Yahoo Finance Rocket Companies, Inc. (NYSE:RKT) Q1 2024 Earnings Call Transcript
Rocket Companies, Inc. (NYSE:RKT) Q1 2024 Earnings Call Transcript May 2, 2024
Rocket Companies, Inc. isn’t one of the 30 most popular stocks among hedge funds at the end of the third quarter (see the details here).
Operator: Thank you for standing by. My name is Jay, and I will be your conference operator today. At this time, I would like to welcome everyone to the Rocket Companies' Inc., First Quarter 2024 Earnings Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer session. [Operator Instructions] I would now like to turn the conference over to Sharon Ng, Head of Investor Relations. You may begin.
Sharon Ng: Good afternoon, everyone, and thank you for joining us for Rocket Companies' earnings conference call covering the first quarter of 2024. With us this afternoon are Rocket Companies' CEO, Varun Krishna, and our CFO, Brian Brown. Earlier today, we issued our first quarter and full year earnings release, which is available on our website at rocketcompanies.com under Investor Info. Also available on our website is an investor presentation. Before I turn things over to Varun, let me quickly go over our disclaimers. On today's call, we provide you with information regarding our first quarter performance, as well as our financial outlook. This conference call includes forward-looking statements. These statements are subject to risks and uncertainties that could cause actual results to differ materially from the expectations and the assumptions we mention today.
We encourage you to consider the risk factors contained in our SEC filings for a detailed discussion of these risks and uncertainties. We undertake no obligation to update these statements as a result of new information or further events, except as required by law. This call is being broadcast online and is accessible on our Investor Relations website. A recording of the call will be posted later today. Our commentary today will also include non-GAAP financial measures. Reconciliations between GAAP and non-GAAP metrics for reported results can be found in our earnings release issued earlier today as well as in our filings with the SEC. And with that, I'll turn things over to Varun Krishna to get us started. Varun?
Varun Krishna: Thank you, Sharon. Good afternoon, everyone, and thank you for joining the Rocket Companies Earnings Call for the first quarter of 2024. This is my third earnings call since joining the company in September. As I reflect on the last eight months, I am filled with gratitude to be part of a company with a clear and Noble Mission of Helping Everyone Home. Never has this mission been more important, more relevant than it is right now. I am so proud of what our team has achieved together in this short time. And it's evident you're only at the beginning of our journey. As an organization, we are driven to execute and win and our determination is absolute. We're playing both the short and the long game, gaining momentum and achieving success while strategically planning and executing for the long-term, and this has already led to some impressive results for Rocket.
Let's start with our Q1 business results where our Rocket blasted off, as we entered the New Year. I'll start by sharing just a few of the highlights that I'm especially proud of from the first quarter. We reported $0.04 of adjusted diluted EPS and delivered adjusted revenue of $1.163 billion in the first quarter, once again, far exceeding the high end of our guidance range. In addition, we returned to double-digit adjusted EBITDA margin. Alongside these solid results, we also continued to capture market share. In Q1, both purchase and refinance market share expanded showing double-digit percentage growth on a year-over-year basis. Our analysis shows that we took that market share from large industry players and big banks in particular. Market share growth while maintaining healthy gain on sale margins is our North Star metric and it's a yardstick that objectively measures our performance compared to the rest of the industry, independent of the inevitable ebbs and flows in the market.
While we cannot control market movements, we can direct our efforts to delivering world-class service for our clients and focus on growing our share. We are currently the number two player in purchase, excluding correspondent lending. And we won't stop there as we continue our upward march. With our strategy and capabilities, we believe we can and will continue to grow market share in both purchase and refinance and drive consolidation in this fragmented winner takes all market. I'd like to drill deeper into a few areas of our business that outperformed in Q1. Our home equity loan product has continued to expand significantly as we've seen volume grow more than 3.5 times from Q1 of 2023 to Q1 this year. Since our launch, just under two years ago, Rocket is now among the top players across the entire home equity loan market.
This achievement underscores the strength of our capital markets infrastructure and our team's ability to introduce and quickly scale innovative products that resonate with our clients. Home equity loans are particularly relevant in today's market, as they present a great option for clients looking to tap into their home equity, whether to fund remodeling projects, consolidate debt, or pay for a life event without affecting a favorable rate on their primary mortgage. Home equity loans closed seven days faster than our traditional refinance transactions, and importantly, they provide us with a springboard to consolidate a client's first and second lien mortgages when interest rates decline in the future. Servicing is a key part of our business that enables us to play offense and defense at the same time.
We acquired four MSR portfolios in March and April at a weighted average coupon well above that of our existing book. Rocket's recapture rate of service loans is more than two times the industry average, which is why we see our servicing portfolio as such a strategic asset. It represents a future origination opportunity on nearly 2.5 million clients, without additional marketing costs while paying a recurring cash flow until the next transaction. These are just a few examples of where strategic thinking and solid execution have driven tangible business results and outcomes. Now let's shift forward. I'd like to transition and talk about some of the trends and themes that we're seeing at the industry level. Despite recent market volatility, we are steadfast in our belief that there is tremendous opportunity ahead for Rocket.
In fact, when we widen the aperture, we believe Rocket is well positioned to capitalize on the current trends shaping the industry over the long run. Let me take just a minute to unpack three market-changing dynamics that create a perfect storm for Rocket to ride, execute and win. First, let's dive into industry capacity. Undoubtedly, the most challenging market conditions in four decades have catalyzed industry consolidation and capacity rationalization over the past couple of years. Mortgage employment has declined by 36% from its peak in April 2021, resulting in nearly 150,000 loan officers and mortgage brokers exiting the industry. The months to come are expected to put further pressure on smaller players already struggling with capacity and liquidity.
Secondly, if we look at banks, we can clearly see there has been a secular trend of banks feeding mortgage origination market share since the global financial crisis. In fact, their share has declined by nearly half from roughly 75% in 2008 to approximately 40% according to the most recently available data. Even still, banks hold top positions and comprise six of the top 20 spots in the industry rankings. In recent years, banks have faced profitability challenges with their mortgage operations made more apparent against the backdrop of difficult market conditions. Looking ahead, Basel III capital requirements which placed a higher risk weighting on mortgage capital are likely to further deter banks from expanding their home lending operations.
In fact, we believe many banks are reevaluating their mortgage lending operations altogether. Lastly, the Landmark National Association of Realtors Settlement has the potential to upend the home buying and selling realtor commission model that has remained unchanged for nearly 100 years. The traditional home buying and selling experience is fragmented, inefficient, costly and ripe for disruption. This settlement has the opportunity to change the home value equation and to pave the way for a better experience for both buyers and sellers of homes. Rocket strategy capitalizes on these three seismic ships. We have a fortress balance sheet that gives us the flexibility to not only survive, but to thrive through the inevitable ups and downs of the market.
While others are buying for survival, we are strategically investing in top-tier talent, cutting-edge technology and the enhancement of our brand to build a durable and growing business for the long term. Our comprehensive suite of integrated end-to-end services squarely addresses every aspect of the home buying opportunity from every side of the equation. We are poised to lead and revolutionize how homes are bought, sold and financed. As I shared earlier, at Rocket, our mission is to help everyone home. This is our grand challenge. We stand for every aspect of the homeownership journey from buying, selling and listing homes to purchase, refinance and servicing. That is what help everyone home means. We aim to transform the homeownership experience end to end, and our market opportunity is the entirety of the homeownership category.
The foundation that underpins this mission is a strategy that we call AI fuel homeownership. That means we are committed to delivering industry-leading experiences powered by AI benefiting our clients, mortgage brokers, real estate agents, financial institution partners and our team members alike. In a short amount of time, Rocket has already positioned itself as the industry leader in AI, continually pioneering client experiences that are unmatched by others. Let me just share a handful of recent examples of how our innovation is accelerating. Our Rocket Homes team recently launched Explore Spaces Visual Search, the first of its kind in the industry. This innovation enables users to discover their next stream home by displaying photos based on features that are important to them such as kitchens with marble countertops or backyards with lush lawns.
This is made possible by leveraging computer vision AI for image recognition and processing. This technology enables listing images to be quickly identified in text descriptions to be automatically generated, removing the need for manually tagging or writing content from scratch. And since launch, we've seen some very compelling early stocks. Users who engage with the Explore Spaces experience then almost twice as long on the site per visit, and they returned 6 times more often. As part of the Explore Spaces experience, Rocket Homes also launched auditory search, which makes home search inclusive and accessible for the nearly 10% of the US population that experiences visual impairment. AI automatically generates detailed captions for each photo that can actually be read aloud through AI-powered voice transcription.
Continuing our incredible pace of innovation just last week, we launched a new pilot that uses voice-based generative AI to allow clients to update their verified approval letter simply by using their voice. Typically, when a client needs to modify their approval letter to make an offer in a house, a need that has only increased in today's dynamic and competitive home buying environment, they have to call their mortgage banker who then makes modification. Our bankers and underwriters handle those adjustments request nearly 300,000 times a year. This is an incredibly manual process, which can take hours or days and not only takes our bankers away from prospecting for new business, but it is prone to errors and delays. In an industry first, our clients can use natural language to easily make modifications over the phone in just a minute.
And their realtors are kept up to date through automated notifications 24 hours a day, seven days a week. This new feature is great for clients because the speed gives them an extra edge to make winning offers in their dream home. Every second counts in a competitive market. It's great for realtors to be kept in the loop and great for our bankers who can use time previously spent on this administrative task to work with more clients. This is just one of many industry-first client-facing features in our pipeline that leverage AI to deliver great experiences. No matter the modality, whether through chat, phone, our website or our mobile app. There are many use cases for AI, but the most significant and immediately impactful application at our company is supercharging our team members.
AI eliminates the drudgery of burdensome time-consuming manual tasks so that our team members can spend more time on making human connections and producing higher value work. Ultimately, with AI, we are driving operational efficiency, speed, accuracy and personalization at massive scale. Rocket Logic, our proprietary patented AI technology platform and where the majority of our engineering resources are directed powers both our client-facing interactions and back-end processing. Rocket Logic continues to add new capabilities and expand full automation of mundane task, bringing up team member capacity to serve many more clients and drive growth. Rocket Logic utilizes collaborative intelligence to help our team members complete work more seamlessly.
Here are just a few recent additions to our Rocket Logic platform. Rocket Logic Assistant, which seamlessly and accurately follows the conversation with a client in real time, populates hundreds of crucial application fields hands-free. We believe we have the best mortgage bankers in the business, and now we're providing them with the tools to be even more productive. As a result, they're able to devote their time and full attention to where it matters most to our clients. Rocket Logic docs, our intelligent document processing platform automates document upload, classification, loan association and field extraction, enabling fast and accurate processing at scale like never before. Rocket Logic Docs automatically identifies nearly 70% of the more than 1.5 million documents we received monthly resulting in a savings of more than 5,000 hours of manual work for our underwriters in February 2024 alone.
Of the 4.3 million data points extracted from documents, including W-2s and bank statements in February, nearly 90% were automatically processed saving an additional 4,000 hours of manual work for our team members. And we're continuously building upon and adding new capabilities to Rocket Logic. Just last month, we announced Rocket Logic Synopsis. A new feature used by our client-facing team members across mortgage banking, EPO, mortgage operations and servicing. Each year, our teams participate in 65 million calls with our clients, and Synopsys works behind the scenes, transcribing and tagging client interactions, logging client preferences for communication method, time to be contacted, all purpose, sentiments and more. The key to AI is continuous training of models with recursive feedback loops and data.
We are organizing this invaluable data to construct unified client profiles in a centralized repository. From this repository, we trained models to gain deeper insights and analytics to personalize all future interactions with our clients. The ultimate objective is to deliver an industry-best client experience that translates into better conversion rates and higher client lifetime value and to just get continuously better and better at it. Rocket Logic automation has already reduced the number of times a team member interacts with a loan by nearly 25% year-over-year. This, in turn, has shaved several days off the time it takes Rocket's clients to close on a home purchase, reducing turn times by 25% from August 2022 to February 2024. These efficiencies are key in helping Rocket close loans nearly 2.5 times faster than the industry average.
Great companies succeed with exceptional execution. At Rocket, we are driving better and faster execution across the Board, and it's only going to continue and get even better from here. We are excited to share more examples of how AI is being deployed and the value it brings to our core businesses. We've recently solidified our road map and established objectives and key results to support our AI-driven homeownership strategy, and prioritize key strategic objectives. Consequently, we're operating with a heightened sense of focus and accountability. Through this process, we've also streamlined how we interact internally and significantly reduced the number of meetings we conduct while sharpening the focus of those that we do have. As a result, I'm excited that our engineers are spending less time in meetings and roughly 30% more time coding and creating great experiences for our clients.
In fact, just last month, I attended our HackWeek event, and I was just blown away. It was an amazing experience that highlighted our incredibly talented technology team members working rapidly to build that next game-changing innovation. From this HackWeek, dozens of the best ideas have gone from ideation to production in a matter of weeks. In closing, we are laser-focused on our mission to Help Everyone Home, and we are executing with velocity. We believe we're in the perfect position to take advantage of the opportunities presented by multiple once in a generation tailwind and we are poised to transform the home buying category, building upon our established refinance and servicing business and also continuing to grow and take share in purchase.
All of this is underpinned by AI which enables us to accelerate our pace of execution and grow our market share, revenue and profitability at scale. And with that, I will turn it over to, Brian.
Brian Brown: Thank you, Varun, and good afternoon, everyone. On today's call, I'll cover our strong financial results for the first quarter of 2024, including achieving another quarter of profitable market share growth. I'll share some insights on the tangible value we are seeing from leveraging AI to drive efficiency, velocity and accuracy across our business, and I'll close with our perspectives on the current market environment and outlook for the second quarter. But before I get started, on a personal note, I'm approaching my 10-year anniversary with Rocket, and I have never been more excited about the course we are charting ahead. As Varun mentioned, we have the strategy and resources necessary to capitalize on a once-in-a-generation tailwind in this huge fragmented home buying space.
We are executing with speed, and we are incredibly well positioned to be the leader in home ownership. Over the past few months, we have realigned the entire company around our strategy of AI-fueled home ownership. The energy and engagement from our team members have been electric. And I'm confident we are going to accomplish great things together as we execute on our mission to Help Everyone Home. Turning to the first quarter, we once again achieved strong results. We gained market share, accelerated revenue growth and achieved our highest profitability in two years. We delivered these results against a backdrop of higher for longer interest rates in a mortgage market that remains well below historical levels. Our exceptional performance is a testament to the hard work and focused execution of our team members.
Diving further into Q1 results, we generated $22.4 billion in net rate lock volume and $20.2 billion in closed loan volume. Once again, we have made significant strides in both refinance and purchase market share, delivering meaningful growth on both fronts during the period. Our differentiated solutions like our home equity loan product, attracting new refinance clients who want to access the equity in their home while preserving an already low rate on their existing mortgage. And then from a purchase perspective, Rocket's integrated end-to-end ecosystem across real estate and mortgage makes for unbeatable offerings like our Buy Plus program, which is directly geared towards addressing the historic affordability challenges that today's buyers face.
Like home equity loans, the majority of Buy Plus clients are new to Rocket, and helped drive our purchase market share gains over the past year while continuing to organically grow our servicing portfolio. Looking at industry forecasts and other more real-time data sources, the total industry volume was roughly flat on a year-over-year basis in the first quarter. By comparison, our first quarter loan volume was up 19% on a year-over-year basis. Turning to revenue, we generated adjusted revenue of $1.163 billion in the first quarter, well above the high end of our guidance range. This represents a 32% increase from the first quarter of 2023 and marks the third consecutive quarter of accelerating growth year-over-year. Gain on sale margin for the first quarter was 311 basis points, which compares favorably to the 268 basis points in Q4 and the 239 basis points in the first quarter of 2023.
This upward trend in gain on sale margins over the past year has been driven in part by capacity continuing to come out of the system. I'll elaborate further on gain on sale margins in a moment. In addition to posting strong top line growth, we also meaningfully increased profitability. Adjusted EBITDA was $174 million, an improvement of more than $250 million from the first quarter of last year. Adjusted diluted EPS came in at $0.04 per share in the first quarter. While we are pleased to return to double-digit adjusted EBITDA margin in the first quarter, this is only a glimmer of Rocket's true earnings potential. The past few years have been a tale of peaks and valleys in the market. We have done the difficult but necessary work to right-size the company and respond to market realities.
More importantly, though, with our robust financial profile, we have continued to invest heavily in crucial areas such as talent and technology to seize the future market opportunities. Now, let's take a look at our operating expenses. Total expenses in the first quarter were $1.85 billion, roughly flat year-over-year, which is particularly notable when compared to the 32% increase in adjusted revenue over the same period. Thanks to the operational efficiency measures we implemented last year, we realized full quarter cost savings in Q1, which we then chose to direct towards ROI-driven performance marketing spend to drive the additional production. We also incurred higher variable costs related to higher volumes, which included industry-wide credit cost increases.
Earlier, you heard Varun talk about how AI is powering great client experiences and unlocking team member productivity. I'd like to share even more perspective on how AI is bringing tangible business value through enhanced operational efficiency, velocity and accuracy at scale. The most apparent and significant value add that I've seen is augmenting team member capacity through operational efficiency. With AI, we are unlocking significant productivity by supercharging our team members in the most critical functions. Take our team member intensive areas such as mortgage banking, operations and servicing, which make up the majority of our total team members. Every day, team members in these areas are using AI tools to handle routine tasks, such as Rocket Logic Synopsis to transcribe calls, Rocket Logic Assistant to populate mortgage applications and Rocket Logic Docs to classify documents and extract data fields.
With AI handling this work, our team members have more time to provide tailored advice and engage in higher value conversations with our clients. Rocket Logic is reducing manual tasks by nearly 25% year-over-year directly translating into tangible operational efficiencies. With AI, we are also serving our clients with greater velocity. Rocket Logic's automation has shaved days off of our purchase turn times, improving closing time by 25% from August 2022 to February 2024. Turn times are an important factor. First and foremost, because the more quickly we can close a loan, the better experience we can offer clients, especially in a competitive home buying market. AI is also helping us reduce risk and strengthen compliance by driving never before seen accuracy.
For example, income verification is a critical step in the underwriting process. And income verification issues are among the top reasons behind GSE repurchase requests. AI is helping to drive significantly higher accuracy rates, which has the potential to reduce financial losses on previously originated loans repurchased from the GSEs. Turning to our balance sheet. Rocket's strong financial position continues to be a strategic advantage. Amidst the shifting industry landscape, our financial position increasingly serves as a competitive moat, affording us the flexibility to be opportunistic when others may be fighting just to stay alive. Our financial profile allows us to continue investing in top talent as well as technology and AI capabilities to build a durable business to position our organization for growth.
Looking ahead, our robust liquidity will be an even greater advantage as new capital requirements begin to take effect in the industry. With respect to the FHFA liquidity 2.0 requirements, that went into effect in late 2023 in Gini May’s new risk-based capital standards that to take effect later this year, Rocket is well in excess of both of the capital and liquidity levels. This is a regulatory requirement that many of our competitors are actively having to manage rather than being able to invest in technology and programs that will deliver long-term growth. We ended the first quarter with $3.5 billion of available cash and $6.7 billion of mortgage servicing rights. Together, these assets represent a total of approximately $10.2 billion of value on our balance sheet.
Our $3.5 billion of available cash consists of $900 million of cash on the balance sheet, an additional $2.6 billion of corporate cash used to self-fund loan originations. Total liquidity stood at approximately $8.9 billion as of March 31, including available cash, undrawn lines of credit in our undrawn MSR lines. As of March 31, our mortgage servicing portfolio included nearly 2.5 million loans to $511 billion of unpaid principal balance. Our net client retention rate in the first quarter was 96%, which continues to be multiples higher than the industry average. Retention rate serves as a key metric engaging client satisfaction and is the primary indicator of client lifetime value. We also drive significant recurring revenue from mortgage servicing.
During the first quarter, we generated $346 million of cash revenue from our servicing book, which represents approximately $1.4 billion on an annualized basis. Servicing is a strategic area of growth and we see strong synergy between our Servicing portfolio and our Origination business. With our industry-leading recapture rate, we take a different approach to servicing than others viewing it through the lens of client lifetime value. In March and April, we acquired over $8 billion of unpaid principal balance with a blended weighted average note rate above that of our current portfolio. These higher note rate MSRs enable us to capitalize on our industry-leading recapture rate and set us up for future refinance opportunities. Turning to our outlook for the second quarter.
Our guidance on today's call is based on trends we've observed quarter-to-date and one month of actual performance. April is typically the lowest month of the quarter from a volume perspective and market conditions in April were challenging. The 10-year treasury yield has increased roughly 70 basis points since the start of the year in response to persistent inflation and strong macroeconomic data. Despite some gradual improvements, home inventory levels remain well below their historical average, while higher mortgage rates further compound affordability challenges. The traditional spring purchase season is off to a slow start. Across the industry, 2024 has turned in the worst March and April for purchase applications in the last 30 years.
Despite the challenging rate and inventory environment, our Q2 guidance reflects our expectation of higher volume and positions us to take share again in the second quarter. It's worth noting that our strong gain on sale margins in Q1 benefited from two market-driven factors that may not reoccur. One factor was a lower interest rate environment when compared to Q2. Another factor was our extremely strong execution in the securitization markets for our home equity loan product. Therefore, our expectation is that the second quarter gain on sale margins will return to levels closer to those observed in the second half of last year. In Q2, we expect adjusted revenue to be in the range of $1.075 billion to $1.225 billion. In summary, we are confident that we will drive top line growth, take share and our guidance reflects exactly this.
Regarding operating expenses, we expect the second quarter to be roughly flat on a year-over-year basis, as the savings from last year's operational efficiency initiatives are expected to be mostly offset by increased variable costs related to higher volumes, which includes the industry-wide credit cost increases. As always, our forward-looking guidance is based on our current outlook and visibility, which should come across clearly from our remarks today is our conviction to grow purchase and transform the massive, fragmented homeownership category. Through our strategy and with our capabilities, we believe we are well positioned to navigate and thrive regardless of market conditions. With AI, we are unlocking capacity and enhancing operational efficiency, velocity and accuracy.
We are just getting started, and we're fired up to execute on our mission to Help Everyone Home. With that, we are ready to turn it back over to the operator, for questions.
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