The future of aggregation

Mortgage Choice, arguably Australia’s first aggregator, this year celebrates its 20th birthday and its entry into the mortgage market has changed it forever.

For consumers, it meant freedom of choice in terms of their home loan provider and product.  Brokers, through their aggregator, were able to provide clients with financial advice as well as a broad range of products.

Twenty years on, aggregators still provide this essential service. They still offer their broker members a panel of lenders, enabling them to recommend the most appropriate loan to their clients.

This, however, isn’t all that aggregators do. The economics of broking have changed, forcing aggregators to evolve with the times.

Today, they offer software platforms and marketing support as well as access to other financial services.

Aggregators no longer act just an intermediary between brokers and banks.

Today, they are sophisticated financial services providers that have a great deal of influence over the banks and their third party distribution strategies.

An evolving market
“Aggregators are now forced to provide more than broker support – they have to sell residential and non-residential products,” says Kevin Matthews of Australian Finance Group (AFG).

“They are now effectively dealer groups. They are massive financial services providers and I believe they will continue to evolve and transform to suit the ever changing needs of consumers and brokers alike.”

The question is where that evolution will lead the industry. Will aggregation continue in its current form? Or will the traditional aggregation model be transformed into something else entirely?

Also, will Australia’s smaller aggregators be swallowed up by their larger counterparts? And will the banks look to buy the larger independent groups in a bid to boost their distribution and market share?

Aggregation’s history can provide a few clues.

The aftermath of the global financial crisis (GFC) saw considerable industry consolidation. Smaller aggregators that were failing to cope under the pressure were forced to consolidate with other lenders or leave the industry altogether.

In August 2009, for example, the National Australia Bank (NAB) purchased the Challenger mortgage management business for $385 million – a milestone in the industry’s evolution.

For the first time, a major bank had taken a significant stake in the third party distribution channel, with around one third of all brokers falling under its control.

While the Commonwealth Bank had bought a 33 per cent stake in Aussie Home Loans in August 2008, this was the first time a lender had bought an aggregator in its entirety.

The purchase ruffled quite a few feathers in the industry, with some complaining the Australian Competition & Consumer Commission should never have the let the deal go through.

At the time, MFAA chief executive Phil Naylor said that while he was largely supportive of this particular deal, if the ACCC were to approve the NAB/Challenger purchase it would open the flood gate for lenders to swallow up other aggregation groups.

“Other lenders will be watching the NAB acquisition with an eagle eye,” Mr Naylor said at the time. “They will want to see how successful the acquisition is and whether or not it is something worth replicating.”

While no other lender has since sought to seize a controlling stake in an aggregation group, that is not to say it can’t or won’t happen.

Over the past three years, AFG has been the subject of numerous acquisition rumours , with many speculating that ANZ could be eyeing up the aggregator

AFG’s Kevin Matthews hasn’t ruled out the possibility of something happening in the future: “Everything is up for sale,” he says, “at the right price.”

Indeed, if AFG – or any of Australia’s other aggregators – were to be snapped up by one of the larger banks, it would come as little surprise to brokers.

In August 2009, shortly after the NAB/Challenger acquisition, The Adviser polled brokers to find out whether they believed all aggregators would eventually be swallowed up by the banking sector.

Interestingly, of the 522 respondents to the survey, 64.2 per cent said all aggregators would be acquired by banks in the future while 30.8 per cent disagreed and 5 per cent were unsure.

Liberty’s Brendan O’Donnell says it would be only natural for the banks to increasingly look to the aggregation sector as a way to gain a stake in the broker market.

“In any industry there is always a place for a diversified offering,” he says.

Staking their claim
Bank interest in the aggregation sector is, of course, nothing new and it certainly precedes the GFC.

Macquarie Bank took a stake in AFG as far back as 2001; nearly a decade later, in 2010, the lender took a 20 per cent stake in Australia’s newest aggregator, Vow Financial.

Macquarie then used both aggregation groups as its key distribution partners when it re-entered the third party space in 2010. It was a shrewd, calculated move in which Macquarie proved just how important aggregators are to the success of Australia’s lenders.

Lenders with a stake in one or more aggregation groups – as is the case with Macquarie, NAB and CBA (which currently holds a stake in both Mortgage Choice and Aussie) – can ensure their products are widely distributed through the third party channel.

Indeed, in the past 10 years, banks have made it very clear they are interested in the distribution capabilities of Australia’s aggregators.

“I wouldn’t be surprised to see Australia’s banks come in and swallow up Australia’s aggregators,” AFG’s Kevin Matthews says. “Consolidation and acquisition is natural in any industry, and the mortgage industry is no exception.”

Consolidation, the next step
Since the GFC, the entire mortgage industry – and in particular, the aggregation sector – has been subject to extensive consolidation.

In 2010, Vow Financial was formed when three existing brokerages joined together.

The Mortgage Professionals, National Brokers Group and The Brokerage joined forces to become Australia’s fifth largest aggregator, with a network of more than 900 brokers that collectively has loans under management of about $16 billion.

According to Vow’s first CEO, Jeff Zulman, the formation of the new aggregator was essential to the survival of the smaller broker businesses involved.

“Industry consolidation will continue and is necessary for the survival of some smaller brokers,” Mr Zulman said. “This deal was necessary for three smaller businesses to take the next step [in increasing its competitiveness],” he said.

FAST’s CEO, Steve Kane, agrees and says smaller brokerages and aggregators will continue to be swallowed up by Australia’s larger players as the industry’s current economics don’t support smaller companies.

“While consolidation will be completely dependent on the economics of the industry, it is fair to say that the current situation does not support the injection of new, small players,” Mr Kane says.

“Today, aggregators need to have significant funding and industry backing; without this, they will fail to survive.

“And, at a time when commissions have been cut by 30 per cent, aggregator revenue is slipping, making it very difficult for new players to enter the market or for smaller players to survive.”

Counting commission
While some aggregators – such as Connective, which operates on a monthly fee basis – were not hurt by the commission cuts, other aggregators have undoubtedly suffered.

“All of Australia’s aggregation groups work to slightly different models,” Fast’s Mr Kane says.

“But, generally speaking, aggregators saw their revenue tumble by 30 per cent, which increased the level of industry consolidation and made it next to impossible for new aggregators to enter the mortgage space.”

According to Mr Kane, there are not a lot of margins in the aggregation business, which can put companies off entering the space as a new contender.

“If there are no profits to be had, an industry will struggle to attract new participants,” he says.

Aussie’s executive director James Symond agrees, and believes smaller or sub-aggregators will come under increasing pressure to consolidate.

“I have said it before and I will say it again: the big will get bigger and the small will become state-based and very boutique,” he emphasises.

“Moving forward, aggregators that want to continue to perform well and be relevant in today’s market need to get very national and very large, thus providing scale to their members, or [they need] stay small and specialised. When you sit somewhere in the middle, it will be hard to survive.”

This was evident in the case of Refund Home Loans, which late last year announced that the group had entered voluntary administration.

Refund said increasing pressure from creditors had forced it to call in the administrators in order to complete a “quick and clean” sale of the business.

Until the end of 2010, all the costs of the group’s growth had been met by cash flow.

At that point, it became apparent that further funding was required and the directors of Refund Home Loans expected to receive further support from the bank.

However, the Queensland floods prevented that support from being provided and the lack of further funding left the company in the same position as before.

Refund’s decision to enter administration not only managed to shock the industry but to call into question the very safety of sub-aggregators. Meanwhile, Refund franchisees found themselves sidelined in more ways than one.

When the group entered administration, it stopped paying trail to its broker members, forcing the loan writers to take action against the administrator, SV Partners.

FirstPoint NB director Troy Phillips says this would not have happened if Australia’s aggregators, especially the smaller aggregators, were regulated.

“We need some transparency when it comes to our aggregation groups,” Mr Phillips says. “At the moment, 40 per cent of the aggregation market is controlled by National Australia Bank, which is regulated by the Australian Prudential Regulation Authority. However, the remaining 60 per cent remains unregulated.

“Aggregators process cheques – in essence, they are high volume, low margin businesses. A lot of brokers that aggregate through some of the smaller players believe they have trail for life – but is this really the case?”

According to Mr Phillips, promises made by some of Australia’s aggregators, including ‘trail for life’, have not been properly tested.

Therefore, if an aggregation group were to fold, many brokers could find themselves in an uncomfortable position – one similar to that currently being faced by Refund brokers.

“Australia’s aggregators need to be regulated by law,” Mr Phillips says. “It is not a job for the MFAA.”

But not everyone believes the smaller aggregation groups are living on borrowed time.

LoanKit’s chief executive, Simon Dehne, says while the aggregation industry will continue to evolve and consolidate, sub-aggregators will always have a place in the market so long as their core value remains unique.

“As long as aggregators, small or large, provide their broker partners with a unique service offering, they will continue to play an important role in the industry,” he says.

“Tomorrow’s aggregator will provide excellent service as well as support, comprehensive software platforms and a raft of non-mortgage-related financial services.”

Many industry experts would agree with Mr Dehne, and it seems most likely that the aggregation sector will continue to evolve as the market evolves, including responding to challenges such as the GFC

When lenders cut commissions and, in turn, aggregator revenue, the aggregators responded by diversifying their core broker proposition in a bid to increase revenue potential. A classic evolutionary move to counter adverse circumstances.

“Today, aggregators are forced to run their businesses very efficiently,” says Aussie’s executive director James Symond.

“Moving forward, aggregation will be about efficiency and volumes. The commission cuts that were made around the GFC took the fat out of the market. So, to remain profitable, aggregators need to run very efficient, very volume-driven businesses.

“The aggregators that have survived the GFC realise that to run a successful business they need to sell products – not just mortgages, but non-mortgage products as well.”

And according to Mr Symond, the aggregators themselves understand that evolution is the only way forward.

“We all need to evolve and provide greater value to our customers, which in this case is the brokers,” he says. “Regardless of whether you are a retail mortgage broker like Aussie or a wholesale aggregator like AFG, we all need to provide our brokers with a unique and compelling service proposition that evolves with them and with the changing market conditions.”

Looking into the crystal ball
So, should brokers assume that Australia’s banks will enter the market and buy up the remaining aggregation groups in a bid to increase their distribution potential?

Probably not. While the NAB/Challenger deal proved it is possible for a major to come in and buy power and distribution, AFG’s Mr Matthews says the ACCC would more than likely stop any future acquisition attempts.

“Competition is crucial in the aggregation space, and so I don’t expect to see the whole aggregation area one day owned by the banks. AFG is currently not for sale,” he says.

“While I would never say never, we are very happy with our current situation.”

But even if the major banks do not become the future owners of the aggregation industry, is it still possible that Australia’s smaller aggregators could be swallowed up by the larger independent groups, leaving relatively few players in the market – after all the financial planning industry experienced something very similar.

“Definitely not,” says LJ Hooker’s finance head, Peter Bromley.

While the financial planning industry has moved from being a raft of independent groups to what we see today – a few dealer groups that control the market – Mr Bromley says the lending industry will not suffer a similar fate.

“Aggregators big or small will always have a place so long as they have a point of difference,” he says. “I have had brokers coming up to me in the last few weeks thanking us for our support in terms of NCCP. Many have said they couldn’t get this support anywhere else – not even from the larger aggregation groups.

“Moreover, we had bullish plans to recruit 25 new brokers within one year; we have recruited more than 26 in two months. Brokers see merit in our model, they see merit in our brand and they want to be part of it.”

It is clear that aggregation will continue to adapt to changing market conditions, and it is also safe to say that the economics of broking supports the aggregation model.

In fact, if history is anything to go by, aggregators will become even more important as the broking industry matures.

They are already positioning themselves to act as providers of support as well as industry champions, helping brokers to retain and further grow their market share.