Mar. 13: A midday Commentary on the Guild-Cherry Creek acquisition; the current state of M&A; a good banking joke
Remember the margin calls faced by lenders during the big price rally in March of 2020? If the MBS market moves much more, they’ll be back. Worries about warehouse funding and liquidity? They’re back, because warehouse lenders are banks, and banks are under pressure. Risk-free Treasury rates typically drop when there is bad news, like pandemics or bank failures. For example, U.S. employers cut 77,000 jobs in February, more than five times the amount a year earlier, bringing the total for the first two months of 2023 to the highest level since 2009, according to Challenger, Gray & Christmas figures. The rise was mainly due to widespread firings in the technology sector. But they rose last week when the Chairman of the Federal Reserve says they’re going to. Chair Jerome Powell indicated the size of the next interest-rate increase has yet to be determined. “We have not made any decision about the March meeting, we are not going to do that until we see the additional data,” Powell said, testifying for a second day before the House Financial Services Committee. However, Powell’s recent comments have indicated that the Fed may need to raise interest rates higher than officials had initially expected. But then the Silvergate, uh, Silicon Valley Bank news hit, driving rates back down. Volatility is not a capital markets person’s friend. Against this backdrop lenders and vendors, big and small, are continuing to merge, acquire, or be acquired. With that in mind…
Guild & Cherry Creek
Companies can slowly expand, organically, hiring individual loan officers or branches. Or they can grab market share with one big swoop.
Publicly-held Guild Mortgage continued its series of strategic acquisitions, announcing today it has acquired Cherry Creek Mortgage, LLC, a privately held Colorado-based lender with 68 branches in 45 states. Cherry Creek was co-founded by Jeff May in 1987 and will become its own division of Guild, headed by May. With the acquisition, Guild now has more than 300 branches and 4,000 employees in 49 states.
May said his company has always admired Guild for its strength in purchase mortgages, high customer service ratings and supportive culture. “This is a very strategic offensive move for us,” said May. “Guild’s values, commitment to serving their associates, customers and the industry are perfectly aligned with what we have built over the last 36 years. We believe the combined resources of both companies will make us a force in the marketplace and position our production teams to more readily compete and win for the long term in this challenging market.”
For those who’d like more details, here is the release: Guild Mortgage Acquires Cherry Creek Mortgage.
M&A in general
Lenders tired of the rate volatility, the cost cutting, rates possibly trending higher with the Fed fighting inflation (until the Silicon Valley bank failure drove them down) may be looking at selling their company or merging it. “Valuing a Lender” was recently posted on the STRATMOR website.
Sure enough, STRATMOR’s M&A practice is on fire as big lenders have become small lenders, or brokers, and culturally paired lenders are wondering, “Why have two accounting teams? Two capital markets groups? Two underwriting staffs?” And so on. (Anyone interested in learning more should talk to David Hrobon or Garth Graham.) Of course, as has been mentioned in this commentary, larger lenders are also adept at simply hiring production staff away from smaller, thinly capitalized lenders.
Many owners of lenders around the nation are earnestly interested in making a decision about what to do with their company before a decision is made for them. I have received this question from a number of owners of small lenders. ‘Rob, is it only the lenders who have servicing who have any value? Or can small lenders with decent market share like mine have interest from buyers?”
Garth Graham replied. “Great question, Rob, and one we field nearly every day. We are hearing from lenders who are inquiring about the M&A space, and often trying to find out what is going on and what they should do.
“The answer is that there continues to be good deals for potential sellers, and the reason is that there are a lot of buyers we work with who continue to want to grow market share in a down market. We closed three deals in the last 60 days, and all had upfront premiums with solid earn outs, with a good cultural fit for the parties. Often the premium being paid is driven by the ability for the seller to add the production without having to add all the corporate expense, so it can be painful decisions about the corporate depts (secondary, HR, Risk, technology etc.), but the end result is that the production is worth more to the buyer than it is to the seller due to the cost savings. And that shows up on premium offers. And the seller gets the balance sheet plus a share of that financial benefit. So, it can be a potential win-win. Of course, it has to be a deal that makes sense for the LOs, and production staff too, so that is why culture matters so much.” Thank you, Garth.
To wrap up, in valuing a company, a potential buyer will look at the audited net worth and the discounted cash flows, usually for the next three years of estimated earnings. (The devil’s in the details and assumptions!) The value to a potential buyer will depend on different factors, and three main variables often used in an analysis are loan volumes, margins, cost structure, & profitability, and the current policies, procedures, & business model.
Of course, repurchase obligations are included, as well as existing or potential liabilities. Are there outstanding lawsuits? Is the buyer buying the entire company, or a percentage of ownership… a minority ownership has very little value. It is not a simple process, and making assumptions about the future is problematic. A thorough examination of these factors is where the value of a competent advisor shows itself.
Stay tuned for tomorrow! Many people know my stance on predicting the future: The Gods laugh at those who make plans. Everyone was predicting lower rates until Jerome Powell assured the market that the Fed would continue raising rates to combat inflation. (He clearly was not predicting a large bank failure a few days later.) That lasted until Silicon Valley Bank went belly up, at which point rates dropped and the expectations of Fed increases has vanished. So much for predictions, of even a few days, right?
Every morning, the CEO of a large bank in Manhattan walks to the corner for a shoeshine. He sits in an armchair, examines the Wall Street Journal and the shoe shiner buffs his shoes to a mirror shine.
One morning the shoe shiner asks the CEO: “What do you think about the situation in the stock market?”
The man answered arrogantly, “Why are you so interested in that topic?”
The shoe guy replies, “I have millions in your bank,” he says, “and I’m considering investing some of the money in the capital market.”
“What’s your name?” asked the executive.
“John H. Smith,” was the reply.
The CEO arrives at the bank and asks the Manager of the Customer Department, “Do we have a client named John H. Smith?”
“We certainly do,” answers the Customer Service Manager. “He is a high-net-worth customer with $12.6 million dollars in his account.”
The executive comes out, approaches the shoe shiner, and says, “Mr. Smith, I would like to invite you next Monday to be the guest of honor at our board meeting and tell us the story of your life. I am sure we could learn something from your life’s experience.”
At the board meeting, the CEO introduces him to the board members. “We all know Mr. Smith, from the corner shoeshine stand, but Mr. Smith is also an esteemed customer. I invited him here to tell us the story of his life. I am sure we can all learn from him.”
Mr. Smith began his story.
“I came to this country fifty years ago as a young immigrant from Europe with an unpronounceable name. I got off the ship without a penny. The first thing I did was change my name to Smith. I was hungry and exhausted. I started wandering around looking for a job but to no avail.
“Fortunately, I found a coin on the sidewalk. I bought an apple. I had two options, eat the apple and quench my hunger, or start a business. I sold the apple for 25 cents and bought two apples with the money. I also sold them and continued in business. When I started accumulating a few dollars, I was able to buy a set of used brushes and shoe polish and started polishing shoes. I didn’t spend a penny on entertainment or clothing, I just bought bread and some cheese to survive.
“I saved penny by penny and after a while, I bought a new set of shoe brushes and polishes in different shades and expanded my clientele. I lived like a monk and saved penny by penny. After a while, I was able to buy an armchair so my clients could sit comfortably while I shined their shoes, and that brought me more clients. I did not spend a penny on the joys of life. I kept saving every cent.”
The board was spellbound.
Mr. Smith continued. “A few years ago, when the previous shoe shiner on the corner decided to retire, I had already saved enough money to buy his shoeshine location at this great place. Finally, 6 months ago, my sister, who was a call girl in New Orleans, passed away and left me 12.6 million dollars.”
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