HR Block 2005 Annual Report Download - page 75

operations or financial condition may be adversely affected and residual interests and mortgage servicing rights includes many
the price of our common stock may decline. estimates and assumptions made by management surrounding
OPERATIONAL RISK ⬎⬎⬎ There is a risk of loss resulting interest rates, prepayment speeds and credit losses. Variation in
from inadequate or failed processes or systems, theft or fraud. interest rates or the factors underlying our assumptions could
These can occur in many forms including, among others, errors, affect our results of operations. See Item 7A, under ‘‘Mortgage
business interruptions, inappropriate behavior of or misconduct Services,’’ for discussion of interest rate risk, and Item 7, under
by our employees or those contracted to perform services for us, ‘‘Critical Accounting Policies,’’ for discussion of our valuation
and vendors that do not perform in accordance with their methodology.
contractual agreements. These events can potentially result in LEGISLATION AND REGULATION ⬎⬎⬎ Several states and
financial losses or other damages. We rely on internal and cities are considering or have passed laws, regulations or
external information and technological systems to manage our ordinances aimed at curbing predatory lending and servicing
operations and are exposed to risk of loss resulting from practices. The federal government is also considering legislative
breaches in the security, or other failures of these systems. and regulatory proposals in this regard. In general, these
Replacement of our major operational systems could have a proposals involve lowering the existing federal HOEPA
significant impact on our ability to conduct our core business thresholds for defining a ‘‘high-cost’’ loan and establishing
operations and increase our risk of loss resulting from enhanced protections and remedies for borrowers who receive
disruptions of normal operating processes and procedures that such loans. If unfavorable laws and regulations are passed, it
may occur during the implementation of new information and could restrict our ability to originate loans. If rating agencies
transaction systems. refuse to rate our loans, loan buyers may not want to purchase
loans labeled as ‘‘high-cost,’’ and it could restrict our ability to sell
TAX SERVICES our loans in the secondary market. Accordingly, all of these items
COMPETITIVE POSITION ⬎⬎⬎ Increased competition for tax could adversely affect our results of operations.
preparation clients in our retail offices, online and software In 2002, the Federal Reserve Board adopted changes to
channels could adversely affect our current market share and Regulation C promulgated under the HMDA. Among other things,
limit our ability to grow our client base. See clients served the new regulations require lenders to report pricing data on
statistics included in Item 7, under ‘‘Tax Services.’’ loans with annual percentage rates that exceed the yield on
REFUND ANTICIPATION LOANS ⬎⬎⬎ Changes in government treasury bills with comparable maturities by 3%. The expanded
regulation related to RALs could adversely affect our ability to reporting takes effect in 2004 for reports filed in 2005. We
offer RALs or our ability to purchase participation interests. anticipate that a majority of our loans would be subject to the
Changes in IRS practices could adversely affect our ability to use expanded reporting requirements. The expanded reporting does
the IRS debt indicator to limit our bad debt exposure. Changes in not provide for additional loan information such as credit risk,
any of these, as well as possible litigation related to RALs, may debt-to-income ratio, loan-to-value ratio, documentation level or
adversely affect our results of operations. See discussion of RAL other salient loan features. However, reported information may
litigation in Item 3, ‘‘Legal Proceedings.’’ lead to increased litigation as the information could be
misinterpreted by third parties and could adversely affect our
MORTGAGE SERVICES results of operations.
COMPETITIVE POSITION ⬎⬎⬎ The majority of our mortgage COUNTERPARTY CREDIT RISK ⬎⬎⬎ Derivative instruments
loan applications are submitted through a network of brokers involve counterparty credit risk, which is the risk that a
who have relationships with many other mortgage lenders. counterparty may fail to perform on its contractual obligations.
Unfavorable changes in our pricing, service or other factors could We manage this risk through the use of a policy that includes
result in a decline in our mortgage origination volume. A decline credit standard guidelines, counterparty diversification,
in our servicer ratings could adversely affect our pricing and monitoring of counterparty financial condition, use of master
origination volume. Increased competition among mortgage netting agreements with counterparties, and exposure limits
lenders can also result in a decline in coupon rates offered to our based on counterparty credit, exposure amount and management
borrowers, which in turn lowers margins and could adversely risk tolerance. The policy is reviewed on an annual basis and as
affect our gains on sales of mortgage loans. conditions warrant. See Item 7A, under ‘‘Mortgage Services,’’ and
MARKET RISKS ⬎⬎⬎ Our day-to-day operating activities of Item 8, note 9 to our consolidated financial statements for
originating and selling mortgage loans have many aspects of discussion of our derivative instruments.
interest rate risk. Additionally, the valuation of our retained
H&R BLOCK 2005 Form 10K
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