions and fiscal and monetary policies, or any actions taken or to be taken by the U.S. Department of the Treasury and the Board of Governors of the Federal Reserve System on the credit markets and the U.S. economy; 
the effects of any significant adverse changes in the underwriting criteria or the existence or programs of government-sponsored entities, such as Fannie Mae and Freddie Mac, including any changes caused by the Dodd-Frank Wall Street Reform and Consumer Protection Act or other actions of the federal government;
the ability to maintain our status as a government sponsored entity-approved seller and servicer, including the ability to continue to comply with the respective selling and servicing guides, our ability to operationalize changes necessary to comply with updates to such guides and programs and our ability to maintain the required minimum capital; 
the effects of changes in, or our failure to comply with, laws and regulations, including mortgage- and real estate-related laws and regulations and those that we are exposed to through our private label relationships until the complete exit from this business channel; 
the effects of the outcome or resolutions of any inquiries, investigations or appeals related to our mortgage origination or servicing activities, any litigation related to our mortgage origination or servicing activities, or any related fines, penalties and increased costs, and the associated impact on our liquidity; 
the ability to obtain or renew financing on acceptable terms, if at all, to finance our mortgage loans held for sale and servicing advances;
the ability to operate within the limitations imposed by our financing arrangements and to maintain or generate the amount of cash required to service our indebtedness and operate our business; 
any failure to comply with covenants or asset eligibility requirements under our financing arrangements; and 
the effects of any failure in or breach of our technology infrastructure, or those of our outsource providers, or any failure to implement changes to our information systems in a manner sufficient to comply with applicable laws, regulations and our contractual obligations.
Forward-looking statements speak only as of the date on which they are made.  Factors and assumptions discussed above, and other factors not identified above, may have an impact on the continued accuracy of any forward-looking statements that we make. Except for our ongoing obligations to disclose material information under the federal securities laws, we undertake no obligation to release publicly any revisions to any forward-looking statements. For any forward-looking statements contained in any document, we claim the protection of the safe harbor for forward-looking statements contained in the Private Securities Litigation Reform Act of 1995.


2


PART I — FINANCIAL INFORMATION
Item 1. Financial Statements

PHH CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(Unaudited)
(In millions, except share data)
 
 
June 30,
2018
 
December 31,
2017
ASSETS
 
 
 
Cash and cash equivalents
$
453

 
$
509

Restricted cash
41

 
33

Mortgage loans held for sale
55

 
103

Accounts receivable, net
58

 
73

Servicing advances, net
302

 
356

Mortgage servicing rights
483

 
476

Property and equipment, net
18

 
22

Other assets
28

 
25

Assets related to discontinued operations (Note 8)
4

 
214

Total assets (1)
$
1,442

 
$
1,811

 
 
 
 
LIABILITIES
 

 
 

Accounts payable and accrued expenses
$
67

 
$
98

Subservicing advance liabilities
194

 
232

Mortgage servicing rights secured liability
437

 
419

Mortgage warehouse and advance facilities
59

 
117

Unsecured debt, net
118

 
118

Loan repurchase and indemnification liability
27

 
29

Other liabilities
42

 
46

Liabilities related to discontinued operations (Note 8)
9

 
199

Total liabilities (1)
953

 
1,258

Commitments and contingencies (Note 11)


 


 
 
 
 
EQUITY
 

 
 

Preferred stock, $0.01 par value; 1,090,000 shares authorized;
      none issued or outstanding

 

Common stock, $0.01 par value; 273,910,000 shares authorized;
  32,577,256 shares issued and outstanding at June 30, 2018;
  32,547,258 shares issued and outstanding at December 31, 2017

 

Additional paid-in capital
566

 
565

Retained deficit
(68
)
 
(3
)
Accumulated other comprehensive loss (2)
(9
)
 
(9
)
Total PHH Corporation stockholders’ equity
489

 
553

Total liabilities and equity
$
1,442

 
$
1,811

 







See accompanying Notes to Condensed Consolidated Financial Statements.

3


CONDENSED CONSOLIDATED BALANCE SHEETS-(Continued)
(Unaudited)
(In millions)

 
(1)
The Condensed Consolidated Balance Sheets include assets and liabilities of variable interest entities which can be used only to settle the obligations and liabilities of the variable interest entities which creditors or beneficial interest holders do not have recourse to PHH Corporation and subsidiaries. Refer to Note 12, 'Variable Interest Entities' for information about PHH Home Loans, LLC, whose assets and liabilities are part of the Company's discontinued operations, and as of June 30, 2018 is no longer a variable interest entity. The following assets and liabilities relate solely to risks associated with the Company's ongoing involvement in Servicing Advance Receivables Trust:
 
June 30,
2018
 
December 31,
2017
ASSETS
 
 
 
Restricted cash
$
10

 
$
10

Servicing advances, net
46

 
56

Total assets
$
56

 
$
66

Assets held as collateral
$
56

 
$
66

 
 
 
 
LIABILITIES
 

 
 

Mortgage warehouse and advance facilities
$
20

 
$
32

Total liabilities
$
20

 
$
32

 
(2)
Includes amounts recorded related to the Company’s defined benefit pension plan, net of income tax benefits of $6 million as of both June 30, 2018 and December 31, 2017.  During both the three and six months ended June 30, 2018 and June 30, 2017, there were no amounts reclassified out of Accumulated other comprehensive loss.































See accompanying Notes to Condensed Consolidated Financial Statements.

4


CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME (LOSS)
(Unaudited)
(In millions, except share and per share data)
 
Three Months Ended
June 30,
 
Six Months Ended
June 30,
 
2018
 
2017
 
2018
 
2017
REVENUES
 

 
 

 
 
 
 
Loan servicing income, net
$
40

 
$
28

 
$
83

 
$
61

Gain on loans held for sale, net
5

 
9

 
10

 
21

Origination and other loan fees
1

 

 
2

 
1

Net interest expense
(11
)
 
(6
)
 
(25
)
 
(14
)
Other income

 

 
15

 
2

Total net revenues
35

 
31

 
85

 
71

 
 
 
 
 
 
 
 
EXPENSES
 

 
 
 
 
 
 
Salaries and related expenses
28

 
36

 
60

 
72

Foreclosure and repossession expenses
3

 
5

 
6

 
12

Professional and third-party service fees
16

 
22

 
34

 
53

Technology equipment and software expenses
7

 
7

 
14

 
14

Occupancy and other office expenses
6

 
6

 
12

 
11

Depreciation and amortization
2

 
3

 
5

 
7

Exit and disposal costs

 
4

 

 
13

Other operating expenses
9

 
23

 
16

 
41

Total expenses
71

 
106

 
147

 
223

Loss from continuing operations before income taxes
(36
)
 
(75
)
 
(62
)
 
(152
)
Income tax expense (benefit)
1

 
(33
)
 
1

 
(57
)
Loss from continuing operations, net of tax
(37
)
 
(42
)
 
(63
)
 
(95
)
Income (loss) from discontinued operations, net of tax
2

 
(8
)
 
(2
)
 
(26
)
Net loss
(35
)
 
(50
)
 
(65
)
 
(121
)
Less: net loss attributable to noncontrolling interest from discontinued operations

 
(4
)
 

 
(8
)
Net loss attributable to PHH Corporation
$
(35
)
 
$
(46
)
 
$
(65
)
 
$
(113
)
Comprehensive loss attributable to PHH Corporation
$
(35
)
 
$
(46
)
 
$
(65
)
 
$
(113
)
 
 
 
 
 
 
 
 
Basic and Diluted earnings (loss) per share:
 
 
 
 
 
 
 
From continuing operations
$
(1.11
)
 
$
(0.78
)
 
$
(1.92
)
 
$
(1.77
)
From discontinued operations
0.04

 
(0.08
)
 
(0.08
)
 
(0.34
)
Total attributable to PHH Corporation
$
(1.07
)
 
$
(0.86
)
 
$
(2.00
)
 
$
(2.11
)
 
 
 
 
 
 
 
 
Weighted-average common shares outstanding:
 
 
 
 
 
 
 
Basic and Diluted
32,668,668

 
53,342,256

 
32,657,107

 
53,511,445


 










See accompanying Notes to Condensed Consolidated Financial Statements.

5


CONDENSED CONSOLIDATED STATEMENTS OF CHANGES IN EQUITY
(Unaudited)
(In millions, except share data)

 
PHH Corporation Stockholders’ Equity
 
 
 
Total
Equity
 
Common Stock
 
Additional
Paid-In
Capital
 
Retained (Deficit) Earnings
 
 
Accumulated
Other
Comprehensive
Loss
 
 
Redeemable Noncontrolling Interest
 
 
Shares
 
Amount
 
 
 
 
 
Six Months Ended June 30, 2018
 

 
 

 
 

 
 

 
 

 
 

 
 
 
Balance at December 31, 2017
$
553

 
32,547,258

 
$

 
$
565

 
$
(3
)
 
$
(9
)
 
 
$

Total comprehensive loss
(65
)
 

 

 

 
(65
)
 

 
 

Stock compensation expense
1

 
— 

 
— 

 
1

 

 
— 

 
 

Stock issued under share-based payment plans

 
29,998

 
— 

 

 

 
— 

 
 

Balance at June 30, 2018
$
489

 
32,577,256

 
$

 
$
566

 
$
(68
)
 
$
(9
)
 
 
$

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Six Months Ended June 30, 2017
 

 
 

 
 

 
 

 
 

 
 

 
 
 
Balance at December 31, 2016
$
1,090

 
53,599,433

 
$
1

 
$
885

 
$
214

 
$
(10
)
 
 
$
33

Total comprehensive loss
(113
)
 

 
— 

 
— 

 
(113
)
 

 
 
(8
)
Adjustment to redemption value of noncontrolling interest
(7
)
 

 

 
(7
)
 

 

 
 
7

Stock compensation expense
5

 

 
— 

 
5

 
— 

 
— 

 
 

Reclassification of stock awards
(4
)
 

 

 
(4
)
 

 

 
 

Stock issued under share-based payment plans
(1
)
 
110,550

 
— 

 
(1
)
 
— 

 
— 

 
 

Repurchase of Common stock
(24
)
 
(1,760,964
)
 

 
(24
)
 

 

 
 

Balance at June 30, 2017
$
946

 
51,949,019

 
$
1

 
$
854

 
$
101

 
$
(10
)
 
 
$
32




























 
See accompanying Notes to Condensed Consolidated Financial Statements.

6


CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
(In millions)
 
 
Six Months Ended
June 30,
 
2018
 
2017
Cash flows from operating activities:
 

 
 

Net loss
$
(65
)
 
$
(121
)
Adjustments to reconcile Net loss to net cash provided by operating activities:
 

 
 

Capitalization of originated mortgage servicing rights
(3
)
 
(18
)
Change in fair value of mortgage servicing rights and related derivatives
(13
)
 
58

Change in fair value of mortgage servicing rights secured liability
18

 
1

Origination of mortgage loans held for sale
(417
)
 
(3,791
)
Proceeds on sale of and payments from mortgage loans held for sale
646

 
3,977

Net gain on interest rate lock commitments, mortgage loans held for sale and related derivatives
(13
)
 
(121
)
Depreciation and amortization
5

 
7

Deferred income tax benefit

 
(90
)
Other adjustments and changes in other assets and liabilities, net
(50
)
 
148

Net cash provided by operating activities
108

 
50

 
 
 
 
Cash flows from investing activities:
 

 
 

Net cash paid on derivatives related to mortgage servicing rights

 
(45
)
Proceeds on sale of mortgage servicing rights
9

 
91

Proceeds on sale of servicing advances

 
11

Purchases of property and equipment
(2
)
 

Net cash provided by investing activities
7

 
57

 
 
 
 
Cash flows from financing activities:
 

 
 

Proceeds from secured borrowings
722

 
4,463

Principal payments on secured borrowings
(914
)
 
(4,533
)
Proceeds from mortgage servicing rights secured liability
8

 
102

Repurchase of common stock

 
(24
)
Cash used to acquire mandatorily redeemable noncontrolling interest
(19
)
 

Other, net

 
(2
)
Net cash (used in) provided by financing activities
(203
)
 
6

 
 
 
 
Net (decrease) increase in Cash, cash equivalents and restricted cash
(88
)
 
113

Cash, cash equivalents and restricted cash at beginning of period
583

 
963

Cash, cash equivalents and restricted cash at end of period
$
495

 
$
1,076

Cash, cash equivalents and restricted cash at end of period - continuing operations
$
494

 
$
1,000

Cash, cash equivalents and restricted cash at end of period - discontinued operations
$
1

 
$
76

 









See accompanying Notes to Condensed Consolidated Financial Statements.

7


NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

1. Summary of Significant Accounting Policies

Nature of Operations
PHH Corporation and subsidiaries (collectively, “PHH” or the “Company”) operates in two business segments:  Mortgage Servicing, which acts as a subservicer for clients that own the underlying mortgage servicing rights and performs servicing activities for owned mortgage servicing rights, and Mortgage Production, which provides portfolio origination retention services to subservicing clients and sells the related mortgage loans in the secondary market.

During the three months ended March 31, 2018, the Company completed substantially all of the run-off activities of the Private Label Services ("PLS") business and Real Estate channel, and the Company determined the disposal of these operations by other than sale met the criteria for presentation and disclosure as discontinued operations. Accordingly, the results of the PLS business and Real Estate channel have been presented as discontinued operations in the Condensed Consolidated Statements of Operations and Comprehensive Income (Loss), and are excluded from continuing operations and segment results for all periods presented. The assets and liabilities related to discontinued operations have been segregated in the Condensed Consolidated Balance Sheets. The cash flows related to these operations have not been segregated and are included in the Condensed Consolidated Statements of Cash Flows for all periods presented. Amounts related to discontinued operations are excluded from the Notes to Condensed Consolidated Financial Statements unless otherwise noted. Refer to Note 8, 'Discontinued Operations' for additional information.

The Mortgage Servicing segment has exposure to concentration risk and client retention risk with respect to its subservicing agreements. As of June 30, 2018, 62% and 12% of the subservicing portfolio (by units) related to significant client relationships with New Residential Mortgage, LLC ("New Residential") and Pingora Loan Servicing, LLC, respectively. A substantial portion of the Company's subservicing agreements allow the owners of the servicing to terminate the subservicing agreement without cause with respect to some or all of the subserviced loans and, in some cases, without payment of any termination fee.  Specifically, New Residential has the right to transfer, without cause but upon payment of the applicable deboarding fee, 25% of their subserviced units between June 2018 and June 2019 and an additional 25% of the subserviced units beginning in June 2019.

During the first half of 2018, the Company was notified by certain subservicing clients that they expect to transfer approximately 140,000 subservicing units, or 22% of our unit count at December 31, 2017, off of our platform in multiple transfers beginning in May 2018. Approximately 65,000 of these units are subject to a portfolio defense agreement and will no longer be solicitable units upon transfer to a new servicer. During the three months ended June 30, 2018, the Company completed the transfer of approximately 45,000 of these units, substantially all of which were subject to a portfolio defense agreement, and the remaining units are expected to be transferred off of our platform during the second half of 2018.

The originations of the Mortgage Production segment are sourced solely through portfolio retention services, which is limited to a small group of key clients primarily associated with the significant subservicing client relationships described above. The portfolio defense agreements cease upon the termination of the related client subservicing relationship, or as units transfer out of our subservicing portfolio to a new servicer.

Proposed Merger with Ocwen Financial Corporation
On February 27, 2018, the Company entered into a definitive Agreement and Plan of Merger with Ocwen Financial Corporation (“Ocwen”), and POMS Corp (“MergerSub”) pursuant to which all of PHH’s outstanding common stock will be acquired by Ocwen in a merger of MergerSub with and into PHH with PHH surviving (the “Merger”) in an all cash transaction valued at approximately $360 million. On June 11, 2018, the Company's stockholders approved the Merger. The Merger remains subject to, in addition to various other customary closing conditions, state licensing, and other governmental and regulatory approvals and PHH maintaining cash and adjusted net worth above certain thresholds.
Basis of Consolidation
The Condensed Consolidated Financial Statements include the accounts and transactions of PHH and its subsidiaries, as well as entities in which the Company directly or indirectly has a controlling interest and variable interest entities of which the Company is the primary beneficiary. PHH Home Loans, LLC (“PHH Home Loans”) and its subsidiaries are consolidated within the Condensed Consolidated Financial Statements for all periods presented. During the year ended December 31, 2017, Realogy Services Venture Partner LLC's, a subsidiary of Realogy Holdings Corp. ("Realogy"), ownership interest was presented as a noncontrolling interest. On March 19, 2018, the Company acquired Realogy’s 49.9% ownership interests, and PHH Home Loans became a wholly-owned subsidiary of PHH. As of June 30, 2018, the Company's only variable interest entity relates to the Servicing Advance Receivables Trust. Refer to Note 12, 'Variable Interest Entities' for additional information.

8


NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

Intercompany balances and transactions have been eliminated from the Condensed Consolidated Financial Statements.

During the third quarter of 2017, the Company identified an error in the balance sheet presentation and measurement of Redeemable noncontrolling interests. Realogy’s ownership interests in PHH Home Loans have previously been reported as a Noncontrolling interest and presented as a component of Total equity; however, the Company has determined the balance should have been presented as a Redeemable noncontrolling interest within Mezzanine equity for periods between February 1, 2015 and September 30, 2017. This presentation reflects Realogy’s right, beginning on February 1, 2015, to require that the Company purchase all of Realogy’s interest in PHH Home Loans upon two years notice at fair value, as outlined in the PHH Home Loans Operating Agreement. In addition, since the redemption value of the Redeemable noncontrolling interest exceeded the historical carrying amount, the correction also includes an adjustment to Additional paid-in capital to re-measure the Redeemable noncontrolling interest at its redemption value.

The Company has evaluated the materiality of this error on its prior period financial statements from a quantitative and qualitative perspective. Management has concluded that the error was not material to any prior annual or interim period or the trend of financial results; therefore, amendments to previously filed reports are not required. The Company has corrected the error for certain prior periods presented by revising the Condensed Consolidated Financial Statements appearing herein. The impact of this revision to the Condensed Consolidated Statements of Changes in Equity was a reduction to Total equity of $32 million as of June 30, 2017, with an offsetting increase to amounts presented as a Redeemable noncontrolling interest within Mezzanine equity. The reduction to Total equity included a decrease to amounts previously reported as Additional paid-in capital of $9 million as of June 30, 2017. There was no effect to reported totals for assets, liabilities, cash flows or net loss.

Unaudited Interim Financial Information
 
The Condensed Consolidated Financial Statements have been prepared in conformity with accounting principles generally accepted in the United States (“GAAP”) for interim financial information and pursuant to the rules and regulations of the Securities and Exchange Commission. Accordingly, they do not include all of the information and disclosures required by GAAP for complete financial statements. In management’s opinion, the unaudited Condensed Consolidated Financial Statements contain all adjustments, which include normal and recurring adjustments, necessary for a fair presentation of the financial position and results of operations for the interim periods presented. The results of operations reported for interim periods are not necessarily indicative of the results of operations for the entire year or any subsequent interim period. These unaudited Condensed Consolidated Financial Statements should be read in conjunction with the Consolidated Financial Statements included in the Company’s 2017 Form 10-K.
 
Unless otherwise noted and except for share and per share data, dollar amounts presented within these Notes to Condensed Consolidated Financial Statements are in millions.

Use of Estimates

The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. These estimates and assumptions include, but are not limited to, those related to the valuation of mortgage servicing rights and the related secured liability, mortgage loans held for sale and other financial instruments, the estimation of liabilities for commitments and contingencies, mortgage loan repurchases and indemnifications and the determination of certain income tax assets and liabilities and associated valuation allowances. Actual results could differ from those estimates.

Accounting Pronouncements Adopted During the Period

ASU 2014-09, "Revenue from Contracts with Customers." On January 1, 2018, the Company adopted ASC 606, Revenue from Contracts with Customers and all of the related amendments (the “new revenue standard”) using a modified retrospective approach applied to contracts which were not completed as of the adoption date. The core principle of the new revenue standard requires a Company to recognize revenue when control of the promised goods or services are transferred to the customer, in an amount that reflects the consideration the Company expects to be entitled to in exchange for those goods or services.

A majority of the Company's revenues are not subject to the new revenue standard. The Company recognized the cumulative effect of initially applying the new revenue standard as an adjustment to the opening balance of retained earnings, and the transition adjustment was not significant. Beginning on January 1, 2018, the results for reporting periods are presented under ASC 606 for

9


NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

contracts subject to the new revenue standard, while prior period amounts have not been adjusted and continue to be reported in accordance with accounting standards in effect during those periods. Refer to Note 3, 'Revenues' for additional information.

ASU 2016-18, "Restricted Cash." On January 1, 2018, the Company adopted ASU 2016-18 which requires amounts generally described as restricted cash to be included in the beginning and end-of-period total amounts shown in the Company’s Condensed Consolidated Statement of Cash Flows. The Company adopted ASU 2016-18 on a retrospective basis. As a result, the change in restricted cash is no longer presented as a separate line item within cash flows from investing activities since such balances have been included with total cash and cash equivalents when reconciling the beginning and end-of-period amounts in the Company’s Condensed Consolidated Statements of Cash Flows.

The following table provides a reconciliation of the Company's cash, cash equivalents, and restricted cash as presented in the Condensed Consolidated Statements of Cash Flows:
 
June 30,
 
2018
 
2017
 
(In millions)
Cash and cash equivalents
$
453

 
$
940

Restricted cash (1)
41

 
60

Assets related to discontinued operations
1

 
76

Total Cash, cash equivalents and restricted cash
$
495

 
$
1,076

———————
(1) 
Represents amounts specifically designated to repay debt, provide additional collateral to support certain obligations with Fannie Mae, to provide over-collateralization within warehouse facilities and the servicing advance facility and to support letters of credit.

Other Adoptions. The Company also adopted the following accounting standards during 2018 with an effective date of January 1, 2018, none of which had a significant impact to the Company's financial statements or disclosures:
Accounting Standard Update
ASU 2017-09
Stock Compensation: Scope of Modification Accounting
ASU 2017-07
Retirement Benefits: Improving the Presentation of Net Periodic Pension Cost and Net Periodic Postretirement Benefit Cost
ASU 2017-05
Clarifying the Scope of Asset Derecognition Guidance and Accounting for Partial Sales of Nonfinancial Assets
ASU 2017-01
Business Combinations: Clarifying the Definition of a Business
ASU 2016-15
Statement of Cash Flows: Classification of Certain Cash Receipts and Cash Payments
ASU 2016-01
Financial Instruments—Overall: Recognition and Measurement of Financial Assets and Financial Liabilities

Recently Issued Accounting Pronouncements Not Yet Adopted

There have been no significant developments to recently issued accounting standards, including the expected dates of adoption and estimated effects on the Company’s consolidated financial statements and disclosures, from those included in the Company’s 2017 Form 10-K except for the following:

Leases.  In February 2016, the FASB issued ASU 2016-02, “Leases (Topic 842).” This update revises an entity’s accounting for operating leases by a lessee, among other changes, and requires a lessee to recognize a liability to make lease payments and an asset representing its right to use the underlying asset for the lease term in the statement of financial position. Additionally, this update requires both qualitative and specific quantitative disclosures. In July 2018, the FASB subsequently amended this guidance by issuing ASU 2018-10, "Codification Improvements to Topic 842, Leases" and ASU 2018-11, "Leases (Topic 842): Targeted Improvements" which provides clarification and further guidance on areas identified as potential implementation issues, as well as provides an additional transition method to allow entities to initially apply the new leasing guidance at the adoption date and recognize a cumulative-effect adjustment to the opening balance of retained earnings in the period of adoption.

These updates are effective for the first interim and annual periods beginning after December 15, 2018, with early adoption permitted. At adoption, the Company expects to apply the new transition method provided in ASU 2018-11. While the Company is continuing to evaluate the effects that this guidance will have on its financial statements, it will result in the recognition of certain operating leases as right-of-use assets and lease liabilities in the Condensed Consolidated Balance Sheets.



10


NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

2. Earnings Per Share

Basic earnings or loss per share attributable to PHH Corporation was computed by dividing Net income or loss attributable to PHH Corporation by the weighted-average number of shares outstanding during the period. Diluted earnings or loss per share attributable to PHH Corporation was computed by dividing Net income or loss attributable to PHH Corporation by the weighted-average number of shares outstanding during the period, assuming all potentially dilutive common shares were issued.

The weighted-average computation of the dilutive effect of potentially issuable shares of Common stock under the treasury stock method excludes the effect of any contingently issuable securities where the contingency has not been met and excludes the effect of securities that would be anti-dilutive.  Anti-dilutive securities includes outstanding stock-based compensation awards representing shares from restricted stock units and stock options.
The following table summarizes the calculations of basic and diluted earnings or loss per share attributable to PHH Corporation and anti-dilutive securities excluded from the computation of diluted shares for the periods indicated:
 
Three Months Ended
June 30,
 
Six Months Ended
June 30,
 
2018
 
2017
 
2018
 
2017
 
(In millions, except share and per share data)
Loss from continuing operations, net of tax
$
(37
)
 
$
(42
)
 
$
(63
)
 
$
(95
)
Income (loss) from discontinued operations attributable to PHH Corporation, net of tax
2

 
(4
)
 
(2
)
 
(18
)
Net loss attributable to PHH Corporation
$
(35
)
 
$
(46
)
 
$
(65
)
 
$
(113
)
 
 
 
 
 
 
 
 
Weighted-average common shares outstanding—basic & diluted (1) (2)
32,668,668

 
53,342,256

 
32,657,107

 
53,511,445

 
 
 
 
 
 
 
 
Basic and Diluted earnings (loss) per share:
 
 
 
 
 
 
 
From continuing operations
$
(1.11
)
 
$
(0.78
)
 
$
(1.92
)
 
$
(1.77
)
From discontinued operations
0.04

 
(0.08
)
 
(0.08
)
 
(0.34
)
Total attributable to PHH Corporation
$
(1.07
)
 
$
(0.86
)
 
$
(2.00
)
 
$
(2.11
)
 
 
 
 
 
 
 
 
Anti-dilutive securities excluded from the computation of diluted shares:
 
 
 
 
 
 
 
Outstanding stock-based compensation awards (3) 
224,448

 
1,098,464

 
224,448

 
1,098,464

 
 ———————
(1) 
For the three and six months ended June 30, 2017, includes the reduction of 1,760,964 shares repurchased pursuant to an open market repurchase program during May 2017 and June 2017.
(2) 
For the three months ended June 30, 2018, the Company had a net loss from continuing operations and, as a result, there were no potentially dilutive securities included in the denominator for computing dilutive earnings per share.
(3) 
For the three and six months ended June 30, 2018, excludes 62,201 shares that are contingently issuable for which the contingency has not been met.



11


NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

3. Revenues

The following tables summarizes total net revenues disaggregated by source:
 
Three Months Ended June 30, 2018
 
Mortgage Servicing Segment
 
Mortgage Production Segment
 
 
 
 
 
Subservicing
 
Owned Servicing
 
Portfolio Retention
 
Total Continuing Operations
 
Discontinued Operations
 
(In millions)
Loan servicing income
$
26

 
$
18

 
$

 
$
44

 
$

Changes in fair value of MSRs and secured liability

 
(4
)
 

 
(4
)
 

Origination and other loan fees

 

 
1

 
1

 

Gain on loans held for sale, net

 

 
5

 
5

 
1

Net interest expense

 
(11
)
 

 
(11
)
 

Other income

 

 

 

 
1

Total net revenues (1)
$
26

 
$
3

 
$
6

 
$
35

 
$
2

 
Six Months Ended June 30, 2018
 
Mortgage Servicing Segment
 
Mortgage Production Segment
 
 
 
 
 
Subservicing
 
Owned Servicing
 
Portfolio Retention
 
Total Continuing Operations
 
Discontinued Operations
 
(In millions)
Loan servicing income
$
50

 
$
38

 
$

 
$
88

 
$

Changes in fair value of MSRs and secured liability

 
(5
)
 

 
(5
)
 

Origination and other loan fees

 

 
2

 
2

 
3

Gain on loans held for sale, net

 

 
10

 
10

 
2

Net interest expense

 
(25
)
 

 
(25
)
 

Other income (2)

 
15

 

 
15

 
4

Total net revenues (1)
$
50

 
$
23

 
$
12

 
$
85

 
$
9

———————
(1) 
During the three and six months ended June 30, 2018 discontinued operations includes $1 million and $5 million, respectively, of revenue that was accounted for under ASC 606 as discussed below. During both the three and six months ended June 30, 2018, Subservicing includes $2 million of revenue that was accounted for under ASC 606, which primarily related to certain ancillary fees associated with subservicing contracts that are recognized over the term of the contract.
(2) 
During the six months ended June 30, 2018, Other income within the Mortgage Servicing segment includes a $15 million gain related to a settlement with an insurance carrier for certain claims related to the Company's previously disclosed legal and regulatory settlements. Refer to Note 11, 'Commitments and Contingencies' for additional information.

Refer to the Company’s 2017 Form 10-K for a description of the accounting policies for significant revenue streams that are not subject to the new revenue standard, including those associated with origination and servicing activities that have been accounted for under ASC 860, "Transfers and Servicing of Financial Assets" and ASC 825, "Financial Instruments."
 
Revenue from Contracts with Customers Subject to ASC 606

Revenues are recognized when control of the promised goods or services are transferred to the customer, in an amount that reflects the consideration the Company expects to be entitled to in exchange for those goods or services. The Company does not disclose the value of unsatisfied performance obligations for contracts with an original expected length of one year or less and contracts for which it recognizes revenue at the amount to which it has the right to invoice for services performed. There were no significant differences between the amounts of revenue recognized under ASC 606 compared to the amount that would have resulted from the application of previous standards.


12


NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

The following descriptions represent the Company's accounting policies for significant revenue streams subject to the new revenue standard, all of which relate to discontinued operations:

Origination and other loan fees. The Company provided origination and fulfillment services to PLS clients under Origination Assistance Agreements ("OAA") through March 31, 2018, and the origination assistance fees associated with fee-based closings under these agreements are subject to the new revenue standard. The services performed under the OAA represent a stand-ready obligation, and the Company has applied the practical expedient to recognize revenue in the amount it has the right to invoice, which occurs at the time the loan is originated and funded. The right to invoice practical expedient is consistent with the historical accounting treatment of origination assistance fees in prior periods. During the six months ended June 30, 2018, within revenues from discontinued operations, Origination and other loans fees includes $2 million of origination assistance fees that were accounted for under ASC 606.
Other income. In connection with the exit of the PLS business, the Company is contractually required to provide certain transition support services to its clients, which includes the return of records and loan document images. The Company is entitled to certain transition support fees associated with these services, and the fees are recognized upon the transfer of control of the records and loan document images to the customer. During the three and six months ended June 30, 2018, within revenues from discontinued operations, Other income includes $1 million and $3 million, respectively, of transition support fees that were accounted for under ASC 606.



13


NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

4. Servicing Activities

Total Servicing Portfolio
The following table summarizes the total servicing portfolio, which consists of loans associated with capitalized MSRs owned and secured, loans held for sale, and the portfolio associated with loans subserviced for others: 
 
June 30,
2018
 
December 31,
2017
 
Fair Value
 
UPB
 
Fair Value
 
UPB
 
(In millions)
Capitalized MSRs owned
$
46

 
$
7,121

 
$
57

 
$
8,592

Capitalized MSRs under secured borrowing arrangements and subserviced
437

 
45,770

 
419

 
49,193

Total capitalized MSRs
$
483

 
$
52,891

 
$
476

 
$
57,785

Subserviced
 
 
75,810

 
 
 
89,844

Other servicing
 
 
323

 
 
 
526

Total
 
 
$
129,024

 
 
 
$
148,155


Loan Servicing Income, Net
The following table summarizes the components of Loan servicing income, net:
 
Three Months Ended
June 30,
 
Six Months Ended
June 30,
 
2018
 
2017
 
2018
 
2017
 
(In millions)
Servicing fees from capitalized portfolio
$
6

 
$
48

 
$
12

 
$
102

Subservicing fees
16

 
10

 
33

 
21

MSR yield on secured asset (1)
13

 
1

 
27

 
1

Late fees and other ancillary revenue
10

 
6

 
18

 
15

Loss on sale of MSRs and related costs
(1
)
 
(4
)
 
(1
)
 
(13
)
Curtailment interest paid to investors

 
(3
)
 
(1
)
 
(6
)
Loan servicing income
44

 
58

 
88

 
120

Change in fair value of MSRs, net of related derivatives (2)
(10
)
 
(29
)
 
13

 
(58
)
Change in fair value of MSRs secured liability
6

 
(1
)
 
(18
)
 
(1
)
Loan servicing income, net
$
40

 
$
28

 
$
83

 
$
61

____________________
(1) 
Amounts are related to the secured borrowing treatment of the MSR sales to New Residential. The income from the MSR yield on secured asset is fully offset by the implied interest cost recognized on the MSRs secured liability within Net interest expense. Refer to Note 9, 'Debt and Borrowing Arrangements' for additional information on the components of Net interest expense.
(2) 
There was no MSR derivative activity during the three and six months ended June 30, 2018. MSR derivative gains during the three and six months ended June 30, 2017 were not significant.


14


NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

Mortgage Servicing Rights
The activity in the total loan servicing portfolio unpaid principal balance associated with capitalized mortgage servicing rights consisted of:
 
Six Months Ended
June 30,
 
Six Months Ended
June 30,
 
2018
 
2017
 
2018
 
2017
 
MSRs Owned
 
MSRs Secured Asset
 
(In millions)
Balance, beginning of period
$
8,592

 
$
84,657

 
$
49,193

 
$

Additions from loans sold with servicing retained
871

 
1,605

 

 

Payoffs and curtailments
(744
)
 
(6,649
)
 
(4,027
)
 
(80
)
Sales that have been derecognized
(994
)
 
(12,516
)
 

 

Sales accounted for as secured borrowing
(604
)
 
(13,164
)
 
604

 
13,164

Balance, end of period
$
7,121

 
$
53,933

 
$
45,770

 
$
13,084


The activity in total capitalized MSRs consisted of: 
 
Six Months Ended
June 30,
 
Six Months Ended
June 30,
 
2018
 
2017
 
2018
 
2017
 
MSRs Owned
 
MSRs Secured Asset
 
(In millions)
Balance, beginning of period
$
57

 
$
690

 
$
419

 
$

Additions from loans sold with servicing retained
3

 
18

 

 

Sales that have been derecognized
(9
)
 
(95
)
 

 

Sales accounted for as secured borrowing

 
(113
)
 

 
113

Changes in fair value due to:
 
 
 
 
 
 
 
Realization of expected cash flows
(4
)
 
(53
)
 
(37
)
 

Changes in market inputs or assumptions used in the valuation model
(1
)
 
(6
)
 
55

 
1

Balance, end of period
$
46

 
$
441

 
$
437

 
$
114

MSR Sales. During the three and six months ended June 30, 2018, the Company received $3 million and $9 million, respectively, and, during the three and six months ended June 30, 2017, the Company received $20 million and $91 million, respectively, in cash from sales of MSRs that have been derecognized and removed from the Condensed Consolidated Balance Sheets. During the three and six months ended June 30, 2018, the Company received an additional $1 million and $8 million, respectively, in cash related to document holdback from sales of MSRs that have been accounted for as a secured borrowing arrangement. As of June 30, 2018, the Company has a $34 million gross accounts receivable related to holdback from executed MSR sales and transfers to address indemnification claims and mortgage loan document deficiencies, which is included in Accounts receivable, net in the Condensed Consolidated Balance Sheets.
MSR Sale Commitments. The following table summarizes the Company's MSRs and its commitments under sale agreements, based on the portfolio as of June 30, 2018:
 
June 30, 2018
 
UPB
 
Fair Value
 
(In millions)
MSR commitments:
 
 
 
New Residential
$
5,257

 
$
30

Other counterparties
14

 

MSRs capitalized under secured borrowing arrangements and subserviced
45,770

 
437

Non-committed
1,850

 
16

Total MSRs
$
52,891

 
$
483



15


NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

Commitments to sell MSRs include: (i) private investor MSRs that are committed under a sale agreement with New Residential dated December 28, 2016; (ii) agreements to sell a portion of the Company's newly-created MSRs to third parties through flow-sale agreements, where the Company will have continuing involvement as a subservicer; or (iii) agreements for small portfolio sales of existing MSRs, consistent with its intention to not retain a significant amount of MSRs in the future.

If the remaining sales of private investor MSRs to New Residential are completed, the Company does not anticipate retaining a significant amount of capitalized MSRs in the future. The final proceeds the Company may receive from New Residential is dependent on the portfolio composition at each transfer date and are subject to the approvals of multiple counterparties, including origination sources, investors and trustees, as well as other customary closing requirements. In addition, the Company has commitments to transfer approximately $94 million of Servicing advances to New Residential (based on the June 30, 2018 portfolio).

In addition to the commitments presented on the preceding table, as of June 30, 2018, the Company had commitments to sell MSRs through third-party flow sales related to $9 million of the unpaid principal balance of Mortgage loans held for sale and Interest rate lock commitments that are expected to result in closed loans.

Sales of Mortgage Loans

Residential mortgage loans are sold through one of the following methods: (i) sales to or pursuant to programs sponsored by Fannie Mae, Freddie Mac and the Government National Mortgage Association (collectively, the "Agencies") or (ii) sales to private investors. The Company may have continuing involvement in mortgage loans sold by retaining MSRs and/or recourse obligations, as discussed further in Note 11, 'Commitments and Contingencies'.

The following table sets forth information regarding cash flows relating to loan sales in which the Company has continuing involvement: 
 
Six Months Ended
June 30,
 
2018
 
2017
 
(In millions)
Proceeds from new loan sales or securitizations
$
584

 
$
1,651

Servicing fees from capitalized portfolio (1) 
29

 
104

Purchases of previously sold loans (2) 
(2
)
 
(15
)
Servicing advances (3) 
(244
)
 
(627
)
Repayment of servicing advances (3) 
301

 
782

____________________
(1) 
Includes servicing fees, late fees and other ancillary servicing revenue in which the Company has continuing involvement.
(2) 
Includes purchases of repurchase eligible loans and excludes indemnification payments to investors and insurers of the related mortgage loans. 
(3) 
Outstanding servicing advance receivables are presented in Servicing advances, net in the Condensed Consolidated Balance Sheets, except for advances related to loans in foreclosure or real estate owned, which are included in Other assets. During the six months ended June 30, 2018, repayment of servicing advances for advances associated with sales of MSRs were not significant. During the six months ended June 30, 2017, repayment of servicing advances included $21 million received for advances associated with sales of MSRs.

During the three and six months ended months ended June 30, 2018, pre-tax gains of $5 million and $18 million, respectively, related to the sale or securitization of residential mortgage loans were recognized in Gain on loans held for sale, net in the Condensed Consolidated Statements of Operations and Comprehensive Income (Loss).

During the three and six months ended months ended June 30, 2017, pre-tax gains of $46 million and $95 million, respectively, related to the sale or securitization of residential mortgage loans were recognized in Gain on loans held for sale, net in the Condensed Consolidated Statements of Operations and Comprehensive Income (Loss).


16


NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

5. Derivatives
 
The Company's primary derivative instrument is forward delivery commitments, which relate to interest rate and price risk for mortgage loans held for sale and interest rate lock commitments. Derivative instruments are recorded in Other assets and Other liabilities in the Condensed Consolidated Balance Sheets.  The Company does not have any derivative instruments designated as hedging instruments.

The following table summarizes the gross notional amount of derivatives: 
 
June 30,
2018
 
December 31,
2017
 
(In millions)
Interest rate lock commitments
$
51

 
$
139

Forward delivery commitments
126

 
614


As of June 30, 2018 and December 31, 2017, the value of forward delivery commitments subject to master netting arrangements were not significant. As of June 30, 2018 and December 31, 2017, there were $2 million and $4 million of interest rate lock commitment assets not subject to master netting arrangements.

The following table summarizes the gains (losses) recorded in the Condensed Consolidated Statements of Operations and Comprehensive Income (Loss) for derivative instruments: 
 
Three Months Ended
June 30,
 
Six Months Ended
June 30,
 
2018
 
2017
 
2018
 
2017
 
(In millions)
Gain on loans held for sale, net:
 
 
 
 
 
 
 
Interest rate lock commitments
$
4

 
$
7

 
$
7

 
$
19

Forward delivery commitments

 
(1
)
 
5

 
(2
)


6. Fair Value Measurements

The Company updates the valuation of each instrument recorded at fair value on a quarterly basis, evaluating all available observable information, which may include current market prices or bids, recent trade activity, changes in the levels of market activity and benchmarking of industry data.  The assessment also includes consideration of identifying the valuation approach that would be used currently by market participants.  If it is determined that a change in valuation technique or its application is appropriate, or if there are other changes in availability of observable data or market activity, the current methodology will be analyzed to determine if a transfer between levels of the valuation hierarchy is appropriate.  Such reclassifications are reported as transfers into or out of a level as of the beginning of the quarter that the change occurs. During the six months ended June 30, 2018, there have been no changes in the valuation methodologies and classification pursuant to the valuation hierarchy.
 
The incorporation of counterparty credit risk did not have a significant impact on the valuation of assets and liabilities recorded at fair value as of June 30, 2018 or December 31, 2017.
 

17


NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

Recurring Fair Value Measurements
 
The following summarizes the fair value hierarchy for assets and liabilities measured at fair value on a recurring basis: 
 
June 30, 2018
 
Level
One
 
Level
Two
 
Level
Three
 
Cash
Collateral
and Netting
 
Total
 
(In millions)
ASSETS
 

 
 

 
 

 
 

 
 

Mortgage loans held for sale
$

 
$
50

 
$
5

 
$

 
$
55

Mortgage servicing rights

 

 
483

 

 
483

Other assets—Derivative assets:
 

 
 

 
 

 
 

 
 

Interest rate lock commitments

 

 
2

 

 
2

Assets related to discontinued operations

 
3

 

 

 
3

LIABILITIES
 

 
 

 
 

 
 

 
 

Mortgage servicing rights secured liability
$

 
$

 
$
437

 
$

 
$
437

Other liabilities:
 

 
 

 
 

 
 

 
 

Liability to deliver MSRs

 

 
1

 

 
1

  
 
December 31, 2017
 
Level
One
 
Level
Two
 
Level
Three
 
Cash
Collateral
and Netting
 
Total
 
(In millions)
ASSETS
 

 
 

 
 

 
 

 
 

Mortgage loans held for sale
$

 
$
94

 
$
9

 
$

 
$
103

Mortgage servicing rights

 

 
476

 

 
476

Other assets—Derivative assets:
 

 
 

 
 

 
 

 
 

Interest rate lock commitments

 

 
4

 

 
4

Assets related to discontinued operations

 
167

 
1

 

 
168

LIABILITIES
 

 
 

 
 

 
 

 
 

Mortgage servicing rights secured liability
$

 
$

 
$
419

 
$

 
$
419

Other liabilities:
 

 
 

 
 

 
 

 
 

Liability to deliver MSRs

 

 
2

 

 
2


Significant inputs to the measurement of fair value and further information on the assets and liabilities measured at fair value are as follows:
 
Mortgage Loans Held for Sale (“MLHS”).  The Company has elected to record MLHS at fair value which is intended to better reflect the underlying economics and eliminate the operational complexities of risk management activities and hedge accounting requirements. The following table reflects the difference between the carrying amounts of MLHS measured at fair value and the aggregate unpaid principal amount that the Company is contractually entitled to receive at maturity:
 
June 30, 2018
 
December 31, 2017
 
Total
 
Loans 90 days or
more past due and
on non-accrual
status
 
Total
 
Loans 90 days or
more past due and
on non-accrual
status
 
(In millions)
Carrying amount
$
55

 
$
1

 
$
103

 
$
1

Aggregate unpaid principal balance
55

 
1

 
103

 
2

Difference
$

 
$

 
$

 
$
(1
)


18


NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

Mortgage Servicing Rights.  MSRs are classified within Level Three of the valuation hierarchy due to the use of significant unobservable inputs and the inactive market for such assets. The fair value of MSRs is estimated based upon projections of expected future cash flows considering prepayment estimates, the Company’s historical prepayment rates, portfolio characteristics, interest rates based on interest rate yield curves, implied volatility and other economic factors. On a quarterly basis, assumptions used in estimating fair value are validated against a number of third-party sources, which may include peer surveys, MSR broker surveys, third-party valuations and other market-based sources. During the three months ended June 30, 2018, the Company updated its fair value assessment of MSRs committed under the sale agreement with New Residential. As of June 30, 2018, the fair value of these committed MSRs to New Residential no longer includes calibration of the valuation model to the pricing associated with the sale agreement based upon the timing of the original agreement and the complexities of completing the sale. See Note 4, 'Servicing Activities' for further discussion of the MSR sale commitments.

The following tables summarize certain information regarding the initial and ending capitalization rate of MSRs:
 
Six Months Ended
June 30,
 
2018
 
2017
Initial capitalization rate of additions to MSRs owned
1.12
%
 
1.14
%
 
 
June 30,
2018
 
December 31,
2017
MSRs Owned
 
 
 
Capitalization servicing rate
0.65
%
 
0.67
%
Capitalization servicing multiple
2.2

 
2.3

Weighted-average servicing fee (in basis points)
29

 
29

Weighted-average life (years)
4.7

 
5.7


 
June 30,
2018
 
December 31,
2017
MSRs Under Secured Borrowing Arrangement
 
 
 
Capitalization servicing rate
0.95
%
 
0.85
%
Capitalization servicing multiple
3.6

 
3.2

Weighted-average servicing fee (in basis points)
27

 
27

Weighted-average life (years)
5.9

 
5.6

 
The significant assumptions used in estimating the fair value of MSRs were as follows (in annual rates): 
 
June 30,
2018
 
December 31,
2017
MSRs Owned
 
 
 
Weighted-average prepayment speed (CPR)
13.2
%
 
9.2
%
Option adjusted spread, in basis points (OAS)
736

 
393

Weighted-average delinquency rate
11.8
%
 
12.4
%

 
June 30,
2018
 
December 31,
2017
MSRs Under Secured Borrowing Arrangement
 
 
 
Weighted-average prepayment speed (CPR)
9.9
%
 
11.2
%
Option adjusted spread, in basis points (OAS)
861

 
928

Weighted-average delinquency rate
4.0
%
 
4.0
%


19


NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

The following table summarizes the estimated change in the fair value of MSRs from adverse changes in the significant assumptions: 
 
June 30, 2018
 
Weighted-
Average
Prepayment
Speed
 
Option
Adjusted
Spread
 
Weighted-
Average
Delinquency
Rate
 
(In millions)
MSRs Owned
 
Impact on fair value of 10% adverse change
$
(3
)
 
$
(1
)
 
$
(2
)
Impact on fair value of 20% adverse change
(5
)
 
(2
)
 
(5
)
 
 
 
 
 
 
MSRs Under Secured Borrowing Arrangement
 
 
 
 
 
Impact on fair value of 10% adverse change
$
(15
)
 
$
(18
)
 
$
(5
)
Impact on fair value of 20% adverse change
(29
)
 
(35
)
 
(9
)

The Company's exposure to the change in fair value of MSRs from adverse changes in the significant assumptions is generally limited to those associated with the MSRs owned in the preceding table. Any changes in fair value associated with the MSRs under secured borrowing arrangements fully offset between the MSRs secured asset and the MSRs secured liability, and have no impact to the Company.

These sensitivities are hypothetical and presented for illustrative purposes only. Changes in fair value based on adverse changes in assumptions generally cannot be extrapolated because the relationship of the change in assumption to the change in fair value may not be linear. Additionally, the impact of a variation in a particular assumption on the fair value is calculated while holding other assumptions constant. In reality, changes in one factor may lead to changes in other factors, which could impact the above hypothetical effects.

Mortgage Servicing Rights Secured Liability. The fair value of MSRs secured liability is classified within Level Three of the valuation hierarchy due to the use of significant unobservable inputs, which is consistent with the fair value methodology of the related MSR asset. The fair value of MSRs secured liability is estimated based upon projections of expected future cash flows of the underlying MSR asset. The cash flow assumptions and prepayment assumptions used in the model are based on various factors, including portfolio characteristics, interest rates based on interest rate yield curves, implied volatility and other economic factors.

The significant assumptions used in estimating the fair value of MSRs secured liability were as follows (in annual rates):
 
June 30,
2018
 
December 31,
2017
Weighted-average prepayment speed (CPR)
9.9
%
 
11.2
%
Option adjusted spread, in basis points (OAS)
861

 
928

Weighted-average delinquency rate
4.0
%
 
4.0
%

Derivative Instruments. Derivative instruments are classified within Level Two and Level Three of the valuation hierarchy.  The average pull through percentage used in measuring the fair value of interest rate lock commitments ("IRLCs") as of June 30, 2018 and December 31, 2017 was 48% and 66%, respectively. The pull through percentage is considered a significant unobservable input and is estimated based on changes in pricing and actual borrower behavior using a historical analysis of loan closing and fallout data.  During the six months ended June 30, 2018, the Company lowered its pull through percentage based upon this historical analysis. In addition, actual loan pull through is compared to the modeled estimates in order to evaluate this assumption each period based on current trends.  Generally, a change in interest rates is accompanied by a directionally opposite change in the assumption used for the pull through percentage, and the impact to fair value of a change in pull through would be partially offset by the related change in price.

Liability to Deliver MSRs.  The fair value of Liability to deliver MSRs is classified within Level Three of the valuation hierarchy due to the use of significant unobservable inputs, which is consistent with the fair value methodology of the servicing rights within IRLCs. The Company initially established the value of the Liability to deliver MSRs based on the servicing value within the IRLC at inception. Thereafter, the carrying value of this liability is adjusted to fair value at each reporting date, and the changes in value are expected to offset changes in the associated servicing value within the IRLC or MLHS in the Condensed Consolidated Statements of Operations and Comprehensive Income (Loss) until the MSR is delivered to the counterparty.

20


NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

Level Three Measurements
Activity of assets and liabilities classified within Level Three of the valuation hierarchy consisted of: 
 
Three Months Ended
June 30, 2018
 
Three Months Ended
June 30, 2017
 
MLHS
 
MSRs
 
IRLCs,
net
 
MSRs Secured Liability
 
Liability to Deliver MSRs
 
MLHS
 
MSRs
 
IRLCs,
net
 
MSRs Secured Liability
 
(In millions)
 
 
Balance, beginning of period
$
8

 
$
496

 
$
3

 
$
(443
)
 
$
(1
)
 
$
32

 
$
596

 
$
4

 
$

Purchases, Issuances, Sales and Settlements:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Purchases
1

 

 

 

 

 
3

 

 

 

Issuances

 

 

 

 

 
2

 
7

 

 
(113
)
Sales
(4
)
 
(3
)
 

 

 

 
(1
)
 
(19
)
 

 

Settlements

 

 
(5
)
 
13

 
1

 
(6
)
 

 
(7
)
 
1

 
(3
)
 
(3
)
 
(5
)
 
13

 
1

 
(2
)
 
(12
)
 
(7
)
 
(112
)
Realized and unrealized gains (losses) included in:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Gain on loans held for sale, net

 

 
4

 

 
(1
)
 

 

 
7

 

Change in fair value of MSRs

 
(10
)
 

 
6

 

 

 
(29
)
 

 
(1
)
Net interest expense

 

 

 
(13
)
 

 

 

 

 
(1
)
 

 
(10
)
 
4

 
(7
)
 
(1
)
 

 
(29
)
 
7

 
(2
)
Transfers into Level Three
1

 

 

 

 

 
6

 

 

 

Transfers out of Level Three
(1
)
 

 

 

 

 
(4
)
 

 

 

Balance, end of period
$
5

 
$
483

 
$
2

 
$
(437
)
 
$
(1
)
 
$
32

 
$
555

 
$
4

 
$
(114
)

 
Six Months Ended
June 30, 2018
 
Six Months Ended
June 30, 2017
 
MLHS
 
MSRs
 
IRLCs,
net
 
MSRs Secured Liability
 
Liability to Deliver MSRs