Ocwen Financial Corp. is on a shopping spree, and it's not planning to stop anytime soon.
The West Palm Beach, Fla.-based specialty mortgage servicer agreed to snap up Morgan Stanley's Saxon Mortgage Services Inc. this week for $59.3 million plus $1.4 billion in servicing advances.
The deal, priced far below the $706 million Morgan Stanley paid to buy Saxon in 2006, is just the latest in Ocwen's efforts to bulk up. The servicer, which specializes in distressed and subprime loans, is carefully picking its M&A targets in an area where big-bank competitors are struggling with high losses and increased regulations.
"It's a great interim strategy" for Ocwen, which is trying to "consolidate a lot of what's left of the subprime industry," says Bose George, an analyst with Keefe, Bruyette & Woods.
The Saxon deal is Ocwen's latest effort to take unwanted servicing operations off the hands of bigger investment banks. The specialty servicer bought Barclays Bank Plc's, HomEq Servicing company last May. Goldman Sachs similarly closed a deal to sell its Litton Loan Servicing business to Ocwen last month — a move that increased the servicer's portfolio by $38.6 billion to $106.1 billion.
Saxon will add another $26.6 billion in mortgage servicing rights to Ocwen's portfolio. And the company, which reported a 3Q profit of $20.2 million on Monday, is already eying other targets.
"We are looking at other transactions as we speak," Ocwen chairman William Erbey told analysts on a Tuesday conference call to discuss its earnings.
He said that Ocwen is aware of $300 billion in mortgage servicing rights that could come on the market in the near term, an increase over even the prior quarter.
The big banks are "strategically repositioning how they look at the business," according to Erbey. Mortgage servicing of distressed assets is "not central to their business model. So I think you will see a lot of that coming to pass in terms of additional sales, to really reorient and refocus their operations around their core."
Ocwen did not respond to requests for comment for this article. Representatives for Goldman and Morgan Stanley declined to comment, and Barclays did not return a request for comment.
The mortgage industry faces a host of regulatory challanges, including changes to servicer compensation and an overall clean-up effort of the mortgage servicing industry. The crackdown follows numerous allegations of impropriety in the servicing industry, including the so-called robo-signing scandal in which the largest servicers were found to be systematically cutting corners on foreclosure paperwork and procedures.
In the face of these challenges, analysts laud Ocwen's plan to consolidate competitors in its niche rather than to ramp up internal growth.
"Growing to the scale of megabanks, that [would] kind of defeat the purpose of specialization," says Ingrid Beckles, founder of independent mortgage finance consultancy Beckles Collective LLC.
But "specializing in distressed assets and extrapolating the process over a large portfolio…then it makes a lot of sense," adds Beckles, who previously worked as a senior vice president of default asset management for Freddie Mac.
The special servicers' business model focuses on reworking troubled loans, using technology and assigning employees to handle each borrower -- individualized attention that the larger mortgaging servicing players have a harder time providing.
And many of them are no longer interested in doing so. George says that for the larger banks, "the upside to holding on to these portfolios is minimal," because servicing distressed loans can be costly and difficult for larger institutions focused on vast numbers of prime mortgages.
"One reason these transactions are happening now is that these companies aren't losing huge amounts relative to what they think" the servicers are worth, George adds.
Still, banks are eager to unload these companies for a reason.
"It's very difficult with all the uncertainty going on right now to understand what these assets are worth …because all the rules are uncertain at best," says one mortgage industry veteran.
"In some ways I think [Ocwen chairman Erbey is] rolling the dice and hoping that all these assets are going to be worth a lot more when the uncertainty clears up than they are today," the person says.
The problem is the cost involved in servicing distressed debt, given the individualized attention needed to resolve the loans. Without the appropriate incentive structure for subprime servicers, who don't typically take ownership of the underlying loan, the business can be difficult to sustain.
"Without owning part of the loan or getting paid on a real, significant pay-for-performance basis from the owner of the loan, then the specialty servicers can't do what they were built to do," the industry veteran says.