Monday, September 8, 2008

GMAC to Shrink ResCap Business

Residential Capital LLC hopes a $1 billion facelift will revive the struggling mortgage lender.

But the nips and tucks -- including cutting jobs, closing offices and exiting from business lines -- will sharply curtail ResCap's ability to lend and its potential to earn money.

ResCap's plan to slash expenses, announced Wednesday, could lead to savings of $1 billion each year starting in 2009, according to a company official. In 2007, it had total expenses of $3.86 billion, so a reduction of $1 billion would shave more than a quarter off ResCap's noninterest costs -- an ambitious goal.

The company, one of the nation's largest lenders to borrowers with patchy credit, and its parent, GMAC Financial Services, have been struggling to turn around ResCap's fortunes. The company has suffered as more homeowners in the U.S. fall behind on their mortgages and property values continue declining.

ResCap, which has bled red ink for the past seven quarters, lost $4.3 billion in 2007.

GMAC, the financing arm of General Motors Corp., is part-owned by the auto maker after a consortium led by private-equity firm Cerberus Capital Management LP, parent of Chrysler LLC, bought 51% of GMAC in 2006 for about $14 billion. GMAC has spent time and funds restructuring the firm, including capital injections, prior job cuts and an overhaul of the business. But the losses have continued to mount at ResCap.

"When you haven't earned money since the third quarter of 2006, a billion dollars is very significant and important," said Jack Bartko, a director in the financial-institutions group at Standard & Poor's. "But the question for us is, after you complete these actions and have rationalized your infrastructure, what business model are you left with? And what kind of profit margins are you looking at?" he said.

GMAC and ResCap said Wednesday that all 200 GMAC Mortgage retail offices would be shut and ResCap will shed 5,000 jobs -- or 60% of its work force -- by year's end. ResCap will also stop making home loans through third-party brokers.

"We are refocusing on parts that have a stronger business case," said Gina Proia, a GMAC spokeswoman.

The moves will leave ResCap focusing solely on prime mortgages -- or loans to those with stellar credit -- that are bought by Fannie Mae and Freddie Mac. While a safe business bet, profit margins in this line of work are razor thin, with loan volume being a big determinant of income.

"In large part, ResCap did have scale, but across a much broader product spectrum," said Mr. Bartko. Now, ResCap "is limiting itself to the narrowest of products in terms of margin. This raises questions of profitability even with scale."

ResCap's servicing business, from which it earned $379 million in fees in the second quarter, isn't affected by the moves. The company has said it will continue to expand this line.

The mortgage lender expects to record charges of $90 million to $120 million in connection with its most recent efforts to cut expenses. The majority of charges will likely occur in the third quarter.

ResCap's $1.86 billion second-quarter loss accounted for roughly three-quarters of the red ink at GMAC. Earlier this year, ResCap extended its debt maturities, giving it more time to turn its ailing operations around.

After completing an ambitious refinancing in the second quarter, ResCap now has $275 million of debt maturing in 2008 and $618 million in 2009. If that refinancing hadn't been successful, ResCap would have had to pay back $4 billion of debt in 2008 and $2.5 billion of debt in 2009 -- a burden that could have left the company insolvent. ResCap now has $3.65 billion of debt due in 2010.

GM shares ended Wednesday at $11.27, up 62 cents, or 5.8%, in 4 p.m. New York Stock Exchange composite trading.

Write to Aparajita Saha-Bubna at Aparajita.Saha-Bubna@dowjones.com



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