Restatement related to sale of embedded derivatives
By MortgageDaily.com staff
2/22/2005

Countrywide Financial Corp. has restated its unaudited earnings -- moving a portion of income from 2004 to 2005. The restatement reflects a change in its recognition of gain on sale earnings.

The Calabasas, Calif.-based lender announced Tuesday the change in the timing for the gain on sale from certain securitizations originally recognized during 2004. The net effect of the change on previously announced unaudited 2004 earnings was a reduction of $0.20 to $3.63 per diluted share. A corresponding estimated increase of $0.20 per diluted share is to be recognized in the first quarter of 2005.

Consequently, Countrywide boosted its 2005 guidance to a range of $3.45 to $4.45 per diluted share, according to the announcement.

The revisions are the result of certain mortgage-backed securities Countrywide created last year that contained embedded derivatives designed to protect rated security holders from extreme changes in short-term interest rates and, or, to enhance the credit rating of the securities, the announcement said.

At the end of each quarter last year, a small amount of these embedded securities were not sold by a Countrywide affiliate. These retained securities at each quarter end ranged from 0.1 percent to 2.2 percent of the principal balance of the related loans securitized.

Countrywide said it believed that recording these transactions as sales fully complied with all applicable accounting principles.

On Friday, however, its independent auditor, KPMG LLP, reportedly informed the company that all securities containing the embedded derivatives needed to have been completely sold before any portion of the sale could be recognized. Countrywide said it then revised its recognition of gain on sale accordingly, based on an interpretation of Statement of Financial Accounting Standards No. 140, Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities, which provides standards for gain on sale accounting.

The lender said the revision will result in the reporting of a material weakness in internal controls over financial reporting in its 2004 annual report on Form 10-K.

But Countrywide said it has modified its securities distribution practices so that it will not hold securities that contain embedded derivatives at each quarter end.

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