MKP MCAN Mortgage Corporation

Stock market symbol
TSX: MKP

TORONTO, Feb. 23, 2015 /CNW/ - MCAN Mortgage Corporation's ("MCAN", the "Company" or "we") net income for the fourth quarter of 2014 was $7.1 million, compared to $13.0 million (on a restated basis for our change in income tax accounting noted below) in 2013.  Earnings per share were $0.34, down from $0.65 (restated) in the prior year.  Return on average shareholders' equity was 12.76% for the quarter, down from 24.74% (restated) in the fourth quarter of 2013.

The decrease in net income from the fourth quarter of 2013 was primarily due to a $4.5 million gain recorded on the dilution of our equity investment in MCAP Commercial LP ("MCAP") in 2013.  Additionally, we recognized additional mortgage interest income in the prior year from a higher-yielding mortgage portfolio purchased at a discount to its net book value as part of the July 4, 2013 acquisition of Xceed Mortgage Corporation ("Xceed").  These decreases were partially offset by higher equity income from MCAP, higher securitization income from growth in the market mortgage-backed securities ("MBS") program and a $1.1 million gain on the sale of foreclosed real estate in 2014.

Quarterly net income increased by $2.3 million from the prior quarter ended September 30, 2014.  The increase is a result of increases of $932,000 in equity income from MCAP and $693,000 in securitization income, in addition to the aforementioned gain on sale of foreclosed real estate.  This increase was partially offset by an $852,000 increase in the realized and unrealized loss incurred on financial instruments.

Net income for the year ended December 31, 2014 was $25.4 million, down from $30.8 million in the prior year.  Earnings per share decreased from $1.57 to $1.23, while return on average shareholders' equity decreased from 15.84% to 11.50%.  In addition to the items noted above for the fourth quarter, we recognized other non-recurring items in the prior year as part of the acquisition of Xceed including a bargain purchase gain, which was mostly offset by transaction and restructuring expenses incurred as part of the transaction.  Additionally, operating expenses increased in 2014 as a result of an increase in the scale of operations from a full year of the consolidation of Xceed operations compared to six months in 2013.

The Board of Directors (the "Board") declared a first quarter regular dividend of $0.28 per share to be paid March 31, 2015 to shareholders of record as of March 16, 2015.

Corporate assets totalled $1.04 billion as at December 31, 2014, down slightly from $1.06 billion as at September 30, 2014.  Activity for the quarter included decreases of $35 million in cash and cash equivalents and $5 million in foreclosed real estate, and increases of $11 million in mortgages and $9 million in financial investments.

We separate our assets into corporate and securitization portfolios for reporting purposes.  Corporate assets represent our core strategic investments and are funded by term deposits and share capital.  Securitization assets consist primarily of mortgages securitized through the market MBS program and Canada Mortgage Bonds ("CMB") program that are subsequently sold to third parties, in addition to reinvestment assets purchased with CMB program mortgage principal repayments.  These assets are funded by the cash received from the sale of the associated securities and are classified as financial liabilities from securitization.

Net Investment Income - Corporate Assets:  Net investment income from corporate assets was $10.3 million in the quarter, down from $11.0 million in the prior year.

Mortgage interest income decreased to $12.5 million in the quarter from $15.1 million in the prior year.  The decrease was primarily due to the impact of the higher effective interest rates earned in the prior year on the mortgages acquired as part of the acquisition of Xceed, as the reduction in higher-yielding mortgages was the primary factor in the average mortgage yield decrease from 6.70% in 2013 to 5.43% in 2014.  Given the short duration of the acquired mortgages, the average corporate mortgage yield has now returned to market levels.  The average mortgage portfolio balance increased from $905 million in 2013 to $914 million in 2014.

Excluding the mortgages acquired from Xceed, the average yield decreased from 5.60% to 5.43%.  The balance of the decrease in the corporate yield from the prior year was due to a lower yield on our construction loan portfolio as a result of lower commitment fees earned during the quarter. 

Equity income from our ownership in MCAP increased to $1.8 million in the quarter from $303,000 in the prior year, primarily due to significantly higher origination fee income and gains from securitization investments earned in MCAP in the quarter.  This was partially offset by a decrease in our equity interest in MCAP from 23.38% in the prior year to 14.75% in the current year.  MCAP's origination volumes were $11.5 billion in 2014.  MCAP had $46.1 billion of assets under administration as at November 30, 2014.

Fees consisting primarily of extension, renewal and letter of credit fees earned on our corporate mortgage portfolio, decreased slightly to $901,000 in the quarter from $923,000 in the prior year.

Marketable securities income increased to $591,000 in the quarter from $269,000 in the prior year as a result of a higher average yield and portfolio size in the current year. 

Whole loan gains on sale were $255,000 in the quarter, down from $1.7 million in the prior year.  The prior year included a $1.3 million gain on sale of a mortgage portfolio acquired separately from the Xceed acquisition.  We regularly sell mortgages to third-party aggregators on a whole-loan basis with mortgage premiums received at the time of sale.

The realized and unrealized loss on financial instruments increased significantly to $971,000 in the quarter from $341,000 in the prior year. These losses relate to the hedging of mortgage funding commitments to mitigate interest rate risk.  We enter into forward starting interest rate swaps with a financial institution as part of this hedge.  To the extent that the related hedged mortgages are sold, offsetting gains or losses are recognized in the period that the mortgages are sold or over the term of the mortgage.  The loss in the fourth quarter of 2014 was due to a significant drop in market interest rates during this period.

In the fourth quarter of 2014, we recorded a $1.1 million gain on the sale of foreclosed real estate.

Term deposit interest and expenses increased to $5.2 million in the quarter from $5.1 million in the prior year as a result of a $28 million increase in the average term deposit balance from $792 million in 2013 to $820 million in 2014.  The average term deposit rate decreased from 2.46% in 2013 to 2.43% in 2014.

Mortgage expenses, consisting primarily of mortgage servicing fees, decreased to $928,000 in the quarter from $972,000 in the prior year.  Although the average mortgage portfolio increased slightly in 2014, the average servicing rate decreased from 2013.

Interest on loans payable decreased to $294,000 in the quarter from $680,000 in the prior year as a result of a decrease in the volume of borrowings to facilitate the warehousing of mortgages prior to their sale as whole loans or through the market MBS program.

We recorded $304,000 of recoveries of credit losses during the quarter compared to $420,000 of provisions for credit losses in the prior year.  The change from the prior year is primarily due to a $766,000 reduction in the reserve associated with Xceed's off balance securitization portfolio compared to $60,000 in the prior year.  In addition, collective mortgage provisions decreased to $230,000 in 2014 from $431,000 in 2013, consistent with lower corporate mortgage portfolio growth in the current year.  These items were partially offset by a $275,000 individual allowance recorded against a residential construction loan in the current quarter.  Net write-offs were $263,000 (11.5 basis points) during the current quarter compared to $138,000 (6.1 basis points) in the prior year.

Other Income - Corporate Assets:  Other income from corporate assets was $5.2 million in the prior year, consisting of a $4.5 million gain on the dilution of our equity investment in MCAP and a $736,000 gain on the partial sale of the equity investment.  In the current quarter, we recognized a dilution gain of $71,000 upon the issuance of new units to an existing partner of MCAP at $13.84 per unit, reducing our ownership interest from 14.82% to 14.75%.

Net Investment Income - Securitization Assets:  Net investment income from securitization assets relates to MCAN's participation in the market MBS program and the CMB program. For further details on these programs, refer to the "Securitization Programs" section of the Management's Discussion and Analysis ("MD&A"). We expect net investment income from the market MBS program to increase as we securitize additional mortgages through this program. As existing CMB issuances continue to mature, we expect net investment income from CMB assets to decrease as the related mortgages and reinvestment assets are removed from our balance sheet.

Net investment income from securitization assets was $470,000 in the quarter compared to $22,000 in the prior year, net of a $133,000 negative fair market value adjustment on derivative financial instruments (2013 - $512,000 negative adjustment).  Current quarter activity consisted of income of $621,000 from the market MBS program (2013 - $92,000) and a loss of $151,000 from the CMB program (2013 - $70,000).

Mortgage interest income of $4.3 million increased significantly from $1.6 million in the prior year.  The current quarter consisted of $4.2 million of income from the market MBS program (2013 - $212,000) and $65,000 from the CMB program (2013 - $1.4 million). In the current quarter, the market MBS portfolio average balance was $617 million and its average yield was 2.73%.  The CMB program average portfolio balance decreased significantly from $480 million in 2013 to $30 million in 2014 as a result of a significant volume of CMB mortgage maturities throughout 2013 and 2014, while the average CMB mortgage yield also decreased from 3.62% in 2013 to 3.15% in 2014. 

As a result of a significant decrease in the average portfolios due to the maturity of CMB-related reinvestment assets, interest on financial investments decreased to $8,000 in 2014 from $246,000 in 2013, and interest on short-term investments decreased to $90,000 in 2014 from $319,000 in 2013.

Other securitization income was $131,000 in 2014 compared to $945,000 in the prior year, consisting primarily of interest rate swap receipts. As part of the CMB program, we enter into "pay floating, receive fixed" interest rate swaps to hedge interest rate risk, however interest rate swap activity has decreased as CMB assets have continued to mature.

Interest on financial liabilities from securitization increased to $3.6 million in 2014 from $2.5 million in 2013. The current quarter consisted of $3.3 million from the market MBS program (2013 - $117,000) and $307,000 from the CMB program (2013 - $2.4 million). In the current quarter, the market MBS liability average balance was $610 million and its average interest rate was 2.17%.  The CMB program securitization liability average balance decreased significantly from the prior year as a result of CMB issuance maturities throughout 2013 and 2014.

The negative fair market value adjustment to derivative financial instruments of $133,000 (2013 - negative adjustment of $512,000) relates to the CMB interest rate swaps.  The unrealized portion of this fair market value adjustment can be volatile as it is driven by changes in the forward interest rate curve.  From an economic perspective, this adjustment is generally offset by changes in future expected income from securitized mortgages and principal reinvestment assets that have a floating interest rate.  We regularly monitor our interest rate swap hedge position to minimize our exposure to interest rate risk.

Operating Expenses:  Operating expenses were $3.2 million in the quarter, down from $3.8 million in 2013.  Salaries and benefits decreased slightly from $1.9 million in 2013 to $1.8 million in 2014, while general and administrative expenses decreased from $1.9 million to $1.4 million as a result of lower professional fees in the current quarter.

Income Taxes:  In the current quarter we incurred a tax expense of $473,000 compared to a recovery of $517,000 in the prior year.  We incurred deferred taxes in the current year from the partial application of loss carry forwards as a result of taxable income earned in subsidiaries, whereas in the prior year we had a recovery of deferred taxes as a result of taxable losses in subsidiaries.

Taxable income was $1.4 million ($0.07 per share) in the current quarter compared to $6.4 million ($0.32 per share) in the fourth quarter of 2013.  During the quarter, we incurred $3.4 million of up-front origination costs on mortgages securitized through the market MBS program, which are expensed for tax purposes and amortized for accounting purposes. 

Credit Quality:  Impaired mortgages were $8.4 million as at December 31, 2014, up from $4.1 million as at September 30, 2014.  The increase was primarily due to the impairment of two new residential construction loans during the quarter.  The total impaired mortgage ratio was 0.50% as at December 31, 2014, up from 0.25% as at September 30, 2014 while the corporate impaired mortgage ratio also increased to 0.92% as at December 31, 2014 from 0.43% as at September 30, 2014. 

Corporate mortgage arrears and impaired mortgages were $30 million as at December 31, 2014, up from $28 million as at September 30, 2014.  Securitized mortgage arrears were $9 million as at December 31, 2014, up from $7 million as at September 30, 2014.

Financial Position:  Total assets were $1.80 billion as at December 31, 2014, consisting of $1.04 billion of corporate assets and $760 million of securitization assets.  

As we securitize mortgages into the market MBS program, assets are effectively transferred from corporate mortgages to securitized mortgages on the balance sheet.  The change contributes to changes in asset levels when mortgages purchased are securitized in the following quarter.

Securitization assets increased by $103 million during the quarter. Activity for the quarter included an increase of $163 million in mortgages related to the market MBS program, offset by the maturity of CMB-related assets of $60 million.

Term deposit liabilities were $822 million at December 31, 2014, down $5 million from $827 million as at September 30, 2014.

Financial liabilities from securitization were $746 million as at December 31, 2014, up $102 million from $644 million at September 30, 2014.  Activity for the quarter included an increase of $163 million related to the market MBS program and a decrease of $61 million in liabilities related to the CMB program.  Our existing financial liabilities from securitization mature as follows: 2015 - $38 million (CMB program), 2018 - $158 million (market MBS program) and 2019 - $550 million (market MBS program).

Total shareholders' equity was $225 million as at December 31, 2014, up from $221 million as at September 30, 2014. Activity for the quarter included net income of $7.1 million, the payment of the fourth quarter dividend of $5.8 million and an increase to accumulated other comprehensive income of $3.3 million.

Asset Capacity:  As at December 31, 2014, our remaining income tax asset capacity, based on our target income assets to capital ratio of 5.75, was $145 million.

Outlook:  Canadian real estate markets have remained balanced in 2014 and are expected to remain balanced, with the exception of Alberta, as unsold inventory levels remain moderate and developers adjust to market conditions.  The housing market is expected to encounter economic headwinds in Western Canada as we expect reductions in sales volumes as a result of the recent declines in oil prices and the cancellations of capital expenditures in the oil and gas sector to affect employment and consumer demand.  The recent interest rate cut by the Bank of Canada should help to soften the impact on the housing market as lower rates are priced into markets, facilitating lower borrowing costs and increased consumer spending. The lower Canadian dollar will strengthen export activities for Ontario and British Columbia with building products and automotive industries seeing significant growth as the United States experiences an improvement in consumer spending and a housing recovery. 

In 2015, housing markets outside of Western Canada should continue to benefit from the low interest rate environment and stable job growth.  Recent volatility in the stock market and the price of oil are expected to have a negative influence on the housing market throughout 2015 as they impact consumer confidence.  We expect mortgage rates to remain at historical lows, supporting demand for housing such that markets will remain stable with the exception of western Canada.

MCAN's growth strategy remains focused on the insured and uninsured single family mortgage portfolios, through our direct origination platform through Xceed as well as originations sourced by MCAP.  We continue to observe growth in this asset class, with originations strengthening during 2014.  This allowed us to grow our corporate assets, further diversify and re-balance our mortgage portfolio while optimizing returns and improving our risk profile.  Not considering market conditions, our future pace of growth is also directly tied to our income tax asset capacity and Total Capital (for further information, refer to the "Non-IFRS Measures" section of the MD&A).

Following a year where we issued and sold $561 million of market MBS, we plan to continue our participation in this program based on favourable market spreads. 

We expect construction activity to moderate nationally, with Ontario and British Columbia benefiting from the recent decline in the Canadian dollar, which supports increased export gains, provincial GDP growth and strong employment growth.  Attractive mortgage rates and consumer savings from cheaper fuel costs should strengthen consumer confidence in most of Canada. 

We continue to monitor the Alberta housing market closely, given the recent decline in oil prices. Our Alberta portfolio remains well balanced with projects supported by strong presales and experienced builders and developers. We expect ‎the impact of weakness in oil prices to result in a significant slowdown in economic activity in the region, which would result in a slowdown in housing starts and sales and some reduction in home prices. 

The Basel III Liquidity Adequacy Requirements Guidelines came into effect on January 1, 2015.  To ensure compliance with the new guidelines, we changed the composition of our liquid assets in late 2014.  A key modification to our liquid asset position has been an increase in our holdings of "High Quality Liquid Assets" such as MCAN-issued NHA MBS securities.  The Basel III Leverage Ratio, which replaces the Assets to Capital Multiple as the metric that governs our regulatory asset limits, also came into effect on January 1, 2015; however, we do not expect its implementation to significantly impact our operations or business plans.

Accounting Policy Change:  On January 1, 2014, we changed our accounting policy with respect to income taxes.  As a mortgage investment corporation ("MIC") under the Income Tax Act (Canada) (the "Tax Act"), we intend to pay sufficient dividends in current and future years to ensure that we are not subject to income tax.  Accordingly, we elected to no longer record a provision for current or deferred income taxes within the MIC entity.  This change in policy was applied retrospectively as at January 1, 2013.  We believe that this change will eliminate the income tax volatility in our income statement, and it is consistent with the approach that other MICs in our industry take in accounting for taxes.

Non-IFRS Measures:  The following metrics are considered to be Non-IFRS measures and are defined in the "Non-IFRS Measures" section of the MD&A: Return on Average Shareholders' Equity, Taxable Income, Taxable Income Per Share, Average Interest Rate, Net Interest Income, Impaired Mortgage Ratios, Common Equity Tier 1, Tier 1 and Total Capital Ratios, Assets to Capital Multiple; Risk Weighted Asset Ratios, Tier 1, Tier 2, Tier 3 and Total Liquid Assets and Liquidity Ratios, Income Tax Assets, Income Tax Liabilities, Income Tax Capital, Income Tax Assets to Capital Ratio, Income Tax Asset Capacity, Market Capitalization, Book Value per Common Share Limited Partner's At-Risk Amount and Impaired Mortgage Ratios.

Further Information:  Complete copies of the Company's 2014 Annual Report will be filed on the System for Electronic Document Analysis and Retrieval ("SEDAR") at www.sedar.com and on the Company's website at www.mcanmortgage.com.

MCAN is a public company listed on the Toronto Stock Exchange ("TSX") under the symbol MKP and is a reporting issuer in all provinces and territories in Canada.  MCAN also qualifies as a mortgage investment corporation ("MIC") under the Income Tax Act (Canada) (the "Tax Act").

The Company's primary objective is to generate a reliable stream of income by investing its corporate funds in a portfolio of mortgages (including single family residential, residential construction, non-residential construction and commercial loans), as well as other types of financial investments, loans and real estate investments. MCAN employs leverage by issuing term deposits eligible for Canada Deposit Insurance Corporation ("CDIC") deposit insurance up to a maximum of five times capital (on a non-consolidated tax basis in the MIC entity) as permitted by the Tax Act.  The term deposits are sourced through a network of independent financial agents. As a MIC, MCAN is entitled to deduct from income for tax purposes 100% of dividends, except for capital gains dividends, which are deducted at 50%.  Such dividends are received by the shareholders as interest income and capital gains dividends, respectively.

MCAN's wholly-owned subsidiary, Xceed, focuses on the origination and sale to third party mortgage aggregators of residential first-charge mortgage products across Canada.  As such, Xceed operates primarily in one industry segment through its sales team and mortgage brokers.

MCAN also participates in the market MBS program, the CMB program and other securitizations of insured mortgages.

A CAUTION ABOUT FORWARD-LOOKING INFORMATION AND STATEMENTS

This press release contains "forward-looking statements" within the meaning of applicable Canadian securities laws.  The words "may," "believe," "will," "anticipate," "expect," "planned," "estimate," "project," "future," and other expressions that are predictions of or indicate future events and trends and that do not relate to historical matters identify forward-looking statements. Such statements reflect management's current beliefs and are based on information currently available to management. The forward-looking statements in this press release include, among others, statements and assumptions with respect to:

• the current business environment and outlook;
• possible or assumed future results;
• ability to create shareholder value;
• business goals and strategy;
• the stability of home prices;
• effect of challenging conditions on us;
• factors affecting our competitive position within the housing markets;
• sufficiency of our access to capital resources; and
• the timing of the effect of interest rate changes on our cash flows.

The material factors or assumptions that were identified and applied by us in drawing conclusions or making forecasts or projections set out in the forward-looking statements include, but are not limited to:

• the Company's ability to successfully implement and realize on its business goals and strategy;
• factors and assumptions regarding interest rates;
• housing sales and residential mortgage borrowing activities;
• the effect of competition;
• government regulation of the Company's business;
• computer failure or security breaches;
• future capital and funding requirements;
• the value of mortgage originations;
• the expected margin between the interest earned on mortgage portfolios and the interest to be paid on deposits;
• the relative continued health of real estate markets;
• acceptance of the Company's products in the marketplace;
• availability of key personnel;
• the Company's operating cost structure; and
• the current tax regime.

Reliance should not be placed on forward-looking statements because they involve known and unknown risks, uncertainties and other factors, which may cause the actual results to differ materially from the anticipated future results expressed or implied by such forward-looking statements. Factors that could cause actual results to differ materially from those set forth in the forward-looking statements include, but are not limited to:

• global market activity;
• worldwide demand for and related impact on commodity prices;
• changes in government and economic policy;
• changes in general economic, real estate and other conditions;
• changes in interest rates;
• changes in MBS spreads and swap rates;
• MBS and mortgage prepayment rates;
• mortgage rate and availability changes;
• adverse legislation or regulation;
• availability of CMB and MBS issuer allocation;
• technology changes;
• confidence levels of consumers;
• ability to raise capital and term deposits on favourable terms;
• our debt and leverage;
• competitive conditions in the homebuilding industry, including product and pricing pressures;
• ability to retain our executive officers and other employees;
• litigation risk;
• relationships with our mortgage originators;
• ability to realize anticipated benefits from the acquisition of Xceed; and
• additional risks and uncertainties, many of which are beyond our control, referred to in this press release and our other public filings with the applicable Canadian regulatory authorities.

Subject to applicable securities law requirements, we undertake no obligation to publicly update any forward-looking statements whether as a result of new information, future events or otherwise.  However, any further disclosures made on related subjects in subsequent reports should be consulted.

SOURCE MCAN Mortgage Corporation