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Credit Risk Review in (and Out of) a Pandemic Recession | Ancin Cooley

Loan review is always an important risk management function. Some would say it becomes more important in turbulent times. I would say that good loan review practices even when we are on easy street, set the stage for successfully weathering the turbulence. Today we will focus on the loan review function, and how the pandemic might, or might not, impact it.


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Resources

Synergy Credit Union Consulting: https://syncuc.com

Synergy Bank Consulting: https://synbc.com

YouTube: https://www.youtube.com/channel/UC_dkqDh0BVb2aWXZi7DQ0xQ

Linkedin: www.linkedin.com/in/ancincooley

Interagency Credit Risk Review Guidance:
https://www.federalregister.gov/documents/2020/06/01/2020-10292/interagency-guidance-on-credit-risk-review-systems


About Ancin Cooley

Ancin Cooley is certified and certifiable. He is a CIA (Certified Internal Auditor), CISA (Certified Information Systems Auditor) and is the founder and principal of Synergy Credit Union Consulting, Inc., and Synergy Bank Consulting, Inc. Synergy provides a suite of risk management services to financial institutions, which include loan reviews, information technology audits, internal audits, directors’ exams, and regulatory compliance reviews.

He comes by that knowledge from a wealth of experience. Prior to founding the firm, he worked as an OCC examiner working with banks from $100 million to $8 billion dollars in total assets. And he worked for a regional accounting with a focus on internal audits, loan and pre-regulatory examiner reviews.


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Transcript

Hi, this is Linda Keith CPA with Credit Risk Ready, a podcast where we interview senior credit and lending professionals from community financial institutions across the United States, their regulators, and banking advisors to better understand and mitigate credit risk.

Loan review is always an important risk management function. Some would say it becomes more important in turbulent times. But I would say the good loan review practices, even when we’re on Easy Street, set the stage for successfully weathering the turbulence.

Today we are going to focus on the loan review function and how the pandemic might or might not impact it. To help us with this topic we have Ancin Cooley, a certified internal auditor and a certified information systems auditor, and founder of Synergy Consulting, providing a suite of risk management services to banks and credit unions, which include loan reviews, information technology audits, internal audits, directors’ exams, and regulatory compliance reviews. Add to that, Ancin is a former OCC examiner with experience working with banks from $100 million to $8 billion in assets size and he worked for a regional accounting firm with a focus on internal audits, and loan and pre-regulatory examiner reviews.

Welcome back, Ancin.

Ancin Cooley:

Thank you, thank you, thank you. I’m a loan review evangelist. I love the function. I’m excited about to be able to kind of get geeky with you. I had the pleasure of being the lead exam grader for the BAI loan review certificate for five years. I’m also the current instructor for the Louisiana Banking Association’s loan review course. I’ve been doing that for the last 10 years. I’ve come across a lot of loan reviewers. I’m just excited about talking about it as a function because I think that it doesn’t get enough publicity and doesn’t get its roses the way it should in terms of how it helps institutions function. I’m excited about talking about how the pandemic has affected loan review or, as some people would call it these days, credit risk review.

Linda Keith:

Okay. Well, you know that I could call you the loan review guru. Right? Loan review guru. I like the sound of that.

So, Ancin, let’s face it: we are either in a recession or we are between recessions. Recessions are always in our future unless we’re in the middle of one right now. Let’s tee this up with your thoughts on whether or why the loan review function should be significantly different in a recession than it is when we are between recessions.

Ancin Cooley:

Let me say this: I think that loan reviewers, in my opinion, have to be even technically skilled and emotionally intelligent, in and out of recessions, in good times and bad times. I think that loan reviewers in this time have to be cognizant of some of the concessions that have been made in the last 12 months. But then also be wise enough to know that if there was a borrower that was having issues before the pandemic, the pandemic only exacerbated existing issues. We need to be able to understand the starting points of potential weaknesses that eventually turned into well-defined weaknesses.

Linda Keith:

Could the reverse be true? One of your borrowers that actually seems to be doing well. They happen to be one that would do well in this recession but, actually, it hasn’t cured their fundamental problems from before. Maybe it is a restaurant that’s got a lot of takeout, so they did get more business during the pandemic recession. But if and when we ever go back to more sit down and so forth, if they aren’t strong there, too, and they were having trouble before, maybe their good news is temporary, just as sometimes the setbacks are temporary.

Ancin Cooley:

Absolutely. I think through loan review, you don’t want to ever step into a room with your biases and your opinion. What I mean by that is this: you always allow the financial statements and analysis that you can discern through those to drive your conclusions around the business model, the management, and the different things that can affect a particular relationship that leads you to an accurate risk rating.

Linda Keith:

Isn’t it loan management that has to kind of protect that credit culture? That has to see in their lenders which ones are having challenges with some of those biases they’re bringing to the table about restaurants do or don’t do well or other kinds of businesses? Isn’t it loan management that has to recognize that someone is not being balanced at the origination space and help coach them to improve on that?

Ancin Cooley:

That’s interesting that you say that. You mentioned at the beginning. You said loan review risk management function. I would slightly push back on that a little bit and say that I prefer loan review or credit risk review to be an odd function. A function that sits in the third line of defense, not in the second.

Linda Keith:

Really?

Ancin Cooley:

Different institutions do it differently in that some institutions have loan review report up to the chief credit officer, which is a second line of defense function. But in my opinion, that creates an independence issue. Because if loan review is reporting to the same person that credit analysis reports do, what if loan review needs to criticize credit analysis? What if loan review needs to criticize the appraisal management function or the appraisal review function? What if loan review needs to criticize the portfolio risk management function, but they don’t have the institutional support to be able to make those statements because they’re reporting to the chief credit officer? I find that stronger, in my opinion — let me preface that — institutions give loan review to space to be completely independent, so that they can speak truth about those various functions.

Linda Keith:

So, loan review would be not above, but to the side of credit function in terms of…

Ancin Cooley:

You would have different circles of control using this term. You have loan production. Then you have credit analysis and credit administration. Then outside of that you have loan review. Then outside of that you have your regulatory review that can criticize loan review, credit administration, and loan production.

Linda Keith:

External audits or extra loan reviews. They also come in that loan review circle, then?

Ancin Cooley:

Correct, correct. Again, for those of you that are glitching, because I’m not using the new… So, at some point in time in the last three years, we went from calling things ‘loan review’ to ‘credit risk review.’ Even, I wanted to mention, that there was some interagency guidance called Interagency Guidance on Credit Risk Review, something that I was looking forward to for years for that to come out. But in a lot of ways, I was — just be candid with you — I was slightly disappointed that it didn’t give credit risk review or loan review the mandate and the institutional support that it needs to really lean into some of these conversations and provide them with the cover it needs. When you look at, if I may opine on this for a second because I want to do…

Linda Keith:

Please do because this is an area I’m not good at. I need you to jump in and help me, even with the terminology, clearly.

Ancin Cooley:

Absolutely. I feel as though credit risk is the highest risk in a financial institution. Kind of old school. When I came on at the OCC, I always heard that asset quality will close a financial institution faster than any other CAMELS rating. However, when you look at budget allocations for as far as audit resources, you find that IT and BSA get the, I would say, the largest allocations, and loan review doesn’t. You know why? Just give me an idea. Loan review. When you have a strong loan reviewer in the house, if you will, that’s institutionally situated as an officer, that individual can box at the same weight class as the chief credit officer and the loan review to protect the institution.

But a lot of times that can become frustrating to loan production, because it always seems like they’re the fly in the ointment. But I submit to you this: if I’m a CEO and I’m building my car, if I’m going to put a V12 engine in it, and we’re going to go fast and we’re going to go swiftly, I want to make sure I have the brakes and the suspension to support how fast we want to go. You want to make sure that your loan review department is just as strong as your loan production, so that you can sleep at night.

Because, for the CEOs that are on the call, say you wanted to grow by 10 to 12% over the next three years, but you’re worried about how it’s going to affect asset quality. Wouldn’t it be better to have an independent individual or department within your institution that will look you straight in the eyes and say, “You know what? We looked at 30% of your portfolio, and you know what? Looks good.” Or maybe, “Hey, in this particular area you’re doing fine, but I’m seeing some softness in the underwriting in this area.” Denial won’t help you. I find that CEOs, institutions, that embrace loan review as a function go faster and safer.

Linda Keith:

Seems to me, as you say all of this, it sounds like it makes total sense that if credit risk review/loan review is able to identify areas that aren’t working so well, that gives the CEO the opportunity to go to work on those areas and shore them up, or whatever needs to happen. Whereas if nobody is sort of ringing the bell that this is an area that we’re not as strong in, or we’re not documenting as well, or we are avoiding when we don’t need to, or vice versa. If nobody is bringing that up, then the CEO, and management, and for that matter the board, they don’t have the opportunity to identify and then improve in areas that will strengthen the financial institution altogether.

Ancin Cooley:

I think another way that a loan review can do a better job and in some ways of selling itself is not just being a “gotcha” function. Meaning perhaps having conversations, again, in an emotionally intelligent way to where you’re not dancing because you’ve got to downgrade, but you’re showing where there were weaknesses. Perhaps in the prefunding analysis, where we thought one thing would go one way and it went another, but we could have perhaps shored up the underwriting to prevent something from happening. Perhaps maybe put better controls in terms of our disbursements around construction.

In another way that where loan review can go from just being a gotcha function to a value-added function is maybe tracking pricing between different credits. Why are we taking on more risk and not getting the return that we should get? There are ways in which loan review, we can be better advocates for the institution while also holding firm and being independent.

Linda Keith:

The title of this episode, How Does the Pandemic Recession Impact Loan Review?, maybe it’s positive. Because maybe when we’re in a downturn, we recognize that the role of a credit risk review function, it becomes even more important. As we bring that to the table, if we can make sure that once the pandemic recession is over, we hold on to the improvements we’ve made. The level that credit risk review or loan review holds in the institution and the way that they help us identify things, this actually could be another silver lining of the pandemic that we elevate this

Ancin Cooley:

Another value add that loan review can do during this pandemic time — take notes — per guidance, we have a dog in the hunt with something to say about the allowance and whether or not the provision is sufficient based on amount of risk in our portfolio.

One of the things that loan reviewers can focus on is softness in borrowers. There’s a lot of borrowers that wouldn’t be making it if they didn’t receive the stimulus payments. Right? They wouldn’t make it if they weren’t getting the assistance that they’re getting. Now, I’m not saying anything negative of this assistance, but perhaps their core business models would not have made it without some help. Those are the ones that we need to, in some ways, put a little tick mark by keep an eye on. Especially the larger ones. Because the moment that money stops, we may start seeing softness in some of those borrowers.

Linda Keith:

Right. Now, you mentioned the Interagency Guidance on Credit Risk Review. In the loan review engagements that you do for your clients, what are some of the most common issues that need addressing at the credit risk review level? What specifically are you suggesting to improve them?

Ancin Cooley:

Well, to improve known review, one of… The number one thing we need to do is make sure loan review has a charter in place. If I ever in my life was to ever step foot into a financial institution to do loan review as a loan review officer, I would not go to work for anybody that does not have a loan review charter. Meaning without having something grounded so that is not my opinion versus someone else’s opinion as to how we’re going to do the loan review function. It should outline who do loan review reports to. The budget that loan review should get. The scoping. The meetings we will be allowed to attend. The type of education that we will be able to be able to get to ensure that our skills stay sharp. One of the key things is ensuring that loan review has a charter that grounds and establishes his footing in the institution.

Another thing that I mentioned, based on the size of institution, especially if you over, in my opinion, over a billion dollars, your loan review leader or that function, the person that’s in charge, should be an officer. You have a loan officer. You’ve got a chief credit officer. Why shouldn’t your loan review person be an officer as well? So that they can walk into a room and not sit at the kiddie table, but also sit at the table and be in the same weight class as the individuals that they’ve been tasked to monitor. I know that in some ways, that’s the statement right there that is getting some people to move in their seat and making them all uncomfortable. But it’s telling when your audit personnel and your loan review personnel are featherweights having to walk into rooms with heavyweights and expected to be able to box. As a CEO, a board, and an audit committee, you need to make sure that they’re equipped to properly advocate for the brake function in the same way that the chief lending officer is going to advocate for the gas function.

Linda Keith:

I know that when I was interviewing chief credit officers and CEOs of banks and credit unions for that credit risk ready study 10 years after the last terrible recession, the Great Recession, a lot of the conversation was around those that felt they had done well, had a strong credit culture, and they were able to kind of hold the line as things changed. It would seem to me, as an outsider, that one of the evidences of strong credit culture to your whole organization would be that you have loan review or credit risk review at the very top right along with those others. It basically says, “This is important to us. This is how we roll. This is what we do. We are going to have a function that not only lets us know how we’re doing but helps us improve because it shows us how we’re doing.”

As an examiner, I would think that if somebody can show me that they have a strong loan review function, that “loan review did identify some areas to work on. Here’s what we’ve done on them.” That would make me much more relaxed as an examiner because I feel like they’re doing the oversight that I also need to do at some level, but they’ve got it going. I want to know that as an examiner.

Ancin Cooley:

One of the things that I pride myself on is when someone calls me for a loan review engagement, they know that what they’re getting is not somebody that’s just going to rubber stamp. I’m going to tell you the truth, and you know that I’m going to be independent. If it’s classified, I’m going to call. If it’s an amazing loan and everything is working, I’m going tell you. But if it isn’t, I’m going to tell you as well.

Loan review should be that friend you call when you want to hear it straight. You know, you’ve got that friend that you call that cheerleads you in everything you do. You’re like, “Man, I just told them that I went from having one drink a week to 10 drinks a week.” And he’s like, “Well, I guess that works for you,” you know? But then you’ve got that friend that’ll tell you, you know, “How’s that working out for you?” You know, “What’s going on? Is something going on?” You know what I mean? Loan review is that best friend that keeps it straight with you regardless of how you’re going to react.

Linda Keith:

Yeah.

Ancin Cooley:

I like having friends like that around me. In the same way, strong institutions give loan review the space to be independent, and they equip them to do their jobs.

Linda Keith:

What’s interesting to me is I thought of this as an episode about how the pandemic recession impacts loan review. But actually, what I’ve learned from this is the importance of loan or credit risk review, and the seat it has to have at the table regardless of whether we’re in a recession or between recessions.

Ancin Cooley:

Absolutely. I think the pandemic… This might be me. I don’t know if I’ve become a grouch over the years. But there’s pandemics, there’s downturns, and then there’s booms. In my opinion, I expect loan review to be even in and out of these and be able to look at outliers, but then also look at commonalities to draw accurate conclusions around risk ratings. Yes, the pandemic affected us. There are some institutions that are seeing softness, but in a lot of ways, the pandemic just identified hands that were already shaking. Loan review should be consistent and thorough in everything that they do, in and out of pandemics, during the incline and the decline.

Linda Keith:

When I’m working with the frontline folks, I often have people that are actually new to this profession that are onboarding for my financial institutions. They come through my training. One of the things I’m able to say to them when I’m working in-house with a financial institution I know is solid is, “I know this is scary for you.” In this case, the pandemic recession. I asked the other day in one of the virtual meetings for one of the trainings I’m doing, I said, “What grade were you in in 2008 when the Great Recession started?” I’ve got to tell you, fourth grade, fifth grade, eighth grade. They were not here for that. For me to be able to say to them, “You may not know how to do a recession, but the management of your bank, the loan review function, the chief credit officer, the chief lending officer, it is not our first recession, second, third, probably not even the fourth. So, we are strong.” If that’s true for the bank I’m working with. “We are strong. We are well capitalized. We have been through recessions before. We have a strong credit review approach. We will help you get through this. But trust that there are people involved in dealing with this recession that actually have the experience, the knowledge, and the structure to bring to the table.”

Ancin Cooley:

One thing I want to leave you with and say specifically to chief credit officers, chief risk officers, and CEOs, is that when I’m dealing with loan review professionals a lot, I see a lot of fear in their eyes. Meaning a lot of them have a lot of dissonance between what they know they should be doing and the support or lack of support they get in their institution. You might be giving, “Oh, yeah. They tell us the truth.” But if they’re reporting to you as a CEO. If they’re reporting to you as a chief credit officer. If they’re reporting to you as a chief risk officer who reports to the CEO. Just because you believe that they’re giving you the truth, you haven’t created an organizational structure that ensures that their independence, so that they can be confident that if they need to take that loan from a pass or substandard, somebody won’t find some weird way of firing them.

Let me just say this, sir, ma’am. A lot of people come to our classes. When they’re candid with me, they have this angst in them because of their loans that they’re passing on. Because they cannot speak truth, because they’re worried about blowback. When in institutions where you don’t have independence in those functions, you’re fooling yourself if you think that you have a clean portfolio when your loan review or your outsourced loan review function reports to someone other than the audit committee.

Linda Keith:

Oh. The CEO, or maybe the chief risk officer, I’m just guessing because again, not my area of expertise, but first has to have an internal consideration of, “How comfortable am I that my loan review person actually does feel that they have the support to be candid.” Then somehow needs to initiate the conversation with that person in a way that will allow them to be candid. I don’t know how you do that when someone’s worried about their job. I’m not sure…

Ancin Cooley:

Where you do it, Linda, is that you give them a functional dotted line to the audit committee or the chief audit officer. Take them out of the first or second line of defense. Make sure that their compensation and whether or not they get fired or not has nothing to do with the CEO, has nothing to do with the chief credit officer, has nothing to do with a risk officer that reports up to the CEO. That’s how you ensure you embedded within your structure of your org chart.

Don’t make it one of the “Well…” you know how people do. “Well, you know, we never really have one of these problems.” Or this person. They’ll ask him, “You don’t have any problem reporting to me. Right, John? We good? You tell me the truth. We argue all the time.” They’re like, “Yeah. Yes, sir. Yes, sir. Yes, sir.”

I’ll tell you this, I have some CEOs that were really good friends. We do strategic planning, things of that nature. It is a conversation ender once I start talking about loan review not reporting up through management. Oh!

Linda Keith:

Yeah?

Ancin Cooley:

He’ll answer, “No. We’re not going do that.” You can see the face change and everything. Because, again, having an individual that is of the same weight class as your lenders being able to speak to issues, speak to weaknesses in large loans, makes people uncomfortable. Because they’re used to throwing their weight around with people that can’t fight, that they used to punch him down.

Linda Keith:

What percentage of the financial institutions out there that you’d say, like community-to-regional-bank size or credit-union size, what percentage of them have their senior loan review person reporting directly to audit committee instead of through the chain of command up to the CEO?

Ancin Cooley:

Great question. There’s DiCOM. There’s a loan review software, but these are the only individuals that I know that track this. There’s a loan review survey that DiCOM does. I usually do an ad hoc survey at each one of my classes, and less than 30%.

Linda Keith:

Okay.

Ancin Cooley:

Less than 30%. It is rampant where I think some individuals think that the loan review function reporting up to the chief credit officer creates the independence. It doesn’t, because then that loan review function, as I mentioned earlier, can’t criticize analysis, post- and pre-funding analysis, as well as loan administration functions as well. They need to, in my opinion. If you want a fully actualized loan review function, it needs to report to the audit committee, a chief audit officer, or in some ways not even have their own dotted line up to the audit committee. If you want to hear the truth.

Again, to the CEOs that might be getting triggered: if you want to go fast, if you want to go far, and you want to sleep at night, let an independent person come in there, take a look, and tell you, “You know what? You’re doing an amazing job.” That way you know that they’re not just giving you lip service, because they’re what? Afraid of you. Or, from an outsourced loan review function, they’re worried about whether or not they’re going to get the engagement from you next year if they downgrade these two loans that they know stink.

Linda Keith:

I did a lot of training for a bank holding company in Colorado. They had a lot of individual banks. But the loan review was in the holding company, not in the banks. I remember in one of these trainings, one of the bank presidents had stepped in because he kind of wanted to see what we were doing with his people. I happened to witness what was almost an argument level between the head of loan review and this president. They were having a disagreement about something. The loan review was not below that president. They were working for the holding company. It definitely gave a different sense of how much weight their discussion had. It wasn’t even that the president seemed to be upset that the other person had that much weight. It was, as you say, it was a discussion of equals. “This is the way I see it.” “This is the way I see it.” Now, I don’t know for sure how they finished that off and, in fact, they asked me my opinion. Of course, I jumped right in and gave my opinion as well. But the dynamics were different because they were both at that same level, so I can completely see what you’re saying.

Ancin Cooley:

There was this thing… I don’t know if it’s still this way. When I was an examiner, there was this thing called Examiner View or EV. And every Matters (MRA) Requiring Attention was aggregated within the system. There was a code for each type of MRA. I would be curious before each major recession how many examiners criticized loan review functions as an indicator of softness in these portfolios because loan review should be the radar in these functions that let us know that there’s softness in the portfolio before the examiners come in if you have a strong loan review function.

We have an example. Your loan review function looks at a sample of loans between a particular period. All right? Then the examiners come in and look at a similar sample of loans in the same period. All right? Similar financials. Right? The examiners have seven downgrades and your loan review only had two, there may be a problem with loan review. Either they need more training, either they don’t have the knowledge, skills, and ability they need to identify those issues, or maybe culturally they can’t actually what? Speak to it because they’re not independent. In my opinion, more of our institutions would survive if they had stronger loan review apparatuses within their institution, because they would have an opportunity to change course before they’re classified, reach a level, to where they can have a detrimental impact on their capital.

Linda Keith:

Not all of our listeners know this. I don’t know that you do either, Ancin. But I was a shareholder of the 92nd bank to fail in 2009. I was not on their board. Thankfully, I wasn’t an insider at all. But I was a shareholder. Lost $25,000 in that, so I paid dearly for this little story I’m about to share with you. But I have been confident the whole way. I have a little insider information, but not really a lot. I just know some of the people that were in the deal. But the canary in the mine apparently wasn’t there. Whether loan review just wasn’t strong enough, whether it wasn’t in the right place. Now, admittedly, it was the Great Recession. Also, they took a huge liquidity hit when the federal government took over Fannie and Freddie, and they had a lot of preferred stock. They actually took the liquidity hit first. Then when they didn’t have the liquidity backup to everything else, everything sort of started snowballing. They had too much commercial real estate. They were expanding at the time. I’ve often wondered if somebody at some point would have hit a pause button on anything at all, whether it was commercial real estate, or expansion, or what, maybe they could have pulled out of it. But I wouldn’t be at all surprised if I had more information that I could look at that and say, “You know what? Loan review didn’t have a strong enough seat at the table.” Could be.

Ancin Cooley:

Absolutely. Usually, a lot of times strong loan reviewers are a competitive advantage, not a detriment to both.

Linda Keith:

That’s right. I can promise you because I did know some of the directors, I knew some of the senior leadership, not a single one of them had expected to preside over a bank failure. They never did. They work really hard not to ever have it happen and then, on their watch, it did happen. So, this is a canary in the mine, your loan review function that can… Really, nobody ever thinks they’re going to be in a failed bank. But there were bank failures then. They’ll happen again. Loan review, or credit risk review, apparently, in the new parlance, is part of our defense.

Well, Ancin, thank you so much for helping me work through how that fits in with not just the loan originators, which is kind of where I spend my time, but, boy, if there’s a CEO listening, if there was a senior loan review officer, boards of directors, even our regulators listen to these as well. This is an area that for some of these financial institutions needs some attention. Thank you.

Ancin Cooley:

Absolutely. If I can make a shameful plug. If you want an independent look at your portfolio, if you want an independent look at your loan review function and how we can improve, you need help developing your loan charter, you can reach out to me. Just type my name in, Ancin Cooley, at LinkedIn, drop me a message, and I’ll get back to you on how I can help you give you an honest look at your loan review function.

Linda Keith:

We are absolutely going to put those links also to your LinkedIn and other resources in the show notes. The reason Ancin is here, you guys, is because I think he knows his stuff. I also will encourage you if loan review is something you need to work on, or you need an independent loan review, it makes total sense to follow up with Ancin.

Thanks.

Ancin Cooley:

Thank you.

Linda Keith:

Thanks for joining us on the Credit Risk Ready podcast. Subscribe, comment, or share on social media to stay connected and spread the word. Join me next time as we bring our bank, our customers, and our communities through the recession safe and sound.

Take care.

About the Author
Linda Keith CPA is an expert in credit risk readiness and credit analysis. She trains banks and credit unions throughout the United States, both in-house and in open-enrollment sessions, on Tax Return and Financial Statement Analysis. She is in the trenches with lenders, analysts and underwriters helping them say "yes" to good loans. Creator of the Tax Return Analysis Virtual Classroom at www.LendersOnlineTraining.com, she speaks at banking associations on risk management, lending and director finance topics.