From 1985 to 1995, merger and acquisition activity in the mortgage banking industry has been robust. An analysis of those years reveals that the ties between the industry and interest rates, and the strategic goals and capital needs of players in the business have been the major catalysts driving the pace of mortgage company mergers.
ALTHOUGH MUCH ATTENTION HAS BEEN PAID TO THE RECENT WAVE OF MERGERS in the mortgage banking industry, an analysis of the past decade reveals that this is neither an isolated nor unusual trend in the business. The relatively recent flurry of activity is consistent with an ongoing cycle of industry consolidation and ownership change.
Due to the nature of the business--mainly its inherent sensitivity to interest rates--mergers and acquisitions activity in the mortgage banking industry will likely continue at its current pace. This article reviews the merger and acquisition activity during the past 10 years; attempts to chart and qualify the factors motivating the pattern of ownership change; examines the continually changing relationship between origination and servicing; and offers theories on the effects that the accelerated pace of commercial bank consolidation will have on the mortgage industry.
During the last decade, mortgage banking acquirors have come from a wide variety of industries. Despite diverse backgrounds, there have been two universal themes motivating most acquirors: the desire to access the mortgage banking customer base to cross-sell nonmortgage products, and the desire to obtain increasing economies of scale for mortgage servicing. (A notable exception to these themes occurred between 1990 and 1992 when the "fire sales" of the Resolution Trust Corporation [RTC] created numerous opportunities and attracted several financial buyers to invest in the sector purely as a financial play.)
In general, however, financial institutions and conglomerates have purchased mortgage banking companies to enhance noninterest revenue and solicit additional products to a broad, home owning customer base.
Another common theme has existed among mortgage banking owners. Buyers who at one time in the cycle aggressively enter the business, frequently become sellers at another point in the cycle. During difficult times at the parent, the decision is made at both financial institutions and conglomerates alike to trench and focus on core businesses. During such retrenchments, commonly it's commonly decided that the mortgage banking subsidiary is no longer a core business. But when the cycle once again turns and the market environment becomes more favorable for the parent, the one-time seller may once again become a buyer as the parent rives to diversify its earnings stream.
At one point or another in a cycle, interested parties have viewed the mortgage banking industry as an attractive opportunity to profitably invest in liquid assets. The underlying liquidity of the merger and acquisition market for mid-sized mortgage banks (especially for servicing portfolios) has allowed many owners to enter quickly, when needing to deploy capital, and then profitably exit, when wanting to free up or raise capital. In fact, some have speculated that the liquidity of this M&A market contributes to merger activity, as buyers view it as a means of temporarily placing assets.
The mortgage banking business has been effective at creating significant wealth for those who have entered at opportune times and were subsequently able to cash out, at equally opportune times, the value that was created (i.e., MacAndrews & Forbes [Troy & Nichols], American Residential and Arbor National). No doubt others will attempt to emulate past successes.
The scope of merger and acquisition activity in the mortgage banking industry is no better expressed than in Figure 1, which illustrates both the consolidation in the industry and the evolution of he players. The market share of the top 10 participants stood at 6.5 percent at the end of 1984; by mid-1995 that share had increased to almost 24 percent.
FIGURE 1 Top 10 Mortgage Banking Servicers: Yesterday and Today 12/31/84 Servicing Servicer Volume Lomas & Nettleton Financial Corporation $17.63 Manufacturers Hanover 11.92 Norwest Mortgage 11.06 Weyerhaeuser Mortgage Company 8.85 Crossland Capital Corporation 8.63 Fleet Mortgage Corp. 7.80 First Interstate Mortgage Company 7.80 Colonial Mortgage Service Company 7.35 Citicorp Homeowners Services 6.91 Kissell Company 6.88 Market Share of the Top 10 6.5% 6/30/95 Servicing Servicer Volume Countrywide Funding $121.22 GE Capital Mortgage Corporation 109.40 Norwest Mortgage 100.49 Fleet Mortgage Group 99.80 Prudential Home Mortgage Corporation 77.83 NationsBank & Affiliates 77.51 Chase Manhattan Mortgage Corporation 73.57 BankAmerica 57.07 Chemical Bank & Affiliates 51.86 Home Savings of America 49.50 Market Share of the Top 10 23.8%
Source: Inside Mortgage Finance, American Banker
During the intervening 10 years, many participants have either fallen From the top 10 or exited the business. Interestingly, several participants that during the decade exited the business reentered and subsequently reemerged as members of the top 10. As Figure 2 illustrates, it has been an active decade for mergers and acquisitions.
[Figure 2 ILLUSTRATION OMITTED]
What follows is a chronological review of the ownership changes that have taken place during the past decade and have led to the current configuration of the industry.
In 1985, corporate America's buzzword was "diversification." Driven by the concept of the financial supermarket, companies such as Sears, ITT, The Travelers, General Motors, Ford and Owens-Illinois strove to provide "one-stop shopping", offering consumer goods, insurance, stocks and bonds, and oil changes. Residential mortgages appeared to be a natural extension of this concept under the umbrella of financial services.
As diversified industrials sought to enter the industry, commercial banks were leaving mortgage banking for a variety of reasons. Those reasons included their own credit problems as well as the attractive prices being paid by those looking to diversify into mortgage banking. Figure 3 details several of the major transactions in 1985 and 1986 involving banks exiting the business, and in many cases, diversified conglomerates entering or expanding in the industry.
FIGURE 3 Commercial Bank Divestitures: 1985-1986 Servicing Date Divesting Bank Acquiror Volume ($b) 1/85 Florida National Owens Illinois $5.2 2/85 Wells Fargo & Co. Integrated 6.2 Resources 2/85 Colonial Bank GM 7.5 (CoreStates) 3/85 Norwest Corp. GM 10.2 6/85 Crossland S&L Metropolitan 9.7 Life 3/86 PNC Bank Corp. CityFed 6.5 Financial Corp. 3/86 Manufacturers Fireman's 14.9 Hanover Fund Corp. Date Divesting Bank Motivation 1/85 Florida National Florida National was attracted by the acquisition pricing offered by Owens Illinois, a buyer who was looking to diversify into financial services. 2/85 Wells Fargo & Co. Wells Fargo sold its mortgage banking unit after initiating a strategic review and determining that mortgage banking was not a core business. 2/85 Colonial Bank Colonial Bank (now CoreStates) did (CoreStates) did not consider mortgage banking a core business, and was further motivated by the attractive pricing offered by GM. GM believed there were significant cross-selling opportunities with GMAC. 3/85 Norwest Corp. Norwest Bank had problems relating to adjustable rate mortgages that resulted in hedging losses. Through the Norwest Bank and Colonial Bank acquisitions, GM created one of the country's largest mortgage banks, second only to Lomas & Nettleton. 6/85 Crossland S&L Crossland S&L was motivated by the attractive pricing offered by Metropolitan Life and the need to raise capital. Metropolitan Life soon after paid $275 million for Century 21, and believed in the cross-selling opportunities between the mortgage bank and the Realtor. 3/86 PNC Bank Corp. PNC had completed a strategic evaluation...