Guest post by Jon Allen, Chief Compliance Officer, Bank of American Fork
Bank balance sheets currently reflect high amounts of cash and government securities compared to the last few years, indicating that banks have money to lend. Yet small businesses say that banks have tightened credit and that it’s nearly impossible to obtain a loan. Why the apparent discrepancy?
The truth is that most banks are lending—just not as fast as their existing good loans are being repaid and bad loans are being charged off, and not in some of the categories, namely non-owner-occupied construction and land development, which were popular in recent years.
The decrease in total lending is primarily a result of two key factors: 1) pressure from government regulators to increase capital, reduce troubled loans and other real estate owned, and reduce concentrations of construction and land development in bank loan portfolios; and 2) fewer qualified borrowers willing to take on additional risk during a time of economic uncertainty and declining real-estate values.
Deleveraging (increasing capital ratios) was probably necessary in order for the banking industry to return to health following the economic crisis. Increased capital requirements imposed by government regulators arguably have led to fewer bank failures this year than last year and to greater stability in the financial marketplace. However, these requirements also appear to be stifling lending in the short term, as some banks either chose or were forced to increase capital by decreasing lending. This decrease in lending resulting from stricter government regulation has been a significant cause of restricting credit to small businesses and of overall slower economic recovery.
For businesses seeking credit, reduced lending means reduced ability to take advantage of growth opportunities. It also means that applicants must meet higher standards in order to qualify for loans, particularly those applicants seeking to finance non-owner-occupied construction and land acquisition or development. These higher standards might include higher cash flow ratios, higher down payment requirements and higher net worth requirements.
On the bright side for business applicants, commercial and industrial lending has increased as banks have sought to rebalance their loan portfolios to reduce concentrations in construction and land development. The year-over-year growth rate in commercial and industrial lending was 4.6 percent through mid-year 2011 for banks in the western United States.
Additionally, well-qualified commercial and consumer borrowers are finding very attractive pricing and other terms on bank loans as banks find themselves competing more aggressively for relatively few high-quality loans.
But no matter how attractive your business is as a borrower, some banks simply are not in a position to make certain loans. There is a correlation between a bank’s financial health and its loan growth: individual banks with satisfactory ratings from their regulators reported positive loan growth in the first half of 2011, while banks with less-than-satisfactory ratings reported loan contraction. So if you feel your business is a well-qualified loan candidate but you have been turned down by one bank, try again at another bank that might be in a better financial position.
Contrary to popular belief, banks are eager to make more loans—lending is their core business. Even in today’s ultra-low-interest-rate environment, a bank can still earn significantly more by making a well-structured loan than it can by sitting on cash or buying the types of low-risk securities that banks are allowed to buy.
The bottom line is that banks want to lend—businesses just need to meet higher qualifying standards so that banks can adhere to stricter government regulations.
The message for commercial and industrial borrowers is that although bank lending is down overall, well-qualified borrowers who are not looking for speculative construction or land development can still break through the regulatory red tape and are in a good position to negotiate with their banks.