A strong real estate market has been a key component of the economic recovery since the financial crisis, and Walker & Dunlop (WD +3.77%) has taken advantage of high demand for commercial and residential properties to extend capital for development projects. Even though investors have grown nervous about higher interest rates, many players in the real estate market have argued that they can withstand pressures on their business by being smart about their strategic plans and executing well.
Coming into Wednesday's third-quarter financial report, Walker & Dunlop investors hoped that the real estate financing specialist would be able to keep up its past pace of growth. Unfortunately, Walker & Dunlop's numbers fell short in some key areas, and that has some shareholders looking more closely at whether they have realistic expectations for the business in the years to come.
Image source: Walker & Dunlop.
Walker & Dunlop's latest numbers
Walker & Dunlop's third-quarter results weren't able to sustain all of the positive momentum that the business generated last quarter. Total revenue growth amounted to just 3%, weighing in at $184.7 million, and that was quite a bit slower than the 11% growth rate that most of those following the stock were expecting to see. Similarly, net income of $37.7 million was up just 10% from year-earlier levels, and the resulting earnings of $1.17 per share missed the consensus forecast among investors by $0.15.
Fundamentally, Walker & Dunlop kept doing its best to maintain what has been an extraordinary pace of business growth, but it didn't entirely succeed. Total transaction volume dropped 11% to $7.65 billion, with the company reporting strong demand for debt financing because of healthy commercial and multifamily real estate markets, interest rates that are still relatively low compared to historical levels, and rental property demand. Yet the big hit came from W&D's business with Freddie Mac, because the year-ago period included a huge $1.9 billion transaction that didn't repeat in the 2018 period. Solid growth in the Fannie Mae and brokered loan portfolios wasn't enough to make up for that gap, and a 6% drop in investment sales volume also contributed to the overall downward trend on the top line.
The size of Walker & Dunlop's managed portfolio, however, kept rising. Servicing assets rose 15% to $80.6 billion, offsetting a slight drop in the servicing fee rates that W&D was able to earn from 0.257% to 0.25%. The key reason for the gains is that even as Walker & Dunlop does new business, it hasn't seen much in the way of early payoffs on its servicing portfolio, because rising interest rates make it smarter to hang onto low-rate debt as long as possible. Out of roughly $74 billion in assets linked to agency loans, just $2 billion is scheduled to mature in the next two years, pointing to the likelihood of ongoing growth.
From a revenue perspective, mortgage banking activity sales fell due largely to a drop in gains attributable to mortgage servicing rights. However, higher servicing fees helped to cushion that blow, and a doubling of escrow earnings also helped to push the top line higher.
Can Walker & Dunlop keep moving forward?
CEO Willy Walker put the company's numbers into perspective. "Q3 represents the third strongest transaction volume in our history," Walker said, "and another strong quarter of continued execution of our strategic growth initiatives." The CEO highlighted the growing servicing portfolio as essential to W&D's success.
Moreover, Walker & Dunlop is well-positioned for future growth. The company added 16 new bankers and brokers so far this year, bringing its total personnel count to 160 and helping it find even more transactions. The CEO believes W&D can achieve its goal of $1 billion in annual revenue by 2020 as long as it can boost debt financing, investment sales, servicing portfolio size, and assets under management dramatically in the next couple of years.
To get there, Walker & Dunlop has to stay laser-focused on discipline as well. Figures for 60-day delinquencies in the servicing portfolio nearly doubled to 0.04%, and while that's still low, any downturn in the business cycle could send those numbers higher. More generally, keeping costs under control will be crucial even as Walker & Dunlop seeks to boost its activity levels and bring on new staff.
Investors weren't entirely pleased with the company's earnings shortfall, and Walker & Dunlop stock dropped 5% Wednesday morning following the announcement. Yet with the real estate financier more confident than ever in its strategy to deal with rising interest rates, those shareholders who sell now might end up being disappointed with their decision in the long run.
