Why Financial Institutions are Focused on Small Business Lending
Commercial lending is gaining ground, both in terms of business demand and interest from financial institutions. The number of small businesses that anticipate applying for a loan in the next 12 months has nearly doubled since 2010, according to a recent survey of small businesses by Raddon Financial Group. Optimism is at a five-year high for small business owners, with 57 percent expecting an increase in sales over last year, according to Raddon.
While demand for commercial lending is still significantly lower than before the recession, many financial institutions are keenly focused on this market in 2014. Why the renewed interest? In a word: revenue. Small business accounts for only 10 percent of a financial institution's customer base, but on average those accounts make up 35 percent of a bank's revenue, as measured by number of accounts according to the Fundtech June 2012 Insights Survey.
Recognizing this large, underleveraged source of revenue, financial institutions of all sizes are increasingly focused on diversifying their lending portfolio. With mortgage rates flat and net interest margins under continued pressure, more institutions are pursuing new commercial and small business relationships, targeting existing business customers with specific retention and growth objectives.
Building and retaining a healthy commercial loan portfolio is not as easy as it was a decade ago. With fewer loan applications and tighter lending standards, institutions now face stronger competition from other lenders, including nontraditional lenders. Success lies in making the most of every business lending opportunity and proactively identifying opportunities from business customers. Financial institutions can no longer expect to achieve business loan growth and profitability goals simply by opening their doors.
Why do small businesses select one lender over another? Securing the most favorable loan terms and conditions trumps all other factors for small business owners, according to the Raddon survey. When financial institutions were asked the same question in a separate survey, most said the relationship between the loan officer and the customer was the biggest influencer in winning new commercial loan business. However, commercial clients selected this reason as the least important overall.
Although there is a disconnect, a financial institution's business lending strategy should successfully address all factors that influence the choice of lenders, including speed of approval, financial stability, familiarity and demonstration of commercial and small business lending and banking expertise. The ability to make loan inquiries, ask questions and submit applications online is increasingly important to business owners. In turn, applicants who apply for a loan online generally expect an accelerated time to close.
Financial institutions must remember they are not only competing with the bank down the street. Businesses – especially small ones – are now more likely to use nontraditional lenders, such as specialty, asset-based or national lenders. That means that institutions of all sizes need to look carefully at policies, practices, pricing and tools to stay relevant in this segment, especially when loan demand is tepid and deal competition is strong.
For example, larger institutions have typically been quicker to leverage the efficiencies of consumer lending in the commercial lending space, like credit scoring. Just as in consumer lending, extensive use of credit scoring can be an extremely cost-effective, efficient and proven tool to bring a risk-based pricing approach to business lending. Lenders are increasingly utilizing the depth and breadth of information provided by technology to make better decisions, ensuring appropriate rates of return and improved business loan profitability.
To successfully tap into the small business market, financial institutions should partner knowledgeable account managers with each small business account. Although small businesses constitute 9.7 billion in post-tax economic profit, customers as a whole report minimal contact by their bank or credit union. Implementing enterprise-wide, high-touch customer service helps financial institutions develop strong and lasting relationships with local businesses and the community.
Sorting out what small business owners are looking for in a commercial lender is decidedly more difficult than it once was, but good customer service, flexibility, responsiveness and commercial lending expertise will always be valued by small businesses. Financial institutions that differentiate themselves with innovative product offerings, high-touch customer service and a focus on relationship-building – while shoring up internal processes for greater efficiencies – will win commercial lending opportunities.