Earlier this week, we woke up to the news that Ellie Mae was being taken private by the private equity firm Thoma Bravo, in a transaction valued at $3.7 billion. Ellie Mae’s share price had taken a beating following its third quarter earnings call after close of market on October 25, dropping from almost $80 to below $65 a share, and then to below $60 on Christmas Eve – way below its 52-week high of $116.90.
The drop in the share price had been attributed to the cyclical slowdown in US residential mortgage origination volumes, as the Federal Reserve started raising interest rates. The impact of this downturn is not isolated to Ellie Mae, but is widespread among many companies that originate mortgage loans or serve mortgage originators.
Past downturns have caused the industry to shrink with many casualties. These downturns also represent opportunity, for the brave, to invest in companies that are fundamentally strong and are capable of returning to their previous levels (and in some cases to higher levels) as survivors with greater opportunities, as industry volumes start going up again with fewer competitors.
I have personally lived through these cycles in my career, feeling the pain of the downturn and the joy of being one of the survivors as the cycle reversed. Sophisticated investors are now willing to buy mortgage originators – and related companies – at the current lower valuations in the hope of chalking up huge gains. They will likely want to enhance the value of their acquisitions by investing in performance improvement, or size/scale of these companies when the cycle reverses.
Are we going to see more deals, particularly when private equity companies are flush with cash? As with any such questions, it is fun to speculate on what comes next.
I invited my friend, Wall Street expert Sam Weinhoff, to share his observations. Sam is a veteran in advising financial companies over his long investment banking career, and I’ve known him as a board member of companies that have been on both sides of successful deals.
Here are Sam’s observations …
Thoma Bravo, a well regarded private equity firm, announced the purchase of Ellie Mae at a handsome price. Today, Bloomberg reported that Apollo and others were looking at Radian, a large mortgage insurer. What are the implications of takeover activity in what some regard as relatively arcane areas of the mortgage sector?
First: Private Equity firms have money to invest. Over the last decade or so private equity returns have been amongst the most attractive thus long term investors such as pension plans and insurance company general account portfolios have provided the private equity firms with capital.
Second: Most folks have a fairly benign view of the U.S. economy and housing. Generally, they see growth in the 2-3.5 % range and not much of a rise in the rate of inflation. They don’t see much of a rise in interest rates so that if housing becomes unaffordable it is because of high housing prices rather than high mortgage rates.
Third: Further deregulation of financial services is expected and that may lower the cost and / or open up further opportunities.
Fourth: Technology will continue to help the winners become even more dominant. Some private equity firms believe that their ownership will accelerate technology adoption.
Fifth: My investment banker friends tell me that there is not much to buy in the $3- $5 billion size, which seems to be the sweet spot for many private equity firms.
By SA Ibrahim and Sam Weinhoff
S.A. Ibrahim is Chairman of Mortgage Media, Inc., and is a seasoned executive with almost 40 years of leadership experience in the fintech sector. He was most recently the CEO of Radian Group. Prior to Radian, S.A. served as CEO of GreenPoint Mortgage.
Sam Weinhoff serves as an insurance industry consultant. He served as a member of Allied World Assurance Company Holdings, Ltd.’s Board of Directors from 2006 until 2017, including as Chairman of its Compensation Committee, and as a member of its Audit, Enterprise Risk, Executive and Investment Committees. Served as Managing Director and Head of Schroders & Co.’s U.S. Financial Institutions Group, Investment Banking from 1997 until 2000.Served as Managing Director at Lehman Brothers from 1985 until 1997. Sam was lead director of Infinity Property Casualty, a large Hispanic focused automobile insurer, from 2004 until 2018. He currently sits on the Board of Fortitude Re.