MBI Supp Update

8/9/2019 MBI Supp Update

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Report Update:June 12, 2007 OTCBB:MBIF

The MBI Business Model

Overview. MBI is aggregating mortgage brokerages into a mortgage banking operation that adds speed and eciency tothe process o approving and unding loans. Mortgage brokers are experiencing competition rom mortgage banks thatcan move aster to close loans, and new regulations require that brokers but not mortgage banks disclose their ees to cus-tomers. Other regulatory burdens at the state and ederal levels avor mortgage banks that have specialized departments tohandle these matters.

Most mortgage brokerages are very small operations run by one to several loan ocers, oten with one individual account-ing or 60% or more o volume. By buying their business or cash and stock and retaining their services, MBI allows theowners o mortgage brokerages, usually top brokers, to get back to the business o originating loans. Ater joining MBI,the parent company takes care o compliance and accounting work, provides a 2-4 hour turnaround on loan approval (asopposed to 1-5 days with third parties), generates leads through advertising and special relationships, and relieves brokerso the requirement to disclose their ees. A standardized sotware system also allows better access to a wide variety oloan types. Brokers still retain approximately 65% o their gross ees, but management reports that the benets more thanmake up the dierence in greater volumes o business or brokers.

Te benet o banking loans internally adds an average 50 basis point gain in revenue or little added expense. Te Com-pany has warehouse credit lines that have recently been expanded to allow or up to $100 million in monthly loan volume.

Te average loan is owned by MBI or less than two weeks, so interest rate risk and credit risk are minimized. MBI doesnot service loans, but sells the servicing rights. Management reports that approximately 40% o its loans are in the sub-prime category, but that it is not held liable or bad loans and is not required to repurchase mortgages that are in deault, asmany mortgage banks have been orced to do lately.

argets. MBI targets protable mortgage brokerage rms that produce $75 million to $600 million in annual loan volumeand $100,000 to $3,000,000 in earnings. Since these are small private companies, MBI has been paying an average o 0.4times revenue or 2 to 3 times cash-fow or acquisitions. Seven mortgage brokerages and a credit repair agency have beenacquired to date (see able XII), providing a revenue run rate o approximately $22 million, according to management.

Te highest price paid was $3.45 million or an operation in Anaheim, Caliornia. Tese are spread across a total o 13

locations, mostly in the southern U.S. In 2007 the Company anticipates additional acquisitions providing or over $1.5billion in additional loan volume and $40 million in additional revenue.

Integration. Management has stated that it believes it can continue to control integration costs because regulations havebred standardization o practices across the industry. Te mortage brokerage business is driven by selling incentives, andMBI preers to continue commission-based compensation programs. Management has stated that the typical acquisitiondo date has taken 2-3 months to integrate, but that it will be pursuing larger acquisitions this year that may take muchlonger. Several targets have been identied, and $6 million in nancing has been raised since December 2006, $5 milliono which as debt and the balance with equity.

Growth. MBI employed 88 people as o September 30, 2006, and this number has likely grown somewhat with the latesttwo acquisitions. Te vast majority o employees are loan ocers, and the remainder are mostly executives, oce staand underwriters. Te central Austin, exas oce houses the largest number o employees, 35. Te Company seeks newbusiness through the relationships its loan ocers have with real estate agents, home builders, nancial advisors and creditrestoration companies, as well as through advertising, mostly through targeted mailings. Advertising costs are approxi-mately $100,000 per month, according to management.


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Credit Repair Agency. Te most recent acquisition announced was o American Debt Specialists (ADS), a Minnesotacredit repair agency that specializes in restoring credit scores and negotiating debt reductions or consumers. Te Com-pany paid $25,000 cash and 125,000 shares or the acquisition, which management undertook in order to increase theclosure rate on respondents to the Companys advertising eorts. ADS hopes to benet rom an infux o reerrals romMBI, and MBI hopes that ADS will improve the credit scores o several percent o its leads that would not otherwise

qualiy or loans.

Table I: Eight completed acquisitions since May 2005

2/12/2007 American Debt Specialists

12/31/2006 Merchants Home Mortgage

3/30/2006 New Horizons Financial

3/23/2006 L&M Mortgage

11/10/2005 New Mexico Alpha

9/30/2005 Lakeview Mortgage

9/30/2005 Northland Funding

5/24/2005 MBI Mortgage, Inc.

Company History. Te public corporate entity was organized on February 19, 1969 or the purpose o the exploration ooil and gas and has owned a succession o businesses operations in various industries. On May 24, 2005, the public entitycompleted a reverse merger with MBI Mortgage Inc. Te Company has since completed seven acquisitions o mortagebrokerage businesses and one aquisition o a credit repair company.

Financial Statements

Balance Sheet on March 31, 2007(in $000s)

Cash & equivalents 1,495 Current liabilities 10,071

Other current assets 3,587 Other liabilities 2,700

Total current assets 5,082 Total liabilities 12,771

Other assets 8,537.8 Stockholders equity 1,103

Total assets 13,874 Total liabilities & equity 13,874

Note: Unaudited. Source: MBI Financial, Inc.


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On March 31, 2007, the Company had a working capital decit o approximately $5 million. Current assets included loaninventory o $3,108,159, matched by an osetting current liability in the Companys warehouse line o credit. otal assetsincluded goodwill o $6,836,996. Tere were short term notes payable in the net amount o $4,981,394 and total notespayable in the amount o $7,681,394.

On December 27, 2006, the Company received a $5 million loan rom Old Master Giotto Fund Limited, a CaymanIslands exempt company. Te loan has an 18% coupon and requires quarterly interest and principal payments. Final pay-ment is due January 1, 2009. In conjunction with the loan, MBI issued 1,720,595 warrants with a strike price o $0.27and expiration on December 27, 2013. In the event o deault, the interest rate increases to 25% and an equal amount o

warrants are to be issued. $3,127,095 o the proceeds were to be used to pay previous note holders, with the remainder, neto legal and nancing ees, or working capital and acquisitions.

$1 million was raised on February 19, 2007 in exchange or 1,000 shares o preerred stock and 1,500,000 warrants, aswell as ees o 500,000 shares o common stock and 500,000 additional warrants with a strike price o $0.40. Another $1million was raised on April 17, 2007 rom the sale o 1,000 shares o 15% coupon convertible stock and 2,000,000 5-year,cashless exercise warrants or common stock with an exercise price o $0.40.

Income Statements on March 31, 2007(in $000s, unless otherwise noted)

3 mo. 3/07 3 mo. 12/06 3. mo. 3/06

Revenue 3,447 2,778 1,312

Cost o sales 3,316 2,313 1,108

Gross prot 131 465 204

Operating expenses 3,122 1,542 647

Operating income (loss) (2,991) (1,276) (443)

Net income (loss) (3,714) (2,389) (787)

EPS (diluted) $(0.25) $(0.19) $(0.49)

Diluted # o Class A common shares (000s) 14,793 12,745 1,599


Revenues were up 24% in the quarter ended March 31, 2007 compared to the previous quarter ended December 31, 2006,and they were 163% greater than in the rst quarter o 2006. Operating expenses increased dramatically, largely due toconsulting ees as the Company progressed through its expansion plans.


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Statements o Cash Flows (in $000s, unless otherwise noted)

6 mo.3/07 6 mo.3/06

Cash fow rom operating activities:

Net income (loss) (6,183) (2,810)

Other operating activities, net 3,597 818

Net cash provided by (used in) operating activities (2,586) (1,992)

Cash fows rom investing activities:

Net cash provided by (used in) investing activities (83) (75)

Cash fows rom nancing activities:

Proceeds rom notes payable 6,435 1,245

Other nancing activities, net

Net cash provided by (used in) nancing activities 3,512 2,050

Net increase in cash & equivalents 843 (18)


Selected Risk Considerations

Te target market is highly competitive and the industry oers ew barriers to entry and lucrative compensation.

Many larger mortgage banks with greater nancial and marketing resources compete with MBI or loan business,and they may be able to undersell the Company with lower ees.

As interest rates have increased, so have deaults, especially on sub-prime mortgages, which have lucrative origina-tion and banking ees. Investor appetite or such debt may wane, raising interest rates out o reach o many bor-rowers and reducing the transaction volume or mortgage banks.

Congress has recently begun debating the imposition o new lending restrictions on the sub-prime market, whichmay slow mortgage transaction volume.

Tere is considerable uncertainty in the interest rate and housing environment, and unoreseen changes may hin-der the Companys plans.


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MBI remains unprotable and will require additional capital to execute its business plan. There is no assurance

that such capital will be available in favorable terms, if at all.

MBI stock is thinly traded, has exhibited price volatility, and is a penny stock subjecting broker-dealers to addi-tional sales practice and disclosure requirements. Te shares are appropriate only or risk-oriented investors.

Additional risks are outlined in the Companys investor materials and SEC lings, and these are hereby incorpo-rated by reerence.

Valuation

Te developmental stage o the Company is evidenced by its explosive growth in revenues and share issuances as new ac-quisitions are added and capital is raised. Te key to the undamental long-term value o the Company relies on manage-

ments ability to raise capital without excessive dilution, purchase quality mortgage operations at air prices, and minimizeintegration expenses. As the economic viability o MBIs business model is not yet demonstrated, investors are encour-aged to make an individual assessment o the highly accessible management team. For convenience, this report includesdetails o their experience in the mortgage industry along with their biographies and contact inormation. Te valuationexercises that ollow are o a speculative nature and or illustrative purposes only.

One methodology to value MBI is to compare it to other public mortgage banks, as shown in able II. Companies omuch greater size than MBI, grouped here under ier II, seem to be aorded a premium by the market relative to MBIand a comparably small, growing and as yet unprotable mortgage bank, ransnational Financial Network.

Table II: Valuations of Select Publicly Traded Mortgage Banks (gures in millions)

Tier Ticker Company Name Stock

Price

Market

Cap

Revenue Revenue

Multiple

1 Year Forward

Revenue

Estimate

1 Year Forward

Revenue

Multiple

I TFN Transnational Financial Network $0.32 $3.2 $12.6 0.25x NA NA

II DFC Delta Financial Corp. $11.93 $281 $512 0.55x $215 1.31x

II NFI Novastar Financial Corp. $8.80 $333 $578 0.58x $305 1.09x

II LEND Accredited Home Lenders $14.55 $368 $1,075 (E) 0.34x $127 2.90x

II DRL Doral Financial Corp. $1.86 $201 $866 0.23x $231 0.87x

Tier II Average $371.7 $299.9 0.43x $322.0 1.09x*

*Excluding LEND

ier II companies or which 2007 analyst revenue estimates are available are trading at an average o 1.09x orward rev-enue (Yahoo! Finance). No analyst orecasts are available or ransnational Financial Network. It trades at 0.25x trailing


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revenue, as opposed to 0.43x revenue or the ier II companies, a 42% discount. All o these multiples have come downdrastically as subprime lending stocks have been hit hard this spring as mortgage deaults have risen and housing pricesand turnover have declined.

o value the MBI stock at this early stage, historic multiples are o little use, since the Company has completed several

acquisitions in the past ew months. A more orward-looking approach might start with valuing the Companys revenues,which management stated would be approximately $22 million on an annualized basis (MBI press release, January 22,2007), although rst quarter revenues came in at only $3.4 million. Since MBI is much smaller than the ier II compa-nies above and is closer in size to FN, the Company should be assigned a similar discount to larger competitors. Assum-ing the same 42% discount to ier II companies also applies to managements estimate o $22 million in orward revenuesMBI might be assigned a multiple o 0.63x orward revenues or a present valuation o $14 million. Tis comes out toapproximately $0.90 per issued and outstanding share (5/11/07 common share count: 15,323,033), or approximately $0.40per ully-diluted share.

Another method o valuing the stock is on the basis o loan volume, which was reported as approximately $112 millionin the quarter ended March 31, 2007, or an annual rate o $448 million. Select recent acquisitions o mortgage banks(able XIII) have taken place at an average o 2.1% o loan volume. Using this metric, the value o MBIs loan volume

would have been approximately $9.4 million, approximately $0.60 per share or $0.20 per ully-diluted share.

Te above metrics are merely academic at this stage, because MBI will probably have to grow to a multiple o its currentsize beore major investment banks might be interested in considering it as an acquisition or institutions take note o thestock. However, the mathematics o MBIs roll-up strategy are compelling, as explained below.

Te Companys strategy will require additional capital, and management has expressed its preerence or equity issuanceover debt, as in the two sales o preerred stock and warrants in the amount o $1 million each announced on February 23and April 17, 2007. I management raises another $4 million or acquisitions and working capital, it seems likely that theully-diluted share count could soon reach 45 million or more due to nancing activities alone i equity is sold or $0.30per share on a ully-diluted basis.

According to management, MBI has been able to purchase mortgage originators or an average o approximately 40 centsper dollar o revenue, paying with a mix o 30% cash and 70% stock valued at $1.25 per share. Tis means that each $1million in newly acquired revenue has cost an average o $120,000 cash and 224,000 common shares. According to thisormula, i the Company uses $4 million o newly raised cash or acquisitions, this would buy approximately $33 million innew annualized revenue. MBI would also have to issue more than seven million shares in conjunction with those acquisi-tions i the terms remain similar.

Following this exercise through, ater spending $4 million on acquisitions, the Company would have approximately 52million ully-diluted shares outstanding and $55 million in annualized revenue. Applying a narrower 25% discount tolarger public mortgage bank valuations as a multiple o trailing revenue, MBI might approach a $20 million valuation atersuch growth.

In theory, the strategy o buying revenue at a discount and realizing its greater value as part o an integrated public mort-gage bank can be continued as long as management is able to contain costs and convince productive mortgage originatorso the benets o joining MBI. Additional supplies o cash will also be required, either rom operations or uture nanc-ings. Te Company has not yet returned a protable quarter, so it is dicult to estimate cash fows rom operations at thisstage. Management has so ar demonstrated solid capital raising abilities in this environment o less-than-ideal percep-tions o the investment merit o the mortgage industry. However, there is no guarantee that the Company will continue to


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be successul in these eorts.

Te Companys success will hinge largely upon managements ability to contain integration costs and continue to strikeavorable acquisition and nancing deals. Te turbulence in the housing and mortgage markets adds uncertainty to theinvestment prole. It is important to remember that a decline in housing prices is not necessarily threatening to MBI,

but a continuing decline in mortgage volume may hamper the business. A rising interest rate environment could generaterenancing business, but also could price some potential borrowers out o the market. Managements ability to navigatesuch changes will be an important determinant o the Companys success.

Executive Team and Directors

Patrick A. McGeeney, Chie Executive Ocer and Chairman. Mr. McGeeney has extensive experience in the real estateindustry growing companies rom concept into multi-state mortgage and real estate operations. Formerly, Mr. McGeeney

was CEO o Availent Financial, the parent company o Availent Mortgage, and as COO or Realtec Real Estate Corpora-tion. As a member o the special bank marketing division o Young and Rubicam, he developed targeted marketing andbranding programs aimed at reaching consumer audiences and is particularly savvy about selling to the Hispanic market. Agraduate o Southern Methodist University, he also attended graduate school at Our Lady o the Lake University. He sitson the Board o Directors o Home Solutions o America and serves on the Associate Board o the SMU Cox School oBusiness.

John M. Farkas, President, MBI Mortgage. Mr. Farkas has 25 years o mortgage banking experience and has spent 20years o his career in senior management positions at leading companies in the industry, including Household Bank, CrestSavings and Loans, Loan America Financial Corp., and First Home Mortgage. He also consults with small- and medium-sized mortgage brokerage companies, helping them transorm into ecient and protable businesses.

Greg Block, Executive Vice President, Operations. Mr. Block has 20 years o experience in operations, logistics, customer

service and process improvement. He served as the Chie Operating Ocer at Northland Funding Group, a mortgagebanker and broker in Austin, exas and has held senior management positions at Point One elecommunications, Century

el elecommunications, IPC echnologies, and Dell Computer where he developed the inrastructure and processes orthe creation o Dell Ware, the sotware and peripherals division o Dell Computer.

Bob Currier, CFO. Te Company hired Mr. Currier on February 1, 2007. He is a CPA with 35 years o experience andpreviously was CFO at a medical services company and has been responsible or nancial reporting at a public energycompany. His duties have included the development o nancial reporting systems and internal controls, capital raisingand budget preparation. His career began at Ernst & Ernst in Kansas City and he has worked with both very large com-panies and entrepreneurial ventures.

Keith Morgan, Director o Sales. Mr. Morgan began his career in the mortgage business as a loan ocer ater graduatingrom the University o exas at San Antonio in 1992. In 1998, he ounded Statewide Mortgage & Lending Rey Lermaand grew his company rom nothing to revenues o over $2.5 million/year. Statewide Mortgage & Lending was lateracquired by MBI Financial in March 2006.

Brett Faryniarz, Director o Sales. Mr. Faryniarz began his housing career in the builder division o Norwest Mortgage. InFebruary 2001, realizing a need to help sub-prime borrowers with better loan options, Faryniarz established New HorizonFinancial, Inc. He played in the NFL or eight seasons with various teams, including the LA Rams, SF 49ers, Houston


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Oilers and Carolina Panthers. Faryniarz graduated rom San Diego State University in Business Administration with anemphasis in Finance.

Rey Lerma, Director o Sales. Mr. Lerma has more than 13 years o leadership experience in the sales and managementarea. He ormed Statewide Mortgage and Lending in January o 1998 along with Keith Morgan. Ray ueled the growth

o Statewide Mortgage and Lending by developing and implementing direct mail campaigns that drive phone trac toeach o its oces, regardless o what is happening in the nancial markets. His ability to recognize and identiy nichemarkets has been a key actor in promoting the growth o Statewide Mortgage and Lending.

Seamus Donohoe, Director o Sales. Mr. Donohoe was the owner o Northland Funding, a mortgage brokerage rmacquired by MBI Mortgage in September o 2005. As a salesman and team leader, he was able to increase loan production

volume every year throughout the eight years in which he served the mortgage brokerage industry. In his rst year alone,he successully closed $10 million in production and later on groomed many loan ocers to be successul as well.

Larry D. Weisinger, Director o Sales. Mr. Weisinger was the owner o Northland Funding, a mortgage brokerage rmacquired by MBI Mortgage in September o 2005. He began his career as a loan ocer and quickly achieved recogni-tion as an eective sales leader throughout the course o his ten year career. He has distinguished himsel in training salesproessionals to become top producers.

Eric C. Conner, Vice President o Operations. Mr. Conner is a 14 year veteran o the mortgage banking industry. Priorto joining MBI Financial, he operated his own mortgage brokerage operation. He brings expertise in originating con-

ventional, conorming and non- conorming FHA and VA loans, as well as in marketing, account development and loanocer training. He attended Southwest exas State University, where he studied nance and marketing.

Address: 1845 Woodall Rodgers Freeway Suite 1225, Dallas, X 75201elephone: (214) 468-0000

Web site: www.mbinancial.com

Auditors: Killman, Murrell & Company, P.C.

State or other jurisdiction of incorporation or organization: Nevada

Investor contact: Al Palombo, Cameron Associates, 212-245-8800 Ext. 209


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Appendix: Overview o Mortgage Banking and Origination Market

Size and Growth. Te dollar volume or mortgage origination over the last twelve months (LM)1 was $2,651 billionwhich represents a 14.2% decrease over 2005. Te percentage o renancing activity relative to total mortgage originationhas decreased rom 50% to 46% on a 12 month run rate basis (see ables III-A and III-B). Tis corresponds to a general

market slowdown related to the recovery o mortgage interest rates rom historical lows (see able IV). In 2006, 30 yearxed rates increased 9.7% to 6.4%, concurrent with a 17.3% decline in new house sales, according to the Census Bureau(see able V).

Table III-A: 2005 Mortgage Origination Breakdown Table III-B: LTM Mortgage Origination Breakdown

Purchase Renance

Total Market Size: $3,027 Billion Total Market Size: $2,651 Billion

Source: Mortgage Bankers Association

Table IV: 30 Year Fixed Rate Mortgage (FRM) Interest Rates from 1990 - Present

Source: Mortgage Bankers Association (1/1/2001 - 2/1/2006), Mortgage-X (2/1/2006 - 2/1/2007).

1Mortgage Bankers Association Q405-Q306

50% 50% 54% 46%

10.000

9.000

8.000

7.000

6.000

5.000

12/01/90 08/11/93 04/21/96 12/31/98 09/11/01 05/22/04 01/31/07


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Table VI: Top Ten Players in the Mortgage Origination Industry and Loan Volume in Billions

Countrywide $220.0

Wells Fargo $206.6

Washington Mutual $105.3

Chase Home Finance $92.1

Citi Mortgage $84.1

Bank o America $80.8

GMAC-RFC $40.3

GMAC Residential $40.2

IndyMac $40.0

Wachovia $30.4

Sub-Prime Sector. Sub-prime mortgages are loans or individuals with less-than perect credit scores. According to theMortgage Bankers Association (MBA), this mortgage type accounted or 19% o all originations in the rst hal o 2006the latest period or which this data is available.

Sub-prime rst mortgage origination volume in dollar terms declined 30% in the rst hal o 2006 rom the second hal o2005, and second mortgage originations declined 14% over the same time period.

For the rst hal o 2006, 55% o sub-prime originations were or renance purposes, a decline o 5% over the second halo 2005. Sub-prime loans or home purchases declined 25% over the same time period whereas prime loans declined by 6percent.

In the sub-prime mortgage space, loans consist mostly o adjustable rate mortgages (ARMs). ARMs may be interestonly (IO) loans, which permit the borrower to make interest only payments or some portion o the loan term. IO loansmay be adjustable rate or xed-rate. In the rst hal o 2006, ARMs accounted or 67% o all sub-prime loan types, down7% rom the second hal o 2005 with 17% o these being IO ARMs.

Table VII-A: Second Half 2005 Sub-Prime Loan Types Table VII-B: First Half 2006 Sub-Prime Loan Types

Adjustable Rate (including IO ARMs) Fixed Rate (including IO) Fixed)

Source: Mortgage Bankers Association, Te Residential Mortgage Market and Its Economic Context in 2007.

74%

26%

67%

33%


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In terms o loan purpose, sub-prime mortgages are mostly an even split between cash-out renancing and purchase mort-gages. In the second hal o 2005, cash out renancing accounted or 53% o all sub-prime loans and declined to 41% inthe rst hal o 2006 (see able VIII).

Table VIII-A: Second Half 2005 Sub-Prime Loan Purposes Table VIII-A: First Half 2006 Sub-Prime Loan Purposes

Renance Cash Out Purchase

Renance: Rate/Term Renance: Other/Unknown


Over the past year, the rate o deault on sub-prime mortgages has increased rom 8.1% to 12.9%, according to FirstAmerican Loan Perormance which has led some banks to pull their credit lines rom sub-prime mortgage originationrms such as Ownit Mortgage and Sebring Capital. According to Standard & Poors Credit Market Services, in theourth quarter o 2006 sub-prime equity loans drove material increases in losses or Citigroup, JPMorgan and Wells Fargo.In addition, aster-than-expected deaults have caused lenders such as New Century to begin buying back a growing por-tion o its sub-prime loans.

Second-lien loans (piggyback loans) which are loans made above the rst mortgage to help buyers come up with thedown payment have been identied as particularly prone to deault and as many investors are no longer as eager to buy

these types o loans, lenders have begun to scale back on piggyback loans.

Mortgage Supply Chain. Consumers apply or a renancing or home purchase loan through a mortgage bank or througha mortgage broker, many o whom run their operations online and are supported by call centers. Mortgage brokers makea 1.0 - 2.0% ee on the loan size and are required to disclose this ee to the consumer prior to their application. I they areunded through a mortgage bank, the brokerage prot is the spread between the ee charged to the consumer and by themortgage bank. Te prot spread o a mortgage brokerage operation may be anywhere between 0.25% and 1.25%. Cur-rently, the average prot spread is approximately 0.50%.

Mortgage banks are non-depositary institutions, many o which opt not to service the loans they originate. Instead they

earn a service release premium and sell the loans to secondary market institutions such as the Federal National MortgageAssociation (Fannie Mae, NYSE: FNM), the Federal Home Loan Mortgage Corporation (Freddie Mac, NYSE:FRE), and the Government National Mortgage Association (Ginnie Mae). Fannie Mae and Freddie Mac prot in asimilar way to mortgage brokerage rms: rom the spread between the ee charged to the mortgage bank and paid or bythe investor.

41% 45%

7%

53%

0% 7%

40%

7%


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Consolidation Activity. Te 20% drop in interest rates between the years 2000 and 2003 spurred demand or renanceand purchase mortgages. ens o thousands o opportunistic small to medium-sized mortgage origination shops fourishedacross the country in order to capture the 1.5 to 2.0 percent ees that could be charged o a booming volume o mortgageand renancing loans as consumers responded to lower interest rates. Tis led to an environment o high ragmentationin the bottom rung o the vertical mortgage supply chain. Currently, more than 40,000 small to medium-sized mortgage

origination companies operate in the United States. Over the past year, declining mortgage volumes have led to an in-creased level o consolidating activity within the industry. Mortgage originators have begun to merge with one anotherand trim their pool o talent. In addition, mortgage banks and investment banks with no in-house or ineciently operat-ing brokerage operations have ound streamlined mortgage originators to be attractive targets to provide a steady supply oloans or resale.

Vertical Consolidation. able IX shows the most recent notable acquisitions o mortgage companies by investment banksTe average acquisition price has been 2.1% o loan volume among those rms or which data is available.

Table IX: Vertical Acquisition in Mortgage Supply Chain ($ in millions)

Date Acquirer Target Price Loan Volume Price as a % of

Loan Volume

2/12/2007 Bear Stearns ECC Capital $26 NA NA

2/6/2007 Fidelity National R.E. Go Apply NA NA NA

1/22/2007 Citigroup ABN AMRO Mortgage NA NA NA

1/19/2007 Barclays Equirst $225 $11,000 2.0%

1/3/2007 Deutsche Bank MortgagelT $430 $29,200 1.5%

9/5/2006 Merrill Lynch First Franklin $1,3001 $29,000 4.5%

8/9/2006 Morgan Stanley Saxon Capital $706 $26,000 2.7%

10/22/2004 Deutsche Bank Berkshire Mortgage NA $3,500 NA

7/17/2003 Royal Bank o Canada Sterling Capital Mortage $100 $4,500 2.2%

Selected Transaction Average 2.1%

1 Tis acquisition also included a mortgage servicing unit.

The Upper Echelon o the Mortgage Supply Chain: Mortgage Securities Market Overview

Securitization Process. Mortgage-backed securities (MBSs) are debt obligations that represent claims to cash fowsrom pools o mortgage loans. Tese are purchased rom banks, mortgage companies, and other originators and assembledinto pools by a governmental, quasi-governmental, or private entity. Te entity then issues securities that represent claimson the principal and interest payments made by borrowers on the loans in the pool. Tis process is known as securitiza-tion.


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Te Agencies. Te agencies aggregate mortgages into mortgage-backed securities. Most MBSs are issued by Ginnie Mae,a U.S. government agency, or Fannie Mae and Freddie Mac, U.S. government-sponsored enterprises. Ginnie Mae, backedby the ull aith and credit o the U.S. government, guarantees that investors receive timely payments. Fannie Mae andFreddie Mac also provide certain guarantees and, while not backed by the ull aith and credit o the U.S. government,have special authority to borrow rom the U.S. reasury. Some private institutions, such as brokerage rms, banks, and

home builders, also securitize mortgages. Fannie Mae is the largest o such agencies, ollowed by Freddie Mac and GinnieMae (see able X).

Table X: Agency Outstanding Debt as of 9/30/2006

GNMA FNMA FHLMC


Mortgage-Backed Securities Structures. Mortgage-backed securities exhibit a variety o structures. Te most basic types

are pass-through participation certicates, which entitle the holder to a pro-rata share o all principal and interest pay-ments made on the pool o loan assets. More complicated MBSs, known as collaterized mortgage obligations (CMOs)or mortgage derivatives are designed to protect investors rom or expose investors to various types o risk. An importantrisk with regard to residential mortgages involves prepayments, typically because homeowners renance when interestrates all. Absent protection, such prepayments would return principal to investors precisely when their options or rein-

vesting those unds may be relatively unattractive.

MBS Market Statistics and Current Environment. Te mortgage debt market is the largest bond market in the UnitedStates. Mortgage-related securities account or 24% o all outstanding debt in the U.S. bond market. Tis includes all issu-ances by GNMA, FNMA, FHLMC, CMOs and private-label MBSs/CMOs. By relative comparison, the corporate andtreasuries bond markets account or 19% and 16% o outstanding debt respectively (see able XI).

37%

11%

52%


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Table XI: Total Outstanding Debt Issuance as of 9/30/2006

Municipal Treasury Mortgage-Related Corporate

Federal Agency Money Markets Asset-Backed

Source: U.S. Department o reasury, Federal Reserve Systems, Federal Agencies, Tomson Financial, Bloomberg, SIFMA

Issuance o mortgage-related bonds increased sharply rom 2001 through 2003 as interest rates dropped. Since 2003 theissuance o mortgage-related bonds has decreased to pre-2001 levels concurrent with rising interest rates.

Table XII: Historical Debt Issuance by Bond Type

Municipal Treasury

Mortgage-Related Corporate Debt

Federal Agency Securities Asset-Backed

Source: U.S. Department o reasury, Federal Reserve Systems, Federal Agencies, Tomson Financial, Inside MBS & ABS, Bloomberg

* As o September 30, 2006

14%

9%8%

16%

19%

24%

10%

$3,500

$2,800

$2,100

$1,400

$700

$02001 2002 2003 2004 2005 2006*


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In a survey conducted by the Securities Industry and Financial Markets Association (SIFMA), despite the greaterhousing sector slowdown, the volume o mortgage-related securities, including agency and non-agency pass-through andCMOs are expected to decrease by only 2.5% in 2007. Agency mortgage-backed securities issuance is expected to decrease7.9% to $805 rom the $874 billion in 2006. CMOs are expected to rise 4.6%. In addition, should the 2006 trend hold

with regard to non-agency issuance, there will be greater strength in the prime than subprime products.

Table XIII: Mortgage-Related Debt Insurance

2006 2007 Change

Agency Pass-throughs $874 $805 (7.9%)

Agency CMO 237 285 4.4%

Non-Agency Jumbo MBS 408 405 (0.7%)

Non-Agency Non-Jumbo MBS 565 570 0.9%

Total $2,120 $2,065 (2.6%)

Source: U.S. Department o reasury, Federal Reserve Systems, Federal Agencies, Tomson Financial, Inside MBS & ABS, Bloomberg


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h k ll / h/MBIF/ P


Disclosures: Tis report was prepared by Te Research Works, LLC (RW). Eective January 17, 2007, in considerationor RWs equity research services relating to this Company, including this report, to be perormed through March 4, 2008,the Company agreed to pay RW a ee o $20,000. Tis report is based on RWs independent analysis and judgment. Tematerials upon which this report is based are believed to be reliable, but RW does not guarantee the inormations accuracyor completeness. Unless otherwise noted, any interpretations, earnings estimates, and conclusions contained in this report

are those o RW. Tis report is not intended to constitute a recommendation or any particular investor to purchase orsell any particular security or that any particular security is suitable or any particular investor. Tis report should not beconstrued as a recommendation or request to engage in any transaction, or an oer or solicitation o an oer to buy or sellany security or investment, and investors are advised to consult their personal broker or investment advisor beore makingany investment decision concerning any o the companies mentioned herein. Use o this report may be subject to appli-cable rules o any sel-regulatory organization o which you may be a member. Te inormation contained in this report issubject to change without notice, and RW assumes no responsibility to update the inormation contained in this report.Subject to certain restrictions posted in the Legal section o RWs web site (www.researchworksllc.com), RW and its a-liated entities and persons may purchase and hold positions in the securities o its clients, but they are prohibited romselling any securities o a RW client during the RW service period to such client.

Michael J. Ritger, who authored this report, has been an equity research analyst since 2003. He passed the Uniorm In-vestment Adviser Law Examination, Series 65, in August 2003, and he holds a BA (English) rom Bates College and aMasters degree rom the Yale School o Forestry and Environmental Studies. Mr. Ritger certies that the views expressedin this report are an accurate representation o his personal views about the Company and its publicly traded securities.

Te Private Securities Litigation Reorm Act o 1995 provides a sae harbor or orward-looking statements. In order tocomply with the terms o the sae harbor, RW notes that except or the description o historical acts contained herein, thisreport may contain certain orward-looking statements that involve risks and uncertainties as detailed herein and romtime to time in the Companys press releases and elsewhere. Such statements are based on RWs current expectations andare subject to a number o actors and uncertainties, which could cause actual results to dier materially rom those de-scribed in the orward-looking statements. Tese actors include those described in the Companys press releases and SEClings, all o which are hereby incorporated by reerence. No orward-looking statements are a guarantee o uture results

or events, and one should avoid placing undue reliance on such statements.

June 12, 2007 Michael J. Ritger

MBI Supp Update

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