Updated and detailed analysis on LPS

Last week I told you about my newest short, Apollo Group, Inc. APOL +3.08% . New ideas are great but that doesn’t mean we take our eye off our slightly more vintage ones. With that in mind there are pretty significant developments at Lender Processing Services, Inc. LPS +0.07% that merit us taking stock of our short position.

Back in March I told you that if you believed the housing crisis was still sputtering up fraud, then shorting LPS was the way to go. I introduced you to MERS, a mortgage recording system invented by the mortgage industry to circumvent local legal protections, that LPS used to process 50% of the volume of home loans. I wrote at the time:

This means they are supposed to check signatures, verify title, organize lien preferences and keep ongoing, secure records. What about the last five years makes you believe that’s what happened?

I was talking about the robo-signing mess, where fiduciaries of all stripes never actually looked at documents they were certifying. Robo-signing was just starting to enter the lexicon, but it took a while for a scandal weary public (and market) to appreciate the scope of what was going on, that a whole industry of loan processors and foreclosures mills were still standing, years after lenders and investment banks had gone under.

But the story is well-understood now. LPS is down better than 55% since we initiated our short. Legal challenges that were just percolating in March have fully bloomed. Attorneys Generals in Michigan, Ilinois, California and Florida all launched investigations, knocking LPS’s stock down with each new round of subpoenas. And showing no tact whatsoever LPS went ahead and hired away staff members from the Florida AG’s office, spurring yet another investigation. Amazing right? When times are good no one cares about the revolving door between the judiciary and private sector, but ask anyone who bought a home in Florida in the last decade if times are good. Shouldn’t be too surprising then that CEO Jeff Carbiener, who claimed “the ultimate outcomes of these inquiries will not have a negative material impact on our business or the results of operations” was put out to pasture.

Lender Processing Services, Dow Industrials, S&P 500 Index (1-Year)

Losing a CEO probably didn’t match the pain of LPS’s business model crumbling before its very eyes. LPS used to tout itself as a countercyclical stock that it would actually make money when things were bad and they could take a fee from moving around all that default paper. Yeah, that hasn’t happened. The foreclosure pipeline is totally wrecked right now, the tide has shifted and no party wants expediency if it means negative press for wrongly kicking out grandma (notice I said they don’t want to be caught, not that they don’t want to do it). Even record low interest rates and modest upticks in refinancing haven’t saved LPS’s revenue picture being decimated by anemic housing starts. LPS has lowered or missed expectations, top and bottom line, 5 quarters in a row. For Q4 LPS actually guided above analyst estimates.

Don’t be fooled, this company has no idea that it is at risk of not being a going concern.

Oh and then there’s last Friday (12.16) when LPS gapped down better than 17%. In the most serious legal challenge to date, Nevada’s AG sued LPS for having been “engaged in a pattern and practice of deceptive conduct that willfully misled consumers, courts and the public, resulting in countless foreclosures that were predicated upon false, deceptive and deficient documents that [the company] prepared and/or executed,” (that’s legalese for “we are paying attention after the fact”). The complaint begins by mentioning that Nevada had the highest foreclosure rate for the 58th month in a row; that’s nearly 5 years for anyone keeping track, pre-dating the financial/employment/political/sovereign debt crisis. To be sure plenty of Nevada borrowers are in dire straits because they levered up irresponsibly — but that doesn’t means they should be subject to criminal conduct. LPS is the ultimate scapegoat because they are actually the epicenter of this morass, a key enabler of the banks, much like the rating agencies. But unlike the banks they are neither too-big-too-fail nor integral to corporate finance like the ratings agencies. Absolutely no one is in their corner.

If you’ve read my writing before it would be natural to ask if I’m still short the name. I have a contrarian streak and like to flip-it when the prevailing sentiment shifts dramatically. But with LPS, as I mentioned to TradingWithCody.com subscribers last week, I’m not covering a single share or selling a single put yet. There are several catalysts I see further knocking down the stock.

First, in the coming months I believe New York & New Jersey’s AG’s (both huge housing markets) and Delaware AG’s (where LPS is domiciled) will bring some kind of action against LPS. This should be good for the evaporation of another couple hundred million in market cap. Second, and this is almost too good to be true, LPS pays a dividend. Yes, it’s only 10 cents, but like everything else having to do with the company, it’s at risk. Shareholders who have held on because they’ve been getting yield since 2008 will bail out in droves when their income is subverted to pay legal fees. Most importantly I’m staying short because LPS is a holdover from go-go housing times, when creating a parallel legal system to streamline the lending process could be considered a good idea. Last year legislation was quashed that would have validated electronic signatures and notarizations on mortgage documents across state lines.

When even MERS is on its way out, why should the company that makes money from MERS continue on?