Know the Signs of Lender Fatigue

written on November 05, 2007 by Marsha Powers

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Annually many banks assess how profitable their individual client relationships are to the bank, their shareholders and their ratings on Wall Street.   In many cases, these audit reviews are conducted by your relationship manager when your company's line of credit is up for renewal or when there is an increase in the activity in your company's financing needs, like increasing or terming out debt.  Other instances occur when the bank's credit portfolio audit monitoring team reviews the portfolio's performance in order to make corrections and match up the portfolio with updated bank corporate goals and objectives.    

From your company's perspective, the more profitable your company is to your bank, you should be getting better rates and terms.  Conversely, if your bank determines that your company's profitability is low or unprofitable to the bank, the lender may begin to move your company out of the bank and lender fatigue sets in.  There are other reasons, but lack of profitability to the bank or associated credit risk are two of the most often used reasons for lender fatigue. Unfortunately many companies are unaware of exactly how their company is viewed inside the bank and taken off guard when they are unable to get more credit when they need it or asked to leave the bank.  The good news is that, while your company may no longer be profitable to your current bank, does not mean your company would not a find more than acceptable credit environment in another bank.  It is important for you to understand how your bank perceives and rates your company so that you can better manage and control the relationship with your banker and banking requirements for your company.   Here's how the system generally works.

To determine client performance, most banks have developed sophisticated internal risk rating systems to better determine your company's risk and profitability to them.  These risk rating systems would be comparable, in principle, to a consumer credit rating, but using different criteria.  These internal risk ratings can range using a 1 to 10 or 1 to 20 rating formula scale.   For example, the best score would be a risk rating 1. 

The criteria used to measure your business profitability to your bank will include the products and services your company holds with the bank.  Here is a breakdown of the most popular products and services used by businesses.  The most profitable product to most, if not, all banks is the non-interest bearing checking account.  The more non-interest bearing cash your company has in the bank the better.  By using your cash, the bank does not have to borrow as much money to support their business including setting aside money in their loan loss reserve accounts to keep in balance with the money the banks lend out.   Your cash is also used to lend to their other clients for lines of credit, term loans etc.  Interest bearing checking accounts, CD's and cash management products are less profitable due to the interest the bank has to pay back to the client but still profitable.   A line of credit is only profitable to a bank if the line is used.  Banks are required to hold in loan loss reserve accounts the amount you borrowed, with interest, to cover the amount of your line, whether you use the line or not.  If the line is not used the bank loses money because you are not paying interest back to the bank.  For products like term loans the profitability will be determined by your rate and terms of term loan and how much the money costs the bank to lend to you.  Specialized loans, like a 7(a) SBA loan or a derivative, can be more profitable to a bank than a standard senior debt note because the bank can sell your loan and earn additional income at higher rates.  Leasing credit products and many fee-based services tend to be very profitable to the bank.    

Another major factor in determining profitability of your company to the bank are the bank's own corporate and business unit overhead factors that are allocated to each client relationship.  Clearly your company has no control over the cost and overhead factors of your bank, but this cost factor is still subtracted from the profitability your company generates to the bank. The higher the bank overhead, the more it affects your profitability to the bank.  How often your company requires personal service from the bank is analyzed.  To help this profitability factor, the more electronic services your company uses, like online banking, as an example, the better, in the eyes of the bank.

Your company's past three years and current financial performance will be factored into your risk rating.  Generally, if your company is not profitable for two out of the three past years - after all bank accepted add-backs  like depreciation have been included in your net profit - will lower your rating score.   Current CPA prepared financial statements and a one year pro forma are very important in your review process with your lender.    

Your industry is also reviewed.  Your company's financial performance is also compared to your peer group in your industry.  You can obtain the same valuable industry information and peer-to-peer evaluations that a lender will use.  Many lenders use Robert Morris & Associate's business models. 

When you meet with your bank, besides discussing historical credit worthiness questions with your relationship manager, some new questions to ask going forward include finding out what your company's profitability and risk rating is.  Find out what specific criteria the bank uses in determining the profitability of your company's business to them.  

It is important to also know that the portfolio audit team could determine the bank's portfolio has too heavy of a concentration in a certain industry and will want to move out the less profitable companies from the bank.  Or they may determine the industry your company is in is a market segment they want to get out of -- for a multiple of reasons unrelated to your company - and begin to divest themselves from these out-of-favor industries and companies.  Once again, lender fatigue sets in due to no fault of your company's performance.  

The result.  Your bank may choose to begin moving your company out of the bank without you being aware of what is happening.  Some indicators include the bank not willing to lend your company any more credit even though your financial numbers are good and support the request.  Or they are terming out your line of credit, and not keeping the line open at the original amount.

As banks continue to be even more sophisticated in isolating individual client profit performance for their bank - and crunched by their shareholders to hit profit goals - lender fatigue will be even more prevalent.  It is better to find out now where your company stands with your bank, before you need to increase your credit.  By better managing where your company will gets its capital when needed, without any surprises from your bank, will help your bottom-line.

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About the author:  Ms. Powers, President & CEO of Powers Financial Group Inc.   The firm specializes in accessing capital markets to help companies secure financing for business loans, mergers and acquisition, restructuring debt and consulting service.


                                                     Powers Financial Group Inc.    ©2007