Conseco: Losses, Downgrade Won’t Push Us Out of Prefab

Despite the growing aversion among lenders and analysts for manufactured housing, Conseco Inc. says its support for the business is not wavering.

“There is nothing I hear that scares me,” said Walt Carter, the president of its manufactured housing division. “We are more committed to manufactured housing than we ever have been.” Even in the face of a recession and a four-year slump in prefab lending, which began about the same time Conseco entered the business, Mr. Carter said he is determined to ride out the storm. “The future is bright.”

Not everyone shares Mr. Carter’s sense of commitment to the business, which has been battered in recent years.

On Jan. 3 officials at GreenPoint Financial Corp. — a significant player in the manufactured housing business — abruptly announced a retreat from the market. GreenPoint said it could not generate the profits it needs from the business and was unfairly punishing investors by staying in it.

Just one day later, citing poorly performing manufactured housing loans and broad problems with the industry, Colin Devine, an analyst for Citigroup Inc.’s Salomon Smith Barney, downgraded Conseco’s shares from “underperform” to “sell.” The downgrade sent Conseco’s shares down more than 20% in trading — and opened a debate over the company’s future in the sector.

Conseco executives responded emphatically, stating they are staying the course. Mr. Carter is determined to steer clear of problems that put several prefab lenders and retailers out of business in recent years and left Conseco severely scarred.

Mr. Carter, 50, is a 27-year veteran of the consumer finance business. In the four months since taking charge of the Conseco unit, he said he has adopted a mortgage banker’s approach to the business. The company is focusing on pricing discipline, offering a broader array of products and giving partners more flexibility, he said.

In several interviews over the last week, Mr. Carter said Conseco has sophisticated pricing engines which enable it to maintain pricing discipline, excellent controls for credit quality at the underwriting stage, proven loss mitigation techniques, and “the best people leading the manufactured housing division.”

More important, once the economy improves, Mr. Carter said he expects demand for manufactured homes to grow. More than 20% of single-family housing starts last year were manufactured homes, according to a presentation he gave to investors last November. That translates into an annual origination market of over $12 billion, he said.

In addition, Mr. Carter said Conseco holds an advantage over its competitors, because it is the biggest player in the prefab lending business, and it is continuing to gain ground as more lenders exit the business. Conseco financed 20% of new manufactured homes last year, and even though originations will remain flat this year, Mr. Carter told investors last fall that he expects Conseco’s market share to grow to 25% in the coming years, he said.

The market for manufactured homes grew at a frenzied pace from 1996 to 1998, and industry observers say that, as competition for consumers grew, lenders slashed their underwriting standards for a piece of the pie. Conseco entered the market in April of 1998, when it purchased Green Tree Financial Corp. of St. Paul for $6.44 billion. (Just one week later GreenPoint bought BankAmerica Housing Services for $603 million.)

The landscape turned particularly bleak in 1999, when the newest borrowers, many with spotty credit, began defaulting on their loans. Repossessed homes created a supply glut that forced scores of lenders and retailers, including IndyMac Bancorp, United Cos., Access Financial Corp., and Bombardier Capital Inc., out of the business.

Conseco lost over $1 billion in 2000 and another $349 million in the first nine months of last year. Conseco’s stock, which traded at $50 in the months leading up to the Green Tree purchase, began falling almost immediately after the deal was announced. This week the shares were trading at just above $3.

Jenine Potolsky, a managing director at Fitch Inc., said the prefab housing business has gone through cycles over the years, “but this is one of the worst, if not the worst, ever seen.”

Still, even some who opted to exit the business seemed to share a sense that, eventually, the profits would return to prefab lending. Indeed, Thomas Johnson, the chief executive officer of GreenPoint, told a Salomon Smith Barney investment forum Tuesday that if his company were three times bigger, it might have stayed in.

“Somebody will make money in this business” sooner or later, he said. “Someday a model will probably emerge that is profitable, but we didn’t think we could suffer any longer.”

At Conseco, Mr. Carter says the pain the company has suffered has taught it a lasting lesson on underwriting standards.

“The lessons learned from the past are painful,” he said. “They’re documented. We shared the pain that the manufacturers have, so the remembrance of this pain is not going to go away.”

Mr. Devine’s downgrade, of course, riled Conseco. In a letter to shareholders the next day, Mark Lubbers, its executive vice president of corporate affairs, called the analyst’s methodology “absurd” and reiterated Conseco’s commitment to manufactured housing.

But in an interview last week, Mr. Devine said the sector as a whole “continues to face a lot of challenges tied to oversupply and credit quality problems from loans made in the past couple years.” Whether or not it can be profitable going forward, “time will tell,” he said.

The performance of Conseco’s manufactured housing securitization pools is worsening and will continue to worsen in the near future, he said. “Problem loan levels continue to set new records each month.”

Seven percent or more of the loans underlying Conseco’s manufactured loan pools that were securitized in 1999 and 2000 have hit the 60-day delinquency-repossessed threshold, a key measure of credit quality, Mr. Devine said. In the past the maximum percentage for Conseco’s pools was 4%, he said.

Furthermore, the percentage of problem loans in Conseco’s 2001 pools has risen faster than in previous years, according to Mr. Devine. “Who knows whether their loans going forward will be profitable? But the stuff they’ve done has been so bad that that’s what’s causing the company the financial stress they’re in.”

While acknowledging the challenges — and saying that Conseco’s losses will remain at their current level for a while — Mr. Carter says he is optimistic about its future.

The whole industry, including manufacturers, retailers, and lenders, have “taken a focus of quality and a discipline to the business from the lessons learned in the past,” Mr. Carter said. If Conseco prices its loans well, it can make underwriting very predictable and become “very successful” in prefab housing, he said.

While the manufactured housing business is currently in a trough, “we will see movement north over the next 18 to 24 months,” he said.

As for the competitors that have left the business, Mr. Carter was candid: “They had failed business models. … We have been able to manage through a difficult time better than the other companies, so we think we have a very well-founded business model, and we have the ability to execute against it. I’ve never talked to the people who have failed the business or exited the business.”

According to a January research report by J.P. Morgan Securities Inc., Conseco posted better cumulative loss numbers on its 2000 securitizations than competitors. In December 2001 Conseco’s credit losses represented 1.22% of the loans underlying its 2000 securitization pools, whereas Greenpoint’s were 3.20%, Bombardier’s were 4.01%, and Oakwood Mortgage Services posted 1.30% in losses.

Conseco similarly outperformed rivals in 1999. As of December 2001, losses on its 1999 securitizations represented only 2.9% of underlying pools, whereas Greenpoint’s were 8.67%, Bombardier’s were 6.08%, and Oakwood’s 3.15%.

Mr. Carter also says he does not feel added pressure from the much broader turnaround efforts underway at Conseco.

“I don’t understand what pressure means,” he said. “We have a documented business plan. I am committed to it. The word’s not pressure, it’s commitment.”