There have been some big shake ups in the mortgage industry this year, prompted by the record-breaking year seen by mortgage lenders; United Wholesale Mortgage announced their $16 billion merger with a special acquisition company (SPAC) and Intercontinental Exchange (ICE) acquired Ellie Mae in a $11 billion deal.
According to the latest insights from STRATMOR, timing is everything.
“The M&A deals we’re seeing this year are game changers,” said Garth Graham, senior partner at STRATMOR, in a press release. “They are record-breaking deals that have investors outside the industry putting money into mortgage banks that are generating solid profits.”
The low interest rate environment continued to drive sustained borrower demand to round out 2020. The Mortgage Bankers Association (MBA) is forecasting originations to total $3.18 trillion by the end of the year – the highest year since 2003. In 2021, originations are expected to drop to about $2.49 trillion. This forecast assumes an effective vaccine will help bring the pandemic under control and lead to a gradual economic recovery.
Graham says what’s fueling the M&A activity and offering investor investors a major value proposition is profit margins. In 1999 and 2000, profit margins were close to nothing before the refinance boom the following year, which drove profits to 60 basis points. This year, he says mortgage lenders are generating an entire year of over 100 basis points net profit, up from about 40 basis points last year.
Rocket Mortgage recently raised about $1.8 billion in their initial public offering (IPO) in August. Guild Holdings Company also raised about $100 million through its IPO, selling 6.5 million shares at $15 a piece.
“The IPO activities for a handful of the largest independent mortgage bankers has accelerated with the public offering of Rocket Mortgage and United Wholesale Mortgage,” according to Graham, adding that equity investors or public companies hold interest in 17 of the top 25 independent mortgage banks.
In the past, he says it’s common to see strong companies buying out weaker counterparts, whereas this year, strong organizations are buying strong. These deals are noteworthy on their own, but also very telling of the industry.
“When public or private equity comes into the market, it drives all values up, which is good news for prospective sellers,” Graham stated in the report. “Sellers may not have a story like Quicken (Rocket), but the trickle-down effect is in having more entities interested in investing in mortgage companies, even at a higher valuation.”
He expects prospective sellers may be resistant to selling while experiencing profits they may have never witnessed before, however, that hesitation could lead to a missed opportunity. Right now, lenders are in a strong position to negotiate. Graham advises lenders considering a deal, whether as a buyer or a seller, to retain an advisor experienced in the mortgage business and in company valuations. The final thought from Graham in the STRATMOR report is to consider not waiting too long. Over the next couple years, consumer demand may fall below origination capacity, which could compress profit margins, and a downward pressure on valuations.
“An effective advisor can help with matters like due diligence and weighing risks, but without question, the greatest value provided by an effective advisor provides is determining whether the cultures of two companies are reasonably compatible.”