What’s in store for FinTech in 2021? We recently sat down for a powerful examination of the mortgage landscape with Robert Losquadro, SVP in Houlihan Lokey’s Financial Institutions Group, specializing in mortgage and mortgage technology. Robert offered his unique insights into the mortgage space and how FinTech is emerging stronger than ever as COVID-19 drove the mortgage industry into a digital transformation, years in the making.
Technology adoption, disruption, and the road to digital mortgage
Mortgage is one of the largest consumer industries in the world, but it has historically been under-invested in and slower to adapt to the changing digital landscape. Mortgage has lagged in comparison to other industries and COVID forced massive and immediate disruption, innovation, and technology adoption. It didn’t only force companies to adapt and innovate, but regulators as well.
Companies built around disrupting the mortgage ecosystem are getting the spotlight as the industry and regulators are forced to adopt new technologies. Many technology offerings that were ‘nice to haves’ before are now critical to the success of closing a mortgage.
The pandemic-induced chain reaction of market volatility that brought low rates and new mortgage products also brought a massive wave of refinance. The combination of low interest rates and the new ability to work remotely also sparked renewed interest in home buying and relocation, contributing to a massive increase in transaction volume from approximately $2.5T in 2019 to $4T in 2020.
The surge of mortgage activity fueled by the pandemic highlighted a massive supply and demand imbalance. Lenders lacked the resources to underwrite the volume of loans on the back end, which brought a necessity to supplement and create efficiencies through technology.
As Robert put it, “The days of walking into your bank to sit down with a banker and get a mortgage are long gone.”
Consumers today are searching online to find a mortgage and they’re going with independent originators who have strong digital product offerings. Independent, forward-thinking lenders have disrupted the market by investing in technology and providing a strong customer experience. Banks have traditionally lagged in both senses and consumers want access to people and resources online in real time – differentiators that independent originators have mastered.
Consumer expectations have raised the bar in the digital mortgage space as well and empowered technology solutions are no longer a nice-to-have, but completely necessary to compete. To remain competitive, traditional banks are forced to innovate too.
The rise of the non-bank lender, industry fragmentation, and what consolidation means for the mortgage industry
The rise of non-bank lenders has taken over the industry. Before the Great Recession, non-bank lenders only represented about 10% of loan originations and today they initiate over 60% of loans.
Within independent lenders and banks, the industry is immensely fragmented. The largest lender is Rocket Mortgage with about 6% market share, illustrating just how fragmented the mortgage and lending market is. Most independent lenders can’t compete with the budget and technology that larger players like Rocket have, so they look to third-party vendors to augment their technology offerings – allowing them to compete with larger players in the space.
Fragmented industries lead to consolidation, and that’s often a good thing.
2020 shaped up to be one of the biggest years in mortgage history. For competitive lenders, there’s a lot of opportunity and market share up for grabs and a lot of this has been achieved through consolidation and M&A.
We’ve experienced this first-hand within the Constellation Real Estate Group through our acquisition of Mortgage Builder. We’ve seen a fair amount of M&A activity across their customer base, driving solid organic growth as customer market share increases through consolidation.
In terms of M&A for technology providers, it’s important to know your customers and their goals when identifying opportunities. Sometimes this means avoiding a customer segment and focusing on other segments to gain more business long term. Will X improve Y and what will the larger impact to your business be? What matters to your customers should matter to you when considering an acquisition.
“Technology that allows a business to increase efficiency and produce more, faster, will face a massive market opportunity and see heightened customer demand,” Robert added.
Advice to FinTech providers considering selling or raising capital
When seeking investment or looking to sell, it’s critical to identify your objectives and what concessions you are willing to make to achieve your goals.
- What’s important to you? Brand? Culture? Growth?
- What are your non negotiables?
- What are you okay walking away from?
“Oftentimes sellers are focused on valuation and valuation only, but it’s important to take a step back and identify critical goals and areas of the transaction that the seller will be happy with before ultimately deciding on the right party,” Robert said.
Robert laid out two specific criteria critical to success when seeking investment:
Due diligence might look different because of the pandemic, but investors will still scrub your finances and analyze accessibility and structure for your business. When evaluating opportunities for sale or investment, be prepared to have conversations around operations, finances, and your business model.
- Knowledge of the market
Take a step back and look at the industry. What are your peers doing? What technology is out there? Mortgage technology is an evolving market and what we see today is dramatically different from even six months ago. Look at similar deals and transactions so you understand the investment market relative to your business and are better equipped to find a balanced and successful transaction.
How to think about valuations
There is no single formula for identifying a valuation. Valuation criteria can vary based on market climate, the circumstances around the sale or investment, maturity of the business, customer base and retention, runway, the problem the technology solves, and more.
For technology vendors solving for a piece of an established ecosystem, runway ultimately depends on maturity of the technology and its rate of adoption. Mortgage has come a long way, but it’s still slow to adopt newer technologies or pieces of the ecosystem.
In mortgage technology today, high valuations are currently being commanded by market opportunity and growth trends. What is the market for growth? Scalability? What are the underlying fundamentals of the business?
Robert noted that the less a mortgage technology company is tied to the cyclicality of the industry, the easier it will be to demonstrate a recurring revenue trend and mitigate market risk – driving the highest valuation.
“Valuations are more of an art than a science and come down to the fundamentals of the business,” Robert explained. “The way they’re positioned for growth, how much runway is ahead of them and what profitability looks like. We have definitely seen an increase post-COVID with those aligned to the future of technology adoption. It’s an exciting time to be in the mortgage technology space.”
ROI is central to any valuation, regardless of investor type, but the measures of success vary. Strategic acquirers are likely to value long-term potential, while VC and PE value immediate returns and short-term potential, depending on the nature of the investment.
Ultimately, when considering an investment in or the sale of your company, identifying your personal and business objectives is central to finding the right investor.
As the investment landscape continues to see heightened activity, we invite you to reach out with questions you might have about Constellation or any of what I’ve discussed above.
I hope you are staying healthy and always look forward to connecting.
Happy New Year
President and Managing Partner
Constellation Real Estate Group