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H&R Block (HRB)
H&R Block, Cerberus Axe $300m Deal for Mortgage Lender
H&R Block and Cerberus Capital Management, a private-equity firm, scrapped an earlier, $300m deal involving H&R Block's mortgage lending division, Option One Mortgage Corp. (OOMC). The deal originally had Cerberus taking over the troubled mortgage lending division, but tightening credit markets and uncertainty over the future of the economy made the deal less and less palatable. Cerberus also has significant stakes in both Aegis Mortgage and Residential Capital, both of which are subprime lenders either in bankruptcy or getting close to becoming insolvent. Now that the deal is dead, how will H&R Block cope with millions of dollars worth of bad debt on its books?
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H&R Block still has plans to let go of more than 600 employees at Option One, and has cut the division off from taking on additional mortgages. Most of the damage was done by mortgage investments in subprime loans. Option One indicated that it had billions of dollars worth of loans on its books. The billing and collections wing of OOMC is slated to be sold off.
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Shares have fallen by 15% in 2007, brought on mostly by the credit crisis and subprime woes. While the company did report that 2007 earnings will remain in-line with analyst estimates at $1.15-1.25/share, a more telling sign is that the company expects 2008 earnings to be $1.25-1.45/share, below the $1.47 originally expected. The company had to tap into credit lines several times in order to find short-term financing, borrowing a little $1.8bn out of the $2bn in available credit. In early November, CFO William Trubeck left as the fallout from the OOMC debacle increased, and CEO Mark Ernst stepped down November 20.
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How does H&R Block intend to deal with all of this debt? The same way that other financial institutions, such as Merrill Lynch (MER: Charts, News, Offers), have: write offs. The company indicated that it will only have to write off $125m, but some analysts looking at current market conditions wonder if that will be enough. The write off is a lesson in overexposure. H&R Block had been taking on much more debt than Freddie Mac and Fannie Mae, two government-related mortgage companies, had indicated was safe. In 2006 H&R Block tacked on $27.1bn in debt, though $2.4bn was what Fannie and Freddie suggested.
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