Mr Cooper Group Inc

NASDAQ:COOP

Earnings Call Analysis

Mr. Cooper Group Reports Strong Q2 Results Amid Flagstar Acquisition

Mr. Cooper Group's Q2 2024 performance was robust, with pretax operating income hitting $219 million, up 46% year-over-year, and a 17% increase in tangible book value to $68.67. The company highlighted significant gains in its servicing segment, with $288 million in pretax income, reflecting a 58% year-over-year growth. The acquisition of Flagstar's mortgage operations was also a key highlight, expected to add major scale and efficiency improvements. Mr. Cooper provided guidance for 2025, aiming for ROTCE in the range of 14% to 18%, benefiting from the expanded portfolio and anticipated operational leverage.

Strong Financial Performance

Mr. Cooper Group reported a stellar second quarter, with pretax operating income reaching $219 million, up 46% year-over-year. Their return on tangible common equity (ROTCE) stood at 15.3%, already within their 2025 target range of 14-18%. Tangible book value increased 17% year-over-year, hitting $68.67 per share, supported by earnings and stock repurchase, which reduced the share count by 4% in the past year.

Efficient Operations and Growth

The servicing department demonstrated exceptional performance with a pretax income of $288 million, marking a 58% increase from the previous year. This reflects significant growth in their portfolio, which ended the quarter at $1.2 trillion, and impressive efficiency gains. In originations, despite a challenging environment, the department managed a pretax operating income of $38 million, staying at the high end of their guidance.

Acquisition of Flagstar's Mortgage Operations

Mr. Cooper announced the acquisition of Flagstar's mortgage operations for $1.4 billion in cash. This includes Flagstar’s Mortgage Servicing Rights (MSRs), advances totaling $1.2 billion, a subservicing business with $270 billion in unpaid principal balance (UPB), and third-party lending platforms. The acquisition will significantly boost Mr. Cooper's scale and operational capacity in the servicing sector.

Operational and Strategic Advantages

The acquisition will allow Mr. Cooper to integrate Flagstar's operations efficiently, providing substantial returns on capital. The company expects fee income from subservicing and market yields on the MSRs to contribute to excellent returns. The deal will add significant scale to Mr. Cooper's operations, enhancing their operating leverage.

Tech-Driven Efficiency

Mr. Cooper's focus on technology and process improvements continues to enhance efficiency. Investments in AI and automated processes have driven down the cost per loan, and customer service enhancements have reduced call volumes significantly. Payments-related calls, for instance, have dropped by 57% year-over-year thanks to new self-serve tools.

Outlook and Macro Considerations

Looking forward, Mr. Cooper anticipates some macroeconomic headwinds. Increased amortization expenses and expected Fed rate cuts could impact interest income. However, the company remains optimistic about its growth prospects, focusing on portfolio growth, customer experience, and continued operational efficiency.

Future Originations and Growth Opportunities

Mr. Cooper's origination team generated a pretax income of $38 million, the high end of their guidance. The company is preparing for increased market opportunities in 2025, expecting the current challenging market conditions to improve. They guide third quarter originations to achieve an EBT range of $35 million to $45 million.

Financial Strategy and Capital Management

Mr. Cooper is guiding a stable servicing income in the third quarter, expecting it to be between $280 million and $300 million. They continue to focus on efficient capital management, planning to utilize available liquidity and MSR lines for acquisitions, ensuring they remain within their target capital ratio.

Closing Remarks

Overall, Mr. Cooper Group is strategically positioning itself for long-term success with strong financial performance, strategic acquisitions, tech-driven efficiencies, and robust capital management. The company remains focused on delivering value to its shareholders while navigating macroeconomic changes.

Earnings Call Transcript 2024-Q2

[Operator]

Good day, and thank you for standing by. Welcome to the Mr. Cooper Group Q2 2024 Earnings Conference Call. [Operator Instructions] Please be advised that today's conference is being recorded. I would now like to hand the conference over to your first speaker at Mr. Cooper Group. Please go ahead.

[Kenneth Posner, executive]

Good morning, and welcome to Mr. Cooper Group's second quarter earnings call. My name is Ken Posner, and I'm SVP of Strategic Planning and Investor Relations. With me today are Jay Bray, Chairman and CEO; Mike Weinbach, President; and Kurt Johnson, Executive Vice President and CFO. As a reminder, this call is being recorded. You can find the slides on our Investor Relations web page at investors.mrcoopergroup.com.

During the call, we may refer to non-GAAP measures, which are reconciled to GAAP results in the appendix to the slide deck. Also, we may make forward-looking statements, which you should understand could be affected by risk factors that we've identified in our 10-K and other SEC filings. We are not undertaking any commitment to update these statements if conditions change. And I'll now turn the call over to Jay.

[Jay Bray, executive]

Thanks, Ken, and good morning, everyone, and welcome to our call. As you saw from our press release this morning, we've got a lot to cover, including super strong second quarter results and some exciting news, the acquisition of Flagstar's mortgage operations. We'll take you through the materials as we always do, making sure to leave plenty of time for your questions.

But before we get into the acquisition, let's start on Slide 3 with a quick review of the quarter, which was quite strong. For the second quarter, pretax operating income came in at $219 million, which is up 46% year-over-year. Operating ROTCE was 15.3%, up nearly 400 basis points from a year ago. At the end of last year, we said we expected ROTCE in a range of 14% to 18% in 2025. We're pleased to be in that range already, and we're feeling positive about our momentum heading into next year.

I'm super excited with the 17% year-over-year increase in TBV, which reached $68.67 at the end of the quarter. This was a function of earnings plus stock repurchase, which has reduced the share count by 4% over the last year and by a cumulative 35% since inception. The Board approved an additional $200 million for stock repurchase. I would add that despite stock repurchase and asset growth, we've maintained a rock-solid balance sheet with our capital ratio still above our stated target range and ample liquidity.

Turning to operations. The servicing team produced fantastic results, with $288 million in pretax income, up a massive 58% from a year ago. These results reflect strong growth, with the portfolio ending the quarter at $1.2 trillion, together with exceptional efficiency gains. In fact, you couldn't ask for a better demonstration of operating leverage. Now shifting to originations where the environment remains challenging. Pretax operating income was $38 million, which was at the high end of our guidance, thanks to strong execution in both our DTC and correspondent channels.

Now let's turn to Slide 4 and take you through the transaction with Flagstar. We announced we're acquiring Flagstar's mortgage operation from $1.4 billion in cash. This is a simple transaction structure in that it's an acquisition of assets, not a business combination. The assets include Flagstar's MSRs and advances, which totals $1.2 billion; its subservicing business, with total UPB of $270 billion as well as a third-party lending platform. Additionally, we will subservice $9 billion in Flagstar loans remaining on their balance sheet. The total UPB is approximately $356 billion. The acquisition will be funded with cash on hand and MSR line draws.

Flagstar servicing operations will be integrated onto our platform in a quick, efficient and thoughtful manner. On this note, I'd like to say welcome to Flagstar's team members who will be joining the Mr. Cooper family, and also thank you for all the hard work you've put into growing your business and taking care of your customers. Flagstar's customer-focused culture really lines up well with our core values, and we are excited about the opportunities.

Now if you'll pull up for a moment and think about what this transaction means, first, it's a collaborative win-win for us and Flagstar, which showcases Mr. Cooper's ability to provide a full-service solution. In this case, we helped Flagstar solve for their balance sheet goals by selling their MSR asset at a fair price to a credible partner in a single, quick, low-risk transaction.

We also helped Flagstar simplify its operations by taking on their existing subservicing business as well as providing servicing for some of their own loans. From an economic perspective, this transaction provides us with excellent returns on capital, thanks to the fee income from subservicing, which comes on top of the market yields on the MSR, and we get a major step up in scale and the opportunity to realize additional operating leverage.

If you'll turn with me to Page 5, I'd like to put this transaction in the context of Mr. Cooper's strategic journey. If you recall, we started talking about the dislocation in the MSR marketplace nearly 18 months ago. Specifically, in our fourth quarter 2022 call, we highlighted a cycle-wide opportunity to acquire MSRs and suggested pools would trade at extremely attractive yields.

If you go back and look at our slides or read the transcript, you'll see we pointed to financial pressure on originators and regulatory capital considerations for banks as the drivers of this dislocation, and we even shared with you our proprietary forecast for the bulk MSR market. We anticipated the dislocation, we moved swiftly and decisively to capitalize on the opportunity, and now you see the results, with our portfolio up 79% from year-end 2022 to $1.6 trillion in mortgages and 6.6 million customers.

What this shows you is that we are the fundamental best buyers of MSRs, and as a subservicer, we are the best operating partner, period. We have robust operational capacity. We carefully manage our capital liquidity, and we have years of experience in the bulk market, including proprietary data amassed over a decade's worth of acquisitions, which allows us to underwrite assets quickly and accurately.

We have relationships with sellers who trust us to close on time and take care of their customers, and we have special tools like Pyro, which is our proprietary patented AI system, which we use for document extraction and classification, and this gives us a major advantage in due diligence, negotiations and onboarding.

As we think about the industry strategically, it's clear that the servicing sector has entered a phase of rapid consolidation. While financial pressure and regulatory capital rules are recent catalysts, what's ultimately driving consolidation is the power of technology to create massive scale economies, which is the same trend you see in many other sectors of the financial, fintech, payments and processing industries, where the leaders control very significant market share.

Our strategy at Mr. Cooper is to position ourselves for a highly concentrated in-state and mortgage servicing. We have a strong position today, but we are not pausing to celebrate. Instead, we're going to stay focused on building out the industry's most efficient and scalable platform. We will work even harder to provide an amazing experience for our customers and our clients, and we are committed to playing a constructive leadership role in the industry, earning the continued support of all our stakeholders.

And with that, I'll turn the call over to our President, Mike Weinbach, to take you through our operational results in more detail.

[Michael Weinbach, executive]

Thanks, Jay, and good morning, everyone. Let's spend another minute on Slide 5, and I'll give you a little more color on the second quarter, just so you're clear on where we stand today prior to layering on the Flagstar portfolio.

We ended the quarter at $1.2 trillion in mortgages with close to $100 billion in additions during the quarter, reflecting both MSR deals and subservicing growth. With respect to subservicing, I did want to make a point about client selection since we deliberately partnered with the leaders among banks, investment companies and originators. As they've grown, we've grown, and this played out nicely in the quarter.

Also, I'll share that we're quite pleased with our Rushmore team's performance in growing our special servicing business, which is solidly profitable, has a roster of important blue-chip clients and represents a very important capability for the point where the cycle eventually turns. In total, once the Flagstar deal closes, subservicing will account for 52% of the total portfolio, and owned MSRs will be 48%, which is closely in line with the 50-50 mix that we believe optimizes our profitability and balance sheet.

Looking ahead, we're totally focused on providing Flagstar's customers with a smooth and seamless onboarding experience as well as welcoming our new team members on to the Cooper platform. Our plan is to complete this process by early 2025. During this period, we aren't constrained from considering other growth opportunities, however, these would be a distant second priority to delivering on our commitments in this transaction.

Turning to Slide 6. Let's dig into servicing earnings. We reported pretax income of $288 million, up 58% year-over-year, reflecting the benefits of growth in operating leverage, while CPR speeds came in slightly below expectations. Now the key theme for us is operating leverage, and it's worth spending a moment on this topic, given that Flagstar will add considerably more scale to our operations.

For a better perspective, let's look at the numbers over the last 12 months. Servicing revenues were up $162 million year-over-year or 37%, which is very much in line with the growth of the portfolio. In contrast, expenses were only up $24 million year-over-year or 16%. 37% revenue growth with 16% expense growth resulted in 58% growth in EBT, which we hope you'll agree is a pretty compelling demonstration of operating leverage.

Now let me clarify something. Operating leverage results in part from growth because we do have a certain level of fixed costs. but that's not the major driver. Rather, what you're seeing is a result of process improvement in technology investments, which has been an unremitting focus for years and years, really going all the way back to the company's formation.

Let's talk about our digital first strategy, which is designed to improve the customer experience by anticipating their needs and proactively providing the information they're looking for so they don't have to pick up the phone and call us. As you can see from the chart on the lower left, our call volumes have been slowly and steadily drifting lower. In fact, the ratio of cost per loan has fallen by 50% over the last 3 years.

Let me give you a few examples of what we're doing here. First, we're having lots of success with chat technology, which for many of our customers is their preferred means of engaging it with us. A second focus area has been our IVR, which we're constantly fine-tuning to get customers where they need to go as quickly as possible. And third, we've had very encouraging results from new self-serve tools.

For example, we have a subset of customers who frequently make more than the required payments each month, which in the past led to lots of phone calls about how they wanted those extra funds applied. We recently rolled out a very simple online tool, which allows them to tell us their preference with a few clicks, and we're seeing significant customer adoption.

Thanks to this and other initiatives, payments-related calls are down 57% year-over-year. At the same time, let me stress that when our customers do need to talk with someone, we're here for them. Based on recent benchmark data, we're comfortably outperforming the industry in terms of standard call center metrics like average speed to answer and abandonment rate.

Before moving on, let's talk for a second about the macro environment. I'd be remiss if I didn't point out that amortization increased by $47 million sequentially, reflecting both portfolio growth and seasonality. For the third quarter, we guide you to expect servicing income to be roughly flat in the $280 million to $300 million range as CPRs will likely hit their seasonal highs for the year.

Looking further ahead, as we all know, CPRs are at record low levels today with likely nowhere to go but up. This means that we expect amortization expense will be a headwind in 2025. Also, we're expecting Fed rate cuts, possibly starting in September, to put pressure on our interest income. These are macro forces, which are obviously outside of our control, and we just want you to be conscious of them as you work on your models for 2025. What is under our control is portfolio growth, the customer experience and operating leverage, and those are the areas where we're working to drive continued strong results.

Now let's turn to Slide 7 and discuss originations. Our team generated a pretax income of $38 million, coming in at the high end of our guidance. Refi recapture was back up at 73% this quarter as we adjusted some of our pricing and marketing strategies. Purchase loans accounted for 28% of total volumes, and second liens remained strong at 14%, demonstrating the versatility of our platform, where we've evolved the product set to keep pace with changing customer needs.

Turning to correspondent. Volumes picked up to $2.1 billion as we focused on deepening our relationships with key sellers. Now that we've passed the halfway point of the year, I think it's safe to say that 2024 will go down as one of the most challenging originations markets in recent history. However, as we look ahead to 2025, as mentioned, we'd expect CPRs to start rising, which given the size of our portfolio, should translate into more meaningful recapture volumes.

We've been putting a lot of work on our DTC platform to get ready for a bigger market. This includes continued investments in workflow automation, the customer experience and scalability. The benefits of this work will show up in 2025, and we'll give you more color on the outlook as we get closer to year-end. For now, as we look to third quarter, we guide you to expect originations EBT in the range of $35 million to $45 million. And as always, this guidance assumes the current level of mortgage rates.

If you'll turn to Slide 8, I'd like to make one more comment on originations related to the 2025 outlook by walking you through the coupon stack in our MSR portfolio. Over the last 2 years, we found some of the best OAS yields on deep out-of-the-money collateral, and you've heard us comment on the high quality stable cash flow those pools will provide us for years to come. But that's not all we've been buying.

As you can see, today, 18% of the portfolio has coupons of 6% or higher. This is a big change from where we were in 2022 when only 3% of the portfolio was in that bucket. The MSR we're acquiring from Flagstar has a similar distribution of coupons. On a pro forma basis, we'll have $132 billion of mortgages with coupons above 6%, which again points to the opportunity to scale up originations in 2025.

With that, I'd like to turn the call over to Kurt to take you through the company's financials.

[Kurt Johnson, executive]

Thanks, Mike, and good morning, everyone. I'll start on Slide 9 with some comments on adjustments in the MSR. Adjustments totaled $8 million this quarter and included a $4 million purchase price adjustment related to final tax calculations on the Home Point acquisition and $4 million representing our share of losses at Sagent.

Turning to the MSR, we marked up the asset to reflect higher rates and lower expected lifetime CPRs, resulting in a quarter end valuation of 153 basis points of UPB and a multiple of 5.3x the base servicing fee. Offsetting the markup, we incurred hedge losses of $103 million, equating to 72% realized coverage. Our target hedge ratio remains at 75%. The mark line also includes the $27 million gain from selling the excess servicing strip on our Fannie Mae and Freddie Mac MSRs.

As you may recall, in recent quarters, we retained a larger servicing strip from securitized pools above the 25 basis point contractual minimum to optimize capital market execution. With this transaction, we've monetized that trade, and in addition to the gain, the sale generated $222 million in cash. Bear in mind, by selling the excess strip, we do lose that recurring revenue in the servicing segment, which is part of the reason we're guiding to relatively stable servicing EBT in third quarter of $280 million to $300 million.

Slide 10 gives you an update on asset quality, which remains a real strong point for Mr. Cooper. In the interest of time, I won't comment beyond pointing out that our MSR delinquencies declined to 1.0%, which is a new record low. This is a function of thoughtful portfolio construction, which you can see in the rising FICO scores and declining LTV ratios for our customers as well as our ongoing loss mitigation efforts, evident in a 34% year-over-year increase in loan modifications and workouts, which is a very important part of our mission to keep the dream of homeownership alive. The Flagstar MSR has a similar high-quality credit profile and will not materially affect these results.

Now turning to Slide 11. I'll comment that our balance sheet was in strong shape at quarter end. Before considering the Flagstar acquisition, liquidity remained near record levels at $3.2 billion, and our capital ratio as measured by tangible net worth of assets was still well above our target range of 28.4%, reflecting a strong pace of internal capital generation and discretionary cash flow. With the transaction, we will add $1.1 billion in MSRs and $85 million in advances.

On a pro forma basis, our capital ratio would have been approximately 26% at quarter end, still somewhat above the upper end of our target range. We expect to pay for the acquisition by drawing down on our MSR lines, which will utilize some of our excess liquidity, although we will still be comfortably in compliance with our internal guidelines. Also, we continue to see favorable conditions in the high-yield market and are evaluating the prospects for new issuance as we'd like to continue increasing the mix of unsecured debt in our capital stack to keep upward pressure on our ratings.

To wrap up, I'll reiterate Mike's comment about macro headwinds, namely rising amortization and lower deposit yields and the offset, which is potentially higher origination earnings. Having said that, the Flagstar deal clearly provides us with additional momentum on top of our very strong execution. Thanks to the transaction, I would guide you with respect to the outlook for ROTCE in 2025 that we now feel comfortable at the midpoint of our 14% to 18% range.

With that, I'd like to thank you for joining us on today's call and for your interest in Mr. Cooper. I'd now like to turn the call back over to Ken for Q&A.

[Kenneth Posner, executive]

Thanks, Kurt. Siobhan, if you could now start the Q&A process, please.

[Operator]

[Operator Instructions] Our first question comes from the line of Terry Ma from Barclays.

[Terry Ma, analyst]

Maybe just on a little bit more on the rationale for the deal. As you kind of evaluated it, what was some of the key, I guess, attractive points? Was it mainly just size and scale? Or are there kind of aspects of the MSR, both subservice and owned that kind of attracted you to it?

[Jay Bray, executive]

Yes. Look, I think, Terry, strategically, this deal just makes perfect sense for us, right? It's right up the middle of the fairway. Think of it as 2 pieces. And you said it, one is the acquisition of the MSR. The MSR is very similar to our portfolio overall as we discussed. We like it, and we like the value. And the subservicing is just additional subservicing on our platform. So it just made a ton of strategic sense, and we're super excited about it.

[Terry Ma, analyst]

Got it. And I guess now your capital levels are toward the high end of your range. As you kind of look for -- as additional opportunities may present themselves, like I guess, what are you looking for? Does this kind of raise the bar in terms of other deals?

[Jay Bray, executive]

Look, I mean, first and foremost, we're going to take care of this deal, right? And we're going to take care of these customers and these homeowners, and that will be the first priority. And we're the best company, candidly, to do that.

I think as we think about other opportunities, we'll be measured, we'll be thoughtful and will stay consistent with our capital deployment themes. And so we will be very, very disciplined as we look at other opportunities. We still think there's going to be a lot of opportunity in the marketplace. We still think there's going to be a lot of MSRs coming to market. But again, as always, we're going to be disciplined, and we're going to take care of this transaction first.

[Operator]

And our next question comes from the line of Mark DeVries of Deutsche Bank.

[Mark DeVries, analyst]

I see that pro forma, this still keeps you above your kind of target range for tangible net worth assets. Just wanted to confirm that there's not going to be any need to raise any equity as part of this transaction.

[Jay Bray, executive]

No, absolutely not.

[Kurt Johnson, executive]

Mark, we continue, as we did this quarter, to actually repurchase stock. And we've indicated that we'd be repurchasing about $50 million a quarter, and we've been a little bit light the last couple of quarters, but we still see value in our stock at where it's trading.

[Mark DeVries, analyst]

Okay. That's helpful. And is there any guidance you can provide us on how to think about kind of the earnings accretion you expect to generate from this transaction?

[Jay Bray, executive]

I mean I think -- and Kurt, you can jump in. Again, you have to think of it in 2 ways. One, on the MSR. It's consistent with the way we acquired MSRs in the past, so a nice kind of mid- to high-teen return there. And then on the subservicing, think of that as our existing subservicing book. So blended, we think this transaction will be at the high end of our ROTCE range is how we're thinking about it.

[Kurt Johnson, executive]

Yes, I think that makes perfect sense. And we finished the quarter with an ROTCE of 15.3%. I think we've guided 2025 to be a little higher. And I think Flagstar is a contributing factor to that.

[Mark DeVries, analyst]

Okay. Got it. And how should we think about this impacting your operating expenses in 2025?

[Michael Weinbach, executive]

Yes. It's -- we'll have some new team members joining us from Flagstar, so that will add some additional expense. But it's -- we continue on our relentless quest to invest in the platform and become more efficient, and nothing changes.

So we're excited about the opportunity to continue to realize operating leverage in the business. But as we get larger, we'll be adding expense. We'll have new team members, and first and foremost, as Jay indicated, our top priority is making sure that we execute this with excellence for our customers, for our subservicing partners and for our team members.

[Jay Bray, executive]

But make no mistake, we will 100% continue to drive cost per loan down. I mean we are maniacally focused on that. The investments we're making that we discussed on the last call from an AI perspective, et cetera, will drive cost per loan down. And so that you should expect to see that.

[Operator]

And our next question comes from the line of Bose George from KBW.

[Bose George, analyst]

Just one more on the Flagstar. The $1.4 billion that you're paying, how much of it is equity? How much of it is debt that you -- the advances, I guess, the funding lines? And then how much goodwill is going to be created?

[Kurt Johnson, executive]

So Bose, I think we broke it out, it's about a little over $1.1 billion on the MSR, about $85 million of advances, so about $1.2 billion of that was the purchase of the MSRs. It's all utilizing advanced lines for the advances, but MSR lines. So it's all debt.

It's not an equity deal for us at all. We have the available liquidity as we've reported in prior quarters. In terms of goodwill, I think we're still finalizing that. But I think depending on kind of where we see the asset boarding, you can expect some level of intangible to be added in once the deal closes at the end of the year.

[Bose George, analyst]

Okay. Great. And then actually just going back to the question on accretion. So I mean, I guess, is the way to think about it, your ROE would have been more like 15%, so it could add like 1 point or 1.5 points of ROE, something like that?

[Michael Weinbach, executive]

Yes. I don't think we want to give anything overly specific, but you're thinking about it directionally correctly.

[Operator]

And our next question comes from the line of Crispin Love from Piper Sandler.

[Crispin Love, analyst]

Just starting on the Flagstar transaction. Just looking at NYCB's balance sheet today, they have the MSR marked at roughly $1.1 billion, and you mentioned that value as well. But can you just talk a little bit about how you think of the value of the MSR under the COOP platform? You have tremendous scale, low cost of service and a team. So curious on how you think about that, the scale this adds and efficiency you can incorporate from the deal as well.

[Kurt Johnson, executive]

Yes, it's a great question, and I appreciate it. Look, I think the answer is we probably value it a little bit higher for all the reasons you talked about, right? We are the low-cost producers, so that factors into our MSR valuation. We have a high recapture rate. And as Mike pointed out in his commentary, 20% of this portfolio has an above 6% coupon rate, so we do think there's some attractive refinance opportunities here. So I think you would see us value it probably a little bit higher than New York Community did.

[Crispin Love, analyst]

Okay. Great. That's helpful. And then also, the deal is going to meaningfully increase your subservicing portfolio. So as you look forward on the complexion of the company, how do you expect owned versus subservicing to trend to the roughly pro forma 50-50 complexion with this deal? And just what makes you most excited about adding substantial subservicing with Flagstar in the current environment right now?

[Michael Weinbach, executive]

Yes. I think we've long talked about seeing a 50-50 mix between owned and subservicing is the ideal mix for managing the business and capital deployment and earnings. So we're excited about this. This is a big step for us in the subservicing business. but it's part of the continued progress we've been making.

And we really like the subservicing business. It's a capital lighter business. And we -- I talked about this a little bit upfront, Jay did as well, but we have some awesome partners. And this allows us to develop even deeper partnerships with some of our most important partners and develop new partnerships with some others.

And we think it works really well because we get to focus on what we do best, so our partners can focus on what they do best. And this has really been a winning combination for our partners and ourselves that's led to steady growth in the subservicing business. So we're excited about this big step, and we're excited about continuing to win with our partners.

[Operator]

Our next question comes from the line of Doug Harter from UBS.

[Douglas Harter, analyst]

Jay, you talked about expecting to see continued opportunity for consolidation and servicing. Do you expect it to be kind of larger platform transactions like Flagstar or kind of bulk pools like you have been kind of doing over the past year plus?

[Jay Bray, executive]

Yes. I think, Doug, it will be a combination, right? Look, the -- we've been acquiring bulk MSRs for 20 years, and I think that's going to continue for years and years to come. And then there will be opportunities that present themselves like Flagstar over time.

And I just -- when you think about our platform, you think about the investments we've made and continue to make, I think we -- and this is a perfect example. I think we are the best partner for folks that really want to enter into a strategic transaction like Flagstar did. So I think it will be a combination, but you're going to always see MSRs trading, and we'll expect to be part of that going forward.

[Douglas Harter, analyst]

Great. And then can you give us an update as to how you're currently thinking about your origination capacity and the ability to handle increased recapture volume and what incremental cost might be needed to scale that up? Or will you see operating scale there as volumes increase?

[Michael Weinbach, executive]

Yes, it's a great question. And we talked a little bit earlier and showed you in the slides the way the portfolio is changing. So we still have more than 50% of our customers have less than 4% rate, but we now have almost 30% over 5% and getting close to 20% over 6%.

And we don't know exactly what's going to happen with rates, but we're preparing for the point when the cycle will turn and rates will come down. And so we've been relentlessly investing in perfecting the platform on the direct-to-consumer origination side.

We've talked about Project Flash, which is componentizing the parts, which helps us be able to ramp more quickly using our existing data that we have, knowing our customers so well on the servicing side, to be able to pull that data into the origination flow and make it more efficient. We're rolling out better self-service tools. And the goal is to get more scalable, to be faster to react when rates move and more efficient.

And the only other thing I would add is we have been adding staff. We hired close to 100 LOs in the second quarter. So we're carrying a little bit of extra capacity now, and we don't know exactly when it's going to happen. But when it does, we'll be ready.

[Kurt Johnson, executive]

The only thing I would add to that is that we are actually doing, from a unit count standpoint, a lot higher volume. If you see in our presentation, 14% of our origination volume in the past quarter was second liens, which has, on average, a UPB of about 1/4 of the amount of our first liens. And so in terms of unit count, we're actually doing a lot of production today. And obviously, that capacity can be utilized if there is a rate rally for first lien rate term refis.

[Jay Bray, executive]

Yes. But to Mike's point, we've been very intentional in the last few quarters about adding capacity, Doug, and we're ready if something does happen on the rate side.

[Douglas Harter, analyst]

And then I guess just on any of the subservicing, how much recapture agreements do you have there, either for a fee, for the MSR owner or for your own benefits?

[Jay Bray, executive]

We really don't comment on specifics around that. But you should think of it as a blend, like some -- our clients, some want our recapture capability, and some have their own recapture capability. So it's really a mix depending on the client. I mean our goal is to just maximize the service to them and maximize the service to their customers and their homeowners. So it is a blend on the economics as well as the different clients' needs.

[Operator]

Our next question comes from the line of Shanna Qiu from Barclays.

[Gengxuan Qiu, analyst]

I know you guys are still within your targeted capital ratios of 20% to 25% following the transaction. Curious if you guys had any conversations with the rating agencies on the Flagstar transaction, if they provided you any indication on the view following the transaction?

[Kurt Johnson, executive]

Shanna, it's Kurt. Yes. Thanks. Yes, absolutely, we had conversations with the rating agencies around the transaction, around the quarter as well. I think, by and large, we received positive feedback. Obviously, I can't comment on how they're going to come out, but we received pretty positive commentary around this.

As Jay said earlier, our first and foremost priority at this point in time is to take care of these customers. We have $360 billion of loan boarding will not be simple, and we're going to really, really focus on that. And I think that, that will allow us to build capital through the remainder of the year, but will still allow us to be opportunistic.

[Gengxuan Qiu, analyst]

Great. And then a follow-up for me. Maybe digging a little bit more on the valuations. How much value are you guys attributing of the $1.4 billion to maybe the origination platform and subservicing versus the multiple that you paid on the MSR?

I think if you look at attributing minimal value to the origination subservicing, you're kind of looking at a 5.6x multiple on the MSR, which is kind of in line with what we've heard from MSR brokers in the past of what bulk they're also going for. So I just wanted to confirm and see if that was kind of the case.

[Kurt Johnson, executive]

So I think what we'd say, Shanna, and we haven't given specifics on this, obviously, but we did say the $1.2 billion is where Flagstar is carrying it. We're probably valuing a little bit above that. I think attributing 0 to the remainder would be non-accurate. So the multiples that we pay may be a little bit lower than the 5.6 that you mentioned, and I think that we do see value in the subservicing and originations platforms as well.

[Operator]

Thank you. And our next question comes from the line of Eric Hagen from BTIG.

[Eric Hagen, analyst]

So will you hedge the MSR any differently as a result of drawing on the MSR lines to fund the Flagstar deal? And then after you borrow against the MSR to fund the deal, how much headroom do you expect to have on the remaining MSR financing lines?

[Kurt Johnson, executive]

Eric, so we still will have -- obviously, this transaction will give us more capacity on MSR lines as well, right? So call it 65% of the value of our MSRs will be an increase to our MSR facilities. We still think we will have fairly significant amounts of capacity and liquidity available to us afterwards. I think we showed $3.3 billion, roughly, at the end of the quarter. So pro forma, you could expect to see it still in the high $2 billion in terms of liquidity.

[Jay Bray, executive]

And then the hedging will be different on it, right?

[Kurt Johnson, executive]

Yes. We -- I think we stated on the call that we continue to target a 75% hedge ratio. And I think we've been fairly accurate for the last -- since we initiated about 6 quarters ago of right around plus or minus 10% of that target.

[Eric Hagen, analyst]

Right. And then following up on that point, I mean, with the Fed on the brink of cutting interest rates, how do you feel like that could affect the value of MSRs? Do you feel like the hedges that are in place will be effective in maybe offsetting some of the impact of the Fed cutting rates?

[Kurt Johnson, executive]

Yes. Yes. And I would say, I think, to some degree, the forward curve already has projections of Fed cuts in place, right, 2 this year and additional forecast next year. And so when the forward curve has that in place, the valuation of your MSRs already takes that into consideration. If the Fed's more aggressive, yes, the hedge will take care of it. And I would say that we are probably overhedged at the short end of the curve for exactly that reason.

[Michael Weinbach, executive]

And Eric, we aim to have a balanced business model, so we want to be prepared for whatever happens with interest rates. Part of that is a 75% hedge, part of it is being prepared in our direct-to-consumer business should rates go down. Obviously, if they do, it will create some headwinds on servicing, but we think we'll be able to make it up in other places.

[Operator]

And our next question comes from the line of Derek Sommers from Jefferies.

[Derek Sommers, analyst]

A quick question on servicing OpEx. How much of the kind of expense efficiency there do you all attribute to declining delinquencies?

[Michael Weinbach, executive]

I mean that's -- it's certainly a part of it, because servicing delinquent loans is -- costs more than servicing performing loans. But that's -- what's really driving the story are the investments that we're making in the platform. So we talked last quarter extensively about some of the things that we're doing with AI.

We've talked about our Pyro platform, which allows us to consume documents and pull data out of that into our systems in a way that used to require a lot of people to do it. We're developing technology that assists our agents that -- think about it as a call to help a customer might take 10, 12 minutes, but part of that time, our agents having to search through our systems to find documents and find what the customer is looking for. We're developing technology that anticipates what customer's looking for and brings that directly to them.

We talked about it's -- some of these things are really simple, but it is that kind of blocking and tackling that makes a difference. Summarizing the agent calls, which people used to have to do, saves about 40 seconds off the call time. And then the one we just rolled out, giving customers the ability to reapply payments that weren't applied exactly the way they want in a few clicks through our digital sites. All of those little things together are what end up making the big difference that drives the operating leverage in the business.

[Jay Bray, executive]

Yes. I would say, post-COVID zero is due to delinquency levels personally, and it's all the things that Mike just talked about. I mean the operating leverage that we've achieved in the last 4 years has been due to those investments, and the fantastic job that the servicing team has done and the technology team has done executing those initiatives.

[Kurt Johnson, executive]

The only thing I'd add is we've actually done a significant volume of modifications. And really, kudos to the housing policy agencies through the pandemic in terms of implementing policies that are really helping customers stay in their homes and are easy to implement an extra -- not always incredibly easy to implement. I mean there's definitely work to do there.

But for example, FHA just recently rolled out a -- what they call payment supplement partial claim program, which allows customers to utilize an interest-free loan to reduce their monthly principal and interest payment by 25%. We're rolling that program out this weekend. It's just allowing us to get streamlined modification programs to our customers, which is what's keeping the delinquency rates low as well.

[Derek Sommers, analyst]

Got it. Very helpful color there. And then just to circle back to the kind of recapture implications on the subservicing portfolio. Is there any sort of mix or directional trends you could provide on kind of the fee-based white label income versus kind of just true normal recapture originations?

[Jay Bray, executive]

I mean, I think, look, the portfolio is, call it, 50-50 right now from -- on a pro forma basis from subservicing [indiscernible]. And so I'm not sure I completely understand your question. But from a recapture standpoint, obviously, all the owned is -- we recapture all the economics there, and then for the 50% of subservice, like I mentioned earlier, a composition of our clients use our recapture services and we collect fee-based income for that. So that's how I would think about it.

[Operator]

And our next question comes from the line of Giuliano Bologna of Compass Point.

[Giuliano Anderes-Bologna, analyst]

Congratulations on continuing to execute extremely well. My first question is kind of related to the Flagstar acquisition. Obviously, the release mentions that you're bringing on some of the third-party origination capabilities from Flagstar.

I'd be curious if you think about that kind of in isolation, is there a rough sense of how much volume that's doing and how the margins compare to what you're originating? And then kind of related to that, I'm curious, roughly speaking, how -- what the replenishment rate looks like for kind of the acquired business when you think about the MSR subservicing and the origination platform coming alongside with...

[Kurt Johnson, executive]

So I'll touch on the first portion of the question and then Mike can touch on the second. So the Flagstar TPO business, they're a good business that's been around for a long time, has a really great client base originating, I think if you kind of look at their earnings releases, they're originating in excess of $1 billion a month.

So it's -- I think it will be good and complementary to our business. In terms of the margins, we don't really break out our margins on the corresponding product. But we see corresponding margins sort of in line universally across the industry, candidly. So we think it's probably pretty comparable.

[Michael Weinbach, executive]

Yes. And I'll just add to that. First of all, you have to recognize we just announced the deal this morning. So we're going to get the opportunity to talk to the team much more deeply and understand the relationships they have. The third-party origination business is about client relationships and personal relationships, and it's also largely about pricing, and it's a very competitive market.

So the short answer is we don't have a long answer. We're looking forward to getting to know the business better. It complements what we have already in this space. And we look forward to the opportunity to deepen relationships with our existing customers and develop new relationships that they have that we didn't yet have.

[Giuliano Anderes-Bologna, analyst]

That is very helpful. I guess I can kind of get there from the numbers you're providing. But if it was currently doing over $1 billion a month, obviously, things might change a little bit as you bring it over and integrate and make some adjustments. But it seems like, at least on the owned MSR side, it's probably replenishing more than 100% of runoff already. Is that a good way to think about that portfolio, kind of the way it looks as you're acquiring it, that is?

[Jay Bray, executive]

Yes, I think that is a good way to think about it. And as we've discussed on previous calls, when you look at our origination capabilities across the channels we're in, we're replenishing over 100% today. We expect that will continue.

[Operator]

Our next question comes from the line of Brian Violino of Wedbush Securities.

[Brian Violino, analyst]

Most of them asked and answered, but I just wanted to confirm that it doesn't sound like we should expect any real growth either of the subserving or owned servicing portfolio over the next few quarters outside of Flagstar. Is that fair?

[Kurt Johnson, executive]

So I think the question is, over the next couple of quarters, do we anticipate any growth in servicing and subservicing. As Jay just pointed out, we replenish based on kind of our originations volumes, and so we would anticipate continued replenishments and slight growth there.

I think, obviously, this acquisition, which will close in the fourth quarter, is bringing on close to $360 billion, almost $80 billion of owned MSR and roughly $280 billion of subservicing. So that's going to be the material component of our growth over the next couple of quarters. But as the opportunities present themselves, we will be opportunistic, but we're never going to kind of chase volume. Everything that we do is geared towards the return to our shareholders and our other investors.

[Michael Weinbach, executive]

Yes. And just to tie it all together, I mean, to reiterate the points that I think we've all made, our top priority is executing on this transaction and executing -- taking care of customers. But at the same time, with our strong capital position, it doesn't preclude us from being able to do other things.

And the reason why we've been growing and have a little bit of a tailwind, which will -- which has nothing to do with the transaction, that will remain in place, are the investments that we've been making in the platform. Servicing is a challenging business, and for a lot of originators, it benefits them to focus on what they are doing best, which is helping customers get into new homes and to have a partner that can help them realize the efficiency that comes with the investments in servicing.

And we do that through some of the ways that we buy servicing, and we do that through some of the ways we partner and provide subservicing, and the partners who've been utilizing us for that are able to focus more on what they do best, so they've been growing, and we've been growing along with them. And that's a little bit of a tailwind that will be there regardless of any bulk acquisitions, and why we think the portfolio will continue to grow.

[Brian Violino, analyst]

Great. And just one last one. Any update on the MSR fund?

[Jay Bray, executive]

Yes, we continue to make progress there, actually. Really good progress recently. So I think as we've said, we've got some significant partners that we're working with and looking to continue to get commitments from them through probably the last half of this year is how I would think about it. But I would say that the progress has been -- we've got a lot of momentum right now, and I feel good about it.

[Operator]

I'm showing no further questions at this time. I would now like to turn it back over to Jay Bray for any closing remarks.

[Jay Bray, executive]

We appreciate everybody joining the call and look forward to continuing to chat. Thank you.

[Operator]

Thank you for your participation in today's conference. This does conclude the program. You may now disconnect.