10-Q 1 v24525e10vq.htm FORM 10-Q e10vq
Table of Contents

 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 
 
 
 
Form 10-Q
 
 
     
þ
  QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
    For the quarterly period ended September 30, 2006
or
o
  TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
    For the transition period from          to          
 
Commission file number 1-8972
 
Indymac Bancorp, Inc.
(Exact name of registrant as specified in its charter)
 
 
     
Delaware   95-3983415
(State or other jurisdiction of
incorporation or organization)
  (I.R.S. Employer
Identification No.)
     
888 East Walnut Street,
Pasadena, California
  91101-7211
(Zip Code)
(Address of principal executive offices)    
 
 
(Registrant’s telephone number, including area code)
(800) 669-2300
 
 
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.  Yes þ     No o
 
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act. (Check one):
 
Large accelerated filer þ     Accelerated filer o     Non-accelerated filer o
 
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  Yes o     No þ
 
Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.
 
Common stock outstanding as of October 27, 2006: 70,871,489 shares
 


 

FORM 10-Q QUARTERLY REPORT
For the Period Ended September 30, 2006
 
TABLE OF CONTENTS
 
             
        Page  
PART I.  FINANCIAL INFORMATION
    Forward-Looking Statements     2  
  Management’s Discussion and Analysis of Financial Condition and Results of Operations     2  
    Highlights     2  
    Summary of Business Segment Results     7  
    Product Profitability Analysis     13  
    Loan Production     23  
    Loan Sales     28  
    Mortgage Servicing and Other Retained Assets     30  
    Mortgage-Backed Securities and Loans Held for Investment     39  
    Net Interest Margin     45  
    Interest Rate Sensitivity     48  
    Credit Risk and Reserves     50  
    Expenses     54  
    Share Repurchase Activities     55  
    Future Outlook     55  
    Liquidity and Capital Resources     55  
    Off-Balance Sheet Arrangements     59  
    Aggregate Contractual Obligations     60  
    Critical Accounting Policies and Judgments     60  
    Regulatory Updates     60  
  Quantitative and Qualitative Disclosures About Market Risk     61  
  Financial Statements (Unaudited)     62  
    Consolidated Balance Sheets     62  
    Consolidated Statements of Earnings     64  
    Consolidated Statements of Shareholders’ Equity and Comprehensive Income     65  
    Consolidated Statements of Cash Flows     66  
    Notes to Consolidated Financial Statements     67  
  Controls and Procedures     76  
 
  Legal Proceedings     76  
  Risk Factors     76  
  Unregistered Sales of Equity Securities and Use of Proceeds     76  
  Other Information     76  
  Exhibits     77  
 EXHIBIT 4.1
 EXHIBIT 4.2
 EXHIBIT 10.1
 EXHIBIT 31.1
 EXHIBIT 31.2
 EXHIBIT 32.1
 EXHIBIT 32.2


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FORWARD-LOOKING STATEMENTS
 
Certain statements contained in this Form 10-Q may be deemed to be forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. Forward-looking statements include statements regarding our financial condition, results of operations, plans, objectives and future performance and business. Forward-looking statements typically include the words “anticipate,” “believe,” “estimate,” “expect,” “project,” “plan,” “forecast,” “intend,” and other similar expressions. These statements reflect our current views with respect to future events and financial performance. They are subject to risks and uncertainties which could cause future results to differ materially from historical results or from the results anticipated. Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of their dates or as of the date hereof if no other date is identified. We undertake no obligation to update or revise any forward-looking statements, whether as a result of new information, future events or otherwise. For further information on our risk factors, refer to “Risk Factors” in our quarterly report on Form 10-Q for the fiscal quarter ended March 31, 2006, filed with the SEC on April 25, 2006.
 
ITEM 2.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
 
HIGHLIGHTS
 
The following highlights the Company’s consolidated financial condition and results of operations for the three and nine months ended September 30, 2006 and 2005. The 2005 data has been retrospectively adjusted to reflect the stock option expenses under Statement of Financial Accounting Standards No.  123(R), Share-Based Payment (“SFAS No. 123(R)”). References to “Indymac Bancorp” or the “Parent Company” refer to the parent company, IndyMac Bancorp, Inc., alone, while references to “Indymac,” the “Company,” or “we” refer to the parent company and its consolidated subsidiaries. References to “Indymac Bank” or the “Bank” refer to our subsidiary IndyMac Bank, F.S.B. and its consolidated subsidiaries.
 
                                         
    Three Months Ended     Nine Months Ended  
    September 30,
    September 30,
    June 30,
    September 30,
    September 30,
 
    2006     2005     2006     2006     2005  
    (Dollars in millions, except per share data)  
 
Select Balance Sheet Information (at period end)
                                       
Cash and cash equivalents
  $ 521     $ 308     $ 165     $ 521     $ 308  
Securities (trading and available for sale)
    4,950       3,740       4,890       4,950       3,740  
Loans held for sale
    8,341       5,366       6,493       8,341       5,366  
Loans held for investment
    10,030       7,977       8,773       10,030       7,977  
Allowance for loan losses
    (61 )     (56 )     (58 )     (61 )     (56 )
Mortgage servicing rights
    1,631       941       1,599       1,631       941  
Other
    1,973       1,352       1,894       1,973       1,352  
Total Assets
    27,385       19,628       23,756       27,385       19,628  
Deposits
    10,111       7,261       9,352       10,111       7,261  
Advances from Federal Home Loan Bank
    9,333       6,621       7,070       9,333       6,621  
Other borrowings
    4,595       3,585       4,165       4,595       3,585  
Other liabilities
    1,409       664       1,366       1,409       664  
Total Liabilities
    25,448       18,131       21,952       25,448       18,131  
Shareholders’ Equity
    1,938       1,497       1,804       1,938       1,497  


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    Three Months Ended     Nine Months Ended  
    September 30,
    September 30,
    June 30,
    September 30,
    September 30,
 
    2006     2005     2006     2006     2005  
    (Dollars in millions, except per share data)  
 
Income Statement
                                       
Net interest income before provision for loan losses
  $ 137     $ 113     $ 130     $ 394     $ 315  
Provision for loan losses
    5       4       2       11       8  
Gain on sale of loans
    160       151       202       503       455  
Service fee income
    21       10       27       79       26  
Gain on mortgage-backed securities, net
    19       1       8       25       12  
Fee and other income
    14       11       12       37       26  
Net revenues
    346       283       377       1,027       825  
Operating expenses
    203       154       204       578       455  
Net earnings
    86       78       105       271       223  
Basic earnings per share(1)
    1.25       1.23       1.57       4.07       3.57  
Diluted earnings per share(2)
    1.19       1.16       1.49       3.87       3.38  
Other Operating Data
                                       
Mortgage production
  $ 23,968     $ 16,950     $ 20,060     $ 64,005     $ 42,751  
Total loan production(3)
    24,439       17,489       20,591       65,370       44,237  
Mortgage industry share(4)
    3.87 %     1.95 %     2.78 %     3.31 %     1.85 %
Pipeline of mortgage loans in process(5)
    14,556       10,333       12,527       14,556       10,333  
Loans sold
    19,508       15,539       19,415       55,632       36,727  
Loans sold/mortgage loans produced
    81 %     92 %     97 %     87 %     86 %
Mortgage loans serviced for others (as of quarter end)(6)
    124,395       73,787       109,989       124,395       73,787  
Total mortgage loans serviced (as of quarter end)
    130,807       80,484       117,417       130,807       80,484  
Average full-time equivalent headcount
    8,186       6,376       7,861       7,759       6,076  
 

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    Three Months Ended     Nine Months Ended  
    September 30,
    September 30,
    June 30,
    September 30,
    September 30,
 
    2006     2005     2006     2006     2005  
    (Dollars in millions, except per share data)  
 
Other Per Share Data
                                       
Dividends declared per share
  $ 0.48     $ 0.40     $ 0.46     $ 1.38     $ 1.14  
Dividend payout ratio(7)
    40 %     34 %     31 %     36 %     34 %
Book value per share at period end
    27.35       23.32       26.29       27.35       23.32  
Closing price per share at period end
    41.16       39.58       45.85       41.16       39.58  
Average Common Shares (in thousands)
                                       
Basic
    68,866       63,268       66,483       66,570       62,460  
Diluted
    72,286       67,100       70,213       70,009       65,908  
Performance Ratios
                                       
Return on average equity (“ROE”) (annualized)
    18.27 %     21.73 %     24.09 %     20.82 %     22.20 %
Return on average assets (“ROA”) (annualized)
    1.17 %     1.35 %     1.51 %     1.30 %     1.45 %
Net interest income to pretax income after minority interest
    95.97 %     87.95 %     75.40 %     88.11 %     85.67 %
Net interest margin
    2.13 %     2.12 %     2.12 %     2.13 %     2.22 %
Net interest margin, thrift
    2.02 %     2.07 %     2.01 %     2.03 %     2.14 %
Mortgage banking revenue (“MBR”) margin on loans sold(8)
    1.03 %     1.22 %     1.23 %     1.12 %     1.51 %
Efficiency ratio(9)
    58 %     54 %     54 %     56 %     55 %
Operating expenses to loan production
    0.83 %     0.88 %     0.99 %     0.88 %     1.03 %
Balance Sheet and Asset Quality Ratios
                                       
Average interest-earning assets
  $ 25,507     $ 21,122     $ 24,681     $ 24,734     $ 18,989  
Average equity
    1,871       1,415       1,742       1,738       1,341  
Debt to equity ratio(10)
    13.1:1       12.1:1       12.2:1       13.1:1       12.1:1  
Core capital ratio(11)
    7.60 %     7.51 %     8.24 %     7.60 %     7.51 %
Risk-based capital ratio(11)
    11.62 %     11.58 %     11.97 %     11.62 %     11.58 %
Non-performing assets to total assets
    0.51 %     0.36 %     0.49 %     0.51 %     0.36 %
Allowance for loan losses to total loans held for investment
    0.61 %     0.70 %     0.66 %     0.61 %     0.70 %
Allowance for loan losses to non-performing loans held for investment
    77.43 %     127.24 %     90.61 %     77.43 %     127.24 %
Loan Loss Activity
                                       
Allowance for loan losses to annualized net charge-offs
    8.2 x     6.7 x     8.8 x     8.8 x     7.2x  
Provision for loan losses to net charge-offs
    267.45 %     170.93 %     136.06 %     213.42 %     145.69 %
Net charge-offs (annualized) to average non-performing loans held for investment
    10.45 %     19.08 %     11.12 %     11.29 %     16.62 %
Net charge-offs (annualized) to average loans held for investment
    0.08 %     0.11 %     0.08 %     0.08 %     0.11 %
 
 
(1) Net earnings for the period divided by weighted average basic shares outstanding for the period.

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(2) Net earnings for the period divided by weighted average dilutive shares outstanding for the period.
 
(3) Includes newly originated commitments on construction loans.
 
(4) Our market share is calculated based on our total loan production, both purchased (correspondent and conduit) and originated (retail and wholesale), in all channels (the numerator) divided by the Mortgage Bankers Association (“MBA”) October 24, 2006 Mortgage Finance Long-Term Forecast estimate of the overall mortgage market (the denominator). As we review industry publications such as National Mortgage News, we have confirmed that our calculation is consistent with its methodologies for reporting market share of Indymac and our mortgage banking peers. It is important to note that these industry calculations cause purchased mortgages to be counted more than once, i.e., first when they are originated and again by the purchasers (through correspondent and conduit channels) of the mortgages. Therefore, our market share calculation may not be mathematically precise, but it is consistent with industry calculations, which provide investors with a good view of our relative standing compared to the other top mortgage lending peers.
 
(5) The amount includes $2.8 billion, $1.6 billion and $2.5 billion of non-specific rate locks on bulk purchases in our conduit channel at September 30, 2006, September 30, 2005 and June 30, 2006, respectively.
 
(6) Represents the unpaid principal balance on loans sold with servicing retained by Indymac.
 
(7) Dividends declared per common share as a percentage of diluted earnings per share.
 
(8) Mortgage banking revenue margin is calculated using the sum of consolidated gain on sale of loans and the net interest income earned on loans held for sale by our mortgage banking production divisions divided by total loans sold.
 
(9) Defined as operating expenses divided by net interest income and other income.
 
(10) Debt includes deposits.
 
(11) Ratio is for Indymac Bank and excludes unencumbered cash at the Parent Company available for investment in Indymac Bank. Risk-based capital ratio is calculated based on the regulatory standard risk weighting adjusted for the additional risk weightings for subprime loans.
 
SUMMARY OF OVERALL RESULTS
 
Three Months ended September 30, 2006
 
The Company recorded net earnings of $86.2 million, or $1.19 per share, for the third quarter of 2006. This represented an increase of 11% and 3% in net earnings and earnings per share, respectively, compared with net earnings of $77.5 million, or $1.16 per share, for the third quarter of 2005. The earnings for the third quarter of 2005 were retrospectively adjusted to reflect the stock option expenses due to the adoption of SFAS No. 123(R). Return on equity was 18% for the third quarter of 2006 compared with 22% for the third quarter of 2005.
 
Net revenues in the third quarter of 2006 were $345.6 million, reflecting an increase of 22% over the third quarter of 2005. Key drivers of this growth included the following:
 
1) Growth in average interest earning assets of 21% from $21.1 billion during the quarter ended September 30, 2005 to $25.5 billion for the quarter ended September 30, 2006, leading to an increase in net interest income of 21% to $136.7 million. Indymac’s net interest margin remained stable at 2.13% in the third quarter of 2006 compared to 2.12% in the third quarter of 2005. The increase in average interest earning assets primarily resulted from growth in production, increased retention of securities in conjunction with the sale of loans, and retention of loans in our held for investment portfolio.
 
2) Growth in our mortgage production of 41% over the third quarter of 2005 to an all-time record of $24.0 billion, representing market share of 3.87% based on the industry volume published by the MBA on October 24, 2006. The increase in production led to an increase in loans sold, a key component of net revenue, to $19.5 billion, or 81% of mortgage loans produced in the third quarter of 2006. The amount of loans sold is up 26% from $15.5 billion, or 92% of mortgage loans produced, during the third quarter of 2005. This increase in loans sold mitigated the year-over-year decline in the revenue margin on sales. Gain on sale of loans of $160.2 million increased 6% over the third quarter of 2005. Had we sold a more normal 92% level of mortgage loans produced, our third quarter 2006 earnings per share would have been higher. The MBR margin on loans


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sold was 1.03% in the third quarter of 2006, which was down from 1.22% in the third quarter of 2005, and 1.23% in the second quarter of 2006. The decline in MBR margin is mainly due to a change in channel and product mix of loans sold.
 
3) Net gain on mortgage-backed securities increased from $0.7 million in the third quarter of 2005 to $19.0 million in the third quarter of 2006. The increases in unrealized gain on prepayment penalty securities of $11.9 million, and net gain on trading securities used to hedge AAA-rated and agency interest-only and residual securities of $7.1 million, contributed 65% and 39%, respectively, to the overall increase in gain.
 
4) Service fee income of $21.1 million in the third quarter of 2006 grew 104% over the third quarter of 2005 driven by a 69% increase in the principal amount of loans serviced for others to $124.4 billion at September 30, 2006 combined with slowing prepayments as long-term interest rates have increased.
 
Operating expenses of $202.7 million also reflected a 32% increase from the third quarter of 2005, consistent with the growth in our operations and infrastructure investments to open new regional mortgage centers across the country to expand our mortgage operations platform. We had 16 regional centers at September 30, 2006, as compared to the 11 that were operational at September 30, 2005. We are opening these new regional centers as part of our strategy to expand our mortgage market share through geographic expansion.
 
Non-performing assets increased during the quarter but remained low as a percentage of total assets at 0.51% at September 30, 2006 compared to 0.36% of total assets at September 30, 2005. The allowance for loan losses currently represents 8.2 times annualized net charge-offs, up from 6.7 times at September 30, 2005. Net charge-offs (annualized) in the third quarter of 2006 represent 0.08% of average loans held for investment, down from 0.11% during the third quarter of 2005.
 
Nine Months ended September 30, 2006
 
For the nine months ended September 30, 2006, the Company’s net earnings were $270.7 million, or $3.87 per share, up 22% from $222.7 million, or $3.38 per share for the same period in 2005. The earnings for the nine months ended September 30, 2005 were also retrospectively adjusted to reflect stock option expenses resulting from the adoption of SFAS No. 123(R). Return on equity was 21% for the nine months ended September 30, 2006 compared with 22% for the nine months ended September 30, 2005.
 
Net revenues of $1.0 billion for the first nine months of 2006 reflect an increase of 25% over the first nine months of 2005. Key drivers of this growth included the following:
 
1) Growth in average interest earning assets of 30% from $19.0 billion in the first nine months of 2005 to $24.7 billion in the first nine months of 2006, leading to an increase in net interest income of 25% to $394.1 million. The increase is primarily driven by the growth in production as mentioned above. Indymac’s net interest margin declined to 2.13% from 2.22%, during a period where the Federal Reserve increased short term interest rates by 150 basis points, somewhat mitigating the impact of the average earning asset growth.
 
2) Growth in mortgage production of 50% in the first nine months of 2006 over the first nine months of 2005 to $64.0 billion, led to a 51% increase in loans sold to $55.6 billion. This volume growth outpaced a decline in the MBR margin on loans sold, which reflected a more competitive mortgage market and Indymac’s strategy to grow market share and revenue. The MBR margin on loans sold was 1.12% in the first nine months of 2006, down from 1.51% in the first nine months of 2005.
 
Included in the gain on sale of loans in the nine months of 2006 were $9.7 million of losses related to the establishment of a reserve for fraud losses on certain lot loans. The Company discovered that 45 lot loans related to two developments in Michigan and Florida were the subject of criminal fraud on the part of the developers, brokers, appraisers and closing agents. Indymac has since performed a full portfolio review and implemented a series of product guideline changes, operational changes and fraud prevention measures to mitigate future occurrences of this kind. Indymac believes there are no further incidences of fraud in its existing book of lot loans of similar size and scope.


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3) Service fee income of $79.2 million in the first nine months of 2006 grew 210% over the first nine months of 2005 driven by the increase in the principal balance of loans serviced for others combined with solid hedging performance and slowing prepayments attributable to higher mortgage rates.
 
Operating expenses of $578.1 million reflected an increase of 27%, consistent with the growth in Indymac’s revenues and operations as mentioned above. Accordingly, average full-time equivalent employees (“FTE”) increased 28% from 6,076 to 7,759 during the period supporting this growth.
 
SUMMARY OF BUSINESS SEGMENT RESULTS
 
The Company conducts business substantially through IndyMac Bank, F.S.B. via two primary operating segments, the mortgage banking and the thrift segments. These segments provide clear transparency to the two primary activities in our hybrid model: mortgage banking with high asset turn and high returns on equity, and thrift investing characterized by lower but more consistent returns on equity. Please refer to the Company’s annual report on Form 10-K for the year ended December 31, 2005 (“2005 10-K”), page 23, for further discussions of the divisions within the mortgage banking and thrift segments.
 
The tables below summarize the quarter-over-quarter performance of Indymac’s divisions. Detailed operating results for each division are provided on pages 9 to 12.
 
                                                                         
    Mortgage Banking                                
          MSRs and
                                           
          Other
    Mortgage
                      Total
             
    Production
    Retained
    Banking
                Elimination
    Operating
    Corporate
    Total
 
    Divisions     Assets     Overhead(1)     Total     Thrift     & Other     Results     Overhead     Company  
          (Dollars in thousands)  
 
Net Income Q306
  $ 68,635     $ 30,404     $ (8,899 )   $ 90,140     $ 35,232     $ (12,641 )   $ 112,731     $ (26,551 )   $ 86,180  
Net Income Q305
    64,817       9,564       (6,119 )     68,262       36,239       (4,015 )     100,486       (22,960 )     77,526  
                                                                         
$ Change
    3,818       20,840       (2,780 )     21,878       (1,007 )     (8,626 )     12,245       (3,591 )     8,654  
% Change
    6 %     218 %     (45 )%     32 %     (3 )%     (215 )%     12 %     (16 )%     11 %
Average Capital Q306
  $ 509,136     $ 401,545     $ 10,677     $ 921,358     $ 687,962     $ 1,939     $ 1,611,259     $ 260,120     $ 1,871,379  
Average Capital Q305
    415,031       189,744       10,762       615,537       546,094       1,440       1,163,071       252,290       1,415,361  
% Change
    23 %     112 %     (1 )%     50 %     26 %     35 %     39 %     3 %     32 %
ROE Q306
    53 %     30 %     N/A       39 %     20 %     N/A       28 %     N/A       18 %
ROE Q305
    62 %     20 %     N/A       44 %     26 %     N/A       34 %     N/A       22 %
% Change
    (14 )%     50 %     N/A       (12 )%     (23 )%     N/A       (19 )%     N/A       (16 )%
 
 
(1) Included production division overhead and servicing overhead of $6.2 million and $2.7 million, respectively, for the third quarter of 2006. For the third quarter of 2005, the production division overhead and servicing overhead were $4.2 million and $1.9 million, respectively.
 
                                                         
    Mortgage Banking Production Divisions  
    Mortgage Professionals Group     Consumer
    Financial
    Production
 
    Wholesale     Correspondent     Conduit     Total     Direct     Freedom     Divisions  
    (Dollars in thousands)  
 
Net Income Q306
  $ 31,800     $ 3,194     $ 17,256     $ 52,250     $ 103     $ 16,282     $ 68,635  
Net Income Q305
    43,769       8,839       4,365       56,973       864       6,980       64,817  
                                                         
$ Change
  $ (11,969 )   $ (5,645 )   $ 12,891     $ (4,723 )   $ (761 )   $ 9,302     $ 3,818  
% Change
    (27 )%     (64 )%     295 %     (8 )%     (88 )%     133 %     6 %
Average Capital Q306
  $ 192,689     $ 42,780     $ 149,894     $ 385,363     $ 8,822     $ 114,951     $ 509,136  
Average Capital Q305
    172,731       33,623       125,371       331,725       18,206       65,100       415,031  
% Change
    12 %     27 %     20 %     16 %     (52 )%     77 %     23 %
ROE Q306
    65 %     30 %     46 %     54 %     5 %     56 %     53 %
ROE Q305
    101 %     104 %     14 %     68 %     19 %     43 %     62 %
% Change
    (35 )%     (72 )%     231 %     (21 )%     (75 )%     32 %     (14 )%
 


7


Table of Contents

                                                                 
    Thrift  
                      Consumer
                         
    Mortgage-
    Prime SFR
    Home
    Construction
    Builder
                   
    Backed
    Mortgage
    Equity
    and Lot
    Construction
    Warehouse
    Discontinued
       
    Securities     Loans     Division     Loans     Financing     Lending     Products     Total Thrift  
    (Dollars in thousands)  
 
Net Income Q306
  $ 3,991     $ 11,036     $ 5,918     $ 6,652     $ 7,193     $ 211     $ 231     $ 35,232  
Net Income Q305
    4,802       12,856       5,553       7,695       5,447       (138 )     24       36,239  
                                                                 
$ Change
  $ (811 )   $ (1,820 )   $ 365     $ (1,043 )   $ 1,746     $ 349     $ 207     $ (1,007 )
% Change
    (17 )%     (14 )%     7 %     (14 )%     32 %     253 %     863 %     (3 )%
Average Capital Q306
  $ 61,628     $ 220,811     $ 151,013     $ 130,975     $ 108,408     $ 11,583     $ 3,544     $ 687,962  
Average Capital Q305
    39,787       208,202       98,744       106,799       84,970       3,301       4,291       546,094  
% Change
    55 %     6 %     53 %     23 %     28 %     251 %     (17 )%     26 %
ROE Q306
    26 %     20 %     16 %     20 %     26 %     7 %     26 %     20 %
ROE Q305
    48 %     24 %     22 %     29 %     25 %     (17 )%     2 %     26 %
% Change
    (46 )%     (19 )%     (30 )%     (30 )%     4 %     N/M       N/M       (23 )%
 
Total capital deployed in our operating business segments increased 39% to $1.6 billion in the third quarter of 2006 and earned a 28% return on equity before the impact of corporate overhead. Net of corporate overhead and including the excess undeployed capital, Indymac’s average capital of $1.9 billion earned a 18% return on equity.
 
We deployed 27% of our capital, or $509.1 million, into our mortgage production divisions in the third quarter of 2006, an increase of 23% over the third quarter of 2005. Mortgage production earnings grew 6%; however the return on equity declined from 62% to 53% reflecting the narrower mortgage banking revenue margins. The wholesale and correspondent divisions reflected stronger production year-over-year, but a reduction in net income as margins were lower in these two business lines year-over-year. Our conduit division had a particularly strong quarter reflecting earnings growth of 295% and return on equity of 46%, up from 14%. The increase was due to improvement in the revenue margins primarily related to its pay option ARM production. Our reverse mortgage division continued to demonstrate strong returns with earnings and production growth of 133% and 35%, respectively. The strong returns in this business are reflective of the strong growth in demographics for the seniors market and the growing popularity of the reverse mortgage product. We expect this division to continue its strong growth in the future given its industry leadership position in the reverse mortgage market.
 
We deployed 21% of our capital, or $401.5 million, into the MSRs and other retained assets division, up from 13% one year ago. This division experienced a strong increase in ROE from 20% in the third quarter of 2005 to 30% in the third quarter of 2006. This division benefited from strong hedge results and gain on securities. We target our pricing and hedging strategies to earn expected ROE of 18% to 23% for this segment. Given the volatility in this segment, returns in a quarter may substantially exceed or fall below the targeted level.
 
We deployed 37% of our capital, or $688.0 million, to the thrift segment, a 26% increase over last year. Thrift continued to provide a stable return for the Company despite the decline in return on equity from 26% to 20% over the same period. The return on equity in the current quarter returned to forecasted levels due to higher premium amortization and certain non-recurring gains in the third quarter of 2005.

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Table of Contents

DETAIL CHANNEL SEGMENT RESULTS
 
The following tables summarize the Company’s financial results for the three months ended September 30, 2006 and 2005 by its two primary segments via each of its operating divisions:
 
                                                                         
    Mortgage Banking                                
          MSRs
                                           
          and
                                           
          Other
    Mortgage
                      Total
             
    Production
    Retained
    Banking
                Elimination
    Operating
    Corporate
    Total
 
    Divisions     Assets     Overhead(1)     Total     Thrift     & Other(2)     Results     Overhead     Company  
    (Dollars in thousands)  
 
Three Months Ended September 30, 2006
                                                                       
Operating Results
                                                                       
Net interest income
  $ 41,218     $ 17,429     $ (188 )   $ 58,459     $ 67,185     $ 13,140     $ 138,784     $ (2,073 )   $ 136,711  
Provision for loan losses
                            (4,988 )           (4,988 )           (4,988 )
Gain (loss) on sale of loans
    157,271       9,392             166,663       16,558       (22,996 )     160,225             160,225  
Service fee income
    5,599       15,434             21,033       (397 )     422       21,058             21,058  
Gain (loss) on securities
          21,745             21,745       (4,147 )     1,370       18,968             18,968  
Other income
    303       1,653       846       2,802       10,631       (610 )     12,823       777       13,600  
                                                                         
Net revenues (expense)
    204,391       65,653       658       270,702       84,842       (8,674 )     346,870       (1,296 )     345,574  
Operating expenses
    149,728       17,526       15,367       182,621       31,099       12,937       226,657       42,669       269,326  
Deferred expense under SFAS 91
    (58,860 )     (2,128 )           (60,988 )     (4,492 )     (718 )     (66,198 )           (66,198 )
                                                                         
Pretax income (loss)
    113,523       50,255       (14,709 )     149,069       58,235       (20,893 )     186,411       (43,965 )     142,446  
                                                                         
Net income (loss)
  $ 68,635     $ 30,404     $ (8,899 )   $ 90,140     $ 35,232     $ (12,641 )   $ 112,731     $ (26,551 )   $ 86,180  
                                                                         
Relevant Financial and Performance Data
                                                                       
Average interest-earning assets
  $ 9,152,748     $ 963,760     $ 41     $ 10,116,549     $ 15,181,876     $ (93,621 )   $ 25,204,804     $ 302,213     $ 25,507,017  
Allocated capital
    509,136       401,545       10,677       921,358       687,962       1,939       1,611,259       260,120       1,871,379  
Loans produced
    22,446,264       721,019       N/A       23,167,283       1,271,893       N/A       24,439,176       N/A       24,439,176  
Loans sold
    20,562,308       654,023       N/A       21,216,331       1,281,971       (2,990,126 )     19,508,176       N/A       19,508,176  
MBR margin
    0.97 %     1.44 %     N/A       0.98 %     1.29 %     N/A       N/A       N/A       1.03 %
ROE
    53 %     30 %     N/A       39 %     20 %     N/A       28 %     N/A       18 %
ROA
    2.89 %     4.23 %     N/A       2.88 %     0.91 %     N/A       1.61 %     N/A       1.17 %
Net interest margin, thrift. 
    N/A       N/A       N/A       N/A       1.76 %     N/A       N/A       N/A       2.02 %
Average FTE
    4,652       182       1,074       5,908       650       324       6,882       1,304       8,186  
Three Months Ended September 30, 2005
                                                                       
Operating Results
                                                                       
Net interest income
  $ 34,695     $ 11,242     $ (5 )   $ 45,932     $ 60,076     $ 10,168     $ 116,176     $ (3,357 )   $ 112,819  
Provision for loan losses
                            (3,528 )           (3,528 )           (3,528 )
Gain (loss) on sale of loans
    137,241       7,642             144,883       14,458       (8,255 )     151,086             151,086  
Service fee income
    3,384       5,796             9,180       1,568       (444 )     10,304             10,304  
Gain (loss) on securities
          (390 )           (390 )     412       706       728             728  
Other income
    145       731       622       1,498       8,880       192       10,570       715       11,285  
                                                                         
Net revenues (expense)
    175,465       25,021       617       201,103       81,866       2,367       285,336       (2,642 )     282,694  
Operating expenses
    122,089       9,920       10,730       142,739       27,460       9,711       179,910       35,301       215,211  
Deferred expense under SFAS 91
    (53,878 )     (708 )           (54,586 )     (5,496 )     (707 )     (60,789 )           (60,789 )
                                                                         
Pretax income (loss)
    107,254       15,809       (10,113 )     112,950       59,902       (6,637 )     166,215       (37,943 )     128,272  
                                                                         
Net income (loss)
  $ 64,817     $ 9,564     $ (6,119 )   $ 68,262     $ 36,239     $ (4,015 )   $ 100,486     $ (22,960 )   $ 77,526  
                                                                         
Relevant Financial and Performance Data
                                                                       
Average interest-earning assets
  $ 7,767,105     $ 519,850     $ 51     $ 8,287,006     $ 12,082,104     $ (88,062 )   $ 20,281,048     $ 840,492     $ 21,121,540  
Allocated capital
    415,031       189,744       10,762       615,537       546,094       1,440       1,163,071       252,290       1,415,361  
Loans produced
    15,745,797       330,439             16,076,236       1,412,830             17,489,066             17,489,066  
Loans sold
    16,057,236       321,746             16,378,982       1,120,033       (1,959,806 )     15,539,209       N/A       15,539,209  
MBR margin
    1.07 %     2.81 %     N/A       1.10 %     1.49 %     N/A       N/A       N/A       1.22 %
ROE
    62 %     20 %     N/A       44 %     26 %     N/A       34 %     N/A       22 %
ROA
    3.24 %     2.68 %     N/A       2.86 %     1.19 %     N/A       1.85 %     N/A       1.35 %
Net interest margin, thrift. 
    N/A       N/A       N/A       N/A       1.97 %     N/A       N/A       N/A       2.07 %
Average FTE
    3,593       156       817       4,566       601       247       5,414       962       6,376  
 
 
(1) Included production division overhead and servicing overhead of $6.2 million and $2.7 million, respectively, for the third quarter of 2006. For the third quarter of 2005, the production division overhead and servicing overhead were $4.2 million and $1.9 million, respectively.
 
(2) Included are eliminations, deposits, and treasury items, the details of which are provided on page 12.


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Table of Contents

The following tables provide additional detail on the results for the production divisions of our mortgage banking segment for the three months ended September 30, 2006 and 2005:
 
                                                         
    Mortgage Banking Production Divisions  
                                  Financial
       
                                  Freedom
    Total
 
    Mortgage Professionals Group     Consumer
    (Reverse
    Production
 
    Wholesale     Correspondent     Conduit     Total     Direct     Mortgage)     Divisions  
    (Dollars in thousands)  
 
Three Months Ended September 30, 2006
                                                       
Operating Results
                                                       
Net interest income
  $ 15,939     $ 3,577     $ 18,327     $ 37,843     $ 507     $ 2,868     $ 41,218  
Provision for loan losses
                                         
Gain (loss) on sale of loans
    79,916       7,897       17,905       105,718       6,005       45,548       157,271  
Service fee income
                                  5,599       5,599  
Gain (loss) on securities
                                         
Other income
                (153 )     (153 )     269       187       303  
                                                         
Net revenues (expense)
    95,855       11,474       36,079       143,408       6,781       54,202       204,391  
Operating expenses
    83,575       11,962       7,557       103,094       11,829       34,805       149,728  
Deferral of expenses under SFAS 91
    (40,282 )     (5,767 )           (46,049 )     (5,219 )     (7,592 )     (58,860 )
                                                         
Pretax income (loss)
    52,562       5,279       28,522       86,363       171       26,989       113,523  
                                                         
Net income (loss)
  $ 31,800     $ 3,194     $ 17,256     $ 52,250     $ 103     $ 16,282     $ 68,635  
                                                         
Relevant Financial and Performance Data
                                                       
Average interest-earning assets
  $ 3,734,539     $ 830,710     $ 3,609,638     $ 8,174,887     $ 176,232     $ 801,629     $ 9,152,748  
Allocated capital
    192,689       42,780       149,894       385,363       8,822       114,951       509,136  
Loans produced
    9,280,817       2,503,012       9,078,589       20,862,418       455,643       1,128,203       22,446,264  
Loans sold
    9,050,759       2,385,091       7,600,746       19,036,596       454,060       1,071,652       20,562,308  
MBR margin
    1.06 %     0.48 %     0.48 %     0.75 %     1.43 %     4.52 %     0.97 %
Pretax income/loan sold
    0.58 %     0.22 %     0.38 %     0.45 %     0.04 %     2.52 %     0.55 %
ROE
    65 %     30 %     46 %     54 %     5 %     56 %     53 %
ROA
    3.37 %     1.52 %     1.87 %     2.52 %     0.22 %     6.42 %     2.89 %
Net interest margin
    1.69 %     1.71 %     2.01 %     1.84 %     1.14 %     1.42 %     1.79 %
Average FTE
    2,507       246       147       2,900       387       1,365       4,652  
Three Months Ended September 30, 2005
                                                       
Operating Results
                                                       
Net interest income
  $ 15,845     $ 3,863     $ 12,719     $ 32,427     $ 1,534     $ 734     $ 34,695  
Provision for loan losses
                                         
Gain (loss) on sale of loans
    86,078       14,309       (552 )     99,835       15,550       21,856       137,241  
Service fee income
                                  3,384       3,384  
Gain (loss) on securities
                                         
Other income
                31       31       88       26       145  
                                                         
Net revenues (expense)
    101,923       18,172       12,198       132,293       17,172       26,000       175,465  
Operating expenses
    64,427       8,562       4,983       77,972       23,393       20,724       122,089  
Deferral of expenses under SFAS 91
    (34,850 )     (5,000 )           (39,850 )     (7,649 )     (6,379 )     (53,878 )
                                                         
Pretax income (loss)
    72,346       14,610       7,215       94,171       1,428       11,655       107,254  
                                                         
Net income (loss)
  $ 43,769     $ 8,839     $ 4,365     $ 56,973     $ 864     $ 6,980     $ 64,817  
                                                         
Relevant Financial and Performance Data
                                                       
Average interest-earning assets
    3,686,819       741,485       2,808,114       7,236,418       377,158       153,529       7,767,105  
Allocated capital
    172,731       33,623       125,371       331,725       18,206       65,100       415,031  
Loans produced
    7,749,550       1,651,558       4,718,369       14,119,477       791,707       834,613       15,745,797  
Loans sold
    7,689,017       1,628,396       5,179,806       14,497,219       780,010       780,007       16,057,236  
MBR margin
    1.33 %     1.12 %     0.23 %     0.91 %     2.19 %     2.90 %     1.07 %
Pretax income/loan sold
    0.94 %     0.90 %     0.14 %     0.65 %     0.18 %     1.49 %     0.67 %
ROE
    101 %     104 %     14 %     68 %     19 %     43 %     62 %
ROA
    4.70 %     4.72 %     0.61 %     3.12 %     0.88 %     9.76 %     3.24 %
Net interest margin
    1.71 %     2.07 %     1.80 %     1.78 %     1.61 %     1.90 %     1.77 %
Average FTE
    1,870       222       116       2,208       561       824       3,593  


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Table of Contents

The following tables provide additional detail on the results for the divisions of our thrift segment for the three months ended September 30, 2006 and 2005:
 
                                                                 
    Thrift  
                      Consumer
                         
    Mortgage-
    Prime SFR
    Home
    Construction
    Builder
                   
    Backed
    Mortgage
    Equity
    and Lot
    Construction
    Warehouse
    Discontinued
       
    Securities     Loans     Division     Loans     Financing     Lending     Products     Total Thrift  
    (Dollars in thousands)  
 
Three Months Ended September 30, 2006
                                                               
Operating Results
                                                               
Net interest income
  $ 7,418     $ 20,430     $ 10,851     $ 10,454     $ 16,488     $ 1,035     $ 509     $ 67,185  
Provision for loan losses
          (2,000 )           (720 )     (2,200 )     (18 )     (50 )     (4,988 )
Gain (loss) on sale of loans
          748       5,788       10,022                         16,558  
Service fee income
                (397 )                             (397 )
Gain (loss) on securities
    (493 )           (3,607 )     (47 )                       (4,147 )
Other income
    (14 )     429       2,392       6,655       703       466             10,631  
                                                                 
Net revenues (expense)
    6,911       19,607       15,027       26,364       14,991       1,483       459       84,842  
Operating expenses
    315       1,365       5,607       17,690       4,911       1,134       77       31,099  
Deferral of expenses under SFAS 91
                (361 )     (2,321 )     (1,810 )                 (4,492 )
                                                                 
Pretax income (loss)
    6,596       18,242       9,781       10,995       11,890       349       382       58,235  
                                                                 
Net income (loss)
  $ 3,991     $ 11,036     $ 5,918     $ 6,652     $ 7,193     $ 211     $ 231     $ 35,232  
                                                                 
Relevant Financial and Performance Data
                                                               
Average interest-earning assets
  $ 3,527,766     $ 5,851,294     $ 1,947,724     $ 2,568,007     $ 1,112,338     $ 135,511     $ 39,236     $ 15,181,876  
Allocated capital
    61,628       220,811       151,013       130,975       108,408       11,583       3,544       687,962  
Loans produced
                29,806       770,937       471,150                   1,271,893  
Loans sold
                635,366       646,605                         1,281,971  
ROE
    26 %     20 %     16 %     20 %     26 %     7 %     26 %     20 %
ROA
    0.44 %     0.74 %     1.17 %     1.03 %     2.58 %     0.62 %     2.67 %     0.91 %
Net interest margin
    0.83 %     1.39 %     2.21 %     1.62 %     5.88 %     3.03 %     5.15 %     1.76 %
Efficiency ratio
    5 %     6 %     35 %     57 %     18 %     76 %     15 %     30 %
Average FTE
    6       14       76       416       111       27             650  
Three Months Ended September 30, 2005
                                                               
Operating Results
                                                               
Net interest income
  $ 8,217     $ 19,559     $ 8,724     $ 10,781     $ 11,779     $ 253     $ 763     $ 60,076  
Provision for loan losses
          (1,800 )           (1,197 )           (31 )     (500 )     (3,528 )
Gain (loss) on sale of loans
          4,023       870       9,565                         14,458  
Service fee income
          344       1,223             1                   1,568  
Gain (loss) on securities
                (654 )     1,066                         412  
Other income
                2,527       5,895       314       145       (1 )     8,880  
                                                                 
Net revenues (expense)
    8,217       22,126       12,690       26,110       12,094       367       262       81,866  
Operating expenses
    279       876       4,059       16,563       4,866       595       222       27,460  
Deferral of expenses under SFAS 91
                (548 )     (3,172 )     (1,776 )                 (5,496 )
                                                                 
Pretax income (loss)
    7,938       21,250       9,179       12,719       9,004       (228 )     40       59,902  
                                                                 
Net income (loss)
  $ 4,802     $ 12,856     $ 5,553     $ 7,695     $ 5,447     $ (138 )   $ 24     $ 36,239  
                                                                 
Relevant Financial and Performance Data
                                                               
Average interest-earning assets
  $ 2,189,352     $ 5,075,925     $ 1,686,216     $ 2,198,570     $ 850,653     $ 33,155     $ 48,233     $ 12,082,104  
Allocated capital
    39,787       208,202       98,744       106,799       84,970       3,301       4,291       546,094  
Loans produced
                57,561       816,358       538,911                   1,412,830  
Loans sold
          298,618       169,791       651,624                         1,120,033  
ROE
    48 %     24 %     22 %     29 %     25 %     (17 )%     2 %     26 %
ROA
    0.87 %     1.00 %     1.28 %     1.38 %     2.57 %     (1.64 )%     0.23 %     1.19 %
Net interest margin
    1.49 %     1.53 %     2.05 %     1.95 %     5.49 %     3.03 %     6.28 %     1.97 %
Efficiency ratio
    3 %     4 %     28 %     49 %     26 %     149 %     29 %     26 %
Average FTE
    6       11       37       421       97       19       10       601  


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The following tables provide additional detail on deposits, treasury and eliminations for the three months ended September 30, 2006 and 2005:
 
                                                 
                Eliminations        
                Interdivision
    MSR Economic
             
    Deposits     Treasury     Loan Sales     Value     Other     Total  
    (Dollars in thousands)  
 
Three months ended September 30, 2006
                                               
Operating Results
                                               
Net interest income
  $     $ 18     $ 8,290     $     $ 4,832     $ 13,140  
Provision for loan losses
                                   
Gain (loss) on sale of loans
                (22,996 )                 (22,996 )
Service fee income
                422                   422  
Gain (loss) on securities
                1,370                   1,370  
Other income
    896       150                   (1,656 )     (610 )
                                                 
Net revenues (expense)
    896       168       (12,914 )           3,176       (8,674 )
Operating expenses
    7,173       2,227                   3,537       12,937  
Deferral of expenses under SFAS 91
                            (718 )     (718 )
                                                 
Pretax income (loss)
    (6,277 )     (2,059 )     (12,914 )           357       (20,893 )
                                                 
Net income (loss)
  $ (3,798 )   $ (1,246 )   $ (7,813 )   $     $ 216     $ (12,641 )
                                                 
Relevant Financial and Performance Data
                                               
Average interest-earning assets
  $ 172     $     $ (93,793 )   $     $     $ (93,621 )
Allocated capital
    1,939                               1,939  
Loans produced
                                   
Loans sold
    N/A       N/A       (2,990,126 )     N/A       N/A       (2,990,126 )
ROE
    N/A       N/A       N/A       N/A       N/A       N/A  
ROA
    N/A       N/A       N/A       N/A       N/A       N/A  
Net interest margin
    N/A       N/A       N/A       N/A       N/A       N/A  
Efficiency ratio
    N/A       N/A       N/A       N/A       N/A       N/A  
Average FTE
    277       47                         324  
Three months ended September 30, 2005
                                               
Operating Results
                                               
Net interest income
  $     $ 810     $ 5,355     $     $ 4,003     $ 10,168  
Provision for loan losses
                                   
Gain (loss) on sale of loans
                (10,055 )           1,800       (8,255 )
Service fee income
                1,966       (2,410 )           (444 )
Gain (loss) on securities
                706                   706  
Other income
    679       156                   (643 )     192  
                                                 
Net revenues (expense)
    679       966       (2,028 )     (2,410 )     5,160       2,367  
Operating expenses
    3,559       1,687                   4,465       9,711  
Deferral of expenses under SFAS 91
                            (707 )     (707 )
                                                 
Pretax income (loss)
    (2,880 )     (721 )     (2,028 )     (2,410 )     1,402       (6,637 )
                                                 
Net income (loss)
  $ (1,742 )   $ (436 )   $ (1,227 )   $ (1,458 )   $ 848     $ (4,015 )
                                                 
Relevant Financial and Performance Data
                                               
Average interest-earning assets
  $ 175     $     $ (88,237 )   $     $     $ (88,062 )
Allocated capital
    1,440                               1,440  
Loans produced
                                   
Loans sold
    N/A       N/A       (1,959,806 )     N/A       N/A       (1,959,806 )
ROE
    N/A       N/A       N/A       N/A       N/A       N/A  
ROA
    N/A       N/A       N/A       N/A       N/A       N/A  
Net interest margin
    N/A       N/A       N/A       N/A       N/A       N/A  
Efficiency ratio
    N/A       N/A       N/A       N/A       N/A       N/A  
Average FTE
    211       36                         247  


12


Table of Contents

Accounting Methodology for Reporting Segment Financial Results
 
The profitability of each operating channel is measured on a fully-leveraged basis after allocating capital based on regulatory risk-based capital rules. The Company uses a fund transfer pricing (“FTP”) system to allocate interest expense to the operating channels. Each operating channel is allocated funding with maturities and interest rates matched with the expected lives and repricing frequencies of the channel’s assets. The difference between these allocations and the Company’s actual net interest income and capital levels resulting from centralized management of funding costs is reported in the Treasury unit and Corporate Overhead, respectively. Trust preferred securities are allocated to the operating channels which results in higher interest expense at the operating channel level but reduces their capital charge. This is more reflective of our use of trust preferred securities as a component of capital.
 
The mortgage production divisions are credited with gain on sale of loans based on the actual amount realized for loans sold in the period for the divisions. Loans are occasionally transferred (“sold”) from the production divisions to the thrift divisions at a price based on the estimated fair value, which typically resulted in a premium. The premium for the loans is recorded as a gain in the production divisions and a premium on the asset in the thrift divisions and eliminated in consolidation. In subsequent periods, this premium is amortized as part of the thrift divisions’ net interest margin and the amortization is reversed in Eliminations.
 
Under Statement of Financial Accounting Standards No. 91, “Accounting for Nonrefundable Fees and Costs Associated with Originating or Acquiring Loans and Initial Direct Costs of Leases” (“SFAS No. 91”), certain fees and related incremental direct costs associated with originating loans are required to be deferred when incurred. SFAS No. 91 fees and expenses are deferred at production and subsequently recognized at sale. This is reflected as a reclassification reducing operating expenses and loan fees with the net deferral reported as a component of the gain on sale. The deferral of direct origination costs is shown separately as a contra to the gross operating expenses in the detail segment tables on pages 9 to 12 to enable the computation of gross cost per funded loan.
 
The Company hedges the MSRs to protect their economic value. The results in the business segment tables above reflect the economic fair value of MSRs. Prior to the adoption of Statement of Financial Accounting Standards No. 156, “Accounting for Servicing of Financial Assets,” (“SFAS No. 156”) on January 1, 2006, the economic fair value may have varied from the generally accepted accounting principles (“GAAP”) value due to the lower of cost or market limitations of GAAP. Differences between the economic value and the GAAP value were eliminated in consolidation. Also during the second quarter of 2006, the Company has revised its capital allocation on MSRs to conform to updated regulatory capital guidelines. Prior period segment data was revised accordingly.
 
The Company’s corporate overhead costs such as corporate salaries and related expenses, and non-recurring corporate items are not allocated to the operating channels. Also, for purposes of calculating average interest-earning assets, the allowance for loan losses is excluded.
 
PRODUCT PROFITABILITY ANALYSIS
 
As part of our process of measuring results and holding managers responsible for specific targets, we evaluate profitability at the product level in addition to our segment results. We currently have four product groups: standard consumer home loans held for sale, specialty consumer home loans held for sale and/or investment, home loans and related investment, and specialty commercial loans held for investment. Please refer to the Company’s 2005 10-K, pages 31 to 37, for further discussion on the products included within each product group.


13


Table of Contents

The following tables summarize the profitability for the four product groups for the three months ended September 30, 2006 and 2005:
 
                                                         
                Home
                         
    Standard
    Specialty
    Loans &
    Specialty
                   
    Consumer
    Consumer
    Related
    Commercial
                Total
 
    Home Loans     Home Loans     Investments     Loans     Treasury     Overhead     Company  
    (Dollars in thousands)  
 
Three Months Ended September 30, 2006
                                                       
Operating Results
                                                       
Net interest income
  $ 30,746     $ 38,672     $ 44,141     $ 20,768     $ 18     $ 2,366     $ 136,711  
Provision for loan losses
          (566 )     (2,000 )     (2,422 )                 (4,988 )
Gain (loss) on sale of loans
    87,979       62,106       10,140                         160,225  
Service fee income
          6,965       13,572                   521       21,058  
Gain (loss) on securities
          (3,945 )     22,913                         18,968  
Other income
          8,379       1,760       2,332       150       979       13,600  
                                                         
Net revenue (expense)
    118,725       111,611       90,526       20,678       168       3,866       345,574  
Variable expenses
    57,213       42,428       4,098       2,225                   105,964  
Deferral of expenses under SFAS 91
    (44,393 )     (18,371 )     (1,538 )     (1,896 )                 (66,198 )
Fixed expenses
    48,004       25,262       14,013       5,110       2,227       68,746       163,362  
                                                         
Pretax income (loss)
    57,901       62,292       73,953       15,239       (2,059 )     (64,880 )     142,446  
                                                         
Net income (loss)
  $ 35,030     $ 37,640     $ 44,742     $ 9,219     $ (1,246 )   $ (39,205 )   $ 86,180  
                                                         
Balance Sheet Data
                                                       
Average interest-earning assets
  $ 7,762,761     $ 5,737,934     $ 10,237,788     $ 1,498,138     $     $ 270,396     $ 25,507,017  
Allocated capital
  $ 346,735     $ 386,649     $ 641,818     $ 138,726     $     $ 357,451     $ 1,871,379  
Performance Ratios
                                                       
ROE
    40 %     39 %     28 %     26 %     N/A       N/A       18 %
Net interest margin
    1.57 %     2.67 %     1.71 %     5.50 %     N/A       N/A       2.13 %
MBR margin
    0.76 %     2.27 %     1.55 %     N/A       N/A       N/A       1.03 %
Efficiency ratio
    51 %     44 %     18 %     24 %     N/A       N/A       58 %
Operating Data
                                                       
Loan production
  $ 19,032,639     $ 4,278,249     $ 606,713     $ 521,575     $     $     $ 24,439,176  
Loans sold
  $ 15,612,563     $ 3,241,590     $ 654,023     $     $     $     $ 19,508,176  


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Table of Contents

                                                         
                Home
                         
    Standard
    Specialty
    Loans &
    Specialty
                   
    Consumer
    Consumer
    Related
    Commercial
                Total
 
    Home Loans     Home Loans     Investments     Loans     Treasury     Overhead     Company  
    (Dollars in thousands)  
 
Three Months Ended September 30, 2005
                                                       
Operating Results
                                                       
Net interest income
  $ 28,211     $ 28,153     $ 40,778     $ 14,905     $ 810     $ (38 )   $ 112,819  
Provision for loan losses
     —       (1,546 )     (1,800 )     (182 )                 (3,528 )
Gain (loss) on sale of loans
    103,657       35,608       11,821                         151,086  
Service fee income
     —       4,607       8,106       1             (2,410 )     10,304  
Gain (loss) on securities
     —       412       316                         728  
Other income
     —       7,819       731       1,087       156       1,492       11,285  
                                                         
Net revenue (expense)
    131,868       75,053       59,952       15,811       966       (956 )     282,694  
Variable expenses
    58,609       33,506       1,019       4,756                   97,890  
Deferral of expenses under SFAS 91
    (43,060 )     (15,033 )     (708 )     (1,988 )                 (60,789 )
Fixed expenses
    35,137       14,684       9,482       2,276       1,687       54,055       117,321  
                                                         
Pretax income (loss)
    81,182       41,896       50,159       10,767       (721 )     (55,011 )     128,272  
                                                         
Net income (loss)
  $ 49,115     $ 25,275     $ 30,345     $ 6,514     $ (436 )   $ (33,287 )   $ 77,526  
                                                         
Balance Sheet Data
                                                       
Average interest-earning assets
  $ 7,201,582     $ 4,277,106     $ 7,762,950     $ 1,077,261     $     $ 802,641     $ 21,121,540  
Allocated capital
  $ 315,106     $ 243,051     $ 436,624     $ 103,738     $     $ 316,842     $ 1,415,361  
Performance Ratios
                                                       
ROE
    62 %     41 %     28 %     25 %     N/A       N/A       22 %
Net interest margin
    1.55 %     2.61 %     2.08 %     5.49 %     N/A       N/A       2.12 %
MBR margin
    1.01 %     2.46 %     2.13 %     N/A       N/A       N/A       1.22 %
Efficiency ratio
    38 %     43 %     16 %     32 %     N/A       N/A       54 %
Operating Data
                                                       
Loan production
  $ 13,283,041     $ 3,295,823     $ 274,372     $ 635,830     $     $     $ 17,489,066  
Loans sold
  $ 13,118,592     $ 1,800,253     $ 620,364     $     $     $     $ 15,539,209  

15


Table of Contents

The following tables provide details on the profitability for the standard consumer home loans held for sale group for the three months ended September 30, 2006 and 2005:
 
                                 
    Standard Consumer Home Loans Held for Sale  
    Agency
                   
    Conforming     Alt-A     Subprime     Total  
    (Dollars in thousands)  
 
Three Months Ended September 30, 2006
                               
Operating Results
                               
Net interest income
  $ 393     $ 21,316     $ 9,037     $ 30,746  
Provision for loan losses
                       
Gain (loss) on sale of loans
    333       82,500       5,146       87,979  
Service fee income
                       
Gain (loss) on securities
                       
Other income
                       
                                 
Net revenues (expense)
    726       103,816       14,183       118,725  
Variable expenses
    1,593       48,241       7,379       57,213  
Deferral of expenses under SFAS 91
    (1,236 )     (37,431 )     (5,726 )     (44,393 )
Fixed expenses
    1,202       42,350       4,452       48,004  
                                 
Pretax income (loss)
    (833 )     50,656       8,078       57,901  
                                 
Net income (loss)
  $ (504 )   $ 30,647     $ 4,887     $ 35,030  
                                 
Balance Sheet Data
                               
Average interest-earning assets
  $ 102,987     $ 6,221,229     $ 1,438,545     $ 7,762,761  
Allocated capital
  $ 4,186     $ 255,304     $ 87,245     $ 346,735  
Performance Ratios
                               
ROE
    (48 )%     48 %     22 %     40 %
Net interest margin
    1.51 %     1.36 %     2.49 %     1.57 %
MBR margin
    0.48 %     0.70 %     2.30 %     0.76 %
Efficiency ratio
    215 %     51 %     43 %     51 %
Operating Data
                               
Loan production
  $ 177,832     $ 18,143,707     $ 711,100     $ 19,032,639  
Loans sold
  $ 150,317     $ 14,846,766     $ 615,480     $ 15,612,563  
Three Months Ended September 30, 2005
                               
Operating Results
                               
Net interest income
  $ 765     $ 20,455     $ 6,991     $ 28,211  
Provision for loan losses
                       
Gain (loss) on sale of loans
    1,572       95,868       6,217       103,657  
Service fee income
                       
Gain (loss) on securities
                       
Other income
                       
                                 
Net revenues (expense)
    2,337       116,323       13,208       131,868  
Variable expenses
    2,957       48,422       7,230       58,609  
Deferral of expenses under SFAS 91
    (2,171 )     (35,638 )     (5,251 )     (43,060 )
Fixed expenses
    1,427       29,827       3,883       35,137  
                                 
Pretax income (loss)
    124       73,712       7,346       81,182  
                                 
Net income (loss)
  $ 75     $ 44,596     $ 4,444     $ 49,115  
                                 


16


Table of Contents

                                 
    Standard Consumer Home Loans Held for Sale  
    Agency
                   
    Conforming     Alt-A     Subprime     Total  
    (Dollars in thousands)  
 
Balance Sheet Data
                               
Average interest-earning assets
  $ 149,465     $ 6,175,572     $ 876,545     $ 7,201,582  
Allocated capital
  $ 6,413     $ 263,788     $ 44,905     $ 315,106  
Performance Ratios
                               
ROE
    5 %     67 %     39 %     62 %
Net interest margin
    2.03 %     1.31 %     3.16 %     1.55 %
MBR margin
    0.76 %     0.95 %     2.56 %     1.01 %
Efficiency ratio
    95 %     37 %     44 %     38 %
Operating Data
                               
Loan production
  $ 276,263     $ 12,373,817     $ 632,961     $ 13,283,041  
Loans sold
  $ 308,799     $ 12,294,644     $ 515,149     $ 13,118,592  
 
The following tables provide details on the profitability for the specialty consumer home loans held for sale and/or investment group for the three months ended September 30, 2006 and 2005:
 
                                         
    Specialty Consumer Home Loans Held for Sale and/or Investment  
    HELOCs/
    Reverse
                   
    Seconds     Mortgages     CTP/Lot     Discontinued     Total  
    (Dollars in thousands)  
 
Three Months Ended September 30, 2006
                                       
Operating Results
                                       
Net interest income
  $ 23,771     $ 2,868     $ 11,524     $ 509     $ 38,672  
Provision for loan losses
                (516 )     (50 )     (566 )
Gain (loss) on sale of loans
    3,885       45,548       12,673             62,106  
Service fee income
    1,366       5,599                   6,965  
Gain (loss) on securities
    (3,898 )           (47 )           (3,945 )
Other income
    2,700       187       5,492             8,379  
                                         
Net revenues (expense)
    27,824       54,202       29,126       459       111,611  
Variable expenses
    13,444       20,319       8,665             42,428  
Deferral of expenses under SFAS 91
    (8,544 )     (7,592 )     (2,235 )           (18,371 )
Fixed expenses
    2,964       14,486       7,735       77       25,262  
                                         
Pretax income (loss)
    19,960       26,989       14,961       382       62,292  
                                         
Net income (loss)
  $ 12,076     $ 16,282     $ 9,051     $ 231     $ 37,640  
                                         
Balance Sheet Data
                                       
Average interest-earning assets
  $ 2,589,343     $ 801,629     $ 2,307,726     $ 39,236     $ 5,737,934  
Allocated capital
  $ 237,260     $ 34,404     $ 111,441     $ 3,544     $ 386,649  
Performance Ratios
                                       
ROE
    20 %     188 %     32 %     26 %     39 %
Net interest margin
    3.64 %     1.42 %     1.98 %     5.15 %     2.67 %
MBR margin
    0.83 %     4.52 %     1.96 %     N/A       2.27 %
Efficiency ratio
    28 %     50 %     48 %     15 %     44 %
Operating Data
                                       
Loan production
  $ 1,839,049     $ 1,128,203     $ 1,310,997     $     $ 4,278,249  
Loans sold
  $ 1,523,333     $ 1,071,652     $ 646,605     $     $ 3,241,590  

17


Table of Contents

                                         
    Specialty Consumer Home Loans Held for Sale and/or Investment  
    HELOCs/
    Reverse
                   
    Seconds     Mortgages     CTP/Lot     Discontinued     Total  
    (Dollars in thousands)  
 
Three Months Ended September 30, 2005
                                       
Operating Results
                                       
Net interest income
  $ 15,798     $ 734     $ 10,858     $ 763     $ 28,153  
Provision for loan losses
                (1,046 )     (500 )     (1,546 )
Gain (loss) on sale of loans
    3,597       21,856       10,155             35,608  
Service fee income
    1,223       3,384                   4,607  
Gain (loss) on securities
    (654 )           1,066             412  
Other income
    2,527       26       5,267       (1 )     7,819  
                                         
Net revenues (expense)
    22,491       26,000       26,300       262       75,053  
Variable expenses
    11,244       14,236       8,026             33,506  
Deferral of expenses under SFAS 91
    (5,694 )     (6,379 )     (2,960 )           (15,033 )
Fixed expenses
    1,008       6,488       6,966       222       14,684  
                                         
Pretax income (loss)
    15,933       11,655       14,268       40       41,896  
                                         
Net income (loss)
  $ 9,639     $ 6,980     $ 8,632     $ 24     $ 25,275  
                                         
Balance Sheet Data
                                       
Average interest-earning assets
  $ 2,078,870     $ 153,529     $ 1,996,474     $ 48,233     $ 4,277,106  
Allocated capital
  $ 131,635     $ 16,657     $ 90,468     $ 4,291     $ 243,051  
Performance Ratios
                                       
ROE
    29 %     166 %     38 %     2 %     41 %
Net interest margin
    3.01 %     1.90 %     2.16 %     6.28 %     2.61 %
MBR margin
    2.54 %     2.90 %     1.90 %     N/A       2.46 %
Efficiency ratio
    29 %     55 %     44 %     29 %     43 %
Operating Data
                                       
Loan production
  $ 1,106,109     $ 834,613     $ 1,355,101     $     $ 3,295,823  
Loans sold
  $ 368,622     $ 780,007     $ 651,624     $     $ 1,800,253  

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Table of Contents

The following tables provide details on the profitability for the home loans and related investments group for the three months ended September 30, 2006 and 2005:
 
                                 
    Home Loans and Related Investments  
    Retained Assets
          SFR Loans
       
    and Retention
          Held for
       
    Activities     MBS     Investment     Total  
    (Dollars in thousands)  
 
Three Months Ended September 30, 2006
                               
Operating Results
                               
Net interest income
  $ 14,803     $ 7,418     $ 21,920     $ 44,141  
Provision for loan losses
                (2,000 )     (2,000 )
Gain (loss) on sale of loans
    9,392             748       10,140  
Service fee income
    13,572                   13,572  
Gain (loss) on securities
    23,406       (493 )           22,913  
Other income
    1,345       (14 )     429       1,760  
                                 
Net revenues (expense)
    62,518       6,911       21,097       90,526  
Variable expenses
    4,098                   4,098  
Deferral of expenses under SFAS 91
    (1,538 )                 (1,538 )
Fixed expenses
    12,333       315       1,365       14,013  
                                 
Pretax income (loss)
    47,625       6,596       19,732       73,953  
                                 
Net income (loss)
  $ 28,813     $ 3,991     $ 11,938     $ 44,742  
                                 
Balance Sheet Data
                               
Average interest-earning assets
  $ 878,038     $ 3,527,766     $ 5,831,984     $ 10,237,788  
Allocated capital
  $ 360,151     $ 61,628     $ 220,039     $ 641,818  
Performance Ratios
                               
ROE
    32 %     26 %     22 %     28 %
Net interest margin
    6.69 %     0.83 %     1.49 %     1.71 %
MBR margin
    1.44 %     N/A       N/A       1.55 %
Efficiency ratio
    24 %     5 %     6 %     18 %
Operating Data
                               
Loan production
  $ 606,713     $     $     $ 606,713  
Loans sold
  $ 654,023     $     $     $ 654,023  


19


Table of Contents

                                 
    Home Loans and Related Investments  
    Retained Assets
          SFR Loans
       
    and Retention
          Held for
       
    Activities     MBS     Investment     Total  
    (Dollars in thousands)  
 
Three Months Ended September 30, 2005
                               
Operating Results
                               
Net interest income
  $ 11,242     $ 8,217     $ 21,319     $ 40,778  
Provision for loan losses
                (1,800 )     (1,800 )
Gain (loss) on sale of loans
    7,604             4,217       11,821  
Service fee income
    7,762             344       8,106  
Gain (loss) on securities
    316                   316  
Other income
    731                   731  
                                 
Net revenues (expense)
    27,655       8,217       24,080       59,952  
Variable expenses
    1,019                   1,019  
Deferral of expenses under SFAS 91
    (708 )                 (708 )
Fixed expenses
    8,327       279       876       9,482  
                                 
Pretax income (loss)
    19,017       7,938       23,204       50,159  
                                 
Net income (loss)
  $ 11,505     $ 4,802     $ 14,038     $ 30,345  
                                 
Balance Sheet Data
                               
Average interest-earning assets
  $ 519,850     $ 2,189,352     $ 5,053,748     $ 7,762,950  
Allocated capital
  $ 189,744     $ 39,787     $ 207,093     $ 436,624  
Performance Ratios
                               
ROE
    24 %     48 %     27 %     28 %
Net interest margin
    8.58 %     1.49 %     1.67 %     2.08 %
MBR margin
    2.79 %     N/A       N/A       2.13 %
Efficiency ratio
    31 %     3 %     3 %     16 %
Operating Data
                               
Loan production
  $ 274,372     $     $     $ 274,372  
Loans sold
  $ 321,746     $     $ 298,618     $ 620,364  

20


Table of Contents

The following table provides details on the profitability for the specialty commercial loans held for investment group for the three months ended September 30, 2006 and 2005:
 
                                 
    Specialty Commercial Loans Held for Investment  
    Single
          Warehouse
       
    Spec     Subdivision     Lending     Total  
    (Dollars in thousands)  
 
Three Months Ended September 30, 2006
                               
Operating Results
                               
Net interest income
  $ 3,245     $ 16,488     $ 1,035     $ 20,768  
Provision for loan losses
    (204 )     (2,200 )     (18 )     (2,422 )
Gain (loss) on sale of loans
                       
Service fee income
                       
Gain (loss) on securities
                       
Other income
    1,163       703       466       2,332  
                                 
Net revenues (expense)
    4,204       14,991       1,483       20,678  
Variable expenses
    709       1,516             2,225  
Deferral of expenses under SFAS 91
    (86 )     (1,810 )           (1,896 )
Fixed expenses
    581       3,395       1,134       5,110  
                                 
Pretax income (loss)
    3,000       11,890       349       15,239  
                                 
Net income (loss)
  $ 1,815     $ 7,193     $ 211     $ 9,219  
                                 
Balance Sheet Data
                               
Average interest-earning assets
  $ 250,289     $ 1,112,338     $ 135,511     $ 1,498,138  
Allocated capital
  $ 18,735     $ 108,408     $ 11,583     $ 138,726  
Performance Ratios
                               
ROE
    38 %     26 %     N/A       26 %
Net interest margin
    5.14 %     5.88 %     N/A       5.50 %
Efficiency ratio
    27 %     18 %     N/A       24 %
Operating Data
                               
Loan production
  $ 50,425     $ 471,150     $     $ 521,575  
Loans sold
  $     $     $     $  
Three Months Ended September 30, 2005
                               
Operating Results
                               
Net interest income
  $ 2,873     $ 11,779     $ 253     $ 14,905  
Provision for loan losses
    (151 )           (31 )     (182 )
Gain (loss) on sale of loans
                       
Service fee income
          1             1  
Gain (loss) on securities
                       
Other income
    628       314       145       1,087  
                                 
Net revenues (expense)
    3,350       12,094       367       15,811  
Variable expenses
    887       3,869             4,756  
Deferral of expenses under SFAS 91
    (212 )     (1,776 )           (1,988 )
Fixed expenses
    684       997       595       2,276  
                                 
Pretax income (loss)
    1,991       9,004       (228 )     10,767  
                                 
Net income (loss)
  $ 1,205     $ 5,447     $ (138 )   $ 6,514  
                                 


21


Table of Contents

                                 
    Specialty Commercial Loans Held for Investment  
    Single
          Warehouse
       
    Spec     Subdivision     Lending     Total  
    (Dollars in thousands)  
 
Balance Sheet Data
                               
Average interest-earning assets
  $ 193,453     $ 850,653     $ 33,155     $ 1,077,261  
Allocated capital
  $ 15,467     $ 84,970     $ 3,301     $ 103,738  
Performance Ratios
                               
ROE
    31 %     25 %     N/A       25 %
Net interest margin
    5.89 %     5.49 %     N/A       5.49 %
Efficiency ratio
    39 %     26 %     N/A       32 %
Operating Data
                               
Loan production
  $ 96,919     $ 538,911     $     $ 635,830  
Loans sold
  $     $     $     $  
 
The following table provides details on the overhead costs for the three months ended September 30, 2006 and 2005:
 
                                         
                            Total
 
    Servicing OH     MB OH     Deposit OH     Corporate OH     Overhead  
    (Dollars in thousands)  
 
Three Months Ended September 30, 2006
                                       
Operating Results
                                       
Net interest income
  $ (115 )   $ (73 )   $ 3,954     $ (1,400 )   $ 2,366  
Provision for loan losses
                             
Gain (loss) on sale of loans
                             
Service fee income
                      521       521  
Gain (loss) on securities
                             
Other income
    730       116       896       (763 )     979  
                                         
Net revenues (expense)
    615       43       4,850       (1,642 )     3,866  
Variable expenses
                             
Deferral of expenses under SFAS 91
                             
Fixed expenses
    5,104       10,263       11,127       42,252       68,746  
                                         
Pretax income (loss)
    (4,489 )     (10,220 )     (6,277 )     (43,894 )     (64,880 )
                                         
Net income (loss)
  $ (2,716 )   $ (6,183 )   $ (3,798 )   $ (26,508 )   $ (39,205 )
                                         
Balance Sheet Data
                                       
Average interest-earning assets
  $     $ 41     $ 172     $ 270,183     $ 270,396  
Allocated capital
  $ 177     $ 10,500     $ 1,939     $ 344,835     $ 357,451  
Performance Ratios
                                       
ROE
    N/A       N/A       N/A       N/A       N/A  
Net interest margin
    N/A       N/A       N/A       N/A       N/A  
Efficiency ratio
    N/A       N/A       N/A       N/A       N/A  
Operating Data
                                       
Loan production
  $     $     $     $     $  
Loans sold
  $     $     $     $     $  

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                            Total
 
    Servicing OH     MB OH     Deposit OH     Corporate OH     Overhead  
    (Dollars in thousands)  
 
Three Months Ended September 30, 2005
                                       
Operating Results
                                       
Net interest income
  $ (55 )   $ 50     $ 3,729     $ (3,762 )   $ (38 )
Provision for loan losses
                             
Gain (loss) on sale of loans
                             
Service fee income
                      (2,410 )     (2,410 )
Gain (loss) on securities
                             
Other income
    634       (12 )     679       191       1,492  
                                         
Net revenues (expense)
    579       38       4,408       (5,981 )     (956 )
Variable expenses
                             
Deferral of expenses under SFAS 91
                             
Fixed expenses
    3,760       6,970       7,288       36,037       54,055  
                                         
Pretax income (loss)
    (3,181 )     (6,932 )     (2,880 )     (42,018 )     (55,011 )
                                         
Net income (loss)
  $ (1,925 )   $ (4,194 )   $ (1,742 )   $ (25,426 )   $ (33,287 )
                                         
Balance Sheet Data
                                       
Average interest-earning assets
  $     $ 51     $ 175     $ 802,415     $ 802,641  
Allocated capital
  $ 3,941     $ 6,821     $ 1,440     $ 304,640     $ 316,842  
Performance Ratios
                                       
ROE
    N/A       N/A       N/A       N/A       N/A  
Net interest margin
    N/A       N/A       N/A       N/A       N/A  
Efficiency ratio
    N/A       N/A       N/A       N/A       N/A  
Operating Data
                                       
Loan production
  $     $     $     $     $  
Loans sold
  $     $     $     $     $  
 
LOAN PRODUCTION
 
The Company’s total mortgage production of $24.0 billion for the third quarter of 2006 reflects a record high, up 19% compared to the second quarter of 2006, and up 41% from the third quarter of 2005. The production growth was accomplished through our continued drive to leverage our mortgage banking platform. The mortgage professionals group, including conduit, increased its volume by 48% over the third quarter of 2005, contributing 96% of our production growth. Since the third quarter of 2005, we opened five new operations centers. Our expansion into new regions, the hiring of new salespeople, and the roll-out of new products are expected to drive overall production higher in the future.
 
On October 24, 2006, the MBA issued a forecast of the industry volume for 2006 of $2.5 trillion, which represents a 19% decline from 2005. The third quarter of 2006 estimate of $620 billion represents a 14% decrease from the second quarter of 2006, and a 29% decline from the third quarter of 2005. Based on this forecast, our market share is 3.87% this quarter, up from 2.78% in the second quarter of 2006 and 1.95% in the third quarter of 2005.
 
Total loan production, including subdivision construction, reached $24.4 billion for the third quarter of 2006, a record for the Company.
 
At September 30, 2006, our total pipeline of loans in process was a quarter-end record high of $14.6 billion, up 16% from June 30, 2006 and 41% from September 30, 2005. Total pipeline of loans in process included rate lock

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commitments we have provided on loans that are specifically identified or non-specific bulk packages, and loan applications we have received for which the borrower has not yet locked in the interest rate commitment. Non-specific bulk packages represented pools of loans the Company has committed to purchase, where the pool characteristics are specified but the actual loans are not.
 
The following summarizes our loan production and pipeline by purpose, interest rate type, product type, S&P lifetime loss estimate, geographic distribution, and channels as of and for the quarters ended September 30, 2006 and 2005 and June 30, 2006:
 
                                         
    As of and for the Three Months Ended  
    September 30,
    September 30,
    %
    June 30,
    %
 
    2006     2005     Change     2006     Change  
    (Dollars in millions)  
 
Production and Pipeline by Purpose:
                                       
Mortgage loan production:
                                       
Purchase transactions
  $ 9,682     $ 7,425       30 %   $ 8,284       17 %
Cash-out refinance transactions
    10,656       7,790       37 %     9,373       14 %
Rate/term refinance transactions
    3,630       1,735       109 %     2,403       51 %
                                         
Total mortgage loan production
  $ 23,968     $ 16,950       41 %   $ 20,060       19 %
                                         
% purchase and cash-out refinance transactions
    85 %     90 %             88 %        
Mortgage industry market share
    3.87 %     1.95 %     98 %     2.78 %     39 %
Mortgage pipeline:
                                       
Purchase transactions
  $ 4,595     $ 3,654       26 %   $ 4,459       3 %
Cash-out refinance transactions
    5,210       3,945       32 %     4,062       28 %
Rate/term refinance transactions
    1,930       1,346       43 %     1,492       29 %
                                         
Total specific rate locks
    11,735       8,945       31 %     10,013       17 %
Non-specific rate locks on bulk purchases
    2,821       1,388       103 %     2,514       12 %
                                         
Total pipeline at period end
  $ 14,556     $ 10,333       41 %   $ 12,527       16 %
                                         
 
                         
    Three Months Ended  
    September 30,
    September 30,
    June 30,
 
    2006     2005     2006  
 
Production by Interest Rate Type as a Percentage of Mortgage Production:
                       
Fixed rate mortgages
    20 %     23 %     20 %
Interest-only loans
    39 %     30 %     37 %
ARMs
    11 %     12 %     15 %
Intermediate term fixed rate loans
    7 %     9 %     7 %
Pay option ARMS
    23 %     26 %     21 %
                         
      100 %     100 %     100 %
                         
 


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    Three Months Ended     Nine Months Ended  
    September 30,
    September 30,
    %
    June 30,
    %
    September 30,
    September 30,
    %
 
    2006     2005     Change     2006     Change     2006     2005     Change  
    (Dollars in millions)  
 
Production by Product Type:
                                                               
Standard First Mortgage Products:
                                                               
Alt-A
  $ 19,103     $ 13,016       47 %   $ 15,090       27 %   $ 49,642     $ 33,276       49 %
Agency conforming
    260       315       (17 )%     244       7 %     783       843       (7 )%
Subprime
    729       639       14 %     505       44 %     1,788       1,576       13 %
                                                                 
Total standard first mortgage products (S&P evaluated)(1)
    20,092       13,970       44 %     15,839       27 %     52,213       35,695       46 %
Specialty Consumer Home Mortgage Products:
                                                               
Home equity line of credit(2) /Seconds
    1,840       1,106       66 %     1,860       (1 )%     5,343       2,420       121 %
Reverse mortgages
    1,128       835       35 %     1,337       (16 )%     3,583       1,981       81 %
Consumer construction(2)
    908       1,039       (13 )%     1,024       (11 )%     2,866       2,655       8 %
                                                                 
Subtotal mortgage production
    23,968       16,950       41 %     20,060       19 %     64,005       42,751       50 %
Builder construction commitments(2)
    471       539       (13 )%     531       (11 )%     1,365       1,486       (8 )%
                                                                 
Total production
  $ 24,439     $ 17,489       40 %   $ 20,591       19 %   $ 65,370     $ 44,237       48 %
                                                                 
 
The following summarizes the estimated lifetime losses for mortgage production using the S&P Levels model for the three months ended September 30, 2006 and 2005, and June 30, 2006:
 
                                                 
    Three Months Ended  
    September 30, 2006     September 30, 2005     June 30, 2006  
    Average
          Average
          Average
       
    Lifetime
    % of
    Lifetime
    % of
    Lifetime
    % of
 
    Loss Rate     Total     Loss Rate     Total     Loss Rate     Total  
    (Dollars in millions)  
 
Production by S&P Lifetime Loss Estimate(1):
                                               
Agency conforming equivalent (<48 bps)
    0.23 %     48 %     0.21 %     54 %     0.22 %     48 %
Prime Alt-A equivalent (48-135 bps)
    0.76 %     44 %     0.75 %     40 %     0.76 %     45 %
Subprime equivalent (>135 bps)
    4.82 %     8 %     4.84 %     6 %     4.16 %     7 %
                                                 
Total S&P lifetime loss estimate
    0.82 %     100 %     0.72 %     100 %     0.74 %     100 %
                                                 
Total S&P evaluated production
          $ 20,092             $ 13,970             $ 15,839  
                                                 
 

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    Three Months Ended  
    September 30, 2006     September 30, 2005     June 30, 2006  
    Production     FICO     CLTV(3)     Production     FICO     CLTV(3)     Production     FICO     CLTV(3)  
 
Total production
  $ 24,439       N/A       N/A     $ 17,489       N/A       N/A     $ 20,591       N/A       N/A  
Less:
                                                                       
Home equity line of credit(2)/Seconds
    1,840       716       87%       1,106       704       88%       1,860       716       86%  
Reverse mortgages
    1,128       N/A       53%       835       N/A       53%       1,337       N/A       53%  
Consumer construction(2)
    908       722       76%       1,039       721       74%       1,024       724       77%  
Builder construction commitments
    471       N/A       74%       539       N/A       71%       531       N/A       82%  
                                                                         
Total S&P evaluated production
  $ 20,092       702       81%     $ 13,970       703       77%     $ 15,839       702       80%  
                                                                         
 
 
(1) While Indymac production is evaluated using the S&P Levels model, the data are not audited or endorsed by S&P. S&P evaluated production excludes second liens, HELOC, reverse mortgages, and construction loans.
 
(2) Amount represents total commitments.
 
(3) Combined loan-to-value ratio for loans in the second lien position is used to calculate weighted average original loan-to-value ratio for the portfolio.
 
In the second quarter of 2006, S&P introduced version 5.7 of the S&P Levels model, which we adopted in the third quarter of 2006. This new version incorporates several enhancements including more severe subordination for loans with subordinate financing and low FICO scores, and updated House Price Index and Housing Volatility Index. All prior periods have been restated utilizing the new model. The loss estimates above are shown to describe the relative level of credit risk in our loan production at time of origination. Because the Company routinely sells the vast majority of loans produced, the above estimates do not reflect the amount of credit risk retained by the Company.
 
Total average lifetime loss rate for the third quarter of 2006 increased eight basis points from 0.74% for the second quarter of 2006 to 0.82%, driven by an increase in loans with subordinate financing and subprime loans originated during the quarter.
 
The following indicates the geographic distribution of our production for the three months ended September 30, 2006 and 2005 and June 30, 2006:
 
                         
    September 30,
    September 30,
    June 30,
 
    2006     2005     2006  
 
Production by Geographic Distribution:
                       
California
    45 %     43 %     44 %
Florida
    8 %     8 %     9 %
New York
    6 %     6 %     6 %
Virginia
    4 %     5 %     4 %
New Jersey
    4 %     4 %     4 %
Other
    33 %     34 %     33 %
                         
Total
    100 %     100 %     100 %
                         
 
The following summarizes our loan production by divisions for the three months ended September 30, 2006 and 2005, and June 30, 2006, and nine months ended September 30, 2006 and 2005.
 

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    Three Months Ended     Nine Months Ended  
    September 30,
    September 30,
    %
    June 30,
    %
    September 30,
    September 30,
    %
 
    2006     2005     Change     2006     Change     2006     2005     Change  
    (Dollars in millions)  
 
Production by Divisions:
                                                               
Mortgage Loan Production:
                                                               
Mortgage Professionals Group Wholesale(1)
  $ 9,281     $ 7,749       20 %   $ 8,825       5 %   $ 26,887     $ 20,957       28 %
Correspondent
    2,503       1,652       52 %     2,528       (1 )%     7,307       3,965       84 %
Conduit
    9,078       4,718       92 %     5,471       66 %     20,685       10,530       96 %
Consumer Direct
    456       792       (42 )%     552       (17 )%     1,533       2,216       (31 )%
Financial Freedom
    1,128       835       35 %     1,337       (16 )%     3,583       1,981       81 %
Servicing Retention
    721       330       118 %     540       34 %     1,688       726       133 %
Home Equity Division
    30       58       (48 )%     33       (9 )%     93       156       (40 )%
Consumer Construction and Lot
    771       816       (6 )%     774       0 %     2,229       2,220       0 %
                                                                 
Total Mortgage Loan Production
    23,968       16,950       41 %     20,060       19 %     64,005       42,751       50 %
Commercial Loan Production:
                                                               
Builder Construction
    471       539       (13 )%     531       (11 )%     1,365       1,486       (8 )%
                                                                 
Total Production
  $ 24,439     $ 17,489       40 %   $ 20,591       19 %   $ 65,370     $ 44,237       48 %
                                                                 
 
 
(1) Wholesale channel includes $898 million, $378 million, and $709 million of production from emerging bankers/brokers sales for the quarters ended September 30, 2006 and 2005 and June 30, 2006. The emerging bankers/brokers sales force focuses on small and geographically remote mortgage brokers through centralized in-house sales personnel instead of field sales personnel.
 
Key production drivers for the mortgage professionals group’s wholesale and correspondent channels for the three months ended September 30, 2006 and 2005 and June 30, 2006 follow:
 
                                         
    Three Months Ended  
    September 30,
    September 30,
    %
    June 30,
    %
 
    2006     2005     Change     2006     Change  
 
Key Production Drivers:
                                       
Active customers during the quarter(1)
    7,686       6,473       19 %     7,472       3 %
Sales personnel
    992       692       43 %     952       4 %
Number of regional offices
    16       11       45 %     15       7 %
 
 
(1) Active customers are defined as customers who funded at least one loan during the most recent 90-day period.

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LOAN SALES
 
The following table summarizes loans sold and the relevant performance ratios on loan sales during the three and nine months ended September 30, 2006 and 2005 and the three months ended June 30, 2006:
 
                                                                 
    Three Months Ended     Nine Months Ended  
    September 30,
    September 30,
    %
    June 30,
    %
    September 30,
    September 30,
    %
 
    2006     2005     Change     2006     Change     2006     2005     Change  
    (Dollars in millions)  
 
Total loans sold
  $ 19,508     $ 15,539       26 %   $ 19,415       0 %   $ 55,632     $ 36,727       51 %
Ratios:
                                                               
Gross MBR margin before hedging
    1.44 %     0.91 %     57 %     0.99 %     45 %     1.11 %     1.43 %     (22 )%
Net MBR margin after hedging
    1.03 %     1.22 %     (15 )%     1.23 %     (16 )%     1.12 %     1.51 %     (25 )%
 
The MBR margin is calculated using mortgage banking revenue divided by total loans sold. The mortgage banking revenue includes total consolidated gain on sale of loans company-wide and the net interest income earned on mortgage loans held for sale by mortgage banking production divisions. While most of the gain on sale of loans results from the loan sale activities in our mortgage banking segment, we do occasionally sell loans held by our thrift segment, primarily lot loans and home equity products. The gain on sale recognized in the thrift segment is included in the MBR margin calculation.
 
Included in the gain on sale of loans in the second quarter of 2006 were $9.7 million of losses related to the establishment of a reserve for fraud losses on certain lot loans. The Company discovered that 45 lot loans related to two developments in Michigan and Florida were the subject of criminal fraud on the part of the developers, brokers, appraisers and closing agents. These loans had outstanding principal balances of approximately $13.9 million before the reserve for fraud losses. At September 30, 2006, the book value of loans totaling $5.3 million are on non-accrual status. We have since performed a full portfolio review and implemented a series of product guideline changes, operational changes and fraud prevention measures to mitigate future occurrences of this kind. We believe there are no further incidences of fraud in its existing book of lot loans of similar size or scope.
 
The following tables summarize MBR margin by channel and product for the three months ended September 30, 2006 and 2005 and June 30, 2006:
 
                         
    Three Months Ended  
    September 30,
    September 30,
    June 30,
 
    2006     2005     2006  
 
MBR Margin by Channel:
                       
Wholesale
    1.06 %     1.33 %     1.31 %
Correspondent
    0.48 %     1.12 %     0.76 %
Conduit
    0.48 %     0.23 %     0.60 %
Consumer Direct
    1.43 %     2.19 %     1.87 %
Financial Freedom
    4.52 %     2.90 %     3.31 %
Other
    1.29 %     1.49 %     1.34 %
Total MBR margin
    1.03 %     1.22 %     1.23 %
MBR Margin by Product:
                       
Agency Conforming
    0.48 %     0.76 %     0.63 %
Alt-A
    0.70 %     0.95 %     1.17 %
Subprime
    2.30 %     2.56 %     2.36 %
HELOC/Seconds
    0.83 %     2.54 %     0.20 %
Reverse Mortgages
    4.52 %     2.90 %     3.31 %
CTP/Lot
    1.96 %     1.90 %     0.81 %
Other
    1.55 %     2.13 %     1.41 %
Total MBR margin
    1.03 %     1.22 %     1.23 %


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The Company hedges the interest rate risk inherent in its pipeline of mortgage loans held for sale to protect its margin on sale of loans. Indymac focuses on trying to maintain stable profit margins with an emphasis on forecasting expected fallout to more precisely estimate our required hedge coverage ratio and optimize hedge costs. By closely monitoring key factors, such as product type, origination channels, progress or “status” of transactions, as well as changes in market interest rates since Indymac committed a rate to the borrower (“rate lock commitments”), the Company seeks to quantify the optional component of each rate lock, and in turn, the aggregate rate lock pipeline. By accurately evaluating these factors, the Company has been able to minimize the purchase of options and also stabilize gain on sale margins over different rate environments.
 
In addition to mortgage loans held for sale, the hedging activities also include rate lock commitments. Rate lock commitments on mortgage loans that are intended to be sold are considered to be derivatives pursuant to SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities,” (“SFAS No. 133”). The rate lock commitments are initially valued at zero and continue to be adjusted for changes in value resulting from changes in market interest rates, pursuant to the Staff Accounting Bulletin No. 105, “Application of Accounting Principles to Loan Commitments.” The Company hedges the risk of changes in fair value of rate lock commitments by selling forward contracts on securities of Fannie Mae or Freddie Mac, Euro Dollar futures and other hedge instruments to manage this risk. These forward and futures contracts are also accounted for as derivatives and recorded at fair value.
 
The following shows the various channels through which loans were distributed:
 
                                         
    Three Months Ended     Nine Months Ended  
    September 30,
    September 30,
    June 30,
    September 30,
    September 30,
 
    2006     2005     2006     2006     2005  
          (Dollars in millions)        
 
Distribution of Loan Sales by Channel
                                       
Sales of government-sponsored enterprises (“GSEs”) equivalent loans
    16 %     17 %     18 %     18 %     16 %
Private-label securitizations
    38 %     60 %     46 %     40 %     63 %
Whole loan sales, servicing retained
    38 %     16 %     33 %     36 %     13 %
Whole loan sales, servicing released
    1 %     2 %     2 %     2 %     3 %
                                         
Subtotal sales
    93 %     95 %     99 %     96 %     95 %
Investment portfolio acquisitions
    7 %     5 %     1 %     4 %     5 %
                                         
Total loan distribution percentage
    100 %     100 %     100 %     100 %     100 %
                                         
Total loan distribution
  $ 20,914     $ 16,283     $ 19,631     $ 57,870     $ 38,698  
                                         
 
We maintain multiple channels for loan dispositions to achieve sustainable liquidity and develop a deep and diverse investor base. Also, through multiple channels, Indymac endeavors to consistently sell investment and non-investment grade bonds, AAA-rated and agency interest-only securities, and whole loans for cash.
 
In conjunction with the sale of mortgage loans, the Company generally retains certain assets. The primary assets retained include MSRs and, to a lesser degree, AAA-rated and agency interest-only securities, AAA-rated principal-only securities, prepayment penalty securities, investment and non-investment grade securities, and residual securities. The allocated cost of the retained assets at the time of sale is recorded as an asset with an offsetting increase to the gain on sale of loans (or a reduction in the cost basis of the loans sold). The calculation of the $160.2 million in gain on sale of loans earned during the three months ended September 30, 2006 included the retention of $258.2 million in MSRs and $62.1 million of other retained assets. During the three months ended September 30, 2006, assets previously retained generated cash flows of $185.2 million. More information on the valuation assumptions related to the Company’s retained assets can be found at page 37, under the heading “Valuation of MSRs, Interest-Only, Prepayment Penalty, and Residual Securities.”


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MORTGAGE SERVICING AND OTHER RETAINED ASSETS
 
MORTGAGE SERVICING AND MORTGAGE SERVICING RIGHTS
 
Indymac’s total loans serviced for others reached $124.4 billion (including reverse mortgages and HELOCs) at September 30, 2006, with a weighted average coupon of 6.96%. In comparison, Indymac serviced $110.0 billion of mortgage loans owned by others at June 30, 2006, with a weighted average coupon of 6.70%; and $73.8 billion at September 30, 2005, with a weighted average coupon of 5.98%. The activity in the servicing portfolios for the quarters ended September 30, 2006 and 2005 and June 30, 2006, and for the nine months ended September 30, 2006 and 2005 follows:
 
                                         
    Three Months Ended     Nine Months Ended  
    September 30,
    September 30,
    June 30,
    September 30,
    September 30,
 
    2006     2005     2006     2006     2005  
    (Dollars in millions)  
 
Unpaid principal balance at beginning of period
  $ 109,989     $ 63,676     $ 96,512     $ 84,495     $ 50,219  
Additions
    20,709       15,561       19,422       56,822       36,567  
Clean-up calls exercised
                (31 )     (31 )     (113 )
Loan payments and prepayments
    (6,303 )     (5,450 )     (5,914 )     (16,891 )     (12,886 )
                                         
Unpaid principal balance at end of period
  $ 124,395     $ 73,787     $ 109,989     $ 124,395     $ 73,787  
                                         
 
The following tables provide additional information related to the servicing portfolio:
 
                         
    As of  
    September 30,
    September 30,
    June 30,
 
    2006     2005     2006  
 
By Product Type:
                       
Fixed rate mortgages
    34 %     37 %     35 %
Intermediate term fixed rate loans
    29 %     26 %     28 %
Pay option ARMs
    25 %     25 %     25 %
Reverse mortgages (all ARMs)
    9 %     9 %     9 %
HELOCs
    2 %     2 %     2 %
Other
    1 %     1 %     1 %
                         
Total
    100 %     100 %     100 %
                         
Additional Information, Excluding Reverse Mortgages:
                       
Weighted average FICO
    703       699       703  
Weighted average original LTV(1)
    73 %     73 %     72 %
Average original loan size (in thousands)
    228       210       225  
Percentage of portfolio with prepayment penalty
    42 %     34 %     40 %
By Geographic Distribution:
                       
California
    42 %     42 %     42 %
New York
    8 %     9 %     8 %
Florida
    8 %     7 %     8 %
New Jersey
    4 %     5 %     4 %
Virginia
    4 %     3 %     4 %
Other
    34 %     34 %     34 %
                         
Total
    100 %     100 %     100 %
                         
 
 
(1) Combined loan-to-value ratio for loans in the second lien position is used to calculate weighted average original loan-to-value ratio for the portfolio.
 
(2) Capitalized MSRs totaled $1.63 billion as of September 30, 2006 and $1.60 billion as of June 30, 2006, an increase of $32.5 million. The activities in MSRs follow:


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    Three Months Ended     Nine Months Ended  
    September 30,
    September 30,
    June 30,
    September 30,
    September 30,
 
    2006     2005     2006     2006     2005  
    (Dollars in thousands)  
 
Balance at beginning of period
  $ 1,598,821     $ 738,844     $ 1,354,433     $ 1,094,490     $ 640,794  
Cumulative-effect adjustment due to change in accounting for MSRs
                      17,561        
Additions from loan sale or securitization
    258,249       212,857       268,515       756,821       489,821  
Purchase or assumption
    8,631       (89 )     27       8,658       5,463  
Transfers to prepayment penalty and/or AAA-rated and agency interest-only securities
    (2,601 )                 (2,601 )     (8,491 )
Clean-up calls exercised
          (730 )     (274 )     (274 )     (2,597 )
Change in fair value due to run-off
    (97,714 )     N/A       (88,261 )     (254,133 )     N/A  
Change in fair value due to market changes
    (133,471 )     N/A       76,670       27,253       N/A  
Change in fair value due to application of external benchmarking policies
    (599 )     N/A       (12,289 )     (16,459 )     N/A  
Amortization
          (60,911 )                 (158,786 )
Valuation/impairment
          50,635                   (25,598 )
                                         
Balance at end of period
  $ 1,631,316     $ 940,606     $ 1,598,821     $ 1,631,316     $ 940,606  
                                         
MSRs fair value as a percentage of unpaid principal balance (in bps)
    131       127       145       131       127  
 
The fair value of MSRs is determined using discounted cash flow techniques benchmarked against third party opinions of value. Estimates of fair value involve several assumptions, including assumptions about future prepayment rates, market expectations of future interest rates and discount rates. Prepayment rates are projected using a prepayment model developed by a third party vendor and calibrated for the Company’s collateral. The model considers key factors, such as refinance incentive, housing turnover, seasonality and aging of the pool of loans. Prepayment speeds incorporate expectations of future rates implied by the market forward LIBOR/swap curve, as well as collateral specific current coupon information. Refer to “Valuation of MSRs, Interest-Only, Prepayment Penalty, and Residual Securities” on page 37 for further detail on the valuation assumptions.


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Effective January 1, 2006, SFAS No. 156 allowed us to elect to measure MSRs using the fair value method instead of the amortization method. Therefore, change in value due to run-off of the portfolio is recorded as valuation adjustment instead of the amortization for periods beginning in 2006. The components of service fee income (expense) are as follows:
 
                                                 
    Three Months Ended  
    September 30,
    BPS
    September 30,
    BPS
    June 30,
    BPS
 
    2006     UPB     2005     UPB     2006     UPB  
    (Dollars in thousands)  
 
Service fee (expense) income:
                                               
Gross service fee income
  $ 133,818       46     $ 75,246       44     $ 117,787       45  
Change in value due to portfolio run offs/Amortization
    (97,714 )     (33 )     (60,912 )     (36 )     (88,261 )     (34 )
                                                 
Service fee income, net of change in value due to portfolio run-off/amortization
    36,104       13       14,334       8       29,526       11  
Change in value due to application of external benchmarking policies
    (599 )                       (12,289 )     (5 )
Valuation adjustment due to market changes
    (133,471 )     (46 )     50,635       30       76,670       30  
Hedge gain (loss) on MSRs
    119,024       41       (54,665 )     (32 )     (66,660 )     (26 )
                                                 
Total service fee income
  $ 21,058       8     $ 10,304       6     $ 27,247       10  
                                                 
 
                                 
    Nine Months Ended  
    September 30,
    BPS
    September 30,
    BPS
 
    2006     UPB     2005     UPB  
    (Dollars in thousands)  
 
Service fee (expense) income:
                               
Gross service fee income
  $ 349,798       45     $ 194,592       43  
Change in value due to portfolio run offs/Amortization
    (254,133 )     (33 )     (158,787 )     (35 )
                                 
Service income, net of change in value due to portfolio run offs/amortization
    95,665       12       35,805       8  
Change in value due to application of external benchmarking policies
    (16,459 )     (2 )            
Valuation adjustment due to market changes
    27,253       4       (25,598 )     (6 )
Hedge (loss) gain on MSRs
    (27,265 )     (4 )     15,314       3  
                                 
Total service fee income
  $ 79,194       10     $ 25,521       5  
                                 


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In addition to the hedging gain (loss) on MSRs, the Company also uses other hedging strategies to manage its economic risks associated with MSRs. A summary of the performance on MSRs, including AAA-rated and agency interest-only securities, residual securities, and hedges for the respective periods follows:
 
                                         
    Three Months Ended     Nine Months Ended  
    September 30,
    September 30,
    June 30,
    September 30,
    September 30,
 
    2006     2005     2006     2006     2005  
    (Dollars in thousands)  
 
Valuation adjustment due to market changes
  $ (134,070 )   $ 50,635     $ 64,381     $ 10,794     $ (25,598 )
Hedge gain (loss) on MSRs
    119,024       (54,665 )     (66,660 )     (27,265 )     15,314  
Unrealized (loss) gain on AAA-rated and agency interest-only securities and residual securities
    (504 )     (518 )     5,566       11,346       (17,612 )
Unrealized gain (loss) on principal-only securities
    5,008       5       (5,614 )     (1,500 )     (91 )
Unrealized gain on prepayment penalty securities
    13,250       1,310       10,909       17,907       18,484  
Other
    1,476       (604 )     (1,102 )     (944 )     5,651  
                                         
Net (loss) gain on MSRs, AAA-rated and agency interest-only securities, residual securities, and hedges
  $ 4,184     $ (3,837 )   $ 7,480     $ 10,338     $ (3,852 )
                                         
 
During the third quarter of 2006, we had a strong hedge performing with a net gain on MSRs, AAA-rated and agency interest-only securities, residual securities, and related hedges of $4.2 million compared to a net loss of $3.8 million for the third quarter of 2005. We also recorded a net gain of $10.3 million and a net loss of $3.9 million for nine months ended September 30, 2006 and 2005, respectively.


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OTHER RETAINED ASSETS
 
The carrying value of AAA-rated and agency interest-only, principal-only, prepayment penalty, residual and non-investment grade securities is evaluated by discounting estimated net future cash flows. For these securities, estimated net future cash flows are primarily based on assumptions related to prepayment speeds, in addition to expected credit loss assumptions on the residual securities. The models used for estimation are periodically tested against historical prepayment speeds and our valuations are benchmarked to external sources, where available. We also may retain certain other investment grade securities from our securitizations and to a lesser extent purchase them from third parties to serve as hedges for our AAA-rated and agency interest-only securities.
 
A summary of the activity of the retained assets follows:
 
                                         
    Three Months Ended     Nine Months Ended  
    September 30,
    September 30,
    June 30,
    September 30,
    September 30,
 
    2006     2005     2006     2006     2005  
    (Dollars in thousands)  
 
AAA-rated and agency interest-only securities:
                                       
Beginning balance
  $ 64,373     $ 63,052     $ 84,816     $ 78,731     $ 90,658  
Retained investments from securitizations
    15,057       11,558             20,253       15,664  
Sales
                (22,939 )     (22,939 )      
Clean-up calls exercised
                (107 )     (107 )     (171 )
Cash received, net of accretion
    (2,361 )     (5,469 )     (3,669 )     (11,636 )     (17,352 )
Valuation gains (losses) before hedges
    (8,629 )     4,864       6,272       4,138       (14,794 )
                                         
Ending balance
  $ 68,440     $ 74,005     $ 64,373     $ 68,440     $ 74,005  
                                         
Principal-only securities:
                                       
Beginning balance
  $ 129,951     $     $ 12,820     $ 9,483     $ 18,598  
Retained investments from securitizations
    3,238       2,351       3,445       10,907       3,770  
Purchases
                121,281       121,281        
Sales
    (100,761 )                 (100,761 )     (19,448 )
Cash received, net of accretion
    (2,278 )     (5 )     (1,981 )     (4,252 )     (478 )
Valuation gains (losses) before hedges
    5,008       5       (5,614 )     (1,500 )     (91 )
                                         
Ending balance
  $ 35,158     $ 2,351     $ 129,951     $ 35,158     $ 2,351  
                                         
Prepayment penalty securities:
                                       
Beginning balance
  $ 80,036     $ 62,283     $ 66,949     $ 75,741     $ 33,451  
Retained investments from securitizations
    13,801       20,998       13,466       35,858       31,140  
Transfer from MSRs/residual securities
    3,642                   3,642       8,491  
Cash received, net of accretion
    (12,307 )     (8,413 )     (11,288 )     (34,726 )     (15,388 )
Valuation gains (losses) before hedges
    13,250       1,310       10,909       17,907       18,484  
                                         
Ending balance
  $ 98,422     $ 76,178     $ 80,036     $ 98,422     $ 76,178  
                                         
Residual securities(1):
                                       
Beginning balance
  $ 240,522     $ 145,794     $ 205,128     $ 167,771     $ 135,386  
Retained investments from securitizations
    23,608       17,404       43,933       109,417       35,584  
Transfer to prepayment penalty securities
    (1,041 )                 (1,041 )      
Impairments
    (3,626 )           (1,300 )     (4,926 )      
Cash received, net of accretion
    (6,431 )     (3,414 )     (3,255 )     (15,735 )     (15,322 )
Valuation gains (losses) before hedges
    8,626       (5,450 )     (3,984 )     6,172       (1,314 )
                                         
Ending balance
  $ 261,658     $ 154,334     $ 240,522     $ 261,658     $ 154,334  
                                         


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    Three Months Ended     Nine Months Ended  
    September 30,
    September 30,
    June 30,
    September 30,
    September 30,
 
    2006     2005     2006     2006     2005  
    (Dollars in thousands)  
 
Investment-grade securities:
                                       
Beginning balance
  $ 187,945     $ 94,346     $ 145,499     $ 92,120     $ 146,822  
Retained investments from securitizations
    3,092             25,808       43,701       33,924  
Purchases
    7,369             23,974       72,366        
Impairment
          (87 )           (183 )     (328 )
Clean-up calls exercised
                (1 )     (1 )     7  
Sales
    (7,039 )                 (7,039 )     (83,629 )
Cash received, net of accretion
    (1,142 )     139       (4,871 )     (7,437 )     (2,356 )
Valuation gains (losses) before hedges
    2,970       (958 )     (2,464 )     (332 )     (1,000 )
                                         
Ending balance
  $ 193,195     $ 93,440     $ 187,945     $ 193,195     $ 93,440  
                                         
Non-Investment grade securities:
                                       
Beginning balance
  $ 88,045     $ 57,950     $ 66,339     $ 57,712     $ 83,052  
Retained investments from securitizations
    3,324       5,503       22,232       34,205       9,728  
Purchases
                            1,523  
Impairment
    (156 )     (51 )     (202 )     (610 )     (225 )
Sales
    (12,401 )     (10,344 )           (12,401 )     (37,330 )
Cash received, net of accretion
    296       (24 )     (111 )     392       (345 )
Valuation gains (losses) before hedges
    (830 )     7       (213 )     (1,020 )     (3,362 )
                                         
Ending balance
  $ 78,278     $ 53,041     $ 88,045     $ 78,278     $ 53,041  
                                         
 
 
(1) Included in the residual securities balance at September 30, 2006 were $38.8 million of HELOC residuals retained from two separate guaranteed mortgage securitization transactions. There was no gain on sale of loans recognized in connection with these transactions.

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The fair value of other investment grade and non-investment grade securities by credit rating follows:
 
                                         
    September 30, 2006        
          Premium
                   
    Current
    (Discount)
                December 31,
 
    Face
    to Face
    Amortized
          2005  
    Value     Value     Cost     Fair Value     Fair Value  
    (Dollars in thousands)  
 
Other investment grade mortgage-backed securities:
                                       
AA+
  $ 7,445     $ (73 )   $ 7,372     $ 7,522     $  
AA
    87,813       (1,080 )     86,733       86,967       21,787  
AA-
    14,065       (354 )     13,711       14,171        
A
    4,468       (187 )     4,281       4,360       239  
BBB
    22,274       (1,219 )     21,055       21,088       29,848  
BBB-
    65,670       (5,275 )     60,395       59,087       40,246  
                                         
Total other investment grade mortgage-backed securities
  $ 201,735     $ (8,188 )   $ 193,547     $ 193,195     $ 92,120  
                                         
Non-investment grade mortgage-backed securities:
                                       
BB+
  $ 8,456     $ (1,222 )   $ 7,234     $ 7,234     $  
BB
    54,613       (7,150 )     47,463       47,850       36,873  
BB-
    22,021       (1,002 )     21,019       21,093       13,523  
B
    6,651       (5,330 )     1,321       1,703       6,458  
Other
    5,265       (4,983 )     282       398       858  
                                         
Total other non-investment grade mortgage-backed securities
  $ 97,006     $ (19,687 )   $ 77,319     $ 78,278     $ 57,712  
                                         
 
At September 30, 2006, other investment grade and non-investment grade mortgage-backed securities totaled $271.5 million, of which 86% were collateralized by prime loans and 14% were collateralized by subprime loans.
 
The components of the net gain (loss) on mortgage-backed securities are as follows:
 
                                         
    Three Months Ended     Nine Months Ended  
    September 30,
    September 30,
    June 30,
    September 30,
    September 30,
 
    2006     2005     2006     2006     2005  
    (Dollars in thousands)  
 
Net gain (loss) on securities:
                                       
Realized gain on available for sale securities
  $ 3,520     $ 673     $     $ 3,520     $ 6,054  
Impairment on available for sale securities
    (3,782 )     (138 )     (1,501 )     (5,718 )     (553 )
Unrealized gain on prepayment penalty securities
    13,250       1,310       10,909       17,907       18,484  
Unrealized (loss) gain on AAA-rated and agency interest-only and residual securities
    (504 )     (518 )     5,566       11,346       (17,612 )
Net gain (loss) on trading securities and other instruments used to hedge AAA-rated and agency interest-only and residual securities
    6,484       (599 )     (6,716 )     (2,444 )     5,560  
                                         
Total gain on securities, net
  $ 18,968     $ 728     $ 8,258     $ 24,611     $ 11,933  
                                         


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VALUATION OF MSRs, INTEREST-ONLY, PREPAYMENT PENALTY,
AND RESIDUAL SECURITIES
 
MSRs, AAA-rated and agency interest-only securities, prepayment penalty securities, and residual securities are recorded at fair market value. Prior to January 1, 2006, MSRs were subject to the lower of cost or market limitations. Relevant information and assumptions used to value these securities at September 30, 2006, June 30, 2006 and December 31, 2005 follow:
 
                                                                                 
    Actual     Valuation Assumptions  
                Gross Wtd.
    Servicing
    3-Month
    Weighted
    Lifetime
    3-Month
          Remaining
 
    Book
    Collateral
    Average
    Fee/Interest
    Prepayment
    Average
    Prepayment
    Prepayment
    Discount
    Cumulative
 
    Value     Balance     Coupon     Strip     Speeds     Multiple     Speeds     Speeds     Yield     Loss Rate(1)  
    (Dollars in thousands)  
 
September 30, 2006
                                                                               
MSRs
  $ 1,631,316     $ 124,394,943       6.96 %     0.37 %     18.2 %     3.59       24.8 %     18.2 %     9.6 %     N/A  
                                                                                 
AAA-rated interest-only securities
  $ 68,440     $ 4,424,080       6.68 %     0.52 %     12.7 %     2.95       16.7 %     17.2 %     13.6 %     N/A  
                                                                                 
Prepayment penalty securities
  $ 98,422     $ 19,441,542       7.17 %     N/A       23.0 %     N/A       25.3 %     18.8 %     22.9 %     N/A  
                                                                                 
Lot loan residual securities
  $ 66,133     $ 2,262,810       8.95 %     3.50 %     34.9 %     0.83       39.8 %     38.6 %     23.7 %     0.37 %
HELOC residual securities
    95,745     $ 2,661,610       9.65 %     3.21 %     44.5 %     1.12       50.0 %     48.7 %     20.3 %     0.76 %
Subprime residual securities
    99,780     $ 6,650,080       8.19 %     2.15 %     27.0 %     0.70       38.9 %     33.4 %     23.6 %     3.69 %
                                                                                 
Total non-investment grade residual securities
  $ 261,658                                                                          
                                                                                 
June 30, 2006
                                                                               
MSRs
  $ 1,598,821     $ 109,988,858       6.70 %     0.37 %     18.5 %     3.98       22.1 %     20.5 %     10.2 %     N/A  
                                                                                 
AAA-rated interest-only securities
  $ 64,373     $ 4,512,539       6.61 %     0.41 %     12.6 %     3.47       13.5 %     16.4 %     15.0 %     N/A  
                                                                                 
Prepayment penalty securities
  $ 80,036     $ 16,388,466       6.79 %     N/A       22.9 %     N/A       21.1 %     19.3 %     27.9 %     N/A  
                                                                                 
Lot loan residual securities
    58,779     $ 2,266,191       8.46 %     2.82 %     34.0 %     0.92       40.0 %     38.2 %     22.7 %     0.37 %
HELOC residual securities
    87,434     $ 2,299,992       9.02 %     3.01 %     48.9 %     1.26       49.7 %     48.2 %     19.4 %     0.67 %
Subprime residual securities
    94,309     $ 6,659,194       7.90 %     1.72 %     28.4 %     0.83       37.9 %     31.1 %     24.9 %     3.15 %
                                                                                 
Total non-investment grade residual securities
  $ 240,522                                                                          
                                                                                 
December 31, 2005
                                                                               
MSRs
  $ 1,094,490     $ 84,495,133       6.19 %     0.37 %     21.7 %     3.54       21.4 %     16.2 %     10.7 %     N/A  
                                                                                 
AAA-rated and agency interest-only securities
  $ 78,731     $ 7,583,643       6.63 %     0.38 %     27.5 %     2.73       20.3 %     22.7 %     8.0 %     N/A  
                                                                                 
Prepayment penalty securities
  $ 75,741     $ 13,657,946       6.30 %     N/A       22.7 %     N/A       23.7 %     20.3 %     9.0 %     N/A  
                                                                                 
Prime residual securities
  $ 2,438     $ 1,183,361       5.85 %     0.61 %     60.0 %     0.34       46.3 %     51.4 %     15.0 %     0.18 %
Lot loan residual securities
    41,066     $ 939,005       7.55 %     2.90 %     33.2 %     1.51       43.1 %     41.4 %     21.6 %     0.36 %
HELOC residual securities
    66,041     $ 1,430,473       8.26 %     3.18 %     55.8 %     1.45       44.0 %     49.6 %     19.0 %     0.87 %
Subprime residual securities
    58,226     $ 4,831,675       7.40 %     2.17 %     28.9 %     0.55       37.1 %     29.4 %     24.9 %     2.94 %
                                                                                 
Total non-investment grade residual securities
  $ 167,771                                                                          
                                                                                 
 
 
(1) As a percentage of the original pool balance, the actual cumulative loss rate to date totaled 0.29% and 0.39% for HELOC and subprime loans, respectively, at September 30, 2006. No loss has been incurred on lot loans as of September 30, 2006.


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The lifetime prepayment speeds represent the annual constant prepayment rate (“CPR”) estimated for the remaining life of the collateral supporting the asset. For MSRs and AAA-rated and agency interest-only securities, prepayment rates are projected using a prepayment model developed by a third party vendor and calibrated for the Company’s collateral. The model considers key factors, such as refinance incentive, housing turnover, seasonality and aging of the pool of loans. Prepayment speeds incorporate expectations of future rates implied by the market forward LIBOR/swap curve, as well as collateral specific current coupon information.
 
The weighted-average multiple for MSRs, AAA-rated and agency interest-only securities and residual securities represent the book value divided by the product of collateral balance and servicing fee/interest strip. While the weighted-average life of such assets is a function of the undiscounted cash flows, the multiple is a function of the discounted cash flows. With regard to AAA-rated and agency interest-only securities, the marketplace frequently uses calculated multiples to assess the overall impact valuation assumptions have on value. Collateral type, coupon, loan age and the size of the interest strip must be considered when comparing these multiples. The mix of collateral types supporting servicing-related assets is primarily non-conforming/conventional, which may make the Company’s MSR multiples incomparable to peer multiples whose product mix is substantially different.
 
As of September 30, 2006, the weighted-average multiple for MSRs has decreased compared to June 30, 2006, primarily due to an approximate decrease of 55 basis points in long-term rates, which resulted in the expectation of higher future prepayments. The market environment also affected the weighted-average multiple for all other retained assets.
 
The prepayment penalty securities are used as hedges of MSRs. The value of prepayment penalty securities generally rises in a declining rate environment due to higher prepayment activities, which typically mitigates a decline in MSR value attendant with faster prepayments. As of September 30, 2006, as a percentage of the underlying collateral, the value of prepayment penalty securities was 51 basis points, up from 49 basis points at June 30, 2006.
 
HEDGING INTEREST RATE RISK ON SERVICING-RELATED ASSETS
 
With respect to the investment in servicing-related assets (AAA-rated and agency interest-only securities, non-investment grade residual securities and MSRs), the Company is exposed to interest rate risk. The MSRs and Other Retained Assets division is responsible for the management of interest rate and prepayment risks in the servicing-related assets, subject to policies and procedures established by, and oversight from, our management-level Interest Rate Risk Committee (“IRRC”), Variable Cash Flow Instruments Committee (“VCI”), Enterprise Risk Management (“ERM”) group, and our Board of Directors-level ERM Committee.
 
The objective of our hedging strategy is to maintain a stable range of returns in all interest rate environments and not to speculate on interest rates. As such, we manage the comprehensive interest rate risk of our servicing-related assets using financial instruments. Historically, we have hedged servicing-related assets using a variety of derivative instruments and on-balance sheet securities. As there are no hedge instruments that would be perfectly correlated with these hedged assets, we use a mix of the instruments designed to correlate well with the hedged servicing assets.
 
We use a value-at-risk (“VAR”) measure to monitor our interest rate risk on our portfolio of mortgage servicing rights and interest-only securities, and their related hedges. The measure incorporates a range of market factors that can impact the value of these assets, and supplements other risk measures such as Duration Gap and stress testing. VAR estimates the potential exposure to loss over a specified period at a specified confidence level. We have chosen a historical approach that uses 500 days of market conditions along with current portfolio data to estimate the potential one-day loss at a 95% confidence level. This means that actual losses are estimated to exceed the VAR measure about 5 times every 100 days.
 
In modeling of the VAR, we have made a number of assumptions and approximations. As there is no standardized methodology for estimating VAR, different assumptions and approximations could result in materially different VAR estimates.


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As of September 30, 2006, the portfolio of MSRs and interest-only securities was valued at $1.7 billion. The average VAR (after the effect of hedging transactions) for the quarter was $2.7 million, or 16 bps of the recorded value, up from 14 bps for the quarters ended June 30, 2006. During the quarter the VAR measure ranged from $1.4 million to $3.5 million.
 
A key performance measure for the MSRs and Other Retained Assets division is the return on equity of the deployed capital. The segment as a whole reported an ROE of 30% for the quarter ended September 30, 2006. The table below provides a detail by major asset class of the ROE.
 
                                 
    Servicing
    AAA IO
    Credit Risk
       
For the Three Months Ended September 30, 2006:
  Portfolio     Portfolio     Portfolio     Total  
    (Dollars in thousands)  
 
Net earnings
  $ 19,406       517       10,481       30,404  
Average capital deployed
  $ 259,680       9,784       132,081       401,545  
Return on equity
    30 %     21 %     31 %     30 %
 
MORTGAGE-BACKED SECURITIES AND LOANS HELD FOR INVESTMENT
 
In addition to the securities retained from our securitizations, the Company also invests in non-agency senior and agency securities and loans held for investment to generate core interest income, stabilize company-wide earnings and provide a consistent return on equity. These securities are generally classified as available for sale and fair value adjustments are excluded from earnings and reported as a separate component in shareholders’ equity.
 
At September 30, 2006, mortgage-backed securities totaled $5.0 billion, of which 87% were AAA-rated securities. At December 31, 2005, mortgage-backed securities totaled $4.1 billion, of which 90% were AAA-rated securities. Our AAA-rated mortgage-backed securities had an expected weighted-average life of 2.8 years and 2.6 years at September 30, 2006 and December 31, 2005, respectively.
 
Details of loans held for investment and AAA-rated non-agency and agency securities as of September 30, 2006 and December 31, 2005 follow:
 
                 
    September 30,
    December 31,
 
    2006     2005  
    (Dollars in thousands)  
 
Loans held for investment:
               
SFR mortgage
  $ 6,462,610     $ 5,441,521  
Consumer construction
    1,985,738       1,656,963  
Builder construction
    1,018,891       838,772  
HELOC
    28,815       31,882  
Land and other mortgage
    366,984       260,615  
Revolving warehouse lines of credit
    166,948       48,616  
                 
Total — loans held for investment
  $ 10,029,986     $ 8,278,369  
                 
AAA-rated mortgage-backed securities:
               
AAA-rated non-agency securities, trading
  $ 33,829     $ 52,633  
AAA-rated non-agency securities, available for sale
    4,130,995       3,524,952  
AAA-rated agency securities, available for sale
    50,084       43,014  
                 
Total AAA-rated mortgage-backed securities
  $ 4,214,908     $ 3,620,599  
                 


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Table of Contents

SFR MORTGAGE LOANS HELD FOR INVESTMENT
 
The Company’s portfolio of mortgage loans held for investment is comprised primarily of SFR mortgage loans, with a concentration in adjustable-rate and intermediate term fixed rate mortgage loans to mitigate interest rate risk. The Company plans to grow its thrift portfolio opportunistically depending on external market demand, always seeking the best execution of the mortgage loans produced. During the third quarter of 2006, the Company added $1.4 billion of mortgage loans to the held for investment portfolio in accordance with this strategy.
 
A composition of the portfolio and the relevant credit quality characteristics as of September 30, 2006, June 30, 2006, and December 31, 2005 follow:
 
                         
    September 30,
    June 30,
    December 31,
 
    2006     2006     2005  
    (Dollars in thousands)  
 
SFR mortgage loans held for investment (book value)
  $ 6,462,610     $ 5,427,609     $ 5,441,521  
Average loan size
  $ 304     $ 290     $ 292  
Non-performing loans as a percentage of SFR loans
    0.90 %     0.86 %     0.62 %
Estimated average life in years(1)
    2.4       2.3       2.4  
Estimated average net duration in months(2)
    (1.0 )     (0.7 )     0.1  
Annualized yield
    6.00 %     5.74 %     5.06 %
Percentage of loans with active prepayment penalty
    34 %     40 %     35 %
Interest-only loans
    61 %     51 %     49 %
Pay option ARMs
    18 %     24 %     25 %
Intermediate term fixed rate loans
    14 %     16 %     16 %
Fixed-rate mortgages
    5 %     6 %     6 %
ARMs
    2 %     3 %     4 %
Additional Information:
                       
Average FICO score(3)
    716       713       715  
Original average loan to value ratio
    73 %     73 %     72 %
Current average loan to value ratio(4)
    59 %     58 %     58 %
Geographic distribution of top five states:
                       
Southern California
    32 %     31 %     32 %
Northern California
    20 %     21 %     21 %
                         
Total California
    52 %     52 %     53 %
Florida
    6 %     6 %     5 %
New York
    4 %     3 %     4 %
Michigan
    3 %     4 %     4 %
Virginia
    3 %     3 %     3 %
Other
    32 %     32 %     31 %
                         
Total
    100 %     100 %     100 %
                         
 
 
(1) Represents the estimated length of time, on average, the SFR loan portfolio will remain outstanding based on the Company’s estimates for prepayments.
 
(2) Average net duration measures the expected change in the value of a financial instrument in response to changes in interest rates, taking into consideration the impact of the related hedges. The negative net duration implies an increase in value as rates rise while the positive net duration implies a decrease in value.
 
(3) FICO scores are the result of a credit scoring system developed by Fair Isaacs and Co. and are generally used by lenders to evaluate a borrower’s credit history. FICO scores of 700 or higher are generally considered in the mortgage industry to be very high quality borrowers with low risk of default, but in general, the secondary market will consider FICO scores of 620 or higher to be prime.


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(4) Current average loan-to-value ratio is estimated based on the Office of the Federal Housing Enterprise Oversight House Price Index Metropolitan Statistical Area data on a loan level basis.
 
Included in our loans held for investment portfolio at September 30, 2006 were $1.2 billion in pay option ARM loans, or 18% of the portfolio as compared to $1.3 billion or 25% of the portfolio at December 31, 2005. As of September 30, 2006, approximately 80% (based on loan count) of our pay option ARM loans had negatively amortized, resulting in an increase of $20.7 million to their original loan balance. The net increase in unpaid principal balance due to negative amortization was $5.4 million and $15.3 million for the three and nine months ended September 30, 2006, respectively, which approximated the deferred interest recognized for the periods. The original weighted average combined loan-to-value (“CLTV”) on our pay option ARM loans was 75%, while the estimated current combined LTV is 62%, calculated based on the Office of the Federal Housing Enterprise Oversight House Price Index Metropolitan Statistical Areas data on a loan level basis. The decline in the combined loan-to-value was due to estimated appreciation of the underlying property value. The original weighted average FICO score on our pay option ARM loans was 707 at September 30, 2006, similar to the average FICO for the entire SFR mortgage loans held for investment portfolio.
 
CONSUMER CONSTRUCTION
 
Indymac’s consumer construction division provides construction financing for individual consumers who want to build a new primary residence or second home. The primary product is a construction-to-permanent residential mortgage loan. This product typically provides financing for a construction term from 6 to 12 months and automatically converts to a permanent mortgage loan at the end of construction. The end result is a product that represents a hybrid activity between our portfolio lending activities and mortgage banking activities. The Company earns net interest income on these loans during the construction phase and the loans are generally fixed-rate during this period although a monthly adjusting construction period ARM product was introduced during the second quarter of 2006. When the loan converts to permanent status, the interest rate may be adjusted based on the underlying permanent note. As of September 30, 2006, based on the underlying note agreements, 68% of the construction loans will be converted to adjustable-rate permanent loans, 21% to intermediate term fixed rate loans, and 11% to fixed-rate loans. The consumer construction division also provides financing to builders who are building single-family residences without a guaranteed sale at inception of project, or on a speculative basis. The single-spec portfolio is included in the builder construction portfolio on the balance sheet. See additional discussion in the Builder Construction section.
 
Total new consumer construction commitments decreased 11% as compared to the second quarter of 2006 and decreased 3% as compared to the fourth quarter of 2005 to $908.2 million. This decline reflects the Bank’s effort to tighten controls in light of current market conditions. About 66% of new commitments are generated through mortgage broker customers of the mortgage bank and the remaining 34% of new commitments are retail originations. Once each loan has converted to a permanent mortgage loan, the mortgage is classified as a mortgage loan held for sale and may be sold in the secondary market or acquired by our SFR mortgage loan portfolio. The amount of construction loans that were converted to permanent status was $453 million for the third quarter of 2006, flat from the second quarter of 2006 and an increase of 17% over the fourth quarter of 2005. Overall, the Company is one of the largest custom residential construction lenders in the nation. Consumer construction loans outstanding at September 30, 2006 increased 20% from December 31, 2005.


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Information on our consumer construction portfolio follows:
 
                         
    As of  
    September 30,
    June 30,
    December 31,
 
    2006     2006     2005  
    (Dollars in thousands)  
 
Consumer construction loans (book value)
  $ 1,985,738     $ 1,860,622     $ 1,656,963  
Lot, land and other mortgage loans (book value)
    41,201       79,727       107,164  
Total commitments
    3,342,008       3,214,385       2,949,430  
Average loan commitment
    484       467       442  
Non-performing loans
    0.75 %     0.67 %     0.51 %
Fixed-rate loans
    89 %     95 %     96 %
Adjustable-rate loans
    11 %     5 %     4 %
Additional Information:
                       
Average loan-to-value ratio(1)
    73 %     73 %     72 %
Average FICO score
    714       714       713  
Geographic distribution of top five states:
                       
Southern California
    27 %     28 %     29 %
Northern California
    16 %     16 %     18 %
                         
Total California
    43 %     44 %     47 %
Florida
    9 %     9 %     8 %
Washington
    4 %     4 %     3 %
Arizona
    3 %     3 %     3 %
Colorado
    3 %     3 %     3 %
Other
    38 %     37 %     36 %
                         
Total Consumer Construction
    100 %     100 %     100 %
                         
 
 
(1) The average loan-to-value ratio is based on the estimated appraised value of the completed project compared to the commitment amount at the date indicated.
 
HOME EQUITY DIVISION
 
Indymac’s home equity division specializes in providing HELOC and closed-end second mortgages nationwide through Indymac’s wholesale and retail channels. We also purchase HELOC and closed-end second mortgages through our conduit channel. At September 30, 2006, our total HELOC servicing portfolio totaled $3.3 billion, an increase of approximately $1.2 billion from the portfolio size at December 31, 2005. We plan to sell or securitize a majority of the loans in our HELOC portfolio and as a result, they are classified as held for sale on our balance sheet.
 
We produced $1.0 billion of new HELOC commitments through our mortgage banking segment and internal channels during the third quarter of 2006, and sold $635.4 million of HELOC loans, realizing $6.8 million of gain on sale. In addition to the sales of HELOCs, we periodically transfer HELOCs to two guaranteed mortgage HELOC securitization trusts to maintain the required collateral level in the trusts. These transfers did not result in any gain on sale of loans as the trusts were originally established in on-balance sheet guaranteed mortgage securitization transactions. For the third quarter 2006, HELOCs transferred to the trusts were $87.7 million. We fulfilled our requirements to both trusts as of September 30, 2006.


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All HELOC loans are adjustable rate loans and indexed to the prime rate. Information on the combined HELOC portfolio, including both held for sale and held for investment loans, as of and for the three months ended September 30, 2006, June 30, 2006, and December 31, 2005 follows:
 
                         
    September 30,
    June 30,
    December 31,
 
    2006     2006     2005  
    (Dollars in thousands)  
 
Outstanding balance (book value)
  $ 765,760     $ 759,527     $ 786,922  
Total commitments(1)
    2,115,407       1,907,873       1,493,415  
Average spread over prime
    1.17 %     1.26 %     1.47 %
Average FICO score
    736       734       728  
Average original CLTV ratio(2)
    77 %     77 %     78 %
 
Additional Information as of September 30, 2006
 
                                         
          Average Loan
                30+ Days
 
    Outstanding
    Commitment
    Average Spread
    Average
    Delinquency
 
CLTV
  Balance     Balance     Over Prime     FICO     Percentage  
    (Dollars in thousands)  
 
96% to 100%
  $ 80,904     $ 116       2.05 %     731       3.03 %
91% to 95%
    99,220       99       2.10 %     713       0.62 %
81% to 90%
    304,942       92       1.48 %     718       0.92 %
71% to 80%
    161,165       165       0.35 %     745       0.50 %
70% or less
    119,529       158       0.15 %     752       0.83 %
                                         
Total
  $ 765,760     $ 126       1.17 %     736       1.00 %
                                         
 
 
(1) On funded loans.
 
(2) The CLTV combines the loan-to-value on both the first mortgage loan and the HELOC.
 
BUILDER CONSTRUCTION
 
Indymac’s homebuilder division provides land acquisition, development and construction financing to homebuilders for residential construction. Builder construction loans are typically adjustable-rate loans, indexed to the prime interest rate with terms ranging from 12 to 24 months. The Company earns net interest income on these loans. The homebuilder division has central operations in Pasadena, California with 14 satellite sales offices in California, Florida, Illinois, Arizona, Massachusetts, North Carolina, Texas, Oregon and Colorado. Our typical customer is a mid-size, professional homebuilder who builds between 200 and 2,000 homes per year. We do a limited amount of business with large private and public homebuilders, and have begun a small homebuilder program for homebuilders building five to 25 unit projects, and who typically build five to 100 homes per year.
 
During the third quarter of 2006, the homebuilder division entered into new commitments of $471 million, down 11% or $60 million from the second quarter of 2006 and up 4%, or $18 million, from the fourth quarter of 2005. The decline in volume was mainly due to a slowing of new home projects as new home sales declined over the past several months. As a result of the near term decline in new home sales, the homebuilder division is being more selective about new commitments and consequently its pipeline has reduced. Builder loans outstanding at September 30, 2006, including tract construction, single-spec, and land and other mortgage loans, totaled $1.4 billion, a $278 million, or 25%, increase compared to December 31, 2005 with the increase primarily resulting from advances under existing commitments.
 
At September 30, 2006, non-performing loans for the builder construction portfolio are at 0.25%. Because this represents a low point for the portfolio, the current softening of the housing market makes the prospect of increased non-performing assets and future losses likely. Moreover, due to the size of certain credits in this heterogeneous portfolio, the deterioration of a single credit may significantly increase the builder construction and the Company non-performing ratios. We manage this credit risk by implementing strong underwriting guidelines and risk-based


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pricing. Our current weighted average loan-to-value ratio is 72%. Additionally, 98% of our builder construction loans are secured by corporate or personal guarantees of the builders as well as the underlying real estate.
 
Information on our builder construction portfolio follows:
 
                         
    As of  
    September 30,
    June 30,
    December 31,
 
    2006     2006     2005  
    (Dollars in thousands)  
 
Construction loans (book value)
  $ 1,018,891     $ 1,013,279     $ 838,772  
Land and other mortgage loans (book value)
    350,496       307,282       252,427  
Total commitments(1)
    2,445,632       2,368,149       2,181,698  
Average loan commitments(2)
    11,135       10,602       10,824  
Percentage of homes under construction or completed — pre-sold(3)
    55 %     62 %     66 %
Median sales price of homes(3)
    403       394       377  
Non-performing loans
    0.25 %     0.23 %     0.04 %
Additional Information:
                       
Average loan-to-value ratio(4)
    72 %     71 %     71 %
Geographic distribution of top five states:
                       
Southern California
    37 %     36 %     40 %
Northern California
    17 %     16 %     17 %
                         
Total California
    54 %     52 %     57 %
Florida
    11 %     12 %     9 %
Illinois
    8 %     10 %     9 %
Oregon
    5 %     5 %     3 %
New York
    4 %     4 %     4 %
Other
    18 %     17 %     18 %
                         
Total Builder Construction
    100 %     100 %     100 %
                         
 
 
(1) 86% of the balance represents commitments in construction and land/model loans and 14% represents the single-spec portfolio at September 30, 2006.
 
(2) In calculating the average loans commitments, total commitments of $352.3 million, $364.4 million, and $385.0 million of single-spec loans at September 30, 2006, June 30, 2006 and December 31, 2005, are excluded. Average loan commitments for the single-spec portfolio are $418 thousand, $404 thousand and $387 thousand at September 30, 2006, June 30, 2006, and December 31, 2005, respectively.
 
(3) Amounts are for construction loans from homebuilder division only.
 
(4) The average loan-to-value ratio is based on the estimated appraised value of the completed project compared to the commitment amount at the date indicated.
 
WAREHOUSE LENDING DIVISION
 
Our warehouse lending division offers short-term lines of credit to approved correspondent sellers nationwide. The group functions as a financial intermediary for lenders, providing them with the financial capacity to fund loans and hold them on balance sheet until they are sold to approved investors. The warehouse lending operation relies mainly on the sale or liquidation of the mortgages as a source of repayment. Receivables under warehouse facilities are presented on our balance sheet as loan receivables. Terms of warehouse lines, including the commitment


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amount, are determined based upon the financial strength, historical performance and other qualifications of the borrower. Information on our warehouse lending portfolio follows:
 
                         
    As of  
    September 30,
    June 30,
    December 31,
 
    2006     2006     2005  
    (Dollars in thousands)  
 
Outstanding balance (book value)
  $ 166,948     $ 121,292     $ 48,616  
Total commitments
    637,000       468,000       201,000  
 
For information related to the Company’s balance of non-performing assets and related credit reserves, see discussion in the “Credit Risk and Reserves” section at page 50.
 
NET INTEREST MARGIN
 
Information regarding our consolidated average balance sheets (all segments are combined), along with the total dollar amounts of interest income and interest expense and the weighted-average interest rates, follow:
 
                                                                         
    Three Months Ended  
    September 30, 2006     September 30, 2005     June 30, 2006  
    Average
          Yield/
    Average
          Yield/
    Average
          Yield/
 
    Balance     Interest     Rate     Balance     Interest     Rate     Balance     Interest     Rate  
    (Dollars in thousands)  
 
Assets
                                                                       
Securities
  $ 4,889,155     $ 86,212       7.00 %   $ 3,589,084     $ 52,624       5.82 %   $ 4,596,115     $ 80,998       7.07 %
Loans held for sale
    10,825,266       196,924       7.22 %     9,065,447       125,969       5.51 %     10,532,302       181,079       6.90 %
Mortgage loans held for investment
    6,079,803       92,005       6.00 %     5,392,079       66,566       4.90 %     6,016,878       86,092       5.74 %
Builder construction and income property
    1,023,421       27,396       10.62 %     797,853       18,086       8.99 %     993,145       25,280       10.21 %
Consumer construction
    1,835,164       32,087       6.94 %     1,468,487       20,440       5.52 %     1,707,957       28,079       6.59 %
Investment in Federal Home Loan Bank stock and other
    854,208       12,127       5.63 %     808,590       8,098       3.97 %     834,180       10,683       5.14 %
                                                                         
Total interest-earning assets
    25,507,017       446,751       6.95 %     21,121,540       291,783       5.48 %     24,680,577       412,211       6.70 %
                                                                         
Mortgage servicing assets
    1,552,295                       792,300                       1,434,234                  
Other
    2,080,669                       931,074                       1,655,158                  
                                                                         
Total assets
  $ 29,139,981                     $ 22,844,914                     $ 27,769,969                  
                                                                         
                                     
Liabilities and shareholders’ equity
                                                                       
Interest-bearing deposits
  $ 9,208,481       113,758       4.90 %   $ 6,108,016       52,261       3.39 %   $ 8,211,312       92,840       4.53 %
Advances from Federal Home Loan Bank
    9,783,887       115,769       4.69 %     9,061,905       76,907       3.37 %     9,775,167       110,468       4.53 %
Other borrowings
    5,682,601       80,513       5.62 %     4,806,036       49,796       4.11 %     5,923,472       78,749       5.33 %
                                                                         
Total interest-bearing liabilities
    24,674,969       310,040       4.99 %     19,975,957       178,964       3.55 %     23,909,951       282,057       4.73 %
                                                                         
Other
    2,593,633                       1,453,596                       2,117,781                  
                                                                         
Total liabilities
    27,268,602                       21,429,553                       26,027,732                  
Shareholders’ equity
    1,871,379                       1,415,361                       1,742,237                  
                                                                         
Total liabilities and shareholders’ equity
  $ 29,139,981                     $ 22,844,914                     $ 27,769,969                  
                                                                         
Net interest income
          $ 136,711                     $ 112,819                     $ 130,154          
                                                                         
Net interest spread
                    1.96 %                     1.93 %                     1.97 %
                                                                         
Net interest margin
                    2.13 %                     2.12 %                     2.12 %
                                                                         
 


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    Nine Months Ended  
    September 30, 2006     September 30, 2005  
    Average
          Yield
    Average
          Yield
 
    Balance     Interest     Rate     Balance     Interest     Rate  
    (Dollars in thousands)  
 
Assets
                                               
Securities
  $ 4,541,302     $ 233,693       6.88 %   $ 3,603,369     $ 151,649       5.63 %
Loans held for sale
    10,650,644       551,564       6.92 %     7,319,273       293,108       5.35 %
Mortgage loans held for investment
    6,014,437       260,276       5.79 %     5,198,156       185,793       4.78 %
Builder construction and income property
    973,663       73,960       10.16 %     727,197       46,614       8.57 %
Consumer construction
    1,719,823       84,609       6.58 %     1,412,820       59,097       5.59 %
Investment in Federal Home Loan Bank stock and other
    834,396       32,706       5.24 %     727,884       19,534       3.59 %
                                                 
Total interest-earning assets
    24,734,265       1,236,808       6.69 %     18,988,699       755,795       5.32 %
                                                 
Mortgage servicing assets
    1,377,586                       722,629                  
Other
    1,695,257                       766,007                  
                                                 
Total assets
  $ 27,807,108                     $ 20,477,335                  
                                                 
                         
Liabilities and shareholders’ equity
                                               
Interest-bearing deposits
  $ 8,255,056       280,841       4.55 %   $ 5,686,527       132,479       3.11 %
Advances from Federal Home Loan Bank
    9,839,691       329,846       4.48 %     8,192,796       193,711       3.16 %
Other borrowings
    5,844,576       232,046       5.31 %     4,011,769       114,293       3.81 %
                                                 
Total interest-bearing liabilities
    23,939,323       842,733       4.71 %     17,891,092       440,483       3.29 %
                                                 
Other
    2,129,600                       1,245,302                  
                                                 
Total liabilities
    26,068,923                       19,136,394                  
Shareholders’ equity
    1,738,185                       1,340,941                  
                                                 
Total liabilities and shareholders’ equity
  $ 27,807,108                     $ 20,477,335                  
                                                 
Net interest income
          $ 394,075                     $ 315,312          
                                                 
Net interest spread
                    1.98 %                     2.03 %
Net interest margin
                    2.13 %                     2.22 %
 
Average balances are calculated on a daily basis. Non-performing loans are included in the average balances for the periods presented. The allowance for loan losses is excluded from the average loan balances.
 
                                                                         
    Three Months Ended  
    September 30, 2006     September 30, 2005     June 30, 2006  
    Average
    Net
    Net
    Average
    Net
    Net
    Average
    Net
    Net
 
    Earning
    Interest
    Interest
    Earning
    Interest
    Interest
    Earning
    Interest
    Interest
 
    Assets     Income     Margin     Assets     Income     Margin     Assets     Income     Margin  
    (Dollars in millions)  
 
By Segment:
                                                                       
Thrift segment and other
  $ 15,390     $ 78       2.02 %   $ 12,835     $ 67       2.07 %   $ 14,986     $ 75       2.01 %
Mortgage banking segment
    10,117       59       2.29 %     8,287       46       2.20 %     9,695       55       2.27 %
                                                                         
Total Company
  $ 25,507     $ 137       2.13 %   $ 21,122     $ 113       2.12 %   $ 24,681     $ 130       2.12 %
                                                                         
 
The net interest margin during the third quarter of 2006 was 2.13%, comparable to the net interest margin of 2.12% for the third quarter of 2005 and the second quarter of 2006.
 

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    Nine Months Ended  
    September 30, 2006     September 30, 2005  
    Average
    Net
    Net
    Average
    Net
    Net
 
    Earning
    Interest
    Interest
    Earning
    Interest
    Interest
 
    Assets     Income     Margin     Assets     Income     Margin  
    (Dollars in millions)  
 
By Segment:
                                               
Thrift segment and other
  $ 14,946     $ 227       2.03 %   $ 12,170     $ 195       2.14 %
Mortgage banking segment
    9,788       167       2.28 %     6,819       120       2.35 %
                                                 
Total Company
  $ 24,734     $ 394       2.13 %   $ 18,989     $ 315       2.22 %
                                                 
 
The net interest margin during the nine months ended September 30, 2006 of 2.13%, declined from 2.22% for the nine months ended September 30, 2005, primarily due to the reduction of spread between 10-year Treasury and Fed fund rates. The impact of this spread reduction was partially offset by the effective interest rate management in our thrift portfolio. We do not place interest rate hedges on loans held for sale as we hold these loans for a short period of time, generally ranging from 10 to 90 days.
 
Interest income and interest expense fluctuations depend upon changes in the average balances and interest rates of interest-earning assets and interest-bearing liabilities. The following table details changes attributable to:
 
                                 
    Increase/(Decrease) Due to  
    Volume(1)     Rate(2)     Mix(3)     Total Change  
    (Dollars in thousands)  
 
Three Months Ended September 30, 2006 vs. 2005
                               
Interest income:
                               
Mortgage-backed securities
  $ 19,062     $ 10,664     $ 3,862     $ 33,588  
Loans held for sale
    24,454       38,942       7,559       70,955  
Mortgage loans held for investment
    8,490       15,032       1,917       25,439  
Builder construction and income property
    5,113       3,272       925       9,310  
Consumer construction
    5,104       5,236       1,307       11,647  
Investment in Federal Home Loan Bank stock and other
    457       3,381       191       4,029  
                                 
Total interest income
    62,680       76,527       15,761       154,968  
Interest expense:
                               
Interest-bearing deposits
    26,528       23,195       11,774       61,497  
Advances from Federal Home Loan Bank
    6,127       30,319       2,416       38,862  
Other borrowings
    10,304       17,836       2,577       30,717  
                                 
Total interest expense
    42,959       71,350       16,767       131,076  
                                 
Net interest income
  $ 19,721     $ 5,177     $ (1,006 )   $ 23,892  
                                 
Nine Months Ended September 30, 2006 vs. 2005
                               
Interest income:
                               
Mortgage-backed securities
  $ 39,473     $ 33,779     $ 8,792     $ 82,044  
Loans held for sale
    133,408       85,934       39,114       258,456  
Mortgage loans held for investment
    29,176       39,159       6,148       74,483  
Builder construction and income property
    15,799       8,625       2,922       27,346  
Consumer construction
    12,842       10,409       2,261       25,512  
Investment in Federal Home Loan Bank stock and other
    2,858       8,997       1,317       13,172  
                                 
Total interest income
    233,556       186,903       60,554       481,013  

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    Increase/(Decrease) Due to  
    Volume(1)     Rate(2)     Mix(3)     Total Change  
    (Dollars in thousands)  
 
Interest expense:
                               
Interest-bearing deposits
    59,839       60,979       27,544       148,362  
Advances from Federal Home Loan Bank
    38,939       80,928       16,268       136,135  
Other borrowings
    52,843       44,768       20,142       117,753  
                                 
Total interest expense
    151,621       186,675       63,954       402,250  
                                 
Net interest income
  $ 81,935     $ 228     $ (3,400 )   $ 78,763  
                                 
 
 
(1) Changes in volume are calculated by taking changes in average outstanding balances multiplied by the prior period’s rate.
 
(2) Changes in the rate are calculated by taking changes in the average interest rate multiplied by the prior period’s volume.
 
(3) Changes in rate/volume (“mix”) are calculated by taking changes in rates times the changes in volume.
 
INTEREST RATE SENSITIVITY
 
In addition to our hedging activities to mitigate the interest rate risk in our pipeline of mortgage loans held for sale, rate locks and our investment in servicing-related assets, we perform extensive, company-wide interest rate risk management. Our primary measurement tool used to evaluate interest rate risk over the comprehensive balance sheet is net portfolio value (“NPV”) analysis. The NPV analysis and duration gap estimate the exposure of the fair value of net assets attributable to shareholders’ equity to changes in interest rates.
 
The following sets forth the NPV and change in NPV that we estimate might result from a 100 basis point change in interest rates as of September 30, 2006, and December 31, 2005:
 
                                                 
    September 30, 2006     December 31, 2005  
          Effect of Change in
          Effect of Change in
 
          Interest Rates           Interest Rates  
    Fair
    Decrease
    Increase
          Decrease
    Increase
 
    Value     100 bps     100 bps     Fair Value     100 bps     100 bps  
    (Dollars in thousands)  
 
Cash and cash equivalents
  $ 520,281     $ 520,281     $ 520,281     $ 442,059     $ 442,059     $ 442,059  
Trading securities
    525,235       554,541       515,428       342,545       348,982       323,577  
Available for sale securities
    3,550,483       3,615,966       3,454,607       2,680,955       2,727,144       2,613,690  
Loans held for sale
    8,388,857       8,466,224       8,277,630       6,057,556       6,111,131       5,972,194  
Loans held for investment
    10,034,597       10,097,319       9,927,328       8,213,754       8,279,424       8,119,628  
MSRs
    1,631,316       1,269,914       1,892,303       1,114,630       930,932       1,239,189  
Other assets
    1,775,749       2,030,785       1,636,356       1,372,896       1,436,900       1,391,549  
                                                 
Total assets
  $ 26,426,518     $ 26,555,030     $ 26,223,933     $ 20,224,395     $ 20,276,572     $ 20,101,886  
                                                 
Deposits
  $ 10,126,232     $ 10,171,064     $ 10,082,405     $ 7,629,227     $ 7,665,078     $ 7,594,015  
Advances from Federal Home Loan Bank
    9,328,093       9,417,285       9,239,242       6,966,946       6,993,439       6,940,884  
Other borrowings
    3,315,142       3,316,516       3,313,771       2,990,570       2,992,630       2,988,513  
Other liabilities
    683,146       683,146       683,146       433,995       434,287       433,705  
                                                 
Total liabilities
    23,452,613       23,588,011       23,318,564       18,020,738       18,085,434       17,957,117  
Shareholders’ equity (NPV)
  $ 2,973,905     $ 2,967,019     $ 2,905,369     $ 2,203,657     $ 2,191,138     $ 2,144,769  
                                                 
% Change from base case
            (0.23 )%     (2.30 )%             (0.57 )%     (2.67 )%
                                                 

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Our NPV model has been built to focus on the Bank alone as the $0.9 billion of assets at the Parent Company and its non-bank subsidiaries have little interest rate risk exposure.
 
The increase in the net present value of equity from December 31, 2005 to September 30, 2006 is partly due to: (i) an increase in our balance sheet; (ii) an increase in retained earnings of Indymac Bank in the amount of $280.1 million; (iii) a capital contribution of $280.0 million from the Parent Company to Indymac Bank; and (iv) offset by a dividend payment of $134.2 million to the Parent Company. This analysis is based on instantaneous change in interest rates and does not reflect the impact of changes in hedging activities as interest rates change and changes in volumes and profits from our mortgage banking operations that would be expected to result from the interest rate environment.
 
In conjunction with the NPV analysis, we also estimate the net sensitivity of the fair value of our financial instruments to movements in interest rates using duration gap. This calculation is performed by estimating the change in dollar value due to an instantaneous parallel change in the interest rate curve. The resulting change in dollar value per one basis point change in interest rates is used to estimate the sensitivity of our portfolio. The dollar values per one basis point change are then aggregated to estimate the portfolio’s net sensitivity. To calculate duration gap, the net sensitivity is divided by the fair value of total interest-earning assets and expressed in months. A duration gap of zero implies that the change in value of assets from an instantaneous rate move will be accompanied by an equal and offsetting move in the value of debt and derivatives thus leaving the net fair value of equity unchanged.
 
The assumptions inherent in our interest rate shock models include expected valuation changes in an instantaneous and parallel interest rate shock, and assumptions as to the degree of correlation between the hedges and hedged assets and liabilities. These assumptions may not adequately reflect factors such as the spread-widening or spread-tightening risk among the changes in rates on Treasury, LIBOR/swap curve, mortgages, shape of the yield curve and volatility. In addition, the sensitivity analysis described in the prior paragraph is limited by the fact that it is performed at a particular point in time and does not incorporate other factors that would impact our financial performance in these scenarios, such as increases in income associated with the increase in production volume that could result from a decrease in interest rates. Consequently, the preceding estimates should not be viewed as a forecast, and it is reasonable to expect that actual results could vary significantly from the analyses discussed above.
 
At September 30, 2006, net duration gap for our mortgage banking and thrift segments was positive 0.7 month and negative 1.0 month, respectively, with the overall net duration gap of negative 0.4 month. Although our duration risk has been maintained at relatively low levels as indicated by our duration gap measures, fair value gains and losses will generally occur as market conditions change. We actively manage duration risk through asset selection by appropriate funding and hedging to within the duration limits approved by senior management and the Board of Directors.
 
The duration gap measures are estimated on a daily basis for the mortgage servicing rights and on a monthly basis for the assets in our thrift portfolio and pipeline.


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CREDIT RISK AND RESERVES
 
The allowance for loan losses is allocated to various loan products for segment reporting purposes, and represents our judgments and assumptions at a specific point in time and may be reallocated in the future based on changes in performance and other circumstances. The entire allowance for loan losses is available to cover losses in any of the loan portfolios. The following summarizes the Company’s allowance for loan losses/credit discounts and non-performing assets as of September 30, 2006:
 
                                                         
                      Total
                   
                      Reserves
                   
                      as
          QTD
    YTD
 
                      a
          Net
    Net
 
          Allowance
          Percentage
          Charge
    Charge
 
          For
          of
    Non-
    Offs/Net
    Offs/Net
 
          Loan
    Credit
    Book
    Performing
    REO
    REO
 
Type of Loan
  Book Value     Losses     Discounts(1)     Value     Assets     (Gains)     (Gains)  
                (Dollars in thousands)                    
 
Held for sale portfolio
  $ 8,361,627             $ 20,705       0.25 %   $ 42,717     $     $  
                                                         
Held for investment portfolio
                                                       
SFR mortgage loans and HELOCs
    6,453,348     $ 23,324               0.36 %     56,256       1,114       1,692  
Land and other mortgage loans
    366,984       6,188               1.69 %     5,810              
Builder construction and income property loans
    1,018,891       14,906               1.46 %     3,462       108       303  
Consumer construction loans
    1,985,738       10,541               0.53 %     9,421       427       1,471  
Revolving warehouse lines of credit
    166,948       206               0.12 %                  
                                                         
Total core held for investment loans
    9,991,909       55,165               0.55 %     74,949       1,649       3,466  
Discontinued product lines(2)
    38,077       5,870               15.42 %     3,882       216       1,707  
                                                         
Total held for investment portfolio
    10,029,986     $ 61,035               0.61 %     78,831       1,865       5,173  
                                                         
Total loans
  $ 18,391,613                             $ 121,548     $ 1,865     $ 5,173  
                                                         
Foreclosed assets
                                                       
Core portfolios
  $ 17,870     $ (1,234 )   $ (2,816 )
Discontinued product lines
    628       7       10  
                         
Total foreclosed assets
  $ 18,498     $ (1,227 )   $ (2,806 )
                         
Total non-performing assets
  $ 140,046                  
                         
Total non-performing assets as a percentage of total assets
    0.51 %                
                         
 
 
(1) The amount represents the lower of cost or market adjustments on non-performing loans in the held for sale portfolio.
 
(2) Discontinued product lines include manufactured home loans and home improvement loans, which were discontinued in 1999.


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The following provides additional comparative data on non-performing assets:
 
                         
    September 30,
    September 30,
    December 31,
 
    2006     2005     2005  
    (Dollars in thousands)  
 
Loans held for sale before market valuation reserves
  $ 63,422     $ 25,292     $ 31,050  
Mark valuation reserves
    (20,705 )     (7,832 )     (10,245 )
                         
Net non-performing loans held for sale
    42,717       17,460       20,805  
                         
Loans held for investment:
                       
Portfolio loans
                       
SFR mortgage loans
  $ 56,256     $ 25,983     $ 28,335  
Land and other mortgage loans
    5,810             197  
Builder construction and income property loans
    3,462       4,162       430  
Consumer construction loans
    9,421       8,183       8,819  
                         
Total portfolio non-performing loans
    74,949       38,328       37,781  
Discontinued product lines
    3,882       5,318       5,623  
                         
Total non-performing loans held for investment
  $ 78,831     $ 43,646     $ 43,404  
                         
Total non-performing loans
    121,548       61,106       64,209  
Foreclosed assets
    18,498       9,217       8,817  
                         
Total non-performing assets
  $ 140,046     $ 70,323     $ 73,026  
                         
Allowance for loan losses to non-performing loans held for investment
    77 %     127 %     127 %
                         
Total non-performing assets to total assets
    0.51 %     0.36 %     0.34 %
                         
 
The following reflects the activity in the allowance for loan losses during the indicated periods:
 
                                 
    Three Months Ended     Nine Months Ended  
    September 30,
    September 30,
    September 30,
    September 30,
 
    2006     2005     2006     2005  
          (Dollars in thousands)        
 
Balance, beginning of period
  $ 57,912     $ 54,069     $ 55,168     $ 52,891  
Provision for loan losses
    4,988       3,528       11,040       8,425  
Charge-offs net of recoveries:
                               
SFR mortgage loans
    (1,114 )     (145 )     (1,692 )     (1,220 )
Land and other mortgage loans
          (127 )           (168 )
Builder construction
    (108 )           (303 )     (72 )
Consumer construction
    (427 )     (567 )     (1,471 )     (1,437 )
Discontinued product lines
    (216 )     (1,225 )     (1,707 )     (2,886 )
                                 
Charge-offs net of recoveries
    (1,865 )     (2,064 )     (5,173 )     (5,783 )
                                 
Balance, end of period
  $ 61,035     $ 55,533     $ 61,035     $ 55,533  
                                 
Annualized charge-offs to average loans held for investment
    0.08 %     0.11 %     0.08 %     0.11 %
Charge-offs to quarterly production
    0.01 %     0.01 %     0.01 %     0.01 %
 
Total credit-related reserves, including the allowance for loan losses and the market valuation reserves, totaled $81.7 million at September 30, 2006, compared to $65.4 million at December 31, 2005. As of September 30, 2006, the allowance for loan losses of $61.0 million for loans held for investment represented 0.61% of total loans held for


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investment, comparable to 0.67% at December 31, 2005. In the third quarter of 2005, we provided $1.3 million to the allowance for loan losses for potential losses on loans held for investment that were collateralized by properties in the areas affected by the Gulf Coast Hurricanes. In the third quarter of 2006, the remaining allowance for Gulf Coast Hurricanes has been reversed. Total Gulf Coast Hurricanes related losses was $155,000.
 
At September 30, 2006, non-performing assets as a percentage of total assets was 0.51%, increasing from 0.34% at December 31, 2005. The non-performing loans increased $35.4 million and $21.9 million in loans held for investment and loans held for sale, respectively. The increase in non-performing loans held for investment is primarily due to the seasoning and the growth of the SFR mortgage loan portfolio. Additionally, the increases in non-performing loans in the land and other mortgage loans reflect the repurchases of lot loans due to fraud in the second quarter of 2006 and one large loan that was foreclosed in the third quarter of 2006. The balance for these repurchased loans has been reduced based on the revised appraisals on the underlying collateral. At September 30, 2006, the allowance for loan losses to non-performing loans held for investment was 77%, down from 127% at December 31, 2005.
 
The increase in non-performing loans held for sale is attributable to our growing conduit business. A substantial number of these non-performing loans are covered by the early default provision in the sale agreements and are subject to repurchase by the sellers. Management does not expect material losses on these loans.
 
Loans are generally placed on non-accrual status when they are 90 days past due. Non-performing assets include non-performing loans and foreclosed assets. We record the balance of our assets acquired in foreclosure or by deed in lieu of foreclosure at estimated net realizable value.
 
Our determination of the level of the allowance for loan losses and, correspondingly, the provision for loan losses, is based on management’s judgments and assumptions regarding various matters, including general economic conditions, loan portfolio composition, loan demand, delinquency trends and prior loan loss experience. Management continually evaluate these assumptions to reflect its judgments regarding these economic conditions and various relevant factors impacting credit quality and inherent losses. In assessing the adequacy of the allowance for loan losses in its entirety, management reviews the performance in the portfolios of loans held for investment and the non-core portfolio of discontinued product lines, which consists of manufactured housing and home improvement loans. A component of the overall allowance for loan losses is not specifically allocated to the loan portfolios (“unallocated component”). The unallocated component reflects management’s assessment of various factors that create inherent imprecision in the methods used to determine the specific portfolio allocations. Those factors include, but are not limited to levels of and trends in delinquencies and impaired loans, charge-offs and recoveries, volume and terms of the loans, effects of any changes in risk selection and underwriting standards, other changes in lending policies, procedures, and practices, and national and local economic trends and conditions. As of September 30, 2006, the unallocated component of the total allowance for loan losses was $19.4 million, compared to $18.7 million at December 31, 2005.
 
While we consider the allowance for loan losses to be adequate based on information currently available, future adjustments to the allowance may be necessary due to changes in economic conditions, delinquency levels, foreclosure rates, or loss rates. The level of allowance for loan losses is also subject to review by our primary federal regulator, the Office of Thrift Supervision (“OTS”). The OTS may require the allowance for loan losses be increased based on its evaluation of the information available to it at the time of its examination of the Bank.
 
With respect to mortgage loans held for sale, pursuant to the applicable accounting rules, we do not provide an allowance for loan losses. Instead, a component for credit risk related to loans held for sale is embedded in the market valuation for these loans. Lower of cost or market valuation adjustments related to the credit risk on loans held for sale totaled $20.7 million at September 30, 2006, up from $7.8 million at September 30, 2005 and $10.2 million at December 31, 2005, primarily due to the lower of cost or market adjustments on the loans repurchased during 2006.
 
SECONDARY MARKET RESERVE
 
We do not generally sell loans with recourse in our loan sale activities. However, we can be required to repurchase loans from investors when our loan sales contain individual loans that do not conform to the


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representations and warranties we made at the time of sale. We have made significant investments in our pre-production and post-production quality control processes to identify potential issues that could cause repurchases. We believe that these efforts have improved our production quality; however, possible increases in default rates due to an economic slowdown could cause the overall rate of repurchases to remain constant or even increase. Since 1993, the Company has repurchased a small number of loans from its securitization trusts. The increase in repurchase activity in recent years has been primarily a function of Indymac’s increased loan sale volume to GSEs and whole loan sales. As a percentage of total loans sold, repurchases have decreased from 26 basis points for the first nine months of 2005 to 18 basis points for the first nine months of 2006. The following reflects the repurchase activities during the nine months ended September 30, 2006 and 2005:
                 
    Nine Months Ended  
    September 30,
    September 30,
 
    2006     2005  
    (Dollars in millions)  
 
Loans sold:
               
GSEs and whole loans
  $ 32,227     $ 12,520  
Securitization trusts
    23,405       24,207  
                 
Total
  $ 55,632     $ 36,727  
                 
Total repurchases(1)
  $ 102     $ 94  
                 
Repurchase as a percentage of total loans sold during the period
    0.18 %     0.26 %
Repurchase losses to loans sold during the period
    0.023 %     0.035 %
 
 
(1) Amounts exclude repurchases that are administrative in nature and generally are re-sold immediately at little or no loss.
 
The Company maintains a secondary market reserve for losses that arise in connection with loans that it may be required to repurchase from whole loan sales and sales to the GSEs. The reserve has two general components: reserves for repurchases arising from representation and warranty claims and reserves for repurchases arising from early payment defaults. Also included in the reserve was a $1.3 million charge provided in the third quarter of 2005 (reduction of gain on sale of loans) for potential investor claims from early payment defaults on loans that we previously sold and which were collateralized by properties in the areas affected by the Gulf Coast Hurricanes. This reserve was reversed to gain on sale in the second quarter of 2006 as no early payment default demands were received.
 
The following reflects the activity in the reserve during the three and nine months ended September 30, 2006:
 
                 
    Three
    Nine
 
    Months     Months  
    (Dollars in thousands)  
 
Balance, beginning of period
  $ 35,402     $ 27,638  
Additions/provisions
    9,374       24,147  
Actual losses/mark-to-market
    (14,639 )     (22,423 )
Recoveries on previous claims
    53       828  
                 
Balance, September 30, 2006
  $ 30,190     $ 30,190  
                 
Secondary market reserve to loans sold — UPB outstanding(1)
    0.028 %     0.028 %
 
 
(1) Loans sold — UPB outstanding represents current outstanding principal balances on loans sold after January 1, 2004, excluding HELOCs and reverse mortgages.
 
In the second quarter of 2006, we repurchased $22.8 million of closed-end second loans from an investor due to an early payment default provision. In connection with this repurchase, we recorded an additional $5.2 million of provision in the second quarter of 2006. Our credit guidelines have subsequently been revised that will significantly reduce the origination of the lower credit quality closed-end second loans that gave rise to these repurchases. We relieved the reserve for $1.7 million and $7.6 million for the second and third quarters of 2006, respectively, to establish discounts on these repurchased loans.


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Reserve levels are a function of expected losses based on actual pending and expected claims and repurchase requests, historical experience, loan volume and loan sales distribution channels and the assessment of the probability of investor claims. While the ultimate amount of repurchases and claims is uncertain, management believes that the reserve is adequate. We will continue to evaluate the adequacy of our reserve and allocate a portion of our gain on sale proceeds to the reserve going forward. The entire balance of our secondary market reserve is included on the consolidated balance sheets as a component of other liabilities.
 
EXPENSES
 
GENERAL
 
A summary of expenses follows:
 
                                         
    Three Months Ended     Nine Months Ended  
    September 30,
    September 30,
    June 30,
    September 30,
    September 30,
 
    2006     2005     2006     2006     2005  
          (Dollars in thousands)        
 
Salaries and related
  $ 177,564     $ 142,352     $ 179,280     $ 509,402     $ 407,796  
Premises and equipment
    19,955       14,010       20,113       57,039       40,133  
Loan purchase and servicing costs
    14,246       10,779       13,149       40,301       31,026  
Professional services
    8,263       7,759       8,158       24,529       20,917  
Data processing
    16,831       11,142       15,758       46,864       32,491  
Office and related
    17,423       13,098       17,602       50,120       35,954  
Advertising and promotion
    10,742       11,648       12,409       34,368       33,406  
Operations and sale of foreclosed assets
    557       1,227       385       1,484       1,939  
Litigation settlement
                            9,000  
Other
    3,315       2,634       3,005       9,640       7,683  
Deferral of expenses under SFAS 91
    (66,198 )     (60,789 )     (66,175 )     (195,599 )     (165,124 )
                                         
Total operating expenses
    202,698       153,860       203,684       578,148       455,221  
Amortization of other intangible assets
    430       145       130       694       452  
                                         
Total expenses
  $ 203,128     $ 154,005     $ 203,814     $ 578,842     $ 455,673  
                                         
 
Our operating expenses increased 32% from $153.9 million for the three months ended September 30, 2005 to $202.7 million for the three months ended September 30, 2006. The increase is attributable to the Company’s operational growth and geographic expansions in pursuit of market share and expansion of the Company’s retail banking branch network. Since the third quarter of 2005, we opened five new regional operations centers and a number of sales offices for the mortgage banking group and increased our consumer bank network to 27 branches, resulting in higher premises, data processing and office related expenses. The Company’s average FTE employees increased 28% from 6,376 for the three months ended September 30, 2005 to 8,186 for the three months ended September 30, 2006, including 585 FTE off-shore as part of our Global Resources program. We utilize the off-shore workforce predominantly in non-customer-facing back office functions to enhance service levels and improve efficiencies.
 
Our operating expenses remained relatively flat compared to the second quarter of 2006 notwithstanding a 19% growth in loan production. This is primarily due to a lower bonus accrual and lower advertising and promotion expenses resulting from a shift in our marketing strategies.
 
As a result of the adoption and retrospective application of SFAS No. 123(R), total stock option expenses of $2.4 million and $2.9 million, for the quarters ended September 30, 2006 and 2005, respectively, have been recognized and included in the salaries and related expenses. For the nine months ended September 30, 2006 and 2005, the stock option expenses were $7.4 million and $9.2 million, respectively.


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Operating expenses of $578.1 million for the nine months ended September 30, 2006 reflected an increase of 27% from the nine months ended September 30, 2005, consistent with the growth in our revenues and operations.
 
SHARE REPURCHASE ACTIVITIES
 
The following summarizes share repurchase activities during the three months ended September 30, 2006:
 
                                 
                      Maximum
 
                      Approximate
 
                Total Number of
    Dollar Value
 
    Total
          Shares Purchased
    (in millions) of Shares
 
    Number of
    Weighted
    as Part of Publicly
    that May Yet Be
 
    Shares
    Average Price
    Announced Plans or
    Purchased Under the
 
Calendar Month:
  Purchased(1)     Paid per Share     Programs     Plans or Programs(2)  
 
July 2006
    119     $ 43.64           $ 63.6  
August 2006
    399       41.84             63.6  
September 2006
    809       41.01             63.6  
                                 
Total
    1,327     $ 41.50                
                                 
 
 
(1) All shares purchased during the periods indicated represent withholding of a portion of shares to cover taxes in connection with vesting of restricted stocks or exercise of stock options.
 
(2) Our Board of Directors previously approved a $500 million share repurchase program. Since its inception in 1999, we have repurchased a total of 28.0 million shares through this program.
 
FUTURE OUTLOOK
 
On average, U.S. mortgage debt outstanding has grown approximately 7% to 8% per year over the last two decades and is projected, based on economic demographics, to continue this level of approximate growth. At this rate, mortgage debt outstanding roughly doubles every decade. Based on our confidence in our employees, hybrid thrift/mortgage banking business model, capital strength and ability to gain market share, Indymac aims to be among the top six lenders in the nation, while maintaining annualized earnings per share growth of at least 15%. Our annualized total return under current management for the period 1992 through September 30, 2006 was 22%. This performance exceeds the annualized returns of 12% for the Dow Jones Industrial Average and 11% for the S&P 500 Index over the same period.
 
With that said, the past few years have been extraordinary years for the mortgage industry as a result of historically low interest rates. However, the industry volume for 2006 is expected to decline by 19% from 2005 based on the forecasts published by the MBA.
 
We currently expect earnings per share for 2006 to be between $5.16 and $5.26, consistent with the guidance we provided last quarter, as we see continued strength in our production operations and stable returns in our thrift segment and our servicing asset. This EPS forecast is considered our best estimation in light of current market expectations for interest rates and industry volumes in 2006. However, the economy, interest rates and our industry remain volatile and as a result, our actual results could vary significantly from this forecast.
 
This “Future Outlook” section contains certain forward-looking statements. See the section of this Form 10-Q entitled “Forward-Looking Statements” for a description of factors which may cause our actual results to differ from those anticipated.
 
LIQUIDITY AND CAPITAL RESOURCES
 
OVERVIEW
 
Our principal financing needs are to fund acquisitions of mortgage loans and our investment in mortgage loans, MBS and MSRs. Our primary sources of funds used to meet these financing needs are loan sales and securitizations, deposits, advances from the Federal Home Loan Bank (“FHLB”), borrowings, custodial balances and retained earnings. The sources used vary depending on such factors as rates paid, collateral requirements, maturities and the


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impact on our capital. Additionally, we may occasionally securitize mortgage loans that we intend to hold for investment to lower our costs of borrowing against such assets and reduce the capital requirement associated with such assets. During the quarter ended September 30, 2006, we had average total liquidity of $2.0 billion, which consists of unpledged liquid assets on hand plus amounts that may be immediately raised through the pledging of other available assets as collateral pursuant to committed financing facilities. We currently believe that our liquidity level is in excess of that necessary to satisfy our operating requirements and meet our obligations and commitments in a timely and cost effective manner.
 
PRINCIPAL SOURCES OF CASH
 
Loan Sales and Securitizations
 
Our business model relies heavily upon selling the majority of our mortgage loans shortly after acquisition. The proceeds of these sales are a critical component of the liquidity necessary for our ongoing operations. During the three months ended September 30, 2006, we sold $19.5 billion of mortgage loans, which represented approximately 81% of our funded mortgage loans during the period, to third party investors through three channels: (1) GSEs; (2) private label securitizations; and (3) whole loan sales. Our prime SFR mortgage loans division also acquired $1.4 billion of the mortgage loans for our portfolio of mortgage loans held for investment to provide future interest income for the Company. The remainder of our funded mortgage loans during the quarter is retained in our held for sale portfolio for future sale.
 
Our liquidity could be negatively impacted if any of our sales channels were disrupted. Disruptions in our whole loan sales and mortgage securitization transactions could occur as a result of the performance of our existing securitizations, as well as economic events or other factors beyond our control.
 
Advances from Federal Home Loan Bank
 
The FHLB system functions as a borrowing source for regulated financial depositories and similar institutions that are engaged in residential housing finance. As a member of the FHLB of San Francisco, we are required to own capital stock of the FHLB and are authorized to apply for advances from the FHLB, on a secured basis, in amounts determined by reference to available collateral. SFR mortgage loans, agency and AAA-rated MBS are the principal collateral that may be used to secure these borrowings, although certain other types of loans and other assets may also be accepted pursuant to FHLB policies and statutory requirements. The FHLB offers several credit programs, each with its own fixed or floating interest rate, and a range of maturities.
 
On March 15, 2006, the Federal Housing Finance Board published a proposed rule aimed at bolstering capital for the Federal Home Loan Banks (FHLBs). Among other things, this proposal would result in the respective FHLB reducing dividends paid to its members until such time as the respective FHLB capital reaches a specified level. In response to this proposal, the FHLB San Francisco had planned to cut dividends paid to be based on approximately 80% of its net income from previous 95% of net income until the retained earnings target was reached. The implementation of this proposal has been deferred indefinitely to allow more time for the FHLB to evaluate other alternatives.
 
Currently, Indymac Bank is approved for collateralized advances of up to $14.5 billion, of which $9.3 billion were outstanding at September 30, 2006.
 
Deposits/Retail Bank
 
We solicit deposits from the general public and institutions by offering a variety of accounts and rates through our network of 27 branches in Southern California, our telebanking, and Internet channels. Through our web site at www.indymacbank.com, consumers can access their accounts 24-hours a day, seven days a week. Online banking allows customers to access their accounts, view balances, transfer funds between accounts, view transactions, download account information, and pay their bills conveniently from any computer terminal.


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Our deposit products include regular savings accounts, demand deposit accounts, money market accounts, certificates of deposit, and individual retirement accounts as follows:
 
                                                 
    September 30,
    September 30,
    December 31,
 
    2006     2005     2005  
Deposit Category
  Amount     Rate     Amount     Rate     Amount     Rate  
                (Dollars in thousands)              
 
Non-interest-bearing checking
  $ 71,013       0.0 %   $ 64,079       0.0 %   $ 63,308       0.0 %
Interest-bearing checking
    51,333       1.2 %     55,021       1.3 %     55,479       1.3 %
Savings
    1,696,859       4.9 %     1,219,710       3.1 %     1,194,963       3.6 %
Custodial accounts
    651,421       0.0 %     658,958       0.0 %     493,936       0.0 %
                                                 
Total core deposits
    2,470,626       3.4 %     1,997,768       1.9 %     1,807,686       2.4 %
Certificates of deposit
    7,640,393       5.0 %     5,263,182       3.6 %     5,864,238       4.0 %
                                                 
Total deposits
  $ 10,111,019       4.6 %   $ 7,260,950       3.1 %   $ 7,671,924       3.6 %
                                                 
 
                                                 
          % of
          % of
          % of
 
          Total
          Total
          Total
 
Deposit Channel
  Amount     Deposits     Amount     Deposits     Amount     Deposits  
 
Branch
  $ 4,729,699       47 %   $ 3,059,462       42 %   $ 3,322,752       43 %
Internet
    1,121,653       11 %     714,837       10 %     798,518       10 %
Telebanking
    1,249,974       12 %     835,145       12 %     934,572       12 %
Money desk
    2,358,272       23 %     1,992,548       27 %     2,122,146       28 %
Custodial
    651,421       7 %     658,958       9 %     493,936       7 %
                                                 
Total deposits
  $ 10,111,019       100 %   $ 7,260,950       100 %   $ 7,671,924       100 %
                                                 
 
Trust Preferred Securities and Warrants
 
On November 14, 2001, we completed an offering of Warrants and Income Redeemable Equity Securities (“WIRES”) to investors. Gross proceeds of the transaction were $175 million. The securities were offered as units consisting of trust preferred securities, issued by a trust formed by us, and warrants to purchase Indymac Bancorp’s common stock. As part of this transaction, Indymac Bancorp issued subordinated debentures to the trust and purchased common securities from the trust. The yield on the subordinated debentures and the common securities is the same as the yield on the trust preferred securities. The proceeds from the offering are used in ongoing operations and will fund future growth and/or repurchases of Indymac Bancorp common stock under its share repurchase program (see “Share Repurchase Activities” on page 55). Also, we issued 3,500,000 warrants, each convertible into 1.5972 shares of Indymac Bancorp’s common stock as part of the WIRES offering. During the first nine months of 2006, a total of 1.5 million warrants were exercised at an average exercise price of $35.06 per share to purchase 2.5 million shares of Indymac Bancorp’s common stock. To date, total warrants of 1.6 million have been exercised and converted into a total of 2.6 million shares of Indymac Bancorp’s common stock. Subordinated debentures redeemed in conjunction with the warrant exercises totaled $39.0 million as of September 30, 2006.
 
In September 2006, we issued an additional $38 million in pooled trust preferred securities. To date, we have issued $308 million trust preferred securities (without warrants attached) as summarized below:
 
                 
    Face Amount     Interest Rate  
    (Dollars in thousands)  
 
September 2006
  $ 38,000       6.96 %
June 2006
    90,000       7.35 %
December 2005
    90,000       6.31 %
December 2004
    30,000       5.83 %
December 2003
    30,000       6.30 %
July 2003
    30,000       6.05 %


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Interest rates on these securities are fixed for a five year term, after which the rates reset quarterly indexed to 3-month LIBOR. The securities can be called at the option of Indymac Bancorp five years after issuance. In each of these transactions, Indymac Bancorp issued subordinated debentures to, and purchased common securities from, each of the trusts. The rates on the subordinated debentures and the common securities in each of these transactions matches the rates on the related trust preferred securities. The proceeds of these securities have been used in ongoing operations.
 
Upon the adoption of FASB Interpretation No. 46, “Consolidation of Variable Interest Entities, an Interpretation of Accounting Research Bulletin (“ARB”) No. 51,” on July 1, 2003, the trusts have been deconsolidated from the financial statements of the Company. The subordinated debentures underlying the trust preferred securities, which represent the liabilities due from Indymac Bancorp to the trusts, totaled $412.5 million and $308.7 million at September 30, 2006, and December 31, 2005, respectively. These subordinated debentures are included in Other Borrowings on the consolidated balance sheets.
 
Other Borrowings, Excluding Subordinated Debentures Underlying Trust Preferred Securities
 
Other borrowings, excluding the subordinated debentures underlying the trust preferred securities, consist of loans and securities sold under committed financing facilities and uncommitted agreements to repurchase, notes payable and asset-backed commercial paper. Total other borrowings increased to $4.2 billion at September 30, 2006, from $4.1 billion at December 31, 2005.
 
In April 2006, we established the Northlake Capital Funding Program, a single seller asset-backed commercial paper facility, which allows us to issue directly, secured liquidity notes backed by mortgage loans. Both the collateral pledged and secured liquidity notes are recorded on our balance sheet as assets and liabilities, respectively. The secured liquidity notes have been rated F-1+ by Fitch Ratings, P-1 by Moody’s Investors Service and A-1+ by Standard & Poor’s, and are supported by credit enhancements, such as overcollateralization, excess spread, and market value agreements provided by highly rated counterparties. We are authorized to issue up to $2.5 billion in short-term notes, with expected maturities not to exceed 180 days after issuance and final maturities of 60 days following the expected maturities. As of September 30, 2006, we had $501 million in secured liquidity notes outstanding.
 
At September 30, 2006, we had $6.9 billion in committed financing facilities ($6.5 billion whole loan facilities, $300 million bond facilities and $100 million in unsecured revolving line of credit). Of these committed financing facilities, $2.9 billion was utilized and $1.1 billion was available for use, based on eligible collateral. Decisions by our lenders and investors to make additional funds available to us in the future will depend upon a number of factors. These include our compliance with the terms of existing credit arrangements, our financial performance, eligible collateral, changes in our credit rating, industry and market trends in our various businesses, the general availability and interest rates applicable to financing and investments, the lenders’ and/or investors’ own resources and policies concerning loans and investments and the relative attractiveness of alternative investment or lending opportunities. As of September 30, 2006, we believe we were in compliance with all representations, warranties, and financial covenants under our borrowing facilities.
 
Direct Stock Purchase Plan
 
Our direct stock purchase plan offers investors the ability to purchase shares of our common stock directly over the Internet. During the first nine months of 2006, we raised $123.7 million of capital by issuing 2,969,165 shares of common stock through this plan.
 
PRINCIPAL USES OF CASH
 
In addition to the financing sources discussed above, our cash needs are funded by net cash flows from operations, sales of mortgage-backed securities and principal and interest payments on loans and securities. The amounts of net acquisitions of loans held for sale, and trading securities included as components of net cash used in operating activities, totaled $5.7 billion during the nine months ended September 30, 2006 and $3.1 billion during


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the nine months ended September 30, 2005. Excluding the purchase and sale activity for loans held for sale and trading securities, the net cash provided by the Company’s operating activities totaled $291.5 million and $103.6 million for the nine months ended September 30, 2006 and 2005, respectively.
 
REGULATORY CAPITAL REQUIREMENTS
 
Indymac Bank is subject to regulatory capital regulations administered by the federal banking agencies. As of September 30, 2006, Indymac Bank met all of the requirements of a “well-capitalized” institution under the general regulatory capital regulations.
 
The Company’s business is primarily centered on single-family lending and the related production and sale of loans. As such, the accumulation of MSRs is a large component of our strategy. As of September 30, 2006, the capitalized value of MSRs was $1.6 billion. OTS regulations generally impose higher capital requirements on MSRs that exceed total Tier 1 capital. These higher capital requirements could result in lowered returns on our retained assets and could limit our ability to retain servicing assets. We have flexibility to sell or retain MSRs and the ability to increase our capital base through retention of earnings and other capital raising activities. While management believes that compliance with the capital limits on MSRs will not materially impact future results, no assurance can be given that our plans and strategies will be successful.
 
During 2001, the OTS issued guidance for subprime lending programs which requires a lender to quantify the additional risks in its subprime lending activities and determine the appropriate amounts of allowances for loan losses and capital it needs to offset those risks. The Company generally classifies all non-GSE loans in a first lien position with a FICO score less than 620 and all non-GSE loans in a second lien position with a FICO score less than 660 as subprime. We report our subprime loan calculation in an addendum to the Thrift Financial Report that we file with the OTS. Subprime loans held for investment and subprime loans held for sale which are either delinquent or more than 90 days old since origination are supported by capital two times that of similar prime loans. These subprime loans totaled $130.1 million at September 30, 2006.
 
The impact of the additional risk-weighting criteria related to subprime loans had the effect of reducing Indymac’s total risk-based capital by 8 basis points. The following presents Indymac Bank’s actual and required capital ratios and the minimum required capital ratios to be categorized as “well-capitalized” at September 30, 2006:
 
                         
          Adjusted for
       
    As Reported
    Additional Subprime
       
    Pre-Subprime Risk-Weighting     Risk-Weighting     Well-Capitalized Minimum  
 
Capital Ratios:
                       
Tier 1 core
    7.60 %     7.60 %     5.00 %
Tier 1 risk-based
    11.31 %     11.24 %     6.00 %
Total risk-based
    11.70 %     11.62 %     10.00 %
 
We believe that, under current regulations, Indymac Bank will continue to meet its “well-capitalized” minimum capital requirements in the foreseeable future. Indymac Bank’s regulatory capital compliance could be impacted, however, by a number of factors, such as changes to applicable regulations, adverse action by our regulators, changes in our mix of assets, interest rate fluctuations, loan loss provisions and credit losses, or significant changes in the economy in areas where we have most of our loans. Any of these factors could cause our actual future results to vary from anticipated future results and consequently could have an adverse impact on the ability of Indymac Bank to meet its future minimum capital requirements.
 
OFF-BALANCE SHEET ARRANGEMENTS
 
In the ordinary course of our business, we engage in financial transactions that are not recorded on our balance sheet. These transactions are structured to manage our interest rate, credit or liquidity risks, to diversify funding sources or to optimize our capital usage.
 
Substantially all of our off-balance sheet arrangements relate to the securitization of mortgage loans. Our mortgage loan securitizations are normally structured as sales in accordance with SFAS 140, which involves the


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transfer of the mortgage loans to “qualifying special-purpose entities” that are not subject to consolidation. In a securitization, an entity transferring the assets is able to convert those assets into cash. Special-purpose entities used in such securitizations obtain cash to acquire the assets by issuing securities to investors. We also, generally, have the right to repurchase mortgage loans from the special-purpose entities if the remaining outstanding balance of the mortgage loans falls to a level where the cost of servicing the loans exceeds the revenues we earn.
 
In connection with our loan sales that are securitization transactions, there are $67.0 billion in loans owned by off-balance sheet trusts as of September 30, 2006. The trusts have issued bonds secured by these loans. We have no obligation to provide funding support to either the third party investors or the off-balance sheet trusts. Generally, neither the third party investors nor the trusts have recourse to our assets or us, and they have no ability to require us to repurchase their loans other than for non-credit-related recourse that can arise under standard representations and warranties. We maintain secondary market reserves mostly for losses that could arise in connection with loans that we are required to repurchase from GSEs and whole loan sales. For information on the sales proceeds and cash flows from our securitizations for 2006 see “Management’s Discussion and Analysis of Financial Condition and Results of Operations — Liquidity and Capital Resources — Principal Sources of Cash — Loan Sales and Securitizations.”
 
We often retain certain interests, which may include subordinated classes of securities, MSRs, AAA-rated and agency interest-only securities, prepayment penalty and residual securities in the securitization trust. The performance of the loans in the trusts will impact our ability to realize the current estimated fair value of these assets that are included on our balance sheet. MSRs, AAA-rated and agency interest-only securities, principal-only securities, prepayment penalty securities, non-investment grade securities and residual securities were $1.6 billion, $68.4 million, $35.2 million, $98.4 million, $78.3 million and $261.7 million, respectively, at September 30, 2006.
 
Management does not believe that any of its off-balance sheet arrangements have or are reasonably likely to have a current or future material effect on our financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources.
 
AGGREGATE CONTRACTUAL OBLIGATIONS
 
Our material contractual obligations were summarized and included in our 2005 10-K. There have been no material changes outside the ordinary course of our business in the contractual obligations as specified in the 2005 10-K during the nine months ended September 30, 2006.
 
CRITICAL ACCOUNTING POLICIES AND JUDGMENTS
 
Several of the critical accounting policies that are very important to the portrayal of our financial condition and results of operations require management to make difficult and complex judgments that rely on estimates about the effect of matters that are inherently uncertain due to the impact of changing market conditions and/or consumer behavior. We believe our most critical accounting policies relate to: (1) assets that are highly dependent on internal valuation models and assumptions rather than market quotations, including, AAA-rated and agency interest-only securities, prepayment penalty securities, MSRs and non-investment grade and residual securities; (2) derivatives hedging instruments and hedge accounting; (3) our allowance for loan losses (“ALL”); and (4) our secondary market reserve.
 
Management discusses these critical accounting policies and related judgments with Indymac’s Audit Committee and external auditors on a quarterly basis. We believe that the judgments, estimates and assumptions used in the preparation of our consolidated financial statements are appropriate given the factual circumstances at the time; however, given the sensitivity of our consolidated financial statements to these critical accounting policies, the use of other judgments, estimates and assumptions could result in material differences in our results of operations or financial condition.
 
REGULATORY UPDATES
 
The federal banking agencies (“Agencies”) published the final Interagency Guidance on Nontraditional Mortgage Product Risks (“Final Guidance”) on October 4, 2006. The Final Guidance sets forth supervisory


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expectations regarding loan terms and underwriting standards, portfolio and risk management practices, and consumer protection for nontraditional products, defined as loans that allow interest-only payments or have the potential for negative amortization. Management has analyzed the Final Guidance and believes we meet or exceed the Agencies’ expectations in most areas. However, to be fully compliant, we will need to modify certain borrower qualification standards. We currently cannot predict the precise levels, nor the impact, on our production as certain aspects of the Final Guidance are not specific and will be subject to interpretation by examiners. We also currently believe the impact will be limited and will likely be offset by volume gains from ongoing enhancements that we make to our product line that prudently meet the needs of our customers, investment strategy and loan investors.
 
The Agencies published proposed Interagency Guidance on Commercial Real Estate Lending (“Proposed Guidance”) in January 2006. The Proposed Guidance provides criteria for identifying institutions with commercial real estate loan concentrations that may warrant greater supervisory scrutiny. For institutions with concentrations over certain thresholds, the Proposed Guidance outlines the need for robust risk management systems and potentially higher capital levels. While the Bank currently exceeds the 100% of capital threshold for construction and land development loans, management understands the thresholds are not ceilings or caps and believes sufficient practices are in place to identify, mitigate and control the risks associated with these loans. The Proposed Guidance includes both our consumer and builder construction loans as commercial real estate loans. For various reasons that are outlined in our comment letter to the Proposed Guidance, which is published on the OTS website, we believe our consumer construction-to-permanent loans should not be covered. Management believes that if a final rule is published with content similar to the Proposed Guidance, any impact will be limited and manageable.
 
ITEM 3.   QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
 
Please refer to “Interest Rate Sensitivity” on page 48 as well as Item 1A included on page 76 for quantitative and qualitative disclosure about market risk.


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ITEM 1.   FINANCIAL STATEMENTS
 
INDYMAC BANCORP, INC. AND SUBSIDIARIES
 
 
                 
    September 30,
    December 31,
 
    2006     2005  
    (Unaudited)        
    (Dollars in thousands)  
 
ASSETS
Cash and cash equivalents
  $ 521,428     $ 442,525  
Securities classified as trading ($142.4 million and $96.8 million pledged as collateral for borrowings at September 30, 2006 and December 31, 2005, respectively)
    527,579       348,962  
Securities classified as available for sale, amortized cost of $4.4 billion and $3.8 billion at September 30, 2006 and December 31, 2005, respectively ($3.5 billion and $2.7 billion pledged as collateral for borrowings at September 30, 2006 and December 31, 2005, respectively)
    4,422,480       3,753,195  
Loans receivable:
               
Loans held for sale
               
SFR mortgage
    7,579,265       5,170,168  
HELOC
    736,945       755,040  
Consumer lot loans
    24,712       98,976  
                 
Total loans held for sale
    8,340,922       6,024,184  
                 
Loans held for investment
               
SFR mortgage
    6,462,610       5,441,521  
Consumer construction
    1,985,738       1,656,963  
Builder construction
    1,018,891       838,772  
HELOC
    28,815       31,882  
Land and other mortgage
    366,984       260,615  
Revolving warehouse lines of credit
    166,948       48,616  
Allowance for loan losses
    (61,035 )     (55,168 )
                 
Total loans held for investment
    9,968,951       8,223,201  
                 
Total loans receivable ($13.1 billion and $10.2 billion pledged as collateral for borrowings at September 30, 2006 and December 31, 2005, respectively)
    18,309,873       14,247,385  
Mortgage servicing rights
    1,631,316       1,094,490  
Investment in Federal Home Loan Bank stock
    636,650       556,262  
Interest receivable
    207,868       131,644  
Goodwill and other intangible assets
    113,037       80,847  
Foreclosed assets
    18,498       8,817  
Other assets
    996,754       788,172  
                 
Total assets
  $ 27,385,483     $ 21,452,299  
                 


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INDYMAC BANCORP, INC. AND SUBSIDIARIES
 
CONSOLIDATED BALANCE SHEETS — (Continued)

                 
    September 30,
    December 31,
 
    2006     2005  
    (Unaudited)        
    (Dollars in thousands)  
 
LIABILITIES AND SHAREHOLDERS’ EQUITY
Deposits
  $ 10,111,019     $ 7,671,924  
Advances from Federal Home Loan Bank
    9,332,800       6,953,000  
Other borrowings
    4,594,920       4,367,270  
Other liabilities
    1,408,912       916,664  
                 
Total liabilities
    25,447,651       19,908,858  
                 
Shareholders’ Equity
               
Preferred stock — authorized, 10,000,000 shares of $0.01 par value; none issued
           
Common stock — authorized, 200,000,000 shares of $0.01 par value; issued 100,100,243 shares (70,858,660 outstanding) at September 30, 2006, and issued 93,436,622 shares (64,246,767 outstanding) at December 31, 2005
    1,001       934  
Additional paid-in-capital
    1,533,528       1,318,751  
Accumulated other comprehensive loss
    (21,377 )     (15,157 )
Retained earnings
    947,158       759,330  
Treasury stock, 29,241,583 shares and 29,189,855 shares at September 30, 2006 and December 31, 2005, respectively
    (522,478 )     (520,417 )
                 
Total shareholders’ equity
    1,937,832       1,543,441  
                 
Total liabilities and shareholders’ equity
  $ 27,385,483     $ 21,452,299  
                 

 
The accompanying notes are an integral part of these statements.


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INDYMAC BANCORP, INC. AND SUBSIDIARIES
 
 
                                 
    For the Three Months
    For the Nine Months
 
    Ended September 30,     Ended September 30,  
    2006     2005     2006     2005  
    (Unaudited)
 
    (Dollars in thousands, except per share data)  
 
Interest income
                               
Mortgage-backed and other securities
  $ 86,212     $ 52,624     $ 233,693     $ 151,649  
Loans held for sale
                               
SFR mortgage
    172,898       114,267       485,940       264,939  
HELOC
    21,888       9,288       58,548       21,642  
Consumer lot loans
    2,138       2,414       7,076       6,527  
                                 
Total loans held for sale
    196,924       125,969       551,564       293,108  
Loans held for investment
                               
SFR mortgage
    80,623       60,906       230,271       171,508  
Consumer construction
    32,087       20,440       84,609       59,097  
Builder construction
    27,396       18,086       73,960       46,614  
Land and other mortgage
    8,211       4,651       23,003       11,982  
HELOC
    622       535       1,863       1,659  
Revolving warehouse lines of credit
    2,549       474       5,139       644  
                                 
Total loans held for investment
    151,488       105,092       418,845       291,504  
Other
    12,127       8,098       32,706       19,534  
                                 
Total interest income
    446,751       291,783       1,236,808       755,795  
Interest expense
                               
Deposits
    113,758       52,261       280,841       132,479  
Advances from Federal Home Loan Bank
    115,769       76,907       329,846       193,711  
Other borrowings
    80,513       49,796       232,046       114,293  
                                 
Total interest expense
    310,040       178,964       842,733       440,483  
                                 
Net interest income
    136,711       112,819       394,075       315,312  
Provision for loan losses
    4,988       3,528       11,040       8,425  
                                 
Net interest income after provision for loan losses
    131,723       109,291       383,035       306,887  
Other income
                               
Gain on sale of loans
    160,225       151,086       503,083       454,785  
Service fee income
    21,058       10,304       79,194       25,521  
Gain on mortgage-backed securities, net
    18,968       728       24,611       11,933  
Fee and other income
    13,600       11,285       37,276       25,588  
                                 
Total other income
    213,851       173,403       644,164       517,827  
                                 
Net revenues
    345,574       282,694       1,027,199       824,714  
Other expense
                               
Operating expenses
    202,698       153,860       578,148       455,221  
Amortization of other intangible assets
    430       145       694       452  
                                 
Total other expense
    203,128       154,005       578,842       455,673  
                                 
Earnings before provision for income taxes and minority interests
    142,446       128,689       448,357       369,041  
Provision for income taxes
    56,266       50,746       176,545       145,343  
                                 
Net earnings before minority interests
    86,180       77,943       271,812       223,698  
Minority interests
          417       1,124       1,008  
                                 
Net earnings
  $ 86,180     $ 77,526     $ 270,688     $ 222,690  
                                 
Earnings per share:
                               
Basic
  $ 1.25     $ 1.23     $ 4.07     $ 3.57  
Diluted
  $ 1.19     $ 1.16     $ 3.87     $ 3.38  
Weighted-average shares outstanding:
                               
Basic
    68,866       63,268       66,570       62,460  
Diluted
    72,286       67,100       70,009       65,908  
Dividends declared per share
  $ 0.48     $ 0.40     $ 1.38     $ 1.14  
 
The accompanying notes are an integral part of these statements.


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                      Accumulated
                         
                Additional
    Other
          Total
          Total
 
    Shares
    Common
    Paid-In-
    Comprehensive
    Retained
    Comprehensive
    Treasury
    Shareholders’
 
    Outstanding     Stock     Capital     Loss     Earnings     Income     Stock     Equity  
    (Unaudited)
 
    (Dollars in thousands)  
 
Balance at December 31, 2004
    61,995,480     $ 912     $ 1,186,682     $ (20,304 )   $ 616,516     $     $ (519,835 )   $ 1,263,971  
Cumulative-effect adjustment due to change in accounting for common stock options
                68,111             (51,811 )                 16,300  
                                                                 
Balance at December 31, 2004, retrospectively adjusted (see Note 2)
    61,995,480       912       1,254,793       (20,304 )     564,705             (519,835 )     1,280,271  
Exercises of common stock options
    1,800,610       18       42,727                               42,745  
Exercises of warrants
    138,794       1       3,035                               3,036  
Compensation expenses for common stock options
                9,211                               9,211  
Net officers’ notes receivable payments
                25                               25  
Deferred compensation, restricted stock, and amortization net of forfeitures
    265,450       3       3,872                               3,875  
Net unrealized loss on mortgage-backed securities available for sale
                      (11,688 )           (11,688 )           (11,688 )
Net unrealized gain on derivatives used in cash flow hedges
                      18,833             18,833             18,833  
Purchases of common stock
    (16,352 )                                   (579 )     (579 )
Cash dividends
                            (71,786 )                 (71,786 )
Net earnings, retrospectively adjusted (see Note 2)
                            222,690       222,690             222,690  
                                                                 
Total comprehensive income
                                $ 229,835              
                                                                 
Balance at September 30, 2005, retrospectively adjusted
    64,183,982     $ 934     $ 1,313,663     $ (13,159 )   $ 715,609             $ (520,414 )   $ 1,496,633  
                                                                 
Balance at December 31, 2005
    64,246,767     $ 934     $ 1,242,500     $ (15,157 )   $ 818,241     $     $ (520,417 )   $ 1,526,101  
Cumulative-effect adjustment due to change in accounting for common stock options
                76,251             (58,911 )                 17,340  
                                                                 
Balance at December 31, 2005, retrospectively adjusted
    64,246,767       934       1,318,751       (15,157 )     759,330             (520,417 )     1,543,441  
Cumulative-effect adjustment due to change in accounting for MSRs
                            10,624                   10,624  
Issuance of common stock
    2,969,165       30       123,696                               123,726  
Exercises of common stock options
    800,993       8       21,807                               21,815  
Exercises of warrants
    2,466,974       25       54,125                               54,150  
Compensation expenses for common stock options
                7,386                               7,386  
Net officers’ notes receivable payments
                100                               100  
Deferred compensation, restricted stock, and amortization net of forfeitures
    426,489       4       7,663                               7,667  
Net unrealized gain on mortgage-backed securities available for sale
                      7,816             7,816             7,816  
Net unrealized loss on derivatives used in cash flow hedges
                      (14,036 )           (14,036 )           (14,036 )
Purchases of common stock
    (51,728 )                                   (2,061 )     (2,061 )
Cash dividends
                            (93,484 )                 (93,484 )
Net earnings
                            270,688       270,688             270,688  
                                                                 
Total comprehensive income
                                $ 264,468              
                                                                 
Balance at September 30, 2006
    70,858,660     $ 1,001     $ 1,533,528     $ (21,377 )   $ 947,158             $ (522,478 )   $ 1,937,832  
                                                                 
 
The accompanying notes are an integral part of these statements.


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    For the Nine Months
 
    Ended September 30,  
    2006     2005  
    (Unaudited)  
    (Dollars in thousands)  
 
Cash flows from operating activities:
               
Net earnings
  $ 270,688     $ 222,690  
Adjustments to reconcile net earnings to net cash used in operating activities:
               
Gain on sale of loans
    (503,083 )     (454,785 )
Compensation expenses related to stock options and restricted stocks
    15,053       13,086  
Other amortization and depreciation
    54,240       38,916  
Change in valuation of mortgage servicing rights, including amortization
    243,339       184,384  
Gain on mortgage-backed securities, net
    (24,611 )     (11,933 )
Provision for loan losses
    11,040       8,425  
Net increase in deferred tax liability
    186,127       113,585  
Net decrease (increase) in other assets and liabilities
    38,742       (10,732 )
                 
Net cash provided by operating activities before activity for trading securities and loans held for sale
    291,535       103,636  
Net sales of trading securities
    245,560       74,550  
Net purchases and originations of loans held for sale
    (5,933,894 )     (3,177,009 )
                 
Net cash used in operating activities
    (5,396,799 )     (2,998,823 )
                 
Cash flows from investing activities:
               
Net sales of and payments from loans held for investment
    463,732       763,209  
Purchases of mortgage-backed securities available for sale
    (570,884 )     (602,285 )
Proceeds from sales of and principal payments from mortgage-backed securities available for sale
    652,610       660,467  
Net increase in investment in Federal Home Loan Bank stock, at cost
    (80,388 )     (148,140 )
Net decrease (increase) in real estate investment
    7,483       (27,495 )
Net purchases of property, plant and equipment
    (74,465 )     (63,082 )
Purchase of Financial Freedom minority interest
    (40,000 )      
                 
Net cash provided by investing activities
    358,088       582,674  
                 
Cash flows from financing activities:
               
Net increase in deposits
    2,436,235       1,515,565  
Net increase in advances from Federal Home Loan Bank
    2,379,800       459,000  
Net increase in borrowings
    97,920       419,991  
Net proceeds from issuance of common stock
    123,726        
Net proceeds from issuance of trust preferred securities
    128,000        
Redemption of trust preferred securities
    (28,587 )      
Net proceeds from stock options, warrants and notes receivable
    76,065       45,806  
Cash dividends paid
    (93,484 )     (71,786 )
Purchases of common stock
    (2,061 )     (579 )
                 
Net cash provided by financing activities
    5,117,614       2,367,997  
                 
Net increase (decrease) in cash and cash equivalents
    78,903       (48,152 )
Cash and cash equivalents at beginning of period
    442,525       356,157  
                 
Cash and cash equivalents at end of period
  $ 521,428     $ 308,005  
                 
Supplemental cash flow information:
               
Cash paid for interest
  $ 779,203     $ 394,625  
                 
Cash (received) paid for income taxes
  $ (48,685 )   $ 69,935  
                 
Supplemental disclosure of non-cash investing and financing activities:
               
Net transfer of loans held for sale to loans held for investment
  $ 2,258,617     $ 2,032,052  
                 
Net transfer of mortgage servicing rights to trading securities
  $ 2,601     $ 8,491  
                 
 
The accompanying notes are an integral part of these statements.


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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2006
(Unaudited)
 
NOTE 1 — BASIS OF PRESENTATION
 
IndyMac Bancorp, Inc. is a savings and loan holding company. References to “Indymac Bancorp” or the “Parent Company” refer to the parent company alone while references to “Indymac,” the “Company,” “we” or “us” refer to Indymac Bancorp and its consolidated subsidiaries.
 
The consolidated financial statements include the accounts of Indymac Bancorp and all of its wholly-owned and majority-owned subsidiaries, including IndyMac Bank, F.S.B. (“Indymac Bank”). All significant intercompany balances and transactions with Indymac’s consolidating subsidiaries have been eliminated in consolidation. Minority interests in Indymac’s majority-owned subsidiaries are included in “other liabilities” on the consolidated balance sheets and the minority interests on Indymac’s earnings are reported separately. On July 3, 2006, the Company acquired the remaining 6.25% of the outstanding common stock of Financial Freedom Senior Funding Corporation (“Financial Freedom”) from James Mahoney, CEO of Financial Freedom, for an aggregate cash purchase price of $40.0 million. The transaction is accounted using the purchase method of accounting under SFAS No. 141 “Business Combination.” Total goodwill and other intangibles recorded were $29.1 million and $3.8 million, respectively. As a result of this transaction, Financial Freedom is now a wholly-owned subsidiary of Indymac Bank.
 
The consolidated financial statements of Indymac are prepared in conformity with U.S. generally accepted accounting principles (“U.S. GAAP”). Certain prior year amounts have been reclassified to conform to the current year presentation. The foregoing financial statements are unaudited; however, in the opinion of management, all adjustments, consisting only of normal recurring adjustments necessary for a fair statement of the results for the interim periods have been included. Operating results for the three and nine months ended September 30, 2006 are not necessarily indicative of the results that may be expected for the year ending December 31, 2006. For further information, refer to the consolidated financial statements and footnotes thereto included in Indymac’s 2005 10-K.
 
NOTE 2 — NEWLY ADOPTED AND NEW ACCOUNTING PRONOUNCEMENTS
 
In December 2004, the Financial Accounting Standards Board (“FASB”) issued Statement No. 123 (revised 2004), “Share-Based Payment” (“SFAS No. 123(R)”), which requires the cost resulting from stock options be measured at fair value and recognized in earnings. This Statement replaces Statement No. 123, “Accounting for Stock-Based Compensation” (“SFAS No. 123”) and supersedes Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees,” (“APB No. 25”) which permitted the recognition of compensation expense using the intrinsic value method. The Company adopted SFAS No. 123(R) on January 1, 2006 using the modified-retrospective method. The following summarizes net earnings, as well as dilutive earnings per share, for all quarters in 2005:
 
                                         
    Q1 2005     Q2 2005     Q3 2005     Q4 2005     YTD 2005  
    (In thousands, except per share data)  
 
Reported net earnings
  $ 65,476     $ 83,146     $ 79,275     $ 72,329     $ 300,226  
Retrospective application of SFAS No. 123(R)
    2,026       1,432       1,749       1,891       7,098  
                                         
Adjusted net earnings
  $ 63,450     $ 81,714     $ 77,526     $ 70,438     $ 293,128  
Adjusted average dilutive shares
    64,830       65,793       67,100       66,737       66,115  
Reported dilutive earnings per share
  $ 1.01     $ 1.26     $ 1.18     $ 1.09     $ 4.54  
Adjusted dilutive earnings per share
  $ 0.98     $ 1.24     $ 1.16     $ 1.06     $ 4.43  
 
See Note 5 — Stock-Based Compensation for further details on the stock compensation expenses for the three and nine months ended September 30, 2006 and 2005.


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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

In February 2006, the FASB issued Statement No. 155, “Accounting for Certain Hybrid Financial Instruments” (“SFAS No. 155”), which amends FASB Statements No. 133 and 140. This Statement permits fair value remeasurement for any hybrid financial instrument containing an embedded derivative that would otherwise require bifurcation, and broadens a Qualified Special Purpose Entity’s (“QSPE”) permitted holdings to include passive derivative financial instruments that pertain to other derivative financial instruments. This Statement is effective for all financial instruments acquired, issued or subject to a remeasurement event occurring after the beginning of an entity’s first fiscal year beginning after September 15, 2006. Management plans to adopt this Statement on January 1, 2007 and is assessing the impact, if any, of the adoption of this Statement on our financial results.
 
In April 2006, the FASB issued FASB Staff Position FIN 46(R)-6, “Determining the Variability to be Considered in Applying FASB Interpretation No. 46(R)” (“FIN 46(R)-6”). FIN 46(R)-6 addresses how variability should be considered when applying FIN 46(R). Variability affects the determination of whether an entity is a variable interest entity (“VIE”), which interests are variable interests, and which party, if any, is the primary beneficiary of the VIE required to consolidate. FIN 46(R)-6 clarifies that the design of the entity also should be considered when identifying which interests are variable interests. The Company adopted the guidance in FIN 46(R)-6 prospectively on July 1, 2006 and this adoption did not have a material impact on the Company’s financial condition and results.
 
In June 2006, the Emerging Issues Task Force (“EITF”) reached final conclusions on Issue 06-2, “Accounting for Sabbatical Leave and Other Similar Benefits,” pursuant to FASB Statement No. 43, “Accounting for Compensated Absences” (“EITF 06-2”). EITF 06-2 requires that an employee’s right to a compensated absence under a sabbatical or similar benefit arrangement does accumulate pursuant to Statement No. 43 and, therefore, a liability for the benefit should be accrued over the period required for the employee to earn the right to the time off under the arrangement. This Statement is effective for fiscal years beginning after December 15, 2006. Consistent with Statement No. 154, “Accounting Changes and Error Corrections,” the effect of adoption should be recognized as either (a) a change in accounting principle through a cumulative-effect adjustment to retained earnings or (b) a change in accounting principle through retrospective application to all prior periods. Management plans to adopt this Statement on January 1, 2007, and is assessing the impact, if any, of the adoption of this Statement on our financial statements.
 
In June 2006, the FASB issued Interpretation 48, “Accounting for Uncertainty in Income Taxes” (“FIN 48”), an interpretation of FASB Statement No. 109, “Accounting for Income Taxes.” FIN 48 clarifies the accounting and reporting for income taxes where interpretation of the law is uncertain. FIN 48 prescribes a comprehensive model for the financial statement recognition, measurement, presentation and disclosure of income tax uncertainties with respect to positions taken or expected to be taken in income tax returns. FIN 48 is effective for fiscal years beginning after December 15, 2006. Management plans to adopt this Statement on January 1, 2007 and it is anticipated that the initial adoption of FIN 48 will not have a material impact on our financial results.
 
In September 2006, the FASB issued Statement No. 157, “Fair Value Measurements” (“SFAS No. 157”). SFAS No. 157 addresses how companies should measure fair value when they are required to use a fair value measure for recognition or disclosure purposes under GAAP. SFAS No. 157 defines fair value, establishes a framework for measuring fair value and expands disclosures about fair value measurements. SFAS No. 157 is effective for fiscal years beginning after November 15, 2007, with earlier adoption permitted. Management is assessing the impact of the adoption of this Statement.
 
In September 2006, the FASB issued Statement No. 158, “Employers’ Accounting for Defined Benefit Pension and Other Postretirement Plans” (“SFAS No. 158”), an amendment of FASB Statements No. 87, 88, 106 and 132(R). SFAS No. 158 requires (a) recognition of the funded status (measured as the difference between the fair value of the plan assets and the benefit obligation) of a benefit plan as an asset or liability in the employer’s statement of financial position, (b) measurement of the funded status as of the employer’s fiscal year-end with limited exceptions, and (c) recognition of changes in the funded status in the year in which the changes occur through comprehensive income. The requirement to recognize the funded status of a benefit plan and the disclosure


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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

requirements are effective as of the end of the fiscal year ending after December 15, 2006. The requirement to measure the plan assets and benefit obligations as of the date of the employer’s fiscal year-end statement of financial position is effective for fiscal years ending after December 15, 2008. Management plans to adopt this Statement on December 31, 2006 and it is anticipated the adoption of SFAS No. 158 will not have a material impact to our consolidated balance sheets.
 
In September 2006, the Securities Exchange Commission issued Staff Accounting Bulletin No. 108 (“SAB No. 108”). SAB No. 108 addresses how the effects of prior year uncorrected misstatements should be considered when quantifying misstatements in current year financial statements. SAB No. 108 requires companies to quantify misstatements using a balance sheet and income statement approach and to evaluate whether either approach results in quantifying an error that is material in light of relevant quantitative and qualitative factors. When the effect of initial adoption is material, companies will record the effect as a cumulative effect adjustment to beginning of year retained earnings and disclose the nature and amount of each individual error being corrected in the cumulative adjustment. SAB No. 108 will be effective beginning January 1, 2007 and it is not anticipated that the initial adoption of SAB No. 108 will have a material impact on our financial results.
 
NOTE 3 — MORTGAGE-BACKED SECURITIES AND AGENCY NOTES
 
As of September 30, 2006 and December 31, 2005, MBS and agency notes were comprised of the following:
 
                 
    September 30,
    December 31,
 
    2006     2005  
    (Dollars in thousands)  
 
Mortgage-backed securities — Trading
               
AAA-rated non-agency securities
  $ 33,829     $ 52,633  
AAA-rated and agency interest-only securities
    68,440       78,731  
AAA-rated principal-only securities
    35,158       9,483  
Prepayment penalty securities
    98,422       75,741  
Other investment grade securities
    29,906       8,830  
Other non-investment grade securities
    38,999       4,480  
Non-investment grade residual securities
    222,825       119,064  
                 
Total mortgage-backed securities — Trading
  $ 527,579     $ 348,962  
                 
Mortgage-backed securities and agency notes — Available for sale
               
AAA-rated non-agency securities
  $ 4,130,995     $ 3,524,952  
AAA-rated agency securities
    50,084       43,014  
Other investment grade securities
    163,289       83,290  
Other non-investment grade securities
    39,279       53,232  
Non-investment grade residual securities
    38,833       48,707  
                 
Total mortgage-backed securities and agency notes — Available for sale
  $ 4,422,480     $ 3,753,195  
                 


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INDYMAC BANCORP, INC. AND SUBSIDIARIES
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

The unrealized losses and fair value of securities that have been in a continuous unrealized loss position for less than 12 months and 12 months or greater were as follows:
 
                                                 
    As of September 30, 2006  
    Less Than 12 Months     12 Months or Greater     Total  
    Unrealized
          Unrealized
          Unrealized
       
    Losses     Fair Value     Losses     Fair Value     Losses     Fair Value  
    (Dollars in thousands)  
 
Securities — Available for Sale:
                                               
AAA-rated agency securities
  $ (308 )   $ 32,069     $ (5 )   $ 184     $ (313 )   $ 32,253  
AAA-rated non-agency securities
    (177 )     129,915       (40,660 )     1,740,227       (40,837 )     1,870,142  
Other investment grade securities
    (412 )     20,017       (2,049 )     26,749       (2,461 )     46,766  
                                                 
Total Securities — Available for Sale
  $ (897 )   $ 182,001     $ (42,714 )   $ 1,767,160     $ (43,611 )   $ 1,949,161  
                                                 
 
The securities in unrealized loss position for 12 months or more are primarily related to AAA-rated securities issued by private institutions. These unrealized losses are attributable to changes in interest rates and individually were 6%, or less, of their respective amortized cost basis.
 
NOTE 4 — SEGMENT REPORTING
 
The Company operates through two primary segments: mortgage banking and thrift. For more information regarding each segment as well as the accounting methodology used for reporting segment financial results refer to “Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations — Detail Channel Results” on page 9 to 12. The “Other” column in the tables below includes items such as deposits, treasury, eliminations and overhead.
 
Segment information for the three and nine months ended September 30, 2006 and 2005 was as follows:
 
                                         
    Mortgage Banking                    
          MSRs and
                   
    Production
    Retained
                Total
 
    Divisions     Assets     Thrift     Other     Company  
    (Dollars in thousands)  
 
Three months ended September 30, 2006
                                       
Net interest income
  $ 41,218     $ 17,429     $ 67,185     $ 10,879     $ 136,711  
Net revenues (expense)
    204,391       65,653       84,842       (9,312 )     345,574  
Net earnings (loss)
    68,635       30,404       35,232       (48,091 )     86,180  
Allocated average capital
    509,136       401,545       687,962       272,736       1,871,379  
Assets as of September 30, 2006
  $ 7,687,438     $ 2,797,416     $ 15,952,532     $ 948,097     $ 27,385,483  
Return on equity
    53 %     30 %     20 %     N/A       18 %
Three months ended September 30, 2005
                                       
Net interest income
  $ 34,695     $ 11,242     $ 60,076     $ 6,806     $ 112,819  
Net revenues (expense)
    175,465       25,021       81,866       342       282,694  
Net earnings (loss)
    64,817       9,564       36,239       (33,094 )     77,526  
Allocated average capital
    415,031       189,744       546,094       264,492       1,415,361  
Assets as of September 30, 2005
  $ 4,618,997     $ 1,559,104     $ 12,359,345     $ 1,090,298     $ 19,627,744  
Return on equity
    62 %     20 %     26 %     N/A       22 %


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INDYMAC BANCORP, INC. AND SUBSIDIARIES
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

                                         
    Mortgage Banking                    
          MSRs and
                   
    Production
    Retained
                Total
 
    Divisions     Assets     Thrift     Other     Company  
    (Dollars in thousands)  
 
Nine months ended September 30, 2006
                                       
Net interest income
  $ 122,119     $ 44,739     $ 202,152     $ 25,065     $ 394,075  
Net revenues (expense)
    621,018       158,376       263,532       (15,727 )     1,027,199  
Net earnings (loss)
    217,969       72,650       112,163       (132,094 )     270,688  
Allocated average capital
    513,941       350,293       665,017       208,934       1,738,185  
Assets as of September 30, 2006
  $ 7,687,438     $ 2,797,416     $ 15,952,532     $ 948,097     $ 27,385,483  
Return on equity
    57 %     28 %     23 %     N/A       21 %
Nine months ended September 30, 2005
                                       
Net interest income
  $ 83,810     $ 36,262     $ 172,000     $ 23,240     $ 315,312  
Net revenues (expense)
    549,896       66,172       230,446       (21,800 )     824,714  
Net earnings (loss)
    207,970       25,304       102,761       (113,345 )     222,690  
Allocated average capital
    337,572       183,162       505,144       315,063       1,340,941  
Assets as of September 30, 2005
  $ 4,618,997     $ 1,559,104     $ 12,359,345     $ 1,090,298     $ 19,627,744  
Return on equity
    82 %     18 %     27 %     N/A       22 %

 
NOTE 5 — STOCK-BASED COMPENSATION
 
The Company has two stock incentive plans, the 2002 Incentive Plan, as amended and restated, and the 2000 Stock Incentive Plan, as amended (collectively, the “Plans”), which provide for the granting of non-qualified and incentive stock options, restricted and performance stock awards, and other awards to employees (including officers) and directors. On April 25, 2006, the 2002 Incentive Plan, as amended and restated, was approved by shareholders to increase the total number of shares of common stock reserved and available for issuance from 6,000,000 to 11,200,000. Each share issued pursuant to a full value award (such as restricted stock) will reduce the number of shares of common stock available for future grant by 3.5 shares. The term of options granted under the 2002 Incentive Plan (the “Plan”) was reduced from ten years to seven years, and the Company is no longer able to grant stock appreciation rights, bonus stock, stock units, performance shares or performance units under the Plan.
 
Options granted under the Plans have an exercise price equal to the fair market value of the underlying common stock on the date of grant, and generally vest based on one, three or five years of continuous service. Grants issued after April 25, 2006 will expire in seven years from the grant date, while grants issued prior to April 25, 2006 continue to have a ten-year term. Certain option and share awards provide for accelerated vesting if there is a change in control (as defined in the Plans).
 
Prior to January 1, 2006, the Company accounted for the Plans under the recognition and measurement provisions of APB No. 25 and related Interpretations, as permitted by SFAS No. 123. No stock option compensation cost was recognized in the Statement of Earnings as all options granted had an exercise price equal to the market value of the underlying common stock on the grant date.
 
Effective January 1, 2006, the Company adopted the fair value recognition provisions of SFAS No. 123(R), Share-Based Payment, using the modified-retrospective-transition method. Under this method, compensation cost recognized for 2006 includes compensation cost for all options granted prior to, but not yet vested as of January 1, 2006, and all options granted subsequent to January 1, 2006, based on the grant date fair value estimated in accordance with the provisions of Statements No. 123 and 123(R), respectively.

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INDYMAC BANCORP, INC. AND SUBSIDIARIES
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

The Company’s income before income taxes and net income for the three months ended September 30, 2006 included stock option compensation cost of $2.4 million and $1.6 million, respectively, which represented $0.02 impact on both basic and dilutive earnings per share. For the nine months ended September 30, 2006, the stock option compensation cost (pre-tax) was $7.4 million, or $0.11 impact on dilutive earnings per share. The Company’s net income for the three and nine months ended September 30, 2005 have been retrospectively adjusted to reflect pre-tax stock option compensation cost of $2.9 million and $9.2 million, respectively. The retrospectively adjusted dilutive earnings per share for the three and nine months were $1.16 and $3.38, respectively.
 
The fair value of each option award is estimated on the date of grant. For grants issued on and after January 1, 2006, the fair value is determined using an enhanced binomial lattice model. For options granted prior to January 1, 2006, the fair value of these awards was based on the fair value calculated for purposes of the SFAS No. 123 pro-forma disclosures which used the Black Scholes option pricing model. The assumptions used in the valuations for options granted during the nine months ended September 30, 2006 and 2005 are summarized as follows:
 
                 
    2006     2005  
 
Expected volatility
    28.11-28.44 %     27.55-29.42 %
Expected dividends
    4.00-4.60 %     3.52-4.07 %
Weighted average expected term (in years)
    6.89-7.34       5.00  
Risk-free rate
    4.54-4.73 %     4.16-4.54 %
 
Expected volatilities are based on the historical volatility of the Company’s common stock and other factors. For the Black Scholes valuation model, the expected term of the options is estimated based on historical option exercise activity. For the enhanced binomial valuation model, the Company uses historical data to estimate assumptions for expected option exercise and expected employee termination rates. The expected term of options granted is derived from the output of the binomial model and represents the period of time that options granted are expected to be outstanding. The range given above results from certain groups of employees exhibiting different behavior. The risk-free rate for periods within the contractual life of the option is based on the U.S. Treasury yield curve in effect at the time of grant.
 
Option activity under the Plans as of September 30, 2006, and activity for the three and nine months ended September 30, 2006 follows:
 
                                 
                Weighted
       
          Weighted-
    Average
       
          Average
    Remaining
       
          Exercise
    Contractual
    Aggregate
 
Options:
  Shares     Price     Term     Fair Value  
                      (In thousands)  
 
Options outstanding at June 30, 2006
    7,969,272     $ 26.37                  
Options granted
                           
Options exercised
    (157,440 )     25.15                  
Options canceled, forfeited and expired
    (29,293 )     35.94                  
                                 
Options outstanding at September 30, 2006
    7,782,539     $ 26.36       6.04     $ 59,132  
                                 
Options exercisable at September 30, 2006
    5,724,701     $ 23.74       5.29     $ 42,504  
                                 
 


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INDYMAC BANCORP, INC. AND SUBSIDIARIES
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

                                 
                Weighted
       
          Weighted-
    Average
       
          Average
    Remaining
       
          Exercise
    Contractual
    Aggregate
 
Options:
  Shares     Price     Term     Fair Value  
                      (In thousands)  
 
Options outstanding at December 31, 2005
    7,851,820     $ 24.82                  
Options granted
    788,140       39.11                  
Options exercised
    (797,584 )     23.06                  
Options canceled, forfeited and expired
    (59,837 )     36.13                  
                                 
Options outstanding at September 30, 2006
    7,782,539     $ 26.36       6.04     $ 59,132  
                                 
Options exercisable at September 30, 2006
    5,724,701     $ 23.74       5.29     $ 42,504  
                                 

 
No stock options were granted during the three months ended September 30, 2006. The weighted average grant-date fair value of options granted during the three months ended September 30, 2005 was $9.80. The total fair value of options exercised during the three months ended September 30, 2006 and 2005, was $1.1 million and $3.1 million, respectively. For the nine months ended September 30, 2006 and 2005, the total fair value of options exercised was $5.2 million and $10.6 million, respectively.
 
The status of the Company’s nonvested shares as of September 30, 2006, and changes during the nine months ended September 30, 2006, follow:
 
                 
          Weighted-Average
 
          Grant-Date
 
          Fair Value
 
Nonvested Options:
  Shares     per Share  
 
Nonvested at December 31, 2005
    2,660,324     $ 7.54  
Granted
    788,140       9.13  
Vested
    (1,333,933 )     7.62  
Canceled, forfeited and expired
    (56,693 )     8.19  
                 
Nonvested at September 30, 2006
    2,057,838     $ 8.08  
                 
 
As of September 30, 2006, there was $10.8 million of total unrecognized compensation cost, net of estimated forfeitures, related to nonvested options under the Plans. That cost is expected to be recognized in less than three years. The total fair value of shares vested during the three months ended September 30, 2006 and 2005, was $0.6 million and $0.4 million, respectively. The total fair value of shares vested during the nine months ended September 30, 2006 and 2005, was $10.2 million and $11.8 million, respectively.
 
Cash received from option exercise under the Plans for the nine months ended September 30, 2006 and 2005, was $18.4 million and $30.7 million, respectively. The actual tax benefit for the tax deductions from option exercises totaled $6.3 million and $15.5 million, respectively, for the nine months ended September 30, 2006 and 2005. To the extent the tax deductions exceed the amount previously expensed for financial accounting purposes, the related tax benefit on the excess is credited to equity, but only if that benefit can be realized currently.
 
The Company recorded compensation cost of $2.8 million and $1.3 million related to the restricted stock granted under the Plans for the three months ended September 30, 2006 and 2005, respectively. For the nine months ended September 30, 2006 and 2005, the compensation cost related to the restricted stock was $7.3 million, and $4.0 million, respectively.

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INDYMAC BANCORP, INC. AND SUBSIDIARIES
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

Restricted stock activity under the Plans as of September 30, 2006, and changes during the three and nine months ended September 30, 2006 follow:
 
                 
          Weighted-Average
 
          Grant-Date
 
          Fair Value
 
Restricted Stock:
  Shares     per Share  
 
Nonvested at June 30, 2006
    799,861     $ 38.05  
Granted
    68,622       41.81  
Vested
    (5,253 )     24.43  
Canceled and forfeited
    (22,937 )     38.51  
                 
Nonvested at September 30, 2006
    840,293     $ 38.53  
                 
 
                 
          Weighted-Average
 
          Grant-Date
 
          Fair Value
 
Restricted Stock:
  Shares     per Share  
 
Nonvested at December 31, 2005
    582,401     $ 32.59  
Granted
    485,671       40.32  
Vested
    (170,175 )     24.20  
Canceled and forfeited
    (57,604 )     37.89  
                 
Nonvested at September 30, 2006
    840,293     $ 38.53  
                 
 
NOTE 6 — DEFINED BENEFIT PENSION PLAN NET PERIODIC COST
 
Through December 31, 2002, we provided a defined benefit pension plan (the “DBP Plan”) to substantially all of our employees. Employees hired prior to January 1, 2003 are entitled to annual pension benefits beginning at normal retirement age (65 years of age) equal to a formula approximating 0.9% of final average compensation multiplied by credited service (not in excess of 35 years), subject to a service requirement of one year and a vesting requirement of five years of service. Our policy is to contribute the amount actuarially determined to be necessary to pay the benefits under the DBP Plan, and in no event to pay less than the amount necessary to meet the minimum funding standards of Employee Retirement Income Security Act of 1974 (“ERISA”). Employees hired after December 31, 2002 are not eligible for the DBP Plan.
 
The components of net periodic expense for the DBP Plan are as follows:
 
                                 
    Three Months
    Nine Months
 
    Ended September 30,     Ended September 30,  
    2006     2005     2006     2005  
    (Dollars in thousands)  
 
Service cost
  $ 1,575     $ 1,486     $ 4,725     $ 4,458  
Interest cost
    568       453       1,704       1,359  
Expected return on assets
    (582 )     (440 )     (1,746 )     (1,320 )
Recognized actuarial loss
    81       85       243       255  
Amortization of prior service cost
    14       14       42       42  
                                 
Net periodic expense
  $ 1,656     $ 1,598     $ 4,968     $ 4,794  
                                 


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INDYMAC BANCORP, INC. AND SUBSIDIARIES
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

The weighted-average assumptions used in computing the net periodic expense at September 30, 2006 and 2005 were as follows:
 
                 
    Three Months
 
    Ended September 30,  
    2006     2005  
 
Assumed discount rate
    6.00 %     6.00 %
Rate of compensation increase
    4.00 %     4.00 %
Expected return on assets
    7.50 %     7.50 %
 
The Company made a lump sum contribution payment of $3.8 million to the DBP Plan in the third quarter of 2006 for the 2005 plan year. The reduction in the contribution from the previously disclosed $7.0 million in the 2005 10-K resulted mainly from the Full Funding Limitation imposed by the Internal Revenue Code.
 
NOTE 7 — LEGAL MATTERS
 
In the ordinary course of business, the Company and its subsidiaries are defendants in or parties to a number of legal actions. Certain of such actions involve alleged violations of employment laws, unfair trade practices, consumer protection laws, including claims relating to the Company’s sales, loan origination and collection efforts, and other federal and state banking laws. Certain of such actions include claims for breach of contract, restitution, compensatory damages, punitive damages and other forms of relief. The Company reviews these actions on an on-going basis and follows the provisions of SFAS No. 5, “Accounting for Contingencies” when making accrual and disclosure decisions. When assessing reasonably possible and probable outcomes, the Company bases its decisions on the current state of the evidence discovered and in its possession, the strength of probable witness testimony, the viability of its defenses, the likelihood of prevailing at trial or resolving the matter through alternative dispute resolution, and the opinion of internal and external counsel. Due to the difficulty of predicting the outcome of such actions, the Company can give no assurance that it will prevail on all claims made against it or that its assessment will ultimately prove to be correct; however, management believes, based on current knowledge and after consultation with counsel, that these legal actions, individually and in the aggregate, and the losses, if any, resulting from the likely final outcome thereof, will not have a material adverse effect on the Company and its subsidiaries’ financial position, but may have a material impact on the results of operations of particular periods.
 
NOTE 8 — SUBSEQUENT EVENTS
 
Based on Indymac’s operating performance and financial position — including earnings, capital and liquidity — and its commitment to shareholder value, Indymac’s Board of Directors increased the cash dividend to $0.50 per share. This represents an increase of 19% from the dividend declared and paid in the fourth quarter of 2005. The cash dividend is payable December 7, 2006 to shareholders of record on November 9, 2006.


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ITEM 4.  CONTROLS AND PROCEDURES
 
The management of Indymac is responsible for establishing and maintaining effective disclosure controls and procedures, as defined under Rules 13a-15 and 15d-15 of Securities Exchange Act of 1934. As of September 30, 2006, an evaluation was performed under the supervision and with the participation of the Company’s management, including the Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of Indymac’s disclosure controls and procedures. Based on that evaluation, management concluded that Indymac’s disclosure controls and procedures as of September 30, 2006 were effective in ensuring that information required to be disclosed in this Quarterly Report on Form 10-Q was recorded, processed, summarized, and reported within the time period required by the SEC’s rules and forms.
 
There have been no changes in the Company’s internal control over financial reporting or in other factors that are reasonably likely to affect the Company’s disclosure of controls and procedures subsequent to September 30, 2006.
 
PART II.  OTHER INFORMATION
 
ITEM 1.  LEGAL PROCEEDINGS
 
In the ordinary course of business, the Company and its subsidiaries are defendants in or parties to a number of legal actions. Certain of such actions involve alleged violations of employment laws, unfair trade practices, consumer protection laws, including claims relating to the Company’s sales, loan origination and collection efforts, and other federal and state banking laws. Certain of such actions include claims for breach of contract, restitution, compensatory damages, punitive damages and other forms of relief. The Company reviews these actions on an on-going basis and follows the provisions of SFAS No. 5, “Accounting for Contingencies” when making accrual and disclosure decisions. When assessing reasonably possible and probable outcomes, the Company bases its decisions on the current state of the evidence discovered and in its possession, the strength of probable witness testimony, the viability of its defenses, the likelihood of prevailing at trial or resolving the matter through alternative dispute resolution, and the opinions of internal and external counsel. Due to the difficulty of predicting the outcome of such actions, the Company can give no assurance that it will prevail on all claims made against it or that its assessments will ultimately prove to be correct; however, management believes, based on current knowledge and after consultation with counsel, that these legal actions, individually and in the aggregate, and the losses, if any, resulting from the likely final outcome thereof, will not have a material adverse effect on the Company and its subsidiaries’ financial position, but may have a material impact on the results of operations of particular periods.
 
ITEM 1A.   RISK FACTORS
 
There have been no material changes to the risk factors previously disclosed on pages 70 to 78 in our quarterly report on Form 10-Q for the quarter ended March 31, 2006.
 
ITEM 2.   UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
 
See “Share Repurchase Activities” on page 55 for a discussion of share repurchases conducted by Indymac during the third quarter of 2006.
 
ITEM 5.   OTHER INFORMATION
 
None to report.


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ITEM 6.   EXHIBITS
 
     
4.1
  2000 Stock Incentive Plan, as amended.
4.2
  2002 Incentive Plan, as amended and restated, as amended.
10.1
  Board Compensation Policy and Stock Ownership Requirements.
31.1
  Chief Executive Officer’s Certification pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
31.2
  Chief Financial Officer’s Certification pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
32.1
  Chief Executive Officer’s Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
32.2
  Chief Financial Officer’s Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.


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SIGNATURE
 
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned hereunto duly authorized, in the City of Pasadena, State of California, on November 2, 2006.
 
Indymac Bancorp, Inc.
(Registrant)
 
  By: 
/s/  Michael W. Perry
Michael W. Perry
Chairman of the Board of Directors
and Chief Executive Officer
 
  By: 
/s/  Scott Keys
Scott Keys
Executive Vice President
and Chief Financial Officer


78