ResCap May Sharply Cut Production

ResCap’s fourth quarter 2006 net loss of $651 million was primarily confined to areas with subprime exposure, parent GMAC Financial Services said in a slide presentation filed with the Securities and Exchange Commission. Annual net earnings of $182 million were way off from over $1.0 billion in 2005.

Because the unfavorable market conditions that prevailed at the end of 2006 continue to persist, GMAC will make changes to abate pressure on income related to nonprime assets, the presentation indicated. It will “sharply” reduce nonprime origination volume through tighter underwriting criteria and pricing changes and engage in a “structural cost reduction as business is right sized for the lower industry volume,” among other strategic initiatives.

ResCap “did not move quickly enough to reduce exposure” in the face of the cyclical downturn in the subprime mortgage business, which occurred “very rapidly” following one of the strongest historical periods of performance from 2001 to 2005, the parent reported.

“ResCap leaned away from the subprime market in 2006, but still held substantial exposure when dislocation occurred” in the fourth quarter, the parent added. “ResCap was too slow to reduce infrastructure and modify business processes” amid the new market conditions.

The lender was the seventh-largest originator in the nation last year with $161.6 billion in reported originations, of which 19 percent consisted of subprime loans. In 2005, about 23 percent of ResCap’s overall production of $159.1 billion was subprime. ResCap also held that rank in servicing, with a $412.4 billion portfolio, of which 14 percent consisted of subprime loans.

As of yearend, subprime loans represented 75 percent of its loans held for investment and 32 percent of its loans held for sale.

In the held-for-sale portfolio, disruptive trends cited for the fourth quarter that are continuing into 2007 were “dramatically” increased early payment defaults, investors kicking out all delinquent loans, and investors rejecting performing loans with layered risk and other risky features.

“We have analyzed our production and identified the portion of loans responsible for early payment default issues,” the company said in the presentation. “We have implemented underwriting changes to restrict and eliminate new production of these loans.”

Enough cash and equity are in ResCap’s hands to meet all debt obligations, retain certain assets during periods of severe market liquidity, and take advantage of market dislocation by acquiring certain assets opportunistically, the parent reported. As of yearend, it had $2.0 billion in cash and $7.6 billion equity.