I am not at all sure lessons have been learned…yet. You’ll find a good list, though, in the Feb 2009 RMA Journal article by J. Tol Broome Jr, EVP and Specialized Lending Group manager of BB&T in Winston-Salem, NC on “Eight Lessons Learned from the Credit Crisis“.
Mr. Broome’s focus is bank-wide, so think about how you can apply these lessons at the lender-level.
1) Underwrite Your Own Risk
I agree with Mr. Broome that if you ‘originate to hold’ you are better off if you are stuck holding. And if you are participating with another bank, and they have done the initial underwriting, you still need to underwrite it yourself.
If you are underwriting for a secondary market, as is the case with Fannie Mae residential mortgages, be sure you understand their guidelines so you can underwrite a qualifying loan.
Clearly the underwriters at your bank need to have the skills, information and training to do this well. To the extent the lenders and/or business development officers also understand the fundamentals, the entire team improves the risk equation. (See 8 below).
2) Make Loans That Can Be Repaid
If you have been following my articles or blog posts for long you know my emphasis on cash flow. Even on asset-based loans, the cashflow is the back-up plan in case of a drop in value on the asset.
And owner/guarantor cashflow is critical on a guaranteed loan, as is their balance sheet and liquidity. With an asset-based loan, the owner/guarantor cashflow may be the third line of defense. But in this economy, you may get to that third line of defense to get your loan paid.
3) Require Equity
Borrower ‘skin in the game’ accomplishes two things. First, if it hurts the borrower to walk away from the loan maybe they’ll try a bit harder to find the way to pay it. Second, a borrower has a better chance of weathering an economic storm.
4) Stick to Your Core Competencies
While Mr. Broome was referring to the bank’s core competencies, I suggest that individual lenders consider this lesson as well. As you move into other types of lending and niches within your bank, consider what you need to do to develop that as a core competency. Ask yourself what you should be reading, what senior lenders should you seek out as mentors, what additional training do you need, what conferences should you be attending to improve your competency in what is new to you?
5) Diversify Your Portfolio
Assuming that the bank is following the recommendations above as to core competency and underwriting their own risk, diversification can help reduce concentration risk. This can be loan and type, but also geographic and the mix of CRE versus C&I. At the lender level, understand the diversification strategy at your bank so that you can be looking for the opportunities that are a good fit.
6) Maintain Granularity
I think this one is interesting because it speaks directly to a favorite strategy in many banks, relationship banking. At the bank level, Mr. Broome suggests both the information and the discipline to assure that the lending exposure to a single client is not excessive.
This can lead to uncomfortable situations for an individual lender or business development officer or branch manager in dealing with clients. In some cases, especially with economic challenges weakening some of your business borrowers, the bank may need to reduce exposures.
You can help by staying in close communication with your business borrowers. See my post on the two new C’s of Credit. Stay on top of overall exposure to your larger clients to minimize the surprise of a possible cut back in credit. What alternatives can you suggest for your customer? Work with your more senior lenders on how and when to reach out and communicate with your business borrowers to have the most current information possible.
7) Know Your Counterparties and Loan Participants
This is clearly bank level, and requires that the full participation be determined before the loan is closed.
8 ) Everybody Owns Risk
I believe this is a key for the individual lender, business development officer and underwriter…and anyone else in the loan decision chain. There has been traditionally a huge tension between business development officers (or whoever plays that role in your bank) and the underwriters. It seemed like the BDOs or front-line lenders were responsible for loan quantity and the underwriters were responsible for loan quality.
Ridiculous! The bank only does well if both are in play, quantity and quality.
I love it when the business development officers sit in on a training on Tax Return Analysis. I tell them at the get-go that they will learn how the underwriters see things so that they can spot red flags and loan opportunities in those initial conversations with the borrowers. They’ll learn to do a ‘quick and dirty’ version of the more thorough review the underwriters will do. That way they can bring in the deals with a good chance of making it through the process and provide the underwriters with the additional information they may need to overcome challenges in the credit.
What other lessons do you think have been learned, or should be learned, from the credit crisis?