Mortgage magic

Specialist lender Bluestone Group has been at the forefront of changing the mortgage industry in Australia. Its founder Alistair Jeffery shares the experience with AMANDA GOME.

Alistair Jeffery started Bluestone Group, a specialist lender, when he was aged 33 after training as a mining engineer and then moving into investment banking. He shares his experiences with Amanda Gome.

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Amanda Gome: You have been at the forefront of really changing the mortgage industry in Australia. Can you tell us briefly where you got the idea to start Bluestone and how you’ve grown the company.

Alistair Jeffery: During the mid-90s I was involved in the early stages of the specialist lending market in the UK as an investment banker and I saw that sector really flourish during the 90s and was quite keen to see if I could take some of what I’d learnt and start a successful business in Australia, so I moved down to Australia in early 2000 to establish Bluestone.

That would have cost a fair bit of money to start.

It did, and the way I funded the initial expansion was to provide the seed investment myself and then raised equity from the private equity market. In total we’ve done around four different private equity raisings and raised approximately $15 million from the private equity markets. In the early days it was more private investors and later on it became more institutional investors. Most recently we raised around $5 million from ABN Ambro. That was late 2005.

And are you planning another fundraising?

Not in the immediate future. The business operates profitably and is cash flow positively so we don’t really need to raise additional equity to fund the expansion at the moment. What we are interested in doing is creating liquidity opportunities from time to time for shareholders, so that means an opportunity for them to either sell their shares or invest further, so every four to five years we’re keen to do that.

What was the reaction of the traditional lenders, banks and others to you coming into the market?

We were quite careful to position Bluestone not as a bank bashing style of business. As far as we’re concerned the banks do a pretty good job at lending to the traditional borrower types, and they have done for many many years.

We positioned Bluestone as a specialist, serving segments that are typically pretty small and some of which open and close pretty quickly and working alongside the banks and that’s meant that we’ve been able to actually develop some very strong relationships with some of the local banks. Some of them refer their customers through to us if they’re not able to service them themselves. We also have funding relationships with local banks such as Westpac.

So was that the sort of sales and marketing strategy from the start, to use the bigger companies to get the customers. And what else did you do?

We really relied heavily on the broking community so we haven’t tried to create a substantial direct to consumer capability. Bluestone isn’t really a retailing business. It’s more a wholesaler or a manufacturer. We distribute our products primarily through the broking industry so it was very important that when we were researching the Australian market that there was a viable broking market.

That’s turned out to be a very, very successful part of the strategy, because what it’s meant is that we’ve been able to scale the Bluestone manufacturing and product development and funding side whilst outsourcing the distribution to the broking community.

As you’ve grown what have been your major challenges?

Keeping the culture… creating and then maintaining a culture of entrepreneurialism as the business gets larger because as it gets larger you need to start instilling operational disciplines. It’s pretty important to try and maintain that entrepreneurial culture.

How many people have you got? What’s your revenue now?

We have about 200 people and revenues between $50 and $100 million a year, so yeah, that culture is a critical part of the expansion strategy. Also when you scale a business as quickly as we have done you do put pressure on systems, technology, communication structures and organisational structures. So we’ve sort of been battling hard just to make sure that we remain very transparent internally.

To this day we have fortnightly all-hands meetings where the entire business gets together and the executive team briefs the workforce on what’s going on, what’s happening in the marketplace, initiatives that we’ve got on, any challenges that we’re facing or any successes that we’ve been able to attain such as… one small example of trying to maintain and develop the culture.

What else has been successful in doing that?

Well I think our technology strategy has been pretty important, so we spend around 10% of our total cost base on technology related expenditure. With financial services, you’re dealing with a product which really does lend itself very nicely to innovative use of technology, so we have a team of around 20 internally who aggressively develop internal systems and platforms.

At the moment we’re just at the final stages of bringing the entire portfolio administration in house so in the early days as well as outsourcing distribution we also outsourced the day to day administration of the loan portfolio and we’re bringing that in house which is a major technology innovation.

So do you use internal people for your technology?

We use a blend. So we have a core of internal specialists but we also insource specialist expertise. It’s difficult for a business to be at the cutting edge of all areas of technology so we would rather have a core team who are very good at procuring know how and various systems solutions and then in source the specific system themselves.

What’s happening in the specialist lending market? You’ve expanded into reverse mortgages to retirees, low-doc loans; a whole heap of new products. Well they’re not that new, but they certainly weren’t around 10 years ago. What are the latest products?

We have three product lines now. We have a residential program, a commercial lending program and a reverse mortgage or an equity release program, and we’ve developed those to meet demands that we’ve perceived in the marketplace for these types of products.

The residential product was our first and that’s provided to borrowers who typically don’t fit within the criteria of either of the major banks or the mortgage insurers, so that could be that they’re self employed but they haven’t been self employed for two to three years, which is what is typically required.

Their business might be trading at a loss currently but they’re perfectly able to maintain mortgage payments and we’ve got a high degree of confidence that they’ll be able to navigate out of any shorter term stress. They may be recent migrants.

They may be raising expansion capital or acquisition capital secured on their residential property etc. so most of those borrower types didn’t get set with the traditional lenders up until the late 90s and so there was quite a substantial segment that was really only served by the private money markets or the solicitor markets so that was our first segment.

We expanded that into reverse mortgage lending in 2003, which is a fascinating segment showing similar sorts of characteristics so quite small, growing faster than the system as a whole with a group of customers who currently aren’t well served.

So this provides for income in retirement secured on the property but delivered in a way where the customer doesn’t have to sell their property and downsize, which has been the traditional route in the past.

Then our third product stream, which was launched recently is similar customer types to the residential program but secured on commercial property, so retail shop fronts or small office blocks, small manufacturing facilities etc. As a business we’re intending just to continue to look for these sorts of segments.

Well what’s the next one that you can see?

We’ve got a number in the pipeline. We’ve only just launched commercial loans so nothing is imminent and we’re probably just going to be spending some time focusing on the core stable of products at the moment before we expand further.

How confident are you that when the economy turns there won’t be a lot of problems, particularly the low-doc residential property loans?

We lend in a way which relies on securitisation, the bundling of loans into a larger portfolio and then the issuing of rated bonds to the capital markets.

We’ve done 14 securitisations since 2002. We’re a major issuer into the local and international capital markets. We’re not necessarily a risk taker so what we do is we originate a billion dollars of loans say, issue bonds into the capital markets and it’s the capital markets that take those risks.

There’s a huge amount of analysis that goes into that securitisation and rating process so we have a fair degree of understanding as to how the portfolios will behave under different stress scenarios and then the big question is well how stressed will the economy get and if there’s a BBB stress then that would suggest a market value decline of X and a foreclosure frequency of Y.

They’re predicting another interest rate rise. What’s likely to happen there? Are you seeing sectors of the market that are stressed?

Sure. In some areas of the economy particularly New South Wales and areas in Western Sydney there’s been real property price declines of between 10% and 20% and therefore arrears levels and foreclosure frequencies have gone up.

If there’s another interest rate increase then that will just further exacerbate the problems in Western Sydney. Happily the Australian market as a whole is actually pretty buoyant and it had quite a sharp property bubble in ’03 ’04, which is unwinding quite nicely at the moment so with the exception of these sorts of pockets of stress the overall market is behaving pretty well.

How is the American drama affecting you?

Well there’s certainly some lessons that can be learnt from what’s going on over in the US. Certainly some of the problems are of their own making and so the US sub-prime market, which is what it’s called over there, is very large, developed and aggressive.

And there’s been a large amount of business written, which is at a very high loan to value ratio and written to borrowers where minimal or no questions have been asked about their ability to actually pay on their mortgage.

It seems very irresponsible that the regulators let that happen.

It does. It does. And I think the regulators at the moment are examining this market and I think they’re on record as saying that they let it go too far and they’re no. The Federal Reserve has published a paper setting out a framework for the more prudent approach to the style of lending.

Happily the majority of the Australian specialist lending market already adheres to the primary tenet of the paper that’s been issued, so I’m hopeful that many of the mistakes made haven’t been made here. That said, no markets are immune to these sorts of stresses and Australia is no different.

Australia’s had an extraordinary run of 16 years of continued expansion and at some stage all of that’s got to end, and there does need to be a correction. The big question is how sharp that correction will be and at the moment the market just seems to be correcting quite gently, which is great.

Now Alistair you’re 40 now aren’t you? Any mid-life crises?

That’s a tough question.

For your 30s you’ve been working incredibly long hours… I would think with just the normal pressures of running a business….

Reasonably long. I try to keep weekends fairly free and I have fairly busy weeks, so typically I work a 10 to 12 hour day. I travel a reasonable amount, which is necessary just in terms of operating in both Australia and New Zealand. We also maintain a number of funding relationships out of Europe that need to be looked after as well but no, no mid life crises that I can detect. I’m thoroughly enjoying myself actually.

What are your plans? You must have had a number of offers from banks, brokers or other companies eager to get into this market.

Well part of being a good chief executive is keeping a very open mind and an open door to those sorts of ideas, and yeah we do get a number of parties that approach the business with certain ideas so again I would spend probably 10% to 20% of my time handling external relationships and those sorts of opportunities.

There’s no doubt there’s some fantastic businesses out there that we could partner up with or team up with. There’s a number of very interesting looking product types or market segments.

The world is a big place and we’ve got some quite innovative product models and funding and distribution models, so we’re keeping a very open mind and just see what comes up.

And you’re committed to the long haul. No plans to get out?

No, no plans to get out so long as I’m enjoying myself which I certainly am. I’ve got no plans to change. The satisfying thing about being an entrepreneur is seeing the results of your labour and being able to work with a good quality team, that’s one that you’ve formed and developed so I’m keen just to continue on and see what we can make of Bluestone in the years to come.

Well let’s hope for all our sakes interest rates don’t rise and our good times continue.

This is an edited transcript of the interview with Alistair Jeffery, which is available as a podcast.