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Solid internal controls are in place.
As we write this letter, we are acutely aware that there has been much concern in the financial markets about questionable management and accounting practices in the corporate world. We want to strongly assure you that we hold ourselves and our employees to the highest level of integrity as stewards of your capital. A commitment to integrity must be embedded in every level of an organization. To accomplish this, a company must build a culture of systematic controls and procedures, supported by thorough training and open communication. Each employee must be empowered to make suggestions, comments or constructive criticism. IndyMac has such a culture.
As a mortgage banker, we hold assets in our investment portfolio that are created in connection with the sale or securitization of mortgage loans. These assets consist primarily of mortgage servicing rights, AAA-rated interest-only securities and non-investment grade securities (including residual securities). Retaining these assets is necessary to achieve best execution through full access to certain sale distribution channels, however, it also can make mortgage banking a negative cash-flow operation.*
While we don’t hold these assets in significant concentrations relative to our total assets (they represent eight percent of our total assets in the aggregate and less than one percent in the form of non-investment grade securities), to properly value them, we utilize complex financial models that incorporate significant assumptions and judgments, which could vary significantly as market conditions change. We also must make significant judgments in determining the appropriate level of loan loss reserves.
Following is a brief description of the controls we have put in place to ensure that our judgments are made in a reasonable and consistent manner, and that the financial community can have a high level of confidence in our reported results.
- The determination to retain assets created in our loan sale activities is driven by our Investment Portfolio Group, which is an independent profit center, separate and distinct from our Mortgage Banking Group. The Mortgage Banking Group is not permitted to retain assets and generally must sell all of its mortgage production within six months of origination. The Mortgage Banking Group obtains competitive market bids from independent third parties in addition to bids from the Investment Portfolio Group. The Investment Portfolio Group’s performance is measured based on the cash returns it achieves over the life of the assets it acquires, and as such will apply objective valuation techniques in its assessment of market value. This focus provides assurance that market factors are the key driver of the initial valuation of the retained assets and the non-cash component of the gain on sale of loans.
* This issue is discussed at length in a very insightful description of the mortgage banking industry that recently was published by Moody’s Investors Service entitled “Cash Economics of U.S. Mortgage Banking: Closing the GAAP in Reporting,” December 2001. |
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