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A merger with another lender or vendor, or an acquisition, is newsworthy. For some owners, being acquired has been a goal since opening their doors. Deals can range from no money changing hands in a merger of equals all the way up to multimillion or billion-dollar transactions. As we sail through this year, STRATMOR finds itself “knee-deep” with buyers and sellers. It is a good time to take a quick look at the subject, and while it’s always challenging to predict the future in an inherently cyclical businesslike mortgage banking, there are observations to be made.
Owners have choices. The question is, “Should a successful mortgage banking owner/operator or vendor even consider exploring a company sale following unprecedented earnings over the last 12 months, especially with industry forecasts for lower volume and lower profits over the next 12 months?” While some owners are prepared to ride it out, others feel that decent margins and volumes will only last for a finite period of time. Here at the end of summer and with autumn approaching, production volume is still solid as the purchase market has picked up but maintaining equilibrium between origination capacity and borrower demand is tricky. For lenders, the layered risk of the combined uncertainties makes a strong case for prospective sellers to consider their options.
Some sellers are tired of “the game” and suggest that in the near-term future, companies will be struggling to survive. The prospect of higher home loan rates, continued housing inventory shortages, the constant talk of margin compression, volumes possibly dropping, and less income all are problematic. Pessimists will point to insufficient capital and the prospects for a looming cash crunch. Yet it’s still a “seller’s market” with motivated, qualified buyers offering a range of strategic solutions to acquire well-managed retail organizations. STRATMOR is advising some clients that now is the time to explore these strategic options before the M&A market becomes crowded with necessitous sellers.
Selling isn’t easy under any market conditions,” says STRATMOR Senior Partner Garth Graham who leads the company’s M&A team. “But a profitable lender that is growing has the economic means to address deficiencies that need improvement, to demonstrate that they are profitable rather than try to explain why they aren’t, and still keep earning the bottom line while options are being explored.”
Those interested in buying an originator may want to simplify activities to enable a greater focus on segments where they see the best opportunity for growth, for example, finding the right partnership that would provide the support and structure that retail sales teams require to be successful. A merger or acquisition can leverage its strong products, pricing, and superior customer experience to magnify earnings. But, while gaining market share and geographic coverage are good reasons, making sure you have a cultural fit is just as important.
In fact, cultural fit matters a great deal. Any company considering a merger should delve deeply into how the merger will build franchise value. There are many elements beyond the purely financial that are critically important, and these cultural and strategic elements must be considered. They are best assessed by the people who truly know the lender or vendor, namely, the people within the company. Merging lenders and vendors also don’t have to be identical — differences between merging parties can complement one another and diversify the business model.
When assessing a potential strategic fit, both companies’ employees must ask and answer a lot of questions. In a merger of two companies based on geography, assess each market as measured by its population density, total population, and economic growth dynamics. Are the economic engines of the merging parties similar or complementary? What about the product mix: Is it complimentary? Is this an opportunity for a vendor or lender to diversify its income stream, or will it lead to problems? Do the merging entities have similar competitive forces and market share in their respective markets? Do the management teams have a similar outlook and are business customs compatible?
If the merger appears to be a good fit after careful consideration of all things financial and cultural, the next hurdle is one of integration. The customer experience is of paramount priority but so is the handling of important employees and producers. Management should be decisive about the direction of the new organization and make every effort to integrate the most successful elements from the existing entities into the new organization. The new organization will then grow out of the best of the new and old and should have a good chance for success.
Not only are depository banks interested in possibly acquiring all, or a percentage of, lenders, but there are plenty of smaller deals being contemplated and explored, especially as smaller mortgage brokers and mortgage bankers join up with larger players. One-branch operations are constantly being recruited by numerous companies. In this current mortgage environment, making the right decision is more important than ever especially in terms of competitive loan compensation, strong reverse mortgage presence, and diverse product options.
Anyone thinking about a transaction like this should start by preparing a check list and rank the factors most critical in the evaluation process. Assess each prospective company against that check list so that you can compare one against the other on an apples-to-apples basis, paying close attention to the corporate culture. While culture is very intangible and subjective, cultural compatibility is the key element of a successful new business relationship. For those lenders that represent serious possibilities, talk to existing and recently-recruited branch managers. Ask their opinion and if they are candid, you can learn a lot.
What are the mechanics of a transaction? An experienced M&A advisor like STRATMOR can assist in determining the financial aspects of the deal. STRATMOR has a database of the deals done in 2021, and there are strong premiums being paid for mortgage banking companies, with the premium partially paid upfront and over an earn out. However, paying an owner three times 2020’s earnings, for is unlikely but a deal incorporating a reasonable proforma of future earnings (including 2021 — 2025) is more suitable.
Any seller should understand the key factors that determine a company’s valuation and typical terms. They should know what to expect during the due diligence and deal process, as well as the legal, regulatory, tax and accounting, operational, and financial implications of selling and acquiring. But for a deal to succeed over the long term, cultural fit and common goals are the critical components.
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