Street Capital Announces 2018 First Quarter Results

TORONTO, May 14, 2018 /CNW/ - Street Capital Group Inc. ("Street Capital" or the "Company") (TSX: SCB), today announced its financial results for the three months March 31, 2018.

Q1-2018 Financial Highlights

All comparisons below are to Q1-2017, unless otherwise noted

• Total revenue (net of acquisition costs) was flat at $11.6 million.
• Reported shareholders' diluted loss per share were ($0.01), compared to $(0.02).
• Adjusted shareholders' diluted loss per share ⁽ⁱ⁾ were ($0.01), compared to $0.00.
• Adjusted return on tangible equity ⁽ⁱ⁾ was (4.9%), compared to 0.7%.
• Book value per share was $1.12, compared to $1.09.
• Mortgages under administration were $27.83 billion, compared to $27.81 billion.
• Total prime originations and renewals were $1.35 billion, compared to $1.52 billion.
• Total Street Solutions originations were $98.3 million in Q1-2018.

"During Q1, the Company made meaningful progress against its objectives in an environment of lower market volume and a highly competitive environment," said Duncan Hannay, President and CEO of Street Capital. "Q1 was another period of solid growth for Street Capital Bank's highly profitable renewal book, as well as its Street Solutions non-prime mortgage portfolio, where both origination volume and spreads were well within targeted ranges. During Q1, management also secured an initial round of funding to support lending in the prime uninsurable segment, which enables Street Capital Bank to broaden its shelf of mortgage solutions to its valued mortgage broker partners. Moving into Q2 and the balance of 2018, management expects to see a pick-up in operating results as the marketplace starts to normalize and as Street Capital Bank's on-balance sheet business becomes more meaningful to the Company's financial results."

Business Commentary and Outlook

Note to readers: This section includes forward-looking information and is qualified in its entirety by the discussion about Forward-Looking Information, below.

The first quarter of 2018 saw soft housing sales and slower housing market activity across the Company's lending areas, resulting in lower prime insurable mortgage originations in the quarter. As expected, the tighter mortgage lending rules imposed from regulatory changes over the last two years, along with higher interest rates and the forecasted decline in GDP growth, have begun to slow housing activity. Management views a general softening as a positive course towards more normalized and sustainable housing markets.

While management believes that housing market fundamentals remain supportive, housing markets, and thus mortgage origination volumes, continue to face policy-related headwinds. Recently, this has included the provincial policy measures in B.C. and Ontario, and a new qualification stress test on a large segment of mortgage applications. Additionally, interest rates have risen and are widely expected to rise further this year. The combination of higher interest rates and stress tests makes it harder for homebuyers to qualify for the mortgage they may require. As a result, some homebuyers will be likely to stay on the sidelines amid heightened housing market uncertainty, and continue saving for a larger down payment before purchasing. These factors are largely expected to contribute to lower housing activity in the first half of 2018 as the market adjusts to the changing landscape. Current forecasts continue to predict relatively stable employment and high immigration rates, which are largely supportive of an expected modest rebound of activity in the second half of 2018 as housing market uncertainty begins to fade.

The Company experienced materially lower prime insurable mortgage originations in the quarter, 31% lower than the same period last year. While the decline is consistent with overall housing market softness in the quarter, it is also due to both the relatively higher level of originations in Q1 2017 ahead of the mortgage insurance eligibility changes, and the Company's access to prime uninsurable funding early in 2017, which increased its addressable market. Offsetting the relatively disappointing prime insurable originations was the continued growth in the revenue contribution of both prime renewal activity and the Street Solutions portfolio, where combined revenue grew $3.9 million over Q1 2017.

Also on a positive note, the Company has secured an initial round of funding for prime uninsurable mortgages, a product the Company was largely locked out of in 2017 after the mortgage insurance eligibility rule changes. The Company has begun taking commitments for this product in the second quarter, effectively increasing its product shelf offering. The ultimate success and sustainability of the prime uninsurable mortgage product, given the Company's current business model, will be the development of a sufficiently liquid and active non-government sponsored Residential Mortgage Backed Securities (RMBS) market. Until this market develops, management is not including material volumes or profit for this product in its forecasts.

Management continues to expect that 2018 will be both a pivotal and foundational year for the Company as it continues to adapt to the changing business and market landscape, grows its balance sheet, builds the foundational elements to enable realization of its strategy, and improves its financial performance for the full year. The Company recognizes that challenges remain in the market. The business model, by its nature, is affected by the strength and health of the mortgage and real estate markets, as well as the changing regulations and policies that govern these markets. Part of the Company's strategic imperative over the medium to long term is to continue to transform the business model from a mono-line prime mortgage originator into a full suite mortgage lender with access to multiple on- and off-balance sheet funding channels that both support growth objectives and diversify revenue sources.

Prime Mortgage Originations

As management expected, the competition for prime insurable mortgages remained high in the first quarter and it is anticipated to remain this way through the remainder of the year. Combined with slower housing market activity in the first half of the year, this will likely lead to overall prime insurable mortgage activity that is flat to moderately declining compared to 2017. This view reflects the current economic forecasts, moderating housing prices, and expected interest rate increases. Rising bond yields and price competition for prime insurable mortgages have continued to put negative pressure on the gain on sale rates earned for these mortgages into 2018. While the Company has seen some improvement over the quarter, given competition and the start of the spring season, it is still too early to determine if gain on sale rates will improve noticeably in the short-term.

As noted above, the Company has secured funding for a prime uninsurable mortgage product. This may offset some of the pressure on the prime insurable originations volumes. As indicated, the profitability and sustainability of this product is not yet clear; however, management is cautiously optimistic on the development of the market, and will provide updates on progress once there is better clarity.   

Prime Mortgage Renewals

Softness in new originations of prime insurable mortgages continues to be partly offset by the Bank's expected highly profitable mortgage renewal activity in 2018. Management continues to expect renewal origination in the range of $2.20-$2.40 billion.

This activity will be at lower net gain on sale rates compared to 2017 due to a few factors. First, from the period January 2011 – July 2015, the Company offered brokers a Loyalty Program that pays a trailer commission upon mortgage renewal. The bulk of mortgages originated under this program are due to mature between 2018 and 2020, effectively increasing acquisition costs for renewals. Second, the Company has differing contracts with funders, which determine the premiums paid on renewal. A higher relative proportion of renewals in 2018 with a funder who pays a lower premium on renewal will put some downward pressure on gain on sale rates. And, third, renewals are subject to the same margin pressure as new prime originations. Even with these pressures on the gain on sale rates for renewals, they are still materially more profitable than new originations and will continue to significantly contribute to improved financial results.  

It should be noted that optimizing contribution from mortgage renewals is a strategic priority for management. In that regard the Bank will continue to focus on its service and retention activities. The Bank's over $27 billion of prime MUA provides both a sustainable portfolio of quality revenue generating assets and a customer base to drive significant value over the coming years as the Bank expands into additional product areas.

Street Solutions Uninsurable Residential Mortgage Lending 

The Bank launched its uninsured mortgage product, Street Solutions, in Q2 2017. The market response was positive and demand was strong, with many existing mortgage broker partners welcoming another provider in this segment. In mid-October 2017 the Bank put a hold on new commitments for closings in 2017 as it had met its funding targets for that year, but continued to accept commitments for 2018. The Bank is experiencing continued strong demand for the Street Solutions product, at high levels of credit quality, and expects to meet its target originations of $600 - $700 million for this product in 2018 with net interest margins within 2.0% - 2.35% for those funded on-balance sheet. 

Funding and Liquidity

As noted above under Prime Insurable Residential Lending, when investors purchase prime insurable mortgages at commitment, the Company transfers substantially all of the risks associated with the mortgage. The Company's access to this funding is more than adequate, and the Bank remains competitive in this mortgage segment. Also, as mentioned above, the Company has been successful in obtaining initial funding for a prime uninsurable mortgage product.

Deposit balances, sourced through the investment broker network, were $382.5 million at the end of the quarter, increasing $89.5 million from the end of 2017 and $380.1 million from one year ago. The Company continues to onboard new brokers in order to increase diversification and volume in the channel, and will remain very active in this regard.

The funding strategy continues to be to originate deposits across tenors and focus on deposits with fixed terms in order to manage liquidity risk.

Operating Expenses

Given the seasonality of revenue in the current business model, positive operating leverage was not achieved as measured on a quarterly basis, however; the Company continues to target the achievement of positive operating leverage for the full year of 2018. This will involve careful management of expenses, as the Company balances improving efficiency against making the appropriate investments in people and technology to enable its strategic priorities and the strengthening of the Company's risk and compliance management programs.

Update on Strategic Priorities

In its 2017 Q4 and Annual Report the Company set out five strategic priorities that have time horizons over the short to long-term. During the first quarter of 2018 the Company made progress on several fronts including:

• Diversifying funding sources by: (i) obtaining new funding for a prime uninsurable mortgage product, broadening its mortgage shelf; and (ii) continuing to add deposit brokers. Broker-sourced deposits increased by $89.5 million, supporting the origination of $98.3 million in Street Solutions mortgages.
  
  
• Building momentum in a new addressable market by increasing Street Solution balances to $294.5 million, which generated $1.4 million in net interest income (including other non-securitized assets), with the net interest margin growing to 1.66%, up 39 bp from 1.27% last quarter.
  
  
• Also continuing expansion in a new addressable market that the Company entered in Q3 2017 was the securitization and sale of 10-year insured NHA MBS mortgage loans on a multi-unit residential property.
  
  
• Driving customer retention, and generating $6.7 million in net revenue from mortgage renewals. Renewals in the quarter were $0.52 billion, with a renewal rate of 75%.
  
  
• Enhancing the risk and control governance framework by expanding the internal enterprise risk governance committee into separate monthly management risk committees that deal with all risk types.
  
  
• Taking steps to further transform the organization by entering exclusive negotiations with a core banking platform provider and premier cloud platform partner as the Company works towards a digital banking launch in 2019.

Financial Targets – 2018 to 2020

The Company is maintaining the financial targets it set out in its Q4 2017 report as shown below.

Note: The Bank may not realize the financial targets indicated below if business or competitive conditions, the regulatory environment, the housing market, or general economic conditions change, or if any of the other management assumptions do not materialize in the amount or within the timeframes expected. Please refer to the Forward-Looking Information below.

Dividends

The Company and its management are committed to consistently creating shareholder value. At the present time, this is best achieved through the retention of earnings and the allocation of capital to the business opportunities within the growing potential of the bank platform. Over the longer term, it is the Company's intention that the creation of shareholder value will include consideration of an allocation between retaining and investing earnings, and distributing common shareholder dividends.

Sustainable Tax Advantage

The Company continues to generate a sustainable tax advantage, given the differing treatment between accounting and income tax rules for gains on sale. Its tax loss carryforwards were approximately $305 million at March 31, 2018. This represents a real and sustainable tax advantage as the Company is not paying cash taxes.

Q1 2018 Summary and Highlights

The following tables set out the financial highlights for the three months ended March 31, 2018:

Note: The table above includes non-GAAP measures that highlight the Company's core operating business (the Bank) by removing non-recurring items, including non-recurring restructuring costs or recoveries, and material items associated with the Company's legacy businesses. Please see the section Non-GAAP Measures in the Company's Management's Discussion and Analysis for the Three Months Ended March 31, 2018 (the "MD&A"), which is available on the Company's website (www.streetcapital.ca) and on SEDAR (www.sedar.com), for further detail and numerical reconciliations of these non-GAAP measures to the most directly comparable measure specified, defined or determined under the GAAP presented in the Company's financial statements.

Reconciliation of Shareholders' Net Income (Loss) to Adjusted Shareholders' Net Income (Loss) 

Normal Course Issuer Bid
The Company, with the approval of the Toronto Stock Exchange (the "Exchange") commenced a normal course issuer bid (the "NCIB") that became effective on March 23, 2016. Under the NCIB, the Company could purchase for cancellation up to 2% of its common shares outstanding, on the open market through the facilities of the Exchange and otherwise in accordance with the rules and policies of the Exchange. The original NCIB expired on March 22, 2017 and was subsequently renewed; the renewed NCIB was not renewed when it expired on March 22, 2018.

Dividends
There were no dividends declared or paid during 2017 or YTD 2018. At this time the Company's best use of capital is reinvestment into the operations and growth of Street Capital Bank.

While there is no restriction on the Company's ability to declare dividends, Street Capital Bank is the sole operating subsidiary of the Company and is subject to regulatory capital and business requirements stipulated by OSFI that must be met before dividends can be declared and paid. Additionally the Bank's ability to pay dividends is also constrained by certain financial covenants associated with its credit facilities.

Further Information
Please also refer to the Company's Q1 2018 Financial Statements and Three Months Ended March 31, 2018 Management's Discussion and Analysis, which are available on the Company's website (www.streetcapital.ca) and on SEDAR (www.sedar.com).

Conference Call
Street will host a conference call today, Monday, May 14, 2018 at 8:00 a.m. ET to discuss its financial results. Duncan Hannay, Chief Executive Officer of Street, will chair the call with Marissa Lauder, Chief Financial Officer of Street.

About Street Capital Group Inc. (streetcapitalgroup.ca)
Street Capital Group Inc. (TSX: SCB) is a public company operating through its wholly-owned subsidiary, Street Capital Bank of Canada, a federally regulated Schedule I Bank offering residential mortgage loans with the strategic goal of introducing additional retail banking products in the coming years. Street Capital Bank of Canada sources its mortgage products primarily through a network of independent mortgage brokers across Canada with whom it has built relationships. Street Capital Bank of Canada offers a broad line-up of high ratio and conventional mortgages to borrowers and either sells the mortgages it underwrites to top tier financial institutions or holds them on balance sheet. Street Capital Bank of Canada lends throughout all of the Provinces of Canada (other than Quebec) and has offices in Ontario, Alberta and British Columbia. For more information please visit streetcapital.ca.

Forward-Looking Statements
This release contains certain forward-looking statements and forward-looking information (collectively, forward-looking statements) that are based on management's exercise of business judgment as well as estimates, projections and assumptions made by, and information available to, management at the time the statement was made. When used in this document, the words "may", "will", "anticipate", "believe", "estimate", "expect", "intend", "forecast", "project" and "plan", and words of similar import, are intended to identify any forward-looking statements. You should not place undue reliance on these forward-looking statements. These statements reflect management's current view of future events and are subject to certain risks and uncertainties as outlined in this MD&A and in the Company's Annual Information Form and other filings made with securities regulators, which are available on SEDAR (www.sedar.com). These factors include, without limitation:  expansion opportunities, technological changes, regulatory changes or regulatory requirements, changes to mortgage insurance rules and changes to the business and economic environment, including, but not limited to, Canadian housing market conditions and activity, interest rates, mortgage backed securities markets, and employment conditions, which may impact the Company, its mortgage origination volumes, its gain on sale rates and net interest margins earned, launch of new products at planned times, investments and capital expenditures, and competitive factors that may impact revenue and operating costs. Any of these factors, amongst others, could cause actual results to vary materially from current results or from the Company's currently anticipated future results and financial condition. Should one or more of these risks or uncertainties materialize, or should underlying assumptions prove incorrect, the Company's actual results could differ materially from those anticipated in these forward-looking statements. Management undertakes no obligation, and does not intend, to update, revise or otherwise publicly release any revisions to these forward-looking statements to reflect events or circumstances after the date hereof, or to reflect the occurrence of any unanticipated events. Although management believes that its expectations are based on reasonable assumptions, management can give no assurance that its expectations will materialize.

The following table sets out financial highlights of the Company's consolidated quarterly results of operations for the eight quarters ended March 31, 2018. Please see the section Non-GAAP Measures in the Company's Management's Discussion and Analysis for the Three Months Ended March 31, 2018, which is available on the Company's website (www.streetcapital.ca) and on SEDAR (www.sedar.com), for the definitions of adjusted net income and other related non-GAAP measures.

The following table sets out the Company's consolidated financial position as at March 31, 2018, December 31, 2017 and March 31, 2017. 

SOURCE Street Capital