KBRA: More smoke than fire in OcwenÕ restated earnings

Cautions that MSR transactions could see more regulatory scrutiny

Ocwen Financial Corporation (OCN) generated a few headlines last week, including here on HousingWire, when it announced that it would be restating its 2013 and 2014 earnings after its auditor found a potential “material weakness” in in the way it valued and recorded a financial transaction.

The announcement had some in the industry questioning Ocwen’s motives for the restatement and if there was more to the story.

But despite the latest report that the Securities and Exchange Commission intends to subpoena Ocwen’s documents related to the amendment of its earnings, Kroll Bond Rating Agency suggests that Ocwen’s move is due simply to a change in the views of its auditor, Deloitte & Touche, on how the transaction should be value, “rather than an error in the effectiveness of internal controls.”

According to Kroll’s report on the matter, Ocwen’s restatement stems from a sale of mortgage servicing rights between Ocwen and its affiliated company, Home Loan Servicing Solutions (HLSS).

The relationship between Ocwen and its affiliates has been under intense scrutiny for months. On Tuesday, Ocwen revealed that it received a subpoena from the SEC on its relationships with its affiliates, Altisource Residential (RESI), Altisource Asset Management Corp (AAMC), Altisource Portfolio (ASPS), and Home Loan Servicing Solutions.

In the case of the restated earnings, Kroll said, “The OCN restatement relates to the sale of MSR to HLSS and the related financing transaction, which are comprised of MSRs pledged in connection with certain rights to receive servicing fees, excluding ancillary income. The amount of the liability on the books of OCN was $634.4 million, or approximately 10% of total liabilities.”

Kroll reports that HLSS booked an asset of similar size and valued it using the same accounting methodology. On Monday, HLSS also restated its earnings to reflect the relevant changes.

“Both OCN and HLSS have indicated in their public filings that the restatements came about because of a change in accounting treatment for the MSR transaction,” Kroll stated. “We believe that the restatement came about because of a change in the advice provided to OCN by Deloitte & Touche, not because of any actions or omissions by either OCN or HLSS.”

According to Kroll, it appears that Deloitte & Touche advised Ocwen and HLSS to adjust the valuation of the MSR portfolio based on “the best available estimate of fair value, in accordance with GAAP rather than using a range of valuations.”

Kroll notes that audit firms, like Deloitte & Touche, advise public companies on how to structure their finances related to GAAP, however “the public company is ultimately responsible for the public disclosure,” which leads to the public company “taking the blame” for what its auditor advised it to do.

“KBRA believes that the ‘material weakness’ reported in the adequacy of internal controls at OCN and HLSS resulted from the inability of these two firms to anticipate a change in the views of Deloitte & Touche,” Kroll writes.

“In our view, the more interesting and significant question raised by these two accounting events is to what extent the change in position by Deloitte & Touche was driven by regulatory considerations, specifically the ongoing review process of audit firms by the Public Company Accounting Oversight Board.”

But Kroll cautions that MSR transactions may face heightened regulatory scrutiny in the future. In fact, the Consumer Financial Protection Bureau released a new bulletin on Tuesday about that very topic, suggesting that it has “heightened concern” on the MSR market.

Kroll’s Senior Managing Director Christopher Whalen predicts that MSRs will continue to be a topic of discussion for some time. “I think the more interesting question is why auditors (and/or perhaps the PCAOB) think that a 5% range is an unreasonable price for a Level 3 asset,” Whalen told HousingWire.

“The brokers who trade and sell MSRs do not give firm point in time prices. The whole disclosure by OCN and HLSS suggests to us that there is more to come on this issue.”

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