Home Capital Group Inc.’s shares plunged Thursday, erasing about $300-million in market value, as investors weighed the potential damage from regulatory action against the company, one of Canada’s biggest alternative mortgage lenders.
The Ontario Securities Commission accused Home Capital of making “materially misleading statements” to investors and named its current chief financial officer and two former chief executive officers in a statement of allegations released late Wednesday. By withholding information about fraud by mortgage brokers in its broker channel, Home Capital allegedly violated securities laws, the securities regulator said.
On Thursday, investors fretted about the potential financial hit the company could take as a result of possible OSC sanctions and other negative impacts on the business, analysts said.
The OSC allegations “could cause material damage to the company’s reputation,” National Bank analyst Jaeme Gloyn wrote in a note to clients. Among the other repercussions, Mr. Gloyn raised concerns about a possible downgrade on the company’s debt, weaker funding capabilities and softer loan growth.
The shares, which had been heavily shorted in recent months, closed down 20.6 per cent. Home Capital, a former stock market star, has lost roughly 55 per cent of its value in the past 12 months. The company’s bonds also took a modest hit.
“The company believes that its disclosure satisfied applicable disclosure requirements, and the allegations are without merit,” Home Capital said in a release late on Wednesday. “The allegations will be vigorously defended.”
None of the allegations has been proven.
A number of analysts cut their ratings and target prices on the company’s stock Thursday, including Brenna Phelan with Raymond James. “Our previously positive outlook on the stock was based on improving underlying business fundamentals, specifically in its non-prime mortgage business,” she wrote in a note to clients. “Incremental information from the OSC’s Statement of Allegations leads us to believe that continued improvement may not be achievable due mainly to an inability to obtain cost-effective funding.”
Mr. Gloyn, who already had an underperform rating on the stock, reduced his target to $23 a share from $27.
According to the OSC, former Home Capital chief executive Gerald Soloway and then-president Martin Reid failed to disclose material information they had learned after an internal investigation, dubbed Project Trillium, which concluded in February, 2015. The probe found that certain mortgage brokers in its network were submitting fraudulent employment-income documentation. The OSC also alleges that CFO Robert Morton violated securities law by certifying financial reports that omitted material facts.
“From February, 2015 until July, 2015, Home Capital misled its shareholders as to the immediate and on-going causes of the decline in [mortgage] originations,” the OSC wrote in its statement of allegations.
Mr. Soloway stepped down from the company in May, 2016, but remains a board member and a significant shareholder. Mr. Gloyn said there may be a push among investors for Mr. Soloway to give up his board seat. “Mr. Soloway remains a member of the board,” said Boyd Erman, a spokesman for the company.
Mr. Reid, who succeeded Mr. Soloway, was fired in March, not long after the company disclosed that a number of its current and former executives had been served with enforcement notices from the OSC – the first indication that the regulator was investigating the company’s disclosure practices.
Among the sanctions the OSC could levy against Home Capital if the matter goes against the company are penalties of $1-million for each failure to comply with securities laws.
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Home Capital Group “became aware of irregularities” associated with certain mortgage applications and launches an investigation in August, the OSC says.
Feb. 11, 2015
HCG files annual financial statements for 2014 and blames a decline in mortgage originations on “external vagaries such as macroeconomics, seasonality and competitive markets,” according to the OSC.
February, 2015 – July 2015
HCG “knew it had terminated certain brokers because it had discovered fraud in HCG’s broker channels,” but didn’t disclose its findings to shareholders, according to the OSC.
HCG’s chair of the audit committee receives a “Whistleblower memorandum” from a vice-president of HCG concerning the failure to disclose the findings of fraud.
July 10, 2015
HCG for the first time publicly announces an internal review of its business partners led to the termination of relationships with certain brokers, which caused the drop in originations. HCG shares fall 19 per cent the next day.
Feb. 29, 2016
HCG announces that co-founder and CEO Gerald Soloway plans to retire.
March 14, 2017
HCG discloses that the OSC served several current and former executives with enforcement notices concerning disclosure.
March 27, 2017
HCG terminates CEO Martin Reid.
April 19, 2017
OSC files disclosure allegations against HCG, Gerald Soloway, CFO Robert Morton and Martin Reid.