Commercial Lending in a Post-Recessionary World

Business borrowing isn’t what it used to be, so take some basic steps to better position yourself to land the loan.

By Tim Barron

If you were to take an historical look at commercial lending, you would notice one constant, and that is change. The banking industry has ebbed and flowed along with the country’s economy, providing times when capital is abundant and times when it is scarce. 

There are a lot of factors behind this constantly evolving industry, but the primary drivers are economic and regulatory driven. All banks are governed by some overseeing government institution, whether it be a state or federal body. These bodies of government are charged with ensuring that banks remain healthy and a stable source of capital for their clients. 

The recession created a state of severe uncertainty and panic in the banking world. Businesses were shutting down daily and defaulting on loans, causing banks of all sizes to incur severe losses, which in turn resulted in many banks’ failing.

If we look at the recession as a learning curve for how banks should behave going forward, one change is the evaluation of credit risk. Credit risk can be defined as understanding the likelihood that a loan may fail and, if it does fail, the likelihood that the bank will take a loss on that loan. 

At the end of the day, the bank lends money with the intention of getting all that money back, plus interest. Seems simple enough, but calculating that risk of not getting all your money back is anything but simple.  Not to mention, the bank needs to be right about 99 percent of the time, or it could be at risk. No pressure, right? Credit risk is a living, breathing idea that banks contend with daily.

In strong economic times, a bank can get away with bad decisions, but as soon as the economy declines, you see which banks are properly managed and properly positioned to succeed. 

Not many positives can be taken away from the recession, but it did force banks to be more calculated on how they lend money. Long gone are the days of no-money-down lending with repayment sources being based on the hope of future cash flows and no historical financial data. It is no longer a race of asset sizes to see which bank can outgrow the next. It is now a time where a bank needs to be in a good capital position to sustain any future losses. 

Banks are being smarter now and using partnering loan pro-grams to help mitigate risk. The SBA and the USDA are both excellent examples of how the government has stepped in and provided banks a way to get money to those who might not otherwise qualify. So, what does this mean to the everyday business needing capital?

You need to go into a meeting with your banker being prepared. You need to be able to justify why the capital is needed and how it will be repaid. A banker needs to see that you have done your homework and you have thought through the risks, just as the banker is going to have to prove in the underwriting and approval process.

Another change from pre-recessionary banking is being able to prove to the bank that you have capital to support any additional working capital needs in the event of a downturn. Before the recession, banks would take on all the risk and not require the borrowers to put down cash or maintain capital reserves. Now, the borrowers need to show the banker they are ready, willing and able to inject capital if the unforeseen happens.

Meeting with your banker should never be a situation of “proving you are worthy” for funding. It should truly be a partner-ship. Your banker should be able to take your information and help to structure the capital in a loan that makes the most sense for the business owner. 

Far too many times, I have seen in-experienced bankers acting as order-takers instead of problem-solvers. A strong banking relationship involves collaboration and transparency. We are in this together with our clients, and the better and more sound we can structure a loan, the better chances for our client’s success.

So, as economic times flourish or flounder (depending on the day, sometimes) the one piece of advice I would give is to hope for the best, but always prepare for the worst. Do not turn a blind eye to weaknesses in your capital structure. Develop a strong and trusting banking relationship, and you will be able to weather any storm.