AR jitters

18 January 2010 | By Christine Toner

After one of the most turbulent years in their history it doesn’t take a genius to work out that brokers need all the help they can get right now.

Dual pricing, a bear market and the ongoing recession have seen brokers’ livelihoods almost crushed and for those who are still clinging on any form of help is greatly appreciated.

For many, networks have historically offered this help. From assisting with compliance to offering a safety in numbers mentality networks were seen as protective parents shielding their members from difficulties and complications as best they could.

Then something changed. Several of the biggest networks collapsed during the worst financial crisis to hit the mortgage industry in years. In November 2008 Prestbury Financial went into liquidation following months of uncertainty, during which time many of its appointed representatives contacted Mortgage Strategy to voice their concerns.

Just months later the situation at Prestbury was mirrored when ARs of Network Data, one of the industry’s largest and until then most respected networks, were left angry and confused as they attempted to obtain commissions owed to them.

Months of confusion and frustration followed before finally, in May 2009, the network finally appointed administrators.

But as we now know, that was not the end of the bad news for networks. Just before Christmas The Mortgage Times Group became the latest casualty.

Mortgage Times staff were told on December 21 that the firm was going to go into administration although a formal application was not made to wind the firm up until last week. At the same time the firm emailed its ARs to let them know that they could no longer trade under the network’s Financial Services Authority number. This ended months of speculation about the future of the network although it was hardly an ideal festive gift for staff or ARs.

All the networks mentioned followed a similar process before they collapsed.

ARs would start to complain, first in dribs and drabs and then in hordes, that they had reached the end of their tether and wanted their commission.

Again, depressingly, the pattern has been the same. First, the network states that commission will be paid shortly, with backlogs or internal errors blamed for the delay. Sometimes ARs are paid but the number complaining about unpaid commission begins to grow.

Then there is a communication blackout - ARs cannot get hold of directors and increasingly have to rely on the few scraps of information they can find on internet forums or in the media.

But the biggest similarity is that in all cases the networks refused to acknowledge there was a problem until the day they finally admitted they were beyond saving.

So all suffered from a severe communication breakdown and with the collapse of each network came the inevitable AR casualties, with some advisers losing thousands of pounds worth of commission and in turn their businesses.

But this also affected other networks, each failure making a bigger dent in brokers’ confidence in the network model.

Suddenly, those safe havens that were supposed to protect brokers started to look like more of a hindrance than a help.

“The failure of several networks has affected the way brokers view networks, and so it should,” says Sally Laker, managing director of Mortgage
Intelligence Holdings.

“Being an AR of a network is similar to selecting a business partner so you need to be sure that its model is financially sound and it can provide you with all it promises.”

And Dev Malle, sales director at Personal Touch Financial Services, says the situation may make brokers more careful when selecting a network.

“Recent problems have made advisers do what they should have done in the first place - feel comfortable that their network has a good record, is financially secure with a strong cash position and is sustainable,” he says. “Economies of scale and quality inevitably mean the top three or four networks will get bigger.”

And with some brokers questioning the validity of joining a network comes concern for networks themselves. A network is only as strong as its members so if numbers fall will the network model run out of steam?

“Unfortunately, some saw the network model as a quick way of making money and then got out,” says Malle. “This was always going to be a failed business model as it did not pay adequate attention to risk management, capital adequacy needs and changes in the economic climate.

“And many mortgage networks had a heavy bias towards a single product with little stress testing for the failure of that market. A diversified
network model with liability management and a medium to long-term strategy can be profitable and sustainable.”

Malle says most of the surviving networks have already adjusted their models, including changing their pricing. He says that in future ensuring there is renewal income with managed and reduced protection liabilities is likely to set the winners apart from the rest.

But what went wrong with those networks that didn’t make it? Was it just a case of the economic climate becoming too hot to handle? And if so, are the remaining networks at risk?

When Prestbury closed in 2008 chief executive Lee Birkett sent an open letter to the network’s ARs. In it he blamed what he called rebel shareholders who refused to let him take the company private.

Meanwhile, both Network Data and Mortgage Times blamed tough market conditions, with the latter calling 2009 “an extremely turbulent year”.

“It is difficult to say exactly what went wrong with these networks but as both have reportedly gone into administration we have to consider the possibility of financial problems being the cause of their demise,” says Laker. “That is why it is so important to thoroughly check out the network you join. If there are big debts or loans and no record of profits you need to understand how the network is funded.

“Although this sounds like an onerous procedure it could cost you a lot of money if your commissions or proc fees are not paid.”

Stephen Young, chief operating officer at Sesame Bankhall Group, says lower transaction volumes are putting a huge strain on businesses
and it’s a case of the survival of the fittest.

“As we have been warning for the past two years some networks are simply not equipped to deal with the downturn and the recent demise of Mortgage Times may not be the last,” he says. “Such events have disastrous implications for advisers as they will see their commission pipelines frozen and be unable to trade.

“This shows why choosing a strong and well capitalised business partner has never been so important. If a network goes into administration
the chance of advisers recovering their money is virtually nil and that could prove fatal to their livelihoods.”

Young says this is not just about protecting advisers’ revenue as there is also a link to clients and the FSA’s Treating Customers Fairly initiative.

“Should a network be placed into administration we need to question how effectively outstanding cases would be processed, which will obviously directly affect clients,” he says.

“When networks have failed, every time the big losers have been advisers.

“The unfortunate truth is that when things start to go wrong they usually do so quickly and by then it’s often too late for advisers to take remedial action,” he says. “Many advisers are simply oblivious to the risks they are running as they are unaware that product providers and lenders do not conduct ongoing checks on the viability of networks.

“One thing is certain - networks in trouble will insist there is no problem until the day they announce the opposite.

“There will be no formal warning and no opportunity to move business elsewhere - just a bland announcement that the business has been sold, gone into administration or been closed by FSA,” he adds.

And Gary Burchett, managing director of housing at Legal & General, says networks that depend on a single income stream can run into difficulties.

“Other problems include a lack of long-term customer rela-tionships to generate future sales and cost bases that were developed in the good times and could not be trimmed quickly enough in the bad times,” he adds.

Angry ARs have their opinions too. Matthew Robotham, director of BPR Financial, was with Mortgage Times for almost two years and says the way the situation was handled was appalling.

“At the time I put a complaint about Mortgage Times to the FSA but there is no evidence that the regulator acted on the information I provided,” says Robotham. “Since then I have made a complaint to the FSA about how it dealt with the situation at Mortgage Times. I lost about £2,000 so in comparison to some it was not too much, but I was angry to find out that when speaking to lenders to see if they would pay me directly they had already paid Mortgage Times even though it denied receiving the money.”

But Robotham says his experience has not put him off networks in principle and he is looking to join another although he believes the payment structure of networks should be rethought.

“All networks should allow brokers to be paid directly as with mortgage clubs, or be bound to make payments within certain timescales and be accountable if they do not pay,” he says.

“From my point of view, there has been what could be considered theft by some networks and as such the directors should be made personally liable for any outstanding monies.”

Indeed, the way networks pay ARs has been a talking point of late, with some suggesting that ring-fencing proc fees could be the solution. But most of the surviving networks say they have no need to do this.

“We pay proc fees upfront to our ARs before we receive them from the lenders involved, and within 48 hours of completion,” says Laker. “But ring-fencing sounds like a good suggestion to prevent the propping up of failing networks.”

Malle says PTFS pays proc fees weekly but brokers’ security must extend beyond proc fees and a good relationship should mean broker and network have the same interests at heart.

Surviving networks are keen to stress those interests to brokers and reiterate the benefits they offer.

“At a basic level good networks offer certainty concerning payments, the best products from providers and a strong compliance regime that enables advisers to trade knowing their customers are receiving value, their sales process is robust and they will receive their due money,” says Burchett.

“But that’s the very least an AR should expect. In our mortgage network we are looking to provide support and advice on the latest regulatory changes, access to the most up-to-date technology and importantly plenty of support when it comes to managing a business in these difficult times.”

Last year was not all bad news for networks. While some were crumbling others were growing. For example, Mortgage Next merged with Mortgage Intelligence to create Mortgage Intelligence Holdings.

“Mortgage Next was a good fit with Mortgage Intelligence because of the similarity of the businesses,” says Laker. “The ethos, financial stability, geographical split and even the processes were similar. To merge was the right decision made at the right time.”

And it seems that more mergers may be on the cards, with most in the industry predicting further consolidation.

“This is a tough environment that would put even the most robust business model to the test,” says Laker. “And that applies to networks and
brokers alike. It’s all about running a business as efficiently as possible and being able to make changes quickly enough to meet the demands of the current climate. Much depends on how good or bad 2010 proves to be.”

Burchett says the larger networks will benefit in 2010.

“This is going to be another difficult year for all players in the market,” he says. “The continuing low Bank of England base rate and the challenge of securing funding will mean remortgage volumes stay low and direct lending will remain a big part of total transactions.
“It’s clear that lenders and providers will want to work with networks of proven substance and scale. They will want to work with organisations that improve quality and add value to their businesses.

“This means that larger networks will profit both in terms of attracting recruits from failed networks and also in securing the best distribution deals,” he adds. “In turn, this will put even more pressure on smaller networks.”

But size is just one of the factors brokers looking to join a network should take into consideration.

“In choosing the right network advisers need to be vigilant,” says Young. “A cheap price and a glossy brochure is no replacement for a properly run network with the financial strength to invest in the appropriate people and systems to help members.

“There’s no doubt that 2010 will be challenging. All but the best run networks will be vulnerable and advisers need to take steps now to ensure they do not get caught up in the fallout.”

And Laker agrees that advisers should not go for easy options.

“It may sound like a good deal but could cost you a lot if proc fees and commissions don’t get paid,” she says.

“Also, lenders are checking the quality of business they receive so a good network will help in that respect. Pick wisely and do your homework. Financial security is key. Check whether the network carries huge amounts of debt or loans and also look at its profit record, especially in 2007 as things were buoyant then.”

The collapse of Prestbury, Network Data and Mortgage Times has undoubtedly had an effect on the sector. With brokers’ confidence shaken networks will have to work even harder to convince them of their value. But the silver lining is that brokers will be more cautious in choosing
their network and keeping abreast of its financial standing.

Unfortunately, this will be of little comfort to those ARs whose livelihoods have effectively been taken away by the failure of their networks.

Networks have a big future
Paul Day, Director, Which Network

The events of the past two years have been an unprecedented shock to our industry and trading conditions have been tough by any standards. As a result we have seen some high profile network casualties and subsequently questions raised in some quarters concerning the validity of the mortgage network model and the role of mortgage and protection-only advisers.

But there can be no doubt that if the mortgage network model was removed as a result of the past 18 months’ business failings it would damage the entire industry and ultimately consumers too.

To learn from the experience of the past 18 months we need to look at each of the failed networks individually. The truth is that many of the doomed firms including the latest, The Mortgage Times Group, failed financially rather than as a result of regulatory shortcomings. Some operated inhouse packaging as a core part of their model and benefited from the handsome margins this delivered. When lending took a dive they were slow to respond.

It could also be said that some were too ambitious in their attempts at diversification, resulting in exposure of the core. Success is not always a matter of appointed representative numbers, as has been shown by the failure of two of the largest pure mortgage networks. Rather it is related to the financial controls within businesses.

Networks that weather the storm will do so by having a streamlined model and a low fixed cost base that is easy to scale to fluctuating business volumes. They will also need good management controls to make appropriate changes to their models, corporate parentage or investment that allow them to survive losses. Then they must continually add value to each of their ARs.

If we are considering a world without networks a fundamental question must be whether the Financial Services Authority has the resource and manpower to regulate thousands of small firms efficiently. I doubt it. If the FSA recognises the advantages of well run and financially sound networks it could simplify supervision, requiring less resource while protecting consumers.

Many advisers lead a solitary existence and this is one reason I believe networks have a big future in the market. But I should take a balanced view and state that every intermediary firm should look at its own requirements to ensure it takes the right route for its business model, be that joining a full financial planning network, direct authorisation or opting for a dedicated mortgage and protection network.

It’s not a question of whether or not there should be mortgage networks but more a matter of making the right choice. The FSA should encourage small firms to seek the controls and support a professional network or support function can provide.

 

 

Consider the franchise model

Kevin Duffy
Managing director, Mortgageforce

The franchise and network models both involve broker firms receiving goods and services from the parent body involved in exchange for a part of the proc fee or commission they earn.

The main difference is that a franchisee has the opportunity to benefit from the national branding of a central company name and trade as that name with a location or code added. This means you can be both local and immediately associated with national marketing campaigns.

A prominent brand that is recognised as having high sales standards will also often win contracts or exclusive rates for franchisees. Depending on the franchisor there will often be a strong company philosophy as a result of shared branding so training, broking tools, compliance assistance, sales support and branch interaction can be stronger than with a network. But trading under the brand name is ultimately optional.

Brokers who choose the franchise route typically do so because the support they get is similar to that of being employed while they retain the freedom of being self-employed.

Despite being a franchise model Mortgageforce essentially operates like a network. I am pleased to say we have never been late paying commission and have no intention of going down that road. Parental backing from one of the best capitalised mutuals in the UK - West Bromwich Building Society - is reassuring in this regard.

One idea to protect brokers could be an insurance premium paid by the broker or network to cover up to, say, £20,000 of unpaid commission should a network fail.

It would be no bad thing if the Financial Services Authority or the Association of Mortgage Intermediaries were to issue a certificate each year with the purpose of kite-marking networks that in the previous 12 months have demonstrated secure trading performance, acceptable capital adequacy, strong compliance, a minimum of complaints from brokers - especially over non-payment - and robust operating procedures.

Given that there are now fewer networks in the market this could involve an annual one-day inspection of a network over and above the routine
regulatory visits that would be taking place anyway. So it need not be a cost or time-intensive procedure.

It could operate in the way the Michelin star system does for restaurants, providing a source of comfort for brokers looking to join networks but including disclaimers from the validating agency involved with regard to not accepting responsibility for brokers’ selections.
Can you imagine how much more professional and ethical some networks might be if such an accreditation process existed?