Signs of Life in the Mortgage Morgue - Company Financial Information

Industry Standard, The, Nov 20, 2000 by Megan Barnett

Survivors of the online-mortgage shakeout can look forward to a robust market for online loans. But it might take a few more years.

THE DARKNESS THAT HAS DESCENDED on the online mortgage industry may just be the kind that comes before the dawn.

This year has been a brutal one for companies that set out to offer home loans on the Net. Last summer, Wells Fargo and Bank of America backed out of a planned partnership with Microsoft's HomeAdvisor. Credit-Land is winding down operations after funding dried up. IOwn laid off most of its staff and announced it was looking for a buyer. Even a relatively healthy company like LendingTree has about six months of cash left and no immediate prospects for new financing.

The biggest bombshell came in October, when Mortgage.com announced it would lay off 518 of its 618 employees, sell its remaining assets and keep enough of the business going to oversee its existing loans. Suddenly, the entire industry was in jeopardy.

Already, though, signs are emerging that the market for online mortgages isn't washed up, just near the bottom of a cycle. The history of the mortgage industry is one of violent cycles of feast to famine and back to feast according to interest rate levels. The industrywide famine is painfully apparent now, and Internet startups are especially feeling the crush of the current down cycle because many have discounted rates while spending on advertising.

The survivors will see the demand for online loans grow even as the overall mortgage industry contracts. Several observers say that as technology develops and traditional industries grow more comfortable with the Internet, home-buyers and real estate agents alike will conduct more mortgage transactions online.

"The mortgage industry landscape is dotted with e-commerce potential," Leland Brendsel, CEO of Freddie Mac, said in a recent speech to mortgage professionals. "Firms struggling with the perils and possibilities of e-commerce and technology are wasting half of their energy because the peril is not embracing the possibility. Through technology, it is increasingly possible for any mortgage lender to contact anyone anywhere, start a transaction and bring it to a close on the same day, and have it funded by us in the secondary market."

Like many dot-coms, the Internet's mortgage lenders started with dreams of changing the way people shop for home loans. For the first time, consumers could compare mortgages in minutes, receive instant approval and complete much of the cumbersome paperwork at their desktops.

Many took a page from the online brokerages, which found early success by slashing commissions on stock trades. Gaining traction from low interest rates and a demand for refinancing old mortgages, companies such as E-Loan, LendingTree and Mortgage.com were warmly welcomed by Wall Street in 1999.

Instead of changing the world, the world is forcing online lenders to adapt to its terms. The Net's mortgage brokerages are subject to the same business cycles that the traditional mortgage industry has long endured.

Recent history could have served as a lesson to investors in the Net's mortgage lenders. Nearly a decade ago, a refinancing boom amid a healthy interest rate environment contributed to a surge in demand for housing loans. Shares of Countrywide Credit Services, one of the few publicly traded independent mortgage banks, soared 339 percent in 1991.

Soon afterward, investment bankers were scouting around for mortgage-bank candidates to take public. In 1992, at least eight mortgage banks went public. That year, the largest IPO of all came from Margaretten Financial, a mortgage bank that raised $300 million.

As soon as interest rates reversed, investor interest in the sector vanished. The once-hyped mortgage banks saw valuations plummet, leading to a flurry of mergers and acquisitions in the mid-1990s. Margaretten was sold to Chemical Banking in 1994 for $330 million.

Only a few years later, a bullish momentum swept companies like Mortgage.com and E-Loan into the public market. E-Loan raised nearly $60 million in an offering led by Goldman Sachs in June 1999. Soon after, Credit Suisse First Boston led a $60 million IPO for Mortgage.com.

E-Loan's stock, which more than doubled to $37 a share on its first day of trading, traded around $3 last week. Mortgage.com's stock traded at 6 cents a share, down from its record high of $22.75.

"Forget about whether they're online or offline" says James Marks, an analyst at CS First Boston who follows the online mortgage industry. "The question is whether mortgage companies are at all suitable for public status."

The shakeout leaves a handful of online mortgage companies, each claiming there's still money to be made selling mortgages online, including E-Loan, Intuit's Quicken-Mortgage and LendingTree. Executives at these survivors say the ones that have failed simply did not have the right business plans.

Mortgage.com "had the totally wrong approach," says Chris Larsen, CEO of E-Loan. "They were just another intermediary in between intermediaries. Within this shakeout, you have to be No. 1 or No. 2 to get the ability to scale in order to survive."