HousingWireHousingWire
Introduction
As part of our ongoing discussion on the concept of movement in the mortgage industry, it is readily apparent that the failure of mortgage companies to pivot or tweak their business models to satisfy changing market and other conditions has resulted in consolidation based on liquidity, buyback, financial and other concerns.
Regardless of whether you are on the buy or sell side for a mortgage lender and/or servicer in a M&A transaction, it is critical to focus on post-closing matters too. Below are some of the items that won’t necessarily be on your radar when you initially explore an acquisition or sale, but may need to be dealt with on a post-closing basis.
Earnouts
From Seller’s perspective, earnouts can be an opportunity to be paid more for the business over a period of time or, alternatively, an unnecessary holdback of part of the purchase price. Buyer’s, on the other hand, view earnouts as a risk mitigation tool to avoid paying too much, particularly if there is uncertainty regarding future performance of the business. Earnouts are contingent payments based on Buyer achieving future financial targets that may never happen. These payments may also be subordinate in payment to Buyer’s secured lender(s). Careful drafting of the earnout language is important to avoid ambiguities in defining and calculating the financial targets and to attempt to ensure, through a series of negative and other covenants, that Buyer doesn’t operate the business in a manner that impedes or suppresses performance.
Indemnification/Escrow agreement
To help allocate post-closing responsibility for Seller’s liabilities other than those assumed by Buyer, a Buyer typically requires joint and several indemnification from Seller and one or more if its principals for losses they incur to third parties (or to avoid such losses) based on a breach of Seller’s representations and warranties in the purchase agreement. To backstop some of those indemnification obligations, there will likely be an indemnification escrow agreement. A negotiated portion of the purchase price that Seller would otherwise receive at closing is placed into escrow with various escrow buckets (each for specific dollar amounts) available to pay for various contingent liabilities of Seller if they happen. These may relate to trailing loan liabilities (such as loan repurchase obligations for negligence, discrepancies or fraud in the loan origination), HUD indemnification letters (where Seller agrees to indemnify HUD for losses incurred on loans guaranteed by HUD), early payoff default (where the loan is paid off too early under a mortgage loan servicing agreement) or early payment default (where there is a non-payment early in the loan cycle under a mortgage loan servicing agreement), real estate or equipment lease liabilities and other contractual obligations. The prudent selection of the escrow agent, assessment of the escrow fees and interest paid, identification of the escrow buckets and related escrow amounts, and detailed drafting of the mechanics and timing for release or payments from the escrow buckets, will help avoid or resolve liability disputes.
In addition to the indemnification escrow agreement as a backstop, if one or more principals of Seller agree to work for Buyer as an employee or independent contractor for a period of time post-closing, their compensation may be subject to the right of offset by Buyer if Buyer suffers a loss from Seller’s indemnification obligations and the escrow has expired or there are no remaining escrow amounts to cover the losses.
Main and branch office locations
Seller may have a main office location (owned directly or through an affiliate or leased) and a number of branch office locations (leased, subleased or sub-subleased). Buyer may be interested in some of the office locations depending on their location, square footage, rental amount, lease term, renewal options, ability to terminate and need for a personal guaranty. Sometimes there may be a few dozen or more locations in play. For those locations that Buyer has no interest in, Seller will have to keep the leases and deal with the remaining lease liabilities (which may involve an indemnification escrow as described above). For the other locations, Seller, Buyer and Landlord will need to enter into separate assignment and assumption of lease agreements. Where there is a sublease or sub-sublease involved, additional consent(s) are required. These documents are typically negotiated post-closing using a well-crafted assignment and assumption of lease agreement.
Assumed name filings
The sale of Seller’s name is important in many mortgage M&A transactions for continuity, transition and marketing purposes. Seller’s loan officers who agree to move over to Buyer may want (in addition to use of their “team name” which is typically an assumed name of Seller) to continue to use Seller’s name for a period of time after closing, as part of their recognized brand. Typically for regulatory purposes Seller cannot change its name immediately after closing but can allow Buyer to use a derivation of its name. In addition to state NMLS registration requirements, careful consideration must be given to the availability of the name in each state where Buyer intends to do business as well as timely filing foreign registrations and/or assumed name certificates in each of those states (and/or counties) post-closing. Familiarity with the state and/or county filing (and publication) requirements and process, the availability of expedited filings and related fees, and the ability to efficiently track the filings is critical to getting things off the ground in those states.
Conclusion
The sleeves need to remain rolled up after closing any mortgage M&A transaction in order to focus and work on all of the post-closing matters that need to be dealt with. These will require time and attention to ensure a satisfactory outcome for all parties.
David H. Freedman is a shareholder at Maddin Hauser. David counsels clients on a wide variety of corporate, business, and real estate matters, including commercial transactions, mortgage industry mergers and acquisitions, legal agreements, and debtor and creditor rights matters.
Brian A. Nettleingham is a shareholder at Maddin Hauser. Brian’s financial and mortgage services industry practice encompasses regulatory, transactional, and litigation matters, including capital and secondary market transactions, mortgage lending and origination, reverse mortgage products, correspondent programs, joint marketing agreements, and financial vendor agreements.
This column does not necessarily reflect the opinion of HousingWire’s editorial department and its owners.
To contact the editor responsible for this piece: zeb@hwmedia.com.
