By Herb Greenberg, CBS MarketWatch.com
Last Update: 12:01 AM ET May 27, 2004
When Novastar (NFI: news, chart, profile) reported first-quarter earnings several weeks ago, one of the bright spots was its interest income from investments in mortgage securities. It nearly doubled from a year earlier to $33.2 million for the quarter. The company didn't disclose anything at the time that would suggest the number was inflated by something that previously hadn't been there, or that had been there but previously hadn't been disclosed.
Enter the recently filed 10-Q and a new line item in the "supplemental disclosure of cash flow" table: Cash received on mortgage securities with no cost basis -- $10.3 million.
What's that? For an answer, see page 16 of the quarterly filing, a disclosure Novastar has made quarterly for five quarters: "During the past two years, interest expense on asset-backed bonds has been unexpectedly low. As a result, the spread between the coupon interest and the bond cost has been unusually high. As a result, our cost basis in many of our mortgage securities has been significantly reduced. ... When our cost basis in the retained securities (interest only, prepayment penalty and subordinated securities) reaches zero, the remaining future cash flows received on the securities are recognized entirely as income."
So, $10.3 million, or one-third of last quarter's interest income from mortgage securities, came from something new -- or nearly new.
Turns out these no-cost-basis securities have generated income in the three prior quarters, but you would only know that if you read the fine print of the disclosure I mentioned earlier -- the part I eliminated with an ellipse (the three dots) -- and then understood the nuances of what you were reading. Even then, there was no line item telling how much income related to the no-cost-basis securities added to income.
That changed, said attorney Lanny Davis, an outside spokesman, because the company decided to "more clearly define the portion of interest income that is accretion of the basis versus cash where there was no basis." (His words, not mine.)
Davis added that the decision to disclose "had no impact on the actual earnings results; it was just a matter of additional clarity."
Which begs the question: If it was $10.3 million last quarter, what was it for the prior three quarters? According to Davis, it was $10 million in the fourth quarter, $7 million in the third quarter, $3 million in the second quarter and zero in the first quarter.
CEO Scott Hartman said the figure wasn't broken out previously because it was part of the overall mortgage portfolio; he added that there will be extra income from zero-cost basis securities "in the future given our business model."
Why wasn't the figure mentioned in the earnings release? "It was judged not to be a significant item," Davis said.
Maybe not as it pertains to the entire financial statement, but it came out of nowhere to be one of the most significant contributors to Novastar's single most significant source of revenue.
Silly me for thinking it was something worthy of the earnings release.
Meanwhile, now I know why my ears were unusually hot Tuesday. (And it wasn't because of the weather in San Diego, which is unusually cold.) At its annual meeting, according to the Kansas City Star, the last slide in Hartman's presentation was titled, "Success Creates New Challenges." It listed five items: an article in the Wall Street Journal, a review of Novastar's branch operations, the class-action lawsuits, an inquiry by the Securities and Exchange Commission and (drumroll, please) Herb Greenberg.
"I don't know what I ever did to Herb Greenberg," the newspaper reported Hartman told shareholders, "but for some reason he doesn't like us."
"Herb is Herb," he added. "He is tenacious, but he's also off base."
Off base? Time will tell, but at least Hartman and I do agree on one thing: For better or worse, I am who I am. |
