What Has Changed in Small Business Loan Portfolio Monitoring in the Last 10 Years?
As we enter the next economic downturn, the time has come to hit the pause button and assess a few lessons learned from the 2008 financial crisis. As we look over the past decade, we can find areas to apply that knowledge to the new world we live in today.
Different from 2008, today the federal government has made legislative changes protecting the small business owners and community with the Payroll Protection Program. Virtually every financial institution I have spoken with in the last 60 days has now scrambled to deploy a strategy with both clients and prospective clients to fulfill the needs of the PPP program. Now, we face the challenge on how we track these loans and monitor these relationships. Additionally, how do we satisfy the SBA’s requirement for Forgiveness, and assess this newfound risk we as a financial industry have just taken on in the last 30 days. Ironically, this all just happens to coincide with what some would consider a CECL “pandemic” that impacted the publicly traded institutions as well.
My observations in the last 12 years in what high performing banks did to survive and thrive in portfolio risk management and monitoring:
Automating the portfolio monitoring processes is not just for big banks anymore.
Some of the greatest lift the Baker Hill team has seen in automation over the last five years has come from institutions in the $1-$3B asset range that have been proactive in automation here. Kudos to the leadership team of the smaller financial institutions that have taken this leap of faith in technology and now have the infrastructure in place to monitor the PPP portfolio while also improving their efficiency ratio.
Internal Core System data does not tell the whole story, so banks and credit unions must leverage external credit data in tandem as well.
Over time, borrowers have realized and become much savvier as to how to prioritize which creditors get paid and when. As their banker, you are likely their highest priority for re-payment, but how do you know when they have gone delinquent with other creditors? And in doing so, wouldn’t delinquency with other creditors become a “leading” indicator and therefore more predictive?
Financial Statement data is not a leading indicator, but a trailing indicator.
As a kid, it was always nice to look out the back window of the station wagon on vacations to see where we came from, but thankfully Dad was driving, and Mom was navigating the curvy roads ahead. Folks, I got news for you, almost all small businesses are going to look good based on financial statement and tax return data from 2019. For a small business relationship (thanks to PPP) you may need to re-evaluate using this as a tool for your small business relationships. This requirement will never be replaced for your larger relationships, such as your CRE portfolio, but for the thousands of new small business relationships, many of which below $100k, it will only slow your process down and make the bank more inefficient.
So, without relying on financial statements on a small business relationship, what are other more predictive leading indicators?
By segmenting your portfolio and starting small. If you harness your internal core system data to monitor metrics like payment performance, line utilization and deposit trends, and then combine this with a quarterly rescore from Experian that provides one of the industry’s most predictive blended credit scores, you no longer need to rely on financial statements that burden both your team and your small business client.
For those documents that are required by your auditors and examiners, you can provide your small business borrowers a portal to upload this information securely.
Based on a 2019 study by Oberlo, Generation X represent 44% of new business owners today.
Being the first of the paperless generations, they are more than comfortable delivering necessary information electronically to your institution. They do not like spending money on paper and ink cartridges any more than I have the last eight weeks at home, so let’s save a few trees and provide them the means to deliver this critical information electronically. There are even a handful of LOS systems today than can now extract your clients tax return and financial statement data electronically from your clients accounting systems, making the process even easier for both borrower and banker. Ask your rep to learn more about this option.
And finally, an automated PRM system isn’t just to find delinquent accounts anymore.
As with our overall economy, the small business segment will ebb and flow with success. Businesses that may have struggled in their first year will hit their stride in the second or maybe third years. The data is there, and technology rules now exist that will identify opportunities in your small business portfolio as well. Collecting historical trend data will support where you can safely expand your relationships in the future. For some small business owners, they won’t think to ask you to expand their line of credit with you but have demonstrated historically both the propensity and capacity to so. Trust your technology partner and their best practices to identify those relationships that you can expand on, before your competitor beats you to it!
Posted on May 15th, 2020 at 8:41 am
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