Lenders who once aggressively sought out small business owners have undergone a change in their lending culture and now highly scrutinize these loans. As a result, small-business owners find themselves at a disadvantage in today's credit environment
What does this mean for the credit union industry? More opportunity to demonstrate our interest in small business owners, their companies, and more importantly, their success. More than ever before, we now have the opportunity to engender that long, lost goal: loyalty.
As other institutions have walked away from small business lending, it provides credit unions with an opportunity to seek and build relationships. These companies, trying to expand or just survive in today's economy, are looking to partner with institutions that understand the cyclical nature of the economy and are willing to assist them through its ups and downs.
Just as the world of credit has changed, the type of services that small businesses need has also changed. Today's members are looking for mentors to assist them with not only their day-to-day needs but also in planning and increasing their company's viability into the future. Providing this different type of service will help you capture the business and extend services to the owner.
While a strained economy brings greater inherent risks, the appropriate due diligence and credit standards will assist in mitigating these risks. It's essential to understand the nature of the business you are working with. The key is to understand how the company has performed in the past and how the company is currently performing. Couple these "then and now" factors with the future and this "tri-theory" will ride the test of time.
Your ideal borrower should always be able and willing to discuss the tri-theory with you. The capacity to understand the business yesterday, today and in the future will give you a clear idea of the businesses' ability to succeed. Interviewing the business owner and seeing the passion he or she carries for the company in their eyes will give you a clear picture and assessment of someone interested in succeeding. If an owner can't articulate the plan and the future of the company, it's likely that it's not the deal for you. There will be temptation to slip away from these basics, but making sound decisions every day will affect the profits of your credit union tomorrow. There is plenty of good businesses out there, and it's your credit union's job to find those businesses.
Sorting through the deals, known as prospecting, is imperative. It is important to choose deals that best fit the strategic direction of your credit union. Once identified, bringing deals through the door quickly and competitively is crucial. Experience has demonstrated that it is more cost effective to seize the opportunities early. By doing so, you will spend more time on opportunities that you will make versus deals you won't make.
While supporting borrowers is always a priority, it is equally important to recognize that small-business loans pose significant risks if they are not properly underwritten. A key component of strong underwriting is the need to have tangible collateral because of the high failure rate of businesses today. The failure rate has increased significantly in the current economy and doesn't appear to be slowing down. As a lender, we have the responsibility to apply varying levels of underwriting based upon the loan request amount. The more you lend to a borrower, the more collateral you need to secure. The next step would be valuing the collateral. The business assets of a small home office often include as little as desk equipment and carry no liquidation value. The key is to secure as much real collateral so that upon liquidation there will be value left on the life of asset. Securing an SBA guarantee will assist with mitigating credit risk and reduces exposure as well.
The projections provided by the small business are good to understand and underwrite. However, you can't rely on projections to repay the debt. Reliance should be based on actual company performance. The ability to repay the debt is critical. Emphasis on three key factors will generate quality credit: cash flow as the first source of payment, the guarantor as the second source of repayment, and finally the liquidation of the collateral. Some lenders fall into the liquidation trap as a source of repayment when it should be viewed as an exit strategy.
In spite of the economy today, the reason to service small businesses continues to be the same: small businesses drive growth and income to your credit union by way of loans, interest income, deposits and fee income. Small businesses typically utilize checking accounts, debit cards and loans as well as investment vehicles such as certificates and money market accounts.
The key to the industry's success with small businesses lies with capturing their hearts and souls, meeting their needs in a way that other financial institutions cannot. Through personal knowledge of the member and the business, credit unions build trust and a strong reputation in the business community.
Jean Faenza is president/CEO of Business Partners LLC, a member business lending CUSO. She can be reached at 818-836-6301 or [email protected]
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