Ally Bank 2011 Annual Report Download - page 107

Table of Contents
Management's Discussion and Analysis
Ally Financial Inc. • Form 10−K
prepayment rates. We measure model performance by comparing prepayment predictions against actual results at both the portfolio and product
level.
• Discount rate — The cash flows of our mortgage servicing rights are discounted at prevailing market rates, which include an appropriate
risk−adjusted spread, which management believes approximates yields required by investors for these assets.
• Base mortgage rate — The base mortgage rate represents the current market interest rate for newly originated mortgage loans. This rate is a key
component in estimating prepayment speeds of our portfolio because the difference between the current base mortgage rate and the interest rates
on existing loans in our portfolio is an indication of the borrower's likelihood to refinance.
• Cost to service — In general, servicing cost assumptions are based on internally projected actual expenses directly related to servicing. These
servicing cost assumptions are compared to market−servicing costs when market information is available. Our servicing cost assumptions
include expenses associated with our activities related to loans in default.
• Volatility — Volatility represents the expected rate of change of interest rates. The volatility assumption used in our valuation methodology is
intended to estimate the range of expected outcomes of future interest rates. We use implied volatility assumptions in connection with the
valuation of our mortgage servicing rights. Implied volatility is defined as the expected rate of change in interest rates derived from the prices at
which options on interest rate swaps, or swaptions, are trading. We update our volatility assumptions for the change in implied swaptions
volatility during the period, adjusted by the ratio of historical mortgage to swaption volatility.
We also periodically perform a series of reasonableness tests as we deem appropriate, including the following.
• Review and compare data provided by an independent third−party broker. We evaluate and compare our fair value price, multiples, and
underlying assumptions to data provided by independent third−party broker, including prepayment speeds, discount rates, cost to service, and fair
value multiples.
• Review and compare pricing of publicly traded interest−only securities. We evaluate and compare our fair value to publicly traded interest−only
stripped MBS by age and coupon for reasonableness.
• Review and compare fair value price and multiples. We evaluate and compare our fair value price and multiples to market fair value price and
multiples in external surveys produced by third parties.
• Compare actual monthly cash flows to projections. We reconcile actual monthly cash flows to those projected in the mortgage servicing rights
valuation. Based on the results of this reconciliation, we assess the need to modify the individual assumptions used in the valuation. This process
ensures the model is calibrated to actual servicing cash flow results.
• Review and compare recent bulk mortgage servicing right acquisition activity. We evaluate market trades for reliability and relevancy and then
consider, as appropriate, our estimate of fair value of each significant transaction to the traded price. Currently, there is a lack of comparable
transactions between willing buyers and sellers in the bulk acquisition market, which are the best indicators of fair value. However, we continue
to monitor and track market activity on an ongoing basis.
We generally expect our valuation to be within a reasonable range of that implied by these tests. Changes in these assumptions could have a significant
impact on the determination of fair market value. In order to develop our best estimate of fair value, management reviews and analyzes the output from the
models and may adjust the reserves to take into consideration other factors that may not be captured. If we determine our valuation has exceeded the
reasonable range, we may adjust it accordingly. At December 31, 2011, based on the market information obtained, we determined that our mortgage
servicing rights valuations and assumptions used to value those servicing rights were reasonable and consistent with what an independent market participant
would use to value the asset.
The assumptions used in modeling expected future cash flows of mortgage servicing rights have a significant impact on the fair value of mortgage
servicing rights and potentially a corresponding impact to earnings. Refer to Note 12 to the Consolidated Financial Statements for sensitivity analysis.
Goodwill
The accounting for goodwill is discussed in Note 14 to the Consolidated Financial Statements. Goodwill is reviewed for potential impairment at the
reporting unit level on an annual basis, as of August 31, or in interim periods if events or circumstances indicate a potential impairment. Goodwill is
allocated to the reporting units at the date the goodwill is initially recorded. Once goodwill has been allocated to the reporting units, it generally no longer
retains its identification with a particular acquisition, but instead becomes identified with the reporting unit as a whole. As a result, all of the fair value of
each reporting unit is available to support the value of goodwill allocated to the unit. Goodwill impairment testing is performed at the reporting unit level,
one level below the business segment. For more information on our segments, refer to Note 28 to the Consolidated Financial Statements.
Goodwill impairment testing involves managements' judgment, requiring an assessment of whether the carrying value of the reporting unit can be
supported by the fair value of the individual reporting unit using widely accepted valuation techniques, such as the market approach (earnings, transaction,
and/or pricing multiples) and discounted cash flow methods. In applying these methodologies we utilize a number of factors, including actual operating
results, future business plans, economic projections, and market data. A combination of
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