Sovereign Bancorp is investing $10 million in ailing Mego Mortgage Corp. in a bid to capture the higher profits of nonbank lending.
Sovereign, in Wyomissing, Pa., will own 9% of Mego, Atlanta, a high- loan-to-value lender that has seen a rise in prepayments. Sovereign is making the investment through the purchase of Mego's Series A convertible preferred stock, which is convertible into Mego common stock after two years.
The transaction will let Sovereign "explore the high-income-generating consumer finance market without incurring the inherent risks associated with the start-up of a new division" or purchase of a company, the bank said.
Sovereign will generate referral income from people to whom it denies loans but passes on to Mego.
Despite Mego's recent troubles, the company has "moved proactively to address the new realities of securitization and gain-on-sale accounting ... and assembled a very talented management team," said Jay S. Sidhu, Sovereign's chief executive.
"We are confident that Mego can re-establish itself as one of the leading high-LTV lenders in the country."
Mego also got $10 million from City Holding Co., Charleston, W.Va., and $10 million from an unnamed private investor. City Holding and the private investor will each own 9% of Mego. City Holding will also receive an option to buy an additional $10 million of Mego common stock over the next two years, at $1.50 a share.
Additionally, City Mortgage Services, City Holding's loan servicing division, will acquire the right to service securitized pools of Mego loans.
Mego's stock, which has fallen significantly in price since the company first announced in December that it was taking a charge to cover losses, was virtually unaffected by the news, which was announced Wednesday evening. Shares of Mego closed Friday at $1.75.