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Indymac Bancorp Inc – ‘10-Q’ for 9/30/07

On:  Tuesday, 11/6/07, at 7:03am ET   ·   For:  9/30/07   ·   Accession #:  950134-7-22945   ·   File #:  1-08972

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  As Of                Filer                Filing    For·On·As Docs:Size              Issuer               Agent

11/06/07  Indymac Bancorp Inc               10-Q        9/30/07   10:3.1M                                   RR Donnelley

Quarterly Report   —   Form 10-Q
Filing Table of Contents

Document/Exhibit                   Description                      Pages   Size 

 1: 10-Q        Quarterly Report                                    HTML   1.95M 
 2: EX-4.1      Instrument Defining the Rights of Security Holders  HTML    102K 
 3: EX-4.2      Instrument Defining the Rights of Security Holders  HTML    115K 
 4: EX-10.1     Material Contract                                   HTML    116K 
 5: EX-10.2     Material Contract                                   HTML    162K 
 6: EX-10.3     Material Contract                                   HTML     61K 
 7: EX-31.1     Certification per Sarbanes-Oxley Act (Section 302)  HTML     13K 
 8: EX-31.2     Certification per Sarbanes-Oxley Act (Section 302)  HTML     13K 
 9: EX-32.1     Certification per Sarbanes-Oxley Act (Section 906)  HTML      9K 
10: EX-32.2     Certification per Sarbanes-Oxley Act (Section 906)  HTML      9K 


10-Q   —   Quarterly Report
Document Table of Contents

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11st Page   -   Filing Submission
"Table of Contents
"Part I. Financial Information
"Forward-Looking Statements
"Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations
"Overview
"Selected Consolidated Financial Highlights
"Summary of Business Segment Results
"Consolidated Risk Management Discussion
"Expenses
"Prospective Trends and Future Outlook
"Off-Balance Sheet Arrangements
"Aggregate Contractual Obligations
"Critical Accounting Policies and Judgments
"Other Considerations
"Appendix A: Additional Quantitative Disclosures
"Product Profitability Analysis
"S&P Lifetime Loss Estimates
"Production by Product -- FICO and CLTV
"SFR Mortgage Loan Production and Pipeline by Purpose
"SFR Mortgage Loan Production by Amortization Type
"SFR Mortgage Loan Production by Geographic Distribution
"MBR Margin
"Servicing Fee Income
"Mortgage Servicing Rights Rollforward
"Gain (Loss) on Mortgage-Backed Securities
"Unrealized Gains and Losses of Securities Available for Sale
"Mortgage-Backed Securities by Credit Rating
"Other Retained Assets
"Valuation of MSRs, Interest-Only, Prepayment Penalty, and Residual Securities
"Deposits by Channel and Product
"Item 3. Quantitative and Qualitative Disclosures About Market Risk
"Item 4. Controls and Procedures
"Item 1. Financial Statements (Unaudited)
"Consolidated Balance Sheets
"Consolidated Statements of Operations
"Consolidated Statements of Changes in Shareholders' Equity and Comprehensive Income (Loss)
"Consolidated Statements of Cash Flows
"Notes to Consolidated Financial Statements
"Part Ii. Other Information
"Item 1. Legal Proceedings
"Item 1A. Risk Factors
"Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
"Item 6. Exhibits

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Table of Contents

 
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 
 
 
 
Form 10-Q
 
 
     
þ
  QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
    For the quarterly period ended September 30, 2007
or
o
  TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
    For the transition period from          to
 
Commission file number 1-8972
 
INDYMAC BANCORP, INC.
(Exact name of registrant as specified in its charter)
 
     
Delaware
(State or other jurisdiction of
incorporation or organization)
  95-3983415
(I.R.S. Employer
Identification No.)
     
888 East Walnut Street,
Pasadena, California
(Address of principal executive offices)
  91101-7211
(Zip Code)
 
(Registrant’s telephone number, including area code)
(800) 669-2300
 
 
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.  Yes þ     No o
 
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act. (Check one):
 
Large accelerated filer þ     Accelerated filer o      Non-accelerated filer o
 
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  Yes o     No þ
 
Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.
 
Common stock outstanding as of October 31, 2007: 80,488,799 shares
 



 

 
FORM 10-Q QUARTERLY REPORT
For the Quarter Ended September 30, 2007

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 EXHIBIT 4.1
 EXHIBIT 4.2
 EXHIBIT 10.1
 EXHIBIT 10.2
 EXHIBIT 10.3
 EXHIBIT 31.1
 EXHIBIT 31.2
 EXHIBIT 32.1
 EXHIBIT 32.2


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PART I. FINANCIAL INFORMATION
 
FORWARD-LOOKING STATEMENTS
 
Certain statements contained in this Form 10-Q may be deemed to be forward-looking statements within the meaning of the federal securities laws. The words “anticipate,” “believe,” “estimate,” “expect,” “project,” “plan,” “forecast,” “intend,” “goal,” “target,” and similar expressions, as well as future or conditional verbs, such as “will,” “would,” “should,” “could,” or “may,” are generally intended to identify forward-looking statements that are inherently subject to risks and uncertainties, many of which are beyond Indymac’s control or cannot be predicted or quantified. Actual results and the timing of certain events could differ materially from those projected in or contemplated by the forward-looking statements or from historical results due to a number of factors, including, the effect of economic and market conditions including industry volumes and margins; the level and volatility of interest rates; Indymac’s hedging strategies, hedge effectiveness and asset and liability management; the accuracy of subjective estimates used in determining the fair value of financial assets of Indymac; the credit risks with respect to its loans and other financial assets including increased credit losses due to demand trends in the economy and in the real estate market and increased delinquency rates of borrowers; the actions undertaken by both current and potential new competitors; the availability of funds from Indymac’s lenders and from loan sales and securitizations to fund mortgage loan originations and portfolio investments including a reduction in secondary mortgage market investor demand; the execution of Indymac’s growth plans in a significant market transition; the impact of disruptions triggered by natural disasters; the impact of current, pending or future legislation, regulations or litigation; and other risk factors described in the reports that Indymac files with the Securities and Exchange Commission, including its Annual Report on Form 10-K, its Quarterly Reports on Form 10-Q, and its reports on Form 8-K. For further information on our risk factors, please refer to “Risk Factors” on pages 72 to 80 in Indymac’s annual report on Form 10-K for the year ended December 31, 2006 (“2006 10-K”) and Part II Item 1A “Risk Factors” on page 82. Accordingly, readers are cautioned not to place undue reliance on forward-looking statements, which speak only as of the date they are made. Indymac does not undertake to update or revise forward-looking statements to reflect the impact of circumstances or events that arise after the date the forward-looking statements are made.
 
References to “Indymac Bancorp” or the “Parent Company” refer to the parent company alone, while references to “Indymac,” the “Company,” or “we” refer to the parent company and its consolidated subsidiaries. References to “Indymac Bank” or the “Bank” refer to our subsidiary IndyMac Bank, F.S.B. and its consolidated subsidiaries. The following discussion addresses the Company’s financial condition and results of operations for the three and nine months ended September 30, 2007.


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ITEM 2.   MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
 
OVERVIEW
 
The third quarter of 2007 was marked by an unprecedented disruption in the U.S. mortgage market. The private mortgage-backed securities market, as well as markets for asset-backed commercial paper and other financing markets came to a virtual halt during the quarter. This disruption had severe consequences for many mortgage originators. Many lenders that were not depository institutions failed or were severely disrupted. The impact of the market disruption appears to have significantly impacted the U.S. housing market as both sales of homes and prices are expected to decline in the future. Indymac’s results of operations were significantly impacted by the disruptions resulting in material reductions to revenue for both credit and market risks.
 
For the three months ended September 30, 2007, Indymac had a consolidated net loss of $202.7 million, representing a negative 39% return on average equity (“ROE”). Regarding business segment performance1, the mortgage production divisions had a net loss of $123.6 million and a negative ROE of 67% in the third quarter while the mortgage servicing division had earnings of $85.3 million and a 85% ROE. Combining production and servicing, mortgage banking recorded a net loss of $50.5 million and a negative ROE of 17%. The thrift segment also recorded a net loss $104.4 million, representing a negative ROE of 45% for the third quarter. As a result of our thrift structure and strong capital and liquidity position, we were not forced to sell assets at liquidation prices and our funding capacity was not materially impacted.
 
 
1 Net income for the mortgage production divisions, mortgage servicing and the thrift portfolio is before divisional and corporate overhead. Net income for total mortgage banking segment is after divisional overhead but before corporate overhead.


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Table of Contents

 
SELECTED CONSOLIDATED FINANCIAL HIGHLIGHTS
 
The following highlights the Company’s consolidated financial condition and results of operations for the periods indicated (dollars in millions, except per share data):
 
                                         
    Three Months Ended  
    September 30,
    June 30,
    March 31,
    December 31,
    September 30,
 
    2007     2007     2007     2006     2006  
 
Balance Sheet Information (at period end)(1)
                                       
Cash and cash equivalents
  $ 785     $ 618     $ 577     $ 542     $ 521  
Securities (trading and available for sale)
    5,732       5,608       5,253       5,443       4,950  
Loans held for sale
    14,022       11,762       10,511       9,468       8,341  
Loans held for investment
    8,553       8,648       8,988       10,177       10,030  
Allowance for loan losses
    (162 )     (77 )     (68 )     (62 )     (61 )
Mortgage servicing rights
    2,490       2,387       2,053       1,822       1,631  
Other assets
    2,313       2,713       2,380       2,105       1,973  
                                         
Total Assets
  $ 33,733     $ 31,659     $ 29,694     $ 29,495     $ 27,385  
                                         
Deposits
  $ 16,775     $ 11,747     $ 11,452     $ 10,898     $ 10,111  
Advances from Federal Home Loan Bank
    11,095       10,873       10,350       10,413       9,333  
Other borrowings
    2,189       4,527       4,313       4,637       4,595  
Other liabilities and preferred stock in subsidiary
    1,803       2,462       1,525       1,519       1,409  
                                         
Total Liabilities and Preferred Stock in Subsidiary
  $ 31,862     $ 29,609     $ 27,639     $ 27,467     $ 25,447  
                                         
Shareholders’ Equity
    1,871       2,050       2,055       2,028       1,938  
Income Statement Information(1)
                                       
Net interest income
  $ 142     $ 149     $ 135     $ 133     $ 137  
Provision for loan losses
    (98 )     (17 )     (11 )     (9 )     (5 )
Gain (loss) on sale of loans
    (251 )     101       118       165       160  
Service fee income
    213       86       49       22       21  
Gain (loss) on MBS
    (94 )     (46 )     (5 )     (4 )     19  
Fee and other income
    46       25       16       13       14  
                                         
Net revenues
    (42 )     298       302       320       346  
Total expenses
    (283 )     (224 )     (216 )     (211 )     (203 )
(Provision) benefit for income taxes
    122       (29 )     (34 )     (36 )     (56 )
                                         
Net earnings (loss)
  $ (203 )   $ 45     $ 52     $ 72     $ 86  
                                         
Operating Data
                                       
SFR mortgage loan production
  $ 16,816     $ 22,505     $ 25,569     $ 25,946     $ 23,968  
Total loan production(2)
    17,062       23,023       25,930       26,328       24,439  
Mortgage industry market share(3)
    3.06 %     3.24 %     4.05 %     3.76 %     3.44 %
Pipeline of SFR mortgage loans in process (at period end)
  $ 7,421     $ 13,376     $ 16,112     $ 11,821     $ 14,556  
Loans sold
    13,009       20,194       24,537       23,417       19,508  
Loans sold/SFR mortgage loan production
    77 %     90 %     96 %     90 %     81 %
SFR mortgage loans serviced for others (at period end)(4)
  $ 173,915     $ 167,710     $ 156,144     $ 139,817     $ 124,395  
Total SFR mortgage loans serviced (at period end)
    192,629       183,574       171,955       155,656       139,022  
Average number of full-time equivalent employees (“FTEs”)
    9,890       9,431       8,755       8,477       8,186  
Per Common Share Data
                                       
Basic earnings (loss) per share(5)
  $ (2.77 )   $ 0.62     $ 0.72     $ 1.02     $ 1.25  
Diluted earnings (loss) per share(6)
    (2.77 )     0.60       0.70       0.97       1.19  
Dividends declared per share
    0.50       0.50       0.50       0.50       0.48  
Dividend payout ratio(7)
    (18 )%     83 %     71 %     52 %     40 %
Book value per share (at period end)
  $ 24.31     $ 27.83     $ 27.93     $ 27.78     $ 27.35  
Closing price per share (at period end)
    23.61       29.17       32.05       45.16       41.16  
Average Shares (in thousands):
                                       
Basic
    73,134       72,412       72,297       71,059       68,866  
Diluted
    73,134       73,976       74,305       74,443       72,286  
Performance Ratios
                                       
Return on average equity (annualized)
    (39.15 )%     8.62 %     10.45 %     14.56 %     18.27 %
Return on average assets (annualized)
    (2.18 )%     0.50 %     0.60 %     0.85 %     1.17 %
Net interest margin, consolidated
    1.78 %     1.92 %     1.77 %     1.76 %     2.13 %
Net interest margin, thrift(8)
    2.37 %     2.29 %     2.11 %     2.09 %     2.50 %
Mortgage banking revenue (“MBR”) margin on loans sold(9)
    (1.54 )%     0.80 %     0.68 %     0.91 %     1.03 %
Efficiency ratio(10)
    483 %     71 %     69 %     64 %     58 %
Operating expenses to total loan production
    1.58 %     0.97 %     0.83 %     0.80 %     0.83 %
Balance Sheet and Asset Quality Ratios
                                       
Average interest-earning assets
  $ 31,695     $ 31,255     $ 31,030     $ 29,868     $ 25,507  
Average assets
    36,833       35,837       35,341       33,765       29,140  
Average equity
    2,054       2,078       2,033       1,969       1,871  
Debt to equity ratio (at period end)(11)
    16.1:1       13.2:1       12.7:1       12.8:1       12.4:1  
Tier 1 core capital ratio (at period end)(12)
    7.48 %     8.10 %     7.41 %     7.39 %     7.60 %
Risk-based capital ratio (at period end)(12)
    11.79 %     12.09 %     11.28 %     11.72 %     11.62 %
Non-performing assets to total assets (at period end)(13)
    2.46 %     1.63 %     1.09 %     0.63 %     0.51 %
Allowance for loan losses to total loans held for investment (at period end)
    1.89 %     0.89 %     0.75 %     0.61 %     0.61 %
Allowance for loan losses to non-performing loans held for investment (at period end)
    47.64 %     36.07 %     44.11 %     57.51 %     77.43 %


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(1) The items under the balance sheet and income statement sections are rounded individually and therefore may not necessarily add to the total.
 
(2) Total loan production includes newly originated commitments on builder construction loans as well as commercial real estate loan production, which started in March 2007.
 
(3) Mortgage industry market share is calculated based on our total SFR mortgage loan production, both purchased (correspondent and conduit) and originated (retail and wholesale), in all channels (the numerator) divided by the Mortgage Bankers Association (“MBA”) October 17, 2007 Mortgage Finance Long-Term Forecast estimate of the overall mortgage market (the denominator). Our market share calculation is consistent with that of our mortgage banking peers. It is important to note that these industry calculations cause purchased mortgages to be counted more than once, i.e., first when they are originated and again by the purchasers (through correspondent and conduit channels) of the mortgages. Therefore, our market share calculation may not be mathematically precise, but it is consistent with industry calculations, which provide investors with a good view of our relative standing compared to the other top mortgage lending peers.
 
(4) SFR mortgage loans serviced for others represent the unpaid principal balance on loans sold with servicing retained by Indymac. Total SFR mortgage loans serviced include mortgage loans serviced for others and mortgage loans owned by and serviced for Indymac.
 
(5) Net earnings (loss) for the period divided by weighted average basic shares outstanding for the period.
 
(6) Net earnings (loss) for the period divided by weighted average dilutive shares outstanding for the period.
 
(7) Dividend payout ratio represents dividends declared per share as a percentage of diluted earnings (loss) per share.
 
(8) Net interest margin, thrift, represents the combined margin for thrift, elimination and other, and corporate overhead.
 
(9) Mortgage banking revenue margin is calculated using the sum of consolidated gain (loss) on sale of loans and the net interest income earned on loans held for sale by our mortgage banking production divisions divided by total loans sold.
 
(10) Efficiency ratio is defined as operating expenses divided by net revenues, excluding provision for loan losses.
 
(11) In the debt to equity calculation, debt includes deposits. Preferred stock in subsidiary is excluded from the calculation.
 
(12) The tier 1 core capital ratio and risk-based capital ratio are for Indymac Bank and exclude unencumbered cash at the Parent Company available for investment in Indymac Bank. The risk-based capital ratio is calculated based on the regulatory standard risk weightings adjusted for the additional risk weightings for subprime loans.
 
(13) Non-performing assets are non-performing loans plus foreclosed assets. Loans are generally placed on non-accrual status when they are 90 days past due.


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NARRATIVE SUMMARY OF CONSOLIDATED FINANCIAL RESULTS
 
Three Months ended September 30, 2007 Compared to Three Months ended September 30, 2006
 
The Company recorded a net loss of $202.7 million, or $2.77 loss per diluted share, for the third quarter of 2007. This represents decreases of 335% and 333% in net earnings and earnings per diluted share, respectively, compared with the net earnings of $86.2 million, or $1.19 per diluted share, for the third quarter of 2006. The decline in profitability is mainly attributable to credit costs of $408 million versus $15 million in the third quarter of 2006, or a negative impact on earnings per share (“EPS”) of $3.40; unprecedented disruption in the private-label mortgage-backed securities (spread widening) which resulted in a reduction of expected gain on sale revenue estimated at $167 million for the third quarter, or a negative EPS impact of $1.39; and staff reductions that took place in the third quarter (over 1,500 positions) which resulted in a one-time, pre-tax charge to earnings of roughly $28 million, or a negative $0.23 EPS impact. These items were partially offset by strong hedging performance with respect to the mortgage servicing rights (“MSR”) asset which resulted in an additional $149 million in pre-tax servicing profits in the third quarter, or a positive EPS impact of $1.24; and the sale and leaseback of a commercial property which houses our mortgage banking headquarters which resulted in a $24 million pre-tax gain recorded in the third quarter of 2007, having a $0.20 positive EPS impact.
 
SFR Mortgage Loan Production
 
Our total SFR mortgage loan production for the third quarter of 2007 dropped 30% to $16.8 billion as compared to $24.0 billion for the third quarter of 2006, and 25% from $22.5 billion for the second quarter of 2007. This decline in volume is mainly reflected in the 74%, or $6.7 billion, drop in production from our conduit channel from the third quarter of 2006 as we scaled back production from this channel due to its inherently lower profit margins and the current uncertainty with respect to secondary market spreads and execution. Compared to the second quarter of 2007, volume from the conduit channel also declined 55%, or $2.9 billion. Our core mortgage professionals group (excluding the conduit channel) produced $11.3 billion in the third quarter of 2007, reflecting a reduction of 4% and 15% from the third quarter of 2006 and second quarter of 2007, respectively. Our retail channel, now part of the core mortgage professionals group, continues to grow with production reaching $546 million this quarter, up 45% from the second quarter of 2007. While the servicing retention channel saw a decline of 29% from the second quarter of 2007, production increased 46% from the third quarter of 2006 to $1.1 billion. The pipeline of SFR mortgage loans in process ended at $7.4 billion, down 49% from $14.6 billion at September 30, 2006, and 45% from $13.4 billion at June 30, 2007.
 
Mortgage Banking Revenue Margin
 
Our MBR margin declined to a negative 1.54% for the quarter ended September 30, 2007 from 1.03% for the quarter ended September 30, 2006, and 0.80% for the quarter ended June 30, 2007. This year over year MBR margin decline was primarily due to higher credit costs and spread widening caused by the secondary market disruption. Notwithstanding the disruption, we sold $13.0 billion and recorded a net loss on sale of $251.1 million in the third quarter of 2007 (including the credit losses discussed below). By comparison, we sold $19.5 billion, which generated $160.2 million in gain on sale during the same period last year. Substantially all of the credit and spread widening costs were unrealized as we were not forced to liquidate any assets due to liquidity concerns.
 
Delinquencies and foreclosures significantly worsened in the third quarter of 2007 in our total servicing portfolio. As a result, a total of $408 million in credit related charges was recorded during the third quarter of 2007. The lower of cost or market (“LOCOM”) mark-to-market valuation reserve on loans held for sale (“HFS”) increased from June 30, 2007 by $225.9 million to $338.9 million at September 30, 2007. Due to the disruption in the secondary mortgage market, our HFS loans increased to $14.0 billion as the market for certain products stopped functioning. As a result of our thrift structure, our capital and liquidity position allowed us to retain loans held for sale in the third quarter when many of our peers were forced to sell assets to meet margin calls. We expect to transfer a portion of these loans to be held for investment (“HFI”) in the next two quarters.


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Other Credit Costs
 
For the HFI portfolio, provision for loan losses increased to $98.3 million for the third quarter of 2007 from $5.0 million for the third quarter of 2006, with the most significant increase in our homebuilder division’s portfolio. We recorded $72.8 million in credit related valuation adjustments to our residual and non-investment grade MBS portfolio. We also recorded a $32.0 million reduction in gain on sale revenue to increase our secondary market reserve.
 
Mortgage Servicing Performance
 
We had a strong performance from our Mortgage Servicing Division in the third quarter of 2007. This division benefited from the financial instruments we used to hedge against decline in market interest rates. Moreover, the value of our mortgage servicing rights did not experience a decline in value as the impact of lower swap and government-sponsored enterprise (“GSE”) rates were offset by significant spread widening in our predominantly non-GSE servicing portfolio. As a result, our mortgage servicing division recorded net earnings of $85.3 million, or an 85% ROE, despite a $2.3 million net loss from its servicing retention channel.
 
Operating Expenses
 
Total operating expenses of $269.7 million for the third quarter of 2007 were up 20% over the second quarter of 2007 and 33% from the same quarter a year ago. Operating expense growth in the third quarter of 2007 from the same period a year ago was driven mainly by the approximately $28 million in severance-related charges that were recorded this quarter as a result of the right-sizing of our workforce. We have executed on plans to reduce our workforce by roughly 1,500 positions, or 15%, through both the voluntary resignation with severance program and targeted involuntary layoffs for regular employees and reductions in our offshore and temporary workforce. In addition, we continued our investments in two of our new business activities, our retail channel and commercial mortgage division, with the bulk of the increase coming from the April 1, 2007 acquisition of the retail lending platform of the New York Mortgage Company (“NYMC”), including roughly 400 employees, and the hiring of over 1,400 retail lending professionals who were former employees of failed mortgage companies such as American Home Mortgage Investment Corp. (“AHM”). As a result, expenses increased by $20.7 million and $5.3 million from the third quarter of 2006 and second quarter of 2007, respectively. In addition, real estate owned (“REO”) related expenses significantly increased to $10.6 million in the third quarter of 2007 from $0.6 million in the same period last year. This is primarily driven by $7.9 million of further write-downs on REOs resulting from a further decline in their values.
 
Other Items
 
We also recognized a one-time gain of $24.0 million on the sale and leaseback of one of our properties in Pasadena, California. This gain is reflected in fee and other income in the consolidated statements of operations. Our total gain was $60 million with the remaining $36 million to be recognized over the lease term.
 
Nine Months ended September 30, 2007 Compared to Nine Months ended September 30, 2006
 
The Company recorded a net loss of $105.7 million, or $1.46 loss per diluted share, for the nine months ended September 30, 2007. These represent decreases of 139% and 138% in net earnings and earnings per diluted share, respectively, compared with net earnings of $270.7 million, or $3.87 per diluted share, for the nine months ended September 30, 2006. The decline in profitability is mainly attributable to higher credit costs and significant reduction in gain on sale of loans due to spread widening and illiquidity in the secondary mortgage market.
 
While total SFR mortgage loan production remained relatively flat at $64.9 billion and loan sales grew 4% to $57.7 billion during the first nine months of 2007 compared to the first nine months of 2006, net revenues declined 46% to $557.5 million during the same period. This is primarily due to the decline in MBR margin caused by the secondary market disruption discussed earlier and higher credit costs due to worsening delinquencies in our HFS, HFI and credit risk securities portfolios. The change in product mix of loans sold also contributed to the decline in MBR margin.


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As discussed earlier, credit costs during the first nine months of 2007 increased significantly due primarily to worsened delinquency and foreclosure rates in both our HFS and HFI portfolios. For the HFI portfolio, we increased the provision for loan losses to $126.2 million for the nine months ended September 30, 2007 compared to $11.0 million in the nine months ended September 30, 2006. We repurchased $562 million of loans in the first nine months of 2007, mainly due to early payment defaults, compared to $119 million in the first nine months of 2006. Accordingly, we recorded a provision for the secondary market reserve of $87.9 million for the nine months ended September 30, 2007, compared to $24.1 million for the same period last year.
 
Total non-interest income, excluding gain on sale of loans, increased 105% from $141.1 million for the first nine months of 2006 to $289.7 million for the first nine months of 2007. This increase is largely due to the strong performance from our mortgage servicing division. Service fee income increased $268.5 million, as a direct result of out performance in hedging, as well as, the growth in our servicing portfolio and slower prepayment rates. Revenue from our MBS portfolio declined from $24.6 million for the first nine months of 2006 to a loss of $145.4 million for the first nine months of 2007, primarily due to valuation adjustments on non-investment grade and residual securities, which reflected expected credit losses. Lastly, we recorded a one-time gain of $24.0 million on the sale and leaseback of one of our properties as discussed earlier.
 
Operating expenses increased 23% from $578.1 million for the first nine months of 2006 to $709.5 million for the first nine months of 2007. The increase is primarily reflected in the 21% growth of our average FTEs from 7,755 for the first nine months of 2006 to 9,359 for the first nine months of 2007, which was necessary to support the expansion of our retail lending group and growth in loan servicing and default management functions. We recorded severance charges of approximately $28 million in the third quarter related to the right-sizing of our workforce. This was partially offset by a one-time expense reduction of $10.3 million related to the curtailment of our pension plan in the second quarter of 2007. Without the two unusual items, the expense growth year over year was 20%. While year-over-year servicing portfolio and total assets have grown by 40% and 24%, respectively, we have been able to hold the growth in ongoing operating expenses to 20% through our previously disclosed cost saving initiatives. We expect to continue to see the benefit of these initiatives, including the right-sizing of our workforce, in the future.
 
SUMMARY OF BUSINESS SEGMENT RESULTS
 
Indymac’s hybrid business model combines elements of mortgage banking and thrift investing. Mortgage banking involves the origination, securitization and sale of mortgage loans and related assets, and the servicing of those loans. The revenues from mortgage banking consist primarily of gains on the sale of loans, fees earned from origination, interest income earned while the loans are held for sale and servicing fees. On the thrift side, we generate core spread income from our investment portfolio of prime single-family residential (“SFR”) mortgage loans, home equity loans, consumer and builder construction loans and mortgage-backed securities (“MBS”).
 
As a result of the asset turn times associated with mortgage banking, it is less capital intensive than thrift investing and generally offers higher returns on invested capital. When demand for mortgages and related secondary products is high, more capital can be deployed in this segment. Thrift investing requires more capital than mortgage banking and generates correspondingly lower returns on invested capital. However, the returns generally tend to be more stable and less cyclical than those from mortgage banking. We allocate more capital to the thrift segment when we believe the secondary market is under-valuing returns on mortgage-related assets. The ability to deploy capital into the segment with the best opportunities at any given time allows us to focus on strong shareholder returns throughout the interest rate cycle.
 
We have developed a detailed reporting process that computes net earnings and ROE for our key business segments each reporting period and uses the results to evaluate our managers’ performance and determine their incentive compensation. In addition, we use the results to evaluate the performance and prospects of our divisions and adjust our capital allocations to those divisions that earn the best returns for our shareholders.


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We predominantly use Generally Accepted Accounting Principles (“GAAP”) to compute each division’s financial results as if it were a stand-alone entity. Consistent with this approach, borrowed funds and their interest cost are allocated based on the funds actually used by the Company to fund the division’s assets and capital is allocated based on regulatory capital rules for the specific assets of each segment. Additionally, transactions between divisions are reflected at arms-length in these financial results and intercompany profits are eliminated in consolidation. We do not allocate fixed corporate and business unit overhead costs to our profit center divisions, because the methodologies to do so are arbitrary and distort each division’s marginal contribution to our profits. However, the cost of these overhead activities is included in the following tables to reconcile to our consolidated results, and is tracked closely, so the responsible managers can be held accountable for the level of these costs and their efficient use.
 
Our segment reporting is organized consistent with our hybrid business model that combines mortgage banking and thrift investing. The activities of the mortgage banking segment involve the origination, securitization and sale of mortgage loans and related assets, and the servicing of those loans. The revenues from mortgage banking consist primarily of gains on the sale of the loans, fees earned from origination, net interest income earned while the loans are held pending sale, and servicing fees. In the thrift segment, we primarily generate core spread income from our investment portfolio of mortgage-backed securities, prime SFR mortgages, home equity loans, and consumer and builder construction loans.


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The following tables and discussion explain the recent results of our two major operating segments, mortgage banking and thrift. These activities, combined with the eliminations and other category, which includes supporting deposit and treasury costs as well as eliminating entries, form our total operating results. Our unallocated corporate overhead costs are also presented and discussed. We have also included supplemental tables showing detailed division level financial results for each of our segments.
 
The following tables summarize the Company’s financial results by segment for the periods indicated (dollars in thousands):
 
                                                 
    Mortgage
                Total
             
    Banking
    Thrift
    Eliminations
    Operating
    Corporate
    Total
 
    Segment     Segment     & Other(1)     Results     Overhead     Company  
 
Three Months Ended September 30, 2007
                                       
Operating Results
                                               
Net interest income
  $ 39,226     $ 73,829     $ 29,900     $ 142,955     $ (777 )   $ 142,178  
Provision for loan losses
          (98,279 )           (98,279 )           (98,279 )
Gain (loss) on sale of loans
    (157,670 )     (35,783 )     (57,666 )     (251,119 )           (251,119 )
Service fee income (expense)
    183,273       1,571       28,085       212,929             212,929  
Gain on sale and leaseback of building
                            23,982       23,982  
Gain (loss) on MBS
    (3,321 )     (91,617 )     1,269       (93,669 )           (93,669 )
Other income (expense)
    11,737       8,735       898       21,370       222       21,592  
                                                 
Net revenues (expense)
    73,245       (141,544 )     2,486       (65,813 )     23,427       (42,386 )
Operating expenses
    214,516       34,250       17,345       266,111       39,111       305,222  
Severance charges
                            27,634       27,634  
Deferral of expenses under SFAS 91
    (58,379 )     (4,349 )           (62,728 )           (62,728 )
                                                 
Pre-tax earnings (loss)
    (82,892 )     (171,445 )     (14,859 )     (269,196 )     (43,318 )     (312,514 )
Minority interests
                            12,396       12,396  
                                                 
Net earnings (loss)
  $ (50,512 )   $ (104,411 )   $ (9,017 )   $ (163,940 )   $ (38,777 )   $ (202,717 )
                                                 
Performance Data
                                               
Average interest-earning assets
  $ 14,591,406     $ 16,618,394     $ (94,598 )   $ 31,115,202     $ 579,356     $ 31,694,558  
Allocated capital
    1,157,664       914,473       11,335       2,083,472       (29,091 )     2,054,381  
Loans produced
    16,176,966       884,732       N/A       17,061,698             17,061,698  
Loans sold
    13,827,123       826,566       (1,645,142 )     13,008,547             13,008,547  
MBR margin
    (0.77 )%     (4.33 )%     N/A       N/A       N/A       (1.54 )%
ROE
    (17 )%     (45 )%     N/A       (31 )%     N/A       (39 )%
Net interest margin
    N/A       1.76 %     N/A       1.82 %     N/A       1.78 %
Net interest margin, thrift
    N/A       1.76 %     N/A       N/A       N/A       2.37 %
Average FTE
    7,734       660       339       8,733       1,157       9,890  
Three Months Ended September 30, 2006
                                       
Operating Results
                                               
Net interest income
  $ 37,707     $ 79,043     $ 22,034     $ 138,784     $ (2,073 )   $ 136,711  
Provision for loan losses
          (4,988 )           (4,988 )           (4,988 )
Gain (loss) on sale of loans
    166,663       16,558       (22,996 )     160,225             160,225  
Service fee income (expense)
    29,927       (397 )     (8,472 )     21,058             21,058  
Gain (loss) on MBS
    15,622       1,976       1,370       18,968             18,968  
Other income (expense)
    2,802       10,631       (610 )     12,823       777       13,600  
                                                 
Net revenues (expense)
    252,721       102,823       (8,674 )     346,870       (1,296 )     345,574  
Operating expenses
    182,026       31,757       12,937       226,720       42,606       269,326  
Deferral of expenses under SFAS 91
    (60,988 )     (4,492 )     (718 )     (66,198 )           (66,198 )
                                                 
Pre-tax earnings (loss)
    131,683       75,558       (20,893 )     186,348       (43,902 )     142,446  
                                                 
Net earnings (loss)
  $ 80,041     $ 46,016     $ (13,141 )   $ 112,916     $ (26,736 )   $ 86,180  
                                                 
Performance Data
                                               
Average interest-earning assets
  $ 9,798,354     $ 15,500,071     $ (93,621 )   $ 25,204,804     $ 302,213     $ 25,507,017  
Allocated capital
    789,277       820,043       1,939       1,611,259       260,120       1,871,379  
Loans produced
    23,167,283       1,271,893             24,439,176             24,439,176  
Loans sold
    21,216,331       1,281,971       (2,990,126 )     19,508,176             19,508,176  
MBR margin
    0.98 %     1.29 %     N/A       N/A       N/A       1.03 %
ROE
    40 %     22 %     N/A       28       N/A       18 %
Net interest margin
    N/A       2.02 %     N/A       2.18       N/A       2.13 %
Net interest margin, thrift
    N/A       2.02 %     N/A       N/A       N/A       2.50 %
Average FTE
    5,902       657       324       6,883       1,303       8,186  
Quarter to Quarter Comparison
                                               
% change in net earnings
    (163 )%     (327 )%     31 %     (245 )%     (45 )%     (335 )%
% change in capital
    47 %     12 %     485 %     29 %     (111 )%     10 %
 
(1) Included are eliminations, deposits, and treasury items, the details of which are provided on page 31.


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MORTGAGE BANKING SEGMENT
 
Our mortgage banking segment primarily consists of the mortgage production divisions and the mortgage servicing division, which services the loans that Indymac originates, whether they have been sold into the secondary market or are held for investment on our balance sheet.
 
The mortgage banking segment reported an after-tax loss of $50.5 million in the third quarter of 2007 compared with net earnings of $80.0 million in the same period last year. These lower results were caused by a large decline in earnings from our production divisions, which reported a $123.6 million after-tax loss this quarter, partially offset by very strong returns and growth in the mortgage servicing area.
 
The primary driver of the loss in the mortgage production divisions this quarter was the decline in the MBR margin from a positive 0.97% of loans sold in last year’s third quarter to a negative 0.83% of loans sold in this year’s third quarter. A large increase in production credit costs was the primary cause of this decline. Mortgage banking revenue was reduced by $226.0 million in pre-tax credit related costs this quarter representing a $209.8 million increase from $16.2 million in the third quarter of 2006. As credit conditions in the U.S. mortgage market have deteriorated, our loan production credit costs have increased. However, we have identified the products where these losses were concentrated and stopped offering them. As a result, substantially all of the production credit losses we incurred this quarter resulted from products we no longer offer.
 
In addition to the increased credit losses, a severe disruption in the secondary market for loans and securities not sold to the GSEs reduced the value of our loans held for sale. As a result, we recognized $167.2 million less in gain on sale and MBS securities revenue than we expected.
 
The mortgage banking segment was also negatively impacted this quarter by the fact that it includes two start-up businesses; the retail lending channel and commercial mortgage banking that are currently unprofitable. These two businesses reported a combined after-tax loss of $11.5 million this quarter. We expect these businesses to contribute to mortgage banking profits next year.
 
Although worsening credit conditions and disrupted secondary markets were significant negatives for our production results this quarter, they improved the performance of our mortgage servicing division. These trends resulted in higher non-GSE mortgage rates, significantly more restrictive underwriting guidelines and declining home prices, all of which worked to slow prepayments in our servicing portfolio. The loans in our servicing portfolio prepaid at an annual rate of 12% in the third quarter of this year compared with 18% in last year’s third quarter. The expectation of slower non-GSE prepayments offset the impact of lower market interest rates and resulted in strong hedging results. As a result, the net income from our mortgage servicing division increased 325% from $20.1 million in the third quarter of 2006 to $85.3 million in this year’s quarter and resulted in an 85% return on the almost $400 million of capital we have invested in this division.


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The following tables provide additional detail on total mortgage banking segment for the periods indicated (dollars in thousands):
 
                                         
                Consumer
    Commercial
    Total
 
    Mortgage
    Mortgage
    Mortgage
    Mortgage
    Mortgage
 
    Production
    Servicing
    Banking
    Banking
    Banking
 
    Divisions     Division     O/H(1)     Division     Segment  
 
Three Months Ended September 30, 2007
                                       
Operating Results
                                       
Net interest income
  $ 50,572     $ (12,080 )   $ 632     $ 102     $ 39,124  
Provision for loan losses
                             
Gain (loss) on sale of loans
    (159,817 )     2,543       (193 )     (203 )     (157,467 )
Service fee income (expense)
    11,753       171,508       9       3       183,273  
Gain (loss) on MBS
          (3,321 )                 (3,321 )
Other income (expense)
    7,014       3,778       755       190       11,737  
                                         
Net revenues (expense)
    (90,478 )     162,428       1,203       92       73,245  
Operating expenses
    167,064       25,824       18,954       2,674       214,516  
Deferral of expenses under SFAS 91
    (54,672 )     (3,421 )           (286 )     (58,379 )
                                         
Pre-tax earnings (loss)
    (202,870 )     140,025       (17,751 )     (2,296 )     (82,892 )
                                         
Net earnings (loss)
  $ (123,579 )   $ 85,275     $ (10,810 )   $ (1,398 )   $ (50,512 )
                                         
Performance Data
                                       
Average interest-earning assets
  $ 13,040,013     $ 1,484,197     $ 2,109     $ 65,087     $ 14,591,406  
Allocated capital
    735,561       399,237       17,315       5,551       1,157,664  
Loans produced
    15,000,286       1,051,464       N/A       125,216       16,176,966  
Loans sold
    13,112,054       674,074       N/A       40,995       13,827,123  
MBR margin
    (0.83 )%     0.38 %     N/A       N/A       (0.77 )%
ROE
    (67 )%     85 %     N/A       (100 )%     (17 )%
Net interest margin
    1.54 %     N/A       N/A       0.62 %     N/A  
Average FTE
    5,839       296       1,549       50       7,734  
Three Months Ended September 30, 2006
                                       
Operating Results
                                       
Net interest income
  $ 41,218     $ (3,323 )   $ (188 )   $     $ 37,707  
Provision for loan losses
                             
Gain (loss) on sale of loans
    157,271       9,392                   166,663  
Service fee income (expense)
    5,599       24,328                   29,927  
Gain (loss) on MBS
          15,622                   15,622  
Other income (expense)
    303       1,653       846             2,802  
                                         
Net revenues (expense)
    204,391       47,672       658             252,721  
Operating expenses
    149,728       16,868       15,367       63       182,026  
Deferral of expenses under SFAS 91
    (58,860 )     (2,128 )                 (60,988 )
                                         
Pre-tax earnings (loss)
    113,523       32,932       (14,709 )     (63 )     131,683  
                                         
Net earnings (loss)
  $ 68,981     $ 20,056     $ (8,958 )   $ (38 )   $ 80,041  
                                         
Performance Data
                                       
Average interest-earning assets
  $ 9,152,748     $ 645,565     $ 41     $     $ 9,798,354  
Allocated capital
    509,136       269,464       10,677             789,277  
Loans produced
    22,446,264       721,019                   23,167,283  
Loans sold
    20,562,308       654,023                   21,216,331  
MBR margin
    0.97 %     1.44 %     N/A       N/A       0.98 %
ROE
    54 %     30 %     N/A       N/A       40 %
Net interest margin
    1.79 %     N/A       N/A       N/A       N/A  
Average FTE
    4,652       175       1,074       1       5,902  
Quarter to Quarter Comparison
                                       
% change in net earnings
    (279 )%     325 %     (21 )%     N/A       (163 )%
% change in equity
    44 %     48 %     62 %     N/A       47 %
 
(1) Included production division overhead, servicing overhead and secondary marketing overhead of $4.2 million, $3.7 million and $2.9 million, respectively, for the third quarter of 2007. For the third quarter of 2006, the production division overhead, servicing overhead and secondary marketing overhead were $3.8 million, $2.7 million and $2.5 million, respectively.


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MORTGAGE PRODUCTION DIVISIONS
 
The mortgage production divisions originate loans through three divisions: consumer direct, mortgage professionals group (“MPG”) and Financial Freedom. The MPG sources loans through relationships with mortgage brokers, financial institutions, realtors, and homebuilders and is composed of four business unit channels: retail, wholesale, correspondent and conduit.
 
The consumer direct division offers mortgage loans directly to consumers via our southern California retail branch network and our centralized call center, sourcing leads through direct mail, internet lead aggregators, online advertising and referral programs.
 
Within the MPG, the retail channel provides mortgage financing directly to home purchase oriented consumers by targeting Realtors®, homebuilders and financial professionals via storefront mortgage loan offices. With the goal of becoming a top 15 retail lender over the next five years, our recent acquisition of the retail platform of NYMC and the hiring of retail lending professionals from failed mortgage companies provide a model for this channel. As of September 30, 2007, we have 170 retail storefront mortgage offices/branches. This increase was mostly facilitated through a licensing agreement with AHM. Wholesale is the largest channel in our MPG, funding loans originated through mortgage brokers and emerging mortgage bankers nationwide. The correspondent channel purchases closed loans — those already funded — on a flow basis from mortgage brokers, realtors, homebuilders, mortgage bankers and financial institutions. The conduit channel opportunistically purchases pools of closed loans for portfolio, resale, or securitization and this channel is characterized by its low cost operations and quick asset turn times. Currently, we have elected not to use our conduit channel to source loans as a response to the present market condition.
 
The Financial Freedom division provides reverse mortgage products directly to seniors (age 62 and older) and through mortgage brokers and bankers. Financial Freedom also retains MSRs and receives fees an ancillary revenues for servicing loans sold into the secondary market.


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The following tables provide details on the results for the mortgage production divisions of our mortgage banking segment for the periods indicated (dollars in thousands):
 
                                                                 
          Mortgage Professionals Group Division              
                                  Total Mortgage
          Total
 
    Consumer
                            Professionals
    Financial
    Mortgage
 
    Direct
    Retail
    Wholesale
    Correspondent
    Conduit
    Group
    Freedom
    Production
 
    Division     Channel     Channel     Channel     Channel     Division     Division     Divisions  
 
Three Months Ended September 30, 2007
                                                               
Operating Results
                                                               
Net interest income
  $ 291     $ 1,508     $ 26,008     $ 5,666     $ 12,455     $ 45,637     $ 4,644     $ 50,572  
Provision for loan losses
                                               
Gain (loss) on sale of loans
    2,125       (568 )     (53,466 )     (23,261 )     (98,961 )     (176,256 )     14,314       (159,817 )
Service fee income (expense)
                                        11,753       11,753  
Gain (loss) on MBS
                                               
Other income (expense)
    173       1,654       5,240             (64 )     6,830       11       7,014  
                                                                 
Net revenues (expense)
    2,589       2,594       (22,218 )     (17,595 )     (86,570 )     (123,789 )     30,722       (90,478 )
Operating expenses
    5,369       31,448       78,111       9,672       10,235       129,466       32,229       167,064  
Deferral of expenses under SFAS 91
    (2,514 )     (12,223 )     (29,689 )     (4,032 )           (45,944 )     (6,214 )     (54,672 )
                                                                 
Pre-tax earnings (loss)
    (266 )     (16,631 )     (70,640 )     (23,235 )     (96,805 )     (207,311 )     4,707       (202,870 )
                                                                 
Net earnings (loss)
  $ (163 )   $ (10,128 )   $ (43,020 )   $ (14,150 )   $ (58,954 )   $ (126,252 )   $ 2,836     $ (123,579 )
                                                                 
Performance Data
                                                               
Average interest-earning assets
  $ 118,896     $ 205,379     $ 5,601,759     $ 1,257,571     $ 4,893,561     $ 11,958,270     $ 962,847     $ 13,040,013  
Allocated capital
    6,053       17,939       275,232       64,199       236,397       593,767       135,741       735,561  
Loans produced
    263,259       546,260       8,828,707       1,891,435       2,391,033       13,657,435       1,079,592       15,000,286  
Loans sold
    238,189       400,705       7,770,432       1,722,851       2,862,416       12,756,404       117,461       13,112,054  
MBR margin
    1.01 %     0.23 %     (0.35 )%     (1.02 )%     (3.02 )%     (1.02 )%     16.14 %     (0.83 )%
ROE
    (11 )%     (224 )%     (62 )%     (87 )%     (99 )%     (84 )%     8 %     (67 )%
Net interest margin
    0.97 %     2.91 %     1.84 %     1.79 %     1.01 %     1.51 %     1.91 %     1.54 %
Average FTE
    280       1,282       2,571       232       132       4,217       1,342       5,839  
Three Months Ended September 30, 2006
                                                               
Operating Results
                                                               
Net interest income
  $ 504     $ 3     $ 15,939     $ 3,577     $ 18,327     $ 37,846     $ 2,868     $ 41,218  
Provision for loan losses
                                               
Gain (loss) on sale of loans
    5,957       48       79,916       7,897       17,905       105,766       45,548       157,271  
Service fee income (expense)
                                        5,599       5,599  
Gain (loss) on MBS
                                               
Other income (expense)
    240       29                   (153 )     (124 )     187       303  
                                                                 
Net revenues (expense)
    6,701       80       95,855       11,474       36,079       143,488       54,202       204,391  
Operating expenses
    10,961       868       83,575       11,962       7,557       103,962       34,805       149,728  
Deferral of expenses under SFAS 91
    (5,197 )     (22 )     (40,282 )     (5,767 )           (46,071 )     (7,592 )     (58,860 )
                                                                 
Pre-tax earnings (loss)
    937       (766 )     52,562       5,279       28,522       85,597       26,989       113,523  
                                                                 
Net earnings (loss)
  $ 570     $ (466 )   $ 32,010     $ 3,215     $ 17,370     $ 52,129     $ 16,282     $ 68,981  
                                                                 
Performance Data
                                                               
Average interest-earning assets
  $ 174,893     $ 1,339     $ 3,734,539     $ 830,710     $ 3,609,638     $ 8,176,226     $ 801,629     $ 9,152,748  
Allocated capital
    8,755       67       192,689       42,780       149,894       385,430       114,951       509,136  
Loans produced
    447,753       7,890       9,280,817       2,503,012       9,078,589       20,870,308       1,128,203       22,446,264  
Loans sold
    448,113       5,947       9,050,759       2,385,091       7,600,746       19,042,543       1,071,652       20,562,308  
MBR margin
    1.44 %     0.86 %     1.06 %     0.48 %     0.48 %     0.75 %     4.52 %     0.97 %
ROE
    26 %     N/M       66 %     30 %     46 %     54 %     56 %     54 %
Net interest margin
    1.14 %     0.89 %     1.69 %     1.71 %     2.01 %     1.84 %     1.42 %     1.79 %
Average FTE
    362       25       2,507       246       147       2,925       1,365       4,652  
Quarter to Quarter Comparison
                                                               
% change in net earnings
    (129 )%     N/M       (234 )%     N/M       (439 )%     (342 )%     (83 )%     (279 )%
% change in capital
    (31 )%     N/M       43 %     50 %     58 %     54 %     18 %     44 %
 
(1) MBR margin is calculated using the sum of consolidated gain (loss) on sale of loans and the net interest income earned on HFS loans by our mortgage banking production divisions divided to total loans sold. The gain (loss) on sale of loans includes fair value adjustments on HFS loans in our portfolio at the end of the period that are not included in the amount of total loans sold.


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Table of Contents

The following table summarizes the key production drivers for the wholesale and correspondent channels for the periods indicated:
 
                                                 
    Three Months Ended        
    September 30,
    September 30,
    Percent
    June 30,
    Percent
       
    2007     2006     Change     2007     Change        
 
Key Production Drivers:
                                               
Active customers(1)
    9,223       7,686       20 %     9,187                
Sales personnel
    1,235       992       24 %     1,241                
Number of regional offices
    16       16             16                
 
(1) Active customers are defined as customers who funded at least one loan during the most recent 90-day period.
 
Loan Production
 
Loan production and sales are the profitability drivers of our mortgage banking segment. While the table on page 15 presents only the results of the mortgage production divisions of our mortgage banking segment, which contribute 95% to our total loan originations, the following discussion refers to total Company production, through both the mortgage banking and thrift segments.
 
We generated SFR mortgage loan production of $16.8 billion for the third quarter of 2007, down 30% and 25% from the third quarter of 2006 and second quarter of 2007, respectively. Total loan production, including commercial real estate loans and builder financings, reached $17.1 billion for the third quarter of 2007, compared to $24.4 billion a year ago. At September 30, 2007, our total pipeline of SFR mortgage loans in process was $7.4 billion, down 49% and 45% from September 30, 2006 and June 30, 2007, respectively. On October 17, 2007, the MBA issued an estimate of the industry volume for the third quarter of 2007 of $550 billion, which represents a 21% drop from both the second quarter of 2007 and third quarter of 2006. Based on this estimate, our market share is 3.06% for the quarter ended September 30, 2007, down from 3.44% and 3.24% in the quarters ended September 30, 2006 and June 30, 2007, respectively.
 
The decline in our SFR mortgage production in the third quarter of 2007 was mainly attributable to a significant decline in our conduit business as we elected not to use this channel to source loans at this time. Excluding production from the conduit channel, total SFR production declined 3% for the third quarter year over year. MPG’s retail channel generated $546 million in production for the third quarter of 2007. The Financial Freedom division saw a 4% decline in its reverse mortgage production from the third quarter of 2006, and was down 14% from the second quarter of 2007 as competition intensified in the reverse mortgage market. Our commercial mortgage banking division, which began operations in March 2007, generated $125 million of commercial real estate loans, while our homebuilder division saw a 74% decline in volume to $121 million for the third quarter of 2007.


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Table of Contents

The following summarizes our loan production by division and channel for the periods indicated (dollars in millions):
 
                                                                 
    Three Months Ended     Nine Months Ended  
    September 30,
    September 30,
    Percent
    June 30,
    Percent
    September 30,
    September 30,
    Percent
 
    2007     2006     Change     2007     Change     2007     2006     Change  
 
Production by Division and Channel:
                                                               
SFR mortgage loan production:
                                                               
Mortgage professionals group division:
                                                               
Wholesale channel(1)
  $ 8,829     $ 9,281       (5 )%   $ 10,238       (14 )%   $ 29,699     $ 26,887       10 %
Correspondent channel
    1,891       2,503       (24 )%     2,649       (29 )%     7,564       7,307       4 %
Conduit channel
    2,391       9,078       (74 )%     5,281       (55 )%     16,040       20,685       (22 )%
Retail channel
    546             N/A       376       45 %     971             N/A  
Consumer direct division
    263       456       (42 )%     289       (9 )%     872       1,533       (43 )%
Financial Freedom division
    1,080       1,128       (4 )%     1,258       (14 )%     3,559       3,583       (1 )%
Servicing retention channel
    1,052       721       46 %     1,490       (29 )%     3,660       1,688       117 %
Home equity division(2)
    4       30       (87 )%     7       (43 )%     36       93       (61 )%
Consumer construction division(2)
    760       771       (1 )%     917       (17 )%     2,489       2,229       12 %
                                                                 
Total SFR mortgage loan production
    16,816       23,968       (30 )%     22,505       (25 )%     64,890       64,005       1 %
Commercial loan production:
                                                               
Commercial mortgage banking division
    125             N/A       45       178 %     171             N/A  
Homebuilder division(2)
    121       471       (74 )%     473       (74 )%     954       1,365       (30 )%
                                                                 
Total loan production
  $ 17,062     $ 24,439       (30 )%   $ 23,023       (26 )%   $ 66,015     $ 65,370       1 %
                                                                 
Total pipeline of SFR mortgage loans in process at period end
  $ 7,421     $ 14,556       (49 )%   $ 13,376       (45 )%                        
                                                                 
 
 
(1) Wholesale channel includes $1.4 billion, $898 million, and $1.4 billion of production from wholesale inside sales for the quarters ended September 30, 2007 and 2006 and June 30, 2007, respectively, and $4.1 billion, and $2.2 billion of production from wholesale inside sales for the nine months ended September 30, 2007 and 2006, respectively. The wholesale inside sales force focuses on small and geographically remote mortgage brokers through centralized in-house sales personnel instead of field sales personnel.
 
(2) The amounts of home equity lines of credit (“HELOCs”), consumer construction loans and builder construction loans originated by these channels represent commitments.


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Table of Contents

 
The following summarizes our loan production by product type for the periods indicated (dollars in millions):
 
                                                                 
    Three Months Ended     Nine Months Ended  
    September 30,
    September 30,
    Percent
    June 30,
    Percent
    September 30,
    September 30,
    Percent
 
    2007     2006     Change     2007     Change     2007     2006     Change  
 
Production by Product Type:
                                                               
Standard first mortgage products:
                                                               
Prime
  $ 13,632     $ 19,363       (30 )%   $ 18,536       (26 )%   $ 52,887     $ 50,425       5 %
Subprime
    596       729       (18 )%     751       (21 )%     2,431       1,788       36 %
                                                                 
Total standard first mortgage products (S&P evaluated)
    14,228       20,092       (29 )%     19,287       (26 )%     55,318       52,213       6 %
Specialty consumer home mortgage products:
                                                               
HELOCs(1)/Seconds
    637       1,840       (65 )%     876       (27 )%     3,216       5,343       (40 )%
Reverse mortgages
    1,080       1,128       (4 )%     1,258       (14 )%     3,559       3,583       (1 )%
Consumer construction(1)
    871       908       (4 )%     1,084       (20 )%     2,797       2,866       (2 )%
                                                                 
Subtotal SFR mortgage production
    16,816       23,968       (30 )%     22,505       (25 )%     64,890       64,005       1 %
Commercial loan products:
                                                               
Commercial real estate
    125             N/A       45       178 %     171             N/A  
Builder construction commitments(1)
    121       471       (74 )%     473       (74 )%     954       1,365       (30 )%
                                                                 
Total production
  $ 17,062     $ 24,439       (30 )%   $ 23,023       (26 )%   $ 66,015     $ 65,370       1 %
                                                                 
Total S&P lifetime loss estimate(2)
    0.49 %     0.87 %             0.63 %             0.68 %     0.81 %        
 
 
(1) Amounts represent total commitments.
 
(2) While our production is evaluated using the Standard & Poor’s (“S&P”) Levels model, the data are not audited or endorsed by S&P. S&P evaluated production excludes second liens, HELOCs, reverse mortgages, and construction loans.
 
The above loan production by product type provides a breakdown of standard first mortgage products by prime and subprime only. As the definition of various product types tends to vary widely in the mortgage industry, we believe that further classification may not accurately reflect the credit quality of loans produced implied through such classification.


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Table of Contents

Loan Sale and Distribution
 
The following table shows the various channels through which loans were distributed for the Company during the periods indicated (dollars in millions):
 
                                         
    Three Months Ended     Nine Months Ended  
    September 30,
    September 30,
    June 30,
    September 30,
    September 30,
 
    2007     2006     2007     2007     2006  
 
Distribution of Loans by Channel:
                                       
Sales of GSE equivalent loans
    64 %     16 %     40 %     41 %     18 %
Private-label securitizations
    31 %     38 %     46 %     36 %     40 %
Whole loan sales, servicing retained
          38 %     13 %     20 %     36 %
Whole loan sales, servicing released
    1 %     1 %           1 %     2 %
                                         
Subtotal sales
    96 %     93 %     99 %     98 %     96 %
Investment portfolio acquisitions
    4 %     7 %     1 %     2 %     4 %
                                         
Total loan distribution percentage
    100 %     100 %     100 %     100 %     100 %
                                         
Total loan distribution
  $ 13,478     $ 20,914     $ 20,378     $ 58,789     $ 57,870  
                                         
 
Due to the disruptions in the secondary mortgage market, we have tightened our guidelines and focused on GSE eligible mortgage products. As a result, sales to GSEs increased to 64% of total loan distribution for the third quarter of 2007, up significantly from 16% and 40% for the third quarter of 2006 and second quarter of 2007, respectively. We expect that a very high percentage of our loan sales will be to the GSEs until the private MBS market recovers.
 
In conjunction with the sale of mortgage loans, we generally retain certain assets. The primary assets retained include MSRs and, to a lesser degree, AAA-rated and agency interest-only securities, AAA-rated principal-only securities, prepayment penalty securities, late fee securities, investment and non-investment grade securities, and residual securities. The allocated cost of the retained assets at the time of sale is recorded as an asset with an offsetting increase to the gain on sale of loans (or a reduction in the cost basis of the loans sold). The calculation of gain (loss) on sales of loans included the retention of $194.0 million of MSRs and $174.1 million of other retained assets, consisting of investment-grade securities of $151.0 million and non-investment grade and residual securities of $23.1 million during the three months ended September 30, 2007. During the three months ended September 30, 2007, assets previously retained generated cash flows of $217.9 million. More information on the valuation assumptions related to our retained assets can be found in table 14 “Valuation of MSRs, Interest-Only, Prepayment Penalty, and Residual Securities” on page 70.
 
The profitability of our loans is measured by the MBR margin, which is calculated using mortgage banking revenue divided by total loans sold. MBR includes total consolidated gain (loss) on sale of loans and the net interest income earned on mortgage loans held for sale by mortgage banking production divisions. Most of the gain (loss) on sale of loans resulted from the loan sale activities in our mortgage banking segment. The gain (loss) on sale recognized in the thrift segment, primarily lot loans and home equity products, is included in the MBR margin calculation.


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Table of Contents

The following table summarizes the amount of loans sold and the MBR margin during the periods indicated (dollars in millions):
 
                                                                 
    Three Months Ended     Nine Months Ended  
    September 30,
    September 30,
    Percent
    June 30,
    Percent
    September 30,
    September 30,
    Percent
 
    2007     2006     Change     2007     Change     2007     2006     Change  
 
Total loans sold
  $ 13,009     $ 19,508       (33 )%   $ 20,194       (36 )%   $ 57,739     $ 55,632       4 %
MBR margin after production hedging
    0.48 %     1.32 %     (64 )%     1.31 %     (63 )%     1.04 %     1.47 %     (29 )%
MBR margin after credit costs
    (1.26 )%     1.24 %     (202 )%     1.01 %     (225 )%     0.44 %     1.35 %     (67 )%
Net MBR margin
    (1.54 )%     1.03 %     (250 )%     0.80 %     (293 )%     0.22 %     1.12 %     (80 )%
 
For more details on our MBR margin see Table 7 on page 64 of our Appendix A.
 
MORTGAGE SERVICING DIVISION
 
Servicing is a key component of our business model, as it is a natural complement to our mortgage production operations and its financial performance tends to run countercyclical to the mortgage production business. Through MSRs retained from our mortgage banking activities, we collect fees and ancillary revenues for servicing loans sold into the secondary market. As interest rates rise, the expected life of the underlying loans is generally extended, which extends the life of the income stream flowing from those loans. This in turn increases the capitalized value of the associated MSRs. Conversely, as interest rates decline, the value of the MSRs may also decline. To mitigate the potential volatility in the MSRs, we hedge this asset to earn a stable return throughout the interest rate cycle. For more information on servicing hedges, see the “Consolidated Risk Management Discussion” section on page 33.
 
During the third quarter of 2007, the overall swap and GSE market rates declined, which resulted in gains in value in our hedging instruments. The decline in value of the MSR asset that would be attributed to swap and GSE market rates was entirely offset by reduced expectation of future prepayments from housing turnover and higher non-GSE market rates.
 
Our servicing portfolio provides opportunities to cross sell other products, such as HELOCs, checking accounts, certificates of deposit, and other deposit services. In a declining interest rate environment, our servicing portfolio provides an existing base of customers who may be in the market to refinance. Capturing or “retaining” these customers helps mitigate the decline in the value of our mortgage servicing asset caused by prepayment of the original loan.
 
The fair value of our MSRs is determined using discounted cash flow techniques benchmarked against third-party opinions. Estimates of fair value involve several assumptions, including assumptions about future prepayment rates, market expectations of future interest rates cost to service the loans (including default management costs), ancillary incomes, and discount rates. Prepayment speeds are projected using a prepayment model developed by a third-party vendor and calibrated for the Company’s collateral. The model considers key factors, such as refinance incentive, housing turnover, seasonality and aging of the pool of loans. Prepayment speeds incorporate expectations of future rates implied by the market forward LIBOR/swap curve, as well as collateral specific current coupon information. Refer to table 14 “Valuation of MSRs, Interest-Only, Prepayment Penalty, and Residual Securities” on page 70 for further detail on the valuation assumptions.
 
Total capitalized MSRs reached $2.5 billion as of September 30, 2007, up $858.3 million, or 53%, from $1.6 billion at September 30, 2006 and $667.2 million, or 37%, from $1.8 billion at December 31, 2006.


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The following tables provide additional detail on the results for the mortgage servicing division of our mortgage banking segment for the periods indicated (dollars in thousands):
 
                         
    Mortgage
          Total
 
    Servicing
    Servicing
    Mortgage
 
    Rights
    Retention
    Servicing
 
    Channel     Channel     Division  
 
Three Months Ended September 30, 2007
                       
Operating Results
                       
Net interest income (expense)
  $ (15,042 )   $ 2,962     $ (12,080 )
Provision for loan losses
                 
Gain (loss) on sale of loans
    279       2,264       2,543  
Service fee income (expense)
    171,508             171,508  
Gain (loss) on MBS
    (3,321 )           (3,321 )
Other income (expense)
    2,274       1,504       3,778  
                         
Net revenues (expense)
    155,698       6,730       162,428  
Operating expenses
    11,874       13,950       25,824  
Deferral of expenses under SFAS 91
          (3,421 )     (3,421 )
                         
Pre-tax earnings (loss)
    143,824       (3,799 )     140,025  
                         
Net earnings (loss)
  $ 87,589     $ (2,314 )   $ 85,275  
                         
Performance Data
                       
Average interest-earning assets
  $ 600,337     $ 883,860     $ 1,484,197  
Allocated capital
    358,217       41,020       399,237  
Loans produced
          1,051,464       1,051,464  
Loans sold
          674,074       674,074  
MBR margin
    N/A       0.34 %     0.38 %
ROE
    97 %     (22 )%     85 %
Net interest margin
    N/A       1.33 %     N/A  
Average FTE
    89       207       296  
Three Months Ended September 30, 2006
                       
Operating Results
                       
Net interest income (expense)
  $ (4,600 )   $ 1,277     $ (3,323 )
Provision for loan losses
                 
Gain (loss) on sale of loans
    1,575       7,817       9,392  
Service fee income (expense)
    24,328             24,328  
Gain (loss) on MBS
    15,622             15,622  
Other income (expense)
    309       1,344       1,653  
                         
Net revenues (expense)
    37,234       10,438       47,672  
Operating expenses
    8,605       8,263       16,868  
Deferral of expenses under SFAS 91
          (2,128 )     (2,128 )
                         
Pre-tax earnings (loss)
    28,629       4,303       32,932  
                         
Net earnings (loss)
  $ 17,435     $ 2,621     $ 20,056  
                         
Performance Data
                       
Average interest-earning assets
  $ 273,277     $ 372,288     $ 645,565  
Allocated capital
    252,148       17,316       269,464  
Loans produced
          721,019       721,019  
Loans sold
    19,249       634,774       654,023  
MBR margin
    N/A       1.23 %     1.44 %
ROE
    27 %     60 %     30 %
Net interest margin
    N/A       N/A       N/A  
Average FTE
    93       82       175  
Quarter to Quarter Comparison
                       
% change in net earnings
    402 %     (188 )%     325 %
% change in capital
    42 %     137 %     48 %
 
Total loans serviced for others reached $173.9 billion (including reverse mortgages and HELOCs) at September 30, 2007, with a weighted average coupon of 7.04%. In comparison, we serviced $124.4 billion of


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mortgage loans owned by others at September 30, 2006, with a weighted average coupon of 6.96%; and $167.7 billion at June 30, 2007, with a weighted average coupon of 7.06%.
 
The following table provides the activity in the servicing portfolios for the periods indicated (dollars in millions):
 
                                         
    Three Months Ended     Nine Months Ended  
    September 30,
    September 30,
    June 30,
    September 30,
    September 30,
 
    2007     2006     2007     2007     2006  
 
Unpaid principal balance of loans serviced at beginning of period
  $ 167,710     $ 109,989     $ 156,144     $ 139,817     $ 84,495  
Additions
    13,377       20,709       20,580       58,647       56,822  
Clean-up calls exercised
                (153 )     (153 )     (31 )
Loan payments and prepayments
    (7,172 )     (6,303 )     (8,861 )     (24,396 )     (16,891 )
                                         
Unpaid principal balance of loans serviced at end of period
  $ 173,915     $ 124,395     $ 167,710     $ 173,915     $ 124,395  
                                         
 
The following tables also provide additional information related to the servicing portfolio as of the dates indicated:
 
                         
    September 30,
    September 30,
    June 30,
 
    2007     2006     2007  
 
By Product Type:
                       
Fixed-rate mortgages
    37 %     34 %     36 %
Intermediate term fixed-rate loans
    35 %     29 %     34 %
Pay option adjustable-rate mortgages (“ARMs”)
    16 %     25 %     18 %
Reverse mortgages (all ARMs)
    9 %     9 %     9 %
HELOCs
    2 %     2 %     2 %
Other
    1 %     1 %     1 %
                         
Total
    100 %     100 %     100 %
                         
Additional Information(1):
                       
Weighted average FICO(2)
    705       703       704  
Weighted average original loan-to-value (“LTV”) ratio(3)
    73 %     73 %     72 %
Average original loan size (in thousands)
    243       228       239  
Percent of portfolio with prepayment penalty
    37 %     42 %     39 %
Portfolio delinquency (% of unpaid principal balance)(4)
    6.77 %     4.02 %     5.23 %
By Geographic Distribution:
                       
California
    43 %     42 %     43 %
Florida
    8 %     8 %     8 %
New York
    8 %     8 %     8 %
New Jersey
    4 %     4 %     4 %
Virginia
    4 %     4 %     4 %
Other
    33 %     34 %     33 %
                         
Total
    100 %     100 %     100 %
                         
 
 
(1) Portfolio delinquency is calculated for the entire servicing portfolio. All other information presented excludes reverse mortgages.
 
(2) FICO scores are the result of a credit scoring system developed by Fair Isaacs and Co. and are generally used by lenders to evaluate a borrower’s credit history. FICO scores of 700 or higher are generally considered in the mortgage industry to be very high quality borrowers with low risk of default, but in general, the secondary market will consider FICO scores of 620 or higher to be prime.
 
(3) Combined loan-to-value (“CLTV”) ratio for loans in the second lien position is used to calculate weighted average original LTV ratio for the portfolio.
 
(4) Delinquency is defined as 30 days or more past the due date excluding loans in foreclosure.


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THRIFT SEGMENT
 
Our thrift segment invests in loans originated by our various production units as well as in mortgage-backed securities. We manage our investments in the thrift portfolio based on the extent to which (1) the ROEs exceed the cost of both core and risk-based capital, or (2) they are needed to support the core mortgage banking investments in mortgage servicing rights and residual and non-investment grade securities, if the ROEs are below our cost of capital. Additionally, the segment engages in warehouse lending and consumer construction and homebuilder financing. These investing activities provide core spread income and generally, a more stable return on equity.
 
In addition to the $50.5 million net loss in our mortgage banking segment, our thrift segment reported a $104.4 million net loss in the third quarter of this year that was also caused by a large increase in credit related costs. Credit related costs for the thrift segment are reflected in the provision for loan losses as well as the valuation of our investment grade, non-investment grade and residual securities. Credit costs in the thrift segment for the third quarter of 2007 totaled $181.7 million pre-tax compared with essentially no credit costs in the thrift segment in last year’s third quarter as last year’s provision for loan losses was offset by credit related valuation gain on residual securities. Although all the divisions in the thrift segment incurred higher credit costs this quarter, the majority of the increase was concentrated in the homebuilder and the non-investment grade and residual securities divisions. Included in the total $98.3 million provision for loan losses for this segment was $78.2 million for the homebuilder division reflecting an expectation of increasing non-performing assets from this division as the housing market continues to deteriorate.


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The following tables provide detail on the results for divisions of our thrift segment for the periods indicated (dollars in thousands):
 
                                                                                 
          Non-
                                                 
          Investment
    Total
                                           
    Investment
    Grade and
    Mortgage-
    SFR
                                     
    Grade
    Residual
    Backed
    Mortgage
    Home
    Consumer
          Warehouse
    Discontinued
    Total
 
    Securities
    Securities
    Securities
    Loans HFI
    Equity
    Construction
    Homebuilder
    Lending
    Products
    Thrift
 
    Channel     Channel     Division     Division     Division     Division     Division     Division     Division     Segment  
 
Three Months Ended
September 30, 2007
                                                                               
Operating Results
                                                                               
Net interest income
  $ 8,576     $ 16,560     $ 25,136     $ 10,948     $ 9,021     $ 14,228     $ 12,754     $ 1,321     $ 421     $ 73,829  
Provision for loan losses
                      (12,000 )     (800 )     (6,750 )     (78,191 )     (88 )     (450 )     (98,279 )
Gain (loss) on sale of loans
                      (5,784 )     (37,051 )     7,052                         (35,783 )
Service fee income (expense)
                            1,571                               1,571  
Gain (loss) on MBS
    (19,213 )     (67,231 )     (86,444 )           (4,870 )     (303 )                       (91,617 )
Other income (expense)
                      543       1,606       6,415       (204 )     375             8,735  
                                                                                 
Net revenues (expense)
    (10,637 )     (50,671 )     (61,308 )     (6,293 )     (30,523 )     20,642       (65,641 )     1,608       (29 )     (141,544 )
Operating expenses
    59       842       901       4,649       3,490       18,755       5,410       980       65       34,250  
Deferral of expenses under SFAS 91
                            (43 )     (2,862 )     (1,444 )                 (4,349 )
                                                                                 
Pre-tax earnings (loss)
    (10,696 )     (51,513 )     (62,209 )     (10,942 )     (33,970 )     4,749       (69,607 )     628       (94 )     (171,445 )
                                                                                 
Net earnings (loss)
  $ (6,514 )   $ (31,371 )   $ (37,885 )   $ (6,664 )   $ (20,688 )   $ 2,892     $ (42,391 )   $ 382     $ (57 )   $ (104,411 )
                                                                                 
Performance Data
                                                                               
Average interest-earning assets
  $ 4,602,711     $ 403,030     $ 5,005,741     $ 5,455,887     $ 1,706,154     $ 2,963,940     $ 1,264,835     $ 190,996     $ 30,841     $ 16,618,394  
Allocated capital
    88,247       229,011       317,258       199,024       124,106       151,704       104,399       15,211       2,771       914,473  
Loans produced
                            3,726       759,900       121,106                   884,732  
Loans sold
                      329,996       82,596       413,974                         826,566  
ROE
    (29 )%     (54 )%     (47 )%     (13 )%     (66 )%     8 %     (161 )%     10 %     (8 )%     (45 )%
Net interest margin, thrift. 
    0.74 %     16.30 %     1.99 %     0.80 %     2.10 %     1.90 %     4.00 %     2.74 %     5.42 %     1.76 %
Efficiency ratio
    (1 )%     (2 )%     (1 )%     81 %     (12 )%     58 %     32 %     58 %     15 %     (69 )%
Average FTE
    2       9       11       11       75       405       128       30             660  
Three Months Ended
September 30, 2006
                                                                               
Operating Results
                                                                               
Net interest income
  $ 8,274     $ 11,002     $ 19,276     $ 20,430     $ 10,851     $ 10,454     $ 16,488     $ 1,035     $ 509     $ 79,043  
Provision for loan losses
                      (2,000 )           (720 )     (2,200 )     (18 )     (50 )     (4,988 )
Gain (loss) on sale of loans
                      748       5,788       10,022                         16,558  
Service fee income (expense)
                            (397 )                             (397 )
Gain (loss) on MBS
    (361 )     5,991       5,630             (3,607 )     (47 )                       1,976  
Other income (expense)
    (14 )           (14 )     429       2,392       6,655       703       466             10,631  
                                                                                 
Net revenues (expense)
    7,899       16,993       24,892       19,607       15,027       26,364       14,991       1,483       459       102,823  
Operating expenses
    315       658       973       1,365       5,607       17,690       4,911       1,134       77       31,757  
Deferral of expenses under SFAS 91
                            (361 )     (2,321 )     (1,810 )                 (4,492 )
                                                                                 
Pre-tax earnings (loss)
    7,584       16,335       23,919       18,242       9,781       10,995       11,890       349       382       75,558  
                                                                                 
Net earnings (loss)
  $ 4,619     $ 9,948     $ 14,567     $ 11,109     $ 5,957     $ 6,696     $ 7,241     $ 213     $ 233     $ 46,016  
                                                                                 
Performance Data
                                                                               
Average interest-earning assets
  $ 3,603,050     $ 242,911     $ 3,845,961     $ 5,851,294     $ 1,947,724     $ 2,568,007     $ 1,112,338     $ 135,511     $ 39,236     $ 15,500,071  
Allocated capital
    70,215       123,494       193,709       220,811       151,013       130,975       108,408       11,583       3,544       820,043  
Loans produced
                            29,806       770,937       471,150                   1,271,893  
Loans sold
                            635,366       646,605                         1,281,971  
ROE
    26 %     32 %     30 %     20 %     16 %     20 %     26 %     7 %     26 %     22 %
Net interest margin, thrift. 
    0.91 %     17.97 %     1.99 %     1.39 %     2.21 %     1.62 %     5.88 %     3.03 %     5.15 %     2.02 %
Efficiency ratio
    4 %     4 %     4 %     6 %     35 %     57 %     18 %     76 %     15 %     25 %
Average FTE
    6       7       13       14       76       416       111       27             657  
Quarter to Quarter Comparison
                                                                               
% change in net earnings
    (241 )%     (415 )%     (360 )%     (160 )%     (447 )%     (57 )%     N/M       79 %     (124 )%     (327 )%
% change in capital
    26 %     85 %     64 %     (10 )%     (18 )%     16 %     (4 )%     31 %     (22 )%     12 %


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The following tables and discussion present supplemental information to help understand the composition and credit quality of the assets held in our thrift portfolios. This section refers to company-wide assets, a small portion of which may be held in our mortgage banking divisions.
 
MORTGAGE-BACKED SECURITIES DIVISION
 
The following table provides the details of the mortgage-backed securities portfolio as of the dates indicated (dollars in thousands):
 
                                                                         
    September 30, 2007     September 30, 2006     December 31, 2006  
    Trading     AFS     Total     Trading     AFS     Total     Trading     AFS     Total  
 
Mortgage Banking Segment:                                                                        
AAA-rated agency securities
  $ 350,694     $     $ 350,694     $     $     $     $     $ 2,915     $ 2,915  
AAA-rated and agency interest-only securities
    71,901             71,901       64,083             64,083       66,581             66,581  
AAA-rated principal-only securities
    72,488             72,488       35,158             35,158       38,478             38,478  
Prepayment penalty and other securities
    83,205             83,205       92,326             92,326       93,176             93,176  
                                                                         
Total Mortgage Banking
    578,288             578,288       191,567             191,567       198,235       2,915       201,150  
                                                                         
Thrift segment:
                                                                       
AAA-rated non-agency securities
    152,773       3,762,877       3,915,650       33,829       4,130,995       4,164,824       43,957       4,604,489       4,648,446  
AAA-rated agency securities
    45,414       47,408       92,822             50,084       50,084             62,260       62,260  
AAA-rated and agency interest-only securities
                      4,357             4,357       6,989             6,989  
Prepayment penalty and other securities
    5,034             5,034       6,096             6,096       4,400             4,400  
Other investment grade securities
    255,390       468,766       724,156       29,906       163,289       193,195       29,015       160,238       189,253  
Other non-investment grade securities
    152,340       37,939       190,279       38,999       39,279       78,278       41,390       38,784       80,174  
Non-investment grade residual securities
    218,405       7,410       225,815       222,825       38,833       261,658       218,745       31,828       250,573  
                                                                         
Total thrift 
    829,356       4,324,400       5,153,756       336,012       4,422,480       4,758,492       344,496       4,897,599       5,242,095  
                                                                         
Total mortgage-backed securities
  $ 1,407,644     $ 4,324,400     $ 5,732,044     $ 527,579     $ 4,422,480     $ 4,950,059     $ 542,731     $ 4,900,514     $ 5,443,245  
                                                                         
 
AAA-rated mortgage-backed securities represented 79%, 87% and 89% of the total portfolio at September 30, 2007 and 2006 and December 31, 2006, respectively. These securities had an expected weighted average life of 3.2 years, 2.8 years and 2.9 years at September 30, 2007 and 2006 and December 31, 2006, respectively.
 
SFR MORTGAGE LOANS HFI DIVISION
 
The SFR mortgage loans HFI portfolio is comprised primarily of adjustable-rate and intermediate term fixed-rate mortgage loans. We invest in this portfolio depending on external market conditions.
 
Included in our loans HFI portfolio at September 30, 2007 were $1.1 billion in pay option ARM loans, or 22% of the portfolio, as compared to $1.2 billion, or 18% of the portfolio, at September 30, 2006 and $1.2 billion, or 18% of the portfolio, at December 31, 2006. As of September 30, 2007, approximately 88% (based on loan count) of our pay option ARM loans had negatively amortized, resulting in an increase of $46.5 million to their original loan balance. This is an increase from 80% and 83% at September 30, 2006 and December 31, 2006, respectively. The net increase in unpaid principal balance due to negative amortization was $7.9 million and $19.7 million for the three and nine months ended September 30, 2007, respectively, which approximated the deferred interest recognized for the periods.


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The following tables provide a composition of the SFR mortgage loans HFI portfolio and the relevant credit quality characteristics as of the dates indicated (dollars in thousands):
 
                         
    September 30,
    September 30,
    December 31,
 
    2007     2006     2006  
 
Outstanding balance (book value)
  $ 4,913,471     $ 6,462,610     $ 6,519,340  
Average loan size
    344       304       310  
Non-performing loans
    3.64 %     0.90 %     1.09 %
Estimated average life in years(1)
    3.5       2.4       2.6  
Estimated average net duration in month(2)
    2.2       (1.0 )     (3.5 )
Annualized yield
    6.32 %     6.00 %     6.01 %
Percent of loans with active prepayment penalty
    34 %     34 %     34 %
Fixed-rate mortgages
    6 %     5 %     5 %
Intermediate term fixed-rate loans
    16 %     14 %     15 %
Interest-only loans
    54 %     61 %     60 %
Pay option ARMs
    22 %     18 %     18 %
Other
    2 %     2 %     2 %
Additional Information:
                       
Average FICO score
    712       716       716  
Original average LTV ratio
    73 %     73 %     73 %
Current average LTV ratio(3)
    70 %     59 %     61 %
Geographic distribution of top five states:
                       
Southern California
    33 %     32 %     32 %
Northern California
    22 %     20 %     20 %
                         
Total California
    55 %     52 %     52 %
Florida
    6 %     6 %     6 %
New York
    5 %     4 %     4 %
Virginia
    3 %     3 %     3 %
Arizona
    3 %     3 %     3 %
Other
    28 %     32 %     32 %
                         
Total
    100 %     100 %     100 %
                         
 
 
(1) Represents the estimated length of time, on average, the SFR loan portfolio will remain outstanding based on our estimates for prepayments.
 
(2) Average net duration measures the expected change in the value of a financial instrument in response to changes in interest rates, taking into consideration the impact of the related hedges. The negative net duration implies an increase in value as rates rise while the positive net duration implies a decrease in value.
 
(3) Current average LTV ratio is estimated based on the Office of Federal Housing Enterprise Oversight House Price Index Metropolitan Statistical Area data for the second quarter of 2007 on a loan level basis.
 
HOME EQUITY DIVISION
 
The home equity division specializes in providing HELOC and closed-end second mortgages nationwide through our wholesale and retail channels. At September 30, 2007, our total HELOC servicing portfolio amounted to $4.1 billion, an increase of approximately $515.3 million from the portfolio size at December 31, 2006.
 
We produced $566.7 million of new HELOC commitments through our mortgage banking segment and internal channels during the third quarter of 2007, but sold none during the period. During the third quarter of 2006, we produced $1.0 billion of HELOC loans and sold $635.4 million with a corresponding gain on sale of $6.8 million.


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All HELOC loans are adjustable-rate loans and indexed to the prime rate. Information on the combined HELOC portfolio, including both HFS and HFI loans, is presented as of the dates indicated (dollars in thousands):
 
                         
    September 30,
    September 30,
    December 31,
 
    2007     2006     2006  
 
Outstanding balance (book value)
  $ 1,509,125     $ 765,760     $ 656,714  
Total commitments(1)
    3,149,353       2,115,407       2,211,298  
Average spread over prime
    1.23 %     1.17 %     1.39 %
Average FICO score
    729       736       737  
Average CLTV ratio(2)
    77 %     77 %     77 %
 
Additional Information on HELOC Portfolio
 
                                         
          Average Loan
          Current
    30+ Days
 
September 30, 2007
  Outstanding
    Commitment
    Average Spread
    Average
    Delinquency
 
CLTV Ratio
  Balance     Balance     Over Prime     FICO     Percentage(3)  
 
96% to 100%
  $ 90,729     $ 87       2.45 %     698       5.59 %
91% to 95%
    285,029       92       1.77 %     716       2.70 %
81% to 90%
    521,551       81       1.64 %     711       2.29 %
71% to 80%
    340,373       138       0.52 %     737       1.50 %
70% or less
    271,443       143       0.37 %     747       0.92 %
                                         
Total
  $ 1,509,125       109       1.23 %     729       2.14 %
                                         
September 30, 2006
CLTV Ratio
                                       
96% to 100%
  $ 80,904     $ 116       2.05 %     731       3.03 %
91% to 95%
    99,220       99       2.10 %     713       0.62 %
81% to 90%
    304,942       92       1.48 %     718       0.92 %
71% to 80%
    161,165       165       0.35 %     745       0.50 %
70% or less
    119,529       158       0.15 %     752       0.83 %
                                         
Total
  $ 765,760       126       1.17 %     736       1.00 %
                                         
 
 
(1) On funded loans.
 
(2) The CLTV ratio combines the LTV on both the first mortgage loan and the HELOC.
 
(3) 30+ days delinquency include loans that are 30 days or more past the due date including loans in foreclosure.
 
CONSUMER CONSTRUCTION DIVISION
 
Our consumer construction division provides construction financing for individual consumers who want to build a new primary residence or second home. The primary product is a construction-to-permanent residential mortgage loan. This product typically provides financing for a construction term from 6 to 12 months and automatically converts to a permanent mortgage loan at the end of construction. The end result is a loan product that represents a hybrid activity between our portfolio lending and mortgage banking activities. As of September 30, 2007, based on the underlying note agreements, 77% of the construction loans will be converted to adjustable-rate permanent loans, 15% to intermediate term fixed-rate loans, and 8% to fixed-rate loans.
 
During the third quarter of 2007, we entered into new consumer construction commitments of $0.9 billion, which is a decrease of 20%, or $213 million, from the second quarter of 2007 and a decrease of 4%, or $37 million, from the third quarter of 2006. Approximately 70% of new commitments are generated through mortgage broker customers of the MPG and the remaining 30% of new commitments are retail originations. Once each loan has converted to a permanent mortgage loan, the mortgage is classified as a mortgage loan HFS and may be sold in the secondary market or acquired by our SFR mortgage loan portfolio. The amount of construction loans that were


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converted to permanent status was $479 million for the third quarter of 2007, a decrease of 11% over the second quarter of 2007 but an increase of 6% over the third quarter of 2006. Overall, we are one of the largest custom residential construction lenders in the nation. Consumer construction loans outstanding at September 30, 2007 increased 17% from December 31, 2006 and September 30, 2006.
 
Since the introduction of a monthly adjusting construction period ARM product in the second quarter of 2006, the percentage of adjustable-rate loans in our portfolio has increased to 61% at September 30, 2007 from 20% and 29% at September 30, 2006 and December 31, 2006, respectively. The ratio of non-performing loans increased to 2.02% of the portfolio at September 30, 2007, compared to 0.82% and 1.14% at September 30, 2006 and December 31, 2006, respectively. As a result, we increased the provision for loan losses to $6.8 million for the third quarter of 2007 and increased the percentage of allowance for loan losses to book value to 0.57% at the end of the quarter.
 
Information on our consumer construction portfolio is presented in the following tables as of the dates indicated (dollars in thousands):
 
                         
    September 30,
    September 30,
    December 31,
 
    2007     2006     2006  
 
Outstanding balance (book value)
  $ 2,658,292     $ 2,271,995     $ 2,276,133  
Total commitments
    4,044,659       3,694,295       3,600,454  
Average loan commitment
    478       477       474  
Non-performing loans
    2.02 %     0.82 %     1.14 %
Fixed-rate loans
    39 %     80 %     71 %
Adjustable-rate loans
    61 %     20 %     29 %
Additional Information:
                       
Average LTV ratio(1)
    74 %     73 %     73 %
Average FICO score
    721       713       718  
Geographic distribution of top five states:
                       
Southern California
    29 %     28 %     28 %
Northern California
    13 %     15 %     15 %
                         
Total California
    42 %     43 %     43 %
Florida
    7 %     9 %     9 %
Washington
    4 %     4 %     4 %
New York
    4 %     4 %     4 %
Arizona
    4 %     3 %     3 %
Other
    39 %     37 %     37 %
                         
Total
    100 %     100 %     100 %
                         
 
 
(1) The average LTV ratio is based on the estimated appraised value of the completed project compared to the commitment amount at the date indicated.
 
HOMEBUILDER DIVISION
 
The homebuilder division provides land acquisition, development and construction financing to small to mid-sized homebuilders for residential construction. Our typical customer is a mid-size, professional homebuilder who builds between 20 and 2,000 homes per year. We do a limited amount of business with large private and public homebuilders. Builder construction loans are typically adjustable-rate loans, indexed to the prime interest rate with terms ranging from 12 to 24 months. We earn net interest income on these loans. 95% of the loans in this portfolio are secured by corporate or personal guarantees of the builders as well as the underlying real estate. At September 30, 2007, 22% of these loans have balances over $25 million, down from 34% at September 30, 2006. The homebuilder division has central operations in Pasadena, California with 17 satellite sales offices in


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California, Florida, Georgia, Illinois, Massachusetts, North Carolina, Oregon, Pennsylvania, Tennessee, Texas, Washington, and Washington D.C.. We have closed our operations in Arizona due to the current market condition.
 
During the third quarter of 2007, we entered into new commitments of $121 million, which is a decrease of 74%, or $352 million, from the second quarter of 2007 and a decrease of 74%, or $350 million, from the third quarter of 2006. Renewals or refinances accounted for 72% of new commitments in the third quarter of 2007, as compared to 59% for the second quarter of 2007 and 55% for the third quarter of 2006. Builder loans outstanding, including tract construction and land and other mortgage loans, totaled $1.2 billion, or 3% of the Company’s total assets at September 30, 2007.
 
The rapid deterioration in the California and Florida real estate markets and the disruption in the mortgage market in the third quarter had a significant impact on our homebuilder portfolio, resulting in an increase in classified and non-performing loans and our allowance for loan losses at quarter-end. All loans in the portfolio are assigned a credit grade quarterly. Classified assets are ones with ratings of substandard, loss or doubtful. A substandard loan, for instance, is one that has a well-defined weakness such that the asset is inadequately protected by net worth, cash flow, or collateral value. There is a distinct possibility that the Company will sustain some loss if the deficiencies are not corrected. A loan classified as doubtful has a high likelihood of a loss. Finally, the classification of loss is assigned to that portion of an asset that is considered uncollectible. We use the asset grades to determine our allowance for losses. As loans are assigned lower credit grades, the general allowance for loss number for the asset increases.
 
At September 30, 2007, non-performing loans for the builder construction portfolio rose to 9.03%, or $106.1 million, from 0.78%, or $9.0 million, at December 31, 2006, and zero at September 30, 2006. Classified assets were $421 million, or 35% of outstandings, at September 30, 2007, up from $121 million, or 10.3%, at December 31, 2006. Provision to the allowance for loan losses was $78.2 million or 6.0% of average loans for the third quarter of 2007, up from $2.2 million or 0.2% of average loans for the third quarter of 2006. The total allowance for loan losses as a percentage of book value increased to 8.48% of book value of total loans at September 30, 2007, compared to $19.4 million or 1.7% at September 30, 2006. Charge-offs and REO are currently zero but we do not expect they will remain at this level. The weighted average LTV ratio of this portfolio increased three percentage points to 76% compared to December 31, 2006 and September 30, 2006.
 
Characteristics of our homebuilder construction and development loan portfolios are detailed below:
 
  •  Land acquisition and development loans: This category of 55 loans totals $372 million in outstanding balances, of which three loans totaling $21 million are non-accrual and an additional seven loans at $86 million were considered classified.
 
  •  Land acquisition, development and construction loans: This category of 179 loans totals $803 million in outstanding balances, of which 6 loans totaling $85 million are non-accrual and an additional 20 loans at $138 million were considered classified assets at quarter-end.
 
We are monitoring this portfolio very closely due to rapidly changing conditions affecting both the underlying collateral values and the projected repayment sources in the current environment. We do not anticipate that the housing market will improve in the near-term, and accordingly, additional downgrades, provisions for loan losses and charge-offs relating to this portfolio are anticipated.


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Information on our homebuilder portfolio is presented in the following tables as of the dates indicated (dollars in thousands):
 
                         
    September 30,
    September 30,
    December 31,
 
    2007     2006     2006  
 
Outstanding balance (book value)
  $ 1,175,473     $ 1,124,330     $ 1,144,835  
Total commitments
    1,783,395       2,093,345       2,010,727  
Average loan commitments
    8,574       11,135       10,810  
Percentage of homes under construction or completed that are sold
    34 %     41 %     37 %
Median sales price of homes
    413       403       420  
Non-performing loans
    9.03 %     0.00 %     0.78 %
Allowance for loan losses as a percentage of book value
    8.48 %     1.72 %     1.79 %
Additional Information:
                       
Average LTV ratio(1)
    76 %     73 %     73 %
Geographic distribution of top five states:
                       
Southern California
    37 %     38 %     41 %
Northern California
    29 %     19 %     19 %
                         
Total California
    66 %     57 %     60 %
Florida
    11 %     12 %     11 %
Illinois
    6 %     10 %     9 %
Oregon
    4 %     6 %     6 %
Arizona
    3 %     5 %     4 %
Other
    10 %     10 %     10 %
                         
Total
    100 %     100 %     100 %
                         
 
 
(1) The average LTV ratio is based on the estimated appraised value of the completed project compared to the commitment amount at the date indicated.
 
ELIMINATIONS & OTHER SEGMENT
 
This segment contains the fixed costs of our deposit raising and treasury functions that are not allocated to our operating divisions, as well as entries to eliminate the impact of transactions between segments. In addition to selling loans into the secondary market, our production divisions regularly sell loans to our SFR mortgage division. These transactions are recorded at arms-length in our segment results resulting in intercompany gain on sale in the production divisions and a premium in the SFR mortgage division that is amortized over the life of the loan. Both the gain and the premium amortization are eliminated in consolidation.
 
Production divisions and mortgage servicing are exposed to movements in the intermediate fixed-rate loan spreads. Mortgage spread is the difference between mortgage interest rates and LIBOR/Swap rates. Tighter spreads benefit the mortgage bank as they lead to improved loan sales execution while wider spreads lead to slower projected prepayment speeds and an increase in the MSR value. Due to the inherent difficulty in hedging the movement of these spreads, the potential for an internal hedge exists whereby the risks from the spread movements will be shared between the two groups. Starting in the first quarter of 2007, the production divisions and mortgage servicing entered into an inter-divisional transaction to economically hedge their respective financial risks to mortgage spreads for certain products in the absence of readily available derivative instruments. With all else remaining constant, when mortgage spreads widen, the pipeline of mortgage loans held for sale is negatively impacted and mortgage servicing is positively impacted. The impact of the hedges has been reflected in the respective channel results with the consolidation adjustment recorded under “Interdivision Hedge Transactions” within eliminations.


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The following tables provide additional detail on deposits, treasury and eliminations for the periods indicated (dollars in thousands):
 
                                                 
                Eliminations        
                      Interdivision
             
                Interdivision
    Hedge
             
    Deposits     Treasury     Loan Sales(1)     Transactions     Other     Total  
    (Dollars in thousands)  
 
Three Months Ended September 30, 2007
                                       
Operating Results
                                               
Net interest income
  $     $ 13,015     $ 10,422     $     $ 6,463     $ 29,900  
Provision for loan losses
                                   
Gain (loss) on sale of loans
                (17,124 )     (43,884 )     3,342       (57,666 )
Service fee income (expense)
                      43,884       (15,799 )     28,085  
Gain (loss) on MBS
                            1,269       1,269  
Other income (expense)
    1,152       237                   (491 )     898  
                                                 
Net revenues (expense)
    1,152       13,252       (6,702 )           (5,216 )     2,486  
Operating expenses
    7,314       15,247                   (5,216 )     17,345  
Deferral of expenses under SFAS 91
                                   
                                                 
Pre-tax earnings (loss)
    (6,162 )     (1,995 )     (6,702 )                 (14,859 )
                                                 
Net earnings (loss)
  $ (3,753 )   $ (1,215 )   $ (4,049 )   $     $     $ (9,017 )
                                                 
Three Months Ended September 30, 2006
                                       
Operating Results
                                               
Net interest income
  $     $ 8,912     $ 8,290     $     $ 4,832     $ 22,034  
Provision for loan losses
                                   
Gain (loss) on sale of loans
                (22,996 )                 (22,996 )
Service fee income (expense)
                422             (8,894 )     (8,472 )
Gain (loss) on MBS
                1,370                   1,370  
Other income (expense)
    896       150                   (1,656 )     (610 )
                                                 
Net revenues (expense)
    896       9,062       (12,914 )           (5,718 )     (8,674 )
Operating expenses
    7,173       11,121                   (5,357 )     12,937  
Deferral of expenses under SFAS 91
                            (718 )     (718 )
                                                 
Pre-tax earnings (loss)
    (6,277 )     (2,059 )     (12,914 )           357       (20,893 )
                                                 
Net earnings (loss)
  $ (3,823 )   $ (1,254 )   $ (7,865 )   $     $ (199 )   $ (13,141 )
                                                 
 
 
(1) Includes loans sold of $1.6 billion and $3.0 billion for the three months ended September 30, 2007 and 2006, respectively.


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CORPORATE OVERHEAD SEGMENT
 
As previously mentioned, we do not allocate fixed corporate overhead costs to our profit center divisions, because the methodologies to do so are arbitrary and distort each division’s marginal contribution to our profits. These unallocated corporate overhead costs are reported in the corporate overhead segment. The after-tax loss from this segment increased 45% from a loss of $26.7 million in the third quarter of 2006 to $38.8 million in third quarter of 2007. The largest driver of this increase was the previously described $27.6 million pre-tax severance expenses ($16.8 million after-tax) related to our workforce rightsizing executed during the quarter. Additionally, we paid the first dividend in the amount of $12.4 million on approximately $500 million of 8.5% preferred stock raised in May 2007. Offsetting these expense increases was a $24 million pre-tax gain ($14.6 million after-tax) on the sale and leaseback of one of our properties in Pasadena. Excluding these three items, after-tax corporate overhead expenses in the third quarter of 2007 were $24.2 million, down 9.6% versus the prior year same quarter, driven by an 11% year over year reduction in average FTEs in the corporate overhead segment and execution of other non-labor cost savings initiatives.


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CONSOLIDATED RISK MANAGEMENT DISCUSSION
 
We manage many types of risks with several layers of risk management and oversight, using both a centralized and decentralized approach. Our philosophy is to put risk management at the core of our operations and establish a unified framework for measuring and managing risk across the enterprise, providing our business units with the tools — and accountability — to manage risk. At the corporate level, this consolidated risk management is known as Enterprise Risk Management (“ERM”). ERM, in partnership with the Board of Directors and senior management, provide support to and oversight of the business units.
 
ERM, as a part of management, develops, maintains and monitors our cost effective yet comprehensive enterprise-wide risk management framework, including our system of operating internal controls. ERM fosters a risk management culture throughout Indymac and exists to protect us from unexpected losses, earnings surprises and reputation damage. It also provides management and the Board with a better understanding of the trade-offs between risks and rewards, leading to smarter investment decisions and more consistent and generally higher long-term returns on equity.
 
CAMELS FRAMEWORK FOR RISK MANAGEMENT
 
The framework for organizing ERM is based on the six-point rating scale used by the Office of Thrift Supervision (“OTS”), our regulating body, to evaluate the financial condition of savings and loan associations. A discussion of the areas covered by CAMELS (Capital, Asset Quality, Management, Earnings, Liquidity and Sensitivity to Market Risk) follows.
 
CAPITAL
 
The Bank is subject to regulatory capital regulations administered by the federal banking agencies. As of September 30, 2007, the Bank met all of the requirements of a “well-capitalized” institution under the general regulatory capital regulations.
 
Our business is primarily centered on single-family lending and the related production and sale of loans. As such, the accumulation of MSRs is a large component of our strategy. As of September 30, 2007, the capitalized value of MSRs was $2.5 billion. OTS regulations generally impose higher capital requirements on MSRs that exceed total tier 1 capital. These higher capital requirements could result in lowered returns on our retained assets and could limit our ability to retain servicing assets. We have flexibility to sell or retain MSRs and the ability to increase our capital base through retention of earnings and other capital raising activities. While management believes that compliance with the capital limits on MSRs will not materially impact future results, no assurance can be given that our plans and strategies will be successful.
 
Capital Ratios
 
The following presents the Bank’s actual and required capital ratios and the minimum required capital ratios to be categorized as “well-capitalized” as of the period indicated (dollars in thousands):
 
                                 
    Capital Ratios  
    Tangible     Tier 1 Core     Tier 1 Risk-Based     Total Risk-Based  
 
September 30, 2007:                                
As reported pre-subprime risk-weighting
    7.48 %     7.48 %     11.26 %     12.01 %
Adjusted for additional subprime risk weighting
    7.48 %     7.48 %     11.06 %     11.79 %
Well-capitalized minimum
    2.00 %     5.00 %     6.00 %     10.00 %
Excess over well-capitalized minimum requirement
  $ 1,818,528     $ 823,114     $ 1,018,656     $ 360,630  
 
The OTS guidance for subprime lending programs requires a lender to quantify the additional risks in its subprime lending activities and determine the appropriate amounts of allowances for loan losses and capital it needs


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to offset those risks. We generally classify all non-GSE loans in a first lien position with a FICO score less than 620 and all non-GSE loans in a second lien position with a FICO score less than 660 as subprime. We report our subprime loan calculation in an addendum to the Thrift Financial Report that we file quarterly with the OTS. Subprime loans HFS and subprime loans HFI, which are either delinquent or more than 90 days old since origination, are supported by capital two times that of similar prime loans. These subprime loans totaled $463.7 million at September 30, 2007. The impact of the additional risk-weighting criteria related to subprime loans had the effect of reducing our total risk-based capital by 22 basis points from 12.01% to 11.79%.
 
We believe that, under current regulations, the Bank will continue to meet its “well-capitalized” minimum capital requirements in the foreseeable future. The Bank’s regulatory capital compliance could be impacted, however, by a number of factors, such as changes to applicable regulations, adverse action by our regulators, changes in our mix of assets, interest rate fluctuations, loan loss provisions and credit losses, or significant changes in the economy in areas where we have most of our loans, or future disruptions in the secondary mortgage market. Any of these factors could cause actual future results to vary from anticipated future results and consequently could have an adverse impact on the ability of the Bank to meet its future minimum capital requirements.
 
Capital Management and Allocation
 
As a federally regulated thrift, we are required to measure regulatory capital using two different methods: core capital and risk-based capital. Under the core capital method, a fixed percentage of capital is required against each dollar of assets without regard to the type of asset. Under the risk-based capital method, capital is held against assets which are adjusted for their relative risk using standard “risk weighting” percentages. We allocate capital using the regulatory minimums for well-capitalized institutions for each applicable asset class. The ratios are below the minimums due to the use of trust preferred securities as a form of regulatory capital.


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The following provides information on the core and risk-based capital ratios for the two primary segments and each of their operating divisions for the period indicated (dollars in thousands):
 
                                                                                 
    Total Assets     Core     Risk-Based  
          % of
    Avg.
    % of
                Avg.
    % of
             
    Average
    Total
    Allocated
    Total
    Capital/
          Allocated
    Total
    Capital/
       
Three Months Ended September 30, 2007
  Assets     Assets     Capital     Capital     Assets     ROE     Capital     Capital     Assets     ROE  
 
Mortgage Banking:
                                                                               
Consumer Direct
  $ 124,560       0.3 %   $ 4,982       0.2 %     4.0 %     (14 )%   $ 6,053       0.3 %     4.9 %     (11 )%
                                                                                 
Retail
    227,631       0.6 %     9,105       0.4 %     4.0 %     (445 )%     17,939       0.9 %     7.9 %     (224 )%
Wholesale
    5,623,117       15.3 %     224,925       10.9 %     4.0 %     (77 )%     275,232       13.4 %     4.9 %     (62 )%
Correspondent
    1,261,039       3.4 %     50,442       2.5 %     4.0 %     (112 )%     64,199       3.1 %     5.1 %     (87 )%
Conduit
    4,958,140       13.5 %     198,326       9.7 %     4.0 %     (119 )%     236,397       11.5 %     4.8 %     (99 )%
                                                                                 
Total Mortgage Professionals Group
    12,069,927       32.8 %     482,798       23.5 %     4.0 %     (105 )%     593,767       28.9 %     4.9 %     (84 )%
Financial Freedom
    1,263,677       3.4 %     146,331       7.1 %     11.6 %     8 %     135,741       6.6 %     10.7 %     8 %
                                                                                 
Total Production Divisions
    13,458,164       36.5 %     634,111       30.8 %     4.7 %     (78 )%     735,561       35.8 %     5.5 %     (67 )%
                                                                                 
Mortgage Servicing Rights
    3,714,352       10.1 %     243,378       11.8 %     6.6 %     141 %     358,217       17.4 %     9.6 %     97 %
Servicing/Customer Retention
    887,211       2.4 %     35,488       1.7 %     4.0 %     (26 )%     41,020       2.0 %     4.6 %     (22 )%
                                                                                 
Total Mortgage Servicing
    4,601,563       12.5 %     278,866       13.5 %     6.1 %     120 %     399,237       19.4 %     8.7 %     85 %
Mortgage Bank Overhead
    158,231       0.4 %     6,330       0.3 %     4.0 %     N/A       17,315       0.8 %     10.9 %     N/A  
                                                                                 
Total Consumer Mortgage Banking
    18,217,958       49.4 %     919,307       44.6 %     5.0 %     (22 )%     1,152,113       56.0 %     6.3 %     (17 )%
Commercial Mortgage Banking
    68,200       0.2 %     2,728       0.1 %     4.0 %     (207 )%     5,551       0.3 %     8.1 %     (100 )%
                                                                                 
Total Mortgage Banking
    18,286,158       49.6 %     922,035       44.7 %     5.0 %     (23 )%     1,157,664       56.3 %     6.3 %     (17 )%
Thrift:
                                                                               
Investment grade securities
    4,628,416       12.6 %     185,137       9.0 %     4.0 %     (12 )%     88,247       4.3 %     1.9 %     (29 )%
Non-investment grade and residuals
    448,297       1.2 %     17,932       0.9 %     4.0 %     (733 )%     229,011       11.1 %     51.1 %     (54 )%
                                                                                 
Total Mortgage-Backed Securities
    5,076,713       13.8 %     203,069       9.9 %     4.0 %     (76 )%     317,258       15.4 %     6.2 %     (47 )%
                                                                                 
Consumer lending portfolio Prime SFR mortgage loans     5,483,500       14.9 %     219,340       10.7 %     4.0 %     (12 )%     199,024       9.7 %     3.6 %     (13 )%
Home equity division
    1,745,687       4.7 %     69,989       3.4 %     4.0 %     (120 )%     124,106       6.0 %     7.1 %     (66 )%
                                                                                 
Total Consumer Loans
    7,229,187       19.6 %     289,329       14.1 %     4.0 %     (38 )%     323,130       15.7 %     4.5 %     (34 )%
Consumer construction division
    2,976,162       8.1 %     119,046       5.8 %     4.0 %     9 %     151,704       7.4 %     5.1 %     8 %
                                                                                 
Total Consumer Thrift Activities
    10,205,349       27.7 %     408,375       19.9 %     4.0 %     (24 )%     474,834       23.1 %     4.7 %     (20 )%
                                                                                 
Home builder division
    1,249,004       3.4 %     49,960       2.4 %     4.0 %     (340 )%     104,399       5.1 %     8.4 %     (161 )%
Warehouse Lending
    182,644       0.5 %     7,306       0.4 %     4.0 %     17 %     15,211       0.7 %     8.3 %     10 %
                                                                                 
Total Commercial Thrift Activities
    1,431,648       3.9 %     57,266       2.8 %     4.0 %     (295 )%     119,610       5.8 %     8.4 %     (139 )%
Discontinued products
    26,574       0.1 %     1,063       0.1 %     4.0 %     (27 )%     2,771       0.1 %     10.4 %     (8 )%
                                                                                 
Total Thrift Activities
    16,740,284       45.5 %     669,773       32.7 %     4.0 %     (63 )%     914,473       44.4 %     5.5 %     (45 )%
Consumer Bank — Deposits
    59,589       0.2 %     2,384       0.1 %     4.0 %     N/A       11,335       0.6 %     19.0 %     N/A  
Treasury
                            N/A       N/A                   N/A       N/A  
Eliminations
                            N/A       N/A                   N/A       N/A  
                                                                                 
Total Operating Activities
    35,086,031       95.3 %     1,594,192       77.5 %     4.5 %     (42 )%     2,083,472       101.3 %     5.9 %     (31 )%
Corporate overhead
    1,746,999       4.7 %     460,189       22.5 %     26.3 %     N/A       (29,091 )     (1.3 )%     (1.7 )%     N/A  
                                                                                 
Total Company
  $ 36,833,030       100.0 %   $ 2,054,381       100.0 %     5.6 %     (39 )%   $ 2,054,381       100.0 %     5.6 %     (39 )%
                                                                                 


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As the table shows, certain asset types require more or less capital depending on the capital measurement method. For example, non-investment grade and residual securities are allocated 4.0% core capital and 51.1% risk-based capital. These differing methods result in significantly different ROEs as shown. We attempt to manage our business segments and balance sheet to optimize capital efficiency under both capital methods.
 
ASSET QUALITY
 
Indymac uses both a centralized and a decentralized approach to credit risk management. At the corporate level, ERM oversees the development of a framework (through people, policies and processes) for credit risk management that the business unit leaders can use to document and “matrix manage” their credit and fraud risk. This framework includes the establishment and enforcement of strong corporate credit governance to maintain investment, lending and fraud polices that are simple, but highly effective. Each business unit has its own chief credit officer to oversee and implement these procedures. By tracking historical credit losses and factors contributing to the losses, we continuously implement changes to significantly reduce the likelihood of similar losses repeating. This ongoing analysis of credit performance provides a feedback loop that serves to continually refine and enhance credit risk policies.
 
We assume a degree of credit risk in connection with our investments in certain mortgage securities and loans held for investment and sale as well as with our construction lending operations. We also retain limited credit exposure from repurchase obligations on the sale of mortgage loans through standard representations and warranties to investors.
 
The following shows a summary of reserves against our key credit risks as of September 30, 2007 (dollars in millions):
 
                             
              “Reserve”
       
Credit Risk Area
 
Reserve Type
  Balance     Balance     UPB  
 
Mortgage Banking:
                           
Loans held for sale(1)
  Market valuation reserve   $ 14,022     $ 298     $ 14,081  
Repurchase risk(2)
  Secondary market reserve     N/A       57       173,915  
Thrift:
                           
Loans held for investment(3)
  Allowance for loan losses     8,553       162       8,495  
Non-investment grade and residual securities(4)
  Loss assumption in valuations     416       835       22,770  
Foreclosed Assets
  Reduction in book value due
to liquidation costs and/or
property value deterioration
    123       36       159  
 
 
(1) Risks include borrower’s credit deteriorating and adversely impacting loan saleability; further deterioration of credit quality of loans previously repurchased for repurchase/warranty issues or through called deals; and actual losses exceeding losses that are assumed in our valuations. The reserve includes credit marks on delinquent loans plus credit related marks on performing loans.
 
(2) Risks include repurchase of impaired loans due to early payment default (“EPD”) or other repurchase and warranty violations beyond the amount reserved at time of sale.
 
(3) Risk includes credit losses exceeding the risk priced for in the allowance.
 
(4) Reserve balance for non-investment grade and residual securities represents the expected remaining cumulative losses.
 
Non-Performing Assets
 
Loans are generally placed on non-accrual status when they are 90 days past due. Non-performing assets include non-performing loans and foreclosed assets. We record the balance of our assets acquired in foreclosure or by deed in lieu of foreclosure at estimated net realizable value.


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The following summarizes our non-performing assets as of the dates indicated (dollars in thousands):
 
                         
    September 30,
    September 30,
    December 31,
 
    2007     2006     2006  
 
Non-performing loans HFI
  $ 339,530     $ 78,831     $ 108,483  
Non-performing loans HFS
    365,794       42,717       54,347  
                         
Total non-performing loans
    705,324       121,548       162,830  
Foreclosed assets
    123,330       18,498       21,638  
                         
Total non-performing assets
  $ 828,654     $ 140,046     $ 184,468  
                         
Total non-performing assets to total assets
    2.46 %     0.51 %     0.63 %
                         
 
At September 30, 2007, non-performing assets as a percentage of total assets was 2.46%, increasing from 0.63% at December 31, 2006. Non-performing loans in loans held for investment and loans held for sale increased $231.0 million and $311.4 million, respectively, from December 31, 2006. As a result of the increased delinquencies in these portfolios, foreclosure activities rose during the period, leading to foreclosed assets of $123.3 million at September 30, 2007. The weakening real estate market and the general tightening of underwriting in the mortgage industry continue to have a negative impact to our portfolios. It became increasingly difficult for distressed borrowers to find alternative financing in order to avoid foreclosure. This resulted in a higher percentage of loans going through foreclosure and a longer average time for us to liquidate our foreclosed assets. If such market condition persists, we can continue to expect an even higher level of non-performing loans in the future.
 
The following provides additional comparative data on non-performing loans for the loans HFI portfolio as of the dates indicated (dollars in thousands):
 
                         
    September 30,
    September 30,
    December 31,
 
    2007     2006     2006  
 
SFR mortgage loans
  $ 176,107     $ 54,233     $ 66,360  
Consumer construction division
    52,901       18,693       25,957  
Homebuilder division
    106,089             8,981  
Other(1)
    4,433       5,905       7,185  
                         
Total non-performing loans HFI
  $ 339,530     $ 78,831     $ 108,483  
                         
Allowance for loan losses to non-performing loans HFI
    48 %     77 %     58 %
                         
 
 
(1) Includes loans from the home equity division, discontinued products and the warehouse lending division.
 
The increase in non-performing loans HFI is mainly seen in the SFR mortgage and the homebuilder division portfolios. The non-performing loans in our homebuilder division’s portfolio are in markets that have seen both price and sales decline over the last several months. For further discussion on this portfolio, see “Homebuilder Division” on page 28.
 
Allowance for Loan Losses
 
For the loans held for investment portfolio, an allowance for loan losses is established and allocated to various loan products for segment reporting purposes. The determination of the level of the allowance for loan losses and, correspondingly, the provision for loan losses, is based on delinquency trends and prior loan loss experience and management’s judgment and assumptions regarding various matters, including general economic conditions and loan portfolio composition. Management continually evaluates these assumptions and various relevant factors impacting credit quality and inherent losses. A component of the overall allowance for loan losses is not specifically allocated (“unallocated component”). The unallocated component reflects management’s assessment of various factors that create inherent imprecision in the methods used to determine the specific portfolio allocations. Those factors include, but are not limited to, levels of and trends in delinquencies and impaired loans, charge-offs and recoveries, volume and terms of the loans, effects of any changes in risk selection and underwriting standards, other


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changes in lending policies, procedures, and practices, and national and local economic trends and conditions. As of September 30, 2007, the unallocated component of the total allowance for loan losses was $43.9 million, compared to $17.2 million at December 31, 2006.
 
The following summarizes our loans HFI portfolio by loan type and the corresponding allowance for loan losses as of September 30, 2007 (dollars in thousands):
 
                         
                Total
 
          Allowance
    Reserves as a
 
          for Loan
    Percentage of
 
By Division
  Book Value     Losses     Book Value  
 
SFR mortgage loans HFI division
  $ 4,883,392     $ 41,265       0.85 %
Consumer construction division
    2,395,361       13,738       0.57 %
Homebuilder division
    1,175,473       99,638       8.48 %
Other(1)
    98,403       7,127       7.24 %
                         
Total HFI portfolio at September 30, 2007
  $ 8,552,629     $ 161,768       1.89 %
                         
Total HFI portfolio at December 31, 2006
  $ 10,177,209     $ 62,386       0.61 %
                         
 
For the homebuilder division, allowance for loan losses increased to $99.6 million of $8.48% of the book value of its portfolio. We are monitoring this portfolio very closely due to rapidly changing conditions affecting both the underlying collateral values and the projected repayment sources in the current environment.
 
Summarized below are changes to the allowance for loan losses for the periods indicated (dollars in thousands):
 
                                 
    Three Months Ended     Nine Months Ended  
    September 30,
    September 30,
    September 30,
    September 30,
 
    2007     2006     2007     2006  
 
Balance, beginning of period
  $ 76,856     $ 57,912     $ 62,386     $ 55,168  
Allowance transferred to loans HFS
                (1,988 )      
Provision for loan losses
    98,279       4,988       126,170       11,040  
Charge-offs:
                               
SFR mortgage loans HFI division
    (7,170 )     (600 )     (13,149 )     (1,405 )
Consumer construction division
    (4,816 )     (754 )     (7,950 )     (2,005 )
Other(1)
    (1,816 )     (1,274 )     (6,174 )     (3,102 )
                                 
Total charge-offs
    (13,802 )     (2,628 )     (27,273 )     (6,512 )
                                 
Recoveries:
                               
SFR mortgage loans HFI division
    181       75       560       313  
Consumer construction division
    15       219       65       231  
Other(1)
    239       469       1,848       795  
                                 
Total recoveries
    435       763       2,473       1,339  
                                 
Total charge-offs, net of recoveries
    (13,367 )     (1,865 )     (24,800 )     (5,173 )
                                 
Balance, end of period
  $ 161,768     $ 61,035     $ 161,768     $ 61,035  
                                 
Annualized charge-offs to average loans HFI
    0.62 %     0.08 %     0.36 %     0.08 %
 
 
(1) Includes loans from the home equity, discontinued product and warehouse lending divisions.
 
In the third quarter of 2007, net charge-offs increased to $13.4 million from $1.9 million in the third quarter of 2006, primarily in the SFR mortgage and the consumer construction division portfolios. This is consistent with the


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overall conditions in both the mortgage and the housing markets that contributed to the overall increase in delinquencies and loans migrating through the foreclosure process.
 
Credit Discounts
 
Due to the disruption in the secondary mortgage market, our HFS loans increased to $14.0 billion as the market for certain products stopped functioning. As a result of our thrift structure, our capital and liquidity position allowed us to retain HFS loans in the third quarter of 2007 when many of our peers were forced to sell assets to meet margin calls. We expect to transfer a portion of these loans to HFI in the next two quarters.
 
The following summarizes our loans HFS portfolio, the corresponding market valuation reserves and non-performing assets as of the dates indicated (dollars in thousands):
 
                         
    September 30,
    September 30,
    December 31,
 
    2007     2006     2006  
 
Loans HFS before market valuation reserves
  $ 14,361,177     $ 8,368,626     $ 9,507,307  
Market valuation reserves
    (338,943 )     (27,704 )     (39,464 )
                         
Net loans HFS portfolio
  $ 14,022,234     $ 8,340,922     $ 9,467,843  
                         
Market valuation reserves as a percentage of gross loans HFS
    2.36 %     0.33 %     0.42 %
                         
Non-performing loans HFS before market valuation reserves
  $ 487,314     $ 63,422     $ 78,238  
Market valuation reserves
    (121,520 )     (20,705 )     (23,891 )
                         
Net non-performing loans HFS
  $ 365,794     $ 42,717     $ 54,347  
                         
Non-performing loans held for sale as a percentage of net loans HFS portfolio
    2.61 %     0.51 %     0.57 %
                         
 
The LOCOM reserve on current loans totaled $111 million at September 30, 2007, which is included in the market valuation reserves of $338.9 million above. We believe that approximately $70 million of that is credit related.
 
Secondary Market Reserve
 
We do not generally sell loans with recourse in our loan sale activities. However, we can be required to repurchase loans from investors when our loan sales contain individual loans that do not conform to the representations and warranties we made at the time of sale (including early payment default provisions). We have made significant investments in our pre-production and post-production quality control processes to identify potential issues that could cause repurchases. We believe that these efforts have improved our production quality; however, possible increases in default rates could cause the overall rate of repurchases to increase. We maintain a secondary market reserve for losses that arise in connection with loans that we may be required to repurchase from whole loan sales, sales to the GSEs, and securitizations. The reserve has two general components: reserves for repurchases arising from representation and warranty claims and reserves for repurchases arising from early payment defaults.


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The following reflects the loan sale and repurchase activities during the periods indicated (dollars in millions):
 
                                 
    Three Months Ended September 30,     Nine Months Ended September 30,  
    2007     2006     2007     2006  
 
Loans sold:
                               
GSEs and whole loans
  $ 8,804     $ 11,589     $ 36,765     $ 32,227  
Securitization trusts
    4,205       7,919       20,974       23,405  
                                 
Total
  $ 13,009     $ 19,508     $ 57,739     $ 55,632  
                                 
Total repurchases(1)
  $ 118     $ 57     $ 562     $ 119  
                                 
Repurchases as a percentage of total loans sold during the period
    0.91 %     0.29 %     0.97 %     0.21 %
 
 
(1) Amounts exclude repurchases that are administrative in nature and generally are re-sold immediately at little or no loss.
 
As a percentage of total loans sold, repurchases have increased significantly to 91 basis points for the third quarter of 2007 from 29 basis points for the third quarter of 2006. The increase is mainly due to early payment defaults on certain products, primarily 80/20s and pay option ARMs purchased through the conduit channel. The Company has made several improvements in its underwriting guidelines and has started to see the benefits of tightened guidelines as repurchases came down from the peak of $224 million in the first quarter of 2007. In addition, we have significantly reduced the percentage of whole loan sales. As a result, we expect future repurchases due to early payment defaults to continue to decline.
 
The following reflects the activity in the secondary market reserve during the periods indicated (dollars in thousands):
 
                                 
    Three Months Ended     Nine Months Ended  
    September 30,
    September 30,
    September 30,
    September 30,
 
    2007     2006     2007     2006  
 
Balance, beginning of period
  $ 46,614     $ 35,402     $ 33,932     $ 27,638  
Additions/provisions
    32,008       9,374       87,913       24,147  
Actual losses/mark-to-market
    (21,909 )     (14,639 )     (65,773 )     (22,423 )
Recoveries on previous claims
    404       53       1,045       828  
                                 
Balance, end of period
  $ 57,117     $ 30,190     $ 57,117     $ 30,190  
                                 
 
Reserve levels are a function of expected losses based on actual pending and expected claims and repurchase requests, historical experience, loan volume and loan sales distribution channels and the assessment of the probability of investor claims. While the ultimate amount of repurchases and claims is uncertain, management believes the reserve is adequate. In response to increased repurchases and related losses, the provision for the secondary market reserve increased to $32.0 million for the three months ended September 30, 2007 from $9.4 million for the three months ended September 30, 2006. We relieved $21.9 million of secondary market reserve in the third quarter of 2007 mainly for mark-to-market adjustments on loans repurchased during the quarter, of which 80/20s and pay option ARMs accounted for over 85% of the adjustments. As previously discussed, we have started to see benefits from guideline changes implemented in the first quarter of 2007. Thus, our repurchase activities should continue to improve as the tightened guidelines take full effect. We will continue to evaluate the adequacy of our reserve and allocate a portion of our gain on sale proceeds to the reserve going forward. Secondary market reserve is included on the consolidated balance sheets as a component of other liabilities.
 
Credit Reserves Embedded in Non-Investment Grade and Residual Securities
 
As part of the securitization process, we create non-investment grade and residual securities which can be sold into the secondary market or retained on the balance sheet. These securities provide credit enhancement to absorb the losses in the securitization trust.


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The following table shows more information on our non-investment grade and residual securities as of the dates indicated (dollars in millions):
 
                         
    September 30,
    September 30,
    June 30,
 
    2007     2006     2007  
 
Non-investment Grade and Residual Securities:
                       
Fair market value
  $ 416     $ 340     $ 443  
As a percentage of tier 1 core capital
    17 %     17 %     18 %
UPB of underlying collateral
  $ 22,770       11,575     $ 21,002  
Credit reserves embedded in value
  $ 835       432     $ 698  
Additions to credit reserves
  $ 228       61     $ 126  
Net charge-off (losses)
  $ 91       7     $ 49  
Credit reserves/NPAs
    56 %     62 %     91 %
 
MANAGEMENT
 
We manage key CAMELS risks through policies and procedures that begin with the Board, senior executives and the ERM group, creating standardized frameworks and processes for the business units to implement. We strive for accountability, transparency and consistency, including a semi-annual certification process that keeps business units up to date on the administration of key CAMELS risks. Management maintains a central database of internally identified findings, and this, in conjunction with operational and financial controls, requires follow-up and accountability for any issues identified in this process.
 
Models are used as key decision making tools in executing transactions, such as the pricing and trading of loans, and in hedging risks. They are also used to assist us in valuing assets and liabilities that don’t have readily available market prices. Given the importance of these models to our operations and financial position, it is the responsibility of Corporate Model Management and Research (“CMMR”) to develop and maintain an effective model management framework across the Company. CMMR determines that key models are consistent and accurate (e.g., utilize the best available assumptions, particularly for prepayment and credit) across the enterprise and result in the correct economic decisions being made and assets and liabilities being properly valued (both on a GAAP and economic basis).
 
EARNINGS
 
Our regulators evaluate the quality and consistency of our earnings. See “Narrative Summary of Consolidated Financial Results” on page 7 and “Summary of Business Segment Results” on page 9 for a discussion of our earnings for the three and nine months ended September 30, 2007.
 
LIQUIDITY
 
During the third quarter of 2007, the secondary market for MBS and asset-backed securities (“ABS”) experienced a significant disruption resulting in a decline in overall market liquidity. In addition, several extendible Asset-Backed Commercial Paper (“ABCP”) facilities had an extension event, which contributed to the deterioration of liquidity in the market. In response to these disruptions, Indymac shifted its funding strategy from extendible ABCP and wholesale repurchase facilities to deposits and borrowing from the Federal Home Loan Bank (“FHLB”). As a result of this effort, we were able to increase our deposits and advances from FHLB by $5.0 billion and $0.2 billion, respectively, during the quarter.
 
Our principal financing needs are to fund acquisitions of mortgage loans and our investment in mortgage loans, MBS and MSRs. Our primary sources of funds used to meet these financing needs are loan sales and securitizations, deposits, advances from the FHLB, borrowings, custodial balances and retained earnings. The sources used vary depending on such factors as rates paid, collateral requirements, maturities and the impact on our capital. Additionally, we may occasionally securitize mortgage loans that we intend to hold for investment to lower our costs of borrowing against such assets and reduce the capital requirement associated with such assets. At


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September 30, 2007, we had total liquidity of $6.3 billion consisting of $0.8 billion in short-term liquidity (primarily cash) and $4.9 billion in operating liquidity, which represents unpledged liquid assets on hand plus amounts that may be immediately raised through the pledging of other available assets as collateral pursuant to committed financing facilities. We also had access to $0.6 billion in financing at the Federal Reserve Discount Window. At June 30, 2007, our total liquidity was $3.5 billion. We currently believe that our liquidity level is sufficient to satisfy our operating requirements and meet our obligations and commitments in a timely and cost effective manner.
 
The following presents the components of our major sources of funds as of the dates indicated (dollars in thousands):
 
                         
    September 30,
    September 30,
    December 31,
 
    2007     2006     2006  
 
Deposits
  $ 16,774,638     $ 10,111,019     $ 10,898,006  
Advances from FHLB
    11,094,800       9,332,800       10,412,800  
Other borrowings:
                       
Asset-backed commercial paper
    1,504,678       499,244       2,114,508  
Loans and securities sold under agreements to repurchase
          2,874,048       1,405,505  
HELOC notes payable
    243,019       807,932       659,283  
Trust preferred debentures
    441,232       412,516       456,695  
Other notes payable
    752       1,180       1,009  
                         
Total other borrowings
    2,189,681       4,594,920       4,637,000  
                         
    $ 30,059,119     $ 24,038,739     $ 25,947,806  
                         
 
Principal Sources of Cash
 
Loan Sales and Securitizations
 
Our business model relies heavily upon selling the majority of our mortgage loans shortly after acquisition. The proceeds of these sales are a critical component of our liquidity. Due to the disruption of the MBS and ABS secondary markets, loan sales and securitizations were adversely impacted, resulting in lower than normal volume and consequently balance sheet growth. During the three months ended September 30, 2007, we sold $13.0 billion of mortgage loans, which represented approximately 77% of our funded mortgage loans during the period, to third-party investors through three channels: (1) GSEs; (2) private label securitizations; and (3) whole loan sales. Our prime SFR mortgage loan portfolio also acquired $469.8 million of the mortgage loans for our portfolio of mortgage loans HFI to provide future interest income. The remainder of our funded mortgage loans during the quarter is retained in our HFS portfolio for future sale or transferred to HFI.
 
Our business model has been negatively impacted as our sales channels continue to be disrupted. As a result, our earnings were also adversely impacted. If these disruptions continue, or there are other economic events or factors beyond our control, our earnings could continue to be negatively impacted.
 
Deposits/Retail Bank
 
We solicit deposits from the general public and institutions by offering a variety of accounts and rates through our network of 31 branches (up from 27 branches as of September 30, 2006) in Southern California and our telebanking, Internet, and Money Desk and Institutional channels. Through our web site at www.indymacbank.com, consumers can access their accounts 24-hours a day, seven days a week. Online banking allows customers to access their accounts, view balances, transfer funds between accounts, view transactions, download account information, and pay their bills conveniently from any computer terminal. Total deposits increased to $16.8 billion at September 30, 2007, up from $10.1 billion at September 30, 2006 and $10.9 billion at December 31, 2006.


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Advances from the Federal Home Loan Bank
 
The FHLB system functions as a borrowing source for regulated financial depositories and similar institutions that are engaged in residential housing finance. As a member of the FHLB of San Francisco, we are required to own capital stock of the FHLB and are authorized to apply for advances from the FHLB, on a secured basis, in amounts determined by reference to available collateral. SFR mortgage loans, agency and AAA-rated MBS are the principal collateral that may be used to secure these borrowings, although certain other types of loans and other assets may also be accepted pursuant to FHLB policies and statutory requirements. The FHLB offers several credit programs, each with its own fixed or floating interest rate, and a range of maturities.
 
Currently, Indymac Bank is approved for collateralized advances of up to $17.1 billion. At September 30, 2007, advances from the FHLB totaled $11.1 billion, of which $6.4 billion were collateralized by mortgage loans and $4.7 billion were collateralized by mortgage-backed securities.
 
Other Borrowings, Excluding Subordinated Debentures Underlying Trust Preferred Securities
 
Other borrowings, excluding the subordinated debentures underlying the trust preferred securities, consist of asset-backed commercial paper, loans and securities sold under committed financing facilities and uncommitted agreements to repurchase, and notes payable. Total other borrowings decreased to $1.7 billion at September 30, 2007, from $4.2 billion at December 31, 2006. We reduced our repurchase agreement borrowings and extendible ABCP to zero at September 30, 2007 as a result of our strategy to increase our deposits and advances from the FHLB.
 
At September 30, 2007, we had $8.1 billion in committed financing facilities ($8.0 billion whole loan facilities and $100 million in unsecured revolving line of credit). Of these committed financing facilities, $0.9 billion was available for use, based on pledged collateral. Our use of these facilities is expected to be substantially less in future periods as a result of our growth in deposit funds. Decisions by our lenders and investors to make additional funds available to us in the future will depend upon a number of factors. These include our compliance with the terms of existing credit arrangements, our financial performance, eligible collateral, changes in our credit rating, industry and market trends in our various businesses, the general availability and interest rates applicable to financing and investments, the lenders’ and/or investors’ own resources and policies concerning loans and investments and the relative attractiveness of alternative investment or lending opportunities.
 
In April 2006, we established the North Lake Capital Funding Program, a single seller extendible ABCP facility, which allows us to issue directly, secured liquidity notes backed by mortgage loans. Both the collateral pledged and secured liquidity notes are recorded on our balance sheet as assets and liabilities, respectively. This facility was subsequently renewed in July 2007. The secured liquidity notes have been rated F-1+ by Fitch Ratings, P-1 by Moody’s Investors Service and A-1+ by Standard & Poor’s, and are supported by credit enhancements, such as over collateralization, excess spread and market value agreements provided by highly rated counterparties. We are authorized to issue up to $4.0 billion in short-term notes, with expected maturities not to exceed 180 days after issuance and final maturities of 60 days following the expected maturities. As a result of the disruption in the extendible ABCP market, we have actively paid down this facility during the third quarter of 2007. Additionally, the viability of the extendible ABCP market and this facility is unknown and therefore, at this time we are not relying on this facility for future funding needs.
 
In November 2006, we established a multi-seller ABCP facility (which is supported by backstop liquidity facilities from highly rated banks) to provide up to $1.5 billion dedicated financing for our construction to permanent, lot, and reverse mortgage loans. This is an annually renewable 364-day committed facility administered by Citicorp North America, Inc. As of September 30, 2007, we had $1.5 billion outstanding under this facility. This facility experienced no material disruption despite the liquidity disruption in the third quarter.
 
Trust Preferred Securities and Warrants
 
On November 14, 2001, we completed an offering of Warrants and Income Redeemable Equity Securities (“WIRES”) to investors. Gross proceeds of the transaction were $175 million. The securities were offered as units


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consisting of trust preferred securities, issued by a trust formed by us, and warrants, to purchase our common stock. As part of this transaction, we issued subordinated debentures to the trust and purchased common securities from the trust. The yield on the subordinated debentures and the common securities is the same as the yield on the trust preferred securities. As part of the WIRES offering, 3.5 million warrants were issued with each convertible into 1.5972 shares of our common stock. Beginning on November 14, 2006, Indymac had the option to redeem the warrants for cash equal to the warrant value, subject to the conditions in the prospectus. No warrants were exercised in the third quarter of 2007. To date, 2.6 million warrants have been exercised and converted into a total of 4.2 million shares of our common stock. Subordinated debentures redeemed to date in conjunction with the warrant exercises totaled $130.2 million as of September 30, 2007.
 
No new trust preferred securities were issued during the third quarter of 2007. To date, we have issued $398 million trust preferred securities (without warrants attached) with interest rates ranging from 5.83% to 7.37%. Interest rates on these securities are fixed for terms ranging from five to 10 years, after which the rates reset quarterly indexed to 3-month LIBOR. The securities can be called at our option five or 10 years after issuance. In each of these transactions, we issued subordinated debentures to, and purchased common securities from, each of the trusts. The rates on the subordinated debentures and the common securities in each of these transactions match the rates on the related trust preferred securities. The proceeds of these securities have been used in ongoing operations. Book values of the subordinated debentures underlying the trust preferred securities, which represent the liabilities due from us to the trusts, totaled $441.2 million and $456.7 million at September 30, 2007 and December 31, 2006, respectively. These subordinated debentures are included in other borrowings on the consolidated balance sheets.
 
Direct Stock Purchase Plan
 
Our direct stock purchase plan offers investors the ability to purchase shares of our common stock directly over the Internet. During the quarter ended September 30, 2007, we raised $74.2 million of capital by issuing 3,467,493 shares common stock through this plan.
 
Cash from Operating Activities
 
In addition to the financing sources discussed above, our cash needs are funded by net cash flows from operations before net purchases and originations of loans held for sale, sales of mortgage-backed securities and principal and interest payments on loans and securities. The amounts of net acquisitions of loans held for sale, and trading securities included as components of net cash used in operating activities, totaled $6.7 billion during the nine months ended September 30, 2007 and $5.7 billion during the nine months ended September 30, 2006. Excluding the purchase and sale activity for loans held for sale and trading securities, the net cash provided by the Company’s operating activities totaled $123.2 million and $291.5 million for the nine months ended September 30, 2007 and 2006, respectively.
 
SENSITIVITY TO MARKET RISK
 
A key area of risk for us is interest rate risk sensitivity. This is due to the impact that changes in interest rates can have on the demand for mortgages, as well as the value of loans in our pipeline and assets on our balance sheet, particularly the valuation of our MSRs. To manage interest rate risk sensitivity we have a Centralized Interest Rate Risk Group (“CIRRG”). CIRRG fosters an interest rate and market risk management culture throughout the Company and exists to assist in protecting the Company from unexpected losses, earnings surprises and reputation damage due to interest rate risk. It also provides management and the Board with a better understanding of the trade-offs between risk and rewards, leading to smarter risk management and investment decisions, and more consistent and generally higher long term returns on equity. We hedge our assets at the portfolio level, to ensure accountability and make certain that each portfolio can stand on its own.
 
To evaluate our ability to manage interest rate risk, there are a number of performance measures we track. These include net interest margin for both total company as well as our segments, the fluctuation in net interest income and expense and average balances, and the net portfolio value of our net assets.


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Net Interest Margin
 
Information regarding our consolidated average balance sheets (all segments are combined), along with the total dollar amounts of interest income and interest expense and the weighted-average interest rates follows (dollars in thousands):
 
                                                                         
    Three Months Ended  
    September 30, 2007     September 30, 2006     June 30, 2007  
    Average
          Yield/
    Average
          Yield/
    Average
          Yield/
 
    Balance     Interest     Rate     Balance     Interest     Rate     Balance     Interest     Rate  
 
Assets
                                                                       
Securities
  $ 5,668,118     $ 101,901       7.13 %   $ 4,889,155     $ 86,212       7.00 %   $ 5,221,396     $ 95,537       7.34 %
Loans held for sale
    16,019,841       283,882       7.03 %     10,825,266       196,924       7.22 %     16,208,651       289,262       7.16 %
Mortgage loans held for investment
    5,528,258       88,075       6.32 %     6,079,803       92,005       6.00 %     5,615,519       88,622       6.33 %
Builder construction loans
    826,952       18,186       8.72 %     773,132       21,191       10.87 %     815,861       20,209       9.94 %
Consumer construction loans
    2,284,744       45,788       7.95 %     2,085,453       38,292       7.28 %     2,190,732       44,519       8.15 %
Investment in Federal Home Loan Bank stock and other
    1,366,645       20,019       5.81 %     854,208       12,127       5.63 %     1,202,869       16,328       5.44 %
                                                                         
Total interest-earning assets
    31,694,558       557,851       6.98 %     25,507,017       446,751       6.95 %     31,255,028       554,477       7.12 %
                                                                         
Mortgage servicing assets
    2,375,127                       1,552,295                       2,153,439                  
Other assets
    2,763,345                       2,080,669                       2,428,034                  
                                                                         
Total assets
  $ 36,833,030                     $ 29,139,981                     $ 35,836,501                  
                                                                         
Liabilities and Shareholders’ Equity
                                                       
Interest-bearing deposits
  $ 12,943,759       170,540       5.23 %   $ 9,208,481       113,758       4.90 %   $ 10,761,811       138,618       5.17 %
Advances from Federal Home Loan Bank
    13,876,996       183,192       5.24 %     9,783,887       115,769       4.69 %     14,059,734       184,175       5.25 %
Other borrowings
    4,177,567       61,941       5.88 %     5,682,601       80,513       5.62 %     5,737,455       82,440       5.76 %
                                                                         
Total interest-bearing liabilities
    30,998,322       415,673       5.32 %     24,674,969       310,040       4.99 %     30,559,000       405,233       5.32 %
                                                                         
Other liabilities
    3,780,327                       2,593,633                       3,199,927                  
                                                                         
Total liabilities
    34,778,649                       27,268,602                       33,758,927                  
Shareholders’ equity
    2,054,381                       1,871,379                       2,077,574                  
                                                                         
Total liabilities and shareholders’ equity
  $ 36,833,030                     $ 29,139,981                     $ 35,836,501                  
                                                                         
Net interest income
          $ 142,178                     $ 136,711                     $ 149,244          
                                                                         
Net interest spread(1)
                    1.66 %                     1.96 %                     1.80 %
                                                                         
Net interest margin(2)
                    1.78 %                     2.13 %                     1.92 %
                                                                         
 
 
(1) Net interest spread calculated as the yield on total average interest-earnings assets less the yield on total average interest-bearing liabilities.
 
(2) Net interest margin calculated as annualized net interest income divided by total average interest-earning assets.
 


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    Nine Months Ended  
    September 30, 2007     September 30, 2006  
    Average
          Yield
    Average
          Yield
 
    Balance     Interest     Rate     Balance     Interest     Rate  
 
Assets
                                               
Securities
  $ 5,423,462     $ 289,717       7.14 %   $ 4,541,302     $ 233,693       6.88 %
Loans held for sale
    15,562,904       825,301       7.09 %     10,650,644       551,564       6.92 %
Mortgage loans held for investment
    6,081,216       285,691       6.28 %     6,014,437       260,276       5.79 %
Builder construction loans
    810,831       58,148       9.59 %     726,227       55,775       10.27 %
Consumer construction loans
    2,211,740       133,953       8.10 %     1,967,259       102,794       6.99 %
Investment in Federal Home Loan Bank stock and other
    1,238,677       52,195       5.63 %     834,396       32,706       5.24 %
                                                 
Total interest-earning assets
    31,328,830       1,645,005       7.02 %     24,734,265       1,236,808       6.69 %
                                                 
Mortgage servicing assets
    2,133,909                       1,377,586                  
Other assets
    2,546,210                       1,695,257                  
                                                 
Total assets
  $ 36,008,949                     $ 27,807,108                  
                                                 
Liabilities and Shareholders’ Equity
                                       
Interest-bearing deposits
  $ 11,356,004       441,225       5.19 %   $ 8,255,056       280,841       4.55 %
Advances from Federal Home Loan Bank
    13,863,474       541,896       5.23 %     9,839,691       329,846       4.48 %
Other borrowings
    5,439,668       235,392       5.79 %     5,844,576       232,046       5.31 %
                                                 
Total interest-bearing liabilities
    30,659,146       1,218,513       5.31 %     23,939,323       842,733       4.71 %
                                                 
Other liabilities
    3,294,773                       2,129,600                  
                                                 
Total liabilities
    33,953,919                       26,068,923                  
Shareholders’ equity
    2,055,030                       1,738,185                  
                                                 
Total liabilities and shareholders’ equity
  $ 36,008,949                     $ 27,807,108                  
                                                 
Net interest income
          $ 426,492                     $ 394,075          
                                                 
Net interest spread
                    1.71 %                     1.98 %
                                                 
Net interest margin
                    1.82 %                     2.13 %
                                                 
 
Average balances are calculated on a daily basis. Non-performing loans are included in the average balances for the periods presented. The allowance for loan losses is excluded from the average loan balances and included in the average other assets line. Minority interest and perpetual preferred stock in subsidiary are included in average other liabilities.

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Interest income and interest expense fluctuations depend upon changes in the average balances and interest rates of interest-earning assets and interest-bearing liabilities. The following tables detail the changes in interest income and expense by key attribute (dollars in thousands):
 
                                 
    Increase/(Decrease) Due to  
    Volume(1)     Rate(2)     Mix(3)     Total Change  
 
Three Months Ended September 30, 2007 vs. 2006 Interest income:                                
Securities
  $ 13,736     $ 1,685     $ 268     $ 15,689  
Loans held for sale
    94,495       (5,093 )     (2,444 )     86,958  
Mortgage loans held for investment
    (8,346 )     4,857       (441 )     (3,930 )
Builder construction loans
    1,475       (4,189 )     (291 )     (3,005 )
Consumer construction loans
    3,659       3,502       335       7,496  
Investment in Federal Home Loan Bank stock and other
    7,275       386       231       7,892  
                                 
Total interest income
    112,294       1,148       (2,342 )     111,100  
Interest expense:
                               
Interest-bearing deposits
    46,144       7,568       3,070       56,782  
Advances from Federal Home Loan Bank
    48,432       13,389       5,602       67,423  
Other borrowings
    (21,324 )     3,743       (991 )     (18,572 )
                                 
Total interest expense
    73,252       24,700       7,681       105,633  
                                 
Net interest income
  $ 39,042     $ (23,552 )   $ (10,023 )   $ 5,467  
                                 
 
                                 
    Increase/(Decrease) Due to  
    Volume(1)     Rate(2)     Mix(3)     Total Change  
 
Nine Months Ended September 30, 2007 vs. 2006 Interest income:                                
Securities
  $ 45,395     $ 8,900     $ 1,729     $ 56,024  
Loans held for sale
    254,391       13,240       6,106       273,737  
Mortgage loans held for investment
    2,890       22,278       247       25,415  
Builder construction loans
    6,498       (3,694 )     (431 )     2,373  
Consumer construction loans
    12,775       16,352       2,032       31,159  
Investment in Federal Home Loan Bank stock and other
    15,847       2,454       1,188       19,489  
                                 
Total interest income
    337,796       59,530       10,871       408,197  
Interest expense:
                               
Interest-bearing deposits
    105,496       39,900       14,988       160,384  
Advances from Federal Home Loan Bank
    134,885       54,768       22,397       212,050  
Other borrowings
    (16,076 )     20,868       (1,446 )     3,346  
                                 
Total interest expense
    224,305       115,536       35,939       375,780  
                                 
Net interest income
  $ 113,491     $ (56,006 )   $ (25,068 )   $ 32,417  
                                 
 
 
(1) Changes in volume are calculated by taking changes in average balances multiplied by the prior period’s average interest rate.
 
(2) Changes in the rate are calculated by taking changes in the average interest rate multiplied by the prior period’s average balance.
 
(3) Changes in rate/volume (“mix”) are calculated by taking changes in rates times the changes in volume.


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Net Interest Margin by Segment
 
The following tables summarize net interest margin by segment for the periods indicated (dollars in millions):
 
                                                                         
    Three Months Ended  
    September 30, 2007     September 30, 2006     June 30, 2007  
    Average
    Net
    Net
    Average
    Net
    Net
    Average
    Net
    Net
 
    Earning
    Interest
    Interest
    Earning
    Interest
    Interest
    Earning
    Interest
    Interest
 
    Assets     Income     Margin     Assets     Income     Margin     Assets     Income     Margin  
 
By Segment:
                                                                       
Thrift segment and other
  $ 17,103     $ 103       2.39 %   $ 15,709     $ 99       2.50 %   $ 16,621     $ 95       2.29 %
Mortgage banking segment
    14,592       39       1.06 %     9,798       38       1.53 %     14,634       54       1.49 %
                                                                         
Total Company
  $ 31,695     $ 142       1.78 %   $ 25,507     $ 137       2.13 %   $ 31,255     $ 149       1.92 %
                                                                         
 
                                                 
    Nine Months Ended  
    September 30, 2007     September 30, 2006  
    Average
    Net
    Net
    Average
    Net
    Net
 
    Earning
    Interest
    Interest
    Earning
    Interest
    Interest
 
    Assets     Income     Margin     Assets     Income     Margin  
 
By Segment:
                                               
Thrift segment and other
  $ 17,029     $ 288       2.26 %   $ 15,201     $ 279       2.45 %
Mortgage banking segment
    14,300       138       1.29 %     9,533       115       1.62 %
                                                 
Total Company
  $ 31,329     $ 426       1.82 %   $ 24,734     $ 394       2.13 %
                                                 
 
The net interest margin during the third quarter of 2007 was 1.78%, down from 2.13% for the third quarter of 2006 and 1.92% for the second quarter of 2007. Thrift net interest margin of 2.37% for the third quarter of 2007 also declined from 2.50% for the third quarter of 2006 but improved from 2.29% for the second quarter of 2007. The decline in net interest margin is mainly driven by increased non-performing loans in both the HFS and HFI portfolios.
 
Loans Held for Sale and Pipeline Hedging
 
We hedge the interest rate risk inherent in our pipeline of mortgage loans held for sale to protect our margin on sale of loans. We focus on trying to maintain stable profit margins with an emphasis on forecasting expected fallout to more precisely estimate our required hedge coverage ratio and minimize hedge costs. By closely monitoring key factors, such as product type, origination channels, progress or “status” of transactions, as well as changes in market interest rates since we committed a rate to the borrower (“rate lock commitments”), we seek to quantify the optional component of each rate lock, and in turn, the aggregate rate lock pipeline. By accurately evaluating these factors, we can minimize the cost of hedging and also stabilize gain on sale margins over different rate environments.
 
We also attempt to hedge the type of spread widening caused by the secondary market disruptions started in the first quarter of 2007. However, given the current uncertainties and resulting volatility in the secondary market, our hedging activities may not be effective. When spread widening does occur, we increase our loan pricing to attain our target MBR margins on future production.
 
In addition to mortgage loans held for sale, the hedging activities also include rate lock commitments. Rate lock commitments on mortgage loans that are intended to be sold are considered to be derivatives pursuant to SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities,” (“SFAS 133”). The rate lock commitments are initially valued at zero and continue to be adjusted for changes in value resulting from changes in market interest rates, pursuant to the Staff Accounting Bulletin No. 105, “Application of Accounting Principles to Loan Commitments.” We economically hedge the risk of changes in fair value of rate lock commitments by selling forward contracts on securities of Fannie Mae or Freddie Mac, Eurodollar futures and other hedge instruments as we deem appropriate to prudently manage this risk. These forward and futures contracts are also accounted for as derivatives and recorded at fair value.


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The following table summarizes the effect that hedging for interest rate risk management had on our gross mortgage banking revenue margin for the periods indicated:
 
                                                                 
    Three Months Ended   Nine Months Ended
    September 30,
  September 30,
  Percent
  June 30,
  Percent
  September 30,
  September 30,
  Percent
    2007   2006   Change   2007   Change   2007   2006   Change
 
Gross MBR margin
    0.75 %     1.16 %     (35 )%     0.91 %     (18 )%     0.96 %     1.52 %     (37 )%
MBR margin after hedging(1)
    0.48 %     1.32 %     (64 )%     1.31 %     (63 )%     1.04 %     1.47 %     (29 )%
 
 
(1) Before credit costs and SFAS 91 deferred costs.
 
Hedging Interest Rate Risk on Servicing-Related Assets
 
We are exposed to interest rate risk with respect to the investment in servicing-related assets. The mortgage servicing division is responsible for the management of interest rate and prepayment risks in the servicing-related assets, subject to policies and procedures established by, and oversight from, our management-level Interest Rate Risk Committee (“IRRC”), Asset and Liability Valuation Committee (“ALVC”) and ERM group, and our Board of Directors-level ERM Committee.
 
The objective of our hedging strategy is to maintain stable returns in all interest rate environments and not to speculate on interest rates. As such, we manage the comprehensive interest rate risk of our servicing-related assets using various financial instruments. Historically, we have hedged servicing-related assets using a variety of derivative instruments and on-balance sheet securities. As there are no hedge instruments that would be perfectly correlated with these hedged assets, we use a mix of the instruments designed to correlate well with the hedged servicing assets.
 
In addition to the hedging gain (loss) on MSRs, we also use other hedging strategies to manage our economic risks associated with MSRs. A summary of the performance on MSRs, including AAA-rated and agency interest-only securities, and hedges for the respective periods follows (dollars in thousands):
 
                                         
    Three Months Ended     Nine Months Ended  
    September 30,
    September 30,
    June 30,
    September 30,
    September 30,
 
    2007     2006     2007     2007     2006  
 
Valuation adjustment due to market changes and external benchmarking
  $ 7,421     $ (134,070 )   $ 222,659     $ 260,920     $ 10,794  
Gain (loss) on financial instruments used to hedge MSRs
    123,180       119,024       (213,213 )     (118,781 )     (27,265 )
Hedge gain (loss) on AAA-rated and agency interest-only securities
    8,820       4,667       (14,741 )     (6,356 )     (8,965 )
Unrealized gain (loss) on AAA-rated and agency interest-only securities
    (4,712 )     (8,629 )     10,465       7,235       4,138  
Unrealized gain (loss) on principal-only securities
    (146 )     5,008       (4,916 )     (4,761 )     (1,500 )
Unrealized gain (loss) on prepayment penalty securities
    (7,666 )     13,250       (21,658 )     (31,528 )     17,907  
                                         
Net gain (loss) on MSRs, AAA-rated and agency interest-only securities, and hedges
  $ 126,897     $ (750 )   $ (21,404 )   $ 106,729     $ (4,891 )
                                         
 
The above gains and losses include costs inherent in transacting and holding the hedge instruments. If these assets were perfectly hedged, a net loss would have been reported representing these costs. In the third quarter of 2007, our MSRs and related hedges had a strong quarter. Hedges on the servicing-related assets had a net gain of


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$126.9 million as they benefited from the decline in market interest rates. Moreover, our MSRs experienced a decline in value less than expected from the decline in interest rates as a result of slower prepayment rates than projected.
 
Value-At-Risk
 
We use a value-at-risk (“VAR”) measure to monitor the interest rate risk on our assets. The measure incorporates a range of market factors that can impact the value of these assets and supplements other risk measures such as duration gap and stress testing. VAR estimates the potential loss over a specified period at a specified confidence level. We have chosen a historical approach that uses 500 days of market conditions along with current portfolio data to estimate the potential one-day loss at a 95% confidence level. This means that actual losses are estimated to exceed the VAR measure about five times every 100 days.
 
In modeling the VAR, we have made a number of assumptions and approximations. As there is no standardized methodology for estimating VAR, different assumptions and approximations could result in materially different VAR estimates.
 
As of September 30, 2007, the combined portfolio of MSRs and interest-only securities (the “MSR/IO portfolio”) and the MBS portfolio were valued at $2.4 billion and $4.4 billion, respectively. The average VAR (after the effect of hedging transactions) for the quarter on the MSR/IO portfolio was $2.7 million, or 11 basis points of the recorded value, and the average VAR (after the effect of hedging transactions) for the quarter on the MBS portfolio was $1.2 million, or 3 basis points of the recorded value. During the quarter, the VAR measure ranged from $1.9 million to $3.9 million and from $0.8 million to $1.8 million for the MSR/IO and MBS portfolios, respectively.
 
Net Portfolio Value
 
In addition to our hedging activities to mitigate the interest rate risk in our pipeline of HFS loans, rate locks and our investment in servicing-related assets, we perform extensive, company-wide interest rate risk management. A primary measurement tool used to evaluate interest rate risk over the comprehensive balance sheet is net portfolio value (“NPV”) analysis. The NPV analysis and duration gap estimate the exposure of the fair value of net assets attributable to changes in interest rates.


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The following sets forth the NPV and change in NPV that we estimate might result from a 100 basis point change in interest rates as of the dates indicated (dollars in thousands):
 
                                                 
    September 30, 2007     December 31, 2006  
          Effect of Change in
          Effect of Change in
 
          Interest Rates           Interest Rates  
          Decrease
    Increase
          Decrease
    Increase
 
    Fair Value     100 bps     100 bps     Fair Value     100 bps     100 bps  
 
Cash and cash equivalents
  $ 784,459     $ 784,459     $ 784,459     $ 541,545     $ 541,545     $ 541,545  
Trading securities
    1,406,416       1,459,540       1,342,330       541,175       573,028       522,503  
Available for sale securities
    4,080,829       4,168,151       3,937,015       4,183,629       4,272,980       4,064,097  
Loans held for sale
    14,040,416       14,163,706       13,959,965       9,566,224       9,645,767       9,440,968  
Loans held for investment
    8,359,768       8,453,063       8,250,709       10,191,350       10,266,772       10,081,430  
MSRs
    2,489,611       1,927,163       2,852,581       1,822,455       1,393,979       2,142,276  
Other assets
    2,100,618       2,488,078       1,970,037       1,992,698       2,317,284       1,813,516  
                                                 
Total assets
  $ 33,262,117     $ 33,444,160     $ 33,097,096     $ 28,839,076     $ 29,011,355     $ 28,606,335  
                                                 
Deposits
  $ 16,858,192     $ 16,909,730     $ 16,807,084     $ 11,045,977     $ 11,076,458     $ 11,015,812  
Advances from Federal Home Loan Bank
    11,155,176       11,310,713       10,998,732       10,409,767       10,565,054       10,256,128  
Other borrowings
    1,505,093       1,505,718       1,504,469       3,464,290       3,466,577       3,462,006  
Other liabilities
    482,803       482,803       482,803       775,455       775,455       775,455  
                                                 
Total liabilities
    30,001,264       30,208,964       29,793,088       25,695,489       25,883,544       25,509,401  
Shareholders’ equity (NPV)
  $ 3,260,853     $ 3,235,196     $ 3,304,008     $ 3,143,587     $ 3,127,811     $ 3,096,934  
                                                 
% Change from base case
            (0.79 )%     1.32 %             (0.50 )%     (1.48 )%
                                                 
 
Our NPV model has been built to focus on the Bank alone as $273.6 million of assets at the Parent Company and its non-bank subsidiaries have little interest rate risk exposure.
 
The increase in the net present value of equity from December 31, 2006 to September 30, 2007 is partly due to: (i) an increase in our balance sheet; (ii) net proceeds of $491 million in perpetual preferred stock issued by the Bank; (iii) a capital contribution of $200.0 million from the Parent Company to the Bank; and offset by (iv) a dividend payment of $186.2 million from the Bank to the Parent Company. This analysis is based on an instantaneous change in interest rates and does not reflect the impact of changes in hedging activities as interest rates change nor changes in volumes and profits from our mortgage banking operations that would be expected to result from the interest rate environment.
 
In conjunction with the NPV analysis, we also estimate the net sensitivity of the fair value of our financial instruments to movements in interest rates using duration gap. This calculation is performed by estimating the change in dollar value due to an instantaneous parallel change in the interest rate curve. The resulting change in dollar value per one basis point change in interest rates is used to estimate the sensitivity of our portfolio. The dollar values per one basis point change are then aggregated to estimate the portfolio’s net sensitivity. To calculate duration gap, the net sensitivity is divided by the fair value of total interest-earning assets and expressed in months. A duration gap of zero implies that the change in value of assets from an instantaneous rate move will be accompanied by an equal and offsetting move in the value of debt and derivatives, thus leaving the net fair value of equity unchanged.
 
The assumptions inherent in our interest rate shock models include expected valuation changes in an instantaneous and parallel interest rate shock and assumptions as to the degree of correlation between the hedges and hedged assets and liabilities. These assumptions may not adequately reflect factors such as the spread-widening or spread-tightening risk among the changes in rates on Treasury securities, the LIBOR/swap curve, mortgages, changes in the shape of the yield curve and volatility. In addition, the sensitivity analysis described in the prior paragraph is limited by the fact that it is performed at a particular point in time and does not incorporate other factors that would impact our financial performance in these scenarios, such as increases in income associated with the


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increase in production volume that could result from a decrease in interest rates. Consequently, the preceding estimates should not be viewed as a forecast, and it is reasonable to expect that actual results could vary significantly from the analyses discussed above.
 
At September 30, 2007, net duration gap for our mortgage banking and thrift segments was 0.1 month and 0.9 month, respectively, with the overall net duration gap of 0.6 month. Fair value gains and losses will generally occur as market conditions change. We actively manage duration risk through asset selection by appropriate funding and hedging to within the duration limits approved by senior management and the Board of Directors. The duration gap measures are estimated on a daily basis for the mortgage servicing rights and on a monthly basis for the assets in our thrift portfolio and pipeline.
 
EXPENSES
 
A summary of non-interest expense follows for the periods indicated (dollars in thousands):
 
                                         
    Three Months Ended     Nine Months Ended  
    September 30,
    September 30,
    June 30,
    September 30,
    September 30,
 
    2007     2006     2007     2007     2006  
 
Salaries and related
  $ 219,146     $ 177,564     $ 180,234     $ 581,854     $ 509,402  
Premises and equipment
    27,799       19,955       24,961       77,057       57,039  
Loan purchase and servicing costs
    14,127       14,246       14,057       43,210       40,301  
Professional services
    10,034       8,263       8,853       28,751       24,529  
Data processing
    20,002       16,831       20,331       60,089       46,864  
Office and related
    14,589       17,423       16,977       47,693       50,120  
Advertising and promotion
    8,804       10,742       9,659       28,098       34,368  
Operations and sale of foreclosed assets
    10,640       557       4,291       17,111       1,484  
Other
    7,285       3,315       5,920       18,242       9,640  
Deferral of expenses under SFAS 91
    (62,728 )     (66,198 )     (61,258 )     (192,632 )     (195,599 )
                                         
Total operating expenses
    269,698       202,698       224,025       709,473       578,148  
Amortization of other intangible assets
    430       430       430       1,290       694  
                                         
Total non-interest expense
  $ 270,128     $ 203,128     $ 224,455     $ 710,763     $ 578,842  
                                         
 
Our operating expenses increased to 269.7 million for the third quarter of 2007, up 33% from $202.7 million for the third quarter of 2006 and 20% from $224.0 million for the second quarter of 2007. Included in the salaries and related expenses for the second quarter of 2007 is a one-time curtailment gain of $10.3 million recognized as a result of the previously disclosed pension plan freeze. Without the curtailment gain, the increase in operating expenses from the second quarter of 2007 would have been 15%.
 
The increase in expenses this quarter was driven mainly by the approximately $28 million in severance-related charges that were recorded this quarter as a result of the right-sizing of our workforce. We have executed on plans to reduce our workforce by roughly 1,500 positions, or 15%, through both the voluntary resignation with severance program and targeted involuntary layoffs for regular employees and reductions in our offshore and temporary workforce. In addition, we continued our investments in retail channel and commercial mortgage division, with the bulk of the increase coming from the April 1, 2007 acquisition of the retail lending platform of NYMC, including roughly 400 employees, and the hiring of over 1,400 retail lending professionals who were former employees of failed mortgage companies. As a result, expenses for these two businesses increased $20.7 million and $5.3 million from the third quarter of 2006 and second quarter of 2007, respectively.
 
Overall, our average FTE employees increased to 9,890 including 952 FTE off-shore as part of our Global Resources program for the three months ended September 30, 2007, up 21% from 8,186 for the third quarter of 2006 and 5% from 9,431 for the second quarter of 2007. We utilize the off-shore workforce predominantly in non-


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customer-facing back office functions to enhance service levels and improve efficiencies. At September 30, 2007, our workforce is comprised of 82% in revenue generating positions and 18% in revenue supporting and non-revenue generating positions.
 
REO related expenses increased significantly to $10.6 million in the third quarter of 2007 from $557 thousand in the same period last year and $4.3 million for the second quarter of 2007. This is primarily driven by $7.9 million of further write-downs on REOs resulting from a rapid decline in their values. Worsened delinquencies in our portfolio also increased our foreclosure related expenses.
 
PROSPECTIVE TRENDS AND FUTURE OUTLOOK
 
It remains extremely difficult to provide an earnings forecast for the fourth quarter of 2007 and into 2008 given continued uncertainties about the length and depth of the downturn in the housing and mortgage markets and the abrupt and significant change we have made in our production model in becoming a GSE lender. However, we do believe we will see significant improvement in the fourth quarter in credit costs and losses from spread widening, given the large reserves we established this quarter and because the new loans we are now originating are predominantly those eligible for sale to the GSEs, whereas the vast majority of the loans causing the losses in the third quarter of 2007 are in loan types that have been cut from our guidelines. In addition, we are rapidly making the transition from being primarily an Alt-A lender to being a GSE lender, and we are seeing our mortgage production volumes pick up. We expect that our new, more GSE-oriented mortgage production business will be profitable in the fourth quarter of 2007, excluding credit costs from discontinued products and start-up costs from our retail lending initiative. We expect that retail lending will be profitable in the first quarter of 2008.
 
Looking ahead to the fourth quarter of 2007 and 2008, given current industry conditions, a continued elevated level of credit costs from discontinued products and uncertain loan volumes and margins under our new production model, Indymac could be modestly profitable, or we could struggle and have additional losses, although we believe any quarterly losses would likely be substantially lower than the loss in the third quarter of 2007. The bottom line is that we have strong capital, reserves and liquidity to see us through this industry downturn. We remain confident that our long-term returns on capital will be at or above 15% once this current down cycle ends.
 
This “Future Outlook” section contains certain forward-looking statements. See the section of this Form 10-Q entitled “Forward-Looking Statements” for a description of factors which may cause our actual results to differ from those anticipated.
 
OFF-BALANCE SHEET ARRANGEMENTS
 
In the ordinary course of our business, we engage in financial transactions that are not recorded on our balance sheet. These transactions are structured to manage our interest rate, credit or liquidity risks, to diversify funding sources or to optimize our capital usage.
 
Substantially all of our off-balance sheet arrangements relate to the securitization of mortgage loans. Our mortgage loan securitizations are normally structured as sales in accordance with SFAS 140, “Accounting for Transfers and Servicing of Financial Assets and Extinguishment of Liabilities,” which involves the transfer of the mortgage loans to “qualifying special-purpose entities” that are not subject to consolidation. In a securitization, an entity transferring the assets is able to convert those assets into cash. Special-purpose entities used in such securitizations obtain cash to acquire the assets by issuing securities to investors. We also, generally, have the right to repurchase mortgage loans from the special-purpose entities if the remaining outstanding balance of the mortgage loans falls to a level where the cost of servicing the loans exceeds the revenues we earn.
 
In connection with our loan sales that are securitization transactions, there are $76.4 billion in loans owned by off-balance sheet trusts as of September 30, 2007. The trusts have issued bonds secured by these loans. We have no obligation to provide funding support to either the third-party investors or the off-balance sheet trusts. Generally, neither the third-party investors nor the trusts have recourse to our assets or us, and they have no ability to require us to repurchase their loans other than for non-credit-related recourse that can arise under standard representations and warranties. We maintain secondary market reserves mostly for losses that could arise in connection with loans that we are required to repurchase from GSEs, whole loan sales and securitizations. For information on the sales


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proceeds and cash flows from our securitizations for 2007, see “Liquidity — Principal Sources of Cash — Loan Sales and Securitizations.”
 
We often retain certain interests, which may include subordinated classes of securities, MSRs, AAA-rated and agency interest-only securities, prepayment penalty and residual securities in the securitization trust. The performance of the loans in the trusts will impact our ability to realize the current estimated fair value of these assets that are included on our balance sheet. See discussions on MSRs under “Mortgage Servicing Division” and “Mortgage-Backed Securities Division” on page 20 and 25, respectively.
 
Management does not believe that any of its off-balance sheet arrangements have or are reasonably likely to have a current or future material effect on our financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources.
 
AGGREGATE CONTRACTUAL OBLIGATIONS
 
Our material contractual obligations were summarized and included in our 2006 10-K. There have been no material changes outside the ordinary course of our business in the contractual obligations as specified in our 2006 10-K during the nine months ended September 30, 2007.
 
CRITICAL ACCOUNTING POLICIES AND JUDGMENTS
 
Several of the critical accounting policies that are very important to the portrayal of our financial condition and results of operations require management to make difficult and complex judgments that rely on estimates about the effect of matters that are inherently uncertain due to the impact of changing market conditions and/or consumer behavior. We believe our most critical accounting policies relate to: (1) assets that are highly dependent on internal valuation models and assumptions rather than market quotations, including, HFS loans, AAA-rated and agency interest-only securities, prepayment penalty securities, MSRs and non-investment grade and residual securities; (2) derivatives hedging instruments and hedge accounting; (3) our allowance for loan losses; and (4) our secondary market reserve. Refer to pages 80 to 85 of our 2006 10-K for further discussion of our critical accounting policies and judgments.
 
Management discusses these critical accounting policies and related judgments with Indymac’s Audit Committee and external auditors on a quarterly basis. We believe that the judgments, estimates and assumptions used in the preparation of our consolidated financial statements are appropriate given the factual circumstances at the time. However, given the sensitivity of our consolidated financial statements to these critical accounting policies, the use of other judgments, estimates and assumptions could result in material differences in our results of operations or financial condition.
 
OTHER CONSIDERATIONS
 
Under OTS regulations, limitations have been imposed on all capital distributions, including cash dividends. Indymac Bancorp, as the holding company for the Bank, is substantially dependent upon dividends from the Bank for cash used to pay dividends on common stock and other cash outflows. We are required to seek approval from the OTS in order to pay dividends from the Bank to the Parent Company. There is no assurance that the Bank will be able to pay such dividends in the future or that the OTS will continue to grant approvals. While the holding company maintains cash and an unsecured line of credit to manage its liquidity, a disruption in dividends from the Bank could cause the holding company to reduce or eliminate the dividends paid on common stock.
 
For holders of the Bank’s Perpetual Non-Cumulative Fixed Rate Preferred Stock (“Series A Preferred Stock”) and Indymac Bancorp’s common stock, dividends we pay will be treated as dividends for U.S. federal income tax purposes only to the extent paid out of our current or accumulated “earnings and profits” as measured by federal and state tax law. Any dividend that we pay at a time when we do not have any current or accumulated earnings and profits will not be taxable as a dividend for U.S. federal income tax purposes, and instead will be treated first as a return of capital, reducing a holder’s basis in its stock to the extent of such basis, and thereafter as capital gain. Any dividends we pay that are not treated as dividends will not be eligible for the dividends-received deduction or the reduced rates of taxation available for certain holders subject to U.S. federal income tax.


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APPENDIX A: ADDITIONAL QUANTITATIVE DISCLOSURES
 
We believe that the information provided in the body of this 10-Q provides a good overview of the Company’s business and its results for the third quarter of 2007. However, we are including the following tables for a more detailed analysis of our operations.
 
TABLE OF CONTENTS
 
                 
Table
      Page
 
 
1
    Product Profitability Analysis     56  
 
2
    S&P Lifetime Loss Estimates     62  
 
3
    Production by Product — FICO and CLTV     62  
 
4
    SFR Mortgage Loan Production and Pipeline by Purpose     63  
 
5
    SFR Mortgage Loan Production by Amortization Type     63  
 
6
    SFR Mortgage Loan Production by Geographic Distribution     64  
 
7
    MBR Margin     64  
 
8
    Servicing Fee Income     64  
 
9
    Mortgage Servicing Rights Rollforward     65  
 
10
    Gain (Loss) on Mortgage-Backed Securities     66  
 
11
    Unrealized Gains and Losses of Securities Available for Sale     66  
 
12
    Mortgage-Backed Securities by Credit Rating     68  
 
13
    Other Retained Assets     68  
 
14
    Valuation of MSRs, Interest-Only, Prepayment Penalty, and Residual Securities     70  
 
15
    Deposits by Channel and Product     71  


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TABLE 1. PRODUCT PROFITABILITY ANALYSIS
 
As part of our process of measuring results and holding managers responsible for specific targets, we evaluate profitability at the product level in addition to our segment results. We currently have four product groups: standard consumer home loans held for sale, specialty consumer home loans held for sale and/or investment, home loans and related investment, and specialty commercial loans held for investment. Please refer to our 2006 10-K, pages 29 to 30, for further discussion on the products included within each product group.
 
The following tables summarize the profitability for each of the four product groups, treasury, and overhead for the periods indicated (dollars in thousands):
 
                                                         
                Home
                         
    Standard
    Specialty
    Loans &
    Specialty
                   
    Consumer
    Consumer
    Related
    Commercial
                Total
 
    Home Loans     Home Loans     Investments     Loans     Treasury     Overhead     Company  
 
Three Months Ended September 30, 2007
                                                       
Operating Results
                                                       
Net interest income
  $ 41,234     $ 45,187     $ 31,461     $ 16,732     $ 1,336     $ 6,228     $ 142,178  
Provision for loan losses
          (6,852 )     (12,000 )     (79,427 )                 (98,279 )
Gain (loss) on sale of loans
    (150,854 )     (96,628 )     (3,241 )     (203 )           (193 )     (251,119 )
Service fee income (expense)
          22,780       189,646       3             500       212,929  
Gain (loss) on MBS
          (57,671 )     (35,998 )                       (93,669 )
Gain on sale and leaseback of building
                                  23,982       23,982  
Other income (expense)
    6,966       9,457       2,388       906       237       1,638       21,592  
                                                         
Net revenue (expense)
    (102,654 )     (83,727 )     172,256       (61,989 )     1,573       32,155       (42,386 )
Variable expenses
    71,523       33,478       6,432       2,901                   114,334  
Severance charges
                                  27,634       27,634  
Deferral of expenses under SFAS 91
    (46,088 )     (12,376 )     (2,457 )     (1,807 )                 (62,728 )
Fixed expenses
    60,310       25,174       22,736       7,258       3,568       71,842       190,888  
                                                         
Pre-tax earnings (loss)
    (188,399 )     (130,003 )     145,545       (70,341 )     (1,995 )     (67,321 )     (312,514 )
Minority interests
                                  12,396       12,396  
                                                         
Net earnings (loss)
  $ (114,735 )   $ (79,202 )   $ 88,638     $ (42,838 )   $ (1,215 )   $ (53,365 )   $ (202,717 )
                                                         
Balance Sheet Data
                                                       
Average interest-earning assets
  $ 11,532,933     $ 6,076,629     $ 11,783,953     $ 1,738,414     $     $ 562,629     $ 31,694,558  
Allocated capital
  $ 555,858     $ 443,265     $ 825,952     $ 144,617     $     $ 84,689     $ 2,054,381  
Performance Ratios
                                                       
ROE
    (82 )%     (71 )%     43 %     (118 )%     N/A       N/A       (39 )%
Net interest margin
    1.42 %     2.95 %     1.06 %     3.82 %     N/A       N/A       1.78 %
MBR margin
    (0.91 )%     (12.12 )%     (0.32 )%     N/A       N/A       N/A       (1.54 )%
Efficiency ratio
    (84 )%     (60 )%     14 %     48 %     N/A       N/A       483 %
Operating Data
                                                       
Loan production
  $ 12,796,864     $ 3,027,703     $ 954,343     $ 282,788     $     $     $ 17,061,698  
Loans sold
  $ 11,302,561     $ 701,916     $ 1,004,070     $     $     $     $ 13,008,547  
Three Months Ended September 30, 2006
                                                       
Operating Results
                                                       
Net interest income
  $ 30,746     $ 38,672     $ 44,141     $ 20,768     $ 18     $ 2,366     $ 136,711  
Provision for loan losses
          (566 )     (2,000 )     (2,422 )                 (4,988 )
Gain (loss) on sale of loans
    87,979       62,106       10,140                         160,225  
Service fee income (expense)
          6,965       13,572                   521       21,058  
Gain (loss) on MBS
          (3,945 )     22,913                         18,968  
Other income (expense)
          8,379       1,760       2,332       150       979       13,600  
                                                         
Net revenue (expense)
    118,725       111,611       90,526       20,678       168       3,866       345,574  
Variable expenses
    57,213       42,428       4,098       2,225                   105,964  
Deferral of expenses under SFAS 91
    (44,393 )     (18,371 )     (1,538 )     (1,896 )                 (66,198 )
Fixed expenses
    48,004       25,262       14,013       5,173       2,227       68,683       163,362  
                                                         
Pre-tax earnings (loss)
    57,901       62,292       73,953       15,176       (2,059 )     (64,817 )     142,446  
                                                         
Net earnings (loss)
  $ 35,262     $ 37,782     $ 45,038     $ 9,243     $ (1,254 )   $ (39,891 )   $ 86,180  
                                                         
Balance Sheet Data
                                                       
Average interest-earning assets
  $ 7,762,761     $ 5,737,934     $ 10,237,788     $ 1,498,138     $     $ 270,396     $ 25,507,017  
Allocated capital
  $ 346,735     $ 386,649     $ 641,818     $ 138,726     $     $ 357,451     $ 1,871,379  
Performance Ratios
                                                       
ROE
    40 %     39 %     28 %     27 %     N/A       N/A       18 %
Net interest margin
    1.57 %     2.67 %     1.71 %     5.50 %     N/A       N/A       2.13 %
MBR margin
    0.76 %     2.27 %     1.55 %     N/A       N/A       N/A       1.03 %
Efficiency ratio
    51 %     44 %     18 %     24 %     N/A       N/A       58 %
Operating Data
                                                       
Loan production
  $ 19,032,639     $ 4,278,249     $ 606,713     $ 521,575     $     $     $ 24,439,176  
Loans sold
  $ 15,612,563     $ 3,241,590     $ 654,023     $     $     $     $ 19,508,176  


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The following tables provide details on the profitability for the standard consumer home loans held for sale for the periods indicated (dollars in thousands):
 
                         
    Standard Consumer Home Loans Held for Sale  
    Prime     Subprime     Total  
 
Three Months Ended September 30, 2007
                       
Operating Results
                       
Net interest income
  $ 40,020     $ 1,214     $ 41,234  
Provision for loan losses
                 
Gain (loss) on sale of loans
    (127,927 )     (22,927 )     (150,854 )
Service fee income (expense)
                 
Gain (loss) on MBS
                 
Other income (expense)
    6,651       315       6,966  
                         
Net revenues (expense)
    (81,256 )     (21,398 )     (102,654 )
Variable expenses
    65,597       5,926       71,523  
Deferral of expenses under SFAS 91
    (42,270 )     (3,818 )     (46,088 )
Fixed expenses
    55,434       4,876       60,310  
                         
Pre-tax earnings (loss)
    (160,017 )     (28,382 )     (188,399 )
                         
Net earnings (loss)
  $ (97,450 )   $ (17,285 )   $ (114,735 )
                         
Balance Sheet Data
                       
Average interest-earning assets
  $ 11,372,088     $ 160,845     $ 11,532,933  
Allocated capital
  $ 546,082     $ 9,776     $ 555,858  
Performance Ratios
                       
ROE
    (71 )%     (701 )%     (82 )%
Net interest margin
    1.40 %     2.99 %     1.42 %
MBR margin
    (0.74 )%     (7.67 )%     (0.91 )%
Efficiency ratio
    (97 )%     (33 )%     (84 )%
Operating Data
                       
Loan production
  $ 12,217,605     $ 579,259     $ 12,796,864  
Loans sold
  $ 11,023,703     $ 278,858     $ 11,302,561  
Three Months Ended September 30, 2006
                       
Operating Results
                       
Net interest income
  $ 28,035     $ 2,711     $ 30,746  
Provision for loan losses
                 
Gain (loss) on sale of loans
    82,833       5,146       87,979  
Service fee income (expense)
                 
Gain (loss) on MBS
                 
Other income (expense)
                 
                         
Net revenues (expense)
    110,868       7,857       118,725  
Variable expenses
    49,834       7,379       57,213  
Deferral of expenses under SFAS 91
    (38,667 )     (5,726 )     (44,393 )
Fixed expenses
    43,552       4,452       48,004  
                         
Pre-tax income (loss)
    56,149       1,752       57,901  
                         
Net income (loss)
  $ 34,195     $ 1,067     $ 35,262  
                         
Balance Sheet Data
                       
Average interest-earning assets
  $ 7,331,198     $ 431,563     $ 7,762,761  
Allocated capital
  $ 320,562     $ 26,173     $ 346,735  
Performance Ratios
                       
ROE
    42 %     16 %     40 %
Net interest margin
    1.52 %     2.49 %     1.57 %
MBR margin
    0.74 %     1.28 %     0.76 %
Efficiency ratio
    49 %     78 %     51 %
Operating Data
                       
Loan production
  $ 18,321,539     $ 711,100     $ 19,032,639  
Loans sold
  $ 14,997,083     $ 615,480     $ 15,612,563  


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The following tables provide details on the profitability for the specialty consumer home loans held for sale and/or investment for the periods indicated (dollars in thousands):
 
                                         
    Specialty Consumer Home Loans Held for Sale and/or Investment  
    HELOCs/
    Reverse
          Discontinued
       
    Seconds     Mortgages     CTP/Lot     Products     Total  
 
Three Months Ended September 30, 2007
                                       
Operating Results
                                       
Net interest income
  $ 23,936     $ 4,644     $ 16,186     $ 421     $ 45,187  
Provision for loan losses
    (800 )           (5,602 )     (450 )     (6,852 )
Gain (loss) on sale of loans
    (118,550 )     14,314       7,608             (96,628 )
Service fee income (expense)
    11,027       11,753                   22,780  
Gain (loss) on MBS
    (57,368 )           (303 )           (57,671 )
Other income (expense)
    3,576       11       5,870             9,457  
                                         
Net revenues (expense)
    (138,179 )     30,722       23,759       (29 )     (83,727 )
Variable expenses
    4,691       18,900       9,887             33,478  
Deferral of expenses under SFAS 91
    (3,377 )     (6,214 )     (2,785 )           (12,376 )
Fixed expenses
    4,007       13,329       7,773       65       25,174  
                                         
Pre-tax earnings (loss)
    (143,500 )     4,707       8,884       (94 )     (130,003 )
                                         
Net earnings (loss)
  $ (87,391 )   $ 2,836     $ 5,410     $ (57 )   $ (79,202 )
                                         
Balance Sheet Data
                                       
Average interest-earning assets
  $ 2,347,847     $ 962,847     $ 2,735,094     $ 30,841     $ 6,076,629  
Allocated capital
  $ 253,384     $ 55,770     $ 131,340     $ 2,771     $ 443,265  
Performance Ratios
                                       
ROE
    (137 )%     20 %     16 %     (8 )%     (71 )%
Net interest margin
    4.04 %     1.91 %     2.35 %     5.42 %     2.95 %
MBR margin
    (65.47 )%     16.14 %     1.84 %     N/A       (12.12 )%
Efficiency ratio
    (4 )%     85 %     51 %     15 %     (60 )%
Operating Data
                                       
Loan production
  $ 634,634     $ 1,079,592     $ 1,313,477     $     $ 3,027,703  
Loans sold
  $ 170,481     $ 117,461     $ 413,974     $     $ 701,916  
Three Months Ended September 30, 2006
                                       
Operating Results
                                       
Net interest income
  $ 23,771     $ 2,868     $ 11,524     $ 509     $ 38,672  
Provision for loan losses
                (516 )     (50 )     (566 )
Gain (loss) on sale of loans
    3,885       45,548       12,673             62,106  
Service fee income (expense)
    1,366       5,599                   6,965  
Gain (loss) on MBS
    (3,898 )           (47 )           (3,945 )
Other income (expense)
    2,700       187       5,492             8,379  
                                         
Net revenues (expense)
    27,824       54,202       29,126       459       111,611  
Variable expenses
    13,444       20,319       8,665             42,428  
Deferral of expenses under SFAS 91
    (8,544 )     (7,592 )     (2,235 )           (18,371 )
Fixed expenses
    2,964       14,486       7,735       77       25,262  
                                         
Pre-tax earnings (loss)
    19,960       26,989       14,961       382       62,292  
                                         
Net earnings (loss)
  $ 12,156     $ 16,282     $ 9,111     $ 233     $ 37,782  
                                         
Balance Sheet Data
                                       
Average interest-earning assets
  $ 2,589,343     $ 801,629     $ 2,307,726     $ 39,236     $ 5,737,934  
Allocated capital
  $ 237,260     $ 34,404     $ 111,441     $ 3,544     $ 386,649  
Performance Ratios
                                       
ROE
    20 %     188 %     32 %     26 %     39 %
Net interest margin
    3.64 %     1.42 %     1.98 %     5.15 %     2.67 %
MBR margin
    0.83 %     4.52 %     1.96 %     N/A       2.27 %
Efficiency ratio
    28 %     50 %     48 %     15 %     44 %
Operating Data
                                       
Loan production
  $ 1,839,049     $ 1,128,203     $ 1,310,997     $     $ 4,278,249  
Loans sold
  $ 1,523,333     $ 1,071,652     $ 646,605     $     $ 3,241,590  


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The following tables provide details on the profitability for the home loans and related investments and the loan servicing operations for the periods indicated (dollars in thousands):
 
                                 
    Home Loans and Related Investments  
    Retained Servicing
          SFR Loans
       
    and Retention
          Held for
       
    Activities     MBS     Investment     Total  
 
Three Months Ended September 30, 2007
                               
Operating Results
                               
Net interest income
  $ 146     $ 19,199     $ 12,116     $ 31,461  
Provision for loan losses
                (12,000 )     (12,000 )
Gain (loss) on sale of loans
    2,543             (5,784 )     (3,241 )
Service fee income (expense)
    189,646                   189,646  
Gain (loss) on MBS
    (4,959 )     (31,039 )           (35,998 )
Other income (expense)
    1,845             543       2,388  
                                 
Net revenues (expense)
    189,221       (11,840 )     (5,125 )     172,256  
Variable expenses
    6,432                   6,432  
Deferral of expenses under SFAS 91
    (2,457 )                 (2,457 )
Fixed expenses
    17,186       901       4,649       22,736  
                                 
Pre-tax earnings (loss)
    168,060       (12,741 )     (9,774 )     145,545  
                                 
Net earnings (loss)
  $ 102,349     $ (7,759 )   $ (5,952 )   $ 88,638  
                                 
Balance Sheet Data
                               
Average interest-earning assets
  $ 1,479,652     $ 4,870,947     $ 5,433,354     $ 11,783,953  
Allocated capital
  $ 391,005     $ 236,824     $ 198,123     $ 825,952  
Performance Ratios
                               
ROE
    104 %     (13 )%     (12 )%     43 %
Net interest margin
    0.04 %     1.56 %     0.88 %     1.06 %
MBR margin
    0.38 %     N/A       N/A       (0.32 )%
Efficiency ratio
    11 %     (8 )%     68 %     14 %
Operating Data
                               
Loan production
  $ 954,343     $     $     $ 954,343  
Loans sold
  $ 674,074     $     $ 329,996     $ 1,004,070  
Three Months Ended September 30, 2006
                               
Operating Results
                               
Net interest income
  $ 2,945     $ 19,276     $ 21,920     $ 44,141  
Provision for loan losses
                (2,000 )     (2,000 )
Gain (loss) on sale of loans
    9,392             748       10,140  
Service fee income (expense)
    13,572                   13,572  
Gain (loss) on MBS
    17,283       5,630             22,913  
Other income (expense)
    1,345       (14 )     429       1,760  
                                 
Net revenues (expense)
    44,537       24,892       21,097       90,526  
Variable expenses
    4,098                   4,098  
Deferral of expenses under SFAS 91
    (1,538 )                 (1,538 )
Fixed expenses
    11,675       973       1,365       14,013  
                                 
Pre-tax earnings (loss)
    30,302       23,919       19,732       73,953  
                                 
Net earnings (loss)
  $ 18,454     $ 14,567     $ 12,017     $ 45,038  
                                 
Balance Sheet Data
                               
Average interest-earning assets
  $ 559,843     $ 3,845,961     $ 5,831,984     $ 10,237,788  
Allocated capital
  $ 228,070     $ 193,709     $ 220,039     $ 641,818  
Performance Ratios
                               
ROE
    32 %     30 %     22 %     28 %
Net interest margin
    2.09 %     1.99 %     1.49 %     1.71 %
MBR margin
    1.44 %     N/A       N/A       1.55 %
Efficiency ratio
    32 %     4 %     6 %     18 %
Operating Data
                               
Loan production
  $ 606,713     $     $     $ 606,713  
Loans sold
  $ 654,023     $     $     $ 654,023  


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The following table provides details on the profitability for the specialty commercial loans held for investment for the periods indicated (dollars in thousands):
 
                                         
    Specialty Commercial Loans Held for Sale and/or Investment  
                Warehouse
    Commercial
       
    Single Spec     Subdivision     Lending     Lending     Total  
 
Three Months Ended September 30, 2007
                       
Operating Results
                                       
Net interest income
  $ 2,555     $ 12,754     $ 1,321     $ 102     $ 16,732  
Provision for loan losses
    (1,148 )     (78,191 )     (88 )           (79,427 )
Gain (loss) on sale of loans
                      (203 )     (203 )
Service fee income (expense)
                      3       3  
Gain (loss) on MBS
                             
Other income (expense)
    545       (204 )     375       190       906  
                                         
Net revenues (expense)
    1,952       (65,641 )     1,608       92       (61,989 )
Variable expenses
    628       1,785             488       2,901  
Deferral of expenses under SFAS 91
    (77 )     (1,444 )           (286 )     (1,807 )
Fixed expenses
    467       3,625       980       2,186       7,258  
                                         
Pre-tax earnings (loss)
    934       (69,607 )     628       (2,296 )     (70,341 )
                                         
Net earnings (loss)
  $ 569     $ (42,391 )   $ 382     $ (1,398 )   $ (42,838 )
                                         
Balance Sheet Data
                                       
Average interest-earning assets
  $ 217,496     $ 1,264,835     $ 190,996     $ 65,087     $ 1,738,414  
Allocated capital
  $ 19,456     $ 104,399     $ 15,211     $ 5,551     $ 144,617  
Performance Ratios
                                       
ROE
    12 %     (161 )%     10 %     (100 )%     (118 )%
Net interest margin
    4.66 %     4.00 %     2.74 %     0.62 %     3.82 %
Efficiency ratio
    33 %     32 %     58 %     N/A       48 %
Operating Data
                                       
Loan production
  $ 36,466     $ 121,106     $     $ 125,216     $ 282,788  
Loans sold
  $     $     $     $     $  
Three Months Ended September 30, 2006
                       
Operating Results
                                       
Net interest income
  $ 3,245     $ 16,488     $ 1,035     $     $ 20,768  
Provision for loan losses
    (204 )     (2,200 )     (18 )           (2,422 )
Gain (loss) on sale of loans
                             
Service fee income (expense)
                             
Gain (loss) on MBS
                             
Other income (expense)
    1,163       703       466             2,332  
                                         
Net revenues (expense)
    4,204       14,991       1,483             20,678  
Variable expenses
    709       1,516                   2,225  
Deferral of expenses under SFAS 91
    (86 )     (1,810 )                 (1,896 )
Fixed expenses
    581       3,395       1,134       63       5,173  
                                         
Pre-tax earnings (loss)
    3,000       11,890       349       (63 )     15,176  
                                         
Net earnings (loss)
  $ 1,827     $ 7,241     $ 213     $ (38 )   $ 9,243  
                                         
Balance Sheet Data
                                       
Average interest-earning assets
  $ 250,289     $ 1,112,338     $ 135,511     $     $ 1,498,138  
Allocated capital
  $ 18,735     $ 108,408     $ 11,583     $     $ 138,726  
Performance Ratios
                                       
ROE
    39 %     26 %     7 %     N/A       27 %
Net interest margin
    5.14 %     5.88 %     3.03 %     N/A       5.50 %
Efficiency ratio
    27 %     18 %     76 %     N/A       24 %
Operating Data
                                       
Loan production
  $ 50,425     $ 471,150     $     $     $ 521,575  
Loans sold
  $     $     $     $     $  


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The following table provides details on the overhead costs for the periods indicated (dollars in thousands):
 
                                         
          Mortgage
                   
    Servicing     Banking     Deposit     Corporate(1)     Total Overhead  
 
Three Months Ended September 30, 2007
                                       
Operating Results
                                       
Net interest income
  $ (68 )   $ 700     $ 6,463     $ (867 )   $ 6,228  
Provision for loan losses
                             
Gain (loss) on sale of loans
    (189 )     (4 )                 (193 )
Service fee income (expense)
                      500       500  
Gain (loss) on MBS
                             
Gain on sale and leaseback of building
                      23,982       23,982  
Other income (expense)
    579       176       1,152       (269 )     1,638  
                                         
Net revenues (expense)
    322       872       7,615       23,346       32,155  
Variable expenses
                             
Severance costs
                      27,634       27,634  
Deferral of expenses under SFAS 91
                             
Fixed expenses
    6,375       12,579       13,777       39,111       71,842  
                                         
Pre-tax earnings (loss)
    (6,053 )     (11,707 )     (6,162 )     (43,399 )     (67,321 )
Minority interests
                      12,396       12,396  
                                         
Net earnings (loss)
  $ (3,686 )   $ (7,130 )   $ (3,753 )   $ (38,796 )   $ (53,365 )
                                         
Balance Sheet Data
                                       
Average interest-earning assets
  $     $ 2,109     $ 171     $ 560,349     $ 562,629  
Allocated capital
  $ 376     $ 16,939     $ 11,335     $ 56,039     $ 84,689  
Performance Ratios
                                       
ROE
    N/A       N/A       N/A       N/A       N/A  
Net interest margin
    N/A       N/A       N/A       N/A       N/A  
Efficiency ratio
    N/A       N/A       N/A       N/A       N/A  
Operating Data
                                       
Loan production
  $     $     $     $     $  
Loans sold
  $     $     $     $     $  
Three Months Ended September 30, 2006
                                       
Operating Results
                                       
Net interest income
  $ (115 )   $ (73 )   $ 3,954     $ (1,400 )   $ 2,366  
Provision for loan losses
                             
Gain (loss) on sale of loans
                             
Service fee income (expense)
                      521       521  
Gain (loss) on MBS
                             
Other income (expense)
    730       116       896       (763 )     979  
                                         
Net revenues (expense)
    615       43       4,850       (1,642 )     3,866  
Variable expenses
                             
Deferral of expenses under SFAS 91
                             
Fixed expenses
    5,104       10,263       11,127       42,189       68,683  
                                         
Pre-tax earnings (loss)
    (4,489 )     (10,220 )     (6,277 )     (43,831 )     (64,817 )
                                         
Net earnings (loss)
  $ (2,734 )   $ (6,224 )   $ (3,823 )   $ (27,110 )   $ (39,891 )
                                         
Balance Sheet Data
                                       
Average interest-earning assets
  $     $ 41     $ 172     $ 270,183     $ 270,396  
Allocated capital
  $ 177     $ 10,500     $ 1,939     $ 344,835     $ 357,451  
Performance Ratios
                                       
ROE
    N/A       N/A       N/A       N/A       N/A  
Net interest margin
    N/A       N/A       N/A       N/A       N/A  
Efficiency ratio
    N/A       N/A       N/A       N/A       N/A  
Operating Data
                                       
Loan production
  $     $     $     $     $  
Loans sold
  $     $     $     $     $  
 
 
(1) Corporate overhead under the product profitability analysis is different from the corporate overhead under the business segment results as certain elimination items are included here.


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TABLE 2. S&P LIFETIME LOSS ESTIMATES
 
One method we use to evaluate the credit quality of our production is the S&P Levels model. We believe this model provides another objective, third-party method to evaluate our production. The Levels model is the oldest licensed mortgage loss model in the industry, developed and tested over various economic cycles, and one of only two models accepted by the industry for evaluating securitizations. The loss estimates are shown to describe the relative level of credit risk in our loan production at the time of origination. Because we routinely sell the vast majority of loans produced, these estimates do not reflect the amount of credit risk retained by us.
 
The following summarizes the estimated lifetime losses for mortgage production using the S&P Levels model for the periods indicated (dollars in millions):
 
                         
    Three Months Ended
    September 30,
  September 30,
  June 30,
    2007   2006   2007
 
Total S&P average lifetime loss estimates
    0.49 %     0.87 %     0.63 %
Total S&P evaluated production(1)
  $ 14,228     $ 20,092     $ 19,287  
 
 
(1) While our production is evaluated using the S&P Levels model, the data is not audited or endorsed by S&P. S&P evaluated production excludes second liens, HELOCs, reverse mortgages, and construction loans.
 
Total estimated average lifetime loss rate for the third quarter of 2007 decreased 38 basis points and 14 basis points to 0.49% from 0.87% for the third quarter of 2006 and 0.63% for the second quarter of 2007. The year-over-year decrease was due to us substantially eliminating higher LTV ratio subprime loans and 80/20 piggyback loans from our product offerings through guideline cutbacks implemented earlier in the year.
 
TABLE 3. PRODUCTION BY PRODUCT — FICO AND CLTV
 
The following table shows the average FICO and CLTV by portfolio for loans originated during the periods indicated (dollars in millions):
 
                                                                         
    Three Months Ended  
    September 30, 2007     September 30, 2006     June 30, 2007  
    Production     FICO     CLTV     Production     FICO     CLTV     Production     FICO     CLTV  
 
Total production
  $ 17,062       N/A       N/A     $ 24,439       N/A       N/A     $ 23,023       N/A       N/A  
Less:
                                                                       
HELOCs(1)/Seconds
    637       731       80 %     1,840       716       87 %     876       724       85 %
Reverse mortgages
    1,080       N/A       58 %     1,128       N/A       53 %     1,258       N/A       57 %
Consumer construction(1)
    871       728       75 %     908       722       76 %     1,084       724       74 %
Commercial real estate
    125       N/A       66 %           N/A             45       N/A       67 %
Builder construction commitments(1)
    121       N/A       77 %     471       N/A       74 %     473       N/A       70 %
                                                                         
Total S&P evaluated production
  $ 14,228       705       78 %   $ 20,092       702       81 %   $ 19,287       705       78 %
                                                                         
 
 
(1) Amounts represent total commitments.


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TABLE 4. SFR MORTGAGE LOAN PRODUCTION AND PIPELINE BY PURPOSE
 
The following table presents SFR mortgage loan production and pipeline by purpose as of and for the periods indicated (dollars in millions):
 
                                         
    As of and for the Three Months Ended  
    September 30,
    September 30,
    Percent
    June 30,
    Percent
 
    2007     2006     Change     2007     Change  
 
Production and Pipeline by Purpose:
                                       
SFR mortgage loan production:
                                       
Purchase transactions
  $ 5,889     $ 9,682       (39 )%   $ 7,285       (19 )%
Cash-out refinance transactions
    7,389       10,656       (31 )%     10,577       (30 )%
Rate/term refinance transactions
    3,538       3,630       (3 )%     4,643       (24 )%
                                         
Total SFR mortgage loan production
  $ 16,816     $ 23,968       (30 )%   $ 22,505       (25 )%
                                         
% purchase and cash-out refinance transactions
    79 %     85 %             79 %        
Mortgage industry market share
    3.06 %     3.44 %     (11 )%     3.24 %     (6 )%
SFR mortgage loan pipeline at period end(1):
                                       
Purchase transactions
  $ 2,811     $ 4,595       (39 )%   $ 5,003       (44 )%
Cash-out refinance transactions
    2,871       5,210       (45 )%     4,848       (41 )%
Rate/term refinance transactions
    1,640       1,930       (15 )%     2,979       (45 )%
                                         
Total specific rate locks
    7,322       11,735       (38 )%     12,830       (43 )%
Non-specific rate locks on bulk purchases
    99       2,821       (96 )%     546       (82 )%
                                         
Total SFR mortgage loan pipeline
  $ 7,421     $ 14,556       (49 )%   $ 13,376       (45 )%
                                         
 
 
(1) Total pipeline of loans in process includes rate lock commitments we have provided on loans that are specifically identified or non-specific bulk packages, and loan applications we have received for which the borrower has not yet locked in the interest rate commitment. Non-specific bulk packages represent pools of loans we have committed to purchase, where the pool characteristics are specified but the actual loans are not.
 
TABLE 5. SFR MORTGAGE LOAN PRODUCTION BY AMORTIZATION TYPE
 
The following table presents SFR mortgage loan production and pipeline by amortization type for the periods indicated:
 
                         
    Three Months Ended  
    September 30,
    September 30,
    June 30,
 
    2007     2006     2007  
 
SFR Mortgage Production by Amortization Type:
                       
Fixed-rate mortgages
    25 %     20 %     24 %
Intermediate term fixed-rate loans
    7 %     7 %     7 %
Interest-only loans
    46 %     39 %     47 %
Pay option ARMs
    8 %     23 %     11 %
Other ARMs
    14 %     11 %     11 %
                         
      100 %     100 %     100 %
                         


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TABLE 6. SFR MORTGAGE LOAN PRODUCTION BY GEOGRAPHIC DISTRIBUTION
 
The following table presents SFR mortgage loan production and pipeline by geographic distribution for the periods indicated:
 
                         
    Three Months Ended  
    September 30,
    September 30,
    June 30,
 
    2007     2006     2007  
 
Geographic distribution:
                       
California
    41 %     45 %     45 %
Florida
    8 %     8 %     8 %
New York
    7 %     6 %     7 %
New Jersey
    4 %     4 %     4 %
Washington
    3 %     2 %     3 %
Other
    37 %     35 %     33 %
                         
Total
    100 %     100 %     100 %
                         
 
TABLE 7. MBR MARGIN
 
The following table shows a reconciliation of gross MBR margin to net MBR margin in basis points for the periods indicated (in basis points unless otherwise noted):
 
                                                                                         
                                              Production
                   
                                  Secondary
    Total
    Credit
    Net MBR
             
                      MBR
    Net HFS
    Market
    Production
    Costs/MBR
    After
    FAS 91
       
    Loans
    Gross
    Pipeline
    After
    Credit
    Reserve
    Credit
    After
    Production
    Deferred
    Net MBR
 
    Sold     MBR     Hedging     Hedging(a)     Losses     Accrual     Costs(b)     Hedging (b/a)     Credit Costs     Cost     Reported  
Quarter ended   (In millions)                                                              
 
    13,009       75       (27 )     48       (149 )     (25 )     (174 )     360 %     (126 )     (28 )     (154 )
    19,508       116       16       132       (3 )     (5 )     (8 )     6 %     124       (21 )     103  
    20,194       91       40       131       (18 )     (12 )     (30 )     23 %     101       (21 )     80  
 
TABLE 8. SERVICING FEE INCOME
 
The components of service fee income for the Company are as follows for the periods indicated (dollars in thousands):
 
                                                 
    Three Months Ended  
    September 30,
    BPS
    September 30,
    BPS
    June 30,
    UPB
 
    2007     UPB     2006     UPB     2007     BPS  
 
Service fee income:
                                               
Gross service fee income
  $ 180,446       42     $ 133,818       46     $ 182,175       45  
Change in value due to portfolio run-off
    (98,118 )     (23 )     (97,714 )     (33 )     (106,003 )     (26 )
                                                 
Service fee income, net of change in value due to portfolio run-off
    82,328       19       36,104       13       76,172       19  
Change in value due to application of external benchmarking policies
                (599 )           3,920       1  
Valuation adjustment due to market changes
    7,421       2       (133,471 )     (46 )     218,739       54  
Gain (loss) on financial instruments used to hedge MSRs
    123,180       29       119,024       41       (213,213 )     (53 )
                                                 
Total service fee income
  $ 212,929       50     $ 21,058       8     $ 85,618       21  
                                                 
 


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    Nine Months Ended  
    September 30,
    BPS
    September 30,
    BPS
 
    2007     UPB     2006     UPB  
 
Service fee income:
                               
Gross service fee income
  $ 527,496       44     $ 349,798       45  
Change in value due to portfolio run-off
    (321,902 )     (27 )     (254,133 )     (33 )
                                 
Service fee income, net of change in value due to portfolio run-off
    205,594       17       95,665       12  
Change in value due to application of external benchmarking policies
    3,920             (16,459 )     (2 )
Valuation adjustment due to market changes
    257,000       22       27,253       4  
Loss on financial instruments used to hedge MSRs
    (118,781 )     (10 )     (27,265 )     (4 )
                                 
Total service fee income
  $ 347,733       29     $ 79,194       10  
                                 
 
As a result of the growth in our servicing portfolio and slower run-off of the portfolio, servicing income before hedging activities saw increases in both the three months and nine months ended September 30, 2007, compared to the same periods last year. In addition, the financial instruments used to hedge MSRs also saw a gain of $123.1 million this quarter, compared to a loss of $213.2 million for the second quarter of 2007.
 
TABLE 9. MORTGAGE SERVICING RIGHTS ROLLFORWARD
 
The following table provides additional information on our activities in MSRs for the periods indicated (dollars in thousands):
 
                                         
    Three Months Ended     Nine Months Ended  
    September 30,
    September 30,
    June 30,
    September 30,
    September 30,
 
    2007     2006     2007     2007     2006  
 
Balance at beginning of period
  $ 2,387,077     $ 1,598,821     $ 2,052,822     $ 1,822,455     $ 1,094,490  
Cumulative-effect adjustment due to change in accounting for MSRs
                            17,561  
Net additions from loan sale or securitization
    191,885       258,249       272,260       783,808       756,821  
Purchase or assumption
          8,631       2,268       2,268       8,658  
Transfers to prepayment penalty and/or AAA-rated and agency interest-only securities
          (2,601 )     (56,040 )     (57,065 )     (2,601 )
Transfers due to clean-up calls and other
    1,346             (889 )     (873 )     (274 )
Change in fair value due to run-off
    (98,118 )     (97,714 )     (106,003 )     (321,902 )     (254,133 )
Change in fair value due to market changes
    3,554       (133,471 )     218,739       253,133       27,253  
Change in fair value due to application of external benchmarking policies
    3,867       (599 )     3,920       7,787       (16,459 )
                                         
Balance at end of period
  $ 2,489,611     $ 1,631,316     $ 2,387,077     $ 2,489,611     $ 1,631,316  
                                         
MSRs as basis points of unpaid principal balance
    143       131       142       143       131  

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TABLE 10. GAIN (LOSS) ON MORTGAGE-BACKED SECURITIES
 
The components of the Company’s gain (loss) on MBS are as follows for the periods indicated (dollars in thousands):
 
                                                 
    Three Months Ended     Nine Months Ended  
    September 30,
    September 30,
    June 30,
          September 30,
    September 30,
 
    2007     2006     2007           2007     2006  
 
Net gain (loss) on MBS:
                                               
Realized gain (loss) on available for sale securities
  $     $ 3,520     $             $ (486 )   $ 3,520  
Impairments on available for sale securities
    (4,361 )     (3,782 )                   (6,418 )     (5,718 )
Unrealized gain (loss) on prepayment penalty securities
    (7,666 )     13,250       (21,658 )             (31,527 )     17,907  
Unrealized gain (loss) on late fee securities
    (675 )           582               (93 )      
Unrealized gain (loss) on AAA-rated and agency interest-only securities
    (5,221 )     (8,629 )     10,504               6,764       4,138  
Unrealized gain (loss) on non-investment grade residual securities
    (38,672 )     8,125       (12,088 )             (53,385 )     7,208  
Net gain (loss) on trading securities and other instrument(1)
    (37,074 )     6,484       (23,687 )             (60,217 )     (2,444 )
                                                 
Total gain (loss) on MBS, net
  $ (93,669 )   $ 18,968     $ (46,347 )           $ (145,362 )   $ 24,611  
                                                 
 
 
(1) The amount for the three months ended September 30, 2007 includes $29.8 million of credit related losses on non-investment grade securities.
 
TABLE 11. UNREALIZED GAINS AND LOSSES OF SECURITIES AVAILABLE FOR SALE
 
The following table summarizes the unrealized gains and losses of securities available for sale as of the dates indicated (dollars in thousands):
 
                         
    September 30,
    September 30,
    June 30,
 
    2007     2006     2007  
 
Amortized cost
  $ 4,411,854     $ 4,449,860     $ 4,564,495  
Gross unrealized holding gains
    6,871       16,231       3,984  
Gross unrealized holding losses
    (94,325 )     (43,611 )     (68,572 )
                         
Estimated fair value
  $ 4,324,400     $ 4,422,480     $ 4,499,907  
                         


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The unrealized losses and fair value of securities that have been in a continuous unrealized loss position for less than 12 months and 12 months or greater were as follows (dollars in thousands):
 
                                                 
    As of September 30, 2007  
    Less Than 12 Months     12 Months or Greater     Total  
    Unrealized
          Unrealized
          Unrealized
       
    Losses     Fair Value     Losses     Fair Value     Losses     Fair Value  
 
Securities — available for sale:
                                               
AAA-rated non-agency securities
  $ (16,947 )   $ 1,279,753     $ (39,538 )   $ 1,340,963     $ (56,485 )   $ 2,620,716  
AAA-rated agency securities
    (964 )     30,905       (56 )     12,925       (1,020 )     43,830  
Other investment grade securities
    (35,990 )     404,060       (689 )     19,439       (36,679 )     423,499  
Residual securities
    (141 )     3,131                   (141 )     3,131  
                                                 
Total securities — available for sale
  $ (54,042 )   $ 1,717,849     $ (40,283 )   $ 1,373,327     $ (94,325 )   $ 3,091,176  
                                                 
 
As of September 30, 2007, the available for sale securities that have been in unrealized loss position for 12 months or more are primarily related to AAA-rated securities issued by private institutions. These unrealized losses are primarily attributable to changes in interest rates. Because we have the ability and the intent to hold these investments until a recovery of fair value, which may be maturity, we do not consider these investments to be other-than-temporarily impaired at September 30, 2007.


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TABLE 12. MORTGAGE-BACKED SECURITIES BY CREDIT RATING
 
The fair values of mortgage-backed securities by credit ratings follow as of the dates indicated (dollars in thousands):
 
                                         
          December 31,
 
    September 30, 2007     2006  
    Current
    Net Premium
                   
    Face
    (Discount) to
    Amortized
             
    Value     Face Value     Cost     Fair Value     Fair Value  
 
AAA-rated mortgage-backed securities:
                                       
AAA-rated non-agencies securities
  $ 3,940,397     $ 27,389     $ 3,967,786     $ 3,915,650     $ 4,648,446  
AAA-rated agency securities
    442,901       1,603       444,504       443,516       65,175  
AAA-rated and agency interest-only securities
                      71,901       73,570  
AAA-rated principal-only securities
                      72,488       38,478  
                                         
Total AAA-rated mortgage-backed securities
  $ 4,383,298     $ 28,992     $ 4,412,290     $ 4,503,555     $ 4,825,669  
                                         
Prepayment penalty and late fee securities
                          $ 88,239     $ 97,576  
                                         
Other investment grade mortgage-backed securities:
                                       
AA+
  $ 13,807     $ (866 )   $ 12,941     $ 12,437     $ 7,513  
AA
    417,485       (12,792 )     404,693       381,785       86,311  
AA-
    18,976       (741 )     18,235       16,506       14,138  
A+
    6,438       (190 )     6,248       5,836        
A
    170,782       (13,308 )     157,474       150,496       2,160  
A-
    13,650       (68 )     13,582       12,281        
BBB+
    1,810       (706 )     1,104       1,104        
BBB
    106,112       (17,667 )     88,445       86,062       20,734  
BBB-
    64,150       (7,522 )     56,628       57,649       58,397  
                                         
Total other investment grade mortgage-backed securities
  $ 813,210     $ (53,860 )   $ 759,350     $ 724,156     $ 189,253  
                                         
Non-investment grade mortgage-backed securities:
                                       
BB+
  $ 37,072     $ (8,679 )   $ 28,393     $ 28,393     $ 7,299  
BB
    154,972       (44,051 )     110,921       111,140       49,856  
BB-
    22,022       (2,393 )     19,629       19,629       21,170  
B
    66,368       (46,894 )     19,474       19,896       1,442  
CCC+
    5,042       (2,949 )     2,093       2,093        
CCC
    4,096       (2,497 )     1,599       1,599        
C
    5,705       (3,721 )     1,984       1,984        
Other
    49,550       (44,228 )     5,322       5,545       407  
                                         
Total other non-investment grade mortgage-backed securities
  $ 344,827     $ (155,412 )   $ 189,415     $ 190,279     $ 80,174  
                                         
Non-investment grade residual securities
                          $ 225,815     $ 250,573  
                                         
Total mortgage-backed securities
                          $ 5,732,044     $ 5,443,245  
                                         
 
At September 30, 2007, other investment grade and non-investment grade mortgage-backed securities totaled $914.4 million, of which 88% were collateralized by prime loans and 12% were collateralized by subprime loans.
 
TABLE 13. OTHER RETAINED ASSETS
 
The carrying value of AAA-rated and agency interest-only, principal-only, prepayment penalty, residual and non-investment grade securities is evaluated by discounting estimated net future cash flows. For these securities, estimated net future cash flows are primarily based on assumptions related to prepayment speeds, in addition to expected credit loss assumptions on the residual securities. The models used for estimation are periodically tested against historical prepayment speeds and our valuations are benchmarked to external sources, where available. We


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also may retain certain other investment grade securities from our securitizations and to a lesser extent purchase from third parties to serve as hedges for our AAA-rated and agency interest-only securities. A summary of the activity of the other retained assets follows (dollars in thousands):
 
                                         
    Three Months Ended     Nine Months Ended  
    September 30,
    September 30,
    June 30,
    September 30,
    September 30,
 
    2007     2006     2007     2007     2006  
 
AAA-rated and agency interest-only and other investment grade securities:
                                       
Beginning balance
  $ 702,852     $ 252,318     $ 375,434     $ 262,823     $ 170,851  
Retained investments from securitizations
    135,988       18,149       233,375       428,553       63,954  
Purchases
    80,807       7,369       60,048       199,654       72,366  
Transfer from MSRs
                56,040       56,040        
Transfer to non-investment grade securities
    (4,896 )           (4,163 )     (10,498 )      
Impairments
    (134 )                 (316 )     (183 )
Sales
    (54,581 )     (7,039 )     (16,644 )     (71,225 )     (29,978 )
Clean-up calls exercised
                            (108 )
Cash received, net of accretion
    (15,118 )     (3,503 )     (6,097 )     (28,287 )     (19,073 )
Valuation gains (losses) before hedges
    (48,861 )     (5,659 )     4,859       (40,687 )     3,806  
                                         
Ending balance
  $ 796,057     $ 261,635     $ 702,852     $ 796,057     $ 261,635  
                                         
Principal-only securities:
                                       
Beginning balance
  $ 69,127     $ 129,951     $ 55,977     $ 38,478     $ 9,483  
Retained investments from securitizations
    3,931       3,238       1,118       7,686       10,907  
Purchases
                17,733       32,658       121,281  
Sales
          (100,761 )                 (100,761 )
Cash received, net of accretion
    (424 )     (2,278 )     (785 )     (1,573 )     (4,252 )
Valuation gains (losses) before hedges
    (146 )     5,008       (4,916 )     (4,761 )     (1,500 )
                                         
Ending balance
  $ 72,488     $ 35,158     $ 69,127     $ 72,488     $ 35,158  
                                         
Prepayment penalty and late fee securities:
                                       
Beginning balance
  $ 88,613     $ 80,036     $ 93,106     $ 97,576     $ 75,741  
Retained investments from securitizations
    11,047       13,801       22,058       41,210       35,858  
Transfer from MSRs/residual securities
    1,985       3,642       1,211       3,359       3,642  
Cash received, net of accretion
    (5,065 )     (12,307 )     (6,686 )     (22,285 )     (34,726 )
Valuation gains (losses) before hedges
    (8,341 )     13,250       (21,076 )     (31,621 )     17,907  
                                         
Ending balance
  $ 88,239     $ 98,422     $ 88,613     $ 88,239     $ 98,422  
                                         
Non-investment grade securities:
                                       
Beginning balance
  $ 183,323     $ 88,045     $ 110,204     $ 80,173     $ 57,712  
Retained investments from securitizations
    21,446       3,324       65,908       113,265       34,205  
Purchases
                9,758       11,585        
Transfer from investment grade securities
    4,896             4,163       10,498        
Impairments
    (223 )     (156 )           (326 )     (610 )
Sales
          (12,401 )                 (12,401 )
Cash received, net of accretion
    (413 )     296       (969 )     (539 )     392  
Valuation losses before hedges
    (18,750 )     (830 )     (5,741 )     (24,377 )     (1,020 )
                                         
Ending balance
  $ 190,279     $ 78,278     $ 183,323     $ 190,279     $ 78,278  
                                         
Residual securities(1):
                                       
Beginning balance
  $ 259,872     $ 240,522     $ 270,831     $ 250,573     $ 167,771  
Retained investments from securitizations, net(2)
    1,679       23,608       13,397       38,783       109,417  
Transfer to prepayment penalty securities
    (2,000 )     (1,041 )     (1,076 )     (3,076 )     (1,041 )
Transfer due to clean-up calls and other
                      (5,615 )      
Impairments
    (4,004 )     (3,626 )           (5,774 )     (4,926 )
Clean-up calls exercised
                (2,106 )     (2,106 )      
Cash received, net of accretion
    7,115       (6,431 )     (7,565 )     6,414       (15,735 )
Valuation gains (losses) before hedges
    (36,847 )     8,626       (13,609 )     (53,384 )     6,172  
                                         
Ending balance
  $ 225,815     $ 261,658     $ 259,872     $ 225,815     $ 261,658  
                                         
 
 
(1) Included in the residual securities balance at September 30, 2007 were $7.4 million of HELOC residuals retained from two separate guaranteed mortgage securitization transactions. There was no gain on sale of loans recognized in connection with these transactions.
 
(2) Amounts retained consist of 100% in HELOCs for the three months ended September 30, 2007.


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TABLE 14. VALUATION OF MSRs, INTEREST-ONLY, PREPAYMENT PENALTY, AND RESIDUAL SECURITIES
 
MSRs, AAA-rated and agency interest-only securities, prepayment penalty securities, and residual securities are recorded at fair value. Relevant information and assumptions used to value these securities as of the dates indicated follows (dollars in thousands):
 
                                                                                 
    Actual     Valuation Assumptions  
                Gross Wtd.
    Servicing
    3-Month
    Weighted
    Lifetime
    3-Month
          Remaining
 
    Book
    Collateral
    Average
    Fee/Interest
    Prepayment
    Average
    Prepayment
    Prepayment
    Discount
    Cumulative
 
    Value     Balance     Coupon     Strip     Speeds     Multiple     Speeds     Speeds     Yield     Loss Rate(1)  
 
                                                                               
MSRs
  $ 2,489,611     $ 173,915,457       7.04 %     0.34 %     12.0 %     4.18       20.1 %     16.5 %     9.1 %     N/A  
                                                                                 
AAA-rated interest-only securities
  $ 71,901     $ 5,398,591       6.60 %     0.49 %     12.1 %     2.70       18.5 %     15.0 %     12.9 %     N/A  
                                                                                 
Prepayment penalty securities
  $ 68,760     $ 20,130,891       7.44 %     N/A       11.5 %     N/A       22.6 %     17.7 %     21.5 %     N/A  
                                                                                 
Lot loan residual securities
    64,702     $ 1,896,031       9.82 %     3.72 %     32.7 %     0.92       47.1 %     48.5 %     21.8 %     0.81 %
HELOC residual securities
    61,039     $ 2,803,733       9.27 %     2.77 %     27.3 %     0.79       30.5 %     26.3 %     19.0 %     4.62 %
Closed-end seconds residual securities
    22,616     $ 2,157,271       10.55 %     1.79 %     16.1 %     0.59       17.7 %     28.0 %     23.2 %     10.88 %
Subprime residual securities
    77,458     $ 5,176,606       8.30 %     2.59 %     23.1 %     0.58       31.3 %     27.8 %     19.0 %     6.99 %
                                                                                 
Total non-investment grade residual securities
  $ 225,815                                                                          
                                                                                 
                                                                               
MSRs
  $ 1,631,316     $ 124,394,943       6.96 %     0.37 %     18.2 %     3.59       24.8 %     18.2 %     9.6 %     N/A  
                                                                                 
AAA-rated interest-only securities
  $ 68,440     $ 4,424,080       6.68 %     0.52 %     12.7 %     2.95       16.7 %     17.2 %     13.6 %     N/A  
                                                                                 
Prepayment penalty securities
  $ 98,422     $ 19,441,542       7.17 %     N/A       23.0 %     N/A       25.3 %     18.8 %     22.9 %     N/A  
                                                                                 
Lot loan residual securities
    66,133     $ 2,262,810       8.95 %     3.50 %     34.9 %     0.83       39.8 %     38.6 %     23.0 %     0.56 %
HELOC residual securities
    95,745     $ 2,661,610       9.65 %     3.21 %     44.5 %     1.12       50.0 %     48.7 %     19.9 %     0.81 %
Closed-end seconds residual securities
    14,841     $ 1,222,620       10.43 %     4.14 %     18.7 %     0.29       36.7 %     22.5 %     24.9 %     7.65 %
Subprime residual securities
    84,939     $ 5,427,460       7.68 %     1.70 %     28.0 %     0.92       39.4 %     35.8 %     20.2 %     5.47 %
                                                                                 
Total non-investment grade residual securities
  $ 261,658                                                                          
                                                                                 
                                                                               
MSRs
  $ 2,387,077     $ 167,710,148       7.06 %     0.35 %     18.1 %     4.12       20.7 %     19.1 %     8.7 %     N/A  
                                                                                 
AAA-rated interest-only securities
  $ 136,267     $ 5,860,016       6.57 %     0.74 %     17.5 %     3.14       19.6 %     18.5 %     12.7 %     N/A  
                                                                                 
Prepayment penalty securities
  $ 75,730     $ 20,181,683       7.36 %     N/A       14.9 %     N/A       23.4 %     23.2 %     17.3 %     N/A  
                                                                                 
Lot loan residual securities
    67,398     $ 2,021,954       9.64 %     4.14 %     36.7 %     0.81       41.3 %     39.7 %     21.8 %     0.73 %
HELOC residual securities
    90,150     $ 2,898,580       9.58 %     2.64 %     38.0 %     1.18       43.3 %     43.3 %     19.3 %     1.85 %
Closed-end seconds residual securities
    28,303     $ 2,260,980       10.56 %     4.78 %     14.7 %     0.26       20.3 %     23.8 %     23.0 %     9.86 %
Subprime residual securities
    74,021     $ 5,570,118       8.17 %     1.91 %     25.1 %     0.69       29.9 %     24.5 %     19.3 %     6.31 %
                                                                                 
Total non-investment grade residual securities
  $ 259,872                                                                          
                                                                                 
 
 
(1) As a percentage of the original pool balance, the actual loss rate to date totaled 1.33%, 2.80%, 0.83% and 0.01% for HELOC, closed-end seconds, subprime, and lot loans, respectively, at September 30, 2007.


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The lifetime prepayment speeds represent the annual constant prepayment rate (“CPR”) estimated for the remaining life of the collateral supporting the asset. The prepayment rates are projected using a prepayment model developed by a third-party vendor and calibrated for our collateral. The model considers key factors, such as refinance incentive, housing turnover, seasonality and aging of the pool of loans. Prepayment speeds incorporate expectations of future rates implied by the market forward LIBOR/swap curve, as well as collateral specific current coupon information.
 
The weighted-average multiple for MSRs, AAA-rated and agency interest-only securities and residual securities represent the book value divided by the product of collateral balance and servicing fee/interest strip. While the weighted-average life of such assets is a function of the undiscounted cash flows, the multiple is a function of the discounted cash flows. With regard to AAA-rated and agency interest-only securities, the marketplace frequently uses calculated multiples to assess the overall impact valuation assumptions have on value. Collateral type, coupon, loan age and the size of the interest strip must be considered when comparing these multiples. The mix of collateral types supporting servicing-related assets is primarily non-conforming/conventional, which may make our MSR multiples incomparable to peer multiples whose product mix is substantially different.
 
Beginning in the fourth quarter of 2006, the calculation of remaining cumulative loss rate changed to using the remaining lifetime loss projection divided by current collateral balance. All prior periods have been adjusted to reflect such change.
 
TABLE 15. DEPOSITS BY CHANNEL AND PRODUCT
 
The following table shows our deposits by channel as of the dates indicated (dollars in thousands):
 
                                                 
    September 30, 2007     September 30, 2006     December 31, 2006  
          % of
          % of
          % of
 
          Total
          Total
          Total
 
    Amount     Deposits     Amount     Deposits     Amount     Deposits  
 
Deposit Channel
                                               
Branch   $ 6,750,823       40 %   $ 4,729,699       47 %   $ 5,211,365       48 %
Internet
    1,460,766       9 %     1,121,653       11 %     1,185,423       11 %
Telebanking
    1,820,054       11 %     1,249,974       12 %     1,290,595       12 %
Money desk
    5,976,053       35 %     2,358,272       23 %     2,593,719       24 %
Custodial
    766,942       5 %     651,421       7 %     616,904       5 %
                                                 
Total deposits
  $ 16,744,638       100 %   $ 10,111,019       100 %   $ 10,898,006       100 %
                                                 
 
The following table presents our deposits by product as of the dates indicated (dollars in thousands):
 
                                                 
    September 30, 2007     September 30, 2006     December 31, 2006  
    Amount     Rate     Amount     Rate     Amount     Rate  
 
Deposit Product
                                               
Non-interest-bearing checking
  $ 78,599       0.0 %   $ 71,013       0.0 %   $ 72,081       0.0 %
Interest-bearing checking
    56,579       1.7 %     51,333       1.2 %     54,844       1.2 %
Savings
    2,498,170       4.8 %     1,696,859       4.9 %     1,915,333       5.0 %
Custodial accounts
    766,942       0.0 %     651,421       0.0 %     616,904       0.0 %
                                                 
Total core deposits
    3,400,290       3.6 %     2,470,626       3.4 %     2,659,162       3.6 %
Certificates of deposit
    13,374,348       5.2 %     7,640,393       5.0 %     8,238,844       5.2 %
                                                 
Total deposits
  $ 16,774,638       4.9 %   $ 10,111,019       4.6 %   $ 10,898,006       4.8 %
                                                 


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ITEM 3.   QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
 
Please refer to “Sensitivity to Market Risk” on page 44 as well as Item 1A included on page 82 for quantitative and qualitative disclosure about market risk.
 
ITEM 4.   CONTROLS AND PROCEDURES
 
The management of Indymac is responsible for establishing and maintaining effective disclosure controls and procedures, as defined under Rules 13a-15 and 15d-15 of Securities Exchange Act of 1934. As of September 30, 2007, an evaluation was performed under the supervision and with the participation of the Company’s management, including the Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of Indymac’s disclosure controls and procedures. Based on that evaluation, management concluded that Indymac’s disclosure controls and procedures as of September 30, 2007 were effective in ensuring that information required to be disclosed in this Quarterly Report on Form 10-Q was recorded, processed, summarized, and reported within the time period required by the SEC’s rules and forms.
 
There have been no significant changes in the Company’s internal control over financial reporting or in other factors that could significantly affect the Company’s disclosure of controls and procedures subsequent to September 30, 2007.


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ITEM 1.   FINANCIAL STATEMENTS
 
INDYMAC BANCORP, INC. AND SUBSIDIARIES
 
CONSOLIDATED BALANCE SHEETS
(Dollars in thousands)
 
                 
    September 30,
    December 31,
 
    2007     2006  
    (Unaudited)        
 
ASSETS
Cash and cash equivalents
  $ 784,987     $ 541,725  
Securities classified as trading
    1,407,644       542,731  
Securities classified as available for sale
    4,324,400       4,900,514  
Loans held for sale
    14,022,234       9,467,843  
Loans held for investment, net of allowance for loan losses of $161,768 and $62,386 at September 30, 2007 and December 31, 2006, respectively
    8,390,861       10,114,823  
Mortgage servicing rights
    2,489,611       1,822,455  
Other assets
    2,312,973       2,105,225  
                 
Total assets
  $ 33,732,710     $ 29,495,316  
                 
LIABILITIES AND SHAREHOLDERS’ EQUITY
Liabilities
               
Deposits
  $ 16,774,638     $ 10,898,006  
Advances from Federal Home Loan Bank
    11,094,800       10,412,800  
Other borrowings
    2,189,681       4,637,000  
Other liabilities
    1,311,948       1,519,242  
                 
Total liabilities
    31,371,067       27,467,048  
                 
Perpetual preferred stock in subsidiary
    491,000        
Shareholders’ Equity
               
Preferred stock — authorized, 10,000,000 shares of $0.01 par value; none issued
           
Common stock — authorized, 200,000,000 shares of $0.01 par value; issued 104,901,301 shares and 102,258,939 shares at September 30, 2007 and December 31, 2006, respectively
    1,049       1,023  
Additional paid-in-capital, common stock
    1,674,788       1,597,814  
Accumulated other comprehensive loss
    (66,117 )     (31,439 )
Retained earnings
    767,883       983,348  
Treasury stock
    (506,960 )     (522,478 )
                 
Total shareholders’ equity
    1,870,643       2,028,268  
                 
Total liabilities and shareholders’ equity
  $ 33,732,710     $ 29,495,316  
                 
 
The accompanying notes are an integral part of these financial statements.


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INDYMAC BANCORP, INC. AND SUBSIDIARIES
 
CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
(Dollars in thousand, except per share data)
 
                                 
    For the Three Months
    For the Nine Months
 
    Ended September 30,     Ended September 30,  
    2007     2006     2007     2006  
 
Interest income
                               
Mortgage-backed and other securities
  $ 101,901     $ 86,212     $ 289,717     $ 233,693  
Loans held for sale
    283,882       196,924       825,301       551,564  
Loans held for investment
    152,049       151,488       477,792       418,845  
Other
    20,019       12,127       52,195       32,706  
                                 
Total interest income
    557,851       446,751       1,645,005       1,236,808  
Interest expense
                               
Deposits
    170,540       113,758       441,225       280,841  
Advances from Federal Home Loan Bank
    183,192       115,769       541,896       329,846  
Other borrowings
    61,941       80,513       235,392       232,046  
                                 
Total interest expense
    415,673       310,040       1,218,513       842,733  
                                 
Net interest income
    142,178       136,711       426,492       394,075  
Provision for loan losses
    98,279       4,988       126,170       11,040  
                                 
Net interest income after provision for loan losses
    43,899       131,723       300,322       383,035  
Non-interest income (loss)
                               
Gain (loss) on sale of loans
    (251,119 )     160,225       (32,545 )     503,083  
Service fee income
    212,929       21,058       347,733       79,194  
Gain (loss) on mortgage-backed securities
    (93,669 )     18,968       (145,362 )     24,611  
Fee and other income
    45,574       13,600       87,302       37,276  
                                 
Total non-interest income (loss)
    (86,285 )     213,851       257,128       644,164  
                                 
Net revenues
    (42,386 )     345,574       557,450       1,027,199  
Non-interest expense
    270,128       203,128       710,763       578,842  
                                 
Earnings (loss) before provision (benefit) for income taxes and minority interests
    (312,514 )     142,446       (153,313 )     448,357  
Provision (benefit) for income taxes
    (122,193 )     56,266       (60,013 )     176,545  
                                 
Net earnings (loss) before minority interests
    (190,321 )     86,180       (93,300 )     271,812  
Minority interests
    12,396             12,396       1,124  
                                 
Net earnings (loss)
  $ (202,717 )   $ 86,180     $ (105,696 )   $ 270,688  
                                 
Earnings (loss) per share:
                               
Basic
  $ (2.77 )   $ 1.25     $ (1.46 )   $ 4.07  
Diluted(1)
  $ (2.77 )   $ 1.19     $ (1.46 )   $ 3.87  
Weighted-average shares outstanding:
                               
Basic
    73,134       68,866       72,617       66,570  
Diluted(1)
    73,134       72,286       72,617       70,009  
Dividends declared per share
  $ 0.50     $ 0.48     $ 1.50     $ 1.38  
 
 
(1) To avoid the antidilutive impact from diluted shares due to the Company’s net loss for the three and nine months ended September 30, 2007, the diluted loss per share and weighted-average diluted shares outstanding are the same as basic loss per share and weighted-average shares outstanding.
 
The accompanying notes are an integral part of these financial statements.


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INDYMAC BANCORP, INC. AND SUBSIDIARIES
 
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY
AND COMPREHENSIVE INCOME (LOSS)
(Unaudited)
(Dollars in thousands)
 
                                                         
                      Accumulated
                   
                Additional
    Other
                Total
 
    Shares
    Common
    Paid-In-
    Comprehensive
    Retained
    Treasury
    Shareholders’
 
    Outstanding     Stock     Capital     Loss     Earnings     Stock     Equity  
 
Balance at December 31, 2005
    64,246,767     $ 934     $ 1,318,751     $ (15,157 )   $ 759,330     $ (520,417 )   $ 1,543,441  
Comprehensive income:
                                                       
Net earnings
                            270,688             270,688  
Other comprehensive income (loss), net of tax:
                                                       
Net unrealized gain on mortgage-backed securities available for sale
                      7,816                   7,816  
Net unrealized loss on derivatives used in cash flow hedges
                      (14,036 )                 (14,036 )
                                                         
Total comprehensive income
                                        264,468  
                                                         
Cumulative-effect adjustment due to change in accounting for MSRs
                            10,624             10,624  
Issuance of common stock
    2,969,165       30       123,696                         123,726  
Exercises of common stock options
    800,993       8       21,807                         21,815  
Exercises of warrants
    2,466,974       25       54,125                         54,150  
Compensation expense for common stock options
                7,386                         7,386  
Net officers’ notes receivable payments
                100                         100  
Deferred compensation and restricted stock amortization, net of forfeitures
    426,489       4       7,663                         7,667  
Purchases of common stock
    (51,728 )                             (2,061 )     (2,061 )
Cash dividends
                            (93,484 )           (93,484 )
                                                         
Balance at September 30, 2006
    70,858,660     $ 1,001     $ 1,533,528     $ (21,377 )   $ 947,158     $ (522,478 )   $ 1,937,832  
                                                         
Balance at December 31, 2006
    73,017,356     $ 1,023     $ 1,597,814     $ (31,439 )   $ 983,348     $ (522,478 )   $ 2,028,268  
Comprehensive income (loss):
                                                       
Net loss
                            (105,696 )           (105,696 )
Other comprehensive income (loss), net of tax:
                                                       
Net unrealized loss on mortgage-backed securities available for sale
                      (34,800 )                 (34,800 )
Net unrealized loss on derivatives used in cash flow hedges
                      (4,787 )                 (4,787 )
Change in post retirement benefit plan
                      4,909                   4,909  
                                                         
Total comprehensive loss
                                        (140,374 )
                                                         
Issuance of common stock
    3,467,493       35       74,196                         74,231  
Exercises of common stock options
    144,212             6                   2,577       2,583  
Exercises of warrants
    63,888       1       1,405                         1,406  
Compensation expense for common stock options
                6,108                         6,108  
Net officers’ notes receivable payments
                320                         320  
Deferred compensation and restricted stock amortization, net of forfeitures
    296,459       (10 )     (5,061 )                 14,444       9,373  
Purchases of common stock
    (39,971 )                             (1,503 )     (1,503 )
Cash dividends
                            (109,769 )           (109,769 )
                                                         
Balance at September 30, 2007
    76,949,437     $ 1,049     $ 1,674,788     $ (66,117 )   $ 767,883     $ (506,960 )   $ 1,870,643  
                                                         
 
The accompanying notes are an integral part of these financial statements.


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INDYMAC BANCORP, INC. AND SUBSIDIARIES
 
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
(Dollars in thousands)
 
                 
    For the Nine Months
 
    Ended September 30,  
    2007     2006  
 
Cash flows from operating activities:
               
Net earnings (loss)
  $ (105,696 )   $ 270,688  
Adjustments to reconcile net earnings (loss) to net cash used in operating activities:
               
(Gain) loss on sale of loans
    32,545       (503,083 )
Compensation expense related to stock options and restricted stocks
    15,481       15,053  
Other amortization and depreciation
    104,264       54,240  
Change in valuation of mortgage servicing rights, including amortization
    (1,514 )     243,339  
(Gain) loss on mortgage-backed securities, net
    145,362       (24,611 )
Provision for loan losses
    126,170       11,040  
Provision (benefit) for deferred income taxes
    (60,013 )     186,127  
Net (increase) decrease in other assets and liabilities
    (133,416 )     38,742  
                 
Net cash provided by operating activities before activity for trading securities and loans held for sale
    123,183       291,535  
Net sales (purchases) of trading securities
    (399,334 )     245,560  
Net purchases and originations of loans held for sale
    (6,293,995 )     (5,933,894 )
                 
Net cash used in operating activities
    (6,570,146 )     (5,396,799 )
                 
Cash flows from investing activities:
               
Payments on loans held for investment, net
    985,214       454,547  
Proceeds from sales of loans held for investment
    510,253       9,185  
Purchases of mortgage-backed securities available for sale
    (430,519 )     (570,884 )
Proceeds from sales of and principal payments from mortgage-backed securities available for sale
    1,270,610       652,610  
Net increase in investment in Federal Home Loan Bank stock, at cost
    (66,925 )     (80,388 )
Net decrease in real estate investment
    1,740       7,483  
Net sale (purchases) of property, plant and equipment
    49,799       (74,465 )
Purchase of Financial Freedom minority interest
          (40,000 )
                 
Net cash provided by investing activities
    2,320,172       358,088  
                 
Cash flows from financing activities:
               
Net increase in deposits
    5,874,312       2,436,235  
Net increase in advances from Federal Home Loan Bank
    682,000       2,379,800  
Net increase (decrease) in borrowings
    (2,503,076 )     97,920  
Net proceeds from issuance of common stock
    74,231       123,726  
Net proceeds from issuance of trust preferred securities
    30,000       128,000  
Redemption of trust preferred securities
    (48,268 )     (28,587 )
Net proceeds from stock options, warrants and notes receivable
    4,309       76,065  
Proceeds from issuance of preferred stock by subsidiary
    491,000        
Cash dividends paid
    (109,769 )     (93,484 )
Purchases of common stock
    (1,503 )     (2,061 )
                 
Net cash provided by financing activities
    4,493,236       5,117,614  
                 
Net increase in cash and cash equivalents
    243,262       78,903  
Cash and cash equivalents at beginning of period
    541,725       442,525  
                 
Cash and cash equivalents at end of period
  $ 784,987     $ 521,428  
                 
Supplemental cash flow information:
               
Cash paid for interest
  $ 1,109,796     $ 779,203  
                 
Cash paid (received) for income taxes
  $ 4,751     $ (48,685 )
                 
Supplemental disclosure of non-cash investing and financing activities:
               
Net transfer of loans held for sale to loans held for investment
  $ 1,059,363     $ 2,258,617  
                 
Net transfer of loans held for investment to loans held for sale
  $ 1,066,503     $  
                 
Net transfer of mortgage servicing rights to trading securities
  $ 54,993     $ 2,601  
                 
 
The accompanying notes are an integral part of these financial statements.


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INDYMAC BANCORP, INC. AND SUBSIDIARIES
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2007
(Unaudited)
 
NOTE 1 — BASIS OF PRESENTATION
 
The consolidated financial statements include the accounts of Indymac Bancorp and all of its wholly-owned and majority-owned subsidiaries, including IndyMac Bank, F.S.B. (“Indymac Bank”) and variable interest entities. All significant intercompany balances and transactions with Indymac’s consolidating subsidiaries have been eliminated in consolidation. Minority interests and perpetual preferred stock in Indymac’s majority-owned subsidiaries or variable interest entities are either reported separately or included in “other liabilities” on the consolidated balance sheets. Minority interests on Indymac’s earnings are reported separately on the consolidated statements of operations.
 
The consolidated financial statements of Indymac are prepared in conformity with U.S. generally accepted accounting principles (“U.S. GAAP”) for interim financial information and with the Securities and Exchange Commission’s instructions on Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly, they do not include all of the information and notes required by U.S. GAAP for complete financial statements. The foregoing financial statements are unaudited; however, in the opinion of management, all adjustments, consisting only of normal recurring adjustments necessary for a fair statement of the results for the interim periods have been included. Certain prior year amounts have been reclassified to conform to the current year presentation.
 
The preparation of these financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results may differ from those estimates. Operating results for the three and nine months ended September 30, 2007 are not necessarily indicative of the results that may be expected for the year ending December 31, 2007. For further information, refer to the consolidated financial statements and footnotes thereto included in Indymac’s 2006 10-K.
 
NOTE 2 — NEWLY ADOPTED AND NEW ACCOUNTING PRONOUNCEMENTS
 
In June 2006, the Financial Accounting Standards Board (“FASB”) issued Interpretation 48, “Accounting for Uncertainty in Income Taxes” (“FIN 48”), an interpretation of FASB Statement No. 109, “Accounting for Income Taxes.” FIN 48 clarifies the accounting and reporting for income taxes where interpretation of the law is uncertain. FIN 48 prescribes a comprehensive model for the financial statement recognition, measurement, presentation and disclosure of income tax uncertainties with respect to positions taken or expected to be taken in income tax returns. FIN 48 is effective for fiscal years beginning after December 15, 2006. The Company adopted this Statement on January 1, 2007 and the Company recognizes interest and penalties in other expense. The adoption of FIN 48 did not have a material impact on the consolidated financial statements.
 
In September 2006, the FASB issued Statement No. 157, “Fair Value Measurements” (“SFAS 157”). SFAS 157 addresses how companies should measure fair value when they are required to use a fair value measure for recognition or disclosure purposes under U.S. GAAP. SFAS 157 defines fair value, establishes a framework for measuring fair value and expands disclosures about fair value measurements. SFAS 157 is effective prospectively for fiscal years beginning after November 15, 2007. The Company will adopt SFAS 157 on January 1, 2008, and is assessing the impact of the adoption of this Statement.
 
In February 2007, the FASB issued Statement No. 159, “The Fair Value Option for Financial Assets and Financial Liabilities” (“SFAS 159”). SFAS 159 would allow the Company an irrevocable election to measure certain financial assets and liabilities at fair value, with unrealized gains and losses on the elected items recognized in earnings at each reporting period. The fair value option may only be elected at the time of initial recognition of a financial asset or financial liability or upon the occurrence of certain specified events. The election is applied on an instrument by instrument basis, with a few exceptions, and is applied only to entire instruments and not to portions of instruments. SFAS 159 also provides expanded disclosure requirements regarding the effects of electing the fair value option on the financial statements. SFAS 159 is effective prospectively for fiscal years beginning after


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INDYMAC BANCORP, INC. AND SUBSIDIARIES
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
November 15, 2007. The Company is currently evaluating this Statement and has not yet determined the financial assets and liabilities, if any, for which the fair value option would be elected or the potential impact on the consolidated financial statements, if such election were made.
 
In April 2007, the FASB issued FSP No. FIN 39-1, “Amendment of FASB Interpretation No. 39” (“FSP 39-1”). FSP 39-1 amends FIN No. 39, “Offsetting of Amounts Related to Certain Contracts (“FIN 39”), to permit a reporting entity to offset fair value amounts recognized for the right to reclaim cash collateral (a receivable) or the obligation to return cash collateral (a payable) against fair value amounts recognized for derivative instruments executed with the same counterparty under the same master netting arrangement that have been offset in accordance with FIN 39. FSP 39-1 also amends FIN 39 for certain terminology modifications. FSP 39-1 is effective for fiscal years beginning after November 15, 2007, with early application permitted. Upon adoption of FSP 39-1, a reporting entity is permitted to change its accounting policy to offset or not offset fair value amounts recognized for derivative instruments under master netting arrangements. The Company adopted FSP 39-1 on September 30, 2007 and elected to offset derivative instruments executed with the same counterparty under the same master netting arrangement and to net cash collateral paid or collected in accordance with FSP 39-1. The adoption of FSP 39-1 did not have a material impact on the consolidated financial statements.
 
NOTE 3 — SEGMENT REPORTING
 
The Company operates through two primary segments: mortgage banking and thrift. For more information regarding each segment as well as the accounting methodology used for reporting segment financial results, refer to “Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations — Summary of Business Segment Results” on page 9. Commercial mortgage banking, mortgage banking overhead, elimination and other, and corporate overhead costs, such as corporate salaries and related expenses, excess capital and non-recurring corporate items not allocated to the operating channels, are included in the “Other” column in the tables below.


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INDYMAC BANCORP, INC. AND SUBSIDIARIES
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
The following table presents segment information for the periods indicated (dollars in thousands):
 
                                         
    Mortgage Banking Segment                    
    Mortgage
    Mortgage
                   
    Production
    Servicing
    Thrift
          Total
 
    Divisions     Division     Segment     Other     Company  
 
Three months ended September 30, 2007
                                       
Net interest income (expense)
  $ 50,572     $ (12,080 )   $ 73,829     $ 29,857     $ 142,178  
Net revenues (expense)
    (90,478 )     162,428       (141,544 )     27,208       (42,386 )
Net earnings (loss)
    (123,579 )     85,275       (104,411 )     (60,002 )     (202,717 )
Allocated average capital
    735,561       399,237       914,473       5,110       2,054,381  
Assets as of September 30, 2007
  $ 11,408,294     $ 4,351,220     $ 16,695,380     $ 1,277,816     $ 33,732,710  
Return on average equity
    (67 )%     85 %     (45 )%     N/A       (39 )%
Three months ended September 30, 2006
                                       
Net interest income (expense)
  $ 41,218     $ (3,323 )   $ 79,043     $ 19,773     $ 136,711  
Net revenues (expense)
    204,391       47,672       102,823       (9,312 )     345,574  
Net earnings (loss)
    68,981       20,056       46,016       (48,873 )     86,180  
Allocated average capital
    509,136       269,464       820,043       272,736       1,871,379  
Assets as of September 30, 2006
  $ 7,687,438     $ 2,431,620     $ 16,318,328     $ 948,097     $ 27,385,483  
Return on average equity
    54 %     30 %     22 %     N/A       18 %
Nine months ended September 30, 2007
                                       
Net interest income (expense)
  $ 161,681     $ (24,546 )   $ 215,348     $ 74,009     $ 426,492  
Net revenues (expense)
    253,180       295,225       (13,363 )     22,408       557,450  
Net earnings (loss)
    (41,236 )     142,088       (58,971 )     (147,577 )     (105,696 )
Allocated average capital
    717,083       360,140       888,219       89,588       2,055,030  
Assets as of September 30, 2007
  $ 11,408,294     $ 4,351,220     $ 16,695,380     $ 1,277,816     $ 33,732,710  
Return on average equity
    (8 )%     53 %     (9 )%     N/A       (7 )%
Nine months ended September 30, 2006
                                       
Net interest income (expense)
  $ 122,119     $ (6,840 )   $ 231,485     $ 47,311     $ 394,075  
Net revenues (expense)
    621,018       120,775       301,133       (15,727 )     1,027,199  
Net earnings (loss)
    219,174       51,329       134,710       (134,525 )     270,688  
Allocated average capital
    513,941       240,426       774,884       208,934       1,738,185  
Assets as of September 30, 2006
  $ 7,687,438     $ 2,431,620     $ 16,318,328     $ 948,097     $ 27,385,483  
Return on average equity
    57 %     29 %     23 %     N/A       21 %
 
NOTE 4 — STOCK-BASED COMPENSATION
 
The Company has two stock incentive plans, the 2002 Incentive Plan, as amended and restated, and the 2000 Stock Incentive Plan, as amended (collectively, the “Plans”), which provide for the granting of non-qualified and incentive stock options, restricted and performance stock awards, and other awards to employees (including officers) and directors. Options granted under the Plans have an exercise price equal to the fair market value of the underlying common stock on the date of grant, and generally vest based on one, three or five years of continuous service. Grants issued after April 25, 2006 will expire in seven years from the grant date, while grants issued prior to April 25, 2006 have a ten-year term. Certain option and share awards provide for accelerated vesting if there is a change in control (as defined in the Plans). The fair value of each option award is estimated on the date of grant using an enhanced binomial lattice model.


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INDYMAC BANCORP, INC. AND SUBSIDIARIES
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
The following table shows the assumptions used in the valuations for options granted during the periods indicated:
 
                 
    Nine Months Ended September 30,  
    2007     2006  
 
Expected volatility
    28.68 - 30.20 %     28.11 - 28.44 %
Expected dividends
    5.08 - 6.76 %     4.00 - 4.60 %
Weighted average expected term (in years)
    5.20 - 5.50       6.89 - 7.34  
Risk-free rate
    4.58 - 4.82 %     4.54 - 4.73 %
 
The following table shows the impact of stock option compensation cost to the statement of operations during the periods indicated (dollars in thousands except per share data):
 
                                 
          For the Nine
 
    For the Three Months Ended September 30,     Months Ended September 30,  
    2007     2006     2007     2006  
 
Stock option compensation cost, before tax
  $ 1,723     $ 2,422     $ 6,108     $ 7,386  
Stock option compensation cost, after tax
    1,181       1,611       3,975       4,530  
Effect on basic earnings per share
    0.02       0.02       0.05       0.07  
Effect on dilutive earnings per share
    0.02       0.02       0.05       0.06  
 
There were no options granted during the three months ended September 30, 2007 and 2006. The total fair value of options exercised during the three months ended September 30, 2007 and 2006, was $6 thousand and $1.1 million, respectively. The total fair value of options exercised during the nine months ended September 30, 2007 and 2006, was $1.0 million and $5.2 million, respectively.
 
As of September 30, 2007, there was $7.7 million of total unrecognized compensation cost, net of estimated forfeitures, related to nonvested options under the Plans. That cost is expected to be recognized in less than three years. The total fair value of shares vested during the three months ended September 30, 2007 and 2006, was $0.1 million and $0.6 million, respectively. The total fair value of shares vested during the nine months ended September 30, 2007 and 2006, was $6.7 million and $10.2 million, respectively.
 
Cash received from options exercised under the Plans for the nine months ended September 30, 2007 and 2006 was $3.5 million and $18.4 million, respectively. The actual tax benefit for the tax deductions from option exercises totaled $0.7 million and $6.3 million, respectively, for the nine months ended September 30, 2007 and 2006.
 
The following table shows restricted stock activity under the Plans during the periods indicated:
 
                                 
    Three Months Ended
    Nine Months Ended
 
    September 30, 2007     September 30, 2007  
          Weighted-
          Weighted-
 
          Average
          Average
 
          Grant-Date
          Grant-Date
 
    Shares     Fair Value     Shares     Fair Value  
 
Nonvested, beginning of period
    1,226,371     $ 35.69       889,117     $ 39.14  
Granted
    46,493       18.68       585,300       29.74  
Vested
    (2,519 )     34.49       (144,724 )     37.42  
Canceled and forfeited
    (229,591 )     36.96       (288,939 )     37.11  
                                 
Nonvested, end of period
    1,040,754       34.65       1,040,754       34.65  
                                 


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INDYMAC BANCORP, INC. AND SUBSIDIARIES
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
The Company recorded compensation cost of $1.0 million and $2.8 million related to the restricted stock granted under the Plans for the three months ended September 30, 2007 and 2006, respectively. For the nine months ended September 30, 2007 and 2006, the compensation cost related to the restricted stock was $7.2 million and $7.3 million, respectively.
 
NOTE 5 — DEFINED BENEFIT PENSION PLAN
 
Through December 31, 2002, Indymac Bank provided a defined benefit pension plan (the “DBP Plan”) to substantially all of its employees. Employees hired prior to January 1, 2003, with one or more years of service, are entitled to annual pension benefits beginning at normal retirement age (65 years of age) equal to a formula approximating 0.9% of final average compensation multiplied by credited service (not in excess of 35 years), subject to a vesting requirement of five years of service. Employees hired after December 31, 2002 are not eligible for the DBP Plan.
 
The DBP Plan has been frozen since May 31, 2007 with participants no longer accruing additional benefits starting with the 2007 Plan year. A curtailment gain of $10.3 million was recognized in the second quarter as a reduction to pension expense.
 
NOTE 6 — OTHER ASSETS HELD FOR SALE
 
On July 11, 2007, the Company completed the sale and leaseback of one of its properties in Pasadena, California for a purchase price of $116 million and entered into a lease agreement for a portion of the property with an initial term of ten years. The leased portion of the property serves as our mortgage banking headquarters. The Company removed the $54.8 million of asset from the balance sheet and recognized approximately $60 million in total gain from the sale and leaseback transaction, with approximately $24 million recognized upon sale in the third quarter of 2007 and the balance amortized over the term of the lease.
 
NOTE 7 — SUBSEQUENT EVENTS
 
In October 2007, Indymac’s Board of Directors declared a cash dividend of $0.25 per share payable on December 6, 2007, to shareholders of record on November 15, 2007. Also, the Board of Directors of Indymac Bank approved a dividend payment on the Series A Preferred Stock equal to $0.53 per share. The cash dividend is payable on December 17, 2007, to shareholders of record on December 3, 2007.


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PART II. OTHER INFORMATION
 
ITEM 1.   LEGAL PROCEEDINGS
 
In the ordinary course of business, the Company and its subsidiaries are defendants in or parties to a number of legal actions. Certain of such actions involve alleged violations of employment laws, unfair trade practices, consumer protection laws, including claims relating to the Company’s sales, loan origination and collection efforts, and other federal and state banking laws. Certain of such actions include claims for breach of contract, restitution, compensatory damages, punitive damages and other forms of relief. The Company reviews these actions on an on-going basis and follows the provisions of SFAS No. 5, “Accounting for Contingencies” when making accrual and disclosure decisions. When assessing reasonably possible and probable outcomes, the Company bases its decisions on the evidence discovered and in its possession, the strength of probable witness testimony, the viability of its defenses and the likelihood of prevailing at trial or resolving the matter through alternative dispute resolution. Due to the difficulty of predicting the outcome of such actions, the Company can give no assurance that it will prevail on all claims made against it; however, management believes, based on current knowledge and after consultation with counsel, that these legal actions, individually and in the aggregate, and the losses, if any, resulting from the likely final outcome thereof, will not have a material adverse effect on the Company and its subsidiaries’ financial position, but could have a material impact on the results of operations of particular periods.
 
ITEM 1A.   RISK FACTORS
 
Indymac’s 2006 10-K presents on pages 72 to 80 a comprehensive set of risk factors that may impact the Company’s future results. Given recent developments in the mortgage, housing and secondary markets, we are adding the following:
 
Secondary mortgage market conditions could have a material adverse impact on our earnings and financial condition.
 
We have significant financing needs that we meet through the capital markets, including the secondary mortgage market. These markets are currently experiencing unprecedented disruptions, which could have an adverse impact on our earnings and financial condition, particularly in the short term.
 
The private secondary mortgage markets are currently experiencing unprecedented disruptions resulting from reduced investor demand for non-GSE mortgage loans and mortgage-backed securities and increased investor yield requirements for those loans and securities. These conditions may continue or worsen in the future. In light of current conditions, we may retain a larger portion of mortgage loans and mortgage-backed securities than we would in other environments. While our capital and liquidity positions are currently adequate and we believe we have sufficient capacity to hold additional mortgage loans and mortgage backed securities until investor demand improves and yield requirements moderate, our capacity to retain mortgage loans and mortgage backed securities is not unlimited. As a result, a prolonged period of secondary market illiquidity may reduce our loan production volumes and could have an adverse impact on our future earnings and financial condition.
 
Current and anticipated deterioration in the housing market and the homebuilding industry may lead to increased loss severities and further worsening of delinquencies and non-performing assets in our loan portfolios. Consequently, our results of operations may be adversely impacted.
 
Recently, the housing and the residential mortgage markets have experienced a variety of difficulties and changed economic conditions. If market conditions continue to deteriorate, they may lead to additional valuation adjustments on our loan portfolios and real estate owned as we continue to reassess the market value of our loan portfolio, the loss severities of loans in default, and the net realizable value of real estate owned.
 
The homebuilding industry has experienced a significant and sustained decline in demand for new homes and an oversupply of new and existing homes available for sale in various markets, including the ones in which we lend through our homebuilder division. Our builders/borrowers face a greater difficulty in selling their homes in markets where these trends are more pronounced. We do not anticipate that the housing market will improve in the


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near-term, and accordingly, additional downgrades, provisions for loan losses and charge-offs relating to this portfolio may occur.
 
ITEM 2.   UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
 
There were no unregistered sales of equity securities during the three months ended September 30, 2007.
 
The following summarizes share repurchase activities during the three months ended September 30, 2007:
 
                                 
                Total Number of
    Maximum Approximate
 
    Total
          Shares Purchased
    Dollar Value (In Million) of
 
    Number of
    Weighted
    as Part of Publicly
    Shares that may yet be
 
    Shares
    Average Price
    Announced Plans or
    Purchased Under the
 
    Purchased(1)     Paid per Share     Programs     Plans or Programs(2)  
 
Calendar Month:
                               
July 2007
        $         —     $ 300  
August 2007
    248       20.71             300  
September 2007
    150       23.12             300  
                                 
Total
    398     $ 21.62             300  
                                 
 
 
(1) All shares purchased during the periods indicated represent withholding of a portion of shares to cover taxes in connection with vesting of restricted stocks or exercise of stock options.
 
(2) Our Board of Directors previously approved a $500 million share repurchase program. Since its inception in 1999, we have repurchased a total of 28.0 million shares through this program. In January 2007, we obtained an authorization from the Board of Directors to repurchase an additional $236.4 million of common stock for a total current authorization of up to $300 million.
 
ITEM 6.   EXHIBITS
 
         
  4 .1   2000 Stock Incentive Plan, as amended.
  4 .2   2002 Incentive Plan, as Amended and Restated.
  10 .1   Amended and Restated Employment Agreement entered into September 17, 2007 between IndyMac Bancorp, Inc. and Michael W. Perry.
  10 .2   IndyMac Bank, F.S.B. Deferred Compensation Plan, Amended and Restated Effective as of January 1, 2008.
  10 .3   IndyMac Bancorp, Inc. Senior Manager Deferred Compensation Plan Amended and Restated Effective as of September 17, 2007.
  31 .1   Chief Executive Officer’s Certification pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
  31 .2   Chief Financial Officer’s Certification pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
  32 .1   Chief Executive Officer’s Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
  32 .2   Chief Financial Officer’s Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.


83



Table of Contents

SIGNATURE
 
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned hereunto duly authorized, in the City of Pasadena, State of California, on November 6, 2007.
 
INDYMAC BANCORP, INC.
(Registrant)
 
  By: 
/s/  MICHAEL W. PERRY
Michael W. Perry
Chairman of the Board of Directors
and Chief Executive Officer
 
  By: 
/s/  A. SCOTT KEYS
A. Scott Keys
Executive Vice President
and Chief Financial Officer


84


Dates Referenced Herein   and   Documents Incorporated by Reference

This ‘10-Q’ Filing    Date    Other Filings
1/1/08
12/31/0710-K,  11-K
12/17/07
12/6/078-K
12/3/07
11/15/074
Filed on:11/6/078-K
10/31/07
10/17/07
For Period End:9/30/07
9/17/078-K
7/11/078-K
6/30/0710-Q
5/31/07
4/1/073
1/1/073
12/31/0610-K,  11-K,  5
12/15/06
11/14/064
9/30/0610-Q
4/25/0610-Q,  8-K,  DEF 14A
12/31/0510-K,  11-K,  5
1/1/03
12/31/0210-K,  11-K
11/14/01
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