Edgar Filing: NOVATION COMPANIES, INC.

NOVC 9.30.13 10-Q

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q



x	QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the Quarterly Period Ended September 30, 2013



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 001-13533

NOVATION COMPANIES, INC.

(Exact Name of Registrant as Specified in its Charter)



Maryland (State or Other Jurisdiction of Incorporation or Organization)		74-2830661 (I.R.S. Employer Identification No.)



2114 Central Street, Suite 600, Kansas City, MO (Address of Principal Executive Office)		64108 (Zip Code)

Registrant's Telephone Number, Including Area Code: (816) 237-7000

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 x No o

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes x No o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.



Large accelerated filer	Accelerated filer	Non-accelerated filer	Smaller reporting company
o	o	o	x

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

Yes o No x

The number of shares of the Registrant's Common Stock outstanding on November 1, 2013 was 91,479,519.

NOVATION COMPANIES, INC.

FORM 10-Q

For the Quarterly Period Ended September 30, 2013

TABLE OF CONTENTS



PART I	Financial Information

Item 1.	Financial Statements (Unaudited)	1
	Condensed Consolidated Balance Sheets	1
	Condensed Consolidated Statements of Operations	2
	Condensed Consolidated Statements of Comprehensive Income	3
	Condensed Consolidated Statements of Shareholders’ Equity (Deficit)	4
	Condensed Consolidated Statements of Cash Flows	5
	Notes to Condensed Consolidated Financial Statements	7

Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	24

Item 3.	Quantitative and Qualitative Disclosures About Market Risk	32

Item 4.	Controls and Procedures	32

PART II	Other Information	34

Item 1.	Legal Proceedings	34

Item 1A.	Risk Factors	35

Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	35

Item 3.	Defaults Upon Senior Securities	35

Item 4.	Mine Safety Disclosures	35

Item 5.	Other Information	35

Item 6.	Exhibits	36

	Signatures	37

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PART I. FINANCIAL INFORMATION

Item 1. Financial Statements

NOVATION COMPANIES, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS

(unaudited; dollars in thousands, except share and per share amounts)



	September 30, 2013			December 31, 2012
Assets
Current Assets
Cash and cash equivalents	$	17,442		$	16,362
Service fee receivable, net of allowance of $261 and $204, respectively	5,998			8,336
Restricted cash	1,094			1,158
Mortgage securities	3,519			3,906
Deferred income tax asset, net	504			1,941
Notes receivable, net of allowance of $0 and $1,054, respectively	262			581
Other current assets	2,309			2,565
Total current assets	31,128			34,849
Non-Current Assets
Property and equipment, net of accumulated depreciation	5,260			6,192
Goodwill	3,170			3,170
Deferred income tax asset, net	34,996			61,159
Other	1,738			1,374
Total non-current assets	45,164			71,895
Total assets	$	76,292		$	106,744

Liabilities and Shareholders' Equity (Deficit)
Liabilities:
Current Liabilities
Accounts payable	$	6,069		$	9,605
Accrued expenses	7,804			8,255
Deferred revenue	1,296			2,314
Note payable to related party	1,000			1,000
Other	416			248
Total current liabilities	16,585			21,422
Non-Current Liabilities
Senior notes	83,320			81,728
Note payable to related party	2,863			3,613
Other	2,514			2,005
Total non-current liabilities	88,697			87,346
Total liabilities	105,282			108,768

Commitments and contingencies (Note 10)

Shareholders' equity (deficit):
Capital stock, $0.01 par value per share, 120,000,000 shares authorized:
Common stock, 91,479,519 shares issued and outstanding as of both September 30, 2013 and December 31, 2012	915			915
Additional paid-in capital	740,441			740,171
Accumulated deficit	(772,239		)	(744,213		)
Accumulated other comprehensive income	2,886			3,301
Total Novation Companies, Inc. (“NCI”) shareholders' equity	(27,997		)	174
Noncontrolling interests	(993		)	(2,198		)
Total shareholders' deficit	(28,990		)	(2,024		)
Total liabilities and shareholders' deficit	$	76,292		$	106,744

See notes to condensed consolidated financial statements.

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NOVATION COMPANIES, INC.

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(unaudited; dollars in thousands, except share and per share amounts)



	For the Nine Months Ended September 30,						For the Three Months Ended September 30,
	2013			2012			2013			2012
Income and Revenues:
Service fee income	$	125,687		$	137,683		$	33,007		$	44,158
Interest income – mortgage securities	3,767			4,023			1,362			778
Total	129,454			141,706			34,369			44,936

Costs and Expenses:
Cost of services	103,032			118,114			27,927			39,603
Selling, general and administrative expense	25,608			21,333			8,147			7,090
Total	128,640			139,447			36,074			46,693

Other income (expense)	1,751			(59		)	(186		)	(3		)
Interest expense	(2,403		)	(2,330		)	(813		)	(795		)

Income (loss) before income taxes	162			(130		)	(2,704		)	(2,555		)
Income tax expense (benefit)	27,289			(63,549		)	(377		)	(442		)
Net (loss) income from continuing operations	(27,127		)	63,419			(2,327		)	(2,113		)
(Loss) income from discontinued operations, net of income taxes	(1,064		)	(2,377		)	50			(1,207		)
Net (loss) income	(28,191		)	61,042			(2,277		)	(3,320		)
Less: Net loss attributable to noncontrolling interests	(165		)	(1,508		)	(88		)	(1,114		)
Net (loss) income attributable to Novation	$	(28,026	)	$	62,550		$	(2,189	)	$	(2,206	)
(Loss) Earnings Per Share attributable to Novation:
Basic	$	(0.31	)	$	0.69		$	(0.02	)	$	(0.02	)
Diluted	$	(0.31	)	$	0.68		$	(0.02	)	$	(0.02	)
Weighted average basic shares outstanding	90,745,504			90,530,738			90,801,716			90,651,716
Weighted average diluted shares outstanding	90,745,504			91,434,982			90,801,716			91,327,558

See notes to condensed consolidated financial statements.

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NOVATION COMPANIES, INC.

CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

(unaudited; dollars in thousands)



	For the Nine Months Ended September 30,						For the Three Months Ended September 30,
	2013			2012			2013			2012
Net (loss) income	$	(28,191	)	$	61,042		$	(2,277	)	$	(3,320	)
Other comprehensive (loss) income:
Change in unrealized gain on mortgage securities – available-for-sale (Note 12)	(415		)	249			58			(268		)
Total comprehensive (loss) income	(28,606		)	61,291			(2,219		)	(3,588		)
Comprehensive loss attributable to noncontrolling interests:
Less: Net loss attributable to noncontrolling interests	(165		)	(1,508		)	(88		)	(1,114		)
Total comprehensive (loss) income attributable to Novation	$	(28,441	)	$	62,799		$	(2,131	)	$	(2,474	)

See notes to condensed consolidated financial statements.

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NOVATION COMPANIES, INC.

CONDENSED CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY (DEFICIT)

(unaudited; dollars in thousands)



	Total NCI Shareholders’ Equity (Deficit)
	Common Stock		Additional Paid-in Capital			Accumulated Deficit			Accumulated Other Comprehensive Income			Noncontrolling Interests			Total Shareholders’ Equity (Deficit)
Balance, December 31, 2012	$	915	$	740,171		$	(744,213	)	$	3,301		$	(2,198	)	$	(2,024	)
Compensation recognized under stock compensation plans	—		363			—			—			—			363
Contributions from noncontrolling interests	—		—			—			—			158			158
Distributions to noncontrolling interests	—		—			—			—			(651		)	(651		)
Acquisition of noncontrolling interests	—		(1,863		)	—			—			1,863			—
Adjustment to estimated accrued offering costs	—		1,770			—			—			—			1,770
Net loss	—		—			(28,026		)	—			(165		)	(28,191		)
Other comprehensive loss	—		—			—			(415		)	—			(415		)
Balance, September 30, 2013	$	915	$	740,441		$	(772,239	)	$	2,886		$	(993	)	$	(28,990	)



	Total NCI Shareholders’ Equity (Deficit)
	Common Stock		Additional Paid-in Capital			Accumulated Deficit			Accumulated Other Comprehensive Income		Noncontrolling Interests			Total Shareholders’ Equity (Deficit)
Balance, December 31, 2011	$	913	$	746,276		$	(803,400	)	$	3,267	$	188		$	(52,756	)
Compensation recognized under stock compensation plans	—		223			—			—		—			223
Issuance of nonvested shares, 225,866 shares	2		(2		)	—			—		—			—
Contributions from noncontrolling interests	—		—			—			—		593			593
Distributions to noncontrolling interests	—		—			—			—		(217		)	(217		)
Acquisition of noncontrolling interests	—		(6,110		)	—			—		(3		)	(6,113		)
Other changes in noncontrolling interests	—		(100		)	—			—		100			—
Net income (loss)	—		—			62,550			—		(1,508		)	61,042
Other comprehensive income	—		—			—			249		—			249
Balance, September 30, 2012	$	915	$	740,287		$	(740,850	)	$	3,516	$	(847	)	$	3,021

See notes to condensed consolidated financial statements.

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NOVATION COMPANIES, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(unaudited; dollars in thousands)



	For the Nine Months Ended September 30,
	2013			2012
Cash flows from operating activities:
Net (loss) income	$	(28,191	)	$	61,042
Adjustments to reconcile net (loss) income to net cash provided by operating activities:
Accretion of mortgage securities	(580		)	(807		)
Provision for bad debt, net	(863		)	559
Amortization of deferred debt issuance costs and senior debentures discount	1,592			1,547
Fair value adjustments	(861		)	—
Loss on disposal of fixed assets	449			2
Compensation recognized under stock compensation plans	363			223
Depreciation expense	2,888			2,517
Deferred taxes	27,600			(63,101		)
Changes in:
Service fee receivable	2,147			(699		)
Restricted cash	64			610
Other current assets and liabilities, net	968			1,767
Other noncurrent assets and liabilities, net	(122		)	(1,135		)
Deferred revenue	(1,018		)	882
Accounts payable and accrued expenses	(1,566		)	4,296
Net cash provided by operating activities	2,870			7,703

Cash flows from investing activities:
Proceeds from paydowns of mortgage securities	552			814
Restricted cash, net	20			31
Proceeds from paydowns of notes receivable	1,721			3,148
Issuance of notes receivable	(258		)	(55		)
Purchases of property and equipment	(2,313		)	(2,125		)
Net cash (used in) provided by investing activities	(278		)	1,813

Cash flows from financing activities:
Contributions from noncontrolling interests	158			593
Distributions to noncontrolling interests	(651		)	(217		)
Acquisition of noncontrolling interest	—			(500		)
Principal payments under capital leases	(269		)	—
Paydowns of note payable to related party	(750		)	(750		)
Net cash used in financing activities	(1,512		)	(874		)
Net increase in cash and cash equivalents	1,080			8,642
Cash and cash equivalents, beginning of period	16,362			11,503
Cash and cash equivalents, end of period	$	17,442		$	20,145

Continued

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SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION

(unaudited; dollars in thousands)



	For the Nine Months Ended September 30,
	2013		2012
Cash paid for interest	$	813	$	783
Cash paid for income taxes, net of refunds	21		2,008
Cash received on mortgage securities – available-for-sale with no cost basis	3,187		3,216
Non-cash investing and financing activities:
Acquisition of noncontrolling interest for note payable	—		5,613
Acquisition of noncontrolling interest for extinguishment of intercompany debt	1,863		—
Adjustment to estimated accrued offering costs	1,770		—
Assets acquired under capital lease	542		427

See notes to condensed consolidated financial statements.

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NOVATION COMPANIES, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

As of and for the period ended September 30, 2013 (Unaudited)

Note 1. Financial Statement Presentation

Description of Operations – Novation Companies, Inc. (“NCI” or the “Company”) acquires and operates technology-enabled service businesses, with a focus on building and developing these businesses to create long term value.

The Company owns 91% of StreetLinks LLC (“StreetLinks”), a national residential appraisal and mortgage real estate valuation management services company. The majority of StreetLinks' business is generated from managing the process of fulfilling an appraisal order and performing a quality control review of all appraisals. StreetLinks also provides other real estate valuation management services, such as field reviews, value validation, and automated appraisal risk management. StreetLinks charges a fee for these services which is collected from lenders and borrowers.

The Company owns 100% of Advent Financial Services LLC (“Advent”). As of December 31, 2012, the Company owned 78% of Advent. For discussion regarding the change in ownership interest, see Note 4 to the condensed consolidation financial statements. Advent, along with its distribution partners, provides financial settlement services, mainly for income tax preparation businesses, and also provides access to tailored banking accounts and related services via its prepaid debit card designed to meet the needs of low and moderate-income level individuals. Advent is not a bank, but it acts as an intermediary for banking products on behalf of other banking institutions.

The primary distribution channel for Advent is by way of settlement services to electronic income tax return originators. Advent provides a process for the originators to collect refunds from the Internal Revenue Service, distribute fees to various service providers and deliver the net refund to individuals. Individuals may elect to have the net refund dollars deposited into Advent's prepaid debit card. Individuals also have the option to have the net refund dollars paid by check or to an existing bank account. Regardless of the settlement method, Advent receives a fee from the originator for providing the settlement service. If the refund is deposited to the prepaid debit card offered by Advent, Advent earns additional fee income.

The Company owns 67% of Mango Moving, LLC ("Mango"), which was formerly a third-party logistics provider within the household goods industry. However, as a result of continued capital demands and difficulties generating positive cash flows or earnings, the Company and non-controlling owners agreed to dissolve Mango and abandon its operations during the first quarter of 2013. As discussed in Note 3, the operations of Mango have been classified as discontinued operations for all periods presented.

On October 2, 2012, the Company acquired 85% of the membership interests in IVR Central, LLC ("IVR"). Subsequent to the acquisition, IVR changed its name to CorvisaCloud LLC ("CorvisaCloud"). CorvisaCloud is a technology company in the call center communications industry, whose primary products include interactive voice response, automated call distribution, call dialing and call recording using cloud technology. See Note 4 to the condensed consolidated financial statements for additional information regarding this acquisition.

Prior to 2008, the Company originated, purchased, securitized, sold, invested in and serviced residential nonconforming mortgage loans and mortgage securities. As a result of those activities, we acquired mortgage securities that continue to be a source of our earnings and cash flow.

Financial Statement Presentation – The Company’s consolidated financial statements have been prepared in conformity with accounting principles generally accepted in the United States of America (“GAAP”). The preparation of financial statements requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of income and expense during the period. The Company uses estimates and judgments in establishing the fair value of its mortgage securities, notes receivable, goodwill, and accounting for income taxes, including the determination of the timing of the establishment or release of the valuation allowance related to the deferred tax asset balances and reserves for uncertain tax positions. While the condensed consolidated financial statements and footnotes reflect the best estimates and judgments of management at the time, actual results could differ significantly from those estimates.

Cash equivalents consist of liquid investments with an original maturity of three months or less. Amounts due from banks and credit card companies of $0.3 million for the settlement of credit card transactions are included in cash and cash equivalents as of both September 30, 2013 and December 31, 2012, as they are generally collected within three business days. Cash equivalents are stated at cost, which approximates fair value.

The condensed consolidated financial statements of the Company include the accounts of all wholly-owned and majority-owned subsidiaries. Intercompany accounts and transactions have been eliminated in consolidation.

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The Company's condensed consolidated financial statements are unaudited. In the opinion of management, all necessary adjustments have been made, which were of a normal and recurring nature, for a fair presentation of the condensed consolidated financial statements.

The Company's condensed consolidated financial statements should be read in conjunction with Management's Discussion and Analysis of Financial Condition and Results of Operations and the consolidated financial statements of the Company and the notes thereto included in the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 2012.

Note 2. New Accounting Pronouncements

In July 2012, the FASB issued ASU 2012-02, Intangibles—Goodwill and Other (Topic 350): Testing Indefinite-Lived Intangible Assets for Impairment, which amends the guidance in ASC 350-30 on testing indefinite-lived intangible assets, other than goodwill, for impairment. The FASB issued the ASU in response to feedback on ASU 2011-08, which amended the goodwill impairment testing requirements by allowing an entity to perform a qualitative impairment assessment before proceeding to the two-step impairment test. Similarly, under ASU 2012-02, an entity testing an indefinite-lived intangible asset for impairment has the option of performing a qualitative assessment before calculating the fair value of the asset. Although ASU 2012-02 revises the examples of events and circumstances that an entity should consider in interim periods, it does not revise the requirements to test (1) indefinite-lived intangible assets annually for impairment and (2) between annual tests if there is a change in events or circumstances. This guidance is effective for annual and interim impairment tests performed for fiscal years beginning after September 15, 2012, and did not have a material impact on the Company's consolidated financial statements.

In January 2013, the FASB issued ASU 2013-1, Balance Sheet (Topic 210): Clarifying the Scope of Disclosures about Offsetting Assets and Liabilities, which clarifies which instruments and transactions are subject to the offsetting disclosure requirements established by ASU 2011-11. The new ASU addresses preparer concerns that the scope of the disclosure requirements under ASU 2011-11 was overly broad and imposed unintended costs that were not commensurate with estimated benefits to financial statement users. This guidance is effective for fiscal years beginning on or after January 1, 2013, and did not have a significant impact on the Company's financial statements.

In February 2013, the FASB issued ASU 2013-2, Comprehensive Income (Topic 220): Reporting of Amounts Reclassified Out of Accumulated Other Comprehensive Income, which adds new disclosure requirements for items reclassified out of accumulated other comprehensive income (AOCI). This guidance is effective for fiscal years, and interim periods within those years, beginning after December 15, 2012, and did not have a significant impact on the Company's financial statements.

In July 2013, the FASB issued ASU 2013-11, Income Taxes (Topic 740): Presentation of an Unrecognized Tax Benefit When a Net Operating Loss Carryforward, a Similar Tax Loss, or a Tax Credit Carryforward Exists (a consensus of the FASB Emerging Issues Task Force), which provides guidance on financial statement presentation of an unrecognized tax benefit when a net operating loss (NOL) carryforward, a similar tax loss, or a tax credit carryforward exists. The FASB's objective in issuing this ASU is to eliminate diversity in practice resulting from a lack of guidance on this topic in current U.S. GAAP. This ASU applies to all entities with unrecognized tax benefits that also have tax loss or tax credit carryforwards in the same tax jurisdiction as of the reporting date and is effective for fiscal years beginning after December 15, 2013, and interim periods within those years. This guidance is not expected to have a significant impact on the Company's financial statements.

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Note 3. Discontinued Operations

Because of continued capital demands and difficulties generating positive cash flows or earnings, effective February 27, 2013, the Company committed to a plan to abandon the operations of Mango, which comprised the Company's entire Logistics segment. The run-off operations of Mango ceased during the first quarter of 2013, and the Company will not have any significant continuing involvement in Mango.

The results of operations for the Company's Logistics segment and any related eliminations have been classified as discontinued operations for all periods presented and are summarized below.



	For the Nine Months Ended September 30,						For the Three Months Ended September 30,
	2013			2012			2013			2012
Service fee income	$	376		$	4,619		—			$	2,004

Cost of services	756			4,653			(35		)	2,292
Selling, general and administrative expense	684			2,317			(15		)	921
Other (expense) income, net	—			(26		)	—			2

Net (loss) income from discontinued operations before income taxes	(1,064		)	(2,377		)	50			(1,207		)
Income tax expense	—			—			—			—
Net (loss) income from discontinued operations, net of income taxes	$	(1,064	)	$	(2,377	)	$	50		$	(1,207	)

The Company recorded a loss from discontinued operations, net of income taxes of $1.1 million for the nine months ended September 30, 2013 and income from discontinued operations of $0.1 million for the three months ended September 30, 2013. The year to date amount includes one-time employee termination benefits of $0.1 million and depreciation expense of $0.4 million, which largely represents the revision of depreciation estimates to reflect the use of the Logistics segment's fixed assets over their shortened useful lives through the date of abandonment. The activity for the three months ended September 30, 2013 was not significant.

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The major classes of assets and liabilities for the Company's Logistics segment as of September 30, 2013 and December 31, 2012 are detailed below. Unless otherwise noted below, these amounts are included in the respective line items within the condensed consolidated balance sheets for all periods presented.



	September 30, 2013		December 31, 2012
Assets
Current Assets
Cash and cash equivalents	$	—	$	49
Service fee receivable, net	—		111
Other current assets	—		66
Total current assets	—		226
Non-Current Assets
Property and equipment, net of accumulated depreciation	—		372
Other	—		109
Total non-current assets	—		481
Total assets	$	—	$	707

Liabilities
Current Liabilities
Accounts payable	$	17	$	133
Accrued expenses (A)	32		439
Due to Novation (B)	624		776
Other	—		28
Total current liabilities	673		1,376
Non-Current Liabilities
Other	—		11
Total non-current liabilities	—		11
Total liabilities	$	673	$	1,387


(A)	Accrued expenses as of September 30, 2013 consist primarily of accruals for customer damage claims.


(B)	Amounts due to Novation are eliminated upon consolidation. As such, these amounts are not included in the condensed, consolidated balance sheets for any periods presented.

Note 4. Business Combinations and Consolidation

Prior to 2012, Advent entered into a revolving note and revolving credit agreement (the "Agreements") with the Company whereby the noncontrolling members of Advent pledged their membership interests as security for Advent's obligations under the Agreements. As a result of Advent's default under the Agreements, during the second quarter of 2013 the Company foreclosed on the membership interests of the noncontrolling members in full satisfaction of Advent's outstanding intercompany debt obligations. At the time of foreclosure, Advent's noncontrolling members held approximately 22% of the outstanding membership interests. Therefore, the foreclosure raised the Company's ownership interest in Advent to 100% as of June 30, 2013 from 78% as of December 31, 2012. In accordance with the relevant accounting guidance, this debt extinguishment was treated as an equity transaction, reducing both additional paid in capital and Advent's noncontrolling interest deficit by approximately $1.9 million on a consolidated basis with no corresponding gain or loss recognized in the condensed consolidated statement of operations.

On October 2, 2012, pursuant to a Membership Interest Purchase Agreement between the Company and IVR, the Company acquired 85% of the membership interests in IVR in exchange for a purchase price of $0.8 million and the issuance of 200,000 stock options, 75,000 of which vested immediately and were included in the consideration transferred for the purposes of the purchase price allocation. Due to certain operational and financial vesting conditions, the remaining 125,000 options were deemed to be attributable to post-combination service and, thus, will be recognized as compensation cost over the applicable service periods. IVR is a technology company in the call center communications industry, whose primary products include interactive voice response, automated call distribution, call dialing and call recording using cloud technology. The impact of this acquisition was not material to the Company's condensed consolidated results of operations and consolidated balance sheet. Subsequent to the acquisition, IVR changed its name to CorvisaCloud LLC.

The purchase price for the CorvisaCloud acquisition has been allocated based on the assessment of the fair value of the assets acquired and liabilities assumed, determined based on the Company’s internal operational assessments and other analyses,

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which are Level 3 measurements. Pro forma disclosure requirements have not been included as they are not considered material.

A summary of the aggregate amounts of the assets acquired and liabilities assumed and the aggregate consideration paid for CorvisaCloud during 2012 follows (dollars in thousands):



	Total
Assets:
Cash	$	505
Service fee receivable	23
Property and equipment	500
Liabilities:
Accounts payable	(51		)
Accrued expenses	(21		)
Noncontrolling interests	(118		)
Total consideration	$	838

On March 8, 2012, Steve Haslam, the Chief Executive Officer of StreetLinks, was appointed the Chief Operating Officer of the Company. As part of the transition of Mr. Haslam to his new position with the Company, and pursuant to the exercise of his rights under his employment agreement with StreetLinks, he sold all of his 1,927 membership units of StreetLinks to the Company pursuant to a Membership Interest Purchase Agreement, dated March 8, 2012, by and between Mr. Haslam and the Company (the “Unit Purchase Agreement”). At the time of the transaction, the 1,927 membership units of StreetLinks represented approximately 5% of the outstanding StreetLinks membership units. The total purchase price under the Unit Purchase Agreement was $6.1 million, of which $1.5 million was paid during 2012. Approximately $0.8 million was paid during the nine months ended September 30, 2013. The remainder of this obligation is payable as follows: $0.3 million on the last day of each quarter hereafter until March 8, 2016, on which date the unpaid principal balance of $1.6 million is to be paid, plus interest on the unpaid balance at the rate of 4.0% per annum, compounded quarterly. The additional equity interest acquired as a result of this transaction was offset slightly by the issuance of additional StreetLinks membership units to certain StreetLinks employees during the second quarter of 2012. The issuance of these membership units reduced the Company's equity interest in StreetLinks from approximately 93% to approximately 91%.

Note 5. Mortgage Securities

As of September 30, 2013 and December 31, 2012, mortgage securities consisted entirely of the Company's investment in the residual securities issued by securitization trusts sponsored by the Company and classified as available-for-sale. Residual securities consist of interest-only, prepayment penalty and overcollateralization bonds. See Note 12 to the condensed consolidated financial statements for details on the Company's fair value methodology.

The following table presents certain information on the Company's portfolio of mortgage securities – available-for-sale as of September 30, 2013 and December 31, 2012 (dollars in thousands):



	Cost Basis		Unrealized Gain		Estimated Fair Value		Average Yield (A)
September 30, 2013	$	633	$	2,886	$	3,519	138.0	%
December 31, 2012	605		3,301		3,906		176.0


(A)	The average yield is calculated from the cost basis of the mortgage securities and does not give effect to changes in fair value that are reflected as a component of shareholders' equity (deficit).

There were no other-than-temporary impairments relating to mortgage securities – available-for-sale for the nine and three months ended September 30, 2013 and 2012. Maturities of mortgage securities owned by the Company depend on repayment characteristics and experience of the underlying financial instruments.

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The following table relates to the securitizations where the Company retained an interest in the assets issued by the securitization trust, a variable interest entity or VIE (dollars in thousands):



	Size/Principal Outstanding (A)		Assets on Balance Sheet (B)		Liabilities on Balance Sheet		Maximum Exposure to Loss(C)		Year to Date Loss on Sale		Year to Date Cash Flows (D)
September 30, 2013	$	4,941,067	$	3,519	$	—	$	3,519	$	—	$	3,739
December 31, 2012	5,432,562		3,906		—		3,906		—		4,030


(A)	Size/principal outstanding reflects the estimated principal of the underlying assets held by the VIE.


(B)	Assets on balance sheet are securities issued by the entity and are recorded in the mortgage securities line item of the condensed consolidated balance sheets.


(C)	The maximum exposure to loss includes the assets held by the Company and assumes a total loss on the referenced assets held by the VIE.


(D)	Year to date cash flows are for the nine months ended September 30, 2013 and 2012, respectively.

Note 6. Notes Receivable and Allowance for Doubtful Accounts

The Company has made loans to independent entities that have used the proceeds to finance current and on-going operations. Notes receivable are considered impaired if, based on current information and events, it is probable that the Company will be unable to collect all amounts due that are contractually obligated. The Company determines the required allowance for doubtful accounts using information such as the borrower's financial condition and economic trends and conditions. Recognition of income is suspended and the loan is placed on non-accrual status when management determines that collection of future income is not probable. Accrual is resumed, and previously suspended income is recognized, when the loan becomes contractually current and/or collection doubts are removed. Cash receipts on impaired loans are recorded against the receivable and then to any unrecognized income.

The Company charges off uncollectible notes receivable when repayment of contractually-obligated amounts is not deemed to be probable. There were no amounts charged off during the nine and three months ended September 30, 2013 and 2012.

Due to the low number of notes receivable, the Company evaluates each note individually for collectability rather than analyzing by class or credit quality indicator. During the first quarter of 2013, the Company recorded a recovery of credit losses of approximately $1.1 million, as a result of this review. This recovery related to a note receivable due from ITS Financial, LLC (“ITS”), for which the Company had recorded a full provision for credit losses of $1.1 million during the first quarter of 2012. This note was paid in full during the first quarter of 2013. There was no additional recovery of or provision for credit losses during the three months ended September 30, 2013 and 2012.

The Company maintained no allowance for credit losses on notes receivable as of September 30, 2013, and an allowance of $1.1 million as of September 30, 2012, the entire amount of which related to the note receivable due from ITS. Activity in the allowance for credit losses on notes receivable is as follows for the nine and three months ended September 30, 2013 and 2012 (dollars in thousands):



	For the Nine Months Ended September 30,					For the Three Months Ended September 30,
	2013			2012		2013		2012
Balance, beginning of period	$	1,054		$	—	$	—	$	1,054
(Recovery of) provision for credit losses	(1,054		)	1,054		—		—
Balance, end of period	$	—		$	1,054	$	—	$	1,054

The full outstanding notes receivable balance of $0.3 million as of September 30, 2013 and remaining outstanding notes receivable balance excluding the note receivable due from ITS of $0.6 million as of December 31, 2012, was current.

Note 7. Property and Equipment, Net

All of the Company's property and equipment are stated at cost less accumulated depreciation and amortization. Depreciation and amortization are computed using the straight-line method over the estimated useful lives of the related assets. The estimated useful lives of the Company's property and equipment are the lesser of 5 years or remaining lease term for leasehold improvements, 5 years for furniture and fixtures, 3 to 5 years for office and computer equipment, and 3 years for software.

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Maintenance and repairs are charged to expense. Major renewals and improvements are capitalized. Gains and losses on dispositions are credited or charged to earnings as incurred. Depreciation and amortization expense relating to property and equipment was $2.9 million and $0.9 million for the nine and three months ended September 30, 2013, respectively, and $2.5 million and $1.2 million for the nine and three months ended September 30, 2012, respectively.

The following table shows the Company's property and equipment, net as of September 30, 2013 and December 31, 2012 (dollars in thousands):



	September 30, 2013			December 31, 2012
Furniture, fixtures and office equipment	$	1,016		$	993
Hardware and computer equipment	5,185			4,358
Software	8,715			8,765
Leasehold improvements	890			1,216
Total Cost	15,806			15,332
Less: Accumulated depreciation and amortization	(10,546		)	(9,140		)
Property and equipment, net	$	5,260		$	6,192

The hardware and computer equipment amount above includes gross assets under capital leases of $1.2 million and $0.7 million as of September 30, 2013 and December 31, 2012, respectively. As of September 30, 2013 and December 31, 2012, respectively, accumulated depreciation and amortization of these assets totaled approximately $0.4 million and $0.1 million.

Note 8. Goodwill

As of both September 30, 2013 and December 31, 2012, goodwill totaled $3.2 million, the entire amount of which represents the goodwill assigned to the Appraisal Management reporting unit. There was no goodwill activity for the nine and three months ended September 30, 2013 and 2012.

Goodwill is tested for impairment at least annually as of November 30, or when events or circumstances suggest that an impairment may exist. Goodwill is tested for impairment using a two-step process that begins with an estimation of fair value. The first step compares the estimated fair value of the reporting unit to its carrying amount, including goodwill. If the estimated fair value exceeds its carrying amount, goodwill is not considered impaired. However, if the carrying amount exceeds its estimated fair value, a second step is performed, comparing the implied fair value to the carrying amount of goodwill. An impairment loss is recorded in the consolidated statement of operations to the extent that the carrying amount of goodwill exceeds its implied fair value.

For tax purposes, goodwill is included in the Company's basis in its investment in StreetLinks as StreetLinks is a limited liability company. Therefore, it will be non-deductible for tax purposes as long as the Company holds its investment.

Note 9. Borrowings

Senior Notes – The Company has outstanding unsecured senior notes pursuant to three indentures (collectively, the “Senior Notes”) with an aggregate principal balance of $85.9 million. The Senior Notes were created through an exchange of the Company's previously outstanding junior subordinated notes that occurred prior to 2012. This exchange was considered a modification of a debt instrument for accounting purposes, therefore the Company uses the effective interest method to accrete from the existing balances of $83.3 million and $81.7 million as of September 30, 2013 and December 31, 2012, respectively to the aggregate principal balance of $85.9 million.

The Senior Notes accrue interest at a rate of 1.0% until the earlier of (a) the completion of an equity offering by the Company or its subsidiaries that results in proceeds of $40 million or more or (b) January 1, 2016. Thereafter, the Senior Notes will accrue interest at a rate of three-month LIBOR plus 3.5% (the “Full Rate”). Interest on the Senior Notes is paid on a quarterly basis and no principal payments are due until maturity on March 30, 2033.

The indentures governing the Senior Notes (the “Indentures”) contain certain restrictive covenants (the “Negative Covenants”) subject to certain exceptions in the Indentures, including written consent of the holders of the Senior Notes. The Negative Covenants prohibit the Company and its subsidiaries, from among other things, incurring debt, permitting any lien upon any of its property or assets, making any cash dividend or distribution or liquidation payment, acquiring shares of the Company or its subsidiaries, making payment on debt securities of the Company that rank pari passu or junior to the Senior Notes, or disposing of any equity interest in its subsidiaries or all or substantially all of the assets of its subsidiaries. The Negative Covenants remain in effect until both of the following conditions are met: 1) the Senior Notes begin accruing interest at the Full Rate, and 2) the

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Company satisfies certain financial covenants (the “Financial Covenants”). Satisfaction of the Financial Covenants requires the Company to demonstrate on a consolidated basis that (1) its Tangible Net Worth is equal to or greater than $40 million, and (2) either (a) the Interest Coverage Ratio is equal to or greater than 1.35x, or (b) the Leverage Ratio is not greater than 95%. As the Senior Notes were not accruing interest at the Full Rate, the Negative Covenants, as defined above, were still in effect as of September 30, 2013 and December 31, 2012. As such, the Company was under no obligation to comply with the Financial Covenants during these periods.

The Company was in compliance with all Negative Covenants as of September 30, 2013 and December 31, 2012.

Note Payable to Related Party – As discussed in Note 4 to the condensed consolidated financial statements, Steve Haslam sold all of his membership units of StreetLinks to the Company, approximately 5%, on March 8, 2012. The total purchase price was $6.1 million, of which $1.5 million was paid during 2012. Approximately $0.8 million was paid during the nine months ended September 30, 2013. The remainder of this obligation is payable as follows: $0.3 million on the last day of each quarter until March 8, 2016, on which date the unpaid principal balance of $1.6 million is to be paid, plus interest on the unpaid balance at the rate of 4.0% per annum, compounded quarterly. The Company's obligation is secured by the StreetLinks' interest purchased.

Capital Leases – The Company leases hardware and computer equipment under capital leases. These capital leases are payable in 36 monthly installments and mature between August 2014 and September 2016. As of September 30, 2013 and December 31, 2012, current maturities of obligations under capital leases were approximately $0.4 million and $0.3 million, respectively. Noncurrent maturities of obligations under capital leases were approximately $0.5 million and $0.4 million, as of September 30, 2013 and December 31, 2012, respectively. Due to the immaterial nature of these obligations with regard to the Company's financial statements as a whole, current maturities and noncurrent maturities of capital leases are included in the other current liabilities and other liabilities line items, respectively, in the Company's condensed consolidated balance sheets.

Note 10. Commitments and Contingencies

In conjunction with the acquisition of Corvisa, LLC in 2011, the Company is obligated to make payments in the future to the former minority owners of Corvisa of up to $1.2 million if revenue targets are achieved. During the three months ended September 30, 2013, the Company, based on management's estimates of the probability of the earnings targets being achieved, recorded an adjustment to the fair value of the recorded liability pertaining to this obligation. This adjustment reduced the recorded liability by approximately $0.2 million. As of September 30, 2013, the remaining recorded liability related to the Corvisa contingent consideration obligation was $0.2 million, all of which is recorded in accrued expenses. As of December 31, 2012, the Company had recorded a liability of $0.9 million related to this contingency, with approximately $0.5 million recorded in the accrued expense line of the condensed consolidated balance sheet and $0.4 million recorded in the other noncurrent liabilities.

The Company has received indemnification and loan repurchase demands with respect to alleged violations of representations and warranties (“defects”) made in loan sale and securitization agreements. These demands have been received substantially beginning in 2006 and have continued into 2013. Prior to the Company ceasing the origination of loans in its mortgage lending business, it sold loans to securitization trusts and other third parties and agreed to repurchase a loan due to missing documentation or breaches of representations or warranties made in sale documents that materially adversely affected the value of the loan. Beginning in 1997 and ending in 2007, affiliates of the Company sold loans to securitization trusts and third parties with the potential of such repurchase obligations. The aggregate original principal balance of these loans was $43.1 billion at the time of sale or securitization. The remaining principal balance of these loans is not available as these loans are serviced by third parties and may have been refinanced, sold or liquidated. Between 2011 and 2013, the Company received claims to repurchase loans with original principal balances of approximately $31.2 million. These claims have not been acknowledged as valid by the Company. In some cases, claims were made against affiliates of the Company that have ceased operations and have no or limited assets. The Company has not repurchased any loans between 2011 and 2013.

Historically, repurchases of loans or indemnification of losses where a loan defect has been alleged have been insignificant and any future losses for alleged loan defects have not been deemed to be probable or reasonably estimable; therefore, the Company has recorded no reserves related to these claims. The Company does not use internal groupings for purposes of determining the status of these loans. The Company is unable to develop an estimate of the maximum potential amount of future payments related to repurchase demands because the Company does not have access to information relating to loans sold and securitized and the number or amount of claims deemed probable of assertion is not known nor is it reasonably estimated. Further, the validity of claims received remains questionable. Also, considering that the Company completed its last sale or securitization of loans during 2007, the Company believes that it will be difficult for a claimant to successfully validate any additional repurchase demands. Management does not expect that the potential impact of claims will be material to the Company's financial statements.

Pending Litigation – The Company is a party to various legal proceedings. Except as set forth below, these proceedings are of an ordinary and routine nature.

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aggregate, have a material effect on the Company's financial condition, operations and liquidity. Furthermore, due to the uncertainty of any potential loss as a result of pending litigation and due to the Company's belief that an adverse ruling is not probable, the Company has not accrued a loss contingency related to the following matters in its consolidated financial statements. However, a material outcome in one or more of the active proceedings described below could have a material impact on the results of operations in a particular quarter or fiscal year.

On May 21, 2008, a purported class action case was filed in the Supreme Court of the State of New York, New York County, by the New Jersey Carpenters' Health Fund, on behalf of itself and all others similarly situated. Defendants in the case included NovaStar Mortgage Funding Corporation (“NMFC”) and its individual directors, several securitization trusts sponsored by the Company ("affiliated defendants") and several unaffiliated investment banks and credit rating agencies. The case was removed to the United States District Court for the Southern District of New York. On June 16, 2009, the plaintiff filed an amended complaint. The plaintiff seeks monetary damages, alleging that the defendants violated sections 11, 12 and 15 of the Securities Act of 1933, as amended, by making allegedly false statements regarding mortgage loans that served as collateral for securities purchased by the plaintiff and the purported class members. On August 31, 2009, the Company filed a motion to dismiss the plaintiff's claims, which the court granted on March 31, 2011, with leave to amend. The plaintiff filed a second amended complaint on May 16, 2011, and the Company again filed a motion to dismiss. On March 29, 2012, the court dismissed the plaintiff's second amended complaint with prejudice and without leave to replead. The plaintiff filed an appeal. On March 1, 2013, the appellate court reversed the judgment of the lower court, which had dismissed the case. Also, the appellate court vacated the judgment of the lower court which had held that the plaintiff lacked standing, even as a class representative, to sue on behalf of investors in securities in which plaintiff had not invested, and the appellate court remanded the case back to the lower court for further proceedings. On April 23, 2013 the plaintiff filed its memorandum with the lower court seeking a reconsideration of the earlier dismissal of plaintiff's claims as to five offerings in which plaintiff was not invested. Given the early stage of the litigation, the Company cannot provide an estimate of the range of any loss. The Company believes that the affiliated defendants have meritorious defenses to the case and expects them to defend the case vigorously.

On June 20, 2011, the National Credit Union Administration Board, as liquidating agent of U.S. Central Federal Credit Union, filed an action against NMFC and numerous other defendants in the United States District Court for the District of Kansas, claiming that the defendants issued or underwrote residential mortgage-backed securities pursuant to allegedly false or misleading registration statements, prospectuses, and/or prospectus supplements. On October 12, 2011, the complaint was served on NMFC. On December 20, 2011, NMFC filed a motion to dismiss the plaintiff's complaint and to strike certain paragraphs of the complaint. On July 25, 2012, the court granted the motion in part and denied the motion in part. The plaintiff was granted leave to amend the complaint. On August 24, 2012, the plaintiff filed an amended complaint making essentially the same claims against NMFC. On October 29, 2012, NMFC filed a motion to dismiss the amended complaint. The defendants had claimed that the case should be dismissed based upon a statute of limitations and sought an appeal of the court's denial of this defense. An interlocutory appeal of this issue was allowed, and oral argument on the appeal occurred May 8, 2013. On August 27, 2013, the Tenth Circuit affirmed the lower court’s denial of defendants’ motion to dismiss the plaintiff’s claims as being time barred; the appellate court held that the Extender Statute, 12 U.S.C. §1787(b)(14) applied to plaintiff’s claims. On September 12, 2013, the lower court denied NMFC’s motion to dismiss the amended complaint against NMFC. This litigation is in an early stage, and the Company cannot provide an estimate of the range of any loss. The Company believes that NMFC has meritorious defenses to the case and expects it to defend the case vigorously.

On May 30, 2012, Woori Bank filed an action against NovaStar ABS CDO I, Inc. and NovaStar ABS CDO I, Ltd. (collectively, “NCDO”) and certain other unrelated entities in the United States District Court for the Southern District of New York, claiming common law fraud, negligent misrepresentation and unjust enrichment based on allegations that defendants knew that NCDO securities purchased by the plaintiff involved more risk than their ratings suggested. The plaintiff dismissed, without prejudice, NovaStar ABS CDO I, Ltd., and on August 20, 2012, the plaintiff filed an amended complaint against NovaStar ABS CDO I, Inc. and other, unrelated entities. The amended complaint alleged the same claims against NovaStar ABS CDO I, Inc. On September 12, 2012, NovaStar ABS CDO I, Inc. filed a motion to dismiss the amended complaint. On December 27, 2012, the court dismissed the claims against all defendants without granting the plaintiff leave to amend its complaint. However, the court gave the plaintiff the opportunity, until March 1, 2013, to write a letter to the court explaining how it would amend to correct the noted deficiencies in its complaint if granted leave. In response, the plaintiff, on January 23, 2013, filed a motion for leave to file an amended complaint and to alter, amend or vacate the judgment of dismissal. On March 8, 2013 the court denied plaintiff's motion and made its dismissal final. The plaintiff appealed. In its opening brief filed June 3, 2013, plaintiff appellant acknowledged that it was not appealing the lower court’s dismissal of NovaStar ABS CDO I, Inc., the sole remaining NovaStar defendant.

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Mac alleging breaches of representations and warranties with respect to 43 loans, as more fully set forth in included documentation. The 43 loans had an aggregate, original principal balance of about $6.5 million. On August 19, 2013, Deutsche Bank National Trust Company, as Trustee, filed a complaint identifying alleged breaches of representations and warranties with respect to seven loans that were included in the earlier list of 43 loans. Plaintiff also generally alleged a trust-wide breach of representations and warranties by defendants with respect to loans sold and transferred to the trust. Plaintiff seeks specific performance of repurchase obligations; compensatory, consequential, recessionary and equitable damages for breach of contract; specific performance and damages for anticipatory breach of contract; and indemnification (indemnification against NMI only). On October 9, 2013, Company and NMI filed a motion to dismiss plaintiff’s complaint. This litigation is in an early stage, and the Company cannot provide an estimate of the range of any loss. The Company believes that it has meritorious defenses to the case and expects to defend the case vigorously.

Note 11. Shareholders’ Deficit

In connection with the Company's issuance of convertible preferred stock in 2007, which was subsequently exchanged for shares of newly-issued common stock in 2011, the Company accrued an estimate for offering costs incurred by the preferred stock investors. In accordance with the relevant accounting guidance, the Company originally recorded these costs to additional paid in capital as a reduction of the proceeds from issuance. As the statute of limitations whereby the investors may claim the expenses lapsed during the three months ended September 30, 2013, the Company adjusted the estimated accrued offering costs, resulting in a $1.8 million increase to additional paid in capital.

Noncontrolling Interests – During the nine months ended September 30, 2013, the Company distributed approximately $0.7 million of excess capital, as determined in accordance with the StreetLinks operating agreement, to the noncontrolling members of StreetLinks. Each member's share of the distribution is determined based on their ownership interest at the time of the distribution.

During the second quarter of 2013, the Company foreclosed on the membership interests of the noncontrolling members in full satisfaction of Advent's outstanding intercompany debt obligations. In accordance with the relevant accounting guidance, this debt extinguishment was treated as an equity transaction, reducing Advent's noncontrolling interest deficit by approximately $1.9 million. See Note 4 for additional information regarding this acquisition.

Note 12. Fair Value Accounting

Fair Value Measurements

The Company's valuation techniques are based upon observable and unobservable inputs. Observable inputs reflect market data obtained from independent sources, while unobservable inputs reflect the Company's market assumptions. These two types of inputs create the following fair value hierarchy:

•Level 1 – Valuations based on quoted prices in active markets for identical assets and liabilities.

•Level 2 – Valuations based on observable inputs in active markets for similar assets and liabilities, other than Level 1 prices, such as quoted interest or currency exchange rates.

•Level 3 – Valuations based on significant unobservable inputs that are supported by little or no market activity, such as discounted cash flow methodologies based on internal cash flow forecasts.

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The following tables present for each of the fair value hierarchy levels, the Company's assets and liabilities which are measured at fair value on a recurring basis as of September 30, 2013 and December 31, 2012 (dollars in thousands):



			Fair Value Measurements at Reporting Date Using
Description	Fair Value at September 30, 2013		Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
Assets:
Mortgage securities – available-for-sale	$	3,519	$	—	$	—	$	3,519

Liabilities:
Contingent consideration (A)	$	237	$	—	$	—	$	237


(A)	The contingent consideration represents the estimated fair value of the additional potential amounts payable in connection with our acquisition of Corvisa.



			Fair Value Measurements at Reporting Date Using
Description	Fair Value at December 31, 2012		Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
Assets:
Mortgage securities – available-for-sale	$	3,906	$	—	$	—	$	3,906

Liabilities:
Contingent consideration (A)	$	1,099	$	—	$	—	$	1,099


(A)	The contingent consideration represents the estimated fair value of the additional potential amounts payable in connection with our acquisitions of Mango and Corvisa, $0.2 million and $0.9 million, respectively.

Valuation Methods and Processes

The Company estimates the fair value of all items subject to fair value accounting using present value techniques and generally does not have the option to choose other valuation techniques for these items. There have been no significant changes to the Company's financial statements as a result from changes to the Company's valuation techniques during the nine months ended September 30, 2013.

An independent entity has been engaged to prepare projected future cash flows of the Company's mortgage securities for each reporting period (quarterly) used by management to estimate fair value. The Company's internal finance and accounting staff reviews and monitors the work of the independent entity, including analysis of the assumptions used, retrospective review and preparing an overall conclusion of the value and process. All other fair value analysis, consisting of simple cash flow estimates and discounting techniques, is conducted internally by the Company's internal financial staff. The Company's fair value process is conducted under the supervision of the Chief Financial Officer.

Mortgage securities – available-for-sale – Mortgage securities classified as available-for-sale are reported at their estimated fair value with unrealized gains and losses reported in accumulated other comprehensive income. To the extent that the cost basis of mortgage securities exceeds the fair value and the unrealized loss is considered to be other than temporary, an impairment charge is recognized and the amount recorded in accumulated other comprehensive income or loss is reclassified to earnings as a realized loss. The specific identification method is used in computing realized gains or losses. The Company uses the discount rate methodology for determining the fair value of its residual securities. The fair value of the residual securities is estimated based on the present value of future expected cash flows to be received. Management's best estimate of key assumptions, including credit losses, prepayment speeds, forward yield curves and discount rates commensurate with the risks involved, are used in estimating future cash flows.

Contingent consideration – The Company estimated the fair value of the Corvisa contingent consideration using projected revenue over the earn-out period, and applied a discount rate commensurate with the risks involved to the projected earn-out payments. The key inputs for the projected revenue analysis were the number of units completed and the average amount of revenue per unit.

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The following table presents certain quantitative information about the significant unobservable inputs used in the fair value measurement for items measured at fair value on a recurring basis using significant unobservable inputs (Level 3).




Description	Valuation Techniques	Significant Unobservable Inputs	Range
Assets:
Mortgage securities – available-for-sale	Present value analysis	Prepayment rates	7.5% – 12.6%
		Weighted average life (years)	2.0 – 2.0
Liabilities:
Contingent consideration	Present value analysis	Revenue growth	0.0% – 19.0%

As discussed in Note 5 to the condensed consolidated financial statements, the Company's mortgage securities – available-for-sale, are measured at fair value. These securities are valued at each reporting date using significant unobservable inputs (Level 3) by discounting the expected cash flows using market interest rates commensurate with the credit quality and duration of the investment. The Company has no other assets measured at fair value.

The significant unobservable inputs used in the fair value measurement of mortgage securities – available-for-sale are prepayment rates and the weighted average life for the underlying mortgage loan collateral. Using a faster (higher) estimated prepayment rate would decrease the value of the securities. The Company uses a weighted average life of 2 years from the reporting date for the expected future estimated cash flows. The future cash flows are highly-dependent upon the performance of the underlying collateral of mortgage loans. The nonperformance risk associated with the collateral is the key reason the Company utilizes such a short weighted average life in its calculation. Assuming a shorter weighted average life would decrease the estimated value of the mortgage securities. Alternatively, assuming a longer weighted average life would increase the estimated value of the mortgage securities.

The only liability recorded at fair value in the condensed consolidated balance sheets is the contingent consideration liability associated with the Company's acquisition of Corvisa. The payment is contingent on future revenue generated from the original Corvisa technology platform. The obligation is valued at each reporting date using significant unobservable inputs (level 3). The Company estimated the fair value using projected revenue over the earn-out period, and applies a discount rate commensurate with the risks involved to the projected earn-out payments.

The significant unobservable input used in the fair value measurement of the contingent consideration liability is the growth of the forecasted revenue to be generated from the original Corvisa technology platform. The Company utilizes forecasted revenue amounts to determine whether the revenue targets set forth in the terms of the acquisition will be achieved. Assuming that the required revenue will not be realized would decrease the estimated fair value of the contingent consideration liability.

The following tables provide a reconciliation of the beginning and ending balances for the Company's mortgage securities – available-for-sale, which are measured at fair value on a recurring basis using significant unobservable inputs (Level 3) for the nine and three months ended September 30, 2013 and 2012 (dollars in thousands):



	For the Nine Months Ended September 30,						For the Three Months Ended September 30,
	2013			2012			2013			2012
Balance, beginning of period	$	3,906		$	3,878		$	3,402		$	4,406
Increases (decreases) to mortgage securities – available-for-sale:
Accretion of income (A)	580			807			207			294
Proceeds from paydowns of securities (A)	(552		)	(814		)	(148		)	(312		)
Mark-to-market value adjustment	(415		)	249			58			(268		)
Net increase (decrease) to mortgage securities – available-for-sale	(387		)	242			117			(286		)
Balance, end of period	$	3,519		$	4,120		$	3,519		$	4,120


(A)	Cash received on mortgage securities with no cost basis was $3.2 million and $1.2 million for the nine and three months ended September 30, 2013, respectively, and $3.2 million and $0.5 million for the nine and three months ended September 30, 2012, respectively.

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The following table provides a reconciliation of the beginning and ending balances for the Company's contingent consideration liability, which is measured at fair value on a recurring basis using significant unobservable inputs (Level 3) for the nine and three months ended September 30, 2013 and 2012 (dollars in thousands):



	For the Nine Months Ended September 30,					For the Three Months Ended September 30,
	2013			2012		2013			2012
Balance, beginning of period	$	1,099		$	1,154	$	474		$	1,154
Fair value adjustment	(862		)	—		(237		)	—
Balance, end of period	$	237		$	1,154	$	237		$	1,154

The following table provides a summary of the impact to earnings for the nine and three months ended September 30, 2013 and 2012 from adjustments to those Company's assets and liabilities measured at fair value on a recurring and nonrecurring basis (dollars in thousands):



		Fair Value Adjustments
		For the Nine Months Ended September 30,					For the Three Months Ended September 30,
Asset or Liability Measured at Fair Value	Fair Value Measurement Frequency	2013			2012		2013			2012		Statement of Operations Line Item Impacted
Contingent consideration (A)	Recurring	(862		)	—		(237		)	—		Other income (expense)
Total fair value gains (B)		$	(862	)	$	—	$	(237	)	$	—


(A)	The contingent consideration represents the estimated fair value of the additional potential earn-out opportunity payable in connection with the acquisition of Corvisa that is contingent and based upon certain future earnings targets.


(B)	The Company did not have any impairments relating to mortgage securities – available-for-sale or the nine and three months ended September 30, 2013 and 2012.

The following disclosure of the estimated fair value of financial instruments presents amounts that have been determined using available market information and appropriate valuation methodologies. However, considerable judgment is required to interpret market data to develop the estimates of fair value. Accordingly, the estimates presented herein are not necessarily indicative of the amounts that could be realized in a current market exchange. The use of different market assumptions or estimation methodologies could have a material impact on the estimated fair value amounts. The fair value of short-term financial assets and liabilities, such as service fees receivable, notes receivable, and accounts payable and accrued expenses are not included in the following table as their fair value approximates their carrying value.

The estimated fair values of the Company's financial instruments are as follows as of September 30, 2013 and December 31, 2012 (dollars in thousands):



	As of September 30, 2013				As of December 31, 2012
	Carrying Value		Fair Value		Carrying Value		Fair Value
Financial assets:
Restricted cash	$	2,131	$	2,092	$	2,215	$	2,150
Mortgage securities – available-for-sale	3,519		3,519		3,906		3,906
Financial liabilities:
Senior notes	$	83,320	$	12,287	$	81,728	$	11,527
Note payable to related party	3,863		2,749		4,613		3,064

For the items in the table above not measured at fair value in the statement of financial position but for which the fair value is disclosed, the fair value has been estimated using Level 3 methodologies, based on significant unobservable inputs that are supported by little or no market activity, such as discounted cash flow calculations based on internal cash flow forecasts. No assets or liabilities have been transferred between levels during any period presented.

Restricted cash – The fair value of restricted cash was estimated by discounting estimated future release of the cash from restriction.

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Senior notes – The fair value is estimated by discounting future projected cash flows using a discount rate commensurate with the risks involved. The value of the Senior Notes was calculated assuming that the Company would be required to pay interest at a rate of 1.0% per annum until January 2016, at which time the Company would be required to start paying the Full Rate of three-month LIBOR plus 3.5% until maturity in March 2033. The three-month LIBOR used in the analysis was projected using a forward interest rate curve.

Note payable to related party – The fair value of the note payable to related party is estimated by discounting future projected principal and interest payment cash flows using a discount rate commensurate with the risks involved. As of September 30, 2013, the future projected interest payments were calculated assuming the stated rate of 4.0% per annum until maturity in March 2016.

Note 13. Income Taxes

For the nine months ended September 30, 2013, the Company recorded income tax expense from continuing operations of $27.3 million, compared to an income tax benefit of $63.5 million for the nine months ended September 30, 2012. The majority of both the expense during the nine months ended September 30, 2013 and benefit during the nine months ended September 30, 2012 were discrete events attributable to adjustment of the valuation allowance against the Company's deferred tax assets.

During the first quarter of 2012, the Company determined that it is more likely than not that it will realize a portion of its deferred tax assets, therefore, a portion of the Company's valuation allowance was released. The Company still believes that it is more likely than not that it will realize a portion of its deferred tax assets. However, significant increases in mortgage lending interest rates during the nine months ended September 30, 2013 have caused a decrease in the volume of appraisals completed by StreetLinks. As a result, the Company reassessed the amount of deferred tax assets ultimately expected to be realized. This reassessment concluded with an increase in the valuation allowance against its deferred tax assets of approximately $27.6 million during the second quarter of 2013, bringing the Company's net deferred tax asset to $35.5 million as of September 30, 2013 as compared to $63.1 million as of December 31, 2012. The Company's determination of the realizable deferred tax assets requires the exercise of significant judgment, based in part on business plans and expectations about future outcomes. In the event the actual results differ from these estimates in future periods, the Company may need to adjust the valuation allowance, which could materially impact our financial position and results of operations. The Company will continue to assess the need for a valuation allowance in future periods. As of September 30, 2013 and December 31, 2012, the Company maintained a valuation allowance of $247.7 million and $219.7 million, respectively, for its deferred tax assets.

As of September 30, 2013 and December 31, 2012, the total gross amount of unrecognized tax benefits was $0.7 million and $1.1 million, respectively. These amounts also represent the total amount of unrecognized tax benefits that would impact the effective tax rate in the respective periods. During the three months ended September 30, 2013, the Company released approximately $0.4 million of the unrecognized tax benefits due to the lapse of the statute of limitations. The Company anticipates an additional reduction of the unrecognized tax benefits in the amount of $0.6 million due to the lapse of statute of limitations in the next twelve months.

Note 14. Segment Reporting

As discussed in Note 3, effective February 27, 2013, the Company committed to a plan to abandon the operations of Mango, which comprised the Company's entire Logistics segment. As a result, the operating results of Mango and any related eliminations have been included in Discontinued Operations within the tables below.

The Company reviews, manages and operates its business in three segments: Corporate, Appraisal Management, and Financial Intermediary. Corporate operating results include mortgage securities retained from securitizations, corporate general and administrative expenses, and the operating results of CorvisaCloud, as these results are not material for any of the periods presented. Appraisal Management operations include the service fee income and related expenses from the Company's majority-owned subsidiary, StreetLinks. The Financial Intermediary segment consists of the financial settlement service fee income and related expenses from a wholly-owned subsidiary of the Company, Advent. Management evaluates segment performance based on income before income taxes, which is prior to the allocation of losses attributable to the noncontrolling interests.

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The following is a summary of the operating results of the Company's segments for the nine months ended September 30, 2013 and 2012 and a summary of their financial positions as of September 30, 2013 and December 31, 2012 (dollars in thousands):



	Corporate			Appraisal Management		Financial Intermediary			Eliminations			Discontinued Operations (C)		Total
For the Nine Months Ended September 30, 2013
Service fee income	$	7,196		$	116,695	$	8,261		$	(6,465	)	$	—	$	125,687
Interest income	4,094			—		—			(327		)	—		3,767
Interest expense	2,393			28		309			(327		)	—		2,403
Depreciation and amortization expense (A)	677			1,560		269			—			382		2,888
(Loss) income from continuing operations before income tax expense	(5,372		)	6,915		(1,152		)	(229		)	—		162
Additions to long-lived (D)	2,252			236		357			—			10		2,855

As of September 30, 2013
Total assets (B)	$	63,972		$	18,403	$	3,717		$	(9,800	)	$	—	$	76,292


(A)	Amounts related to continuing operations are included in the cost of services and selling, general and administrative expense line items of the condensed consolidated statements of operations, while amounts related to discontinued operations are included in the (loss) income from discontinued operations, net of income taxes.


(B)	Appraisal Management segment includes goodwill of $3.2 million resulting from the acquisition of StreetLinks.


(C)	See Note 3 for additional information regarding the financial position and operating results of discontinued operations.


(D)	Amount includes assets acquired under capital leases.



	Corporate			Appraisal Management		Financial Intermediary			Eliminations			Discontinued Operations (C)		Total
For the Nine Months Ended September 30, 2012
Service fee income	$	6,428		$	128,570	$	9,124		$	(6,439	)	$	—	$	137,683
Interest income	4,731			—		—			(708		)	—		4,023
Interest expense	2,330			28		680			(708		)	—		2,330
Depreciation and amortization expense (A)	246			1,392		72			—			807		2,517
(Loss) income from continuing operations before income tax benefit	(1,826		)	4,191		(1,587		)	(908		)	—		(130		)
Additions to long-lived assets	655			947		185			—			338		2,125

As of December 31, 2012
Total assets (B)	$	93,097		$	22,772	$	2,349		$	(12,331	)	$	857	$	106,744


(A)	Amounts related to continuing operations are included in the cost of services and selling, general and administrative expense line items of the condensed consolidated statements of operations, while amounts related to discontinued operations are included in the (loss) income from discontinued operations, net of income taxes.


(B)	Appraisal Management segment includes goodwill of $3.2 million resulting from the acquisition of StreetLinks.


(C)	See Note 3 for additional information regarding the financial position and operating results of discontinued operations.

The intersegment service fee income for the nine months ended September 30, 2012 consists of a guaranty fee of approximately $1.0 million paid by the Financial Intermediary segment to the Corporate segment for Corporate's guarantee of the Financial Intermediary segment's performance under its contract with its banking partner. It also includes fees charged by the Corporate segment to the Appraisal Management, Financial Intermediary, and Logistics segments for operational support provided by the Corporate segment's employees. The intersegment interest income and interest expense consists of interest charged by the Corporate segment to the Appraisal Management, Financial Intermediary, and Logistics segments for borrowings.

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The following is a summary of the operating results of the Company's segments for the three months ended September 30, 2013 and 2012 (dollars in thousands):



	Corporate			Appraisal Management		Financial Intermediary			Eliminations			Discontinued Operations (B)		Total
For the Three Months Ended September 30, 2013
Service fee income	$	2,744		$	32,385	$	170		$	(2,292	)	$	—	$	33,007
Interest income	1,369			—		—			(7		)	—		1,362
Interest expense	810			9		1			(7		)	—		813
Depreciation and amortization expense (A)	264			505		142			—			—		911
(Loss) income from continuing operations before income tax expense	(2,216		)	1,297		(1,785		)	—			—		(2,704		)
Additions to long-lived assets (C)	675			90		195			—			—		960


(A)	Amounts related to continuing operations are included in the cost of services and selling, general and administrative expense line items of the condensed consolidated statements of operations, while amounts related to discontinued operations are included in the (loss) income from discontinued operations, net of income taxes.


(B)	See Note 3 for additional information regarding the financial position and operating results of discontinued operations.


(C)	Amount includes assets acquired under capital leases.



	Corporate			Appraisal Management		Financial Intermediary			Eliminations			Discontinued Operations (B)		Total
For the Three Months Ended September 30, 2012
Service fee income	$	2,095		$	44,041	$	117		$	(2,095	)	$	—	$	44,158
Interest income	995			—		—			(217		)	—		778
Interest expense	795			9		208			(217		)	—		795
Depreciation and amortization expense (A)	110			471		25			—			642		1,248
(Loss) income from continuing operations before income tax expense	(1,239		)	1,081		(2,023		)	(374		)	—		(2,555		)
Additions to long-lived assets	108			397		112			—			199		816


(A)	Amounts related to continuing operations are included in the cost of services and selling, general and administrative expense line items of the condensed consolidated statements of operations, while amounts related to discontinued operations are included in the (loss) income from discontinued operations, net of income taxes.


(B)	See Note 3 for additional information regarding the financial position and operating results of discontinued operations.

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Note 15. Earnings per Share

Basic earnings per share is computed by dividing net earnings available to common shareholders by the weighted average number of shares of common stock outstanding during the period. Diluted earnings per share include the effect of conversions of stock options and nonvested shares. The Company used the treasury method to calculate earnings per share for all periods presented. The computations of basic and diluted earnings per share for the nine and three months ended September 30, 2013 and 2012 (dollars in thousands, except share and per share amounts) are as follows:



	For the Nine Months Ended September 30,						For the Three Months Ended September 30,
	2013			2012			2013			2012
Numerator:
Net (loss) income from continuing operations	$	(27,127	)	$	63,419		$	(2,327	)	$	(2,113	)
(Loss) income from discontinued operations	(1,064		)	(2,377		)	50			(1,207		)
Net (loss) income	(28,191		)	61,042			(2,277		)	(3,320		)
Less loss attributable to noncontrolling interests	(165		)	(1,508		)	(88		)	(1,114		)
(Loss) income available to common shareholders	$	(28,026	)	$	62,550		$	(2,189	)	$	(2,206	)

Denominator:
Weighted average common shares outstanding – basic	90,745,504			90,530,738			90,801,716			90,651,716

Weighted average common shares outstanding – dilutive:
Weighted average common shares outstanding – basic	90,745,504			90,530,738			90,801,716			90,651,716
Stock options	—			548,468			—			451,548
Nonvested shares	—			355,776			—			224,294
Weighted average common shares outstanding – dilutive	90,745,504			91,434,982			90,801,716			91,327,558

Basic earnings per share:
Net (loss) income from continuing operations	$	(0.30	)	$	0.70		$	(0.03	)	$	(0.02	)
Loss from discontinued operations	(0.01		)	(0.03		)	—			(0.01		)
Net (loss) income	(0.31		)	0.67			(0.03		)	(0.03		)
Less loss attributable to noncontrolling interests	—			(0.02		)	(0.01		)	(0.01		)
Net (loss) income available to common shareholders	$	(0.31	)	$	0.69		$	(0.02	)	$	(0.02	)

Diluted earnings per share:
Net (loss) income from continuing operations	$	(0.30	)	$	0.69		$	(0.03	)	$	(0.02	)
Loss from discontinued operations	(0.01		)	(0.02		)	—			(0.01		)
Net (loss) income	(0.31		)	0.67			(0.03		)	(0.03		)
Less loss attributable to noncontrolling interests	—			(0.01		)	(0.01		)	(0.01		)
Net (loss) income available to common shareholders	$	(0.31	)	$	0.68		$	(0.02	)	$	(0.02	)

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The following weighted-average stock options to purchase shares of Common Stock were outstanding during each period presented, but were not included in the computation of diluted earnings per share because the number of shares assumed to be repurchased, as calculated was greater than the number of shares to be obtained upon exercise, therefore, the effect would be antidilutive (in thousands, except exercise prices):



	For the Nine Months Ended September 30,				For the Three Months Ended September 30,
	2013		2012		2013		2012
Number of stock options	8,435		6,877		8,578		7,384
Weighted average exercise price of stock options	$	0.69	$	0.77	$	0.68	$	0.76

During the nine months ended September 30, 2013, the Company granted 0.6 million options to purchase shares of Common Stock at a weighted average exercise price of $0.53. The weighted average impact of 0.4 million and 0.6 million shares are included in the table above for the nine and three months ended September 30, 2013, respectively. There were no options granted during the three months ended September 30, 2013.

The Company granted approximately 6.9 million options during the nine months ended September 30, 2012 at a weighted average exercise price of $0.77. Of this 6.9 million, approximately 5.3 million related to a non-discretionary anti-dilution provision adjustment to preserve the benefits and potential benefits of grants issued prior to the recapitalization of the Company's preferred stock during 2011. These options maintained the original exercise prices and vesting terms of the respective initial grants. The weighted average impact of 5.9 million and 6.4 million shares are included in the table above for the nine and three months ended September 30, 2012, respectively. There were no options granted during the three months ended September 30, 2012.

The Company had approximately 0.6 million and 0.8 million nonvested shares outstanding as of September 30, 2013 and September 30, 2012, respectively, which have original cliff vesting schedules ranging between five and ten years. Of these, the weighted average impact of approximately 0.7 million shares were not included in the calculation of earnings per share for the nine and three months ended September 30, 2013, while 0.6 million nonvested shares were not included in the calculation of earnings per share for the nine and three months ended September 30, 2012, because they were anti-dilutive.

Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations

Forward-Looking Statements

Statements in this report regarding Novation Companies, Inc. and its business, that are not historical facts are “forward-looking statements” within the meaning of Section 21E of the Securities Exchange Act of 1934, as amended. Forward-looking statements are those that predict or describe future events, do not relate solely to historical matters and include statements regarding management's beliefs, estimates, projections, and assumptions with respect to, among other things, our future operations, business plans and strategies, as well as industry and market conditions, all of which are subject to change at any time without notice. Words such as "believe," "expect," "anticipate," "promise," "plan," and other expressions or words of similar meanings, as well as future or conditional auxiliary verbs such as "would," "should," "could," or "may" are generally intended to identify forward-looking statements. Actual results and operations for any future period may vary materially from those discussed herein. Some important factors that could cause actual results to differ materially from those anticipated include: our ability to manage our business; variability in the home mortgage or refinancing market that affects the demand for real estate appraisal services; changes in the regulatory environments within which our subsidiaries operate; our ability to develop new relationships and maintain existing relationships with both customers and business partners; decreases in cash flows from our mortgage securities; our ability to remain in compliance with the agreements governing our indebtedness; the outcome of litigation actions pending against us or other legal contingencies; our compliance with applicable local, state and federal laws and regulations; compliance with new accounting pronouncements; the impact of general economic conditions; and the risks that are from time to time included in our filings with the Securities and Exchange Commission (“SEC”), including the Company's most recent Annual Report on Form 10-K and this report on Form 10-Q. Other factors not presently identified may also cause actual results to differ. This report on Form 10-Q speaks only as of its date and we expressly disclaim any duty to update the information herein except as required by applicable law.

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Executive Overview

The following Management's Discussion and Analysis of Financial Condition and Operating Results (“MD&A”)

should be read in conjunction with the preceding unaudited condensed consolidated financial statements of Novation Companies, Inc. and its subsidiaries (the “Company,” ”Novation,” “NCI,” “we” or “us”) and the notes thereto as well as the Company's Annual Report on Form 10-K for the year ended December 31, 2012. MD&A includes the following sections:


•	Corporate Overview, Background and Strategy – a brief overview of our business, current strategy, and significant recent events.


•	Critical Accounting Policies – an update, since December 31, 2012, of our discussion of accounting policies that impact our financial statements and involve a high degree of judgment or complexity. This section also includes the impact of new accounting standards.


•	Consolidated Results of Operations – an analysis of our results of operations for the nine and three months ended September 30, 2013 as presented in our unaudited Condensed Consolidated Financial Statements.


•	Segment Results of Operations – an analysis of our results of operations for the nine and three months ended September 30, 2013 as presented in our unaudited Condensed Consolidated Financial Statements for our reporting segments.


•	Liquidity and Capital Resources – an analysis of our cash flows and financial commitments.

Corporate Overview, Background and Strategy

Our Business

We are a Maryland corporation formed on September 13, 1996. We own 91% of StreetLinks LLC (“StreetLinks”), a national residential appraisal and real estate valuation management company. StreetLinks has three primary product lines:


•	Lender Plus, the core appraisal management service, for which StreetLinks manages the full appraisal process for lenders;


•	LenderX, the technology solution that facilitates lenders managing their own appraisal process; and


•	StreetLinks QX, introduced in the fourth quarter of 2012, an automated appraisal risk management product.

StreetLinks is working to increase its customer base, capture a larger percentage of current customers' business and bring new, innovative products to market.

We own 100% of Advent Financial Services LLC (“Advent”). Advent provides financial settlement services for income tax preparation businesses and access to tailored banking accounts and related services via its prepaid debit card, which is designed to meet the needs of low and moderate-income level individuals. Advent is not a bank but acts as an intermediary for banking products on behalf of other banking institutions.

The primary distribution channel for Advent is by way of settlement services to electronic income tax return originators. Advent provides a process for the originators to collect refunds and other payments from the Internal Revenue Service, distribute fees to various service providers and deliver the net refund to individuals. Individuals may elect to have the net refund deposited to an Advent-issued prepaid debit card. Individuals also have the option to have the net refund paid by check or deposited to an existing bank account. Regardless of the settlement method, Advent receives a fee from the originator for providing the settlement service.

If the refund is deposited to the prepaid debit card offered by Advent, Advent earns fee income related to the usage of the prepaid card. Advent is working to increase its number of independent tax preparation customers and encourage individuals to reload their prepaid debit card after tax time, as the reload and subsequent usage of the prepaid card generates additional fee income for Advent.

In October of 2012, we acquired 85% of IVR Central, LLC, a call center technology company. Subsequent to the acquisition, the name was changed to CorvisaCloud LLC. Primary products of CorvisaCloud include interactive voice response, automated call distribution, call dialing and call recording using cloud technology. CorvisaCloud also provides a full call center replacement offering, which allows for the elimination of legacy on-premise phone systems and includes integration to multiple leading Customer Relation Management and cloud-based sales and operation management systems. The call center solution is fully web-based, hosted in the cloud and highly scalable.

Prior to 2008, the Company originated, purchased, securitized, sold, invested in and serviced residential nonconforming mortgage loans and mortgage securities. As a result of those activities, we acquired and continue to own mortgage securities that continue to be a source of our earnings and cash flow.

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The Company's condensed consolidated financial statements as of September 30, 2013 and for the nine and three months ended September 30, 2013 and 2012 are unaudited. In the opinion of management, all necessary adjustments have been made, which were of a normal and recurring nature, for a fair presentation of the condensed consolidated financial statements.

Our Strategy

Management is focused on building its operating subsidiaries with a focus on long term value creation. Given the early-stage nature of many of these businesses they may not contribute to quarterly earnings for some time but we believe they represent solid investments with the opportunity for future earnings and equity value creation that will benefit shareholders.

The key performance measures for executive management are:


•	generating income and long-term value for our shareholders, and


•	maintaining and/or generating adequate liquidity to sustain us and allow us to take advantage of acquisition opportunities.

The following key performance metrics are derived from our condensed consolidated financial statements for the periods presented and should be read in conjunction with the more detailed information therein and with the disclosure included in this report under the heading “Management's Discussion and Analysis of Financial Condition and Results of Operations.”

Table 1 – Summary of Financial Highlights and Key Performance Metrics (dollars in thousands; except per share amounts)



	For the Nine Months Ended September 30,
	2013			2012
Net (loss) income available to common shareholders per diluted share	$	(0.31	)	$	0.68

	As of
	September 30, 2013			December 31, 2012
Unrestricted cash and cash equivalents	$	17,442		$	16,362

Critical Accounting Policies

In our Annual Report on Form 10-K for the year ended December 31, 2012, we disclose critical accounting policies that require management to use significant judgment or that require significant estimates. Management regularly reviews the selection and application of our critical accounting policies. There have been no updates to the critical accounting policies contained in our Annual Report on Form 10-K for the year ended December 31, 2012.

Impact of Recently Issued Accounting Pronouncements

In July 2012, the FASB issued ASU 2012-02, Intangibles—Goodwill and Other (Topic 350): Testing Indefinite-Lived Intangible Assets for Impairment, which amends the guidance in ASC 350-30 on testing indefinite-lived intangible assets, other than goodwill, for impairment. The FASB issued the ASU in response to feedback on ASU 2011-08, which amended the goodwill impairment testing requirements by allowing an entity to perform a qualitative impairment assessment before proceeding to the two-step impairment test. Similarly, under ASU 2012-02, an entity testing an indefinite-lived intangible asset for impairment has the option of performing a qualitative assessment before calculating the fair value of the asset. Although ASU 2012-02 revises the examples of events and circumstances that an entity should consider in interim periods, it does not revise the requirements to test (1) indefinite-lived intangible assets annually for impairment and (2) between annual tests if there is a change in events or circumstances. This guidance is effective for annual and interim impairment tests performed for fiscal years beginning after September 15, 2012, and is not expected to have a material impact on the Company's consolidated financial statements.

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other comprehensive income (AOCI). This guidance is effective for fiscal years, and interim periods within those years, beginning after December 15, 2012, and did not have a significant impact on the Company's financial statements.

Consolidated Results of Operations

Service Fee Income and Cost of Services

See discussion within the Segment Results of Operations section below.

Interest Income – Mortgage Securities

Interest income on the mortgage securities we own was materially consistent year over year, with the Company recognizing approximately $3.8 million during the nine months ended September 30, 2013 compared to $4.0 million during the nine months ended September 30, 2012. For the three months ended September 30, 2013, interest income on these securities increased to $1.4 million, up from $0.8 million during the three months ended September 30, 2012. This increase was due primarily to lower than anticipated losses on the underlying loan collateral, which led certain securities to begin cash-flowing during the current year period after extended periods of inactivity. Management does not expect this trend to continue for the foreseeable future. Instead, the Company would expect interest income and cash flow from these securities to decline as the principal on the underlying loan collateral is paid or written down or off.

Selling, General and Administrative

On a consolidated basis, selling, general and administrative expenses were approximately $25.6 million for the nine months ended September 30, 2013, compared to $21.3 million for the nine months ended September 30, 2012. For the three months ended September 30, 2013, selling, general and administrative expenses totaled $8.1 million compared to $7.1 million for the three months ended September 30, 2012. The increase in all periods was driven primarily by increased compensation-related expenses within the Company's Corporate segment due to growth in the workforce of the Company's IT, marketing, and human resources support functions and the acquisition of CorvisaCloud. Also driving this increase from the prior year to date period is an increase in telecommunications and data services, software licenses and depreciation expense due largely to hardware, computer equipment, and software additions as the Company continues to invest in technology to support the expected growth of its operating subsidiaries.

Other Income (Expense)

Other income (expense) during the nine months ended September 30, 2013 was income of approximately $1.8 million versus expense of approximately $0.1 million during the nine months ended September 30, 2012. The activity in this line item for the year to date period relates primarily to the recovery of the note receivable due from ITS Financial, LLC (“ITS”) coupled with the fair value adjustments for the Corvisa contingent consideration obligation. See Note 6 to the condensed consolidated financial statements for additional information regarding the facts and circumstances surrounding the note receivable due from ITS and Note 10 for additional information regarding the circumstances leading to the downward adjustment of the fair value of the contingent consideration obligation.

Interest Expense

Interest expense was materially consistent year over year, with the Company incurring approximately $2.4 million and $2.3 million for the nine months ended September 30, 2013 and 2012, respectively, and $0.8 million for the three months ended September 30, 2013 and 2012. See Note 9 to the condensed consolidated financial statements for additional information regarding the Company's borrowings.

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Income Tax Provision

During the nine months ended September 30, 2013, the Company recorded income tax expense of approximately $27.3 million compared to a benefit of $63.5 million during the nine months ended September 30, 2012. Significant increases in mortgage lending interest rates during the three months ended September 30, 2013 have caused a decrease in the volume of appraisals completed by StreetLinks and is expected to have a negative impact on earnings. As a result, the Company reassessed the amount of deferred tax assets ultimately expected to be realized. The reassessment concluded with an increase in the valuation allowance against its deferred tax assets of approximately $27.6 million. The increase in the valuation allowance was offset slightly by the release of approximately $0.4 million of unrecognized tax benefits due to the lapse of the statute of limitations. The income tax benefit for the nine months ended September 30, 2012 related entirely to the release of a portion of the valuation allowance against its deferred tax assets. See Note 13 to the condensed consolidated financial statements for further details regarding the Company's income tax provision and deferred tax assets.

Segment Results of Operations

Appraisal Management

We manage the process of residential home appraisals for our customers, generally residential mortgage lenders. We earn fees when our service is completed and the appraisal is delivered to our customer. We also provide transaction-based technology services for mortgage lenders to manage their own appraisal process and other valuation services, such as automated appraisal risk management products. Fee revenue is directly related to the number of completed orders or transactions and product mix. Cost of services includes the direct cost of the appraisal or other service, when applicable, which is paid to an independent party, and the internal costs directly associated with completing the appraisal order. The internal costs include compensation and benefits, office administration, depreciation of equipment used in, and other expenses necessary to the production process.

Following is an analysis of the results of operations from the Appraisal Management segment.

Table 2 – Appraisal Management Segment Operations (dollars in thousands, except unit amounts)



	For the Nine Months Ended September 30,									For the Three Months Ended September 30,
	2013				2012					2013				2012
	Total		%		Total			%		Total		%		Total			%
Service fee income:
Full service appraisal management	$	114,101	97.8	%	$	127,424		99.1	%	$	31,592	97.6	%	$	43,597		99.0	%
Other valuation services and transactions	1,238		1.1		1,146			0.9		384		1.2		444			1.0
Automated examination and valuation services	1,356		1.2		—			—		409		1.3		—			—
Total service fee income	116,695		100.0		128,570			100.0		32,385		100.0		44,041			100.0

Cost of services	101,075		86.6		115,586			89.9		28,473		87.9		39,872			90.5
Selling, general and administrative expense and other	9,429		8.1		8,762			6.8		2,866		8.8		3,053			6.8
Total expenses	110,504		94.7		124,348			96.7		31,339		96.8		42,925			97.4

Other income (expense), net	724		0.6		(31		)	—		251		0.8		(35		)	—

Net income before income taxes	$	6,915	5.9	%	$	4,191		3.3	%	$	1,297	4.0	%	$	1,081		2.5	%

Completed orders:
Full service appraisal management	282,774				335,235					78,936				116,357
Other valuation services and transactions	72,573				61,399					21,830				23,397
Automated examination and valuation services	90,297				—					26,367				—

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Service Fee Income

Service fee income in the Appraisal Management segment decreased to $116.7 million during the nine months ended September 30, 2013 from $128.6 million during the nine months ended September 30, 2012. For the three months ended September 30, 2013, service fee income decreased to $32.4 million from $44.0 million for the three months ended September 30, 2012.

The decrease in service fee income for the full service appraisal management product line for the nine and three months ended September 30, 2013 was directly attributable to the decline in completed order volume for all periods. Completed order volume was impacted by rising mortgage rates throughout the nine months ended September 30, 2013 when compared to the nine months ended September 30, 2012. The decline in completed order volume was offset to some extent by significant increases in per unit revenues for full service appraisal management orders. The decline in service fee income for the full service appraisal management product line for the nine and three months ended September 30, 2013 was further offset by the additional revenue generated by the Company's new automated examination and valuation product line during these periods. As this product line was introduced during the fourth quarter of 2012, there were no comparable revenues for the nine and three months ended September 30, 2012.

Cost of Services

Cost of services totaled $101.1 million for the nine months ended September 30, 2013 compared to $115.6 million for the same period in 2012. These costs declined from $39.9 million for the three months ended September 30, 2012 to $28.5 million for the nine months ended September 30, 2013. The decreases in all periods are attributable to declines in direct costs to appraisers as the completed order volume has declined. Further, as the volume declines, the Company reduces related production costs, primarily compensation-related costs.

Selling, General and Administrative

Selling, general and administrative expenses increased to $9.4 million from $8.8 million for the nine months ended September 30, 2013 and 2012, respectively, and decreased slightly to $2.9 million from $3.1 million for the three months ended September 30, 2013 and 2012. This increase for the year to date period is primarily attributable to an increase in IT support, as the Company continues to develop, maintain and expand its IT infrastructure and support staff to accommodate new and existing customers and product lines.

Other Income (Expense)

Other income (expense) for the nine and three months ended September 30, 2013 is comprised primarily of the fair value adjustment for the Corvisa contingent consideration obligation. For additional information regarding the circumstances leading to the downward adjustment of the fair value of this obligation, see Note 10 to the condensed consolidated financial statements.

Financial Intermediary

We earn fees for providing financial settlement services for income tax preparation businesses and consumers. Settlement services are facilitated through arrangements we have made with other independent financial service providers, including our bank partners and data exchange managers. Settlement services consist mainly of collecting income tax refunds on behalf of our customers, distributing fees to independent service providers and delivering the refund, net of fees, to the individual taxpayer. As the majority of our business is directly related to income tax refunds, a significant portion of the financial intermediary's operations occur during the first quarter of each year.

Although we are not a bank, we provide access to tailored banking accounts and related services via our prepaid debit card designed to meet the needs of low and moderate-income level individuals. We earn additional service fee income based on the customers' account activity. Cost of Services includes the direct cost related to providing services, which includes fees to third-party vendors performing services on our behalf. Additionally, internal costs directly associated with completing our services are included in Cost of Services. The internal costs include compensation and benefits of employees, office administration, depreciation of equipment used in the production process, and other expenses necessary to complete services performed.

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Following is an analysis of the results of operations from the Financial Intermediary segment.

Table 3 – Financial Intermediary Segment Operations (dollars in thousands, except unit amounts)



	For the Nine Months Ended September 30,										For the Three Months Ended September 30,
	2013					2012					2013					2012
	Total			%		Total			%		Total			%		Total			%
Service fee income:
Settlement	$	6,920		83.8	%	$	8,109		88.9	%	$	138		81.2	%	$	35		29.9	%
Bank account distribution	1,341			16.2		1,015			11.1		32			18.8		82			70.1
Total service fee income	8,261			100.0		9,124			100.0		170			100.0		117			100.0
																			—
Cost of services	5,598			67.8		5,696			62.4		731			430.0		816			697.4
Selling, general and administrative expense	3,594			43.5		3,323			36.4		1,196			703.5		1,116			953.8
Guaranty fees - NCI	—			—		1,012			11.1		—			—		—			—
Total expenses	9,192			111.3		10,031			109.9		1,927			1,133.5		1,932			—

Other income (expense), net	88			1.1		—			—		(27		)	(15.9	)	—			—
Interest expense - NCI	(309		)	(3.6	)	(680		)	(7.5	)	(1		)	(0.6	)	(208		)	(177.8	)

Net income (loss) before income taxes	$	(1,152	)	(13.9	)%	$	(1,587	)	(17.4	)%	$	(1,785	)	(1,050.0	)%	$	(2,023	)	(1,729.1	)%

Settlements of federal income tax refunds (A)	446,480					573,408					9,521					4,241
Bank accounts enrolled (B)	75,455					45,143					2,394					2,863


(A)	Advent processes both federal and state income tax refunds. However, many taxpayers have no state refund and others may have more than one state tax refund. For this analysis, the number of state refunds have not been included. The number of federal income tax refunds generally represents the number of individual taxpayers using Advent services.


(B)	Includes all accounts opened regardless of whether the account was used and/or generated fees.

Service Fee Income

The decrease in service fee income in the Financial Intermediary segment from $9.1 million for the nine months ended September 30, 2012 to $8.3 million for the nine months ended September 30, 2013 is due to a significant decrease in the number of settlements offset slightly by the increase in the number of prepaid card enrollments. The decrease in the volume of settlements is due in large part to the loss of a significant electronic return originator (ERO) partner from the 2012 tax season. In addition, feedback from our returning ERO partners would also indicate a slight decline in their year over year return volume as well as settlement product take rate when compared to the nine months ended September 30, 2012. Lastly, the delay in the start of the electronic filing season, as well as unpredictable and relatively slow funding cycles from the IRS have spread out traditional filing and funding periods.

Service fee income for the three months ended September 30, 2013 and 2012 was not significant.

Cost of Services

Despite the significant decline in settlement fee income, costs of services remained materially consistent at $5.6 million and $5.7 million for the nine months ended September 30, 2013 and 2012, respectively. This is due primarily to decreased settlement volume offset almost entirely by increases in IT, software licenses, and depreciation expense due largely to the Company's continued efforts to develop, maintain and expand its operating platform and IT infrastructure to accommodate new and existing ERO and software partners and prepare for the 2014 tax season.

Cost of services totaled $0.7 million for the three months ended September 30, 2013, which was materially consistent with the $0.8 million experienced during the three months ended September 30, 2012.

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Selling, General and Administrative

Selling, general and administrative expenses primarily include costs to administer settlement programs, including compensation and related expenses for non-production staff, professional service fees, and IT support costs. For the nine months ended September 30, 2013, selling, general and administrative expenses increased slightly to $3.6 million from $3.3 million for the nine months ended September 30, 2012. This increase was driven primarily by an increase in IT and administrative support costs offset slightly by a decline in professional service fees.

Selling, general and administrative expenses were materially consistent for the three months ended September 30, 2013 when compared to the same periods in 2012.

Guarantee Fees and Interest Expense

During the nine months ended September 30, 2012, NCI charged a guaranty fee of approximately $1.0 million to the Financial Intermediary segment for NCI's guarantee of Advent's performance under its contract with its settlement services banking partner. No such amount was charged for the nine months ended September 30, 2013. Interest expense was charged on all amounts borrowed from NCI.

The decline in interest expense for all periods presented was due to the forgiveness of Advent's intercompany debt obligations during the second quarter of 2013 in exchange for the remaining noncontrolling ownership interests. See Note 4 to the condensed consolidated financial statements for additional discussion regarding this transaction.

Liquidity and Capital Resources

As of September 30, 2013, we had approximately $17.4 million in unrestricted cash and cash equivalents and $2.1 million of restricted cash, $1.1 million of which is included in the restricted cash line item of the condensed consolidated balance sheets and $1.0 million is included in the other noncurrent assets line item.

Our current projections indicate that sufficient cash and cash flows are and will be available to meet payment needs. However, our mortgage securities cash flows are volatile and uncertain, and the amounts we receive could vary materially from our projections though we believe that the increased cash flows from operations will offset any reduction in our mortgage securities cash flows. As discussed under the heading “Item 1. Legal Proceedings” of Part II of this report, we are the subject of various legal proceedings, the outcomes of which are uncertain. We may also face demands in the future that are unknown to us today related to our legacy lending and servicing operations. However, management believes that its current operations and its cash availability are sufficient for the Company to discharge its liabilities and meet its commitments in the normal course of business.

The indentures governing the Senior Notes (the “Indentures”) contain restrictive covenants (the “Negative Covenants”) subject to exceptions in the Indentures, including written consent of the holders of the Senior Notes. The Negative Covenants prohibit NCI and its subsidiaries, from among other things, incurring debt, permitting any lien upon any of its property or assets, making any cash dividend or distribution or liquidation payment, acquiring our shares or equity in our subsidiaries, making payment on our debt securities that rank pari passu or junior to the Senior Notes, or disposing of any equity interest in our subsidiaries or all or substantially all of the assets of our subsidiaries. The Senior Notes accrue interest at a rate of 1.0% until the earlier of (a) the completion of an equity offering by NCI or our subsidiaries that results in proceeds of $40 million or more or (b) January 1, 2016. Thereafter, the Senior Notes will accrue interest at a rate of three-month LIBOR plus 3.5% (the “Full Rate”). Interest on the Senior Notes is paid on a quarterly basis and no principal payments are due until maturity on March 30, 2033. The Negative Covenants remain in effect until both of the following conditions are met: 1) the Senior Notes begin accruing interest at the Full Rate, and 2) the Company satisfies certain financial covenants (the “Financial Covenants”). Satisfaction of the Financial Covenants requires the Company to demonstrate on a consolidated basis that (1) its Tangible Net Worth is equal to or greater than $40 million, and (2) either (a) the Interest Coverage Ratio is equal to or greater than 1.35x, or (b) the Leverage Ratio is not greater than 95%. As the Senior Notes were not accruing interest at the Full Rate, the Negative Covenants, as defined above, were still in effect as of September 30, 2013 and December 31, 2012. As such, the Company was under no obligation to comply with the Financial Covenants during these periods.

There have been no significant changes to the Company's contractual obligations as presented in the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 2012.

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Overview of Cash Flow for the Nine Months Ended September 30, 2013

The following table provides a summary of our operating, investing and financing cash flows as taken from our condensed consolidated statements of cash flows for the nine months ended September 30, 2013 and 2012.

Table 5 – Summary of Operating, Investing and Financing Cash Flows (dollars in thousands)



	For the Nine Months Ended September 30,
	2013			2012
Consolidated Statements of Cash Flows:
Cash provided by operating activities	$	2,870		$	7,703
Cash flows (used in) provided by investing activities	(278		)	1,813
Cash flows used in financing activities	(1,512		)	(874		)

Operating Activities

Cash provided by operating activities decreased to $2.9 million during the nine months ended September 30, 2013 from $7.7 million over the same period in 2012. This decline is driven almost entirely by changes in the volume of customer/provider receipts/payments when comparing the nine months ended September 30, 2013 to the nine months ended September 30, 2012, which can be attributed to trends in completed order volume during these periods. The remaining decrease is due primarily to the receipt of a large income tax refund during the nine months ended September 30, 2012, with no corresponding refund received in 2013.

Investing Activities

The decrease in the net cash flows provided by investing activities is due primarily to declines in the proceeds from paydowns of notes receivable, which is a function of the timing and terms of the underlying notes receivable.

Financing Activities

The increase in cash flows used in financing activities when comparing the nine months ended September 30, 2013 and 2012 is due to an increase in the distributions of excess capital, as determined in accordance with the StreetLinks operating agreement, to noncontrolling members of StreetLinks. The additional distributions of excess capital are simply a function of the increase in StreetLinks' earnings year over year. Further contributing to the increase in cash flows used in financing activities is a reduction in contributions from noncontrolling interests as a result of the dissolution of Mango during the first quarter of 2013.

Item 3. Quantitative and Qualitative Disclosures About Market Risk

As a smaller reporting company, we are not required to provide the information required by this Item.

Item 4. Controls and Procedures

Disclosure Controls and Procedures

The Company maintains a system of disclosure controls and procedures that are designed to ensure that information required to be disclosed by the Company in reports that it files or submits under the federal securities laws, including this report, is recorded, processed, summarized and reported, within the time periods specified in the applicable rules and forms, and that it is accumulated and communicated to our management, including our principal executive officer and principal financial officer, as appropriate to allow timely decisions regarding required disclosure.

The Company's principal executive officer and principal financial officer evaluated the Company's disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e) as of the end of the period covered by this report and concluded that the Company's disclosure controls and procedures were not effective because of the material weakness in our internal control over financial reporting described below.

Management's Plan for Remediation of Material Weakness

The Company identified a material weakness in its internal control over financial reporting during the second quarter of 2013 related to the evaluation and adjustment of the Company's deferred tax assets and related valuation allowance. Because of the significant size of the Company's deferred tax assets, the long period over which these assets may be used, and the manner in which it is calculated, relatively small changes in inputs used in the assessment result in material changes in the amount at which the valuation allowance related to the Company's deferred tax assets is ultimately recorded.

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The Company has procedures in place to ensure the accuracy of the inputs and the output for this computation. However, these procedures did not detect an input error that resulted in a material error in the final determination of the deferred tax asset and related valuation allowance. The material error was corrected prior to filing the second quarter reports under federal securities laws.

To remediate this material weakness, the Company designed and implemented additional controls over the schedules that support the inputs and detailed calculations used in the Company's assessment of its deferred tax assets during the third quarter of 2013. These controls include additional layers of review of the detailed financial models, schedules and other calculations supporting the recorded deferred tax asset. In addition to the remedial measures taken with regard to the design of controls, the Company has concluded, through testing, that the additional controls are operating effectively. As the additional controls were deemed to be appropriately designed and implemented and were operating effectively as of September 30, 2013, the Company considers the material weakness to be remediated as of September 30, 2013.

Changes in Internal Control over Financial Reporting

Except as discussed in paragraph three of Management's Plan for Remediation of Material Weakness above, there were no other changes in our internal controls over financial reporting during the three months ended September 30, 2013 that have materially affected, or are reasonably likely to materially affect, our internal controls over financial reporting.

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PART II. OTHER INFORMATION

Item 1. Legal Proceedings

Pending Litigation.

The Company is a party to various legal proceedings. Except as set forth below, these proceedings are of an ordinary and routine nature.

Although it is not possible to predict the outcome of any legal proceeding, in the opinion of management, other than the active proceedings described in detail below, proceedings and actions against the Company should not, individually, or in the aggregate, have a material effect on the Company's financial condition, operations and liquidity. Furthermore, due to the uncertainty of any potential loss as a result of pending litigation and due to the Company's belief that an adverse ruling is not probable, the Company has not accrued a loss contingency related to the following matters in its consolidated financial statements. However, a material outcome in one or more of the active proceedings described below could have a material impact on the results of operations in a particular quarter or fiscal year.

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motion and made its dismissal final. The plaintiff appealed. In its opening brief filed June 3, 2013, plaintiff appellant acknowledged that it was not appealing the lower court’s dismissal of NovaStar ABS CDO I, Inc., the sole remaining NovaStar defendant.

On February 28, 2013 the Federal Housing Finance Agency, as conservator for the Federal Home Loan Mortgage Corporation (Freddie Mac) and on behalf of the Trustee of the NovaStar Mortgage Funding Trust, Series 2007-1 filed a summons with notice in the Supreme Court of the State of New York, County of New York against Novation Companies, Inc. and NovaStar Mortgage, Inc. ("NMI"). The notice provides that this is a breach of contract action with respect to certain, unspecified mortgage loans and defendant's failure to repurchase such loans under the applicable agreements. Plaintiff alleges that defendants, from the closing date of the transaction that created the Trust that mortgage loans that were sold to the Trust, were aware of the breach of the representations and warranties made and failed to notice and cure such breaches, and due to the failure of defendants to cure any breach, notice to defendants would have been futile. The summons with notice was not served until June 28, 2013. By letter dated June 24, 2013, the Trustee of the NovaStar Mortgage Funding Trust, Series 2007-1 forwarded a notice from Freddie Mac alleging breaches of representations and warranties with respect to 43 loans, as more fully set forth in included documentation. The 43 loans had an aggregate, original principal balance of about $6.5 million. On August 19, 2013, Deutsche Bank National Trust Company, as Trustee, filed a complaint identifying alleged breaches of representations and warranties with respect to seven loans that were included in the earlier list of 43 loans. Plaintiff also generally alleged a trust-wide breach of representations and warranties by defendants with respect to loans sold and transferred to the trust. Plaintiff seeks specific performance of repurchase obligations; compensatory, consequential, recessionary and equitable damages for breach of contract; specific performance and damages for anticipatory breach of contract; and indemnification (indemnification against NMI only). On October 9, 2013, Company and NMI filed a motion to dismiss plaintiff’s complaint. This litigation is in an early stage, and the Company cannot provide an estimate of the range of any loss. The Company believes that it has meritorious defenses to the case and expects to defend the case vigorously.

Item 1A. Risk Factors

Risk Factors

There have been no material changes to the risk factors previously disclosed in the Company's Annual Report on Form 10-K for the year ended December 31, 2012.

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

(dollars in thousands, except per share amounts)



	Issuer Purchases of Equity Securities
	Total Number of Shares Purchased	Average Price Paid per Share	Total Number of Shares Purchased as Part of Publicly Announced Plans or Programs	Approximate Dollar Value of Shares That May Yet Be Purchased Under the Plans or Programs (A)
July 1, 2013 - July 31, 2013	—	—	—	$	1,020
August 1, 2013 - August 31, 2013	—	—	—	$	1,020
September 1, 2013 - September 30, 2013	—	—	—	$	1,020


(A)	A current report on Form 8-K was filed on October 2, 2000 announcing that the Board of Directors authorized the Company to repurchase its common shares, bringing the total authorization to $9 million. The Company has repurchased $8.0 million to date, leaving approximately $1.0 million of shares that may yet be purchased under the plan.

Item 3. Defaults Upon Senior Securities

None.

Item 4. Mine Safety Disclosures

None.

Item 5. Other Information

None.

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Item 6. Exhibits

Exhibit Listing



Exhibit No.		Description of Document
11.1 ⁽¹⁾		Statement Regarding Computation of Per Share Earnings
31.1		Chief Executive Officer Certification filed pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
31.2		Principal Financial Officer Certification filed pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
32.1		Chief Executive Officer Certification furnished pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
32.2		Principal Financial Officer Certification furnished pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
101		The following financial information from Novation Companies, Inc.'s Quarterly Report on Form 10-Q for the quarter ended September 30, 2013, formatted in XBRL (Extensible Business Reporting Language) includes: (i) Consolidated Balance Sheets as of September 30, 2013 and December 31, 2012, (ii) Consolidated Statements of Operations for the nine and three months ended September 30, 2013 and 2012, (iii) Consolidated Statements of Comprehensive Income for the nine and three months ended September 30, 2013 and 2012, (iv) Consolidated Statements of Shareholders' Equity for the nine months ended September 30, 2013 and 2012, (v) Consolidated Statements of Cash Flows for the nine months ended September 30, 2013 and 2012, and (vi) the Notes to Consolidated Financial Statements. In accordance with Regulation S-T, the XBRL-formatted interactive data files that comprise this Exhibit 101 shall be deemed “furnished” and not “filed.”
(1) See Note 15 to the condensed consolidated financial statements.

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SIGNATURES

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 thereunto duly authorized.



		NOVATION COMPANIES, INC.

DATE:	November 7, 2013	/s/ W. Lance Anderson
		W. Lance Anderson, Chairman of the Board of Directors and Chief Executive Officer
		(Principal Executive Officer)

DATE:	November 7, 2013	/s/ Rodney E. Schwatken
		Rodney E. Schwatken, Chief Financial Officer
		(Principal Financial Officer)

DATE:	November 7, 2013	/s/ Brett A. Monger
		Brett A. Monger, Vice President and Chief Accounting Officer
		(Principal Accounting Officer)