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CASE 1.11 NEW CENTURY FINANCIAL CORPORATION Synopsis New Century Financial Corporation’s bankruptcy filing in April 2007 was the initial incident in a series of events that would eventually plunge the U.S. and global economies into full- fledged panics. Within a few years of its founding in 1995, New Century had become one of the largest subprime mortgage lenders in the United States. New Century and other major subprime lenders such as Wells Fargo, Countrywide, and HSBC catered to potential home buyers who had poor or “subprime” credit histories. The subprime lenders prospered throughout the late 1990s and following the turn of the century because of steadily rising housing prices. Those rising prices allowed large numbers of subprime mortgagees to routinely refinance their homes to raise the cash needed to make their monthly mortgage payments. Other subprime borrowers purchased homes with the intention of “flipping” them in a few years, that is, selling them at a significant gain and then using a portion of the proceeds to purchase a larger home—with an even larger mortgage than their previous home. This new age, real estate Ponzi scheme came to a screeching halt when housing prices began declining. Suddenly, subprime lenders were flooded with loan repurchase requests. These repurchase requests came primarily from institutional investors that had purchased large blocks of mortgage-backed securities or MBS that the subprime lenders had sold “upstream” via the securitization process. As one observer noted, securitization effectively spread the “cancer” of subprime mortgages around the globe. To date, the ongoing worldwide financial crisis has resulted in trillions of dollars of losses and has claimed many former stalwarts of the financial services industries including Merrill Lynch, Bear Stearns, Lehman Brothers, Fannie Mae and Freddie Mac. This case provides a brief history of the subprime sector of the mortgage industry and the massive financial crisis triggered by subprime mortgage lending. The bulk of this case examines allegations that independent auditors played a major role in the subprime lending fiasco. In early 2008, the court-appointed bankruptcy examiner for New Century Financial Corporation released a nearly 600-page autopsy of that company. Much of that report focused on the alleged malfeasance of New Century’s audit firm, KPMG. Among other charges, the bankruptcy examiner maintained that the New Century audits were not properly staffed, that KPMG failed to adequately consider pervasive weaknesses in the company’s internal controls, and that the audit firm failed to properly audit New Century’s critical loan repurchase loss reserve.
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77 Case 1.11 New Century Financial Corporation New Century Financial Corporation--Key Facts 1. New Century Financial Corporation was one of the leading firms in the subprime sector of the mortgage industry until it suddenly collapsed into bankruptcy in April 2007; New Century’s collapse contributed to the onset of a worldwide financial crisis in late 2008. 2.
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This note was uploaded on 09/15/2011 for the course ACT 442 taught by Professor Nancy during the Spring '11 term at Ohio State.

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