Credit Union Business Lending Trends: Back to the Future

I once worked with a football coach who regularly said, “You are never as good as you think you are when you win and never as bad as you think you are when you lose.” This axiom is the perfect starting point for a review of the commercial lending industry for credit unions in 2023.

Many of us live the day-to-day life of increasing liquidity pressures and interest rates, which obviously has played a role in every aspect of lending. This was the first year since 2019 without some sort of pandemic era induced liquidity excess or low rates. In other words, we are slowly getting back to a “normal” environment. By using the NCUA September 2023 data, we can take an in-depth look into the performance of credit union commercial lending in 2023 compared to previous years. We can also make some prognostications about the future.

Volumes Are Down, but Let’s Not Panic

In 2023, we saw an expected pullback in commercial loan volume play out. The first three quarters of the year saw $25.41 billion in commercial loan volume, which is dramatically lower than the $41.14 billion over the same period in 2022. More than $8 billion of this year’s volume reduction was concentrated in just 25 credit unions. These credit unions are primarily focused on larger commercial real estate transactions. While the loan dollar volume dropped 38%, the actual number of business loans being funded for members dropped only 12%. This resulted in the average loan size decreasing from slightly over $600,000 to $432,000. While 427 credit unions lowered their commercial loan volume in 2023, the same number of credit unions increased loan volume compared to 2022. Despite the many obstacles in 2023, credit unions are still doing a tremendous job in serving business members with smaller dollar needs.

And what about the $25 billion in commercial loans funded in 2023? How does that compare historically? The industry will need to reset its mindset by acknowledging that the 2020-2022 timeframe was an anomaly and we most likely won’t revisit those figures for quite some time on a macro-level. If you turn back the page to Q3 2019 data, you will see that the industry funded $16.65 billion in commercial loans versus $25.41 billion in 2023 over the same period. Many of us would consider a program that grows an average of 13% annually to be downright successful. Even in this down lending market, the commercial loan portfolio grew by 16.50% year over year from September 2022. Credit union executives pressuring the lending staff to repeat their pandemic era numbers may be disappointed. However, those with a longer term view of goals for your credit union will find today’s results fit in nicely.

Tough Time to Sell, Great Time to Buy

There is one facet of commercial lending that credit unions have struggled with, even when looking back historically. The loan participation marketplace is brutal. The amount of commercial loan participations purchased in 2023 has dropped to $2.05 billion from $4.87 billion over the same period in 2022. Going back to the 2019 industry figures, loan participation purchases have dropped by over $200 million at a time when loan volumes were nearly one-third less than current levels. Fifty-two credit unions purchased over $10 million in commercial loan participations in 2023 versus 144 credit unions reaching that threshold in 2022. When you look closely at credit unions purchasing loan participations, the list primarily consists of those credit unions that have historically purchased loans either because they do not have a large staff internally or they were part of an established CUSO in previous years.  Time after time, we hear from credit unions that they are retrenching and allocating their dollars to fund loans internally rather than working with credit unions and CUSOs on loan participation transactions.

Cooperation among cooperatives is a key principle of credit unions. As liquidity markets stabilize, placing a portion of your loans as loan participations makes sense for your credit union and the industry. You may still find it difficult for an extended period if you rely on a business model of originate loans, participate and repeat. However, if you use the loan participation model to maximize your internal and regulatory limits along with balancing credit risk, we will all have a healthier industry. Take the time to establish good working relationships and understand everyone’s liquidity position before you need to identify participation partners. Also consider becoming part of a CUSO or marketplace with a roster of buyers and sellers. If credit unions freeze the loan marketplace by denying quality credits due to liquidity concerns, it will create reputational risk for everyone. Re-entering the marketplace may not be as easy as you think, as borrowers and loan participation partners will have a long memory. It is easy to be a participation partner in times of free-flowing liquidity, but the current environment is when we truly look to build on the cooperative spirit our industry was founded upon.

Credit Quality Will Have Stress, so Plan Now

Delinquency is rising. Period. Over the past year I’ve been evangelizing to everyone that will listen that commercial loan delinquency will rise and eventually charge-offs will occur. That message needs to spread to C-level executives and boards so that everyone can financially and mentally prepare for the eventuality. Commercial loan workouts are painfully long, expensive, and often involve high profile people or businesses in the community. In one year, credit union commercial loan delinquency rose 23% to nearly $682 million. The percentage of delinquent loans has risen only to 50 basis points, but that figure is masked by the large number of new loans funded in 2021 and 2022. When you look back four years, the overall delinquency was 81 basis points, so we are below the historical figure, but the trend line is increasing steadily each quarter. What is different this time around from other surges in credit union delinquency is the across-the-board spread of this year’s delinquency rise. In the past, commercial loan delinquency increases have been concentrated in a few loan types or regions. For example, until recently a large percentage of delinquency was tied to legacy taxi medallion portfolios. The 2023 rise in delinquency has seen it spread among many credit unions as opposed to a few problem credit unions leading the pack. It is inevitable that certain segments of commercial real estate will have issues as loans reprice to much higher rates with higher vacancies in 2025 and beyond.

What can your credit union do to prepare for your inevitable business loan delinquency or charge-off? First, don’t point fingers. Delinquency is a normal part of any business loan portfolio and business cycle. Sometimes sound loan decisions do not turn out the way we expected. Proactive management is key to minimizing losses. If you wait until you see a loan in the delinquency queue, it is often too late. Closely monitor NSF checks and taxes but remember that there is no replacement for an old-fashioned conversation with your member or an onsite visit. Finally, managing business loan workouts and collections takes expertise. It can be difficult at times for the same people who made the loan to separate themselves from the collections process, so consider bringing in third-party expertise to assist with the process.

Focus On the Future

It is during difficult times when credit unions have shined the brightest with small businesses, especially during the commercial lending boom of the past two decades. We are entering an era where portfolio management should have the same or greater resources as the origination function at your credit union. For some institutions, that may mean additional hires or shifting responsibilities. For others, it may involve bringing in CUSOs or consultants if the economics of full-time staff members do not make sense. Do not focus on comparing yourself to last year but focus on this year’s success and the impact you can make on local communities. Record numbers of small businesses were formed during the pandemic era and many of these businesses will be maturing and need credit union services such as SBA loans, working capital lines of credit and depository needs. This will be a shift from the real estate heavy portfolios funded over the past three years. The current environment is a great time to reset your program and make sure you are built for success in the future.

Mark Ritter is CEO of the CUSO Member Business Financial Services and its subsidiary, Nu Direction Lending, in Philadelphia, Pa.