Attached files

file filename
EX-32.2 - EXHIBIT 32.2 - Cherry Hill Mortgage Investment Corpex32_2.htm
EX-32.1 - EXHIBIT 32.1 - Cherry Hill Mortgage Investment Corpex32_1.htm
EX-31.2 - EXHIBIT 31.2 - Cherry Hill Mortgage Investment Corpex31_2.htm
EX-31.1 - EXHIBIT 31.1 - Cherry Hill Mortgage Investment Corpex31_1.htm

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549



FORM 10-Q



(Mark One)

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended September 30, 2018

OR

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 001-36099



CHERRY HILL MORTGAGE INVESTMENT CORPORATION
(Exact name of registrant as specified in its charter)



N/A
(Former name, former address and former fiscal year, if changed since last report)

Maryland
 
46-1315605
(State or Other Jurisdiction of Incorporation or Organization)
 
(I.R.S. Employer Identification No.)

1451 Route 34, Suite 303
   
Farmingdale, New Jersey
 
07727
(Address of Principal Executive Offices)
 
(Zip Code)

(877) 870 – 7005
(Registrant’s Telephone Number, Including Area Code)



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  ☒   No  ☐

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files).   Yes  ☒  No  ☐

Indicate by check mark whether the registrant is a large accelerated filed, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.

Large accelerated filer
Accelerated filer
       
Non-accelerated filer
Smaller reporting company
       
Emerging growth company
   

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.          ☐

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes     No  ☒

As of November 6, 2018, there were 16,189,618 outstanding shares of common stock, $0.01 par value per share, of Cherry Hill Mortgage Investment Corporation.



CHERRY HILL MORTGAGE INVESTMENT CORPORATION

TABLE OF CONTENTS

   
Page
   
3
     
PART I.
5
     
Item 1.
5
     
 
5
     
 
6
     
 
7
     
 
8
     
 
9
     
 
10
     
Item 2.
44
     
Item 3.
66
     
Item 4.
71
   
PART II.
72
   
Item 1.
72
   
Item 1A.
72
     
Item 2.
72
     
Item 3.
72
     
Item 4.
72
     
Item 5.
72
     
Item 6.
72

FORWARD-LOOKING INFORMATION

Cherry Hill Mortgage Investment Corporation (together with its consolidated subsidiaries, the “Company,” “we,” “our” or “us”) makes forward-looking statements in this Quarterly Report on Form 10-Q within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. For these statements, the Company claims the protections of the safe harbor for forward-looking statements contained in such Sections. Forward-looking statements are subject to substantial risks and uncertainties, many of which are difficult to predict and are generally beyond the Company’s control. These forward-looking statements include information about possible or assumed future results of the Company’s business, financial condition, liquidity, results of operations, plans and objectives. When the Company uses the words “believe,” “expect,” “anticipate,” “estimate,” “plan,” “continue,” “intend,” “should,” “could,” “would,” “may,” “potential” or the negative of these terms or other comparable terminology, the Company intends to identify forward-looking statements. Statements regarding the following subjects, among others, may be forward-looking:


·
the Company’s investment objectives and business strategy;

·
the Company’s ability to raise capital through the sale of its equity and debt securities and to invest the net proceeds of any such offering in the target assets, if any, identified at the time of the offering;

·
the Company’s ability to obtain future financing arrangements and refinance existing financing arrangements as they mature;

·
the Company’s expected leverage;

·
the Company’s expected investments and the timing thereof;

·
the Company’s ability to acquire servicing-related assets and mortgage and real estate-related securities;

·
the Company’s ability to make future distributions to holders of the Company’s securities;

·
the Company’s ability to compete in the marketplace;

·
market, industry and economic trends;

·
recent market developments and actions taken and to be taken by the U.S. Government, the U.S. Treasury and the Board of Governors of the Federal Reserve System, the Federal National Mortgage Association, the Federal Home Loan Mortgage Corporation, the Government National Mortgage Association and the U.S. Securities and Exchange Commission (“SEC”);

·
mortgage loan modification programs and future legislative actions;

·
the Company’s ability to maintain its qualification as a real estate investment trust (“REIT”) under the Internal Revenue Code of 1986, as amended (the “Code”), and limitations on the Company’s business due to compliance with requirements for maintaining its qualification as a REIT under the Code;

·
the Company’s ability to maintain its exclusion from regulation as an investment company under the Investment Company Act of 1940, as amended (the “Investment Company Act”);

·
projected capital and operating expenditures;

·
availability of qualified personnel; and

·
projected prepayment and/or default rates.

The Company’s beliefs, assumptions and expectations can change as a result of many possible events or factors, not all of which are known to it or are within its control. If any such change occurs, the Company’s business, financial condition, liquidity and results of operations may vary materially from those expressed in, or implied by, the Company’s forward-looking statements. These risks, along with, among others, the following factors, could cause actual results to vary from the Company’s forward-looking statements:


·
the factors discussed under “Part I, Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations” in this Quarterly Report on Form 10-Q and “Part I, Item 1A. Risk Factors” in the Company’s Annual Report on Form 10-K for the year ended December 31, 2017;

·
general volatility of the capital markets;

·
changes in the Company’s investment objectives and business strategy;

·
availability, terms and deployment of capital;

·
availability of suitable investment opportunities;

·
the Company’s dependence on its external manager, Cherry Hill Mortgage Management, LLC (the “Manager”), and the Company’s ability to find a suitable replacement if the Company or the Manager were to terminate the management agreement the Company has entered into with the Manager;


·
changes in the Company’s assets or the general economy;

·
changes in rates of default and/or recovery rates on the Company’s investments;

·
changes in interest rates, interest rate spreads, the yield curve, prepayment rates or recapture rates;

·
limitations on the Company’s business due to compliance with requirements for maintaining its qualification as a REIT under the Code and its exclusion from regulation as an investment company under the Investment Company Act;

·
the degree and nature of the Company’s competition, including competition for the residential mortgage assets in which the Company invests; and

·
other risks associated with acquiring, investing in and managing residential mortgage assets.

Although the Company believes that the expectations reflected in the forward-looking statements are reasonable, it cannot guarantee future results, levels of activity, performance or achievements. These forward-looking statements apply only as of the date of this Quarterly Report on Form 10-Q. The Company is not obligated, and does not intend, to update or revise any forward-looking statements, whether as a result of new information, future events or otherwise.

PART I. FINANCIAL INFORMATION

Item 1.
Consolidated Financial Statements

Cherry Hill Mortgage Investment Corporation and Subsidiaries
Consolidated Balance Sheets
(in thousands — except share data)

     
(unaudited)
September 30, 2018
       
December 31, 2017
  
Assets
           
RMBS, available-for-sale (including pledged assets of $1,750,467 and $1,728,564, respectively)
 
$
1,838,973
   
$
1,840,912
 
Investments in Servicing Related Assets at fair value (including pledged assets of $281,963 and $122,806, respectively)
   
281,963
     
122,806
 
Cash and cash equivalents
   
21,388
     
27,327
 
Restricted cash
   
39,710
     
29,168
 
Derivative assets
   
31,431
     
13,830
 
Receivables and other assets
   
20,035
     
16,642
 
Total Assets
 
$
2,233,500
   
$
2,050,685
 
Liabilities and Stockholders’ Equity
               
Liabilities
               
Repurchase agreements
 
$
1,680,394
   
$
1,666,537
 
Derivative liabilities
   
396
     
344
 
Notes payable
   
129,346
     
39,025
 
Dividends payable
   
9,096
     
7,273
 
Due to affiliates
   
3,776
     
3,035
 
Accrued expenses and other liabilities
   
22,323
     
12,014
 
Total Liabilities
 
$
1,845,331
   
$
1,728,228
 
Stockholders’ Equity
               
Series A Preferred stock, $0.01 par value, 100,000,000 shares authorized and 2,671,782 shares issued and outstanding as of September 30, 2018 and 100,000,000 shares authorized and 2,400,000 shares issued and outstanding as of December 31, 2017, liquidation preference of $66,795 as of September 30, 2018 and liquidation preference of $60,000 as of December 31, 2017
 
$
64,510
   
$
57,917
 
Common stock, $0.01 par value, 500,000,000 shares authorized and 16,189,618 shares issued and outstanding as of September 30, 2018 and 500,000,000 shares authorized and 12,721,464 shares issued and outstanding as of December 31, 2017
   
162
     
127
 
Additional paid-in capital
   
289,981
     
229,642
 
Retained earnings
   
85,012
     
35,238
 
Accumulated other comprehensive income (loss)
   
(55,194
)
   
(2,942
)
Total Cherry Hill Mortgage Investment Corporation Stockholders’ Equity
 
$
384,471
   
$
319,982
 
Non-controlling interests in Operating Partnership
   
3,698
     
2,475
 
Total Stockholders’ Equity
 
$
388,169
   
$
322,457
 
Total Liabilities and Stockholders’ Equity
 
$
2,233,500
   
$
2,050,685
 

See accompanying notes to consolidated financial statements.

Cherry Hill Mortgage Investment Corporation and Subsidiaries
Consolidated Statements of Income
(Unaudited)
(in thousands — except share and per share data)

     
Three Months Ended September 30,
     
Nine Months Ended September 30,
 
2018
   
2017
2018
   
2017
 
Income
                       
Interest income
 
$
15,323
   
$
11,932
   
$
40,757
   
$
28,012
 
Interest expense
   
9,257
     
6,096
     
24,124
     
12,819
 
Net interest income
   
6,066
     
5,836
     
16,633
     
15,193
 
Servicing fee income
   
14,017
     
6,307
     
34,202
     
16,374
 
Servicing costs
   
2,981
     
1,626
     
7,087
     
3,844
 
Net servicing income
   
11,036
     
4,681
     
27,115
     
12,530
 
Other income (loss)
                               
Realized loss on RMBS, net
   
(428
)
   
(169
)
   
(5,430
)
   
(502
)
Realized gain on investments in Excess MSRs, net
   
-
     
-
     
-
     
6,678
 
Realized loss on derivatives, net
   
(707
)
   
(1,480
)
   
(2,727
)
   
(4,294
)
Unrealized gain (loss) on derivatives, net
   
8,807
     
1,684
     
34,442
     
(1,867
)
Unrealized gain (loss) on investments in MSRs
   
6,218
     
(2,334
)
   
18,351
     
5,471
 
Total Income
   
30,992
     
8,218
     
88,384
     
33,209
 
Expenses
                               
General and administrative expense
   
1,165
     
948
     
2,979
     
2,968
 
Management fee to affiliate
   
1,599
     
948
     
4,297
     
3,002
 
Total Expenses
   
2,764
     
1,896
     
7,276
     
5,970
 
Income Before Income Taxes
   
28,228
     
6,322
     
81,108
     
27,239
 
Provision for (Benefit from) corporate business taxes
   
729
     
(537
)
   
4,525
     
(542
)
Net Income
   
27,499
     
6,859
     
76,583
     
27,781
 
Net income allocated to noncontrolling interests in Operating Partnership
   
(364
)
   
(93
)
   
(993
)
   
(386
)
Dividends on preferred stock
   
1,372
     
593
     
3,902
     
593
 
Net Income Applicable to Common Stockholders
 
$
25,763
   
$
6,173
   
$
71,688
   
$
26,802
 
Net Income Per Share of Common Stock
                               
Basic
 
$
1.62
   
$
0.49
   
$
5.10
   
$
2.43
 
Diluted
 
$
1.62
   
$
0.49
   
$
5.09
   
$
2.43
 
Weighted Average Number of Shares of Common Stock Outstanding
                               
Basic
   
15,864,774
     
12,703,577
     
14,065,000
     
11,023,348
 
Diluted
   
15,873,030
     
12,711,776
     
14,073,256
     
11,030,401
 

See accompanying notes to consolidated financial statements.

Cherry Hill Mortgage Investment Corporation and Subsidiaries
Consolidated Statements of Comprehensive Income (Loss)
(Unaudited)
(in thousands)

       
Three Months Ended September 30,
     
Nine Months Ended September 30,
 
2018
   
2017
2018
   
2017
 
Net income
 
$
27,499
   
$
6,859
   
$
76,583
   
$
27,781
 
Other comprehensive income (loss):
                               
Net unrealized gain (loss) on RMBS
   
(13,656
)
   
3,405
     
(57,682
)
   
10,631
 
Reclassification of net realized gain on RMBS included in earnings
   
428
     
169
     
5,430
     
502
 
Other comprehensive income (loss)
   
(13,228
)
   
3,574
     
(52,252
)
   
11,133
 
Comprehensive income
 
$
14,271
   
$
10,433
   
$
24,331
   
$
38,914
 
Comprehensive income attributable to noncontrolling interests in Operating Partnership
   
187
     
142
     
316
     
541
 
Dividends on preferred stock
   
1,372
     
593
     
3,902
     
593
 
Comprehensive income attributable to common stockholders
 
$
12,712
   
$
9,698
   
$
20,113
   
$
37,780
 

See accompanying notes to consolidated financial statements.

Cherry Hill Mortgage Investment Corporation and Subsidiaries
Consolidated Statements of Changes in Stockholders’ Equity
(Unaudited)
(in thousands — except share data)

   
Common
Stock
Shares
   
Common
Stock
Amount
   
Preferred
Stock
Shares
   
Preferred
Stock
Amount
   
Additional
Paid-in
Capital
   
Accumulated
Other
Comprehensive
Income (Loss)
   
Retained
Earnings
(Deficit)
   
Non-
Controlling
Interest in
Operating
Partnership
   
Total
Stockholders’
Equity
 
Balance, December 31, 2016
   
7,525,348
   
$
75
     
-
   
$
-
   
$
148,457
   
$
(6,393
)
 
$
12,093
   
$
1,777
   
$
156,009
 
Issuance of common stock
   
5,196,116
     
52
     
-
     
-
     
81,126
     
-
     
-
     
-
     
81,178
 
Issuance of preferred stock
   
-
     
-
     
2,400,000
     
57,917
             
-
     
-
     
-
     
57,917
 
Conversion of OP units
   
-
     
-
     
-
     
-
     
-
     
-
     
-
     
(238
)
   
(238
)
Net Income before dividends on preferred stock
   
-
     
-
     
-
     
-
     
-
     
-
     
27,395
     
386
     
27,781
 
Other Comprehensive Income
   
-
     
-
     
-
     
-
     
-
     
11,133
     
-
     
-
     
11,133
 
LTIP-OP Unit awards
   
-
     
-
     
-
     
-
     
-
     
-
     
-
     
464
     
464
 
Distribution paid on LTIP-OP Units
   
-
     
-
     
-
     
-
     
-
     
-
     
-
     
(245
)
   
(245
)
Common dividends declared, $1.47 per share
   
-
     
-
     
-
     
-
     
-
     
-
     
(16,142
)
   
-
     
(16,142
)
Preferred dividends declared, $0.33 per share
   
-
     
-
     
-
     
-
     
-
     
-
     
(593
)
   
-
     
(593
)
Balance, September 30, 2017
   
12,721,464
   
$
127
     
2,400,000
   
$
57,917
   
$
229,583
   
$
4,740
   
$
22,753
   
$
2,144
   
$
317,264
 
                                                                         
Balance, December 31, 2017
   
12,721,464
   
$
127
     
2,400,000
   
$
57,917
   
$
229,642
   
$
(2,942
)
 
$
35,238
   
$
2,475
   
$
322,457
 
Issuance of common stock
   
3,468,154
     
35
     
-
     
-
     
60,339
     
-
     
-
     
-
     
60,374
 
Issuance of preferred stock
   
-
     
-
     
271,782
     
6,593
     
-
     
-
     
-
     
-
     
6,593
 
Net Income before dividends on preferred stock
   
-
     
-
     
-
     
-
     
-
     
-
     
75,590
     
993
     
76,583
 
Other Comprehensive Income
   
-
     
-
     
-
     
-
     
-
     
(52,252
)
   
-
     
-
     
(52,252
)
LTIP-OP Unit awards
   
-
     
-
     
-
     
-
     
-
     
-
     
-
     
494
     
494
 
Distribution paid on LTIP-OP Units
   
-
     
-
     
-
     
-
     
-
     
-
     
-
     
(264
)
   
(264
)
Common dividends declared, $1.47 per share
   
-
     
-
     
-
     
-
     
-
     
-
     
(21,914
)
   
-
     
(21,914
)
Preferred dividends declared, $1.5375 per share
   
-
     
-
     
-
     
-
     
-
     
-
     
(3,902
)
   
-
     
(3,902
)
Balance, September 30, 2018
   
16,189,618
   
$
162
     
2,671,782
   
$
64,510
   
$
289,981
   
$
(55,194
)
 
$
85,012
   
$
3,698
   
$
388,169
 

See accompanying notes to consolidated financial statements.

Cherry Hill Mortgage Investment Corporation and Subsidiaries
Consolidated Statements of Cash Flows
(Unaudited)
(in thousands)

   
Nine Months Ended September 30,
 
   
2018
   
2017
 
Cash Flows From Operating Activities
           
Net income
 
$
76,583
   
$
27,781
 
Adjustments to reconcile net income (loss) to net cash provided by (used in) operating activities:
               
Realized loss on RMBS, net
   
5,430
     
502
 
Change in fair value of investments in Servicing Related Assets
   
(18,351
)
   
(5,471
)
Realized gain on investments in Excess MSRs, net
   
-
     
(6,678
)
Realized loss on derivatives, net
   
2,727
     
4,294
 
Unrealized (gain) loss on derivatives, net
   
(34,442
)
   
1,867
 
Realized gain on dollar rolls, net
   
(865
)
   
-
 
Amortization of premiums on investment securities
   
10,906
     
5,928
 
Amortization of deferred financing costs
   
80
     
51
 
LTIP-OP Unit awards
   
494
     
464
 
Changes in:
               
Receivables and other assets
   
(3,393
)
   
(1,564
)
Due to affiliates
   
741
     
1,344
 
Payables for unsettled trades
   
-
     
(6,202
)
Accrued expenses and other liabilities
   
12,132
     
5,753
 
Net cash provided by (used in) operating activities
 
$
52,042
   
$
28,069
 
Cash Flows From Investing Activities
               
Purchase of RMBS
   
(396,216
)
   
(1,198,101
)
Principal paydown of RMBS
   
134,196
     
74,127
 
Proceeds from sale of RMBS
   
195,373
     
46,207
 
Proceeds from sale of Excess MSRs
   
-
     
35,905
 
Acquisition of MSRs
   
(140,806
)
   
(59,605
)
Purchase of derivatives
   
(2,873
)
   
(3,059
)
Sale of derivatives
   
(35
)
   
87
 
Net cash used in investing activities
 
$
(210,361
)
 
$
(1,104,439
)
Cash Flows From Financing Activities
               
Changes in restricted cash
   
(10,542
)
   
(5,487
)
Borrowings under repurchase agreements
   
5,174,557
     
3,130,017
 
Repayments of repurchase agreements
   
(5,160,697
)
   
(2,163,558
)
Proceeds from derivative financing
   
17,935
     
-
 
Proceeds from bank loans
   
91,744
     
21,949
 
Principal paydown of bank loans
   
(1,504
)
   
(10,353
)
Dividends paid
   
(25,816
)
   
(16,735
)
LTIP-OP Units distributions paid
   
(264
)
   
(245
)
Conversion of OP units
   
-
     
(238
)
Issuance of common stock, net of offering costs
   
60,374
     
81,178
 
Issuance of preferred stock, net of offering costs
   
6,593
     
57,917
 
Net cash provided by financing activities
 
$
152,380
   
$
1,094,445
 
Net Increase (Decrease) in Cash and Cash Equivalents
 
$
(5,939
)
 
$
18,075
 
Cash and Cash Equivalents, Beginning of Period
   
27,327
     
15,824
 
Cash and Cash Equivalents, End of Period
 
$
21,388
   
$
33,899
 
Supplemental Disclosure of Cash Flow Information
               
Cash paid during the period for interest expense
 
$
23,747
   
$
8,081
 
Dividends declared but not paid
 
$
9,096
   
$
6,827
 

See accompanying notes to consolidated financial statements.

Cherry Hill Mortgage Investment Corporation and Subsidiaries

Notes to Consolidated Financial Statements

September 30, 2018

(Unaudited)

Note 1 — Organization and Operations

Cherry Hill Mortgage Investment Corporation (together with its consolidated subsidiaries, the “Company”) was organized in the state of Maryland on October 31, 2012 to invest in residential mortgage assets in the United States. Under the Company’s charter, the Company is authorized to issue up to 500,000,000 shares of common stock and 100,000,000 shares of preferred stock, each with a par value of $0.01 per share.

The accompanying interim consolidated financial statements include the accounts of the Company’s subsidiaries, Cherry Hill Operating Partnership, LP (the “Operating Partnership”), Cherry Hill QRS I, LLC, Cherry Hill QRS II, LLC, Cherry Hill QRS III, LLC (“QRS III”), Cherry Hill QRS IV, LLC (“QRS IV”), Cherry Hill QRS V, LLC ("QRS V"), CHMI Solutions, Inc. (“CHMI Solutions”) and Aurora Financial Group, Inc. (“Aurora”).

On October 9, 2013, the Company completed an initial public offering (the “IPO”) and a concurrent private placement of its common stock. The Company did not conduct any activity prior to the IPO and the concurrent private placement. Substantially all of the net proceeds from the IPO and the concurrent private placement were used to invest in excess mortgage servicing rights on residential mortgage loans (“Excess MSRs”) and residential mortgage-backed securities (“RMBS” or “securities”). RMBS on which the payment of principal and interest is guaranteed by a U.S. government agency or a U.S. government sponsored enterprise are referred to as “Agency RMBS.”

On March 29, 2017, the Company issued and sold 5,175,000 shares of its common stock, par value $0.01 per share, raising approximately $81.1 million after underwriting discounts and commissions but before expenses of approximately $229,000. All of the net proceeds were invested in RMBS.

On August 17, 2017, the Company issued and sold 2,400,000 shares of its 8.20% Series A Cumulative Redeemable Preferred Stock, par value $0.01 per share (the “Series A Preferred Stock”), raising approximately $58.1 million after underwriting discounts and commissions but before expenses of approximately $193,000. All of the net proceeds from the Series A Preferred Stock offering were also invested in RMBS. The Company anticipates that a significant portion of the net proceeds received from paydowns of these RMBS will be deployed into the acquisition of mortgage servicing rights (“MSRs”). The Company may also sell certain of these RMBS and deploy the net proceeds from such sales to the extent necessary to fund the purchase price of MSRs.

On June 4, 2018, the Company issued and sold 2,750,000 shares of its common stock, par value $0.01 per share. The underwriters subsequently exercised their option to purchase an additional 338,857 shares for total proceeds of approximately $53.8 million after underwriting discounts and commissions but before expenses of approximately $265,000. All of the net proceeds were invested in RMBS.

The Company is party to a management agreement (the “Management Agreement”) with Cherry Hill Mortgage Management, LLC (the “Manager”), a Delaware limited liability company established by Mr. Stanley Middleman. The Manager is a party to a Services Agreement with Freedom Mortgage Corporation (“Freedom Mortgage”), which is owned and controlled by Mr. Middleman. The Manager is owned by a “blind trust” for the benefit of Mr. Middleman. For a further discussion of the Management Agreement, see Note 7.

The Company has elected to be taxed as a real estate investment trust (“REIT”), as defined under the Internal Revenue Code of 1986, as amended (the “Code”), commencing with its short taxable year ended December 31, 2013. As long as the Company continues to comply with a number of requirements under federal tax law and maintains its qualification as a REIT, the Company generally will not be subject to U.S. federal income taxes to the extent that the Company distributes its taxable income to its stockholders on an annual basis and does not engage in prohibited transactions. However, certain activities that the Company may perform may cause it to earn income that will not be qualifying income for REIT purposes.

Note 2 — Basis of Presentation and Significant Accounting Policies

Basis of Accounting

The accompanying interim consolidated financial statements are prepared in accordance with U.S. generally accepted accounting principles (“GAAP”) for interim financial information and pursuant to the requirements for reporting on Form 10-Q and Article 10 of Regulation S-X. The interim consolidated financial statements include the accounts of the Company and its consolidated subsidiaries. All significant intercompany transactions and balances have been eliminated. The Company consolidates those entities in which it has an investment of 50% or more and has control over significant operating, financial and investing decisions of the entity. The interim consolidated financial statements reflect all necessary and recurring adjustments for fair presentation of the results for the interim periods presented herein.

Emerging Growth Company Status

On April 5, 2012, the Jumpstart Our Business Startups Act (the “JOBS Act”) was signed into law. The JOBS Act contains provisions that, among other things, reduce certain reporting requirements for qualifying public companies. Because the Company qualifies as an “emerging growth company,” it may, under Section 7(a)(2)(B) of the Securities Act of 1933, as amended (the “Securities Act”), delay adoption of new or revised accounting standards applicable to public companies until such standards would otherwise apply to private companies. The Company has elected to take advantage of this extended transition period until the first to occur of the date that it (i) is no longer an “emerging growth company” or (ii) affirmatively and irrevocably opts out of this extended transition period. As a result, the consolidated interim financial statements may not be comparable to those of other public companies that comply with such new or revised accounting standards. Until the date that the Company is no longer an “emerging growth company” (expected to occur as of December 31, 2018) or affirmatively and irrevocably opts out of the extended transition period, upon issuance of a new or revised accounting standard that applies to the consolidated interim financial statements and that has a different effective date for public and private companies, the Company will disclose the date on which adoption is required for non-emerging growth public companies and the date on which it will adopt the new or revised accounting standard.

Use of Estimates

The preparation of financial statements in conformity with GAAP requires management to make a number of significant estimates and assumptions. These include estimates of: the fair value of Excess MSRs and MSRs (collectively, “Servicing Related Assets”); RMBS and derivatives; credit losses, including the period of time during which the Company anticipates an increase in the fair values of RMBS sufficient to recover unrealized losses on those RMBS; and other estimates that affect the reported amounts of certain assets, revenues, liabilities and expenses as of the date of, and for the periods covered by, the consolidated interim financial statements. It is likely that changes in these estimates will occur in the near term. The Company’s estimates are inherently subjective in nature. Actual results could differ from the Company’s estimates, and the differences may be material.

Risks and Uncertainties

In the normal course of business, the Company encounters primarily two significant types of economic risk: credit and market. Credit risk is the risk of default on the Company’s investments in RMBS, Servicing Related Assets and derivatives that results from a borrower’s or derivative counterparty’s inability or unwillingness to make contractually required payments. Market risk reflects changes in the value of investments in RMBS, Servicing Related Assets and derivatives due to changes in interest rates, spreads or other market factors, including prepayment speeds on the Company’s RMBS and Servicing Related Assets. The Company is subject to the risks involved with real estate and real estate-related debt instruments. These include, among others, the risks normally associated with changes in the general economic climate, changes in the mortgage market, changes in tax laws, interest rate levels, and the availability of financing.

The Company also is subject to certain risks relating to its status as a REIT for U.S. federal income tax purposes. If the Company were to fail to qualify as a REIT in any taxable year, the Company would be subject to U.S. federal income tax on its REIT income, which could be material. Unless entitled to relief under certain statutory provisions, the Company would also be disqualified from treatment as a REIT for the four taxable years following the year during which qualification is lost.

Investments in RMBS

Classification – The Company classifies its investments in RMBS as securities available for sale. Although the Company generally intends to hold most of its securities until maturity, it may, from time to time, sell any of its securities as part of its overall management of its portfolio. Securities available for sale are carried at fair value with the net unrealized gains or losses reported as a separate component of accumulated other comprehensive income (loss), to the extent impairment losses, if any, are considered temporary. Unrealized losses on securities are charged to earnings if they reflect a decline in value that is other-than-temporary, as described below.

Fair value is determined under the guidance of Accounting Standards Codification (“ASC”) 820, Fair Value Measurements and Disclosures (“ASC 820”). The Company determines fair value of its RMBS investments based upon prices obtained from third-party pricing providers. The third-party pricing providers use pricing models that generally incorporate such factors as coupons, primary and secondary mortgage rates, rate reset periods, issuer, prepayment speeds, credit enhancements and expected life of the security. Management’s judgment is used to arrive at the fair values of RMBS, taking into account prices obtained from third-party pricing providers and other applicable market data. The Company’s application of ASC 820 guidance is discussed in further detail in Note 9.

Investment securities transactions are recorded on the trade date. At disposition, the net realized gain or loss is determined on the basis of the cost of the specific investment and is included in earnings. All RMBS purchased and sold in the three month and nine month periods ended September 30, 2018 were settled prior to period-end. All RMBS purchased and sold in the year ended December 31, 2017 were settled prior to year-end.

Revenue Recognition Interest income from coupon payments is accrued based on the outstanding principal amount of the RMBS and their contractual terms. Premiums and discounts associated with the purchase of the RMBS are accreted into interest income over the projected lives of the securities using the effective interest method. The Company’s policy for estimating prepayment speeds for calculating the effective yield is to evaluate historical performance, consensus on prepayment speeds, and current market conditions. Adjustments are made for actual prepayment activity. Approximately $5.9 million and $5.7 million in interest income was receivable at September 30, 2018 and December 31, 2017, respectively, and has been classified within “Receivables and other assets” on the consolidated balance sheets. For further discussion of Receivables and other assets, see Note 13.

Impairment The Company evaluates its RMBS on a quarterly basis to assess whether a decline in the fair value below the amortized cost basis is an other-than-temporary impairment (“OTTI”). The presence of OTTI is based upon a fair value decline below a security’s amortized cost basis and a corresponding adverse change in expected cash flows due to credit related factors as well as non-credit factors, such as changes in interest rates and market spreads. Impairment is considered other-than-temporary if the Company (i) intends to sell the security, (ii) will more likely than not be required to sell the security before recovering its cost basis, or (iii) does not expect to recover the security’s entire amortized cost basis, even if the Company does not intend to sell the security, or the Company believes it is more likely than not that it will be required to sell the security before recovering its cost basis. Under these scenarios, the impairment is other-than-temporary and the full amount of impairment is recognized currently in earnings and the cost basis of the security is adjusted. However, if the Company does not intend to sell the impaired security and it is more likely than not that it will not be required to sell before recovery, the OTTI is separated into (i) the estimated amount relating to credit loss, or the credit component, and (ii) the amount relating to all other factors, or the non-credit component. Only the estimated credit loss amount is recognized currently in earnings, with the remainder of the loss recognized in accumulated other comprehensive income (loss). The difference between the new amortized cost basis and the cash flows expected to be collected is accreted into interest income in accordance with the effective interest method. The Company did not record any OTTI charges during the three month period ended September 30, 2018. The Company recorded approximately $45,000 of OTTI charges during the nine month period ended September 30, 2018. The Company did not record any OTTI charges during the three month period ended September 30, 2017. The Company recorded approximately $77,000 of OTTI charges during the nine month period ended September 30, 2017. OTTI has been classified within “Realized loss on RMBS, net” on the consolidated statements of income.

Investments in Excess MSRs

As a result of the Company’s sale of its remaining Excess MSRs in February 2017, there were no Excess MSRs at September 30, 2018 or December 31, 2017.

Classification – The Company had elected the fair value option to record its investments in Excess MSRs in order to provide users of the consolidated interim financial statements with better information regarding the effects of prepayment risk and other market factors on the Excess MSRs. Under this election, the Company recorded a valuation adjustment on its investments in Excess MSRs on a quarterly basis to recognize the changes in fair value of its Excess MSRs in net income as described below. In determining the valuation of Excess MSRs in accordance with ASC 820, management used internally developed models that were primarily based on observable market-based inputs but which also included unobservable market data inputs. The Company’s application of ASC 820 guidance is discussed in further detail in Note 9.

Revenue Recognition – Investments in Excess MSRs were aggregated into pools, and each pool of Excess MSRs was accounted for in the aggregate. Interest income for Excess MSRs was accreted into interest income on an effective yield or “interest” method, based upon the expected excess mortgage servicing amount over the expected life of the underlying mortgages. Changes to expected cash flows resulted in a cumulative retrospective adjustment, which was recorded in the period in which the change in expected cash flows occurred. Under the retrospective method, the interest income recognized for a reporting period is measured as the difference between the amortized cost basis at the end of the period and the amortized cost basis at the beginning of the period, plus any cash received during the period. The amortized cost basis was calculated as the present value of estimated future cash flows using an effective yield, which was the yield that equated all past actual and estimated future cash flows to the initial investment. The difference between the fair value of Excess MSRs and their amortized cost basis was recorded on the consolidated statements of income (loss) as “Unrealized gain (loss) on investments in Excess MSRs.” Fair value was generally determined by discounting the expected future cash flows using discount rates that incorporated the market risks and liquidity premium specific to the Excess MSRs and, therefore, may have differed from their effective yields. The sale of investments in Excess MSRs was recognized upon the settlement date. There was no Excess MSR cash flow receivable at September 30, 2018 or December 31, 2017.

In connection with the sale of its Excess MSRs, the Company elected a settlement date accounting policy to account for the gain on sale from that transaction. For a further discussion of the Company’s sale of its Excess MSRs, see Note 7.

Investments in MSRs

Classification – The Company’s MSRs represent the contractual right to service mortgage loans. The Company has elected the fair value option to record its investments in MSRs in order to provide users of the consolidated interim financial statements with better information regarding the effects of prepayment risk and other market factors on the MSRs. Under this election, the Company records a valuation adjustment on its investments in MSRs on a quarterly basis to recognize the changes in fair value of its MSRs in net income as described below. Although transactions in MSRs are observable in the marketplace, the valuation includes unobservable market data inputs (prepayment speeds, delinquency levels, costs to service and discount rates). Changes in the fair value of MSRs as well as servicing fee income and servicing expenses are reported on the consolidated statements of income. In determining the valuation of MSRs in accordance with ASC 820, management uses internally developed models that are primarily based on observable market-based inputs but which also include unobservable market data inputs. The Company’s application of ASC 820 guidance is discussed in further detail in Note 9. For reporting purposes, conventional conforming loans are aggregated into one category and government conforming loans are aggregated into a separate category.

Revenue Recognition – Mortgage servicing fee income represents revenue earned for servicing mortgage loans. The servicing fees are based on a contractual percentage of the outstanding principal balance and are recognized as revenue as the related mortgage payments are collected. Corresponding costs to service are charged to expense as incurred. As an owner and manager of MSRs, the Company may be obligated to fund advances of principal and interest payments due to third-party owners of the loans, but not yet received from the individual borrowers. These advances are reported as servicing advances within the “Receivables and other assets” line item on the consolidated balance sheets. Approximately $5.6 million and $5.9 million in reimbursable servicing advances were receivable at September 30, 2018 and December 31, 2017, respectively, and have been classified within “Receivables and other assets” on the consolidated balance sheets. Although advances on Federal National Mortgage Association (“Fannie Mae”) and Federal Home Loan Mortgage Corporation (“Freddie Mac”) MSRs made in accordance with the relevant guidelines are generally recoverable, the recoverability of similar advances made on Government National Mortgage Association (“Ginnie Mae”) MSRs may be limited under the rules and regulations of the U.S. Department of Housing and Urban Development, the Department of Veterans Affairs (the “VA”) and the Federal Housing Administration (“FHA”). The Company expects to recover advances on its Fannie Mae and Freddie Mac MSRs. In addition, unrecoverable losses on the loans underlying the Ginnie Mae MSRs have not been significant to date. As a result, the Company has determined that no reserves for unrecoverable advances for the related underlying loans are necessary at September 30, 2018 and December 31, 2017. For further discussion on the Company’s receivables and other assets, including the Company’s servicing advances, see Note 13.

Servicing fee income received and servicing expenses incurred are reported on the consolidated statements of income. The difference between the fair value of MSRs and their amortized cost basis is recorded on the consolidated statements of income as “Unrealized gain (loss) on investments in MSRs.” Fair value is generally determined by discounting the expected future cash flows using discount rates that incorporate the market risks and liquidity premium specific to the MSRs and, therefore, may differ from their effective yields.

As a result of the Company’s investments in MSRs, it is obligated from time to time to repurchase an underlying loan from the applicable agency for which it is being serviced due to an alleged breach of a representation or warranty. Loans acquired in this manner are recorded at the purchase price less any principal recoveries and are then offered for sale in the scratch and dent market.

Derivatives and Hedging Activities

Derivative transactions include swaps, swaptions, Treasury futures and “to-be-announced” securities (“TBAs”). Swaps and swaptions are entered into by the Company solely for interest rate risk management purposes. TBAs and Treasury futures are used for duration risk and basis risk management purposes. The decision as to whether or not a given transaction/position (or portion thereof) is economically hedged is made on a case-by-case basis, based on the risks involved and other factors as determined by senior management, including restrictions imposed by the Code on REITs. In determining whether to economically hedge a risk, the Company may consider whether other assets, liabilities, firm commitments and anticipated transactions already offset or reduce the risk. All transactions undertaken as economic hedges are entered into with a view towards minimizing the potential for economic losses that could be incurred by the Company. Generally, derivatives entered into are not intended to qualify as hedges under GAAP, unless specifically stated otherwise.

The Company’s bi-lateral derivative financial instruments contain credit risk to the extent that its bank counterparties may be unable to meet the terms of the agreements. The Company reduces such risk by limiting its exposure to any one counterparty. In addition, the potential risk of loss with any one party resulting from this type of credit risk is monitored. The Company’s interest rate swaps are required to be cleared on an exchange, which further mitigates, but does not eliminate, credit risk. Management does not expect any material losses as a result of default by other parties to its derivative financial instruments.

Classification – All derivatives are recognized as either assets or liabilities on the consolidated balance sheets and measured at fair value. Due to the nature of these instruments, they may be in a receivable/asset position or a payable/liability position at the end of an accounting period. Derivative amounts payable to, and receivable from, the same party under a contract may be offset as long as the following conditions are met: (i) each of the two parties owes the other determinable amounts; (ii) the reporting party has the right to offset the amount owed with the amount owed by the other party; (iii) the reporting party intends to offset; and (iv) the right to offset is enforceable by law. The Company reports the fair value of derivative instruments gross of cash paid or received pursuant to credit support agreements, and fair value may be reflected on a net counterparty basis when the Company believes a legal right of offset exists under an enforceable master netting agreement. For further discussion on offsetting assets and liabilities, see Note 8.

Revenue Recognition – With respect to derivatives that have not been designated as hedges, any payments under, or fluctuations in the fair value of, such derivatives have been recognized currently in “Realized and unrealized gains (losses) on derivatives, net” in the consolidated statements of income.

Cash and Cash Equivalents and Restricted Cash

The Company considers all highly liquid short-term investments with maturities of 90 days or less when purchased to be cash equivalents. Substantially all amounts on deposit with major financial institutions exceed insured limits. Restricted cash represents the Company’s cash held by counterparties (i) as collateral against the Company’s derivatives ($2.1 million and $549,000 at September 30, 2018 and December 31, 2017, respectively) and (ii) as collateral for borrowings under its repurchase agreements (approximately $37.6 million and $28.6 million at September 30, 2018 and December 31, 2017, respectively).

The Company’s centrally cleared interest rate swaps require that the Company posts an “initial margin” amount determined by the clearing exchange, which is generally intended to be set at a level sufficient to protect the exchange from the interest rate swap’s maximum estimated single-day price movement. The Company also exchanges “variation margin” based upon daily changes in fair value, as measured by the exchange. As a result of amendments to rules governing certain central clearing activities, the exchange of variation margin is a settlement of the interest rate swap, as opposed to pledged collateral. Accordingly, beginning in the first quarter of 2018 and in subsequent periods, the Company will account for the receipt or payment of variation margin as a direct reduction to the carrying value of the interest rate swap asset or liability. At September 30, 2018, $17.9 million of variation margin was reported as a reduction to interest rate swaps, at fair value. As of December 31, 2017, variation margin pledged or received is netted on a counterparty basis and classified within restricted cash, due from counterparties, or due to counterparties on the Company’s consolidated balance sheets.

Due to Affiliates

The sum under “Due to affiliates” on the consolidated balance sheets represents amounts due to the Manager pursuant to the Management Agreement. For further information on the Management Agreement, see Note 7.

Income Taxes

The Company elected to be taxed as a REIT under Code Sections 856 through 860 beginning with its short taxable year ended December 31, 2013. As a REIT, the Company generally will not be subject to U.S. federal income tax to the extent that it distributes its taxable income to its stockholders and does not engage in prohibited transactions. The Company’s taxable REIT subsidiary (“TRS”), CHMI Solutions, and its wholly-owned subsidiary, Aurora, are subject to U.S. federal income taxes on its taxable income. To maintain qualification as a REIT, the Company must distribute at least 90% of its annual REIT taxable income to its stockholders and meet certain other requirements such as assets it may hold, income it may generate and its stockholder composition.

The Company accounts for income taxes in accordance with ASC 740, Income Taxes. ASC 740 requires the recording of deferred income taxes that reflect the net tax effect of temporary differences between the carrying amounts of the Company’s assets and liabilities for financial reporting purposes and the amounts used for income tax purposes, including operating loss carry forwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect of a change in tax rates on deferred tax assets and liabilities is recognized in earnings in the period that includes the enactment date. The Company assesses its tax positions for all open tax years and determines if it has any material unrecognized liabilities in accordance with ASC 740. The Company records these liabilities to the extent it deems them more-likely-than-not to be incurred. The Company records interest and penalties related to income taxes within the provision for income taxes in the consolidated statements of income. The Company has not incurred any interest or penalties.

Realized Gain (Loss) on Investments, Net

The following table presents gains and losses on sales of the specified categories of investments for the periods indicated (dollars in thousands):

   
Three Months Ended September 30,
   
Nine Months Ended September 30,
 
   
2018
   
2017
   
2018
   
2017
 
Realized gain (loss) on RMBS, net
                       
Gain on RMBS
 
$
-
   
$
213
   
$
104
   
$
213
 
Loss on RMBS
   
(428
)
   
(382
)
   
(5,534
)
   
(715
)
Net realized loss on RMBS
   
(428
)
   
(169
)
   
(5,430
)
   
(502
)
Realized loss on derivatives, net
   
(707
)
   
(1,480
)
   
(2,727
)
   
(4,294
)
Unrealized gain (loss) on derivatives, net
   
8,807
     
1,684
     
34,442
     
(1,867
)
Realized gain on Excess MSRs, net
   
-
     
-
     
-
     
6,678
 
Unrealized gain (loss) on MSRs, net
   
6,218
     
(2,334
)
   
18,351
     
5,471
 
Total
 
$
13,890
   
$
(2,299
)
 
$
44,636
   
$
5,486
 

Repurchase Agreements and Interest Expense

The Company finances its investments in RMBS with short-term borrowings under master repurchase agreements. Borrowings under the repurchase agreements are generally short-term debt due within one year. These borrowings generally bear interest rates of a specified margin over one-month LIBOR. The repurchase agreements represent uncommitted financing. Borrowings under these agreements are treated as collateralized financing transactions and are carried at their contractual amounts, as specified in the respective agreements. Interest is recorded at the contractual amount on an accrual basis.

Dividends Payable

Because the Company is organized as a REIT under the Code, it is required by law to distribute annually at least 90% of its REIT taxable income, which it does in the form of quarterly dividend payments. The Company accrues the dividend payable on the accounting date, which causes an offsetting reduction in retained earnings.

Comprehensive Income

Comprehensive income is defined as the change in equity of a business enterprise during a period resulting from transactions and other events and circumstances, excluding those resulting from investments by and distributions to owners. For the Company’s purposes, comprehensive income represents net income, as presented in the consolidated statements of income, adjusted for unrealized gains or losses on RMBS, which are designated as available for sale.

Recent Accounting Pronouncements

Leases - In February 2016, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2016-02, which requires lessees to recognize on their balance sheets both a lease liability for the obligation to make lease payments and a right-of-use asset for the right to use the underlying asset for the lease term. The ASU is effective for annual periods, and interim periods within those annual periods, beginning on or after December 15, 2018, with early adoption permitted. The Company has determined this ASU will not have a material impact on the Company's financial condition, results of operations or financial statement disclosures.

Revenue Recognition – In May 2014, the FASB issued ASU 2014-09, Revenue from Contracts with Customers (“ASU 2014-09”), which supersedes the revenue recognition requirements in ASC 605, Revenue Recognition, and most industry-specific guidance throughout the Industry Topics of the Codification. Under the new revenue recognition guidance, entities are required to identify the contract with a customer, identify the performance obligations in the contract, determine the transaction price, allocate the transaction price to the performance obligations in the contract and recognize revenue when (or as) the entity satisfies a performance obligation. In April 2015, the FASB voted for a one-year deferral of the effective date, resulting in this new guidance being effective for annual reporting periods, and interim periods within those annual periods, beginning after December 15, 2017. Adoption of this guidance is delayed until the first SEC filing after the Company loses its emerging growth company status, which is expected to be December 31, 2018. Subsequent to the initial issuance, the FASB has continued to issue updates to this guidance to provide additional clarification and implementation instructions to issuers regarding (i) principal versus agent considerations, (ii) identifying performance obligations, (iii) licensing, and (iv) narrow-scope improvements and practical expedients relating to assessing collectability, presentation of sales taxes, non-cash consideration, and completed contracts and contract modifications at transition. Entities have the option of using either a full retrospective or a modified approach to adopt the guidance in ASU 2014-09. The Company evaluated the new guidance and determined that interest income, gains and losses on financial instruments and income from servicing residential mortgage loans are outside the scope of ASU 2014-09. For income from servicing residential mortgage loans, the Company considered that the FASB Transition Resource Group members generally agreed that an entity should look to ASC 860, Transfers and Servicing (“ASC 860”), to determine the appropriate accounting for these fees and ASU 2014-09 contains a scope exception for contracts that fall under ASC 860. As a result, the Company does not expect the adoption of ASU 2014-09 to have a material impact on its consolidated financial statements.

Credit Losses − In June 2016, the FASB issued ASU 2016-13, Financial Instruments—Credit Losses, an accounting standards update that changes the impairment model for most financial assets and certain other instruments. Allowances for credit losses on Available-for-Sale debt securities will be recognized, rather than direct reductions in the amortized cost of the investments. The new model also requires the estimation of lifetime expected credit losses and corresponding recognition of allowance for losses on trade and other receivables, held-to-maturity debt securities, loans, and other instruments held at amortized cost. This guidance requires certain recurring disclosures and is effective for annual periods, and interim periods within those annual periods, beginning after December 15, 2019, with early adoption permitted for annual periods, and interim periods within those annual periods, beginning after December 15, 2018. The Company is evaluating the adoption of this ASU.

Statement of Cash Flows − In August 2016, the FASB issued ASU 2016-15, Classification of Certain Cash Receipts and Cash Payments, an accounting standards update that amends the guidance on the classification of certain cash receipts and cash payments presented within the statement of cash flows to reduce the existing diversity in practice. This guidance is effective for annual reporting periods, and interim periods within those annual periods, beginning after December 15, 2017, with early adoption permitted. Adoption of this guidance is delayed until the first SEC filing after the Company loses its emerging growth company status, which is expected to be December 31, 2018. The Company is currently evaluating the effect that this guidance will have on its consolidated financial statements.

Income Taxes − In October 2016, the FASB issued ASU 2016-16, Income Taxes, an accounting standards update that amends the guidance on the classification of income taxes related to the intra-entity transfer of assets other than inventory. This guidance is effective for annual reporting periods, and interim periods within those annual periods, beginning after December 15, 2017, with early adoption permitted. Adoption of this guidance is delayed until the first SEC filing after the Company loses its emerging growth company status, which is expected to be December 31, 2018. The Company is currently evaluating the effect that this guidance will have on its consolidated financial statements. However, the significance of adoption is dependent on the nature of the transactions and corresponding tax laws in effect at the time of adoption.

Restricted Cash − In November 2016, the FASB issued ASU 2016-18, Restricted Cash, an accounting standards update that amends the guidance on restricted cash within the statement of cash flows. The update amends the classification of restricted cash and cash equivalents to be included within cash and cash equivalents when reconciling the beginning-of-period and end-of-period total amounts. This guidance is effective for annual reporting periods, and interim periods within those annual periods, beginning after December 15, 2017, with early adoption permitted. Adoption of this guidance is delayed until the first SEC filing after the Company loses its emerging growth company status, which is expected to be December 31, 2018. The adoption will impact the presentation of the cash flows, but will not otherwise have a material impact on the consolidated results of operations or financial condition of the Company.

Fair Value Measurement - In August 2018, the FASB issued ASU 2018-13, Disclosure Framework - Changes to the Disclosure Requirements of Fair Value Measurement, an accounting standards update that amends the guidance on the disclosure requirements on fair value measurements in ASC 820. This guidance is effective for annual reporting periods, and interim periods within those annual periods, beginning after December 15, 2019, with early adoption permitted. The Company is currently evaluating the effect that this guidance will have on its consolidated financial statements.

Note 3 — Segment Reporting

The Company conducts its business through the following segments: (i) investments in RMBS; (ii) investments in Servicing Related Assets; and (iii) “All Other,” which consists primarily of general and administrative expenses, including fees paid to the Company’s directors and management fees and reimbursements paid to the Manager pursuant to the Management Agreement (See Note 7). For segment reporting purposes, the Company does not allocate interest income on short-term investments or general and administrative expenses.

Summary financial data with respect to the Company’s segments is given below, together with a reconciliation to the same data for the Company as a whole (dollars in thousands):

   
Servicing
Related Assets
   
RMBS
   
All Other
   
Total
 
Income Statement
                       
Three Months Ended September 30, 2018
                       
Interest income
 
$
-
   
$
15,323
   
$
-
   
$
15,323
 
Interest expense
   
629
     
8,626
     
2
     
9,257
 
Net interest income
   
(629
)
   
6,697
     
(2
)
   
6,066
 
Servicing fee income
   
14,017
     
-
     
-
     
14,017
 
Servicing costs
   
2,981
     
-
     
-
     
2,981
 
Net servicing income
   
11,036
     
-
     
-
     
11,036
 
Other income
   
6,218
     
7,672
     
-
     
13,890
 
Other operating expenses
   
-
     
-
     
2,764
     
2,764
 
(Benefit from) provision for corporate business taxes
   
729
     
-
     
-
     
729
 
Net income (loss)
 
$
15,896
   
$
14,369
   
$
(2,766
)
 
$
27,499
 
Three Months Ended September 30, 2017
                               
Interest income
 
$
-
   
$
11,932
   
$
-
   
$
11,932
 
Interest expense
   
185
     
5,911
     
-
     
6,096
 
Net interest income
   
(185
)
   
6,021
     
-
     
5,836
 
Servicing fee income
   
6,307
     
-
     
-
     
6,307
 
Servicing costs
   
1,626
     
-
     
-
     
1,626
 
Net servicing income
   
4,681
     
-
     
-
     
4,681
 
Other income
   
(2,334
)
   
35
     
-
     
(2,299
)
Other operating expenses
   
-
     
-
     
1,896
     
1,896
 
(Benefit from) provision for corporate business taxes
   
(537
)
   
-
     
-
     
(537
)
Net income (loss)
 
$
2,699
   
$
6,056
   
$
(1,896
)
 
$
6,859
 
Nine Months Ended September 30, 2018
                               
Interest income
 
$
-
     
40,757
   
$
-
   
$
40,757
 
Interest expense
   
1,266
     
22,856
     
2
     
24,124
 
Net interest income
   
(1,266
)
   
17,901
     
(2
)
   
16,633
 
Servicing fee income
   
34,202
     
-
     
-
     
34,202
 
Servicing costs
   
7,087
     
-
     
-
     
7,087
 
Net servicing income
   
27,115
     
-
     
-
     
27,115
 
Other income
   
18,351
     
26,285
     
-
     
44,636
 
Other operating expenses
   
-
     
-
     
7,276
     
7,276
 
(Benefit from) provision for corporate business taxes
   
4,525
     
-
     
-
     
4,525
 
Net income (loss)
 
$
39,675
   
$
44,186
   
$
(7,278
)
 
$
76,583
 
Nine Months Ended September 30, 2017
                               
Interest income
 
$
523
   
$
27,489
   
$
-
   
$
28,012
 
Interest expense
   
422
     
12,397
     
-
     
12,819
 
Net interest income
   
101
     
15,092
     
-
     
15,193
 
Servicing fee income
   
16,374
     
-
     
-
     
16,374
 
Servicing costs
   
3,844
     
-
     
-
     
3,844
 
Net servicing income
   
12,530
     
-
     
-
     
12,530
 
Other income
   
12,149
     
(6,663
)
   
-
     
5,486
 
Other operating expenses
   
-
     
-
     
5,970
     
5,970
 
(Benefit from) provision for corporate business taxes
   
(542
)
   
-
     
-
     
(542
)
Net income (loss)
 
$
25,322
   
$
8,429
   
$
(5,970
)
 
$
27,781
 

Balance Sheet
                       
September 30, 2018
                       
Investments
 
$
281,963
   
$
1,838,973
   
$
-
   
$
2,120,936
 
Other assets
   
14,055
     
77,078
     
21,431
     
112,564
 
Total assets
   
296,018
     
1,916,051
     
21,431
     
2,233,500
 
Debt
   
129,346
     
1,680,394
     
-
     
1,809,740
 
Other liabilities
   
14,951
     
5,978
     
14,662
     
35,591
 
Total liabilities
   
144,297
     
1,686,372
     
14,662
     
1,845,331
 
Book value
 
$
151,721
   
$
229,679
   
$
6,769
   
$
388,169
 

December 31, 2017
                       
Investments
 
$
122,806
   
$
1,840,912
   
$
-
   
$
1,963,718
 
Other assets
   
8,281
     
48,631
     
30,055
     
86,967
 
Total assets
   
131,087
     
1,889,543
     
30,055
     
2,050,685
 
Debt
   
39,025
     
1,666,537
     
-
     
1,705,562
 
Other liabilities
   
6,575
     
4,385
     
11,706
     
22,666
 
Total liabilities
   
45,600
     
1,670,922
     
11,706
     
1,728,228
 
Book value
 
$
85,487
   
$
218,621
   
$
18,349
   
$
322,457
 

Note 4 — Investments in RMBS

All of the Company’s RMBS are classified as available for sale and are, therefore, reported at fair value with changes in fair value recorded in other comprehensive income (loss) except for securities that are OTTI (dollars in thousands):

Summary of RMBS Assets

As of September 30, 2018

Asset Type
  
Original
Face
Value
     
Book
Value
     
Gross Unrealized
   
Carrying
Value(A)
     
Number
of
Securities
  
Weighted Average
 
Gains
   
Losses
   
Rating
 
Coupon
   
Yield(C)
   
Maturity
(Years)(D)
 
RMBS
                                                       
Fannie Mae
 
$
1,430,611
   
$
1,285,060
   
$
30
   
$
(44,600
)
 
$
1,240,490
     
162
 
(B)
   
3.85
%
   
3.69
%
   
25
 
Freddie Mac
   
566,251
     
493,798
     
-
     
(18,380
)
   
475,418
     
65
 
(B)
   
3.74
%
   
3.59
%
   
27
 
CMOs
   
115,879
     
114,618
     
8,471
     
(24
)
   
123,065
     
26
 
(B)
   
5.74
%
   
5.40
%
   
13
 
Total/Weighted Average
 
$
2,112,741
   
$
1,893,476
   
$
8,501
   
$
(63,004
)
 
$
1,838,973
     
253
       
3.94
%
   
3.77
%
   
25
 

As of December 31, 2017

Asset Type
  
Original
Face
Value
     
Book
Value
     
Gross Unrealized
     
Carrying
Value(A)
     
Number
of
Securities
  
Weighted Average
 
Gains
   
Losses
Rating
 
Coupon
   
Yield(C)
   
Maturity
(Years)(D)
 
RMBS
                                   
 
                 
Fannie Mae
 
$
1,306,823
   
$
1,241,027
   
$
1,427
   
$
(8,755
)
 
$
1,233,699
     
154
 
(B)
   
3.80
%
   
3.61
%
   
26
 
Freddie Mac
   
556,204
     
515,475
     
864
     
(2,795
)
   
513,544
     
64
 
(B)
   
3.74
%
   
3.57
%
   
27
 
CMOs
   
98,325
     
87,353
     
6,343
     
(27
)
   
93,669
     
20
 
(B)
   
5.26
%
   
4.88
%
   
12
 
Total/Weighted Average
 
$
1,961,352
   
$
1,843,855
   
$
8,634
   
$
(11,577
)
 
$
1,840,912
     
238
 
 
   
3.86
%
   
3.66
%
   
25
 


(A)
See Note 9 regarding the estimation of fair value, which approximates carrying value for all securities.
(B)
The Company used an implied AAA rating for the Agency RMBS. Collateralized mortgage obligations (“CMOs”) issued by Fannie Mae or Freddie Mac consist of loss share securities, the majority of which, by unpaid principal balance (“UPB”), are unrated or rated below investment grade at September 30, 2018 by at least one nationally recognized statistical rating organization (“NRSRO”). Private label securities are rated investment grade or better by at least one NRSRO as of September 30, 2018.
(C)
The weighted average yield is based on the most recent annualized monthly interest income, divided by the book value of settled securities.
(D)
The weighted average maturity is based on the timing of expected principal reduction on the assets.

Summary of RMBS Assets by Maturity

As of September 30, 2018

Years to Maturity
  
Original
Face
Value
     
Book
Value
     
Gross Unrealized
     
Carrying
Value(A)
     
Number
of
Securities
  
Weighted Average
 
Gains
   
Losses
Rating
 
Coupon
   
Yield(C)
   
Maturity
(Years)(D)
 
5-10 Years
 
$
20,620
   
$
12,679
   
$
287
   
$
(136
)
 
$
12,830
     
6
 
(B)
   
4.17
%
   
4.10
%
   
8
 
Over 10 Years
   
2,092,121
     
1,880,797
     
8,214
     
(62,868
)
   
1,826,143
     
247
 
(B)
   
3.94
%
   
3.76
%
   
25
 
Total/Weighted Average
 
$
2,112,741
   
$
1,893,476
   
$
8,501
   
$
(63,004
)
 
$
1,838,973
     
253
 
 
   
3.94
%
   
3.77
%
   
25
 

As of December 31, 2017

Years to Maturity
  
Original
Face
Value
     
Book
Value
     
Gross Unrealized
     
Carrying
Value(A)
     
Number
of
Securities
  
Weighted Average
 
Gains
   
Losses
Rating
 
Coupon
   
Yield(C)
   
Maturity
(Years)(D)
 
5-10 Years
 
$
16,069
   
$
15,483
   
$
324
   
$
(312
)
 
$
15,495
     
3
 
(B)
   
4.33
%
   
4.06
%
   
7
 
Over 10 Years
   
1,945,283
     
1,828,372
     
8,310
     
(11,265
)
   
1,825,417
     
235
 
(B)
   
3.85
%
   
3.65
%
   
26
 
Total/Weighted Average
 
$
1,961,352
   
$
1,843,855
   
$
8,634
   
$
(11,577
)
 
$
1,840,912
     
238
       
3.86
%
   
3.66
%
   
25
 


(A)
See Note 9 regarding the estimation of fair value, which approximates carrying value for all securities.
(B)
The Company used an implied AAA rating for the Agency RMBS. CMOs issued by Fannie Mae or Freddie Mac consist of loss share securities, the majority of which, by UPB, are unrated or rated below investment grade at September 30, 2018 by at least one NRSRO. Private label securities are rated investment grade or better by at least one NRSRO as of September 30, 2018.
(C)
The weighted average yield is based on the most recent annualized monthly interest income, divided by the book value of settled securities.
(D)
The weighted average maturity is based on the timing of expected principal reduction on the assets.

At September 30, 2018 and December 31, 2017, the Company pledged Agency RMBS with a carrying value of approximately $1,750.5 million and $1,728.6 million, respectively, as collateral for borrowings under repurchase agreements. At September 30, 2018 and December 31, 2017, the Company did not have any securities purchased from and financed with the same counterparty that did not meet the conditions of ASC 860 to be considered linked transactions and, therefore, classified as derivatives.

Based on management’s analysis of the Company’s securities, the performance of the underlying loans and changes in market factors, management determined that unrealized losses as of the balance sheet date on the Company’s securities were primarily the result of changes in market factors, rather than issuer-specific credit impairment, and such losses were considered temporary. The Company performed analyses in relation to such securities, using management’s best estimate of their cash flows, which support its belief that the carrying values of such securities were fully recoverable over their expected holding periods. Such market factors include changes in market interest rates and credit spreads and certain macroeconomic events, none of which will directly impact the Company’s ability to collect amounts contractually due. Management continually evaluates the credit status of each of the Company’s securities and the collateral supporting those securities. This evaluation includes a review of the credit of the issuer of the security (if applicable), the credit rating of the security (if applicable), the key terms of the security (including credit support), debt service coverage and loan to value ratios, the performance of the pool of underlying loans and the estimated value of the collateral supporting such loans, including the effect of local, industry and broader economic trends and factors. Significant judgment is required in this analysis. In connection with the above, the Company weighs the fact that substantially all of its investments in RMBS are guaranteed by U.S. government agencies or U.S. government sponsored enterprises.

Unrealized losses that are considered OTTI are recognized in earnings. The Company did not record any OTTI charges during the three month period ended September 30, 2018. The Company recorded approximately $45,000 of OTTI charges during the nine month period ended September 30, 2018. The Company did not record any OTTI charges during the three month period ended September 30, 2017. The Company recorded approximately $77,000 of OTTI charges during the nine month period ended September 30, 2017.

The following tables summarize the Company’s securities in an unrealized loss position as of the dates indicated (dollars in thousands):

RMBS Unrealized Loss Positions

As of September 30, 2018