By Jim Devine
In the financial institution world, recently there had been much ado about something: S. 2231/H. R. 1418, the Credit Union Small Business Lending Enhancement Act. This significant piece of legislation would have lifted the credit union business lending cap from 12.25% to 27.5% of assets, helping close the credit gap and providing a much-needed boost for Main Street businesses.
For credit unions, their very survival is based on the ability to find new sources of income. In an environment where the traditional three revenue streams of consumer credit—net interest margins, yields from investments and fee income—are drying up, member business services may be an oasis for thirsty income statements.
Make no mistake, this salvation does not come without its challenges and pitfalls. Credit unions embracing business lending for the first time are struggling with the lack of expertise within their lending ranks. The solution to developing bench strength is to invest in underwriting and loan origination training. However, members seeking business loans will also want accompanying services, such as cash management, merchant services, employee benefits, and so on. There will be a significant investment and ramp up of staff and expertise needed to accommodate a full suite of products.
Assuming a credit union makes strides in these arenas, that leaves the elephant in the room: credit administration. Credit administration is the “now what” after a loan has been originated, managing risk over the life of a loan. But just because credit administration comes later, by no means should it be an afterthought.
The goal with credit administration is to never let the credit union’s risk of getting repaid worsen. For each loan, the risk should be what you expected when it was originated or improve over time. Good credit administration is anticipatory and addresses the question: Is the borrower walking the talk and doing what was promised and expected when the loan was originated? A comprehensive program includes your loan committee process, risk rating system, annual reviews, monitoring covenants, and collateral management. Paramount is adequate detection methods that help you keep in touch with borrowers and notice any yellow flags that arise before they become red flags. You want to avoid at all costs a workout or bankruptcy situation that could be catastrophic.
In my extensive work with regulators, I hear time and time again that a lot of what they are dealing with are issues that arise after a loan is originated. Part of the problem starts at the top, with credit union leaders who may be good ALCO mangers but have limited commercial credit experience. Some credit unions counterbalance this gap by outsourcing credit administration. The caution here is that you still need expertise in house to provide appropriate oversight to your vendor. Regulators recommend that you outsource because you don’t have capacity, not because you don’t have knowledge.
Another good piece of advice for credit unions dipping their toes into the business lending pool for the first time: don’t be nicer, cheaper, and easier. Instead, be competitive and better. Let me explain. Part of my job is to do portfolio reviews. I looked at 40 loans at one credit union and found that not a single applicant was previously a member. Further digging revealed that the only reason they came to the credit union was because they were struggling with their banking relationship and the institution suggested they find funding elsewhere. Credit unions shouldn’t need to settle for someone else’s leftovers. You may be on a learning curve with expertise and building infrastructure, but will make up for that with heart and a passion for helping consumers. Do it right, and you can pick and choose the borrowers you want.
As you build member business services and start originating loans, credit administration needs to be in place to protect the organization. There is a rule of thumb in business lending that 10% of your loans will take up 90% of your time. Make sure you’re ready.
Jim Devine is founder, chairman, and CEO of Hipereon, Inc., and a specialist in the credit delivery processes of financial institutions and the financial management of small business.
Devine will share his expertise as an instructor at the CUES Advanced School of Business Lending™, March 11-15, in Miami.
