Rithm Capital Corp.: Form 10-Q for the period ended Sep 30, 2023

Management’s discussion and analysis of financial condition and results of operations is intended to help the reader understand the results of operations and financial condition of Rithm Capital. The following should be read in conjunction with the unaudited Consolidated Financial Statements and notes thereto, and with Part II, Item 1A, “Risk Factors” of this Report and Item 1A, “Risk Factors” of our Annual Report on Form 10-K for the fiscal year ended December 31, 2022.

Management’s discussion and analysis of financial condition and results of operations is intended to allow readers to view our business from management’s perspective by (i) providing material information relevant to an assessment of our financial condition and results of operations, including an evaluation of the amount and certainty of cash flows from operations and from outside sources, (ii) focusing the discussion on material events and uncertainties known to management that are reasonably likely to cause reported financial information not to be indicative of future operating results or future financial condition, including descriptions and amounts of matters that are reasonably likely, based on management’s assessment, to have a material impact on future operations and (iii) discussing the financial statements and other statistical data management believes will enhance the reader’s understanding of our financial condition, changes in financial condition, cash flows and results of operations.

COMPANY OVERVIEW

Rithm Capital is a manager of assets and investments focused on investing in, and actively managing, investments related to the real estate and the financial services sectors. We are structured as a REIT for U.S. federal income tax purposes. We seek to generate long-term value for our investors by using our investment expertise to identify, create and invest primarily in real estate and financial services related assets, including operating companies, that offer attractive risk-adjusted returns. Our investment strategy includes opportunistically pursuing acquisitions and seeking to establish strategic partnerships that we believe enable us to maximize the value of our investments by offering products and services to customers, servicers and other parties through the lifecycle of transactions that affect each mortgage loan and underlying residential property or collateral. For more information about our investment guidelines, see “Item 1. Business — Investment Guidelines” of our Annual Report on Form 10-K for the year ended December 31, 2022.

As of September 30, 2023, we had approximately $34.7 billion in total assets and approximately 6,098 employees, including those individuals employed by our operating entities.

BOOK VALUE PER COMMON SHARE

The following table summarizes the calculation of book value per common share:

$ in thousands except per share amounts

Refer to Item 3. “Quantitative and Qualitative Disclosures About Market Risk” for interest rate risk and its impact on fair value.

MARKET CONSIDERATIONS

Summary

Economic data and indicators regarding the overall financial health and condition of the U.S. for the third quarter of 2023 were strong. The U.S. real gross domestic product ("GDP") increased during the quarter. Inflation remained above the Federal Reserve’s 2% target inflation rate. The Federal Reserve increased the interest rate in July 2023 and held interest rates steady during August 2023 and September 2023. The labor market overall remained tight with the unemployment rate slightly increasing to 3.8%, remaining near 50-year historical lows, and an unexpected rise in job openings in September 2023. Reflecting the stronger than expected growth, the 10-year U.S. Treasury rate rose sharply to 4.6%, driven higher by real rates. With respect to the mortgage market, origination volume remained low during the third quarter of 2023, driven by increased mortgage rates amidst continued low inventory of existing homes.

Inflation

Over the last quarter the inflation rate remained above the targeted 2% level. The Consumer Price Index rose 0.4% in September 2023, a slowdown from the 0.6% increase in August 2023, with a 3.7% rise on an annual basis, largely due to a spike in gasoline prices and high shelter costs. In July 2023, the Federal Reserve increased the interest rate to a target range of 5.25% - 5.5%, taking benchmark borrowing costs to their highest level since 2001. The Federal Reserve held interest rates steady during August 2023 and September 2023, while indicating one additional increase this year and fewer cuts than previously indicated for next year. Rising interest rates could result in increased interest expense on our outstanding variable rate debt and future variable and fixed rate debt, thereby adversely affecting cash flow and our ability to service our indebtedness and pay distributions.

Additionally, in August 2023, the Federal Reserve revised up its economic growth expectations, with gross domestic product expected to rise 2.1% in 2023.

Labor Markets

During the third quarter of 2023, the U.S. labor market continued to remain tight as the unemployment rate remained relatively unchanged at 3.8%, just a few percentage points from the recent near 50-year low. In addition, the U.S. added 336,000 jobs in September 2023, which was twice as many as expected.

Housing Market

During the third quarter of 2023, the housing market has continued to fluctuate due to the continued increase in mortgage rates. Inventory of existing homes remained low primarily due the reluctance of homeowners to change residence and give up the low interest rates locked-in when they purchased or refinanced their residence at sub-3% mortgage rates.

The market conditions discussed above influence our investment strategy and results, many of which have been impacted by the continued high inflation and mortgage rates, as well as an increase in GDP growth rate.

The following table summarizes the change in U.S. gross domestic product estimates annualized rate according to the U.S. Bureau of Economic Analysis:

(A) Annualized rate based on the advance estimate.

The following table summarizes the U.S. unemployment rate according to the U.S. Department of Labor:

The following table summarizes the 10-year U.S. Treasury rate and the 30-year fixed mortgage rate:

We believe the estimates and assumptions underlying our consolidated financial statements are reasonable and supportable based on the information available as of September 30, 2023; however, uncertainty related to market volatility, inflationary pressures driving the federal funds rate to increase and banking sector instability makes any estimates and assumptions as of September 30, 2023 inherently less certain than they would be absent the current economic environment. Actual results may materially differ from those estimates. Market volatility and inflationary pressures and their impact on the current financial, economic and capital markets environment, and future developments in these and other areas present uncertainty and risk with respect to our financial condition, results of operations, liquidity and ability to pay distributions.

CHANGES TO LIBOR

On March 5, 2021, Intercontinental Exchange Inc. (“ICE”) announced that ICE Benchmark Administration Limited, the administrator of LIBOR, intends to stop publication of the majority of USD-LIBOR tenors (overnight, 1-, 3-, 6- and 12-month) on June 30, 2023. On January 1, 2022, ICE discontinued the publication of the 1-week and 2-month tenors of USD-LIBOR. In the U.S., the Alternative Reference Rates Committee (“ARRC”) has identified the SOFR as its preferred alternative rate for U.S. dollar-based LIBOR. SOFR is a measure of the cost of borrowing cash overnight, collateralized by U.S. Treasury securities and is based on directly observable U.S. Treasury-backed repurchase transactions.

Rithm Capital completed its transition from LIBOR to alternative benchmark in June 2023. We do not currently intend to amend our 7.50% Series A, 7.125% Series B, or 6.375% Series C Fixed-to-Floating Rate Cumulative Redeemable Preferred Stock to change the existing USD-LIBOR cessation fallback language.

OUR PORTFOLIO

Our portfolio, as of September 30, 2023 and December 31, 2022, is composed of servicing and origination, including our subsidiary operating entities, residential securities and loans and other investments, as described in more detail below (dollars in thousands).

Operating Investments

Origination

Our origination business operates within our Mortgage Company. We have a multi-channel lending platform, offering purchase and refinance loan products. We originate loans through our Retail channel, provide refinance opportunities to eligible existing servicing customers through our Direct to Consumer channel, and purchase originated loans through our Wholesale and Correspondent channels. We originate or purchase residential mortgage loans conforming to the underwriting standards of the GSEs, government-insured residential mortgage loans which are insured by the FHA, VA and USDA, and Non-Agency and non-QM loans, through our SMART Loan Series. Our non-QM loan products provide a variety of options for highly qualified borrowers who fall outside the specific requirements of Agency residential mortgage loans.

We generate revenue through sales of residential mortgage loans, including, but not limited to, gain on residential loans originated and sold and the value of MSRs retained on transfer of the loans. Profit margins per loan vary by channel, with correspondent typically being the lowest and DTC being the highest. We sell conforming loans to the GSEs and Ginnie Mae and securitize Non-QM residential loans. We utilize warehouse financing to fund loans at origination through the sale date.

For the three months ended September 30, 2023, funded loan origination volume was $11.1 billion, up from $9.9 billion in the prior quarter. Gain on sale margin for the three months ended September 30, 2023 was 1.28%, 5 bps higher than the 1.23% for the prior quarter, primarily due to channel mix (refer to the tables below).

Included in our Origination segment are the financial results of two services businesses, eStreet and Avenue 365. eStreet offers appraisal valuation services, and Avenue 365 provides title insurance and settlement services to our Mortgage Company.

The tables below provide selected operating statistics for our Origination segment:

(in millions)

(dollars in thousands)

(A) Includes realized gains on loan sales and related new MSR capitalization, changes in repurchase reserves, changes in fair value of IRLCs, changes in fair value of loans held for sale and economic hedging gains and losses.

(B) Includes loan origination fees of $105.9 million and $94.0 million for the three months ended September 30, 2023 and June 30, 2023, respectively. Includes loan origination fees of $268.8 million and $526.1 million for the nine months ended September 30, 2023 and 2022, respectively.

(C) Represents Gain on originated residential mortgage loans, held-for-sale, net of the Origination segment (Note 3 and Note 8).

(D) Excludes mortgage servicing rights revenue on recaptured loan volume delivered back to NRM.

Total Gain on originated residential mortgage loans, held-for-sale, net decreased $7.3 million to $126.8 million for the three months ended September 30, 2023 compared to the three months ended June 30, 2023. The decrease is attributable to a 5% decrease in pull through adjusted lock volume as well as channel mix with our correspondent channel generating 68% of production in Q3 vs 63% of production in Q2. Purchase originations comprised 87% of funded loans for the nine months ended September 30, 2023 compared to 86% for the six months ended June 30, 2023. The lower percentage of refinance originations compare to the same period in 2022, which was primarily driven by the increase in the high 30-year conventional mortgage rate. Total Gain on originated residential mortgage loans, held-for-sale, net decreased $550.8 million for the nine months ended September 30, 2023 compared to the same period in 2022, attributed to lower loan production volume related to the rise in interest rates year over year.

Servicing

Our servicing business operates through our performing and special servicing divisions (“SMS”). The performing loan servicing division services performing Agency and government-insured loans. SMS services delinquent government-insured, Agency and Non-Agency loans on behalf of the owners of the underlying mortgage loans. We are highly experienced in loan servicing, including loan modifications, and seek to help borrowers avoid foreclosure. As of September 30, 2023, the performing loan servicing division serviced $445.0 billion UPB of loans and SMS serviced $118.1 billion UPB of loans, for a total servicing portfolio of $563.1 billion UPB, increased from the prior quarter. The increase was primarily attributable to servicing transfer from third party subservicers and loan production, partially offset by scheduled and voluntary prepayment loan activity.

The table below provides the mix of our serviced assets portfolio between subserviced performing servicing (labeled as “Performing Servicing”) and subserviced non-performing, or special servicing (labeled as “Special Servicing”). The Mortgage Company subservices on behalf of Rithm Capital or its subsidiaries and for third parties for the periods presented.

(in millions)

The table below summarizes base servicing fees and other fees for the periods presented:

(in thousands)

(A) Includes other fees earned from third parties of $12.6 million and $12.1 million for the three months ended September 30, 2023 and June 30, 2023, respectively, and $36.3 million and $31.0 million for the nine months ended September 30, 2023 and 2022, respectively.

MSR Related Investments

MSRs and MSR Financing Receivables

Our MSR related investments include MSRs, MSR finance receivables and Excess MSRs. An MSR provides a mortgage servicer with the right to service a pool of residential mortgage loans in exchange for a portion of the interest payments made on the underlying residential mortgage loans, plus ancillary income and custodial interest. An MSR is made up of two components: a basic fee and an excess MSR. The basic fee is the amount of compensation for the performance of servicing duties (including advance obligations), and the Excess MSR is the amount that exceeds the basic fee.

We finance our investments in MSRs and MSR financing receivables with short- and medium-term bank and public capital markets notes. These borrowings are primarily recourse debt and bear both fixed and variable interest rates offered by the counterparty for the term of the notes for a specified margin over SOFR. The capital markets notes are typically issued with a collateral coverage percentage, which is a quotient expressed as a percentage equal to the aggregate note amount divided by the market value of the underlying collateral. The market value of the underlying collateral is generally updated on a quarterly basis and if the collateral coverage percentage becomes greater than or equal to a collateral trigger, generally 90%, we may be required to add funds, pay down principal on the notes, or add additional collateral to bring the collateral coverage percentage below 90%. The difference between the collateral coverage percentage and the collateral trigger is referred to as a “margin holiday.”

See Note 18 to our Consolidated Financial Statements for further information regarding financing of our MSRs and MSR financing receivables, including a summary of activity related to financing from December 31, 2022 to September 30, 2023.

We have contracted with certain subservicers to perform the related servicing duties on the residential mortgage loans underlying our MSRs. As of September 30, 2023, these subservicers include PHH, Valon and LoanCare, which subservice 8.7%, 3.9% and 1.6% of the underlying UPB of the related mortgages, respectively (includes both MSRs and MSR financing receivables). The remaining 85.8% of the underlying UPB of the related mortgages is serviced by our Mortgage Company.

During nine months ended September 30, 2023, we notified Mr. Cooper, LoanCare and Flagstar that their respective subservicing agreements would not be renewed and servicing related to loans subserviced by Mr. Cooper, LoanCare and Flagstar are being transferred to the Mortgage Company. As of September 30, 2023, no loans were subserviced by Mr. Cooper and Flagstar.

We are generally obligated to fund all future servicer advances related to the underlying pools of residential mortgage loans on our MSRs and MSR financing receivables. Generally, we will advance funds when the borrower fails to meet, including forbearances, contractual payments (e.g. principal, interest, property taxes, insurance). We will also advance funds to maintain and report foreclosed real estate properties on behalf of investors. Advances are recovered through claims to the related investor. Pursuant to our servicing agreements, we are obligated to make certain advances on residential mortgage loans to be in compliance with applicable requirements. In certain instances, the subservicer is required to reimburse us for any advances that were deemed nonrecoverable or advances that were not made in accordance with the related servicing contract.

We finance our servicer advances with short- and medium-term collateralized borrowings. These borrowings are non-recourse committed facilities that are not subject to margin calls and bear both fixed and variable interest rates offered by the counterparty for the term of the notes, generally less than one year, of a specified margin over SOFR. See Note 18 to our Consolidated Financial Statements for further information regarding financing of our servicer advances.

The table below summarizes our MSRs and MSR financing receivables as of September 30, 2023:

(dollars in millions)

70

The following table summarizes the collateral characteristics of the residential mortgage loans underlying our MSRs and MSR financing receivables as of September 30, 2023 (dollars in thousands):

(A) Based on the weighted average of information provided by the loan servicer on a monthly basis. The loan servicer generally updates the FICO score when loans are refinanced or become delinquent.

(B) Represents the percentage of the total principal balance of the pool that corresponds to adjustable rate mortgages.

(C) Represents the annualized rate of the prepayments during the quarter as a percentage of the total principal balance of the pool.

(D) Represents the annualized rate of the voluntary prepayments during the quarter as a percentage of the total principal balance of the pool.

(E) Represents the annualized rate of the involuntary prepayments (defaults) during the quarter as a percentage of the total principal balance of the pool.

(F) Represents the percentage of the total principal balance of the pool that corresponds to loans that are delinquent by 90 or more days.

See Note 5 to our Consolidated Financial Statements for additional information including a summary of activity related to MSRs and MSR financing receivables from December 31, 2022 to September 30, 2023.

Excess MSRs

The following tables summarize the terms of our Excess MSRs:

(A) The MSR is a weighted average as of September 30, 2023, and the Excess MSR represents the difference between the weighted average MSR and the basic fee (which fee remains constant).

(B) Non-Agency Excess MSRs serviced by Mr. Cooper and SLS, we also invested in related servicer advance investments, including the basic fee component of the related MSR (Note 6) on $15.7 billion UPB underlying these Excess MSRs.

(A) The MSR is a weighted average as of September 30, 2023, and the Excess MSR represents the difference between the weighted average MSR and the basic fee (which fee remains constant).

The following tables summarize the collateral characteristics of the loans underlying our direct Excess MSRs as of September 30, 2023 (dollars in thousands):

(A) Based on the weighted average of information provided by the loan servicer on a monthly basis. The loan servicer generally updates the FICO score when loans are refinanced or become delinquent.

(B) Constant prepayment rate represents the annualized rate of the prepayments during the quarter as a percentage of the total principal balance of the pool.

(C) Represents the annualized rate of the voluntary prepayments during the quarter as a percentage of the total principal balance of the pool.

(D) Represents the annualized rate of the involuntary prepayments (defaults) during the quarter as a percentage of the total principal balance of the pool.

(E) Represents the percentage of the total principal balance of the pool that corresponds to loans that are delinquent by 90 or more days.

(F) Weighted averages exclude collateral information for which collateral data was not available as of the report date.

The following table summarizes the collateral characteristics as of September 30, 2023 of the loans underlying Excess MSRs made through joint ventures accounted for as equity method investees (dollars in thousands). For each of these pools, we own a 50% interest in an entity that invested in a 66.7% interest in the Excess MSRs.

(A) Based on the weighted average of information provided by the loan servicer on a monthly basis. The loan servicer generally updates the FICO score on a monthly basis.

(B) Represents the annualized rate of the prepayments during the quarter as a percentage of the total principal balance of the pool.

(C) Represents the annualized rate of the voluntary prepayments during the quarter as a percentage of the total principal balance of the pool.

(D) Represents the annualized rate of the involuntary prepayments (defaults) during the quarter as a percentage of the total principal balance of the pool.

(E) Represents the percentage of the total principal balance of the pool that corresponds to loans that are delinquent by 90 or more days.

(F) Weighted averages exclude collateral information for which collateral data was not available as of the report date.

Servicer Advance Investments

Servicer advances are a customary feature of residential mortgage securitization transactions and represent one of the duties for

which a servicer is compensated. Servicer advances are generally reimbursable payments made by a servicer (i) when the borrower fails to make scheduled payments due on a residential mortgage loan or (ii) to support the value of the collateral property. Servicer advance investments are associated with specified pools of residential mortgage loans in which we have contractually assumed the servicing advance obligation and include the related outstanding servicer advances, the requirement to purchase future servicer advances and the rights to the basic fee component of the related MSR.

The following is a summary of our servicer advance investments, including the right to the basic fee component of the related MSRs (dollars in thousands):

(A) Represents the fair value of the servicer advance investments, including the basic fee component of the related MSRs.

The following is additional information regarding our servicer advance investments and related financing, as of and for the nine months ended September 30, 2023 (dollars in thousands):

(A) Based on outstanding servicer advances, excluding purchased but unsettled servicer advances.

(B) Annualized measure of the cost associated with borrowings. Gross cost of funds primarily includes interest expense and facility fees. Net cost of funds excludes facility fees.

(C) Represents the weighted average expected timing of the receipt of expected net cash flows for this investment.

(D) Ratio of face amount of borrowings to par amount of servicer advance collateral, net of any general reserve.

(E) The following table summarizes the types of advances included in servicer advance investments (dollars in thousands):

MSR Related Services Businesses

Our MSR related investments segment also includes the activity from several wholly-owned subsidiaries or minority investments in companies that perform various services in the mortgage and real estate sectors. Our subsidiary Guardian is a national provider of field services and property management services. We also made a strategic minority investment in Covius, a provider of various technology-enabled services to the mortgage and real estate sectors. As of September 30, 2023, our ownership interest in Covius is 18.1%.

Residential Securities and Loans

Real Estate Securities

Agency RMBS and U.S. Treasury Bills

The following table summarizes our Agency RMBS and U.S. Treasury Bill portfolio as of September 30, 2023 (dollars in thousands):

73

(A) Carrying value equals fair value for Agency RMBS. U.S. Treasury Bills are held-to-maturity at amortized cost basis.

(B) Represents the annualized rate of the prepayments during the quarter as a percentage of the total amortized cost basis.

The following table summarizes the net interest spread of our Agency RMBS portfolio for the three months ended September 30, 2023:

(A) The Agency RMBS portfolio consists of 100.0% fixed rate securities (based on amortized cost basis).

We largely employ our Agency RMBS and Treasury positions as a hedge to our MSR portfolio. Our government-backed securities portfolio was $9.3 billion as of September 30, 2023. We finance the investments with short-term borrowings under master uncommitted repurchase agreements. These borrowings generally bear interest rates offered by the counterparty for the term of the proposed repurchase transaction (e.g., 30 days, 60 days, etc.) of a specified margin over one-month SOFR. At September 30, 2023 and December 31, 2022, the Company pledged Agency RMBS and U.S. Treasury Bills with a carrying value of approximately $9.3 billion and $7.1 billion, respectively, as collateral for borrowings under repurchase agreements. We expect to continue to finance our acquisitions of Agency RMBS with repurchase agreement financing. See Note 18 to our Consolidated Financial Statements for further information regarding financing of our Agency RMBS and U.S. Treasury Bills positions, including a summary of activity related to financing from December 31, 2022 to September 30, 2023.

Non-Agency RMBS

Within our Non-Agency RMBS portfolio, we retain and own risk retention bonds from our securitizations in conjunction with risk retention regulations under the Dodd-Frank Act. As of September 30, 2023, 55.5% of our Non-Agency RMBS portfolio was related to bonds retained pursuant to required risk retention regulations.

The following table summarizes our Non-Agency RMBS portfolio as of September 30, 2023 (dollars in thousands):

(A) Fair value, which is equal to carrying value for all securities.

The following tables summarize the characteristics of our Non-Agency RMBS portfolio and of the collateral underlying our Non-Agency RMBS as of September 30, 2023 (dollars in thousands):

(A) The current amount of interest received on the underlying loans in excess of the interest paid on the securities, as a percentage of the outstanding collateral balance for the quarter ended September 30, 2023.

(B) Excludes residual bonds and certain other Non-Agency bonds, with a carrying value of $17.8 million and $0.8 million, respectively, for which no coupon payment is expected.

(C) The ratio of original UPB of loans still outstanding.

(D) Three-month average constant prepayment rate and default rates.

(E) The percentage of underlying loans that are 90+ days delinquent, or in foreclosure or considered REO.

The following table summarizes the net interest spread of our Non-Agency RMBS portfolio for the three months ended September 30, 2023:

(A) The Non-Agency RMBS portfolio consists of 35.8% floating rate securities and 64.2% fixed rate securities (based on amortized cost basis).

We finance our investments in Non-Agency RMBS with short-term borrowings under master uncommitted repurchase agreements. These borrowings generally bear interest rates offered by the counterparty for the term of the proposed repurchase transaction (e.g., 30 days, 60 days, etc.) of a specified margin over one-month SOFR. At September 30, 2023 and December 31, 2022, the Company pledged Non-Agency RMBS with a carrying value of approximately $881.0 million and $946.2 million, respectively, as collateral for borrowings under repurchase agreements. A portion of collateral for borrowings under repurchase agreements is subject to daily mark-to-market fluctuations and margin calls. The remaining collateral is not subject to daily margin calls unless the collateral coverage percentage, a quotient expressed as a percentage equal to the current carrying value of outstanding debt divided by the market value of the underlying collateral, becomes greater than or equal to a collateral trigger. The difference between the collateral coverage percentage and the collateral trigger is referred to as a “margin holiday.” See Note 18 to our Consolidated Financial Statements for further information regarding financing of our Non-Agency RMBS, including a summary of activity related to financing from December 31, 2022 to September 30, 2023.

See Note 7 to our Consolidated Financial Statements for additional information including a summary of activity related to real estate and other securities from December 31, 2022 to September 30, 2023.

Call Rights

We hold a limited right to cleanup call options with respect to certain securitization trusts (including securitizations we have issued) whereby, when the UPB of the underlying residential mortgage loans falls below a pre-determined threshold, we can effectively purchase the underlying residential mortgage loans at par, plus unreimbursed servicer advances, resulting in the repayment of all of the outstanding securitization financing at par, in exchange for a fee of 0.75% of UPB paid to servicer (if applicable) at the time of exercise. The aggregate UPB of the underlying residential mortgage loans within these various securitization trusts is approximately $76.0 billion. For the nine months ended September 30, 2023, Rithm Capital executed no calls.

We continue to evaluate the call rights we acquired from each of our servicers, and our ability to exercise such rights and realize the benefits therefrom are subject to a number of risks. See “Risk Factors—Risks Related to Our Business—Our ability to exercise our cleanup call rights may be limited or delayed if a third party contests our ability to exercise our cleanup call rights, if the related securitization trustee refuses to permit the exercise of such rights, or if a related party is subject to bankruptcy proceedings” in our Annual Report on Form 10-K for the fiscal year ended December 31, 2022. The actual UPB of the residential mortgage loans on which we can successfully exercise call rights and realize the benefits therefrom may differ materially from our initial assumptions.

Residential Mortgage Loans

We have accumulated our residential mortgage loan portfolio through various bulk acquisitions and the execution of call rights. Additionally, through our Mortgage Company, we originate residential mortgage loans for sale and securitization to third parties and we generally retain the servicing rights on the underlying loans.

Loans are accounted for based on our strategy for the loan and on whether the loan was performing or non-performing at the date of acquisition. Acquired performing loans means that at the time of acquisition it is likely the borrower will continue making payments in accordance with contractual terms. Purchased non-performing loans means that at the time of acquisition the borrower will not likely make payments in accordance with contractual terms (i.e., credit-impaired). We account for loans based on the following categories:

• Loans held-for-investment, at fair value
• Loans held-for-sale, at lower of cost or fair value
• Loans held-for-sale, at fair value

As of September 30, 2023, we had approximately $3.3 billion outstanding face amount of residential mortgage loans (see below). These investments were financed with secured financing agreements with an aggregate face amount of approximately $2.2 billion and secured notes and bonds payable with an aggregate face amount of approximately $0.7 billion. We acquired these loans through open market purchases, loan origination and the exercise of call rights and acquisitions.

The following table presents the total residential mortgage loans outstanding by loan type at September 30, 2023 (dollars in thousands).

(A) For loans classified as Level 3 in the fair value hierarchy, the weighted average life is based on the expected timing of the receipt of cash flows. For Level 2 loans, the weighted average life is based on the contractual term of the loan.

(B) Performing loans are generally placed on non-accrual status when principal or interest is 90 days or more past due.

(C) As of September 30, 2023, we have placed all Non-Performing Loans, held-for-sale on non-accrual status, except as described in (D) below.

(D) Includes $252.1 million and $186.7 million UPB of Ginnie Mae EBO performing and non-performing loans, respectively, on accrual status as contractual cash flows are guaranteed by the FHA.

We consider the delinquency status, loan-to-value ratios and geographic area of residential mortgage loans as our credit quality indicators.

We finance a significant portion of our investments in residential mortgage loans with borrowings under repurchase agreements. These recourse borrowings bear variable interest rates offered by the counterparty for the term of the proposed repurchase transaction, generally less than one year, of a specified margin over the one-month SOFR. At September 30, 2023 and December 31, 2022, the Company pledged residential mortgage loans with a carrying value of approximately $2.5 billion and $3.0 billion, respectively, as collateral for borrowings under repurchase agreements. A portion of collateral for borrowings under repurchase agreements is subject to daily mark-to-market fluctuations and margin calls. A portion of collateral for borrowings under repurchase agreements is not subject to daily margin calls unless the collateral coverage percentage, a quotient expressed as a percentage equal to the current carrying value of outstanding debt divided by the market value of the underlying collateral, becomes greater than or equal to a collateral trigger. The difference between the collateral coverage percentage and the collateral trigger is referred to as a “margin holiday.” See Note 18 to our Consolidated Financial Statements for further information regarding financing of our residential mortgage loans, including a summary of activity related to financing from December 31, 2022 to September 30, 2023.

See Note 8 to our Consolidated Financial Statements for additional information including a summary of activity related to residential mortgage loans from December 31, 2022 to September 30, 2023.

Other

Consumer Loans

The table below summarizes the collateral characteristics of the consumer loans, including the Marcus loans and those loans held in the Consumer Loan Companies, as of September 30, 2023 (dollars in thousands):

(A) Represents the percentage of the total principal balance of the pool that corresponds to loans that are delinquent by 90 or more days.

(B) Represents the annualized rate of the voluntary prepayments during the three months as a percentage of the total principal balance of the pool.

(C) Represents the annualized rate of the involuntary prepayments (defaults) during the three months as a percentage of the total principal balance of the pool.

We have financed our investments in the SpringCastle loans with securitized non-recourse long-term notes with a stated maturity date of May 2036. The Marcus loans were financed with long-term notes with a stated maturity date of June 2028. See Note 18 to our Consolidated Financial Statements for further information regarding financing of our consumer loans, including a summary of activity related to financing from December 31, 2022 to September 30, 2023.

See Note 9 to our Consolidated Financial Statements for additional information including a summary of activity related to consumer loans from December 31, 2022 to September 30, 2023.

Single-Family Rental Portfolio

We continue to invest in our SFR portfolio and strive to become a leader in the SFR sector by acquiring and maintaining a geographically diversified portfolio of high-quality single-family homes. As of September 30, 2023, our SFR portfolio consisted of 3,839 properties with an aggregate carrying value of $991.9 million. During the nine months ended September 30, 2023, we acquired 129 SFR properties.

Our ability to identify and acquire properties that meet our investment criteria is impacted by property prices in our target markets, the inventory of properties available, competition for our target assets and our available capital. Properties added to our portfolio through traditional acquisition channels require expenditures in addition to payment of the purchase price, including property inspections, closing costs, liens, title insurance, transfer taxes, recording fees, broker commissions, property taxes and homeowners’ association (“HOA”) fees, when applicable. In addition, we typically incur costs to renovate a property acquired through traditional acquisition channels to prepare it for rental. Renovation work varies, but may include paint, flooring, cabinetry, appliances, plumbing, hardware and other items required to prepare the property for rental. The time and cost involved to prepare our properties for rental can impact our financial performance and varies among properties based on several factors, including the source of acquisition channel and age and condition of the property. Our operating results are also impacted by the amount of time it takes to market and lease a property, which can vary greatly among properties, and is impacted by local demand, our marketing techniques and the size of our available inventory.

Our revenues are derived primarily from rents collected from tenants for our SFR properties under lease agreements which typically have a term of one to two years. Our rental rates and occupancy levels are affected by macroeconomic factors and local and property-level factors, including market conditions, seasonality and tenant defaults, and the amount of time it takes to turn properties when tenants vacate.

Once a property is available for its initial lease, we incur ongoing property-related expenses, which consist primarily of property taxes, insurance, HOA fees (when applicable), utility expenses, repairs and maintenance, leasing costs, marketing expenses and property administration. All of our SFR properties are managed through an external property manager. Prior to a property being rentable, certain of these expenses are capitalized as building and improvements. Once a property is rentable, expenditures for ordinary repairs and maintenance thereafter are expensed as incurred, and we capitalize expenditures that improve or extend the life of a property.

The following table summarizes certain key SFR property metrics as of September 30, 2023 (dollars in thousands):

We primarily rely on the use of credit facilities, term loans and mortgage-backed securitizations to finance purchases of SFR properties. See Note 18 to our Consolidated Financial Statements for further information regarding financing of our SFR properties.

Mortgage Loans Receivable

Through our wholly-owned subsidiary Genesis, we specialize in originating and managing a portfolio of primarily short-term mortgage loans to fund single-family and multi-family real estate developers with construction, renovation and bridge loans.

Construction — Loans provided for ground-up construction, including mid-construction refinancing of ground-up construction and the acquisition of such properties.

Renovation — Acquisition or refinance loans for properties requiring renovation, excluding ground-up construction.

Bridge — Loans for initial purchase, refinance of completed projects or rental properties.

We currently finance construction, renovation and bridge loans using a warehouse credit facility and revolving securitization structures.

Properties securing our loans are typically secured by a mortgage or a first deed of trust lien on real estate. Depending on loan type, the size of each loan committed is based on a maximum loan value in accordance with our lending policy. For construction and renovation loans, we generally use loan-to-cost (“LTC”) or loan-to-after-repair-value (“LTARV”) ratio. For bridge loans, we use a loan-to-value (“LTV”) ratio. LTC and LTARV are measured by the total commitment amount of the loan at origination divided by the total estimated cost of a project or value of a property after renovations and improvements to a property. LTV is measured by the total commitment amount of the loan at origination divided by the “as-complete” appraisal.

At the time of origination, the difference between the initial outstanding principal and the total commitment is the amount held back for future release subject to property inspections, progress reports and other conditions in accordance with the loan documents. Loan ratios described above do not reflect interim activity such as construction draws or interest payments capitalized to loans, or partial repayments of the loan.

Each loan is typically backed by a corporate or personal guarantee to provide further credit support for the loan. The guarantee may be collaterally secured by a pledge of the guarantor’s interest in the borrower or other real estate or assets owned by the guarantor.

Loan commitments at origination are typically interest only and bear a variable interest rate tied to the SOFR plus a spread ranging from 4.0% to 11.5%, and have initial terms typically ranging from 6 to 120 months in duration based on the size of the project and expected timeline for completion of construction, which we often elect to extend for several months based on our evaluation of the project. As of September 30, 2023, the average commitment size of our loans was $2.4 million and the weighted average remaining term to contractual maturity of our loans was 11.3 months.

We typically receive loan origination fees, or “points” of up to 8.9% of the total commitment at origination which varies in amount based upon the term of the loan and the quality of the borrower and the underlying collateral. In addition, we charge fees on past due receivables and receive reimbursements from borrowers for costs associated with services provided by us, such as closing costs, collection costs on defaulted loans and inspection fees. In addition to origination fees, we earn loan extension fees when maturing loans are renewed or extended and amendment fees when loan terms are modified, such as increases in interest reserves and construction holdbacks in line with our underwriting criteria or upon modification of a loan. Loans are generally only renewed or extended if the loan is not in default and satisfies our underwriting criteria, including our maximum LTV ratios of the appraised value as determined at the time of loan origination or based on an updated appraisal, if required. Loan origination and renewal fees are deferred and recognized in income over the contractual maturity of the underlying loan.

Typical borrowers include real estate investors and developers. Loan proceeds are used to fund the construction, development, investment, land acquisition and refinancing of residential properties and to a lesser extent mixed-use properties. We also make loans to fund the renovation and rehabilitation of residential properties. Our loans are generally structured with partial funding at closing and additional loan installments disbursed to the borrower upon satisfactory completion of previously agreed stages of construction.

A principal source of new loans has been repeat business from our customers and their referral of new business. Our retention originations typically have lower customer acquisition costs than originations to new customers, positively impacting our profit margins.

The following table summarizes certain information related to our mortgage loans receivable activity as of and for the nine months ended September 30, 2023 (dollars in thousands):

(A) Based on commitment.

(B) Excludes loan fees and based on commitment at funding.

The following table summarizes our total mortgage loans receivable portfolio by loan purpose as of September 30, 2023 (dollars in thousands):

(A) Weighted by commitment LTV for bridge loans and LTC and LTARV for construction and renovation loans.

The following table summarizes our total mortgage loans receivable portfolio by geographic location as of September 30, 2023 (dollars in thousands):

TAXES

We have elected to be treated as a REIT for U.S. federal income tax purposes. As a REIT we generally pay no federal or state and local income tax on assets that qualify under the REIT requirements if we distribute out at least 90% of the current taxable income generated from these assets.

We hold certain assets, including servicer advance investments and MSRs, in TRSs that are subject to federal, state and local income tax because these assets either do not qualify under the REIT requirements or the status of these assets is uncertain. We also operate our securitization program, servicing, origination and services businesses through TRSs.

At September 30, 2023, we recorded a net deferred tax liability of $798.2 million, primarily composed of deferred tax liabilities generated through the deferral of gains from loans sold by our origination business with servicing retained by us and deferred tax liabilities generated from changes in fair value of MSRs, loans and swaps held within taxable entities.

For the three and nine months ended September 30, 2023, we recognized deferred tax expense of $47.4 million and $87.0 million, respectively, primarily reflecting deferred tax expense generated from changes in the fair value of MSRs, loans and swaps held within taxable entities, as well as income in our servicing and origination business segments.

CRITICAL ACCOUNTING POLICIES AND USE OF ESTIMATES

Management’s Discussion and Analysis of Financial Condition and Results of Operations is based upon our Consolidated Financial Statements, which have been prepared in accordance with GAAP. The preparation of financial statements in conformity with GAAP requires the use of estimates and assumptions that could affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities and the reported amounts of revenue and expenses. Actual results could differ from these estimates. We believe that the estimates and assumptions utilized in the preparation of the Consolidated Financial Statements are prudent and reasonable. Actual results historically have generally been in line with our estimates and judgments used in applying each of the accounting policies described below, as modified periodically to reflect current market conditions.

Our critical accounting policies as of September 30, 2023, which represent our accounting policies that are most affected by judgments, estimates and assumptions, included all of the critical accounting policies referred to in our Annual Report on Form 10-K for the fiscal year ended December 31, 2022.

The mortgage and financial sectors are operating in a challenging and uncertain economic environment. Financial and real estate companies continue to be affected by, among other things, market volatility, heightened interest rates and inflationary pressures. We believe the estimates and assumptions underlying our Consolidated Financial Statements are reasonable and supportable based on the information available as of September 30, 2023; however, uncertainty over the current macroeconomic conditions makes any estimates and assumptions as of September 30, 2023 inherently less certain than they would be absent the current economic environment. Actual results may materially differ from those estimates. Market volatility and inflationary pressures and their impact on the current financial, economic and capital markets environment, and future developments in these and other areas present uncertainty and risk with respect to our financial condition, results of operations, liquidity and ability to pay distributions.

Recent Accounting Pronouncements

See Note 2 to our Consolidated Financial Statements.

RESULTS OF OPERATIONS

Factors Impacting Comparability of Our Results of Operations

Our net income is primarily generated from net interest income, servicing fee revenue less cost and gain on sale of loans less cost to originate. Changes in various factors such as market interest rates, prepayment speeds, estimated future cash flows, servicing costs and credit quality could affect the amount of basis premium to be amortized or discount to be accreted into interest income for a given period. Prepayment speeds vary according to the type of investment, conditions in the financial markets, competition and other factors, none of which can be predicted with any certainty. Our operating results may also be affected by credit losses in excess of initial estimates or unanticipated credit events experienced by borrowers whose mortgage loans underlie the MSRs, mortgage loans receivable, or the non-Agency RMBS held in our investment portfolio.

During the three months ended September 30, 2023, interest rates remained elevated. Higher interest rates can decrease a borrower’s ability or willingness to enter into mortgage transactions, including residential, business purpose and commercial loans. Higher interest rates also increase our financing costs.

Summary of Results of Operations

The following table summarizes the changes in our results of operations for the three months ended September 30, 2023 compared to the three months ended June 30, 2023, and the nine months ended September 30, 2023 compared to the nine months ended September 30, 2022. Our results of operations are not necessarily indicative of future performance.

Servicing Revenue, Net

Servicing revenue, net consists of the following:

(A) The following table summarizes the components of servicing revenue, net related to changes in valuation inputs and assumptions:

The table below summarizes the unpaid principal balances of our MSRs and MSR financing receivables:

(dollars in millions)

The table below summarizes loan UPB by Performing Servicing and Special Servicing:

(dollars in millions)

Three months ended September 30, 2023 compared to the three months ended June 30, 2023

Servicing revenue, net decreased $24.0 million, primarily due to a $22.9 million decrease in servicing fee collections. Weighted average servicing revenues and fees on total MSRs decreased to 31bps for the three months ended September 30, 2023 from 32bps for the three months ended June 30, 2023. The decrease is attributable to a decrease in weighted average servicing revenue on agency MSRs to 26 bps as of September 30, 2023 from 28bps as of June 30, 2023 due to sales of a portion of our MSRs “excess servicing strip” on agency loans with a total UPB of approximately $91.4 billion during the second and third quarters of 2023.

Nine months ended September 30, 2023 compared to the nine months ended September 30, 2022

Servicing revenue, net decreased $1.0 billion, primarily due to a $1.2 billion decrease in positive mark-to-market adjustments on our MSR portfolio, attributable to a steadying of low projected prepayment speeds and a slower rate of increase in forward interest rates during the nine months ended September 30, 2023.

Interest Income

Three months ended September 30, 2023 compared to the three months ended June 30, 2023

Interest income increased $77.8 million quarter over quarter, primarily driven by higher interest income earned on Agency securities, the Marcus consumer loan portfolio and custodial accounts associated with our MSRs.

Nine months ended September 30, 2023 compared to the nine months ended September 30, 2022

Interest income increased $511.6 million year over year. The increase is primarily driven by the acquisition of the Marcus consumer loan portfolio, higher interest income earned on U.S. Treasury Bills, Agency securities, mortgage loans receivable, and custodial accounts associated with our MSRs, attributable to the increase in interest rates.

Gain on Originated Residential Mortgage Loans, Held-for-Sale, Net

The following table provides information regarding gain on originated residential mortgage loans, held-for-sale, net as a percentage of pull through adjusted lock volume, by channel:

(dollars in thousands)

The following table summarizes funded loan production by channel:

(in millions)

Three months ended September 30, 2023 compared to the three months ended June 30, 2023

Gain on originated residential mortgage loans, held-for-sale, net was relatively flat quarter over quarter as loan volume and gain on sale margin remained at a comparable level.

Nine months ended September 30, 2023 compared to the nine months ended September 30, 2022

Gain on originated residential mortgage loans, held-for-sale, net decreased $569.9 million, primarily driven by a reduction in pull through adjusted lock volume attributable to an increase in interest rates year over year.

Gain on sale margin for the nine months ended September 30, 2023 was 1.34%, 35 bps lower than 1.69% for the prior year. The decrease is attributable to a 49% decrease in pull through adjusted lock volume as well as channel mix with our correspondent channel. For the nine months ended September 30, 2023, funded loan origination volume was $28.0 billion, down from $59.7 billion in the prior year primarily attributable to a persistent rise in interest rates year over year. Purchase originations comprised 87% of all funded loans for the nine months ended September 30, 2023 compared to 68% in the prior year.

Interest Expense and Warehouse Line Fees

Three months ended September 30, 2023 compared to the three months ended June 30, 2023

Interest expense and warehouse line fees increased $53.4 million quarter over quarter, primarily due to higher average interest rates during the third quarter affecting our variable rate financing coupled with the addition of a full quarter of interest expense on the Marcus consumer loan portfolio and additional Agency securities purchased.

Nine months ended September 30, 2023 compared to the nine months ended September 30, 2022

Interest expense and warehouse line fees increased $513.0 million year over year, primarily due to higher average interest rates during 2023 and the addition of interest expense on the Marcus consumer loan portfolio and Agency securities purchased.

General and Administrative

General and administrative expenses consists of the following:

Three months ended September 30, 2023 compared to the three months ended June 30, 2023

General and administrative expenses increased $9.0 million quarter over quarter, primarily driven by higher professional service fees attributable to transaction due diligence.

Nine months ended September 30, 2023 compared to the nine months ended September 30, 2022

General and administrative expenses decreased $147.0 million year over year, primarily driven by a reduction in expenses within our Origination segment associated with a decrease in loan production commensurate with the higher interest rate environment.

Compensation and Benefits

Three months ended September 30, 2023 compared to the three months ended June 30, 2023

Compensation and benefits expense remained relatively unchanged with a decrease of $3.5 million quarter over quarter, as the rate environment and production levels remained consistent.

Nine months ended September 30, 2023 compared to the nine months ended September 30, 2022

Compensation and benefits expense decreased $458.6 million year over year, primarily driven by a reduction in headcount and commissions due to lower production levels commensurate with the higher interest rate environment.

Other Income (Loss)

The following table summarizes the components of other income (loss):

(A) Includes excess MSRs, servicer advance investments, consumer loans and other.

Three months ended September 30, 2023 compared to the three months ended June 30, 2023

Total other loss, inclusive of Realized and Unrealized gains (losses)on investments, net was $56.5 million in the third quarter of 2023 compared to income of $105.3 million inclusive of Realized and Unrealized gains (losses) on investments, net in the second quarter of 2023.

The net loss in realized and unrealized gains (losses) quarter over quarter was primarily driven by an increase in the 10-year Treasury yield resulting in decreased market value of Agency securities which was partially offset by a gain in derivative instruments.

Other income (loss) increased $52.1 million primarily due to an unrealized loss on preferred and equity investments of $28.3 million during the three months ended June 30, 2023. Other income during the three months ended September 30, 2023 was primarily driven by an increase in valuation and servicing cash flows from our recovery business.

Nine months ended September 30, 2023 compared to the nine months ended September 30, 2022

Total other income, inclusive of Realized and Unrealized gains (losses) on investments, net was $3.7 million for the nine months ended September 30, 2023 compared to a loss of $121.7 million inclusive of Realized and Unrealized gains (losses) on investments, net for the nine months ended September 30, 2022.

The increase in realized and unrealized gains (losses) year over year was primarily driven by a lower rate-of-increase of the 10-year U.S. Treasury during the first nine months of 2023, resulting in less severe market value adjustments on real estate securities and residential mortgage loans partially offset by decreased realized and unrealized gains from interest rate swaps.

Unrealized gain on secured notes and bonds payable decreased $44.4 million, primarily driven by lower positive debt mark to market adjustments on the SpringCastle debt during 2023.

Rental revenue increased $16.8 million, driven by the acquisition of additional properties, an increase in the percentage of properties rented, and an increase in average monthly rent per property during 2023.

Income Tax Expense (Benefit)

Three months ended September 30, 2023 compared to the three months ended June 30, 2023

Income tax expense decreased $3.9 million, primarily driven by changes in the fair value of MSRs, loans and swaps held within taxable entities.

Nine months ended September 30, 2023 compared to the nine months ended September 30, 2022

Income tax expense decreased $205.3 million, primarily driven by changes in the fair value of MSRs, loans and swaps held within taxable entities.

LIQUIDITY AND CAPITAL RESOURCES

Liquidity is a measurement of our ability to meet potential cash requirements, including ongoing commitments to repay borrowings, fund and maintain investments, and other general business needs. Additionally, to maintain our status as a REIT under the Internal Revenue Code, we must distribute annually at least 90% of our REIT taxable income. We note that a portion of this requirement may be able to be met in future years through stock dividends, rather than cash, subject to limitations based on the value of our stock.

Our primary sources of funds are cash provided by operating activities (primarily income from loan originations and servicing), sales of and repayments from our investments, potential debt financing sources, including securitizations and the issuance of equity securities, when feasible and appropriate.

Our primary uses of funds are the payment of interest, servicing and subservicing expenses, outstanding commitments (including margins and loan originations), other operating expenses, repayment of borrowings and hedge obligations, dividends and funding of future servicer advances. Our total cash and cash equivalents at September 30, 2023 was $1,217.3 million.

The Company intends to use cash on hand and available liquidity to finance the acquisition of Sculptor in the amount of $719.8 million, which management expects to close in Q4 2023. The Company intends to use a mix of existing cash, available liquidity on the balance sheet, as well as additional MSR and servicer advance financing to finance the acquisition of Computershare in the amount of $720 million, which management expects to close in Q1 2024. See Note 1 and Note 25 to our Consolidated Financial Statements for further information regarding the acquisitions of Sculptor and Computershare.

Our ability to utilize funds generated by the MSRs held in our servicer subsidiaries, NRM and the Mortgage Company, is subject to and limited by certain regulatory requirements, including maintaining liquidity, tangible net worth and ratio of capital to assets. Moreover, our ability to access and utilize cash generated from our regulated entities is an important part of our dividend paying ability. As of September 30, 2023, approximately $1,250.5 million of available liquidity was held at NRM, Newrez and Caliber, of which $737.9 million were in excess of the new regulatory liquidity requirements in place as of September 30, 2023. NRM, Newrez and Caliber are expected to maintain compliance with applicable liquidity and net worth requirements throughout the year.

Currently, our primary sources of financing are secured financing agreements and secured notes and bonds payable, although we have in the past and may in the future also pursue one or more other sources of financing such as securitizations and other secured and unsecured forms of borrowing. As of September 30, 2023, we had outstanding secured financing agreements with an aggregate face amount of approximately $13.6 billion to finance our investments. The financing of our entire RMBS portfolio, which generally has 30- to 90-day terms, is subject to margin calls. Under secured financing agreements, we sell a security to a counterparty and concurrently agree to repurchase the same security at a later date for a higher specified price. The sale price represents financing proceeds and the difference between the sale and repurchase prices represents interest on the financing. The price at which the security is sold generally represents the market value of the security less a discount or “haircut,” which can range broadly. During the term of the secured financing agreement, the counterparty holds the security as collateral. If the agreement is subject to margin calls, the counterparty monitors and calculates what it estimates to be the value of the collateral during the term of the agreement. If this value declines by more than a de minimis threshold, the counterparty could require us to post additional collateral (or “margin”) in order to maintain the initial haircut on the collateral. This margin is typically required to be posted in the form of cash and cash equivalents. Furthermore, we may, from time to time, be a party to derivative agreements or financing arrangements that may be subject to margin calls based on the value of such instruments. In addition, $4.4 billion face amount of our MSR and Excess MSR financing is subject to mandatory monthly repayment to the extent that the outstanding balance exceeds the market value (as defined in the related agreement) of the financed asset multiplied by the contractual maximum loan-to-value ratio. We seek to maintain adequate cash reserves and other sources of available liquidity to meet any margin calls or related requirements resulting from decreases in value related to a reasonably possible (in our opinion) change in interest rates.

Our ability to obtain borrowings and to raise future equity capital is dependent on our ability to access borrowings and the capital markets on attractive terms. We continually monitor market conditions for financing opportunities and at any given time may be entering or pursuing one or more of the transactions described above. Our senior management team has extensive long-term relationships with investment banks, brokerage firms and commercial banks, which we believe enhance our ability to source and finance asset acquisitions on attractive terms and access borrowings and the capital markets at attractive levels.

Our ability to fund our operations, meet financial obligations and finance acquisitions may be impacted by our ability to secure and maintain our secured financing agreements, credit facilities and other financing arrangements. Because secured financing agreements and credit facilities are short-term commitments of capital, lender responses to market conditions may make it more difficult for us to renew or replace, on a continuous basis, our maturing short-term borrowings and have imposed, and may continue to impose, more onerous conditions when rolling such financings. If we are not able to renew our existing facilities or arrange for new financing on terms acceptable to us, or if we default on our covenants or are otherwise unable to access funds under our financing facilities or if we are required to post more collateral or face larger haircuts, we may have to curtail our asset acquisition activities and/or dispose of assets.

The use of TBA dollar roll transactions generally increases our funding diversification, expands our available pool of assets, and increases our overall liquidity position, as TBA contracts typically have lower implied haircuts relative to Agency RMBS pools funded with repo financing. TBA dollar roll transactions may also have a lower implied cost of funds than comparable repo funded transactions offering incremental return potential. However, if it were to become uneconomical to roll our TBA contracts into future months it may be necessary to take physical delivery of the underlying securities and fund those assets with cash or other financing sources, which could reduce our liquidity position.

If the regulatory capital requirements imposed on our lenders change, they may be required to significantly increase the cost of the financing that they provide to us. Our lenders also have revised and may continue to revise their eligibility requirements for the types of assets they are willing to finance or the terms of such financings, including haircuts and requiring additional collateral in the form of cash, based on, among other factors, the regulatory environment and their management of actual and perceived risk. Moreover, the amount of financing we receive under our secured financing agreements will be directly related to our lenders’ valuation of our assets that cover the outstanding borrowings.

On August 17, 2022, the Federal Housing Finance Agency (“FHFA”) and Ginnie Mae released updated capital and liquidity standards for loan sellers and servicers. In regard to capital requirements, the updated standards require all loan sellers and servicers to maintain a minimum tangible net worth of $2.5 million plus 25 bps for Fannie Mae, Freddie Mac and private label servicing UPB plus 35 bps for Ginnie Mae servicing. This change aligns the existing Ginnie Mae capital requirement with the FHFA’s. In addition, the definition of tangible net worth has been changed to remove deferred tax assets, though the tangible net worth to tangible asset ratio remained unchanged at 6% or greater. In regard to liquidity requirements, the updated standards require all non-depositories to maintain base liquidity of 3.5 bps of Fannie Mae, Freddie Mac and private label servicing UPB plus 10 bps for Ginnie Mae servicing. This change is an increase in required liquidity for the Ginnie Mae balances and aligns with the FHFA’s. Furthermore, specific to FHFA, all non-banks will have to hold additional origination liquidity of 50 bps times loans held for sale plus pipeline loans. Large non-banks with greater than $50 billion UPB in servicing will have to hold an additional liquidity buffer of 2 bps on Fannie Mae and Freddie Mac servicing balances and 5 bps on Ginnie Mae servicing. Notwithstanding Ginnie Mae’s risk-based capital requirement, the updated standards became effective on September 30, 2023. As of September 30, 2023, Rithm Capital maintained compliance with the required capital and liquidity standards. Noncompliance with the capital and liquidity requirements can result in the FHFA and Ginnie Mae taking various remedial actions up to and including removing our ability to sell loans to and service loans on behalf of the FHFA and Ginnie Mae. Currently, Ginnie Mae’s risk-based capital requirement is expected to go into effect on December 31, 2024. The FHFA’s revised requirements are expected to increase our capital and liquidity requirement and lower our return on capital.

With respect to the next 12 months, we expect that our cash on hand combined with our cash flow provided by operations and our ability to roll our secured financing agreements and servicer advance financings will be sufficient to satisfy our anticipated liquidity needs with respect to our current investment portfolio, including related financings, potential margin calls, loan origination and operating expenses. Our ability to roll over short-term borrowings is critical to our liquidity outlook. We have a significant amount of near-term maturities, which we expect to be able to refinance. If we cannot repay or refinance our debt on favorable terms, we will need to seek out other sources of liquidity. While it is inherently more difficult to forecast beyond the next 12 months, we currently expect to meet our long-term liquidity requirements through our cash on hand and, if needed, additional borrowings, proceeds received from secured financing agreements and other financings, proceeds from equity offerings and the liquidation or refinancing of our assets.

These short-term and long-term expectations are forward-looking and subject to a number of uncertainties and assumptions, including those described under “—Market Considerations” as well as under “Risk Factors” in this Report and in our Annual Report on Form 10-K for the fiscal year ended December 31, 2022. If our assumptions about our liquidity prove to be incorrect, we could be subject to a shortfall in liquidity in the future, and such a shortfall may occur rapidly and with little or no notice, which could limit our ability to address the shortfall on a timely basis and could have a material adverse effect on our business.

Our cash flow provided by operations differs from our net income due to these primary factors: (i) the difference between (a) accretion and amortization and unrealized gains and losses recorded with respect to our investments and (b) cash received therefrom, (ii) unrealized gains and losses on our derivatives, and recorded impairments, if any, (iii) deferred taxes and (iv) principal cash flows related to held-for-sale loans, which are characterized as operating cash flows under GAAP.

Debt Obligations

The following table summarizes certain information regarding our debt obligations (dollars in thousands):

(A) Net of deferred financing costs.

(B) All debt obligations with a stated maturity through the date of issuance were refinanced, extended or repaid.

(C) Includes approximately $199.5 million of associated accrued interest payable as of September 30, 2023.

(D) Includes $974.0 million face amount of repurchase agreements collateralized by U.S. Treasury Bills. All repurchase agreements have a fixed rate.

(E) All SOFR-based floating interest rates.

(F) Includes $244.3 million which bear interest at an average fixed rate of 5.1% with the remaining having SOFR-based floating interest rates.

(G) Includes $193.4 million of corporate loans which bear interest at the sum of one-month SOFR plus a margin of 3.4%.

(H) Includes $2.7 billion of MSR notes which bear interest equal to the sum of (i) a floating rate index equal to one-month SOFR, and (ii) a margin ranging from 2.5% to 3.7%; and $1.5 billion of capital market notes with fixed interest rates ranging 3.0% to 5.4%. The outstanding face amount of the collateral represents the UPB of the residential mortgage loans underlying the MSRs and MSR financing receivables securing these notes.

(I) Includes debt bearing interest equal to the sum of (i) a floating rate index equal to one-month SOFR, and (ii) a margin ranging from 1.5% to 3.7%. Collateral includes servicer advance investments, as well as servicer advances receivable related to the MSRs and MSR financing receivables owned by NRM and the Mortgage Company.

(J) Represents $650.0 million securitization backed by a revolving warehouse facility to finance newly originated first-lien, fixed- and adjustable-rate residential mortgage loans which bears interest equal to one-month SOFR plus 1.2%. Collateral carrying value includes cash held in the securitization trust required to meet collateral requirements.

(K) Includes (i) SpringCastle debt, which is primarily composed of the following classes of asset-backed notes held by third parties: $220.9 million UPB of Class A notes with a coupon of 2.0% and $53.0 million UPB of Class B notes with a coupon of 2.7% and (ii) $1.0 billion of debt collateralized by the Marcus loans bearing interest at the sum of one-month SOFR plus a margin of 3.0%.

(L) Includes $833.4 million of fixed rate notes ranging from 3.5% to 7.1%.

(M) Includes $238.1 million which bear interest at an average fixed rate of 4.7% with the remaining having SOFR-based floating interest rates.

Certain of the debt obligations included above are obligations of our consolidated subsidiaries, which own the related collateral. In some cases, such collateral is not available to other creditors of ours.

We have margin exposure on $13.6 billion of secured financing agreements. To the extent that the value of the collateral underlying these secured financing agreements declines, we may be required to post margin, which could significantly impact our liquidity.

The following tables provide additional information regarding our short-term borrowings (dollars in thousands):

(A) Represents the average for the period the debt was outstanding.

(A) Represents the average for the period the debt was outstanding.

Corporate Debt

On September 16, 2020, we, as issuer, completed a private offering of $550.0 million aggregate principal amount of the 2025 Senior Notes. Interest on the 2025 Senior Notes accrue at the rate of 6.250% per annum with interest payable semi-annually in arrears on each April 15 and October 15, commencing on April 15, 2021. Net proceeds from the offering were approximately $544.5 million, after deducting the initial purchasers’ discounts and commissions and estimated offering expenses payable by us.

The 2025 Senior Notes mature on October 15, 2025 and we may redeem some or all of the 2025 Senior Notes at our option, at any time from time to time, on or after October 15, 2022 at a price equal to the following fixed redemption prices (expressed as a percentage of principal amount of the 2025 Senior Notes to be redeemed):

For additional information on our debt activities, see Note 18 to our Consolidated Financial Statements.

Maturities

Our debt obligations as of September 30, 2023, as summarized in Note 18 to our Consolidated Financial Statements, had contractual maturities as follows (in thousands):

(A) Includes secured notes and bonds payable of $5.1 billion.

(B) Includes secured financing agreements and secured notes and bonds payable of $13.6 billion and $5.5 billion, respectively. Secured financing agreements with contractual maturities prior to December 31, 2023 includes $9.7 billion collateralized by Agency RMBS or U.S. Treasury Bills.

The weighted average differences between the fair value of the assets and the face amount of available financing for the Agency RMBS repurchase agreements (including amounts related to trades receivable and treasury securities) and Non-Agency RMBS repurchase agreements were 2.2% and 34.8%, respectively, and for residential mortgage loans was 13.2% during the nine months ended September 30, 2023.

Borrowing Capacity

The following table summarizes our borrowing capacity as of September 30, 2023 (in thousands):

(A) Although available financing is uncommitted, our unused borrowing capacity is available to us if we have additional eligible collateral to pledge and meet other borrowing conditions as set forth in the applicable agreements, including any applicable advance rate.

Covenants

Certain of the debt obligations are subject to customary loan covenants and event of default provisions, including event of default provisions triggered by certain specified declines in our equity or failure to maintain a specified tangible net worth, liquidity or indebtedness to tangible net worth ratio. We were in compliance with all of our debt covenants as of September 30, 2023.

Stockholders’ Equity

Preferred Stock

Pursuant to our certificate of incorporation, we are authorized to designate and issue up to 100.0 million shares of preferred stock, par value of $0.01 per share, in one or more classes or series.

The following table summarizes preferred shares:

(A) Each series has a liquidation preference or par value of $25.00 per share.

(B) Carrying value reflects par value less discount and issuance costs.

(C) Fixed-to-floating rate cumulative redeemable preferred.

(D) Fixed-rate reset cumulative redeemable preferred.

Our 7.50% Series A Fixed-to-Floating Rate Cumulative Redeemable Preferred Stock (“Series A”), 7.125% Series B Fixed-to-Floating Rate Cumulative Redeemable Preferred Stock (“Series B”), 6.375% Series C Fixed-to-Floating Rate Cumulative Redeemable Preferred Stock (“Series C”) and 7.00% Fixed-to-Floating Rate Cumulative Redeemable Preferred Stock (“Series D”) rank senior to all classes or series of our common stock and to all other equity securities issued by us that expressly indicate are subordinated to the Series A, Series B, Series C and Series D with respect to rights to the payment of dividends and the distribution of assets upon our liquidation, dissolution or winding up. Our Series A, Series B, Series C and Series D have no stated maturity, are not subject to any sinking fund or mandatory redemption and rank on parity with each other. Under certain circumstances upon a change of control, our Series A, Series B, Series C and Series D are convertible to shares of our common stock.

From and including the date of original issue, July 2, 2019, August 15, 2019, February 14, 2020 and September 17, 2021 but excluding August 15, 2024, August 15, 2024, February 15, 2025 and November 15, 2026, holders of shares of our Series A, Series B, Series C and Series D are entitled to receive cumulative cash dividends at a rate of 7.50%, 7.125%, 6.375% and 7.00% per annum of the $25.00 liquidation preference per share (equivalent to $1.875, $1.781, $1.594 and $1.750 per annum per share), respectively, and from and including August 15, 2024, August 15, 2024 and February 15, 2025, at a floating rate per annum, which is determined pursuant to the USD-LIBOR cessation fallback language in the Certificate of Designations for each of our Series A, Series B and Series C. Holders of shares of our Series D, from and including November 15, 2026, are entitled to receive cumulative cash dividends based on the five-year Treasury rate plus a spread of 6.223%. Dividends for the Series A, Series B, Series C and Series D are payable quarterly in arrears on or about the 15th day of each February, May, August and November.

The Series A and Series B will not be redeemable before August 15, 2024, the Series C will not be redeemable before February 15, 2025, and the Series D will not be redeemable before November 15, 2026, except under certain limited circumstances intended to preserve our qualification as a REIT for U.S. federal income tax purposes and except upon the occurrence of a Change of Control (as defined in the Certificate of Designations). On or after August 15, 2024 for the Series A and Series B, February 15, 2025 for the Series C and November 15, 2026 for the Series D, we may, at our option, upon not less than 30 nor more than 60 days’ written notice, redeem the Series A, Series B, Series C and Series D in whole or in part, at any time or from time to time, for cash at a redemption price of $25.00 per share, plus any accumulated and unpaid dividends thereon (whether or not authorized or declared) to, but excluding, the redemption date, without interest.

We may from time to time seek to repurchase our outstanding preferred stock, through open market purchases, privately negotiated transactions or otherwise. Such repurchases, if any, will depend on prevailing market conditions, our liquidity requirements, contractual restrictions and other factors.

Additionally, with the phase out of LIBOR in 2023, we do not currently intend to amend our any of our Series A, Series B or Series C to change the existing USD-LIBOR cessation fallback language. Consequently, higher interest rates on dividends paid on our preferred stock that reset to floating rates would adversely affect our cash flows.

Common Stock

Our certificate of incorporation authorizes 2.0 billion shares of common stock, par value $0.01 per share.

On August 5, 2022, we entered into a Distribution Agreement to sell shares of our common stock, par value $0.01 per share (the “ATM Shares”), having an aggregate offering price of up to $500.0 million, from time to time, through an “at-the-market” equity offering program (the “ATM Program”). No share issuances were made during the three months ended September 30, 2023 under the ATM Program.

On December 15, 2022, our board of directors approved the Stock Repurchase Program authorizing the repurchase of up to $200.0 million of our common stock and $100.0 million of our preferred stock through December 31, 2023. The objective of the Stock Repurchase Program is to seek flexibility to return capital when deemed accretive to shareholders. Repurchases may be made from time to time through open market purchases or privately negotiated transactions, pursuant to one or more plans established pursuant to Rule 10b5-1 under the Securities Exchange Act of 1934 or by means of one or more tender offers, in each case, as permitted by securities laws and other legal requirements. During the nine months ended September 30, 2023, we did not repurchase any shares of our common stock or our preferred stock.

Purchases and sales of Rithm Capital’s securities by the Company’s officers and directors are subject to the Rithm Capital Corp. Insider Trading Compliance Policy. Further, as of September 30, 2023, the Company did not establish a trading plan pursuant to Rule 10b5-1 under the Exchange Act.

The following table summarizes outstanding options as of September 30, 2023:

As of September 30, 2023, our outstanding options had a weighted average exercise price of $13.26.

Common Dividends

We are organized and intend to conduct our operations to qualify as a REIT for U.S. federal income tax purposes. We intend to make regular quarterly distributions to holders of our common stock. U.S. federal income tax law generally requires that a REIT distribute annually at least 90% of its REIT taxable income, without regard to the deduction for dividends paid and excluding net capital gains, and that it pay tax at regular corporate rates to the extent that it annually distributes less than 100% of its taxable income. We intend to make regular quarterly distributions of our taxable income to holders of our common stock out of assets legally available for this purpose, if and to the extent authorized by our board of directors. Before we pay any dividend, whether for U.S. federal income tax purposes or otherwise, we must first meet both our operating requirements and debt service on our secured financing agreements and other debt payable. If our cash available for distribution is less than our taxable income, we could be required to sell assets or raise capital to make cash distributions or we may make a portion of the required distribution in the form of a taxable stock distribution or distribution of debt securities.

We make distributions based on a number of factors, including an estimate of taxable earnings per common share. Dividends distributed and taxable and GAAP earnings will typically differ due to items such as fair value adjustments, differences in premium amortization and discount accretion, other differences in method of accounting, non-deductible general and administrative expenses, taxable income arising from certain modifications of debt instruments and investments held in TRSs. Our quarterly dividend per share may be substantially different than our quarterly taxable earnings and GAAP earnings per share.

We will continue to monitor market conditions and the potential impact the ongoing volatility and uncertainty may have on our business. Our board of directors will continue to evaluate the payment of dividends as market conditions evolve, and no definitive determination has been made at this time. While the terms and timing of the approval and declaration of cash dividends, if any, on shares of our capital stock is at the sole discretion of our board of directors and we cannot predict how market conditions may evolve, we intend to distribute to our stockholders an amount equal to at least 90% of our REIT taxable income determined before applying the deduction for dividends paid and by excluding net capital gains consistent with our intention to maintain our qualification as a REIT under the Code.

The following table summarizes common dividends declared for the periods presented:

94

Cash Flows

The following table summarizes changes to our cash, cash equivalents and restricted cash for the periods presented:

Operating Activities

Net cash provided by (used in) operating activities were approximately $1.7 billion and $6.7 billion for the nine months ended September 30, 2023 and 2022, respectively. Operating cash inflows for the nine months ended September 30, 2023 primarily consisted of proceeds from sales and principal repayments of purchased residential mortgage loans, held-for-sale, servicing fees received, net interest income received and net recoveries of servicer advances receivable. Operating cash outflows primarily consisted of purchases loan originations and subservicing fees paid.

Investing Activities

Net cash provided by (used in) investing activities were approximately $(1.5) billion and $(0.9) billion for the nine months ended September 30, 2023 and 2022, respectively. Investing activities for the nine months ended September 30, 2023 primarily consisted of cash paid for real estate securities, U.S. Treasury Bills, the funding of servicer advance investments net of principal repayments from servicer advance investments, MSRs, real estate securities, loans, consumer loans, net settlement of derivatives, as well as proceeds from the sale of real estate securities.

Financing Activities

Net cash provided by (used in) financing activities were approximately $(0.2) billion and $(5.5) billion for the nine months ended September 30, 2023 and 2022, respectively. Financing activities for the nine months ended September 30, 2023 primarily consisted of borrowings net of repayments under debt obligations, margin deposits net of returns, capital distributions of noncontrolling interests in the equity of consolidated subsidiaries and payment of dividends.

INTEREST RATE, CREDIT AND SPREAD RISK

We are subject to interest rate, credit and spread risk with respect to our investments. These risks are further described in “Quantitative and Qualitative Disclosures About Market Risk.”

OFF-BALANCE SHEET ARRANGEMENTS

We have material off-balance sheet arrangements related to our non-consolidated securitizations of residential mortgage loans treated as sales in which we retained certain interests. We believe that these off-balance sheet structures presented the most efficient and least expensive form of financing for these assets at the time they were entered and represented the most common market-accepted method for financing such assets. Our exposure to credit losses related to these non-recourse, off-balance sheet financings is limited to $0.9 billion. As of September 30, 2023, there was $10.8 billion in total outstanding unpaid principal balance of residential mortgage loans underlying such securitization trusts that represent off-balance sheet financings.

We are party to mortgage loan participation purchase and sale agreements, pursuant to which we have access to uncommitted facilities that provide liquidity for recently sold mortgage backed security (“MBS”) up to the MBS settlement date. These facilities, which we refer to as gestation facilities, are a component of our financing strategy and are off-balance sheet arrangements.

TBA dollar roll transactions represent a form of off-balance sheet financing accounted for as derivative instruments. In a TBA dollar roll transaction, we do not intend to take physical delivery of the underlying agency MBS and will generally enter into an offsetting position and net settle the paired-off positions in cash. However, under certain market conditions, it may be uneconomical for us to roll our TBA contracts into future months and we may need to take or make physical delivery of the underlying securities. If we were required to take physical delivery to settle a long TBA contract, we would have to fund our total purchase commitment with cash or other financing sources and our liquidity position could be negatively impacted.

As of September 30, 2023, we did not have any other commitments or obligations, including contingent obligations, arising from arrangements with unconsolidated entities or persons that have or are reasonably likely to have a material current or future effect on our financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, cash requirements or capital resources.

CONTRACTUAL OBLIGATIONS

Our contractual obligations as of September 30, 2023 included all of the material contractual obligations referred to in our Annual Report on Form 10-K for the year ended December 31, 2022, excluding debt that was repaid as described in “—Liquidity and Capital Resources—Debt Obligations.”

In addition, we executed the following material contractual obligations during the nine months ended September 30, 2023:

• Derivatives – as described in Note 17 to our Consolidated Financial Statements, we altered the composition of our economic hedges during the period.
• Debt obligations – as described in Note 18 to our Consolidated Financial Statements, we borrowed additional amounts.

See Notes 16, 22 and 25 to our Consolidated Financial Statements included in this report for information regarding commitments and material contracts entered into subsequent to September 30, 2023, if any. As described in Note 22, we have committed to purchase certain future servicer advances. The actual amount of future advances is subject to significant uncertainty. However, we currently expect that net recoveries of servicer advances will exceed net fundings for the foreseeable future. This expectation is based on judgments, estimates and assumptions, all of which are subject to significant uncertainty. In addition, the Consumer Loan Companies have invested in loans with an aggregate of $185.7 million of unfunded and available revolving credit privileges as of September 30, 2023. However, under the terms of these loans, requests for draws may be denied and unfunded availability may be terminated at management’s discretion. Lastly, Genesis and Rithm Capital had commitments to fund up to $616.6 million and $5.1 million, respectively, of additional advances on existing mortgage loans as of September 30, 2023. These commitments are generally subject to loan agreements with covenants regarding the financial performance of the customer and other terms regarding advances that must be met before Genesis funds the commitment.

INFLATION

Virtually all of our assets and liabilities are financial in nature. As a result, interest rates and other factors affect our performance more so than inflation, although inflation rates can often have a meaningful influence over the direction of interest rates. Furthermore, our financial statements are prepared in accordance with GAAP and our distributions are determined by our board of directors primarily based on our taxable income, and, in each case, our activities and balance sheet are measured with reference to historical cost and/or fair market value without considering inflation. See “Quantitative and Qualitative Disclosures About Market Risk—Interest Rate Risk.”

Market risk is the exposure to loss resulting from changes in interest rates, credit spreads, foreign currency exchange rates, commodity prices, equity prices and other market-based risks. The primary market risks that we are exposed to are interest rate risk, mortgage basis spread risk, prepayment rate risk and credit risk. These risks are highly sensitive to many factors, including governmental monetary and tax policies, domestic and international economic and political considerations and other factors beyond our control. All of our market risk sensitive assets, liabilities and derivative positions (other than TBAs) are for non-trading purposes only. For a further discussion of how market risk may affect our financial position or results of operations, please refer to “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Critical Accounting Policies and Use of Estimates.”

Interest Rate Risk

Changes in interest rates, including changes in expected interest rates or “yield curves,” affect our investments in various ways, the most significant of which are discussed below.

Fair Value Impact

Changes in the level of interest rates also affect the yields required by the marketplace on interest rate instruments. Increasing interest rates would decrease the value of the fixed rate assets we hold at the time because higher required yields result in lower prices on existing fixed rate assets in order to adjust their yield upward to meet the market.

Changes in unrealized gains or losses resulting from changes in market interest rates do not directly affect our cash flows, or our ability to pay a dividend, to the extent the related assets are expected to be held and continue to perform as expected, as their fair value is not relevant to their underlying cash flows. Changes in unrealized gains or losses would impact our ability to realize gains on existing investments if they were sold. Furthermore, with respect to changes in unrealized gains or losses on investments which are carried at fair value, changes in unrealized gains or losses would impact our net book value and, in certain cases, our net income.

Changes in interest rates can also have ancillary impacts on our investments. Generally, in a declining interest rate environment, residential mortgage loan prepayment rates increase which in turn would cause the value of MSRs, mortgage servicing rights financing receivables, Excess MSRs and the rights to the basic fee components of MSRs to decrease, because the duration of the cash flows we are entitled to receive becomes shortened, and the value of loans and Non-Agency RMBS to increase, because we generally acquired these investments at a discount whose recovery would be accelerated. With respect to a significant portion of our MSRs and Excess MSRs, we have recapture agreements, as described in Notes 4 and 5 to our Consolidated Financial Statements. These recapture agreements help to protect these investments from the impact of increasing prepayment rates. In addition, to the extent that the loans underlying our MSRs, MSR financing receivables, Excess MSRs and the rights to the basic fee components of MSRs are well-seasoned with credit-impaired borrowers who may have limited refinancing options, we believe the impact of interest rates on prepayments would be reduced. Conversely, in an increasing interest rate environment, prepayment rates decrease which in turn would cause the value of MSRs, MSR financing receivables, Excess MSRs and the rights to the basic fee components of MSRs to increase and the value of loans and Non-Agency RMBS to decrease. To the extent we do not hedge against changes in interest rates, our balance sheet, results of operations and cash flows would be susceptible to significant volatility due to changes in the fair value of, or cash flows from, our investments as interest rates change. However, rising interest rates could result from more robust market conditions, which could reduce the credit risk associated with our investments. The effects of such a decrease in values on our financial position, results of operations and liquidity are discussed below under “—Prepayment Rate Exposure.”

Changes in the value of our assets could affect our ability to borrow and access capital. Also, if the value of our assets subject to short-term financing were to decline, it could cause us to fund margin, or repay debt, and affect our ability to refinance such assets upon the maturity of the related financings, adversely impacting our rate of return on such investments.

We are subject to margin calls on our secured financing agreements. Furthermore, we may, from time to time, be a party to derivative agreements or financing arrangements that are subject to margin calls, or mandatory repayment, based on the value of such instruments. We seek to maintain adequate cash reserves and other sources of available liquidity to meet any margin calls, or required repayments, resulting from decreases in value related to a reasonably possible (in our opinion) change in interest rates but there can be no assurance that our cash reserves will be sufficient.

In addition, changes in interest rates may impact our ability to exercise our call rights and to realize or maximize potential profits from them. A significant portion of the residential mortgage loans underlying our call rights bear fixed rates and may decline in value during a period of rising market interest rates. Furthermore, rising rates could cause prepayment rates on these loans to decline, which would delay our ability to exercise our call rights. These impacts could be at least partially offset by potential declines in the value of Non-Agency RMBS related to the call rights, which could then be acquired more cheaply, and in credit spreads, which could offset the impact of rising market interest rates on the value of fixed rate loans to some degree. Conversely, declining interest rates could increase the value of our call rights by increasing the value of the underlying loans.

We believe our consumer loan investments generally have limited interest rate sensitivity given that our portfolio is mostly composed of very seasoned loans with credit-impaired borrowers who are paying fixed rates, who we believe are relatively unlikely to change their prepayment patterns based on changes in interest rates.

Interest rates are highly sensitive to many factors, including fiscal and monetary policies and domestic and international economic and political considerations, as well as other factors beyond our control.

The interest rates on our secured financing agreements, as well as adjustable-rate mortgage loans in our securitizations, are generally based on SOFR, which is subject to national, international and other regulatory guidance for reform. The recent transition from LIBOR to SOFR involves operational risks, including but not limited to, reduced experience understanding and modeling SOFR-based assets and liabilities which in turn increases the difficulty of investing, hedging and risk management.

The table below provides comparative estimated changes in our book value based on a parallel shift in the yield curve (assuming an unchanged mortgage basis) including changes in our book value resulting from potential related changes in discount rates.

(A) Amounts shown are pre-tax.

Mortgage Basis Spread Risk

Mortgage basis measures the spread between the yield on current coupon mortgage-backed securities and benchmark rates including treasuries and swaps. The level of mortgage basis is driven by demand and supply of mortgage-backed instruments relative to other rate-sensitive assets. Changes in the mortgage basis have an impact on prepayment rates driven by the ability of borrowers underlying our portfolio to refinance. A lower mortgage basis would imply a lower mortgage rate which would increase prepayment speeds due to higher refinance activity and, therefore, lower fair value of our mortgage portfolio. The mortgage basis is also correlated with other spread products such as corporate credit, and in the crisis of the last decade it was at a generational wide not seen before or since. The table below provides comparative estimated changes in our book value based on changes in mortgage basis.

(A) Amounts shown above are pre-tax.

Prepayment Rate Exposure

Prepayment rates significantly affect the value of MSRs and MSR financing receivables, Excess MSRs, the basic fee component of MSRs (which we own as part of our servicer advance investments), Non-Agency RMBS and loans, including consumer loans. Prepayment rate is the measurement of how quickly borrowers pay down the UPB of their loans or how quickly loans are otherwise brought current, modified, liquidated or charged off. The price we pay to acquire certain investments will be based on, among other things, our projection of the cash flows from the related pool of loans. Our expectation of prepayment rates is a significant assumption underlying those cash flow projections. If the fair value of MSRs and MSR financing receivables, Excess MSRs or the basic fee component of MSRs decreases, we would be required to record a non-cash charge, which would have a negative impact on our financial results. Furthermore, a significant increase in prepayment rates could materially reduce the ultimate cash flows we receive from MSRs and MSR financing receivables, Excess MSRs or our right to the basic fee component of MSRs, and we could ultimately receive substantially less than what we paid for such assets. Conversely, a significant decrease in prepayment rates with respect to our loans or RMBS could delay our expected cash flows and reduce the yield on these investments.

We seek to reduce our exposure to prepayment through the structuring of our investments. For example, in our MSR and Excess MSR investments, we seek to enter into “recapture agreements” whereby our MSR or Excess MSR is retained if the applicable servicer or subservicer originates a new loan the proceeds of which are used to repay a loan underlying an MSR or

Excess MSR in our portfolio. We seek to enter into such recapture agreements in order to protect our returns in the event of a rise in voluntary prepayment rates.

Credit Risk

We are subject to varying degrees of credit risk in connection with our assets. Credit risk refers to the ability of each individual borrower underlying our MSRs, MSR financing receivables, Excess MSRs, servicer advance investments, securities and loans to make required interest and principal payments on the scheduled due dates. If delinquencies increase, then the amount of servicer advances we are required to make will also increase, as would our financing cost thereof. We may also invest in loans and Non-Agency RMBS which represent “first loss” pieces; in other words, they do not benefit from credit support although we believe they predominantly benefit from underlying collateral value in excess of their carrying amounts. We do not expect to encounter credit risk in our Agency RMBS, and we do anticipate credit risk related to Non-Agency RMBS, residential mortgage loans and consumer loans.

We seek to reduce credit risk through prudent asset selection, actively monitoring our asset portfolio and the underlying credit quality of our holdings and, where appropriate and achievable, repositioning our investments to upgrade their credit quality. Our pre-acquisition due diligence and processes for monitoring performance include the evaluation of, among other things, credit and risk ratings, principal subordination, prepayment rates, delinquency and default rates, and vintage of collateral.

For our MSRs, MSR financing receivables and Excess MSRs on Agency collateral and our Agency RMBS, delinquency and default rates have an effect similar to prepayment rates. Our Excess MSRs on Non-Agency portfolios are not directly affected by delinquency rates because the servicer continues to advance principal and interest until a default occurs on the applicable loan, so delinquencies decrease prepayments therefore having a positive impact on fair value, while increased defaults have an effect similar to increased prepayments. For our Non-Agency RMBS and loans, higher default rates can lead to greater loss of principal. For our call rights, higher delinquencies and defaults could reduce the value of the underlying loans, therefore reducing or eliminating the related potential profit.

Market factors that could influence the degree of the impact of credit risk on our investments include (i) unemployment and the general economy, which impact borrowers’ ability to make payments on their loans, (ii) home prices, which impact the value of collateral underlying residential mortgage loans, (iii) the availability of credit, which impacts borrowers’ ability to refinance, and (iv) other factors, all of which are beyond our control.

Liquidity Risk

The assets that comprise our asset portfolio are generally not publicly traded. A portion of these assets may be subject to legal and other restrictions on resale or otherwise be less liquid than publicly-traded securities. The illiquidity of our assets may make it difficult for us to sell such assets if the need or desire arises, including in response to changes in economic and other conditions.

Investment Specific Sensitivity Analyses

MSRs and MSR Financing Receivables

The following table summarizes the estimated change in fair value of our interests in the Agency MSRs, owned as of September 30, 2023 given several parallel shifts in the discount rate, prepayment rate and delinquency rate (dollars in thousands):

The following table summarizes the estimated change in fair value of our interests in the Non-Agency MSRs, including MSR financing receivables, owned as of September 30, 2023 given several parallel shifts in the discount rate, prepayment rate and delinquency rate (dollars in thousands):

100

The following table summarizes the estimated change in fair value of our interests in the Ginnie Mae MSRs, owned as of September 30, 2023 given several parallel shifts in the discount rate, prepayment rate and delinquency rate (dollars in thousands):

Each of the preceding sensitivity analyses is hypothetical and is provided for illustrative purposes only. There are certain limitations inherent in the sensitivity analyses presented. In particular, the results are calculated by stressing a particular economic assumption independent of changes in any other assumption; in practice, changes in one factor may result in changes in another, which might counteract or amplify the sensitivities. Also, changes in the fair value based on a 10% variation in an assumption generally may not be extrapolated because the relationship of the change in the assumption to the change in fair value may not be linear.

Disclosure Controls and Procedures

The Company’s management, with the participation of the Company’s Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of the Company’s disclosure controls and procedures (as such term is defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act) as of the end of the period covered by this report. The Company’s disclosure controls and procedures are designed to provide reasonable assurance that information is recorded, processed, summarized and reported accurately and on a timely basis. Based on such evaluation, the Company’s Chief Executive Officer and Chief Financial Officer have concluded that, as of the end of such period, the Company’s disclosure controls and procedures were effective.

Changes in Internal Control Over Financial Reporting

There have not been any changes in the Company’s internal control over financial reporting (as such term is defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) during the fiscal quarter to which this report relates that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.

The risk factors disclosed under Part I, Item 1A. “Risk Factors” of our Annual Report on Form 10-K for the year ended December 31, 2022 should be considered together with the information included in this Quarterly Report on Form 10-Q for the quarter ended September 30, 2023, and should not be limited to those referenced herein or therein. The following risks and uncertainties related to the Sculptor Acquisition supplement the risk factors found under Part I, Item 1A. “Risk Factors” of our Annual Report on Form 10-K for the year ended December 31, 2022.

Risks Related to the Sculptor Acquisition

The Sculptor Acquisition is subject to conditions, some or all of which may not be satisfied, or completed on a timely basis, if at all. Failure to complete the Sculptor Acquisition could have material adverse effects on us.

On July 23, 2023, we entered into the Merger Agreement (and, entered into the First Amendment and the Second Amendment on October 12, 2023 and October 26, 2023, respectively) to acquire Sculptor. We cannot assure you that the Sculptor Acquisition will be consummated on the terms or in the timeframe described herein, if at all.

Consummation of the Sculptor Acquisition is subject to certain customary conditions, including (i) approval of the Sculptor Acquisition by the requisite vote of Sculptor’s stockholders (the “Company Stockholder Approval”), (ii) the absence of a Company Material Adverse Effect (as defined in the Merger Agreement) on Sculptor, (iii) the accuracy of each party’s representations and warranties (subject to customary materiality qualifiers) and (iv) each party’s compliance with its covenants and agreements contained in the Merger Agreement in all material respects.

There can be no assurance that the conditions to closing of the Sculptor Acquisition will be satisfied or waived or that other events will not intervene, delay or result in the failure to close the Sculptor Acquisition. Certain of these conditions are not within our control, and we cannot predict when, or if these conditions will be satisfied. Under the terms of the Merger Agreement, the Sculptor Acquisition may be terminated by either party (i) if the closing has not occurred on or before July 23, 2024; (ii) if a court or other governmental entity has issued a final and non-appealable order prohibiting the closing; (iii) if Sculptor fails to obtain the Company Stockholder Approval; or (iv) upon a material uncured breach by the other party that would result in a failure of the conditions to the closing to be satisfied.

In addition, government regulators may impose conditions, terms, obligations or restrictions in connection with their approval of or consent to the Sculptor Acquisition, and such conditions, terms, obligations or restrictions may delay completion of the Sculptor Acquisition, require us to take actions that materially alter our existing business or the proposed combined business, including divestitures or similar transactions, or impose additional material costs on, or materially limit the revenues of, the combined company following the completion of the Sculptor Acquisition. Regulators may impose such conditions, terms, obligations or restrictions, and, if imposed, such conditions, terms, obligations or restrictions may delay or prevent completion of the Sculptor Acquisition, and may have a material adverse effect on our existing business or the proposed combined business.

If the Sculptor Acquisition is not completed, our ongoing business may be materially adversely affected and, without realizing any of the benefits of having completed the Sculptor Acquisition, we would be subject to a number of risks, including the following:

• the market price of our common stock could decline;
• time and resources committed by our management to matters relating to the Sculptor Acquisition could otherwise have been devoted to pursuing other beneficial opportunities;
• we may experience negative reactions from the financial markets or from our customers, employees, suppliers and regulators; and
• we will be required to pay the costs relating to the Sculptor Acquisition, such as legal, accounting and financial advisory fees, whether or not the Sculptor Acquisition is completed.

The materialization of any of these risks could materially and adversely impact our ongoing business. Similarly, delays in the completion of the Sculptor Acquisition could, among other things, result in additional transaction costs, loss of revenue or other negative effects associated with uncertainty about completion of the Sculptor Acquisition.

After the Sculptor Acquisition, we may be unable to successfully integrate the businesses and realize the anticipated benefits of the Sculptor Acquisition.

The success of the Sculptor Acquisition will depend, in part, on our ability to successfully integrate Sculptor, which currently operates as an independent public company, with our business and realize the anticipated benefits, including synergies, cost savings, innovation and operational efficiencies, from the combination. If we are unable to achieve these objectives within the anticipated timeframe, or at all, the anticipated benefits may not be realized fully, or at all, or may take longer to realize than expected and the value of our common stock may be harmed. Sculptor’s business is subject to certain of the same risks as our businesses, as well as additional risks relating to the asset management business, including competitive pressures relating to fund performance, ability to attract and retain fund investors, additional regulation of asset managers and other risks related to the management of funds. If the Sculptor Acquisition is completed, our exposure to the risks involved in such businesses will be increased.

The Sculptor Acquisition and the integration of Sculptor into our business may result in material challenges, including, without limitation:

• the diversion of management’s attention from our ongoing business as a result of the devotion of time and resources to the Sculptor Acquisition;
• addressing possible differences in business backgrounds, corporate cultures and management philosophies;
• maintaining employee morale and attracting, motivating and retaining management personnel and other key employees;
• the possibility of faulty assumptions underlying expectations regarding the Sculptor Acquisition;
• retaining existing business relationships, including Sculptor’s current fund investors, and attracting new business relationships;
• consolidating corporate and administrative infrastructures and eliminating duplicative operations;
• unanticipated issues and costs in integrating information technology, communications and other systems;
• unanticipated changes in federal or state laws or regulations; and
• unforeseen liabilities, expenses or delays associated with the Sculptor Acquisition.

Many of these factors will be outside of our control and any one of them could result in delays, increased costs, failures in achieving anticipated benefits, decreases in the amount of expected revenues and diversion of management’s time and energy, which could materially affect our financial position, results of operations and cash flows.

Stockholder or other litigation could result in the payment of damages and/or may materially and adversely affect our business, financial condition results of operations and liquidity.

Transactions such as the Sculptor Acquisition often give rise to securities class action and derivative lawsuits and other legal proceedings by stockholders or other third parties. For example, litigation was filed in the Delaware Court of Chancery seeking, amongst other things, to enjoin the transaction with Rithm Capital until the Consortium has been permitted to bid on Sculptor without any restrictions from its standstill and a court order (i) reducing the termination fee in connection with the Sculptor Acquisition, (ii) prohibiting Rithm Capital from voting newly acquired shares in a stockholder vote on the Transactions and (iii) declaring that the Majority of Unaffiliated Vote Condition, as defined in the Merger Agreement, be reinserted into the Merger Agreement with Rithm Capital should the transaction proceed. This litigation is proceeding under the caption In re Sculptor Capital Management, Inc. Stockholders Litigation, Consol. C.A. No. 2023-0921-SG. Even if such legal proceedings are without merit, the defense or settlement of any lawsuit or claim that remains unresolved regarding the Sculptor Acquisition may materially and adversely affect our business, financial condition, results of operations and liquidity. Further, such litigation or settlement of any lawsuit or claim could be costly and could divert management’s time and attention from the operation of the business. If a plaintiff were successful in obtaining an injunction prohibiting completion of the Sculptor Acquisition, such injunction may delay or prevent completion of the Sculptor Acquisition, which may adversely affect our business, financial condition, results of operations and liquidity. Finally, even if such proceedings are unsuccessful in obtaining and injunction, additional litigation could be filed after the completion of the Sculptor Acquisition.

We may not have discovered undisclosed liabilities of Sculptor during our due diligence process.

In the course of the due diligence review of Sculptor that we conducted prior to the execution of the Merger Agreement, we may not have discovered, or may have been unable to quantify, undisclosed liabilities or other issues of Sculptor and its subsidiaries, and we do not have rights of indemnification against Sculptor for any such liabilities. Examples of such undisclosed liabilities or other issues may include, but are not limited to, unpaid taxes, pending or threatened litigation or regulatory matters. Any such undisclosed liabilities could have an adverse effect on our business, results of operations, financial condition and cash flows following the completion of the Sculptor Acquisition.

Our and Sculptor’s business relationships may be subject to disruption due to uncertainty associated with the Sculptor Acquisition, which could have an adverse effect on the Company and business and operations of the combined company.

Parties with which we and/or Sculptor do business may experience uncertainty associated with the proposed acquisition, including with respect to current or future business relationships with us, Sculptor or the combined Company following the completion of the Sculptor Acquisition. Our and Sculptor’s relationships may be subject to disruption as customers, current and prospective fund investors, suppliers and other persons with whom we and/or Sculptor have a business relationship may delay or defer certain business decisions or might decide to seek to terminate, change or renegotiate their relationships with us or Sculptor, as applicable.

Such risks could have an adverse effect on the results of operations, cash flows and financial position of us or the combined company following the completion of the Sculptor Acquisition, including an adverse effect on our ability to realize the expected synergies and other benefits of the transaction. The risk, and adverse effect, of any disruption could be exacerbated by a delay in the completion of or failure to complete the transaction.

Uncertainties associated with the Sculptor Acquisition may cause a loss of management personnel and other key employees, and we may have difficulty attracting and motivating management personnel and other key employees, which could adversely affect our future business and operations.

We and Sculptor are dependent on the experience and industry knowledge of our management personnel and other key employees to execute our business plans. Our success after the completion of the Sculptor Acquisition will depend in part upon our ability to attract, motivate and retain key management personnel and other key employees of our Company and Sculptor. Prior to completion of the Sculptor Acquisition, current and prospective employees of the combined company may experience uncertainty about their roles within our Company following the completion of the Sculptor Acquisition, which may have an adverse effect on our ability to attract, motivate or retain management personnel and other key employees. Additionally, although we have agreed to establish a retention program and long-term incentive program for certain Sculptor employees, there can be no guarantee that such programs will be successful in retaining such employees, including key employees. No assurance can be given that we will be able to attract, motivate or retain management personnel and other key employees to the same extent after the completion of the Sculptor Acquisition.

In specified circumstances, Sculptor could terminate the Merger Agreement to accept an alternative proposal.

Sculptor may in certain circumstances terminate the Merger Agreement to, among other reasons, enter into an agreement providing for a superior proposal. In such event, Sculptor would be obligated to pay us a termination fee equal to $22,426,831. Such termination would deny us and our stockholders any benefits from the Sculptor Acquisition and could materially and negatively impact our share price.

We will incur substantial transaction fees and costs in connection with the Sculptor Acquisition.

We expect to incur a significant amount of non-recurring expenses in connection with the Sculptor Acquisition. Additional unanticipated costs may be incurred in the course of the integration of our businesses and the business of Sculptor. Many of the expenses that may be incurred are, by their nature, difficult to estimate. We cannot be certain that the elimination of duplicative costs or the realization of other efficiencies related to the integration of the two businesses will offset the transaction and integration costs in the near term, or at all. Additionally, the expenses in connection with the Sculptor Acquisition are expected to be significant, although the aggregate amount and timing of such charges are uncertain at present.

Our ability to utilize Sculptor’s tax attributes will be significantly limited.

Although Sculptor currently has significant tax attributes, including significant net operating losses, our use of those attributes following the closing of the Sculptor Acquisition will be subject to significant limitations as a result of the fact that the Sculptor Acquisition will cause Sculptor to undergo an “ownership change” for purposes of Section 382 of the Code. Specifically, the Code limits the ability of a company that undergoes an “ownership change” to utilize its net operating loss and net capital loss carryforwards and certain built-in losses to offset taxable income earned in years after the ownership change. Section 382 imposes an annual limitation on the use of such attributes, which, in the case of Sculptor’s attributes, would permit us to use only a small portion of Sculptor’s tax attributes each year.

As a result of the Section 382 limitation or potentially other limitations or changes in circumstances, our use of Sculptor’s tax attributes will be significantly delayed, and we may not be able to use all of those attributes, thereby limiting the cash tax benefit of those attributes.