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3Q Bank Trends

This is great information on the state of banking. BankTrends, in particular, breaks out the performance of community banks and large banks.

http://banktrends.wordpress.com/2011/11/09/q3-bank-performance-community-regional-and-mega-banks/

The Customer Shift

With a country focused on greed, over-spending, and debt, there appears to be a growing sense of frustrtion towards the government and banks, as evidenced by the Occupy Wall Street movement. I believe this movement lacks organization, and for the most part, a singular focus. Despite this, I can't help but think that it represents the growing frustration our country has with the way government and business tie together.

It is actually very ironic. The ongoing political angst in Washington seems to divide between Republican and Democrat, government and business, social and capital. Yet the very same political system that has created these divisions also seeks to leverage each in order to achieve power. People are becoming very frustrated by this paradox.

My favorite book is The Tipping Point by Malcolm Gladwell. I can't help but take an unbias view of the entire monetary system and wonder how it will evolve over the next several years. Too often government and business forget the power of the average citizen. Whereas the thoughts of one cannot create change, the thoughts of millions can have a profound effect on an entire system as we know it. I believe the debit card fee fiasco is the perfect example of how decisions are actually made in this country. Big banks were bailed out by the government. In the minds of the public, big banks are a part of the government.

So therein lies the shift that may be underway. As we began to become concerned that community banks may become irrelevant with increased regulatory burdens, it appears that a majority of Americans would prefer to do away with the conveniences of big banks and invest into the banks that they feel are an arms length distance away from government.

The problem is that people are frustrated with government and big business/greed/corruption. It seems as if the story behind credit unions is beginning to resonate. People are hearing that

1) They are shareholders

2) They have voting decisions

3) Directors are elected by members

4) Their money is insured, but not by the FDIC

I think this is becoming very interesting. Between now and through 2012, will people really begin to pull deposits from big banks and invest in community banks and credit unions? And if so, will the SHIFT be more towards credit unions or community banks? And perhaps even more importantly, what will each do in order to retain these core deposits? A majority of those upset with the state of the industry are younger people. Younger people tend to change courses often. And more importantly, they tend to love convenience. The products and services to retain these core deposits can only be achieved through non-interest earnings, whethere or not it is a community bank or credit union. Regarding credit unions, there is currently a bill in congress that attempts to raise the cap on lending within credit unions.

In either case, I believe a tipping point in being created. Big banks built a business model on convenience. It was not possible to see the dynamics that were underway and the ultimate shift it would create in consumer attitudes. Credit Unions are telling a story that is becoming very attractive and hits on the frustration so many people have. Community banks need to begin doing the same. Community banks have shareholders, it is not member based. However, the ability to create innovative products and services is often a result of the opportunity to enhance shareholder value and take managed and appropriate risks. Ultimately, community banks may be in a much better position to retain these core deposits. Further, they will have the ability to lend to the communities in which they serve.

We are working with community banks to help tell this story. We support and appreciate the ABA and ICBA in their efforts towards the community banking model.

The Question of Regulation

If you have read my past posts then you undoubtedly understand my position regarding regulation and compliance and the effect it is having on the banking industry, and subsequently, small businesses. I want to point out that we believe that a degree of regulation is absolutely necessary in order to protect consumers. Without proper oversight creditors have the ability to leverage deposits in a manner that exposes risks beyond what a customer would ever expect.

Let's tell it like it really is.....many banks began to operate in an incredibly irresponsible way. Directors and Management of banks are to drive profitability in order to support a desired lifestyle. This is capitalism at its greatest. However, in 2004-2008, as money flowed freely, this line was crossed and many Directors, and subsequently management, began to act irresponsibly and utilize bank funds that had yet to realize a return.

Stories of lavish weddings, vacations, and bonuses demonstrate the ignorance many bankers had of the true risk that resided in their portfolio. When the portfolio did not perform, the decisions to improperly manage capital led to these banks closing, and subsequently, lawsuits from the FDIC.

These actions and the resulting costs to the FDIC have had a ripple effect on our economy. It has led to uncertainty in the credit markets and a near freeze on credit. I commend the FDIC's approach to troubled assets nationwide, and I believe their plan of action in dissolving of assets has helped prevent further deterioration, particularly with commercial and LAD loans.

In situations like the one we have all faced, it would make sense that there needed to be oversight in order to avoid these events again. Throughout history, America has shown itself to learn from its mistakes.....hence Dodd Frank, Consumer Protection, and numerous other regulations being passed down to the financial services industry. However, in order to believe that this is a positive and one that would prevent troubles in the future, one would have to believe that oversight and regulation did not previously exist. Perhaps that is where there is a disconnect. The average customer does not understand the amount of oversight that existed in the credit markets. The FDIC, OCC, Federal Reserve, and State Boards have all been active for decades in monitoring and examining banking institutions.

Is it possible that as banks began to look past potential problems and risks in light of strong economic times, so did regulatory agencies? When banks approved loans regularly that did not meet the safety and soundness guidelines within their own credit policy, did regulators dig deeper into the true reason behind the approval? This is not an attack against regulatory agencies. I am simply pointing out that when people suggest a repeal of Dodd Frank, they are not suggesting oversight is not needed, they are simply suggesting that the oversight that existed should be improved. Over the past few years, banks have become extremely conservative in their lending standards. They now realize the inherent risk that resides within their portfolio and the potential impact of decision making. Conversely, the regulatory agencies now understand the risks of not looking at a bank close enough. Of not asking enough questions. This is how a healthy banking system with proper oversight should look.

I agree that there needed to be some changes, but a quick and over-aggressive response makes the assumption that we are incapable of learning from our mistakes.

Customer Relationship Management

In the midst of the challenges community banks face in remaining profitable despite additional regulatory pressure, there is a growing frustration with Mega-Banks and their approach to customer service. Despite this tremendous advantage, community banks have been unable to capitalize on this tremendous opportunity.

According to a report by Reddon Financial Group's National Consumer Research Dept in Fall 2010, the customers of Community and Regional banks outpaced Mega-Banks in customer service ratings and likely to stay ratings by 3% and 21% respectively. Further, these customers were 24% more likely to recommend Community and Regional banks than their Mega-Bank competitors. These numbers have likely favored Community and Regional Banks even greater over the past several months due to the increase in fees among the Mega-Banks.

Despite this opportunity, the number of products and services purchased per household at Mega-Banks is 3.13 compared to 2.61 in smaller Regional and Community Banks. In addition, the amount of average deposits EXCEEDS 20%!

Much of this can be attributed to the general location of mega banks and their ability to scale their site location, marketing, and advertising efforts. However, there is a clear gap in the opportunity Community Banks have and their ability to take advantage of the opportunity. While introducing new and innovative products are key, the ability to implement the products and services while understanding the trends and expectations on the market area are critical to Community Bank success. These numbers demonstrate well that Community Banks do not necessarily need to create demand outside their current customer base, but simply cultivate the existing relationships by selling additional products and solutions. This cultivation should be simpler than in years past, as individuals, families, and businesses are looking for solutions in battling economic challenges and uncertainty.

I can't help but think that the success of mega banks in cross selling additional products and services is due, in part, to their ability to leverage a robust customer relationship management software. Most of the banks we work with lack sophistication in managing relationships. Ask yourselves these questions.

Who last spoke with this customer?

What is the last conversation?

How many kids does this customer have?

Where does this customer work?

What is this customer's net worth?

Do they own a home or do they rent?

The list goes on and on. It is not enough to just ASK the questions, but rather to KNOW WHAT TO ASK. For years CRM systems have allowed sales organizations to identify opportunities and understand their prospects and customers across multiple departments and geographic footprints. Community banks need to take a similar approach to their existing customer base.

A basketball game with 30 referees......perfect analogy!

Less than 1 in 10

For those of us who believe that creating a highly complicated regulatory environment will cripple the profitability, and potentially existence, of small community banks, then the following survey should provide some evidence as to the long lasting effects this could have. Small business successes are critical to a healthy economy. Based on the survey below, there was an approval rate of LESS THAN 10% of small businesses within large banks.....including the now $1 Trillion in deposits of Bank of America. Conversely, community banks approved over 45% of applicants. The reluctance of banks to lend money to small businesses is noted in the article below, but I believe avoidance is a large contributing factor. When large banks are telling 9 out of 10 applicants "no", it creates an environment where small businesses begin to believe that leverage is capped, and therefore creates a stagnant economic environment that is not conducive to growth.

Community banks will continue to be critical to economic recovery. This survey only re-enforces the theory that large banks are unable to relate to each and every customer at a level necessary to ensure the bank AND the customer remain successful.

Biz2Credit Small Business Lending Index Reports Loan Approval Rates Dropped Slightly in August 2011

NEW YORK, September 8, 2011 -- The Biz2Credit Small Business Lending Index, an analysis of 1,000 loan applications on Biz2credit.com during the month of August 2011 has found that approval rates for small business loan requests dropped slightly from July levels at both large and small banks.

Small business loan approval rates at big banks (institutions with $10 billion+ in assets) dropped to 9.35% in August, compared to 9.8% in July. Meanwhile, loan approvals by smaller banks dropped to 43.8% in August from 44.9% in July. The index also found that alternative lenders continue to fill the vacuum left by banks and traditional financial institutions. Credit unions, Community Development Financial Institutions (CDFI), micro lenders, and others approved 58% loans in August, slightly lower than the July figure of 61%.

“The main reason for the drop in approval rates is the overall sluggishness in the economy. Additionally, weather-related issues -- especially Hurricane Irene -- had an adverse effect on small businesses,” said Raj Tulshan, Director of Business Development , recently named “Top Entrepreneur of 2011” by Crain’s New York Business and one of the country’s top experts on small business finance.

"The stagnant economy and the fact that sentiment is turning negative are huge worries for small business owners. Combined with impeding job losses at big companies we’re in big trouble, since small businesses account for most of the job creation in the economy,” Arora added. “The biggest problem is not government debt or the stock market rollercoaster, it is the fact that there is very little growth in the economy. This is a long-term problem that no one seems to be able to fix.”

The Biz2Credit Small Business Lending Index also discovered that only 12% of small companies reported revenues growth of 5% or more during the first eight months of 2011. Additionally, 29% of potential small business borrowers said their sales have remained flat. The Index also identified the Top 5 reasons why small business borrowers have not received funding:

1. More than 73% of small businesses reported declining sales in first 7 months of 2011.

2. Profitability has declined at more than 90% of small businesses over the past 2 years.

3. Bank underwriting criteria is harder now than in 2010 when stimulus money was flowing.

4. The expiry of SBA loan guarantees has added uncertainty in the market.

5. Avoidance: The perception among small business owners that they were unlikely to get loans and that the process takes too long.

The analysis also found that loan request amounts ranged from $25,000 to $3 million; that the average credit score was above 680, and that average-time-in-business was slightly more than 2 years. Unlike other surveys, the results are based on primary data submitted by more than 1,000 small business owners who applied for funding on Biz2Credit’s online lending platform.

About the Biz2Credit Small Business Lending Index

The Biz2Credit Small Business Lending Index differs from other indices by analyzing required information (primary data) submitted by small business owners applying for financing through Biz2Credit’s online platform, which connects borrowers with more than 400 lenders nationwide.

About Biz2Credit

Founded in 2007, Biz2Credit (www.biz2credit.com) connects small business owners with lenders and service providers to empower them to grow their enterprises. The company matches borrowers with financial institutions based on online profiles that can be completed in less than five minutes in a safe, efficient, price-transparent environment. Biz2Credit’s network consists of 1.6 million users, 400 lenders, credit rating agencies such as D&B and Equifax, and small business service providers including HP. Having secured nearly $400 million in funding for small businesses throughout the U.S. and currently processing 3,000+ loan applications monthly, Biz2Credit is widely recognized as the #1 credit resource for small businesses.

An explanation of FDIC Loss Share assistance.

Improvement?

My question is what is the CAMELS quality that exists within the 64% of unchanged ratings? We've been at this for a few years and examiners should begin to look closely at improvements in CAMELS.

Banker Reports on Recent FDIC Examination Experiences

Summary Report

Tuesday, September 27, 2011

I thought this was a great summary of the concerns community banks are facing with The Dodd Frank Act. Again, however, it is the 4800 pages of Dodd Frank and the uncertainty it brings that causes the biggest problem. While I am certain that the regulatory burden will force banks to improve and identify efficiencies, it is the timing of Dodd Frank that is crippling community banks. As is pointed out in the video by CBN, the upcoming elections will have a very large impact on the banking industry, as most GOP candidates have suggested repealing Dodd Frank. However, the "wait and see" approach makes it very difficult for banks to implement strategic plans when the costs of new products and services cannot be quantified. Many community banks are seeing an improvement in earnings, and we are entering a time when many community banks could begin implementing new loan programs to help small business and compete with larger financial institutions. However, like any business, community banks must provide shareholder value, which involves careful planning to determine a likely return on these products and services. Without a clear understanding of 4800 pages, it is likely to continue to stall the success of community banks.

The Power of Uncertainty

As I have stated before I really believe that the challenges facing our economy are directly and indirectly related to the lack of leverage businesses are able to deploy as part of their overall growth strategy. However, due to numerous reasons, banks have restricted lending activity to only those that can prove "they don't need it". I heard this from numerous community bankers this past weekend in Savannah, Georgia, where we were attending the CBA of GA Annual Meetings and Directors College. There should always be a healthy amount of risk in the lending market. Granted, we see the consequences with an over-concentration of lending and a lack of credit management, but the current uncertainty of government controls on the lending environment is leading bankers to protect shareholder value by holding onto cash rather than expose the bank to the unknowns of this control. Banks are comfortable managing the risk that may be associated with the businesses that make up their community, however the risks and uncertainty of an entity that regulates your every move is definitely not creating an environment conducive to spur lending.

Everyday we are seeing a new politician release a new plan on how to create jobs. Any plan that does not specifically address the need for small business to create leverage through a safe and sound lending environment will not create jobs. When there is an understanding of the regulatory burden, positive or negative in its effect, banks will begin to seek ways to create income, which will best be accomplished though healthy lending.

How To Talk To An Examiner (If You Must)

Something I think all bankers are struggling with at all levels. I was researching the topic when I ran across this great advice from Greg Webb, an attorney with Gerrish McCreary Smith, PC. Mr. Webb was kind enough to allow me to share his thoughts on my blog. I would also like to thank the Western Independent Bankers for allowing us the opportunity to participate in this discussion.

How to Talk to an Examiner about Loans (If You Must)

By Greg Webb, Gerrish McCreary Smith, PC, Attorneys

Now, more than ever, bankers must take the lead in making sure that examiners understand the board’s risk management strategies and executive management’s efforts to collect problem loans. The government, through its examiners, no longer presumes that bank directors and executive management know how to properly identify, monitor, manage, and control credit risk. Rather, the government presumes that bank directors and executive management do not understand credit risk or how to properly manage it; thereby shifting the burden to bank directors and executive management to prove otherwise. And, in this economic and regulatory environment, the failure by the board and executive management to affirmatively prove their credit risk management skills may lead to incorrect findings and conclusions by the examiners and the possible issuance of regulatory enforcement actions, including the assessment of civil money penalties.

Missed Opportunities Exit meetings with the examiners and loan discussion meetings are wonderful opportunities for bank directors and executive management to showcase their talent and their understanding of proper credit risk management. Yet, many bankers view these meetings as bothersome and often let the examiners draw their own conclusions based upon their review of unorganized and incomplete loan files. Then, these same bankers make emotion-based arguments that are inconsistent with regulatory classification guidelines, and consequently, diminish their credibility with the examiners. Instead, we advise our clients to use these opportunities to build credibility with the examiners by admitting mistakes, correctly discussing risk rating and nonaccrual accounting requirements, and explaining actions taken and to be taken to correctly assess borrowers’ financial condition and repayment capacity, minimize loss potential, and collect problem loans.

The More, The Merrier Normally, bank directors do not say anything during exit meetings with examiners nor do they attend loan discussion meetings with the examiners. But, they should. Our firm’s experience has been that bank directors know much more about the bank’s borrowers and their businesses than the examiners realize. I once watched one particularly knowledgeable bank director change the whole tone of the loan discussion, specifically regarding one large loan, with his knowledge of, and expertise in, the local commercial real estate markets. This was reflected in the Report of Examination, which concluded that the bank’s directors were particularly knowledgeable and active in managing the bank’s credit risk.

Require Structure During the onsite portion of the examination, the examiners normally are all over the bank asking questions, requesting files, and interrupting the bank’s officers and staff in the performance of their duties and responsibilities. We believe that a better practice is to require structure and organization of the examination process. The goal is not to control the flow of information. Rather, the goal is to organize the chaos that is the normal examination process. Therefore, executive management should require that the examiners provide a list (or lists) of the files requested and schedule appointments with lending officers to obtain additional information about the loans reviewed. In addition, examiners should be required to schedule times for loan discussion so that executive management can make sure that all appropriate personnel, including bank directors on the loan committee, are able to attend.

No Personal Attacks We never recommend that our clients make personal attacks on the examiners, even if they are justified. It is easy to fall into this trap, however, because the examiners will undoubtedly be critical of the board and executive management, and unfairly pile on with technical issues once asset quality problems are identified. It is our experience that personal attacks on the examiners never work and merely undermine the credibility that the board and executive management may have with the examiners’ supervisors.

Be Informed Good communication is key to avoiding unwarranted criticism by the examiners. But, good communication is impossible if bankers do not understand loan classification standards and the terminology of credit risk management. Consequently, bankers should read appropriate sections of examination manuals including the Uniform Loan Classification Standards, nonaccrual accounting requirements, troubled debt restructuring guidance, and other credit-risk related sections. This is a corollary to the sage advice to first seek to understand before seeking to be understood. And, stay tuned to this column because we will address loan classification standards at a future date.

Appearances Count Many bankers adopt either a confrontational approach or an appeasement approach in discussing loan risk ratings with examiners. We do not believe that either approach works well. Our experience is that bankers that have a strong knowledge of their borrowers’ financial condition, admit mistakes rather than react emotionally, timely and correctly identify and risk rate problem loans, proactively manage and collect problem loans, and develop a strong knowledge of regulatory guidance have the most success when dealing with examiners and minimizing the regulatory impact on the bank, including the severity of any proposed enforcement action. Credibility is the key. And, once your credibility with the examiners is lost, it is difficult to get it back and particularly difficult in getting the examiners to believe you even when you are right about a borrower’s financial condition.

Conclusion The banking industry is one of the most regulated industries in the United States and is likely to remain so because of the importance of money and the creation of money through the banking system to the national economy and the federal government. Following an economic crisis as severe as the last one, the federal government will closely scrutinize credit risk management by bank directors and executive management. And, in this regulatory environment, the burden has shifted to bank directors and executive management to affirmatively prove that they are competent credit risk managers – or there may be consequences!

Greg Webb is an attorney and the managing director of Gerrish McCreary Smith, PC, Attorneys in Memphis, Tenn. His practice involves the representation of community banks in a variety of regulatory matters. He can be reached at 901-767-0900 or [email protected].

A Ratio The Size of Texas (Part 2)

I first took a look at how Texas Ratios are trending. There are currently 50 financial institutions ($100mm plus) that exceed a 230% ratio. Based on the numbers I pulled on banks closed so far this year, it would seem to indicate that many of the banks in the Top 50 of Texas Ratios are likely facing closure. Here is a breakdown by state.

It would appear that the concentration of closings in Georgia and Florida will continue at a pace well ahead of other parts of the country. It is notable, however, that many of the banks with the highest ratios are in small (100mm-200mm) community banks, which are numerous in Georgia. As you look closer at larger community banks, many are healthy with Texas ratios well below the national average. There is an ever growing gap between healthy banks and struggling banks. Again, this may be further evidence of high consolidation within Georgia and throughout the country over the next few years.

As for the closed banks in 2011, the Texas ratio does seem to be a primary indicator of a banks sustainability. When looking at the graph below, the average and median Texas Ratio is at or near 500%. I removed a few outliers for the purpose of this graph, but I think this paints a clear picture of what the regulatory agencies are ultimately looking at. Only two banks in 2011 closed with less than a 150% TR. Evidence suggest these two banks were closed for reasons beyond their troubled loan portfolio.

There are currently 366 banks nationwide with a Texas Ratio exceeding 100%. The FDIC seems to be closing 4-6 banks per month on average. Community banks are facing very difficult pressure in light of these economic challenges, however, this data suggests that the banks facing imminent closure are those banks with extremely high Texas Ratios exceeding well over 200% in most cases. It is critical that community banks act now in implementing a plan to reduce their Texas Ratio through effective credit administration, problem loan resolution, and capital planning.

“We are linked to our region and our community,” We try to distinguish ourselves by trying to figure out how to make transactions work, even if it means being willing to think outside the box.”

Robert Weisel

Sterling Savings Bank

http://www.nytimes.com/2011/09/10/opinion/nocera-mr-banker-can-you-spare-a-dime.html?_r=2&scp=4&sq=joe%20nocera&st=cse

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