Compliance costs and lenders' volume targets are pushing many broker groups into each other's arms. MPA investigates the do and don'ts of consolidation.

Like the Wild West, the early days of the mortgage industry were dominated by individualists and entrepreneurs. But sweeping consolidation driven by regulation and the growing need to achieve economies of scale has altered the landscape. Research from the Market Intelligence Strategy Centre (MISC) revealed that last year alone the number of broker groups (which includes aggregators) dropped from 190 to 138 - representing a 27% decrease.Significant mergers in 2010 included Firstfolio's acquisition of Club Financial Services, Key Invest's acquisition of First Rock and the emergence of Vow Financial.

According to MISC, the top six mergers of 2010 involved more than $30bn of loans under management. Meanwhile, the previous year only saw three significant mergers - not the least of which was the creation of Advantedge which brought together PLAN, Choice and FAST in 2009.

Despite the widespread change, consolidation does not appear to be slowing. National Finance Club chief operating officer Lawrie Moore says many brokers will be forced to join together to meet compliance requirements and lenders' volume targets.

He also predicted larger broking franchises will see growing membership as small outfits and solo operators find it increasingly prohibitive to stay in the industry. According to Moore, new entrants would find it increasingly difficult to be a solo operator, as a larger organisation "provides access to a broad range of lenders and assistance through established training and compliance programs".

So whether you're an aggregator group or a solo operator - at some point you may have to look down the barrel of consolidation.

Advantages
There are several reasons why brokers might consider merging together. These include:

  • The ability to meet growing costs of regulatory compliance
  • Greater spread of risk
  • Achieve economies of scale (back-end support, marketing, strategy)
  • Greater ability to meet lenders' volume targets
  • Increased market power
  • Achieves instant growth
  • Reduces competition if merging with a rival
  • Easier to raise money in a larger business

• Other businesses can bring new skills or specialist departments to the business (such as financial planning)

Disadvantages
But mergers are not without problems. Some considerations brokers need to be mindful of before making the leap include:

  • Increased chance of culture clash
  • Loss of control over the business
  • Can be disruptive initially to day-to-day activities
  • Differences in leadership style
  • Could result in redundancies in staff, which leads to decreased motivation
  • Staff/members may question if organization still represents their needs

• If business becomes too large, you can fail to achieve economies of scale

Case study 1: Tiffen & Co/The Mortgage Detective

Tiffen & Co/The Mortgage Detective is one of Canberra's largest broker groups. The office includes nine mortgage brokers (all with five or more years experience) and an administration team of six. It boasts a portfolio of funds under management of $1.2bn and has collectively helped more than 19,000 borrowers in the Canberra region achieve their dream of home ownership.

Director of operations Alison Whittle joined her business The Mortgage Detective together with Gerard Tiffen's Tiffen & Co. in 2008, but their association actually began three years prior to the merger. In September 2005, Whittle and Tiffen were involved in Mosaic Financial Services - a venture that brought together five independent broking companies from around Australia, with a view to establishing a cooperative aggregation company. Mosaic went on to merge with National Mortgage Brokers (nMB) in 2008.

"From these beginnings, Gerard and I had developed a respect for each other and our respective businesses," Whittle says. She adds that there were some key components that triggered discussions of a potential merger, which included: their businesses aggregated through the same company, they used the same CRM platform and their customer service philosophies were similar.

Discussions started in May 2008 and the transaction was completed in October. "A lot of time and effort went into fine-tuning the details of the merger so that all parties involved were satisfied with the proposed outcome," she says, adding that while it's important to take as much time as is required, you need to "continue moving though the process without losing the momentum".

Merging the businesses together was not without its challenges, she adds. "Regardless of the similarities prior to merging, it was effectively two business owners who had been relatively independent for many years. Melding the two businesses together was a matter of finding what works best. This means relinquishing some control and sharing that process with your business partners. Change can be a difficult process, but you need to maintain your belief in where you are ultimately going. It's been a great achievement to accomplish this and actually see it work. We now have a great team and environment that we are all proud to be part of."

To assist the two companies in the negotiation and implementation of the merger, they hired an independent adviser. She says this was an invaluable tool for all parties as it took away the emotion of the transaction and allowed everyone to concentrate on the end game. "It ensured that we had all the 'right' discussions upfront - not only the positives of the transactions but also the potential drawbacks. There is value in being fully informed."

The merger has been quite positive for both businesses. Whittle points out that, as a result of the merger, they were able to achieve a range of benefits including the reduction in certain operating costs, rationalisation of administration staff, fixed salary allowances for key principals and the simplification of remuneration for commission-based brokers."Also, by combining our sales teams we strengthened our competitive advantage in the Canberra market."

Growth for the business is always on the table for discussion, she says. "Our strategy moving forward is for further mergers or acquisitions, so we're always looking for opportunities. In saying this, whatever move we make we will ensure the integrity of our corporate synergy. Our culture is very important to us, and we don't wish to compromise this for short financial gain."

Case study 2: Mortgage Choice/LoanKit

Mortgage Choice's acquisition of LoanKit in 2009 marked a significant turning point for both companies. For Mortgage Choice, it was their first step into aggregation via its fully-owned subsidiary, Beagle Finance, while for LoanKit, it was a chance to grow and strengthen its position in the market.
LoanKit CEO Kym Rampal says the merger provided the boutique aggregator with an opportunity to provide its brokers with more services. "LoanKit was missing some key features," Rampal says. "Compliance was a very hot topic at the time and with the introduction of NCCP regulations I saw that we would fall short."

LoanKit was approached by Mortgage Choice in July 2009. While it had received other offers to merge, Rampal says none of the other deals really represented an opportunity for growth. "I had a few offers prior to the merger, and while they were bigger companies they lacked the infrastructure to help us grow. But when the offer came through from Mortgage Choice I thought this is the perfect fit."

Once the initial enquiries were made, the merger moved surprisingly quickly, he says. By the end of August they had an agreement in principle and contracts were drafted by October. By the 1st of December the deal was finalised. Rampal says LoanKit brokers responded well to the changes, and only one broker left as a result of the merger.

LoanKit moved its head office and seven employees into Mortgage Choice headquarters. There is also cost savings for the company in that is taps into Mortgage Choice's marketing department and services from its lending support team.

Rampal says that despite the advantages it's gained from joining Mortgage Choice, there was a lot the company learned about aggregation from LoanKit as well. He advises other broker groups looking to merge to make sure there is an exchange of complementary skills. "Understand where you're lacking and ask if these areas will be filled by the merger."

Case study 3: Advantedge
NAB's acquisition of PLAN, Choice and FAST in October 2009 was one of the most significant mergers to take place in the aggregation space since the GFC. It brought three very different aggregator groups together under one roof and while each retains their own brand, they share a number of back-end services.

Advantedge's general manager Steve Weston says a crucial part of the merger was ensuring there was no culture clash between the three groups - a challenge that exists anytime you bring two businesses together. "Each of the businesses will have their own particular culture," he explains. "Brokers join an aggregator because of its culture so you have to be conscious of that. In our case, with PLAN, Choice and FAST, we knew if we tried to merge the three brands it would be unsuccessful, but we achieved economies of scale by merging the back end."

Weston predicts that the pace of consolidation in the mortgage industry will not slow over the next few years, "certainly in the broker space, but even more so with aggregators".

He says the economics for aggregators have become much more difficult in the last three years. Part of that has been brought on by commission cuts that were brought in during the GFC. Unfortunately for aggregators the cuts coincided with a drop in broker numbers and a price war in the aggregation space. "Suddenly brokers are looking to pay less for aggregation and we've seen a lot of low cost aggregators do quite well because of it," he says.

Not only are aggregators facing the double-whammy of declining commissions and lower fees, but Weston points out this is occurring at time when they need to be spending more on compliance and licensing. "So scale has become even more important as a result," he says.

In addition to being mindful of potential culture clashes, Weston advises other brokers to be realistic about the merger. "When you have several firms merging together, everyone will have their own systems and technology and everyone will believe their way is the right way. But you need to make some changes - there will be some pain points."

Top tips for businesses about to merge
1) Choose wisely - Don't merge for the sake of making a bigger business. Better to wait for the right offer, than accept a sub-par relationship
2) Look for a good fit - Be realistic about your firm's strengths and weaknesses and look for a company that both complements and completes your offering in the market
3) Hire an independent negotiator - Not only will this take the emotion out of the process, it will help you focus on the positives and negatives of the arrangement
4) No pain, no gain - Recognise that merging involves change and sometimes your way of doing something will not work for the entire group
5) Consider brand - It's sometimes easier to keep your brand separate rather than forging a new identity

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