The shifting sands of the consumer lending marketplace have caused the traditional loans (auto loans, home equity loans, and mortgages) that credit unions know and trust to either become scarce or thinly priced due to competition for each deal. Couple this with generally increasing costs, like regulatory compliance and provision expense, and credit unions will need to find other loan products to pursue. Member business lending should be one of the first loan product expansions considered.
Member business lending is not without its risks. However, if a credit union is prudent in its approach to this arena and takes the steps necessary to appropriately manage its costs and mitigate its risks, then it will create a win-win experience for both the business member and the organization’s bottom line. If the credit union falters on either expense control or risk management, the member business lending experience will not be as satisfactory as initially planned.
First and foremost, investment in the appropriate human resources is of critical importance. Business lending is much different than consumer lending. Promoting someone from the consumer lending function into the business lending function elongates the learning curve associated with business lending. This may also create a bit of a reputation risk for your organization as your business members may lose patience teaching the fledgling business lender the nuances of business and their borrowing needs.
From the aspect of compensating your business lending officer, should you decide to include an incentive program as part of their total compensation package, make sure that these incentives are linked to the member business lending portfolio’s performance over time. Allow each loan to age for at least 12 months from origination before providing an incentive. This not only encourages quality loan originations but also creates a disincentive for a successful business lending officer to leave the organization.
Similarly, remember that slow but steady wins the race. Set realistic loan volume goals that build the portfolio without creating unwise risk for the organization. Ten $50,000 loans are typically better than one $500,000 loan from the perspective of diversification of risk. Also, think for a moment what would happen to the delinquency rate on a small member business lending portfolio if this $500,000 loan went delinquent. (On a $10 million portfolio, a delinquency rate of 5% would result and would probably attract some level of regulatory attention.)
Consideration should also be given to providing Small Business Administration loans to your members. This could be readily achieved via an outsourcing channel and several companies provide this option. Moreover, if negotiated up front, a few of these companies might allow you to repurchase the portfolio created from your referrals at some point in the future (once the member business lending function has grown to a certain size).
Managing the costs associated with a business lending function is also critical to the eventual success of the program. For a program that is just being initiated, give serious thought to outsourcing the credit underwriting function as the portfolio is built. In most instances, unless the organization is consistently underwriting 10 business lending requests a month for at least six months, it is less expensive to pay as you go by hiring an outsourced professional.
From a marketing perspective, costs can be contained through marketing to existing relationships. If your credit union is SEG-based, start with these select employee groups as potential borrowers. If not, use existing e-mail addresses and website banners to announce the availability of member business loans and ask for referrals. By building from within, not only will the costs be trimmed, but the likelihood exists that you will have less risky borrowers apply.
Member business loans are not a set and forget type of product. Updated financial statements must be requested and re-underwritten on at least an annual basis. Collateral valuations may need to be done more frequently depending upon the type of loan and collateral. Be sure to invest in both a system and appropriately trained personnel that will allow for the proper and timely monitoring of the member business lending portfolio.
One final way to mitigate risk within the business lending portfolio is to engage a qualified third- party loan review professional to at least sample the portfolio on an annual basis. Not only will the investment in this resource validate that the underwriting standards required by your loan policy are being adhered to, but it can also help to highlight both risks and opportunities within the portfolio. Prospectively, the regulators will most certainly make this a requirement as the overall portfolio grows.
Through the investment in appropriate staffing and systems and prudent management of costs, a credit union can be very successful in the member business lending arena. Now is the time to start.
Jim Simon is the president of Akcelerant Advisors LLC.
Contact 610-232-0157 or [email protected]
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