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INNOVATION
& DESIGN Home Page Architecture Brand Equity Auto Design Game Room SMALLBIZ Smart Answers Success Stories Today's Tip INVESTING Investing: Europe Annual Reports BW 50 S&P Picks & Pans Stock Screeners Free S&P Stock Report SCOREBOARDS Hot Growth 100 Mutual Funds Info Tech 100 S&P 500 B-SCHOOLS Undergrad Programs MBA Blogs MBA Profiles MBA Rankings Who's Hiring Grads | | MARCH 19, 2001  FOCUS STOCK OF THE WEEK • From S&P By Erik J. Eisenstein Web Savvy Lends Appeal to This Mortgage Banker With a technological leg up on competitors, IndyMac is ready to ride the refinancing boom
In 2000, NDE converted from a mortgage real estate investment trust (REIT) to a thrift corporate structure, enabling it to lower its costs of funding through deposit gathering and FHLB advances, and reinvest in its Internet platform. IndyMac produces most (83% in 2000) of its loans B2B (though mortgage brokers) but also increasingly funds loans directly though consumer (B2C) as well as through realtors (B2R). The company also provides builder construction loans. GROWTH STORY. One industry that has performed well in the midst of a slowing U.S. economy is residential lending. With the help of lower mortgage rates (currently hovering around 7%), existing home sales increased 3.8% in January from December, spurring the need for mortgage loans. The lower rates have also fueled refinancing activity, which is expected to drive mortgage originations to nearly $1.5 trillion in 2001, from about $1.0 trillion in 2000. Mortgage bankers, like IndyMac, should see higher profits, with an increased portfolio of fixed-rate mortgages to sell into the secondary market. The mortgage banking market is highly fragmented, and populated by commercial banks, thrifts and other mortgage companies. While lower mortgage rates should stimulate IndyMac's EPS growth in the near term, its longer-term growth prospects actually lie with the growth of on line lending. The Internet captures only a small portion of this huge market; currently estimated at a little over 1% of the mortgage originations in 2000. In spite of the slow progress to date, S&P expects this number to increase about five-fold over a five-year time horizon, with Americans becoming more comfortable with, and gaining greater access to, the Internet. A recent survey by Fannie Mae, confirmed the growth potential of this market, with a majority of Americans believing mortgage applications will be handled primarily over the Internet by 2005, indicating a growing acceptance of and belief in the inevitability of the automation of mortgage process. IndyMac's chief stragegy is to optimize the scalability of its core mortgage banking operations, though loan production growth. Despite the slower than expected development of the on-line mortgage market, and a very difficult interest rate environment in 2000, IndyMac successfully executed this strategy. Total loan production was up 45%, while its Internet volume (which comprised 69% of total volume) grew 175%, as mortgage brokers increasingly switched to the E-MITS platform. B2B Internet production grew 192%; B2C production grew 272%. IndyMac was the second only to Countrywide Credit Industries (CCR ) in one-line originations in 2000. After ramping up production while the mortgage industry slipped, NDE increased its market share to 1.14%, and at year end was the 22nd largest mortgage lender nationwide, with a goal towards entering the top ten by 2003. TECHNOLOGICAL EDGE. Although competition in the online market should intensify, as other lenders move to build their on-line capabilities, S& P believes that IndyMac can continue to be a market leader, due largely to its early-stage entrance technological advantage over more recent arrivals. As one of the first lenders to move on line, IndyMac still has a technological advantage over recent arrivals: IndyMac's E-MITS system has developed a large following amongst the mortgage brokerage community. Also, building the scale necessary to reach profitability in on-line lending will prove troublesome for smaller entrants, as discovered by Mortgage.Com (currently out of business) and E-Loan (currently trading at less than $1 a share), who were/are largely dependent on direct consumer channels of production. BOOM TIMES. Despite increased competition and more difficult year-to-year earnings comparisons, S&P believes that the continued development of the online mortgage market, combined with the benefit of the current refinancing boom, should enable IndyMac to achieve loan growth of about 50-55% in 2001. This loan growth should fuel about 40% growth in net revenue, with loan sale gains far outweighing reductions in servicing fees caused by refinancing induced mortgage prepayments. IndyMac's operating costs, as a percentage of net revenues (the efficiency ratio) were below average in 2000 (about 52%) although this number was inflated by infrastructure investments made in the latter half of the year. S&P anticipates that efficiency will start to improve towards year-end, although we are forecasting a similar full-year efficiency ratio. Standard & Poor's is projecting operating EPS for IndyMac of $1.89 in 2001 (43% growth from 2000 operating EPS of $1.32). In 2002, we are conservatively predicting loan growth of about 20-25% increasingly fueled by B2C. The slower loan growth will be offset not only by better efficiency (under 50%) but also by a less expensive cost of funds, as deposit growth to about $1.5 billion flows through their bottom line. S&P projects operating EPS at $2.39 in 2002 and a long-term EPS growth rate slowing to about 17% over the next several years. Credit quality is not a major concern with valuation reserves at 5.3 times annualized chargeoffs at the end of 2000. The shares are trading at about 2.2 times their book value, which is about average for its S&L peers. IndyMac also trades at about 13.5 times our 2001 EPS estimate, which is only slightly above a typical thrift valuation, though well below those of the broader market. S&P's 12-month price target is $32, derived by applying a 17 multiple to our 2001 EPS estimate of $1.89. This multiple, combined with our 17% long-term growth projection, would yield a price to earnings to growth (PEG) multiple of 1, roughly in line with the PEG ratios of other thrifts and the S&P 500.  Eisenstein is a savings and loan industry analyst for Standard & Poor's Any advice, analysis, or recommendations contained in articles labeled "Advice from Standard & Poor's" reflect the views of Standard & Poor's, which operates separately from and independently of Business Week Online. It is possible that BWOL may from time to time publish information that is not consistent with advice, analysis or recommendations that are published by Standard & Poor's. Standard & Poor's and Business Week Online are each units of The McGraw-Hill Companies, Inc.  | | |
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