Edgar Filing: PENNYMAC FINANCIAL SERVICES, INC.

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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, DC 20549

Form 10-Q

(Mark One)

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

For the quarterly period ended September 30, 2014

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

For the transition period from to

Commission file number: 001-35916

PennyMac Financial Services, Inc.

(Exact name of registrant as specified in its charter)

Delaware		80-0882793
(State or other jurisdiction of		(IRS Employer
incorporation or organization)		Identification No.)

6101 Condor Drive, Moorpark, California		93021
(Address of principal executive offices)		(Zip Code)

(818) 224-7442

(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 x No o

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted 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 and post such files). Yes x No o

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

Large accelerated filer o		Accelerated filer o

Non-accelerated filer x		Smaller reporting company o
(Do not check if a smaller reporting company)

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

Indicate the number of shares outstanding of each of the registrant’s classes of common stock, as of the latest practicable date.

Class		Outstanding at November 11, 2014
Class A Common Stock, $0.0001 par value		21,538,012
Class B Common Stock, $0.0001 par value		58

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PENNYMAC FINANCIAL SERVICES, INC.

FORM 10-Q

September 30, 2014

TABLE OF CONTENTS

		Page
PART I. FINANCIAL INFORMATION		2

Item 1.	Financial Statements (Unaudited):	2
	Consolidated Balance Sheets	2
	Consolidated Statements of Income	3
	Consolidated Statements of Changes in Stockholders’ Equity	4
	Consolidated Statements of Cash Flows	5
	Notes to Consolidated Financial Statements	6
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	53
Item 3.	Quantitative and Qualitative Disclosures About Market Risk	78
Item 4.	Controls and Procedures	78

PART II. OTHER INFORMATION		79

Item 1.	Legal Proceedings	79
Item 1A.	Risk Factors	79
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	79
Item 3.	Defaults Upon Senior Securities	79
Item 4.	Mine Safety Disclosures	79
Item 5.	Other Information	79
Item 6.	Exhibits	80

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PART I. FINANCIAL INFORMATION

Item 1. Financial Statements

PENNYMAC FINANCIAL SERVICES, INC.

CONSOLIDATED BALANCE SHEETS (UNAUDITED)

	September 30, 2014		December 31, 2013
	(in thousands, except share data)
ASSETS
Cash	$	77,251	$	30,639
Short-term investments at fair value	36,335		142,582
Mortgage loans held for sale at fair value (includes $1,087,425 and $512,350 pledged to secure mortgage loans sold under agreements to repurchase; and $146,798 and $— pledged to secure mortgage loan participation and sale agreement)	1,259,991		531,004
Derivative assets	28,400		21,540
Net servicing advances (includes $5,564 pledged to secure note payable at December 31, 2013)	195,246		154,328
Carried Interest due from Investment Funds	67,035		61,142
Investment in PennyMac Mortgage Investment Trust at fair value	1,607		1,722
Mortgage servicing rights (includes $319,149 and $224,913 mortgage servicing rights at fair value; $350,758 and $258,241 pledged to secure note payable; and $286,020 and $138,723 pledged to secure excess servicing spread financing)	677,413		483,664
Furniture, fixtures, equipment and building improvements, net	11,574		9,837
Capitalized software, net	580		764
Receivable from Investment Funds	2,702		2,915
Receivable from PennyMac Mortgage Investment Trust	21,420		18,636
Deferred tax asset	52,820		63,117
Loans eligible for repurchase	58,145		46,663
Other	48,108		15,922
Total assets	$	2,538,627	$	1,584,475
LIABILITIES
Mortgage loans sold under agreements to repurchase	$	929,747	$	471,592
Mortgage loan participation and sale agreement	142,383		—
Note payable	154,948		52,154
Excess servicing spread financing at fair value payable to PennyMac Mortgage Investment Trust	187,368		138,723
Derivative liabilities	4,440		2,462
Accounts payable and accrued expenses	62,712		46,387
Mortgage servicing liabilities at fair value	4,091		—
Payable to Investment Funds	35,874		36,937
Payable to PennyMac Mortgage Investment Trust	104,783		81,174
Payable to exchanged Private National Mortgage Acceptance Company, LLC unitholders under tax receivable agreement	75,925		71,056
Liability for loans eligible for repurchase	58,145		46,663
Liability for losses under representations and warranties	11,762		8,123
Total liabilities	1,772,178		955,271

Commitments and contingencies

STOCKHOLDERS’ EQUITY
Class A common stock—authorized 200,000,000 shares of $0.0001 par value; issued and outstanding, 21,525,644 and 20,812,777 shares, respectively	2		2
Class B common stock—authorized 1,000 shares of $0.0001 par value; 58 shares issued and outstanding	—		—
Additional paid-in capital	161,309		153,000
Retained earnings	42,479		14,400
Total stockholders’ equity attributable to PennyMac Financial Services, Inc. common stockholders	203,790		167,402
Noncontrolling interest in Private National Mortgage Acceptance Company, LLC	562,659		461,802
Total stockholders’ equity	766,449		629,204
Total liabilities and stockholders’ equity	$	2,538,627	$	1,584,475

The accompanying notes are an integral part of these financial statements.

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PENNYMAC FINANCIAL SERVICES, INC.

CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED)

	Quarter ended September 30,						Nine months ended September 30,
	2014			2013			2014			2013
	(in thousands, except per share data)
Revenue
Net gains (losses) on mortgage loans held for sale at fair value:
From non-affiliates	$	50,276		$	26,035		$	128,942		$	109,146
Mortgage servicing rights and excess servicing spread financing recapture payable to PennyMac Mortgage Investment Trust	(2,143		)	(86		)	(6,567		)	(586		)
	48,133			25,949			122,375			108,560
Loan origination fees	11,823			6,280			29,048			18,260
Fulfillment fees from PennyMac Mortgage Investment Trust	15,497			18,327			36,832			68,625
Net loan servicing fees:
Loan servicing fees
From non-affiliates	44,647			14,596			124,061			35,397
From PennyMac Mortgage Investment Trust	12,325			10,738			41,096			27,251
From Investment Funds	1,116			1,451			6,754			5,525
Ancillary and other fees	6,620			2,777			16,609			7,700
	64,708			29,562			188,520			75,873
Amortization, impairment and change in fair value of mortgage servicing rights:
Related to servicing for non-affiliates	(20,339		)	(8,134		)	(58,271		)	(16,334		)
Change in fair value of excess servicing spread payable to PennyMac Mortgage Investment Trust	9,539			(29		)	24,392			(29		)
	(10,800		)	(8,163		)	(33,879		)	(16,363		)
Net loan servicing fees	53,908			21,399			154,641			59,510
Management fees:
From PennyMac Mortgage Investment Trust	9,623			8,539			26,609			23,486
From Investment Funds	1,756			2,001			5,877			5,889
	11,379			10,540			32,486			29,375
Carried Interest from Investment Funds	1,902			2,812			5,893			10,411
Net interest (expense) income:
Interest income	8,975			5,093			19,337			11,310
Interest expense:
Payable to non-affiliates	8,136			4,156			17,253			11,686
Payable to PennyMac Mortgage Investment Trust	3,577			—			9,578			—
	11,713			4,156			26,831			11,686
Net interest (expense) income	(2,738		)	937			(7,494		)	(376		)
Change in fair value of investment in and dividends received from PennyMac Mortgage Investment Trust	8			165			20			(68		)
Other	713			785			2,751			1,842
Total net revenue	140,625			87,194			376,552			296,139
Expenses
Compensation	48,375			35,830			138,232			113,850
Servicing	13,914			1,931			28,698			5,072
Technology	4,350			2,587			10,914			6,203
Professional services	3,290			2,831			8,150			7,901
Loan origination	2,537			2,802			5,952			7,825
Other	5,467			6,296			14,806			14,849
Total expenses	77,933			52,277			206,752			155,700
Income before provision for income taxes	62,692			34,917			169,800			140,439
Provision for income taxes	7,232			3,493			19,385			5,531
Net income	55,460			31,424			150,415			134,908
Less: Net income attributable to noncontrolling interest	44,971			26,227			122,336			126,918
Net income attributable to PennyMac Financial Services, Inc. common stockholders	$	10,489		$	5,197		$	28,079		$	7,990

Earnings per share
Basic	$	0.49		$	0.29		$	1.33		$	0.50
Diluted	$	0.49		$	0.28		$	1.32		$	0.50
Weighted-average common shares outstanding
Basic	21,432			17,958			21,149			16,042
Diluted	75,949			75,876			75,918			75,867

The accompanying notes are an integral part of these financial statements.

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PENNYMAC FINANCIAL SERVICES, INC.

CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY (UNAUDITED)

				PennyMac Financial Services, Inc. Stockholders											Noncontrolling interest in
	Members’			Number of Shares		Common stock				Additional			Retained		Private National Mortgage
	equity			Class A	Class B	Class A		Class B		paid-in capital			earnings		Acceptance Company, LLC			Total equity
	(in thousands)
Balance at December 31, 2012	$	261,750		—	—	$	—	$	—	$	—		$	—	$	—		$	261,750
Net income	76,834																	76,834
Unit-based compensation expense	238			—	—	—		—		—			—		—			238
Distributions	(19,623		)	—	—	—		—		—			—		—			(19,623		)
Partner capital issuance costs	(3,745		)	—	—	—		—		—			—		—			(3,745		)
Exchange of existing partner units to Class A units of Private National Mortgage Acceptance Company, LLC	(315,454		)	—	—	—		—		—			—		315,454			—
Balance post-reorganization	—			—	—	—		—		—			—		315,454			315,454
Net income	—			—	—	—		—		—			7,990		50,084			58,074
Stock and unit-based compensation	—			—	—	—		—		891			—		1,265			2,156
Distributions	—			—	—	—		—		—			—		(3,395		)	(3,395		)
Issuance of common shares in initial public offering, net of issuance costs	—			12,778	—	1		—		229,999			—		—			230,000
Underwriting and offering costs	—			—	—	—		—		(13,290		)	—		(196		)	(13,486		)
Initial recognition of noncontrolling interest	—			—	—	—		—		(127,160		)	—		127,160			—
Exchange of Class A units of Private National Mortgage Acceptance Company, LLC to Class A stock of PennyMac Financial Services, Inc.	—			6,110	—	1		—		44,886			—		(44,887		)	—
Tax effect of exchange of Class A units of Private National Mortgage Acceptance Company, LLC to Class A stock of PennyMac Financial Services, Inc.	—			—	—	—		—		1,158			—		—			1,158
Balance at September 30, 2013	—			18,888	—	2		—		136,484			7,990		445,485			589,961

Balance at December 31, 2013	$	—		20,813	—	$	2	$	—	$	153,000		$	14,400	$	461,802		$	629,204
Net income	—			—	—	—		—		—			28,079		122,336			150,415
Stock and unit-based compensation	—			32	—	—		—		2,086			—		5,393			7,479
Distributions	—			—	—	—		—		—			—		(20,300		)	(20,300		)
Issuance of common stock in settlement of directors’ fees	—			9	—	—		—		147			—		—			147
Exchange of Class A units of Private National Mortgage Acceptance Company, LLC to Class A stock of PennyMac Financial Services, Inc.	—			672	—	—		—		6,572			—		(6,572		)	—
Tax effect of exchange of Class A units of Private National Mortgage Acceptance Company, LLC to Class A stock of PennyMac Financial Services, Inc.	—			—	—	—		—		(496		)	—		—			(496		)
Balance at September 30, 2014	$	—		21,526	—	$	2	—		$	161,309		$	42,479	$	562,659		$	766,449

The accompanying notes are an integral part of these financial statements.

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PENNYMAC FINANCIAL SERVICES, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)

	Nine months ended September 30,
	2014			2013
	(in thousands)
Cash flow from operating activities
Net income	$	150,415		$	134,908
Adjustments to reconcile net income to net cash used in operating activities:
Net gains on mortgage loans held for sale at fair value	(122,375		)	(108,560		)
Accrual of servicing rebate to Investment Funds	681			535
Amortization, impairment and change in fair value of mortgage servicing rights	33,879			16,363
Carried Interest from Investment Funds	(5,893		)	(10,411		)
Accrual of interest on excess servicing spread financing	9,578			—
Amortization of debt issuance costs and commitment fees relating to financing facilities	4,217			3,714
Change in fair value of investment in common shares of PennyMac Mortgage Investment Trust	115			196
Change in fair value of real estate acquired in settlement of loans	—			22
Stock and unit-based compensation expense	7,479			2,394
Depreciation and amortization	972			594
Purchase of mortgage loans held for sale from PennyMac Mortgage Investment Trust	(11,947,251		)	(12,429,698		)
Purchase of mortgage loans from Ginnie Mae securities for modification and subsequent sale	(897,381		)	—
Originations of mortgage loans held for sale, net	(1,261,747		)	(895,405		)
Sale and principal payments of mortgage loans held for sale	13,362,317			13,198,471
Sale of mortgage loans held for sale to PennyMac Mortgage Investment Trust	4,955			12,339
Repurchase of loans subject to representations and warranties	(1,757		)	—
Repurchase of real estate acquired in settlement of loans subject to representations and warranties	—			(309		)
Sale of real estate acquired in settlement of loans subject to representations and warranties	—			287
Increase in servicing advances	(46,331		)	(12,192		)
(Increase) decrease in receivable from Investment Funds	(468		)	596
Increase in receivable from PennyMac Mortgage Investment Trust	(781		)	(1,790		)
Increase in other assets	(38,806		)	(5,007		)
Decrease in deferred tax asset	14,670			—
Increase in accounts payable and accrued expenses	16,359			17,060
Decrease in payable to Investment Funds	(1,063		)	(371		)
Increase in payable to PennyMac Mortgage Investment Trust	23,136			8,158
Net cash used in operating activities	(695,080		)	(68,106		)

Cash flow from investing activities
Decrease (increase) in short-term investments	106,247			(74,323		)
Purchase of mortgage servicing rights	(113,348		)	(5,124		)
Sale of mortgage servicing rights	10,916			550
Settlements of derivative financial instruments used for hedging	3,048			—
Purchase of furniture, fixtures, equipment and building improvements	(4,006		)	(4,719		)
Acquisition of capitalized software	(56		)	(242		)
(Increase) decrease in margin deposits and restricted cash	(1,620		)	5,349
Net cash provided by (used in) investing activities	1,181			(78,509		)

Cash flow from financing activities
Sale of loans under agreements to repurchase	12,500,064			12,225,201
Repurchase of loans sold under agreements to repurchase	(12,041,909		)	(12,230,851		)
Sale of mortgage loan participation certificates	180,062			—
Repayment of mortgage loan participation certificates	(37,679		)	—
Increase in note payable	102,794			3,762
Issuance of excess servicing spread financing to PennyMac Mortgage Investment Trust	82,646			2,828
Repayment of excess servicing spread financing to PennyMac Mortgage Investment Trust	(25,280		)	—
Issuance of common stock	—			230,000
Payment of common stock underwriting and offering costs	—			(13,486		)
Payment by noncontrolling interest of common stock issuance costs	—			(3,745		)
Distributions to Private National Mortgage Acceptance Company, LLC partners	(20,187		)	(23,019		)
Net cash provided by financing activities	740,511			190,690
Net increase in cash	46,612			44,075
Cash at beginning of period	30,639			12,323
Cash at end of period	$	77,251		$	56,398

The accompanying notes are an integral part of these financial statements.

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PENNYMAC FINANCIAL SERVICES, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

Note 1—Organization and Basis of Presentation

PennyMac Financial Services, Inc. (“PFSI” or the “Company”) was formed as a Delaware corporation on December 31, 2012. Pursuant to a reorganization, the Company became a holding corporation and its primary asset is an equity interest in Private National Mortgage Acceptance Company, LLC (“PennyMac”). The Company is the managing member of PennyMac and operates and controls all of the businesses and affairs of PennyMac subject to the consent rights of other members under certain circumstances and, through PennyMac and its subsidiaries, continues to conduct the business previously conducted by these subsidiaries.

PennyMac is a Delaware limited liability company which, through its subsidiaries, engages in mortgage banking and investment management activities. PennyMac’s mortgage banking activities consist of residential mortgage loan production (including correspondent production and consumer-direct lending) and mortgage loan servicing. PennyMac’s investment management activities and a portion of its loan servicing activities are conducted on behalf of investment vehicles that invest in residential mortgage loans and related assets. PennyMac’s primary wholly owned subsidiaries are:

· PNMAC Capital Management, LLC (“PCM”)—a Delaware limited liability company registered with the Securities and Exchange Commission (“SEC”) as an investment adviser under the Investment Advisers Act of 1940, as amended. PCM enters into investment management agreements with entities that invest in residential mortgage loans and related assets.

Presently, PCM has management agreements with PennyMac Mortgage Investment Trust (“PMT”), a publicly held real estate investment trust, and three investment funds: PNMAC Mortgage Opportunity Fund, LLC and PNMAC Mortgage Opportunity Fund, L.P., (the “Master Fund”), both registered under the Investment Company Act of 1940, as amended; and PNMAC Mortgage Opportunity Fund Investors, LLC (collectively, “Investment Funds”). Together, the Investment Funds and PMT are referred to as the “Advised Entities.”

· PennyMac Loan Services, LLC (“PLS”)—a Delaware limited liability company that services portfolios of residential mortgage loans on behalf of non-affiliates or the Advised Entities, originates new prime credit quality residential mortgage loans, and engages in other mortgage banking activities for its own account and the account of PMT.

PLS is approved as a seller/servicer of mortgage loans by the Federal National Mortgage Association (“Fannie Mae”) and the Federal Home Loan Mortgage Corporation (“Freddie Mac”) and as an issuer of securities guaranteed by the Government National Mortgage Association (“Ginnie Mae”). PLS is a licensed Federal Housing Administration Nonsupervised Title II Lender with the U.S. Department of Housing and Urban Development (“HUD”) and a lender/servicer with the Veterans Administration (“VA”) (each an “Agency” and collectively the “Agencies”).

· PNMAC Opportunity Fund Associates, LLC (“PMOFA”)—a Delaware limited liability company and the general partner of the Master Fund. PMOFA is entitled to incentive fees representing allocations of profits (“Carried Interest”) from the Master Fund.

Initial Public Offering and Recapitalization

On May 14, 2013, PFSI completed an initial public offering (“IPO”) in which it sold approximately 12.8 million shares of its Class A common stock, at a public offering price of $18.00 per share. PFSI received net proceeds of $216.8 million, after deducting underwriting discounts and commissions, from sales of its shares in the IPO. PFSI used these net proceeds to purchase approximately 12.8 million Class A units of PennyMac. PFSI operates and controls all of the business and affairs and consolidates the financial results of PennyMac and its subsidiaries.

The purchase of 12.8 million Class A units of PennyMac has been accounted for as a transfer of interests under common control. Accordingly, the accompanying consolidated financial statements reflect a reclassification of members’ equity to noncontrolling interests in the Company of $315.5 million. This amount represents the carrying value in the Company of the existing owners of PennyMac on the date of the IPO.

Before the IPO, PennyMac completed a reorganization by amending its limited liability company agreement to convert all classes of ownership interests held by its existing owners to a single class of common units. The conversion of existing interests was based on the various interests’ liquidation priorities as specified in PennyMac’s prior limited liability company agreement. In connection with that reorganization, PFSI became the sole managing member of PennyMac.

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After the completion of the recapitalization and reorganization transactions, PennyMac became a consolidated subsidiary of the Company. Accordingly, PennyMac’s consolidated financial statements are the Company’s historical financial statements. The historical consolidated financial statements of PennyMac are reflected herein based on the historical ownership interests of the then-existing PennyMac unitholders.

Tax Receivable Agreement

As part of the IPO, PFSI entered into an Exchange Agreement with PennyMac’s existing unitholders whereby the existing unitholders may exchange their PennyMac units for PFSI stock. PennyMac has made an election pursuant to Section 754 of the Internal Revenue Code which remains in effect. As a result of this election an exchange under the Exchange Agreement results in a special adjustment for PFSI that may increase PFSI’s tax basis of certain assets of PennyMac that otherwise would not have been available. These increases in tax basis may reduce the amount of income tax that PFSI would otherwise be required to pay in the future. These increases in tax basis may also decrease tax gains (or increase tax losses) on future dispositions of certain assets to the extent a portion of the increased tax basis is allocated to those assets.

As part of the IPO, PFSI entered into a tax receivable agreement with PennyMac’s existing unitholders that will provide for the payment by PFSI to PennyMac exchanged unitholders an amount equal to 85% of the amount of the benefits, if any, that PFSI is deemed to realize as a result of (i) increases in tax basis resulting from the exchanges noted above and (ii) certain other tax benefits related to PFSI entering into the tax receivable agreement, including tax benefits attributable to payments under the tax receivable agreement.

The term of the tax receivable agreement will continue until all such tax benefits have been utilized or expired, unless PFSI exercises its right to terminate the tax receivable agreement. In the event of termination of the tax receivable agreement, the Company would be required to make an immediate payment equal to the present value of the anticipated future net tax benefits, which upfront payment may be made years in advance of the actual realization of such future benefits.

Basis of Presentation

The accompanying consolidated financial statements have been prepared in compliance with accounting principles generally accepted in the United States (“U.S. GAAP”) as codified in the Financial Accounting Standards Board’s (“FASB”) Accounting Standards Codification (“Codification”) for interim financial information and with the SEC’s instructions to Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly, these financial statements and notes do not include all of the information required by U.S. GAAP for complete financial statements. The interim consolidated information should be read together with the Company’s Annual Report on Form 10-K for the year ended December 31, 2013. Intercompany accounts and transactions have been eliminated.

The accompanying unaudited consolidated financial statements reflect all normal recurring adjustments necessary to present fairly the financial position, income, and cash flows for the interim periods, but are not necessarily indicative of the results of operations to be anticipated for the full year ending December 31, 2014.

Note 2—Concentration of Risk

A substantial portion of the Company’s activities relate to the Advised Entities. Fees charged to these entities (generally comprised of management fees, loan servicing fees, Carried Interest and fulfillment fees) totaled 33% and 50% of total net revenues for the quarters ended September 30, 2014 and 2013, respectively, and 35% and 47% for the nine months ended September 30, 2014 and 2013, respectively.

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Note 3—Transactions with Affiliates

Transactions with PMT

Following is a summary of mortgage lending activity between the Company and PMT:

	Quarter ended September 30,				Nine months ended September 30,
	2014		2013		2014		2013
	(in thousands)
Fulfillment fee revenue	$	15,497	$	18,327	$	36,832	$	68,625
Unpaid principal balance of loans fulfilled for PennyMac Mortgage Investment Trust	$	3,677,613	$	3,681,771	$	8,588,955	$	12,792,482

Sourcing fees paid	$	1,384	$	1,204	$	3,401	$	3,563
Fair value of loans purchased from PennyMac Mortgage Investment Trust	$	4,861,392	$	4,147,535	$	11,947,251	$	12,429,698
Sale of mortgage loans held for sale to PennyMac Mortgage Investment Trust	$	2,970	$	7,059	$	4,955	$	12,339
MSR recapture recognized	$	—	$	86	$	9	$	586

Following is a summary of mortgage loan servicing fees earned from PMT:

	Quarter ended September 30,				Nine months ended September 30,
	2014		2013		2014		2013
	(in thousands)
Loan servicing fees relating to PMT’s:
Mortgage loans acquired for sale at fair value:
Base and supplemental	$	28	$	62	$	74	$	231
Activity-based	35		77		112		260
	63		139		186		491
Distressed mortgage loans:
Base and supplemental	4,679		4,166		14,620		11,737
Activity-based	4,076		3,414		16,208		7,739
	8,755		7,580		30,828		19,476
MSRs:
Base and supplemental	3,459		2,911		9,930		7,037
Activity-based	48		108		152		247
	3,507		3,019		10,082		7,284
	$	12,325	$	10,738	$	41,096	$	27,251

Following is a summary of the management fees earned from PMT:

	Quarter ended September 30,				Nine months ended September 30,
	2014		2013		2014		2013
	(in thousands)
Management fees:
Base	$	6,033	$	5,104	$	17,392	$	14,043
Performance incentive	3,590		3,435		9,217		9,443
	$	9,623	$	8,539	$	26,609	$	23,486

In the event of termination by PMT, the Company may be entitled to a termination fee in certain circumstances. The termination fee is equal to three times the sum of (a) the average annual base management fee, and (b) the average annual performance incentive fee earned by the Company, in each case during the 24-month period before termination.

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Following is a summary of financing and mortgage loan sourcing activity between the Company and PMT:

	Quarter ended September 30,					Nine months ended September 30,
	2014		2013			2014		2013
	(in thousands)
Issuance of excess servicing spread	$	9,253	$	2,828		$	82,646	$	2,828
Change in fair value of excess servicing spread financing	$	9,539	$	(29	)	$	24,392	$	(29	)
Interest expense from excess servicing spread financing	$	3,577	$	—		$	9,578	$	—
Excess servicing spread recapture recognized	$	2,143	$	—		$	6,558	$	—

Other Transactions

In connection with the IPO of PMT’s common shares on August 4, 2009, the Company entered into an agreement with PMT pursuant to which PMT agreed to reimburse PennyMac for the $2.9 million payment that it made to the underwriters in such offering (the “Conditional Reimbursement”) if PMT satisfied certain performance measures over a specified period of time. Effective February 1, 2013, the parties amended the terms of the reimbursement agreement to provide for the reimbursement to the Company of the Conditional Reimbursement if PMT is required to pay the Company performance incentive fees under the management agreement at a rate of $10 in reimbursement for every $100 of performance incentive fees earned. The reimbursement of the Conditional Reimbursement is subject to a maximum reimbursement in any particular 12 month period of $1.0 million and the maximum amount that may be reimbursed under the agreement is $2.9 million. The Company received payments from PMT totaling $256,000 and $292,000, respectively, during the quarter and nine months ended September 30, 2014.

In the event the termination fee is payable to the Company under the management agreement and the Company has not received the full amount of the reimbursements and payments under the reimbursement agreement, such amount will be paid in full. The term of the reimbursement agreement expires on February 1, 2019.

PMT reimburses the Company for other expenses, including common overhead expenses incurred on its behalf by the Company, in accordance with the terms of its management agreement. Such amounts are summarized below:

	Quarter ended September 30,				Nine months ended September 30,
	2014		2013		2014		2013
	(in thousands)
Reimbursement of:
Common overhead incurred by the Company	$	2,912	$	2,552	$	8,181	$	8,359
Expenses incurred on PMT’s behalf	122		1,934		671		3,767
	$	3,034	$	4,486	$	8,852	$	12,126
Payments and settlements during the year (1)	$	31,621	$	29,315	$	72,975	$	94,606

(1) Payments and settlements include payments for management fees and correspondent production activities itemized in the preceding tables and netting settlements made pursuant to master netting agreements between the Company and PMT.

Amounts due from PMT are summarized below:

	September 30, 2014		December 31, 2013
	(in thousands)
Management fees	$	9,623	$	8,924
Servicing fees	6,942		5,915
Allocated expenses	3,360		2,009
Underwriting fees	1,495		1,788
	$	21,420	$	18,636

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The Company also holds an investment in PMT in the form of 75,000 common shares of beneficial interest as of September 30, 2014 and December 31, 2013. The common shares of beneficial interest had fair values of $1.6 million and $1.7 million as of September 30, 2014 and December 31, 2013, respectively.

Of the $104.8 million and $81.2 million payable to PMT, $100.5 million and $75.2 million represent deposits made by PMT to fund servicing advances made by the Company on PMT’s behalf as of September 30, 2014 and December 31, 2013, respectively.

Investment Funds

Amounts due from the Investment Funds are summarized below:

	September 30, 2014		December 31, 2013
	(in thousands)
Carried Interest due from Investment Funds:
PNMAC Mortgage Opportunity Fund, LLC	$	40,845	$	37,702
PNMAC Mortgage Opportunity Fund Investors, LLC	26,190		23,440
	$	67,035	$	61,142

Receivable from Investment Funds:
Management fees	$	1,755	$	2,031
Loan servicing fees	545		727
Expense reimbursements	220		21
Loan servicing rebate	182		136
	$	2,702	$	2,915

Amounts due to the Investment Funds totaling $35.9 million and $36.9 million represent amounts advanced by the Investment Funds to fund servicing advances made by the Company as of September 30, 2014 and December 31, 2013, respectively.

Exchanged Private National Mortgage Acceptance Company, LLC Unitholders

As discussed in Note 1, Organization and Basis of Presentation, the Company entered into a tax receivable agreement with PennyMac’s existing unitholders on the date of the IPO that will provide for the payment by PFSI to PennyMac’s exchanged unitholders an amount equal to 85% of the amount of the benefits, if any, that PFSI is deemed to realize as a result of (i) increases in tax basis resulting from such unitholders’ exchanges and (ii) certain other tax benefits related to entering into the tax receivable agreement, including tax benefits attributable to payments under the tax receivable agreement. Based on the PennyMac unitholder exchanges to date, the Company has recorded a $75.9 million Payable to exchanged Private National Mortgage Acceptance Company, LLC unitholders under tax receivable agreement and it has not made any payments under such agreement as of September 30, 2014.

Note 4—Earnings Per Share of Common Stock

Basic earnings per share of common stock is determined using net income attributable to the Company’s common stockholders divided by the weighted average number of shares of common stock outstanding during the period. Diluted earnings per share of common stock is determined by dividing net income attributable to the Company’s common stockholders by the weighted average number of shares of common stock outstanding, assuming all potentially dilutive shares of common stock were issued.

The Company applies the treasury stock method to determine the dilutive weighted average shares of common stock represented by the unvested stock-based compensation awards and the exchangeable PennyMac Class A units. The diluted earnings per share calculation assumes the exchange of these PennyMac Class A units for shares of common stock. Accordingly, earnings attributable to the Company’s common stockholders is also adjusted to include the earnings allocated to the PennyMac Class A units after taking into account the income taxes applicable to the shares of common stock assumed to be exchanged.

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The following table summarizes the basic and diluted earnings per share calculations:

	Quarter ended September 30,				Nine months ended September 30,
	2014		2013		2014		2013
	(in thousands, except per share data)
Basic earnings per share of common stock:
Net income attributable to PennyMac Financial Services, Inc. common stockholders	$	10,489	$	5,197	$	28,079	$	7,990
Weighted-average shares of common stock outstanding	21,432		17,958		21,149		16,042
Basic earnings per share of common stock	$	0.49	$	0.29	$	1.33	$	0.50

Diluted earnings per share of common stock:
Net income	$	10,489	$	5,197	$	28,079	$	7,990
Effect of net income attributable to noncontrolling interest, net of income taxes	26,620		15,685		72,374		29,595
Diluted net income attributable to common stockholders	$	37,109	$	20,882	$	100,453	$	37,585
Weighted-average shares of common stock outstanding	21,432		17,958		21,149		16,042
Dilutive shares:
PennyMac Class A units exchangeable to common stock	53,492		56,524		53,569		58,440
Non-vested PennyMac Class A units issuable under unit-based stock compensation plan and exchangeable to common stock	975		1,364		1,155		1,364
Shares issuable under stock-based compensation plans	50		30		45		21
Diluted weighted-average shares of common stock outstanding	75,949		75,876		75,918		75,867
Diluted earnings per share of common stock	$	0.49	$	0.28	$	1.32	$	0.50

Note 5—Loan Sales and Servicing Activities

The Company purchases and sells mortgage loans in the secondary mortgage market without recourse for credit losses. However, the Company maintains continuing involvement with the loans in the form of servicing arrangements and the liability under representations and warranties it makes to purchasers and insurers of the loans.

The following table summarizes cash flows between the Company and transferees as a result of the sale of mortgage loans in transactions where the Company maintains continuing involvement with the mortgage loans (primarily the obligation to service the loans on behalf of the loans’ owners or owners’ agents):

	Quarter ended September 30,					Nine months ended September 30,
	2014		2013			2014		2013
	(in thousands)
Cash flows:
Sales proceeds	$	5,345,227	$	4,515,106		$	13,367,272	$	13,210,810
Servicing fees received	$	30,609	$	16,403		$	78,075	$	38,104
Net servicing advances (recoveries)	$	6,520	$	(717	)	$	2,182	$	(4,375	)
Period end information:
Unpaid principal balance of loans outstanding at end of period	$	33,297,161	$	22,776,613
Delinquencies:
30-89 days	$	662,863	$	380,070
90 days or more or in foreclosure or bankruptcy	$	168,503	$	247,269

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The Company’s mortgage servicing portfolio is summarized as follows:

	September 30, 2014
	Servicing rights owned		Contract servicing and subservicing		Total loans serviced
	(in thousands)
Investor:
Non affiliated entities	$	60,865,411	$	—	$	60,865,411
Affiliated entities	—		38,000,767		38,000,767
Mortgage loans held for sale	1,217,599		—		1,217,599
	$	62,083,010	$	38,000,767	$	100,083,777
Amount subserviced for the Company	$	643,612	$	279	$	643,891
Delinquent mortgage loans:
30 days	$	1,224,346	$	265,802	$	1,490,148
60 days	475,806		124,884		600,690
90 days or more	1,257,724		1,033,379		2,291,103
	2,957,876		1,424,065		4,381,941
Loans pending foreclosure	335,121		1,526,415		1,861,536
	$	3,292,997	$	2,950,480	$	6,243,477
Custodial funds managed by the Company (1)	$	1,325,037	$	476,909	$	1,801,946

	December 31, 2013
	Servicing rights owned		Contract servicing and subservicing		Total loans serviced
	(in thousands)
Investor:
Non affiliated entities	$	44,969,026	$	—	$	44,969,026
Affiliated entities	—		31,632,718		31,632,718
Private investors	969,794		89,361		1,059,155
Mortgage loans held for sale	506,540		—		506,540
	$	46,445,360	$	31,722,079	$	78,167,439
Amount subserviced for the Company	$	156,347	$	582,610	$	738,957
Delinquent mortgage loans:
30 days	$	1,304,054	$	263,518	$	1,567,572
60 days	346,912		112,275		459,187
90 days or more	605,555		1,416,498		2,022,053
	2,256,521		1,792,291		4,048,812
Loans pending foreclosure	168,776		1,792,128		1,960,904
	$	2,425,297	$	3,584,419	$	6,009,716
Custodial funds managed by the Company (1)	$	568,161	$	246,587	$	814,748

(1) Borrower and investor custodial cash accounts relate to loans serviced under the servicing agreements and are not recorded on the Company’s consolidated balance sheets. The Company earns interest on custodial funds it manages on behalf of the loans’ investors, which is recorded as part of the interest income in the Company’s consolidated statements of income.

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Following is a summary of the geographical distribution of loans included in the Company’s servicing portfolio for the top five and all other states as measured by the total unpaid principal balance (“UPB”):

State	September 30, 2014		December 31, 2013
	(in thousands)
California	$	33,373,669	$	30,320,616
Texas	6,299,566		4,470,123
Virginia	5,831,547		3,769,683
Florida	4,998,805		3,416,274
Washington	3,658,408		2,760,900
All other states	45,921,782		33,429,843
	$	100,083,777	$	78,167,439

Certain of the loans serviced by the Company are subserviced on the Company’s behalf by other mortgage loan servicers. Loans are subserviced for the Company on a transitional basis for loans where the Company has obtained the rights to service the loans but servicing of the loans has not yet transferred to the Company’s servicing system.

Note 6—Netting of Financial Instruments

The Company uses derivative financial instruments to manage exposure to interest rate risk for the interest rate lock commitments (“IRLCs”) it makes to purchase or originate mortgage loans at specified interest rates, its inventory of mortgage loans held for sale and mortgage servicing rights (“MSRs”). The Company has elected to present net derivative asset and liability positions, and cash collateral obtained from (or posted to) its counterparties when subject to a master netting arrangements that are legally enforceable on all counterparties in the event of default. The derivatives that are not subject to a master netting arrangement are IRLCs.

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Following are summaries of derivative assets and related netting amounts.

Offsetting of Derivative Assets

	September 30, 2014								December 31, 2013
	Gross amount of recognized assets		Gross amount offset in the balance sheet			Net amount of assets in the balance sheet			Gross amount of recognized assets		Gross amount offset in the balance sheet			Net amount of assets in the balance sheet
	(in thousands)
Derivatives subject to master netting arrangements:
MBS put options	$	625	$	—		$	625		$	665	$	—		$	665
MBS call options	227		—			227			91		—			91
Forward purchase contracts	5,686		—			5,686			416		—			416
Forward sale contracts	1,273		—			1,273			18,762		—			18,762
Put options on Eurodollar futures	1,713		—			1,713			—		—			—
Call options on Eurodollar futures	1,050		—			1,050			—		—			—
Netting	—		(5,865		)	(5,865		)	—		(7,358		)	(7,358		)
	10,574		(5,865		)	4,709			19,934		(7,358		)	12,576
Derivatives not subject to master netting arrangements - IRLCs	23,691		—			23,691			8,964		—			8,964
	$	34,265	$	(5,865	)	$	28,400		$	28,898	$	(7,358	)	$	21,540

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Derivative Assets, Financial Assets, and Collateral Held by Counterparty

The following table summarizes by significant counterparty the amount of derivative asset positions after considering master netting arrangements and financial instruments or cash pledged that do not meet the accounting guidance qualifying for netting.

	September 30, 2014								December 31, 2013
			Gross amount not offset in the consolidated balance sheet								Gross amount not offset in the consolidated balance sheet
	Net amount of assets in the balance sheet		Financial instruments		Cash collateral received		Net amount		Net amount of assets in the balance sheet		Financial instruments		Cash collateral received		Net amount
	(in thousands)
Interest rate lock commitments	$	23,691	$	—	$	—	$	23,691	$	8,964	$	—	$	—	$	8,964
RJ O’Brien	2,313		—		—		2,313		—						—
Bank of America, N.A.	721		—		—		721		1,680						1,680
Jefferies & Co.	626		—		—		626		627						627
Multi-Bank	207		—		—		207		—		—		—		—
Morgan Stanley Bank, N.A.	169		—		—		169		1,704		—		—		1,704
Credit Suisse First Boston Mortgage Capital LLC	—		—		—		—		2,149		—		—		2,149
Daiwa Capital Markets Inc.	—		—		—		—		1,190		—		—		1,190
Others	673		—		—		673		5,226		—		—		5,226
	$	28,400	$	—	$	—	$	28,400	$	21,540	$	—	$	—	$	21,540

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Offsetting of Derivative Liabilities and Financial Liabilities

Following is a summary of net derivative liabilities and assets sold under agreements to repurchase and related netting amounts. As discussed above, all derivatives with the exception of IRLCs are subject to master netting arrangements. The mortgage loans sold under agreements to repurchase do not qualify for netting.

	September 30, 2014								December 31, 2013
	Gross amount of recognized liabilities		Gross amount offset in the consolidated balance sheet			Net amount of liabilities in the consolidated balance sheet			Gross amount of recognized liabilities		Gross amount offset in the consolidated balance sheet			Net amount of liabilities in the consolidated balance sheet
	(in thousands)
Derivatives subject to a master netting arrangement:
Forward purchase contracts	$	645	$	—		$	645		$	6,542	$	—		$	6,542
Forward sale contracts	9,655		—			9,655			504		—			504
Netting	—		(6,915		)	(6,915		)	—		(6,787		)	(6,787		)
	10,300		(6,915		)	3,385			7,046		(6,787		)	259
Derivatives not subject to a master netting arrangement - IRLCs	1,055		—			1,055			2,203		—			2,203
Total derivatives	11,355		(6,915		)	4,440			9,249		(6,787		)	2,462
Mortgage loans sold under agreements to repurchase	929,747		—			929,747			471,592		—			471,592
	$	941,102	$	(6,915	)	$	934,187		$	480,841	$	(6,787	)	$	474,054

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Derivative Liabilities, Financial Liabilities, and Collateral Held by Counterparty

The following table summarizes by significant counterparty the amount of derivative liabilities and mortgage loans sold under agreements to repurchase after considering master netting arrangements and financial instruments or cash pledged that does not qualify under the accounting guidance for netting. All assets sold under agreements to repurchase are secured by sufficient collateral or have fair value that exceeds the liability amount recorded on the consolidated balance sheets.

September 30, 2014

December 31, 2013