Community Banks and Credit Unions Compete for C&I Loans
There is good news afoot for community banks and credit unions. As the funnel for commercial real estate (CRE) lending opportunities narrows, an increasing demand for commercial and industrial (C&I) loans is emerging. According to the Federal Reserve Bank, values for these short-term business loans reached a new high in the second quarter of 2019, with $2.35 trillion in loans extended.i
When considering the five largest U.S. banks, 40% of their total loan portfolios are constructed of C&I loans.ii However, according to a data review conducted by consultant firm, Fischer and Jordan, the average C&I loan size for top five banks has grown 13% to $95 thousand per loan since 2016.iii
With larger banks zeroing in on higher value loan deals, there is plenty of room for community banks and credit unions to focus on small business borrowers and create a sweet spot within their lending portfolios.
Understanding the C&I Lending Market Opportunity
Despite a tendency by many banks to focus on CRE lending, there are compelling reasons for community banks and credit unions to consider C&I loans. Looking at PayNet data, we see that the return on C&I lending is 8.8%, versus the 3.3% from CRE loans.iv
In the first quarter of 2019, banks experienced 22% higher demand for C&I loans over the same quarter in 2018, and community banks and credit unions held their fair share of the rise.v A survey conducted by the Kansas City Federal Reserve Board indicates that smaller banks (total assets of $1 billion or less) actually approve 85% of loans compared to the 54% approved at larger institutions.vi
Despite the opportunity, many community banks and credit unions opt to limit their C&I exposure due to several challenges, including increased regulation and the need for more sophisticated projections.
Help Is on the Way for Community Banks and Credit Unions in C&I Lending
C&I loans are typically extended to businesses to augment working capital. Funds have traditionally been used to support seasonal hires or to purchase new equipment to give a few examples. Loans are not usually secured by real estate collateral and are offered on a more short-term basis than other types of business loans.
Because of the nature of C&I loans, banks must accurately assess the business’ ability to generate cash flows, including projections that cover how well the business performs against industry metrics.
Complex questions, covering the likelihood of business growth, customer portfolios and what-if scenarios are part of these projections. However, due to the time and expertise required for this level of analysis, many community banks and credit unions forego projections when approving C&I loans, putting the institution at increased risk.
Regulation is another area where community banks and credit unions may face challenges when stepping into the C&I loan market. Regulations are ever changing and often require sophisticated data collection and analysis.
For example, as part of the new Current Expected Credit Loss (CECL) standard going into effect in 2020, banks will be required to perform estimated loss analysis on loan portfolios. Unfortunately, 62% of banks still need benchmark data on their C&I loan portfolios to meet regulatory requirements, according to a survey conducted by MountanView Financial Solutions.vii
The cost of compliance is high as well. The Federal Reserve Bank of St. Louis reports that compliance costs for banks with less than $100 million in assets average nearly 10%, almost double the cost for larger banks.viii
Increasing competition from online lenders has also kept some community banks and credit unions from realizing their full potential in the C&I loan market. Online lenders are winning business in increasing numbers as SMB owners seek faster lending decisions. McKinsey reports that automation has reduced loan approval times to five minutes, with time to cash in as little as 24 hours.ix One online lender even boasts same day loans up to $1 million.
Automation, however, can be a tool for community banks and credit unions as well, boosting their competitiveness in the market. In addition to faster loan approval and processing times, financial institutions gain simplified access to data by consolidating information behind a central access point. The increased organizational visibility streamlines reporting for stronger forecasting and regulatory compliance, making it easier than ever for community banks and credit unions to expand into the C&I lending market.