Intercontinental Exchange, Inc. must convince regulators that the $13.1 billion mega-deal announced on Wednesday to acquire Black Knight will not harm competition in the mortgage tech solutions market.
The software and data company also needs approval from Black Knight’s shareholders to move forward with the transaction, which valued the business at $85 per share, a 23% premium compared to the current price.
With such a complex mission ahead, the company doesn’t expect the deal to be completed until the first half of 2023. But what are the chances of approval? And once it happens, what will be the consequences for mortgage lenders and servicers?
Top executives at both companies told analysts on Thursday morning that the businesses are complementary: ICE focuses on tech solutions for originators while Black Knight is focused on servicers and the secondary market.
“Obviously it’s a large deal, so we expect it to take time for regulators to understand the complementary nature of our two businesses,” said Ben Jackson, president at ICE. “Black Knight had legal counsel look at this in detail and came to the conclusion that these are 100% complementary businesses that service different parts of the mortgage ecosystem.”
However, not everyone is so sure the deal will get approved.
Analysts who cover mortgage tech companies said that, based on Black Knight’s current share price at around $72 on Thursday afternoon, the market appears to be ascribing a 60% to 70% probability of a deal closing.
“While difficult to precisely quantify, we believe that some discount (in the stock price) is warranted based on antitrust risks given the combined market share of ICE and BKI’s various businesses,” a team of analysts from Keefe, Bruyette Woods said in a report. “While it is unclear at this stage how regulators will evaluate the proposed combination, we think divestitures could help the odds of a deal closing, particularly Black Knight’s loan origination system Empower.”
Founded in 2014, Black Knight is estimated to have a market share between 10% to 15% in the overall mortgage software market, according to one analyst who prefers not to be identified.
The company, however, says it is the leader in the mortgage servicing software space, with a market share of 56% as of Dec. 31, 2021, according to a 10k document filed with the Securities and Exchange Commission (SEC). The company provides servicing software for 36 million active first and second lien mortgage loans.
From Black Knight’s total of $387.2 million in revenue reported in the first quarter of 2022, 57% came from the servicing software, 30% from the origination software and the remaining was from data and analytics.
Meanwhile, Intercontinental Exchange, whose mini-empire includes ICE Mortgage Technology, has focused on increasing its loan origination offering over the last four years, neglecting the post-closing activities such as servicing and the secondary market.
The company grew in the mortgage space via the acquisition of other businesses, such as Mortgage Electronic Registrations Systems in 2018 and Ellie Mae in 2020. The latter brought in Encompass, estimated by analysts to be the loan origination system (LOS) leader in the country, which is why the combination of that with Black Knight’s LOS raises antitrust questions.
But the downturn in the mortgage industry is hurting ICE’s earnings in the mortgage segment. On Thursday, ICE reported that its origination technology revenue, representing 66.2% of the total, was down 20% year-over-year.
Closing solutions revenue remained $79 million, while data and analytics increased 6% to $20 million. In total, the mortgage technology segment revenue reached $307 million from January to March, down 13% year over year.
The Black Knight deal gives ICE the opportunity to fully digitize the mortgage origination and servicing experience from start to finish. The transaction expands ICE’s total addressable market (TAM) to $14 billion, the company claims.
A valuable piece of Black Knight is the product and pricing engine Optimal Blue, which could become the largest player in the mortgage software space, at least double the size of the next largest competitor, according to analysts.
Also, the target company adds tech solutions in the servicing space. More lenders are beginning to retain their mortgage servicing rights (MSRs) to recapture previous customers and reduce their acquisition costs – important in a market that saw overall per-loan production expenses climb to $8,664 in 2021, according to the Mortgage Bankers Association (MBA).
“The combined entity will become the largest player in the space and will be at least two to four times the size of their next biggest competitor,” said the analyst who prefers not to be identified. “From a client perspective, a fully integrated soup-to-nuts digital offering for mortgage origination and servicing should significantly reduce the cost of originating and servicing a mortgage.”
The KBW analysts team estimates the potential cost reduction to lenders and originators by possibly as much as 50% over the long term.