The build-or-buy decision: increasing production capacity in the cheapest and most efficient way.

Author:Jacobs, John J.

Currently there seems to be frenzied activity in the mortgage banking world to add production capacity by any and all means possible. There are many companies looking for productive loan officers, producing branch managers, wholesale account executives and correspondent account executives, and for new and expanded areas of the country. The end goal behind all these efforts is to add sufficient production to increase franchise value and reduce the average cost of acquiring servicing rights. [paragraph] It would seem counterintuitive that so many companies are chasing wholesale production, given there are fewer loan brokers than in the past. Many loan brokers have begun selling closed loans as correspondents or have become mini-correspondents. Wholesale production volume is very low relative to prior years, and separating yourself from other wholesalers is difficult--except for specialty lenders in the non-Qualified Mortgage (non-QM), jumbo and other relatively low-volume products. [paragraph] In the correspondent production channel, there are many more buyers than in the immediate past, and the channel has become quite crowded. While new correspondents were entering the channel, many of their potential or previous customers have become agency-approved and are now retaining some or all of their production rather than selling, for prices below the economic value of the servicing. These former originators in correspondent relationships are instead now waiting and selling seasoned loans via bulk sales that before they were selling as newly closed loans. This phenomenon reduces the production volume available for purchase by correspondents.

The new entrants to correspondent lending have struggled to gamer significant market share as they cannot or will not pay high-enough release premiums to entice the most creditworthy sellers, and have resorted to reducing credit scores, overlays and other risk factors to compete.

Retail production has always been the love/hate production channel of mortgage banking. It has been said that managing retail production is like herding cats, suggesting the difficulty of the task.

And then there is the brick-and-mortar cost. Some companies have utilized the Field of Dreams strategy of "build it and they will come," which is very risky and encourages hiring substandard producers lest the production facility lay fallow.

Retail producers are often demanding and can exert pressure to do things that add risk to the equation. This is particularly problematic for small mortgage bankers with few branches and loan producers. In this model, the best loan officers can always use the implicit or even explicit threat to leave and go elsewhere if certain demands are not met or services provided (i.e., pricing improvements, underwriting exceptions, and the like).

Management knows that the firm would struggle if the production of those originators went elsewhere...

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