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```11111

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-Q

 

(Mark One)

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended March 31, 2022

OR

 

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: 001-34374

 

ARLINGTON ASSET INVESTMENT CORP.

(Exact name of Registrant as specified in its charter)

 

 

Virginia

 

54-1873198

(State or Other Jurisdiction of

Incorporation or Organization)

 

(I.R.S. Employer

Identification No.)

 

6862 Elm Street, Suite 320

McLean, VA

 

22101

(Address of Principal Executive Offices)

 

(Zip Code)

 

(703) 373-0200

(Registrant’s Telephone Number, Including Area Code)

 

Securities registered pursuant to Section 12(b) of the Act:

 

Title of each class

 

Trading

Symbol(s)

 

Name of each exchange on which registered

Class A Common Stock

 

AAIC

 

NYSE

7.00% Series B Cumulative Perpetual Redeemable Preferred Stock

 

AAIC PrB

 

NYSE

8.250% Series C Fixed-to-Floating Rate Cumulative Redeemable Preferred Stock

 

AAIC PrC

 

NYSE

6.000% Senior Notes due 2026

 

AAIN

 

NYSE

6.75% Senior Notes due 2025

 

AIC

 

NYSE

 

 

 

 

 

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  No 

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (Sec. 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes  No 

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 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

 

  

Accelerated filer

 

 

 

 

 

Non-accelerated filer

 

  

  

Small reporting company

 

 

 

 

 

 

 

 

Emerging growth company

 

 

 

 

 

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. 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act): Yes  No 

Number of shares outstanding of each of the registrant’s classes of common stock, as of April 29, 2022:

 

Title

 

Outstanding

Class A Common Stock

 

29,662,512 shares

 

 


 

 

ARLINGTON ASSET INVESTMENT CORP.

FORM 10-Q

FOR THE QUARTER ENDED MARCH 31, 2022

INDEX

 

 

 

 

 

 

 

Page

PART I — FINANCIAL INFORMATION

 

 

 

 

Item 1.

 

Consolidated Financial Statements and Notes — (unaudited)

 

1

 

 

 

 

Consolidated Balance Sheets

 

1

 

 

 

 

Consolidated Statements of Comprehensive Income

 

2

 

 

 

 

Consolidated Statements of Changes in Equity

 

3

 

 

 

 

Consolidated Statements of Cash Flows

 

4

 

 

 

 

Notes to Consolidated Financial Statements

 

5

 

 

Item 2.

 

Management’s Discussion and Analysis of Financial Condition and Results of Operations

 

30

 

 

Item 3.

 

Quantitative and Qualitative Disclosures about Market Risk

 

53

 

 

Item 4.

 

Controls and Procedures

 

58

PART II — OTHER INFORMATION

 

 

 

 

Item 1.

 

Legal Proceedings

 

59

 

 

Item 1A.

 

Risk Factors

 

59

 

 

Item 2.

 

Unregistered Sales of Equity Securities and Use of Proceeds

 

59

 

 

Item 3.

 

Defaults Upon Senior Securities

 

60

 

 

Item 4.

 

Mine Safety Disclosures

 

60

 

 

Item 5.

 

Other Information

 

60

 

 

Item 6.

 

Exhibits

 

60

 

 

 

 

Signatures

 

63

 

 

 

i


 

 

PART I

FINANCIAL INFORMATION

Item 1. Financial Statements

ARLINGTON ASSET INVESTMENT CORP.

CONSOLIDATED BALANCE SHEETS

(Dollars in thousands)

(Unaudited)

 

 

 

March 31, 2022

 

 

December 31, 2021

 

ASSETS

 

 

 

 

 

 

 

 

Cash and cash equivalents (includes $73 and $2,118, respectively, from

  consolidated VIEs)

 

$

21,715

 

 

$

20,543

 

Restricted cash

 

 

851

 

 

 

1,132

 

Restricted cash of consolidated VIEs

 

 

9,292

 

 

 

111

 

Sold securities receivable

 

 

 

 

 

28,219

 

Agency mortgage-backed securities, at fair value

 

 

292,318

 

 

 

483,927

 

MSR financing receivables, at fair value

 

 

139,225

 

 

 

125,018

 

Credit securities, at fair value

 

 

25,360

 

 

 

26,222

 

Mortgage loans, at fair value

 

 

29,592

 

 

 

29,697

 

Mortgage loans of consolidated VIEs, at fair value

 

 

261,976

 

 

 

7,442

 

Single-family residential real estate (net of $1,010 and $299, respectively, of

  accumulated depreciation)

 

 

120,952

 

 

 

60,889

 

Deposits

 

 

4,607

 

 

 

4,549

 

Other assets (includes $1,461 and $547, respectively, from consolidated VIEs)

 

 

14,995

 

 

 

15,287

 

Total assets

 

$

920,883

 

 

$

803,036

 

LIABILITIES AND STOCKHOLDERS’ EQUITY

 

 

 

 

 

 

 

 

Liabilities:

 

 

 

 

 

 

 

 

Repurchase agreements

 

$

284,862

 

 

$

446,624

 

Secured debt of consolidated VIEs, at fair value

 

 

244,365

 

 

 

508

 

Long-term unsecured debt

 

 

86,096

 

 

 

85,994

 

Long-term debt secured by single-family properties

 

 

77,824

 

 

 

39,178

 

Other liabilities (includes $293 and $2, respectively, from consolidated VIEs)

 

 

9,639

 

 

 

6,605

 

Total liabilities

 

 

702,786

 

 

 

578,909

 

Commitments and contingencies

 

 

 

 

 

 

 

 

Stockholders’ Equity:

 

 

 

 

 

 

 

 

Series B Preferred stock, $0.01 par value, 379,668 and 373,610, shares issued

   and outstanding, respectively (liquidation preference of $9,492 and $9,340,

   respectively)

 

 

9,001

 

 

 

8,852

 

Series C Preferred stock, $0.01 par value, 1,117,034 shares issued

   and outstanding (liquidation preference of $27,926)

 

 

27,356

 

 

 

27,356

 

Class A common stock, $0.01 par value, 450,000,000 shares authorized, 30,059,944

   and 30,676,931 shares issued and outstanding, respectively

 

 

301

 

 

 

307

 

Additional paid-in capital

 

 

2,027,585

 

 

 

2,030,315

 

Accumulated deficit

 

 

(1,846,146

)

 

 

(1,842,703

)

Total stockholders’ equity

 

 

218,097

 

 

 

224,127

 

Total liabilities and stockholders’ equity

 

$

920,883

 

 

$

803,036

 

 

 

 

 

 

 

 

 

 

 

 

March 31, 2022

 

 

December 31, 2021

 

Assets and liabilities of consolidated VIEs

 

 

 

 

 

 

 

 

Cash and restricted cash

 

$

9,365

 

 

$

2,229

 

Mortgage loans, at fair value

 

 

261,976

 

 

 

7,442

 

Other assets

 

 

1,461

 

 

 

547

 

Secured debt, at fair value

 

 

(244,365

)

 

 

(508

)

Other liabilities

 

 

(293

)

 

 

(2

)

Net investment in consolidated VIEs

 

$

28,144

 

 

$

9,708

 

 

See notes to consolidated financial statements.

1


 

ARLINGTON ASSET INVESTMENT CORP.

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

(Dollars in thousands, except per share data)

(Unaudited)

 

 

 

Three Months Ended March 31,

 

 

 

2022

 

 

2021

 

Interest income

 

 

 

 

 

 

 

 

Agency mortgage-backed securities

 

$

1,492

 

 

$

2,784

 

MSR financing receivables

 

 

3,382

 

 

 

358

 

Credit securities and loans

 

 

853

 

 

 

1,269

 

Mortgage loans of consolidated VIEs

 

 

1,354

 

 

 

1,687

 

Other

 

 

325

 

 

 

161

 

Total interest and other income

 

 

7,406

 

 

 

6,259

 

Rent revenues from single-family properties

 

 

1,064

 

 

 

 

Interest expense

 

 

 

 

 

 

 

 

Repurchase agreements

 

 

276

 

 

 

488

 

Long-term debt secured by single-family properties

 

 

408

 

 

 

 

Long-term unsecured debt

 

 

1,370

 

 

 

1,151

 

Secured debt of consolidated VIEs

 

 

1,188

 

 

 

862

 

Total interest expense

 

 

3,242

 

 

 

2,501

 

Single-family property operating expenses

 

 

1,531

 

 

 

 

Net operating income

 

 

3,697

 

 

 

3,758

 

Investment and derivative loss, net

 

 

(827

)

 

 

(6,763

)

General and administrative expenses

 

 

 

 

 

 

 

 

Compensation and benefits

 

 

2,065

 

 

 

1,395

 

Other general and administrative expenses

 

 

1,219

 

 

 

1,242

 

Total general and administrative expenses

 

 

3,284

 

 

 

2,637

 

Loss before income taxes

 

 

(414

)

 

 

(5,642

)

Income tax provision

 

 

2,287

 

 

 

398

 

Net loss

 

 

(2,701

)

 

 

(6,040

)

Dividend on preferred stock

 

 

(742

)

 

 

(723

)

Net loss attributable to common stock

 

$

(3,443

)

 

$

(6,763

)

Basic loss per common share

 

$

(0.12

)

 

$

(0.20

)

Diluted loss per common share

 

$

(0.12

)

 

$

(0.20

)

Weighted-average common shares outstanding

  (in thousands)

 

 

 

 

 

 

 

 

Basic

 

 

29,832

 

 

 

33,181

 

Diluted

 

 

29,832

 

 

 

33,181

 

 

See notes to consolidated financial statements.

2


 

ARLINGTON ASSET INVESTMENT CORP.

CONSOLIDATED STATEMENTS OF CHANGES IN EQUITY

(Dollars in thousands)

(Unaudited)

 

 

 

Series B

Preferred

Stock

(#)

 

 

Series B

Preferred

Amount

($)

 

 

Series C

Preferred

Stock

(#)

 

 

Series C

Preferred

Amount

($)

 

 

Class A

Common

Stock

(#)

 

 

Class A

Amount

($)

 

 

Additional

Paid-In

Capital

 

 

Accumulated

Deficit

 

 

Total

 

Balances, December 31, 2020

 

 

336,273

 

 

$

7,933

 

 

 

1,117,034

 

 

$

27,356

 

 

 

33,517,018

 

 

$

335

 

 

$

2,040,918

 

 

$

(1,830,272

)

 

$

246,270

 

Net loss

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(6,040

)

 

 

(6,040

)

Issuance of Class A common

  stock under stock-based

  compensation plans

 

 

 

 

 

 

 

 

 

 

 

 

 

 

101,818

 

 

 

1

 

 

 

(1

)

 

 

 

 

 

 

Repurchase of Class A

  common stock

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(137,655

)

 

 

(1

)

 

 

(522

)

 

 

 

 

 

(523

)

Stock-based compensation

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

503

 

 

 

 

 

 

503

 

Dividends declared

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(723

)

 

 

(723

)

Balances, March 31, 2021

 

 

336,273

 

 

$

7,933

 

 

 

1,117,034

 

 

$

27,356

 

 

 

33,481,181

 

 

$

335

 

 

$

2,040,898

 

 

$

(1,837,035

)

 

$

239,487

 

 

 

 

 

 

 

Series B

Preferred

Stock

(#)

 

 

Series B

Preferred

Amount

($)

 

 

Series C

Preferred

Stock

(#)

 

 

Series C

Preferred

Amount

($)

 

 

Class A

Common

Stock

(#)

 

 

Class A

Amount

($)

 

 

Additional

Paid-In

Capital

 

 

Accumulated

Deficit

 

 

Total

 

Balances, December 31, 2021

 

 

373,610

 

 

$

8,852

 

 

 

1,117,034

 

 

$

27,356

 

 

 

30,676,931

 

 

$

307

 

 

$

2,030,315

 

 

$

(1,842,703

)

 

$

224,127

 

Net loss

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(2,701

)

 

 

(2,701

)

Issuance of Class A common

  stock under stock-based

  compensation plans

 

 

 

 

 

 

 

 

 

 

 

 

 

 

404,746

 

 

 

4

 

 

 

(4

)

 

 

 

 

 

 

Forfeiture of Class A common

  stock under stock-based

  compensation plans

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(12,167

)

 

 

 

 

 

 

 

 

 

 

 

 

Repurchase of Class A

  common stock

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(1,009,566

)

 

 

(10

)

 

 

(3,487

)

 

 

 

 

 

(3,497

)

Issuance of preferred stock

 

 

6,058

 

 

 

149

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

149

 

Stock-based compensation

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

761

 

 

 

 

 

 

761

 

Dividends declared

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(742

)

 

 

(742

)

Balances, March 31, 2022

 

 

379,668

 

 

$

9,001

 

 

 

1,117,034

 

 

$

27,356

 

 

 

30,059,944

 

 

$

301

 

 

$

2,027,585

 

 

$

(1,846,146

)

 

$

218,097

 

 

See notes to consolidated financial statements.

 

 

3


 

 

ARLINGTON ASSET INVESTMENT CORP.

CONSOLIDATED STATEMENTS OF CASH FLOWS

(Dollars in thousands)

(Unaudited)

 

 

 

Three Months Ended March 31,

 

 

 

2022

 

 

2021

 

Cash flows from operating activities:

 

 

 

 

 

 

 

 

Net loss

 

$

(2,701

)

 

$

(6,040

)

Adjustments to reconcile net loss to net cash (used in) provided by operating activities

 

 

 

 

 

 

 

 

Investment and derivative loss, net

 

 

827

 

 

 

6,763

 

Net (discount) premium (accretion) amortization

 

 

(1,820

)

 

 

(357

)

Other

 

 

1,598

 

 

 

564

 

Changes in operating assets

 

 

 

 

 

 

 

 

Interest receivable

 

 

372

 

 

 

510

 

Other assets

 

 

(1,016

)

 

 

(90

)

Changes in operating liabilities

 

 

 

 

 

 

 

 

Interest payable and other liabilities

 

 

2,444

 

 

 

1,091

 

Accrued compensation and benefits

 

 

(1,977

)

 

 

(1,754

)

Net cash (used in) provided by operating activities

 

 

(2,273

)

 

 

687

 

Cash flows from investing activities:

 

 

 

 

 

 

 

 

Purchases of agency mortgage-backed securities

 

 

(78,874

)

 

 

(354,417

)

Purchases of credit securities

 

 

(20,585

)

 

 

 

Purchases of MSR financing receivables

 

 

(3,187

)

 

 

(21,279

)

Purchases of single-family residential real estate

 

 

(61,098

)

 

 

 

Proceeds from sales of agency mortgage-backed securities

 

 

259,415

 

 

 

517,200

 

Proceeds from sales of credit securities

 

 

 

 

 

11,978

 

Proceeds from sales of single-family residential real estate

 

 

351

 

 

 

 

Receipt of principal payments on agency mortgage-backed securities

 

 

12,717

 

 

 

14,305

 

Receipt of principal payments on credit securities

 

 

308

 

 

 

 

Receipt of principal payments on loans

 

 

105

 

 

 

85

 

Receipt of principal payments on mortgage loans of consolidated VIE

 

 

14,855

 

 

 

36,529

 

Receipt of distributions on MSR financing receivables

 

 

15,119

 

 

 

 

Restricted cash balance of VIE upon consolidation

 

 

9,637

 

 

 

 

Proceeds from (payments for) derivatives and deposits, net

 

 

3,026

 

 

 

(2,543

)

Other

 

 

1,351

 

 

 

4,154

 

Net cash provided by investing activities

 

 

153,140

 

 

 

206,012

 

Cash flows from financing activities:

 

 

 

 

 

 

 

 

Repayments of repurchase agreements, net

 

 

(161,761

)

 

 

(149,662

)

Repayments of secured debt of consolidated VIE

 

 

(13,576

)

 

 

(34,994

)

Repurchase of common stock

 

 

(3,497

)

 

 

(523

)

Proceeds from issuance of preferred stock

 

 

149

 

 

 

 

Proceeds from long-term debt secured by single-family properties

 

 

38,632

 

 

 

 

Repurchase of long-term unsecured debt

 

 

 

 

 

(7

)

Dividends paid

 

 

(742

)

 

 

(723

)

Other

 

 

 

 

 

 

Net cash used in financing activities

 

 

(140,795

)

 

 

(185,909

)

Net increase in cash, cash equivalents and restricted cash

 

 

10,072

 

 

 

20,790

 

Cash, cash equivalents and restricted cash, beginning of period

 

 

21,786

 

 

 

39,965

 

Cash, cash equivalents and restricted cash, end of period

 

$

31,858

 

 

$

60,755

 

Supplemental cash flow information:

 

 

 

 

 

 

 

 

Cash payments for interest

 

$

3,278

 

 

$

2,434

 

Cash payments for taxes

 

$

 

 

$

 

Non-cash investing activity:

 

 

 

 

 

 

 

 

Assets of VIE upon consolidation

 

$

287,282

 

 

$

 

Non-cash financing activity:

 

 

 

 

 

 

 

 

Liabilities of VIE upon consolidation

 

$

266,697

 

 

$

 

 

See notes to consolidated financial statements.

 

 

 

4


 

 

ARLINGTON ASSET INVESTMENT CORP.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Dollars in thousands, except per share data)

(Unaudited)

 

Note 1. Organization and Basis of Presentation

Arlington Asset Investment Corp. (“Arlington Asset”) and its consolidated subsidiaries (unless the context otherwise provides, collectively, the “Company”) is an investment firm that focuses primarily on investing in mortgage related assets and residential real estate.  The Company’s investment capital is currently allocated between mortgage servicing right (“MSR”) related assets, credit investments, single-family residential (“SFR”) properties and agency mortgage-backed securities (“MBS”).

The Company’s MSR related assets represent investments for which the return is based on the economic performance of a pool of specific MSRs.  The Company’s credit investments generally include investments in mortgage loans secured by either residential or commercial real property or MBS collateralized by residential or commercial mortgage loans (“non-agency MBS”) or asset-backed securities (“ABS”) collateralized by residential solar panel loans.  The Company’s SFR investment strategy is to acquire, lease and operate single-family residential homes as rental properties. The Company’s agency MBS consist of residential mortgage pass-through certificates for which the principal and interest payments are guaranteed by a U.S. government sponsored enterprise (“GSE”), such as the Federal National Mortgage Association (“Fannie Mae”) and the Federal Home Loan Mortgage Corporation (“Freddie Mac”).  

The Company is a Virginia corporation. The Company is internally managed and does not have an external investment advisor.

The Company has elected to be taxed as a real estate investment trust (“REIT”) under the Internal Revenue Code of 1986, as amended (the “Internal Revenue Code”). As a REIT, the Company is required to distribute annually 90% of its REIT taxable income (subject to certain adjustments). So long as the Company continues to qualify as a REIT, it will generally not be subject to U.S. Federal or state corporate income taxes on its taxable income that it distributes to its shareholders on a timely basis. At present, it is the Company’s intention to distribute 100% of its taxable income, although the Company will not be required to do so. The Company intends to make distributions of its taxable income within the time limits prescribed by the Internal Revenue Code, which may extend into the subsequent taxable year.

The unaudited interim consolidated financial statements are prepared in accordance with accounting principles generally accepted in the United States (“GAAP”) for interim financial information and pursuant to the requirements for reporting on Form 10-Q and Article 10 of Regulation S-X. The Company’s unaudited interim consolidated financial statements and notes thereto should be read in conjunction with the Company’s audited annual consolidated financial statements and notes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2021.

The Company’s consolidated financial statements include the accounts of Arlington Asset and all other entities in which the Company has a controlling financial interest. All intercompany accounts and transactions have been eliminated in consolidation.

The preparation of financial statements in conformity with GAAP requires the Company to make estimates and assumptions that affect amounts reported in the consolidated financial statements. Although the Company bases these estimates and assumptions on historical experience and all other reasonably available information that the Company believes to be relevant under the circumstances, such estimates frequently require management to exercise significant subjective judgment about matters that are inherently uncertain. Actual results may differ materially from these estimates.

Certain prior period amounts in the consolidated financial statements and the accompanying notes may have been reclassified to conform to the current year’s presentation. These reclassifications had no impact on the previously reported net income, total assets or total liabilities.

 

Note 2. Summary of Significant Accounting Policies

Cash Equivalents

Cash equivalents include demand deposits with banks, money market accounts and highly liquid investments with original maturities of three months or less. As of March 31, 2022 and December 31, 2021, approximately 81% and 67%, respectively, of the Company’s cash equivalents were invested in money market funds that invest primarily in U.S. Treasuries and other securities backed by the U.S. government.

5


 

Investment Security Purchases and Sales

Purchases and sales of investment securities are recorded on the settlement date of the transfer unless the trade qualifies as a “regular-way” trade and the associated commitment qualifies for an exemption from the accounting guidance applicable to derivative instruments. A regular-way trade is an investment security purchase or sale transaction that is expected to settle within the period of time following the trade date that is prevalent or traditional for that specific type of security. Any amounts payable or receivable for unsettled security trades are recorded as “sold securities receivable” or “purchased securities payable” in the consolidated balance sheets.

Interest Income Recognition for Investments in Agency MBS and Mortgage Loans of Consolidated VIEs

The Company recognizes interest income for its investments in agency MBS and mortgage loans of consolidated variable interest entities (“VIEs”) by applying the “interest method” permitted by GAAP, whereby purchase premiums and discounts are amortized and accreted, respectively, as an adjustment to contractual interest income accrued at each investment’s stated interest rate. The interest method is applied at the individual instrument level based upon each instrument’s effective interest rate. The Company calculates each instrument’s effective interest rate at the time of purchase or initial recognition by solving for the discount rate that equates the present value of that instrument's remaining contractual cash flows (assuming no principal prepayments) to its purchase cost. Because each instrument’s effective interest rate does not reflect an estimate of future prepayments, the Company refers to this manner of applying the interest method as the “contractual effective interest method.” When applying the contractual effective interest method, as principal prepayments occur, a proportional amount of the unamortized premium or unaccreted discount is recognized in interest income such that the contractual effective interest rate on any remaining security or loan balance is unaffected.

For mortgage loans of consolidated VIEs, the Company ceases the accrual of interest income (i.e., places the loan in non-accrual status) when it believes collectability of principal and interest in full is not reasonably assured, which generally occurs when a loan is three or more monthly payments past due, unless the loan is well secured and in the process of collection based upon an individual loan assessment.  Upon placing a loan in non-accrual status, any previously accrued but uncollected interest is derecognized and a corresponding reduction to current period interest income is recorded.  While a loan is in non-accrual status, the Company recognizes interest income only when interest payments occur.

Interest Income Recognition for Investments in Credit Securities and MSR Financing Receivables

The Company recognizes interest income for its investments in credit securities and MSR financing receivables by applying the prospective level-yield methodology required by GAAP for financial assets that are either not of high credit quality at the time of acquisition or can be contractually prepaid or otherwise settled in such a way that the Company would not recover substantially all of its recorded investment.  The amount of periodic interest income recognized is determined by applying the investment’s effective interest rate to its amortized cost basis (or “reference amount”). At the time of acquisition, the investment’s effective interest rate is calculated by solving for the single discount rate that equates the present value of the Company’s best estimate of the amount and timing of the cash flows expected to be collected from the investment to its purchase cost. To prepare its best estimate of cash flows expected to be collected, the Company develops a number of assumptions about the future performance of the pool of loans that serve as collateral for its investment, including assumptions about the timing and amount of prepayments and credit losses.  In each subsequent quarterly reporting period, the amount and timing of cash flows expected to be collected from the investment are re-estimated based upon current information and events. The following table provides a description of how periodic changes in the estimate of cash flows expected to be collected affect interest income recognition prospectively for investments in credit securities and MSR financing receivables:

 

 Scenario:

 

 

Effect on Interest Income Recognition for Investments

in Credit Securities and MSR Financing Receivables:

 

 

A positive change in cash flows occurs.

 

Actual cash flows exceed prior estimates and/or a positive change occurs in the estimate of expected remaining cash flows.

 

 

A revised effective interest rate is calculated and applied prospectively such that the positive change in cash flows is recognized as incremental interest income over the remaining life of the investment.

 

 

 

 

 

The amount of periodic interest income recognized over the remaining life of the investment will be reduced accordingly. Generally, the investment’s effective interest rate is reduced accordingly and applied on a prospective basis.  However, if the revised effective interest rate is negative, the investment’s existing effective interest rate is retained while the reference amount to which the existing effective interest rate will be prospectively applied is reduced to the present value of cash flows expected to be collected, discounted at the investment’s existing effective interest rate.

An adverse change in cash flows occurs.

 

Actual cash flows fall short of prior estimates and/or an adverse change occurs in the estimate of expected remaining cash flows.

 

 

6


 

 

 

Other Significant Accounting Policies

Certain of the Company’s other significant accounting policies are summarized in the following notes:

 

Investments in agency MBS, subsequent measurement

Note 3

Investments in credit securities, subsequent measurement

Loans held for investment, subsequent measurement

Investments in MSR financing receivables, subsequent measurement

Investments in SFR properties

Note 4

Note 5

Note 6

Note 7

Consolidation of variable interest entities

Borrowings

Note 8

Note 9

To-be-announced agency MBS transactions, including “dollar rolls”

Note 10

Derivative instruments

Note 10

Balance sheet offsetting

Note 11

Fair value measurements

Income taxes

Note 12

Note 13

 

Refer to the Company’s 2021 Annual Report on Form 10-K for a complete inventory and summary of the Company’s significant accounting policies.

 

Recent Accounting Pronouncements

The following table provides a brief description of recently issued accounting pronouncements and their actual or expected effect on the Company’s consolidated financial statements:

 

Standard

Description

Date of

Adoption

Effect on the Consolidated

Financial Statements

Recently Issued Accounting Guidance Not Yet Adopted

ASU Nos. 2020-04 and 2021-01, Reference Rate Reform (Topic 848)

 

 

The amendments in these updates provide optional practical expedients and exceptions for applying GAAP to the modification of receivables, debt or lease contracts as well as cash flow and fair value hedge accounting relationships that reference a rate, such as the London Interbank Offered Rate (“LIBOR”), that is expected to be discontinued because of reference rate reform.

 

The practical expedients and exceptions provided by these updates are effective from March 12, 2020 through December 31, 2022.

Not yet adopted.

To date, the Company has not made any modifications to contracts due to reference rate reform.

 

The Company has not elected to apply hedge accounting for financial reporting purposes.

 

The Company does not currently expect the adoption of ASU Nos. 2020-04 and 2021-01 to have an effect on its consolidated financial statements.

 

 

Note 3. Investments in Agency MBS

The Company has elected to classify its investments in agency MBS as trading securities.  Accordingly, the Company’s investments in agency MBS are reported in the accompanying consolidated balance sheets at fair value.  As of March 31, 2022 and December 31, 2021, the fair value of the Company’s investments in agency MBS was $292,318 and $483,927, respectively. As of March 31, 2022, all the Company’s investments in agency MBS represent undivided (or “pass-through”) beneficial interests in specified pools of fixed-rate mortgage loans.

All periodic changes in the fair value of agency MBS that are not attributed to interest income are recognized as a component of “investment and derivative gain (loss), net” in the accompanying consolidated statements of comprehensive income. The following table provides additional information about the gains and losses recognized as a component of “investment and derivative gain (loss), net” in the Company’s consolidated statements of comprehensive income for the periods indicated with respect to investments in agency MBS:

7


 

 

 

 

 

Three Months Ended March 31,

 

 

 

2022

 

 

2021

 

Net gains (losses) recognized in earnings for:

 

 

 

 

 

 

 

 

Agency MBS still held at period end

 

$

(17,414

)

 

$

(19,035

)

Agency MBS sold during the period

 

 

(8,543

)

 

 

(10,180

)

Total

 

$

(25,957

)

 

$

(29,215

)

 

The Company also invests in and finances fixed-rate agency MBS on a generic pool basis through sequential series of to-be-announced security transactions commonly referred to as “dollar rolls.” Dollar rolls are accounted for as a sequential series of derivative instruments. Refer to “Note 10. Derivative Instruments” for further information about dollar rolls.

 

Note 4. Investments in Credit Securities

The Company has elected to classify its investments in credit securities as trading securities.  Accordingly, the Company’s investments in credit securities are reported in the accompanying consolidated balance sheets at fair value.  As of March 31, 2022 and December 31, 2021, the fair value of the Company’s investments in credit securities was $25,360 and $26,222, respectively.  As of March 31, 2022, the Company’s investments in credit securities primarily consist of non-agency MBS collateralized by pools of business purpose residential mortgage loans and ABS collateralized by pools of residential solar panel loans.

All periodic changes in the fair value of credit securities that are not attributed to interest income are recognized as a component of “investment and derivative gain (loss), net” in the accompanying consolidated statements of comprehensive income. The following table provides additional information about the gains and losses recognized as a component of “investment and derivative gain (loss), net” in the Company’s consolidated statements of comprehensive income for the periods indicated with respect to investments in credit securities:

 

 

 

Three Months Ended March 31,

 

 

 

2022

 

 

2021

 

Net gains (losses) recognized in earnings for:

 

 

 

 

 

 

 

 

Credit securities still held at period end

 

$

(842

)

 

$

551

 

Credit securities sold during the period

 

 

 

 

 

840

 

Total

 

$

(842

)

 

$

1,391

 

 

 

Note 5. Loans Held for Investment

As of March 31, 2022 and December 31, 2021, the Company held a loan secured by a first lien position in healthcare facilities and guaranteed by the operator of the facilities with an outstanding principal outstanding principal balance of $29,592 and $29,697, respectively. The loan bears interest at a floating note rate equal to SOFR plus 5.61%.  The original maturity date of the loan was March 23, 2022 with a one-year extension available at the option of the borrower.  On March 23, 2022, the borrower exercised its one-year extension option resulting in a new maturity date of March 23, 2023.  The loan has monthly principal amortization based upon a 30-year amortization schedule with the remaining principal balance due at loan maturity.

The Company has elected to account for its loan held for investment at fair value on a recurring basis with periodic changes in fair value recognized as a component of “investment and derivative gain (loss), net” in the accompanying consolidated statements of comprehensive income.  As of March 31, 2022 and December 31, 2021, the Company’s investment was $29,592 and $29,697, respectively, at fair value.  The Company recognizes interest income on its loan investment based upon the effective interest rate of the loan which, as of March 31, 2022 and December 31, 2021, was equal to the contractual note rate of the loan.

As of March 31, 2022 and December 31, 2021, the Company was party to a participation agreement pursuant to which the Company has committed to fund up to $30,000 of a $130,000 revolving credit facility that matures on July 7, 2024.  Under the terms of the participation agreement, the Company funds the last $30,000 of advances under the revolving credit facility.  Any draws under the revolving credit facility bear interest at one-month LIBOR plus 3.75% with a LIBOR floor of 1.00% and are secured by a first lien on all accounts receivable and a second lien on all other assets of the borrower.  The borrower is also required to pay an unused commitment fee of 0.50%.  As of March 31, 2022 and December 31, 2021, the Company’s unfunded commitment was $30,000.

8


 

 

Note 6. Investments in MSR Financing Receivables

 

The Company does not hold the requisite licenses to purchase or hold MSRs directly.  However, the Company has entered into agreements with a licensed, GSE approved residential mortgage loan servicer that enable the Company to garner the economic return of an investment in an MSR purchased by the mortgage servicing counterparty through an MSR financing transaction.  Under the terms of the arrangement, for an MSR acquired by the mortgage servicing counterparty (i) the Company purchases the “excess servicing spread” from the mortgage servicer counterparty, entitling the Company to monthly distributions of the servicing fees collected by the mortgage servicing counterparty in excess of 12.5 basis points per annum (and to distributions of corresponding proceeds of sale of the MSRs), and (ii) the Company funds the balance of the MSR purchase price to the parent company of the mortgage servicing counterparty and, in exchange, has an unsecured right to payment of certain amounts determined by reference to the MSR, generally equal to the servicing fee revenue less the excess servicing spread and the costs of servicing (and to distributions of corresponding proceeds of sale of the MSRs), net of fees earned by the mortgage servicing counterparty and its affiliates including an incentive fee equal to a percentage of the total return of the MSR in excess of a hurdle rate of return.  The Company has committed to invest a total minimum of $50,000 in capital with the counterparty with $25,000 of the minimum commitment expiring on December 31, 2023 and $25,000 of the minimum commitment expiring on April 1, 2024.

 

Under the arrangement, the Company is obligated to provide funds to the mortgage servicing counterparty to fund the counterparty’s advances of payments on the serviced pool of mortgage loans.  The mortgage servicing counterparty is required to return to the Company subsequent servicing advances collected from the underlying borrowers.  The mortgage servicing counterparty is entitled to reimbursement from the GSEs of any servicing advances that are not subsequently collected from the underlying borrowers.  As of March 31, 2022 and December 31, 2021, the Company had provided funds of $2,587 and $3,731, respectively, to its mortgage servicing counterparty related to the counterparty’s servicing advances made pursuant to the MSRs to which the Company’s MSR financing receivables are referenced.

 

As a means to increase potential returns to the Company, at the Company’s election, the mortgage servicing counterparty can utilize leverage on the MSRs to which the Company’s MSR financing receivables are referenced to finance the purchase of additional MSRs.   As of March 31, 2022 and December 31, 2021, the Company’s counterparty had drawn $43,948 and $40,398, respectively, of financing secured by the MSRs to which the Company’s MSR financing receivables are referenced.

 

Under GAAP, the Company accounts for transactions executed under its arrangement with the mortgage servicing counterparty as financing transactions and reflects the associated financing receivables in the line item “MSR financing receivables” on its consolidated balance sheets.   The Company has elected to account for its MSR financing receivables at fair value with changes in fair value that are not attributed to interest income recognized as a component of “investment and derivative gain (loss), net” in the accompanying consolidated statements of comprehensive income.  As described in further detail in “Note 2. Summary of Significant Accounting Policies,” the Company recognizes interest income for MSR financing receivables by applying the prospective level-yield methodology required by GAAP for financial assets that are either not of high credit quality at the time of acquisition or can be contractually prepaid or otherwise settled in such a way that the Company would not recover substantially all of its recorded investment.

 

As of March 31, 2022 and December 31, 2021, the fair value of the Company’s investments in MSR financing receivables was $139,225 and $125,018, respectively. The following table presents activity related to the carrying value of the Company’s investments in MSR financing receivables for the periods indicated:

 

 

 

Three Months Ended March 31,

 

 

 

2022

 

 

2021

 

Balance at period beginning

 

$

125,018

 

 

$

9,346

 

Capital investments

 

 

3,187

 

 

 

20,344

 

Capital distributions

 

 

(15,120

)

 

 

 

Accretion of interest income

 

 

3,382

 

 

 

358

 

Changes in valuation inputs and assumptions

 

 

22,758

 

 

 

5,957

 

Balance at period end

 

$

139,225

 

 

$

36,005

 

 

 

Note 7. Investments in SFR Properties

 

The Company owns a portfolio of SFR homes that it operates as rental properties.  The Company is party to an agreement with a third-party investment firm to identify, acquire and manage investments in SFR properties on behalf of the Company.  Under the terms of the agreement, the Company has committed to fund up to $65,000 of capital to fund the acquisition of SFR properties.  

9


 

The Company’s commitment to fund up to $65,000 of capital may be reduced to $55,000 to the extent the Company utilizes debt financing to fund certain acquisitions of SFR properties.  The Company is obligated to pay the third-party firm a minimum fee plus an incentive fee equal to a percentage of the total investment return in excess of a hurdle rate of return.  If the Company were to terminate the commitment, the Company would incur a termination fee equal to a fixed amount less inception to date minimum fees paid to the third-party firm.

 

The Company’s investments in SFR properties are initially recognized on the settlement date of their acquisition at cost.  The Company allocates the initial acquisition cost of each property to land and building on the basis of their relative fair values at the time of acquisition.  To determine the relative fair value of land and building at the time of acquisition, the Company uses available market data, such as property specific county tax assessment records.

 

Subsequent to the acquisition of a property, expenditures which improve or extend the life of the property are capitalized as a component of the property’s cost basis.  Expenditures for ordinary maintenance and repairs are recognized as an expense as incurred and are reported as a component of “single-family property operating expenses” in the Company’s consolidated statements of comprehensive income.

 

The Company subsequently recognizes depreciation of each property’s buildings and capitalized improvements over the expected useful lives of those assets.  The Company calculates depreciation on a straight-line basis over a useful life of 27.5 years for buildings and useful lives ranging from five to 27.5 years for capitalized improvements.  The Company reports depreciation expense as a component of “single-family property operating expenses” in the Company’s consolidated statements of comprehensive income.

 

Pursuant to its SFR investment strategy, the Company leases its SFR properties to tenants who occupy the properties.  The leases generally have terms of one year or more and are classified as operating leases.  Rental revenue, net of any concessions, is recognized over the term of each lease on a straight-line basis.  If the Company determines that collectability of lease payments is not probable, any lease receivables previously recognized are reversed and rental revenue is limited to cash received.

 

Costs directly associated with the origination of a lease, such as a commission paid to a property manager when a lease agreement is obtained, are deferred at the commencement of the lease and subsequently recognized ratably as an expense over the lease term, consistent with the recognition of rental revenue from the lease.  The ratable expense recognition of lease direct costs is reported as a component of “single-family property operating expenses” in the Company’s consolidated statements of comprehensive income.  In addition to the expense items previously mentioned, “single-family property operating expenses” also include accruals for, but not limited to, third-party property management fees, local real estate tax assessments, utilities, homeowners’ association dues, insurance and interest expense incurred in financing secured by SFR properties.

 

The Company evaluates its SFR properties for impairment whenever circumstances indicate that their carrying amounts may not be recoverable.  Significant indicators of potential impairment include, but are not limited to, declines in home values, adverse changes in rental or occupancy rates and relevant unfavorable changes in the broader economy.  If indicators of potential impairment exist, the Company performs a recoverability test by comparing the property’s net carrying amount to its estimate of the undiscounted future net cash flows expected to be obtained from the use and eventual disposition of the property.  If the property’s carrying amount exceeds the Company’s estimate of the undiscounted future net cash flows expected to be obtained from the property, the Company recognizes an impairment loss equal to the amount that the property’s net carrying amount exceeds the property’s estimated fair value.  As of March 31, 2022 and December 31, 2021, the Company had not recognized any impairment losses for its investments in SFR properties.

 

As of March 31, 2022 and December 31, 2021, the Company had investments in 405 and 214 SFR properties, respectively, for a total cost of $121,962 and $61,188, respectively.  During the three months ended March 31, 2022, the Company recognized $715 of depreciation expense related to its SFR properties.  The following table summarizes the Company’s net carrying amount of its SFR properties by component as of the dates indicated:

 

 

 

March 31, 2022

 

 

December 31, 2021

 

Investments in single-family residential real estate:

 

 

 

 

 

 

 

 

Land

 

$

20,317

 

 

$

10,128

 

Buildings and improvements

 

 

101,645

 

 

 

51,060

 

Investments in single-family residential real estate, at cost

 

 

121,962

 

 

 

61,188

 

Less: accumulated depreciation

 

 

(1,010

)

 

 

(299

)

Investments in single-family residential real estate, net

 

$

120,952

 

 

$

60,889

 

 

As of March 31, 2022, the Company had commitments to acquire 49 SFR properties for an aggregate purchase price of $14,616.

10


 

 

On May 10, 2022, the Company entered into an agreement under which it made a binding commitment to sell 378 SFR properties for $132,750.  The 378 SFR properties have an estimated all-in-cost of $114,874, which includes the purchase price of the properties, closing costs and initial rehabilitation costs.  Prior to settlement, the buyer can remove up to 5% of the SFR properties from the sale transaction.  Pursuant to the agreement, the buyer may, for any reason or no reason at all, and in its sole and absolute discretion, terminate the agreement within 20 days of contract signing.  If ultimately consummated, the sale is expected to settle late in the second quarter.  As of March 31, 2022, the requirements for held-for-sale classification of the SFR properties had not been met.

 

Note 8. Consolidation of Variable Interest Entities

 

The vehicles that issue the Company’s investments in securitized mortgage assets are considered VIEs. The Company is required to consolidate any VIE in which it holds a variable interest if it determines that it holds a controlling financial interest in the VIE and is, therefore, determined to be the primary beneficiary of the VIE.  The Company is determined to be the primary beneficiary of a VIE in which it holds a variable interest if it both (i) holds the power to direct the activities that most significantly impact the VIE’s economic performance and (ii) has the obligation to absorb losses or the right to receive benefits that could potentially be significant to the VIE.  The economic performance of the trusts that issue the Company’s investments in securitized mortgage assets is most significantly impacted by the performance of the mortgage loans that are held by the trusts.  The party that is determined to have the most power to direct the loss mitigation actions that are taken with respect to delinquent or otherwise troubled mortgage loans held by the trust is, therefore, deemed to hold the most power to direct the activities that most significantly impact the trust’s economic performance.  As a passive investor, the Company does not have the power to direct the loss mitigation activities of most of the trusts that have issued its securitized mortgage assets.  

 

On September 30, 2020, the Company acquired for $10,693 an investment that represents a majority interest in the first loss position of a securitized pool of business purpose residential mortgage loans. As majority holder of the first loss position, the Company is required to approve any material loss mitigation action proposed by the servicer with respect to a troubled loan.&nb